Company Quick10K Filing
Quick10K
HCI Group
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$41.53 9 $357
10-K 2018-12-31 Annual: 2018-12-31
10-Q 2018-09-30 Quarter: 2018-09-30
10-Q 2018-06-30 Quarter: 2018-06-30
10-Q 2018-03-31 Quarter: 2018-03-31
10-K 2017-12-31 Annual: 2017-12-31
10-Q 2017-09-30 Quarter: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-K 2016-12-31 Annual: 2016-12-31
10-Q 2016-09-30 Quarter: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-K 2015-12-31 Annual: 2015-12-31
10-Q 2015-09-30 Quarter: 2015-09-30
10-Q 2015-06-30 Quarter: 2015-06-30
10-Q 2015-03-31 Quarter: 2015-03-31
10-K 2014-12-31 Annual: 2014-12-31
10-Q 2014-09-30 Quarter: 2014-09-30
10-Q 2014-06-30 Quarter: 2014-06-30
10-Q 2014-03-31 Quarter: 2014-03-31
10-K 2013-12-31 Annual: 2013-12-31
8-K 2019-04-09 Officers
8-K 2019-04-08 Officers
8-K 2019-02-09 Officers
8-K 2018-12-17 Enter Agreement, Officers, Exhibits
8-K 2018-12-05 Enter Agreement, Exhibits
8-K 2018-11-06 Earnings, Exhibits
8-K 2018-11-06 Other Events, Exhibits
8-K 2018-08-02 Earnings, Exhibits
8-K 2018-06-01 Enter Agreement
8-K 2018-05-24 Shareholder Vote
8-K 2018-05-01 Earnings, Exhibits
8-K 2018-04-17 Officers
8-K 2018-03-06 Earnings, Exhibits
8-K 2018-02-08 Enter Agreement, Officers, Exhibits
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PGC Peapack Gladstone Financial 532
GRAM Grana & Montero 512
YORW York Water 424
GOGO Gogo 411
IVC Invacare 240
AMGI Ameri Metro 0
ELRE Yinfu Gold 0
HCI 2018-12-31
Part I
Item 1A - Risk Factors
Item 1B - Unresolved Staff Comments
Item 2 - Properties
Item 3 - Legal Proceedings
Item 4 - Mine Safety Disclosures
Part II
Item 5 - Market for The Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Item 6 - Selected Financial Data
Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 7A - Quantitative and Qualitative Disclosures About Market Risk
Item 8 - Financial Statements and Supplementary Data
Note 1 - Nature of Operations
Note 2 - Summary of Significant Accounting Policies
Note 3 - Recent Accounting Pronouncements
Note 4 - Cash, Cash Equivalents, and Restricted Cash
Note 5 - Investments
Note 6 - Comprehensive Income (Loss)
Note 7 - Business Acquisitions
Note 8 - Fair Value Measurements
Note 9 - Deferred Policy Acquisition Costs
Note 10 - Property and Equipment, Net
Note 11 - Intangible Assets, Net
Note 12 - Other Assets
Note 13 - Revolving Credit Facility
Note 14 - Long-Term Debt
Note 15 - Reinsurance
Note 16 - Losses and Loss Adjustment Expenses
Note 17 - Segment Information
Note 18 - Income Taxes
Note 19 - Earnings per Share
Note 20 - Stockholders' Equity
Note 21 - Stock-Based Compensation
Note 22 - Employee Benefit Plan
Note 23 - Commitments and Contingencies
Note 24 - Quarterly Results of Operations (Unaudited)
Note 25 - Regulatory Requirements and Restrictions
Note 26 - Related Party Transactions
Note 27 - Condensed Financial Information of Hci Group, Inc.
Note 28 - Subsequent Events
Item 9 - Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A - Controls and Procedures
Item 9B - Other Information
Part III
Item 10 - Directors, Executive Officers and Corporate Governance
Item 11 - Executive Compensation
Item 12 - Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13 - Certain Relationships and Related Transactions, and Director Independence
Item 14 - Principal Accounting Fees and Services
Part IV
Item 15 - Exhibits, Financial Statement Schedules
EX-21 d675399dex21.htm
EX-23.1 d675399dex231.htm
EX-31.1 d675399dex311.htm
EX-31.2 d675399dex312.htm
EX-32.1 d675399dex321.htm
EX-32.2 d675399dex322.htm

HCI Group Earnings 2018-12-31

HCI 10K Annual Report

Balance SheetIncome StatementCash Flow

10-K 1 d675399d10k.htm FORM 10-K Form 10-K
Table of Contents

 

 

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 fiscal year ended December 31, 2018

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 001-34126

 

 

HCI Group, Inc.

(Exact name of Registrant as specified in its charter)

 

 

 

Florida   20-5961396
(State of Incorporation)  

(IRS Employer

Identification No.)

5300 West Cypress Street, Suite 100

Tampa, FL 33607

(Address, including zip code, of principal executive offices)

(813) 849-9500

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class

 

Name of Each Exchange on Which Registered

Common Shares, no par value   New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act: None

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.     Yes  ☐    No  ☒

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.     Yes  ☐    No  ☒

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  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer

 

  

Accelerated filer

 

Non-accelerated filer

 

  

Smaller reporting company

 

    

Emerging growth company

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒

The aggregate market value of the common stock held by non-affiliates of the registrant as of June 30, 2018, computed by reference to the price at which the common stock was last sold on June 30, 2018, was $308,240,719.

The number of shares outstanding of the registrant’s common stock, no par value, on February 26, 2019 was 8,585,568.

DOCUMENTS INCORPORATED BY REFERENCE

The information required by Part III of this Form 10-K is incorporated by reference from the registrant’s definitive proxy statement which will be filed not later than 120 days after the end of the fiscal year covered by this Form 10-K.

 

 

 

 


Table of Contents

HCI GROUP, INC. AND SUBSIDIARIES

TABLE OF CONTENTS

 

        

Page

    PART I:     

Item 1

 

Business

   2-13
Item 1A   Risk Factors    13-28

Item 1B

 

Unresolved Staff Comments

   28

Item 2

 

Properties

   28-29

Item 3

 

Legal Proceedings

   30

Item 4

 

Mine Safety Disclosures

   30
    PART II:     

Item 5

 

Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

   31-34

Item 6

 

Selected Financial Data

   35-36

Item 7

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   37-55

Item 7A

 

Quantitative and Qualitative Disclosures About Market Risk

   56-58

Item 8

 

Financial Statements and Supplementary Data

   59-140

Item 9

 

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

   142

Item 9A

 

Controls and Procedures

   142-143

Item 9B

 

Other Information

   143
    PART III:     

Item 10

 

Directors, Executive Officers and Corporate Governance

   144

Item 11

 

Executive Compensation

   144

Item 12

 

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

   144

Item 13

 

Certain Relationships and Related Transactions, and Director Independence

   144

Item 14

 

Principal Accounting Fees and Services

   145
    PART IV:     

Item 15

 

Exhibits, Financial Statement Schedules

   146-152

Signatures

Certifications


Table of Contents

PART I

ITEM 1 – Business

General

Incorporated in 2006, HCI Group, Inc. is a Florida-based company that, through its subsidiaries is engaged in property and casualty insurance, reinsurance, real estate and information technology. References to “we,” “our,” “us,” “the Company,” or “HCI” in this Form 10-K generally refer to HCI Group, Inc. and its subsidiaries.    Our principal executive offices are located at 5300 West Cypress Street, Suite 100, Tampa, Florida 33607, and our telephone number is (813) 849-9500.

Based on our organizational structure, revenue sources, and evaluation of financial and operating performances by management, we manage the following operations:

 

  a)

Insurance Operations

 

   

Property and casualty insurance

 

   

Reinsurance

 

  b)

Real Estate Operations

 

  c)

Other Operations

 

   

Information technology

 

   

Other auxiliary operations

Insurance Operations

Property and Casualty Insurance

We sell our property and casualty insurance products through two insurance subsidiaries: Homeowners Choice Property & Casualty Insurance Company, Inc. (“HCPCI”) and TypTap Insurance Company (“TypTap”). HCPCI was incorporated and began operations in 2007. TypTap was incorporated and began operations in 2016. We provide various forms of residential insurance products such as homeowners insurance, flood insurance and wind-only insurance to homeowners, condominium owners and tenants for properties primarily located in Florida. HCPCI’s and TypTap’s operations are supported by HCI and the following wholly owned subsidiaries of HCI:

 

   

Homeowners Choice Managers, Inc. – a managing general agent providing marketing, underwriting, claims settlement, accounting and financial services to HCPCI;

 

   

Southern Administration, Inc. – provides policy administration services to the policyholders with HCPCI;

 

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TypTap Management Company – provides managerial and operational services to TypTap;

 

   

Griston Claim Services, Inc. – currently provides claim adjusting services to HCPCI and TypTap; and

 

   

Claddaugh Casualty Insurance Company Ltd. – provides reinsurance programs to HCPCI and TypTap. (See Reinsurance below)

HCPCI began operations by participating in a “take-out program” through which we assumed insurance policies issued by Citizens Property Insurance Corporation (“Citizens”), a Florida state-supported insurer. The take-out program is a legislatively mandated program designed to reduce the State’s risk exposure by encouraging private companies to assume policies from Citizens. Opportunities to acquire large numbers of policies from Citizens meeting our strict underwriting criteria have diminished in recent years. We may, however, selectively pursue additional assumption transactions with Citizens as opportunities arise.

HCPCI is also approved to write residential property and casualty insurance in the states of Arkansas, California, Maryland, North Carolina, New Jersey, Ohio, Pennsylvania, South Carolina and Texas. Written premium generated in these states during 2018 totaled approximately $44,000.

Our operating and growth strategy for our property and casualty insurance business continues to focus on optimizing the existing book of business, developing and deploying new technologies to streamline operations, diversifying geographically and developing new product offerings. As part of that strategy, TypTap is expanding its homeowners’ insurance business in Florida.

Since we currently write policies that primarily insure homes in Florida, we cover losses that may arise from, among other things, hurricanes and other catastrophic events. The occurrence of any such catastrophes could have a significant adverse effect on our business, results of operations, and financial condition. To mitigate the risk associated with catastrophic events, we purchase reinsurance from other large insurance companies. Reinsurance is the largest cost to our property and casualty insurance business. Even without catastrophic events, we may incur losses and loss adjustment expenses that deviate substantially from our estimates and that may exceed our reserves, in which case our net income and capital would decrease. Our operating and growth strategies may also be impacted by regulation of our business by the State of Florida and other states in which we may operate. For example, insurance regulators must approve our policy forms and premium rates as well as monitor our compliance with financial and regulatory requirements. See Item 1A, “Risk Factors,” below.

 

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Table of Contents

Competition

We operate in highly competitive markets where we face competition from national, regional and residual market insurance companies and, in the case of flood insurance, a program backed by the U.S. government. Based on September 30, 2018 annualized premiums written data produced by the Florida Office of Insurance Regulation (“FLOIR”) which excludes State Farm Florida Insurance Company, we are the sixth largest provider of homeowners’ property and casualty insurance in the state. We may also face competition from new entrants in our markets, and such entrants may create pricing pressure that could lead to overall premium reductions across the Florida market.

Our competitive strategies focus on the following key areas:

 

   

Exceptional service – We are committed to maintaining superior service to our policyholders and agents.

 

   

Claims settlement practices – We focus on fair and timely settlement of policyholder claims.

 

   

Disciplined underwriting – We analyze exposures and utilize available underwriting data to ensure policies meet our selective criteria.

 

   

New product offerings – We may cross-sell additional insurance products to our existing policyholders in order to broaden our lines of business and product mix or identify other lines of insurance to offer.

 

   

Effective and efficient use of technology – We strive to add or improve technology that can effectively and efficiently enhance service to our policyholders and agents. For instance, we currently use our internally developed application, Exzeo®, to increase the efficiency of our claims processing and settlement. In addition, our on-line platform for quoting and binding residential flood policies streamlines the underwriting and policy production processes.

 

   

Geographical expansion – We continue to seek opportunities to expand our business within the state of Florida and into other states to increase overall geographic diversification. HCPCI was approved to write residential property and casualty insurance in the states of Arkansas, California, Maryland, North Carolina, New Jersey, Ohio, Pennsylvania, South Carolina and Texas.

Seasonality of Our Business

Our insurance business is seasonal. Hurricanes and tropical storms affecting Florida typically occur during the period from June 1 through November 30 each year. In addition, our reinsurance contracts are generally effective June 1 of each year, and any variation in the cost of our reinsurance, whether due to changes in reinsurance rates or changes in the total insured value of our policy base, will be reflected in our financial results beginning June 1 each year.

 

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Table of Contents

Government Regulation

We are subject to the laws and regulations in any state in which we conduct our insurance business. The regulations cover all aspects of our business and are generally designed to protect the interests of insurance policyholders as opposed to the interests of shareholders. Such regulations relate to a wide variety of financial and non-financial matters including:

 

   

authorized lines of business;

 

   

capital and surplus requirements;

 

   

approval of allowable rates and forms;

 

   

approval of reinsurance contracts;

 

   

investment parameters;

 

   

underwriting limitations;

 

   

transactions with affiliates;

 

   

dividend limitations;

 

   

changes in control; and

 

   

market conduct.

Our failure to comply with certain provisions of applicable insurance laws and regulations could have a material, adverse effect on our business, results of operations or financial condition.

State Licensure and Approval

All states require licensure and regulatory approval prior to the marketing of insurance products. Typically, licensure review is comprehensive and includes a review of a company’s business plan, solvency, reinsurance, rates, and forms, the character of its officers and directors and other of its financial and non-financial aspects. The regulatory authorities may prevent entry into a new market by not granting a license. In addition, regulatory authorities may preclude or delay our entry into markets by disapproving or withholding approval of our product filings.

Statutory Reporting and Examination

All insurance companies must file quarterly and annual statements with certain regulatory agencies in any state in which they are licensed to transact business and are subject to regular and special examinations by those agencies. The National Association of Insurance Commissioners mandates that all insurance companies be examined once every five years. However, the FLOIR has the authority to conduct an examination whenever it is deemed appropriate.    With regard to Florida-domiciled insurance companies such as TypTap that have held a certificate of authority for less than three years, the FLOIR will conduct an examination at least once every year during the first three years of business. HCPCI’s latest financial examination by the FLOIR related to the year ended December 31, 2015. TypTap’s latest financial examination by the FLOIR related to the year ended December 31, 2016.

 

5


Table of Contents

Liability for Losses and Loss Adjustment Expenses

Our liability for losses and loss adjustment expenses represents our estimate of the total cost of (i) claims that have been incurred, but not yet paid (“case reserves”), (ii) losses that have been “incurred but not yet reported” (“IBNR”), and (iii) loss adjustment expenses (“LAE”) which are intended to cover the ultimate cost of adjusting, investigating and settling claims, including investigation and defense of lawsuits resulting from such claims. We base our estimates on various assumptions and actuarial data we believe to be reasonable under the circumstances. The process of estimating the liability is inherently subjective and is influenced by many variables such as past loss experience, current claim trends and the prevailing social, economic and legal environments.

Significant time can elapse between the occurrence of an insured loss, the reporting of the loss to us and our payment of that loss. Our liability for losses and LAE, which we believe represents the best estimate at a given point in time based on facts, circumstances and historical trends then known, may necessarily be adjusted to reflect additional facts that become available during the loss settlement period.

For a discussion and summary of the activity in the liability for losses and LAE for the years ended December 31, 2018, 2017 and 2016, see Note 16 — “Losses and Loss Adjustment Expenses” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Loss Development

Our liability for losses and LAE represents estimated costs ultimately required to settle all claims for a given period. The following table illustrates development of the estimated liability for losses and LAE as of December 31 for the years 2008 through 2018 (amounts in thousands):

 

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Table of Contents

Schedule of Loss Development

 

     2008      2009      2010     2011     2012     2013     2014     2015     2016     2017     2018  

Original net liability for losses and LAE (a)

   $ 14,763      $ 19,178      $ 22,146     $ 27,424     $ 41,168     $ 43,686     $ 48,908     $ 51,690     $ 70,492     $ 97,818     $ 94,827  

Re-estimated net losses and LAE (b) as of:

                        

1 year later

     10,879        18,399        26,776       27,309       38,712       47,344       57,807       72,229       89,199       110,286    

2 years later

     10,991        19,866        26,003       28,536       40,015       50,280       65,367       78,511       104,097      

3 years later

     11,661        19,361        27,226       28,499       42,976       54,696       66,211       89,017        

4 years later

     11,528        19,617        26,544       29,038       45,279       52,404       71,495          

5 years later

     11,424        18,969        26,871       30,788       43,403       55,656            

6 years later

     11,361        19,020        27,732       29,505       44,496              

7 years later

     11,302        19,426        26,838       29,844                

8 years later

     11,459        18,961        27,064                  

9 years later

     11,313        19,002                     

10 years later

     11,354                        

Cumulative net redundancy (deficiency) (c)

     3,409        176        (4,918     (2,420     (3,328     (11,970     (22,587     (37,327     (33,605     (12,468  

Cumulative amount of net liability paid as of:

                        

1 year later

     7,725        10,481        16,833       15,652       22,365       26,595       33,347       41,053       50,533       57,621    

2 years later

     9,229        15,336        20,708       21,707       31,824       38,695       49,122       61,947       80,279      

3 years later

     10,339        17,065        23,732       25,350       37,041       45,655       58,141       77,876        

4 years later

     10,947        17,992        25,063       26,772       40,152       49,924       66,558          

5 years later

     11,121        18,375        25,681       28,052       42,303       53,678            

6 years later

     11,167        18,465        26,238       29,967       43,789              

7 years later

     11,302        18,506        26,478       29,297                

8 years later

     11,305        18,653        26,628                  

9 years later

     11,309        18,668                     

10 years later

     11,309                        

Gross premiums earned

   $  61,925      $  110,011      $  119,757     $  143,606     $  233,607     $  337,113     $  365,488     $  423,120     $ 378,678     $ 358,253     $  343,065  

 

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Table of Contents
     2008      2009      2010      2011      2012      2013      2014      2015      2016      2017     2018  

Gross liability for unpaid losses and LAE

   $  14,763      $  19,178      $  22,146      $  27,424      $  41,168      $  43,686      $  48,908      $  51,690      $  70,492      $ 198,578     $ 207,587  

Ceded liability for unpaid losses and LAE

     —          —          —          —          —          —          —          —          —          (100,760     (112,760
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

Net liability for unpaid

losses and LAE

   $ 14,763      $ 19,178      $ 22,146      $ 27,424      $ 41,168      $ 43,686      $ 48,908      $ 51,690      $ 70,492      $ 97,818     $ 94,827  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

   

 

 

 

 

(a)

Represents management’s original net estimated liability for (i) unpaid claims, (ii) IBNR, and (iii) loss adjustment expenses.

(b)

Represents the re-estimated net liabilities in later years for unpaid claims, IBNR and loss adjustment expenses for each of the respective years.

(c)

Represents the difference between the latest net re-estimate and the original net estimate. A redundancy indicates the original net estimate is higher than the current net estimate whereas a deficiency indicates the original net estimate is lower than the current net estimate.

 

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Reinsurance

We have a Bermuda domiciled wholly owned reinsurance subsidiary, Claddaugh Casualty Insurance Company Ltd. We selectively retain risk in Claddaugh, reducing the cost of third party reinsurance. Claddaugh fully collateralizes its exposure to our insurance subsidiaries by depositing funds into a trust account. Claddaugh may mitigate a portion of its risk through retrocession contracts. Currently, Claddaugh does not provide reinsurance to non-affiliates.

For the years ended December 31, 2018, 2017 and 2016, revenues from insurance operations before intracompany elimination represented 95.0%, 96.2% and 95.5%, respectively, of total revenues of all operating segments. At December 31, 2018, 2017 and 2016, insurance operations’ total assets represented 85.9%, 87.1% and 87.9%, respectively, of the combined assets of all operating segments. See Note 17 — “Segment Information” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Other Operations

Real Estate

Our real estate operations consist of multiple properties we own and operate for investment purposes and also properties we own and use for our own operations.

Properties Used in Operations

Our real estate used in operations consists of our headquarters building which has a gross area of 122,000 square feet in Tampa, Florida, and our secondary insurance operations site with gross area of approximately 16,000 square feet in Ocala, Florida. At our headquarters, we lease available space to non-affiliates at various terms. The Ocala location, in addition to day-to-day operational use, serves as our alternative site in the event we experience any significant disruption at our headquarters building.

Investment Properties

Our investment properties consist of a combined 24 acres of waterfront properties that include one full-service restaurant and two marinas, three retail shopping centers, one office building, and one vacant shopping center recently acquired for redevelopment. We acquired the restaurant and marina operations in connection with our purchase of those properties and we continue to operate them to enhance the property values.

One retail shopping center with 61,400 square feet of net rentable space is located in Sorrento, Florida and is anchored by a large, well-known grocery retailer. We acquired this property in 2016. See Note 7 — “Business Acquisitions” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

 

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Another retail shopping center with 49,995 square feet of net rentable space is located in Melbourne, Florida and also anchored by a large, well-known grocery retailer. In 2016, we acquired full ownership of the property in which we had a 90% non-controlling interest from our 10% joint venture partner. This property had been developed through a limited liability company treated under U.S. GAAP as a joint venture. See Investment in Unconsolidated Joint Venture in Note 5 — “Investments” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Our portfolio of real estate investments also includes one commercial property with 68,867 square feet of net rentable space in Tampa, Florida. This property, which includes an office building fully leased to a major financial institution, was acquired in October 2017. See Real Estate Investments in Note 5 — “Investments” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

In January 2018, we acquired full ownership of one limited liability company which owns commercial real estate in Riverview, Florida. The commercial real estate includes a retail strip center with 8,400 square feet of net rentable space and a parcel of land adjacent to the retail center that is leased to a gas station and convenience store chain. See Consolidated Variable Interest Entity in Note 5 — “Investments” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K for additional information.

In June 2018 we purchased a vacant retail shopping center, with approximately 56,000 square feet of planned rentable space in Clearwater, Florida. The property is under redevelopment for a large, well known grocer, along with additional retailer space. See Real Estate Investments in Note 5 — “Investments” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Other Real Estate Investments

Melbourne FMA, LLC, our wholly owned subsidiary, has a 90% interest in a company which owns two outparcels aggregating approximately 2.1 acres for sale or ground lease. See Investment in Unconsolidated Joint Venture in Note 5 — “Investments” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K for additional information.

Information Technology

Our information technology operations include a team of experienced software developers with extensive knowledge in designing and creating web-based applications and products for mobile devices. The operations, which are located in Tampa, Florida and Noida, India, are focused on developing cloud-based, innovative products and services that support in-house operations as well as our third-party relationships with our agency partners and claim vendors. Products created thus far have been solely for internal use.

TypTap®

TypTap is an online website for quoting and binding residential flood policies for our subsidiary, TypTap. TypTap is designed to be accessible from a mobile phone or any other internet-capable device. With TypTap, customers can obtain a flood insurance quote in seconds and a policy in minutes.

