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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------------
FORM 10-K
[Mark One]
[x] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the fiscal year ended December 31, 2002
or
[] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from _____________ to _____________.
Commission File No. 0-19727
CUMBERLAND TECHNOLOGIES, INC.
(Exact name of registrant as specified in its charter)
Florida 59-3094503
---------------------------_---------------------- ----------------------
(State or other jurisdiction of incorporation) (I.R.S. Employer
Identification No.)
4311 West Waters Avenue, Suite 501
Tampa, Florida 33614
-------------------------------------------------- ----------------------
(Address of principal executive offices) (Zip Code)
(813) 885-2112
----------------------------------------------------
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each Class Name of each exchange on which registered
------------------- -----------------------------------------
Common Stock The Over The Counter Bulletin Board
Securities registered pursuant to Section12(g) of the Act:
Common Stock
----------------
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [x] No [ ]
Indicate by a check mark if disclosure of delinquent files pursuant to Item 405
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
form 10-K. [x]
$216,120
---------------
Aggregate market value of voting stock (Common Stock) held by nonaffiliates of
the Registrant as of March 6, 2003
5,597,244 shares of Common Stock $.001 par value
----------------------------------------------------------------
Number of shares of Common Stock outstanding as of March 6, 2003
Documents incorporated by reference: NONE
PART I
------
Item 1. Business
------ --------
General
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Cumberland Technologies, Inc. ("CTI" or "the Company"), (f/k/a Cumberland
Holdings, Inc.) a Florida corporation, was formed on November 18, 1991, to be a
holding company and a wholly-owned subsidiary of Kimmins Corp. ("KC"). Effective
October 1, 1992, KC contributed all of the outstanding common stock of two of
its wholly-owned subsidiaries, Cumberland Casualty & Surety Company ("CCS") and
Surety Specialists, Inc. ("SSI") to CTI. KC then distributed to its stockholders
CTI's common stock on the basis of one share of common stock of CTI for each
five shares of KC common stock and Class B common stock owned (the
"Distribution"). Cumberland Technologies, Inc., ("the Company") is a holding
company engaged through its subsidiaries, Cumberland Casualty & Surety Company
("CCS"), Surety Specialists, Inc. ("SSI"), The Surety Group, Inc. ("SG"),
Associates Acquisition Corp. d/b/a Surety Associates ("SA") and Qualex
Consulting Group, Inc. ("Qualex") in the delivery of specialty surety and
insurance services. Surety services include underwriting surety bonds on a
direct and assumed basis, surety consulting and the development of surety
software. Insurance services include the underwriting of specialty and other
liability insurance products. In addition, the Company conducts its business
through a number of independent agencies which focus on selling and delivering
surety insurance products to consumers. Because the need to advance
technologically in the delivery of insurance products, the Company developed a
software product called Bond-Pro(R). This patented surety issuance system
increases the speed that surety agents deliver their products to the customer
and financially report those transactions to the carrier, while reducing
operating costs. The Company's business strategy is to continue the underwriting
focus of each of its operating subsidiaries and to achieve growth through the
expanded licensing of Bond-Pro(R).
CCS is a property and casualty insurance company that was incorporated in
Texas on May 4, 1988 and redomesticated in Florida, on September 2, 1994. CCS is
licensed in twenty-seven states, the District of Columbia, and Guam. It holds a
certificate of authority from the United States Department of the Treasury,
which qualifies CCS as an acceptable surety on Federal bonds. CCS is rated "B+"
(Very Good) by A.M. Best.
CCS currently has applications for admission pending in various states.
Most of these states have a lengthy applications process in which the admission
filing must be updated with certain financial and nonfinancial information until
the insurance department decides to approve an application. The insurance
department is not restricted as to the amount of time it may take to approve an
application. All applications are updated as new information becomes available
and CCS is waiting for inquiries or actions by these pending states. Those
states in which CCS has not yet applied for licensing generally require
additional years of operating history or additional capital and surplus. Once
CCS has met these requirements, it is anticipated that the applications for
admission will be submitted accordingly. CCS is currently attempting to obtain
additional state licenses in order to spread its risk of loss geographically and
to increase its sales of direct surety and insurance products. Management
believes that CCS can function profitability selling direct surety and insurance
products in the states in which it is currently licensed.
SSI, a Florida corporation, formed in August 1988, SG, a Georgia
corporation, and SA, a South Carolina corporation purchased by the Company in
February and July 1995, respectively, are specialized surety agencies which
operate as independent agencies. Each secures surety risks for small to medium
size contractors as an agent and for other agents as a broker. SG and SA are
also general lines insurance agencies. When acting as an agent, SSI, SG and SA
receive a commission from the various insurance companies it represents, one of
which is CCS. Agency commissions are based upon a percentage of premiums paid by
the consumer. The commissions paid by CCS to SSI, SG and SA range from 35 to 40
percent.
In addition, SSI generates additional revenues through joint partnering
agreements to pursue small to medium size contract and commercial surety
business on a countrywide basis. The agreements allow SSI to solicit surety
business in states in which CCS is not licensed thereby significantly increasing
the Company's ability to geographically spread risk. CCS participates in both
agreements underwriting risk through a retrocession treaty.
Qualex, a Florida corporation, formed in November 1994, provides claim and
contracting consulting services to the surety and construction industries. CCS
purchases claim consulting services from Qualex on a contract basis.
The percentages of gross revenue generated by the Company's subsidiaries
for the year ended December 31, 2002 are as follows:
Subsidiary Revenue Percentage
---------- ------------------
CCS............................ 87%
Qualex......................... 10%
SA............................. 1%
SG............................. 2%
-----------
100%
The term "the Company" unless the context otherwise requires, refers to
Cumberland Technologies, Inc. and its subsidiaries. The principal executive
offices of the Company are located at 4311 West Waters Avenue, Suite 401, Tampa,
Florida 33614. The Company's telephone number is (813) 885-2112, its facsimile
number is (813) 885-6734 and its web site is www.cumberlandtech.com.
Surety Products
---------------
CCS underwrites a wide variety of surety bonds for small to medium size
surety accounts. CCS also assumes underwriting risk from other surety companies
under various reinsurance arrangements. Contract surety bonds center primarily
on performance and payment bonds issued for the construction industry. The bonds
guarantee that a contractor will fulfill their obligations, with respect to
performing the scope of work defined in the contract and fulfilling their
financial obligations. CCS's typical bond is less than $200,000 with aggregate
ongoing work of $500,000. These bonds are marketed through independent insurance
agencies specializing in this type of coverage to general contractors,
sub-contractors and specialty contractors.
Commercial surety bonds, which includes all non-contract surety bonds,
numerous types of license and permit, miscellaneous and judicial bonds. The
scope of each bond varies according to the law, locality, the nature of the
guarantee, and the parties who have a right of action under the bond. The
typical bond penalty ranges from $5,000 to $50,000 and is usually written on a
volume basis.
Insurance Products
------------------
The Company's other liability insurance products include Registered
Investment Advisors professional liability insurance and Notary Public Errors
and Omission liability insurance. Both coverages are occurrence liability
coverages, that insure against specific liability risks. Under the Registered
Investment Advisors professional liability coverage, each endorsed account is
limited to a maximum liability coverage of $500,000. Due to the volatility in
the marketplace, the Company suspended marketing of this product effective
September 2001. The Notary Public Errors and Omissions liability coverage is
written with liability limits of $7,500 to $30,000 per policy.
On surety or insurance products sold directly by CCS, exposure to loss
would be the penal amount of the bond, less any portion for which CCS has
obtained reinsurance. On reinsurance, CCS's exposure to loss would be limited by
the amount of reinsurance provided. Reinsurance does not relieve an insurer of
its liability to the policyholder for the full amount of the policy, however,
the reinsurer is obligated to the insurer for the portion assumed by the
reinsurer.
Technology Product
------------------
On October 1, 1996, CTI launched the development of a surety bond issuance
system "Bond-Pro(R)." The Company received its federal copyright registration
#TX4-542-729 effective March 29, 1997. The Company sees the implementation of
the system as an integral part of its unique service affording it the ability to
capture a larger share of the marketplace. This program encompasses the required
functions an agency needs to run a full scale bond desk when implemented inside
the agency structure. The software is designed to reduce the labor required to
provide improved service. CCS offers its Bond-Pro(R) program to small and medium
size agencies in order to produce premiums. The efficiencies gained in using the
Bond-Pro(R) system enhances CCS's ability to increase premiums and to develop
relationships which may not otherwise be possible due to competition for this
class of business. While a small percentage of the industry offers issue and
reporting systems for bonds, no other provider offers a fully integrated,
multi-carrier production and processing system including management reporting.
Underwriting
------------
For the contract and commercial surety lines of business, the Company's
underwriting philosophy provides for an individual analysis of the risk
associated with each application, except for specific categories of
miscellaneous bonds. In underwriting contract bonds, its approach focuses on the
financial strength, experience and operating capacity of the contractor. In
underwriting commercial surety, this approach focuses on the credit history and
financial resources of the applicant.
The Company maintains control of the contract and commercial surety
underwriting process through the use of authority limits for each underwriter
and committee underwriting of larger risks. The Company may require collateral
on contract bonds and occasionally, on other types of bonds based upon an
assessment of the risk characteristics. The risk assessment includes evaluation
of the financial strength of the contractor, the credit history of the
contractor, work in progress and successful work experience. Collateral can
consist of irrevocable letters of credit, certificates of deposit, cash, savings
accounts and publicly traded securities. Both corporate and personal
indemnification may be required in order to mitigate liability risk. The Company
also targets various products in the commercial surety market which are
characterized by relatively low risk exposure in small penal amounts. The
underwriting criteria, including the extent of bonding authority granted to
independent agents, will vary depending on the class of business and the type of
bond. For example, relatively little underwriting information is typically
required of certain low exposure risk such as notary bonds.
Other liability insurance applications are individually evaluated and the
decision to write a particular risk is made by the Company's underwriting
department. The underwriting department determines whether to write a particular
risk after evaluating a number of factors based upon detailed objective
underwriting standards relating to each class of business.
Reinsurance
-----------
CCS assumes reinsurance premiums through a program whereby its subsidiary,
SSI has contracted through two joint partnering agreements (St. Paul Fire and
Marine Group, f/k/a United States Fidelity and Guaranty Company and Peerless
Insurance Company) to pursue small to medium size contract and commercial surety
business in states in which CCS is not licensed. Effective July 1, 2002, these
programs were discontinued. CCS participates in the underwriting risk through a
retrocession treaty with Transatlantic Reinsurance Company.
Effective October 1, 1996, CCS entered into a quota share agreement with
First Indemnity of America Insurance Company ("FIA") whereby all of the premiums
written through a shared underwriting office are subject to this treaty. The
Company assumes 50% of the premiums written by FIA and cedes 50% of the premiums
written by CCS.
The Company's insurance subsidiary, in the ordinary course of business,
cedes insurance to other insurance companies, to limit its exposure to loss,
provide greater diversification of risk, and minimize aggregate exposures.
Because the ceding of insurance does not discharge the primary liability of the
original insurer, CCS places reinsurance with qualified carriers after
conducting a detailed review of the nature of the obligation and a thorough
assessment of the reinsurers credit qualifications and claims settlement
performance and capabilities. The reinsurance coverage terms are tailored to the
specific risk characteristics of the underlining products of the company.
For contract and commercial surety business, CCS entered into an excess of
loss reinsurance agreement with Transatlantic Reinsurance Company (Transatlantic
Treaty), which is rated A+ (Superior) by A.M. Best. Excess of loss reinsurance
is a form of reinsurance, which indemnifies the ceding insurer up to an agreed
amount against all or a portion of the amount of loss in excess of a specified
retention. The Company cedes risk insured to Transatlantic Reinsurance Company
on an excess of loss treaty 95% of the risk insured with a maximum exposure to
the Company of $235,000 per principal prior to June 30, 2001 and a maximum
exposure of $300,000 per principal effective July 1, 2001 through June 30, 2002.
Effective July 1, 2002, net exposure, is limited to $250,000 through its
reinsurance program after a $1.4 million annual aggregate deductible, limited to
$350,000 per principal, is satisfied. Under the Transatlantic Treaty, the
reinsurer automatically assumes the risk of losses on all contract surety bonds
written and classified as surety in CCS's statutory annual statement and all
miscellaneous surety bonds with penal sums over $100,000 written and classified
as surety in CCS's statutory annual statement.
Effective July 1, 2002, CCS entered into a quota share agreement with
Transatlantic Reinsurance Company whereby CCS cedes 35% of the premiums, net of
commissions, on its commercial surety bonds with penal sums less than $100,000.
The quota share treaty is renegotiated annually.
For its liability line of registered investment advisor insurance, the
Company has reduced its exposure on any one risk, through the purchase of a
quota share agreement with Dorinco Reinsurance (Dorinco Treaty) which is rated A
(Excellent) by A.M. Best. Under the Dorinco Treaty, CCS cedes 50% of its
liability on all Registered Investment Advisor policies.
Reserves
--------
Reserves for losses and loss adjustment expenses are established based upon
reported claims and historical industry loss development. The amount of
liability for case loss reserves for reported claims is based on a case by case
evaluation of the claim. Historical industry data is reviewed and consideration
is given to the anticipated impact of various factors such as legal
developments, economic conditions and the effects of inflation. Amounts are
adjusted periodically to reflect these factors.
Reserve for losses and loss adjustment expenses are actuarial estimates of
losses, including the related settlement costs. Management believes that the
reserves for losses and loss adjustment expenses are adequate to cover the
losses and loss adjustment expenses, including the cost of incurred but not
reported losses. During 2002, there were no material changes in the mix of
business or types of risk assumed.
Current fluctuations in inflation have not had a material effect on the
consolidated financial statements and there are no explicit provisions in the
consolidated financial statements for the effects of inflation that may cause
future changes in claim severity.
Other than certain classification differences, there are no material
differences between statutory reserves and Generally Accepted Accounting
Principle ("GAAP") reserves. CCS does not discount its loss reserves for
financial reporting purposes.
Derivative Instruments
----------------------
The Company adopted SFAS No. 133 "Accounting for Derivative Instruments and
Hedging Activities" effective January 1, 2001. As a result, the Company
identified one product that meets the definition of a derivative instrument as
defined in SFAS No. 133. The policy is issued to registered investment advisors
("Advisors"), and insures losses suffered by the Advisors as a result of market
declines on covered investment principal, provided that the Advisors have
followed the investment guidelines required by the policy. The identified
derivative was formerly accounted for as an insurance contract within the policy
liabilities for loss and loss adjustment expenses account in the consolidated
balance sheet for periods prior to January 1, 2001. Due to the volatility in the
marketplace, the Company suspended marketing of this product effective September
2001.
Environmental Claims
--------------------
The Company bonds several accounts that have incidental environmental
exposure, with respect to which the Company provides limited contract bonding
programs. In the commercial surety market, the Company provides bonds to
corporations that are in the business of mining various minerals, establishing
mitigation banks, or operating environmental facilities, and that are obligated
to post financial assurance bonds that guarantee that property can be managed
according to regulatory guidelines. While no environmental responsibility is
overtly provided by commercial or contract bonds, some risk of environmental
exposure may exist if the surety were to assume certain rights of ownership of
the property in the completion of a defaulted project or through salvage
recovery. To date, the Company has not received any environmental claim notices,
nor is management aware of any potential environmental claims.
Investments
-----------
Insurance company investment practices must comply with insurance laws and
regulations. Generally, insurance laws and regulations prescribe the nature and
quality of, and set limits on, various types of investments, which may be made
by CCS.
CCS's investment portfolios generally are managed to maximize any tax
advantages to the extent available while minimizing credit risk with investments
concentrated in high quality, fixed income securities. CCS's portfolios are
managed to provide diversification by limiting exposures to any one issue or
issuer and to provide liquidity by investing in the public securities markets.
Portfolios are structured to support CCS's operations and in consideration of
the expected duration of liabilities and short-term cash needs.
An Investment Committee of CCS's Board of Directors establishes investment
policy and oversees the management of the portfolios.
Marketing
---------
CCS principally markets its products in twenty-seven states, the District
of Columbia and Guam in which it is licensed. Its products are marketed
primarily through SSI, SG, SA and independent agents and producers, including
multi-line agents and brokers that specialize as surety specialists, many of
whom are members of the National Association of Surety Bond Producers. CCS uses
specialized general agencies to market its other liability insurance products.
Competition
-----------
The insurance industry is a highly competitive industry. There are numerous
firms, particularly in the specialty surety markets, which compete for a limited
volume of business. Competition is based upon price, service, products offered,
and financial strength of the insurance company. There are a number of companies
in the industry, which offer products similar to the Company's products.
The Company competes in the small to medium size contract and commercial
surety bond markets. Primary competitors include large multi-line companies, as
well as small regional companies that specialize in the surety market. After a
decade of stable pricing and consistent profitability, the surety industry has
been hit with a spike in losses. As a result, more restrictive practices,
increased rates and tightening credit conditions has created a new level of
competition. Management believes it can effectively compete in the medium to
small bond market.
The Company, while competitive in pricing and commission, believes that the
availability of its proprietary Bond-Pro(R) surety issuance system, specialty
underwriting, managerial experience and service are its primary competitive
factors in the industry. To this end, the Company believes that its technology
and specialization in underwriting niche surety markets will enable it to
continue to compete effectively, even when challenged by the larger standard
market companies.
Regulation
----------
The Company's subsidiaries are subject to varying degrees of regulation and
supervision in the jurisdictions in which they transact business under statutes,
which delegate regulatory, supervisory, and administrative powers to State
insurance regulators. In general, an insurer's state of domicile has principal
responsibility for such regulation. It is designed generally to protect policy
holders rather than investors and relates to matters such as the standards of
solvency which must be maintained; the licensing of insurers and their agents;
examination of the affairs of insurance companies, including periodic financial
and market conduct examinations; the filing of annual and other reports,
prepared on a statutory basis, on the financial condition of insurers or for
other purposes; establishment and maintenance of reserves for unearned premiums
and losses; and requirements regarding numerous other matters. Licensed or
admitted insurers generally must file with the insurance regulators of such
states, or have filed on its behalf, the premium rates and bond and policy forms
used within each state. In some states, approval of such rates and forms must be
received from the insurance regulators in advance of their use.
CCS is domiciled in Florida and licensed in 27 states, the District of
Columbia and Guam. SSI, SG and SA are licensed in Florida, Georgia and South
Carolina respectfully. CCS is also regulated by the United States Department of
the Treasury as an acceptable surety for Federal bonds.
Holding company laws impose standards on certain transactions between
registered insurers and their affiliates, which include, among other things,
that the terms of the transactions be fair and reasonable and that the books,
accounts and records of each party be maintained so as to clearly and accurately
disclose the precise nature and details of the transactions. Holding company
laws also generally require that any person or entity desiring to acquire more
than a specified percentage (commonly 10%) of the Company's outstanding voting
securities, is required first to obtain approval of the applicable state's
insurance regulators.
