(2) Represents net income per share exclusive of net, after-tax realized gains (losses).
TITAN Holdings, Inc. ("Holdings" or "the Company") operates specialty property and casualty insurance companies and related service companies. Through its insurance subsidiaries (TITAN Indemnity Company and TITAN Insurance Company), Holdings provides non-standard automobile insurance in six states and property and casualty insurance for small to medium-sized cities, towns, counties and other public entities nationwide. Another wholly-owned subsidiary, Westchester Premium Acceptance Corporation, provides commercial property and casualty premium financing. The Company refers to its non-standard personal lines automobile insurance program collectively as "TITAN Auto" and the Public Entity program as "TITAN Public Entity".
Public entity insurance is somewhat seasonal in that public entities tend to purchase insurance to coincide with the start of the fiscal years (typically January, July or October). Therefore, these months have historically produced the most premium volume for the Company. Non-standard automobile insurance does not tend to be highly seasonal.
Premium writings for the past two calendar years have increased approximately 25% annually. For the year ended December 31, 1996 premiums written totaled $172.8 million versus $138.4 million in 1995 and $109.8 million in 1994. The increase in premiums written is primarily attributable to TITAN Auto. For the three years ended December 31, 1996, 1995 and 1994, TITAN Auto premiums written were $106.4 million, $80.6 million and $56.4 million, respectively, representing growth of 32% in 1996 and 43% in 1995. TITAN Public Entity accounted for $61.2 million in premiums written in 1996 versus $53.7 million in 1995 and $47.4 million in 1994 representing increases of 14% and 13% respectively.
distributors of standard or preferred automobile insurance products in Michigan in 1996, which collectively contributed $9.0 million in premiums written. Management believes that TITAN Auto continues to be the largest voluntary writer of private passenger non-standard automobile insurance in the state of Michigan. Competition within Michigan has increased and the Company anticipates the competition to continue, which could negatively impact future growth in Michigan. The increase in TITAN Auto's Arizona premium writings is primarily attributable to the continued success of marketing through direct response centers. The Company anticipates continued growth for TITAN Auto through increased marketing for existing DRCs, independent agency expansion, new strategic alliances and future geographic expansion.
The Company expects premiums ceded as a percent of premiums written to continue to decline because of the growth in Titan Auto, increased retention and further reductions in the MCCA assessment rate.
TITAN Auto's operations generate certain policy and installment billing fees which comprise the majority of fee and ceding commission income. Ceding commissions received from reinsurers represent the
Net investment income increased 27% in 1996 to $12.9 million from $10.2 million in 1995, versus a 34% increase in 1995 from $7.6 million in 1994. The increases in investment income for both 1996 and 1995 relate to a larger base of invested assets associated with cash provided by operations and, in the case of 1995, proceeds from the Company's November 1995 stock offering. The increase in 1995 was also attributable to a slight increase in the average yield of the Company's investment portfolio. The average yield of the investment portfolio for 1996, 1995 and 1994, was approximately 6.3%, 6.4% and 6.0%, respectively.
The Company's invested assets are held primarily in fixed maturities and since 1994 interest rates have not significantly impacted the yield of the fixed maturity portfolio as a result of its relatively short duration. In 1996 the duration of the portfolio was 3.5 years compared to 3.0 years in 1995 and 3.3 years in 1994.
The combined ratio is a measure of an insurance company's profitability from underwriting, and it has two components: a loss ratio and an expense ratio. On a GAAP basis, losses and loss expenses are expressed as a percentage of premiums earned ("loss ratio") and underwriting expenses are also expressed as a percentage of premiums earned ("expense ratio"). A combined ratio under 100% indicates an underwriting profit while a combined ratio over 100% indicates an underwriting loss.
The Company's overall GAAP combined ratio decreased to 91.2% in 1996 from 92.2% in 1995 and 92.1% in 1994. Overall the loss ratio component has increased slightly to 62.4% in 1996 from 61.3% in 1995 and 57.7% in 1994 while the overall expense ratio component has decreased steadily to 28.8% in 1996 from 30.9% in 1995 and 34.4% in 1994.
TITAN Auto's overall GAAP combined ratio increased somewhat for the year ended December 31, 1996 to 86.5% from 85.7% in 1995 due to an increase in the expense ratio component in 1996 to 27.8% from 26.9% in 1995. The slight increase in the expense ratio relates primarily to the development of DRCs and the associated advertising costs not initially offset by premium volume. Additionally, an increased proportion of corporate service costs were attributed to TITAN Auto in 1996 in connection with its extensive strategic development. TITAN Auto's loss ratio component remained constant in 1996 versus 1995 at approximately 58.8%. For the year ended 1995, compared to 1994, TITAN Auto's expense ratio decreased to 26.9% versus 32.1%. Such decrease stems primarily from the growth of TITAN Auto's Arizona operation. The Arizona operation generates significant policy fee income, consistent with the market, and this fee income is reflected as an offset to the expense ratio. Accordingly, the Arizona business is underwritten at a higher loss ratio relative to the Michigan market. The 1995 loss ratio increased to 58.8% compared to 56.3% in 1994.
