News Column

UNICO AMERICAN CORP - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

August 13, 2014

General

Unico American Corporation is an insurance holding company that underwrites property and casualty insurance through its insurance company subsidiary; provides property, casualty, and health insurance through its agency subsidiaries; and provides insurance premium financing and membership association services through its other subsidiaries.

12 of 24 Total revenue for the three months ended June 30, 2014, was $7,621,768 compared to $7,763,234 for the three months ended June 30, 2013, a decrease of $141,466 (2%). Total revenue for the six months ended June 30, 2014, was $15,061,879 compared to $15,713,017 for the six months ended June 30, 2013, a decrease of $651,138 (4%). The Company had net income of $270,006 for the three months ended June 30, 2014, compared to $250,207 for the three months ended June 30, 2013, an increase of $19,799 (7%). The Company had net income of $861,789 for the six months ended June 30, 2014, compared to $258,543 for the six months ended June 30, 2013, an increase of $603,246 (233%). This overview discusses some of the relevant factors that management considers in evaluating the Company's performance, prospects, and risks. It is not all inclusive and is meant to be read in conjunction with the entirety of the management discussion and analysis, the Company's consolidated financial statements and notes thereto, and all other items contained within the report on this Form 10-Q.



Revenue and Income Generation

The Company receives its revenue primarily from earned premium derived from the insurance company operations, commission and fee income generated from the insurance agency operations, finance charges and fee income from the premium finance operations, and investment income from cash generated primarily from the insurance company operation. The insurance company operation generated approximately 90% of consolidated revenues for the three and six months ended June 30, 2014, compared to 89% of consolidated revenues for the three and six months ended June 30, 2013. The Company's remaining operations constitute a variety of specialty insurance services, each with unique characteristics and individually not material to consolidated revenues.



Insurance Company Operation

As of June 30, 2014, Crusader was licensed as an admitted insurance carrier in the states of Arizona, California, Nevada, Oregon, and Washington. Since 2004, all of Crusader's business had been written in the state of California until June 2014 when the Company also began writing business in the state of Arizona. During the three and six months ended June 30, 2014 and 2013, approximately 98% of Crusader's business was commercial multi-peril policies. In October 2013, A.M. Best Company reaffirmed Crusader's financial strength rating of A- (Excellent) and a rating outlook of "stable." A.M. Best Company also assigned Crusader an Issuer Credit Rating of a- (Excellent). The property and casualty insurance business is cyclical in nature, and the previous years have been characterized as a "soft market." The conditions of a soft market include premium rates that are stable or falling and insurance is readily available. Contrarily, "hard market" conditions occur during periods in which premium rates rise, coverage may be more difficult to find, and there is a potential for insurers' profits to increase. The Company believes that the California property and casualty insurance market has begun to transition but remains soft and intensely competitive. Premium written (before reinsurance) is a non-GAAP financial measure which is defined, under statutory accounting, as the contractually determined amount charged by the company to the policyholder for the effective period of the contract based on the expectation of risk, policy benefits, and expenses associated with the coverage provided by the terms of the policies. Premiums written is a required statutory measure designed to determine written premium production levels. Premium earned, the most directly comparable GAAP measure, represents the portion of premiums written that is recognized as income in the financial statements for the period presented and earned on a pro-rata basis over the terms of the policies. For the three months ended June 30, 2014, direct written premium as reported on the Company's statutory statement was $8,753,409 compared to $8,348,171, for the three months ended June 30, 2013, an increase of $405,238 (5%). For the six months ended June 30, 2014, direct written premium as reported on the Company's statutory statement was $16,255,156 compared to $16,184,111, for the six months ended June 30, 2013, an increase of $71,045 (0.4%).



The Company's insurance operations underwriting profitability is defined by pre-tax underwriting profit, which is calculated as net earned premium less losses and loss adjustment expenses and policy acquisition costs.

13 of 24



Crusader's underwriting profit before income taxes is as follows:

Three Months Ended June 30 Six Months Ended June 30 Increase Increase 2014 2013 (Decrease) 2014 2013 (Decrease) Net written premium $ 7,521,325$ 7,080,048$ 441,277$ 13,807,594$ 13,631,267$ 176,327 Net change in unearned premium (1,036,971 ) (322,329 ) 714,642 (934,999 ) (184,031 ) 750,968 Net premium earned 6,484,354 6,757,719 (273,365 ) 12,872,595 13,447,236 (574,641 ) Less: Losses and loss adjustment expenses 3,647,765 3,890,736 (242,971 ) 6,540,115 8,447,186 1,907,071 Policy acquisition costs 1,471,068 1,543,767 (72,699 ) 2,947,800 2,977,837 30,037 Total 5,118,833 5,434,503 (315,670 ) 9,487,915 11,425,023 1,937,108 Underwriting profit (before income taxes) $ 1,365,521$ 1,323,216$ 42,305$ 3,384,680$ 2,022,213$ 1,362,467 The following table provides an analysis of the losses and loss adjustment expenses: Three Months Ended June 30 Six Months Ended June 30 Increase Increase 2014 2013 Decrease) 2014 2013 (Decrease) Losses and loss adjustment expenses Provision for insured events of current year $ 4,455,943$ 5,030,100 $



