Peel Mutual Insurance Company Financial Statements For the year ended
Peel Mutual Insurance Company Financial Statements For the year ended Table of Contents Page Independent Auditor's Report 1 Statement of Financial Position 2 Statement of Comprehensive Income and Members' Surplus 3 Statement of Cash Flows 4 1. Corporate information 5 2. Basis of presentation 5 3. Insurance contracts 6 4. Investments 14 5. Investment and other income 18 6. Capital management 18 7. Other operating and administrative expenses 19 8. Salaries, benefits, and directors fees 19 9. Income taxes 20 10. Structured settlements, Fire Mutuals Guarantee Fund and Financial guarantee contracts 21 11. Property, plant & equipment and intangible assets 21 12. Pension plan 23 13. Related party transactions 24 14. Standards, amendments and interpretations not yet effective 25
Independent Auditor's Report To the Policyholders of PEEL MUTUAL INSURANCE COMPANY We have audited the accompanying financial statements of PEEL MUTUAL INSURANCE COMPANY, which comprise the statement of financial position as at and the statements of comprehensive income and members' surplus and cash flows for the year ended and a summary of significant accounting policies and other explanatory information. Management's Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these financial statements in accordance with International Financial Reporting Standards, and for such internal control as management determines is necessary to enable the preparation of financial statements that are free from 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 audit. We conducted our audit in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance about whether the financial statements are free from 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. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of 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 in our audit is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the financial statements present fairly, in all material respects, the financial position of PEEL MUTUAL INSURANCE COMPANY as at, and the results of its operations and its cash flows for the year ended in accordance with International Financial Reporting Standards. Chartered Professional Accountants, Licensed Public Accountants Woodstock, Ontario February 1, 2018 1
Statement of Financial Position As at 2017 2016 Assets Cash $ 805,919 $ 323,320 Investments (Note 4) 76,209,363 73,174,901 Investment income accrued 326,795 385,431 Income taxes recoverable 607,803 456,215 Due from reinsurer (Note 3) 228,910 32,263 Due from policyholders 12,636,728 11,562,242 Reinsurer's share of provision for unpaid claims (Note 3) 19,693,036 20,149,373 Deferred policy acquisition expenses (Note 3) 3,476,539 3,279,545 Property, plant & equipment (Note 11) 1,657,527 1,621,807 Intangible assets (Note 11) 1,534,928 1,173,071 Deferred income taxes 241,000 141,000 Other assets 330,400 299,753 Liabilities $ 117,748,948 $112,598,921 Accounts payable and accrued liabilities $ 2,487,120 $ 2,194,811 Premium tax payable 7,552 2,231 Deferred service charges 233,078 234,046 Unearned premiums (Note 3) 21,632,109 19,973,864 Provision for unpaid claims (Note 3) 47,431,494 44,049,170 Members' Surplus 71,791,353 66,454,122 Members' surplus 45,957,595 46,144,799 $ 117,748,948 $112,598,921 Signed on behalf of the Board: Director Director The accompanying notes are an integral part of these financial statements. 2
Statement of Comprehensive Income and Members' Surplus For the year ended 2017 2016 Underwriting income Gross premiums written $ 42,660,456 $ 39,255,588 Less reinsurance ceded (5,411,598) (5,965,700) Net premiums written 37,248,858 33,289,888 Change in unearned premiums (1,658,245) (1,585,611) Net premiums earned 35,590,613 31,704,277 Service charge income 468,168 593,670 Total revenue 36,058,781 32,297,947 Direct losses incurred Gross claims and adjustment expenses 27,318,239 20,773,749 Less reinsurer's share of claims and adjustment expenses (2,422,814) 437,029 Net claims and adjustment expenses 24,895,425 21,210,778 Expenses Commissions 7,115,195 6,904,001 Premium taxes 80,605 74,631 Other operating and administrative expenses (Note 7) 6,156,639 6,075,493 Total expenses 13,352,439 13,054,125 Net underwriting loss (2,189,083) (1,966,956) Investment and other income (Note 5) 1,790,368 2,989,915 (Loss) income before income taxes (398,715) 1,022,959 Income tax (recovery) provision (Note 9) (211,511) 210,881 Comprehensive (loss) income for the year $ (187,204) $ 812,078 Members' surplus Balance, beginning of year $46,144,799 $ 45,332,721 Comprehensive (loss) income for the year (187,204) 812,078 Balance, end of year $45,957,595 $ 46,144,799 The accompanying notes are an integral part of these financial statements. 3
Statement of Cash Flows For the year ended 2017 2016 Operating activities Comprehensive (loss) income for the year $ (187,204) $ 812,078 Adjustments for Depreciation of property, plant & equipment 100,387 98,783 Depreciation of intangible assets 96,415 91,321 Interest and dividend income (1,962,622) (2,122,765) Income tax (recovery) provision (211,511) 210,881 Realized gains from disposal of investments (432,698) (255,096) Unrealized losses (gains) on investments 349,145 (807,338) Realized losses from disposal of property, plant & equipment - 45,792 (2,248,088) (1,926,344) Changes in working capital Due from policyholders and reinsurer (1,271,133) (626,447) Other assets (30,647) 49,229 Accounts payable and other liabilities 292,309 458,563 Deferred service charges (968) (75,000) (1,010,439) (193,655) Changes in insurance contract related balances Reinsurer's share of provision for unpaid claims 456,337 5,172,873 Deferred