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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

_______________

 

FORM 10-Q

_______________

 

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

For the quarterly period ended September 30, 2014

 

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

For the transition period from ____________ to ____________

 

Commission File Number 000-51954

_______________

 

DCP Holding Company

(Exact name of Registrant as specified in its Charter)

 

Ohio

20-1291244

(State or Other Jurisdiction of

(IRS Employer Identification No.)

Incorporation or Organization)

 

 

100 Crowne Point Place

45241

Sharonville, Ohio

(Zip Code)

(Address of Principal Executive Office)

 

 

Registrant’s telephone number, including area code: (513) 554-1100

 

_______________

 

 

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 and Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes ☒     No ☐

 

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

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer ☐

Accelerated filer ☐  

Non-accelerated filer ☒

Smaller reporting Company ☐

 

 

(Do not check if smaller reporting company)  

 

                                         

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

 

As of September 30, 2014, there were 535, 7,676 and 121 of the Registrant’s Class A, Class B and Class C Redeemable Common Shares outstanding, respectively.

 



 
 

 

  

TABLE OF CONTENTS

 

 

PART I – FINANCIAL INFORMATION

 
     
 

 

PAGE

Item 1.

Financial Statements (unaudited)

1

Item 2.

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

13

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

23

Item 4.

Controls and Procedures

24

     
 

PART II – OTHER INFORMATION

 

Item 1.

Legal Proceedings

25

Item 1A.

Risk Factors

25

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

25

Item 3.

Defaults Upon Senior Securities

25

Item 4.

Mine Safety Disclosures

25

Item 5.

Other Information

25

Item 6.

Exhibits

26

 

Signatures

26

 

 
i

 

 

PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

 

DCP HOLDING COMPANY AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) 

             
   

September 30,

   

December 31,

 
   

2014

   

2013

 

ASSETS

               
                 

INVESTMENTS:

               

Fixed maturities, available for sale at fair value, amortized cost of $7,633,000 and $6,986,000 at September 30, 2014 and December 31, 2013, respectively

  $ 7,772,874     $ 7,068,365  

Short-term investments, available for sale at fair value, cost of $500,000 and $260,000 at September 30, 2014 and December 31, 2013, respectively

    546,023       261,244  

Total investments

    8,318,897       7,329,609  

CASH AND CASH EQUIVALENTS

    7,387,780       8,105,859  

ACCRUED INVESTMENT INCOME

    53,117       53,287  

ACCOUNTS RECEIVABLE, including uncollected premiums of $832,418 and $719,755, net of allowance of $8,976 and $7,686 at September 30, 2014 and December 31, 2013, respectively

    39,373,284       34,530,021  

DEFERRED ACQUISITION COSTS

    2,500,534       2,190,462  

PROPERTY AND EQUIPMENT, net of depreciation and amortization of $2,961,206 and $2,728,361 at September 30, 2014 and December 31, 2013, respectively

    2,733,650       2,473,285  

OTHER ASSETS

    2,369,432       2,220,582  

TOTAL ASSETS

  $ 62,736,694     $ 56,903,105  
                 

LIABILITIES, REDEEMABLE SHARES AND SHAREHOLDERS’ EQUITY

               

CLAIMS PAYABLE

  $ 2,662,553     $ 2,219,725  

UNEARNED PREMIUM REVENUE

    40,111,985       35,395,337  

OTHER PAYABLES AND ACCRUALS

    5,370,552       5,445,258  

MORTGAGE LOAN PAYABLE

    1,259,300       1,294,400  

CAPITAL LEASE OBLIGATION

    288,563       379,265  

DEFERRED COMPENSATION

    2,345,840       2,062,783  

TOTAL LIABILITIES

    52,038,793       46,796,768  
                 

COMMITMENTS AND CONTINGENCIES

               
                 

REDEEMABLE PREFERRED AND COMMON SHARES:

               

Institutional Preferred Shares-2010 Series, no par value, cumulative 5% dividend—authorized, 300 shares; issued and outstanding, 300 shares at September 30, 2014 and December 31, 2013, respectively

    407,297       391,814  

Institutional Preferred Shares-2012 Series, no par value, cumulative 5% dividend—authorized, 1,000 shares; issued and outstanding, 1,000 shares at September 30, 2014 and December 31, 2013, respectively

    1,175,636       1,130,946  

Institutional Preferred Shares-2013 Series, no par value, cumulative 5% dividend—authorized, 1,000 shares; issued and outstanding, 1,000 shares at September 30, 2014 and December 31, 2013

    1,081,348       1,040,242  

Class A, Redeemable Common Shares, no par value—authorized, 7,500 shares; issued and outstanding, 535 and 546 shares at September 30, 2014 and December 31, 2013, respectively

    515,841       488,282  

Class B Redeemable Common Shares, no par value—authorized, 120,000 shares; issued and outstanding, 7,676 and 7,889 shares at September 30, 2014 and December 31, 2013, respectively

    7,401,112       7,055,053  

Class C Redeemable Common Shares, no par value—authorized, 80,000 shares; issued and outstanding, 121 and zero shares at September 30, 2014 and December 31, 2013, respectively

    116,667          

Class D Redeemable Common Shares, no par value—authorized, 100,000 shares; issued none

               
Provider Preferred-2009 Series Redeemable Preferred Shares, no par value, cumulative 5% dividend—authorized, 5,000 shares; issued none                
                 

Total redeemable preferred and common shares

    10,697,901       10,106,337  
                 

SHAREHOLDERS’ EQUITY—Preferred Shares; no par value—authorized, 92,700 shares; issued, none

               
                 

TOTAL LIABILITIES, REDEEMABLE SHARES AND SHAREHOLDERS’ EQUITY

  $ 62,736,694     $ 56,903,105  

 

See notes to unaudited condensed consolidated financial statements.

 

 

 
1

 

 

DCP HOLDING COMPANY AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED) 

             
   

For the Three Months Ended

   

For the Nine Months Ended

 
   

September 30,

   

September 30,

 
   

2014

   

2013

   

2014

   

2013

 
                                 

REVENUES

                               

Premium revenue

  $ 23,578,225     $ 22,613,692     $ 69,065,776     $ 64,878,290  

Investment income

    57,648       42,947       165,145       115,881  

Realized gains on investments, net

    25,456               28,277          

Other income

    15,576       13,237       46,728       45,906  

Total revenues

    23,676,905       22,669,876       69,305,926       65,040,077  
                                 

EXPENSES

                               

Healthcare services expense

    18,640,591       18,238,159       54,685,254       51,933,947  

Insurance expense:

                               

Salaries and benefits expense

    1,539,841       1,493,450       5,052,395       4,367,545  

Commission expenses and other acquisition costs

    1,269,215       1,062,492       3,815,808       2,950,084  

Other insurance expense

    1,345,086       1,688,256       4,312,220       4,879,451  

Total insurance expense

    4,154,142       4,244,198       13,180,423       12,197,080  

Total expenses

    22,794,733       22,482,357       67,865,677       64,131,027  
                                 
                                 

INCOME BEFORE INCOME TAX

    882,172       187,519       1,440,249       909,050  
                                 

INCOME TAX EXPENSE

    366,718       66,135       598,720       320,003  
                                 

NET INCOME

    515,454       121,384       841,529       589,047  
                                 

OTHER COMPREHENSIVE INCOME (LOSS)

                               

Change in the fair value of interest rate swap, net of income tax expense (benefit) of ($1,295), ($285), $12,388 and $2,361, respectively

    (2,513 )     (553 )     24,049       4,583  

Change in the fair value of investments, net of income tax expense (benefit) of ($26,904), $3,554, $29,006 and ($64,827), respectively

    (52,225 )     6,898       56,307       (125,840 )

Reclassification adjustment for gains included in net income, net of tax expense of $8,655 and $9,615, respectively

    (16,801 )             (18,662 )        

Total other comprehensive income (loss)

    (71,539 )     6,345       61,694       (121,257 )
                                 

TOTAL COMPREHENSIVE INCOME

  $ 443,915     $ 127,729     $ 903,223     $ 467,790  

 

See notes to unaudited condensed consolidated financial statements. 

 

 
2

 

 

DCP HOLDING COMPANY AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) 

               
   

For the Nine Months Ended

September 30,

 
                 
   

2014

   

2013

 
                 

CASH FLOWS FROM OPERATING ACTIVITIES:

               

Net income on redeemable shares

  $ 841,529     $ 589,047  

Adjustments to reconcile net income to cash provided by operating activities:

               

Depreciation and amortization

    245,008       282,247  

Loss on disposal of property

            56,495  

Realized gain on investments, net

    (28,277 )        

Deferred compensation

    458,583       372,130  

Effects of changes in operating assets and liabilities:

               

Accrued investment income

    170       (3,869 )

Accounts receivable

    (4,843,263 )     (22,509,747 )

Deferred acquisition costs

    (310,072 )     (1,429,052 )

Other assets

    (187,966 )     (157,351 )

Claims payable

    442,828       156,975  

Unearned premium revenue

    4,716,648       22,582,901  

Other payables and accruals

    (75,184 )     862,751  
                 

Net cash provided by operating activities

    1,260,004       802,527  
                 

CASH FLOWS FROM INVESTING ACTIVITIES:

               

Purchases of investments

    (2,323,185 )     (3,570,750 )

Sales and maturities of investments

    1,418,716       1,084,496  

Investment, other

    (5,000 )     (5,000 )

Acquisition of property and equipment

    (505,876 )     (441,418 )
                 

Net cash used in investing activities

    (1,415,345 )     (2,932,672 )
                 

CASH FLOWS FROM FINANCING ACTIVITIES:

               

Mortgage loan repayments

    (35,100 )     (34,200 )

Payments on capital lease

    (90,702 )     (101,104 )

Repurchase of redeemable shares

    (174,594 )     (74,501 )

Redeemable shares issued

    130,948       1,096,959  

Dividends paid

    (393,290 )     (361,539 )
                 

Net cash (used in) provided by financing activities

    (562,738 )     525,615  
                 

DECREASE IN CASH AND CASH EQUIVALENTS

    (718,079 )     (1,604,530 )
                 

CASH AND CASH EQUIVALENTS—Beginning of period

    8,105,859       8,530,758  
                 

CASH AND CASH EQUIVALENTS—End of period

  $ 7,387,780     $ 6,926,228  
                 

SUPPLEMENTAL CASH FLOW INFORMATION

               

Cash paid for interest

  $ 37,900     $ 42,200  

Cash paid for income taxes

    825,000       490,000  
                 

NON-CASH INVESTING AND FINANCING ACTIVITIES:

               

Redeemed common shares (in other payables and accruals)

  $ 180,304     $ 180,228  

Class A redeemable common shares exchanged for Class B redeemable common shares

            5,672  

Capital lease obligation

            93,173  

Redeemable common shares to be issued in lieu of cash payment of deferred compensation

    175,526       11,120  

Deferred restricted shares in lieu of cash dividend

    40,712       52,042  

Purchased property and equipment (included in other payables and accruals)

            13,352  

 

See notes to unaudited condensed consolidated financial statements.

