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American Safety Insurance Holdings 10-Q 2010 UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
______________________
FORM 10 Q
“OR”
Commission File Number 1-14795
Indicate by check mark whether registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or such shorter period that registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.
_X_ Yes ___ No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§229.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ____ No __
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act. (check one)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
____ Yes _X_ No
The aggregate number of shares outstanding of Registrant’s common stock, $0.01 par value, on August 3, 2010 was 10,251,734.
AMERICAN SAFETY INSURANCE HOLDINGS, LTD.
FORM 10-Q
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
American Safety Insurance Holdings, Ltd. and Subsidiaries
Consolidated Balance Sheets
(dollars in thousands except share data)
See accompanying notes to consolidated interim financial statements (unaudited).
3
American Safety Insurance Holdings, Ltd. and Subsidiaries
Consolidated Statements of Operations
(Unaudited)
(dollars in thousands except per share data)
See accompanying notes to consolidated interim financial statements (unaudited).
4
American Safety Insurance Holdings, Ltd. and Subsidiaries
Consolidated Statements of Cash Flow
(Unaudited)
(dollars in thousands)
See accompanying notes to consolidated interim financial statements (unaudited).
5
American Safety Insurance Holdings, Ltd. and Subsidiaries
Consolidated Statements of Comprehensive Earnings
(Unaudited)
(dollars in thousands)
See accompanying notes to consolidated interim financial statements (unaudited).
6
American Safety Insurance Holdings, Ltd. and Subsidiaries
Notes to Consolidated Financial Statements
June 30, 2010
(Unaudited)
Note 1 - Basis of Presentation
The accompanying consolidated financial statements of American Safety Insurance Holdings, Ltd. (“American Safety Insurance”) and its subsidiaries and American Safety Risk Retention Group, Inc. (“American Safety RRG”), a non-subsidiary risk retention group affiliate (collectively, the “Company”), are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) as established by the FASB Accounting Standards Codification© ("Codification" or "ASC"). The preparation of financial statements in conformity with GAAP requires management to make estimates, based on the best information available, in recording transactions resulting from business operations. Certain balance sheet amounts involve accounting estimates and/or actuarial determinations and are therefore subject to change and include, but are not limited to, invested assets, deferred income taxes, reinsurance recoverables, goodwill and the liabilities for unpaid losses and loss adjustment expenses. As additional information becomes available (or actual amounts are determinable), the recorded estimates may be revised and reflected in operating results. While management believes that these estimates are adequate, such estimates may change in the future.
The results of operations for the three and six months ended June 30, 2010 may not be indicative of the results for the fiscal year ending December 31, 2010. These unaudited interim consolidated financial statements and notes should be read in conjunction with the financial statements and notes included in the audited consolidated financial statements on Form 10-K of the Company for the fiscal year ended December 31, 2009.
The unaudited interim consolidated financial statements include the accounts of American Safety Insurance, each of its subsidiaries and American Safety RRG. All significant intercompany balances as well as normal recurring adjustments have been eliminated. Unless otherwise noted, all balances are presented in thousands.
Certain balance sheet and statement of operations items have been reclassified for the 2009 periods. The presentation is consistent with the presentation for the three and six months ended June 30, 2010 and did not result in any impact to net earnings or shareholders’ equity.
7
The amortized cost and estimated fair values of the Company’s investments at June 30, 2010 and December 31, 2009 are as follows:
8
Note 3 – Segment Information
Our business segments are classified into insurance operations and other, with the insurance operations consisting of three divisions: excess and surplus lines (E&S), alternative risk transfer (ART) and assumed reinsurance (Assumed Re). E&S includes seven products: environmental, construction, products liability, excess, property, surety and healthcare. ART includes two business lines: specialty programs and fully funded. In our Assumed Re division, the Company assumes specialty property and casualty business from unaffiliated insurers and reinsurers.
Within E&S, our environmental insurance products provide general, pollution and professional liability coverage for contractors and consultants in the environmental remediation industry and property owners. Construction provides general liability insurance for residential and commercial contractors. Products liability provides general liability and product liability coverages for smaller manufacturers and distributors, non-habitational real estate and certain real property owner, landlord and tenant risks. Excess provides excess and umbrella liability coverages over our own and other carriers’ primary casualty policies, with a focus on construction risks. Our property coverage encompasses surplus lines commercial property business and commercial multi-peril (CMP) policies. Surety coverage provides payment and performance bonds primarily to the environmental remediation and construction industries, while healthcare provides customized general and professional liability insurance solutions primarily for long-term care facilities.
In our ART division, specialty programs provide insurance to homogeneous niche groups through third party program managers. Our specialty programs consist primarily of property and casualty insurance coverages for certain classes of specialty risks including, but not limited to, construction contractors, pest control operators, auto dealers, consultants, restaurant and tavern owners and bail bondsmen. Fully funded policies give our insureds the ability to fund their liability exposure via a self-insurance vehicle. Our fully funded product primarily offers general and professional liability for businesses operating in the healthcare and construction industries.
Our Assumed Reinsurance division offers property and casualty reinsurance products in the form of treaty and facultative contracts. We provide this coverage primarily on an excess of loss basis targeting small specialty insurers, risk retention groups and captives. We reinsure casualty business, which includes general liability, commercial auto, professional liability and workers’ compensation, as well as property catastrophe.
Our Other segment includes lines of business that we have placed in run-off, such as workers’ compensation, excess liability insurance for municipalities, other commercial lines, real estate and other ancillary product lines.
