The Company leases office space for its remote claims offices in Minnesota, Connecticut, Pennsylvania and New York. The aggregate monthly rental is approximately $8,000.
The following discussion and analysis should be read in conjunction with the 2001 Consolidated Financial Statements and notes thereto.
American Country Holdings Inc. is engaged in the specialty property and casualty insurance, premium finance and collateralized loan financing, through its subsidiaries American Country Insurance Company, American Country Financial Services Corp. and American Country Professional Services Corp. It will engage in the managing general underwriter and third party claims administrator business through its subsidiaries American Country Professional Services Corp. and American Country Underwriting Agency Inc.
In 2000, American Country continued to be adversely affected by the continuing pricing pressures in the contractor commercial insurance market. Due to this competition, American Country believes that its commercial lines products are currently under-priced, even with the current hardening of the market, and therefore American Country decided to non-renew its contractor commercial lines business effective April 1, 2001 and its non-Illinois hospitality business effective June 1, 2001 and refocus its underwriting efforts in the public livery lines.
Premium revenues generated from American Country's other commercial lines decreased significantly in 2001 to $5.6 million from $13.8 million for 2000, a 59.3% decrease. This decrease is primarily
Net investment income increased $34,000 or less than 1% during 2001, primarily due to increased yields on bonds held during 2001, offset by low yields on the Company's convertible portfolio. Income earned on invested assets amounted to $8.5 million in both 2001 and 2000. Realized gains for 2001 increased $505,000, a 260.3% increase from 2000, as compared to realized losses of $194,000 in 2000. This is the result of increased market values for the Company's fixed income securities. Investment expenses for 2001 increased $181,000 or 26.8% as compared to 2000. This is due to changing investment advisors in early 2001.
Transportation lines loss ratio increased in 2001 to 84.3% as compared to 80.1% for 2000. This increase is attributable to higher claims activity in states other than Illinois.
Loss and loss adjustment expenses for commercial lines increased by $1.3 million in 2001. Earned premium for this line decrease by $8.2 million in 2001. These factors resulted in an increase in the loss ratio to 375.7% in 2001 from 142.9% in 2000. This is primarily due to adverse development in American Country's workers compensation and commercial package business, particularly for the contractors. This adverse development resulted in the reserve increase discussed in Note 6. American Country believes that the commercial lines products were under-priced, even with the current hardening of the market, and therefore American Country decided to non-renew its contractor commercial lines business effective April 1, 2001, and refocus its underwriting efforts in the public livery lines.
The ratio for losses and LAE for hospitality lines increased to 129.0% in 2001 from 98.9% in 2000. This is primarily due to increased losses in the non-Illinois book. This includes adverse development in prior years as well as higher losses for the current accident year.
Policy acquisition costs increased $1.6 million or 14.8% during 2001. The increase is attributable to an increase in net commission expense as the result of the expiration of the quota share reinsurance agreements.
Administrative and general expenses decreased 23.1% in 2001 as a result of lower corporate expenses incurred as a result of exiting the commercial lines and non-Illinois hospitality markets.
Transportation lines, which consists of taxi and limousine liability and physical damage programs, grew during 2000 as a result of American Country's geographic expansion into additional states. Total premium revenues generated by transportation lines grew 10.5% to $50.0 million in 2000 as compared to $45.2 million in 1999. In 2000, revenues generated outside of Illinois increased from $11.7 million or 25.8% in 1999 to $18.8 million or 37.6% in 2000. This increase is attributable to the programs in Connecticut, Indiana, Michigan, Minnesota, New York and Wisconsin.
Other income, which consists of interest and fees earned on premium financing activities remained flat at $217,000 in 2000 as compared to $215,000 for 1999.