policy acquisition expenses (196,994) (328,635) Unearned premiums 1,658,245 1,585,611 Provision for unpaid claims 3,382,324 (4,695,195) 5,299,912 1,734,654 Cash flows related to interest, dividends and income taxes Interest received 1,730,026 1,771,979 Dividends received 411,283 365,164 Income taxes paid (34,756) 256,159 2,106,553 2,393,302 Total cash inflows from operating activities 4,147,938 2,007,957 Investing activities Purchase of bonds and debentures (44,979,315) (36,741,755) Purchase of equity investments (7,156,475) (3,378,216) Proceeds on sale of bonds and debentures 43,775,722 34,886,485 Proceeds on sale of equity investments 5,267,858 3,127,963 Decrease in broker loans 21,250 28,333 Purchase of property, plant & equipment (136,107) (139,328) Purchase of intangible assets (458,272) (847,032) Total cash outflows from investing activities (3,665,339) (3,063,550) Net increase (decrease) in cash 482,599 (1,055,593) Cash, beginning of year 323,320 1,378,913 Cash, end of year $ 805,919 $ 323,320 The accompanying notes are an integral part of these financial statements. 4
1. Corporate Information PEEL MUTUAL INSURANCE COMPANY ("the Company") is incorporated under the laws of Ontario and is subject to the Ontario Insurance Act. It is licensed to write automobile, property, liability, boiler and machinery and fidelity insurance in Ontario. The Company's head office is located at 103 Queen Street West in Brampton, Ontario. The Company's automobile insurance rates are subject to approval by the Financial Services Commission of Ontario (FSCO). Applications for automobile rate changes are presented to FSCO by the Farm Mutual Reinsurance Plan Inc. (FMRP) on behalf of most members of the Ontario Mutual Insurance Association (OMIA). The rate filings include actuarial justification for the rate increases or decreases. All rate filings must be approved by FSCO prior to implementation. Rate regulation may affect the automobile revenues that are earned by the Company. The actual impact of rate regulation would depend on the competitive environment at the time. These financial statements have been authorized for issue by the Finance Committee of the Board of Directors on February 1, 2018. 2. Basis of Presentation These financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (the IASB). These financial statements were prepared under the historical cost convention, as modified by the revaluation of financial instruments designated as fair value through profit and loss. The financial statements are presented in Canadian dollars ("CDN"), which is also the Company s functional currency. The preparation of financial statements in compliance with IFRS requires management to make certain critical accounting estimates. It also requires management to exercise judgment in applying the Company s accounting policies. The areas involving a higher degree of judgment or complexity or areas where assumptions and estimates are significant to the financial statements are: The calculation of unpaid claims, including the determination of the initial claim liability, the development of claims and the estimate of time until ultimate settlement; (Note 3) and The determination of the recoverability of deferred policy acquisition expenses (Note 3). The notes to the financial statements were prepared and ordered in such a way that the most relevant information was presented earlier in the notes and disclosures that management deemed to be immaterial were excluded from the notes to the financial statements. The determination of the relevance and materiality of disclosures involves significant judgment. 5
3. Insurance Contracts In accordance with IFRS 4, Insurance Contracts, the Company has continued to apply the accounting policies it applied in accordance with pre-changeover Canadian generally accepted accounting principles. Balances arising from insurance contracts primarily include the following: (a) Premiums and unearned premiums Premiums written consists of premiums on contracts incepting in the financial year. Premiums written are stated gross of commissions payable to brokers and exclusive of taxes and service charges levied on premiums. The Company recognizes premium income evenly over the term of the insurance policy using the pro rata method. The portion of the premium related to the unexpired portion of the policy at the end of the fiscal year is reflected in unearned premiums. Changes in unearned premiums recorded in the statement of financial position and their impact on net premiums earned are as follows: Unearned premiums 2017 2016 Balance, beginning of the year $ 19,973,864 $ 18,388,253 Premiums written 42,660,456 39,255,588 Premiums earned during year (41,002,211) (37,669,977) Balance, end of the year $ 21,632,109 $ 19,973,864 Pricing of property and liability policies are based on assumptions in regards to trends and past experience, in an attempt to correctly match policy revenue with exposed risk. Automobile premiums are subject to approval by the Financial Services Commission of Ontario and therefore may result in a delay in adjusting the pricing to exposed risk. The Company is exposed to a pricing risk to the extent that unearned premiums are insufficient to meet the related future policy costs. Evaluation is performed regularly to estimate future claims costs, related expenses, and the expected profit in relation to unearned premiums. There was no premium deficiency at and 2016. Amounts due from policyholders are measured at amortized cost less any impairment losses. These amounts are short-term in nature and consist of a large number of policyholders, and are not subject to material credit risk. Regular review of amounts outstanding is performed to ensure credit worthiness. 6
3. Insurance Contracts (continued) (b) Deferred policy acquisition expenses Acquisition costs consist of brokers' commissions and premium taxes. These costs are deferred and amortized over the terms of the related policies to the extent that they are considered to be recoverable from unearned premiums, after considering the related anticipated claims and expenses. Changes in deferred policy acquisition expenses recorded in the statement of financial position and their impact on fees, commissions and other acquisition expenses are as follows: Deferred policy acquisition expenses 2017 2016 Balance, beginning of the year $ 3,279,545 $ 2,950,910 Acquisition costs incurred 6,891,771 6,404,102 Expensed during the year (6,694,777) (6,075,467) Balance, end of the year $ 3,476,539 $ 3,279,545 (c) Unpaid claims and adjustment expenses Individual loss estimates are provided on each claim reported. In addition, provisions are made for adjustment expenses, changes in reported claims and for claims incurred but not reported, based on past experience and business in force. The estimates are regularly reviewed and updated, and any resulting adjustments are included in current earnings. 7
3. Insurance Contracts (continued) A summary of the Company's outstanding gross unpaid claims liabilities, related reinsurer's share of unpaid claims and the net insurance liabilities is as follows: Outstanding claims provision 2017 Gross Reinsurance Net Long-term $20,977,372 $ 6,137,268 $14,840,104 Short-term 7,774,052 3,772,308 4,001,744 Automobile residual 1,181,070 85,460 1,095,610 29,932,494 9,995,036 19,937,458 Provision for claims incurred but not reported 17,499,000 9,698,000 7,801,000 $47,431,494 $19,693,036 $27,738,458 Outstanding claims provision 2016 Gross Reinsurance Net Long-term $ 16,085,697 $ 7,134,426 $ 8,951,271 Short-term 4,956,071 1,956,947 2,999,124 Automobile residual 1,224,402-1,224,402 22,266,170 9,091,373 13,174,797 Provision for claims incurred but not reported 21,783,000 11,058,000 10,725,000 $ 44,049,170 $ 20,149,373 $ 23,899,797 The Company must participate in industry automobile residual pools of business, and recognizes a share of this business based on its automobile market share. The Company records its share of the liabilities provided by the actuaries of the pools. 8
3. Insurance Contracts (continued) Changes in claims liabilities recorded in the statement of financial position and their impact on claims and adjustment expenses are as follows: 2017 2016 Unpaid claim liabilities - beginning of year net of reinsurance $23,899,797 $ 23,422,119 Provision for losses and expenses on claims occurring in the current year 23,947,876 23,101,592 Decrease in estimated losses and expenses for losses occurring in prior years (532,948) (3,025,081) Payment on claims: Current year (10,812,571) (11,856,283) Prior years (8,763,696) (7,742,550) Unpaid claims end of year - net of reinsurance 27,738,458 23,899,797 Reinsurer s share of unpaid claim liabilities 19,693,036 20,149,373 Claims development $47,431,494 $ 44,049,170 The principal risk the Company faces under insurance contracts is that the actual claims and benefit payments or the timing thereof, differ from expectations. This is influenced by the frequency of claims, severity of claims, actual benefits paid and subsequent development of longterm claims. Therefore the objective of the Company is to ensure that sufficient reserves are available to cover these liabilities. The Company writes insurance primarily over a twelve month duration. The most significant risks arise through high severity, low frequency events such as natural disasters or catastrophes. A concentration of risk may arise from insurance contracts issued in a specific geographic location since all insurance contracts are written in Ontario. The above risk exposure is mitigated by diversification across a large portfolio of insurance. The variability of risks is also improved by careful selection and implementation of underwriting strategy guidelines, as well as the use of reinsurance agreements. The estimation of claim development involves assessing the future behaviour of claims, taking into consideration the consistency of the Company's claim handling procedures, the amount of information available, the characteristics of the line of business from which the claim arises and historical delays in reporting claims. In general, the longer the term required for the settlement of a group of claims the more variable the estimates. Short settlement term claims are those which are expected to be substantially paid within a year of being reported. The tables that follow present the development of claims payments and the estimated ultimate cost of claims for the claim years 2011 to 2017. The tables show the cumulative amounts paid or estimated to be paid during successive years related to each claim year. The original estimates will be increased or decreased, as more information becomes known about the original claims. 9