The Company measures geographic segments using net income, total assets and total equity. The reportable insurance divisions are measured by underwriting profit (loss) and pre-tax operating income.
9
The following table presents key financial data by segment for the three months ended June 30, 2010 and 2009 respectively (dollars in thousands):
10
The following table presents key financial data by segment for the six months ended June 30, 2010 and 2009 respectively (dollars in thousands):
11
The Company conducts business in two geographic segments: the United States and Bermuda. Significant differences exist in the regulatory environment in each country. The following table provides financial data about the geographic segments for the three months ended June 30, 2010 and June 30, 2009 (dollars in thousands):
The following table provides financial data about the geographic segments for the six months ended June 30, 2010 and June 30, 2009 (dollars in thousands):
Note 4 - Income Taxes
United States federal and state income tax expense from operations consists of the following components
12
Income tax expense for the periods ended June 30, 2010 and 2009 differed from the amount computed by applying the United States Federal income tax rate of 34% to earnings before Federal income taxes as a result of the following:
Note 5 – Equity Based Compensation
The Company’s incentive stock plan grants incentive stock options to employees. The majority of the options outstanding under the plan vest evenly over a three year period and have a term of 10 years. The Company uses the Black-Scholes option pricing model to value stock options. The Company’s methodology for valuing stock options has not changed from December 31, 2009. During the first six months of 2010, the Company granted 78,775 stock options compared to 135,576 for the same period of 2009. No options were granted for the three months ended June 30, 2010 or 2009. Stock based compensation expense related to outstanding stock options was $274 and $231 for the three months ended June 30, 2010 and 2009 respectively and $442 and $489 for the six months ended June 30, 2010 and 2009, respectively, and is reflected in net earnings as part of other underwriting expenses.
In addition to stock options discussed above, the Company may grant restricted shares to employees under the incentive stock plan. No restricted stock was granted during the three month period ending June 30, 2010 or 2009. During the first six months of 2010, the Company granted 209,254 shares of restricted stock compared to 90,224 for the same period in 2009. Of the restricted stock granted, 56,754 shares vest on the grant date anniversary ratably over three years at 25%, 25% and 50%, respectively and 2,500 shares vest at the end of five years. The remaining 150,000 shares cliff vest at the end of three years and are subject to performance targets. Stock based compensation expense related to the restricted shares was $329 and $164 for the three months ended June 30, 2010 and 2009, respectively, and is reflected in net earnings as part of other underwriting expenses. For the six months ended June 30, 2010 and 2009, $517 and $344 were recorded as compensation expense, respectively, and is reflected in net earnings as part of other underwriting expenses.
Additionally, the Company recorded $80 in expense for both the three months ended 2010 and 2009 related to stock awards made as a portion of Director compensation. For the six months periods $160 was recorded in both 2010 and 2009 related to Director compensation.
Note 6 –Fair Value Measurements
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability, or in the absence of a principal market, the most advantageous market. Market participants are buyers and sellers in the principal (or most advantageous) market that are independent, knowledgeable, able to transact for the asset or liability and willing to transact for the asset or liability.
13
We determined the fair values of certain financial instruments based on the fair value hierarchy established in “Fair Value Measurements”, topic ASC 820-10-05. The guidance requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value.
The Company receives fair value prices from its third-party investment managers who use an independent pricing service. These prices are determined using observable market information such as dealer quotes, market spreads, cash flows, yield curves, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the security's terms and conditions, among other things. The Company has reviewed the processes used by the third party providers for pricing the securities, and has determined that these processes result in fair values consistent with the GAAP requirements. In addition, the Company reviews these prices for reasonableness, and has not adjusted any prices received from the third-party providers as of June 30, 2010.
Assets measured at fair value on a recurring basis are summarized below:
As of June 30, 2010
Fair Value Measurements Using
(dollars in thousands)
14
We routinely review our investments that have experienced declines in fair value to determine if the decline is other than temporary. These reviews are performed with consideration of the facts and circumstances of an issuer in accordance with the Securities and Exchange Commission (“SEC”), Accounting for Non-Current Marketable Equity Securities; ASC-320-10-05, Accounting for Certain Investments in Debt and Equity Securities and related guidance. The identification of distressed investments and the assessment of whether a decline is other-than-temporary, involve significant management judgment and require evaluation of factors including but not limited to:
The Company routinely monitors and evaluates the difference between the cost and fair value of its investments. Additionally, credit analysis and/or credit rating issues related to specific investments may trigger more intensive monitoring to determine if a decline in market value is other than temporary ("OTTI"). For investments with a market value below cost, the process includes evaluating the length of time and the extent to which cost exceeds market value, the prospects and financial condition of the issuer, and evaluation for a potential recovery in market value, among other factors. This process is not exact and further requires consideration of risks such as credit risk and interest rate risk. Therefore, if an investment’s cost exceeds its market value solely due to changes in interest rates, impairment may not be appropriate. For the six months ended June 30, 2010 and 2009, the Company did not incur any OTTI.
15
The OTTI is split between a credit loss portion and a portion due to other factors like liquidity and market interest rate changes. The credit portion of the OTTI is the difference between the amortized cost of the debt security and the present value of the estimated cash flows to be received from the security and is charged to expense. The non-credit portion is recorded in a new category of other comprehensive income ("OCI"), net of applicable deferred taxes, separately from unrealized gains and losses on available-for-sale ("AFS") securities.
In addition to the fair value estimates on our investments, the Company uses the following methods and assumptions to estimate the fair value of each class of financial instruments for which it is practicable to estimate such value:
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