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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
| þ | ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. |
For the fiscal year ended December 31, 2005
| o | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES ACT OF 1934. |
Commission File Number: 0-6334
ASSURANCEAMERICA CORPORATION
(Name of small business issuer in its charter)
| NEVADA | 87-0281240 | |
| (State or Other Jurisdiction of Incorporation or Organization) | (I.R.S. Employer Identification No.) | |
| 5500 Interstate North Pkwy., Suite 600, Atlanta, Georgia | 30328 | |
| (Address of Principal Executive Offices) | (Zip Code) |
Issuer’s telephone number (770) 933-8911
Securities registered under Section 12(b) of the Exchange Act: None
Securities registered under Section 12(g) of the Exchange Act: Common Stock, Par Value $0.01
Check whether the issuer is not required to file reports pursuant to Section 13 or 15(d) of
the Exchange Act. o
Check whether the issuer: (1) filed all reports required to be filed by Section 13 or 15(d) of
the Exchange Act during the past 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 þ No o
Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-B
contained in this form, and no disclosure will 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-KSB or any amendment to this Form 10-KSB. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act). Yes o No þ
The issuer’s revenues for the fiscal year ended December 31, 2005, were $37.1 million.
The aggregate market value of the voting and non-voting common equity held by persons other
than affiliates of the registrant as of March 15, 2006, was $11,942,544, based on a sale price of
$1.19 per share.
There were 51,167,321 shares of the registrant’s common stock outstanding as of December 31,
2005.
Documents Incorporated By Reference
Parts of the Registrant’s definitive proxy statement for the 2006 Annual Meeting of
Shareholders to be held on April 27, 2006 are incorporated by reference into Part III of this
report.
Transitional Small Business Disclosure Format (check one): Yes £ No R
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| EX-10.12 EXECUTIVE EMPLOYMENT AGREEMENT | ||||||||
| EX-21.1 LIST OF SUBSIDIARIES | ||||||||
| EX-31.1 SECTION 302 CERTIFICATION OF CEO | ||||||||
| EX-31.2 SECTION 302 CERTIFICATION OF CFO | ||||||||
| EX-32.1 SECTION 906 CERTIFICATION OF CEO AND CFO | ||||||||
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Forward-Looking Statements
Statements in this report that are not historical fact are forward-looking statements that are
subject to certain risks and uncertainties that could cause actual events and results to differ
materially from those discussed in this Annual Report. Without limiting the generality of the
foregoing, words such as “may,” “will,” “expect,” “believe,” “anticipate,” “intend,” “could,”
“would,” “estimate,” or “continue” or the negative, or other variations or comparable terminology
are intended to identify forward-looking statements. The risks and uncertainties include, without
limitation, uncertainties related to estimates and assumptions generally; inflation and other
changes in economic conditions (including changes in interest rates and financial markets); pricing
competition and other initiatives by competitors; ability to obtain regulatory approval for
requested rate changes and the timing thereof; legislative and regulatory developments; risks
related to the nature of the Company’s business, such as the adequacy of its reserve for loss and
loss adjustment expense; claims experience; the Company’s limited experience in the insurance
industry; ratings by industry services; catastrophe losses; reliance on key personnel; weather
conditions (including the severity and frequency of storms, hurricanes, tornadoes and hail);
changes in driving patterns and loss trends; acts of war and terrorist activities; court decisions
and trends in litigation and health care and auto repair costs; and other matters described from
time to time by the Company in this report, and other filings with the Securities and Exchange
Commission. You are cautioned not to place reliance on these forward-looking statements. In
addition, you should be aware that generally accepted accounting principles prescribe when a
company may reserve for particular risks, including litigation exposures. Accordingly, results for
a given reporting period could be significantly affected if and when a reserve is established for a
major contingency. Reported results may therefore appear to be volatile in certain accounting
periods.
PART I
Item 1. DESCRIPTION OF BUSINESS
History
AssuranceAmerica Corporation, a Nevada corporation (the “Company”), (formerly Brainworks
Ventures, Inc.) is an insurance holding company that was originally incorporated in 1969 under the
laws of the state of Utah. AssuranceAmerica Corporation, a Georgia corporation (“AssuranceAmerica
Georgia”), began the Company’s current insurance business in 1998 through its subsidiary, TrustWay
Insurance Agencies, LLC (“TrustWay”), (formerly AssetAmerica Insurance Agencies, LLC). In 1999,
the Company formed another subsidiary, AssuranceAmerica Managing General Agency LLC (“MGA”), that
until 2003 provided all of the underwriting, claims and policyholder service functions for the
Georgia nonstandard personal automobile program for Gateway Insurance Company of St. Louis,
Missouri. In late 2002, the Company formed its subsidiary AssuranceAmerica Insurance Company
(“AAIC”), a property and casualty insurance company that focuses on writing nonstandard automobile
business. MGA provides all of the underwriting, policyholder administration and claims functions
for AAIC.
On April, 1, 2003, the Company, then known as Brainworks Ventures, Inc., consummated a merger
with AssuranceAmerica Georgia. To effect the merger, AA Holdings, LLC, a Delaware limited
liability company, merged with and into AssuranceAmerica Georgia for the purpose of converting the
limited liability company into a corporation. Thereafter, pursuant to an Agreement and Plan of
Merger and Reorganization by and among the Company, AAHoldings Acquisition Sub, Inc., AAHoldings,
LLC and AssuranceAmerica Georgia, dated April 1, 2003 (the “Merger Agreement”), the shareholders of
AssuranceAmerica Georgia exchanged an aggregate of 19,508,902 shares of AssuranceAmerica Georgia
common stock, no par value, on a 1-for-1 basis, for shares of common stock, $0.01 par value, per
share, of the Company (“Company Common Stock”). Due to an insufficient number of authorized shares
of Company Common Stock, the shareholders of AssuranceAmerica Georgia continued to hold an
aggregate of 23,241,098 shares of series A convertible preferred stock, no par value, of
AssuranceAmerica Georgia (“AssuranceAmerica Georgia Preferred
Stock”), which stock, pursuant to the
terms of the Merger Agreement, was converted into shares of Company Common Stock, when the
authorized number of shares of Company Common Stock was increased to a number sufficient to
exchange each share of AssuranceAmerica Georgia Preferred Stock for one share of Company Common
Stock. Upon conversion, the former shareholders of AssuranceAmerica Georgia held a total of
42,790,000 shares of Company Common Stock. Such conversion occurred simultaneously with the
increase in the number of authorized shares of Company Common Stock. A special meeting of the
shareholders of the Company was held on June 26, 2003, to vote upon a proposal to increase the
number of authorized shares of Company Common Stock to permit such conversion of the
AssuranceAmerica Preferred Stock. The proposal was approved by the Company’s shareholders. The
Merger Agreement also effected a change in the executive officers of the Company and a majority
change in the Board of Directors of the Company. As a result of the merger, the Company ceased its
historical business in order to focus upon the insurance business of AssuranceAmerica Georgia.
Who We Are
We are a holding company which, through our wholly-owned insurance company, managing general
agency, and retail agency network, underwrites and distributes non-standard personal automobile
insurance products to individuals, primarily in the southeastern United States. Non-standard
personal automobile insurance is usually provided to insureds who are unable to obtain standard
insurance coverage because of their payment history, driving record, age, vehicle type, or other
factors. These policies generally require higher premiums than standard policies for comparable
coverage. We offer products in five states, including Georgia, South Carolina, Florida (through an
agreement with an unaffiliated insurer), Texas and Alabama.
We began our current insurance business in 1998 through the acquisition of a series of retail
insurance agencies located in Florida now known as TrustWay. In 1999, we organized MGA, which
initially provided all of the underwriting, claims and policyholder service functions
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for the
Georgia non-standard personal automobile program for an unaffiliated insurance company. In late 2002,
we organized AAIC, which began underwriting nonstandard personal automobile policies in April 2003
and currently writes business in Georgia, South Carolina, Texas and Alabama.
Our Business
We currently have three revenue producing operating subsidiaries, the combination of which we
believe is vital to generating consistent profitability throughout the insurance cycle: AAIC, MGA
and TrustWay. AAIC and MGA constitute what we refer to as our wholesale operations, while TrustWay
constitutes what we refer to as our retail operations. We believe that this structure allows us to
manage our growth strategies and respond to changing market conditions more effectively than if we
were only a risk-bearing enterprise or only a distribution platform.
The following chart depicts our organizational structure and principal affiliates.
AAIC is a property and casualty insurance company domiciled in South Carolina that focuses on
writing nonstandard automobile business in Georgia, South Carolina, Texas and Alabama. It is also
licensed to underwrite business in Mississippi, West Virginia, Florida and Arkansas and has an
application pending in Louisiana. We expect AAIC to begin writing business in two to four new
states each year for the next several years, provided that the underwriting environment remains
positive and the capital and surplus of AAIC supports such growth. AAIC reinsures 70% of its gross
written premiums to two insurers rated A- or better by A.M. Best.
MGA markets AAIC’s policies through more than 1,000 independent insurance agencies in Georgia,
South Carolina, Texas and Alabama. MGA provides all of the underwriting, accounting, product
management, legal, policyholder administration and claims functions for AAIC and for an
unaffiliated insurer that in 2005 retained the non-standard automobile insurance policies produced
by MGA in Florida. MGA receives commissions and other administrative fees from AAIC and the
unaffiliated insurance company based on the amount of gross premiums produced for each respective
company. Additionally, MGA receives various fees related to insurance transactions that vary
according to state insurance laws and regulations.
TrustWay is comprised of 50 retail insurance agencies with 45 locations in Florida and 5
locations in Georgia. TrustWay has been appointed by six to ten (may vary by state or office)
unaffiliated insurance carriers and AAIC, and primarily sells non-standard personal automobile
insurance and related products and services. TrustWay receives commissions and various fees
associated with the sale of the products and services from its appointing insurance carriers. Our
primary method of advertising for TrustWay is through targeted yellow page advertisements.
Our Industry
Personal auto insurance is the largest line of property and casualty insurance in the United
States. In 2004, this market was estimated to be $163.4 billion by National Underwriter Insurance
Data Services. Personal auto insurance provides coverage to drivers for liability to others for
both bodily injury and property damage and for physical damage to an insured’s vehicle from
collision and other perils. Personal auto insurance is comprised of preferred, standard and
non-standard risks. Non-standard insurance is intended for drivers who, due to their driving
record, age, vehicle type, payment history or other factors represent a higher than normal risk.
As a result, customers that purchase non-standard auto insurance generally pay higher premiums for
similar coverage than drivers who qualify for standard or preferred policies.
While there is no established industry-recognized demarcation between non-standard policies
and all other personal auto policies, we believe that non-standard auto risks or specialty auto
risks generally constitute approximately 20% of the overall personal automobile insurance market,
with the exact percentage fluctuating according to competitive conditions in the market.
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The personal auto insurance industry is cyclical, characterized by periods of price
competition and excess capacity followed by periods of high premium rates and shortages of
underwriting capacity. When underwriting standards for preferred and standard companies become
more restrictive, more insureds seek non-standard coverage and the size of the non-standard market
increases.
Our Products
Our non-standard insurance products provide customers with coverage for the minimum required
statutory limits for bodily injury and property damage liability arising out of the operation of a
motor vehicle. We also offer insurance coverage that affords protection for collision and physical
damage to the insureds’ motor vehicles, bodily injury and property damage caused by uninsured
motorists, medical payments, towing and labor, and accidental death and dismemberment.
Target Market
The typical purchaser of non-standard personal automobile insurance is highly sensitive to
price and payment terms, but generally insensitive to insurer ratings. AAIC is not rated by A.M.
Best. Our insureds typically purchase insurance from AAIC or one of its competitors because of a
lack of other coverage options, and will switch to a standard provider when able. Generally, the
resulting customer non-renewals have historically been more than offset by new customers entering
our markets.
Our market has a significant Hispanic component. We have not done any targeted marketing to
reach the Hispanic population, but we plan to apply resources toward this in the future. This
market demographic is prominent in the southeast and, as of December 31, 2005, represents
approximately 20% of our policies in-force. Policies purchased by Hispanic insureds have
represented an approximately 5% better loss ratio for us than the remainder of the policies.
Wholesale Operations
Our wholesale operations are divided into four primary functional areas: Claims, Underwriting
and Customer Service, Information Technology, and Product Development and Management.
Claims
Our Claims Division follows a “tough but fair” claims approach. AAIC seeks to pay the claims
it owes in a fast, fair manner and strives to have the lowest cycle time (the period of time from
the initial claim report to settlement) in the industry. The non-standard personal automobile
insurance market experiences a higher level of fraudulent or inflated claims than the standard or
preferred market. Our Claims Division takes a hard stance on the claims AAIC does not owe and
works to develop a reputation as a carrier which will aggressively fight such inflated or
fraudulent claims. In order to accomplish these objectives, the Claims Division seeks the highest
caliber associate, paying above prevailing market rates in order to attract and retain experienced
professionals in every area of the Claims Division. We do not utilize outside claims adjusters.
All claims are assigned to experienced claims personnel and the files are directed immediately
to handling adjusters to reduce cycle time. The Claims Division operates with a new claims
reporting capability 24 hours a day, 7 days a week. The Claims Division is organized into four
units to provide specialized file handling capability.
We make an effort to keep the file pending levels for our adjusters at below industry
standards to reduce errors. All adjuster authority levels are determined based on the experience
of the particular adjuster. We have a formalized reserving process and an auditor who reports
directly to the Vice President of Claims and conducts monthly file audits. We also conduct a
monthly reserve reconciliation process and a complete quarterly review of every pending file.
The Claims Division is in the process of installing a new web-based claims system which is
expected to create gains in productivity by streamlining the claims processes, to provide a
competitive advantage by utilizing immediate, real time data for evaluation purposes and allowing
the exchange of information with fraud fighting agencies.
Underwriting and Customer Service
The Underwriting and Customer Service Division consists of 30 associates. Fifteen are
dedicated to Customer Service, with the remainder in our Mail/Operations area. A number of the
Customer Services associates are bilingual, and work predominately on a Spanish call line providing
service to our Spanish-speaking agents and insureds.
We emphasize the use of automation wherever possible to minimize costs. We have a phone
messaging system that telephones policyholders to remind them of payments due and of pending
cancellations. We send agents copies of policyholder notices electronically instead of mailing
them and agents can make payments and process their own policy changes online, reducing the time
spent by customer service performing these activities.
