UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual report pursuant to Section 13 or 15 (d)
of the Securities Exchange Act of 1934
For the year ended December 31, 2002 Commission File No. 0-3978
UNICO AMERICAN CORPORATION
(Exact name of registrant as specified in its charter)
Nevada 95-2583928
(State or other jurisdiction of (I.R.S. Employee
incorporation or organization) Identification No.)
23251 Mulholland Drive, Woodland Hills, California 91364
(Address of Principal Executive Offices) (Zip Code)
(818) 591-9800
Registrant's telephone number
Securities registered pursuant to Section 12(b) of the Act:
None
(Title of each class)
Securities registered pursuant to section 12(g) of the Act:
Common Stock, No Par Value
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the Registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No __
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-X is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy of information statements
incorporated by reference as Part III of this Form 10-K or any amendment to this
Form 10-K. X
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes __ No X
-
The aggregate market value of Registrant's voting and non-voting common equity
held by non-affiliates as of June 30, 2002, the last business day of
Registrant's most recently completed second fiscal quarter was $14,725,705.
5,489,533
Number of shares of common stock outstanding as of March 21, 2003
Portions of the definitive proxy statement that Registrant intends to file
pursuant to Regulation 14(A) by a date no later than 120 days after December 31,
2002, to be used in connection with the annual meeting of shareholders, are
incorporated herein by reference into Part III hereof. If such definitive proxy
statement is not filed in the 120 day period, the information called for by Part
III will be filed as an amendment to this Form 10-K not later than the end of
the 120 day period.
1
PART I
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Item 1. Business
- -----------------
Unico American Corporation is an insurance holding company that underwrites
property and casualty insurance through its insurance company subsidiary;
provides property, casualty, health and life insurance through its agency
subsidiaries; and provides insurance premium financing, claim administration
services, and membership association services through its other subsidiaries.
Unico American Corporation is referred to herein as the "Company" or "Unico" and
such references include both the corporation and its subsidiaries, all of which
are wholly owned, unless otherwise indicated. Unico was incorporated under the
laws of Nevada in 1969.
Descriptions of the Company's operations in the following paragraphs are
categorized between the Company's major segment, its insurance company
operation, and all other revenues from insurance operations. The insurance
company operation is conducted through Crusader Insurance Company ("Crusader"),
Unico's property and casualty insurance company. Insurance company revenues and
other revenues from insurance operations for the years ended December 31, 2002,
and December 31, 2001, are as follows:
Year ended December 31
----------------------
2002 2001
------------------------ ------------------------
Percent Percent
of Total of Total
Total Company Total Company
Revenues Revenues Revenues Revenues
Insurance Company Revenues $38,813,870 84.3% $35,563,628 84.4%
Other Revenues from Insurance Operations
Health and life insurance program commission income 2,741,672 6.0% 2,582,290 6.1%
Service fee income 2,241,883 4.9% 1,726,811 4.1%
Daily automobile rental insurance program
commission and claim administration fees 789,483 1.7% 667,418 1.6%
Association operations membership and fee income 424,784 0.9% 398,677 1.0%
Other commission and fee income 50,944 0.1% 114,029 0.3%
Workers' compensation program commission income 12,258 - 19,730 -
--------- ---- --------- ----
Total gross commission and fee income 6,261,024 13.6% 5,508,955 13.1%
Insurance premium financing operation finance
charges and late fees 878,316 1.9% 868,496 2.1%
Non-insurance company investment income 56,176 0.1% 159,600 0.4%
Other income 19,256 0.1% 16,227 -
--------- ---- --------- ----
Total Other Revenues from Insurance Operations 7,214,772 15.7% 6,553,278 15.5%
--------- ---- --------- ----
Total Revenues $46,028,642 100.0% $42,116,906 100.0%
========== ===== ========== =====
INSURANCE COMPANY OPERATION
---------------------------
General
- -------
The insurance company operation is conducted through Crusader, which as of
December 31, 2002, was licensed as an admitted insurance carrier in the states
of Arizona, California, Colorado, Idaho, Montana, Nevada, Ohio, Oregon and
Washington. Due primarily to the unprofitability of insurance underwritten
outside the state of California, during 2001 and 2002 the Company substantially
reduced the offering of insurance outside of California. See Item 7 -
Management's Discussion and Analysis of Financial Condition and Results of
Operations - Results of Operations - Insurance Company Operation. Crusader is a
multiple line property and casualty insurance company that began transacting
business on January 1, 1985. During the year ended December 31, 2002, 97% of
Crusader's business was commercial multiple peril business package insurance
policies. Commercial multiple peril policies provide a combination of property
and liability coverage for businesses. Commercial property coverages insure
against loss or damage to buildings, inventory and equipment from natural
2
disasters, including hurricanes, windstorms, hail, water, explosions, severe
winter weather and other events such as theft and vandalism, fires and storms
and financial loss due to business interruption resulting from covered property
damage. Commercial liability coverages insure against third party liability from
accidents occurring on the insured's premises or arising out of its operations,
such as injuries sustained from products sold. In addition to commercial
multiple peril policies, Crusader also writes separate policies to insure
commercial property and commercial liability risks on a mono-line basis.
All of Crusader's business is produced by Unifax Insurance Systems, Inc.,
("Unifax") its sister corporation. Unifax has substantial experience with these
classes of business. The commissions paid by Crusader to Unifax are eliminated
as intercompany transactions and are not reflected in the previous table.
Crusader is licensed in property and casualty and disability lines of insurance
by the California Department of Insurance.
Reinsurance
- -----------
A reinsurance transaction occurs when an insurance company transfers ("cedes") a
portion of its exposure on business written by it to a reinsurer that assumes
that risk for a premium ("ceded premium"). Reinsurance does not legally
discharge the Company from primary liability under its policies. If the
reinsurer fails to meet its obligations, the Company must nonetheless pay its
policy obligations. In 2003, Crusader's primary excess of loss reinsurance
agreements are with QBE Reinsurance Corporation (A.M. Best Rating A), St. Paul
Fire & Marine Insurance Co. (A.M. Best Rating A), Hannover Ruckversicherungs
(A.M. Best Rating A+), Mapfre Reinsurance Corporation (A.M. Best Rating A), and
Chubb Re, Inc. (A.M. Best Rating A++). From 2000 to 2002, Crusader had its
primary excess of loss reinsurance agreements with Partners Reinsurance Company
of the U.S., a California admitted reinsurer rated A+ by the A.M. Best Company.
In 1999, Crusader had its primary excess of loss reinsurance agreements with
General Reinsurance Corporation, a California admitted reinsurer rated A++ by
the A.M. Best Company. Crusader also has catastrophe reinsurance from various
highly rated California admitted and Bermuda reinsurance companies. These
reinsurance agreements help protect Crusader against liabilities in excess of
certain retentions, including major or catastrophic losses that may occur from
any one or more of the property and/or casualty risks which Crusader insures.
The Company has no reinsurance recoverable balances in dispute.
The aggregate amount of earned premium ceded to the reinsurers was $7,209,573
for the fiscal year ended December 31, 2002, and $5,515,330 for the fiscal year
ended December 31, 2001.
On July 1, 1997, Crusader increased its retention from $150,000 to $250,000 per
risk. Concurrently, Crusader maintained catastrophe and clash covers (subject to
a maximum occurrence and annual aggregate) to help protect the Company from one
loss occurrence affecting multiple policies. Beginning January 1, 1998, an
annual aggregate deductible of $750,000 commenced on losses ceded to its
reinsurance treaty covering losses between $250,000 and $500,000. On January 1,
2000, the annual aggregate deductible decreased to $500,000, on January 1, 2002,
it increased to $675,000, and on January 1, 2003, it decreased to $500,000.
Prior to January 1, 1998, National Reinsurance Corporation (acquired by General
Reinsurance Corporation in 1996) charged a provisional rate on exposures up to
$500,000 that was subject to adjustment and was based on the amount of losses
ceded, limited by a maximum percentage that could be charged. That provisional
rated treaty was cancelled on a runoff basis and replaced by a flat rated treaty
on January 1, 1998.
On most of the premium that Crusader cedes to the reinsurer, the reinsurer pays
a commission to Crusader that includes a reimbursement of the cost of acquiring
the portion of the premium that is ceded. Crusader does not currently assume any
reinsurance. The Company intends to continue obtaining reinsurance although the
availability and cost may vary from time to time. The unpaid losses ceded to the
reinsurer are recorded as an asset on the balance sheet.
Unpaid Losses and Loss Adjustment Expenses
- ------------------------------------------
Crusader maintains reserves for losses and loss adjustment expenses with respect
to both reported and unreported losses. When a claim for loss is reported to the
Company, a reserve is established for the expected cost to settle the claim,
including estimates of any related legal expense and other costs associated with
resolving the claim. These reserves are called "case based" reserves. In
addition, the Company also sets up reserves at the end of each reporting period
for losses that have occurred but have not yet been reported to the Company.
These incurred but not reported losses are referred to as "IBNR" reserves.
3
Crusader establishes reserves for reported losses based on historical
experience, upon case-by-case evaluation of facts surrounding each known loss,
and the related policy provisions. The amount of reserves for unreported losses
is estimated by analysis of historical and statistical information. Historical
data includes the 18 years that Crusader has been in operation and the data from
its general agent developed with other insurance companies prior to 1985. The
ultimate liability of Crusader may be greater or less than estimated reserves.
Reserves are monitored and adjusted when appropriate and reflected in the
statement of operations in the period of adjustment. Reserves for losses and
loss adjustment expenses are estimated to cover the future amounts needed to pay
claims and related expenses with respect to insured events that have occurred.
The process of establishing loss reserves involves significant judgment. The
following table shows the development of the unpaid losses and loss adjustment
expenses for fiscal years 1993 through 2002. The top line of the table shows the
estimated liability for unpaid losses and loss adjustment expenses recorded at
the balance sheet date for each of the indicated years. This liability
represents the estimated amount of losses and loss adjustment expenses for
losses arising in the current and prior years that are unpaid at the balance
sheet date. The table shows the reestimated amount of the previously recorded
liability based on experience as of the end of each succeeding year. The
estimate is increased or decreased as more information becomes known.
The table reflects redundancies and deficiencies in Crusader's net loss and loss
adjustment expense reserves. At December 31, 2002, all periods reflected in the
table reflected a cumulative deficiency. See discussion of losses and loss
adjustment expenses in Item 7- Management Discussion and Analysis - Result of
Operations - Insurance Company Operation.
Crusader is a relatively small insurance company with 18 years of its own
statistical experience. Crusader is constantly changing its product mix and
exposures, including the types of businesses insured within its business package
program. Considering the uncertainties from this changing environment as well as
its limited internal data and history, the Company recognizes the difficulties
in developing its own unique reserving statistics; therefore, it incorporates
industry standards and averages into its estimates. The Company believes that
its loss and loss adjustment expense reserves are properly stated. When
subsequent loss and loss adjustment expense development justifies changes in
reserving practices, the Company acts accordingly.
When evaluating the information in the following table, it should be noted that
each amount includes the effects of all changes in amounts of prior periods;
therefore, the cumulative redundancy or deficiency represents the aggregate
change in the estimates over all prior years. Conditions and trends that have
affected development of liability in the past may not necessarily occur in the
future. Accordingly, it may not be appropriate to extrapolate future
deficiencies or redundancies based on this table.
4
CRUSADER INSURANCE COMPANY
ANALYSIS OF LOSS AND LOSS ADJUSTMENT EXPENSE DEVELOPMENT
Fiscal Year Ended March 31
-----------------------------------------------------
1993 1994 1995 1996
---- ---- ---- ----
Reserve for Unpaid Losses and
Loss Adjustment Expenses $20,824,039 $21,499,778 $27,633,304 $32,682,153
Paid Cumulative as of
1 Year Later 8,904,427 7,687,180 8,814,611 7,019,175
2 Years Later 10,824,024 13,453,833 13,502,224 15,292,415
3 Years Later 13,178,262 16,597,366 18,911,104 20,898,580
4 Years Later 14,462,911 19,073,442 22,631,450 24,932,922
5 Years Later 15,821,444 21,452,429 25,509,618 27,726,438
6 Years Later 16,936,140 23,900,335 27,844,199 31,701,748
7 Years Later 17,729,857 25,687,342 31,445,057 35,482,343
8 Years Later 18,628,698 28,197,077 34,760,418
9 Years Later 19,643,508 30,710,621
10 Years Later 20,221,602
Reserves Reestimated as of
1 Year Later 19,599,695 20,912,743 25,666,251 31,232,388
2 Years Later 15,742,478 20,289,699 24,984,032 28,636,286
3 Years Later 15,463,566 21,217,766 24,575,023 28,074,691
4 Years Later 16,174,111 21,843,632 26,146,874 29,774,762
5 Years Later 16,888,885 23,767,472 28,687,265 32,382,991
6 Years Later 17,762,615 26,193,900 31,416,091 40,773,954
7 Years Later 18,692,720 28,528,744 40,165,717 41,690,986
8 Years Later 19,849,364 35,793,968 40,479,938
9 Years Later 22,962,939 35,202,700
10 Years Later 22,332,804
Cumulative Redundancy Deficiency $(1,508,765) $(13,702,922 $(12,846,634) $(9,008,833)
========= ========== ========== =========
Gross Liability for Unpaid Losses
and Loss Adjustment Expenses $23,011,868 $26,294,199 $32,370,752 $37,006,458
Ceded Liability for Unpaid Losses
and Loss Adjustment Expenses (2,187,829) (4,794,421) (4,737,448) (4,324,305)
--------- --------- --------- ---------
Net Liability for Unpaid Losses
and Loss Adjustment Expenses $20,824,039 $21,499,778 $27,633,304 $32,682,153
========== ========== ========== ==========
Gross Liability Reestimated $32,515,508 $50,835,090 $60,188,534 $64,999,798
Ceded Liability Reestimated (10,182,704) (15,632,390) (19,708,596) (23,308,812)
---------- ---------- ---------- ----------
Net Liability Reestimated $22,332,804 $35,202,700 $40,479,938 $41,690,986
========== ========== ========== ==========
Gross Reserve Redundancy
(Deficiency) $(9,503,640) $(24,540,891 $(27,817,782) $(27,993,340)
========= ========== ========== ==========
5
CRUSADER INSURANCE COMPANY
ANALYSIS OF LOSS AND LOSS ADJUSTMENT EXPENSE DEVELOPMENT
Fiscal Year Ended December 31
-----------------------------------------------------------------------------------------------
1996 1997 1998 1999 2000 2001 2002
---- ---- ---- ---- ---- ---- ----
(Nine
Months)
Reserve for Unpaid Losses and
Loss Adjustment Expenses $37,111,846 $40,591,248 $40,374,232 $37,628,165 $34,546,026 $49,786,215 $53,956,945
Paid Cumulative as of
1 Year Later 10,996,896 12,677,646 15,393,167 18,745,224 20,841,417 23,010,615
2 Years Later 19,488,853 23,740,181 28,570,117 34,905,359 37,976,277
3 Years Later 25,552,756 30,217,031 38,923,545 46,072,688
4 Years Later 29,730,976 35,620,705 45,425,709
5 Years Later 33,893,473 40,639,328
6 Years Later 38,075,656
7 Years Later
8 Years Later
9 Years Later
10 Years Later
Reserves Reestimated as of
1 Year Later 32,838,369 35,730,603 39,132,945 41,898,796 53,872,376 57,577,066
2 Years Later 31,086,210 36,032,215 43,164,627 56,423,375 59,746,880
3 Years Later 32,347,788 38,844,953 52,349,735 59,486,543
4 Years Later 35,513,862 45,907,785 54,291,547
5 Years Later 43,335,778 47,940,955
6 Years Later 44,588,020
7 Years Later
8 Years Later
9 Years Later
10 Years Later
Cumulative Redundancy Deficiency $(7,476,174) $(7,349,707) $(13,917,315) $(21,858,378) $(25,200,854) $(7,790,851)
========= ========= ========== ========== ========== =========
Gross Liability for Unpaid Losses
and Loss Adjustment Expenses $39,740,865 $42,004,851 $41,513,945 $41,592,489 $45,217,369 $60,534,295 $74,905,284
Ceded Liability for Unpaid Losses
and Loss Adjustment Expenses (2,629,019) (1,413,603) (1,139,713) (3,964,324) (10,671,343) (10,748,080) (21,308,339)
--------- --------- --------- --------- ---------- ---------- ----------
Net Liability for Unpaid Losses
and Loss Adjustment Expenses $37,111,846 $40,591,248 $40,374,232 $37,628,165 $34,546,026 $49,786,215 $53,596,945
========== ========== ========== ========== ========== ========== ==========
Gross Liability Reestimated $71,730,267 $70,574,366 $80,025,697 $88,475,653 $90,851,899 $86,571,376
Ceded Liability Reestimated (27,142,247) (22,633,411) (25,734,150) (28,989,110) (31,105,019) (28,994,310)
---------- ---------- ---------- ---------- ---------- ----------
Net Liability Reestimated $44,588,020 $47,940,955 $54,291,547 $59,486,543 $59,746,880 $57,577,066
========== ========== ========== ========== ========== ==========
Gross Reserve Redundancy
(Deficiency) $(31,989,402) $(28,569,515) $(38,511,752) $(46,883,164) $(45,634,530) $(26,037,081)
========== ========== ========== ========== ========== ==========
5
Net Premium Written to Policyholders' Surplus Ratio
- ---------------------------------------------------
The following table shows, for the periods indicated, Crusader's statutory
ratios of net premiums written to statutory policyholders' surplus. Since each
property and casualty insurance company has different capital needs, an
"acceptable" ratio of net premium written to policyholders' surplus for one
company may be inapplicable to another. While there is no statutory requirement
applicable to Crusader that establishes a permissible net premium to surplus
ratio, guidelines established by the National Association of Insurance
Commissioners ("NAIC") provide that such ratio should generally be no greater
than 3 to 1.
Twelve months ended December 31
-------------------------------------------------------------------
Statutory: 2002 2001 2000 1999 1998
- ---------- ---- ---- ---- ---- ----
Net Premiums Written $38,363,201 $32,106,175 $26,406,565 $26,209,180 $34,203,908
Policyholders' Surplus $26,258,452 $27,519,538 $39,626,269 $40,952,456 $37,611,089
Ratio 1.5 to 1 1.2 to 1 .7 to 1 .6 to 1 .9 to 1
Crusader is required to file an annual statement with insurance regulatory
authorities prepared on an accounting basis prescribed or permitted by such
authorities ("statutory"). Statutory accounting practices differ in certain
respects from generally accepted accounting principles. The more significant of
these differences for statutory accounting are (a) premium income is taken into
earnings over the periods covered by the policies, whereas the related
acquisition and commission costs are expensed when incurred; (b) fixed maturity
securities are reported at amortized cost, or the lower of amortized cost or
market value, depending on the quality of the security as specified by the NAIC;
(c) equity securities are valued by the NAIC as required by Statutory Accounting
Principles; d) non-admitted assets are charged directly against surplus; (e)
loss reserves and unearned premium reserves are stated net of reinsurance; and
(f) federal income taxes are recorded when payable and deferred taxes, subject
to limitations, are recognized but only to the extent that they do not exceed
10% of statutory surplus; changes in deferred taxes are recorded directly to
surplus are regards policyholders.
Regulation
- ----------
The insurance company operation is subject to regulation by the California
Department of Insurance ("the insurance department") and by the department of
insurance of other states in which Crusader is licensed. The insurance
department has broad regulatory, supervisory, and administrative powers. These
powers relate primarily to the standards of solvency which must be met and
maintained; the licensing of insurers and their agents; the nature and
limitation of insurers' investments; the prior approval of rates, rules and
forms; the issuance of securities by insurers; periodic financial and market
conduct examinations of the affairs of insurers; the annual and other reports
required to be filed on the financial condition and results of operations of
such insurers or for other purposes; and the establishment of reserves required
to be maintained for unearned premiums, losses, and other purposes. The
regulations and supervision by the insurance department are designed principally
for the benefit of policyholders and not for the insurance company shareholders.
The insurance department's Market Conduct Division is responsible for conducting
periodic examinations of companies to ensure compliance with California
Insurance Code and California Code of Regulations with respect to rating,
underwriting and claims handling practices. The most recent examination of
Crusader covered underwriting and rating practices for the period January 1,
2000, through June 18, 2001. The report on the results of that examination was
issued on September 10, 2002. On September 25, 2002, Crusader notified the
insurance department that it disagreed with certain findings contained in the
report. Currently, one criticism is unresolved. The Company does not believe
that this unresolved criticism will have a material impact on its financial
statements. The insurance department also conducts periodic financial
examinations of Crusader. The insurance department has completed its financial
examination of Crusader's December 31, 2001, statutory financial statements. The
report on the examination is pending finalization by the insurance department.
The Company does not expect any material adjustments to Crusader's statutory
financial statements.
In December 1993, the NAIC adopted a Risk-Based Capital ("RBC") Model Law for
property and casualty companies. The RBC Model Law is intended to provide
standards for calculating a variable regulatory capital requirement related to a
company's current operations and its risk exposures (asset risk, underwriting
risk, credit risk and off-balance sheet risk). These standards are intended to
serve as a diagnostic solvency tool for regulators that establishes uniform
capital levels and specific authority levels for regulatory intervention when an
insurer falls below minimum capital levels. The RBC Model Law specifies four
distinct action levels at which a regulator can intervene with increasing
degrees of authority over a domestic insurer if its RBC is equal to or less than
6
200% of its computed authorized control level RBC. A company's RBC is required
to be disclosed in its statutory annual statement. The RBC is not intended to be
used as a rating or ranking tool nor is it to be used in premium rate making or
approval. Crusader's adjusted capital at December 31, 2002, was 370% of
authorized control level risk-based capital.
The following table sets forth the different levels of risk-based capital that
may trigger regulatory involvement and the corresponding actions that may
result.
- ------------------------- ----------------------------------- ----------------------------------------------------------
LEVEL TRIGGER CORRECTIVE ACTION
- ------------------------- ----------------------------------- ----------------------------------------------------------
- ------------------------- ----------------------------------- ----------------------------------------------------------
Company Action Level Adjusted Capital less than 200% The insurer must submit a comprehensive plan to
of Authorized Control Level insurance commissioner
- ------------------------- ----------------------------------- ----------------------------------------------------------
- ------------------------- ----------------------------------- ----------------------------------------------------------
Regulatory Action Level Adjusted Capital less than 150% In addition to above, insurer is subject to examination,
of Authorized Control Level analysis and specific corrective action
- ------------------------- ----------------------------------- ----------------------------------------------------------
- ------------------------- ----------------------------------- ----------------------------------------------------------
Authorized Control Level Adjusted Capital less than 100% In addition to both of the above, insurance commissioner
of Authorized Control Level may place insurer under regulatory control
- ------------------------- ----------------------------------- ----------------------------------------------------------
- ------------------------- ----------------------------------- ----------------------------------------------------------
Mandatory Control Level Adjusted Capital less than 70% of Insurer must be placed under regulatory control of
Authorized Control Level
- ------------------------- ----------------------------------- ----------------------------------------------------------
Insurance Regulatory Information System ("IRIS") was developed by a committee of
state insurance regulators primarily to assist state insurance departments in
executing their statutory mandate to oversee the financial condition of
insurance companies. IRIS helps those companies that merit highest priority in
the allocation of the regulators' resources on the basis of 12 financial ratios
that are calculated annually. The analytical phase is a review of annual
statements and the financial ratios. The ratios and trends are valuable in
pointing to companies likely to experience financial difficulties, but are not
themselves indicative of adverse financial condition. The ratio and benchmark
comparisons are mechanically produced and are not intended to replace the state
insurance departments' own in-depth financial analysis or on-site examinations.
An unusual range of ratio results has been established from studies of the
ratios of companies that have become insolvent or have experienced financial
difficulties. In the analytical phase, all companies that receive four or more
financial ratio values outside the usual range are analyzed in order to identify
those companies that appear to require immediate regulatory action.
Subsequently, a more comprehensive review of the ratio results and an insurer's
annual statement is performed to confirm that an insurer's situation calls for
increased or close regulatory attention.
In 2002, the Company was outside the usual values on 4 of the 12 IRIS ratio
tests, primarily as a result of adverse loss and loss adjustment expense
development. The IRIS ratio test outside the usual values were the Two Year
Overall Operating Ratio, One Year Reserve Development to Surplus, Two Year
Reserve Development to Surplus, and Estimated Current Reserve Deficiency to
Surplus.
NAIC's Statutory Accounting Initiative
- --------------------------------------
The NAIC's project to codify accounting practices was approved by the NAIC in
March 1998. The approval included a provision for commissioners' discretion in
determining appropriate statutory accounting for insurers in their states.
Consequently, prescribed and permitted accounting practices may continue to
differ from state to state. Codification became effective on January 1, 2001.
The primary effect of Codification on Crusader was the recognition, subject to
limitations, of deferred tax assets previously not allowed. As of December 31,
2002, Crusader reported to the California Insurance Department in its annual
statutory filing, total net deferred tax assets of $3,754,968 of which
$2,431,675 was admitted and included in surplus and $1,323,293 was non-admitted
and not included in surplus. The admitted deferred tax assets of $2,431,675
would not have been allowed prior to codification.
The Company is unable to predict how insurance rating agencies will interpret or
react to any such changes. No assurance can be given that future legislative or
regulatory changes resulting from such activities will not adversely affect the
Company and its subsidiaries.
