Heritage Insurance 10Q 2021 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON D.C. 20549

Form 10-Q

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

For the quarterly period ended September 30, 2021

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

Commission File Number

001-36462

Heritage Insurance Holdings, Inc.

(Exact name of Registrant as specified in its charter)

Delaware

45-5338504

(State of Incorporation)

(IRS Employer

Identification No.)

2600 McCormick Drive, Suite 300

Clearwater, Florida 33759

(Address, including zip code, of principal executive offices)

(727) 362-7200

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:


Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, par value $0.0001 per share	HRTG	New York Stock Exchange

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 ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.


Large accelerated filer	☐	Accelerated filer	☒	Emerging growth company	☐
Non-accelerated filer	☐	Smaller reporting company	☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

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

The aggregate number of shares of the Registrant’s Common Stock outstanding on November 2, 2021 was 27,880,203

HERITAGE INSURANCE HOLDINGS, INC.

Table of Contents


		Page
PART I – FINANCIAL INFORMATION
Item 1 Unaudited Financial Statements
Condensed Consolidated Balance Sheets: September 30, 2021 (unaudited) and December 31, 2020		2
Condensed Consolidated Statements of Operations and Other Comprehensive Income: Three and Nine Months ended September 30, 2021 and 2020 (unaudited)		3
Condensed Consolidated Statements of Stockholders’ Equity: Three and Nine Months ended September 30, 2021 and 2020 (unaudited)		4
Condensed Consolidated Statements of Cash Flows: Nine Months ended September 30, 2021 and 2020 (unaudited)		7
Notes to Unaudited Condensed Consolidated Financial Statements		9
Item 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations		27
Item 3 Quantitative and Qualitative Disclosures about Market Risk		36
Item 4 Controls and Procedures		37
PART II – OTHER INFORMATION
Item 1 Legal Proceedings		38
Item 1A Risk Factors		38
Item 2 Unregistered Sales of Equity Securities and Use of Proceeds		38
Item 6 Exhibits		38
Signatures		40

FORWARD-LOOKING STATEMENTS

Statements in this Quarterly Report on Form 10-Q (“Form 10-Q”) or in documents incorporated by reference that are not historical facts are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include statements about (i) our ability to meet our investment objectives and to manage and mitigate market risk with respect to our investments; (ii) the adequacy of our reinsurance program and our ability to diversify risk and safeguard our financial position; (iii) our estimates with respect to tax and accounting matters including the impact on our financial statements; (iv) future dividends, if any; (v) our expectations related to our financing activities; (vi) the sufficiency of our liquidity to pay our insurance company affiliates’ claims and expenses, as well as to satisfy commitments in the event of unforeseen events; (vii) the sufficiency of our capital resources, together with cash provided from our operations, to meet currently anticipated working capital requirements; (viii) the potential effects of the seasonality of our business, including effects on our reinsurance business and financial results; (ix) our intentions with respect to our credit risk investments; and (x) the potential effects of our current legal proceedings.

These statements are based on current expectations, estimates and projections about the industry and market in which we operate, and management’s beliefs and assumptions. Without limiting the generality of the foregoing, words such as “may,” “will,” “expect,” “believe,” “anticipate,” “intend,” “could,” “would,” “estimate,” or “continue” or the negative variations thereof or comparable terminology are intended to identify forward-looking statements. Forward-looking statements are not guarantees of future performance and involve certain known and unknown risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such statements. The risks and uncertainties include, without limitation:



the possibility that actual losses may exceed reserves;



the concentration of our business in coastal states, which could be impacted by hurricane losses or other significant weather-related events such as northeastern winter storms;



our exposure to catastrophic weather events;



inherent uncertainty of our models and our reliance on such models as a tool to evaluate risk;



the fluctuation in our results of operations;



increased costs of reinsurance, non-availability of reinsurance, non-collectability of reinsurance and our ability to obtain reinsurance on terms and at a cost acceptable to us;



increased competition, competitive pressures, and market conditions;



our failure to accurately assess and price the risks we underwrite;



our failure to identify suitable business acquisitions, effectively manage our growth and integrate acquired companies;



our failure to execute our diversification strategy;



our reliance on independent agents to write insurance policies for us on a voluntary basis and our ability to attract and retain agents;



the failure of our claims department to effectively manage or remediate claims;



low renewal rates and failure of such renewals to meet our expectations;



our inability to maintain our financial stability rating;



our ability to access sufficient liquidity or obtain additional financing to fund our operations and expand our business;



our inability to generate investment income;



effects of emerging claim and coverage issues relating to legal, judicial, environmental and social conditions;



the failure of our risk mitigation strategies or loss limitation methods;



lack of effectiveness of exclusions and loss limitation methods in the insurance policies we assume or write;



the regulation of our insurance operations;



changes in regulations and our failure to meet increased regulatory requirements, including minimum capital and surplus requirements;



climate change, health crisis, severe weather conditions and other catastrophe events;



litigation or regulatory actions;



regulation limiting rate increases or that require us to participate in loss sharing or assessments;



the terms of our indebtedness;



our ability to maintain effective internal controls over financial reporting;



certain characteristics of our common stock;



the continued and potentially prolonged impact of COVID-19 on the economy, demand for our products and our operations, including measures taken by the governmental authorities to address COVID-19, which may precipitate or exacerbate other risks and/or uncertainties;



failure of our information technology systems or those of our key service providers and unsuccessful development and implementation of new technologies;



a lack of redundancy in our operations; and



our failure to attract and retain qualified employees and independent agents or our loss of key personnel.

Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition or operating results.

These forward-looking statements are subject to numerous risks, uncertainties and assumptions about us described in our filings with the Securities and Exchange Commission (the “SEC”). The forward-looking statements we make in our Form 10-Q are valid only as of the date of our Form 10-Q and may not occur in light of the risks, uncertainties and assumptions that we describe from time to time in our filings with the SEC. A detailed discussion of these and other risks and uncertainties that could cause actual results and events to differ materially from our forward-looking statements is included in the section entitled “Risk Factors” in Part I, Item 1A in our Annual Report on Form 10-K for the year ended December 31, 2020. Except as required by applicable law, we undertake no obligation and disclaim any obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

PART I – FINANCIAL INFORMATION

Item 1 – Financial Statements

HERITAGE INSURANCE HOLDINGS, INC.

Condensed Consolidated Balance Sheets

(Amounts in thousands, except per share and share amounts)


	September 30, 2021			December 31, 2020
ASSETS	(unaudited)
Fixed maturities, available-for-sale, at fair value (amortized cost of $661,396 and $553,172)	$	660,819		$	561,011
Equity securities, at cost		1,415			1,599
Other investments		23,887			26,409
Total investments		686,121			589,019
Cash and cash equivalents		393,411			440,956
Restricted cash		5,415			5,427
Accrued investment income		3,042			2,737
Premiums receivable, net		74,877			77,471
Reinsurance recoverable on paid and unpaid claims, net of allowance for estimated uncollectible reinsurance of $45		346,374			355,037
Prepaid reinsurance premiums		338,172			245,818
Income taxes receivable		35,490			32,224
Deferred policy acquisition costs, net		95,425			89,265
Property and equipment, net		17,950			18,685
Right-of-use lease asset, net		28,652			6,461
Intangibles, net		57,514			62,277
Goodwill		152,459			152,459
Other assets		13,220			11,544
Total Assets	$	2,248,122		$	2,089,379
LIABILITIES AND STOCKHOLDERS' EQUITY
Unpaid losses and loss adjustment expenses	$	636,146		$	659,341
Unearned premiums		605,304			569,618
Reinsurance payable		324,730			161,918
Long-term debt, net		121,481			120,998
Deferred income tax liability, net		13,665			18,477
Advance premiums		33,341			18,268
Accrued compensation		9,430			9,325
Lease liability		31,964			8,155
Accounts payable and other liabilities		67,036			80,935
Total Liabilities	$	1,843,097		$	1,647,035

Commitments and contingencies (Note 17)
Stockholders’ Equity:
Common stock, $0.0001 par value, 50,000,000 shares authorized, 27,852,626 shares issued and 27,802,626 shares outstanding at September 30, 2021; 27,833,873 shares issued and 27,748,606 shares outstanding at December 31, 2020		3			3
Additional paid-in capital		332,562			331,867
Accumulated other comprehensive income		(405	)		6,057
Treasury stock, at cost, 9,427,948 and 9,279,839 shares at September 30, 2021 and December 31, 2020		(116,370	)		(115,365	)
Retained earnings		189,235			219,782
Total Stockholders' Equity		405,025			442,344
Total Liabilities and Stockholders' Equity	$	2,248,122		$	2,089,379

See accompanying notes to unaudited condensed consolidated financial statements.

HERITAGE INSURANCE HOLDINGS, INC.

Condensed Consolidated Statements of Operations and Other Comprehensive Income

(Unaudited)

(Amounts in thousands, except per share and share amounts)


	For the Three Months Ended September 30,						For the Nine Months Ended September 30,
	2021			2020			2021			2020
REVENUES:
Gross premiums written	$	274,178		$	278,242		$	886,059		$	797,776
Change in gross unearned premiums		20,231			(23,260	)		(35,593	)		(66,287	)
Gross premiums earned		294,409			254,982			850,466			731,489
Ceded premiums		(131,964	)		(116,752	)		(399,323	)		(338,197	)
Net premiums earned		162,445			138,230			451,143			393,292
Net investment income		1,548			2,817			3,797			9,783
Net realized and unrealized (losses) gains		(6	)		20,355			(926	)		20,377
Other revenue		3,421			3,717			10,835			10,385
Total revenues		167,408			165,119			464,849			433,837
EXPENSES:
Losses and loss adjustment expenses		129,632			119,718			328,376			266,769
Policy acquisition costs, net of ceding commission income (1)		35,984			31,960			109,183			92,243
General and administrative expenses, net of ceding commission income (2)		17,169			17,923			52,490			59,583
Total expenses		182,785			169,601			490,049			418,595
Operating (loss) income		(15,377	)		(4,482	)		(25,200	)		15,242
Interest expense, net		2,150			2,251			5,953			5,939
(Loss) income before income taxes		(17,527	)		(6,733	)		(31,153	)		9,303
(Benefit) provision for income taxes		(1,117	)		(1,500	)		(5,644	)		2,784
Net (loss) income	$	(16,410	)	$	(5,233	)	$	(25,509	)	$	6,519
OTHER COMPREHENSIVE (LOSS) INCOME
Change in net unrealized (losses) gains on investments		(1,344	)		2,480			(8,316	)		19,330
Reclassification adjustment for net realized investment losses (gains)		6			(20,355	)		(96	)		(20,377	)
Income tax benefit related to items of other comprehensive income		310			4,137			1,950			242
Total comprehensive (loss) income	$	(17,438	)	$	(18,971	)	$	(31,971	)	$	5,714
Weighted average shares outstanding
Basic		27,938,028			27,739,839			27,902,814			28,053,959
Diluted		27,938,028			27,739,839			27,902,814			28,073,570
(Loss) earnings per share
Basic	$	(0.59	)	$	(0.19	)	$	(0.91	)	$	0.23
Diluted	$	(0.59	)	$	(0.19	)	$	(0.91	)	$	0.23

(1)

Policy acquisition costs includes $12.0 million and $35.2 million of ceding commission income for the three and nine months ended September 30, 2021 and $10.6 million and $32.3 million for the three months and nine months ended September 30, 2020, respectively.

(2)

General and administration includes $4.0 million and $11.6 million of ceding commission income for the three and nine months ended September 30, 2021 and $3.5 million and $10.6 million for the three months and nine months ended September 30, 2020, respectively.

See accompanying notes to unaudited condensed consolidated financial statements.

HERITAGE INSURANCE HOLDINGS, INC.

Condensed Consolidated Statements of Stockholders’ Equity

(Unaudited)

(Amounts in thousands, except share amounts)


	Common Shares			Par Value		Additional Paid-In Capital			Retained Earnings			Treasury Shares			Accumulated Other Comprehensive (Loss) Income			Total Stockholders' Equity
Balance at December 31, 2020		27,748,606		$	3	$	331,867		$	219,782		$	(115,365	)	$	6,057		$	442,344
Net unrealized change in investments, net of tax		—			—		—			—			—			(8,202	)		(8,202	)
Shares tendered for income taxes withholding		(12,500	)		—		(127	)		—			—			—			(127	)
Restricted stock vested		25,000			—		—			—			—			—			—
Issued restricted stock		143,817			—		—			—			—			—			—
Stock-based compensation on restricted stock		—			—		260			—			—			—			260
Cash dividends declared ($0.06 per common stock)		—			—		—			(1,679	)		—			—			(1,679	)
Net loss		—			—		—			(5,148	)		—			—			(5,148	)
Balance at March 31, 2021		27,904,923		$	3	$	332,000		$	212,955		$	(115,365	)	$	(2,145	)	$	427,448
Net unrealized change in investments, net of tax		—			—		—			—			—			2,768			2,768
Restricted stock vested		—			—		—			—			—			—			—
Stock-based compensation on restricted stock		—			—		287			—			—			—			287
Issued restricted stock		42,018			—		—			—			—			—			—
Cash dividends declared ($0.06 per common stock)		—			—		—			(1,680	)		—			—			(1,680	)
Net loss		—			—		—			(3,950	)		—			—			(3,950	)
Balance at June 30, 2021		27,946,941		$	3	$	332,287		$	207,325		$	(115,365	)	$	623		$	424,873
Net unrealized change in investments, net of tax		—			—		—			—			—			(1,028	)		(1,028	)
Shares tendered for income taxes withholding		(6,473	)		—		(45	)		—			—			—			(45	)
Restricted stock vested		10,267			—		—			—			—			—			—
Stock-based compensation on restricted stock		—			—		320			—			—			—			320
Stock buy-back		(148,109	)		—		—			—			(1,005	)		—			(1,005	)
Cash dividends declared ($0.06 per common stock)		—			—		—			(1,680	)		—			—			(1,680	)
Net loss		—			—		—			(16,410	)		—			—			(16,410	)
Balance at September 30, 2021		27,802,626		$	3	$	332,562		$	189,235		$	(116,370	)	$	(405	)	$	405,025


	Common Shares			Par Value		Additional Paid-In Capital			Retained Earnings			Treasury Shares			Accumulated Other Comprehensive Income			Total Stockholders' Equity
Balance at January 1, 2020		28,650,918		$	3	$	329,568		$	217,266		$	(105,368	)	$	7,330		$	448,799
Cumulative effect of adoption accounting guidance for expected credit losses, net of tax at January 1, 2020		—			—		—			(34	)		—			—			(34	)
Balance at January 1, 2020 (as adjusted for change in accounting principle)		28,650,918			3		329,568			217,232			(105,368	)		7,330			448,765
Net unrealized change in investments, net of tax		—			—		—			—			—			1,512			1,512
Shares tendered for income taxes withholding		(17,500	)		—		(233	)		—			—			—			(233	)
Restricted stock vested		25,000			—		—			—			—			—			—
Stock-based compensation on restricted stock		—			—		1,345			—			—			—			1,345
Stock buy-back		(766,900	)		—		—			—			(7,986	)		—			(7,986	)
Cash dividends declared ($0.06 per common stock)		—			—		—			(1,726	)		—			—			(1,726	)
Net income		—			—		—			7,620			—			—			7,620
Balance at March 31, 2020		27,891,518		$	3	$	330,680		$	223,126		$	(113,354	)	$	8,842		$	449,297
Net unrealized change in investments, net of tax		—			—		—			—			—			11,421			11,421
Deferred tax adjustment for credit expected losses		—			—		—			(4	)		—			—			(4	)
Restricted stock vested		10,000			—		—			—			—			—			—
Stock-based compensation on restricted stock		—			—		1,357			—			—			—			1,357
Stock buy-back		(163,456	)		—		—			—			(2,011	)		—			(2,011	)
Cash dividends declared ($0.06 per common stock)		—			—		—			(1,693	)		—			—			(1,693	)
Net income		—			—		—			4,132			—			—			4,132
Balance at June 30, 2020		27,738,062		$	3	$	332,037		$	225,561		$	(115,365	)	$	20,263		$	462,499
Net unrealized change in investments, net of tax		—			—		—			—			—			(13,738	)		(13,738	)
Shares tendered for income taxes withholding		(4,723	)		—		(64	)		—			—			—			(64	)
Restricted stock vested		10,267			—		—			—			—			—			—
Issued restricted stock		5,000			—		—			—			—			—			—
Stock-based compensation on restricted stock		—			—		1,359			—			—			—			1,359
Cash dividends declared ($0.06 per common stock)		—			—		—			(1,683	)		—			—			(1,683	)
Net income		—			—		—			(5,233	)		—			—			(5,233	)
Balance at September 30, 2020		27,748,606		$	3	$	333,332		$	218,645		$	(115,365	)	$	6,525		$	443,140

See accompanying notes to unaudited condensed consolidated financial statements.

