10-Q 1 form10q.htm 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
 
FORM 10-Q

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

For the Quarterly Period Ended September 30, 2019

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

For the Transition Period From _________ to _________

Commission File Number 001-36696

STANDARD DIVERSIFIED INC.
 (Exact name of registrant as specified in its charter)

Delaware
  
56-1581761
(State or other jurisdiction of incorporation or organization)
  
(I.R.S. employer identification no.)

767 5th Avenue, 12th Floor
    
New York, NY
  
10153
(Address of principal executive offices)
  
(Zip Code)

Registrant’s telephone number, including area code: (516) 248-1100

Former name, former address and former fiscal year, if changed since last report:
155 Mineola Boulevard
 Mineola, NY 11501
 
Securities registered pursuant to Section 12(b) of the Act:

Title of each class
  
Trading
Symbol
  
Name of each
exchange on which registered
Class A Common Stock, $0.01 par value
  
SDI
  
NYSE American

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes   ☑     No   ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).     Yes   ☑    No   ☐

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

Large accelerated filer ☐
  
Accelerated filer ☐
Non-accelerated filer ☒
  
Smaller 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 13(a) of the Exchange Act.    ☐

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

At November 1, 2019, there were 8,960,576 shares outstanding of the registrant’s Class A common stock, par value $0.01 per share, and 7,732,806 shares outstanding of the registrant’s Class B common stock, par value $0.01 per share.

STANDARD DIVERSIFIED INC. AND SUBSIDIARIES
TABLE OF CONTENTS

   
Page No.
PART I    FINANCIAL INFORMATION
  
 
    
ITEM 1
Financial Statements
  
     
 
3
     
  4
     
  5
     
  6
     
  8
     
  10
     
ITEM 2
 50
     
ITEM 3
 71
     
ITEM 4
 71
     
PART II   OTHER INFORMATION
  
     
ITEM 1
 72
     
ITEM 1A
 73
     
ITEM 2
 74
     
ITEM 3
 74
     
ITEM 4
 74
     
ITEM 5
 74
     
ITEM 6
 74
     
  75

PART I
FINANCIAL INFORMATION

Item 1.
Financial Statements

Standard Diversified Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(dollars in thousands except share and per share data)

   
September 30,
2019
    
December 31,
2018
  
   
(Unaudited)
        
ASSETS
            
Cash and cash equivalents
  
$
97,347
    
$
21,201
  
Fixed maturities available for sale, at fair value; amortized cost of $26,241 in 2019 and $32,474 in 2018
    
26,566
      
32,132
  
Equity securities, at fair value; cost: $1,099 in 2019 and $794 in 2018
    
1,115
      
693
  
Trade accounts receivable, net of allowances of $63 in 2019 and $42 in 2018
    
7,276
      
2,901
  
Premiums receivable
    
3,566
      
5,858
  
Inventories
    
98,719
      
91,237
  
Other current assets
    
16,401
      
15,045
  
Property, plant and equipment, net
    
29,759
      
27,741
  
Deferred income taxes
    
2,242
      
-
  
Right of use assets
    
13,755
      
-
  
Deferred financing costs, net
    
960
      
870
  
Intangible assets, net
    
33,180
      
38,325
  
Deferred policy acquisition costs
    
1,468
      
2,279
  
Goodwill
    
154,479
      
146,696
  
Master Settlement Agreement (MSA) escrow deposits
    
32,074
      
30,550
  
Other assets
    
6,891
      
6,415
  
Total assets
  
$
525,798
    
$
421,943
  
                 
LIABILITIES AND EQUITY
                
Reserves for losses and loss adjustment expenses
  
$
26,432
    
$
27,330
  
Unearned premiums
    
8,370
      
12,707
  
Advance premiums collected
    
326
      
500
  
Accounts payable
    
9,498
      
9,225
  
Accrued liabilities
    
21,571
      
23,883
  
Current portion of long-term debt
    
15,958
      
9,431
  
Revolving credit facility
    
-
      
26,000
  
Notes payable and long-term debt
    
330,150
      
208,616
  
Lease liabilities
    
12,280
      
-
  
Deferred income taxes
    
-
      
2,711
  
Postretirement benefits
    
3,096
      
3,096
  
Asset retirement obligations
    
2,100
      
2,028
  
Other long-term liabilities
    
3,554
      
1,687
  
Total liabilities
    
433,335
      
327,214
  
                 
Commitments and contingencies
                
                 
Equity:
                
Preferred stock, $0.01 par value; authorized shares 50,000,000; -0- issued and outstanding shares
    
-
      
-
  
Class A common stock, $0.01 par value; authorized shares, 300,000,000; 9,036,095 issued and 9,029,479 outstanding at September 30, 2019 and 9,156,293 issued and 9,052,801 outstanding at December 31, 2018
    
90
      
92
  
Class B common stock, $0.01 par value; authorized shares, 30,000,000; 7,722,564 and 7,801,995 issued and outstanding at September 30, 2019 and December 31, 2018, respectively; convertible into Class A shares on a one-for-one basis
    
77
      
78
  
Additional paid-in capital
    
72,955
      
81,260
  
Class A treasury stock, 6,616 and 103,492 common shares at cost as of September 30, 2019 and December 31, 2018, respectively
    
(70
)
    
(1,440
)
Accumulated other comprehensive loss
    
(1,243
)
    
(1,683
)
Accumulated deficit
    
(26,960
)
    
(24,613
)
Total stockholders' equity
    
44,849
      
53,694
  
Noncontrolling interests
    
47,614
      
41,035
  
Total equity
    
92,463
      
94,729
  
Total liabilities and equity
  
$
525,798
    
$
421,943
  

The accompanying notes are an integral part of the condensed consolidated financial statements.

Standard Diversified Inc. and Subsidiaries
Condensed Consolidated Statements of Income (Loss)
(dollars in thousands except share and per share data)
(unaudited)

   
Three Months Ended September 30,
    
Nine Months Ended September 30,
  
   
2019
    
2018
    
2019
    
2018
  
Revenues:
                        
Net sales
  
$
97,520
    
$
84,035
    
$
283,882
    
$
240,156
  
Insurance premiums earned
    
6,055
      
7,088
      
20,362
      
21,539
  
Net investment income
    
210
      
309
      
767
      
679
  
Other income
    
279
      
163
      
829
      
557
  
Total revenues
    
104,064
      
91,595
      
305,840
      
262,931
  
                                 
Operating costs and expenses:
                                
Cost of sales
    
54,636
      
47,742
      
159,217
      
136,147
  
Selling, general and administrative expenses
    
31,024
      
24,492
      
84,201
      
70,237
  
Incurred losses and loss adjustment expenses
    
4,790
      
5,790
      
20,506
      
17,007
  
Impairment loss on goodwill and other intangible assets
    
-
      
-
      
2,826
      
-
  
Other operating expenses
    
2,003
      
2,682
      
7,248
      
5,512
  
Total operating costs and expenses
    
92,453
      
80,706
      
273,998
      
228,903
  
Operating income
    
11,611
      
10,889
      
31,842
      
34,028
  
                                 
Interest expense, net
    
4,680
      
4,450
      
13,529
      
12,556
  
Interest and investment income
    
(777
)
    
(243
)
    
(1,115
)
    
(620
)
Loss on extinguishment of debt
    
2,117
      
-
      
2,267
      
2,384
  
Net periodic benefit (income) expense, excluding service cost
    
(12
)
    
(45
)
    
(34
)
    
176
  
Income before income taxes
    
5,603
      
6,727
      
17,195
      
19,532
  
Income tax expense
    
2,236
      
1,436
      
6,569
      
4,153
  
Net income
    
3,367
      
5,291
      
10,626
      
15,379
  
Net income attributable to noncontrolling interests
    
(3,133
)
    
(3,924
)
    
(12,973
)
    
(9,962
)
Net income (loss) attributable to Standard Diversified Inc.
  