California Insurance Guarantee Association
- ------------------------------------------
The California Insurance Guarantee Association (the "Association") was created
to provide for payment of claims for which insolvent insurers of most casualty
lines are liable but which cannot be paid out of such insurers' assets.
7
The Company is subject to assessment by the Association for its pro-rata share
of such claims based on premiums written in the particular line in the year
preceding the assessment by insurers writing that line of insurance in
California. Such assessments are based upon estimates of losses to be incurred
in liquidating an insolvent insurer. In a particular year, the Company cannot be
assessed an amount greater than 2% of its premiums written in the preceding
year. Assessments are recouped through a mandated surcharge to policyholders the
year after the assessment. During 2002, the Company paid approximately $643,680
to the California Insurance Guarantee Association. The Company expects to
recover these assessments in 2003. The California Insurance Guarantee
Association imposed no other assessments against the Company in the last five
years. The Company is also subject to the provisions of insurance guaranty
associations in other states
Holding Company Act
- -------------------
Crusader is subject to regulation by the insurance department pursuant to the
provisions of the California Insurance Holding Company System Regulatory Act
(the "Holding Company Act"). Pursuant to the Holding Company Act, the insurance
department may examine the affairs of Crusader at any time. Certain transactions
defined to be of an "extraordinary" type may not be effected without the prior
approval of the insurance department. Such transactions include, but are not
limited to, sales, purchases, exchanges, loans and extensions of credit, and
investments made within the immediately preceding 12 months involving the lesser
of 3% of admitted assets or 25% of policyholders' surplus, as of the preceding
December 31. An extraordinary transaction also includes a dividend which,
together with other dividends or distributions made within the preceding twelve
months, exceeds the greater of 10% of the insurance company's policyholders'
surplus as of the preceding December 31 or the insurance company's net income
for the preceding calendar year. An insurance company is also required to notify
the insurance department of any dividend after declaration, but prior to
payment.
The Holding Company Act also provides that the acquisition or change of
"control" of a California domiciled insurance company or of any person who
controls such an insurance company cannot be consummated without the prior
approval of the Insurance Commissioner. In general, a presumption of "control"
arises from the ownership of voting securities and securities that are
convertible into voting securities, which in the aggregate constitute 10% or
more of the voting securities of a California insurance company or a person who
controls a California insurance company, such as Crusader. A person seeking to
acquire "control," directly or indirectly, of the Company must generally file
with the Insurance Commissioner an application for change of control containing
certain information required by statute and published regulations and provide a
copy of the application to the Company. The Holding Company Act also effectively
restricts the Company from consummating certain reorganization or mergers
without prior regulatory approval. The Company is in compliance with the Holding
Company Act.
Rating
- ------
Insurance companies are rated to provide both industry participants and
insurance consumers with meaningful information on specific insurance companies.
Higher ratings generally indicate financial stability and a strong ability to
pay claims. These ratings are based upon factors relevant to policyholders and
are not directed toward protection of investors. Such ratings are neither a
rating of securities nor a recommendation to buy, hold or sell any security and
may be revised or withdrawn at any time. Ratings focus primarily on the
following factors: capital resources, financial strength, demonstrated
management expertise in the insurance business, credit analysis, systems
development, market segment position and growth opportunities, marketing, sales
conduct practices, investment operations, minimum policyholders' surplus
requirements and capital sufficiency to meet projected growth, as well as access
to such traditional capital as may be necessary to continue to meet standards
for capital adequacy.
The claims-paying abilities of insurers are rated to provide both insurance
consumers and industry participants with comparative information on specific
insurance companies. Claims-paying ratings are important for the marketing of
certain insurance products. A higher rating generally indicates greater
financial strength and a stronger ability to pay claims.
Primarily as a result of the underwriting losses in 2000 and 2001, the A.M. Best
Company lowered Crusader's rating from A (Excellent) to A- (Excellent) effective
March 26, 2002, based on financial information as of December 31, 2001. At the
time the rating was lowered, A.M. Best remained concerned with the potential for
further adverse loss reserve development and the negative impact it would have
on the Company's operating performance and
8
overall capitalization, and viewed the rating outlook as negative. Due to the
continued adverse development in the six months ended June 30, 2002, on October
3, 2002, A.M. Best Company lowered Crusader's rating to B+ (Very Good) and
continues to view its rating outlook as negative. The Company does not believe
that the lowering of Crusader's rating from A- to B+ will have a material
adverse effect on the Company.
Terrorism Risk Insurance Act of 2002
- ------------------------------------
On November 26, 2002, the federal government enacted the Terrorism Risk
Insurance Act of 2002 (the "Act"), which established a temporary Federal program
that provides for a system of shared public and private compensation for insured
commercial property and casualty losses resulting from acts of terrorism, as
defined within the Act. The Terrorism Insurance Program (the "Program") requires
all commercial property and casualty insurers licensed in the United States to
participate. The Program provides that in the event of a terrorist attack, as
defined, resulting in insurance industry losses exceeding $5 million, the U.S.
government will provide funding to the insurance industry on an annual aggregate
basis of 90% of covered losses up to $100 billion. Each insurance company is
subject to a deductible based upon a percentage of the previous year's direct
earned premium; with the percentage increasing each year. The Program requires
that insurers notify in-force commercial policyholders by February 24, 2003 that
coverage for terrorism acts is provided and the cost for this coverage. The
Company is required to offer this coverage at each subsequent renewal even if
the policyholder elected to exclude this coverage in the previous policy period.
The Program became effective upon enactment and runs through December 31, 2005.
The Company does not write policies on properties considered to be a target of
terrorist activities such as airports, hotels, large office structures,
amusement parks, landmark defined structures or other public facilities. In
addition, there is not a high concentration of policies in any one area where
increased exposure to terrorist threats exist. Consequently, the Company
believes its exposure relating to acts of terrorism is low and consequently, few
policyholders will buy this coverage.
OTHER INSURANCE OPERATIONS
--------------------------
General Agency Operations
- -------------------------
Unifax primarily sells and services commercial multiple peril business insurance
policies. In addition, it sells and services commercial liability, commercial
property, and commercial earthquake insurance policies. Unifax's commercial
earthquake and some of the commercial liability insurance policies are sold
primarily in California for non-affiliated insurers. All other policies are sold
and serviced for Crusader by Unifax in Arizona, California, Idaho, Kentucky,
Montana, Nevada, Ohio, Oregon, Pennsylvania, Texas, and Washington. In August
2002, Crusader placed moratoriums on a substantial amount of non-California
business in force at June 30, 2002.
Bedford Insurance Services, Inc., ("Bedford") sells and services daily
automobile rental policies in most states for a non-affiliated insurer.
As general agents, these subsidiaries market, rate, underwrite, inspect and
issue policies, bill and collect insurance premiums, and maintain accounting and
statistical data. Unifax is the exclusive general agent for Crusader. Unifax and
Bedford are non-exclusive general agents for non-affiliated insurance companies.
The Company's marketing is conducted through advertising to independent
insurance agents and brokers. For its services, the general agent receives a
commission (based on the premium written) from the insurance company and, in
some cases, a service fee from the customer. These subsidiaries all hold
licenses issued by the California Department of Insurance and other states where
applicable.
Insurance Claim Administration Operation
- ----------------------------------------
The Company's subsidiary U.S. Risk Managers, Inc., ("U.S. Risk") provides
insurance claim administration services to the non-affiliated property and
casualty insurance companies that Bedford represents as a general agent. These
services consist of receiving, reserving, adjusting, paying and accounting for
insurance claims. U.S. Risk engages independent field examiners for all work
performed outside the Company's office. U.S. Risk operates under a license
issued by the California Department of Insurance and other states where
applicable. For insurance policies effective on or after January 1, 2003, the
non-affiliated insurance companies assumed the claim
9
administration of these policies. Crusader administers adjusting services for
Crusader policies and engages independent field examiners for all work performed
outside the Company's office.
Insurance Premium Finance Operation
- -----------------------------------
American Acceptance Corporation ("AAC") is a licensed insurance premium finance
company that provides insurance purchasers with the ability to pay their
insurance premiums on an installment basis. The premium finance company pays the
insurance premium to the insurance company in return for a premium finance note
from the insured. These notes are paid off by the insured in nine monthly
installments and are secured by the unearned premiums held by the insurance
company. AAC provides premium financing primarily for the Crusader policies that
are produced by Unifax in California.
Health and Life Insurance Operations
- ------------------------------------
The Company's subsidiaries National Insurance Brokers, Inc., ("NIB") and
American Insurance Brokers, Inc., ("AIB") market medical, dental, life, and
vision insurance through non-affiliated insurance companies for individuals and
groups. The services provided consist of marketing, billing and collection,
accounting, and customer service. For their services, these subsidiaries receive
a commission/override from the insurance company. Most of the business is
produced through independent insurance agents and brokers who receive a
commission from NIB or AIB. NIB and AIB hold licenses issued by the California
Department of Insurance. All business is currently written in California. In
January 2003, NIB assigned all its contacts and commissions to AIB and is now
inactive.
Association Operation
- ---------------------
The Company's subsidiary Insurance Club, Inc., DBA The American Association for
Quality Health Care ("AAQHC"), is a membership association that provides various
consumer benefits to its members, including participation in group health care
and life insurance policies that AAQHC negotiates for the association. For these
services, AAQHC receives membership and fee income from its members.
INVESTMENTS
-----------
The investments of the Company are made by the Company's Chief Financial Officer
under the supervision of an investment committee appointed by the Company's
Board of Directors. The Company's investment guidelines on equity securities
limit investments in equity securities to an aggregate maximum of $2,000,000.
The Company's investment guidelines on fixed maturities limit fixed maturity
investments to high-grade obligations with a maximum term of eight years. The
maximum investment authorized in any one issuer is $2,000,000. This dollar
limitation excludes bond premiums paid in excess of par value, U.S. government
or U.S. government guaranteed issues, and U.S. government agency obligations.
The maximum investment authorized in any one U.S. government agency obligation
is $3,000,000. All investments in municipal securities are pre-refunded and
secured by U.S. treasury securities. Short-term investments consist of bank
money market accounts, certificates of deposit, commercial paper, a U.S.
government obligation money market fund, and U.S. treasury bills. These
short-term investments are either U.S. government obligations, FDIC insured or
are in an institution with a Moody's rating of P1 and/or Standard & Poor's
rating of A1. All of the Company's fixed maturity investment securities are
rated and readily marketable and could be liquidated without any material
financial impact.
COMPETITION
-----------
General
- -------
The property and casualty insurance industry is highly competitive in the areas
of price and service. It is highly cyclical, characterized by periods of high
premium rates and shortages of underwriting capacity followed by periods of
severe price competition and excess capacity.
The profitability of insurers is affected by many factors including rate
competition, the frequency of claims and their average cost, natural disasters,
state regulations, interest rates, crime rates, general business conditions, and
court decisions redefining and expanding the extent of coverage and granting
higher compensation awards. One of the challenging and unique features of the
property and casualty business is the fact that, since premiums are collected
before losses are paid, its products are normally priced before its costs are
known.
10
Insurance Company and General Agency Operations (Property and Casualty)
- ----------------------------------------------------------------------
The Company's property and casualty insurance business continues to experience a
competitive marketplace. There are many substantial competitors who have larger
resources, operate in more states, and insure coverages in more lines and in
higher limits than the Company. In addition, Crusader competes not only with
other insurance companies but also with the general agents. Many of these
general agents offer more products than the Company. The principal method of
competition among competitors is price. While the Company attempts to meet this
competition with competitive prices, its emphasis is on service, promotion, and
distribution. Additional information regarding competition in the insurance
marketplace is discussed in the Item 7 - Management's Discussion and Analysis of
Financial Condition and Results of Operations - Results of Operations.
Insurance Claim Administration Operation
- ----------------------------------------
The insurance claim administration operation generates all its business from
insurance policies effective on or prior to December 31, 2002, that were
produced by its sister company Bedford for a non-affiliated insurance company.
Approximately 10% of Bedford's commission from the non-affiliated insurance
company was charged and applied to the claim administration operation. This
amount will cease for insurance policies effective in 2003 and the
non-affiliated insurance company will assume the claim administration of these
policies. The unearned claim administration income of $300,000 as of December
31, 2002, is anticipated to be sufficient to cover the cost to complete the
claim administration on policies effective on or prior to December 31, 2002.
Insurance Premium Financing Operation
- -------------------------------------
The insurance premium financing operation currently finances only policies
written through its sister company, Unifax. Although competition is intense in
the premium finance business, the competitive pricing, the quality of its
service, and the ease and convenience of financing with AAC has made its growth
and profitability possible. AAC's growth is dependent on the growth of Crusader
and Unifax.
Health and Life Insurance Operations
- ------------------------------------
Competition in the health and life insurance business is intense. In 2002 and
2001 approximately 94% of the Company's health and life insurance business was
from the CIGNA HealthCare medical and dental plan programs.
In October 2003, CIGNA plans to discontinue its Individual and Family health
insurance programs to all policyholders in the state of California. By April 1,
2003, AAQHC will notify the affected 5,353 Individual and Family members of
CIGNA's withdrawal from the Individual market. AIB and AAQHC will assist this
membership with the purchase of new health coverage through another insurance
carrier over the next six months. AIB and AAQHC have secured relationships with
other carriers including Health Net and Nationwide (formerly CalFarm) and will
continue to diversify and offer a wider variety of products to its customers.
CIGNA small business group membership is comprised of 2,368 subscribers and
1,475 dependents and make up 42% of the health and life insurance operations.
The CIGNA Small business group membership will not be affected by the withdrawal
of CIGNA's Individual and Family programs.
In 2003/2004, AAQHC hopes to increase the CIGNA small group membership as well
as expand the administration of the CIGNA group plans to include the large group
market (groups up to 200 employees).
EMPLOYEES
---------
On March 14, 2003, the Company employed 138 persons at its facility located in
Woodland Hills, California. The Company has no collective bargaining agreements
and believes its relations with its employees are excellent.
Item 2. Properties
- -------------------
The Company presently occupies a 46,000 square foot building located at 23251
Mulholland Drive, Woodland Hills, California, under a master lease expiring
March 31, 2007. The lease provides for an annual gross rent of $1,025,952. Erwin
Cheldin, the Company's president, chairman and principal stockholder, is the
owner of the
11
building. On February 22, 1995, the Company signed an extension to the lease
with no increase in rent to March 31, 2007. The Company believes that the terms
of the lease at inception and at the time the lease extension was signed were at
least as favorable to the Company as could have been obtained from
non-affiliated third parties.
The Company utilizes for its own operations 100% of the space it leases.
Item 3. Legal Proceedings
- --------------------------
The Company, by virtue of the nature of the business conducted by it, becomes
involved in numerous legal proceedings in which it may be named as either
plaintiff or defendant. Incidental actions are sometimes brought by customers or
others that relate to disputes concerning the issuance or non-issuance of
individual insurance policies or other matters. In addition, the Company resorts
to legal proceedings from time to time in order to enforce collection of
premiums, commissions, or fees for the services rendered to customers or to
their agents. These routine items of litigation do not materially affect the
Company and are handled on a routine basis through its counsel, and they do not
materially affect the operations of the Company.
State of California Regulatory Proceedings
- ------------------------------------------
On June 27, 2002, Crusader filed a lawsuit against California Insurance
Commissioner Harry Low over a Market Conduct Report that was made public by that
commissioner. The report, which was adopted by the Commissioner on June 17,
2002, was based on an examination conducted by the California Department of
Insurance around May 10, 2001. Crusader brought an action to correct what it
concluded were inaccuracies in the report. The Insurance Commissioner responded
to Crusader's lawsuit with a demurrer that was overruled by the Los Angeles
Superior Court on September 30, 2002. Thereafter, on October 24, 2002, the
Insurance Commissioner ordered Crusader to appear before the Office of
Administrative Hearing on January 28, 2003, to show cause why the Insurance
Commissioner should not issue an order requiring the Company to pay penalties on
the violations alleged in the report. The January 28, 2003, hearing has been
continued to July 22, 2003. Crusader's lawsuit has been stayed pending the
outcome of the order to show cause on July 22, 2003. Crusader contends that its
conduct was reasonable and intends to vigorously defend these charges. The
Company does not believe that the outcome of this matter will have a materially
adverse effect on its financial statements. No penalties on the violations
alleged in the report have been accrued in the financial statements.
Item 4. Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
None.
PART II
-------
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
- ------------------------------------------------------------------------------
The Company's common stock is traded on the NASDAQ National Market System under
the symbol "UNAM." The high and low sales prices (by quarter) and dividends
declared during the last two comparable twelve-month periods are as follows:
High Low Dividend
Quarter Ended Price Price Declared
------------- ----- ----- --------
March 31, 2002 7.100 5.000 $0.05
June 30, 2002 6.880 5.400
September 30, 2002 5.490 3.750
December 31, 2002 4.040 2.300
March 31, 2001 6.625 5.375 $0.05
June 30, 2001 6.400 5.300
September 30, 2001 6.630 4.050
December 31, 2001 6.750 4.900
12
As of December 31, 2002, the approximate number of shareholders of record of the
Company's common stock was 500. In addition, the Company estimates beneficial
owners of the Company's common stock held in the name of nominees to be
approximately 1,000.
The Company has declared a cash dividend on its common stock annually since June
24, 1991. As a result of losses incurred by the Company during fiscal 2001 and
2002, the Company's Board of Directors concluded not to declare an annual cash
dividend for 2003. Declaration of future annual cash dividends will be subject
to the Company resuming profitability and its cash requirements. Because the
Company is a holding company and operates through its subsidiaries, its cash
flow and, consequently, its ability to pay dividends are dependent upon the
earnings of its subsidiaries and the distribution of those earnings to the
Company. Also, the ability of Crusader to pay dividends to the Company is
subject to certain regulatory restrictions under the Holding Company Act (see
Item 1 - Business - Insurance Company Operation - Holding Company Act). As of
December 31, 2002, the maximum additional dividend that could have been made by
Crusader to Unico without prior approval was $2,625,845.
The Company has previously announced that its Board of Directors had authorized
the repurchase in the open market from time to time of up to an aggregate of
945,000 shares of the common stock of the Company (See Note 18 of Notes to
Consolidated Financial Statements). No shares were repurchased during the year
ended December 31, 2002. As of December 31, 2002, the Company has purchased and
retired under the Board of Directors authorization an aggregate of 868,958
shares of its common stock at a cost of $5,517,465.
Item 6. Selected Financial Data
- --------------------------------
Fiscal year ended December 31
-----------------------------------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Total revenues $46,028,642 $42,116,906 $38,367,949 $40,734,257 $47,544,270
Total costs and expenses 50,842,701 58,840,015 38,174,336 33,609,368 34,789,372
---------- ---------- ---------- ---------- ----------
Income (loss) before taxes $(4,814,059) $(16,723,109) $193,613 $7,124,889 $12,754,898
Net income (loss) $(3,224,689) $(10,870,018) $439,797 $5,131,366 $8,708,669
Basic earnings (loss) per share $(0.59) $(1.97) $0.07 $0.82 $1.41
Diluted earnings (loss) per share $(0.59) $(1.97) $0.07 $0.81 $1.36
Cash dividends per share $0.05 $0.05 $0.15 $0.25 $0.07
Total assets $148,686,605 $128,823,273 $123,945,820 $121,978,756 $121,717,643
Stockholders' equity $38,408,990 $40,620,376 $51,413,329 $54,840,797 $54,168,082
Item 7. Management's Discussion and Analysis of Financial Condition and Results
- --------------------------------------------------------------------------------
of Operations
-------------
Liquidity and Capital Resources:
-------------------------------
Due to the nature of the Company's business (insurance and insurance services)
and whereas Company growth does not normally require material reinvestments of
profits into property or equipment, the cash flow generated from operations
usually results in improved liquidity for the Company. Because the Company is a
holding company and operates through its subsidiaries, its cash flow is
dependent upon the earnings of its subsidiaries and the distributions of those
earnings to the Company.
The most significant liquidity risk faced by the Company would be continued
adverse development of the insurance company claims, both reported and
unreported. The Company has taken measures to address the underlying causes of
the adverse development; however, no assurance can be given that the measures
taken will be successful or that the Company's estimate of ultimate losses and
loss adjustment expenses will be sufficient. Based on the Company's current loss
and loss expense reserves and expected current and future payments, the Company
believes that there are no current liquidity issues.
13
Crusader generates a significant amount of cash as a result of its holdings of
unearned premium reserves, its reserves for loss payments, and its capital and
surplus. Crusader's loss and loss adjustment expense payments are the most
significant cash flow requirement of the Company. These payments are continually
monitored and projected to ensure that the Company has the liquidity to cover
these payments without the need to liquidate its investments. Cash and
investments (excluding net unrealized gains or losses) at December 31, 2002,
were $102,693,616 compared to $94,720,698 at December 31, 2001, an 8% increase.
Crusader's cash and investments at December 31, 2002, was $99,920,299 or 97% of
the total held by the Company, compared to $92,790,350 or 98% of the total held
by the Company at December 31, 2001.
The Company's investments are as follows:
December 31, 2002 December 31, 2001 December 31, 2000
----------------- ------------------ ------------------
Amount % Amount % Amount %
------ - ------ - ------ -
Fixed maturities (at amortized cost)
Certificates of deposit $ 400,000 - $ 400,000 - $ 400,000 -
U.S. treasury securities 17,517,578 19 5,459,019 6 7,995,324 9
Industrial and miscellaneous (taxable) 73,000,830 78 77,739,699 85 66,613,078 70
State and municipal (tax exempt) 2,731,060 3 8,213,141 9 19,789,675 21
----------- --- ----------- --- ---------- --
Total fixed maturity investments 93,649,468 100 91,811,859 100 94,798,077 100
---------- === ---------- === ---------- ===
Short-term cash investments (at cost)
Certificates of deposit 225,000 2 225,000 8 225,000 7
Commercial paper 1,525,000 17 - - 2,000,000 60
Bank money market accounts 724,842 8 2,050,006 72 417,280 12
U.S. gov't obligation money market fund 6,546,602 73 585,699 20 28,778 1
Short-term U.S. treasury - - - - 681,414 20
Bank savings accounts 2,938 - 2,917 - 2,882 -
------------ --- --------- --- ------------ -----
Total short-term cash investments 9,024,382 100 2,863,622 100 3,355,354 100
--------- === --------- === --------- ===
Equity investments (at cost) - 216 25,920
Total investments $102,673,850 $94,675,697 $98,179,351
=========== ========== ==========
In accordance with Statement of Financial Accounting Standard No. 115,
Accounting for Certain Investments in Debt and Equity Securities, the Company is
required to classify its investment securities into one of three categories:
held-to-maturity, available-for-sale or trading securities. Although all of the
Company's investments are classified as available-for-sale and the Company may
sell investment securities from time to time in response to economic and market
conditions, its investment guidelines place primary emphasis on buying and
holding high-quality investments to maturity.
The tax-exempt interest income earned (net of bond premium and discount
amortization) during the year ended December 31, 2002, was $283,856 compared to
$752,189 in the year ended December 31, 2001. In the year ended December 31,
2000, tax-exempt interest income earned totaled $1,191,794.
The Company's investment policy limits investments in any one company to
$2,000,000 and any one U.S. government agency to $3,000,000. This limitation
excludes bond premiums paid in excess of par value and U.S. government or U.S.
government guaranteed issues. The Company's investment guidelines on equity
securities limit investments in equity securities to an aggregate maximum of
$2,000,000. As of December 31, 2002, all but one of the Company's fixed maturity
investments were investment grade, the Company held no non-traded fixed maturity
or equity securities, all state and municipal tax exempt fixed maturity
investments were pre-refunded issues, and all certificates of deposit are FDIC
insured. The one fixed maturity investment rated below investment grade has a
par value $1,500,000, a maturity date of March 1, 2004, a Moody's rating of B3,
and a temporary unrealized loss at December 31, 2002, and February 28, 2003, of
$32,620 and $27,468, respectively.
On November 15, 2002, the Company borrowed $500,000 from Erwin Cheldin, a
director and the Company's principal shareholder, president and chief executive
officer, and $250,000 from The Cary and Danielle Cheldin Family Trust. Cary L.
Cheldin is a director and the Company's executive vice president. The notes are
due and payable upon demand of lender (on no less than fourteen days' notice)
and, if no demand is made, then the notes are payable in full on November 15,
2006. The notes may be prepaid at any time without penalty. The notes are
14
unsecured and bear interest at 8% per annum, with interest payable monthly.
Proceeds of the notes and available cash from the Company's other operations
were used by Unico to make a capital contribution of $1,500,000 to its Crusader
subsidiary. This contribution was made to ensure that Crusader's capital
remained above $25,000,000.
Crusader's statutory capital and surplus as of December 31, 2002, was
$26,258,452, a decrease of $1,261,086 (5%) from December 31, 2001. Crusader's
statutory capital and surplus as of December 31, 2001, was $27,519,538, a
decrease of $12,106,731, (31%) from December 31, 2000.
There were no dividends paid by Crusader to Unico in 2002 or 2001. Crusader paid
dividends of $1,500,000 to Unico in 2000. The dividends paid in 2000 were
invested in short-term instruments and were ultimately used to help fund the
repurchase of shares of the Company's common stock discussed below. As of
December 31, 2002, the maximum dividend that could have been made by Crusader to
Unico without the prior approval of the California Department of Insurance was
$2,625,845.