HERITAGE INSURANCE HOLDINGS, INC.

Condensed Consolidated Statements of Cash Flows

(Unaudited)

(Amounts in thousands)


	For the Nine Months Ended September 30,
	2021			2020
OPERATING ACTIVITIES
Net (loss) income	$	(25,509	)	$	6,519
Adjustments to reconcile net (loss) income to net cash provided by (used in) operating activities:
Stock-based compensation		866			4,061
Bond amortization and accretion		3,018			4,247
Operating lease asset amortization		0			71
Amortization of original issuance discount on debt		1,454			1,056
Depreciation and amortization		6,345			6,078
Allowance for bad debt		106			0
Net loss from sale of asset		0			155
Net realized gains		(96	)		(20,377	)
Net change for unrealized losses in other investments		1,022			0
Deferred income taxes		(2,862	)		67
Changes in operating assets and liabilities:
Accrued investment income		(305	)		1,740
Premiums receivable		2,488			(6,353	)
Prepaid reinsurance premiums		(92,354	)		(83,895	)
Reinsurance recoverable on paid and unpaid claims		8,663			4,703
Income taxes receivable		(3,266	)		(13,079	)
Deferred policy acquisition costs, net		(6,160	)		(8,929	)
Right-of-use leased asset, net		(22,192	)		761
Other assets		(1,676	)		451
Unpaid losses and loss adjustment expenses		(23,195	)		49,464
Unearned premiums		35,686			66,407
Reinsurance payable		162,812			84,506
Accrued interest		(15	)		787
Accrued compensation		105			6,270
Advance premiums		15,073			15,114
Operating lease liabilities		23,809			—
Other liabilities		(13,667	)		(1,263	)
Net cash provided by operating activities		70,150			118,561
INVESTING ACTIVITIES
Fixed maturity securities sales, maturities and paydowns		147,406			411,004
Fixed maturity securities purchases		(258,548	)		(254,145	)
Equity securities redemption		184			25
Paydowns on other investments		1,500			0
Limited partnership interest purchases		0			(20,400	)
Equity securities purchases		0			(6	)
Proceeds from sale of assets		45			792
Cost of property and equipment acquired		(892	)		(628	)
Net cash (used in) provided by investing activities		(110,305	)		136,642
FINANCING ACTIVITIES
Principal payments on term loan facility		(3,750	)		(7,500	)
Proceeds from term loan facility		2,781			0
Mortgage loan payments		(228	)		(215	)
Purchase of treasury stock		(1,005	)		(9,997	)
Tax withholdings on share-based compensation awards		(171	)		(297	)
Dividends paid		(5,029	)		(5,169	)
Net cash used in financing activities		(7,402	)		(23,178	)
(Decrease) increase in cash, cash equivalents, and restricted cash		(47,557	)		232,025
Cash, cash equivalents and restricted cash, beginning of period		446,383			283,008
Cash, cash equivalents and restricted cash, end of period	$	398,826		$	515,033
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Income taxes paid	$	489		$	16,252
Interest paid	$	4,214		$	4,794

Reconciliation of cash, cash equivalents, and restricted cash to condensed consolidated balance sheets.



	September 30, 2021		December 31, 2020
	(In thousands)
Cash and cash equivalents	$	393,411	$	440,956
Restricted cash		5,415		5,427
Total	$	398,826	$	446,383

Restricted cash primarily represents funds held to meet regulatory requirements in certain states in which the Company operates.

See accompanying notes to unaudited condensed consolidated financial statements.

HERITAGE INSURANCE HOLDINGS, INC.

Notes to Unaudited Condensed Consolidated Financial Statements

NOTE 1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The condensed consolidated financial statements include the accounts of Heritage Insurance Holdings, Inc. (together with its subsidiaries, the “Company”). These statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Certain financial information that is normally included in annual consolidated financial statements prepared in accordance with GAAP, but that is not required for interim reporting purposes, has been omitted. In the opinion of the Company’s management, all material intercompany transactions and balances have been eliminated and all adjustments consisting of normal recurring accruals which are necessary for a fair statement of the financial condition and results of operations for the interim periods have been reflected. The accompanying interim condensed consolidated financial statements and related footnotes should be read in conjunction with the Company’s audited consolidated financial statements and related footnotes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020 (the “2020 Form 10-K”).

Significant accounting policies

The accounting policies of the Company are set forth in Note 1 to condensed consolidated financial statements contained in the Company’s 2020 Form 10-K.

Reclassification

Certain prior year amounts reported on the condensed consolidated balance sheet have been reclassified to conform to the current year presentation.

Accounting Pronouncements not yet adopted

The Company has documented the summary of its significant accounting policies in its Notes to the Audited Consolidated Financial Statements annual report on Form 10-K for the year ended December 31, 2020, filed on March 9, 2021. There have been no material changes to the Company’s accounting policies since the filing of that report.

No other new accounting pronouncements issued but not yet effective have had, or are expected to have, a material impact on the Company’s results of operations or financial position.

NOTE 2. INVESTMENTS

Securities Available-for-Sale

The amortized cost, gross unrealized gains and losses, and fair value of the Company’s debt securities available-for-sale are as follows for the periods:


September 30, 2021	Cost or Adjusted / Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Debt Securities Available-for-sale	(In thousands)
U.S. government and agency securities (1)	$	43,734	$	284	$	9	$	44,009
States, municipalities and political subdivisions		106,019		359		657		105,721
Special revenue		311,752		1,624		1,881		311,495
Hybrid securities		99		1		—		100
Industrial and miscellaneous		199,792		1,244		1,542		199,494
Total	$	661,396	$	3,512	$	4,089	$	660,819

(1)

Includes securities at September 30, 2021 with a carrying amount of $22.7 million that were pledged as collateral for the advance agreement entered into with a financial institution in 2018. The Company is permitted to withdraw or exchange any portion of the pledged collateral over the minimum requirement at any time.


December 31, 2020		Cost or Adjusted / Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Debt Securities Available-for-sale	(In thousands)
U.S. government and agency securities (1)		$	29,985	$	609	$	1	$	30,593
States, municipalities and political subdivisions			84,597		1,077		4		85,670
Special revenue			271,194		3,154		27		274,321
Hybrid securities			100		—		—		100
Industrial and miscellaneous			167,296		3,070		39		170,327
Total		$	553,172	$	7,910	$	71	$	561,011

(1)

Includes securities at December 31, 2020 with a carrying amount of $21.6 million that were pledged as collateral for the advance agreement entered into with a financial institution in 2018. The Company is permitted to withdraw or exchange any portion of the pledged collateral over the minimum requirement at any time.

The following table presents net realized (losses) gains on the Company’s debt securities available-for-sale for the three and nine months ended September 30, 2021 and 2020, respectively:


	2021					2020
Three Months Ended September 30,	Gains (Losses)			Fair Value at Sale		Gains (Losses)		Fair Value at Sale
	(In thousands)
Debt Securities Available-for-Sale
Total realized gains	$	2		$	3,470	$	20,355	$	290,643
Total realized losses		(8	)		226		—		—
Net realized (losses) gains	$	(6	)	$	3,696	$	20,355	$	290,643


	2021					2020
Nine Months Ended September 30,	Gains (Losses)			Fair Value at Sale		Gains (Losses)			Fair Value at Sale
	(In thousands)
Debt Securities Available-for-Sale
Total realized gains	$	106		$	24,265	$	20,492		$	305,791
Total realized losses		(10	)		1,043		(115	)		2,716
Net realized gains	$	96		$	25,308	$	20,377		$	308,507

The table below summarizes the Company’s debt securities at September 30, 2021 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 those obligations.


	At September 30, 2021
	Cost or Amortized Cost		Percent of Total			Fair Value		Percent of Total
Maturity dates:	(In thousands)					(In thousands)
Due in one year or less	$	44,447		7	%	$	44,628		7	%
Due after one year through five years		253,398		38	%		254,377		38	%
Due after five years through ten years		220,450		33	%		218,373		33	%
Due after ten years		143,101		22	%		143,441		22	%
Total	$	661,396		100	%	$	660,819		100	%

The following table summarizes the Company’s net investment income by major investment category for the three and nine months ended September 30, 2021 and 2020, respectively:


	Three Months Ended September 30,				Nine Months Ended September 30,
	2021		2020		2021		2020
	(In thousands)				(In thousands)
Debt securities	$	1,986	$	2,170	$	5,164	$	8,567
Equity securities		—		—		—		—
Cash and cash equivalents		17		651		72		1,610
Other investments		514		221		1,101		486
Net investment income		2,517		3,042		6,337		10,663
Less: Investment expenses		969		225		2,540		880
Net investment income, less investment expenses	$	1,548	$	2,817	$	3,797	$	9,783

The following tables present, for all debt securities available-for-sale in an unrealized loss position (including securities pledged) and for which no credit loss allowance been established to date, the aggregate fair value and gross unrealized loss by length of time the security has continuously been in an unrealized loss position at September 30, 2021 and December 31, 2020, respectively:


	Less Than Twelve Months						Twelve Months or More
September 30, 2021	Number of Securities		Gross Unrealized Losses		Fair Value		Number of Securities		Gross Unrealized Losses		Fair Value
Debt Securities Available-for-sale
U.S. government and agency securities		10	$	9	$	14,441		—	$	—	$	—
States, municipalities and political subdivisions		75		657		66,885		—		—		—
Special revenue		188		1,877		150,757		11		4		101
Industrial and miscellaneous		133		1,542		99,327		—		—		—
Total fixed maturity securities		406	$	4,085	$	331,410		11	$	4	$	101


	Less Than Twelve Months						Twelve Months or More
December 31, 2020	Number of Securities		Gross Unrealized Losses		Fair Value		Number of Securities		Gross Unrealized Losses		Fair Value
Debt Securities Available-for-sale
U.S. government and agency securities		3	$	1	$	73		1	$	—	$	7
States, municipalities and political subdivisions		6		4		5,158		—		—		—
Special revenue		27		24		16,439		9		3		73
Industrial and miscellaneous		26		39		16,025		—		—		—
Total fixed maturity securities		62	$	68	$	37,695		10	$	3	$	80

The Company’s unrealized losses on corporate bonds have not been recognized because the bonds are of high credit quality with investment grade ratings of A- or higher, the Company does not intend to sell and it is unlikely the Company will be required to sell the securities prior to their anticipated recovery, and the decline in fair value is not deemed to relate to credit but to changes in interest rates and other market conditions. The bond issuers continue to make timely principal and interest payments on the bonds. Based on the Company’s expected credit loss criteria and analysis results, the Company did 0t record a credit allowance for securities that were in an unrealized loss position at September 30, 2021. There were neither any credit events nor credit allowances recorded at December 31, 2020.

Other Investments

Non-Consolidating Variable Interest Entities (“VIEs”)

The Company makes passive investments in limited partnerships (“LPs”), limited liability companies (“LLCs”), and a Real Estate Investment Trust (“REIT”). These investments are accounted for using the equity method, with income reported in net realized and unrealized gains and losses or the measurement alternative method, which is reported at cost less impairment (if any), plus or minus changes from observable price changes.

These investments are generally of a passive nature and the Company has determined it is not the primary beneficiary as it has no ability to direct activities that could significantly affect the economic performance of the investments. Investments in these entities are by nature less liquid and may involve more risk than other investments.

In 2020, the Company entered into agreements for preferred units in the amounts of $7.5 million and $9.9 million. The preferred units are measured at amortized cost under the guidance of ASC 320 and are subject to a fixed principal and interest payment schedule with maturity dates of February 1, 2023 and April 1, 2024, respectively. For the nine months ended September 30, 2021 and 2020, the Company received $937,000 and $353,000 in interest payments from the preferred units. As of September 30, 2021, the Company received in aggregate $1.2 million in fixed principal payments in relation to the $7.5 million preferred units agreement. There is no active market for these investments.

The following table summarizes the carrying value and maximum loss exposure of the Company’s non-consolidated VIEs at September 30, 2021 and December 31, 2020:



	At September 30, 2021				At December 31, 2020
	Carrying Value		Maximum Loss Exposure		Carrying Value		Maximum Loss Exposure
	(in thousands)
Investments in non-consolidated VIEs	$	23,887	$	24,909	$	26,409	$	26,409

During the second quarter of 2021, the Company recorded on its condensed consolidated statement of operations in net realized and unrealized (losses) gains an impairment of approximately $1.0 million on its REIT investment. As of September 30, 2021, the carrying value of the REIT less the impairment is approximately $3.0 million.

No agreements exist requiring the Company to provide additional funding to any of the non-consolidated VIEs in excess of the Company’s initial investment.

NOTE 3. FAIR VALUE OF FINANCIAL MEASUREMENTS

Fair value is determined based on the exchange price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date.

The Company is required to use an established hierarchy for fair value measurements based upon the inputs to the valuation and degree to which they are observable or not observable in the market. The three levels in the hierarchy are as follows:



Level 1 – Unadjusted quoted prices are available in active markets for identical assets/liabilities as of the reporting date.



Level 2 – Valuations based on observable inputs, such as quoted prices for similar assets or liabilities at the measurement date; quoted prices in the markets that are not active; or other inputs that are observable, either directly or indirectly.



Level 3 – Pricing inputs are unobservable and significant to the overall fair value measurement, and the determination of fair value requires significant management judgment or estimation.

The highest priority is assigned to Level 1 inputs and the lowest priority to Level 3 inputs. The Company did not hold any Level 3 assets or liabilities as of September 30, 2021 or December 31, 2020.

The following tables present information about the Company’s assets measured at fair value on a recurring basis. The Company assesses the levels for the investments at each measurement date, and transfers between levels are recognized on the actual date of the event or change in circumstances that caused the transfer in accordance with the Company’s accounting policy regarding the recognitions of transfers between levels of the fair value hierarchy.

The tables below present the balances of the Company’s invested assets measured at fair value on a recurring basis:


September 30, 2021	Total		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Invested Assets:	(in thousands)
Debt Securities Available-for-sale
U.S. government and agency securities	$	44,009	$	366	$	43,643	$	0
States, municipalities and political subdivisions		105,721		0		105,721		0
Special revenue		311,495		0		311,495		0
Hybrid securities		100		0		100		0
Industrial and miscellaneous		199,494		0		199,494		0
Total investments	$	660,819	$	366	$	660,453	$	0


December 31, 2020	Total		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Invested Assets:	(in thousands)
Debt Securities Available-for-sale
U.S. government and agency securities	$	30,593	$	371	$	30,222	$	0
States, municipalities and political subdivisions		85,670		0		85,670		0
Special revenue		274,321		0		274,321		0
Hybrid securities		100		0		100		0
Industrial and miscellaneous		170,327		0		170,327		0
Total investments	$	561,011	$	371	$	560,640	$	0

Financial Instruments excluded from the fair value hierarchy

The carrying value of premium receivables and accounts payable, accrued expense, revolving loans and borrowings under the Company’s senior secured credit facility approximate their fair value. The rate at which revolving loans and borrowings under the Company’s senior secured credit facility bear interest resets periodically at market interest rates.

Non-recurring fair value measurements

Assets and liabilities that are measured at fair value on a non-recurring basis include intangible assets and goodwill which are recognized at fair value during the period in which an acquisition is completed, from updated estimates and assumptions during the measurement period, or when they are considered to be impaired. These non-recurring fair value measurements, primarily for intangible assets acquired, were based on Level 3 unobservable inputs. For the quarters ended September 30, 2021 and 2020, these non-recurring fair values inputs consisted of brand, agent relationships, renewal rights, customer relations, trade names, non-compete and goodwill. To evaluate such assets for a potential impairment, the Company determines the fair value of the goodwill and intangible assets using a combination of a discounted cash flow approach and market approaches, which contain significant unobservable inputs and therefore are considered a Level 3 fair value measurement. The unobservable inputs in the analysis generally include future cash flow projections and a discount rate.

There were 0 non-recurring fair value adjustments to intangible assets and goodwill during the third quarters of 2021 and 2020. The Company records any measurement period adjustments to the fair value of assets acquired and liabilities assumed, with the corresponding offset to goodwill.

NOTE 4. OTHER COMPREHENSIVE (LOSS) INCOME

The following table is a summary of other comprehensive (loss) income and discloses the tax impact of each component of other comprehensive (loss) income for the three and nine months ended September 30, 2021 and 2020, respectively:


	For the Three Months Ended September 30,
	2021									2020
	Pre-tax			Tax			After-tax			Pre-tax			Tax			After-tax
	(in thousands)
Other comprehensive (loss) income
Change in unrealized (losses) gains on investments, net	$	(1,344	)	$	311		$	(1,033	)	$	2,480		$	(574	)	$	1,906
Reclassification adjustment of realized losses (gains) included in net income		6			(1	)		5			(20,355	)		4,711			(15,644	)
Effect on other comprehensive (loss) income	$	(1,338	)	$	310		$	(1,028	)	$	(17,875	)	$	4,137		$	(13,738	)


	For the Nine Months Ended September 30,
	2021								2020
	Pre-tax			Tax		After-tax			Pre-tax			Tax			After-tax
	(in thousands)
Other comprehensive (loss) income
Change in unrealized (losses) gains on investments, net	$	(8,316	)	$	1,928	$	(6,388	)	$	19,330		$	(4,471	)	$	14,859
Reclassification adjustment of realized gains included in net income		(96	)		22		(74	)		(20,377	)		4,713			(15,664	)
Effect on other comprehensive (loss) income	$	(8,412	)	$	1,950	$	(6,462	)	$	(1,047	)	$	242		$	(805	)

NOTE 5. LEASES

The Company has entered into operating and financing leases primarily for real estate and vehicles. The Company will determine whether an arrangement is a lease at inception of the agreement. The operating leases have terms of one to ten years, and often include one or more options to renew. These renewal terms can extend the lease term from two to ten years, and are included in the lease term when it is reasonably certain that the Company will exercise the option. The Company considers these options in determining the lease term used in establishing the Company’s right-of-use assets and lease obligations. The Company’s lease agreements do not contain any material residual value guarantees or material restrictive covenants.

Because the rate implicit in each operating lease is not readily determinable, the Company uses its incremental borrowing rate to determine present value of the lease payments. The Company used the implicit rates within the finance leases.

Components of the Company’s lease costs for the three and nine months ended September 30, 2021 and 2020 were as follows (in thousands):


	Three Months Ended September 30, 2021		Three Months Ended September 30, 2020
Amortization of ROU assets - Finance leases	$	647	$	21
Interest on lease liabilities - Finance leases		263		5
Variable lease cost (cost excluded from lease payments)		112		128
Operating lease cost (cost resulting from lease payments)		339		340
Total lease cost	$	1,361	$	494


	Nine Months Ended September 30, 2021		Nine Months Ended September 30, 2020
Amortization of ROU assets - Finance leases	$	1,321	$	64
Interest on lease liabilities - Finance leases		524		16
Variable lease cost (cost excluded from lease payments)		373		391
Operating lease cost (cost resulting from lease payments)		1,018		1,023
Total lease cost	$	3,236	$	1,494

Supplemental cash flow information and non-cash activity related to the Company’s operating and financing leases were as follows (in thousands):


	At September 30, 2021		At September 30, 2020
Finance lease - Operating cash flows	$	31	$	16
Finance lease - Financing cash flows	$	100	$	55

Operating lease - Operating cash flows (fixed payments)	$	1,123	$	1,080
Operating lease - Operating cash flows (liability reduction)	$	840	$	761

Supplemental balance sheet information related to the Company’s operating and financing leases as of September 30, 2021 were as follows (in thousands):


	Balance Sheet Classification	September 30, 2021
Right-of-use lease assets - operating	Right-of-use lease asset, net	$	5,286
Right-of-use lease assets - finance	Right-of-use lease asset, net	$	23,366
Lease liability - operating	Lease liability	$	6,844
Lease liability - finance	Lease liability	$	25,120

Weighted-average remaining lease term and discount rate for the Company’s operating and financing leases as of September 30, 2021 were as follows:


	September 30, 2021
Weighted average lease term - Finance leases	9.34 yrs.
Weighted average lease term - Operating leases	6.40 yrs.
Weighted average discount rate - Finance leases		4.2	%
Weighted average discount rate - Operating leases		5.3	%

Maturities of lease liabilities by fiscal year for the Company’s operating and financing leases were as follows (in thousands):


	September 30, 2021
2021 remaining	$	1,142
2022		4,566
2023		4,500
2024		4,194
2025		3,970
Thereafter		20,213
Total lease payments		38,585
Less: imputed interest		(6,621	)
Present value of lease liabilities	$	31,964

NOTE 6. PROPERTY AND EQUIPMENT, NET

Property and equipment, net consisted of the following at September 30, 2021 and December 31, 2020:


	September 30, 2021			December 31, 2020
	(In thousands)
Land	$	2,582		$	2,582
Building		10,141			10,141
Computer hardware and software		7,147			6,358
Office furniture and equipment		2,038			2,027
Tenant and leasehold improvements		8,225			8,133
Vehicle fleet		720			850
Total, at cost		30,853			30,091
Less: accumulated depreciation and amortization		(12,903	)		(11,406	)
Property and equipment, net	$	17,950		$	18,685

Depreciation and amortization expense for property and equipment was approximately $736,000 and $442,000 for the three months ended September 30, 2021 and 2020, respectively and $1.6 million and $1.3 million for the nine months ended September 30, 2021 and 2020, respectively. The Company’s real estate consists of 15 acres of land and 5 buildings with a gross area of 191,200 square feet and a parking garage. Approximately 75% of the building in Clearwater is leased to unaffiliated tenants. Following the Company’s planned relocation to its new Tampa headquarters, which is expected to occur in late 2021, the Company intends to sublease the remaining available space at the Clearwater location to unaffiliated tenants.

NOTE 7. GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill and Intangible Assets

At September 30, 2021 and December 31, 2020, goodwill was $152.5 million and intangible assets were $57.5 million and $62.3 million, respectively. The Company has determined the useful life of the other intangible assets to range between 2.5-15 years. Intangible assets include $1.3 million relating to insurance licenses which is classified as an indefinite lived intangible and is subject to annual impairment testing concurrent with goodwill.


	Goodwill
	(in thousands)
Balance as of December 31, 2020	$	152,459
Goodwill acquired	0
Impairment	0
Balance as of September 30, 2021	$	152,459

Other Intangible Assets

The Company’s intangible assets consist of brand, agent relationships, renewal rights, customer relations, trade names, non-competes and insurance licenses.

Amortization expense of the Company’s intangible assets for the respective three month periods ended September 30, 2021 and 2020 was $1.6 million and for the respective nine month periods ended September 30, 2021 and 2020 was $4.8 million. NaN impairment in the value of amortizing or non-amortizing intangible assets was recognized during the nine months ended September 30, 2021 or 2020.

Estimated annual pretax amortization of intangible assets for each of the next five years and thereafter is as follows (in thousands):


Year	Amount(1)
2021 - remaining	$	1,588
2022	$	6,351
2023	$	6,351
2024	$	6,351
2025	$	6,315
Thereafter	$	29,243
Total	$	56,199

(1)

Excludes insurance licenses valued at $1.3 million and classified as an indefinite lived intangible which is subject to annual impairment testing and not amortized.

NOTE 8. EARNINGS PER SHARE

The following table sets forth the computation of basic and diluted earnings per share (“EPS”) for the periods indicated.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2021			2020			2021			2020
Basic (loss) earnings per share:
Net (loss) income attributable to common stockholders (000's)	$	(16,410	)	$	(5,233	)	$	(25,509	)	$	6,519
Weighted average shares outstanding		27,938,028			27,739,839			27,902,814			28,053,959
Basic (loss) earnings per share:	$	(0.59	)	$	(0.19	)	$	(0.91	)	$	0.23

Diluted (loss) earnings per share:
Net (loss) income attributable to common stockholders (000's)	$	(16,410	)	$	(5,233	)	$	(25,509	)	$	6,519
Weighted average shares outstanding		27,938,028			27,739,839			27,902,814			28,053,959
Weighted average dilutive shares		—			—			—			19,611
Total weighted average dilutive shares		27,938,028			27,739,839			27,902,814			28,073,570
Diluted (loss) earnings per share:	$	(0.59	)	$	(0.19	)	$	(0.91	)	$	0.23

Due to the net loss for the three and nine months ended September 30, 2021, the number of dilutive shares is the same as the number of basic shares due to the antidilutive impact of the convertible debt and restricted stock under the if-converted method. The convertible notes were excluded from the computations because the conversion price on these notes was greater than the average market price of the Company’s common shares during each of the respective periods, and therefore, would be anti-dilutive to earnings per share under the treasury method. The Company had 2,677,355 and 1,819,503 antidilutive shares as of September 30, 2021 and 2020, respectively.

NOTE 9. DEFERRED REINSURANCE CEDING COMMISSION

The Company defers reinsurance ceding commission income, which is amortized over the effective period of the related insurance policies. For the three months ended September 30, 2021 and 2020, the Company allocated ceding commission income of $12.0 million and $10.6 million to policy acquisition costs and $4.0 million and $3.5 million to general and administrative expense, respectively. For the nine months ended September 30, 2021 and 2020, the Company allocated ceding commission income of $35.2 million and $32.3 million to policy acquisition costs and $11.6 million and $10.6 million to general and administrative expenses, respectively.

The table below depicts the activity regarding deferred reinsurance ceding commission during the three and nine months ended September 30, 2021 and 2020.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2021			2020			2021			2020
	(In thousands)
Beginning balance of deferred ceding commission income	$	39,940		$	34,562		$	39,995		$	37,464
Ceding commission deferred		17,659			17,294			48,447			43,213
Less: ceding commission earned		(15,978	)		(14,129	)		(46,821	)		(42,950	)
Ending balance of deferred ceding commission income (1)	$	41,621		$	37,727		$	41,621		$	37,727

Deferred ceding commission income is classified in “Accounts payable and other liabilities” on the Company’s condensed consolidated balance sheet.

NOTE 10. DEFERRED POLICY ACQUISITION COSTS

The Company defers certain costs in connection with written policies, called deferred policy acquisition costs (“DPAC”), which are amortized over the effective period of the related insurance policies.

The Company anticipates that its DPAC will be fully recoverable in the near term. The table below depicts the activity regarding DPAC for the three and nine months ended September 30, 2021 and 2020.


	Three Months Ended September 30,						Nine Months Ended September 30,
	2021			2020			2021			2020
	(In thousands)
Beginning Balance	$	95,967		$	81,590		$	89,265		$	77,211
Policy acquisition costs deferred		47,976			42,096			144,380			128,400
Amortization		(48,518	)		(37,546	)		(138,220	)		(119,471	)
Ending Balance	$	95,425		$	86,140		$	95,425		$	86,140

NOTE 11. INCOME TAXES

For the three months ended September 30, 2021 and 2020, the Company recorded an income tax benefits of $(1.1) million and $(1.5) million, respectively, which corresponds to effective tax rates of 6.4% and 22.3%, respectively. For the nine months ended September 30, 2021 and 2020, the Company recorded an income tax benefit of $(5.6) million and an income tax expense of $2.8 million, respectively, which corresponds to effective rates of 18.1% and 29.9%, respectively. Effective tax rates are dependent upon components of pre-tax earnings and the related tax effects. The effective tax rate for each period was affected by various permanent tax differences, predominately disallowed executive compensation deductions which were further limited in 2018 and future years upon the enactment of H.R.1, commonly referred to as the Tax Cuts and Jobs Act (“Tax Act”). Additionally, the state effective income tax rate can also fluctuate as a result of changes in the geographic dispersion of the Company’s business. The effective tax rate can fluctuate throughout the year as estimates used in the tax provision for each quarter are updated as more information becomes available throughout the year.

