- -------------------------------- (1) On December 11, 1996, PXRE merged with TREX. The Merger has been accounted for as a purchase. Accordingly, TREX has been included in PXRE's consolidated results of operations from the date of acquisition, which resulted in incremental earnings of $1,253,000 in 1996. For the period from January 1, 1996 until December 11, 1996, PXRE recorded equity in net earnings of TREX amounting to $3,898,000. Fully diluted average shares outstanding reflects the shares issued to holders
(3) The FASB's Emerging Issues Task Force ("EITF") reached a consensus on July 22, 1993 regarding Issue No. 93-6, "Accounting for Multiple-Year Retrospectively-Rated Contracts by Ceding and Assuming Enterprises." The EITF consensus requires that affected companies should accrue the lesser of termination penalties or the effect of prospective adjustments in rates or coverages triggered by the loss event in the period that a loss is recorded. The EITF mandate required adoption of this consensus no later than the third quarter of 1993. As described in Note 2 to PXRE's Consolidated Financial Statements for the year ended December 31, 1993, PXRE had certain retrocessional catastrophe coverage for its principal types of business. Certain of these contracts provided for terms of three or more years and had contractual adjustments regarding rates and/or coverages when losses are recovered under these contracts. Although PXRE was provided with the opportunity to cancel some of these contracts without penalty, PXRE chose to continue the contracts to obtain the coverage provided thereunder. Accordingly, PXRE believed that the appropriate application of the EITF's consensus was to record in the third quarter of 1992 incremental premiums that resulted from Hurricane Andrew loss recoveries under these contracts. This change increased 1992 third quarter ceded earned premiums by $5,772,000, deferred income tax benefit by $1,962,000, net loss by $3,810,000 and loss per common share by $0.99. These adjustments were determined on the basis of losses estimated by PXRE at December 31, 1992. The financial statements for years prior to 1992 were not affected. Also, due to additional information received during the first six months of 1993 with respect to Hurricane Andrew losses, PXRE reported, in the second quarter of 1993, an additional $2,500,000 of ceded premium expenses through the application of the EITF consensus. The statutory capital and surplus of PXRE Reinsurance has not been adjusted.
(6) During 1995, all of the outstanding shares of Series A Preferred Stock were converted into shares of PXRE's common stock. To date, these convertible preferred shares were the principal reason for the difference between primary and fully diluted earnings per share.
(8) The loss, underwriting expense and combined ratios included under "Other Operating Data" have been derived from the audited consolidated statements of income of PXRE prepared in accordance with GAAP.
PXRE provides reinsurance products and services to a domestic and international marketplace, with principal emphasis on commercial and personal property risks and marine and aviation risks, and with a particular focus on catastrophe-related coverages.
The estimation of losses for catastrophe reinsurers is inherently less reliable than for reinsurers of risks which have an established historical pattern of losses. In addition, insured events which occur near the end of a reporting period, as well as with respect to PXRE's retrocessional book of business, the significant delay in losses being reported to insurance carriers, reinsurers and
As PXRE underwrites risks from a large number of insurers based on information generally supplied by reinsurance brokers, there is a risk of developing a concentration of exposure to loss in certain geographic areas prone to specific types of catastrophes. PXRE has developed systems and software tools to monitor and manage the accumulation of its exposure to such losses. Management has established guidelines for maximum tolerable losses from a single or multiple catastrophic event based on historical data; however, no assurance can be given that these maximums will not be exceeded in some future catastrophe.
Although PXRE's investment guidelines stress conservation of principal, diversification of risk, and liquidity, investments are subject to market-wide risks and fluctuations, as well as to risk inherent in particular securities. Accordingly, the estimated fair value of PXRE's investments does not necessarily represent the amount which could be realized upon future sale particularly if PXRE were required to liquidate a substantial portion of its portfolio to fund catastrophic losses.
In the event the amount of dividends available, together with other sources of funds, are not sufficient to permit PXRE to meet its debt service, other obligations and to pay cash dividends, it would be necessary to obtain the approval of the Connecticut Insurance Commissioner prior to the payment of additional dividends by PXRE Reinsurance (or Transnational Reinsurance). If such approval were not obtained, PXRE would have to adopt one or more alternatives, such as refinancing or restructuring its indebtedness or seeking additional equity. There can be no assurance that any of these strategies could be effected on satisfactory terms, if at all.
