What changed in this filing

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Item 2. Management’s Discussion and Analysis

2022-05-12 compared with 2021-11-10 · 88 added, 226 removed, 174 unchanged (64% of the section changed)

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

For the Periods Ended September 30, 2021 and 2020

For the Periods Ended March 31, 2022 and 2021

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Consolidated Financial Statements (Unaudited), related notes and other financial information appearing elsewhere in this Quarterly Report on Form 10-Q and the audited consolidated financial statements and related notes included in our Annual Report on Form 10-K, filed on March 10, 2022 with the U.

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Recent Developments

COVID-19 (the “Pandemic”) continues to cause significant disruption to public health, the global economy, financial markets, and commercial, social and community activity in general.

COVID-19 (the “Pandemic”) caused significant disruption to public health, the global economy, financial markets, and commercial, social and community activity in general.

As there has been a significant reduction in reported cases and correspondingly a reduction in government restrictions, we see reduced risk to our business.

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Sale of Certain Agency Business

On June 30, 2021, our agency (Sycamore Insurance Agency) sold to Venture Agency Holdings, Inc.

the customer accounts and other related assets of some of its personal and commercial lines of business (the “Venture Transaction”).

On June 30, 2021, our agency (Sycamore Insurance Agency) sold to Venture Agency Holdings, Inc., a related party, the customer accounts and other related assets of some of its personal and commercial lines of business (the “Venture Transaction”).

Sycamore will continue to produce various personal and commercial lines that it did not sell which is substantially all produced for, and underwritten by, our Insurance Company Subsidiaries.

We recognized an $8.9 million gain on the sale which is reflected in Other Gains on the Consolidated Statement of Operations.

We recognized an $8.9 million gain on the sale which is reflected in Other Gains in the Consolidated Statement of Operations.

In order to determine the value of the portion of the business sold, the Company obtained a third party valuation based on a weighting of discounted cash flows and earnings before interest, taxes, depreciation and amortization (EBITDA) multiple valuation methods.

The valuation included significant estimates and assumptions related to (i) forecasted revenue and EBITDA and (ii) the selection of the EBITDA multiple and discount rate.

The purchase price was $10.0 million of which $1.0 million was paid in cash on June 30, 2021, and $9.0 million was in the form of two promissory notes (one for $6.0 million and one for $3.0 million).

Both notes require interest-only quarterly payments at a per annum rate of 7.0%, with a five-year maturity.

There are no prepayment penalties.

On December 14, 2021, Venture paid off the $3.0 million note.

The assets sold included the customer accounts (mainly agency-related new and renewal rights) of substantially all of the personal lines business and a small subset of the commercial lines business underwritten by our Insurance Company Subsidiaries, and all of the customer accounts Sycamore produced for third-party insurers.

The Venture Transaction included the transition of 21 employees from CHI to Venture as well as necessary systems and office functions to operate the business.

The Venture Transaction included the transition of 21 employees from Conifer to Venture as well as necessary systems and office functions to operate the business.

Venture did not assume any in-force business or liabilities.

The business will roll over to Venture as it produces new or renewal business effective July 1, 2021.

The business will transition to Venture as it produces new or renewal business effective July 1, 2021.

We expect our Insurance Company Subsidiaries will continue to underwrite substantially all of the business we sold to Venture that we underwrote prior to the transaction.

W e expect Venture to be able to grow both the business we underwrite plus the third-party business more effectively as a separate entity outside of CHI’s grou p.

As of June 3 0 , 202 1 and September 30, 2021 , we had a non-controlling 50% interest in Venture.

We expect Venture to be able to grow both the business we underwrite as well as the third-party business more effectively as a separate entity outside of Conifer.

As of March 31, 2022 , the Company had a non-controlling 50% interest in Venture.

On April 21, 2022, A.M.

Best downgraded the Company’s Long-Term Issuer Credit Rating (Long-Term ICR) from “bb” (Fair) to “bb-” (Fair), and downgraded the Company’s insurance subsidiaries Financial Strength Rating from “B++” (Good) to “B+” (Good) and the Long-Term ICR from “bbb” (Good) to “bbb-” (Good).

The outlook assigned to all these ratings by A.M.

Best was Stable.

We do not believe the rating changes will have a material effect on our business.

