10Q Q1 2015

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_________________________
FORM 10-Q
(Mark One)
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For Quarterly Period Ended March 31, 2015
or
o
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: 001-15204
 
Kingsway Financial Services Inc.
(Exact name of registrant as specified in its charter)
_________________________
Ontario, Canada
(State or other jurisdiction of
incorporation or organization)
 
Not Applicable (I.R.S. Employer
Identification No.)
45 St. Clair Avenue West, Suite 400 Toronto, Ontario M4V 1K9
(Address of principal executive offices and zip code)
1-416-848-1171
(Registrant's telephone number, including area code)
_________________________

Indicate by checkmark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

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

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 definitions of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act.

Large accelerated filer o
Accelerated filer o
Non-accelerated filer o
(Do not check if a smaller reporting company)
Smaller Reporting Company x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o No x
The number of shares outstanding of the registrant's common stock as of May 7, 2015 was 19,709,706.



KINGSWAY FINANCIAL SERVICES INC.

Table Of Contents
PART I - FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS
 
Consolidated Balance Sheets as of March 31, 2015 (unaudited) and December 31, 2014
 
Consolidated Statements of Operations for the Three Months Ended March 31, 2015 and 2014 (unaudited)
 
Consolidated Statements of Comprehensive Income for the Three Months Ended March 31, 2015 and 2014 (unaudited)
 
Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2015 and 2014 (unaudited)
 
Notes to Consolidated Financial Statements (unaudited)
 
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
ITEM 4. CONTROLS AND PROCEDURES
 
PART II - OTHER INFORMATION
 
ITEM 1. LEGAL PROCEEDINGS
 
ITEM 1A. RISK FACTORS
 
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
 
ITEM 4. MINE SAFETY DISCLOSURES
 
ITEM 5. OTHER INFORMATION
 
ITEM 6. EXHIBITS
 
SIGNATURES
 


















 
2
 

KINGSWAY FINANCIAL SERVICES INC.



PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
(in thousands, except per share data)
 
 
March 31, 2015

 
December 31, 2014

 
 
(unaudited)

 
 
Assets
 
 
 
 
Investments:
 
 
 
 
Fixed maturities, at fair value (amortized cost of $58,432 and $56,000, respectively)
 
$
58,812

 
$
56,195

Equity investments, at fair value (cost of $21,968 and $16,579, respectively)
 
24,635

 
19,618

Limited liability investments
 
11,098

 
7,294

Other investments, at cost which approximates fair value
 
3,551

 
3,576

Short-term investments, at cost which approximates fair value
 
400

 
400

Total investments
 
98,496

 
87,083

Cash and cash equivalents
 
63,566

 
71,234

Investment in investee
 
1,975

 
2,115

Accrued investment income
 
805

 
141

Premiums receivable, net of allowance for doubtful accounts of $260 and $1,889, respectively
 
33,971

 
28,885

Service fee receivable, net of allowance for doubtful accounts of $247 and $247, respectively
 
734

 
964

Other receivables, net of allowance for doubtful accounts of $806 and $806, respectively
 
5,214

 
5,145

Reinsurance recoverable
 
3,247

 
3,652

Prepaid reinsurance premiums
 
134

 
8

Deferred acquisition costs, net
 
13,203

 
12,197

Income taxes recoverable
 
54

 
74

Property and equipment, net of accumulated depreciation of $12,099 and $15,751, respectively
 
5,851

 
5,975

Goodwill
 
10,078

 
10,078

Intangible assets, net of accumulated amortization of $5,082 and $4,765, respectively
 
15,663

 
15,980

Other assets
 
3,341

 
3,638

Assets held for sale
 
54,200

 
54,553

Total Assets
 
$
310,532

 
$
301,722

Liabilities and Shareholders' Equity
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
Unpaid loss and loss adjustment expenses:
 
 
 
 
Property and casualty
 
$
59,522

 
$
63,895

Vehicle service agreements
 
2,975

 
2,975

Total unpaid loss and loss adjustment expenses
 
62,497

 
66,870

Unearned premiums
 
42,565

 
36,432

Reinsurance payable
 
785

 
525

LROC preferred units, at fair value
 
12,473

 
13,618

Subordinated debt, at fair value
 
41,543

 
40,659

Deferred income tax liability
 
2,859

 
2,837

Deferred service fees
 
34,452

 
35,096

Accrued expenses and other liabilities
 
41,255

 
35,836

Liabilities held for sale
 
20,537

 
21,653

Total Liabilities
 
258,966

 
253,526

 
 
 
 
 
Class A preferred stock, no par value; unlimited number authorized; 262,876 and 262,876 issued and outstanding at March 31, 2015 and December 31, 2014, respectively
 
6,360

 
6,330

 
 
 
 
 
Shareholders' Equity:
 
 
 
 
Common stock, no par value; unlimited number authorized; 19,709,706 and 19,709,706 issued and outstanding at March 31, 2015 and December 31, 2014, respectively
 

 

Additional paid-in capital
 
341,045

 
340,844

Accumulated deficit
 
(309,923
)
 
(312,050
)
Accumulated other comprehensive income
 
8,755

 
8,670

Shareholders' equity attributable to common shareholders
 
39,877

 
37,464

Noncontrolling interests in consolidated subsidiaries
 
5,329

 
4,402

Total Shareholders' Equity
 
45,206

 
41,866

Total Liabilities and Shareholders' Equity
 
$
310,532

 
$
301,722

See accompanying notes to unaudited consolidated financial statements.

 
3
 

KINGSWAY FINANCIAL SERVICES INC.

Consolidated Statements of Operations
(in thousands, except per share data)
(Unaudited)
 
 
Three months ended March 31,
 
 
 
2015

 
2014

Revenues:
 
 
 
 
Net premiums earned
 
$
29,030

 
$
31,920

Service fee and commission income
 
5,398

 
6,065

Net investment income
 
1,313

 
413

Net realized gains
 

 
39

Other-than-temporary impairment loss
 
(10
)
 

Other income
 
7,965

 
2,058

Total revenues
 
43,696

 
40,495

Expenses:
 
 
 
 
Loss and loss adjustment expenses
 
21,953

 
21,061

Commissions and premium taxes
 
5,747

 
6,553

Cost of services sold
 
663

 
856

General and administrative expenses
 
11,561

 
11,904

Restructuring expense
 
15

 
20

Interest expense
 
1,391

 
1,433

Amortization of intangible assets
 
317

 
414

Contingent consideration expense
 
144

 
267

Total expenses
 
41,791

 
42,508

Income (loss) from continuing operations before gain on change in fair value of debt, loss on disposal of subsidiary, equity in net loss of investee and income tax expense
 
1,905

 
(2,013
)
Gain on change in fair value of debt
 
261

 
563

Loss on disposal of subsidiary
 

 
(1,242
)
Equity in net loss of investee
 
(136
)
 

Income (loss) from continuing operations before income tax expense
 
2,030

 
(2,692
)
Income tax expense
 
22

 
60

Income (loss) from continuing operations
 
2,008

 
(2,752
)
Income from discontinued operations, net of taxes
 
1,426

 
1,746

Net income (loss)
 
3,434

 
(1,006
)
Less: net income attributable to noncontrolling interests in consolidated subsidiaries
 
1,224

 
653

Less: dividends on preferred stock
 
81

 
53

Net income (loss) attributable to common shareholders
 
$
2,129

 
$
(1,712
)
Earnings (loss) per share - continuing operations:
 
 
 
 
Basic:
 
$
0.04

 
$
(0.21
)
Diluted:
 
$
0.03

 
$
(0.21
)
Earnings per share - discontinued operations:
 
 
 
 
Basic:
 
$
0.07

 
$
0.11

Diluted:
 
$
0.07

 
$
0.11

Earnings (loss) per share – net income (loss) attributable to common shareholders:
 
 
 
 
Basic:
 
$
0.11

 
$
(0.10
)
Diluted:
 
$
0.10

 
$
(0.10
)
Weighted average shares outstanding (in ‘000s):
 
 
 
 
Basic:
 
19,710

 
16,430

Diluted:
 
21,149

 
16,430

See accompanying notes to unaudited consolidated financial statements.