The reinsurance business is increasingly competitive and is undergoing a variety of challenging developments. The industry has in recent years moved toward greater consolidation as ceding companies have placed increased importance on size and financial strength in the selection of reinsurers. Additionally, reinsurers are tapping new markets and complementing their range of traditional reinsurance products with innovative new products which bring together capital markets and reinsurance experience. PXRE competes with numerous major international and domestic reinsurance and insurance companies, many of which have substantially greater financial, marketing and management resources than PXRE.
Premiums ceded by PXRE to its managed business participants decreased 20.7% to $21,238,000 for 1996 compared with $26,774,000 for 1995. The decrease in premiums ceded to these programs was due to the decrease in the amount of premiums written by PXRE. During 1996, prior to the Merger, PXRE ceded $19,965,000 of premiums compared to $24,790,000 during the twelve months of 1995 to Transnational Reinsurance in lieu of direct reinsurance writings by Transnational Reinsurance. In 1997, premiums which prior to the Merger would have been ceded to Transnational Reinsurance will be retained in the consolidated PXRE results. Management fee income from all sources for 1996 decreased to $6,032,000 from $6,417,000 in 1995. The decrease reflected lower premium volume, offset, in part, by an improvement in the profitability of business ceded to managed business participants. Included in management fee income was $2,512,000 earned from TREX in 1996 prior to the Merger and $3,526,000 in 1995.
Net investment income for 1996 increased 13.9% to $16,782,000 from $14,730,000 for 1995. The increase in net investment income was caused by an increase in average investments for 1996 compared with the previous year, as well as an increase in PXRE's pre-tax investment yield to 6.4% for 1996 compared to 5.9% for 1995, both calculated using amortized cost and investment income before investment expenses. The increase in pre-tax investment yield primarily reflects the redeployment of PXRE's tax-exempt investment portfolio into taxable securities, including some higher yielding mortgage and asset-backed securities, in the fourth quarter of 1995 and throughout 1996. Net realized investment gains for 1996 were $94,000 compared with net realized gains of $85,000 for 1995. PXRE recorded directly to equity a $3,214,000 after-tax unrealized decrease in the value of its investment portfolio during 1996, reflecting the effect of an increase in interest rates during the first half of 1996.
The net effects of foreign currency exchange fluctuations were gains of $102,000 in 1996 and gains of $235,000 for 1995. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources."
Net income for the year ended December 31, 1996 includes $3,898,000 which represents PXRE's approximately 22.1% equity share of TREX's net earnings through December 11, 1996 as compared with $5,948,000 representing PXRE's approximately 21.9% share of TREX's net earnings in 1995. Net income for 1996 also reflects $1,253,000 attributable to 100% of incremental earnings following the Merger on December 11, 1996 through the end of the year.
For the reasons discussed above, net income was $33,301,000 for the year ended December 31, 1996 compared to net income of $39,786,000 for the year ended December 31, 1995. Primary net income per common share was $3.68 for 1996 compared to net income per common share of $4.74 for 1995 (after provision for cumulative dividends of $598,900 on the Series A Preferred Stock) based on average shares outstanding of 9,046,000 in 1996 and 8,275,000 in 1995. The change in the number of primary shares outstanding relates to the conversion of the preferred shares outstanding to common shares in the second quarter of 1995. Fully diluted net income per common share was $3.68 for 1996 compared to net income per common share of $4.48 for 1995 based on average shares outstanding of 9,060,000 in 1996 and 8,874,000 in 1995. The change in the number of fully diluted shares outstanding relates to the 1.0575 shares of PXRE common stock exchanged for each share of common stock of TREX in connection with the Merger.
Significant catastrophe and risk losses affecting the year ended December 31, 1995 loss ratio are outlined in "Comparison of 1996 and 1995."