 

 
3

 

  

DCp HOLDING COMPANY And subsidiaries

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


 

1.

BASIS OF PRESENTATION

 

The condensed consolidated interim financial statements included in this report have been prepared by DCP Holding Company and Subsidiaries (the “Company”) without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (the “Commission”). In the opinion of management, all adjustments (consisting of normal recurring accruals) necessary for a fair presentation are reflected in the interim financial statements. These unaudited condensed consolidated financial statements should be read in conjunction with the audited 2013 financial statements and notes thereto as included in the DCP Holding Company annual report on Form 10-K for the year ended December 31, 2013 filed with the Commission on March 20, 2014. These unaudited condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America for interim financial statements. Certain financial information that is required in the annual financial statements may not be required for interim financial reporting purposes and has been condensed or omitted. Operating results for the three and nine months ended September 30, 2014 are not necessarily indicative of the results that may be expected for the year ending December 31, 2014.

 

2.

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

The interim condensed consolidated financial statements have been prepared in accordance with the accounting policies described in the notes to the Company’s consolidated financial statements for the year ended December 31, 2013. While management believes that the procedures followed in preparation of interim financial information are reasonable, the accompanying condensed consolidated financial statements include estimates for items such as changes in claims payable, deferred tax accounts, deferred acquisition costs, deferred share-based compensation and accrued expenses, among others. Any adjustments related to such estimates during the reporting period were of a normal recurring nature.

 

Premium Revenue

 

Fully-Insured—Membership contracts are written on an annual basis and are subject to cancellation by the employer group upon thirty days written notice. The Company’s unearned premium revenue was approximately $40,112,000 and $35,395,000 at September 30, 2014 and December 31, 2013, respectively, and primarily relates to the estimated premium revenue associated with the remaining contract periods. Related amounts recorded in unbilled accounts receivable were approximately $38,541,000 and $33,810,000 at September 30, 2014 and December 31, 2013, respectively. Premiums are due monthly in advance and are recognized evenly as revenue during the period in which the Company is obligated to provide services to members. Any amounts not received by the end of a reporting period are recorded as accounts receivable by the Company. Any premiums received prior to the beginning of a reporting period are recognized as premiums received in advance and are included in unearned premium revenue in the accompanying condensed consolidated balance sheets. Premiums received in advance were approximately $1,571,000 and $1,585,000 at September 30, 2014 and December 31, 2013, respectively. Management has determined that as of September 30, 2014 and December 31, 2013, respectively, no premium deficiency reserve is required. The Company’s premium deficiency reserve analysis includes an allocation of investment income.

 

Self-Insured—The Company provides administrative and claims processing services, benefit plan design, and access to its provider networks for an administrative fee to self-insured groups. The Company has no underwriting risk arising from the provision or cost of any services provided to the self-insured groups. The Company recognizes and records self-insured premiums on a gross basis because: (i) the Company is the primary obligor in its contractual relationships with self-insured employers and dental service providers, (ii) the Company establishes the pricing for the services provided, (iii) the Company controls the selection of and the relationships with the dental service providers, and (iv) the Company is involved in the determination of dental service specifications. Self-insured premium revenue is recognized upon the payment of claims for self-insured members in accordance with agreements with self-insured employers and is included in premium revenue in the accompanying condensed consolidated statements of comprehensive income.

 

Third-party administration fee revenue (“ASO fees”) is recognized monthly when earned and is normally based on annual contracts with the self-insured groups. ASO fees are charged to self-insured employer groups monthly on a per subscriber per month basis and included in premium revenue in the accompanying condensed consolidated statements of comprehensive income. ASO fees also include the administrative fees the Company earns relative to the dental PPO, dental indemnity and vision products that are underwritten by third-party insurance carriers.

  

 
4

 

 

Healthcare Services Expense— Healthcare services expense is recognized on a monthly basis. In the case of the fully-insured dental HMO and indemnity (“dental HMO/IND”) and dental PPO segments, healthcare services expense is calculated by taking the paid claims associated with the fully-insured membership and adjusting this amount for the change in the claims payable liability determined using actuarial estimates. For the self-insured dental segment, the healthcare services expense is based solely on the paid claims for the self-insured membership.

 

Investments—The Company invests in certificates of deposit, corporate bonds and money market funds. The Company classifies all investments as available-for-sale. The Company engages a fixed income portfolio manager to manage the Company’s investment grade and non-investment grade corporate bonds, under the Company’s direction, in order to maximize investment returns. Such investments are recorded at fair value, with unrealized gains and losses recorded as a component of other comprehensive income. The Company recognizes gains and losses when these securities have other than temporary impairment, mature or are sold using the specific identification method.

 

Deferred Acquisition Costs—Deferred acquisition costs are those incremental direct costs related to the successful acquisition of new and renewal business. These incremental direct costs are those that are essential to the contract transaction and would not have been incurred had the contract transaction not occurred. Such incremental direct costs include commissions, costs of contract issuance and underwriting, premium taxes and other costs the Company incurs to successfully acquire new business or renew existing business. The Company defers policy acquisition costs and amortizes them over the estimated life of the contracts, which are short-duration in nature, in proportion to premiums earned. The Company capitalized deferred acquisition costs of approximately $866,000 and $744,000 and amortized approximately $1,031,000 and $969,000 of these capitalized costs for the three months ended September 30, 2014 and 2013, respectively. The Company capitalized deferred acquisition costs of approximately $3,394,000 and $4,307,000 and amortized approximately $3,085,000 and $2,878,000 of these capitalized costs for the nine months ended September 30, 2014 and 2013, respectively. The amortization of these costs are recorded in commission expense and other acquisition costs included in the condensed consolidated statements of comprehensive income.     

 

Claims Payable—The Company estimates liabilities for both incurred but not reported (“IBNR”) and reported claims in process by employing actuarial methods that are commonly used by health insurance actuaries.  These estimates meet actuarial standards of practice and are also recorded in accordance with generally accepted accounting principles.  Management’s estimates of dental services provided are based on the Company’s historical experience and current trends, with assistance from the Company’s consulting actuary. Estimated dental claims payable are reviewed monthly by management and are adjusted based on current information, actual paid claims data, dental utilization statistics and other pertinent information. However, final claim payments may differ from the established reserves. Any resulting adjustments are reflected in current operations in the condensed consolidated statements of comprehensive income.

  

3.

INVESTMENTS

 

The Company owned certificates of deposit insured by the Federal Deposit Insurance Corporation (“FDIC”) with an amortized cost of $1,050,000 and $1,250,000 as of September 30, 2014 and December 31, 2013, respectively. The certificates of deposit included in short-term and fixed maturities investments are classified as available-for-sale and are carried at fair value. The Company also invests in money market funds included in short-term investments and are classified as available-for-sale, with a cost and fair value of approximately $42,000 and $60,000 as of September 30, 2014 and December 31, 2013, respectively. The Company invests in corporate bonds with an amortized cost of approximately $7,083,000 and $5,936,000 as of September 30, 2014 and December 31, 2013, respectively. The corporate bonds included in fixed maturities investments are classified as available-for-sale and are carried at fair value.

 

The Company owned 112 corporate bonds at September 30, 2014, which consist primarily of investment grade securities. At September 30, 2014, total bond fair value was approximately $7,220,000, which consists of 70 different securities each with a credit rating of AA+ or better totaling approximately $5,204,000. The remaining 42 securities, totaling approximately $2,016,000, had a credit rating of between BB+ and B-. The weighted average yield-to-cost of the Company’s corporate bonds was approximately 3.18% at September 30, 2014. The weighted average maturity of the Company’s corporate bonds was 5.28 years at September 30, 2014. The unrealized gains and losses on available-for-sale investment activity are due to a change in fair value for these investments caused primarily by changes in prevailing interest rates since they were purchased. There were approximately $25,000 and $28,000 of realized gains for the three and nine months ended September 30, 2014, respectively. There were no material realized gains or losses for the three and nine months ended September 30, 2013.

  

 
5

 

 

At September 30, 2014 and December 31, 2013, maturity dates for fixed maturities and short-term investments (excluding the money market funds) were:

 

   

Available-for-Sale

 
   

Amortized

   

Fair

   

% of

 

September 30, 2014

 

Cost

   

Value

   

Total Value

 

Maturity dates occurring:

                       

Less than 1 year (Three certificates of deposit)

  $ 500,000     $ 503,770       6.1 %

Greater than 1 year (Three certificates of deposit and 112 corporate bonds)

    7,633,063       7,772,874       93.9 %
                         

Total

  $ 8,133,063     $ 8,276,644       100.0 %

 

   

Available-for-Sale

 
   

Amortized

   

Fair

   

% of

 

December 31, 2013

 

Cost

   

Value

   

Total Value

 

Maturity dates occurring:

                       

Less than 1 year (Two certificates of deposit)

  $ 200,000     $ 201,027       2.8 %

Greater than 1 year (Six certificates of deposit and 108 corporate bonds)

    6,986,176       7,068,365       97.2 %
                         

Total

  $ 7,186,176     $ 7,269,392       100.0 %


Investments classified at September 30, 2014 and December 31, 2013 as fixed maturities and short-term investments were as follows:

 

   

Available-for-Sale

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

   

Fair

 

September 30, 2014

 

Cost

   

Gain

   

Loss

   

Value

 
                                 

Money market fund

  $ 42,253                     $ 42,253  

Certificates of deposit, fixed maturities

    1,050,000     $ 7,374               1,057,374  

Corporate bonds, fixed maturities

    7,083,063       166,910     $ (30,703 )     7,219,270  
                                 

Total investments

  $ 8,175,316     $ 174,284     $ (30,703 )   $ 8,318,897  

 

   

Available-for-Sale

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

   

Fair

 

December 31, 2013

 

Cost

   

Gain

   

Loss

   

Value

 
                                 

Money market fund

  $ 60,217                     $ 60,217  

Certificates of deposit, short term

    200,000     $ 1,027               201,027  

Certificates of deposit, fixed maturities

    1,050,000       8,693     $ (1,625 )     1,057,068  

Corporate bonds, fixed maturities

    5,936,176       128,023       (52,902 )     6,011,297  
                                 

Total investments

  $ 7,246,393     $ 137,743     $ (54,527 )   $ 7,329,609  

 

Unrealized losses on investments at September 30, 2014 and December 31, 2013 were generally due to higher current market yields relative to the yields of the investments at their amortized cost. Unrealized losses due to credit risk associated with the underlying collateral of the investments, if any, are not material. All investments with unrealized losses are reviewed quarterly to determine if any impairment is other than temporary, requiring a charge to earnings. The Company considers the severity of the loss on a security, duration of loss, duration of the investment, credit rating of the security, as well as payment performance and the Company’s intent or requirement to sell the investment before recovery when determining whether any impairment is other than temporary. The Company had no investments in a material unrealized loss position for greater than one year as of September 30, 2014 and December 31, 2013.