Unico had a $2,000,000 line of credit with Union Bank of California. As of
December 31, 2001, no amounts were borrowed and the Company did not utilize its
credit line during the remainder of its current term that expired in November of
2002. The credit line was not renewed at expiration.
The Company has previously announced that its Board of Directors had authorized
the repurchase in the open market from time to time of up to an aggregate of
945,000 shares of the common stock of the Company (see Note 18 of Notes to
Consolidated Financial Statements). During the year ended December 31, 2002, the
Company did not repurchase any shares of the Company's common stock. As of
December 31, 2002, the Company has purchased and retired under the Board of
Directors authorization an aggregate of 868,958 shares of its common stock at a
cost of $5,517,465.
The cash flow provided by operations in the year ended December 31, 2002, was
$8,013,224, an increase in cash flow of $9,302,165 compared to the cash flow for
the year ending December 31, 2001. The increase in cash flow from operations in
2002 was primarily the result Crusader's 2002 growth in written premiums
(unearned premium reserves increased $5,053,433) and from the recovery of
federal income taxes of $5,449,872 from the Company's 2001 federal income tax
loss carryback. Cash flow used by operations for the year ended December 31,
2001, was $1,288,941, a slight decrease of $85,833 in cash used compared to the
year ended December 31, 2000.
In 2002, the Company initiated an upgrade and replacement of its printing and
forms generation systems. As of the date of this report, the project has been
completed at a total cost of approximately $95,000. There are no other material
commitments for capital expenditures as of the date of this report.
Although material capital expenditures may also be funded through borrowings,
the Company believes that its cash and short-term investments at year end, net
of trust restriction of $1,114,403, statutory deposits of $2,725,000, and
dividend restriction between Crusader and Unico (see Item 1 - Business -
Insurance Company Operation - Holding Company Act) plus the cash to be generated
from operations, should be sufficient to meet its operating requirements during
the next twelve months without the necessity of borrowing funds.
In a recent court ruling that affects the tax years 1997 through 2002, a statute
that allowed Unico American a tax deduction for the dividends received from its
wholly-owned insurance subsidiary was held unconstitutional on the grounds that
it discriminated against out-of-state insurance holding companies. Based on the
court ruling, the California Franchise Tax Board ("FTB") is taking the position
that the discriminatory sections of the statute are not severable and the entire
statute is invalid. As a result, the FTB is disallowing dividend-received
deductions for all insurance holding companies, regardless of domicile, for tax
years ending on or after December 1, 1997. The Company received dividends from
its insurance subsidiary of $5 million for the 1998 through 2000 tax years. As
of the date of this report, the FTB has not proposed any assessments to the
Company for additional tax as a result of the dividends received deduction that
the Company utilized for those periods. This ruling by the court has confused
certain long standing aspects of the California tax law and has already resulted
in legislative proposals for relief which, if approved, would reduce or
eliminate the amount of the Company's exposure. In addition, without such
legislation, years of future litigation may be required to determine the
ultimate outcome. Consequently, the ultimate amount that the Company may be
required to pay is impossible to predict at the
15
present time and the Company has not recorded a provision for additional state
income tax liabilities related to this matter.
The Company has certain obligations to make future payments under contracts and
credit-related financial instruments and commitments. At December 31, 2002,
certain long-term aggregate contractual obligations and credit-related
commitments are summarized as follows:
Within 1-3 4-5 After
Contractual Obligations Total 1 Year Years Years 5 years
- ----------------------- ----- ------ ----- ----- -------
Building Lease $4,360,296 $1,025,952 $2,051,904 $1,282,440 $0
Notes Payable - Related Parties $750,000 $0 $0 $750,000 $0
Results of Operations:
---------------------
General
- -------
The Company had a net loss of $3,224,689 for the year ended December 31, 2002,
compared to a net loss of $10,870,018 for the year ended December 31, 2001, and
net income of $439,797 for the year ended December 31, 2000. Total revenue for
the year ended December 31, 2002, was $46,028,642 compared to $42,116,906 for
the year ended December 31, 2001, and $38,367,949 for the year ended December
31, 2000.
For the year ended December 31, 2002, the Company had a loss before taxes of
$4,814,059 compared to a loss before taxes of $16,723,109 in the year ended
December 31, 2001, a decrease in loss before taxes of $11,909,050. The decrease
in pre-tax loss was primarily due to a decrease of $11,836,195 in the
underwriting loss (net earned premium less losses and loss adjustment expenses
and policy acquisition costs) from Crusader. The Company had a net loss for the
year ended December 31, 2002, of $3,224,689 compared to a net loss of
$10,870,018 for the year ended December 31, 2001, a decrease in net loss of
$7,645,329.
For the year ended December 31, 2001, the Company had a loss before taxes of
$16,723,109 compared to income before taxes of $193,613 in the year ended
December 31, 2000, a decrease of $16,916,722. The decrease in pre-tax income was
primarily due to a decrease of $16,396,612 in the underwriting profit (net
earned premium less losses and loss adjustment expenses and policy acquisition
costs) from Crusader. The Company had a net loss for the year ended December 31,
2001, of $10,870,018 compared to net income of $439,797 for the year ended
December 31, 2000, a decrease in net income of $11,309,815.
The effect of inflation on the net income of the Company during the years ended
December 31, 2002 and 2001 was not significant.
The Company derives revenue from various sources as discussed below.
Insurance Company Operation
- ---------------------------
Premium and loss information of Crusader are as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Gross written premium $45,622,280 $37,637,396 $33,259,948
Net written premium (net of reinsurance ceded) $38,363,201 $32,106,175 $26,406,565
Earned premium before reinsurance ceded $40,568,845 $35,409,174 $32,743,165
Earned premium (net of reinsurance ceded) $33,359,272 $29,893,844 $25,899,234
Losses and loss adjustment expenses $32,727,023 $41,677,016 $21,676,915
Unpaid losses and loss adjustment expenses $74,905,284 $60,534,295 $45,217,369
Crusader's primary line of business is commercial multiple peril business
package policies. This line of business represented approximately 97% of
Crusader's total written premium for the year ended December 31, 2002, 96% for
the year ended December 31, 2001, and 97% for the year ended December 31, 2000.
16
The Company's future writings and growth are dependent on market conditions,
competition, and the Company's ability to introduce new and profitable products.
As of December 31, 2002, Crusader was licensed as an admitted insurance company
in the states of Arizona, California, Colorado, Idaho, Montana, Nevada, Ohio,
Oregon, and Washington and is approved as a non-admitted surplus lines writer in
other states.
Crusader's gross written premium by state is as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
California $42,590,674 93.4% $32,374,357 86.0% $28,513,822 85.7%
Ohio 743,010 1.6% 1,269,026 3.4% 753,264 2.3%
Arizona 632,566 1.4% 1,001,640 2.7% 1,178,094 3.5%
Montana 393,966 0.9% 513,735 1.4% 482,735 1.5%
Pennsylvania 372,748 0.8% 614,317 1.6% 546,801 1.6%
Oregon 340,336 0.7% 401,960 1.0% 509,971 1.5%
Washington 278,279 0.6% 721,071 1.9% 990,725 3.0%
Nevada 210,244 0.4% 380,835 1.0% 82,963 0.3%
Idaho 36,495 0.1% 32,769 0.1% 38,037 0.1%
Texas 23,962 0.1% 303,393 0.8% 135,968 0.4%
Kentucky - 0.0% 24,293 0.1% 27,568 0.1%
---------- ----- ---------- ----- ---------- -----
Total gross written premium $45,622,280 100.0% $37,637,396 100.0% $33,259,948 100.0%
========== ===== ========== ===== ========== ======
For the year ended December 31, 2002, gross written premium increased by
$7,984,884 (21%) compared to the year ended December 31, 2001. Approximately 93%
of the Company's premium is written in the state of California. The increase in
written premium in the state of California in 2002 was primarily the result of
the subsidence in the intensity of price-based competition in the property and
casualty insurance market that has resulted in the Company's products becoming
more competitive. In addition, the Company has increased rates on some of its
California products, is in the process of filing for rate increases on some of
its California products, and is waiting for regulatory approval of rate
increases on some of its products that have already been filed with California
regulatory authorities. The Company believes that a "hard market" cycle has
begun in California. Industry-wide underwriting losses, decreases in investment
yield, and increases in reinsurance cost have all contributed to the change from
the "soft market" to the "hard market." The Company is also benefiting from the
fact that some of its competitors have gone out of business and others have
recently raised rates or adopted more restrictive rules. The Company cannot
determine how long the existing market conditions will continue, nor in which
direction they might change. The number policies issued by the Company in 2002
increased approximately 3% from the prior year while gross written premium
increased 21%.
Premiums written outside of California in 2002 decreased $2,231,433 (42%) as
described below under the discussion of losses.
For the year ended December 31, 2001, gross written premium increased by
$4,377,448 (13%) compared to the year ended December 31, 2000. In 2001,
approximately 86% of the Company's premium was written in the state of
California, which accounted for 88% of the increase in gross written premium.
The growth in written premium in 2001 was primarily the result of the subsidence
in the intensity of price-based competition in the property and casualty
insurance market that has resulted in the Company's products becoming more
competitive. The number of policies issued by the Company in 2001 increased
approximately 4% while gross written premium increased 13%.
The Company's average premium per policy issued is as follows:
Year Ended Gross Written Policies Average
December 31 Premium Issued Premium
----------- ------- ------ -------
2002 $45,622,280 18,603 $2,452
2001 $37,637,396 18,114 $2,078
2000 $33,259,948 17,351 $1,917
17
Due to more selective underwriting by the Company, the number of policies issued
in 2002 increased only 3% over 2001, and the number of policies issued in 2001
increased only 4% over 2000. Although the Company attempts to be competitive on
price, it believes that maintaining adequate rates on the insurance policies it
sells is a better business strategy than increasing total written premium by
selling more policies at inadequate rates.
The Company continues to believe that it can compete effectively and profitably
by offering better service and by marketing its policies through its current
independent agents and brokers. In pursuing its growth plan, the Company adopted
a geographic expansion strategy several years ago. The Company is currently
reevaluating this strategy of expanding geographically and has placed a
moratorium on a substantial amount of business written outside of California.
The Company has no short-term plan to expand into additional states, nor to
expand its marketing channels. Instead, the Company intends to allocate its
resources toward improving its California business rates, rules and forms.
The Company writes annual policies and, therefore, earns written premium daily
over the one-year policy term. Premium earned before reinsurance increased
$5,159,671 (15%) in the year ended December 31, 2002, compared to the year ended
December 31, 2001, and increased $2,666,009 (8%) in the year ended December 31,
2001, compared to the year ended December 31, 2000. The increase in earned
premium before reinsurance in 2002 and 2001 was directly related to the increase
in written premium in 2002 and 2001.
Earned premium ceded increased $1,694,243 (31%) to $7,209,573 or 18% of earned
premium before reinsurance in the year ended December 31, 2002, compared to
$5,515,330 or 16% of earned premium before reinsurance for the year ended
December 31, 2001. Earned premium ceded decreased $1,328,601 (19%) to $5,515,330
or 16% of earned premium before reinsurance in the year ended December 31, 2001,
compared to $6,843,931 or 21% of earned premium before reinsurance for the year
ended December 31, 2000. Ceded premiums increased in the year ended December 31,
2002, primarily as a result of rate increases effective January 1, 2002, of
approximately 56% on the Company's primary excess of loss treaties and
approximately 11% on the Company's catastrophe treaties, and the related
increase in earned premium on which these rates are based. There was also a
decrease in premium ceded under the Company's provisionally rated reinsurance
contract in the year ended December 31, 2002, compared to the prior year. Ceded
premiums decreased in the year ended December 31, 2001, primarily as a result of
a decrease in premium ceded under the Company's provisionally rated reinsurance
contract. Premium ceded under the Company's provisionally rated reinsurance
contract, which was canceled on a runoff basis effective December 31, 1997, is
subject to adjustments based on the amount of losses ceded, limited by a maximum
percentage that can be charged by the reinsurer. This decrease in ceded premiums
was partially offset by an increase in premium ceded to the Company's primary
reinsurance contract as a result of the related increase in earned premiums.
The following table shows the changes in ceded premium:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Increase (decrease) in earned ceded premium (excluding
provisionally rated ceded premium) $2,675,338 $276,761 $(447,593)
Increase (decrease) in provisionally rated ceded premium (981,095) (1,605,362) 707,772
--------- --------- -------
Net increase (decrease) in earned ceded premium $1,694,243 $(1,328,601) $ 260,179
========= ========= =======
Crusader's net reinsurance cost is anticipated to approximately double in 2003
as a result of rate increases primarily due to the Company's ceded loss
experience and a hardening in the reinsurance marketplace. Without taking into
account premium growth, this rate increase, net of ceding commission, is
estimated to cost approximately $4,000,000 in 2003. The Company's regularly
planned premium increases are expected to help offset this added cost of
reinsurance. In 2003, the annual aggregate deductible on Crusader's primary
excess of loss treaty will decrease from $675,000 in 2002 to $500,000.
Crusader's 2003 primary excess of loss treaty provides for a contingent
commission equal to 45% of the net profit, if any, accruing to the reinsurer.
In 2002, the Company's reinsurance coverage for terrorism, mold and cyber risk
was significantly reduced. To the extent allowed by regulators, the Company
intends to address this change in its reinsurance coverage by modifying the
coverage provided to its policyholders.
18
The combined ratio is the sum of (1) the net ratio of losses and loss adjustment
expenses incurred (including a provision for incurred-but-not-reported losses
"IBNR") to net premiums earned ("loss ratio") and (2) the ratio of policy
acquisition and general operating costs to net premiums earned ("expense
ratio"). The following table shows the loss ratios, expense ratios, and combined
ratios of Crusader as derived from data prepared in accordance with accounting
principles generally accepted in the United States of America ("GAAP"). As shown
on the table below, the loss ratio decreased to 98.1% in 2002 from 139.4% in
2001 and increased from 83.7% in 2000. This increase in the loss ratio since
2000 was primarily due to an increase in prior years' incurred losses.
Generally, if the combined ratio is below 100%, an insurance company has an
underwriting profit; if it is above 100%, a company has an underwriting loss.
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Loss ratio 98.1% 139.4% 83.7%
Expense ratio 27.8% 29.1% 32.1%
----- ----- -----
Combined ratio 125.9% 168.5% 115.8%
===== ===== =====
Reserves for losses and loss adjustment expenses before reinsurance were
$74,905,284 at December 31, 2002, compared to $60,534,295 at December 31, 2001,
and to $45,217,369 at December 31, 2000. The increase in reserves at December
31, 2002 and 2001 reflect both an increase in claim severities and adverse
development of prior years in the Company's Commercial Multiple Peril ("CMP")
and Other Liability lines of business.
Reserves for losses and loss adjustment expenses before reinsurance for each of
Crusader's lines of business were as follows:
Year ended December 31
----------------------
Line of Business 2002 2001 2000
- ---------------- ---- ---- ----
CMP $69,111,825 92.3% $56,215,479 92.9% $40,830,294 90.3%
Other Liability $5,564,214 7.4% $4,004,449 6.6% $4,016,673 8.9%
Other $229,245 0.3% $314,367 0.5% $370,402 0.8%
----------- ------- ----------- ----- ---------- -----
Total $74,905,284 100.0% $60,534,295 100.0% $45,217,369 100.0%
========== ====== ========== ====== ========== ======
The Company`s consolidated financial statements include estimated reserves for
unpaid losses and related claim settlement or loss adjustment expenses of our
insurance company operation. Crusader sets loss and loss adjustment expense
reserves at each balance sheet date at management's best estimate of the
ultimate payments that it anticipates will be made to settle all losses incurred
and related expenses incurred as of that date for both reported and unreported
losses. The process of estimating loss and loss adjustment reserves involves
significant judgment and is complex and imprecise due to the number of variables
and assumptions inherent in the estimating process. Crusader establishes
reserves for reported losses based on historical experience, upon case-by-case
evaluation of facts surrounding each known loss, and the related policy
provisions. The amount of reserves for unreported losses is estimated by
analysis of historical and statistical information. Reserves are monitored and
adjusted when appropriate and reflected in the statement of operations in the
period of adjustment.
As discussed in the following paragraphs, the Company believed that it had
adequately addressed its estimate of ultimate losses as of December 31, 2001,
and anticipated that underwriting changes in problematic business such as
reducing coverages, modifying policy forms, more restrictive underwriting,
reductions in non-California business, and increasing rates would be reflected
in the 2002 development. However, continued adverse development in 2002
indicated that the underwriting changes implemented through December 31, 2001,
were not sufficient to fully address the losses primarily occurring on accident
years 1999 through 2001 on the Company's business outside of California
(primarily liquor and premises liability), and on the Company's special risk
class of business. Liquor liability claims arise from the liability of tavern
owners related to the sale of alcoholic beverages. The Company's special risk
class of business represents risks written within current underwriting programs
that have a higher degree of exposure and require special pricing and
underwriting. Based on the development in 2002 primarily on the business
discussed above, the Company increased its estimate of ultimate losses for
accident years 1999 and subsequent. The adverse development in 2002 for accident
years 1998 and prior was primarily due to higher than anticipated cost of
construction defect and apartment house habitability claims. Construction defect
claims arise from the liability of contractors for their defective work in the
construction of habitation structures (such as apartments, condominiums and
single-family dwellings) or commercial type
19
structures. Apartment house habitability claims arise from uninhabitable
conditions related to dilapidated structures and insect and vermin infestation.
In light of the adverse development in 2001, the Company increased the frequency
and scope of its reserve studies. The continued adverse development in 2002,
discussed above, was first observed in June 2002 when the Company determined
that losses for accident years 2002 and 2001 were developing higher than
anticipated and the underwriting actions had not mitigated loss exposure to the
extent previously estimated. Of the total adverse development in 2002 of
$7,790,851, $6,332,812 was reflected as of June 30, 2002. Adverse development of
prior years losses in 2002 represented 15.6% of net reserves as of December 31,
2001.
Adverse (favorable) development of prior years losses in 2002 by line of
business are as follows:
Accident Years ended December 31
---------------------------------------------------------------------------
2001 2000 1999 1998 and Prior Total
---- ---- ---- -------------- -----
Line of Business
CMP $2,022,752 $2,812,554 $1,078,477 $1,769,710 $7,683,493
Other Liability 30,152 31,387 49,877 136,328 247,744
Other (136,557) (32,605) (6,999) 35,775 (140,386)
--------- --------- --------- --------- ---------
Total $1,916,347 $2,811,336 $1,121,355 $1,941,813 $7,790,851
========= ========= ========= ========= =========
In the years ended December 31, 2001 and 2000, the Company increased its
estimates of ultimate losses for both reported and unreported claims primarily
occurring from 1998 through 2000 and from 1993 through 1995 (the years most
impacted by construction defect claims). Adverse development of prior years'
losses of $19,326,349 as of December 31, 2001, and $4,270,631 as of December 31,
2000, was primarily the result of an increase in the Company's estimate of
ultimate reported and unreported claims for construction defect claims,
non-California liquor liability claims and apartment house habitational type of
claims.
The following table provides an analysis of the roll forward of Crusader's
losses and loss adjustment expenses, including a reconciliation of the ending
balance sheet liability for the periods indicated:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Reserve for unpaid losses and loss adjustment expenses
at beginning of year - net of reinsurance $49,786,215 $34,546,026 $37,628,165
---------- ---------- ----------
Incurred losses and loss adjustment expenses
Provision for insured events of current year 24,936,172 22,350,667 17,406,284
Increase in provision for events of prior years 7,790,851 19,326,349 4,270,631
---------- ---------- ----------
Total losses and loss adjustment expenses 32,727,023 41,677,016 21,676,915
---------- ---------- ----------
Payments
Losses and loss adjustment expenses attributable to
insured events of the current year 5,905,678 5,595,410 6,013,830
Losses and loss adjustment expenses attributable to
insured events of prior years 23,010,615 20,841,417 18,745,224
---------- ---------- ----------
Total payments 28,916,293 26,436,827 24,759,054
---------- ---------- ----------
Reserve for unpaid losses and loss adjustment expenses
at end of year - net of reinsurance $53,596,945 $49,786,215 $34,546,026
Reinsurance recoverable on unpaid losses and loss
adjustment expenses at end of year 21,308,339 10,748,080 10,671,343
---------- ---------- ----------
Reserve for unpaid losses and loss adjustment expenses at
end of year per balance sheet, gross of reinsurance (*) $74,905,284 $60,534,295 $45,217,369
========== ========== ==========
(*) In accordance with Financial Accounting Standards Board Statement No. 113,
Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration
Contracts, reinsurance recoverable on unpaid losses and loss adjustment expenses
are reported for GAAP as assets rather than netted against the corresponding
liability for such items on the balance sheet.
20
The increase in incurred losses and loss adjustment expenses recognized in 2001
and 2000 was primarily due to the following:
1. Higher than anticipated claim cost from business outside of California.
2. The effect on settlements of escalating jury awards.
3. The effect on settlements in apartment house habitability claims due to a
statute that provides for payment of plaintiff attorney fees without
regard to policy limits.
4. Increased development of losses due to the impact of changes in California
law that expanded coverage and increased loss exposure primarily on
construction defect claims for losses incurred prior to the Company's
revision in its policy form in 1995. For example:
Montrose Chemical Corp. v. Admiral Insurance Co. (1994),
-----------------------------------------------
Montrose Chemical Corp. v. Admiral Insurance Co. (1995),
-----------------------------------------------
Armstrong World Industries, Inc. v. Aetna Gas & Sur. Co. (1996)
---------------------------------------------------------
and James Pepperell, et al., v. Scottsdale Insurance Company (1998).
--------------------------------------------------------------
These four cases state that all insurance companies with completed
operations property damage coverage in force during a period of
continuing damage or property deterioration must provide coverage for
construction defect losses regardless as to whether or not the damage
first manifested during their policy period.
Pardee Construction Company v. Insurance Company of the West et al. (2000)
------------------------------------------------------------------
This case states that an additional insured endorsement includes completed
operations property damage coverage even for projects that were completed
before the inception date of the endorsement.
Centex Golden Construction Co. v. Dale Tile Co. (2000)
----------------------------------------------
This case states that indemnity agreements in construction contracts
requires the subcontractor to defend the general contractor even though
the subcontractor's liability has not been established.
Estimates for ultimate loss reserves are inherently difficult to determine
because they are attempts to quantify future results based on current trends.
The effort to predict the Company's ultimate losses and loss adjustment expenses
was made more difficult in 2000 and 2001 because of the following:
1. The Company had written liquor liability outside of California since 1992.
The time allowed by statute to report a claim in these states ranges from 2
years to 3 years. Prior to 1998, the frequency and severity of the claims
seemed reasonably predictable. Before the statute of limitations expired,
claims occurring in 1998 that were reported to the Company in 2000 were
significantly higher than anticipated based on the Company's loss
experience for all prior years in which these coverages were offered. The
Company could not identify any reason for this change and was unable to
tell whether it was an aberration or a new trend. Although the Company
increased its reserves, they were not enough to cover the claims reported
in 2001 for losses occurring in 1999. In 2001, the Company created a
separate analysis of its non-California CMP liabililty business to provide
for better data analysis in arriving at its best estimate for its CMP line
of business. In addition, the analysis provided the Company a better
understanding of the appropriate underwriting actions that should be taken,
and in 2001, the Company responded to the change in development in 2001 and
2000 by either substantially increasing rates or reducing coverages offered
on this business.
2. Prior to 1995, the Company was writing a wide variety of general
contractors and subcontractors in California. In 1995, California law
relating to contractors changed significantly as a consequence of various
California legal decisions. The effect of these changes was to expand
coverages and increase loss exposure. Although the Company modified its
policy forms and underwriting standards relating to its contractor business
in 1995, it could not change the exposure on the policies already written.
Although the Company increased its reserves in 2000, construction defect
claims on its contractor business for 1995 and prior continued to be
reported in 2001 in amounts greater than the Company anticipated. In 2001,
the Company created a separate analysis of its contractor CMP business to
provide for better data analysis in arriving at its best estimate for its
CMP line of business.
21
3. In 2000 and 2001, the Company began experiencing adverse development on its
apartment house business due to the effect of settlements on habitability
claims. Those settlements were substantially influenced by a statute that
provides for the payment of plaintiff attorney fees without regard to
policy limits and the Montrose Chemical Corp. v. Admiral Insurance Company
decision of 1995. In 2000, the Company modified its underwriting criteria
to address this adverse development and on September 7, 2002, the Company
changed its coverage forms so as to limit the "costs taxed against the
insured" clause of the "Supplementary Provisions" coverage grant, from
unlimited to $100,000.
As of result of substantial underwriting losses during 2002 and 2001, Crusader's
management analyzed and acted upon the following components of its underwriting
activity:
1. Business Underwritten Outside of California
2. Habitability Exposure
3. Construction Defect Exposure
4. Rate Inadequacy Within Special Risk Class of Business
5. Increased Cost of Settling Claims, Indemnity and Expense
6. Increased Cost of Reinsurance
7. Mold Exposure
8. Terrorism Exposure
9. Market Conditions and Competition
Each of these areas is or was addressed, as follows.
1. BUSINESS UNDERWRITTEN OUTSIDE OF CALIFORNIA: Collectively, the insurance
underwritten by the Company outside of California has been very
unprofitable, particularly with respect to the Liquor and Premises types of
liability coverage. The Company adopted substantial (e.g., 300%) rate
increases and coverage restrictions beginning in June of 2001 for all
Liquor Liability written outside of California and Nevada. The rate
increases caused a dramatic decline in sales, causing the Company to be
concerned about adverse selection. Therefore, the Company took further
steps, described below. In these states, the Company's liquor liability
exposure during the 2002 year was only approximately 24% of what it was in
the year 2000.
