Notes
to Consolidated Financial Statements
Note
1. Nature of Business
FG
Financial Group, Inc. (“FGF”, the “Company”, “we”, or “us”) is a reinsurance and asset
management holding company. We focus on opportunistic collateralized and loss capped reinsurance, while allocating capital in partnership
with Fundamental Global®, and from time to time, other strategic investors, to merchant banking activities. The Company’s
principal business operations are conducted through its subsidiaries and affiliates. The Company also provides asset management services.
From our inception in October 2012 through December 2019, we operated as an insurance holding company, writing property and casualty
insurance throughout the states of Louisiana, Florida, and Texas. On December 2, 2019, we sold our three former insurance subsidiaries,
and embarked upon our current strategy focused on reinsurance and asset management.
As
of September 30, 2022, Fundamental Global GP, LLC, a private partnership focused on long-term strategic holdings (“FG”), and its affiliated entity, collectively beneficially owned approximately 60.0%
of our common stock. D. Kyle Cerminara, Chairman of our Board of Directors, serves as Chief Executive Officer, Co-Founder and
Partner of FG.
Sale
of the Insurance Business
On
December 2, 2019, we completed the sale (“Asset Sale”) of our insurance subsidiaries to FedNat Holding Company for a combination
of cash and FedNat common stock. As of September 30, 2022, the Company held 137,871 shares of FedNat common stock. On October 2, 2022,
the Company sold the remaining FedNat common stock shares held for approximately $30,000 of net proceeds.
Current
Business
Our
strategy has evolved to focus on opportunistic collateralized and loss capped reinsurance, with capital allocation to merchant banking
activities. As part of our refined focus, we have adopted the following capital allocation philosophy:
“Grow
intrinsic value per share with a long-term focus using fundamental research, allocating capital to
asymmetric risk/reward opportunities.”
Currently,
the business operates as a diversified holding company of insurance, reinsurance, asset management and our “Special purpose acquisition
corporation (“SPAC”) Platform” businesses.
Insurance
We
are in the process of establishing a Risk Retention Group (“RRG”) for the purpose of providing directors and officers insurance
coverage to SPAC vehicles. We intend to provide capital, along with other participants, to facilitate the underwriting of such insurance
coverage. The Company will focus on fee income derived from originating, underwriting, and servicing the insurance business, while mitigating
our financial risk with external reinsurance partners.
Reinsurance
The
Company’s wholly owned reinsurance subsidiary, FG Reinsurance Ltd. (“FGRe”), a Cayman Islands limited
liability company, provides specialty property and casualty reinsurance. FGRe has been granted a Class B (iii) insurer license in accordance
with the terms of The Insurance Act (as revised) of the Cayman Islands and underlying regulations thereto and is subject to regulation
by the Cayman Islands Monetary Authority (the “Authority”). The terms of the license require advance approval from the Authority
should FGRe wish to enter into any reinsurance agreements which are not fully collateralized to their aggregate exposure limit. FGRe
participates in a Funds at Lloyds (“FAL”) syndicate covering risks written by the syndicate during the 2021 and 2022 calendar
years. On April 1, 2021, FGRe entered its second reinsurance contract with a leading insurtech company that provides automotive insurance
utilizing driver monitoring to predictively segment and price drivers. In addition to renewing this contract for a second year, the Company
added a second agreement with the automotive insurance provider as of April 1, 2022. Beginning January 1, 2022, FGRe participates in
a quota share reinsurance contact with a startup homeowners’ insurance company. On April 1, 2022, FGRe entered a homeowners’
property catastrophe excess of loss reinsurance contract with a specialty insurance company covering loss occurrences from named tropical
storms arising out of the Atlantic. On July 1, 2022, FGRe entered a contract with a specialty insurance company that provides hired and
non-owned automotive insurance. These agreements limit exposure by loss-caps stipulated within the reinsurance contracts.
Asset
Management
Pursuant
to the Investment Advisory Agreement, FG Strategic Consulting, LLC (“FGSC”) a wholly-owned subsidiary of the Company has
agreed to provide investment advisory services to FedNat, including identifying, analyzing and recommending potential investments, advising
as to existing investments and investment optimization, recommending investment dispositions, and providing advice regarding macro-economic
conditions. In exchange for providing the investment advisory services, FedNat has agreed to pay FGSC an annual fee of $100,000. The
term of the Investment Advisory Agreement is five years, expiring on December 2, 2024.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
SPAC
Platform
On
December 21, 2020, we formed FG Management Solutions LLC (“FGMS”), formerly known as FG SPAC Solutions LLC, a Delaware company,
to facilitate the launch of our “SPAC Platform”. Under the SPAC Platform, we provide various strategic, administrative, and
regulatory support services to newly formed SPACs for a monthly fee. Additionally, the Company co-founded a partnership, FG Merchant
Partners, LP (“FGMP”), formerly known as FG SPAC Partners, LP, to participate as a co-sponsor for newly formed SPACs. The
Company also participates in the risk capital investments associated with the launch of such SPACs through its Asset Management business,
specifically FG Special Situations Fund, LP. (“Fund”). As discussed in Note 4, the Company had consolidated the results of
the Fund through November 30, 2021; however, effective December 1, 2021, the Company began accounting for its investment in the Fund
under the equity method. The first transaction entered under the SPAC Platform occurred on January 11, 2021, by and among FGMS and Aldel
Investors, LLC, the sponsor of Aldel Financial, Inc. (“Aldel”), a special purpose acquisition company which completed its
business combination with Hagerty (NYSE: HGTY) on December 2, 2021. Under the services agreement between FGMS and Aldel Investors, LLC
(the “Agreement”), FGMS provided accounting, regulatory, strategic advisory, and other administrative services to Aldel,
which included assistance with negotiations with potential merger targets for the SPAC as well as assistance with the de-SPAC process.
In
March and April 2022, the Company continued to build upon its SPAC Platform strategy. On March 3, 2022, FG Merger Corp. (“FG Merger”)
(Nasdaq: FGMCU) announced the closing of an $80.5 million IPO in the United States, including the exercise of the over-allotment option
granted to the underwriters in the offering. Similarly, on April 5, 2022, FG Acquisition Corp. (“FG Acquisition”) (TSX:FGAA.V),
announced the closing of a $115 million IPO in Canada, including the exercise of the over-allotment option granted to the underwriters
in the offering. The Company participated in the risk capital associated with the launch of the SPACs through its asset management business,
specifically FG Special Situations Fund, LP. Mr. Cerminara, our Chairman, Larry G. Swets, Jr., our Director and Chief Executive Officer,
and Hassan R. Baqar, our Executive Vice President and Chief Financial Officer, also hold financial interests in the SPACs and/or their
sponsor companies. Additionally, Messrs. Cerminara, Swets, and Baqar are managers of the sponsor companies of FG Merger and FG Acquisition.
Mr. Swets serves as Chairman of FG Merger, while Messrs. Baqar and Cerminara serve as Director and Senior Advisor of FG Merger, respectively.
Mr. Swets serves as Chief Executive Officer and Director of FG Acquisition. Mr. Baqar serves as Chief Financial Officer, Secretary and
Director of FG Acquisition. Mr. Cerminara serves as Chairman of FG Acquisition.
In
the aggregate, the Company’s indirect exposure to FG Merger through its subsidiaries represents potential beneficial ownership
of approximately 820,000 shares of FG Merger’s common stock, approximately 989,000 warrants with an $11.50 exercise price and 5-year
expiration, and approximately 85,000 warrants with a $15.00 exercise price and 10-year expiration. The Company has invested approximately
$2.6 million in FG Merger through its subsidiaries. The Company’s indirect exposure in FG Acquisition through its subsidiaries
represents potential beneficial ownership of approximately 819,000 shares of FG Acquisition’s common stock, approximately 1,400,000
million warrants with an $11.50 exercise price and 5-year expiration (the “FGAC Warrants”), approximately 440,000 warrants
with a $15 exercise price and 10-year expiration, and either (i) up to approximately an additional 1,600,000 FGAC Warrants, or (ii) up
to approximately $2 million in cash, or (iii) a pro-rata combination of such FGAC Warrants and cash, based on certain adjustment provisions
and the level of redemptions of FG Acquisition’s publicly traded warrants at the time of a business combination. The Company has
invested approximately $3.4 million in FG Acquisition through its subsidiaries.
Merchant
Banking
In
Q3 2022, the Company announced the expansion of its growth strategy through the formation of a merchant banking division. Company plans
to expand the addressable market beyond SPACs to encompass a larger universe of opportunities including reverse mergers and sponsoring
startups. Company believes this offers enhanced flexibility to capitalize on asymmetric risk/reward opportunities.
Note
2. Significant Accounting Policies
Basis
of Presentation
These
statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”).
Consolidation
Policies
The
accompanying consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany
balances and transactions have been eliminated upon consolidation.