(574,157 ) $ 8,766,236$ 10,570,795$ (1,804,559 )

Development of insured events of prior years (808,178 ) (1,139,364 ) 331,186 (2,226,121 ) (2,123,609 ) (102,512 ) Total losses and loss adjustment expenses $ 3,647,765$ 3,890,736$ (242,971 )$ 6,540,115$ 8,447,186$ (1,907,071 )

Losses and loss adjustment expenses were 56% and 51% of net premium earned for the three and six months ended June 30, 2014, respectively, compared to 58% and 63% of net premium earned for the three and six months ended June 30, 2013

respectively. Other Operations The Company's other revenues from insurance operations consist of commissions, fees, finance charges, and investment and other income. Excluding investment and other income, these operations accounted for approximately 10% of total revenues in the three and six months ended June 30, 2014, compared to 11% of total revenues in the three and six months ended June 30, 2013.



Investments and Liquidity

The Company generates revenue from its investment portfolio, which consisted of total invested assets of approximately $107,165,377 (at amortized cost) and $118,514,626 (at amortized cost) as of June 30, 2014 and 2013, respectively. Investment income decreased $81,350 (72%) and $171,666 (74%) to $30,097 and $61,441 for the three and six months ended June 30, 2014, respectively, compared to $111,447 and $233,107 for the three and six months ended June 30, 2013, respectively. The decrease in investment income is primarily a result of a decrease in invested assets and a decrease in the rate of return on those invested assets. The Company's annualized weighted average investment yield on its fixed maturity obligations decreased to 0.1% for the three and six months ended June 30, 2014, from 0.4% for the three and six months ended June 30, 2013. Due to the current interest rate environment, management believes it is prudent to primarily purchase fixed maturity investments with maturities of two years or less and with minimal credit risk. 14 of 24



Liquidity and Capital Resources

Crusader holds a significant amount of cash primarily as a result of its holdings of unearned premium reserves, its reserves for loss payments, and its capital and surplus. Crusader's loss and loss adjustment expense payments are the most significant cash flow requirement of the Company. These payments are continually monitored and projected to ensure that the Company has the liquidity to cover these payments without the need to liquidate its investments. Cash and investments (at amortized cost) of the Company at June 30, 2014, were $107,269,439 compared to $118,602,350 at June 30, 2013. Crusader's cash and investments were 99% and 97% of the total cash and investments (at amortized cost) held by the Company as of June 30, 2014 and 2013, respectively. As of June 30, 2014, the Company had invested $11,645,759 (at amortized cost) or 10% of its invested assets in fixed maturity obligations. The Company's investments in fixed maturity obligations of $11,645,759 (at amortized cost) include $5,096,759 (44%) of U.S. treasury securities and $6,549,000 (56%) of long-term certificates of deposit. The remaining balance of the Company's investments are in short-term investments that include U.S. treasury bills, U.S. treasury money market fund and bank money market and savings accounts that are all highly rated and redeemable within one year. The Company is required to classify its investment securities into one of three categories: held-to-maturity, available-for-sale, or trading securities. Although all of the Company's investment in fixed maturity securities are classified as available-for-sale and while the Company may sell investment securities from time to time in response to economic and market conditions, its investment guidelines place primary emphasis on buying and holding high-quality investments to maturity.