 

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SAMSTM

SAMS is an online platform for supporting back-office policy and claims management for both of our insurance subsidiaries, HCPCI and TypTap. SAMS processes the full life cycle of a policy from policy quoting and issuance to agency management, cash receipts/disbursements, claims reserving and claim payments.

Harmony

Harmony is a new platform for both of our insurance subsidiaries, HCPCI and TypTap. Harmony will eventually replace both the TypTap and SAMS platforms with a single online platform for all new business. This platform provides a simplified user experience for quoting and binding, as well as back office policy management, agency management, cash receipts and disbursements, and claim payments.

CasaClueTM

CasaClue is our proprietary insurance geographical database containing residential property data.

Exzeo®

Exzeo is a cloud-based application available at Exzeo.com which provides a highly customizable environment to support automation and process management to high volume environments. Exzeo.com specifically supports property claim assignments, logistics, and accountability reporting with our third party partners. Exzeo.com has rich system integration through an application program interface (API), which allows hands-free data transfer from other API-capable applications such as SAMS.

AtlasViewerTM

AtlasViewer is our interactive cloud-based data mapping and visualization application. An industry agnostic product, AtlasViewer allows users to combine data from multiple sources and leverage location coordinates to make more informed business decisions. AtlasViewer allows system-to-system integration through an API or allows users to upload documents to view and securely share data on a customized map.

 

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Financial Highlights

The following table summarizes our financial performance during the years ended December 31, 2018, 2017 and 2016:

 

(Amounts in millions except per share amounts)    2018      2017      2016  

For the year ended December 31:

        

Net premium earned

   $  213.4      $  224.6      $  243.6  

Total revenue

   $ 231.3      $ 244.4      $ 264.4  

Losses and loss adjustment expenses

   $ 109.3      $ 165.6      $ 124.7  

Income (loss) before income taxes

   $ 26.9      $ (15.6    $ 46.9  

Net income (loss)

   $ 17.7      $ (6.9    $ 29.0  

Earnings (loss) per share:

        

Basic

   $ 2.34      $ (0.75    $ 2.95  

Diluted

   $ 2.34      $ (0.75    $ 2.92  

Dividends per share

   $ 1.475      $ 1.40      $ 1.20  

Net cash provided by operating activities

   $ 28.6      $ 16.4      $ 88.0  

Cash dividends paid on common stock*

   $ 10.4      $ 12.8      $ 11.7  

At December 31:

        

Total investments

   $ 387.8      $ 380.3      $ 298.7  

Cash and cash equivalents

   $ 239.5      $ 255.9      $ 280.5  

Total assets

   $ 832.9      $ 842.3      $ 670.1  

Total stockholders’ equity

   $ 181.4      $ 194.0      $ 243.7  

Common shares outstanding (in millions)

     8.4        8.8        9.7  

 

*

Net of cash dividends received under share repurchase forward contract

Environmental Matters

As a property owner, we are subject to regulations under various federal, state, and local laws concerning the environment, including laws addressing the discharge of pollutants into the air and water and the management and disposal of hazardous substances and wastes and the cleanup of contaminated sites.

Cybersecurity

We rely on digital technology to conduct our businesses and interact with customers, policyholders, agents, and vendors. With this reliance on technology comes the associated security risks from using today’s communication technology and networks.

To defend our computer systems from cyber-attacks, we utilize tools such as firewalls, anti-malware software, multifactor authentication, e-mail security services, virtual private networks, third party security experts, and timely applied software patches, among others. We engage third-party consultants to conduct penetration tests to identify potential security vulnerabilities. Although we believe our defenses against cyber-intrusions are sufficient, we continually monitor our computer networks for new types of threats.

 

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Employees

As of February 23, 2019, we employed a total of 387 full-time individuals. In addition, we leased 78 employees through an employee leasing agency.

Available Information

We file annual, quarterly, and current reports with the U.S. Securities and Exchange Commission (“SEC”). These filings are accessible free of charge on our website, www.hcigroup.com (click “SEC filings” at the “Investor Information” tab), as soon as reasonably practicable after they have been electronically filed with or furnished to the SEC. The SEC maintains an Internet site that contains reports, proxy and information statements, and other information regarding issuers, which can be accessed via the SEC’s website at www.sec.gov. In addition, these filings are accessible at the SEC’s Public Reference Room, which is located at 100 F Street, NE, Washington, DC 20549-0213. Information on the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330.

ITEM 1A – Risk Factors

Our business is subject to a number of risks, including those described below, which could have a material effect on our results of operations, financial condition or liquidity and could cause our operating results to vary significantly from period to period.

Our historical revenue growth was derived primarily through policy assumptions and acquisitions. We cannot guarantee that future policy assumptions and acquisitions will be available to the extent they have in the past.

Substantially all of our historical revenue has been generated from policies assumed from Citizens, our acquisition of policies from one Florida insurance company and subsequent renewals of these policies. Our ability to grow our premium base may depend upon the availability of future policy assumptions and acquisitions upon acceptable terms. Opportunities to acquire large numbers of policies from Citizens meeting our strict underwriting criteria have diminished in recent years. We cannot provide assurance that such opportunities will arise in the future.

Although we began selling insurance products in other states, our insurance business is primarily in Florida. Thus, any catastrophic event or other condition affecting losses in Florida could adversely affect our financial condition and results of operations.

 

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Any catastrophic event, a destructive weather pattern, a general economic trend, regulatory developments or other conditions specifically affecting the state of Florida could have a disproportionately adverse impact on our business, financial condition, and results of operations. While we actively manage our exposure to catastrophic events through our underwriting process and the purchase of reinsurance, the fact that our business is concentrated in the state of Florida subjects it to increased exposure to certain catastrophic events and destructive weather patterns such as hurricanes, tropical storms, and tornados. Changes in the prevailing regulatory, legal, economic, political, demographic and competitive environment, and other conditions in the state of Florida could also make it less attractive for us to do business in Florida and would have a more pronounced effect on our business than it would on other insurance companies that are geographically diversified. Since our business is concentrated in this manner, the occurrence of one or more catastrophic events or other conditions affecting losses in the state of Florida could have an adverse effect on our business, financial condition, and/or results of operations.

Changing climate conditions could have an adverse impact on our business, results of operations or financial condition.

There is an emerging scientific consensus on climate change, which may affect the frequency and severity of storms and other weather events, and negatively affect our business, results of operations, and/or financial condition.

Our results may fluctuate based on many factors including cyclical changes in the insurance industry.

The insurance industry historically has been cyclical, characterized by periods of intense price competition due to excessive underwriting capacity, as well as periods when shortages of capacity permitted an increase in pricing and, thus, more favorable underwriting profits. As premium levels increase, there may be new entrants to the market, which could subsequently lead to a decrease in premium levels. Any of these factors could lead to a significant reduction in premium rates in future periods, less favorable policy terms and fewer opportunities to underwrite insurance risks, which could have a material, adverse effect on our results of operations and cash flows. In addition to these considerations, changes in the frequency and severity of losses suffered by insureds and insurers may affect the cycles of the insurance business significantly.

We cannot predict whether market conditions will improve, remain constant or deteriorate. Negative market conditions may impair our ability to write insurance at rates that we consider appropriate relative to the risk assumed. If we cannot write insurance at appropriate rates, our business would be materially and adversely affected.

Our business could be harmed if we lose the services of our key personnel.

Our operations are highly dependent on the efforts of our senior executive officers, particularly our chief executive officer, Paresh Patel, as well as our chief financial officer, Mark Harmsworth, and the President of our Real Estate Division, Anthony Saravanos. The loss of their leadership, industry knowledge and experience could negatively impact our operations. However, we have management succession plans to lessen any such negative impact. Apart from Mr. Patel and Mr. Harmsworth, we have no employment agreements with any of our personnel nor do we offer any guarantee of any employee’s ongoing service. We maintain key-man life insurance on Mr. Patel although such policy may be insufficient to cover the damage resulting from the loss of Mr. Patel’s services.

 

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Our information technology systems may fail or be disrupted, which could adversely affect our business.

Our insurance business is highly dependent upon the successful and uninterrupted functioning of our computer and data processing systems. We rely on these systems to perform underwriting and other modeling functions necessary for writing business, as well as to handle our policy administration process (i.e., the printing and mailing of our policies, endorsements, renewal notices, etc.). The failure or disruption of these systems could interrupt our operations and result in a material, adverse effect on our business.

The growth of our insurance business is dependent upon the successful development and implementation of advanced computer and data processing systems as well as the development and deployment of new information technologies to streamline our operations, including policy underwriting, production and administration and claim handling. The failure of these systems to function as planned could slow our growth and adversely affect our future business volume and results of operations.

We conduct our business primarily from offices located in Tampa, Florida where tropical storms could damage our facilities or interrupt our power supply. The loss or significant impairment of functionality in these facilities for any reason could have a material, adverse effect on our business although we believe we have sufficient redundancies to replace our facilities if functionality is impaired. We contract with a third-party vendor to maintain complete daily backups of our systems, which are stored at the vendor’s facility in Atlanta, Georgia. We additionally use industry leading Internet cloud infrastructure providers to host some of our data processing systems. These cloud providers ensure redundancy across geographic regions with additional daily system backups. Access to these databases and hosted environments is strictly controlled and limited to authorized personnel. In the event of a disaster causing a complete loss of functionality at our Tampa location, we plan to temporarily use our secondary office in Ocala, Florida to continue our operations.

An unauthorized disclosure or loss of policyholder or employee information or other sensitive or confidential information, including by cyber-attack or other security breach, could cause a loss of data, give rise to remediation or other expenses, expose us to liability under federal and state laws, and subject us to litigation and investigations, which could have an adverse effect on our business, cash flows, financial condition and results of operations.

As part of our normal operations, we collect, process and retain certain sensitive and confidential information. We are subject to various federal and state privacy laws and rules regarding the use and disclosure of certain sensitive or confidential information, including the Gramm-Leach-Bliley Act and its state-law progeny. Despite the security measures we have implemented to help ensure data security and compliance with applicable laws and rules, which include firewalls, regular penetration testing and other measures, our facilities and systems, and those of our third-party service providers and vendors, may be vulnerable to cyber-attacks, security breaches, acts of vandalism, computer viruses, theft of data, misplaced or lost data, programming and human errors, physical break-ins, or other disruptions. In addition, we cannot ensure that we will be able to identify, prevent or contain the effects of possible cyber-attacks or other cybersecurity risks in the future that may bypass our security measures or disrupt our information technology systems or business.

 

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Noncompliance with any privacy or security laws and regulations, or any security breach, cyber-attack or cybersecurity breach, and any incident involving the misappropriation, loss or other unauthorized disclosure or use of, or access to, sensitive or confidential member information, could require us to expend significant capital and other resources to continue to modify or enhance our protective measures and to remediate any damage caused by such breaches. In addition, this could result in interruptions to our operations and damage to our reputation, and misappropriation of confidential information could also result in regulatory enforcement actions, material fines and penalties, litigation or other liability or actions which could have a material adverse effect on our business, cash flows, financial condition and results of operations. As the regulatory environment related to information security, data collection and use, and privacy becomes increasingly rigorous, with new and constantly changing requirements applicable to our business, compliance with those requirements could also result in additional costs.

We rely on service providers and vendors to provide certain technology, systems and services that we use in connection with various functions of our business, including PCI DSS (Payment Card Industry Data Security Standard) compliant credit card processing, and we may entrust them with confidential information. The information systems of our third-party service providers and vendors are also vulnerable to an increasing threat of continually evolving cybersecurity risks. Unauthorized parties may attempt to gain access to these systems or our information through fraud or other means of deceiving our associates, third-party service providers or vendors. Hardware, software or applications we obtain from third parties may contain defects in design or manufacture or other problems that could unexpectedly compromise information security. The methods used to obtain unauthorized access, disable or degrade service or sabotage systems are also constantly changing and evolving and may be difficult to anticipate or detect for long periods of time. Ever-evolving threats mean our third-party service providers and vendors must continually evaluate and adapt their own respective systems and processes, and there is no assurance that they will be adequate to safeguard against all data security breaches or misuses of data. Any future significant compromise or breach of our data security via a third-party service provider or vendor could result in additional significant costs, lost revenues, fines, lawsuits, and damage to our reputation.

Increased competition, competitive pressures, industry developments, and market conditions could affect the growth of our business and adversely impact our financial results.

The property and casualty insurance industry in Florida is cyclical and highly competitive. We compete not only with other stock companies but also with mutual companies, the U.S. government, other underwriting organizations and alternative risk sharing mechanisms. Our principal lines of business are written by numerous other insurance companies. Competition for any one account may come from very large, well-established national companies, smaller regional companies, other specialty insurers in our field, and new entrants to the Florida market. Many of these competitors have greater financial resources, larger agency networks and greater name recognition than our company. We compete for business not only on the basis of price, but also on the basis of financial strength, types of coverage offered, availability of coverage desired by customers, commission structure, and quality of service. We may have difficulty continuing to compete successfully on any of these bases in the future. Competitive pressures coupled with market conditions may affect our rate of premium growth and financial results.

 

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Our ability to compete in the property and casualty insurance industry and our ability to expand our business may be negatively affected by the fact that we are not a long-established company. HCPCI and TypTap have each obtained a Demotech rating of “A Exceptional,” which is accepted by major mortgage companies operating in the state of Florida and many other states. Mortgage companies may require homeowners to obtain property insurance from an insurance company with an acceptable A.M. Best rating, which we do not currently have. Such a requirement could prevent us from expanding our business unless we obtain such rating, which may in turn limit our ability to compete with large, national insurance companies and certain regional insurance companies. A downgrade or loss of our Demotech rating could result in a substantial loss of business in the event insureds move their business to insurers with a sufficient financial strength rating.

There are inherent limitations and risks related to our projections and our estimates of claims and loss reserves. If our actual losses exceed our loss reserves, our financial results, our ability to expand our business, and our ability to compete in the property and casualty insurance industry may be negatively affected. In addition, industry developments could further increase competition in our industry. These developments could include —

 

   

an influx of new capital in the marketplace as existing companies attempt to expand their businesses and new companies attempt to enter the insurance business because of better pricing and/or terms;

 

   

new programs or changes to existing programs in which federally or state-sponsored entities provide property insurance in catastrophe-prone areas or other alternative markets;

 

   

changes in Florida’s or any other states’ regulatory climate; and

 

   

the enactment of federal proposals for an optional federal charter that would allow some competing insurers to operate under regulations different or less stringent than those applicable to our insurance subsidiaries.

These developments and others could make the property and casualty insurance marketplace more competitive by increasing the supply of insurance available.

If competition limits our ability to write new business at adequate rates, our future results of operations would be adversely affected.

If our actual losses from claims exceed our loss reserves, our financial results would be adversely affected.

Our objective is to establish loss reserves that are adequate and represent management’s best estimate of the ultimate cost to investigate and settle a specific claim. However, the process of establishing adequate reserves is complex and inherently uncertain, and the ultimate cost of a claim may vary materially from the amounts reserved. We regularly monitor and evaluate loss and loss adjustment expense reserve development to determine reserve adequacy.

 

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Due to these uncertainties, the ultimate losses may vary materially from current loss reserves which could have a material, adverse effect on our future financial condition, results of operations and cash flows.

Our failure to pay claims accurately could adversely affect our insurance business, financial results and capital requirements.

We rely on our claims personnel to accurately evaluate and pay the claims made under our policies. Many factors could affect our ability to accurately evaluate and pay claims, including the accuracy of our external independent adjusters as they make their assessments and submit their estimates of damages; the training, background, and experience of our claims representatives; the ability of our claims personnel to ensure consistent claims handling given the input by our external independent adjusters; the ability of our claims department to translate the information provided by our external independent adjusters into acceptable claims settlements; and the ability of our claims personnel to maintain and update our claims handling procedures and systems as they evolve over time based on claims and geographical trends in claims reporting. Any failure to pay claims accurately could lead to material litigation, undermine our reputation in the marketplace, impair our corporate image and negatively affect our financial results.

The effects of emerging claim and coverage issues on our business are uncertain.

As industry practices and legal, judicial, social and other environmental conditions change, unexpected and unintended issues related to claims and coverage may emerge. These issues may adversely affect our business by either extending coverage beyond our underwriting intent or by increasing the number or size of claims. In some instances, these changes may not become apparent until sometime after we have issued insurance contracts that are affected by the changes. As a result, the full extent of liability under our insurance contracts may not be known for many years after a contract is issued and renewed, and our financial position and results of operations may be adversely affected as a result of any such unforeseen changes.

 

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If we are unable to expand our business because our capital must be used to pay greater than anticipated claims, our financial results may suffer.

Our future growth will depend on our ability to expand the number of insurance policies we write, to expand the kinds of insurance products we offer, and to expand the geographic markets in which we do business, all balanced by the insurance risks we choose to write and cede. Our existing sources of funds include operations, investment holdings, and possible sales of our investment securities. Unexpected catastrophic events in our market areas, such as hurricanes, may result in greater claims losses than anticipated, which could require us to limit or halt our growth while we redeploy our capital to pay these unanticipated claims unless we can raise additional capital.

HCI Group, Inc. depends on the ability of its subsidiaries to generate and transfer funds to meet its debt obligations.

HCI Group, Inc. does not have significant revenue generating operations of its own. Our ability to make scheduled payments on our debt obligations depends on the financial condition and operating performance of our subsidiaries. If the funds we receive from our subsidiaries, some of which are subject to regulatory restrictions on the payment of distributions, are insufficient to meet our debt obligations, we may be required to raise funds through the issuance of additional debt or equity securities, reduce or suspend dividend payments, or sell assets.

We may require additional capital in the future which may not be available or may only be available on unfavorable terms.

Our future capital requirements depend on many factors, including our ability to write new business successfully and to establish premium rates and reserves at levels sufficient to cover losses. To the extent that our present capital is insufficient to meet future operating requirements or to cover losses, we may need to raise additional funds through financings or curtail our growth. Based on our current operating plan, we believe current capital together with our anticipated retained income will support our operations. However, we cannot provide any assurance in that regard, since many factors will affect our capital needs and their amount and timing, including our growth and profitability, and the availability of reinsurance, as well as possible acquisition opportunities, market disruptions and other unforeseeable developments. If we require additional capital, it is possible that equity or debt financing may not be available at all or may be available only on terms unfavorable to us. Equity financings could result in dilution to our shareholders, and in any case such securities may have rights, preferences and privileges that are senior to those of existing shareholders. If we cannot obtain adequate capital on favorable terms or at all, our business, financial condition or results of operations could be materially affected.

 

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There may be limited markets for and restrictions on certain holdings in our investment portfolio.

Certain holdings in our investment portfolio include limited partnership interests and a real estate joint venture. We may increase our holdings in these types of investments as we pursue diversification. These investments may be illiquid in the near term as they are privately placed and are subject to certain restrictions or conditions that may limit our ability to immediately dispose of the investments. If it becomes necessary to sell any of these investments at a time when the fair market value is below our carrying value, we may incur significant losses which could have a material adverse effect on our net income and financial position.

Our financial results may be negatively affected by the fact that a portion of our income is generated by the investment of our available cash.

A portion of our income is, and likely will continue to be, generated by the investment of our available cash. The amount of income so generated is a function of our investment policy, available investment opportunities, and the amount of available cash invested. We may alter our investment policy to accept higher levels of risk with the expectation of higher returns. Fluctuating interest rates and other economic factors make it difficult to estimate accurately the amount of investment income that will be realized. In fact, we have realized and may in the future realize losses on sales of our investments as well as other-than-temporary losses on our investment holdings. Any unfavorable change to the fair value of our equity securities will also impact our financial results.

Reinsurance coverage may not be available to us in the future at commercially reasonable rates or at all and we risk non-collectability of reinsurance amounts due us from reinsurers with which we have contracted.

Reinsurance is a method of transferring part of an insurance company’s liability under an insurance policy to another insurance company, or reinsurer. We use reinsurance arrangements to limit and manage the amount of risk we retain, to stabilize our underwriting results and to increase our underwriting capacity. The cost of such reinsurance is subject to prevailing market conditions beyond our control, such as the amount of capital in the reinsurance market and the occurrence of natural and man-made catastrophes. We cannot be assured that reinsurance will remain continuously available to us in the amounts we consider sufficient and at prices acceptable to us. As a result, we may determine to increase the amount of risk we retain or look for other alternatives to reinsurance, which could in turn have a material, adverse effect on our financial position, results of operations and cash flows.

With respect to the reinsurance contracts we currently have in effect, our ability to recover amounts due from reinsurers is subject to such reinsurers’ ability and willingness to pay and to meet their obligations to us. We attempt to select financially strong reinsurers with an A.M. Best rating of “A-” or better or we require the reinsurer to fully collateralize its exposure. While we monitor from time to time the financial condition of our reinsurers, we rely principally on A.M. Best, our reinsurance broker, and other rating agencies in determining their ability to meet their obligations to us. Any failure on the part of any one reinsurance company to meet its obligations to us could have a material, adverse effect on our financial condition or results of operations.

 

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We have exposure to unpredictable catastrophes, which can materially and adversely affect our financial results.

We write insurance policies that cover homeowners, condominium owners, and tenants for losses that result from, among other things, catastrophes. We are therefore subject to losses, including claims under policies we have written, arising out of catastrophes that may have a significant effect on our business, results of operations, and financial condition. A significant catastrophe could also have an adverse effect on our reinsurers. Catastrophes can be caused by various events, including hurricanes, tropical storms, tornadoes, windstorms, earthquakes, hailstorms, explosions, power outages, fires and man-made events. The incidence and severity of catastrophes are inherently unpredictable. The extent of losses from a catastrophe is a function of both the total amount of insured exposure in the area affected by the event and the severity of the event. Our policyholders are currently concentrated in Florida, which is especially subject to adverse weather conditions such as hurricanes and tropical storms. Therefore, although we attempt to manage our exposure to catastrophes through our underwriting process and the purchase of reinsurance protection, an especially severe catastrophe or series of catastrophes could exceed our reinsurance protection and may have a material, adverse impact on our results of operations and financial condition.

Industry trends, such as increased litigation against the insurance industry and individual insurers, the willingness of courts to expand covered causes of loss, rising jury awards, and the escalation of loss severity may contribute to increased costs and to the deterioration of the reserves of our insurance subsidiaries.

Loss severity in the property and casualty insurance industry may increase and may be driven by larger court judgments. In the event legal actions and proceedings are brought on behalf of classes of complainants, this may increase the size of judgments. The propensity of policyholders and third party claimants to litigate and the willingness of courts to expand causes of loss and the size of awards may render our loss reserves inadequate for current and future losses.

The failure of the risk mitigation strategies we utilize could have a material, adverse effect on our financial condition or results of operations.

We utilize a number of strategies to mitigate risk exposure within our insurance business, which include:

 

 

engaging in vigorous underwriting;

 

 

carefully evaluating terms and conditions of our policies;

 

 

focusing on our risk aggregations by geographic zones and other bases; and

 

 

ceding insurance risk to reinsurance companies.

