Wes-FIC’s place of business is the Omaha, Nebraska headquarters office of NICO.
KBS leases 5,100 square feet of office space in a multistory office building in Topeka, Kansas under a lease that expires in 2007.
CORT leases 23,800 square feet of office space in a multistory office building in Fairfax, Virginia, which it uses as its headquarters. It has an option to renew the lease for five years beyond its 2006 expiration.
CORT carries out its rental, sales and warehouse operations in metropolitan areas in 34 states and the District of Columbia through 186 facilities, of which 20 were owned and the balance leased as of December 31, 2003. The leased facilities’ lease terms expire at dates ranging from 2004 to 2015. CORT has generally been able to extend expiration dates of its leases or obtain suitable alternative facilities on satisfactory terms. As leases expire, CORT has been eliminating redundant locations. Where locations are desirable, its management has been attempting to combine rental, clearance and warehouse operations rather than retain separate showrooms, because business and residential customers have been increasingly using the Internet, fax and telephone.
Relocation Central leases 3,800 square feet of office space in a multistory office building in Santa Clara, California, which it uses as its headquarters. The lease expires in February 2005. Its apartment locator services are situated in 36 leased facilities in 15 metropolitan areas in 14 states under leases expiring at dates ranging from 2004 to 2007, as well as in ten of CORT’s showrooms.
Precision Steel and its subsidiaries own three buildings housing their plant and office facilities, with usable area approximately as follows: 138,000 square feet in Franklin Park, Illinois; 63,000 square feet in Charlotte, North Carolina; and 59,000 square feet in Downers Grove, Illinois.
Set forth below and on the following page are selected consolidated financial data for Wesco and its subsidiaries. For additional financial information, attention is directed to Wesco’s audited 2003 consolidated financial statements appearing elsewhere in this report. (Amounts are in thousands except for amounts per share.)
In reviewing this item, attention is directed to Item 6, Selected Financial Data, and Item 1, Business.
Wesco’s four equity investees are strong, well-known companies. The practice of concentrating in few issues, rather than diversifying, follows the investment philosophy of the chairmen-CEOs of Wesco and its parent, Berkshire, who consult with respect to Wesco’s investments and major capital allocations.
Investment gains were realized in 2003 for the first time in three years. As is usual for Wesco, realization of these gains had little effect on shareholders’ equity, because the gains had essentially been reflected, net of taxes, in the unrealized appreciation component of shareholders’ equity. Sales of investments at Wesco are made with a view to economics, never the reporting of earnings, and the amounts and timing of realizations have no predictive or practical analytic value.
Wesco’s shareholders’ equity at December 31, 2003 was $2.1 billion ($291.89 per share), up from $2.0 billion ($275.03 per share) at December 31, 2002. Shareholders’ equity included $426.5 million at December 31, 2003, and $374.6 million at December 31, 2002, representing appreciation in market value of investments, which is credited directly to shareholders’ equity, net of taxes, without being reflected in earnings. Because unrealized appreciation is recorded based upon market quotations, gains or losses ultimately realized upon sale of investments could differ substantially from recorded unrealized appreciation. Net unrealized appreciation constituted approximately 21% of shareholders’ equity at December 31, 2003 and 19% at December 31, 2002. (See Item 7A, Quantitative and Qualitative Disclosures About Market Risk, as well as Notes 1 and 3 to Wesco’s accompanying consolidated financial statements, for additional information on investments.)
The consolidated data in the second table in Item 6 are set forth essentially in the income statement format customary to generally accepted accounting principles (“GAAP”). Revenues, including realized net securities gains, are followed by costs and expenses, including goodwill amortization (if applicable) and a provision for income taxes, to arrive at net income. The following summary sets forth the after-tax contribution to GAAP net income of each business segment - insurance, furniture rental and industrial - as well as activities not considered related to such segments. Realized net securities gains and goodwill amortization are excluded from segment activities, consistent with the way Wesco’s management views the business operations. (Amounts are in thousands, all after income tax effect.)
Following is a summary of the results of operations of the insurance segment (i.e., Wes-FIC and KBS), which represent the combination of underwriting results with dividend and interest income. (Amounts are in thousands.)
Earned premiums for 2003, 2002 and 2001 included $86.5 million, $45.4 million and $25.3 million attributable to Wes-FIC, and $20.2 million, $19.2 million and $17.7 million attributable to KBS.
