S-1/A 1 fortegras-1a2.htm S-1/A Document

As filed with the Securities and Exchange Commission on April 20, 2021.
Registration No. 333-254285
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Amendment No. 2
to
FORM S-1
REGISTRATION STATEMENT
UNDER THE SECURITIES ACT OF 1933
The Fortegra Group, LLC
to be converted as described herein into a corporation named
The Fortegra Group, Inc.
(Exact name of registrant as specified in its charter)
Delaware6331
82-46544674
(State or other jurisdiction of incorporation or organization)(Primary Standard Industrial Classification Code Number)
(I.R.S. Employer
Identification No.)
10751 Deerwood Park Blvd. 
Suite 200
Jacksonville, FL 32256
(866) 961-9529
(Address, including zip code, and telephone number, including area code, of the registrant’s principal executive offices)
Richard S. Kahlbaugh
President and Chief Executive Officer
The Fortegra Group, LLC
10751 Deerwood Park Blvd. 
Suite 200 
Jacksonville, FL 32256
(866) 961-9529
(Name, address, including zip code, and telephone number, including area code, of agent for service)
Copies to:
Michael Littenberg
William Michener
Ropes & Gray LLP
1211 Avenue of the Americas
New York, NY 10036
(212) 596-9000
Richard Truesdell Jr.
Pedro J. Bermeo
Davis Polk & Wardwell LLP
450 Lexington Avenue
New York, NY 10017
(212) 450-4000
Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this registration statement.
If any of the securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. ☐
If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. ☐
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. ☐
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filerAccelerated filer
Non-accelerated filerSmaller reporting company
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act.  ☒



CALCULATION OF REGISTRATION FEE
Title of each class of securities
to be registered
Amount to be registered(1)
Proposed maximum
aggregate offering
price per unit(2)
Proposed maximum
aggregate offering
price(2)(3)
Amount of
registration fee(4)
 Common stock, par value $0.01 per share9,545,000$17.00$162,265,000 $17,703.12 
(1)Includes 1,245,000 shares the underwriters have the option to purchase.
(2)Estimated solely for the purpose of computing the amount of the registration fee pursuant to Rule 457(a) under the Securities Act of 1933, as amended.
(3)Includes the offering price of the 1,245,000 shares the underwriters have the option to purchase.
(4)A registration fee of $10,910.00 was previously paid in connection with the Registration Statement.
The registrant hereby amends this registration Statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment that specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until this Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.



EXPLANATORY NOTE
The Fortegra Group, LLC, the registrant whose name appears on the cover of this registration statement, is a Delaware limited liability company. Upon the effectiveness of this registration statement, The Fortegra Group, LLC will convert into a Delaware corporation pursuant to a statutory conversion and change its name to The Fortegra Group, Inc., as described and defined in the section captioned “Corporate Conversion.” As a result of the Corporate Conversion, the sole member of The Fortegra Group, LLC will become the holder of 48,456,200 shares of common stock of The Fortegra Group, Inc. Except as disclosed in the prospectus, the consolidated financial statements and selected historical consolidated financial data and other financial information included in this registration statement are those of The Fortegra Group, LLC and its subsidiaries and do not give effect to the Corporate Conversion. Shares of common stock of The Fortegra Group, Inc. are being offered by the prospectus included in this registration statement.



The information in this preliminary prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell these securities and it is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
Subject to completion, dated April 20, 2021
PRELIMINARY PROSPECTUS
8,300,000 Shares
The Fortegra Group, Inc.
Common Stock
This is an initial public offering of shares of common stock of The Fortegra Group, Inc. We are selling                shares of our common stock in this offering.
We expect the public offering price to be between $15.00 and $17.00 per share. Currently, no public market exists for our common stock. We have applied for listing of our common stock on the New York Stock Exchange under the symbol “FRF”.
We are an “emerging growth company” under federal securities laws and, as such, we have elected to comply with certain reduced public company reporting requirements for this prospectus and future filings. See the section titled “Prospectus Summary—Implications of Being an Emerging Growth Company.”
Investing in the common stock involves a high degree of risk. See “Risk Factors” beginning on page 17 of this prospectus.
Per
Share
Total
Initial public offering price$$
Underwriting discounts and commissions (1)
$$
Proceeds, before expenses, to us$$
__________________
(1)We have agreed to reimburse the underwriters for certain expenses in connection with this offering. See the section entitled “Underwriting” for additional information regarding underwriting compensation.
The underwriters may also purchase up to an additional 1,245,000 shares of common stock from us at the public offering price, less the underwriting discounts and commissions, within 30 days from the date of this prospectus.
Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.
The common stock will be ready for delivery on or about                , 2021.
BofA SecuritiesBarclays
Piper Sandler
The date of this prospectus is                        , 2021.



cover-fortegra1.jpg



TABLE OF CONTENTS
You should rely only on the information contained in this document or to which we have referred you. Neither we, the underwriters, nor Tiptree, has authorized anyone to provide you with information that is different. This document may only be used in jurisdictions where it is legal to sell these securities. The information in this document may only be accurate as of the date of this document or such other date set forth in this document, regardless of the time of delivery of this prospectus or of any sale of shares of our common stock, and the information in any free writing prospectus that we may provide you in connection with this offering may only be accurate as of the date of that free writing prospectus. Our business, financial condition, results of operations and future growth prospects may have changed since those dates.
For investors outside the United States: Neither we, the underwriters, nor Tiptree, have done anything that would permit this offering or possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than in the United States. Persons outside the United States who come into possession of this prospectus must inform themselves about, and observe any restrictions relating to, the offering of the common stock and the distribution of this prospectus outside of the United States.
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BASIS OF PRESENTATION AND OTHER INFORMATION
Unless the context otherwise requires, all references to “Fortegra,” the “Company,” “we,” “us” and “our” refer, prior to the Corporate Conversion discussed elsewhere in this prospectus, to The Fortegra Group, LLC, a Delaware limited liability company, together with its consolidated subsidiaries taken as a whole, and, after the Corporate Conversion, to The Fortegra Group, Inc., a Delaware corporation, together with its consolidated subsidiaries taken as a whole. References to “Tiptree” refer to Tiptree Inc., our indirect parent and its consolidated subsidiaries, other than Fortegra and its consolidated subsidiaries.
MARKET, INDUSTRY AND OTHER DATA
This prospectus includes certain market and industry data and statistics, which are based on publicly available information, industry publications and surveys, reports by market research firms and our own estimates based on our management’s knowledge of, and experience in, the insurance industry and market segments in which we compete. Third-party industry publications and forecasts generally state that the information contained therein has been obtained from sources generally believed to be reliable. In addition, certain information contained in this prospectus, including information relating to the proportion of new opportunities we pursue, represents management estimates. While we believe our internal estimates to be reasonable, they have not been verified by any independent sources. Such data involve risks and uncertainties and are subject to change based on various factors, including those discussed under the captions “Risk Factors,” “Cautionary Note Regarding Forward-Looking Statements and Information” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
TRADEMARKS
We own or otherwise have rights to the trademarks, service marks, copyrights and trade names, including those mentioned in this prospectus, used in conjunction with the operation of our business. This prospectus includes trademarks, which are protected under applicable intellectual property laws and are our property and the property of our subsidiaries. This prospectus also contains trademarks, service marks, copyrights and trade names of other companies, which are the property of their respective owners. We do not intend our use or display of other companies’ trademarks, service marks, copyrights or trade names to imply a relationship with, or endorsement or sponsorship of us by, any other companies. Solely for convenience, our trademarks, service marks, trade names and copyrights referred to in this prospectus may appear without the ®,™ or © symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or the right of the applicable licensor to these trademarks, service marks, trade names and copyrights.
KEY PERFORMANCE METRICS AND NON-GAAP FINANCIAL MEASURES
We refer in this prospectus to the following key performance metrics and non-GAAP financial measures:
Key Performance Metrics:
1.Gross Written Premiums and Premium Equivalents
Represents total gross written premiums from insurance policies and warranty service contracts issued, as well as premium finance volumes during a reporting period. They represent the volume of insurance policies written or assumed and warranty service contracts issued during a specific period of time without reduction for policy acquisition costs, reinsurance costs or other deductions.
2.Underwriting Ratio
Expressed as a percentage, is the ratio of the GAAP line items net losses and loss adjustment expenses, member benefit claims and commission expense to earned premiums, net, service and administrative fees and ceding commissions and other revenue.
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3.Expense Ratio
Expressed as a percentage, is the ratio of the GAAP line items employee compensation and benefits and other underwriting, general and administrative expenses, to earned premiums, net, service and administrative fees and ceding commissions and other revenue.
4.Combined Ratio
Equals the sum of the underwriting ratio and the expense ratio.
Non-GAAP Financial Measures:
1.Underwriting and Fee Revenues
Represents total revenues excluding net investment income, net realized gains (losses) and net unrealized gains (losses).
2.Underwriting and Fee Margin
Represents income before taxes excluding net investment income, net realized gains (losses), net unrealized gains (losses), employee compensation and benefits, other expenses, interest expense and depreciation and amortization.
3.Adjusted Net Income
Represents income before taxes, less provision (benefit) for income taxes, and excluding the after-tax impact of various expenses that we consider to be unique and non-recurring in nature, including merger and acquisition related expenses, stock-based compensation, net realized gains (losses), net unrealized gains (losses) and intangibles amortization associated with purchase accounting.
4.Adjusted Return on Average Equity
Represents adjusted net income expressed on an annualized basis as a percentage of average beginning and ending member’s equity during the period.
These non-GAAP financial measures are not prepared in accordance with generally accepted accounting principles in the United States, or GAAP. They are supplemental financial measures of our performance only, and should not be considered substitutes for earned premiums, net income or any other measure derived in accordance with GAAP. For a discussion of non-GAAP financial measures, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Performance Metrics” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Reconciliations.” In addition, for a description of our revenue recognition policies, see “The Fortegra Group, LLC Audited Consolidated Financial Statements—Note (2) Summary of Significant Accounting Policies— Revenue Recognition.”
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PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this prospectus. Because this is only a summary, it does not contain all of the information that may be important to you. You should read this entire prospectus and should consider, among other things, the matters set forth under “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and our financial statements and related notes thereto appearing elsewhere in this prospectus before making your investment decision.
Who We Are
We are an established, growing and consistently profitable specialty insurer. We purposefully focus on niche business lines and fee-oriented services, providing us with a unique combination of specialty insurance program underwriting, warranty and service contract products and related service solutions. Our vertically integrated business model creates an attractive blend of traditional underwriting revenues, investment income and unregulated fee revenues. Our differentiated approach has led to robust growth, consistent profitability and high cash flows. Our business was founded in 1981. We are headquartered in Jacksonville, Florida, and as of December 31, 2020, we had 716 employees across 15 offices in four countries.
We target lines of business with a small premium-per-risk profile, which has increased our frequency exposure but has limited our severity and catastrophic risks. We believe this focus has allowed us to produce superior underwriting results through a more granular spread of risk. We use our proprietary technology to efficiently and effectively administer our business to specialty markets that we feel are underserved by larger, less agile insurers. Our underwriting expertise, strong distribution relationships and proprietary technology empower us to remain agile and take advantage of attractive opportunities in challenging market conditions.
We are an agent-driven business, employing a “one-to-many” distribution model, which allows us to leverage our high-quality partners’ brands and customer bases. We deliver our products through independent insurance agents. We also partner with agents that are embedded in consumer finance companies, online and regional big box retailers, auto dealers and other companies to deliver our products that complement the consumer transaction. We use artificial intelligence (“A.I.”) technology to create a distinct lead generation advantage for our insurance distribution partners and, over the past five years, have maintained a greater than 95% persistency rate, which represents the annual retention of the number of our producing agents. We align our agents’ economics with their underwriting results via risk-sharing agreements, which we believe has enabled us to better manage uncertainties and deliver more consistent profit margins. Combined with our underwriting expertise and technology-enabled administration, we provide a high-value proposition to our distribution relationships.
Our business strategy is supported by a high-quality balance sheet, a track record of conservative underwriting and active reinsurance counterparty risk management. We have a financial strength rating of “A-” (Excellent) (Stable Outlook) from A.M. Best and “A-” (Stable Outlook) from Kroll Bond Rating Agency (“KBRA”). With an average of over 25 years of insurance expertise, our tenured executive management team consists of highly aligned industry veterans with meaningful public company experience. We pursue perfection in execution and believe we have the vision to become a global market leader in the specialty insurance market by leveraging our cutting-edge technology and deep industry expertise. We aim to deliver our risk management solutions with fortitude and integrity by guiding individuals towards success despite the uncertainty and adversity they may face in their lives and businesses. By creating value for our agents and customers, we deliver success to our stockholders and other stakeholders.
Summary Financial Performance
For the year ended December 31, 2020, total revenues were $691 million (9% growth compared to 2019), of which $478 million was earned premiums, net (4% decline compared to 2019) and $187 million was service and administrative fees (76% growth compared to 2019). Service and administrative fees represented 27% of our total revenues for the year ended December 31, 2020 (compared to 17% in 2019). For the year ended December 31, 2020, the volume of gross written premiums and premium equivalents from these activities was $1,667 million (29% growth compared to 2019).
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For the year ended December 31, 2020, we generated $23 million in net income, $27 million in income before taxes and $43 million in adjusted net income, resulting in a return on average equity of 8.1% and adjusted return on average equity of 15.2%. As of December 31, 2020, we had total cash and cash equivalents and investments of $713 million with a pre-tax investment yield of 1.9% for the year ended December 31, 2020 and total member’s equity of $298 million as of December 31, 2020. We produced an underwriting ratio of 74.6% and an expense ratio of 16.9% for the year ended December 31, 2020, resulting in a combined ratio of 91.5%, with a five-year average combined ratio of 91.5%.
In January 2020, we acquired Smart AutoCare, a rapidly growing vehicle warranty and service contract administrator in the United States with gross written premiums and premium equivalents of approximately $200.0 million for the year ended December 31, 2019. The acquisition expanded our warranty distribution channels and dramatically increased our presence in the auto warranty sector, contributing gross written premiums and premium equivalents of approximately $249 million (24% growth compared to 2019) for the year ended December 31, 2020.
In December 2020, we acquired Sky Auto to further expand our presence in the warranty sector. The acquisition supplements the earlier acquisition of Smart AutoCare, providing additional direct marketing distribution services and support to Smart AutoCare’s dealer network.
Summary Financial Overview
Selected Income Statement Data, Key Performance Metrics, Ratios and Non-GAAP Financial Measures
($ in millions)Year Ended December 31,
202020192018
(Unaudited)
2017
(Unaudited)
Selected Income Statement Data:
Earned premiums, net$478 $499 $428 $372 
Service and administrative fees187 106 102 95 
Total revenues 691 635 545 474 
Income before taxes27 37 14 
Net income23 29 10 19 
Net income attributable to The Fortegra Group, LLC23 27 10 18 
Key Performance Metrics and Ratios:
Gross written premiums and premium equivalents$1,667 $1,297 $1,096 $963 
Net written premiums544 537 467 418 
Combined ratio91.5 %92.4 %92.0 %92.6 %
Underwriting ratio74.6 %76.5 %76.4 %76.3 %
Expense ratio16.9 %15.9 %15.6 %16.3 %
Return on average equity8.1 %10.7 %4.0 %7.7 %
Non-GAAP Financial Measures(1):
Adjusted net income$43 $33 $31 $25 
Adjusted return on average equity15.2 %12.3 %12.3 %10.5 %
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(1)Adjusted net income and adjusted return on average equity are non-GAAP financial measures. For a discussion of non-GAAP financial measures, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Reconciliations.” In addition, for a description of our revenue recognition policies, see “The Fortegra Group, LLC Audited Consolidated Financial Statements—Note (2) Summary of Significant Accounting Policies— Revenue Recognition.”
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Year Ended December 31,
($ in millions)202020192018
(Unaudited)
2017
(Unaudited)
$%$%$%$%
Gross Written Premiums and Premium Equivalents by Business Mix:
U.S. Insurance$1,064 64 %$966 74 %$887 81 %$745 77 %
U.S. Warranty Solutions550 33 297 23 208 19 218 23 
Europe Warranty Solutions53 34 — — — 
Total$1,667 100 %$1,297 100 %$1,096 100 %$963 100 %
Lines of Business, Products and Services
a.U.S. Insurance: Provides niche, specialty insurance programs distributed through managing general agents (“MGAs”), wholesale agents, retail agents and brokers. We offer an array of commercial programs with a particular focus on casualty lines. These lines include professional liability, warranty, energy, allied health, general liability, directors and officers liability, life sciences, inland marine, contractors equipment, contractors liability, student legal liability, hospitality and business owner policy. We also offer a range of personal lines programs including storage unit contents, manufactured housing, guaranteed asset protection (“GAP”), auto, credit life and disability and collateral protection products. We provide credit life and disability programs that protect the lender and the borrower from default risk due to a life event impacting the borrower’s ability to repay the loan. Additionally, we offer related fee-earning, unregulated products and services, such as captive administration services, program administration and premium financing, to our U.S. Insurance customers. For the year ended December 31, 2020, the volume of gross written premiums and premium equivalents from these activities was $1,064 million, which represented approximately 64% of our total gross written premiums and premium equivalents and 10% growth compared to 2019. We are active in 50 states in the United States.
b.U.S. Warranty Solutions: Provides consumers with protection from certain covered losses on automobiles, mobile devices, consumer electronics, appliances and furniture in the United States. Our programs include, but are not limited to, vehicle service contracts (“VSCs”), roadside assistance and motor clubs, GAP, automobile dent and ding repair, key replacement, cellular handset protection and brown and white good service contracts. We distribute our programs through retailers, auto dealerships and cell-phone carriers. For the year ended December 31, 2020, the volume of gross written premiums and premium equivalents from these activities was $550 million, which represented approximately 33% of our total gross written premiums and premium equivalents and 85% growth compared to 2019. We are active in 50 states in the United States.
c.Europe Warranty Solutions: Provides consumers with protection from certain covered losses on automobiles, mobile devices, consumer electronics, appliances and furniture in the European region. We offer a variety of programs, including GAP, auto extended warranty, automobile dent and ding repair, tire and wheel protection, cellular handset protection, consumer products accidental damage and others. We distribute our programs through MGAs, retail agents and auto dealerships. For the year ended December 31, 2020, the volume of gross written premiums and premium equivalents from these activities was $53 million, which represented approximately 3% of our total gross written premiums and premium equivalents and 56% growth compared to 2019. We are active in eight countries in Europe: Czech Republic, Hungary, Ireland, the Netherlands, Poland, Slovakia, Spain and the United Kingdom.
How We Win
Focus on Niche, Underserved Specialty Lines with Significant Fee-Based Income
We focus on specialty insurance program business and have continued to diversify our revenues. We use three distinct approaches to grow our business – we pursue and acquire agents with select books of business that we
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believe will maintain risk-appropriate rates; we seek agents with what we believe is distinct underwriting expertise to select specific niches in programs; and we target the lines of business we believe are overlooked by the standard markets. For example, we often target the smaller premium-per-risk lines that we believe are highly profitable, have the potential to grow and are underserved by our competitors. We believe we have a unique ability to source small programs that meet our rate, form and risk threshold through our extensive distribution network and A.I. technology.
We believe our underwriting expertise, proprietary technology and deep distribution relationships allow us to serve our specialty markets and capture share. We cross-sell multiple products to our customers through the breadth of our products and solutions, including fee-based services. As of December 31, 2020, we had $1,259.7 million of unearned premiums and deferred revenue, compared to $849.3 million as of December 31, 2019, which offers us considerable visibility into future revenues. For the year ended December 31, 2020, 47.6% of unearned premiums and deferred revenue as of December 31, 2019 were earned representing $404.2 million. We believe the combination of a low limits profile, low severity products and attractive fee income provides higher underwriting margin and earnings stability for our business. While low limits and low severity constitute most of our underwritten business, we believe we are agile enough to take advantage of attractive opportunities in challenging market conditions.
Track Record of Growth, Profitable Underwriting and Strong Economic Alignment with Our Distribution Network
Consistent underwriting is a function of rate adequacy and risk selection by our specialized agents. While we regularly establish sound actuarial rates similar to our insurance peers, we believe our stringent risk selection requires unique underwriting expertise by our agents and a high degree of specialty program underwriting skillsets. After we establish relationships with our targeted agents, we further solidify our alliance by creating additional value for our distribution partners through our technology platform. We believe our A.I. algorithm and machine learning assisted underwriting drives a distinct lead generation advantage for our agents. Using A.I. technology and machine learning, we identify risks that fit into an acceptable profile, enhancing the agent’s efficiency and revenue base while allowing us to experience what we believe is a superior spread of risk and exceptional underwriting results. For the year ended December 31, 2020, our combined ratio was 91.5% and has averaged 91.6% over the past five years.
We underwrite and administer both admitted and excess and surplus (“E&S”) line business. We believe underwriting business across multiple industries and geographies creates a conducive environment for targeting profitable programs, supporting agents with highly specialized skillsets and focusing on overlooked business lines. Our approach facilitates participation in niche markets when the rate environment presents actionable opportunities. We believe the breadth of our underwriting capacity, services and expertise afford our agents with a platform that meets the entirety of their needs. Our risk-sharing model aligns agents’ economics to their underwriting performance, incentivizing agents to grow while maintaining strict profit margin discipline. Through long-term relationships with our agents and substantial experience in the markets we serve, we believe we operate in an advantageous position against new market entrants, who we believe would find it time-consuming and expensive to compete against or replicate our success.
Scalable, Proprietary Technology, Which Drives Efficiency and Delivers Premium Customer Service
We provide many aspects of insurance, including admitted specialty property-casualty products, E&S line offerings, administration, premium finance and other value-added services. We have a scalable and flexible technology infrastructure, together with highly trained and knowledgeable information technology (“IT”) personnel and consultants. These resources allow us to launch new insurance and fee for service programs and expand gross written premiums and premium equivalents volume quickly and seamlessly without significant incremental expenses. Our technology also delivers low-cost, highly automated underwriting and administration services to our program partners without substantial up front investments. This technology-enhanced platform enables us to automate core business processes, reduce our operating costs, increase our operating efficiency and secure high agent retention. We have maintained a greater than 95% persistency rate with our insurance producing agents over the past five years. Our underwriting expertise, strong distribution relationships and proprietary technology empower us to remain agile and take advantage of attractive opportunities in challenging market conditions. Our
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systems also enable us to provide a high level of service to our distribution partners and customers through technology.
High-Quality, Conservative Balance Sheet with Solid Capitalization and Ratings
We maintain a high quality, Standard & Poor’s (“S&P”) “AA” rated, fixed income investment portfolio. Our investment portfolio’s principal objectives are to preserve capital and surplus, to maintain appropriate liquidity for corporate requirements, to support our strong ratings and to maximize returns. We have a track record of reducing our reinsurance counterparty exposure by partnering with reinsurers that have high-grade credit quality, ensuring high-quality recoverable assets and by effectively using collateral and partnering with Producer Owned Reinsurance Companies (“PORCs”). Our financial strength ratings of “A-” (Excellent) (Stable Outlook) from A.M. Best and “A-” (Stable Outlook) from KBRA reflect our adherence to our core values.
Culture Centered On Pursuit of Perfection and Serving Communities
We pursue perfection in execution and believe we have the vision to become a global market leader in specialty insurance markets by leveraging our cutting-edge technology and deep industry expertise. We aim to deliver our risk management solutions with fortitude and integrity by guiding individuals towards success despite the uncertainty and adversity they may face in their lives and businesses. By creating value for our agents and customers, we deliver success to our stockholders and other stakeholders.
Our culture of serving communities begins at a micro level and extends globally, from environmentally friendly practices within our offices to the building of wells in Africa. We accomplish our goal through the Fortegra Foundation (the “Foundation”), a non-profit corporation chaired by our Chief Executive Officer, Richard S. Kahlbaugh. We are committed to supporting the communities where we live and work. The Foundation aims to give back through initiatives that aid children and military families. In addition to these direct efforts, the Foundation joins other like-minded charities to ensure that children can access education and clean water sources. Our risk management solutions benefit millions of consumers and help them manage uncertainty and adversity; through our environmental, social and governance practices, we serve many more stakeholders. Supporting our community is where our heart is.
Seasoned and Aligned Public Company Management Team
Our executive management team has an average of over 25 years of industry experience and possess complementary skillsets to guide us into a successful future. Each management team member has served in a senior leadership role for major insurance industry companies and has extensive underwriting and administration experience. Our management team is a cohesive group that has worked together for many years. Their sterling reputation, consistent operational excellence and deep domain expertise give us confidence in our ability to achieve our enterprise’s goals. In addition, our Chief Executive Officer, Mr. Kahlbaugh, and Chief Financial Officer, Michael F. Grasher, both bring prior executive-level experience managing and operating publicly-traded insurance companies.
Our Growth Strategy
Gain Market Share in Our Existing Markets and Expand into New Specialty Insurance Markets
We operate in markets that represented approximately $80 billion of premium in the year ended December 31, 2019, according to an aggregation of data reported by IBIS World Providers Report, the Consumer Credit Industry Association, the Center for Insurance Policy and Research, the Wholesale Specialty Insurance Association and the Target Markets State of Programs Business 2019 Report. By comparison, we generated $1.3 billion of gross written premiums and premium equivalents in the year ended December 31, 2019. We believe the breadth of our services and our underwriting expertise will enable us to further penetrate our existing markets and cross-sell additional products to existing program partners. We believe our newly formed E&S subsidiary will be a driver of significant growth. We believe the ability to provide both admitted and E&S products will sustain our future growth.
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We also intend to opportunistically acquire leading specialty underwriting teams focused on niche, commercial risks to supplement our existing books of business. We focus our efforts on acquiring proven teams with a strong track record and intend to avoid de novo or unproven books of business. While we do not actively seek out acquisitions, we opportunistically evaluate potential new teams and targets. We will continue to remain disciplined in our approach to assess returns and cultural fit for any possible transactions. Our highly entrepreneurial and meritocratic culture has fostered a nimble yet disciplined approach to business development. Over time, we may develop new partnerships with best-in-class distributors with limited authority delegated to agents, allowing us to maintain strong economic alignment between our Company and our distribution partners.
Leverage Technology to Support Growth
Technology is a core element of our strategy and operations. We believe our success is closely related to our substantial investment in and application of proprietary technologies. For example, we use A.I. technology and machine learning to identify leads for our distribution partners to write additional business that meets our risk parameters. We believe our proprietary technology platform will continue to support growth without significant incremental investment. Our technology is scalable and able to adapt to our growing business. Our technology will continue to evolve and develop as our business matures. Our systems enable us to provide a high level of service to our distribution partners and customers through technology.
