Filed by Bowne Pure Compliance
United States Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-Q
(Mark One)
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þ |
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Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended June 30, 2008.
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o |
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Transition Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the transition period from _______________ to _______________.
Commission
file number: 1-33677
BROOKE CAPITAL CORPORATION
(Exact Name of registrant in its charter)
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Kansas
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48-1187574 |
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(State of incorporation)
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(I.R.S. Employer Identification Number) |
8500 College Boulevard, Overland Park, Kansas 66210
(Address of principal executive offices)
Issuers telephone number (913) 383-9700
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by
Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period the registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See the definitions of large accelerated
filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
(Check one):
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Large accelerated filer o
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Accelerated filer o
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Non-accelerated filer þ
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Smaller reporting company o |
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(Do not check if a smaller reporting company) |
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes o No þ
As of August 15, 2008, there were 10,455,817 shares of the registrants sole class of common stock,
$.01 par value, outstanding.
Brooke Capital Corporation
INDEX TO FORM 10-Q
2
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Brooke Capital Corporation
Combined Balance Sheets
(in thousands, except share amounts)
ASSETS
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(unaudited) |
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June 30, 2008 |
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December 31, 2007 |
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Current Assets |
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Cash |
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$ |
229 |
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$ |
2,174 |
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Restricted cash |
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234 |
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171 |
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Accounts and notes receivable, net |
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19,109 |
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28,067 |
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Receivables from Parent and affiliates |
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22,862 |
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18,441 |
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Other receivables |
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1,749 |
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2,086 |
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Income taxes refundable |
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11,322 |
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1,187 |
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Other current assets |
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1,539 |
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175 |
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Advertising supply inventory |
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664 |
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929 |
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Assets of discontinued operation, held-for-sale |
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26,860 |
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25,987 |
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Total Current Assets |
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84,568 |
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79,217 |
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Investment in Businesses |
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951 |
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9,413 |
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Property and Equipment |
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Cost |
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16,239 |
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17,339 |
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Less: Accumulated depreciation |
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(4,244 |
) |
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(4,162 |
) |
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Net Property and Equipment |
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11,995 |
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13,177 |
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Other Assets |
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Non-current assets of discontinued operation,
held-for-sale |
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8,196 |
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8,124 |
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Amortizable intangible assets, net |
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525 |
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553 |
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Net Other Assets |
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8,721 |
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8,677 |
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Total Assets |
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$ |
106,235 |
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$ |
110,484 |
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See accompanying summary of accounting policies and notes to financial statements.
3
Brooke Capital Corporation
Combined Balance Sheets
(in thousands, except share amounts)
LIABILITIES AND STOCKHOLDERS (DEFICIT) EQUITY
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(unaudited) |
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June 30, 2008 |
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December 31, 2007 |
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Current Liabilities |
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Accounts payable |
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$ |
21,837 |
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$ |
7,141 |
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Premiums payable to insurance companies |
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3,001 |
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5,322 |
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Producer payable |
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4,626 |
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4,496 |
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Interest payable |
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973 |
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1,314 |
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Other current liabilities |
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3,757 |
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2,330 |
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Short-term debt |
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8,063 |
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5,056 |
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Current maturities of long-term debt |
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24,986 |
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27,066 |
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Liabilities of discontinued operation, held-for-sale |
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28,076 |
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26,643 |
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Total Current Liabilities |
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95,319 |
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79,368 |
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Non-Current Liabilities |
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Long-term debt less current maturities |
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16,339 |
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18,369 |
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Total Liabilities |
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111,658 |
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97,737 |
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Stockholders (Deficit) Equity |
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Common stock, $.01 par value, 25,000,000 shares
authorized, 10,455,817 and 8,475,817 shares issued
and outstanding |
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105 |
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85 |
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Additional paid-in capital |
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14,671 |
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14,372 |
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Accumulated deficit |
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(19,154 |
) |
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(1,232 |
) |
Accumulated other comprehensive loss |
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(1,045 |
) |
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(478 |
) |
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Total Stockholders (Deficit) Equity |
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(5,423 |
) |
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12,747 |
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Total Liabilities and Stockholders (Deficit) Equity |
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$ |
106,235 |
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$ |
110,484 |
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See accompanying summary of accounting policies and notes to financial statements.
4
Brooke Capital Corporation
Combined Statements of Operations
UNAUDITED
(in thousands, except per share data)
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For three-month periods ended |
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(restated) |
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June 30, 2008 |
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June 30, 2007 |
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Operating Revenues |
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Insurance commissions |
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$ |
27,201 |
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$ |
27,615 |
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Collateral preservation |
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3,557 |
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1,363 |
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Consulting fees |
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3,740 |
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Gain (loss) on sale of business |
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(3,631 |
) |
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1,161 |
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Initial franchise fees for basic services |
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7,095 |
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Initial franchise fees for buyer
assistance plans |
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70 |
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Loss on sale of assets |
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(1,323 |
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Interest income |
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71 |
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177 |
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Other income |
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175 |
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696 |
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Total Operating Revenues |
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26,050 |
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41,917 |
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Operating Expenses |
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Commissions expense |
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22,072 |
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22,126 |
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Payroll expense |
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6,070 |
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6,187 |
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Depreciation and amortization |
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492 |
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42 |
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Provision for doubtful accounts |
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8,076 |
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1,337 |
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Other operating expenses |
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13,025 |
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9,760 |
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Total Operating Expenses |
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49,735 |
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39,452 |
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Income (Loss) From Operations |
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(23,685 |
) |
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2,465 |
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Other Expenses |
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Interest expense |
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642 |
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705 |
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Total Other Expenses |
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642 |
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705 |
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Income (Loss) from Continuing Operations
Before Income Taxes |
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(24,327 |
) |
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1,760 |
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Income tax expense (benefit) |
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(9,237 |
) |
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|
612 |
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Net Income (Loss) from continuing operations |
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(15,090 |
) |
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1,148 |
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Net Income from discontinued operation |
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56 |
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216 |
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Net Income (Loss) |
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$ |
(15,034 |
) |
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$ |
1,364 |
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Net Income (Loss) Per Share: |
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Basic and diluted |
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Net income (loss) from continuing
operations |
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$ |
(1.78 |
) |
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$ |
0.14 |
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Net income from discontinued operation |
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0.01 |
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0.03 |
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Net income (loss) |
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$ |
(1.77 |
) |
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$ |
0.17 |
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See accompanying summary of accounting policies and notes to financial statements.
5
Brooke Capital Corporation
Combined Statements of Operations
UNAUDITED
(in thousands, except per share data)
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For six-month periods ended |
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(restated) |
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June 30, 2008 |
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June 30, 2007 |
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Operating Revenues |
|
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|
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Insurance commissions |
|
$ |
60,798 |
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$ |
59,623 |
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Collateral preservation |
|
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9,270 |
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|
2,254 |
|
Consulting fees |
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250 |
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4,730 |
|
Gain (loss) on sale of business |
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(4,477 |
) |
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1,842 |
|
Initial franchise fees for basic services |
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|
1,320 |
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19,965 |
|
Initial franchise fees for buyer
assistance plans |
|
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|
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|
455 |
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Loss on sale of assets |
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(1,323 |
) |
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Interest income |
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84 |
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262 |
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Other income |
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366 |
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19 |
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Total Operating Revenues |
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66,288 |
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89,150 |
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Operating Expenses |
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Commissions expense |
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46,982 |
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44,967 |
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Payroll expense |
|
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12,101 |
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|
11,973 |
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Depreciation and amortization |
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|
962 |
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|
73 |
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Provision for doubtful accounts |
|
|
8,428 |
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|
4,383 |
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Other operating expenses |
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25,199 |
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|
20,311 |
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|
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Total Operating Expenses |
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93,672 |
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|
81,707 |
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|
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Income (Loss) From Operations |
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|
(27,384 |
) |
|
|
7,443 |
|
|
|
|
|
|
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Other Expenses |
|
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|
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|
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Interest expense |
|
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1,632 |
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|
|
1,258 |
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Total Other Expenses |
|
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1,632 |
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|
|
1,258 |
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|
|
|
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Income (Loss) from Continuing Operations
Before Income Taxes |
|
|
(29,016 |
) |
|
|
6,185 |
|
Income tax expense (benefit) |
|
|
(11,015 |
) |
|
|
2,328 |
|
|
|
|
|
|
|
|
Net Income (Loss) from continuing operations |
|
|
(18,001 |
) |
|
|
3,857 |
|
Net Income from discontinued operation |
|
|
79 |
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|
|
223 |
|
|
|
|
|
|
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Net Income (Loss) |
|
$ |
(17,922 |
) |
|
$ |
4,080 |
|
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Net Income (Loss) Per Share: |
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Basic and diluted |
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Net income (loss) from continuing
operations |
|
$ |
(2.12 |
) |
|
$ |
0.48 |
|
Net income from discontinued operation |
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|
0.01 |
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|
0.03 |
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Net income (loss) |
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$ |
(2.11 |
) |
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$ |
0.51 |
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See accompanying summary of accounting policies and notes to financial statements.
6
Brooke Capital Corporation
Combined Statements of Changes in Stockholders Equity and Comprehensive Income (Loss)
(in thousands, except per share data)
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Retained |
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Accumulated |
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Additional |
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Earnings |
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Other |
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|
Common |
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Common |
|
|
Paid-In |
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(Accumulated |
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Comprehensive |
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Shares |
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Stock |
|
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Capital |
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|
Deficit) |
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Loss |
|
|
Total |
|
Balances, December 31, 2006
(Restated) |
|
|
2,666,666 |
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|
$ |
27 |
|
|
$ |
20,459 |
|
|
$ |
9,919 |
|
|
$ |
(167 |
) |
|
$ |
30,238 |
|
Exercise of warrant, net
of related costs |
|
|
547,820 |
|
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|
5 |
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|
388 |
|
|
|
|
|
|
|
|
|
|
|
393 |
|
Purchase and retirement
of common stock |
|
|
(128,669 |
) |
|
|
(1 |
) |
|
|
(737 |
) |
|
|
|
|
|
|
|
|
|
|
(738 |
) |
Restricted stock awards |
|
|
390,000 |
|
|
|
4 |
|
|
|
(4 |
) |
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|
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|
|
|
|
|
|
|
|
|
Equity compensation costs |
|
|
|
|
|
|
|
|
|
|
244 |
|
|
|
|
|
|
|
|
|
|
|
244 |
|
Issuance of stock in
connection with merger |
|
|
5,000,000 |
|
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|
50 |
|
|
|
(50 |
) |
|
|
|
|
|
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|
|
|
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Dividend to Parent prior
to consummation of merger |
|
|
|
|
|
|
|
|
|
|
(5,928 |
) |
|
|
(13,489 |
) |
|
|
|
|
|
|
(19,417 |
) |
Comprehensive income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,338 |
|
|
|
|
|
|
|
2,338 |
|
Changes in net
unrealized gain (loss)
on securities
available-for-sale,
net of
reclassification
adjustment and tax
effects |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(311 |
) |
|
|
(311 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
comprehensive
income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,027 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances, December 31, 2007 |
|
|
8,475,817 |
|
|
|
85 |
|
|
|
14,372 |
|
|
|
(1,232 |
) |
|
|
(478 |
) |
|
|
12,747 |
|
Equity compensation costs |
|
|
|
|
|
|
|
|
|
|
319 |
|
|
|
|
|
|
|
|
|
|
|
319 |
|
Restricted stock forfeited |
|
|
(10,000 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restricted stock awards |
|
|
1,990,000 |
|
|
|
20 |
|
|
|
(20 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive loss: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(17,922 |
) |
|
|
|
|
|
|
(17,922 |
) |
Changes in net
unrealized gain (loss)
on securities
available-for-sale,
net of
reclassification
adjustment and tax
effects |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(567 |
) |
|
|
(567 |
) |
Total
comprehensive
loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(18,489 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2008 (unaudited) |
|
|
10,455,817 |
|
|
$ |
105 |
|
|
$ |
14,671 |
|
|
$ |
(19,154 |
) |
|
$ |
(1,045 |
) |
|
$ |
(5,423 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note: On November 15, 2007, Brooke Franchise Corporation was merged with and into Brooke Capital
Corporation. Upon closing of the transaction, Brooke Franchise paid out its total stockholders
equity of $19,417,000 in the form of a dividend to its then-parent, Brooke Corporation. Results of
operations for Brooke Capital and Brooke Franchise have been combined since the date both companies
have been under the common control of Brooke Corporation (December 8, 2006).
See accompanying summary of accounting policies and notes to financial statements.
7
Brooke Capital Corporation
Combined Statements of Cash Flows
UNAUDITED
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
For six-month periods ended |
|
|
|
|
|
|
|
(restated) |
|
|
|
June 30, 2008 |
|
|
June 30, 2007 |
|
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
Net (loss) income |
|
$ |
(17,922 |
) |
|
$ |
4,080 |
|
Adjustments to reconcile net income to net cash
flows from operating activities: |
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
|
962 |
|
|
|
73 |
|
Loss (gain) on sale of businesses |
|
|
4,477 |
|
|
|
(1,842 |
) |
Loss (gain) on sale of assets |
|
|
1,323 |
|
|
|
|
|
(Increase) decrease in assets: |
|
|
|
|
|
|
|
|
Accounts and notes receivable |
|
|
8,958 |
|
|
|
119 |
|
Other receivables |
|
|
274 |
|
|
|
(7,433 |
) |
Other current assets |
|
|
(11,234 |
) |
|
|
3,629 |
|
Business inventory |
|
|
4,831 |
|
|
|
(1,733 |
) |
Purchase of business inventory provided by sellers |
|
|
105 |
|
|
|
11,021 |
|
Payments on seller notes for business inventory |
|
|
(2,970 |
) |
|
|
(4,790 |
) |
Increase (decrease) in liabilities: |
|
|
|
|
|
|
|
|
Accounts and expenses payable |
|
|
14,696 |
|
|
|
4,855 |
|
Other liabilities |
|
|
(1,105 |
) |
|
|
2,526 |
|
|
|
|
|
|
|
|
Net cash provided by operating activities |
|
|
2,395 |
|
|
|
10,505 |
|
|
|
|
|
|
|
|
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
Cash payments for property and equipment |
|
|
(1,048 |
) |
|
|
(6,553 |
) |
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(1,048 |
) |
|
|
(6,553 |
) |
|
|
|
|
|
|
|
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
Advances to Parent and Affiliates |
|
|
(4,421 |
) |
|
|
1,172 |
|
Increases in short-term borrowings |
|
|
3,007 |
|
|
|
|
|
Proceeds on debt |
|
|
|
|
|
|
3,992 |
|
Payments on debt |
|
|
(1,878 |
) |
|
|
(355 |
) |
|
|
|
|
|
|
|
Net cash used in financing activities |
|
|
(3,292 |
) |
|
|
4,809 |
|
|
|
|
|
|
|
|
Net increase (decrease) in cash and cash equivalents |
|
|
(1,945 |
) |
|
|
8,761 |
|
Cash and cash equivalents, beginning of period |
|
|
2,174 |
|
|
|
12,366 |
|
|
|
|
|
|
|
|
Cash and cash equivalents, end of period |
|
$ |
229 |
|
|
$ |
21,127 |
|
|
|
|
|
|
|
|
See accompanying summary of accounting policies and notes to financial statements.
8
Brooke Capital Corporation
Notes to Combined Financial Statements
UNAUDITED
1. Summary of Significant Accounting Policies
(a) Organization
Brooke Capital Corporation, formerly First American Capital Corporation (the Company), is a
financial services company incorporated under the laws of the State of Kansas with its principal
office located in Overland Park, Kansas. The Company has been listed on the American Stock
Exchange since August 30, 2007 under the symbol BCP. The Companys primary business purpose is
franchising insurance and related businesses and providing services to its franchisees through its
network of regional offices, service centers and sales centers. Other business purposes of the
Company are to provide consulting services to business sellers and collateral preservation
assistance to lenders. In addition, the Company uses its industry contacts and expertise in
insurance brokerage to broker loans for, and consult with, managing general agencies and managing
general agencies that own insurance companies, specializing in hard-to-place insurance sales,
captive insurance agencies and funeral homes. The Company will also use its expertise to preserve
collateral and monitor insurance agency borrowers on behalf of lenders.
Affiliates of the Company have entered into revenue sharing agreements with the Company, which
provide that any and all revenues paid under an affiliates name are transferred to the Company.
These combined financial statements represent the financial position, results of operations, and
cash flows of the resulting economic entity known as Brooke Capital Corporation.
The Company is a majority-owned subsidiary of Brooke Corporation (sometimes referred to Parent or
as the Parent Company), a Kansas corporation, whose stock is listed on the NASDAQ Stock Exchange
under the symbol BXXX. Brooke Corporations registered office is located in Overland Park,
Kansas.
The subsidiaries of the Company are as follows:
First Life America Corporation (First Life or FLAC) is a licensed insurance company
distributing a broad range of individual life and annuity insurance products to individuals in
eight states. As a sale of First Life is pending, it has been presented as a discontinued operation
and its assets and liabilities being sold are presented as held-for-sale in these financial
statements.
Brooke Capital Advisors, Inc. (Brooke Capital Advisors or BCA), formerly First Life Benefits,
is a broker that in the past offered life, health, disability and annuity products underwritten by
other companies and complementing those products offered by First Life America Corporation.
Beginning on December 8, 2006, Brooke Capital Advisors, Inc. began operating a managing general
agency loan brokerage and consulting business.
Brooke Investments, Inc. is a Kansas corporation that acquires real estate for lease to franchisees
or other purposes. In addition, to help preserve collateral interests, Brooke Investments enters
into real estate leases that are subleased or licensed to franchisees. Effective July 1, 2008, all
franchise operations were transferred to Brooke Investments, Inc. and it became the named
franchisor.
Brooke Agency, Inc. is a Kansas corporation. Brooke Agency acquires for investment those insurance
agencies or funeral homes where local ownership is not considered critical to financial
performance. Brooke Agency does not have any employees or incur operating expenses because the
Company usually retains a share of the commissions to provide personnel and facilities.
Brooke Life and Health, Inc., a Kansas corporation, is a licensed insurance agency that sells life
and health insurance through the Companys network of franchise agents, subagents and insurance
producers.
The American Heritage, Inc., a Kansas corporation, consults with and otherwise assists agent buyers
under the trade name of Heritage Agency Consultants.
9
First Brooke Insurance and Financial Services, Inc. is a Texas corporation used for licensing
purposes.
The American Agency, Inc., a Kansas corporation, consults with agent sellers and brokers agency
sales under the trade name of Agency Business Consultants.
Brooke Funeral Services Company, LLC, a Delaware corporation, was created to offer funeral services
and life insurance through the Companys network of funeral franchisees. Brooke Funeral Services
Company, LLC has acquired ownership of franchise agreements from Brooke Corporation and/or the
Company as part of an arrangement to preserve collateral on behalf of Aleritas Capital Corp., a
majority-owned subsidiary of Brooke Corporation, as required by the securitization process. Brooke
Funeral Services Company, LLC has contracted with Brooke Corporation and/or the Company for
performance of any obligations to agents associated with all such franchise agreements.
First Capital Venture, Inc. is a shell company with no operations and no plans for operations at
this time.
The affiliates included in these combined statements are as follows:
Brooke Agency Services Company LLC is licensed as an insurance agency and was created to offer
property, casualty, life and health insurance through the Companys network of franchisees. Brooke
Agency Services Company LLC has acquired ownership of certain franchise agreements from Brooke
Corporation and/or the Company as part of an arrangement to preserve collateral on behalf of
Aleritas Credit Corp., as required by the securitization process. Brooke Agency Services Company
LLC is a wholly-owned subsidiary of Brooke Corporation and has contracted with Brooke Corporation
and/or the Company for performance of any obligations to agents associated with all such franchise
agreements.
Brooke Agency Services Company of Nevada, LLC, is a licensed Nevada insurance agency, wholly-owned
by Brooke Corporation, that holds insurance contracts in Nevada for the Company.
The Company has business transactions with another affiliate, Aleritas Capital Corp., Aleritas, a
Delaware corporation, operating as a specialty finance company lending primarily to locally-owned
businesses that sell insurance. Aleritas is a majority-owned subsidiary of Brooke Corporation and
its stock is traded over the counter (OTCBB: BRCR).
(b) Basis of Presentation
On November 15, 2007, the Company completed a merger with Brooke Franchise Corporation (Brooke
Franchise), which was then a wholly-owned subsidiary of Brooke Corporation. Pursuant to the
Merger Agreement, Brooke Franchise was merged with and into the Company, resulting in the Company
being the survivor. The transaction was accounted for in accordance with the guidance under
Statement of Financial Accounting Standards (SFAS) No. 141, Business Combinations, issued by the
Financial Accounting Standards Board (FASB).
This merger represented a transaction between entities under common control. Accordingly, the
Company has recorded the assets and liabilities of Brooke Franchise at their carrying amounts at
the date of transfer as if the transaction had taken place as of the beginning of the fiscal year
2007. In addition, the Companys results of operations and other changes in financial position for
2007 have been reported as if the merger had occurred at the beginning of the period.
Prior periods financial statements and related disclosures have been restated to furnish
comparative information for the periods during which the Company and Brooke Franchise have been
under common control.