  

 
6

 

  

4.

ACCUMULATED OTHER COMPREHENSIVE INCOME

 

Accumulated other comprehensive income includes changes in unrealized gains and losses on available for sale and other invested assets as follows: 

 

   

Three months ended

   

Three months ended

 
   

September 30, 2014

   

September 30, 2013

 
   

Before Tax

   

Income Tax

   

Net

   

Before Tax

   

Income Tax

   

Net

 

Accumulated unrealized gains, net, on investments available for sale, beginning of period

  $ 247,209     $ 84,051     $ 163,158     $ 50,677     $ 17,233     $ 33,444  

Other comprehensive income (loss) before reclassification

    (79,129 )     (26,904 )     (52,225 )     10,452       3,554       6,898  

Reclassification adjustment for realized investment gains included in realized gains on investments, net

    (25,456 )     (8,655 )     (16,801 )                        

Effect on other comprehensive income (loss)

    (104,585 )     (35,559 )     (69,026 )     10,452       3,554       6,898  

Accumulated unrealized gains, net, on investments available for sale, end of period

  $ 142,624     $ 48,492     $ 94,132     $ 61,129     $ 20,787     $ 40,342  
                                                 

Accumulated unrealized losses, net, on interest rate swap, beginning of period

  $ (15,373 )   $ (5,228 )   $ (10,145 )   $ (33,493 )   $ (11,388 )   $ (22,105 )

Other comprehensive income before reclassification

    (3,808 )     (1,295 )     (2,513 )     (838 )     (285 )     (553 )

Effect on other comprehensive income

    (3,808 )     (1,295 )     (2,513 )     (838 )     (285 )     (553 )

Accumulated unrealized losses, net, on interest rate swap, end of period

  $ (19,181 )   $ (6,523 )   $ (12,658 )   $ (34,331 )   $ (11,673 )   $ (22,658 )
                                                 

Accumulated other comprehensive income, beginning of period

  $ 231,836     $ 78,823     $ 153,013     $ 17,184     $ 5,845     $ 11,339  

Change in unrealized gains (losses), net, on investments available for sale

    (104,585 )     (35,559 )     (69,026 )     10,452       3,554       6,898  

Change in unrealized gains, net, on interest rate swap

    (3,808 )     (1,295 )     (2,513 )     (838 )     (285 )     (553 )

Effect on other comprehensive income

    (108,393 )     (36,854 )     (71,539 )     9,614       3,269       6,345  

Accumulated other comprehensive income, end of period

  $ 123,443     $ 41,969     $ 81,474     $ 26,798     $ 9,114     $ 17,684  

  

 
7

 

 

   

Nine months ended

   

Nine months ended

 
   

September 30, 2014

   

September 30, 2013

 
   

Before Tax

   

Income Tax

   

Net

   

Before Tax

   

Income Tax

   

Net

 

Accumulated unrealized gains, net, on investments available for sale, beginning of period

  $ 85,588     $ 29,101     $ 56,487     $ 251,796     $ 85,614     $ 166,182  

Other comprehensive income (loss) before reclassification

    85,313       29,006       56,307       (190,667 )     (64,827 )     (125,840 )

Reclassification adjustment for realized investment gains included in realized gains on investments, net

    (28,277 )     (9,615 )     (18,662 )                        

Effect on other comprehensive income (loss)

    57,036       19,391       37,645       (190,667 )     (64,827 )     (125,840 )

Accumulated unrealized gains, net, on investments available for sale, end of period

  $ 142,624     $ 48,492     $ 94,132     $ 61,129     $ 20,787     $ 40,342  
                                                 

Accumulated unrealized losses, net, on interest rate swap, beginning of period

  $ (55,618 )   $ (18,911 )   $ (36,707 )   $ (41,275 )   $ (14,034 )   $ (27,241 )

Other comprehensive income before reclassification

    36,437       12,388       24,049       6,944       2,361       4,583  

Effect on other comprehensive income

    36,437       12,388       24,049       6,944       2,361       4,583  

Accumulated unrealized losses, net, on interest rate swap, end of period

  $ (19,181 )   $ (6,523 )   $ (12,658 )   $ (34,331 )   $ (11,673 )   $ (22,658 )
                                                 

Accumulated other comprehensive income, beginning of period

  $ 29,970     $ 10,190     $ 19,780     $ 210,521     $ 71,580     $ 138,941  

Change in unrealized gains (losses), net, on investments available for sale

    57,036       19,391       37,645       (190,667 )     (64,827 )     (125,840 )

Change in unrealized gains, net, on interest rate swap

    36,437       12,388       24,049       6,944       2,361       4,583  

Effect on other comprehensive income

    93,473       31,779       61,694       (183,723 )     (62,466 )     (121,257 )

Accumulated other comprehensive income, end of period

  $ 123,443     $ 41,969     $ 81,474     $ 26,798     $ 9,114     $ 17,684  

 

5.

DEFERRED COMPENSATION PLAN

 

Share-based compensation cost is measured at the grant date based on the fair value of the awards and is recognized as expense over the vesting periods and is included in total insurance expense in the condensed consolidated statements of comprehensive income. The fair value of the awards is remeasured at the end of each reporting period through the remaining vesting period with the change in fair value recognized in earnings.

 

In accordance with the 2006 Dental Care Plus Management Equity Incentive Plan and the Dental Care Plus, Inc. and DCP Holding Company Deferred Compensation Plan (the “Plans”), Company directors and certain key employees elected to defer portions of their director fees and employee compensation, as applicable. The Company recorded expense of approximately $29,000 and $13,000 related to deferred director fees and deferred employee compensation for the three months ended September 30, 2014 and 2013, respectively. The Company recorded expense of approximately $102,000 and $51,000 related to deferred director fees and deferred employee compensation for the nine months ended September 30, 2014 and 2013, respectively. Directors and key employees who elect to defer cash compensation may request that the Company invest this compensation in a mutual fund investment or phantom shares of the Company.

 

The Plans also provide for the directors and key employees to receive share awards based on the book value of the Redeemable Common Shares. A director will receive Class B Redeemable Common Shares upon vesting. A key employee may elect to defer receiving such amounts until termination of employment and vesting requirements are met. If a key employee does not elect to defer receiving his or her share awards, the individual will receive Class B Redeemable Common Shares upon vesting. If the share awards are deferred, these deferred amounts will be paid in cash at redemption. An individual director’s award vests 100% at the end of each year if the director meets certain attendance requirements. The key employee awards vest 10%, 20%, 30% and 40% at the end of each respective year in a four-year period following the grant date. There are no performance criteria associated with the vesting of the awards for key employees and the only requirement for vesting is that the individual is an employee of the Company at the end of the vesting year in question. The number of awards expected to vest approximates the total non-vested awards outstanding.

  

 
8

 

 

The Company has a long-term incentive compensation program for named executive officers pursuant to which an officer may receive an award of up to 45% of such officer’s base salary in the form of share awards which will vest if established Company performance criteria are achieved over a three year period.

 

The deferred compensation expense related to these awards is recorded over the applicable vesting period. The Company recorded deferred compensation expense of approximately $145,000 and $74,000 related to deferred share awards and the change in the value of phantom shares for the three months ended September 30, 2014 and 2013, respectively. The Company recorded deferred compensation expense of approximately $406,000 and $359,000 related to deferred share awards and the change in the value of phantom shares for the nine months ended September 30, 2014 and 2013, respectively. As of September 30, 2014, there is approximately $276,000 of total unrecognized compensation cost related to non-vested award compensation under the Plans. That cost is expected to be recognized over a weighted average period of 2.0 years.

 

In February 2014 and 2013, the Board declared a per share cash dividend for all Class A and Class B redeemable common shares in the amounts of $35.77 and $32.60 per share, respectively. With the dividend, the holders of restricted share units and phantom shares received an equivalent share based dividend that resulted in an increase in the deferred compensation liability of approximately $41,000 and $52,000 in February 2014 and February 2013, respectively.

 

The fair value of the awards is calculated based on the book value per redeemable common share. The weighted average grant date fair value of the awards granted in the nine months ended September 30, 2014 and 2013 were $894 and $957, respectively. At September 30, 2014 and December 31, 2013, the deferred compensation liability was approximately $2,346,000 and $2,063,000, respectively.  

 

The following is a summary of activity of non-vested awards for the nine months ended September 30, 2014 and 2013:

 

 

   

Individual

Director's

Share Awards

   

Weighted

Average Grant

Date Fair

Value

   

Key Employee

Share Awards

   

Weighted

Average Grant

Date Fair

Value

 
                                 

Non-vested awards at January 1, 2014

                    644.6     $ 830  

Granted

    252.0     $ 894       67.0       894  

Vested

    (7.0 )     894                  

Forfeited

                    (24.6 )     914  

Non-vested awards at September 30, 2014

    245.0     $ 894       687.0     $ 833  

 

 

   

Individual

Director's

Share Awards

   

Weighted

Average Grant

Date Fair

Value

   

Key Employee

Share Awards

   

Weighted

Average Grant

Date Fair

Value

 
                                 

Non-vested awards at January 1, 2013

                    535.8     $ 746  

Granted

    252.0     $ 885       203.0       1,046  

Vested

    (14.0 )     885                  

Forfeited

                    (21.0 )     871  

Non-vested awards at September 30, 2013

    238.0     $ 885       717.8     $ 827  

 

The following is a summary of activity of vested awards for the nine months ended September 30, 2014 and 2013:

 

   

Individual

Director's

Awards

   

Weighted

Average

Vested price

   

Key Employee

Awards

   

Weighted

Average Vested

price

 
                                 

Vested awards at January 1, 2014

    806.7     $ 886       408.5     $ 920  
                                 

Share based dividend

    32.5       887       13.4       887  

Vested during the year

    7.0       884                  

Redeemed vested awards

                    (76.2 )     887  

Converted to Redeemable Common Shares

    (7.0 )     884                  
                                 

Vested awards at September 30, 2014

    839.2     $ 929       345.7     $ 929  

 

 
9

 

 

   

Individual

Director's

Awards

   

Weighted

Average

Vested price

   

Key Employee

Awards

   

Weighted

Average Vested

price

 
                                 

Vested awards at January 1, 2013

    876.0     $ 815       339.7     $ 840  
                      .          

Share based dividend

    34.5       828       13.4       828  

Vested during the year

    14.0       794                  

Redeemed vested awards

    (103.8 )     794                  

Converted to Redeemable Common Shares

    (14.0 )     794                  
                                 

Vested awards at September 30, 2013

    806.7     $ 787       353.1     $ 816  

 

6.

SEGMENT INFORMATION

 

The Company manages its business with four segments: fully-insured dental HMO/IND, fully-insured dental PPO, self-insured dental and corporate, all other. Self-insured dental consists of the self-insured dental HMO, self-insured dental PPO and self-insured dental indemnity products. Corporate, all other consists of revenue associated with the Company’s dental indemnity, dental PPO, and vision products underwritten by third-party insurance carriers and certain other corporate activities. These segments are consistent with information used by the Chief Executive Officer (the chief operating decision maker) in managing the business. The segment information aggregates products with similar economic characteristics. These characteristics include the nature of employer groups, pricing, benefits and underwriting requirements.

 

The results of the fully-insured dental HMO/IND, fully-insured dental PPO and self-insured dental segments are measured by gross profit. The Company does not allocate insurance expense, investment and other income, assets or liabilities to these segments because the Company does not use these measures to analyze the segments. These items are assigned to the remainder of the Company’s business, which it identifies as corporate, all other. The Company’s gross profit, which is defined as premium revenue less healthcare services expense, was approximately $4,937,000 and $4,376,000 for the three months ended September 30, 2014 and 2013, respectively. The Company’s gross profit was approximately $14,381,000 and $12,944,000 for the nine months ended September 30, 2014 and 2013, respectively

 

Listed below is financial information required for each reportable segment for the three and nine months ended September 30, 2014 and 2013 (amounts in thousands):

 

   

Three Months Ended

   

Three Months Ended

 
   

September 30, 2014

   

September 30, 2013

 
                                                 
   

Revenues-

   

Healthcare

           

Revenues-

   

Healthcare

         
   

External

   

Services

           

External

   

Services

         
   

Customers

   

Expense

   

Total

   

Customers

   

Expense

   

Total

 

Reportable segments:

                                               

Fully-insured dental HMO/IND

  $ 11,885     $ 9,230     $ 2,655     $ 11,685     $ 9,128     $ 2,557  

Fully-insured dental PPO

    4,222       3,095       1,127       3,413       2,735       678  

Self-insured dental

    7,313       6,316       997       7,367       6,375       992  

Corporate, all other

    158               158       149               149  

Total

  $ 23,578     $ 18,641       4,937     $ 22,614     $ 18,238       4,376  
                                                 

Investment income

                    58                       43  

Realized gains on investments, net

                    25                          

Other income

                    16                       13  
                                                 

Insurance expense

                    4,154                       4,244  
                                                 

Income before income tax

                  $ 882                     $ 188  
                                                 

Total assets-corporate

                  $ 62,737                          

 

 
10

 

 

   

Nine Months Ended

   

Nine Months Ended

 
   

September 30, 2014

   

September 30, 2013

 
                                                 
   

Revenues-

   

Healthcare

           

Revenues-

   

Healthcare

         
   

External

   

Services

           

External

   

Services

         
   

Customers

   

Expense

   

Total

   

Customers

   

Expense

   

Total

 

Reportable segments:

                                               

Fully-insured dental HMO/IND

  $ 35,836     $ 27,559     $ 8,277     $ 34,941     $ 26,943     $ 7,998  

Fully-insured dental PPO

    12,247       9,476       2,771       9,932       8,148       1,784  

Self-insured dental

    20,507       17,650       2,857       19,575       16,843       2,732  

Corporate, all other

    476               476       430               430  

Total

  $ 69,066     $ 54,685       14,381     $ 64,878     $ 51,934       12,944  
                                                 

Investment income

                    165                       116  

Realized gains on investments, net

                    28                          

Other income

                    47                       46  
                                                 

Insurance expense

                    13,180                       12,197  
                                                 

Income before income tax

                  $ 1,441                     $ 909  
                                                 

Total assets-corporate

                  $ 62,737                          

 

   Inter-segment revenues were not significant for the three and nine months ended September 30, 2014 and 2013.

 

7.

FEDERAL INCOME TAXES

 

The Company calculates its year to date income tax provision by applying the estimated annual effective tax rate for the year to pretax income. The income tax expense for the three months ended September 30, 2014 was approximately $367,000 with an effective rate of 41.6%. The income tax expense for the three months ended September 30, 2013 was approximately $66,000 with an effective tax rate of 35.3%. The income tax expense for the nine months ended September 30, 2014 was approximately $599,000 with an effective rate of 41.6%. The income tax expense for the nine months ended September 30, 2013 was approximately $320,000 with an effective tax rate of 35.2%. The increase in the effective tax rate for the 2014 period compared to the 2013 period is the result of the new 2014 federal premium tax assessment that is not deductible for federal tax purposes. Tax years subsequent to 2010 remain open to examination by the Internal Revenue Service (“IRS”), and 2009 remains open to state and local tax authorities.  The Company has recorded no uncertain tax positions in the tax years that are subject to examination.

  

 

8.

FAIR VALUE MEASUREMENTS

 

The Company classifies the assets and liabilities that require measurement of fair value on a recurring basis based on the priority of the observable and market-based sources of data into a three-level fair value hierarchy. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). The three levels of the fair value hierarchy are as follows:

 

 

Level 1 – Valuations based on quoted prices in active markets for identical assets or liabilities that the entity has the ability to access.

 

Level 2 – Valuations based on significant other observable inputs other than those included in Level 1 such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable data for substantially the full term of the assets or liabilities.

 

Level 3 – Valuations based on unobservable inputs such as when observable inputs are not available or inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

  

 
11

 

  

The following table presents for each of the fair value levels, the Company’s assets and liabilities that are measured at fair value on a recurring basis as of September 30, 2014 and December 31, 2013 (amounts in thousands):

 

   

September 30, 2014

   

December 31, 2013

 
   

Level 1

   

Level 2

   

Total Balance

   

Level 1

   

Level 2

   

Total Balance

 

Assets

                                               

Fixed maturities

                                               

Federally-Insured certificates of deposit

          $ 554     $ 554             $ 1,057     $ 1,057  

Investment grade corporate bonds

            6,772       6,772               6,011       6,011  

Non-investment grade corporate bonds

            448       448                          

Short-term investments

                                               

Money market fund

  $ 42               42     $ 60               60  

Federally-Insured certificates of deposit

            504       504               201       201  

Deferred compensation investments (a)

                                               

Equity mutual fund investments

    505               505       419               419  

State guarantee fund deposits (b)

                                               

Government securities

    229               229       230               230  

Federally-Insured certificates of deposit

            50       50               50       50  

Total

  $ 776     $ 8,328     $ 9,104     $ 709     $ 7,319     $ 8,028  
                                                 

Liabilities

                                               

Interest rate swap (c)

          $ 19     $ 19             $ 56     $ 56  

Total

  $       $ 19     $ 19     $       $ 56     $ 56  

 

(a) Included as a trading security in other assets

(b) Included in other assets

(c) Included in other payables and accruals

 

The Company measures fair value using the following valuation methodologies. The Company uses quoted market prices to determine the fair value of the deferred compensation investments and certain state fund guarantee deposits; such items are classified as Level 1 of the fair value hierarchy. Examples include government securities and mutual fund equity securities. The Company primarily bases fair value for investments in fixed-maturity securities on quoted market prices or on prices from a pricing vendor, an outside resource that supplies independent securities pricing, dividend, corporate action and descriptive information to support fund pricing, securities operations, research and portfolio management. The Company obtains and reviews the pricing service’s valuation methodologies and validates these prices using various inputs including quotes from other independent regulatory sources. When deemed necessary, the Company validates prices by replicating a sample using a discounted cash flow model. Such items are classified as Level 2 of the fair value hierarchy. The Company obtains a price from an independent vendor to determine the fair value of the interest rate swap. The independent vendor uses a discounted cash flow method whereby the significant observable inputs include the replacement interest rates of similar swap instruments in the market and swap curves; such items are classified as Level 2 of the fair value hierarchy.

 

As of September 30, 2014 and December 31, 2013, there were no assets or liabilities that were required to be measured at fair value on a non-recurring basis. As of September 30, 2014 and December 31, 2013, the Company did not have any assets or liabilities classified as Level 3 of the fair value hierarchy.  

 

 
12

 

  

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Forward-Looking statements

 

Portions of this report, including this discussion and the information contained in the notes to the condensed consolidated financial statements, contain forward-looking statements under the Private Securities Litigation Reform Act of 1995. You can identify forward-looking statements by words such as “may,” “might,” “will,” “should,” “could,” “would,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “project,” “predict,” “intend,” “potential,” “likely will result,” or the negative of such terms or similar expressions. These forward-looking statements reflect our current expectations and views about future events and speak only as of the date of this report. The forward-looking statements are subject to risks, uncertainties and other factors that could cause actual events or results to differ materially from those expressed or implied by the forward-looking statements. Important factors that could cause actual results to differ materially from those in the forward-looking statements, include, among others: claims costs exceeding our estimates, a downgrade in our financial strength rating, competitive pressures, changes in demand for dental benefits and other economic conditions, the loss of a significant customer or broker, the occurrence or non-occurrence of circumstances beyond our control and those items described in Item 1A – Risk Factors of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2013. We do not undertake any obligation to publicly update or revise any forward-looking statements to reflect future events, information or circumstances that arise after the date this report is filed.

 

Overview

 

Headquartered in Cincinnati, Ohio, we offer dental HMO, dental indemnity, dental PPO and vision PPO benefit plans and related services, primarily to employer groups of two or more employees. As of September 30, 2014, we had approximately 333,400 members in our dental and vision benefit programs with approximately 2,800 dentists participating in our dental HMO network and approximately 3,100 dentists participating in our dental PPO network. The Company has a network leasing agreement with a national dental network management company that has one of the largest PPO networks of dentists under contract in the United States. With this network leasing agreement, our dental PPO members have access to approximately 2,400 additional dentists in Ohio and Indiana and approximately 42,000 additional dentists throughout the United States.

 

We manage our business with four reportable segments: fully-insured dental HMO and indemnity (“dental HMO/IND”), fully-insured dental PPO, self-insured dental, and corporate, all other. Self-insured dental consists of the self-insured dental HMO, self-insured dental PPO and self-insured dental indemnity products. Corporate, all other primarily consists of revenue associated with our dental and vision products underwritten by third-party insurance carriers and certain other corporate activities. Our dental HMO/IND and PPO products and our vision product line are primarily marketed to employer groups. The results of our fully-insured dental HMO/IND, fully-insured dental PPO and self-insured dental segments are measured by gross profit. We do not measure the gross profit of our corporate, all other segment. We do not allocate investment and other income, insurance expenses, assets or liabilities to our segments because these measures are not used to analyze the segments. Our segments do not share overhead costs or assets. We do, however, measure the contributions of each of our fully-insured and self-insured segments to costs retained in our corporate, all other segment.

 

Strategy

 

Our strategy focuses on providing solutions to employers to manage the rising cost of dental care by leveraging our growing networks of participating dentists and deploying a variety of products that give employer groups and members options that meet their needs. We strive to provide excellent customer service to our employer groups, members and participating dentists. Additionally, we have increased the diversification of our membership base, not only through our newer products, but also by entering new geographic territories.  

 

 
13

 

  

Highlights 

 

 

We had net income of approximately $515,000 for the three months ended September 30, 2014 (the “2014 quarter”) compared to net income of approximately $121,000 for the three months ended September 30, 2013 (the “2013 quarter”). In addition, we had net income of approximately $842,000 for the nine months ended September 30, 2014 (the “2014 period”) compared to net income of approximately $589,000 for the nine months ended September 30, 2013 (the “2013 period”). The increase in net income was primarily the result of an increase in gross profit (total premium revenue less healthcare services expense) of approximately $1,437,000 in the 2014 period compared to the 2013 period. This increase was offset by an increase in insurance expense of approximately $983,000 and an increase in income tax expense of approximately $279,000 in the 2014 period compared to the 2013 period.

 

 

To date in 2014, our dental and vision product membership increased by approximately 14,200 members to approximately 333,400 members at September 30, 2014. This membership increase from December 31, 2013 is due to an increase in fully-insured dental HMO/IND membership of approximately 800 members, an increase in fully-insured dental PPO membership of approximately 9,500 members, an increase in self-insured membership of approximately 3,100 members, and an increase in corporate, all other membership of approximately 800 members. The increase in corporate, all other membership is primarily due to an increase in our vision PPO membership.

 

 

Our ratio of healthcare services expense to premium revenue (“loss ratio”) decreased from 80.0% in the nine months ended September 30, 2013 to 79.2% in the nine months ended September 30, 2014. This loss ratio decrease is due primarily to premium rate increases negotiated with fully-insured dental HMO/IND and dental PPO employer groups at renewal.

 

 

In March 2014, we paid a dividend of $35.77 per share to all holders of Redeemable Class A and Class B Common Shares. We paid a dividend of $32.60 per share to all holders of Redeemable Class A and Class B Common Shares in March 2013.

 

Comparison of Results of Operations

 

The following is a discussion of our results of operations for the 2014 quarter and the 2013 quarter, the 2014 period and the 2013 period.

 

The table below presents membership and financial data for our four reportable segments (dollar amounts in thousands):

 

   

As of

   

As of

         
   

September 30, 2014

   

September 30, 2013

   

Change

 

Membership:

                       

Fully-insured dental HMO/IND

    153,800       152,200       1.1 %

Fully-insured dental PPO

    60,100       48,500       23.9 %

Self-insured dental

    91,500       88,300       3.6 %

Corporate, all other

    28,000       26,700       4.9 %

Total membership

    333,400       315,700       5.6 %

  

 
14

 

 

   

Three months ended

   

Three months ended

         
   

September 30, 2014

   

September 30, 2013

   

Change

 

Premium revenue:

                       

Fully-insured dental HMO/IND

  $ 11,885     $ 11,685       1.7 %

Fully-insured dental PPO

    4,222       3,413       23.7 %

Self-insured dental

    7,313       7,367       (0.7 %)

Corporate, all other

    158       149       6.0 %

Total premium revenue

    23,578       22,614       4.3 %
                         

Investment income

    58       43       34.9 %

Realized gains on investments, net

    25               *  

Other income

    16       13       23.1 %

Total revenue

    23,677       22,670       4.4 %
                         

Healthcare services expense:

                       

Fully-insured dental HMO/IND

    9,230       9,128       1.1 %

Fully-insured dental PPO

    3,095       2,735       13.2 %

Self-insured dental

    6,316       6,375       (0.9 %)

Corporate, all other

                    *  

Total healthcare service expense

    18,641       18,238       2.2 %
                         

Insurance expense

    4,154       4,244       (2.1 %)
                         

Income tax expense

    367       67       447.8 %
                         

Net income

  $ 515     $ 121       325.6 %

 

* not meaningful  

 

   

Nine months ended

   

Nine months ended

         
   

September 30, 2014

   

September 30, 2013

   

Change

 

Premium revenue:

                       

Fully-insured dental HMO/IND

  $ 35,836     $ 34,941       2.6 %

Fully-insured dental PPO

    12,247       9,932       23.3 %

Self-insured dental

    20,507       19,575       4.8 %

Corporate, all other

    476       430       10.7 %

Total premium revenue

    69,066       64,878       6.5 %
                         

Investment income

    165       116       42.2 %

Realized gains on investments, net

    28               *  

Other income

    47       46       2.2 %

Total revenue

    69,306       65,040       6.6 %
                         

Healthcare services expense:

                       

Fully-insured dental HMO/IND

    27,559       26,943       2.3 %

Fully-insured dental PPO

    9,476       8,148       16.3 %

Self-insured dental

    17,650       16,843       4.8 %

Corporate, all other

                    *  

Total healthcare service expense

    54,685       51,934       5.3 %
                         

Insurance expense

    13,180       12,197       8.1 %
                         

Income tax expense

    599       320       87.2 %
                         

Net income

  $ 842     $ 589       43.0 %

 

* not meaningful

 

 
15

 

 

Summary

 

Fully-insured dental HMO/IND premium revenue increased by $895,000 in the 2014 period compared to the 2013 period, and fully-insured dental HMO/IND premium on a per member per month (“PMPM”) basis increased by 1.6%, from $25.44 PMPM in the 2013 period to $25.86 PMPM in the 2014 period due to rate increases obtained on renewal business. Fully-insured dental PPO premium revenue increased by $2,315,000 in the 2014 period compared to the 2013 period, and fully-insured dental PPO premium on a PMPM basis decreased by 0.9%, from $23.68 PMPM in the 2013 period to $23.47 PMPM in the 2014 period due to the lower premium rates associated with the on-exchange fully-insured dental PPO business offset by rate increases obtained on group renewal business. Self-insured dental premium revenue increased by $932,000 in the 2014 period compared to the 2013 period.

 

Fully-insured dental HMO/IND healthcare services expense increased by $616,000 in the 2014 period compared to the 2013 period, and fully-insured dental HMO/IND healthcare services expense on a PMPM basis increased by 1.4% from $19.62 PMPM in the 2013 period to $19.89 PMPM in the 2014 period. An increase in fully-insured dental HMO/IND membership resulted in an increase in fully-insured dental HMO/IND healthcare services expense of $243,000. An increase in fully-insured dental HMO/IND healthcare services expense on a PMPM basis resulted in an increase in fully-insured dental HMO/IND healthcare services expense of approximately $373,000. This increase is the result of an increase of $407,000 attributable to a 1.5% increase to the fee schedules effective January 1, 2014, offset by a decrease attributable to lower utilization of approximately $34,000.

 

Fully-insured dental PPO healthcare services expense increased by $1,328,000 in the 2014 period compared to the 2013 period, and fully-insured dental PPO healthcare services expense on a PMPM basis decreased by 6.5%, from $19.43 PMPM in the 2013 period to $18.16 PMPM in the 2014 period. An increase in fully-insured dental PPO membership resulted in an increase in fully-insured dental PPO healthcare services expense of $1,484,000. This increase was offset by a decrease in fully-insured dental PPO healthcare services expense on a PMPM basis of $156,000. Lower healthcare services utilization resulted in a decrease in fully-insured dental PPO healthcare services expense of approximately $298,000 in the 2014 period compared to the 2013 period. This decrease in healthcare utilization was offset by the increase in healthcare services expense of $142,000 due to the 1.5% increase to the fee schedules effective January 1, 2014.

 

Self-insured healthcare services expense increased by $807,000 in the 2014 period compared to the 2013 period, and self-insured healthcare services expense on a PMPM basis increased by 1.3% from $21.21 PMPM in the 2013 period to $21.48 PMPM in the 2014 period. The higher level of self-insured healthcare services expense on a PMPM basis resulted in an increase in healthcare services expense of $223,000. In addition, an increase in self-insured healthcare services expense of $584,000 was due to an increase in membership volume in the 2014 period compared to the 2013 period.

 

Insurance expense increased by $983,000 in the 2014 period compared to the 2013 period. This insurance expense increase is primarily attributable to higher salaries and wages, broker commission expense, and federal premium tax in the 2014 period compared to the 2013 period. Insurance expense as a percentage of total revenue, or the insurance expense ratio, was 19.0% for the 2014 period compared to 18.8% for the 2013 period.

 

Membership

 

Our fully-insured dental HMO/IND membership increased by approximately 1,600 members as of September 30, 2014 from September 30, 2013. This membership increase is primarily attributable to an increase of approximately 800 fully-insured dental HMO members and an increase of approximately 800 fully-insured dental indemnity members. The increase in fully-insured dental HMO/IND membership is primarily the result of new sales of approximately 9,400 members, offset by the loss of approximately 7,800 members due to employer groups that did not renew with the Company or reduced employee counts of retained employer groups. A portion of the fully-insured dental HMO membership losses were the result of corporate acquisitions where our employer group customers moved to the new parent company benefit plans and some of our membership losses were the result of employer groups moving to medical carriers to take advantage of medical/dental package savings.

 

Our fully insured dental PPO membership increased by approximately 11,600 members as of September 30, 2014 from September 30, 2013. The increase in fully-insured dental PPO membership is primarily the result of new sales of approximately 16,600 members, offset by the loss of approximately 5,000 members due to employer groups that did not renew with the Company or reduced employee counts of retained employer groups. Some of our membership fully-insured dental PPO membership losses were the result of employer groups moving to medical carriers to take advantage of medical/dental package savings.

  

 
16

 

  

Our self-insured dental membership increased by approximately 3,200 members as of September 30, 2014 from September 30, 2013. This increase is primarily due to the addition of new self-insured dental HMO and dental PPO employer groups in the last twelve months and growth within existing employer groups.

 

Our corporate, all other membership increased by approximately 1,300 members as of September 30, 2014 from September 30, 2013. Our vision plan membership increased by approximately 1,300 members, and the dental indemnity members underwritten by a third party insurance carrier remained constant.