At December 31, 2003, Wes-FIC was participating in in-force reinsurance business principally as follows: (1) a multi-year contract for property and casualty exposure entered into in 2000 with a large, unaffiliated insurer, and (2) a contract which became effective in 2001 under which Wes-FIC participates in various pools of aviation-related risks. Under the first contract described above, Wes-FIC, in 2003, 2002 and 2001, wrote premiums of approximately $30 million annually and earned premiums of $42.0 million, $20.9 million and $22.5 million. Under the second contract described above, Wes-FIC, in 2003, 2002 and 2001, wrote $67.1 million, $67.7 million and $32.8 million and earned premiums of $44.3 million, $24.4 million and $2.8 million. Wes-FIC’s participation in those contracts has generally varied from year to year, and is summarized in Item 1, Business. The decrease in premiums written by KBS in 2003 resulted from a change in the pricing of reinsurance ceded to reinsurers; premiums written, before the purchase of reinsurance, actually increased slightly for the year, as it did in 2002. The increases in premiums written by KBS in recent years have been principally
The underwriting gain (loss) for 2003, 2002 and 2001 included $17.1 million, $.1 million, and ($12.4 million) attributable to Wes-FIC, and $7.0 million, $5.8 million and $8.7 million attributable to KBS. Wes-FIC benefited in 2003 mainly from relatively low levels of aviation losses. Its underwriting loss for 2001 resulted mainly from a provision of $10 million before income taxes representing estimated loss and expenses related to the terrorist activity of September 11, 2001. Its underwriting gain in 2003 benefited by a reduction of $3 million in that provision. Aside from the $3 million benefit, Wes-FIC’s underwriting results for 2003 were detrimentally affected by net revisions of estimated liabilities for losses and loss adjustment expenses provided for in prior years of $4.5 million. Underwriting results for 2002 and 2001 included net beneficial revisions of estimated liabilities for losses and loss adjustment expenses of $.8 million and $2.3 million. Underwriting results are based on estimates and subject to estimation error; in addition, management believes that it will take years to resolve complicated coverage issues relating to the September 11, 2001 loss estimate, which could have a material effect on the ultimate loss incurred.
KBS, unlike Wes-FIC, writes numerous, relatively small insurance policies, and thus management considers overall combined ratios (the sum of insurance losses, loss adjustment expenses and underwriting expenses divided by premiums) to be meaningful. KBS’ combined ratios were 65.0%, 71.3% and 55.1% for 2003, 2002 and 2001.
The income tax provision of the insurance segment fluctuated as a percentage of its pre-tax income from year to year during the period presented in the foregoing table mainly due to the relationship of substantially tax-exempt components of income to total pre-tax income.
As explained in Item 1, Business, Wesco’s insurance segment has extraordinary capital strength, and Wesco would welcome additional attractive reinsurance or insurance arrangements, or acquisitions of insurance businesses. However, the timing and magnitude of changes in its insurance underwriting activity cannot presently be predicted.
Following is a summary of the results of operations of the furniture segment, consisting of CORT Business Services Corporation (“CORT”) and its subsidiary, Relocation Central. (Amounts are in thousands.)
Furniture rental revenues for 2003 declined $33.4 million, or 10.8 %, from those of 2002, following a decline of $18.8 million, or 5.7%, the prior year. Excluding rental revenues each year from trade shows, as well as from locations not in operation throughout each year, rental revenues for 2003 declined approximately 12% from those of 2002, following a decline of approximately 17% the prior year; the percentage decrease would have been greater were it not for the effect of price increases of 4% to 5% in 2002 and 2003. The number of furniture leases in effect has been on a downward trend since late 2000. Units of furniture rented were down approximately 15% in 2003 and 19% in 2002, as compared with each respective prior year’s. The declines of furniture rentals in dollars and units are deemed to have resulted from continued weakness of job growth in the economy, exacerbated by the terrorist activity on September 11, 2001.
Apartment locator fees, generated by Relocation Central since its start-up in January 2001, increased sharply to $15.9 million in 2003 from $6.4 million in 2002 and $1.3 million in 2001, principally through acquisitions.
Other segment operating expenses (i.e., selling, general, administrative and interest expenses) were $266.5 million for 2003, down .1% from the $268.6 million incurred in 2002, following an increase of 1.7% from the $264.0 million incurred in 2001. Excluding other operating expenses of Relocation Central - $16.6 million in 2003, $8.8 million in 2002 and $7.8 million in 2001, other operating expenses of the segment amounted to $249.9 million in 2003, down $9.9 million, or 3.8%, from $259.8 million in 2002; the latter was up 1.3% from $256.5 million in 2001. CORT’s management anticipates further reductions in other operating expenses as it continues integrating the operations of a large furniture rental company acquired early in 2002, as Relocation Central continues integrating the operations of its largest competitor acquired late in 2002, and as additional synergies and efficiencies materialize from CORT’s reorganization of Relocation Central’s operations.