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Product Development and Management
The Product Development and Management Division designs and prices each insurance product we
offer, assists in the introduction of each new product to the agency force, monitors each product,
and recommends rate changes, policy payment plans, new insurance coverages and variables. This
division uses our data warehouse to analyze and follow each product from the point of sale through
termination and claims settlement, if any. We perform a market analysis for each new state prior to
expanding operations. As part of the analysis, we review statistical studies, analyze required
forms and coverages, and analyze rate and competitive environment studies. After reviewing this
data, we prioritize potential expansion states.
Information Technology
The Information Technology Division is comprised of developers, quality assurance associates,
data analysts, managers and infrastructure associates. This division is responsible for the
management of the information technology functions of MGA and AAIC, and also advises TrustWay on
its information technology functions.
Our primary application is our policy tracking system (PTS), which was designed for the
non-standard automobile insurance industry. This software application is an end-to-end, enterprise
wide, real-time, web-based management system. PTS manages and increases efficiencies among the
most critical functions and throughout our entire organization.
By utilizing internet technologies, PTS provides a method to sell, quote, issue and manage
policies from any location. PTS centralizes information and is designed to reduce workload, errors
and costs associated with tracking and managing an insurance policy. It allows for control of user
access to the database and opens communication channels through all levels of the organization.
This system allows for the quoting, binding, initial premium collection, and printing of
declarations pages, policies, endorsements and insurance ID cards at the point of sale at the
agent’s office. Prior to the implementation of PTS, these tasks were performed at the back end of
the transaction at our offices and mailed to the agent or customer.
PTS is designed to be scalable and is expected to be capable of handling millions of policies.
This allows PTS to grow as our business grows. Additional lines of insurance may be added as
needed. The agreement with the vendor of this software package allows us access to the source code
and the ability to develop derivatives and advance the product to meet business demands and react
to changing market conditions.
We have contracted with Sunguard Availability Services for our disaster recovery services,
which include critical applications, voice systems and data recovery.
Retail Operations
Our entry into the insurance industry in January 1998 was through the acquisition of 33 retail
agencies in Florida. We reduced the number of locations over time to 26, and have since acquired
several additional insurance agencies. All of the retail operations currently operate under the
TrustWay brand or as a division of TrustWay and consist of 50 independent non-standard automobile
insurance agencies located in Florida (45) and Georgia (5).
TrustWay represents approximately six to ten carriers depending upon state or office.
We expect to grow the number of agency locations through the opening of additional offices,
selected acquisitions, and increasing the average premium volume per location through improved
marketing and retention efforts.
Reinsurance
In the normal course of business, AAIC seeks to reduce its overall risk levels by obtaining
reinsurance from reinsurers. Reinsurance contracts do not relieve AAIC from its obligations to
policyholders in the event that a reinsurer is unable to make its payments to AAIC. The Company
periodically reviews the financial condition of its reinsurers to minimize its exposure to losses
from reinsurer insolvencies. AAIC cedes 70% of its gross written premium to two A- or better A.M.
Best rated insurers under a quota share reinsurance agreement.
Reserves
AAIC establishes reserves for its estimated liability for unpaid losses and loss adjustment
expenses on an individual case basis for all reported incidents. The reserve includes amounts for
uncollected expenses, anticipated future claim development and losses incurred but not reported
(based upon actuarial analysis of historical data). The Claims Department has formalized the
initial (and adjustments) reserving process and conducts file audits, monthly reserve
reconciliation and a quarterly review of every pending file. Additionally, the reserves for loss
and loss adjustment expenses are reviewed quarterly by a consulting actuarial firm.
State Insurance Licenses
AAIC, MGA and TrustWay operate under licenses issued by various insurance authorities.
Certain employees must be licensed as insurance agents or adjusters in any state where they perform
a function requiring licensure. These licenses may be of perpetual duration or renewable
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periodically, provided the holder continues to meet applicable regulatory requirements. The
licenses govern the kinds of insurance that may be written in the issuing state and the other
services that may be provided. Such licenses are normally issued only after the filing of an
appropriate application and the satisfaction of prescribed criteria. All licenses that are
material to our businesses are in good standing.
SUPERVISION AND REGULATION
Insurance companies are generally subject to regulation and supervision by insurance
departments of the jurisdiction in which they are domiciled or licensed to transact business. The
nature and extent of such regulation and supervision varies from jurisdiction to jurisdiction.
Generally, an insurance company is subject to a higher degree of regulation and supervision in its
state of domicile. State insurance departments have broad administrative power relating to
licensing insurers and agents, regulating premium charges and policy forms, establishing reserve
requirements, prescribing statutory accounting methods and the form and content of statutory
financial reports, and regulating the type and amount of investments permitted. Rate regulation
varies from “file and use” to prior approval to mandated rates.
Insurance departments are charged with the responsibility of ensuring that insurance companies
maintain adequate capital and surplus and comply with a variety of operational standards.
Insurance companies are generally required to file detailed annual and other reports with the
insurance department of each jurisdiction in which they conduct business. Insurance departments
are authorized to make periodic and other examinations of regulated insurers’ financial condition
and operations to monitor financial stability of the insurers and to ensure adherence to statutory
accounting principles and compliance with state insurance laws and regulations.
Insurance holding company laws enacted in many jurisdictions grant to insurance authorities
the power to regulate acquisitions of insurers and certain other transactions and to require
periodic disclosure of certain information. These laws impose prior approval requirements for
transactions between regulated insurers and their affiliates and generally regulate dividend and
other distributions, including management fees, loans, and cash advances, between regulated
insurers and their affiliates.
Under state insolvency and guaranty laws, regulated insurers can be assessed or required to
contribute to state guaranty funds to cover policyholder losses resulting from the insolvency of
other insurers. Insurers are also required by many states, as a condition of doing business in the
state, to provide coverage to certain risks which are not insurable in the voluntary market. These
“assigned risk” plans generally specify the types of insurance and the level of coverage which must
be offered to such involuntary risks, as well as the allowable premium. Many states also have
involuntary market plans which hire a limited number of servicing carriers to provide insurance to
involuntary risks. These plans, through assessments, pass underwriting and administrative expenses
on to insurers that write voluntary coverages in those states.
Insurance companies are generally required by insurance regulators to maintain sufficient
surplus to support their writings. Although the ratio of writings to surplus that the regulators
will allow is a function of a number of factors, including the type of business being written, the
adequacy of the insurer’s reserves, the quality of the insurer’s assets and the identity of the
regulator, the annual net premiums that an insurer may write are generally limited in relation to
the insurer’s total policyholders’ surplus. Thus, the amount of an insurer’s surplus may, in
certain cases, limit its ability to grow its business. The National Association of Insurance
Commissioners also has developed a risk-based capital (RBC) program to enable regulators to
carry-out appropriate and timely regulatory actions relating to insurers that show signs of weak or
deteriorating financial condition. The RBC program consists of a series of dynamic surplus-related
formulas which contain a variety of factors that are applied to financial balances based on a
degree of certain risks, such as asset, credit and underwriting risks.
Many states have laws and regulations that limit an insurer’s ability to exit a market. For
example, certain states limit an automobile insurer’s ability to cancel or non-renew policies.
Furthermore, certain states prohibit an insurer from withdrawing one or more lines of business from
the state, except pursuant to a plan that is approved by the state insurance department. The state
insurance department may disapprove a plan that may lead to market disruption. Laws and
regulations that limit cancellation or non-renewal of policies and that subject program withdrawals
to prior approval requirements may restrict an insurer’s ability to exit unprofitable markets.
Regulation of insurance constantly changes as real or perceived issues and developments arise.
Some changes may be due to economic developments, such as changes in investment laws made to
recognize new investment vehicles; other changes result from such general pressures as consumer
resistance to price increases and concerns relating to insurer rating and underwriting practices
and solvency. In recent years, legislation and voter initiatives have been introduced, and in some
areas adopted, which deal with use of non-public consumer information, use of financial
responsibility and credit information in underwriting, insurance rate development, rate
determination and the ability of insurers to cancel or non-renew insurance policies, reflecting
concerns about consumer privacy, coverage, availability, prices and alleged discriminatory pricing.
In addition, from time to time, the U.S. Congress and certain federal agencies investigate the
current condition of the insurance industry to determine whether federal regulation is necessary.
In some states, the automobile insurance industry has been under pressure in past years from
regulators, legislators or special interest groups to reduce, freeze, or set rates to or at a level
that are not necessarily related to underlying costs, including initiatives to roll back automobile
and other personal lines rates. This kind of activity has affected adversely, and in the future may
affect adversely, the profitability and growth of the automobile insurance business in those
jurisdictions, and may limit the ability to increase rates to compensate for increases in costs.
Adverse legislative and regulatory activity limiting the ability to price automobile insurance
adequately, or affecting the insurance operations adversely in other ways, may occur in the future.
The impact of these regulatory changes on us cannot be predicted.
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Statutory Accounting Principles
The Company’s results are reported in accordance with accounting principles generally accepted
in the United States of America (GAAP), which differ in certain respects from amounts reported
under statutory accounting principles (SAP) prescribed by insurance regulatory authorities.
Primarily, under GAAP:
| 1. | Commissions, premium taxes and other variable costs incurred in connection with writing new and renewal business are capitalized and amortized on a pro rata basis over the period in which the related premiums are earned, rather than expensed as incurred, as required by SAP. |
| 2. | Certain assets are included in the consolidated balance sheets, but are non-admitted and charged directly against statutory surplus under SAP. These assets consist primarily of premium receivables that are outstanding over 90 days, federal deferred tax assets in excess of statutory limitations, furniture, equipment, application computer software, leasehold improvements and prepaid expenses. |
| 3. | Amounts related to ceded reinsurance, such as prepaid reinsurance premiums and reinsurance recoverables, are shown gross, rather than netted against unearned premium reserves and loss and loss adjustment expense reserves, respectively, as required by SAP. |
| 4. | Fixed-maturity securities, which are classified as available-for-sale, are reported at current market values, rather than at amortized cost, or the lower of amortized cost or market, depending on the credit quality of the specific security, as required by SAP. Equity securities are reported at quoted market values, which may differ from the NAIC market values as required by SAP. |
| 5. | Both current and deferred taxes are recognized in the income statement for GAAP, while deferred taxes are posted directly to surplus for SAP. |
Investments
The Company employs a conservative approach to investment and capital management intended to
ensure that there is sufficient capital to support all of the insurance premium that can be
profitably written. The Company’s portfolio is invested primarily in short-term and
intermediate-term, investment-grade fixed-income securities.
Competition
Non-standard personal automobile insurance consumers typically purchase the statutory minimum
limits of liability insurance required to register their vehicles. Accordingly, we believe that we
primarily compete on the basis of price, the amount of down payment required to bind coverage, and
payment terms. However, we also generally compete on the basis of consumer recognition, agency
relationships, types of coverage offered, claims handling, financial stability, customer service
and geographic availability. Because of the purchasing habits of our customers, the rate of policy
retention is poor when compared to the retention rate of standard and preferred policies. Our
success, therefore, depends in part on our ability to replace insureds that do not renew their
policies.
We currently compete with many national, regional and local writers. The insurance
underwriting and agency businesses are highly competitive. Many competitors are national in scope,
larger, and better capitalized than we are. Some competitors have broad distribution networks of
employed agents. Smaller regional insurance companies and local agents also compete vigorously at
the local level. We believe our focus on the non-standard automobile market gives us a competitive
advantage together with competitive prices, payment terms and emphasis on customer service.
Employees
As of December 31, 2005, we had 221 employees, whom we refer to as “associates,” all but eight
of whom were full-time. All non-sales associates are employed by MGA, and all sales associates are
employed by TrustWay.
Item 2. DESCRIPTION OF PROPERTY
The corporate headquarters of the Company are located at RiverEdge One, Suite 600, 5500
Interstate North Parkway, Atlanta, Georgia 30328. The Company currently leases its office space at
the RiverEdge One facility under a 12-year lease that commenced on May 1, 2003.
The Company’s agencies are all located in leased locations throughout Florida and Georgia
under short to medium term commercial leases. The Company believes these facilities to be
sufficient for its current and future needs.
Item 3. LEGAL PROCEEDINGS
The Company is not a party to any pending legal proceedings other than routine litigation that
is incidental to its business.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted for a vote of security holders during the fourth quarter of
2005.
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PART II
Item 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company Common Stock is quoted on the Over-the-Counter Bulletin Board (“OTC-BB”) under the
symbol “ASAM.OB” There is currently a very limited trading market for the Company Common Stock.
The following sets forth, for the respective periods indicated, the high and low bid prices of the
Company Common Stock in the over-the-counter market, as reported and summarized by the OTC-BB.
Such prices are based on inter-dealer bid and asked prices, without retail mark-up, mark-down,
commissions or adjustments, and may not represent actual transactions.
| BID PRICES | ||||||||
| QUARTER ENDED | HIGH | LOW | ||||||
2004 Fiscal Year: |
||||||||
March 31, 2004 |
$ | 1.15 | $ | 0.51 | ||||
June 30, 2004 |
1.60 | 0.55 | ||||||
September 30, 2004 |
1.01 | 0.55 | ||||||
December 31, 2004 |
1.01 | 0.55 | ||||||
2005 Fiscal Year: |
||||||||
March 31, 2005 |
0.95 | 0.55 | ||||||
June 30, 2005 |
0.95 | 0.64 | ||||||
September 30, 2005 |
1.01 | 0.77 | ||||||
December 31, 2005 |
1.00 | 0.75 | ||||||
The Company has never declared or paid cash dividends on the Company’s common stock and
currently intends to retain any future earnings for the operation and expansion of its business.
Any determination to pay cash dividends on the Company’s common stock will be at the discretion of
the Board of Directors of the Company and will be dependent on the Company’s financial condition,
results of operations, contractual restrictions, capital requirements, business prospects and such
other factors as the Company’s Board of Directors deems relevant. Additionally, the payment of
dividends or distributions from AAIC to the Company is restricted by the insurance laws and
regulations of South Carolina. In an event of default under the Junior Subordinated Indenture
issued by the company to AssuranceAmerica Capital Trust I, the Company may not pay any dividends on
its common stock until the default has been cured or waived.
At March 6, 2006, there were approximately 762 holders of record of the Company Common Stock.
Equity Compensation Plan Information
The following table provides information as of December 31, 2005, with respect to the
Company’s compensation plans under which equity securities are authorized for issuance:
| (a) | (b) | (c) | ||||||||||
| Number of securities | Weighted- | Number of securities remaining | ||||||||||
| to be issued upon | average | available for future issuance | ||||||||||
| exercise of | exercise price of | under equity compensation | ||||||||||
| outstanding options, | outstanding | plans (excluding securities | ||||||||||
| Plan Category | warrants and rights | options | reflected in column (a)) | |||||||||
Equity compensation plans
approved by stockholders(1) |
4,215,628 | $ | 0.97 | 586,372 | ||||||||
Equity compensation plans not
approved by stockholders |
0 | N/A | 0 | |||||||||
Total |
4,215,628 | $ | 0.97 | 586,372 | ||||||||
(1) Consists of options granted under the Company’s 2000 Stock Option Plan.