The
consolidated financial statements include the accounts of the Company and entities in which it is required to consolidate under either
the Variable Interest Entity (“VIE”) or Voting Interest Entity (“VOE”) models. Both models require the reporting
entity to identify whether it has a controlling financial interest in a legal entity and is therefore required to consolidate the legal
entity. Under the VOE model, a reporting entity with ownership of a majority of the voting interest of a legal entity is generally considered
to have a controlling financial interest. The VIE model was established for situations in which control may be demonstrated other than
by the possession of voting rights in a legal entity and instead focuses on the power to direct the activities that most significantly
impact the legal entity’s economic performance, as well as the rights to receive benefits and obligations to absorb losses that
could potentially be significant to the legal entity.
The
determination of whether a legal entity is consolidated under either model is reassessed where there is a substantive change in the governing
documents or contractual arrangements of the entity, to the capital structure of the entity or in the activities of the entity. The Company
continuously reassesses whether it should consolidate under either model.
In
September 2020, the Company invested approximately $5.0 million to sponsor the launch of the Fund. The Fund, a VIE which the Company
was required to consolidate through November 30, 2021, is considered an investment company for GAAP purposes and follows the accounting
and reporting guidance in the Financial Accounting Standards Codification (“ASC”) Topic 946, Financial Services-Investment
Companies, which includes the presentation of its investments at fair value. Beginning December 1, 2021, the Company has accounted
for its investment in the Fund under the equity method of accounting.
See
Note 4 for additional information regarding the Company’s consolidated investments.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Discontinued
Operations
Due
to the sale of all of the issued and outstanding equity of our previous insurance business on December 2, 2019, these operations have
been classified as discontinued operations in the Company’s financial statements presented herein. For the nine months ended September
30, 2021, we recognized a gain from the sale of this business for approximately $145,000. This was related to a final true-up and settlement
in the first quarter of 2021, for income taxes due to the Company under the sale agreement. The following table presents a reconciliation
of the major classes of line items constituting pretax profit (loss) of discontinued operations to the after-tax profit (loss) of discontinued
operations that are presented in the Company’s consolidated statement of operations for the three and nine months ended September
30, 2022 and 2021:
Schedule of Discontinued Operations
| | |
2022 | | |
2021 | | |
2022 | | |
2021 | |
| (in thousands) | |
Three months ended
September 30, | | |
Nine months ended
September 30, | |
| | |
2022 | | |
2021 | | |
2022 | | |
2021 | |
| Pre-tax gain (loss) on sale | |
$ | – | | |
$ | – | | |
$ | – | | |
$ | – | |
| Income tax benefit | |
| – | | |
| – | | |
| – | | |
| 145 | |
| Net gain from sale of Maison Business | |
$ | – | | |
$ | – | | |
$ | – | | |
$ | 145 | |
The
Use of Estimates in the Preparation of Consolidated Financial Statements
The
preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that
affect the application of policies and the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities
at the date of the consolidated financial statements and the reported amounts of revenues and expenses for the reporting period. Actual
results could differ from these estimates. Estimates and their underlying assumptions are reviewed on an ongoing basis. Changes in estimates
are recorded in the accounting period in which they are determined. The critical accounting estimates and assumptions in the accompanying
consolidated financial statements include the valuation of our investments, the valuation of net deferred income taxes and deferred policy
acquisition costs, premium revenue recognition, reserves for loss and loss adjustment expenses, and stock-based compensation expense.
Investments
in Equity Securities
Investments
in equity securities are carried at fair value with subsequent changes in fair value recorded to the Consolidated Statements of Operations
as a component of net investment income.
Other
Investments
Other
investments consist, in part, of equity investments made in privately held companies accounted for under the equity method. We utilize
the equity method to account for investments when we possess the ability to exercise significant influence, but not control, over the
operating and financial policies of the investee. The ability to exercise significant influence is presumed when the investor possesses
more than 20% of the voting interests of the investee. This presumption may be overcome based on specific facts and circumstances that
demonstrate that the ability to exercise significant influence is restricted. We apply the equity method to investments in common stock
and to other investments when such other investments possess substantially identical subordinated interests to common stock.
In
applying the equity method, we record the investment at cost and subsequently increase or decrease the carrying amount of the investment
by our proportionate share of the net earnings or losses and other comprehensive income of the investee. We record dividends or other
equity distributions as reductions in the carrying value of the investment. Should net losses of the investee reduce the carrying amount
of the investment to zero, additional net losses may be recorded if other investments in the investee are at-risk, even if we have not
committed to provide financial support to the investee. Such additional equity method losses, if any, are based upon the change in our
claim on the investee’s book value.
When
we receive distributions from our equity method investments, we utilize the cumulative earnings approach. When classifying the related
cash flows under this approach, the Company compares the cumulative distributions received, less distributions received in prior periods,
with the Company’s cumulative equity in earnings. Cumulative distributions that do not exceed cumulative equity in earnings represent
returns on investment and are classified as cash inflows from operating activities. Cumulative distributions in excess of cumulative
equity in earnings represent returns on investment and are classified as cash inflows from investing activities.
Other
investments also consist of equity we have purchased in a limited partnership and a limited liability company for which there does not
exist a readily determinable fair value. The Company accounts for these investments at their cost, minus impairment, if any, plus or
minus changes resulting from observable price changes in orderly transactions for identical or similar investment of the same issuer.
Any profit distributions the Company receives on these investments are included in net investment income.
Cash
and Cash Equivalents
Cash
and cash equivalents include cash and highly liquid investments with original maturities of 90 days or less.
Pursuant
to the Company’s insurance license, the Authority has required that FGRe hold a minimum capital requirement of $200,000 in cash
in a bank in the Cayman Islands which holds an “A” license issued under the Banks and Trust Companies Act (2020 Revision).
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Income
Taxes
The
Company follows the asset and liability method of accounting for income taxes, whereby deferred income tax assets and liabilities are
recognized for (i) the differences between the financial statement carrying amount of existing assets and liabilities and their respective
tax bases and (ii) loss and tax credit carry-forwards. Deferred income tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect
on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the date of enactment.
Future tax benefits are recognized to the extent that realization of such benefits is more likely than not and a valuation allowance
is established for any portion of a deferred tax asset that management believes will not be realized. Current federal income taxes are
charged or credited to operations based upon amounts estimated to be payable or recoverable as a result of taxable operations for the
current year. The Company recognizes interest and penalties, if any, related to unrecognized tax benefits in income tax expense (benefit).
Concentration
of Credit Risk
Financial
instruments which potentially expose the Company to concentrations of credit risk include investments, cash, and deposits with reinsured
companies. The Company maintains its cash with a major U.S. domestic banking institution which is insured by the Federal Deposit Insurance
Corporation (“FDIC”) for up to $250,000. As of September 30, 2022 the Company held funds in excess of these FDIC insured
amounts. The terms of these deposits are on demand to mitigate some of the associated risk. The Company has not incurred losses related
to these deposits.
Premium
Revenue Recognition
The
Company participates in quota-share contracts and estimates the ultimate premiums for the contract period. These estimates are based
on information received from the ceding companies, whereby premiums are recorded as written in the same periods in which the underlying
insurance contracts are written and are based on cession statements from cedents. These statements are received quarterly and in arrears,
and thus, for any reporting lag, premiums written are estimated based on the portion of the ultimate estimated premiums relating to the
risks underwritten during the lag period.
Premium
estimates are reviewed by management periodically. Such review includes a comparison of actual reported premiums to expected ultimate
premiums. Based on management’s review, the appropriateness of the premium estimates is evaluated, and any adjustments to these
estimates are recorded in the period in which they are determined. Changes in premium estimates, including premiums receivable, are not
unusual and may result in significant adjustments in any period. A significant portion of amounts included in “Reinsurance balances
receivable” on the Company’s consolidated balance sheets represents estimated premiums written, net of commissions, brokerage,
and loss and loss adjustment expense, and are not currently due based on the terms of the underlying contracts. Additional premiums due
on a contract that has no remaining coverage period are earned in full when written.
Premiums
written are generally recognized as earned over the contract period in proportion to the risk covered. Unearned premiums represent the
unexpired portion of reinsurance provided.
Policy
Acquisition Costs
Policy
acquisition costs are costs that vary with, and are directly related to, the successful production of new and renewal business, and consist
principally of commissions, taxes and brokerage expenses. If the sum of a contract’s expected losses and loss expenses and deferred
acquisition costs exceeds associated unearned premiums and expected investment income, a premium deficiency is determined to exist. In
this event, deferred acquisition costs are written off to the extent necessary to eliminate the premium deficiency. If the premium deficiency
exceeds deferred acquisition costs then a liability is accrued for the excess deficiency. There were no premium deficiency adjustments
recognized during the periods presented herein.