Business Overview

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We have expanded the wholesale agency business to develop more non-risk revenue streams, and provide our agents with more insurance product options.

However, as a result of the sale of certain agency business on September 30, 2021, going forward, our agency segment will not be producing any significant amounts of business for third-party insurers and will produce approximately 50% less business for the Insurance Company Subsidiaries.

However, as a result of the sale of certain agency business on June 30, 2021, going forward, our agency segment will not be producing any significant amounts of business for third-party insurers and will produce approximately 50% less business for the Insurance Company Subsidiaries.

Critical Accounting Policies and Estimates

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There can be no assurance, however, that actual results will not be materially different than our estimates and assumptions, and that reported results of operations will not be affected by accounting adjustments needed to reflect changes in these estimates and assumptions.

During the nine months ended September 30, 2021, there were no material changes to our critical accounting policies and estimating methodologies, which are disclosed in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in the Company’s Annual Report on Form 10-K filed with the SEC on March 11, 2021.

During the three months ended March 31, 2022, there were no material changes to our critical accounting policies and estimating methodologies, which are disclosed in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in the Company’s Annual Report on Form 10-K filed with the SEC on March 10, 2022.

Executive Overview

The Company reported $33.7 million of gross written premiums in the third quarter of 2021, representing a 12.9% increase as compared to the same period in 2020.

Gross written premiums were $99.1 million for the nine months ended September 30, 2021, representing a 20.1% increase as compared to the same period in 2020.

The increase in both periods was the result of growth in both commercial and personal lines business as we continue to penetrate markets where we have been the most successful while still reducing exposure to less profitable lines.

The Company reported a net loss of $1.2 million, or $0.12 per share, and a net loss of $293,000, or $0.03 per share, for the three and nine months ended September 30, 2021, respectively.

The Company reported net income of $541,000, or $0.06 per share, and a net loss of $2.7 million, or $0.28 per share, for three and nine months ended September 30, 2020, respectively.

Adjusted operating loss , a non-GAAP measure, was $ 1.7 million , or $0.

18 per share for the three months ended September 30 , 2021 .

Adjusted operating loss was $1 2 .

6 million, or $1.

30 per share for the nine months ended September 3 0, 2021.

Adjusted operating loss was $ 2.4 million , or $0.

24 per share for the three months ended September 30, 2020.

Adjusted operating loss was $ 5.6 million , or $0.

58 per share for the nine months ended September 30, 2020.

Our underwriting combined ratio was 106.9% and 116.0% for the three and nine months ended September 30, 2021, compared to 110.7% and 107.7% for the three and nine months ended September 30, 2020, respectively.

Results of Operations For The Three Months Ended September 30, 2021 and 2020

The Company reported $33.0 million of gross written premiums in the first quarter of 2022, representing an 8.5% increase as compared to the same period in 2021.

Our commercial lines gross written premiums increased by $1.4 million, or 5.0%, to $28.6 million in the first quarter of 2022, compared to $27.2 million for the same period in 2021.

Personal lines gross written premiums increased by $1.2 million, or 38.9%, to $4.4 million in the first quarter of 2022, compared to $3.1 million for the same period in 2021.

The Company reported a net loss of $2.9 million, or $0.30 per share, for the three months ended March 31, 2022.

The Company reported a net loss of $4.6 million, or $0.48 per share, for the three months ended March 31, 2021.

Adjusted operating loss, a non-GAAP measure, was $3.1 million, or $0.32 per share for the three months ended March 31, 2022, compared to an adjusting operating loss of $7.0 million, or $0.72 per share for the same period in 2021.

Our underwriting combined ratio was 112.5% for the three months ended March 31, 2022, compared to 129.0% for the same period in 2021.

The expense ratio decreased 7.1% to 37.5% for the three months ended March 31, 2022, compared to 44.6% for the same period in 2021.

Results of Operations For The Three Months Ended March 31 , 20 2 2 and 20 2 1

The following table summarizes our operating results for the periods indicated (dollars in thousands):

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Three Months Ended

September 30,

Gross written premiums

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Net investment income

Net realized investment gains

Net realized investment gains (losses)

Change in fair value of equity securities

Other gains (losses)

Interest expense

Income (loss) before equity earnings in Affiliate and income taxes

Income (loss) before equity earnings in Affiliate, net of tax

Equity earnings in Affiliate, net of tax

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Premiums are earned ratably over the term of the policy, whereas written premiums are reflected on the effective date of the policy.