The accompanying financial statements include the consolidated financial statements of the Company
and its subsidiaries combined with the financial statements of certain affiliates as noted above.
All significant intracompany accounts and transactions have been eliminated in both the
consolidated and the combined financial statements.
10
The accompanying combined financial statements have been prepared in accordance with accounting
principles generally accepted in the United States of America (GAAP), which for First Life
America Corporation, differ from statutory accounting practices prescribed or permitted by the
Kansas Insurance Department (KID).
A complete summary of significant accounting policies is included in Note 1 to the audited
financial statements included in the Companys annual report on Form 10-K for the year ended
December 31, 2007.
Discontinued Operation - On July 18, 2008, the Company entered into an agreement to sell its
wholly-owned life insurance subsidiary, First Life America Corporation (First Life or FLAC) to
First Trinity Financial Corporation. The sale is subject to customary regulatory approval by the
Kansas Insurance Department. During the second quarter 2008, the Company had committed to a plan to
sell First Life. Accordingly, as of June 30, 2008, First Life has been presented as a discontinued
operation and its assets and liabilities being sold are presented as held-for-sale in the Companys
combined financial statements. All periods presented have been reclassified to reflect this
discontinued operation. See additional information in Note 20.
(c) Use of Accounting Estimates
The preparation of financial statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the reported amounts of certain
assets, liabilities and disclosures. Accordingly, the actual amounts could differ from those
estimates. Any adjustments applied to estimated amounts are recognized in the year in which such
adjustments are determined. It is at least reasonably possible these estimates will change in the
near term.
(d) Cash Equivalents
For purposes of the statements of cash flows, the Company considers all cash on hand, cash in banks
and short-term investments purchased with a maturity of three months or less to be cash and cash
equivalents. Restricted cash is not included in cash equivalents. The carrying value of cash and
cash equivalents approximates their estimated fair values.
(e) Allowance for Doubtful Accounts
The Company estimates that a certain level of accounts receivable, primarily franchisee account
balances, will be uncollectible; therefore, allowances of $6,700,000 and $1,114,000 at June 30,
2008 and December 31, 2007, respectively, have been established. The Company has historically
assisted its franchisees with cash flow by providing commission advances because of cyclical
fluctuations in commission receipts, but expects repayment of all such advances within the 30-day
franchise statement cycle and is placed on a watch list if not paid within four months. At June
30, 2008, the amount of allowance was determined after analysis of several specific factors,
including franchise advances classified as watch status. Effective August 15, 2008, the Company
will no longer provide commission advances.
The following schedule entitled Valuation and Qualifying Accounts summarizes the Allowance for
Doubtful Accounts activity for the periods ended June 30, 2008 and December 31, 2007. Additions to
the allowance for doubtful accounts are charged to expense. Charges to expense during 2007 were
reduced as a result of Brooke Corporations guaranty of certain receivables of Brooke Franchise
totaling $2,485,000 in connection with the November 15, 2007 merger transaction:
11
Valuation and Qualifying Accounts
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at |
|
|
|
|
|
|
|
|
|
|
|
|
|
Beginning of |
|
|
Charges to |
|
|
|
|
|
|
Balance at |
|
|
|
Period |
|
|
Expenses |
|
|
Write Offs |
|
|
End of Period |
|
Allowance for Doubtful Accounts |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year ended December 31, 2007 |
|
$ |
1,466 |
|
|
$ |
4,276 |
|
|
$ |
4,628 |
|
|
$ |
1,114 |
|
Period ended June 30, 2008 |
|
$ |
1,114 |
|
|
$ |
6,645 |
|
|
$ |
1,059 |
|
|
$ |
6,700 |
|
The Company does not accrue interest on loans that are 90 days or more delinquent and payments
received on all such loans are applied to principal. Loans and accounts receivable are written off
when management determines that collection is unlikely. This determination is made based on
managements experience and evaluation of the debtors circumstances.
(f) Revenue Recognition
Commissions. The Company has estimated and accrued a liability for commission refunds of $404,000
and $481,000 at June 30, 2008 and December 31, 2007, respectively.
Interest income, net. The Company recognizes interest income when earned.
(g) Property and Equipment
Property and equipment are carried at cost less accumulated depreciation. Depreciation on
buildings and land improvements is calculated using the straight-line method over the estimated
useful lives of the respective assets. Depreciation on furniture, equipment and automobiles is
calculated using both straight-line and accelerated methods over the estimated useful lives of the
respective assets. The estimated useful lives are generally as follows:
|
|
|
|
|
Buildings and leasehold improvements |
|
39 years |
|
|
|
|
|
Land improvements |
|
15 years |
|
|
|
|
|
Furniture and equipment |
|
3 to 10 years |
|
|
|
|
|
Automobiles |
|
5 years |
(h) Amortizable Intangible Assets
Amortization was $28,000 and $31,000 for the six-month periods ended June 30, 2008 and 2007,
respectively.
(i) Income Taxes
The Company uses the liability method of accounting for income taxes. Deferred income taxes are
provided for cumulative temporary differences between balances of assets and liabilities determined
under accounting principles generally accepted in the United States of America and balances
determined for tax reporting purposes.
(j) Investment in Businesses
The number of businesses purchased to hold in inventory for sale for the six-month periods ended
June 30, 2008 and 2007 was 2 and 11, respectively. Correspondingly, the number of businesses sold
from inventory for the six-month periods ended June 30, 2008 and 2007 was 5 and 9, respectively.
At June 30, 2008 and December 31, 2007, the Investment in Businesses inventory consisted of 3
businesses and 6 businesses, respectively, with fair market values totaling $951,000 and
$9,413,000, respectively.
12
(k) Net Earnings Per Share Data
Basic net income per common share is calculated by dividing net income by the weighted average
number of shares of the Companys common stock outstanding. Diluted net income is calculated by
including the weighted average effect of dilutive warrants outstanding during the periods. The
weighted average number of shares issuable upon the exercise of outstanding warrants assumes that
the applicable proceeds from such exercises are used to acquire treasury shares at the average
price of common stock during the periods. Basic and diluted earnings per share from continuing
operations for the three and six-month periods ended June 30, 2008 and 2007 were determined as
follows (adjusted for the 1-for-3 reverse stock split effective in April 2007 and the issuance of
5,000,000 shares in connection with the merger of Brooke Franchise with and into the Company):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three-Month Periods Ended |
|
|
Six-Month Periods Ended |
|
|
|
June 30, |
|
|
June 30, |
|
(in thousands, except share data) |
|
2008 |
|
|
2007 |
|
|
2008 |
|
|
2007 |
|
Numerator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) from continuing
operations numerator for basic
earnings per share |
|
$ |
(15,090 |
) |
|
$ |
1,148 |
|
|
$ |
(18,001 |
) |
|
$ |
3,857 |
|
Effect of dilutive securities |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator for diluted earnings per share |
|
|
(15,090 |
) |
|
|
1,148 |
|
|
|
(18,001 |
) |
|
|
3,857 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average common shares outstanding
(after the effect of 1-for-3 reverse
stock split and issuance of 5,000,000
shares to effect merger) used for basic
and diluted earnings per share |
|
|
8,487,685 |
|
|
|
8,101,568 |
|
|
|
8,480,652 |
|
|
|
8,063,890 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings (loss) per share from
continuing operations: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted |
|
$ |
(1.78 |
) |
|
$ |
0.14 |
|
|
$ |
(2.12 |
) |
|
$ |
0.48 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted earnings per share for the above periods excludes the impact of outstanding warrants to
purchase 49,999 shares as the impact would be antidilutive.
(l) Other Current Assets
Included in other current assets are certain deposits and prepaid and other current amounts. The
carrying values of these other assets approximate their fair values.
(m) Advertising
Total advertising and marketing expenses for the six-month periods ended June 30, 2008 and 2007
were $6,673,000 and $7,371,000, respectively.
(n) Restricted Cash
The Company holds insurance commissions for the special purpose entities Brooke Acceptance Company,
LLC, Brooke Captive Credit Company 2003, LLC, Brooke Securitization Company 2004A, LLC, Brooke
Capital Company, LLC, Brooke Securitization Company V, LLC, and Brooke Securitization Company
2006-1, LLC, all wholly-owned subsidiaries of Aleritas Capital Corp., for the purpose of making
future loan payments, and the use of these funds is restricted. The amount of commissions held at
June 30, 2008 and December 31, 2007 was $234,000 and $171,000, respectively.
13
(o) Stock-Based Compensation
The Company has granted restricted stock awards to certain officers and directors pursuant to The
Brooke Capital Corporation 2007 Equity Incentive Plan. Compensation costs were determined based
upon the fair value of the awards on their respective grant dates and are being recorded as expense
over the related vesting periods.
2. Transactions with the Parent Company
The Company is a majority-owned subsidiary of Brooke Corporation. The Company relies on Brooke
Corporation to provide facilities, administrative support, cash management, and accounting
services. The Company pays a monthly administrative fee for these shared services. For the
three-month periods ended June 30, 2008 and 2007, the total amount paid to the Parent Company was
$450,000 and $735,000, respectively. For the six-month periods ended June 30, 2008 and 2007, the
total amount paid to the Parent Company was $900,000 and $1,935,000, respectively.
The majority of cash required for operations is kept in a common corporate checking account and
amounts due to or amounts due from the Parent Company are netted, and recorded on the balance sheet
as a Parent Company receivable or Parent Company payable, accordingly. The Parent Company
receivable at June 30, 2008 and December 31, 2007 resulted primarily from the additional cash
generated from the Companys purchase and sale of a business activity. At June 30, 2008 and
December 31, 2007, the Company reported receivables from its Parent Company and other related
parties of $22,862,000 and $18,441,000, respectively, as a result of this and other transactions
with affiliates. Included in the current balance is $4,700,000 related to the Delta Plus Holdings
transaction of retail business, along with $1,014,000 for the guarantee of accounts receivable.
Transactions between affiliates in the normal course of operations were $4,236,000 with the
remaining in common accounts.
On March 30, 2007, Brooke Corporation acquired Delta Plus Holdings, Inc., a holding company based
in Missouri. At the same time, all of the insurance agency assets of Christopher Joseph & Company,
a direct subsidiary of Delta Plus Holdings, Inc., were sold to Brooke Franchise Corporation for
$8,984,000. Christopher Joseph & Company operated retail insurance offices in Missouri, Kansas,
Florida and Oklahoma, marketing personal and commercial products for other affiliated and
non-affiliated insurance companies. The retail offices of Christopher Joseph & Company have since
been sold or converted to Brooke franchise offices.
At June 30, 2008 and December 31, 2007, the Company reported income taxes refundable of $11,322,000
and $1,187,000, respectively. These amounts represent income taxes expected to be refunded as a
result of the Companys ability to carry back current net operating losses through its consolidated
returns filed with the Parent Company in prior years.
In accordance with the shared services agreement with Brooke Corporation, property and equipment
for the Company were to be provided by Brooke Corporation. On June 30, 2007, Brooke Franchise
purchased property and equipment from Brooke Corporation related to franchise operations. The
Company, as successor in interest, has continued to make such purchases since that date.
Accordingly, the fees paid by the Company to Brooke Corporation in connection with the shared
services agreement were reduced during 2007.
Brooke Corporation has guaranteed loans on behalf of the Company.
3. Accounts and Notes Receivable, net
At June 30, 2008 and December 31, 2007, accounts and notes receivable consist of the following (in
thousands):
14
|
|
|
|
|
|
|
|
|
|
|
June 30, 2008 |
|
|
December 31, 2007 |
|
Business loans |
|
$ |
3,600 |
|
|
$ |
4,263 |
|
Less: Business loans sold |
|
|
(3,134 |
) |
|
|
(1,662 |
) |
Plus: Loan participation classified as secured borrowing |
|
|
3,134 |
|
|
|
1,662 |
|
Allowance for loan losses |
|
|
(800 |
) |
|
|
|
|
|
|
|
|
|
|
|
Total notes receivable, net |
|
|
2,800 |
|
|
|
4,263 |
|
Interest earned not collected on notes |
|
|
81 |
|
|
|
322 |
|
Customer receivables |
|
|
22,928 |
|
|
|
24,596 |
|
Allowance for doubtful accounts |
|
|
(6,700 |
) |
|
|
(1,114 |
) |
|
|
|
|
|
|
|
Total accounts and notes receivable, net |
|
$ |
19,109 |
|
|
$ |
28,067 |
|
|
|
|
|
|
|
|
Loan participations represent the transfer of notes receivable, by sale, to participating
lenders. These transfers are accounted for by the criteria established by SFAS 140, Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. Of the notes
receivable sold at June 30, 2008 and December 31, 2007, none were accounted for as sales because
the transfers did not meet the criteria established by SFAS 140, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities.
4. Property and Equipment
A summary of property and equipment at June 30, 2008 and December 31, 2007 is as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, 2008 |
|
|
December 31, 2007 |
|
Land |
|
$ |
202 |
|
|
$ |
202 |
|
Buildings and leasehold improvements |
|
|
6,811 |
|
|
|
6,767 |
|
Furniture and equipment |
|
|
5,014 |
|
|
|
5,664 |
|
Computer equipment |
|
|
3,234 |
|
|
|
3,655 |
|
Automobiles |
|
|
978 |
|
|
|
1,051 |
|
|
|
|
|
|
|
|
Total property and equipment |
|
|
16,239 |
|
|
|
17,339 |
|
Accumulated depreciation and amortization |
|
|
(4,244 |
) |
|
|
(4,162 |
) |
|
|
|
|
|
|
|
Net property and equipment |
|
$ |
11,995 |
|
|
$ |
13,177 |
|
|
|
|
|
|
|
|
Depreciation expense was $935,000 and $42,000 during the six-month periods ended June 30, 2008 and
2007, respectively.
As discussed in Note 2, on June 30, 2007, Brooke Franchise acquired property and equipment from
Brooke Corporation related to franchise operations. In the past, property and equipment were
provided to the franchise operations by Brooke Corporation in connection with a shared services
agreement. Property and equipment received from Brooke Corporation was recorded by Brooke
Franchise using the initial cost basis and accumulated depreciation of the assets transferred.
5. Bank Loans, Notes Payable, and Other Long-Term Obligations
At June 30, 2008 and December 31, 2007, bank loans, notes payable and other long-term obligations
consist of the following (in thousands):
15
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Seller notes payable. These notes are payable
to the sellers of businesses that the Company
has purchased and are collateralized by assets
of the businesses purchased. Some of these
notes have an interest rate of 0% and have
been discounted at a rate of 5.50% to 9.75%
and maturities ranging through January 2011.
A particular seller note payable has an
interest rate of 7.00% and matures September
2015. |
|
$ |
16,154 |
|
|
$ |
19,123 |
|
Columbian Bank and Trust Company, due July
2008. Interest rate is variable and was 5.00%
at June 30, 2008. Interest and principal are
due in one payment at maturity.
Collateralized by accounts receivable. |
|
|
7,500 |
|
|
|
4,355 |
|
Citizens Bank and Trust Company, due August
2008. Interest rate is variable at Prime plus
3.00% and is due quarterly with principal due
at maturity. Interest rate was 8.00% at June
30, 2008. Parent Company has pledged stock it
owns in Aleritas Credit Corp. and the Company. |
|
|
8,750 |
|
|
|
9,000 |
|
Participating Lenders, due December 2011.
Interest rate is variable and was 9.50% at
June 30, 2008. Principal payments are
scheduled during the notes term with the
unpaid balance due at maturity (December 31,
2011). Collateralized by stock in subsidiary
and other assets. |
|
|
12,137 |
|
|
|
12,382 |
|
Aleritas Credit Corp., due September 2015.
Interest rate is variable and was 8.50% at
June 30, 2008. Interest and principal are due
monthly. Collateralized by various assets of
the Company. |
|
|
383 |
|
|
|
1,022 |
|
First National Bank of Phillipsburg, variable
interest rate (7.75% at June 30, 2008) with
scheduled principal payments through maturity
at August 2017. Collateralized by real
estate. |
|
|
707 |
|
|
|
728 |
|
Aleritas Credit Corp., various notes with
variable interest rates from 8.50% to 9.00% at
June 30, 2008, with maturities ranging from
October 2011 to January 2021. Principal
payments are scheduled on each note through
its respective maturity date. Collateralized
by real estate. |
|
|
1,807 |
|
|
|
1,891 |
|
Fidelity Bank, variable interest rate (7.75%
at June 30, 2008) with scheduled principal
payments through maturity at September 2021.
Collateralized by real estate. |
|
|
1,950 |
|
|
|
1,990 |
|
|
|
|
|
|
|
|
Total bank loans and notes payable |
|
|
49,388 |
|
|
|
50,491 |
|
Less: Current maturities and short-term debt |
|
|
(33,049 |
) |
|
|
(32,122 |
) |
|
|
|
|
|
|
|
Total long-term debt |
|
$ |
16,339 |
|
|
$ |
18,369 |
|
|
|
|
|
|
|
|
The renewal rights associated with the collateral interests of seller notes payable had estimated
annual commissions of $37,165,000 and $47,282,000 at June 30, 2008 and December 31, 2007,
respectively.
In connection with the outstanding loan and related debt agreements with Citizens Bank and Trust
Company and various participating lenders, the Company has committed to certain covenants wherein
the Company, certain of the Companys subsidiaries and/or Parent will maintain certain benchmarks
with respect to their: (1) regulatory status; (2) outstanding litigation; (3) liquidity; and (4)
solvency as defined in the relevant agreement.
In addition, the Company has agreed to certain restrictions applicable to it and certain of its
subsidiaries regarding, among other things, (1) investment in other affiliates, (2) payment of any
dividends or distributions, (3) incurrence of additional debt, (4) pledging of certain assets, (5)
reorganization and merger, and (6) disposition of assets.
16
On March 11, 2008, Keith Bouchey, President and CEO of Brooke Corporation, resigned and on March
12, 2008, the stock price of Aleritas fell below the stated value in the loan covenants on the Citizens Bank and Trust note. During March 2008, the note was renegotiated with a
maturity of May 30, 2008 and a new minimum
stated value for Aleritas stock held as collateral. Since that time, the stock has traded below the
current minimum stated value and the maturity date was extended to August 29, 2008. In connection
with the recently announced sale of First Life, the Company has committed that it will apply the
proceeds from this sale toward the ultimate retirement of this note. Accordingly, Citizens has
agreed in principle to extend the note until the sale of First Life is consummated. The sale is
subject to customary regulatory approval by the Kansas Insurance Department and is expected to
close before the end of 2008.
None of the Amortizable Intangible Assets described in Note 15 and none of the Acquisitions and
Divestitures described in Note 12 were financed with seller notes payable at June 30, 2008.
Interest incurred on bank loans and notes payable for the six-month periods ended June 30, 2008 and
2007 was $1,632,000 and $1,258,000, respectively. Interest payable was $973,000 and $1,314,000 at
June 30, 2008 and December 31, 2007, respectively.
The future scheduled maturities of debt are as follows (in thousands):
|
|
|
|
|
Twelve-Month Periods Ending |
|
|
|
|
June 30, |
|
|
|
|
2009 |
|
$ |
33,049 |
|
2010 |
|
|
3,225 |
|
2011 |
|
|
2,611 |
|
2012 |
|
|
7,312 |
|
2013 |
|
|
413 |
|
Thereafter |
|
|
2,778 |
|
|
|
|
|
|
|
$ |
49,388 |
|
|
|
|
|
6. Leases
The Company leases space for itself and on behalf of its agents. Future long-term payments related
to these operating leases at June 30, 2008 are as follows (in thousands):
|
|
|
|
|
Twelve-Month Periods Ending |
|
|
|
|
June 30, |
|
|
|
|
2009 |
|
$ |
8,729 |
|
2010 |
|
|
5,810 |
|
2011 |
|
|
2,563 |
|
2012 |
|
|
798 |
|
2013 |
|
|
279 |
|
Thereafter |
|
|
204 |
|
|
|
|
|
Total |
|
$ |
18,383 |
|
|
|
|
|
7. Income Taxes
Federal income tax expense differs from the amount computed by applying the statutory Federal
income tax rate for the six-month periods ended June 30, 2008 and 2007 as follows:
|
|
|
|
|
|
|
|
|
|
|
Six-Month Periods Ended |
|
|
|
June 30, |
|
|
|
2008 |
|
|
2007 |
|
U.S. Federal statutory tax rate |
|
|
(35 |
)% |
|
|
35 |
% |
State statutory rate |
|
|
(4 |
) |
|
|
4 |
|
Miscellaneous |
|
|
1 |
|
|
|
(1 |
) |
|
|
|
|
|
|
|
|
|
|
(38 |
)% |
|
|
38 |
% |
|
|
|
|
|
|
|
17
Deferred tax assets and liabilities are recorded to recognize the future tax consequences of
temporary differences between financial reporting amounts and the tax basis of existing assets and
liabilities based on currently enacted tax laws and tax rates in effect for the years in which the
differences are expected to reverse. The Companys net deferred tax assets/liabilities arising
from continuing operations at June 30, 2008 include the benefit associated with net operating loss
carryforwards and this amount is largely offset by a valuation allowance.
At December 31, 2007, the Company had net operating loss carryforwards of approximately $5,741,000
on a consolidated basis. Net operating loss carryforwards of $168,000 resulted from non-life
insurance operations and were generated prior to the base period for tax consolidation purposes.