During 1995, PXRE experienced a deficiency of $4,311,000, net, for prior year losses and loss expenses primarily from the 1994 Northridge earthquake. The loss ratio for 1994 was unfavorably affected by increases to reserves of $3,261,000, net, for prior year losses and loss expenses.
quarter of 1994 and the repurchase of $1,925,000 par value of Senior Notes at prices ranging from 104.625 to 105.0 during the third quarter of 1995. The loss on repurchase was not material.
Net investment income for 1995 increased 6.8% to $14,730,000 from $13,786,000 for 1994. The increase in net investment income was caused by a 5.0% increase in average investments for 1995 compared with the previous year, as well as an increase in PXRE's pre-tax investment yield to 5.9% for 1995 compared to 5.8% for 1994. Net realized investment gains for 1995 were $85,000 compared with net realized losses of $1,164,000 for 1994. PXRE recorded directly to equity a $9,759,000 after-tax unrealized increase in the value of its investment portfolio during 1995, resulting from the decline in interest rates during 1995.
The net effects of foreign currency exchange fluctuations were losses of $235,000 in 1995 and gains of $818,000 for 1994. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources."
For the reasons discussed above, net income was $39,786,000 for the year ended December 31, 1995 compared to net income of $34,829,000 for the year ended December 31, 1994. Primary net income per common share was $4.74 for 1995 (after provision for cumulative dividends of $598,900 on the Series A Preferred Stock) compared to net income per common share of $4.89 for 1994 (after provision for cumulative dividends of $2,005,000 on the Series A Preferred Stock) based on average shares outstanding of 8,275,000 in 1995 and 6,710,000 in 1994. The change in the number of shares outstanding relates primarily to the conversion of all the remaining convertible preferred shares to common shares in May 1995. Fully diluted net income per common share was $4.48 for 1995 compared to $3.94 for 1994 based on average shares outstanding of 8,874,000 in 1995 and 8,847,000 in 1994.
PXRE relies primarily on cash dividends and net tax allocation payments from its subsidiaries PXRE Reinsurance and Transnational Reinsurance to pay its operating expenses and income taxes, to meet its debt service obligations and to pay dividends to PXRE stockholders. The payment of dividends by PXRE Reinsurance to PXRE and by Transnational Reinsurance to PXRE Reinsurance is subject to limits imposed under the insurance laws and regulations of Connecticut, the state of incorporation and domicile of PXRE Reinsurance and Transnational Reinsurance, as well as certain restrictions arising in connection with PXRE Senior Notes discussed below. Under the Connecticut insurance law, the maximum amount of dividends or other distributions that PXRE Reinsurance may declare or pay to PXRE, and that Transnational Reinsurance may declare or pay to PXRE Reinsurance, within any twelve-month period, without regulatory approval, is limited to the lesser of (a) earned surplus or (b) the greater of 10% of policyholders' surplus at December 31 of the preceding year or 100% of net income for the twelve-
month period ending December 31 of the preceding year, all determined in accordance with SAP. Accordingly, the Connecticut insurance laws could limit the amount of dividends available for distribution by PXRE Reinsurance or Transnational Reinsurance without prior regulatory approval, depending upon a variety of factors outside the control of PXRE, including the frequency and severity of catastrophe and other loss events and changes in the reinsurance market, in the insurance regulatory environment and in general economic conditions. The maximum amount of dividends or distributions that PXRE Reinsurance may declare and pay in 1997, without regulatory approval, is $40,013,000. During 1996, $21,000,000 in dividends were paid by PXRE Reinsurance to PXRE Corporation. The maximum amount of dividends or distributions that Transnational Reinsurance may declare and pay in 1997, without regulatory approval, is $21,874,000. During 1996, $5,000,000 in dividends were paid by Transnational Reinsurance to TREX and $16,500,000 in dividends were paid by Transnational Reinsurance to PXRE Reinsurance.
PXRE's Board of Directors has authorized the repurchase of Senior Notes in negotiated or open market transactions. By December 31, 1995, PXRE or PXRE Reinsurance had purchased $7,225,000 principal amount of Senior Notes. In 1996, PXRE Reinsurance purchased $3,050,000 principal amount of PXRE's Senior Notes. Since January 1, 1997, PXRE has repurchased $24,900,000 principal amount of Senior Notes at an average price of 107.6%.