Almost all commercial lines and homeowners products have annual policies, under which premiums are earned

evenly over one year .

Almost all commercial lines and homeowners products have annual policies, under which premiums are earned evenly over one year.

The resulting net earned premiums are impacted by the gross and ceded written premiums, earned ratably over the terms of the policies.

Our premiums are presented below for the three months ended September 30, 2021 and 2020 (dollars in thousands):

Our premiums are presented below for the three months ended March 3 1 , 20 2 2 and 20 2 1 (dollars in thousands):

Summary of Premium Revenue

Three Months Ended

September 30,

Gross written premiums

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Personal lines

Gross written premiums increased $3.9 million, or 12.9%, to $33.7 million for the three months ended September 30, 2021, as compared to $29.8 million for the same period in 2020.

Commercial lines gross written premiums increased $2.6 million, or 9.3%, to $29.8 million in the third quarter of 2021, as compared to $27.3 million for the third quarter of 2020.

The increase was due to $4.8 million of premium growth in the small business programs, partially offset by a $2.3 million reduction of gross written premium in the Company’s hospitality programs.

Personal lines gross written premiums increased $1.3 million, or 51.5%, to $3.9 million in the third quarter of 2021, as compared to $2.5 million for the same period in 2020.

The increased gross written premiums were due to continued growth in the Company’s low-value dwelling book of business.

Net written premiums increased $1.0 million, or 4.1%, to $26.1 million for the three months ended September 30, 2021, as compared to $25.0 million for the same period in 2020.

Net written premiums did not increase as much as gross written premiums due to a combination of factors that increased our ceded premium rates.

Our blended ratio of ceded earned premiums to gross earned premiums increased from 17.3% to 21.5% in the third quarters of 2020 and 2021, respectively.

The increase was due to a combination of:

1) a change in the mix of business to more property exposure which has a higher ceding rate;

2) general reinsurance rate increases;

3) we purchased more reinsurance as of January 1, 2021 to reduce our commercial property specific loss retention to $200,000, from $340,000, and 4) we are writing more business in select areas that are mostly ceded under quota share agreements that skew the blended ceded earned premium to gross earned premium ratio.

Gross written premiums increased $2.6 million, or 8.5%, to $33.0 million for the three months ended March 31, 2022, as compared to $30.4 million for the same period in 2021.

Commercial lines gross written premiums increased $1.4 million, or 5.0%, to $28.6 million in the first quarter of 2022, as compared to $27.2 million for the first quarter of 2021.

The increase was due to $2.2 million of premium growth in the small business programs, partially offset by a $861,000 reduction of gross written premium in the Company’s hospitality programs.

Personal lines gross written premiums increased $1.2 million, or 38.9%, to $4.4 million in the first quarter of 2022, as compared to $3.1 million for the same period in 2021.

The increased gross written premiums were due to $1.0 million of premium growth in the Company’s low-value dwelling book of business.

Net written premiums decreased $6.5 million, or 26.4%, to $18.0 million for the three months ended March 31, 2022, as compared to $24.5 million for the same period in 2021.

The Company entered into new specific loss reinsurance treaties on December 31, 2021 and January 1, 2022, which included a 40% ceding commission.

This increased ceded written premiums by approximately $4.5 million in the first quarter of 2022.

There was no ceding commission on excess of loss treaties during 2021.

Ceded earned premiums also increased due to the new treaties by $2.1 million.

The increase in ceded earned premiums was offset by the same increase in ceding commissions, which reduced acquisition costs.

Ceded earned premiums also increased by $1.1 million in the first quarter of 2022 as compared to 2021 due to growth in umbrella insurance premiums which are 94.0% ceded under existing quota share reinsurance agreements.

Other income consists primarily of fees charged to policyholders by the Company for services outside of the premium charge, such as installment billings and policy issuance costs.

Other income also includes the interest income from the $9.0 million of the notes payable from Venture relating to the Venture Transaction.

Other income also includes the interest income from the $6.0 million promissory note receivable from Venture relating to the Venture Transaction.

Commission income is also received by the Company’s insurance agency for writing policies for third-party insurance companies.

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Accordingly, other income from that business will diminish over the next few quarters as it transitions over to Venture, and will ultimately no longer occur.

Other income for the three months ended September 30, 2021, increased by $110,000, or 17.1%, to $752,000 as compared to $642,000 for the same period in 2020.

Other income relating to installment billings and policy issuance costs was lower in 2021, particularly in the third quarter, as the business that was sold to Venture at June 30, 2021, no longer produces other income for the Company.

This was more than offset by an increase in the interest income from the notes payable of $158,000 in the third quarter of 2021.

Other gains were $2.8 million for the three months ended September 30, 2021, compared to $0 for the same period in 2020.

The Company received notice from the SBA that the PPP loan was 100% forgiven, including accrued interest, on July 8, 2021.

This resulted in a $2.8 million gain that is included in Other Gains on the Consolidated Statement of Operations in the third quarter of 2021.

Other income for the three months ended March 31, 2022, increased by $142,000, or 25.5%, to $698,000 as compared to $556,000 for the same period in 2021.

Other income relating to installment billings and policy issuance costs was lower in the first quarter of 2022, as the business that was sold to Venture at June 30, 2021, no longer produces other income for the Company.

This was more than offset by an increase in the interest income from the notes payable of $105,000 in the first quarter of 2022.

Losses and Loss Adjustment Expenses

The tables below details our losses and loss adjustment expenses and loss ratios in our underwriting business for the three months ended September 30, 2021 and 2020 (dollars in thousands).

Three months ended September 30, 2021

The tables below detail our losses and loss adjustment expenses and loss ratios in our underwriting business for the three months ended March 31, 2022 and 2021 (dollars in thousands).

Three months ended March 31, 2022

Accident year net losses and LAE

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Calendar year loss ratio

Three months ended September 30, 2020

Three months ended March 31, 2021

Accident year net losses and LAE

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Calendar year loss ratio

Net losses and LAE increased by $1.6 million, or 11.0%, to $16.2 million during the third quarter of 2021, compared to $14.6 million for the same period in 2020.

The increase in losses was driven by current accident year losses increasing $3.6 million to $12.5 million for the three months ended September 30, 2021, compared to $8.9 million for the same period in 2020.

The Company experienced $3.6 million of adverse development for the three months ended September 30, 2021, of which $1.1 million was related to 2017 and prior accident years, $1.4 million was related to the 2018 accident year, and $1.0 million was related to the 2019 accident year.

In the third quarter of 2021, $3.4 million of the adverse development was related to the commercial lines of business, mostly from the liability lines, while $290,000 was related to the personal lines of business.

The Company's incurred losses during the three months ended September 30, 2020, included adverse prior-year reserve

development of $4.7 million.

The commercial lines experienced $4.6 million of unfavorable reserve development of which

$2.9 million was incurred in our hospitality programs, and $1.7 million was from our small business programs (mostly in the liability coverages).

The adverse development was attributable to the 2018 and prior accident years.

Net losses and LAE decreased by $1.3 million, or 6.9%, to $18.0 million during the first quarter of 2022, compared to $19.4 million for the same period in 2021.

The decrease in losses was driven by current accident year losses decreasing by $1.1 million to $12.5 million for the three months ended March 31, 2022, compared to $13.6 million for the same period in 2021.

The Company experienced $5.5 million of adverse development for the three months ended March 31, 2022, of which $1.5 million was related to 2017 and prior accident years, $1.3 million was related to the 2018 accident year, $1.3 million was related to the 2019 accident year, and $1.5 million was related to the 2020 accident year.

Of the $5.5 million of adverse development, $5.7 million was related to the Company’s commercial lines of business, while the Company’s personal lines of business experienced $219,000 of favorable development in the first quarter of 2022.

Net losses and LAE increased were $19.4 million for the first three months in 2021.

The Company experienced $2.0 million of catastrophe losses, net of reinsurance recoverables, during the first quarter of 2021 from Winter Storm Uri.

In addition to these losses, the Company experienced $5.8 million of adverse development for the three months ended March 31, 2021.

Of the $5.8 million in adverse development, $5.2 million was related to commercial lines, and $612,000 was related to personal lines.