Item 6. MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Financial Condition
Investments and cash as of December 31, 2005, increased approximately $9.1 million over
investments and cash as of December 31, 2004. The increase was due in part to cash proceeds from
the sale of the Company’s (i) series A convertible preferred stock, (ii) common stock sales and
(iii) proceeds from the Trust-Preferred offering and in part to improved operating cash flows
provided from the continued growth of AAIC and TrustWay. Operating cash flows from TrustWay
include profits from agencies acquired from Thomas Cook Holding Company in August 2004 and Cannon
Insurance Agency and E&S Insurance Services in January 2005. The Company’s investments of $8.5
million are
7
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primarily in direct obligations of the U.S. Treasury as well as those securities unconditionally guaranteed as to the payment of
principal and interest by the United States government or agencies. Other investments are in
high-quality corporate and municipal bonds of Georgia-based issuers. The Company’s investment
activities are made in accordance with the Company’s Investment Policy. The objectives of the
policy are to obtain favorable after-tax returns on investments, provide competitive long-term rate
of returns on surplus and mitigate credit and liquidity risks through a diversified portfolio of
fixed income, equity and real estate holdings. The Company’s investment criteria and practices
reflect the short-term duration of its contractual obligations with policyholders and regulators.
Tax considerations include Federal and State income tax as well as premium tax abatement and credit
opportunities offered to insurance companies in the states where AAIC writes policies.
Premiums receivable as of December 31, 2005, increased $8.7 million compared to December 31,
2004. The balance represents amounts due from AAIC’s insureds and the increase is directly
attributable to the increase in AAIC’s premium writings over the past twelve months. The Company’s
policy is to write off receivable balances immediately upon cancellation or expiration of the
corresponding policy, and the Company does not consider an allowance for doubtful accounts to be
necessary.
Compared to December 31, 2004, reinsurance recoverable as of December 31, 2005, increased $4.2
million, to $14.8 million. The increase is directly related to AAIC’s continued growth. AAIC
maintains a quota-share reinsurance treaty with its reinsurers in which it cedes 70% of both
premiums and losses. The $14.8 million represents the reinsurers’ portion of losses and loss
adjustment expense, both paid and unpaid. All amounts are considered current.
Prepaid reinsurance premiums as of December 31, 2005, increased $5.9 million compared to
December 31, 2004. The increase resulted from AAIC’s continued growth, and represents premiums
ceded to its reinsurers which have not been fully earned.
Compared to December 31, 2004, property and equipment, net of depreciation, increased $0.22
million as of December 31, 2005. The majority of the increase is attributable to the purchase of
computer software and hardware at its corporate headquarters and furniture and leasehold
improvements in its agencies.
Other receivables as of December 31, 2005 increased $1.4 million to $1.7 million compared to
December 31, 2004. The balances represent TrustWay’s receivables from insurance carriers for
direct bill commissions and balances due to the MGA from insurance carriers for amounts owed in
accordance with the terms of its managing general agency agreements. The increase in TrustWay’s
receivables is directly attributable to the increase in direct bill commissions from carriers as we
transition more business from an agency bill basis to a direct bill basis. Policies issued on a
direct bill basis traditionally have higher renewal rates than policies issued on an agency bill
basis. The increase in the MGA’s receivables is directly attributable to increases in business
placed by the MGA in the state of Florida on behalf of a non-affiliated insurer.
Deferred acquisition costs increased $0.6 million to $0.8 million at December 31, 2005
compared to December 31, 2004. The increase resulted from AAIC’s continued growth. The amount
represents agents’ commissions and other variable expenses associated with acquiring the insurance
policies that are being deferred to coincide with the earnings of the related policy premiums.
Intangible assets as of December 31, 2005, increased $2.0 million to $7.4 million compared to
the balance as of December 31, 2004. This increase is directly related to the Company’s
acquisition of an insurance agency in Georgia, less amortization of identifiable intangible assets
for 2005.
Other assets as of December 31, 2005, increased $0.4 million compared to the balance as of
December 31, 2004. This balance represents unamortized debenture issuance costs for legal fees
incurred in connection with debt securities issued in December 2005. These costs are amortized on
a straight-line basis over the repayment period of the Debentures.
Accounts payable and accrued expenses as of December 31, 2005, increased $1.9 million to $4.8
million. $1.4 million of the balance represents the Company’s liability for premium taxes, an
increase of $0.4 million from December 31, 2004. The majority of the balance of the increase
represents commissions payable to the Company’s agents, accruals for associate performance
incentives and other expenses accrued but not paid.
Unearned premium as of December 31, 2005 increased $8.7 million to $16.6 million compared to
December 31, 2004, and represents premiums written but not earned. The increase is directly
attributable to the increase in AAIC’s premium writings over the last twelve months.
Unpaid losses and loss adjustment expenses increased $4.5 million to $15.1 million as of
December 31, 2005 compared to December 31, 2004. This amount represents management estimates of
future amounts needed to pay claims and related expenses and the increase correlates with the
increase in AAIC’s writings and anticipated future losses.
Reinsurance payable as of December 31, 2005 increased $5.3 million to $10.2 million compared
to the balance at December 31, 2004. The amount represents premiums owed to the Company’s
reinsurers. AAIC maintains a quota-share reinsurance treaty with its reinsurers in which it cedes
70% of both premiums and losses. The increase is directly attributable to the increase in AAIC’s
premium writings over the last twelve months.
Provisional commission reserves represent the difference between our minimum ceding
commission and the provisional amount paid by the reinsurers. These balances as of December 31,
2005 increased $0.6 million, compared to the balance at December 31, 2004. The increase is
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related to increases in AAIC writings.
Long term debt owed to related parties as of December 31, 2005, decreased approximately $1.8
million to $5.6 million compared to December 31, 2004. The change results from payments of $2.3
million applied toward interest and principal balances payable on the promissory notes, less
interest accrued in the current period, to the Company’s Chairman, its CEO and the owner of a
Georgia agency acquired in 2004.
On December 22, 2005, the Company, through a newly-formed Delaware statutory trust,
AssuranceAmerica Capital Trust I (the “Trust”), a wholly-owned subsidiary of the Company,
consummated the private placement of 5000 of the Trust’s floating rate Capital Securities,
with a liquidation amount of $1,000 per capital security (the “Capital Securities”). In connection
with the Trust’s issuance and sale of the Capital Securities, the Company purchased from the Trust
155 of the Trust’s floating rate common securities, with a liquidation amount of $1,000 per
common security (the “Common Securities”). The Trust used the proceeds from the issuance and sale
of the Capital Securities and the Common Securities to purchase $5,155,000 in aggregate principal
amount of the floating rate junior subordinated debentures of the Company (the “Debentures”).
These Debentures are classified as debt and are presented net of discount to be amortized over the
life of the Debentures on the Company’s statements of financial position. The interest paid and
accrued on these Debentures is classified as interest expense in the consolidated statements of
operations.
Liquidity and Capital Resources
Net cash provided by operating activities for the twelve months ended December 31, 2005, was
$2.7 million compared to net cash provided by operating activities of $1.7 for the same period of
2004.
Investing activities for the twelve month period ended December 31, 2005 consisted of the
purchase of leasehold improvements, property and equipment in the amount of $0.7 million in our
headquarters and in TrustWay locations and the purchases of investments in compliance with various
Departments of Insurance requirements for issuance of Certificates of Authority and general
investment policies of the Company.
Financing activities for the twelve month period ended December 31, 2005 included the issuance
of preferred and common stock resulting in additional capital of $4.7 million. Dividends were paid
to preferred shareholders during the period in the amount of $0.5 million. Debt repayments for the
twelve month period ending December 31, 2005 were $1.8 million. The Company received net proceeds
of $4.8 million in connection with issuance of new debt securities in connection with the creation
of the Trust.
The Company’s liquidity and capital needs have been met in the past through premium,
commission and fee income, loans from its Chairman and Chief Executive Officer of the Company and
the President of TrustWay and issuance of its series A convertible preferred stock, common stock
and debt securities. The Company’s related party debt consists of unsecured promissory notes
payable to its Chairman, its Chief Executive Officer and a Senior Vice President of the Company.
The promissory notes carry an interest rate of 8% per annum and provide for the repayment of
principal on an annual basis. During the first quarter of 2005, the Company issued 40,000 shares
of its series A convertible preferred stock for an aggregate consideration of $0.2 million. During
the second quarter of 2005, the Company issued 800,000 shares of its series A convertible preferred
stock for an aggregate consideration of $4.0 million. The series A convertible stock pays a
semi-annual dividend of $0.20 per share. During the fourth quarter of 2005, the Company issued
669,821 shares of its common stock for an aggregate consideration of $435,000. On December 22,
2005, the Company, through a newly-formed Delaware statutory trust, AssuranceAmerica Capital Trust
I (the “Trust”), consummated the private placement of 5000 of the Trust’s floating rate
Capital Securities, with a liquidation amount of $1,000 per capital security (the “Capital
Securities”). In connection with the Trust’s issuance and sale of the Capital Securities, the
Company purchased from the Trust 155 of the Trust’s floating rate Common Securities, with a
liquidation amount of $1,000 per common security (the “Common Securities”). The Trust used the
proceeds from the issuance and sale of the Capital Securities and the Common Securities to purchase
$5,155,000 in aggregate principal amount of the floating rate junior subordinated debentures of the
Company (the “Debentures”). The Capital Securities mature on December 31, 2035, but may be
redeemed at par beginning December 31, 2010 if and to the extent the Company exercises its right to
redeem the Debentures. The Capital Securities require quarterly distributions by the Trust to the
holders of the Capital Securities, at a floating rate of three-month LIBOR plus 5.75% per annum,
reset quarterly. Distributions are cumulative and will accrue from the date of original issuance
but may be deferred for a period of up to 20 consecutive quarterly interest payment periods if the
Company exercises its right under the Indenture to defer the payment of interest on the Debentures.
The growth of the Company has and will continue to strain its liquidity and capital resources.
AAIC is required by the state of South Carolina to maintain minimum capital and surplus of $3.0
million. As of December 31, 2005, AAIC’s capital and surplus was $7.7 million.
Results of Operations
The Company reported net income of $2.3 million for the twelve month period ended December 31,
2005, compared to a net loss of $0.05 million for the twelve month period ended December 31, 2004.
The Company reported basic earnings per common share of $0.036 for the twelve month period ended
December 31, 2005, compared to $(0.003) for the twelve month period ended December 31, 2004 .
Fully diluted earnings per common share for the twelve month period ended December 31, 2005 was
$0.029, compared to $(0.003) for the twelve month period ended December 31, 2004.
Contributing factors towards the Company’s 2005 improved results include increases in earned
premium in AAIC and related increases in fee income; improved loss and loss adjustment expenses
(“Loss Ratio”) in AAIC, from 73.5% in 2004 to 69.1% in 2005; and increases in commission and fee
income in the MGA and TrustWay. Fee income improvements in the MGA reflect fees associated with
increased premium production in AAIC in the states of Georgia, South Carolina and Alabama and fees
associated with entry into the state of Florida through an
9
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unaffiliated insurance company. Commission and fee income improvements in TrustWay are representative of increases
in organic agency production as well as the added commission income streams from the two Georgia
acquisitions in August 2004 and January 2005.
Revenues
Premiums
Gross premiums written for the twelve month period ended December 31, 2005 were $50.5 million.
In the comparable period for 2004, AAIC recorded $30.6 million in gross premiums written. 2005
gross premiums written includes insurance premiums written directly by AAIC, “direct premiums
written,” of $50.3 million plus $0.2 million premiums associated with the insurance risk
transferred to AAIC by an unaffiliated insurance company pursuant to a reinsurance contract,
“assumed premiums written.” There were no assumed premiums written in 2004. The majority of our
growth occurred in our largest state, Georgia, which represented 73.9% of our direct business and
accounted for $13.1 million of the $19.8 million increase. Policies in force increased 114% in the
state of Georgia from December 31, 2004 to December 31, 2005. Direct premiums written in South
Carolina increased 62.8% in 2005 from the prior year with a 19% increase in policies in force from
December 31, 2004 to December 31, 2005. In addition, entry into the state of Alabama during 2005
accounted for $2.5 million of the year-over-year increase in direct premiums written in AAIC. AAIC cedes approximately 70% of its direct premiums written to its reinsurers and the amount
ceded for the twelve months ended December 31, 2005, was $34.3 million.
Premiums written refers to the total amount of premiums billed to the policyholder less the
amount of premiums returned, generally as a result of cancellations, during a given period.
Premiums written become premiums earned as the policy ages. Barring premium rate changes, if an
insurance company writes the same mix of business each year, premiums written and premiums earned
will be equal and the unearned premium reserve will remain constant. During periods of growth in
premiums written, the unearned premium reserve will increase, causing premiums earned to be less
than premiums written. Conversely, during periods of decline in premiums written, the unearned
premium reserve will decrease, causing premiums earned to be greater than premiums written. The
Company’s net earned premium, after deducting reinsurance, was $13.4 million for the twelve month
period ended December 31, 2005 and compares to $9.0 million for 2004.
Commission and Fee Income
Our MGA and TrustWay produce and service non-standard personal automobile insurance business
for AAIC and other insurers. We receive service fees for agency, underwriting, policy
administration, and claims adjusting services performed on behalf of these insurers. We also
receive commission and service fee income in TrustWay on other insurance products produced for
unaffiliated insurance companies on which we do not bear underwriting risk. Commission rates vary
between carriers and are applied to written premium to determine commission income.
Commission income, as a result of business produced in both TrustWay and the MGA, for the
twelve month period ended December 31, 2005 increased $5.9 million to $16.8 million compared to the
same period ended December 31, 2004. AAIC pays MGA commission on the 30% of premium which AAIC
retains and is subsequently eliminated upon consolidation. The amount eliminated was $3.8 million
for the twelve month period ended December 31, 2005.
Managing general agent fees for the twelve month period ended December 31, 2005 were $5.9
million, or an increase of $2.5 million when compared to the same period of 2004. Increases in the
number of policies sold are the largest contributing factor.
Other fee income decreased $0.1 million for the twelve month period ended December 31, 2005
compared to the same period in 2004. TrustWay collects fees for various services performed and for
additional products sold to insureds. As TrustWay has begun to write more direct bill policies,
increasing policy renewals and related commissions, fee income is reduced.
