The Registrant has two subsidiaries which write property and casualty insurance, Motor Club and Preserver. Motor Club writes PPA business; Preserver writes small commercial, homeowners and ancillary coverages. The Insurance Companies are domiciled in the State of New Jersey.
Historically, the Insurance Companies' results of operations have been influenced by factors affecting the property and casualty insurance industry in general and the New Jersey personal automobile market in particular. The operating results of the U.S. property and casualty insurance industry have been subject to significant variations due to competition, weather, catastrophic events, regulation, general economic conditions, judicial trends, fluctuations in interest rates and other changes in the investment environment.
In 1997, increased Federal tax expense reduced operating net income by $1,105,000 as a result of utilization of the deferred tax asset recognized in 1996 as noted in the table. Operating net income was also reduced in 1996 by the effects of winter storms, which increased losses by $635,000. Excluding these items, the increase in operating net income of $517,000 or 13% was due to continuing revenue growth and a stable combined ratio. The combined ratio was 98.4% in 1997 as compared to 99.1% in 1996 (adjusted for the non-recurring items noted). Insurance premiums increased by $5,684,000 or 13% during the year, due primarily to increased earnings of personal auto premiums written by Motor Club. The following table details the increases in Insurance Premiums: Increase in Net Class of Business Premium Percent Private Passenger Automobile $4,040,000 12% Commercial Lines 1,175,000 21% Personal Property 469,000 11% Total $5,684,000 13%
Net investment income increased $507,000 or 16% resulting from an increase in invested assets. The increase in insurance premiums noted above provided the increase in invested assets. Other revenues increased $110,000 or 95%, primarily as a result of servicing fees earned by the Registrant in 1997 on the Motor Club membership program after the sale of Enterprises in December 1996.
As the Registrant continues to write additional new PPA business, PPA loss and loss expense ratios should generally continue to trend higher, although within levels that should remain profitable. Concurrently, as was the case in 1997, the Registrant should continue to experience continued reductions in its expense ratio, which should result in lower overall combined ratios for the Registrant.
The decrease in expenses has allowed for a decrease in the expense ratio (as adjusted for the non- recurring charges described above) to 33.3% as compared to 36.0%. This decrease is the realization of the Registrant's previously stated strategy to increase its revenue while decreasing its overhead expenditures.
The Registrant expects to reduce its expenses and expense ratio further by pursuing further automation of its policy processing functions, particularly as relates to data provided by and to its independent agents. During 1997, the Registrant converted its information systems to a smaller, more contemporary computing platform which will allow for more efficient operations and lower maintenance costs. The Registrant expects to continue the efforts made previously to reduce all unnecessary overhead expenditures.
The reduction in the minimum pension liability was the result of the performance of the Plan assets in excess of the expected return on these assets, offset by a decrease in the discount rate used to compute Plan liabilities to 7.25% at December 31, 1997, from 7.50% at December 31, 1996. See Note J of the Notes for additional information regarding the Registrant's minimum pension liability.
Excluding the effects of winter storms, which increased losses by $635,000, the $1,655,000 or 68% increase in 1996 operating net income was due to strong revenue growth and a lower combined ratio. The combined ratio as adjusted in 1996 was 98.4% as compared 102.6% in 1995.
Insurance premiums increased by $9,893,000 or 28% during the year, due primarily to increased earnings of personal auto premiums written by Motor Club. The following table details the increases in Insurance Premiums: Increase in Net Class of Business Premium Percent Private Passenger Automobile $8,532,000 32% Commercial Lines 1,185,000 27% Personal Property 176,000 4% Total $9,893,000 28%
In 1995, Motor Club began to write new PPA business for the first time since March 1990.
Losses and loss expenses incurred increased by $8,411,000 or 41%, which produced the following loss and loss expense ratios: 1996 1995 Motor Club 61.4% 57.3% Preserver 75.5% 63.1% Total 64.5% 58.7%
The increase in Motor Club's loss and loss expense ratio in 1996 was largely due to the new PPA business written by Motor Club since January 1995. The Registrant has reserved the ultimate development of this new business at a loss and loss expense ratio of 78%.
The increase in Preserver's loss and loss expense ratio in 1996 was primarily attributable to: (1) winter storm losses of $635,000; and (2) poor liability experience caused by a limited number of large losses greater than $35,000. Frequency of losses was generally at acceptable levels. This increase was partially offset by improved experience (excluding winter storm losses) in Preserver's homeowner book of business.
This improvement is largely attributable to the Registrant implementing certain measures in 1995 in this homeowner book aimed at improving its profitability prospectively. These measures included: (1) redefining what risks constitute "standard" risks and "preferred" risks. The Registrant now defines a standard risk as any home constructed before 1960 and a preferred risk is any home constructed after 1960. Previously, this definition was based on the value of a home; and (2) in November 1995, a 7.3% rate increase on standard risks (as now defined).
The increase in acquisition costs of $2,856,000 or 25% generally corresponds with the increase in insurance premiums noted above. FAIR Act assessments totaled $962,000 and $843,000 in 1996 and 1995, respectively. Excluding the non-recurring items in 1996 noted in the table, which includes the lease termination charge, other operating expenses declined $2,035,000 or 37%.
Motor Club membership fees written through Enterprises decreased $30,000 or 3%. As previously described, the Registrant operated Enterprises through November 30, 1996; the writings for 1996 are therefore only included through that date.
The reduction in the minimum pension liability was the result of: (1) an increase in the discount rate used to compute pension plan liabilities to 7.50% at December 31, 1996, from 7.25% at December 31, 1995; and (2) the performance of the Plan assets in excess of the expected return on these assets.
Net cash provided by operating activities was $10,389,000, $6,851,000 and $3,807,000 in 1997, 1996 and 1995, respectively. The higher amounts in these years are attributable to the growth in premium revenue combined with the reduction in overhead expenses described previously.
Net cash utilized in investing activities was $13,885,000, $6,015,000 and $3,255,000 in 1997, 1996 and 1995, respectively. The amounts used reflect the investment of cash provided by operating activities; the amounts used in 1996 were offset by the $1,125,000 proceeds from the sale of Enterprises described previously.
Aside from the changes in operating expenditures noted previously, particularly the State mandated assessments related to the FAIR Act, no unusual or nonrecurring operating expenditures have been incurred over this period.
Basic EPS, which is calculated by dividing net income by the weighted average number of common shares outstanding, replaces primary EPS from the prior standard. For all periods previously reported, basic EPS is the same as primary EPS, since the impact of the Registrant's common stock equivalents (i.e., stock options) for those periods did not reach the significance threshold prescribed to require adjustment under the prior standard. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. Diluted EPS is computed similarly to fully diluted EPS from the prior standard.
For all entities with complex capital structures, basic and diluted EPS must be shown on the face of the income statement with equal prominence. In addition, a reconciliation of the numerator and denominator from the basic EPS computation to the diluted EPS computation is required. See Note P of Notes to Consolidated Financial Statements.
Pursuant to the standard, the Registrant has adopted SFAS No. 128 in 1997 and has restated all prior period EPS data presented.
Also in February 1997, the Securities and Exchange Commission ("SEC") issued Financial Reporting Release No. 48, "Disclosure of Accounting Policies for Derivative Financial Instruments and Derivative Commodity Instruments and Disclosure of Quantitative and Qualitative Information about Market Risk Inherent in Derivative Financial Instruments, Other Financial Instruments, and Derivative Commodity Instruments" ("FRR No. 48").
Additionally, the amendments expand existing disclosure requirements to include quantitative and qualitative discussions with respect to market risk inherent in market risk sensitive instruments such as equity and fixed maturity securities, as well as derivative instruments. These amendments are designed to provide additional information about market risk sensitive instruments which investors can use to better understand and evaluate market risk exposures of the registrants. For the Registrant, these disclosures will be effective in 1998.
In June 1997, FASB adopted SFAS No. 130, "Reporting Comprehensive Income." This statement establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains and losses) in a full set of general-purpose financial statements. Comprehensive income is defined as the change in stockholders' equity during a period from transactions and other events and circumstances from non-owner sources and includes net income and all changes in stockholders' equity except those resulting from investments by owners and distribution to owners.