Expense Ratio

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Three Months Ended

September 30,

Commercial Lines

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Operating expenses

Our expense ratio decreased by 3.2 percentage points in the third quarter of 2021 as compared to the same period in 2020.

The decrease was largely due to underwriting revenue, which consists of net earned premiums and other underwriting income, increasing by $2.8 million, or 12.3% to $25.7 million for the three months ended September 30, 2021, compared to $22.9 million during the same period in 2020.

Our expense ratio decreased by 7.1 percentage points in the first quarter of 2022 as compared to the same period in 2021.

The decrease was largely due to a reduction in policy acquisition costs attributable to $2.2 million of ceding commission from new excess of loss reinsurance treaties.

There were no commissions on excess of loss treaties in 2021.

The expense ratio also decreased as a result of a $1.3 million increase in underwriting revenue in the first quarter of 2022 as compared to a first quarter in 2021, while operating expenses were slightly lower in 2022.

Policy acquisition costs are costs we incur to issue policies, which include commissions, premium taxes, underwriting reports and underwriter compensation costs.

The Company offsets direct commissions with ceded commissions from reinsurers.

For the three months ended September 30, 2021 and 2020, the percentage of policy acquisition costs to net earned premiums and other underwriting income decreased by 0.9 percentage points to 29.2% compared to 30.1%, respectively.

Acquisition costs are lower due to a combination of a change in mix of business with lower average acquisition costs, less expensive fronting arrangements, and more ceding commissions in select areas that are mostly ceded under quota share agreements.

The percentage of policy acquisition costs to net earned premiums and other income decreased by 7.5%, from 30.2% in the first three months of 2021, to 22.7% for the same period in 2022, mostly due to the new ceding commission mentioned above.

Operating expenses consist primarily of employee compensation, information technology and occupancy costs, such as rent and utilities.

Operating expenses as a percent of net earned premiums and other underwriting income were 13.1% and 15.4% for the three months ended September 30, 2021 and 2020, respectively.

The operating expense ratio was lower due to our expense reduction efforts, where there has been a real nominal dollar decrease in operating expenses, coupled with net earned premium growth.

Operating expenses as a percent of net earned premiums and other underwriting income were 14.8% and 14.4% for the three months ended March 31, 2022 and 2021, respectively.

While overall operating expenses were lower in 2022, the new excess of loss reinsurance treaties with the ceding commission drove net earned premiums lower, resulting in a slightly higher operating expense ratio.

The personal lines operating expense ratio was lower in 2022 due to significant growth in premium volume on substantially the same operating expense base.

Segment Results

We measure the performance of our consolidated results, in part, based on our underwriting gain or loss.

The following table provides the underwriting gain or loss for the three months ended September 30, 2021 and 2020 (dollars in thousands):

The following table provides the underwriting gain or loss for the three months ended March 31, 2022 and 2021 (dollars in thousands):

Segment Gain (Loss)

Three Months Ended

September 30,

Commercial Lines

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Total segment gain (loss)

Results of Operations For The Nine Months Ended September 30, 2021 and 2020

The following table summarizes our operating results for the periods indicated (dollars in thousands):

Nine months ended

September 30,

Gross written premiums

Net written premiums

Net earned premiums

Losses and loss adjustment expenses, net

Policy acquisition costs

Operating expenses

Underwriting gain (loss)

Net investment income

Net realized investment gains

Change in fair value of equity securities

Interest expense

Income (loss) before equity earnings in Affiliate and income taxes

Equity earnings in Affiliate, net of tax

Income tax expense

Net income (loss)

Book value per common share outstanding

Underwriting Ratios:

Loss ratio (1)

Expense ratio (2)

Combined ratio (3)

The loss ratio is the ratio, expressed as a percentage, of net losses and loss adjustment expenses to net earned premiums and other income from underwriting operations.

The expense ratio is the ratio, expressed as a percentage, of policy acquisition costs and other underwriting expenses to net earned premiums and other income from underwriting operations.

The combined ratio is the sum of the loss ratio and the expense ratio.

A combined ratio under 100% indicates an underwriting profit.

A combined ratio over 100% indicates an underwriting loss.

Percentage change is not meaningful.

Premiums are earned ratably over the term of the policy, whereas written premiums are reflected on the effective date of the policy.

Almost all commercial lines and homeowners products have annual policies, under which premiums are earned evenly over one year.