$
234
    
$
1,367
    
$
(2,347
)
  
$
5,417
  
                                 
Net income (loss) attributable to SDI per Class A and Class B Common Share – Basic
  
$
0.01
    
$
0.08
    
$
(0.14
)
  
$
0.33
  
Net income (loss) attributable to SDI per Class A and Class B Common Share – Diluted
  
$
0.01
    
$
0.08
    
$
(0.14
)
  
$
0.31
  
Weighted Average Class A and Class B Common Shares Outstanding – Basic
    
16,830,132
      
16,677,412
      
16,816,158
      
16,618,823
  
Weighted Average Class A and Class B Common Shares Outstanding – Diluted
    
16,877,690
      
16,741,660
      
16,816,158
      
16,661,809
  

The accompanying notes are an integral part of the condensed consolidated financial statements.

Standard Diversified Inc. and Subsidiaries
Condensed Consolidated Statements of Comprehensive Income (Loss)
(dollars in thousands)
(unaudited)

   
Three Months Ended September 30,
    
Nine Months Ended September 30,
  
   
2019
    
2018
    
2019
    
2018
  
                         
Net income
  
$
3,367
    
$
5,291
    
$
10,626
    
$
15,379
  
                                 
Other comprehensive income (loss):
                                
Amortization of unrealized pension and postretirement (loss) gain, net of tax of $1 and $3 for the three months ended Setpember 30, 2019 and 2018, respectively, and $4 and $85 for the nine months ended September 30, 2019 and 2018, respectively
    
(4
)
    
10
      
(11
)
    
314
  
Unrealized gain (loss) on investments, net of tax of $83 and $69 for the three months ended September 30, 2019 and 2018, respectively, and $528 and $173 for the nine months ended September 30, 2019 and 2018, respectively
    
246
      
(385
)
    
1,841
      
(1,322
)
Unrealized loss on interest rate swaps, net of tax of $70 and $70 for the three months ended September 30, 2019 and 2018, respectively, and $563 and $92 for the nine months ended September 30, 2019 and 2018, respectively
    
(208
)
    
(233
)
    
(1,616
)
    
(308
)
Other comprehensive income (loss)
    
34
      
(608
)
    
214
      
(1,316
)
Comprehensive income
    
3,401
      
4,683
      
10,840
      
14,063
  
Amounts attributable to noncontrolling interests
    
(3,158
)
    
(3,924
)
    
(12,747
)
    
(9,962
)
Comprehensive income (loss) attributable to Standard Diversified Inc.
  
$
243
    
$
759
    
$
(1,907
)
  
$
4,101
  

The accompanying notes are an integral part of the condensed consolidated financial statements

Standard Diversified Inc. and Subsidiaries
Condensed Consolidated Statements of Equity
(dollars in thousands, except share data)
(unaudited)

   
Three Months Ended September 30, 2019
  
   
Class A Common
Shares
    
Class B Common
Shares
    
Treasury Stock
    
Additional
Paid-In Capital
    
Accumulated Other
Comprehensive
Loss
    
Accumulated
Deficit
    
Noncontrolling
Interests
    
Total
  
                                     
   
Shares
    
Amount
    
Shares
    
Amount
    
Shares
    
Amount
  
Balance June 30, 2019
    
9,086,776
    
$
91
      
7,750,528
    
$
78
      
-
    
$
-
    
$
79,958
    
$
(1,252
)
  
$
(27,194
)
  
$
50,931
    
$
102,612
  
Vesting of SDI restricted stock
    
6,291
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
  
Conversion of Class B common stock into Class A common stock
    
27,964
      
-
      
(27,964
)
    
(1
)
    
-
      
-
      
-
      
-
      
-
      
-
      
(1
)
Unrecognized pension and postretirement cost adjustment, net of tax of $1
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(2
)
    
-
      
(2
)
    
(4
)
Unrealized gain on investments, net of tax of $83
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
115
      
-
      
131
      
246
  
Unrealized loss on interest rate swaps, net of tax of $70
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(104
)
    
-
      
(104
)
    
(208
)
SDI stock-based compensation
    
-
      
-
      
-
      
-
      
-
      
-
      
179
      
-
      
-
      
-
      
179
  
Impact of Turning Point equity transactions on APIC and NCI
    
-
      
-
      
-
      
-
      
-
      
-
      
(6,068
)
    
-
      
-
      
(6,021
)
    
(12,089
)
Turning Point dividend payable to noncontrolling interests
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(454
)
    
(454
)
Share repurchases
    
-
      
-
      
-
      
-
      
(91,552
)
    
(1,184
)
    
-
      
-
      
-
      
-
      
(1,184
)
Retirement of treasury stock
    
(84,936
)
    
(1
)
    
-
      
-
      
84,936
      
1,114
      
(1,114
)
    
-
      
-
      
-
      
(1
)
Net income
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
234
      
3,133
      
3,367
  
Balance September 30, 2019
    
9,036,095
    
$
90
      
7,722,564
    
$
77
      
(6,616
)
  
$
(70
)
  
$
72,955
    
$
(1,243
)
  
$
(26,960
)
  
$
47,614
    
$
92,463
  

   
Nine Months Ended September 30, 2019
  
   
Class A Common
Shares
    
Class B Common
Shares
    
Treasury Stock
    
Additional
Paid-In
Capital
    
Accumulated
Other
Comprehensive
Loss
    
Accumulated
Deficit
    
Noncontrolling
Interests
    
Total
  
                                     
   
Shares
    
Amount
    
Shares
    
Amount
    
Shares
    
Amount
  
Balance December 31, 2018
    
9,156,293
    
$
92
      
7,801,995
    
$
78
      
(103,492
)
  
$
(1,440
)
  
$
81,260
    
$
(1,683
)
  
$
(24,613
)
  
$
41,035
    
$
94,729
  
Vesting of SDI restricted stock
    
28,899
      
-
      
-
      
-
      
-
      
-
      
(335
)
    
-
      
-
      
-
      
(335
)
Conversion of Class B common stock into Class A common stock
    
79,431
      
-
      
(79,431
)
    
(1
)
    
-
      
-
      
-
      
-
      
-
      
-
      
(1
)
Unrecognized pension and postretirement cost adjustment, net of tax of $4
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(6
)
    
-
      
(5
)
    
(11
)
Unrealized gain on investments, net of tax of $528
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
1,256
      
-
      
585
      
1,841
  
Unrealized loss on interest rate swaps, net of tax of $563
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(810
)
    
-
      
(806
)
    
(1,616
)
SDI stock-based compensation
    
-
      
-
      
-
      
-
      
-
      
-
      
530
      
-
      
-
      
-
      
530
  
Impact of Turning Point equity transactions on APIC and NCI
    
-
      
-
      
-
      
-
      
-
      
-
      
(5,371
)
    
-
      
-
      
(4,816
)
    
(10,187
)
Turning Point dividend payable to noncontrolling interests
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(1,352
)
    
(1,352
)
Share repurchases
    
-
      
-
      
-
      
-
      
(131,652
)
    
(1,760
)
    
-
      
-
      
-
      
-
      
(1,760
)
Retirement of treasury stock
    
(228,528
)
    
(2
)
    
-
      
-
      
228,528
      
3,130
      
(3,129
)
    
-
      
-
      
-
      
(1
)
Net (loss) income
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(2,347
)
    
12,973
      
10,626
  
Balance September 30, 2019
    
9,036,095
    
$
90
      
7,722,564
    
$
77
      
(6,616
)
  
$
(70
)
  
$
72,955
    
$
(1,243
)
  
$
(26,960
)
  
$
47,614
    
$
92,463
  

The accompanying notes are an integral part of the condensed consolidated financial statements

Standard Diversified Inc. and Subsidiaries
Condensed Consolidated Statements of Equity (continued)
(dollars in thousands, except share data)
(unaudited)

   
Three Months Ended September 30, 2018
  
   
Class A Common Shares
    
Class B Common Shares
    
Treasury Stock
    
Additional
Paid-In
Capital
    
Accumulated Other
Comprehensive
Loss
    
Accumulated
Deficit
    
Noncontrolling
Interests
    
Total
  
                                     
   
Shares
    
Amount
    
Shares
    
Amount
    
Shares
    
Amount
  
Balance June 30, 2018
    
8,711,972
    
$
87
      
7,923,290
    
$
79
      
-
    
$
-
    
$
73,794
    
$
(2,119
)
  
$
(22,944
)
  
$
31,922
    
$
80,819
  
Conversion of Class B common stock into Class A common stock
    
104,645
      
1
      
(104,645
)
    
