(4) In January and June 2000, the Company sold Lyndon and Regency, respectively.
The following table sets forth the Company's net premiums earned by reportable segment for the three years indicated and the dollar amount and percentage of change therein from year to year. The Company restated its segment disclosures for 1999 and 1998 to conform to the 2000 composition of reportable segments. The change in segments involved the reclassification of the Company's health and human services business from the Health Care Division (renamed the Professional Liability Division) to the Specialty Programs Division, and the reclassification of the Company's errors and omissions and director and officer liability business from the Specialty Division to the Professional Liability Division.
The $15 million or 20.7% decrease in net premiums earned in the Environmental, Excess and Surplus Lines Division is partially due to the inability to write business due to the rating agency downgrades. The decrease also reflects the effects of the sale of renewal rights during the third quarter of 2000 (see Note E - Sale of Renewal Rights of the Notes to the Consolidated Financial Statements). Following the sale of renewal rights United Capitol ceased writing new or renewal business.
The $78 million or 82.3% decrease in net premiums earned for the Personal and Credit-Related Division was primarily due to the sales of Lyndon and Regency effective January 1, 2000 and June 1, 2000, respectively (see Note D of the Notes to the Consolidated Financial Statements - Sales of Subsidiaries). Lyndon and Regency accounted for approximately $78 million and $15 million, respectively, of net premiums earned through the year 1999. Regency accounted for approximately $8 million of net premiums earned during the year 2000.
The $9 million or 4.9% increase in net premiums earned in the Specialty Programs Division reflects the effects of business written prior to the rating downgrade in July 2000. Most notably, the Company began writing a significant amount of premium under a variety of commercial auto programs during the last half of 1999 and continued through most of the year 2000 contributing additional earned premiums of $21 million for the year 2000. Premiums written during that time continue to be earned throughout the year but should begin to decline significantly during the first quarter of 2001. Growth in a California workers' compensation program generated an approximate increase of $4 million in net premiums earned for the year 2000. These increases were offset by a decrease in premiums earned of approximately $13 million which was primarily attributable to lower retention of premiums under a new reinsurance contract and competitive pricing conditions in the health and human services sector of the market.
Net investment income declined 41.0% to $46 million during 2000 from $78 million in the comparable 1999 period. Excluding Lyndon, net investment income declined 26.2% to $45 million from $61 million in the comparable 1999 period. The decrease excluding Lyndon is primarily due to the liquidation of assets in connection with the purchase of the retroactive reinsurance treaty from National Indemnity (see Note N of the Notes to the Consolidated Financial Statements - Retroactive Reinsurance). Additionally, due to the timing of the payments made to National Indemnity the Company recorded interest charges due National Indemnity of approximately $8 million. Such interest charge is reflected as a reduction to net investment income. This decrease was partially offset by an increased allocation from municipal securities to higher yielding taxable securities during 2000.
The adverse loss development charge recorded during 2000 resulted from deterioration in the Professional Liability, Specialty Programs, Surety, Environmental Excess and Surplus Lines and Alternative Risk Divisions which recorded reserve charges during 2000 of approximately $17 million, $59 million, $32 million, $26 million and $23 million, respectively.
During 2000, the Surety Division recorded charges related to a plugging and abandonment bond loss and a self-insured workers' compensation bond losses of approximately $6 million and $7 million, respectively. The remaining $19 million adverse development of losses and LAE relates to increased frequency in small to medium sized claims.
The adverse development in losses and LAE of $23 million recorded in the Alternative Risk Division results primarily from the rescission of the reinsurance agreement with Terramar Insurance Company related to inland marine and ocean marine business. The amount of such losses was approximately $19 million.
These increases in expenses were offset by the effects of the Company's cost containment and expense savings initiatives undertaken during the first quarter of 2000. As of December 31, 2000, the Company had approximately 637 employees compared to approximately 1,200 as of December 31, 1999. These reductions resulted from sales of Lyndon and Regency, staff reductions (see Restructuring Related Charges below) and attrition. While the Company has seen some impact of its cost containment and expense saving initiatives, underwriting and other expenses are not declining in direct proportion to the decrease in net earned premiums. The Company expects to continue with its cost containment and expense saving efforts during 2001. On March 22, 2001, the Company announced a 67-person staff reduction at its Rock Hill, New York office.