These loss carryforwards expire in 2011 and 2012 and can only be used to offset taxable income
resulting from non-life insurance operations. Net operating loss carryforwards of $4,608,000
resulted from non-life insurance operations and were generated either during or subsequent to the
base period for tax consolidation purposes. These loss carryforwards expire in 2018 through 2025
and can be used to offset either taxable income resulting from non-life insurance operations or 35%
of taxable income resulting from life insurance operations subject to certain limitations.
The Company filed a consolidated federal income tax return with First Life and Brooke Capital
Advisors for the year ended December 31, 2006 and plans to do so for the period ended November 15,
2007 (the effective date of its merger with Brooke Franchise). The Company filed as a part of the
Brooke Corporation consolidated federal return for the remaining portion of 2007 and plans to so
file for the period ended June 29, 2008 as Brooke Corporations ownership of the Company exceeded
80% through that date. Prior to the merger, Brooke Franchise had historically been included as a
part of the consolidated returns filed by Brooke Corporation.
8. Employee Benefit Plans
Substantially all of the Companys employees are eligible to participate in Brooke Corporations
defined contribution retirement plan. Employees may contribute up to the maximum amount allowed
pursuant to the Internal Revenue Code, as amended. The Company will match 50% of employee
contributions up to a maximum of $3,000 or 3% of compensation and may contribute an additional
amount to the plan at the discretion of the Board of Directors. During the six-month period ended
June 30, 2008, the Company recorded $128,000 in employer contributions to the plan. No employer
contributions were recorded during the six months ended June 30, 2007.
18
9. Concentration of Credit Risk
Credit risk is limited by emphasizing investment grade securities and by diversifying the
investment portfolio among various investment instruments. Certain cash balances exceed the
maximum insurance protection of $100,000 provided by the Federal Deposit Insurance Corporation.
The Company has not experienced any losses in such accounts and believes it is not exposed to any
significant credit risk on cash and cash equivalents. At June 30, 2008, the Company had account
balances of $3,146,000 that exceeded the insurance limit of the Federal Deposit Insurance
Corporation.
10. Segment and Related Information
The Companys operations are conducted through its Insurance Agency Operations and Corporate
segments.
The Companys insurance agency operations include its franchise operations and the insurance agency
consulting activities conducted through Brooke Capital Advisors. Franchise operations include the
sale of insurance, financial and credit services on a retail basis through franchisees. Through
Brooke Capital Advisors, consulting services are provided to managing general agencies and
collateral preservation services relating to such agencies loans. This business expanded in 2007
to include similar services for funeral home businesses and loans related thereto. Revenues,
expenses, assets and liabilities that are not allocated to one of the two reportable segments are
categorized as Corporate. Activities associated with Corporate include functions such as
accounting, auditing, legal, human resources and investor relations.
As of June 30, 2008, the related financial results of First Life America Corporation are presented
as a discontinued operation and the assets and liabilities of that business are presented as
held-for-sale in the combined financial statements. First Life sells life insurance and annuity
products in eight states throughout the Midwest. All periods presented have been reclassified to
reflect this discontinued operation. See Note 20 for additional information.
The segments accounting policies and reporting practices are the same as those described in the
summary of significant accounting policies.
19
The tables below reflect summarized financial information concerning the Companys reportable
segments for the three and six-month periods ended June 30, 2008 and 2007 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Elimination |
|
|
|
|
|
|
|
|
|
Insurance |
|
|
|
|
|
|
of |
|
|
|
|
|
|
|
|
|
Agency |
|
|
|
|
|
|
Intersegment |
|
|
Continuing |
|
|
Discontinued |
|
|
|
Operations |
|
|
Corporate |
|
|
Activity |
|
|
Operations |
|
|
Operation |
|
Three-Month Period Ended June 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance commissions |
|
$ |
27,201 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
27,201 |
|
|
$ |
|
|
Collateral preservation |
|
|
3,557 |
|
|
|
|
|
|
|
|
|
|
|
3,557 |
|
|
|
|
|
Insurance premiums earned |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
898 |
|
Interest income |
|
|
130 |
|
|
|
70 |
|
|
|
129 |
|
|
|
71 |
|
|
|
408 |
|
Consulting fees |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Initial franchise fees for basic services |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss on sale of businesses and assets |
|
|
(4,954 |
) |
|
|
|
|
|
|
|
|
|
|
(4,954 |
) |
|
|
|
|
Other income |
|
|
175 |
|
|
|
|
|
|
|
|
|
|
|
175 |
|
|
|
61 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Operating Revenues |
|
|
26,109 |
|
|
|
70 |
|
|
|
129 |
|
|
|
26,050 |
|
|
|
1,367 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
696 |
|
|
|
75 |
|
|
|
129 |
|
|
|
642 |
|
|
|
|
|
Commissions expense |
|
|
22,072 |
|
|
|
|
|
|
|
|
|
|
|
22,072 |
|
|
|
49 |
|
Payroll expense |
|
|
6,018 |
|
|
|
52 |
|
|
|
|
|
|
|
6,070 |
|
|
|
134 |
|
Depreciation and amortization |
|
|
479 |
|
|
|
13 |
|
|
|
|
|
|
|
492 |
|
|
|
195 |
|
Provision for doubtful accounts |
|
|
8,076 |
|
|
|
|
|
|
|
|
|
|
|
8,076 |
|
|
|
|
|
Other operating expenses |
|
|
12,865 |
|
|
|
160 |
|
|
|
|
|
|
|
13,025 |
|
|
|
933 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income Before Income Taxes |
|
|
(24,097 |
) |
|
|
(230 |
) |
|
|
|
|
|
|
(24,327 |
) |
|
|
56 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment assets |
|
|
75,000 |
|
|
|
12,000 |
|
|
|
(16,000 |
) |
|
|
71,000 |
|
|
|
35,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenditures for segment assets |
|
$ |
368 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
368 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three-Month Period Ended June 30, 2007 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance commissions |
|
$ |
27,615 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
27,615 |
|
|
$ |
|
|
Collateral preservation |
|
|
1,363 |
|
|
|
|
|
|
|
|
|
|
|
1,363 |
|
|
|
|
|
Insurance premiums earned |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
849 |
|
Interest income |
|
|
95 |
|
|
|
82 |
|
|
|
|
|
|
|
177 |
|
|
|
352 |
|
Consulting fees |
|
|
3,740 |
|
|
|
|
|
|
|
|
|
|
|
3,740 |
|
|
|
|
|
Initial franchise fees for basic services |
|
|
7,095 |
|
|
|
|
|
|
|
|
|
|
|
7,095 |
|
|
|
|
|
Initial franchise fees for buyers
assistance plans |
|
|
70 |
|
|
|
|
|
|
|
|
|
|
|
70 |
|
|
|
|
|
Gain on sale of businesses |
|
|
1,161 |
|
|
|
|
|
|
|
|
|
|
|
1,161 |
|
|
|
|
|
Other income |
|
|
696 |
|
|
|
|
|
|
|
|
|
|
|
696 |
|
|
|
60 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Operating Revenues |
|
|
41,835 |
|
|
|
82 |
|
|
|
|
|
|
|
41,917 |
|
|
|
1,261 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
705 |
|
|
|
|
|
|
|
|
|
|
|
705 |
|
|
|
|
|
Commissions expense |
|
|
22,126 |
|
|
|
|
|
|
|
|
|
|
|
22,126 |
|
|
|
50 |
|
Payroll expense |
|
|
5,997 |
|
|
|
190 |
|
|
|
|
|
|
|
6,187 |
|
|
|
116 |
|
Depreciation and amortization |
|
|
31 |
|
|
|
11 |
|
|
|
|
|
|
|
42 |
|
|
|
212 |
|
Provision for doubtful accounts |
|
|
1,337 |
|
|
|
|
|
|
|
|
|
|
|
1,337 |
|
|
|
|
|
Other operating expenses |
|
|
9,503 |
|
|
|
257 |
|
|
|
|
|
|
|
9,760 |
|
|
|
667 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income Before Income Taxes |
|
|
2,136 |
|
|
|
(376 |
) |
|
|
|
|
|
|
1,760 |
|
|
|
216 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment assets |
|
|
86,000 |
|
|
|
1,000 |
|
|
|
|
|
|
|
87,000 |
|
|
|
31,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenditures for segment assets |
|
$ |
6,551 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
6,551 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
20
The table below reflects summarized financial information concerning the Companys reportable
segments for the six-month periods ended June 30, 2008 and 2007 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Elimination |
|
|
|
|
|
|
|
|
|
Insurance |
|
|
|
|
|
|
of |
|
|
|
|
|
|
|
|
|
Agency |
|
|
|
|
|
|
Intersegment |
|
|
Continuing |
|
|
Discontinued |
|
|
|
Operations |
|
|
Corporate |
|
|
Activity |
|
|
Operations |
|
|
Operation |
|
Six-Month Period Ended June 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance commissions |
|
$ |
60,798 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
60,798 |
|
|
$ |
|
|
Collateral preservation |
|
|
9,270 |
|
|
|
|
|
|
|
|
|
|
|
9,270 |
|
|
|
|
|
Insurance premiums earned |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,000 |
|
Interest income |
|
|
590 |
|
|
|
132 |
|
|
|
638 |
|
|
|
84 |
|
|
|
805 |
|
Consulting fees |
|
|
250 |
|
|
|
|
|
|
|
|
|
|
|
250 |
|
|
|
|
|
Initial franchise fees for basic services |
|
|
1,320 |
|
|
|
|
|
|
|
|
|
|
|
1,320 |
|
|
|
|
|
Loss on sale of businesses and assets |
|
|
(5,800 |
) |
|
|
|
|
|
|
|
|
|
|
(5,800 |
) |
|
|
|
|
Other income |
|
|
360 |
|
|
|
6 |
|
|
|
|
|
|
|
366 |
|
|
|
121 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Operating Revenues |
|
|
66,788 |
|
|
|
138 |
|
|
|
638 |
|
|
|
66,288 |
|
|
|
2,926 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
2,127 |
|
|
|
143 |
|
|
|
638 |
|
|
|
1,632 |
|
|
|
|
|
Commissions expense |
|
|
46,982 |
|
|
|
|
|
|
|
|
|
|
|
46,982 |
|
|
|
104 |
|
Payroll expense |
|
|
12,026 |
|
|
|
75 |
|
|
|
|
|
|
|
12,101 |
|
|
|
312 |
|
Depreciation and amortization |
|
|
937 |
|
|
|
25 |
|
|
|
|
|
|
|
962 |
|
|
|
385 |
|
Provision for doubtful accounts |
|
|
8,428 |
|
|
|
|
|
|
|
|
|
|
|
8,428 |
|
|
|
|
|
Other operating expenses |
|
|
24,884 |
|
|
|
315 |
|
|
|
|
|
|
|
25,199 |
|
|
|
2,046 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income Before Income Taxes |
|
|
(28,596 |
) |
|
|
(420 |
) |
|
|
|
|
|
|
(29,016 |
) |
|
|
79 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment assets |
|
|
75,000 |
|
|
|
12,000 |
|
|
|
(16,000 |
) |
|
|
71,000 |
|
|
|
35,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenditures for segment assets |
|
$ |
1,035 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
1,035 |
|
|
$ |
13 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six-Month Period Ended June 30, 2007 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance commissions |
|
$ |
59,623 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
59,623 |
|
|
$ |
|
|
Collateral preservation |
|
|
2,254 |
|
|
|
|
|
|
|
|
|
|
|
2,254 |
|
|
|
|
|
Insurance premiums earned |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,922 |
|
Interest income |
|
|
173 |
|
|
|
89 |
|
|
|
|
|
|
|
262 |
|
|
|
667 |
|
Consulting fees |
|
|
4,730 |
|
|
|
|
|
|
|
|
|
|
|
4,730 |
|
|
|
|
|
Initial franchise fees for basic services |
|
|
19,965 |
|
|
|
|
|
|
|
|
|
|
|
19,965 |
|
|
|
|
|
Initial franchise fees for buyers
assistance plans |
|
|
455 |
|
|
|
|
|
|
|
|
|
|
|
455 |
|
|
|
|
|
Gain on sale of businesses |
|
|
1,842 |
|
|
|
|
|
|
|
|
|
|
|
1,842 |
|
|
|
|
|
Other income |
|
|
19 |
|
|
|
|
|
|
|
|
|
|
|
19 |
|
|
|
124 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Operating Revenues |
|
|
89,061 |
|
|
|
89 |
|
|
|
|
|
|
|
89,150 |
|
|
|
2,713 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense |
|
|
1,258 |
|
|
|
|
|
|
|
|
|
|
|
1,258 |
|
|
|
|
|
Commissions expense |
|
|
44,967 |
|
|
|
|
|
|
|
|
|
|
|
44,967 |
|
|
|
109 |
|
Payroll expense |
|
|
11,759 |
|
|
|
214 |
|
|
|
|
|
|
|
11,973 |
|
|
|
240 |
|
Depreciation and amortization |
|
|
46 |
|
|
|
27 |
|
|
|
|
|
|
|
73 |
|
|
|
394 |
|
Provision for doubtful accounts |
|
|
4,383 |
|
|
|
|
|
|
|
|
|
|
|
4,383 |
|
|
|
|
|
Other operating expenses |
|
|
19,927 |
|
|
|
384 |
|
|
|
|
|
|
|
20,311 |
|
|
|
1,747 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income Before Income Taxes |
|
|
6,721 |
|
|
|
(536 |
) |
|
|
|
|
|
|
6,185 |
|
|
|
223 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment assets |
|
|
86,000 |
|
|
|
1,000 |
|
|
|
|
|
|
|
87,000 |
|
|
|
31,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenditures for segment assets |
|
$ |
6,551 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
6,551 |
|
|
$ |
_2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
11. Related Party Information
Transactions with Brooke Corporation, the Parent Company, are described in Note 2.
Aleritas, a majority-owned subsidiary of Brooke Corporation, is a licensed finance company that
originates loans to franchisees of the Company. Aleritas funds the loans it originates by selling
loan participation and asset-backed securities to community banks and other finance companies. In
2003, Aleritas worked with Standard and Poors to create a new securitization asset class for
insurance agency loans. To date there have been six securitizations completed. Aleritas has
executed promissory notes with a majority of businesses that have franchise agreements with the
Company. Proceeds from these notes reduce the receivables for the Company from franchisees.
21
In connection with loans originated through Aleritas, beginning in 2004, the Company has entered
into separate Collateral Preservation Agreements with Aleritas. Under these agreements, the
Company provides Aleritas with collateral preservation services and assistance with loss mitigation
of distressed loans. On certain loan types, the Company is compensated by upfront and ongoing fees
paid by Aleritas. For the six-month periods ended June 30, 2008 and 2007, $9,270,000 and
$2,254,000 in compensation was paid to the Company for services provided under these agreements.
At June 30, 2008 and December 31, 2007, Aleritas owed $1,161,000 and $449,000, respectively, to the
Company under this agreement. During the six-month periods ended June 30, 2008 and 2007, net
compensation received by the Company totaled $8,416,000 and $291,000, respectively, under these
agreements.
In September 2005, Aleritas made a loan to Brooke Franchise, in the amount of $1,190,000, with a
maturity date of September 15, 2015. The balance of this loan was $383,000 at June 30, 2008 and
$1,022,000 at December 31, 2007. Terms of the loan state a variable interest rate, daily
adjustable, of 3.50% above the New York Prime Rate with payments of principal and interest due
monthly. At June 30, 2008 and December 31, 2007, respectively, interest payable on this loan
totaled $1,000 and $5,000.
During 2005 and 2006, Aleritas made various loans to Brooke Investments (totaling $1,807,000 at
June 30, 2008 and $1,891,000 at December 31, 2007) with variable interest rates and maturities
ranging from October 2011 to January 2021. Principal payments are scheduled on each note through
its respective maturity date and interest rates were 8.50% to 9.00% at June 30, 2008. At June 30,
2008 and December 31, 2007, respectively, interest payable on these loans totaled $7,000 and
$8,000.
During the six-month periods ended June 30, 2008 and 2007, interest expense on these loans with
Aleritas totaled $116,000 and $180,000, respectively.
In December 2007, Brooke Capital Advisors, Inc., a wholly-owned subsidiary of the Company, loaned
$12,382,000 to the Company. The interest rate on the loan is variable, at 4.50% over the Prime
Rate as published in The Wall Street Journal, and monthly payments of $222,000 are scheduled with a
final payment of $5,910,000 due in December 2011. Payment of the loan is secured by the guaranty
of Brooke Corporation and by the Companys pledge of its stock in First Life. Upon the expected
closing of the sale of First Life by the Company and the pay-off of the loan from Citizens Bank and
Trust, Brooke Corporation intends to pledge five million of its shares of Company common
stock as replacement collateral. The Company has also agreed to pledge its stock in Delta Plus
Holdings, Inc. and certain Delta Plus subsidiaries, including Traders Insurance Company, upon the
acquisition of Delta Plus from Brooke Corporation. Brooke Capital Advisors initially sold the
entire participating interest in this loan to Brooke Holdings, Inc.; however, at June 30, 2008, all
but $1,061,000 of the $12,137,000 amount outstanding has been sold to other participating lenders,
and $6,554,000 remained payable to Brooke Holdings, Inc. The amount payable to Brooke Holdings is
reported as a part of accounts payable. In addition, during March 2008, the Company loaned
$1,980,000 to Brooke Holdings, Inc. At June 30, 2008, all but $480,000 of this amount had been
sold to a participating lender. Brooke Holdings, Inc. is controlled by Robert D. Orr, Chairman of
the Board and Chief Executive Officer of the Company, and Leland G. Orr, President and Chief
Executive Officer of Brooke Corporation and formerly Chief Financial Officer of the Company, who
owned approximately 74% and 22%, respectively, of its outstanding shares of stock as of August 15
2008.
The DB Group, Ltd., a wholly-owned subsidiary of Brooke Brokerage Corporation, is a captive
insurance company incorporated in Bermuda. The DB Group, Ltd. insures a portion of the
professional insurance agents liability exposure of the Company, its affiliated companies and its
franchisees and had a policy in force on June 30, 2008 that provided $5,000,000 of excess
professional liability coverage. Brooke Brokerage Corporation is a wholly-owned subsidiary of
Brooke Corporation that serves as a parent holding company to the DB Group, Ltd. and other
subsidiaries involved in the brokerage business.
Anita Lowry is the sister of Robert D. Orr, Chairman of the Board and Chief Executive Officer of
the Company and Leland G. Orr, President and Chief Executive Officer of Brooke Corporation and
formerly Chief Financial Officer of Brooke Capital Corporation and is the mother of Michael S.
Lowry, Vice President of Aleritas, and is married to Don Lowry. Don and Anita Lowry are
shareholders of American Heritage Agency, Inc. of Hays, Kansas. The Company and American Heritage
Agency, Inc. entered into a franchise agreement on February 28, 1999 pursuant to which American
Heritage Agency, Inc. participates in the Companys franchise program. Don and Anita Lowry sold
American Heritage Agency, Inc. during the first quarter of 2008.
22
The Company maintains deposit accounts with Brooke Savings Bank, a wholly-owned subsidiary of
Brooke Bancshares, Inc., which is a wholly-owned subsidiary of Brooke Corporation. At June 30,
2008 and December 31, 2007, the Company had $4,813,000 and $2,613,000, respectively, on deposit
with the Bank.
12. Acquisitions and Divestitures
On March 30, 2007, Brooke Franchise acquired all of the insurance agency assets of Christopher
Joseph & Company, a subsidiary of Delta Plus Holdings, Inc., from Brooke Corporation. Christopher
Joseph & Company was acquired on that same date by Brooke Corporation in connection with its
acquisition of Delta Plus. See Note 2 for more information about this transaction.
During May 2007, Brooke Franchise acquired a 100% interest in Brooke Investments, Inc., from Brooke
Corporation. Brooke Investments acquires real estate for lease to franchisees, for corporate use
and other purposes. See Note 6 for more information regarding the Companys operating leases.
Effective July 1, 2008, all franchise operations were transferred to Brooke Investments, Inc. and
it became the named franchisor.
On September 28, 2007, Brooke Franchise acquired 60 insurance agency locations from entities
associated with Chicago-based J and P Holdings Inc. The agencies currently sell auto insurance
under the trade names of Lone Star Auto, Insurance Xpress, Car Insurance Store, Hallberg Insurance
Agency and Hallberg Xpress in Colorado, Illinois, Kansas, Missouri and Texas. The acquired
agencies will be converted into Brooke franchises or merged into existing Brooke franchise
locations. At June 30, 2008, 53 of the acquired agencies had been so converted or merged.
13. Stockholders Equity Transactions
On December 8, 2006, the Company closed on a Stock Purchase and Sale Agreement (2006 Stock
Purchase Agreement) with Brooke Corporation. Pursuant to the agreement, the Company committed,
through a series of steps, to sell shares of common stock that would represent approximately 55% of
the outstanding shares of the Company to Brooke Corporation in exchange for $3,000,000 in cash and
execution of a Brokerage Agreement. At closing, the Company issued 3,742,943 shares of common
stock (1,247,647 shares after the effects of the April 2007 1-for-3 reverse stock split) to Brooke
Corporation, representing approximately 46.8% of the Companys then authorized, issued and
outstanding common stock, for $2,552,000 and executed and delivered the Brokerage Agreement. As
part of the closing, the Company issued Brooke Corporation a warrant to purchase an additional
1,643,460 shares of common stock (547,820 shares, post-split) for $448,000, such shares to be
authorized for issuance pursuant to then forthcoming amendments to the Companys Articles of
Incorporation. The Articles of Incorporation were amended on January 31, 2007, and Brooke
Corporation exercised the Warrant on the same day.