However, there are inherent limitations in these tactics. We cannot provide assurance that an unanticipated event or series of events will not result in loss levels which could have a material, adverse effect on our financial condition or results of operations.

 

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The failure of any of the loss limitation methods we employ could have a material, adverse effect on our financial condition or our results of operations.

Our insurance underwriting process is generally designed to limit our exposure to known and manageable risks. Various provisions of our policies, such as limitations or exclusions from coverage, which have been negotiated to limit our risks, may not be enforceable in the manner we intend.

In addition, the policies we issue contain conditions requiring the prompt reporting of claims to us and our right to decline coverage in the event of a violation of that condition. While our insurance product exclusions and limitations reduce the loss exposure to us and help eliminate known exposures to certain risks, it is possible that a court or regulatory authority could nullify or void an exclusion or legislation could be enacted modifying or barring the use of such endorsements and limitations in a way that would adversely affect our loss experience, which changes could have a material, adverse effect on our financial condition or results of operations.

Now and in the future, we may rely on independent agents to write our insurance policies, and if we are not able to contract with and retain independent agents, our revenues would be negatively affected.

Although voluntary policies comprise a small percentage of our business, we expect to increase the number of voluntary policies (policies not assumed or acquired from another company) we write as our business and product lines expand. An inability to sell our products through independent agents would negatively affect our revenues.

We must compete with other insurers for independent agents’ business. Our competitors may offer a greater variety of insurance products, lower premiums for insurance coverage, or higher commissions to their agents. If our products, pricing and commissions do not remain competitive, we may find it more difficult to attract business from independent agents to sell our products. A material reduction in the amount of our products that independent agents sell could negatively affect our revenues.

Our growth may depend on the success of our residential flood offering.

Currently we offer residential flood insurance solely in Florida. We plan to expand our flood insurance business to other states and eventually establish ourselves as a leading alternative to the National Flood Insurance Program, administered by the Federal Emergency Management Agency.

We entered the residential flood market based upon our own analysis that in certain states and regions, with selective underwriting, we could profitably compete with the National Flood Insurance Program on the basis of lower rates. We are one of only a few private entrants into the flood insurance market. There is relatively little actuarial or historical data available relating to flood events. We have our own sophisticated underwriting algorithms for accepting flood insurance applications. Our algorithms, however, are untested.

 

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There can be no assurance that future laws and regulations relating to flood insurance will not materially and adversely impact our ability to profitably compete in the residential flood market. Further there can be no assurance that our original analysis regarding residential flood insurance and its risks and costs will be proven correct over time or that our algorithms will deliver the anticipated underwriting results.

Our flood insurance offering features an on-line platform for quoting and binding residential flood policies that is designed to be quick and easy to use and accessible by any Internet capable device, such as a mobile phone. We have only recently begun to explore and develop methods to market our flood insurance and on-line platform. Since the federal flood program has dominated the flood insurance market for over 40 years, the market for private flood insurance is relatively new. There can be no assurance that our marketing efforts will be successful in producing substantial numbers of flood insurance policies for us or that prospective insureds will be receptive to our flood insurance or our on-line platform.

Our success depends on our ability to accurately price the risks we underwrite.

The results of our operations and our financial condition depend on our ability to underwrite and set premium rates accurately for a wide variety of risks, including risks associated with flood insurance and other new product offerings. Rate adequacy is necessary to generate sufficient premiums to pay losses, loss adjustment expenses, and underwriting expenses and to earn a profit. To price our products accurately, we must collect and properly analyze a substantial amount of data; develop, test and apply appropriate rating formulas; closely monitor and timely recognize changes in trends; and project both severity and frequency of losses with reasonable accuracy. Our ability to undertake these efforts successfully, and thus, price our products accurately, is subject to several risks and uncertainties, some of which are outside our control, including —

 

 

the availability of sufficient reliable data;

 

 

the uncertainties that inherently characterize estimates and assumptions;

 

 

our selection and application of appropriate rating and pricing techniques;

 

 

changes in legal standards, claim settlement practices, and restoration costs; and

 

 

legislatively imposed consumer initiatives.

In addition, we could underprice risks, which would negatively affect our profit margins. We could also overprice risks, which could reduce our retention, sales volume and competitiveness. The foregoing factors could materially and adversely affect our profitability.

 

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Use of current operating resources may be necessary to develop future new insurance products.

We may expand our product offerings by underwriting additional insurance products and programs. Expansion of our product offerings will result in increases in expenses due to additional costs incurred in actuarial rate justifications, software and personnel. Offering additional insurance products will also require regulatory approval, further increasing our costs and potentially affecting the speed with which we will be able to pursue new market opportunities. Claddaugh may offer reinsurance products to unaffiliated insurance companies. We cannot assure you that we will be successful bringing new insurance products to markets.

Use of current operating resources may be necessary to expand our insurance business geographically.

We are expanding our homeowners’ insurance business in other states. Geographic expansion of our insurance business will result in increases in expenses due to additional costs incurred in actuarial rate justifications, software, personnel and regulatory compliance. Although we plan to enter other states judiciously with attention to profitability, we cannot assure you that our entry into other states will be successful.

As an insurance holding company, we are currently subject to state regulation and in the future may become subject to federal regulation.

All states regulate insurance holding company systems. State statutes and administrative rules generally require each insurance company in the holding company group to register with the department of insurance in its state of domicile and to furnish information concerning the operations of the companies within the holding company system that may materially affect the operations, management or financial condition of the insurers within the group. As part of its registration, each insurance company must identify material agreements, relationships and transactions with affiliates, including without limitation, loans, investments, asset transfers, transactions outside of the ordinary course of business, certain management, service, and cost sharing agreements, reinsurance transactions, dividends, and consolidated tax allocation agreements.

Insurance holding company regulations generally provide that transactions between an insurance company and its affiliates must be fair and equitable, allocated between the parties in accordance with customary accounting practices, and fully disclosed in the records of the respective parties. Many types of transactions between an insurance company and its affiliates, such as transfers of assets among such affiliated companies, certain dividend payments from insurance subsidiaries and certain material transactions between companies within the system may be subject to prior approval by, or prior notice to, state regulatory authorities. If we are unable to obtain the requisite prior approval for a specific transaction, we would be precluded from taking the action, which could adversely affect our operations. In addition, state insurance regulations also frequently impose notice or approval requirements for the acquisition of specified levels of ownership in the insurance company or insurance holding company.

 

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HCPCI is approved as an admitted carrier in the states of Arkansas, California, Florida, Maryland, North Carolina, New Jersey, Ohio, Pennsylvania, South Carolina and Texas. TypTap is approved as an admitted carrier in Florida only. In addition, HCPCI is approved as a non-admitted carrier in Virginia. We may in the future seek authorization to transact business in other states as well. We will therefore become subject to the laws and regulatory requirements of those states. These regulations may vary from state to state, and states occasionally may have conflicting regulations. Currently, the federal government’s role in regulating or dictating the policies of insurance companies is limited. However, Congress, from time to time, considers proposals that would increase the role of the federal government in insurance regulation, either in addition to or in lieu of state regulation. The impact of any future federal insurance regulation on our insurance operations is unclear and may adversely impact our business or competitive position.

Our insurance subsidiaries are subject to extensive regulation, which may reduce our profitability or limit our growth. Moreover, if we fail to comply with these regulations, we may be subject to penalties, including fines and suspensions, which may adversely affect our financial condition and results of operations.

The insurance industry is highly regulated and supervised. Our insurance subsidiaries are subject to the supervision and regulation of the states in which they are domiciled and the states in which they transact insurance business. Such supervision and regulation is primarily designed to protect our policyholders rather than our shareholders. These regulations are generally administered by a department of insurance in each state and relate to, among other things —

 

   

the content and timing of required notices and other policyholder information;

 

   

the amount of premiums the insurer may write in relation to its surplus;

 

   

the amount and nature of reinsurance a company is required to purchase;

 

   

participation in guaranty funds and other statutorily created markets or organizations;

 

   

business operations and claims practices;

 

   

approval of policy forms and premium rates;

 

   

standards of solvency, including risk-based capital measurements;

 

   

licensing of insurers and their products;

 

   

restrictions on the nature, quality and concentration of investments;

 

   

restrictions on the ability of insurance company subsidiaries to pay dividends to their holding companies;

 

   

restrictions on transactions between insurance companies and their affiliates;

 

   

restrictions on the size of risks insurable under a single policy;

 

   

requiring deposits for the benefit of policyholders;

 

   

requiring certain methods of accounting;

 

   

periodic examinations of our operations and finances;

 

   

the form and content of records of financial condition required to be filed; and

 

   

the level of reserves.

The FLOIR and regulators in other jurisdictions where we may become licensed and offer insurance products conduct periodic examinations of the affairs of insurance companies and require the filing of annual and other reports relating to financial condition, holding company issues and other matters. These regulatory requirements may adversely affect or inhibit our ability to achieve some or all of our business objectives. These regulatory authorities also conduct periodic examinations into insurers’ business practices. These reviews may reveal deficiencies in our insurance operations or non-compliance with regulatory requirements.

 

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In certain states including Florida, insurance companies are subject to assessments levied by the states where they conduct their business. While we can recover these assessments from Florida policyholders through policy surcharges, our payment of the assessments and our recoveries may not offset each other in the same reporting period in our financial statements and may cause a material, adverse effect on our cash flows and results of operations in a particular reporting period.

In addition, regulatory authorities have relatively broad discretion to deny or revoke licenses for various reasons, including the violation of regulations. In some instances, we follow practices based on our interpretations of regulations or practices that we believe may be generally followed by the industry. These practices may turn out to be different from the interpretations of regulatory authorities. If we do not have the requisite licenses and approvals or do not comply with applicable regulatory requirements, insurance regulatory authorities could preclude or temporarily suspend us from carrying on some or all of our activities or otherwise penalize us. This could adversely affect our ability to operate our business.

Finally, changes in the level of regulation of the insurance industry or changes in laws or regulations themselves or interpretations by regulatory authorities could adversely affect our ability to operate our business, reduce our profitability and limit our growth.

Our revenue from real estate investments may be affected by the success and economic viability of our anchor retail tenants. Our reliance on a single or significant tenant at certain properties may impact our ability to lease vacated space and adversely affect returns on the specific property.

At certain retail centers, we may have tenants, commonly referred to as anchor tenants, occupying all or a large portion of the gross leasable space. In the event an anchor tenant becomes insolvent, suffers a downturn in business, ceases its operations at the retail center, or otherwise determines not to renew its lease, any reduction or cessation of rental payments to us could adversely affect the returns on our real estate investments. A lease termination or cessation of operations by an anchor tenant could also lead to the loss of other tenants at the specific retail location. We may then incur additional expenses to make improvements and prepare the vacated space to be leased to one or more new tenants.

Similarly, the leases of some anchor tenants may permit the anchor tenant to transfer its lease to another retailer. The transfer to a new anchor tenant could cause customer traffic in the retail center to decrease and thereby reduce the income generated by that retail center. A lease transfer to a new anchor tenant could also allow other tenants to make reduced rental payments or to terminate their leases.

 

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Our retail and other real estate properties may be subject to impairment charges which can adversely affect our financial results.

We periodically evaluate our long-lived assets and related intangible assets to determine if there has been any impairment in their carrying values. If we determine an impairment has occurred, we are required to record an impairment charge equal to the excess of the asset’s carrying value over its estimated fair value. As our real estate operations grow, there is an increased potential that the impairment of an asset could have a material adverse effect on our financial results. In addition, our fair value estimates are based on several assumptions that are subject to economic and market uncertainties including, but not limited to, demand for space, competition for tenants, changes in market rental rates and costs to operate each property. As these factors are difficult to predict and are subject to future events that may alter our assumptions, the future cash flows estimated in our impairment analysis may not be achieved.

Our real estate operations are subject to regulation under various federal, state, and local laws concerning the environment.

Our real estate operations own various properties including a restaurant, marina facilities, and commercial buildings. As a result, we are subject to regulation under various federal, state, and local laws concerning the environment, including laws addressing the discharge of pollutants into the air and water and the management and disposal of hazardous substances and wastes and the cleanup of contaminated sites. We could incur substantial costs, including remediation costs, fines and civil or criminal sanctions and third-party damage or personal injury claims, if in the future we were to violate or become liable under environmental laws relating to our real estate operations.

Our real estate operations include owning restaurant operations, which expose us to additional risks, which could negatively impact our operating results and financial condition.

Our restaurant operations expose us to unique business risks. For example, restaurant operations are dependent in large part on food, beverage, and supply costs that are not within our control. In addition, the restaurant industry is affected by changes in consumer preferences and discretionary spending patterns that could adversely affect revenues from restaurant operations. Moreover, the restaurant industry is affected by litigation and publicity concerning food quality, health, alcoholic beverages and other issues which can cause guests to avoid restaurants and that can result in liabilities. Any one of these risks, among others, could negatively impact our operating results and financial condition.

 

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Our operations in India expose us to additional risks, which could negatively impact our business, operating results, and financial condition.

Our India operations expose us to additional risks including income tax risks, currency exchange rate fluctuations and risks related to other challenges caused by distance, language, and compliance with Indian labor laws and other complex foreign and U.S. laws and regulations that apply to our India operations. These numerous and sometimes conflicting laws and regulations include anti-corruption laws, such as the Foreign Corrupt Practices Act, and other local laws prohibiting corrupt payments to governmental officials, among others. Violations of these laws and regulations could result in fines and penalties, or criminal sanctions against us, our officers, or our employees. Although policies and procedures are designed to ensure compliance with these laws and regulations, there can be no assurance that our employees, contractors, or agents will not violate our policies.

Our ongoing investments in real estate and information technology businesses have inherent risks, and could burden our financial and human resources.

We have invested and expect to continue to invest in real estate and information technology. Despite our due diligence, these investments may still involve significant risks and uncertainties, including distraction of management and employees from current operations, insufficient revenues to offset liabilities assumed and incurred expenses, inadequate return of capital, and failure to realize the anticipated benefits. There can be no assurance that such investments will be successful and will not adversely affect our financial condition and operating results.    

 

ITEM 1B  

Unresolved Staff Comments

Not applicable.

 

ITEM 2  

Properties

Real Estate Owned and Used in Operations

Tampa, Florida. The real estate consists of 3.5 acres of land, a three-story building with a gross area of 122,000 square feet, and a four-level parking garage. This facility is 60% occupied by us and serves as our headquarters. The remaining space is leased to non-affiliates.

Ocala, Florida. The real estate consists of 1.6 acres of land and an office building with gross area of approximately 16,000 square feet. The facility is 100% designated for our insurance operations and will be used as an alternative location in the event a catastrophic event impacts our operations in Tampa, Florida.

Investment Real Estate

Treasure Island, Florida. The real estate consists of approximately 10 acres of waterfront property and land improvements, a restaurant and a marina facility. The marina facility and the restaurant are currently owned and operated by us. In November 2018, this property was listed for sale.

Tierra Verde, Florida. The real estate consists of 7.1 acres of waterfront property, a dry rack storage building with gross area of 57,500 square feet, and two buildings with retail space having an aggregate gross area of approximately 23,000 square feet. This marina facility is owned and operated by us. Approximately 5% of the available retail space is occupied by us, 65% of the retail space is leased to non-affiliates, and the remaining space is available for lease.

 

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Riverview, Florida. The real estate consists of 2.57 acres of land, 1.27 acres of which is leased to a gas station and convenience store chain. Our retail structure with 8,400 square feet of net rentable space is situated on the remaining land. Approximately 88% of the rentable space is leased to non-affiliates and the remaining space is available for lease.

Sorrento, Florida. The real estate includes 5.42 acres of outparcel land intended for ground lease or resale and a retail shopping center with 61,400 square feet of net rentable area. Approximately 74% of the rentable space is currently leased to a large, well-known grocery retailer. Approximately 94% of the rentable space is leased to non-affiliates and the remaining space is available for lease.

Melbourne, Florida. The real estate includes 2.26 acres of outparcel land intended for ground lease, resale or future development and a retail shopping center with 49,995 square feet of rentable area. Approximately 42% of the rentable space is currently leased to a large well-known grocery retailer. Approximately 95% of the rentable space is leased to non-affiliates and the remaining space is available for lease.

Tampa, Florida. The real estate consists of 7.86 acres of land and an office building with gross area of 68,867 square feet. The building is 100% leased to a non-affiliated financial institution.

Clearwater, Florida. The real estate consists of 5.33 acres of land and a vacant building with approximately 56,000 square feet of rentable space under redevelopment. Approximately 50% of the building is preleased to a large, well known grocery retailer and the remaining space will be available for multiple retailers.

Leased Property

Noida, India. We lease 15,000 square feet of office space for our information technology operations. The lease commenced in 2013 and has an initial term of nine years.

Miami Lakes, Florida. We lease approximately 5,565 square feet of office space for our claims related administration. The lease commenced March 1, 2018 and has an initial term of approximately three years.

Rental expense under all facility leases was $407,000, $336,000 and $333,000 during the years ended December 31, 2018, 2017 and 2016, respectively.

 

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ITEM 3  

Legal Proceedings

We are a party to claims and legal actions arising routinely in the ordinary course of our business. Although we cannot predict with certainty the ultimate resolution of the claims asserted against us, we do not believe that any currently pending legal proceeding to which we are a party will have a material, adverse effect on our consolidated financial position, results of operations or cash flows.

 

ITEM 4  

Mine Safety Disclosures

Not applicable.

 

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PART II

ITEM  5 – Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Markets for Common Stock

Our common stock trades on the New York Stock Exchange under the symbol “HCI.” The following table represents the high and low sales prices for our common stock as reported by the New York Stock Exchange for the periods indicated:

 

     Common Stock  
     Price  
     High      Low  

Calendar Quarter—2018

     

First Quarter

   $ 42.80        29.88  

Second Quarter

   $ 44.25        37.04  

Third Quarter

   $ 43.80        38.66  

Fourth Quarter

   $ 59.32        41.76  

Calendar Quarter—2017

     

First Quarter

   $ 50.93        38.49  

Second Quarter

   $ 49.25        43.10  

Third Quarter

   $ 49.12        27.11  

Fourth Quarter

   $ 39.69        28.70  

Holders

As of February 26, 2019, the market price for our common stock was $46.26 and there were 234 holders of record of our common stock.    

 

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Dividends

The declaration and payment of dividends is at the discretion of our board of directors. Our ability to pay dividends depends on many factors, including the Company’s operating results, financial condition, capital requirements, the availability of cash from our subsidiaries and legal and regulatory constraints and requirements on the payment of dividends and such other factors as our board of directors deems relevant. The following table represents the frequency and amount of all cash dividends declared on our common stock for the two most recent fiscal years:

 

Declaration     Payment     Date of     Per Share  
Date     Date     Record     Amount  
  10/18/2018       12/21/2018       11/16/2018     $ 0.375  
  7/6/2018       9/21/2018       8/17/2018     $ 0.375  
  4/16/2018       6/15/2018       5/18/2018     $ 0.375  
  1/15/2018       3/16/2018       2/16/2018     $ 0.35  
  10/19/2017       12/15/2017       11/17/2017     $ 0.35  
  7/6/2017       9/15/2017       8/18/2017     $ 0.35  
  4/17/2017       6/16/2017       5/19/2017     $ 0.35  
  1/16/2017       3/17/2017       2/17/2017     $ 0.35  

Under Florida law, a domestic insurer may not pay any dividend or distribute cash or other property to its stockholders unless certain requirements, which are discussed in Note 25 — “Regulatory Requirements and Restrictions” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K, are met. Hence Florida law may limit the availability of cash from our insurance subsidiaries for the payment of dividends to our shareholders.

Securities Authorized for Issuance Under Equity Compensation Plans

The following table summarizes our equity compensation plans as of December 31, 2018. We currently have no equity compensation plans not approved by our stockholders.

 

     (a)      (b)    (c)
     Number of
Securities To be
Issued Upon
Exercise of
     Weighted-Average
Exercise Price of
   Number of Securities
Remaining Available for
Future Issuance under
Equity Compensation
Plans (Excluding Securities

Plan Category

   Outstanding Options      Outstanding Options    Reflected in Column (a))

Equity Compensation Plans Approved by Stockholders

     240,000      $37.19    1,752,432
  

 

 

       

 

 

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Performance Graph

The following graph compares the 5-year cumulative total dollar return to shareholders on our common stock relative to the cumulative total returns of the Russell 2000 Index and the NASDAQ Insurance Index. An investment of $100 (with reinvestment of all dividends) is assumed to have been made in our common stock and in each index on December 31, 2013 and its relative performance is tracked through December 31, 2018. The returns shown are based on historical results and are not intended to suggest future performance.

 

LOGO

 

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Recent Sales of Unregistered Securities

None

Issuer Purchases of Equity Securities

The table below summarizes the number of shares of common stock repurchased during the three months ended December 31, 2018 under the repurchase plan approved by our Board of Directors in December 2017 and also the number of shares of common stock surrendered by employees to satisfy minimum federal income tax liabilities associated with the vesting of restricted shares in December 2018 (dollar amounts in thousands, except share and per share amounts):

 

     Total Number
of Shares
     Average
Price Paid
     Total Number of
Shares Purchased as
Part of Publicly
Announced Plans
     Approximate Dollar
Value of Shares That
May Yet Be
Purchased Under
The Plans
 

For the Month Ended

   Purchased      Per Share      or Programs      or Programs  

October 31, 2018

     3,338      $ 44.48        3,338      $ —    

November 30, 2018

     —          —          —        $ —    

December 31, 2018

     3,935      $ 53.39        —        $ —    
  

 

 

       

 

 

    
     7,273      $ 49.30        3,338     
  

 

 

       

 

 

    

In December 2018, our Board of Directors approved a one-year plan to repurchase up to $20 million of our common shares during 2019. The approved amounts in each year exclude brokerage fees. See Note 20 — “Stockholders’ Equity” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.                

 

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ITEM 6 – Selected Financial Data

The following selected consolidated financial data should be read in conjunction with Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes appearing in Item 8 “Financial Statements and Supplementary Data” of this Annual Report on Form 10-K. The consolidated statements of income data for the years ended December 31, 2018, 2017, and 2016 and the consolidated balance sheet data at December 31, 2018 and 2017 are derived from our audited consolidated financial statements appearing in Item 8 of this Annual Report on Form 10-K. The consolidated statements of income data for the years ended December 31, 2015 and 2014, and the consolidated balance sheet data at December 31, 2016, 2015, and 2014, are derived from our audited consolidated financial statements that are not included in this Annual Report on Form 10-K. The historical results are not necessarily indicative of the results to be expected in any future period.