The National Association of Insurance Commissioners ("NAIC") has adopted a
risk-based capital ("RBC") model law for property and casualty companies. The
RBC model law is intended to provide standards for calculating a variable
regulatory capital requirement related to a company's current operations and its
risk exposures (asset risk, underwriting risk, credit risk and off balance sheet
risk). These standards are intended to serve as a diagnostic solvency tool for
regulators that establishes uniform capital levels and specific authority levels
for regulatory interventions when an insurer falls below minimum capital levels.
The model laws specifies four distinct action levels at which a regulator can
intervene with increasing degrees of authority over a domestic insurer as its
financial conditions deteriorates. These RBC levels are based on the percentage
of an insurers surplus to its calculated RBC. The company's RBC is required to
be disclosed in its statutory annual statement. The RBC is not intended to be
used as a rating or ranking tool nor is to be used in premium rate making or
approval. The Company calculated its RBC requirements as of December 31, 2002
and met the minimum standards under the NAIC guidelines.
Controlling Shareholders
------------------------
Francis Williams, and KC (collectively "Majority Shareholder") owns 79.9%
of the outstanding ordinary shares of the Company and collectively control the
policies and affairs of the Company. Circumstances may arise in which the
interest of the Majority Shareholder of the Company could be in conflict with
the interest of the other holders of the common stock. In addition, the Majority
Shareholder may have an interest in pursuing acquisitions, divestitures or other
transaction that in their judgment, could enhance their equity investment, even
though such transactions might involve risk to the other holders of the common
stock.
Employees
---------
On December 31, 2002, the Company had 34 employees. All are employed on a
full-time basis. None of the Company's employees are union members or subject to
collective bargaining agreements.
Forward-looking Statements
--------------------------
All statements, other than statements of historical facts, included or
incorporated by reference in this Form 10-K which address activities, events or
developments which the Company expects or anticipates will or may occur in the
future, including statements regarding the Company's competitive position,
changes in business strategy or plans, the availability and price of
reinsurance, the Company's ability to pass on price increases, plans to install
the Bond-Pro(R) program in independent insurance agencies, the impact of
insurance laws and regulation, the availability of financing, reliance on key
management personnel, ability to manage growth, the Company's expectations
regarding the adequacy of current financing arrangements, product demand and
market growth, and other statements regarding future plans and strategies,
anticipated events, trends or similar expressions concerning matters that are
not historical facts are forward looking statements. These statements are based
on certain assumptions and analyses made by the Company in light of its
experience and its perception of historical trends, current conditions and
expected future developments as well as factors it believes are appropriate in
the circumstances. However, whether actual results and developments will conform
with the Company's expectations and predictions is subject to a number of risks
and uncertainties which could cause actual results to differ significantly and
materially from past results and from the Company's expectations, including the
risk factors discussed in this Form 10-K, Item 1 and 7A, and other factors, many
of which are beyond the control of the Company, consequently, all of the
forward-looking statements made in this Form 10-K are qualified by these
cautionary statements and there can be no assurance that the actual results or
developments anticipated by the Company will be realized or, even if
substantially realized that they will have the expected consequences to or
effects on the Company or its business or operations.
Item 2. Properties
------ ----------
The Company's operating subsidiaries rent or lease office space in the
cities in which they are located. CCS and Qualex lease office space in Tampa,
Florida from a company owned by Francis Williams, the Chairman of the Board of
the Company, at a monthly rate of $10,885, pursuant to a lease that was executed
June 1, 1999 and is effective through May 31, 2009.
Management considers the rented and leased office facilities of its
subsidiaries adequate for the current and anticipated future level of
operations.
Item 3. Legal Proceedings
------ -----------------
CCS was named as a defendant in a class action lawsuit in the United States
District Court for the District of Colorado. The plaintiffs are clients of a
registered investment advisor (the "Advisor") and have alleged that the Advisor,
a registered broker-dealer, and certain other defendants (excluding CCS) were
negligent or otherwise responsible for losses suffered by the plaintiffs
resulting from embezzlement of the plaintiffs' investments by a third party. As
a separate count in the lawsuit, the plaintiffs have also asserted claims
against CCS based on a policy of insurance issued by CCS to the Advisor. The
policy does not provide coverage for embezzlement, rather it insures losses
caused by market declines, providing that the Advisor has followed the
investment guidelines required by the policy. On July 31, 2002, the District
Court granted CCS motion for summary judgment and dismissed the claims against
CCS.
The Company and its subsidiaries are involved in various lawsuits arising
in the ordinary course of its business operations as an insurer. Management does
not believe that any of these lawsuits will have a material effect on the
consolidated financial position, future operations or cash flows of the Company.
Item 4. Submission of Matters to a Vote of Security Holders
-------- ---------------------------------------------------------
None.
Executive Officers of the Registrant
------------------------------------
All of the following persons are regarded as executive officers because of
their responsibilities and duties as elected officers of the Company's
subsidiaries. Other than Francis M. Williams and Joseph M. Williams (See Item
10), there are no family relationships between any of Company's executive
officers and directors, and there are no arrangements or understandings between
any of these officers and any other person pursuant to which the officer was
selected as an officer.
Position
Name Presently Held Entity Period of Service
- ---- -------------- ------ -----------------
Joseph M. Williams.......... President CTI 06/1992 to date
President CCS 11/2002 to date
Carol S. Black.............. Secretary CTI 06/1995 to date
Secretary/Treasurer CCS 06/1995 to date
Secretary SSI 08/1995 to date
Secretary/Treasurer Qualex 08/1995 to date
Secretary SG 08/1995 to date
Secretary SA 08/1995 to date
Edward A. Mackowiak......... President Qualex 11/1994 to date
Sam H. Newberry............. Vice President SG 01/1998 to date
PART II
-------
Item 5. Market for the Company's Common Equity and Related
------ Stockholders Matters
--------------------
The Company's common stock (symbol "CUMB") has been traded in the
over-the-counter market since October 1, 1992. Effective December 16, 1996, the
Company was approved and included in the trading on the Nasdaq SmallCap Market.
Effective September 12, 2002, the Company's common stock was delisted from the
Nasdaq SmallCap Market and on October 3, 2002, the Company announced its listing
on the Nasdaq Over-the-Counter Bulletin Board. High and Low bid prices were set
forth in Quotation Market Sheets published by Nasdaq. The high and low bid
prices for 2002 and 2001 were as follows:
Bid Information
---------------
2002 2001
----------------------------------------------
High Low High Low
----------------------------------------------
First Quarter ............... $ 1.00 $ .75 $ 1.91 $ 1.38
Second Quarter .............. .59 .35 1.10 1.10
Third Quarter ............... .06 .05 .98 .90
Fourth Quarter .............. .15 .06 .95 .95
As of March 6, 2003, there were 799 stockholders of record of the common
stock. A number of such holders are brokers and other institutions holding
shares in "street name" for more than one beneficial owner.
Dividends
---------
The payment by the Company of dividends, if any, in the future is within
the discretion of its Board of Directors and will depend upon the Company's
earnings, capital requirements (including working capital needs), and other
financial needs. The Company did not declare or pay dividends in 2002 and does
not anticipate paying any dividends on the Company's Common Stock in the near
future.
The future payment of dividends, if any, by CCS is within the discretion of
its Board of Directors and will depend upon CCS's earnings, statutory
limitations, capital requirements (including working capital needs) and
financial condition, as well as other relevant factors. Applicable state laws
and regulations restrict the payment of dividends by CCS to the extent of
current year profits less any dividends that have been paid in the preceding
twelve months or net investment income for the year, whichever is less, unless
CCS obtains prior approval from the insurance commissioner. CCS does not
anticipate paying any dividends on CCS common stock in the near future.
Item 6. Selected Financial Data
------ -----------------------
The following selected financial data are taken from the Company's
consolidated financial statements. The data should be read in conjunction with
the accompanying consolidated financial statements and the related notes,
Management's Discussion and Analysis and other financial information included in
this Form 10-K.
Year Ended December 31,
------------ ------------ ------------- ------------ ------------
2002 2001 2000 1999 1998
------------ ------------ ------------- ------------ ------------
(In Thousands - except per share data)
Statement of Operations Data:
- ----------------------------
Net premium income .................................. $ 13,432 $ 13,641 $ 12,128 $ 9,618 $ 7,534
Net investment income ............................... 486 605 576 333 377
Net realized capital gains (losses) ................. 66 306 38 129 (437)
Income from investment in subsidiary ................ 59 61 20 (203) (136)
Commission and other income ......................... 2,198 1,909 1,683 1,375 1,537
-------- -------- -------- -------- ---------
Total revenue .................................... 16,241 16,522 14,445 11,252 8,875
Benefits and expenses ............................... 18,660 16,095 12,436 9,853 9,078
Impairment of long-lived assets ..................... -- 437 -- -- --
Interest expense .................................... 62 166 203 214 118
-------- -------- -------- -------- ---------
Income (loss) before income tax (benefit)
expense and extraordinary gain .................... (2,481) (176) 1,806 1,185 (321)
Income tax (benefit) expense ........................ (912) (76) 764 37 --
-------- -------- -------- -------- ---------
(Loss) income before extraordinary gain ............. (1,569) (100) 1,042 1,148 (321)
Extraordinary gain on restructuring of
note, net of income tax ........................... -- 158 -- -- --
Net income (loss) ................................... $ (1,569) $ 58 $ 1,042 $ 1,148 $ (321)
======== ======== ======== ======== =========
Income (loss) per common share -
basic and diluted ................................... $ (0.28) $ 0.01* $ 0.19 $ 0.21 $ (0.06)
*Includes extraordinary gain of $.03 per common share
Year Ended December 31,
------------ ------------ ------------- ------------ ------------
2002 2001 2000 1999 1998
------------ ------------ ------------- ------------ ------------
(In thousands)
Assets Balance Sheet Data:
- -------------------------
Investments ......................................... $ 9,269 $10,815 $ 9,955 $ 8,394 $ 3,987
Cash and cash equivalents ........................... 593 2,654 694 2,000 4,202
Accrued investment income ........................... 124 154 185 66 55
Accounts receivable ................................. 2,518 4,687 4,258 3,301 3,105
Reinsurance recoverable ............................. 12,089 6,634 5,970 4,730 2,306
Deferred policy acquisition costs ................... 1,666 1,904 1,955 1,601 1,247
Intangibles ......................................... 441 534 1,115 1,267 1,456
Other investment .................................... 700 641 583 559 553
Deferred tax asset .................................. 402 499 175 305 --
Income tax recoverable .............................. 1,073 -- 168 -- --
Other assets ........................................ 303 372 311 315 354
------- ------- ------- ------- -------
Total assets ........................................ $29,178 $28,894 $25,369 $22,538 $17,265
======= ======= ======= ======= =======
Liabilities and Shareholders Equity Data:
- ----------------------------------------
Unearned premiums ................................... $ 4,587 $ 5,583 $ 5,775 $ 4,844 $ 3,750
Loss and loss adjustment expense reserve ............ 8,896 5,285 6,246 6,409 3,220
Derivative instruments .............................. 4,346 3,598 -- -- --
Ceded reinsurance and accounts payable .............. 3,803 5,143 3,359 2,277 2,615
Income tax payable .................................. -- 113 -- 35 --
Term note to affiliate .............................. 604 603 1,000 1,000 1,000
Non affiliate debt .................................. 455 652 1,103 1,281 1,331
------- ------- ------- ------- -------
Total liabilities ................................... 22,691 20,977 17,483 15,846 11,916
Total stockholders' equity .......................... $ 6,487 $ 7,917 $ 7,886 $ 6,692 $ 5,349
------- ------- ------- ------- -------
Total liabilities and stockholders' equity .......... $29,178 $28,894 $25,369 $22,538 $17,265
======= ======= ======= ======= =======
Item 7. Management's Discussion and Analysis of Financial Condition
------ and Results of Operations
-------------------------
Critical Accounting Policies
- ----------------------------
The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States requires the
Company to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. These estimates and assumptions are based
on historical experience and various other factors that are believed to be
reasonable under the circumstances. Actual results could differ from these
estimates under different assumptions or conditions.
The Company believes the following accounting policies are the most
critical since these policies require significant judgment or involve complex
estimations that are important to the portrayal of the Company's financial
position and operating results:
The Company records valuation allowances to reduce the deferred tax assets
to the amount that is more likely than not to be realized. While the Company
considers taxable income in assessing the need for a valuation allowance, in the
event the Company determines it would be able to realize its deferred income tax
assets in the future in excess of the net recorded amount, an adjustment would
be made and income increased in the period of such determination. Likewise, in
the event the Company determines it would not be able to realize all or part of
its deferred income tax assets in the future, an adjustment would be made and
charged against income in the period of such determination.
The Company reviews long-lived assets for impairment whenever events or
changes in circumstances indicate that the carrying value of an asset may not be
recoverable. In accordance with the Statement of Financial Standards No. 142
Goodwill and Other Liability Assets, the Company assesses goodwill annually for
impairment. Upon determination that the carrying value of the asset is impaired,
the Company would record an impairment charge or loss. Future adverse changes in
market conditions or poor operating results of the underlying investment could
result in losses or an inability to recover the carrying value of the investment
that may not be reflected therein; and therefore, might require the Company to
record an impairment charge in the future.
Statement of Financial Accounting Standard No. 133, Accounting for
Derivative Instruments and Hedging Activities ("SFAS No.133") is effective for
all fiscal years beginning after June 15, 2000. SFAS No. 133, as amended,
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts, and for
hedging activities. Under SFAS No. 133, certain contracts that were not formerly
considered derivatives may now meet the definition of a derivative. The Company
adopted SFAS No. 133 effective January 1, 2001. The Company identified one
product that meets the definition of a derivative instrument as defined in SFAS
No. 133. The identified derivative was formerly accounted for as an insurance
contract within the policy liabilities for loss and loss adjustment expenses
account in the consolidated balance sheet. At December 31, 2002 the fair value
of the derivative instrument has been determined by using a financial model that
incorporates market data and other assumptions. Due to the volatility in the
marketplace, the Company has suspended marketing of this product effective
September 2001.
The liability for loss and loss adjustment expenses including incurred but
not reported losses is based on the estimated ultimate cost of settling the
claim using traditional paid and incurred loss development methods. These
estimates are subject to the effects of trends in loss severity and frequency.
Although considerable variability is inherent in such estimates, management
believes that the liabilities for loss and loss adjustment expenses are
adequate. The estimates are continually reviewed and adjusted as necessary as
experience develops or new information becomes known. Such adjustments are
included in current operations. A liability for all costs expected to be
incurred in connection with the settlement of unpaid loss and loss adjustment
expenses is accrued when the related liability for unpaid losses is accrued.
Loss adjustment expenses include costs associated directly with specific claims
paid or in the process of settlement, such as legal and adjusters' fees. Loss
adjustment expenses also include other costs that cannot be associated with
specific claims but are related to losses paid or in the process of settlement,
such as internal costs of the claims function. The Company does not discount its
reserves for losses and loss adjustment expenses. The Company writes primarily
surety contracts which are of short duration. The Company does not consider
investment income in determining if a premium deficiency relating to short
duration contracts exists.
Results of Operations
- ---------------------
The following table sets forth, for the periods indicated, (i) summary
financial data (in thousands), and (ii) the percentage change in the dollar
amount for such items from period to period.
Percentage Increase
(Decrease)
Year Ended December 31, Year Ended December 31,
----------------------------------------------------------------------
2002 2001 2000 2002 2001
----------------------------------------------------------------------
(Dollars In thousands)
Net premium income .................................... $ 13,432 $ 13,641 $ 12,128 (1.5)% 12.5%
Net investment income ................................. 486 605 576 (19.7)% 5.0%
Net realized investment gains ......................... 66 306 38 (78.4)% 702.6%
Commission and other income ........................... 2,257 1,970 1,703 14.6% 15.7%
Losses and loss adjustment
expenses .......................................... 8,552 4,512 3,360 89.5% 34.3%
Derivative expense .................................... 506 1,061 -- (52.3)% 100.0%
Amortization of deferred
acquisition costs ................................. 3,594 4,363 3,768 (17.6)% 15.8%
Operating expenses and interest ....................... 6,070 6,325 5,511 (4.0)% 14.8%
Impairment of long-lived assets ....................... -- 437 -- (100.0)% (100.0)%
(Loss) income before income tax
(benefit) expense and extraordinary gain ........... (2,481) (176) 1,806 (1,309.7)% (109.9)%
(Loss) income tax (benefit)
expense ........................................... (912) (76) 764 (1,100.0)% (109.9)%
(Loss) income before
extraordinary gain ................................ (1,569) (100) 1,042 (1,469.0)% (109.8)%
Extraordinary gain .................................... -- 158 -- (100.0)% (100.0)%
Net (loss) income .................................... $ (1,569) $ 58 $ 1,042 (2,805.2)% (94.3)%
Year Ended December 31, 2002 Compared to Year Ended December 31, 2001
---------------------------------------------------------------------
Premiums
--------
During the years ended December 31, 2002 and 2001, earned direct and
assumed earned premiums were $17,478,356 and $18,253,687, respectively. Overall
earned premiums, net of ceded premiums decreased 2% or $(209,566). The decrease
in earned premiums is a result of CCS's focus on a smaller market base in an
effort to better control underwriting guidelines. The following table represents
the written and earned premium for CCS and the percentage of change for the
years ended December 31, 2002 and 2001, respectively.
Written Premiums (000's) Earned Premiums (000's)
---------------------------------------------------------------
2002 2001 % Change 2002 2001 % Change
---------------------------------------------------------------
Direct ....... $ 13.849 $ 13,867 (.1)% $ 13,981 $ 14,465 (3.4)%
Assumed ...... 2,634 4,194 (37.2)% 3,498 3,788 (7.7)%
Ceded ........ (4,139) (4,654) (11.1)% (4,047) (4,612) (12.3)%
-------- -------- -------- --------
Total .... $ 12,344 $ 13,407 (7.9)% $ 13,432 $ 13,641 (1.5)%
======== ======== ======== ========
Investments
-----------
During the years ended December 31, 2002 and 2001, net investment income
earned was $486,138 and $604,463, respectively. The decrease in investment
income is primarily attributed to redemption of bonds to meet the demand of
claim payments. Net realized gains for the years ended December 31, 2002 and
2001 were $66,239 and $305,461, respectively. Net realized gains during 2002 and
2001 are a result of gains on bond disposals of $66,239 and $329,360. The gains
for 2001 are offset by losses of $23,899 on stock disposals.
Commission Income
-----------------
Commission income represents earnings from subsidiary agencies on bonds
sold through insurance carriers that have the capacity for writing bonds not
offered by Cumberland Casualty & Surety Company. Inter-company related
commission earnings and expenses have been eliminated in preparing the
consolidated financial statements. Commission income for the period ended
December 31, 2002 increased by $93,690 or 23% when compared to the same period
in the prior year.