TEXAS: The Company discontinued offering all types of insurance in Texas
in March 2002, and the Company is issuing non-renewal notices on all
remaining Texas business. Total premium written in Texas by the Company
in 2001 was $303,393, compared to $23,962 in 2002.
MONTANA: The Company discontinued offering limits over $300,000 for
Liquor Liability in June 2001, and discontinued offering Liquor
Liability to new applicants on August 1, 2002. In October 2002, the
Company stopped offering any new business coverage in Montana, and in
January 2003 the Company started to non-renew its entire book of Montana
policies. Total premium written in Montana in 2001 was $513,735,
compared to $393,966 in 2002.
PENNSYLVANIA: The Company discontinued offering all types of insurance
in Pennsylvania on August 1, 2002, and the Company is issuing
non-renewal notices on all remaining Pennsylvania business. Total
premium written by the Company in Pennsylvania in 2001 was $614,317,
compared to $372,748 in 2002.
OREGON: The Company discontinued offering all types of insurance for new
business in Oregon on August 1, 2002, and the Company started issuing
non-renewal of all remaining policies later that year. Total premium
written by the Company in Oregon in 2001 was $401,960, which compares to
$340,336 in 2002.
OHIO: The Company discontinued offering Liquor Liability to new
applicants in Ohio on August 1, 2002, and it started issuing non-renewal
of all remaining policies later that year. Total premium written by the
Company in Ohio in 2001 was $1,269,026, which compares to $743,010 in
2002.
WASHINGTON: The Company discontinued offering all types of insurance in
Washington on August 1, 2002, and the Company started issuing
non-renewal of all remaining policies later that year. Total premium
written in Washington in 2001 was $721,071, which compares to $278,279
in 2002.
22
ARIZONA: The Company discontinued offering Liquor Liability to new
applicants in Arizona on August 1, 2002. The Company started deleting
Liquor Liability coverage from all renewal policies in Arizona on
November 1, 2002. The Company expects that this change will improve
profitability but that it will also significantly reduce sales in
Arizona. Total premium written by the Company in Arizona in 2001 was
$1,001,640, which compares to $632,566 in 2002. The Company is
considering complete withdrawal from Arizona.
IDAHO: The Company stopped offering insurance in Idaho on November 1,
2002. The Company began to non-renew all of its Idaho policies in
February of 2003. Total premium written by the Company in Idaho in 2001
was $32,769, which compares to $36,495 in 2002.
KENTUCKY: In the year 2000 the Company stopped offering insurance in
Kentucky, and in May of 2001 the Company started to non-renew all of its
policies in that state. Total premium written by the Company in Kentucky
in 2001 was $24,293, which compares to $0 in 2002.
NEVADA: The Company believes that it has no adverse exposure in Nevada.
Although the Company's sales in Nevada are small, there are no plans to
change operations in that state. Total premium written by the Company in
Nevada in 2001 was $380,835, which compares to $210,244 in 2002.
2. HABITABILITY EXPOSURE: In October 2000, the Company significantly changed
its underwriting practice with respect to the type of apartment buildings
thought to cause these claims, and additional changes are planned. These
changes are:
a. In September 2000, the Company identified a subcategory of apartment
building risk, referred to as the "Big and Old" group. The Company
believes that members of this group pose a greater-than-average
probability of habitability loss.
b. On September 28, 2000, the Company imposed more stringent underwriting
restrictions and requirements upon members of the "Big and Old" group,
including the adoption of more restrictive coverage forms and use of
maintenance warranties for members of this group.
c. On September 7, 2002, the Company changed its coverage forms to limit
the "costs taxed against the insured" clause of the "Supplementary
Provisions" coverage grant, from unlimited to $100,000.
3. CONSTRUCTION DEFECT EXPOSURE: The Company continuously modifies its
underwriting practice with respect to subcontractors in an effort to
improve loss experience. For example, subcontractors performing
"waterproofing, weather-coating, or decking" were deemed ineligible by the
Company in 1995; and, to minimize the adverse effects of the Montrose
decision of 1995, the Company changed its coverage forms in 1996; and, the
Company adopted numerous, program-specific questions to its applications,
inspections, and survey forms. Although the Company believes that the
ultimate results of its post-1996 underwriting of this class of business
will prove to be profitable, the results will not be known until the 10
year statute runs. Therefore, on April 18, 2002, the Company sought
regulatory approval for a change in or discontinuation of its experience
rating plan. When the regulator disapproved that filing, the Company
imposed a moratorium on all new offers of artisan contractors' insurance on
June 18, 2002. The Company since gained regulatory approval to discontinue
its experience rating plan, which will result in a rate increase of
approximately 21% for all policies renewing after April 1, 2003. The
Company also plans to implement another rate increase before the end of
2003 along with further underwriting restrictions.
4. RATE INADEQUACY WITHIN SPECIAL RISK CLASS OF BUSINESS: In November 2000
after a change of program management, the Company reviewed those policies
underwritten by its Special Risks program. That review resulted in the
cancellation of a significant number of policies, those thought to be
generating most of the losses. The Company plans to make rate filings so as
to be able to re-underwrite those types of policy that were cancelled.
Meanwhile, it continues with its culling of marginal policies. The Company
expects to receive regulatory approval of the revised filings by the end of
year 2003. Total premium written by the Company's Special Risks program in
the year 2001 was approximately $2,300,000, compared to $1,793,000 in the
2002
23
year. During the same time average "in force" policy count changed from
201 in year 2001, to 134 in year 2002. Other rate increases are described
in paragraph 5, below.
5. INCREASED COST OF SETTLING CLAIMS: The Company loss and loss adjustment
expense costs have increased. Nonetheless, the Company's overall California
business continues to develop favorably in relationship to the risks
underwritten and to the premiums earned. The Company continues to monitor
and adjust its premium rates to assure that they are adequate. However,
certain California classes of business and types of coverage have been
identified as needing adjustment. For example, on December 19, 2002, the
Company filed for a 126% rate increase for casualty risk assumed under its
Bar/Tavern program policies, and on January 30, 2003, the Company filed for
a 132% rate increase for casualty risk assumed under its Apartments program
policies. These rate filings may or may not be approved by the insurance
department.
6. INCREASED COST OF REINSURANCE: On January 1, 2002 and 2003, the Company's
reinsurers raised their prices. The Company's regularly planned premium
increases are expected to help offset the added cost of reinsurance. To
help assure that the Company's reinsured exposures are underwritten at
adequate prices, it maintains its Increased Limits Factors ("ILF's") at
levels that are virtually the same as those of the Insurance Services
Office ("ISO"). The ISO was formed in 1971 through consolidation of six
national insurance rating or service organizations. Also, the Company plans
to study its ILF's during 2003 and to make adjustments where deemed
necessary.
7. MOLD EXPOSURE: The Company gained regulatory approval of a "Mold Exclusion"
form, which it began endorsing to all policies effective after January 29,
2003. That exclusion applies to both first and third party claims. Policies
issued prior to that time contained absolute pollution exclusions and
exclusions for deterioration, which historically acted to minimize the
Company's exposure to "mold" claims.
8. TERRORISM EXPOSURE: The Company implemented use of a Terrorism Exclusion
form in all of its California policies effective after October 11, 2002.
Also, the Company complies with the 2002 Federal Terrorist Act by offering
the coverage availed by that law, and it charges a premium to customers
electing that coverage.
9. MARKET CONDITIONS: The Company believes that market conditions have changed
during the past 24 months, becoming highly conducive for the achievement of
underwriting profits. The Company believes that it currently enjoys less
competition than it has since it began underwriting policies in 1985.
Primarily as a result of the underwriting losses in 2000 and 2001, the A.M. Best
Company lowered Crusader's rating from A (Excellent) to A- (Excellent) effective
March 26, 2002, based on financial information as of December 31, 2001. At the
time the rating was lowered, A.M. Best remained concerned with the potential for
further adverse loss reserve development and the negative impact it would have
on the Company's operating performance and overall capitalization, and viewed
the rating outlook as negative. Due to the continued adverse development in the
six months ended June 30, 2002, on October 3, 2002, A.M. Best Company lowered
Crusader's rating to B+ (Very Good) and continues to view its rating outlook as
negative. The Company does not believe that the lowering of Crusader's rating
from A- to B+ will have a material adverse effect on the Company.
Other Insurance Operations
- --------------------------
Health and Life Insurance Program
---------------------------------
Commission income from the health and life insurance sales of NIB and AIB is as
follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Commission income $2,741,672 $2,582,290 $2,625,193
NIB and AIB market health and life insurance through non-affiliated insurance
companies for individuals and groups. In 2002 and 2001 approximately 94% of the
health and life commission income was from the CIGNA HealthCare medical and
dental plan programs. Revenues for the year ended December 31, 2002, increased
$159,382 (6%) compared to the year ended December 31, 2001. The increase in
commissions is due to an
24
increase in premiums written in the CIGNA HealthCare programs as a result of
increased marketing efforts by AAQHC, which has increased membership of
individuals and groups.
In October 2003, CIGNA plans to discontinue its Individual and Family health
insurance programs to all policyholders in the state of California. Over the
next six months, AIB and AAQHC will assist this membership with the purchase of
new health coverage through another insurance carrier. AIB and AAQHC have
secured both commission and override commission relationships with other
carriers including Health Net and Nationwide (formerly CalFarm) and will
continue to diversify and offer a wider variety of products to its customers.
Overall, the commissions/overrides from other carriers are generally higher than
the commission structure paid by CIGNA.
Revenues for the year ended December 31, 2001, decreased $42,903 (2%) compared
to the year ended December 31, 2000. The decrease in commission income in the
health and life insurance programs is primarily due to a decrease in premiums
written in the CIGNA HealthCare programs as a result of increased competition in
the individual and group healthcare market.
Service Fee Income
------------------
Unifax sells and services insurance policies for Crusader. The service fee
charged to the policyholder by Unifax is recognized as income in the
consolidated financial statements. Service fee income of Unifax is as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Service fee income $2,241,883 $1,726,811 $1,654,735
Policies written 18,603 18,114 17,351
Service fee income increased $515,072 (30%) in the year ended December 31, 2002,
compared to the year ended December 31, 2001. The increase in service fee is
primarily due to an increase in the fee from $100 to $165 per policy written in
California. This increase was approved by California regulatory authorities on
June 21, 2002, and was implemented for policies effective on and after the
latter part of August 2002. The increase in service fee income is also related
to the number of policies written by Unifax. Policies issued increased by 489
(3%) in the year ended December 31, 2002, compared to the year ended December
31, 2001. Service fee income increased $72,076 (4%) and policies issued
increased by 763 (4%) in the year ended December 31, 2001, compared to the year
ended December 31, 2000.
Daily Automobile Rental Insurance Program
-----------------------------------------
The daily automobile rental insurance program is produced by Bedford. Bedford
receives a commission and a claim administration fee from a non-affiliated
insurance Company based on premium written. Commission and fee income from the
daily automobile rental insurance program are as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Daily auto rental program commission
and claim administration fee $722,536 $657,273 $741,662
Contingent commission 66,947 10,145 69,979
------- ------- ------
Total commission and fee income $789,483 $667,418 $811,641
======= ======= =======
Commission and fee income during the year ended December 31, 2002, were
$789,483, an increase of $122,065 (18%) compared to the same period of the prior
year. Revenue for the year ended December 31, 2001, decreased by $144,223 (18%)
compared to the year ended December 31, 2000.
The daily automobile rental insurance program commission and fee income
(excluding contingent commission) increased $65,263 (10%) in 2002 compared to
the year 2001. The daily automobile rental insurance program commission and fee
income (excluding contingent commission) decreased $84,389 (11%) in 2001
compared to the year 2000. The increase in commission income in the year ended
December 31, 2002, is primarily due to a 7% increase in written premium in 2002
which reversed the 10% decline in written premium in the year ended December 31,
2001. There is continued intense price competition in the daily automobile
rental insurance
25
program which is causing these fluctuations in the Company's written premium and
related commission income. To avoid underwriting losses for the non-affiliated
insurance Company that it represents, Bedford continues to produce business only
at rates which it believes to be adequate. The Company cannot determine how long
the existing market conditions will continue, nor in which direction they might
change.
The insurance claim administration operation generates all its business from
insurance policies effective on or prior to December 31, 2002, that were
produced by its sister company Bedford for a non-affiliated insurance company.
Approximately 10% of Bedford's commission from the non-affiliated insurance
company was charged and applied to the claim administration operation. This
amount will cease for insurance policies effective in 2003 and the
non-affiliated insurance company will assume the claim administration of these
policies. The unearned claim administration income of $300,000 as of December
31, 2002, is anticipated to be sufficient to cover the cost to complete the
claim administration on policies effective on or prior to December 31, 2002.
Association Operation
---------------------
Membership and fee income from the association program of AAQHC is as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Membership and fee income $424,784 $398,677 $397,157
Membership and fee income for the year ended December 31, 2002, increased
$26,107 (7%), compared to the year ended December 31, 2001. The increase is
primarily related to the increase in the membership base as a result of
increased marketing of the AAQHC's programs and benefits.
In October 2003, CIGNA will discontinue its Individual and Family health
insurance programs to all policyholders in the state of California. Due to this
change, AAQHC members who have these coverages will no longer be members of the
association and AAQHC's membership and fee income is expected to decrease by
approximately 70%. However, this decrease in AAQHC income is expected to be
substantially offset with higher commission/ override income earned by AIB from
non-CIGNA companies.
Revenue for 2001 and 2000 were relatively unchanged, as the membership base
remained constant.
Other Commission and Fee Income
-------------------------------
Other commission and fee income are as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Earthquake program commission income $51,576 $51,029 $15,993
Workers' compensation program
commission income $12,258 $19,730 $44,818
Commercial liability program
commission and fee income $(741) $62,839 $55,828
Miscellaneous fee income $109 $161 $128
------ ------- ------
Total other commission and fee income $63,202 $133,759 $116,767
====== ======= =======
Unifax began producing commercial earthquake insurance policies in California
for non-affiliated insurance companies in 1999. Unifax receives a commission
from these insurance companies based on premium written. Commission income on
the earthquake program for the year ended December 31, 2002, increased $547 (1%)
compared to the prior year. Commission income on earthquake policies increased
in the year ended December 31, 2001, as a result of the commencement of writing
policies with a new non-affiliated insurance Company in April of 2001.
Unifax produced workers' compensation policies primarily in California for
non-affiliated insurers and received a commission from them based on premium
written. Unifax discontinued its sales of workers' compensation insurance
policies for non-affiliated insurers in 2002. The Company continues to receive
commissions on policies
26
which were renewed in 2002. The Company's decision to discontinue selling this
business was due to underwriting constraints of the non-affiliated insurance
companies that limited the types and classes of business that they would accept.
These constraints resulted in the decrease in commission income in the years
ended December 31, 2002 and 2001.
Unifax began producing commercial liability insurance policies in California for
non-affiliated insurance companies in 1999. Unifax received a commission from
the insurance company based on premium written and a service fee from the
policyholder. Effective December 2001 the Company discontinued the program. The
Company took this action in order to better utilize its resources and focus on
those markets that offer the greatest potential for 2002 and beyond. Commission
and fee income on the commercial liability program decreased $63,580 in the year
ended December 31, 2002, compared to the prior year as a result of the
discontinuance of the program.
The commissions paid by Crusader to Unifax are eliminated as intercompany
transactions and are not reflected in commission income or commission expense.
Premium Finance Program
-----------------------
Premium finance charges and late fees earned from financing policies are as
follows:
Year ended December 31
----------------------
2002 2001 2000
----- ----- ----
Premium finance charges and
late fees earned $878,316 $868,496 $837,902
New loans 6,340 7,148 7,166
AAC provides premium financing primarily to Crusader policies produced by Unifax
in California. The growth of this program is dependent and directly related to
the growth of Crusader's written premium and AAC's ability to market its
competitive rates and service to finance those policies. Revenue increased
$9,820 (1%) in the year ended December 31, 2002, compared to the prior year
although there were 808 (11%) fewer loans financed in the current year. The
increase in revenue in 2002 is primarily due an increase of approximately 22% in
the amount of the average loan financed. Although AAC finances approximately 77%
of all Unifax policies financed, the percentage of all Unifax policies that are
financed decreased from approximately 49% in 2001 to approximately 44% in 2002.
Revenue for the year ended December 31, 2001, increased $30,594 (4%) compared to
the year ended December 31, 2000. The number of new loans decreased by 18 in the
year ending December 31, 2001 compared to the prior year. The increase in
revenues despite the decrease in the number of new loans in 2001 is primarily
due to the fact that the average policy loan being financed is approximately 6%
greater than the prior year. Although AAC finances approximately 80% of all
Unifax policies which are financed, the percentage of all Unifax policies which
are financed decreased from approximately 54% in 1999 to approximately 50% in
2000.
Investment Income and Net Realized Gains (Losses) Investment income and net
realized gains (losses) are as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Interest income
Insurance Company operations $5,401,870 $5,647,026 $5,764,094
Other operations 56,176 156,387 335,984
--------- --------- ---------
Total interest income 5,458,046 5,803,413 6,100,078
On investments
Net realized investment gains (losses 3,690 9,572 (135,389)
--------- --------- ---------
Total investment income and
realized gains (losses) $5,461,736 $5,812,985 $5,964,689
========= ========= =========
In the year ended December 31, 2002, while the Company's average invested assets
(at amortized value) increased $2,247,249 (2%) compared to the year ended
December 31, 2001, investment income earned (excluding net realized gains)
decreased $345,367 (6%) in the year ended December 31, 2002, compared to the
year ended December 31, 2001. The decrease in investment income is primarily the
result of a decline in the
27
average return on invested assets in the Company's investment portfolio due to
both a general decline in short and long-term yield in the marketplace and a
shorter weighted average maturity of the portfolio. Due to the current interest
rate environment, management believes it prudent to purchase fixed maturity
investments with shorter maturities and therefore, the weighted average maturity
of the Company's fixed maturity investments has decreased from 2.8 years as of
December 31, 2001, to 2.4 years as of December 31, 2002. In the year ended
December 31, 2002, the Company's average yield on invested assets (at amortized
value) was 5.53% compared to 6.02% at the year ended December 31, 2001. The
Company's average invested assets increased in the year ending December 31,
2002, primarily as a result of increased cash flows from operations. The mix of
taxable and tax-exempt securities in the portfolio affect the investment income
return percentage. Tax-exempt securities generally carry a lower yield than
taxable securities. These securities (at amortized value) decreased to
$2,731,060 (3% of total investments) at December 31, 2001, compared to
$8,213,141 (9% of total investments) at December 31, 2001.
Investment interest earned (excluding net realized gains) decreased $296,665
(5%) in the year ended December 31, 2001, compared to the year ended December
31, 2000, primarily as a result of a decrease in the average invested assets in
the Company's investment portfolio. In the year ended December 31, 2001, the
Company's average invested assets (at amortized value) decreased $5,299,460 (5%)
compared to the year ended December 31, 2000. The decrease in average invested
assets primarily resulted from the cash used from operations and from the sale
of U.S. treasury securities and other short-term investments to fund the
repurchase of the Company's common stock. There were no losses on the sale of
these securities. As of December 31, 2001 the cost of the stock repurchase plan
has been $5,517,465 (see Note 18 of Notes to Consolidated Financial Statements).
The Investment income return based on average invested assets was 6.02% for the
year ended December 31, 2001, compared to 6.00% for the year ended December 31,
2000. The mix of taxable and tax-exempt securities in the portfolio affect the
investment income return percentage. Tax-exempt securities generally carry a
lower yield than taxable securities. These securities (at amortized value)
decreased to $8,213,141 (9% of total investments) at December 31, 2001, compared
to $19,789,675 (20% of total investments) December 31, 2000.
The following table sets forth the composition of the investment portfolio of
the Company at the dates indicated:
(Amounts in Thousands)
As of December 31
-----------------
2002 2001 2000
---- ---- ----
Amortized Market Amortized Market Amortized Market
Type of Security Cost Value Cost Value Cost Value
- ---------------- ---- ----- ---- ----- ---- -----
Certificates of deposit $ 400 $ 400 $ 400 $ 400 $ 400 $ 400
U.S. treasury securities 17,518 17,925 5,459 5,802 7,995 8,192
Industrial and miscellaneous
taxable bonds 73,001 77,221 77,740 79,990 66,613 66,356
8 8 8
State and municipal tax-exempt bonds 2,731 2,828 8,213 8,436 19,790 20,035
-------- ------- -------- ------- ------ ------
Total fixed maturity investments 93,650 98,374 91,812 94,628 94,798 94,983
Short-term cash investments 9,024 9,024 2,864 2,864 3,355 3,355
Equity investments - - - - 26 26
------- ------- ------ ------ ------ ------
Total investments $102,674 $107,398 $94,676 $97,492 $98,179 $98,364
======= ======= ====== ====== ====== ======
The amortized cost and estimated market value of fixed maturity investments at
December 31, 2002, by contractual maturity are as follows. Expected maturities
will differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without penalties.
(Amounts in Thousands)
As of December 31, 2002
-----------------------
Amortized Market
Fixed maturities due Cost Value
Within 1 year $20,347 $20,786
Beyond 1 year but within 5 years 62,614 66,266
Beyond 5 years but within 10 years 10,689 11,321
------ ------
Total $93,650 $98,373
====== ======
28
At December 31, 2002, the Company held securities with unrealized appreciation
of $4,828,956 and securities with unrealized depreciation of $105,074. The
securities with unrealized depreciation consisted of four fixed maturity
investments with a total par value of $4,015,000. The Company does not deem the
unrealized depreciation to be significant or indicative of an
other-than-temporary decline, either individually, or in the aggregate. As of
February 28, 2003, only three of these securities had unrealized depreciation
which aggregated $49,929. Only one of these securities is rated below investment
grade and was in a loss position at December 31, 2001. This security has a par
value of $1,500,000, a maturity date of March 1, 2004, a Moody's rating of B3,
and a temporary unrealized loss at December 31, 2002, and February 28, 2003, of
$32,620 and $27,468, respectively. This security is a secured bond with respect
to which the Company does not expect to realize a loss.
The Company continually evaluates the recoverability of its investment holdings.
All securities held by the Company are rated. When a decline in value of fixed
maturities or equity securities is considered other than temporary, a loss is
recognized in the consolidated statement of operations. During 2002, the Company
realized a loss of $216 on one equity security where a decline in market value
was considered other than temporary. The Company had recognized a loss on this
equity security in 2001 of $25,704 and $138,250 in 2000. No securities were sold
at a loss during 2002, 2001 or 2000.
The Company sold one bond in the year ending December 31, 2002, and recognized a
short-term capital gain of $3,906. The single bond was sold in order to maintain
conformity with the Company's investment guidelines. In the year ending December
31, 2001, the Company sold three bonds and recognized a capital gain on each
sale aggregating $35,276. Two of these bonds were sold to maintain conformity
with the Company's investment guidelines, and one bond was sold to fund the
repurchase of the Company's common stock.
Operating Expenses
- ------------------
POLICY ACQUISITION COSTS consist of commissions, premium taxes, inspection fees,
and certain other underwriting costs that are directly related to and vary with
the production of Crusader insurance policies. These costs include both Crusader
expenses and allocated expenses of other Unico subsidiaries. On certain
reinsurance treaties, Crusader receives a ceding commission from its reinsurer
that represents a reimbursement of the acquisition costs related to the premium
ceded. No ceding commission is received on provisionally rated ceded premium.
Policy acquisition costs, net of ceding commission, are deferred and amortized
as the related premiums are earned. The ratio of policy acquisition cost to net
earned premium in 2000 was greater than the ratio in 2002 and 2001 primarily due
to changes in provisionally rated ceded premium which affects net earned
premium. The provisionally rated reinsurance contract was cancelled on a run off
basis on December 31, 1997. Policy acquisition costs, net of ceding commission,
are as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Policy acquisition costs $9,274,263 $8,695,037 $8,303,917
Ratio to net earned premium (GAAP ratio) 28% 29% 32%
SALARIES AND EMPLOYEE BENEFITS increased $52,241 (1%) for the year ended
December 31, 2002, compared to the year ended December 31, 2001. Salaries and
employee benefits increased $80,520 (2%) for the year ended December 31, 2001,
compared to the year ended December 31, 2000.
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Salaries and employee benefits $4,373,878 $4,321,637 $4,241,117
29
COMMISSIONS TO AGENTS/BROKERS (not including commissions on Crusader policies
that are reflected in policy acquisition costs) are generally related to gross
commission income from the health and life insurance program, the daily
automobile rental insurance program, the earthquake program and the commercial
liability program. Commissions to agents and brokers decreased $40,749 (3%) for
the year ended December 31, 2002, compared to the year ended December 31, 2001.
Commissions to agents and brokers decreased $49,431 (4%) for the year ended
December 31, 2001, compared to the year ended December 31, 2000.
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Commission to agents/brokers $1,219,310 $1,260,059 $1,309,490
OTHER OPERATING EXPENSES generally do not change significantly with changes in
production. This is true for both increases and decreases in production.
Operating expenses increased $361,961 (13%) for the year ended December 31,
2002, compared to the year ended December 31, 2001. The increase is primarily
the result of an increase in fees of $163,511 primarily associated with the
California Department of Insurance financial examination of Crusader and
increased legal expenses for general corporate purposes of $108,616.