PXRE files federal income tax returns for itself and all of its direct or indirect domestic subsidiaries that satisfy the stock ownership requirements for consolidation for federal income tax purposes (collectively, the "Subsidiaries"). PXRE is party to an Agreement Concerning Filing of Consolidated Federal Income Tax Returns (the "Tax Allocation Agreement") pursuant to which each Subsidiary makes tax payments to PXRE in an amount equal to the federal income tax payment that would have been payable by such Subsidiary for such year if it had filed a separate income tax return for such year. PXRE is required to provide for payment of the consolidated federal income tax liability for the entire group. If the aggregate amount of tax payments made in any tax year by a Subsidiary is less than (or greater than) the annual tax liability for such Subsidiary on a stand-alone basis for such year, such Subsidiary will be required to make up such deficiency (or receive a credit if payments exceed the separate return tax liability) to PXRE.
PXRE's management has established general procedures and guidelines for its investment portfolio and oversees investment management carried out by Phoenix Duff & Phelps, a public majority-owned subsidiary of Phoenix Home Life. Although these investment guidelines stress conservation of principal, diversification of risk and liquidity, investments are subject to market-wide risks and fluctuations, as well as to risk inherent in particular securities. As at December 31, 1996, 98.3% of PXRE's investment portfolio (at fair value) consisted of fixed maturities and short-term investments, while the balance was in equity securities. The investment policies and all investments of PXRE are approved by its Board of Directors.
Of PXRE's fixed maturities portfolio at December 31, 1996, 98.7% of the fair value was in obligations rated "A1" or "A" or better by Moody's or S&P, respectively, or in government or government-backed securities. Mortgage and asset-backed securities (principally GNMAs) accounted for 36.1% of fixed maturities based on fair value at December 31, 1996. PXRE has no investments in real estate or commercial mortgage loans. The average market yield to maturity of PXRE's fixed maturities portfolio at December 31, 1996 and 1995 was 5.7% and 5.3%, respectively.
Book value per share was $25.63 at December 31, 1996, based on shares outstanding of approximately 13,954,000.
In March 1995, PXRE and TREX entered into a joint venture arrangement to trade in catastrophe futures and options contracts on the Chicago Board of Trade. The venture is now wholly-owned by PXRE, which has committed $5.0 million to this venture. Although the joint venture has developed a number of trading strategies, the low level of activity in the CBOT market for catastrophe futures has kept trade volume to a minimum through December 31, 1996.
PXRE's effective tax rate for 1996, 1995 and 1994 was 32.0%, 31.4% and 31.1%, respectively, which differs from the statutory rate principally due to tax-exempt income, state and local taxes and tax on undistributed earnings of unconsolidated affiliates. The change in the effective rate in 1996 reflects the higher relative proportion of underwriting income compared to tax-exempt municipal bond income.
This report on Form 10-K contains various forward-looking statements and includes assumptions concerning PXRE's operations, future results and prospects. Statements included herein which are not historical in nature are intended to be, and are hereby identified as, "forward-looking statements" for purposes of the safe harbor provided by Section 21E of the Exchange Act. These forward- looking statements are based on current expectations and are subject to risk and uncertainties. PXRE cautions the reader that actual results or events could differ materially from those set forth or implied by the forward-looking statements and related assumptions, depending on the outcome of certain important factors including the following: (i) significant catastrophe losses, the timing and extent of which are difficult to predict; (ii) changes in the level of competition in the reinsurance or primary insurance markets that impact the volume or profitability of the property-casualty reinsurance business (these changes include, but are not limited to, the intensification of price competition, the entry of new competitors, existing competitors exiting the market and the development of new products by new and existing competitors); (iii) changes in the demand for reinsurance, including changes in the amount of ceding companies' retentions; (iv) adverse development on loss reserves related to business written in prior years; (v) lower than estimated retrocessional recoveries on unpaid losses, including the effects of losses due to a decline in the creditworthiness of PXRE's retrocessionaires; (vi) increases in interest rates, which cause a reduction in the market value of PXRE's interest rate sensitive investments, including its fixed income investment portfolio; and (vii) decreases in interest rates causing a reduction of income earned on net cash flow from operations and the reinvestment of the proceeds from sales, calls or maturities of existing investments.