Income from Investment in Affiliate
-----------------------------------
The earnings of $59,252 and $61,457 for the years ending December 31, 2002
and 2001 represent a 30% equity position the Company holds on a California
agency.
Other Income
------------
Other income is earned through an affiliate offering claims consulting
services to insurance carriers. Primarily, their services include management,
administration and completion of jobs defaulted under surety bonds. Other income
increased by $194,082 or 13% when compared to the same period in the prior year.
Loss and Loss Adjustment Expenses
---------------------------------
Loss and loss adjustment reserves have been prepared by consulting
actuaries in accordance with accepted actuarial standards for the periods ended
December 31, 2002 and 2001. Loss and loss adjustment expenses incurred represent
the impact of the large influx of claims CCS experienced during 2002. Losses
incurred for the year ended December 31, 2002 was $6,055,043 and represents an
increase of $2,811,944 or 86.7% over 2001 losses incurred. The following table
reflects the variance in losses incurred:
---------------------------------------------
% of
12/31/02 12/31/01 Increase Increase
---------------------------------------------
Losses incurred - direct, net .. $3,857,512 $2,313,544 $1,543,968 66.7%
Losses incurred - assumed, net . 2,197,521 929,545 1,267,976 136.4%
---------- ---------- ----------
Total ..................... $6,055,033 $3,243,089 $2,811,944 86.7%
========== ========== ==========
The increase in direct losses when compared to prior year losses is
comprised of primarily contract claims on contractors defaulting under
performance and payment bond requirements. CCS encountered unexpected losses on
an assumed block of business during 2002 creating incurred losses on that block
of business of approximately $1,169,325.
Loss adjustment expenses totaled $2,044,046 on direct losses and $453,236
on assumed losses representing an increase over prior year loss adjustment
expenses of $1,228,461 or 96.8%. Loss adjustment expenses represent the cost of
the internal claims department, outside claims consultants and attorneys in
connection with the settlement of claims.
In analyzing the development of large claims, CCS's management has
redirected its underwriters to concentrate and focus on new business writings
with small contractors and commercial surety business. Effective July 2002, CCS
elected to not renew its assumption reinsurance treaties.
Derivative Instruments
----------------------
Upon adoption of SFAS No. 133 Accounting for Derivative Instruments and
Hedging Activities effective January 1, 2001, it was determined that CCS has one
policy, referred to as the Registered Investment Advisors (RIA) program, deemed
a derivative instrument. The RIA program provides specific liability coverage
for professional services rendered by registered investment advisors. The
insured liability risk arises from written warranties which address minimum
performance standards associated with the delivery of risk management program
services. The structure of the RIA is based on market value fluctuations and is
sold as an insurance policy, with a five-year maturity schedule, guaranteeing a
return of the principal amount invested, subject to meeting policy criteria. The
Company distributes the policy to "market timer's and has no contract with the
individual client. Prior to January 1, 2001, the RIA program was included in the
category of loss and loss adjustment expenses on the Consolidated Balance Sheet
and Consolidated Statement of Operations. Due to the volatility in the
marketplace, the Company suspended marketing of this product effective September
10, 2001.
In prior years, the Company reserved for the derivative at a percentage of
the earned premium. In valuing the reserves on the derivative, the Company had
no history other than relying on market fluctuation projections which had a
history of supporting the actuarial formulas developed when the policy was
initially approved by Consulting Actuaries and Florida regulators. At December
31, 2002 and 2001, respectively, the derivative was valued using a growth
factor, lapse factor and loss projections before applying a present value factor
to ultimately determine the liability to the Company. At December 31, 2002 and
2001, the derivative instrument liability for this policy was set at $4,346,285
and $3,597,782, respectively. The policies began maturing in June of 2002.
Claims paid in 2002, net of reinsurance was $184,075. Derivative expense for the
periods ended December 31, 2002 and 2001 was $505,816 and $1,060,799,
respectively.
Amortization
------------
During the year ended December 31, 2002 the net amortization of deferred
policy acquisition costs were to $3,593,701 as compared to $4,362,721 for the
year ended December 31, 2001. The acquisition costs represent 20.6% and 23.9% of
the direct and assumed earned premiums for the years ended December 31, 2002 and
2001, respectively.
Operating Expenses
------------------
During the year ended December 31, 2002, operating expenses and taxes,
licenses and fees (excluding income taxes) decreased slightly to $6,008,072 from
$6,159,044 for the same period in 2001. Operating expenses represent 37% of
total revenue for the years ended December 31, 2002 and 2001.
Interest Expense
----------------
Interest expense on non-affiliated debt is interest paid to the former
owners of The Surety Group and Surety Associates on notes due to agencies the
Company purchased in 1995. Interest on affiliated debt represents interest on a
note payable to TransCor, a division of KC.
Income Taxes
------------
The Company incurred income tax (benefits) during 2002 and 2001 of
$(912,031) and $(75,932), respectively. The company's effective tax rate for
2002 is 36.7% and 26.7% for 2001.
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
---------------------------------------------------------------------
Premiums
--------
During the year ended December 31, 2001 and 2000, earned direct and assumed
premium was $18,253,687 and $15,236,814, respectively. Overall earned premiums,
net of ceded premiums increased 12.5% or $1,513,363. The increase in earned
premiums is a result of CCS's continued growth in the surety bond market. The
following table represents the written and earned premium for CCS and the
percentage of change for the years ended December 31, 2001 and 2000,
respectively.
Written Premiums (000's) Earned Premiums (000's)
-------------------------------------------------------------
2001 2000 % Change 2001 2000 % Change
-------------------------------------------------------------
Direct ......... $ 13,867 $ 13,775 .7% $ 14,465 $ 12,756 13.4%
Assumed ........ 4,194 2,393 75.3% 3,788 2,481 52.7%
Ceded .......... (4,654) (3,510) 32.6% (4,612) (3,109) 48.3%
-------- -------- ----- -------- --------
Total ...... $ 13,407 $ 12,658 5.9% $ 13,641 $ 12,128 12.5%
======== ======== ===== ======== ========
During the years ended December 31, 2001 and 2000, net investment income
earned was $604,463 and $576,406, respectively. The return on average invested
assets was 6.01% for the year 2001 as compared to 6.28% for the year 2000. The
slight decrease in the return is attributed to the decrease in overall interest
rates. Net realized gains for the years ended December 31, 2001 and 2000 were
$305,461 and $38,381, respectively. Net realized gains during 2001 are a result
of gains on bond disposals of $329,360 which is offset by losses of $23,899 on
stock disposals. Realized gains in year 2000 are attributed to stock disposals.
Commission Income
-----------------
Commission income represents earnings from subsidiary agencies on bonds
sold through insurance carriers that have the capacity for writing bonds not
offered by CCS. Inter-company related commission earnings and expenses have been
eliminated in preparing the consolidated financial statements. Commission income
for the year ended December 31, 2001 increased by $27,060 or 7% when compared to
the same period in the prior year.
Other Income
------------
Other income is earned through an affiliate offering claims consulting
services to insurance carriers. Primarily, their services include management,
administration and completion of jobs defaulted under surety bonds. Other income
for 2001 increased by $200,223 or 15% when compared to the same period in the
prior year.
Loss and Loss Adjustment
------------------------
Loss and loss adjustment reserves have been prepared by consulting
actuaries in accordance with accepted actuarial standards. The Company writes
two lines of business classified as other liability and surety and fidelity
bonds. The category of other liability GAAP reporting requirements changed
effective January 1, 2001 under SFAS No. 133 Accounting for Derivative
Instruments and Hedging Activities and are discussed as a separate item for the
reporting year ended December 31, 2001. The following table is a presentation of
how the reserves are presented on the Consolidated Balance Sheet for year ended
December 31, 2001.
Year Ended December 31,
---------------------------
2001 2000
---------------------------
Loss and loss adjustment reserves ............ $5,284,804 $6,245,818
Derivative instruments ....................... 3,597,782 --
---------- ----------
Totals ................................... $8,882,586 $6,245,818
========== ==========
Less:
Derivative instruments (SFAS No. 133
as of January 1, 2001 formerly
included in loss and loss
adjustment reserves ..................... 3,237,782 --
Additional amount required under
SFAS 133 ................................ 360,000 --
---------- ----------
Loss and loss adjustment expense
reserves ................................ $5,284,804 $6,245,818
========== ==========
The amount that would be attributed to derivative instruments for the year
ended December 31, 2000 is $310,005 and is included in liability for loss and
loss adjustment expense reserves.
Loss and loss adjustment expenses totaled $4,511,910 and $3,360,358 for the
years ended December 31, 2001 and 2000, respectively, representing an increase
of $1,151,522 for year 2001. In analyzing losses on direct and assumed business
segregated from loss adjustment expenses, losses increased $430,741 (direct
business) and $1,053,943 (assumed business) over the prior year. The Company
processed 193 claims for payment during 2001 with an average settlement, net of
reinsurance amounting to $10,130 on its direct line of business as compared to
processing 122 claims for payment during 2000 with an average settlement, net of
reinsurance totaling $14,360.
Loss adjustment expenses (LAE's) represent the cost of the internal claims
department, outside claims consultants and attorneys in connection with the
settlement of claims. LAE's decreased $333,132 when compared to the same period
in the prior year. The decrease is a result of CCS processing claims through the
home office.
The loss and loss adjustment expense reserve liability at December 31, 2001
includes direct case losses and loss adjustment reserves on 30 claims with an
average reserve of approximately $58,295. The balance of the loss and loss
adjustment expense reserve liability is held under IBNR (incurred but not
reported) on direct and assumed surety claims totaling $3,535,967.
Derivative Instruments
----------------------
Prior to 2001, the Company reserved for the RIA policy at a percentage of
the earned premium. The change in valuation became significant when SFAS No. 133
Accounting for Derivative Instruments and Hedging Activities became effective
January 1, 2001.
In valuing the reserves on the RIA, the Company had no history other than
relying on market fluctuation projections which had a history of supporting the
actuarial formulas developed when the policy was initially approved by
Consulting Actuaries and Florida regulators. With the implementation of SFAS No.
133 Accounting for Derivative Instruments and Hedging Activities, the impact on
how reserves were valued was immediate. At December 31, 2001, the RIA was
established using a growth factor, lapse factor and loss projections before
applying a present value factor to ultimately determine the liability to the
Company. At December 31, 2001 the derivative instrument liability (formerly Loss
and loss adjustment expense reserves) for this policy was set at $3,597,782. The
charge to earnings for the year ended December 31, 2001 was an additional
$360,000. The policies will begin maturing in June of 2002.
Amortization
------------
During the year ended December 31, 2001 the net amortization of deferred
policy acquisition costs were to $4,362,721 as compared to $3,767,107 for the
year ended December 31, 2000. The acquisition costs represent 23.9% and 24.7% of
the direct and assumed earned premiums for the years ended December 31, 2001 and
2000, respectively.
Operating Expenses
------------------
During the year ended December 31, 2001, operating expenses and taxes,
licenses and fees (excluding income taxes) increased to $6,159,044 from
$5,308,516 for the same period in 2000. The increase of $850,600 or 16% is a
result of increased salary and related expenses ($307,000); accounting and
actuarial fees ($107,000); legal fees ($66,400); credit reports ($48,000);
office supplies and related expenses ($178,100) and travel expenses ($93,100)
and taxes, license and fees ($51,000). The Company's increase in expenses is
related to the Company's direct marketing efforts and continued expansion. The
Company reclassified $466,332 and $146,633 attributed to in-house in claims
expenses to loss adjustment expenses for the year ended December 31, 2001 and
2000, respectively.
Interest Expense
----------------
Interest expense on non-affiliated debt is interest paid to the former
owners of The Surety Group and Surety Associates on notes due to agencies the
Company purchased in 1995. Interest on affiliated debt represents interest on a
note payable to TransCor, a division of KC.
Income Taxes
------------
The Company incurred income tax (benefit) expense during 2001 and 2000 of
$(75,932) and $764,390, respectively. The Company's effective tax rate for the
2001 is 26.7% and 42% for 2000.
Asset Impairment
----------------
In accordance with Statement of Financial Accounting Standard 121 ("SFAS
121"), goodwill and other long-lived assets that were capitalized in conjunction
with the purchase of Associates Acquisition Corp., d/b/a Surety Associates, were
deemed impaired as of December 31, 2001, and an asset impairment charge of
$437,418 was recorded.
Liquidity and Capital Resources
- -------------------------------
The capacity of a surety company to underwrite insurance and reinsurance is
based on maintaining liquidity and capital resources sufficient to pay claims
and expenses as they become due. Based on standards established by the National
Association of Insurance Commissioners (NAIC) and promulgated by the Florida
Department of Financial Services, the Company is permitted to write net premiums
up to an amount equal to three times its statutory surplus, or approximately
$14,204,000 at December 31, 2002. Statutory guidelines impose an additional
limitation on increasing net written premiums to no more than 33% of prior
year's net written premiums. Under these guidelines, the Company could increase
net written premiums by approximately $1,800,000.
At December 31, 2002, the Company's $29,178,488 of total assets were
distributed primarily as follows: 34.2 percent in cash and investments
(including accrued investment income), 50.1 percent in receivables and
reinsurance recoverables, 7.2 percent in intangibles and deferred policy
acquisition costs, 5.1 percent in deferred income tax asset and 3.4 percent in
other assets.
The Company follows investment guidelines that are intended to provide an
acceptable return on investment while maintaining sufficient liquidity to meet
its obligations.
Net cash (used in) provided by operating activities was $(3,723,761),
$2,753,355 and $191,380 for the years ended December 31, 2002, 2001 and 2000,
respectively. In 2002, cash (used in) provided by operating activities is
primarily attributed to payment of claims resulting in policy liabilities and
reinsurance ceded payable decreasing and reinsurance recoverables increasing. In
2001, cash provided by operating activities was primarily attributed to an
increase in policy liabilities and accruals. In 2000, cash provided by operating
activities was attributed to policy liabilities which was offset by reinsurance
recoverable and policy acquisition costs and amortization.
Net cash provided by (used in) investing activities was $1,787,211,
$(572,432) and $(1,293,487) for the years ended December 31, 2002, 2001 and
2000, respectively. Investing activities consist primarily of purchases, sales
and maturities of investments.
Net cash used in financing activities was $(124,322), $(220,570) and
$(204,262) for the years ended December 31, 2002, 2001 and 2000, respectively.
Financing activities consist primarily of repayments on borrowings and advances
to (from) affiliates during 2002, 2001 and 2000.
The following summarizes the Company's contractual cash obligations at
December 31, 2002 and the effect such obligations are expected to have on its
liquidity and cash flow in future periods.
Payments Due by Period (in thousands)
------------------------------------------
Less than 1-3 4-5 After 5
Total 1 Year Years Years Years
------------------------------------------
Contractual cash obligations:
Operating leases .................. $1,345 $ 262 $ 654 $ 365 $ 64
Debt instruments .................. 1,059 676 144 144 95
------ ------ ------ ------ ------
Total contractual cash obligations $2,404 $ 938 $ 798 $ 509 $ 159
====== ====== ====== ====== ======
At December 31, 2002 and 2001, the Company did not have any other
commercial commitments, such as guarantees or standby repurchase obligations, or
any relationships with unconsolidated entities or financial partnerships, such
as entities often referred to as structured finance or special purpose entities,
which would have been established for the purpose of facilitating off-balance
sheet arrangements or other contractually narrow or limited purposes.
Losses and Loss Adjustment Expenses
- -----------------------------------
The consolidated financial statements include the estimated liability for
unpaid losses and loss adjustment expenses (LAE) of CCS. The liabilities for
losses and LAE's are determined using case-basis evaluations and statistical
projections and represent estimates of the ultimate net cost of all unpaid
losses and LAE's incurred through the end of the period. These estimates are
subject to the effect of trends in future claim severity and frequency. These
estimates are continually reviewed and, as experience develops and new
information becomes known, the liability is adjusted as necessary; such
adjustments, if any, are included in current operations.
Reconciliation of Liability for Losses and Loss Adjustment Expenses
- -------------------------------------------------------------------
The following table provides a reconciliation of the beginning and ending
liability balances, net of reinsurance recoverable, for 2002, 2001 and 2000 to
the gross amounts reported in the Company's balance sheets:
December 31,
-----------------------------------------------------
2002 2001 2000
-----------------------------------------------------
Gross liability for losses and LAE at beginning
of year ........................................................... $ 5,284,804 $ 6,245,819 $ 6,408,490
Recoverables on losses and LAE ....................................... 1,812,616 2,911,070 3,599,763
----------- ----------- -----------
Liability for losses and LAE on unpaid losses before
adjustment for incurred and paid losses ........................... 3,472,188 3,334,749 2,808,727
Incurred losses and LAE's claims, net of
reinsurance, occurring during:
Current year ...................................................... 8,203,575 5,448,480 4,363,435
Prior year ........................................................ 348,740 (936,570) (1,003,077)
----------- ----------- -----------
Total incurred losses, net of reinsurance ............................ 8,552,315 4,511,910 3,360,358
Losses and LAE payments for claims, net of
reinsurance, occurring during:
Current year ...................................................... 5,469,929 1,798,145 2,450,587
Prior years ....................................................... 3,936,415 2,576,326 383,749
----------- ----------- -----------
Total payments ....................................................... 9,433,344 4,374,471 2,834,336
----------- ----------- -----------
Liability for losses and LAE, net .................................... 2,591,159 3,472,188 3,334,749
Add: recoverables on losses and LAE's ............................... 6,304,311 1,812,616 2,911,070
----------- ----------- -----------
Liability for losses and LAE, at end of year ......................... $ 8,895,470 $ 5,284,804 $ 6,245,819
=========== =========== ===========
The Company experienced a deficiency of $348,740 for the period ended
December 31, 2002. The deficiency is a result of settling claim basis reserves
established in prior years for amounts that were more than expected. The Company
experienced $936,570 and $1,003,077 in redundancies for losses and loss
adjustment expenses in 2001 and 2000, respectively. The redundancies principally
result from subrogation received on pooling agreement case base reserves and
claims in prior years.
KC and SSI entered into an agreement with an independent contractor, AEC on
August 16, 1989 on a construction contract with the United States Navy ("Navy").
At the time the bonds were issued by CCS as surety, KC entered into an
indemnification agreement, whereby KC indemnified CCS from any and all losses,
costs and expenses incurred related to the bonds. In 1991, the Navy defaulted
and terminated AEC on the contract. The contract was subsequently litigated and
CCS was unsuccessful in its litigation activities with the Navy. As a result, KC
reimbursed CCS $1,500,000 of the total subrogation recoverable of $1,850,877 in
November 2001 on the contract. CCS wrote off the remaining $350,877 reinsurance
recoverable as a charge to loss and loss adjustment expense and incurred an
additional $240,000 in legal fees during 2001.