 
4
 

KINGSWAY FINANCIAL SERVICES INC.


Consolidated Statements of Comprehensive Income
(in thousands)
(Unaudited)
 
 
Three months ended March 31,
 
 
 
2015

 
2014

 
 
 
 
 
Net income (loss)
 
$
3,434

 
$
(1,006
)
Other comprehensive (loss) income, net of taxes(1):
 
 
 
 
Unrealized (losses) gains on fixed maturities and equity investments:
 
 
 
 
Unrealized (losses) gains arising during the period
 
(200
)
 
1,226

Reclassification adjustment for amounts included in net income (loss)
 
13

 
52

Foreign currency translation adjustments
 
(26
)
 
(18
)
Other comprehensive (loss) income
 
(213
)
 
1,260

Comprehensive income
 
$
3,221

 
$
254

Less: comprehensive income attributable to noncontrolling interests in consolidated subsidiaries
 
927

 
541

Comprehensive income (loss) attributable to common shareholders
 
$
2,294

 
$
(287
)
 (1) Net of income tax expense of $0 and $0 for the three months ended March 31, 2015 and March 31, 2014, respectively.
 
 
See accompanying notes to unaudited consolidated financial statements

 
5
 

KINGSWAY FINANCIAL SERVICES INC.

Consolidated Statements of Cash Flows
(in thousands)
(Unaudited)
 
 
Three months ended March 31,
 
 
 
2015

 
2014

Cash provided by (used in):
 
 
 
 
Operating activities:
 
 
 
 
Net income (loss)
 
$
3,434

 
$
(1,006
)
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
 
 
 
 
Income from discontinued operations, net of taxes
 
(1,426
)
 
(1,746
)
Equity in net loss of investee
 
136

 

Equity in net income of limited liability investments
 
(929
)
 
(22
)
Depreciation and amortization expense
 
480

 
653

Contingent consideration expense
 
144

 
267

Stock based compensation expense, net of forfeitures
 
201

 
624

Net realized gains
 

 
(39
)
Gain on change in fair value of debt
 
(261
)
 
(563
)
Deferred income taxes
 
22

 
198

Other-than-temporary impairment loss
 
10

 

Amortization of fixed maturities premiums and discounts
 
79

 
206

Loss on disposal of subsidiary
 

 
1,242

Changes in operating assets and liabilities:
 
 
 
 
Premiums and service fee receivable
 
(4,856
)
 
(608
)
Other receivables
 
(69
)
 
(1,077
)
Reinsurance recoverable
 
405

 
2,766

Prepaid reinsurance premiums
 
(126
)
 
6,668

Deferred acquisition costs, net
 
(1,006
)
 
(167
)
Income taxes recoverable
 
20

 

Unpaid loss and loss adjustment expenses
 
(4,373
)
 
(7,249
)
Unearned premiums
 
6,133

 
(7,598
)
Reinsurance payable
 
260

 
(888
)
Deferred service fees
 
(644
)
 
231

Other, net
 
2,553

 
264

Net cash provided by (used in) operating activities
 
187

 
(7,844
)
Investing activities:
 
 
 
 
Proceeds from sales and maturities of fixed maturities
 
1,195

 
5,100

Proceeds from sales of equity investments
 
308

 
71

Purchases of fixed maturities
 
(4,722
)
 
(5,878
)
Purchases of equity investments
 
(1,738
)
 
(1,593
)
Net acquisition of limited liability investments
 
(2,859
)
 
(263
)
Proceeds from other investments
 

 
1,000

Net purchases of short-term investments
 

 
(103
)
Acquisition of investee
 

 
(7,661
)
Net purchases of property and equipment
 
(39
)
 
(290
)
Net cash used in investing activities
 
(7,855
)
 
(9,617
)
Financing activities:
 
 
 
 
Proceeds from issuance of preferred stock, net
 

 
6,402

Redemption of senior unsecured debentures
 

 
(14,356
)
Net cash used in financing activities
 

 
(7,954
)
Net decrease in cash and cash equivalents
 
(7,668
)
 
(25,415
)
Cash and cash equivalents at beginning of period
 
71,234

 
97,505

Cash and cash equivalents at end of period
 
$
63,566

 
$
72,090

See accompanying notes to unaudited consolidated financial statements.

 
6
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015


NOTE 1 BUSINESS
Kingsway Financial Services Inc. (the "Company" or "Kingsway") was incorporated under the Business Corporations Act (Ontario) on September 19, 1989. Kingsway is a Canadian holding company with operating subsidiaries located in the United States. The Company operates as a merchant bank primarily engaged, through its subsidiaries, in the property and casualty insurance business.

NOTE 2 BASIS OF PRESENTATION
The accompanying unaudited consolidated interim financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("U.S. GAAP") for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by U.S. GAAP for complete financial statements of the Company. In the opinion of management, all adjustments necessary for a fair presentation have been included and are of a normal recurring nature. Interim results are not necessarily indicative of the results that may be expected for the year.
The accompanying unaudited consolidated interim financial statements and footnotes should be read in conjunction with the audited consolidated financial statements and footnotes included within our Annual Report on Form 10-K ("2014 Annual Report") for the year ended December 31, 2014.
The unaudited consolidated interim financial statements include the accounts of the Company and its subsidiaries. All material intercompany transactions and balances have been eliminated in consolidation.
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect application of policies and the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the year. Actual results could differ from these estimates. Estimates and their underlying assumptions are reviewed on an ongoing basis. Changes in estimates are recorded in the accounting period in which they are determined. The critical accounting estimates and assumptions in the accompanying unaudited consolidated interim financial statements include the provision for unpaid loss and loss adjustment expenses; valuation of fixed maturities and equity investments; valuation of deferred income taxes; valuation of intangible assets; goodwill recoverability; deferred acquisition costs; fair value assumptions for performance shares; fair value assumptions for debt obligations; and contingent consideration.
The fair values of the Company's investments in fixed maturities and equity investments, performance shares, LROC preferred units, subordinated debt and contingent consideration are estimated using a fair value hierarchy to categorize the inputs it uses in valuation techniques. The fair value of the Company's investment in investee is based on quoted market prices. Fair values for other investments approximate their unpaid principal balance. The carrying amounts reported in the consolidated balance sheets approximate fair values for cash, short-term investments and certain other assets and other liabilities because of their short-term nature.
The Company's financial results contained herein are reported in U.S. dollars unless otherwise indicated.
NOTE 3 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
There have been no material changes to our significant accounting policies as reported in our 2014 Annual Report, except as disclosed below.
Derivative financial instruments
Derivative financial instruments include investments in warrants and performance shares issued to the Company under various performance share grant agreements. Refer to Note 20, "Related Party Transactions," for further details regarding the performance shares. Warrants are classified as equity investments in the consolidated balance sheets.