The Company's strategic plan includes initiatives to further reduce operating expenses, primarily as they relate to TITAN Auto. Accordingly, the Company anticipates continued improvement in the expense ratio. This will enable the Company to underwrite TITAN Auto at a somewhat higher loss ratio and become more competitive in the marketplace while continuing its focus on profitability.
During 1996, intangible assets were capitalized as a result of acquisitions of independent insurance agencies in Texas, Colorado and Nevada. Intangible assets were also capitalized from 1992 through 1995 in connection with the Company's acquisition of TITAN Insurance Company and in 1994 and 1995 in connection with the acquisition of independent insurance agencies in Arizona and Michigan. Amortization of these amounts was $2.2 million, $1.2 million and $510,000 for the years ended December 31, 1996, 1995 and 1994, respectively. At December 31, 1996 unamortized costs were $21.2 million that relate to these acquisitions and will be amortized to future periods.
Net income increased $3.6 million or 34% to $14.2 million from $10.6 million in 1995, versus a $1.5 million or 16% increase in 1995 over $9.1 million in 1994. On an operating basis, excluding the effects of net after-tax realized gains (losses), net operating income increased $3.0 million to $13.6 million from $10.6 million in 1995 versus a $1.4 million increase over $9.2 million in 1994.
In July 1996, Holdings and WPAC entered into a $55 million credit facility with a group of banks, increasing the limit of the $45 million credit facility originally executed in August 1995. The 1996 credit facility includes a $10 million revolving line of credit ($2 million outstanding) until July 30, 2001 for Holdings' working capital purposes, a $20 million term loan ($20 million outstanding) utilized by the insurance companies to increase underwriting capacity, and a $25 million revolving credit facility available until July 30, 1997 for WPAC's premium finance operations. Management, in 1997, will evaluate the insurance companies' underwriting leverage ratio (net to premiums written as a function of statutory surplus) and evaluate whether additional financing is required to increase underwriting capacity. During 1997 management expects to utilize a portion of Holdings' $10 million revolving line of credit as necessary for working capital purposes. The term loan is payable in $4 million increments annually through 2001. The debt service in 1997, under the term loan, is anticipated to be repaid through dividends from the insurance companies to Holdings. WPAC's facility extends through July 30, 1997 at which time WPAC intends to renegotiate the line of credit for another year. In February 1997, WPAC acquired Elite Premium Services, Inc. ("Elite") for approximately $400,000 in cash and additional consideration to be determined as a function of future amounts financed through sources provided by Elite. Concurrent with the purchase, WPAC extended the limit of its facility to $50 million. At the date of purchase, WPAC increased its borrowings by approximately $11.5 million for finance contracts acquired from Elite. All other terms remained the same.
In 1996, cash used by investing activities included TITAN Auto's purchase of certain net assets of independent insurance agencies of approximately $2.6 million in addition to approximately $6.7 million in contingent consideration paid related to the initial purchase of TITAN Insurance Company. The Company will make one final payment of contingent consideration in 1997 in the amount of approximately $2.5 million in connection with the purchase of Titan Insurance Company, which has been accrued for in full. In addition, TITAN Indemnity Company expended approximately $4.1 million on capital improvements to its home office building. The Company now occupies approximately one-third of the home office building, replacing previous facilities which were leased by the Company. Future capital improvements are anticipated to be insignificant to TITAN Indemnity Company.
The Company's operations, like those of other property and casualty insurers, are susceptible to the effects of inflation, as premiums are established before the ultimate amount of losses and loss adjustment
In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, "Earnings per Share" (FAS 128). FAS 128 establishes standards for computing and presenting earnings per share (EPS) and applies to entities with publicly held common stock. FAS 128 simplifies the computation of earnings per share previously required by APB Opinion No. 15, "Earnings per Share," replacing primary EPS with a presentation of basic EPS. It also requires dual presentation of basic and diluted EPS on the face of the income statement for all entities with complex capital structures. FAS 128 is effective for financial statements for both interim and annual periods ending after December 15, 1997. Earlier application is not permitted. FAS 128 requires restatement of all prior-period EPS data presented. The Company will adopt FAS 128 in the first quarter of 1997.
