UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
Quarterly Report under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For quarter ended September 30, 2000 Commission File No. 0-6764
------------------ ------
Fortune Financial, Inc.
-------------------------
(Exact name of registrant as specified in its charter)
Florida 59-1218935
-------------------------------- --------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
10475-103 Fortune Parkway, Jacksonville, Florida 32256
--------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (904) 363-6339
-----------------------------
Former name, former address and former fiscal year, if changed since last report
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X . No _.
--- ---
(Applicable only to corporate issuers)
There were 7,467,542 shares of common stock, par value $.025 per share,
outstanding as of the close of business on November 10, 2000.
<PAGE>
Fortune Financial, Inc.
Index
Page
Part I. Financial Information
------------------------------
Item 1. Financial Statements
Consolidated Balance Sheets 3
Unaudited Consolidated Statements of Operations 4
Unaudited Consolidated Statements of Comprehensive Income 5
Unaudited Consolidated Statements of Cash Flows 6
Unaudited Consolidated Statements of Changes
in Stockholders' Equity 7
Notes to Financial Statements 8-12
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations 13-17
Item 3. Quantitative and Qualitative Disclosures about Market Risk 17
Part II. Other Information
---------------------------
Item 6. Exhibits and Reports on Form 8-K
(a) List of Exhibits 18
Signatures 19
----------
Exhibits 20
--------
-2-
<PAGE>
Fortune Financial, Inc. and Subsidiaries
Consolidated Balance Sheets
September 30, 2000 (Unaudited) and December 31, 1999
Assets 2000 1999
--------------------------------------------------------------------------------
Investments:
Securities available for sale at fair value
(amortized cost $14,349,480
and $32,553,832) $14,328,119 $32,567,745
Short-term investments 1,618,375 9,033,284
-------------------------------
Total investments 15,946,494 41,601,029
-------------------------------
Cash 2,563,146 1,178,791
Receivables:
Insurance premiums 145,962 789,274
Accrued investment income 261,599 515,636
Reinsurance, paid losses and other 16,089,575 12,314,049
Reinsurance recoverable, unpaid losses 5,779,773 13,706,562
Other receivables 190,688 238,258
Current income taxes 1,505,633 1,979,781
-------------------------------
Total receivables 23,973,230 29,543,560
-------------------------------
Deferred income tax 10,617,579 6,724,450
Ceded unearned premium 8,538,075 8,320,995
Deferred policy acquisition costs (215,807) (598,592)
Property and equipment 1,804,685 2,038,187
Equity in pools and associations 943,131 943,130
Other assets 356,480 400,124
-------------------------------
$64,527,013 $90,151,674
===============================
(continued)
<PAGE>
Liabilities and Stockholders' Equity 2000 1999
--------------------------------------------------------------------------------
Insurance loss reserves, including
life insurance policy benefits of $10,032
and $18,477 $14,839,403 $26,024,918
Unearned premium 20,366,233 18,376,039
Unearned service fees 1,816 93,305
Contractholders funds 1,411,466 1,550,109
Reinsurance funds withheld and
balances payable 2,475,259 7,129,761
Claim payments outstanding 2,623,301 3,039,004
Accrued expenses and other liabilities 1,462,001 2,307,233
Notes payable 3,294,835 7,200,000
---------------------------
Total liabilities 46,474,314 65,720,369
---------------------------
Stockholders' equity:
Common stock, $.025 par value per share
Authorized - 18,000,000 shares
Issued - 7,944,414 shares 198,610 198,610
Preferred stock, $.10 par value per share
Authorized - 500,000 shares
Issued and outstanding - none 0 0
Capital in excess of par value 5,185,092 5,185,092
Accumulated other comprehensive income (loss):
Net unrealized appreciation (depreciation)
on securities available for sale net of