Income or loss before income taxes and minority interest for the furniture rental segment amounted to a loss of $12.4 million for the year 2003, income of $3.6 million for 2002 and income of $20.7 million for 2001. Eliminating the portion of these amounts representing Relocation Central losses - $15.9 million in 2003, $12.8 million in 2002 and $10.8 million in 2001 - results in income before income taxes and minority interest for CORT, at the parent company level, of $3.5 million for 2003, $16.4 million for 2002 and $31.5 million for 2001. The year-to-year decline in the latter figures was due to the fact that CORT’s operating and other costs and expenses, principally fixed, were not sufficiently reduced to compensate for decreasing revenues. Management expects that the furniture rental business will improve in 2004 principally as a result of continued cost cutting and recent implementation of new rental programs.
Federal and state environmental agencies have made claims relating to alleged contamination of soil and groundwater against Precision Brand, a subsidiary of Precision Steel, and various other businesses situated in a business park in Downers Grove, Illinois. Precision Brand, along with the other businesses, has been negotiating remedial actions with various governmental entities. In addition, Precision Brand and other parties have been named in several civil lawsuits, including lawsuits by and on behalf of area residents, relating to this matter. Precision Steel and Precision Brand have notified their insurers relative to the claims and litigation. Inasmuch as the claims and lawsuits are in early stages of development, the ultimate cost of the claims, including defense costs, is difficult to estimate at this time. Nevertheless, in 2003, Precision Brand recorded a provision of $1.0 million ($.6 million after income tax benefit), representing a preliminary estimate of its share of costs of remediation agreed to with governmental entities and other parties to date and related expenses. Management does not anticipate that the ultimate financial impact of such remediation and other legal matters will be material in relation to Wesco’s shareholders’ equity, although it believes that the effect on consolidated net income in any given period could be material.
Realized gains and losses on the Wesco group’s investments have fluctuated in amount from year to year, sometimes impacting net income significantly, as in 2003 and 2000. However, the amounts and timing of these realizations have no predictive or practical analytical value. Wesco’s investments are carried at market value, and unrealized gains or losses are reflected, net of potential income tax effect, in the unrealized appreciation component of its shareholders’ equity. When gains or losses are realized, due to sale of securities or other triggering event, they are credited or charged to the consolidated statement of income; generally, in Wesco’s case, there has been little effect on total shareholders’ equity - essentially only a transfer from unrealized appreciation to retained earnings. Wesco’s consolidated earnings contained net realized investment gains, after income taxes, of $34.8 million in 2003 and $852.4 million in 2000; no gains or losses were realized in 2002 or 2001.
Consolidated revenues, expenses and net income reported for any period are not necessarily indicative of future revenues, expenses and net income in that they are subject to significant variations in amount and timing of investment gains and losses, as well as other unusual nonoperating items such as a large acquisition. In addition, consolidated revenues, expenses and net income are subject to external conditions such as the September 11, 2001 terrorist activity, which had an immediate impact on Wes-FIC’s underwriting results, the ongoing weakness of the economy, which has adversely affected CORT and Precision Steel, and raw material shortages which have very recently disrupted the steel service business.
severely impacted by any terrorism-related insurance losses under reinsurance or insurance contracts currently in effect.
Liabilities for insurance losses and loss adjustment expenses as of any balance sheet date represent estimates of the ultimate amounts payable under property and casualty reinsurance and insurance contracts related to losses occurring on or before the balance sheet date. As of that date, some incurred claims have not yet been reported (and some of these may not be reported for many years); the liability for unpaid losses includes significant estimates for these claims. Additionally, reported claims are in various stages of the settlement process. Each claim is settled individually based upon its merits, and some take years to settle, especially if legal action is involved. Actual ultimate claims amounts are likely to differ from amounts recorded at the balance sheet date. Changes in estimates are recorded as a component of losses incurred in the period of change. Provisions for losses and loss adjustment expenses are reported in the consolidated statement of income after deducting estimates of amounts that will be recoverable under reinsurance contracts. Reinsurance contracts do not relieve the ceding companies of their obligations to indemnify policyholders with respect to the underlying insurance contracts.
The appropriate classifications of investments in securities with fixed maturities and marketable equity securities are established at the time of purchase and reevaluated as of each balance sheet date. There are three permissible classifications: held-to-maturity, trading, and, when neither of those
Insurance premiums are recognized as earned revenues in proportion to the insurance protection provided, which in most cases is pro rata over the term of each contract. Unearned insurance premiums are deferred in the liability section of the consolidated balance sheet. Certain costs of acquiring premiums are deferred in other assets on Wesco’s consolidated balance sheet, and charged to income as the premiums are earned.
Following is an index to financial statements and related schedules of Wesco appearing in this report: