form10q_03312011.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
 
(Mark one)
     
þ
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2011
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 0-1665

KINGSTONE COMPANIES, INC.
(Exact name of registrant as specified in its charter)
     
Delaware
(State or other jurisdiction of
incorporation or organization)
 
36-2476480
(I.R.S. Employer
Identification Number)
1154 Broadway
Hewlett, NY 11557
(Address of principal executive offices)

(516) 374-7600
 
(Registrant’s telephone number, including area code)
 
 (Former Name, if Changed Since Last Report)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ 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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o 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 definition of  “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
             
Large accelerated filer o
 
Accelerated filero
 
Non-accelerated filer o
(Do not check if a smaller reporting company)
 
Smaller reporting company þ

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

As of May 20, 2011, there were 3,838,386 shares of the registrant’s common stock outstanding.

 
 

 


KINGSTONE COMPANIES, INC.
INDEX

                 
           
PAGE
                 
PART I — FINANCIAL INFORMATION
   
2
 
   
Item 1 —
 
 Financial Statements
   
2
 
       
 Condensed Consolidated Balance Sheets at March 31, 2011 (Unaudited) and December 31, 2010
   
3
 
       
 Condensed Consolidated Statements of Operations and Comprehensive Income  for the three months ended March 31, 2011 (Unaudited) and 2010 (Unaudited)
   
4
 
       
 Condensed Consolidated Statement of Stockholders’ Equity for the three months ended March 31, 2011 (Unaudited)
   
5
 
       
 Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2011 (Unaudited) and 2010  (Unaudited)
   
6
 
       
 Notes to Condensed Consolidated Financial Statements  (Unaudited)
   
7
 
   
Item 2 —
 
 Management’s Discussion and Analysis of Financial Condition and Results of Operations
   
23
 
   
Item 3 —
 
 Quantitative and Qualitative Disclosures About Market Risk
   
35
 
   
Item 4—
 
 Controls and Procedures
   
35
 
                 
PART II — OTHER INFORMATION
   
37
 
   
Item 1 —
 
Legal Proceedings
   
37
 
   
Item 1A —
 
Risk Factors
   
37
 
   
Item 2 —
 
Unregistered Sales of Equity Securities and Use of Proceeds
   
37
 
   
Item 3 —
 
Defaults Upon Senior Securities
   
37
 
   
Item 4 —
 
Reserved
   
37
 
   
Item 5 —
 
Other Information
   
37
 
   
Item 6 —
 
Exhibits
   
37
 
Signatures
       
 EXHIBIT 31(a)
 EXHIBIT 31(b)
 EXHIBIT 32
 
 
 
 

 

Forward-Looking Statements
 
This Quarterly Report contains forward-looking statements as that term is defined in the federal securities laws.  The events described in forward-looking statements contained in this Quarterly Report may not occur.  Generally these statements relate to business plans or strategies, projected or anticipated benefits or other consequences of our plans or strategies, projected or anticipated benefits from acquisitions to be made by us, or projections involving anticipated revenues, earnings or other aspects of our operating results.  The words "may," "will," "expect," "believe," "anticipate," "project," "plan," "intend," "estimate," and "continue," and their opposites and similar expressions are intended to identify forward-looking statements.  We caution you that these statements are not guarantees of future performance or events and are subject to a number of uncertainties, risks and other influences, many of which are beyond our control, that may influence the accuracy of the statements and the projections upon which the statements are based.  Factors which may affect our results include, but are not limited to, the risks and uncertainties discussed in Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2010 under “Factors That May Affect Future Results and Financial Condition”.
 
Any one or more of these uncertainties, risks and other influences could materially affect our results of operations and whether forward-looking statements made by us ultimately prove to be accurate.  Our actual results, performance and achievements could differ materially from those expressed or implied in these forward-looking statements.  We undertake no obligation to publicly update or revise any forward-looking statements, whether from new information, future events or otherwise.
 

 
1

 

PART I.  FINANCIAL INFORMATION
 
Item 1.                       Financial Statements.
 




 
2

 

 KINGSTONE COMPANIES, INC. AND SUBSIDIARIES  
Condensed Consolidated Balance Sheets
 
   
March 31,
   
December 31,
 
   
2011
      2010*  
   
(unaudited)
         
 Assets
             
 Fixed-maturity securities, held to maturity, at amortized cost (fair value of $583,792 at
             
 March 31, 2011 and $606,398 at December 31, 2010)
  $ 606,222     $ 605,424  
 Fixed-maturity securities, available for sale, at fair value (amortized cost of $17,914,086
               
 at March 31, 2011 and $16,277,052 at December 31, 2010)
    18,030,072       16,339,101  
 Equity securities, available-for-sale, at fair value (cost of $2,485,876
               
 at March 31, 2011 and $2,825,015 at December 31, 2010)
    2,621,809       2,983,035  
 Total investments
    21,258,103       19,927,560  
 Cash and cash equivalents
    393,968       326,620  
 Premiums receivable, net of provision for uncollectible amounts
    5,764,173       5,001,886  
 Receivables - reinsurance contracts
    1,920,313       1,174,729  
 Reinsurance receivables, net of provision for uncollectible amounts
    21,847,356       20,720,194  
 Notes receivable-sale of business
    624,581       705,019  
 Deferred acquisition costs
    3,879,553       3,619,001  
 Intangible assets, net
    4,017,457       4,136,386  
 Property and equipment, net of accumulated depreciation
    1,549,590       1,585,029  
 Other assets
    1,723,695       1,486,249  
 Total assets
  $ 62,978,789     $ 58,682,673  
                 