Funds
Deposited for benefit of Reinsured Companies
“Funds
Deposited for benefit of Reinsured Companies” on the Company’s consolidated balance sheets includes amounts held by cedents
provided to support our reinsurance contracts. On November 12, 2020, FGRe, our Cayman Islands based reinsurance subsidiary, initially
funded a trust account at Lloyd’s with approximately $2.4 million cash, to collateralize its obligations under a quota-share agreement
with a FAL syndicate. The initial contract covered our quota-share percentage of all risks written by the syndicate for the 2021 calendar
year. On November 30, 2021, we entered into an agreement with the same syndicate, slightly increasing our quota-share percentage of the
risks the syndicate writes for the 2022 calendar year. This resulted in FGRe’s posting an additional $1.0 million in cash collateral
to the account. In June 2022, FGRe received approximately $0.4 million in a partial return of initial collateral. During 2021, we also
posted cash collateral in the approximate amount of $1.0 million, to support our automotive insurance quota-share agreement entered on
April 1, 2021. We entered into an additional agreement with the same automotive insurance company on April 1, 2022, and in the third
quarter of 2022, we posted additional collateral of approximately $0.2 million. In the third quarter of 2022, FGRe posted cash collateral
of approximately $1.1 million and received approximately $1.5 million in premiums from the cedent, to support the homeowners’ property
catastrophe excess of loss reinsurance contract that became effective April 1, 2022. The cash is held in a segregated account until such
time that the Company’s liability for losses ascribed have been commuted, or all losses have been closed or settled for this contract.
The named tropical storm season starts June 1, 2022 and ends November 30, 2022.
As
of September 30, 2022, and December 31, 2021, the total cash collateral posted to support all of our reinsurance treaties was approximately
$6.7 million and $4.4 million, respectively.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Loss
and Loss Adjustment Expense Reserves
The
Company maintains reserves equal to our estimated ultimate liability for losses and loss adjustment expense for reported and unreported
claims from our reinsurance business. Loss and loss adjustment reserve estimates are based primarily on estimates derived from reports
the Company has received from ceding companies. The Company then uses a variety of statistical and actuarial techniques to monitor reserve
adequacy. When setting reserves, the Company considers many factors including: (1) the types of exposures and projected ultimate premium
to be written by our cedants; (2) expected loss ratios by type of business; (3) actuarial methodologies which analyze loss reporting
and payment experience, reports from ceding companies and historical trends; and (4) general economic conditions. The Company also engages
independent actuarial specialists, at least annually, to assist management in establishing appropriate reserves. Since reserves are estimates,
the final settlement of losses may vary from the reserves established, and any adjustments to the estimates, which may be material, are
recorded in the period they are determined. The final settlement of losses may vary, perhaps materially, from the reserves recorded.
U.S.
GAAP does not permit establishing loss reserves, which include case reserves and IBNR loss reserves, until the occurrence of an event
which may give rise to a claim. As a result, only loss reserves applicable to losses incurred up to the reporting date are established,
with no allowance for the establishment of loss reserves to account for expected future loss events.
Generally,
the Company obtains regular updates of premium and loss related information for the current and historical periods, which are utilized
to update the initial expected loss ratio. We also experience a lag between (i) claims being reported by the underlying insured to the
Company’s cedent and (ii) claims being reported by the Company’s cedent to the Company. This lag may impact the Company’s
loss reserve estimates. Client reports have pre-determined due dates (for example, thirty days after each month end). As a result, the
lag depends in part upon the terms of the specific contract. The timing of the reporting requirements is designed so that the Company
receives premium and loss information as soon as practicable once the client has closed its books. Accordingly, there should be a short
lag in such reporting. Additionally, most of the contracts that have the potential for large single event losses have provisions that
such loss notifications are provided to the Company immediately upon the occurrence of an event.
Stock-Based
Compensation
The
Company has accounted for stock-based compensation under the provisions of ASC Topic 718 – Stock Compensation which requires
the use of the fair-value based method to determine compensation for all arrangements under which employees and others receive shares
of stock or equity instruments. The fair value of each stock option award is estimated on the date of grant using the Black-Scholes valuation
model using assumptions for expected volatility, expected dividends, expected term, and the risk-free interest rate along with multiple
Monte Carlo simulations to determine a derived service period as the options vest based upon meeting certain performance conditions.
The fair value of each stock option award is recorded as compensation expense on a straight-line basis over the requisite service period,
which is generally the period in which the stock options vest, with a corresponding increase to additional paid-in capital.
The
Company has also issued restricted stock units (“RSUs”) to certain of its employees and directors which have been accounted
for as equity-based awards since, upon vesting, they are required to be settled in the Company’s common shares. We have used the
fair value of the Company’s common stock on the date the RSUs were issued to estimate the grant date fair value of those RSUs which
vest solely based upon the passage of time. The fair value of each RSU is recorded as compensation expense over the requisite service period,
which is generally the expected period over which the awards will vest. In the case of those RSUs which vest upon market-based conditions,
should the market-based condition be achieved prior to the expiration of the derived service period, any unrecognized cost will be recorded
as compensation expense in the period in which the RSUs actually vest.
Based
upon the Company’s historical forfeiture rates relating to stock options and RSUs, the Company has not made any adjustment to stock
compensation expense for expected forfeitures as of September 30, 2022.
Fair
Value of Financial Instruments
The
carrying values of certain financial instruments, including cash, short-term investments, deposits held, accounts payable, and other
liabilities approximate fair value due to their short-term nature. The Company measures the fair value of financial instruments in accordance
with GAAP which defines fair value as the exchange price that would be received for an asset (or paid to transfer a liability) in the
principal or most advantageous market for the asset (or liability) in an orderly transaction between market participants on the measurement
date. GAAP also establishes a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the
use of unobservable inputs when measuring fair value. See Note 4 for further information on the fair value of the Company’s financial
instruments.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Earnings
(Loss) Per Common Share
Basic
earnings (loss) per common share is computed using the weighted average number of shares outstanding during the respective period.
Diluted
earnings (loss) per common share assumes conversion of all potentially dilutive outstanding stock options, restricted stock units, warrants
or other convertible financial instruments. Potential common shares outstanding are excluded from the calculation of diluted earnings
(loss) per share if their effect is anti-dilutive.
Note
3. Recently Adopted and Issued Accounting Standards
Accounting
Standards Pending Adoption
ASU
2016-13: Financial Instruments – Credit Losses
In
June 2016, the FASB issued ASU 2016-13: Financial Instruments – Credit Losses: Measurement of Credit Losses on Financial Instruments.
ASU 2016-13 was issued to provide financial statement users with more useful information regarding the expected credit losses on financial
instruments held as assets. Under current GAAP, financial statement recognition for credit losses on financial instruments is generally
delayed until the occurrence of the loss was probable. The amendments of ASU 2016-13 eliminate this probable initial recognition threshold
and instead reflect an entity’s current estimate of all expected credit losses. The amendments also broaden the information that
an entity must consider in developing its expected credit loss estimates for those assets measured at amortized cost by using forecasted
information instead of the current methodology which only considered past events and current conditions. Under ASU 2016-13, credit losses
on certain types of financial instruments will be measured in a manner similar to current GAAP; however, the amendments require that
credit losses be presented as an allowance against the financial instrument, rather than as a write-down. The amendments also allow the
entity to record reversals of credit losses in current period net income, which is prohibited under current GAAP. The amendments in this
update are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years, with early
adoption permitted, however smaller reporting companies, like the Company, may delay adoption until January 2023. The Company is currently
evaluating the impact of the adoption of ASU 2016-13 on its consolidated financial statements. We anticipate that the amounts we record
as due to us from our cedant companies under our reinsurance contracts will be impacted by the adoption of ASU 2016-13, requiring us
to record an allowance for any projected losses we may incur on these assets. The Company has begun evaluating their position by pooling
contracts with shared risk characteristics, evaluating credit worthiness of the counterparties, and defining exposure through contract
length, total reinsurance exposure, and collateralized position.
Note
4. Investments and Fair Value Disclosures
The
following table summarizes the Company’s investments held at fair value as of September 30, 2022 and December 31, 2021:
Schedule of Investments
| (in thousands) | |
| | |
| | |
| | |
| |
| As of September 30, 2022 | |
Cost Basis | | |
Gross Unrealized Gains | | |
Gross Unrealized Losses | | |
Carrying Amount | |
| FedNat common stock | |
$ | 1,983 | | |
$ | – | | |
$ | 1,967 | | |
$ | 16 | |
| Total investments | |
$ | 1,983 | | |
$ | – | | |
$ | 1,967 | | |
$ | 16 | |
| As of December 31, 2021 | |
Cost Basis | | |
Gross Unrealized Gains | | |
Gross Unrealized Losses | | |
Carrying Amount | |
| FedNat common stock | |
$ | 14,495 | | |
$ | – | | |
$ | 13,074 | | |
$ | 1,421 | |
| Total investments | |
$ | 14,495 | | |
$ | – | | |
$ | 13,074 | | |
$ | 1,421 | |
FedNat
Common Stock
As
of September 30, 2022, the Company held 137,871 shares of FedNat Holding Company common stock (Nasdaq: FNHC). Of the total 1,773,102
shares of FedNat common stock which the Company had received as consideration for the Asset Sale, the Company has disposed of 1,635,231
shares. During the third quarter of 2022, the Company sold 217,500 shares of FedNat common stock on the open market. On October 2, 2022,
the Company sold the remaining shares held of FedNat common stock for approximately $30,000 of net proceeds.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Deconsolidation
of Subsidiary
The
Company’s original investment in FG Special Situations Fund, LP (the “Fund”), a Delaware limited partnership, consisted
of an investment as both a limited and general partner. At the time of the Company’s initial investment into the Fund, in September
2020, the Company had determined that its investment represented an investment in a variable interest entity (“VIE”) in which
the Company was the primary beneficiary and as such, had consolidated the financial results of the Fund through November 30, 2021. At
each reporting date, the Company evaluates whether it remains the primary beneficiary and continuously reconsiders that conclusion. On
December 1, 2021, the Company no longer had the power to govern the financial and operating policies of the Fund, and accordingly derecognized
the related assets, liabilities, and noncontrolling interests of the Fund as of that date. The Company did not receive any consideration
in the deconsolidation of the Fund, nor did it record any gain or loss upon deconsolidation as the Company carried its investment at
fair value. The assets and liabilities of the Fund, over which the Company lost control, were as follows:
Schedule of Subsidiaries Assets
| As of December 1, 2021 (in thousands) | |
| |
| Cash and cash equivalents | |
$ | 100 | |
| Investments in private placements | |
| 15,734 | |
| Investments in public SPACs | |
| 22 | |
| Other assets | |
| 18 | |
| Other liabilities | |
| (34 | ) |
| Net assets deconsolidated | |
$ | 15,840 | |
While
the Company’s investments in the Fund are no longer consolidated, the Company has retained its interest in all of the investments
held at the Fund. Accordingly, the Company has not presented its investment in the Fund as a discontinued operation. Effective December
1, 2021, the Company began accounting for its investment in the Fund via the equity method of accounting.