(1
)
    
-
      
-
      
-
      
-
      
-
      
-
      
-
  
Issuance of Class A common stock under ATM, net of issuance costs
    
209,370
      
2
      
-
      
-
      
-
      
-
      
3,166
      
-
      
-
      
-
      
3,168
  
SDI restricted stock vesting
    
5,654
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
  
Unrecognized pension and postretirement cost adjustment, net of tax of $3
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
5
      
-
      
5
      
10
  
Unrealized loss on investments, net of tax of $69
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(271
)
    
-
      
(114
)
    
(385
)
Unrealized loss on interest rate swaps, net of tax of $70
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(118
)
    
-
      
(115
)
    
(233
)
SDI stock-based compensation
    
-
      
-
      
-
      
-
      
-
      
-
      
179
      
-
      
-
      
-
      
179
  
Impact of Turning Point equity transactions on APIC and NCI
    
-
      
-
      
-
      
-
      
-
      
-
      
2,199
      
-
      
-
      
2,983
      
5,182
  
Turning Point dividend payable to noncontrolling interests
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(394
)
    
(394
)
Net income
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
1,367
      
3,924
      
5,291
  
Balance September 30, 2018
    
9,031,641
    
$
90
      
7,818,645
    
$
78
      
-
    
$
-
    
$
79,338
    
$
(2,503
)
  
$
(21,577
)
  
$
38,211
    
$
93,637
  

   
Nine Months Ended September 30, 2018
  
   
Class A Common Shares
    
Class B Common Shares
    
Treasury Stock
    
Additional
Paid-In
Capital
    
Accumulated Other
Comprehensive
Loss
    
Accumulated
Deficit
    
Noncontrolling
Interests
    
Total
  
                                     
   
Shares
    
Amount
    
Shares
    
Amount
    
Shares
    
Amount
  
Balance December 31, 2017
    
8,348,373
    
$
83
      
8,041,525
    
$
81
      
-
    
$
-
    
$
70,813
    
$
(1,558
)
  
$
(26,982
)
  
$
26,004
    
$
68,441
  
Conversion of Class B common stock into Class A common stock
    
222,880
      
3
      
(222,880
)
    
(3
)
    
-
      
-
      
-
      
-
      
-
      
-
      
-
  
Issuance of Class A common stock in private placement, net of issuance costs
    
181,825
      
2
      
-
      
-
      
-
      
-
      
1,978
      
-
      
-
      
-
      
1,980
  
Issuance of Class A common stock under ATM, net of issuance costs
    
209,370
      
2
      
-
      
-
      
-
      
-
      
3,166
      
-
      
-
      
-
      
3,168
  
Issuance of Class A common stock in asset purchase
    
22,727
      
-
      
-
      
-
      
-
      
-
      
250
      
-
      
-
      
-
      
250
  
SDI restricted stock vesting
    
46,466
      
-
      
-
      
-
      
-
      
-
      
(216
)
    
-
      
-
      
-
      
(216
)
Unrecognized pension and postretirement cost adjustment, net of tax of $85
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
160
      
-
      
154
      
314
  
Unrealized loss on investments, net of tax of $173
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(960
)
    
-
      
(362
)
    
(1,322
)
Unrealized loss on interest rate swaps, net of tax of $92
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(157
)
    
-
      
(151
)
    
(308
)
SDI stock-based compensation
    
-
      
-
      
-
      
-
      
-
      
-
      
680
      
-
      
-
      
-
      
680
  
Impact of Turning Point equity transactions on APIC and NCI
    
-
      
-
      
-
      
-
      
-
      
-
      
2,667
      
-
      
-
      
3,768
      
6,435
  
Turning Point dividend payable to noncontrolling interests
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
(1,164
)
    
(1,164
)
Impact of adoption of ASU 2018-02
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
12
      
(12
)
    
-
      
-
  
Net income
    
-
      
-
      
-
      
-
      
-
      
-
      
-
      
-
      
5,417
      
9,962
      
15,379
  
Balance September 30, 2018
    
9,031,641
    
$
90
      
7,818,645
    
$
78
      
-
    
$
-
    
$
79,338
    
$
(2,503
)
  
$
(21,577
)
  
$
38,211
    
$
93,637
  

The accompanying notes are an integral part of the condensed consolidated financial statements

Standard Diversified Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(dollars in thousands)
(unaudited)

   
Nine Months Ended September 30,
  
   
2019
    
2018
  
Cash flows from operating activities:
            
Net income
  
$
10,626
    
$
15,379
  
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
                
Loss on extinguishment of debt
    
2,267
      
2,384
  
Gain on disposal of property, plant and equipment
    
(12
)
    
-
  
Depreciation expense
    
2,893
      
2,497
  
Amortization of deferred financing costs and debt discount
    
1,416
      
1,048
  
Amortization of other intangible assets
    
1,304
      
755
  
Deferred income taxes
    
(424
)
    
2,806
  
Impairment loss on goodwill and other intangible assets
    
2,826
      
-
  
Stock-based compensation expense
    
3,012
      
1,586
  
Changes in operating assets and liabilities:
                
Accounts receivable
    
(3,882
)
    
(3,564
)
Inventories
    
(6,704
)
    
(18,840
)
Other current assets
    
(996
)
    
(3,300
)
Other assets
    
144
      
(2,310
)
Accounts payable
    
953
      
4,692
  
Accrued postretirement liabilities
    
(125
)
    
(107
)
Accrued liabilities and other
    
(4,803
)
    
(5,971
)
Premiums receivable
    
2,774
      
795
  
Deferred policy acquisition costs
    
810
      
(2,384
)
Reserves for losses and loss adjustment expenses
    
(899
)
    
(5,475
)
Unearned and advance premiums
    
(4,511
)
    
244
  
Net cash provided by (used in) operating activities
    
6,669
      
(9,765
)
                 
Cash flows from investing activities:
                
Acquisitions, net of cash acquired
    
(8,323
)
    
(16,991
)
Capital expenditures
    
(4,117
)
    
(1,591
)
Proceeds from sale and maturity of fixed maturity securities, available-for-sale
    
15,908
      
3,339
  
Payments for purchases of fixed maturity securities, available-for-sale
    
(9,435
)
    
(12,510
)
Payments for purchases of equity securities
    
(1,700
)
    
(753
)
Restricted cash, MSA escrow deposits
    
29,713
      
(2,234
)
Proceeds from sale of property, plant, and equipment
    
117
      
-
  
Issuance of note receivable
    
-
      
(6,500
)
Receipt of note receivable repayment including prepayment penalty
    
-
      
7,475
  
Net cash provided by (used in) investing activities
    
22,163
      
(29,765
)

The accompanying notes are an integral part of the condensed consolidated financial statements

Standard Diversified Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows (Continued)
(dollars in thousands)
(unaudited)

   
Nine Months Ended September 30,
  
   
2019
    
2018
  
Cash flows from financing activities:
            
Payments of 2018 first lien term loan
    
(6,000
)
    
-
  
Payments of 2018 second lien term loan
    
(40,000
)
    
-
  
Payments of 2018 revolving credit facility
    
(26,000
)
    
-
  
Payments of Standard Outdoor promissory note
    
(1,366
)
    
-
  
Payments of Crystal term loan
    
(15,000
)
    
-
  
Proceeds from 2018 first lien term loan
    
-
      
156,000
  
Proceeds from 2018 second lien term loan
    
-
      
40,000
  
Proceeds from 2018 revolving credit facility
    
-
      
30,000
  
Proceeds from borrowings under SDI credit facility, net
    
-
      
14,113
  
Proceeds from GACP term loan
    
25,000
      
-
  
Proceeds from Convertible Senior Notes
    
172,500
      
-
  
Payments of 2017 second lien term loans, net
    
-
      
(55,000
)
Payments of financing costs
    
(7,899
)
    
(3,286
)
Payments of 2017 revolving credit facility, net
    
-
      
(8,000
)
Payment to terminate acquired capital lease
    
-
      
(170
)
Payments of 2017 first lien term loan
    
-
      
(140,613
)
Turning Point Brands exercise of stock options
    
639
      
779
  
Turning Point Brands payments for call options
    
(20,528
)
    