The 1999 results of operations were negatively impacted by a number of asset write-downs including goodwill impairment charges of $13.6 million and $1.5 million related to Western (included in the Professional Liability Division) and Regency (included in the Personal and Credit Related Division), respectively. Also impacting the 1999 results was an increase in the allowance for doubtful accounts related to premiums and agents' balances of approximately $3.8 million.
On March 22, 2001, the Company announced a 67-person staff reduction at its Rock Hill, New York office. Total severance costs relating to this staff reduction were approximately $2.4 million.
During the second quarter of 1999, the Company created an e-commerce entity, OneStop.Com. For the years ended December 31, 2000 and 1999, OneStop incurred losses included in other corporate expenses of $7.0 million and $3.3 million, respectively. On July 11, 2000, the Company disposed of OneStop (see Note D of Notes to the Consolidated Financial Statements - Sales of Subsidiaries).
Also during the 2000 year, the Company recorded non-cash charges related to guarantees provided for personal obligations of certain officers as discussed in Note Q of the Consolidated Financial Statements - Related Party Transactions of approximately $4.6 million.
The 2000 results were also negatively impacted by charges of approximately $4.2 million relating to the establishment of an allowance for and write-off of several holding company notes and amounts receivable for which the ultimate realization is uncertain. The balance of the increase in other corporate expenses relates primarily to losses incurred by the directly owned non-insurance subsidiaries, none of which were individually significant.
For the year 1999, the Company reported a net loss of $174 million as compared to a net loss of $91 million in 1998.
All segments combined reported a loss, exclusive of net expenses not allocated to segments of $231 million for 1999 as compared to a combined segment loss of $201 million in 1998. Of the 1999 total segment loss $108 million is attributed to the Professional Liability Segment in 1999 as compared to a loss of $228 million in 1998 for that segment. The Specialty Program segment that showed a 1998 loss of $4 million deteriorated to a 1999 loss of $98 million. The remaining four segments account for a combined loss of $14 million in 1999 as compared to a profit of $32 million in 1998.
Net premiums earned for the Professional Liability Division decreased 20.9% from $131 million in 1998 to $104 million in 1999. Beginning in 1998, the Company began taking various actions to improve the results of its medical malpractice business. Such actions included exiting certain classes, terminating agents, increasing rates, and implementing more stringent underwriting guidelines for both new and renewal business. These actions contributed to an approximate $27 million decrease in earned premiums in 1999 when compared to 1998.
Net premiums earned for the Surety Division continued to grow in all programs due to geographic expansion and the acquisition of several bond agencies with a 30.7% increase from approximately $74 million in 1998 to $96 million in 1999. Growth in net premiums earned occurred primarily in the contract and license and permit bond programs, which programs showed increases of approximately $9 million and $5 million, respectively.
The Alternative Risk Division discontinued an earthquake program in 1998 which resulted in an approximate $4 million decrease in earned premium in 1999 when compared to 1998. An additional decrease in net premiums earned of approximately $10 million was primarily attributable to more competitive market conditions in the excess workers' compensation sector. These decreases were slightly offset by growth in an excess medical benefits program that contributed $3 million of additional earned premiums for the year 1999. In addition, the company's ability to write package policies in the Alternative Risk Division resulted in an additional $1 million of earned premium.
The increase in net premiums earned for the Specialty Programs Division was primarily attributable to the Company's focus on certain specialty sectors of the commercial auto market since 1998. Most notably the company began a short-term auto rental program in early 1999 that generated approximately $20 million in net premiums earned. A variety of smaller commercial auto related programs introduced in late 1998 generated an additional increase of $11 million of net premiums earned in 1999. In addition, a California workers' compensation program was introduced in 1999, which generated approximately $10 million of net premiums earned for the year. An additional $16 million increase in net premiums earned was attributable to growth in a number of smaller programs including a summer camp program, an ice cream vendor program, a municipality program, and a New York mercantile program, none of which were individually significant. These increases were offset by a decrease in premiums earned of approximately $14 million which was primarily attributable to lower retention of premiums under a new reinsurance contract and competitive pricing conditions in the health and human services sector of the market.
