Property and casualty insurers experienced deteriorating underwriting results in 1998 as catastrophe losses returned to historical levels. A.M. Best expects underwriting results to continue to worsen through 2000. Slow premium growth continues in the property casualty industry and the expense ratio continues to increase. Declining interest rates are expected to impact the industry as investment yields are predicted to fall below 5% for the first time in 25 years.
Litigation continues to be a major industry concern. In Alabama, and increasingly in other states, the insurance and finance industries have been targeted in litigation and this legal environment has received national news coverage. The Alabama legislature enacted limited tort reform. Judicial elections for the Alabama Supreme Court also suggest a possible shift in the judicial philosophy of the court. Future changes in the current Alabama environment, however, cannot be predicted.
On March 5, 1999, the Company entered into an agreement pursuant to which Fortis, Inc. ("Fortis") will acquire the Company through a merger. The Company, Fortis and Greenland Acquisition Corp, a wholly owned subsidiary of Fortis, entered into an Agreement and Plan of Merger (the "Fortis Merger Agreement") which provides that, subject to satisfaction of specified terms and conditions, including regulatory and common stockholder approval, Greenland will merge with and into the Company. The Company will be the surviving corporation in the Merger and will become a wholly owned subsidiary of Fortis. If the merger is consummated, holders of the Company's common stock will receive $55.00 in cash for each share of common stock. Holders of the Company's preferred stock will receive $109.857 in cash for each share of preferred stock unless the merger is not approved by the holders of at least 2/3 of the shares of preferred stock voting as a class or if Fortis reasonably determines that such a vote is not likely to be obtained. In such case, the preferred stock will continue to remain outstanding after the merger, pursuant to the terms and conditions as are in effect on March 5, 1999, except that the preferred stock will be convertible as provided in the Company's Articles of Incorporation. The
In 1998, net income increased by 133% to $267.0 million from $114.9 million in 1997. Included in the results were several non-recurring revenues and expenses as described below.
In November 1998, the Company reached an agreement, subject to court approval, to settle pending federal class action litigation associated with the Company's non-file insurance product. The Company's contribution to the settlement and related expenses approximated $17 million pre-tax and is included in the other lines segment. See discussion in Non-file Litigation.
Excluding the impact on the 1998 operating results from the above items, pre-tax net income increased by $8.7 million from 1997. The increase was due to investment income and realized gains. The decrease in personal lines segment pre-tax operating income is primarily due to higher losses which includes the reserve strengthening described above.
FINANCIAL MARKETS ------------------ 1998 $ 127.3 1997 $ 130.5 1996 $ 114.7
PERSONAL LINES -------------- 1998 $ 14.1 1997 $ 27.8 1996 $ 28.9
OTHER LINES ----------- 1998 $ 279.4 1997 $ 17.6 1996 $ 9.9
Total revenues increased 1% (excluding the merger termination fees) in 1998 compared to 1997. An increase in investment income of $15.6 million and a $9.4 million increase in realized investment gains offset the $21.8 million decline in net earned premium revenue. The 1998 decrease in net premiums earned in the other lines business segment is principally due to the Company's decision to discontinue writing certain lines of business in the United Kingdom subsidiary. Net earned premiums increased 5% in 1997 and 11% in 1996.
FINANCIAL LINES ---------------- 1998 $ 1,204.2 1997 $ 1,201.9 1996 $ 1,139.4
PERSONAL LINES -------------- 1998 $ 195.9 1997 $ 193.1 1996 $ 199.9
OTHER LINES ----------- 1998 $ 31.9 1997 $ 58.8 1996 $ 39.2
Investment income increased by 12% to $149.7 million in 1998 from $134.1 million in 1997. The increase resulted from an overall increase in invested assets of $375.0 million. The increase in the invested assets includes approximately $148.0 million as a result of the acquisition of MSD, late in 1998. Investment income increased 11% in 1997 compared to 1996.
Extensive use of commission arrangements that are adjustable based on claims experience allows ABIG to generate business with stable underwriting results as illustrated below.
ABIG incurred pre-tax catastrophic losses of $3.7 million in 1998 and $9.2 million in 1996. Catastrophic losses were not significant in 1997.
ABIG's 1998 reserve development was not significantly different from previously established reserves. The Company's loss reserve development includes losses assumed from excess casualty reinsurance pools. ABIG discontinued participation in these pools effective prior to 1982. The business is long-tail in nature and losses continue to exceed both Company and industry expectations. Most of the losses are asbestos-related or environmental pollution claims.
The Company's exposure is primarily through participation in excess casualty pools. These pools typically involve high-layer coverages that apply only after primary insurance coverage and, in many cases, reinsurance coverages have been exhausted. ABIG's experience can differ significantly from that of other insurers which wrote the primary coverages directly. The Company establishes loss reserves on known claims as recommended by the various pool managers, plus additional reserves to compensate for those claims that have not yet been reported.