 Liabilities
               
 Loss and loss adjustment expenses
  $ 19,213,617     $ 17,711,907  
 Unearned premiums
    18,512,071       17,277,332  
 Advance premiums
    609,881       410,574  
 Reinsurance balances payable
    2,424,691       1,106,897  
 Deferred ceding commission revenue
    3,324,448       3,219,513  
 Notes payable and capital lease obligations (includes payable to
               
 related parties of $785,000)
    1,454,479       1,460,997  
 Accounts payable, accrued expenses and other liabilities
    2,268,419       2,553,031  
 Deferred income taxes
    2,039,179       1,998,557  
 Total liabilities
    49,846,785       45,738,808  
                 
 Commitments and Contingencies
               
                 
 Stockholders' Equity
               
 Common stock, $.01 par value; authorized 10,000,000 shares; issued 4,643,122 shares;
               
 outstanding 3,838,386 shares
    46,432       46,432  
 Preferred stock, $.01 par value; authorized 1,000,000 shares;
               
 -0- shares issued and outstanding
    -       -  
 Capital in excess of par
    13,674,407       13,633,913  
 Accumulated other comprehensive income
    166,268       145,247  
 Retained earnings
    408,155       281,531  
      14,295,262       14,107,123  
 Treasury stock, at cost, 804,736 shares
    (1,163,258 )     (1,163,258 )
 Total stockholders' equity
    13,132,004       12,943,865  
                 
 Total liabilities and stockholders' equity
  $ 62,978,789     $ 58,682,673  
 
* derived from audited financial information


See accompanying notes to condensed consolidated financial statements.
 


 
3

 

 KINGSTONE COMPANIES, INC. AND SUBSIDIARIES  
             
Condensed Consolidated Statements of Operations and Comprehensive Income (Unaudited)
 
Three months ended March 31,
 
2011
   
2010
 
             
 Revenues
           
 Net premiums earned
  $ 3,367,699     $ 2,217,947  
 Ceding commission revenue
    2,312,575       2,211,137  
 Net investment income
    177,670       132,280  
 Net realized gain on investments
    70,471       34,660  
 Other income
    247,472       221,104  
 Total revenues
    6,175,887       4,817,128  
                 
 Expenses
               
 Loss and loss adjustment expenses
    2,550,764       1,434,618  
 Commission expense
    1,371,749       1,136,619  
 Other underwriting expenses
    1,576,819       1,103,920  
 Other operating expenses
    303,963       539,619  
 Depreciation and amortization
    158,460       156,687  
 Interest expense
    45,765       45,202  
 Interest expense - mandatorily redeemable preferred stock
    -       37,353  
 Total expenses
    6,007,520       4,454,018  
                 
 Income from continuing operations before taxes
    168,367       363,110  
 Income tax expense
    41,743       144,564  
 Income from continuing operations
    126,624       218,546  
 Income from discontinued operations, net of taxes
    -       13,848  
 Net income
    126,624       232,394  
                 
 Gross unrealized investment holding gains
               
 arising during period
    31,850       39,879  
 Income tax expense related to items of
               
 other comprehensive income
    (10,829 )     (13,559 )
 Comprehensive income
  $ 147,645     $ 258,714  
                 
Basic and diluted earnings per common share:
               
Income from continuing operations
  $ 0.03     $ 0.07  
Income from discontinued operations
  $ -     $ 0.01  
Income per common share
  $ 0.03     $ 0.08  
                 
Weighted average common shares outstanding
               
Basic
    3,838,386       2,992,400  
Diluted
    3,838,386       2,992,400  
 

See accompanying notes to condensed consolidated financial statements.
 

 
4

 


 KINGSTONE COMPANIES, INC. AND SUBSIDIARIES  
                                                             
Condensed Consolidated Statement of Stockholders' Equity
 
Three months ended March 31, 2011 (unaudited)
 
                                                             
                                 
Accumulated
                         
                           
Capital
   
Other
                         
   
Common Stock
   
Preferred Stock
   
in Excess
   
Comprehensive
   
Retained
   
Treasury Stock
       
   
Shares
   
Amount
   
Shares
   
Amount
   
of Par
   
Income
   
Earnings
   
Shares
   
Amount
   
Total
 
Balance, December 31, 2010
    4,643,122     $ 46,432       -     $ -     $ 13,633,913     $ 145,247     $ 281,531       804,736     $ (1,163,258 )   $ 12,943,865  
Stock-based payments
    -       -       -       -       40,494       -       -       -       -       40,494  
Net income
    -       -       -       -       -       -       126,624       -       -       126,624  
Net unrealized gains on securities
                                                                               
available for sale, net of income tax
    -       -       -       -       -       21,021       -       -       -       21,021  
Balance, March 31, 2011
    4,643,122     $ 46,432       -     $ -     $ 13,674,407     $ 166,268     $ 408,155       804,736     $ (1,163,258 )   $ 13,132,004  

 

See accompanying notes to condensed consolidated financial statements.

 
5

 

KINGSTONE COMPANIES, INC. AND SUBSIDIARIES  
Condensed Consolidated Statements of Cash Flows (Unaudited)
 
Three months ended March 31,
 
2011
   
2010
 
             
 Cash flows provided by (used in) operating activities:
           
 Net income
  $ 126,624     $ 232,394  
 Adjustments to reconcile net income to net cash provided by operations:
               
 Gain on sale of investments
    (70,471 )     (34,660 )
 Depreciation and amortization
    158,460       156,687  
 Amortization of bond premium, net
    23,482       17,358  
 Stock-based payments
    40,494       200,636  
 Deferred income taxes
    29,793       (13,036 )
 (Increase) decrease in assets:
               
 Short term investments
    -       (160,056 )
 Premiums receivable, net
    (762,287 )     (360,714 )
 Receivables - reinsurance contracts
    (745,584 )     (397,968 )
 Reinsurance receivables, net
    (1,127,162 )     603,965  
 Deferred acquisition costs
    (260,552 )     (201,509 )
 Other assets
    (240,372 )     (118,142 )
 Increase (decrease) in liabilities:
               