Maintain Our Underwriting Discipline and Consistent Profitability While Achieving Our Growth Objectives
As we seek revenue growth, we will remain disciplined in our pricing, underwriting and risk management processes. We believe our unique method of sourcing attractive, smaller programs that meet our risk parameters will allow us to continue to grow both rapidly and profitably. We will continue to underwrite and administer low-volatility insurance products. We will also continue to develop a portfolio of insurance risks with predictable, short-tail loss experience with low severity and high frequency. We believe we will continue to foster a culture of underwriting practices that will allow us to continue achieving our target growth objectives while generating desired profitability.
Maintain Our Strong Balance Sheet
We believe a strong balance sheet is essential to support our growth and consistently high returns.
Our investment portfolio has consistently maintained high credit quality and short duration. Strategically, we invest in liquid short- and medium-term securities to cover near-term obligations and limit our exposure to alternative investments. As of December 31, 2020, our cash and fixed income portfolio represented 83% of our total portfolio, carried an S&P fixed income rating of AA and maintained a duration of 2.4 years.
We employ conservative reserving practices with rigorous checks and balances. We actively manage risk through reinsurance, partnering primarily with reinsurers that maintain “A-” or higher A.M. Best financial strength ratings, possess a history of strong credit quality or that fully collateralize their recoverables, all of which ensures high-quality recoverable assets and minimizes counterparty risk. We believe our high-quality balance sheet provides the foundation for consistently delivering excellent financial performance and returns.
Our Relationship with Tiptree
Tiptree (NASDAQ: TIPT) is a holding company that allocates capital across a broad spectrum of businesses, assets and other investments. We have been a subsidiary of Tiptree since December 2014. During that time, Tiptree has reinvested substantially all of our earnings into growing our business organically and through acquisitions. After this offering, Tiptree will own approximately 82.67% of Fortegra’s common stock (or 80.95% if the underwriters exercise their over-allotment option) and control 82.67% of the voting power of our common stock. Tiptree’s investment management services provide Fortegra access to and expertise to analyze a broad array of potential investment opportunities. Tiptree also provides Fortegra with certain tax and administrative services. In addition, Tiptree will exert significant control over us through a stockholders’ agreement (as described below). For more information see “Certain Relationships and Related Party Transactions.”
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Recent Developments
We are currently finalizing our unaudited interim consolidated financial statements for the three months ended March 31, 2021. While our unaudited interim consolidated financial statements for the three months ended March 31, 2021 are not yet available, based on the information currently available, we preliminarily estimate that:
Gross written premiums and premium equivalents were $505 million for the three months ended March 31, 2021, an increase of 29% compared to gross written premiums and premium equivalents of $392 million for the three months ended March 31, 2020. The period over period increase was driven by growth in specialty commercial, credit insurance and warranty programs.
Earned premiums, net were $146.9 million for the three months ended March 31, 2021, compared to $121.3 million in the prior year period. The $25.6 million increase, or 21.1%, was driven by growth in commercial, credit and warranty insurance lines, consistent with the drivers of gross written premiums.
The combined ratio was 91.5% for the three months ended March 31, 2021, compared to the combined ratio of 93.6% for the three months ended March 31, 2020, a decrease of 2.1 percentage points. The underwriting ratio was 74.2% for the three months ended March 31, 2021, compared to 75.7% for the three months ended March 31, 2020, a decrease of 1.5 percentage points. The expense ratio was 17.3% for the three months ended March 31, 2021 and 17.9% for the three months ended March 31, 2020, a decrease of 0.6 percentage points. The period over period decrease in the ratios was primarily driven by a shift in business mix toward more profitable lines improving the underwriting ratio and continued scalability of our technology and shared service platform improving the expense ratio. For the three months ended March 31, 2021, we experienced reserve redundancy of $36,000 as compared to prior year loss development of $2.3 million for the three months ended March 31, 2020, which represents a 1.3% impact to the underwriting ratio, primarily driven by higher than expected claims frequency by a small group of producers.
Net income was $17.1 million for the three months ended March 31, 2021, an increase of $36.6 million compared to a net loss of $19.5 million for the three months ended March 31, 2020. The annualized return on average equity was 24% for the three months ended March 31, 2021, compared to (28)% for the three months ended March 31, 2020. The increase in net income and annualized return on average equity was driven operationally by growth in revenues and improvements in the combined ratio, in addition to net realized and unrealized gains in the 2021 period compared to net realized and unrealized losses in the 2020 period.
Adjusted net income was $12.8 million for the three months ended March 31, 2021, an increase of 46% compared to $8.7 million for the three months ended March 31, 2020. The annualized adjusted return on average equity was 18% for the three months ended March 31, 2021, compared to 13% for the three months ended March 31, 2020. The increase in adjusted net income and annualized adjusted return on average equity was driven operationally by growth in revenues and improvements in the combined ratio.
Total member’s equity was $274 million as of March 31, 2021, compared to total member’s equity of $298 million as of December 31, 2020. The change in member’s equity was driven by net income in the period, which was more than offset by dividends of $37 million to Tiptree in the three months ended March 31, 2021.
The preliminary financial information above is unaudited and there can be no assurance that it will not vary from our actual financial results as of and for the three months ended March 31, 2021. The preliminary financial information above reflects estimates based only on preliminary information available to us as of the date of this prospectus, has not been subject to our normal quarterly closing procedures and adjustments, which may be material, and is not a comprehensive statement of our financial results for the three months ended March 31, 2021, nor have we completed all of our internal control procedures as of the date of this filing. Accordingly, you should not place undue reliance on these preliminary estimates, nor should they be viewed as a substitute for full financial statements as of and for the three months ended March 31, 2021 prepared in accordance with GAAP. The estimates above are not necessarily indicative of any future period and actual results may differ materially from those described above. The estimates should be read together with “Risk Factors,” “Cautionary Note Regarding Forward-Looking Statements and Information,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Selected Consolidated Financial and Other Data” and our audited consolidated financial statements
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and notes thereto included elsewhere in this prospectus. The preliminary financial information above has been prepared by, and is the responsibility of, our management. Our independent registered public accounting firm has not audited, reviewed, compiled or performed any procedures with respect to the preliminary financial information, nor have any other independent accountants, and does not express an opinion or any other form of assurance with respect thereto.
Adjusted Net Income — Non-GAAP
We define adjusted net income as income before taxes, less provision (benefit) for income taxes, and excluding the after-tax impact of various expenses that we consider to be unique and non-recurring in nature, including merger and acquisition related expenses, stock-based compensation, net realized gains (losses), net unrealized gains (losses) and intangibles amortization associated with purchase accounting. We use adjusted net income as an internal operating performance measure and to determine incentive compensation for our executive officers. We believe adjusted net income provides useful supplemental information to investors as it is frequently used by the financial community to analyze financial performance between periods and for comparison among companies. Adjusted net income should not be viewed as a substitute for income before taxes calculated in accordance with GAAP, and other companies may define adjusted net income differently.
We present adjustments for amortization associated with acquired intangible assets. The intangible assets were recorded as part of purchase accounting in connection with Tiptree’s acquisition of FFC in 2014, Defend Insurance Group (“Defend”) in 2019, and Smart AutoCare and Sky Auto in 2020. The intangible assets acquired contribute to overall revenue generation, and the respective purchase accounting adjustments will continue to occur in future periods until such intangible assets are fully amortized in accordance with the respective amortization periods required by GAAP.
($ in thousands)Three Months Ended March 31,
2021
(Unaudited)
2020
(Unaudited)
Income (loss) before taxes$21,528 $(27,117)
Less: Income tax (benefit) expense(4,429)7,663 
Less: Net realized and unrealized gains (losses)(1)
(9,624)33,601 
Plus: Intangibles amortization(2)
3,834 2,168 
Plus: Stock-based compensation expense372 351 
Plus: Non-recurring expenses270 2,195 
Less: Tax on adjustments825 (10,127)
Adjusted net income$12,776 $8,734 
__________________
(1)For the three months ended March 31, 2021, includes $0.05 million of incentive fees paid with respect to specific unrealized and realized gains that are added-back to Adjusted net income.
(2)Specifically associated with acquisition purchase accounting.

Adjusted Return on Average Equity — Non-GAAP
We define adjusted return on average equity as adjusted net income expressed on an annualized basis as a percentage of average beginning and ending member’s equity during the period. See “—Adjusted Net Income—Non GAAP” above. We use adjusted return on average equity as an internal performance measure in the management of our operations because we believe it gives our management and other users of our financial information useful insight into our results of operations and our underlying business performance. Adjusted return on average equity
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should not be viewed as a substitute for return on average equity calculated in accordance with GAAP, and other companies may define adjusted return on average equity differently.
($ in thousands)Three Months Ended March 31,
2021
(Unaudited)
2020
(Unaudited)
Adjusted net income(1)
$12,776 $8,734 
Average member’s equity285,885 274,921 
Adjusted return on average equity17.9 %12.7 %
__________________
(1)See “—Adjusted Net Income—Non GAAP” above.
Summary Risk Factors
Investing in our common stock involves substantial risk. You should carefully consider all of the information in this prospectus prior to investing in our common stock. There are several risks related to our business and our ability to leverage our strengths that are described under “Risk Factors” elsewhere in this prospectus. Among these important risks are the following:
Our actual claims losses may exceed our reserves for claims, which may require us to establish additional reserves that may have a material adverse effect on our business, results of operations and financial condition.
Performance of our investment portfolio is subject to a variety of investment risks, and any shift in our investment strategy could increase the riskiness of our investment portfolio and the volatility of our results.
We could be forced to sell investments to meet our liquidity requirements.
A downgrade in our claims paying ability or financial strength ratings could increase policy surrenders and withdrawals, adversely affecting relationships with distributors and reducing new policy sales.
Our failure to accurately pay claims in a timely manner could have a material adverse effect on our business, results of operations, financial condition and cash flows.
If market conditions cause reinsurance to be more costly or unavailable, we may be required to bear increased risks or reduce the level of our underwriting commitments.
We may seek to acquire other businesses and start up additional complementary businesses, and may need to raise additional capital or refinance our indebtedness to pursue these acquisitions, which could require significant management attention, disrupt our business, dilute stockholder value and have a material adverse effect on our results of operations, financial conditions and cash flows.
If we fail to manage future growth effectively, our business, results of operations, financial condition and cash flows would be harmed.
Catastrophic events could significantly impact our business.
Our international operations expose us to investment, political and economic risks, including foreign currency and credit risk.
We could be adversely affected by the loss of one or more key executives or by an inability to attract and retain qualified personnel.
Adverse economic factors could result in the sale of fewer policies than expected or an increase in the frequency of claims and premium defaults, and even the falsification of claims, or a combination of these effects, which, in turn, could affect our growth and profitability.
Our risk management policies and procedures may prove to be ineffective and leave us exposed to unidentified or unanticipated risk, which could adversely affect our business, results of operations, financial condition or cash flows.
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We may not be able to generate sufficient cash to service all of our indebtedness and may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful.
We are dependent on independent financial institutions, lenders, distribution partners, agents and retailers for distribution of our products and services, and the loss of these distribution sources, or their failure to sell our products and services, could have a material adverse effect on our business, results of operations, financial condition and cash flows.
Due to the structure of some of our commissions, we are exposed to risks related to the creditworthiness of some of our independent agents and program partners.
Third-party vendors we rely upon to provide certain business and administrative services on our behalf may not perform as anticipated, which could have an adverse effect on our business, results of operations, financial condition and cash flows.
Competition for business in our industry is intense.
Compliance with existing and new regulations affecting our business, including statutory and capital reserve requirements, and increasing regulatory focus on privacy issues may increase costs, expose us to increased liability and limit our ability to pursue business opportunities.
Implications of Being an Emerging Growth Company
We qualify as an “emerging growth company” as defined in the Jumpstart Our Business Startups Act of 2012, or the JOBS Act. As an emerging growth company, we may take advantage of specified reduced disclosure and other requirements that are otherwise applicable generally to public companies, including reduced disclosure about our executive compensation arrangements, exemption from the requirements to hold non-binding advisory votes on executive compensation and golden parachute payments and exemption from the auditor attestation requirement in the assessment of our internal control over financial reporting.
We may take advantage of these exemptions until the last day of the fiscal year following the fifth anniversary of this offering or such earlier time that we are no longer an emerging growth company. We would cease to be an emerging growth company earlier if we have $1.07 billion or more in annual revenues, we have $700.0 million or more in market value of our stock held by non-affiliates (and we have been a public company for at least 12 months and have filed one annual report on Form 10-K) or we issue more than $1.0 billion of non-convertible debt securities over a three-year period. For so long as we remain an emerging growth company, we are permitted, and intend, to rely on exemptions from certain disclosure requirements that are applicable to other public companies that are not emerging growth companies. We may choose to take advantage of some, but not all, of the available exemptions.
We have elected to take advantage of certain of the reduced disclosure obligations in the registration statement of which this prospectus is a part and may elect to take advantage of other reduced reporting requirements in future filings. In particular, in this prospectus, we have provided only two years of audited financial statements and have not included all of the executive compensation-related information that would be required if we were not an emerging growth company. As a result, the information that we provide to our stockholders may be different than you might receive from other public reporting companies in which you hold equity interests.
In addition, the JOBS Act permits an emerging growth company to take advantage of an extended transition period to comply with new or revised accounting standards applicable to public companies. We are choosing to “opt out” of this provision, and this decision is irrevocable.
Corporate Conversion
We currently operate as a Delaware limited liability company under the name The Fortegra Group, LLC. Upon the effectiveness of the registration statement of which this prospectus forms a part, The Fortegra Group, LLC will convert into a Delaware corporation pursuant to a statutory conversion and change its name to The Fortegra Group, Inc. In this prospectus, we refer to all of the transactions related to our conversion to a corporation described above as the Corporate Conversion.
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In conjunction with the Corporate Conversion, all of the outstanding limited liability company interests of The Fortegra Group, LLC will be converted into an aggregate of 48,456,200 shares of our common stock. In connection with the Corporate Conversion, The Fortegra Group, Inc. will continue to hold all property and assets of The Fortegra Group, LLC and will assume all of the debts and obligations of The Fortegra Group, LLC. The Fortegra Group, Inc. will be governed by a certificate of incorporation filed with the Delaware Secretary of State and bylaws, portions of which are described under the heading “Description of Capital Stock.” On the effective date of the Corporate Conversion, the members of the Board of Directors of The Fortegra Group, LLC will become the members of the Board of Directors of The Fortegra Group, Inc. and the officers of The Fortegra Group, LLC will become the officers of The Fortegra Group, Inc.
Corporate Information
Fortegra was formed in 2018 in Delaware and is the parent of Fortegra Financial Corporation and the entities operating the Smart AutoCare business. Fortegra’s business was founded in 1981. Upon the effectiveness of the registration of which this prospectus forms a part, we will convert into a Delaware corporation pursuant to a statutory conversion and be renamed The Fortegra Group, Inc. See “Corporate Conversion.” Our principal executive offices are located at 10751 Deerwood Park Blvd., Suite 200, Jacksonville, Florida 32256, and our telephone number is (866) 961-9529. Our website address is www.fortegra.com. Information on, or accessible through, our website is not part of this prospectus, nor is such content incorporated by reference herein. You should rely only on the information contained in this prospectus when making a decision as to whether to invest in our common stock.
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Our Organizational Structure
The diagram below depicts our current organizational structure (100% owned unless otherwise noted):
preipostructure2.jpg
The diagram below depicts our organizational structure immediately following this offering (100% owned unless otherwise noted):
postipostructurewithnumbera.jpg
Prior to the completion of this offering, Fortegra will convert from a Delaware limited liability company into a Delaware corporation as described below under “Corporate Conversion.” See “Capitalization” for information with respect to the equity structure of Fortegra.
Assuming an initial public offering price of $16.00 per share (the midpoint of the estimated price range set forth on the cover page of this prospectus), immediately following the completion of this offering, Tiptree will hold approximately 82.67% of our common stock, 3.17% will be held by the management and the remaining 14.16% will be held by public stockholders.
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The Offering
Common stock offered by us8,300,000 shares (or 9,545,000 shares if the underwriters exercise their option to purchase additional common stock in full).
Common stock outstanding after this offering58,612,860 shares (or 59,857,860 shares if the underwriters exercise their option to purchase additional common stock in full).
Option to purchase additional common stockWe have granted the underwriters a 30-day option from the date of this prospectus to purchase up to an additional 1,245,000 shares of common stock at the initial public offering price, less underwriting discounts and commissions.
Use of proceeds
We estimate the net proceeds to us from this offering will be approximately $119.5 million, based on an assumed public offering price of $16.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, after deducting assumed underwriting discounts and commissions and other estimated offering expenses payable by us.

We intend to use the net proceeds from this offering to execute our growth strategy, repay $75 million in aggregate principal amount under the Credit Agreement, dated as of February 21, 2020, by and among Tiptree, certain of its subsidiaries and Fortress Credit Corp. (the “Fortress Credit Facility”), along with related premiums, accrued and unpaid interest, and for general corporate purposes. See “Use of Proceeds” for additional information.
Dividend policyWe currently do not intend to declare or pay any cash dividends in the foreseeable future. Any further determination to pay dividends on our common stock will be at the discretion of our Board of Directors, subject to applicable laws, and will depend on our financial condition, results of operations, capital requirements, general business conditions, legal, tax and regulatory limitations, contractual restrictions and other factors that our Board of Directors considers relevant. See “Dividend Policy.”
Reserved share programAt our request, an affiliate of BofA Securities, Inc., a participating underwriter, has reserved for sale, at the initial public offering price, up to 5.0% of the common stock offered by this prospectus for sale to some of our directors, officers, employees, business associates and related persons. If these persons purchase reserved shares it will reduce the number of shares of common stock available for sale to the general public. Any reserved shares that are not so purchased will be offered by the underwriters to the general public on the same terms as the other common stock offered by this prospectus. See “Underwriting—Reserved Share Program.”
Principal stockholder
Upon completion of this offering, Tiptree will own approximately 82.67% (or 80.95% if the underwriters exercise their option to purchase additional common stock in full) of the voting power of our outstanding capital stock and will have the ability to control the outcome of matters submitted to our stockholders for approval, including the election of our directors, amendments of our organizational documents and any merger, consolidation, sale of all or substantially all of our assets or other major corporate transactions. See “Principal Stockholders” and “Description of Capital Stock” for additional information.
The New York Stock Exchange (“NYSE”) symbol“FRF.”
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Risk factors
See “Risk Factors” beginning on page 17 of this prospectus for a discussion of factors you should carefully consider before deciding to invest in our common stock.
The number of shares of common stock to be outstanding after completion of this offering is based on     shares of common stock outstanding as of March 31, 2021 after giving effect to the Corporate Conversion. The number of shares outstanding as of March 31, 2021 excludes 6,000,000 shares of common stock reserved for issuance under our Incentive Plan (the “Incentive Plan”), which we plan to adopt in connection with this offering.
Unless we specifically state otherwise, all information in this prospectus assumes:
no exercise of the option to purchase additional common stock by the underwriters;
an initial offering price of $16.00 per share of common stock, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus;
the completion of the Corporate Conversion, as a result of which all outstanding limited liability company interests of The Fortegra Group, LLC will be converted into an aggregate of 48,456,200 shares of common stock of The Fortegra Group, Inc., and the concurrent exchange of outstanding stock of LOTS Intermediate Co. for 1,856,660 shares of Fortegra common stock; and
the adoption of our certificate of incorporation and bylaws.
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Summary Consolidated Financial Information and Other Data
The following table sets forth a summary of our historical consolidated financial data as of and for the periods indicated. The financial data as of and for the year ended December 31, 2020 and 2019 are derived from our audited consolidated financial statements set forth elsewhere in this prospectus, which have been prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”).
Our summary of historical consolidated financial data should be read in conjunction with our consolidated financial statements, related notes and other financial information included in this prospectus as well as “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Use of Proceeds” and “Capitalization.”
In addition to GAAP results, management uses certain key performance metrics, ratios and non-GAAP financial measures. These non-GAAP financial measures are not measurements of financial performance or liquidity under GAAP and should not be considered as an alternative or substitute for earned premiums, net, income before taxes, net income or any other measure derived in accordance with GAAP. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Performance Metrics and Non-GAAP Financial Measures”
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and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Reconciliations.”
($ in thousands)Year Ended December 31,
20202019
Selected Income Statement Data:
  
Earned premiums, net$477,991 $499,108 
Service and administrative fees186,973 106,238 
Net investment income9,916 8,671 
Total revenues691,061 635,085 
Total expenses664,113 598,055 
Income before taxes26,948 37,030 
Net income23,223 28,575 
Net income attributable to The Fortegra Group, LLC22,821 27,160 
Key Performance Metrics and Ratios:
Gross written premiums and premium equivalents$1,666,942 $1,297,042 
Underwriting ratio(1)
74.6 %76.5 %
Expense ratio16.9 %15.9 %
Combined ratio91.5 %92.4 %
Return on average equity8.1%10.7%
Non-GAAP Financial Measures(2):
Adjusted net income$43,423 $32,806 
Adjusted return on average equity15.2 %12.3 %
Selected Balance Sheet Data:
  
Cash and cash equivalents and investments$712,874 $565,920 
Total assets2,452,799 1,730,636 
Policy liabilities and unpaid claims233,438 144,384 
Unearned premiums and deferred revenue1,259,737 849,336 
Total debt(3)
177,973 199,304 
Total member’s equity297,709 273,809 
Pro forma earnings per share of common stock (Unaudited)(4):
Basic$0.43 
Diluted$0.43 
Pro forma weighted-average shares of common stock outstanding (Unaudited):
Basic55,597,519
Diluted55,597,519
__________________
(1)Includes loss ratio, defined as net losses and loss adjustment expenses over earned premiums, net for the years ended December 31, 2020, 2019, 2018 and 2017 of 37.3%, 30.3%, 31.5% and 29.2%, respectively.
(2)Adjusted net income and adjusted return on average equity are non-GAAP financial measures. For a discussion of non-GAAP financial measures, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Reconciliations.” In addition, for a description of our revenue recognition policies, see “The Fortegra Group, LLC Audited Consolidated Financial Statements—Note (2) Summary of Significant Accounting Policies— Revenue Recognition.”
(3)Includes $27,510 and $21,524 of debt associated with asset-based lending as of December 31, 2020 and December 31, 2019, respectively.
(4)See “Selected Consolidated Financial and Other Data” for reconciliation of the numerators and denominators used to compute pro forma basic and diluted earnings per share of common stock. The historical earnings per unit is not meaningful or comparable because, prior to the Corporate Conversion, The Fortegra Group, LLC was a single member LLC. Accordingly, earnings per unit is not presented.
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RISK FACTORS
An investment in our common stock involves a high degree of risk. You should consider carefully the following risks, together with the other information contained in this prospectus, before you decide whether to buy our common stock. If any of the events contemplated by the following discussion of risks should occur, our business, results of operations, financial condition and cash flows could suffer significantly. As a result, the market price of our common stock could decline, and you may lose all or part of the value of your investment. The following is a summary of all the material risks known to us. The risks described below are not the only ones we face. Additional risks not presently known to us or that we currently believe to be immaterial may also have a material adverse effect on our business.
Risks Related to Our Businesses
Our actual claims losses may exceed our reserves for claims, which may require us to establish additional reserves that may have a material adverse effect on our business, results of operations and financial condition.
We maintain reserves to cover our estimated ultimate exposure for claims with respect to reported claims, and incurred, but not reported, claims as of the end of each accounting period. Reserves, whether calculated under GAAP or statutory accounting principles (“SAP”), do not represent an exact calculation of exposure. Instead, they represent our best estimates, generally involving actuarial projections, of the ultimate settlement and administration costs for a claim or group of claims, based on our assessment of facts and circumstances known at the time of calculation. The adequacy of reserves will be impacted by future trends in claims severity, frequency, judicial theories of liability and other factors. These variables are affected by external factors such as changes in the economic cycle, unemployment, inflation, judicial trends, legislative changes, as well as changes in claims handling procedures. Many of these items are not directly quantifiable, particularly on a prospective basis. Reserve estimates are refined as experience develops. Adjustments to reserves, both positive and negative, are reflected in the statements of operations of the period in which such estimates are updated. Because the establishment of reserves is an inherently uncertain process involving estimates of future losses, we can give no assurances that ultimate losses will not exceed existing claims reserves. In general, future loss development could require reserves to be increased, which could have a material adverse effect on our business, results of operations and financial condition.
Performance of our investment portfolio is subject to a variety of investment risks.
Our results of operations depend significantly on the performance of our investment portfolio. Our portfolio of investments will continue to be managed by Tiptree and one or more additional advisers following this offering. Our investments are subject to general economic conditions and market risks in addition to risks inherent to particular securities and risks relating to the performance of our investment advisers.
Our primary market risk exposures are to changes in interest rates. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Quantitative and Qualitative Disclosure About Market Risk.” In recent years, interest rates have been at or near historic lows. A protracted low interest rate environment would continue to place pressure on our net investment income, which, in turn, would have a material adverse effect on our profitability. Future increases in interest rates could cause the values of our fixed income securities portfolios to decline, with the magnitude of the decline depending on the duration of securities included in our portfolio and the amount by which interest rates increase. Some fixed income securities have call or prepayment options, which create possible reinvestment risk in declining rate environments. Other fixed income securities, such as mortgage-backed and asset-backed securities, carry prepayment risk or, in a rising interest rate environment, may not prepay as quickly as expected.
The value of our investment portfolio is also subject to the risk that certain investments may default or become impaired due to deterioration in the financial condition of one or more issuers of the securities we hold, or due to deterioration in the financial condition of an insurer that guarantees an issuer’s payments on such investments. Downgrades in the credit ratings of fixed maturities may also have a significant negative effect on the market valuation of such securities.
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Such factors could reduce our net investment income and result in realized investment losses. Our investment portfolio is subject to increased valuation uncertainties when investment markets are illiquid. The valuation of investments is more subjective when markets are illiquid, thereby increasing the risk that the estimated fair value (i.e., the carrying amount) of the securities we hold in our portfolio does not reflect prices at which actual transactions would occur.
The performance of our investments also depends heavily on the skills of our investment advisers, including Tiptree, in analyzing, selecting and managing the investments. Our investment policy establishes investment parameters such as maximum percentages of investment in certain types of securities and minimum levels of credit quality and is designed to manage investment risk. Achievement of our investment objectives will depend, in part, on our investment managers’ ability to provide competent, attentive and efficient services to us under the terms of the respective investment advisory agreement and to successfully manage our investment risk. There can be no assurance that, over time, our investment advisers will be able to provide services on that basis or that we will be able to invest its assets on attractive terms or generate any investment returns for stockholders or avoid investment losses. Our investment objectives may not be achieved and results may vary substantially over time. In addition, although our investment advisers seek to employ investment strategies that are not correlated with our insurance and reinsurance exposures, losses in our investment portfolio may occur at the same time as underwriting losses.