 

     As of or for the Years Ended December 31,  
     2018     2017     2016     2015     2014  
     (Dollar amounts in thousands, except per share amounts)  

Operating Revenue

          

Gross premiums earned

   $ 343,065     $ 358,253     $ 378,678     $ 423,120     $ 365,488  

Premiums ceded

     (129,643     (133,635     (135,051     (140,614     (113,423
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net premiums earned

     213,422       224,618       243,627       282,506       252,065  

Net investment income

     16,581       11,439       9,087       3,978       4,888  

Net realized investment gains (losses)

     6,183       4,346       2,601       (608     4,735  

Net unrealized investment (losses) gains

     (10,202     92       —         —         —    

Net other-than-temporary impairment losses recognized in income:

          

Total other-than-temporary impairment losses

     (80     (1,116     (2,252     (5,275     (107

Portion of loss recognized in other comprehensive income, before taxes

     —         (351     (230     594       —    
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net other-than-temporary impairment losses

     (80     (1,467     (2,482     (4,681     (107

Policy fee income

     3,389       3,622       3,914       3,496       2,820  

Gain on repurchases of convertible senior notes

     —         —         153       —         —    

Gain on bargain purchase

     —         —         2,071       —         —    

Gain on remeasurement of previously held interest

     —         —         4,005       —         —    

Other income

     1,999       1,756       1,470       1,261       1,707  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating revenue

     231,292       244,406       264,446       285,952       266,108  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating Expenses

          

Losses and loss adjustment expenses

     109,328       165,629       124,667       87,224       79,468  

Policy acquisition and other underwriting expenses

     38,943       39,663       42,642       41,984       37,952  

General and administrative personnel expenses*

     25,908       25,127       26,200       28,276       26,960  

Interest expense

     18,096       16,767       11,079       10,754       10,453  

Loss on repurchases of senior notes

     —         743       —         —         —    

Impairment losses

     —         38       388       —         —    

Other operating expenses

     12,115       12,063       12,614       11,522       10,313  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     204,390       260,030       217,590       179,760       165,146  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before income taxes

     26,902       (15,624     46,856       106,192       100,962  

Income tax expense (benefit)

     9,177       (8,731     17,835       40,331       38,298  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

   $ 17,725     $ (6,893)     $ 29,021     $ 65,861     $ 62,664  

Preferred stock dividends

     —         —         —         —         4  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) available to common stockholders

   $ 17,725     $ (6,893   $ 29,021     $ 65,861     $ 62,668  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

*

For the years ended December 31, 2016, 2015, and 2014, we reclassified certain payroll-related costs such as share-based compensation expense, payroll taxes and employee benefits previously reported in other operating expenses to general and administrative personnel expenses to conform with our 2018 and 2017 presentation.

 

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     As of or for the Years Ended December 31,  
     2018     2017     2016     2015     2014  
     (Dollar amounts in thousands, except per share amounts)  

Per Share Data:

          

Basic earnings (loss) per common share

   $ 2.34     $ (0.75   $ 2.95     $ 6.51     $ 5.90  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted earnings (loss) per common share

   $ 2.34     $ (0.75   $ 2.92     $ 5.90     $ 5.36  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Dividends per common share

   $ 1.475     $ 1.40     $ 1.20     $ 1.20     $ 1.10  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Ratios to Net Premium Earned:

          

Loss Ratio

     51.23     73.74     51.17     30.88     31.53

Expense Ratio

     44.54     42.03     38.14     32.76     33.99
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Combined Ratio

     95.77     115.77     89.31     63.64     65.52
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Ratios to Gross Premiums Earned:

          

Loss Ratio

     31.87     46.23     32.92     20.61     21.74

Expense Ratio

     27.71     26.35     24.54     21.87     23.45
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Combined Ratio

     59.58     72.58     57.46     42.48     45.19
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Consolidated Balance Sheet Data:

          

Total investments

   $ 387,783     $ 380,286     $ 298,734     $ 232,917     $ 168,799  

Total cash and cash equivalents

   $ 239,458     $ 255,884     $ 280,531     $ 267,738     $ 314,416  

Total assets

   $ 832,863     $ 842,264     $ 670,064     $ 636,986     $ 598,557  

Long-term debt

   $ 250,150     $ 237,835     $ 138,863     $ 129,429     $ 125,886  

Total stockholders’ equity

   $ 181,441     $ 193,975     $ 243,746     $ 237,722     $ 182,585  

 

 

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ITEM 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this annual report on Form 10-K.

Forward-Looking Statements

In addition to historical information, this annual report on Form 10-K contains forward-looking statements as defined under federal securities laws. Such statements, including statements about our plans, objectives, expectations, assumptions or future events, involve risks and uncertainties. These statements involve estimates, assumptions, known and unknown risks, uncertainties and other factors that could cause actual results to differ materially from any future results, performances or achievements expressed or implied by the forward-looking statements. Typically, forward-looking statements can be identified by terminology such as “anticipate,” “estimate,” “plan,” “project,” “continuing,” “ongoing,” “expect,” “believe,” “intend,” “may,” “will,” “should,” “could,” and similar expressions. The important factors that could cause actual results to differ materially from those indicated by such forward-looking statements include but are not limited to the effect of governmental regulation; changes in insurance regulations; the frequency and extent of claims; uncertainties inherent in reserve estimates; catastrophic events; changes in the demand for, pricing of, availability of or collectability of reinsurance; restrictions on our ability to change premium rates; increased rate pressure on premiums; and other risks and uncertainties and other factors listed under Item 1A—“Risk Factors” and elsewhere in this annual report on Form 10-K and in our other Securities and Exchange Commission filings.

OVERVIEW

General

HCI Group, Inc. is a Florida-based company which through its subsidiaries is engaged in a variety of business activities, including property and casualty insurance, reinsurance, real estate and information technology. Its principal business is property and casualty insurance.

We began insurance operations in 2007 by participating in a “take-out program” which is a legislatively mandated program designed to encourage private companies to assume policies from Citizens, a Florida state sponsored insurance carrier. Our growth since inception has resulted primarily from a series of policy assumptions from Citizens and policies assumed from one Florida insurance company. This growth track was beneficial to us in terms of reduced policy acquisition costs and, depending on the timing of the transaction, temporarily lower reinsurance costs.

Our general operating and growth strategies are to continually optimize our existing book of insurance business, manage our costs and expenses, diversify our business operations, develop and deploy new technologies to streamline operational processes, and maintain a strong balance sheet so we can quickly pursue accretive opportunities when they arise.

 

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Recent Developments

On January 14, 2019, our Board of Directors declared a quarterly dividend of $0.40 per common share. The dividends are to be paid March 15, 2019 to stockholders of record on February 15, 2019.

On January 15, 2019, we granted 40,000 shares of restricted stock and options to purchase 110,000 of our common shares at an exercise price of $53 per share to our chief executive officer, Paresh Patel. The options will expire on January 15, 2029. These share-based awards were granted pursuant to our 2012 Omnibus Incentive Plan and will vest in equal annual installments over four years, so long as Mr. Patel remains employed by us. The grant date fair values of the restricted stock and options were approximately $1,918,000 and $1,345,000, respectively.

On February 27, 2019, we acquired approximately nine acres of undeveloped land located near our current headquarters in Tampa, Florida for a purchase price of $8,500,000, which was primarily financed by our revolving credit facility. The land is a potential site for the construction of a new headquarters building. The transaction was accounted for as an asset acquisition. As such, all acquisition-related costs are capitalized.

 

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RESULTS OF OPERATIONS

Comparison of the Year Ended December 31, 2018 with the Year Ended December 31, 2017

Our results of operations for the year ended December 31, 2018 reflect net income of $17,725,000, or $2.34 earnings per diluted common share, compared with a net loss of $6,893,000, or $0.75 loss per common share, for the year ended December 31, 2017. Losses and loss adjustment expenses were approximately $56,301,000 lower in 2018, attributable to lower catastrophe losses and decreased adverse development. Catastrophe losses in 2018 primarily included net losses of approximately $16,520,000 from Hurricane Michael versus net losses of approximately $54,000,000 from Hurricane Irma in 2017. The year-over-year improvement in losses and loss adjustment expenses was offset by a net $11,196,000 decrease in net premiums earned, a net $3,315,000 decrease in income from investment activities and a $1,329,000 increase in interest expense. Income tax expense in 2018 was negatively impacted by the derecognition of deferred tax assets of approximately $1,825,000 related to unvested restricted stock with market conditions and the nondeductible expense of approximately $1,887,000 associated with the reclassified dividends on such restricted stock awards, offset by a lower federal corporate income tax rate effective January 1, 2018.

Revenue

Gross Premiums Earned for the years ended December 31, 2018 and 2017 were approximately $343,065,000 and $358,253,000, respectively. The decrease in 2018 was primarily attributable to a net decrease in policies in force offset by an increase in the average premium per policy.

Premiums Ceded for the years ended December 31, 2018 and 2017 were approximately $129,643,000 and $133,635,000, respectively, representing 37.8% and 37.3%, respectively, of gross premiums earned. The $3,992,000 decrease was primarily attributable to an unfavorable adjustment of $12,465,000 to premiums ceded in connection with retrospective provisions under certain reinsurance contracts due to losses incurred by Hurricane Irma during the third quarter of 2017, offset by the recognition of additional premiums ceded of approximately $1,222,000 resulting from the termination of one reinsurance contract during the second quarter of 2018 (See Note 17 — “Related Party Transactions” to our audited consolidated financial statements under Item 8 of this Annual Report on Form 10-K for additional information) and an increase in premiums ceded attributable to a lower retention level for the reinsurance contract year 2019/20.

Our premiums ceded represent costs of reinsurance to cover losses from catastrophes that exceed the retention levels defined by our catastrophe excess of loss reinsurance contracts or to assume a proportional share of losses defined in a quota share arrangement. The rates we pay for reinsurance are based primarily on policy exposures reflected in gross premiums earned. For the year ended December 31, 2018, premiums ceded included a net decrease of approximately $485,000 versus a net increase of approximately $5,740,000 for the year ended December 31, 2017 related to retrospective provisions. See “Economic Impact of Reinsurance Contracts with Retrospective Provisions” under “Critical Accounting Policies and Estimates.”

 

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Net Premiums Written for the years ended December 31, 2018 and 2017 totaled approximately $206,813,000 and $213,711,000, respectively. Net premiums written represent the premiums charged on policies issued during a fiscal period less any applicable reinsurance costs. The decrease in 2018 resulted primarily from a decrease in gross premiums written during the period due to policy attrition, offset by the decrease in premiums ceded as described above. We had approximately 127,000 policies in force at December 31, 2018 versus approximately 139,000 policies in force at December 31, 2017.

Net Premiums Earned for the years ended December 31, 2018 and 2017 were approximately $213,422,000 and $224,618,000, respectively, and reflect the gross premiums earned less reinsurance costs as described above.

The following is a reconciliation of our Net Premiums Written to Net Premiums Earned for the years ended December 31, 2018 and 2017 (amounts in thousands):

 

     Years Ended  
     December 31,  
     2018      2017  

Net Premiums Written

   $ 206,813      $ 213,711  

Decrease in Unearned Premiums

     6,609        10,907  
  

 

 

    

 

 

 

Net Premiums Earned

   $ 213,422      $ 224,618  
  

 

 

    

 

 

 

Net Investment Income for the years ended December 31, 2018 and 2017 was approximately $16,581,000 and $11,439,000, respectively. The year-over-year increase was attributable to an increase in income from limited partnership investments of approximately $2,096,000, an increase of approximately $1,358,000 in income from real estate investments, and an increase in interest income from cash and short-term investments. See Note 5 — “Investments” under Net Investment Income to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Net Realized Investment Gains for the years ended December 31, 2018 and 2017 were approximately $6,183,000 and $4,346,000, respectively. The gains in 2018 resulted primarily from sales intended to rebalance our investment portfolio to mitigate the impact from the rising interest rate trend and to decrease our holdings in municipal bonds as they become less attractive in a low tax rate environment.

Net Unrealized Investment Losses for the year ended December 31, 2018 were approximately $10,202,000 versus approximately $92,000 of net unrealized investment gains for the year ended December 31, 2017. Net unrealized investment gains or losses represent the net change in the fair value of equity securities. The decrease in 2018 primarily resulted from the adoption of the new accounting standard with regard to equity securities as described in Note 2 — “Summary of Significant Accounting Policies” to our audited consolidated financial statements under Item 8 of this Annual Report on Form 10-K, combined with a general downturn in the U.S. securities markets in December 2018.

Net Other-Than-Temporary Impairment Losses for the years ended December 31, 2018 and 2017 were approximately $80,000 and $1,467,000, respectively. During 2018, we recognized impairment loss on one fixed-maturity security versus impairment losses specific to four fixed-maturity securities and six equity securities during 2017.

 

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Expenses

Our Losses and Loss Adjustment Expenses amounted to approximately $109,328,000 and $165,629,000 for the years ended December 31, 2018 and 2017, respectively. During 2018, loss and loss adjustment expenses included net losses of approximately $16,520,000 for Hurricane Michael as well as adverse development related to Hurricane Matthew of approximately $2,100,000 and adverse development related to non-catastrophe claims of approximately $9,900,000 primarily related to assignment of benefits litigation. Loss and loss adjustment expenses in 2017 included net losses related to Hurricane Irma of approximately $54,000,000 as well as adverse development related to Hurricane Matthew of approximately $2,500,000 and adverse development related to non-catastrophe claims of approximately $16,200,000 primarily related to assignment of benefits litigation.    See “Reserves for Losses and Loss Adjustment Expenses” under “Critical Accounting Policies and Estimates.”

Policy Acquisition and Other Underwriting Expenses for the years ended December 31, 2018 and 2017 were approximately $38,943,000 and $39,663,000, respectively. The decrease from 2017 was primarily attributable to decreased commissions and premium taxes resulting from the net decrease in policies in force.

General and Administrative Personnel Expenses for the years ended December 31, 2018 and 2017 were approximately $25,908,000 and $25,127,000, respectively. Our general and administrative personnel expenses include salaries, wages, payroll taxes, share-based compensation expenses, and employee benefit costs. Factors such as merit increases, changes in headcount, and periodic restricted stock grants, among others, cause fluctuations in this expense. In addition, our personnel expenses are decreased by the capitalization of payroll costs related to a project to develop software for internal use and the payroll costs associated with the processing and settlement of Hurricane Irma claims which are recoverable from reinsurers under reinsurance contracts. The year-over-year increase of $781,000 was primarily attributable to the recognition of approximately $1,505,000 of cumulative dividends paid on unvested restricted stock awards of which market conditions will not be met and an increase of approximately $606,000 in employee incentive bonus, offset by an increase in recoverable Hurricane Irma payroll costs of $1,231,000 and lower share-based compensation expense during 2018.

Interest Expense for the years ended December 31, 2018 and 2017 was approximately $18,096,0000 and $16,767,000, respectively. The increase primarily resulted from the 4.25% convertible debt offering completed in March 2017.

Loss on repurchases of Senior Notes for the year ended December 31, 2017 was approximately $743,000, resulting from the early extinguishment of our 8% Senior Notes.

 

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Income Tax Expense for the year ended December 31, 2018 was approximately $9,177,000 for state, federal, and foreign income taxes compared with income tax benefit of approximately $8,731,000 for the year ended December 31, 2017, resulting in an effective tax rate of 34.1% for 2018 and 55.9% for 2017. The decrease was primarily attributable to the positive impact from a lower federal corporate income tax rate effective January 1, 2018, offset by the negative effect of the derecognition of deferred tax assets of approximately $1,825,000 and the nondeductible expense of approximately $1,887,000, both of which related to restricted stock awards with market conditions that will not be met. (see Restricted Stock Awards in Note 21 — “Stock-Based Compensation” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K).

Ratios:

The loss ratio applicable to the year ended December 31, 2018 (losses and loss adjustment expenses incurred related to net premiums earned) was 51.2% compared with 73.8% for the year ended December 31, 2017. The decrease was primarily due to the decrease in losses and loss adjustment expenses as described previously.

The expense ratio applicable to the year ended December 31, 2018 (defined as underwriting expenses, general and administrative personnel expenses, interest and other operating expenses related to net premiums earned) was 44.6% compared with 42.0% for the year ended December 31, 2017. The increase in our expense ratio was primarily attributable to the decrease in net premiums earned.

The combined ratio is the measure of overall underwriting profitability before other income. Our combined ratio for the year ended December 31, 2018 was 95.8% compared with 115.8% for the year ended December 31, 2017. The decrease was primarily to the decrease in losses and loss adjustment expenses as described earlier.

Due to the impact our reinsurance costs have on net premiums earned from period to period, our management believes the combined ratio measured to gross premiums earned is more relevant in assessing overall performance. The combined ratio to gross premiums earned for the year ended December 31, 2018 was 59.6% compared with 72.6% for the year ended December 31, 2017. The decrease in 2018 was primarily attributable to the decrease in losses and loss adjustment expenses.

 

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Comparison of the Year Ended December 31, 2017 with the Year Ended December 31, 2016

Our results of operations for the year ended December 31, 2017 reflect net loss of $6,893,000, or $0.75 loss per common share, compared with net income of $29,021,000, or $2.92 earnings per diluted common share, for the year ended December 31, 2016. The year-over-year decline was primarily attributable to a $40,962,000 increase in losses and loss adjustment expenses primarily from Hurricane Irma, a decrease in gross premiums earned of $20,425,000 and an increase in interest expense of $5,688,000 resulting from the issuance of long-term debt in March 2017. These factors contributed to $15,624,000 pre-tax operating losses in 2017 and, as a result, we recognized $8,731,000 of income tax benefit, the amount of which included net positive tax effects of approximately $1,400,000 due to the 2017 Tax Act.

Revenue

Gross Premiums Earned for the years ended December 31, 2017 and 2016 were approximately $358,253,000 and $378,678,000, respectively. The decrease in 2017 was primarily attributable to policy attrition as well as a rate decrease effective on new and renewal policies beginning in January 2016.

Premiums Ceded for the years ended December 31, 2017 and 2016 were approximately $133,635,000 and $135,051,000, respectively, representing 37.3% and 35.7%, respectively, of gross premiums earned. The percentage increase from 2016 was primarily attributable to adjustments related to retrospective provisions under certain reinsurance contracts due to losses incurred by Hurricane Irma. The increase was offset in part by lower reinsurance costs during the first five months of 2017 as compared with the corresponding period in 2016.

For the year ended December 31, 2017, premiums ceded included a net increase of approximately $5,740,000 related to retrospective provisions. For the year ended December 31, 2016, premiums ceded reflect a net reduction of approximately $12,677,000. See “Economic Impact of Reinsurance Contracts with Retrospective Provisions” under “Critical Accounting Policies and Estimates.”

Net Premiums Written for the years ended December 31, 2017 and 2016 totaled approximately $213,711,000 and $232,140,000, respectively. Net premiums written represent the premiums charged on policies issued during a fiscal period less any applicable reinsurance costs. We had approximately 139,000 policies in force at December 31, 2017 as compared with approximately 150,000 policies in force at December 31, 2016.

 

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Net Premiums Earned for the years ended December 31, 2017 and 2016 were approximately $224,618,000 and $243,627,000, respectively, and reflect the gross premiums earned less reinsurance costs as described above.

The following is a reconciliation of our Net Premiums Written to Net Premiums Earned for the years ended December 31, 2017 and 2016 (amounts in thousands):

 

     Years Ended  
     December 31,  
     2017      2016  

Net Premiums Written

   $ 213,711      $ 232,140  

Decrease in Unearned Premiums*

     10,907        11,487  
  

 

 

    

 

 

 

Net Premiums Earned

   $ 224,618      $ 243,627  
  

 

 

    

 

 

 

 

*

Unearned premiums are impacted by the timing and size of any takeout completed during the year net of attrition.

Net Investment Income for the years ended December 31, 2017 and 2016 was approximately $11,439,000 and $9,087,000, respectively. The increase in 2017 was primarily due to year-over-year increases in income from limited partnership investments and fixed-maturity securities. See Note 5 — “Investments” under Net Investment Income to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Net Realized Investment Gains for the years ended December 31, 2017 and 2016 were approximately $4,346,000 and $2,601,000, respectively. The gains in 2017 resulted primarily from sales intended to take advantage of an upturn in the security market.

Net Other-Than-Temporary Impairment Losses for the years ended December 31, 2017 and 2016 were approximately $1,467,000 and $2,482,000, respectively. During 2017, we recognized impairment losses specific to four fixed-maturity securities and six equity securities. Three of these fixed-maturity securities were written down before being sold. Six equity securities were impaired because each of them had been in an unrealized loss position for a length of time with no near term prospect for recovery.

Expenses

Our Losses and Loss Adjustment Expenses amounted to approximately $165,629,000 and $124,667,000 for the years ended December 31, 2017 and 2016, respectively. Our 2017 losses and loss adjustment expenses included approximately $54,000,000 of net losses related to Hurricane Irma and additional losses of approximately $2,500,000 related to Hurricane Matthew. In addition, our losses and loss adjustment expenses included approximately $16,200,000 of additional losses, which reflected the continuation of reserve strengthening in response to trends involving assignment of insurance benefits and related litigation. Our losses and loss adjustment expenses were also impacted by weather-related events. See “Reserves for Losses and Loss Adjustment Expenses” under “Critical Accounting Policies and Estimates.”

Policy Acquisition and Other Underwriting Expenses for the years ended December 31, 2017 and 2016 were approximately $39,663,000 and $42,642,000, respectively. The decrease from 2016 was primarily attributable to decreased commissions and premium taxes resulting from policy attrition and the effect of the rate decrease.

 

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General and Administrative Personnel Expenses for the years ended December 31, 2017 and 2016 were approximately $25,127,000 and $26,200,000, respectively. The $1,073,000 decrease in 2017 was primarily attributable to the capitalization of payroll costs related to a software development project for internal use.

Loss on repurchases of Senior Notes for the year ended December 31, 2017 was approximately $743,000, resulting from the early extinguishment of our 8% Senior Notes.

Income Tax Benefit for the year ended December 31, 2017 was approximately $8,731,000 versus approximately $17,835,000 of income tax expense for the year ended December 31, 2016, resulting in an effective tax rate of 55.9% for 2017 and 38.1% for 2016. The year-over-year change was primarily attributable to our 2017 operating losses and the recognition of $1,400,000 in beneficial tax effects on our net deferred tax liabilities due to the lower future corporate income tax rates enacted by the 2017 Tax Act.

Ratios:

The loss ratio applicable to the year ended December 31, 2017 was 73.8% compared with 51.2% for the year ended December 31, 2016. The increase was primarily attributable to losses related to Hurricane Irma combined with the decrease in net premiums earned which was driven in large part by the increase in ceded premiums due to the aforementioned adjustments.

The expense ratio applicable to the year ended December 31, 2017 was 42.0% compared with 38.1% for the year ended December 31, 2016. The increase in our 2017 expense ratio was primarily attributable to the decrease in 2017 net premiums earned, an increase in interest expense, and the loss on repurchases of our senior notes, as described above.

Our combined ratio for the year ended December 31, 2017 was 115.8% compared with 89.3% for the year ended December 31, 2016. Our combined ratio was negatively impacted by increased expenses for losses and loss adjustment expenses, increased interest expense, the loss on repurchases of our senior notes and a reduction in 2017 net premiums earned.