As part of the consideration under the 2006 Stock Purchase Agreement, Brooke Capital Advisors and
CJD & Associates, L.L.C. (CJD), Brooke Corporations brokerage subsidiary, entered into an
agreement by which, as of that date, Brooke Capital Advisors began transacting all new managing
general agent loan brokerage business (formerly operated by CJD). CJD operated such a business
prior to closing of the 2006 Stock Purchase Agreement and, as part of the Brokerage Agreement,
agreed not to engage in any new managing general agent loan brokerage business. Pursuant to the
terms of the 2006 Stock Purchase Agreement, Brooke Corporation will contribute funds to the Company
as additional consideration for the issuance of the shares of the Companys common stock acquired,
to the extent the pretax profits of Brooke Capital Advisors do not meet a three-year $6 million
pretax profit goal in accordance with an agreed upon schedule set forth in the 2006 Stock Purchase
Agreement. Brooke Capital Advisors reported pretax income of approximately $7,773,000 and
$1,084,000 during 2007 and 2006, respectively. During the first six months of 2008, Brooke Capital
Advisors reported a pretax loss of $1,705,000.
The Warrant issued in connection with the 2006 Stock Purchase Agreement was exercised by Brooke
Corporation on January 31, 2007. Warrants outstanding at December 31, 2007 and June 30, 2008
include one issued to a former officer and another to a former outside director of the Company for
16,666 and 33,333 shares, respectively. These warrants were authorized by the Companys former
Board of Directors prior to the closing of the 2006 Stock Purchase Agreement. The warrants became
exercisable on December 8, 2006 either in whole or in part for a period of ten years from that date
at an exercise price of $1.72 per share, the assumed market price of the Companys stock at the
date of grant ($5.16 per share after the effects of the April 2007 1-for-3 reverse stock split).
The fair value of
these warrants was estimated as of the grant date using an accepted valuation model in accordance
with SFAS No. 123R,
Share-Based Payment. Significant assumptions included a risk-free rate of
4.56%, and expected volatility of 10% and a dividend rate of 0%. In the case of the former
officer, the estimated value of the warrant, $32,000, was recorded as compensation expense. In the
case of the former director, the estimated value of the warrant, $64,000, was recorded as a
reduction of related stock issuance costs. Warrants outstanding are considered in the Companys
reported diluted earnings per share to the extent they are deemed to have a dilutive effect on
reported earnings.
23
Coincident with the closing of the 2006 Stock Purchase Agreement, other warrants previously issued
by the Company and held by Brooke Corporation were cancelled. Three separate warrants would have
allowed Brooke Corporation to purchase up to 50,000 shares of common stock (for each warrant) at
prices of $1.71, $3.35 and $5.00, respectively, beginning in 2012 or immediately prior to any
earlier change of control involving the Company and were due to expire no later than 2015. The
warrants were issued in connection with an earlier transaction wherein the Company acquired 450,500
shares of its common stock previously held by Brooke Corporation for a purchase price of $770,000
($1.71 per share). All but $200,000 of the purchase price was financed by Aleritas, a wholly-owned
subsidiary of Brooke Corporation at that time, at a fixed interest rate of 8% over a ten-year
period. The note to Aleritas was paid in full prior to the closing of the 2006 Stock Purchase
Agreement.
On January 31, 2007, the Companys shareholders approved certain amendments to the Companys
articles of incorporation to: (1) increase its authorized shares of common stock from 8,000,000 to
25,000,000 million shares; (2) increase its authorized shares of preferred stock from 550,000 to
1,550,000; and (3) reduce the par value of its common stock from $.10 to $.01 per share. In
addition, the shareholders approved a 1-for-3 reverse stock split by which each three shares of
outstanding common stock would be reverse split into one share of common stock. The reverse split
was effective on April 13, 2007.
On April 2, 2007, the Company concluded a modified Dutch auction tender offer for shares of its
common stock, purchasing 379,248 shares (126,416 shares post-split) at a price of $1.60 per share
($4.80 per share post-split) for an aggregate purchase price of approximately $607,000. Upon
completion of the offer and the following reverse stock split (effective on April 13, 2007), the
Company had 3,085,817 shares of common stock outstanding (after the purchase of fractional shares
representing the equivalent of 2,253 shares).
As discussed in Note 14, during 2007 and 2008 the Companys Board of Directors made awards of
restricted shares of its common stock to officers and directors of the Company under The Brooke
Capital Corporation 2007 Equity Incentive Plan.
On November 15, 2007, the Company issued 5,000,000 shares of its common stock to Brooke Corporation
in connection with the completion of its merger with Brooke Franchise wherein Brooke Franchise was
merged with and into the Company, resulting in the Company being the survivor. An additional
2,250,000 shares of the Companys common stock has been reserved for issuance to Brooke Corporation
as merger consideration pursuant to contingent earn-out payments tied to adjusted earnings of the
Company (excluding its subsidiaries) in calendar years 2007 and 2008. The Company did not achieve
the 2007 adjusted earnings goals and thus will not issue 1,125,000 of the shares otherwise reserved
as additional contingent merger consideration applicable to the 2007 earn-out.
Changes in stockholders equity related to this merger have been reported in the Companys
consolidated statements of stockholders equity included in these financial statements.
Transactions between the companies were not material prior to the merger.
Prior years financial statements and related disclosures have been restated to furnish comparative
information for the period during which the Company and Brooke Franchise have been under common
control.
Following is a summary of the amounts of revenue and net income reported in these financial
statements for 2007 as previously reported by the separate companies (in thousands):
24
|
|
|
|
|
|
|
|
|
Six-Month Period Ended June 30, 2007 |
|
Operating Revenues |
|
|
Net Income (Loss) |
|
Brooke Franchise |
|
$ |
84,820 |
|
|
$ |
2,348 |
|
Brooke Capital |
|
|
7,043 |
|
|
|
1,732 |
|
|
|
|
|
|
|
|
On a combined basis |
|
|
91,863 |
|
|
|
4,080 |
|
Less discontinued operation |
|
|
2,713 |
|
|
|
223 |
|
|
|
|
|
|
|
|
From continuing operations |
|
$ |
89,150 |
|
|
$ |
3,857 |
|
|
|
|
|
|
|
|
Prior to the merger, Brooke Corporation owned 100% of Brooke Franchise and 53% of the Company. As
a result of the closing of the merger, Brooke Corporation owned approximately 81% of the Companys
common stock. At June 30, 2008, Brooke Corporation owned approximately 66% of the Companys stock.
14. Stock-Based Compensation
The Brooke Capital Corporation 2007 Equity Incentive Plan (the Plan), which is
shareholder-approved, allows the Company to provide incentives and rewards to those employees and
directors largely responsible for the success and growth of the Company and its direct and indirect
subsidiaries. The Company believes that such incentives and rewards more closely align the
interests of such persons with those of the shareholders of the Company.
The Plan authorizes the issuance of up to 2,400,000 shares of Company common stock to be issued
pursuant to awards made under the Plan in the form of non-qualified stock options, incentive stock
options, restricted shares of common stock, stock appreciation rights, performance units and
restricted share units. On August 15, 2007 and June 30, 2008, the Compensation Committee of the
Board of Directors of the Company awarded restricted shares of 390,000 and 1,990,000, respectively,
to officers and directors of the Company or its affiliates. At June 30, 2008, a total of 2,370,000
of these restricted shares remain outstanding.
Pursuant to the Restricted Shares Agreement between the Company and each recipient, the recipients
are entitled to receive dividends and vote their shares in matters submitted to shareholder vote.
Transfer restrictions lapse in one-third annual increments and will automatically lapse for
approximately 1,900,000 of the shares awarded upon the sale of all or substantially all of the
assets of the Company or the sale by Brooke Corporation, the Companys controlling shareholder, of
all of its Company common stock. For the remaining shares outstanding, transfer restrictions will
lapse for 50% of all remaining unvested shares upon such a sale or change in control, and will
lapse for all remaining unvested shares upon the first anniversary of such an event.
The fair value of an award is determined based upon the market price for the Companys common stock
during the ten consecutive trading days immediately preceding the valuation date, as set forth in
the Plan. Accordingly, the fair value for the restricted share awards granted on June 30, 2008 were
determined to be $2.32 per share. As the shares of the Companys common stock were not listed for
trading on any exchange on the August 15, 2007 award date (prior to their listing on the American
Stock Exchange on August 30, 2007), the Compensation Committee determined the fair value for the
restricted share awards granted on August 15, 2007 to be $5.00 per share, as provided under the
terms of the Plan.
During the six-month period ended June 30, 2008, the Company recorded approximately $319,000 in
compensation cost along with related deferred income tax benefits of $121,000. As of June 30, 2008,
there was $5,955,000 of total unrecognized compensation cost related to nonvested share-based
compensation arrangements granted under the Plan. That cost is expected to be recognized on a
straight-line basis over the remaining terms of the three year vesting periods ending on August 15,
2010 and June 30, 2011.
Accordingly, the Company expects to record additional compensation cost related to this plan as
follows:
|
|
|
|
|
Periods Ended December 31, |
|
|
|
|
Six months then ended 2008 |
|
$ |
1,084,000 |
|
Year ended 2009 |
|
|
2,169,000 |
|
Year ended 2010 |
|
|
1,932,000 |
|
Year ended 2011 |
|
|
770,000 |
|
|
|
|
|
Total |
|
$ |
5,955,000 |
|
|
|
|
|
25
15. Amortizable Intangible Assets
There are no intangible assets with indefinite useful lives at June 30, 2008. The intangible
assets with definite useful lives had values of $525,000 and $553,000 at June 30, 2008 and December
31, 2007, respectively. Amortization expense on intangible assets, including those sold during the
year, was $28,000 and $31,000 for the six-month periods ended June 30, 2008 and 2007.
Amortization expense for amortizable intangible assets for the twelve-month periods ending June 30,
2009, 2010, 2011, 2012 and 2013 is estimated to be $53,000, $47,000, $42,000, $37,000 and $29,000,
respectively.
16. Supplemental Cash Flow Disclosures
|
|
|
|
|
|
|
|
|
|
|
Six-Month Periods Ended |
|
|
|
June 30, 2008 |
|
|
June 30, 2007 |
|
Supplemental disclosures (in thousands): |
|
|
|
|
|
|
|
|
Cash paid for interest |
|
$ |
1,973 |
|
|
$ |
600 |
|
|
|
|
|
|
|
|
Cash paid for income tax |
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
|
|
Business inventory decreased from December 31, 2007 to June 30, 2008. During the six-month periods
ended June 30, 2008 and 2007, the statements of cash flows reflect the purchase of businesses into
inventory provided by sellers totaling $105,000 and $11,021,000, respectively, the write down to
realizable value of inventory of $4,317,000 and $300,000, respectively, and the change in inventory
of $8,462,000 and $(1,433,000), respectively. Payments on seller notes were $2,970,000 and
$4,790,000 in 2008 and 2007, respectively.
|
|
|
|
|
|
|
|
|
|
|
Six-Month Periods Ended |
|
(in thousands) |
|
June 30, 2008 |
|
|
June 30, 2007 |
|
Purchase of business inventory |
|
$ |
(370 |
) |
|
$ |
(18,439 |
) |
Sale of business inventory |
|
|
4,620 |
|
|
|
27,727 |
|
|
|
|
|
|
|
|
Net cash provided from sale of business inventory |
|
|
4,250 |
|
|
|
9,288 |
|
Cash provided by sellers of business inventory |
|
|
(105 |
) |
|
|
(11,021 |
) |
Write down to realizable value of inventory |
|
|
4,317 |
|
|
|
300 |
|
|
|
|
|
|
|
|
(Increase) decrease in inventory on balance sheet |
|
$ |
8,462 |
|
|
$ |
(1,433 |
) |
|
|
|
|
|
|
|
17. Contingencies
Previously, the Company had been expected to issue 500,000 shares of its common stock to Brooke
Corporation in connection with the completion of the Exchange Agreement, dated August 31, 2007, as
amended, among Brooke Corporation, Delta Plus and the Company wherein the Company would have
received all of the outstanding stock of Delta Plus. Continued difficulty in the general credit
markets has required the Company to forego committing capital for insurance company operations.
Accordingly, the Company is exploring strategic alternatives, including the currently pending sale
of First Life and either the termination of the Exchange Agreement or the sale of Delta Plus by
the Company if the Exchange Agreement is completed. The Company intends to use proceeds from the
sale of First Life to repay short-term bank debt.
Brooke Corporation currently owns 100% of Delta Plus and 66% of the Company. If the Exchange
Agreement is completed, Brooke Corporation is expected to own approximately 67% of the Companys
common stock.
Various lawsuits have arisen in the ordinary course of the Companys business. In each of the
matters and collectively, the Company believes the ultimate resolution of such litigation will not
result in any material adverse impact to the financial condition, operations or cash flows of the
Company.
26
18. New Accounting Standards
(a) Adoption of New Accounting Standards
Fair Value Option and Fair Value Measurement - In September 2006, the FASB issued Statement No.
157, Fair Value Measurements. This statement defines fair value, establishes a framework for
measuring fair value and expands disclosures about fair value measurements. The statement
establishes a fair value hierarchy about the assumptions used to measure fair value and clarifies
assumptions about risk and the effect of a restriction on the sale or use of an asset. The
standard is effective for fiscal years beginning after November 15, 2007. In February 2008, the
FASB issued FASB Staff Position (FSP) No. FAS 157-2, Effective Date of FASB Statement No. 157.
This FSP delays the effective date of FAS 157 for all nonfinancial assets and nonfinancial
liabilities, except those that are recognized or disclosed at fair value on a recurring basis (at
least annually) to fiscal years beginning after November 15, 2008, and interim periods within those
fiscal years. The impact of adoption was not material.
In February 2007, the FASB issued Statement No. 159, The Fair Value Option for Financial Assets
and Financial Liabilities. The standard provides companies with an option to report selected
financial assets and liabilities at fair value and establishes presentation and disclosure
requirements designed to facilitate comparisons between companies that choose different measurement
attributes for similar types of assets and liabilities. The new standard was effective for the
Company on January 1, 2008. The Company did not elect the fair value option for any financial
assets or financial liabilities as of January 1, 2008.
Fair Value Measurement - Statement 157 defines fair value as the exchange price that would be
received for an asset or paid to transfer a liability (an exit price) in the principal or most
advantageous market for the asset or liability in an orderly transaction between market
participants on the measurement date. Statement 157 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. The standard describes three levels of inputs that may be used
to measure fair value:
|
|
|
Level 1: Quoted prices (unadjusted) or identical assets or liabilities in
active markets that the entity has the ability to access as of the measurement date. |
|
|
|
|
Level 2: Significant other observable inputs other than Level 1 prices, such as
quoted prices for similar assets or liabilities, quoted prices in markets that are not
active and other inputs that are observable or can be corroborated by observable market
data. |
|
|
|
|
Level 3: Significant unobservable inputs that reflect a companys own
assumptions about the assumptions that market participants would use in pricing an
asset or liability. |
(b) Not Yet Effective
In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations. This
Statement establishes principles and requirements for how an acquirer recognizes and measures
tangible assets acquired, liabilities assumed, goodwill and any noncontrolling interests and
identifies related disclosure requirements for business combinations. Measurement requirements
will result in all assets, liabilities, contingencies and contingent consideration being recorded
at fair value on the acquisition date, with limited exceptions. Acquisition costs and
restructuring costs will generally be expensed as incurred. This Statement is effective for the
Company for business combinations in which the acquisition date is on or after January 1, 2009.
Management is currently assessing what impact, if any, the application of this standard could have
on the Companys results of operations and financial position.
In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial
Statements. This Statement amends ARB 51 to establish accounting and reporting standards for the
noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. Minority
interests will be recharacterized as noncontrolling interests and classified as a component of
equity. This Statement is effective for the Company
beginning on January 1, 2009. It is not expected that adoption of this Statement will have a
material impact on the operating results or financial condition of the Company.
27
19. Reclassifications
Certain accounts in the prior period financial statements have been reclassified for comparative
purposes to conform with the presentation in the current year financial statements.
20. Discontinued Operation Disclosure
On July 18, 2008, the Company entered into an agreement to sell its wholly owned life insurance
subsidiary, First Life America Corporation (First Life or FLAC) to First Trinity Financial
Corporation. During the second quarter 2008, the Company had committed to a plan to sell First
Life. Accordingly, as of June 30, 2008, First Life has been presented as a discontinued operation
and its assets and liabilities being sold are presented as held-for-sale in the Companys combined
financial statements. All periods presented have been reclassified to reflect this discontinued
operation.
(a) Financial Statement Presentation
At June 30, 2008, no impairment charges have been required in connection with the Companys
assessment of the assets and liabilities of the discontinued operation. Reported results for the
discontinued operation do not include the allocation of interest expense on debt that will be
repaid as a result of the sale as such debt was not incurred for or otherwise used in connection
with the life insurance subsidiarys operation. No other consolidated interest expense was
allocated to the discontinued operation for the periods ended June 30, 2008 and 2007.
The major classes of assets and liabilities reported as held-for-sale are as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
(unaudited) |
|
|
|
|
|
|
June 30, 2008 |
|
|
December 31, 2007 |
|
Cash |
|
$ |
1,210 |
|
|
$ |
459 |
|
Investment securities available-for-sale |
|
|
18,675 |
|
|
|
18,867 |
|
Other current assets |
|
|
6,975 |
|
|
|
6,661 |
|
|
|
|
|
|
|
|
Total Current Assets |
|
|
26,860 |
|
|
|
25,987 |
|
Net Property and Equipment |
|
|
2,693 |
|
|
|
2,718 |
|
Deferred charges, net |
|
|
5,503 |
|
|
|
5,406 |
|
|
|
|
|
|
|
|
Total Assets |
|
|
35,056 |
|
|
|
34,111 |
|
|
|
|
|
|
|
|
Future annuity benefits |
|
|
19,565 |
|
|
|
18,735 |
|
Future policy benefits |
|
|
7,580 |
|
|
|
7,035 |
|
Other liabilities |
|
|
931 |
|
|
|
873 |
|
|
|
|
|
|
|
|
Total Liabilities |
|
|
28,076 |
|
|
|
26,643 |
|
|
|
|
|
|
|
|
Net Assets |
|
$ |
6,980 |
|
|
$ |
7,468 |
|
|
|
|
|
|
|
|
The financial results of the discontinued operation are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three |
|
|
Three |
|
|
|
|
|
|
Six |
|
|
Six |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
|
(in thousands) |
|
|
|
|
|
(in thousands) |
|
|
|
|
REVENUES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance premiums earned |
|
$ |
898 |
|
|
$ |
849 |
|
|
|
6 |
% |
|
$ |
2,000 |
|
|
$ |
1,922 |
|
|
|
4 |
% |
Interest income |
|
|
408 |
|
|
|
352 |
|
|
|
16 |
|
|
|
805 |
|
|
|
667 |
|
|
|
21 |
|
Other income |
|
|
61 |
|
|
|
60 |
|
|
|
2 |
|
|
|
121 |
|
|
|
124 |
|
|
|
(3 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
1,367 |
|
|
|
1,261 |
|
|
|
8 |
|
|
|
2,926 |
|
|
|
2,713 |
|
|
|
8 |
|
EXPENSES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commission expense |
|
|
49 |
|
|
|
50 |
|
|
|
(2 |
) |
|
|
104 |
|
|
|
109 |
|
|
|
(5 |
) |
Payroll expense |
|
|
134 |
|
|
|
116 |
|
|
|
16 |
|
|
|
312 |
|
|
|
240 |
|
|
|
30 |
|
Depreciation and amortization |
|
|
195 |
|
|
|
212 |
|
|
|
(8 |
) |
|
|
385 |
|
|
|
394 |
|
|
|
(2 |
) |
Other expenses |
|
|
933 |
|
|
|
667 |
|
|
|
40 |
|
|
|
2,046 |
|
|
|
1,747 |
|
|
|
17 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses |
|
|
1,311 |
|
|
|
1,045 |
|
|
|
25 |
|
|
|
2,847 |
|
|
|
2,490 |
|
|
|
14 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from discontinued
operation |
|
|
56 |
|
|
|
216 |
|
|
|
(74 |
) |
|
|
79 |
|
|
|
223 |
|
|
|
(65 |
) |
28
(b) Investments
First Life classifies all of its fixed maturity and equity investments as available-for-sale.
Available-for-sale fixed maturities are carried at fair value with unrealized gains and losses, net
of applicable taxes, reported in other comprehensive income. Equity securities are carried at fair
value with unrealized gains and losses, net of applicable taxes, reported in other comprehensive
income. Realized gains and losses on sales of investments are recognized in operations on the
specific identification basis. Interest earned on investments is included in net investment
income.
The amortized cost and fair value of investments at June 30, 2008 were $19,982,000 and $18,675,000,
respectively. Gross unrealized gains and losses at that date were $79,000 and $1,386,000,
respectively.