Investors will be highly dependent on the financial and managerial experience of certain investment professionals associated with our investment advisers, none of whom are under any contractual obligation to us to continue to be associated with our investment advisers. The loss of one or more of these individuals could have a material adverse effect on the performance of our investment portfolio.
A shift in our investment strategy could increase the riskiness of our investment portfolio and the volatility of our results, which, in turn, may have a material adverse effect on our profitability.
Our investment strategy has historically been largely focused on fixed income securities which are subject to less volatility but also lower returns as compared to certain other asset classes. In the future, our investment strategy may include a greater focus on investments in equity securities, which are subject, among other things, to changes in value that may be attributable to market perception of a particular issuer or to general stock market fluctuations that affect all issuers. Investments in equity securities may be more volatile than investments in other asset classes such as fixed income securities. Common stocks generally subject their holders to more risks than preferred stocks and debt securities because common stockholders’ claims are subordinated to those of holders of preferred stocks and debt securities upon the bankruptcy of the issuer. An increase in the riskiness of our investment portfolio could lead to volatility of our results, which, in turn, may have a material adverse effect on our profitability.
The historical performance of our investment portfolio should not be considered as indicative of the future results of our investment portfolio, our future results or any returns expected on our common stock.
Our investment portfolio’s returns have benefitted historically from investment opportunities and general market conditions that currently may not exist and may not repeat themselves, and there can be no assurance that we will be able to avail ourselves of profitable investment opportunities in the future. Furthermore, the historical returns of our investments are not directly linked to our future results or returns on our common stock, which are affected by various factors, one of which is the value of our investment portfolio.
We could be forced to sell investments to meet our liquidity requirements.
We invest the premiums we receive from our insureds until they are needed to pay policyholder claims. Consequently, we seek to manage the duration of our investment portfolio based on the duration of our losses and loss adjustment expenses reserves to ensure sufficient liquidity and avoid having to liquidate investments to fund claims. Risks such as inadequate losses and loss adjustment expenses reserves or unfavorable trends in litigation could potentially result in the need to sell investments to fund these liabilities. We may not be able to sell our investments at favorable prices or at all. Sales could result in significant realized losses depending on the conditions of the general market, interest rates and credit issues with individual securities.
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A downgrade in our claims paying ability or financial strength ratings could increase policy surrenders and withdrawals, adversely affecting relationships with distributors and reducing new policy sales.
Participants in the insurance industry use ratings from independent ratings agencies, such as A.M. Best and KBRA, as an important means of assessing the financial strength and quality of insurers, including their ability to pay claims. In setting its ratings, A.M. Best and KBRA perform quantitative and qualitative analyses of a company’s balance sheet strength, operating performance and business profile. A.M. Best financial strength ratings range from “A++” (Superior) to “F” for insurance companies that have been publicly placed in liquidation. KBRA’s ratings range from AAA (extremely strong) to R (under regulatory supervision).
As of the date of this prospectus, A.M. Best has assigned a financial strength of “A-” (Excellent) (Outlook Stable) and KBRA has assigned a financial strength rating of “A–” (Outlook Stable) to us. A.M. Best and KBRA assign ratings that are intended to provide an independent opinion of an insurance company’s ability to meet its obligations to policyholders and such ratings are not evaluations directed to investors and are not a recommendation to buy, sell or hold our common stock or any other securities we may issue. These analyses include comparisons to peers and industry standards as well as assessments of operating plans, philosophy and management. A.M. Best and KBRA periodically review our financial strength ratings and may, at their discretion, revise downward or revoke their ratings based primarily on their analyses of our balance sheet strength (including capital adequacy and loss adjustment expense reserve adequacy), operating performance and business profile. Factors that could affect such analyses include:
if we change our business practices from our organizational business plan in a manner that no longer supports A.M. Best’s or KBRA’s ratings;
if unfavorable financial, regulatory or market trends affect us, including excess market capacity;
if our losses exceed our loss reserves;
if we have unresolved issues with government regulators;
if we are unable to retain our senior management or other key personnel;
if our investment portfolio incurs significant losses; or
if A.M. Best or KBRA alters its capital adequacy assessment methodology in a manner that would adversely affect our rating.
These and other factors could result in a downgrade of our financial strength ratings. A downgrade or withdrawal of our ratings could result in any of the following consequences, among others:
causing our current and future distribution partners and insureds to choose other, more highly-rated competitors;
increasing the cost or reducing the availability of reinsurance to us; or
severely limiting or preventing us from writing new and renewal insurance contracts.
In addition, in view of the earnings and capital pressures experienced by many financial institutions, including insurance companies, it is possible that rating organizations will heighten the level of scrutiny that they apply to such institutions, will increase the frequency and scope of their credit reviews, will request additional information from the companies that they rate or will increase the capital and other requirements employed in the rating organizations’ models for maintenance of certain ratings levels. We can offer no assurance that our ratings will remain at their current levels. It is possible that such reviews of us may result in adverse ratings consequences, which could have a material adverse effect on our business, results of operations, financial condition and cash flows.
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Our failure to accurately pay claims in a timely manner could have a material adverse effect on our business, results of operations, financial condition and cash flows.
We must accurately and timely evaluate and pay claims that are made under our policies. Many factors affect our ability to pay claims accurately and timely, including the training and experience of our claims representatives, including our distribution partners, the effectiveness of our management, and our ability to develop or select and implement appropriate procedures and systems to support our claims functions and other factors. Our failure to pay claims accurately and timely could lead to regulatory and administrative actions or material litigation, undermine our reputation in the marketplace and have a material adverse effect on our business, financial condition, results of operations and cash flows. In addition, if we do not manage our distribution partners effectively, or if our distribution partners are unable to effectively handle our volume of claims, our ability to handle an increasing workload could be adversely affected. In addition to potentially requiring that growth be slowed in the affected markets, our business could suffer from decreased quality of claims work which, in turn, could have a material adverse effect on our operating margins.
If market conditions cause reinsurance to be more costly or unavailable, we may be required to bear increased risks or reduce the level of our underwriting commitments.
Our reinsurance facilities are generally subject to annual renewal. We may not be able to maintain our current reinsurance facilities and our customers may not be able to continue to operate their captive reinsurance companies. As a result, even where highly desirable or necessary, we may not be able to obtain other reinsurance facilities in adequate amounts and at favorable rates. If we are unable to renew our expiring facilities or to obtain or structure new reinsurance facilities, either our net exposures would increase or, if we are unwilling to bear an increase in net exposures, we may have to reduce the level of our underwriting commitments. Either of these potential developments could have a material adverse effect on our business, results of operations, financial condition and cash flows.
We may seek to acquire other businesses and start up additional complementary businesses, and may need to raise additional capital or refinance our indebtedness to pursue these acquisitions, which could require significant management attention, disrupt our business, dilute stockholder value and have a material adverse effect on our results of operations.
As part of our present strategy, we continue to evaluate possible acquisition transactions and the start-up of complementary businesses, products or technologies on an ongoing basis, and at any given time we may be engaged in discussions with respect to possible acquisitions that we believe fit within our business model and can address the needs of our customers and potential customers. We may not be able to find suitable acquisition candidates, and we may not be able to complete such acquisitions on favorable terms, if at all. In addition, the pursuit of potential acquisitions or the development of additional complementary businesses may divert the attention of management and cause us to incur additional expenses in identifying, investigating and pursuing suitable acquisitions, whether or not they are consummated. If we do complete acquisitions, we may not be able to successfully integrate the acquired business, ultimately strengthen our competitive position or achieve our other goals, including increases in revenue, and any acquisitions we complete could be viewed negatively by our customers, investors and industry analysts.
We may pay cash, incur debt or issue equity securities to pay for any future acquisition, each of which could have a material adverse effect on our financial condition or the value of our common stock. Payment of cash would reduce cash available for operations and other uses. The incurrence of indebtedness to finance any acquisition would result in fixed obligations and could also include covenants or other restrictions that could impede our ability to manage our operations. The sale or issuance of equity to finance an acquisition would result in dilution to our stockholders. In addition, our future results of operations may be adversely affected by performance earn-outs or contingent bonuses associated with an acquisition. Furthermore, acquisitions may require large, one-time charges and can result in increased contingent liabilities, adverse tax consequences, additional stock-based compensation expenses and the recording and subsequent amortization of amounts related to certain purchased intangible assets, any of which items could negatively affect our future results of operations. We may also incur goodwill impairment charges in the future if we do not realize the expected value of any such acquisitions.
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Additionally, we may need to raise additional funds or refinance our indebtedness in order to grow our business or fund our strategy or acquisitions. Additional financing may not be available in sufficient amounts, if at all, or on terms acceptable to us and may be dilutive to existing stockholders. Additionally, any securities issued to raise such funds may have rights, preferences and privileges senior to those of our existing stockholders. The extent and duration of future economic and market disruptions, the impact of government interventions into the market to address these disruptions and their combined impact on our industry, business and investment portfolios are unknown. If adequate funds are not available on a timely basis, if at all, or on acceptable terms, our ability to expand, develop or enhance our services and products, enter new markets, consummate acquisitions or respond to competitive pressures could be materially limited.
New lines of business or new products and services may subject us to additional risks.
From time to time, we may implement new lines of business or offer new products and services within existing lines of business. In addition, we will continue to make investments in development and marketing for new products and services. There are substantial risks and uncertainties associated with these efforts. In developing and marketing new lines of business and/or new products or services, we may invest significant time and resources. Initial timetables for the development and introduction of new lines of business and/or new products or services may not be achieved and price and profitability targets may not prove feasible. Furthermore, new lines of business and/or new product or service offerings may not gain market acceptance. External factors, such as compliance with regulations, competitive alternatives, and shifting market preferences, may also impact the successful implementation of a new line of business or a new product or service. Furthermore, the burden on management and our IT of introducing any new line of business and/or new product or service could have a significant impact on the effectiveness of our system of internal controls. Failure to successfully manage these risks in the development and implementation of new lines of business or new products or services could have a material adverse effect on our business, financial condition, results of operations and cash flows.
If we fail to manage future growth effectively, our business, results of operations, financial condition and cash flows would be harmed.
We have expanded our operations significantly and anticipate that further expansion will be required in order for us to significantly grow our business. In particular, we may require additional capital, systems development and skilled personnel. Our growth has placed and may continue to place increasing and significant demands on our management, our operational and financial systems and infrastructure and our other resources. If we do not effectively manage our growth, the quality of our services could suffer, which could harm our business, results of operations, financial condition and cash flows. In order to manage future growth, we may need to hire, integrate and retain highly skilled and motivated employees. We may not be able to hire new employees quickly enough to meet our needs. If we fail to effectively manage our hiring needs and successfully integrate our new hires, our efficiency and our employee morale, productivity and retention could suffer, and our business, results of operations, financial condition and cash flows could be harmed. We may also be required to continue to improve our existing systems for operational and financial management, including our reporting systems, procedures and controls. These improvements may require significant capital expenditures and place increasing demands on our management. We may not be successful in managing or expanding our operations or in maintaining adequate financial and operating systems and controls. If we do not successfully implement any required improvements in these areas, our business, results of operations, financial condition and cash flows could be harmed.
The effects of emerging claim and coverage issues on our business are uncertain.
As industry practices and economic, legal, judicial, social and other environmental conditions change, unexpected and unintended issues related to claims and coverage may emerge. These issues may have a material adverse effect on our business by either extending coverage beyond our underwriting intent or by increasing the number or size of claims. In some instances, these emerging issues may not become apparent for some time after we have issued the affected insurance policies. As a result, the full extent of liability under our insurance policies may not be known until many years after the policies are issued. In addition, the potential passage of new legislation designed to expand the right to sue, to remove limitations on recovery, to extend the statutes of limitations or otherwise to repeal or weaken tort reforms could have an adverse impact on our business. The effects of these and
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other unforeseen emerging claim and coverage issues are difficult to predict and could harm our business and have a material adverse effect on our results of operations.
Catastrophic events could significantly impact our business.
Unforeseen or catastrophic events, such as severe weather, natural disasters, pandemic, cybersecurity attacks, acts of war or terrorism and other adverse external events could have a significant impact on our ability to conduct business. Although we have established disaster recovery plans, there is no guarantee that such plans will allow us to operate without disruption if such an event was to occur and the occurrence of any such event could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.
The global spread of the coronavirus (“COVID-19”) has created significant market volatility and uncertainty and economic disruption. In addition, the impact of COVID-19 and measures to prevent its spread have caused, and may continue to cause, substantial disruption to distribution channels, program partners and contract counterparties, and may limit our access to capital and customers through self-isolation, travel limitations, business restrictions and otherwise. Though many of our employees are able to work remotely, the impact on the economy as a result of COVID-19 has nevertheless negatively affected many of our customers and channels through which we sell our products and services, which could result in significant declines in sales. In addition, operating remotely may slow or otherwise limit our ability to add new products and customers. Further, actions of regulators and other governmental authorities may delay or limit our ability to exercise remedies under our policies in the event of defaults or cancellations. These effects, individually or in the aggregate, could materially adversely impact our businesses, financial condition, operating results, liquidity and cash flows. The duration of any such impacts cannot be predicted at this time.
Over the past several years, changing weather patterns and climatic conditions, such as global warming, have added to the unpredictability and frequency of natural disasters in certain parts of the world and have created additional uncertainty as to future trends. There is a growing consensus today that climate change increases the frequency and severity of extreme weather events and, in recent years, the frequency of major weather events appears to have increased. Whether or to what extent damage that may be caused by natural events, such as wildfires, severe tropical storms and hurricanes, will affect our ability to write new insurance policies and reinsurance contracts is unknown, but, to the extent our policies are concentrated in the specific geographic areas in which these events occur, any increase in frequency and severity of such events and the total amount of our loss exposure in the impacted areas of such events may adversely affect our business, financial condition and results of operations. In addition, although we have historically had limited exposure to catastrophic risk, claims from catastrophe events could reduce our earnings and cause substantial volatility in our business, financial condition and results of operations for any period. Assessing the risk of loss and damage associated with natural and catastrophic events remains a challenge and might adversely affect our business, results of operations, financial condition and cash flows.
U.S. insurers are required by state and federal law to offer coverage for acts of terrorism in certain commercial lines. The Terrorism Risk Insurance Act, as extended by the Terrorism Risk Insurance Program Reauthorization Act of 2019 (“TRIPRA”) requires commercial property and casualty (“P&C”) insurance companies to offer coverage for acts of terrorism, whether foreign or domestic, and established a federal assistance program through the end of 2027 to help cover claims related to future terrorism-related losses. The likelihood and impact of any terrorist act is unpredictable, and the ultimate impact on us would depend upon the nature, extent, location and timing of such an act. Although we reinsure a portion of the terrorism risk we retain under TRIPRA, our terrorism reinsurance does not provide full coverage for an act stemming from nuclear, biological or chemical terrorism. To the extent an act of terrorism, whether a domestic or foreign act, is certified by the Secretary of Treasury, we may be covered under TRIPRA of our losses for certain P&C lines of insurance. However, any such coverage would be subject to a mandatory deductible based on 20% of earned premium for the prior year for the covered 2020 of commercial P&C insurance.
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Our international operations expose us to investment, political and economic risks, including foreign currency and credit risk.
Our expanding international operations in the United Kingdom, continental Europe and the Asia-Pacific region, expose us to increased investment, political and economic risks, including foreign currency and credit risk. Changes in the value of the U.S. dollar relative to other currencies could have a material adverse effect on our business, results of operations, financial condition and cash flows. Our investments in non-U.S.-denominated assets are subject to fluctuations in non-U.S. securities and currency markets, and those markets can be volatile. Non-U.S. currency fluctuations also affect the value of any dividends paid by our non-U.S. subsidiaries to their parent companies in the United States.
We could be adversely affected by the loss of one or more key executives or by an inability to attract and retain qualified personnel.
We depend on our ability to attract and retain experienced personnel and seasoned key executives who are knowledgeable about our business. The pool of talent from which we actively recruit is limited and may fluctuate based on market dynamics specific to our industry and independent of overall economic conditions. As such, higher demand for employees having the desired skills and expertise could lead to increased compensation expectations for existing and prospective personnel, making it difficult for us to retain and recruit key personnel and maintain labor costs at desired levels. Should any of our key executives cease to be employed by us, or if we are unable to retain and attract talented personnel, we may be unable to maintain our current competitive position in the specialized markets in which we operate, which could have a material adverse effect on our results of operations.
Changes in accounting practices and future pronouncements may materially affect our reported financial results.
Developments in accounting practices may require us to incur considerable additional expenses to comply with new rules, particularly if we are required to prepare information relating to prior periods for comparative purposes or to otherwise apply the new requirements retroactively. The impact of changes in current accounting practices and future pronouncements cannot be predicted but may affect the calculation of net income, member’s equity and other relevant financial statement line items.
We are required to comply with SAP. SAP and various components of SAP are subject to constant review by the National Association of Insurance Commissioners (the “NAIC”) and its task forces and committees, as well as state insurance departments, in an effort to address emerging issues and otherwise improve financial reporting. Various proposals are pending before committees and task forces of the NAIC, some of which, if enacted, could have negative effects on insurance industry participants. The NAIC continuously examines existing laws and regulations. Whether or in what form such reforms will be enacted and, if so, whether the enacted reforms will positively or negatively affect us is unknown.
Our continued growth depends in part on our ability to continue to grow our customer base.
Increasing our customer base will depend, to a significant extent, on our ability to effectively expand our sales and marketing activities, as well as our partner ecosystem and other customer referral sources. We may not be able to recruit qualified sales and marketing personnel, train them to perform and achieve an acceptable level of sales production from them on a timely basis or at all. If we are unable to maintain effective sales and marketing activities and maintain and expand our partner network, our ability to attract new customers could be harmed and our business, results of operations, financial condition and cash flows would suffer.
We may not be able to effectively start up or integrate new program opportunities, and we may invest in new program opportunities or initiatives that are ultimately unsuccessful.
Our ability to grow our business depends, in part, on our creation, implementation and acquisition of new insurance programs that are profitable and fit within our business model. New program launches as well as resources to integrate business acquisitions are subject to many obstacles, including ensuring we have sufficient business and systems processes, determining appropriate pricing, obtaining reinsurance, assessing opportunity costs and regulatory burdens and planning for internal infrastructure needs. If we cannot accurately assess and overcome these
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obstacles or we improperly implement new insurance programs, our ability to grow profitably will be impaired. Additionally, we may be unsuccessful in identifying new program opportunities, or we may be unable to develop or market new programs or initiatives in a timely or cost-effective manner. In addition, new programs or initiatives may not achieve the market penetration or price levels necessary for profitability. If we are unable to develop timely enhancements to, and new features for, our existing programs and services or if we are unable to develop new programs and services, our programs and services may become less marketable and less competitive, and our business, results of operations, financial condition and cash flows would be harmed.
If we are unable to maintain a high level of service, our business, results of operations, financial condition and cash flows may be harmed.
One of the key attributes of our business is providing high quality service to our partners and customers. We may be unable to sustain these levels of service, which would harm our reputation and our business. Alternatively, we may only be able to sustain high levels of service by significantly increasing our operating costs, which would materially and adversely affect our results of operations. The level of service we are able to provide depends on our personnel to a significant extent. Our personnel must be well-trained in our processes and able to handle customer calls effectively and efficiently. Any inability of our personnel to meet our demand, whether due to absenteeism, training, turnover, disruptions at our facilities, including as a result of the COVID-19 pandemic, bad weather, power outages or other reasons, could adversely impact our business. If we are unable to maintain high levels of service performance, our reputation could suffer and our business, results of operations, financial condition and cash flows would be harmed.
Our results of operations have in the past varied from quarter to quarter and may not be indicative of our long-term prospects.
Our results of operations are subject to fluctuation and have historically varied from quarter to quarter. We expect our quarterly results to continue to fluctuate in the future due to a number of factors, including the general economic conditions in the markets where we operate, the frequency, occurrence or severity of catastrophic or other insured events, fluctuating interest rates, claims exceeding our loss reserves, competition in our industry, deviations from expected renewal rates of our existing policies and contracts, adverse investment performance and the cost of reinsurance coverage.
In particular, we seek to underwrite products and make investments to achieve favorable returns on tangible member’s equity over the long term. In addition, our opportunistic nature may result in fluctuations in gross written premiums from period to period as we concentrate on underwriting contracts that we believe will generate better long-term, rather than short-term, results. Accordingly, our short-term results of operations may not be indicative of our long-term prospects.
If we are not able to maintain and enhance our brand, our business and results of operations results will be harmed. Damage to our reputation and negative publicity could have a material adverse effect on our business, results of operations, financial condition and cash flows.
We believe that maintaining and enhancing our brand identity is critical to our relationships with our existing customers and partners and to our ability to attract new customers and partners. We also intend to grow our brand awareness among consumers and potential program partners in order to further expand our reach and attract new customers and program partners. The promotion of our brand in these and other ways may require us to make substantial investments and we anticipate that, as our market becomes increasingly competitive, these branding initiatives may become increasingly difficult and expensive. Our brand promotion activities may not be successful or yield increased revenue, and to the extent that these activities yield increased revenue, the increased revenue may not offset the expenses we incur and our results of operations could be harmed. If we do not successfully maintain and enhance our brand, our business may not grow and we could lose our relationships with customers or partners, which would harm our business, results of operations, financial condition and cash flows.
We may be adversely affected by negative publicity relating to brand and activities. For instance, if our brand receives negative publicity, the number of customers visiting our platforms could decrease, and our cost of acquiring
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customers could increase as a result of a reduction in the number of consumers coming from our direct customer acquisition channel.
Adverse economic factors, including recession, inflation, periods of high unemployment or lower economic activity, could result in the sale of fewer policies than expected or an increase in the frequency of claims and premium defaults, and even the falsification of claims, or a combination of these effects, which, in turn, could affect our growth and profitability.
Factors, such as business revenue, economic conditions, the volatility and strength of the capital markets and inflation can affect the business and economic environment. These same factors affect our ability to generate revenue and profits. In an economic downturn that is characterized by higher unemployment, declining spending and reduced corporate revenue, the demand for insurance products is generally adversely affected, which directly affects our premium levels and profitability. Negative economic factors may also affect our ability to receive the appropriate rate for the risk we insure with our policyholders and may adversely affect the number of policies we can write, and our opportunities to underwrite profitable business. In an economic downturn, our customers may have less need for insurance coverage, cancel existing insurance policies, modify their coverage or not renew the policies. Existing policyholders may exaggerate or even falsify claims to obtain higher claims payments. These outcomes would reduce our underwriting profit to the extent these factors are not reflected in the rates we charge.
Our risk management policies and procedures may prove to be ineffective and leave us exposed to unidentified or unanticipated risk, which could adversely affect our business, results of operations, financial condition or cash flows.
We have developed and continue to develop enterprise-wide risk management policies and procedures to mitigate risk and loss to which we are exposed. There are, however, inherent limitations to risk management strategies because there may exist, or develop in the future, risks that we have not appropriately anticipated or identified. If our risk management policies and procedures are ineffective, we may suffer unexpected losses and could be materially adversely affected. As our business changes and the markets in which we operate evolve, our risk management framework may not evolve at the same pace as those changes. As a result, there is a risk that new products or new business strategies may present risks that are not appropriately identified, monitored or managed. In times of market stress, unanticipated market movements or unanticipated claims experience, the effectiveness of our risk management strategies may be limited, resulting in losses to us. In addition, there can be no assurance that we can effectively review and monitor all risks or that all of our employees will follow our risk management policies and procedures.
Moreover, the NAIC and state legislatures and regulators have increased their focus on risks within an insurer’s holding company system that may pose enterprise risk to insurers. We operate within an enterprise risk management (“ERM”) framework designed to assess and monitor our risks. However, there can be no assurance that we can effectively review and monitor all risks, or that all of our employees will operate within the ERM framework or that our ERM framework will result in us accurately identifying all risks and accurately limiting our exposures based on our assessments.
We may not be able to generate sufficient cash to service all of our indebtedness and may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful.
Our ability to make scheduled payments on or refinance our debt obligations depends on our financial condition and operating performance, which are subject to prevailing economic and competitive conditions and to certain financial, business, legislative, regulatory and other factors beyond our control. We may be unable to maintain a level of cash flows from operating activities sufficient to permit us to pay the principal and interest on our indebtedness.
If our cash flows and capital resources are insufficient to fund our debt service obligations, we could face substantial liquidity problems and could be forced to reduce or delay investments and capital expenditures, or to dispose of material assets or operations, alter our dividend policy, seek additional debt or equity capital or restructure or refinance our indebtedness. We may not be able to effect any such alternative measures on commercially reasonable terms or at all and, even if successful, those alternative actions may not allow us to meet
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our scheduled debt service obligations. The instruments that will govern our indebtedness may restrict our ability to dispose of assets and may restrict the use of proceeds from those dispositions and may also restrict our ability to raise debt or equity capital to be used to repay other indebtedness when it becomes due. We may not be able to consummate those dispositions or to obtain proceeds in an amount sufficient to meet any debt service obligations when due.
Our inability to generate sufficient cash flows to satisfy our debt obligations, or to refinance our indebtedness on commercially reasonable terms or at all, may materially adversely affect our business, results of operations, financial condition and cash flows.
Restrictive covenants in the agreements governing our indebtedness may restrict our ability to pursue our business strategies.
The agreements governing our indebtedness contain a number of restrictive covenants that impose significant operating and financial restrictions on us and may limit our ability to pursue our business strategies or undertake actions that may be in our best interests. The agreements governing our indebtedness include covenants restricting, among other things, our ability to:
incur or guarantee additional debt;
incur liens;
complete mergers, consolidations and dissolutions;
enter into transactions with affiliates;
pay dividends or other distributions;
sell certain of our assets that have been pledged as collateral; and
undergo a change in control.
A breach of the covenants under the indenture that governs our 8.50% Fixed Rate Resetting Junior Subordinated Notes due in October 2057 (the “Notes”) and Amended and Restated Credit Agreement dated as of August 4, 2020 among Fortegra Financial Corporation (“FFC”) and LOTS Intermediate Co., as Borrowers, Fifth Third Bank, National Association, as Administrative Agent and Issuing Lender, Citizens Bank, N.A., as Syndication Agent, and First Horizon Bank, Keybank National Association, Synovus Bank, as Co-Documentation Agents could result in an event of default. Such default may result in the acceleration of any other debt to which a cross-acceleration or cross-default provision applies. In the event our lenders or noteholders accelerate the repayment of our indebtedness, we and our subsidiaries may not have sufficient assets to repay that indebtedness. As a result of these restrictions, we may be:
unable to raise additional debt or equity financing to operate during general economic or business downturns; or
unable to compete effectively or to take advantage of new business opportunities.
These restrictions may affect our ability to grow in accordance with our strategy. In addition, our financial results, substantial indebtedness and credit ratings could materially adversely affect the availability and terms of future financing.
Retentions in various lines of business expose us to potential losses.
We retain risk for our own account on business underwritten by our insurance subsidiaries. The determination to reduce the amount of reinsurance we purchase, or not to purchase reinsurance for a particular risk, customer segment or category is based on a variety of factors, including market conditions, pricing, availability of reinsurance, our capital levels and our loss history. Such determinations increase our financial exposure to losses associated with such risks, customer segments or categories and, in the event of significant losses associated with such risks,
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customer segments or categories, could have a material adverse effect on our business, results of operations, financial condition and cash flows.
The exit of the United Kingdom from the European Union could adversely affect our business.
The United Kingdom ceased to be a part of the European Union on December 31, 2020 (which is commonly referred to as “Brexit”). Aspects of the relationship between the United Kingdom and the European Union remain to be negotiated and their relationship will continue to evolve, including with respect to the cross-border provision of products and services and related compliance requirements. The effects of Brexit on our business will depend on the manner in which it is implemented and any other relevant agreements between the United Kingdom and the European Union, among other factors. The Financial Conduct Authority and the Prudential Regulation Authority in the United Kingdom established the Temporary Permissions Regime (“TPR”), which created a three-year post-Brexit period when companies can continue to operate until their permanent establishment is authorized in the United Kingdom. Fortegra’s Malta-based insurance subsidiary registered for the TPR and entered into it on December 31, 2020. Because we conduct business in both the United Kingdom and the European Union and rely on our Malta insurance subsidiary’s ability to conduct business in the United Kingdom, we face risks associated with the potential uncertainty and disruptions relating to Brexit, including the risk of additional regulatory and other costs and challenges and/or limitations on our ability to sell particular products and services. As a result, the ongoing uncertainty surrounding Brexit could have a material adverse effect on our business (including our European growth plans), results of operations, financial condition and cash flows.
Risks Related to Our Reliance on Third Parties
We are dependent on independent financial institutions, lenders, distribution partners, agents and retailers for distribution of our products and services, and the loss of these distribution sources, or their failure to sell our products and services, could have a material adverse effect on our business, results of operations, financial condition and cash flows.
We are dependent on independent financial institutions, lenders, distribution partners, agents and retailers to deliver our products and services and our revenue is dependent on the level of business conducted by such distributors as well as the effectiveness of their sales efforts, each of which is beyond our control because such distributors typically do not have any minimum performance or sales requirements. Further, although our contracts with these distributors are typically exclusive, they can be canceled on relatively short notice. Therefore, our growth is dependent, in part, on our ability to identify and attract new distribution relationships and successfully integrate our information systems with those of our new distributors. The impairment of our distribution relationships, the loss of a significant number of our distribution relationships, the failure to establish new distribution relationships, the failure to offer increasingly competitive products, the increase in sales of competitors’ services and products by distributors or the decline in distributors’ overall business activity or the effectiveness of their sales of our products could materially reduce our sales and revenues and have a material adverse effect on our business, results of operations, financial condition and cash flows.
Failure of our distribution partners to properly market, underwrite or administer policies could adversely affect us.
The marketing, underwriting, claims administration and other administration of policies in connection with our issuing carrier services are the responsibility of our distribution partners. Any failure by them to properly handle these functions could result in liability to us. Even though our distribution partners may be required to compensate us for any such liability, there are risks that they do not pay us because they become insolvent or otherwise. Any such failures could create regulatory issues or harm our reputation, which could have a material adverse effect on our business, results of operations, financial condition and cash flows.
We may incur losses if reinsurers are unwilling or unable to meet their obligations under reinsurance contracts.
We use reinsurance to reduce the severity and incidence of claims costs, and to provide relief with regard to certain reserves. Under these reinsurance arrangements, other insurers assume a portion of our losses and related expenses; however, we remain liable as the direct insurer on all risks reinsured. Consequently, reinsurance
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arrangements do not eliminate our obligation to pay claims and we assume credit risk with respect to our ability to recover amounts due from reinsurers. The inability or unwillingness of any reinsurer to meet its financial obligations could negatively affect our business, results of operations, financial condition and cash flows. As credit risk is generally a function of the economy, we face a greater credit risk in an economic downturn. While we attempt to manage credit risks through underwriting guidelines, collateral requirements and other oversight mechanisms, our efforts may not be successful. For example, to reduce such credit risk, we require certain third parties to post collateral for some or all of their obligations to us. In cases where we receive letters of credit from banks as collateral and one of our counterparties is unable to honor its obligations, we are exposed to the credit risk of the banks that issued the letters of credit.
Due to the structure of some of our commissions, we are exposed to risks related to the creditworthiness of some of our independent agents and program partners.
We are subject to the credit risk of some of the independent agents and program partners with which we contract to sell our products and services. We typically advance commissions as part of our product offerings. These advances are a percentage of the premiums charged. If we over-advance such commissions, the agents and program partners may not be able to fulfill their payback obligations, which could have a material adverse effect on our results of operations and financial condition.
Third-party vendors we rely upon to provide certain business and administrative services on our behalf may not perform as anticipated, which could have an adverse effect on our business, results of operations, financial condition and cash flows.
We have taken action to reduce coordination costs and take advantage of economies of scale by transitioning multiple functions and services to third-party providers. We periodically negotiate provisions and renewals of these relationships, and there can be no assurance that such terms will remain acceptable to us or such third parties. If such third-party providers experience disruptions or do not perform as anticipated, or we experience problems with a transition to a third-party provider, we may experience operational difficulties, an inability to meet obligations (including policyholder obligations), a loss of business and increased costs, or suffer other negative consequences, all of which may have a material adverse effect on our business, results of operations, liquidity and cash flows.
We may act based on inaccurate or incomplete information regarding the accounts we underwrite.
We rely on information provided by insureds or their representatives when underwriting insurance policies. While we may make inquiries to validate or supplement the information provided, we may make underwriting decisions based on incorrect or incomplete information. It is possible that we will misunderstand the nature or extent of the activities or facilities and the corresponding extent of the risks that we insure because of our reliance on inadequate or inaccurate information.
Risks Related to the Insurance Industry
We may lose customers or business as a result of consolidation within the financial services industry or otherwise.
There has been considerable consolidation in the financial services industry, driven primarily by the acquisition of small and mid-size organizations by larger entities. We expect this trend to continue. We may lose business or suffer decreased revenues if one or more of our significant customers or distributors consolidate or align themselves with other companies. While our business has not been materially affected by consolidation to date, we may be affected by industry consolidation that occurs in the future, particularly if any of our significant customers are acquired by organizations that already possess the operations, services and products that we provide.
Competition for business in our industry is intense.
We face competition from other specialty insurance companies, standard insurance companies and underwriting agencies, as well as from diversified financial services companies that are larger than we are and that have greater financial, marketing, personnel and other resources than we do. Many of these competitors have more experience
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and market recognition than we do. In addition, it may be difficult or prohibitively expensive for us to implement technology systems and processes that are competitive with the systems and processes of these larger companies.
In particular, competition in the insurance industry is based on many factors, including price of coverage, general reputation and perceived financial strength, relationships with brokers, terms and conditions of products offered, ratings assigned by independent rating agencies, speed of claims payment and reputation, and the experience and reputation of the members of an underwriting team in the particular lines of insurance they seek to underwrite. See “Business—Competition.” In recent years, the insurance industry has undergone increasing consolidation, which may further increase competition.
A number of new, proposed or potential legislative or industry developments could further increase competition in our industry. These developments include:
an increase in capital raising by companies in our industry, which could result in new entrants to our markets and an excess of capital in the industry; and
the deregulation of commercial insurance lines in certain states and the possibility of federal regulatory reform of the insurance industry, which could increase competition from standard carriers.
We may not be able to continue to compete successfully in one or more insurance markets. Increased competition in these markets could result in a change in the supply and demand for insurance, affect our ability to price our products at risk-adequate rates and retain existing business, or underwrite new business on favorable terms. If this increased competition limits our ability to transact business, our results of operations would be adversely affected.
The insurance industry is cyclical in nature.
The financial performance of the insurance industry has historically fluctuated with periods of lower premium rates and excess underwriting capacity resulting from increased competition (a “soft market”) followed by periods of higher premium rates and reduced underwriting capacity resulting from decreased competition (a “hard market”). Our commercial & personal lines program business is exposed to these hard and soft market cycles. We seek to limit our exposure to these trends by focusing on smaller risks with lower severities and utilizing reinsurance. Because this market cyclicality is due in large part to the actions of our competitors and general economic factors, the timing or duration of changes in the market cycle is unknown. We expect these cyclical patterns will cause our revenues and net income to fluctuate, which may cause our results of operations, financial condition, cash flows and the market price of our common stock to be more volatile. We believe that we are currently in the second year of a hardening market.
Risks Related to Our Intellectual Property and Data Privacy
Cybersecurity attacks, technology breaches or failures of our or our third-party service providers’ information systems could disrupt our operations and result in the loss of critical and personally identifiable information, which could result in the loss of our reputation and customers, reduce our profitability, subject us to fines, penalties and litigation and have a material adverse effect on our business, results of operation, financial condition and cash flows.
We are highly dependent upon the effective operation of our information systems and those of our third-party service providers and our ability to collect, use, store, transmit, retrieve and otherwise process personally identifiable information and other data, manage significant databases and expand and upgrade our information systems. We rely on these systems for a variety of functions, including marketing and selling our products and services, performing our services, managing our operations, processing claims and applications, providing information to customers, performing actuarial analyses and maintaining financial records. Some of these systems may include or rely on third-party systems not located on our premises or under our control. The interruption or loss of our information processing capabilities, or those of our third-party service providers, through cybersecurity attacks, computer hacks, theft, malicious software, phishing, employee error, denial-of-service attacks, viruses, worms, other malicious software programs, the loss of stored data, programming errors, the breakdown or malfunctioning of computer
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equipment or software systems, telecommunications failure or damage caused by weather or natural disasters, catastrophes, terrorist attacks, industrial accidents or any other significant disruptions or security breaches could harm our business by hampering our ability to generate revenues and could negatively affect our program partner relationships, competitive position and reputation.
In addition, our information systems may be vulnerable to physical or electronic intrusions, computer viruses or other attacks which could disable our information systems and our security measures may not prevent such attacks. There are numerous and evolving risks to cybersecurity and privacy from cyber threat actors, including criminal hackers, state-sponsored intrusions, industrial espionage and employee malfeasance. Global cybersecurity threats can range from uncoordinated individual attempts to gain unauthorized access to our IT systems and those of our business partners or third-party service providers to sophisticated and targeted measures known as advanced persistent threats. These cyber threat actors are becoming more sophisticated and coordinated in their attempts to access IT systems and data, including the IT systems of cloud providers and third parties with whom we conduct or may conduct business. Although we devote significant resources to prevent, detect, address and mitigate unwanted intrusions and other threats and protect our systems and data, whether such data is housed internally or by external third parties, such internal controls may not be adequate or successful in protecting against all security breaches and cybersecurity attacks, social-engineering attacks, computer break-ins, theft and other improper activity. We have experienced immaterial cybersecurity incidents and we and our third-party service providers will likely continue to experience cybersecurity incidents of varying degrees. Because the techniques used to obtain unauthorized access or to sabotage systems change frequently and generally are not recognized until launched against a target, we and the third parties with whom we do business may be unable to anticipate these techniques or to implement adequate preventative measures. With the increasing frequency of cyber-related frauds to obtain inappropriate payments and other threats related to cybersecurity attacks, we may find it necessary to expend resources to remediate cyber-related incidents or to enhance and strengthen our cybersecurity. Our remediation efforts may not be successful or may not be completed in a timely manner and could result in interruptions, delays or cessation of service.
We have also implemented physical, administrative and logical security systems with the intent of maintaining the physical security of our facilities and systems and protecting our and our customers’ and their customers’ confidential and personally identifiable information against unauthorized access through our information systems or by other electronic transmission or through misdirection, theft or loss of data. Despite such efforts, we may be subject to a breach of our security systems that results in unauthorized access to our facilities or the information we are trying to protect. Anyone who is able to circumvent our security measures or those of our third-party service providers and penetrate our or their information systems could access, view, misappropriate, alter, destroy, misuse or delete any information in such systems, including personally identifiable information and proprietary business information (our own or that of third parties) or compromise of our control networks or other critical systems and infrastructure, resulting in disruptions to our business operations or access to our financial reporting systems. Sustained or repeated system failures or service denials could severely limit our ability to write and process new and renewal business, provide customer service, pay claims in a timely manner or otherwise operate in the ordinary course of business. In addition, most states require that customers be notified if a security breach results in the disclosure of personally identifiable customer information and the trend toward general public notification of such incidents could exacerbate the harm to our business, financial condition and results of operations. Any failure, interruption or compromise of the security of our information systems or those of our third-party service providers that result in inappropriate disclosure of such information could result in, among other things, significant financial losses, unfavorable publicity and damage to our reputation, governmental inquiry and oversight, difficulty in marketing our services, loss of customers, significant civil and criminal liability related to legal or regulatory violations, litigation and the incurrence of significant technical, legal and other expenses, any of which may have a material adverse effect on our business, results of operations, financial condition and cash flows.
In some cases, we rely on the safeguards put in place by third parties to protect against security threats. These third parties, including vendors that provide products and services for our operations, could also be a source of security risk to us in the event of a failure or a security incident affecting their own security systems and infrastructure. Our network of ecosystem partners could also be a source of vulnerability to the extent their
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applications interface with ours, whether unintentionally or through a malicious backdoor. We do not review the software code included in third-party integrations in all instances.
Increasing regulatory focus on privacy issues and expanding laws could affect our business model and expose us to increased liability.
We collect, use, store, transmit, retrieve, retain and otherwise process confidential and personally identifiable information in our information systems in and across multiple jurisdictions, and we are subject to a variety of confidentiality obligations and privacy, data protection and information security laws, regulations, orders and industry standards in the jurisdictions in which we do business. The regulatory environment surrounding information security, data privacy and cybersecurity is evolving and increasingly demanding. We are subject to numerous U.S. federal and state laws and non-U.S. regulations governing the protection of personally identifiable and confidential information of our customers and employees. On October 24, 2017, the NAIC adopted an Insurance Data Security Model Law, which requires licensed insurance entities to comply with detailed information security requirements. The NAIC model law has been adopted by certain states and is under consideration by others. It is not yet known whether or not, and to what extent, states legislatures or insurance regulators where we operate will enact the Insurance Data Security Model Law in whole or in part, or in a modified form. Such enactments, especially if inconsistent between states or with existing laws and regulations, could raise compliance costs or increase the risk of noncompliance, and noncompliance could subject us to regulatory enforcement actions and penalties, as well as reputational harm. Any such events could potentially have an adverse impact on our business, results of operations, financial conditions and cash flows.
We are subject to the privacy regulations of the Gramm-Leach-Bliley Act of 1999 (the “Gramm-Leach-Bliley Act”), along with its implementing regulations, which restricts certain collection, processing, storage, use and disclosure of personal information, requires notice to individuals of privacy practices, provides individuals with certain rights to prevent the use and disclosure of certain nonpublic or otherwise legally protected information and imposes requirements for the safeguarding and proper destruction of personal information through the issuance of data security standards or guidelines. In addition, on March 1, 2017, new cybersecurity rules took effect for financial institutions, insurers and certain other companies, like us, supervised by the NY Department of Financial Services (the “NY DFS Cybersecurity Regulation”). The NY DFS Cybersecurity Regulation imposes significant new regulatory burdens intended to protect the confidentiality, integrity and availability of information systems. We also have contractual obligations to protect confidential and personally identifiable information we obtain from third parties. These obligations generally require us, in accordance with applicable laws, to protect such information to the same extent that we protect our own such information.
Many states in which we operate have laws that protect the privacy and security of sensitive and personal information. Certain current or proposed state laws may be more stringent or broader in scope, or offer greater individual rights, with respect to sensitive and personal information than federal, international or other state laws, and such laws may differ from each other, which may complicate compliance efforts. For example, we are subject to the California Consumer Privacy Act of 2018 (“CCPA”), which among other things, requires companies covered by the legislation to provide new disclosures to California consumers and afford such consumers new rights of access and deletion for personal information. Additionally, when it becomes effective on January 1, 2023, we will be subject to the California Privacy Rights Act (“CPRA”), which will significantly expand consumers’ rights under the CCPA. Internationally, many jurisdictions have established their own data security and privacy legal framework with which we or our customers may need to comply, including, but not limited to, the European Union. The European Union has adopted the General Data Protection Regulation, or the GDPR, which contains numerous requirements, robust obligations on data processors and heavier documentation requirements for data protection compliance programs by companies.
Because the interpretation and application of many privacy and data protection laws along with contractually imposed industry standards are uncertain, it is possible that these laws may be interpreted and applied in a manner that is inconsistent with our existing data management practices or the features of our services and platform capabilities. Any failure or perceived failure by us, or any third parties with which we do business, to comply with our posted privacy policies, changing consumer expectations, evolving laws, rules and regulations, industry standards, or contractual obligations to which we or such third parties are or may become subject, may result in
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actions or other claims against us by governmental entities or private actors, the expenditure of substantial costs, time and other resources or the incurrence of significant fines, penalties or other liabilities. In addition, any such action, particularly to the extent we were found to be guilty of violations or otherwise liable for damages, would damage our reputation and adversely affect our business, financial condition and results of operations.
Any failure to protect or enforce our intellectual property rights could impair our intellectual property, technology platform and brand. In addition, we may be sued by third parties for alleged infringement of their proprietary rights.
Our success and ability to compete depend in part on our intellectual property, which includes our rights in our technology platform and our brand. We primarily rely on a combination of copyright, trade secret and trademark laws and confidentiality agreements, procedures and contractual provisions with our employees, customers, service providers, partners and other third parties to protect our proprietary or confidential information and intellectual property rights. However, the steps we take to protect our intellectual property may be inadequate and despite our efforts to protect our proprietary rights and intellectual property, unauthorized parties may attempt to copy aspects of our solutions or to obtain and use information that we regard as proprietary, and third parties may attempt to independently develop similar technology. Policing unauthorized use of our technology and intellectual property rights may be difficult and may not be effective. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming and distracting to management and could result in the impairment or loss of portions of our intellectual property. Additionally, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims and countersuits attacking the validity and enforceability and scope of our intellectual property rights. Our failure to secure, protect, defend and enforce our intellectual property rights could adversely affect our brand and adversely affect our business.
Our success also depends in part on our not infringing, misappropriating or otherwise violating the intellectual property rights of others. Our competitors and other third parties may own or claim to own intellectual property relating to our industry and, in the future, may claim that we are infringing, misappropriating or otherwise violating their intellectual property rights, and we may be found to be infringing on such rights. The outcome of any claims or litigation, regardless of the merits, is inherently uncertain. The disposition of any such claims, whether through settlement or licensing discussions or litigation, could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering certain of our products and services, require us to change our technology or business practices or require that we comply with other unfavorable terms. Even if we were to prevail in such a dispute, any litigation could be costly and time-consuming, divert the attention of our management and key personnel from our business operations and materially adversely affect our business, financial condition and results of operations.
We employ third-party licensed software for use in our business, and the inability to maintain these licenses, errors in the software we license or the terms of open source licenses could result in increased costs or reduced service levels, which would adversely affect our business.
Our business relies on certain third-party software obtained under licenses from other companies. We anticipate that we will continue to rely on such third-party software in the future. Although we believe that there are commercially reasonable alternatives to the third-party software we currently license, this may not always be the case, or it may be difficult or costly to replace our existing third-party software. In addition, integration of new third-party software may require significant work and require substantial investment of our time and resources. Our use of additional or alternative third-party software would require us to enter into license agreements with third parties, which may not be available on commercially reasonable terms or at all. Many of the risks associated with the use of third-party software cannot be eliminated, and these risks could negatively impact our business.
Additionally, the software powering our technology systems incorporates software covered by open source licenses. The terms of many open source licenses have not been interpreted by U.S. courts, and there is a risk that the licenses could be construed in a manner that imposes unanticipated conditions or restrictions on our ability to operate our systems. In the event that portions of our proprietary software are determined to be subject to an open source license, we could be required to publicly release the affected portions of our source code or re-engineer all or a portion of our technology systems, each of which could reduce or eliminate the value of our technology systems.
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Such risk could be difficult or impossible to eliminate and could adversely affect our business, results of operations, financial condition and cash flows.
Risks Related to Regulatory and Legal Matters
Compliance with existing and new regulations affecting our business may increase costs and limit our ability to pursue business opportunities.
We are subject to extensive laws and regulations administered and enforced by a number of different federal and state governmental authorities, including those of Arizona, California, Delaware, Georgia, Kentucky and Louisiana, which are where our U.S. Insurance subsidiaries are domiciled. Regulation of our industry and business may increase. In the past, there has been significant legislation affecting insurance, including the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). In addition, we are subject to laws, regulations, orders and industry standards governing the protection of personally identifiable and confidential information, privacy and data security, including the Gramm-Leach-Bliley Act, the GDPR, the NY DFS Cybersecurity Regulation and the CCPA. Accordingly, the impact that any new laws and regulations will have on us is unknown. The costs to comply with these laws and regulations may be substantial and could have a significant negative impact on us and limit our ability to pursue business opportunities. We can give no assurances that with changes to laws and regulations, our businesses can continue to be conducted in each jurisdiction in the manner as we have in the past.
While the Consumer Financial Protection Bureau (the “CFPB”) does not have direct jurisdiction over insurance products, it is possible that regulatory actions taken by the CFPB may affect the sales practices related to these products and thereby potentially affect our insurance business or the customers that it serves. In 2017, the CFPB issued rules under its unfair, deceptive and abusive acts and practices rulemaking authority relating to consumer installment loans, among other things. Such CFPB rules regarding consumer installment loans could adversely impact our insurance business’s volume of insurance products and services and cost structure. Due to such regulatory actions, some lenders may reduce their sales and marketing of payment protection and other ancillary products, which may have a material adverse effect on our revenues.
Any actual or alleged regulations and policies violation, under negligence, willful misconduct or fault, could result in substantial fines, civil and/or criminal penalties or curtailment of operations in certain jurisdictions, and might have a material adverse effect on our business, results of operations, financial condition or cash flows. In addition, actual or alleged violations could damage our reputation and ability to do business. Furthermore, detecting, investigating and resolving actual or alleged violations is expensive and can consume significant time and attention of our senior management. Events of this nature could have a material adverse effect on our business, results of operations, financial condition and cash flows.
The amount of statutory capital and reserve requirements applicable to us can increase due to factors outside of our control.
We and our subsidiaries are subject to regulation by state and, in some cases, foreign insurance authorities with respect to statutory capital, reserve and other requirements, including statutory capital and reserve requirements established by applicable insurance regulators based on risk-based capital (“RBC”) and Solvency II formulas. In any particular year, these requirements may increase or decrease depending on a variety of factors, most of which are outside our control, such as the amount of statutory income or losses generated, changes in equity market levels, the value of fixed-income and equity securities in our investment portfolio, changes in interest rates and foreign currency exchange rates, as well as changes to the RBC formulas used by insurance regulators. The laws of the various states in which we operate establish insurance departments and other regulatory agencies with broad powers to preclude or temporarily suspend us or our subsidiaries from carrying on some or all of these activities or otherwise fine or penalize us or our subsidiaries in any jurisdiction in which we operate. Such regulation or compliance could reduce our profitability or limit our growth by increasing the costs of compliance, limiting or restricting the products or services we sell, or the methods by which we sell services and products, or subject us to the possibility of regulatory actions or proceedings. Additionally, increases in the amount of additional statutory
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reserves that we are required to hold could have a material adverse effect on our business, results of operations, financial condition and cash flows.
We could be adversely affected if our controls to ensure compliance with guidelines, policies and legal and regulatory standards are not effective.
Our business is highly dependent on our ability to engage on a daily basis in a large number of insurance underwriting, claim processing and investment activities, many of which are highly complex. These activities often are subject to internal guidelines and policies, as well as legal and regulatory standards, including those related to privacy, anti-corruption, anti-bribery and global finance and insurance (“F&I”) matters. Our continued expansion into new products and geographic markets has brought about additional requirements. A control system, no matter how well designed and operated, can provide only reasonable assurance that the control system’s objectives will be met. If our controls are not effective, it could lead to financial loss, unanticipated risk exposure (including underwriting, credit and investment risk) or damage to our reputation.
From time to time we are subject to various regulatory actions and legal proceedings which could have a material adverse effect on our business, results of operations, financial condition or cash flows.
Over the last several years, businesses in our industry have been subject to increasing amounts of regulatory scrutiny. In addition, there has been an increase in litigation involving firms in our industry and public companies generally, some of which have involved new types of legal claims. We may be materially and adversely affected by judgments, settlements, fines, penalties, unanticipated costs or other effects of legal and administrative proceedings now pending or that may be instituted in the future, including from investigations by regulatory bodies or administrative agencies. An adverse outcome of any investigation by, or other inquiries from, any such bodies or agencies also could result in non-monetary penalties or sanctions, loss of licenses or approvals, changes in personnel, increased review and scrutiny of us by our customers, counterparties, regulatory authorities, potential litigants, the media and others, any of which could have a material adverse effect on us.
Additionally, we are involved in various litigation matters from time to time. For example, we are a defendant in Mullins v. Southern Financial Life Insurance Co., a class action lawsuit alleging violations of the Consumer Protection Act and certain insurance statutes, as well as common law fraud. This and other such matters can be time-consuming, divert management’s attention and resources and cause us to incur significant expenses. Our insurance and indemnities may not cover all claims that may be asserted against us, and any claims asserted against us, regardless of merit or eventual outcome, may harm our reputation. If we are unsuccessful in our defense in these litigation matters, or any other legal proceeding, we may be forced to pay damages or fines, enter into consent decrees or change our business practices, any of which could have a material adverse effect our business, results of operations, financial condition or cash flows.
A change in law, regulation or regulatory enforcement applicable to insurance products could have a material adverse effect on our business, results of operations, financial condition and cash flows.
A change in state or U.S. federal tax laws could materially affect our business. For example, tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “TCJA”), which was signed into law on December 22, 2017, fundamentally overhauled the U.S. tax system by, among other significant changes, reducing the U.S. corporate income tax rate to 21%. In the context of the taxation of U.S. P&C insurance companies such as us, the TCJA also modified the loss reserve discounting rules and the proration rules that apply to reduce reserve deductions to reflect the lower corporate income tax rate, which could have an adverse impact on us. It is possible that other legislation could be introduced and enacted by the current Congress or future Congresses that could have an adverse impact on us. Additional regulations or pronouncements interpreting or clarifying provisions of the TCJA have been and will continue to be issued, and such regulations or pronouncements may be different from our interpretation and thus adversely affect our results. If, when or in what form such regulations or pronouncements may be provided or finalized, whether such guidance will have a retroactive effect or such regulations’ or pronouncements’ potential impact on us is unknown.