The Company's U.K. subsidiary participated in certain personal accident reinsurance programs from other insurance companies during 1994 to 1997. The Company ceased writing this reinsurance in 1997; however, certain risk may continue beyond 1997 due to the nature of the reinsurance contracts written. The
A few of ABIG's products such as Mobilehome Physical Damage and Homeowners are affected by seasonal changes during the year. This causes profitability in those lines and for the Company to fluctuate throughout the year.
Operating expenses (excluding interest expense) were $375.1, $298.8 and $280.8 million in 1998, 1997 and 1996, respectively. Excluding the previously discussed items on page 38, the operating expenses in 1998 were $321.5 million or 11.9% of gross premiums earned. The operating expense to gross premiums earned ratio was 11.4% in 1997. The 1996 ratio was 11.8%.
Interest expense was $19.1, $16.2 and $17.5 million in 1998, 1997 and 1996, respectively. The increase in interest expense in 1998 is due to elevated debt levels maintained mid-year. In early 1998, the Company was required to pay a fee to AIG to terminate their proposed merger and the Company borrowed additional funds to make the payment. A portion of the fee from Cendant was used to reduce the debt level at the end of 1998. The decrease in interest expense from 1996 to 1997 was primarily due to lower debt levels during the year.
The 1998 effective tax rate increased to 33.5% from 28% in 1997. The increase is due to the net merger termination fee income of $300 million which was taxed at the full statutory rate. The effective tax rate decrease in 1997 from 30.5% in 1996 was due in part to an increase in low-income housing investments and a reduction of losses in the United Kingdom subsidiary. ABIG continues its strategy to increase its investment in tax-exempt and tax-credit investments to minimize its income tax expense.
Liabilities were $3.3, $3.0 and $2.8 billion at December 31, 1998, 1997 and 1996, respectively. A major portion of the Company's liabilities in each of these years were reserves related to the insurance policies issued by the Company's subsidiaries. These reserves represented 77%, 78% and 75% of the total liabilities for the respective years 1998, 1997 and 1996.
Notes payable were $193.8, $242.6 and $222.5 million at December 31, 1998, 1997 and 1996, respectively. ABIG's debt to capitalization (debt plus stockholders' equity) ratio has declined every year since 1994. The ratios for 1998, 1997 and 1996 were 15.4%, 23.0% and 23.9% .
Under FASB Statement 115 - Accounting for Certain Investments in Debt and Equity Securities - certain investments in debt and equity securities are carried in the balance sheet at fair value. The difference between the amortized cost and the fair value of the securities available-for-sale (unrealized gain or loss, net of tax) is included as a component of equity. Unrealized gains, net of taxes on ABIG's fixed maturity portfolio were $10.2 million at December 31, 1998.
In February 1999, the Board of Directors revoked the 1996 authority to repurchase Company stock and authorized a repurchase of up to 1.5 million shares of the Company's stock in the open market from time to time subject to certain conditions. At December 31, 1998, ABIG held approximately 360,000 shares as treasury stock and acquired an additional 476,100 shares during the first quarter of 1999.
totaled $1.1 billion, $922.3 and $906.3 million, at December 31, 1998, 1997, and 1996, respectively. Other significant cash commitments in 1999 include shareholder dividends of approximately $26.6 million under the current capital structure.
Cash flows from operations of $380.5 million in 1998, $194.4 million in 1997, and $202.7 million in 1996, contributed to meet operating requirements, as well as anticipated debt service. The 1998 cash flow from operations included the receipt of net merger termination fees of $300 million and other non-recurring charges. Cash provided by operating activities in excess of these needs is used in investing activities.
During 1996, ABIG raised $115 million in a public offering of preferred stock. The net proceeds of $111.8 million were used primarily to support growth and reduce debt. Excluding any significant business acquisitions, ABIG expects to provide all its capital needs internally or through its short-term borrowing facility in 1999.
Capital expenditures planned for 1999 are not expected to be significant compared to the Company's overall liquidity and cash flow. ABIG completed the expansion of its headquarters in 1997, associated costs incurred approximated $6.3 million in 1997 and $2.9 million in 1996.
In 1995, the Company executed a $250 million financing program with a group of banks, which features a bid loan and revolving line of credit facility. In 1994, the Company registered $200 million of medium-term notes with maturities ranging from nine months to thirty years, with the Securities and Exchange Commission. In 1994 and 1995, the Company issued a $75 million fixed rate note and a $50 million floating rate note, respectively. Under these arrangements, approximately $304 million is available for short-term liquidity needs as of year end. Consummation of the merger as contemplated by the Fortis Merger Agreement will, unless consents or waivers are obtained from the group of banks under the credit facility, constitute an event of default and result in the termination of the credit facility. This event may impact the Company's liquidity if it is required to repay all outstanding loans and advances pursuant to the credit facility and the unavailability of further loans and advances under the credit facility.