The amortized cost and fair value of investments at December 31, 2007 were $19,465,000 and
$18,867,000, respectively. Gross unrealized gains and losses at that date were $157,000 and
$755,000, respectively.
The fair values for investments in fixed maturities are based on quoted market prices.
Included in investments are securities, which have been pledged to various state insurance
departments. The fair values of these securities were $2,292,000 and $2,279,000 at June 30, 2008
and December 31, 2007, respectively.
During the six-month period ended June 30, 2008, First Life had approximately $1,000 in gross
realized investment gain. First Life had no gross realized investment gains or losses during the
six-month period ended June 30, 2007.
The components of other comprehensive loss and related tax effects during the six-month periods
ended June 30, 2008 and 2007 are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Six-Month Periods Ended |
|
|
|
June 30, |
|
|
|
2008 |
|
|
2007 |
|
Unrealized holding losses on available-for-sale securities: |
|
|
|
|
|
|
|
|
Unrealized holding gains (losses) during the period |
|
$ |
(708 |
) |
|
$ |
(432 |
) |
Less: Reclassification adjustment for gains included in net income |
|
|
1 |
|
|
|
|
|
Tax benefit |
|
|
142 |
|
|
|
87 |
|
|
|
|
|
|
|
|
Other comprehensive income (loss) |
|
$ |
(567 |
) |
|
$ |
(345 |
) |
|
|
|
|
|
|
|
(c) Other Current Assets
First Life has purchased certain lottery prize cash flows, representing the assignments of the
future payment rights from lottery winners at a discounted price. Payments on these cash flows
will be made by state run lotteries and as such are backed by the general credit of the respective
states. At June 30, 2008 and December 31, 2007, the carrying value of these other assets was
approximately $3,816,000 and $3,527,000, respectively. Also included in other current assets are
certain deposits and prepaid and other current amounts. The carrying values of these other assets
approximate their fair values.
(d) Property and Equipment
Property and equipment represents the land, building and furniture, fixtures and equipment used in
the discontinued operations location in Topeka, Kansas. Approximately 12,500 of the 20,000 square
feet of space is leased to two tenants and those leases run through 2010 and 2011. Depreciation
expense recorded was approximately $44,000 and $35,000, respectively, during the six-month periods
ended June 30, 2008 and 2007.
29
(e) Deferred Policy Acquisition Costs
Deferred policy acquisition costs at June 30, 2008 and December 31, 2007 were as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, 2008 |
|
|
December 31, 2007 |
|
Deferred policy acquisition costs |
|
$ |
11,017 |
|
|
$ |
10,579 |
|
Accumulated amortization |
|
|
(5,514 |
) |
|
|
(5,173 |
) |
|
|
|
|
|
|
|
Net |
|
$ |
5,503 |
|
|
$ |
5,406 |
|
|
|
|
|
|
|
|
Deferred policy acquisition costs amortization of $341,000 and $359,000 was recorded during the
six-month periods ended June 30, 2008 and 2007.
(f) Policy and Contract Liabilities
Annuity contract liabilities (future annuity benefits) are computed using the retrospective deposit
method and consist of policy account balances before deduction of surrender charges, which accrue
to the benefit of policyholders. Premiums received on annuity contracts are recognized as an
increase in a liability rather than premium income. Interest credited on annuity contracts is
recognized as an expense.
Traditional life insurance policy benefit liabilities (future policy benefits) are computed on a
net level premium method using assumptions with respect to current yield, mortality, withdrawal
rates and other assumptions deemed appropriate by the Company.
Policy claim liabilities represent the estimated liabilities for claims reported plus claims
incurred but not yet reported. The liabilities are subject to the impact of actual payments and
future changes in claim factors.
Policyholder premium deposits represent premiums received for payment of future premiums on
existing policyholder contracts. The premium deposits are recognized as an increase in a liability
rather than premium income. Interest credited on the premium deposits is recognized as an expense.
(g) Income Taxes
Deferred tax assets and liabilities are recorded to recognize the future tax consequences of
temporary differences between financial reporting amounts and the tax basis of existing assets and
liabilities based on currently enacted tax laws and tax rates in effect for the years in which the
differences are expected to reverse. Significant components of First Lifes deferred income taxes
at June 30, 2008 would include a deferred tax liability of $920,000 related to its deferred policy
acquisition costs and deferred tax assets of $155,000 and $261,000 related to its net operating
loss carryforwards and net unrealized losses on available-for-sale investment securities,
respectively.
As of December 31, 2007, First Life had net operating loss carryforwards of $833,000 from life
insurance operations that were generated either during or subsequent to the base period for tax
consolidation purposes. These loss carryforwards expire in 2022 through 2025. Capital loss
carryforwards of $37,000 will expire in 2009 and 2010.
First Life was included in the Companys consolidated federal income tax return for the year ended
December 31, 2006 and would also be included for the period ended November 15, 2007 (the effective
date of its merger with Brooke Franchise). First Life is taxed as a life insurance company under
the provisions of the Internal Revenue Code and will be required to file a separate tax return for
the five years following the November 15, 2007 merger transaction.
(h) Statutory Requirements
First Life prepares its statutory-basis financial statements in accordance with statutory
accounting practices (SAP) prescribed or permitted by the Kansas Insurance Department (KID).
Currently, prescribed statutory accounting practices include state insurance laws, regulations,
and general administrative rules, as well as the National
Association of Insurance Commissioners (NAIC) Accounting Practices and Procedures Manual and a
variety of other NAIC publications. Permitted statutory accounting practices encompass all
accounting practices that are not prescribed; such practices may differ from state to state, may
differ from company to company within a state, and may change in the future. During 1998, the NAIC
adopted codified statutory accounting principles (Codification). Codification replaced the NAIC
Accounting Practices and Procedures Manual and was effective January 1, 2001. The impact of
Codification was not material to First Lifes statutory-basis financial statements.
30
Principal differences between GAAP and SAP include: (a) costs of acquiring new policies are
deferred and amortized for GAAP; (b) benefit reserves are calculated using more realistic
investment, mortality and withdrawal assumptions for GAAP; (c) statutory asset valuation reserves
are not required for GAAP; and (d) available-for-sale fixed maturity investments are reported at
fair value with unrealized gains and losses reported as a separate component of shareholders
equity for GAAP.
Statutory restrictions limit the amount of dividends, which may be paid by First Life to the
Company. Generally, dividends during any year may not be paid without prior regulatory approval,
in excess of the lesser of (a) 10% of statutory shareholders surplus as of the preceding December
31 or (b) statutory net operating income for the preceding year. In addition, First Life must
maintain the minimum statutory capital and surplus required for life insurance companies in those
states in which it is licensed to transact life insurance business.
The KID imposes on insurance enterprises minimum risk-based capital (RBC) requirements that were
developed by the NAIC. The formulas for determining the amount of RBC specify various weighing
factors that are applied to financial balances or various levels of activity based on the perceived
degree of risk. Regulatory compliance is determined by ratio of the enterprises regulatory total
adjusted capital, as defined by the NAIC, to its authorized control level RBC, as defined by the
NAIC. Enterprises below specific trigger points or ratios are classified within certain levels,
each of which requires specified corrective action. First Life has a ratio that is in excess of
the minimum RBC requirements; accordingly, the Companys management believes that First Life meets
the RBC requirements.
(i) Reinsurance
In order to reduce the risk of financial exposure to adverse underwriting results, insurance
companies reinsure a portion of their risks with other insurance companies. First Life has entered
into agreements with Optimum Re Insurance Company (Optimum Re) of Dallas, Texas, and Wilton
Reassurance Company (Wilton Re) of Wilton, CT, to reinsure portions of the life insurance risks
it underwrites. Pursuant to the terms of the agreements, First Life retains a maximum coverage
exposure of $50,000 on any one insured.
Pursuant to the terms of the agreement with Optimum Re, First Life generally pays no reinsurance
premiums on first year individual business. However, SFAS No. 113, Accounting and Reporting for
Reinsurance of Short-Duration and Long-Duration Contracts, requires the unpaid premium to be
recognized as a first year expense and amortized over the estimated life of the reinsurance
policies. First Life records this unpaid premium as reinsurance premiums payable in the
accompanying balance sheet and as reinsurance premiums ceded in the accompanying income
statement. To the extent that the reinsurance companies are unable to fulfill their obligations
under the reinsurance agreements, First Life remains primarily liable for the entire amount at
risk.
First Life is party to an Automatic Retrocession Pool Agreement (the Reinsurance Pool) with
Optimum Re, Catholic Order of Foresters, American Home Life Insurance Company and Woodmen of the
World. The agreement provides for automatic retrocession of coverage in excess of Optimum Res
retention on business ceded to Optimum Re by the other parties to the Reinsurance Pool. First
Lifes maximum exposure on any one insured under the Reinsurance Pool is $50,000.
(j) Other Regulatory Matters
First Life is currently licensed to transact life and annuity business in the states of Kansas,
Texas, Illinois, Oklahoma, North Dakota, Kentucky and Nebraska. Due to the varied processes of
obtaining admission to write business in new states, management cannot reasonably estimate the time
frame of expanding its marketing presence.
31
On May 3, 2007, First Life was released from its Memorandum of Understanding with the Ohio
Department of Insurance. First Lifes license had been previously suspended as its statutory
capital had fallen below the minimum required level in Ohio of $2,500,000. While the license had
been reinstated during 2006, the Company had been prohibited from writing new business in that
state while under the Memorandum. At December 31, 2007, First Lifes statutory basis capital and
surplus was $3,801,000, which is in excess of the aforementioned minimum requirement.
21. Subsequent Event
On July 18, 2008, the Company entered into a Stock Purchase Agreement (the Agreement) to sell its
wholly-owned life insurance subsidiary, First Life America Corporation, to First Trinity Financial
Corporation for a purchase price not to exceed $8,000,000 in cash, as adjusted in accordance with
the Agreement. The transaction is subject to approval by the Kansas Insurance Department. The
Company intends to use proceeds from the sale to reduce short-term debt. As of June 30, 2008,
First Life has been presented as a discontinued operation and its assets and liabilities being sold
are presented as held-for-sale in the Companys combined financial statements. All periods
presented have been reclassified to reflect this discontinued operation. See Note 20 for
additional information.
ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The discussion below, as well as other portions of this Form 10-Q, contain forward-looking
statements that are not based upon historical information. Such forward-looking statements are
based upon information currently available to management and managements perception thereof as of
the date of this Form 10-Q. Readers can identify these forward-looking statements by the use of
such verbs as expects, anticipates, believes or similar verbs or conjugations of such verbs.
The actual results of operations of Brooke Capital Corporation (Brooke Capital or the Company)
could materially differ from those indicated in forward-looking statements. The differences could
be caused by a number of factors or combination of factors including, but not limited to, those
factors identified in the section entitled Forward-Looking and Cautionary Statements, Item 7
Managements Discussion and Analysis of Financial Condition and Results of Operations in the
Companys Annual Report on Form 10-K for the year ended December 31, 2007, which is on file with
the U.S. Securities and Exchange Commission (File No. 0-25679) incorporated by reference and in
Part I Item 1A Risk Factors in the Form 10-K and Part II Item 1A Risk Factors in this Form
10-Q. Readers are strongly encouraged to consider these factors when evaluating forward-looking
statements. Forward-looking statements contained in this Form 10-Q will not be updated.
This discussion is intended to clarify and focus on our results of operations, certain changes in
our financial position, liquidity, capital structure and business developments for the periods
covered by the consolidated financial statements included under Item 1 of this Form 10-Q. This
discussion should be read in conjunction with those consolidated financial statements and the
related notes, and is qualified by reference to them.
References in this report to we, us and our are to Brooke Capital Corporation and one or more
of our subsidiaries, as the context requires.
Amounts in this section have been rounded to the nearest thousand, except percentages, ratios, per
share data, numbers of franchise locations and numbers of businesses. Unless otherwise indicated,
or unless the context otherwise requires, references to years in this section mean our fiscal years
ended December 31.
General
Difficult credit markets have had a significant adverse affect on our sale of new franchises.
Without revenues from the sale of new franchises, we have been forced to reduce expenses
significantly with the primary expense reductions resulting from shrinking our franchise network by
terminating, for cause, troubled franchisees requiring extensive support and assistance. Our
expense reductions include personnel layoffs, facility closings and writing off producer
development investments.
32
Our expansion plans for selling life insurance and auto insurance policies issued by wholly-owned
insurance company subsidiaries have been discontinued. However, because we believe that our
distribution system and recruiting process represents a tremendous asset to insurance companies, we
are instead pursuing a partnership with one or more insurance companies.
Continuing Operations - Insurance agency revenues are generated from commissions paid on the sale
of property and casualty insurance policies issued through third party insurance companies, but
sold through independent insurance agents. Commission revenues typically represent a percentage of
insurance premiums paid by policyholders. Premium amounts and commission percentage rates are
established by third-party insurance companies, so we have little or no control over the commission
amount generated from the sale of a specific insurance policy. Revenues are also generated from
initial franchise fees, collateral preservation fees, seller consulting fees and borrower
consulting fees.
Discontinued Operation - On July 18, 2008, we entered into an agreement to sell our wholly-owned
life insurance subsidiary, First Life America Corporation, to First Trinity Financial Corporation.
At June 30, 2008, our insurance company operations segment has been presented as a discontinued
operation and our assets and liabilities being sold are presented as held-for-sale in our combined
financial statements. No impairment charges have been required in connection with our assessment
of the assets and liabilities of the discontinued operation. First Life America Corporation
continues to conduct business as it has in the past, generating revenues from the issuance of life
insurance and annuity policies sold by independent insurance agents.
Results of Operation
A merger between us and Brooke Franchise Corporation (Brooke Franchise) occurred November 15,
2007, with our being the surviving corporation. This merger represented a transaction between
entities under common control. Accordingly, we have recorded the assets and liabilities of Brooke
Franchise at their carrying amounts at the date of transfer as if the transaction had taken place
as of the beginning of the period. In addition, our results of operations and other changes in
financial position for the prior year have been reported as if the merger had occurred at the
beginning of the period.
Prior years financial statements and related disclosures have been restated to furnish comparative
information for the period during which Brooke Franchise and we had been under common control.
Our combined results of operations have been significantly impacted in the second quarter by
shrinking the franchise network primarily through closing, relocating or selling company-owned
stores and establishing corresponding reserves for agency inventory write downs of $3,631,000,
lease buyouts and equipment write downs of $3,323,000, producer development write downs of
$5,500,000 and other restructuring expenses of $338,000. Although core revenues from sales
commissions are unchanged for the three and six month periods ending June 30, 2008, total revenues
have significantly decreased because franchise network growth, and the corresponding initial
franchise fees from the sale of new franchises, have been adversely impacted by the current credit
markets. Although our basic business model remains unchanged, we have changed operations by
closing corporate facilities, laying off corporate personnel and otherwise decreasing expenses to
match decreases in revenues. The following table shows income and expenses (in thousands, except
percentages) from continuing operations for the three and six months ended June 30, 2008 and 2007,
and the percentage changes from year to year.
33
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three |
|
|
Three |
|
|
|
|
|
|
Six |
|
|
Six |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
REVENUES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance commissions |
|
$ |
27,201 |
|
|
$ |
27,615 |
|
|
|
(2 |
)% |
|
$ |
60,798 |
|
|
$ |
59,623 |
|
|
|
2 |
% |
Collateral preservation |
|
|
3,557 |
|
|
|
1,363 |
|
|
|
161 |
|
|
|
9,270 |
|
|
|
2,254 |
|
|
|
311 |
|
Consulting fees |
|
|
|
|
|
|
3,740 |
|
|
|
(100 |
) |
|
|
250 |
|
|
|
4,730 |
|
|
|
(95 |
) |
Gain (loss) on sale of
businesses |
|
|
(3,631 |
) |
|
|
1,161 |
|
|
|
(413 |
) |
|
|
(4,477 |
) |
|
|
1,842 |
|
|
|
(343 |
) |
Initial franchise fees for
basic services |
|
|
|
|
|
|
7,095 |
|
|
|
(100 |
) |
|
|
1,320 |
|
|
|
19,965 |
|
|
|
(93 |
) |
Initial franchise fees for
buyers assistance plans |
|
|
|
|
|
|
70 |
|
|
|
(100 |
) |
|
|
|
|
|
|
455 |
|
|
|
(100 |
) |
Loss on sale of assets |
|
|
(1,323 |
) |
|
|
|
|
|
|
|
|
|
|
(1,323 |
) |
|
|
|
|
|
|
|
|
Interest income |
|
|
71 |
|
|
|
177 |
|
|
|
(60 |
) |
|
|
84 |
|
|
|
262 |
|
|
|
(68 |
) |
Other income |
|
|
175 |
|
|
|
696 |
|
|
|
(75 |
) |
|
|
366 |
|
|
|
19 |
|
|
|
1,826 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating revenues |
|
$ |
26,050 |
|
|
$ |
41,917 |
|
|
|
(38 |
)% |
|
$ |
66,288 |
|
|
$ |
89,150 |
|
|
|
(26 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three |
|
|
Three |
|
|
|
|
|
|
Six |
|
|
Six |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
EXPENSES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commission expense |
|
$ |
22,072 |
|
|
$ |
22,126 |
|
|
|
|
% |
|
$ |
46,982 |
|
|
$ |
44,967 |
|
|
|
4 |
% |
Payroll expense |
|
|
6,070 |
|
|
|
6,187 |
|
|
|
(2 |
) |
|
|
12,101 |
|
|
|
11,973 |
|
|
|
1 |
|
Depreciation and amortization |
|
|
492 |
|
|
|
42 |
|
|
|
1,071 |
|
|
|
962 |
|
|
|
73 |
|
|
|
1,218 |
|
Provision for doubtful accounts |
|
|
8,076 |
|
|
|
1,337 |
|
|
|
504 |
|
|
|
8,428 |
|
|
|
4,383 |
|
|
|
92 |
|
Other operating expenses |
|
|
13,025 |
|
|
|
9,760 |
|
|
|
33 |
|
|
|
25,199 |
|
|
|
20,311 |
|
|
|
24 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
49,735 |
|
|
|
39,452 |
|
|
|
26 |
|
|
|
93,672 |
|
|
|
81,707 |
|
|
|
15 |
|
Income (loss) from continuing
operations |
|
|
(23,685 |
) |
|
|
2,465 |
|
|
|
(1,060 |
) |
|
|
(27,384 |
) |
|
|
7,443 |
|
|
|
(467 |
) |
Interest expense |
|
|
642 |
|
|
|
705 |
|
|
|
(9 |
) |
|
|
1,632 |
|
|
|
1,258 |
|
|
|
30 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income
taxes
from continuing operations |
|
$ |
(24,327 |
) |
|
$ |
1,760 |
|
|
|
(1,482 |
) |
|
$ |
(29,016 |
) |
|
$ |
6,185 |
|
|
|
(569 |
) |
Net Income from discontinued
operation |
|
$ |
56 |
|
|
$ |
216 |
|
|
|
(74 |
) |
|
$ |
79 |
|
|
$ |
223 |
|
|
|
(65 |
) |
Total assets (at period end) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Continuing operations |
|
$ |
71,000 |
|
|
$ |
87,000 |
|
|
|
18 |
% |
|
$ |
71,000 |
|
|
$ |
87,000 |
|
|
|
18 |
% |
Discontinued operation |
|
$ |
35,000 |
|
|
$ |
31,000 |
|
|
|
13 |
% |
|
$ |
35,000 |
|
|
$ |
31,000 |
|
|
|
13 |
% |
A more detailed description of our financial condition and operating results as reported by
insurance agency operations and corporate activities segments and discontinued operation
(previously our insurance company operations) follows. The significant changes in revenues,
expenses and net income from the above table are primarily attributable to our insurance agency
segment. (See Insurance Agency Operations segment).
The following table shows selected assets and liabilities (in thousands, except percentages) as of
June 30, 2008 and December 31, 2007, and the percentage change in those balances.
34
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008 |
|
|
|
As of |
|
|
As of |
|
|
% Increase |
|
|
|
June 30, |
|
|
December 31, |
|
|
(decrease) |
|
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
Accounts and notes receivable, net |
|
$ |
19,109 |
|
|
$ |
28,067 |
|
|
|
(32 |
)% |
Other receivables |
|
|
1,749 |
|
|
|
2,086 |
|
|
|
(16 |
) |
Income taxes refundable |
|
|
11,322 |
|
|
|
1,187 |
|
|
|
853 |
|
Property and equipment |
|
|
11,995 |
|
|
|
13,177 |
|
|
|
(9 |
) |
Accounts payable |
|
|
21,837 |
|
|
|
7,141 |
|
|
|
205 |
|
Premiums payable |
|
|
3,001 |
|
|
|
5,322 |
|
|
|
(44 |
) |
Debt |
|
|
49,388 |
|
|
|
50,491 |
|
|
|
(2 |
) |
Net assets of discontinued
operation, held-for-sale |
|
$ |
6,980 |
|
|
$ |
7,468 |
|
|
|
(7 |
) |
Accounts and notes receivable primarily include amounts owed by our franchisees. These balances
have dropped significantly as expansion of our franchise operations has slowed due to the weakening
economy and our New Era initiative beginning in the fourth quarter of 2007 to emphasize quality
of franchisees over quantity of franchisees. A loss reserve exists for our credit loss exposure to
these receivable balances from franchisees. (See Insurance Agency Operations segment, below.)