The preparation of financial statements in conformity with generally accepted accounting principles ("GAAP") requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
TITAN Indemnity Company ("TITAN Indemnity"), a wholly-owned subsidiary of Holdings, is a Texas domiciled property and casualty insurer, admitted as an insurer in 47 states and the District of Columbia. TITAN Indemnity underwrites insurance for public entities nationwide and non-standard private passenger automobile insurance in Texas, Colorado, Nevada and New Mexico.
TITAN Insurance Company ("TITAN Insurance"), a wholly-owned subsidiary of TITAN Indemnity, is a Michigan domiciled property and casualty insurer, also admitted as an insurer in Arizona. TITAN Insurance underwrites nonstandard private passenger automobile insurance in Michigan and Arizona.
Holdings' fixed maturities are considered to be either available for sale or held to maturity, based upon management's intent at the time of purchase. Fixed maturities categorized as available for sale are marked to market, with the resulting adjustments, net of deferred income taxes, reported as a component of shareholders'
Management maintains allowances for mortgage notes receivable and premium finance contracts at a level which management believes is adequate to absorb potential losses in the portfolios. The allowances are based on an evaluation of the notes, past loss experience, current economic conditions, volume, growth and other relevant factors.
Reinsurance arrangements are short-duration prospective contracts for which prepaid reinsurance premiums are amortized ratably over the related policy terms based on the estimated ultimate amounts to be paid. Premiums ceded for contracts with retrospective adjustment features are calculated based upon the related estimated incurred losses and loss expenses including a provision for unreported losses.
Property and equipment stated at cost, less accumulated depreciation, consist primarily of a home office building and adjacent plaza (purchased in 1994), furniture and equipment. Equipment under capital lease obligations is stated at the present value of the minimum lease payments at the beginning of the lease term. Depreciation and amortization is primarily computed using the straight-line method over the estimated useful lives or lease terms, ranging from 3 to 10 years for equipment and 39 years for the home office building.
Through its wholly-owned subsidiaries, Holdings has also acquired the net assets of independent insurance agencies. The results of operations of these agencies have been included in the accompanying consolidated financial statements since the date of these acquisitions.
Holdings adopted Statement of Financial Accounting Standard No. 123 (SFAS 123), "Accounting for Stock-Based Compensation," and has elected to continue utilizing the intrinsic value method required under provisions of APB Opinion No. 25 (APB 25) and related Interpretations in measuring stock-based compensation for employees. In addition, SFAS 123 requires Holdings to make pro forma disclosures of net income and net income per share as if the fair value method of accounting for stock based compensation had been applied. See note 14 to the consolidated financial statements. The disclosure provisions of SFAS 123 are effective for options granted in fiscal years beginning in 1995.
Certain amounts in the consolidated financial statements for prior years have been reclassified to conform with the current year's presentation.
Realized gains (losses) and changes in net unrealized losses are as follows:
The amortized cost and estimated market values of investments in fixed maturities at December 31, 1996 are as follows:
The amortized cost and estimated market values of investments in fixed maturities, at December 31, 1995 are as follows:
Mortgage notes receivable are principally first liens on commercial properties. There have been no foreclosures nor are any of the notes subject to delinquent interest.
At December 31, 1996, TITAN Indemnity and TITAN Insurance (the "insurance companies") had investments with a carrying value of $9,042,000 on deposit with various state insurance departments as a requirement of doing business in such states.
The insurance companies are currently reinsured under separate treaties for their different lines of business, resulting in the following net retentions per occurrence:
Holdings reflects amounts related to ceded unpaid losses and loss expenses as amounts due from reinsurers and amounts related to ceded unearned premiums as prepaid reinsurance premiums in its consolidated financial statements.
The amounts due from reinsurers and prepaid reinsurance premiums at December 31, 1996 totaled $49,665,000 with two reinsurers (the MCCA and Munich American Reinsurance Company) accounting for approximately 96% of the balance. On a continual basis, Holdings conducts a review of its reinsurers considering a number of factors, the most critical of which is their financial stability. As a result of such reviews, Holdings reevaluates its position with reinsurers with respect to existing and future reinsurance.
Amounts due from reinsurers consist of amounts related to the following:
Ceded premiums earned and reinsurance recoveries on losses and loss expenses are as follows:
Total federal income tax payments of $8,112,000, $4,243,000 and $4,965,000 were made during 1996, 1995 and 1994, respectively.
At December 31, 1996, current income taxes receivable of $1,602,000 are included in other receivables and at December 31, 1995, current income taxes payable of $460,000 are included in other liabilities.
TITAN Indemnity and TITAN Insurance are required to prepare financial statements with their domiciliary states of Texas and Michigan, respectively, in accordance with statutory insurance accounting
A reconciliation of statutory policyholders' surplus at December 31, 1996 and 1995 and statutory net income for the years ended December 31, 1996, 1995 and 1994 of the insurance companies (as filed with their respective insurance regulatory authorities) to the amounts shown in the accompanying consolidated financial statements are as follows:
TITAN Indemnity is required by the Texas Department of Insurance to maintain capital and surplus of $2,000,000 and TITAN Insurance is required by the Michigan Insurance Bureau to maintain capital and surplus in an amount determined adequate by the commissioner, but not less than $1,000,000.