The Fortis Merger Agreement requires the Company, under certain circumstances, to pay Fortis a fee of $100 million, if the Merger is not consummated. If such payments were required, the Company would obtain such funds from available credit facilities and/or operating cash flows.
The Company does not commit a significant portion of its investment portfolio to equity securities; consequently, liquidity is not significantly affected by changes in the equity securities markets. At December 31, 1998, equity securities represented 5.1% of ABIG's total invested assets.
Prior to the closing of the pending merger with Fortis, the Company expects to continue its policy of paying regular cash dividends; however, future dividends are dependent on the Company's future earnings, capital requirements, financial condition and certain restrictions under its credit facility. Based on the current dividend paying abilities of the insurance subsidiaries, ABIG does not foresee any difficulty in servicing its outstanding indebtedness or its ability to pay dividends.
Payment of dividends to ABIG by its insurance subsidiaries is dependent on regulations dictated by statutory authorities in the state in which they are domiciled. The National Association of Insurance Commissioners has introduced standards that would treat dividends in excess of the lesser of 10% of surplus or net income as extraordinary dividends requiring insurance department approval. While some states have adopted the standards, others have not. The payment of dividends by the subsidiaries is subject to restrictions discussed further in Item 1 on page 19 and Notes 9 and 10 to the Consolidated Financial Statements.
In Europe, effective in 1999, the European and Monetary Union has introduced the euro as a new currency. Eleven of the fifteen member countries of the European Union, participating countries, over the next three years will take the steps to convert to the new currency. Non-participating countries, include the United Kingdom and Denmark.
ABIG's European subsidiaries, BIG and IBIC, are located in the United Kingdom and Denmark, respectively. Since our European subsidiaries are both located in and have as their principal marketplace non participating countries, the Company does not expect the introduction of the euro to materially impact their operations or increase their competition.
The Year 2000 project at ABIG was developed in early 1997 to position the Company to complete the renovation and upgrades of all mission critical information systems by the end of 1998. The project involves the entire enterprise and its major accounts and vendors. It has four phases, Awareness, Assessment, Remediation, and Validation. At the end of 1998, Validation testing was essentially complete for all ABIG's core insurance processing and accounting systems.
In the Assessment phase, ABIG inventoried all computer hardware and software. All specific systems that required modification or replacement were assessed to determine the steps necessary to remediate the Year 2000 issue. The Assessment phase was completed during the fourth quarter of 1997.
The Remediation phase began in 1997. Remediation efforts on all core insurance and accounting information processing systems have been completed and the systems returned to production.
In 1997, ABIG designed and configured isolated testing labs for both mainframe and network client server technologies. The technology infrastructure, such as operating systems, third party software,
wiring, and network hardware, were all upgraded to Year 2000 compliant releases before being used for lab testing. The labs provide the ability to perform validation testing for systems using various future Year 2000 date/time scenarios.
In 1999, the Year 2000 compliance effort at ABIG will be limited to the following:
o Completion of all systems Validation testing in the Year 2000 labs during the first quarter.
ABIG surveyed its network of corporate clients and other third parties regarding their Year 2000 readiness in our Assessment phase. The majority have responded to the surveys and have represented that they expect to be compliant by the Year 2000. Our Validation phase includes plans to audit the readiness of our major corporate clients and to test electronic interface data in 1999. The Company will continue to monitor their progress and work with them as required.
The worst case scenario would be where the Company's systems do not operate as expected and/or major clients and major service providers fail to achieve their Year 2000 compliance. Consequently, no assurance can be given that Year 2000 compliance can be achieved without costs that might affect
future financial results or cause reported financial information to not be necessarily indicative of future operating results or future financial condition.
Through December 31, 1998, the Company has expensed approximately $7.6 million and estimates another $3.3 million to substantially complete the project.
