In October 1992, the Company purchased a 158,000 square foot office building in Brea, California. The Company occupies the entire facility.
During 2000, approximately 91% of the Company's direct premiums written were derived from California.
In September 1996, the California Insurance Commissioner issued new permanent rating factor regulations designed to implement the requirements that automobile insurance rates be determined by (1) driving safety record, (2) miles driven per year, (3) years of driving experience and (4) whatever optional factors are determined by the Insurance Commissioner to have a substantial relationship to the risk of loss and adopted by regulation. The law further requires that each of the four factors be applied in decreasing order of importance.
The GAAP loss ratio (loss and loss adjustment expenses related to premiums earned) was 72.2% in 2000 and 66.4% in 1999. The major reason for the less favorable result is an increase in severity for California automobile claims which is the result of inflationary trends in health care costs, auto parts and body shop labor costs.
The GAAP expense ratio in 2000 (policy acquisition costs and other operating expenses related to premiums earned) was 26.3% compared with 26.8% in 1999. The decrease was due mainly to a reduction in base and contingent commissions, which are tied to loss performance, partially offset by an increase in advertising spending.
Total losses and expenses in 2000, excluding interest expense of $7.3 million, were $1,230.2 million, resulting in an underwriting gain (premiums earned less losses, policy acquisition costs and other operating expenses) for the period of $19.1 million compared with an underwriting gain of $81.1 million in 1999.
Realized investment gains in 2000 were $3.9 million compared with realized losses of $11.9 million in 1999. The gains realized in 2000 were designed to utilize capital loss tax benefits.
Net income in 2000 was $109.4 million or $2.02 per share (diluted), compared with $133.7 or $2.44 per share (diluted), in 1999. Diluted per share results are based on 54.3 million average shares in 2000 and 54.8 million shares in 1999. Basic per share results were $2.02 in 2000 and $2.45 in 1999.
Premiums earned in 1999 of $1,188.3 million increased 5.9% and net premiums written in 1999 of $1,206.2 million increased 5.4% over amounts recorded in 1998. These premium increases were principally attributable to larger Florida private passenger automobile insurance volume, premiums from the California non-standard automobile policy introduced in late 1998 and sales of California homeowners insurance. The Company's core California private passenger automobile insurance lines achieved only modest premium growth, entirely attributable to a larger policy count, and AMI experienced a decline in its premium volume.
The GAAP expense ratio (policy acquisition costs and other operating expenses related to premiums earned) was 26.8% in 1999 and 26.6% in 1998. The increase in the expense ratio was primarily attributable to increased expenses associated with the advertising program that were partially offset by decreased profit-related bonuses to agents.
The effective tax rate on investment income was 9.8% in 1999, compared to 9.3% in 1998.
The Company's unrestricted cash and short term investments totaled $35.9 million at December 31, 2000. Together with funds generated internally, such liquid assets are more than adequate to pay claims without the sale of long term investments.
maturity alone. Bond holdings are broadly diversified geographically and by obligor. Traditionally, it has been the Company's policy not to invest in high yield or "junk" bonds. At December 31, 2000 bond holdings rated below investment grade totaled $19.1 million at market (cost $20.6 million), or less than 1% of total assets.
Fixed maturity investments of $1,463.9 million (amortized cost), include $19.9 million (amortized cost) of sinking fund preferred stocks, principally utility issues. The market value of all fixed maturities exceeded cost by $45.6 million at December 31, 2000.
The Company regularly evaluates repayment and refinancing for its outstanding debt, including the amounts outstanding under its $75 million loan and the $30 million line of credit that become due and payable in 2001.
lower yielding tax-exempt bonds, the proceeds of the $30 million credit facility and internal cash generation. During 2000, the Company purchased 314,900 shares of the common stock in the open market at an average price of $22.16. Since the inception of the program in 1998 through December 31, 2000, the Company has purchased 1,266,100 shares of common stock at an average price of $31.36. The shares purchased were retired.