Currently, we do not collect sales or other related taxes on our services. Whether sales of our services are subject to state sales and use taxes is uncertain, due in part to the nature of some of our services and the relationships
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through which our services are offered, as well as changing state laws and interpretations of those laws. One or more states may seek to impose sales or use tax or other tax collection obligations on our business, whether based on our or our resellers’ or customers’ sales, including for past sales. A successful assertion that we should be collecting sales or other related taxes on our services could result in substantial tax liabilities for past sales, discourage customers from purchasing our services, discourage customers from offering or billing for our services, or otherwise cause material harm to our business, results of operations, financial condition and cash flows.
In addition, federal and state laws and regulations govern the disclosures related to sales of our payment protection products and financing of VSCs. Our ability to offer and administer these products on behalf of our distribution partners is dependent upon our continued ability to sell such products. To the extent that federal or state laws or regulations change to restrict or prohibit the sale of these products, our revenues would be adversely affected. For example, CFPB enforcement actions have resulted in large refunds and civil penalties against financial institutions in connection with their marketing of payment protection and other products. Due to such regulatory actions, some lenders may reduce their sales and marketing of payment protection and other ancillary products, which may have a material adverse effect on our material adverse effect on our business, results of operations, financial condition and cash flows. The full impact of the CFPB’s oversight is unpredictable and continues to evolve. With respect to the P&C insurance policies we underwrite, federal legislative proposals regarding national catastrophe insurance, if adopted, could reduce the business need for some of the related products that we provide.
Our ability to pay dividends to stockholders will depend on distributions from our subsidiaries that may be subject to restrictions and income from assets.
The amount of dividends we can pay to our stockholders, if and when we choose to do so, may be subject to restrictions imposed by state law, restrictions that may be imposed by state regulators and restrictions imposed by the terms of any current or future indebtedness that we may incur.
Our Junior Subordinated Notes due 2057 and $200 million revolving credit facility restrict dividends based on our leverage ratio and the leverage ratio of our subsidiaries. Additionally, our regulated insurance company subsidiaries are required to satisfy minimum capital and surplus requirements according to the laws and regulations of the states in which they operate, which regulate the amount of dividends and distributions the Company can receive from them. In general, dividends in excess of prescribed limits are deemed “extraordinary” and require insurance regulatory approval. Ordinary dividends, for which no regulatory approval is generally required, are limited to amounts determined by a formula, which varies by state. Some states have an additional stipulation that dividends may only be paid out of earned surplus. States also regulate transactions between our insurance company subsidiaries and us or our other subsidiaries, such as those relating to compensation for shared services, and in some instances, require prior approval of such transactions within our holding company structure. If insurance regulators determine that payment of an ordinary dividend or any other payments by our insurance company subsidiaries to the Company would be adverse to policyholders or creditors, the regulators may block or otherwise restrict such payments that would otherwise be permitted without prior approval. In addition, there could be future regulatory actions restricting our ability or the ability of our subsidiaries to pay dividends. The primary factor in determining the amount of capital available for potential dividends is the level of capital needed to maintain desired financial strength ratings from rating agencies for our insurance company subsidiaries. Given recent economic events that have affected the insurance industry, both regulators and rating agencies could become more conservative in their methodology and criteria, including increasing capital requirements for our insurance company subsidiaries which, in turn, could negatively affect our capital resources.
Assessments and premium surcharges for state guaranty funds, secondary-injury funds, residual market programs and other mandatory pooling arrangements may reduce our profitability.
Most states require insurance companies licensed to do business in their state to participate in guaranty funds, which require the insurance companies to bear a portion of the unfunded obligations of impaired, insolvent or failed insurance companies. These obligations are funded by assessments, which are expected to continue in the future. State guaranty associations levy assessments, up to prescribed limits, on all member insurance companies in the state based on their proportionate share of premiums written in the lines of business in which the impaired, insolvent or
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failed insurance companies are engaged. Accordingly, the assessments levied on us may increase as we increase our written premiums. These funds are supported by either assessments or premium surcharges based on incurred losses.
In addition, as a condition to conducting business in some states, insurance companies are required to participate in residual market programs to provide insurance to those who cannot procure coverage from an insurance carrier on a negotiated basis. Insurance companies generally can fulfill their residual market obligations by, among other things, participating in a reinsurance pool where the results of all policies provided through the pool are shared by the participating insurance companies. Although we price our insurance to account for our potential obligations under these pooling arrangements, we may not be able to accurately estimate our liability for these obligations. Accordingly, mandatory pooling arrangements may cause a decrease in our profits. Further, the impairment, insolvency or failure of other insurance companies in these pooling arrangements would likely increase the liability for other members in the pool. The effect of assessments and premium surcharges or increases in such assessments or surcharges could reduce our profitability in any given period or limit our ability to grow our business.
Risks Related to Our Relationship with Tiptree
Tiptree will hold in the aggregate 82.67% of the voting power of our capital stock following the completion of this offering and will have significant consent rights under a stockholders’ agreement,, preventing you and other stockholders from influencing significant decisions, including the election of directors, amendments to our organizational documents and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval.
Immediately following the completion of this offering, Tiptree will hold 82.67% of our outstanding common stock. The liquidity of shares of our common stock in the market may be constrained for as long as Tiptree continues to hold a significant percentage of our outstanding common stock. A lack of liquidity in our common stock could depress the price of our common stock.
In addition, we expect to enter into a stockholders’ agreement with Tiptree. Under the stockholders’ agreement, Tiptree will have the right to designate a number of directors equal to the percentage of our outstanding common stock beneficially owned by Tiptree and its affiliates multiplied by the total number of directors that there would be on our Board of Directors if there were no vacancies, rounded up to the nearest whole number (and in any event not less than two), provided that Tiptree may designate our Chairman. Additionally, we will be required to obtain Tiptree’s prior written approval before undertaking certain significant corporate actions, including certain equity issuances, the hiring or termination of our chief executive officer and any material change in the nature of the business conducted by us or our subsidiaries. Except with respect to continuing obligations to cooperate and share information with Tiptree and mutual services obligations, the stockholders’ agreement will terminate when Tiptree Holdings LLC and its affiliates no longer hold at least 10% of our voting power. See “Certain Relationships and Related Party Transactions—Stockholders’ Agreement.”
As a result, for so long as Tiptree controls the majority of our outstanding common stock, it will determine the composition of our Board of Directors and the outcome of all corporate actions requiring stockholder approval. Even if Tiptree were to dispose of certain of its shares of our common stock such that it would control less than a majority of our outstanding common stock, it may be able to influence the outcome of corporate actions, particularly those requiring its consent under the stockholders’ agreement while it retains at least 10% of our outstanding common stock. For such time as Tiptree owns a controlling or significant voting interest in our common stock, it generally will be able to control or significantly influence, directly or indirectly and subject to applicable law, all matters affecting us, including:
the election of directors;
determinations with respect to our business direction and policies, including the appointment and removal of officers;
determinations with respect to corporate transactions, such as mergers, business combinations, change in control transactions or the acquisition or the disposition of assets;
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our financing and dividend policy;
determinations with respect to our tax returns; and
compensation and benefits programs and other human resources policy decisions.
Tiptree may have interests that differ from yours and may vote in a way with which you disagree and which may be adverse to your interests. Corporate action might be taken even if other stockholders, including those who purchase shares in this offering, oppose them. This concentration of ownership may have the effect of delaying, preventing or deterring a change of control or other liquidity event of our Company, could deprive our stockholders of an opportunity to receive a premium for their shares of common stock as part of a sale or other liquidity event and might ultimately affect the market price of our common stock.
Applicable laws and regulations, provisions of our certificate of incorporation and our bylaws and certain contractual rights granted to Tiptree may discourage takeover attempts and business combinations that stockholders might consider in their best interests.
Applicable laws, provisions of our certificate of incorporation and our bylaws and certain contractual rights that will be granted to Tiptree may delay, deter, prevent, render more difficult or discourage a merger, tender offer or proxy context, the assumption of control by a holder of a large block of our securities, the removal of incumbent management or a takeover attempt that our stockholders might consider in their best interests. For example, they may prevent our stockholders from receiving the benefit from any premium to the market price of our common stock offered by a bidder in a takeover context. Even in the absence of a takeover attempt, the existence of these provisions may have a material adverse effect on the prevailing market price of our common stock if they are viewed as discouraging takeover attempts in the future.
Our certificate of incorporation and our bylaws contain provisions that are designed to encourage persons seeking to acquire control of us to first negotiate with the Board of Directors, which could discourage acquisitions that some stockholders may favor. These provisions provide for:
a Board of Directors divided into three classes with staggered terms;
advance notice requirements regarding how our stockholders may present proposals or nominate directors for election at stockholder meetings;
the right of the Board of Directors to issue one or more series of preferred stock with such powers, rights and preferences as the Board of Directors shall determine;
allowing only the Board of Directors to fill newly created directorships or vacancies on the Board of Directors;
limitations on the ability of stockholders to call special meetings of stockholders and take action by written consent;
a 66 2/3% stockholder vote requirement to amend our certificate of incorporation;
express authorization for the Board of Directors to modify, alter or repeal our bylaws; and
the requirement that a 66 2/3% vote is necessary to remove directors.
Additionally, Section 203 of the Delaware General Corporation Law (the “DGCL”) prohibits a publicly held Delaware corporation from engaging in a business combination with an interested stockholder, generally a person, individually or together with any other interested stockholder, who owns or within the last three years has owned 15% of our voting stock, unless the business combination is approved in a prescribed manner. We have elected to opt out of Section 203 of the DGCL. However, our certificate of incorporation contains a provision that is of similar effect, except that it exempts from its scope Tiptree and any of its affiliates, as described under “Description of Capital Stock—Anti-Takeover Effects of Our Certificate of Incorporation and Our Bylaws.”
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These limitations may have a material adverse effect on the prevailing market price and market for our common stock if they are viewed as limiting the liquidity of our stock or discouraging takeover attempts in the future.
If Tiptree sells a controlling interest in our Company to a third party in a private transaction, you may not realize any change of control premium on shares of our common stock and we may become subject to the control of a presently unknown third party.
Following the completion of this offering, Tiptree will own 82.67% of our outstanding common stock. Subject to the provisions of the lock-up agreement entered into in connection with this offering, Tiptree will not be restricted from selling some or all of its shares of common stock in a privately negotiated transaction or otherwise, and a sale of its shares, if sufficient in size, could result in a change of control of our Company.
The ability of Tiptree to privately sell its shares of our common stock, with no requirement for a concurrent offer to be made to acquire all of the shares of our common stock held by our other stockholders, could prevent you from realizing any change of control premium on your shares of our common stock that may otherwise accrue to Tiptree on its private sale of our common stock. Additionally, if Tiptree privately sells its controlling equity interest in our Company, we may become subject to the control of a presently unknown third party. Such third party may have conflicts of interest with those of other stockholders. In addition, if Tiptree sells a controlling interest in our Company to a third party, our other commercial agreements and relationships, including any remaining agreements with Tiptree, could be impacted, all of which may have a material adverse effect on our ability to run our business as described herein and may have a material adverse effect on our business, results of operations, financial condition and cash flows.
For so long as Tiptree controls a majority of our outstanding common stock, we will qualify for, and intend to rely on, exemptions from certain corporate governance requirements. You will not have the same protections afforded to stockholders of companies that are subject to such requirements.
Upon completion of this offering, we will qualify as a “controlled company” within the meaning of the corporate governance standards of the NYSE because Tiptree will control a majority of our outstanding common stock entitled to vote in the election of directors. A “controlled company” may elect not to comply with certain corporate governance requirements of the NYSE. For so long as we are a “controlled company,” we may take advantage of available “controlled company” exemptions from compliance with certain corporate governance requirements under NYSE rules, including:
the requirement that a majority of the Board of Directors consist of independent directors;
the requirement that our compensation, nominating and governance committee be composed entirely of independent directors with a written charter addressing the committee’s purpose and responsibilities;
the requirement for an annual performance evaluation of our corporate governance and compensation committees.
While Tiptree controls a majority of our outstanding common stock, we may avail ourselves of the option to not have a majority of independent directors or nominating and corporate governance and compensation committees consisting entirely of independent directors. Accordingly, you will not have the same protections afforded to stockholders of companies that are subject to all of the corporate governance requirements of the NYSE.
Tiptree may compete with us.
Tiptree will not be restricted from competing with us in the insurance business. If Tiptree decides to engage in the type of business we conduct, it may have a competitive advantage over us, which may cause our business, results of operations, financial condition and cash flows to be materially adversely affected.
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Certain of our directors may have actual or potential conflicts of interest because of their positions with Tiptree and will have limited liability to us or you for breach of fiduciary duty.
Following this offering, certain of our directors will remain employees of Tiptree. Such directors own and are expected to continue to own Tiptree common stock or equity awards. For certain of these individuals, their holdings of Tiptree common stock or equity awards may be significant, including compared to their total assets. Their position at Tiptree and the ownership of any Tiptree equity or equity awards creates, or may create the appearance of, conflicts of interest when these directors are faced with decisions that could have different implications for Tiptree than for us. These potential conflicts could arise, for example, over matters such as the desirability of changes in our business and operations, funding and capital matters, regulatory matters and agreements with Tiptree.
Provisions relating to certain relationships and transactions in our certificate of incorporation address certain potential conflicts of interest between us, on the one hand, and Tiptree and its officers who are directors of our Company, on the other hand. By becoming our stockholder, you will be deemed to have notice of and have consented to these provisions of our certificate of incorporation. Although these provisions are designed to resolve certain conflicts between us and Tiptree fairly, we cannot assure you that any conflicts will be so resolved. The principles for resolving these potential conflicts of interest are described under “Description of Capital Stock— Corporate Opportunities.”
Additionally, our certificate of incorporation provides that, subject to any contractual provision to the contrary, Tiptree will have no obligation to refrain from:
engaging in the same or similar business activities or lines of business as we do; or
doing business with any of our customers or vendors.
Under our certificate of incorporation, neither Tiptree nor any officer or director of Tiptree, including our directors who are also Tiptree employees, except as provided therein, is liable to us or to our stockholders for breach of any fiduciary duty by reason of any of these activities.
Risks Related to Our Initial Public Offering and Ownership of Our Common Stock
Laws and regulations of the jurisdictions in which we conduct business could delay, deter, or prevent an attempt to acquire control of us that stockholders might consider to be desirable, and may restrict a stockholder’s ability to purchase our common stock.
Generally, United States insurance holding company laws require that, before a person can acquire control of an insurance company, prior written approval must be obtained from the insurance regulatory authorities in the state in which that insurance company is domiciled. Pursuant to applicable laws and regulations, “control” over an insurer is generally presumed to exist if any person, directly or indirectly, owns, controls, holds the power to vote, or holds proxies representing 10% or more of the voting securities of that insurer or any parent company of such insurer. Indirect ownership includes ownership of the shares of our common stock. Thus, the insurance regulatory authorities of the states in which our insurance subsidiaries are domiciled are likely to apply these restrictions on acquisition of control to any proposed acquisition of our common stock. Some states require a person seeking to acquire control of an insurer licensed but not domiciled in that state to make a filing prior to completing an acquisition if the acquirer and its affiliates, on the one hand, and the target insurer and its affiliates, on the other hand, have specified market shares in the same lines of insurance in that state. Additionally, many foreign jurisdictions where we conduct business impose similar restrictions and requirements.
These provisions can also lead to the imposition of conditions on an acquisition that could delay or prevent its consummation. These laws may discourage potential acquisition proposals and may delay, deter or prevent a change in control of us through transactions, and in particular unsolicited transactions, that some or all of our stockholders might consider to be desirable. 
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An active trading market for our common stock may not develop, and you may not be able to sell your common stock at or above the initial public offering price.
Currently, there is no public market for our common stock. An active trading market for shares of our common stock may never develop or be sustained following this offering. If an active trading market does not develop, you may have difficulty selling your shares of common stock at an attractive price, or at all. The price for our common stock in this offering was determined by negotiations among Tiptree, us and representatives of the underwriters, and it may not be indicative of prices that will prevail in the open market following this offering. Consequently, you may not be able to sell your common stock at or above the initial public offering price or at any other price or at the time that you would like to sell. An inactive market may also impair our ability to raise capital by selling our common stock, and it may impair our ability to attract and motivate our employees through equity incentive awards and our ability to acquire other companies by using our common stock as consideration.
The price of our common stock may fluctuate substantially.
You should consider an investment in our common stock to be risky, and you should invest in our common stock only if you can withstand a significant loss and wide fluctuations in the market value of your investment. Some factors that may cause the market price of our common stock to fluctuate, in addition to the other risks mentioned in this section of the prospectus, are:
our announcements or our competitors’ announcements regarding new products, enhancements, significant contracts, acquisitions or strategic investments;
changes in earnings estimates or recommendations by securities analysts, if any, who cover our common stock;
failures to meet external expectations or management guidance;
fluctuations in our quarterly financial results or the quarterly financial results of companies perceived to be similar to us;
incurrence of significant losses or other charges;
changes in our capital structure or dividend policy, future issuances of securities, sales of large blocks of common stock by our stockholders, including Tiptree, or our incurrence of additional debt;
reputational issues;
changes in general economic and market conditions in or any of the regions in which we conduct our business;
changes in industry conditions or perceptions;
changes in applicable laws, rules or regulations and other dynamics; and
announcements or actions taken by Tiptree as our principal stockholder.
In addition, if the market for stocks in our industry or related industries, or the stock market in general, experiences a loss of investor confidence, the trading price of our common stock could decline for reasons unrelated to our business, results of operations, financial condition or cash flows. If any of the foregoing occurs, it could cause our stock price to fall and may expose us to lawsuits that, even if unsuccessful, could be costly to defend and a distraction to management.
You will incur immediate dilution as a result of this offering.
If you purchase common stock in this offering, you will pay more for your shares than the pro forma net tangible book value of your shares. As a result, assuming you purchase shares at $16.00, the midpoint of the price range set forth on the cover page of this prospectus, you will incur immediate dilution of $16.62 per share,
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representing the difference between the initial public offering price and our pro forma net tangible book earnings per share as of December 31, 2020 after giving effect to the Corporate Conversion and this offering. Accordingly, should we be liquidated at our book value, you would not receive the full amount of your investment.
Future sales of our common stock or securities convertible into or exchangeable for common stock, including after the expiration of the lock-up period, or the perception that such sales may occur, could depress the market price of our common stock.
We are unable to predict with certainty whether or when Tiptree will sell a substantial number of shares of our common stock. The sale by Tiptree of a substantial number of shares after this offering, or a perception that such sales could occur, could significantly reduce the market price of our common stock. In particular, Tiptree and our executive officers and directors have entered into lock-up agreements with the underwriters under which they have agreed, subject to specific exceptions, not to sell, directly or indirectly, any shares of or convertible into common stock without the permission of BofA Securities, Inc. and Barclays Capital Inc. for a period of 180 days following the date of this prospectus. We refer to such period as the lock-up period. When the lock-up period expires, we and Tiptree will be able to sell shares of our common stock in the public market. In addition, BofA Securities, Inc. and Barclays Capital Inc. may, in their sole discretion, release all or some portion of the shares subject to lock-up agreements at any time and for any reason. See “Shares Eligible for Future Sale.” Sales of a substantial number of such shares upon expiration of the lock-up agreements, the perception that such sales may occur, or early release of these agreements, could cause our market price to decline or make it more difficult for you to sell your common stock at a time and price that you deem appropriate.
We may also issue additional shares of common stock or securities convertible into or exchangeable for shares of common stock to finance future acquisitions or for other corporate purposes. The size of future issuances, if any, or the effect that such issuances would have on the market price of our common stock is unknown, but sales of substantial amounts of securities in the market in the public market, or the perception that such sales could occur, could have a material adverse effect on the market price of our common stock. Any such issuance would also result in substantial dilution to our existing stockholders.
We do not intend to pay dividends for the foreseeable future and, as a result, your ability to achieve a return on your investment will depend on appreciation in the price of our common stock.
We do not intend to pay any cash dividends in the foreseeable future. We anticipate that we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of the Board of Directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments.
We are an emerging growth company, and reduced reporting and disclosure requirements applicable to emerging growth companies could make our common stock less attractive to investors.
We are an emerging growth company and, for as long as we continue to be an emerging growth company, we may choose to take advantage of exemptions from various reporting requirements applicable to other public companies but not to “emerging growth companies,” including:
not being required to have our independent registered public accounting firm audit our internal control over financial reporting under Section 404 of the Sarbanes-Oxley Act (the “Sarbanes-Oxley Act”);
reduced disclosure obligations regarding executive compensation in our annual report on Form 10-K or proxy statement for our annual meeting of stockholders; and
exemptions from the requirements of holding non-binding advisory votes on executive compensation and stockholder approval of any golden parachute payments not previously approved.
As a result, our stockholders may not have access to certain information they may deem important. We could be an emerging growth company for up to five years, although circumstances could cause us to lose that status earlier,
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including if our total annual gross revenues exceed $1.07 billion, if we issue more than $1.0 billion in non-convertible debt securities during any three-year period, or if we are a large accelerated filer and the market value of our common stock held by non-affiliates exceeds $700 million as of the end of any second quarter before that time. We cannot predict if investors will find our common stock less attractive if we choose to rely on any of the exemptions afforded emerging growth companies. If some investors find our common stock less attractive because we rely on any of these exemptions, there may be a less active trading market for our common stock and the market price of our common stock may be more volatile.
As a standalone public company, we may expend additional time and resources to comply with rules and regulations that do not currently apply to us, and failure to comply with such rules may lead investors to lose confidence in our financial data.
As a standalone public company, we will be subject to the reporting requirements of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), the Sarbanes-Oxley Act, the Dodd-Frank Act and regulations of the NYSE. We have established all of the procedures and practices required as a subsidiary of Tiptree, but we must implement others as a separate, standalone public company. Establishing such procedures and practices will increase our legal, accounting and financial compliance costs, will make some activities more difficult, time-consuming and costly and could be burdensome on our personnel, systems and resources. We will devote significant resources to address these public company requirements, including compliance programs and investor relations, as well as our financial reporting obligations. As a result, we have and will continue to incur significant legal, accounting, investor relations and other expenses that we did not previously incur to comply with these rules and regulations. Furthermore, the need to establish the corporate infrastructure necessary for a standalone public company may divert some of management’s attention from operating our business and implementing our strategy. However, the measures we take may not be sufficient to satisfy our obligations as a public company. In addition, we cannot predict or estimate the amount of additional costs we may incur in order to comply with these requirements.
We have made, and will continue to make, changes to our internal controls and procedures for financial reporting and accounting systems to meet our reporting obligations. In particular, as a public company, our management will be required to conduct an annual evaluation of our internal controls over financial reporting and include a report of management on our internal controls in our annual reports on Form 10-K. Under current rules, we will be subject to these requirements beginning with our annual report on Form 10-K for the year ended December 31, 2022. In addition, our independent registered public accounting firm will be required to attest to the effectiveness of our internal control over financial reporting beginning with our first annual report on Form 10-K required to be filed with the SEC following the date we are no longer an “emerging growth company,” as defined in the JOBS Act. If we are unable to conclude that we have effective internal control over financial reporting, or if our registered public accounting firm is unable to provide us with an attestation and an unqualified report as to the effectiveness of our internal controls over financial reporting, investors could lose confidence in the reliability of our financial statements, which could result in a decrease in the value of our common stock.
If securities analysts do not publish research or reports about our business or our industry or if they issue unfavorable commentary or negative recommendations with respect to our common stock, the price of our common stock could decline.
The trading market for our common stock will be influenced by the research and reports that equity research and other securities analysts publish about us, our business and our industry. We do not have control over these analysts and we may be unable to or may be slow to attract research coverage. One or more analysts could issue negative recommendations with respect to our common stock or publish other unfavorable commentary or cease publishing reports about us, our business or our industry. If one or more of these analysts cease coverage of us, we could lose visibility in the market. As a result of one or more of these factors, the market price of our common stock price could decline rapidly and our common stock trading volume could be adversely affected.
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We have broad discretion in the use of the net proceeds from the sale of shares by us in this offering and may not use them effectively.
We may use the proceeds for any of the purposes described in “Use of Proceeds” or other purposes as determined by our management. Our management has broad discretion over how these proceeds are to be used and could spend the proceeds in ways with which you may not agree. In addition, we may not use the proceeds of this offering effectively or in a manner that increases our market value or enhances our profitability. We have not established a timetable for the effective deployment of the proceeds, and we cannot predict how long it will take to deploy the proceeds.
Our certificate of incorporation will designate specific courts as the sole and exclusive forum for certain claims or causes of action that may be brought by our stockholders, which could discourage lawsuits against us and our directors and officers.
Our certificate of incorporation will provide that, subject to limited exceptions, the Court of Chancery of the State of Delaware (or, if, and only if, the Court of Chancery of the State of Delaware dismisses a Covered Claim (as defined below) for lack of subject matter jurisdiction, any other state or federal court in the State of Delaware that does have subject matter jurisdiction) will, to the fullest extent permitted by applicable law, be the sole and exclusive forum for the following types of claims: (i) any derivative claim brought in the right of the Company, (ii) any claim asserting a breach of a fiduciary duty to the Company or the Company’s stockholders owed by any current or former director, officer or other employee or stockholder of the Corporation, (iii) any claim against the Company arising pursuant to any provision of the DGCL, our certificate of incorporation or bylaws, (iv) any claim to interpret, apply, enforce or determine the validity of our certificate of incorporation or bylaws, (v) any claim against the Company governed by the internal affairs doctrine and (vi) any other claim, not subject to exclusive federal jurisdiction and not asserting a cause of action arising under the Securities Act of 1933, as amended (the “Securities Act”), brought in any action asserting one or more of the claims specified in clauses (a)(i) through (v) herein above (each a “Covered Claim”). This provision would not apply to claims brought to enforce a duty or liability created by the Exchange Act.
Our certificate of incorporation will further provide that the federal district courts of the United States of America will be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act. In addition, our certificate of incorporation will provide that any person or entity purchasing or otherwise acquiring any interest in the shares of capital stock of the Company will be deemed to have notice of and consented to these choice of forum provisions and waived any argument relating to the inconvenience of the forums in connection with any Covered Claim.