The following table sets forth American Country's Statutory Combined Ratio and GAAP Combined Ratio for the periods indicated:
The loss ratio for commercial lines increased substantially in 2000 to 142.9% from 115.0% in 1999. This is primarily due to adverse development in American Country's Workers Compensation and commercial package business. Additionally, the quota share reinsurance agreement is a loss only treaty. Therefore American Country incurs all of the loss adjustment expense, which results in an increase in the loss ratio. American Country believes that the commercial lines products are currently under-priced, even with the current hardening of the market, and therefore American Country has decided to non-renew its contractor commercial lines business and refocus its underwriting efforts in the public livery lines.
Policy acquisition costs increased $550,000 or 5.3% during 2000. The increase is attributable to additional acquisition expenses being incurred in connection with American Country's geographical expansion into new states and increased costs, primarily commissions paid to producers. Due to premium deficiencies in the commercial lines, certain expenses were not capitalized, but rather immediately expensed.
At December 31, 2001 and 2000, the Company's fixed asset maturity securities included mortgage-backed bonds of $52.1 million and $46.1 million, respectively, which are subject to risks associated with variable prepayments of the underlying mortgage loans. Prepayments can cause those securities to have different actual maturities than that expected at the time of purchase. Securities that have an amortized cost greater than par that are backed by mortgages that prepay faster than expected will incur a reduction in yield or loss, while securities that have an amortized cost less than par that are backed by mortgages that prepay faster than expected will generate an increase in gain or yield. The degree to which a security is susceptible to either gains or losses is influenced by the difference between its amortized cost and par, the relative sensitivity of the underlying mortgages backing the assets to prepayments in a changing interest rate environment and the repayment priority of the securities in the overall securitization structure.
The Company utilizes derivative financial instruments for the purpose of enhancing the overall return of its investment portfolio. The only derivatives owned by the Company are convertible securities. The Company does not utilize derivative financial instruments for the purpose of hedging or reducing the cost of its debt obligations. The Company employs traditional investment management tools and techniques to address the yield and valuation exposures of its invested assets. The long term fixed maturity investment portfolio is managed so as to limit various risks inherent in the bond market. Credit risk is addressed through adequate diversification and the purchase of investment grade securities. Reinvestment rate risk is controlled by concentrating on non-callable issues, and through asset-liability matching practices. Purchases of mortgage and asset backed securities, which have variable principal prepayment options, are monitored. Market value risk is limited through the purchase of bonds of intermediate maturity. The combination of these investment management tenets generally provides a more stable long term fixed maturity investment portfolio that is not subject to extreme interest rate sensitivity and principal deterioration. The market value of the Company's long term fixed maturity investment portfolio is sensitive, however, to fluctuations in the level of interest rates, but not materially affected by changes in anticipated cash flows caused by any prepayments. The impact of interest rates movements on the long term fixed maturity investment portfolio generally affects net realized gains or losses when securities are sold. With a market value of approximately $119.8 million, the non-convertible long term fixed maturity investment portfolio has an average maturity of 5.0 years and an indicated duration of 3.31 years. This implies that a 100 basis point parallel increase in interest rates from current levels would result in a possible decline in the market value of the long term fixed maturity investment portfolio of approximately 2.5%, or $3.0 million. With a market value of approximately $13.8 million, the convertible investment portfolio has an average maturity of 5.89 years and an indicated duration of 1.95 years. This implies that a 100 basis point parallel increase in interest rates from current levels would result in a possible decline in the market value of the convertible investment portfolio of approximately 1.95%, or $270,000, for a total possible decline in the total portfolio of $3.27 million. These possible declines in values for bond portfolios would affect negatively the common stockholders' equity at any point in time, but would not necessarily result in the recognition of realized investment losses as long as operating cash flow and the ongoing emergence of bond maturities continued to provide sufficient funds to meet obligations to policyholders and claimants, as well as debt service and cash dividend requirements at the holding company level.
The Company maintains a liquid operating position and follows investment guidelines that are intended to provide acceptable return on investment while preserving capital, maintaining sufficient liquidity to meet obligations and maintaining a sufficient margin of capital and surplus to ensure American Country's unimpaired ability to write insurance.
At September 30, 2001, the Company was in violation of the minimum shareholders' equity covenant requirement. On November 7, 2001, the bank waived this covenant for the period of September 1, 2001 through January 1, 2002. On March 5, 2002, an amended agreement was signed which rescheduled the principal payment, reduced the minimum shareholders' equity requirement, and waived any prior breach. Under the amended agreement, the principal payments are scheduled as follows:
The amended agreement contains a Pledge Agreement under which the Company pledged as collateral for the outstanding debt, 100% of the outstanding stock of both American Country and Financial Services.
The amended agreement contains various debt covenants including conditions for prepayment and certain financial covenants, the most restrictive covenants being minimum shareholders' equity and the ratio of debt to equity. The Company was in compliance with all covenants of the agreement, as amended, as of March 5, 2002.
At 12/31/01, the Company had a deferred tax asset of $10.l million, $5.5 million of which is related to a net operating loss carryforward. Realization of the deferred tax asset is dependent on generation of sufficient future taxable income to absorb both the applicable reversing temporary differences and the net operating loss carryforward. The Company expects to generate sufficient taxable income to realize its loss and credit carryforwards within the statutory carryforward period. The amount of taxable income needed to realize the net loss carryforward is $16.3 million. The statutory carryforward period is 20 years. Based on future income projections, management believes that it is more likely than not that the current temporary differences will reverse during the periods in which the Company generates net taxable income. These projections are based on the elimination of both the contractor and non-Illinois restaurant books, and the substantial reserve increase taken in 2001. The combination of these events should result in sufficient income to utilize the loss carryforwards. There are, however, no assurances that the Company will generate any earnings or any specific level of continuing earnings in future years. Certain tax planning strategies, such as the realization of gains in the investment portfolio, could be implemented to supplement income from operations to fully utilize recorded tax benefits.
The NAIC recently completed its process of re-codifying statutory accounting practices ("codification"), the result of which is the only source of "prescribed" statutory accounting practices after adoption by the state of domicile. Codification was adopted by the State of Illinois and implemented in 2001, which changed, to some extent, prescribed, statutory accounting practices, and resulted in changes in the Company's insurance subsidiary's statutory surplus.
The terrorist acts of September 11, 2001, the military response, the actual and perceived threat of further terrorist acts and future possible military and political actions have created an atmosphere of economic uncertainty in the United States and our results may be impacted by the adverse macroeconomic effect of those events, especially if the conditions persist. As a result of the attacks on September 11, we did not suffer the loss of any employees or assets. However, because both the transportation and hospitality lines are heavily dependent upon travel and tourism, our customers have faced slowdowns in their businesses, which may have a material effect on our business. The reinsurance market has also become more restrictive, and the future availability of reinsurance can not be assured. An inability to obtain reinsurance would have a material adverse effect on our ability to market insurance to our customers. While we have taken all prudent precautions against foreseeable threats, recent events have proven that the object of terrorist activities is inherently uncertain. Any terrorist occurrence may have a material adverse effect on our financial position, cash flow or profit from operations in any reporting period.
Forward-looking statements are based upon estimates and assumptions that are subject to significant business, economic and competitive uncertainties, many of which are beyond the Company's control and subject to change. These uncertainties can affect actual results and could cause actual results to differ materially from those expressed in any forward-looking statements. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable events or developments, some of which may be national in scope, such as general economic conditions and interest rates. Some of these events or developments may be related to the insurance industry generally, such as pricing competition, regulatory developments and industry consolidation. Others may relate to the Company specifically, such as credit, volatility and other risks associated with the Company's investment portfolio, and other factors. Investors are also directed to consider other risks and uncertainties discussed in documents filed by the Company with the SEC, including Exhibit 99 to the Annual Report to the Securities and Exchange Commission on Form 10-K for the year ended December 31, 2001. The Company disclaims any obligation to update forward-looking information.
The following is a summary of unaudited quarterly results of operations for 2001 and 2000 (in thousands, except per share data):