-
  
Turning Point Brands redemption of stock options
    
(12
)
    
(623
)
Turning Point Brands surrender of restricted stock
    
(84
)
    
-
  
Proceeds from issuance of SDI stock
    
-
      
5,148
  
Turning Point Brands dividend to noncontrolling interests
    
(1,317
)
    
-
  
Repurchase of SDI common shares
    
(2,570
)
    
-
  
Payments of Vapor Beast Note Payable and Vapor Shark loans
    
-
      
(2,000
)
Proceeds from release of restricted funds
    
-
      
1,107
  
Share repurchase for tax withholdings on vesting of restricted stock
    
(336
)
    
(216
)
Payment of cash dividends
    
-
      
(749
)
Net cash provided by financing activities
    
77,027
      
36,490
  
                 
Net increase (decrease) in cash
    
105,859
      
(3,040
)
                 
Cash, beginning of period
                
Unrestricted
    
21,201
      
18,219
  
Restricted
    
2,361
      
4,709
  
Total cash at beginning of period
    
23,562
      
22,928
  
                 
Cash, end of period
                
Unrestricted
    
97,347
      
18,520
  
Restricted
    
32,074
      
1,368
  
Total cash at end of period
  
$
129,421
    
$
19,888
  
                 
Supplemental schedule of noncash investing activities:
                
Turning Point hold back for acquisition
  
$
265
    
$
-
  
                 
Supplemental schedule of noncash financing activities:
                
Turning Point dividend to noncontrolling interests declared not paid
  
$
448
    
$
389
  
Accrued expenses incurred for financing costs
  
$
123
    
$
-
  
Issuance of SDI shares in business combination
  
$
-
    
$
5,542
  
Turning Point issuance of note payable for acquisition
  
$
-
    
$
4,000
  

The accompanying notes are an integral part of the condensed consolidated financial statements

Standard Diversified Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except where designated and per share data)
(unaudited)

Note 1. Organization and Description of Business

The accompanying condensed consolidated financial statements include the results of operations of Standard Diversified Inc. (“SDI”), a holding company, and its consolidated subsidiaries (collectively, “the Company”). SDI (f/k/a Standard Diversified Opportunities Inc., Special Diversified Opportunities Inc. and Strategic Diagnostics Inc.) was incorporated in the State of Delaware in 1990, and, until 2013, engaged in bio-services and industrial bio-detection (collectively, the “Life Sciences Business”). On July 12, 2013, SDI sold substantially all of its rights, title and interest in substantially all of its non-cash assets related to the Life Sciences Business and became a “shell company,” as such term is defined in Rule 12b-2 promulgated under the Securities Exchange Act of 1934, as amended.

On June 1, 2017, SDI consummated a Contribution and Exchange Transaction (the “Contribution and Exchange”) to acquire a 52.1% controlling interest in Turning Point Brands, Inc. (“Turning Point”). The transaction was accounted for as a recapitalization or reverse acquisition. As of September 30, 2019, SDI has a 50.1% ownership interest in Turning Point. As a result of the consummation of the Contribution and Exchange, SDI is no longer a shell company.

Note 2. Summary of Significant Accounting Policies

Basis of Presentation and Principles of Consolidation

SDI is a holding company and its condensed consolidated financial statements include Turning Point and its subsidiaries, Pillar General Inc. (“Pillar General”) and its subsidiaries, and Standard Outdoor LLC (“Standard Outdoor”) and its subsidiaries.

Turning Point is also a holding company which owns North Atlantic Trading Company, Inc. (“NATC”), and its subsidiaries and Turning Point Brands, LLC (“TPLLC”), and its subsidiaries and Turning Point Brands (Canada), Inc. (“TPBC”). Except where the context indicates otherwise, references to Turning Point include Turning Point; NATC and its subsidiaries National Tobacco Company, L.P. (“NTC”), National Tobacco Finance, LLC (“NTFLLC”), North Atlantic Operating Company, Inc. (“NAOC”), North Atlantic Cigarette Company, Inc. (“NACC”), and RBJ Sales, Inc. (“RBJ”); and TPLLC and its subsidiaries Intrepid Brands, LLC (“Intrepid”), Vapor Beast, LLC (“VaporBeast,” f/k/a Smoke Free Technologies, Inc.), Vapor Shark, LLC, and its subsidiaries (collectively, “Vapor Shark,” f/k/a The Hand Media), Vapor Acquisitions Company, LLC (“Vapor Supply”), Vapor Finance, LLC (“VFIN”), International Vapor Group, LLC and its subsidiaries (collectively, “IVG”) and Nu-X Ventures, LLC (“Nu-X”).

Pillar General, a wholly-owned subsidiary of the Company as of January 2, 2018, owns 100% of Interboro Holdings, Inc. which is a holding company and includes the accounts of its wholly-owned subsidiaries (collectively, “Interboro”) which consist of Interboro Management, Inc., Maidstone Insurance Company (“Maidstone”), formerly known as AutoOne Insurance Company and AIM Insurance Agency Inc. Maidstone is domiciled in the State of New York and is a property and casualty insurance company which provides automobile insurance.

Standard Outdoor, a wholly-owned subsidiary of the Company, and its subsidiaries, consists of Standard Outdoor Southeast I LLC, Standard Outdoor Southeast II LLC and Standard Outdoor Southwest LLC. Standard Outdoor is an out-of-home advertising business with billboard structures located in Texas, Alabama, Georgia and Florida.

The unaudited condensed consolidated financial statements presented herein have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, the financial statements do not include all of the information and notes required by GAAP for complete financial statements. In the opinion of management, all adjustments, including normal recurring adjustments, considered necessary for a fair statement of the financial statements have been included. Operating results for the three and nine months ended September 30, 2019 are not necessarily indicative of the results that may be expected for the year ending December 31, 2019.

The unaudited condensed consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany transactions have been eliminated.

Certain prior years’ amounts have been reclassified to conform to the current year’s presentation. The changes did not have an impact on the Company’s consolidated results of operations or cash flows in any of the periods presented.

Noncontrolling Interests

These condensed consolidated financial statements reflect the application of Accounting Standards Codification (“ASC”) Topic 810, Consolidations, which establishes accounting and reporting standards that require: (i) the ownership interest in subsidiaries held by parties other than the parent to be clearly identified and presented in the consolidated balance sheet within shareholder’s equity, but separate from the parent’s equity; (ii) the amount of consolidated net income (loss) attributable to the parent and the noncontrolling interest to be clearly identified and presented on the face of the consolidated statements of income (loss); and (iii) changes in a parent’s ownership interest while the parent retains its controlling financial interest in its subsidiary to be accounted for consistently.

SDI acquired a 52.1% interest in Turning Point on June 1, 2017 through the Contribution and Exchange. Amounts pertaining to the noncontrolling ownership interest held by third parties in the financial position and operating results of Turning Point are reported as noncontrolling interests in the accompanying condensed consolidated financial statements.

Use of Estimates

The preparation of the condensed consolidated financial statements requires the management of the Company to make a number of estimates and assumptions relating to the reported amount of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the condensed consolidated financial statements and the reported amounts of expenses during the period. The Company’s significant estimates include but are not limited to those affecting the valuation of goodwill and other intangible assets, the adequacy of the Company’s insurance reserves, assumptions used in determining pension and postretirement benefit obligations and deferred income tax valuation allowances. Actual results could differ from those estimates.

Revenue Recognition

Turning Point

Turning Point recognizes revenues, net of sales incentives and sales returns, including shipping and handling charges billed to customers, upon delivery of goods to the customer at an amount that Turning Point expects to be entitled to in exchange for those goods in accordance with the five-step analysis outlined in Revenue from Contracts with Customers (Topic 606): (i) identify the contract with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations, and (v) recognize revenue when (or as) performance obligations are satisfied.

Topic 606 requires entities to disaggregate revenue recognized from contracts with customers into categories that depict how the nature, amount, timing, and uncertainty of revenue and cash flows are affected by economic factors. Turning Point’s management views business performance through segments that closely resemble the performance of major product lines. Thus, the primary and most useful disaggregation of Turning Point’s contract revenue for decision making purposes is the disaggregation by segment which can be found in Note 23, “Segment Information,” along with an additional disaggregation of contract revenue by sales channel.

