AUDITED FINANCIAL STATEMENTS Ardellis Insurance Ltd. Years Ended December 31,2016 and December 26, 2015 With Report of Independent Auditors
Audited Financial Statements Years Ended December 31, 2016 and December 26, 2015 Contents Report of Independent Auditors... 1 Audited Financial Statements Balance Sheets... 2 Statements oflncome... 3 Statements of Changes in Shareholder's Equity... 4 Statements of Cash Flows... 5... 6
REPORT OF INDEPENDENT AUDITORS The Shareholder and Board of Directors Ardellis Insurance Ltd. We have audited the accompanying financial statements of Ardellis Insurance Ltd., which comprise the balance sheets as of December 31, 2016 and December 26, 2015, and the related statements of income, changes in shareholder's equity, and cash flows for the years then ended, and the related notes to the financial statements. Management's Responsibility for the Financial Statements Management Is responsible for the preparation and fair presentation of these financial statements in conformity with United States generally accepted accounting principles; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free of material misstatement, whether due to fraud or error. Auditor's Responsibility Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor's judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity's preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity's internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Opinion I n our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Ardellls Insurance Ltd. at December 31, 2016 and December 26, 2015, and the results of its operations and its cash flows for the years then ended in conformity with United States generally accepted accounting principles. i)jo",*.. \..~. March 31, 2017
Balance Sheets (Expressed in United States Dollars) December 31, December 26, 2016 2015 Assets Cash and cash equivalents $ 18,523,714 $ 17,241,189 Marketable securities (Note 3) 10,347,976 6,822,176 Factored receivables (Note 4) 22,772,295 20,259,984 Due from Parent (Note 5) 16,058,812 16,040,521 Insurance balances receivable 6,184,119 5,347,690 Deferred tax asset (Note 8) 958,937 1,139,058 Loss escrow funds & prefunded claims (Note 6) 400,000 400,000 Prepaid expenses 17,214 14,507 $ 75,263,067 $ 67,265,125 Liabilities Reserve for losses and loss expenses (Note 7) $ 23,063,092 $ 23,110,243 Reserve for unearned premiums 4,989,167 4,185,278 Income tax payable (Note 8) 2,692,488 1,182,019 Accounts payable and accrued liabilities 484,812 88,924 -- 31,229,559 28,566,464 Shareholder's equity Share capital (Note 10) 120,000 120,000 Additional paid-in capital 2,820,000 2,820,000 Retained earnings 40,862,973 35,798,922 Accumulated other comprehensive income/(loss) (Note 9) (Net of tax of$124,134 (2015:($21,679)) 230,535 (40,261) 44,033,508 38,698,661 $ 75,263,067 $ 67,265,125 See accompanying notes. On behalf of the Board: Director 2
Statements of Income (Expressed in United States Dollars) December 27, December 28, 2015 to 2014to December 31, December 26, 2016 2015 Premiums written $ 20,891,039 $ 18,855,862 Change in reserve for unearned premiums (803,889) (698,705) Premiums earned 20,087,150 18,157,157 Losses and allocated expenses (Note 7) (12,355,038) (14,797,801) Net underwriting income 7,732,112 3,359,356 Other income and expenses Net interest income (Notes 4 and 5) 1,002,385 893,996 Net investment income (Notes 3} 162,686 12,929 General and administrative expenses (1,106,335) (1,061,208) Income before income tax expense 7,790,848 3,205,073 Federal income tax expense (Note 8) (2, 726, 797) (1,121,775) Net income $ 5,064,051 $ 2,083,298 See accompanying notes. 3
Statements of Changes in Shareholder's Equity (Expressed in United States Dollars) Accumulated Additional Other Share Paid-in Retained Comprehensive Ca12ital Canital Earnings lncome/(loss l Total Balance, Uecember 21:!, 2014 $ 120,000 $ 2,820,000 $ 33,715,624 $. $ 36,655,624 Net income for the year 2,083,298 2,083,298 Net unrealized losses on marketable securities (net of tax benefit of$21,679) (40,261) (40,261) Balance, December26, 2015 120,000 2,820,000 35,798,922 (40,261) 38,698,661 Net income for the year 5,064,051 5,064,051 Net unrealized losses on marketable securities (net of tax expense of$124,134) 270,796 270,796 Balance, December 31, 20 16 $ 120,000 $ 2,820,000 $ 40,862,973 $ 230,535 $ 44,033,508 See accompanying notes. 4