The resulting net earned premiums are impacted by the gross and ceded written premiums, earned ratably over the terms of the policies.

Our premiums are presented below for the nine months ended September 30, 2021 and 2020 (dollars in thousands):

Nine months ended

September 30,

Gross written premiums

Commercial lines

Personal lines

Net written premiums

Commercial lines

Personal lines

Net earned premiums

Commercial lines

Personal lines

Gross written premiums increased $16.6 million, or 20.1%, to $99.1 million for the nine months ended September 30, 2021, as compared to $82.5 million for the same period in 2020.

Commercial lines gross written premiums increased $11.7 million, or 15.3%, to $88.0 million for the nine months ended September 30, 2021, as compared to $76.3 million for the same period in 2020.

There was a $17.0 million increase in the small business programs, which was partially offset by a $5.4 million reduction of gross written premium in the Company’s hospitality programs.

Of the $5.4 million decrease in gross written premium in the hospitality programs, $5.1 million was from our quick service restaurant line, which has seen some of the larger losses within the hospitality lines of business.

Personal lines gross written premiums increased $4.9 million, or 80.1%, to $11.0 million for the nine months ended September 30, 2021, as compared to $6.1 million for the same period in 2020.

The increase was due to continued growth in the Company’s low-value dwelling book of business.

Net written premiums increased $9.9 million, or 14.4%, to $79.1 million for the nine months ended September 30, 2021, as compared to $69.2 million for the same period in 2020.

Net written premiums did not increase as much as gross written premiums due to a combination of factors that increased our ceded premium rates.

Our blended ratio of ceded earned premiums to gross earned premiums increased from 16.3% to 19.5% in nine months ended September 30, 2020 and 2021, respectively.

The increase in the ceded earned premium-to-gross earned premium ratio was due, in part, to a $2.3 million increase in gross earned premiums relating to a growing commercial umbrella liability program that is almost entirely ceded under a quota share agreement.

This increased the ratio by 2.4 percentage points.

However, we also received a ceding commission from this business that has reduced our acquisition costs.

The remainder of the increase was due to a combination of:

1) a change in the mix of business to more property exposure which has a higher ceding rate;

2) general reinsurance rate increases;

and 3) we purchased more reinsurance as of January 1, 2021 to reduce our commercial property specific loss retention to only $200,000, from $340,000.

Other income consists primarily of fees charged to policyholders by the Company for services outside of the premium charge, such as installment billings and policy issuance costs.

Other income also includes the interest income from the $9.0 million of notes payable from Venture relating to the Venture Transaction.

Commission income is also received by the Company’s insurance agency for writing policies for third-party insurance companies.

All of the third-party business was sold to Venture at June 30, 2021.

Accordingly, other income from that business will diminish over the next few quarters as it transitions over to Venture, and will ultimately no longer occur.

Other income remained flat at $2.0 million for both the nine months ended September 30, 2021 and 2020.

This was partially offset by an increase in the interest income from the notes payable of $158,000 in the third quarter of 2021.

Other gains were $11.7 million for the nine months ended September 30, 2021, compared to $260,000 for the same period in 2020.

The Company sold a portion of its Agency business during the second quarter of 2021, resulting in an $8.9 million gain.

Additionally, the Company received notice from the SBA that the PPP loan was 100% forgiven, including accrued interest, on July 8, 2021.

This resulted in a $2.8 million gain that is included in Other Gains on the Consolidated Statement of Operations in the third quarter of 2021.

The $260,000 gain for the nine months ended September 30, 2020 was due to the repurchase of 36,761 units of the Notes at a discount to face value.

Losses and Loss Adjustment Expenses

The tables below detail our losses and loss adjustment expenses and loss ratios in our underwriting business for the nine months ended September 30, 2021 and 2020 (dollars in thousands).

Nine months ended September 30, 2021

Accident year net losses and LAE

Net (favorable) adverse development

Calendar year net losses and LAE

Accident year loss ratio

Net (favorable) adverse development

Calendar year loss ratio

Nine months ended September 30, 2020

Accident year net losses and LAE

Net (favorable) adverse development

Calendar year net losses and LAE

Accident year loss ratio

Net (favorable) adverse development

Calendar year loss ratio

Net losses and LAE increased by $12.7 million, or 31.1%, to $53.4 million for the nine months ended September 30, 2021, compared to $40.8 million for the same period in 2020.