The Company measures derivative financial instruments at fair value. The fair value of derivative financial instruments is required to be revalued each reporting period, with corresponding changes in fair value recorded in the consolidated statements of operations, or, in the case of warrants that are actively traded, in other comprehensive (loss) income. Realized gains or losses are recognized upon settlement of the contracts.



 
7
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

NOTE 4 RECENTLY ISSUED ACCOUNTING STANDARDS
(a)    Adoption of New Accounting Standards:
In July 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2013-11, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists ("ASU 2013-11"). ASU 2013-11 amends Accounting Standards Codification Topic 740, Income Taxes, to provide guidance and reduce diversity in practice on the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. Effective January 1, 2014, the Company adopted ASU 2013-11. Except for the new disclosure requirements, the adoption of the standard did not have an impact on the consolidated financial statements.
In April 2014, the FASB issued ASU 2014-08, Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity ("ASU 2014-08"). ASU 2014-08 amends the requirements for reporting and disclosing discontinued operations. Under ASU 2014-08, a disposal of a component of an entity or a group of components of an entity is required to be reported in discontinued operations if the disposal represents a strategic shift that has or will have a major effect on the entity’s operations and financial results. Effective January 1, 2015, the Company adopted ASU 2014-08. The adoption of the standard did not have an impact on the consolidated financial statements.
(b)    Accounting Standards Not Yet Adopted:
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers ("ASU 2014-09"), which outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers. The core principle of ASU 2014-09 is that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. ASU 2014-09 is effective for reporting periods beginning after December 15, 2016 and early adoption is not permitted. Insurance contracts are not within the scope of ASU 2014-09, therefore this standard would not apply to the Company's Insurance Underwriting segment. The Company is currently evaluating the impact of the adoption of ASU 2014-09 on its consolidated financial statements.

NOTE 5 DISPOSITION AND DISCONTINUED OPERATIONS
(a)     Disposition
Effective March 31, 2014, the Company's wholly owned subsidiary, 1347 Property Insurance Holdings, Inc. ("PIH"), formerly known as Maison Insurance Holdings, Inc., completed an initial public offering of its common stock. Total consideration to the Company as a result of this transaction was $7.7 million, consisting of a 28.7% interest in the common shares of PIH. As a result of the disposal, the Company recognized a loss of $1.2 million during the first quarter of 2014. The earnings of PIH are included in the unaudited consolidated statements of operations through the March 31, 2014 transaction date. At March 31, 2014, the Company's investment in the common stock of PIH was reported as investment in investee in the consolidated balance sheets.
During the second quarter of 2014, PIH announced the closing and settlement of an underwritten public offering of 2,875,000 shares of its common stock at a price to the public of $8.00 per share. As a result of the issuance of additional shares of common stock, the Company's approximate voting percentage in PIH was reduced to 15.7% at June 30, 2014. As a result of this change in ownership and other qualitative factors, the Company determined that its investment in the common stock of PIH no longer qualified for the equity method of accounting. During the fourth quarter of 2014, the Company purchased additional shares of PIH which increased the Company's approximate voting percentage in PIH to 16.9% at December 31, 2014. The Company's investment in PIH common stock is included in equity investments and reported at its fair value of $8.2 million in the consolidated balance sheets at March 31, 2015.

 
8
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

(b)     Discontinued Operations
On April 1, 2015, the Company closed on the sale of its subsidiary, Assigned Risk Solutions Ltd. ("ARS"). As a result, ARS, previously disclosed as part of the Insurance Services segment, has been classified as a discontinued operation. The earnings of ARS are disclosed as discontinued operations in the consolidated statements of operations for all periods presented. Summary financial information included in income from discontinued operations, net of taxes for the three months ended March 31, 2015 and 2014 is presented below:
(in thousands)
 
Three months ended March 31,
 
 
 
2015

 
2014

Revenues:
 
 
 
 
Service fee and commission income
 
$
8,342

 
$
8,659

Other (expense) income
 
(20
)
 
14

Total revenues
 
8,322

 
8,673

Expenses:
 
 
 
 
General and administrative expenses
 
6,462

 
6,621

Income from discontinued operations before income tax expense
 
1,860

 
2,052

Income tax expense
 
434

 
306

Income from discontinued operations, net of taxes
 
$
1,426

 
$
1,746

The assets and liabilities of ARS are presented as held for sale in the consolidated balance sheets. The carrying amounts of the major classes of assets and liabilities of ARS at March 31, 2015 and December 31, 2014 were as follows:
(in thousands)
 
March 31, 2015
 
December 31, 2014
 
 
 
 
 
Assets
 
 
 
 
Cash and cash equivalents
 
$
2,108

 
$
2,792

Service fee receivable
 
19,462

 
19,006

Other receivables
 
325

 
257

Income taxes recoverable
 
144

 
150

Property and equipment, net of accumulated depreciation
 
139

 
193

Goodwill
 
510

 
510

Intangible assets, net of accumulated amortization
 
31,318

 
31,318

Other assets
 
194

 
327

Assets held for sale
 
$
54,200

 
$
54,553

Liabilities
 
 
 
 
Deferred income tax liability
 
$
2,977

 
$
2,550

Deferred service fees
 
14,323

 
14,358

Accrued expenses and other liabilities
 
3,237

 
4,745

Liabilities held for sale
 
$
20,537

 
$
21,653

For the three months ended March 31, 2015 and March 31, 2014, ARS' net cash used in operating activities was $0.0 million and $1.1 million, respectively. ARS had no cash flows from investing activities for the three months ended March 31, 2015 and March 31, 2014.

 
9
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

NOTE 6 INVESTMENTS

The amortized cost, gross unrealized gains and losses, and estimated fair value of the Company's investments in fixed maturities and equity investments at March 31, 2015 and December 31, 2014 are summarized in the tables shown below:
(in thousands)
 
March 31, 2015
 
 
 
Amortized Cost

 
Gross Unrealized Gains

 
Gross Unrealized Losses

 
Estimated  Fair Value

Fixed maturities:
 
 
 
 
 
 
 
 
U.S. government, government agencies and authorities
 
$
21,247

 
$
323

 
$

 
$
21,570

Canadian government
 
4,438

 

 
285

 
4,153

States, municipalities and political subdivisions
 
3,358

 
56

 

 
3,414

Mortgage-backed
 
4,948

 
73

 
9

 
5,012

Asset-backed securities and collateralized mortgage obligations
 
6,952

 
11

 
2

 
6,961

Corporate
 
17,489

 
216

 
3

 
17,702

Total fixed maturities
 
58,432

 
679

 
299

 
58,812

Equity investments:
 
 
 
 
 
 
 
 
Preferred stock
 
3,000

 

 