Statements of Cash Flows (Expressed in United States Dollars) December 27, December 28, 2015 to 2014 to December 31, December 26, 2016 2015 Operating activities Net income $ 5,064,051 $ 2,083,298 Adjustments to reconcile net income to net cash flows provided by operating activities: Realized investment (gains)/losses (7,845) 33,815 Increase in insurance balances receivable (836,429) (1,083,819) Decrease/(increase) in deferred tax asset 34,308 (60,244) Increase in prepaid expenses (2,707) (1,037) (Decrease)/increase in reserve for loss expenses (47,151) 3,182,161 Increase in reserve for unearned premiums 803,889 698,705 Increase/( decrease) in income tax payable 1,510,469 (647,751) Increase/( decrease) in accounts payable and accrued liabilities 395,888 (19,347) Cash flows provided by operating activities 6,914,473 4,185,781 Investing activities Net (increase)/decrease in factored receivables (2,512,311) (641,567) (Increase)/decrease in due from Parent (18,291) (1,624) Decrease in loans receivable 3,028,126 Purchases of marketable securities (5,672,103) (7,997,088) Sales of marketable securities 2,570,757 1,079,157 Cash flows used in investing activities (5,631,948) (4,532,996) Net (decrease)/increase in cash and cash equivalents 1,282,525 (347,215) Cash and cash equivalents, beginning of year 17,241,189 17,588,404 --- Cash and cash equivalents, end of year $ 18,523,714 $ 17,241,189 Supplemental disclosure of cash flow information Cash paid during the year for: Income tax $ 1,182,020 $ 1,629,529 See accompanying notes. 5
December 31, 2016 and December 26, 2015 1. Operations Ardellis Insurance Ltd. (the Company) was incorporated on April21, 2001, under the laws of Bermuda and is licensed as a Class 3A insurer under the Insurance Act 1978 of Bermuda. The Company is wholly-owned by Universal Forest Products, Inc. (the Parent), a company incorporated in the state of Michigan, United States of America. During 2011, the Company changed its name from UFP Insurance Ltd. to Ardellis Insurance Ltd. The Company currently provides coverage for medical stop loss, general liability, automobile liability, property, workers' compensation, professional liability, and environmental liabilities of the Parent and its subsidiaries and third parties (approximately 35% of total related party business). The Board of Directors approved the Company's fiscal year end to end on the last Saturday closest to December 31 calendar year. As a result, the year-end date fluctuates from year to year by one or more days. 2. Significant Accounting Policies These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP), which requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues, and expenses during the reporting period. Actual results could differ from those estimates. The following are the significant accounting policies adopted by the Company. Cash and Cash Equivalents The Company considers all time deposits and highly liquid debt investments purchased with an original maturity of ninety days or less as cash and cash equivalents. Investments The Company's investments are deemed to be "available for sale" and are, accordingly, carried at fair value being the quoted market value. Unrealized investment gains or losses, net of deferred taxes, are reported as a separate component of comprehensive income or loss until sold. 6
December 31, 20 16 and December 26, 2015 2. Significant Accounting Policies (Continued) Reserve for Losses and Loss Expenses Reserve for the provision for unsettled, reported losses is based on estimates of the final settlement. The provision for losses incurred but not reported is based upon a review of the past loss experience estimates of management and actuarial evaluation. The fmal settlement oflosses may be materially greater or less than amounts provided. Any such differences, when they become known, will be recognized in current operations. Fair Value of Financial Instruments Fair value disclosures with respect to certain financial instruments (as defmed by Accounting Standards Codification (ASC) 825, Financial Instruments) are included separately herein where appropriate. The carrying values of other financial instruments approximate their fair values due to the short-term nature of the balances. These include due from parent, loans receivable, factored receivables, insurance balance receivable, loss escrow funds, income tax payable, and accounts payable and accrued liabilities. Premiums Premiums written are recognized on a pro rata basis over the terms of the policies. Premiums written that relate to future periods are reflected as unearned premiums. The Company may examine and audit the Parent's books and records at any time during a policy period and within five years after the final termination date of a policy. Any resulting adjustment to premium is reflected in the period they become known. Interest Income Interest income comprises income earned on cash and cash equivalents, common stock, marketable securities, factored receivables, amounts due from parent, and loans receivable. 7