Due to the impact our reinsurance costs have on net premiums earned from period to period, our management believes the combined ratio measured to gross premiums earned is more relevant in assessing overall performance. The combined ratio to gross premiums earned for the year ended December 31, 2017 was 72.6% compared with 57.5% for the year ended December 31, 2016. The increase in 2017 was primarily attributable to the factors described above.

 

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Seasonality of Our Business

Our insurance business is seasonal as hurricanes and tropical storms affecting Florida typically occur during the period from June 1 through November 30 each year. Also, with our reinsurance treaty year typically effective on June 1 each year, any variation in the cost of our reinsurance, whether due to changes in reinsurance rates or changes in the total insured value of our policy base, will occur and be reflected in our financial results beginning June 1 each year.

LIQUIDITY AND CAPITAL RESOURCES

Throughout our history, our liquidity requirements have been met through issuances of our common and preferred stock, debt offerings and funds from operations. We expect our future liquidity requirements will be met by funds from operations, primarily the cash received by insurance subsidiaries from premiums written and investment income. We may consider raising additional capital through debt and/or equity offerings to support our growth and future investment opportunities.

Our insurance subsidiaries require liquidity and adequate capital to meet ongoing obligations to policyholders and claimants and to fund operating expenses. In addition, we attempt to maintain adequate levels of liquidity and surplus to manage any differences between the duration of our liabilities and invested assets. In the insurance industry, cash collected for premiums from policies written is invested, interest and dividends are earned thereon, and losses and loss adjustment expenses are paid out over a period of years. This period of time varies by the circumstances surrounding each claim. Substantially all of our losses and loss adjustment expenses, excluding litigated claims, are fully settled and paid within approximately 100 days of the claim receipt date. Additional cash outflow occurs through payments of underwriting costs such as commissions, taxes, payroll, and general overhead expenses.

We believe that we maintain sufficient liquidity to pay claims and expenses, as well as to satisfy commitments in the event of unforeseen events such as reinsurer insolvencies, inadequate premium rates, or reserve deficiencies. We maintain a comprehensive reinsurance program at levels management considers adequate to diversify risk and safeguard our financial position.

In the future, we anticipate our primary use of funds will be to pay claims, reinsurance premiums, interest, and dividends and to fund operating expenses and real estate acquisitions.

Furthermore, we will repay the holders of our 3.875% Convertible Senior Notes an aggregate amount of $89,990,000 on the maturity date, March 15, 2019, if the notes are not yet converted prior to March 14, 2019.

 

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Senior Notes, Promissory Notes, and Capital Lease Obligation

The following table summarizes the principal and interest payment obligations for our long-term debt at December 31, 2018:

 

    

Maturity Date

  

Payment Due Date

3.875% Convertible Senior Notes

   March 2019    March 15 and September 15

4.25% Convertible Senior Notes

   March 2037    March 1 and September 1

4% Promissory Note

   Through February 2031    1st day of each month

3.75% Callable Promissory Note

   Through September 2036    1st day of each month

3.95% Promissory Note

   Through February 2020    17th of each month

4.55% Promissory Note

   Through August 2036    1st day of each month

Capital Lease

   Through August 2023    February 15, May 15, August 15, November 15

See Note 14 — “Long-Term Debt” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Share Repurchase Plan

In December 2018, our Board of Directors approved a one-year plan for 2019 under which we may purchase up to $20,000,000 of our common shares in open market purchases, block transactions and privately negotiated transactions in accordance with applicable federal securities laws. The approved amount excludes brokerage fees. See Note 20 — “Stockholders’ Equity” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Limited Partnership Investments

Our limited partnership investments consist of four private equity funds managed by their general partners. These funds have unexpired capital commitments which are callable at the discretion of the fund’s general partner for funding new investments or expenses of the fund. At December 31, 2018, there was an aggregate unfunded capital balance of $16,304,000. See Limited Partnership Investments under Note 5 — “Investment” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

Real Estate Acquisition

We currently have a 90% equity interest in FMKT Mel JV, LLC, a Florida limited liability company for which we are not the primary beneficiary. FMKT Mel JV’s real estate portfolio consists of outparcels for ground lease or sale, the values of which have increased since the opening of an adjacent retail shopping center which we acquired in December 2016. We have the option to take full ownership of these outparcels by acquiring the remaining 10% interest. Alternatively, we may sell these outparcels and allocate the profits from the sale before liquidating FMKT Mel JV.

 

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Sources and Uses of Cash

Our cash flows from operating, investing and financing activities for the years ended December 31, 2018, 2017 and 2016 are summarized below.

Cash Flows for the Year ended December 31, 2018

Net cash provided by operating activities for the year ended December 31, 2018 was approximately $28,595,000, which consisted primarily of cash received from net premiums written and reinsurance recoveries of approximately $128,300,000 less cash disbursed for operating expenses, losses and loss adjustment expenses and interest payments. Net cash used in investing activities of $17,678,000 was primarily due to the purchases of fixed-maturity and equity securities of $165,424,000, the purchases of short-term and other investments of $201,538,000, the purchases of real estate investments of $7,472,000, and the limited partnership investments of $7,182,000, offset by the proceeds from sales of fixed-maturity and equity securities of $148,248,000, the proceeds from redemptions and maturities of fixed-maturity securities of $82,177,000, and the proceeds from sales and maturities of short-term and other investments of $135,256,000. Net cash used in financing activities totaled $27,288,000, which was primarily due to $21,166,000 used in our share repurchases, $10,351,000 of net cash dividend payments and the repayment of long-term debt of $1,127,000, offset by the proceeds from the issuance of 4.55% promissory note of $6,000,000.

Cash Flows for the Year ended December 31, 2017

Net cash provided by operating activities for the year ended December 31, 2017 was approximately $16,635,000, which consisted primarily of cash received from net premiums written and reinsurance recoveries less cash disbursed for operating expenses, losses and loss adjustment expenses and interest payments. Net cash used in investing activities of $80,164,000 was primarily due to the purchases of fixed-maturity and equity securities of $165,196,000, the limited partnership investments of $4,226,000, and the real estate investments of $11,878,000, offset by the proceeds from sales of fixed-maturity and equity securities of $77,041,000, the distributions of $11,758,000 from limited partnership investments and the redemptions and repayments of fixed-maturity securities of $14,897,000. Net cash provided by financing activities totaled $39,030,000, which was primarily due to the proceeds from issuance of 4.25% Convertible Senior Notes of $143,750,000, offset by $40,250,000 used in the repurchases of our 8% senior notes, $4,975,000 of related underwriting and issuance costs, $45,872,000 used in our share repurchases and $12,833,000 of net cash dividend payments.

Cash Flows for the Year ended December 31, 2016

Net cash provided by operating activities for the year ended December 31, 2016 was approximately $88,275,000, which consisted primarily of cash received from net premiums written less cash disbursed for operating expenses, losses and loss adjustment expenses and interest payments. Net cash used in investing activities of $49,028,000 was primarily due to the purchases of fixed-maturity and equity securities of $107,964,000, $12,056,000 of net cash used in acquiring one business, and the limited partnership investments of $4,670,000, offset by the proceeds from sales of fixed-maturity and equity securities of $63,581,000 and the $10,200,000 proceeds from the acquisition, development and construction arrangement. Net cash used in financing activities totaled $26,157,000, which was primarily due to $11,347,000 used in the repurchases of our convertible senior notes, $20,026,000 used in our share repurchase plan and $11,691,000 of net cash dividend payments, offset by $18,200,000 in aggregate proceeds from the issuance of two promissory notes.

 

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Investments

The main objective of our investment policy is to maximize our after-tax investment income with a reasonable level of risk given the current financial market. Our excess cash is invested primarily in money market accounts, certificates of deposit, and fixed-maturity and equity securities.

At December 31, 2018, we had $223,866,000 of fixed-maturity and equity investments, which are carried at fair value. Changes in the general interest rate environment affect the returns available on new fixed-maturity investments. While a rising interest rate environment enhances the returns available on new investments, it reduces the market value of existing fixed-maturity investments and thus the availability of gains on disposition. A decline in interest rates reduces the returns available on new fixed-maturity investments but increases the market value of existing fixed-maturity investments, creating the opportunity for realized investment gains on disposition.

In addition, we had short-term investments of $66,479,000 at December 31, 2018. These investments consisted of certificates of deposit and zero-coupon commercial paper. Our shift toward more short-term investments during 2018 was primarily to reduce the impact of a rising interest rate environment.

In the future, we may alter our investment policy as to investments in federal, state and municipal obligations, preferred and common equity securities and real estate mortgages, as permitted by applicable law, including insurance regulations.

OFF-BALANCE SHEET ARRANGEMENTS

As of December 31, 2018, we had unexpired capital commitments for four limited partnership in which we hold interests. Such commitments are not recognized in the financial statements but are required to be disclosed in the notes to the financial statements. See Note 23 — “Commitments and Contingencies” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K and Contractual Obligations and Commitments below for additional information.

 

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CONTRACTUAL OBLIGATIONS AND COMMITMENTS

The following table summarizes our material contractual obligations and commitments as of December 31, 2018 (amounts in thousands):

 

     Payment Due by Period  
            Less than                    More than  
     Total      1 Year      1-3 Years      3-5 Years      5 Years  

Operating lease (1)

   $ 768        287        481        —          —    

Service agreement (1)

     73        23        50        —          —    

Reinsurance contracts (2)

     5,389        3,593        1,796        —          —    

Unfunded capital commitment (3)

     16,304        16,304        —          —          —    

Long-term debt obligations (4)

     296,412        100,407        25,078        150,718        20,209  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 318,946        120,614        27,405        150,718        20,209  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1)

Represents the lease for office space in Miami Lakes, Florida, and the lease and maintenance service agreement for office space in Noida, India. Liabilities related to our India operations were converted from India Rupees to U.S. dollars using the January 2, 2019 exchange rate, the first available rate subsequent to December 31, 2018, which was a non-business day.

(2)

Represents the minimum payment of reinsurance premiums under one multi-year reinsurance contract. Reinsurance premiums payable after March 31, 2019 are estimated and subject to subsequent revision as the premiums are determined on a quarterly basis based on the premiums associated with the applicable flood total insured value on the last day of the preceding quarter.

(3)

Represents the unfunded balance of capital commitments under the subscription agreements related to four limited partnerships in which we hold interests.

(4)

Amounts represent principal and interest payments over the lives of various long-term debt obligations. See Note 14 — “Long-Term Debt” to our consolidated financial statements under Item 8 of this Annual Report on Form 10-K.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

We have prepared our consolidated financial statements in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). The preparation of these consolidated financial statements requires us to make estimates and judgments to develop amounts reflected and disclosed in our financial statements. Material estimates that are particularly susceptible to significant change in the near term are related to our losses and loss adjustment expenses, which include amounts estimated for claims incurred but not yet reported. We base our estimates on various assumptions and actuarial data we believe to be reasonable under the circumstances. Actual results may differ materially from these estimates.

We believe our accounting policies specific to losses and loss adjustment expenses, reinsurance recoverable, reinsurance with retrospective provisions, deferred income taxes, and stock-based compensation expense involve our most significant judgments and estimates material to our consolidated financial statements.

 

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Reserves for Losses and Loss Adjustment Expenses. We establish reserves for the estimated total unpaid costs of losses including loss adjustment expenses (LAE). Loss and LAE reserves reflect management’s best estimate of the total cost of (i) claims that have been incurred, but not yet paid in full, and (ii) claims that have been incurred but not yet reported to us (“IBNR”). Reserves established by us represent an estimate of the outcome of future events and, as such, cannot be considered an exact calculation of our liability. Rather, loss reserves represent, we believe, management’s best estimate of our company’s liability based on the application of actuarial techniques and other projection methodologies and taking into consideration other facts and circumstances known at the balance sheet date. The process of establishing loss reserves is complex and inherently imprecise, as it involves using judgment that is affected by many variables such as past loss experience, current claim trends and the prevailing social changes in our claims adjusting process, economic and legal environments. The impact of both internal and external variables on ultimate losses and LAE costs is difficult to estimate. Our exposure is impacted by both the risk characteristics of the physical locations where we write policies, such as hurricane and tropical storm-related risks, as well as risks associated with varying social, judicial and legislative characteristics in the locations in which we have exposure. In determining loss reserves, we give careful consideration to all available data and actuarial analyses.

Reserves represent estimates of the ultimate unpaid cost of all losses incurred, including losses for claims that have not yet been reported to our insurance companies. The amount of loss reserves for reported claims consist of case reserves established by our claims department (based on a case-by-case evaluation of the kind of risk involved, knowledge of the circumstances surrounding each claim and the insurance policy provisions relating to the type of loss) and bulk reserves for additional growth on carried case reserves on known claims established by senior management (based on historical patterns of development on aggregate claims grouped by loss date). The amounts of reserves for unreported claims and LAE (incurred but not reported claims, or IBNR) are determined using our historical information for each line of business adjusted to reflect current conditions. Inflation is ordinarily implicitly provided for in the reserving function through analysis of costs, trends and reviews of historical reserving results over multiple years.

Reserves are closely monitored and are recalculated periodically using the most recent information on reported claims and a variety of actuarial techniques. Specifically, claims management personnel complete weekly and ongoing reviews of existing case reserves, new claims, changes to existing case reserves, and paid losses with respect to the current and prior years. As we continue to expand historical data regarding paid and incurred losses, we use this data to develop expected ultimate loss and loss adjustment expense ratios. We then apply these expected loss and loss adjustment expense ratios to earned premium to derive a reserve level for each line of business. In connection with the determination of these reserves, we will also consider other specific factors such as recent weather-related losses, trends in historical reported and paid losses, and litigation and judicial trends regarding liability. Therefore, we use the loss ratio method, among other methods, to project an ultimate loss expectation, and then the related loss history must be regularly evaluated and loss expectations updated, with the possibility of variability from the initial estimate of ultimate losses.

When a claim is reported to us, our claims personnel establish a “case reserve” for the estimated amount of the ultimate amount payable to settle the claim. This estimate reflects an informed judgment based upon general insurance reserving practices and on the experience and knowledge of the claims adjuster. The individual estimating the reserve considers the nature and value of the specific claim, the severity of injury or damage, location, and the policy provisions relating to the type of loss. Case reserves are adjusted by us as more information becomes available. It is our policy to settle each claim as expeditiously as possible.

 

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We maintain IBNR reserves to provide for claims that have been incurred but have not been reported and subsequent development on reported claims. The IBNR reserve is determined by estimating our insurance company’s ultimate net liability for both reported and unreported claims and then subtracting the case reserves and payments made to date for reported claims.

Loss Reserve Estimation Methods. We apply the following general methods in projecting reserves for losses and LAE:

 

   

Reported loss development;

 

   

Paid loss development;

 

   

Reported Bornhuetter-Ferguson method;

 

   

Paid Bornhuetter-Ferguson method;

 

   

Loss ratio method; and

 

   

Frequency-Severity method.

Selected reserves are based on a review of the indications from these methods as well as other considerations such as emergence since the most recent evaluation and number of open claims for a given accident period.

Description of Ultimate Loss Estimation Methods. The reported loss development method relies on the assumption that, at any given state of maturity, ultimate losses can be reasonably predicted by multiplying cumulative reported losses (paid losses plus case reserves) by a cumulative development factor derived from development patterns observed in the historical reported data. The validity of the results of this method depends on the stability of claim reporting and settlement rates, as well as the consistency of case reserve levels. Case reserves do not have to be adequately stated for this method to be effective; they only need to have a fairly consistent level of adequacy for the historical experience that is considered. In order to derive loss development patterns that are predictive for our business, we compile and review loss development triangles of our experience on an accident quarter basis, and select loss development factors based on indications from this analysis of our data. We also consider industry data found in SNL Financial – Property/Casualty Insurance as a reasonability measure for these selected development patterns.

The paid loss development method is mechanically identical to the reported loss development method described above, but applied to loss payments only. The paid method does not rely on case reserves or claim reporting patterns in making projections.

The validity of the results from using a loss development approach can be affected by many conditions, such as internal claim department processing changes, a shift between single and multiple claim payments, legal changes, or variations in our mix of business from year to year. Also, since the percentage of losses paid for immature accident quarters is often low, development factors for these maturities can be volatile. A small variation in the number of claims paid can have a leveraging effect that can lead to significant distortions in estimated ultimate losses for these highly leveraged accident quarters. Therefore, ultimate values for immature accident quarters are often based on alternative estimation techniques than more mature accident quarters.

 

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The loss ratio method used by us relies on the assumption that remaining unreported losses are a function of the total expected losses rather than a function of currently reported losses. The expected loss ratio is multiplied by earned premium to produce ultimate losses. Reported incurred losses are then subtracted from this estimate to produce expected unreported losses.

The loss ratio method is most useful as an alternative to other models for immature loss years. For these immature years, the amounts reported or paid may be small and unstable, and therefore, not fully predictive of future development. Therefore, future development is assumed to follow an expected pattern that is supported by more stable historical data or by emerging trends. This method is also useful when variations in reporting or payment patterns distort the historical development of losses.

The paid and reported Bornhuetter-Ferguson methods are a weighting of the loss ratio method and the corresponding development method. Outstanding reserves or IBNR reserves are derived by applying the loss ratio estimate to the estimated unpaid or unreported percent of losses based on the development patterns from the development methods.

Finally, we employ the frequency/severity method for exposures that do not tend to follow historical payment and reported patterns, such as catastrophes. For such exposures, we estimate future development of reported claims and average severities on IBNR claims. We combine this estimate with our open claims in order to derive an estimate of expected unreported losses. Paid losses are added to this estimate in order to derive an estimate of ultimate losses. This method is based on the assumption that future unreported claims and the average severity of open claims and unreported claims can be reasonably estimated from the experience available.

While the property and casualty industry has incurred substantial aggregate losses from claims related to asbestos-related illnesses, environmental remediation, product and mold, and other uncertain or environmental exposures, we have not experienced significant losses from these types of claims. We have experienced material losses associated with sinkholes in past years, but the materiality of this hazard has decreased significantly since the passing of Florida Senate Bill 408. We continue to segregate this data in our derivation of estimated required reserves. While the losses we have experienced from exposures to catastrophes have not historically been material, we have experienced significant losses related to recent catastrophes. These losses have followed materially different development patterns than the balance of our experience. To address this situation, we separate this exposure from the remainder of the business and derive reserves specific to each catastrophe event. Total reserves are determined by adding the reserves related to each line of business.

Currently, our estimated ultimate liability is calculated monthly using the principles and procedures described above, which are applied to the lines of business written. However, because the establishment of loss reserves is an inherently uncertain process, we cannot be certain that ultimate losses will not exceed the established loss reserves and have a material, adverse effect on our results of operations and financial condition. Changes in estimates, or differences between estimates and amounts ultimately paid, are reflected in the operating results of the period during which such adjustments are made.

 

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Our reported results, financial position and liquidity would be affected by likely changes in key assumptions that determine our net loss reserves. Management does not believe that any reasonably likely changes in the frequency of claims would affect our loss reserves. However, management believes that a reasonably likely increase or decrease in the severity of claims could impact our net loss reserves. The table below summarizes the effect on net loss reserves and equity in the event of reasonably likely changes in the severity of claims considered in establishing loss and loss adjustment expense reserves. The range of reasonably likely changes in the severity of our claims was established based on a review of changes in loss year development and applied to loss reserves as a whole. The selected range of changes does not indicate what could be the potential best or worst case or likely scenarios:

 

Year Ended December 31, 2018

 

Change in Reserves

   Reserves      Percentage
change in equity, net of tax
 

-20.0%

     166,069        14.93

-15.0%

     176,448        11.20

-10.0%

     186,827        7.47

-5.0%

     197,207        3.73

Base

     207,586        —    

5.0%

     217,965        - 3.73

10.0%

     228,345        - 7.47

15.0%

     238,724        - 11.20

20.0%

     249,103        - 14.93

Reinsurance Recoverable. Our reinsurance recoverable balance represents an estimate of the amount of paid and unpaid losses and loss adjustment expenses that is recoverable from reinsurers. This estimate is determined in a manner consistent with the terms of the applicable reinsurance contracts and based on the ultimate losses and loss adjustment expenses we expect to incur. Given the uncertainty of the ultimate amounts of losses and loss adjustment expenses, the estimate may vary significantly from the eventual outcome.

Economic Impact of Reinsurance Contracts with Retrospective Provisions. Certain of our reinsurance contracts include retrospective provisions that adjust premiums, increase the amount of future coverage, or result in profit commissions in the event losses are minimal or zero. In accordance with U.S. GAAP, we will recognize an asset in the period in which the absence of loss experience gives rise to an increase in future coverage or obligates the reinsurer to pay cash or other consideration under the contract. In the event that a loss arises, we will derecognize such asset in the period in which a loss arises. Such adjustments to the asset, which accrue throughout the contract term, will negatively impact our operating results when a catastrophic loss event occurs during the contract term.

 

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For the year ended December 31, 2018, we recognized a net increase in accrued benefits of $743,000 and a net increase in ceded premiums of $258,000. In contrast, for the year ended December 31, 2017, we derecognized $3,413,000 of net accrued benefits. We also recognized ceded premiums of $2,327,000, including the reversal of the majority of previously deferred reinsurance costs. The adjustments made in 2017 were attributable to the impact of Hurricane Irma. For the year ended December 31, 2016, we accrued benefits of $13,610,000 and recognized net ceded premiums of $933,000, representing amortization of $1,219,000 of previously deferred reinsurance costs for increased coverage offset by $2,152,000 of ceded premiums deferred for the period. In combination, for the year ended December 31, 2018, we recognized a net reduction in ceded premiums of $485,000 as opposed to a net increase in ceded premiums of $5,740,000 for the year ended December 31, 2017. For the year ended December 31, 2016, we recognized a net reduction in ceded premiums of $12,677,000.

As of December 31, 2018, we had $3,136,000 of accrued benefits, the amount that would be charged to earnings in the event we experience a catastrophic loss that exceeds the coverage limits. As of December 31, 2017, we had $2,393,000 of accrued benefits related to these agreements.

We believe the credit risk associated with the collectability of these accrued benefits is minimal based on available information about the individual reinsurer’s financial position.

Income Taxes. We account for income taxes in accordance with U.S. GAAP, resulting in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of the enacted tax law to the taxable income or excess of deductions over revenues. We determine deferred income taxes using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax bases of assets and liabilities, and enacted changes in tax rates and laws are recognized in the period in which they occur. Valuation allowances are provided against assets that are not likely to be realized, if any. We have elected to classify the related interest and penalties, if any, as income tax expense as permitted by current accounting standards.