Notes to Financial Statement 3. Insurance Contracts (continued) Gross claims 2011 2012 2013 2014 2015 2016 2017 Total Gross estimate of cumulative claims cost At the end year of claim $ 36,162,725 $ 28,395,320 $ 24,643,457 $ 30,351,443 $ 22,069,812 $ 28,767,648 $ 27,805,644 One year later 38,348,761 26,548,949 24,293,124 32,051,526 20,184,981 28,959,031 Two years later 37,490,600 24,753,131 22,918,588 29,587,780 18,112,446 Three years later 35,759,195 24,048,153 22,234,912 30,555,333 Four years later 36,504,727 23,597,008 22,110,496 Five years later 33,472,618 22,756,537 Six years later 33,580,573 Current estimate of cumulative claims cost 33,580,573 22,756,537 22,110,496 30,555,333 18,112,446 28,959,031 27,805,644 183,880,060 Cumulative payments 30,428,500 21,364,570 19,950,708 23,206,246 13,289,272 17,766,443 10,812,571 136,818,310 Outstanding claims $ 3,152,073 $ 1,391,967 $ 2,159,788 $ 7,349,087 $ 4,823,174 $ 11,192,588 $ 16,993,073 $ 47,061,750 Outstanding claims 2010 and prior 369,744 Total gross outstanding claims and claims handling expense $ 47,431,494 Net of Reinsurance 2011 2012 2013 2014 2015 2016 2017 Total Net estimate of cumulative claims cost At the end year of claim $ 24,769,718 $ 22,460,767 $ 20,767,031 $ 22,660,830 $ 18,172,906 $ 23,101,592 $ 23,947,876 One year later 24,895,580 20,580,086 20,161,738 23,090,577 17,357,075 23,140,343 Two years later 23,207,335 18,836,424 18,975,554 21,586,733 16,565,540 Three years later 21,161,754 18,262,619 18,930,191 21,708,623 Four years later 21,464,010 17,990,655 18,882,052 Five years later 21,106,469 18,011,196 Six years later 21,204,518 Current estimate of cumulative claims cost 21,204,518 18,011,196 18,882,052 21,708,623 16,565,540 23,140,343 23,947,876 143,460,148 Cumulative payments 20,366,891 17,482,788 17,910,897 19,398,027 13,114,365 16,774,852 10,812,572 115,860,392 Outstanding claims $ 837,627 $ 528,408 $ 971,155 $ 2,310,596 $ 3,451,175 $ 6,365,491 $ 13,135,304 $ 27,599,756 Outstanding claims 2010 and prior 138,702 Total net outstanding claims and claims handling expense $ 27,738,458 10
3. Insurance Contracts (continued) The risks associated with insurance contracts are complex and subject to a number of variables which complicate quantitative sensitivity analysis. The Company uses various techniques based on past claims development experience to quantify these sensitivities. This includes indicators such as average claim cost, frequency of claims occurrence, expected loss ratios and claims development. Results of sensitivity testing based on expected loss ratios are as follows, impact on pre-tax income is shown gross and net of reinsurance: Property claims Auto claims Liability claims 2017 2016 2017 2016 2017 2016 5% change in loss ratios: Gross $ 843,519 $ 766,312 $1,130,868 $ 1,054,929 $ 136,576 $ 123,739 Net $ 680,788 $ 623,887 $ 879,902 $ 772,339 $ 103,764 $ 92,035 There have been no significant changes from the previous year in the exposure to risk or policies, procedures and methods used to measure the risk. (d) Liability adequacy test At each reporting date the Company performs a liability adequacy test on its insurance liabilities less deferred policy acquisition expenses to ensure the carrying value is adequate, using current estimates of future cash flows, taking into account the relevant investment return. If that assessment shows that the carrying amount of the liabilities is inadequate, any deficiency is recognized as an expense in the statement of comprehensive income initially by writing off the deferred policy acquisition expense and subsequently by recognizing any additional claims liability for claims provisions. (e) Reinsurer's share of provisions for unpaid claims and adjustment expenses The Company enters into reinsurance contracts in the normal course of business in order to limit potential losses arising from certain exposures. Reinsurance premiums are accounted for in the same period as the related premiums for the direct insurance business being reinsured. Reinsurance liabilities, comprised of premiums payable for the purchase of reinsurance contracts, are included in accounts payable and accrued liabilities and are recognized as an expense when due. The Company follows a policy of underwriting and reinsuring contracts of insurance that limit the liability of the Company to an amount on any one claim of $450,000 (2016 - $420,000) in the event of a property claim, an amount of $420,000 (2016 - $420,000) in the event of an automobile claim and $450,000 (2016 - $420,000) in the event of a liability claim. The Company also obtained reinsurance which limits the Company's liability to $1,350,000 (2016 - $1,260,000) in the event of a series of claims arising out of a single occurrence. In addition, the Company has obtained stop loss reinsurance which limits the liability of all claims in a specific year to 80% of the gross net earned premiums incurred. 11
3. Insurance Contracts (continued) Amounts recoverable from the reinsurer are estimated in a manner consistent with the outstanding claims provision and are in accordance with the reinsurance contracts. Although the Company has reinsurance arrangements, it is not relieved of its direct obligations to its policyholders and thus a credit exposure exists with respect to ceded insurance, to the extent that any reinsurer is unable to meet its obligations assumed under such reinsurance agreements. Expected reinsurance recoveries on unpaid claims and adjustment expenses are recognized as assets at the same time and using principles consistent with the Company's method for establishing the related liability. Changes in due from reinsurer recorded in the statement of financial position are as follows: Due from reinsurers 2017 2016 Balance, beginning of the year $ 32,263 $ 442,566 Overpayment of premium - 26,179 Submitted to reinsurer 2,879,151 4,735,843 Received from reinsurer (2,682,504) (5,172,325) Balance, end of the year $ 228,910 $ 32,263 Expected settlement Within one year $ 228,910 $ 32,263 Reinsurance is placed with Farm Mutual Reinsurance Plan Inc. (FMRP), a Canadian registered reinsurer. Management monitors the creditworthiness of FMRP by reviewing their annual financial statements and through ongoing communications. Reinsurance treaties are reviewed annually by management prior to renewal of the reinsurance contract. At year-end, the Company reviewed the amounts owing from its reinsurer and determined that no allowance is necessary. 12
3. Insurance Contracts (continued) Changes in reinsurer's share of provision for unpaid claims recorded in the statement of financial position and their impact on net premiums earned are as follows: Reinsurer's share of provision for unpaid claims 2017 2016 Balance, beginning of the year $20,149,373 $ 25,322,246 New claims reserves 3,857,769 6,794,056 Change in prior year's reserves (1,434,955) (7,231,086) Submitted to reinsurer (2,879,151) (4,735,843) Balance, end of the year $19,693,036 $ 20,149,373 Expected settlement Within one year $ 3,772,308 $ 4,338,817 More than one year 15,920,728 15,810,556 $19,693,036 $ 20,149,373 (f) Salvage and subrogation recoverable In the normal course of business, the Company obtains the ownership of damaged property, which they resell to various salvage operations. Unsold property is valued at its estimated net realizable value. Where the Company indemnifies policyholders against a liability claim, it acquires rights to subrogate its claim against other parties. These claims are reflected at amounts expected to be received from the subrogated parties net of related costs. (g) Deferred service charges The Company provides the option to policyholders to pay their premiums monthly over the term of their policies. The company charges the policyholder a service charge for this option. The company records the service charge evenly over the term of the insurance policy generally using the pro rata method. The portion of the service charge related to the unexpired portion of the policy at the end of the fiscal year is reflected in deferred service charges. 13
4. Investments The Company does not have any instruments that are held for trading purposes. However, management has designated to voluntarily classify its investments at fair value through profit and loss. These instruments are carried at fair value with changes in fair value recognized in comprehensive income. Transaction costs on these instruments are expensed as incurred. Purchases and sales of equity instruments are recognized on a settlement date basis. Interest on debt securities classified as fair value through profit and loss is calculated using the effective interest method and is included in comprehensive income. The following table provides cost and fair value information of investments by type of security and issuer. December 31, 2016 Fair Fair Cost value Cost value T-Bills $ 827,203 $ 826,857 $ 209,687 $ 209,750 Banker's Acceptance 1,249,149 1,248,959 587,659 587,835 Bonds Issued by: Federal 14,710,736 14,378,431 9,456,171 9,336,586 Provincial 17,655,270 17,552,568 12,081,974 12,236,860 Municipal 856,708 832,562 2,102,886 2,041,845 Corporate 25,980,473 26,413,034 35,435,123 36,177,969 59,203,187 59,176,595 59,076,154 59,793,260 Equity Investments 11,264,549 14,859,109 9,113,043 12,468,088 Fire Mutuals Guarantee Fund 94,301 94,301 91,176 91,176 Broker Loans 3,542 3,542 24,792 24,792 Total Investments $72,641,931 $76,209,363 $ 69,102,511 $ 73,174,901 The Company s investment policy puts limits on the bond portfolio including portfolio composition limits, issuer type limits, bond quality limits, aggregate issuer limits, corporate sector limits and general guidelines for geographic exposure. The bond portfolio includes 85.90% (2016-89.40%) of bonds rated A or better. The Company's investment policy limits investment in bonds and debentures of the various ratings to limits ranging from 55% to 100% of the Company's portfolio. The Company's policy requires that funds be invested in bonds and debentures of Federal, Provincial or Municipal Government and corporations rated BBB or better. All fixed income portfolios are measured for performance and monitored by the Finance Committee of the Board on a quarterly basis. The maximum exposure to investment credit risk is the carrying value of the investments. 14
4. Investments (continued) There have been no significant changes from the previous year in the exposure to risk or policies, procedures and methods used to measure credit risk. Liquidity risk is the risk that the Company will not be able to meet all cash outflow obligations as they come due. The Company mitigates this risk by monitoring cash activities and expected outflows. The Company's current liabilities arise as claims are made. The Company does not have material liabilities that can be called unexpectedly at the demand of a lender or client. The Company has no material commitments for capital expenditures and there is no need for such expenditures in the normal course of business. Claim payments are funded by current operating cash flow including investment income. The Company s investment policy requires that 0% to 20% of the Company's portfolio be held in cash and short-term investments. Short-term investments include treasury bills, commercial paper and term deposits with an original maturity of less than one year. Maturity profile of bonds held is as follows: Within 2 to 5 6 to 10 Over 10 Fair 1 year years years years value $ 2,470,601 $26,075,690 $29,194,794 $ 1,435,510 $59,176,595 Percent of Total 4.2 % 44.1 % 49.3 % 2.4 % 100 % December 31, 2016 $ 3,891,970 $ 27,045,998 $ 26,119,363 $ 2,735,929 $ 59,793,260 Percent of Total 6.5 % 45.2 % 43.7 % 4.6 % 100 % The effective interest rate of the bond portfolio held is 2.7% (2016-2.7%) at. There have been no significant changes from the previous year in the exposure to risk or policies, procedures and methods used to measure liquidity risk. 15
4. Investments (continued) Market factors that will impact the fair value of investments include three types of risk: currency risk, interest rate risk and equity risk. The Company s investment policy operates within the guidelines of the Insurance Act of Ontario. An investment policy is in place and its application is monitored by the Finance Committee and the Board of Directors. Diversification techniques are utilized to minimize risk. The Policy limits the investment in any one corporate issuer to a maximum of 10% of the total investment portfolio. Currency risk relates to the Company operating in different currencies and converting non- Canadian earnings at different points in time at different foreign exchange levels when adverse changes in foreign currency exchange rates occur. The company has no significant exposure to this risk. The Company is exposed to interest rate risk through its interest bearing investments (T-Bills, Bonds and fixed income pools). The Company s investment income will move with interest rates over the medium to long-term with short-term interest rate fluctuations creating unrealized gains or losses in comprehensive income. There are no occurrences where interest would be charged on liabilities; therefore little protection is needed to ensure the fair value of the asset will be offset by a similar change in liabilities due to an interest rate change. At, a 1% move in interest rates, with all other variables held constant, could impact the market value of bonds by $2,707,500 (2016 - $2,820,000). The change would be recognized in comprehensive income. The Company is exposed to equity risk through its equity holdings within its investment portfolio. At, a 10% movement in the stock markets with all other variables held constant would have an estimated effect on the fair values of the Company s Canadian common equities of $1,486,000 (2016 - $1,250,000). This change would be recognized in comprehensive income. The Company s investment policy limits investments in preferred and common shares to 20% of the market value of the portfolio. The total investment in one equity holding cannot exceed 10% of the total stock portfolio. Equities are monitored by the Finance Committee of Board of Directors and holdings are adjusted following each quarter when the investments are offside of the investment policy. There have been no significant changes from the previous year in the exposure to risk or policies, procedures and methods used to measure market risk. 16
4. Investments (continued) The following table provides an analysis of investments that are measured subsequent to initial recognition at fair value, grouped into Levels 1 to 3 based on the degree to which the fair value is observable: Level 1 - fair value measurements are those derived from quoted prices (unadjusted) in active markets for identical assets or liabilities; Level 2 - fair value measurements are those derived from inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly (i.e. as prices) or indirectly (i.e. derived from prices); and Level 3 - fair value measurements are those derived from valuation techniques that include inputs for the asset or liability that are not based on observable market data (unobservable inputs). Level 1 Level 2 Level 3 Total T-Bills $ 826,857 $ - $ - $ 826,857 Banker's Acceptance - 1,248,959-1,248,959 Bonds - Federal 14,378,431 - - 14,378,431 Bonds - Provincial - 17,552,568-17,552,568 Bonds - Municipal - 832,562-832,562 Bonds - Corporate - 26,413,034-26,413,034 Equities 14,859,109 - - 14,859,109 Fire Mutuals Guarantee Fund - 94,301-94,301 Broker Loans - 3,542-3,542 Total $30,064,397 $46,144,966 $ - $76,209,363 December 31, 2016 T-Bills $ 209,750 $ - $ - $ 209,750 Banker's Acceptance - 587,835-587,835 Bonds - Federal 9,336,586 - - 9,336,586 Bonds - Provincial - 12,236,860-12,236,860 Bonds - Municipal - 2,041,845-2,041,845 Bonds - Corporate - 36,177,969-36,177,969 Equities 12,468,088 - - 12,468,088 Fire Mutuals Guarantee Fund - 91,176-91,176 Broker Loans - 24,792-24,792 Total $ 22,014,424 $ 51,160,477 $ - $ 73,174,901 There were no transfers between any levels of the fair value hierarchy for the years ended and 2016. 17
5. Investment and Other Income Fair value through profit Loans and and loss Receivable 2017 Interest income $ 1,549,703 $ 1,636 $ 1,551,339 Dividend income 411,283-411,283 Realized gains on disposal of investments 432,698-432,698 Unrealized losses on investments (349,145) - (349,145) Investment expenses (255,807) - (255,807) $ 1,788,732 $ 1,636 $ 1,790,368 Fair value through profit Loans and and loss Receivable 2016 Interest income $ 1,754,601 $ 3,000 $ 1,757,601 Dividend income 365,164-365,164 Realized gains on disposal of investments 293,145-293,144 Unrealized gains on investments 807,338-807,338 Investment expenses (233,332) - (233,332) $ 2,986,916 $ 3,000 $ 2,989,915 6. Capital Management For the purpose of capital management, the Company has defined capital as members' surplus. The Company s objectives with respect to capital management are to maintain a capital base that is structured to exceed regulatory requirements and to best utilize capital allocations. The regulators measure the financial strength of property and casualty insurers using a minimum capital test (MCT). The regulators require property and casualty companies to comply with capital adequacy requirements. This test compares a Company s capital against the risk profile of the organization. The risk-based capital adequacy framework assesses the risk of assets, policy liabilities and other exposures by applying various factors that are dependant on the risks associated with the Company's assets. Additionally, an interest rate risk margin is included in the MCT by assessing the sensitivity of the Company's interest-sensitive assets and liabilities to changes in interest rates. The regulator indicates that the Company should produce a minimum MCT of 150%. During the year, the Company has consistently exceeded this minimum. The regulator has the authority to request more extensive reporting and can place restrictions on the Company s operations if the Company falls below this requirement and deemed necessary. The Company's capital management framework is designed to maintain adequate levels of capital using the ratio of Net Premiums Earned to Surplus in the range of 0.75-1.25: 1. At December 31, 2017, the ratio was 0.77:1 (2016-0.69:1). 18
7. Other Operating and Administrative Expenses 2017 2016 Salaries, employee benefits and director remuneration $ 2,677,003 $ 3,207,430 Professional fees 927,727 82,573 Utilities and office expenses 529,850 621,477 Information technology 726,970 748,975 Underwriting expenses 465,145 508,395 Licenses, fees and dues 263,535 250,531 Other 566,409 656,112 $ 6,156,639 $ 6,075,493 8. Salaries, Benefits, and Directors Fees 2017 2016 Claims salaries and benefits $ 837,198 $ 637,632 Underwriting salaries and benefits 1,135,881 1,106,037 Other salaries, benefits and director fees 1,541,122 2,101,393 $ 3,514,201 $ 3,845,062 19
9. Income Taxes Income tax expense comprises of current and deferred tax. Current tax and deferred tax are recognized in comprehensive income except to the extent that it relates to a business combination, or items recognized directly in equity. The significant components of tax expense included in comprehensive income are composed of: 2017 2016 Current tax expense Based on current year taxable income $ (127,411) $ 239,881 Adjustments for under provision in prior periods 15,900 - (111,511) 239,881 Deferred tax expense Origination and reversal of temporary differences (100,000) (29,000) Total income tax (recovery) expense $ (211,511) $ 210,881 Reasons for the difference between tax expense for the year and the expected income taxes based on the statutory tax rate of 26.5% are as follows: 2017 2016 Comprehensive (loss) income before income taxes $ (398,715) $ 1,022,959 Expected taxes based on the statutory rate of 26.5% (105,659) 271,084 Income from dividends (107,037) (96,768) Other non deductible expenses 1,185 36,565 Total income tax (recovery) expense $ (211,511) $ 210,881 20
10. Structured Settlements, Fire Mutuals Guarantee Fund and Financial Guarantee Contracts The Company enters into annuity agreements with various life insurance companies to provide for fixed and recurring payments to claimants. Under such arrangements, the Company s liability to its claimants is substantially transferred, although the Company remains exposed to the credit risk that life insurers will fail to fulfil their obligations. The Company is a member of the Fire Mutuals Guarantee Fund ("the Fund"). The Fund was established to provide payment of outstanding policyholders' claims if a member company becomes bankrupt. As a result, the Company may be required to contribute assets to their proportionate share in meeting this objective. The Company is a member of the Farm Mutual Reinsurance Plan Inc. (FMRP), which is a general reinsurer that shares in the insurance risks originally accepted by member insurance companies. As a member of FMRP, the company may be required to contribute additional capital should FMRP's capital fall below a prescribed minimum. The additional capital would be provided by purchasing subordinated debt obligations issued by FMRP. These exposures represent financial guarantee contracts. The Company accounts for financial guarantee contracts in accordance with IFRS 4, Insurance Contracts. 11. Property, Plant & Equipment and Intangible Assets Property, plant & equipment Property, plant & equipment is initially recorded at cost and subsequently measured at cost less accumulated depreciation and accumulated impairment losses, with the exception of land which is not depreciated. Depreciation is recognized in comprehensive income and is provided on a straight-line basis over the estimated useful life of the assets. Intangible assets Intangible assets consist of computer software and website which are not integral to the computer hardware owned by the Company. Intangible assets are initially recorded at cost and subsequently measured at cost less accumulated depreciation and accumulated impairment losses. Software and website are amortized on a straight-line basis over its estimated useful life. 21
11. Property, Plant & Equipment and Intangible Assets Property, plant and equipment 2017 Useful Accumulated Net Book Life Cost Depreciation Value Land N/A $ 286,418 $ - $ 286,418 Buildings 10 to 40 years 2,344,086 1,202,520 1,141,566 Computer hardware 5 years 142,991 127,728 15,263 Furniture and fixtures 10 to 15 years 311,940 103,233 208,707 Other equipment 15 years 6,431 858 5,573 $ 3,091,866 $ 1,434,339 $ 1,657,527 2016 Useful Accumulated Net Book Life Cost Depreciation Value Land N/A $ 286,418 $ - $ 286,418 Buildings 10 to 40 years 2,209,228 1,143,191 1,066,037 Computer hardware 5 years 141,743 107,911 33,832 Furniture and fixtures 10 to 15 years 311,940 82,422 229,518 Other equipment 15 years 6,431 429 6,002 $ 2,955,760 $ 1,333,953 $ 1,621,807 Intangible assets 2017 Useful Accumulated Net Book Life Cost Depreciation Value Computer software 5 years $ 2,769,386 $ 1,237,161 $ 1,532,225 Website 5 years 13,482 10,779 2,703 $ 2,782,868 $ 1,247,940 $ 1,534,928 2016 Useful Accumulated Net Book Life Cost Depreciation Value Computer software 5 years $ 2,311,114 $ 1,145,240 $ 1,165,874 Website 5 years 13,482 6,285 7,197 $ 2,324,596 $ 1,151,525 $ 1,173,071 22