The table below summarizes the significant components of the Company’s net deferred tax liability:



	September 30, 2021			December 31, 2020
Deferred tax assets:	(In thousands)
Unearned premiums	$	13,101		$	15,303
Unearned commission		9,649			9,272
Net operating loss		1,880			1,885
Tax-related discount on loss reserve		3,809			3,322
Stock-based compensation		225			113
Accrued expenses		1,456			982
Leases		738			394
Unrealized losses		373			0
Other		719			343
Total deferred tax asset		31,950			31,614
Deferred tax liabilities:
Deferred acquisition costs		22,122			20,694
Prepaid expenses		184			236
Unrealized gains		—			1,814
Property and equipment		1,398			1,669
Note discount		203			326
Basis in purchased investments		37			53
Basis in purchased intangibles		14,652			15,693
Internal revenue code 481(a)-Accounting method change		5,361			8,577
Other		1,658			1,029
Total deferred tax liabilities		45,615			50,091
Net deferred tax liability	$	(13,665	)	$	(18,477	)

The statute of limitations related to the Company’s federal and state income tax returns remains open from the Company’s filings for 2018 through 2020. In April 2019, the Company was notified by the tax authority that the federal income tax returns for the years 2015, 2016 and 2017 would be examined. In August 2020, the Company received a notice from the tax authority for the examined tax years, reporting that the returns were accepted as final. No further action will be required, and no other tax years are under examination.

At September 30, 2021 and December 31, 2020, we had 0 significant uncertain tax positions or unrecognized tax benefits that, if recognized, would impact the effective income tax rate.

NOTE 12. REINSURANCE

Overview

In order to limit the Company’s potential exposure to individual risks and catastrophic events, the Company purchases significant reinsurance from third party reinsurers. Purchasing reinsurance is an important part of the Company’s risk strategy, and premiums ceded to reinsurers is one of the Company’s largest costs. The Company has strong relationships with reinsurers, which it attributes to its management’s industry experience, disciplined underwriting, and claims management capabilities. For each of the twelve months beginning June 1, 2020 and 2021, the Company purchased reinsurance from the following sources: (i) the Florida Hurricane Catastrophe Fund, a state-mandated catastrophe fund (“FHCF”) for Florida policies only, (ii) private reinsurers, all of which were rated “A-” or higher by A.M. Best Company, Inc. (“A.M. Best”) or Standard & Poor’s Financial Services LLC (“S&P”) or were fully collateralized, and (iii) the Company’s wholly-owned reinsurance subsidiary, Osprey Re Ltd. (“Osprey”). In addition to purchasing excess of loss catastrophe reinsurance, the Company also purchased quota share, property per risk and facultative reinsurance. The Company’s quota share program limits its exposure on catastrophe and non-catastrophe losses and provides ceding commission income. The Company’s per risk programs limit its net exposure in the event of a severe non-catastrophe loss impacting a single location or risk. The Company also utilizes facultative reinsurance to supplement its per risk reinsurance program where the Company capacity needs dictate.

Purchasing a sufficient amount of reinsurance to cover catastrophic losses from single or multiple events or significant non-catastrophe losses is an important part of the Company’s risk strategy. Reinsurance involves transferring, or “ceding”, a portion of the risk exposure on policies we write to another insurer, known as a reinsurer. To the extent that the Company’s reinsurers are unable to meet the obligations they assume under the Company’s reinsurance agreements, the Company remains liable for the entire insured loss.

The Company’s reinsurance agreements are prospective contracts. The Company record an asset, prepaid reinsurance premiums, and a liability, reinsurance payable, for the entire contract amount upon commencement of the Company’s new reinsurance agreements. The Company generally amortizes its catastrophe reinsurance premiums ratably over the 12-month contract period, which is June 1 through May 31. Its quota share reinsurance is amortized over the 12-month contract period and may be purchased on a calendar or fiscal year basis.

In the event that the Company incurs losses and loss adjustment expenses recoverable under its reinsurance program, the Company records amounts recoverable from its reinsurers on paid losses plus an estimate of amounts recoverable on unpaid losses. The estimate of amounts recoverable on unpaid losses is a function of its liability for unpaid losses associated with the reinsured policies; therefore, the amount changes in conjunction with any changes to its estimate of unpaid losses. As a result, a reasonable possibility exists that an estimated recovery may change significantly in the near term from the amounts included in the Company’s condensed consolidated financial statements.

The Company’s insurance regulators require all insurance companies, like us, to have a certain amount of capital and reinsurance coverage in order to cover losses and loss adjustment expenses upon the occurrence of a catastrophic event. The Company’s reinsurance program provides reinsurance in excess of its state regulator requirements, which are based on the probable maximum loss that it would incur from an individual catastrophic event estimated to occur once in every 100 years based on its portfolio of insured risks. The nature, severity and location of the event giving rise to such a probable maximum loss differs for each insurer depending on the insurer’s portfolio of insured risks, including, among other things, the geographic concentration of insured value within such portfolio. As a result, a particular catastrophic event could be a one-in-100-year loss event for one insurance company while having a greater or lesser probability of occurrence for another insurance company. The Company also purchases reinsurance coverage to protect against the potential for multiple catastrophic events occurring in the same year. The Company shares portions of its reinsurance program coverage among its insurance company affiliates.

2021-2022 Reinsurance Program

Catastrophe Excess of Loss Reinsurance

Effective June 1, 2021, the Company entered into catastrophe excess of loss reinsurance agreements covering Heritage Property & Casualty Insurance Company (“Heritage P&C”), Zephyr Insurance Company (“Zephyr”) and Narragansett Bay Insurance Company (“NBIC”). The catastrophe reinsurance programs are allocated among traditional reinsurers, the Florida Hurricane Catastrophe Fund (“FHCF”) and Osprey Re Ltd (“Osprey”), the Company’s captive reinsurer. The FHCF covers Florida risks only and the Company elected to participate at 90%. For the 2021 hurricane season, Osprey Re will provide reinsurance only for a portion of the Heritage P&C program, covering the southeastern region. The Company’s third-party reinsurers are either rated “A-” or higher by A.M. Best or S&P or are fully collateralized, to reduce credit risk.

The reinsurance program, which is segmented into layers of coverage, protects the Company for excess property catastrophe losses and loss adjustment expenses. The 2021-2022 reinsurance program provides first event coverage up to $1.43 billion for Heritage P&C, first event coverage up to $1.1 billion for NBIC, and first event coverage up to $680.0 million for Zephyr. The Company’s first event retention in a 1 in 100 year event would include retention for the respective insurance company as well as any retention by Osprey. The first event maximum retention up to a 1 in 100 year event for each insurance company subsidiary is as follows: Heritage P&C – $32.0 million, which would be 100% ceded to Osprey; Zephyr – $32 million; and NBIC – $20.7 million.

The majority of the Company’s program was placed on a cascading basis which provides greater horizontal protection in a multiple small events scenario and features additional coverage enhancements. The Company is responsible for all losses and loss adjustment expenses in excess of our reinsurance program. For second or subsequent catastrophic events, the Company’s total available coverage depends on the magnitude of the first event, as the Company may have coverage remaining from layers that were not previously fully exhausted. An aggregate of $2.8 billion of limit purchased in 2021 includes reinstatement through the purchase of reinstatement premium protection. The amount of coverage, however, will be subject to the severity and frequency of such events.

The Company's estimated net cost for the 2021-2022 catastrophe reinsurance programs is approximately $312.0 million.

Net Quota Share Reinsurance

The Company’s Net Quota Share coverage is proportional reinsurance, which applies to business underwritten by NBIC, for which certain of the Company’s other reinsurance (property catastrophe excess of loss and the second layer of the general excess of loss) inures to the quota share program. An occurrence limit of $20.0 million for catastrophe losses is in effect on the quota share program, subject to certain aggregate loss limits that vary by reinsurer. The amount and rate of ceding commissions slide, within a prescribed minimum and maximum, depending on loss performance. The Net Quota Share program was renewed on December 31, 2020 ceding 56.5% of the net premiums and losses and 3% of the prior year quota share is in run off.

The Company placed 100% of an occurrence contract for the Company’s business underwritten by NBIC which covers all catastrophe losses excluding named storms, on December 31, 2020, expiring December 31, 2021. The limit on the contract is $20.0 million with a retention of $20.0 million and has 1 reinstatement available.

Per Risk Coverage

For losses arising from business underwritten by Heritage P&C and losses arising from commercial residential business underwritten by NBIC, excluding losses from named storms, the Company purchased property per risk coverage for losses and loss adjustment expenses in excess of $1.0 million per claim. The limit recovered for an individual loss is $9.0 million and total limit for all losses is $27.0 million. There are 2 reinstatements available with additional premium due based on the amount of the layer exhausted. For losses arising from commercial residential business underwritten by NBIC, the Company purchased property per risk coverage for losses and loss adjustments expenses in excess of $750,000 per claim. The limit recovered for an individual loss is $250,000 and total limit for all losses is $750,000. There are 2 reinstatements available with additional premium due based on the amount of the layer exhausted.

In addition, the Company purchased facultative reinsurance for losses in excess of $10.0 million for any properties it insured where the total insured value exceeded $10.0 million. This coverage applies to losses arising from business underwritten by Heritage P&C and losses arising commercial residential business underwritten by NBIC, excluding losses from named storms.

General Excess of Loss

The Company’s general excess of loss reinsurance protects business underwritten by NBIC and Zephyr multi-peril policies from single risk losses. For the contract period of July 1, 2021 through June 30, 2022, the coverage is in 2 layers in excess of the Company’s retention of the first $500,000 of loss. The first layer is $250,000 excess $500,000 for property and casualty losses and the second layer for property losses is $2.75 million excess $750,000. The second layer for casualty losses is $1.25 million excess $750,000

In addition, the Company purchased facultative reinsurance for losses underwritten by NBIC in excess of $3.5 million.

For a detailed discussion of the Company’s 2020-2021 Reinsurance Program please Refer to Part II, Item 8, “Financial Statements and Supplementary Data” and “Note 12. Reinsurance” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020, which was filed with the SEC on March 9, 2021.

Effect of Reinsurance

The Company’s reinsurance arrangements had the following effect on certain items in the condensed consolidated statement of income for the three and nine months ended September 30, 2021 and 2020:


	Three Months Ended September 30,						Nine Months Ended September 30,
	2021			2020			2021				2020
	(In thousands)						(In thousands)
Premium written:
Direct	$	274,178		$	278,242		$	886,059			$	797,776
Ceded		(53,505	)		(63,493	)		(491,677	)			(422,092	)
Net	$	220,673		$	214,749		$	394,382			$	375,684
Premiums earned:
Direct	$	294,409		$	254,982		$	850,466			$	731,489
Ceded		(131,964	)		(116,752	)		(399,323	)			(338,197	)
Net	$	162,445		$	138,230		$	451,143			$	393,292
Loss and Loss Adjustment Expenses
Direct	$	195,099		$	205,337		$	483,382			$	452,014
Ceded		(65,467	)		(85,619	)		(155,006	)	��		(185,245	)
Net	$	129,632		$	119,718		$	328,376			$	266,769

NOTE 13. RESERVE FOR UNPAID LOSSES

The Company determines the reserve for unpaid losses on an individual-case basis for all incidents reported. The liability also includes amounts which are commonly referred to as incurred but not reported, or “IBNR”, claims as of the balance sheet date. The Company estimates its IBNR reserves by projecting its ultimate losses using industry accepted actuarial methods and then deducting actual loss payments and case reserves from the projected ultimate losses.

The table below summarizes the activity related to the Company’s reserve for unpaid losses:


	Three Months Ended September 30,						Nine Months Ended September 30,
	2021			2020			2021			2020
	(In thousands)
Balance, beginning of period	$	625,979		$	620,718		$	659,341		$	613,533
Less: reinsurance recoverable on unpaid losses		366,879			404,370			397,688			393,630
Net balance, beginning of period		259,100			216,348			261,653			219,903
Incurred related to:
Current year		130,425			125,544			331,374			281,698
Prior years		(793	)		(5,826	)		(2,998	)		(14,929	)
Total incurred		129,632			119,718			328,376			266,769
Paid related to:
Current year		75,508			71,955			171,128			148,563
Prior years		27,273			18,371			132,950			92,369
Total paid		102,781			90,326			304,078			240,932
Net balance, end of period		285,951			245,740			285,951			245,740
Plus: reinsurance recoverable on unpaid losses		350,195			417,257			350,195			417,257
Balance, end of period	$	636,146		$	662,997		$	636,146		$	662,997

As of September 30, 2021, the Company reported $286.0 million in unpaid losses and loss adjustment expenses, net of reinsurance which included $213.5 million attributable to IBNR net of reinsurance recoverable, or 74.7% of net reserves for unpaid losses and loss adjustment expenses.

NOTE 14. LONG-TERM DEBT

Convertible Senior Notes

In August 2017 and September 2017, the Company issued in aggregate $136.8 million of 5.875% Convertible Senior Notes (“Convertible Notes”) maturing on August 1, 2037, unless earlier repurchased, redeemed or converted. Interest is payable semi-annually in arrears, on February 1, and August 1 of each year.

As of September 30, 2021, the Company had $22.7 million of the Convertible Notes outstanding, net of issuance and debt discount costs in aggregate of approximately $716,900. For each of the respective nine month periods ended September 30, 2021 and 2020, the Company made interest payments, net of affiliated Convertible Notes of approximately $1.3 million on the Convertible Notes.

Senior Secured Credit Facility

In December 2018, the Company entered into a five-year, $125.0 million credit agreement (the “Credit Agreement”) with a syndicate of lenders consisting of $75.0 million senior secured term loan facility (the “Term Loan Facility”) and a $50.0 million senior secured revolving credit facility (the “Revolving Credit Facility” and together with the Term Loan Facility, the “Credit Facilities”).

On July 28, 2021, the Company entered into the Fifth Amendment to the Credit Agreement (the “Fifth Amendment”) with the guarantors and lenders party thereto. The Fifth Amendment amended the Credit Agreement to, among other things, (i) increase the Revolving Credit Facility from $50 million to $75 million and make related changes to the Credit Agreement, (ii) provide for a $13.75 million advance under the existing $75 million Term Loan Facility for an aggregate of $70 million principal amount outstanding as of the date of the Fifth Amendment, extend the maturity of the Term Loan Facility from December of 2023 to July 2026 and reduce the amortization of the Term Loan Facility, (iii) reduce the applicable margin for loans under the Credit Agreement to 2.5% to 3.0% per annum for LIBOR loans (reduced from the prior range of 3.25% to 3.75%) and 1.5% to 2.0% per annum for base rate loans (reduced from the prior range of 2.25% to 2.75%), in each case based on a consolidated leverage ratio ranging from less than or equal to 1.25-to-1 to greater than 2.25-to-1 (previously less than or equal to 2.0-to-1 to greater than 3.0-to-1), (iv) reduce the restriction on negative covenants thereby allowing the Company greater flexibility and (iv) provide mechanics relating to a transition away from LIBOR as a benchmark interest rate. All other material terms of the Credit Agreement remain unchanged.