December 31,2016 and December 26,2015 2. Significant Accounting Policies (Continued) Income Taxes The Company has elected to be treated as a United States of America domestic insurance company for United States of America federal income tax purposes. The Company records its income tax liability and deferred tax assets in accordance with ASC 740, Income Taxes. The Company records deferred income taxes, which reflect the net tax effect of the temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. A valuation allowance is recognized, if based on the weight of available evidence, it is more likely than not, that some portion or all of the deferred tax asset will not be recognized. New Accounting Standards New Accounting Standards -Adopted Going Concern In August 2014, the FASB issued Accounting Standards Update 2014-15, Presentation of Financial Statements-Going Concern (Subtopic 205-40)- "Disclosure of Uncertainties about an Entity's Ability to Continue as a Going Concern" (" ASU 20 14-15"). ASU 20 14-15 provides new guidance on management's responsibility to evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the entity's ability to continue as a going concern within one year after the date that the financial statements are issued. If conditions are identified, the ASU requires management to disclose mitigating plans to alleviate the doubt or a statement of the substantial doubt about the entity's ability to continue as a going concern. The accompanying fmancial statements and notes have been prepared have been prepared in conformity with GAAP, assuming that the Company will continue as a going concern. No conditions have been identified which raise doubt about the Company's ability to continue as a going concern. 8
December 31, 2016 and December 26, 2015 2. Significant Accounting Policies (Continued) New Accounting Standards-Not yet Adopted Revenue tram Contracts with Customers In May 2014, the FASB issued Accounting Standards Update 2014-09, "Revenue from Contracts with Customers" ("ASU 2014-09"). ASU 2014-09 provides a framework, through a five-step process, for recognizing revenue from customers, improves comparability and consistency of recognizing revenue across entities, industries, jurisdictions and capital markets, and requires enhanced disclosures. Certain contracts with customers are specifically excluded from the scope of ASU 2014-09, including; amongst others, insurance contracts accounted for under Accounting Standard Codification 944, Financial Services - Insurance. ASU 2014-09 is effective on January 1, 2017 with retrospective adoption required for the comparative periods. The Company is currently assessing the impact the adoption of ASU 2014-09 will have on future financial statements and related disclosures. Financial Services -Insurance: Disclosures about Short-Duration Contracts In May 2015, the FASB issued Accounting Standards Update 2015-09, "Financial Services - Insurance (Topic 944): Disclosures about Short-Duration Contracts" ("ASU 2015-09"). ASU 2015-09 provides enhanced disclosures, on an annual basis, related to the reserve for losses and loss expenses. The enhanced disclosures required by ASU 2015-09 include (1) net incurred and paid claims development information by accident year, (2) a reconciliation of incurred and paid claims development information to the aggregate carrying amount of the reserve for losses and loss expenses, (3) for each accident year presented of incurred claims development information, the total of reserves for incurred but not reported (IBNR), including expected development on reported claims, included in the reserve for losses and loss expenses and a description of the reserving methodologies and changes to the reserving methodologies, and (4) for each accident year presented of incurred claims development information, quantitative information about claims frequency, as well as a description of methodologies used for determining claim frequency information. ASU 2015-09 is effective for annual periods beginning after December 15, 2016. The Company is currently assessing the impact the adoption of ASU 2014-09 will have on future financial statements and related disclosures. Statement of Cash Flows Classification of certain cash receipts and cash payments In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows- Classification of Certain Cash Receipts and Cash Payments. This ASU provides updated guidance on eight specific cash flow issues to reduce diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. This guidance is effective for annual periods beginning after December 15, 2017, and interim periods within those fiscal years with early adoption permitted. The Company is currently assessing the impact this guidance will have on future fmancial statements and related disclosures. 9
December 31, 2016 and December 26, 2015 2. Significant Accounting Policies (Continued) Restricted Cash In November 2016, FASB issued ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash, which addresses diversity in practice related to the classification and presentation of changes in restricted cash on the statement of cash flows. ASUNo. 2016-18 will require that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. ASU No. 2016-18 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017. Early adoption is permitted. The Company is currently assessing the impact the adoption of ASU No. 2016-18 will have on future fmancial statements and related disclosures. Financial Instruments In January 2016, the F ASB issued Accounting Standards Update 2016-01, "Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities" ("ASU 2016-01 "), which requires equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. The guidance is effective for interim and annual periods beginning after December 15,2017. Early adoption is permitted. The Company is currently assessing the impact the adoption of ASU No. 2016-01 will have on future financial statements and related disclosures. Credit losses In June 2016, the FASB issued a new credit loss standard that changes the impairment model for most financial assets and certain other instruments. The guidance will replace the current "incurred loss" approach with a more forward looking "expected loss" model for instruments measured at amortized cost and will require entities to record allowances for available-for-sale debt securities rather than reduce the carrying amount. This guidance is effective for annual periods beginning after December 15, 2019, and interim periods within those fiscal years. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods within those fiscal years. The Company is currently assessing the impact this guidance will have on future fmancial statements and related disclosures. 10
December 31, 2016 and December 26, 2015 3. Investments The cost/amortized cost and estimated fair market value of the Company's investments as at December 31, 2016 and December 26, 20 15, are as follows. As of December 31,2016: Cost/ Gross Gross Estimated Amortized Unrealized Unrealized Fair Cost Gains Losses Value Mutual funds $ 481,003 $ $ (9,389) $ 471,614 Corporate bonds 1,519,652 (10,772) 1,508,880 U.S. Government bonds 2,811,703 (53,127) 2,758,576 Domestic stock 4,885,616 440,350 5,325,966 International stock 295,334 (12,394) 282,940 Total $ 9,993,308 $ 440,350 $ (85,682) $ 10,347,976 As of December 26, 2015: Gross Estimated Amortized Unrealized Unrealized Fair Cost Gains Losses Value Mutual funds $ 355,789 $ $ (3,106) $ 352,683 Corporate bonds 1,294,387 6,710 1,301,097 U.S. Government bonds 1,816,811 1,455 1,818,266 Domestic stock 3,238,798 (66,999) 3,171,799 International stock 178,331 178,331 Total $ 6,884,116 $ 8,165 $ (70,105) $ 6,822,176 The Company's marketable securities consist of a portfolio of common stock and fixed income securities in a variety of industry sectors managed by Merrill Lynch. Fixed Income investments consist of short, intermediate, and long term bonds, as well as fixed blend bonds. Within the fixed income investments, there is a specific mixture of US treasury notes, US agency mortgage backed securities, private label mortgage backed securities, and various corporate securities. Equity funds investments consist of small, mid, and large cap growth and value funds, as well as international equity. The Company reported a net pre-tax unrealized gain of$354,668 (2015: unrealized loss of$61,940). 11
December 31, 2016 and December 26, 2015 3. Investments (Continued) The following table swnmarizes available for sale securities in an unrealized loss position and the aggregate fair value and gross unrealized loss by length of time the security has continuously been in an unrealized loss position for more than 12 months for 2016. There were no investment balances at December 27, 2014; therefore, there were no securities in an unrealized loss position for more than 12 months for 20 15. In evaluating credit losses, the Company considers a variety of factors in the assessment of a security including: (1) the time period during which there has been a significant decline below cost; (2) the extent of the decline below cost and par; (3) the potential for the security to recover in value; (4) an analysis of the financial condition of the issuer; (5) the rating of the issuer; and (6) failure of the issuer of the security to make scheduled interest or principal payments. Based on the factors described above, the Company determined that no credit losses existed for the Company's investments in debt securities. The amortized cost and estimated fair values of debt securities classified as available for sale as at December 31, 2016 and December 26,2015 by contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. As of December 31,2016: Amortized Cost Estimated Fair Value Due in one year or less $ 365,406 $ 386,666 Due after one year through five years 1,668,371 1,652,313 Due after five years through ten years 1,245,949 1,221,111 Due after ten years 1,051,629 1,007,366 Debt securities $ 4,331,355 $ 4,267,456 As of December 26,2015 Amortized Cost Estimated Fair Value Due in one year or less $ 426,740 $ 442,425 Due after one year through five years 1,215,085 1,212,656 Due after five years through ten years 889,634 887,549 Due after ten years 579,739 576,733 Debt securities $ 3,111,198 $ 3,119,363 12
December 31,2016 and December 26, 2015 3. Investments (Continued) Major categories of net investment income are summarized as follows: 2016 2015 Interest Dividends Net realized gains/(losses) Investment expenses $ 88,578 137,080 7,845 (70,817) $ 32,761 37,141 (33,815) (23,158) Net investment income $ 162,686 $ 12,929 Fair value measurement The Company follows ASC Topic 820, Fair Value Measurements and Disclosures, which provides a consistent definition of fair value, focuses on exit price, prioritizes the use of market-based inputs over entity-specific inputs for measuring fair value and establishes a three-tier hierarchy for fair value measurements. This topic requires fair value measurements to be classified and disclosed in one of the following three categories: Levell: Financial instruments with unadjusted, quoted prices listed on active market exchanges. Level 2: Financial instruments lacking unadjusted, quote prices from active market exchanges, including over-the-counter traded financial instruments. Financial instrument values are determined using prices for recently traded financial instruments with similar underlying terms and direct or indirect observational inputs, such as interest rates and yield curves at commonly quoted intervals. Level3: Financial instruments not actively traded on a market exchange and there is little, if any, market activity. Values are determined using significant and unobservable inputs or valuation technologies. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement of the asset or liability. The Company's assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and the Company considers factors specific to the asset or liability. 13
December 31, 2016 and December 26, 2015 3. Investments (Continued) The Company reviews its investments measured at fair value and discusses the proper classification of such investments with its investment advisors. The Company's review process includes, but is not limited to initial and ongoing evaluation of methodologies used by outside parties to calculate fair value, where information is available, which includes selecting securities sold and comparing the executed prices to the fair value estimates from the pricing services. The Company values its investments using published market prices. Fair value measurement Below is a summary of the financial instruments that are measured at fair value on a recurring basis at December 31,2016 and December 26,2015. As of December 31,2016: Levell Level2 Level3 Total Mutual funds $ $ 471,614 $ $ 471,614 Corporate bonds 1,508,880 1,508,880 U.S. Government bonds 1,675,721 1,082,855 2,758,576 Domestic stocks 5,325,966 5,325,966 International stocks 282,940 282,940 Total $ 7,284,627 $ 3,063,349 $ $ 10,347,976 As of December 26, 2015: Levell Level2 Level3 Total Mutual funds $ $ 352,683 $ $ 352,683 Corporate bonds 1,301,097 1,301,097 U.S. Government bonds 1,818,266 1,818,266 Domestic stocks 2,933,599 238,200 3,171,799 International stocks 178,331 178,331 Total $ 3,111,930 $ 3,710,246 $ $ 6,822,176 14