As in the case of other types of insurance, state regulators, directly and through the NAIC, have begun a greater focus on the regulatory, licensing and disclosure issues related to market conduct of
credit insurers, including the Company. In May 1998, following market conduct examinations by several states, the Company received notice from the Kentucky Commissioner of Insurance that a larger group of states (the "participating states") intended to conduct a multi-state market conduct examination. The participating states also invited the Company to pursue a compromise resolution under which the Company would voluntarily address certain areas of concern through implementation of a Compliance Plan agreeable to the states. In light of the significant costs of a multi-state examination, as well as the potential exposure for monetary sanctions, the Company chose to voluntarily negotiate a Compliance Plan. On November 23, 1998, the Company entered into a Consent Order and comprehensive Compliance Plan with 39 participating states relating to compliance with the disparate state insurance laws, regulations and administrative interpretations relating to credit-related insurance products. As a part of the adoption of the Compliance Plan, the Company agreed in a Consent Order to pay $12 million to those participating states, and through implementation of the Compliance Plan, to provide restitution to insureds, if instances of excess premiums or less than appropriate claims payments were discovered in that process. Since November 1998 four additional states have executed Addenda joining in the multi-state Consent Order. The Company also agreed to a multi-state market conduct examination commencing on or after November 23, 1999 for review of the Company's implementation of the Compliance Plan, and to a payment of $3 million to participating states if the Compliance Plan is not fully implemented by that time. The Company is taking steps to implement the Compliance Plan by November 23, 1999 (see Note 13), but there can be no assurance that the Company will fully implement the Compliance Plan by that date.
and market conduct practices. It is impossible to predict whether any new regulations will be proposed.
The NAIC has promulgated Risk-Based Capital (RBC) requirements. Under the RBC requirements, areas such a asset risk, insurance risk and business risk are evaluated and compared to the Company's capital and surplus to determine relative solvency margins. The Company's insurance subsidiaries all exceed their respective RBC requirements.
The Catastrophe Reserve Subgroup of the NAIC continues to work on the development and implementation of a mandatory, tax-deductible, pre-event catastrophe reserve based on geographic exposure zones and premiums by line of business. Certain factors included in the design of the reserve, such as reserve draw down trigger levels and an additional reserve cap based on an individual company's actual catastrophe exposure, are still under review.
The insurance industry is highly competitive. Some competing companies have been in business for a longer time, are more widely known by reason of such factors as age and size, and have greater financial resources than the Company. However, due to the specialized nature of the markets served and products offered, the Company's competitors differ among the different geographic locations and market segments in which the Company conducts business.
The Company may face increased competition from Financial institutions that have begun to market and underwrite insurance products. In addition, debt cancellation agreements offered by lending institutions may compete with the Company's credit life and disability products. The Company is unable to predict the extent of any increased competition from financial or lending institution on its business.
Liabilities for losses and loss adjustment expenses for property and casualty insurance represent estimates based on past actual experience of unpaid claims for known losses and for claims which have been incurred but not reported. The length of time for which claim costs must be estimated varies depending upon the coverage involved. The process used in computing reserves cannot be exact, particularly for liability coverages, since actual claim costs are dependent upon such complex factors as inflation, changes in doctrines of legal liability and damage awards.
The majority of ABIG's property and casualty insurance business is property coverage where the ultimate loss experience develops relatively quicker than that for insurers concentrated more heavily in liability coverages.
I Summary of Investments - Other Than Investments in Related Parties 89 II Condensed Financial Information of Registrant 90 III Supplementary Insurance Information 94 IV Reinsurance 95 VI Supplemental Information Concerning Property Casualty Insurance Operations 96
In our opinion, the consolidated financial statements listed in the accompanying index present fairly, in all material respects, the financial position of American Bankers Insurance Group, Inc. and its subsidiaries at December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above.
On March 5, 1999, the Company entered into an agreement pursuant to which Fortis, Inc. ("Fortis") will acquire the Company through a merger. The Company, Fortis and Greenland Acquisition Corp, a wholly owned subsidiary of Fortis, entered into an Agreement and Plan of Merger (the "Fortis Merger Agreement") which provides that, subject to satisfaction of specified terms and conditions, including regulatory and common stockholder approval, Greenland will merge with and into the Company. The Company will be the surviving corporation in the Merger and will become a wholly owned subsidiary of Fortis. If the merger is consummated, holders of the Company's common stock will receive $55.00 in cash for each share of common stock. Holders of the Company's preferred stock will receive $109.857 in cash for each share of preferred stock unless the merger not approved by the holders of at least 2/3 of the shares of preferred stock voting as a class or if Fortis reasonably determines that such a vote is not likely to be obtained. In such case, the preferred stock will continue to remain outstanding after the merger, pursuant to the terms and conditions as are in effect on March 5, 1999, except that the preferred stock will be convertible as provided in the Company's Articles of Incorporation. The Company also executed a Stock Option Agreement granting Fortis the right to purchase up to 8,406,559 shares of common stock upon the occurrence of certain events at $55 per share. If the merger is not consummated, the total amount that Fortis may receive under the Stock Option Agreement and the Fortis Merger Agreement is limited to $100 million plus expenses. In addition, certain stockholders have entered into a voting agreement with Fortis pursuant to which they have generally agreed to vote their shares in favor of the Fortis Merger Agreement and the merger.