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Other operating expenses $3,248,227 $2,886,266 $2,642,897
Income Taxes
- ------------
The income tax benefit for the year ended December 31, 2002, was $1,589,370
compared to an income tax benefit of $5,853,091 for the year ended December 31,
2001. The effective combined income tax rates for 2002 and 2001 were (33%) and
(35%), respectively. The pre-tax loss decreased $11,909,050 for the year ended
December 31, 2002, compared to the year ended December 31, 2001, which resulted
in a decreased income tax benefit in 2002. The income tax benefit for the year
ended December 31, 2001, was $5,853,091 compared to an income tax benefit of
$246,184 for the year ended December 31, 2000. The effective combined income tax
rates for 2001 and 2000 were (35%) and (127.2%), respectively. The pre-tax loss
was significantly higher in 2001 compared to 2000 which resulted in the
difference in the effective tax rates between 2001 and 2000. The income tax
benefit for 2002 and 2001 arises primarily from the Company's ability to recover
prior income taxes paid due to the carryback of current period net operating
losses (see Note 17 of Notes to Consolidated Financial Statements).
Recently Issued Accounting Standards
- ------------------------------------
In June 2001 the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations" ("SFAS No. 143"). This statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs; and it applies to legal
obligations associated with the retirement of long-lived assets that result from
the acquisition, construction, development and/or the normal operation of a
long-lived asset, except for certain obligations of lessees. Under SFAS No. 143,
a company is required to (1) record an existing legal obligation associated with
the retirement of a tangible long-lived asset as a liability when incurred and
the amount of the liability be initially measured at fair value, (2) recognize
subsequent changes in the liability that result from (a) the passage of time and
(b) revisions in either the timing or amount of estimated cash flows and (3)
upon initially recognizing a liability for an asset retirement obligation, an
entity shall capitalize the cost by recognizing an increase in the carrying
amount of the related long-lived asset. SFAS No. 143 is effective for financial
statements issued for fiscal years beginning after June 15, 2002, with earlier
application encouraged. The adoption of SFAS No. 143 will not have a material
impact on the financial statements.
In August 2001 the FASB issued Statement of Financial Accounting Standards No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS No.
144"). The objectives of SFAS No. 144 are to address significant issues relating
to the implementation of SFAS Statement No. 121 "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" ("SFAS No.
121") and to develop a single accounting model based on the framework
established in SFAS No. 121 for long-lived assets to be disposed of by sale
whether previously held and used or newly acquired. Even though SFAS No. 144
supersedes SFAS No. 121,
30
it retains the fundamental provisions of SFAS No. 121 for (1) the recognition
and measurement of the impairment of long-lived assets to be held and used and
(2) the measurement of long-lived assets to be disposed of by sale. SFAS No. 144
supersedes the accounting and reporting provisions of Accounting Principles
Board Opinion No. 30 "Reporting the Results of Operations--Reporting the Effects
of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions" ("APB No. 30") for segments of a
business to be disposed of. However, SFAS No. 144 retains the requirement of APB
No. 30 that entities report discontinued operations separately from continuing
operations and extends that reporting requirement to "a component of an entity"
that either has been disposed of (by sale, abandonment, or in a distribution to
owners) or is classified as "held for sale." SFAS No. 144 also amends the
guidance of Accounting Research Bulletin No. 51, "Consolidated Financial
Statements" to eliminate the exception to consolidation for a temporarily
controlled subsidiary. The provisions of SFAS No. 144 are effective for
financial statements issued for fiscal years beginning after December 15, 2001,
and interim periods within those fiscal years. The adoption of SFAS No. 144 did
not have a material effect on the Company's earnings or financial position.
In April 2002 the FASB issued Statement of Financial Accounting Standards No.
145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections" ("SFAS No. 145"). The objectives of
SFAS No. 145 are to eliminate an inconsistency between the required accounting
for sale-leaseback transactions and the required accounting for certain lease
modifications that have economic effects that are similar to sale-leaseback
transactions. SFAS No. 145 also amends other existing authoritative
pronouncements to make various technical corrections, clarify meanings, or
describe their applicability under changed conditions. The provisions of SFAS
No. 145 related to the rescission of Statement 4 are applicable to fiscal years
beginning after May 15, 2002. The provisions related to Statement 13 are
applicable to transactions occurring after May 15, 2002. All other provisions of
SFAS No. 145 are applicable to financial statements issued on or after May 15,
2002. Management of the Company anticipates that the adoption of SFAS No. 145
will not have a material effect on the Company's earnings or financial position.
In June 2002 the FASB issued Statement of Financial Accounting Standards No.
146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS
No. 146"), which addresses financial accounting and reporting for costs
associated with exit or disposal activities and nullifies Emerging Issues Task
Force Issue No. 94-3, "Liability Recognition for Certain Employee Terminations
Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred
in a Restructuring)" ("EITF 94-3"). SFAS No. 146 requires that a liability for a
cost associated with an exit or disposal activity be recognized when the
liability is incurred as opposed to the date of an entity's commitment to an
exit plan as required under EITF 94-3. SFAS No. 146 also requires that
measurement of the liability associated with exit or disposal activities be at
fair value. SFAS No. 146 is effective for the Company for exit or disposal
activities that are initiated after December 31, 2002. The adoption of SFAS No.
146 is not expected to have a material impact on the Company's financial
statements.
In October 2002 the FASB issued SFAS No. 147, "Acquisition of Certain Financial
Institutions" ("SFAS No. 147"), which addresses the financial accounting and
reporting for the acquisition of all or a part of a financial institution,
except for transactions between two or more mutual enterprises. Under SFAS No.
147, the acquisition of all or part of a financial institution that meets the
definition of a business combination shall be accounted for by the purchase
method in accordance with SFAS No. 141, Business Combinations. SFAS No. 147 also
provides guidance on accounting for the impairment or disposal of acquired
long-term customer-relationship intangible assets, including those acquired in
transactions between two or more mutual enterprises. SFAS No. 147 is effective
for acquisitions for which the date of acquisition is on or after October 1,
2002. The provisions related to accounting for the impairment or disposal of
acquired long-term customer-relationship intangible assets, including those
acquired in transactions between two or more mutual enterprises are effective on
October 1, 2002. Management of the Company anticipates that the adoption of SFAS
No. 147 is not expected to have a material impact on the Company's financial
statements.
In November 2002 the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others," which addresses the disclosures to be
made by a guarantor in its interim and annual financial statements about its
obligations under guarantees. This interpretation also clarifies the
requirements related to the recognition of a liability by a guarantor at the
inception of a guarantee for the obligations the guarantor has undertaken in
issuing that guarantee. The provisions related to the disclosure requirements to
be made by a guarantor are effective for financial statements
31
of interim and annual reporting periods ending after December 15, 2002. The
provisions related to the recognition of a liability and initial measurement
shall be applied prospectively to guarantees issued or modified after December
31, 2002, irrespective of the guarantor's fiscal year end. Management of the
Company anticipates that the adoption of this interpretation is not expected to
have a material impact on the Company's financial statements.
In December 2002 the FASB issued Statement of Financial Accounting Standards No.
148, "Accounting for Stock-Based Compensation--Transition and Disclosure" ("SFAS
No. 148") which amends SFAS Statement No. 123, "Accounting for Stock-Based
Compensation" ("SFAS No. 123"). The objective of SFAS No. 148 is to provide
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee compensation. SFAS No. 148 does
not change the provisions of SFAS No. 123 that permit entities to continue to
apply the intrinsic value method of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB No. 25"). In addition, this
statement amends the disclosure requirements of SFAS No. 123 to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of the
method used on reported results. The Company continues to maintain its
accounting for stock-based compensation in accordance with APB No. 25, but has
adopted the disclosure provisions of SFAS No. 148 (see Note 16 of Notes to
Consolidated Financial Statements).
In January 2003 the FASB issued FASB Interpretation No. 46, "Consolidation of
Variable Interest Entities, an Interpretation of Accounting Research Bulletin
No. 51" ("FIN No. 46"). FIN No. 46 requires existing unconsolidated variable
interest entities to be consolidated by their primary beneficiaries if the
entities do not effectively disperse risks among parties involved. FIN No. 46
applies immediately to variable interest entities created after January 31,
2003, and to variable interest entities in which an enterprise obtains an
interest after that date. It applies in the first fiscal year or interim period
beginning after June 15, 2003, to variable interest entities in which an
enterprise holds a variable interest that it acquired before February 1, 2003.
FIN No. 46 applies to public enterprises as of the beginning of the applicable
interim or annual period. FIN No. 46 may be applied prospectively with a
cumulative-effect adjustment as of the date on which it is first applied or by
restating previously issued financial statements for one or more years with a
cumulative-effect adjustment as of the beginning of the first year restated. The
implementation of FIN No. 46 is not expected to have a material impact on the
Company's financial statements.
Significant Accounting Policies
- -------------------------------
The preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported amounts of
certain assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. While every effort is made to
ensure the integrity of such estimates, actual results could differ.
Management believes the Company's current critical accounting policies comprise
the following:
Losses and Loss Adjustment Expenses
-----------------------------------
The preparation of the Company's financial statements requires judgments and
estimates. The most significant is the estimate of loss reserves as required by
Statement of Financial Accounting Standards No 60 ("SFAS No. 60"), "Accounting
and Reporting by Insurance enterprises" and Statement of Financial Accounting
Standards No. 5 ("SFAS No. 5"), "Accounting for Contingencies". Estimating loss
reserves is a difficult process as there are many factors that can ultimately
affect the final settlement of a claim and, therefore, the reserve that is
needed. Changes in the regulatory and legal environment, results of litigation,
medical costs, the cost of repair materials and labor rates can all impact
ultimate claim costs. In addition, time can be a critical part of reserving
determinations since the longer the span between the incidence of a loss and the
payment or settlement of the claim, the more variable the ultimate settlement
amount can be. Accordingly, short-tail claims, such as property damage claims,
tend to be more reasonably predictable than long-tail liability claims. The
liability for unpaid losses and loss adjustment expenses is based upon the
accumulation of individual case estimates for losses reported prior to the close
of the accounting period plus estimates based on experience and industry data
for development of case estimates and for unreported losses and loss adjustment
expenses. Since the emergence and disposition of claims are subject to
uncertainties, the net amounts that will ultimately be paid to settle claims may
vary significantly from the estimated amounts provided for in the accompanying
consolidated financial statements. Any adjustments to reserves are reflected in
the
32
operating results of the periods in which they are made. Management believes
that the aggregate reserves for losses and loss adjustment expenses are
reasonable and adequate to cover the cost of claims, both reported and
unreported.
Investments
-----------
In accordance with Statement of Financial Accounting Standard No. 115,
Accounting for Certain Investments in Debt and Equity Securities, the Company is
required to classify its investments in debt and equity securities into one of
three categories: held-to-maturity, available-for-sale or trading securities.
Although all of the Company's investments are classified as available-for-sale
and although the Company may sell investment securities from time to time in
response to economic and market conditions, its investment guidelines place
primary emphasis on buying and holding high-quality investments to maturity.
Short-term investments are carried at cost, which approximates market value.
Investments in equity securities are carried at market value. The unrealized
gains or losses from fixed maturities and equity securities are reported as
accumulated other comprehensive income (loss) which is a separate component of
stockholders' equity, net of any deferred tax effect. When a decline in value of
a fixed maturity or equity security is considered other than temporary, a loss
is recognized in the consolidated statements of operations. Realized gains and
losses are included in the consolidated statements of operations based on the
specific identification method.
Related Party Transactions
- --------------------------
The Company presently occupies a 46,000 square foot building located at 23251
Mulholland Drive, Woodland Hills, California, under a master lease expiring
March 31, 2007. The lease provides for an annual gross rent of $1,025,952. Erwin
Cheldin, the Company's president, chairman and principal stockholder, is the
owner of the building. On February 22, 1995, the Company signed an extension to
the lease with no increase in rent to March 31, 2007. The Company believes that
the terms of the lease at inception and at the time the lease extension was
signed were at least as favorable to the Company as could have been obtained
from non-affiliated third parties. The Company utilizes for its own operations
100% of the space it leases.
On November 15, 2002, the Company borrowed $500,000 from Erwin Cheldin, a
director and the Company's principal shareholder, president and chief executive
officer, and $250,000 from The Cary and Danielle Cheldin Family Trust. Cary L.
Cheldin is a director and the Company's executive vice president. The notes are
due and payable upon demand of lender (on no less than fourteen days' notice)
and, if no demand is made, then the notes are payable in full on November 15,
2006. The notes may be prepaid at any time without penalty. The notes are
unsecured and bear interest at 8% per annum, with interest payable monthly.
Proceeds of the notes and available cash from the Company's other operations
were used by Unico to make a capital contribution of $1,500,000 to its Crusader
subsidiary. This contribution was made to insure that Crusader's capital
remained above $25,000,000.
Forward Looking Statements
- --------------------------
Certain statements contained herein, including the Sections entitled "Business,"
"Legal Proceedings" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations," that are not historical facts are forward
looking. These statements, which may be identified by forward looking words or
phrases such as "anticipate," "appears," "believe," "estimates," "expect,"
"intend," "may," "should," and "would," involve risks and uncertainties, many of
which are beyond the control of the Company. Such risks and uncertainties could
cause actual results to differ materially from these forward looking statements.
Factors which could cause actual results to differ materially include those
described under Item 1 - Business - "Competition"; premium rate adequacy
relating to competition or regulation; actual versus estimated claim experience;
success of the Company's underwriting and pricing actions that it believes
addresses the adverse development on its construction defect, apartment house
habitability, special risk class of business, and non-California liquor
liability claims; the outcome of existing and planned filings with regulatory
authorities seeking rate increases; acceptance by insureds of rate increases;
adequacy of rate increases; possible reductions in Crusader's A.M. Best rating;
regulatory changes or developments; the outcome of regulatory proceedings;
unforeseen calamities; general market conditions; and the Company's ability to
introduce new profitable products.
33
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
- --------------------------------------------------------------------
The Company's consolidated balance sheet includes a substantial amount of
invested assets whose fair values are subject to various market risk exposures
including interest rate risk and equity price risk.
The Company's invested assets at December 31, 2002 and 2001 consisted of the
following:
2002 2001
---- ----
Fixed maturity bonds (at amortized cost) $93,249,468 $91,411,859
Short-term cash investments (at cost) 9,024,382 2,863,622
Equity securities (at cost) - 216
Certificates of deposit - over 1 year (at cost) 400,000 400,000
----------- ----------
Total invested assets $102,673,850 $94,675,697
=========== ==========
The Company's interest rate risk is primarily in its fixed maturity bond
portfolio. As market interest rates decrease, the value of the portfolio
increases with the opposite holding true in rising interest rate environments.
In addition, the longer the maturity, the more sensitive the asset is to market
interest rate fluctuations. The Company limits this risk by investing in
securities with maturities no greater than eight years. In addition, although
fixed maturity bonds are classified as available-for-sale, the Company's
investment guidelines place primary emphasis on buying and holding high-quality
bonds to maturity. Since inception of the Company, only ten bonds have been sold
prior to their maturity or call date. Because fixed maturity bonds are primarily
held to maturity, the change in the market value of these bonds resulting from
interest rate movements are unrealized and no gains or losses are recognized in
the consolidated statements of operations. Unrealized gains and losses are
reported as separate components of stockholders' equity, net of any deferred tax
effect. As of December 31, 2002, the Company's unrealized gains (net of
unrealized losses) before income taxes on its fixed maturity bond portfolio was
$4,723,882. As of December 31, 2001, the Company's unrealized gains (net of
unrealized losses) before income taxes on its fixed maturity bond portfolio was
$2,816,423. Given a hypothetical parallel increase of 100 basis points in
interest rates, the fair value of the fixed maturity bond portfolio would
decrease by approximately $2.1 million. This decrease would not be reflected in
the statements of operations except to the extent that the securities were sold.
The Company's short-term investments and certificates of deposit have only
minimal interest rate risk.
34
Item 8. Financial Statements and Supplementary Data
- ----------------------------------------------------
INDEX TO
CONSOLIDATED FINANCIAL STATEMENTS
Page
Number
------
Independent Auditors' Report 36
Consolidated Balance Sheets as of December 31, 2002, and
December 31, 2001 37
Consolidated Statements of Operations for the years ended
December 31, 2002, December 31, 2001, and December 31, 2000 38
Consolidated Statements of Comprehensive Income for the years
ended December 31, 2002, December 31, 2001, and December 31, 2000 39
Consolidated Statements of Changes in Stockholders' Equity for the
years ended December 31, 2002, December 31, 2001, and
December 31, 2000 40
Consolidated Statements of Cash Flows for the years ended
December 31, 2002, December 31, 2001, and December 31, 2000 41
Notes to Consolidated Financial Statements 42
35
INDEPENDENT AUDITORS' REPORT
----------------------------
The Board of Directors
Unico American Corporation:
We have audited the accompanying consolidated balance sheets of Unico American
Corporation and subsidiaries as of December 31, 2002 and 2001, and the related
consolidated statements of operations, comprehensive income, changes in
stockholders' equity and cash flows for each of the years in the three-year
period ended December 31, 2002. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Unico American
Corporation and subsidiaries as of December 31, 2002 and 2001, and the results
of their operations and their cash flows for each of the years in the three-year
period ended December 31, 2002, in conformity with accounting principles
generally accepted in the United States of America.
KPMG LLP
Los Angeles, California
March 21, 2003
36
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31 December 31
2002 2001
---- ----
ASSETS
Investments
Available for sale:
Fixed maturities, at market value (amortized cost: December 31,
2002 $93,649,468; December 31, 2001 $91,811,859) $98,373,350 $94,628,282
Equity securities at market (cost: December 31, 2002
$0; December 31, 2001 $216) - 216
Short-term investments, at cost 9,024,382 2,863,622
----------- ----------
Total Investments 107,397,732 97,492,120
Cash 19,766 45,001
Accrued investment income 1,470,333 1,768,058
Premiums and notes receivable, net 6,699,909 6,248,327
Reinsurance recoverable:
Paid losses and loss adjustment expenses 2,805,048 732,054
Unpaid losses and loss adjustment expenses 21,308,339 10,748,080
Prepaid reinsurance premiums 95,304 37,683
Deferred policy acquisition costs 5,947,010 5,079,535
Property and equipment (net of accumulated depreciation) 354,194 267,426
Deferred income taxes 57,951 556,251
Income taxes receivable 1,548,827 5,398,939
Other assets 982,192 449,799
----------- -----------
Total Assets $148,686,605 $128,823,273
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Unpaid losses and loss adjustment expenses $74,905,284 $60,534,295
Unearned premiums 24,381,583 19,328,150
Advance premium and premium deposits 1,607,272 1,083,995
Notes payable - related parties 750,000 -
Accrued expenses and other liabilities 8,633,476 7,256,457
----------- ----------
Total Liabilities $110,277,615 $88,202,897
----------- ----------
STOCKHOLDERS' EQUITY
Common stock, no par - authorized 10,000,000 shares,
issued and outstanding shares 5,489,533 at
December 31, 2002, and 5,481,288 at December 31, 2001 $2,700,272 $2,671,415
Accumulated other comprehensive income 3,117,762 1,858,839
Retained earnings 32,590,956 36,090,122
---------- ----------
Total Stockholders' Equity $38,408,990 $40,620,376
---------- ----------
Total Liabilities and Stockholders' Equity $148,686,605 $128,823,273
=========== ===========
See accompanying notes to consolidated financial statements.
37
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31
2002 2001 2000
---- ---- ----
REVENUES
Insurance Company Revenues
Premium earned $40,568,845 $35,409,174 $32,743,165
Premium ceded 7,209,573 5,515,330 6,843,931
---------- ---------- -----------
Net premium earned 33,359,272 29,893,844 25,899,234
Net investment income 5,401,870 5,647,026 5,764,094
Net realized investment gains (losses) 3,690 6,359 (137,897)
Other income 49,038 16,399 46,639
---------- ---------- ----------
Total Insurance Company Revenues 38,813,870 35,563,628 31,572,070
Other Revenues from Insurance Operations
Gross commissions and fees 6,261,024 5,508,955 5,605,493
Investment income 56,176 156,387 335,984
Net realized investment gains - 3,213 2,508
Finance charges and late fees earned 878,316 868,496 837,902
Other income 19,256 16,227 13,992
---------- ---------- ----------
Total Revenues 46,028,642 42,116,906 38,367,949
---------- ---------- ----------
EXPENSES
Losses and loss adjustment expenses 32,727,023 41,677,016 21,676,915
Policy acquisition costs 9,274,263 8,695,037 8,303,917
Salaries and employee benefits 4,373,878 4,321,637 4,241,117
Commissions to agents/brokers 1,219,310 1,260,059 1,309,490
Other operating expenses 3,248,227 2,886,266 2,642,897
---------- ---------- ----------
Total Expenses 50,842,701 58,840,015 38,174,336
---------- ---------- ----------
Income (Loss) Before Taxes (4,814,059) (16,723,109) 193,613
Income Tax (Benefit) (1,589,370) (5,853,091) (246,184)
--------- --------- -------
Net Income (Loss) $(3,224,689) $(10,870,018) $439,797
========= ========== =======
PER SHARE DATA:
Basic Shares Outstanding 5,487,311 5,505,398 6,058,674
Basic Earnings (Loss) Per Share $(0.59) $(1.97) $0.07
Diluted Shares Outstanding 5,487,311 5,505,398 6,101,692
Diluted Earnings (Loss) Per Share $(0.59) $(1.97) $0.07
See accompanying notes to consolidated financial statements.
38
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
STATEMENTS OF COMPREHENSIVE INCOME
FOR THE YEARS ENDED DECEMBER 31
2002 2001 2000
---- ---- ----
Net income (loss) $(3,224,689) $(10,870,018) $439,797
Other changes in comprehensive income,
net of tax:
Unrealized gains on securities
classified as available-for-sale arising
during the period 1,261,358 1,743,127 1,299,381
Less: reclassification adjustment for
(gains) losses included in net income (2,435) (6,093) 91,011
--------- --------- ---------
Comprehensive Income (Loss) $(1,965,766) $(9,132,984) $1,830,189
========= ========= =========
See accompanying notes to consolidated financial statements.
39
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 and 2000
Accumulated
Common Shares Other
--------------------------- Comprehensive
Issued and Income Retained
Outstanding Amount (Losses) Earnings Total
----------- ------ ------ -------- -----
Balance - December 31, 1999 6,304,953 $3,098,389 $(1,086,565) $52,828,973 $54,840,797
Net shares issued for exercise of
stock options 16,307 13 - - 13
Shares canceled or adjusted 39 - - - -
Shares repurchased (628,600) (308,908) - (3,821,160) (4,130,068)
Cash dividend paid ($0.15 per
share) - - - (945,580) (945,580)
Change in comprehensive income,
net of deferred income tax - - 1,208,370 - 1,208,370
Net income - - - 439,797 439,797
--------- --------- --------- ---------- ----------
Balance - December 31, 2000 5,692,699 $2,789,494 $121,805 $48,502,030 $51,413,329
========= ========= ======= ========== ==========
Net shares issued for exercise of
stock options 28,827 37 - - 37
Shares canceled or adjusted 120 - - - -
Shares repurchased (240,358) (118,116) - (1,269,281) (1,387,397)
Cash dividend paid ($0.05 per
share) - - - (272,609) (272,609)
Change in comprehensive income,
net of deferred income tax - - 1,737,034 - 1,737,034
Net (loss) - - - (10,870,018) (10,870,018)
--------- --------- --------- ---------- ----------
Balance - December 31, 2001 5,481,288 $2,671,415 $1,858,839 $36,090,122 $40,620,376
========= ========= ========= ========== ==========
Net shares issued for exercise of
stock options 8,245 28,857 - - 28,857
Cash dividend paid ($0.05
per share) - - - (274,477) (274,477)
Change in comprehensive income,
net of deferred income tax - - 1,258,923 - 1,258,923
Net (loss) - - - (3,224,689) (3,224,689)
--------- --------- --------- ---------- ----------
Balance - December 31, 2002 5,489,533 $2,700,272 $3,117,762 $32,590,956 $38,408,990
========= ========= ========= ========== ==========
See accompanying notes to consolidated financial statements.
40
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31
2002 2001 2000
---- ---- ----
Cash flows from operating activities:
Net income (loss) $(3,224,689) $(10,870,018) $439,797
Adjustments to reconcile net income to net cash from operations
Depreciation and amortization 84,951 71,205 68,632
Bond amortization, net 376,657 349,597 526,030
Net realized (gain) loss on sale of securities (3,690) (9,572) 135,389
Changes in assets and liabilities
Premium, notes and investment income receivable (153,857) (300,107) (158,917)
Reinsurance recoverable (12,633,253) (415,593) (7,080,367)
Prepaid reinsurance premiums (57,621) (8,152) 2,907
Deferred policy acquisitions costs (867,475) (579,388) (161,930)
Other assets (532,394) (4,694,674) (511,153)
Reserve for unpaid losses and loss adjustment expenses 14,370,989 15,316,926 3,624,880
Unearned premium reserve 5,053,433 2,228,223 516,784
Advance premium and premium deposits 523,277 (1,232,021) (255,174)
Accrued expenses and other liabilities 1,377,019 (642,722) 1,508,042
Income taxes current/deferred (150,235) (502,645) (29,694)
Federal income tax recoverable 3,850,112 (5,398,939) -
--------- --------- ---------
Net Cash Provided (Used) from Operations 8,013,224 (1,288,941) (1,374,774)
--------- --------- ---------
Investing Activities
Purchase of fixed maturity investments (19,300,366) (17,806,300) (9,736,357)
Proceeds from maturity of fixed maturity investments 15,086,100 19,083,025 11,505,400
Proceeds from sale of fixed maturity investments 2,003,906 1,365,055 2,008,594
Net (increase) decrease in short-term investments (6,160,760) 521,849 2,656,211
Additions to property and equipment (171,719) (224,524) (34,072)
---------- --------- ---------
Net Cash Provided (Used) by Investing Activities (8,542,839) 2,939,105 6,399,776
--------- --------- ---------
Financing Activities
Proceeds from issuance of common stock 28,857 37 13
Proceeds from notes payable - related parties 750,000 - -
Repurchase of common stock - (1,387,397) (4,130,068)
Dividends paid to shareholders (274,477) (272,609) (945,580)
------- --------- ---------
Net Cash Provided (Used) by Financing Activities 504,380 (1,659,969) (5,075,635)
------- --------- ---------
Net (decrease) in cash (25,235) (9,805) (50,633)
Cash at beginning of year 45,001 54,806 105,439
------ ------ -------
Cash at End of Year $19,766 $45,001 $54,806
====== ====== ======
Supplemental cash flow information Cash paid during the period for:
Interest $6,575 $75 $25,417
Income taxes $150,636 $65,584 $245,414
See accompanying notes to consolidated financial statements.
41
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- ---------------------------------------------------
Nature of Business
- ------------------
Unico American Corporation is an insurance holding company that underwrites
property and casualty insurance through its insurance company subsidiary;
provides property, casualty, health and life insurance through its agency
subsidiaries; and provides insurance premium financing, claim administration
services, and membership association services through its other subsidiaries.
Unico American Corporation is referred to herein as the "Company" or "Unico" and
such references include both the corporation and its subsidiaries, all of which
are wholly owned, unless otherwise indicated. Unico was incorporated under the
laws of Nevada in 1969.
Principles of Consolidation
- ---------------------------
The consolidated financial statements include the accounts of Unico American
Corporation and its subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.
Basis of Presentation
- ---------------------
The consolidated financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America
("GAAP"). As described in Note 15, the Company's insurance subsidiary also files
financial statements with regulatory agencies prepared on a statutory basis of
accounting that differs from GAAP.
Use of Estimates
- ----------------
The preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported amounts of
certain assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. While every effort is made to
ensure the integrity of such estimates, actual results could differ.
Investments
- -----------
All of the Company's fixed maturity investments are classified as
available-for-sale and are stated at market value. Although all of the Company's
investments are classified as available-for-sale and the Company may sell
investment securities from time to time in response to economic and market
conditions, its investment guidelines place primary emphasis on buying and
holding high-quality investments to maturity. Short-term investments are carried
at cost, which approximates market value. Investments in equity securities are
carried at market value. The unrealized gains or losses from fixed maturities
and equity securities are reported as accumulated other comprehensive income
(loss) which is a separate component of stockholders' equity, net of any
deferred tax effect. When a decline in value of a fixed maturity or equity
security is considered other than temporary, a loss is recognized in the
consolidated statements of operations. Realized gains and losses are included in
the consolidated statements of operations based on the specific identification
method.
The Company had net unrealized investment gains of $3,117,762 as of December 31,
2002, and net unrealized investment gains of $1,858,839 as of December 31, 2001.
These amounts are net of deferred taxes.
Property and Equipment
- ----------------------
Property and equipment are stated at cost less accumulated depreciation.
Depreciation is computed using accelerated depreciation methods over the
estimated useful lives of the related assets.
Income Taxes
- ------------
The provision for federal income taxes is computed on the basis of income as
reported for financial reporting purposes. Deferred income taxes reflect the net
tax effects of temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for income tax
purposes, and are measured using the enacted tax rates and laws expected to
apply to taxable income in the years in which
42
those temporary differences are expected to be recovered or settled. Income tax
expense provisions increase or decrease in the same period in which a change in
tax rates is enacted.
Fair Value of Financial Instruments
- -----------------------------------
The Company has used the following methods and assumptions in estimating its
fair value disclosures:
Investment Securities - Fair values for fixed maturity securities are
obtained from a national quotation service. The fair values for equity
securities are based on quoted market prices.
Cash and Short-Term Investments - The carrying amounts reported in the
balance sheet for these instruments approximate their fair values.
Premiums and Notes Receivable - The carrying amounts reported in the
balance sheet for these instruments approximate their fair values.
Earnings Per Share
- ------------------
Basic earnings per share excludes the impact of common share equivalents and are
based upon the weighted average common shares outstanding. Diluted earnings per
share utilizes the average market price per share when applying the treasury
stock method in determining common share dilution. When dilutive, outstanding
stock options are treated as common share equivalents for purposes of computing
diluted earnings per share and represent the difference between basic and
diluted weighted average shares outstanding.
Revenue Recognition
- -------------------
a. General Agency Operations
-----------------------------
Commissions and service fees due the Company are recognized as income on
the effective date of the insurance policies.
b. Insurance Company Operations
--------------------------------
Premiums are earned on a pro-rata basis over the terms of the policies.
Premiums applicable to the unexpired terms of policies in force are
recorded as unearned premiums. The Company earns a commission on policies
that are ceded to its reinsurers. This commission is considered earned on a
pro-rata basis over the terms of the policies.
c. Insurance Premium Financing Operations
------------------------------------------
Premium finance interest is charged to policyholders who choose to finance
insurance premiums. Interest is charged at rates that vary with the amount
of premium financed. Premium finance interest is recognized using a method
which approximates the interest (actuarial) method.
d. Insurance Claim Administration Operation
--------------------------------------------
Claim administration income is based on premium written for non-affiliated
insurers by the Company's wholly owned subsidiary Bedford Insurance
Services, Inc. Income is recognized on the effective date of the insurance
policies and a liability is recognized for the estimated cost of completing
the administration of all current and future claims that are covered by
these policies.
Losses and Loss Adjustment Expenses
- -----------------------------------
The liability for unpaid losses and loss adjustment expenses is based upon the
accumulation of individual case estimates for losses reported prior to the close
of the accounting period plus estimates based on experience and industry data
for development of case estimates and for unreported losses and loss adjustment
expenses.
There is a high level of uncertainty inherent in the evaluation of the required
loss and loss adjustment expense reserves for the Company. The long-tailed
nature of liability claims and the volatility of jury awards exacerbates that
uncertainty. Crusader sets loss and loss adjustment expense reserves at each
balance sheet date at management's best estimate of the ultimate payments that
it anticipates will be made to settle all losses incurred and related expenses
incurred as of that date for both reported and unreported losses. The ultimate
cost of claims is dependent upon future events, the outcomes of which are
affected by many factors. Company claim reserving
43
procedures and settlement philosophy, current and perceived social and economic
inflation, current and future court rulings and jury attitudes, improvements in
medical technology, and many other economic, scientific, legal, political, and
social factors all can have significant effects on the ultimate costs of claims.
Changes in Company operations and management philosophy also may cause actual
developments to vary from the past. Since the emergence and disposition of
claims are subject to uncertainties, the net amounts that will ultimately be
paid to settle claims may vary significantly from the estimated amounts provided
for in the accompanying consolidated financial statements. Any adjustments to
reserves are reflected in the operating results of the periods in which they are
made. Management believes that the aggregate reserves for losses and loss
adjustment expenses are reasonable and adequate to cover the cost of claims,
both reported and unreported.
Restricted Funds
- ----------------
Restricted funds are as follows:
Year ended December 31
----------------------
2002 2001
---- ----
Restricted Funds:
Premium trust funds (1) $1,114,403 $1,529,996
Assigned to state agencies (2) 2,725,000 2,725,000
--------- ---------
Total restricted funds $3,839,403 $4,254,996
========= =========
(1) As required by law, the Company segregates from its operating
accounts the premiums collected from insurers which are payable to
insurance companies into separate trust accounts. These amounts are
included in cash and short-term investments.
(2) Included in fixed maturity investments are statutory deposits
assigned to and held by the California State Treasurer and the
Insurance Commissioner of the state of Nevada. These deposits are
required for writing certain lines of business in California and for
admission in states other than California.
Deferred Policy Acquisition Costs
- ---------------------------------
Policy acquisition costs consist of costs associated with the production of
insurance policies such as commissions, premium taxes, and certain other
underwriting expenses which vary with and are primarily related to the
production of the insurance policy. Policy acquisition costs are deferred and
amortized as the related premiums are earned and are limited to their estimated
realizable value based on the related unearned premiums plus investment income
less anticipated losses and loss adjustment expenses. Ceding commission
applicable to the unexpired terms of policies in force is recorded as unearned
ceding commission, which is included in deferred policy acquisition costs.
Reinsurance
- -----------
The Company cedes reinsurance to provide for greater diversification of
business, to allow management to control exposure to potential losses arising
from large risks by reinsuring certain levels of risk in various areas of
exposure, to reduce the loss that may arise from catastrophes, and to provide
additional capacity for growth. Prepaid reinsurance premiums and reinsurance
receivables are reported as assets and represent ceded unearned premiums and
reinsurance recoverable on both paid and unpaid losses, respectively. Amounts
recoverable from reinsurers are estimated in a manner consistent with the claim
liability associated with the reinsured policies.
Segment Reporting
- -----------------
Statement of Financial Accounting Standards No. 131 ("SFAS No. 131"),
Disclosures about Segments of an Enterprise and Related Information, became
effective for fiscal years effective after December 15, 1997. SFAS No. 131
establishes standards for the way information about operating segments is
reported in financial statements. The Company has identified its insurance
company operation as its primary reporting segment. Revenues from this segment
comprised 84.3% of consolidated revenues in the year ended December 31, 2002,
84.4% of consolidated revenues in the year ended December 31, 2001, and 82.3%
for the year ended December 31, 2000. The Company's remaining operations
constitute a variety of specialty insurance services, each with unique
characteristics and individually insignificant to consolidated revenues.
44
The insurance company operation is conducted through the Company's wholly owned
subsidiary Crusader Insurance Company, ("Crusader") which as of December 31,
2002, was licensed as an admitted insurance carrier in the states of Arizona,
California, Colorado, Idaho, Montana, Nevada, Ohio, Oregon and Washington.
Crusader is a multiple-line property and casualty insurance company which began
transacting business on January 1, 1985. As of December 31, 2002, 97% of
Crusader's business was commercial multiple peril business package insurance
policies. Commercial multiple peril policies provide a combination of property
and liability coverage for businesses. Commercial property coverages insure
against loss or damage to buildings, inventory and equipment from natural
disasters, including hurricanes, windstorms, hail, water, explosions, severe
winter weather and other events such as theft and vandalism, fires and storms
and financial loss due to business interruption resulting from covered property
damage. Commercial liability coverages insure against third party liability from
accidents occurring on the insured's premises or arising out of its operations,
such as injuries sustained from products sold or operation of the insured
premises. In addition to commercial multiple peril policies, Crusader also
writes separate policies to insure commercial property and commercial liability
risks on a mono-line basis.
Revenues, income before income taxes and assets by segment are as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Revenues
- --------
Insurance company operation $38,813,870 $35,563,628 $31,572,070
---------- ---------- ----------
Other insurance operations 20,469,400 17,799,932 16,715,332
Intersegment elimination (1) (13,254,628) (11,246,654) (9,919,453)
---------- ---------- ---------
Total other insurance operations 7,214,772 6,553,278 6,795,879
--------- --------- ---------
Total revenues $46,028,642 $42,116,906 $38,367,949
========== ========== ==========
Income (loss) before income taxes
- ---------------------------------
Insurance company operation $(7,069,522) $(17,570,829) $(237,593)
Other insurance operations 2,255,463 847,720 431,206
--------- ---------- -------
Total income (loss) before income taxes $(4,814,059) $(16,723,109) $193,613
========= ========== =======
Assets
- ------
Insurance company operation $131,574,608 $109,293,988 $108,959,681
Intersegment eliminations (2) (1,245,711) (1,647,653) (528,196)
----------- ----------- -----------
Total insurance company operation 130,328,897 107,646,335 108,431,485
Other insurance operations 18,357,708 21,176,938 15,514,335
----------- ----------- -----------
Total assets $148,686,605 $128,823,273 $123,945,820
=========== =========== ===========
(1) Intersegment revenue eliminations reflect commissions paid by Crusader to
Unifax.
(2) Intersegment asset eliminations reflect the elimination of Crusader
receivables and Unifax payables.
Concentration of Risks
- ----------------------
In 2002 approximately 93% of Crusader's gross premium written was derived from
California. In 2002, approximately 94% of the $2,714,672 commission income from
the Company's health and life insurance program was from CIGNA HealthCare
medical and dental plan programs. At December 31, 2002, the Company's
reinsurance recoverable on paid and unpaid losses and loss adjustment expenses
of $24,113,387 were from Partners Reinsurance of the U.S. and General
Reinsurance Corporation, both California admitted companies rated A+ and A++
respectively by A.M. Best Company.
45
Stock-Based Compensation
- ------------------------
The Company applies APB Opinion No. 25 in accounting for its incentive stock
option plans. Accordingly, no compensation cost has been recognized in the
accompanying statements of operations. Had compensation cost for the Company's
stock-based compensation plan been reflected in the accompanying consolidated
financial statements based on the fair value at the grant dates for option
awards consistent with the method of SFAS 123, the Company's net income would
have been reduced to the pro forma amounts indicated below:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Net income (loss)
As reported $(3,224,689) $(10,870,018) $439,797
Pro forma $(3,275,995) $(10,886,339) $394,960
Income (loss) per share
As reported $(0.59) $(1.97) $0.07
Pro forma $(0.60) $(1.98) $0.07
Income (loss) per share - assuming dilution:
As reported $(0.59) $(1.97) $0.07
Pro forma $(0.60) $(1.98) $0.06
Calculations of the fair value under the method prescribed by SFAS No. 123 were
made using the Black-Scholes Option-Price Model with the following weighted
average assumptions used for the 1999 and 2002 grants:
2002 1999
---- ----
Dividend yield 1.40% 2.46%
Expected volatility 34% 43%
Expected lives 10 Years 10 Years
Risk-free interest rates 4.05% 6.09%
Fair value of options granted $1.32 $4.30
Recently Issued Accounting Standards
- ------------------------------------
In June 2001 the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards No. 143, "Accounting for Asset Retirement
Obligations" ("SFAS No. 143"). This statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs; and it applies to legal
obligations associated with the retirement of long-lived assets that result from
the acquisition, construction, development and/or the normal operation of a
long-lived asset, except for certain obligations of lessees. Under SFAS No. 143,
a company is required to (1) record an existing legal obligation associated with
the retirement of a tangible long-lived asset as a liability when incurred and
the amount of the liability be initially measured at fair value, (2) recognize
subsequent changes in the liability that result from (a) the passage of time and
(b) revisions in either the timing or amount of estimated cash flows and (3)
upon initially recognizing a liability for an asset retirement obligation, an
entity shall capitalize the cost by recognizing an increase in the carrying
amount of the related long-lived asset. SFAS No. 143 is effective for financial
statements issued for fiscal years beginning after June 15, 2002, with earlier
application encouraged. The adoption of SFAS No. 143 will not have a material
impact on the financial statements.
46
In August 2001 the FASB issued Statement of Financial Accounting Standards No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS No.
144"). The objectives of SFAS No. 144 are to address significant issues relating
to the implementation of SFAS Statement No. 121 "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" ("SFAS No.
121") and to develop a single accounting model based on the framework
established in SFAS No. 121 for long-lived assets to be disposed of by sale
whether previously held and used or newly acquired. Even though SFAS No. 144
supersedes SFAS No. 121, it retains the fundamental provisions of SFAS No. 121
for (1) the recognition and measurement of the impairment of long-lived assets
to be held and used and (2) the measurement of long-lived assets to be disposed
of by sale. SFAS No. 144 supersedes the accounting and reporting provisions of
Accounting Principles Board Opinion No. 30 "Reporting the Results of
Operations--Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions" ("APB
No. 30") for segments of a business to be disposed of. However, SFAS No. 144
retains the requirement of APB No. 30 that entities report discontinued
operations separately from continuing operations and extends that reporting
requirement to "a component of an entity" that either has been disposed of (by
sale, abandonment, or in a distribution to owners) or is classified as "held for
sale." SFAS No. 144 also amends the guidance of Accounting Research Bulletin No.
51, "Consolidated Financial Statements" to eliminate the exception to
consolidation for a temporarily controlled subsidiary. The provisions of SFAS
No. 144 are effective for financial statements issued for fiscal years beginning
after December 15, 2001, and interim periods within those fiscal years. The
adoption of SFAS No. 144 did not have a material effect on the Company's
earnings or financial position.
In April 2002 the FASB issued Statement of Financial Accounting Standards No.
145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections" ("SFAS No. 145"). The objectives of
SFAS No. 145 are to eliminate an inconsistency between the required accounting
for sale-leaseback transactions and the required accounting for certain lease
modifications that have economic effects that are similar to sale-leaseback
transactions. SFAS No. 145 also amends other existing authoritative
pronouncements to make various technical corrections, clarify meanings, or
describe their applicability under changed conditions. The provisions of SFAS
No. 145 related to the rescission of Statement 4 are applicable to fiscal years
beginning after May 15, 2002. The provisions related to Statement 13 are
applicable to transactions occurring after May 15, 2002. All other provisions of
SFAS No. 145 are applicable to financial statements issued on or after May 15,
2002. Management of the Company anticipates that the adoption of SFAS No. 145
will not have a material effect on the Company's earnings or financial position.
In June 2002 the FASB issued Statement of Financial Accounting Standards No.
146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS
No. 146"), which addresses financial accounting and reporting for costs
associated with exit or disposal activities and nullifies Emerging Issues Task
Force Issue No. 94-3, "Liability Recognition for Certain Employee Terminations
Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred
in a Restructuring)" ("EITF 94-3"). SFAS No. 146 requires that a liability for a
cost associated with an exit or disposal activity be recognized when the
liability is incurred as opposed to the date of an entity's commitment to an
exit plan as required under EITF 94-3. SFAS No. 146 also requires that
measurement of the liability associated with exit or disposal activities be at
fair value. SFAS No. 146 is effective for the Company for exit or disposal
activities that are initiated after December 31, 2002. The adoption of SFAS No.
146 is not expected to have a material impact on the Company's financial
statements.
In October 2002 the FASB issued SFAS No. 147, "Acquisition of Certain Financial
Institutions" ("SFAS No. 147"), which addresses the financial accounting and
reporting for the acquisition of all or a part of a financial institution,
except for transactions between two or more mutual enterprises. Under SFAS No.
147, the acquisition of all or part of a financial institution that meets the
definition of a business combination shall be accounted for by the purchase
method in accordance with SFAS No. 141, Business Combinations. SFAS No. 147 also
provides guidance on accounting for the impairment or disposal of acquired
long-term customer-relationship intangible assets, including those acquired in
transactions between two or more mutual enterprises. SFAS No. 147 is effective
for acquisitions for which the date of acquisition is on or after October 1,
2002. The provisions related to accounting for the impairment or disposal of
acquired long-term customer-relationship intangible assets, including
47
those acquired in transactions between two or more mutual enterprises are
effective on October 1, 2002. Management of the Company anticipates that the
adoption of SFAS No. 147 is not expected to have a material impact on the
Company's financial statements.
In November 2002 the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others," which addresses the disclosures to be
made by a guarantor in its interim and annual financial statements about its
obligations under guarantees. This interpretation also clarifies the
requirements related to the recognition of a liability by a guarantor at the
inception of a guarantee for the obligations the guarantor has undertaken in
issuing that guarantee. The provisions related to the disclosure requirements to
be made by a guarantor are effective for financial statements of interim and
annual reporting periods ending after December 15, 2002. The provisions related
to the recognition of a liability and initial measurement shall be applied
prospectively to guarantees issued or modified after December 31, 2002,
irrespective of the guarantor's fiscal year end. Management of the Company
anticipates that the adoption of this interpretation is not expected to have a
material impact on the Company's financial statements.
In December 2002 the FASB issued Statement of Financial Accounting Standards No.
148, "Accounting for Stock-Based Compensation--Transition and Disclosure" ("SFAS
No. 148") which amends SFAS Statement No. 123, "Accounting for Stock-Based
Compensation" ("SFAS No. 123"). The objective of SFAS No. 148 is to provide
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee compensation. SFAS No. 148 does
not change the provisions of SFAS No. 123 that permit entities to continue to
apply the intrinsic value method of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB No. 25"). In addition, this
statement amends the disclosure requirements of SFAS No. 123 to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of the
method used on reported results. The Company continues to maintain its
accounting for stock-based compensation in accordance with APB No. 25, but has
adopted the disclosure provisions of SFAS No. 148 (see Note 16 of Notes to
Consolidated Financial Statements).
In January 2003 the FASB issued FASB Interpretation No. 46, "Consolidation of
Variable Interest Entities, an Interpretation of Accounting Research Bulletin
No. 51" ("FIN No. 46"). FIN No. 46 requires existing unconsolidated variable
interest entities to be consolidated by their primary beneficiaries if the
entities do not effectively disperse risks among parties involved. FIN No. 46
applies immediately to variable interest entities created after January 31,
2003, and to variable interest entities in which an enterprise obtains an
interest after that date. It applies in the first fiscal year or interim period
beginning after June 15, 2003, to variable interest entities in which an
enterprise holds a variable interest that it acquired before February 1, 2003.
FIN No. 46 applies to public enterprises as of the beginning of the applicable
interim or annual period. FIN No. 46 may be applied prospectively with a
cumulative-effect adjustment as of the date on which it is first applied or by
restating previously issued financial statements for one or more years with a
cumulative-effect adjustment as of the beginning of the first year restated. The
implementation of FIN No. 46 is not expected to have a material impact on the
Company's financial statements.
NOTE 2 - ADVANCE PREMIUM AND PREMIUM DEPOSITS
- ---------------------------------------------
Some of the Company's health and life programs require payments of premium prior
to the effective date of coverage; and, accordingly, invoices are sent out as
early as two months prior to the coverage effective date. Insurance premiums
received for coverage months effective after the balance sheet date are recorded
as advance premiums. The Company received deposits to guarantee the payment of
premiums for past coverage months on its daily automobile rental program. These
deposits are required when information such as gross receipts or number of
rental cars is required to compute the actual premium due, but is not available
until after the coverage month.
48
NOTE 3 - INVESTMENTS
- ---------------------
The Company manages its own investment portfolio. A summary of net investments
and related income is as follows:
Investment income is summarized as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Fixed maturities $5,354,707 $5,628,698 $5,848,248
Short-term investments 103,339 174,720 251,930
--------- --------- ---------
Total investment income 5,458,046 5,803,418 6,100,178
Less investment expenses - 5 100
--------- --------- ---------
Net investment income $5,458,046 $5,803,413 $6,100,078
========= ========= =========
Net realized investment gains and (losses) are summarized as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Gross realized gains on
fixed maturities: $3,906 $35,276 $ 2,861
Gross realized (losses)
on equity securities: (216) (25,704) (138,250)
--- ------ -------
Net realized investment gains (losses) $3,690 $ 9,572 $(135,389)
===== ===== =======
A summary of the unrealized appreciation (depreciation) on investments carried
at market and the applicable deferred federal income taxes is shown below:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Gross unrealized appreciation
of fixed maturities: $4,828,956 $3,030,903 $936,589
Gross unrealized (depreciation)
of fixed maturities: (105,074) (214,480) (752,036)
--------- --------- -------
Net unrealized appreciation
on investments 4,723,882 2,816,423 184,553
Deferred federal tax (expense) (1,606,120) (957,584) (62,748)
--------- --------- -------
Net unrealized appreciation,
net of deferred income taxes $3,117,762 $1,858,839 $121,805
========= ========= =======
The amortized cost and estimated market value of fixed maturity investments at
December 31, 2002, by contractual maturity are as follows. Expected maturities
will differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without penalties.
Amortized Estimated
Cost Market Value
---- ------------
Due in one year or less $20,346,601 $20,786,476
Due after one year through five years 62,614,363 66,265,536
Due after five years through ten years 10,688,504 11,321,338
---------- ----------
Total fixed maturities $93,649,468 $98,373,350
========== ==========
49
The amortized cost and estimated market values of investments in fixed maturities by categories are as follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---- ----- ------ -----
December 31, 2002
- -----------------
Available for sale:
Fixed maturities
----------------
Certificates of deposit $ 400,000 $ - $ - $ 400,000
U.S. treasury securities 17,517,578 407,279 - 17,924,857
State and municipal tax-exempt bonds 2,731,060 97,156 313 2,827,903
Industrial and miscellaneous taxable bonds 73,000,830 4,324,521 104,761 77,220,590
---------- --------- ------- ----------
Total fixed maturities $93,649,468 $4,828,956 $105,074 $98,373,350
========== ========= ======= ==========
December 31, 2001
- -----------------
Available for sale:
Fixed maturities
----------------
Certificates of deposit $ 400,000 $ - $ - $ 400,000
U.S. treasury securities 5,459,019 343,358 - 5,802,377
State and municipal tax-exempt bonds 8,213,141 223,133 48 8,436,226
Industrial and miscellaneous taxable bonds 77,739,699 2,464,412 214,432 79,989,679
---------- --------- ------- ----------
Total fixed maturities $91,811,859 $3,030,903 $214,480 $94,628,282
========== ========= ======= ==========
Short-term investments have an initial maturity of one year or less and consist
of the following:
Year ended December 31
----------------------
2002 2001
---- ----
Certificates of deposit $ 225,000 $ 225,000
Commercial paper 1,525,000 -
Commercial bank money market accounts 724,842 2,050,006
U.S. government obligation money market fund 6,546,602 585,699
Savings account 2,938 2,917
--------- ---------
Total short-term investments $9,024,382 $2,863,622
========= =========
NOTE 4 - PROPERTY AND EQUIPMENT (NET OF ACCUMULATED DEPRECIATION)
- ----------------------------------------------------------------
Property and equipment consist of the following:
Year ended December 31
----------------------
2002 2001
---- ----
Furniture, fixtures, computer, office,
and transportation equipment $1,768,856 $1,779,293
Accumulated depreciation 1,414,662 1,511,867
--------- ---------
Net property and equipment $ 354,194 $ 267,426
======= =======
50
NOTE 5 - PREMIUMS AND NOTES RECEIVABLE, NET
- -------------------------------------------
Premiums and notes receivable are substantially secured by unearned premiums
and funds held as security for performance.