Customer receivables, notes receivables, interest earned not collected on notes and allowance for
doubtful accounts are the items that comprise our accounts and notes receivable, net, as shown on
our combined balance sheet.
Other receivables represent amounts due from participating lenders.
Income taxes refundable increased as a result of our losses incurred during 2008.
Accounts payable, which includes franchise payables, payroll payables and other accrued expenses,
increased in part as a result of amounts due to Brooke Holdings, Inc.
The premiums payable liability category is comprised primarily of amounts due to insurance
companies for premiums that are billed and collected by our franchisees. Premiums payable
decreased primarily from temporary fluctuations in agent billed activity.
We use short-term and long-term debt to finance the expansion of the franchise operations. See
Note 6 to the financial statements for a summary of debt outstanding and information regarding its
terms and scheduled maturities.
Analysis by Segment
The insurance agency operations segment represents our primary reportable segment and includes our
franchising activities, our collateral preservation activities and our insurance agency consulting
activities. Our franchise agency operations include the sale of insurance, financial and credit
services on a retail basis through franchisees.
Revenues, expenses, assets and liabilities that are not allocated to the insurance agency
operations segment are categorized as Corporate. Activities associated with Corporate include
functions such as accounting, auditing, legal, human resources and investor relations.
Our discontinued operation consists of the issuance of life insurance policies by First Life. First
Life sells life insurance and annuity products in eight states throughout the Midwest.
35
Insurance Agency Operations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three |
|
|
Three |
|
|
|
|
|
|
Six |
|
|
Six |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
|
(in thousands) |
|
|
|
|
|
|
(in thousands) |
|
|
|
|
|
REVENUES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance commissions |
|
$ |
27,201 |
|
|
$ |
27,615 |
|
|
|
(2 |
)% |
|
$ |
60,798 |
|
|
$ |
59,623 |
|
|
|
2 |
% |
Collateral preservation |
|
|
3,557 |
|
|
|
1,363 |
|
|
|
161 |
|
|
|
9,270 |
|
|
|
2,254 |
|
|
|
311 |
|
Consulting fees |
|
|
|
|
|
|
3,740 |
|
|
|
(100 |
) |
|
|
250 |
|
|
|
4,730 |
|
|
|
(95 |
) |
Gain (loss) on sale of
businesses and assets |
|
|
(4,954 |
) |
|
|
1,161 |
|
|
|
(526 |
) |
|
|
(5,800 |
) |
|
|
1,842 |
|
|
|
(414 |
) |
Initial franchise fees for
basic services |
|
|
|
|
|
|
7,095 |
|
|
|
(100 |
) |
|
|
1,320 |
|
|
|
19,965 |
|
|
|
(93 |
) |
Initial franchise fees for
buyers assistance plans |
|
|
|
|
|
|
70 |
|
|
|
(100 |
) |
|
|
|
|
|
|
455 |
|
|
|
(100 |
) |
Interest income |
|
|
130 |
|
|
|
95 |
|
|
|
37 |
|
|
|
590 |
|
|
|
173 |
|
|
|
241 |
|
Other income |
|
|
175 |
|
|
|
696 |
|
|
|
(75 |
) |
|
|
360 |
|
|
|
19 |
|
|
|
1,795 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating revenues |
|
|
26,109 |
|
|
|
41,835 |
|
|
|
(37 |
) |
|
|
66,788 |
|
|
|
89,061 |
|
|
|
(25 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three |
|
|
Three |
|
|
|
|
|
|
Six |
|
|
Six |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
|
(in thousands) |
|
|
|
|
|
|
(in thousands) |
|
|
|
|
|
EXPENSES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commission expense |
|
$ |
22,072 |
|
|
$ |
22,126 |
|
|
|
|
% |
|
$ |
46,982 |
|
|
$ |
44,967 |
|
|
|
4 |
% |
Payroll expense |
|
|
6,018 |
|
|
|
5,997 |
|
|
|
|
|
|
|
12,026 |
|
|
|
11,759 |
|
|
|
2 |
|
Depreciation and
amortization |
|
|
479 |
|
|
|
31 |
|
|
|
1,445 |
|
|
|
937 |
|
|
|
46 |
|
|
|
1,937 |
|
Provision for doubtful
accounts |
|
|
8,076 |
|
|
|
1,337 |
|
|
|
504 |
|
|
|
8,428 |
|
|
|
4,383 |
|
|
|
92 |
|
Other operating expenses |
|
|
12,865 |
|
|
|
9,503 |
|
|
|
35 |
|
|
|
24,884 |
|
|
|
19,927 |
|
|
|
25 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
49,510 |
|
|
|
38,994 |
|
|
|
27 |
|
|
|
93,257 |
|
|
|
81,082 |
|
|
|
15 |
|
Income (loss) from
operations |
|
|
(23,401 |
) |
|
|
2,841 |
|
|
|
(924 |
) |
|
|
(26,469 |
) |
|
|
7,979 |
|
|
|
(432 |
) |
Interest expense |
|
|
696 |
|
|
|
705 |
|
|
|
(1 |
) |
|
|
2,127 |
|
|
|
1,258 |
|
|
|
69 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before
income taxes |
|
$ |
(24,097 |
) |
|
$ |
2,136 |
|
|
|
(1,228 |
)% |
|
$ |
(28,596 |
) |
|
$ |
6,721 |
|
|
|
(525 |
)% |
Total assets (at period
end) |
|
$ |
75,000 |
|
|
$ |
86,000 |
|
|
|
13 |
% |
|
$ |
75,000 |
|
|
$ |
86,000 |
|
|
|
13 |
% |
Commission revenues are from sales commissions on policies sold by franchisees that are written, or
issued, by third-party insurance companies. Commission revenues typically represent a percentage
of insurance premiums paid by policyholders. Premium amounts and commission percentage rates are
established by independent insurance companies, so we have little or no control over the commission
amount generated from the sale of a specific insurance policy written through a third-party
insurance company.
Collateral preservation, or servicing, income is composed of initial, ongoing and special fees paid
by the lender (Aleritas Capital Corp. (Aleritas)) for providing services such as underwriting,
monitoring, rehabilitating, managing and liquidating insurance agencies. For the three months
ended June 30, 2008 and 2007, special collateral preservation fees were $2,410,000 and $0,
respectively. For the six months ended June 30, 2008 and 2007, those fees were $6,784,000 and $0,
respectively. Collateral preservation fees increased significantly from payments for assistance
provided to troubled agencies.
Initial franchise fees decreased significantly primarily due to a difficult credit market and
secondarily as a result of our New Era initiative to emphasize quality of franchisees over
quantity of franchisees.
36
Commission expense increased because insurance commission revenues increased and franchisees are
typically paid a share of insurance commission revenue. Commission expense represented
approximately 81% and 80% of insurance commission revenue for the three month periods ended June
30, 2008 and 2007, respectively. Commission expense represented approximately 77% and 75% of
insurance commission revenue for the six month periods ended June 30, 2008 and 2007, respectively.
We have sometimes retained an additional share of franchisees commissions as payment for
franchisees optional use of our service or sales centers. However, we have discontinued providing
this service.
Profit sharing commissions, or our share of insurance company profits paid by insurance companies
on policies written by franchisees, and other such performance compensation, were $351,000 for the
three months ended June 30, 2008, as compared to $443,000 for the three months ended June 30, 2007.
Profit sharing commissions were $4,034,000 for the six months ended June 30, 2008, as compared to
$4,655,000 for the six months ended June 30, 2007. Profit sharing commissions represented
approximately 1.3% and 1.6%, respectively, of insurance commissions for the three months ended June
30, 2008 and 2007. Profit sharing commissions represented approximately 6.6% and 7.8%,
respectively, of insurance commissions for the six months ended June 30, 2008 and 2007.
Franchisees do not receive any share of profit sharing commissions.
Net commission refund liability is our estimate of the amount of our share of retail commission
refunds due to insurance companies resulting from future policy cancellations. As of June 30,
2008, and December 31, 2007, we recorded corresponding total commission refund liabilities of
$404,000 and $481,000, respectively. Correspondingly, commission refund expense decreased to
reflect this lower estimate.
Other operating expenses represented approximately 49% and 23%, respectively, of total operating
revenues for the three months ended June 30, 2008 and 2007. Other operating expenses represented
approximately 37% and 22%, respectively, of total operating revenues for the six months ended June
30, 2008 and 2007. Other operating expenses increased at a faster rate than total operating
revenues primarily as the result of shrinking the franchise network primarily through closing or
liquidating company-owned stores and establishing corresponding reserves for agency inventory write
downs of$3,631,000, lease buyouts and equipment write downs of $3,323,000, producer development
write downs of $5,500,000 and other restructuring expenses of $338,000.
Advertising expenses decreased to $1,262,000 for the three months ended June 30, 2008, from
$1,858,000 for the three months ended June 30, 2007. Advertising expenses decreased to $3,178,000
for the six months ended June 30, 2008, from $4,283,000 for the six months ended June 30, 2007.
The following table summarizes information relating to revenues and expenses associated with
insurance agent relationships primarily as defined in the franchise agreement. Variances in
expenses may be attributable to improved allocations of expenses among business units, which began
in 2007 and continued in 2008.
37
Comparison of Net Commissions Breakdown to Corresponding Expenses Breakdown
(in thousands)1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recurring |
|
|
Expenses |
|
|
Service |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Franchise |
|
|
Incurred for |
|
|
Center Fees |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Royalties |
|
|
Operation of |
|
|
Collected |
|
|
|
|
|
|
|
|
|
|
Expenses |
|
|
|
Collected from |
|
|
Phillipsburg |
|
|
from |
|
|
Expenses |
|
|
Profit Sharing |
|
|
Incurred for |
|
|
|
Franchisees for |
|
|
Support |
|
|
Franchisees |
|
|
Incurred for |
|
|
Commissions |
|
|
Mass Media & |
|
|
|
Support |
|
|
Services |
|
|
for Service |
|
|
Operation of |
|
|
Collected from |
|
|
Logo |
|
|
|
Services |
|
|
Campus |
|
|
Centers |
|
|
Service Centers |
|
|
Insurance Cost |
|
|
Advertising |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
June 30, 2008 |
|
$ |
2,045 |
|
|
$ |
2,588 |
|
|
$ |
663 |
|
|
$ |
1,537 |
|
|
$ |
351 |
|
|
$ |
1,262 |
|
Six Months Ended
June 30, 2008 |
|
$ |
4,245 |
|
|
$ |
5,575 |
|
|
$ |
1,284 |
|
|
$ |
3,197 |
|
|
$ |
4,034 |
|
|
$ |
3,178 |
|
Three Months Ended
June 30, 2007 |
|
$ |
3,058 |
|
|
$ |
2,118 |
|
|
$ |
861 |
|
|
$ |
1,879 |
|
|
$ |
443 |
|
|
$ |
1,858 |
|
Six Months Ended
June 30, 2007 |
|
$ |
5,868 |
|
|
$ |
4,665 |
|
|
$ |
1,763 |
|
|
$ |
3,570 |
|
|
$ |
4,655 |
|
|
$ |
4,283 |
|
|
|
|
1 |
|
We also received commissions from the sale of investment securities that are not
directly related to insurance sales.
|
Initial Franchise Fee Revenue
Basic Services. A certain level of basic services is initially provided to all franchisees,
whether they acquire an existing business and convert it into a Brooke franchise, start up a new
Brooke franchise location or acquire a company developed franchise location. These basic services
include services usually provided by other franchisors, including a business model, a license to
use registered trademarks, access to suppliers and a license for an Internet-based information
system. The amount of the initial franchise fees typically paid for basic services is currently
$165,000.
Revenues from initial franchise fees for basic services are recognized as soon as we deliver the
basic services to the new franchisee. Upon completion of this commitment, we have no continuing
obligation to the franchisee with regards to basic services.
We added only one new franchise location during the three months ended June 30, 2008, compared to
40 new franchise locations during the three months ended June 30, 2007. We added only two new
franchise locations during the six months ended June 30, 2008, compared to 130 new franchise
locations during the six months ended June 30, 2007. The rate of new franchise location growth has
stalled, primarily as the result of the continuing restricted credit market environment and, in
part, our New Era initiative beginning in the fourth quarter of 2007 to emphasize quality of
franchisees over quantity of franchisees.
The following table summarizes information relating to initial franchise fees for basic services
(in thousands, except for number of locations):
Summary of Initial Franchise Fees for Basic Services
and the Corresponding Number of Locations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Start-up Related Initial |
|
|
Conversion Related |
|
|
Company Developed |
|
|
|
|
|
|
Franchise Fees for Basic |
|
|
Initial Franchise Fees for |
|
|
Initial Franchise Fees for |
|
|
Total Initial Franchise |
|
|
|
Services |
|
|
Basic Services |
|
|
Basic Services |
|
|
Fees for Basic Services |
|
|
|
(Locations) |
|
|
(Locations) |
|
|
(Locations) |
|
|
(Locations) |
|
Three Months Ended
June 30, 2008 |
|
$ |
|
|
|
|
(1 |
) |
|
$ |
|
|
|
|
(0 |
) |
|
$ |
|
|
|
|
(0 |
) |
|
$ |
|
|
|
|
(1 |
) |
Six Months Ended
June 30, 2008 |
|
|
|
|
|
|
(1 |
) |
|
|
1,320 |
|
|
|
(1 |
) |
|
|
|
|
|
|
(0 |
) |
|
|
1,320 |
|
|
|
(2 |
) |
Three Months Ended
June 30, 2007 |
|
|
3,630 |
|
|
|
(22 |
) |
|
|
2,640 |
|
|
|
(13 |
) |
|
|
825 |
|
|
|
(5 |
) |
|
|
7,095 |
|
|
|
(40 |
) |
Six Months Ended
June 30, 2007 |
|
|
10,395 |
|
|
|
(63 |
) |
|
|
7,260 |
|
|
|
(55 |
) |
|
|
2,310 |
|
|
|
(12 |
) |
|
|
19,965 |
|
|
|
(130 |
) |
38
Buyers Assistance Plan Services. Buyers assistance plans provide assistance to franchisees for the
initial acquisition and conversion of businesses. These services include, for example, compilation
of an inspection report. The
amount of the fee charged franchisees for these services typically varies based on the level of
assistance, which in turn is largely determined by the size of the acquisition. We therefore
typically base our fees for buyers assistance plans on the estimated revenues of the acquired
business. All initial franchise fees (for both basic services and for buyer assistance plans) are
paid when an acquisition closes. In past years, a significant part of our commission growth has
come from such acquisitions of existing businesses that are subsequently converted into Brooke
franchises.
The total amount of initial fees paid by a franchisee is first allocated to basic services, and if
the franchise is an acquired and converted business, the excess of such fees over the amount
allocated to basic services is allocated to buyers assistance plan services. The initial
franchisee fee for basic services tends to be uniform among franchisees, and the total initial
franchisee fees can be limited by competitive pressures. The decrease in initial franchise fees
for buyers assistance plans is primarily attributable to an increase in the amount charged for
initial franchise fees for basic services and the establishment of a cap, or maximum amount, on
initial franchise fees for buyers assistance plans that are charged for each acquisition.
We perform substantially all of the buyers assistance plan services before an acquisition closes
and, therefore, typically recognize all of the initial franchise fee revenue for buyers assistance
plan services at the time of closing.
Buyers assistance plan services are not applicable to the purchase by franchisees of
company-developed or already-franchised businesses. In addition, buyers assistance plan services
are not typically provided to franchisees selling to other franchisees and are not provided to
franchisees purchasing businesses that were purchased by us in the preceding 24 months. Businesses
that were converted into Brooke franchises and received buyers assistance plan services totaled 1
and 3, of new franchise locations for the three and six months ended June 30, 2007, respectively.
There were no such conversions during 2008.
Seller and Borrower-Related Revenues. Seller and borrower-related revenues typically are generated
when a business is acquired for sale to a franchisee or when assisting a business in securing a
loan. Seller and borrower-related revenues include consulting fees paid directly by sellers or
borrowers, gains on sale of businesses from deferred payments, gains on sale of businesses relating
to company-owned stores, and gains on sale of businesses relating to inventory. A primary aspect
of our business is the buying and selling of businesses. Therefore, all seller and
borrower-related revenues are considered part of normal business operations and are classified on
our income statement as operating revenue. Seller and borrower-related revenues decreased
$8,532,000, or 174%, to $(3,631,000), for the three months ended June 30, 2008, from $4,901,000 for
the three months ended June 30, 2007. Seller and borrower-related revenues decreased $10,799,000,
or 164%, to $(4,227,000), for the six months ended June 30, 2008, from $6,572,000 for the six
months ended June 30, 2007. The significant increase in seller and borrower-related revenues from
2007 to 2008 is primarily attributable to a decrease in borrower consulting fees generated, due to
the continuing restricted credit market environment.
Consulting Fees. We help sellers prepare their insurance agency businesses for sale by developing
business profiles, tabulating revenues, sharing our document library and general sale preparation.
We also generate revenues from consulting with insurance agency borrowers and assisting them in
securing loans. The scope of consulting engagements is largely determined by the size of the
business being sold or the loan being originated. Consulting fees are typically based on the
transaction value, are contingent upon closing of the transaction, and are paid at closing. We
complete consulting obligations at closing and are not required to perform any additional tasks for
sellers or borrowers. Therefore, with no continuing obligation on our part, consulting fees paid
directly by sellers or borrowers are immediately recognized as income. The decrease in consulting
fees from 2007 to 2008 is primarily attributable to the continuing restricted credit market
environment and, in part, to our New Era initiative, beginning in the fourth quarter of 2007, to
emphasize quality of franchisees over quantity of franchisees.
Gains on Sale of Businesses from Deferred Payments. Our business includes the buying and selling
of insurance agencies and occasionally holding them in inventory. When purchasing an agency, we
typically defer a portion of the purchase price, at a low or zero interest rate, to encourage the
seller to assist in the transition of the agency to one of our franchisees. We carry our liability
to the seller at a discount to the nominal amount we owe, to reflect the below-market interest
rate. When we sell an acquired business to a franchisee (typically on the same day it is
acquired), we generally sell it for the full nominal price (i.e. before the discount) paid to the
seller. When the sale price of the business exceeds the carrying value, the amount in excess of
the carrying value is recognized as a gain.
39
Gains on sale resulting primarily from discounted interest rates were 0 for the three months ended
June 30, 2008, compared to $443,000 for the three months ended June 30, 2007. Gains on sale
resulting primarily from discounted interest rates were $5,000 for the six months ended June 30,
2008, compared to $1,124,000 for the six months ended June 30, 2007. The decrease in gains from
2007 to 2008 was primarily due to the continuing restricted credit market environment and, in part,
to our New Era initiative, beginning in the fourth quarter of 2007, to emphasize quality of
franchisees over quantity of franchisees.
We regularly negotiate below-market interest rates on the deferred portion of the purchase prices
we pay sellers. We consider these below market interest rates to be a regular source of income
related to the buying and selling of businesses. Although we have a continuing obligation to pay
the deferred portion of the purchase price when due, we are not obligated to prepay the deferred
portion of the purchase price or to otherwise diminish the benefit of the below-market interest
rate upon which the reduced carrying value was based.
The calculation of the reduced carrying value, and the resulting gain on sale of businesses, is
made by calculating the net present value of scheduled future payments to sellers at a current
market interest rate. The following table provides information regarding the corresponding
calculations (in thousands, except percentages and number of days):
Calculation of Seller Discounts Based On Reduced Carrying Values
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Rate Used |
|
|
Full |
|
|
|
|
|
|
Gain on |
|
|
|
Beginning |
|
|
Weighted |
|
|
Weighted |
|
|
for Net |
|
|
Nominal |
|
|
Reduced |
|
|
Sale from |
|
|
|
Principal |
|
|
Average |
|
|
Average |
|
|
Present |
|
|
Purchase |
|
|
Carrying |
|
|
Deferred |
|
|
|
Balance |
|
|
Rate |
|
|
Maturity |
|
|
Value |
|
|
Price |
|
|
Value |
|
|
Payments |
|
Three Months Ended June 30, 2008 |
|
$ |
|
|
|
|
|
% |
|
days |
|
|
|
% |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
Six Months Ended June 30, 2008 |
|
|
60 |
|
|
|
7.75 |
|
|
304 days |
|
|
7.75 |
|
|
|
65 |
|
|
|
60 |
|
|
|
5 |
|
Three Months Ended June 30, 2007 |
|
|
3,683 |
|
|
|
9.75 |
|
|
602 days |
|
|
9.75 |
|
|
|
13,598 |
|
|
|
13,155 |
|
|
|
443 |
|
Six Months Ended June 30, 2007 |
|
$ |
9,561 |
|
|
|
9.75 |
% |
|
514 days |
|
|
9.75 |
% |
|
$ |
23,982 |
|
|
$ |
22,858 |
|
|
$ |
1,124 |
|
Gains on Sale of Businesses Company-Owned Stores. If we expect to own and operate businesses for
more than one year, we consider these businesses to be company-owned stores and treat such
transactions under purchase accounting principles, including booking intangible assets and
recognizing the related amortization expense. By contrast, businesses purchased for resale to our
franchisees (usually within one year) are carried at cost as business inventory, without the
booking of intangible assets. There were no gains on sale resulting from the sale of company-owned
stores for the three months ended June 30, 2008 and 2007. There were no gains on sale resulting
from the sale of company-owned stores for the six months ended June 30, 2008 and 2007.