The anticipated effect of inflation is implicitly considered when
estimating liabilities for losses and LAE. While anticipated price increases due
to inflation are considered in estimating the ultimate claim costs, the increase
in average severities of claims is caused by a number of factors. Future average
severities are projected based on historical trends adjusted for anticipated
changes in underwriting standards, policy provisions, and general economic
trends. These anticipated trends are monitored based on actual development and
are modified if necessary.
The differences between the December 31, 2002 liability for losses and LAE
reported in the accompanying consolidated financial statements in accordance
with accounting principles generally accepted in the United States of America
("GAAP") and that reported in the annual statement filed with the state
insurance departments in accordance with insurance accounting practices
prescribed or permitted by the Florida Department of Financial Services as
follows:
Statutory reserves for losses and LAE's (which is net of
reinsurance recoverables on unpaid losses and LAE) .......... $ 4,638,870
Reinsurance recoverables on losses and LAE's ................... 4,999,661
Subrogation recoverables on losses and LAE's ................... 1,304,649
Statutory reserve for derivative instrument .................... (2,047,710)
-----------
Liability for losses and LAE, as reported in the accompanying
GAAP basis consolidated financial statements ................ $ 8,895,470
===========
Analysis of Loss and Loss Adjustment Expense Development
- --------------------------------------------------------
The following table represents the development of the liability for unpaid
losses and LAE, net of reinsurance, for 1992 through 2002 (in thousands).
1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002
-------- -------- -------- ------- -------- -------- -------- -------- -------- -------- --------
Gross liability for loss
and LAE.................... $2,426 $ 3,355 $ 3,138 $2,352 $ 2,305 $ 2,550 $ 3,220 $ 6,409 $ 6,246 $ 5,285 $ 8,895
Reinsurance.................. - - - - (313) - - (1,832) (1,060) (1,171) (4,999)
------ -------- -------- ------ -------- -------- -------- -------- -------- -------- --------
Liability for
losses and loss
Adjustment
expenses, net
of reinsurance............. $ 2,426 $ 3,355 $ 3,138 $ 2,352 $ 1,992 $ 2,550 $ 3,220 $ 4,577 $ 5,186 $ 4,113 $ 3,896
Liability
re-estimated as
of:
One year later............. 3,884 5,327 2,684 3,113 1,801 3,117 3,033 3,657 3,783 4,462 -
Two years later............ 4,057 3,878 2,818 2,972 2,420 3,479 2,506 1,830 3,394 - -
Three years later.......... 3,561 4,147 2,788 3,456 2,888 3,088 997 1,098 - - -
Four years later........... 3,814 4,006 3,134 3,803 2,668 1,686 544 - - - -
Five years later........... 3,564 4,582 3,394 3,571 1,158 1,715 - - - - -
Six years later............ 4,376 4,905 3,180 2,082 1,253 - - - - - -
Seven years later.......... 4,077 4,791 1,641 2,102 - - - - - - -
Eight years later.......... 4,045 3,211 1,654 - - - - - - - -
Nine years later........... 2,431 3,201 - - - - - - - - -
Ten years later............ 2,468 - - - - - - - - - -
-------- -------- -------- ------- -------- -------- -------- -------- -------- -------- --------
Cumulative
(deficiency)
redundancy................... $ (42) $ 154 $ 1,484 $ 250 $ 739 $ 835 $ 2,676 $ 3,479 $ 1,792 $ (349) $ -
======== ======== ======== ======= ======== ======== ======== ======== ======== ======== ========
1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002
-------- -------- -------- ------- -------- -------- -------- -------- -------- -------- --------
Cumulative
amount of
liability, net
of reinsurance
recoverables,
paid through:
One year later............ $ 1,151 $ 765 $ 1,643 $ 1,334 $ 563 $ 1,802 $ 2,155 $ 2,196 $ 2,249 $ 4,071 $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Two years later........... $ 1,834 $ 1,058 $ 2,316 $ 2,186 $ 1,631 $ 2,856 $ 1,878 $ 90 $ 3,112 $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Three years later......... $ 2,088 $ 2,868 $ 2,164 $ 2,997 $ 2,466 $ 2,575 $ 488 $ 99 $ - $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Four years later.......... $ 1,957 $ 3,717 $ 2,875 $ 3,506 $ 2,336 $ 1,345 $ 271 $ - $ - $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Five years later.......... $ 3,533 $ 4,442 $ 3,230 $ 3,360 $ 929 $ 1,506 $ - $ - $ - $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Six years later........... $ 3,840 $ 4,804 $ 3,062 $ 1,906 $ 1,116 $ - $ - $ - $ - $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Seven years later......... $ 2,278 $ 4,769 $ 1,572 $ 1,998 $ - $ - $ - $ - $ - $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Eight years later......... $ 2,183 $ 3,204 $ 1,633 $ - $ - $ - $ - $ - $ - $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Nine years later.......... $ 2,424 $ 3,199 $ - $ - $ - $ - $ - $ - $ - $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Ten years later........... $ 2,469 $ - $ - $ - $ - $ - $ - $ - $ - $ - $ -
======== ======== ======== ======= ======= ======= ======== ======== ======== ======== ========
Effect of Inflation
- -------------------
Inflation has not had a material impact upon the Company's operations for
the last three years.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
------- ----------------------------------------------------------
Interest Rate Sensitivity
-------------------------
The following tables present principal maturity cash flows and related
weighted average interest rates by expected maturity as of December 31, 2002 and
2001:
2002 Expected Maturity Date
---------------------------
Fair
There- Value
2003 2004 2005 2006 2007 after Total 12/31/02
----------------------------------------------------------------------------------------------
(In thousands)
Assets
- ------
Debt securities available for sale $ 2,876 $ 630 $ 976 $ 1,724 $ 293 $ 1,259 $ 7,758 $7,758
Average interest rate .......... 5.4% 5.83% 6.1% 5.6% 7.48% 7.0% 6.0% 6.0%
Debt securities held to maturity .. 260 100 -- -- -- -- 360 $ 367
Average interest rate .......... 5.5% 5.5% -- -- -- -- 5.5% 5.5%
Mortgage loans .................... 40 1 1 1 1 31 75 $ 75
Average interest rate .......... 7.5% 7.5% 7.5% 7.5% 7.5% 7.5% 7.5% 7.5%
Short-term investments ............ 434 -- -- -- -- -- 434 $ 434
Average interest rate .......... 2.3% -- -- -- -- -- 2.3% 2.3%
Liabilities
- -----------
Debt including current
portion ........................ $ 676 $ 72 $ 72 $ 72 $ 72 $ 95 $ 1,059 $1,059
Average interest rate .......... 9.8% 6.3% 6.3% 6.3% 6.3% 6.3% 6.8% 6.8%
2001 Expected Maturity Date
---------------------------
Fair
There- Value
2002 2003 2004 2005 2006 after Total 12/31/01
------------------------------------------------------------------------------------------
(In thousands)
Assets
- ------
Debt securities available for sale ..... $ 502 $ 3,424 $ 1,140 $ 1,757 $ 1,071 $ 1,445 $ 9,339 $9,339
Average interest rate ............... 6.4% 5.3% 5.8% 6.7% 5.8% 7.2% 6.2% 6.2%
Debt securities held to maturity ....... -- 260 100 -- -- -- 360 $ 374
Average interest rate ............... -- 5.5% 5.5 -- -- -- 5.5% 5.5%
Mortgage loans ......................... 2 2 2 2 2 31 41 $ 41
Average interest rate ............... 7.5% 7.5% 7.5% 7.5% 7.5% 7.5% 7.5% 7.5%
Short-term investments ................. 434 -- -- -- -- -- 434 $ 434
Average interest rate ............... 5.5% -- -- -- -- -- 5.5% --
Liabilities
- -----------
Debt including current
portion ............................. $ 729 $ 72 $ 72 $ 72 $ 72 $ 239 $ 1,256 $1,256
Average interest rate ............... 8.1% 6.3% 6.3% 6.3% 6.3% 6.3% 6.6% 6.6%
The operations of the Company are subject to risk resulting from interest
rate fluctuations to the extent that there is a difference between the amount of
the Company's interest-earning assets and the amount of interest-bearing
liabilities that are prepaid/withdrawn, mature or reprice in specified periods.
The principal objective of the Company's asset/liability management activities
is to provide maximum levels of net interest income while maintaining acceptable
levels of interest rate and liquidity risk and facilitating the funding needs of
the Company.
Due to the limited nature and duration of claims, generally one to two
years, the Company maintains a portfolio with a yield that approximates the
money market interest rate scenario.
Additionally, the Company's exposure to rapid changes in interest rates is
partially mitigated because most of the Company's interest-earning assets and
interest-bearing liabilities being written are at fixed rates.
New Accounting Standards
------------------------
In August 2001, the FASB issued SFAS No. 143, Accounting for Asset
Retirement Obligations ("SFAS 143"). SFAS 143 provides accounting and reporting
standards related to obligations associated with the retirement of tangible
long-lived assets. SFAS 143 is effective on January 1, 2003, however, earlier
application is encouraged. The Company has not evaluated the effect, if any,
that the adoption of SFAS 143 will have on the Company's consolidated financial
statements.
In April 2002, the FASB issued SFAS 145, "Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB 13, and Technical Corrections". SFAS 145
rescinds FASB No. 4, Reporting Gains and Losses form Extinguishment of Debt, and
an amendment of that Statement, FASB 64, Extinguishments of Debt Made to Satisfy
Sinking-Fund Requirements. SFAS 145 also rescinds SFAS 44, Accounting for
Intangible Assets of Motor Carriers", and FASB 13, Accounting for Leases,
eliminating an inconsistency between certain sale-leaseback transaction. The
provisions of SFAS 145 are effective for fiscal years beginning after May 15,
2002.
In June 2002, the FASB issued SFAS 146, "Accounting for Costs Associated
with Exit or Disposal Activities". SFAS 146 addresses financial accounting and
reporting for costs associated with exit or disposal activities and nullifies
EITF Issue No. 94-3, "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring)". SFAS No. 146 requires costs associated with exit or
disposal activities to be recognized when the costs are incurred, rather than at
a date of commitment to an exit or disposal.
Item 8. Consolidated financial statements and Supplementary Data
------ --------------------------------------------------------
The consolidated financial statements of the Company required by this Item
are listed in Item 15(a)(1) and (2) and are submitted as a separate section of
this report.
The following information presents unaudited quarterly operating results
for the Company for 2002 and 2001. The data has been prepared by the Company on
a basis consistent with the Consolidated Financial Statements included elsewhere
in this Form 10-K, and include all adjustments, consisting of normal recurring
accruals, that the Company considers necessary for a fair presentation thereof.
Three Months Ended
------------------
(In thousands, except per share data) 12/31/02 9/30/02 6/30/02 3/31/02 12/31/01 9/30/01 6/30/01 3/31/01
- ------------------------------------ -------- -------- -------- -------- -------- -------- -------- --------
Revenue ........................... $ 3,136 $ 4,795 $ 4,498 $ 3,812 $ 4,663 $ 4,217 $ 3,786 $ 3,856
-------- ------- ------- ------- ------- ------- ------- -------
Benefit related expenses .......... 597 4,728 4,590 2,737 3,176 2,889 1,891 1,979
Operating and other expenses ...... 1,262 1,464 1,866 1,478 1,695 1,660 1,863 1,545
-------- ------- ------- ------- ------- ------- ------- -------
Total benefits and expenses ....... 1,859 6,192 6,456 4,215 4,871 4,549 3,754 3,524
-------- ------- ------- ------- ------- ------- ------- -------
(Loss) income before income
tax (benefit) expense and
extraordinary gain .............. 1,277 (1,397) (1,958) (403) (208) (332) 32 332
Income tax (benefit) expense ...... (267) (297) (745) (137) 60 (131) 5 110
-------- ------- ------- ------- ------- ------- ------- -------
(Loss) income before extraordinary
gain ............................ 1,010 (1,100) (1,213) (266) (148) (201) 27 222
Extraordinary gain (net of taxes) . -- -- -- -- 158 -- -- --
-------- ------- ------- ------- ------- ------- ------- -------
Net (loss) income ................. $ 1,010 $ (1,100) $(1,213) $ (266) $ 10 $ (201) $ 27 $ 222
======== ======= ======= ======= ======= ======= ======= =======
Weighted average shares
Outstanding - basic ............. 5,597 5,597 5,597 5,597 5,589 5,597 5,597 5,564
------- ------- ------- ------- ------- ------- ------- -------
Net (loss) income per share - basic $ .18 $ (0.20) $ (0.22) $ (0.05) $ (0.01) $ 0.04 $ 0.01 $ (0.04)
======= ======= ======= ======= ======= ======= ======= =======
Weighted average shares
Outstanding - diluted ........... 5,597 5,597 5,597 5,620 5,612 5,667 5,667 5,564
------- ------- ------- ------- ------- ------- ------- -------
Net (loss) income per share -
Diluted ......................... $ .18 $ (0.20) $ (0.22) $ (0.05) $ 0.01 $ (0.04) $ 0.01 $ 0.04
======= ======= ======= ======= ======= ======= ======= =======
Item 9. Changes in and Disagreements with Accountants on
------ Accounting and Financial Disclosure.
-----------------------------------
None.
Item 10. Directors and Executive Officers of the Registrant
------- --------------------------------------------------
The current directors and executive officers of the Company are as follows:
Name Age Position
---- --- --------
Francis M. Williams 61 Chairman of the Board of Directors
Joseph M. Williams 46 President and Treasurer
Andrew J. Cohen 49 Director
R. Donald Finn 59 Director
All Directors of the Company hold office until the next annual meeting of
stockholders and the election and qualification of their successors. Officers of
the Company are elected annually by the Board of Directors and hold office at
the discretion of the Board.
Set forth below is information regarding the directors and executive
officers of the Company:
Francis M. Williams has been Chairman of the Board of the Company since its
inception and, until June 1992, was President of the Company. In addition, Mr.
Williams has been Chairman of the Board and Director of CCS and SSI from
inception and President and Chairman of the Board of KC since its inception in
1979. Prior to November 1988, Mr. Williams was the Chairman of the Board and
Chief Executive Officer of Kimmins Corp. and its predecessors and sole owner of
K Management Corp. From June 1981 until January 1988, Mr. Williams was the
Chairman of the Board of Directors of College Venture Equity Corp., a small
business investment company; and since June 1981, he has been Chairman of the
Board, Director, and sole stockholder of Kimmins Coffee Service, Inc., an office
coffee service company. Mr. Williams has also been a director of the National
Association of Demolition Contractors and a member of the executive committee of
the Tampa Bay International Trade Council.
Joseph M. Williams has served as the Treasurer and President of the Company
since June 1992. He also served as Vice President and Secretary of the Company
from its inception on November 18, 1991 through June 1992. Mr. Williams served
as a member of the Board of Directors of the Company from November 18, 1991
through February 24, 1997. In addition, Mr. Williams has been the Secretary and
Treasurer of Kimmins Corp. since October 1988 and a member of the Board of
Directors of CCS since 1988. He held the position of President of CCS from 1991
through August of 1996. On November 11, 2002, Mr. Williams was elected as
President of CCS. From 1989 through 1990 he held the position of Secretary and
Treasurer of CCS and from 1991 through 1994 served as Treasurer of CCS. Mr.
Williams has been employed by the Company and Kimmins Corp. in various
capacities since 1994. From January 1982 to December 1983, he was managing
partner of Williams and Grana, a firm engaged in public accounting. From January
1978 to December 1981, Mr. Williams was employed as a senior tax accountant with
Price Waterhouse & Company. Joseph M. Williams is the nephew of Francis M.
Williams.
Andrew J. Cohen was elected as a Director to the Company's Board effective
February 24, 1997. Currently Co-President and Chief Executive Officer of ABC
Capital Corp., an investment management firm based in Tampa, Florida and also
acts as Co-Chairman on their Board of Directors. In addition, Mr. Cohen is
President of Albany Associates, Inc., a Tampa based management consulting firm.
From June of 1972 through 1997, Mr. Cohen was co-President of ABC Fabric of
Tampa, Inc. which was the fourth largest private retail fabric company in the
United States. Mr. Cohen brings both national marketing and corporate management
experiences to the Company.
R. Donald Finn was elected as a Director to the Company's Board effective
September 9, 1999. For more than the last five years, Mr. Finn has been a
partner in the law firm of Gibson, McAskill & Crosby, located in Buffalo, New
York, where Mr. Finn has practiced law for more than the last 25 years.
Beneficial Ownership Reporting Compliance
- -----------------------------------------
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
officers and directors, and persons who own more than 10 percent of a registered
class of the Company's equity securities, to file reports of ownership and
changes in ownership with the Securities and Exchange Commission ("SEC").
Officers, directors, and greater than 10 percent stockholders are required by
SEC regulation to furnish the Company with copies of all Section 16(a) forms
they file. Based solely on the Company's review of the copies of such forms
received by it, or written representations from certain reporting persons that
no Form 5 was required for those persons, the Company believes that, during the
year ended December 31, 2002 all filing requirements applicable to its officers,
directors, and greater than 10 percent beneficial owners were complied with.
Item 11. Executive Compensation and Other Information
------- --------------------------------------------
Summary Compensation Table
- --------------------------
The following table provides certain summary information concerning
compensation paid or accrued by the Company and its subsidiaries to and on
behalf of the Company's President and CCS's President for each of the three
years in the period ended December 31, 2002:
All
Other Other
Annual Compensation
Name and Principal Position Year Salary Bonus Compensation (1)
- --------------------------- ---- ------ ----- ------------ -----------
Joseph M. Williams, ............................... 2002 $125,000 $ 50,000 $ 10,800 $ 12,065
President and Treasurer - CTI ..................... 2001 $125,000 $ 50,000 $ 10,800 $ 10,295
2000 $ 95,000 $ 64,000 $ 7,650 $ 8,641
(1) Represents the Company's contribution to the employee's account of the
Company's 401(k) Plan and premiums paid by the Company for term life
insurance and long-term disability. These plans, subject to the terms and
conditions of each plan, are available to all employees.
Aggregate Option Exercises in 2002 and December 31, 2002 Option Values
- ----------------------------------------------------------------------
Mr. Joseph M. Williams exercised 56,000 and 44,000 options in 2001 and
2000, respectively. During 2002, no options were exercised or granted.
Compensation Committee Interlocks and Insider Participation
- -----------------------------------------------------------
There is no compensation committee of the Company's Board of Directors or
other committee of the Board performing equivalent functions. The person who
performs the equivalent function is Francis M. Williams, Chairman of the Board.
Francis Williams serves as an executive officer and director of Kimmins Corp. of
which Joseph Williams is also an executive officer.
Compensation of Directors
-------------------------
During the year ended December 31, 2002 and 2001, respectively, the Company
paid Francis M. Williams an annual fee of $75,000 as Chairman of the Board. All
non-officer Directors received an annual fee of $5,000. Directors are reimbursed
for all out-of-pocket expenses incurred in attending Board of Directors and
committee meetings.
Board Compensation Committee Report on Executive Compensation
- -------------------------------------------------------------
There is no formal compensation committee of the Board of Directors or
other committee of the Board performing equivalent functions. As noted above,
compensation is determined by Francis M. Williams, Chairman of the Board of the
Company under the direction of the Board of Directors. There is no formal
compensation policy for the Chief Executive Officer of the Company. Compensation
of the Chief Executive Officer, which primarily consists of salary, is based
generally on performance and the Company's resources. Compensation for Mr.
Joseph Williams has been fixed annually each year by the Chairman of the Board.
Mr. Joseph Williams' compensation is not subject to any employment contract.
Item 12. Security Ownership of Certain Beneficial Owners
------- and Management
--------------
Common Stock Ownership of Certain Beneficial Owners and Management
- ------------------------------------------------------------------
The following table sets forth the number of shares of the Company's Common
Stock beneficially owned as of December 31, 2002 by (i) persons known by the
Company to own more than 5 percent of the Company's outstanding Common Stock,
(ii) each director and officer of the Company, and (iii) all directors and
executive officers of the Company as a group:
Amount and Nature of Percent of Issued
Name and Address Beneficial Ownership of and Outstanding
of Beneficial Owner (1) (2) Common Stock Common Stock
--------------------------- ---------------------- -----------------
Francis M. Williams 3,897,145 (3) 69.6%
Joseph M. Williams 360,493 (4) 6.4%
R. Donald Finn 7,131 (5) .1%
Andrew J. Cohen 47,590 (6) .9%
Kimmins Corp. 1,723,290 30.8%
All directors and executive
officers as a group (four persons) 4,886,215 87.3%
(1) The address of all officers and Directors of the Company listed above are
in care of the Company at 4311 West Waters Avenue, Suite 401, Tampa,
Florida 33614.
(2) The Company believes that the persons named in the table have sole voting
and investment power with respect to all shares of common stock
beneficially owned by them, unless otherwise noted.
(3) Includes 2,677,322 shares owned by Mr. Francis Williams; 1,149,434 shares
allocated to Mr. Williams based on his 66.7% ownership in Kimmins Corp.,
29,345 shares owned by Mr. Williams' wife; 22,748 shares held by Mr.
Williams as trustee for his wife and children and 18,296 shares held by Mr.
Williams as custodian under the New York Uniform Gifts to Minors Act for
his Children. Mr. Williams owns 66.7% of the outstanding common stock of
Kimmins Corp. and is its Chairman and Chief Executive Officer.
(4) Includes 133,500 shares owned by Mr. Joseph M. Williams; 1,010 shares held
by Mr. Williams as trustee for his children; 219 shares held by the KC
401(K) Plan and ESOP of which Mr. Williams is fully vested. Also includes
205,764 shares held by KC's 401(K) Plan, Profit Participation Plan and
ESOP, options to acquire 20,000 shares of the Company's Common Stock held
by the ESOP, of which Mr. Williams is a trustee; Mr. Williams disclaims
beneficial ownership of these shares.
(5) Includes 2,131 shares owned by Mr. R. Donald Finn and options to acquire
5,000 shares of the Company's common stock.
(6) Includes 72,540 shares owned by C&C Properties a partnership in which Mr.
Cohen has a 50% ownership, 6,320 shares held in trust for Mr. Cohen's minor
children and options to acquire 5,000 shares of the Company's common stock.
Item 13. Certain Relationships and Related Transactions
------- ----------------------------------------------
Surplus Debentures/Term Note
----------------------------
In 1988, CCS issued a surplus debenture to KC in exchange for $3,000,000
which bears interest at 10 percent per annum. In 1992, the debenture due to KC
from CCS was assigned to CTI. Interest and principal payments are subject to
approval by the Florida Department of Financial Services. On April 1, 1997, CTI
forgave $375,000 of its $3,000,000 surplus debenture due to CCS. As a result,
CCS increased paid-in-capital by $375,000. As of December 31, 1999, no payments
could be made under the terms of the debenture. On June 30, 1999, CTI forgave
$576,266 of its $2,625,000 surplus debenture due to CCS. As a result, CCS
increased paid-in-capital to $1,000,000 from $423,734. As of December 31, 2002,
no payments could be made under the terms of the debenture. In 2003, CTI forgave
the balance of its surplus note to CCS in the amount of $2,048,734. As a result
paid-in and contributed surplus of CCS increased to $3,048,734.
Effective November 10, 1988, the Company entered into a $1,000,000
convertible term note agreement with TransCor Waste Services, Inc., a subsidiary
of KC. The note, originally due November 10, 2001, has been extended to November
10, 2004. The annual rate of interest is equal to one half of one percent per
annum in excess of the stated interest rate established by the Bank of America.
The average interest rate for 2002 was 8.6%. On December 26, 2001, the Company
made a principal note payment of $395,945 reducing the note to $604,055. The
lender may convert the principal amount of the note or a portion thereof into
common stock at $3.00 per share subsequent to a six-month anniversary and prior
to the close of business on the maturity date.
CCS writes surety bonds for KC and its affiliates. Revenues attributable to
transactions with KC and its affiliates were $264, $88 and $7,816 for the years
ended December 31, 2002, 2001 and 2000, respectively. Qualex performs consulting
services for KC and affiliates. Revenue attributable to transaction with
affiliates were $16,586, $121,089 and $171,292 for years ended December 31,
2002, 2001 and 2000, respectively.
Item 14. Controls and Procedures
------- -----------------------
Within the 90-day period to the filing of this report, evaluations were
carried out under the supervision and with the participation of the Company's
management, including the President and Chief Financial Officer, of the
effectiveness of the design and operation of the disclosure controls and
procedures (as defined in Rule 13a-14(c) under the Securities Exchange Act of
1934). Based upon those evaluations, the President and Chief Financial Officer
concluded that, (subject to the limitations noted below), the design and
operation of these disclosure controls, and procedures were effective. No
significant changes have been made in internal controls or in other factors that
could significantly affect these controls subsequent to the date of the
evaluations.
Limitations on the Effectiveness of Controls
--------------------------------------------
Management, including the President and Chief Financial Officer, does not
expect that disclosure controls and procedures and internal controls will
prevent all error and all fraud. A control system, no matter how well conceived
and operated, can provide only reasonable, not absolute, assurance that the
objective, of the control system are met. Further, the design of a control
system must reflect the fact that there are resource constraints, and the
benefits of controls must be considered relative to their costs. Because of the
inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instance of fraud, if
any, within the Company have been detected. These inherent limitations include
the realities that judgments in decision-making can be faulty, and that
breakdowns can occur because of simple error or mistake. Additionally, controls
can be circumvented by the individual acts of some persons, by collusion of two
or more people, or by management override of the control.
The design of any system of controls also is based in part upon certain
assumptions about the likelihood of future events, and there can be no assurance
that any design will succeed in achieving its stated goals under all potential
future conditions; over time, control may become inadequate because of changes
in conditions or the degree of compliance with the policies or procedures may
deteriorate. Because of the inherent limitations in a cost-effective control
system, misstatements due to error or fraud may occur and not be detected.
Item 15. Exhibits, Consolidated financial statements, Schedules, and
-------- Reports on Form 8-K
-------------------
(a) The following documents are filed as part of this Annual Report on Form 10-K
1. Consolidated Financial Statements
- Independent Auditors' Report
- Consolidated Balance Sheets at December 31, 2002 and 2001
- Consolidated Statements of Operations for each of the three years
in the period ended December 31, 2002.
- Consolidated Statements of Stockholders' Equity for each of the
three years in the period ended December 31, 2002.
- Consolidated Statements of Cash Flows for each of the three years
in the period ended December 31, 2002.
- Notes to Consolidated Financial Statements
2. Financial Statement Schedule
Schedule II - Condensed Financial Information of Registrant
All other schedules for which provision is made in the applicable
accounting regulation of the Securities and Exchange Commission are not required
under the related instructions or are inapplicable and, therefore, have been
omitted.
3. The following documents are filed as exhibits to this Annual Report on
Form 10-K:
3(a) - Articles of Incorporation* 3(b) - Bylaws*
10(a) - Lease agreement with Cumberland Properties, Inc.*
10(c) - 1991 Stock Option Plan*
11 - Statement Re: Computation of Earnings Per Share
21 - Subsidiary list
99.1 - Certification under Section 906 of the Sarbanes-Oxley Act
of 2002
99.2 - Certification under Section 906 of the Sarbanes-Oxley Act
of 2002
* Note - Incorporated by reference to the same exhibit number filed
with the Registrant's Registration Statement on Form 10 (File No.
0-19727.)
(b) Reports on Form 8-K - On September 12, 2002 the Company filed a Form 8-K to
announce that it will be delisted from the NASDAQ SmallCap Market.
On October 3, 2002 the Company filed a Form 8-K to announce that it will be
listed on the Nasdaq OTC Bulletin Board.
(c) Exhibits - The response to this portion of Item 15 is submitted as a
separate section of this report.
(d) Financial Statement Schedules - The response to this portion of Item 15 is
submitted as a separate section of this report.
SIGNATURES
----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunder duly authorized.
CUMBERLAND TECHNOLOGIES, INC.
-----------------------------
Date: May 6, 2003 By: /s/ Joseph M. Williams
--------------------------------------------
Joseph M. Williams, President
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.
Date: May 6, 2003 By: /s/ Joseph M. Williams
--------------------------------------------
Joseph M. Williams, President
Date: May 6, 2003 By: /s/ Francis M. Williams
--------------------------------------------
Francis M. Williams, Chairman of the Board
Date: May 6, 2003 By: /s/ R. Donald Finn
--------------------------------------------
R. Donald Finn, Director
Date: May 6, 2003 By: /s/ Andrew J. Cohen
--------------------------------------------
Andrew J. Cohen, Director
Date: May 6, 2003 By: /s/ Carol S. Black
--------------------------------------------
Carol S. Black, Secretary
(Principal Financial and Accounting Officer)
Annual Report on Form 10-K
Item 15(a), (c) and (d)
List of Consolidated Financial Statements
Consolidated Financial Statement Schedules and Exhibits
Year Ended December 31, 2002
Cumberland Technologies, Inc.
Tampa, Florida
CUMBERLAND TECHNOLOGIES, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS,
FINANCIAL STATEMENT SCHEDULES AND EXHIBITS
------------------------------------------
The following consolidated financial statements of Cumberland Technologies,
Inc. are included herein:
Page
----
Independent Auditors' Report..................................................34
Consolidated Balance Sheets at December 31, 2002 and 2001..................35-36
Consolidated Statements of Operations for each of the three years
in the period ended December 31, 2002.......................................37
Consolidated Statements of Stockholders' Equity for each of the three
years in the period ended December 31, 2002.................................38
Consolidated Statements of Cash Flows for each of the three years
in the period ended December 31, 2002.......................................39
Notes to Consolidated Financial Statements....................................40
The following financial statement schedule is filed as part of this report:
Schedule II - Condensed Financial Information of Registrant...................63
All other schedules for which provision is made in the applicable accounting
regulation of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable and, therefore, have been omitted.
INDEPENDENT AUDITORS' REPORT
----------------------------
To the Board of Directors of
Cumberland Technologies, Inc.
We have audited the accompanying consolidated balance sheets of Cumberland
Technologies, Inc. and subsidiaries (the "Company") as of December 31, 2002 and
2001, and the related consolidated statements of operations, stockholders'
equity, and cash flows for each of the three years in the period ended December
31, 2002. Our audits also included the financial statement schedule listed in
the Index to Consolidated Financial Statements, Financial Statement Schedules
and Exhibits. These consolidated financial statements and financial statement
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on these consolidated financial statements and
financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the consolidated
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall consolidated 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 the Company at
December 31, 2002 and 2001 and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 2002, in conformity
with accounting principles generally accepted in the United States of America.
Also, in our opinion, the related financial statement schedule, when considered
in relation to the basic consolidated financial statements taken as a whole,
presents fairly in all material respects the information set forth therein.
As discussed in Note 2 to the consolidated financial statements, the Company
changed in 2002 its method of accounting for goodwill to conform to Statement of
Financial Standards No. 142, Goodwill and Other Intangible Assets and changed in
2001 its method for accounting for derivatives to conform to Statement of
Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities.
/s/ DELOITTE & TOUCHE LLP
Tampa, Florida
March 31, 2003
CUMBERLAND TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
ASSETS
------
December 31,
-------------------------
2002 2001
-------------------------
Investments:
- -----------
Debt securities available-for-sale at fair value $ 7,758,657 $ 9,339,353
Debt securities held-to-maturity at amortized
cost (fair value, 2002 - $367,681; and
2001 - $374,436) .............................. 359,898 359,475
Mortgage loan on real estate, at unpaid
principal ..................................... 716,413 681,790
Short-term investments .......................... 433,993 433,993
----------- -----------
Total investments ............................. 9,268,961 10,814,611
Cash and cash equivalents .......................... 593,259 2,654,131
Accrued investment income .......................... 123,894 154,527
Reinsurance recoverable ............................ 12,089,177 6,634,497
Accounts receivable:
- -------------------
Nonaffiliate less allowance for doubtful
accounts of $116,323 and $40,289,
respectively .................................. 2,518,187 4,615,327
Affiliate ....................................... -- 72,201
Income tax recoverable ............................. 1,073,686 --
Deferred income tax asset .......................... 401,738 499,145
Deferred policy acquisition costs .................. 1,665,694 1,903,547
Intangibles, net ................................... 288,473 380,951
Goodwill ........................................... 152,780 152,780
Other investment ................................... 700,124 640,872
Other assets ....................................... 302,515 371,893
----------- -----------
Total assets .................................. $29,178,488 $28,894,482
=========== ===========
See notes to consolidated financial statements.
CUMBERLAND TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
December 31,
---------------------------
2002 2001
---------------------------
Policy liabilities and accruals:
- -------------------------------
Loss and loss adjustment expense reserves ..... $ 8,895,470 $ 5,284,804
Derivative instruments ........................ 4,346,285 3,597,782
Unearned premiums ............................. 4,587,175 5,582,640
Ceded reinsurance payable ........................ 26,883 1,755,105
Accounts payable and other liabilities ........... 3,775,924 3,388,269
Income tax payable ............................... -- 113,284
Debt:
- ----
Nonaffiliate .................................. 455,417 651,940
Affiliate ..................................... 604,055 604,055
------------ ------------
Total liabilities ............................. 22,691,209 20,977,879
------------ ------------
Stockholders' equity:
- --------------------
Common stock, $.001 par value; 10,000,000
shares authorized; 5,915,356
shares issued ............................. 5,916 5,916
Capital in excess of par value ................ 7,270,316 7,270,316
Accumulated other comprehensive income ........ 210,574 70,729
(Accumulated deficit) retained earnings ....... (735,808) 833,361
------------ ------------
6,750,998 8,180,322
Less treasury stock, at cost, 318,112 shares at
December 31, 2002 and 2001 ................ (263,719) (263,719)
------------ ------------
Total stockholders' equity .................... 6,487,279 7,916,603
------------ ------------
Total liabilities and stockholders' equity $ 29,178,488 $ 28,894,482
============ =============
See notes to consolidated financial statements.
CUMBERLAND TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
-------------------------------------
Years ended December 31,
---------------------------------------------------------
2002 2001 2000
---------------------------------------------------------
Revenue:
- -------
Direct premiums earned ........................................... $ 13,980,567 $ 14,465,244 $ 12,756,102
Reinsurance premiums assumed ..................................... 3,497,789 3,788,443 2,480,712
Less reinsurance ceded ........................................... (4,046,606) (4,612,371) (3,108,861)
------------ ------------ ------------
Net premium income ............................................... 13,431,750 13,641,316 12,127,953
Net investment income ............................................ 486,138 604,463 576,406
Net realized investment gains .................................... 66,239 305,461 38,381
Commission income ................................................ 507,112 413,422 386,362
Income from investment in affiliate .............................. 59,252 61,457 19,996
Other income:
- ------------
Affiliate .................................................... 16,586 121,089 171,292
Nonaffiliate ................................................. 1,673,501 1,374,916 1,124,490
------------ ------------ ------------
Total revenue .................................................... 16,240,578 16,522,124 14,444,880
------------ ------------ ------------
Benefits and Expenses:
- ---------------------
Losses and loss adjustment expenses .............................. 8,552,315 4,511,910 3,360,358
Derivative expense ............................................... 505,816 1,060,799 --
Amortization of deferred policy acquisition
costs ........................................................ 3,593,701 4,362,721 3,767,107
Operating expenses ............................................... 6,008,072 6,159,044 5,308,516
Impairment of long-lived assets .................................. -- 437,418 --
Interest expense:
- ----------------
Affiliate .................................................... 59,423 69,198 100,000
Nonaffiliate ................................................. 2,451 97,208 102,760
------------ ------------ ------------
Total benefits and expenses ...................................... 18,721,778 16,698,298 12,638,741
------------ ------------ ------------
(Loss) income before income tax (benefit)
expense and extraordinary gain .............................. (2,481,200) (176,174) 1,806,139
Income tax (benefit) expense ..................................... (912,031) (75,932) 764,390
------------ ------------ ------------
(Loss) income before extraordinary gain .......................... (1,569,169) (100,242) 1,041,749
Extraordinary gain (net of income tax) ........................... -- 158,610 --
------------ ------------ ------------
Net (loss) income ................................................ $ (1,569,169) $ 58,368 $ 1,041,749
============ ============ ============
Income per basic share:
- ----------------------
Income (loss) before extraordinary gain ...................... $ (.28) $ (0.02) $ 0.19
Extraordinary gain ........................................... -- 0.03 --
------------ ------------ ------------
Net (loss) income ............................................ $ (.28) $ 0.01 $ 0.19
============ ============ ============
Weighted average shares outstanding - basic ...................... 5,597,244 5,589,167 5,528,849
Income per diluted share:
- ------------------------
Income (loss) before extraordinary gain ...................... $ (.28) $ (0.02) $ 0.19
Extraordinary gain ........................................... -- 0.03 --
------------ ------------ ------------
Net (loss) income ............................................ $ (.28) $ 0.01 $ 0.19
============ ============ ============
Weighted average shares outstanding - diluted .................... 5,597,244 5,611,667 5,642,349
============ ============ ============
See notes to consolidated financial statements.
CUMBERLAND TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
-----------------------------------------------
YEARS ENDED DECEMBER 31, 2000, 2001 AND 2002
Accumulated (Accumulated
Common Shares Capital in Other Deficit) Total
------------- Excess of Comprehensive Retained Treasury Stockholders'
Stock Amount Par Value (Loss) Income Earnings Stock Equity
----- ------ --------- ------------- -------- --------- --------------
Balance at January 1, 2000 .. 5,815,356 $ 5,816 $ 7,257,916 $ (40,897) $ (266,756) $ (263,719) $ 6,692,360
Exercise of 56,000 shares
under 1991 stock
option plan........... 56,000 56 6,944 7,000
Net unrealized
appreciation
of available-for-sale
securities, net of
income tax ... 145,382 145,382
Net income .............. 1,041,749 1,041,749
-----------
Comprehensive income..... 1,187,131
----------- ----------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2000 5,871,356 5,872 7,264,860 104,485 774,993 (263,719) 7,886,491
Exercise of 44,000 shares
under 1991 stock
option plan.......... 44,000 44 5,456 5,500
Net unrealized
depreciation
of available- for-sale
securities, net of (33,756) (33,756)
income tax..........
Net income ............. 58,368 58,368
-----------
Comprehensive income ... 24,612
----------- ----------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2001 5,915,356 5,916 7,270,316 70,729 833,361 (263,719) 7,916,603
Net unrealized
appreciation
of available-for-sale
securities, net of
income tax........... 139,845 139,845
Net loss ............... (1,569,169) (1,569,169)
-----------
Comprehensive loss ..... (1,429,324)
----------- ----------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2002 5,915,356 $ 5,916 $ 7,270,316 $ 210,574 $ (735,808) $ (263,719) $6,487,279
=========== =========== =========== =========== =========== =========== ===========
See notes to consolidated financial statements.
CUMBERLAND TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
-------------------------------------
Years ended December 31,
------------------------------------------------------
2002 2001 2000
------------------------------------------------------
Operating activities:
- --------------------
Net (loss) income ................................................... $(1,569,169) $ 58,368 $ 1,041,749
Adjustments to reconcile net income to cash
(used in) provided by operating activities:
Extraordinary gain on restructuring
of note payable .......................................... -- (158,610) --
Amortization (accretion) of investment
premiums discounts ....................................... 28,532 (15,094) (21,358)
Policy acquisition costs amortized ........................... 3,593,701 4,362,721 3,767,107
Policy acquisition costs deferred ............................ (3,355,848) (4,311,250) (4,120,698)
Amortization ................................................. 92,478 144,267 151,319
Impairment of long-lived assets .............................. -- 437,318 --
Net realized gains on sales of investments ................... (66,239) (305,461) (38,381)
Recoveries for bad debts ..................................... -- -- (13,250)
(Increase) decrease in:
Accrued investment income ................................ 30,633 30,484 (118,923)
Reinsurance recoverable .................................. (5,454,680) (663,862) (1,240,262)
Accounts receivable ...................................... 2,097,140 (794,121) (911,598)
Income tax recoverable ................................... (1,073,686) 167,588 (167,588)
Deferred income tax asset ................................ 33,400 (421,123) 66,710
Other investment ......................................... (59,252) (58,340) (23,114)
Other assets ............................................. 69,378 (60,811) 3,777
Increase (decrease) in:
Loss and loss adjustment expense
reserve and unearned premiums ............................ 2,615,201 (533,888) 769,246
Derivative liability ..................................... 748,503 2,977,772 --
Ceded reinsurance payable ................................ (1,728,222) 1,033,592 353,607
Accounts payable and other liabilities ................... 387,653 750,521 728,169
Income tax payable ....................................... (113,284) 113,284 (35,132)
----------- ----------- -----------
Net cash (used in) provided by operating activities ................. (3,723,761) 2,753,355 191,380
----------- ----------- -----------
Investing activities:
- --------------------
Securities available-for-sale:
Purchases - debt securities .................................. (3,172,826) (6,405,825) (6,670,793)
Proceed from sales - debt securities ......................... 4,994,660 4,907,176 3,098,993
Proceed from sales - equities ................................ -- 939 354,956
Proceeds from investment settlement ................................. -- -- 228,875
Securities held-to-maturity:
Proceeds from maturities ..................................... -- 865,000 1,500,000
(Purchases of) net payments on - mortgage loans ..................... (34,623) 60,278 198,236
(Net purchases of short-term investments ............................ -- -- (3,754)
----------- ----------- -----------
Net cash provided by (used in) investing activities ................. 1,787,211 (572,432) (1,293,487)
----------- ----------- -----------
Financing activities:
- --------------------
Payments on debt, affiliate and
Non-affiliate .................................................... (196,523) (590,866) (178,746)
Stock options exercised ............................................. -- 5,500 7,000
Net change in advances to (from) affiliates ......................... 72,201 364,796 (32,516)
----------- ----------- -----------
Net cash used in financing activities ............................... (124,322) (220,570) (204,262)
----------- ----------- -----------
(Decrease) Increase in cash and cash equivalents .................... (2,060,872) 1,960,353 (1,306,369)
Cash and cash equivalents, beginning of year ........................ 2,654,131 693,778 2,000,147
----------- ----------- -----------
Cash and cash equivalents, end of year .............................. $ 593,259 $ 2,654,131 $ 693,778
=========== =========== ===========
Supplemental cash flows disclosure:
- ----------------------------------
Cash paid for interest .............................................. $ 2,451 $ 33,834 $ 102,760
----------- ----------- -----------
Cash paid for income taxes .......................................... $ 214,300 $ 164,909 $ 1,025,400
=========== =========== ===========
See notes to consolidated financial statements.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
1. Ownership and Organization
--------------------------
Cumberland Technologies, Inc. ("CTI" or "the Company") f/k/a Cumberland
Holdings, Inc., a Florida corporation, was formed on November 18, 1991, to be a
Holding company and a wholly-owned subsidiary of Kimmins Corp. ("KC"). Effective
October 1, 1992, KC contributed all of the outstanding common stock of two of
its other wholly-owned subsidiaries, Cumberland Casualty & Surety Company
("CCS") and Surety Specialists, Inc. ("SSI") to CTI. KC then distributed to its
stockholders CTI's common stock on the basis of one share of common stock of CTI
for each five shares of KC common stock and Class B common stock owned (the
"Distribution".) Effective January 30, 1997, Cumberland Holdings, Inc. changed
its name to Cumberland Technologies, Inc. CTI conducts its business through five
wholly-owned subsidiaries. CCS, a Florida corporation formed in May 1988,
provides underwriting for specialty surety and performance and payment bonds for
contractors. The surety services provided include direct surety and to a lesser
extent, assumed reinsurance. SSI, a Florida corporation formed in August 1988,
is a general lines agency which operates as an independent agent. Surety Group
("SG"), a Georgia corporation, and Associates Acquisition Corp. d/b/a Surety
Associates ("SA"), a South Carolina corporation, purchased in February and July
1995, respectively, are general lines agencies which operate as independent
agencies. Qualex Consulting Group, Inc. ("Qualex"), a Florida corporation formed
in November 1994, provides claim and contracting consulting services.
2. Summary of Significant Accounting Policies
------------------------------------------
Principles of Consolidation
---------------------------
The consolidated financial statements include the accounts of CTI and its
wholly-owned subsidiaries. All material intercompany transactions and balances
have been eliminated in consolidation.
Basis of Presentation
---------------------
The accompanying consolidated financial statements have been prepared in
conformity with accounting principles generally accepted in the United States of
America which, as to the subsidiary insurance company, differ from statutory
accounting practices prescribed or permitted by regulatory authorities. The
significant accounting policies followed by CTI and subsidiaries that materially
affect the consolidated financial statements are summarized in this note.
Investments
-----------
The Company accounts for marketable securities in accordance with Statement
of Financial Accounting Standard ("SFAS") No. 115, Accounting for Certain
Investments in Debt and Equity Securities.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
2. Summary of Significant Accounting Policies (continued)
------------------------------------------------------
Debt securities that the Company has both the positive intent and ability
to hold to maturity are classified as "held-to-maturity" securities and are
reported at amortized cost. The amortized cost of debt securities is adjusted
for amortization of premiums and accretion of discounts from the date of
purchase to maturity. Such amortization and accretion, which is calculated under
the interest method, is included in investment income.
Marketable equity securities and debt securities not classified as
"held-to-maturity" or "trading" are classified as "available-for-sale."
Available-for-sale securities are reported at estimated fair value, with the
unrealized gains and losses, net of any related income taxes, reported as a
separate component of equity and of other comprehensive income (loss). Realized
gains and losses and declines in value judged to be other-than-temporary are
included in income. The cost of securities sold is based on the specific
identification method. Interest and dividends on securities are included in
investment income.
Short-term investments primarily include certificates of deposit having
maturities of more than three months when purchased. These investments are
reported at cost, which approximates fair value.
Investments in which the Company has a 20% - 50% ownership interest are
accounted for using the equity method. The Company's proportionate share of
income generated by an investee accounted for under the equity method of
$59,252, $61,457, and $19,996 for the years ended December 31, 2002, 2001 and
2000, respectively, are included in income.
Cash Equivalents
----------------
The Company considers all highly liquid investments having a maturity of
twelve months or less when purchased to be cash equivalents.
Deferred Policy Acquisition Costs
---------------------------------
To the extent recoverable from future policy revenues, the costs of
acquiring new surety business, principally commissions, are deferred and
amortized in a manner which charges each year's operations in direct proportion
to the premium revenue recognized.
Intangibles
-----------
Intangible assets are stated at cost and principally represent purchased
customer accounts and the excess of costs over the fair value of identifiable
net assets acquired ("Goodwill").
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
2. Summary of Significant Accounting Policies (continued)
------------------------------------------------------
Purchased customer accounts, noncompete agreements, and purchased contract
agreements are being amortized on a straight-line basis over the related
estimated lives and contract periods, which range from 3 to 15 years. Purchased
customer accounts are records and files obtained from acquired businesses that
contain information on insurance policies and the related insured parties that
is essential to policy renewals.
In accordance with SFAS 142, "Goodwill and Other Intangible Assets", the
Company discontinued the amortization of goodwill effective January 1, 2002. At
December 31, 2002 and 2001, goodwill, net of accumulated amortization, was
$152,780. Goodwill amortization expense was $55,813 for years ended December 31,
2001 and 2000. As a result of the impairment test required by SFAS 142, the
Company's goodwill was found not to be impaired.
In accordance with SFAS 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets", which became effective for the Company as of January 1,
2002, the Company periodically reviews the carrying value of long-lived assets
to determine if impairment has occurred. Impairment losses, if any, are recorded
in the period identified. Significant judgment is required to determine whether
or not impairment has occurred. The determination is made by evaluating expected
future undiscounted cash flows or the anticipated recoverability of costs
incurred and, if necessary, determining the amount of the loss, if any, by
evaluating the fair value of the assets.
At December 31, 2001, Goodwill and other long-lived assets that were
capitalized in conjunction with the purchase of Associates Acquisition Corp.,
d/b/a Surety Associates were deemed impaired as such an impairment charge of
$437,418 was recorded in the consolidated statement of operations.
Loss and Loss Adjustment Expenses
---------------------------------
The liability for loss and loss adjustment expenses including incurred but
not reported losses is based on the estimated ultimate cost of settling the
claim using traditional paid and incurred loss development methods. These
estimates are subject to the effects of trends in loss severity and frequency.
Although considerable variability is inherent in such estimates, management
believes that the liabilities for loss and loss adjustment expenses are
adequate. The estimates are continually reviewed and adjusted as necessary as
experience develops or new information becomes known. Such adjustments are
included in current operations. A liability for all costs expected to be
incurred in connection with the settlement of unpaid loss and loss adjustment
expenses is accrued when the related liability for unpaid losses is accrued.
Loss adjustment expenses include costs associated directly with specific claims
paid or in the process of settlement, such as legal and adjusters' fees. Loss
adjustment expenses also include other costs that cannot be associated with
specific claims but are related to losses paid or in the process of settlement,
such as internal costs of the claims function.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
2. Summary of Significant Accounting Policies (continued)
------------------------------------------------------
The Company does not discount its reserves for losses and loss adjustment
expenses. The Company writes primarily surety contracts which are of short
duration.
The Company does not consider investment income in determining if a premium
deficiency relating to short duration contracts exists.
Derivative Instruments
----------------------
The Company adopted SFAS No. 133 "Accounting for Derivative Instruments and
Hedging Activities" effective January 1, 2001. The Company identified one
product that meets the definition of a derivative instrument as defined in SFAS
No. 133. The policy is issued to registered investment advisors ("Advisors"),
and insures losses suffered by the Advisors as a result of market declines on
covered investment principal, provided that the Advisors have followed the
investment guidelines required by the policy. The identified derivative was
formerly accounted for as an insurance contract within the policy liabilities
for loss and loss adjustment expenses account in the consolidated balance sheet
for periods prior to January 1, 2001 and on January 1, 2001 there was no
cumulative effect of change in accounting principal due to the fact that the
policy liability recorded for this policy at December 31, 2000 approximated the
fair value of the derivative instrument at January 1, 2001. The fair value of
the derivative instrument at December 31, 2002 and 2001 is $4,346,285 and
$3,597,782, respectively. At December 31, 2002 and 2001 the fair value of the
derivative instrument has been determined by using a financial model that
incorporates market data and other assumptions. Due to the volatility in the
marketplace, the Company suspended marketing of this product effective September
2001. The Company is not involved in any hedging activities.
Unearned Premiums
-----------------
Unearned premiums are deferred and amortized on a pro-rata basis.
Reinsurance
-----------
The Company assumes and cedes reinsurance and participates in various
pools. The accompanying consolidated financial statements reflect premiums,
benefits and settlement expenses, and deferred policy acquisition costs, net of
reinsurance ceded. Amounts recoverable from reinsurers for unpaid losses are
estimated in a manner consistent with the claim liability associated with the
reinsured policies.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
2. Summary of Significant Accounting Policies (continued)
------------------------------------------------------
Revenue Recognition
-------------------
Premiums earned on direct insurance and assumed reinsurance are recognized
on a pro-rata basis over the period of risk. Commission income, which is earned
on ceded premiums and premiums written for other third party insurance carriers,
is recognized at the effective date of the bonds issued. Other income,
consisting primarily of consulting fees, is recognized when the negotiated
services are provided.
Stock-Based Compensation
------------------------
The Company has adopted only the pro forma disclosure provisions of
Statement No. 123, Accounting for Stock-Based Compensation ("SFAS No. 123").
SFAS No. 123 encourages, but does not require companies to record at fair value
compensation cost for stock-based employee compensation plans. The Company
accounts for equity-based compensation arrangements in accordance with the
intrinsic value method prescribed by Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees, and related interpretations. Intrinsic
value is the amount by which the market price of the underlying stock exceeds
the exercise price of the stock option or award on the measurement date,
generally the date of grant.
Income Taxes
------------
Deferred income 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
basis. Deferred income 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
income 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 recorded a deferred income tax asset of $401,738 and
$499,145 at December 31, 2002 and 2001, respectively. Realization of the asset
is dependent on generating sufficient taxable income in future years. Although
realization is not assured, management believes it is more likely than not that
all of the deferred income tax asset will be realized.
The Company files a consolidated tax return that includes all of its
subsidiaries.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
2. Summary of Significant Accounting Policies (continued)
------------------------------------------------------
Earnings Per Share
------------------
The Company computes and discloses earnings (loss) per share in accordance
with the provisions of Statement of Financial Accounting Standards No. 128,
Earnings Per Share. The 39,500, 69,500 and 113,500 outstanding stock options at
December 31, 2002, 2001 and 2000, respectively, had an immaterial effect on the
results of the calculations of earnings per share. Additionally, 47,000
outstanding stock options were antidilutive at December 31, 2002 and 2001,
respectively. There were no antidilutive stock options at December 31, 2000.
Business Concentration
----------------------
The majority of the Company's business relates to surety bonds, which
provide performance and payment bonds for individual and commercial contractors,
and market performance products, which provide specific liability coverage for
professional services rendered by registered investment advisors. Accordingly,
the occurrence of adverse economic conditions could have a material adverse
effect on the Company's business, although for surety bonds, no such conditions
have been encountered in the Company's past experience. For surety bonding, the
Company requires collateral from surety bond customers if the customer fails to
meet between 80 percent to 99 percent of the Company's underwriting criteria.
Customers that fail to meet at least 80 percent of the requirements are denied
surety bonding.
Use of Estimates
----------------
The preparation of the consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the amounts
reported in the consolidated financial statements and accompanying notes. Such
estimates and assumptions could change in the future as more information becomes
known which would affect the amounts reported and disclosed herein.
New Accounting Standards
------------------------
The Financial Accounting Standards Board ("FASB") recently issued the
following SFAS's, and the Company is currently determining the impact that these
standards will have on its financial statements.
In August 2001, the FASB issued SFAS 143, "Accounting for Asset Retirement
Obligations". SFAS 143 requires entities to record the fair value of a liability
for an asset retirement obligation in the period in which it occurred. The
standard is effective for fiscal years beginning after June 15, 2002.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
2. Summary of Significant Accounting Policies (continued)
------------------------------------------------------
In June 2002, the FASB issued SFA 146, "Accounting for Costs Associated
with Exit or Disposal Activities". SFAS 146 addresses financial accounting and
reporting for costs associated with exit or deposal activities and nullifies
EITF Issue No. 94-3, "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring)". SFAS No. 146 requires costs associated with exit or
disposal activities to be recognized when the costs are incurred, rather than at
a date of commitment to an exit or disposal.
Reclassifications
-----------------
Certain amounts in the 2001 and 2000 consolidated financial statements have
been reclassified to conform to the 2002 consolidated financial statement
presentation.
3. Related Party Transactions
--------------------------
CTI and its subsidiaries have entered into transactions with KC and
companies affiliated through common ownership. CCS writes surety bonds for KC
and its affiliates. Qualex performs consulting services for KC and affiliates.
Other income from affiliates in the accompanying consolidated statements of
operations consist primarily of consulting services provided to KC.
Affiliate accounts receivable represents funds advanced and joint expenses
that have not yet been reimbursed from KC and its affiliates. These receivables
are paid periodically and no interest is charged on the outstanding balances
which are payable on demand.
The Company's operating subsidiaries rent or lease office space in the
cities in which they are located. CCS and Qualex lease office space in Tampa,
Florida from a company owned by Francis Williams, the Chairman of the Board of
the Company, at a monthly rate of $10,885, pursuant to a lease that was executed
June 1, 1999 and is effective through May 31, 2009.
KC and SSI entered into an agreement with an independent contractor, AEC on
August 16, 1989 on a construction contract with the United States Navy ("Navy").