 
3,000

Common stock
 
17,804

 
3,350

 
595

 
20,559

Warrants
 
1,164

 
16

 
104

 
1,076

Total equity investments
 
21,968

 
3,366

 
699

 
24,635

Total fixed maturities and equity investments
 
$
80,400

 
$
4,045

 
$
998

 
$
83,447


(in thousands)
 
December 31, 2014
 
 
 
Amortized Cost

 
Gross Unrealized Gains

 
Gross Unrealized Losses

 
Estimated  Fair Value

Fixed maturities:
 
 
 
 
 
 
 
 
U.S. government, government agencies and authorities
 
$
20,436

 
$
333

 
$
10

 
$
20,759

Canadian government
 
4,519

 

 
277

 
4,242

States, municipalities and political subdivisions
 
3,358

 
61

 

 
3,419

Mortgage-backed
 
5,330

 
37

 
15

 
5,352

Asset-backed securities and collateralized mortgage obligations
 
7,221

 
3

 
10

 
7,214

Corporate
 
15,136

 
103

 
30

 
15,209

Total fixed maturities
 
56,000

 
537

 
342

 
56,195

Equity investments:
 
 
 
 
 
 
 
 
Common stock
 
16,450

 
3,360

 
284

 
19,526

Warrants
 
129

 

 
37

 
92

Total equity investments
 
16,579

 
3,360

 
321

 
19,618

Total fixed maturities and equity investments
 
$
72,579

 
$
3,897

 
$
663

 
$
75,813



 
10
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

The table below summarizes the Company's fixed maturities at March 31, 2015 by contractual maturity periods. Actual results may differ as issuers may have the right to call or prepay obligations, with or without penalties, prior to the contractual maturity of these obligations.
(in thousands)
 
March 31, 2015
 
 
 
Amortized Cost

 
Estimated Fair Value

Due in one year or less
 
$
19,635

 
$
19,368

Due after one year through five years
 
32,241

 
32,812

Due after five years through ten years
 
1,720

 
1,733

Due after ten years
 
4,836

 
4,899

Total
 
$
58,432

 
$
58,812


The following tables highlight the aggregate unrealized loss position, by security type, of fixed maturities and equity investments in unrealized loss positions as of March 31, 2015 and December 31, 2014. The tables segregate the holdings based on the period of time the investments have been continuously held in unrealized loss positions.
(in thousands)
 
 
 
 
 
 
 
 
March 31, 2015
 
 
Less than 12 Months
 
Greater than 12 Months
 
Total
 
Estimated Fair Value
 
Unrealized Loss
 
Estimated Fair Value
 
Unrealized Loss
 
Estimated Fair Value
 
Unrealized Loss
Fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
U.S. government, government agencies and authorities
$
220

 
$

 
$

 
$

 
$
220

 
$

Canadian government

 

 
4,152

 
285

 
4,152

 
285

Mortgage-backed
1,594

 
9

 

 

 
1,594

 
9

Asset-backed securities and collateralized mortgage obligations
2,597

 
2

 

 

 
2,597

 
2

Corporate
2,176

 
3

 

 

 
2,176

 
3

Total fixed maturities
6,587

 
14

 
4,152

 
285

 
10,739

 
299

Equity investments:
 
 
 
 
 
 
 
 


 


Common stock
11,188

 
595

 

 

 
11,188

 
595

Warrants
984

 
104

 

 

 
984

 
104

Total equity investments
12,172

 
699

 

 

 
12,172

 
699

Total
$
18,759

 
$
713

 
$
4,152

 
$
285

 
$
22,911

 
$
998



 
11
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

(in thousands)
 
 
 
 
 
 
 
 
December 31, 2014
 
 
Less than 12 Months
 
Greater than 12 Months
 
Total
 
Estimated Fair Value
 
Unrealized Loss
 
Estimated Fair Value
 
Unrealized Loss
 
Estimated Fair Value
 
Unrealized Loss
Fixed maturities:
 
 
 
 
 
 
 
 
 
 
 
U.S. government, government agencies and authorities
$
12,784

 
$
10

 
$
473

 
$

 
$
13,257

 
$
10

Canadian government

 

 
4,242

 
277

 
4,242

 
277

States, municipalities and political subdivisions
250

 

 

 

 
250

 

Mortgage-backed
2,816

 
15

 

 

 
2,816

 
15

Asset-backed securities and collateralized mortgage obligations
5,097

 
10

 

 

 
5,097

 
10

Corporate
6,226

 
20

 

 
10

 
6,226

 
30

Total fixed maturities
27,173

 
55

 
4,715

 
287

 
31,888

 
342

Equity investments:
 
 
 
 
 
 
 
 
 
 
 
Common stock
4,164

 
284

 

 

 
4,164

 
284

Warrants
92

 
37

 

 

 
92

 
37

Total equity investments
4,256

 
321

 

 

 
4,256

 
321

Total
$
31,429

 
$
376

 
$
4,715

 
$
287

 
$
36,144

 
$
663

Fixed maturities and equity investments contain approximately 39 and 71 individual investments that were in unrealized loss positions as of March 31, 2015 and December 31, 2014, respectively. 
The establishment of an other-than-temporary impairment on an investment requires a number of judgments and estimates. The Company performs a quarterly analysis of the individual investments to determine if declines in market value are other-than-temporary. The analysis includes some or all of the following procedures as deemed appropriate by the Company:
identifying all unrealized loss positions that have existed for at least six months;
identifying other circumstances which management believes may impact the recoverability of the unrealized loss positions;
obtaining a valuation analysis from third-party investment managers regarding the intrinsic value of these investments based on their knowledge and experience together with market-based valuation techniques;
reviewing the trading range of certain investments over the preceding calendar period;
assessing if declines in market value are other-than-temporary for debt instruments based on the investment grade credit ratings from third-party rating agencies;
assessing if declines in market value are other-than-temporary for any debt instrument with a non-investment grade credit rating based on the continuity of its debt service record;
determining the necessary provision for declines in market value that are considered other-than-temporary based on the analyses performed; and
assessing the Company's ability and intent to hold these investments at least until the investment impairment is recovered.
The risks and uncertainties inherent in the assessment methodology used to determine declines in market value that are other-than-temporary include, but may not be limited to, the following:
the opinions of professional investment managers could be incorrect;
the past trading patterns of individual investments may not reflect future valuation trends;
the credit ratings assigned by independent credit rating agencies may be incorrect due to unforeseen or unknown facts related to a company's financial situation; and
the debt service pattern of non-investment grade instruments may not reflect future debt service capabilities and may not reflect a company's unknown underlying financial problems.

 
12
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

As a result of the analysis performed by the Company to determine declines in market value that are other-than-temporary, the Company recorded a write-down for other-than-temporary impairment related to fixed maturities of $0.0 million for the three months ended March 31, 2015. There were no write-downs for other-than-temporary impairments related to equity investments or other investments for the three months ended March 31, 2015. There were no write-downs for other-than-temporary impairments related to investments for the three months ended March 31, 2014.
There were $0.0 million and zero of other-than-temporary losses recognized in other comprehensive (loss) income for the three months ended March 31, 2015 and March 31, 2014, respectively.
The Company has reviewed currently available information regarding investments with estimated fair values that are less than their carrying amounts and believes that these unrealized losses are not other-than-temporary and are primarily due to temporary market and sector-related factors rather than to issuer-specific factors. The Company does not intend to sell those investments, and it is not likely that it will be required to sell those investments before recovery of its amortized cost.
The Company does not have any exposure to subprime mortgage-backed investments.
Limited liability investments include investments in limited liability companies and limited partnerships that primarily invest in income-producing real estate or real estate related investments. The Company's interests in these investments are not deemed minor and, therefore, are accounted for under the equity method of accounting. As of March 31, 2015 and December 31, 2014, the carrying value of limited liability investments totaled $11.1 million and $7.3 million, respectively. At March 31, 2015, the Company has unfunded commitments totaling $2.4 million to fund limited liability investments. Income from limited liability investments is recognized based on the Company's share of the earnings of the limited liability entities and is included in net investment income.
Other investments include mortgage loans and are reported at their unpaid principal balance. As of March 31, 2015 and December 31, 2014, the carrying value of other investments totaled $3.6 million and $3.6 million, respectively.
Gross realized gains and losses on fixed maturities, equity investments and limited liability investments for the three months ended March 31, 2015 and March 31, 2014 were as follows:
(in thousands)
 
Three months ended March 31,
 
 
 
2015

 
2014

Gross realized gains
 
$

 
$
48

Gross realized losses
 

 
(9
)
Total
 
$

 
$
39


Net investment income for the three months ended March 31, 2015 and March 31, 2014, respectively, is comprised as follows:
(in thousands)
 
Three months ended March 31,
 
 
 
2015

 
2014

Investment income
 
 
 
 
  Interest from fixed maturities
 
$
269

 
$
272

Dividends
 
147

 
32

Income from limited liability investments
 
929

 
22

Other
 
34

 
142

Gross investment income
 
1,379

 
468

Investment expenses
 
(66
)
 
(55
)
Net investment income
 
$
1,313

 
$
413

At March 31, 2015, fixed maturities and short-term investments with an estimated fair value of $13.1 million were on deposit with state and provincial regulatory authorities. Also, from time to time, the Company pledges investments to third-parties to collateralize liabilities incurred under its policies of insurance. At March 31, 2015, the amount of such pledged securities was $17.2 million.

 
13
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

NOTE 7 INVESTMENT IN INVESTEE
Investment in investee includes the Company's investment in the common stock and private units of 1347 Capital Corp. and is accounted for under the equity method. 1347 Capital Corp. was formed for the purpose of entering into a merger, share exchange, asset acquisition or other similar business combination with one or more businesses or entities. The carrying value, estimated fair value and approximate equity percentage for the Company's investment in 1347 Capital Corp. at March 31, 2015 and December 31, 2014 were as follows:
(in thousands, except for percentages)
 
 
 
 
 
 
March 31, 2015
 
December 31, 2014
 
 
Equity Percentage
 
Estimated Fair Value
 
Carrying Value
 
Equity Percentage
 
Estimated Fair Value
 
Carrying value
1347 Capital Corp.
 
21.0
%
 

$12,082

 
$
1,975

 
22.7
%
 

$13,038

 
$
2,115


Equity in net loss of investee was $0.1 million and zero for the three months ended March 31, 2015 and March 31, 2014, respectively.
NOTE 8 DEFERRED ACQUISITION COSTS
Policy acquisition costs consist primarily of commissions, premium taxes, and underwriting and agency expenses, net of ceding commission income, incurred related to successful efforts to acquire new or renewal insurance contracts and vehicle service agreements. Acquisition costs deferred on both property and casualty insurance products and vehicle service agreements are amortized over the period in which the related revenues are earned.
The components of deferred acquisition costs and the related amortization expense for the three months ended March 31, 2015 and 2014, respectively, are comprised as follows:
(in thousands)
 
Three months ended March 31,
 
 
 
2015

 
2014

Beginning balance, net
 
$
12,197

 
$
12,392

Additions
 
7,554

 
7,274

Amortization
 
(6,548
)
 
(6,064
)
Acquisition costs disposed of during the year related to PIH
 

 
(1,043
)
Balance at March 31, net
 
$
13,203

 
$
12,559

NOTE 9 INTANGIBLE ASSETS
Intangible assets are comprised as follows:
(in thousands)
 
 
March 31, 2015
 
 
 
Gross Carrying Value
 
Accumulated Amortization
 
Net Carrying Value
Intangible assets subject to amortization
 
 
 
 
 
 
Database
 
$
4,918

 
$
1,168

 
$
3,750

Vehicle service agreements in-force
 
3,680

 
3,072

 
608

Customer-related relationships
 
3,611

 
787

 
2,824

Non-compete agreement
 
70

 
55

 
15

Intangible assets not subject to amortization
 
 
 
 
 
 
Insurance licenses
 
7,803

 

 
7,803

Trade name
 
663

 

 
663

Total
 
$
20,745

 
$
5,082

 
$
15,663



 
14
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

(in thousands)
 
 
December 31, 2014
 
 
 
Gross Carrying Value
 
Accumulated Amortization
 
Net Carrying Value
Intangible assets subject to amortization
 
 
 
 
 
 
Database
 
$
4,918

 
$
1,045

 
$
3,873

Vehicle service agreements in-force
 
3,680

 
2,975

 
705

Customer-related relationships
 
3,611

 
695

 
2,916

Non-compete agreement
 
70

 
50

 
20

Intangible assets not subject to amortization
 
 
 
 
 
 
Insurance licenses
 
7,803

 

 
7,803

Trade name
 
663

 

 
663

Total
 
$
20,745

 
$
4,765

 
$
15,980

The Company's intangible assets with definite useful lives are amortized either based on the pattern in which the economic benefits of the intangible asset are expected to be consumed or using the straight-line method over their estimated useful lives, which range from three to fifteen years. Amortization of intangible assets was $0.3 million and $0.4 million for the three months ended March 31, 2015 and March 31, 2014, respectively. The insurance licenses and trade name intangible assets have indefinite useful lives and are not amortized.
NOTE 10 UNPAID LOSS AND LOSS ADJUSTMENT EXPENSES
The establishment of the provision for unpaid loss and loss adjustment expenses is based on known facts and interpretation of circumstances and is therefore a complex and dynamic process influenced by a large variety of factors. These factors include the Company's experience with similar cases and historical trends involving loss payment patterns, pending levels of unpaid loss and loss adjustment expenses, product mix or concentration, loss severity and loss frequency patterns.
Other factors include the continually evolving and changing regulatory and legal environment; actuarial studies; professional experience and expertise of the Company's claims departments' personnel and independent adjusters retained to handle individual claims; the quality of the data used for projection purposes; existing claims management practices including claims-handling and settlement practices; the effect of inflationary trends on future loss settlement costs; court decisions; economic conditions; and public attitudes.
Consequently, the process of determining the provision necessarily involves risks that the actual results will deviate, perhaps materially, from the best estimates made.
The Company's evaluation of the adequacy of unpaid loss and loss adjustment expenses includes a re-estimation of the liability for unpaid loss and loss adjustment expenses relating to each preceding financial year compared to the liability that was previously established.

 
15
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

(a) Property and Casualty
The results of this comparison and the changes in the provision for property and casualty unpaid loss and loss adjustment expenses, net of amounts recoverable from reinsurers, as of March 31, 2015 and March 31, 2014 were as follows:
(in thousands)
 
March 31, 2015

 
March 31, 2014

Balance at beginning of period, gross
 
$
63,895

 
$
84,534

Less reinsurance recoverable related to property and casualty unpaid loss and loss adjustment expenses
 
3,203

 
7,942

Balance at beginning of period, net
 
60,692

 
76,592

Incurred related to:
 
 
 
 

      Current year
 
20,472

 
19,887

      Prior years
 
(76
)
 
(586
)
Paid related to:
 
 
 
 

      Current year
 
(7,532
)
 
(6,268
)
      Prior years
 
(16,740
)
 
(17,727
)
Disposal of unpaid loss and loss adjustment expenses related to PIH
 

 
(405
)
Balance at end of period, net
 
56,816

 
71,493

Plus reinsurance recoverable related to property and casualty unpaid loss and loss adjustment expenses
 
2,706

 
5,792

Balance at end of period, gross
 
$
59,522

 
$
77,285

(b) Vehicle Service Agreements
The results of the comparison and the changes in the provision for vehicle service agreement unpaid loss and loss adjustment expenses as of March 31, 2015 and March 31, 2014 were as follows:
(in thousands)
 
March 31, 2015

 
March 31, 2014

Balance at beginning of period
 
$
2,975

 
$
3,128

Incurred related to:
 
 
 
 
      Current year
 
1,557

 
1,760

      Prior years
 

 

Paid related to:
 
 
 
 
      Current year
 
(1,446
)
 
(1,699
)
      Prior years
 
(111
)
 
(61
)
Balance at end of period
 
$
2,975

 
$
3,128


NOTE 11 DEBT
Debt consists of the following instruments:
(in thousands)
 
March 31, 2015
 
December 31, 2014
 
 
Principal

 
Fair Value

 
Principal

 
Fair Value

LROC preferred units due 2015
 
$
12,473

 
$
12,473

 
$
13,618

 
$
13,618

Subordinated debt
 
90,500

 
41,543

 
90,500

 
40,659

Total
 
$
102,973

 
$
54,016

 
$
104,118

 
$
54,277



 
16
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

Subordinated debt mentioned above consists of the following trust preferred debt instruments:
Issuer
Principal

Issue date
Interest
Redemption date
Kingsway CT Statutory Trust I
$
15,000

12/4/2002
annual interest rate equal to LIBOR, plus 4.00% payable quarterly
12/4/2032
Kingsway CT Statutory Trust II
$
17,500

5/15/2003
annual interest rate equal to LIBOR, plus 4.10% payable quarterly
5/15/2033
Kingsway CT Statutory Trust III
$
20,000

10/29/2003
annual interest rate equal to LIBOR, plus 3.95% payable quarterly
10/29/2033
Kingsway DE Statutory Trust III
$
15,000

5/23/2003
annual interest rate equal to LIBOR, plus 4.20% payable quarterly
5/23/2033
Kingsway DE Statutory Trust IV
$
10,000

9/30/2003
annual interest rate equal to LIBOR, plus 3.85% payable quarterly
9/30/2033
Kingsway DE Statutory Trust VI
$
13,000

1/8/2004
annual interest rate equal to LIBOR, plus 4.00% payable quarterly
1/8/2034

During the first quarter of 2011, the Company gave notice to its Trust Preferred trustees of its intention to exercise its voluntary right to defer interest payments for up to 20 quarters, pursuant to the contractual terms of its outstanding Trust Preferred indentures, which permit interest deferral. This action does not constitute a default under the Company's Trust Preferred indentures or any of its other debt indentures.  At March 31, 2015 and December 31, 2014, deferred interest payable of $18.6 million and $17.4 million, respectively, is included in accrued expenses and other liabilities in the consolidated balance sheets. 
During the first quarter of 2014, the Company repaid the $14.4 million remaining amount outstanding on its senior unsecured debentures due February 1, 2014. No debt repurchases were made during the three months ended March 31, 2015 and March 31, 2014.
NOTE 12 FINANCE LEASE OBLIGATION LIABILITY
On October 2, 2014, the Company completed a sale and leaseback transaction involving building and land located in Miami, Florida, which was previously recorded as asset held for sale. The transaction did not qualify for sales recognition and was accounted for as a financing due to the Company's continuing involvement with the property as a result of nonrecourse financing provided to the buyer in the form of prepaid rent. A finance lease obligation liability equal to the selling price of the property was established at the date of the transaction. During the five-year lease term, the Company will record interest expense on the finance lease obligation at its incremental borrowing rate and will increase the finance lease obligation liability by the same amount. At the end of the lease term, the Company will no longer have continuing involvement with the property and will then recognize the sale of the property as well as the gain that will result from removing the net book value of the land and building and finance lease obligation liability from the consolidated balance sheets. At March 31, 2015 and December 31, 2014, finance lease obligation liability of $4.8 million and $4.7 million, respectively, is included in accrued expenses and other liabilities in the consolidated balance sheets.


 
17
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

NOTE 13 INCOME TAXES
Income tax expense for the three months ended March 31, 2015 and March 31, 2014, respectively, varies from the amount that would result by applying the applicable United States corporate income tax rate of 34% to income (loss) from continuing operations before income tax expense. The following table summarizes the differences:
(in thousands)
 
Three months ended March 31,
 
 
 
2015

 
2014

Income tax expense (benefit) at United States statutory income tax rate
 
690

 
(915
)
Valuation allowance
 
(638
)
 
666

Non-taxable dividend income
 
(424
)
 
(415
)
Foreign operations subject to different tax rates
 
122

 
130

State income tax (net of federal tax benefit)
 

 
212

Disposition of subsidiary
 

 
422

Prior year tax
 

 
(341
)
Other
 
272

 
301

Income tax expense
 
22

 
60

The Company maintains a valuation allowance for its gross deferred tax assets at March 31, 2015 and December 31, 2014. The Company's operations have generated substantial operating losses during the last several years. These losses can be available to reduce income taxes that might otherwise be incurred on future taxable income. The Company's operations, however, remain challenged and, as a result, it is uncertain whether the Company will generate the taxable income necessary to utilize these losses or other reversing temporary differences. This uncertainty has caused management to place a full valuation allowance on its March 31, 2015 and December 31, 2014 net deferred tax asset. The Company carries a deferred income tax liability of $2.9 million and $2.8 million at March 31, 2015 and December 31, 2014, respectively, all of which relates to indefinite life intangible assets.
As of March 31, 2015, the Company had no unrecognized tax benefits. The Company analyzed its tax positions in accordance with the provisions of ASC Topic 740, Income Taxes, and has determined that there are currently no uncertain tax positions. The Company recognizes interest and penalties, if any, related to unrecognized tax benefits in income tax expense.

 
18
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

NOTE 14 EARNINGS (LOSS) FROM CONTINUING OPERATIONS PER SHARE
The following table sets forth the reconciliation of numerators and denominators for the basic and diluted earnings (loss) from continuing operations per share computation for the three months ended March 31, 2015 and March 31, 2014:
(in thousands, except per share data)
 
Three months ended March 31,
 
 
2015
 
2014
Numerator:
 
 
 
 
Income (loss) from continuing operations
 
$
2,008

 
$
(2,752
)
Less: net income attributable to noncontrolling interests
 
(1,224
)
 
(653
)
Less: dividends on preferred stock
 
(81
)
 
(53
)
Income (loss) from continuing operations attributable to common shareholders
 
$
703

 
$
(3,458
)
Denominator:
 
 
 
 
Weighted average basic shares
 
 
 
 
Weighted average common shares outstanding
 
19,710

 
16,430

Weighted average diluted shares
 
 
 
 
Weighted average common shares outstanding
 
19,710

 
16,430

Effect of potentially dilutive securities:
 
 
 
 
Stock options
 
130

 

Unvested restricted stock awards
 
689

 

Warrants
 
620

 

Convertible preferred stock
 

 

Total weighted average diluted shares
 
21,149

 
16,430

Basic earnings (loss) from continuing operations per common share
 
$
0.04

 
$
(0.21
)
Diluted earnings (loss) from continuing operations per common share
 
$
0.03

 
$
(0.21
)
Earnings (loss) from continuing operations per share is based on the weighted-average number of shares outstanding. Diluted weighted-average shares is calculated by adjusting basic weighted-average shares outstanding by all potentially dilutive securities. Potentially dilutive securities consist of stock options, unvested restricted stock awards, warrants and convertible preferred stock.
The dilutive effect of the stock options, unvested restricted stock awards and warrants are reflected in diluted earnings from continuing operations per share by application of the treasury stock method. The dilutive effect of the convertible preferred stock is reflected in diluted earnings from continuing operations per share by application of the if-converted method. The effects of these potentially dilutive securities are excluded from the computation of diluted earnings per share in periods in which the effect would be anti-dilutive. Convertible preferred stock is anti-dilutive when the amount of dividend declared or accumulated in the current period per common share obtainable upon conversion exceeds basic earnings from continuing operations per share. For the three months ended March 31, 2015, the convertible preferred stock was deemed to be anti-dilutive and was excluded from the calculation of diluted earnings from continuing operations per share.
Since the Company is reporting a loss from continuing operations for the three months ended March 31, 2014, all potentially dilutive securities outstanding were excluded from the calculation of diluted loss from continuing operations per share since their inclusion would have been anti-dilutive.

 
19
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

NOTE 15 STOCK-BASED COMPENSATION
(a)     Stock Options
The following table summarizes the stock option activity during the three months ended March 31, 2015:
(in thousands, except for share data)
 
 
 
 
 
 
 
 
 
Number of Options Outstanding
 
Weighted-Average Exercise Price
 
Weighted-Average Remaining Contractual Term (in Years)
 
Aggregate Intrinsic Value
Outstanding at December 31, 2014
 
611,875

 
$
4.50

 
3.2

 
$
642

Granted
 

 
$

 
 
 
 
Expired
 

 
$

 
 
 
 
Outstanding at March 31, 2015
 
611,875

 
$
4.50

 
3.0

 
$
765

Exercisable at March 31, 2015
 
611,875

 
$
4.50

 
3.0

 
$
765

The aggregate intrinsic value of stock options outstanding and exercisable is the difference between the March 31, 2015 market price for the Company's common shares and the exercise price of the options, multiplied by the number of options where the fair value exceeds the exercise price.
The Company uses the Black-Scholes option pricing model to estimate the fair value of each option on the date of grant. No options were granted during the three months ended March 31, 2015.
(b)     Restricted Stock Awards
Under the 2013 Equity Incentive Plan, the Company made grants of restricted common stock ("Restricted Stock") to certain officers of the Company. The Restricted Stock vests after a ten-year period and is subject to the officer's continued employment through the vesting date. The Restricted Stock is amortized on a straight-line basis over the ten-year requisite service period. Total unamortized compensation expense related to unvested awards at March 31, 2015 was $7.3 million. The grant-date fair value of the Restricted Stock was determined using the closing price of Kingsway common stock on the date of grant. The following table summarizes the activity related to unvested Restricted Stock for the three months ended March 31, 2015:
(in thousands, except for share data)
 
 
 
 
 
 
Restricted stock awards
 
Weighted-average grant date fair value (per share)
Unvested at December 31, 2014
 
1,972,345

 
$
4.14

Granted
 

 

Unvested at March 31, 2015
 
1,972,345

 
$
4.14

Total stock-based compensation expense, net of forfeitures was $0.2 million and $0.6 million for the three months ended March 31, 2015 and March 31, 2014, respectively.

NOTE 16 SHAREHOLDERS' EQUITY
On February 3, 2014, the Company closed on its previously announced private placement totaling $6.6 million. At closing, the Company received gross proceeds of $6.6 million, resulting from the sale and issuance of 262,876 units for a purchase price of $25.00 per unit. Net proceeds to the Company were $6.3 million after deducting expenses.
Each unit consists of one class A convertible preferred share, series 1 (the "Preferred Shares"), and 6.25 common share class C purchase warrants. Each Preferred Share is convertible into 6.25 common shares at a conversion price of $4.00 per common share any time at the option of the holder prior to April 1, 2021. The maximum number of common shares issuable upon conversion of the Preferred Shares is 1,642,975 common shares. Each warrant will entitle the subscriber to purchase one common share of Kingsway at a price of $5.00 per common share at any time after September 16, 2016 and prior to expiry on September 15, 2023.

 
20
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

The Preferred Shares are not entitled to vote. The holders of the Preferred Shares are entitled to receive fixed, cumulative, preferential cash dividends at a rate of $1.25 per Preferred Share per year. The cash dividend rate shall be revised to $1.875 per Preferred Share per year if the dividend accumulates for a period greater than 30 consecutive months from the date of the most recent dividend payment. On and after February 3, 2016, the Company may redeem all or any part of the then outstanding Preferred Shares for the price of $28.75 per Preferred Share, plus accrued but unpaid dividends thereon, whether or not declared, up to and including the date specified for redemption. The Company will redeem any Preferred Shares not previously converted into common shares, and which remain outstanding on April 1, 2021, for the price of $25.00 per Preferred Share, plus accrued but unpaid dividends, whether or not declared, up to and including the date specified for redemption. At March 31, 2015 and December 31, 2014, accrued dividends of $0.4 million and $0.3 million were included in accrued expenses and other liabilities in the consolidated balance sheets.
In accordance with FASB ASC Topic 480-10-S99-3A, SEC Staff Announcement: Classification and Measurement of Redeemable Securities, redemption features which are not solely within the control of the issuer are required to be presented outside of permanent equity on the consolidated balance sheets. As described above, the holder has the option to convert the Preferred Shares at any time; however, if not converted, they are required to be redeemed on April 1, 2021. As such, the Preferred Shares are presented in temporary or mezzanine equity on the consolidated balance sheets and will be accreted up to the stated redemption value of $6.6 million through the April 1, 2021 redemption date.
On July 8, 2014, the holders of the Company's series B warrants approved certain amendments to the terms of the Series B Warrant Agreement dated September 16, 2013. The Series B Warrant Agreement Amendments permit the Company to issue up to 1,642,975 additional Series B Warrants and complete the Series C Warrant Exchange. Under the Series C Warrant Exchange, each class C purchase warrant was automatically exchanged for a Series B Warrant.
NOTE 17 ACCUMULATED OTHER COMPREHENSIVE INCOME
The table below details the change in the balance of each component of accumulated other comprehensive income, net of tax, for the three months ended March 31, 2015 and March 31, 2014 as relates to shareholders' equity attributable to common shareholders on the consolidated balance sheets. On the other hand, the unaudited consolidated statements of comprehensive income present the components of other comprehensive (loss) income, net of tax, only for the three months ended March 31, 2015 and March 31, 2014 and inclusive of the components attributable to noncontrolling interests in consolidated subsidiaries.
(in thousands)
 
 
 
Three months ended March 31, 2015
 
 
 
Unrealized Gains (Losses) on Fixed Maturities and Equity Investments
 
Foreign Currency Translation Adjustments
 
Total Accumulated Other Comprehensive Income
 
 
 
 
 
 
 
Balance at January 1, 2015
 
$
14,622

 
$
(5,952
)
 
$
8,670

 
 
 
 
 
 
 
Other comprehensive (loss) income before reclassifications
 
(108
)
 
180

 
72

Amounts reclassified from accumulated other comprehensive income
 
13

 

 
13

Net current-period other comprehensive (loss) income
 
(95
)
 
180

 
85

 
 
 
 
 
 
 
Balance at March 31, 2015
 
$
14,527

 
$
(5,772
)
 
$
8,755


 
21
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

(in thousands)
 
 
 
Three months ended March 31, 2014
 
 
 
Unrealized Gains on Fixed Maturities and Equity Investments
 
Foreign Currency Translation Adjustments
 
Total Accumulated Other Comprehensive Income
 
 
 
 
 
 
 
Balance at January 1, 2014
 
$
15,583

 
$
(5,982
)
 
$
9,601

 
 
 
 
 
 
 
Other comprehensive income before reclassifications
 
1,276

 
44

 
1,320

Amounts reclassified from accumulated other comprehensive income
 
52

 

 
52

Net current-period other comprehensive income
 
1,328

 
44

 
1,372

 
 
 
 
 
 
 
Balance at March 31, 2014
 
$
16,911

 
$
(5,938
)
 
$
10,973

Components of accumulated other comprehensive income were reclassified to the following lines of the unaudited consolidated statements of operations for the three months ended March 31, 2015 and March 31, 2014:
 
 
Three months ended March 31,
 
  
 
2015

 
2014

Reclassification of accumulated other comprehensive income from unrealized gains (losses) on fixed maturities and equity investments to:
 
 
 
 
Net realized gains
 
$
(3
)
 
$
(52
)
Other-than-temporary impairment loss
 
(10
)
 

Income (loss) from continuing operations before income tax expense
 
(13
)
 
(52
)
Income tax expense
 

 

Net income (loss)
 
(13
)
 
(52
)
NOTE 18 SEGMENTED INFORMATION
The Company operates as a merchant bank primarily engaged, through its subsidiaries, in the property and casualty insurance business. The Company conducts its business through the following two reportable segments: Insurance Underwriting and Insurance Services.
Insurance Underwriting Segment
Insurance Underwriting includes the following subsidiaries of the Company: Mendota Insurance Company, Mendakota Insurance Company, Mendakota Casualty Company (formerly Universal Casualty Company) ("MCC"), Kingsway Amigo Insurance Company ("Amigo") and Kingsway Reinsurance Corporation (collectively, "Insurance Underwriting"). Insurance Underwriting principally offers personal automobile insurance to drivers who do not meet the criteria for coverage by standard automobile insurers and actively conducts business in 15 states.
The Company previously placed Amigo and MCC into voluntary run-off in 2012 and 2011, respectively. Each of Amigo and MCC has entered into a comprehensive run-off plan which has been approved by its respective state of domicile. Kingsway continues to manage Amigo and MCC in a manner consistent with the run-off plans. During the first quarter of 2015, MCC sent a letter of intent to the Illinois Department of Insurance to resume writing private passenger automobile policies in the state of Illinois.  MCC began writing these policies on April 1, 2015.
Effective March 31, 2014, the Company's wholly owned subsidiary, PIH, completed an initial public offering of its common stock. Upon completion of the transaction, the Company maintained a minority ownership interest in the common shares of PIH. The earnings of PIH are included in the unaudited consolidated statements of operations through the March 31, 2014 transaction date. Prior to the transaction, PIH was included in the Insurance Underwriting segment. As a result of the disposal of the Company's

 
22
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

majority interest in PIH on March 31, 2014, all segmented information has been restated to exclude PIH from the Insurance Underwriting segment.
Insurance Services Segment
Insurance Services includes the following subsidiaries of the Company: IWS Acquisition Corporation ("IWS") and Trinity (collectively, "Insurance Services").

IWS is a licensed motor vehicle service agreement company and is a provider of after-market vehicle protection services distributed by credit unions in 26 states to their members.
Trinity is a provider of warranty products and maintenance support to consumers and businesses in the HVAC and refrigeration industry. Trinity distributes its warranty products through original equipment manufacturers, HVAC distributors and commercial and residential contractors. Trinity distributes its maintenance support directly through corporate owners of retail spaces throughout the United States.
Effective April 1, 2015, the Company closed on the sale of its wholly owned subsidiary, ARS. As a result, ARS has been classified as discontinued operations and the results of their operations are reported separately for all periods presented. Prior to the transaction, ARS was included in the Insurance Services segment. As a result of classifying ARS as a discontinued operation, all segmented information has been restated to exclude ARS from the Insurance Services segment.
Results for the Company's reportable segments are based on the Company's internal financial reporting systems and are consistent with those followed in the preparation of the unaudited consolidated interim financial statements. The following tables provide financial data used by management. Segment assets are not allocated for management use and, therefore, are not included in the segment disclosures below.
Revenues by reportable segment reconciled to consolidated revenues for the three months ended March 31, 2015 and 2014 were:
(in thousands)
 
Three months ended March 31,
 
 
 
2015

 
2014

Revenues:
 
 
 
 
Insurance Underwriting:
 
 
 
 
Net premiums earned
 
$
29,030

 
$
27,806

Other income
 
2,237

 
2,134

Total Insurance Underwriting
 
31,267

 
29,940

Insurance Services:
 
 
 
 
Service fee and commission income
 
5,398

 
6,065

Other income
 
97

 
86

Total Insurance Services
 
5,495

 
6,151

Total segment revenues
 
36,762

 
36,091

Net premiums earned not allocated to segments
 

 
4,114

Net investment income
 
1,313

 
413

Net realized gains
 

 
39

Other-than-temporary impairment loss
 
(10
)
 

Other income (loss) not allocated to segments
 
5,631

 
(162
)
Total revenues
 
$
43,696

 
$
40,495


 
23
 

KINGSWAY FINANCIAL SERVICES INC.
Notes to Consolidated Financial Statements (Unaudited) March 31, 2015

The operating income (loss) of each segment in the following table is before income taxes and includes revenues and direct segment costs.
Segment operating income (loss) reconciled to the consolidated income (loss) from continuing operations for the three months ended March 31, 2015 and 2014 were:
(in thousands)
 
Three months ended March 31,