The Company's investment guidelines on equity securities limit investments in equity securities to an aggregate maximum of $2,000,000. The Company's investment guidelines on fixed maturities limit those investments to high-grade obligations with a maximum term of 8 years. The maximum investment authorized in any one issuer is $2,000,000. This dollar limitation excludes bond premiums paid in excess of par value and U.S. government or U.S. government guaranteed issues. When the Company invests in fixed maturity municipal securities, preference is given to issues that are pre-refunded and secured by U.S. treasury securities. The short-term investments are either U.S. government obligations, FDIC insured, or are in an institution with a Moody's rating of P2 and/or a Standard & Poor's rating of A1. All of the Company's fixed maturity investment securities are rated, readily marketable, and could be liquidated without any materially adverse financial impact. On December 19, 2008, the Board of Directors authorized a stock repurchase program to acquire from time to time up to an aggregate of 500,000 shares of the Company's common stock. This program has no expiration date and may be terminated by the Board of Directors at any time. As of June 30, 2014, and December 31, 2013, the Company had remaining authority under the 2008 program to repurchase up to an aggregate of 222,669 shares of its common stock. The 2008 program is the only program under which there is authority to repurchase shares of the Company's common stock. The Company did not repurchase any stock during the three and six months ended June 30, 2014 and 2013. The Company has or will retire all stock repurchased. The Company reported $1,453,781 net cash provided by operating activities for the six months ended June 30, 2014, an increase of $2,283,056 (275%) compared to $829,275 net cash used by operating activities for the six months ended June 30, 2013. The increase in net cash provided by operating activities is primarily attributable to the increase in net income of $603,246 during the six months ended June 30, 2014, compared to the six months ended June 30, 2013, an increase of $709,691 in cash provided from unearned premium reserves due to the increase in direct premiums written during the six months ended June 30, 2014, compared to the six months ended June 30, 2013 and to a decrease in net losses and loss adjustment expenses paid of approximately $2,503,408 during the six months ended June 30, 2014, compared to the six months ended June 30, 2013. The increase in net income was principally a consequence of decreased losses and loss adjustment expenses incurred during the three months ended June 30, 2014, when compared to three months ended June 30, 2013. Cash flows can change from period to period depending largely on the amount and the timing of claims payments. The variability of the Company's losses and loss adjustment expenses is primarily due to its small population of claims which may result in greater fluctuations in claim frequency and/or severity. As of June 30, 2014, the Company had only 629 open claims. The Company continues to be profitable, well capitalized and adequately reserved; and it does not anticipate future liquidity problems. As of June 30, 2014, all of the Company's investments are in U.S. treasury securities, FDIC insured certificates of deposit and money market funds. The Company's investments in U.S. treasury securities and money market funds are readily marketable. The weighted average maturity of the Company's investments is approximately 1.1 years. Although material capital expenditures may also be funded through borrowings, the Company believes that its cash and short-term investments at June 30, 2014, net of statutory deposits of $700,000, and California insurance company statutory dividend restrictions applicable to Crusader plus the cash to be generated from operations, should be sufficient to meet its operating requirements during the next twelve months without the necessity of borrowing funds. There were no trust restrictions on cash and short-term investments

at June 30, 2014. 15 of 24 Results of Operations All comparisons made in this discussion are comparing the three and six months ended June 30, 2014, to the three and six months ended June 30, 2013, unless otherwise indicated. For the three and six months ended June 30, 2014, total revenues were $7,621,768 and $15,061,789, respectively, a decrease of $141,466 (2%) and $651,138 (4%) compared to total revenues of $7,763,234 and $15,713,017 for the three and six months ended June 30, 2013, respectively. For the three and six months ended June 30, 2014, the Company had income before taxes of $402,321 and $1,308,658, an increase of $16,250 (4%) and $866,409 (196%) when compared to income before taxes of $386,071 and $442,249 for the three and six months ended June 30, 2013, respectively. For the three and six months ended June 30, 2014, the Company had net income of $270,006 and $861,789, an increase of $19,799 (7%) and $603,246 (233%) when compared to net income of $250,207 and $258,543 for the three and six months ended June 30, 2013, respectively. Revenues decreased $141,466 (2%) and $651,138 (4%) for the three and six months ended June 30, 2014, when compared to the three and six months ended June 30, 2013. This decrease was primarily due to a decrease in investment income of $81,350 (72%) and $171,666 (74%), net premium earned of $273,365 (4%) and $574,641 (4%) and commission and fee income of $80,344 (9%) and $228,305 (13%) for the three and six months ended June 30, 2014, when compared to the three and six months ended June 30, 2013, respectively. These decreases in revenue were partially offset by an increase in other income of $295,395 (635%) and $327,428 (139%) for the three and six months ended June 30, 2014, when compared to the three and six months ended June 30, 2013, respectively. The increase in income before taxes of $16,250 (4%) for the three months ended June 30, 2014, when compared to the three months ended June 30, 2013, was primarily due to a decrease in revenues of $141,466 (2%) and decrease in total expenses of $157,716 (2%). Losses and loss adjustment expenses decreased $242,971 (6%) and all other expenses increased $85,255 (2%). The increase in income before taxes of $866,409 (196%) for the six months ended June 30, 2014, when compared to the six months ended June 30, 2013, was primarily due to a decrease in revenues of $651,138 (4%) and offset by a decrease in total expenses of $1,517,547 (10%). Losses and loss adjustment expenses decreased $1,907,071 (23%) and all other expenses increased $389,524 (6%). Premium written (before reinsurance) is a required statutory measure designed to determine written premium production levels. Direct written premium reported on the Company's statutory statement was $8,753,409 and $16,255,156 for the three and six months ended June 30, 2014, an increase of $405,238 (5%) and an increase of $71,045 (0.4%) when compared to direct written premium of $8,348,171 and $16,184,111 for the three and six months ended June 30, 2013, respectively. The Company had an increase in written premium in both the 2nd quarter and year to date period of 2014 compared to 2013. The property casualty insurance marketplace continues to be intensely competitive. While Crusader attempts to meet such competition with competitive prices, its emphasis is on service, promotion, and distribution. Crusader believes that rate adequacy is more important than premium growth and that underwriting profit (net earned premium less losses and loss adjustment expenses and policy acquisition costs) is its primary goal. Nonetheless, Crusader believes that it can grow its sales and profitability by continuing to focus upon four areas of its operations: (1) product development, (2) improved service to retail brokers, (3) geographical expansion and (4) appointment of captive and independent retail agents. In order to enhance service, the Company is currently customizing and configuring a new policy administration system that is primarily focused on transacting business through the internet, as well as providing more options to make the brokers' and agents' time more efficient. Full deployment of this system is planned to occur by the end of 2015. Crusader does not intend to substantially increase its number of appointed retail agents until the Company implements its new policy administration system.

Premium earned before reinsurance decreased $302,682 (4%) to $7,738,435 and decreased $638,646 (4%) to $15,368,456 for the three and six months ended June 30, 2014, respectively, compared to $8,041,117 and $16,007,102 for the three and six months ended June 30, 2013, respectively. The Company writes annual policies and, therefore, earns written premium ratably over the one-year policy term. Earned ceded premium decreased $29,317 (2%) to $1,254,081 and $64,005 (3%) to $2,495,861 for the three and six months ended June 30, 2014, respectively, compared to $1,283,398 and $2,559,866 for the three and six months ended June 30, 2013, respectively. Earned ceded premium as a percentage of direct earned premium was 16% for the three and six months ended June 30, 2014 and 2013,

respectively. 16 of 24

In calendar years 2014, 2013 and 2012, Crusader retained a participation in its excess of loss reinsurance treaties of 10% in its 1st layer ($500,000 in excess of $500,000), 5% in its 2nd layer ($1,000,000 in excess of $1,000,000), and 0% in its property and casualty clash treaty. In calendar years 2014, 2013 and 2012 Crusader retained a participation in its Catastrophe excess of loss reinsurance treaties of 10% in its 1st layer ($9,000,000 in excess of $1,000,000), and 0% in its 2nd layer ($31,000,000 in excess of $9,000,000). The 2007 through 2014 excess of loss reinsurance treaties do not provide for a contingent commission. Crusader's 2006 1st layer primary excess of loss reinsurance treaty provides for a contingent commission equal to 20% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covered the period from January 1, 2006, through December 31, 2006. The 2005 excess of loss reinsurance treaties did not provide for a contingent commission. Crusader's 2004 and 2003 1st layer primary excess of loss reinsurance treaties provide for a contingent commission to the Company equal to 45% of the net profit, if any, accruing to the reinsurer. The first accounting period for the contingent commission covers the period from January 1, 2003, through December 31, 2004. For each accounting period as described above, the Company will calculate and report to the reinsurers its net profit (excluding incurred but not reported losses), if any, within 90 days after 36 months following the end of the first accounting period, and within 90 days after the end of each 12-month period thereafter until all losses subject to the agreement have been finally settled. Any contingent commission received is subject to return based on future development of ceded losses and loss adjustment expenses. As of June 30, 2014, the Company has received a total net contingent commission of $3,647,706 for the years subject to contingent commission. Of this amount, the Company has recognized $3,610,228 of contingent commission income of which $9,463 and $23,269 were recognized in the three months and six months ended June 30, 2014, respectively, and $34,948 and $256,586 was recognized in the three months and six months ended June 30, 2013, respectively. As of June 30, 2014, and December 31, 2013, the remaining balance of the net payments received of $37,478 and $60,747, respectively is unearned and included in "Accrued Expenses and Other Liabilities" in the consolidated balance sheets. The unearned contingent commission may be subsequently earned or returned to the reinsurer depending on the future development of the ceded incurred but not reported losses (IBNR) for the years subject to contingent commission. The Company evaluates each of its ceded reinsurance contracts at its inception to determine if there is a sufficient risk transfer to allow the contract to be accounted for as reinsurance under current accounting literature. As of June 30, 2014, all such ceded contracts are accounted for as risk transfer reinsurance.



Crusader's direct, ceded and net earned premium are as follows:

Three Months Ended June 30 Six Months Ended June 30 Increase Increase 2014 2013 (Decrease) 2014 2013 (Decrease) Direct earned premium $ 7,738,435$ 8,041,117$ (302,682 )$ 15,368,456$ 16,007,102$ (638,646 ) Earned ceded premium 1,254,081 1,283,398 (29,317 ) 2,495,861 2,559,866 (64,005 ) Net earned premium $ 6,484,354$ 6,757,719$ (273,365 )$ 12,872,595$ 13,447,236$ (574,641 ) Ratio of earned ceded premium to direct earned premium 16 % 16 % 16 % 16 %

Investment income decreased $81,350 (72%) to $30,097 and decreased $171,666 (74%) to $61,441 for the three and six months ended June 30, 2014, respectively, compared to $111,447 and $233,107 for the three and six months ended June 30, 2013, respectively. The Company had no realized gains or losses for the three and six months ended June 30, 2014 and 2013. The decrease in investment income is primarily a result of a decrease in the Company's annualized weighted average investment yield on invested assets and a decrease in invested assets primarily due to the purchase of land and building on September 26, 2013, for $9,500,000. The Company's annualized weighted average investment yield on its fixed maturity obligations decreased to 0.1% for the three and six months ended June 30, 2014, from .4% for the three and six months ended June 30, 2013, respectively. The decrease in the annualized yield on average invested assets is primarily a result of the short duration of the Company's investments and lower yields in the marketplace on both new and reinvested assets 17 of 24



Investment income and average annualized yields on the Company's average invested assets are as follows:

Three Months Ended Six Months Ended June 30 June 30 2014 2013 2014 2013 Average invested assets* - at amortized cost $ 106,736,613$ 119,021,440$ 106,458,629$ 119,107,543 Interest income Insurance company operations $ 29,891$ 110,874$ 61,158$ 232,163 Other operations 206 573 283 944 Total investment income and

realized gains $ 30,097$ 111,447$ 61,441$ 233,107 Annualized yield on average invested assets 0.1 % 0.4 % 0.1 % 0.4 %



*The average is based on the beginning and ending balance of the amortized cost of the invested assets.