December 31,2016 and December 26, 2015 4. Factored Receivables On October 14, 2008, the Company entered into a Program for Accounts Receivable Transfer Agreement with a related company and the Parent. As of December 31, 2016, the Company had $22,772,295 (December 26, 2015- $20,259,984) of receivables purchased and outstanding under the agreement. This receivable is recorded based on the face value of the receivables purchased less an agreed dilution percentage based on historical performance and is recorded net ofprepaid interest of$49,481 (December 26, 2015- $39,274). Under the terms of this arrangement, the Company purchases specific receivables, on a non-recourse basis, from the related company at an agreed-upon price at terms ranging from one month to one year; the related company services the receivables sold and outstanding on behalf of the Company at a rate of 0.50%; and the maximum amount of receivables that may be outstanding at any point in time under this arrangement is $30,000,000. A servicing fee for the year ended December 31, 2016 amounts to $130,663 (December 26, 2015- $118,463), which is recorded in net interest income in the statement of income. The Company assesses the collectability of the receivables purchased regularly and an allowance for doubtful accounts is recorded as needed. There was no allowance recorded as at December 31, 2016 or December 26,2015. 5. Due From Parent The Company entered into a revolving line of credit agreement with variable interest rates with the Parent and includes a loan established on September 1, 2007, amounting to $15,000,000, accruing interest based on the 90 day Libor rate on the date of inception, plus 1%. This agreement was revised on June 23, 2011. According to new terms, the Parent can borrow up to $16,000,000, as a term loan of $8,000,000, accruing interest at the rate of 4.0% compounded annually and a revolving line of credit with a limit of$8,000,000, accruing interest based on the 90 day Libor rate on the date of inception, plus 1.25%. This agreement can be closed at any time at the mutual will of parties. The current amount outstanding on the notes as of December 31, 2016 is $16,058,812 (December 26,2015 ~ $16,040,521), which also includes accrued interest in the amount of $58,812 (December 26, 2015 - $40,521). 6. Loss Escrow Funds As at December 31, 2016, loss escrow funds amounted to $61,650 (December 26, 2015 ~ $337,258) and prefunded claims of $338,350 (December 26, 2015 - $62,742). These funds represent amounts paid as a guarantee for losses and loss expenses paid by the claims handler on behalf of the Company. 15
December 31,2016 and December 26, 2015 7. Reserve for Losses and Loss Expenses The activity in the reserve for losses and loss expenses is summarized as follows: December 31, 2016 Balance, beginning of year $ 23,110,243 Incurred related to: Current year 10,281,516 Prior years 2,073,522 Total incurred 12,355,038 Paid related to: Current year (3,200,376) Prior years (9,201,813) Total paid (12,402,189) Net balance, end of year $ 23,063,092 December 26, 2015 $ 19,928,082 8,205,957 6,591,844 - ---- 14,797,801 (2,748,464) (8,867,176) (11,615,640) $ 23,110,243 Open claims, and reserves associated with any liability are reviewed, and assessed by management on a case by case basis throughout the year. These reserves are adjusted accordingly based on the best information available at that time. Inherent in estimates oflosses are expected trends in claim severity, and frequency, and other factors, which could vary significantly as claims are settled. The outcome of these matters is not presently determinable. Accordingly, ultimate losses may differ materially from the amounts provided in the fmancial statements, and potential variations in the estimates could have a significant effect on shareholder's equity, and the Company's compliance with statutory solvency requirements. For the period ended December 31, 2016, the net adverse loss development of $2,073,522 for prior years was primarily due to unfavorable development on workers' compensation, auto liability, medical stop loss and general liability for the 2015 policy year. For the period ended December 26, 2015, the net adverse loss development of $6,591,844 for prior years was primarily due to unfavorable development on workers' compensation for the 2014 policy year, the 2008 general liability policy year and the 2014 medical stop loss policy year. 16