Year ended December 31
----------------------
2002 2001
---- ----
Premiums receivable $2,364,150 $2,268,702
Premium finance notes receivable 4,350,685 4,002,347
--------- ---------
Total premiums and notes receivable 6,714,835 6,271,049
Less allowance for doubtful accounts 14,926 22,722
--------- ---------
Net premiums and notes receivable $6,699,909 $6,248,327
========= =========
Bad debt expense for the fiscal year ended December 31, 2002, and the fiscal
year ended December 31, 2001, was $25,857 and $27,759, respectively. Premium
finance notes receivable represent the balance due to the Company's premium
finance subsidiary from policyholders who elect to finance their premiums over
the policy term. These notes are net of unearned finance charges.
NOTE 6 - NOTE PAYABLE - BANK
- ----------------------------
Unico had a $2,000,000 line of credit with Union Bank of California. Interest on
this line was referenced as the Bank's LIBOR rate plus 1.75% per annum and is
payable monthly. The agreement contained certain covenants including maintenance
of certain financial ratios. As of December 31, 2001, the Company did not meet
the covenant requiring a tangible net worth of at least $45,000,000. The Company
did not utilize this credit line in 2002 or 2001. This credit line expired on
November 4, 2002. Although the bank amended the agreement on July 8, 2002 to
reduce the tangible net worth requirement to $35,000,000, the Company did not
renew the line.
NOTE 7 - NOTES PAYABLE - RELATED PARTIES
- ----------------------------------------
On November 15, 2002 the Company borrowed $500,000 from Erwin Cheldin, a
director and the Company's principal shareholder, president and chief executive
officer and $250,000 from The Cary and Danielle Cheldin Family Trust. Cary L.
Cheldin is a director and the Company's executive vice president. The notes are
due and payable upon demand of lender (on no less than fourteen days' notice)
and, if no demand is made, then the notes are payable in full on November 15,
2006. The notes may be prepaid at any time without penalty. The notes are
unsecured and bear interest at 8% per annum with interest payable monthly.
Year ended December 31
----------------------
2002 2001
---- ----
Note payable - Erwin Cheldin $500,000 $-
Note payable - The Cary and
Danielle Cheldin Family Trust 250,000 -
------- -
Notes payable - related parties $750,000 $-
======= =
NOTE 8 - UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
- ---------------------------------------------------
The following table provides an analysis of the roll forward of Crusader's
losses and loss adjustment expenses, including a reconciliation of the ending
balance sheet liability for the periods indicated:
51
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Reserve for unpaid losses and loss adjustment expenses
at beginning of year - net of reinsurance $49,786,215 $34,546,026 $37,628,165
---------- ---------- ----------
Incurred losses and loss adjustment expenses
Provision for insured events of current year 24,936,172 22,350,667 17,406,284
Increase in provision for events of prior years (*) 7,790,851 19,326,349 4,270,631
---------- ---------- ----------
Total losses and loss adjustment expenses 32,727,023 41,677,016 21,676,915
---------- ---------- ----------
Payments
Losses and loss adjustment expenses attributable to
insured events of the current year 5,905,678 5,595,410 6,013,830
Losses and loss adjustment expenses attributable to
insured events of prior years 23,010,615 20,841,417 18,745,224
---------- ---------- ----------
Total payments 28,916,293 26,436,827 24,759,054
---------- ---------- ----------
Reserve for unpaid losses and loss adjustment expenses
at end of year - net of reinsurance $53,596,945 $49,786,215 $34,546,026
Reinsurance recoverable on unpaid losses and loss
Adjustment expenses at end of year 21,308,339 10,748,080 10,671,343
---------- ---------- ----------
Reserve for unpaid losses and loss adjustment expenses at
end of year per balance sheet - gross of reinsurance $74,905,284 $60,534,295 $45,217,369
========== ========== ==========
The Company`s consolidated financial statements include estimated reserves for
unpaid losses and related claim settlement or loss adjustment expenses of our
insurance company operation. Crusader sets loss and loss adjustment expense
reserves at each balance sheet date at management's best estimate of the
ultimate payments that it anticipates will be made to settle all losses incurred
and related expenses incurred as of that date for both reported and unreported
losses. The process of estimating loss and loss adjustment reserves involves
significant judgment and is complex and imprecise due to the number of variables
and assumptions inherent in the estimating process. Crusader establishes
reserves for reported losses based on historical experience, upon case-by-case
evaluation of facts surrounding each known loss, and the related policy
provisions. The amount of reserves for unreported losses is estimated by
analysis of historical and statistical information. Reserves are monitored and
adjusted when appropriate and reflected in the statement of operations in the
period of adjustment.
The Company believed that it had adequately addressed its estimate of ultimate
losses as of December 31, 2001, and anticipated that underwriting changes in
problematic business such as reducing coverages, modifying policy forms, more
restrictive underwriting, reductions in non-California business, and increasing
rates would be reflected in the 2002 development. However, continued adverse
development in 2002 indicated that the underwriting changes implemented through
December 31, 2001, were not sufficient to fully address the losses primarily
occurring on accident years 1999 through 2001 on the Company's business outside
of California (primarily liquor and premises liability), and on the Company's
special risk class of business. Liquor liability claims arise from the liability
of tavern owners related to the sale of alcoholic beverages. The Company's
special risk class of business represents risks written within current
underwriting programs that have a higher degree of exposure and require special
pricing and underwriting. Based on the development in 2002 primarily on the
business discussed above, the Company increased its estimate of ultimate losses
for accident years 1999 and subsequent. The adverse development in 2002 for
accident years 1998 and prior was primarily due to higher than anticipated cost
of construction defect and apartment house habitability claims. Construction
defect claims arise from the liability of contractors for their defective work
in the construction of habitation structures (such as apartments, condominiums
and single-family dwellings) or commercial type structures. Apartment house
habitability claims arise from uninhabitable conditions related to dilapidated
structures and insect and vermin infestation.
52
In light of the adverse development in 2001, the Company increased the frequency
and scope of its reserve studies. The continued adverse development in 2002,
discussed above, was first observed in June 2002 when the Company determined
that losses for accident years 2002 and 2001 were developing higher than
anticipated and the underwriting actions had not mitigated loss exposure to the
extent previously estimated. Of the total adverse development in 2002 of
$7,790,851, $6,332,812 was reflected as of June 30, 2002. Adverse development of
prior years losses in 2002 represented 15.6% of net reserves as of December 31,
2001.
Adverse (favorable) development of prior years losses in 2002 by line of
business are as follows:
Accident Years ended December 31
--------------------------------------------------------------------------
2001 2000 1999 1998 and Prior Total
---- ---- ---- -------------- -----
Line of Business
- ----------------
CMP $2,022,752 $2,812,554 $1,078,477 $1,769,710 $7,683,493
Other Liability 30,152 31,387 49,877 136,328 247,744
Other (136,557) (32,605) (6,999) 35,775 (140,386)
--------- --------- --------- --------- ----------
Total $1,916,347 $2,811,336 $1,121,355 $1,941,813 $7,790,851
========= ========= ========= ========= =========
In the years ended December 31, 2001 and 2000, the Company increased its
estimates of ultimate losses for both reported and unreported claims primarily
occurring from 1998 through 2000 and from 1993 through 1995 (the years most
impacted by construction defect claims). Adverse development of prior years'
losses of $19,326,349 as of December 31, 2001, and $4,270,631 as of December 31,
2000, was primarily the result of an increase in the Company's estimate of
ultimate reported and unreported claims for construction defect claims,
non-California liquor liability claims and apartment house habitational type of
claims.
The increase in incurred losses and loss adjustment expenses recognized in 2001
and 2000 was primarily due to the following:
1. Higher than anticipated claim cost from business outside of California.
2. The effect on settlements of escalating jury awards.
3. The effect on settlements in apartment house habitability claims due to
a statute that provides for payment of plaintiff attorney fees without
regard to policy limits.
4. Increased development of losses due to the impact of changes in
California law that expanded coverage and increased loss exposure
primarily on construction defect claims for losses incurred prior to
the Company's revision in its policy form in 1995.
Reserves for losses and loss adjustment expenses by line of business before
reinsurance are as follows:
Year ended December 31
----------------------
2002 2001 2000
---------------------- --------------------- ----------------------
Line of Business
- ----------------
CMP $69,111,825 92.3% $56,215,479 92.9% $40,830,294 90.3%
Other Liability $5,564,214 7.4% $4,004,449 6.6% $4,016,673 8.9%
Other $229,245 0.3% $314,367 0.5% $370,402 0.8%
---------- ----- ---------- ------ ---------- ------
Total $74,905,284 100.0% $60,534,295 100.0% $45,217,369 100.0%
========== ====== ========== ====== ========== ======
NOTE 9 - DEFERRED POLICY ACQUISITION COSTS
- ------------------------------------------
Deferred policy acquisition costs consist of commissions (net of ceding
commission), premium taxes, inspection fees, and certain other underwriting
costs which are related to and vary with the production of Crusader policies.
Policy acquisition costs are deferred and amortized as the related premiums are
earned. Deferred acquisition costs are reviewed to determine if they are
recoverable from future income, including investment income.
53
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Deferred policy acquisition costs at beginning of year $5,079,535 $4,500,147 $4,338,217
Policy acquisition costs incurred during year 10,141,738 9,274,425 8,465,847
Policy acquisition costs amortized during year (9,274,263) (8,695,037) (8,303,917)
--------- --------- ---------
Deferred policy acquisition costs at end of year $5,947,010 $5,079,535 $4,500,147
========= ========= =========
NOTE 10 - LEASE COMMITMENT TO RELATED PARTY
- -------------------------------------------
The Company presently occupies a 46,000 square foot building located at 23251
Mulholland Drive, Woodland Hills, California, under a master lease expiring
March 31, 2007. The total rent expense under this lease agreement was $1,025,952
for the year ended December 31, 2002; $1,025,952 for the year ended December 31,
2001; and $1,025,952 for the year ended December 31, 2000.
The lease provides for the following minimum annual rental commitments:
Year ending
-----------
December 31, 2003 $1,025,952
December 31, 2004 $1,025,952
December 31, 2005 $1,025,952
December 31, 2006 $1,025,952
December 31, 2007 (through March 31, 2007) $ 256,488
---------
Total minimum payments $4,360,296
=========
Erwin Cheldin, the Company's president, chairman, and principal stockholder, is
the owner of the building. On February 22, 1995, the Company signed an extension
to the lease with no increase in rent to March 31, 2007. The Company believes
that the terms of the lease at inception and at the time the lease extension was
signed were at least as favorable to the Company as could have been obtained
from non-affiliated third parties. The Company utilizes for its own operations
100% of the space it leases.
NOTE 11 - ACCRUED EXPENSES AND OTHER LIABILITIES
- ------------------------------------------------
Accrued expenses and other liabilities consist of the following:
Year ended December 31
----------------------
2002 2001
---- ----
Premium payable $4,708,648 $5,487,753
Unearned claim administration income 300,000 300,000
Profit sharing contributions 291,144 292,900
Accrued salaries 451,347 469,690
Security purchases payable
(settlement date in 2003) 2,000,000 -
Other 882,337 706,114
--------- ---------
Total accrued expenses and other liabilities $8,633,476 $7,256,457
========= =========
NOTE 12 - COMMITMENT AND CONTINGENCIES
- --------------------------------------
The Company, by virtue of the nature of the business conducted by it, becomes
involved in numerous legal proceedings as either plaintiff or defendant. The
Company is also required to resort to legal proceedings from time to time in
order to enforce collection of premiums, commissions, or fees for the services
rendered to customers or to their agents. These routine items of litigation do
not materially affect the Company and are handled on a routine basis by the
Company through its general counsel.
54
Likewise, the Company is sometimes named as a cross-defendant in litigation
which is principally directed against that insurer who has issued a policy of
insurance directly or indirectly through the Company. Incidental actions are
sometimes brought by customers or others which relate to disputes concerning the
issuance or non-issuance of individual policies. These items are also handled on
a routine basis by the Company's general counsel, and they do not materially
affect the operations of the Company. Management is confident that the ultimate
outcome of pending litigation should not have an adverse effect on the Company's
consolidated operation or financial position.
Due to a recent California court ruling that affects the tax years 1997 through
2002, the Company may be assessed for additional tax by the California Franchise
Tax Board as a result of the dividends received deduction that the Company
utilized for those periods. See Note 17.
NOTE 13 - REINSURANCE
- ---------------------
A reinsurance transaction occurs when an insurance company transfers ("cedes") a
portion of its exposure on business written by it to a reinsurer which assumes
that risk for a premium ("ceded premium"). Reinsurance does not legally
discharge the Company from primary liability under its policies. If the
reinsurer fails to meet its obligations, the Company must nonetheless pay its
policy obligations. The Company's reinsurance agreements help protect Crusader
against liabilities in excess of certain retentions, including major or
catastrophic losses which may occur from any one or more of the property and/or
casualty risks which Crusader insures. The Company continually monitors and
evaluates the liquidity and financial strength of its reinsurers to determine
their ability to fulfill obligations assumed under the reinsurance contracts.
The Company has no reinsurance recoverable balances in dispute.
A reinsurance transaction occurs when an insurance company transfers ("cedes") a
portion of its exposure on business written by it to a reinsurer that assumes
that risk for a premium ("ceded premium"). Reinsurance does not legally
discharge the Company from primary liability under its policies. If the
reinsurer fails to meet its obligations, the Company must nonetheless pay its
policy obligations. In 2003, Crusader's primary excess of loss reinsurance
agreements are with QBE Reinsurance Corporation (A.M. Best Rating A), St. Paul
Fire & Marine Insurance Co. (A.M. Best Rating A), Hannover Ruckversicherungs
(A.M. Best Rating A+), Mapfre Reinsurance Corporation (A.M. Best Rating A), and
Chubb Re, Inc. (A.M. Best Rating A++). From 2000 to 2002, Crusader has had its
primary excess of loss reinsurance agreements with Partners Reinsurance Company
of the U.S., a California admitted reinsurer rated A+ by the A.M. Best Company.
In 1999, Crusader had its primary excess of loss reinsurance agreements with
General Reinsurance Corporation, a California admitted reinsurer rated A++ by
the A.M. Best Company. Crusader also has catastrophe reinsurance from various
highly rated California admitted and Bermuda reinsurance companies. These
reinsurance agreements help protect Crusader against liabilities in excess of
certain retentions, including major or catastrophic losses that may occur from
any one or more of the property and/or casualty risks which Crusader insures. .
The Company has no reinsurance recoverable balances in dispute.
On most of the premium that Crusader cedes to the reinsurer, the reinsurer pays
a commission to Crusader which includes a reimbursement of the cost of acquiring
the portion of the premium which is ceded. Crusader does not currently assume
any reinsurance. The Company intends to continue obtaining reinsurance although
the availability and cost may vary from time to time. The unpaid losses ceded to
the reinsurer are recorded as an asset on the balance sheet.
55
The effect of reinsurance on premiums written, premiums earned, and incurred
losses is as follows:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Premiums written:
Direct business $45,622,280 $37,637,396 $33,259,948
Reinsurance assumed - - -
Reinsurance ceded (7,259,079) (5,531,221) (6,853,383)
---------- ---------- ----------
Net premiums written $38,363,201 $32,106,175 $26,406,565
========== ========== ==========
Premiums earned:
Direct business $40,568,845 $35,409,174 $32,743,165
Reinsurance assumed - - -
Reinsurance ceded (7,209,573) (5,515,330) (6,843,931)
---------- ---------- ----------
Net premiums earned $33,359,272 $29,893,844 $25,899,234
========== ========== ==========
Incurred losses and loss
adjustment expenses:
Direct $54,352,403 $52,939,238 $34,225,322
Assumed - - -
Ceded (21,625,380) (11,262,222) (12,548,407)
---------- ---------- ----------
Net incurred losses
and loss adjustment
expenses $32,727,023 $41,677,016 $21,676,915
========== ========== ==========
NOTE 14 - PROFIT SHARING PLAN
- -----------------------------
During the fiscal year ended March 31, 1986, the Company adopted the Unico
American Corporation Profit Sharing Plan. Employees who are at least 21 years of
age and have been employed by the Company for at least two years are
participants in the Plan. Pursuant to the terms of the Plan, the Company
annually contributes to the account of each participant an amount equal to a
percentage of the participant's eligible compensation as determined by the Board
of Directors. Participants are entitled to receive benefits under the plan upon
the later of the following: the date 60 days after the end of the plan year in
which the participant's retirement occurs or one year and 60 days after the end
of the plan year following the participant's termination with the Company.
However, the participant's interest must be distributed in its entirety no later
than April 1 of the calendar year following the calendar year in which the
participant attains age 70 1/2 or otherwise in accordance with the Treasury
Regulations promulgated under the Internal Revenue Code of 1954 as amended.
Employer contributions to the plan were as follows:
Year ended December 31, 2002 $434,789
Year ended December 31, 2001 $554,111
Year ended December 31, 2000 $624,388
NOTE 15 - STATUTORY CAPITAL AND SURPLUS
- ---------------------------------------
Crusader is required to file an annual statement with insurance regulatory
authorities prepared on an accounting basis prescribed or permitted by such
authorities ("statutory"). Statutory accounting practices differ in certain
respects from GAAP. The more significant of these differences for statutory
accounting are (a) premium income is taken into earnings over the periods
covered by the policies, whereas the related acquisition and commission costs
are expensed when incurred; (b) fixed maturity securities are reported at
amortized cost, or the lower of amortized cost or market value, depending on the
quality of the security as specified by the NAIC; (c) equity securities are
valued by the NAIC as required by Statutory Accounting Principles d)
non-admitted assets are charged directly against surplus; (e) loss reserves and
unearned premium reserves are stated net of reinsurance; and (f) federal income
taxes are recorded when payable and deferred taxes, subject to limitations, are
recognized but only to the extent that they do not exceed 10% of statutory
surplus; changes in deferred taxes are recorded
56
directly to surplus as regards policyholders. Additionally, the cash flow
presentation is not consistent with GAAP and a reconciliation from net income to
cash provided by operations is not presented. Comprehensive income is not
presented under statutory accounting.
Crusader Insurance Company statutory capital and surplus are as follows:
As of December 31, 2002 $26,258,452
As of December 31, 2001 $27,519,538
Crusader Insurance Company statutory net income (loss) is as follows:
Year ended December 31, 2002 $(5,331,777)
Year ended December 31, 2001 $(12,110,967)
Year ended December 31, 2000 $214,787
The California Department of Insurance has completed its financial examination
of Crusader's December 31, 2001, statutory financial statements. The report on
the examination is pending finalization by the insurance department. The Company
does not expect any material adjustments to Crusaders statutory financial
statements.
The Company believes that Crusader's statutory capital and surplus were
sufficient to support the insurance premiums written based on guidelines
established by the NAIC.
Crusader is restricted in the amount of dividends it may pay to its parent in
any twelve (12) month period without prior approval of the California Department
of Insurance. Presently, without prior approval, Crusader may pay a dividend in
any twelve (12) month period to its parent equal to the greater of (a) 10% of
Crusader's statutory policyholders' surplus or (b) Crusader's statutory net
income for the preceding calendar year. The maximum dividend that may be made
without prior approval as of December 31, 2002, is $2,625,845. There were no
dividends paid by Crusader to Unico in 2002 or in 2001. Crusader paid dividends
of $1,500,000 to Unico in 2000.
In December 1993, the National Association of Insurance Commissioners ("NAIC")
adopted a Risk-Based Capital ("RBC") Model Law for property and casualty
companies. The RBC Model Law is intended to provide standards for calculating a
variable regulatory capital requirement related to a company's current
operations and its risk exposures (asset risk, underwriting risk, credit risk
and off-balance sheet risk). These standards are intended to serve as a
diagnostic solvency tool for regulators that establishes uniform capital levels
and specific authority levels for regulatory intervention when an insurer falls
below minimum capital levels. The RBC Model Law specifies four distinct action
levels at which a regulator can intervene with increasing degrees of authority
over a domestic insurer if its RBC is equal to or less than 200% of its computed
authorized control level RBC. A company's RBC is required to be disclosed in its
statutory annual statement. The RBC is not intended to be used as a rating or
ranking tool nor is it to be used in premium rate making or approval. Crusader's
adjusted capital at December 31, 2002, was 370% of authorized control level
risk-based capital.
Insurance Regulatory Information System ("IRIS") was developed by a committee of
state insurance regulators primarily to assist state insurance departments in
executing their statutory mandate to oversee the financial condition of
insurance companies. IRIS helps those companies that merit highest priority in
the allocation of the regulators' resources on the basis of 12 financial ratios
that are calculated annually. The analytical phase is a review of annual
statements and the financial ratios. The ratios and trends are valuable in
pointing to companies likely to experience financial difficulties, but are not
themselves indicative of adverse financial condition. The ratio and benchmark
comparisons are mechanically produced and are not intended to replace the state
insurance departments' own in-depth financial analysis or on-site examinations.
57
An unusual range of ratio results has been established from studies of the
ratios of companies that have become insolvent or have experienced financial
difficulties. In the analytical phase, all companies that receive four or more
financial ratio values outside the usual range are analyzed in order to identify
those companies that appear to require immediate regulatory action.
Subsequently, a more comprehensive review of the ratio results and an insurer's
annual statement is performed to confirm that an insurer's situation calls for
increased or close regulatory attention.
In 2002, the Company was outside the usual values of 4 of the 12 IRIS ratio
tests, primarily as a result of adverse losses and loss adjustment expenses
development. The IRIS ratio test outside the usual values were the Two Year
Overall Operating Ratio, One Year Reserve Development to Surplus, Two Year
Reserve Development to Surplus, and Estimated Current Reserve Deficiency to
Surplus.
NOTE 16 - STOCK PLANS
- ---------------------
The Company's 1985 stock option plan provided for the grant of incentive stock
options to officers and key employees. The plan covered an aggregate of
1,500,000 shares of the Company's common stock (subject to adjustment in the
case of stock splits, reverse stock splits, stock dividends, etc.). As of
December 31, 2002, all of the options under this plan were exercised or
terminated. Options granted under this plan had a life of either 5 or 10 years
and had a vesting period from immediate to 9 years. All options were granted at
fair market value. There are no additional options available for future grant
under the 1985 plan.
The Company's 1999 Omnibus Stock Plan that covers 500,000 shares of the
Company's common stock (subject to adjustment in the case of stock splits,
reverse stock splits, stock dividends, etc.) was approved by shareholders June
4, 1999. On August 26, 1999, the Company granted 135,000 incentive stock options
of which 30,000 were terminated and 105,000 were outstanding as of December 31,
2002. These options expire 10 years from the date of the grant and were not
exercisable prior to September 1, 2000. Options covering 10,000 or less shares
become exercisable at the rate of 2,500 shares per year commencing September 1,
2000; and options covering more than 10,000 shares become exercisable at the
rate of 5,000 shares per year commencing September 1, 2000. At December 31,
2002, there were 92,500 options under the 1999 stock option plan that were
exercisable.
On December 18, 2002, the Company granted an additional 182,000 incentive stock
options under the Company's 1999 Omnibus Stock Plan. All of these options were
outstanding as of December 31, 2002. These options expire 10 years from the date
of the grant and are not exercisable prior to January 1, 2004. Options become
exercisable as follows:
Date Exercisable
Number of ----------------------------------------------------------
Options January 1, January 1, January 1, January 1,
Granted 2004 2005 2006 2007
------- ---- ---- ---- ----
2,500 2,500
5,000 2,500 2,500
7,500 2,500 2,500 2,500
10,000 2,500 2,500 2,500 2,500
12,500 2,500 2,500 2,500 5,000
15,000 5,000 5,000 5,000
20,000 5,000 5,000 5,000 5,000
35,000 5,000 10,000 10,000 10,000
58
The changes in the number of common shares under option are summarized as
follows:
Weighted Average
Options Exercise Price
------- --------------
Outstanding at December 31, 1999 236,415 $6.780
Options granted - -
Options exercised (30,140) $3.500
Options terminated (2,500) $9.250
-------
Outstanding at December 31, 2000 203,775 $7.239
Options granted -
Options exercised (59,860) $3.500
Options terminated (27,500) $9.250
-------
Outstanding at December 31, 2001 116,415 $8.686
Options granted 182,000 $3.110
Options exercised (8,245) $3.500
Options terminated (3,170) $3.500
-------
Outstanding at December 31, 2002 287,000 $5.356
=======
Options exercisable were 92,500 at December 31, 2002, at a weighted average
exercise price of $9.25; 81,145 at December 31, 2001, at a weighted average
exercise price of $8.44; 121,275 at December 31, 2000, at a weighted average
exercise price of $5.87.