deferred income taxes of $0 and $4,730 (21,361) 9,182
Treasury stock at cost, 476,872 shares (1,233,069) (1,233,069)
Shareholders' notes, 300,000 shares (843,750) (843,750)
Retained earnings 14,767,177 21,115,240
---------------------------
Total stockholders' equity 18,052,699 24,431,305
---------------------------
$64,527,013 $90,151,674
===========================
See notes to consolidated financial statements
-3-
<PAGE>
<TABLE>
Fortune Financial, Inc. and Subsidiaries
Unaudited Consolidated Statements of Operations
Quarters Ended September 30, 2000 and 1999, Nine Months
Ended September 30, 2000 and 1999
Quarters Ended September 30 Nine Months Ended September 30
2000 1999 2000 1999
-------------------------------- --------------------------------
Revenues:
<S> <C> <C>
Insurance premiums earned net of
premiums ceded of $4,857,567, $8,096,408,
$14,964,836 and $28,789,575 $5,340,628 $7,035,914 $16,638,227 $23,033,849
Service fees earned 572,366 729,638 2,223,026 4,040,039
Investment income 333,678 820,034 1,250,248 2,740,692
Other 8,428 8,669 126,848 23,598
Net realized gains (losses) on investments 34,084 90,227 (233,745) 147,533
-------------------------------- --------------------------------
Total revenues 6,289,184 8,684,482 20,004,604 29,985,711
-------------------------------- --------------------------------
Expenses:
Losses and loss adjustment expenses, net of
reinsurance recoveries of $2,012,840,
$8,184,229, $10,942,880 and $29,663,651 4,706,202 5,853,756 15,911,658 22,360,102
Policy acquisition costs 327,443 2,131,792 2,885,391 5,518,173
Salaries and wages 1,560,546 1,667,747 4,839,511 5,018,313
General and administrative expenses 1,888,913 2,667,650 6,263,522 6,330,270
Interest expense 83,607 157,214 340,985 499,597
-------------------------------- --------------------------------
Total expenses 8,566,711 12,478,159 30,241,067 39,726,455
-------------------------------- --------------------------------
Loss before provision for income taxes (2,277,527) (3,793,677) (10,236,463) (9,740,744)
-------------------------------- --------------------------------
Provision and (benefit) for income taxes:
Current 0 (1,528,944) 0 (3,460,855)
Deferred (843,147) 32,249 (3,888,400) (480,567)
-------------------------------- --------------------------------
Total provision (benefit) for income
taxes (843,147) (1,496,695) (3,888,400) (3,941,422)
-------------------------------- --------------------------------
Net loss ($1,434,380) ($2,296,982) ($6,348,063) ($5,799,322)
================================ ================================
Basic and diluted loss per share:
Net loss ($0.19) ($0.32) ($0.85) ($0.81)
================================ ================================
Dividends per share $0.00 $0.00 $0.00 $0.11
================================ ================================
See notes to consolidated financial statements.
</TABLE>
-4-
<PAGE>
<TABLE>
Fortune Financial, Inc. and Subsidiaries
Unaudited Statements of Comprehensive Income
Quarters Ended September 30, 2000 and 1999 and Nine Months
Ended September 30, 2000 and 1999
Quarters Ended September 30 Nine Months Ended September 30
--------------------------- ------------------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net loss ($1,434,380) ($2,296,982) ($6,348,063) ($5,799,322)
------------ ------------ ------------ ------------
Other comprehensive income (loss):
Unrealized gains (loss) on securities:
Unrealized holding gains (losses)
arising during period net of taxes $54,336,
$(70,173), $(132,552) and $(222,134) 84,114 (140,973) (278,669) (435,954)
Reclassification adjustment for
(gains) losses included in net
income (loss) net of tax
$54,336, ($1,210), ($127,822) and $8,883 (37,628) (2,349) (248,125) 17,244
-------- ------- --------- ------
Other comprehensive income (loss) 121,742 (138,624) (30,544) (453,198)
-------- --------- -------- ---------
Comprehensive loss ($1,312,638) ($2,435,606) ($6,378,607) ($6,252,520)
============ ============ ============ ============
See notes to consolidated financial statements.
</TABLE>
-5-
<PAGE>
<TABLE>
Fortune Financial, Inc. and Subsidiaries
Unaudited Consolidated Statements of Cash Flows
Nine Months Ended September 30, 2000 and 1999
2000 1999
----------------------------------
<S> <C> <C>
Cash flows from operating activities:
Net loss ($6,348,063) ($5,799,322)
Adjustments to reconcile net loss to
Net cash used in operating activities:
Provision for depreciation 395,516 432,953
Loss (gain) on sale of investments 233,745 (147,533)
Change in assets and liabilities:
Insurance premiums receivable 643,312 1,741,235
Accrued investment income and other receivables 301,607 755,440
Deferred policy acquisition costs (382,785) (1,833,619)
Prepaid expenses and other assets 43,644 59,644
Insurance loss reserves (11,185,515) 1,029,862
Unearned premium 1,990,194 (4,183,910)
Contractholder funds (138,643) (10,274,466)
Reinsurance funds held and balances payable (4,654,502) (7,473,823)
Claim payments outstanding (415,703) 1,008,064
Accrued expenses (845,232) 1,535,358
Current income taxes 474,148 (2,765,270)
Deferred income taxes (3,893,129) (480,567)
Ceded unearned premium (217,080) 6,049,422
Reinsurance receivable 4,151,263 (1,272,462)
Unearned service fees (91,489) (300,169)
----------------------------------
Net cash used in operating activities (19,938,712) (21,919,163)
----------------------------------
Cash flows from investing activities:
Net change in short term investments 7,414,909 9,305,026
Purchase of investments (13,496,387) (6,870,827)
Proceeds from sale and maturity of investments 31,471,724 22,447,408
Purchase of property and equipment (162,014) (390,339)
----------------------------------
Net cash provided by investing activities 25,228,232 24,491,268
----------------------------------
Cash flows from financing activities:
Principal payment, note payable (4,000,000) (1,800,000)
Principal, note payable, net 94,835 0
Dividends paid to stockholders 0 (807,140)
----------------------------------
Net cash used in financing activities (3,905,165) (2,607,140)
----------------------------------
Net change in cash 1,384,355 (35,035)
Cash, beginning of period 1,178,791 1,082,422
----------------------------------
Cash, end of period $2,563,146 $1,047,387
==================================
See notes to consolidated financial statements.
</TABLE>
-6-
<PAGE>
Fortune Financial, Inc. and Subsidiaries
Unaudited Consolidated Statements of Changes in Stockholders' Equity
Nine Months Ended September 30, 2000 and 1999
2000 1999
------------------------------
Common stock:
No change during period $198,610 $191,110
------------------------------
Preferred stock:
No change during period 0 0
------------------------------
Capital in excess of par value:
No change during period 5,185,092 4,348,842
------------------------------
Accumulated other comprehensive loss:
Net unrealized gain (loss) on securities
available for sale:
Balance at beginning of period 9,182 448,444
Increase (decrease) (35,273) (684,215)
Deferred taxes 4,730 231,017
------------------------------
Balance at end of period (21,361) (4,754)
------------------------------
Treasury stock:
No change during period (1,233,069) (1,233,069)
------------------------------
Shareholders' notes:
No change during period (843,750) 0
------------------------------
Retained earnings:
Balance at beginning of period,
restated for 1999 21,115,240 31,807,815
Net loss (6,348,063) (5,799,322)
Cash dividends $.0 and $.11
per share 0 (807,140)
------------------------------
Balance at end of period 14,767,177 25,201,353
------------------------------
Total stockholders' equity at end of period $18,052,699 $28,503,482
==============================
See notes to consolidated financial statements.
-7-
<PAGE>
Fortune Financial, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Note 1. Basis of Presentation
------------------------------
In the opinion of management, the accompanying balance sheets and related
interim statements of operations, comprehensive income and cash flows include
all adjustments (which include reclassifications and normal recurring
adjustments) necessary to present fairly the financial position and results of
operations and cash flows at September 30, 2000 and for all periods presented.
Preparing financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses. Actual results may differ from these estimates. Interim results
are not necessarily indicative of results for a full year. The information
included in this Form 10-Q should be read in conjunction with Management's
Discussion and Analysis and financial statements and notes thereto included in
the Fortune Financial, Inc. 1999 10-K.
Certain amounts in prior years' financial statements have been reclassified to
conform to the 2000 presentation.
Note 2. Prior Period Adjustment
--------------------------------
Beginning retained earnings for the period ended September 30, 1999 has been
reduced by $996,283 from its previously reported amount of $32,804,098 to
correct an error in applying the minimum ceding commission rate on one of
Fortune Insurance Company's quota share reinsurance agreements during 1996. The
impact of this adjustment was reported in the Company's 1999 10-K Report.
Note 3 Credit Agreement
------------------------
The Company has a Credit Agreement with SouthTrust Bank with a remaining
principal balance at September 30, 2000 of $3.2 million. The Company resolved
its issues with SouthTrust Bank through September 30, 2000 over certain
financial covenants, with the Company agreeing to pay down the principal balance
by $200,000 per month instead of by $600,000 per quarter. The balance of the
loan as of November 10, 2000 is $2.8 million.
-8-
<PAGE>
Fortune Financial, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Note 4. Earnings (Loss) Per Share
----------------------------------
Basic earnings (loss) per share is computed based on the weighted average number
of common shares outstanding during the period. Diluted earnings (loss) per
share presents the dilutive effect of options using the treasury stock method.
<TABLE>
Quarters Ended September 30 Nine Months Ended September 30
--------------------------- ------------------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C>
Numerator:
Loss available to common
shareholders ($1,434,380) ($2,296,982) ($6,348,063) ($5,799,322)
============ ============ ============ ============
Denominator:
Basic per share
weighted average shares 7,467,542 7,167,542 7,467,542 7,167,542
Effect of dilution:
Employee stock options 0 0 0 0
- - - -
Diluted per share adjusted weighted
average shares and assumed conversions 7,467,542 7,167,542 7,467,542 7,167,542
========== =========== =========== ==========
Basic loss per share ($0.19) ($0.32) ($0.85) ($0.81)
======= ======= ======= =======
Diluted loss per share ($0.19) ($0.32) ($0.85) ($0.81)
======= ======= ======= =======
</TABLE>
-9-
<PAGE>
Fortune Financial, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Note 5. Business Segments
--------------------------
The Company and its subsidiaries operate exclusively in Florida within
principally six business segments: automobile insurance, excess and surplus
lines property insurance, fee for service administration, premium finance,
corporate and other miscellaneous. The automobile insurance segment sells
personal lines automobile insurance through independent insurance agents
primarily in south Florida. The excess and surplus lines segment writes
specialized property insurance coverage. The Company has not written any new
excess and surplus line policies during 2000 due to the current high cost of
reinsurance. The fee for service segment contracts as a servicing carrier for
the Florida Residential Property and Casualty Joint Underwriting Association,
the Florida Automobile Joint Underwriting Association and as a subcontractor for
Policy Management Systems Corporation performing various underwriting and claims
administration services for a fee. This segment is currently in run-off. The
premium finance segment finances policies written through the Company's
insurance subsidiaries; the operating activities of this segment have been
transferred to a third party under a joint venture agreement. The corporate
segment includes home office revenues and assets that are not specific to any
particular segment. The other category is attributable to a life insurance
company and other small inactive companies that do not meet the quantitative
thresholds for a separate segment.
Management evaluates performance and allocates assets based on the separate
entities owned by the Company. The reportable segments are business units that
offer different products or services. The reportable segments are each managed
separately. The following schedule presents segment revenues and profit (loss)
before taxes for the three and nine months ended September 30, 2000 and 1999 and
assets by operating segment at September 30, 2000 and December 31, 1999. The
reconciling items for assets include adjusting available for sale securities to
market value and the reclassification of reinsurance recoverable balances and
the elimination of intercompany holdings.
-10-
<PAGE>
<TABLE>
Fortune Financial, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Note 5. Business Segments (continued)
-------------------------------------
Quarters Ended September 30 Nine Months Ended September 30
--------------------------- ------------------------------
2000 1999 2000 1999
---- ---- ---- ----
Segment revenues:
<S> <C> <C> <C> <C>
Automobile insurance $5,759,088 $7,416,065 $17,430,639 $25,074,967
Excess and surplus lines insurance 492,136 1,641,896 2,002,060 3,594,251
Fee for service 17,910 384,631 102,243 1,412,015
Corporate (11,934) 151,629 170,472 496,989
Premium finance (1,758) (971,600) 68,019 (834,006)
Other 35,611 61,630 200,439 170,116
-------------- ------------------- ------------------- --------------
Total segment revenues $6,291,053 $8,684,251 $19,973,872 $29,914,332
Intercompany eliminations (1,869) 231 30,732 71,379
-------------- ------------------- ------------------- --------------
Total consolidated revenues $6,289,184 $8,684,482 $20,004,604 $29,985,711
============== =================== =================== ==============
Segment profit (loss) before taxes:
Automobile insurance ($2,875,645) ($2,863,380) ($9,978,051) ($8,991,851)
Excess and surplus lines insurance 388,818 327,937 305,774 967,661
Fee for service (25,030) (45,589) (243,869) 296,733
Corporate 177,822 (188,742) (446,640) (987,525)
Premium finance (16,789) (1,051,545) (35,767) (1,093,781)
Other 73,297 27,642 162,090 68,019
-------------- ------------------- ------------------- --------------
Total consolidated profit(loss)
before tax ($2,277,527) ($3,793,677) ($10,236,463) ($9,740,744)
============== =================== =================== ==============
</TABLE>
-11-
<PAGE>
Fortune Financial, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Note 5. Business Segments (continued)
-------------------------------------
September 30,2000 December 31,1999
--------------------------------------
Segment assets:
Automobile insurance $58,847,593 $52,065,243
Excess and surplus lines insurance 7,466,067 10,316,250
Fee for service 105,063 3,863,040
Corporate 21,507,869 30,258,990
Premium finance 295,333 1,030,189
Other 1,776,850 3,468,619
------------------ ------------------
Total segment assets $89,998,775 $101,002,331
GAAP adjustments & reclassifications 19,775,746 38,992,962
Intercompany eliminations (45,247,508) (49,843,619)
------------------ ------------------
Total consolidated segment assets $64,527,013 $90,151,674
================== ==================
Note 6. Regulatory Restrictions
--------------------------------
The Company's Fortune Insurance Company subsidiary ("Fortune") had statutory
surplus at September 30, 2000 of $0.7 million. Under Florida statutes, Fortune
must maintain minimum surplus in 2000 of $2.5 million. The Company anticipates
contributing funds in the form of a surplus note sufficient to bring Fortune's
surplus above the minimum prior to filing Fortune's third quarter statement with
the Department of Insurance. In addition, the Company continues to work on a
capital plan to significantly increase Fortune's surplus prior to year-end. The
components of that plan include the potential sale of its Fortune Life Insurance
Company and Pegasus Insurance Company subsidiaries, as well as a potential
additional equity investment by one or more strategic investment partners. The
Company expects to successfully conclude its capital plan prior to year-end.
-12-
<PAGE>
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations
------------------------------------------------
Forward-Looking Statements
--------------------------
Statements made in this Form 10-Q, including those relating to future cash flow,
management of the Company's investment portfolio, arbitration proceedings, the
adequacy of loss reserves, increasing earned premium and the Company's capital
plan are forward-looking within the meaning of Section 21E of the Securities
Exchange Act of 1934, as amended, and are made pursuant to the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. Such
statements may use words such as "believes", "expects", "intends", "may",
"will", "should", "anticipates", or the negative forms of those words, and
describe strategies, goals and expectations of future results involving risks
and uncertainties which may cause actual results to differ materially from those
set forth. Among other things, an increase in future cash flow is based upon
expectations that current trends in new business volume / pricing and claims
settlement that the Company is experiencing will continue; the Company's opinion
on the settlement of arbitration proceedings is based upon facts as it knows and
interprets them; the adequacy of loss reserves is based upon extrapolations of
current experience which may or may not be repeated in the future; estimates of
increasing earned premium are based upon the Company's expectation that it will
be able to maintain its volume momentum, pricing structure and policy
cancellation patterns; and estimates of increased capital through the
implementation of the capital plan are based upon the Company's assessment of
the level of investor interest in the Company. In addition to the factors set
forth elsewhere in this Form 10-Q, the economic, competitive, governmental,
weather-related and other factors identified in the Company's 1999 Form 10-K
filed with the Securities and Exchange Commission could affect the forward
looking statements contained in this Form 10-Q. The Company disclaims any intent
or obligation to update publicly these forward-looking statements, whether as a
result of new information, future events or otherwise.
Financial Condition
-------------------
Cash flow from operations continued to be negative during the third quarter.