* American Bankers Insurance Company of Florida (ABIC) * American Bankers Life Assurance Company of Florida (ABLAC) * American Reliable Insurance Company (ARIC) * Bankers American Life Assurance Company (BALAC) * Bankers Insurance Group (BIG) * Caribbean American Life Assurance Company (CALAC) * Caribbean American Property Insurance Company (CAPIC) * Federal Warranty Service Corporation (FWSC) * MS Diversified Corporation and Subsidiaries * Voyager Insurance Companies
Investments in debt and equity securities are classified as either held-to-maturity, available-for-sale or trading. Investments in debt securities are classified as held-to-maturity and carried at amortized cost if the Company has the positive intent and ability to hold these securities to maturity. Investments in debt securities not classified as held-to-maturity and equity securities with readily determinable fair values are classified as either available-for-sale or trading securities and carried at fair value. Securities that are purchased and held principally for the purpose of selling them in the near term are classified as trading securities and reported at fair value with subsequent changes in value reflected as unrealized investment gains and losses in the Consolidated Statements of Income. Investments not classified as either trading securities or held-to-maturity securities are classified as available-for-sale securities and reported at fair value with subsequent changes in value reflected as unrealized investment gains and losses.
Life insurance premiums, including single premiums for accidental death and dismemberment policies, are reported as earned when due. Credit life insurance premiums and accident and health premiums are earned over the terms of the contracts in relation to anticipated benefits to the policyholders. Property insurance premiums are recognized as income principally on a pro rata basis over the life of the policies.
* Acquisition costs relating to ordinary life contracts are amortized over the estimated term of the contracts in proportion to the ratio of the annual premium revenue to total premium revenue expected. Acquisition costs for universal life and annuities are amortized over the lives of the policies in relation to the present value of estimated gross profits from surrender charges and investment, mortality, and expense margins. The assumptions used for the estimates are consistent with those used in computing the policy liabilities.
Deferred taxes are provided for temporary differences in the bases of assets and liabilities for financial reporting and tax purposes.
Depreciation expense for the years ended December 31, 1998, 1997 and 1996 was $9,699,000, $10,091,000 and $9,278,000, respectively and is a component of operating expenses. Estimated useful lives range from 15 to 40 years for buildings; 3 to 15 years for software; and 5 to 7 years for furniture, equipment, and autos.
In 1998, the Company adopted FASB Statement 132, "Employer's Disclosures about Pensions and Other Postretirement Benefits," which revises disclosure requirements for pension and other postretirement benefits. This statement requires additional information on changes in the benefit obligations and fair values of plan assets. The prior years' information has been restated to conform with the disclosure requirements under FASB 132.
For those foreign affiliates where the foreign currency is the functional currency, unrealized foreign exchange gains (losses) net of taxes have been reflected in Common Stock and Other Stockholders' Equity under the caption "Accumulated other comprehensive income."
* Trade receivables and payables: The carrying amounts reported in the balance sheet for these instruments approximate their fair values.
* Notes payable: The carrying amount of the Company's short-term financing program approximates its fair value. Fair values for the Company's medium-term notes are based on a discounted cash-flow calculation using the Company's current borrowing rate for similar debts.
Operating results and other financial data for each segment are presented in Note 14. Management segments are primarily composed of the Company's business in the Financial Markets and the Personal Lines. The geographic segments include the companies or branches located in the United States and its possessions as domestic and all other as foreign. Included in the domestic segments is one foreign insurance subsidiary which writes no direct business and reinsures principally affiliated U.S. risks transacted in U.S. dollars.
Generally accepted accounting principles require management to make estimates and assumptions that affect the reported amounts. Certain significant estimates, including those used in determining property and casualty loss reserves, life insurance policy liabilities, deferred acquisition costs, valuation allowances for investment assets and unrecoverable reinsurance are discussed throughout the notes to consolidated financial statements.
At December 31, 1998 and 1997, fixed maturities with an amortized cost of $197,666,000 and $187,493,000 respectively were on deposit with insurance regulatory authorities to meet statutory requirements. In addition, fixed maturities with an amortized cost of $9,973,000 and $24,098,000 were being held in trust under reinsurance agreements at December 31, 1998 and 1997, respectively. The approximate market value and amortized cost of fixed maturity investments at December 31, 1998, are shown below by contractual or expected maturity periods. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
(5) POLICY LIABILITIES, UNEARNED PREMIUMS AND LIABILITIES FOR LOSSES AND LOSS ADJUSTMENT EXPENSES
The composition of the liability at December 31, 1998 and 1997, and related significant assumptions used are as follows:
The Company's loss reserve development includes losses assumed from excess casualty reinsurance pools in which the Company discontinued participation effective prior to 1982. The business is long-tail in nature and losses continue to exceed both Company and industry expectations. Most of these losses result from asbestos-related and environmental pollution claims. The Company's exposure is primarily through participation in excess casualty pools. These pools typically involve high-layer coverages that are applicable only after primary insurance coverage and, in many cases, reinsurance coverages have been exhausted. The Company's experience can differ significantly from that of other insurers which wrote the primary coverages directly. The Company establishes loss reserves on known claims as recommended by the various pool managers, plus additional reserves to compensate for those claims that have not yet been reported.