In March 1994, the Company's Employee Stock Ownership Plan ("the Plan") purchased 322,000 shares of Mercury General's common stock in the open market at a price of $14.875 per share, adjusted for the two-for-one stock split effective September 16, 1997. The purchases were funded by a five year term bank loan of $5.0 million to the Plan which is guaranteed by the Company. The shares have been allocated to employees over the amortization period of the loan, with the initial allocation made in December 1994. The remaining balance of the loan of $2.0 million was retired in March 1998 with the proceeds of contributions to the Plan by the Company for the year 1997, and the remaining unallocated shares were credited to employees' ESOP balances at December 31, 1997. In August 1998, the Plan purchased 115,000 shares of Mercury General's common stock in the open market at a price of $43.05 per share. The purchases were funded by a five year term bank loan of $5 million to the Plan which is guaranteed by the Company. The shares are being allocated to the employees over a five-year period, with the initial allocation made in December 1998. Since dividends on unallocated shares held by the Plan are tax deductible if they are used for debt service, as are Company contributions to the Plan, the net, after-tax interest cost to the Company for the borrowed funds used for the Plan stock purchase is less than the effective rate of interest on the loan, which, in 2000, was 6.72%.
As of December 31, 2000, the Company had no material commitments for capital expenditures.
The California Earthquake Authority ("CEA") is a Quasi-Governmental organization that was established in 1996 to provide a market for earthquake coverage to California homeowners. During the second quarter of 1998, the Company began placing all new and renewal earthquake coverage offered with its homeowners policy through the California Earthquake Authority. The Company receives a small fee for placing business with the CEA.
Industry and regulatory guidelines suggest that the ratio of a property and casualty
Statement of Financial Accounting Standards No. 133 (SFAS NO. 133) "Accounting for Derivative Instruments and Hedging Activities" became effective for fiscal years beginning after June 15, 1999. Statement of Financial Accounting Standards No. 137 (SFAS No. 137) "Accounting for Derivative Instruments and Hedging Activities-Deferral of the Effective Date of FASB Statement No. 133" defers the effective date of SFAS 133 to fiscal years beginning after June 15, 2000. This standard, adopted by the Company on January 1, 2001 will have no impact on the Consolidated Financial Statements.
Independent Auditors' Report............................................ 33 Consolidated Financial Statements: Consolidated Balance Sheets as of December 31, 2000 and 1999..... 34 Consolidated Statements of Income for Each of the Years in the Three-Year Period Ended December 31, 2000....................... 35 Consolidated Statements of Comprehensive Income for each of the Years in the Three-Year Period Ended December 31, 2000....... 36 Consolidated Statements of Shareholders' Equity for Each of the Years in the Three-Year Period Ended December 31, 2000....... 37 Consolidated Statements of Cash Flows for Each of the Years in the Three-Year Period Ended December 31, 2000................... 38 Notes to Consolidated Financial Statements....................... 40
Temporary unrealized investment gains and losses on securities available for sale are credited or charged directly to shareholders' equity as accumulated other comprehensive income, net of applicable tax effects. When a decline in value of fixed maturities or equity securities is considered other than temporary, a loss is recognized in the consolidated statements of income. Realized gains and losses are included in the consolidated statements of income based upon the specific identification method. Included in realized losses for 1999 is a $6.0 million write-down of a preferred stock investment that became other than temporarily impaired during the third quarter of 1999. As the result of a liquidating dividend, the Company realized a gain of $347,000 on the same equity security in 2000.
One agent produced direct premiums written of approximately 18%, 19% and 19% of the Company's total direct premiums written during 2000, 1999 and 1998, respectively. The owner of this agency sold it during 1998 to a large national broker. No other agent accounted for more than 2% of direct premiums written.
During 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, "Earnings per Share", which requires presentation of basic and diluted earnings per share for all publicly traded companies effective for fiscal years ending after December 15, 1997. Note 16 contains the required disclosures which make up the calculation of basic and diluted earnings per share.
Statement of Position 98-1 (SOP 98-1), "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use" is effective for financial statements beginning after December 15, 1998. SOP 98-1 requires that the cost of internally developed computer software be capitalized. Implemented in 1999, SOP 98-1 provided less than a $.01 contribution to diluted earnings per share in both 2000 and 1999.