December 31, 2016 and December 26, 2015 8. Taxation Bermuda At the present time, no taxes are levied in Bermuda on receipts, dividends, capital gains, gifts or net income. In the event that such taxes are levied, the Company has received an undertaking from the Bermuda Government exempting it from all such taxes until March 31, 2035. United States of America (U.S.) The Company elected to be treated as a U.S. domestic insurance company tor U.S. federal tax purposes under section 953(d) of the U.S. Internal Revenue Code, and is therefore subject to income taxation in the U.S. Under this election, the Company is included in a U.S. consolidated federal income tax return with its parent company. The parent allocates current and deferred income taxes on a separate company basis, as if the Company was not included in the consolidated income tax return. The net deferred tax asset reflects the enacted tax rates and laws that will be in effect when the temporary differences between U.S. GAAP and U.S. tax accounting are expected to reverse for the discounting of reserve for losses and loss expenses and reserve for unearned premiums. The components of deferred tax asset as of December 31, 2016 and December 26, 2015, are as follows: 2016 2015 Discounting of reserve for losses and loss expenses $ 733,829 $ 824,410 Reserve for unearned premiums 349,242 292,969 Net uruealized (gain) loss on investments (124,134) 21,679 Deferred tax asset $ 958,937 $ 1,139,058 The components of the income tax expense as of December 31, 2016 and December 26, 2015, are as follows: Current income tax expense Deferred income tax expense (benefit) 2016 $ 2,692,489 34,308 2015 $ 1,182,019 (60,244) $ 2,726,797 $ 1,121,775 17
December 31,2016 and December 26, 2015 9. Other Comprehensive Income Other comprehensive income, consisting of unrealized gains/(losses) on marketable securities, net of tax, was as follows for the years ended December 31, 2016 and December 26, 2015: Before Tax Amount 2016 Tax Expense NetofTax Amount Net holding gains arising during year $ 354,669 $ (124,134) $ 230,535 Other comprehensive income $ 354,669 $ (124,314) $ 230,535 Before Tax Amount 2015 Tax Benefit NetofTax Amount Net holding losses arising during year $ (61,940) $ 21,679 $ (40,261) Other comprehensive loss $ (61,940) $ 21,679 $ (40,621) 10. Share Capital December 31, 2016 December 26, 2015 Authorized, issued and fully paid: 120,000 shares of$1 each par value $ 120,000 $ 120,000 18
December 31, 2016 and December 26, 2015 11. Statutory Requirements The Company is registered under the Bermuda Insurance Act 1978, and Related Regulations (the Act), and is obligated to comply with various provisions of the Act regarding solvency, and liquidity. Statutory capital and surplus as at December 31, 2016 was $42,933,223 (December 26, 2015- $37,545,096 and the amount required to be maintained by the Company was $3,459,464 (December 26, 2015- $3,466,536). In addition, a minimum liquidity ratio must be maintained whereby relevant assets, as defmed by the Act, must exceed 75% of relevant liabilities. As at December 31, 2016 and December 26, 2015, the liquidity ratio was met. The declaration of dividends from retained earnings and distributions from additional paidin capital are limited to the extent that solvency and liquidity requirements are met. The Company has received permission from the Bermuda Monetary Authority under Regulation 11 of the Insurance Returns and Solvency Regulations 1980 to treat $16,000,000 of the due from Parent as a relevant asset for purposes of calculating the liquidity ratio. 12. Concentration of Credit Risk The Company is a party to fmancial mstruments with concentration of credit risk in the normal course of business. These financial instruments include cash and cash equivalents, factored receivables, due from parent, loans receivable, insurance balances receivable, and escrow. 13. Subsequent Events Subsequent events were evaluated to March 31, 2017, the date the financial statements were available to be issued. No subsequent events were noted that would have a material effect on the fmancial statements. 19