Gains on Sale of Businesses Inventoried Stores. As noted above, acquired businesses are
typically sold on the same day as acquired for the same nominal price paid to the seller. However,
this is not always the case and businesses are occasionally held in inventory. As such, gains and
losses are recorded when an inventoried business is ultimately sold and carrying values of
inventoried businesses are adjusted to estimated market value when market value is less than cost.
Gains (losses) on sale resulting from the sale of inventoried stores were $(302,000) and $718,000
for the three months ended June 30, 2008 and 2007, respectively. Gains (losses) on sale resulting
from the sale of inventoried stores were $(1,153,000) and $718,000 for the six months ended June
30, 2008 and 2007, respectively.
Franchise
Collateral Preservation (CPA) Expenses. CPA activities are separated into two general
categories. The first category of CPA activities consists primarily of support services provided
by our Phillipsburg, Kansas campus personnel for all franchisees pursuant to a franchise agreement
and the corresponding recurring expenses are paid from recurring franchise fees collected from
franchisees and fees paid by lenders pursuant to Collateral Preservation Agreements (see above).
Recurring franchise fee revenues totaled $2,045,000 and $3,058,000, respectively, during the three
months ended June 30, 2008 and 2007. Recurring franchise fee revenues totaled $4,245,000 and
$5,868,000, respectively, during the six months ended June 30, 2008 and 2007. Associated support
services expenses totaled $2,558,000 and $2,118,000, respectively, during the three months ended
June 30, 2008 and 2007. Associated support services expenses totaled $5,575,000 and $4,665,000,
respectively, during the six months ended June 30, 2008 and 2007.
40
The second category of CPA activities consists primarily of the extra monitoring and consulting
with borrowers provided by national and regional personnel pursuant to collateral preservation
agreements with lenders. Collateral preservation fee revenues totaled $5,396,000 and $2,440,000,
respectively, during the three months ended June 30, 2008 and 2007. Collateral preservation fee
revenues totaled $12,240,000 and $4,383,000, respectively, during the six months ended June 30,
2008 and 2007. Associated collateral preservation expenses totaled $14,076,000 and $7,763,000,
respectively, during the three months ended June 30, 2008 and 2007. Associated collateral
preservation expenses totaled $22,028,000 and $16,283,000, respectively, during the six months
ended June 30, 2008 and 2007.
Franchise
Recruitment Expenses. We believe that we have a good agent program and have improved
our process for recruiting and identifying insurance agents who we believe have the personal
attributes required to be successful at starting or operating an insurance agency business.
Because not all agents have the personal attributes required for success as insurance agency
owners, we continue to recruit to replace those less suited. Recruitment plays a critical role in
assisting lenders in the preservation of collateral so that businesses on which the lender has
foreclosed or exercised its private right of sale can be sold to new franchisees who may be more
capable or more willing to successfully operate an insurance agency. Recruitment personnel
expenses totaled $587,000 and $689,000, respectively, during the three months ended June 30, 2008
and 2007. Recruitment personnel expenses totaled $1,210,000 and $1,612,000, respectively, during
the six months ended June 30, 2008 and 2007.
Income/Loss
Before Income Taxes. We incurred a loss before income taxes of $24,097,000 during the
three months ended June 30, 2008, as compared to income before taxes of $2,136,000 during the three
months ended June 30, 2007. We incurred a loss before income taxes of $28,596,000 during the six
months ended June 30, 2008, as compared to income before taxes of $6,721,000 during the six months
ended June 30, 2007. The loss incurred during 2008 was primarily the result of shrinking the
franchise network through closing, relocating or selling company-owned stores and establishing
corresponding reserves for agency inventory write downs, lease buyouts and equipment write downs,
producer development write downs and other restructuring expenses. The 2008 loss was also the
result of a reduction in the amount of initial franchise fee revenues and other associated
consulting fees due to the continuing restricted credit market environment, and, in part, to our
New Era initiative beginning in the fourth quarter of 2007, to emphasize quality of franchisees
over quantity of franchisees.
Company-Owned
Stores. Because our franchising philosophy is predicated on local ownership and
generating revenues from sales commissions paid to franchisees on the sale of insurance policies
issued by third-party insurance companies, an increasing percentage of inventoried, managed,
pending, franchisor-developed and franchisee-developed stores relative to franchisee-owned stores
is generally undesirable from a franchising perspective. Accordingly, during the second quarter of
2008, we significantly reduced the number of company-owned stores by closing, relocating, selling
or preparing to sell, 147 company-owned stores resulting in non typical expenses for associated
reserves and write offs totaling $13,425,000.
We believe that we have a good agent program and have improved our process for recruiting and
identifying insurance agents who we believe have the personal attributes required to be successful
at starting or operating an insurance agency business. Because not all agents have the personal
attributes required for success as insurance agency owners, we continue to recruit to replace those
less suited.
Same Store Sales. Revenue generation, primarily commissions from insurance sales, is an important
factor in franchise financial performance and revenue generation is carefully analyzed by us.
Twenty-four months after initial conversion of an acquired business, we consider a franchise
seasoned and the comparison of current to prior year revenues a more reliable indicator of
franchise performance. Combined same store sales of seasoned converted franchises and start up
franchises for the twelve months ended June 30, 2008 and 2007 decreased 5.7% and increased 0.1%,
respectively. The median annual revenue growth rates of seasoned converted franchises and
qualifying start up franchises for the twelve months ended June 30, 2008 and 2007 were 2.0% and
3.4%. All same store calculations exclude profit sharing commissions. Same store calculations are
based entirely on commissions allocated by us to franchisees monthly statements. We are unable to
determine the impact, if any, on same store calculations resulting from commissions that
franchisees receive but do not process through us as required by their franchise agreement.
41
Same store sales performance has been adversely affected by the soft property and casualty
insurance market, which is characterized by a flattening or decreasing of premiums by insurance
companies. Our franchisees
predominately sell personal lines insurance, with more than 50% of our total commissions resulting
from the sale of auto insurance policies, and we believe that the insurance market has been
particularly soft with regards to premiums on personal lines insurance policies. We are beginning
to see indications that the market may be firming, which may have an effect on same store sales
performance in the future.
Franchise Balances. We categorize the balances owed by franchisees as either statement balances or
non-statement balances. Statement balances are generally short-term and non-statement balances are
generally longer term. We believe the most accurate analysis of franchise balances occurs
immediately after settlement of franchisees monthly statements and before any additional entries
are recorded to their account. Therefore, the following discussion of franchise balances is as of
the settlement date that follows the corresponding commission month.
Statement Balances. We have historically assisted franchisees with short-term cash flow assistance
by advancing commissions and granting temporary extensions of due dates for franchise statement
balances owed by franchisees to us. Franchisees sometimes require short-term cash flow assistance
because of cyclical fluctuations in commission receipts. Short-term cash flow assistance is also
required when franchisees are required to pay us for insurance premiums due to insurance companies
prior to receipt of the corresponding premiums from policyholders. The difference in these amounts
has been identified as the uncollected accounts balance and this balance is calculated by
identifying all charges to franchise statements for net premiums due insurance companies for which
a corresponding deposit from policyholders into a premium trust account has not been recorded.
Despite commission fluctuations and uncollected accounts balances, we expect franchisees to
regularly pay their statement balances within a 30-day franchise statement cycle.
Any commission advance that remains unpaid after 120 days is placed on watch status. The
increase in watch statement balances is partially attributable to financial stress resulting from
less commission revenues due to reduction of premium rates by insurance companies. In early April
2008, we notified our franchisees that we will no longer provide commission advances after August
15, 2008 because they are expensive to administer and collect. Management believes that this
change alone will not have an adverse effect on franchisees businesses, since sufficient notice
has been provided, which allows franchisees to build funds internally or obtain outside credit.
The following table summarizes total statement balances, uncollected account balances and watch
statement balances as of June 30, 2008 and December 31, 2007 (in thousands).
|
|
|
|
|
|
|
|
|
|
|
As of |
|
|
As of |
|
|
|
June 30, |
|
|
December 31, |
|
|
|
2008 |
|
|
2007 |
|
Total Statement Balances |
|
$ |
9,918 |
|
|
$ |
9,662 |
|
Uncollected Accounts* (Included in Above Total Statement Balances) |
|
$ |
2,773 |
|
|
$ |
3,688 |
|
Watch Statement Balances (Included in Above Total Statement Balances) |
|
$ |
9,652 |
|
|
$ |
9,077 |
|
Watch Statement Uncollected Accounts** |
|
$ |
1,941 |
|
|
$ |
1,657 |
|
|
|
|
* |
|
These amounts are limited to uncollected balances for franchisees with unpaid statement balances
as of June 30, 2008 and December 31, 2007. |
|
** |
|
These amounts are limited to uncollected balances for franchisees with watch statement balances
as of June 30, 2008 and December 31, 2007. |
Non-Statement Balances. Separate from short-term statement balances, we also extend credit to
franchisees for long-term producer development, including hiring and training new franchise
employees, and for other reasons not related to monthly fluctuations of revenues. These
longer-term non-statement balances are not reflected in the short-term statement balances
referenced above and totaled $11,717,000 and $9,798,000, respectively, as of June 30, 2008, and
December 31, 2007. Management intends to limit significantly the availability of non-statement
balance funds.
Reserve for Doubtful Accounts. As part of the agreement to merge Brooke Franchise into Brooke
Capital, Brooke Corporation continues to agree to guarantee the repayment of franchise balances
outstanding as of June 30, 2007. The reserve increased significantly primarily to reflect the
expected write offs of franchise balances related to
producer development of closed, relocated or sold stores. The amount of our reserve for doubtful
accounts was $6,700,000 as of June 30, 2008 and was $1,114,000 on December 31, 2007. Franchise
balances outstanding as of June 30, 2008, and December 31, 2007 totaled $21,635,000 and
$19,460,000, respectively.
42
The following table summarizes the Reserve for Doubtful Accounts activity for the periods ended
June 30, 2008 and December 31, 2007 (in thousands). Additions to the reserve for doubtful accounts
are charged to expense. Write offs in the table below are net of reimbursement from Brooke
Corporation pursuant to its guaranty of franchise balances in connection with the merger.
Valuation and Qualifying Accounts
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at |
|
|
|
|
|
|
Write Off |
|
|
Write Off |
|
|
|
|
|
|
Beginning of |
|
|
Charges to |
|
|
Statement |
|
|
Non-Statement |
|
|
Balance at |
|
|
|
Period |
|
|
Expenses |
|
|
Balances |
|
|
Balances |
|
|
End of Period |
|
Allowance for
Doubtful Accounts |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six months ended
June 30, 2008 |
|
$ |
1,114 |
|
|
$ |
6,645 |
|
|
$ |
421 |
|
|
$ |
638 |
|
|
$ |
6,700 |
|
Year ended December
31, 2007 |
|
$ |
1,466 |
|
|
$ |
4,276 |
|
|
$ |
961 |
|
|
$ |
3,667 |
|
|
$ |
1,114 |
|
Insurance Agency Consulting Activities
Through our wholly-owned subsidiary, Brooke Capital Advisors, Inc. (BCA), we provide consulting
services to managing general agencies and collateral preservation services relating to such loans.
This business expanded in 2007 to include similar services for funeral home businesses and loans
related thereto. During the three months ended June 30, 2008 and 2007, BCA generated $0 and
$3,300,000 respectively, in loan brokerage and other related consulting fees. Income derived from
collateral preservation services and related activities represented a total of $611,000 and
$688,000, respectively, during the three months ended June 30, 2008 and 2007. BCA became a part of
our business on December 8, 2006, in connection with Brooke Corporations acquisition of a
controlling interest in us on that date.
During the six months ended June 30, 2008 and 2007, BCA generated $230,000 and $3,300,000
respectively, in loan brokerage and other related consulting fees. Income derived from collateral
preservation services and related activities represented a total of $1,370,000 and $943,000,
respectively, during the six months ended June 30, 2008 and 2007.
Expenses related to the loan brokerage activity during the three months ended June 30, 2008 and
2007 included compensation related expenses of $475,000 and $514,000, respectively. Other expenses
during the three months ended June 30, 2008 and 2007 included loan brokerage expenses of $0 and
$125,000, respectively, and shared services expenses of $435,000 and $435,000, respectively, paid
to Brooke Corporation.
Expenses related to the loan brokerage activity during the six months ended June 30, 2008 and 2007
included compensation related expenses of $888,000 and $649,000, respectively. Other expenses
during the six months ended June 30, 2008 and 2007 included loan brokerage expenses of $66,000 and
$125,000, respectively, and shared services expenses of $870,000 and $435,000, respectively, paid
to Brooke Corporation.
43
Corporate Activities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three |
|
|
Three |
|
|
|
|
|
|
Six |
|
|
Six |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
|
(in thousands) |
|
|
|
|
|
|
(in thousands) |
|
|
|
|
|
REVENUES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest income |
|
$ |
70 |
|
|
$ |
82 |
|
|
|
(15 |
)% |
|
$ |
132 |
|
|
$ |
89 |
|
|
|
48 |
% |
Other income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating revenues |
|
|
70 |
|
|
|
82 |
|
|
|
(15 |
) |
|
|
138 |
|
|
|
89 |
|
|
|
55 |
|
EXPENSES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payroll expense |
|
|
52 |
|
|
|
190 |
|
|
|
(73 |
) |
|
|
75 |
|
|
|
214 |
|
|
|
(65 |
) |
Depreciation and
amortization |
|
|
13 |
|
|
|
11 |
|
|
|
18 |
|
|
|
25 |
|
|
|
27 |
|
|
|
(7 |
) |
Other operating expenses |
|
|
160 |
|
|
|
257 |
|
|
|
(38 |
) |
|
|
315 |
|
|
|
384 |
|
|
|
(18 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
225 |
|
|
|
458 |
|
|
|
(51 |
) |
|
|
415 |
|
|
|
625 |
|
|
|
(34 |
) |
Loss from operations |
|
|
(155 |
) |
|
|
(376 |
) |
|
|
59 |
|
|
|
(277 |
) |
|
|
(536 |
) |
|
|
48 |
|
Interest expense |
|
|
75 |
|
|
|
|
|
|
|
|
|
|
|
143 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes |
|
$ |
(230 |
) |
|
$ |
(376 |
) |
|
|
39 |
|
|
$ |
(420 |
) |
|
$ |
(536 |
) |
|
|
22 |
|
Total assets (at period end) |
|
$ |
12,000 |
|
|
$ |
1,000 |
|
|
|
1,100 |
% |
|
$ |
12,000 |
|
|
$ |
1,000 |
|
|
|
1,100 |
% |
We reported receivables from affiliates of $22,862,000 and $18,441,000 at June 30, 2008 and
December 31, 2007, respectively. Our cash balances are sometimes commingled with the balances of
Brooke Corporation and its other subsidiaries for cash management purposes. We receive and/or pay
interest for the availability/use of these funds. Interest income and interest expense are
primarily the result of amounts advanced from our subsidiary, BCA, and loaned to our franchise
operating division and other Brooke Corporation affiliates. Where appropriate, these amounts are
eliminated in consolidation. During the three and six months ended June 30, 2008, we recorded
$15,000 and $30,000, respectively, in expense in connection with shared services agreements with
Brooke Corporation.
Other operating expenses during the three months ended June 30, 2008 and 2007 include legal and
professional fees of $119,000 and $201,000, respectively. Other operating expenses during the six
months ended June 30, 2008 and 2007 include legal and professional fees of $240,000 and $315,000,
respectively.
Discontinued Operation
Life insurance policy premiums are currently generated entirely through First Life America
Corporation.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three |
|
|
Three |
|
|
|
|
|
|
Six |
|
|
Six |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
Months |
|
|
Months |
|
|
2008 |
|
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
Ended |
|
|
Ended |
|
|
% Increase |
|
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
June 30, |
|
|
June 30, |
|
|
(decrease) |
|
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
2008 |
|
|
2007 |
|
|
over 2007 |
|
|
|
(in thousands) |
|
|
|
|
|
|
(in thousands) |
|
|
|
|
|
REVENUES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Insurance premiums earned |
|
$ |
898 |
|
|
$ |
849 |
|
|
|
6 |
% |
|
$ |
2,000 |
|
|
$ |
1,922 |
|
|
|
4 |
% |
Interest income |
|
|
408 |
|
|
|
352 |
|
|
|
16 |
|
|
|
805 |
|
|
|
667 |
|
|
|
21 |
|
Other income |
|
|
61 |
|
|
|
60 |
|
|
|
2 |
|
|
|
121 |
|
|
|
124 |
|
|
|
(3 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
1,367 |
|
|
|
1,261 |
|
|
|
8 |
|
|
|
2,926 |
|
|
|
2,713 |
|
|
|
8 |
|
EXPENSES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commission expense |
|
|
49 |
|
|
|
50 |
|
|
|
(2 |
) |
|
|
104 |
|
|
|
109 |
|
|
|
(5 |
) |
Payroll expense |
|
|
134 |
|
|
|
116 |
|
|
|
16 |
|
|
|
312 |
|
|
|
240 |
|
|
|
30 |
|
Depreciation and
amortization |
|
|
195 |
|
|
|
212 |
|
|
|
(8 |
) |
|
|
385 |
|
|
|
394 |
|
|
|
(2 |
) |
Other expenses |
|
|
933 |
|
|
|
667 |
|
|
|
(40 |
) |
|
|
2,046 |
|
|
|
1,747 |
|
|
|
(17 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses |
|
|
1,311 |
|
|
|
1,045 |
|
|
|
25 |
|
|
|
2,847 |
|
|
|
2,490 |
|
|
|
14 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from discontinued
operation |
|
|
56 |
|
|
|
216 |
|
|
|
(74 |
) |
|
|
79 |
|
|
|
223 |
|
|
|
(65 |
) |
Total assets (at period end) |
|
$ |
35,000 |
|
|
$ |
31,000 |
|
|
|
13 |
% |
|
$ |
35,000 |
|
|
$ |
31,000 |
|
|
|
13 |
% |
Net premium income increased from $849,000 during the three months ended June 30, 2007, to $898,000
for the three months ended June 30, 2008. Net premium income increased from $1,922,000 during the
six months ended June 30, 2007, to $2,000,000 for the six months ended June 30, 2008.
44
Net interest income increased $56,000 or 16% for the three months ended June 30, 2008, compared to
the same period for 2007 and increased $138,000 or 21% for the six months ended June 30, 2008,
compared to the same period for 2007, due primarily to the increased size of our investment
portfolio.
Operating expenses totaled $1,311,000 and $1,045,000 for the three months ended June 30, 2008 and
2007, respectively. Included in total operating expenses were policy reserve increases of $249,000
and $152,000 for the three months ended June 30, 2008 and 2007, respectively. Operating expenses
totaled $2,847,000 and $2,490,000 for the six months ended June 30, 2008 and 2007, respectively.
Included in total operating expenses were policy reserve increases of $544,000 and $482,000 for the
six months ended June 30, 2008 and 2007, respectively. Life insurance reserves are actuarially
determined based on such factors as insured age, life expectancy, mortality and interest
assumptions. As more life insurance is written and existing policies reach additional durations,
policy reserve requirements will continue to increase.
Our death claims expense increased to $241,000 during the three months ended June 30, 2008 as
compared to $104,000 during the same time period in 2007 and increased to $562,000 during the six
months ended June 30, 2008 as compared to $417,000 during the same time period in 2007. Increases
in death claims expense are reflective of the continued maturation of the final expense policies,
which are generally purchased by consumers in their senior years.
Commission expense is based on a percentage of premiums and is determined in the product design.
Additionally, higher percentage commissions are paid for first year business than renewal year. As
our focus has shifted to marketing our life insurance products instead of our annuity products,
gross and net commission expense has declined.
Policy acquisition costs deferred result from the capitalization of costs related to the sales of
life insurance and include commissions on first year business, medical exam and inspection report
fees, and salaries of employees directly involved in the marketing, underwriting and policy
issuance functions. The level of these costs deferred has declined due to reduced levels of
commission expense paid on issuance of annuity contracts in 2008 as compared to 2007. Amortization
of deferred policy acquisition costs was $172,000 and $195,000 for the three month periods ended
June 30, 2008 and 2007, respectively. Amortization of deferred policy acquisition costs was
$341,000 and $359,000 for the six month periods ended June 30, 2008 and 2007, respectively.
Management performs quarterly reviews of the recoverability of deferred acquisition costs based on
current trends as to persistency, mortality and interest. These trends are compared to the
assumptions used in the establishment of the original asset in order to assess the need for
impairment. Based on the results of the aforementioned procedures performed by management, no
impairments have been recorded against the balance of deferred acquisition costs.
Liquidity and Capital Resources
Our sources of capital primarily include cash from operations and debt.
Our cash and cash equivalents were $229,000 as of June 30, 2008, compared to $2,174,000 at December
31, 2007. During the six months ended June 30, 2008, net cash of $2,395,000 was provided by
operating activities which primarily resulted from an increase in accounts and expense payables.
Net cash of $1,048,000 was used in investing activities primarily for the purchase of securities.
Net cash of $3,292,000 was used in financing activities, primarily from net payments to affiliates
of $4,421,000.