Term Loan Facility: The principal amount of the Term Loan Facility, as amended, amortizes in quarterly installments, beginning with the close of the fiscal quarter ending March 31, 2019, in an amount equal to (i) $1.9 million per quarter prior to July 29, 2021, (ii) $875,000 per quarter commencing with the quarter ending December 31, 2021 and (iii) $1.3 million thereafter, with the remaining balance payable at maturity. As of December 31, 2020, there was $60.0 million in aggregate principal outstanding on the Term Loan Facility. On July 28, 2021, the principal amount of the term loan outstanding under the Term Loan Facility was increased by $13.75 million to a total of $70.0 million from $56.3 million prior to the advance.

For the nine months ended September 30, 2021 and 2020, the Company made interest payments of approximately $1.5 million and $2.1 million on the term loan, respectively.

Revolving Credit Facility: The Revolving Credit Facility, as amended, allows for borrowings of up to $75.0 million inclusive of a $5.0 million sublimit for the issuance of letters of credit and a $10.0 million sublimit for swingline loans. As of September 30, 2021, and December 31, 2020, the Company had $0 and $10 million of borrowings and 0 letters of credit outstanding under the Revolving Credit Facility, respectively. In connection with the Fifth Amendment of the Credit Agreement, the Revolving Credit Facility's outstanding balance of $10 million was paid in full. For the nine months ended September 30, 2021 and 2020, the Company made interest payments of $196,500 and $451,500 under the Revolving Credit Facility, respectively.

At September 30, 2021, the effective interest rate for the Term Loan and for the Revolving Credit Facility was 2.87%.

On March 31, 2021, the Company closed the July 1, 2020 standby letter of credit in the amount of $31.5 million that was issued by Regions Bank.

On June 1, 2020, the Company amended the Credit Agreement by entering into the Third Amendment to Credit Agreement (the “Third Amendment”) with the lenders from time to time party to the Credit Agreement, and Regions Bank, as administrative agent and collateral agent. The Third Amendment modified the Credit Agreement to increase the letter of credit sublimit from $5 million to $40 million and to make related modifications to certain of the negative covenants in the Credit Agreement.

On April 27, 2020, the Company amended the Credit Agreement by entering into the Second Amendment to Credit Agreement (the “Second Amendment”) with the lenders from time to time party to the Credit Agreement, and Regions Bank, as administrative agent and collateral agent. The Second Amendment modified the negative covenants in the Credit Agreement to permit the Company to make acquisitions and investments if, after giving effect to the acquisition or investment, either (1) the Company has an aggregate of $25.0 million in cash and availability under the revolving credit facility or (2) the consolidated leverage ratio under the Credit Agreement is at least a quarter turn less than the required ratio for the trailing four quarters. The amendment gives the Company more flexibility to make acquisitions and investments in the future. All other material terms of the Credit Agreement remain unchanged.

Mortgage Loan

In October 2017, the Company and its subsidiary, Skye Lane Properties LLC, jointly obtained a commercial real estate mortgage loan in the amount of $12.7 million, bearing interest of 4.95% per annum and maturing on October 30, 2027. On October 30, 2022, the interest rate shall adjust to an interest rate equal to the annualized interest rate of the United States 5-year Treasury Notes as reported by Federal Reserve on a weekly average basis plus 3.10%. The Company makes monthly principal and interest payments

towards the loan. For each of the respective nine-month periods ended September 30, 2021 and 2020, the Company made principal and interest payments of approximately $670,000 on the mortgage loan.

FHLB Loan Agreements

In December 2018, a subsidiary of the Company received a 3.094% fixed interest rate cash loan of $19.2 million from the Federal Home Loan Bank (“FHLB”) Atlanta. In connection with the loan agreement, the subsidiary became a member of FHLB. Membership in the FHLB required an investment in FHLB’s common stock which was purchased in December 2018 and valued at $1.4 million. Additionally, the transaction required the acquired FHLB common stock and certain other investments to be pledged as collateral. As of September 30, 2021, the fair value of the collateralized securities was $22.7 million and the equity investment in FHLB common stock was $1.2 million. As of September 30, 2021, and 2020, the Company made quarterly interest payments as per the terms of the loan agreement of approximately $450,500 and $457,100, respectively. As of September 30, 2021, and December 31, 2020, the Company also holds other common stock from FHLB Des Moines, and FHLB Boston valued at $215,900 and $222,900, respectively.

The following table summarizes the Company’s debt and credit facilities as of September 30, 2021 and December 31, 2020:


	September 30, 2021		December 31, 2020
	(in thousands)
Convertible debt	$	23,413	$	23,413
Mortgage loan		11,599		11,827
Term loan facility		70,000		60,000
Revolving credit facility		0		10,000
FHLB loan agreement		19,200		19,200
Total principal amount	$	124,212	$	124,440
Less: unamortized discount and issuance costs	$	2,731	$	3,442
Total long-term debt	$	121,481	$	120,998

As of the date of this report, the Company was in compliance with the applicable terms of all its covenants and other requirements under the Credit Agreement, Convertible Notes indenture, cash borrowings and other loans. The Company’s ability to secure future debt financing depends, in part, on its ability to remain in such compliance. Provided there is no default or an event of default, the Company is permitted to payout dividends in an aggregate amount not to exceed $10.0 million in any fiscal year.

The covenants and other requirements under the revolving agreement represent the most restrictive provisions that the Company is subject to with respect to its long-term debt.

The schedule of principal payments on long-term debt as of September 30, 2021 is as follows:


Year	Amount
	(In thousands)
2021 remaining	$	953
2022		3,822
2023		23,039
2024		4,292
2025		5,624
Thereafter		86,482
Total	$	124,212

NOTE 15. ACCOUNTS PAYABLE AND OTHER LIABILITIES

Accounts payable and other liabilities consist of the following as of September 30, 2021 and December 31, 2020:


Description	September 30, 2021		December 31, 2020
	(In thousands)
Deferred ceding commission	$	41,621	$	39,995
Outstanding claim checks		0		10,864
Accounts payable and other payables		6,951		9,248
Accrued interest and issuance costs		592		833
Accrued dividends		1,680		1,670
Other liabilities		257		80
Premium tax		1,531		0
Commission payables		14,404		18,245
Total other liabilities	$	67,036	$	80,935

NOTE 16. STATUTORY ACCOUNTING AND REGULATIONS

State laws and regulations, as well as national regulatory agency requirements, govern the operations of all insurers such as the Company’s insurance subsidiaries. The various laws and regulations require that insurers maintain minimum amounts of statutory surplus and risk-based capital, restrict insurers’ ability to pay dividends, restrict the allowable investment types and investment mixes, and subject the Company’s insurers to assessments.

The Company’s insurance subsidiaries Heritage Property & Casualty Insurance Company (“Heritage P&C)”, Narragansett Bay Insurance Company (“NBIC”), Zephyr Insurance Company (“Zephyr”), and Pawtucket Insurance Company (“PIC”) must maintain capital and surplus ratios or balances as determined by the regulatory authority of the states in which they are domiciled. Heritage P&C is required to maintain capital and surplus equal to the greater of $15 million or 10% of their respective liabilities. Zephyr is required to maintain a deposit of $750,000 in a federally insured financial institution. NBIC is required to maintain capital and surplus of $3.0 million. The combined statutory surplus for Heritage P&C, Zephyr, NBIC and PIC was $290.0 million at September 30, 2021 and $333.3 million at December 31, 2020. State law also requires the Company’s insurance subsidiaries to adhere to prescribed premium-to-capital surplus ratios, and risk-based capital requirements with which the Company is in compliance. At September 30, 2021, the Company’s insurance subsidiaries met the financial and regulatory requirements of each of the states in which they conduct business.

NOTE 17. COMMITMENTS AND CONTINGENCIES

The Company is involved in claims-related legal actions arising in the ordinary course of business. The Company accrues amounts resulting from claims-related legal actions in unpaid losses and loss adjustment expenses during the period that it determines an unfavorable outcome becomes probable and it can estimate the amounts. Management makes revisions to its estimates based on its analysis of subsequent information that the Company receives regarding various factors, including: (i) per claim information; (ii) company and industry historical loss experience; (iii) judicial decisions and legal developments in the awarding of damages; and (iv) trends in general economic conditions, including the effects of inflation.

NOTE 18. RELATED PARTY TRANSACTIONS

From time to time the Company has been party to various related party transactions involving certain of its officers, directors and significant stockholders, including as set forth below. The Company has entered into each of these arrangements without obligation to continue its effect in the future and the associated expense was immaterial to its results of operations or financial position as of September 30, 2021 and 2020.



In July 2019, the Board of Directors appointed Mark Berset to the Board of Directors of the Company. Mr. Berset is also the Chief Executive Officer of Comegys Insurance Agency, Inc. (“Comegys”), an independent insurance agency that writes policies for Company. The Company pays commission to Comegys based upon standard industry rates consistent with those provided to the Company’s other insurance agencies. There are no arrangements or understandings between Mr. Berset and any other persons with respect to his appointment as a director. For the three and nine months ended September 30, 2021 and 2020, the Company paid agency commission to Comegys of approximately $53,900 and $46,300 and $595,700 and $592,400, respectively.

NOTE 19. EMPLOYEE BENEFIT PLANS

The Company provides a 401(k) plan for substantially all employees. The Company provides a matching contribution of 100% on the first 3% of employees’ contribution and 50% on the next 2% of the employees’ contribution to the plan. The maximum match is 4%. For the three months ended September 30, 2021 and 2020, the contributions made to the plan on behalf of the participating employees were approximately $293,000 and $265,000 and for the nine months ended September 30, 2021 and 2020, contributions made to the plan were approximately $985,000 and $897,000, respectively.

Effective September 1, 2021, the Company terminated its self-insured healthcare plan and enrolled in a flex healthcare plan which allows employees the choice of three medical plans with a range of coverage levels and costs. For the three months ended September 30, 2021 and 2020, the Company incurred medical premium costs including the new 2021-2022 healthcare premiums, of $1.6 million and $941,000, respectively. For the nine months ended September 30, 2021 and 2020, the Company incurred medical premium costs of $2.6 million and $3.0 million, respectively. An additional liability from the Company's self-insured healthcare plan was accrued for approximately $442,000 and $1.4 million for unpaid claims as of September 30, 2021 and December 31, 2020, respectively.

NOTE 20. EQUITY

The total amount of authorized capital stock consists of 50,000,000 shares of common stock and 5,000,000 shares of preferred stock. As of September 30, 2021, the Company had 27,802,626 shares of common stock outstanding, 9,427,948 treasury shares of common stock and 240,835 unvested restricted common stock with accrued dividends reflecting total paid-in capital of $332.6 million as of such date.

As more fully disclosed in the Company’s audited consolidated financial statements for the year ended December 31, 2020, there were, 27,748,606 shares of common stock outstanding, 9,279,839 treasury shares of common stock and 100,267 unvested shares of restricted common stock, representing $331.9 million of additional paid-in capital.

Common Stock

Holders of common stock are entitled to one vote for each share held on all matters subject to a vote of stockholders, subject to the rights of holders of any outstanding preferred stock. Accordingly, holders of a majority of the shares of common stock entitled to vote in any election of directors may elect all of the directors standing for election, subject to the rights of holders of any outstanding preferred stock. Holders of common stock will be entitled to receive ratably any dividends that the board of directors may declare out of funds legally available therefor, subject to any preferential dividend rights of outstanding preferred stock. Upon the Company’s liquidation, dissolution or winding up, the holders of common stock will be entitled to receive ratably its net assets available after the payment of all debts and other liabilities and subject to the prior rights of holders of any outstanding preferred stock. Holders of common stock have no preemptive, subscription, redemption or conversion rights. There is no redemption or sinking fund provisions applicable to the common stock. All outstanding shares of the Company’s capital stock are fully paid and non-assessable.

Stock Repurchase Program

On August 1, 2019, the Company announced that its Board of Directors ratified a stock repurchase program authorizing the Company to repurchase up to $50.0 million of its common stock which had expired on December 31, 2020. As of December 31, 2020, the Company repurchased in aggregate 2,065,042 shares of its common stock since authorizing the stock repurchase program for $26.2 million. On November 2, 2020, the Board of Directors extended the Company’s existing share repurchase program from December 31, 2020 to December 31, 2021 and increased the authorization under the program from the $23.8 million remaining to $50.0 million, which repurchases may be made under the Company’s current Rule 10b5-1 trading plan, which allows the Company to purchase shares below a predetermined price per share, or otherwise. As of September 30, 2021, the Company repurchased in aggregate 148,109 shares of its common stock under its repurchase program for $1.0 million.

At September 30, 2021, the Company has the capacity under its stock repurchase program to repurchase $49 million of its common shares until December 31, 2021.

Dividends

On March 3, 2021, the Company’s Board of Directors declared a $0.06 per share quarterly dividend payable on April 6, 2021, to stockholders of record as of March 15, 2021. On May 5, 2021, the Board of Directors declared a $0.06 per share quarterly dividend payable on July 6, 2021 to stockholders of record as of June 15, 2021. On August 5, 2021, the Company announced that its Board of Directors declared a $0.06 per share quarterly dividend payable on October 6, 2021 to stockholders of record as of September 15, 2021.

The declaration and payment of any future dividends will be subject to the discretion of the Board of Directors and will depend on a variety of factors including the Company’s financial condition and results of operations.

NOTE 21. STOCK-BASED COMPENSATION

Common, Restricted and Performance-based Stock

The Company has adopted the Heritage Insurance Holdings, Inc., Omnibus Incentive Plan (the “Plan”) effective on May 22, 2014. The Plan authorized 2,981,737 shares of common stock for issuance under the Plan for future grants. The Company’s plan allows for a variety of equity awards including stock options, restricted stock awards and performance-based awards.

At September 30, 2021 there were 939,691 shares available for grant under the Plan. The Company recognizes compensation expense under ASC 718 for its stock-based payments based on the fair value of the awards.

During the quarter ended March 31, 2021, the Company issued to its Chief Executive Officer 95,878 performance-based restricted shares with a market value at the time of grant of $10.43 per share. The performance-based restricted shares have a three-year performance period beginning on January 1, 2021 and ending on December 31, 2023 and will vest following the end of the performance period but no later than March 5, 2024. The number of shares that will be earned at the end of the performance period is subject to decrease based on the results of the performance condition. In addition, the Company issued this executive 47,939 time-based restricted shares with a market value at the time of grant of $10.43 per share. The time-based restricted shares will vest in three equal installments of 15,979 on December 31, 2021, and 15,980 on December 31, 2022 and 2023, respectively.

During the second quarter ended June 30, 2021, the Company issued to its Chief Financial Officer 28,012 performance-based restricted shares with a market value at the time of grant of 10.71 per share. The performance-based restricted shares have a three-year performance period beginning on January 1, 2021 and ending December 31, 2023 and will vest following the end of the performance period but no later than March 5, 2024. The number of shares that will be earned at the end of the performance period is subject to decrease based on the results of the performance condition. In addition, the Company issued this executive 14,006 time-based restricted shares with a market value at the time of grant of $10.71 per share. The time-based restricted shares will vest in three equal installments 4,668 on December 31, 2021 and 4,669 on December 31, 2022 and 2023, respectively.

For awards with performance-based vesting conditions expense is not recognized until it is determined that it is probable the performance-based conditions will be met. When achievement of a performance-based condition is probable, a catch-up of expense will be recorded as if the award had been vesting on a straight-line basis from the award date. The award will continue to be expensed on a straight-line basis until probability of achieving the performance-based conditions changes, if applicable. For awards with only a service condition, the Company expenses stock-based compensation using the straight-line method over the requisite service period for the entire award.

The Plan authorizes the Company to grant stock options at exercise prices equal to the fair market value of the Company’s stock on the dates the options are granted. Any options granted would typically have a maximum term of ten years from the date of grant and vest primarily in equal annual installments over a range of one to five-year periods following the date of grant for employee options. The Company has not granted any stock options since 2015 and all unexercised stock options have since been forfeited.

The Company has also granted shares of its common stock subject to certain restrictions under the Plan. Restricted stock awards granted to employee’s vest in equal installments generally over a five-year period from the grant date subject to the recipient’s continued employment. The fair value of restricted stock awards is estimated by the market price at the date of grant and amortized on a straight-line basis to expense over the period of vesting. Recipients of restricted stock awards have the right to receive dividends.

Restricted stock activity for the nine months ended September 30, 2021 is as follows:


	Number of shares			Weighted-Average Grant-Date Fair Value per Share
Non-vested, at December 31, 2020		100,267		$	15.37
Granted - Performance-based restricted stock		123,890			10.49
Granted - Time-based restricted stock		61,945			10.49
Vested		(26,294	)		12.07
Canceled and surrendered		(18,973	)		13.04
Non-vested, at September 30, 2021		240,835		$	12.15

Awards are being amortized to expense over the one to five-year vesting period. The Company recognized $320,000 and $1.4 million of compensation expense for the three months ended September 30, 2021 and 2020, respectively. For the nine months ended September 30, 2021 and 2020, the Company recognized compensation expense of $867,000 and $4.1 million, respectively. For the nine months ended September 30, 2021, 40,267 shares of restricted stock were vested and released, all of which had been granted to employees. Of the shares released to employees, 18,973 shares were withheld by the Company to cover withholding taxes of $171,000. For the comparable period of 2020, 35,267 shares were vested and released of which 22,223 shares were withheld by the Company to cover withholding taxes of $297,000.

At September 30, 2021, there was approximately $1.0 million unrecognized expense related to time-based non-vested restricted stock and an additional $1.1 million for performance-based restricted stock, which is expected to be recognized over the remaining restriction periods as described in the table below. For the comparable period in 2020, there was $1.6 million of unrecognized expense.

Additional information regarding the Company’s outstanding non-vested time-based restricted stock and performance-based restricted stock at September 30, 2021 is as follows:


Grant date	Restricted shares unvested		Share Value at Grant Date Per Share		Remaining Restriction Period (Years)
February 12, 2018		50,000	$	16.35		1.25
April 24, 2020		5,000	$	10.60		0.60
January 4, 2021		143,817	$	10.43		2.25
April 13, 2021		42,018	$	10.71		2.25
		240,835

NOTE 22. SUBSEQUENT EVENTS

The Company performed an evaluation of subsequent events through the date the condensed consolidated financial statements were issued and determined there were no recognized or unrecognized subsequent events that would require an adjustment or additional disclosure in the condensed consolidated financial statements as of September 30, 2021.

On November 4, 2021, the Company announced that its Board of Directors declared a $0.06 per share quarterly dividend payable on January 6, 2022 to stockholders of record as of December 15, 2021.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion in conjunction with our condensed consolidated financial statements and related notes and information included and elsewhere in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2020 (“2020 Form 10-K”). Unless the context requires otherwise, as used in this Form 10-Q, the terms “we”, “us”, “our”, “the Company”, “our Company”, and similar references refer to Heritage Insurance Holdings, Inc., a Delaware corporation, and its subsidiaries.

FINANCIAL HIGHLIGHTS

Overview

Heritage Insurance Holdings, Inc., is a super-regional property and casualty insurance holding company that primarily provides personal and commercial residential insurance products across its multi-state footprint. We provide personal residential insurance in sixteen states and commercial residential insurance in three of those states, while maintaining licenses in one additional state. As a vertically integrated insurer, we control or manage substantially all aspects of underwriting, customer service, actuarial analysis, distribution and claims processing and adjusting. Our financial strength ratings are important to the Company in establishing our competitive position and can impact our ability to write policies.

The discussion of our financial condition and results of operations that follows provides information that will assist the reader in understanding our consolidated financial statements, the changes in certain key items in those financial statements from year to year, and the primary factors that accounted for those changes, as well as how certain accounting principles, policies and estimates affect our consolidated financial statements. This discussion should be read in conjunction with our consolidated financial statements and the related notes that appear elsewhere in this document.

COVID-19 and Other Matters

We continue to monitor the short- and long-term impacts of the COVID-19 virus and its variants. For the year ended December 31, 2020, we saw negligible impact to our business, and that trend has continued through the third quarter of 2021. As a residential property insurer, we view our business as somewhat insulated because property owners and renters generally view our products as a necessity. The majority of our gross and net premiums written are from renewals of expiring policies. New business, which accounts for a smaller portion of our revenue, may be impacted if consumers are not buying as many new homes in our geographies, but this could be partially or fully offset by increased retention in our renewal portfolio. In a prolonged recessionary and social-distancing environment, we could experience disruptions to our independent agency distribution channel, which may have a negative impact on our revenues and financial condition. Increases in the cost of materials and labor for home repairs can influence our losses associated with claims. To the extent state and local requirements allow employees to return to the office, the Company has implemented return-to-office and hybrid programs, with the latter including a combination of in-office and remote work.

Climate Change

Climate change, to the extent it produces extreme changes in temperatures and changes in weather patterns, could affect the frequency or severity of weather-related catastrophes. The incidence and severity of catastrophes are inherently unpredictable and the extent of losses from a catastrophe is a function of both the total amount of insured exposure in the area affected and the severity of the event. Although we attempt to manage our exposure to catastrophes through our underwriting process and the purchase of reinsurance protection, an especially severe catastrophe or series of catastrophes could exceed our reinsurance protection and may have a material adverse impact on our results of operations and financial condition. Further, an increased incidence of catastrophic weather events could impact the cost and availability of our reinsurance program.

Coronavirus Aid, Relief, and Economic Security Act

The CARES Act was enacted on March 27, 2020 in the United States. The CARES Act and related notices include several significant provisions, including delaying certain payroll tax payments, mandatory transition tax payments under the TCJ Act, and estimated income tax payments that we are deferring to future periods. We do not currently expect the CARES Act to have a material impact on our liquidity or our financial results, except for the benefit associated with a 5-year carryback of our 2020 tax net operating loss. We will continue to monitor and assess the impact the CARES Act and similar legislation may have on our business and financial results.

Financial Results Highlights for the Third quarter of 2021



Net loss for the quarter was $16.4 million, or 0.59 loss per share, up from net loss of $5.2 million or $0.19 loss per share in the prior year quarter.



Book value per share of $14.57, down 4.1% from second quarter 2021 and 8.8% year-over-year.



Gross premiums written of $274.2 million, down 1.5% year-over-year, stemming from a 12.4% exposure management driven reduction in Florida, partly offset by 8.0% growth in other states.



Premiums in force of $1.2 billion, relatively flat from second quarter 2021 and up 13.3% year-over-year.



Policies-in-force of 581,286, a 2.1% reduction from second quarter 2021 and a 3.0% year-over-year increase.



Favorable prior year reserve development of $0.8 million.



Net current accident quarter weather losses of $51.4 million, up from $47.3 million in the prior year quarter. Current accident quarter weather losses include $16.0 million of net current accident quarter catastrophe losses, down from $24.6 million in the prior year quarter, and $35.5 million of other weather losses, up from $22.8 million in the prior year quarter.



Total capital returned to shareholders of $2.7 million, representing a $0.06 per share regular quarterly dividend and repurchase of 148,109 shares of stock.

Results of Operations

Comparison of the Three Months Ended September 30, 2021 and 2020

Revenue


	For the Three Months Ended September 30,
(Unaudited)	2021			2020			$ Change			% Change
	(in thousands)
REVENUE:
Gross premiums written	$	274,178		$	278,242		$	(4,064	)		(1.5	)%
Change in gross unearned premiums		20,231			(23,260	)		43,491			(187.0	)%
Gross premiums earned		294,409			254,982			39,427			15.5	%
Ceded premiums		(131,964	)		(116,752	)		(15,212	)		13.0	%
Net premiums earned		162,445			138,230			24,215			17.5	%
Net investment income		1,548			2,817			(1,269	)		(45.0	)%
Net realized and unrealized (losses) gains		(6	)		20,355			(20,361	)	NM
Other revenue		3,421			3,717			(296	)		(8.0	)%
Total revenue	$	167,408		$	165,119		$	2,290			1.4	%

NM= Not Meaningful

Gross premiums written

Gross premiums written were $274.2 million in the third quarter of 2021, down 1.5% from $278.2 million in the prior year quarter. The decrease reflects 12.4% reduction in Florida gross written premium, partially offset by 8.0% growth in other states. The reduction in Florida gross written premium reflects our plan to manage our Florida total insurance value ("TIV") and attritional loss ratios by controlling renewals and new business written. Rate increases materially benefited 2021 gross premiums written, particularly in Florida.

Premiums-in-force were $1.2 billion as of third quarter 2021, relatively flat from second quarter 2021 and up 13.3% year-over-year. Policies-in-force were 581,286, a 2.1% reduction from 593,786 policies at second quarter 2021 and a 3.0% increase year-over-year. The reduction in policies in force from the second quarter of 2021 reflects our exposure initiatives.

Gross premiums earned

Gross premiums earned were $294.4 million in the third quarter of 2021, up 15.5% from $255.0 million in the prior year quarter. The increase reflects the earning of higher gross premiums written over the twelve months ended September 30, 2021 compared to premiums written over the twelve months ended September 30, 2020.

Ceded premiums

Ceded premiums were $132.0 million in third quarter 2021, up 13.0% from $116.8 million in the prior year quarter. The increase is attributable to an increase in the cost of our catastrophe excess of loss reinsurance program driven by an increase in TIV.

Net premiums earned

Net premiums earned were $162.4 million in third quarter 2021, up 17.5% from $138.2 million in the prior year quarter. The increase primarily stems from higher gross premiums earned, partly offset by higher ceded premiums, as described above.

Net investment income

Net investment income, inclusive of realized investment gains and unrealized gains on equity securities, was $1.5 in the third quarter 2021, compared to $23.2 million in the prior year quarter. The decrease is primarily due to opportunistic sales of fixed income securities which resulted in significant realized gains in third quarter 2020 and to a lesser extent, lower yields associated with the continued low interest rate environment.

Other revenue

Other revenue was $3.4 million in the third quarter of 2021, relatively flat when compared to the prior year quarter.

Total revenue

Total revenue was $167.4 million in third quarter 2021, up 1.4% from $165.1 million in the prior year quarter. The increase primarily stems from higher net premiums earned, partially offset by a reduction in net realized investment gains, as described above.


	For the Three Months Ended September 30,
(Unaudited)	2021		2020		$ Change			% Change
OPERATING EXPENSES:	(in thousands)
Losses and loss adjustment expenses		129,632		119,718		9,914			8.3	%
Policy acquisition costs		35,984		31,960		4,024			12.6	%
General and administrative expenses		17,169		17,923		(754	)		(4.2	)%
Total operating expenses		182,785		169,601		13,183			7.8	%

Losses and loss adjustment expenses

Losses and loss adjustment expenses (“LAE”) were $129.6 million in third quarter 2021, up 8.3% from $119.7 million in the prior year quarter. The increase stems from higher net weather losses, lower favorable reserve development and from a larger book of business.

Policy acquisition costs

Policy acquisition costs were $36.0 million in third quarter 2021, up 12.6% from $32.0 million in the prior year quarter. The increase is primarily attributable to gross premiums written growth and is partially offset by higher ceding commission income.

General and administrative expenses

General and administrative expenses were $17.2 million in third quarter 2021, down 4.2% from $17.9 million in the prior year quarter. The decrease is primarily attributable to higher ceding commission associated with gross premiums written growth and lower executive compensation.


	For the Three Months Ended September 30,
(Unaudited)	2021			2020			$ Change			% Change
	(in thousands, except per share and share amounts)
Operating loss		(15,377	)		(4,482	)		(10,895	)		243.1	%
Interest expense, net		2,150			2,251			(101	)		(4.5	)%
Loss before income taxes		(17,527	)		(6,733	)		(10,793	)		160.3	%
Benefit for income taxes		(1,117	)		(1,500	)		383			(25.5	)%
Net loss	$	(16,410	)	$	(5,233	)	$	(11,177	)		213.6	%
Basic net loss per share	$	(0.59	)	$	(0.19	)	$	(0.40	)		209.1	%
Diluted net loss per share	$	(0.59	)	$	(0.19	)	$	(0.40	)		209.1	%

Interest expense, net

Net interest expense was $2.1 million in the third quarter of 2021, effectively flat quarter-over-quarter.

Benefit for income taxes

Benefit for income taxes was $1.1 million in third quarter 2021 compared to $1.5 million in the prior year quarter. The effective tax rate was 6.4% in third quarter 2021, 15.9 points below the prior year quarter’s 22.3% rate. The lower effective tax rate relates to the impact of permanent tax differences on projected results of operations for the calendar year. A change in the estimate from the prior quarter impacted the effect of permanent tax differences. The effective tax rate can fluctuate throughout the year as estimates used in the quarterly tax provision are updated with additional information.

Net loss

Third quarter 2021 net loss was $16.4 million ($0.59 per diluted share), up from net loss of $5.2 million ($0.19 per diluted share) in the prior year quarter. The year-over-year change primarily stems from lower realized capital gains, partly offset by a smaller underwriting loss. Higher losses and LAE contributed significantly to the net loss for the quarter, as described above.

Ratios


	For the Three Months Ended September 30,
(Unaudited)	2021			2020
Ceded premium ratio		44.8	%		45.8	%

Net loss and LAE ratio		79.8	%		86.6	%
Net expense ratio		32.7	%		36.1	%
Net combined ratio		112.5	%		122.7	%

Ceded premium ratio

The ceded premium ratio was 44.8% in third quarter 2021, down 1.0 point from 45.8% in the prior year quarter. The decrease is primarily attributable to higher gross earned premium which exceeded the higher cost associated with our reinsurance program.