Stock-Based Compensation. We account for stock-based compensation awards under our shareholder approved incentive plans in accordance with the fair value recognition provisions of U.S. GAAP, which require the measurement, and recognition of compensation for all stock-based awards made to employees and non-employee directors including stock options and restricted stock issuances based on estimated fair values. We recognize stock-based compensation in the consolidated statements of income on a straight-line basis over the vesting period. We use the Black-Scholes option-pricing model, which requires the following variables for input to calculate the fair value of each stock award on the option grant date: 1) expected volatility of our stock price, 2) the risk-free interest rate, 3) expected term of each award, 4) expected dividends, and 5) an expected forfeiture rate. For restricted stock awards with market-based conditions, we estimate their fair values by using a Monte Carlo simulation model, which requires the following variables for input: 1) expected dividends per share, 2) expected volatility, 3) risk-free interest rate, 4) estimated cost of capital, and 5) expected term of each award.

 

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ITEM 7A  

Quantitative and Qualitative Disclosures About Market Risk

Our investment portfolios at December 31, 2018 included fixed-maturity and equity securities, the purposes of which are not for speculation. Our main objective is to maximize after-tax investment income and maintain sufficient liquidity to meet our obligations while minimizing market risk, which is the potential economic loss from adverse fluctuations in securities prices. We consider many factors including credit ratings, investment concentrations, regulatory requirements, anticipated fluctuation of interest rates, durations and market conditions in developing investment strategies. Our investment securities are managed primarily by outside investment advisors and are overseen by the investment committee appointed by our board of directors. From time to time, our investment committee may decide to invest in low risk assets such as U.S. government bonds.

Our investment portfolios are exposed to interest rate risk, credit risk and equity price risk. Fiscal and economic uncertainties caused by any government action or inaction may exacerbate these risks and potentially have adverse impacts on the value of our investment portfolios.

We classify our fixed-maturity securities as available-for-sale and report any unrealized gains or losses, net of deferred income taxes, as a component of other comprehensive income within our stockholders’ equity. As such, any material temporary changes in their fair value can adversely impact the carrying value of our stockholders’ equity. In addition, we recognize any unrealized gains and losses related to our equity securities in our statement of income. As a result, our results of operations can be materially affected by the volatility in the equity market.

Interest Rate Risk

Our fixed-maturity securities are sensitive to potential losses resulting from unfavorable changes in interest rates. We manage the risk by analyzing anticipated movement in interest rates and considering our future capital needs.

The following table illustrates the impact of hypothetical changes in interest rates to the fair value of our fixed-maturity securities at December 31, 2018 (amounts in thousands):

 

Hypothetical Change in Interest Rates

   Estimated
Fair Value
     Change in
Estimated
Fair Value
     Percentage
Increase
(Decrease) in
Estimated
Fair Value
 

300 basis point increase

   $ 172,417      $ (10,306      (5.64 )% 

200 basis point increase

     175,852        (6,871      (3.76 )% 

100 basis point increase

     179,287        (3,436      (1.88 )% 

100 basis point decrease

     186,159        3,436        1.88

200 basis point decrease

     189,596        6,873        3.76

300 basis point decrease

     192,734        10,011        5.48

 

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Credit Risk

Credit risk can expose us to potential losses arising principally from adverse changes in the financial condition of the issuers of our fixed-maturity securities. We mitigate the risk by investing in fixed-maturity securities that are generally investment grade, by diversifying our investment portfolio to avoid concentrations in any single issuer or business sector, and by continually monitoring each individual security for declines in credit quality. While we emphasize credit quality in our investment selection process, significant downturns in the markets or general economy may impact the credit quality of our portfolio.

The following table presents the composition of our fixed-maturity securities, by rating, at December 31, 2018 (amounts in thousands):

 

Comparable Rating

   Cost or
Amortized
Cost
     % of
Total
Amortized
Cost
     Estimated
Fair Value
     % of
Total
Estimated
Fair Value
 

AAA

   $ 5,380        3      $ 5,379        3  

AA+, AA, AA-

     66,466        36        66,124        36  

A+, A, A-

     72,744        39        71,898        39  

BBB+, BBB, BBB-

     28,711        15        28,221        15  

BB+, BB, BB-

     4,925        3        4,867        3  

CCC+, CC and Not rated

     6,444        4        6,234        4  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 184,670        100      $ 182,723        100  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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Equity Price Risk

Our equity investment portfolio at December 31, 2018 included common stocks, perpetual preferred stocks, mutual funds and exchange traded funds. We may incur potential losses due to adverse changes in equity security prices. We manage the risk primarily through industry and issuer diversification and asset mix.

The following table illustrates the composition of our equity securities at December 31, 2018 (amounts in thousands):

 

     Estimated
Fair Value
     % of Total
Estimated
Fair Value
 

Stocks by sector:

     

Financial

   $ 16,095        39  

Consumer

     4,908        12  

Industrial

     4,538        11  

Utility

     3,122        8  

Energy

     2,088        5  

Other (1)

     4,065        9  
  

 

 

    

 

 

 
     34,816        84  
  

 

 

    

 

 

 

Mutual funds and Exchange traded funds by type:

     

Debt

     3,533        9  

Equity

     2,794        7  
  

 

 

    

 

 

 
     6,327        16  
  

 

 

    

 

 

 

Total

   $ 41,143        100  
  

 

 

    

 

 

 

 

(1)

Represents an aggregate of less than 5% sectors.

Foreign Currency Exchange Risk

At December 31, 2018, we did not have any material exposure to foreign currency related risk.

 

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ITEM 8 – Financial Statements and Supplementary Data

Index to Financial Statements

 

    

Page

Reports of Dixon Hughes Goodman LLP, Independent Registered Public Accounting firm

   60-61

Consolidated Balance Sheets at December 31, 2018 and 2017

   62-63

Consolidated Statements of Income for the Years Ended December  31, 2018, 2017 and 2016

   64

Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2018, 2017 and 2016

   65

Consolidated Statements of Stockholders’ Equity for the Years Ended December 31, 2018, 2017 and 2016

   66-68

Consolidated Statements of Cash Flows for the Years Ended December  31, 2018, 2017 and 2016

   69-71

Notes to Consolidated Financial Statements for the Years Ended December 31, 2018, 2017 and 2016

   72-141

 

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Report of Independent Registered Public Accounting Firm

To the Board of Directors and Stockholders of

HCI Group, Inc. and Subsidiaries:

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of HCI Group, Inc. and Subsidiaries (the Company) as of December 31, 2018 and 2017, the related consolidated statements of income, comprehensive income (loss), stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2018, and the related notes (collectively referred to as the financial statements). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2018 and 2017, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2018, in conformity with accounting principles generally accepted in the United States of America.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 8, 2019 expressed an unqualified opinion.

Basis for Opinion

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

 

/s/ Dixon Hughes Goodman LLP

We have served as the Company’s auditor since 2013.

Tampa, Florida

March 8, 2019

 

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Report of Independent Registered Public Accounting Firm on Internal Control

To the Board of Directors and Stockholders of

HCI Group, Inc. and Subsidiaries

Opinion on Internal Control Over Financial Reporting

We have audited HCI Group, Inc. and Subsidiaries’ (the Company’s) internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control-Integrated Framework (2013) issued by COSO.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated financial statements of the Company as of December 31, 2018 and 2017, and for each of the three years in the period ended December 31, 2018, and our report dated March 8, 2019, expressed an unqualified opinion on those consolidated financial statements.

Basis for Opinion

The Company’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

Definition and Limitations of Internal Control Over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

/s/ Dixon Hughes Goodman LLP

Tampa, Florida

March 8, 2019

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

(Dollar amounts in thousands)

 

     December 31,  
     2018      2017  
Assets      

Fixed-maturity securities, available for sale, at fair value (amortized cost: $184,670 and $235,633, respectively)

   $ 182,723      $ 237,484  

Equity securities, at fair value (cost: $45,671 and $54,282, respectively)

     41,143        59,956  

Short-term investments, at fair value

     66,479        —    

Limited partnership investments, at equity

     32,293        23,184  

Investment in unconsolidated joint venture, at equity

     845        1,304  

Assets held for sale

     9,810        —    

Real estate investments (Note 5 — Consolidated Variable Interest Entity)

     54,490        58,358  
  

 

 

    

 

 

 

Total investments

     387,783        380,286  

Cash and cash equivalents

     239,458        255,884  

Restricted cash

     700        809  

Accrued interest and dividends receivable

     1,792        1,983  

Income taxes receivable

     971        16,192  

Premiums receivable

     16,667        17,807  

Prepaid reinsurance premiums

     17,932        22,286  

Reinsurance recoverable:

     

Paid losses and loss adjustment expenses

     11,151        2,344  

Unpaid losses and loss adjustment expenses

     112,760        100,760  

Deferred policy acquisition costs

     16,507        16,712  

Property and equipment, net

     13,338        12,465  

Intangible assets, net

     4,800        4,995  

Other assets (Note 5 — Consolidated Variable Interest Entity)

     9,004        9,741  
  

 

 

    

 

 

 

Total assets

   $ 832,863      $ 842,264  
  

 

 

    

 

 

 

 

(continued)

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Balance Sheets - continued

(Dollar amounts in thousands)

 

     December 31,  
     2018     2017  
Liabilities and Stockholders’ Equity     

Losses and loss adjustment expenses

   $ 207,586     $ 198,578  

Unearned premiums

     157,729       164,896  

Advance premiums

     6,192       4,948  

Assumed reinsurance balances payable

     14       15  

Accrued expenses (Note 5 — Consolidated Variable Interest Entity)

     6,483       6,035  

Reinsurance recovered in advance on unpaid losses

     —         13,885  

Deferred income taxes, net

     1,068       1,890  

Long-term debt

     250,150       237,835  

Other liabilities (Note 5 — Consolidated Variable Interest Entity)

     22,200       20,207  
  

 

 

   

 

 

 

Total liabilities

     651,422       648,289  
  

 

 

   

 

 

 

Commitments and contingencies (Note 23)

    

Stockholders’ equity:

    

7% Series A cumulative convertible preferred stock (no par value, 1,500,000 shares authorized, no shares issued and outstanding)

     —         —    

Series B junior participating preferred stock (no par value, 400,000 shares authorized, no shares issued or outstanding)

     —         —    

Preferred stock (no par value, 18,100,000 shares authorized, no shares issued or outstanding)

     —         —    

Common stock (no par value, 40,000,000 shares authorized, 8,356,730 and 8,762,416 shares issued and outstanding in 2018 and 2017, respectively)

     —         —    

Additional paid-in capital

     —         —    

Retained income

     182,894       189,409  

Accumulated other comprehensive (loss) income, net of taxes

     (1,453     4,566  
  

 

 

   

 

 

 

Total stockholders’ equity

     181,441       193,975  
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 832,863     $ 842,264  
  

 

 

   

 

 

 

See accompanying Notes to Consolidated Financial Statements.

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Income

(Dollar amounts in thousands, except per share amounts)

 

     Years Ended December 31,  
     2018     2017     2016  

Revenue

      

Gross premiums earned

   $ 343,065     $ 358,253     $ 378,678  

Premiums ceded

     (129,643     (133,635     (135,051
  

 

 

   

 

 

   

 

 

 

Net premiums earned

     213,422       224,618       243,627  

Net investment income

     16,581       11,439       9,087  

Net realized investment gains

     6,183       4,346       2,601  

Net unrealized investment (losses) gains

     (10,202     92       —    

Net other-than-temporary impairment losses recognized in income:

      

Total other-than-temporary impairment losses

     (80     (1,116     (2,252

Portion of loss recognized in other comprehensive income, before taxes

     —         (351     (230
  

 

 

   

 

 

   

 

 

 

Net other-than-temporary impairment losses

     (80     (1,467     (2,482

Policy fee income

     3,389       3,622       3,914  

Gain on repurchases of convertible senior notes

     —         —         153  

Gain on bargain purchase

     —         —         2,071  

Gain on remeasurement of previously held interest

     —         —         4,005  

Other

     1,999       1,756       1,470  
  

 

 

   

 

 

   

 

 

 

Total revenue

     231,292       244,406       264,446  
  

 

 

   

 

 

   

 

 

 

Expenses

      

Losses and loss adjustment expenses

     109,328       165,629       124,667  

Policy acquisition and other underwriting expenses

     38,943       39,663       42,642  

General and administrative personnel expenses

     25,908       25,127       26,200  

Interest expense

     18,096       16,767       11,079  

Loss on repurchases of senior notes

     —         743       —    

Impairment loss

     —         38       388  

Other operating expenses

     12,115       12,063       12,614  
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     204,390       260,030       217,590  
  

 

 

   

 

 

   

 

 

 

Income (loss) before income taxes

     26,902       (15,624     46,856  

Income tax expense (benefit)

     9,177       (8,731     17,835  
  

 

 

   

 

 

   

 

 

 

Net income (loss)

   $ 17,725     $ (6,893   $ 29,021  
  

 

 

   

 

 

   

 

 

 

Basic earnings (loss) per share

   $ 2.34     $ (0.75   $ 2.95  
  

 

 

   

 

 

   

 

 

 

Diluted earnings (loss) per share

   $ 2.34     $ (0.75   $ 2.92  
  

 

 

   

 

 

   

 

 

 

Dividends per share

   $ 1.475     $ 1.40     $ 1.20  
  

 

 

   

 

 

   

 

 

 

See accompanying Notes to Consolidated Financial Statements.

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income (Loss)

(Amounts in thousands)

 

     Years Ended December 31,  
     2018     2017     2016  

Net income (loss)

   $ 17,725     $ (6,893   $ 29,021  
  

 

 

   

 

 

   

 

 

 

Other comprehensive income (loss):

      

Change in unrealized gain (loss) on investments:

      

Net unrealized (losses) gains arising during the period

     (3,137     5,996       7,317  

Other-than-temporary impairment loss charged to investment income

     80       1,467       2,482  

Call and repayment (gains) losses charged to investment income

     (18     14       20  

Reclassification adjustment for net realized gains

     (723     (4,346     (2,601
  

 

 

   

 

 

   

 

 

 

Net change in unrealized (losses) gains

     (3,798     3,131       7,218  

Deferred income taxes on above change

     963       (1,208     (2,784
  

 

 

   

 

 

   

 

 

 

Total other comprehensive (loss) income, net of income taxes

     (2,835     1,923       4,434  
  

 

 

   

 

 

   

 

 

 

Comprehensive income (loss)

   $ 14,890     $ (4,970   $ 33,455  
  

 

 

   

 

 

   

 

 

 

See accompanying Notes to Consolidated Financial Statements.

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Stockholders’ Equity

For the Year Ended December 31, 2018

(Dollar amounts in thousands)

 

     Common Stock      Additional
Paid-In
    Retained     Accumulated
Other
Comprehensive
Income (Loss),
    Total
Stockholders’
 
     Shares     Amount      Capital     Income     Net of Tax     Equity  

Balance at December 31, 2017

     8,762,416     $ —        $ —       $ 189,409     $ 4,566     $ 193,975  

Net income

     —         —          —         17,725       —         17,725  

Total other comprehensive loss, net of income taxes

     —         —          —         —         (2,835     (2,835

Cumulative effect adjustments for adoption of new accounting standards:

             

Reclassification of after-tax net unrealized holding gains related to equity securities

     —         —          —         4,168       (4,168     —    

Reclassification of stranded tax effects related to available-for-sale fixed-maturity and equity securities

     —         —          —         (984     984       —    

Issuance of restricted stock

     189,860       —          —         —         —         —    

Forfeiture of restricted stock

     (56,637     —          —         —         —         —    

Repurchase and retirement of common stock

     (27,281     —          (1,151     —         —         (1,151

Repurchase and retirement of common stock under share repurchase plan

     (511,628     —          (20,015     —         —         (20,015

Purchase of noncontrolling interest

     —         —          (539     —         —         (539

Common stock dividends

     —         —          —         (10,351     —         (10,351

Stock-based compensation

     —         —          4,632       —         —         4,632  

Additional paid-in capital shortfall allocated to retained income

     —         —          17,073       (17,073     —         —    
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Balance at December 31, 2018

     8,356,730     $ —        $ —       $ 182,894     $ (1,453   $ 181,441  
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Stockholders’ Equity – (Continued)

For the Year Ended December 31, 2017

(Dollar amounts in thousands)

 

     Common Stock      Additional
Paid-In
    Retained     Accumulated
Other
Comprehensive
Income (Loss),
     Total
Stockholders’
 
     Shares     Amount      Capital     Income     Net of Tax      Equity  

Balance at December 31, 2016

     9,662,761     $ —        $ 8,139     $ 232,964     $ 2,643      $ 243,746  

Net loss

     —         —          —         (6,893     —          (6,893

Total other comprehensive income, net of income taxes

     —         —          —         —         1,923        1,923  

Issuance of restricted stock

     154,936       —          —         —         —          —    

Exercise of common stock options

     30,000       —          75       —         —          75  

Forfeiture of restricted stock

     (23,766     —          —         —         —          —    

Repurchase and retirement of common stock

     (437,240     —          (21,318     —         —          (21,318

Repurchase and retirement of common stock under share repurchase plan

     (433,175     —          (15,154     —         —          (15,154

Repurchase of common stock under prepaid forward contract

     (191,100     —          (9,400     —         —          (9,400

Equity component on 4.25% convertible senior notes (net of offering costs of $543)

     —         —          15,151       —         —          15,151  

Deferred taxes on debt discount

     —         —          (5,845     —         —          (5,845

Common stock dividends

     —         —          —         (12,833     —          (12,833

Stock-based compensation

     —         —          4,523       —         —          4,523  

Additional paid-in capital shortfall allocated to retained income

     —         —          23,829       (23,829     —          —    
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Balance at December 31, 2017

     8,762,416     $ —        $ —       $ 189,409     $ 4,566      $ 193,975  
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Stockholders’ Equity – (Continued)

For the Year Ended December 31, 2016

(Dollar amounts in thousands)

 

     Common Stock      Additional
Paid-In
    Retained     Accumulated
Other
Comprehensive
Income (Loss),
    Total
Stockholders’
 
     Shares     Amount      Capital     Income     Net of Tax     Equity  

Balance at December 31, 2015

     10,292,256     $ —        $ 23,879     $ 215,634     $ (1,791   $ 237,722  

Net income

     —         —          —         29,021       —         29,021  

Total other comprehensive income, net of income taxes

     —         —          —         —         4,434       4,434  

Issuance of restricted stock

     142,440       —          —         —         —         —    

Exercise of common stock options

     60,000       —          150       —         —         150  

Forfeiture of restricted stock

     (13,298     —          —         —         —         —    

Cancellation of restricted stock

     (160,000     —          —         —         —         —    

Repurchase and retirement of common stock

     (14,934     —          (464     —         —         (464

Repurchase and retirement of common stock under share repurchase plan

     (643,703     —          (20,026     —         —         (20,026

Common stock dividends

     —         —          —         (11,691     —         (11,691

Tax benefits on stock-based compensation

     —         —          641       —         —         641  

Tax shortfalls on stock-based compensation

     —         —          (239     —         —         (239

Stock-based compensation

     —         —          4,198       —         —         4,198  
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Balance at December 31, 2016

     9,662,761     $ —        $ 8,139     $ 232,964     $ 2,643     $ 243,746  
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

 

See accompanying Notes to Consolidated Financial Statements.

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

(Amounts in thousands)

 

         Years Ended December 31,  
         2018     2017     2016  

Cash flows from operating activities:

        

Net income (loss)

     $ 17,725     $ (6,893   $ 29,021  

Adjustments to reconcile net income (loss) to net cash provided by operating activities:

        

Stock-based compensation

       4,632       4,523       4,198  

Net amortization of premiums on investments in fixed-maturity securities

       761       1,252       726  

Depreciation and amortization

       10,996       9,591       5,408  

Deferred income tax expense (benefit)

 

    

     141       (4,913     155  

Net realized investment gains

       (6,183     (4,346     (2,601

Net unrealized investment losses (gains)

       10,202       (92     —    

Other-than-temporary impairment losses

       80       1,467       2,482  

(Income) loss from unconsolidated joint venture

       (304     234       —    

Distribution received from unconsolidated joint venture

       68       147       —    

Gain on repurchases of convertible senior notes

       —         —         (153

Gain on bargain purchase

       —         —         (2,071

Loss on repurchases of senior notes

       —         743       —    

Gain on remeasurement of previously held investment

       —         —         (4,005

Impairment loss

       —         38       388  

Net income from limited partnership interests

       (4,430     (2,334     (1,207

Distributions received from limited partnership interests

       2,345       881       544  

Foreign currency remeasurement loss (gain)

       135       (60     29  

Other

       72       134       18  

Changes in operating assets and liabilities:

        

Accrued interest and dividends receivable

       191       (329     (300

Income taxes

       15,221       (13,381     (1,192

Premiums receivable

       1,140       (531     2,355  

Prepaid reinsurance premiums

       4,354       2,268       16,193  

Reinsurance recoverable

       (20,807     (103,104     —    

Deferred policy acquisition costs

       205       (73     1,963  

Other assets

       408       783       29,354  

Losses and loss adjustment expenses

       9,008       128,086       18,802  

Unearned premiums

       (7,167     (10,907     (11,487

Advance premiums

       1,244       297       (332

Assumed reinsurance balances payable

       (1     (3,279     2,210  

Reinsurance recovered in advance on unpaid losses

       (13,885     13,885       —    

Accrued expenses and other liabilities

       2,444       2,548       (2,223
    

 

 

   

 

 

   

 

 

 

Net cash provided by operating activities

       28,595       16,635       88,275  
    

 

 

   

 

 

   

 

 

 

 

(continued)

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows – (Continued)

(Amounts in thousands)

 

         Years Ended December 31,  
         2018     2017     2016  

Cash flows from investing activities:

        

Proceeds from investment in real estate under acquisition, development and construction arrangement

 

    

     —         —         10,200  

Acquisition of real estate business, net of cash acquired

       —         —         (11,651

Investments in limited partnership interests

       (7,182     (4,226     (4,670

Distributions received from limited partnership interests

       158       11,758       —    

Investment in unconsolidated joint venture

       —         —         (90

Distribution from unconsolidated joint venture

       695       417       —    

Purchase of property and equipment

       (2,187     (2,340     (865

Purchase of intangible assets

       (409     (637     —    

Purchase of real estate investments

       (7,472     (11,878     (2,261

Purchase of fixed-maturity securities

       (113,174     (114,743     (85,530

Purchase of equity securities

       (52,250     (50,453     (22,434

Purchase of short-term and other investments

       (201,538     —         —    

Proceeds from sales of fixed-maturity securities

       81,809       31,759       40,454  

Proceeds from calls, repayments and maturities of fixed-maturity securities

       82,177       14,897       4,692  

Proceeds from sales of equity securities

       66,439       45,282       23,127  

Proceeds from sales, redemptions and maturities of short-term and other investments

       135,256       —         —    
    

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

       (17,678     (80,164     (49,028
    

 

 

   

 

 

   

 

 

 

Cash flows from financing activities:

        

Net borrowing under revolving credit facility

       —         —         1,238  

Proceeds from the exercise of common stock options

       —         75       150  

Cash dividends paid

       (11,318     (13,906     (12,438

Cash dividends received under share repurchase forward contract

       967       1,073       747  

Proceeds from the issuance of long-term debt

       6,000       143,859       18,200  

Repurchases of convertible senior notes

       —         —         (11,347

Repurchases of senior notes

       —         (40,250     —    

Repayment of long-term debt

       (1,127     (974     (455

Repurchases of common stock

       (1,151     (30,718     (464

Repurchases of common stock under share repurchase plan

       (20,015     (15,154     (20,026

Purchase of non-controlling interest

       (539     —         (2,064

Debt issuance costs

       (105     (4,975     (339

Tax benefits on stock-based compensation

       —         —         641  
    

 

 

   

 

 

   

 

 

 

Net cash (used in) provided by financing activities

       (27,288     39,030       (26,157
    

 

 

   

 

 

   

 

 

 

Effect of exchange rate changes on cash

       (164     61       3  
    

 

 

   

 

 

   

 

 

 

Net (decrease) increase in cash, cash equivalents and restricted cash

       (16,535     (24,438     13,093  

Cash, cash equivalents and restricted cash at beginning of year

       256,693       281,131       268,038  
    

 

 

   

 

 

   

 

 

 

Cash, cash equivalents and restricted cash at end of year

     $ 240,158     $ 256,693     $ 281,131  
    

 

 

   

 

 

   

 

 

 

 

(continued)

 

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HCI GROUP, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows – (Continued)

(Amounts in thousands)

 

         Years Ended December 31,  
         2018     2017      2016  

Supplemental disclosure of cash flow information:

         

Cash paid for income taxes

     $ 3,655     $ 11,506      $ 18,857  
    

 

 

   

 

 

    

 

 

 

Cash paid for interest

 

    

   $ 10,720     $ 8,906      $ 7,222  
    

 

 

   

 

 

    

 

 

 

Non-cash investing and financing activities:

         

Unrealized (loss) gain on investments in available-for-sale securities, net of tax

     $ (2,835   $ 1,923      $ 4,434  
    

 

 

   

 

 

    

 

 

 

Details of business acquisition:

         

Fair value of assets acquired

     $ —       $ —        $ 32,569  

Less: Purchase price

       —         —          (14,514

Carrying value of previously held interest

       —         —          (2,859

Gain on remeasurement of previously held interest

       —         —          (4,005

Gain on bargain purchase

       —         —          (2,071
    

 

 

   

 

 

    

 

 

 

Liabilities assumed

     $ —       $ —        $ 9,120  
    

 

 

   

 

 

    

 

 

 

Conversion of revolving credit facility to long-term debt

     $ —       $ 9,441      $ —    
    

 

 

   

 

 

    

 

 

 

Receivable from sales of available-for-sale securities

     $ —       $ 255      $ 350  
    

 

 

   

 

 

    

 

 

 

Payable on purchases of available-for-sale securities

     $ —       $ 4      $ 50  
    

 

 

   

 

 

    

 

 

 

Addition to property and equipment under capital lease

     $ 61     $ —        $ —    
    

 

 

   

 

 

    

 

 

 

 

See accompanying Notes to Consolidated Financial Statements.