Equity
Method Investments
Other
investments on the Company’s Consolidated Balance Sheets consists of equity method investments, which as of September 30, 2022
includes our investment in FGMP and the Fund.
On
January 4, 2021, FGMP was formed as a Delaware limited partnership to co-sponsor newly formed SPACs with their founders or partners.
The Company is the sole managing member of the general partner of FGMP and holds a limited partner interest in FGMP directly and
through its subsidiaries. FGMP participates as a co-sponsor of the SPACs launched under our SPAC Platform. For
the nine months ended September 30, 2022, the Company has contributed $0.1 million into FGMP, and has recorded equity
method gains of approximately $2.4 million. The carrying value of our investment in FGMP as of September 30, 2022 was
approximately $4.9 million,
all of which is in the form of undistributed earnings. Of the $4.9 million
carrying value of our investment in FGMP, the Company may allocate up to approximately $1.0 million
to incentivize and compensate individuals and entities for the successful merger of SPAC’s launched under our platform.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Certain
investments held by our equity method investees are valued using Monte-Carlo simulation and option pricing models. Inherent in Monte-Carlo
simulation and option pricing models are assumptions related to expected volatility and discount for lack of marketability of the underlying
investment. Our investees estimate the volatility of these investments based on the historical performance of various broad market indices
blended with various peer companies which they consider as having similar characteristics to the underlying investment, as well as consideration
of price and volatility of relevant publicly traded securities such as SPAC warrants.
Equity
method investments also include our investment in the Fund as of September 30, 2022. Until December 1, 2021, we had consolidated the
Fund as a variable interest entity, however, effective December 1, 2021, we began accounting for this investment under the equity
method of accounting. For the nine months ended September 30, 2022, the Company has contributed $6.7 million into the Fund, and has
received distributions in the approximate amount of $3.3 million .
The Company has recorded equity method gains from the Fund of approximately $3.6 million
for the nine months ended September 30, 2022. As of September 30, 2022,
the carrying value of our investment in the Fund was approximately $16.8 million.
Financial
information for our investments accounted for under the equity method, in the aggregate, is as follows:
Schedule of Investments under Equity Method
| | |
As
of
September 30, 2022 | | |
As of
December 31, 2021 | |
| (in thousands) | |
| | | |
| | |
| Other investments | |
$ | 33,762 | | |
$ | 25,936 | |
| Cash | |
| 130 | | |
| 72 | |
| Other assets | |
| 39 | | |
| 16 | |
| Total assets | |
| 33,931 | | |
| 26,024 | |
| | |
| | | |
| | |
| Accounts payable | |
$ | 42 | | |
$ | 19 | |
| Other liabilities | |
| – | | |
| – | |
| Total liabilities | |
| 42 | | |
| 19 | |
| | |
Nine months ended September 30, 2022 | | |
Nine months ended September 30, 2021 | |
| (in thousands) | |
| | | |
| | |
| Net investment income (loss) | |
$ | 8,170 | | |
$ | 7,498 | |
| General and administrative expenses | |
| (95 | ) | |
| (143 | ) |
| Net income (loss) | |
| 8,075 | | |
| 7,355 | |
Investments
without Readily Determinable Fair Value
In
addition to our equity method investments, other investments as listed on our balance sheet also consist of equity we have purchased
in a limited partnership and a limited liability company for which there does not exist readily determinable fair values. The Company
accounts for these investments at their cost, minus impairment, if any, plus or minus changes resulting from observable price changes
in orderly transactions for identical or similar investment of the same issuer. Any profit distributions the Company receives on these
investments are included in net investment income. The Company’s total investment in these two entities was approximately $298,000
as of September 30, 2022. Both investments began returning capital to investors beginning in 2020. As of September 30, 2022, the Company
has received approximately 62% of its initial $776,000 investment in these entities. There have been no upward or downward price adjustments
to these investments for the nine months ended September 30, 2022 and 2021.
Impairment
For
equity securities without readily determinable fair values, impairment is determined via a qualitative assessment which considers indicators
to evaluate whether the investment is impaired. Some of these indicators include a significant deterioration in the earnings performance
or asset quality of the investee, a significant adverse change in regulatory, economic or general market conditions in which the investee
operates, or doubt over an investee’s ability to continue as a going concern. If the investment is deemed to be impaired after
conducting this analysis, the Company would estimate the fair value of the investment to determine the amount of impairment loss.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
For
equity method investments, such as the Company’s investments in FGMP and the Fund, evidence of a loss in value might include a
series of operating losses of an investee, the absence of an ability to recover the carrying amount of the investment, or a deterioration
in the value of the investee’s underlying assets. If these, or other indicators lead to the conclusion that there is a decrease
in the value of the investment that is other than temporary, the Company would recognize that decrease in value even though the decrease
may be in excess of what would otherwise be recognized under the equity method of accounting.
The
risks and uncertainties inherent in the assessment methodology used to determine impairment include, but may not be limited to, the following:
| |
● |
the
opinions of professional investment managers and appraisers could be incorrect; |
| |
|
|
| |
● |
the
past operating performance and cash flows generated from the investee’s operations may not reflect their future performance;
and |
| |
|
|
| |
● |
the
estimated fair values for investment for which observable market prices are not available are inherently imprecise. |
We
have not recorded an impairment on our investments for either of the nine months ended September 30, 2022 or 2021.
Net
investment income (loss) for the three and nine months ended September 30, 2022 and 2021 is as follows:
Schedule of Net Investment Income (Loss)
| | |
2022 | | |
2021 | | |
2022 | | |
2021 | |
| ($ in thousands) | |
Three Months Ended
September 30, | | |
Nine Months Ended
September 30, | |
| | |
2022 | | |
2021 | | |
2022 | | |
2021 | |
| Investment income (loss): | |
| | | |
| | | |
| | | |
| | |
| Realized loss on FedNat common stock | |
$ | (2,472 | ) | |
$ | - | | |
$ | (11,441 | ) | |
$ | - | |
| Unrealized gain (loss) on FedNat common stock | |
| 2,448 | | |
| (2,424 | ) | |
| 10,521 | | |
| (4,978 | ) |
| Unrealized holding gain on private placement investments | |
| – | | |
| 4 | | |
| – | | |
| 5,120 | |
| Equity method earnings | |
| 11,226 | | |
| 1,070 | | |
| 6,080 | | |
| 2,527 | |
| Other | |
| (28 | ) | |
| 51 | | |
| (46 | ) | |
| 123 | |
| Net investment income (loss) | |
$ | 11,174 | | |
$ | (1,299 | ) | |
$ | 5,114 | | |
$ | 2,792 | |
Fair
Value Measurements
The
Company determines fair value based on assumptions that market participants would use in pricing an asset or liability in the principal
or most advantageous market. The FASB has issued guidance that defines fair value as the exchange price that would be received for an
asset (or paid to transfer a liability) in the principal, or most advantageous market in an orderly transaction between market participants.
This guidance also establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the
use of unobservable inputs when measuring fair value. The guidance categorizes assets and liabilities at fair value into one of three
different levels depending on the observation of the inputs employed in the measurements, as follows:
| |
● |
Level
1 – inputs to the valuation methodology are quoted prices for identical assets or liabilities in active markets providing the
most reliable measurement of fair value since it is directly observable. |
| |
|
|
| |
● |
Level
2 – inputs to the valuation methodology which include quoted prices for similar assets or liabilities in active markets. These
inputs are observable, either directly or indirectly, for substantially the full-term of the financial instrument. |
| |
|
|
| |
● |
Level
3 - inputs to the valuation methodology which are unobservable and significant to the measurement of fair value. |
The
availability of valuation techniques and observable inputs can vary from investment to investment and are affected by a variety of factors,
including the type of investment, whether the investment is new and not yet established in the marketplace, the liquidity of markets
and other characteristics specific to the individual investment. In some cases, the inputs used to measure fair value might be categorized
within different levels of the fair value hierarchy. In those instances, the fair value measurement is categorized in its entirety in
the hierarchy based on the lowest level input that is significant to the fair value measurement. When determining fair value, the Company
uses valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
We
have valued our investment in FedNat at its last reported sales price as the shares are traded on a national exchange. They have been
characterized in Level 1 of the fair value hierarchy.