The choice of forum provisions to be contained in our certificate of incorporation may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or any of our directors, officers, other employees or stockholders, which may discourage lawsuits with respect to such claims, although our stockholders will not be deemed to have waived our compliance with federal securities laws and the rules and regulations thereunder. While the Delaware courts have determined that such choice of forum provisions are facially valid, it is possible that a court of law in another jurisdiction could rule that the choice of forum provisions to be contained in our certificate of incorporation are inapplicable or unenforceable if they are challenged in a proceeding or otherwise, which could cause us to incur additional costs associated with resolving such action in other jurisdictions.
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CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements that are based on management’s beliefs and assumptions and on information currently available to management. All statements other than statements of historical facts contained in this prospectus are forward-looking statements. In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “expect,” “plan,” “anticipate,” “could,” “intend,” “target,” “project,” “believe,” “estimate,” “predict,” “potential,” “future,” “seek,” “would” or “continue” or the negative of these terms or other similar expressions, although not all forward-looking statements contain these words. Forward-looking statements include, but are not limited to, statements concerning:
our strategies to continue our growth trajectory, expand our distribution network and maintain underwriting profitability;
our ability to enter new and existing markets and the speed at which we will be able to do so, including meeting our expectation of rapid growth in Europe in the coming years in our automobile, mobile device, consumer electronic, appliance and furniture lines;
our acquisition strategies;
developments related to our competitors and our industry;
the ability of our proprietary technology to evolve and support our growth;
regulatory developments in the United States and foreign countries;
our ability to attract and retain key management personnel;
our intentions to retain any future earnings for use in the operation of our business and not to declare or pay any cash dividends for the foreseeable future; and
our use of proceeds from this offering, estimates of our expenses, capital requirements and needs for additional financing.
The forward-looking statements in this prospectus are only predictions and are based largely on our current expectations and projections about future events and financial trends that we believe may affect our business, financial condition and results of operations. These forward-looking statements speak only as of the date of this prospectus and are subject to a number of known and unknown risks, uncertainties and assumptions, including those described under the sections in this prospectus entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this prospectus. Because forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified and some of which are beyond our control, you should not rely on these forward-looking statements as guarantees of future events. The events and circumstances reflected in our forward-looking statements may not be achieved or occur and actual results could differ materially from those projected in the forward-looking statements. Moreover, we operate in an evolving environment. New risks and uncertainties may emerge from time to time, and it is not possible for management to predict all risks and uncertainties. Except as required by applicable law, we are not obligated to publicly update or revise any forward-looking statements contained herein, whether as a result of any new information, future events, changed circumstances or otherwise.
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USE OF PROCEEDS
We estimate the net proceeds to us from this offering will be approximately $119.5 million, or approximately $138.0 million if the underwriters exercise their option to purchase additional shares of common stock in full, based on an assumed public offering price of $16.00 per share of common stock, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, after deducting assumed underwriting discounts and commissions and other estimated offering expenses payable by us.
Each $1.00 increase (decrease) in the assumed initial public offering price of $16.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, would increase (decrease) the net proceeds to us from this offering by approximately $7.7 million, after deducting assumed underwriting discounts and commissions and other estimated offering expenses payable by us, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same. Each increase (decrease) of 1.0 million in the number of shares offered by us, as set forth on the cover page of this prospectus would increase (decrease) the net proceeds to us from this offering by approximately $14.9 million, after deducting assumed underwriting discounts and commissions and other estimated offering expenses payable by us, assuming the assumed public offering price of $16.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus. Any increase or decrease in the net proceeds would not change our intended use of proceeds.
We intend to use the net proceeds from this offering, together with our cash on hand, to execute our growth strategy, repay $75.0 million in aggregate principal amount under the Fortress Credit Facility, along with related premiums, accrued and unpaid interest, and use the remainder for working capital and general corporate purposes. We may also use a portion of the net proceeds to invest in or acquire complementary businesses, products or technologies, although we have no current plans, commitments or agreements with respect to any acquisitions.
The Fortress Credit Facility, for which we are a guarantor, matures on February 21, 2025. Loans under the Fortress Credit Facility currently bear interest at a variable rate per annum equal to LIBOR (with a minimum LIBOR rate of 1.00%), plus a margin of 6.75% per annum. The Fortress Credit Facility was entered into in connection with the Smart AutoCare acquisition. The net proceeds from borrowings under the Fortress Credit Facility were used to repay Tiptree’s prior credit agreement with Fortress Credit Corp. and for working capital and general corporate purposes.
Our expected use of net proceeds from this offering represents our current intentions based upon our present plans and business condition. As of the date of this prospectus, we cannot predict with complete certainty all of the particular uses for the net proceeds to be received upon the completion of this offering or the actual amounts that we will spend on the uses set forth above. We may find it necessary or advisable to use the net proceeds for other purposes, and we will have broad discretion in the application of the net proceeds.
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DIVIDEND POLICY
We currently intend to retain any future earnings for use in the operation of our business and do not intend to declare or pay any cash dividends in the foreseeable future. Any further determination to pay dividends on our common stock will be at the discretion of our Board of Directors, subject to applicable laws, and will depend on our financial condition, results of operations, capital requirements, general business conditions, and other factors that our Board of Directors considers relevant. In addition, the terms of the agreements governing the indebtedness of certain of our subsidiaries restrict, and we may enter into additional agreements in the future that place further restrictions on, the payment of dividends. Therefore, there can be no assurance that we will pay any dividends to holders of our common stock, or as to the amount of any such dividends.
Our status as a holding company and a legal entity separate and distinct from our subsidiaries affects our ability to pay dividends and make other payments. As a holding company without significant operations of our own, the principal sources of our funds are dividends and other payments from our subsidiaries. The ability of our insurance company subsidiaries to pay dividends to us is subject to limits under insurance laws of the states in which our insurance company subsidiaries are domiciled or commercially domiciled. See “Risk Factors—Our ability to pay dividends to stockholders will depend on distributions from our subsidiaries that may be subject to restrictions and income from assets.”
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CORPORATE CONVERSION
We currently operate as a Delaware limited liability company under the name The Fortegra Group, LLC. Upon the effectiveness of the registration statement of which this prospectus forms a part, The Fortegra Group, LLC will convert into a Delaware corporation pursuant to a statutory conversion and change its name to The Fortegra Group, Inc. In this prospectus, we refer to all of the transactions related to our conversion to a corporation described above as the Corporate Conversion.
In conjunction with the Corporate Conversion, all of the outstanding limited liability company interests of The Fortegra Group, LLC will be converted into an aggregate of 48,456,200 shares of our common stock. In connection with the Corporate Conversion, The Fortegra Group, Inc. will continue to hold all property and assets of The Fortegra Group, LLC and will assume all of the debts and obligations of The Fortegra Group, LLC. The Fortegra Group, Inc. will be governed by a certificate of incorporation filed with the Delaware Secretary of State and bylaws, portions of which are described under the heading “Description of Capital Stock.” On the effective date of the Corporate Conversion, the members of the Board of Directors of The Fortegra Group, LLC will become the members of the Board of Directors of The Fortegra Group, Inc. and the officers of The Fortegra Group, LLC will become the officers of The Fortegra Group, Inc.
The purpose of the Corporate Conversion is to reorganize our corporate structure so that the top-tier entity in our corporate structure—the entity that is offering common stock to the public in this offering—is a corporation rather than a limited liability company and so that our existing sole member will own our common stock rather than membership interests in a limited liability company.
Prior to the Corporate Conversion, Fortegra paid an aggregate of $64.0 million in dividends to Tiptree since January 1, 2021, as described in “Capitalization.”
Concurrently with the Corporate Conversion, we intend to adopt an Incentive Plan, pursuant to which unvested Tiptree RSUs granted to Mr. Kahlbaugh will be exchanged for restricted stock units with respect to Fortegra common stock under the Incentive Plan (“Fortegra RSUs”) having the same value and vesting terms as such Tiptree RSUs. In addition, concurrently with the Corporate Conversion, we intend to cancel any unvested restricted stock unit awards of LOTS Intermediate Co. (“LOTS RSUs”) previously granted under the LOTS Plan (as further described in “Executive and Director Compensation”) in exchange for granting to those holders of unvested LOTS RSUs, a percentage ownership of Fortegra RSUs equal to the same percentage ownership of LOTS RSUs as of the Corporate Conversion. Such Fortegra RSUs will have the same vesting terms as the cancelled LOTS RSUs. Furthermore, concurrently with the Corporate Conversion, all outstanding stock of LOTS Intermediate Co. will be exchanged for Fortegra common stock in the same percentage ownership as of the Corporate Conversion.
Except as otherwise noted herein, the consolidated financial statements included elsewhere in this prospectus are those of The Fortegra Group, LLC and its consolidated operations. We do not expect that the Corporate Conversion will have a material effect on the results of our core operations.
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The diagram below depicts our current organizational structure (100% owned unless otherwise noted):
preipostructure2.jpg
The diagram below depicts our organizational structure immediately following this offering (100% owned unless otherwise noted):
postipostructurewithnumbera.jpg
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CAPITALIZATION
The following table sets forth our consolidated cash and cash equivalents and capitalization as of December 31, 2020 (i) on an actual basis, (ii) on a pro forma basis giving effect to (a) Fortegra’s payment of an aggregate of $64.0 million in dividends to Tiptree since January 1, 2021, (b) the assignment of the Fortress Credit Facility from Tiptree, and (c) the Corporate Conversion and the adoption of our certificate of incorporation and bylaws, and (iii) on a pro forma as adjusted basis, to give further effect to this offering and the use of $75.0 million of the proceeds therefrom to repay indebtedness under the Fortress Credit Facility.
The information in this table should be read in conjunction with “Use of Proceeds,” “Selected Consolidated Financial and Other Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our financial statements and related notes thereto appearing elsewhere in this prospectus.
As of December 31, 2020
Actual
Pro Forma
Pro Forma (As Adjusted)
(Dollars in thousands, except per share data)
Cash and cash equivalents$103,983 $39,964 $84,468 
Indebtedness:
Junior Subordinated Notes due 2057$125,000 $125,000 $125,000 
Fortress Credit Facility— 75,000 — 
Preferred trust securities35,000 35,000 35,000 
Debt associated with asset-based lending(1)27,510 27,510 27,510 
Unamortized deferred financing costs(9,537)(9,537)(9,537)
Total debt177,973 252,973 177,973 
Member’s / Stockholders’ Equity:
Additional paid-in capital223,537 89,223 208,644 
Preferred stock, par value $0.01 per share: no shares authorized, issued or outstanding, actual; 100,000,000 shares authorized, no shares issued or outstanding, pro forma; 100,000,000 shares authorized, no shares issued and outstanding, pro forma as adjusted— — — 
Common stock, par value $0.01 per share: no shares authorized, issued or outstanding, actual; 400,000,000 shares authorized, 50,312,860 shares issued and outstanding, pro forma; 400,000,000 shares authorized, 58,612,860 shares issued and outstanding, pro forma as adjusted— 503 586 
Accumulated other comprehensive income, net of tax5,674 5,674 5,674 
Retained earnings59,589 60,640 60,640 
Non-controlling interests8,909 2,650 2,650 
Total member’s / stockholders’ equity297,709 158,690 278,194 
Total capitalization$371,699 $371,699 $371,699 
__________________
(1)Asset based debt is generally recourse only to specific assets and cash flows and is not recourse to Fortegra.
The table set forth above is based on the number of shares of common stock outstanding as of December 31, 2020. The table does not reflect shares of common stock reserved for issuance under the Incentive Plan, which we plan to adopt in connection with this offering.
Additionally, the information presented above assumes an initial offering price of $16.00 per share of common stock, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus.
Each $1.00 increase (decrease) in the assumed public offering price of $16.00 per share of common stock, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus would
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increase (decrease) our as adjusted paid-in capital and total stockholders’ equity by approximately $7.7 million and no impact to total capitalization, in each case assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same, and after deducting assumed underwriting discounts and commissions and other estimated offering expenses payable by us. We may also increase or decrease the number of shares we are offering. Each increase of 1.0 million shares in the number of shares offered by us at an assumed offering price of $16.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus would increase each of our as adjusted paid-in capital and total stockholders’ equity by approximately $14.9 million and no impact to total capitalization. Similarly, each decrease of 1.0 million shares in the number of shares offered by us, at an assumed offering price of $16.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, would decrease each of our as adjusted paid-in capital and total stockholders’ equity by approximately $14.9 million and no impact to total capitalization. The as adjusted information discussed above is illustrative only and will be adjusted based on the actual public offering price and other terms of this offering determined at pricing.


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DILUTION
If you invest in our common stock in this offering, your interest will be diluted immediately to the extent of the difference between the initial public offering price per share of our common stock and the net tangible book value and net book value per share of our common stock after this offering and the use of proceeds therefrom.
As of December 31, 2020, after giving effect to the Corporate Conversion, we had net tangible book value and net book value of approximately $(155.6) million and $158.7 million, or $(3.09) and $3.15 per share of common stock, respectively, in each case based on 50,312,860 shares of our common stock outstanding. Net tangible book value per share represents total tangible assets less total liabilities divided by the number of shares outstanding. Net book value per share represents total assets less total liabilities divided by the number of shares outstanding. After giving effect to (i) the sale of shares of common stock in this offering, based upon an assumed initial public offering price of $16.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, after deducting estimated offering expenses payable by us and (ii) the use of $75.0 million of the proceeds from this offering to repay indebtedness under the Fortress Credit Facility, as described under the heading “Use of Proceeds,” as if each had occurred on December 31, 2020, our adjusted net tangible book value and net book value as of December 31, 2020 would have been approximately $(36.1) million and $278.2 million, or $(0.62) and $4.75 per share, respectively. This represents an immediate increase in net tangible book value and net book value of $2.48 and $1.59 per share to existing stockholders, respectively, and an immediate dilution of $16.62 and $11.25, respectively, per share to new investors purchasing common stock in this offering. The following table illustrates this dilution on a per share basis:
Net Tangible Book Value Per Share(1)
Net Book Value Per Share(1)
Assumed initial public offering price per share$16.00 $16.00 
As of December 31, 2020$(3.09)$3.15 
Increase attributable to this offering and use of proceeds therefrom$2.48 $1.59 
As adjusted after this offering$(0.62)$4.75 
Dilution per share to new investors$16.62 $11.25 
__________________
(1)Amounts in this table may not foot due to rounding.

Each $1.00 increase (decrease) in the assumed initial offering price would increase (decrease) our as adjusted net tangible book value and net book value after this offering by approximately $7.7 million, or $0.13 per share of common stock, and the dilution per share to new investors by $0.87 per share, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting assumed underwriting discounts and commissions and other estimated offering expenses payable by us.
An increase (decrease) of 1.0 million in the number of shares offered by us would increase (decrease) our as adjusted net tangible book value and net book value after this offering by approximately $14.9 million, or $0.26 and $0.17 per share of common stock, respectively, and the dilution per share to new investors by $0.26 and $0.17, respectively, assuming the public offering price of $16.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, remains the same and after deducting assumed underwriting discounts and commissions and other estimated offering expenses payable by us.
The following table sets forth, as of December 31, 2020, the total number of shares owned by our existing stockholder, and to be owned by new investors, the total consideration paid, and the average price per share paid by our existing stockholder and to be paid by new investors purchasing shares in this offering. The calculation below is based on an assumed initial public offering price of $16.00 per share of common stock, which is the midpoint of the
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estimated offering price range set forth on the cover page of this prospectus, before deducting the assumed underwriting discounts and commissions and other estimated offering expenses payable by us.
Shares PurchasedTotal ConsiderationAverage Price Per Share
NumberPercentAmountPercent
(in thousands, other than shares and percentages)
Existing stockholder50,312,86085.8 %$228,753 63.3 %$4.55 
New investors8,300,00014.2 %132,80036.7 %$16.00 
Total58,612,860100.0 %$361,553 100.0 %$6.17 
A $1.00 increase (decrease) in the assumed initial offering price would increase (decrease) each of total consideration paid by new investors and total consideration paid by all stockholders stockholders by $8.3 million, and average price per share paid by all stockholders by $0.14 per share. An increase (decrease) of 1.0 million in the number of shares offered by us would increase (decrease) total consideration paid by new investors and total consideration paid by all stockholders by $16.0 million, and average price per share paid by all stockholders by $0.16 per share.
The table above assumes no exercise of the underwriters’ option to purchase additional shares in this offering. If the underwriters’ option to purchase additional shares from us in this offering is exercised in full, the number of shares owned by our existing stockholder will be 50,312,860, or approximately 84.05% of the total number of common shares outstanding after this offering, and the number of shares held by new investors in this offering after the completion of this offering will be 9,545,000, or approximately 15.95% of the total number of common shares outstanding after this offering.
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SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
The following table sets forth our historical audited consolidated financial information for the periods and dates indicated.
The balance sheet data as of December 31, 2019 and 2020 and the statements of operations and cash flow data for the fiscal years ended December 31, 2019 and 2020 have been derived from our consolidated financial statements appearing elsewhere in this prospectus, which have been prepared in accordance with GAAP.
Historical results are not indicative of the results to be expected in the future. You should read the following data together with the more detailed information contained in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the accompanying notes appearing elsewhere in this prospectus.
In addition to GAAP results, management uses certain key performance metrics and ratios and non-GAAP financial measures. These non-GAAP financial measures are not measurements of financial performance or liquidity under GAAP and should not be considered as an alternative or substitute for GAAP earned premiums, net, income before taxes, net income or any other measure derived in accordance with GAAP. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Performance Metrics and Non-GAAP Financial Measures” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Reconciliations.”
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($ in thousands)Year Ended December 31,
20202019
Selected Income Statement Data:
  
Earned premiums, net$477,991 $499,108 
Service and administrative fees186,973 106,238 
Net investment income9,916 8,671 
Total revenues691,061 635,085 
Total expenses664,113 598,055 
Income before taxes26,948 37,030 
Net income23,223 28,575 
Net income attributable to The Fortegra Group, LLC22,821 27,160 
Key Performance Metrics and Ratios:
Gross written premiums and premium equivalents$1,666,942 $1,297,042 
Underwriting ratio74.6 %76.5 %
Expense ratio16.9 %15.9 %
Combined ratio91.5 %92.4 %
Return on average equity8.1%10.7%
Non-GAAP Financial Measures(1):
Adjusted net income$43,423 $32,806 
Adjusted return on average equity15.2 %12.3 %
Selected Balance Sheet Data:
  
Cash and cash equivalents and investments$712,874 $565,920 
Total assets2,452,799 1,730,636 
Policy liabilities and unpaid claims233,438 144,384 
Unearned premiums and deferred revenue1,259,737 849,336 
Total debt(2)
177,973 199,304 
Total member’s equity297,709 273,809 
Pro forma earnings per share of common stock (Unaudited)(3):
Basic$0.43 
Diluted$0.43 
Pro forma weighted-average shares of common stock outstanding (Unaudited):
Basic55,597,519
Diluted55,597,519
__________________
(1)Adjusted net income and adjusted return on average equity are non-GAAP financial measures. For a discussion of non-GAAP financial measures, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Reconciliations.” In addition, for a description of our revenue recognition policies, see “The Fortegra Group, LLC Audited Consolidated Financial Statements—Note (2) Summary of Significant Accounting Policies— Revenue Recognition.”
(2)Includes $27,510 and $21,524 of debt associated with asset-based lending as of December 31, 2020 and December 31, 2019, respectively.
(3)The historical earnings per unit is not meaningful or comparable because, prior to the Corporate Conversion, The Fortegra Group, LLC was a single member LLC. Accordingly, earnings per unit is not presented.
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The following table sets forth a reconciliation of the numerators and denominators used to compute pro forma basic and diluted earnings per share of common stock.
Pro forma basic earnings per share of common stock:
Numerator:
Net income$22,821 
Less: net income attributable to non-controlling interests 1,051 
Net income attributable to The Fortegra Group stockholders$23,872 
Denominator:
IPO shares required to fund dividends in excess of earnings597,159 (1)
IPO shares used to extinguish debt4,687,500 (2)
Shares of Common Stock in connection with the Corporate Conversion50,312,860 (3)
Pro forma weighted-average shares of common stock outstanding - basic55,597,519 
Pro forma basic earnings per share of common stock $0.43 
Pro forma diluted earnings per share of common stock:
Numerator:
Net income attributable to The Fortegra Group stockholders - diluted$23,872 
Denominator:
Pro forma weighted-average shares of common stock outstanding - diluted55,597,519 (4)
Pro forma diluted earnings per share of common stock $0.43 
__________________
(1)Reflects the effect of common shares for which the Company raised in proceeds to pay the portion of dividends exceeding current year’s net income. Dividends paid since January 1, 2020 were $101.1 million. These dividends paid exceeded 2020 earnings of $22,821 by $78.3 million.
(2)Reflects the number of shares of common stock to be sold in the offering to repay the $75.0 million in aggregate principal amount outstanding under the Fortress Credit Facility, along with related premiums, accrued and unpaid interest.
(3)Reflects the Corporate Conversion in connection with which the outstanding limited liability company interests of The Fortegra Group, LLC will be converted into shares of our common stock.
(4)Excludes shares of our common stock subject to Fortegra RSUs outstanding as of December 31, 2020, for which the service-based vesting condition was not satisfied as of December 31, 2020. These shares do not have a material impact to dilution.
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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with our consolidated annual financial statements. The statements in the discussion and analysis regarding our expectations regarding the performance of our business and other forward-looking statements are subject to numerous known and unknown risks and uncertainties, including, but not limited to, the risks and uncertainties described in “Risk Factors.” Our actual results may differ materially from those contained in or implied by any forward-looking statements. You should read the following discussion together with the sections entitled “Risk Factors,” “Prospectus Summary—Summary Consolidated Financial Information and Other Data,” “Selected Consolidated Financial and Other Data” and the historical audited consolidated financial statements, including the related notes, appearing elsewhere in this prospectus.
Our Management’s Discussion and Analysis of Financial Conditions and Results of Operations is presented in this section as follows:
Overview
Results of Operations
Key Performance Metrics
Non-GAAP Measures
Non-GAAP Reconciliations
Liquidity and Capital Resources
Financial Condition
Critical Accounting Policies and Estimates
Emerging Growth Company Status
Quantitative and Qualitative Disclosure About Market Risk
Overview
The Fortegra Group, LLC is a holding company (together with its consolidated subsidiaries, collectively, “Fortegra,” the “Company,” or “we”) organized in Delaware with headquarters in Jacksonville, Florida. The Company is a specialty insurance program underwriter and service provider, which focuses on niche business mixes and fee-oriented services. Our combination of specialty insurance underwriting, warranty and service contract products, and related service solutions delivered through a vertically integrated business model creates a blend of traditional underwriting revenues, investment income and unregulated fee revenues. We are an agent-driven business model, distributing our products through independent insurance agents, consumer finance companies, online retailers, auto dealers, and regional big box retailers to deliver products that complement the consumer transaction.
2020 Financial Highlights
Total revenues grew 8.8% to $691.1 million, from $635.1 million in 2019, driven primarily from growth in commercial, warranty and niche personal lines programs.
Earned premiums, net, service and administrative fees and ceding commissions grew a combined 11.6% to a total of $686.0 million in 2020, from $615.0 million in 2019, driven by the same factors that drove overall revenue growth.
Net income of $23.2 million, a decrease of 18.7% as compared to $28.6 million in 2019, primarily driven by net realized and unrealized losses on investments as compared to gains in the prior year. Return on average equity was 8.1% in 2020 as compared to 10.7% in 2019.
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Adjusted net income increased 32.4% to $43.4 million, as compared to $32.8 million in 2019. Adjusted return on average equity was 15.2%, as compared to 12.3% in 2019, driven by the same growth factors that impacted revenues.
The combined ratio improved to 91.5%, as compared to 92.4%, in 2019, driven by the shift in business mix toward warranty and commercial programs.
Gross written premiums and premium equivalents were $1,666.9 million for the year ended December 31, 2020, as compared to $1,297.0 million for the year ended December 31, 2019, up 28.5% as a result of growth in commercial and warranty programs, including from the acquisition of Smart AutoCare described below.
As of December 31, 2020, total cash and cash equivalents combined with total investments were $712.9 million, as compared to $565.9 million as of December 31, 2019. As of December 31, 2020, 82.6% of the portfolio was invested in high-credit quality fixed income securities with an average S&P rating of AA and a weighted-average duration of 2.4 years.
Total member’s equity of $297.7 million as of December 31, 2020, as compared to $273.8 million as of December 31, 2019.
In January 2020, we acquired Smart AutoCare, a rapidly growing vehicle warranty and service contract administrator in the United States, which contributed approximately $248.8 million of gross written premiums and premium equivalents for the year ended December 31, 2020. The acquisition expanded our warranty distribution channels and dramatically increased our presence in the auto warranty sector.
On December 31, 2020, we acquired Sky Auto for approximately $25 million of cash consideration to further expand our presence in the auto warranty sector. The acquisition supplements our distribution with direct marketing capabilities.
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Results of Operations
($ in thousands)Year Ended December 31
20202019Change% Change
Revenues:
Earned premiums, net$477,991 $499,108 $(21,117)(4.2)%
Service and administrative fees186,973 106,238 80,735 76.0 %
Ceding commissions21,101 9,608 11,493 119.6 %
Net investment income9,916 8,671 1,245 14.4 %
Net realized and unrealized gains (losses)(11,944)6,896 (18,840)NM%
Other revenue7,024 4,564 2,460 53.9 %
Total revenues691,061 635,085 55,976 8.8 %
Expenses:
Net losses and loss adjustment expenses178,248 151,009 27,239 18.0 %
Member benefit claims58,650 19,672 38,978 198.1 %
Commission expense280,210 303,058 (22,848)(7.5)%
Operating and other expenses120,683 100,445 20,238 20.1 %
Interest expense15,487 14,766 721 4.9 %
Depreciation and amortization10,835 9,105 1,730 19.0 %
Total expenses664,113 598,055 66,058 11.0 %
Income before taxes26,948 37,030 (10,082)(27.2)%
Less: provision (benefit) for income taxes3,725 8,455 (4,730)(55.9)%
Net income23,223 28,575 (5,352)(18.7)%
Net income attributable to The Fortegra Group, LLC unitholder$22,821 $27,160 $(4,339)(16.0)%
Key Performance Metrics:
Gross written premiums and premium equivalents$1,666,942 $1,297,042 $369,900 28.5 %
Return on average equity8.1 %10.7 %
Underwriting ratio74.6 %76.5 %
Expense ratio16.9 %15.9 %
Combined ratio91.5 %92.4 %
Non-GAAP Financial Measures(1):
Adjusted net income
$43,423 $32,806 $10,617 32.4 %
Adjusted return on average equity
15.2 %12.3 %
__________________
(1)See “—Non-GAAP Reconciliations” for a discussion of non-GAAP financial measures. In addition, for a description of our revenue recognition policies, see “The Fortegra Group, LLC Audited Consolidated Financial Statements—Note (2) Summary of Significant Accounting Policies— Revenue Recognition.”