 

Revenue

 

Fully-insured dental HMO/IND premium revenue for the 2014 quarter increased by approximately $200,000 compared to the 2013 quarter. Fully-insured dental HMO/IND premium rate increases negotiated with employer groups at their renewals resulted in an increase of approximately $189,000 in fully-insured dental HMO/IND premium revenue. An increase in fully-insured HMO/IND membership in the 2014 quarter resulted in an increase in fully-insured dental HMO/IND premiums of approximately $11,000.

 

Fully-insured dental HMO/IND premium revenue for the 2014 period increased by approximately $895,000 compared to the 2013 period. Fully-insured dental HMO/IND premium rate increases negotiated with employer groups at their renewals resulted in an increase of approximately $579,000 in fully-insured dental HMO/IND premium revenue. An increase in fully-insured HMO/IND membership in the 2014 period resulted in an increase in fully-insured dental HMO/IND premiums of approximately $316,000. The fully-insured dental HMO/IND segment represents approximately 52% of our total dental business.

 

Fully-insured dental PPO premium revenue for the 2014 quarter increased by approximately $809,000 compared to the 2013 quarter. Fully-insured dental PPO premium rate changes negotiated with new employer groups and existing employer groups at their renewals resulted in an increase of approximately $86,000 in fully-insured dental PPO premium revenue. An increase in fully-insured PPO group membership in the 2014 quarter resulted in an increase in fully-insured dental PPO premiums of approximately $460,000. The addition of the fully-insured on-exchange dental PPO membership resulted in an increase in fully-insured dental PPO premiums of approximately $263,000.

 

Fully-insured dental PPO premium revenue for the 2014 period increased by approximately $2,315,000 compared to the 2013 period. Fully-insured dental PPO premium rate changes negotiated with new employer groups and existing employer groups at their renewals resulted in an increase of approximately $97,000 in fully-insured dental PPO premium revenue. An increase in fully-insured PPO group membership in the 2014 period resulted in an increase in fully-insured dental PPO premiums of approximately $1,612,000. The addition of the fully-insured on-exchange dental PPO membership resulted in an increase in fully-insured dental PPO premiums of approximately $606,000. The fully-insured dental PPO segment represents approximately 18% of our total dental business.

 

Total self-insured dental revenue for the 2014 quarter decreased approximately $54,000 compared to the 2013 quarter. Self-insured dental revenue decreased by approximately $301,000 due to a decrease in the self-insured claim revenue on a PMPM basis. An increase in self-insured membership in the 2014 quarter resulted in an increase in new self-insured revenue of approximately $247,000.

 

Total self-insured dental revenue for the 2014 period increased approximately $932,000 compared to the 2013 period. Self-insured dental revenue increased by approximately $254,000 due to an increase in the self-insured claim revenue on a PMPM basis. An increase in self-insured membership in the 2014 period resulted in an increase in new self-insured revenue of approximately $678,000. The self-insured dental segment represents approximately 30% of our total dental business.

 

The self-insured segment revenue has two components:

 

Self-Insured Claim Revenue - Self-insured claim revenue for the 2014 quarter decreased approximately $72,000, or 1.0%, to approximately $6,978,000 in the 2014 quarter from approximately $7,050,000 in the 2013 quarter. Self-insured claim revenue increased by approximately $237,000 in the 2014 quarter due to new self-insured sales. In addition, self-insured claim revenue decreased approximately $308,000 as a result of a decrease in self-insured claim revenue on a PMPM basis in the 2014 quarter. Self-insured claim revenue for the 2014 period increased approximately $873,000, or 4.7%, to approximately $19,492,000 in the 2014 period from approximately $18,619,000 in the 2013 period. Self-insured claim revenue increased by approximately $645,000 in the 2014 period due to new self-insured sales. In addition, self-insured claim revenue increased approximately $228,000 as a result of an increase in self-insured claim revenue on a PMPM basis in the 2014 period.

 

Self-Insured ASO Fees - Self-insured ASO fees for the 2014 quarter increased approximately $18,000, or 5.7%, to approximately $335,000 in the 2014 quarter from approximately $317,000 in the 2013 quarter. Self-insured ASO fees for the 2014 period increased approximately $59,000, or 6.2%, to approximately $1,015,000 in the 2014 period from approximately $956,000 in the 2013 period. Self-insured ASO fees increased by approximately $33,000 due to the new self-insured product sales and by approximately $26,000 due to an increase in average self-insured ASO fee rates for the 2014 period compared to the 2013 period.

  

 
17

 

 

Corporate, all other premium revenue is primarily derived from the dental indemnity product and the vision product that are underwritten by third-party insurance carriers. In aggregate, corporate, all other premium revenue increased by approximately $46,000 in the 2014 period compared to the 2013 period. The corporate, all other segment represents approximately 0.7% of our total dental business.

 

Healthcare Services Expense

 

Fully-insured dental HMO/IND healthcare services expense increased by $102,000 in the 2014 quarter compared to the 2013 quarter, and fully-insured dental HMO/IND healthcare services expense on a PMPM basis increased by 1.0% from $19.91 PMPM in the 2013 quarter to $20.12 in the 2014 quarter. An increase in fully-insured dental HMO/IND membership resulted in an increase in fully-insured dental HMO/IND healthcare services expense of $8,000. An increase in fully-insured dental HMO/IND healthcare services expense on a PMPM basis resulted in an increase in fully-insured dental HMO/IND healthcare services expense of approximately $94,000. This increase is the result of an increase of $137,000 attributable to a 1.5% increase to the fee schedules effective January 1, 2014, offset by a decrease in utilization of approximately $43,000.

 

Fully-insured dental HMO/IND healthcare services expense increased by $616,000 in the 2014 period compared to the 2013 period, and fully-insured dental HMO/IND healthcare services expense on a PMPM basis increased by 1.4% from $19.62 PMPM in the 2013 period to $19.89 in the 2014 period. An increase in fully-insured dental HMO/IND membership resulted in an increase in fully-insured dental HMO/IND healthcare services expense of $243,000. An increase in fully-insured dental HMO/IND healthcare services expense on a PMPM basis resulted in an increase in fully-insured dental HMO/IND healthcare services expense of approximately $373,000. This increase is the result of an increase of $407,000 attributable to a 1.5% increase to the fee schedules effective January 1, 2014, offset by a decrease in utilization of approximately $34,000.

 

Fully-insured dental PPO healthcare services expense for the 2014 quarter increased approximately $360,000 compared to the 2013 quarter. This increase was primarily the result of an increase in fully-insured dental PPO healthcare services expense of approximately $369,000 related to the increase in fully-insured group dental PPO membership and an increase in fully-insured dental PPO healthcare services expense of approximately $25,000 resulting from an increase in fully-insured group dental PPO healthcare services expense on a PMPM basis from $18.76 in the 2013 quarter to $18.91 in the 2014 quarter. This increase was the result of an increase in healthcare services expense of $47,000 due to the 1.5% increase to the fee schedules effective January 1, 2014, offset by a decrease in fully-insured group dental utilization in the 2014 quarter compared to the 2013 quarter of approximately $22,000. In addition, the fully-insured dental PPO healthcare services expense for the 2014 quarter was reduced by $34,000 as a result of an adjustment to the fully-insured on-exchange dental PPO claims payable liability.

 

Fully-insured dental PPO healthcare services expense for the 2014 period increased approximately $1,328,000 compared to the 2013 period. This increase was primarily the result of an increase in fully-insured dental PPO healthcare services expense of approximately $1,323,000 related to the increase in fully-insured group dental PPO membership and approximately $161,000 related to the new fully-insured on-exchange dental PPO membership. This was offset by a decrease in fully-insured dental PPO healthcare services expense of approximately $156,000 resulting from a decrease in fully-insured group dental PPO healthcare services expense on a PMPM basis from $19.43 in the 2013 period to $19.11 in the 2014 period. This decrease was the result of lower healthcare services utilization in the 2014 period compared to the 2013 period of approximately $298,000, offset by the increase in healthcare services expense on a PMPM basis of $142,000 due to the 1.5% increase to the fee schedules effective January 1, 2014.

 

Self-insured dental healthcare services expense for the 2014 quarter decreased approximately $59,000 compared to the 2013 quarter. The self-insured new sales resulted in an increase in self-insured dental healthcare services expense of approximately $214,000. This increase was offset by a decrease of approximately $273,000 of self-insured dental healthcare services expense that resulted in a decrease in the self-insured healthcare services expense on a PMPM basis from $24.04 in the 2013 quarter to $23.04 in the 2014 quarter.

 

Self-insured dental healthcare services expense for the 2014 period increased approximately $807,000 compared to the 2013 period. The self-insured new sales resulted in an increase in self-insured dental healthcare services expense of approximately $584,000. In addition, an increase of approximately $223,000 of self-insured dental healthcare services expense is the result of an increase in the self-insured healthcare services expense on a PMPM basis from $21.21 in the 2013 period to $21.48 in the 2014 period.

  

 
18

 

 

Corporate, all other healthcare services expense is not recognized by the Company due to the fact that our other dental indemnity, dental PPO and vision PPO products are underwritten by third-party insurance carriers.

 

Insurance Expense 

 

Consolidated insurance expense for the 2014 quarter decreased approximately $90,000 compared to the 2013 quarter. Consolidated insurance expense for the 2014 period increased approximately $983,000 compared to the 2013 period. The lower consolidated insurance expense for the 2014 quarter was primarily due to lower than expected other insurance expense offset by an increase salaries and wages resulting from the hiring of additional full-time employees in our central Ohio expansion market, higher broker commission and other acquisition costs, and the new federal premium tax expense in 2014. The higher consolidated insurance expense for the 2014 period was primarily due to salaries and wages resulting from the hiring of additional full-time employees in our central Ohio expansion market, higher broker commission and other acquisition costs, and the new federal premium tax expense in 2014. Insurance expense as a percentage of total revenue, or the insurance expense ratio, was approximately 19% for the 2014 and the 2013 period.

 

Income Taxes

 

The Company calculates its year to date income tax provision by applying the estimated annual effective tax rate for the year to pretax income. The income tax expense for the three months ended September 30, 2014 was approximately $367,000 with an effective rate of 41.6%. The income tax expense for the three months ended September 30, 2013 was approximately $66,000 with an effective tax rate of 35.3%. The income tax expense for the nine months ended September 30, 2014 was approximately $599,000 with an effective rate of 41.6%. The income tax expense for the nine months ended September 30, 2013 was approximately $320,000 with an effective tax rate of 35.2%. The increase in the effective tax rate for the 2014 quarter and period compared to the 2013 quarter and period is the result of the new 2014 federal premium tax assessment that is not deductible for federal tax purposes. Tax years subsequent to 2010 remain open to examination by the Internal Revenue Service (“IRS”), and 2009 remains open to state and local tax authorities.  The Company has recorded no uncertain tax positions in the tax years that are subject to examination.