 

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HCI GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

Note 1 — Nature of Operations

HCI Group, Inc., together with its subsidiaries (“HCI” or the “Company”), is primarily engaged in the property and casualty insurance business through two Florida domiciled insurance companies, Homeowners Choice Property & Casualty Insurance Company, Inc. (“HCPCI”), its principal operating subsidiary, and TypTap Insurance Company (“TypTap”). HCPCI is authorized to underwrite various homeowners’ property and casualty insurance products and allied lines business in the state of Florida. HCPCI also offers flood-endorsed and wind-only policies to Florida customers. During 2017, HCPCI received regulatory approval to write residential property and casualty insurance in the states of Arkansas, California, Maryland, North Carolina, New Jersey, Ohio, Pennsylvania, South Carolina and Texas. However, Florida is still HCPCI’s major market. TypTap primarily offers standalone flood and homeowners multi-peril policies to Florida homeowners. HCPCI’s and TypTap’s operations are supported by HCI Group, Inc. and certain HCI subsidiaries.

In addition, HCI includes various subsidiaries predominantly engaged in the businesses of owning and leasing real estate, operating marina facilities and one restaurant, and developing software products. See Note 17 — “Segment Information.”

The Company obtained a majority of its policies through participation in a “take-out program” with Citizens Property Insurance Corporation (“Citizens”), a Florida state supported insurer. Policies were obtained in separate assumption transactions with Citizens. The Company is required to offer renewals on the policies acquired for a period of three years subsequent to the initial expiration of the assumed policies. During the first full year after assumption, such renewals are required to have rates that are equivalent to or less than the rates charged by Citizens. Substantially all of the Company’s premium revenue since inception comes from these assumptions and one additional assumption through which the Company acquired the Florida policies of another Florida insurance carrier.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Note 2 — Summary of Significant Accounting Policies

Basis of Presentation. The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”).

Adoption of New Accounting Standards.

The Company adopted the following accounting standards effective January 1, 2018.

Accounting Standards Update No. 2014-09 (ASU 2014-09), Revenue from Contracts with Customers (Topic 606). The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The Company elected to use a modified retrospective method for transition to the new revenue recognition standard. The impact is limited to revenue from gift cards sold that is not material to the Company’s results of operations.

Accounting Standards Update No. 2016-01 (“ASU 2016-01”), Financial Instruments—Overall (Subtopic 825-10). ASU 2016-01 amends the accounting for equity investments, financial liabilities under the fair value option, and the presentation and disclosure requirements for financial instruments. ASU 2016-01 requires all equity investments other than those accounted for under the equity method of accounting or those that result in consolidation of the investee to be measured at fair value with changes in the fair value recognized through income. ASU 2016-01 also supersedes the guidance that requires classification of equity securities with readily determinable fair values into either “trading” or “available-for-sale.” Upon adoption of this standard, the after-tax net unrealized holding gains of $4,168 in accumulated other comprehensive income at December 31, 2017, which pertain to available-for-sale equity securities and represent a cumulative-effect amount, were reclassified to beginning retained income. Any subsequent changes in the fair value of equity securities have now been recognized in the Company’s consolidated statement of income rather than in accumulated other comprehensive income. In addition, previously reported available-for-sale and trading equity securities of $58,911 and $1,045, respectively, at December 31, 2017 are combined and presented as equity securities on the consolidated balance sheet. Certain prior-period disclosures related to equity securities are reorganized to conform with current period presentation.

Accounting Standards Update No. 2016-18 (ASU 2016-18), Statement of Cash Flows (Topic 230): Restricted Cash. ASU 2016-18 amends guidance on the classification and presentation of restricted cash in the statement of cash flows. Upon adoption of this standard, restricted cash is now included with cash and cash equivalents when the Company reconciles the beginning-of-period and end-of-period total amounts shown on the consolidated statement of cash flows. In addition, the consolidated statement of cash flows for the prior period presented is retrospectively restated to comply with the new standard. This change in classification and presentation of restricted cash increases the previously reported cash flows from operating activities from $16,426 to $16,635 for the year ended December 31, 2017 and from $87,975 to $88,275 for the year ended December 31, 2016.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Accounting Standards Update No. 2017-09 (“ASU 2017-09”), Compensation – Stock Compensation (Topic 718): Scope of Modification Accounting. ASU 2017-09 provides guidance about which changes to the terms or conditions of a share-based payment award require an application of modification accounting. The adoption of this standard had no impact on the current or prior financial statements and will impact the Company’s accounting for any future modification of its existing share-based awards.

Accounting Standards Update No. 2018-02 (“ASU 2018-02”), Income Statement – Reporting Comprehensive Income (Topic 220). ASU 2018-02 primarily allows a reclassification from accumulated other comprehensive income to retained income for stranded tax effects resulting from the Tax Cuts and Jobs Act of 2017. The Company elected to early adopt this standard in the first quarter of 2018. As a result, the Company decreased beginning retained income and increased accumulated other comprehensive income by $984 of the net deferred tax effects pertaining to available-for-sale fixed-maturity and equity securities as of December 31, 2017.

Principles of Consolidation. The accompanying consolidated financial statements include the accounts of HCI Group, Inc. and its majority-owned and controlled subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. In addition, the Company evaluates its relationships or investments for consolidation pursuant to authoritative accounting guidance related to the consolidation of variable interest entities under the Variable Interest Model prescribed by the Financial Accounting Standards Board (“FASB”). A variable interest entity is consolidated when the Company has the power to direct activities that most significantly impact the economic performance of the variable interest entity and has the obligation to absorb losses or the right to receive benefits from the variable interest entity that could potentially be significant to the variable interest entity. When a variable interest entity is not consolidated, the Company uses the equity method to account for the investment. Under this method, the carrying value is generally the Company’s share of the net asset value of the unconsolidated entity, and changes in the Company’s share of the net asset value are recorded in net investment income.

Use of Estimates. The preparation of the consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities as well as the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results may differ materially from these estimates. Material estimates that are particularly susceptible to significant change in the near term are primarily related to losses and loss adjustment expenses, reinsurance with retrospective provisions, reinsurance recoverable, deferred income taxes, and stock-based compensation expense.

Business Acquisitions. The Company accounts for business acquisitions using the acquisition method, which requires it to measure and recognize the assets acquired, liabilities assumed, and any noncontrolling interest in the acquiree at their acquisition date fair values. In the event that the fair value of net assets acquired exceeds the purchase price, a bargain purchase gain is recorded. In a step acquisition in which there is a change in ownership interest and control is obtained when there is a previously held equity interest, a gain or loss from remeasurement of the previously held equity interest to fair value is recorded.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Before the adoption of Accounting Standards Update No. 2017-01, acquisitions of income-producing real properties were typically considered business acquisitions. As such, the Company allocated the purchase price to land, land improvements, buildings, tenant improvements, intangibles such as the value of significant tenant (i.e. anchor tenant) relationships, in-place leases, and assumed liabilities, if any. Tangible assets are presented as real estate investments on the Company’s consolidated balance sheet. Buildings subject to leases are valued as if vacant. The value attributable to in-place leases reflects the costs we would have incurred to lease the property to the occupancy level that existed at the acquisition date. These costs include leasing commissions, tenant improvement allowances, and other direct costs required to lease the property. In addition, the estimated fair value of in-place leases reflects the value of base rental revenues that would have been earned during the assumed periods of vacancy and the related carrying costs that would have been incurred to lease the vacant property to its existing occupancy. The Company also reviews terms of the assumed leases to evaluate whether the terms are favorable or unfavorable relative to the market at the acquisition date. In the event the assumed leases are not at market terms, the Company recognizes an intangible asset for a lease with favorable terms and a liability if the terms of the lease are unfavorable.

After the adoption of Accounting Standards Update No. 2017-01 during the fourth quarter of 2017, the Company evaluates whether substantially all of the fair value of the gross assets acquired in a real estate transaction is concentrated in a single identifiable asset or group of similar identifiable assets. If such concentration is substantial, the transaction is accounted for as an asset acquisition. As a result, the cost of acquiring real estate is allocated to the individual assets based on the relative fair values of the individual assets. Acquisition related costs are capitalized and allocated among the assets acquired.

Cash and Cash Equivalents. The Company considers all short-term highly liquid investments with original maturities of less than three months to be cash and cash equivalents. At December 31, 2018 and 2017, cash and cash equivalents consisted of cash on deposit with financial institutions and securities brokerage firms, commercial paper, and certificates of deposit.

Available-for-Sale Fixed-Maturity Securities. Fixed-maturity securities include debt securities and redeemable preferred stock. The Company’s available-for-sale securities are carried at fair value. Temporary changes in the fair value of available-for-sale securities are excluded from net investment income and reported in stockholders’ equity as a component of accumulated other comprehensive income, net of deferred income taxes. Realized investment gains and losses from sales are recorded on the trade date and are determined using the first-in first-out (FIFO) method. Investment income is recognized as earned and discounts or premiums arising from the purchase of debt securities are recognized in investment income using the interest method over the estimated remaining term of the security. Gains and losses from call redemptions and repayments are charged to investment income.

The Company reviews fixed-maturity securities for other-than-temporary impairment on a monthly basis. When the fair value of any investment is lower than its cost, an assessment is made to determine whether the decline is temporary or other-than-temporary. If the decline is determined to be other-than-temporary, the investment is written down to fair value and an impairment loss is recognized in income in the period in which the Company makes such determination.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

When reviewing impaired securities, the Company considers its ability and intent to hold these securities and whether it is probable that the Company will be required to sell these securities prior to their anticipated recovery or maturity. For the fixed-maturity securities that the Company intends to sell or it is probable that the Company will have to sell before recovery or maturity, the unrealized losses are recognized as other-than-temporary losses in income. In instances where there are credit related losses associated with the impaired fixed-maturity securities for which the Company asserts that it does not have the intent to sell, and it is probable that the Company will not be required to sell until a market price recovery or maturity, the amount of the other-than-temporary impairment loss related to credit losses is recognized in income, and the amount of the other-than-temporary impairment loss related to other non-credit factors such as changes in interest rates or market conditions is recorded as a component of accumulated other comprehensive income.

When determining impairment due to a credit related loss, the Company carefully considers factors such as the issuer’s financial ratios and condition, the security’s current ratings and maturity date, and overall market conditions in estimating the cash flows expected to be collected. The expected cash flows discounted at the effective interest rate of the security implicit at the date of acquisition is then compared with the security’s amortized cost at the measurement date. A credit loss is incurred when the present value of the expected cash flows is less than the security’s amortized cost. The Company considers various factors in determining whether an individual security is other-than-temporarily impaired (see Available-for-Sale Fixed-Maturity Securities in Note 5 — “Investments”).

Equity Securities. Equity securities represent ownership interests held by the Company in entities for investment purposes. Prior to January 1, 2018, these equity securities were classified as either available-for-sale or trading and were carried at fair value on the Company’s consolidated balance sheet. Unrealized holding gains and losses from the changes in the fair values of available-for-sale equity securities were reported in accumulated other comprehensive income. Effective January 1, 2018, after adoption of ASU 2016-01, unrealized holding gains and losses are reported in the consolidated statement of income as net unrealized investment gains and losses. As a result, other-than-temporary impairments will no longer be considered for equity securities. Realized investment gains and losses from sales are recorded on the trade date and are determined using the first-in first-out method (see Equity Securities in Note 5 — “Investments”).

Short-Term Investments. Short-term investments include certificates of deposit issued by financial institutions and commercial paper with original maturities of more than three months but less than one year at date of acquisition. These short-term investments are carried at cost or amortized cost, which approximates fair value.

Limited Partnership Investments. The Company has interests in limited partnerships that are not registered under the United Stated Securities Act of 1933, as amended, the securities laws of any state or the securities laws of any other jurisdictions. The partnership interests cannot be resold in the public market and any withdrawal is subject to the terms and conditions of the partnership agreement. The Company has no influence over partnership operating and financial policies. The Company did not elect the fair value option and, therefore, uses the equity method to account for these investments (see Limited Partnership Investments in Note 5 — “Investments”). The Company generally recognizes its share of the limited partnership’s earnings or losses on a three-month lag.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Pursuant to U.S. GAAP, these limited partnerships which are private equity funds must measure their investments at fair value and reflect the unrealized gains and losses in the fair value of their investments on their statement of income. As a result, the carrying value of limited partnership investments at each reporting date approximates their estimated fair value.

Investment in Unconsolidated Joint Venture. The Company has a 90% equity interest in a limited liability company (treated as a joint venture under U.S. GAAP) that owns land for lease or for sale and, until December 2016, owned and operated a retail shopping center. The joint venture was determined to be a variable interest entity as it lacks sufficient equity to finance its activities without additional subordinated financial support. Despite having a majority equity interest, the Company does not have the power to direct the activities that most significantly impact the economic performance of the joint venture and, accordingly, is not required to consolidate the joint venture as its primary beneficiary. As a result, the Company uses the equity method to account for this investment.

When evidence indicates an impairment may occur, the Company evaluates whether a decline in value is other than temporary. Evidence may include continuing operating losses of the joint venture, a declining occupancy rate, a decrease in real estate value, and an oversupply of rental property in close vicinity to the investment property. Should available evidence indicate the recovery of the initial investment is less likely, the Company would compare the carrying value of the investment with its expected residual value and recognize an impairment loss in earnings.

Assets Held for Sale. Assets held for sale are valued at the lower of the carrying value or fair value less costs to sell. Assets are classified as held for sale when the following criteria are met: (i) management has the authority and commits to a plan to sell the asset; (ii) the asset is available for immediate sale in its present condition; (iii) there is an active program to locate a buyer and the plan to sell the asset has been initiated; (iv) the sale of the asset is probable within one year; (v) the property is being actively marketed at a reasonable sale price relative to its current fair value; and (vi) it is unlikely that the plan to sell will be withdrawn or that significant changes to the plan will be made.

In determining the fair value of the assets less costs to sell, the Company primarily relies on the value determined by an independent appraiser. If the estimated fair value less costs to sell is less than the carrying value of the asset, the asset is written down to its estimated fair value less costs to sell and an impairment loss is recognized in the consolidated statement of income. Depreciation is not recorded while assets are classified as held for sale.

Real Estate Investments. Real estate investments include real estate and the related assets purchased for investment purposes (see Note 5 — “Investments”). Real estate and the related depreciable assets are carried at cost, net of accumulated depreciation, which is included in net investment income and allocated over the estimated useful life of the asset using the straight-line method of depreciation. Land is not depreciated. Real estate is evaluated for impairment when events or circumstances indicate the carrying value of the real estate may not be recoverable.

Deferred policy acquisition costs. Deferred policy acquisition costs (“DAC”) represent direct costs to acquire insurance contracts and consist of premium taxes and commissions paid to outside agents at the time of collection of the policy premium. DAC is amortized over the life of the related policy in relation to the amount of gross premiums earned.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

The method followed in computing DAC limits the amount of such deferred costs to their estimated realizable value, which gives effect to the gross premium earned, related investment income, unpaid losses and loss adjustment expenses and certain other costs expected to be incurred as the premium is earned.

DAC is reviewed to determine if it is recoverable from future premium income, including investment income. If such costs are determined to be unrecoverable, they are expensed at the time of determination. The amount of DAC considered recoverable could be reduced in the near term if the estimates of total revenues discussed above are reduced or permanently impaired as a result of the disposition of a line of business. The amount of amortization of DAC could be revised in the near term if any of the estimates discussed above are revised.

Property and Equipment. Property and equipment is stated at cost less accumulated depreciation and amortization, which is included in other operating expenses. Depreciation is calculated on a straight-line basis over the estimated useful lives as follows: building, 39 years; computer hardware and software, 3 years; and office and furniture equipment, 3 to 7 years. Leasehold improvements are amortized over the shorter of the lease term or the asset’s useful life. Land is not depreciated. Expenditures for improvements are capitalized to the property accounts. Replacements and maintenance and repairs that do not improve or extend the life of the respective assets are expensed as incurred. The Company capitalizes both internal and external costs for internally developed software during the application development stage. During the preliminary project and post-implementation stage, internal-use software development costs are expensed as incurred. Capitalized software costs are depreciated on a straight-line basis over the estimated useful life of 7 years.

Impairment of Long-Lived Assets. Long-lived assets, such as property and equipment, are reviewed for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. The Company assesses the recoverability of long-lived assets by determining whether the assets can be recovered from undiscounted future cash flows. Recoverability of long-lived assets is dependent upon, among other things, the Company’s ability to maintain profitability, so as to be able to meet its obligations when they become due. In the opinion of management, based upon current information and projections, long-lived assets will be recovered over the period of benefit.

Intangible Assets. Intangibles consist of the value attributable to the acquired in-place leases and the primary, or anchor, tenant relationships. The value attributable to the anchor tenant relationship represents the economic benefits of having a nationally recognized retailer as the lead tenant, which draws consumer traffic and other tenants to the retail center. These intangibles are amortized to expense over the related lease term. Amortization of the intangibles related to real estate investments is reflected in net investment income in the consolidated statement of income. The Company reviews these intangible assets for impairment annually or when events or changes in circumstances indicate the carrying value may not be recoverable. In the event the Company determines the carrying value is not recoverable, an impairment loss is recorded in the Company’s consolidated statement of income.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Lease Acquisition Costs. Lease acquisition costs represent capitalized costs of finding and acquiring tenants such as leasing commissions, legal, and marketing expenses. The costs are included in Other assets in the consolidated balance sheet. The Company amortizes these costs in other operating expenses on a straight-line basis over the term of a lease.

Long-Term Debt. Long-term debt is generally classified as a liability and carried at amortized cost, net of any discount and issuance costs. At issuance, a debt instrument with embedded features such as conversion and redemption options is evaluated to determine whether bifurcation and derivative accounting is applicable. If such instrument is not subject to derivative accounting, it is further evaluated to determine if the Company is required to separately account for the liability and equity components.

To determine the carrying values of the liability and equity components at issuance, the Company measures the fair value of a similar liability, including any embedded features other than the conversion option, and assigns such value to the liability component. The liability component’s fair value is then subtracted from the initial proceeds to determine the carrying value of the debt instrument’s equity component, which is included in additional paid-in capital.

Any embedded feature other than the conversion option is evaluated at issuance to determine if it is probable that such embedded feature will be exercised. If the Company concludes that the exercisability of that embedded feature is not probable, the embedded feature is considered to be non-substantive and would not impact the initial measurement and expected life of the debt instrument’s liability component.

Transaction costs related to issuing a debt instrument that embodies both liability and equity components are allocated to the liability and equity components in proportion to the allocation of the proceeds and accounted for as debt issuance costs and equity issuance costs, respectively. Debt issuance costs are capitalized and presented as a deduction from the carrying value of the debt. Both debt discount and deferred debt issuance costs are amortized to interest expense over the expected life of the debt instrument using the effective interest method. Equity issuance costs are a reduction to the proceeds allocated to the equity component.

Prepaid Share Repurchase Forward Contract. A prepaid share repurchase forward contract is generally a contract that allows the Company to buy from the counterparty a specified number of common shares at a specific time at a given forward price. The Company entered into such a contract and evaluated the characteristics of the forward contract to determine whether it met the definition of a derivative financial instrument pursuant to U.S. GAAP. The Company determined the forward contract is an equity contract on the Company’s common shares requiring physical settlement in common shares of the Company. As such, the transaction is recognized as a component of stockholders’ equity with a charge to additional paid-in capital equal to the prepayment amount, which represents the cash paid to the counterparty. There will be no recognition in earnings for changes in fair value in subsequent periods.

Losses and Loss Adjustment Expenses. Reserves for losses and loss adjustment expenses (“LAE”) are determined by establishing liabilities in amounts estimated to cover incurred losses and LAE. Such reserves are determined based on the assessment of claims reported and the development of pending claims. These reserves are based on individual case estimates for the reported losses and LAE and estimates of such amounts that are incurred but not reported. Changes in the estimated liability are charged or credited to income as the losses and LAE are settled.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

The estimates of unpaid losses and LAE are subject to trends in claim severity and frequency and are continually reviewed. As part of the process, the Company reviews historical data and considers various factors, including known and anticipated regulatory and legal developments, changes in social attitudes, inflation and economic conditions. As experience develops and other data becomes available, these estimates are revised, as required, resulting in increases or decreases to the existing unpaid losses and LAE. Adjustments are reflected in the results of operations in the period in which they are made and the liabilities may deviate substantially from prior estimates. Losses and LAE ceded to or recovered from reinsurers are recorded as a reduction to losses and LAE on the consolidated statement of income.

