The Company leases all of its office space which, as of December 31, 1998, totaled approximately 166,000 square feet. The home office aggregates approximately 63,000 square feet. Branch locations range from 1,000 to 4,600 square feet. See Note 12 of Notes to Consolidated Financial Statements.
Gross premiums written increased 23% from $108,091,000 in 1997 to $132,819,000 in 1998. Premium growth for the surety division was 24%, with the commercial surety product showing the largest growth, up 66% from $16,694,000 in 1997 to $27,662,000 in 1998. Management believes that this growth is attributable to continued emphasis on this product and a strengthening of our servicing and underwriting capabilities for commercial surety during 1998. In addition, the Company's bail product grew 11% from $11,109,000 in 1997 to $12,315,000 in 1998 due primarily to increased penetration of this product in Missouri, Oklahoma and Texas. Contract surety premiums grew 14% from $54,808,000 in 1997 to $62,293,000 in 1998. Of this amount, 8% was the product of acquisitions completed during late 1997 and 6% was internally generated. Property and Casualty Division premiums grew 20% primarily due to the implementation of the Division's California non-standard automobile program and specialty motorcycle program in New York State.
Net premiums earned increased 15% from $92,150,000 in 1997 to $105,971,000 in 1998. The increase in net premiums earned reflects the increased premium writings partially offset by increased premiums ceded as a result of changes in the Company's reinsurance program during 1998.
Policy acquisition costs as a percentage of net premiums earned decreased from a ratio of 49% or $45,355,000 in 1997 to 48% or $51,090,000 in 1998. The decrease is primarily attributable to an increase in commissions earned by the Company on its quota share reinsurance treaties.
The Company's underwriting loss decreased from $468,000 for the year ended December 31, 1997 to $122,000 for the year ended December 31, 1998. The combined ratio decreased from 100.5% in 1997 to 100.1% in 1998. The decrease in the underwriting loss is primarily attributable to improved performance in the Company's surety product lines offset by increased losses in the Property & Casualty Division as previously discussed.
Gross premiums written increased 11% from $97,242,000 in 1996 to $108,091,000 in 1997. Substantially, all of this premium growth was due to written premium increases in the surety product lines. Management believes that the increase in premiums written is attributable to the impact of regionalization of contract surety underwriting function, thereby allowing the Company to respond on a more timely basis to bond requests coupled with continued strong growth in commercial surety and the purchase of two surety agencies during 1997. The latter contributed approximately $1,800,000 of the increase in written premiums during 1997.
Merger expenses of $710,000 were incurred in 1996 in connection with the merger of Condor Services, Inc. with and into Amwest Insurance Group, Inc. No such costs were incurred during 1997.
The Company's off balance sheet collateral which primarily consists of irrevocable letters of credit and certificates of deposit increased from $211,981,000 at December 31, 1997 to $218,360,000 at December 31, 1998. This increase is primarily attributable to market conditions.
On August 6, 1994, the Company entered into a revolving credit agreement with Union Bank for $12,500,000 which refinanced a previous loan. The debt agreement was amended on April 24, 1996, July 10, 1996 and waived and amended as of September 30, 1997 and 1998 to increase the amount available under the revolving line of credit from $12,500,000 to $15,000,000 and to change certain covenants and payment requirements. The bank loan has a variable rate of interest based upon fluctuations in the London Interbank Offered Rate (LIBOR) and has amortizing principal payments. The interest rate at December 31, 1998 was 7.1 %. The credit agreement contains certain financial covenants with respect to capital expenditures, business acquisitions, liquidity ratio, leverage ratio, tangible net worth, net profit and dividend payments. See Note 10 of Notes to Consolidated Financial Statements.
The Company is a party to a lease with ACD2 regarding its corporate headquarters. The lease term is for a period of 15 years and contains provisions for scheduled lease charges. The Company's minimum commitment with respect to this lease in 1999 is approximately $932,000. The Company has the option to
purchase this home office building and land commencing on April 27, 2000 and extending for a six month period at a predetermined rate for the building, with the value of land based on then existing market rates. See Note 12 of Notes to Consolidated Financial Statements.
The Company believes that its cash flows from operations and other present sources of capital are sufficient to sustain its needs for the remainder of 1999.
The following table provides information about all our fixed maturity investments which are sensitive to changes in interest rates. The table presents cash flows of principal amounts and related weighted average interest rates by expected maturity dates at December 31, 1998. The cash flows are based on the earlier of the call date or the maturity date or, for mortgage-backed securities, expected payment patterns. Actual cash flows could differ from the expected amounts.
The following is a summary of the Company's efforts to date with respect to Y2K issues:
The Company has summarized its exposure to Y2k issues by four general categories which are:
The Company has 4 mission critical systems for its property and casualty operations. These include a personal lines system supplied by an outside vendor, a commercial lines system also supplied by an outside vendor, a system for electronic transmission for the Company's program business and data replicating software supplied by an outside vendor. The Company has completed its assessment of these four systems and believes that the personal lines system, the internally developed system for electronic transmission of program business and the data replicating system are Y2K compliant while the commercial lines system is not Y2K compliant. This conclusion is based on either certifications received from the third party vendor(s) supplying the system or testing performed by the Company for internally developed or modified systems. The Company is currently in the process of developing a new commercial lines system to replace the non-Y2K compliant system supplied by an outside vendor. The Company currently estimates that this system will be completed and installed during the third quarter of 1999.
The majority of the costs associated with system development of year 2000 compliant systems have been associated with the development of the ABS surety production system and the property and casualty personal and commercial lines systems. In all three of these cases, the underlying previously utilized systems had significant business related flaws, such that they needed to be replaced without regard to year 2000 compliance issues. The Company does not believe that the incremental costs of making the replacement systems Y2K compliant were or will be significant. Further, for those systems which have been modified solely to assure Y2K compliance, the Company does not believe that these costs are material.
Due to the potential for sweeping problems associated with the Y2K issue, the Company believes that any contingency plan for addressing Y2K must be flexible and part of a broad based disaster recovery plan. The Company's experience with disaster recovery (the Northridge earthquake) has led it to believe that a rigid disaster recovery plan will be less effective than a flexible plan which analyzes the specific problems associated with each unique disaster and proposes solutions based on the problems encountered. Other than for the specific internal systems which are not currently Y2K compliant and for which the Company is developing contingency plans (substantially based on temporary manual intervention), the Company believes that a broad based disaster recovery plan will be more effective in addressing the multitude of potential Y2K problems. The Company has developed a disaster recovery plan and will use this plan in responding to scenarios created by the Y2K problem.