Statement of Financial Accounting Standards No. 133 (SFAS No. 133) "Accounting for Derivative Instruments and Hedging Activities" became effective for fiscal years beginning after June 15, 1999. Statement of Financial Accounting Standards No. 137 (SFAS No. 137) "Accounting for Derivative Instruments and Hedging Activities-Deferral of the Effective Date of FASB Statement No. 133" defers the effective date of SFAS 133 to fiscal years beginning after June 15, 2000. The Company adopted this new Standard on January 1, 2001 and it will have no impact on the
At December 31, 2000, the cash balance includes $3,000,000 of restricted cash related to the Concord transaction (See Note 8).
The tax benefit realized on stock options exercised and included in cash provided from operations in 2000, 1999 and 1998 was $550,000, $152,000 and $748,000, respectively.
December 31, (Amounts in thousands) ---------------------- 2000 1999 ---- ---- Fixed maturities available for sale: Unrealized gains............................... $ 60,318 $ 21,193 Unrealized losses.............................. (14,741) (52,904) Tax effect..................................... (15,952) 11,099 -------- --------- $ 29,625 $ (20,612) ======== ========
Equity securities available for sale: Unrealized gains............................... $ 16,799 $ 1,817 Unrealized losses.............................. (14,882) (30,830) Tax effect..................................... (671) 10,154 -------- --------- $ 1,246 $ (18,859) ======== =========
The amortized costs and estimated market values of investments in fixed maturities available for sale as of December 31, 1999 are as follows:
Estimated Amortized Market Cost Value --------- ------- (Amounts in thousands) --------------------- Fixed maturities available for sale: Due in one year or less ........................ $ 6,478 $ 6,530 Due after one year through five years........... 90,899 92,324 Due after five years through ten years.......... 157,491 160,819 Due after ten years............................. 1,209,029 1,249,801 ----------- ----------- $ 1,463,897 $ 1,509,474 =========== ===========
December 31, (Amounts in thousands) ---------------------- 2000 1999 ---- ---- Land............................. $ 6,084 $ 6,084 Buildings........................ 23,291 22,932 Furniture and equipment.......... 46,666 40,413 Leasehold improvements........... 598 565 -------- -------- 76,639 69,994 Less accumulated depreciation.... (41,431) (35,773) -------- -------- Net fixed assets................. $ 35,208 $ 34,221 ======== ========
Notes payable at December 31, 2000 consist of two revolving credit facilities and a note payable associated with the Elm County Mutual transaction (Note 9). A November 21, 1996 credit facility from a consortium of banks, provides for an aggregate commitment of $75 million, of which $75 million has been drawn and is outstanding at December 31, 2000 and 1999. The $75 million notes are due November 21, 2001. This due date may be extended annually for additional periods of one year. The other outstanding debt on credit facilities consists of a 364 day $30 million line of credit with Bank of America dated October 27, 2000. The outstanding draw at December 31, 2000 on this line of credit is $27 million and is due on October 26, 2001.
The $75 million and $30 million credit facilities are subject to a commitment fee on the undrawn balances of 0.15% and 0.125%, respectively. The interest rate is variable and is optionally related to the Federal Funds rate, Bank of New York prime rate or the Eurodollar London Interbank rate (LIBOR) for the $75 million facility and to the Federal Funds rate or LIBOR for the $30 million facility. Based on current effective rates, net interest cost on the $75 million loan and the $27 million draw at December 31, 2000 is approximately 6.96% and 7.51%, respectively.
The terms of the loan agreements include certain affirmative and negative covenants, all of which are met by the Company at December 31, 2000.
Year ended December 31, (Amounts in thousands) -------------------------- 2000 1999 1998 ---- ---- ---- Federal Current........................... $ 20,270 $ 36,535 $ 57,237 Deferred.......................... (1,236) (2,123) 190 -------- -------- -------- $ 19,034 $ 34,412 $ 57,427 ======== ======== ======== State Current........................... $ 155 $ 418 $ 327 Deferred.......................... -- -- -- -------- -------- -------- $ 155 $ 418 $ 327 ======== ======== ======== Total Current........................... $ 20,425 $ 36,953 $ 57,564 Deferred.......................... (1,236) (2,123) 190 -------- -------- -------- Total........................ $ 19,189 $ 34,830 $ 57,754 ======== ======== ========
Year ended December 31, (Amounts in thousands) ------------------------ 2000 1999 1998 ---- ---- ---- Computed tax expense at 35% ..................... $ 44,994 $ 58,989 $82,348 Tax-exempt interest income....................... (27,295) (25,398) (23,496) Dividends received deduction..................... (3,152) (3,953) (5,437) Reduction of losses incurred deduction for 15% of income on securities purchased after August 7, 1986 4,496 4,348 4,245 Other, net....................................... 146 844 94 -------- -------- ------- Income tax expense ......................... $ 19,189 $ 34,830 $57,754 ======== ======== =======
December 31, (Amounts in thousands) ---------------------- 2000 1999 ---- ---- Deferred tax assets 20% of net unearned premium.................. $ 25,920 24,264 Tax asset on net unrealized loss on securities carried at market value.......... -- 21,253 Discounting of loss reserves and salvage and subrogation recoverable for tax purposes.................................... 9,445 8,383 Other deferred tax assets.................... 5,966 3,288 -------- -------- Total gross deferred tax assets............ 41,331 57,188 Less valuation allowance.................. -- -- -------- -------- Net deferred tax assets................... 41,331 57,188 -------- --------
Net reserves for losses and loss adjustment expenses at end of year.................. 463,803 418,800 385,816 Reinsurance recoverable.................... 28,417 16,043 20,160 -------- -------- -------- Gross reserves, end of year................ $492,220 $434,843 $405,976 ======== ======== ========
Concord produces annually approximately $20 million of non-standard auto business in the state of Texas and performs all duties associated with an insurance company, including underwriting and claims management. However, Concord as an agent assumes no underwriting risk. Through December 31, 1999, the Concord business, written directly by a Texas County Mutual Insurance Company, was assumed 100% by an unaffiliated reinsurer. Effective January 1, 2000, the Company replaced Concord's existing reinsurer (for new and renewal business) and assumed 100% of the risks produced by Concord. The Company has expanded Concord's product line to include standard and preferred risks.
In 2001, the Company began writing Texas automobile risks that were previously placed through third-party Texas county mutual insurers and 100% reinsured by the Company, directly with MCM. Risks produced by the Company that are written directly through MCM will be 100% ceded to affiliated Mercury Companies.
The MCM transaction was accounted for using the purchase method of accounting and resulted in an immaterial amount of goodwill that will be amortized using the straight-line method over a ten-year period.
Cimarron ceased writing new business in 1997 and all renewal business was underwritten and retained by American Mercury Insurance Company. The consolidated results for 1998 include $0.2 million of revenue and $0.1 million of net income from the operations of Cimarron up to the sale date of June 5, 1998.
The Insurance Companies are subject to the financial capacity guidelines established by the Office of the Commissioner of Insurance of their domiciliary states. The payment of dividends from statutory unassigned surplus of the Insurance Companies is restricted, subject to certain statutory limitations. For the year 2001, the direct insurance subsidiaries of the Company are permitted to pay approximately $94 million in dividends to the Company without the prior approval of the Commissioner of Insurance of the state of domicile. The above statutory regulations may have the effect of indirectly limiting the ability of the Company to pay dividends. During 2000 and 1999, the Insurance Companies paid dividends to Mercury General Corporation of $62.5 million and $61 million, respectively.
The Insurance Companies prepare their statutory financial statements in accordance with accounting practices prescribed or permitted by the various state insurance departments. Prescribed statutory accounting practices include a variety of publications of the National Association of Insurance Commissioners (NAIC), as well as state laws, regulations, and general administrative rules. Permitted statutory accounting practices encompass all accounting practices not so prescribed. As of December 31, 2000, there were no material permitted statutory accounting practices utilized by the Insurance Companies.
