(1) In February 1999, we acquired Continental General Corporation for $84.5 million, funded in part by $40 million of long term debt and $15.0 million in private placement of 2,000,000 shares of our common stock at $7.50 per share. Operations of Continental General from the effective date of acquisition are included in our results.
(3) The exercise of options and warrants is not assumed when a loss from operations is reported and the result would be antidilutive.
(4) In July 1998, we issued and sold 7,300,000 shares of common stock at $5.50 per share for an aggregate purchase price of approximately $40.2 million.
We provide a broad spectrum of health and life insurance, medical cost management and specialty products and services to more than 525,000 insureds. We actively distribute our products on a national basis through approximately 60,000 independent licensed agents and through various e-commerce platforms to individuals, small businesses and the senior market. For our subsidiaries and the blocks of business we acquire, we focus on reducing medical costs and underwriting risks and increasing fee-based revenue. As a result, our medical loss ratio for the year ended December 31, 1999 declined to 70.1% from 75.8% for 1998.
In December 1997, Central Reserve entered into a reinsurance treaty with Hannover in which Central Reserve transferred to Hannover $24.5 million of reserve liability. In return for Hannover's reinsurance of this liability, Central Reserve transferred $14.5 million in assets to Hannover. The reinsurance treaty, which is on a 50/50 quota-share basis, provided Central Reserve with a $10.0 million initial ceding allowance, which increased Central Reserve's statutory surplus. The treaty provides for repayment of the initial ceding allowance plus interest out of statutory profits, if any, of the reinsured business. The combination of a $14.0 million surplus note which was invested in Central Reserve in connection with a $20.0 million bridge loan arranged by Strategic Acquisition Partners, LLC and the $10.0 million ceding allowance provided an additional $24.0 million to the statutory capital and surplus of Central Reserve, increasing statutory levels in excess of regulatory risk-based capital requirements and alleviating the regulatory concerns that were created in 1996 and continued in 1997.
- completed a private placement of our common stock in July 1998 in which we issued and sold 7,300,000 shares of common stock at $5.50 per share and warrants to purchase an additional 3,650,000 shares of common stock at an exercise price of $5.50 per share for an aggregate purchase price of approximately $40.2 million;
- acquired Continental General Corporation and Continental General Insurance Company from The Western and Southern Life Insurance Company of Cincinnati, Ohio, on February 17, 1999 for $84.5 million in cash;
- completed a private placement of common stock in February 1999 to provide funds for the Continental General acquisition, in which 2,000,000 shares of common stock were issued and sold at $7.50 per share;
Year-to-year financial results must be viewed in light of the change in control, reinsurance, acquisitions and changes to our equity and debt. The acquisitions of Provident American Life and Health and Continental General had no impact on our results of operations in 1998. Results for United Benefit Life are included from August 1998 to July 20, 1999 under a reinsurance agreement and thereafter as an acquired entity. The financial information for the year ended December 31, 1999 includes the operations of Continental General since February 1, 1999 and for Provident American Life and Health for the entire period.
Net investment income increased to $21.4 million for 1999 from $7.5 million for 1998, an increase of 186.6%. Continental General accounted for $14.4 million of the increase. Central Reserve's net investment income decreased approximately $1.8 million during the year from 1998. The decrease was directly related to the decrease in invested assets from $84.7 million at December 31, 1998, to $67.2 million at December 31, 1999. The decrease in invested assets was primarily a result of acquiring Provident American Life and Health, and payment of claims under the United Benefit Life reinsurance agreement.
Fee and other income increased to $17.4 million for 1999 compared to $7.7 million for 1998, an increase of 126.3%. This increase was primarily attributed to $4.0 million in administrative fees for business reinsured
Selling, general and administrative expenses increased to $137.9 million in 1999 compared to $54.4 million in 1998, an increase of 153.7%. Of this amount, agent commissions in 1999 were $85.1 million compared to $36.9 million in 1998. Included in the 1999 commissions is $44.3 million for Provident American Life and Health and Continental General. The remaining increase represents the increase in commissions for Central Reserve due to higher commission rates that were paid on the increase in new business sold in 1999. Other expenses, consisting of employee salaries and benefits, taxes, licenses and fees, and administrative expenses, increased to $99.8 million for 1999 compared to $44.6 in 1998. Continental General accounted for $32.8 million of the $55.2 million increase. We also incurred costs of $9.7 million for the operations of Provident American Life and Health in 1999. Central Reserve accounted for approximately $8.3 million of the increase consisting of $6.0 million for increased costs of administration, information systems services, and medical cost management and $2.3 million for personnel and premium tax costs related to the increase in sales. The balance of $4.4 million represents the increased expenses in 1999 over 1998 for Ceres, including $2.7 million for employee contracts, severance and other expenses, $1.3 million for bonuses and professional fees, and a one time charge of $0.4 million for professional services in connection with the postponement of a secondary public offering of our common stock.
The net amortization and change in deferral of acquisition costs and value of business acquired resulted in a net deferral of $21.9 million for 1999 compared to a net amortization of $0.6 million for 1998. Continental General and Provident American Life and Health account for $13.5 million of the deferral. The deferral of first year excess expenses associated with the significant increase in sales of new products written by Central Reserve and United Benefit Life accounted for the remaining balance.
A provision for federal income taxes of $6.3 million, or 35% of income before federal taxes of $18.0 million, was established for the year ended December 31, 1999.
Net income for the year ended December 31, 1999 was $11.7 million, or $0.88 basic earnings per share and $0.77 diluted earnings per share, compared to a net loss of $3.8 million, or $0.49 loss per share on both a basic and diluted basis, for 1998.
Premiums assumed represents Central Reserve's 100% portion of a block of group health business under a reinsurance agreement entered into in August 1998 with United Benefit Life for major medical policies in effect prior to August 1, 1998. The reinsurance ceded to Hannover for United Benefit Life represents 80% of the above-mentioned block (Central Reserve's final retention is 20%) plus 50% of Central Reserve's group health business in force at December 31, 1997. The agreement also provides that Central Reserve will reinsure 100% of all major medical policies written by United Benefit Life from and after August 1, 1998. Central Reserve ceded 50% of the policies that it assumed and were written by United Benefit Life from and after August 1, 1998 to Hannover.
Selling, general and administrative expenses were lower in 1998 compared to 1997 because of the reinsurance allowances, as indicated in Note J to the consolidated financial statements. Before reinsurance expenses and allowances, commissions were $36.9 million, up 3.7% from $35.5 million in 1997, primarily due to an increase in new business and commission rates. Salaries and benefits in 1998 were $15.7 million, a decrease of 13.2%, from $18.1 million in 1997 due to the reduction in staff during the first half of the year and the discontinuance of Central Reserve's contribution to the pension plan. Other operating expenses increased to $22.5 million, up 52.1% from $14.8 million in 1997. The major reason for the increase was the cost of outsourcing our computer operations for approximately $5.0 million, including Year 2000 compliance costs, a
Assets of $310.0 million, or 43.2% of the total assets, are in investments at December 31, 1999. Fixed maturities are our primary investment and were $301.0 million, or 97.1% of total investments, at December 31, 1999. Other investments consist of surplus notes, policy loans and mortgage loans. We are carrying all of our fixed maturities at estimated fair value (available for sale) at December 31, 1999.
To provide funds for the acquisition of Continental General, we incurred debt of $40.0 million under a credit agreement. Under the terms of the credit agreement, dated as of February 17, 1999, among Ceres, various lending institutions and The Chase Manhattan Bank, as Administrative Agent, the first principal payment of $3.0 million was paid February 17, 2000. Quarterly payments are due thereafter starting with $1.0 million through February 17, 2001; $1.5 million thereafter through February 17, 2002; and $2.25 million thereafter to February 17, 2005. Interest on the outstanding balance will be determined based on whether we select a "Base Rate Loan" or a "Eurodollar Loan." Under the Base Rate Loan, the interest rate will be 2.5% per annum plus the higher of (a) the rate which is 1/2 of 1% in excess of a federal funds rate and (b) Chase's prime rate as in effect from time to time. Under the Eurodollar Loan, the interest rate will be 3.5% per annum plus a Eurodollar rate, which is the arithmetic average of the offered quotation to first-class banks in the interbank Eurodollar market by Chase, adjusted for certain reserve requirements. At December 31, 1999, the interest rate was 9.41%. The credit agreement also provides for a $10.0 million line of credit, which bears interest at the same rate as the $40.0 million loan. A commitment fee of 3/4 of 1% per annum on the average daily unutilized line of credit is charged to Ceres under the credit agreement.
We have three segments: medical which includes comprehensive major medical plans, specialty and other which includes Medicare supplement, long-term care, dental, life insurance and annuities, and corporate and
Interest Rate Risk is the risk that interest rates will change and cause a decrease in the value of an insurer's investments. This change in rates may cause certain interest-sensitive products to become uncompetitive or may cause disintermediation if we attempt to mitigate this risk by charging fees for non-conformance with certain policy provisions and/or by attempting to match the maturity schedule of its assets with the expected payouts of its liabilities. To the extent that liabilities come due more quickly than assets mature, an insurer would have to sell assets prior to maturity and recognize a gain or loss.
- any further shortfall in the assets or reserves of United Benefit Life, or the commissions due to Insurance Advisors, which were foreclosed upon on July 21, 1999;
- the performance of others on whom we rely for reinsurance, particularly Hannover upon whom we rely for most of our reinsurance;
- the failure to comply with financial and other covenants in our loan agreements; and
In June 1998, Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities as amended by Statement
We have audited the accompanying consolidated balance sheets of Ceres Group, Inc. and subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of operations, shareholders' equity, and cash flows for the years then ended. We have also audited the information presented in the supplemental schedules for the years ended December 31, 1999 and 1998. These consolidated financial statements and supplemental schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and supplemental schedules based on our audits.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Ceres Group, Inc. and subsidiaries at December 31, 1999 and 1998, and the results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States. Also in our opinion, the related supplemental schedules for the years ended December 31, 1999 and 1998, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.
The Board of Directors and Shareholders Ceres Group, Inc (formerly Central Reserve Life Corporation):
We have audited the accompanying consolidated statements of operations, retained earnings, and cash flows of Central Reserve Life Corporation and subsidiaries for the year ended December 31, 1997. In connection with our audit of the consolidated financial statements, we also have audited the financial statement schedules as of and for the year ended December 31, 1997 as listed in the accompanying index. These consolidated financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedules based on our audit.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of Central Reserve Life Corporation and subsidiaries for the year ended December 31, 1997, in conformity with generally accepted accounting principles. Also in our opinion, the related financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein.
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 (DOLLARS IN THOUSANDS)
Cash and cash equivalents include cash and all liquid securities with maturities of 90 days or less when purchased.
Investments in surplus notes, mortgage loans, and policy loans are reported at cost which approximates fair value.
Premiums and discounts arising from the purchase of mortgage-backed securities are amortized using the interest method over the estimated remaining term of the securities, adjusted for anticipated prepayments. Premiums and discounts on other debt instruments are amortized using the interest method over the remaining term of the security.
The costs of acquiring traditional life, interest-sensitive products and accident and health contracts, certain expenses of the policy issues and underwriting department, and certain agency expenses, all of which vary with and are primarily related to the production of new business have been deferred. Deferred acquisition costs of traditional life and accident and health contracts are amortized over the premium paying period of the related policies using the same assumptions. For interest-sensitive life and annuity products, deferred acquisition costs are amortized over the estimated duration of the policies in relation to the present value of estimated gross profits from surrender charges and investments, mortality, and expense margins.
For accident and health and ordinary life business, the value of business acquired is amortized over the estimated life of the in force business using assumptions consistent with those in computing reserves. Interest of 6% is credited to the unamortized balance. For interest sensitive products such as universal life and deferred annuities, the value of business acquired is amortized over the expected profit stream of the in force business. The expected profit stream is based upon actuarial assumptions as to mortality, lapses and expenses. Earned interest was assumed to be 6% which was the market rate at the time of acquisition.
Management periodically reviews the carrying value of property and equipment for impairment. Any impaired property and equipment is valued using an undiscounted cash flow methodology.
Liabilities for future policy reserves for accident and health and ordinary life business are based on the net level premium basis and estimates of future claims, investment yield, lapses using the Company's experience and actuarial judgment with an allowance for possible future adverse deviations from expected experience. Interest rates used range from 4.5% to 6.0%. Liabilities for interest sensitive products such as deferred annuities and universal life are based on the retrospective deposit method. This is the policyholder fund balance before adjusting for any surrender charges. Guaranteed minimum rates for universal life contracts are 4.0% to 4.5%. At December 31, 1999, credited rates ranged from 5.5% to 7.0%. Guaranteed base minimum rates for deferred annuities range from 3.0% to 5.75% depending on the duration of the contract. Current rates credited range from 5.0% to 8.6%.
Liabilities for unpaid life and accident and health claims, which include a provision for estimated costs to investigate and settle claims, are estimated based upon past experience for pending, incurred but not reported, and reopened claims. Accident and health claims incurred but not reported are computed using actuarially-determined factors based on a combination of claim completion and projected claim cost methods, utilizing
durational experience, seasonal cycle, changes in health care practice, changes in inflation rates, and the claims backlog.
Deferred reinsurance gain consists of initial ceding allowances received from reinsurers, less amounts amortized into income over the estimated remaining life of the underlying policies reinsured.
Comprehensive income in 1999, 1998 and 1997 includes a change in unrealized gains or losses on available-for-sale securities, in addition to reported net income.
Basic earnings per share are computed by dividing the income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflect the potential dilution that could occur if common stock equivalents were exercised and shared in the earnings of the Company. Only those potential common shares, which are dilutive, are included in the computation of diluted earnings per share.
In connection with the Original Stock Purchase Agreement, Strategic arranged an interim loan (the "Bridge Loan") of $20.0 million to the Company. The bridge loan was due June 30, 1998, and bore interest at the prime rate of a major commercial bank. As consideration for the arrangement, the Company issued Strategic and Richard M. Osborn warrants to purchase 800,000 common shares at $6.00 per share on December 1997, which expire December 17, 2002, and additional warrants to purchase 200,000 common shares at $6.00 per share on July 3, 1998, which expire on December 17, 2002. Proceeds from the Bridge Loan were used as follows: (a) $5.2 million was used to repay outstanding bank debt, (b) $14.0 million was used by the Company to invest in the statutory surplus of Central, and was evidenced by a surplus note in favor of the Company from Central, and (c) $0.8 million was used to establish an interest reserve at the Company and to pay transaction expenses. The Bridge Loan was repaid in full by the Company in July 1998 from the proceeds received in accordance with the New Stock Purchase Agreement.
In 1997, the Company incurred a net loss of approximately $21.0 million, which resulted in a significantly reduced net capital position. In addition, at December 31, 1997, it was not clear if shareholder approval would be granted for the Original Stock Purchase Agreement or New Stock Purchase Agreement described in Note B. If shareholder approval had not been granted, the Company would have been required to immediately obtain an alternate source of funding in order to repay the Bridge Loan and fund its operations. There was no assurance that such funding could have been obtained at all or on terms favorable to the Company. The failure to obtain such funding could have resulted in Strategic exercising its rights as a secured creditor, and foreclosing upon all the common shares of Central, which were pledged as collateral under the terms of the Bridge Loan. Such action would have made it impossible for the Company to continue operations and/or forced the Company to seek protection under federal bankruptcy law. These matters raised significant doubt at December 31, 1997 about the Company's ability to continue as a going concern.
As discussed in Note B, the New Stock Purchase Agreement was approved by shareholders, resulting in the Company's receipt of net proceeds of $37.7 million, enabling the Company to satisfy the Bridge Loan obligation and fund operations. In addition, as reported in the accompanying consolidated financial statements, the Company reported profitable operations in the third and fourth quarters of 1998 and in all four quarters of 1999. Accordingly, the matters, which raised substantial doubt about the Company's ability to continue as a going concern at December 31, 1997, have been alleviated.
Effective February 1, 1999, the Company acquired 100% of the outstanding common stock of Continental General from The Western & Southern Life Insurance Company. Continental General is a holding company that primarily conducts business through its wholly-owned subsidiary, Continental, a life and accident and health insurer domiciled in Nebraska, which is licensed in 49 states, the District of Columbia, and the U.S. Virgin Islands. Continental offers Medicare supplement and individual major medical products, distributed through independent agents. Continental also offers long-term care, ordinary life, universal life, and annuity policies. Total consideration paid by the Company for the common stock was $84.5 million, and was financed through reinsurance, debt, cash and an equity offering as described further below. This transaction was accounted for in accordance with the purchase method, and accordingly, the purchase price was allocated to assets and liabilities acquired based upon estimates of their fair value.
The acquisition was partially funded by a reinsurance treaty with Reassurance Company of Hannover ("Hannover"), whereby Continental ceded 50% of its in force life, accident and health, and annuity policies to Hannover, and retained the remaining risk. The treaty provides an initial ceding allowance of $13.0 million, which was accounted for as a deferred reinsurance gain.
The proforma results of operations are not indicative of the actual results of operations that would have occurred had the acquisition been made on the dates indicated, or the results that may be obtained.
Immediately prior to the completion of this transaction, Provident ceded 100% of its insurance in force to Provident Indemnity Life Insurance Company ("Provident Indemnity"), a subsidiary of Provident American.
Effective January 1, 1999, Hannover assumed from Provident Indemnity 100% of its accident and health block of business. As of January 1, 1999, Central entered into a separate reinsurance agreement with Hannover, wherein Central assumed from Hannover 10% of the block acquired by Hannover from Provident Indemnity.
In June 1999, the Company sold approximately $4.0 million of securities from its held-to-maturity portfolio to meet a significant and unanticipated increase in claim payments. The securities sold represent 44% of the held-to-maturity portfolio and generated a realized gain of $2,000. Due to the sale and the recent acquisition of Continental, management changed the intent to hold the remaining held-to maturity portfolio, of approximately $5.0 million, and transferred, as of June 30, 1999, the balance to available-for-sale and recorded an unrealized loss of $9,000.
The amortized cost and estimated fair value of fixed maturities at December 31, 1999 by contractual maturity, are as follows:
At December 31, 1999, the Company's insurance subsidiaries had certificates of deposit and fixed maturity securities with a carrying value of $21.6 million on deposit with various state insurance departments to satisfy regulatory requirements.
Other property and equipment consists principally of furniture, fixtures, and data processing equipment. Depreciation expense for the years ended December 31, 1999, 1998 and 1997 was $1.5 million, $0.9 million, and $1.1 million, respectively. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Effective August 1, 1998, Central entered into a reinsurance treaty with United Benefit, a life and accident and health insurer in Texas. Under the terms of the treaty, Central agreed to assume 100% of United Benefit's block of business, until such time as profits earned by Central on the assumed block reach a contractual threshold, which approximates $20.0 million of pretax income. Upon achieving this threshold, the quota share percentage is reduced from 100% to 80%, until a second threshold, which approximates $16.0 million in pretax income, is achieved. Upon achieving the second threshold, the quota share percentage is further reduced from 80% to 50%. Central paid to United Benefit a $20.0 million ceding allowance in connection with this transaction. In addition, Central entered into an agency arrangement with respect to the marketing of United Benefit policies with Insurance Advisors of America, Inc. ("IAA"), a subsidiary of United Benefit Managed Care Corporation and an affiliate of United Benefit, in exchange for a $7.0 million note receivable. Central recorded a full valuation allowance against such note receivable at December 31, 1998.
Hannover, and net of an allowance for uncollectability. The note receivable was secured by the outstanding common stock and assets of United Benefit. The assets included real estate, bonds and reinsurance receivables from an unrelated party, and by commissions due to IAA.
As of December 31, 1999, Central had recovered approximately $17.8 million of the $19.4 million reserve shortfall through real and personal property of United Benefit totaling $4.6 million, commissions due IAA of $5.3 million, and $7.9 million from the Hannover reinsurance agreement. As a result, the remaining reserve shortfall was $1.6 million. An expense of $0.7 million was recorded in 1998, and the balance of $0.9 million was recorded in 1999.
Prior to our acquisition of Provident, all of the insurance business of Provident in force at December 31, 1998 was ceded to Provident Indemnity. In addition, Hannover reinsured all the individual and small group health insurance in force at December 31, 1998, of Provident and Provident Indemnity for a ceding allowance of approximately $10.0 million. On January 1, 1999, Hannover ceded 10% of this reinsurance to Central and Central paid a $1.0 million ceding commission.
In December 1997, Central entered into a retroactive reinsurance treaty (the "1997 Treaty") with Hannover. The quota share treaty was effective January 1, 1997, and covered certain group accident and health policies in force and written during 1997. Under the provisions of the 1997 Treaty, Central cedes 50% of the premiums of the eligible policies, and in return receives reimbursement for 50% of the claims paid, plus a commission and expense allowance. In connection with the 1997 Treaty, Central transferred $24.5 million of reserves to Hannover, and received an initial ceding allowance of $10.0 million, resulting in a net cash transfer of $14.5 million to Hannover. The initial ceding allowance is reported as a deferred reinsurance gain, in the accompanying consolidated financial statements, and is amortized into income over the duration of the underlying block of business.
In December 1999, Central entered into a reinsurance transaction with Hannover for certain health insurance policies issued during the period from July 1, 1998 through June 30, 1999. As part of the coinsurance funds withheld transaction, Hannover will pay Central on a quarterly basis, an experience refund, the amount of which shall be based upon the earnings derived from the business reinsured. Concurrent with this transaction, Hannover will reinsure to Continental on a stop loss basis 100% of any losses incurred under the business reinsured in excess of a pre-determined aggregate annualized loss ratio. In exchange for coverage under the stop loss reinsurance, Hannover will pay Continental a stop loss premium on the business reinsured.
The Company is involved in litigation and may become involved in potential litigation arising in the ordinary course of business. In the opinion of management, the effects, if any, of such litigation are not expected to be material to the Company's consolidated financial condition.
The Company executed a mortgage note payable in December 1990 for $9.0 million bearing interest at 9 1/2% per annum for 10 years. The Company received $8.5 million of the funds in December 1990 and the remaining $0.5 million in December 1991. The mortgage note is collateralized by the home office building and by an assignment of the tenant lease for the building. The Company has been required to make monthly payments, since January 1991, based on a 30-year amortization schedule, of $75,700 for 10 years. After five years, the Company has the right to prepay the loan with a 3% prepayment fee. Principal payments due in the next two years, assuming no prepayments, are $0.1 million in 2000 and $8.0 million on January 1, 2001.
On March 5, 1983, the Company adopted an Incentive Stock Option Plan (the "1983 Plan"). The 1983 Plan, which expired in May 1993, provided that key full-time employees of the Company and its subsidiaries were eligible for participation. The 65,845 options outstanding at December 31, 1997 expired in 1998 and no options are outstanding under the plan.
In 1999, 373 employees each received 1,000 common stock options under the 1998 Employee Stock Option Plan. Each grant vests after three years and expires after ten years from the date of the grant. The vesting accelerates in the event of a change in control of the Company.
In 1998, pursuant to various individual employment agreements with certain key officers, and pursuant to the 1998 Key Employee Share Incentive Plan, the Company granted common stock options to certain key employees. Such grants generally vest over three years, and expire ten years from the date of the grant. In the event of a change in control, all options granted immediately vest and become exercisable in full. Also, pursuant to an employment contract, the Company provided an award of common shares to Peter Nauert. The number of shares awarded is contingent upon the weighted average fair value of the common shares over specified periods, but is based on a fixed dollar amount per year. Management currently estimates that 305,225 shares will be issued pursuant to the employment contract, based upon the fair value of the Company's shares at December 31, 1999. In 1999, the Company granted additional common stock options to certain employees under the 1998 Key Employee Share Incentive Plan.
A summary of the Company's 1998 Employee Stock Option Plan activity is presented below:
Exercise prices for options outstanding at December 31, 1999 ranged from $5.50 to $10.50, of which 33% were at $8.25, 16% at $6.50 and 14% at $6.625, and the balance evenly distributed throughout the range. While some options have no expiration date, management estimates the remaining average contractual life of options awarded is 5 years.
The Company also has outstanding at December 31, 1999; 3,600,000 warrants at $5.50, expiring in 2005; 130,000 warrants at $6.00, expiring in 2003; and 770,000 warrants at $6.00, expiring in 2002.
The Company recognized $1.5 million and $0.9 million in 1999 and 1998, respectively, in stock-based compensation expense. As required by FASB Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation, the Company has estimated the pro forma impact on net income and earnings per share of stock-based compensation under the fair value method, using the Black-Scholes option valuation model.
The Company's insurance subsidiaries, Central, Provident, Continental and United Benefit, are required to file Annual Statements with state insurance regulatory authorities to whose jurisdiction those entities are subject. These Annual Statements are prepared on an accounting basis prescribed or permitted by the domiciliary state insurance department, which differs from GAAP. Prescribed accounting practices include a variety of publications of the National Association of Insurance Commissioners ("NAIC"), as well as state laws, regulations and general and administrative rules. Permitted statutory accounting practices encompass all accounting practices not prescribed.
The following table represents a full year of the statutory capital and surplus and the statutory net gain (loss) as reported in the Annual Statement filed with the regulatory authorities for all the Company's insurance subsidiaries.
of the Nebraska Insurance Commissioner. However, by agreement with the State of Nebraska Department of Insurance on February 17, 1999, the Company has agreed that Continental would not pay dividends to the Company prior to August 17, 2000, without the approval of the Nebraska Department of Insurance.
The following table sets forth the computation of basic and diluted net income (loss) per common share:
Effective January 1, 1998, the Company's noncontributory pension plan was converted into a defined contribution 401(k) savings plan (the "Plan"). Employees become eligible to participate in the Plan after six months of service. Based on the provisions of the Plan, participants may contribute up to 10% of their pretax annual compensation. The Plan provides for a 100% employer matching contribution only for that portion of participant contributions made to a fund, which holds principally the Company's common shares, up to $1,000 annually. The employer matching contribution vests over a five-year graded vesting schedule with 100% vesting after five years.
Continental Plan provides for employer matching equal to 50% of the employee's contribution of up to the first 2% of an employee's annual compensation. Continental employees are immediately 100% vested under the Continental Plan.
The Company does not separately allocate investment or other identifiable assets by industry segment, nor are income tax (benefits) expenses allocated by industry segment. The Company also expanded the detail of its disclosures for 1999, 1998, and 1997, which included certain reclassifications.
Fair values of financial instruments are based upon quoted market prices, where available, or on values obtained from independent pricing services. In cases where quoted market prices are not available, fair value is
ANNUITY CONTRACTS--The fair value for the annuity reserves included in the liability for future policy benefit, losses, and claims is the amount payable on demand.
MORTGAGE NOTE PAYABLE, NOTE PAYABLE AND REINSURANCE PAYABLE--The carrying amount reported in the consolidated balance sheets for the mortgage note payable and note payable approximates their fair value.
The Company maintains cash and short-term investments with various financial institutions, and the Company performs periodic evaluations of the relative credit standings of those financial institutions.
On October 7, 1999, the Company announced the signing of a definitive agreement to purchase The Pyramid Life Insurance Company from United Insurance Company of America, a subsidiary of Unitrin, Inc. of Chicago, Illinois. The parties also reached an agreement in principle for the Company's subsidiaries to sell specialty medical insurance products through the agent distribution systems of selected Unitrin insurance subsidiaries over a three-year term. Pyramid, based in Mission, Kansas, provides health and life insurance primarily for the senior market, including Medicare supplement, long term care, home health care, and senior life products. At December 31, 1999, Pyramid, on a statutory basis, had assets of $120.0 million, capital and surplus of approximately $43.0 million, and 1999 revenue of $72.0 million. Pyramid markets senior insurance products through approximately 2,500 independent agents in 40 states.
The acquisition, subject to regulatory approvals and other customary terms and conditions, is expected to be completed in the second quarter of 2000. At completion, Pyramid will be a wholly-owned subsidiary of Continental General. The $67.5 million purchase price is expected to be financed as follows: (a) up to
CERES GROUP, INC. AND SUBSIDIARIES CONDENSED FINANCIAL INFORMATION OF REGISTRANT CERES GROUP, INC. (PARENT ONLY) BALANCE SHEETS DECEMBER 31, 1999 AND 1998 (DOLLARS IN THOUSANDS) - -------------------------------------------------------------------------------- - --------------------------------------------------------------------------------
CERES GROUP, INC. AND SUBSIDIARIES SUPPLEMENTAL INSURANCE INFORMATION (DOLLARS IN THOUSANDS)