Revenues
Earned Premiums, net
Earned premiums, net represent the earned portion of our gross written premiums, less the earned portion that is ceded to third-party reinsurers under our reinsurance agreements, as well as the earned portion of our assumed premiums. Our insurance policies generally have a term of six months to seven years depending on the underlying product and premiums are earned pro rata over the term of the policy. At the end of each reporting period, premiums written but not earned are classified as unearned premiums and are earned in subsequent periods over the remaining term of the policy.
Service and Administrative Fees
Service and administrative fees represent the earned portion of our gross written premiums and premium equivalents, which is generated from non-insurance programs including warranty service contracts, motor clubs
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programs and other services offered as part of our vertically integrated product offerings. Such fees are typically positively correlated with transaction volume and are recognized as revenue when realized and earned. At the end of each reporting period, gross written premiums and premium equivalents written for service contracts not earned are classified as deferred revenue, which are earned in subsequent periods over the remaining term of the policy.
Ceding Commissions and Other Revenue
Ceding commissions and other revenue consists of commissions earned on policies written on behalf of third-party insurance companies with no exposure to the insured risk and certain fees earned in conjunction with underwriting policies. Other revenue also includes the interest income earned on our premium finance product offering.
Net Investment Income
We earn investment income on our portfolio of invested assets. Our invested assets are primarily comprised of fixed maturity securities, and may also include cash and cash equivalents and equity securities. The principal factors that influence net investment income are the size of our investment portfolio, the yield on that portfolio and expenses due to external investment managers.
Net Realized and Unrealized Gains (Losses)
Net realized and unrealized gains (losses) on investments are a function of the difference between the amount received by us on the sale of a security and the security’s cost-basis, as well as any “other-than-temporary” impairments and allowances for credit losses, which are recognized in earnings. In addition, we carry our equity securities at fair value with unrealized gains and losses included in this line.
Revenues — 2020 compared to 2019
For the year ended December 31, 2020, total revenues increased 8.8% to $691.1 million, as compared to $635.1 million for the year ended December 31, 2019. Earned premiums, net of $478.0 million decreased $21.1 million, or 4.2%, driven by increased ceding of credit insurance and collateral protection premiums, and increased credit insurance cancellations driven by COVID-19 stimulus payments to consumers. This was partially offset by growth in commercial, warranty insurance and niche personal lines programs. Service and administration fees of $187.0 million increased by 76.0%, driven by our acquisition of Smart AutoCare and growth in warranty insurance revenues. Excluding Smart AutoCare, service and administrative fees increased by 11.7%, driven by growth in our other warranty programs. Ceding commissions of $21.1 million increased by $11.5 million, or 119.6%, driven by growth in commercial lines and higher fees associated with the increase in ceded premiums in credit insurance and collateral protection programs. Other revenues increased by $2.5 million, or 53.8%, driven by growth in our premium and warranty finance programs.
For the year ended December 31, 2020, 31.1% of our revenues were derived from fees that are not solely dependent upon the underwriting performance of our insurance products, resulting in more diversified and consistent earnings. For the year ended December 31, 2020, 79.3% of our fee-based revenues were generated in non-regulated service companies, with the remainder in our regulated insurance companies.
For the year ended December 31, 2020, net investment income was $9.9 million, driven by interest income on fixed income securities and dividends on equity securities. Net realized and unrealized losses were $11.9 million, a decline of $18.8 million, driven by realized and unrealized losses on equity securities in the 2020 period, as compared to gains on equity securities and other investments in the 2019 period.
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Expenses
Underwriting and fee expenses under insurance and warranty service contracts include losses and loss adjustment expenses, member benefit claims and commissions expense.
Net Losses and Loss Adjustment Expenses
Net losses and loss adjustment expenses represent actual insurance claims paid, changes in unpaid claim reserves, net of amounts ceded and the costs of administering claims for insurance lines. Incurred claims are impacted by loss frequency, which is a measure of the number of claims per unit of insured exposure, and loss severity, which is based on the average size of claims. Loss occurrences in our insurance products are characterized by low severity and high frequency. Factors affecting loss frequency and loss severity include the volume of underwritten contracts, changes in claims reporting patterns, claims settlement patterns, judicial decisions, economic conditions, morbidity patterns and the attitudes of claimants towards settlements, and original pricing of the product for purposes of the loss ratio in relation to loss emergence over time. Losses and loss adjustment expenses are based on an actuarial analysis of the estimated losses, including losses incurred during the period and changes in estimates from prior periods.
Member Benefit Claims
Member benefit claims represent the costs of services and replacement devices incurred in warranty and motor club service contracts. Member benefit claims represent claims paid on behalf of contract holders directly to third-party providers for roadside assistance and for the repair or replacement of covered products. Claims can also be paid directly to contract holders as a reimbursement payment, provided supporting documentation of loss is submitted to the Company. Claims are recognized as expense when incurred.
Commission Expense
Commission expense reflects commissions we pay retail agents, program administrators and managing general underwriters, net of ceding commissions we receive on business ceded under certain reinsurance contracts. In addition, commission expense includes premium-related taxes. Commission expense related to each policy we write is deferred and amortized to expense in proportion to the premium earned over the policy life.
Commission expense is incurred on most product lines, the majority of which are retrospective commissions paid to agents, distributors and retailers selling our products, including credit insurance policies, warranty service contracts and motor club memberships. When claims increase, in most cases our distribution partners bear the risk through a reduction in their retrospective commissions. Commission rates are, in many cases, set by state regulators, such as in credit and collateral protection programs, and are also impacted by market conditions and the retention levels of our distribution partners.
For the year ended December 31, 2020, net losses and loss adjustment expenses were $178.2 million, member benefit claims were $58.7 million and commission expense was $280.2 million, as compared to $151.0 million, $19.7 million and $303.1 million, respectively, for the year ended December 31, 2019. The increase in net losses and loss adjustment expenses of $27.2 million, or 18.0%, was driven by growth in our U.S. Insurance business and the impact of prior year development of $5.4 million related to higher than expected claims frequency in certain programs associated with a small group of producers. The impact of the prior year development increased our ratio of net losses and loss adjustment expense to earned premiums, net by 1.1%. Member benefit claims of $39.0 million, or 198.1%, was driven by the acquisition of Smart AutoCare. Commission expense declined by $22.8 million, or 7.5%, driven by a decline in retrospective commission payments, largely offsetting the increase in net losses and loss adjustment expense.
Operating and Other Expenses
Operating and other expenses represent the general and administrative expenses of our operations including employee compensation and benefits and other expenses, including, technology costs, office rent, and professional services fees, such as legal, accounting and actuarial services.
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For the year ended December 31, 2020, employee compensation and benefits were $65.1 million and other expenses were $55.6 million, as compared to $49.8 million and $50.7 million, respectively, for the year ended December 31, 2019. Employee compensation and benefits increased by $15.3 million, or 30.7%, driven by the acquisition of Smart AutoCare and investments in human capital associated with our growth objectives in admitted, E&S and warranty programs. Other expenses increased by $4.9 million, or 9.7%, driven by increases in acquisition-related expenses and premium taxes, which grew in line with premiums. Included in other expenses were $3.4 million and $2.0 million for the years ended December 31, 2020 and 2019, respectively, related to non-recurring professional fees associated with investment banking and legal expenses for our acquisition of Smart AutoCare and Sky Auto.
Interest Expense
Interest expense consists primarily of interest expense on our corporate revolving debt, our Notes, our preferred trust securities due June 15, 2037 (“Preferred Trust Securities”) and asset-based debt for our premium finance and warranty service contract financing, which is non-recourse to Fortegra.
For the year ended December 31, 2020, interest expense was $15.5 million, including $2.2 million on asset-based debt associated with our premium financing facility, $0.7 million on our working capital facility, $1.7 million on the Preferred Trust Securities and $10.8 million on the Junior Subordinated Notes Due 2057, as compared to $14.8 million, $1.4 million, $0.2 million, $2.4 million and $10.8 million, respectively, for the year ended December 31, 2019. The increase in interest expense of $0.7 million, or 4.9%, was driven by higher outstanding asset-based debt for our premium and warranty finance programs, partially offset by decreases in LIBOR over 2020.
Depreciation and Amortization
Depreciation expense is primarily associated with furniture, fixtures and equipment. Amortization expense is primarily associated with purchase accounting amortization including values associated with acquired customer relationships, trade names and internally developed software and technology.
For the year ended December 31, 2020, depreciation and amortization expense was $10.8 million, including $9.2 million of intangible amortization related to purchase accounting associated with the acquisitions of both Smart AutoCare and FFC, as compared to $9.1 million, and $7.5 million of intangible amortization from purchase accounting related to FFC for 2019.
Income Taxes
Currently our provision for income taxes consists of U.S. federal and state and foreign income taxes imposed by certain jurisdictions in which we operate. In addition, our provision for income taxes has been, and will continue to be, significantly impacted by the value of our deferred tax assets and liabilities, which may or may not be realizable.
The total provision for income taxes of $3.7 million for the year ended December 31, 2020 is reflected as a component of net income. For the year ended December 31, 2020, the Company’s effective tax rate was equal to 13.8%. The effective rate for the year ended December 31, 2020 was lower than the statutory rate of 21.0% primarily due to refund claims under the CARES Act and foreign taxes in low-rate jurisdictions.
The total provision for income taxes of $8.5 million for the year ended December 31, 2019 is reflected as a component of net income. For the year ended December 31, 2019, the Company’s effective tax rate was equal to 22.8%. The effective rate for the year ended December 31, 2019 was higher than the statutory rate of 21.0% primarily due to state taxes and other discrete items.
Income Before Taxes, Net Income and Net Income Attributable to The Fortegra Group, LLC
Non-controlling interests primarily relate to interests held by management, and, to a lesser extent, third parties. For the year ended December 31, 2020, income attributable to non-controlling interests was $0.4 million as compared to $1.4 million for the year ended December 31, 2019, substantially all of which represents interests held by management.
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Income before taxes, net income, and net income attributable to The Fortegra Group, LLC were $27.0 million, $23.2 million and $22.8 million, respectively, for the year ended December 31, 2020, as compared to $37.0 million, $28.6 million and $27.2 million, respectively, for the year ended December 31, 2019.
The decline in each of these measures was driven by a combination of factors described above, including net realized and unrealized losses on investments as compared to gains in the prior year, lower earned premiums, net in credit and collateral protection programs, partially offset by the growth in commercial and warranty programs underwriting and fee margin, net of the impact of prior year development.
Key Performance Metrics
We discuss certain key performance metrics, described below, which provide useful information about our business and the operational factors underlying our financial performance.
Gross Written Premiums and Premium Equivalents
Gross written premiums and premium equivalents represent total gross written premiums from insurance policies and warranty service contracts issued, as well as premium finance volumes during a reporting period. They represent the volume of insurance policies written or assumed and warranty service contracts issued during a specific period of time without reduction for policy acquisition costs, reinsurance costs or other deductions. Gross written premiums is a volume measure commonly used in the insurance industry to compare sales performance by period. Premium equivalents are used to compare sales performance of warranty service and administrative contract volumes to gross written premiums. Investors also use these measures to compare sales growth among comparable companies, while management uses these measures to evaluate the relative performance of various sales channels.
The below table shows gross written premiums and premium equivalents by business mix for the years ended December 31, 2020 and 2019.
Year Ended December 31,
($ in thousands)Gross Written Premiums and Premium Equivalents
20202019
U.S. Insurance$1,063,743 $965,544 
U.S. Warranty Solutions549,983 297,289 
Europe Warranty Solutions53,216 34,209 
Total$1,666,942 $1,297,042 
Total gross written premiums and premium equivalents for the year ended December 31, 2020 were $1.7 billion consisting of $1.1 billion from U.S. Insurance programs, $550.0 million from U.S. Warranty Solutions programs and $53.2 million from European Warranty Solutions programs, as compared to $1.3 billion, $965.5 million, $297.3 million and $34.2 million, respectively, in 2019.
Gross written premiums and premium equivalents for U.S. Insurance increased by $98.2 million, or 10.2%, driven by growth in commercial, warranty insurance and niche personal lines, which were partially offset by increased cancellations from the impact of increased stimulus related to COVID-19 in credit insurance and collateral protection programs. Our E&S insurance subsidiary, Fortegra Specialty Insurance Company, was formed October 1, 2020, and we believe our E&S lines will drive significant growth.
Gross written premiums and premium equivalents for U.S. Warranty Solutions increased by $252.7 million, or 85.0%, driven primarily by the acquisition of Smart AutoCare and growth in premium and warranty finance volumes. Europe Warranty Solutions increased by $19.0 million, or 55.6%, driven by growth in auto and consumer goods warranty programs.
Fortegra has continued to expand product lines to increase gross written premiums and premium equivalents, including the acquisitions of Smart AutoCare (January 2020) and Sky Auto (December 2020). We believe the continued growth in warranty and admitted and E&S commercial programs, in addition to the acquisition of Smart
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AutoCare and Sky Auto, will result in increased gross written premiums and premium equivalents and therefore growth in unearned premiums and deferred revenues on the balance sheet.
The growth in gross written premiums and premium equivalents, combined with higher retention in select products, has resulted in an increase of $410.4 million, or 48.3%, in unearned premiums and deferred revenue on the consolidated balance sheets. As of December 31, 2020, unearned premiums and deferred revenues were $1,259.7 million, as compared to $849.3 million as of December 31, 2019.
Combined Ratio, Underwriting Ratio and Expense Ratio
Combined ratio is an operating measure, which equals the sum of the underwriting ratio and the expense ratio. Underwriting ratio is the ratio of the GAAP line items net losses and loss adjustment expenses, member benefit claims and commission expense to earned premiums, net, service and administrative fees and ceding commissions and other revenue. Expense ratio is the ratio of the GAAP line items employee compensation and benefits and other underwriting, general and administrative expenses to earned premiums, net, service and administrative fees and ceding commissions and other revenue.
A combined ratio under 100% generally indicates an underwriting profit. A combined ratio over 100% generally indicates an underwriting loss. These ratios are commonly used in the insurance industry as a measure of underwriting profitability, excluding earnings on the insurance portfolio. Investors commonly use these measures to compare underwriting performance among companies separate from the performance of the investment portfolio. Management uses these measures to compare the profitability of various products we underwrite as well as profitability among programs of our various agents and sales channels.
Our focus on underwriting expertise, A.I.-driven lead generation, and technology-enhanced administration improves productivity, lowers administrative costs and results in agent relationships sustained over the long term.
The combined ratio was 91.5% for the year ended December 31, 2020, which consisted of an underwriting ratio of 74.6% and an expense ratio of 16.9%, as compared to 92.4%, 76.5% and 15.9%, respectively, for the year ended December 31, 2019. The improvement in the combined ratio and underwriting ratio year over year was primarily due to the shift in business mix as the result of the growth in higher margin commercial and warranty programs, partially offset by the prior year development of $5.4 million associated with certain programs associated with a small group of producers, which increased loss ratios by 1.1%. The increase in the expense ratio was primarily driven by the impact of purchase accounting on the recognition of revenues and expenses associated with our acquisition of Smart AutoCare.
Return on Average Equity
Return on average equity is expressed as the ratio of net income to average member’s equity during the period. Management uses this ratio as a measure of the on-going performance of the totality of the Company’s operations.
Return on average equity was 8.1% for the year ended December 31, 2020, as compared to 10.7%, for the year ended December 31, 2019, with the decline driven by realized and unrealized losses in the 2020 period, as compared to realized and unrealized gains in the 2019 period, partially offset by improvement in revenues associated with underwriting activities.
Non-GAAP Financial Measures
Underwriting and Fee Revenues and Underwriting and Fee Margin - Non-GAAP(1)
In order to better explain to investors the underwriting performance of the Company’s programs and the respective retentions between the Company and its agents and reinsurance partners, we use the non-GAAP metrics – underwriting and fee revenues and underwriting and fee margin.
We generally manage our exposure to the risks we underwrite using both reinsurance (e.g., quota share and excess of loss) and retrospective commission agreements with our agents (e.g., commissions paid are adjusted based on the actual underlying losses incurred), which mitigate our risk. Period-over-period comparisons of revenues and
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expenses are often impacted by the agents and their PORC’s choice as to their risk retention appetite, specifically earned premiums, net, service and administration fees, ceding commissions, and other revenue, all components of revenue, and losses and loss adjustment expenses, member benefit claims, and commissions paid to our agents and reinsurers. Generally, when losses are incurred, the risk which is retained by our agents and reinsurers is reflected in a reduction in commissions paid.
Underwriting and fee revenues represents total revenues excluding net investment income, net realized gains (losses) and net unrealized gains (losses). See “—Non-GAAP Reconciliations” for a reconciliation of underwriting and fee revenues to total revenues in accordance with GAAP.
Underwriting and fee margin represents income before taxes excluding net investment income, net realized gains (losses), net unrealized gains (losses), employee compensation and benefits, other expenses, interest expense and depreciation and amortization. We deliver our products and services on a vertically integrated basis to our agents. As such, underwriting and fee margin exclude general and administrative expenses, interest income, depreciation and amortization and other corporate expenses, including income taxes, as these corporate expenses support our vertically integrated delivery model and are not specifically supporting any individual business line. See “—Non-GAAP Reconciliations” for a reconciliation of underwriting and fee margin to total revenues in accordance with GAAP.
The below table shows underwriting and fee revenues and underwriting and fee margin by business mix for the years ended December 31, 2020 and 2019.
Year Ended December 31,
($ in thousands)
Underwriting and Fee Revenues(1)
Underwriting and Fee Margin(1)
2020201920202019
U.S. Insurance$499,712 $519,086 $98,842 $99,025 
U.S. Warranty Solutions170,726 93,598 69,642 43,945 
Europe Warranty Solutions22,651 6,834 7,497 2,808 
Total$693,089 $619,518 $175,981 $145,778 
__________________
(1)For further information relating to the Company’s underwriting and fee revenues and underwriting and fee margin, including a reconciliation to GAAP financials, see “—Non-GAAP Reconciliations.”
Underwriting and fee revenues were $693.1 million for the year ended December 31, 2020, which included $478.0 million of earned premiums, net, $187.0 million of service and administration fees, $21.1 million of ceding commissions and $7.0 million of other revenue, as compared to $619.5 million, $499.1 million, $106.2 million, $9.6 million and $4.6 million, respectively, for the year ended December 31, 2019. Of the total underwriting and fee revenues for the year ended December 31, 2020, the drivers by business mix were: U.S. Insurance $499.7 million, U.S. Warranty Solutions $170.7 million and Europe Warranty Solutions $22.7 million, as compared to $519.1 million, $93.6 million and $6.8 million, respectively, for the year ended December 31, 2019.
Total underwriting and fee revenues were up $73.6 million, or 11.9%, driven by growth in U.S. and Europe Warranty Solutions, partially offset by a decline in U.S. Insurance. The decrease in U.S. Insurance revenues was $19.4 million, or 3.7%, driven by increased ceded premiums and increased cancellations from the impacts of increased stimulus related to COVID-19 in our credit insurance and collateral protection programs. This was partially offset by growth in commercial, warranty insurance and niche personal lines programs. The increase in U.S. Warranty Solutions revenues was $77.1 million, or 82.4%, driven by the acquisition of Smart AutoCare and growth in auto, consumer goods and premium and warranty finance programs. Europe Warranty Solutions increased by $15.8 million, or 231.4%, driven by growth in auto and consumer goods warranty programs.
Underwriting and fee margin was $176.0 million for the year ended December 31, 2020, which included $98.8 million of U.S. Insurance, and $69.6 million of U.S. Warranty Solutions and $7.5 million of Europe Warranty Solutions, as compared to $145.8 million, $99.0 million, $43.9 million and $2.8 million, respectively, for the year ended December 31, 2019.
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Total underwriting and fee margin was up $30.2 million, or 20.7%, driven by growth in U.S. and Europe Warranty Solutions. U.S. Insurance margin was flat to the prior year as the growth in commercial, warranty insurance and niche personal lines offset the impacts of COVID-19 on our credit insurance and collateral protection lines. Prior year development in certain programs in U.S. Insurance also reduced underwriting and fee margin by 3.6%. U.S. Warranty Solutions margin increased by $25.7 million, or 58.5%, driven by the acquisition of Smart AutoCare and growth in auto, consumer goods and premium and warranty finance programs. Europe Warranty Solutions margin increased by $4.7 million, or 167.0%, driven by growth in auto and consumer goods warranty programs in those markets.
Adjusted Net Income and Adjusted Return on Average Equity
Adjusted net income represents income before taxes, less provision (benefit) for income taxes, and excluding the after-tax impact of various expenses that we consider to be unique and non-recurring in nature, including merger and acquisition related expenses, stock-based compensation, net realized gains (losses), net unrealized gains (losses) and intangibles amortization associated with purchase accounting.
Adjusted return on average equity represents adjusted net income expressed on an annualized basis as a percentage of average beginning and ending member’s equity during the period.
Management uses both these measures for executive compensation and as a measure of the on-going performance of our operations. See “—Non-GAAP Reconciliations” for a reconciliation of adjusted net income and adjusted return on average equity to pretax income and adjusted return on average equity.
For the year ended December 31, 2020, adjusted net income and adjusted return on average equity were $43.4 million and 15.2%, respectively, as compared to $32.8 million and 12.3%, respectively, for the year ended December 31, 2019. The improvement in both of these metrics was driven by the growth in underwriting and fee margins commercial, warranty and niche personal lines, partially offset by the prior year development mentioned above.
Net Investment Income and Net Realized and Unrealized Gains (Losses) on Investments
Our insurance investment portfolio includes investments held in statutory insurance companies and in unregulated entities. The portfolios held in statutory insurance companies are subject to different regulatory considerations, including with respect to types of assets, concentration limits, affiliate transactions and the use of leverage. Our investment strategy is designed to achieve attractive risk-adjusted returns across select asset classes, sectors and geographies while maintaining adequate liquidity to meet our claims payment obligations. As such, volatility from realized and unrealized gains and losses may impact period-over-period performance. Unrealized gains and losses on equity securities and loans held at fair value impact current period net income, while unrealized gains and losses on Available for Sale (“AFS”) securities impact accumulated other comprehensive income (“AOCI”).
Our net investment income includes interest and dividends, net of investment expenses, on our invested assets. We report net realized and unrealized gains and losses on our investments separately from our net investment income.
For the year ended December 31, 2020, net investment income was $9.9 million driven by interest income on fixed income securities and dividends on equity securities. Net realized and unrealized losses were $11.9 million, a decline of $18.8 million, driven by realized and unrealized losses on equity securities in 2020, as compared to gains on equity securities and other investments in 2019.
Non-GAAP Reconciliations
In addition to GAAP results, management uses the non-GAAP financial measures underwriting and fee revenues and underwriting and fee margin in order to better explain to investors the underwriting performance of the Company’s programs and the respective retentions between the Company and its agents and reinsurance partners. We also use the non-GAAP financial measures adjusted net income and adjusted return on average equity as
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measures of operating performance and to determine incentive compensation for the Company’s executive officers. Management believes these measures provide supplemental information useful to investors as they are frequently used by the financial community to analyze financial performance and to compare specialty insurance companies. Adjusted net income, adjusted return on average equity, underwriting and fee revenues and underwriting and fee margin are not measurements of financial performance or liquidity under GAAP and should not be considered as an alternative or substitute for earned premiums, net income or any other measure derived in accordance with GAAP.
Underwriting and Fee Revenues and Underwriting and Fee Margin — Non-GAAP
In order to better explain to investors the underwriting performance of the Company’s programs and the respective retentions between the Company and its agents and reinsurance partners, we use the non-GAAP metrics underwriting and fee revenues and underwriting and fee margin.
We generally manage our exposure to the underwriting risk we assume using both reinsurance (e.g., quota share and excess of loss) and retrospective commission agreements with our partners (e.g., commissions paid are adjusted based on the actual underlying losses incurred), which mitigate our risk. Period-over-period comparisons of revenues and expenses are often impacted by the PORCs and distribution partners’ choice as to whether to retain risk, specifically service and administration fees and ceding commissions, both components of revenue, and policy and contract benefits and commissions paid to our partners and reinsurers. Generally, when losses are incurred, the risk which is retained by our partners and reinsurers is reflected in a reduction in commissions paid.
Underwriting and Fee Revenues — Non-GAAP
We define underwriting and fee revenues as total revenues excluding net investment income, net realized gains (losses) and net unrealized gains (losses). Underwriting and fee revenues represents revenues generated by our underwriting and fee-based operations and allows us to evaluate our underwriting performance without regard to investment income. We use this metric as we believe it gives our management and other users of our financial information useful insight into our underlying business performance. Underwriting and fee revenues should not be viewed as a substitute for total revenues calculated in accordance with GAAP, and other companies may define underwriting and fee revenues differently.
($ in thousands)Year Ended December 31,
202020192018 (Unaudited)2017 (Unaudited)
Total revenues$691,061 $635,085 $544,586 $473,839 
Less: Net investment income(9,916)(8,671)(13,893)(11,158)
Less: Net realized and unrealized gains (losses)11,944 (6,896)11,664 16,503 
Underwriting and fee revenues$693,089 $619,518 $542,357 $479,184 
Underwriting and Fee Margin — Non-GAAP
We define underwriting and fee margin as income before taxes, excluding net investment income, net realized gains (losses), net unrealized gains (losses), employee compensation and benefits, other expenses, interest expense and depreciation and amortization. Underwriting and fee margin represents the underwriting performance of our underwriting and fee-based programs. As such, underwriting and fee margin excludes general administrative expenses, interest expense, depreciation and amortization and other corporate expenses as those expenses support the vertically integrated business model and not any individual component of our business mix. We use this metric as we believe it gives our management and other users of our financial information useful insight into the specific performance of our underlying underwriting and fee programs. Underwriting and fee income should not be viewed as a substitute for income before taxes calculated in accordance with GAAP, and other companies may define underwriting and fee margin differently.
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($ in thousands)Year Ended December 31,
202020192018 (Unaudited)2017 (Unaudited)
Income before taxes$26,948 $37,030 $14,172 $697 
Less: Net investment income(9,916)(8,671)(13,893)(11,158)
Less: Net realized gains (losses) and unrealized gains (losses)11,944 (6,896)11,664 16,503 
Plus: Depreciation and amortization10,835 9,105 10,779 12,800 
Plus: Interest expense15,487 14,766 18,202 15,072 
Plus: Employee compensation and benefits65,089 49,788 45,536 40,880 
Plus: Other expenses55,594 50,657 41,341 38,595 
Underwriting and fee margin$175,981 $145,779 $127,801 $113,389 
Adjusted Net Income — Non-GAAP
We define adjusted net income as income before taxes, less provision (benefit) for income taxes, and excluding the after-tax impact of various expenses that we consider to be unique and non-recurring in nature, including merger and acquisition related expenses, stock-based compensation, net realized gains (losses), net unrealized gains (losses) and intangibles amortization associated with purchase accounting. We use adjusted net income as an internal operating performance measure and to determine incentive compensation for our executive officers. We believe adjusted net income provides useful supplemental information to investors as it is frequently used by the financial community to analyze financial performance between periods and for comparison among companies. Adjusted net income should not be viewed as a substitute for income before taxes calculated in accordance with GAAP, and other companies may define adjusted net income differently.