At the current time, it is not possible to determine the future development of asbestos and environmental claims due to a general absence of reliable predictive data and of a generally accepted actuarial methodology for these exposures, significant unresolved legal issues including coverage issues, policy definitions and evolving theories and arguments. Additionally, the determination of ultimate damages and the final allocation of such damages to financially responsible parties is complex and uncertain. Our historical experience suggests, however, that although reinsurance pool losses will continue, they should not have a materially adverse effect on the Company's financial condition or cash flows. Losses, net of reinsurance, from the Company's discontinued reinsurance pools were $1.8, $6.6 and $8.3 million in 1998, 1997 and 1996 respectively. At December 31, 1998 and 1997, the Company had $37.2 million and $38.5 million, respectively, of gross reserves related to the reinsurance pools.
Overall claims experience is principally dependent on the frequency and severity of claims as well as trends in litigation and loss cost inflation. With the exception of discontinued lines, the Company writes primarily property coverages which are characterized by relatively short settlement periods and quick development of ultimate losses. Reinsurance pool reserves represent approximately 8.8% of the gross liability for property and casualty losses and LAE at December 31, 1998. The Company's estimating and reserving practices are reviewed continually. Subsequent adjustments to the original estimates are made when determinable and are reflected in current year operations.
The Company's insurance subsidiaries follow the policy of reinsuring risk in excess of $250,000 under a domestic ordinary life policy, $400,000 under an international ordinary life policy and $300,000 under a property policy. In addition, aggregate excess of loss coverage is obtained for the Company's property and casualty business as protection against catastrophic losses. Ceded claim and policy liabilities are recorded as assets on the balance sheet under the caption "Reinsurance Receivable." The Company's insurance subsidiaries are liable for these amounts in the event reinsurers are unable to pay their portion of the claims. The Company evaluates the financial condition of its reinsurers and monitors concentration of credit risk arising from similar geographic regions, activities or economic attributes of the reinsurers to lessen its exposure to significant losses from reinsurer insolvencies.
Prior to 1984, ABLAC was taxed at regular corporate rates in accordance with the Life Insurance Company Income Tax Act of 1959, whereby a portion of its statutory income was not subject to current income taxation, but was accumulated in an account designated "policyholders' surplus." The aggregate balance in this account ($17,000,000 at December 31, 1998) would be taxed at applicable current rates only if distributed to stockholders or if the account exceeded a prescribed maximum. The Deficit Reduction Act of 1984 eliminated additions to the account for 1984 and thereafter. ABLAC does not anticipate any transactions that would cause any part of this amount to become taxable. Deferred taxes in the amount of $5,950,000 have not been provided since the Company does not anticipate any transactions that would cause any part of the account balance to become taxable. As of December 31, 1998, ABLAC has a shareholders' surplus account balance (on a tax basis) of approximately $190,200,000 from which it could pay dividends to stockholders without incurring any federal income tax liability, subject to regulatory requirements and the availability of funds. The other life insurance subsidiaries do not have policyholders' surplus account balances.
Under current Internal Revenue Code provisions, the life insurance subsidiaries are taxed under a single-phase structure incorporating tax rules comparable to other corporate taxpayers. All eligible life and property & casualty insurance subsidiaries are included in the Company's consolidated tax return.
Deferred income taxes of $8,623,000, $13,066,000, and $9,015,000 in 1998, 1997 and 1996, respectively have been provided on net unrealized investment gains.
The Company intends to indefinitely reinvest the undistributed earnings of its wholly owned foreign subsidiaries. The cumulative amount of undistributed earnings for which the Company has not provided deferred income taxes is approximately $86,200,000 as of December 31, 1998. Upon distribution of such earnings in a taxable transaction, the Company would incur additional U.S. income taxes in the amount of approximately $22,800,000 net of anticipated foreign tax credits.
Current tax benefits of approximately $6,800,000, $4,339,000 and $1,300,000 related to the vesting of restricted stock were credited directly to additional paid-in capital in 1998, 1997 and 1996, respectively.
At December 31, 1998, the Company's U.K. subsidiary had approximately $14,840,000 in net operating loss (NOL) carryforwards. A valuation allowance for the full amount of the related tax benefit has been established due to uncertainties associated with utilization of the NOL carryforwards.
The Company made federal income tax payments (net of refunds) of $200,000, $24,075,000, and $21,875,000 for the years 1998, 1997 and 1996, respectively.