The par value, amortized cost, estimated market value and weighted average yield of fixed maturity investments at June 30, 2014, by contractual maturity are as follows. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without

penalties. Weighted Maturities by Par Amortized Fair Average Calendar Year Value Cost Value Yield



December 31, 2014 1,550,000 1,550,000 1,550,000

0.5 % December 31, 2015 9,649,000 9,645,465 9,650,170

0.6 % December 31, 2016 350,000 350,000 350,000 1.1 % December 31, 2018 100,000 100,294 98,258 0.7 % Total $ 11,649,000$ 11,645,759$ 11,648,428 0.4 % The weighted average maturity of the Company's fixed maturity investments was 1.1 years as of June 30, 2014, and 0.5 years as of June 30, 2013. Due to the current interest rate environment, management believes it is prudent to purchase fixed maturity investments with maturities of five years or less and with minimal credit risk. As of June 30, 2014, the Company held one fixed maturity investment with unrealized appreciation of $4,705 and held one fixed maturity investment with unrealized depreciation of $2,036 for a continuous period of less than one year. As of December 31, 2013, the Company held two fixed maturity investments with unrealized depreciation of $8,756 and held no fixed maturity investments with unrealized appreciation.



No securities were sold at a loss during the three or six months ended June 30, 2014 or 2013.

The Company monitors its investments closely. If an unrealized loss is determined to be other-than-temporary, it is written off as a realized loss through the Consolidated Statements of Operations. The Company's methodology of assessing other-than-temporary impairments is based on security-specific analysis as of the balance sheet date and considers various factors including the length of time to maturity and the extent to which the fair value has been less than the cost, the financial condition and the near-term prospects of the issuer, and whether the debtor is current on its contractually obligated interest and principal payments. The Company does not have the intent to sell its fixed maturity investments and it is not likely that the Company would be required to sell any of its fixed maturity investments prior to recovery of its amortized costs. There were no realized investment gains (losses) in the three or six months ended June 30, 2014 or 2013. The unrealized gains or losses from fixed maturities are reported as "Accumulated Other Comprehensive Income," which is a separate component of stockholders' equity, net of any deferred tax effect. The Company did not sell any fixed maturity investments in the three or six months ended June 30, 2014 or 2013.



Other Income included in Insurance Company Revenues and Other Insurance Operations increased $295,379 (627%) to $342,321 and increased $327,428 (115%) to $610,864 for the three and six months ended June 30, 2014, compared to $46,962 and $283,436 for the three and six months ended June 30, 2013, respectively.

The increase in other income is primarily the result of rental income received by Crusader from the Calabasas property that was acquired on September 26, 2013. Crusader received rental income of $233,744 and $463,591 for the three and six months ended June 30, 2014, respectively. The increase from the rental income was partially offset by a decrease in the amount of contingent commission related to the profit sharing arrangement in the 2003, 2004 and 2006 excess of loss reinsurance treaties that was recognized during the three and six months ended June 30, 2014. The Company recognized $9,463 and $23,269 of contingent commission in the three and six months ended June 30, 2014, a decrease of $25,485 and $233,317 compared to contingent commission of $34,948 and $256,586 recognized during the three and six months ended June 30, 2013. 18 of 24 Gross commissions and fees decreased $80,354 (10%) to $749,045 and decreased $228,305 (13%) to $1,483,608 for the three and six months ended June 30, 2014, respectively, compared to $829,399 and $1,711,913 for the three and six months ended June 30, 2013, respectively.



The decreases in gross commission and fee income for the three and six months ended June 30, 2014, as compared to the three and six months ended June 30, 2013, are as follows:

Three Months Ended June 30 Six Months Ended June 30 Increase Increase 2014 2013 (Decrease) 2014 2013 (Decrease) Policy fee income $ 409,945$ 423,967$ (14,022 )$ 806,845$ 854,019$ (47,174 ) Health insurance program 292,933 335,208 (42,275



) 548,204 643,862 (95,658 ) Membership and fee income

25,762 28,995 (3,233 ) 51,694 59,383 (7,689 ) Daily automobile rental insurance program: Commission income (excluding contingent commission) 20,405 41,229 (20,824 ) 50,901 95,904 (45,003 ) Contingent commission - - - 25,964 58,745 (32,781 ) Total $ 749,045$ 829,399 $ (80,354