During the quarter the Company paid $3.7 million to reinsurers under the terms
of its reinsurance treaties. The Company's new treaties effective April 1, 2000
are not structured on a funds withheld basis. As a result, cash flow in the
third quarter remained negatively impacted as premiums were remitted to
reinsurers in advance of remittance back to the Company for losses paid. While
the Company will continue to remit ceded premiums in advance of receiving
reimbursements for ceded losses, the heaviest net cash drain on the Company is
subsiding as reimbursements for ceded losses begin to be received. Similar to
the first six months of the year, the third quarter's cash inflow from new
-13-
<PAGE>
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations (continued)
------------------------------------------------------------
policies (net of cancellations) continued to average $3.2 million per month and
cash outflow to pay claims continued to average $4.3 million per month. Claims
payment outflows are outpacing new policy inflows as the inventory of claims
continues to shrink. Claims inventory is down 6% from the end of the second
quarter to the end of the third quarter, and is down 27% since the end of 1999.
The Company's investment portfolio consists almost entirely of high-grade bonds.
During the third quarter the Company outsourced the management of its investment
portfolio to a company that specializes in managing investment portfolios for
insurance companies. The Company believes that the quality and consistency of
the management of its portfolio, as well as the investment returns achieved,
will be enhanced by this outsourcing.
The Company has historically reinsured a substantial portion of its private
passenger automobile insurance business, including approximately 75% of such
business in 1998 and 60% of such business in 1999 and the first quarter of 2000.
Effective April 1,2000 the Company reduced the amount of its private passenger
automobile insurance business reinsured to 40%. The Company is currently
involved in an arbitration proceeding with a reinsurer who reinsured the
Company's private passenger automobile business under quota share treaties from
1985 to 1998. The Company has a receivable from the reinsurer in the amount of
$8.8 million, and, along with its legal and reinsurance advisors, firmly
believes that it is owed the full amount of the receivable. The Company is
vigorously pursuing recovery of the amount owed, as well as interest and
damages. The organizational meeting for the arbitration took place in September,
and the arbitration panel has set a hearing date of May 2001.
Private passenger automobile reserve strengthening in the third quarter related
to prior accident quarters amounted to less than $0.4 million. This was down
significantly from the first two quarters of the year, which included prior
quarters' reserve strengthening of over $3.7 million. The Company believes that
adverse loss development has now begun to abate, as policies written by agents
the Company canceled over the past year begin to expire.
The Company has a Credit Agreement with SouthTrust Bank with a remaining
principal balance at September 30, 2000 of $3.2 million. The Company resolved
its issues with SouthTrust Bank through September 30, 2000 over certain
financial covenants, with the Company agreeing to pay down the principal balance
by $200,000 per month instead of by $600,000 per quarter. The balance of the
loan as of November 10, 2000 is $2.8 million.
-14-
<PAGE>
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations (continued)
------------------------------------------------------------
The Company's Fortune Insurance Company subsidiary ("Fortune") had statutory
surplus at September 30, 2000 of $0.7 million. Under Florida statutes, Fortune
must maintain minimum surplus in 2000 of $2.5 million. The Company anticipates
contributing funds in the form of a surplus note sufficient to bring Fortune's
surplus above the minimum prior to filing Fortune's third quarter statement with
the Department of Insurance. In addition, the Company continues to work on a
capital plan to significantly increase Fortune's surplus prior to year-end. The
components of that plan include the potential sale of its Fortune Life Insurance
Company and Pegasus Insurance Company subsidiaries, as well as a potential
additional equity investment by one or more strategic investment partners. The
Company expects to successfully conclude its capital plan prior to year-end.
Results of Operations
---------------------
The Company recorded net earned premiums of $5.3 million in the third quarter of
2000, down 24% from the third quarter of 1999. Year-to-date net earned premiums
of $16.6 million exhibited a similar decline from the first nine months of 1999.
The decline in net earned premium in 2000 reflects in large part the result of
the Company's initiative to terminate the unprofitable portion of its
independent agency base. Policies are currently being written through
approximately 500 independent agents, less than one-third the number of agents
in place a year ago. The Company terminated relationships with the other
two-thirds primarily as a result of unacceptable loss ratios incurred on
business written by those agents. During the first nine months of 2000 the
Company wrote approximately 74,000 new private passenger automobile policies
compared with approximately 139,000 during the comparable period of 1999.