 Loss and loss adjustment expenses
    1,501,710       23,502  
 Unearned premiums
    1,234,739       887,949  
 Advance premiums
    199,307       16,753  
 Reinsurance balances payable
    1,317,794       (21,138 )
 Deferred ceding commission revenue
    104,935       (456,961 )
 Accounts payable, accrued expenses and other liabilities
    (284,612 )     (608,262 )
 Net cash provided by (used in) operating activities of continuing operations
    1,246,298       (233,202 )
 Operating activities of discontinued operations
    -       (19,500 )
 Net cash flows provided by (used in) operating activities
    1,246,298       (252,702 )
                 
 Cash flows used in investing activities:
               
 Purchase - fixed-maturity securities available for sale
    (1,658,387 )     (249,390 )
 Purchase - equity securities
    (580,638 )     (233,135 )
 Sale - equity securities
    990,247       410,167  
 Collections of notes receivable and accrued interest - Sale of businesses
    80,438       67,769  
 Other investing activities
    (4,092 )     (1,478 )
 Net cash flows used in investing activities
    (1,172,432 )     (6,067 )
                 
 Cash flows (used in) provided by financing activities:
               
 Proceeds from long term debt (includes $200,000 from related parties in 2010)
    -       400,000  
 Principal payments on long-term debt
    (6,518 )     (5,952 )
 Net cash flows (used in) provided by financing activities
    (6,518 )     394,048  
                 
 Increase in cash and cash equivalents
    67,348       135,279  
 Cash and cash equivalents, beginning of period
    326,620       625,320  
 Cash and cash equivalents, end of period
  $ 393,968     $ 760,599  
                 
 Supplemental disclosures of cash flow information:
               
 Cash paid for income taxes
  $ -     $ 227,000  
 Cash paid for interest
  $ 91,441     $ 133,118  


See accompanying notes to condensed consolidated financial statements.
 
 
6

 
 
KINGSTONE COMPANIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1 - Basis of Presentation and Nature of Business
 
Kingstone Companies, Inc. (referred to herein as "Kingstone" or the “Company”), through its subsidiary Kingstone Insurance Company (“KICO”), offers property and casualty insurance products to small businesses and individuals in New York State.
 
The accompanying unaudited condensed consolidated financial statements included in this report have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and the instructions to Securities and Exchange Commission (“SEC”) Form 10-Q and Article 8-03 of SEC Regulation S-X. The principles for condensed interim financial information do not require the inclusion of all the information and footnotes required by generally accepted accounting principles for complete financial statements. Therefore, these financial statements should be read in conjunction with the consolidated financial statements as of and for the year ended December 31, 2010 and notes thereto included in the Company’s Annual Report on Form 10-K filed on March 31, 2011. The accompanying condensed consolidated financial statements have not been audited by an independent registered public accounting firm in accordance with standards of the Public Company Accounting Oversight Board (United States) but, in the opinion of management, such financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair statement of the Company’s financial position and results of operations. The results of operations for the three months ended March 31 2011 may not be indicative of the results that may be expected for the year ending December 31, 2011.
 
Note 2 – Accounting Policies and Basis of Presentation
 
Use of Estimates
 
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect 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 reporting period. Actual results could differ from those estimates.
 
Reclassification
 
The Company has reclassified certain amounts in its 2010 statements of consolidated operations and cash flows to conform to the 2011 presentation. None of these reclassifications had an effect on the Company’s consolidated net earnings, total stockholders’ equity or cash flows.
 
Principles of Consolidation

The consolidated financial statements consist of Kingstone and its wholly-owned subsidiaries. Subsidiaries include KICO and its subsidiaries, CMIC Properties, Inc. (“CMIC Properties”) and 15 Joys Lane, LLC (“15 Joys Lane”), which together own the land and building from which KICO operates. All material intercompany transactions have been eliminated in consolidation.
 

 
7

 
 
Accounting Pronouncements
 
With the exception of the pronouncement discussed below, there have been no recent accounting pronouncements or changes in accounting pronouncements during the three months ended March 31, 2011, as compared to those described in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2010, that are of significance, or potential significance, to the Company.
 
In October 2010, the FASB issued new guidance concerning the accounting for costs associated with acquiring or renewing insurance contracts. This guidance generally follows the model of that for loan origination costs. Under the new guidance, only direct incremental costs associated with successful insurance contract acquisitions or renewals are deferrable. The Company adopted this guidance retrospectively effective January 1, 2011. The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or liquidity.

In May 2011 the FASB issued ASU No. 2011-04, Fair Value Measurements (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in US GAAP and International Financial Reporting Standards (“IFRS”).  This ASU represents the converged guidance of the FASB and the IASB (the “Boards”) on fair value measurements.  The collective efforts of the Boards and their staffs, reflected in ASU 2011-04, have resulted in common requirements for measuring fair value and for disclosing information about fair value measurements, including a consistent meaning of the term “fair value.” The Boards have concluded the common requirements will result in greater comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with GAAP and IFRSs.  The amendments in this ASU are to be applied prospectively, and are effective for interim and annual periods beginning after December 15, 2011.