Net investment income before realized capital gains and losses increased 5.6% in 1999. The primary reason for the increase was a capital infusion of $60 million on December 31, 1998. This was partially offset by increased interest costs related to Zurich N.A., reinsurance agreements.
Loss and LAE as a percentage of net earned premiums increased from 89.8% in 1998 to 94.5% in 1999. The primary reason for such increase related to the $89 million of deterioration in prior year reserves as well as certain performance and payment bonds written in 1999 for three entertainment events that did not occur which resulted in losses of approximately $39 million accruing during the fourth quarter. The Company experienced significant losses in the Commercial Auto liability line associated with a short-term auto rental program. Such losses contributed $10.5 million to the increase. Additionally, during 1999 the Company incurred approximately $4 million of storm losses related for Hurricane Floyd. (See Note L of the Notes to the Consolidated Financial Statements).
Underwriting and other expenses increased as a percentage of net premiums earned from 16.7% in 1998 to 21.0% in 1999 due to a variety of factors, including increased personnel count, an impairment charge related to intangible assets, a reallocation of certain corporate overhead expenses, and an increase in the provision for doubtful accounts.
The 1999 corporate expenses were partially offset by approximately $1.7 million due to the net impact of two recently adopted accounting standards (see Note B of the Notes to the Consolidated Financial Statements - Significant Accounting Policies - Impact of Recently Issued Accounting Standards). Additionally, 1998 expenses were negatively impacted by a $10 million charge to cancel the Zurich N.A. aggregate excess stop loss agreement for the 1999 treaty year.
The increase in interest expense in 1999 over 1998 was due to increased amounts borrowed under the Deutsche Bank credit facility. During 1999, the Company borrowed an additional $50.8 million, under the credit facility, which combined with the $92 million balance at December 31, 1998, resulted in significantly higher interest expense during 1999.
The Company invests primarily in fixed income securities with the objective of maximizing after-tax investment income and total investment returns within approved investment guidelines. The core investment portfolio contains fixed maturity securities that are rated investment grade. At December 31, 2000, the Company held investment grade rated securities with a carrying value of $413 million, representing 96.4% of total fixed maturity investments. ___ Fixed maturity investments with credit ratings below investment grade, which are maintained as part of the alternative investment portfolio, totaled $15.4 million at December 31, 2000 and represented the 3.6% balance of the total fixed maturity investments.
The Company limits the extent of its credit risk by purchasing securities backed by stable collateral with enhanced priority in the securitization structure. The credit risk is minimized as the majority of the Company's mortgage-backed portfolio is guaranteed by U.S. ___ government-sponsored ___ entities or is supported in the securitization structure by junior securities resulting in bonds with high investment grade ratings. The portfolio is actively managed to minimize the Company's exposure to prepayment and extension risk. As of December 31, 2000 the Company's asset and mortgage-backed holdings were rated Aa1 and Aaa, respectively, by Moody's.
The alternative investment portfolio includes investments in limited partnerships with carrying values of $37 million and $43million at December 31, 2000 and 1999, respectively. The partnerships have varying investment strategies and these investments were made by the Company with the objective of long-term capital appreciation. The investments generally contain lock-up provisions, which required the Company to hold the investments for a specified time horizon, thus limiting their liquidity.
Effective January 20, 2000, the Company completed the sale of Lyndon to Protective Life Insurance Company for $163.5 million in cash. The Company used the proceeds from the sale of Lyndon to repay $75 million in bank debt and contributed $80 million to Frontier in order to strengthen Frontier's capital and surplus. Effective June 1, 2000, the Company sold Regency Insurance Company to Tomoka Re Holdings, Inc. for approximately $6.7 million in cash. Proceeds from the use of Regency were used for cash flow needs at the parent company level. For additional information regarding the sale of subsidiaries, see Note D of the Notes to the Consolidated Financial Statements.