Net Investment Income
Our investment portfolio is generally highly liquid and consists substantially of readily
marketable, investment-grade debt securities. Net investment income is primarily comprised of
interest earned on these securities, net of related investment expenses. Net investment income
increased to $0.3 million in 2005 from $0.03 million in 2004 primarily as a result of an increase
in average invested assets. During 2005, we contributed $3.1 million of proceeds from the sale of
preferred stock and common stock to AAIC. The proceeds from these capital contributions, coupled
with the cash flows from our insurance operations resulted in the significant increase in average
invested assets.
Expenses
Insurance Loss and Loss Adjustment Expenses
Insurance losses and loss adjustment expenses include payments made to settle claims,
estimates for future claim payments and changes in those estimates for current and prior periods,
as well as loss adjustment expenses incurred in connection with settling claims. Insurance losses
and loss adjustment expenses are influenced by many factors, such as claims frequency and severity
trends, the impact of changes in estimates for prior accident years, and increases in the cost of
medical treatment and automobile repairs. The anticipated impact of inflation is considered when
we establish our premium rates and set loss reserves. We perform an actuarial analysis each
quarter and establish or adjust (for prior accident quarters) reserves, based upon our estimate of
the ultimate incurred losses and loss adjustment expenses to reflect loss development information
and trends that have been updated for the most recent quarter’s activity. Each quarter our
estimate of ultimate loss and loss
10
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adjustment expenses is evaluated by accident quarter, by state and by major coverage grouping (e.g., bodily injury, physical
damage) and changes in estimates are reflected in the period the additional information becomes
known.
We have historically used reinsurance to manage our exposure to loss by ceding a portion of
our gross losses and loss adjustment expenses to reinsurers. We remain obligated for amounts
covered by reinsurance, however, in the event that the reinsurers do not meet their obligations
under the agreements (due to, for example, disputes with the reinsurer or the reinsurer’s
insolvency). The Company cedes approximately 70% of its direct loss and loss adjustment expenses
incurred to its reinsurers and the amount ceded for the twelve months ended December 31, 2005, was
$21.6 million.
After making deductions for the effect of reinsurance, losses and loss adjustment expenses
were $9.3 million for the twelve month period ended December 31, 2005. As a percentage of earned
premiums, this amount decreased for the twelve month period ended December 31, 2005, from 73.5% to
69.1%, when compared with the same period in 2004. The amount represents actual payments made and
changes in estimated future payments to be made to or on behalf of its policyholders, including the
expenses associated with settling claims.
Other Expenses
Other operating expenses, including selling and general and administrative increased $7.7
million for the twelve month period ended December 31, 2005 when compared to the same period of
2004. This increase is associated with the growth of AAIC and related operations. AAIC and MGA
experience proportionate increases in selling costs as the premiums written increase. TrustWay’s
increased costs reflect the operating expenses of the acquired agencies. These acquisitions were
made in August 2004 and January 2005. As a percentage of revenue, selling and general and
administrative expenses decreased during 2005 from 68.9% to 65.6%. This improvement reflects
improved economies of scale and operating leverage of the Company’s growth. Depreciation and
amortization expense increased $0.3 million for the twelve month period ended December 31, 2005
when compared to the same period of 2004. This increase is associated with the increase in fixed
and intangible assets.
Item 7. FINANCIAL STATEMENTS
The Company’s consolidated financial statements (see “Index to Financial Statements”) for the
fiscal year ended December 31, 2005, as well as the fiscal year ended December 31, 2004, together
with the notes, have been audited by the independent accounting firm of Miller Ray Houser &
Stewart, LLP, whose opinion is included in this Report beginning at page F-1.
Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
During the fiscal year ended December 31, 2005, there was no disagreement with the Company’s
accountants on any matter of accounting principles or practices or financial statement disclosure
required to be disclosed pursuant to Item 304 of Regulation S-B.
Item 8A. CONTROLS AND PROCEDURES
As of the end of the period covered by this Annual Report on Form 10-KSB, the Company’s Chief
Executive Officer and its Chief Financial Officer carried out an evaluation of the effectiveness of
the design and operation of the Company’s disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) promulgated under the Securities Exchange Act of 1934 (the “Exchange
Act”)). Based upon that evaluation, the Company’s Chief Executive Officer and Chief Financial
Officer have concluded that the Company’s disclosure controls and procedures are effective to
ensure that information required to be disclosed by the Company in the reports that it files or
submits under the Exchange Act is accumulated and communicated to the Company’s management,
including its principal executive officer and principal financial officer, as appropriate to allow
timely decisions regarding required disclosure and are effective to ensure that such information is
recorded, processed, summarized and reported within the time periods specified in the Securities
and Exchange Commission’s rules and forms. There were no significant changes in the Company’s
internal controls or in other factors that could significantly affect those controls subsequent to
the date of their evaluation.
Item 8B. OTHER INFORMATION
None
PART III
Item 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTORS AND CONTROL PERSONS; COMPLIANCE WITH SECTION
16(a) OF THE EXCHANGE ACT
Except for information regarding executive officers, all information required to be disclosed
in Item 9 is incorporated by reference from the Company’s Proxy Statement for the Annual Meeting of
Shareholders to be held on April 27, 2006 (“Proxy Statement”).
Executive Officers
The following table sets forth the name, age and position of each of our executive officers.
11
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| Name | Age | Positions Held | ||||
Guy W. Millner
|
70 | Chairman | ||||
Lawrence (Bud) Stumbaugh
|
65 | President and Chief Executive Officer | ||||
Renee A. Pinczes
|
43 | Chief Financial Officer and Senior Vice President | ||||
Mark H. Hain
|
56 | Senior Vice President, General Counsel and Secretary | ||||
Joseph J. Skruck
|
41 | President, AssuranceAmerica Managing General Agency, LLC (a subsidiary of the Company) | ||||
James C. Cook
|
41 | Senior Vice President — Corporate Development | ||||
Elise Quadrozzi
|
45 | Vice President — Claims and Underwriting | ||||
David Anthony
|
46 | Vice President — Information Technology | ||||
Scott Nelson
|
38 | Vice President — Product Development | ||||
Biographies of Executive Officers
Guy W. Millner has served as the Chairman of the Board since June 2003. Mr. Millner served as
Chairman of AA Holdings, LLC, the predecessor of AssuranceAmerica Corporation, a Georgia
corporation, from 1999 to 2003. From 1961 to 1999, Mr. Millner served as Chairman of Norrell
Corporation, a leading provider of staffing and outsourcing solutions.
Lawrence (Bud) Stumbaugh has served as the President and Chief Executive Officer and on the
Board of Directors since June 2003. He served as President and Chief Executive Officer of AA
Holdings, LLC from 1998 to 2003. Prior to joining AA Holdings, LLC, Mr. Stumbaugh was President
and Chief Executive Officer of Lawmark International Corporation.
Renee A. Pinczes has served as our Chief Financial Officer and Senior Vice President since
March 2005. She served as Secretary from the period of March 2005 through August 2005. Prior to
joining the Company, she spent seven years with PRG-Schultz International as Vice
President-Operations and Vice President-Strategic Planning and Analysis. Mrs. Pinczes served as
Vice President, CFO and COO with the Jamison Insurance Group and as Corporate Finance Officer of
Consolidated International Insurance Group.
Mark H. Hain has served as Senior Vice President, General Counsel and Secretary since August
2005. Prior to joining the Company, Mr. Hain was in private practice of law for two years and was
General Counsel for Computer Jobs.com, Inc. for two years. He served as Senior Vice President and
General Counsel for Norrell Corporation form 1988 to 1999, and as General Counsel for American First
Corporation, C.L. Frates, Inc. and the Oklahoma Insurance Department prior to 1988.
Joseph J. (Joe) Skruck has served as the President and Chief Operating Officer of
AssuranceAmerica Managing General Agency, LLC, an insurance subsidiary of the Company since
January 2002. He served as Senior Vice-President of Sun States Insurance Group from 1998 through
2001.
James C. (Jim) Cook is the Senior Vice President, Corporate Development, of the Company and is
responsible for acquisitions for the TrustWay Agency Group. Mr. Cook served as President of
TrustWay from August 2004 to November 2005. Prior to joining the Company in 2004, he was President
and Founder of InsuranceMarket, an agency formed in 1995, and acquired by TrustWay in July 2004.
Elise A. Quadrozzi, CPCU, AIC, joined the Company in 2003 and serves as Vice President of
Claims and Underwriting for the Company. She has an insurance career spanning over 21 years. She
has held several senior level management positions, most recently as Director of Accident
Management with AKZO Nobel Coatings Inc. from 2001 until she joined the Company.
David H. Anthony joined the Company as Vice President of Information Technology in March 2004.
Mr. Anthony has 23 years of experience in the Information Technology industry with the last 12
focused in the area of consulting. Prior to joining the Company, he served as Vice President of
CGI Information Systems and Management Consultants for four years.
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Scott M. Nelson is the Vice President of Product Development for the Company. Prior to
joining the Company in 2004, Mr. Nelson served as Assistant Vice-President, Product Management, for
five years for Answer Financial in Encino, CA. Prior to Answer Financial, he managed several
states for Windsor Insurance Company, a leading writer of non-standard auto insurance.
Item 10. EXECUTIVE COMPENSATION
All information required to be disclosed in Item 10 is incorporated by reference from the
Company’s Proxy Statement.
Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER
MATTERS
All information required to be disclosed in Item 11 is incorporated by reference from the
Company’s Proxy Statement.
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
All information required to be disclosed in Item 12 is incorporated by reference from the
Company’s Proxy Statement.
Item 13. EXHIBITS
(A) EXHIBITS
2.1
|
Agreement and Plan of Merger and Reorganization dated April 1, 2003, by and among the Company, AA Holdings Acquisition Sub, Inc., AA Holdings, LLC and AssuranceAmerica Corporation (incorporated by reference to Exhibit 2.1 to the Company’s Current Report on Form 8-K filed on April 16, 2003). | |
2.2
|
Asset Purchase Agreement by and between Trustway Insurance Agencies, LLC, AssuranceAmerica Corporation, Thomas-Cook Holding Company and James C. Cook (incorporated by reference to Exhibit 2.1 to the Company’s Current Report on Form 8-K dated August 3, 2004). | |
3.1
|
Amended And Restated Articles of Incorporation of the Company (incorporated by reference to Exhibit 3.1 to the Company’s Quarterly Report on Form 10-QSB for the quarter ended September 30, 2003). | |
3.2
|
Amendment to Amended and Restated Articles of Incorporation of the Company (incorporated by reference to Appendix A to the Company’s Definitive Proxy Statement filed on September 9, 2003). | |
3.3
|
By-Laws of the Company (incorporated by reference to the Company’s Form 10 filed on May 30, 1972). | |
3.4
|
Amendment to the Company’s By-Laws adopted February 14, 2001 (incorporated by reference to Exhibit 3ii to the Company’s Quarterly Report on Form 10-QSB for the quarter ended December 31, 2000). | |
3.5
|
Amendment to the Company’s By-Laws adopted June 26, 2003 (incorporated by reference to Exhibit 3.4 to the Company’s Annual Report on Form 10-KSB/A for the year ended March 31, 2003). | |
3.6
|
Amendment to the Company’s By-Laws adopted June 15, 2004 (incorporated by reference to Exhibit 3.6 to the Company’s Annual Report on Form 10-KSB/A for the year ended December 31, 2004). | |
4.1
|
Certificate of Designations Establishing the Powers, Preferences, limitations, Restrictions and Relative Rights of Series A Convertible Preferred Stock of AssuranceAmerica Corporation (incorporated by reference to Exhibit 4.1 to the Company’s Quarterly Report on Form 10-QSB for the quarter ended June 30, 2004). | |
4.2
|
Amendment to Certificate of Designations Establishing the Powers, Preferences, Limitations, Restrictions and Relative Rights of Series A Convertible Preferred Stock of AssuranceAmerica Corporation (incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed on April 15, 2005). | |
4.3
|
Amended and Restated Trust Agreement dated December 22, 2005 (incorporated by reference to Exhibit 4.1 to the Company’s Form 8-K filed on December 27, 2005). | |
4.4
|
Junior Subordinated Indenture dated December 22, 2005 (incorporated by reference to Exhibit 4.2 to the Company’s Form 8-K filed on December 27, 2005). | |
10.1
|
Brainworks Ventures, Inc. Stock Option Plan (incorporated by reference to Exhibit A to the Company’s Definitive Proxy Statement |
13
Table of Contents
| filed on October 20, 2000). | ||
10.2
|
Promissory Note assumed by the Company to Guy W. Millner dated February 10, 2003 (incorporated by reference to Exhibit 10.2 to the Company’s Form 10-KSB/A for the year ending December 31, 2004). | |
10.3
|
Promissory Note assumed by the Company to Lawrence Stumbaugh dated January 3, 2003 (incorporated by reference to Exhibit 10.3 to the Company’s Form 10-KSB/A for the year ending December 31, 2004). | |
10.4
|
Promissory Note assumed by the Company to Guy W. Millner dated August 31, 2002 (incorporated by reference to Exhibit 10.4 to the Company’s Form 10-KSB/A for the year ending December 31, 2004). | |
10.5
|
Employment Agreement between Agencies and James C. Cook dated July 31, 2004 (incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K dated August 3, 2003). | |
10.6
|
Executive Employment Agreement between AssuranceAmerica General Agency, LLC and Joseph J. Skruck (incorporated by reference to Exhibit 10.1 to the Company’s current report on Form 8-K dated March 8, 2006). | |
10.7
|
Stock Purchase Agreement (incorporated by reference to Exhibit 10.1 to the Company’s Form 8-K filed on April 15, 2005). | |
10.8
|
Amendment to Stock Purchase Agreement (incorporated by reference to Exhibit 10.1 to the Company’s Form 8-K filed on May 10, 2005). | |
10.9
|
Registration Rights Agreement (incorporated by reference to Exhibit 10.2 to the Company’s Form 8-K filed on April 15, 2005). | |
10.10
|
Description of Executive Bonus Plan (incorporated by reference to Exhibit 10.1 of the Company’s Form 10-QSB for the quarter ended June 30, 2005). | |
10.11
|
Guarantee Agreement dated December 22, 2005 (incorporated by reference to Exhibit 10.2 to the Company’s Form 8-K filed on December 27, 2005). | |
10.12
|
Executive Employment Agreement between Sercap Holdings, LLC and Lawrence Stumbaugh effective July 10, 2002 and assumed by the Company effective April 1, 2003. | |
14.1
|
Code of Conduct (incorporated by reference to Exhibit 14.1 to the Company’s Transition Report on Form 10-KSB for the transition period from April 1, 2003 to December 31, 2003). | |
21.1
|
List of Subsidiaries | |
31.1
|
Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
31.2
|
Certification of Controller Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
32.1
|
Certification of Chief Executive Officer and Controller Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
All information required to be disclosed in Item 14 is incorporated by reference from the
Company’s Proxy Statement.