Advance Premiums. Premium payments received prior to the policy effective date are recorded as advance premiums. Once the policy is in force, the premiums are recorded as described under “Premium Revenue” below.

Reinsurance. In the normal course of business, the Company seeks to reduce the loss that may arise from catastrophes or other events by reinsuring certain levels of risk in various areas of exposure with other insurance enterprises or reinsurers. The Company contracts with a number of reinsurers to secure its annual reinsurance coverage, which generally becomes effective June 1st each year. The Company purchases reinsurance each year taking into consideration probable maximum losses and reinsurance market conditions. Amounts recoverable from reinsurers are estimated in a manner consistent with the applicable reinsurance contract or contracts. Reinsurance premiums and reserves related to reinsured business are accounted for on a basis consistent with those used in accounting for the original policies issued and the terms of the reinsurance contracts. Premiums ceded to other companies have been reported as a reduction of gross premiums earned. Prepaid reinsurance premiums represent the unexpired portion of premiums ceded to reinsurers.

Certain of the Company’s current reinsurance contracts contain retrospective provisions including terms and conditions that adjust premiums, increase the amount of future coverage, or result in profit commissions based on the loss experience under the contracts. In such cases, a with-and-without method is used to estimate the asset or liability amount to be recognized at each reporting date. The amount of the estimate is the difference between the net contract costs before and after the loss experience under the contract. Estimates related to premium adjustments, profit commissions and coverage changes are recognized in ceded premiums earned. These estimates are reviewed monthly based on the loss experience to date and as adjustments become necessary. Such adjustments are reflected in the Company’s current operations and recorded in other assets until received upon the expiration of the contracts.

The Company receives ceding commissions from ceding gross written premiums to a third-party reinsurer under one flood quota share reinsurance contract. The ceding commissions represent the reimbursement of the Company’s policy acquisition, underwriting and other operating expenses. Ceding commissions received cover a portion of premium taxes and agent commissions capitalized by the Company and a portion of non-capitalized acquisition costs and other underwriting expenses. Ceding commissions are recognized to income on a pro-rata basis over the terms of the policies reinsured, the amount of which is included in policy acquisition and other underwriting expenses in the consolidated statement of income. The unearned portion of ceding commissions that represents recovery of capitalized acquisition costs is classified as a reduction of deferred policy acquisition costs whereas the remaining unearned balance is classified as deferred revenue in other liabilities.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Reinsurance Recovered in Advance on Unpaid Losses. Reinsurance recovered in advance on unpaid losses represents cash received in advance from reinsurers under reinsurance contracts to reimburse the Company’s losses and LAE. The Company is contractually permitted to apply these funds to offset the paid portion of reinsurance recoverable only.

Premium Revenue. Premium revenue is earned on a daily pro-rata basis over the term of the policies and is included in gross premiums earned. Unearned premiums represent the portion of the premiums attributable to the unexpired policy term. The Company reviews its policy detail and establishes an allowance for any amount outstanding for more than 90 days. At December 31, 2018 and 2017, there was no allowance required.

Policy Fees. Policy fees represent nonrefundable fees for insurance coverage, which are intended to reimburse a portion of the costs incurred to underwrite the policy. Policy fees are recognized ratably over the policy coverage period.

Florida Insurance Guaranty Association Assessments. The Company’s Florida insurance subsidiaries may be assessed by the state guaranty association. The assessments are intended to be used for the payment of covered claims of insolvent insurance entities. The assessments are generally based on a percentage of premiums written during or following the year of insolvency. Liabilities are recognized when the assessments are probable to be imposed on the premiums on which they are expected to be based and the amounts can be reasonably estimated. The insurer is permitted by Florida statutes to recover the entire amount of assessments from in-force and future policyholders through policy surcharges. U.S. GAAP provides that the Company should record an asset based on the amount of written or obligated-to-write premiums and limited to the amounts recoverable over the life of the in-force policies.

Foreign Currency. The functional currency of the Company’s Indian subsidiary is the U.S. dollar. As such, the monetary assets and liabilities of this subsidiary are remeasured into U.S. dollars at the exchange rate in effect on the balance sheet date. Non-monetary assets and liabilities are remeasured using historical rates. Expenses recorded in the local currency are remeasured at the prevailing exchange rate. Exchange gains and losses resulting from these remeasurements are included in other operating expenses.

Income Taxes. The Company files consolidated federal and state income tax returns and allocates taxes among its wholly owned subsidiaries in accordance with a written tax-allocation agreement.

The Company accounts for income taxes in accordance with U.S. GAAP, resulting in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of the enacted tax law to the taxable income or excess of deductions over revenues. The Company determines deferred income taxes using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax bases of assets and liabilities, and enacted changes in tax rates and laws are recognized in the period in which they occur.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are recognized if it is more likely than not, based on the technical merits, that the tax position will be realized or sustained upon examination. The term “more likely than not” means a likelihood of more than fifty percent; the terms “examined” and “upon examination” also include resolution of the related appeals or litigation processes, if any. A tax position that meets the more-likely-than-not recognition threshold is initially and subsequently measured as the largest amount of tax benefit that has a greater than fifty percent likelihood of being realized upon settlement with a taxing authority that has full knowledge of all relevant information. The determination of whether or not a tax position has met the more-likely-than-not recognition threshold considers the facts, circumstances, and information available at the reporting date and is subject to management’s judgment. Deferred tax assets are reduced by a valuation allowance if, based on the weight of evidence available, it is more likely than not that some portion or all of a deferred tax asset will not be realized. As of December 31, 2018, management is not aware of any uncertain tax positions that would have a material effect on the Company’s consolidated financial statements.

Fair Value of Financial Instruments. The carrying amounts for the Company’s cash and cash equivalents approximate their fair values at December 31, 2018 and 2017. Fair values for securities or financial instruments are based on the framework for measuring fair value established by U.S. GAAP (see Note 8 — “Fair Value Measurements”).

Stock-Based Compensation. The Company accounts for stock-based compensation under the fair value recognition provisions of U.S. GAAP which requires the measurement and recognition of compensation for all stock-based awards made to employees and directors including stock options and restricted stock issuances based on estimated fair values. In accordance with U.S. GAAP, the fair value of stock-based awards to employees is generally recognized as compensation expense over the requisite service period, which is defined as the period during which an employee is required to provide service in exchange for an award. The Company uses a straight-line attribution method for all grants that include only a service condition. The Company’s restricted stock awards include service and market conditions. As a result, restricted stock grants with market conditions are expensed over the derived service period for each separately vesting tranche. Compensation expense related to all awards is included in general and administrative personnel expenses. The Company receives a windfall tax benefit for certain stock option exercises during the period of exercise and for restricted stock awards if these awards vest at a higher value than the value used to recognize compensation expense. In the event the restricted stock awards vest at a lower value than the value used to recognize compensation expense, the Company experiences a tax shortfall. The Company recognizes tax windfalls and shortfalls in the consolidated statement of income. Prior to January 1, 2017, the windfall tax benefit was recognized in additional paid-in-capital in the consolidated statements of stockholders’ equity whereas the shortfall was charged to additional paid-in-capital to the extent of the Company’s pool of windfall tax benefits with any remainder recognized in income tax expense. For 2016, all shortfall amounts were charged to additional paid-in-capital with no additional income tax expense recognized for these shortfalls.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Basic and diluted earnings (loss) per common share.    Basic earnings (loss) per common share is computed by dividing net income (loss) attributable to common stockholders by the weighted-average number of common shares outstanding for the period. U.S. GAAP requires the inclusion of restricted stock as participating securities since holders of the Company’s restricted stock have the right to share in dividends, if declared, equally with common stockholders. In addition, the intrinsic value of restricted stock declines when the Company experiences operating losses. As a result, holders of the Company’s restricted stock are allocated a proportional share of net income and loss determined by dividing total weighted-average shares of restricted stock by the sum of total weighted-average common shares and shares of restricted stock (the “two-class method”). Diluted earnings (loss) per common share reflect the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted as well as participating equities. During loss periods, common stock equivalents such as stock options and convertible debt are excluded from the calculation of diluted loss per share, as the inclusion would have an anti-dilutive effect. See Note 19 — “Earnings Per Share” for potentially dilutive securities at December 31, 2018, 2017 and 2016.

Statutory Accounting Practices. The Company’s U.S. insurance subsidiaries comply with statutory accounting practices prescribed by the National Association of Insurance Commissioners. There are no state prescribed or permitted practices that have been adopted by the Company’s U.S. subsidiaries. In addition, the Company’s Bermuda insurance subsidiary prepares and files financial statements in accordance with the prescribed regulatory accounting practices of the Bermuda Monetary Authority.

Reclassifications. Certain reclassifications of prior year amounts have been made to conform to the current year presentation. For example, certain payroll-related costs such as share-based compensation expense, payroll taxes and employee benefits, which were previously reported in other operating expenses totaling $7,163 for the year ended December 31, 2016 were reclassified to general and administrative personnel expenses to conform with the 2018 and 2017 presentation.

Note 3 — Recent Accounting Pronouncements

Accounting Standards Update No. 2018-13. In August 2018, the FASB issued Accounting Standards Update No. 2018-13 (“ASU 2018-13”), Fair Value Measurement (Topic 820): Disclosure Framework, which removes, modifies and adds certain disclosure requirements about recurring and nonrecurring fair value measurements. ASU 2018-13 is effective for the Company beginning with the first quarter of 2020. Early adoption is permitted. This guidance will impact the Company’s future fair value disclosures in the notes to the consolidated financial statements.

Accounting Standard to be Adopted in Fiscal Year 2019

In February 2016, the FASB issued Accounting Standards Update No. 2016-02 (“ASU 2016-02”), Leases (Topic 842). The guidance establishes new principles that lessees and lessors will apply to report useful information to users of financial statements about the amount, timing, and uncertainty of cash flows arising from a lease. ASU 2016-02 supersedes accounting for leases prescribed in Topic 840, Leases. ASU 2016-02 leaves lessor accounting substantially unchanged. The key change affecting the Company is the requirement that operating leases be recorded on the balance sheet. The Company was initially required to use a modified retrospective method and apply this standard at the beginning of the earliest comparative period presented in the financial statements. The FASB later issued Accounting Standards Update No. 2018-11, Transition and Lessor Improvements, which provides a new alternative transition method. Under the alternative transition method, the Company is permitted to apply this standard at the beginning of the adoption period. The Company has identified lease contracts that will be affected by this standard and chosen to apply the practical expedients related to the identification and classification of leases that commenced before the effective date, initial direct cost for leases that commenced before the effective date, and the ability to use hindsight in evaluating lessee options to extend or terminate a lease. The Company has elected to use the alternative transition method. In 2019, ASU 2016-02 will result in the Company recording right-of-use assets of approximately $755 and lease liabilities of approximately $796. As such, the Company does not anticipate a material impact on its financial position.

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Note 4 — Cash, Cash Equivalents, and Restricted Cash

The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the Company’s consolidated balance sheets that sum to the total of the same such amounts shown in the consolidated statements of cash flows.

 

     December 31,  
     2018      2017  

Cash and cash equivalents

   $  239,458      $  255,884  

Restricted cash

     700        809  
  

 

 

    

 

 

 

Total

   $ 240,158      $ 256,693  
  

 

 

    

 

 

 

Restricted cash primarily represents funds held by certain states in which the Company’s insurance subsidiaries conduct business to meet regulatory requirements. In August 2018, a $109 deposit related to a mortgage loan with one regional bank was released to the Company.

Note 5 — Investments

a) Available-for-Sale Fixed-Maturity Securities

The Company holds investments in fixed-maturity securities that are classified as available-for-sale. At December 31, 2018 and 2017, the cost or amortized cost, gross unrealized gains and losses, and estimated fair value of the Company’s available-for-sale securities by security type were as follows:

 

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Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

     Cost or
Amortized
     Gross
Unrealized
     Gross
Unrealized
     Estimated
Fair
 
     Cost      Gain      Loss      Value  

As of December 31, 2018

           

U.S. Treasury and U.S. government agencies

   $ 61,979      $ 24      $ (206    $ 61,797  

Corporate bonds

     103,580        134        (1,809      101,905  

State, municipalities, and political subdivisions

     10,567        98        (3      10,662  

Exchange-traded debt

     8,426        82        (261      8,247  

Redeemable preferred stock

     118        —          (6      112  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 184,670      $ 338      $ (2,285    $ 182,723  
  

 

 

    

 

 

    

 

 

    

 

 

 

As of December 31, 2017

           

U.S. Treasury and U.S. government agencies

   $ 42,313      $ 1      $ (287    $ 42,027  

Corporate bonds

     106,897        1,110        (904      107,103  

State, municipalities, and political subdivisions

     78,954        1,816        (75      80,695  

Exchange-traded debt

     7,469        197        (7      7,659  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 235,633      $ 3,124      $ (1,273    $ 237,484  
  

 

 

    

 

 

    

 

 

    

 

 

 

Expected maturities will differ from contractual maturities as borrowers may have the right to call or prepay obligations with or without penalties. The scheduled contractual maturities of fixed-maturity securities at December 31, 2018 and 2017 are as follows:

 

     December 31,  
     2018      2017  
     Cost or      Estimated      Cost or      Estimated  
     Amortized      Fair      Amortized      Fair  
     Cost      Value      Cost      Value  

Available-for-sale

           

Due in one year or less

   $ 50,659      $ 50,574      $ 35,386      $ 35,364  

Due after one year through five years

     117,826        116,498        116,378        115,766  

Due after five years through ten years

     11,602        11,253        57,415        58,984  

Due after ten years

     4,583        4,398        26,454        27,370  
  

 

 

    

 

 

    

 

 

    

 

 

 
   $ 184,670      $ 182,723      $ 235,633      $ 237,484  
  

 

 

    

 

 

    

 

 

    

 

 

 

Sales of Available-for-Sale Fixed-Maturity Securities

Proceeds received, and the gross realized gains and losses from sales of available-for-sale fixed-maturity securities, for the years ended December 31, 2018, 2017 and 2016 were as follows:

 

            Gross
Realized
     Gross
Realized
 
     Proceeds      Gains      Losses  

Year ended December 31, 2018

   $ 81,809      $ 1,293      $ (570
  

 

 

    

 

 

    

 

 

 

Year ended December 31, 2017

   $ 31,759      $ 2,176      $ (181
  

 

 

    

 

 

    

 

 

 

Year ended December 31, 2016

   $ 40,454      $ 604      $ (79
  

 

 

    

 

 

    

 

 

 

 

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HCI GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Other-than-temporary Impairment

The Company regularly reviews its individual investment securities for other-than-temporary impairment. The Company considers various factors in determining whether each individual security is other-than-temporarily impaired, including-

 

   

the financial condition and near-term prospects of the issuer, including any specific events that may affect its operations or earnings;

 

   

the length of time and the extent to which the market value of the security has been below its cost or amortized cost;

 

   

general market conditions and industry or sector specific factors and other qualitative factors;

 

   

nonpayment by the issuer of its contractually obligated interest and principal payments; and

 

   

the Company’s intent and ability to hold the investment for a period of time sufficient to allow for the recovery of costs.

For the year ended December 31, 2018, the Company recognized $80 of impairment loss on one fixed-maturity security in the consolidated statement of income. For the year ended December 31, 2017, the Company recognized impairment losses of $428 related to the sale of four intent-to-sell fixed-maturity securities. For the year ended December 31, 2016, the Company recognized $1,565 of impairment losses on four fixed-maturity securities, representing $1,335 of additional losses recorded during the period and $230 of the net change recorded in other comprehensive income.

The following table presents a rollforward of the cumulative credit losses in other-than-temporary impairments recognized in income for available-for-sale fixed-maturity securities:

 

     2017      2016  

Balance at January 1

   $ 475      $ 111  

Credit impairments on impaired securities

     —          475  

Additional credit impairments on previously impaired securities

     —          293  

Credit impaired security fully disposed of for which there was no prior intent or requirement to sell

     (475      (385

Reduction due to increase in expected cash flows recognized over the remaining life of the previously impaired security

     —          (19
  

 

 

    

 

 

 

Balance at December 31

   $ —        $ 475  
  

 

 

    

 

 

 

There was no activity related to cumulative credit losses during 2018. During 2017, the Company sold two fixed-maturity securities with cumulative credit losses totaling $475. The decision to sell these securities before their maturity was primarily driven by the impact of the Tax Cut and Jobs Act signed into law in 2017. Of two fixed-maturity securities with credit related losses existing at January 1, 2016, one matured with full payment of principal and interest and one was sold due to uncertainties surrounding the issuer’s restructuring plan during 2016.

 

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HCI GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Securities with gross unrealized loss positions at December 31, 2018 and 2017, aggregated by investment category and length of time the individual securities have been in a continuous loss position, are as follows:

 

     Less Than Twelve
Months
     Twelve Months or
Longer
     Total  
     Gross     Estimated      Gross     Estimated      Gross     Estimated  
     Unrealized     Fair      Unrealized     Fair      Unrealized     Fair  
As of December 31, 2018    Loss     Value      Loss     Value      Loss     Value  

U.S. Treasury and U.S. government agencies

   $ (59   $  21,031      $ (147   $  35,393      $ (206   $ 56,424  

Corporate bonds

     (542     19,932        (1,267     36,682        (1,809     56,614  

State, municipalities, and political subdivisions

     (3     715        —         —          (3     715  

Exchange-traded debt

     (261     5,275        —         —          (261     5,275  

Redeemable preferred stock

     (6     112        —         —          (6     112  
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total available-for-sale securities

   $  (871   $ 47,065      $  (1,414)     $ 72,075      $  (2,285   $ 119,140  
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

At December 31, 2018, there were 82 securities in an unrealized loss position. Of these securities, 35 securities had been in an unrealized loss position for 12 months or longer.

 

     Less Than Twelve
Months
     Twelve Months or
Longer
     Total  
     Gross     Estimated      Gross     Estimated      Gross     Estimated  
     Unrealized     Fair      Unrealized     Fair      Unrealized     Fair  
As of December 31, 2017    Loss     Value      Loss     Value      Loss     Value  

U.S. Treasury and U.S. government agencies

   $ (246   $  40,587      $ (41   $ 1,938      $ (287   $ 42,525  

Corporate bonds

     (174     40,627        (730     30,563        (904     71,190  

State, municipalities, and political subdivisions

     (30     9,775        (45     2,297        (75     12,072  

Exchange-traded debt

     (6     2,481        (1     36        (7     2,517  
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total available-for-sale securities

   $ (456   $ 93,470      $  (817)     $ 34,834      $  (1,273)     $ 128,304  
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

At December 31, 2017, there were 77 securities in an unrealized loss position. Of these securities, 15 securities had been in an unrealized loss position for 12 months or longer.

 

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HCI GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

b) Equity Securities

The Company holds investments in equity securities measured at fair values which are readily determinable. At December 31, 2018 and 2017, the cost, gross unrealized gains and losses, and estimated fair value of the Company’s equity securities were as follows:

 

            Gross
Unrealized
     Gross
Unrealized
     Estimated
Fair
 
     Cost      Gain      Loss      Value  

December 31, 2018

   $  45,671      $  1,059      $ (5,587    $  41,143  

December 31, 2017

   $ 54,282      $ 6,383      $ (709    $ 59,956  

The table below presents the portion of unrealized gains and losses in the Company’s consolidated statement of income for the periods related to equity securities still held.

 

     Year  
     Ended  
     December 31,  
     2018  

Net losses recognized

   $ (4,811

Less: Net realized gains recognized for securities sold

     5,391  
  

 

 

 

Net unrealized losses recognized*

   $ (10,202
  

 

 

 

 

*

Unrealized holding gains and losses for the comparative years in 2017 and 2016 were reported in accumulated other comprehensive income. See Adoption of New Accounting Standards in Note 2 — “Summary of Significant Accounting Policies” for additional information.

 

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HCI GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

Sales of Equity Securities

Proceeds received, and the gross realized gains and losses from sales of equity securities, for the years ended December 31, 2018 and 2017 were as follows:

 

            Gross
Realized
     Gross
Realized
 
     Proceeds      Gains      Losses  

Year ended December 31, 2018

   $ 66,439      $ 7,324      $ (1,933
  

 

 

    

 

 

    

 

 

 

Year ended December 31, 2017

   $ 45,282      $ 3,993      $ (1,642
  

 

 

    

 

 

    

 

 

 

Year ended December 31, 2016

   $ 23,127      $ 2,656      $ (580
  

 

 

    

 

 

    

 

 

 

Other-than-temporary Impairment before 2018

Prior to the adoption of ASU 2016-01 as described in Note 2 — “Summary of Significant Accounting Policies,” equity securities classified as available-for-sale were evaluated for other-than-temporary impairment. When the impairment existed, an impairment loss was recognized in the consolidated statement of income. For the years ended December 31, 2017 and 2016, the Company recognized impairment losses of $1,039 and $917, respectively, related to available-for-sale equity securities.

c) Limited Partnership Investments

The Company has interests in limited partnerships that are not registered or readily tradeable on a securities exchange. These partnerships are private equity funds managed by general partners who make decisions with regard to financial policies and operations. As such, the Company is not the primary beneficiary and does not consolidate these partnerships. In February 2018, the Company entered into a subscription agreement to invest $5,000 with a limited partnership specializing in real estate private equity funds and portfolios. Subsequently, in September 2018, the Company increased its aggregate investment commitment with this limited partnership to $10,000. The following table provides information related to the Company’s investments in limited partnerships:

 

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HCI GROUP, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Amounts in thousands, except share and per share amounts, unless otherwise stated)

 

     December 31, 2018      December 31, 2017  
     Carrying      Unfunded             Carrying      Unfunded         
Investment Strategy    Value      Balance      (%)(a)      Value      Balance      (%)(a)  

Primarily in senior secured loans and, to a limited extent, in other debt and equity securities of private U.S. lower-middle-market companies. (b)(c)(e)

   $  10,169      $ 2,577        15.37      $ 7,276      $ 5,505        15.37  

Value creation through active distressed debt investing primarily in bank loans, public and private corporate bonds, asset-backed securities, and equity securities received in connection with debt restructuring. (b)(d)(e)

     9,219        —          1.76        7,951        1,745        1.76  

High returns and long-term capital appreciation through investments in the power, utility and energy industries, and in the infrastructure sector. (b)(f)(g)

     9,023        2,329        0.18        7,509        2,512        0.18  

Value-oriented investments in less liquid and mispriced senior and junior debts of private equity-backed companies. (b)(h)(i)

     1,156        3,706        0.47        448        4,566        0.47  

Value-oriented investments in mature real estate private equity funds and portfolios globally. (b)(j)