Financial
instruments measured, on a recurring basis, at fair value as of September 30, 2022 and December 31, 2021 in accordance with the guidance
promulgated by the FASB are as follows.
Schedule of Financial Instruments Measured at Fair Value
| (in thousands) | |
| | |
| | |
| | |
| |
| | |
| | |
| | |
| | |
| |
| As of September 30, 2022 | |
Level 1 | | |
Level 2 | | |
Level 3 | | |
Total | |
| FedNat common stock | |
$ | 16 | | |
$ | – | | |
$ | – | | |
$ | 16 | |
| | |
$ | 16 | | |
$ | – | | |
$ | – | | |
$ | 16 | |
| | |
| | | |
| | | |
| | | |
| | |
| As of December 31, 2021 | |
| | | |
| | | |
| | | |
| | |
| FedNat common stock | |
$ | 1,421 | | |
$ | – | | |
$ | – | | |
$ | 1,421 | |
| | |
$ | 1,421 | | |
$ | – | | |
$ | – | | |
$ | 1,421 | |
Note
5. Loss and Loss Adjustment Expense Reserves
A
significant degree of judgment is required to determine amounts recorded in the Company’s consolidated financial statements for
the provision for loss and loss adjustment expense (“LAE”) reserves. The process for establishing this provision reflects
the uncertainties and significant judgmental factors inherent in predicting future results of both known and unknown loss events. The
process of establishing the provision for loss and LAE reserves relies on the judgment and opinions of many individuals, including the
opinions of the Company’s management, as well as the management of ceding companies and their actuaries.
The
COVID-19 pandemic is unprecedented, and the Company does not have previous loss experience on which to base the associated estimate for
loss and loss adjustment expenses. In estimating losses, the Company may assess any of the following:
| ● |
a
review of in-force treaties that may provide coverage and incur losses; |
| |
|
| ● |
general
forecasts, catastrophe and scenario modelling analyses and results shared by cedents; |
| |
|
| ● |
reviews
of industry insured loss estimates and market share analyses; and |
| |
|
| ● |
management’s
judgment. |
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Assumptions
which served as the basis for the Company’s estimates of reserves for the COVID-19 pandemic losses and loss adjustment expenses
include:
| ● |
the
scope of coverage provided by the underlying policies, particularly those that provide for business interruption coverage; |
| |
|
| ● |
the
regulatory, legislative, and judicial actions that could influence contract interpretations across the insurance industry; |
| |
|
| ● |
the
extent of economic contraction caused by the COVID-19 pandemic and associated actions; and |
| |
|
| ● |
the
ability of the cedents and insured to mitigate some or all of their losses. |
Under
the terms of certain of our quota-share agreements, and due to the nature of claims and premium reporting, a lag exists between (i) claims
being reported by the underlying insured to the Company’s cedent and (ii) claims being reported by the Company’s cedent to
the Company. This lag may impact the Company’s loss reserve estimates. The reports we receive from our cedents have pre-determined
due dates. In the case of the Company’s FAL contracts, third quarter 2022 premium and loss information will not be made available
to the Company until subsequent to the filing of this quarterly report. Thus, our third quarter results, including the loss and loss
adjustment expense reserves presented herein, have been based upon a combination of actual results through the second quarter 2022 as
well as forecasts for the remainder of 2022 reported to us by the ceding companies. We have approximated third quarter 2022 results under
our contracts based upon this historical and forecasted information.
While
the Company believes its estimate of loss and loss adjustment expense reserves are adequate as of September 30, 2022, based on available
information, actual losses may ultimately differ materially from the Company’s current estimates. The Company will continue to
monitor the appropriateness of its assumptions as new information is provided.
A
summary of changes in outstanding loss and loss adjustment expense reserves for the nine months ended September 30, 2022 and 2021, is
as follows:
Summary of Changes in Outstanding Loss and Loss Adjustment Expense Reserves
| | |
2022 | | |
2021 | |
| (in thousands) | |
Nine months ended September 30, | |
| | |
2022 | | |
2021 | |
| Balance, beginning of period, gross of reinsurance | |
$ | 2,133 | | |
$ | – | |
| Less: reinsurance recoverable on loss and LAE expense reserves | |
| – | | |
| – | |
| Balance, beginning of period, net of reinsurance | |
$ | 2,133 | | |
$ | – | |
| Incurred related to: | |
| – | | |
| – | |
| Current year | |
| 4,984 | | |
| 1,893 | |
| Prior year | |
| 814 | | |
| – | |
| Paid related to: | |
| | | |
| | |
| Current year | |
| (2,568 | ) | |
| (549 | ) |
| Prior years | |
| (1,230 | ) | |
| – | |
| Balance, September 30, net of reinsurance | |
$ | 4,133 | | |
$ | 1,344 | |
| Plus: reinsurance recoverable related to loss and LAE expense reserves | |
| – | | |
| – | |
| Reinsurance recoverable related to loss and LAE expense reserves | |
| | | |
| | |
| Balance, September 30, gross of reinsurance | |
$ | 4,133 | | |
$ | 1,344 | |
Note
6. Income Taxes
A
summary of income tax expense (benefit) is as follows:
Summary of Income Tax Expense (Benefit)
| | |
2022 | | |
2021 | |
| (in thousands) | |
Nine months ended September 30, | |
| | |
2022 | | |
2021 | |
| Current income tax benefit – from continuing operations | |
$ | – | | |
$ | – | |
| Current income tax benefit – from discontinued operations | |
| – | | |
| – | |
| Total current income tax benefit | |
| – | | |
| – | |
| | |
| | | |
| | |
| Deferred income tax benefit – from continuing operations | |
| – | | |
| – | |
| Deferred income tax benefit – from discontinued operations | |
| – | | |
| – | |
| Total deferred income tax benefit | |
| – | | |
| – | |
| | |
| | | |
| | |
| Total income tax benefit – from continuing operations | |
| – | | |
| – | |
| Total income tax benefit – from discontinued operations | |
$ | – | | |
$ | (145 | ) |
| Total income tax benefit | |
$ | – | | |
$ | (145 | ) |
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Actual
income tax expense (benefit) differs from the income tax expense computed by applying the applicable effective federal and state tax
rates to income before income tax expense as follows:
Schedule of Reconciliation Effective Tax Rates
| | |
2022 | | |
2021 | | |
2022 | | |
2021 | |
| ($ in thousands) | |
Three months ended September 30, | | |
Nine months ended September 30, | |
| | |
2022 | | |
2021 | | |
2022 | | |
2021 | |
| Provision for taxes at U.S, statutory marginal income tax rate of 21% | |
$ | 2,154 | | |
$ | (923 | ) | |
$ | 201 | | |
$ | (854 | ) |
| Valuation allowance for deferred tax assets deemed unrealizable | |
| (2,168 | ) | |
| 1,041 | | |
| (219 | ) | |
| 1,081 | |
| Rate differential due to CARES Act | |
| – | | |
| – | | |
| – | | |
| – | |
| Non-deductible expenses associated with the Share Repurchase Transaction | |
| 2 | | |
| – | | |
| 2 | | |
| - | |
| Net operating loss carryback | |
| – | | |
| - | | |
| | | |
| | |
| State income tax (net of federal benefit) | |
| – | | |
| - | | |
| – | | |
| (114 | ) |
| Noncontrolling interests | |
| | | |
| (119 | ) | |
| | | |
| (259 | ) |
| Share-based compensation | |
| 12 | | |
| | | |
| 16 | | |
| – | |
| Other | |
| – | | |
| 1 | | |
| | | |
| 1 | |
| Income tax expense (benefit) | |
$ | – | | |
$ | – | | |
$ | – | | |
$ | (145 | ) |
Deferred
income taxes reflect the net tax effects of temporary differences between carrying amounts of assets and liabilities for financial reporting
purposes as compared to the amounts used for income tax purposes. The Company’s gross deferred tax assets and liabilities are $7.9
million and $2.4 million as of September 30, 2022. The Company has recorded a valuation allowance against its deferred tax assets of
$5.5 million, as of September 30, 2022, due to the uncertain nature surrounding our ability to realize these tax benefits in the future.