) $ 1,483,608$ 1,711,913$ (228,305 ) Unifax primarily sells and services insurance policies for Crusader. The commissions paid by Crusader to Unifax are eliminated as intercompany transactions and are not reflected as income in the financial statements. Unifax also receives non-refundable policy fee income that is directly related to the Crusader policies it sells. For financial reporting purposes, policy fees are earned ratably over the life of the related insurance policy. The unearned portion of the policy fee is recorded as a liability on the balance sheet under "Accrued Expenses and Other Liabilities." Policy fee income decreased $14,022 (3%) and $47,174 (6%) in the three and six months ended June 30, 2014, respectively, compared to the three and six months ended June 30, 2013. The decrease in policy fee income is due to a decrease in policy fees in the current amortization period as compared to the prior year amortization period. American Insurance Brokers, Inc. (AIB), a subsidiary of the Company, markets health insurance in California through non-affiliated insurance companies for individuals and groups. For these services, AIB receives commission based on the premiums that it writes. Commission income decreased $42,275 (13%) and decreased $95,658 (15%) in the three and six months ended June 30, 2014, respectively, compared to the three and six months ended June 30, 2013. This decrease is primarily due to fewer in force individual and group policies due to the highly competitive health insurance market place, a decrease in commission rates and the effect of new government programs and regulations. The Company's subsidiary Insurance Club, Inc., dba AAQHC An Administrator (AAQHC), is a third party administrator for contracted insurance companies and is a membership association that provides various consumer benefits to its members, including participation in group health care insurance policies that AAQHC negotiates for the association. For these services, AAQHC receives membership and fee income from its members. Membership and fee income decreased $3,233 (11%) and $7,689 (13%) for the three and six months ended June 30, 2014, respectively, compared to the three and six months ended June 30, 2013. This decrease is primarily a result of a decrease of 13% in the number of association members enrolled in AAQHC during the three months and a 10% decrease in the six months ended June 30, 2014, compared to the number of association members enrolled during the three and six months ended June 30, 2013. This decrease is primarily is due to the highly competitive health insurance market place and the effect of new government programs and regulations The daily automobile rental insurance program is produced by Bedford Insurance Services, Inc. (Bedford), a wholly owned subsidiary of the Company. Bedford receives commission from a non-affiliated insurance company based on premiums written. Bedford no longer writes new business for the non-affiliated insurance company it previously represented as a general agent. Bedford entered into a new Producer Agreement effective June 1, 2013, with a non-affiliated group of insurance companies. Under this agreement, Bedford has the authority to solicit and refer to these companies its daily automobile rental insurance policy submissions. Bedford does not have the authority to bind any risk or commit to any course of action without first requesting prior written permission. For its services under the new agreement, Bedford receives a commission. Commission in the daily automobile rental insurance program (excluding contingent commission) decreased $20,824 (51%) and $45,003 (47%) for the three and six months ended June 30, 2014, respectively, compared to the three and six months ended June 30, 2013. The decrease in commission income in the three and six months ended June 30, 2014, is primarily due to a continued decline in all premiums written in this program. The Company no longer actively markets this program. 19 of 24 Finance fees earned by the Company's premium finance subsidiary, AAC, decreased $1,756 (10%) to $15,951 and decreased $3,954 (11%) to $33,371 for the three and six months ended June 30, 2014, respectively, compared to $17,707 and $37,325 for the three and six months ended June 30, 2013, respectively. The decrease in fees earned during for the three and six months ended June 30, 2014 period is a result of a slight decrease in the number of loans outstanding in the current periods compared to the prior year periods. During the three and six months ended June 30, 2014, AAC issued 871 and 1,689 loans respectively and had 2,484 loans outstanding as of June 30, 2014. During the three and six months ended June 30, 2013, AAC issued 824 and 1,697 loans respectively and had 2,509 loans outstanding as of June 30, 2013. AAC only provides premium financing for Crusader policies produced by Unifax in California. AAC reduced the interest rate charged on premiums financed to 0% beginning July 20, 2010, and; therefore, it did not earn any finance charges during the three or six months ended June 30, 2014 and 2013. This reduction in the interest rate charged was initiated in an effort to increase the sales of existing renewal and new business written by Unifax for Crusader. Due to the low interest rate environment, the cost of money to provide this incentive is not material. The Company monitors the cost of providing this incentive and depending on the cost/benefit determination, can continue to offer it or withdraw it at any time. Losses and loss adjustment expenseswere 56% and 51% of net premium earned for the three and six months ended June 30, 2014, respectively, compared to 58% and 63% of net premium earned for the three and six months ended June 30, 2013, respectively.



Losses and loss adjustment expenses and loss ratios are as follows:

Three Months Ended June 30 Increase 2014 2013 (Decrease) Net earned premium $ 6,484,354$ 6,757,719$ (273,365 )



Losses and loss adjustment expenses

Provision for insured events of current year 4,455,943 5,030,100



(574,157 )

Development of insured events of prior years (808,178 ) (1,139,364 )



331,186

Total losses and loss adjustment expenses $ 3,647,765$ 3,890,736$ (242,971 ) Calendar year loss ratio 56 % 58 % Six Months Ended June 30 Increase 2014 2013 (Decrease) Net earned premium $ 12,872,595$ 13,447,236$ (574,641 )



Losses and loss adjustment expenses

Provision for insured events of current accident year 8,766,236 10,570,795



(1,804,559 )

Development of insured events of prior years (2,226,121 ) (2,123,609



) (102,512 )

Total losses and loss adjustment expenses $ 6,540,115$ 8,447,186$ (1,907,171 ) Calendar year loss ratio 51 % 63 %

The current accident year losses and loss adjustment expenses were 69% and 68% of net earned premium in the three and six months ended June 30, 2014, compared to 74% and 79% of net earned premium in the three and six months ended June 30, 2013. One large property loss that exceeded Crusader's reinsurance retention of $500,000 contributed to the increased losses in the three and six months ended June 30, 2013. 20 of 24 The Company reported a decrease in the favorable development of insured events of prior accident years of $331,186 during the three months ended June 30, 2014, and an increase the favorable development of insured events of prior accident years of $102,512 in the six months ended June 30, 2014 when compared to the three and six months ended June 30, 2013. The variability of the Company's losses and loss adjustment expenses for the periods presented is primarily due to the small population of the Company's claims, which may result in greater fluctuations in claim frequency and/or severity Crusader's reinsurance retention is relatively high in relationship to its net earned premium, which can result in increased loss ratio volatility when large losses are incurred. Nevertheless, management believes that its reinsurance retentions are reasonable given the amount of Crusader's surplus and its goal to minimize ceded premium.

The preparation of the Company's consolidated financial statements requires judgments and estimates. The most significant is the estimate of loss reserves. Management makes its best estimate of the liability for unpaid claims costs as of the end of each fiscal quarter. Due to the inherent uncertainties in estimating the Company's unpaid claims costs, actual loss and loss adjustment expense payments may vary, perhaps significantly, from any estimate made prior to the settling of all claims. Variability is inherent in establishing loss and loss adjustment expense reserves, especially for a small insurer like the Company. For any given line of insurance, accident year, or other group of claims, there is a continuum of possible reserve estimates, each having its own unique degree of propriety or reasonableness. Due to the complexity and nature of the insurance claims process, there are potentially an infinite number of reasonably likely scenarios. The Company does not specifically identify reasonably likely scenarios other than utilizing management's best estimate. In addition to applying the various standard methods to the data, an extensive series of diagnostic tests are applied to the resultant reserve estimates to determine management's best estimate of the unpaid claims liability. Among the statistics reviewed for each accident year are loss and loss adjustment expense development patterns, frequencies (expected claim counts), severities (average cost per claim), loss and loss adjustment expense ratios to premium, and loss adjustment expense ratios to loss. When there is clear evidence that the actual claims costs emerged are different than expected for any prior accident year, the claims cost estimates for that year are revised accordingly. The establishment of loss and loss adjustment expense reserves is a difficult process as there are many factors that can ultimately affect the final settlement of a claim and, therefore, the reserve that is needed. Estimates are based on a variety of industry data and on the Company's current and historical accident year claims data, including but not limited to reported claim counts, open claim counts, closed claim counts, closed claim counts with payments, paid losses, paid loss adjustment expenses, case loss reserves, case loss adjustment expense reserves, earned premiums and policy exposures, salvage and subrogation, and unallocated loss adjustment expenses paid. Many other factors, including changes in reinsurance, changes in pricing, changes in policy forms and coverage, changes in underwriting and risk selection, legislative changes, results of litigation and inflation are also taken into account. At the end of each fiscal quarter, the Company's unpaid claims costs (reserves) for each accident year (i.e., for all claims incurred within each year) are re-evaluated independently by the Company's president, the Company's chief financial officer and by an independent consulting actuary. Generally accepted actuarial methods including the Bornhuetter-Ferguson and loss development methods are employed to estimate ultimate claims costs. An actuarial central estimate of the ultimate claims costs and IBNR reserves is determined by management and tested for reasonableness by the independent consulting actuary. Policy acquisition costs consist of commissions, premium taxes, inspection fees, and certain other underwriting costs that are directly related to and vary with the production of Crusader insurance policies. These costs include both Crusader expenses and the allocated expenses of other Unico subsidiaries. Crusader's reinsurers pay Crusader a ceding commission, which is primarily a reimbursement of the acquisition cost related to the ceded premium. No ceding commission is received on facultative or catastrophe ceded premium. Policy acquisition costs, net of ceding commission, are deferred and amortized as the related premiums are earned. Current and prior year policy acquisition costs were affected by the implementation of FASB ASU 2010-26 beginning in 2012. The implementation of FASB ASU 2010-26 modified the acquisition costs available to be capitalized and deferred. The primary policy acquisition costs affected were salary and salary related costs. The Company annually reevaluates its acquisition costs to determine that costs related to successful policy acquisition are capitalized and deferred. These costs were approximately 23% of net premium earned for the three and six months ended June 30, 2014, compared 23% and 22% for the three and six months ended June 30, 2013. Policy acquisition costs as a percentage of earned premium increased in the six months ended June 30, 2014, primarily due to the decrease in net premium earned in the six months ended June 30, 2014, compared to the prior year period. 21 of 24 Policy acquisition costs and the ratio to net earned premium are as follows: Three Months Ended June 30 Six Months Ended June 30 Increase Increase 2014 2013 (Decrease) 2014 2013 (Decrease) Policy acquisition costs $ 1,471,068$ 1,543,767$ (72,699 )$ 2,947,800$ 2,977,837$ (30,037 ) Ratio to net earned premium (GAAP ratio) 23 % 23 % 23 % 22 % Salaries and employee benefits decreased $14,999 (1%) to $1,271,221 and increased $3,526 (0%) to $2,553,149 for the three and six months ended June 30, 2014, respectively, compared to salary and employee benefits of $1,286,220 and $2,549,623 for the three and six months ended June 30, 2013, respectively. Salaries and employee benefits incurred and charged to operating expenses are as follows: Three Months Ended June 30 Increase 2014 2013 (Decrease) Total salaries and employee benefits incurred $ 1,815,347$ 1,842,440