14
Table of Contents
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as
amended, the Registrant has caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
| REGISTRANT: | ||||
| ASSURANCEAMERICA CORPORATION | ||||
Date: March 29, 2006
|
By: | /s/ Lawrence Stumbaugh | ||
| Lawrence Stumbaugh, Chief Executive Officer | ||||
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the Registrant and in the capacities and on the
dates indicated.
| Name | Title | Date | ||
/s/ Lawrence Stumbaugh
|
Chief Executive Officer and Director (Principal Executive Officer) |
Date: March 29, 2006 | ||
/s/ Renée A. Pinczes
|
Chief Financial Officer (Principal Financial and Accounting Officer) |
Date: March 29, 2006 | ||
/s/ Guy W. Millner
|
Chairman of the Board of Directors | Date: March 29, 2006 | ||
/s/ Donald Ratajczak
|
Director | Date: March 29, 2006 | ||
/s/ Quill O. Healey
|
Director | Date: March 29, 2006 | ||
/s/ John E. Cay , III
|
Director | Date: March 29, 2006 | ||
/s/ Kaaren J. Street
|
Director | Date: March 29, 2006 | ||
/s/ Sam Zamarripa
|
Director | Date: March 29, 2006 | ||
/s/ John Ray
|
Director | Date: March 29, 2006 |
15
ASSURANCEAMERICA CORPORATION AND SUBSIDIARIES
Index to Financial Statements
| PAGE | ||
| F-2 | ||
| F-3 | ||
| F-4 | ||
| F-5 | ||
| F-6 | ||
| F-7 |
16
Table of Contents
Report
of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
AssuranceAmerica Corporation
AssuranceAmerica Corporation
We have audited the accompanying consolidated balance sheets of AssuranceAmerica Corporation (a
Nevada corporation) and subsidiaries as of December 31, 2005 and 2004, and the related consolidated
statements of operations, stockholders’ equity and cash flows for the years then ended. These
financial statements are the responsibility of the company’s management. Our responsibility is to
express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The company is not required to have, nor were we engaged to
perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control
over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for
the purpose of expressing an opinion on the effectiveness of the
company’s internal control over financial reporting.
Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles
used and significant estimates
made by management, as well as evaluating the overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all
material respects, the financial position of AssuranceAmerica Corporation and subsidiaries as of
December 31, 2005 and 2004, and the results of their operations and their cash flows for the years
then ended in conformity with accounting principles generally accepted in the United States of
America.
Miller Ray Houser & Stewart LLP
Atlanta, Georgia
March 8, 2006
Atlanta, Georgia
March 8, 2006
F-2
Table of Contents
ASSURANCEAMERICA CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
| December 31, | December 31, | |||||||
| 2005 | 2004 | |||||||
Assets |
||||||||
Cash and cash equivalents |
$ | 8,668,827 | $ | 7,059,188 | ||||
Short term investments |
120,000 | 400,000 | ||||||
Long term investments |
8,419,835 | 599,808 | ||||||
Investment income due and accrued |
81,150 | 734 | ||||||
Receivable from insured |
13,821,477 | 5,170,840 | ||||||
Reinsurance recoverable (including $4,213,187 and $3,084,838 on paid losses) |
14,790,099 | 10,543,775 | ||||||
Prepaid reinsurance premiums |
11,211,270 | 5,291,830 | ||||||
Deferred acquisition costs |
798,539 | 224,842 | ||||||
Property and equipment (net of accumulated depreciation of $1,606,200 and $1,094,131) |
1,400,667 | 1,185,081 | ||||||
Other receivables |
1,674,184 | 276,460 | ||||||
Prepaid expenses |
161,415 | 52,260 | ||||||
Intangibles (net of accumulated amortization of $1,398,244 and $1,198,396) |
7,359,850 | 5,399,789 | ||||||
Security deposits |
75,072 | 89,158 | ||||||
Other assets |
378,758 | — | ||||||
Total assets |
$ | 68,961,143 | $ | 36,293,765 | ||||
Liabilities and Stockholders’ Equity |
||||||||
Accounts payable and accrued expenses |
$ | 4,802,223 | $ | 2,904,640 | ||||
Unearned premium |
16,574,473 | 7,833,189 | ||||||
Unpaid losses and loss adjustment expenses |
15,109,874 | 10,655,625 | ||||||
Reinsurance payable |
10,238,081 | 4,936,933 | ||||||
Provisional commission reserve |
1,704,379 | 1,060,883 | ||||||
Debt, related party |
5,568,535 | 7,376,279 | ||||||
Debentures payable |
4,800,185 | — | ||||||
Capital lease obligations |
220,155 | 265,545 | ||||||
Total liabilities |
59,017,905 | 35,033,094 | ||||||
Stockholders’ equity |
||||||||
Common stock, .01 par value (authorized 80,000,000, outstanding 51,167,321 and 46,577,090) |
511,673 | 465,771 | ||||||
Preferred
stock, .01 par value (authorized 5,000,000, outstanding 1,266,000 and 426,000) |
12,660 | 4,260 | ||||||
Surplus-paid in |
15,678,015 | 8,872,943 | ||||||
Accumulated deficit |
(6,259,110 | ) | (8,082,303 | ) | ||||
Total stockholders’ equity |
9,943,238 | 1,260,671 | ||||||
Total liabilities and stockholders’ equity |
$ | 68,961,143 | $ | 36,293,765 | ||||
See accompanying notes and report of independent accountants.
F-3
Table of Contents
ASSURANCEAMERICA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
| For the years ended December 31, | 2005 | 2004 | ||||||
Revenue: |
||||||||
Gross premiums written |
$ | 50,519,371 | $ | 30,556,941 | ||||
Ceded premiums written |
(34,300,556 | ) | (20,783,807 | ) | ||||
Net premiums written |
16,218,815 | 9,773,134 | ||||||
Increase in unearned premiums, net of prepaid reinsurance premiums |
(2,821,844 | ) | (727,968 | ) | ||||
Net premiums earned |
13,396,971 | 9,045,166 | ||||||
Commission income |
16,844,593 | 10,921,633 | ||||||
Managing general agent fees |
5,881,026 | 3,341,575 | ||||||
Net investment income |
253,765 | 30,709 | ||||||
Other fee income |
739,129 | 848,314 | ||||||
Total revenue |
37,115,484 | 24,187,397 | ||||||
Expenses: |
||||||||
Losses and loss adjustment expenses |
9,255,625 | 6,648,912 | ||||||
Selling, general, and administrative |
24,347,233 | 16,666,175 | ||||||
Depreciation and amortization expense |
612,160 | 339,993 | ||||||
Interest expense |
570,873 | 580,615 | ||||||
Total operating expenses |
34,785,891 | 24,235,695 | ||||||
Income (loss) before provision for income tax expense |
2,329,593 | (48,298 | ) | |||||
Income tax provision |
— | — | ||||||
Net income (loss) |
2,329,593 | (48,298 | ) | |||||
Dividends on preferred stock |
506,400 | 85,200 | ||||||
Net income (loss) attributable to common stockholders |
$ | 1,823,193 | $ | (133,498 | ) | |||
Earnings per common share |
||||||||
Basic |
0.036 | (0.003 | ) | |||||
Diluted |
0.029 | (0.003 | ) | |||||
Weighted average shares outstanding-basic |
50,247,505 | 45,771,315 | ||||||
Weighted average shares outstanding-diluted |
63,516,605 | 45,771,315 | ||||||
See accompanying notes and report of independent accountants.
F-4
Table of Contents
ASSURANCEAMERICA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
For the years ended December 31, 2005 and 2004
| Common | Preferred | Paid in | Accumulated | |||||||||||||||||
| Stock | Stock | Capital | Deficit | Total | ||||||||||||||||
Balance, December 31, 2003
|
$ | 452,111 | $ | — | $ | 6,118,644 | $ | (7,948,805 | ) | $ | (1,378,050 | ) | ||||||||
Stock issued
|
13,660 | 4,260 | 2,781,829 | — | 2,799,749 | |||||||||||||||
Stock issuance expenses
|
— | — | (27,530 | ) | — | (27,530 | ) | |||||||||||||
Preferred dividends paid
|
— | — | — | (85,200 | ) | (85,200 | ) | |||||||||||||
Net loss
|
— | — | — | (48,298 | ) | (48,298 | ) | |||||||||||||
Balance, December 31, 2004
|
465,771 | 4,260 | 8,872,943 | (8,082,303 | ) | 1,260,671 | ||||||||||||||
Stock issued
|
45,902 | 8,400 | 6,866,778 | — | 6,921,080 | |||||||||||||||
Stock issuance expenses
|
— | — | (61,706 | ) | — | (61,706 | ) | |||||||||||||
Preferred dividends paid
|
— | — | — | (506,400 | ) | (506,400 | ) | |||||||||||||
Net income
|
— | — | — | 2,329,593 | 2,329,593 | |||||||||||||||
Balance, December 31, 2005
|
$ | 511,673 | $ | 12,660 | $ | 15,678,015 | $ | (6,259,110 | ) | $ | 9,943,238 | |||||||||
See accompanying notes and report of independent accountants.
F-5
Table of Contents
ASSURANCEAMERICA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 2005 and 2004
| 2005 | 2004 | |||||||
Cash flows from operating activities: |
||||||||
Net income (loss) |
$ | 2,329,593 | $ | (48,298 | ) | |||
Adjustments to reconcile net income (loss) to net cash provided by operating activities: |
||||||||
Depreciation and amortization |
612,160 | 339,993 | ||||||
Loss on disposal of property and equipment |
47,453 | — | ||||||
Changes in assets and liabilities: |
||||||||
Receivables |
(10,048,361 | ) | (1,080,805 | ) | ||||
Prepaid expenses and other assets |
(473,827 | ) | 68,566 | |||||
Unearned premiums |
8,741,284 | 1,971,598 | ||||||
Unpaid loss and loss adjustment expenses |
4,454,249 | 6,156,473 | ||||||
Ceded reinsurance payable |
5,301,148 | 1,057,593 | ||||||
Reinsurance recoverable |
(4,246,324 | ) | (5,904,149 | ) | ||||
Prepaid reinsurance premiums |
(5,919,440 | ) | (1,243,629 | ) | ||||
Accounts payable and accrued expenses |
1,897,584 | 405,788 | ||||||
Deferred acquisition costs |
(573,697 | ) | (100,337 | ) | ||||
Provisional commission reserve |
643,496 | 53,550 | ||||||
Net cash provided by operating activities |
2,765,318 | 1,676,343 | ||||||
Cash flows from investing activities: |
||||||||
Purchases of property and equipment, net |
(675,261 | ) | (199,464 | ) | ||||
Purchase of investments and accrued investment income |
(7,620,443 | ) | (699,808 | ) | ||||
Acquisition of agency |
— | (462,000 | ) | |||||
Net cash used by investing activities |
(8,295,704 | ) | (1,361,272 | ) | ||||
Cash flows from financing activities: |
||||||||
Repayments of related party debt |
(1,807,744 | ) | (706,379 | ) | ||||
Proceeds from debentures issuance, net |
4,800,185 | — | ||||||
Preferred dividends paid |
(506,400 | ) | (85,200 | ) | ||||
Repayments on capital lease obligations |
(45,390 | ) | (32,077 | ) | ||||
Stock issued |
4,699,374 | 2,112,220 | ||||||
Net cash provided by financing activities |
7,140,025 | 1,288,564 | ||||||
Net increase in cash and cash equivalents |
1,609,639 | 1,603,635 | ||||||
Cash and cash equivalents, beginning of period |
7,059,188 | 5,455,553 | ||||||
Cash and cash equivalents, end of period |
$ | 8,668,827 | $ | 7,059,188 | ||||
See note 14 for supplemental cash flow information.
See accompanying notes and report of independent accountants.
F-6
Table of Contents
ASSURANCEAMERICA CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2005 and 2004
(1) Description of Business
AssuranceAmerica Corporation, a Nevada corporation (the “Company”) is an insurance holding
company comprised of AssuranceAmerica Insurance Company (“AAIC”), AssuranceAmerica Managing
General Agency, LLC (“MGA”), TrustWay Insurance Agencies, LLC (“TrustWay”) and AssuranceAmerica
Capital Trust I, each wholly-owned. The Company solicits and underwrites nonstandard private
passenger automobile insurance. The Company is headquartered in Atlanta, Georgia.
(2) Summary of Significant Accounting Policies
Basis of Consolidation and Presentation
The accompanying consolidated financial statements include the accounts and operations of the
Company. All material intercompany accounts and transactions have been eliminated. The
consolidated financial statements have been prepared in conformity with generally accepted
accounting principles (GAAP). The preparation of the financial statements in conformity with
GAAP requires management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Such estimates and assumptions could change in
the future as more information becomes known that could impact the amounts reported and the
actual results could differ from these estimates.
Estimates
The preparation of the consolidated financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that affect the
reported financial statement balances as well as the disclosure of contingent assets and
liabilities. Actual results could differ materially from those estimates used.
The Company’s liability for unpaid losses and loss adjustment expenses (an estimate of the
ultimate cost to settle claims both reported and unreported), although supported by actuarial
projections and other data, is ultimately based on management’s reasoned expectations of future
events. Although considerable variability is inherent in these estimates, management believes
that this liability is adequate. Estimates are reviewed regularly and adjusted as necessary.
Such adjustments are reflected in current operations.
In addition, the realization of the Company’s deferred income tax assets is dependent on
generating sufficient future taxable income. It is reasonably possible that the expectations
associated with these accounts could change in the near term and that the effect of such changes
could be material to the consolidated financial statements.
Recognition of Revenues
Insurance premiums are recognized pro rata over the terms of the policies. The unearned portion
of premiums is included in the Consolidated Balance Sheet as a liability for unearned premium.
Commission income is recognized in the period the insurance policy is written and is reduced by
an estimate of future cancellations. Installment and other fees are recognized in the periods
the services are rendered.
Fair Value of Financial Instruments
The carrying amounts of the Company’s financial instruments, including cash and cash equivalents,
accounts receivable, accounts payable, and accrued liabilities, approximate fair value because of
their short maturities. The carrying amounts of the Company’s capital lease obligations
approximate fair value because of these obligations based upon management’s best estimates of
interest rates that would be available for similar debt obligations as of December 31, 2005 and
2004.