Significant components of the Company’s net deferred tax assets are as follows:
Schedule of Deferred Income Taxes
| | |
| | | |
| | |
| (in thousands) | |
| |
| | |
As of
September
30, 2022 | | |
As of
December
31, 2021 | |
| Deferred income tax assets: | |
| | | |
| | |
| Net operating loss carryforward | |
$ | 3,981 | | |
$ | 3,010 | |
| Loss and loss adjustment expense reserves | |
| 48 | | |
| 25 | |
| Unearned premium reserves | |
| 276 | | |
| 152 | |
| Capital loss carryforward | |
| 2,929 | | |
| 1,114 | |
| Share-based compensation | |
| 241 | | |
| 253 | |
| Investments | |
| 413 | | |
| 1,692 | |
| Other | |
| 3 | | |
| 3 | |
| Deferred income tax assets | |
$ | 7,891 | | |
$ | 6,249 | |
| Less: Valuation allowance | |
| (5,496 | ) | |
| (5,715 | ) |
| Deferred income tax assets net of valuation allowance | |
$ | 2,395 | | |
$ | 534 | |
| | |
| | | |
| | |
| Deferred income tax liabilities: | |
| | | |
| | |
| Investments | |
$ | 1,989 | | |
$ | 369 | |
| Other | |
| 3 | | |
| – | |
| Deferred policy acquisition costs | |
| 403 | | |
| 165 | |
| Deferred income tax liabilities | |
$ | 2,395 | | |
$ | 534 | |
| | |
| | | |
| | |
| Net deferred income tax asset (liability) | |
$ | – | | |
$ | – | |
As
of September 30, 2022, the Company had net operating loss carryforwards (“NOLs”) for federal income tax purposes of approximately
$19.0 million, which will be available to offset future taxable income. Approximately $0.5 million expire on December 31, 2039, $0.1
million expire on December 31, 2040, and $1.6 million of the Company’s NOLs will expire on December 31, 2041. The remaining $16.8
million of the Company’s NOLs do not expire under current tax law. Additionally, the Company has approximately $2.9 million of
capital loss carryforward that can only be used to offset capital gains and which will expire in December 2026 if not used prior.
As
of September 30, 2022, the Company had no unrecognized tax benefits. The Company analyzed its tax positions in accordance with the provisions
of Accounting Standards Codification Topic 740, Income Taxes, and has determined that there are currently no uncertain tax positions.
The Company generally recognizes interest and penalties, if any, related to unrecognized tax benefits in income tax expense.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Note
7. Equity Incentive Plan Grants
On
December 15, 2021, our shareholders approved the FG Financial Group, Inc. 2021 Equity Incentive Plan (the “2021 Plan”). The
purpose of the 2021 Plan is to attract and retain directors, consultants, officers and other key employees of the Company and its subsidiaries
and to provide to such persons incentives and rewards for superior performance. The 2021 Plan is administered by the Compensation and
Management Resources Committee of the Board and has a term of ten years. The 2021 Plan awards may be in the form of stock options (which
may be incentive stock options or nonqualified stock options), stock appreciation rights (or “SARs”), restricted shares,
restricted stock units (“RSUs”), and other share-based awards, and provides for a maximum of 1,500,000 shares available for
issuance.
As
of September 30, 2022, the Company had 272,815 RSUs outstanding, 25,000 restricted shares, and 130,000 non-qualified stock options outstanding
under its equity incentive plans.
RSUs
Outstanding
The
following table summarizes RSU activity for the nine months ended September 30, 2022 and 2021.
Schedule of Restricted Stock Units Activity
| Restricted Stock Units | |
Number of Units | | |
Weighted Average Grant Date Fair Value | |
| Non-vested units, January 1, 2022 | |
| 164,655 | | |
$ | 4.35 | |
| Granted | |
| 158,225 | | |
| 1.58 | |
| Vested | |
| (50,065 | ) | |
| 4.81 | |
| Forfeited | |
| — | | |
| — | |
| Non-vested units, September 30, 2022 | |
| 272,815 | | |
$ | 2.66 | |
| | |
| | | |
| | |
| Non-vested units, January 1, 2021 | |
| 148,486 | | |
$ | 5.44 | |
| Granted | |
| — | | |
| — | |
| Vested | |
| (63,161 | ) | |
| 5.55 | |
| Forfeited | |
| — | | |
| — | |
| Non-vested units, September 30, 2021 | |
| 85,325 | | |
$ | 5.36 | |
On
December 17, 2021, we issued a total of 83,329 RSUs to our non-employee directors. The RSUs vest in five equal annual installments, beginning
with the first anniversary of the grant date, other than those RSUs granted to a former director. As the former director made himself
available to serve on the Board but was not elected to do so at the Company’s 2021 annual meeting of shareholders, the Board accelerated
the vesting of his RSUs, such that they all vested on January 1, 2022. This included 14,492 RSUs granted on December 17, 2021, as well
as an additional 15,224 RSUs previously granted. On August 19, 2022, we issued a total of 158,225 RSUs to our non-employee directors.
The RSUs vest in five equal annual installments, beginning with the first anniversary of the grant date.
Restricted
Shares
On
July 31, 2022, the Company issued 25,000 restricted shares under the 2021 Equity Incentive Plan to an employee of the Company. The restriction
will be lifted on the first anniversary of the grant date.
Stock
Options Outstanding
On
January 12, 2021, in connection with Larry G. Swets, Jr.’s appointment as Chief Executive Officer, the Company entered into a Stock
Option Agreement (the “Stock Option”) with Mr. Swets. The Stock Option entitles Mr. Swets to purchase up to 130,000 shares
of the Company’s common stock at an exercise price of $3.38 per share. The Stock Option becomes vested and fully exercisable in
20% increments on each anniversary of the grant date, provided that Mr. Swets remains in the continuous service of the Company through
each applicable vesting date and that the Company’s book value per share has increased by 15% or more as compared to the Company’s
book value per share as of the fiscal year end prior. The Stock Option expires on January 11, 2031.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
The
Stock Option contains performance and service conditions that affect vesting. Pursuant to ASC Topic 718- Stock Compensation, these
conditions have not been reflected in estimating the fair value of the award upon its grant date; however, the Company employed a Monte-Carlo
model to estimate the likelihood of satisfaction of the required performance and service conditions. This resulted in a derived service
period of approximately 3.3 years under the grant.
In
estimating the fair value of the Stock Option, the Company estimated volatility based on the historical volatility of our stock. The
risk-free interest rate is based on the U.S. Treasury Constant Maturity similar to the expected remaining life of the Stock Option. The
expected life of the Stock Option is assumed to be equivalent to its contractual term. The dividend rate is based on our historical rate,
which the Company anticipates will remain at zero. The following assumptions were used to determine the estimated fair value of the Stock
Option:
Schedule of Fair Value of Stock Options
| Expected volatility | |
| 45.60 | % |
| Expected life (years) | |
| 10.00 | |
| Risk-free interest rate | |
| 1.15 | % |
| Dividend yield | |
| 0.00 | % |
The
following table summarizes activity for stock options issued for the nine months ended September 30, 2022 and 2021.
Schedule of Stock Option Activity
| Common Stock Options | |
Shares | | |
Weighted Ave Exercise Price | | |
Weighted Ave Remaining Contractual Term (yrs) | | |
Weighted Ave Grant Date Fair Value | | |
Aggregate Intrinsic Value | |
| Outstanding, January 1, 2022 | |
| 130,000 | | |
$ | 3.38 | | |
| 9.04 | | |
$ | 1.88 | | |
$ | 49,400 | |
| Exercisable, January 1, 2022 | |
| – | | |
$ | – | | |
| – | | |
$ | – | | |
$ | – | |
| Granted | |
| | | |
| | | |
| | | |
| – | | |
| – | |
| Exercised | |
| – | | |
| – | | |
| – | | |
| – | | |
| – | |
| Cancelled | |
| – | | |
| – | | |
| – | | |
| – | | |
| – | |
| Outstanding, September 30, 2022 | |
| 130,000 | | |
$ | 3.38 | | |
| 8.29 | | |
$ | 1.88 | | |
$ | – | |
| Exercisable, September 30, 2022 | |
| – | | |
$ | – | | |
| – | | |
$ | – | | |
$ | – | |
| | |
| | | |
| | | |
| | | |
| | | |
| | |
| Outstanding, January 1, 2021 | |
| – | | |
$ | – | | |
| – | | |
$ | – | | |
$ | – | |
| Exercisable, January 1, 2021 | |
| – | | |
$ | – | | |
| – | | |
$ | – | | |
$ | – | |
| Granted | |
| 130,000 | | |
| 3.38 | | |
| 10.00 | | |
| 1.88 | | |
| – | |
| Exercised | |
| – | | |
| – | | |
| – | | |
| – | | |
| – | |
| Cancelled | |
| – | | |
| – | | |
| – | | |
| – | | |
| – | |
| Outstanding, September 30, 2021 | |
| 130,000 | | |
$ | 3.38 | | |
| 9.29 | | |
$ | 1.88 | | |
$ | 193,700 | |
| Exercisable, September 30, 2021 | |
| – | | |
$ | – | | |
| – | | |
$ | – | | |
$ | – | |
On
January 18, 2021, the Company entered into an Equity Award Letter Agreement (the “Letter Agreement”) with Mr. Swets, pursuant
to which the Company clarified its intention to grant an additional 370,000 stock options, restricted shares or restricted stock units
pursuant to a future award (the “Future Award”), subject to the approval of an amended and/or new equity plan, among other
conditions. Specifically, under the Letter Agreement, no such Future Award may be granted until there is a determination by the Compensation
Committee of the specific vesting and other terms of the award.