The impact on earned premium from the decline in the number of policies written
was offset somewhat by a reduction in the amount of business reinsured under
quota share agreements; effective April 1, 2000, the Company reduced the
percentage of its private passenger auto business ceded from 60% to 40%. Between
September 1999 and September 2000, the Company's average written premium per new
business private passenger auto policy increased by 50%, further mitigating the
impact of the decline in the number of policies written. Most of this increase
in rate has occurred as a result of rate increases implemented March 1, 2000 and
June 1, 2000, and will positively impact earned premium more substantially over
the next several quarters. The Company has implemented another rate increase
effective November 1, 2000, which, given the Company's current mix of coverages,
raises average rates on new business private passenger automobile policies by
almost 19%.
Fee income equaled $2.2 million in the first nine months of 2000, down $1.8
million from the same period last year. The Company's fee income is generated
primarily from policy fees assessed at the time of policy issuance, and
therefore varies in direct
-15-
<PAGE>
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations (continued)
------------------------------------------------------------
relation to the number of policies written. During the fall of 1999 the Company
stopped servicing new policies for both the Florida Residential and Auto Joint
Underwriting Associations as those books of business became too small to
profitably service. Income for servicing remaining existing policies totaled
only $15,000 in the third quarter of 2000 and will cease by the end of the year.
Investment income declined to $333,000 in the third quarter of 2000, compared to
$820,000 for the comparable period a year earlier. The Company recorded $34,000
in net gains on investments during the third quarter of 2000.
The Company's loss and loss adjustment expenses for the third quarter and first
nine months of 2000 were down $1.1 million and $6.4 million, respectively, from
the same periods a year ago, both declines reflecting the reduced volume of
business. In July 2000 the Company settled a reinsurance dispute with Everest
Re, resulting in a write-off of $1.9 million in ceded reinsurance receivables in
the second quarter. Without the impact of the Everest Re settlement, loss and
loss adjustment expenses for the nine months ended September 30, 2000 would have
been down $8.3 million from the same period in 1999.
For the third quarter of 2000 policy acquisition costs were $1.8 million lower
than the third quarter of 1999, and for the first nine months of 2000 were $2.6
million lower than 1999's comparable period. The decrease was a result of the
decreased volume of business, as well as the changes made to ceding commissions
in the new reinsurance treaties. Policy acquisition costs represent the
commissions paid by the Company to its agents, offset by ceding commission
credits received by the Company from its reinsurers. Under the Company's old
reinsurance treaties, which terminated on March 31, 2000, ceding commission
credits adjusted over time depending upon changes in loss ratios of the
underlying business ceded. Under the new reinsurance treaties ceding commissions
are not adjusted based upon loss ratios. As changes in loss ratios under the old
treaties stabilize through development, the sizeable quarterly fluctuations
reported for these costs will not reoccur.
Salaries and wages of $4.8 million in the first nine months of 2000 were
$179,000 lower than during the same period in 1999, and were $107,000 lower in
the third quarter of 2000 compared to the third quarter of 1999. Voluntary and
involuntary staff reductions over the course of the last 12 months have reduced
expenses, offset by general salary and wage increases for remaining employees.
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<PAGE>
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations (continued)
------------------------------------------------------------
Third quarter 2000 general and administrative expenses of $1.9 million were down
$779,000 from the third quarter of 1999, primarily due to a $500,000 write-off
of premium receivable balances reported during the third quarter of 1999. For
the first nine months of 2000, general and administrative expenses totaled $6.3
million, approximately equal to last year's first nine months.
Interest expense continued to decline as the Company made further principal
payments on its loan with SouthTrust Bank.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
----------------------------------------------------------
Market risk is the risk of potential loss in fair value of financial instruments
arising from adverse fluctuations in interest rates, market rates and prices,
foreign currency exchange rates, and other relevant market rate or price
changes.
The Company's exposure to market risk in interest rates is concentrated in its
investment portfolio and to a lesser extent in its debt obligation. There have
been no material changes in the Company's exposure to market risk since December
31, 1999.
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<PAGE>
Part II
Other Information
-----------------
Item 6. Exhibits and Reports on Form 8-K
-----------------------------------------
(a) Exhibits:
11. Unaudited computations of earnings per share.
27. Financial Data Schedule (electronic filing only)
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<PAGE>
Signatures
Pursuant to the requirements of the Securities Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
Fortune Financial, Inc.
Registrant
November 14, 2000 By /s/ Mark P. Brockelman
----------------- ----------------------------
Date Mark P. Brockelman
Vice President and Chief
Financial Officer
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