Standard Outdoor

The Company’s out-of-home advertising revenues are primarily derived from providing advertising space to customers on its physical billboards or other outdoor structures. Standard Outdoor generally (i) owns the physical structures on which it displays advertising copy for customers, (ii) holds the legal permits to display advertising thereon, and (iii) leases the underlying sites. As of January 1, 2019, billboard display revenues are recognized under ASC 842, the lease accounting standard, as rental income on a straight-line basis over the customer lease term.

Maidstone

Maidstone recognizes revenues from insurance contracts, including premiums and fees, under the guidance in ASC 944, Financial Services-Insurance Premiums. Maidstone’s premiums, which are recorded at the policy inception, are earned pro rata over the period for which the coverage is provided, generally nine months for auto policies. Unearned premiums represent the portion of premiums written that are applicable to the unexpired terms of policies in force. Premiums ceded to other companies pursuant to reinsurance agreements have been reported as a reduction to premiums earned. Take-out fees are received by Maidstone in the form of credits when it writes business from the state assigned pool. These credits can be used by Maidstone to reduce the amount of business it writes from the assigned pool in the future or they can be sold to third-party insurance companies for them to reduce their exposure to the assigned risk pool. Maidstone collects other miscellaneous fees such as installment and late fees. Broker fee income is received from non-affiliated insurance companies for which Maidstone’s management acts as an agent to sell their state mandated obligations for assigned risks. These fees are shown as other income in the Company’s condensed consolidated statements of income (loss).

Shipping Costs

The Company records shipping costs incurred as a component of selling, general and administrative expenses. Shipping costs incurred were approximately $4.4 million and $3.8 million for the three months ended September 30, 2019 and 2018, respectively. Shipping costs incurred were approximately $13.6 million and $10.5 million for the nine months ended September 30, 2019 and 2018, respectively.

Fair Value

GAAP establishes a framework for measuring fair value. That framework provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3).

The three levels of the fair value hierarchy under GAAP are described below:

Level 1 – Inputs to the valuation methodology are unadjusted quoted prices for identical assets or liabilities in active markets at the measurement date.

Level 2 – Inputs to the valuation methodology include: quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in inactive markets; inputs other than quoted prices that are observable for the asset or liability; and inputs that are derived principally from or corroborated by observable market data by correlation or other means.

Level 3 – Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date.

Derivative Instruments

Foreign Currency Forward Contracts: Turning Point enters into foreign currency forward contracts to hedge a portion of its exposure to changes in foreign currency exchange rates on inventory purchase commitments. Turning Point accounts for its forward contracts under the provisions of ASC 815, Derivatives and Hedging. Under Turning Point’s policy, Turning Point may hedge up to 100% of its anticipated purchases of inventory in the denominated invoice currency over a forward period not to exceed twelve months. Turning Point may also, from time to time, hedge up to ninety percent of its non-inventory purchases in the denominated invoice currency. Forward contracts that qualify as hedges are adjusted to their fair value through other comprehensive income as determined by market prices on the measurement date, except any hedge ineffectiveness which is recognized currently in income. Gains and losses on these forward contracts are transferred from other comprehensive income into net income as the related inventories are received. Changes in fair value of any contracts that do not qualify for hedge accounting or are not designated as hedges are recognized currently in income.

Interest Rate Swap Agreements: Turning Point enters into interest rate swap contracts to manage interest rate risk and reduce the volatility of future cash flows. Turning Point accounts for its interest rate swap contracts under the provisions of ASC 815, Derivatives and Hedging. Swap contracts that qualify as hedges are adjusted to their fair value through other comprehensive income as determined by market prices on the measurement date, except any hedge ineffectiveness which is recognized currently in income. Gains and losses on these swap contracts are transferred from other comprehensive income into net income upon settlement of the derivative position or at maturity of the interest rate swap contract. Changes in fair value of any contracts that do not qualify for hedge accounting or are not designated as hedges are recognized currently in income.

Risks and Uncertainties

Manufacturers and sellers of tobacco products are subject to regulation at the federal, state, and local levels. Such regulations include, among others, labeling requirements, limitations on advertising, and prohibition of sales to minors. The tobacco industry is likely to continue to be heavily regulated. There can be no assurance as to the ultimate content, timing, or effect of any regulation of tobacco products by any federal, state, or local legislative or regulatory body, nor can there be any assurance that any such legislation or regulation would not have a material adverse effect on the Company’s financial position, results of operations, or cash flows. Recently, several state governors have reacted to perceived issues around nicotine vapor products by unilaterally, without regard to the legislative process, proclaiming bans on vapor products, particularly those that are flavored. Many of these executive actions have been challenged and temporarily restrained, but no assurance can be given that such state or local flavor bans will not be enacted or ultimately upheld. Depending on the number and location of such bans, that legislation or regulation could have a material adverse effect on Turning Point’s financial position, results of operations or cash flows. Food and Drug Administration (“FDA”) and the White House have also stated that they are considering a flavor “ban” of some sort, however the details, timing, and ultimate implementation of such a proposal remain unclear.

The tobacco industry has experienced, and is experiencing, significant product liability litigation. Most tobacco liability lawsuits have been brought against manufacturers and sellers of cigarettes for injuries allegedly caused by smoking or exposure to smoke. However, several lawsuits have been brought against manufacturers and sellers of smokeless products for injuries to health allegedly caused by use of smokeless products. Typically, such claims assert that use of smokeless products is addictive and causes oral cancer. Additionally, several lawsuits have been brought against manufacturers and distributors of NewGen products due to malfunctioning devices. There can be no assurance Turning Point will not sustain losses in connection with such lawsuits and that such losses will not have a material adverse effect on Turning Point’s financial position, results of operations, or cash flows.

Master Settlement Agreement

Pursuant to the Master Settlement Agreement (the “MSA”) entered into in November 1998 by most states (represented by their attorneys general acting through the National Association of Attorneys General) and subsequent states’ statutes, a “cigarette manufacturer” (which is defined to include a manufacturer of make-your-own (“MYO”) cigarette tobacco) has the option of either becoming a signatory to the MSA or opening, funding, and maintaining an escrow account to have funds available for certain potential tobacco-related liabilities, with sub-accounts on behalf of each settling state. Such companies are entitled to direct the investment of the escrowed funds and withdraw any appreciation, but cannot withdraw the principal for twenty-five years from the year of each annual deposit, except to withdraw funds deposited pursuant to an individual state’s escrow statute to pay a final judgement to that state’s plaintiffs in the event of such a final judgement against Turning Point. Turning Point chose to open and fund an escrow account as its method of compliance. It is Turning Point’s policy to record amounts on deposit in the escrow account for prior years as a non-current asset. Each year’s annual obligation is required to be deposited in the escrow account by April 15 of the following year. In addition to the annual deposit, many states have elected to require quarterly deposits for the previous quarter’s sales. As of September 30, 2019, Turning Point had on deposit approximately $32.1 million, the fair value of which was approximately $32.1 million. At December 31, 2018, Turning Point had on deposit approximately $32.1 million, the fair value of which was approximately $30.6 million. Effective in the third quarter of 2017, Turning Point no longer sells any product covered under the MSA. Thus, absent a change in legislation, Turning Point will no longer be required to make deposits to the MSA escrow account.