In 1992, TITAN Indemnity underwent a financial examination by the Texas Department of Insurance through the period ended June 30, 1992. TITAN Insurance was examined by the Michigan Insurance Bureau through the period ended December 31, 1994.
Regulations that affect Holdings and the insurance industry are often the result of the National Association of Insurance Commissioners ("the NAIC"). The NAIC is an association of state insurance commissioners, regulators and support staff that acts as a coordinating body for the state insurance regulatory process. In 1994 the NAIC established new risk-based capital ("RBC") requirements to assist regulators in
monitoring the financial strength and stability of property and casualty insurers. Under the NAIC requirements, each insurer must maintain its total capital and surplus above a calculated threshold or take corrective measures to achieve the threshold. The insurance companies have calculated their RBC levels and have determined that their capital and surplus are in excess of the threshold requirements.
The costs of acquiring new and renewal business, which vary with and are directly related to the production of such business, have been deferred to the extent that such costs are deemed recoverable from future unearned premiums and anticipated investment income. Information related to deferred policy acquisition costs is summarized as follows:
Total interest payments of $1,898,000, $1,038,000 and $317,000 were made during 1996, 1995 and 1994, respectively.
In July 1996, Holdings and WPAC entered into a $55 million credit facility with a group of banks, increasing the limit of the $45 million credit facility originally negotiated in August 1995. The 1996 credit facility includes a $10 million revolving line of credit until July 30, 2001 for Holdings' working capital purposes, a $20 million term loan utilized by the Company's insurance subsidiaries to increase underwriting capacity, and a $25 million revolving credit facility available until July 30, 1997 for WPAC's premium finance operations. WPAC's revolving credit facility was amended in February, 1997, increasing the amount available for premium finance contracts to $50 million, concurrent with WPAC's purchase of Elite Premium Services, Inc (see note 18). This increased the Company's total debt facility to $80 million. The credit facilities for both Holdings and WPAC bear interest at rates based on LIBOR or the bank's base rate plus a margin ranging from 0 to 200 basis points, depending upon the total amount of indebtedness of Holdings, the statutory surplus of TITAN Indemnity, the term of the loan and other factors. In addition, Holdings has purchased interest rate swap agreements which fix the interest rate on a portion of the term loan's principal ($7.5 million at December 31, 1996) at 7.01% through February 11, 1997 and on the remainder of the term loan's principal at 7.20% through March 30, 1998.
Holdings has entered into employment agreements with certain executives which grant the executives the right to receive certain benefits, including base salary, should such executives be terminated other than for cause.
The fair value of each option is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 1996: risk-free interest rates of 5.4% dividend yield of 1.9%, expected lives of 10 years for the 1993 Stock Option Plan and 5 years for the 1993 Directors Stock Option Plan; and volatility of 23.3%.
A summary of the status of Holding's two fixed option plans as of December 31, 1996, 1995 and 1994, changes during the years then ended, and the weighted-average fair value of options granted during 1996 and 1995 is presented below:
In addition, during 1993, Holdings issued warrants for 452,025 shares of common stock at a price of $14.96 per share. Such warrants are adjustable for any dilution caused by the issuance of additional shares or convertible securities and the holders are entitled to cumulative dividends ($0.93 per share at December 31, 1996) upon exercise. All such warrants remained outstanding at December 31, 1996 at a net effective exercise price of $14.52 and expire in September 1998.
During 1996, Holdings acquired the net assets of independent insurance agencies in Texas, Nevada and Colorado. These acquisitions together with the prior year acquisitions of the Michigan non-standard automobile operations and the net assets of independent insurance agencies in Arizona and Michigan, have given rise to goodwill and non-competition agreements summarized as follows:
Financial Assets -- Fair values for fixed maturities, equity securities and short-term investments are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. The carrying amounts of cash and cash equivalents, premium finance contracts and other invested assets approximate their fair values. The fair value of mortgage notes receivable is estimated by discounting the future cash flows using the current rates at which similar loans would be made to similar borrowers with similar credit ratings and the same remaining maturities.
The carrying amount and fair value of the Company's financial instruments consist of the following:
Holdings is party to numerous lawsuits arising in the normal course of business. All suits involve claims under insurance policies underwritten by Holdings, which management believes have been adequately included in its established reserves for unpaid losses and loss expenses.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of TITAN Holdings, Inc. and subsidiaries as of December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1996 in conformity with generally accepted accounting principles.