The Company has a short-term credit agreement with a $250,000,000 five-year competitive advance and revolving credit agreement with a group of banks. The credit facility features a revolving line of credit, commercial paper and/or bid loan facilities. Interest rates vary according to the credit instrument exercised and the market rates then prevailing. Quarterly fees payable under this credit facility are: (a) fees payable to each lender, based upon the Company's Moody's and Standard & Poor's ratings at every quarter end; (b) utilization fees; and (c) administrative fees. The fees incurred in 1998, 1997 and 1996 were $316,840, $237,000 and $316,000, respectively for these facilities. The credit agreement contains various covenants pertaining to minimum stockholders' equity, maximum funded debt ratio and insurance statutory surplus and other ratios. No dividend payments are permitted if there is a default under the credit facility. Consummation of the merger as contemplated by the Fortis Merger Agreement will, unless consents or waivers are obtained from the group of banks under the credit facility, constitute an event of default and result in the termination of the credit facility.
In 1994, the Company filed with the Securities and Exchange Commission a shelf registration statement for $200,000,000 medium-term notes which provides for maturities ranging from nine months to thirty years. Under this shelf registration, the Company issued a $75,000,000 fixed rate note in May 1994 at 7.6% that is due May 1999 and interest is payable semi-annually. In addition, the Company issued a five-year $50,000,000 floating rate note in April 1995. Interest is payable and the rate is established on a quarterly basis. At December 31, 1998, the interest rate was 6%.
The convertible debenture bonds were converted to shares of the Company's common stock in January 1998. The LESOP loan was paid off April 2, 1998.
The following information is furnished with respect to the Company's short-term borrowings (commercial paper and revolving line of credit):
In 1997, the Company declared a two-for-one split, effected in the form of a stock dividend, on the Company's common stock.
Each share of Preferred Stock has a liquidating preference of $50, plus accrued and unpaid dividends, and is convertible at any time at the option of the holders thereof into 1.9974 shares of Common Stock of the Company (equivalent to a conversion price of $25.0325 per Common Share), subject to adjustment under certain conditions.
Under the Merit Award of Restricted Stock, awards were granted and issued to certain key employees for no consideration. The Restricted Stock issued upon exercise of the Merit Award is subject to certain restrictions.
Under the Non-Employee Directors' Stock Option Plan (Directors' Plan), directors received 2,000 (post-split) options annually at prices equivalent to the fair market value of common stock on the grant date. The stock options were granted during the years 1994 through 1996. As the result of the adoption in 1997 of the EIP, no new grants were made under the Directors' Plan.
A summary of the status and activity for options and shares granted and exercised under the Plans at December 31, 1998, is as follows:
Shares issued under the plans are recorded at fair market value at the effective date of the grant. The unamortized difference ($8,190,000 as of December 31, 1998, and $6,252,000 as of December 31, 1997) between the fair market value and option price on shares which are restricted is reported as part of stockholders' equity. Amortization of the restricted stock is recorded as compensation expense ratably over the vesting period ($3,519,000 in 1998, $2,280,000 in 1997, and $1,544,000 in 1996). Forfeitures are included as credits in the income statement during the period in which the forfeiting event occurs.
Risk-free interest rate 4.33% 5.78% 5.63% Expected life 1.02 1.25 1.33 Expected volatility 33.00% 29.00% 26.00% Expected dividend yield 1.01% 1.22% 1.99%
At their Annual Meeting in 1987, the stockholders approved the 1987 Executive Stock Option/Dividend Accrual Plan (ESODAP). As of December 31, 1998, options representing 1,420,828 shares (post-split) had been granted under the plan, of which 1,288,952 (post-split) had been exercised and 131,876 (post-split) had been terminated. A key feature of the plan is the Dividend Accrual Account which allows for the crediting of dividends in order to assist the executive in the exercise of the options. As the result of the adoption of the SORSAP and SICP, no new grants were made under the ESODAP.
Under the 1994 Key Executive Debenture Plan (KEDP), the Board may select certain Company officers to be eligible to purchase convertible debentures. Two debentures in the aggregate amount of $3.7 million had been issued which are convertible into all the 300,000 shares as currently reserved under the plan. All debentures were converted by the holders in January 1998.
The Board of Directors previously approved a non-qualified supplemental benefit plan. This unfunded deferred compensation plan is intended to provide pension benefits which would otherwise be provided under the benefit accrual formula applicable to all employees in the Company's qualified Plan, but which are in excess of an annual amount permitted under current tax regulations. Expense ($1.1 million in 1998, $.5 million in 1997, and $.1 million in 1996) is being recognized over the remaining service period for the officers presently covered.
Total rental expense for the years ended December 31, 1998, 1997 and 1996 was $11,623,000, $10,962,000, and $9,258,000 respectively.
