Midwest Holding owns no real estate. Prior to October 1, 1999, Midwest Holding leased approximately 15,765 square feet of office space in Edina, Minnesota under a 10-year lease that expires in 2001. Effective October 1, 1999, Midwest Holding moved to new offices in Edina, Minnesota, with total square feet of 26,069. Midwest Holding sublet the former office space effective December 1, 1999 for the duration of that lease. The new leased space has a term of 6 years, 2 months. 4,060 square feet of office space is leased in West Des Moines, Iowa under an exercised option that extended the term an additional five years after the original 10-year lease term expired in 2000. An additional 2,014 square feet of office space is leased in Omaha, Nebraska under a three-year lease that expires January 31, 2002. MedPower operates out of a separate 3,149 square foot facility also located in Edina, Minnesota. This lease is set to expire in 2001. Services operates out of a separate 4,000 square foot facility located in Shoreview, Minnesota. This lease was extended until 2001. Annual rent expense was $895,431 in 2000 and $637,585 in 1999.
The financial statements of Midwest Holding and its subsidiaries are presented on a consolidated basis. In future references in this analysis, which should be read together with the 2000 audited consolidated financial statements and notes thereto appearing under Item 8 of this Form 10-K, Midwest Holding and its subsidiaries are referred to collectively as the Company unless the reference pertains to a specific entity.
The majority of the Company's assets are invested in investment-grade bonds, common stocks, real estate investment trusts and short-term investments. These investments totaled $263,436,000 and $277,976,000 at December 31, 2000 and 1999, respectively, which represented 87.3% and 86.8% of total assets. The main objectives of the Company's investment policy established by the
Premium rates in general have trended lower with rate decreases in regions where claim frequency has dropped, offset partially by rate increases in regions where claim severity has risen. Increases in new premium written, however, have helped to keep cash receipts from policyholder premium relatively level. Substantial amounts of premium have been returned to policyholders through policyholder dividends or retrospective premium credits. In 1999, a policyholder dividend program replaced the retrospective premium credit program. While retrospective premium credits were paid to policyholders in the first quarter of the year following approval by the Board of Directors, the majority of policyholder dividends will be paid in four equal installments in February, May, August and November of the year following their declaration by the Board of Directors.
As discussed under the reinsurance section of Item 1 of this Form 10-K, a new three-year reinsurance agreement became effective January 1, 2001. Under this new agreement, Midwest Medical increased its retention from $750,000 to $1,000,000 per insured for the primary layer of coverage. Several factors entered into the decision to increase the retention. One significant factor was the reinsurance cost for the layer of coverage from $750,000 to $1,000,000 had increased dramatically in the marketplace. Another significant factor was management's belief that Midwest Medical could reasonably assume the added loss exposure due to its strong capital position and historical analysis that indicated the additional reinsurance cost for that layer
Loss and operating expense payments have generally been met from policyholder premium receipts with any excess cash allocated to the investment portfolio. Management regularly analyzes loss liabilities to project the cash flow required in future years. Since the overall investment portfolio is highly liquid, exact matching of bond maturities and loss liabilities is not a goal. Bond maturities are primarily selected to maximize total return.
The Company believes that its cash and investments combined with internally generated funds will be sufficient to meet its present and reasonably foreseeable operating and capital requirements. Therefore, the Company does not expect to borrow funds from external sources. The Company does maintain a $5,000,000 secured line of credit with its bank in the event of an urgent cash need. The Company had no material capital expenditure commitments as of December 31, 2000.
During 2000, Midwest Holding completed a tender offer resulting in the exchange and redemption of all outstanding Class A Common Stock. Under the terms of the tender offer, Class A shareholders received $66 for each Class A share owned, plus one Class C share. Prior to the tender offer, Class A Common Stock issued by Midwest Holding to Midwest Medical policyholders were required to be redeemed when a physician ceased to be insured by Midwest Medical for any reason. The redemption value per Class A share was calculated by dividing the net book value of Midwest Holding, excluding the net book value of Midwest Medical from the calculation, by the number of Midwest Holding Class A Common Shares outstanding. More details about the tender offer, Class A and Class C Common Stock and the actual Class A share redemptions during the years 2000, 1999 and 1998 are found in Note 2 to the audited consolidated financial statements. The increases and decreases in shareholders' equity are described in the consolidated statements of changes in shareholders' equity found in the accompanying audited consolidated financial statements.