Turning Point may invest a portion of the MSA escrow deposits in U.S. Government securities including Treasury Inflation-Protected Securities, Treasury Notes, and Treasury Bonds. These investments are classified as available-for-sale and carried at fair value. Realized losses are prohibited under the MSA; any investment in an unrealized loss position will be held until the value is recovered, or until maturity. The following shows the fair value of the MSA escrow account as of:
 
   
September 30, 2019
    
December 31, 2018
  
(In thousands)
  
Cost and
Estimated Fair
Value
    
Cost
    
Gross
Unrealized
Gains
    
Gross
Unrealized
Losses
    
Estimated
Fair
Value
  
Cash and cash equivalents
  
$
32,074
    
$
2,361
    
$
-
    
$
-
    
$
2,361
  
Fair value level 2: U.S. Governmental agency obligations (unrealized gain position < 12 months)
    
-
      
1,193
      
9
      
-
      
1,202
  
Fair value level 2: U.S. Governmental agency obligations (unrealized loss position < 12 months)
    
-
      
1,000
      
-
      
(3
)
    
997
  
Fair value level 2: U.S. Governmental agency obligations (unrealized loss position > 12 months)
    
-
      
27,519
      
-
      
(1,529
)
    
25,990
  
   
$
32,074
    
$
32,073
    
$
9
    
$
(1,532
)
  
$
30,550
  
 
Fair value for the U.S. Governmental agency obligations are Level 2. The following schedule shows the maturities of the U.S. Governmental agency obligations as of:

(In thousands)
  
December 31, 2018
  
Less than one year
  
$
1,499
  
One to five years
    
13,591
  
Five to ten years
    
11,152
  
Greater than ten years
    
3,470
  
Total U.S. Governmental agency obligations
  
$
29,712
  

The following shows the amount of deposits by sales year for the MSA escrow account:

(Dollar amounts in thousands)
  
Deposits as of
  
 Sales Year
  
September 30, 2019
    
December 31, 2018
  
1999
  
$
211
    
$
211
  
2000
    
1,017
      
1,017
  
2001
    
1,673
      
1,673
  
2002
    
2,271
      
2,271
  
2003
    
4,249
      
4,249
  
2004
    
3,714
      
3,714
  
2005
    
4,553
      
4,552
  
2006
    
3,847
      
3,847
  
2007
    
4,167
      
4,167
  
2008
    
3,364
      
3,364
  
2009
    
1,619
      
1,619
  
2010
    
406
      
406
  
2011
    
193
      
193
  
2012
    
199
      
199
  
2013
    
173
      
173
  
2014
    
143
      
143
  
2015
    
101
      
101
  
2016
    
91
      
91
  
2017
    
83
      
83
  
Total
  
$
32,074
    
$
32,073
  

Food and Drug Administration

On June 22, 2009, the Family Smoking Prevention and Tobacco Control Act (“FSPTCA”) authorized the Food and Drug Administration (“FDA”) to immediately regulate the manufacturing, sale, and marketing of four categories of tobacco products – cigarettes, cigarette tobacco, roll-your-own tobacco, and smokeless tobacco. On August 8, 2016, the FDA deeming regulation became effective. The deeming regulations gave the FDA the authority to additionally regulate cigars, pipe tobacco, electronic cigarettes (“e-cigarettes”), vaporizers, and e-liquids as “deemed” tobacco products under the FSPTCA.

The FDA assesses tobacco product user fees on six classes of regulated tobacco products and computes user fees using a methodology similar to the methodology used by the U.S. Department of Agriculture to compute the Tobacco Transition Payment Program (“TTPP,” also known as the “Tobacco Buyout”) assessment. First, the total, annual, congressionally established user fee assessment is allocated among the various classes of tobacco products using the federal excise tax weighted market share of tobacco products subject to regulation. Then, the assessment for each class of tobacco products is divided among individual manufacturers and importers.

In August 2016, the FDA’s regulatory authority under the Tobacco Control Act (the “TCA”) was extended to all tobacco products not previously covered, including: (i) certain NewGen products (such as electronic cigarettes, vaporizers and e-liquids) and their components or parts (such as tanks, coils and batteries); (ii) cigars and their components or parts (such as cigar tobacco); (iii) pipe tobacco; (iv) hookah products; and (v) any other tobacco product “newly deemed” by the FDA. These “deeming regulations” apply to all products made or derived from tobacco intended for human consumption, but excluding accessories of tobacco products (such as lighters). Accordingly, the FDA has since regulated Turning Point’s pipe tobacco, cigar, and cigar wrap products as well as its vapor products containing tobacco-derived nicotine and products intended or reasonably expected to be used to consume such e-liquids.

Under the deeming regulations, the FDA has responsibility for conducting premarket review of “new tobacco products”— defined as those products not commercially marketed in the United States as of February 15, 2007. There are three pathways for obtaining premarket authorization, including submission of a premarket tobacco product application (“PMTA”).

When the FDA initially issued the deeming regulations, it recognized that many products in the deemed categories that were already on the market qualified as “new tobacco products” and lacked a marketing order. In August 2017, the FDA issued a compliance policy (the “August 2017 Guidance”) that allowed new tobacco products to remain on the market without an FDA authorization until specified deadlines had passed. Under the August 2017 Guidance, compliance dates vary depending upon the type of application submitted, but all newly-deemed products require an application no later than August 8, 2021, for “combustible” products (e.g. cigar and pipe), and August 8, 2022, for “non-combustible” products (e.g. vapor products) with the exception of “grandfathered” products (products in commerce as of February 15, 2007) which are already authorized.

On March 27, 2018, several public health organizations filed a lawsuit challenging the August 2017 Guidance.  The plaintiffs asserted, among other arguments, that the modification to the deeming regulations included in the August 2017 Guidance conflicts with the TCA and exceeds FDA’s statutory authority. The plaintiffs also expressed concern that the August 2017 Guidance allows vapor products to remain marketed for a significant period of time without required premarket review.

The court found in favor of the plaintiffs in May 2019 and vacated the August 2017 Guidance. On July 12, 2019, the court issued its remedy order (the “Remedy Order”). Specifically, the court ordered that: (1) for all deemed new tobacco products, marketers must file applications within 10 months of the Remedy Order to continue marketing such products; (2) such a product may remain on the market pending FDA review of a timely filed application for a period not to exceed one year from the date of the application’s submission; (3) in its discretion, the FDA may enforce the premarket review requirements against such products for which marketers do not file applications within 10 months; and (4) the FDA will have the ability to exempt deemed new tobacco products from these application submission requirements for good cause, on a case-by-case basis. On October 24, 2019, FDA filed a Notice of Appeal from the Remedy Order and other actions adverse to FDA.

Currently, the deadline to submit an application and to continue marketing a deemed new product remains May 12, 2020. This court-ordered modification to the compliance policy remains subject to change as a result of potential appeals, litigation brought or pending in other venues, or FDA’s finalization of the March 2019 Draft Guidance.

On September 11, 2019, President Donald Trump and the Department of Health and Human Services Secretary, Alex Azar, indicated FDA would adopt a regulatory policy restricting all flavors in vapor products. FDA has not yet adopted such policy, and the timing of the policy is not certain. The details of such a policy area not yet known; however, such a policy could significantly impact our products and our plans for PMTA filings.

Should the Remedy Order stand, Turning Point would not be permitted to continue marketing its existing line of vapor products that the FDA regulates as tobacco products past May 12, 2020, unless it files an application for each such product by that date. Turning Point expects to be able to make appropriate PMTA applications by the deadlines and to supplement and complete the applications within FDA’s discretionary timeline. A successful PMTA must demonstrate that the subject product is “appropriate for the protection of public health,” taking into account the effect of the marketing of the product on all sub-populations. On September 25, 2019, FDA published a proposed rule outlining certain required elements of PMTA filings. This rule is not yet final, and its requirements may shift before being finalized. Turning Point believe products that meet the requisite standard and that we will be able to efficiently produce satisfactory PMTA filings. However, there is no assurance that the FDA’s guidance or ultimate regulation will not change, the Remedy Order will not be altered or that unforeseen circumstances will not arise that prevent Turning Point from filing applications or otherwise increase the amount of time and money it is required to spend to successfully file all necessary PMTAs. Even if Turning Point successfully files all of its PMTAs in a timely manner, no assurance can be given that the applications will ultimately be successful. Given the shorter time frame mandated by the Remedy Order, which if not amended or successfully appealed may result in the prioritization of meeting requisite deadlines by selecting high priority SKUs, Turning Point’s inventory position, and future revenues may be adversely impacted.

In addition, Turning Point currently distributes many third-party manufactured vapor products for which it will be completely dependent on the manufacturer complying with the requirements of the deeming regulations generally and the Remedy Order more specifically. There can be no assurances that some products that Turning Point currently distribute will be able to be sold to end consumers after May 2020. While Turning Point will take measures to pursue regulatory compliance for its own privately-branded or proprietary vape products that compete with these third-party products, there is no assurance that such proprietary products would be as successful in the marketplace or can fully displace third-party products that are currently being distributed by Turning Point, which could adversely affect its results of operations and liquidity.