On November 12, 1998, the Company and three of its clients entered into a settlement of all claims in class action litigation consolidated by the Panel on Multi-District Litigation in the United States District Court for the Middle District of Alabama, contingent upon approval of the fairness of the settlement by the District Court and other conditions. This series of class actions involved the largest collective class exposure to the Company. Under the terms of the settlement, without admitting any liability, the Company will contribute approximately $15 million in distributions to the classes and subclasses, and has agreed to be bound by an injunction limiting the percentage of authorized non-file insurance premium to be charged consumer finance and retailer accounts during 6 year and 18 month periods, respectively. The Company has accrued additional expenses associated with implementing the settlement.
In late January and early February 1998, five putative class actions on behalf of American Bankers' shareholders were filed in United State District Court for the Southern District of Florida alleging causes of action arising out of the then proposed merger with AIG, including claims that certain members of the Company's Board breached their fiduciary duties and that the Company violated certain provisions of the federal securities laws in connection with the proposed merger with AIG making essentially comparable claims to those originally asserted by Cendant. The Company and its directors believe that the claims asserted in these actions are totally without merit and intend to continue to vigorously contest them. The District Court judge ordered that these cases be consolidated and that the plaintiffs file a consolidated complaint. That consolidated complaint was filed and the Company and directors filed an answer. The parties are presently engaged in various pretrial matters.
The Company, in the normal course, is subject to regulatory reviews and market conduct examinations from each of the states in which it conducts business. During 1998, a multi-state market conduct review was initiated under the auspices of the NAIC by several states. On November 23, 1998 the Company entered into a Consent Order and comprehensive Compliance Plan with 39 participating states relating to compliance with the disparate state insurance laws, regulations and administrative interpretations which have been difficult to apply to the marketing of the Company's credit-related insurance products through financial institutions, retailers and other entities offering consumer financing as a regular part of their business. The Company and participating state regulators have pledged to cooperate in rationalizing existing insurance laws and regulations to the marketing and administration of credit-related insurance products on a more comprehensive and uniform basis. As a part of the adoption of the Compliance Plan, the Company agreed in a Consent Order to pay $12 million to the participating states, and through implementation of the Compliance Plan, to provide restitution to insureds, if instances of excess premiums or less than appropriate claims payments were discovered in that process. Since November 1998, four additional states have executed Addenda joining in the multi-state Consent Order. The Company also agreed to a multi-state market conduct examination commencing in November 1999 for review of the Company's implementation of the Compliance Plan, and to a payment of $3 million to participating states if the Compliance Plan is not fully implemented by that time.
In 1998, the Company adopted FASB 131, "Disclosures about Segments of an Enterprise and Related Information." The prior years' segment information has been restated to present the Company's reportable segments, Financial Markets, Personal Lines Markets and Other.
Quarterly financial information for the years ended December 31, 1998 and 1997, is presented below:
The Company adopted FASB Statement 128 "Earnings per Share" beginning in the period ending December 31, 1997. This Statement replaces the presentation of primary and fully diluted EPS with a presentation of basic and diluted EPS. The following is the reconciliation of the numerator and denominator of the basic EPS computation to the numerator and denominator of the diluted EPS computation
The Company entered into an Agreement and Plan of Merger (the "Cendant Merger Agreement") with Cendant Corporation ("Cendant") under which Cendant would have acquired the Company by merger. The execution of the Cendant Merger Agreement followed the public announcement by Cendant of its tender offer at $58 per share for shares of the Company's of common stock, to be paid in cash and common stock of Cendant, which was subsequently raised to $67. The Cendant Merger Agreement and Cendant's tender offer were terminated in October 1998 and Cendant made a $400 million cash payment to the Company.
Summary of Investments - Other Than Investments in Related Parties December 31, 1998 (in thousands)
AMERICAN BANKERS INSURANCE GROUP, INC. (PARENT) CONDENSED FINANCIAL INFORMATION OF REGISTRANT STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, (IN THOUSANDS)
The Company paid off the LESOP note on April 2, 1998. For a description of short-term and long-term debt payable to others and related information see Note 9 to the Consolidated Financial Statements on page 73 in Part II Item 8 of this report. For a description of the Company's commitments and contingencies, see Note 13 to the Consolidated Financial Statements on page 82 in Part II Item 8 of this report.
The Company received a fee of $400 million from Cendant Corporation which was netted against a $100 million fee paid to AIG. The net fee is reflected in the revenues as merger termination fees, net.
Operating expenses also include $17 million pre-tax for the non-file litigation, $15 million pre-tax for the multi-state Consent Order and approximately $15 million in merger-related expenses.
- ------------- *Includes premiums from both the life and property and casualty segment