Codification became effective January 1, 2001. The Company estimates that it would realize a surplus increase of approximately $33 million at December 31, 2000 under Codification. This increase primarily relates to the establishment of a net deferred tax asset and does not include any adjustment for the elimination of the reserve for the excess of statutory reserves over
statement reserves for the California domiciled Companies. For its California domiciled Companies, the Company is not able to recognize a surplus increase of $9 million for the elimination of the excess of statutory reserves over statement reserves prescribed by Codification because California law still requires a statutory reserve.
The Company and its subsidiaries are defendants in various lawsuits generally incidental to their business. In most of these actions, plaintiffs assert claims for exemplary and punitive damages which are not insurable under judicial decisions. The Company vigorously defends these actions unless a reasonable settlement appears appropriate. Management does not expect the ultimate disposition of these lawsuits to have a material effect on the Company's consolidated operations or financial position.
The Company, at the option of the Board of Directors, may make annual contributions to an employee profit sharing plan. The contributions are not to exceed the greater of the Company's net income for the plan year or its retained earnings at that date. In addition, the annual contributions may not exceed an amount equal to 15% of the compensation paid or accrued during the year to all participants under the plan. The annual contribution was $1,100,000 for each plan year ended December 31, 2000, 1999 and 1998.
The Profit Sharing Plan also includes an option for employees to make salary deferrals under Section 401(k) of the Internal Revenue Code. Company matching contributions, at a rate set by the Board of Directors, totaled $1,805,000, $1,878,000, and $1,648,000 for the plan years ended December 31, 2000, 1999 and 1998.
Accordingly, the debt of the ESOP, which was $3,000,000, $4,000,000, and $5,000,000 at December 31, 2000, 1999 and 1998, respectively, is recorded in the balance sheet as other liabilities. The shares pledged as collateral are reported as unearned ESOP compensation in the shareholders' equity section of the balance sheet. As shares are committed to be released from collateral, the Company reports compensation expense equal to the market price of the shares, and reduces unearned ESOP compensation by the original cost of the shares. The difference between the market price and cost of the shares is charged to common stock. As shares are committed to be released from collateral, the shares become outstanding for earnings-per-share computations. Dividends on allocated ESOP shares are recorded as a reduction of retained earnings; dividends on unallocated ESOP shares are recorded as a reduction of accrued interest. ESOP compensation expense was $642,000, $746,000, and $970,000 in 2000, 1999 and 1998, respectively.
Dividends paid per-share in 2000, 1999 and 1998 were $0.96, $0.84 and $0.70, respectively and dividends paid in total in 2000, 1999 and 1998 were $51,910,000, $45,854,000 and $38,451,000, respectively.
In May 1995 the Company adopted The 1995 Equity Participation Plan (the "1995 Plan") which succeeds the 1985 Plan. Under the 1995 Plan, 5,400,000 shares of Common Stock are
As explained in Note 1, the Company applies APB Opinion No. 25 in accounting for its stock option plan. Accordingly, no compensation cost has been recognized in the Consolidated Statements of Income. Had compensation cost for the Company's Plans been determined based on the fair value at the grant dates consistent with the method of SFAS No. 123, the Company's net income would have been reduced by $395,000, $542,000 and $454,000 in 2000, 1999 and 1998, respectively, and earnings per share (basic and diluted) would have been reduced by $.01 in 2000, 1999 and 1998. Calculations of the fair value under the method prescribed by SFAS No. 123 were made using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 2000, 1999 and 1998: dividend yield of 2.2 percent for 2000, 3.8 percent for 1999 and 2.0 percent for 1998, expected volatility of 33.4 percent in 2000, 31.6 percent in 1999 and 32.7 percent for 1998 and expected lives of 7 years for all years. The risk-free interest rates used were 6.4 percent for the options granted during 2000, 5.6 percent for the options granted during 1999 and 5.4 percent for the options granted during 1998.
The following table summarizes information regarding the stock options outstanding at December 31, 2000:
The diluted weighted shares excludes incremental shares of 51,000, 28,000 and 0 for 2000, 1999 and 1998, respectively. These shares are excluded due to their antidilutive effect.