$ (27,093 )

Less: charged to losses and loss adjustment expenses (219,451 ) (215,846 ) (3,605 ) Less: capitalized to policy acquisition costs (324,675 ) (340,374 ) 15,699 Net amount charged to operating expenses $ 1,271,221$ 1,286,220$ (14,999 ) Six Months Ended June 30 Increase 2014 2013 (Decrease) Total salaries and employee benefits incurred $ 3,648,756$ 3,628,542



$ 20,214

Less: charged to losses and loss adjustment expenses (422,866 ) (396,123 ) (26,743 ) Less: capitalized to policy acquisition costs (672,741 ) (682,796 ) 10,055 Net amount charged to operating expenses $ 2,553,149$ 2,549,623$ 3,526 Commissions to agents/brokers decreased $7,990 (13%) to $54,230, and decreased $24,779 (20%) to $98,069 for the three and six months ended June 30, 2014, respectively, compared to $62,220 and $122,848 for the three and six months ended June 30, 2013. The decrease in commission expense is directly related to the decrease in commission income in the life and health insurance program and the decrease in premiums written in the daily automobile rental insurance program. Other operating expenses increased $180,943 (30%) to $775,163 and increased $440,814 (38%) to $1,614,088 for the three and six months ended June 30, 2014, respectively, compared to $594,220 and $1,173,274 for the three and six months ended June 30, 2013, respectively. The increase in other operating expenses in both the three and six months ended June 30, 2014, compared to the three and six months ended June 30, 2013, is primarily related to operating expenses and depreciation expense incurred that directly related to the Calabasas property acquired on September 26, 2013. The operating expenses related to the Calabasas property were approximately $181,467 and $383,787 for the three and six months ended June 30, 2014. The Calabasas property is currently held for rental income. There were no other significant increases or decreases amongst the various

other expense categories

Income tax provision was an expense of $132,315 (33% of pre-tax income) and $446,869 (34% of pre-tax income) for the three and six months ended June 30, 2014, respectively, compared to an income tax expense of $135,864 (35% of pre-tax income) and $183,706 (42% of pre-tax income) for the three and six months ended June 30, 2013, respectively. The decrease in the effective tax rate for the three and six months ended June 30, 2014, compared to three and the six months ended June 30, 2013, was primarily the result of providing a state income tax allowance for the current operating results of the Company's non-insurance subsidiaries for the three and six months ended June 30, 2013. The calculated tax rate of 42% for the six months ended June 30, 2013, was comprised of a calculated federal tax rate of approximately 32% while the calculated state tax rate was approximately 10%. In the six months ended June 30, 2013, the Company's state income tax expense consisted primarily of non-recognized tax benefits related to the state net operating loss incurred in that period. 22 of 24 Forward Looking Statements Certain statements contained herein, including the sections entitled "Business," "Legal Proceedings" and "Management's Discussion and Analysis of Financial Condition and Results of Operations" that are not historical facts are forward looking. These statements, which may be identified by forward looking words or phrases such as "anticipate," "appear," "believe," "estimate," "expect," "intend," "may," "plan," "should," and "would" involve risks and uncertainties, many of which are beyond the control of the Company. Such risks and uncertainties could cause actual results to differ materially from these forward looking statements. Factors which could cause actual results to differ materially include: underwriting or marketing actions not being effective; rate increases for coverages not being sufficient; premium rate adequacy relating to competition or regulation; actual versus estimated claim experience; the outcome of rate change filings with regulatory authorities; acceptance by insureds of rate changes; adequacy of rate changes; changes in Crusader's A.M. Best rating; regulatory changes or developments; the outcome of regulatory proceedings; unforeseen calamities; general market conditions; and the Company's ability to introduce new profitable products.


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