At the time the bonds were issued by CCS as surety, KC entered into an
indemnification agreement, whereby KC indemnified CCS from any and all losses,
costs and expenses incurred related to the bonds. In 1991, the Navy defaulted
and terminated AEC on the contract. The contract was subsequently litigated and
CCS was unsuccessful in its litigation activities with the Navy. As a result, KC
reimbursed CCS $1,500,000 of the total subrogation recoverable of $1,850,877 in
November 2001 on the contract. CCS wrote off the remaining $350,877 reinsurance
recoverable as a charge to loss and loss adjustment expense and incurred an
additional $240,000 in legal fees during 2001.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
4. Investments
-----------
The Company's investments in available-for-sale securities and
held-to-maturity securities are summarized as follows:
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
----------- ---------- ----------- ----------
Available-for-sale securities at December 31, 2002:
U.S. Government bonds ................................... $3,062,496 $ 79,128 $ -- $3,141,624
State and municipal bonds ............................... 496,609 3,761 -- 500,370
Industrial and miscellaneous bonds ...................... 3,861,932 256,951 2,220 4,116,663
---------- ---------- ---------- ----------
Total available-for-sale securities ............................ 7,421,037 339,840 2,220 7,758,657
---------- ---------- ---------- ----------
Held-to-maturity securities at December 31, 2002:
U.S. Government bonds ................................... 359,898 7,783 -- 367,681
---------- ---------- ---------- ----------
Total securities ............................................... $7,780,935 $ 347,623 $ 2,220 $8,126,338
========== ========== ========== ==========
Available-for-sale securities at December 31, 2001:
U.S. Government bonds ................................... $5,304,913 $ 48,834 $ 17,507 $5,336,240
State and municipal bonds ............................... 546,547 -- 19,457 527,090
Industrial and miscellaneous bonds ...................... 3,354,093 125,067 3,137 3,476,023
---------- ---------- ---------- ----------
Total available-for-sale securities ............................ 9,205,553 173,901 40,101 9,339,353
---------- ---------- ---------- ----------
Held-to-maturity securities at December 31, 2001:
U.S. Government bonds ................................... 359,475 14,961 -- 374,436
---------- ---------- ---------- ----------
Total securities ............................................... $9,565,028 $ 188,862 $ 40,101 $9,713,789
========== ========== ========== ==========
The amortized cost and fair value of the Company's investments in debt
securities, segregated by available-for-sale and held-to-maturity, at December
31, 2002 are summarized, by stated maturity, as follows:
Available-for-Sale Held-to-Maturity
------------------ ----------------
Maturity Amortized Cost Fair Value Amortized Cost Fair Value
- -------- -------------- ---------- -------------- ----------
Due in one year or less ............................ $2,843,920 $2,875,916 $ 259,898 $ 262,681
Due after one year through five
years ........................................... 3,402,685 3,623,775 100,000 105,000
Due after five years through
ten years ....................................... 677,822 758,596 -- --
Due after twenty years ............................. 496,610 500,370 -- --
---------- ---------- ---------- ----------
$7,421,037 $7,758,657 $ 359,898 $ 367,681
========== ========== ========== ==========
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
4. Investments (continued)
-----------------------
The Company held no investments in any person or its affiliates (excluding
obligations of the U.S. Government or its agencies), which exceeded 10 percent
of stockholders' equity at the end of the respective year.
At December 31, 2002 and 2001, the Company had restricted investments held
totaling $4,520,022 and $3,405,564, respectively. Restricted investments
primarily represent funds held as collateral in connection with reinsurance
trust agreements and bonds placed on deposit with various state departments of
insurance under statutory deposit requirements. At December 31, 2002 and 2001,
respectively, bonds placed on deposit with state departments of insurance total
$4,432,514 and $3,319,588 of which $2,290,971 and $1,282,022 is held by the
Florida Department of Financial Services.
Net investment income and net realized investment gains (losses) for the
Company is comprised of the following:
Year ended December 31,
------------------------------------------------------
2002 2001 2000
------------------------------------------------------
Debt and equity securities ....................................... $ 503,603 $ 573,345 $ 501,853
Mortgage loans on real estate .................................... 5,498 3,289 3,384
Short-term investments, including cash and
cash equivalents ............................................. 31,007 77,203 106,089
--------- --------- ---------
540,108 653,837 611,326
Less investment expenses ......................................... (53,970) (49,374) (34,920)
--------- --------- ---------
Net investment income ............................................ $ 486,138 $ 604,463 $ 576,406
========= ========= =========
Realized gains (losses) on available-for-sale
securities:
Debt securities - gains ...................................... $ 91,826 $ 329,360 $ 38,381
Debt securities - losses ..................................... (25,587) -- --
Equity securities - losses ................................... -- (23,899) --
--------- --------- ---------
Net realized investment gains .................................... $ 66,239 $ 305,461 $ 38,381
========= ========= =========
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
5. Fair Value of Financial Instruments
-----------------------------------
The carrying amounts and fair values of the Company's financial instruments
at December 31, 2002 and 2001 are as follows:
December 31, 2002
----------------------------
Carrying Amount Fair Value
----------------------------
Assets:
- ------
Cash and cash equivalents, including short-
term investments ............................ $1,027,252 $1,027,252
Securities ...................................... 8,118,555 8,126,337
Mortgage loans on real estate ................... 716,413 716,413
Accounts receivable ............................. 2,518,187 2,518,187
Reinsurance recoverable ......................... 12,089,177 12,089,177
Liabilities:
- -----------
Debt ............................................ 1,059,472 1,059,472
Ceded reinsurance payable ....................... 26,883 26,883
Derivative instrument ........................... 4,346,285 4,346,285
December 31, 2001
--------------------------
Carrying Amount Fair Value
--------------------------
Assets:
- ------
Cash and cash equivalents, including short-
term investments ............................ $3,088,124 $3,088,124
Investments ..................................... 9,698,828 9,713,758
Mortgage loans on real estate ................... 681,790 681,790
Accounts receivable ............................. 4,687,528 4,687,528
Reinsurance recoverable ......................... 6,634,497 6,634,497
Liabilities:
- -----------
Debt ............................................ 1,255,995 1,255,995
Ceded reinsurance payable ....................... 1,755,105 1,755,105
Derivative instrument ........................... 3,597,782 3,597,782
The following methods and assumptions were used by the Company in
estimating its fair value disclosures for financial instruments:
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
5. Fair Value of Financial Instruments (continued)
-----------------------------------------------
Cash and cash equivalents, short-term investments, accounts receivable,
reinsurance recoverable and ceded reinsurance payable: The carrying amount
reported in the consolidated balance sheet approximates fair value.
Securities: Fair values for held-to maturity and debt securities are based
on quoted market prices and are recognized in the Consolidated Balance Sheet.
The fair values for equity securities are based on quoted market prices and are
recognized in the consolidated balance sheet.
Mortgage loans: The mortgage loans represent three mortgages. Two are small
mortgages totaling $75,369 which were current at December 31, 2002. The other
mortgage (referred to as the Mundy mortgage) totals $641,044 and was obtained
through a bond that went into default whereby CCS held the mortgage as
collateral on the Mundy mortgage.
The value of the collateral is in excess of $1,000,000 and because it
greatly exceeds the balance on the mortgage, an allowance was deemed
unnecessary.
Debt: Fair value of debt is based on discounted expected future cash flows,
using risk rates currently available for debt with similar terms and remaining
maturities.
6. Intangibles
-----------
Intangibles are comprised of the following:
As of December 31,
---------------------------
2002 2001
---------------------------
Deferred state admission costs ............... $ 227,171 $ 227,171
Customer lists and acquisition costs ......... 567,163 567,163
Product development .......................... 262,194 262,194
Goodwill ..................................... 280,623 280,623
---------- ----------
1,337,151 1,337,151
Accumulated amortization ..................... 895,898 803,420
---------- ----------
Total ........................................ $ 441,253 $ 533,731
========== ==========
Amortization expense amounted to $92,478 in 2002, $144,267 in 2001 and
$151,319 in 2000 and is recorded in operating expenses in the consolidated
statements of operations.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
6. Intangibles (continued)
-----------------------
In July 2001, the FASB issued SFAS 142 "Goodwill and Other Intangible
Assets" which was adopted by the Company as of January 1, 2002. SFAS 142
requires goodwill and intangible assets with indefinite lives to no longer be
amortized, but instead be tested for impairment on an annual basis.
SFAS 142 provided a six-month transitional period from the effective date
of adoption for the Company to perform an assessment of whether there is an
indication that goodwill is impaired. To the extent that an indication of
impairment existed, the Company was required to perform a second test to measure
the amount of the impairment. In the first step, the Company identified no
indications of impairment. Therefore the Company was not required to perform the
second step of the initial goodwill impairment test.
A reconciliation of net loss and loss per share reported in the
consolidated statements of operations to the proforma amounts adjusted for the
exclusion of goodwill amortization, net of the related income (loss) tax effect,
is presented below. The unaudited proforma results reflecting the exclusion of
goodwill amortization have been prepared only to demonstrate the impact of
goodwill amortization on net (loss) income and (loss) earnings per share and are
for comparative purposes only.
December 31,
-------------------------------------------------------------
2002 2001 2000
-------------------------------------------------------------
Reported net (loss) income ...................................... $ (1,569,169) $ 58,368 $ 1,041,749
Add: Goodwill amortization, net of tax .......................... -- 40,900 35,914
----------------- ------------------ ------------------
Adjusted net (loss) income ...................................... $ (1,569,169) $ 99,268 $ 1,077,663
================= ================== ==================
Net (loss) income per share - basic and
diluted ...................................................... $ (0.28) $ 0.01 $ 0.19
Add: Goodwill amortization, net of tax .......................... -- $ 0.01 $ 0.01
----------------- ------------------ ------------------
Adjusted net (loss) income per share - basic
and diluted .................................................. $ (0.28) $ 0.02 $ 0.20
================= ================== ==================
7. Other Investment
----------------
The Company has a 30 percent investment in Global Solutions Insurance
Services, Inc. ("GSIS"), an agency located in California that issues cargo
insurance and customs bonds, which is accounted for under the equity method.
Summarized unaudited financial information of GSIS is as follows:
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
7. Other Investment (continued)
----------------------------
Year ended December 31,
-------------------------------------------
2002 2001 2000
-------------------------------------------
Revenues .................... $703,465 $600,530 $417,972
Net income .................. 197,507 178,738 66,655
As of December 31,
-----------------------------
2002 2001
-----------------------------
Current assets ........................... $2,310,459 $1,034,572
Non-current assets ....................... 230,974 250,955
Current liabilities ...................... 1,755,760 726,402
Non-current liabilities .................. 1,744,442 1,607,555
8. Reserve for Losses and Loss Adjustment Expenses
-----------------------------------------------
The following table provides a reconciliation of the beginning and ending
liability balances, net of reinsurance recoverables, for the years ended
December 31, 2002, 2001 and 2000, to the gross amounts reported in the Company's
consolidated balance sheets:
December 31,
-----------------------------------------------------
2002 2001 2000
-----------------------------------------------------
Gross liability for losses and LAE at beginning
of year ........................................................... $ 5,284,804 $ 6,245,819 $ 6,408,490
Recoverables on losses and LAE ....................................... 1,812,616 2,911,070 3,599,763
----------- ----------- -----------
Liability for losses and LAE on unpaid losses before
adjustment for incurred and paid losses ........................... 3,472,188 3,334,749 2,808,727
Incurred losses and LAE's claims, net of
reinsurance, occurring during:
Current year ...................................................... 8,203,575 5,448,480 4,363,435
Prior year ........................................................ 348,740 (936,570) (1,003,077)
----------- ----------- -----------
Total incurred losses, net of reinsurance ............................ 8,552,315 4,511,910 3,360,358
Losses and LAE payments for claims, net of
reinsurance, occurring during:
Current year ...................................................... 5,469,929 1,798,145 2,450,587
Prior years ....................................................... 3,936,415 2,576,326 383,749
----------- ----------- -----------
Total payments ....................................................... 9,433,344 4,374,471 2,834,336
----------- ----------- -----------
Liability for losses and LAE, net .................................... 2,591,159 3,472,188 3,334,749
Add: recoverables on losses and LAE's ............................... 6,304,311 1,812,616 2,911,070
----------- ----------- -----------
Liability for losses and LAE, at end of year ......................... $ 8,895,470 $ 5,284,804 $ 6,245,819
=========== =========== ===========
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
8. Reserve for Losses and Loss Adjustment Expenses (continued)
-----------------------------------------------------------
The Company experienced a deficiency of $348,740 for the year ended
December 31, 2002. The deficiency is a result of settling claim basis reserves
established in prior years for amounts that were more than expected. The Company
experienced $936,570 and $1,003,077 in redundancies for losses and loss
adjustment expenses in 2001 and 2000. The redundancies principally result from
subrogation received on pooling agreement case base reserves and claims in prior
years.
The anticipated effect of inflation is implicitly considered when
estimating liabilities for losses and LAE. While anticipated price increases due
to inflation are considered in estimating the ultimate claim costs, the increase
in average severities of claims is caused by a number of factors. Future average
severities are projected based on historical trends adjusted for anticipated
changes in underwriting standards, policy provisions, and general economic
trends. These anticipated trends are monitored based on actual development and
are modified if necessary.
9. Income Taxes
------------
Income tax (benefit) expense consists of the following:
December 31,
-----------------------------------------
2002 2001 2000
-----------------------------------------
Current:
- -------
Federal ..................... $(945,431) $ 294,737 $ 595,707
State ....................... -- 50,453 101,973
--------- --------- ---------
Total current ............... (945,431) 345,190 697,680
--------- --------- ---------
Deferred:
- --------
Federal ..................... 28,518 (276,568) 56,960
State ....................... 4,882 (47,342) 9,750
--------- --------- ---------
Total deferred .............. 33,400 (323,910) 66,710
--------- --------- ---------
Total provision ............. $(912,031) $ 21,280 $ 764,390
========= ========= =========
The provision is reported as follows:
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
9. Income Taxes (continued)
December 31,
---------------------------------------
2002 2001 2000
---------------------------------------
(Benefit) for (loss) income
before extraordinary gain ...... $(912,031) $ (75,932) $ 764,390
Expense for extraordinary
gain on restructuring of
note ........................... -- 97,212 --
--------- --------- ---------
Total income tax (benefit)
expense ........................ $(912,031) $ 21,280 $ 764,390
========= ========= =========
A reconciliation of the statutory federal income tax rate with the
Company's effective income tax rate is as follows:
December 31,
------------------------------------
2002 2001 2000
------------------------------------
Statutory federal rate ............ 34.00% 34.00% 34.00%
State income taxes ................ 3.63 3.63 3.63
Tax exempt income ................. .36 (11.04) (.49)
Nondeductible expenses ............ (1.23) .13 1.52
Miscellaneous ..................... -- -- 3.66
----- ----- -----
Effective tax rate ................ 36.76% 26.72% 42.32%
===== ===== =====
The following summarizes the effect of deferred income taxes items and
their impact of "temporary differences" between amounts of assets and
liabilities for financial reporting purposes and such amounts as measured by tax
laws. Temporary differences and carry-forwards which give rise to deferred
income tax assets and liabilities are as follows:
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
9. Income Taxes (continued)
------------------------
December 31,
-----------------------------
2002 2001
-----------------------------
Deferred income tax liabilities:
- -------------------------------
Deferred acquisition costs ................... $ (626,801) $ (716,305)
Unrealized gain on investments ............... (127,046) (63,039)
----------- -----------
Total deferred tax liabilities ............... (753,847) (779,344)
----------- -----------
Deferred income tax assets:
- ---------------------------
Basis difference in fixed assets ............. 17,139 --
Basis difference in investments .............. 101,411 120,766
Reserve discounting .......................... 415,464 442,163
Unearned premiums ............................ 251,891 333,791
Amortization ................................. 163,945 279,455
Surplus notes ................................ 102,314 102,314
State net operating loss carryforward ........ 103,421 --
----------- -----------
Total deferred income tax assets ............. 1,155,585 1,278,489
----------- -----------
Net deferred income tax asset ................ $ 401,738 $ 499,145
=========== ===========
10. Debt
----
Debt as of December 31, consists of the following:
-------------------------------------------------
-------------------------
2002 2001
-------------------------
Affiliate:
- ---------
Convertible note payable due November 10,
2002 ........................................ $ 604,055 $ 604,055
Nonaffiliate:
- ------------
Note payable due March 1, 2002 ................... -- 124,523
Note payable due June 30, 2010 ................... 455,417 527,417
---------- ----------
$1.059,472 $1,255,995
========== ==========
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
10. Debt (continued)
----------------
Convertible Note Payable to Affiliate
-------------------------------------
Effective November 10, 1988, the Company entered into a $1,000,000
convertible term note agreement with TransCor Waste Services, Inc., a subsidiary
of KC. The note, originally due November 10, 2001, has been extended to November
10, 2003. The annual rate of interest is equal to one half of one percent per
annum in excess of the stated interest rate established by the Bank of America.
The average interest rate for 2002 was 8.6%. On December 26, 2001, the Company
made a principal note payment of $395,945 reducing the note to $604,055. The
lender may convert the principal amount of the note or a portion thereof into
common stock at $3.00 per share subsequent to a six-month anniversary and prior
to the close of business on the maturity date.
Notes Payable to Nonaffiliates
------------------------------
In connection with the acquisition of certain agencies during 1995, the
Company entered into two notes payable with the agencies' previous owners. One
note was due March 1, 2002 and bore interest at 8% through February 28, 2001 and
10% thereafter. Principal payments of $125,000 are due annually beginning March
1, 2000. The other note is due June 30, 2010 and originally bore interest at 9%.
Principal payments of $40,000 were due annually for three years beginning
January 5, 1996. Payments of $11,104 including principal and interest were paid
monthly from April 1, 1997 through March 31, 2001. On December 3, 2001, SA
reached an agreement with the holder on this note payable, whereby the terms of
the note were modified, such that interest rate was reduced to zero, and
principal payments became payable at $6,000 per month. The modification of the
terms of the note resulted in an extraordinary gain of $158,610 (net of deferred
income taxes of $97,212). Payments totaling $113,312 including a lump sum
payment of $50,000 were made during 2001.
Interest incurred in 2002, 2001 and 2000 for term notes due nonaffiliates
was $2,451, $97,208 and $102,760, respectively.
Maturities of affiliate and non-affiliate notes payable are as follows:
--------------------- --------------------
Year Ending
December 31,
--------------------- --------------------
2003 $ 676,055
2004 72,000
2005 72,000
2006 72,000
2007 72,000
95,417
----------------
$ 1,059,472
----------------
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
11. Employee Benefit Plan
---------------------
On April 1, 1996, CTI adopted a defined contribution 401(k) plan covering
substantially all employees. Under the plan, the Company makes contributions
equal to one percent of the participant's compensation, not to exceed six
percent of the participant's annual deferrals. The Company's contributions to
the plan totaled $32,663, $33,502, and $24,311 in 2002, 2001 and 2000,
respectively.
12. Stock Option Plan
-----------------
During the fiscal year ended December 31, 1999, the Company registered the
1991 Stock Option Plan. (the"Plan"). The Company applies APB Opinion No. 25 and
related interpretations in accounting for the Plan. Accordingly, no compensation
cost has been recognized for the Plan. Had compensation cost been determined
based on the fair market value at the grant dates for awards under the Plan
consistent with the method of FASB Statement No.123, the effect on the Company's
net (loss) income and (loss) earnings per share would have been immaterial.