The following table summarizes information regarding the stock options
outstanding at December 31, 2002:
Weighted Weighted Weighted
Average Average Average
Number of Remaining Exercise Price Number of Exercise Price
Exercise Options Contractual Life of Outstanding Options of Exercisable
Price Outstanding (Years) Options Exercisable Options
----- ----------- ----- ------- ----------- -------
$9.25 105,000 6.65 9.25 92,500 9.25
$3.11 182,000 9.96 3.11 0 -
NOTE 17 - TAXES ON INCOME
- -------------------------
The provision for taxes on income consists of the following:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Current provision:
Federal $(1,599,760) $(5,375,381) $(253,899)
State 160,626 24,935 37,409
--------- --------- -------
Total federal and state (1,439,134) (5,350,446) (216,490)
Deferred (150,236) (502,645) (29,694)
--------- --------- --------
Provision for taxes $(1,589,370) $(5,853,091) $(246,184)
========= ========= =======
59
The income tax provision reflected in the consolidated statements of operations
is less than the expected federal income tax on income as shown in the table
below:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Computed tax expense (benefit) $(1,636,780) $(5,685,857) $65,828
Tax effect of:
Tax exempt income (82,034) (217,383) (344,428)
Other (41,236) 19,220 (5,910)
State income tax expense 170,680 30,929 38,326
--------- -------- -------
Tax per financial statements $(1,589,370) $(5,853,091) $(246,184)
========= ========= =======
On March 9, 2002, the Job Creation and Workers Assistance Act of 2002 was signed
into law. This act was effective for tax years ending in 2001 and provided that
a net operating loss for tax years ending in 2001 or 2002 is carried back five
years, rather than the previously allowed two years. This act allowed the
Company to carryback its entire net operating loss. The carryback of our current
Federal tax benefit was allocated as follows:
Tax year ended Amount Applied
- -------------- --------------
December 31, 1998 $(1,548,427)
---------
Total Federal income tax carryback (1,548,427)
Adjustment to prior year tax provision (51,333)
---------
Current Federal income tax provision $(1,599,760)
=========
The components of the net federal income tax asset included in the financial
statements as required by the assets and liability method are as follows:
Year ended December 31
----------------------
2002 2001
---- ----
Deferred tax assets:
Discount on loss reserves $2,111,565 $1,950,452
Unearned premiums 1,650,395 1,310,128
Other 131,141 169,793
--------- ---------
Total deferred tax assets $3,893,101 $3,430,373
--------- ---------
Deferred tax liabilities:
Deferred acquisition costs $2,021,984 $1,727,043
Discount on salvage and subrogation 6,992 8,400
Unrealized gain on investments 1,606,120 957,584
Other 200,054 181,095
--------- ---------
Total deferred tax liabilities $3,835,150 $2,874,122
--------- ---------
Net deferred tax assets $57,951 $556,251
====== =======
Although realization is not assured, management believes it is more likely than
not that all of the deferred tax assets will be realized. The amount of the
deferred tax assets considered realizable could be reduced in the near term if
estimates of future taxable income during the carryforward period are reduced.
The Company and its wholly owned subsidiaries file consolidated Federal and
combined California income tax returns. Pursuant to the a tax allocation
agreement, Crusader and American Acceptance Corporation are allocated taxes or
(in the case of losses) tax credits at current corporate rates based on their
own taxable income or loss.
In a recent court ruling that affects the tax years 1997 through 2002, a statute
that allowed Unico American a tax deduction for the dividends received from its
wholly-owned insurance subsidiary was held unconstitutional on the grounds that
it discriminated against out-of-state insurance holding companies. Based on the
court ruling, the
60
California Franchise Tax Board ("FTB") is taking the position that the
discriminatory sections of the statute are not severable and the entire statute
is invalid. As a result, the FTB is disallowing dividend-received deductions for
all insurance holding companies, regardless of domicile, for tax years ending on
or after December 1, 1997. The Company received dividends from its insurance
subsdiary of $5 million for the 1998 through 2000 tax years. The FTB has not
proposed any assessments to the Company for additional tax as a result of the
dividends received deduction that the Company utilized for those periods.
This ruling by the court has confused certain longstanding aspects of the
California tax law and has already resulted in legislative proposals for relief
which, if approved, would reduce or eliminate the amount of the Company's
exposure. In addition, without such legislation, years of future litigation may
be required to determine the ultimate outcome. Consequently, the ultimate amount
that the Company may be required to pay is impossible to predict at the present
time and the Company has not recorded a provision for additional state income
tax liabilities related to this matter.
As a California insurance company, Crusader is obligated to pay a premium tax on
gross premiums written in the states of Arizona, California, Colorado, Idaho,
Montana, Nevada, Ohio, Oregon, and Washington. The premium tax is in lieu of
state franchise taxes; thus, the above provision for state taxes does not
include the premium tax.
NOTE 18 - REPURCHASE OF COMMON STOCK - EFFECT ON STOCKHOLDERS' EQUITY
- ---------------------------------------------------------------------
The Company has previously announced that its Board of Directors had authorized
the repurchase in the open market from time to time of up to an aggregate of
945,000 shares of the common stock of the Company. During the year ended
December 31, 2002, the Company did not purchase any shares of the Company's
common stock. As of December 31, 2002, the Company had purchased and retired
under the Board of Directors authorization an aggregate of 868,958 shares of its
common stock at a cost of $5,517,465.
NOTE 19 - EARNINGS PER SHARE
- ----------------------------
A reconciliation of the numerator and denominator used in the basic and diluted
earnings per share calculation is presented below:
Year ended December 31
----------------------
2002 2001 2000
---- ---- ----
Basic Earnings (Loss) Per Share
- -------------------------------
Net income (loss) numerator $(3,224,689) $(10,870,018) $439,797
========= ========== =======
Weighted average shares outstanding denominator 5,487,311 5,505,398 6,058,674
========= ========= =========
Per share amount $(0.59) $(1.97) $0.07
Diluted Earnings (Loss) Per Share
- ---------------------------------
Net income (loss) numerator $(3,224,689) $(10,870,018) $439,797
========= ========== =======
Weighted average shares outstanding 5,487,311 5,505,398 6,058,674
Effect of diluted securities * - - 43,018
--------- --------- ---------
Diluted shares outstanding denominator 5,487,311 5,505,398 6,101,692
========= ========= =========
Per share amount $(0.59) $(1.97) $0.07
*In loss periods options are excluded from the calculation of diluted EPS, as
the inclusion of such options would have an antidilutive effect. Therefore, all
options were excluded from the calculation of diluted EPS for the years ended
December 31, 2002 and 2001.
61
NOTE 20 - SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
- ------------------------------------------------------
Summarized unaudited quarterly financial data for each of the calendar years
2002 and 2001 is set forth below:
Comparable Period by Quarter Ended
----------------------------------
March 31 June 30 September 30 December 31
-------- ------- ------------ -----------
Calendar Year 2002
- ------------------
Total revenues $10,651,993 $11,328,455 $12,080,314 $11,967,880
Income (loss) before taxes 136,438 (5,537,121) 278,899 307,725
Net income (loss) 106,052 (3,662,872) 146,345 185,786
Earnings (loss) per share: Basic $0.02 $(0.67) $0.03 $0.03
Diluted $0.02 $(0.67) $0.03 $0.03
Calendar Year 2001
- ------------------
Total revenues $9,647,868 $10,640,987 $10,524,205 $11,303,846
Income (loss) before taxes (11,835) (1,735,416) (5,309,802) (9,666,056)
Net income (loss) 52,104 (1,096,725) (3,508,550) (6,316,847)
Earnings (loss) per share: Basic $0.01 $(0.20) $(0.64) $(1.16)
Diluted $0.01 $(0.20) $(0.64) $(1.16)
62
Item 9. Changes in and Disagreements with Accountants on Accounting and
- ------------------------------------------------------------------------
Financial Disclosure
--------------------
None
PART III
--------
Item 10. Directors and Executive Officers of the Registrant
- ------------------------------------------------------------
Information in response to Item 10 is incorporated by reference from the
Company's definitive proxy statement to be used in connection with the Company's
Annual Meeting of Shareholders pursuant to Instruction G(3) of Form 10-K.
Item 11. Executive Compensation
- --------------------------------
Information in response to Item 11 is incorporated by reference from the
Company's definitive proxy statement to be used in connection with the Company's
Annual Meeting of Shareholders pursuant to Instruction G(3) of Form 10-K.
Item 12. Security Ownership of Certain Beneficial Owners and Management and
- ----------------------------------------------------------------------------
Related Stockholder Matters
---------------------------
Information in response to Item 12 is incorporated by reference from the
Company's definitive proxy statement to be used in connection with the Company's
Annual Meeting of Shareholders pursuant to Instruction G(3) of Form 10-K.
Item 13. Certain Relationships and Related Transactions
- --------------------------------------------------------
Information in response to Item 13 is incorporated by reference from the
Company's definitive proxy statement to be used in connection with the Company's
Annual Meeting of Shareholders pursuant to Instruction G(3) of Form 10-K.
Item 14. Controls and Procedures
- ---------------------------------
The Company maintains disclosure controls and procedures designed to ensure that
information required to be disclosed in the Company's reports filed under the
Securities Exchange Act of 1934, as amended, is recorded, processed, summarized
and reported within the time periods specified in the Securities and Exchange
Commission rules and forms, and that such information is accumulated and
communicated to the Company's management, including its Chief Executive Officer
and Chief Financial Officer, as appropriate, to allow for timely decisions
regarding required disclosure. In designing and evaluating the disclosure
controls and procedures, management recognized that any controls and procedures,
no matter how well designed and operated, can provide only reasonable assurance
of achieving the desired control objectives, and management necessarily was
required to apply its judgment in evaluating the cost benefit relationship of
possible controls and procedures.
Within the 90-day period prior to the filing of this report, an evaluation was
carried out by the Company's management, including our Chief Executive Officer
and Chief Financial Officer, of the effectiveness of the design and operation of
the Company's disclosure controls and procedures (as defined in Rule 13a-14(c)
under the Securities Exchange Act of 1934). Based upon that evaluation, the
Chief Executive Officer and Chief Financial Officer concluded that the design
and operation of these disclosure controls and procedures were effective. No
significant changes were made in the Company's internal controls or in other
factors that could significantly affect these controls subsequent to the date of
their evaluation.
63
PART IV
-------
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
- --------------------------------------------------------------------------
(a) Financial Statements and Schedules Filed as a Part of this Report:
1. Financial statements:
The consolidated financial statements for the fiscal year ended December
31, 2002, are contained herein as listed in the index to consolidated
financial statements on page 35.
2. Financial schedules:
Index to Consolidated Financial Statements
------------------------------------------
Independent Auditors' Report on Financial Statement Schedules
Schedule II - Condensed Financial Information of Registrant
Schedule III - Supplemental Insurance Information
Schedules other than those listed above are omitted, since they are not
applicable, not required, or the information required to be set forth is
included in the consolidated financial statements or notes.
3. Exhibits:
3.1 Articles of Incorporation of Registrant, as amended. (Incorporated
herein by reference to Exhibit 3.1 to the Registrant's Annual Report
on Form 10-K for the fiscal year ended March 31, 1984).
3.2 By-Laws of Registrant, as amended. (Incorporated herein by
reference to Exhibit 3.2 to Registrant's Annual Report on Form 10-K
for the fiscal year ended March 31, 1991).
10.1 Unico American Corporation Profit Sharing Plan & Trust.
(Incorporated herein by reference to Exhibit 10.1 to the
Registrant's Annual Report on Form 10-K for the fiscal year ended
March 31, 1985). (*)
10.2 Unico American Corporation Employee Incentive Stock Option Plan
(1985). (Incorporated herein by reference to Exhibit 10.3 to
Registrant's Annual Report on Form 10-K for the fiscal year ended
March 31, 1985). (*)
10.3 Amendment to Unico American Corporation Incentive Stock Option Plan
(1985). (Incorporated herein by reference to Exhibit 10.4 to
Registrant's Annual Report on Form 10-K for the fiscal year ended
March 31, 1987). (*)
10.4 The Lease dated July 31, 1986, between Unico American Corporation and
Cheldin Management Company. (Incorporated herein by reference to
Exhibit 10.5 to Registrant's Annual Report on Form 10-K for the
fiscal year ended March 31, 1987).
10.5 The Lease Amendment #1 dated February 22, 1995, between Unico
American Corporation and Cheldin Management amending the lease dated
July 31, 1986. (Incorporated herein by reference to Exhibit 10.5 to
Registrant's Annual Report on Form 10-K for the fiscal year ended
March 31, 1995).
10.6 2000 Omnibus Stock Plan of Unico American Corporation (Incorporated
herein by reference to Exhibit A to Registrant's Proxy Statement for
its Annual Meeting of Shareholders held June 4, 2000). (*)
10.7 Employment Agreement between the Company and Cary Cheldin dated
November 27, 1996. (Incorporated herein by reference to Exhibit 10.2
to Registrant's Quarterly Report on Form 10-Q for the quarter ended
March 31, 2000). (*)
64
10.9 Amendment to Employment Agreement between the Company and Cary
Cheldin dated January 10, 2000. (Incorporated herein by reference to
Exhibit 10.3 to Registrant's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2000). (*)
21 Subsidiaries of Registrant. (Incorporated herein by reference to
Exhibit 22 to Registrant's Annual Report on Form 10-K for the fiscal
year ended March 31, 1984).
23 Consent of Independent Public Accountants - KPMG LLP.
99.1 Certification of Chief Executive Officer under Section 906 of the
Sarbanes-Oxley Act of 2002.
99.2 Certification of Chief Financial Officer under Section 906 of the
Sarbanes-Oxley Act of 2002.
(*) Indicates management contract or compensatory plan or arrangement.
(b) Reports on Form 8-K:
None.
65
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Date: March 28, 2003
UNICO AMERICAN CORPORATION
By: /s/ ERWIN CHELDIN
-----------------
Erwin Cheldin
Chairman of the Board
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
Signature Title Date
- --------- ----- ----
/s/ ERWIN CHELDIN Chairman of the Board, March 28, 2003
- ----------------- President and Chief
Erwin Cheldin Executive Officer,
(Principal Executive Officer)
/s/ LESTER A. AARON Treasurer, Chief Financial March 28, 2003
- ------------------- Officer and Director
Lester A. Aaron (Principal Accounting and
Principal Financial Officer)
/s/ CARY L. CHELDIN Executive Vice President March 28, 2003
- ------------------- and Director
Cary L. Cheldin
/s/ GEORGE C. GILPATRICK Vice President, Secretary March 28, 2003
- ------------------------ and Director
George C. Gilpatrick
/s/ DAVID A. LEWIS Director March 28, 2003
- ------------------
David A. Lewis
/s/ WARREN D. ORLOFF Director March 28, 2003
- --------------------
Warren D. Orloff
/s/ DONALD B. URFRIG Director March 28, 2003
- --------------------
Donald B. Urfrig
66
CERTIFICATION
Pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Erwin Cheldin, certify that:
1. I have reviewed this annual report on Form 10-K of Unico American
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of
the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Date: March 28, 2003.
/s/ Erwin Cheldin
- ------------------
Erwin Cheldin
Chairman of the Board, President and Chief Executive Officer
67
CERTIFICATION
Pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
I, Lester A. Aaron, certify that:
1. I have reviewed this annual report on Form 10-K of Unico American
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this annual report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of
the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Date: March 28, 2003.
/s/ Lester A. Aaron
- --------------------
Lester A. Aaron
Treasurer, Chief Financial Officer
68
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Unico American Corporation:
Under date of March 21, 2003, we reported on the consolidated balance sheets of
Unico American Corporation and subsidiaries as of December 31, 2002 and 2001,
and the related consolidated statements of operations, comprehensive income,
changes in stockholders' equity, and cash flows for each of the years in the
three-year period ended December 31, 2002, as contained in the annual report on
Form 10-K for the year 2002. In connection with our audits of the aforementioned
consolidated financial statements, we also audited the related consolidated
financial statement schedules as listed under Item 15(a)2. These financial
statement schedules are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statement schedules
based on our audits.
In our opinion, such financial statement schedules, when considered in relation
to the basic consolidated financial statements taken as a whole, present fairly,
in all material respects, the information set forth therein.
KPMG LLP
Los Angeles, California
March 21, 2003
69
SCHEDULE II
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
BALANCE SHEETS - PARENT COMPANY ONLY
December 31 December 31
2002 2001
---- ----
ASSETS
------
Investments
Short-term investments $ 9,062 $ 8,878
----- -----
Total Investments 9,062 8,878
Cash 8,450 19,427
Accrued investment and other income 6,000 250
Investments in subsidiaries 54,307,296 57,535,001
Property and equipment (net of accumulated depreciation) 354,194 267,426
Income taxes receivable 1,548,427 5,398,939
Other assets 137,597 218,873
---------- ----------
Total Assets $56,371,026 $63,448,794
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
LIABILITIES
- -----------
Accrued expenses and other liabilities $ 332,678 $ 364,789
Payables to subsidiaries (net of receivables) (1) 16,879,358 22,463,629
Notes Payable - related parties 750,000 -
---------- ----------
Total Liabilities $17,962,036 $22,828,418
---------- ----------
STOCKHOLDERS' EQUITY
- --------------------
Common stock $ 2,700,272 $ 2,671,415
Net unrealized investment gains 3,117,762 1,858,839
Retained earnings 32,590,956 36,090,122
---------- ----------
Total Stockholders' Equity $38,408,990 $40,620,376
---------- ----------
Total Liabilities and Stockholders' Equity $56,371,026 $63,448,794
========== ==========
(1) The Company and its wholly owned subsidiaries file consolidated Federal and
combined California income tax returns. Pursuant to the a tax allocation
agreement, Crusader Insurance Company and American Acceptance Corporation
are allocated taxes or (in the case of losses) tax credits at current
corporate rates based on their own taxable income or loss. The payable to
subsidiaries include their income tax receivable or liability included in
the consolidated return.
The condensed financial statements should be read in conjunction with the
consolidated financial statements and notes.
70
SCHEDULE II (continued)
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF OPERATIONS - PARENT COMPANY ONLY
FOR THE YEARS ENDED DECEMBER 31
2002 2001 2000
---- ---- ----
REVENUES
- --------
General and administrative expenses allocated to
subsidiaries (*) $ - $ - $2,081,837
Net investment income 476 54,764 138,487
Net realized investment gains - 3,212 2,508
Other income 18,706 12,974 13,497
------ ------ -----------
Total Revenue 19,182 70,950 2,236,329
EXPENSES
- --------
General and administrative expenses (*) 16,166 46,146 4,782,663
------ ------ ---------
Income (loss) before equity in net income of subsidiaries 3,016 24,804 (2,546,334)
Equity in net income (loss) of subsidiaries (3,227,705) (10,894,822) 2,986,131
--------- ---------- ---------
Net Income (Loss) $(3,224,689) $(10,870,018) $439,797
========= ========== =======
(*) In 2001, the parent company transferred most of their employees and the
related salaries, payroll taxes, and administrative expenses directly to
its subsidiaries. In the year ended 2000, the parent company did not
allocate any of its salaries or payroll taxes to its subsidiaries.
The Company and its subsidiaries file a consolidated federal income tax return.
Unico received cash dividends of $200,000 from American Acceptance Corporation
in the year ended December 31, 2002; $250,000 from American Acceptance
Corporation in the year ended December 31, 2001; and $1,500,000 from Crusader
and $500,000 from American Acceptance Corporation in the year ended December 31,
2000.
The condensed financial statements should be read in conjunction with the
consolidated financial statements and notes.
71
SCHEDULE II (continued)
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF CASH FLOWS - PARENT COMPANY ONLY
FOR THE YEARS ENDED DECEMBER 31
2002 2001 2000
---- ---- ----
Cash flows from operating activities: Cash flows from operating activities:
Net income (loss) $(3,224,689) $(10,870,018) $439,797
Adjustments to reconcile net income to net cash
from operations
Undistributed equity in net (income) loss of subsidiaries 3,227,705 10,894,822 (2,986,131)
Net realized (gain) on sale of securities - (3,212) (2,508)
Depreciation and amortization 84,951 70,940 67,615
Accrued expenses and other liabilities (32,111) (708,804) 279,835
Accrued investment and other income (5,750) 22,002 23,829
Income taxes receivable 3,850,512 (5,398,939) -
Other assets 81,276 (21,576) (111,740)
--------- --------- ---------
Net cash provided (used) from operations 3,981,894 (6,014,785) (2,289,303)
--------- --------- ---------
Cash flows from investing activities
Purchase of fixed maturity investments - - (998,340)
Proceeds from maturity of fixed maturity investments - 650,000 1,000,000
Proceeds from sale of fixed maturity investments - 853,055 1,001,250
(Increase) decrease in short-term investments (184) 108,938 (17,816)
Additions to property and equipment (171,719) (224,524) (34,072)
------- --------- -------
Net cash provided (used) by investing activities (171,903) 1,387,469 951,022
------- --------- -------
Cash flows from financing activities
Proceeds from issuance of common stock 28,857 37 13
Repurchase of common stock - (1,387,397) (4,130,068)
Proceeds from notes payable - related parties 750,000 - -
Dividends paid to shareholders (274,477) (272,609) (945,580)
Net change in payables and receivables
from subsidiaries (4,325,348) 6,290,306 6,402,586
--------- --------- ---------
Net cash provided (used) by financing activities (3,820,968) 4,630,337 1,326,951
--------- --------- ---------
Net increase (decrease) in cash (10,977) 3,021 (11,330)
Cash at beginning of year 19,427 16,406 27,736
------ ------ ------
Cash at end of year $8,450 $19,427 $16,406
===== ====== ======
The condensed financial statements should be read in conjunction with the
consolidated financial statements and notes.
72
SCHEDULE III
UNICO AMERICAN CORPORATION
AND SUBSIDIARIES
SUPPLEMENTARY INSURANCE INFORMATION
Future Benefits, Amortization
Deferred Benefits, Claims, of Deferred
Policy Losses, Net Losses and Policy Other
Acquisition and Loss Unearned Premium Investment Settlement Acquisition Operating Premium
Cost Expenses Premiums Revenue Income Expenses Costs Costs Written
---------- ----------- ----------- ----------- ---------- ----------- ----------- --------- ------------
Year Ended
December 31, 2002
Property &
Casualty $5,947,010 $74,905,284 $24,381,583 $33,359,272 $5,401,870 $32,727,023 $9,274,263 $2,151,332 $38,363,201
Year Ended
December 31, 2001
Property &
Casualty $5,079,535 $60,534,295 $19,328,150 $29,893,844 $5,647,026 $41,677,016 $8,695,037 $1,687,754 $32,106,175
Year Ended
December 31, 2000
Property &
Casualty $4,500,147 $45,217,369 $17,099,927 $25,899,234 $5,764,094 $21,676,915 $8,303,917 $1,440,011 $26,406,565
73
EXHIBIT INDEX
Exhibit
No. Description
3.1 Articles of Incorporation of Registrant, as amended. (Incorporated
herein by reference to Exhibit 3.1 to the Registrant's Annual Report
on Form 10-K for the fiscal year ended March 31, 1984).
3.2 By-Laws of Registrant, as amended. (Incorporated herein by
reference to Exhibit 3.2 to Registrant's Annual Report on Form 10-K
for the fiscal year ended March 31, 1991).
10.1 Unico American Corporation Profit Sharing Plan & Trust.
(Incorporated herein by reference to Exhibit 10.1 to the
Registrant's Annual Report on Form 10-K for the fiscal year ended
March 31, 1985). (*)
10.2 Unico American Corporation Employee Incentive Stock Option Plan
(1985). (Incorporated herein by reference to Exhibit 10.3 to
Registrant's Annual Report on Form 10-K for the fiscal year ended
March 31, 1985). (*)
10.3 Amendment to Unico American Corporation Incentive Stock Option Plan
(1985). (Incorporated herein by reference to Exhibit 10.4 to
Registrant's Annual Report on Form 10-K for the fiscal year ended
March 31, 1987). (*)
10.4 The Lease dated July 31, 1986, between Unico American Corporation and
Cheldin Management Company. (Incorporated herein by reference to
Exhibit 10.5 to Registrant's Annual Report on Form 10-K for the
fiscal year ended March 31, 1987).
10.5 The Lease Amendment #1 dated February 22, 1995, between Unico
American Corporation and Cheldin Management amending the lease dated
July 31, 1986. (Incorporated herein by reference to Exhibit 10.5 to
Registrant's Annual Report on Form 10-K for the fiscal year ended
March 31, 1995).
10.6 2000 Omnibus Stock Plan of Unico American Corporation (Incorporated
herein by reference to Exhibit A to Registrant's Proxy Statement for
its Annual Meeting of Shareholders held June 4, 2000). (*)
10.8 Employment Agreement between the Company and Cary Cheldin dated
November 27, 1996. (Incorporated herein by reference to Exhibit 10.2
to Registrant's Quarterly Report on Form 10-Q for the quarter ended
March 31, 2000). (*)
10.9 Amendment to Employment Agreement between the Company and Cary
Cheldin dated January 10, 2000. (Incorporated herein by reference to
Exhibit 10.3 to Registrant's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2000). (*)
21 Subsidiaries of Registrant. (Incorporated herein by reference to
Exhibit 22 to Registrant's Annual Report on Form 10-K for the fiscal
year ended March 31, 1984).
23 Consent of Independent Public Accountants - KPMG LLP.
99.1 Certification of Chief Executive Officer under Section 906 of the
Sarbanes-Oxley Act of 2002.
99.2 Certification of Chief Financial Officer under Section 906 of the
Sarbanes-Oxley Act of 2002.
(*) Indicates management contract or compensatory plan or arrangement.