 

Liquidity and Capital Resources and Changes in Financial Condition 

 

Our primary sources of cash include receipts of premiums, ASO fees, investment and other income, proceeds from the sale or maturity of our investment securities, as well as from the sale of redeemable common and preferred shares and from borrowings. Our primary uses of cash include disbursements for claims payments, insurance expense, interest expense, taxes, purchases of investment securities, capital expenditures, dividends, redeemable common share redemptions and payments on borrowings. Cash decreased approximately $718,000, or 8.9%, during the 2014 period to approximately $7,388,000 as of September 30, 2014 from approximately $8,106,000 as of December 31, 2013. The change in cash for the 2014 and 2013 period is summarized as follows (in thousands):

 

   

Nine months ended

   

Nine months ended

 
   

September 30, 2014

   

September 30, 2013

 

Net cash provided by operating activities

  $ 1,260     $ 802  

Net cash used in investing activities

    (1,415 )     (2,933 )

Net cash (used in) provided by financing activities

    (563 )     526  

Decrease in cash and cash equivalents

  $ (718 )   $ (1,605 )

 

 

Cash Flows from Operating Activities

 

In the 2014 period, approximately $1,260,000 was provided by operating activities. We had net income of approximately $842,000.

 

Unearned premium revenue increased by approximately $4,717,000 primarily due to the renewal of the large block of fully-insured business as of January 1, 2014, with certain fully-insured groups renewing for two years. Due to increased claims activity and the timing of our payments, our claims payable liability increased by approximately $443,000. Our deferred compensation liability increased by approximately $459,000. Deferred policy acquisition costs increased by approximately $310,000, other assets increased by approximately $188,000, and other payables and accrued expenses decreased by approximately $75,000, resulting in an increase in cash flow from operations of approximately $458,000. We paid $825,000 of federal income taxes in the 2014 period that related to our 2013 extension payment and 2014 estimated tax payments. The remaining effects of changes in operating assets and liabilities that represent fluctuations are not significant and are consistent with the 2013 period.

  

 
19

 

 

Cash Flows from Investing Activities

 

In the 2014 period, we invested approximately $506,000 in building improvements, furniture and fixtures and computer equipment, the majority of which was related to the development of new software modules for the individual dental products launched in October 2014. During the 2014 period, we made purchases totaling approximately $2,323,000 of investment grade and non-investment grade corporate bonds, certificates of deposit and institutional money market funds in order to improve investment income. Also during the 2014 period, we had investment grade corporate bond sales and certificate of deposit maturities that together totaled approximately $1,419,000.

 

Cash Flows from Financing Activities

 

In the 2014 period, we made scheduled principal payments of approximately $35,000 related to our office building mortgage and scheduled payments of approximately $91,000 related to our capital leases. During the 2014 period, we repurchased Redeemable Common Shares with a value of approximately $175,000 and issued Redeemable Common Shares with proceeds of approximately $131,000. We also paid dividends of approximately $298,000 to holders of our Redeemable Common Shares and approximately $95,000 to holders of our Redeemable Institutional Preferred Shares in the 2014 period.

 

Contractual Obligations, Other Commitments and Off-balance Sheet Arrangements

 

Refer to the Company’s 2013 Annual Report on Form 10-K filed with the SEC for a description of contractual obligations, other commitments and off-balance sheet arrangements. We have had no significant changes in these items in 2014.

 

Financial Condition

 

Our consolidated cash and short-term investments were approximately $7.9 million as of September 30, 2014 and approximately $8.4 million as of December 31, 2013. The decrease in cash and short-term investments was primarily due to the cash used in investing activities of approximately $1,415,000 and cash used in financing activities of $563,000. These uses of cash were offset by cash provided by operating activities of approximately $1,260,000 and an increase in short term investments of approximately $285,000. We expect to generate positive cash flow from operations during the balance of 2014. Based on total expenses for the nine months ended September 30, 2014, we estimate that we had approximately 32 days of cash and short-term investments on hand at September 30, 2014. In addition, the Company has access to approximately $7.8 million of fixed maturity investments that are classified as available-for-sale and two working capital lines of credit discussed below.

 

In December 2012, the Company refinanced the mortgage of its office building and in connection therewith, the Company executed a mortgage note with a bank, secured by the land and the office building, in the amount of $1,340,000. Interest is payable based on the 30-day LIBOR rate plus 1.95%. The Company also entered into an interest rate swap agreement that effectively changed the interest rate related to the mortgage note with a commercial bank from a variable rate based on the 30-day LIBOR rate plus 1.95% to a fixed rate of 3.90% for the 10-year period through December 22, 2022.      

 

We have an annually renewable agreement with a commercial bank for a $500,000 working capital line of credit. Interest is payable at a variable rate of LIBOR plus 2.50%. We did not have any interest expense or significant fees for the line of credit in the 2014 period or the 2013 period. As of September 30, 2014 and December 31, 2013, there was no amount outstanding on this line of credit. The $500,000 working capital line of credit expires in July 2015. We expect to renew this line of credit at its maturity.

 

We have an additional annually renewable working capital line of credit for $1,000,000. Interest is payable at a variable rate of LIBOR plus 2.50%. The Company did not have any interest expense for the line of credit in the 2014 period or the 2013 period. At September 30, 2014 and December 31, 2013, there was no amount outstanding on this line of credit. The $1,000,000 working capital line of credit expires in July 2015. We expect to renew this line of credit at its maturity. In addition, the Company obtained an irrevocable letter of credit for $10,000, with interest payable on all outstanding amounts at a variable rate of the prime rate of borrowing plus 6.00%. The letter of credit also has an annual fixed rate of 2.10% for access to the letter of credit obligation. The letter of credit expires in December 2014. At September 30, 2014 and December 31, 2013, there was no amount outstanding on the irrevocable letter of credit obligation.

 

Under the mortgage note and each of the renewable working lines of credit, the Company is required to have a debt service ratio of at least 1:1 at the end of each quarter and a minimum tangible net worth equal to or greater than $3,500,000 at the end of each fiscal year. The Company was in compliance with these covenants at September 30, 2014 and December 31, 2013.

  

 
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We believe our premium revenues, cash, investments and working capital lines of credit are sufficient to meet our short-term and long-term liquidity needs. In the short-term, we are obligated to make payments related to our contractual obligations such as our healthcare services expense, building mortgage, and our capital and operating leases and other commitments, including payment of certain director’s deferred compensation obligations. In the long-term, we will continue to be obligated to make payments related to our other contractual obligations. We will also be obligated in certain circumstances to repurchase the Redeemable Common Shares and make future payments to key employees and directors related to their deferred compensation obligations. We will also be obligated in certain circumstances to repurchase the Redeemable Institutional Preferred Shares upon redemption request. Our Board of Directors establishes limitations on the amount of share redemptions each year. While we are not able to estimate future redemptions of our Redeemable Common Shares and Redeemable Institutional Preferred Shares, we believe our cash balances, investment securities, operating cash flows, and borrowing capacity, taken together, provide adequate resources to fund ongoing operating and regulatory requirements and capital expenditures in the next twelve months.

 

Our largest subsidiary, Dental Care Plus Inc., (“DCP"), operates in states that regulate its payment of dividends and debt service on inter-company loans, as well as other inter-company cash transfers and require minimum levels of equity as well as limit investments to approved securities. The amount of dividends that may be paid by DCP, without prior approval by state regulatory authorities, is limited based on statutory income and statutory capital and surplus. Even if prior approval is not required, prior notification must be provided to state agencies in Ohio, Kentucky and Indiana before paying a dividend. During 2014, the total dividend that the DCP subsidiary may declare without prior regulatory approval is approximately $860,000. There were no dividends declared or paid by DCP in the 2014 or 2013 periods.

 

A.M. Best Company assigns a rating to companies that have, in their opinion, an ability to meet their ongoing obligations to policyholders, but are financially vulnerable to adverse changes in underwriting and economic conditions. In July 2014, A.M. Best Company upgraded our financial strength rating to B+ (Good) from B (Fair) with a positive outlook based on DCP’s positive operating performance and improved capitalization. Our A.M. Best rating is a measure of our financial strength relative to other insurance companies and is not a recommendation to buy, sell or hold securities. The rating assigned by A.M. Best Company is based, in part, on the ratio of our fully-insured premium revenue to our statutory capital and surplus.

 

We attempt to reduce overall risk by maintaining a well-diversified fixed-maturity portfolio of investments. We invest in certificates of deposits, investment grade corporate bonds, non-investment grade corporate bonds, and money market funds, targeting what we believe to be optimal risk-adjusted after-tax yields. Risk, in this context, includes interest rate, call, reinvestment rate, credit and liquidity risk. We typically do not make a concerted effort to alter duration on a portfolio basis in response to anticipated movements in interest rates. By continually investing in certificates of deposits, money market funds and investment grade corporate bonds, we believe the portfolio mitigates the impact of adverse economic factors.

 

Our regulated subsidiary’s state of domicile has statutory risk-based capital, or RBC, requirements for health and other insurance companies largely based on the NAIC’s RBC Model Act. These RBC requirements are intended to measure capital adequacy, taking into account the risk characteristics of an insurer’s investments and products. The NAIC sets forth the formula for calculating the RBC requirements, which are designed to take into account asset risks, insurance risks, interest rate risks and other relevant risks with respect to an individual insurance company’s business. In general, an insurance company must submit a report of its RBC level to the state insurance department or insurance commissioner, as appropriate, at the end of each calendar year. Our subsidiary’s risk-based capital as of December 31, 2013, which was the most recent date for which reporting was required, was in excess of all mandatory RBC thresholds.

 

Critical Accounting Policies

 

Deferred Acquisition Costs

 

Deferred acquisition costs are those incremental direct costs related to the successful acquisition of new and renewal business. These incremental direct costs and other costs are those that are essential to the contract transaction and would not have been incurred had the contract transaction not occurred. Such incremental direct costs include commissions, costs of contract issuance and underwriting, premium taxes and other costs the Company incurs to successfully acquire new business or renew existing business. The Company defers policy acquisition costs and amortizes them over the estimated life of the contracts, which are short-duration in nature, in proportion to premiums earned.

 

 
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Claims Payable Liability

 

We estimate liabilities for both incurred but not reported (“IBNR”) and reported claims in process by employing actuarial methods that are commonly used by health insurance actuaries and meet actuarial standards of practice. These actuarial standards of practice require that claim liability estimates be adequate under moderately adverse circumstances. The Company’s consulting actuary assists us in making these estimates. Since our liability for claims payable is based on actuarial estimates, the amount of claims eventually paid for services provided prior to the balance sheet date could differ from the estimated liability. Any such differences are recognized in the condensed consolidated statements of comprehensive income for the period in which the differences are identified. Historically, such differences have not been material.