Total
stock-based compensation expense for the nine months ended September 30, 2022 and 2021 was approximately $180,000 and $376,000, respectively.
As of September 30, 2022, total unrecognized stock compensation expense of approximately $718,000 remains, which will be recognized through
December 31, 2026. Stock compensation expense has been reflected in the Company’s financial statements as part of general and administrative
expense.
Warrants
No
warrants were granted or exercised during the nine months ended September 30, 2022 and 2021. On February 24, 2022, 1,500,000 warrants
with an exercise price of $15.00 expired. As of September 30, 2022, the Company did not have any warrants outstanding.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Note
8. Related Party Transactions
Related
party transactions are carried out in the normal course of operations and are measured in part by the amount of consideration paid or
received, as established and agreed by the parties. Management believes that consideration paid for such services in each case approximates
fair value. Except where disclosed elsewhere in these consolidated financial statements, the following is a summary of related party
transactions.
Joint
Venture Agreement
On
March 31, 2020, the Company entered into a Limited Liability Company Agreement with Fundamental Global Asset Management, LLC (“FGAM”),
a newly formed joint venture owned 50% by each of the Company and FG. The purpose of FGAM is to sponsor, capitalize and provide strategic
advice to investment managers in connection with the launch and/or growth of their asset management businesses and the investment products
they sponsor (each, a “Sponsored Fund”).
FGAM
is governed by a Board of Managers consisting of four managers, two of which have been appointed by each Member. The Company has appointed
two of its independent directors to the Board of Managers of FGAM. Certain major actions, including any decision to sponsor a new investment
manager, require the prior consent of both Members.
FG
Special Situations Fund
As
of September 30, 2022, the Company had invested $12.1 million, net of redemptions at cost, as a limited partner in the Fund. The general
partner of the Fund, and the investment advisor of the Fund are ultimately controlled by Mr. Cerminara, the Chairman of the Company’s
Board of Directors. Portions of the Company’s investment into the Fund were used to sponsor the launch of SPACs affiliated with
certain of our officers and directors.
Mr.
Cerminara, our chairman, and Mr. Swets, our Chief Executive Officer and Director, are managers of the sponsor company of FG New America
Acquisition Corp (“FGNA”). Mr. Cerminara, Mr. Swets and Mr. Baqar, our Executive Vice President and Chief Financial Officer,
serve as managers of the sponsor companies of FG Merger and FG Acquisition. Until FGNA’s business combination with OppFi (NYSE:
OPFI), Mr. Swets was the Chief Executive Officer and a Director of FGNA, Mr. Cerminara was a Director of FGNA, and Mr. Baqar was the
Chief Financial Officer of FGNA. Until Aldel’s business combination with Hagerty, Mr. Swets served as Senior Advisor to Aldel,
Mr. Baqar served as Chief Financial Officer of Aldel, and Mr. Cerminara served as a Director of Aldel. Messrs. Cerminara, Swets, and
Baqar also hold financial interests in the SPACs and/or their sponsor companies. Mr. Swets serves as Chairman of FG Merger, while Messrs.
Baqar and Cerminara serve as Director and Senior Advisor of FG Merger, respectively. Mr. Swets serves as Chief Executive Officer and
Director of FG Acquisition. Mr. Baqar serves as Chief Financial Officer, Secretary and Director of FG Acquisition. Mr. Cerminara serves
as Chairman of FG Acquisition.
FG
Merchant Partners
FGMP
was formed to co-sponsor newly formed SPACs with their founders or partners. The Company is the sole managing member of the general partner
of FGMP and holds a limited partner interest in FGMP. Certain of our directors and officers also hold limited partner interests in FGMP.
Mr. Swets holds a limited partner interest through Itasca Financial LLC, an advisory and investment firm for which Mr. Swets is managing
member. Mr. Baqar also holds a limited partner interest through Sequoia Financial LLC, an advisory firm for which Mr. Baqar is managing
member. Mr. Cerminara also holds a limited partner interest through Fundamental Global, LLC, a holding company for which Mr. Cerminara
is the manager and one of the members.
FGMP
has invested in the founder shares and warrants of Aldel, FG Merger and FG Acquisition. Certain of our directors and officers are affiliated
with these SPACs and their sponsor companies as described above.
Shared
Services Agreement
On
March 31, 2020, the Company entered into a Shared Services Agreement (the “Shared Services Agreement”) with Fundamental Global
Management, LLC (“FGM”), an affiliate of FG, pursuant to which FGM provides the Company with certain services related to
the day-to-day management of the Company, including assisting with regulatory compliance, evaluating the Company’s financial and
operational performance, providing a management team to supplement the executive officers of the Company, and such other services consistent
with those customarily performed by executive officers and employees of a public company. In exchange for these services, the Company
pays FGM a fee of $456,000 per quarter (the “Shared Services Fee”), plus reimbursement of expenses incurred by FGM in connection
with the performance of the Services, subject to certain limitations approved by the Company’s Board of Directors or Compensation
Committee from time to time.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
The
Shared Services Agreement has an initial term of three years, and thereafter renews automatically for successive one-year terms unless
terminated in accordance with its terms. The Shared Services Agreement may be terminated by FGM or by the Company, by a vote of the Company’s
independent directors, at the end of the initial or automatic renewal term upon 120 days’ notice, subject to payment by the Company
of certain costs incurred by FGM to wind down the provision of services and, in the case of a termination by the Company without cause,
payment of a termination fee equal to the Shared Services Fee paid for the two quarters preceding termination.
In
the third quarter of 2022, the Shared Services Agreement was amended to eliminate termination fees and to increase the termination notice
from 120 days to 365 days.
The
Company paid $1,368,000 to FGM under the Shared Services Agreement for each of the nine months ended September 30, 2022 and 2021, respectively.
Note
9. Net Earnings Per Share
Net
earnings per share is computed by dividing net income by the weighted average number of common shares and common share equivalents outstanding
during the periods presented. In calculating diluted earnings per share, those potential common shares that are found to be anti-dilutive
are excluded from the calculation. The table below provides a summary of the numerators and denominators used in determining basic and
diluted earnings per share for the three and nine months ended September 30, 2022 and 2021.
Schedule of Numerators and Denominators Used in Calculation of Basic and Diluted Earnings Per Share
| |
|
2022 |
|
|
2021 |
|
|
2022 |
|
|
2021 |
|
| ($
in thousands) |
|
Three
months ended
September
30, |
|
|
Nine
months ended
September
30, |
|
| |
|
2022 |
|
|
2021 |
|
|
2022 |
|
|
2021 |
|
| Basic
and diluted: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Net
income (loss) from continuing operations |
|
$ |
10,255 |
|
|
$ |
(4,393 |
) |
|
$ |
955 |
|
|
$ |
(4,065 |
) |
| Gain
attributable to noncontrolling interests |
|
|
– |
|
|
|
(569 |
) |
|
|
– |
|
|
|
(1,235 |
) |
| Dividends
declared on Series A Preferred Shares |
|
|
(447 |
) |
|
|
(448 |
) |
|
|
(1,342 |
) |
|
|
(1,245 |
) |
| Income
(loss) attributable to FG Financial Group, Inc. common shareholders from continuing operations |
|
|
9,808 |
|
|
|
(5,410 |
) |
|
|
(387 |
) |
|
|
(6,545 |
) |
| Weighted
average common shares |
|
|
9,333,709 |
|
|
|
5,032,615 |
|
|
|
7,564,017 |
|
|
|
5,012,139 |
|
| Income
(loss) per common share from continuing operations |
|
$ |
1.05 |
|
|
$ |
(1.08 |
) |
|
$ |
(0.05 |
) |
|
$ |
(1.31 |
) |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Gain
from sale of former insurance business |
|
$ |
– |
|
|
$ |
– |
|
|
|
– |
|
|
$ |
145 |
|
| Weighted
average common shares outstanding |
|
|
9,333,709 |
|
|
|
5,032,615 |
|
|
|
7,564,017 |
|
|
|
5,012,139 |
|
| Income
per common share from discontinued operations |
|
$ |
– |
|
|
$ |
– |
|
|
$ |
– |
|
|
$ |
0.03 |
|
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
The
following potentially dilutive securities outstanding as of September 30, 2022 and 2021 have been excluded from the computation of diluted
weighted-average shares outstanding as their effect would be anti-dilutive.
Schedule of Potentially Dilutive Securities Excluded from Calculation
| | |
As of September 30, | |
| | |
2022 | | |
2021 | |
| Warrants to purchase common stock | |
| – | | |
| 1,500,000 | |
| Options to purchase common stock | |
| 130,000 | | |
| 130,000 | |
| Restricted Shares | |
| 25,000 | | |
| - | |
| Restricted stock units | |
| 272,815 | | |
| 85,325 | |
| | |
| 427,815 | | |
| 1,715,325 | |
Note
10. Commitments and Contingencies
Legal
Proceedings:
As
of September 30, 2022, the Company was not a party to any legal proceedings and was not aware of
any material claims or actions pending or threatened against us. From time to time, we are involved in legal proceedings and litigation
arising in the ordinary course of business. Currently, it is not possible to predict legal outcomes and their impact on the future development
of claims. Any such development will be affected by future court decisions and interpretations. Because of these uncertainties, additional
liabilities may arise for amounts in excess of the Company’s current reserves.