The Company experienced $2.0 million of catastrophe losses, net of reinsurance recoverables, during the first quarter of 2021 from Winter Storm Uri.

The Company also experienced $15.6 million of adverse development for the nine months ended September 30, 2021, which increased losses further.

Of the $15.6 million in adverse development, $14.7 million was related to commercial lines, while $926,000 was related to personal lines.

The adverse development was mostly attributable to the 2019, 2018 and 2017 and prior accident years, and mostly related to commercial liability lines.

The Company's incurred losses during the nine months ended September 30, 2020, included adverse prior-year reserve development of $11.5 million.

The Commercial lines experienced $11.4 million of unfavorable reserve development for the nine months ended September 30, 2020, of which $8.5 million was incurred in our hospitality programs, while $2.9 million was from our small business programs (mostly in the liability coverages).

The adverse development was mostly attributable to the 2018 and prior accident years.

Expense Ratio

Our expense ratio is a measure of the efficiency and performance of the commercial and personal lines of business (our risk-bearing underwriting operations).

It is calculated by dividing the sum of policy acquisition costs and other underwriting expenses by the sum of net earned premiums and other income of the underwriting business.

Costs that cannot be readily identifiable as a direct cost of a segment or product line remain in Corporate for segment reporting purposes.

The expense ratio excludes wholesale agency and Corporate expenses.

The table below provides the expense ratio by major component.

Nine months ended

September 30,

Commercial Lines

Policy acquisition costs

Operating expenses

Personal Lines

Policy acquisition costs

Operating expenses

Total Underwriting

Policy acquisition costs

Operating expenses

Our expense ratio decreased by 3.5 percentage points for the nine months ended September 30, 2021, as compared to the same period in 2020.

Policy acquisition costs are costs we incur to issue policies, which include commissions, premium taxes, underwriting reports and underwriter compensation costs.

The Company offsets direct commissions with ceded commissions from reinsurers.

For the nine months ended September 30, 2021 and 2020, the percentage of policy acquisition costs to net earned premiums and other underwriting income decreased by 1.0 percentage point to 29.2% compared to 30.2%, respectively.

Operating expenses consist primarily of employee compensation, information technology and occupancy costs, such as rent and utilities.

Total underwriting operating expenses as a percent of net earned premiums and other underwriting income were 13.5% and 16.0% for the nine months ended September 30, 2021 and 2020, respectively.

The operating expense ratio was lower due to our expense reduction efforts, where there has been a real nominal dollar decrease in operating expenses, coupled with net earned premium growth.

Segment Results

We measure the performance of our consolidated results, in part, based on our underwriting gain or loss.

The following table provides the underwriting gain or loss for the nine months ended September 30, 2021 and 2020 (dollars in thousands):

Segment Gain (Loss)

Nine months ended

September 30,

Commercial Lines

Personal Lines

Total Underwriting

Wholesale Agency

Total segment gain (loss)

Liquidity and Capital Resources

Sources and Uses of Funds

At September 30, 2021, we had $17.6 million in cash, cash equivalents and short-term investments.

At March 31, 2022, we had $26.0 million in cash, cash equivalents and short-term investments.

Our principal sources of funds are insurance premiums, investment income, proceeds from maturities and sales of invested assets and installment fees.

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however, this is not the primary means in which the Parent Company supports its funding as state insurance laws restrict the ability of our Insurance Company Subsidiaries to declare dividends to the Parent Company.

There were no dividends paid from our Insurance Company Subsidiaries during the nine months ended September 30, 2021 and 2020.

There were no dividends paid from our Insurance Company Subsidiaries during the three months ended March 31, 2022 and 2021.

Operating Activities .

Cash used in operating activities for the nine months ended September 30, 2021, was $2.0 million, compared to $3.0 million used for the same period in 2020.

There was $12.2 million more premiums collected, net of reinsurance costs, in 2021, compared to 2020, as we continue to increase gross written premiums.

This was offset by $7.2 million more claim payments made in 2021, net of reinsurance recovered (in part due to Winter Storm Uri), $3.0 million more acquisition costs paid in 2021, compared to 2020, as gross written premiums increased, and $1.1 million decrease in investment income received.

