17. Business Combination

Acquisition of the Titan Agencies

On July 1, 2015, in order to expand its geographic presence, the Company completed the acquisition of certain assets of Titan Insurance Services, Inc. and Titan Auto Insurance of New Mexico, Inc. (the “Titan Agencies”). These agencies sell private passenger non-standard automobile insurance and complimentary products, principally in California, but also in Texas, Arizona, Florida, Nevada and New Mexico. The Titan Agencies were previously owned and operated by Nationwide. Pursuant to the Asset Purchase Agreement (the “APA”), the Company acquired the assets of 83 retail stores for total consideration of $36.0 million, which included liabilities assumed estimated to be $2.3 million. The Company has accounted for the acquisition as a business combination applying the acquisition method.

The acquisition was partially financed with the proceeds from a $30 million term loan from the principal stockholder. See Note 10 for additional information on the term loan.

In connection with this acquisition, the Company also entered into an insurance agency contract with Nationwide under which it anticipates writing some of the business produced through these retail locations.

Purchase Price Allocation

The following table summarizes the estimated fair value of the assets acquired at the date of acquisition:

Tangible assets	$	1,847
Identifiable intangible asset		4,000
Goodwill		30,200
Total assets acquired		36,047
Less: liabilities assumed		(2,277	)
Total cash paid	$	33,770

The identifiable intangible asset represents policy renewal rights and customer relationships. The fair value was determined using an “excess earnings” method that relied on projected future net cash flows including key assumptions for the customer retention and renewal rates. Accordingly, amortization will be recorded over 7.5 years on an accelerated basis and will decline in subsequent years in proportion to projected policy expirations. For the year ended December 31, 2015, $0.5 million relating to the identifiable intangible asset was amortized against income. Goodwill and the identifiable intangible asset from this acquisition will be deductible for tax purposes.

Liabilities assumed included a $2.0 million estimate of the expected liability for returned commissions as of the closing date. This liability is subject to change based on the actual amount of returned commissions. This, or any other change in the fair value determinations, would result in an adjustment to goodwill. At December 31, 2015, the Company’s new estimation of this liability resulted in a $0.8 million reduction in goodwill. A final determination will be made as of the June 30, 2016 measurement date.

The results of the acquired retail locations have been included in the Company’s consolidated statement of operations and comprehensive income (loss) from the July 1,2015 acquisition date. During the year ended December 31, 2015, the Company’s insurance operating expenses included acquisition costs of $0.1 million and integration costs of $1.5 million. Revenues and income before tax benefit of the acquired retail locations included in the Company’s results for the year ended December 31, 2015 were $12.6 million and $0.2 million (excluding acquisition and integration-related costs), respectively.

Pro Forma Information

The following unaudited pro forma combined statement of loss for the year ended December 31, 2015 and statement of income for the year ended December 31, 2014 are based on our historical consolidated financial statements and give effect to the acquisition of the Titan Agencies as if it had occurred on January 1, 2014. The Company’s historical results for the year ended December 31, 2015 includes the results of the former Titan Agencies for the six months since the July 1, 2015 acquisition date.

The pro forma adjustments, including interest expense on the debt incurred to finance the acquisition, reflect the combined results as if the acquisition occurred on January 1, 2014. There are no adjustments for the effect of any synergies achieved as a result of the acquisition.

The pro forma combined financial statements do not necessarily reflect what the combined results of operations would have been had the acquisition occurred on the date indicated. They also may not be useful in predicting the future combined results of operations. The actual combined results of operations may differ significantly from the combined pro forma amounts reflected herein due to a variety of factors.

Pro Forma Statement of Loss Year Ended December 31, 2015	Company Historical			Titan Agencies Historical Six Months Ended June 30, 2015			Pro Forma Adjustments				Pro Forma Combined
Revenues:
Premiums earned	$	266,987		$	—		$	—			$	266,987
Commission and fee income		59,892			14,547			—				74,439
Investment income		5,024			—			—				5,024
Net realized losses on investments, available-for-sale		(11	)		—			—				(11	)
		331,892			14,547			—				346,439
Costs and expenses:
Losses and loss adjustment expenses		219,031			—			—				219,031
Insurance operating expenses		105,254			14,555			(81	)	(a)		119,728
Other operating expenses		1,126			—			—				1,126
Litigation settlement		3,677			—			—				3,677
Stock-based compensation		144			—			—				144
Depreciation		1,751			—			50		(b)		1,801
Amortization of identifiable intangible assets		514			—			320		(c)		834
Interest expense		2,967			—			1,190		(d)		4,157
		334,464			14,555			1,479				350,498
Loss before income taxes		(2,572	)		(8	)		(1,479	)			(4,059	)
Income tax benefit		(642	)		(3	)		(592	)	(e)		(1,237	)
Net loss per share:	$	(1,930	)	$	(5	)	$	(887	)		$	(2,822	)
Net loss per share:
Basic	$	(0.05	)								$	(0.07	)
Diluted	$	(0.05	)								$	(0.07	)
Number of shares used to calculate net loss per share:
Basic		41,030										41,030
Diluted		41,030										41,030

Pro Forma Statement of Income Year Ended December 31, 2014	Company Historical			Titan Agencies Historical		Pro Forma Adjustments				Pro Forma Combined
Revenues:
Premiums earned	$	218,315		$	—	$	—			$	218,315
Commission and fee income		39,733			28,222		—				67,955
Investment income		5,123			—		—				5,123
Net realized gains on investments, available-for-sale		23			—		—				23
		263,194			28,222		—				291,416
Costs and expenses:
Losses and loss adjustment expenses		161,302			—		—				161,302
Insurance operating expenses		87,328			27,325		—				114,653
Other operating expenses		996			—		—				996
Litigation settlement		187			—		—				187
Stock-based compensation		185			—		—				185
Depreciation		1,767			—		100		(b)		1,867
Amortization of identifiable intangible assets		—			—		942		(c)		942
Interest expense		1,706			—		2,426		(d)		4,132
		253,471			27,325		3,468				284,264
Income before income taxes		9,723			897		(3,468	)			7,152
Provision (benefit) for income taxes		(18,345	)		359		(1,387	)	(e)		(19,373	)
Net income	$	28,068		$	538	$	(2,081	)		$	26,525
Net income per share:
Basic	$	0.68								$	0.65
Diluted	$	0.68								$	0.64
Number of shares used to calculate net income per share:
Basic		40,985									40,985
Diluted		41,283									41,283

Pro forma adjustments

The following adjustments have been reflected in the unaudited pro forma combined financial information.

(a)

Elimination of acquisition costs incurred

(b)

Depreciation expense related to acquired tangible asset

(c)

Amortization expense related to acquired identifiable intangible asset

(d)

Interest expense related to acquisition financing (including amortization of issuance costs)

(e)

Calculated income tax effect of pro forma adjustments at the estimated combined federal and state statutory rate of 40%