Deferred Acquisition Costs
Deferred acquisition costs (“DAC”) include premium taxes and commissions incurred in connection
with the production of new and renewal business, less ceding commissions allowed by reinsurers.
These costs are deferred and amortized over the period in which the related premiums are earned.
The Company does not consider anticipated investment income in determining the recoverability of
these costs. Based on current indications, management believes that these costs will be fully
recoverable and, accordingly, no reduction in DAC has been recognized.
Contingencies
In the normal course of business, the Company is named as a defendant in lawsuits related to
claims and other insurance policy issues.
F-7
Table of Contents
Some
of the actions request extra-contractual and/or punitive damages. These actions are vigorously
defended unless a reasonable settlement appears appropriate. In the opinion of management, the
ultimate outcome of litigation is not expected to be material to the Company’s financial
condition, results of operations, or cash flows.
Start-Up Costs
Start-up costs are expensed when incurred.
Cash and Cash Equivalents
Cash and cash equivalents include cash demand deposits, money market accounts and bank
certificates of deposit with a maturity of less than three months.
Leased Property Under Capital Lease
Leased property under a capital lease is recorded as a capital asset and amortized on a
straight-line basis over the estimated useful life of the property. The property and the related
lease obligation are disclosed on the balance sheet.
Property and Equipment
Property and equipment is recorded at cost and depreciated on a straight-line basis. The
estimated useful lives used for depreciation purposes are: Furniture and fixtures – 5 to 7 years;
equipment – 3 to 5 years; software currently in service – 3 to 5 years; leasehold improvements –
over the remaining life of the lease, including options. Improvements, additions and major
renewals which extend the life of an asset are capitalized. Repairs are expensed in the year
incurred. Depreciation expense was $412,312 and $239,160 for the twelve months ended December
31, 2005 and 2004, respectively.
A summary of property and equipment is as follows:
| December 31, 2005 | December 31, 2004 | |||||||
Furniture and equipment |
$ | 886,837 | $ | 349,854 | ||||
Computer equipment |
1,097,942 | 1,026,394 | ||||||
Computer software |
477,524 | 432,285 | ||||||
Leasehold improvements |
544,564 | 470,679 | ||||||
Less: accumulated depreciation |
(1,606,200 | ) | (1,094,131 | ) | ||||
| $ | 1,400,667 | $ | 1,185,081 | |||||
Amortization of Intangible Assets
Intangible assets consist of non-competition agreements, renewal lists, restrictive covenants and
goodwill. Intangible assets are stated at cost. Effective January 1, 2002, the Company adopted
the Financial Accounting Standards Board’s (“FASB”) Statement of Financial Accounting Standards
(“SFAS”) No. 142, “Goodwill and Other Intangible Assets.” SFAS requires that goodwill and
certain intangibles with indefinite lives no longer be amortized, but instead tested for
impairment at least annually. The non-competition agreements were amortized on a straight-line
basis varying from 2 1/2 years to 5 years. Amortization expense was $199,848 and $100,833 for
the twelve months ended December 31, 2005 and 2004, respectively.
Intangible Assets include the following:
| 2005 | 2004 | |||||||
Goodwill |
$ | 6,388,094 | $ | 5,108,185 | ||||
Non-compete clause |
980,000 | 610,000 | ||||||
Renewal list |
1,170,000 | 660,000 | ||||||
Restrictive covenants |
220,000 | 220,000 | ||||||
| 8,758,094 | 6,598,185 | |||||||
Less: Accumulated amortization |
(1,398,244 | ) | (1,198,396 | ) | ||||
| $ | 7,359,850 | $ | 5,399,789 | |||||
The estimated aggregate amortization expense for each of the succeeding five fiscal years is:
2006 |
$ | 246,175 | ||
2007 |
$ | 246,175 | ||
2008 |
$ | 246,175 | ||
2009 |
$ | 201,360 | ||
2010 |
$ | 168,786 |
F-8
Table of Contents
Based upon its most recent analysis, the Company believes that no impairment of goodwill exists
at December 31, 2005 or December 31, 2004.
Advertising
Advertising costs are expensed as incurred. Advertising expense for the years ended December 31,
2005 and 2004 was $790,789 and $787,307, respectively.
Stock Options
The Company has adopted SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”).
The provisions of SFAS 123 allow companies to either expense the estimated fair value of stock
options awarded or to continue to follow the intrinsic value method set forth in Accounting
Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB No.
25), but disclose the pro forma effects on net income had the fair value of the options been
expensed. The Company has elected to apply APB No. 25 in accounting for its stock option plan,
including stock awards to non-employee directors. The disclosure provisions required by SFAS No
123 are provided in Note 8.
(3) Investments
All of the Company’s investment securities have been classified as available-for-sale because all
of the Company’s securities are available to be sold in response to the Company’s liquidity
needs, changes in market interest rates and asset-liability management strategies, among other
reasons. Investments available-for-sale are stated at fair value on the balance sheet.
Unrealized gains and losses are excluded from earnings and are reported as a component of other
comprehensive income within shareholders’ equity, net of related deferred income taxes.
A decline in the fair value of an available-for-sale security below cost that is deemed other
than temporary results in a charge to income, resulting in the establishment of a new cost basis
for the security. For the years ended December 31, 2005 and December 31, 2004, there were no
unrealized losses.
Premiums and discounts are amortized or accreted, respectively, over the life of the related
fixed maturity security as an adjustment to yield using a method that approximates the effective
interest method. Dividends and interest income are recognized when earned. Realized gains and
losses are included in earnings and are derived using the specific-identification method for
determining the cost of securities sold.
At December 31, 2005, investments carried at market value of $1,263,537 and cash of approximately
$395,211 were pledged by one of the Company’s subsidiaries under requirements of regulatory
authorities.
A summary of investments is as follows as of:
| December 31, 2005 | December 31, 2004 | |||||||
Short term bank certificates of deposit |
$ | 120,000 | $ | 400,000 | ||||
U.S. Treasury securities and obligations of U.S. government corporations and agencies |
6,300,740 | 599,808 | ||||||
Obligations of states and political subdivisions |
528,915 | — | ||||||
Corporate debt securities |
1,590,179 | — | ||||||
Total |
$ | 8,539,835 | $ | 999,808 | ||||
The amortized cost and fair value of debt securities available-for-sale at December 31, 2005,
by contractual maturity, is shown below:
| Years to Maturity | Amortized Cost | Fair Value | ||||||
One year or less |
$ | 772,841 | $ | 764,113 | ||||
After one year through five years |
2,504,323 | 2,510,043 | ||||||
After five years through ten years
|
1,052,487 | 1,050,994 | ||||||
After ten years
|
4,090,185 | 4,089,251 | ||||||
Total |
$ | 8,419,836 | $ | 8,414,401 | ||||
(4) Losses and Loss Adjustment Expenses
The estimated liabilities for losses and loss adjustment expenses (“LAE”) include the
accumulation of estimates for losses for claims reported prior to the balance sheet dates (“case
reserves”), estimates (based upon actuarial analysis of historical data) of losses for claims
incurred but not reported and for the development of case reserves to ultimate values, and
estimates of expenses for investigating, adjusting and settling all incurred claims. Amounts
reported are estimates of the ultimate costs of settlement, net of estimated salvage and
subrogation. These estimated liabilities are subject to the outcome of future events, such as
changes in medical and repair costs as well as
F-9
Table of Contents
economic and social
conditions that impact the settlement of claims. Management believes that, given the inherent variability in any
such estimates, the aggregate reserves are within a reasonable and acceptable range of adequacy.
The methods of making such estimates and for establishing the resulting reserves are reviewed and
updated quarterly and any resulting adjustments are reflected in current operations.
A summary of unpaid losses and loss adjustment expenses, net of reinsurance ceded, is as follows:
| December 31, 2005 | December 31, 2004 | |||||||
Case basis |
$ | 1,784,824 | $ | 1,650,429 | ||||
IBNR |
2,748,138 | 1,546,259 | ||||||
Total |
$ | 4,532,962 | $ | 3,196,688 | ||||
Activity in the liability for unpaid claims and claim adjustment expenses is summarized as
follows:
| 2005 | 2004 | |||||||
Balance at January 1 |
$ | 10,655,625 | $ | 4,499,152 | ||||
Less reinsurance recoverables on unpaid losses |
7,458,937 | 3,149,408 | ||||||
Net balance at January 1 |
3,196,688 | 1,349,744 | ||||||
Add Losses and LAE incurred, net, related to: |
||||||||
Current year |
9,669,325 | 6,824,530 | ||||||
Prior years |
(412,184 | ) | (178,041 | ) | ||||
Net Losses and LAE incurred in the current year |
9,257,141 | 6,646,489 | ||||||
Deduct Losses and LAE paid, net, related to: |
||||||||
Current year |
5,880,003 | 4,002,926 | ||||||
Prior years |
2,040,864 | 796,619 | ||||||
Net claim payments in the current year |
7,920,867 | 4,799,545 | ||||||
Net balance at December 31 |
4,532,962 | 3,196,688 | ||||||
Plus reinsurance recoverables on unpaid losses |
10,576,912 | 7,458,937 | ||||||
Balance at December 31 |
$ | 15,109,874 | $ | 10,655,625 | ||||
The majority of the Company’s net claim payments related to accidents occurring in the current
accident year. As a result of changes in estimates of insured events in prior years, the claims
and claim adjustment expenses incurred (net of reinsurance recoveries of $21,562,293 and
$15,509,149 in 2005 and 2004, respectively) decreased by $0.4 million in 2005 reflecting lower
than anticipated losses.
(5) Reinsurance
In the normal course of business, the Company seeks to reduce its overall risk levels by
obtaining reinsurance from other insurance enterprises or reinsurers. Reinsurance premiums and
reserves on 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.
Reinsurance contracts do not relieve the Company from its obligations to policyholders. The
Company periodically reviews the financial condition of its reinsurers to minimize its exposure
to losses from reinsurer insolvencies.
Reinsurance assets include balances due from other insurance companies under the terms of
reinsurance agreements. Amounts applicable to ceded unearned premiums, ceded loss payments and
ceded claims liabilities are reported as assets in the accompanying balance sheets. The Company
believes the fair value of its reinsurance recoverables approximates their carrying amounts.
The impact of reinsurance on the statements of operations for the period ended December 31 is as
follows:
| 2005 | 2004 | |||||||
Premiums written: |
||||||||
Direct |
$ | 50,309,013 | $ | 30,556,941 | ||||
Assumed |
210,358 | — | ||||||
Ceded |
34,300,556 | 20,783,807 | ||||||
Net |
16,218,815 | 9,773,134 | ||||||
Premiums earned: |
||||||||
Direct |
41,699,701 | 28,585,344 | ||||||
Assumed |
78,386 | — | ||||||
Ceded |
28,381,116 | 19,540,178 | ||||||
Net |
13,396,971 | 9,045,165 | ||||||
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Table of Contents
| 2005 | 2004 | |||||||
Losses and loss adjustment expenses incurred: |
||||||||
Direct |
$ | 30,811,072 | $ | 22,158,061 | ||||
Assumed |
6,846 | — | ||||||
Ceded |
21,562,293 | 15,509,149 | ||||||
Net |
$ | 9,255,625 | $ | 6,648,912 | ||||
The impact of reinsurance on the balance sheets as of December 31 is as follows:
Unpaid losses and loss adjustment expense: |
||||||||
Direct |
$ | 15,109,874 | $ | 10,655,627 | ||||
Assumed |
— | — | ||||||
Ceded |
10,576,912 | 7,458,939 | ||||||
Net |
4,532,962 | 3,196,688 | ||||||
Unearned premiums: |
||||||||
Direct |
16,442,501 | 7,833,189 | ||||||
Assumed |
131,972 | — | ||||||
Ceded |
11,211,270 | 5,291,830 | ||||||
Net |
$ | 5,363,203 | $ | 2,541,359 | ||||
The Company received $8,918,145 in commissions on premiums ceded during 2005. Had all of the
Company’s reinsurance agreements been cancelled at December 31, 2005, the Company would have
returned $2,914,930 in reinsurance commissions to its reinsurers and its reinsurers would have
returned $11,211,270 in unearned premiums to the Company.
Contingent Reinsurance Commission and Provisional Commission Reserve
The Company’s reinsurance contract provides ceding commissions for premiums written which are
subject to adjustment. The amount of ceding commissions, net of adjustments, is determined by
the loss experience for the reinsurance agreement term. The reinsurers provide commissions on a
sliding scale with maximum and minimum achievable levels. The reinsurers pay the Company with
the provisional commissions, before adjustment. The Company adjusts the commissions based on the
current loss experience for the policy year premiums. This results in establishing a liability
for the excess of provisional commissions retained compared to amounts recognized, which is
subject to variation until the ultimate loss experience is determinable.
The total liability for excess provisional commissions received as of December 31, 2005 by
policy year is:
| Policy Year | Amount | |||
2003 |
$ | 171,715 | ||
2004 |
569,633 | |||
2005 |
963,031 | |||
Total |
$ | 1,704,379 | ||
(6) Long-Term Debt
Notes Payable, Related Party
The Company has various notes payable to related parties totaling to $5,568,535 at December 31,
2005. The Company’s Notes Payable debt consists primarily of unsecured promissory notes payable
to its Chairman and its Chief Executive Officer. The promissory notes provide for the repayment
of principal beginning in December 2004 in an amount equal to the greater of $1.1 million or an
amount equal to 25% of the Company’s net income after tax, plus non-cash items, less working
capital. However, the promissory notes also permit the Company to postpone any and all payments
under the promissory notes without obtaining the consent of, and without giving notice or paying
additional consideration. As a result of the acquisition of a Georgia insurance agency in 2004,
the Company also has an unsecured promissory note payable to a Senior
Vice President of the Company.
The promissory note carries an interest rate of 8% and provides for the repayment of principal
in three equal installments beginning August 2005.
Debentures Payable
On December 22, 2005, the Company, through a newly-formed Delaware statutory trust,
AssuranceAmerica Capital Trust I (the “Trust”), consummated the private placement of 5,000 of
the Trust’s floating rate Capital Securities, with a liquidation amount of $1,000 per capital
security (the “Capital Securities”). In connection with the Trust’s issuance and sale of the
Capital Securities, the Company purchased from the Trust 155 of the Trust’s floating rate
Common Securities, with a liquidation amount of $1,000 per common security (the “Common
Securities”). The Trust used the proceeds from the issuance and sale of the Capital Securities
and the Common
F-11
Table of Contents
Securities to purchase $5,155,000 in aggregate principal amount of the floating
rate junior subordinated debentures of the Company
(the “Debentures”). The Capital Securities mature on December 31, 2035, but may be redeemed at
par beginning December 31, 2010 if and to the extent the Company exercises its right to redeem
the Debentures. The Capital Securities require quarterly distributions by the Trust to the
holders of the Capital Securities, at a floating rate of three-month LIBOR plus 5.75% per annum,
reset quarterly. Distributions are cumulative and will accrue from the date of original issuance
but may be deferred for a period of up to 20 consecutive quarterly interest payment periods if
the Company exercises its right under the Indenture to defer the payment of interest on the
Debentures. The Company has guaranteed the obligations of the Trust.