Stock-Based Compensation
 
The Company accounts for stock-based compensation using the fair value method, which requires that compensation costs related to employee share-based payment transactions are measured in the financial statements at the fair value on the date of grant and are recognized over the vesting period of the award.

Fixed Maturity Securities

Investments in fixed maturity securities including bonds, loan-backed and structured securities are classified as available-for-sale and reported at fair value. Significant changes in prevailing interest rates and other economic conditions may adversely affect the timing and amount of cash flows on fixed income investments, as well as their related fair values. Fixed maturities are recorded on a trade date basis. Amortization of bond premium and accretion of bond discount are calculated using the scientific method. Changes in fair values of these securities, after deferred income tax effects, are reflected as unrealized gains or losses in accumulated other comprehensive income (loss). Realized gains and losses from the sale of investments are calculated as of the trade date in the consolidated statements of operations and comprehensive loss and are based upon the specific identification of securities sold. Investment income consists of interest and is reported net of investment expenses. Prepayment assumptions are considered when determining the amortization of discount or premium for loan-backed and structured securities.

An investment is considered impaired when the fair value of the investment is less than its cost or amortized cost. When an investment is impaired, the Company must make a determination as to whether the impairment is other than temporary (“OTTI”).

With respect to an investment in an impaired fixed maturity security, OTTI occurs if the Company (a) intends to sell the fixed maturity security, (b) more likely than not will be required to sell the fixed maturity security before its anticipated recovery, or (c) it is probable that the Company will be unable to collect all amounts due to the recovery of the entire cost basis of the security. The Company conducts a periodic review to identify and evaluate securities having OTTI, which include the above factors as well as the following: (1) the likelihood of the recoverability of principal and interest for fixed maturity securities (i.e., whether there is a credit loss); (2) the length of time and extent to which the fair value has been less than amortized cost for fixed maturity securities; and (3) the financial condition, near term and long-term prospects for the issuer, including the relevant industry conditions and trends, and implications of rating agency actions and offering prices. If the Company intends to sell the fixed maturity security or will more likely than not be required to sell the fixed maturity security before the anticipated recovery, a loss in the entire amount of the impairment is reflected in net investment gains (losses) in net income (loss). If the Company determines that it is probable it will be unable to collect all amounts and the Company has no intent to sell the fixed maturity security, a credit loss is recognized in net investment gains (losses)  in net income (loss) to the extent that the present value of expected cash flows is less than the amortized cost basis; any difference between fair value and the new amortized cost basis (net of the credit loss) is reflected in other comprehensive income (losses), net of applicable income taxes.

Upon recognizing an OTTI, the new cost basis of the security is the previous amortized cost basis less the OTTI recognized in net investment gains (losses). The new cost basis is not adjusted for any subsequent recoveries in fair value; however, for fixed maturity securities, the difference between the new cost basis and expected cash flows is accreted to net investment gains (losses) over the remaining expected life of the investment.

Deferred Policy Acquisition Costs

Policy acquisition costs, which vary with and are directly related to the production of successful new business, are deferred. The costs deferred consist principally of commissions and policy issuance costs and are amortized into expense as the related premiums are earned.

 
(In thousands)
  
Nine Months Ended
September 30, 2019
    
Period from January 2,
2018 to September 30,
2018
  
DAC asset at beginning of period
  
$
2,279
    
$
-
  
Deferred expenses
    
2,781
      
3,950
  
Amortized expenses
    
(3,592
)
    
(1,566
)
DAC asset at end of period
  
$
1,468
    
$
2,384
  

The Company, utilizing assumptions for future expected claims, premium rate increases and interest rates, reviews the recoverability of its deferred policy acquisition costs (“DAC”) on a periodic basis. If the Company determines that the future gross profits of its in-force policies are not sufficient to recover its DAC, the Company recognizes a premium deficiency by charging any unamortized acquisition costs to expense to the extent required in order to eliminate the deficiency. If the premium deficiency exceeds the unamortized acquisition costs, then a liability is accrued for the excess deficiency. The Company anticipates investment income as a factor in its premium deficiency reserve calculation.

Incurred Losses and Loss Adjustment Expenses

Incurred losses and loss adjustment expenses (“LAE”) are charged to operations as incurred. The liability for losses and LAE is based upon individual case estimates for reported claims and a factor for incurred but not reported (“IBNR”) claims. Losses, LAE and related liabilities are reported net of estimated salvage and subrogation. Inherent in the estimate of ultimate losses and LAE are expected trends in claim severity and frequency and other factors which may vary significantly as claims are settled. Management believes that its aggregate provisions for losses and LAE as of September 30, 2019 and December 31, 2018 were reasonable and adequate to meet the ultimate net cost of covered losses, but such provisions are necessarily based on estimates and the ultimate net cost may vary significantly from such estimates. As adjustments to these estimates become necessary, such adjustments are reflected in current operations.

Recent Accounting Pronouncements Adopted

Effective January 1, 2019, the Company adopted Accounting Standards Update (“ASU”) No. 2016-02, "Leases." This ASU requires substantially all leases be recorded on the balance sheet as right of use assets and lease obligations. The Company adopted the ASU using a retrospective adoption method at January 1, 2019, as outlined in ASU No. 2018-11, "Leases - Targeted Improvements." Under this method of adoption, there is no impact to the comparative consolidated statement of income (loss) and consolidated balance sheet. The Company determined that there was no cumulative-effect adjustment to beginning retained earnings on the consolidated balance sheet. The Company will continue to report periods prior to January 1, 2019 in its financial statements under prior guidance as outlined in ASC Topic 840, "Leases". In addition, the Company elected the package of practical expedients permitted under the transition guidance within the new standard, which among other things, allowed carry forward of historical lease classifications. Adoption of this standard did not materially impact the Company’s income before income taxes and had no impact on the statement of cash flows. See Note 15, “Leases” for further details.

Recent Accounting Pronouncements Not Yet Adopted

In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, that changes the impairment model for most financial assets and certain other instruments that are not measured at fair value through net income. The standard will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost and require entities to record allowances for available-for-sale debt securities rather than reduce the carrying amount, as they do today under the other-than-temporary impairment model. It also simplifies the accounting model for purchased credit-impaired debt securities and loans. Entities will apply the standard’s provisions as a cumulative effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. The guidance is effective for the Company for interim and annual periods beginning after December 15, 2019. The Company is currently evaluating the effect the adoption of this standard will have on its consolidated financial statements.

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement, which modifies certain disclosure requirements on fair value measurements in ASC 820. This ASU is effective for interim and annual periods beginning after December 15, 2019 and early adoption is permitted. The Company is currently evaluating the effect that ASU 2018-13 will have on its consolidated financial statement disclosures.

Note 3. Acquisitions

Acquisitions by SDI

Maidstone Acquisition

On January 2, 2018, the Company acquired all the outstanding capital stock of Interboro for cash consideration of $2.5 million. Under the name Maidstone Insurance Company, Maidstone offered personal automobile insurance, primarily in the state of New York.

The transaction was accounted for as a business combination under the acquisition method of accounting. Accordingly, the tangible and identifiable intangible assets acquired, and liabilities assumed were recorded at fair value as of the date of acquisition. The following table summarizes the fair values of the assets acquired and liabilities assumed as of the date of acquisition:

(In thousands)
  
At January 2, 2018
(final)
  
Fixed maturities available for sale
  
$
25,386
  
Cash and cash equivalents
    
12,795
  
Investment income due and accrued
    
203
  
Premiums receivable
    
7,158
  
Property, plant and equipment
    
408
  
Intangible assets
    
2,100
  
Other assets
    
615
  
Reserves for losses and loss adjustment expenses
    
(30,672
)
Unearned premiums
    
(12,784
)
Advance premium collected
    
(651
)
Deferred tax liability
    
(420
)
Other liabilities
    
(2,395
)
Total net assets acquired
    
1,743
  
Consideration exchanged
    
2,500
  
Goodwill
  
$
757
  

Standard Outdoor

On January 18, 2018, the Company, through Standard Outdoor, completed an asset acquisition consisting of 83 billboard structures located in Alabama, as well as the ground leases and advertising contracts relating to such billboard structures for consideration with a fair value of approximately $9.7 million, of which $4.0 million was paid in cash and the remainder is payable under a promissory note with a face value of $6.5 million, net of a fair value discount of $0.9 million. A principal payment of $1.0 million on the promissory note is payable January 1 of each year, beginning January 1, 2020 and ending January 1, 2022, with a $3.5 million final principal payment on January 1, 2023. The promissory note has a 5% fixed interest rate and interest is payable quarterly. The purchase price was primarily attributed to property, plant and equipment consisting of the billboard structures. In conjunction with the asset acquisition, the Company established an asset retirement obligation of $1.0 million.