1. The estimated reinsurance premium applicable to the treaty years 1992-1994 and 1995-1997, which is based in part on reinsured claims experience, increased $634,000 on a net basis in 2000. This compares to a net reduction for those treaty years of $5,920,000 in 1999, resulting in a net decrease in premium between years of $6,554,000.
The following schedule summarizes the development of the liability for loss and loss adjustment expense from 1990 through 2000. This schedule is presented net of reinsurance which the Company believes best explains the development as it affects operating results. Midwest Medical has a conservative loss reserving policy that when coupled with a decline in medical malpractice insurance claim frequency since the early 1990s has resulted in redundancies in the liability for loss and loss adjustment expenses greater than expected. The table indicates that the redundancy in loss liabilities, which develop as actual results become known, has significantly decreased since 1990. Loss and loss adjustment expense liabilities have not been discounted in the Company's financial statements.
Underwriting, acquisition and insurance expenses increased $499,000 from $6,698,000 in 1998 to $7,197,000 in 1999. Approximately $706,000 of the increase came from additional management fees for staff additions, maintenance and enhancement costs related to the new operating system and expenses related to moving the Company's main office. An additional $311,000 of payments to medical societies for license and endorsement agreements also contributed to the increase. Since a portion of these payments are tied to premium volume, the increase in premium caused an increase in payments to the medical societies. These increases were offset partially by additional ceding commissions earned by Midwest Medical, resulting from the increase in premiums ceded to the treaty reinsurance contract for the 1999 year compared to the 1998 year.
Other operating expenses increased $1,415,000 from $6,197,000 in 1999 to $7,612,000 in 2000. The stock restructure of Midwest Holding drove most of the increase, as an additional $1,057,000 of compensation expense was recognized in 2000 for the vesting of all previously unvested Class A shares. Legal and accounting fees related to the restructure contributed another $201,000. The remaining increase resulted primarily from greater salary and benefit expenses incurred by Midwest Holding, Services and Solutions. These increases were partially offset by lower operating costs incurred by MedPower in 2000 due to aggressive cost reduction efforts.
Income before income taxes increased to $5,569,000 in 2000 compared to $2,552,000 in 1999. Greater realized capital gains from sales of domestic equity securities to maintain appropriate portfolio diversification and to fund the stock restructure primarily drove the increase. Interest on federal tax refunds, favorable development on prior years' loss liabilities and lower policyholder dividends also contributed to the increase.
4. faster or more adverse loss development experience than that on which the Company based its underwriting, reserving and investment practices;
We have audited the accompanying consolidated balance sheets of Midwest Medical Insurance Holding Company and Subsidiaries as of December 31, 2000 and 1999, and the related consolidated statements of income, changes in shareholders' equity and cash flows for each of the three years in the period ended December 31, 2000. Our audits also included the financial statement schedules listed in the index at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and 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 Midwest Medical Insurance Holding Company and Subsidiaries at December 31, 2000 and 1999, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2000, in conformity with accounting principles generally accepted in the United States. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
Effective July 1, 1993, Midwest Medical merged with Iowa Physicians Mutual Insurance Trust, a physician-owned professional liability insurance company providing insurance coverage to Iowa physicians. As provided for in the agreement and plan of merger, Iowa Physicians was merged into Midwest Medical. The merger was accounted for as a pooling-of-interests.
MMIHC Insurance Services, Inc. was incorporated in 1995 and began active operations in January 1999 with the acquisition of a book of business from Johnson-McCann Benefits, Inc. Services is an insurance agency specializing in providing clients with group insurance products such as health, dental, life, disability and workers' compensation.
Midwest Holding provides management and administrative services to Midwest Medical, Solutions and MedPower for a fee generally equal to the cost of services provided. Services operates independently with its own management and administrative staff and therefore does not have a management agreement with Midwest Holding.
Midwest Medical provides professional liability insurance to physicians, clinics, hospitals and healthcare systems in Minnesota, Iowa, Nebraska, Wisconsin, Illinois, North Dakota and South Dakota. Insurance policies issued by Midwest Medical are on a "claims made" basis and provide coverage for the policyholder for claims first made against the policyholder and reported to Midwest Medical during the policy period for claims which occurred on or after the retroactive date stated in the policy.
Short-term investments are principally money market funds backed by U.S. government securities and are recorded at cost, which approximates fair value.
Premiums received are recorded as earned ratably over the lives of the policies to which they apply. A portion of premiums received is deferred to recognize Midwest Medical's obligation to provide reporting endorsement coverage without additional premium upon the death, disability or retirement of policyholders. This amount is recorded as an unearned premium reserve and represents the actuarially determined present value of future benefits to be provided less the present value of future revenues to be received.
Reinsurance receivables and recoverables and prepaid reinsurance premiums are reported as assets. Reserve liabilities are reported gross of reinsurance credits.
Other revenues include commission income from insurance carriers for Services, technology consulting fees from healthcare providers for Solutions and electronic claims processing fees from healthcare providers for MedPower. Generally, such revenues are earned as the related services are provided or performed.
Certain amounts in the prior years' financial statements have been reclassified to conform with the current year presentation.
The Board of Directors of Midwest Holding approved a tender offer for the exchange and redemption of substantially all Class A shares owned by Class A shareholders of record on April 30, 2000. Pursuant to the offer, Class A shareholders who tendered their shares received $66 for each Class A share owned, plus one Class C share. The tender offer was conducted during the summer of 2000 and was closed effective July 31, 2000. Remaining shares outstanding after closing of the tender offer were subsequently acquired pursuant to individual offers under identical terms. All outstanding Class A Common Shares of Midwest Holding were exchanged and redeemed as of December 31, 2000. During 2000, payments of $9,541,000 were made to Class A shareholders for stock redemptions related to these offers.
Midwest Holding has issued one share of Class B voting stock that carries with it the right to elect the Board of Directors of Midwest Holding. The Minnesota Medical Association and the Iowa Medical Society currently exercise the voting rights. A majority of the Class C shareholders may at any time, by a two-thirds vote, elect to redeem the Class B share at cost.
Proceeds from sales of available for sale investments and the related gross realized gains and losses are as follows (in thousands):
In the third quarter of 2000, Midwest Medical's Board of Directors declared an $8,000,000 dividend to be paid to physician and clinic policyholders in four equal installments in February, May, August and November 2001. The dividend will be awarded proportionately based on annual premiums for physician and clinic policyholders that were insured by Midwest Medical in 1996 and remain insured throughout 2001.
In the fourth quarter of 2000, Midwest Medical's Board of Directors declared an $108,000 dividend to be paid to hospital policyholders for policies that were written from 1995 through 1999 and that renew in 2001. The dividend will be awarded based on the number of years insured with Midwest Medical and will be paid within two months after the hospital policy renews in 2001.
Retrospective premium payments of $5,802,000 and $5,008,000 were made to Minnesota and North Dakota policyholders in 1999 and 1998, respectively.
A provision of the agreement and plan of merger between Iowa Physicians and Midwest Medical required that any favorable development of certain pre-merger liabilities of Iowa Physicians be paid to the former Iowa Physicians policyholders who remain active Midwest Medical insureds as of the date of payment through a retrospective premium credit. This agreement stipulated that any amounts due under this provision be finalized using financial information as of December 31, 1998. During 1999, final payments of $3,058,000 were made to former Iowa Physicians policyholders under the terms of the agreement. During 1998, retrospective premium payments of $3,073,000 were made to former Iowa Physicians policyholders.
Midwest Medical is authorized to issue policies with limits not to exceed $12,000,000 for each claim and $14,000,000 in the aggregate under each policy in any one policy year. Limits in excess of $12,000,000 for each claim and $14,000,000 annual aggregate are available to physicians and clinics through reinsurance placed on a facultative basis by Midwest Medical. Midwest Medical generally retains the first $750,000 of each claim and reinsures the remainder through a treaty under which premiums are subject to adjustment based on experience.
Loss and loss adjustment expenses incurred are net of applicable reinsurance of $5,315,000, $5,204,000 and $2,240,000 for the years ended December 31, 2000, 1999 and 1998, respectively.
Midwest Holding provides an unfunded Supplemental Executive Retirement Plan (SERP) which is a non-qualified, defined benefit retirement plan covering certain Midwest Holding officers. Benefits are based upon years of service and compensation. Although the plan is technically unfunded, Midwest Holding invests in specified assets which are designed to coordinate with the projected obligation under the SERP. The net periodic pension cost for this plan was $574,000, $441,000 and $404,000 for the years ended December 31, 2000, 1999 and 1998, respectively. The liability recognized in the consolidated balance sheets at December 31, 2000 and 1999 related to this plan was $3,101,000 and $2,704,000, respectively.
The net redemption value per share of the Class A Common Shares was as follows:
Due to the stock restructure discussed in Note 2, all outstanding Class A Common Shares of Midwest Holding were exchanged and redeemed as of December 31, 2000. Under the terms of the stock restructure, Class A shareholders received $66.00 for each Class A share owned, plus one Class C share.