The fair value of each option grant is estimated on the date of the grant
using the Black-Scholes option-pricing model. The following weighted-average
assumptions were used for the grant for the year ended December 31, 1998;
dividend yield of 0%, risk free interest rate of 5.40%, expected life of 10
years and volatility of 99.98%. The following weighted-average assumptions were
used for grants for the year ended December 31, 2000; dividend yield of 0%, risk
free interest rates of 6.54%, and 6.31%, expected lives of 10 years and
volatility of 80.59%.
Options granted under this plan have a term of ten years and vest ratably
over a four year period immediately following the grant date. The following
table summarizes all stock option transaction for the years ended December 31,
2002, 2001 and 2000:
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
12. Stock Option Plan (continued)
-----------------------------
--------------------- ---------------------- ------------------
2002 2001 2000
--------------------- ---------------------- ------------------
Weighted- Weighted- Weighted-
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
-------- --------- -------- --------- ------- ---------
Outstanding at
beginning of year........................................... 69,500 $ 1.38 113,500 $ .42 134,500 $ .42
Grants ..................................................... -- $ -- -- $ -- 37,000 $ 1.50
Exercised .................................................. -- $ -- (44,000) $ .125 (56,000) $ .125
Forfeited .................................................. (30,000) $ 1.125 -- $ -- (2,000) $ 1.88
------- ------- -------
Outstanding
at end of year.............................................. 39,500 $ 1.67 69,500 $ 1.38 113,500 $ .89
======= ====== =======
Exercisable
at end of year.............................................. 28,700 $ 1.73 45,300 $ 1.28 79,900 $ .60
======= ====== =======
Weighted-averagefair value of
options granted during the year........................... $ -- $ -- $ -- $ -- $37,000 $ 1.52
The proceeds from the exercise of stock options include certain income tax
benefits, which are included in capital in excess of par value.
The following table summarizes information about stock options at December
31, 2002:
Options Outstanding Options Exercisable
------------------- -------------------
Number Number
Outstanding at Weighted-Average Exercisable at
December 31, Remaining Weighted-Average December 31, Weighted-Average
Range of Exercise Prices 2002 Contractual Life Exercise Price 2002 Exercise Price
- ------------------------ ------------- ---------------- --------------- ------------- -----------------
$1.00 ........................... 2,500 5 years $ 1.00 2,500 $ 1.00
$1.50-$1.56 ..................... 27,000 8 years $ 1.53 16,200 $ 1.53
$2.25 ........................... 10,000 7 years $ 2.25 10,000 $ 2.25
------ ------
39,500 28,700
====== ======
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
13. Preferred Stock
---------------
CTI is authorized to issue 10,000,000 shares of preferred stock, $.001 par
value, with such rights and privileges as determined by the Board of Directors.
The preferred stock shall be issued at such times and for such consideration as
determined by the Board of Directors. No shares have been issued as of December
31, 2002.
14. Reinsurance
-----------
CCS assumes reinsurance premiums through a program whereby its subsidiary,
SSI has contracted through two joint partnering agreements (St. Paul Fire and
Marine Group, f/k/a United States Fidelity and Guaranty Company and Peerless
Insurance Company) to pursue small to medium size contract and commercial surety
business in states in which CCS is not licensed. Effective July 1, 2002, these
programs were discontinued. CCS participates in the underwriting risk through a
retrocession treaty with Transatlantic Reinsurance Company.
Effective October 1, 1996, CCS entered into a quota share agreement with
First Indemnity of America Insurance Company ("FIA") whereby all of the premiums
written through a shared underwriting office are subject to this treaty. The
Company assumes 50% of the premiums written by FIA and cedes 50% of the premiums
written by CCS.
The Company cedes to Transatlantic Reinsurance Company on an excess of loss
treaty 95% of the risk insured with a maximum exposure to the Company of
$235,000 per principal prior to June 30, 2001 and a maximum exposure of $300,000
per principal effective July 1, 2001 through June 30, 2002. Effective July 1,
2002, net exposure is limited to $250,000 through its reinsurance program after
a $1.4 million annual aggregate deductible, limited to $350,000 per principal,
is satisfied. Transatlantic Reinsurance Company is rated A+ by A.M. Best. For
its liability line of registered investment advisor insurance, the Company has
reduced its exposure on any one risk, with a purchase of a quota share agreement
with Dorinco Reinsurance (Dorinco Treaty) which is rated A (Excellent) by A.M.
Best. Under the Dorinco Treaty, CCS cedes 50% of its liability on all registered
investment advisor policies, which have an aggregate net liability limit of
$500,000 per endorsement. The Company continues to have exposure to risk for
reinsurance ceded in the event that the reinsurer is unable to meet its
obligation under the reinsurance agreement in force. Reinsurance does not
relieve an insurer of its liability to policyholders, however, the reinsurer is
obligated to the insurer for the portion assumed by such reinsurer.
Effective July 1, 2002, CCS entered into a quota share agreement with
Transatlantic Reinsurance Company whereby CCS cedes 35% of the premiums, net of
commissions, on its commercial surety bonds with penal sums less than $100,000.
The quota share treaty is renegotiated annually.
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
14. Reinsurance (continued)
-----------------------
Gross and net written premiums in 2002, 2001 and 2000 are summarized as
follows:
--------------------------------------------------------------------------------------------------
2002 2001 2000
--------------------------------------------------------------------------------------------------
Written Earned Written Earned Written Earned
------------ ------------ ------------ ------------ ---------- -------------
Direct premiums............... $ 13,849,396 $ 13,980,567 $ 13,866,876 $ 14,465,244 13,775,266 $ 12,756,102
Assumed premiums.............. 2,633,495 3,497,789 4,193,927 3,788,443 2,393,468 2,480,712
Ceded premiums ................ (4,139,382) (4,046,606) (4,653,722) (4,612,371) (3,510,537) (3,108,861)
------------ ------------ ------------ ------------ ------------ ------------
Net premiums ................. $ 12,343,509 $ 13,431,750 $ 13,407,081 $ 13,641,316 $ 12,658,197 $ 12,127,953
============ ============ ============ ============ ============ ============
Losses and loss adjustment expenses in 2002, 2001, and 2000 are summarized
as follows:
---------------------------------------------
2002 2001 2000
---------------------------------------------
Direct ......................... $ 12,300,811 $ 5,827,451 $ 6,301,778
Assumed ........................ 5,920,064 1,217,945 680,032
Ceded .......................... (9,668,560) (2,533,486) (3,621,452)
------------ ------------ ------------
Net losses and loss adjustment
Expenses .................. $ 8,552,315 $ 4,511,910 $ 3,360,358
============ ============ ============
15. Commitments and Contingencies
-----------------------------
The Company leases certain office space and equipment under noncancelable
operating leases. Rent expense was $303,366, $241,158, and $222,983 for the
years ended December 31, 2002, 2001 and 2000, respectively. Minimum future
rental and lease commitments as of December 31, 2002 for all noncancelable
operating leases with an initial or remaining term of over one year are as
follows:
--------------------- --------------------
Year Ending
December 31,
--------------------- --------------------
2003 $ 261,942
2004 253,710
2005 205,204
2006 195,378
2007 194,235
Thereafter 235,200
----------------
$ 1,345,669
================
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
15. Commitments and Contingencies (continued)
-----------------------------------------
CCS was named as a defendant in a class action lawsuit in the United States
District Court for the District of Colorado. The plaintiffs are clients of a
registered investment advisor (the "Advisor") and have alleged that the Advisor,
a registered broker-dealer, and certain other defendants (excluding CCS) were
negligent or otherwise responsible for losses suffered by the plaintiffs
resulting from embezzlement of the plaintiffs' investments by a third party. As
a separate count in the lawsuit, the plaintiffs have also asserted claims
against CCS based on a policy of insurance issued by CCS to the Advisor. The
policy does not provide coverage for embezzlement, rather it insures losses
caused by market declines, providing that the Advisor has followed the
investment guidelines required by the policy. On July 31, 2002, the District
Court granted CCS motion for summary judgment and dismissed the claims against
CCS.
The Company and its subsidiaries are involved in various lawsuits arising
in the ordinary course of its business operations as an insurer. Management does
not believe that any of these lawsuits will have a material effect on the
consolidated financial position, future operations or cash flows of the Company.
16. Statutory Accounting Practices and Regulatory Requirements
----------------------------------------------------------
Statutory capital and surplus and net income as reported to the domiciliary
state insurance department in accordance with prescribed or permitted statutory
accounting practices for CCS is summarized as follows:
Year Ended December 31,
------------------------------------------
2002 2001 2000
------------------------------------------
Statutory capital and surplus .... $ 4,734,899 $ 6,503,218 $ 5,441,336
Statutory net (loss) income ...... (1,748,676) 105,513 511,624
CCS is domiciled in Florida and prepares its statutory-basis financial
statements in accordance with insurance accounting practices prescribed or
permitted by the Florida Department of Financial Services. "Prescribed"
statutory accounting practices include state laws, regulations, and general
administrative rules, as well as a variety of publications of the National
Association of Insurance Commissioners ("NAIC"). "Permitted" statutory
accounting practices encompass all accounting practices that are not prescribed;
such practices may differ from state to state, may differ from company to
company within a state, and may change in the future. In 1998, the National
Association of Insurance Commissioner adopted the Codification of Statutory
Accounting Principles (Codification) for insurance companies. Codification,
which is intended to standardize regulatory accounting and reporting for the
insurance industry, was effective January 1, 2001. The effect on CCS's statutory
financial statements for the implementation of Codification is an additional
$453,187 of surplus which is shown as a change in accounting principle in the
capital and surplus section of the statutory financial statements of CCS as a
"cumulative change in accounting principle."
CUMBERLAND TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
--------------------------------------------
16. Statutory Accounting Practices and Regulatory Requirements (continued)
----------------------------------------------------------------------
Under applicable state insurance statutes, CCS must maintain minimum
capital and surplus of $3,250,000 (as of December 31, 2002). In addition, under
applicable state laws and regulations, CCS is restricted from paying dividends
to the extent of surplus profits less any dividends that have been paid in the
preceding twelve months or net investment income for the year, whichever is
less, unless the Company obtains prior approval from the Florida Department of
Financial Services. As of December 31, 2002, no dividends from CCS are available
for payment to CTI without the prior approval of the Department of Insurance.
The more significant variances between statutory reporting and generally
accepted accounting principles are deferred policy acquisition costs and
nonadmitted assets. Insurance regulations dictate expensing commissions.
Nonadmitted assets represent non-liquid assets and are excluded from the
statutory statement of admitted assets, liabilities and capital and surplus.
17. Comprehensive Income
--------------------
Comprehensive income is defined as any change in equity from transactions
and other events originating from nonowner sources. The Company's comprehensive
income is comprised of reported net income and changes in the unrealized
appreciation of available-for-sale securities. The following summarizes the
components of comprehensive income:
Consolidated Statements of Comprehensive Income
For the Year Ended December 31,
----------------------------------------------------------------
2002 2001 2000
----------------------------------------------------------------
Holding gains ........................................ $ 281,385 $ 253,529 $ 262,046
Tax effect ........................................... (98,485) (88,735) (91,716)
Reclassification:
Realized gains .................................. (66,239) (305,461) (38,381)
Income tax ...................................... 23,184 106,911 13,433
----------- ----------- -----------
Other comprehensive income ........................... 139,845 (33,756) 145,382
Net (loss) income .................................... (1,569,169) 58,368 1,041,749
----------- ----------- -----------
Comprehensive (loss) income .......................... $(1,429,324) $ 24,612 $ 1,187,131
=========== =========== ===========
SCHEDULE II - CONDENSED FINANCIAL INFORMATION
OF REGISTRANT
-------------
CUMBERLAND TECHNOLOGIES, INC.
December 31,
-------------------------
Condensed Balance Sheets 2002 2001
- ------------------------ -------------------------
Assets:
- ------
Investment in wholly-owned subsidiaries .......... $3,508,968 $6,301,161
Other assets ..................................... 43,012 1,973
Other investments ................................ 700,124 640,872
Deferred income tax asset ........................ 401,738 499,145
Income tax recoverable ........................... 1,073,686 --
Surplus debenture receivable from subsidiary ..... 2,048,734 2,048,734
---------- ----------
$7,776,262 $9,491,885
========== ==========
Liabilities:
- -----------
Accounts payable to affiliates ................... $1,280,663 $1,450,710
Income tax payable ............................... -- 113,284
Accounts payable ................................. 8,320 11,288
---------- ----------
$1,288,983 $1,575,282
---------- ----------
Stockholders' equity:
- --------------------
Common stock ..................................... 5,916 5,916
Other stockholders' equity ....................... 6,481,363 7,910,687
---------- ----------
$6,487,279 $7,916,603
---------- ----------
$7,776,262 $9,491,885
========== ==========
Year Ended December 31,
-------------------------------------------------------------
2002 2001 2000
-------------------------------------------------------------
Condensed Statements of Operations
- ----------------------------------
Revenue:
- -------
Management fees from wholly-
Owned subsidiaries ....................................... $ 533,763 $ 533,332 $ 526,309
----------- ----------- -----------
533,763 533,332 526,309
----------- ----------- -----------
Costs and expenses:
-----------
Operating expenses .......................................... 128,976 175,161 140,589
Interest expense to affiliates .............................. 59,423 69,198 100,000
----------- ----------- -----------
188,399 244,359 240,589
----------- ----------- -----------
Income before income taxes
and equity in net income and
extraordinary gain of subsidiaries........................ 345,364 288,973 285,720
Income tax expense .......................................... 130,409 109,116 120,916
Equity in (loss) income of
subsidiaries before extraordinary gains................... (1,784,124) (280,099) 876,945
Equity in extraordinary gain
of subsidiaries .......................................... -- 158,610 --
----------- ----------- -----------
Net income .................................................. $(1,569,169) $ 58,368 $ 1,041,749
=========== =========== ===========
SCHEDULE II - CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (CONTINUED)
-------------------------
CUMBERLAND TECHNOLOGIES, INC.
Supplemental Schedule of Noncash Investing and Financing Activities
- -------------------------------------------------------------------
The Company operates through its wholly-owned subsidiaries and all
operating activities have been funded by its subsidiaries.
Notes to Condensed Financial Statements
- ---------------------------------------
1. Organization and summary of significant accounting policies
-----------------------------------------------------------
Organization - Cumberland Technologies, Inc. ("CTI" or "the Company"), a
Florida corporation, was formed on November 18, 1991, to be a holding company
and a wholly-owned subsidiary of Kimmins Corp. ("KC"). Effective October 1,
1992, KC contributed all of the outstanding common stock of two of its
wholly-owned subsidiaries, Cumberland Casualty & Surety Company ("CCS") and
Surety Specialists, Inc. ("SSI") to CTI. KC then distributed to its stockholders
CTI's common stock on the basis of one share of common stock of CTI for each
five shares of KC common stock and Class B common stock owned (the
"Distribution"). CTI conducts its business through its subsidiaries, CCS, SSI,
Surety Group, Inc. ("SG"), Surety Associates ("SA"), and Qualex Consulting
Group, Inc. ("Qualex") CCS, a Florida corporation formed in May 1988, provides
performance and payment bonds for contractors and miscellaneous surety bonds to
federal and local government agencies. The surety services provided include
direct surety and, to a lesser extent, reinsurance. SSI, a Florida corporation
formed in August 1988, is a general lines agency which operates as an
independent agent. SG, a Georgia corporation, and Associates Acquisition Corp.
d/b/a Surety Associates, a South Carolina corporation, purchased by the Company
in February and July 1995, respectively, are general lines insurance agencies
which operate as independent agencies. Qualex, a Florida corporation formed in
November 1995, provides claim and contracting consulting services.
For the years ended December 31, 2002, 2001 and 2000, CTI charged its
subsidiaries, excluding CCS, a management fee.
2. Basis of Presentation - In the parent-company-only financial statements, the
Company's investment in subsidiaries is stated at cost plus equity in
undistributed earnings of subsidiaries since the date of acquisition. The
Company's share of net income (loss) of its subsidiaries is included in income
using the equity method. Parent-company-only financial statements should be read
in conjunction with the Company's consolidated financial statements.
Investment in subsidiaries includes the net unrealized appreciation, net of
income tax in available-for-sale securities held by CCS, of $210,574 and $70,729
as of December 31, 2002 and 2001, respectively. These amounts, net of income
taxes, have been included in the CTI "other stockholders' equity" amounts.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (CONTINUED)
-------------------------
CUMBERLAND TECHNOLOGIES, INC.
3. Surplus Debenture Receivable from Subsidiary
--------------------------------------------
In 1988, CCS issued a surplus debenture to KC in exchange for $3,000,000
which bears interest at 10 percent per annum. In 1992, the debenture due to KC
from CCS was assigned to CTI. Interest and principal payments are subject to
approval by the Florida Department of Financial Services. On April 1, 1997, CTI
forgave $375,000 of its $3,000,000 surplus debenture due from CCS. As a result,
CCS increased paid-in-capital by $375,000. On June 30, 1999, CTI forgave
$576,266 of its $2,625,000 surplus debenture due from CCS as well as future
interest. As a result, CCS increased paid-in-capital to $1,000,000. As of
December 31, 2002, no payments could be made under the terms of the debenture.
In 2003, CTI forgave the balance of its surplus note to CCS in the amount
of $2,048,734. As a result paid-in and contributed surplus of CCS increased to
$3,048,734.
CERTIFICATIONS
--------------
I, Joseph M. Williams, certify that:
1. I reviewed this annual report on Form 10-K of Cumberland Technologies, Inc.:
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other information
included in this annul report, fairly present in all material respects the
financial condition, results of operations and cash flow of the registrant as
of, and for, the period presented in this annual report.
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) Designed such disclosure controls and procedures to ensure the
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing ate of
this annual report (the "Evaluation Date"; and
c) Presented in this annual report our conclusion about the effectiveness
of the disclosure controls and procedures based on our evaluation as
of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated to this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: May 6, 2003 By:/s/ JOSEPH M. WILLIAMS
-----------------------------
Joseph M. Williams, President
CERTIFICATIONS
--------------
I, Carol S. Black, certify that:
1. I reviewed this annual report on Form 10-K of Cumberland Technologies, Inc.:
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other information
included in this annul report, fairly present in all material respects the
financial condition, results of operations and cash flow of the registrant as
of, and for, the period presented in this annual report.
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) Designed such disclosure controls and procedures to ensure the
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing ate of
this annual report (the "Evaluation Date"; and
c) Presented in this annual report our conclusion about the effectiveness
of the disclosure controls and procedures based on our evaluation as
of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated to this
annual report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: May 6, 2003 By:/s/ CAROL S. BLACK
------------------------------------------
Carol S. Black
Secretary and
Principal Financial and Accounting Officer