On February 20, 2018, the Company, through Standard Outdoor, completed an asset acquisition consisting of 86 billboard structures located in Georgia and Florida, as well as the ground leases and advertising contracts relating to such billboard structures for consideration with a fair value of approximately $6.8 million, of which $3.2 million was paid in cash, $0.2 million was paid with the Company’s Class A common shares and the remainder is payable under a promissory note with a face value of $3.5 million, net of a fair value discount of $0.3 million. Principal payments began on March 1, 2019, with the remaining principal paid down monthly through March 1, 2022. The promissory note has a 5% fixed interest rate and interest is payable monthly, starting March 1, 2019. The purchase price was primarily attributed to property, plant and equipment consisting of the billboard structures. In conjunction with the asset acquisition, the Company established an asset retirement obligation of $1.0 million.

On May 7, 2019, the Company, through Standard Outdoor, completed an asset acquisition consisting of nine billboard structures located in Georgia, as well as the ground leases and advertising contracts relating to such billboard structures, for total consideration of $0.6 million, paid in cash. In conjunction with the asset acquisition, the Company established an asset retirement obligation of $0.1 million.

Acquisitions by Turning Point

Solace Technologies

In July 2019, Turning Point purchased the assets of E-Vape 12, Inc and Solace Technologies LLC (“Solace”) for $8.0 million in total consideration, comprised of $7.7 million in cash and $0.5 million holdback for 18 months. The holdback was adjusted for a working capital deficiency of $0.2 million. As additional consideration, Turning Point may issue, to the former owners, stock equal to $2.3 million upon the achievement of certain annual milestones, the fair value of which was $0.0 at September 30, 2019. Immediately following the acquisition, 88,582 performance based restricted stock units with a fair value of $4.6 million were issued to former owners who became employees. Solace is an innovative product development company that has grown from the creator of one of the leading vape juice brands in the industry into a leader of alternative ingredients product development. Turning Point intends to incorporate Solace’s innovative products as well as the legacy vapor products into its Nu-X Ventures development engine. As of September 30, 2019, Turning Point had not completed the accounting for the acquisition. The following purchase price and goodwill and other intangibles are based on the excess of the acquisition price over the estimated fair value of the tangible assets acquired and are based on Turning Point’s preliminary estimates:

(In thousands)
  
As of September 30, 2019
(preliminary)
  
Total consideration transferred
  
$
8,250
  
         
Adjustments to consideration transferred:
        
Cash acquired
    
(45
)
Working capital
    
(235
)
Adjusted consideration transferred
    
7,970
  
         
Assets acquired:
        
Working capital (primarily AR and inventory)
    
1,132
  
Fixed assets and other long term assets
    
414
  
Other liabilities
    
(209
)
Net assets acquired
    
1,337
  
         
Goodwill and other intangibles
  
$
6,633
  

The goodwill of $6.6 million consists of the synergies and scale expected from combining the operations and is currently deductible for tax purposes.

IVG

In September 2018, Turning Point acquired 100% of the equity interest of IVG for total consideration of $23.8 million satisfied through $14.5 million paid in cash, 153,079 shares of common stock with a fair value of $5.3 million, and a $4.0 million note payable to IVG’s former owners (“IVG Note”) which matures 18 months from the acquisition date. All principal and accrued and unpaid interest under the IVG Note is subject to indemnification obligations of the sellers pursuant to the International Vapor Group Stock Purchase Agreement dated as of September 5, 2018. The arrangement includes an additional $4.5 million of earnouts with both performance-based and service-based conditions payable to former IVG owners who became employees of Turning Point as a result of the acquisition. Such amounts will be recorded as compensation and not additional purchase price. The portion of earnout payments a recipient will receive will be calculated by reference to certain performance metrics not to exceed a two-year period as specified within the acquisition agreement. Turning Point recorded earnout expense of approximately $0.9 million within the condensed consolidated statements of income for the nine months ended September 30, 2019, based on the probability of achieving the performance conditions. No earnout expense was recorded for the three months ended September 30, 2019.

IVG markets and sells a broad array of proprietary and third-party vapor products directly to adult consumers through an online platform under brand names such as VaporFi, South Beach Smoke, and Direct-Vapor. IVG operates company-owned stores under the VaporFi brand and also operates as a franchisor to franchisee-owned stores. The acquisition of IVG adds a significant business-to-consumer distribution platform to Turning Point’s NewGen portfolio. Turning Point completed the accounting for the acquisition during the third quarter of 2019. The following purchase price and goodwill are based on the excess of the acquisition price over the fair value of the tangible and intangible assets.

(In thousands)
  
As of September 6, 2019
(final)
  
Total consideration transferred
  
$
24,292
  
Adjustments to consideration:
        
Cash acquired, net of debt assumed
    
(221
)
Working capital
    
(245
)
Adjusted consideration transferred
    
23,826
  
         
Assets acquired:
        
Working capital (primarily inventory)
    
3,218
  
Fixed assets
    
1,274
  
Intangible assets
    
7,880
  
Net assets acquired
    
12,372
  
         
Goodwill
  
$
11,454
  

The goodwill of $11.5 million consists of the synergies and scale expected from combining the operations and is currently deductible for tax purposes.

Note 4. Derivative Instruments

Foreign Currency

The Company’s policy is to manage the risks associated with foreign exchange rate movements. The policy allows hedging up to 100% of its anticipated purchases of inventory over a forward period that will not exceed 12 rolling and consecutive months. The Company may, from time to time, hedge currency for non-inventory purchases, e.g., production equipment, not to exceed 90% of the purchase price. The Company did not execute any forward contracts during the three and nine months ended September 30, 2019. The Company executed various forward contracts during the three and nine months ended September 30, 2018, none of which met hedge accounting requirements, for the purchase of €2.3 million and €14.5 million, respectively. As of September 30, 2019, and December 31, 2018, the Company had forward contracts for the purchase of €0.0 million and €1.5 million, respectively.

Interest Rate Swaps

The Company’s policy is to manage interest rate risk by reducing the volatility of future cash flows associated with debt instruments bearing interest at variable rates. In March 2018, the Company executed various interest rate swap agreements for a notional amount of $70 million with an expiration of December 2022. The swap agreements fix LIBOR at 2.755%. The swap agreements met the hedge accounting requirements; thus, any change in fair value is recorded to other comprehensive income. The Company uses the shortcut method to account for the swap agreements. The shortcut method assumes the hedge to be perfectly effective; thus, there is no ineffectiveness to be recorded in earnings. The swap agreements’ fair values as of September 30, 2019, and December 31, 2018, resulted in a liability of $3.1 million and $0.9 million, respectively, included in other long-term liabilities in the Company’s condensed consolidated balance sheets.

Note 5. Investments

Debt Securities

The Company currently classifies all of its investments in fixed maturity debt securities held by Maidstone as available-for-sale and, accordingly, they are carried at estimated fair value. The amortized cost, gross unrealized gains and losses, and fair value of investments in fixed maturity securities are as follows as of:

(In thousands)
  
Amortized Cost
    
Gross Unrealized
Gains
    
Gross Unrealized
Losses
    
Fair Value
  
September 30, 2019
                        
U.S. Treasury and U.S. Government
  
$
11,247
    
$
31
    
$
(6
)
  
$
11,272
  
U.S. Tax-exempt municipal
    
2,522
      
76
      
-
      
2,598
  
Corporate
    
7,151
      
150
      
(6
)
    
7,295
  
Mortgage and asset-backed securities
    
5,321
      
80
      
-
      
5,401
  
Total Fixed Maturity Securities
  
$
26,241
    
$
337
    
$
(12
)
  
$
26,566