Scheduled Maturities
The aggregate payments due on debt outstanding as of December 31 are as follows:
| Amount | ||||
2006 |
$ | 1,459,333 | ||
2007 |
1,459,716 | |||
2008 |
1,020,173 | |||
2009 |
1,000,000 | |||
2010 and after |
5,429,498 | |||
Total |
$ | 10,368,720 | ||
(7) Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred tax assets and
liabilities are recognized for the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and liabilities and their respective
tax bases, and operating loss and tax-credit carry forwards. Deferred tax assets and liabilities
are measured using enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the period that
includes the enactment date. The Company has established a 100% valuation allowance for its net
deferred tax assets due to the uncertainty regarding the realization of these deferred income tax
assets, including its net operating loss carry-forwards.
The Company has loss carry-forwards that may be offset against future taxable income and tax
credits that may be used against future income taxes. If not used, the carry-forwards will
expire in varying amounts between the year 2015 and December 31, 2023. The loss carry-forwards
at December 31, 2004 were approximately $4,121,000. Utilization
of part of the net operating losses
carried forward will be limited under Section 382 of the Internal Revenue Code as the Company
experienced an ownership change greater than 50% effective
April 1, 2003. Accordingly, certain net operating losses may
not be realizable in future years due to this limitation.
The provision for federal and state income taxes for the years ended are as follows:
| December 31, | ||||||||
| 2005 | 2004 | |||||||
Current |
$ | — | $ | — | ||||
Deferred |
— | — | ||||||
Total provision for income taxes |
$ | — | $ | — | ||||
The Company’s total deferred tax assets and deferred tax liabilities are as follows:
| December 31, | ||||||||
| 2005 | 2004 | |||||||
Total deferred tax assets |
$ | 1,607,000 | $ | 2,093,000 | ||||
Total deferred tax (liability) |
(236,000 | ) | (214,600 | ) | ||||
Total income tax benefit |
1,371,000 | 1,878,400 | ||||||
Less valuation allowance |
(1,371,000 | ) | (1,878,400 | ) | ||||
| $ | — | $ | — | |||||
The Company has unused net operating loss carry forwards available to offset future taxable
income as follows:
Expires 2015 |
$ | 260,473 | ||
Expires 2016 |
645,872 | |||
Expires 2017 |
794,848 | |||
Expires 2022 |
1,008,921 | |||
Expires 2023 |
1,013,703 | |||
Expires 2024 |
397,621 | |||
| $ | 4,121,438 | |||
F-12
Table of Contents
(8) Capital Stock
Preferred Stock
During the first quarter of 2005, the Company issued 40,000 shares of its series A convertible
preferred stock for an aggregate consideration of $200,000. During the second quarter of 2005,
the Company issued 800,000 shares of its series A convertible preferred stock for an aggregate
consideration of $4,000,000. The series A convertible stock pays a semi-annual dividend of $0.20
per share. Each share of preferred stock is convertible into ten shares of common stock.
Common Stock
During the fourth quarter of 2005, the Company issued 669,231 shares of common stock, $0.01 par
value, through a private placement.
Stock-Based Compensation
The Company’s 2000 Stock Option Plan provides for the granting of stock options to officers, key
employees, valued directors, consultants, independent contractors and other agents at the
discretion of the Board of Directors. Options become exercisable at various dates and are issued
with exercise prices no less than the fair market value of the common stock at the time of the
grant (or in the case of a ten-percent-or-greater stockholder, 110 percent of fair market value).
The aggregate number of common shares authorized under the plan is currently 5,000,000. Prior to
the merger with AssuranceAmerica Corporation, a Georgia corporation, the Company had issued
options to purchase 948,918 shares of common stock and, after the merger the Company had issued
options to purchase 1,300,000 shares of common stock. In connection with such merger, the
outstanding options to purchase shares of AssuranceAmerica common stock were exchanged on a
one-for-one basis for options to purchase shares of the Company’s common stock under the
Company’s 2000 Stock Option Plan.
A summary of all stock option activity during the twelve months ending December 31
follows:
| 2005 | 2004 | |||||||||||||||
| Weighted | Weighted | |||||||||||||||
| Number of | Average | Number of | Average | |||||||||||||
| Options Outstanding | Shares | Exercise Price | Shares | Exercise Price | ||||||||||||
Beginning of year |
3,302,918 | $ | 1.45 | 2,238,918 | $ | 1.93 | ||||||||||
Add (deduct): |
||||||||||||||||
Granted |
2,394,050 | $ | 0.81 | 1,090,000 | $ | 0.50 | ||||||||||
Exercised |
(192,000 | ) | $ | 0.25 | (6,000 | ) | $ | 0.25 | ||||||||
Cancelled |
(1,289,340 | ) | $ | 2.00 | (20,000 | ) | $ | 4.25 | ||||||||
End of year |
4,215,628 | $ | 0.97 | 3,302,918 | $ | 1.45 | ||||||||||
Exercisable, end of year |
929,018 | $ | 2.12 | 1,173,550 | $ | 3.39 | ||||||||||
The following stock options were outstanding or exercisable as of December 31, 2005:
| Options Outstanding | Options Exercisable | |||||||||||||||||||
| Weighted | ||||||||||||||||||||
| Average | Weighted | Weighted | ||||||||||||||||||
| Remaining | Average | Average | ||||||||||||||||||
| Range of Exercise | Number | Contractual | Exercise | Number of | Exercise | |||||||||||||||
| Prices | of Shares | Life | Price | Shares | Price | |||||||||||||||
< $1.00 |
3,895,710 | 4.05 years | $ | 0.60 | 609,100 | $ | 0.36 | |||||||||||||
$1.00 < $3.00 |
— | — | — | — | — | |||||||||||||||
$3.00 < $4.00 |
— | — | — | — | — | |||||||||||||||
$4.00 < $5.00 |
— | — | — | — | — | |||||||||||||||
$5.00 < $6.50 |
319,918 | 0.92 years | $ | 5.48 | 319,918 | $ | 5.48 | |||||||||||||
| 4,215,628 | 3.81 years | $ | 0.97 | 929,018 | $ | 2.12 | ||||||||||||||
The Company has adopted SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”).
The provisions of SFAS 123 allow companies to either expense the estimated fair value of stock
options awarded or to continue to follow the intrinsic value method set forth in Accounting
Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB No.
25”), but disclose the pro forma effects on net income had the fair value of the options been
expensed. The Company has elected to apply APB No. 25 in accounting for its stock option plan,
including stock awards to non-employee directors.
F-13
Table of Contents
| For the twelve months ending December 31, | ||||||||
| 2005 | 2004 | |||||||
Net income (loss) as reported |
$ | 1,823,193 | $ | (133,498 | ) | |||
Compensation effect |
(335,960 | ) | (82,270 | ) | ||||
Pro forma net income (loss) |
$ | 1,487,233 | $ | (215,768 | ) | |||
Basic and diluted net income attributable to common stockholders
As reported — Basic |
0.036 | (0.003 | ) | ||||||
Pro forma — Basic |
0.030 | (0.005 | ) | ||||||
As reported — Diluted |
0.029 | (0.003 | ) | ||||||
Pro forma — Diluted |
0.023 | (0.005 | ) |
The weighted-average fair value of options granted during the twelve months ended December 31,
2005, estimated on the date of grant using the Black-Scholes option-pricing model, was $0.2253.
The weighted average fair value of options granted during 2004, estimated on the date of grant
using the Black-Scholes option-pricing model, was $0.1813. The fair value of options granted is
estimated on the date of grant using the following assumptions:
| December 31, 2005 | December 31, 2004 | |||||||
Expected volatility |
12 | % | 40 | % | ||||
Risk-free interest rate |
2.0 | % | 1.15 | % | ||||
Expected life (in years) |
5.0 | 5.0 | ||||||
The total fair value of the options granted during the years ended December 31, 2005 and 2004 was
computed to be $263,276 and $197,617, respectively, which would be amortized over the vesting
period of the options.
(9) Risk
The following is a description of the most significant risks facing the Company and how it
mitigates those risks:
(I) LEGAL/REGULATORY RISKS – the risk that changes in the regulatory environment in which an
insurer operates will create additional expenses not anticipated by the insurer in pricing its
products. That is, regulatory initiatives designed to reduce insurer profits, restrict
underwriting practices and risk classifications, mandate rate reductions and refunds, and new
legal theories or insurance company insolvencies through guaranty fund assessments may create
costs for the insurer beyond those recorded in the financial statements. The Company attempts to
mitigate this risk by monitoring proposed regulatory legislation and by assessing the impact of
new laws. As the Company writes business only in four states, it is more exposed to this risk
than some of its more geographically balanced competitors.
(II) CREDIT RISK – the risk that issuers of securities owned by the Company will default or that
other parties, including reinsurers to whom business is ceded, which owe the Company money, will
not pay. The Company attempts to minimize this risk by adhering to a conservative investment
strategy, maintaining reinsurance agreements with financially sound reinsurers with an A.M. Best
rating of “A-“ or better, and by providing for any amounts deemed uncollectible.
(III) INTEREST RATE RISK – the risk that interest rates will change and cause a decrease in the
value of an insurer’s investments. To the extent that liabilities come due more quickly than
assets mature, an insurer might have to sell assets prior to maturity and potentially recognize a
gain or a loss. The Company, in accordance with its investment policy, manages its investment
portfolio duration according to expected liability duration needs. Since the Company’s
liabilities are predominantly short-term, the investment portfolio is also short-term duration.
The investment policy requires that the duration of the investment portfolio will not diverge
from the Company’s liability duration by more than + 15%.
Concentration of Risk
The Company operates in Alabama, Florida, Georgia and South Carolina and is dependent upon the
economies in those states. Automobiles insured through AAIC are principally in Alabama, South
Carolina and Georgia. Premium increases generally must be approved by state insurance
commissioners.
Concentration of Credit Risk
Financial instruments that potentially subject the Company to significant concentrations of
credit risk consist principally of cash. The Company maintains cash and cash equivalents with
various financial institutions. The Company’s policy is to maintain balances with high credit
quality financial institutions. The Company has not sustained material credit losses from
instruments held at financial institutions.
The Company maintains a relationship with two reinsurers. The Company performs periodic
evaluations of the relative credit standing with each of these companies.
F-14
Table of Contents
Regulatory Requirements and Restrictions
To retain its certificate of authority, the South Carolina Insurance Code requires that AAIC
maintain capital and surplus at a minimum of $3.0 million. At December 31, 2005, AAIC’s capital
and surplus was approximately $7.7 million. AAIC is required to adhere to a prescribed net
premium-to-surplus ratio. At December 31, 2005, AAIC was in compliance with this requirement.
Under the South Carolina Insurance Code, AAIC must receive prior regulatory approval to pay a
dividend in an amount exceeding ten percent (10%) of policyholder surplus or net income, minus
realized capital gains, whichever is greater.
The Company is required to comply with the NAIC risk-based capital (“RBC”) requirements. RBC is
a method of measuring the amount of capital appropriate for an insurance company to support its
overall business operations and to ensure that it has an acceptably low expectation of becoming
financially impaired in light of its size and risk profile. NAIC’s RBC standards are used by
regulators to determine appropriate regulatory actions relating to insurers which show signs of
weak or deteriorating condition and are evaluated on at least an annual basis at the end of each
year. The model law provides for increasing levels of regulatory intervention as the ratio of an
insurer’s total adjusted capital and surplus decreases relative to its risk based capital,
culminating with mandatory control of the operations of the insurer by the domiciliary insurance
department at the so-called mandatory control level. As of December 31, 2005, based upon
calculations using the appropriate NAIC formula, AAIC’s total adjusted capital is in excess of
ratios which would require any form of corrective actions on our part or action on the part of
the regulators.
The NAIC Insurance Regulatory Information System (“IRIS”) is part of a collection of analytical
tools designed to provide state insurance regulators with an integrated approach to screening and
analyzing the financial condition of insurance companies operating in their respective states.
IRIS is intended to assist state insurance regulators in targeting resources to those insurers in
greatest need of regulatory attention. IRIS consists of two phases: statistical and analytical.
In the statistical phase, the NAIC database generates key financial ratio results based on
financial information obtained from insurers’ annual statutory statements. The analytical phase
is a review of the annual statements, financial ratios and other automated solvency tools. The
primary goal of the analytical phase is to identify companies that appear to require immediate
regulatory attention. A ratio result falling outside the usual range of IRIS ratios is not
considered a failing result; rather, unusual values are viewed as part of the regulatory early
monitoring system. Furthermore, in some years, it may not be unusual for financially sound
companies to have several ratios with results outside the usual ranges. An insurance company may
fall out of the usual range for one or more ratios because of specific transactions that are in
themselves immaterial. As of December 31, 2005, AAIC had five IRIS ratios outside the usual
range. The majority of the results outside of the usual range were attributable to increases in
net premium written and surplus. We do not expect any regulatory action as a result of these
results outside of the usual range.
(10) Commitments and Contingencies
Operating Leases
The Company has entered into operating leases primarily for office space and certain equipment.
These leases are classified as operating leases. The future minimum rental payments required
under long-term non-cancelable leases are summarized as follows:
| Year Ending | ||||
| December 31, | Amount | |||
2006 |
$ | 1,042,017 | ||
2007 |
913,935 | |||
2008 |
785,630 | |||
2009 |
616,516 | |||
2010 |
598,566 | |||
Thereafter |
2,683,008 | |||
| $ | 6,639,672 | |||
Rent expense totaled $1,000,012 and $899,693 for 2005 and 2004, respectively. The Company has
sub-leased part of its premises for the period April 28, 2003 to August 31, 2005 with rental
income of $6,148 per month for the first year, $6,233 per month for the second year and $6,317
per month for the remaining period of the lease.
In 2004, the Company paid to a third party 0.4% of written premium for the use of their software.
This agreement was amended in 2005 to a monthly amount of $8,000. The agreement is subject to a
5% annual increase and is renewable at the option of the Company. The expense for 2005 was
$96,000.