Operating
Lease Commitments:
In
July 2021, the Company entered into a lease agreement for office space in St. Petersburg, FL. The lease had a term of 12 months. Total
minimum rent over the 12-month term was approximately $17,000. Due to the short-term nature of the lease, the Company recognized lease
expense on a straight-line basis over the term of the lease, with any variable lease payments recognized in the period in which the obligation
for the payment occurred. Rent expense was approximately $10,000 for the nine months ended September 30, 2022.
In
April 2022, the Company entered into a lease agreement for office space in Itasca, IL. The lease has a term of 44 months beginning on
May 1, 2022. Total minimum rent over the term of the lease is expected to be approximately $77,000. The Company has accounted for the
lease under ASC 842. As of September 30, 2022, the right of use asset and lease liability are approximately $61,000, each, and held in
“Other assets” and “Other liabilities” on the balance sheet. Rent expense was approximately $8,800 for the nine
months ended September 30, 2022. Future minimum lease commitments are as follows:
Schedule of Future Minimum Lease Commitments
Year ending December 31, | |
Minimum Commitment | |
| 2022 | |
$ | 5,250 | |
| 2023 | |
| 21,000 | |
| 2024 | |
| 21,000 | |
| 2025 | |
| 15,750 | |
| Total | |
$ | 63,000 | |
Impact
of Coronavirus (COVID-19) Pandemic
Given
the ongoing and dynamic nature of the circumstances, it is difficult to predict the full impact of the COVID-19 pandemic on our business.
Adverse events such as health-related concerns about working in our offices, the inability to travel and other matters affecting the
general work environment have negatively impacted and could continue to harm our business and our business strategy. The extent to which
our operations and investments may continue to be impacted by the COVID-19 pandemic will depend largely on future developments, which
are highly uncertain and cannot be accurately predicted, including new developments concerning the severity of the pandemic and actions
by government authorities to contain the pandemic or treat its impact. Furthermore, the impacts of a potential worsening of global economic
conditions and the continued disruptions to and volatility in the financial markets remain unknown. In the event of a major disruption
caused by the pandemic, we may lose the services of our employees, experience system interruptions or face challenges accessing the capital
or credit markets, which could lead to diminishment of our business operations. Any of the foregoing could harm our business and delay
the implementation of our business strategy.
Impact
of Russian/Ukraine Conflict
Management
is currently evaluating the impact of rising interest rates, inflation and the Russia-Ukraine war and has concluded that while it is
reasonably possible that any of these could have a negative effect on the Company’s financial position and results of its operations,
the specific impact is not readily determinable as of the date of these unaudited consolidated financial statements. The unaudited consolidated
financial statements do not include any adjustments that might result from the outcome of this uncertainty.
FG
FINANCIAL GROUP, INC.
Notes
to Consolidated Financial Statements
Note
11. Segment Reporting
The
Company has two operating segments—insurance and asset management. The chief operating decision maker (“CODM”) is the
Company’s Chief Executive Officer. The measure of profit or loss used by the CODM to identify and measure the Company’s reportable
segments is income before income tax. Our insurance segment consists of the operations of our Cayman Islands-based reinsurance subsidiary,
FGRe, which, as of September 30, 2022, included our seven reinsurance agreements, as well as the returns associated with the investments
made by our reinsurance operations, which include the Company’s FedNat common stock investment, as well as a portion of our investments
in the SPACs which we have sponsored. Our asset management segment includes our investment in the Fund, as well as our investment advisory
agreement with FedNat.
The
following table presents the financial information for each segment that is specifically identifiable or based on allocations using internal
methodology as of and for the three and nine months ended September 30, 2022 and 2021. The ‘other’ category in the table
below consists largely of corporate general and administrative expenses which have not been allocated to a specific segment. Segment
assets for the “other” category primarily consist of unrestricted cash in the amounts of $8.7 million and $8.2 million as
of September 30, 2022 and 2021, respectively.
Summary of Segment Reporting
(in thousands)
For the three months ended September 30, 2022 | |
Insurance | | |
Asset Management | | |
Other | | |
Total | |
| Net premiums earned | |
$ | 4,383 | | |
$ | – | | |
$ | – | | |
$ | 4,383 | |
| Net investment income | |
| 2,468 | | |
| 8,706 | | |
| – | | |
| 11,174 | |
| Other income | |
| – | | |
| 89 | | |
| 125 | | |
| 214 | |
| Total revenue | |
| 6,851 | | |
| 8,795 | | |
| 125 | | |
| 15,771 | |
| Income (loss) before income tax | |
| | |
| | |
| ) | |
| |
| | |
| | | |
| | | |
| | | |
| | |
| For the nine months ended September 30, 2022 | |
| | | |
| | | |
| | | |
| | |
| Net premiums earned | |
$ | 9,809 | | |
$ | – | | |
$ | – | | |
$ | 9,809 | |
| Net investment income | |
| 1,562 | | |
| 3,552 | | |
| – | | |
| 5,114 | |
| Other income | |
| – | | |
| 141 | | |
| 125 | | |
| 266 | |
| Total revenue | |
| 11,371 | | |
| 3,693 | | |
| 125 | | |
| 15,189 | |
| Income (loss) before income tax | |
| | |
| | |
| ) | |
| |
| | |
| | | |
| | | |
| | | |
| | |
| As of September 30, 2022 | |
| | | |
| | | |
| | | |
| | |
| Segment assets | |
$ | 21,662 | | |
$ | 17,777 | | |
$ | 9,484 | | |
$ | 48,923 | |
| | |
| | | |
| | | |
| | | |
| | |
| For the three months ended September 30, 2021 | |
| | | |
| | | |
| | | |
| | |
| Net premiums earned | |
$ | 1,099 | | |
$ | – | | |
$ | – | | |
$ | 1,099 | |
| Net investment income (loss) | |
| 2,784 | | |
| (4,083 | ) | |
| – | | |
| (1,299 | ) |
| Other income | |
| – | | |
| 67 | | |
| – | | |
| 67 | |
| Total revenue | |
| 3,883 | | |
| (4,016 | ) | |
| – | | |
| (133 | ) |
| Income (loss) before income tax | |
| | |
| ) | |
| ) | |
| ) |
| | |
| | | |
| | | |
| | | |
| | |
| For the nine months ended September 30, 2021 | |
| | | |
| | | |
| | | |
| | |
| Net premiums earned | |
$ | 2,221 | | |
$ | – | | |
$ | – | | |
$ | 2,221 | |
| Net investment income | |
| 1,674 | | |
| 1,118 | | |
| – | | |
| 2,792 | |
| Other income | |
| – | | |
| 146 | | |
| – | | |
| 146 | |
| Total revenue | |
| 3,895 | | |
| 1,264 | | |
| – | | |
| 5,159 | |
| Income (loss) before income tax | |
| | |
| | |
| ) | |
| ) |
| | |
| | | |
| | | |
| | | |
| | |
| As of September 30, 2021 | |
| | | |
| | | |
| | | |
| | |
| Segment assets | |
$ | 13,452 | | |
$ | 21,382 | | |
$ | 9,016 | | |
$ | 43,850 | |
Note
12. Subsequent Events
On
October 11, 2022, the Company invested $2.0 million into FG Communities, Inc, a self-managed real estate investment company focused on
a growing portfolio of manufactured housing communities which are owned and operated by FG Communities, Inc.
On
October 19, 2022, the Company entered into an Agreement and Plan of Merger, dated as of October 19, 2022 by and between the Company and
FG Financial Group, Inc., a Nevada corporation and a wholly owned subsidiary of the Company, pursuant to which the Company will be reincorporated
from Delaware to Nevada. The Plan of Merger was adopted and approved by the board of directors of the Company by unanimous written consent
on October 14, 2022. Consummation of the reincorporation is subject to the adoption and approval of the Plan of Merger by the holders
of a majority of the outstanding common stock of the Company.
On
November 3, 2022, the Company entered into a Sales Agreement (the “Sales Agreement”) with ThinkEquity LLC (the “Sales
Agent”), pursuant to which the Company may offer and sell, from time to time through the Sales Agent, shares of the Company’s
common stock, par value $0.001 per share (the “Common Stock”), having an aggregate offering price of up to $2,575,976, subject
to the terms and conditions of the Sales Agreement. The Company filed a prospectus supplement to its registration statement on Form S-3.
Under the Sales Agreement, the Sales Agent may sell the Shares in sales deemed to be an “at-the-market offering” as defined
in Rule 415(a)(4) promulgated under the Securities Act of 1933, as amended (the “Securities Act”), including sales made directly
on or through The Nasdaq Global Market or any other existing trading market for the Common Stock, in negotiated transactions at market
prices prevailing at the time of sale or at prices related to such prevailing market prices, and/or any other method permitted by law.
The Company may instruct the Sales Agent not to sell the shares of Common Stock if the sales cannot be effected at or above the price
designated by the Company from time to time. The Company is not obligated to make any sales of the shares under the Sales Agreement.
FG
FINANCIAL GROUP, INC.