Given the limited liquidity at the holding company, the Company has elected to defer interest payments on its Convertible Trust Originated Preferred Securities ("TOPrS") beginning with the payment scheduled for April 2000 (see Note P of the Notes to the Consolidated Financial Statements). (See Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources.)
In connection with the purchase of the retroactive reinsurance from National Indemnity, the insurance subsidiaries liquidated significant portions of their fixed maturity and equity securities portfolio. As a result, as of December 31, 2000 and 1999, the Company's investments in limited partnerships, equity investees and real estate and mortgage loans collectively represented 10.6% and 4.8% of total invested assets, respectively. Accordingly, the Company has increased its overall liquidity risks.
Management intends to address these liquidity and capital resource issues by pursuing and orderly cessation of premium writings, selling certain assets, using its managing general agency to continue to write specialty lines and medical and dental malpractice coverages for other carriers and thus generate commission revenue, selling certain assets, seeking investors and negotiating alternatives for the restructuring and repayment of debt. While management believes these plans to be viable, their ultimate success cannot be assured.
In its ongoing effort to improve solvency regulation, the NAIC and individual states have enacted certain laws and financial statement changes. The NAIC has adopted Risk-Based Capital ("RBC") requirements for insurance companies to evaluate the adequacy of statutory capital and surplus in relation to investment and insurance risks, such as asset quality, mortality and morbidity, asset and liability matching, benefit and loss reserve adequacy, and other business factors. State insurance regulators use the RBC formula as an early warning tool to identify, for the purpose of initiating regulatory action, insurance companies that potentially are inadequately capitalized. In addition, the formula defines minimum capital standards that supplement the current system of low fixed minimum capital and surplus requirements on a state-by-state basis. Regulatory compliance is determined by a ratio of the enterprise's regulatory Total Adjusted Capital, to its Authorized Control Level, RBC, as defined by the NAIC. Companies below specific trigger points or ratios are classified within certain levels, each of which may require specific corrective action depending upon the insurer's state of domicile. The levels and ratios are as follows:
In addition, state insurance statutes typically place restrictions on the maximum amount of dividends or other distributions that may be made by insurance companies to their shareholders without obtaining prior regulatory approval. All of the Company's insurance subsidiaries are unable to pay dividends or other distributions without prior regulatory approval.
Effective December 31, 1998, the Company and Zurich N.A. agreed to terminate this agreement for the 1999 accident year. (See Note I of the Notes to the Consolidated Financial Statements.)
On September 27, 2000, the Company entered into a retroactive reinsurance agreement with National Indemnity Company, a subsidiary of Berkshire Hathaway, relating to net liabilities for loss and LAE unpaid at June 30, 2000 for accident years 1999 and prior for Frontier. This agreement was subsequently endorsed to provide similar retroactive reinsurance relating to net liabilities for loss and LAE unpaid at October 1, 2000 for accident years 1999 and prior for Frontier Pacific. The endorsement also expanded the coverage to include unpaid net losses and LAE on all surety bonds in force at December 31, 2000, excluding bail and appearance bond business, for both Frontier and Frontier Pacific. Certain of the surety bonds are noncancellable and continuous in nature and will result in additional premiums being received in the future. Such premiums will be ceded to National Indemnity as received and will be accounted for as prospective reinsurance.
decisions in the New York Court of Claims (the "Court of Claims") which were ultimately affirmed by the State's highest court, the Court of Appeals, the Company recorded subrogation recoverables for claims previously paid and reserves established with respect to such malpractice claims of approximately $19 million December 31, 1995 and $13 million on June 30, 1996.
Following the Company's November 5, 1994 announcement of its third-quarter financial results, the Company was served with seven purported class actions alleging violations of federal securities laws by the Company and, in some cases, by certain of its officers and directors. In September 1995, a pre-trial order was signed which consolidated all actions in the Eastern District of New York, appointed three law firms as co-lead counsel for the plaintiffs and set forth a timetable for
See List of Financial Statements and Financial Statements Schedules on Page.