12. Pension Plan The Company participates in a multi-employer defined benefit pension plan (the Ontario Mutual Insurance Association Pension Plan, "the plan"), however, sufficient information is not available to use the defined benefit accounting. Therefore, the Company accounts for the plan as if it were a defined contribution plan, recognizing contributions as an expense in the year to which they relate. The Company makes contributions to the plan on behalf of members of its staff. The plan is a money purchase plan, with a defined benefit option at retirement available to some employees, which specifies the amount of the retirement benefit plan to be received by the employees based on length of service and rates of pay. The amount contributed to the plan in 2017 was $159,075 (2016 - $170,007). The contributions were made for the current service and these have been recognized in comprehensive income. These contributions amount to 3.00% (2016-3.00%) of the total contributions made to the Ontario Mutual Insurance Association Pension Plan by all the participating entities during the current fiscal year. Expected contributions to the plan for 2018 amount to $169,937. During the year, the Company paid a contribution of $71,281 as part of an agreement to reduce the plan deficit based on the 2016 actuarial valuation and prevailing low interest rates. The defined benefit plan has been closed to future eligible employees effective July 1, 2013. The Company and all current employees who are accruing benefits under the defined benefit plan continue to contribute to the defined benefit plan according to the existing terms of the agreement. Future eligible employees are enrolled in the defined contribution plan. The amount contributed to the defined contribution plan in 2017 was $39,898 (2016 - $29,679). The contributions were made for the current service and these have been recognized in comprehensive income. Expected contributions to the defined contribution plan for 2018 amount to $41,215. 23
13. Related Party Transactions The Company entered into the following transactions with key management personnel, which are defined by IAS 24, Related Party Disclosures, as those persons having authority and responsibility for planning, directing and controlling the activities of the Company, including directors and management: 2017 2016 Compensation: Salaries and directors' fees $ 664,389 $ 709,487 Employee and director benefits 65,170 86,694 Pension and other post-employment benefits 47,616 58,873 $ 777,175 $ 855,054 Premiums $ 87,015 $ 85,156 Claims paid $ 26,937 $ 12,809 Amounts owing to and from key management personnel at are $NIL (2016 - $899) and $16,983 (2016 - $10,620) respectively. These amounts are included in accounts payable and accrued liabilities and due from policyholders on the statement of financial position. 24
14. Standards, Amendments and Interpretations Not Yet Effective Certain pronouncements were issued by the IASB or the IFRS Interpretations Committee that are mandatory for accounting years beginning after January 1, 2017 or later. The Company applied judgments related to the order and exclusion of immaterial disclosures, consistent with the amendment to IAS 1, Presentation of Financial Statements. The Company has not yet determined the extent of the impact of the following new standards, interpretations and amendments, which have not been applied in these financial statements: IFRS 9 Financial Instruments amends the requirements for classification and measurement of financial assets, impairment and hedge accounting. IFRS 9 introduces an expected loss model of impairment and retains but simplifies the mixed measurement model and establishes three primary measurement categories for financial assets: amortized cost, fair value through profit or loss, and fair value through other comprehensive income. The basis of classification depends on the entity's business model and the contractual cash flow characteristics of the financial asset. The effective date for IFRS 9 is January 1, 2018; however, insurance entities have been provided with the option of deferring the adoption of IFRS 9 until January 1, 2021, which is the effective date of IFRS 17. The Company expects that its investments will continue to be classified as fair value through profit or loss based on the business model assessment, therefore, the adoption of IFRS 9 is not expected to have a material impact on the Company's financial position or performance. The Company plans to defer adoption of IFRS 9 until January 1, 2021. IFRS 16 Leases eliminates the distinction between operating and finance leases from the perspective of the lessee. All contracts that meet the definition of a lease will be recorded in the statement of financial position with a right of use asset and a corresponding liability. The asset is subsequently accounted for as property, plant and equipment or investment property and the liability is unwound using the interest rate inherent in the lease. The accounting requirements from the perspective of the lessor remains largely in line with previous IAS 17 requirements. The effective date for IFRS 16 is January 1, 2019. The Company is in the process of evaluating the impact of the new standard. IFRS 17 Insurance Contracts was issued May 2017 and lays out a fundamentally new way of measuring and presenting insurance contracts and related financial statement items for entities that issue insurance contracts. Some of the key aspects of IFRS 17 include new models for insurance liabilities, changes to discounting and the rate being used to discount claims liabilities, and changes to deferred premium acquisition costs. The technical aspects of IFRS are complex and will require specific consultation on the situation to determine the exact impact. The effective date for IFRS 17 is January 1, 2021 with the requirement to restate comparative figures. The Company is in the process of evaluating the impact of the new standard. 25