Our cash and cash equivalents were $21,127,000 as of June 30, 2007, compared to $12,366,000 at
December 31, 2006. During the six months ended June 30, 2007, net cash of $10,505,000 was provided
by operating activities which primarily resulted from an increase in purchase of business inventory
provided by sellers. Net cash of $6,553,000 was used in investing activities primarily for the
purchase of property and equipment. Net cash of $4,809,000 was provided by financing activities,
primarily from proceeds on debt.
Our current ratios (current assets to current liabilities) were 0.89 and 1.00, respectively, at
June 30, 2008 and December 31, 2007. We expect the current ratio to return to approximately 1.00
upon the sale of First Life and the application of sale proceeds to short term debt.
45
The current credit environment has made it difficult for us to raise debt or equity to fund the
expansion of insurance company operations. As such, we entered into an agreement on July 18, 2008,
to sell our life insurance subsidiary, First Life America Corporation, and are considering either
the termination of our Exchange Agreement with Brooke Corporation to acquire a non-standard auto
company, Delta Plus Holdings Inc., or the sale of Delta Plus Holdings by us if the Exchange
Agreement is completed. We intend to use proceeds from the sale of First Life to repay short term
bank debt.
Our company is focused on the distribution of insurance through franchised insurance agents.
During the second quarter, our company made a difficult transition by reducing operating expenses
to levels that are less than expected recurring revenues from royalties, servicing fees and profit
sharing fees.
As a result, we are reasonably confident that third quarter cash flows will be sufficient to pay
operating expenses in the third quarter provided that we receive the servicing fees for collateral
preservation consulting that are owed to us by securitization trusts.
During this difficult second quarter transition, we incurred carry over payable balances to
sellers, vendors and landlords of approximately $3,800,000 for which third quarter cash flows will
not be sufficient to repay. However, we have negotiated payment terms with most of these creditors
which permit payment over an extended period, so we do not believe that this will create a
liquidity issue.
We are also reasonably confident that annualized operating expenses have been sufficiently reduced
so that 2009 cash flows will be positive, provided that our line of credit lender continues our
lending relationship.
Subject to the above uncertainties, we believe that our existing cash, cash equivalents and funds
generated from operating, investing and financing activities will be sufficient to satisfy our
normal financial needs. Additionally, subject to the above, we believe that funds generated from
future operating, investing and financing activities and potential liquidation of assets will be
sufficient to satisfy our future financing needs, including the required annual principal payments
of our long-term debt and any future tax liabilities.
Capital Commitments
The following summarizes our contractual obligations as of June 30, 2008, and the effect those
obligations are expected to have on our liquidity and cash flow in future periods (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due by Period |
|
|
|
|
|
|
|
Less Than |
|
|
1 to 3 |
|
|
3 to 5 |
|
|
More Than |
|
Contractual Obligations |
|
Total |
|
|
1 Year |
|
|
Years |
|
|
Years |
|
|
5 Years |
|
Short-term borrowings |
|
$ |
8,063 |
|
|
$ |
8,063 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
Long-term debt |
|
|
41,325 |
|
|
|
24,986 |
|
|
|
5,836 |
|
|
|
7,725 |
|
|
|
2,778 |
|
Interest payments* |
|
|
6,433 |
|
|
|
2,393 |
|
|
|
2,421 |
|
|
|
853 |
|
|
|
766 |
|
Operating leases (facilities) |
|
|
18,383 |
|
|
|
8,729 |
|
|
|
8,373 |
|
|
|
1,077 |
|
|
|
204 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total from continuing operations |
|
|
74,204 |
|
|
|
44,171 |
|
|
|
16,630 |
|
|
|
9,655 |
|
|
|
3,748 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Discontinued operation |
|
$ |
27,145 |
|
|
$ |
2,443 |
|
|
$ |
5,429 |
|
|
$ |
6,243 |
|
|
$ |
13,030 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
* |
|
Includes interest on short-term and long-term borrowings. For additional information on the
debt associated with these interest payments see Note 6 to our combined financial statements. |
Our principal capital commitments consist of bank lines of credit, term loans, deferred payments to
business sellers and obligations under leases for our facilities. We have entered into
enforceable, legally binding agreements that specify all significant terms with respect to the
contractual commitment amounts in the table above.
Capital commitments of our discontinued operation include future annuity and policy benefits.
While annuity contracts have scheduled payments, the timing of the cash flows associated with life
insurance policies is uncertain and can vary significantly.
46
Critical Accounting Policies
Our established accounting policies are summarized in Note 1 to our combined financial statements
for the years ended December 31, 2007 and 2006, and the periods ended June 30, 2008 and 2007. As
part of our oversight responsibilities, we continually evaluate the propriety of our accounting
methods as new events occur. We believe that our policies are applied in a manner that is intended
to provide the user of our financial statements with a current, accurate and complete presentation
of information in accordance with generally accepted accounting principles.
We believe that the following accounting policies are critical. These accounting policies are more
fully explained in Note 1 to our combined financial statements for the years ended December 31,
2007 and 2006, and the periods ended June 30, 2008 and 2007.
The preparation of our financial statements requires us to make estimates and judgments that affect
the reported amounts of our assets, liabilities, revenues and expenses. The following discussions
summarize how we identify critical accounting estimates, the historical accuracy of these
estimates, sensitivity to changes in key assumptions, and the likelihood of changes in the future.
The following discussions also indicate the uncertainties in applying these critical accounting
estimates and the related variability that is likely to result during the remainder of 2008.
Franchisees Share of Undistributed Commissions. We are obligated to pay franchisees a share of
all commissions we receive. Prior to allocation of commissions to a specific policy, we cannot
identify the policy owner and do not know the corresponding share (percentage) of commissions to be
paid. We estimate the franchisees share of commissions to determine the approximate amount of
undistributed commissions that we owe to franchisees.
An estimate of franchisees shares of undistributed commissions is made based on historical rates
of commission payout, managements experience and the trends in actual and forecasted commission
payout rates. Although commission payout rates will vary, we do not expect significant variances
from year to year. We regularly analyze and, if necessary, immediately change the estimated
commission payout rates based on the actual average commission payout rates. The commission payout
rate used in 2007 to estimate franchisees share of undistributed commissions was 85% and the
actual average commission payout rate to franchisees (net of profit sharing commissions) was 80%
for the three months ended June 30, 2008 and was 80% for the six months ended June 30, 2008. We
believe that these estimates may change slightly with the reduction of service centers during the
remainder of 2008.
Reserve for Doubtful Accounts. Our reserve for doubtful accounts is comprised primarily of a
reserve for estimated losses related to amounts owed to us by franchisees for short-term credit
advances, which are recorded as monthly statement balances, and longer-term credit advances, which
are recorded as non-statement balances. Losses from advances to franchisees are estimated by
analyzing all advances recorded to franchise statements that had not been repaid within the
previous four months; all advances recorded as non-statement balances for producers who are in the
first three months of development, total franchise statement balances; total non-statement
balances; historical loss rates; loss rate trends; potential for recoveries; and managements
experience. Loss rates will vary and significant growth in our franchise network could accelerate
those variances. The effect of any such variances can be significant. The estimated reserve for
doubtful accounts as of June 30, 2008 was $6,700,000. The estimated reserve was approximately 144%
of the actual amount of losses from advances made to franchisees for the twelve months ended June
30, 2008, approximately 31% of the actual total combined franchise statement and non-statement
balances as of June 30, 2008, and approximately 69% of the actual combined advances recorded to
franchise statements that had not been repaid during the four-month period ended June 30, 2008 and
recorded as non-statement balances for producers in the first three months of development.
Amortization and Useful Lives. We acquire insurance agencies and other businesses that we intend
to hold for more than one year. We record these acquisitions as Amortizable intangible assets.
Accounting for Amortizable intangible assets, and the subsequent tests for impairment are
summarized in Note 1(h) to our combined financial statements for the years ended December 31, 2007
and 2006. The rates of amortization of Amortizable intangible assets are based on our estimate of
the useful lives of the renewal rights of customer and insurance contracts purchased. We estimate
the useful lives of these assets based on historical renewal rights information, managements
experience, industry standards, and trends in actual and forecasted commission payout rates. The
rates of amortization are calculated on an accelerated method (150% declining balance) based on a
15-year life. As of December 31, 2007, we tested Amortizable intangible assets for impairment and
the resulting analysis indicated that our assumptions were historically accurate and that the
useful lives of these assets exceeded the amortization rate. The Amortizable intangible assets
have a relatively stable life and unless unforeseen circumstances occur, the life is not expected
to change in the foreseeable future. Because of the relatively large remaining asset balance,
changes in our estimates could significantly impact our results.
47
Income
Tax Expense. An estimate of income tax expense (benefit) is based primarily on historical
rates of actual income tax payments. The estimated effective income tax rate used in 2007 to
calculate income tax expense was 38%. Although not expected, significant changes in our estimated
tax rate could significantly impact our results. We believe this estimate will not change
significantly during 2008. Deferred income taxes are recorded on the differences between the tax
bases of assets and liabilities and the amounts at which they are reported in the combined
financial statements. Recorded amounts are adjusted to reflect changes in income tax rates and
other tax law provisions as they become enacted.
Revenue
Recognition Policies. Revenue recognition is summarized in Note 1(f) to our combined
financial statements for the years ended December 31, 2007 and 2006.
Accounting policies critical to our discontinued operation would include the following:
Deferred Policy Acquisition Costs. Commissions and other costs of acquiring life insurance, which
vary with, and are primarily related to, the production of new business have been deferred to the
extent recoverable from future policy revenues and gross profits. The acquisition costs are being
amortized over the premium paying period of the related policies using assumptions consistent with
those used in computing policy reserves.
Future Policy Benefits. Traditional life insurance policy benefit liabilities are computed on a
net level premium method using assumptions with respect to current yield, mortality, withdrawal
rates, and other assumptions deemed appropriate by us.
Future Annuity Benefits. Annuity contract liabilities are computed using the retrospective deposit
method and consist of policy account balances before deduction of surrender charges, which accrue
to the benefit of policyholders. Premiums received on annuity contracts are recognized as an
increase in a liability rather than premium income. Interest credited on annuity contracts is
recognized as an expense.
Reinsurance. Reinsurance is one of the tools that First Life uses to accomplish its business
objectives. A variety of reinsurance vehicles is currently in use. Reinsurance supports a
multitude of corporate objectives including managing statutory capital, reducing volatility and
reducing surplus strain. At the customer level, it increases First Lifes capacity, provides
access to additional underwriting expertise, and generally makes it possible First Life to offer
products at competitive levels that First Life could not otherwise bring to market without
reinsurance support.
Investments. First Life classifies all of its fixed maturity and equity investments as
available-for-sale. Available-for-sale fixed maturities are carried at fair value with unrealized
gains and losses, net of applicable taxes, reported in other comprehensive income. Equity
securities are carried at fair value with unrealized gains and losses, net of applicable taxes,
reported in other comprehensive income. Substantially all of First Lifes available-for-sale
securities fair values are determined using quoted prices provided by nationally recognized
securities exchanges and other sources. Mortgage loans on real estate are carried at cost less
principal payments. Other investments are carried at amortized cost. Discounts originating at the
time of purchase, net of capitalized acquisition costs, are amortized using the level yield method
on an individual basis over the remaining contractual term of the investment. Policy loans are
carried at unpaid balances. Cash equivalents consist of highly liquid investments with maturities
of three months or less at the date of purchase and are carried at cost, which approximates fair
value. Realized gains and losses on sales of investments are recognized in operations on the
specific identification basis. Interest earned on investments is included in net investment
income.
48
With respect to the previously described critical accounting policies, we believe that the
application of judgments and assumptions is consistently applied and produces financial information
which fairly depicts the results of operations for all years presented.
Recently Issued Accounting Pronouncements
See Note 18 to our combined financial statements for a discussion of the effects of the adoption of
new accounting standards, including Statement of Financial Accounting Standard No. 157, Fair Value
Measurements, which became effective for us in 2008.
Contractual Obligations
See Note 5 to our combined financial statements for tabular disclosure of information related to
our long-term contractual obligations as of June 30, 2008, and December 31, 2007, incorporated
herein by this reference.
Related Party Transactions
See Notes 2 and 11 to our combined financial statements for information about related party
transactions.
Impact of Inflation and General Economic Conditions
There have been no material changes to the description of the impact of inflation and general
economic conditions reported in our annual report on Form 10-K for the year ended December 31,
2007, except as noted below.
Although inflation has not had a material adverse effect on our financial condition or results of
operations, increases in the inflation rate are generally associated with increased interest rates.
A significant and sustained increase in interest rates could adversely affect our franchisees
ability to repay their variable rate loans and thereby adversely affect their operations. Such an
interest rate increase could also adversely affect our profitability by increasing our interest
expenses and other operating expenses. The continuing restricted credit market environment could
also have an adverse impact on our operations, and has caused us to plan for a no-growth scenario
for at least the remainder of 2008.
A significant change in interest rates or in the willingness to extend credit could have a
significant and adverse impact on lenders ability to make loans to our franchisees, and, by
extension, on our ability to continue expanding our agency network.
Our business is also dependent on the cyclical pricing of property and casualty insurance, which
may adversely affect our franchisees performance and, thus, our financial performance. Our
franchisees primarily derive their revenues from commissions paid by insurance companies, which
commissions are based largely on the level of premiums charged by such insurance companies. In
turn, we earn fees from our franchisees based upon the commissions earned by our franchisees.
Because these premium rates are cyclical, our financial performance is dependent, in part, on the
fluctuations in insurance pricing. Although the current insurance market generally may be
characterized as soft, with a flattening or decreasing of premiums in most lines of insurance, it
is likely that insurance pricing will decrease further in the future, subjecting us to lower
commissions on the insurance placed by our franchisees.
A steep decline in insurance pricing could have a significant and adverse impact on our
franchisees, because the commissions that they earn would likely decrease along with insurance
pricing. That adverse impact would likely reduce our share of our franchisees insurance
commissions and could also hurt our franchisees ability to make timely payment of principal and
interest on their loans.
A general decline in economic activity in the United States or in one of the states or geographic
regions in which we operate, such as California, Texas, the Southwest, the Midwest or the
Southeast, could also affect our results and financial condition.
49
An adverse change in economic activity could reduce the ability of individuals and small businesses
the key customers for our franchisees to purchase insurance and other financial services. In
such event, the revenue growth rate of our franchisees could flatten or decline, in turn reducing
our revenues and hurting our franchisees ability to make timely interest and principal payments on
their loans.
All other schedules have been omitted because they are either inapplicable or the required
information has been provided in the combined financial statements or the notes thereto.
ITEM 3. QUANTITIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
There was no material change during the quarter from the information set forth in Part II, Item 7A.
Quantitative and Qualitative Disclosures about Market Risk in the Annual Report on Form 10-K for
the year ended December 31, 2007.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Controls and Procedures
We have adopted and maintain disclosure controls and procedures (as such term is defined in Rules
13a-15(e) and 15d-15(e) under the Exchange Act) that are designed to ensure that information
required to be disclosed in our reports under the Exchange Act is recorded, processed, summarized
and reported within the time periods required under the Securities and Exchange Commissions rules
and forms and that the information is gathered and communicated to our management, including our
Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions
regarding required disclosure. In designing and evaluating the disclosure controls and procedures,
management recognizes that any controls and procedures, no matter how well designed and operated,
can provide only reasonable assurance of achieving the desired control objectives, and management
is required to apply its judgment in evaluating the cost-benefit relationship of possible controls
and procedures.
As of the end of the period covered by this report, we have carried out an evaluation, under the
supervision and with the participation of management, including our Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and operation of our disclosure
controls and procedures. Based on the foregoing, our Chief Executive Officer and Chief Financial
Officer concluded that our disclosure controls and procedures were effective in alerting management
on a timely basis of material information required to be disclosed in our reports at the reasonable
assurance level.
Changes in Internal Control over Financial Reporting
There was no change in our internal control over financial reporting that occurred during the
fiscal quarter ended June 30, 2008 that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 1A. RISK FACTORS
There are no material changes during the quarter in the Risk Factors disclosed in Item 1A -Risk
Factors in the Companys Annual Report on Form 10-K for the year ended December 31, 2007.
50
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of Shareholders of the Company was held on May 15, 2008, at which the following
proposals were voted upon by the shareholders:
PROPOSAL NO. 1
Election of the following six directors to serve until the next Annual Meeting of Shareholders or
until their successors are duly elected and qualified:
|
|
|
|
|
|
|
|
|
|
|
For |
|
|
Withheld |
|
Robert D. Orr |
|
|
6,795,800 |
|
|
|
0 |
|
|
|
|
|
|
|
|
Paul E. Burke, Jr. |
|
|
6,795,800 |
|
|
|
0 |
|
|
|
|
|
|
|
|
Richard E. Gill |
|
|
6,795,800 |
|
|
|
0 |
|
|
|
|
|
|
|
|
Michael S. Hess |
|
|
6,795,800 |
|
|
|
0 |
|
|
|
|
|
|
|
|
Kyle Garst |
|
|
6,795,800 |
|
|
|
0 |
|
|
|
|
|
|
|
|
Dane S. Devlin |
|
|
6,795,800 |
|
|
|
0 |
|
|
|
|
|
|
|
|
PROPOSAL NO. 2
Ratification of the appointment of Summers, Spencer & Callison, CPAs, Chartered as the independent
registered public accounting firm of the Company:
|
|
|
|
|
For |
|
Against |
|
Abstain |
6,795,800
|
|
0 |
|
0 |
|
|
|
|
|
ITEM 5. OTHER INFORMATION
Departure of Certain Officers
On August 15, 2008, Kyle L. Garst notified the Board of Directors of the Company (the Board) that
he was resigning his position as Chief Executive Officer of the Company, effective immediately. Mr.
Garst will continue to serve as President of the Company.
On August 15, 2008, Leland G. Orr notified the Board that he was resigning his position as Chief
Financial Officer and Treasurer, effective immediately.
51
Appointment of Certain Officers
On August 15, 2008, the Board appointed Robert D. Orr as Chief Executive Officer, effective
immediately. Mr. Orr, 54, is the founder of Brooke Corporation
(an affiliate of the Company, Brooke). Mr.
Orr has served as a director of Brooke since its inception in 1986 and served as its
Chief Executive Officer from 1986 until October 2007.
Additionally, he was Brookes President from 1986 until 1991 and has been its Chairman of the Board since 1991. Prior to focusing
full time as the Chairman of the Board of Brooke, Mr. Orr served as President of
Farmers State Bank, Phillipsburg, Kansas, Chairman of the Board of Brooke State Bank, Jewell,
Kansas, President of First National Bank, Smith Center, Kansas, and a self-employed insurance agent
for American Family Insurance Company. Mr. Orr is an honors graduate from Fort Hays State
University in Hays, Kansas, with a Bachelor of Arts degree in Political Science. He also completed
the Graduate School of Banking program at the University of Colorado. Mr. Orr is the author of a
book published in 2000 about the sale of insurance and financial services in the internet age
entitled Death of an Insurance Salesman? Related party disclosures with respect to Mr. Orr were
disclosed in the Companys definitive proxy statement filed on April 28, 2008, in the section
titled Certain Relationships and Related Party Transactions.
On August 15, 2008, the Board appointed Travis W. Vrbas, as Chief Financial Officer and Treasurer,
effective immediately. Mr. Vrbas, Brookes Chief Financial Officer since March 2008,
has been with Brooke since March 2003. Since joining Brooke, Mr. Vrbas was responsible for the
Sarbanes-Oxley compliance of Brooke and its subsidiaries. Mr. Vrbas has worked closely with
Brookes external auditors during quarterly reviews, SOX testing and year-end audits. Since January
2004, Mr. Vrbas has also served as a liaison to the Chief Financial Officer of Brooke with respect
to its SEC filings and other accounting matters. Mr. Vrbas received a Bachelor of Science Degree in
Accounting from Kansas State University and is a Phi Kappa Phi.
ITEM 6. EXHIBITS
|
|
|
|
|
Exhibit No. |
|
Description |
|
|
|
|
|
|
31.1 |
|
|
Certification of Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (*) |
|
|
|
|
|
|
31.2 |
|
|
Certification of Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (*) |
|
|
|
|
|
|
32.1 |
|
|
Certificate of Chief Executive Officer pursuant to Section 18 U.S.C. Section 1350 (*) |
|
|
|
|
|
|
32.2 |
|
|
Certificate of Chief Financial Officer pursuant to Section 18 U.S.C. Section 1350 (*) |
52
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
|
|
|
|
|
|
BROOKE CAPITAL CORPORATION
|
|
Date: August 18, 2008 |
By: |
/s/ ROBERT D. ORR
|
|
|
|
Robert D. Orr |
|
|
|
Chief Executive Officer |
|
|
53
EXHIBIT INDEX
|
|
|
|
|
Exhibit No. |
|
Description |
|
|
|
|
|
|
31.1 |
|
|
Certification of Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (*) |
|
|
|
|
|
|
31.2 |
|
|
Certification of Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (*) |
|
|
|
|
|
|
32.1 |
|
|
Certificate of Chief Executive Officer pursuant to Section 18 U.S.C. Section 1350 (*) |
|
|
|
|
|
|
32.2 |
|
|
Certificate of Chief Financial Officer pursuant to Section 18 U.S.C. Section 1350 (*) |
54