We present adjustments for amortization associated with acquired intangible assets. The intangible assets were recorded as part of purchase accounting in connection with Tiptree’s acquisition of FFC in 2014, Defend Insurance Group (“Defend”) in 2019, and Smart AutoCare and Sky Auto in 2020. The intangible assets acquired contribute to overall revenue generation, and the respective purchase accounting adjustments will continue to occur in future periods until such intangible assets are fully amortized in accordance with the respective amortization periods required by GAAP.
($ in thousands)Year Ended December 31,
202020192018 (Unaudited)2017 (Unaudited)
Income before taxes$26,948 $37,030 $14,172 $697 
Less: Income tax (benefit) expense(3,725)(8,455)(4,054)17,817 
Less: Net realized and unrealized gains (losses)(1)
13,804 (6,896)11,664 16,503 
Plus: Intangibles amortization(2)
9,213 7,510 9,077 9,865 
Plus: Stock-based compensation expense2,287 2,891 3,458 3,513 
Plus: Non-recurring expenses3,418 1,975 2,559 1,657 
Less: Tax on adjustments(8,522)(1,249)(5,605)(24,909)
Adjusted net income$43,423 $32,806 $31,271 $25,143 
__________________
(1)For the year ended December 31, 2020, includes $1,860 of incentive fees paid with respect to specific unrealized and realized gains that are added-back to Adjusted net income.
(2)Specifically associated with acquisition purchase accounting.
Adjusted Return on Average Equity — Non-GAAP
We define adjusted return on average equity as adjusted net income expressed on an annualized basis as a percentage of average beginning and ending member’s equity during the period. See “—Adjusted Net Income—Non GAAP” above. We use adjusted return on average equity as an internal performance measure in the management of our operations because we believe it gives our management and other users of our financial information useful
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insight into our results of operations and our underlying business performance. Adjusted return on average equity should not be viewed as a substitute for return on average equity calculated in accordance with GAAP, and other companies may define adjusted return on average equity differently.
($ in thousands)Year Ended December 31,
202020192018 (Unaudited)2017 (Unaudited)
Adjusted net income(1)
$43,423 $32,806 $31,271 $25,143 
Average member’s equity285,760 266,397 253,244 240,119 
Adjusted return on average equity15.2 %12.3 %12.3 %10.5 %
__________________
(1)See “—Adjusted Net Income—Non GAAP” above.
Liquidity and Capital Resources
Sources and Uses of Funds
Liquidity describes the ability of a company to generate sufficient cash flows to meet the cash requirements of its business operations, including working capital needs, capital expenditures, debt service, acquisitions and other commitments and contractual obligations. We historically have derived our liquidity from our invested assets, cash flow from operations, ordinary and extraordinary dividend capacity from our insurance companies and our credit facilities.
Our primary cash requirements include the payment of our claims, operating expenses, interest and principal payments on our debt along with capital expenditures. We may also incur unexpected costs and operating expenses related to any unforeseen disruptions to our facilities and equipment, the loss of key personnel or changes in the credit markets and interest rates, which could increase our immediate cash requirements or otherwise impact our liquidity. Cash flows from non-regulated entities as well as dividends from our statutory companies are the principal sources of cash to meet these obligations.
Our primary sources of liquidity are our invested assets, cash and cash equivalents and availability under our revolving credit facilities. As of December 31, 2020, our investments were $608.9 million, as compared to $450.6 million as of December 31, 2019. As of December 31, 2020, we had cash and cash equivalents of $104.0 million as compared to $115.3 million as of December 31, 2019. As of December 31, 2020, we had approximately $125.0 million of availability under our revolving credit facility, as compared to $50.0 million as of December 31, 2019, in each case subject to certain leverage ratios, among other requirements. Our total corporate debt, which includes our Preferred Trust Securities but excludes our debt associated with asset-based lending, was $160.0 million as of December 31, 2020 as compared to $185.0 million as of December 31, 2019. For a description of our existing indebtedness see “Note (8). Debt, Net.”
In 2019, the Company's insurance company subsidiaries paid $10.2 million in ordinary dividends. There were no ordinary dividends paid in 2020. As of December 31, 2020 and 2019, the amount available for ordinary dividends from the Company’s insurance company subsidiaries was $13.4 million and $4.5 million, respectively, in each case, subject to certain leverage ratios.
We believe that our cash flow from operations will provide us with sufficient capital to continue to grow our business and fund interest on the outstanding debt, capital expenditures and other general corporate needs over the next several years. As we continue to expand our business, including by any acquisitions we may make, we may, in the future, require additional working capital for increased costs.
Cash Flows
Our primary sources of cash flow are gross written premiums and premium equivalents, investment income, reinsurance recoveries, sales and redemptions of investments and proceeds from offerings of debt securities. We use our cash flows primarily to pay operating expenses, losses and loss adjustment expenses, member benefit claims and income taxes.
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Our cash flows from operations may differ substantially from our net income due to non-cash expenses or due to changes in balance sheet accounts, particularly the growth in unearned premiums and deferred revenues. The timing of our cash flows from operating activities can also vary among periods due to the timing by which payments are made or received. Some of our payments and receipts, including loss settlements and subsequent reinsurance receipts, can be significant. Therefore, their timing can influence cash flows from operating activities in any given period.
We generated positive cash flows from operations in the years ended December 31, 2020 and 2019, and management believes that cash receipts from premiums and equivalents, proceeds from investment sales and redemptions, investment income and reinsurance receivables, if necessary, are sufficient to cover cash outflows in the foreseeable future.
($ in thousands)Year Ended December 31,
20202019
Total Cash Provided By (Used In):
Net Cash Provided By (Used In):
Operating activities$169,688 $107,024 
Investing activities(108,919)20,414 
Financing activities(26,143)(62,623)
Net increase (decrease) in cash, cash equivalents and restricted cash$34,626 $64,815 
For the years ended December 31, 2020 and 2019, the primary sources of cash from operating activities included net income for the period, proceeds from gross written premiums and premium equivalents, observed from growth in unearned premiums and net deferred revenues and increases in reinsurance payables. This was partially offset by increases in accounts, premiums and other receivables and increases in reinsurance receivables.
For the year ended December 31, 2020, the primary uses of cash from investing activities was the purchase of fixed income securities and other investments outpacing sales and maturities, and the growth in issuance of notes receivables. For the year ended December 31, 2019, the primary source of cash from investing activities was sales and maturities of fixed income securities and real estate outpacing the purchase of investments. This was partially offset by the growth in issuance of notes receivable.
For the years ended December 31, 2020 and 2019, the primary uses of cash from financing activities were repayment of debt outpacing proceeds from borrowings. In 2020, the repayment of debt was associated with our revolving line of credit, and in 2019, our repayment of debt was related to asset-based financing associated with investments. In addition, in 2019, we distributed $19.6 million to our parent in connection with a capital contribution from 2016.
We do not have any current plans for material capital expenditures other than current operating requirements. We believe that we will generate sufficient cash flows from operations to satisfy our liquidity requirements for at least the next 12 months and beyond.
Corporate Debt
Secured Revolving Credit Agreements
On August 4, 2020, FFC, a subsidiary of the Company, entered into an Amended and Restated Credit Agreement by and among FFC and its subsidiary, LOTS Intermediate Co., as borrowers, the lenders from time to time party thereto, certain of FFC’s subsidiaries, as guarantors, and Fifth Third Bank, National Association, as the administrative agent and issuing lender (the “Fortegra Credit Agreement”). The Fortegra Credit Agreement provides for a $200,000 revolving credit facility, all of which is available for the issuance of letters of credit, and which matures on August 4, 2023. The Fortegra Credit Agreement replaced the $30,000 Working Capital Facility described below.
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As of December 31, 2019, the Company had a $30,000 revolving line of credit with Fifth Third Bank (the “Working Capital Facility”), which provided for a $30,000 accordion feature. The Working Capital Facility had a maturity date of April 28, 2020 and an interest rate of 30-day LIBOR rate plus 120 basis points. On December 30, 2019, the Working Capital Facility was amended, adding the ability to issue up to $75,000 in standby letters of credit (“SBLCs”), and applying an aggregate maximum of $75,000 for the combined values of outstanding debt and issued SBLCs. The Working Capital Facility contained terms and conditions typical for a transaction of this type.
As of December 31, 2020, the Company was in compliance with the covenants required by the Fortegra Credit Agreement.
Junior Subordinated Notes
On October 16, 2017, FFC completed a private placement offering of $125.0 million of 8.50% Fixed Rate Resetting Junior Subordinated Notes due in October 2057 (the “Notes”). Substantially all of the net proceeds from the Notes were used to repay and terminate FFC’s then existing credit agreement with Wells Fargo Bank, N.A. The Notes, which were issued under an indenture, are the unsecured obligations of FFC and rank in right of payment and upon liquidation junior to all of FFC’s current and future senior indebtedness. The Notes are not obligations of or guaranteed by any of FFC’s subsidiaries or any other Tiptree entities. So long as no event of default has occurred and is continuing, FFC may defer all or part of the interest payments on the Notes on one or more occasions for up to five consecutive years per deferral period. The indenture governing the Notes contains customary affirmative and negative covenants and events of default.
Preferred Trust Securities
As of December 31, 2019, the Company has $35.0 million of preferred trust securities due June 15, 2037 (“Preferred Trust Securities”). The Preferred Trust Securities bear interest at a floating rate of 3-month LIBOR plus the annual base rate of 4.10%. Interest is payable quarterly. The Company may redeem the Preferred Trust Securities, in whole or in part, at a price equal to the full outstanding principal amount of such preferred trust securities outstanding plus accrued and unpaid interest.
Asset-based Debt
Premium Finance Revolving Line of Credit
On April 28, 2017, the Company’s subsidiary, South Bay Acceptance Corporation (“South Bay”), entered into a new $25.0 million maximum borrowing capacity, revolving line of credit agreement with Fifth Third Bank, National Association (the “Fifth Third Line”), with a maturity date of April 28, 2021. On December 30, 2019, the Company entered into the fourth amendment of the Fifth Third Line, which reduced the maximum borrowing capacity to $13.0 million. The Fifth Third Line bears interest at a rate equal to the 30-day LIBOR rate plus 240 basis points and is available specifically for the South Bay premium financing product. As of December 31, 2019, South Bay was in compliance with the covenants required by the Fifth Third Line.This agreement was replaced on October 16, 2020 with a new agreement, described below.
On August 5, 2019, the Company’s subsidiary, South Bay Funding, LLC (“SBF”), entered into a new $15.0 million maximum borrowing capacity revolving line of credit agreement with Fifth Third Bank, National Association (the “SBF-Fifth Third Line”), with a maturity date of April 28, 2021. On December 30, 2019, the Company entered into the first amendment of the SBF-Fifth Third Line, which increased the maximum borrowing capacity to $27.0 million. The SBF-Fifth Third Line bears interest at a rate equal to the 30-day LIBOR rate plus 240 basis points and is available specifically for the SBF Warranty Service Contracts (“WSC”) financing product. As of December 31, 2019, a total of $11.4 million was outstanding under the borrowing and SBF was in compliance with the covenants required by the SBF-Fifth Third Line. This agreement was replaced on October 16, 2020 with a new agreement, described below.
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2020 Premium Finance Revolving Line of Credit
On October 16, 2020, South Bay and SBF (the “Borrowers”) entered into a three-year $75.0 million secured credit agreement (the “South Bay Credit Agreement”) with Fifth Third Bank, National Association acting as administrative agent, and a syndicate of banks, which replaced the individual agreements in its premium finance and warranty service contract finance businesses. The Borrowers can select from various borrowing and rate options under the South Bay Credit Agreement, as well the option to convert certain borrowings to term loans, if no default or event of default exists. The South Bay Credit Agreement extends up to $20.0 million to South Bay and up to $55.0 million to SBF, and is secured by substantially all of the assets of the Borrowers. The obligations under the South Bay Credit Agreement are non-recourse to Fortegra and its subsidiaries (other than South Bay and its subsidiaries). As of December 31, 2020, a total of $27.5 million was outstanding under the borrowing.
As of December 31, 2020, the Company is in compliance with the representations and covenants for outstanding borrowings or has obtained waivers for any events of non-compliance.
Contractual Obligations
The table below summarizes consolidated contractual obligations by period for payments that are due as of December 31, 2020. Actual payments will likely vary from estimates reflected in the table. See Note (9) Debt, net in the accompanying consolidated financial statements for additional information.
($ in millions)Less than 1 year1-3 years3-5 yearsMore than 5 yearsTotal
Corporate debt, including interest (1)
$12.1 $24.3 $24.3 $196.9 $257.6 
Asset based debt— 27.5 — — 27.5 
Total debt
$12.1 $51.8 $24.3 $196.9 $285.1 
Operating lease obligations(2)
3.2 4.5 2.9 8.4 19.0 
Total$15.3 $56.3 $27.2 $205.3 $304.1 
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(1)Estimated interest obligation calculated for corporate debt as the outstanding borrowing balance is fixed. The junior subordinated notes have an option to redeem 10 years from the issue date.
(2)Minimum rental obligation for office leases. The total rent expense for the year ended December 31, 2020 was $2.4 million.
Financial Condition
Member’s Equity
As of December 31, 2020, total member’s equity was $297.7 million, and as of December 31, 2019, total member’s equity was $273.8 million.
Investment Portfolio
Our primary investment objectives are to maintain liquidity, preserve capital and generate a stable level of investment income. We purchase securities that we believe are attractive on a relative value basis and seek to generate returns in excess of predetermined benchmarks. Our Board of Directors determines our investment guidelines in compliance with applicable regulatory restrictions on asset type, quality and concentration.
Our cash and invested assets consist of cash and cash equivalents, fixed maturity securities and equity securities. As of December 31, 2020, the majority of our investments, or $377.1 million, was comprised of fixed maturity securities that are classified as available-for-sale and carried at fair value with unrealized gains and losses on these securities, net of applicable taxes, reported as a separate component of AOCI. Also included in our investments were $34.2 million of equity securities, $7.8 million of loans, at fair value, $63.9 million of exchange traded fixed income funds, at fair value, and $125.8 million of other investments, net. In addition, we maintained a non-restricted cash and cash equivalent balance of $104.0 million as of December 31, 2020. Our fixed maturity securities totaled $589 million and include cash and cash equivalents, available for sale securities, at fair value,
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exchange traded funds and investment grade securities classified in other investments, had a weighted-average effective duration of 2.4 years, an average S&P rating of AA, and a book yield of 1.9% as of December 31, 2020.
As of December 31, 2019, the majority of our investments, or $335.2 million, was comprised of fixed maturity securities that are classified as available-for-sale and carried at fair value with unrealized gains and losses on these securities, net of applicable taxes, reported as a separate component of AOCI. Also included in our investments were $37.8 million of equity securities, $10.2 million of loans, at fair value, $25.0 million of exchange traded fixed income funds, at fair value, and $42.5 million of other investments, net. In addition, we maintained a non-restricted cash and cash equivalent balance of $115.3 million as of December 31, 2019. Our fixed maturity securities totaled $475.6 million and include cash and cash equivalents, available for sale securities, at fair value, and exchange traded funds which had a weighted-average effective duration of 1.7 years, an average S&P rating of AA, and a book yield of 2.5% as of December 31, 2019.
At December 31, 2020 and December 31, 2019, the amortized cost and fair value on available-for-sale securities were as follows.
($ in thousands)As of December 31, 2020
Fixed Maturities:Amortized Cost or CostFair Value% of Total Fair Value
Obligations of the U.S. Treasury and U.S. Government agencies$191,116 $196,303 52.1 %
Obligations of state and political subdivisions42,583 44,350 11.8 %
Corporate securities92,761 94,941 25.2 %
Asset-backed securities37,975 36,192 9.6 %
Certificate of deposits1,355 1,355 0.4 %
Obligations of foreign governments3,961 3,992 1.1 %
Total available for sale investments$369,751 $377,133 100.0 %
($ in thousands)As of December 31, 2019
Fixed Maturities:Amortized Cost or CostFair Value% of Total Fair Value
Obligations of the U.S. Treasury and U.S. Government agencies$189,596 $191,590 57.2 %
Obligations of state and political subdivisions45,249 46,338 13.8 %
Corporate securities50,514 51,231 15.3 %
Asset-backed securities45,634 44,018 13.1 %
Certificate of deposits896 896 0.3 %
Obligations of foreign governments1,099 1,119 0.3 %
Total available for sale investments$332,988 $335,192 100.0 %
The following tables provide the credit quality of available for sale investments as of December 31, 2020 and December 31, 2019:
($ in thousands)As of December 31, 2020
Rating:Amortized Cost or CostFair Value% of Total Fair Value
AAA$220,484 $224,757 59.6 %
AA66,348 67,958 18.0 %
A75,467 77,139 20.5 %
BBB1,362 1,267 0.3 %
BB452 415 0.1 %
B or unrated5,638 5,597 1.5 %
Total available for sale investments$369,751 $377,133 100.0 %
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($ in thousands)As of December 31, 2019
Rating:Amortized Cost or CostFair Value% of Total Fair Value
AAA$233,013 $233,514 69.7 %
AA54,070 55,005 16.4 %
A42,905 43,487 13.0 %
BBB1,097 1,044 0.3 %
BB573 546 0.2 %
B or unrated1,330 1,596 0.4 %
Total available for sale investments$332,988 $335,192 100.0 %
The amortized cost and fair value of our available-for-sale investments in fixed maturity securities summarized by contractual maturity as of December 31, 2020 and December 31, 2019 are displayed in the tables below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations.
($ in thousands)As of December 31, 2020
Amortized Cost or CostFair Value% of Total Fair Value
Due in one year or less$30,306 $30,602 8.1 %
Due after one year through five years149,378 153,406 40.7 %
Due after five years through ten years26,621 27,479 7.3 %
Due after ten years125,471 129,454 34.3 %
Asset-backed securities37,975 36,192 9.6 %
Total available for sale investments$369,751 $377,133 100.0 %
($ in thousands)As of December 31, 2019
Amortized Cost or CostFair Value% of Total Fair Value
Due in one year or less$9,584 $9,602 2.9 %
Due after one year through five years130,223 131,952 39.4 %
Due after five years through ten years19,508 20,125 6.0 %
Due after ten years128,039 129,495 38.6 %
Asset-backed securities45,634 44,018 13.1 %
Total available for sale investments$332,988 $335,192 100.0 %
Critical Accounting Policies and Estimates
The Company’s significant accounting policies are described in Note (2) Summary of Significant Accounting Policies. As disclosed in Note (2), the preparation of financial statements in conformity with generally accepted accounting principles (“GAAP”) requires management to make estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ significantly from those estimates.
The Company believes that the following discussion addresses the Company’s most critical accounting policies, which are those that are most important to the portrayal of the Company’s financial condition and results of operations and require management’s most difficult, subjective and complex judgments.
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Impairment
Goodwill and Intangible Assets, net
The initial measurement of goodwill and intangibles requires judgment concerning estimates of the fair value of the acquired assets and liabilities. Goodwill and indefinite-lived intangible assets are not amortized but subject to tests for impairment annually or if events or circumstances indicate it is more likely than not they may be impaired. Finite-lived intangible assets are subject to impairment if events or circumstances indicate a possible inability to realize the carrying amount. At both December 31, 2020 and December 31, 2019, we had one reporting unit for goodwill impairment testing, of which the fair value substantially exceeded carrying value as of that date. See Note (8) Goodwill and Intangible Assets, net.
Available for Sale (“AFS”) Securities, at Fair Value
AFS securities are securities that are not classified as trading or held-to-maturity and are intended to be held for indefinite periods of time. AFS securities include those debt securities that management may sell as part of its asset/liability management strategy or in response to changes in interest rates, resultant prepayment risk or other factors. AFS securities are held at fair value on the consolidated balance sheet with changes in fair value, including non-credit related losses, net of related tax effects, recorded in the AOCI component of stockholders’ equity in the period of change. Upon the disposition of an AFS security, the Company reclassifies the gain or loss on the security from AOCI to net realized and unrealized gains (losses) on the consolidated statements of operations.
For AFS securities, the Company reviews its securities portfolio for impairment and determines if impairment is related to credit loss or non-credit loss. In making the assessment of whether a loss is from credit or other factors, management considers the extent to which fair value is less than amortized cost, any changes to the rating of the security by a rating agency, and adverse conditions related to the security, among other factors. If this assessment indicates that a credit loss exists, the present value of cash flows expected to be collected from the security is compared to the amortized cost basis of the security. If the present value of cash flows is less than the amortized cost basis, a credit loss exists and an allowance is created, limited by the amount that the fair value is less than the amortized cost basis.
Subsequent activity related to the credit loss component (e.g. write-offs, recoveries) is recognized as part of the allowance for credit losses on AFS securities. For AFS securities which have an expectation of zero risk nonpayment of the amortized cost basis (e.g. U.S. Treasury securities or agency securities), the expected credit loss is zero.
Reserves
Unpaid claims are reserve estimates that are established in accordance with GAAP using generally accepted actuarial methods. Credit life and accidental death and destruction (AD&D) unpaid claims reserves include claims in the course of settlement and incurred but not reported (IBNR) claims. Credit disability unpaid claims reserves also include continuing claim reserves for open disability claims. For all other Fortegra product lines, unpaid claims reserves are bulk reserves and are entirely IBNR. The Company uses a number of algorithms in establishing its unpaid claims reserves. These algorithms are used to calculate unpaid claims as a function of paid losses, earned premium, target loss ratios, in-force amounts, unearned premium reserves, industry recognized morbidity tables or a combination of these factors.
In arriving at the unpaid claims reserves, the Company conducts an actuarial analysis on a basis gross of reinsurance. The same estimates used as a basis in calculating the gross unpaid claims reserves are then used as the basis for calculating the net unpaid claims reserves, which take into account the impact of reinsurance. Anticipated future loss development patterns form a key assumption underlying these analyses. Our claims are generally reported and settled quickly, resulting in consistent historical loss development patterns. From the anticipated loss development patterns, a variety of actuarial loss projection techniques are employed, such as the chain ladder method, the Bornhuetter-Ferguson method and expected loss ratio method.
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The unpaid claims reserves represent the Company’s best estimates, generally involving actuarial projections at a given time. Actual claim costs are dependent upon a number of complex factors such as changes in doctrines of legal liabilities and damage awards. These factors are not directly quantifiable, particularly on a prospective basis. The Company periodically reviews and updates its methods of making such unpaid claims reserve estimates and establishing the related liabilities based on our actual experience. The Company has not made any changes to its methodologies for determining unpaid claims reserves in the periods presented.
During the year ended December 31, 2020, the Company experienced an increase in prior year development of $5.4 million primarily as a result of higher than expected claim frequency from business written by a small group of producers of our personal and commercial lines of business. Of the $5.4 million increase in prior year development, $2.2 million related to our non-standard auto business. The underlying cause of this development was the result of a subset of risk where the loss ratio pegs used in our year end actuarial determination was low given the ultimate frequency that emerged.
During the year ended December 31, 2019, the Company experienced an increase in prior year development of $5.2 million, all of which related to our non-standard auto business. The underlying cause of this development was higher than expected claim frequency. The non-standard programs which contributed to the prior year development in both years, one active program which was new in 2018 and two programs in run-off, experienced loss emergence in excess of levels contemplated when originally pricing the products. The Company responded to this emergence by filing for increased rates for the one underperforming active program and non-renewing all business for the two programs in run- off.
Management considers the prior year development for each of the two years to be insignificant when considered in the context of our annual earned premiums, net as well as our net losses and loss adjustment expenses and member benefit claims expenses. Earned premiums, net in 2020 were $478.0 million and net losses and loss adjustment expenses were $178.2 million, which resulted in a loss ratio of 37.3%. Without the $5.4 million prior year development, the loss ratio for 2020 would have been approximately 1% lower, and for comparison the 2019 loss ratio was 30.3%. In general, the Company’s loss ratio results have been consistent over time. The prior year development of $5.4 million represented 20.1% of our pretax income of $26.9 million in 2020, and 12.3% of our opening net liability for losses and loss adjustment expense of $43.9 million in the same year. Actuarial estimates are subject to estimation variability, and while management uses its best judgment in establishing the estimate of required unpaid claims, different assumptions and variables could lead to significantly different unpaid claims estimates. The variability in these estimates can, and have in the past, been significant to pretax income.
We analyze our development on a quarterly basis, and given the short duration nature of our products, favorable or adverse development emerges quickly and allows for timely reserve strengthening, if necessary, or modifications to our product pricing or offerings.
Based upon our internal analysis and our review of the statement of actuarial opinions provided by our actuarial consultants, we believe that the amounts recorded for policy liabilities and unpaid claims reasonably represents the development.
While management has used its best judgment in establishing the estimate of required unpaid claims, different assumptions and variables could lead to significantly different unpaid claims estimates. The determination of best estimate is affected by many factors, including but not limited to:
the quality and applicability of historical data,
current and future economic conditions,
trends in loss frequencies and severities for various causes of loss,
changes in claims reporting patterns,
claims settlement patterns and timing,
regulatory, legislative and judicial decisions,
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morbidity patterns, and
the attitudes of claimants towards settlements.
The adequacy of our unpaid claims reserves will be impacted by future trends that impact these factors. Two key measures of loss activity are loss frequency, which is the measure of the number of claims per unit of insured exposure, and loss severity, which is a measure of the average size of claims. Factors affecting loss frequency include the effectiveness of loss controls, changes in economic activity and weather patterns. Factors affecting loss severity include changes in policy limits, retentions, rate of inflation and judicial interpretations.
If the actual level of loss frequency and severity are higher or lower than expected, the ultimate reserves required will be different than management’s estimate. Based on our actuarial analysis, we have determined that an aggregate change that is greater than 5% in loss frequency and loss severity is not reasonably likely given the Company’s low limit underwriting and low severity philosophies. The effect of higher and lower levels of loss frequency and severity on our ultimate costs for claims occurring in 2020 would be as follows:
Accident Year 2020
Sensitivity Testing
Change in Loss & Frequency & Severity on Ultimate Loss Costs
($ in thousands)
ScenarioUltimate CostsChange
5% higher$180,607 $8,600 
3% higher$