 

We develop our estimate for claims payable liability using actuarial methodologies and assumptions, primarily based on historical claim payments and claim receipt patterns, as well as historical dental cost trends. Depending on the period for which incurred claims are estimated, we apply a different method in determining our estimate. For periods prior to the most recent month, we calculate a “completion factor” which indicates the percentage of claims payable estimated for a prior period that have been paid as of the end of the current reporting period. We use the completion factor to determine historical patterns over a rolling 12-month period, made consistent by making adjustments for known changes in claims in process levels and known changes in claim payment processes. For the most recent month, we calculate a “claims trend factor” that estimates incurred claims primarily from a trend analysis based upon PMPM claims trends developed from our historical experience in the preceding months, adjusted for known provider contracting changes, changes in benefit levels, seasonality and consideration of any subsequent actual claims data available. When developing our estimate for claims payable liability as of December 31, 2013, we considered actual paid claim data from January 2014. As a result, we were able to use the completion factors approach for all historical months at December 31, 2013.

 

We have not changed the key actuarial methodologies used by management to estimate the IBNR and reported claims in process components of our claims payable liability during the periods presented, and management has not adjusted any of the key methodologies used in calculating the most recent estimate of the IBNR and reported claims in process components of our claims payable liability. Our assumptions in the 2014 quarter for the claims trend factor used to estimate incurred claims for September 30, 2014 are generally consistent with the dental services utilization levels we experienced in the prior year and our expectation that this level of utilization will continue in the future.

 

The table below illustrates how our operating results are affected when there is a variance between estimated claims expense and actual claims expense. The table shows the sensitivity of the estimated fully-insured incurred claims payable liability to fluctuations in the expected completion factors and claims trend factors that were used to estimate the claims payable liability as of September 30, 2014 within variance ranges historically experienced.

 

 

Completion Factor (a)

   

Claims Trend Factor (b)

 
                                   
           

Estimated claims

             

Estimated claims

 
 

(Decrease)

     

payable liability

   

(Decrease)

     

payable liability

 
 

Increase

     

as of

   

Increase

     

as of

 
 

In Factor

     

9/30/2014

   

In Factor

     

9/30/2014

 
                                   
    (0.5)%       $ 2,875,557       (5)%       $ 2,462,862  
    0%  

(estimate used)

    2,662,553       0%  

(estimate used)

    2,662,553  
    0.5%         2,497,475       5%         2,862,244  

  

(a)     Reflects estimated potential changes in incurred claims payable liability caused by changes in completion factors for months prior to the most recent month.

 

(b)     Reflects estimated potential changes in incurred claims payable liability caused by annualized claims trend used for the estimation of the PMPM incurred claims for the most recent month.

 

Based on historical experience, we believe the completion factors we use to estimate outstanding IBNR and reported claims in process are reliable for predicting actual claims paid at future times, with a variance range of approximately one-half of one percent, plus or minus. The claims trend factors we use to estimate outstanding IBNR and reported claims in process for the most recent month are somewhat less reliable based on historical experience, with a variance range of approximately five percent, plus or minus. We have found that the estimated claims trend factor can be higher or lower than what the paid claims data indicates with the passage of time primarily because of factors beyond our control, such as the level of utilization of services by dental members and the expected and actual mix of the types of services received by dental members.

  

 
22

 

 

In 2014, our first quarter healthcare services expense on a PMPM basis was higher than the first quarter of 2013. This increase is primarily the result of the 1.5% increase to the fee schedules effective January 1, 2014. In the second quarter, our healthcare services expense on a PMPM basis was 0.9% higher than in the second quarter of 2013. The increase, as a result of the 1.5% increase to the fee schedules effective January 1, 2014 was offset by increased volume in our lower cost dental PPO products. In the third quarter of 2014, our healthcare services expense on a PMPM basis was 2.6% lower than in the third quarter of 2013. The decrease is the result of a decrease in the utilization of dental services during the 2014 quarter and increased volume in our lower cost dental PPO products offset the 1.5% increase to the fee schedules effective January 1, 2014.

 

Based on our healthcare services expense on a PMPM basis that adjusts the quarterly healthcare services expense for membership volume changes, we have observed that the utilization of our dental plan members is somewhat variable. In general, claims on a PMPM basis are lower in the second and fourth quarter than in the first quarter and the third quarter. The higher third quarter claim level on a PMPM basis is primarily due to the high level of dental services used in July and August by student members prior to returning to school. Use of dental services is lowest in the fourth quarter due to the holiday season and the fact that a portion of our members have already reached their maximum annual benefit level for the year. The following shows these trends in tabular form:

 

   

Healthcare Service Expense

 
                                 
   

2014

   

2013

 
                                 
   

$000’s

   

$PMPM

   

$000’s

   

$PMPM

 
                                 

First Quarter

  $ 18,077     $ 20.05     $ 16,954     $ 19.78  

Second Quarter

    17,968       19.63       16,742       19.46  

Third Quarter

    18,640       20.43       18,238       20.98  

Fourth Quarter

                    15,828       18.15  

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Market risk is the risk that we will incur investment losses or increased interest expense due to adverse changes in market rates and prices. Our market risk exposures are substantially related to our investment portfolio and the impact of interest rate changes on these securities. In addition, interest rate changes can affect future interest expense for debt obligations that have a variable rate of interest associated with them.

 

At September 30, 2014 and December 31, 2013, respectively, our investment portfolio consisted of approximately $42,000 and $60,000 of institutional money market funds. Our portfolio also included approximately $7,219,000 and $6,011,000 of corporate bonds and approximately $1,057,000 and $1,258,000 of investments in FDIC-insured bank certificates of deposits at September 30, 2014 and December 31, 2013, respectively. In 2013, we instructed our investment manager to invest additional funds in shorter duration investment grade corporate bonds with maturities up to five years. At September 30, 2014, our portfolio included approximately $4,540,000 of these shorter duration investment grade corporate bonds.

 

There is increased interest rate risk associated with our investment in longer duration investment grade corporate bonds. We have evaluated the impact on the invested portfolio’s fair value considering an immediate 100 basis point change in interest rates. A 100 basis point increase in interest rates would result in an approximate $268,000 decrease in fair value, whereas a 100 basis point decrease in interest rates would result in an approximate $235,000 increase in fair value. The investment grade corporate bonds and certificates of deposits are all classified as available-for-sale.

 

At September 30, 2014 and December 31, 2013, we had a mortgage note with a bank with an outstanding principal balance of $1,259,000 and $1,294,000, respectively, with a variable rate based on LIBOR plus 1.95%. However, in December 2012, we entered into a variable to fixed interest rate swap contract that effectively eliminated the interest rate risk exposure on the entire outstanding loan principal. Management estimates that a 100 basis point increase in interest rates would not materially impact our annual pre-tax earnings.  

 

 
23

 

  

ITEM 4. CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures

 

An evaluation was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer (Principal Executive Officer) and Chief Financial Officer (Principal Financial Officer), of the design and effectiveness of the Company’s disclosure controls and procedures (as defined in Securities Exchange Act Rules 13a-15(e) and 15d-15(e)) as of September 30, 2014. Based on the evaluation, the Principal Executive Officer and Principal Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of September 30, 2014.

 

Changes in Internal Control over Financial Reporting

 

There were no changes in the Company’s internal control over financial reporting (as defined in Securities Exchange Act Rules 13a-15(f) and 15(d)-15(f)) during the three and nine months ended September 30, 2014 that materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting. 

 

 
24

 

  

PART II. OTHER INFORMATION

 

ITEM 1.      LEGAL PROCEEDINGS

 

We are not a party to any pending legal proceedings that we believe would, individually or in the aggregate, have a material adverse effect on our financial condition, results of operations or cash flows.

 

ITEM 1A. RISK FACTORS

 

Certain factors may have a material adverse effect on our business, financial condition and results of operations and you should carefully consider them. It is not possible to predict or identify all such factors. For discussion of our potential risks or uncertainties, refer to Part I, Item 1A, Risk Factors, included in our 2013 Annual Report on Form 10-K. There have been no material changes to the risk factors disclosed in our 2013 Annual Report on Form 10-K.  

 

ITEM 2.      UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

In the third quarter of 2014, we sold 20 Class B Redeemable Common Shares and 121 Class C Redeemable Common Shares with a price per share of $928.71. We repurchased and retired 2 Class A Redeemable Common Shares and 22 Class B Redeemable Common Shares during the three months ended September 30, 2014 as follows: 

 

Period

Total Class A

shares

purchased (a)

Total Class B

shares

purchased (a)

Total Class C

shares

purchased (a)

Average price

paid per share

Total Number of

Shares Purchased as

Part of a Publicly

Announced Plans or

Programs

Maximum Number of

Shares that May Yet

Be Purchased Under

the Plans or Programs

July 1 – July 31, 2014

1

11

0

$915.60

0

N/A

August 1 – August 31, 2014

0

0

0

N/A

0

N/A

September 1 – September 30, 2014

1

11

0

$928.71

0

N/A

  

(a) Repurchased from shareholder in accordance with the Company’s obligations under its Amended and Restated Code of Regulations.

 

ITEM 3.      DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4.      MINE SAFETY DISCLOSURES

 

None.

 

ITEM 5.      OTHER INFORMATION

 

None.

 

 
25

 

  

ITEM 6. EXHIBITS

 

  Exhibits    
     
  31.1     CEO certifications pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
     
  31.2   CFO certifications pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
     
 

32

CEO and CFO certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

  

 

101

Financial information and Notes to Financial Statements for the three and nine months ended September 30, 2014, formatted in XBRL (Extensible Business Reporting Language).

  

SIGNATURES

 

Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

DCP HOLDING COMPANY 

 

 

 

 

 

November 13, 2014   

By:

/s/ Anthony A. Cook

 

 

 

Anthony A. Cook.

President, Chief Executive Officer and Director

Principal Executive Officer 

 

 

 

 

 

 

November 13, 2014

By:

/s/ Robert C. Hodgkins, Jr.

 

 

 

Robert C. Hodgkins, Jr.

Principal Financial Officer

Vice President and Chief Financial Officer

 

 

 
26

 

  

INDEX TO EXHIBITS 

 

Exhibit No.  Item  
   

31.1

Certifications pursuant to Section 302 of Sarbanes-Oxley Act of 2002

 

31.2

Certifications pursuant to Section 302 of Sarbanes-Oxley Act of 2002

   
32    Certifications pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

     

101

Financial information and Notes to Financial Statements for the three and nine months ended September 30, 2014, formatted in XBRL (Extensible Business Reporting Language).

  

 

27