Net loss ratio

The net loss ratio was 79.8% in third quarter 2021, down 6.8 points from 86.6% in the prior year quarter. Although the dollar amount of losses is significantly higher than the prior year quarter, the loss ratio is lower than the prior year quarter due to higher net earned premium fueled by growth and rate changes as described above.

Net expense ratio

The net expense ratio was 32.7% in third quarter 2021, down 3.4 points from 36.1% in the prior year quarter. The decrease primarily stems from lower G&A and policy acquisition cost ("PAC") expense ratio associated with higher net earned premium over the prior year despite an increase in PAC and G&A expenses.

Net combined ratio

The net combined ratio was 112.5% in third quarter 2021, down 10.2 points from 122.7% in the prior year quarter. The decrease primarily stems from lower net loss and operating expense ratios. The net loss increased despite the lower net combined ratio due to the reduction in investment gains from the prior year quarter as described above.

Comparison of the Nine Months Ended September 30, 2021 and 2020


	For the Nine Months Ended September 30,
	2021			2020			$ Change			% Change
(Unaudited)	(in thousands)
REVENUE:
Gross premiums written	$	886,059		$	797,776		$	88,283			11.1	%
Change in gross unearned premiums		(35,593	)		(66,287	)		30,694			(46.3	)%
Gross premiums earned		850,466			731,489			118,977			16.3	%
Ceded premiums		(399,323	)		(338,197	)		(61,126	)		18.1	%
Net premiums earned		451,143			393,292			57,851			14.7	%
Net investment income		3,797			9,783			(5,986	)		(61.2	)%
Net realized and unrealized (losses) gains		(926	)		20,377			(21,303	)	NM
Other revenue		10,835			10,385			450			4.3	%
Total revenue	$	464,849		$	433,837		$	31,013			7.1	%

Gross premiums written

Gross premiums written were $886.1 million for the nine months ended September 30, 2021, up 11.1% from $797.8 million in the prior year period. The increase reflects 16.2% growth outside Florida and 3.6% growth in Florida. Rate increases materially benefited 2021 gross premiums written growth, particularly in Florida. Growth in all states was organic, including growth via independent agents and strategic partnerships with national carriers.

Gross premiums earned

Gross premiums earned were $850.5 million for the nine months ended September 30, 2021, up 16.3% from $731.5 million in the prior year period. The increase reflects the earning of higher gross premiums written over the twelve months ended September 30, 2021 compared to premiums written over the twelve months ended September 30, 2020.

Ceded premiums earned

Ceded premiums earned were $399.3 million for the nine months ended September 30, 2021, up 18.1% from $338.2 million in the prior year period. The increase is attributable to an increase in the cost of our catastrophe excess of loss reinsurance program and an increase in TIV associated with premium growth as well as higher premium for our severe convective storm reinsurance coverage.

Net premiums earned

Net premiums earned were $451.1 million for the nine months ended September 30, 2021, up 14.7% from $393.3 million in the prior year period. The increase primarily stems from higher gross premiums earned, partly offset by higher ceded premiums, as described above.

Net investment income

Net investment income, inclusive of realized investment gains and unrealized gains on equity securities for the nine months ended September 30, 2021, was $2.9 million, down 90.3% from $30.2 million in the prior year period. The decrease is primarily due to opportunistic sales of fixed income securities which held significant unrealized gains in third quarter 2020 and to a lesser extent, lower yields associated with the continued low interest rate environment.

Other revenue

Other revenue was $10.8 million for the nine months ended September 30, 2021, relatively flat from $10.4 million in the prior year period.

Total revenue

Total revenue was $464.8 million for the nine months ended September 30, 2021, up 7.1% from $433.8 million in the prior year period. The increase primarily stems from higher net premiums earned, partially offset by a reduction in net investment income, as described above.


	For the Nine Months Ended September 30,
(Unaudited)	2021		2020		$ Change			% Change
OPERATING EXPENSES:	(in thousands)
Losses and loss adjustment expenses		328,376		266,769		61,607			23.1	%
Policy acquisition costs		109,183		92,243		16,940			18.4	%
General and administrative expenses		52,490		59,583		(7,093	)		(11.9	)%
Total operating expenses		490,049		418,595		71,454			17.1	%

Losses and loss adjustment expenses

Losses and loss adjustment expenses (“LAE”) were $328.4 million for the nine months ended September 30, 2021, up 23.1% from $266.8 million in the prior year period. The increase primarily stems from higher net weather losses and from a larger book of business.

Policy acquisition costs

Policy acquisition costs were $109.2 million for the nine months ended September 30, 2021, up 18.4% from $92.2 million in the prior year period. The increase is primarily attributable to higher acquisition costs associated with growth in gross premiums written.

General and administrative expenses

General and administrative expenses were $52.5 million for the nine months ended September 30, 2021, down 11.9% from $59.6 million in the prior year period. The decrease is primarily attributable to a state tax credit recorded in second quarter 2021 and lower executive compensation expense.


	For the Nine Months Ended September 30,
(Unaudited)	2021			2020		$ Change			% Change
	(in thousands, except per share and share amounts)
Operating (loss) income		(25,200	)		15,242		(40,442	)		(265.3	)%
Interest expense, net		5,953			5,939		14			0.2	%
(Loss) income before income taxes		(31,153	)		9,303		(40,456	)		(434.9	)%
(Benefit) provision for income taxes		(5,644	)		2,784		(8,428	)		(302.7	)%
Net (loss) income	$	(25,509	)	$	6,519	$	(32,028	)		(491.3	)%
Basic net (loss) income per share	$	(0.91	)	$	0.23	$	(1.14	)		(497.5	)%
Diluted net (loss) income per share	$	(0.91	)	$	0.23	$	(1.14	)		(497.5	)%

Interest expense, net

Interest expense was $6.0 million for the nine months ended September 30, 2021, relatively flat from $5.9 million in the prior year period.

(Benefit) Provision for income taxes

(Benefit) provision for income taxes was $(5.6) million and $2.8 million for the nine months ended September 30, 2021 and 2020, respectively. The effective tax rate for the current year period was 18.1%, 11.8 points lower than the prior year’s 29.9%. The lower effective tax rate relates to the impact of permanent tax differences on projected results of operations for the calendar year. A change in the estimate from the prior quarter impacted the effect of permanent tax differences. The effective tax rate can fluctuate throughout the year as estimates used in the quarterly tax provision are updated with additional information.

Net (loss) income

Net loss for the nine months ended September 30, 2021 was $25.5 million ($(0.91) per diluted share) compared to net income of $6.5 million ($0.23 per diluted share) in the prior year period. The decrease primarily reflects a higher net loss ratio, largely driven by elevated weather losses, and lower investment income, partly offset by higher total revenue and a lower net expense ratio.


	For the Nine Months Ended September 30,
(Unaudited)	2021			2020
Ceded premium ratio		47.0	%		46.2	%

Net loss and LAE ratio		72.8	%		67.8	%
Net expense ratio		35.8	%		38.6	%
Net combined ratio		108.6	%		106.4	%

Ceded premium ratio

The ceded premium ratio was 47.0% for the nine months ended September 30, 2021, up 0.8 points from 46.2% in the prior year period. The increase resulted from a larger increase in gross earned premium than the increase in ceded premium.

Net loss and LAE ratio

The net loss and LAE ratio was 72.8% for the nine months ended September 30, 2021, up 5.0 points from 67.8% in the prior year period. The increase primarily stems from higher current accident year weather and lower favorable reserve development, partly offset by the increase in net earned premium.

Net expense ratio

The net expense ratio was 35.8% for the nine months ended September 30, 2021, down 2.8 points from 38.6% in the prior year period. The decrease primarily stems from a lower net G&A expense ratio, driven by lower G&A expenses coupled with higher net premiums earned, partly offset by a slightly higher net PAC expense ratio, driven by higher gross premiums written.

Net combined ratio

The net combined ratio was 108.6% for nine months ended September 30, 2021, up 2.2 points from 106.4% in the prior year period. The increase primarily stems from a higher net loss ratio, partly offset by a lower net expense ratio, as described above.

Liquidity and Capital Resources

Our principal sources of liquidity include cash flows generated from operations, existing cash and cash equivalents, our marketable securities balances and borrowings available under our credit facilities. As of September 30, 2021, we had $393.4 million of cash and cash equivalents and $686.1 million in investments, compared to $441.0 million and $589.0 million, respectively, as of December 31, 2020. The decrease in cash and cash equivalents was primarily due to the allocation of cash used for investing activities.

We generally hold substantial cash balances to meet seasonal liquidity needs including amounts to pay quarterly reinsurance installments as well as meet the collateral requirements of Osprey, our captive reinsurance company, which is required to maintain a collateral trust account equal to the risk that it assumes from our insurance company affiliates.

We believe that our sources of cash are adequate to meet our cash requirements for at least the next twelve months.

We may continue to pursue the acquisition of complementary businesses and make strategic investments. We may increase capital expenditures consistent with our investment plans and anticipated growth strategy. Cash and cash equivalents may not be sufficient to fund such expenditures. As such, in addition to the use of our existing Credit Facilities, we may need to utilize additional debt to secure funds for such purposes.

Cash Flows


	For the Nine Months Ended September 30,
	2021			2020			Change
	(in thousands)
Net cash provided by (used in):
Operating activities	$	70,150		$	118,561		$	(48,411	)
Investing activities		(110,305	)		136,642			(246,947	)
Financing activities		(7,402	)		(23,178	)		15,776
Net (decrease) increase in cash and cash equivalents	$	(47,557	)	$	232,025		$	(279,582	)

Operating Activities

Net cash provided by operating activities was $70.1 million for the nine months ended September 30, 2021 compared to net cash provided by operating activities of $118.6 million for the comparable period in 2020. The decrease in cash from operating activities relates primarily to timing of cash flows associated with claim and reinsurance payments as well as reinsurance reimbursements during the first nine months of 2021 compared to the first nine months of 2020.

Investing Activities

Net cash used in investing activities for the nine months ended September 30, 2021 was $110.3 million as compared to net cash provided by of $136.6 million for the comparable period in 2020. The change in cash used for investing activities relates primarily to allocations of funds for investment in the current period compared to our strategic sales of investments to yield realized gains in the comparable period in 2020.

Financing Activities

Net cash used in financing activities for the nine months ended September 30, 2021 was $7.4 million, as compared to cash used in financing activities of $23.2 million for the comparable period in 2020. The reduction in cash used in financing activities is due primarily to the decrease in the amount of stock repurchased under the stock repurchase program and use of proceeds from our term loan facility which offset principal payments made.

Credit Facilities

On December 14, 2018, the Company entered into a credit agreement (as amended from time to time, the “Credit Agreement”) by and among the Company, as borrower, certain subsidiaries of the Company from time to time party thereto as guarantors, the lenders from time to time party thereto (the “Lenders”), Regions Bank, as Administrative Agent and Collateral Agent, BMO Harris Bank N.A., as Syndication Agent, Hancock Whitney Bank and Canadian Imperial Bank of Commerce, as Co-Documentation Agents, and Regions Capital Markets and BMO Capital Markets Corp., as Joint Lead Arrangers and Joint Bookrunners.

On July 28, 2021, the Company entered into the Fifth Amendment to the Credit Agreement (the “Fifth Amendment”) with the guarantors and Lenders. The Fifth Amendment amended the Credit Agreement to, among other things, (i) increase the revolving credit facility from $50 million to $75 million and make related changes to the Credit Agreement, (ii) provide for a $13.75 million advance under the existing $75 million term loan facility for an aggregate of $70 million principal amount outstanding as of the date of the Fifth Amendment, extend the maturity of the term loan facility from December of 2023 to July 2026 and reduce the amortization of the term loan facility, (iii) reduce the applicable margin for loans under the Credit Agreement to 2.5% to 3.0% per annum for LIBOR loans (reduced from the prior range of 3.25% to 3.75%) and 1.5% to 2.0% per annum for base rate loans (reduced from the prior range of 2.25% to 2.75%), in each case based on a consolidated leverage ratio ranging from less than or equal to 1.25-to-1 to greater than 2.25-to-1 (previously less than or equal to 2.0-to-1 to greater than 3.0-to-1), (iv) reduce the restriction on negative covenants thereby allowing the Company greater flexibility and (iv) provide mechanics relating to a transition away from LIBOR as a benchmark interest rate and replace LIBOR with an alternative benchmark rate.

Pursuant to the Credit Agreement, as amended, the participating Lenders agreed to provide (1) a five-year senior secured term loan facility in an aggregate principal amount of $75 million (the “Term Loan Facility”) and (2) a five-year senior secured revolving credit facility in an aggregate principal amount of $75 million (inclusive of a $5 million sublimit for the issuance of letters of credit and a $10 million sublimit for swingline loans) (the “Revolving Credit Facility” and together with the Term Loan Facility, the “Credit Facilities”). As of September 30, 2021, the Company had in aggregate $70 million principal outstanding under the Term Loan Facility, which was increased to $70 million on the date of the Fifth Amendment, and no borrowings outstanding under the Revolving Credit Facility.

At our option, borrowings under the Credit Facilities bear interest at rates equal to either (1) a rate determined by reference to LIBOR (based on one, two, three or six-month interest periods), adjusted for statutory reserve requirements, plus an applicable margin or (2) a base rate determined by reference to the greatest of (a) the “prime rate” of Regions Bank, (b) the federal funds rate plus 0.50%, and (c) the LIBOR index rate applicable for an interest period of one month plus 1.00%, plus an applicable margin.

The applicable margin for loans under the Credit Facilities, as amended, varies from 2.5% to 3.0% per annum (for LIBOR loans) and 1.5% to 2.0% per annum (for base rate loans) based on our consolidated leverage ratio. Interest payments with respect to the Credit Facilities are required either on a quarterly basis (for base rate loans) or at the end of each interest period (for LIBOR loans) or, if the duration of the applicable interest period exceeds three months, then every three months. As of June 30, 2021, the borrowing under our Credit Facilities were accruing interest at a rate of 3.38% per annum.

In addition to paying interest on outstanding borrowings under the Revolving Credit Facility, we are required to pay a quarterly commitment fee based on the unused portion of the Revolving Credit Facility, which is determined by our consolidated leverage ratio.

Each of the Revolving Credit Facility and the Term Loan Facility mature on December 31, 2026. The principal amount of the Term Loan Facility amortizes in quarterly installments, which began with the close of the fiscal quarter ended March 31, 2019, in an amount equal to $1,875,000 per quarter, payable quarterly, decreasing to $875,000 per quarter commencing with the quarter ending December 31, 2021 and increasing to $1,375,000 per quarter commencing with the quarter ending December 31, 2024, with the balance payable at maturity.