Note 3 - Investments 

Available for Sale Securities

The amortized cost and fair value of investments in available for sale fixed-maturity securities, equities and short term investments as of March 31, 2011 and December 31, 2010 are summarized as follows:
 

 
8

 

     March 31, 2011  
  
 
Cost or
   
Gross
   
Gross Unrealized Losses
         
Unrealized
 
   
Amortized
   
Unrealized
   
Less than 12
   
More than 12
   
Fair
   
Gains/
 
 Category
 
Cost
   
Gains
   
Months
   
Months
   
Value
   
(Losses)
 
   
(unaudited)
 
Fixed-Maturity Securities:
                               
U.S. Treasury securities and
                               
obligations of U.S. government
                               
corporations and agencies
  $ 1,000,597     $ 34,668     $ -     $ -     $ 1,035,265     $ 34,668  
                                                 
Political subdivisions of States,
                                         
Territories and Possessions
    7,264,437       73,805       (46,262 )     (32,472 )     7,259,508       (4,929 )
                                                 
Corporate and other bonds
                                               
Industrial and miscellaneous
    9,649,052       200,179       (113,932 )     -       9,735,299       86,247  
Total fixed-maturity securities
    17,914,086       308,652       (160,194 )     (32,472 )     18,030,072       115,986  
                                                 
Equity Securities:
                                               
Preferred stocks
    742,215       30,514       (4,223 )     -       768,506       26,291  
Common stocks
    1,743,661       132,004       (22,362 )     -       1,853,303       109,642  
Total equity securities
    2,485,876       162,518       (26,585 )     -       2,621,809       135,933  
                                                 
Total
  $ 20,399,962     $ 471,170     $ (186,779 )   $ (32,472 )   $ 20,651,881     $ 251,919  
 
 
 
     December 31, 2010  
  
 
Cost or
   
Gross
   
Gross Unrealized Losses
         
Unrealized
 
   
Amortized
   
Unrealized
   
Less than 12
   
More than 12
   
Fair
   
Gains/
 
 Category
 
Cost
   
Gains
   
Months
   
Months
   
Value
   
(Losses)
 
                                     
Fixed-Maturity Securities:
                               
U.S. Treasury securities and
                               
obligations of U.S. government
                               
corporations and agencies
  $ 1,000,572     $ 42,085     $ -     $ -     $ 1,042,657     $ 42,085  
                                                 
Political subdivisions of States,
                                         
Territories and Possessions
    7,278,663       79,791       (86,234 )     (12,995 )     7,259,225       (19,438 )
                                                 
Corporate and other bonds
                                               
Industrial and miscellaneous
    7,997,817       176,999       (137,597 )     -       8,037,219       39,402  
Total fixed-maturity securities
    16,277,052       298,875       (223,831 )     (12,995 )     16,339,101       62,049  
                                                 
Equity Securities:
                                               
Preferred stocks
    824,569       29,934       (6,333 )     -       848,170       23,601  
Common stocks
    2,000,446       188,783       (54,364 )     -       2,134,865       134,419  
Total equity securities
    2,825,015       218,717       (60,697 )     -       2,983,035       158,020  
                                                 
Total
  $ 19,102,067     $ 517,592     $ (284,528 )   $ (12,995 )   $ 19,322,136     $ 220,069  
 
A summary of the amortized cost and fair value of the Company’s available for sale investments in fixed-maturity securities by contractual maturity as of March 31, 2011 and December 31, 2010 is shown below:
 

 
 
9

 
 
   
March 31, 2011
     December 31, 2010  
   
Amortized
         
Amortized
       
 Remaining Time to Maturity
 
Cost
   
Fair Value
   
Cost
   
Fair Value
 
   
(unaudited)
             
 Less than one year
  $ 572,785     $ 558,284     $ 263,098     $ 253,385  
 One to five years
    6,332,452       6,451,604       6,868,952       6,997,694  
 Five to ten years
    9,003,965       9,019,288       7,132,079       7,118,405  
 More than 10 years
    2,004,884       2,000,896       2,012,923       1,969,617  
 Total
  $ 17,914,086     $ 18,030,072     $ 16,277,052     $ 16,339,101  
 
The actual maturities may differ from contractual maturities because certain borrowers have the right to call or prepay obligations with or without penalties.

Held to Maturity Securities

The amortized cost and fair value of investments in held to maturity fixed-maturity securities as of March 31, 2011 and December 31, 2010 are summarized as follows:
 
     March 31, 2011  
  
 
Cost or
   
Gross
   
Gross Unrealized Losses
         
Unrealized
 
   
Amortized
 
Unrealized
 
Less than 12
 
More than 12
 
Fair
   
Gains/
 
 Category
 
Cost
   
Gains
   
Months
   
Months
   
Value
   
(Losses)
 
   
(unaudited)
 
                                     
 U.S. Treasury securities
  $ 606,222     $ -     $ (22,430 )   $ -     $ 583,792     $ (22,430 )
 
 

     December 31, 2010  
  
 
Cost or
   
Gross
   
Gross Unrealized Losses
         
Unrealized
 
   
Amortized
 
Unrealized
 
Less than 12
 
More than 12
 
Fair
   
Gains/
 
 Category
 
Cost
   
Gains
   
Months
   
Months
   
Value
   
(Losses)
 
                                     
 U.S. Treasury securities
  $ 605,424     $ 974     $ -     $ -     $ 606,398     $ 974  
 
All held to maturity securities are held in trust pursuant to the New York State Insurance Department’s minimum funds requirement.

Contractual maturities of all held to maturity securities are greater than ten years.

Investment Income

Major categories of the Company’s net investment income are summarized as follows:
 
 
10

 
 
     Three months ended  
   
March 31,
 
   
2011
   
2010
 
   
(unaudited)
 
 Income
 
 
   
 
 
 Fixed-maturity securities
  $ 182,137     $ 129,107  
 Equity securities
    36,824       27,301  
 Cash and cash equivalents
    1,987       1,850  
 Other
    10       15  
 Total
    220,958       158,273  
 Expenses
               
 Investment expenses
    43,288       25,993  
 Net investment income
  $ 177,670     $ 132,280  
 
There were no proceeds from the sale and maturity of fixed-maturity securities for the three months ended March 31, 2011 and 2010.

Proceeds from the sale of equity securities were $990,247 and $410,167 for the three months ended March 31, 2011 and 2010, respectively.

The Company’s gross realized gains and losses on investments are summarized as follows:
 
     Three months ended  
   
March 31,
 
   
2011
   
2010
 
   
(unaudited)
 Equity securities
           
 Gross realized gains
  $ 117,333     $ 46,398  
 Gross realized losses
    (46,862 )     (11,738 )
 Net realized gains
  $ 70,471     $ 34,660  
 
 Impairment Review
 
The Company regularly reviews its fixed-maturity securities and equity securities portfolios to evaluate the necessity of recording impairment losses for other-than-temporary declines (“OTTI”) in the fair value of investments. In evaluating potential impairment, management considers, among other criteria: (i) the current fair value compared to amortized cost or cost, as appropriate; (ii) the length of time the security’s fair value has been below amortized cost or cost; (iii) specific credit issues related to the issuer such as changes in credit rating, reduction or elimination of dividends or non-payment of scheduled interest payments; (iv) management’s intent and ability to retain the investment for a period of time sufficient to allow for any anticipated recovery in value to cost; and (v) current economic conditions.
 
OTTI losses are recorded in the condensed consolidated statement of operations and comprehensive income as net realized losses on investments and result in a permanent reduction of the cost basis of the underlying investment. The determination of OTTI is a subjective process and different judgments and assumptions could affect the timing of loss realization. There are 50 securities at March 31, 2011 that account for the gross unrealized loss. The Company determined that none of the unrealized losses were deemed to be OTTI for its portfolio of fixed maturity investments and equity securities for the three months ended March 31, 2011 and 2010.  Significant factors influencing the Company’s determination that unrealized losses were temporary included the magnitude of the unrealized losses in relation to each security’s cost, the nature of the investment and management’s intent and ability to retain the investment for a period of time sufficient to allow for anticipated recovery of fair value to the Company’s cost basis.
 
 
11

 
 
The Company held securities with unrealized losses representing declines that were considered temporary at March 31, 2011 as follows:

     March 31, 2011  
   
Less than 12 months
   
12 months or more
   
Total
 
  
             
No. of
               
No. of
             
   
Fair
   
Unrealized
   
Positions
   
Fair
   
Unrealized
   
Positions
   
Fair
   
Unrealized
 
 Category
 
Value
   
Losses
   
Held
   
Value
   
Losses
   
Held
   
Value
   
Losses
 
   
(unaudited)
 
Fixed-Maturity Securities:
                                           
Political subdivisions of
                                           
States, Territories and
                                               
Possessions
  $ 1,638,318     $ (46,262 )     7     $ 1,338,826     $ (32,472 )     4     $ 2,977,144     $ (78,734 )
                                                                 
Corporate and other
                                                               
bonds industrial and
                                                               
miscellaneous
    4,307,000       (113,932 )     22       -       -       -       4,307,000       (113,932 )
                                                                 
Total fixed-maturity
                                                               
securities
  $ 5,945,318     $ (160,194 )     29     $ 1,338,826     $ (32,472 )     4     $ 7,284,144     $ (192,666 )
                                                                 
Equity Securities:
                                                               
Preferred stocks
  $ 316,000     $ (4,223 )     8     $ -     $ -       -     $ 316,000     $ (4,223 )
Common stocks
    488,948       (22,362 )     9       -       -       -       488,948       (22,362 )
                                                                 
Total equity securities
  $ 804,948     $ (26,585 )     17     $ -     $ -       -     $ 804,948     $ (26,585 )
                                                                 
Total
  $ 6,750,266     $ (186,779 )     46     $ 1,338,826     $ (32,472 )     4     $ 8,089,092     $ (219,251 )
 
Note 4 - Fair Value Measurements

The Company follows GAAP guidance regarding fair value measurements. The valuation technique used to fair value the financial instruments is the market approach which uses prices and other relevant information generated by market transactions involving identical or comparable assets.
 
This guidance establishes a three-level hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. 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). If the inputs used to measure the assets or liabilities fall within different levels of the hierarchy, the classification is based on the lowest level input that is significant to the fair value measurement of the asset or liability. Classification of assets and liabilities within the hierarchy considers the markets in which the assets and liabilities are traded, including during period of market disruption, and the reliability and transparency of the assumptions used to determine fair value. The hierarchy requires the use of observable market data when available. The levels of the hierarchy and those investments included in each are as follows:
 
Level 1—Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities traded in active markets. Included are those investments traded on an active exchange, such as the NASDAQ Global Select Market, U.S. Treasury securities and obligations of U.S. government agencies, together with municipal bonds, corporate debt securities that are generally investment grade.
 
Level 2—Inputs to the valuation methodology include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability and market-corroborated inputs.
 
 
12

 
 
Level 3—Inputs to the valuation methodology are unobservable for the asset or liability and are significant to the fair value measurement. Material assumptions and factors considered in pricing investment securities and other assets may include appraisals, projected cash flows, market clearing activity or liquidity circumstances in the security or similar securities that may have occurred since the prior pricing period. Included in this valuation methodology are the real estate assets owned by the Company that are utilized in its operations.
 
The availability of observable inputs varies and is affected by a wide variety of factors. When the valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires significantly more judgment. The degree of judgment exercised by management in determining fair value is greatest for investments categorized as Level 3. For investments in this category, the Company considers prices and inputs that are current as of the measurement date. In periods of market dislocation, as characterized by current market conditions, the observability of prices and inputs may be reduced for many instruments. This condition could cause a security to be reclassified between levels.
  
The Company’s investments are allocated among pricing input levels at March 31, 2011 and December 31, 2010 as follows:

    March 31, 2011  
 ($ in thousands)
 
Level 1
   
Level 2
   
Level 3
   
Total
 
   
(unaudited)
 
 Fixed-maturity investments available for sale
                       
 U.S. Treasury securities
                       
 and obligations of U.S.
                       
 government corporations
                       
 and agencies
  $ 1,035     $ -     $ -     $ 1,035  
                                 
 Political subdivisions of
                               
 States, Territories and
                               
 Possessions
    5,352       1,908       -       7,260  
                                 
 Corporate and other
                               
 bonds industrial and
                               
 miscellaneous
    9,501       234       -       9,735  
 Total fixed maturities
    15,888       2,142       -       18,030  
 Equity investments
    2,622       -       -       2,622  
 Total investments
  $ 18,510     $ 2,142     $ -     $ 20,652  

 
13

 

    December 31, 2010  
 ($ in thousands)
 
Level 1
   
Level 2
   
Level 3
   
Total
 
                         
 Fixed-maturity investments
                       
 U.S. Treasury securities
                       
 and obligations of U.S.
                       
 government corporations
                       
 and agencies
  $ 1,043     $ -     $ -     $ 1,043  
                                 
 Political subdivisions of
                               
 States, Territories and
                               
 Possessions
    5,351       1,908       -       7,259  
                                 
 Corporate and other
                               
 bonds industrial and
                               
 miscellaneous
    8,037       -       -       8,037  
 Total fixed maturities
    14,431       1,908       -       16,339  
 Equity investments
    2,983       -       -       2,983  
 Total investments
  $ 17,414     $ 1,908     $ -     $ 19,322  
 
Note 5 - Fair Value of Financial Instruments

GAAP requires all entities to disclose the fair value of financial instruments, both assets and liabilities recognized and not recognized in the balance sheet, for which it is practicable to estimate fair value. The Company uses the following methods and assumptions in estimating its fair value disclosures for financial instruments:
 
Equity and fixed income investments:  Fair value disclosures for investments are included in “Note 3 - Investments.”

Cash and cash equivalents: The carrying values of cash and cash equivalents approximate their fair values because of the short maturity of these instruments.

Premiums receivable, reinsurance receivables:  The carrying values reported in the accompanying condensed consolidated balance sheets for these financial instruments approximate their fair values due to the short term nature of the assets.

Notes receivable: The carrying amount of notes receivable related to the sale of businesses approximates fair value because of the recently negotiated interest rates based on term of the loan, risk and guaranty.

Real Estate: The fair value of the land and building included in property and equipment, which is used in the Company’s operations, approximates the carrying value. The fair value was based on an appraisal prepared using the sales comparison approach.

Reinsurance balances payable:  The carrying value reported in the condensed consolidated balance sheets for these financial instruments approximates fair value.

Notes payable (including related parties): The Company estimates that the carrying amount of notes payable approximates fair value because of the recently negotiated interest rates based on term of the loan, risk and guaranty.

 
14

 
The estimated fair values of the Company’s financial instruments are as follows:
 
    March 31, 2011     December 31, 2010  
   
Carrying Value
   
Fair Value
   
Carrying Value
   
Fair Value
 
   
(unaudited)
             
 Fixed-maturity investments held to maturity
  $ 606,222     $ 583,792     $ 605,424     $ 606,398  
 Cash and cash equivalents
    393,968       393,968       326,620       326,620  
 Premiums receivable
    5,764,173       5,764,173       5,001,886       5,001,886  
 Receivables - reinsurance contracts
    1,920,313       1,920,313       1,174,729       1,174,729  
 Reinsurance receivables
    21,847,356       21,847,356       20,720,194       20,720,194  
 Notes receivable-sale of business
    624,581       624,581       705,019       705,019  
 Real estate, net of
                               
 accumulated depreciation
    1,423,302       1,510,000       1,437,787       1,510,000  
 Reinsurance balances payable
    2,424,691       2,424,691       1,106,897       1,106,897  
 Notes payable (including related parties)
    1,454,479       1,454,479       1,460,997       1,460,997  
 
Note 6 - Notes Receivable-Sale of Businesses
 
Retail Business
 
New York Stores: On April 17, 2009, the Company’s wholly-owned subsidiaries that owned and operated 16 Retail Business locations in New York State sold substantially all of their assets, including their book of business (the “New York Assets”). The purchase price for the New York Assets was approximately $2,337,000, of which approximately $1,786,000 was paid at closing.  Promissory notes in the aggregate approximate original principal amount of $551,000 (the “New York Notes”) were also delivered at the closing.  As of March 31, 2011, the New York Notes were payable in monthly installments of varying payments that average approximately $28,000 each between April 30, 2011 and July 31, 2011, and provided for interest at the rate of 12.625% per annum. On April 1, 2011 the purchaser of the New York Assets paid in advance the balance of the New York Notes in the amount of $138,762.
 
Pennsylvania Stores:  Effective June 30, 2009, the Company sold all of the outstanding stock of the subsidiary that operated the three remaining Pennsylvania stores (the “Pennsylvania Stock”).  The purchase price for the Pennsylvania Stock was approximately $397,000 which was paid by delivery of two promissory notes, one in the approximate principal amount of $238,000 and payable with interest at the rate of 9.375% per annum in 120 equal monthly installments, and the other in the approximate principal amount of $159,000 and payable with interest at the rate of 6% per annum in 60 monthly installments commencing August 10, 2011 (with interest only being payable prior to such date).
 
Franchise Business
 
Effective May 1, 2009, the Company sold all of the outstanding stock of the subsidiaries that operated the DCAP franchise business (collectively, the “Franchise Stock”).  The purchase price for the Franchise Stock was $200,000 which was paid by delivery of a promissory note in such principal amount (the “Franchise Note”).  As of March 31, 2011, the terms of the Franchise Note called for installments of $50,000 on May 15, 2009, $50,000 on May 1, 2010 and $100,000 plus accrued interest on May 1, 2011 and provides for interest at the rate of 5.25% per annum. On May 1, 2011, the Franchise Note was amended. Under the amended Franchise Note, the payment due on May 1, 2011 was reduced to a principal payment only of $75,000. The remaining balance of $25,000 plus accrued interest is due on May 1, 2012.  A principal of the buyer is the son-in-law of Morton L. Certilman, one of the Company’s principal shareholders at the time.
 
 
15

 
Notes receivable arising from the sale of businesses as of March 31, 2011 and December 31, 2010 consists of:
 
    March 31, 2011     December 31, 2010  
   
Total
   
Current
         
Total
   
Current
       
   
Note
   
Maturities
   
Long-Term
   
Note
   
Maturities
   
Long-Term
 
   
(unaudited)
                   
Sale of NY stores
  $ 129,036     $ 129,036     $ -     $ 211,536     $ 211,536     $ -  
Sale of Pennsylvania stores
    371,052       36,172       334,880       375,211       28,730       346,481  
Sale of Franchise business
    100,000       75,000       25,000       100,000       100,000       -  
      600,088       240,208       359,880       686,747       340,266       346,481  
Accrued interest
    24,493       24,493       -       18,272       18,272       -  
Total
  $ 624,581     $ 264,701     $ 359,880     $ 705,019     $ 358,538     $ 346,481  
 
Note 7 – Property and Casualty Activity
 
Earned Premiums

Premiums written, ceded and earned are as follows:
 
   
Direct
   
Assumed
   
Ceded
   
Net
 
                         
Three months ended March 31, 2011 (unaudited)
                   
 Premiums written
  $ 9,533,146     $ 234     $ (5,496,365 )   $ 4,037,015  
 Change in unearned premiums
    (1,236,876 )     2,138       565,422       (669,316 )
 Premiums earned
  $ 8,296,270     $ 2,372     $ (4,930,943 )   $ 3,367,699  
                                 
Three months ended March 31, 2010 (unaudited)
                         
 Premiums written
  $ 7,660,983     $ 1,361     $ (4,283,853 )   $ 3,378,491  
 Change in unearned premiums
    (889,358 )     1,409       (272,595 )     (1,160,544 )
 Premiums earned
  $ 6,771,625     $ 2,770     $ (4,556,448 )   $ 2,217,947  

Premium receipts in advance of the policy effective date are recorded as advance premiums. The balance of advance premiums was approximately $610,000 and $411,000 as of March 31, 2011 (unaudited) and December 31, 2010, respectively.

Loss and Loss Adjustment Expenses

The following table provides a reconciliation of the beginning and ending balances for unpaid losses and loss adjustment expenses (“LAE”):
 
 
 
16

 
 
    Three months ended  
   
March 31,
 
   
2011
   
2010
 
   
(unaudited)
 
 Balance at beginning of period
  $ 17,711,907     $ 16,513,318  
 Less reinsurance recoverables
    (10,431,415 )     (10,512,203 )
 Net balance, beginning of period
    7,280,492       6,001,115  
                 
 Incurred related to:
               
 Current year
    2,617,490       1,133,892  
 Prior years
    (66,726 )     300,726  
 Total incurred
    2,550,764       1,434,618  
                 
 Paid related to:
               
 Current year
    502,497       407,338  
 Prior years
    936,756       848,472  
 Total paid
    1,439,253       1,255,810  
  
               
 Net balance at end of period
    8,392,003       6,179,923  
 Add reinsurance recoverables
    10,821,614       10,356,897  
 Balance at end of period
  $ 19,213,617     $ 16,536,820  

Incurred losses and LAE are net of reinsurance recoveries under reinsurance contracts of $1,688,251 and $2,640,562 for the three months ended March 31, 2011 and 2010.

Prior year incurred loss and LAE development is based upon numerous estimates by line of business and accident year. The Company’s management continually monitors claims activity to assess the appropriateness of carried case and IBNR reserves, giving consideration to Company and industry trends.

Loss and loss adjustment expense reserves

The reserving process for loss adjustment expense reserves provides for the Company’s best estimate at a particular point in time of the ultimate unpaid cost of all losses and loss adjustment expenses incurred, including settlement and administration of losses, and is based on facts and circumstances then known and including losses that have been incurred but not yet been reported. The process includes using actuarial methodologies to assist in establishing these estimates, judgments relative to estimates of future claims severity and frequency, the length of time before losses will develop to their ultimate level and the possible changes in the law and other external factors that are often beyond the Company’s control. The loss ratio projection method is used to estimate loss reserves. The process produces carried reserves set by management based upon the actuaries’ best estimate and is the result of numerous best estimates made by line of business, accident year, and loss and loss adjustment expense. The amount of loss and loss adjustment expense reserves for reported claims is based primarily upon a case-by-case evaluation of coverage, liability, injury severity, and any other information considered pertinent to estimating the exposure presented by the claim. The amounts of loss and loss adjustment expense reserves for unreported claims are determined using historical information by line of insurance as adjusted to current conditions. Since this process produces loss reserves set by management based upon the actuaries’ best estimate, there is no explicit or implicit provision for uncertainty in the carried loss reserves.
 
Due to the inherent uncertainty associated with the reserving process, the ultimate liability may differ, perhaps substantially, from the original estimate. Such estimates are regularly reviewed and updated and any resulting adjustments are included in the current year’s results. Reserves are closely monitored and are recomputed periodically using the most recent information on reported claims and a variety of statistical techniques. Specifically, on at least a quarterly basis, the Company reviews, by line of business, existing reserves, new claims, changes to existing case reserves and paid losses with respect to the current and prior years.

 
 
17

 
Reinsurance
 
The Company’s reinsurance treaties for both its Personal Lines business, which primarily consists of homeowners’ policies, and Commercial Lines business, other than commercial auto were renewed as of July 1, 2010.
 
The Company’s reinsurance program is structured to enable it to reflect significant reductions in premiums written and earned and also provides income as a result of ceding commissions earned pursuant to the quota share reinsurance contracts. This structure has enabled the Company to significantly grow its premium volume while maintaining regulatory capital and other financial ratios generally within or below the expected ranges used for regulatory oversight purposes. The Company’s participation in reinsurance arrangements does not relieve the Company from its obligations to policyholders.

Ceding Commission Revenue
 
The Company earns ceding commissions under its quota share reinsurance agreements based on a sliding scale of commission rates and ultimate treaty year loss ratios on the policies reinsured under each of these agreements. The sliding scale includes minimum and maximum commission rates in relation to specified ultimate loss ratios.  The commission rate and ceding commissions earned increase when the estimated ultimate loss ratio decreases and, conversely, the commission rate and ceding commissions earned decrease when the estimated ultimate loss ratio increases.
 
As of March 31, 2011 and 2010 the Company’s estimated ultimate loss ratios attributable to these contracts are lower than the contractual ultimate loss ratios at which the minimum amount of ceding commissions can be earned. Accordingly, the Company has recorded ceding commissions earned that are greater than the minimum commissions.

Ceding commission revenue consists of the following:
 
    Three months ended  
   
March 31,
 
   
2011
   
2010
 
   
(unaudited)
 
 Ceded commission on reinsurance treaties
  $ 1,588,306     $ 1,809,593  
 Contingent commission ceded
    724,269       401,544  
    $ 2,312,575     $ 2,211,137  
 
Note 8 – Notes Payable and Capital Lease Obligations
 
Notes payable and capital lease obligations consist of:
 
 
 
18

 
 
    March 31, 2011     December 31, 2010  
         
Less
               
Less
       
   
Total
   
Current
   
Long-Term
   
Total
   
Current
   
Long-Term
 
   
Debt
   
Maturities
   
Debt
   
Debt
   
Maturities
   
Debt
 
      (unaudited)                    
Capital lease obligation
  $ 4,479     $ 4,479     $ -     $ 10,997     $ 10,997     $ -  
Notes payable
    1,450,000       1,450,000       -       1,450,000       1,450,000       -  
    $ 1,454,479     $ 1,454,479     $ -     $ 1,460,997     $ 1,460,997     $ -  
 
Notes Payable
 
From June 2009 through January 2010, the Company borrowed $1,450,000 (including $785,000 from related parties as discussed below) and issued promissory notes in such aggregate principal amount (the “2009 Notes”).  The 2009 Notes provide for interest at the rate of 12.625% per annum through July 10, 2011, at which time the entire principal balance is due. The 2009 Notes are prepayable without premium or penalty; provided, however, that, under any circumstances, the holders of the 2009 Notes are entitled to receive an aggregate of six months interest from the issue date of the 2009 Notes with respect to the amount prepaid.
 
Interest expense on the 2009 Notes for the three months ended March 31, 2011 and 2010 was approximately $46,000 and $42,000, respectively.
 
Aggregate related party borrowings of $785,000 at March 31, 2011 and December 31, 2010 are as follows:

The IRA of Barry Goldstein purchased a 2009 Note in the principal amount of $150,000. A limited liability company owned by Mr. Goldstein, along with Sam Yedid and Steven Shapiro (who are both directors of KICO), purchased a 2009 Note in the principal amount of $120,000. Jay Haft, a director of the Company, purchased a 2009 Note in the principal amount of $50,000. A member of the family of Michael Feinsod, a director of the Company, purchased a 2009 Note in the principal amount of $100,000. Mr. Yedid and members of his family purchased 2009 Notes in the aggregate principal amount of $295,000. A member of the family of Floyd Tupper, a director of KICO, purchased a 2009 Note in the principal amount of $70,000. Interest expense on related party borrowings for the three months ended March 31, 2011 and 2010 was approximately $25,000 and $23,000, respectively.
 
Note 9 – Preferred Stock
 
Upon issuance, the Company’s Preferred Stock, which was exchanged for common stock effective June 30, 2010, was reported as a liability, in accordance with GAAP guidance for accounting for certain financial instruments with characteristics of both liabilities and equity.  For the three months ended March 31, 2011 and 2010, the preferred dividends have been classified as interest expense of $-0- and $37,353 (including $32,637 to related parties), respectively.

Note 10 – Equity Stock Compensation
 
Other Equity Compensation

The results of operations for the three months ended March 31, 2011 and 2010 include other share-based stock compensation expense totaling approximately $-0- and $112,000, respectively. For the three months ended March 31, 2010, other equity compensation consists of 50,000 shares granted to the Company’s chief executive officer pursuant to an amended employment agreement dated March 24, 2010. The fair value of the stock grant is $112,000. Such amount has been included in the Condensed Consolidated Statement of Operations and Comprehensive Income within other operating expenses.

 
19

 
Stock Options

In December 2005, the Company’s shareholders ratified the adoption of the 2005 Equity Participation Plan (the “2005 Plan”), which provides for the issuance of incentive stock options, non-statutory stock options and restricted stock. Under the 2005 Plan, a maximum of 300,000 shares of Common Stock were permitted to be issued pursuant to options granted and restricted stock issued. In March 2010, the Board of Directors of the Company increased the number of shares of Common Stock authorized to be issued pursuant to the 2005 Plan to 550,000, subject to stockholder approval.  In June 2010, the stockholders approved the increase to 550,000 shares.  Incentive stock options granted under the 2005 Plan expire no later than ten years from date of grant (except no later than five years for a grant to a 10% stockholder). The Board of Directors or the Stock Option Committee will determine the expiration date with respect to non-statutory options, and the vesting provisions for restricted stock, granted under the 2005 Plan.

The results of operations for the three months ended March 31, 2011 and 2010 include share-based stock option compensation expense totaling approximately $40,000 and $89,000, respectively. Share-based compensation expense related to stock options is net of estimated forfeitures of 21% and 23% for the three months ended March 31, 2011 and 2010, respectively.  Such amounts have been included in the Condensed Consolidated Statement of Operations and Comprehensive Income within other operating expenses.

Stock option compensation expense in 2011 and 2010 is the estimated fair value of options granted amortized on a straight-line basis over the requisite service period for the entire portion of the award.  The weighted average estimated fair value of stock options granted during the three months ended March 31, 2010 was $2.04.  The fair value of options at the grant date was estimated using the Black-Scholes option-pricing method.  No stock options were granted during the three months ended March 31, 2011. The follo