Capital Leases
The Company’s property under capital leases, which is included in property and equipment is
summarized as follows:
F-15
Table of Contents
Property and equipment |
$ | 306,517 | ||
Less: accumulated depreciation |
(61,303 | ) | ||
| $ | 245,214 | |||
Amortization of leased assets is included in depreciation expense.
Future minimum lease payments under capital leases at December 31, 2005 are as follows:
| Year Ending | ||||
| December 31, | Amount | |||
2006 |
$ | 63,989 | ||
2007 |
63,989 | |||
2008 |
63,989 | |||
2009 |
63,989 | |||
| 255,956 | ||||
Less amount representing interest |
35,801 | |||
Present value of future minimum lease payments |
$ | 220,155 | ||
Defined Contribution Plan
The Company’s employees participate in the AssuranceAmerica 401(k) defined contribution
retirement plan. Under the plan, the Company can elect to make discretionary contributions. The
Company did not make contributions in 2005 or 2004. The plan currently does not match employee
contributions. The eligibility requirements are 21 years of age, 6 months of service and full
time employment.
(11) Business Combination
As reported in the Form 8-K filed by AssuranceAmerica Corporation, on January 18, 2005, the
Company acquired Cannon Insurance Agency, Inc. and E&S Insurance Services, Inc. (the “Seller”)
pursuant to an Asset Purchase Agreement (the “Agreement”) with TrustWay Insurance Agencies, LLC,
the Seller and Steve Speir. The Company acquired the Seller as part of management’s strategy to
increase its agency operation through acquisitions. Pursuant to the Agreement, as consideration
for the purchased assets, the Company issued to the Seller an aggregate of 3,600,000 shares of
the Company’s common stock. For purposes of the acquisition, management valued the common stock
at $0.60 per share based upon the fair market value of the Company’s shares as of the closing
date.
As part of the total purchase price, the Company assigned $730,000 to the purchased book of
business amortized over a ten year period. The Company assigned $150,000 to a noncompete
covenant amortized over a five year period. The Company assigned $1,280,000 to goodwill which is
being valued in accordance with FAS 142.
The pro forma statement of operations should be read in conjunction with the historical financial
statements. The pro forma financial statements are not intended to be representative or
indicative of the Company that would have been reported had the acquisition of the Seller’s
assets been completed as of the date presented, and should not be taken as representative of the
future consolidated results of operations or financial condition of the Company. A pro forma
statement of operations is presented only for the twelve month period ended December 31, 2004
since the business combination was at or near the beginning of the twelve month period ended
December 31, 2005. No pro forma balance sheet is presented since
there were no tangible assets or liabilities acquired.
(Unaudited) Pro forma Statement of Operations
For the period ended December 31, 2004
For the period ended December 31, 2004
| 2004 | 2004 | 2004 | ||||||||||
| (in thousands) | Company | Seller | Total | |||||||||
Revenue |
24,187 | 890 | 25,077 | |||||||||
Net income (loss) |
(133 | ) | 204 | 71 | ||||||||
Earnings per share |
(0.003 | ) | 0.004 | 0.001 | ||||||||
(12) Net Income (Loss) Per Share
Basic and diluted income (loss) per common share is computed using the weighted average number of
common shares outstanding during the period. Only exercisable stock options and warrants have
been included in the diluted income (loss) per share. Potential common shares not included in
the calculations of net income (loss) per share for the year ended December 31, 2005 and 2004 are
as follows:
F-16
Table of Contents
| 2005 | 2004 | |||||||
Warrants |
145,000 | 245,000 | ||||||
Stock Options |
3,462,000 | 3,058,000 | ||||||
| 3,607,000 | 3,303,000 | |||||||
(13) Related Party Transactions
In the past, our Chairman, Mr. Millner, and our Chief Executive Officer, Mr. Stumbaugh have
loaned us approximately $6.2 million and $0.3 million, respectively. We incurred interest on the
Promissory Note to our Chairman, Mr. Millner, of $437,827 in 2005 and $518,330 in 2004.
Additional payments of $1,347,561 and $700,000 for accrued and unpaid interest were made to Mr.
Millner in 2005 and 2004, respectively. We made payments of accrued and unpaid interest on the
Promissory Note to Mr. Stumbaugh, our Chief Executive Officer, of $48,346 and $26,352 in 2005 and
2004, respectively. We also made principal payments to Mr. Stumbaugh in the amount of $78,006 in
2005. Outstanding amounts under the Promissory Notes held by Messrs. Millner and Stumbaugh
accrue interest at an annual rate of 8%. The Note to Mr. Stumbaugh requires annual principal
payments of $100,000 beginning December, 2004; however, the December 2004 payment was deferred
until 2005. The Notes to Mr. Millner require annual principal payments of the greater of
$500,000 or 25% of Free Cash Flow (net income after tax plus non cash items minus working
capital) on each of two notes beginning in December, 2004; the December 2004 payment was deferred
until 2005. The Promissory Notes are not secured by any of our assets.
In July 2004, we purchased substantially all of the assets of Thomas-Cook Holding Company
(“TCHC”), which was controlled by James C. Cook, Senior Vice President of the Company. Pursuant to the Agreement, as consideration, for the purchased
assets, we paid TCHC $462,000 in cash, issued TCHC a Promissory Note in the amount of $1,078,000,
and issued TCHC 1,320,000 shares of our common stock. The principal amount of the Promissory Note
is payable in three equal installments on each of August 1, 2005, August 1, 2006 and August 1,
2007. Outstanding amounts under the Promissory Note accrue interest at an annual rate of 8%. We
are required to make payments of accrued and unpaid interest on outstanding amounts under the
Promissory Note on a quarterly basis. We incurred $77,355 and $35,933 of interest on this
Promissory Note in 2005 and 2004, respectively. We made a principal payment in the amount of
$359,333 in 2005.
(14) Supplemental Cash Flow Information
| 2005 | 2004 | |||||||
Cash paid during the year: |
||||||||
Interest |
$ | 607,327 | $ | 580,615 | ||||
Income Taxes |
— | — | ||||||
During the year ended December 31, 2005 and 2004, the Company granted shares of 20,000 each to
three and two of its Board of Directors members, respectively, as compensation for services.
On January 18, 2005 the Company acquired Cannon Insurance Agency, Inc and E&S Insurance Services.
This acquisition was valued at $2,160,000, as noted in the “Business Combination” footnote, and
was a non-cash transaction.
On August 1, 2004, the Company purchased Thomas-Cook Holding Company. As part of the purchase
agreement, the Company issued a note payable in the amount of $1,078,000. The Company also
issued stock as a part of the purchase agreement with an agreed upon value of $660,000.
In 2004, TrustWay replaced its existing copier agreement with a new agreement. The amount
capitalized under the capital lease obligation was $265,545; see note 10 for more detailed
information.
(15) Recent Accounting Pronouncements
The Company periodically reviews recent accounting pronouncements issued by the Financial
Accounting Standards Board, American Institute of Certified Public Accountants, Emerging Issues
Task Force and Staff Accounting Bulletins issued by the United States Securities and Exchange
Commission to determine the potential impact on the Company’s financial statements. Based on its
most recent review, the Company has determined that the majority of these recently issued
accounting standards either do not apply to the Company or will not have a material impact on its
financial statements. However, in December 2004, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment, which
will affect the manner in which the Company accounts for its share-based payment arrangements,
including employee stock options. Accordingly, effective January 1, 2006, the Company will be
required to expense the cost resulting from all share-based payment arrangements in its financial
statements.
In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections, a
replacement for APB Opinion No. 20, Accounting Changes, and SFAS No. 3, Reporting Accounting
Changes in Interim Financial Statements. SFAS No. 154 requires retrospective application to prior
periods’ financial statements for changes in accounting principle, unless determination of either
the period specific effects or the cumulative effect of the change is impracticable or otherwise
promulgated. This statement carries forward without change the guidance contained in Opinion
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20 for reporting the correction of an error in previously issued financial statements and a
change in accounting estimate. The provisions of SFAS No. 154 are effective for accounting
changes and corrections of errors made in fiscal years beginning after December 15, 2005.
(16) Selected Unaudited Quarterly Financial Information
| First | Second | Third | Fourth | |||||||||||||
| Quarter | Quarter | Quarter | Quarter | |||||||||||||
2005 |
||||||||||||||||
Revenue |
$ | 7,806,950 | $ | 8,144,062 | $ | 9,915,267 | $ | 11,249,205 | ||||||||
Gross Profit |
744,710 | 324,207 | 771,811 | 488,865 | ||||||||||||
Net income attributable to common shareholders |
698,110 | 117,607 | 645,211 | 362,265 | ||||||||||||
Diluted net earnings per share attributable to common shareholders |
0.013 | 0.002 | 0.010 | 0.004 | ||||||||||||
2004 |
||||||||||||||||
Revenue |
$ | 6,045,807 | $ | 5,944,693 | $ | 5,984,869 | $ | 6,212,028 | ||||||||
Gross Profit |
225,770 | (126,001 | ) | (132,808 | ) | (15,259 | ) | |||||||||
Net income attributable to common shareholders |
225,770 | (126,001 | ) | (166,108 | ) | (67,159 | ) | |||||||||
Diluted net earnings per share attributable to common shareholders |
0.005 | (0.003 | ) | (0.004 | ) | (0.001 | ) | |||||||||
(17) Subsequent Events
On January 16, 2006 the Company’s subsidiary, Trustway Insurance Agencies, LLC, purchased all of
the assets of Tampa No-Fault Insurance Agency, Inc. (“TNF”) pursuant to the terms of an Asset
Purchase Agreement (the “APA”) by and between Assurance America Corporation, Trustway Insurance
Agencies, LLC, Tampa No-Fault Insurance Agency, Inc., Mario A. Suarez, Mary Suarez, and Mario C.
Suarez. TNF is an insurance agency selling primarily nonstandard automobile insurance in Tampa,
Florida. The purchase price was $425,000 payable one third in cash at the closing and the
delivery of a promissory note for the remainder payable in two equal annual payments of principal
with quarterly interest payments at 8%. Each principal also agreed to a three-year restrictive
covenants prohibiting them from competing with the TNF, soliciting its customers, or hiring its
employees.
On January 27, 2006, the Company acquired The Insurance Center, Inc. (“TIC”), doing business as
Apple Insurance Mall, a 16 office insurance agency selling primarily nonstandard automobile
insurance in southern Florida. The acquisition was effected by the merger of a subsidiary of the
Company and TIC with TIC being the survivor pursuant to the terms of an Agreement and Plan of
Merger by and among AssuranceAmerica Corporation, AAC Merger Corporation I, The Insurance Center,
Inc., and Shareholders Representative dated January 27, 2006 (“Merger Agreement”). The total
consideration paid for all shares of TIC was $3,900,000 subject to adjustment upward or downward
on a dollar for dollar basis for every dollar that the tangible net worth of TIC as defined in
the Merger Agreement is greater or less than one dollar as of December 31, 2005. Based upon an
estimated tangible net worth as of December 31, 2005, the estimated merger price was $3,161,931.
The consideration was paid by the delivery of $1,115,744 cash to an escrow agent, the payment of
certain liabilities of TIC, and the delivery of the Company’s promissory note for $1,900,000 with
principal due on July 1, 2008 and quarterly interest payments at 8%; the principal of the note is
subject to setoff in accordance with the terms of the Merger Agreement. The final calculation of
the merger consideration will be calculated on or before 120 days from the date of closing.
Immediately following the merger described above, TIC was merged into a subsidiary of Trustway
with the subsidiary of Trustway being the survivor.
(18) Reclassification
Certain reclassifications have been made to the 2004 financial statements to conform to the 2005
presentations.
(19) Segment Reporting
The Company’s subsidiaries are each unique operating entities performing a separate business
function. AssuranceAmerica Insurance Company (“AAIC”), a property and casualty insurance company
focuses on writing nonstandard automobile business in the states of Georgia, Alabama and South Carolina.
AssuranceAmerica Managing General Agency (“MGA”), markets AAIC’s policies through more than 1,000
independent agencies in Georgia, Florida, South Carolina, Texas and Alabama. MGA provides all of the
underwriting, accounting, product management, legal, policyholder administration and claims
functions for AAIC and for an unaffiliated insurer that in 2005 retained the non-standard
automobile insurance policies produced by MGA in Florida. MGA receives various fees related to
insurance transactions that vary according to state insurance laws and regulations. TrustWay
Insurance Agencies (“TrustWay”) is comprised primarily of 50 retail insurance agencies that focus
on selling nonstandard automobile policies and related coverages in Georgia and Florida.
TrustWay receives commissions and various fees associated with the sale of the products and
services from its appointing insurance carriers.
The Company evaluates profitability based on pretax income. Pretax income for each segment
is defined as the revenues less the segment’s operating expenses including depreciation and
interest.
Following are the operating results for the Company’s various segments:
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| MGA | TrustWay | AAIC | Company | |||||||||||||||||||||||||||||
| (in thousands) | 2005 | 2004 | 2005 | 2004 | 2005 | 2004 | 2005 | 2004 | ||||||||||||||||||||||||
Revenues from external customers |
$ | 16,844 | $ | 8,120 | $ | 7,768 | $ | 6,991 | $ | 13,650 | $ | 9,076 | $ | — | $ | — | ||||||||||||||||
Intersegment revenues |
3,794 | 2,278 | 1,765 | — | 630 | 764 | 1,736 | 811 | ||||||||||||||||||||||||
Interest expense |
— | 39 | 100 | 283 | — | — | 195 | — | ||||||||||||||||||||||||
Depreciation and amortization |
169 | 175 | 438 | 165 | — | — | 5 | — | ||||||||||||||||||||||||
Segment income(loss) |
400 | (7 | ) | 350 | (283 | ) | 1,597 | 783 | (17 | ) | (541 | ) | ||||||||||||||||||||
Segment assets |
3,463 | 1,598 | 8,550 | 6,679 | 55,498 | 29,569 | 18,966 | 6,088 | ||||||||||||||||||||||||
| (in thousands) | 2005 | 2004 | ||||||
Revenue |
||||||||
Total revenue for reportable segments |
$ | 45,040 | $ | 28,040 | ||||
Elimination of intersegment revenue |
(7,925 | ) | (3,853 | ) | ||||
Total consolidated revenues |
37,115 | 24,187 | ||||||
Profit and loss |
||||||||
Total income (loss) for reportable segments |
$ | 2,330 | $ | (48 | ) | |||
Income (loss) before tax provision |
2,330 | (48 | ) | |||||
Assets |
||||||||
Total assets for reportable segments |
$ | 86,477 | $ | 43,935 | ||||
Elimination of intersegment balances |
(17,516 | ) | (7,641 | ) | ||||
Total consolidated assets |
68,961 | 36,294 | ||||||
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