The Company may prepay the loans under the Credit Facilities, in whole or in part, at any time without premium or penalty, subject to certain conditions including minimum amounts and reimbursement of certain costs in the case of prepayments of LIBOR loans. In addition, the Company is required to prepay the loan under the Term Loan Facility with the proceeds from certain financing transactions, involuntary dispositions or asset sales (subject, in the case of asset sales, to reinvestment rights).

All obligations under the Credit Facilities are or will be guaranteed by each existing and future direct and indirect wholly owned domestic subsidiary of the Company, other than all of the Company’s current and future regulated insurance subsidiaries (collectively, the “Guarantors”).

The Company and the Guarantors entered into a Pledge and Security Agreement, on December 14, 2018 (the “Security Agreement”), in favor of Regions Bank, as collateral agent. Pursuant to the Security Agreement, amounts borrowed under the Credit Facilities are secured on a first priority basis by a perfected security interest in substantially all of the present and future assets of the Company and each Guarantor (subject to certain exceptions), including all of the capital stock of the Company’s domestic subsidiaries, other than its regulated insurance subsidiaries.

The Credit Agreement contains, among other things, covenants, representations and warranties and events of default customary for facilities of this type. The Company is required to maintain, as of each fiscal quarter (1) a maximum consolidated leverage ratio of 2.75 to 1.00 for each fiscal quarter in 2021, stepping down to 2.50 to 1.00 in 2022 and thereafter; (2) a minimum consolidated fixed charge coverage ratio of 1.20 to 1.00 and (3) a minimum consolidated net worth for the Company and its subsidiaries. Events of default include, among other events, (i) nonpayment of principal, interest, fees or other amounts; (ii) failure to perform or observe certain covenants set forth in the Credit Agreement; (iii) breach of any representation or warranty; (iv) cross-default to other indebtedness; (v) bankruptcy and insolvency defaults; (vi) monetary judgment defaults and material nonmonetary judgment defaults; (vii) customary ERISA defaults; (viii) a change of control of the Company; and (ix) failure to maintain specified catastrophe retentions in each of the Company’s regulated insurance subsidiaries.

Convertible Notes

On August 10, 2017, the Company and Heritage MGA, LLC (the “Notes Guarantor”) entered into a purchase agreement (the “Purchase Agreement”) with Citigroup Global Markets Inc., as the initial purchaser (the “Initial Purchaser”), pursuant to which the Company agreed to issue and sell, and the Initial Purchaser agreed to purchase, $125.0 million aggregate principal amount of the Company’s 5.875% Convertible Senior Notes due 2037 (the “Convertible Notes”) in a private placement transaction pursuant to Rule 144A under the Securities Act, as amended (the “Securities Act”). The Purchase Agreement contained customary representations, warranties and agreements of the Company and the Notes Guarantor and customary conditions to closing, indemnification rights and obligations of the parties and termination provisions. The net proceeds from the offering of the Convertible Notes, after deducting discounts and commissions and estimated offering expenses payable by the Company, were approximately $120.5 million. The offering of the Convertible Notes was completed on August 16, 2017.

The Company issued the Convertible Notes under an Indenture (the “Convertible Note Indenture”), dated August 16, 2017, by and among the Company, as issuer, the Notes Guarantor, as guarantor, and Wilmington Trust, National Association, as trustee (the “Trustee”).

The Convertible Notes bear interest at a rate of 5.875% per year. Interest is payable semi-annually in arrears, on February 1 and August 1 of each year. The Convertible Notes are senior unsecured obligations of the Company that rank senior in right of payment to the Company’s future indebtedness that is expressly subordinated in right of payment to the Convertible Notes; equal in right of payment to the Company’s unsecured indebtedness that is not so subordinated; effectively junior to any of the Company’s secured indebtedness to the extent of the value of the assets securing such indebtedness; and structurally junior to all indebtedness or other liabilities incurred by the Company’s subsidiaries other than the Notes Guarantor, which fully and unconditionally guarantee the Convertible Notes on a senior unsecured basis.

The Convertible Notes mature on August 1, 2037, unless earlier repurchased, redeemed or converted.

Holders may convert their Convertible Notes at any time prior to the close of business on the business day immediately preceding February 1, 2037, other than during the period from, and including, February 1, 2022 to the close of business on the second business day immediately preceding August 5, 2022, only under the following circumstances: (1) during any calendar quarter commencing after the calendar quarter ending on September 30, 2017, if the closing sale price of the Company’s common stock, for at least 20 trading days (whether or not consecutive) in the period of 30 consecutive trading days ending on the last trading day of the calendar quarter immediately preceding the calendar quarter in which the conversion occurs, is more than 130% of the conversion price of the Convertible Notes in effect on each applicable trading day; (2) during the ten consecutive business-day period following any five consecutive trading-day period in which the trading price for the Convertible Notes for each such trading day was less than 98% of the closing sale price of the Company’s common stock on such date multiplied by the then-current conversion rate; (3) if the Company calls any or all of the Convertible Notes for redemption, at any time prior to the close of business on the second business day immediately preceding the redemption date; or (4) upon the occurrence of specified corporate events.

During the period from and including February 1, 2022 to the close of business on the second business day immediately preceding August 5, 2022, and on or after February 1, 2037 until the close of business on the second business day immediately preceding August 1, 2037, holders may surrender their Convertible Notes for conversion at any time, regardless of the foregoing circumstances.

The conversion rate for the Convertible Notes was initially 67.0264 shares of common stock per $1,000 principal amount of Convertible Notes (equivalent to an initial conversion price of approximately $14.92 per share of common stock). The conversion rate is subject to adjustment in certain circumstances and is subject to increase for holders that elect to convert their Convertible Notes in connection with certain corporate transactions (but not, at the Company’s election, a public acquirer change of control (as defined in the Convertible Note Indenture)) that occur prior to August 5, 2022.

Upon the occurrence of a fundamental change (as defined in the Convertible Note Indenture) (but not, at the Company’s election, a public acquirer change of control (as defined in the Convertible Note Indenture), holders of the Convertible Notes may require the Company to repurchase for cash all or a portion of their Convertible Notes at a fundamental change repurchase price equal

to 100% of the principal amount of the Convertible Notes to be repurchased, plus accrued and unpaid interest to, but excluding, the fundamental change repurchase date.

Except as described below, the Company may not redeem the Convertible Notes prior to August 5, 2022. On or after August 5, 2022 but prior to February 1, 2037, the Company may redeem for cash all or any portion of the Convertible Notes, at the Company’s option, at a redemption price equal to 100% of the principal amount of the Convertible Notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date. No sinking fund is provided for the Convertible Notes, which means that the Company is not required to redeem or retire the Convertible Notes periodically. Holders of the Convertible Notes are able to cause the Company to repurchase their Convertible Notes for cash on any of August 1, 2022, August 1, 2027 and August 1, 2032, in each case at 100% of their principal amount, plus accrued and unpaid interest to, but excluding, the relevant repurchase date.

The Convertible Note Indenture contains customary terms and covenants and events of default. If an Event of Default (as defined in the Convertible Note Indenture) occurs and is continuing, the Trustee by notice to the Company, or the holders of at least 25% in aggregate principal amount of the Convertible Notes then outstanding by notice to the Company and the Trustee, may declare 100% of the principal of, and accrued and unpaid interest, if any, on, all the Convertible Notes to be immediately due and payable. In the case of certain events of bankruptcy, insolvency or reorganization (as set forth in the Convertible Note Indenture) with respect to the Company, 100% of the principal of, and accrued and unpaid interest, if any, on, the Notes automatically become immediately due and payable.

As of September 30, 2021, there were Convertible Notes in the aggregate principal amount of $23.4 million issued and outstanding.

FHLB Loan Agreements

In December 2018, a subsidiary of the Company pledged U.S. government and agency fixed maturity securities with an estimated fair value of $31.0 million as collateral and received $19.2 million in a cash loan under an advance agreement with the FHLB Atlanta. The loan originated on December 12, 2018 and bears a fixed interest rate of 3.094% with interest payments due quarterly commencing in March 2019. The principal balance on the loan has a maturity date of December 13, 2023. In connection with the agreement, the subsidiary became a member of FHLB. Membership in the FHLB required an investment in FHLB’s common stock which was purchased on December 31, 2018 and valued at $1.4 million. The subsidiary is permitted to withdraw any portion of the pledged collateral over the minimum collateral requirement at any time, other than in the event of a default by the subsidiary. The proceeds from the loan was used to prepay the Company’s Senior Secured Notes due 2023 in 2018.

Critical Accounting Policies and Estimates

When we prepare our condensed consolidated financial statements and accompanying notes in conformity with U.S. generally accepted accounting principles (GAAP), we must make estimates and assumptions about future events that affect the amounts we report. Certain of these estimates result from judgments that can be subjective and complex. As a result of that subjectivity and complexity, and because we continuously evaluate these estimates and assumptions based on a variety of factors, actual results could materially differ from our estimates and assumptions if changes in one or more factors require us to make accounting adjustments. During the nine months ended September 30, 2021, we reassessed our critical accounting policies and estimates as disclosed within our 2020 Annual Report on Form 10-K.

Seasonality of our Business

Our insurance business is seasonal; hurricanes typically occur during the period from June 1 through November 30 and winter storms generally impact the first and fourth quarters each year. With our catastrophe reinsurance program effective on June 1 each year, any variation in the cost of our reinsurance, whether due to changes to reinsurance rates or changes in the total insured value of our policy base will occur and be reflected in our financial results beginning June 1 of each year, subject to certain adjustments.

Recent Accounting Pronouncements

The information set forth under Note 1 to the condensed consolidated financial statements under the caption “Basis of Presentation and Significant Accounting Policies” is incorporated herein by reference. We do not expect any recently issued accounting pronouncements to have a material effect on our condensed consolidated financial statements.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

The duration of the financial instruments held in our portfolio that are subject to interest rate risk was 3.891 years at September 30, 2021, 2.971 years at September 30, 2020, and 3.615 years at December 31, 2020. Credit risk results from uncertainty in a counterparty’s ability to meet its obligations. Credit risk is managed by maintaining a high credit quality fixed maturity securities portfolio. As of September 30, 2021, the estimated weighted-average credit quality rating of the fixed maturity securities portfolio was A+, at fair value, consistent with the average rating at December 31, 2020.

On July 28, 2021, the Company amended its Credit Agreement to provide mechanics relating to a transition away from LIBOR as a benchmark interest rate for its indebtedness under the Credit Agreement and replace LIBOR with an alternative benchmark rate.

We have not experienced a material impact when compared to the tabular presentations of our interest rate and market risk sensitive instruments in our 2020 Annual Report on Form 10-K for the year ended December 31, 2020.

Item 4. Controls and Procedures.

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e)) that are designed to assure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.

As required by Exchange Act Rule 13a-15(b), as of the end of the period covered by this Quarterly Report, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of our disclosure controls and procedures. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of September 30, 2021.

Changes in Internal Control over Financial Reporting

There has been no change in our internal controls over financial reporting during our most recent quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. There were no significant changes to our internal control over financial reporting for the period ending September 30, 2021.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

The Company is a party to claims and legal actions arising routinely in the ordinary course of our business. Although we cannot predict with certainty the ultimate resolution of the claims and lawsuits asserted against us, we do not believe that any currently pending legal proceedings to which we are a party will have a material adverse effect on our condensed consolidated financial position results of operations or cash flow.

Item 1A. Risk Factors

The Company documented its risk factors in Item 1A of Part I of its annual report on Form 10-K for the year ended December 31, 2020 filed on March 9, 2021. There have been no material changes to the Company’s risk factors since the filing of that report.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

During the third quarter ended September 30, 2021, we purchased 148,109 shares of common stock for an aggregate of $1.0 million under our stock repurchase program. In addition, the Company acquired 6,473 shares of common stock for a total cost of $44,500 during the quarter ended September 30, 2021 that were not part of the publicly announced stock repurchase program authorization. These shares were delivered to the Company by employees to satisfy tax withholding obligations with the vesting of restricted stock awards.

A summary of our common stock repurchases during the quarter ended September 30, 2021, is set forth in the table below (in thousands, except shares and price per share):


	Total Number of Shares Purchased		Average Price Paid Per Share (1)		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (2)		Dollar Value of Shares that May Yet be Purchased Under the Plans or Programs
July 1 - July 31, 2021		—	$	—		—	$	50,000
August 1 - August 29, 2021		—	$	—		—	$	50,000
September 1 - September 31, 2021		154,582	$	6.83		148,109	$	48,995
Total		154,582				148,109

(1) Represents the balance before commission and fees at the end of each period.

(2) On November 2, 2020, the Board of Directors extended the Company’s prior share repurchase program from December 31, 2020 to December 31, 2021, authorizing the Company to repurchase up to $50.0 million of its common stock through such date. Repurchases may be made under the Company’s current Rule 10b5-1 trading plan, which allows the Company to purchase shares below a predetermined price per share, or otherwise. At September 30, 2021, the Company has the capacity to repurchase $49.0 million of its common stock until December 31, 2021.

Item 6. Exhibits

The information required by this Item 6 is set forth in the Index to Exhibits accompanying this Quarterly Report on Form 10-Q.

Index to Exhibits

Exhibit Number Description

3.1

Certificate of Incorporation of Heritage Insurance Holdings, Inc. (incorporated by reference to Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q filed on August 6, 2014

3.2

By-laws of Heritage Insurance Holdings, Inc. (incorporated by reference to Exhibit 3.2 to the Company’s Quarterly

Report on Form 10-Q filed on August 6, 2014

Form of Stock Certificate (incorporated by reference to Exhibit 4.1 to the Company’s Registration Statement on Form S-1/A (File No. 333-195409) filed on May 13, 2014)

4.1

Form of 5.875% Convertible Senior Notes due 2037 (included in Exhibit 4.1), (incorporated by reference to 1.1 to our Form 8-K filed on August 16, 2017)

4.2

Indenture, dated as of August 16, 2017, by and among the Company. Heritage MGA, LLC as guarantor, and Wilmington Trust, National Association, as trustee, (incorporated by reference to Exhibit 4.1 to the Company's Form 8-K filed on August 16, 2017)

10.24*

Employment agreement dated September 1, 2021 between Heritage Insurance Holdings, Inc., and Sharon Binnun

10.25*

Employment agreement dated September 1, 2021 between Heritage Insurance Holdings, Inc., and Tim Moura

31.1*

Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2*

Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1**

Certification of Chief Executive Officer pursuant to 18 U.SC. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32.2**

Certification of Chief Financial Officer pursuant to 18 U.SC. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002


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* Filed herewith

** Furnished herewith

SIGNATURES

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


	HERITAGE INSURANCE HOLDINGS, INC.

Date: November 8, 2021	By:	/s/ ERNESTO GARATEIX
		Ernesto Garateix
		Chief Executive Officer (Principal Executive Officer and Duly Authorized Officer)

Date: November 8, 2021	By:	/s/ KIRK LUSK
		Kirk Lusk
		Chief Financial Officer (Principal Financial Officer)

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Heritage Insurance (HRTG) 10-Q2021 Q3 Quarterly report

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