Cash used in operating activities for the three months ended March 31, 2022 was $8.5 million, compared to $3.5 million for the same period in 2021.

The $5.0 million increase was primarily due to a $9.2 million increase in ceded premiums paid during the first quarter of 2022, compared to the same period in 2021.

This was due to the new specific commercial liability treaty the Company entered into as of December 31, 2021, which includes a 40% ceding commission.

The increase in ceded premiums paid was offset by a $4.0 million decrease in acquisition costs paid in the first quarter of 2022, compared to the same period in 2021.

This decrease was also related to the new specific commercial liability treaty the Company entered into on December 31, 2021.

Investing Activities.

Cash provided by investing activities for the nine months ended September 30, 2021, was $5.3 million, as compared to $2.0 million of cash used in investing activities for the same period in 2020.

The $7.3 million increase in cash provided by investing activities was driven by a reduction in the purchases of investments in the first nine months of 2021, compared to the same period in 2020.

There was a significant repositioning of the Company’s portfolio during the nine months of 2020 from the COVID-19 pandemic, which caused an increase in the purchases of investments.

Cash provided by investing activities for the three months ended March 31, 2022 was $1.5 million, compared to $1.7 million in the same period in 2021.

The $278,000 decrease of cash provided by investing activities was driven by a $6.7 million increase in purchases of investments during the first quarter of 2022, compared to the same period in 2021.

This was offset by an increase of $5.3 million in proceeds from sales of investments and a $1.2 million increase in proceeds from maturities and redemptions of investments during the first quarter of 2022, compared to the same period in 2021.

Financing Activities.

Cash used in financing activities for the nine months ended September 30, 2021, was $4.0 million, compared to $5.1 million of cash provided by financing activities for the same period in 2020.

The $9.1 million decrease in cash provided by financing activities was mostly due to the Company paying down a net amount of $4.0 million of its outstanding balance on its line of credit during the first nine months of 2021.

Cash provided by financing activities for the three months ended March 31, 2022 was $5.0 million, compared to $2.0 million of cash used in the same period in 2021.

The $7.0 million increase was primarily driven by the Company borrowing $5.0 million on its line of credit during the first quarter of 2022, while the Company paid down a net amount of $2.0 million on its outstanding balance on its line of credit during the first quarter of 2021.

Statutory Capital and Surplus

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These financial reports are prepared using statutory accounting practices promulgated by the Insurance Company Subsidiaries’ state of domiciliary, rather than GAAP.

The Insurance Company Subsidiaries’ aggregate statutory capital and surplus (which is a statutory measure of equity) was $57.8 million and $64.1 million at September 30, 2021 and December 31, 2020, respectively.

The Insurance Company Subsidiaries’ aggregate statutory capital and surplus (which is a statutory measure of equity) was $62.4 million and $63.9 million at March 31, 2022 and December 31, 2021, respectively.

Non-GAAP Financial Measures

Adjusted Operating Income and Adjusted Operating Income Per Share

Adjusted operating income and adjusted operating income per share are non-GAAP measures that represent net income allocable to common shareholders excluding net realized investment gains or losses, changes in fair value of equity securities, and other gains or losses;

Adjusted operating income and adjusted operating income per share are non-GAAP measures that represent net income allocable to common shareholders excluding net realized investment gains or losses, other gains or losses, and changes in fair value of equity securities;

all net of tax.

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Our definition of adjusted operating income may be different from that used by other companies.

The following is a reconciliation of net income (loss) to adjusted operating income (loss) (dollars in thousands), as well as net income (loss) per share to adjusted operating income (loss) per share:

following is a reconciliation of net income (loss) to adjusted operating income (loss) (dollars in thousands), as well as net income (loss) per share to adjusted operating income (loss) per share:

Three Months Ended

September 30,

Nine months ended

September 30,

Net income (loss)

Net realized investment gains and other gains, net of tax

Net realized investment gains (losses), net of tax

Other gains (losses), net of tax

Change in fair value of equity securities, net of tax

3 unchanged sentences

Net income (loss)

Net realized investment gains and other gains, net of tax

Net realized investment gains (losses), net of tax

Other gains (losses), net of tax

Change in fair value of equity securities, net of tax

8 unchanged sentences

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis