Physicians leases approximately 7,900 square feet of office space in Reynoldsburg, Ohio for its headquarters. Sequoia leases office space for its and Citation's headquarters in Monterey, California and for regional claims and underwriting offices in Modesto, Monterey, Ventura, Visalia, Oceanside, Orange, Pleasanton, San Jose and Tarzana, California as well as Midvale, Utah. Nevada Land leases office space in Carson City, Nevada. Vidler and Nevada Land hold significant investments in land, water and mineral rights in the western United States. Forbes & Walker (USA), Inc., a wholly-owned subsidiary, leases office space in New York City, New York which is sub-leased. This lease expires April 2000. See "ITEM 1 - BUSINESS-INTRODUCTION."
Note: Prior year share values have been adjusted to reflect the 1-for-5 Reverse Stock Split effective December 16, 1998 and the November 20, 1996 reverse merger of Physicians Insurance Company of Ohio and Citation Insurance Group. Additionally, prior year operating results have also been adjusted to reflect the treatment of American Physicians Life Insurance Company as a discontinued operation.
PICO consolidated Global Equity Corporation from August 19, 1997. Prior to this treatment, Global Equity Corporation was accounted for using the equity method. SEE NOTE 2 OF NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, "SIGNIFICANT ACQUISITIONS."
Approximately 80% of the sales (by value) were settled for cash, and Nevada Land provided partial financing for the balance. Vendor finance is collateralized by the land, carries a 10% interest rate, and is subject to a minimum 20% down-payment.
We expect increased land sales and land exchange activity in 2000 and 2001. Factors contributing to this include:
In 1999, Nevada Land increased its efforts to encourage exploration for minerals on the property. During 1999, mining leases were granted over 24,015 acres, compared to 8,176 acres in 1998. Should mining commence, the leases typically entitle Nevada Land to receive a 3.5% net smelter royalty on the gross production of precious metals and 0.75% on base metals. Although there is no guarantee that any mines will be developed, potentially Nevada Land could earn significant royalty income in future years.
In the first quarter of 2000, Nevada Land applied for an additional 30,720 acre-feet of water rights for the beneficial use of irrigating arable land. If this application is successful, the value and marketability of the associated 7,680 acres of land will increase. In addition, we currently own 4,603 acre-feet of certificated water rights and 2,896 acre-feet of permitted water rights related to Nevada Land.
In contrast to previous years when Vidler Water Company concentrated on acquiring water rights and water storage assets to build a viable platform in the water industry, in 1999 Vidler's focus shifted to development of the existing assets.
Vidler intends to charge an annual fee based on the amount of water stored, plus separate fees for the recharge, or inflow, and recovery, or outflow, of water.
During the second quarter of 2000, Vidler expects to receive the necessary permits to operate a full-scale recharge facility. Within 12 months of the necessary permits being issued, Vidler expects to enter into agreements to lease storage capacity. Construction of the recharge and storage facility is expected to take 6 months at a cost not exceeding $10 million.
Once Vidler has concluded agreements to store water, it will know the rate at which customers need to be able to recover water. At that time, Vidler will be able to design, construct and finance the final stage of the project which will allow full-scale recovery. The cost of constructing the improvements required to recover water at commercial rates cannot be accurately predicted until the needs of Vidler's customers are determined, although this could equal or exceed the $10 million required for the storage facility. Vidler will not be constructing the improvements for full-scale recovery until binding storage contracts are in place.
Vidler will have the right to recover the water it recharged to the subsurface under both the pilot permit and the submitted full-scale permit. Vidler is not required to recover the same molecules of water that it stores, only the same quantity of water.
During 1999, Vidler acquired approximately 26,926 acre-feet of water rights in the Harquahala Valley, which is located approximately 70 miles northwest of metropolitan Phoenix. Including approximately 1,140 acre-feet of water rights at MBT Ranch, at December 31, 1999, Vidler controlled approximately 55,913 acre-feet of transferable groundwater in the Harquahala Valley area.
In the meantime, the Arizona State Legislature recently passed legislation which commits the CAP to convey up to 20,000 acre-feet per annum of Harquahala groundwater to cities and communities in Arizona as an assured municipal water supply. Vidler is in a position to supply this water and is meeting with communities and developers in the Phoenix metropolitan area, some of whom need to secure further water supply to support expected growth.
There are also potential uses for the water within the Harquahala Basin. To illustrate this point, in the first quarter of 2000, Vidler granted a 24-month option to an electricity generation company to acquire 1,700 acres of land and the associated 5,100 acre-feet of water rights. There will be a lengthy permitting and approval process. Should the option be exercised, the purchase price will be $4,200 per acre of land (or the equivalent of $1,400 per acre-foot of water).
This joint venture is an example of a transaction where Vidler can partner with an entity (in this case a public entity) to provide them with the necessary capital and skills to commercially develop water assets.
Vidler is progressing with the sale of all of the water rights which are currently unutilized, namely approximately 415 acre-feet of absolute senior water rights associated with Vidler Tunnel, approximately 600 acre-feet of senior rights at Cline Ranch, and approximately 700 acre-feet of priority water rights at Wet Mountain.
In particular, subject to approval by the Denver Water Court, Vidler has agreed to sell its interest in Cline Ranch to Centennial Water and Sanitation District for approximately $2.1 million.
Over the first 10 years of the agreement with the Semitropic Water Storage District, Vidler is required to make a minimum annual payment of $2.3 million. Vidler began making the annual payments in November, 1998. In return, Vidler has the right to store up to 185,000 acre-feet of water underground over a 35-year period. Vidler is also required to make an annual payment for operating expenses which amounted to $863,000 in 1999.
In 1999, Vidler "banked", or stored, approximately 6,300 acre-feet of water at Semitropic with the intention of selling or leasing the water in a dry year. Vidler purchased the water from the Interruptible State Water Project, and was the first private entity to purchase water from the Interruptible State Water Project for resale.
In 1999, Citation Insurance Company incurred an underwriting loss principally due to a large number of claims in artisans/contractors insurance. This business was written under Citation's previous management. Citation ceased writing this insurance coverage in 1994, two years before the reverse merger, and none was renewed after the merger. Citation has taken charges in each of the past 3 years to increase claims reserves in this line of business, including a pre-tax charge of $10.1 million in 1999. This charge was calculated on the basis of current claims trends. If current claims trends continue, we believe that our loss reserves in this line of business are adequate. However, if the trend in claims worsens in the future, then additional charges could be required to increase reserves.
Due to unfavorable claims trends, in 1999 we took a pre-tax charge to increase Physicians Insurance Company of Ohio's loss reserves by $5 million, or $3.8 million after the related reserves were discounted to reflect the time value of money. This addition to claims reserves was due to a higher than expected number of insurance claims in 1999 for prior years' accidents, compounded by the fact that many of the claims were for smaller than expected amounts, causing more of them to fall below our reinsurance deductibles. This means that we need to pay valid claims ourselves, and that we cannot recover as much as we previously anticipated fom our reinsurers.
HyperFeed is a premier Internet content and solutions provider to the financial services industry. HyperFeed has a number of business-to-business solutions, and its business-to-consumer subsidiary PCQuote.com is an Internet-based provider of high performance, real-time financial data.
PICO first invested in HyperFeed in 1995 through the purchase of common stock. We invested further capital in HyperFeed as debt which was later converted to equity, and received warrants for providing financing. Shares of HyperFeed closed 1999 at $4 5/8. If we were to exercise all of the HyperFeed warrants which we own, the cash cost of our investment would be approximately $17 million, or $1.518 per HyperFeed share.
HyperFeed contributed an equity loss of $1.6 million to PICO's 1999 net loss. This is a non-cash item to PICO.
During 1999, PICO increased its shareholding in Jungfraubahn to 109,200 shares, which equates to a shareholding of approximately 18.7%. At year-end, our investment in Jungfraubahn had a cost basis of $14.9 million, a market value of $15.3 million, and a net book value of $15.2 million, after allowing for taxes on the unrealized gain.
During the year we increased our shareholding to 7,444,460 shares, representing approximately 15.9% of Australian Oil and Gas. At December 31, 1999, the investment had a cost basis of $7.8 million, a market value of $8.3 million, and a net book value of $8.1 million, after allowing for taxes on the unrealized gain.
In the fourth quarter of 1999, PICO converted all of the securities which it held in Conex to common shares. At December 31, 1999, PICO owned 228,148,343 common shares in Conex, equivalent to 83.4% of the company. Conex was an equity-accounted affiliate until it became a consolidated subsidiary on August 3, 1999.
At year-end, the carrying value of PICO's stake in Conex was $5.8 million, after deducting the interest of the outside shareholders in Conex. In 1999, Conex contributed a net loss of $2.1 million to PICO, after outside equity interests.
We have been building our investment in SISCOM since 1996, which culminated in SISCOM becoming a consolidated subsidiary in 1999. We now own 4,431,000 common shares and 1,250,000 convertible preferred shares in SISCOM, which represents 54.6% of SISCOM's voting stock. Assuming conversion of our preferred stock and the exercise of all options and warrants which SISCOM has outstanding, we own approximately 45.4% of SISCOM.
After deducting the interest of the outside shareholders in SISCOM, at December 31, 1999, the carrying value of our investment in SISCOM was approximately $1.7 million, and SISCOM contributed a 1999 net loss of approximately $413,000.
Prospect Oil & Gas is engaged in precision horizontal drilling in proven oil and gas fields in North Dakota. The rate of decline on pilot program wells was greater than anticipated and did not justify further drilling. In the fourth quarter of 1999, we took a pre-tax charge of $3.2 million to write down the carrying value of our investment in the oil and gas venture to $1 million.
An investment partnership called PICO Equity Investors, L.P. has agreed to acquire shares that are not subscribed for, up to a total of 3,333,333 shares with an aggregate subscription price of $50 million. In the event that less than 3,333,333 shares of common stock remain unpurchased by our shareholders on March 27, 2000, PICO Holdings, Inc. has committed to sell, and PICO Equity Investors, L.P. has committed to purchase, the number of shares necessary to increase the total number of shares purchased by PICO Equity Investors, L.P. to 3,333,333.
RESULTS OF OPERATIONS -- YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
PICO reported a net loss of $8.8 million, or $0.98 per diluted share, for 1999 compared with a net loss of $8.2 million, or $1.38 per diluted share, in 1998 and net income of $19.6 million, or $3.00 per diluted share, during 1997. Although the net loss is 6.6% higher in 1999, the loss per share is 29% lower than in 1998 because the weighted average number of shares in 1999 was higher than in 1998. This resulted from the shares issued to acquire the outstanding minority shareholdings in Global Equity Corporation at December 16, 1998, which were only outstanding for a short period in 1998, but for the full year of 1999.
Shareholders' equity at December 31, 1999 was $169 million, compared to $173.4 million at the previous year-end. Book value per share at December 31, 1999, calculated on an undiluted basis net of treasury shares, was $18.66 compared to $19.38 at year-end 1998. The 1999 change in shareholders' equity resulted primarily from the following:
- an increase of $2.9 million in additional paid-in capital from the exercise of 120,000 warrants; - an increase of $3.3 million from improvement in net unrealized investment gains, net of tax; - an $8.8 million decrease from the 1999 net loss; and - a reduction of $1.6 million from unrealized foreign currency translation loss.
The 1999 $8.8 million net loss consisted of a $23.3 pre-tax million loss from continuing operations, partially offset by a $13.3 million income tax benefit, $706,000 in minority interest and a $442,000 extraordinary gain, net of tax. This compares to a $12.6 million loss from continuing operations in 1998 ($23.8 million in income in 1997), $1.3 million in income tax expense in 1998 ($7.8 million of expense in 1997) and income from discontinued operations in 1998 of $1.1 million ($456,000 in 1997).
Income tax benefits recorded in 1999 of $13.3 million included reductions in income tax valuation allowances of $8.4 million. Of this amount, $6.5 million became available as a result of recent changes in federal income tax legislation.
Included in PICO's $23.3 million loss from continuing operations before taxes and minority interest were the following:
- - A $4.6 million loss from Vidler Water Company, on revenues of $1.1 million;
- - $2.2 million in income from Sequoia Insurance Company, including $401,000 of favorable loss development; - - A $5.9 million loss from Citation, including $10.1 million in unfavorable claims experience from artisan/contractors insurance coverage;
MEDICAL PROFESSIONAL LIABILITY INSURANCE - - A $4.8 million loss from Physicians Insurance Company of Ohio;
Physicians added $2.6 million to gross insurance loss and loss adjustment expense reserves principally due to unfavorable claims frequency. Although claims frequency was higher than expected, claims severity was less than expected, which resulted in fewer than expected claims exceeding reinsurance retention levels and a resultant $3.6 million decrease in expected reinsurance recoveries. This was partially offset by claims reserve discounting of $1.2 million and a reduction in prior reinsurance premiums of $1.9 million.
OTHER STRATEGIC HOLDINGS - - $2.6 million in realized investment gains from the sale of European securities; - - $3.2 million permanent write-down of a portion of an oil and gas investment; - - $2.5 million loss from Conex Continental Inc. and its sino-foreign joint venture (before minority interest of $447,000); - - $2.1 million loss from HyperFeed Technologies, Inc.; - - $672,000 loss from SISCOM, Inc. (before minority interest of $259,000); - - $4.1 million in overhead expenses; and - - $1.4 million in various other expenses, net of other income.
Revenues and income before taxes and minority interests from continuing operations, by business segment, are shown in the following schedules:
Year Ended December 31, ------------------------------------- 1999 1998 1997 ---------- ----------- ---------- (in millions) Land, Minerals and Related Water Rights $ 1.1 $ 0.2 $ 0.6 Water Rights and Water Storage (4.6) (2.0) (0.6) Property and Casualty Insurance (3.7) 2.8 5.6 Medical Professional Liability Insurance (4.8) (4.4) 0.8 Other Strategic Holdings (11.3) (9.2) 17.4 ---------- ----------- ---------- Income (Loss) Before Tax and Minority Interest $ (23.3) $ (12.6) $23.8 ========== =========== ==========
Total assets at December 31, 1999 were $375.7 million, compared to $395.2 million at December 31, 1998. Most of this decline resulted from the payment of insurance claims by Physicians, which reduced insurance liabilities and corresponding cash and cash equivalent balances, investments and reinsurance receivables.
Shares outstanding and per share calculations for prior years have been adjusted to reflect the December 16, 1998 1-for-5 Reverse Stock Split following the PICO/Global Equity Corporation Combination.
Revenues generated from Nevada Land were approximately $7.1 million during 1999, compared to $2.8 million in 1998 and $2.8 million for the period April 23, 1997 to December 31, 1997. Most of this significant growth in 1999 resulted from the sale of 48,715 acres of land for proceeds of $5.4 million compared to 5,866 acres in 1998 for proceeds of $1.7 million and 14,949 acres in 1997 for proceeds of $1.5 million. This increase in land sales is primarily attributable to increased sales efforts based upon the recently completed "highest and best use" land use study. In addition 125 acre-feet of water rights were sold for proceeds of $379,000 in 1999 representing a sale of Nevada Land's non-strategic water rights.
During 1999, Nevada Land earned $25,000 from mining leases based on 24,015 acres of land, compared to $9,000 for 1998 on 8,176 acres and $4,000 for 1997 on 3,218 acres. The mining leases are with Newmont Gold Corporation and give Newmont the right to mine the land. Nevada Land will earn a net smelter royalty based on 3.5% of gross production if commercial mining is undertaken.
Nevada Land recorded $1.1 million in income before taxes in 1999 compared to $200,000 in 1998 and $600,000 in 1997. Increases in land sales and lease income were the primary factors behind this growth.
Revenues generated by Vidler were approximately $1.1 million for 1999, compared to $600,000 in 1998 and $300,000 in 1997. Vidler sold 300 acre-feet of water rights during 1999 for $300,000 compared to 600 acre-feet in 1998 for $200,000.
Water service revenue has remained constant at $200,000 during the three year period. This revenue is generated from leases under a perpetual agreement. Payments for these leases are indexed to the consumer price index ("CPI"), with a 3% minimum increase per year. Once water rights or assets are leased in perpetuity, they cannot be leased again unless the lease is canceled, if cancelable. Consequently, future revenue growth beyond the limits of these CPI escalators is dependent upon growth in leases not subject to perpetual agreements, development of existing assets, and acquisition of additional water rights and water related assets for subsequent lease or sale. The sale of water rights or assets reduces future revenue streams from water rights and assets until those assets can be replaced.
Agricultural lease income increased to $500,000 during 1999 compared to $200,000 in 1998 and $100,000 in 1997. The increase in agricultural lease income resulted from the additional lands purchased in the Harquahala Valley in Arizona. During 1999, Vidler acquired 26,926 acre-feet of water rights with the acquired lands. Including the 1,140 acre-feet of water rights at MBT Ranch, at December 31, 1999, Vidler controlled approximately 55,913 acre-feet of transferable groundwater in the Harquahala Valley area.
The increase in expenses of $3.1 million from 1998 to $5.7 million and the increase to $2.6 million from 1997 from $900,000 relates to the overall increase in activity at Vidler including acquisitions of water rights and lands as well as further development in Vidler's other projects. Individual expense categories are detailed in the above table. Costs were incurred to develop and preserve existing assets and for the acquisition of additional assets, to complete engineering and geological studies, lobbying and the identification and development of target assets for future growth. The expenses relate to the acquisition of lands as well as to the overall increase in business activity revolving around the commencement of active recharge/storage/recovery operations. Construction of the recharge and storage facility is expected to take 6 months at a cost not exceeding $10 million.
Included in amortization expense is the annual amortization expense of $700,000 of the operating lease at the Semitropic Water Storage facility. The lease is payable over 10 years and allows Vidler to operate the asset for 35 years. Revenue will be generated from the asset through the recharge, storage and recovery of water. Annual operating and maintenance fees of $900,000 related to Semitropic are included in maintenance expense.
between years. Total Property and Casualty Insurance earned premiums for 1999 were $34.4 million, compared to $36.2 million in 1998 and $50.2 million in 1997. Earned premiums declined 28% from 1997 to 1998, principally as a result of increased underwriting selectivity applied to Citation's business and aggressive competition for commercial multiple peril business within the state of California. All new property and casualty insurance applications and policies scheduled to renew are processed through Sequoia and subjected to Sequoia's underwriting standards which are much tighter than those previously employed by Citation. As a result, a significant portion of Citation's prior book of business was not renewed in 1998. The 5% decline in earned premiums from 1998 to 1999 principally reflects the continued aggressive competition.
The primary reason for the decline in Sequoia's earned premiums from $32.8 million in1997 to $17.4 million in 1998 (see above table) was the reinsurance pooling agreement, which resulted in the equal splitting of earned premiums, prospective losses and loss adjustment expenses and operating expenses between Sequoia and Citation from January 1, 1998 forward. Effective January 1, 1998, Sequoia and Citation entered into a reinsurance pooling agreement which provides for pooling of all insurance premiums, losses, loss adjustment expenses and administrative and other insurance operating expenses between Sequoia and Citation. The reinsurance agreement calls for these items to be split equally between the two companies.
Direct premium writings in 1999 for Sequoia were $35.6 million, down 12.5% from the $40.7 million of 1998 and down 13.2% from the $41.0 million of 1997. Citation wrote $883,000 in direct premiums in 1999, compared to $1.9 million in 1998 and $14.9 million in 1997.
Investment revenues from Property and Casualty Insurance operations in 1999 were $5 million, down 9% from 1998's $5.5 million and 10.7% from 1997's $5.6 million. These decreases principally resulted from changes in the mix of fixed income or short-term securities versus equity securities. As shown in the table above, realized investment gains were minimal in each of the periods.
However, on January 1, 1996, the Calderon bill took effect in California, which makes construction defect lawsuits more difficult to file. With these additions to Citation's reserves, we are assuming that the reporting of new artisans/contractors claims has peaked and that future calendar years will see decreases in the numbers of new claims. Nevertheless, insurance reserves, particularly for Citation's artisan/contractors coverage, can be, and have been, highly volatile and unpredictable and may go up or down significantly in the future.
Industry ratios as determined on the basis of generally accepted accounting principles for Citation are shown in the following chart:
SEQUOIA'S GAAP INDUSTRY RATIOS 1999 1998 1997 ------ ------ ------ Loss and LAE Ratio 53.5% 52.3% 57.3% Underwriting Expense Ratio 46.3% 43.4% 38.1% ------ ------ ------ Combined Ratio 99.8% 95.7% 95.4% ====== ====== ======
INCOME (LOSS) BEFORE TAXES $ (4.8) $ (4.4) $ 0.8 ========= ========= =========
Medical professional liability insurance revenues were $3.1 million in 1999 compared to $2.4 million during 1998 and $3.9 million during 1997. As shown above earned medical professional liability premiums increased $2.1 million over 1998 and $1.7 million over 1997 due to recalculation of reinsurance premiums based upon loss experience (see below). Investment income continues to decline (from $3.7 million in 1997 to $2.6 million to $1.2 million in 1999) as a result of the payment of claims and the liquidation of interest-bearing investments.
As discussed above, medical professional liability investment income and earned premiums continually declined from 1997 through 1999 due to the runoff of the medical professional liability business and the decreasing level of loss and loss adjustment expense reserves.
Physicians' claims department staff continues to process the runoff of the remaining medical professional liability loss and loss adjustment expense claims which is progressing routinely. At December 31, 1999, medical professional liability reserves totaled $53.7 million, net of reinsurance and discount. This compares to $60.9 million at December 31, 1998 and $77.5 million at December 31, 1997. Medical professional liability loss and loss adjustment expense reserves continue to decline as a result of the disposition of claims.
Year Ended December 31, ---------------------------------------- 1999 1998 1997 --------- --------- ---------- (in millions) Direct Reserves $81.6 $ 97.1 $121.4 Ceded Reserves (20.4) (27.7) (34.8) Discount of Net Reserves (7.5) (8.5) (9.1) --------- --------- ---------- Net Medical Professional Liability Insurance Reserves $53.7 $ 60.9 $ 77.5 ========= ========= ==========
Although Medical professional liability insurance reserves are certified annually by two independent actuaries, as required by Ohio insurance regulations, significant fluctuations in reserve levels can occur based upon a number of variables used in actuarial projections of ultimate incurred losses and loss adjustment expenses.
OTHER STRATEGIC HOLDINGS REVENUES (CHARGES): Realized Investment Gain (Loss) $ 0.6 $ (4.4) $ 21.3 Investment Income 0.7 2.1 2.3 Other Income 2.1 1.0 2.4 ----- ------ ------ Other Stragetic Holdings Revenues (Charges) $ 3.4 $ (1.3) $ 26.0 ===== ====== ======
Investment income from the Other Strategic Holdings segment in 1999 was approximately $700,000, compared to $2.1 million in 1998 and $2.3 million in 1997. The changes in investment income are due to reduced levels of interest and dividend paying securities and the reduction in the size of Physicians' portfolio due to the payment of medical professional liability insurance claims (See the Medical Professional Liability Insurance segment).
Other income in 1997 included $1.8 million in interest income based upon the value of common stock warrants granted to PICO in 1997 by HyperFeed Technologies, Inc. as consideration for extension of loan due dates.
At December 31, 1999, the consolidated investment portfolio was in a net unrealized gain position of approximately $827,000, net of taxes, compared to $2.5 million in unrealized losses at December 31, 1998.
Year Ended December 31, ----------------------------------------- 1999 1998 1996 ---------- ----------- ---------- (in millions) OTHER STRATEGIC HOLDINGS INCOME (LOSS) BEFORE TAX: Income (Loss) Before Investee Loss $ (8.5) $ (7.7) $ 19.0 Loss in Investee (2.8) (1.5) (1.6) ---------- ----------- ---------- Income (Loss) Before Tax $ (11.3) $ (9.2) $ 17.4 ========== =========== ==========
American Physicians Life Insurance Company produced revenues of $9.2 million and pre-tax income of $300,000 in 1998 prior to its sale. This compares to $5.3 million in revenues and a pre-tax loss of $112,000 in 1997.
On June 16, 1997, Physicians announced the signing of a binding agreement to sell American Physicians subject to certain closing conditions. The sale closed on December 4, 1998. PICO received $9 million in cash from the sale in addition to an $8 million dividend prior to the sale, and recorded a gain of $1.1 million, included in discontinued operations on the consolidated statements of operations.
LIQUIDITY AND CAPITAL RESOURCES -- YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
PICO continually evaluates its existing operations and searches for new opportunities to maximize shareholder value. This strategy causes significant fluctuations in the cash needs of PICO. PICO may need to sell investments, or borrow funds to meet operating cash requirements. In addition, it may become necessary or advantageous for PICO to offer stock or debt through a public or private offering. At times PICO may have excess cash. PICO attempts to invest such cash to provide maximum returns within the constraint of remaining liquid enough to meet expected cash requirements and to take advantage of investment opportunities. PICO's primary sources of funds are its available cash, cash from operations, the sale of invested assets, bank borrowings, public and private debt and equity offerings, and management and other fees.
On February 9, 2000, PICO registered on Form S-3 with the Securities and Exchange Commission to offer 6,546,497 shares of PICO stock at a price of $15 per share in a rights offering. Shareholders were offered one right to buy one new share at $15 for every two common shares held at March 1, 2000.
An investment partnership called PICO Equity Investors, L.P. has agreed to acquire shares which are not subscribed for, up to a total of 3,333,333 shares with an aggregate subscription price of $50 million. In the event that less than 3,333,333 shares of common stock remain unpurchased by our shareholders on March 27, 2000, PICO Holdings, Inc. has committed to sell and PICO Equity Investors, L.P. has committed to purchase the number of shares necessary to increase the total number of shares purchased by PICO Equity Investors, L.P. to 3,333,333.
Medical professional liability insurance reserves declined $7.2 million in 1999 to $53.7 million, including a reduction of $14.4 million from payment of insurance claims, partially offset by increases in reserves due to $6.2 million in unfavorable claims experience and $995,000 in accretion of claims reserve discount. Reserves decreased $16.6 million during 1998 compared to year-end 1997. Medical professional liability insurance reserves have declined 60.6% since December 31, 1995, when Physicians and Professionals ceased writing insurance.
PICO's insurance subsidiaries attempt to structure the duration of invested assets to match the cash flows required to settle the related unpaid claims liabilities. Invested assets provide adequate liquidity to fund projected claims and loss adjustment expense payments for the coming years. The Ohio and California Insurance Departments monitor and set guidelines for the insurance companies' investments. The Ohio and California Insurance Departments also set minimum levels of policyholder capital and surplus and monitor these levels through various means.
At December 31, 1999, the investment portfolios of Physicians and Professionals contained invested assets of approximately $125.5 million, plus cash and cash equivalents of $2.4 million. These invested assets are in excess of the present value of expected future payouts of losses and loss adjustment expenses of approximately $53.7 million.
Management attempts to maximize the return on all assets, including those needed to fund the eventual wrap-up of the medical professional liability insurance reserves through, among other things, value investing and managing the invested assets internally rather than liquidating assets to pay a third party to oversee the runoff of the existing claims. Management also elected to handle the runoff of the medical professional liability insurance claims internally to continue to maintain a high standard of claims handling and to maximize shareholder value. While management expects that certain of PICO's current and future investments may increase in value, offsetting some of the decline in assets during the period of runoff, the impact of future market fluctuations on the value of PICO's invested assets cannot be accurately predicted. Although assets will be managed to mature or liquidate according to expected payout projections, at times some invested assets may need to be sold when the stock market is depressed. Such forced sales are expected to occur infrequently and only under extreme circumstances; however, this cannot be guaranteed.
PICO's active property and casualty insurance subsidiaries, Sequoia and Citation, should provide cash flows from operations once industry combined ratios (See "Property and Casualty Insurance.") stabilize below 100%, artisan/contractor claims stabilize and premiums remain at a constant or increasing levels. At times, it may be necessary to liquidate invested assets to provide the additional funds necessary to cover operating expenses.
As shown in the accompanying consolidated statements of cash flows, operating activities used $26.2 million of cash during 1999 compared to cash used of $23.6 million during 1998 and $62.1 million in 1997. The decline in cash used by operations between 1997 and 1998 of $38.5 million principally consisted of reductions in claims and loss adjustment expense payments (both property and casualty and medical professional liability insurance) and insurance operating expenses, partially offset by a decreased level of premiums received. PICO received $4.6 million in federal income tax recoveries in 1999 from the 1997 and 1998 tax years. Federal income taxes paid in 1998 were $10.5 million less than in 1997, primarily due to the differences in pre-tax income between years. The $62.1 million in cash used by operations in 1997 also included a $9.7 million use of funds from reclassification of APL's year-end 1996 cash balances to discontinued operations in 1997.
The primary use of operating cash flow during 1999 was $40 million in insurance claims and loss adjustment expenses, net of reinsurance recoveries. This compares to $56.3 million in 1998 and $69.6 million in 1997. Other expenses for 1999, including insurance and other operating costs, accounted for $34.3 in additional cash outflows compared to $26.9 million in 1998 and $29.1 million in 1997. Premiums received amounted to $30.5 million in 1999, $40.9 million in 1998 and $41.6 million in 1997, net of ceded reinsurance payments. The decrease in premiums from 1998 to 1999 was primarily due to increased competition for property and casualty insurance in California, while the decline from 1997 to 1998 was mainly due to increased selectivity of Citation's insurance risks following its change in control, as well as increased competition for commercial property and casualty insurance in California. Investment income, other than realized investment gains and losses, amounted to $6.7 million in 1999 compared to $10.7 million in 1998, and $13.1 million in 1997.
At December 31, 1999, PICO has no significant commitment for future capital expenditures, other than in the ordinary course of business and as discussed herein. PICO is committed to maintaining Sequoia's capital and statutory policyholder surplus at a minimum of $7.5 million. At December 31, 1999, Sequoia was well above this level. PICO is also committed to maintain Sequoia's Best Rating at or above the "B++" (Very Good) level, which may at some time in the future require additional capital infusions into Sequoia. See Note 16 of Notes to Consolidated Financial Statements, "Commitments and Contingencies."
PICO's principal sources of funds are its available cash resources, operating cash flow, liquidation of non-essential investment holdings, borrowings, public and private debt and equity offerings, funds from consolidated tax savings, and investment management and other fees. At December 31, 1999, PICO had $36.7 million in cash and cash equivalents compared to $71.7 million and $56.4 million at December 31, 1998 and 1997, respectively.
BECAUSE OUR OPERATIONS ARE SO DIVERSE, ANALYSTS AND INVESTORS MAY NOT BE ABLE TO EVALUATE OUR COMPANY ADEQUATELY, WHICH MAY NEGATIVELY INFLUENCE OUR SHARE PRICE.
PICO is a diversified holding company with operations in land, minerals and related water rights; water rights and water storage; property and casualty insurance; medical professional liability insurance; and other strategic holdings. Each of these areas is unique, complex in nature, and difficult to understand. In particular, water rights is a developing industry within the western United States with very little historical data, very few experts and a limited following of analysts. Because we are so complex, analysts and investors may not be able to adequately evaluate our operations, and PICO in total. This could cause them to make inaccurate evaluations of our stock, or to overlook PICO, in general. These factors could have a negative impact on the volume and price of our stock.
Failures and/or declines in the market values of businesses we invest in or acquire, as well as our failure to successfully locate, select and manage investment and acquisition opportunities, could have a material adverse effect on our business, financial condition, results of operations and cash flows. Such business failures, declines in market values, and/or failure to successfully locate, select and manage investments and acquisitions could result in inferior investment returns compared to those which may have been attained had we successfully located, selected and managed new investments and acquisition opportunities, or had our investments or acquisitions not failed or declined in value. We could also lose part or all of our investments in these businesses and experience reductions in our net income, cash flows, assets and shareholders' equity.
We do not know of any reliable statistical data that would enable us to predict the probability of success or failure of our investments or to predict the availability of suitable investments at the time we have available cash. You will be relying on the experience and judgment of management to locate, select and develop new acquisition and investment opportunities. Sufficient opportunities may not be found and this business strategy may not be successful. We have made a number of investments in the past that have been highly successful, such as Fairfield Communities, Inc., which we sold in 1996 and Resource America, Inc., which we sold in 1997. We have also made investments that have lost money, such as our approximate $4 million loss from Korean investments in 1997, an approximate $5 million write-down of investments in 1998 and a $3.2 million write-down of an oil and gas investment in 1999. We reported net realized investment gains in 1999 of $441,000 and gains of $21.4 million in 1997; however, we reported a net realized investment loss of $4.4 million for 1998. Our financial statements indicate net unrealized investment gains, before taxes, of $1.4 million at December 31, 1999 and net unrealized investment losses of $4.9 million at December 31, 1998.
Physicians Insurance Company of Ohio and The Professionals Insurance Company have established reserves to cover losses on claims incurred under the medical malpractice liability policies including not only those claims reported to date, but also those that may have been incurred but not yet reported. The reserves for losses are estimates based on various assumptions and, in accordance with Ohio law, have been discounted to reflect the time value of money. These estimates are based on actual and industry experience and assumptions and projections as to claims frequency, severity and inflationary trends and settlement payments. In accordance with Ohio law, Physicians Insurance Company of Ohio and The Professionals Insurance Company annually obtain a certification from an independent actuary that their respective reserves for losses are adequate. They also obtain a concurring actuarial opinion. Due to the inherent uncertainties in the reserving process, there is a risk that Physicians Insurance Company of Ohio's and The Professionals Insurance Company's reserves for losses could prove to be inadequate. This could result in a decrease in income and shareholders' equity. If we underestimate our reserves, they could reach levels which are lower than required by law.
STATE REGULATORS COULD REQUIRE CHANGES TO THE OPERATIONS OF OUR INSURANCE SUBSIDIARIES AND/OR TAKE THEM OVER IF WE FAIL TO MAINTAIN ADEQUATE RESERVE LEVELS
Failure to meet one or more reserve levels may result in state regulators requiring the insurance company to submit a business plan demonstrating achievement of the required reserve levels. This may include the addition of capital, a restructuring of assets and liabilities, or changes in operations. At or below certain lower reserve levels, state regulators may supervise the operation of the insurance company and/or require the liquidation of the insurance company. Such insurance department actions could adversely affect our business, financial condition, results of operations and cash flows and decrease the value of our investments in our insurance subsidiaries. If the insurance departments were to require changes in the operations of our insurance subsidiaries, we may incur additional expenses and we may lose customers. If the insurance departments were to require additional capital in our insurance subsidiaries or a restructuring of our assets and liabilities, our investment returns could suffer. If the insurance departments were to place our insurance companies under their supervision, we would lose customers, our revenues may decrease more rapidly than our expenses, and our investment returns would suffer. We may even lose part or all of our investments in our insurance subsidiaries if our insurance subsidiaries are liquidated by the insurance departments.
WE MAY BE INADEQUATELY PROTECTED AGAINST MAN MADE AND NATURAL CATASTROPHES, WHICH COULD REDUCE THE AMOUNT OF CAPITAL SURPLUS AVAILABLE FOR INVESTMENT OPPORTUNITIES
As with other property and casualty insurers, operating results and financial condition can be adversely affected by volatile and unpredictable natural and man made disasters, such as hurricanes, windstorms, earthquakes, fires, and explosions. Our insurance subsidiaries generally seek to reduce their exposure to catastrophic events through individual risk selection and the purchase of reinsurance. Our insurance subsidiaries' estimates of their exposures depend on their views of the possibility of a catastrophic event in a given area and on the probable maximum loss created by that event. While our insurance subsidiaries attempt to limit their exposure to acceptable levels, it is possible that an actual catastrophic event or multiple catastrophic events could significantly exceed the maximum loss anticipated, resulting in a material adverse effect on our business, financial condition, results of operations and cash flows. Such events could cause unexpected insurance claims and expenses for settling claims well in excess of premiums, increasing cash needs, reducing surplus and reducing assets available for investments. Capital invested in our insurance companies may produce inferior investment returns as a result of these additional funding requirements.
VARIANCES IN PHYSICAL AVAILABILITY OF WATER, ALONG WITH LEGAL RESTRICTIONS AND LEGAL IMPEDIMENTS COULD IMPACT PROFITABILITY FROM OUR WATER RIGHTS
OUR WATER ASSETS MAY BECOME CONCENTRATED IN A LIMITED NUMBER OF FACILITIES, MAKING OUR GROWTH AND PROFITABILITY VULNERABLE TO FLUCTUATIONS IN LOCAL ECONOMIES AND GOVERNMENTAL REGULATIONS.
- that we will be able to obtain permits for the facility at the recharge, storage or recovery levels anticipated, or at all; - that the full-scale storage facility will have the capacity currently anticipated; or - that we will be able to contract with third parties for storage of water on commercially reasonable terms, or at all.
A majority of our water revenue historically has been derived from the Vidler Tunnel. Although we have recently begun to acquire additional water assets, we anticipate that our revenues will be derived from a limited number of water assets for the foreseeable future.
ENVIRONMENTAL REGULATIONS MAY DETRACT FROM OUR FUTURE REVENUE STREAMS AND PROFITABILITY BY LIMITING OUR CUSTOMER BASE.
- quarterly variations in financial performance; - shortfalls in revenue or earnings from levels forecast by securities analysts; - changes in estimates by such analysts; - product introductions; - our competitors' announcements of extraordinary events such as acquisitions; - litigation; and - general economic conditions.
Our results of operations have been subject to significant fluctuations, particularly on a quarterly basis, and our future results of operations could fluctuate significantly from quarter to quarter and from year to year. Causes of such fluctuations may include the inclusion or exclusion of operating earnings from newly acquired or sold operations. At December 31, 1997, the closing price of our common stock on the Nasdaq National Market was $32.19 per share, compared to $12.31 at December 31, 1999. On a quarterly basis between these two dates, closing prices have ranged from a high of $32.19 at December 31, 1997 to a low of $12.31 at December 31, 1999. During 1999, closing prices have ranged from a low of $12.31 per share on December 31 to a high of $25.31 on June 30.
The liabilities for unpaid losses and loss adjustment expenses of Physicians, Professionals, Sequoia, and Citation were $139.1 million at December 31, 1999, $155 million at December 31, 1998, and $196.1 million in 1997, net of discount on medical professional liability insurance reserves and before reinsurance reserves, which reduce net unpaid losses and loss adjustment expenses. Of those amounts, the liabilities for unpaid loss and loss adjustment expenses of prior years increased by $16.3 million in 1999, $7.3 million in 1998, and $900,000 in 1997. These reserve changes for prior years' reserves were due to the following:
Physicians' liability for unpaid medical professional liability insurance losses and loss adjustment expenses is discounted to reflect investment income as permitted by the Ohio Department of Insurance. The method of discounting is based upon historical payment patterns and assumes an interest rate at or below Physicians' investment yield, and is the same rate used for statutory reporting purposes. A discount rate of 4% is used for medical professional liability insurance reserves.
Various reinsurance treaties remain in place to limit PICO's exposure levels. See "REINSURANCE" following this section and NOTE 12 OF NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, "REINSURANCE."
Each decrease or increase amount includes the effects of all changes in amounts during the current year for prior periods. For example, the amount of the redundancy related to losses settled in 1992, but incurred in 1989 will be included in the decrease or increase amount for 1989, 1990 and 1991. Conditions and trends that have affected development of the liability in the past may not necessarily occur in the future. For example, Physicians commuted reinsurance contracts in several different years that significantly increased the estimate of net reserves for prior years by reducing the recoverable loss and loss adjustment expense reserves for those years. Accordingly, it may not be appropriate to extrapolate future increases or decreases based on this table.
The data in the above table is based on Schedule P from each of the insurance companies' 1989 to 1999 Annual Statements, as filed with state insurance departments; however, the development table above differs from the development displayed in Schedule P, Part-2, of the insurance Annual Statements as Schedule P, Part-2, excludes unallocated loss adjustment expenses.
LOSS RESERVE EXPERIENCE. The inherent uncertainties in estimating loss reserves are greater for some insurance products than for others, and are dependent on the length of the reporting lag or "tail" associated with a given product (i.e. the lapse of time between the occurrence of a claim and the report of the claim to the insurer) of the diversity of historical development patterns among various aggregations of claims, the amount of historical information available during the estimation process, the degree of impact that changing regulations and legal precedents may have on open claims, and the consistency of reinsurance programs over time, among other things. Because medical professional liability insurance and commercial casualty claims may not be fully paid for several years or more, estimating reserves for such claims can be more uncertain than estimating reserves in other lines of insurance. As a result, precise reserve estimates cannot be made for several years following a current accident year for which reserves are initially established.
An analysis of changes in the liability for unpaid losses and loss adjustment expenses for 1999, 1998 and 1997 is set forth in NOTE 13 OF NOTES TO PICO'S CONSOLIDATED FINANCIAL STATEMENTS, "RESERVE FOR UNPAID LOSS AND LOSS ADJUSTMENT EXPENSES."
Effective January 1, 1998, Sequoia and Citation entered into an inter-company reinsurance pooling agreement for business in force as of January 1, 1998 and business written thereafter. Per the agreement, Citation cedes 100% of its net premium and losses to Sequoia and Sequoia then cedes 50% of its net premiums and losses to Citation. Sequoia and Citation share equally in the underwriting expenses.
Effective January 1, 1997, Citation cancelled its reinsurance contracts and replaced them with the following coverages. For policies in force at December 31, 1996 and for policies written with effective dates from January 1, 1997 through February 28, 1997, Citation has reinsurance providing coverage for both property and casualty business, excluding umbrella coverage, of $4.8 million excess of $250,000. For policies written with effective dates March 1, 1997 and after, Citation has the same reinsurance as Sequoia's 1997 and 1998 reinsurance program which is outlined as follows. For property business, reinsurance provides coverage of $10.4 million excess of $150,000. For casualty business, excluding umbrella coverage, reinsurance provides coverage of $4.9 million excess of $150,000. Umbrella coverages are reinsured $9.9 million excess of $100,000. The catastrophe treaties for 1997 provide coverage of 95% of $19 million excess of $1million per occurrence for the combined losses of Citation and Sequoia. The catastrophe treaties for 1998 provide coverage of 95% of $14 million excess of $1 million per occurrence. Facultative reinsurance is placed with various reinsurers.
Summarized unaudited quarterly financial data (in thousands, except share and per share amounts) for 1999 and 1998 are shown below. In management's opinion, the interim financial data contains all adjustments necessary for a fair presentation of results for such interim periods. Prior period share and per share amounts have been adjusted to conform to the current period presentation reflecting the December 16, 1998 1-for-5 Reverse Stock Split.
Independent Auditors' Reports..................................... 45-46 Consolidated Balance Sheets as of December 31, 1999 and 1998...... 47-48 Consolidated Statements of Operations for the Years Ended December 31, 1999, 1998 and 1997............................ 49 Consolidated Statements of Shareholders' Equity for the Years Ended December 31, 1999, 1998, and 1997................ 50-52 Consolidated Statements of Cash Flows for the Years Ended December 31, 1999, 1998 and 1997............................. 53 Notes to Consolidated Financial Statements........................ 54-82
Accounting principles generally accepted in Canada vary in certain significant respects from accounting principles generally accepted in the United States in GEC's circumstances, as described in note 14 to GEC's consolidated financial statements.
PICO HOLDINGS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997
- owning and developing land, mineral rights, and related water rights through Nevada Land & Resource Company, LLC; - owning and developing water rights & water storage operations through Vidler Water Company, Inc.; - property and casualty insurance; - "running off" the loss reserves of our medical professional liability insurance companies; and - making strategic investments in other public companies.
Nevada Land & Resource Company, LLC ("Nevada Land"). In April 1997, PICO acquired Nevada Land, which then owned approximately 1.4 million acres of deeded land in northern Nevada, together with the attaching water, mineral and geothermal rights.
Vidler Water Company, Inc. ("Vidler"). Vidler is a majority-owned Delaware corporation that was originally formed under the laws of the state of Colorado. Vidler's business involves identifying end users, namely municipalities or developers, in the Southwest who require water, and then locating a source and supplying the demand, utilizing the company's own assets where possible. These assets comprise water rights in the states of Colorado, Arizona, Nevada and California, and water storage facilities in Arizona and California.
SISCOM, Inc. ("SISCOM"). SISCOM is a Colorado corporation that markets proprietary technology to the sports and broadcast industries.
The Company's investment portfolio at December 31, 1999 and 1998 is comprised of investments with fixed maturities, including U.S. government instruments, certificates of deposit, and corporate bonds; equity securities, including investments in common and preferred stocks, and warrants; debentures of public and private companies; oil and gas leases; short term investments, including certificates of deposit, U.S. treasury bills and mortgage interests; and real estate.
The Company regularly reviews the carrying value of its investments for impairment. A decline in the market value of any investment below cost that is deemed other than temporary is written down to net realizable value. Adjustments for write-downs are reflected in net realized gains or losses on investments in the consolidated statements of operations.
Land, Minerals and Related Water Rights; Water Rights and Water Storage:
Land, Minerals and Related Water Rights and Water Rights and Water Storage, and land improvements are carried at cost. Water rights consist of various water interests acquired independently or in conjunction with the acquisition of real properties. Water rights are stated at cost and, when applicable, consist of an allocation of the original purchase price between water rights and other assets acquired based on their relative fair values. In addition, costs directly related to the acquisition and development of water rights are capitalized. This cost includes, when applicable, the allocation of the original purchase price, costs directly related to acquisition, and interest and other costs directly related to developing land for its intended use. Amortization of land improvements is computed on the straight-line method over the estimated useful lives of the improvements ranging from 5 to 15 years. Provision is made for any diminution in value that is considered to be other than temporary.
Property and equipment are carried at cost, net of accumulated depreciation. Depreciation is computed on the straight-line method over the estimated lives of the assets ranging from 3 to 15 years. Maintenance and repairs are charged to expense as incurred, while significant improvements are capitalized. Gains or losses on the sale of property and equipment are included in other income.
Reserves for MPL and property and casualty insurance unpaid losses and loss adjustment expenses include amounts determined on the basis of actuarial estimates of ultimate claim settlements, which include estimates of individual reported claims and estimates of incurred but not reported claims. The methods of making such estimates and for establishing the resulting liabilities are continually reviewed and updated based on current circumstances, and any adjustments resulting therefrom are reflected in current operations. Reserves for MPL unpaid losses and loss adjustment expenses for MPL insurance claims have been adjusted to reflect the time value of money (discounting).
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 established requirements for disclosure of comprehensive income and is effective for the Company for the year ended December 31, 1998. The Company adopted the new standard for the year ended 1998, and has reclassified previous financial statements to conform to the new presentation. Comprehensive income or loss includes foreign currency translation, and unrealized holding gains and losses on available for sale securities, which prior to adoption were reported separately in stockholders' equity. The components of accumulated other comprehensive loss are as follows:
Accumulated other comprehensive loss is net of deferred income tax liability of $658,000 and deferred income tax benefit of $1.3 million at December 31, 1999 and 1998, respectively.
These unaudited pro forma results have been prepared for comparative purposes and do not purport to be indicative of the results of operations which actually would have resulted had the combinations been in effect at the beginning of the period or of future results of operations of the consolidated entities.
At November 3, 1999 the Company increased its ownership of Conex from 66% to 83% through the redemption of its remaining preferred shares and conversion of intercompany loans into common stock. At August 2, 1999 the Company increased its ownership of Conex from 32% to 66% through the redemption of preferred shares, the proceeds from which were used to exercise warrants for common shares. The consolidated results of operations for the year ended December 31, 1999 reflect the consolidation of Conex for the period August 3 to December 31. Previous to consolidation, the investment was accounted for using the equity method. Consequently, the results of operations for the year ended December 31, 1999 include 32% of the losses in the unconsolidated affiliate for the period January 1 to August 2, 1999. Conex's primary asset is a 60% sino-foreign joint venture that manufactures wheeled and tracked excavators in The People's Republic of China.
The following is the results of operations of Conex for the year ended December 31, 1999:
The amortized cost and carrying value of investments in fixed maturities at December 31, 1999, by contractual maturity, are shown below. Expected maturity dates may differ from contractual maturity dates because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
During 1999 and 1998, the Company recorded $3.2 million and $8.2 million, respectively, in permanent write downs of investments to recognize what is expected to be other than temporary declines in the market values of those securities.
During 1999, the Company purchased 6,166,657 shares of Australian Oil and Gas ("AOG") for $6.6 million and received 420,494 shares as a dividend valued at $452,000. During 1998, the Company purchased 857,309 shares of Australian Oil and Gas ("AOG") for $803,000. At December 31, 1999 the Company owns a total of 7,444,460 shares, representing a 15.9% interest in AOG. During 1999, the Company purchased 76,600 shares of Jungfraubahn Holding AG ("Jungfraubahn") based in Interlaken, Switzerland for $11.8 million, bringing the total holding to 109,200 shares, or 18.7% of the company. The acquisition was financed with $7 million in cash and the remaining balance in debt.
Approximately $26.8 million of the total gross realized gains for the year ended December 31, 1997 were generated from the conversion of Resource America, Inc. warrants and the immediate sale of the converted common stock. For the year ended December 31, 1997, Global Equity recorded a permanent write down of $8 million (of which approximately $3.8 million represented the realization of accumulated foreign currency translation adjustments recorded by Global Equity) in the value of its investment in Korean securities in recognition of what is expected to be an other than temporary decline in the market value of those securities. These write-downs have been recorded as a realized loss.
During the three years ended December 31, 1999, HyperFeed recorded various capital transactions that affected PICO's voting ownership percentage. In 1999, HyperFeed issued common stock related to the conversion of options and warrants and stock in a private placement. These transactions diluted PICO's ownership percentage approximately 3% to 35% at the end of 1999. During 1998, there were various capital transactions, other than the debt conversion, that affected PICO's voting ownership percentage. In summary, PICO's ownership percentage increased from 16.5% at the beginning of 1998 to 18% at June 30, 1998 then declined to 17.7% at September 30, 1998. The debt conversion during the fourth quarter of 1998 increased PICO's voting percentage to approximately 38% at the end of 1998. In 1997, HyperFeed sold 5 million shares common stock and warrants to purchase 500,000
5. LAND, MINERALS AND RELATED WATER RIGHTS; WATER RIGHTS AND WATER STORAGE:
Because these subsidiaries represented major segments of the Company's business, in accordance with APB No. 30 "Reporting the Results of Operations--Reporting the Effects of Disposal of a Segment of a Business," operations for all of 1999, 1998 and 1997 have been classified as discontinued operations.
The following reconciles income (loss) from continuing operations to net income (loss):
Following is an unaudited summary of these Sri Lankan companies stand alone financial results for the period included as discontinued operations in the accompanying financial statements.
PICO Holdings' 1995 Non-Qualified Stock Option Plan. PICO was authorized to issue 521,030 shares of common stock pursuant to awards granted in various forms, including incentive stock options (intended to qualify under Section 422 of the Internal Revenue Code of 1986, as amended), non-qualified stock options, and other similar stock-based awards to full-time employees (including officers) and directors. The options granted to employees vest either (i) at the rate of 25%, 33% or 50% per year on each of the first four, three or two year anniversaries of the date of grant, as applicable, or (ii) at a rate of 33% upon grant and 33% per year on each of the first two anniversaries of the date of grant. A total of 512,005 options have been issued from this plan. No options were granted from the plan in 1998. The Company granted stock options in 1996 and 1995 under this plan in the form of incentive stock options and non-qualified stock options. All issued options from this plan are fully vested.
PICO Holdings' 1998 Global Equity/PICO Option Plan. As discussed above, PICO assumed 484,967 options to existing Global Equity option holders pursuant to the acquisition of the remaining shares of Global Equity by exchanging PICO options for Global Equity options. The options granted from this plan placed the participants in an economically equivalent position regarding the number of shares, exercise price, and with vesting according to their original terms.
PICO Holdings' 1999 Option Plan. PICO is authorized to issue 10,665 shares of common stock pursuant to awards granted in various forms, including incentive stock options (intended to qualify under Section 422 of the Internal Revenue Code of 1986, as amended), non-qualified stock options, and other similar stock-based awards. On January 1, 1999, PICO granted 10,665 non-qualified common stock options to an officer of the Company at an exercise price of $13.25 per share. The options were immediately vested and expire in 10 years.
The fair value of each stock option granted is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions for grants in 1999 and 1998, respectively: no dividend yield for all years; risk-free interest rates are different for each grant ranging from 5% to 6.97%; the expected lives of options are estimated at 10 years and 7 years, respectively; and a volatility of 54% for the 1999 grants, and 62% for the 1998 grants.
In the normal course of business, the Company's insurance subsidiaries have entered into various reinsurance contracts with unrelated reinsurers. The Company's insurance subsidiaries participate in such agreements for the purpose of limiting their loss exposure and diversifying their business. Reinsurance contracts do not relieve the Company's insurance subsidiaries from their obligations to policyholders.
Effective October 1, 1997, PRO and Physicians entered into a 100% quota share reinsurance treaty wherein PRO agreed to cede and Physicians agreed to assume all of PRO's existing claims liabilities including allocated loss adjustment expenses, but excluding unallocated loss adjustment expenses. Physicians is to administer the settlement of all claims under PRO's policies issued prior to the effective date of the 100% quota share treaty for which Physicians will be reimbursed for direct expenses incurred in adjusting PRO's claims. This 100% quota share reinsurance treaty is secondary to all of PRO's reinsurance treaties in effect prior to its effective date.
Physicians uses a discount rate of 4% for statutory and financial reporting purposes. The method of determining the discount is based on historical payment patterns and assumes an interest rate at or below its own investment yield. The carrying value of MPL reserves gross as to reinsurance was approximately $71.9 million, net of discounting of $9.7 and $85.8 million, net of discounting of $11.3 million at December 31, 1999 and 1998, respectively.
PICO maintains a 401(k) Defined Contribution Plan covering substantially all employees of the Company. Matching contributions are based on a percentage of employee compensation. In addition, the Company may make a discretionary contribution at the end of the Plan's fiscal year within limits established by the Employee Retirement Income Securities Act. Contribution expense incurred by the Company for the three years ended December 31, 1999 was $862,000, $618,000 and $365,000, respectively.
The regulations of the Departments of Insurance in the states where the Company's insurance subsidiaries are domiciled generally restrict the ability of insurance companies to pay dividends or make other distributions. Based upon statutory financial statements filed with the insurance departments as of December 31, 1999, $3.5 million was available for distribution by the Company's wholly-owned insurance subsidiaries to the parent company without the prior approval of the Department of Insurance in the states in which the Company's insurance subsidiaries are domiciled. On July 31, 1998, American Physicians paid an $8 million dividend to Physicians Investment Company. On December 17, 1997, a subsidiary of Physicians, The Professional Insurance Company ("PRO"), paid Physicians a cash dividend of approximately $5.5 million. A dividend payment of $13.2 million was made on December 30, 1997 from Physicians to PICO Holdings, Inc. in the form of Global Equity common stock.
The Company leases some of its offices under non-cancelable operating leases that expire at various dates through October 2008. Total rent expense was $1.3 million, $1.5 million, and $1.5 million for the years ended December 31, 1999, 1998 and 1997, respectively. Future minimum rental payments required under the leases for the years ending December 31, are as follows:
On January 10, 1997, Global Equity commenced an action in British Columbia against MKG Enterprises Corp. ("MKG"), Vignoble Wines Agency Inc. ("Vignoble") to enforce repayment of a $5 million loan made by Global Equity to MKG. On the same day, the Supreme Court of British Columbia granted an order preventing MKG from disposing of certain assets pending resolution of the action. Global Equity subsequently brought a motion to have a receiver-manager appointed for MKG and Vignoble, which motion has been adjourned. In addition, in March 1999 Global Equity filed an action in the Supreme Court of British Columbia against a third party. This action states the third party had fraudulently entered into loan agreements with MKG. Accordingly, under this action Global Equity is claiming damages from the third party and restraining the third party from further action.
Summit is a Registered Investment Advisor providing investment advisory services to managed accounts including the Company's subsidiaries. On January 1, 1995, Summit's President and CEO was granted an option expiring December 31, 2004 to purchase 49% of Summit's common shares for a nominal amount, which represented the fair value on the grant date. No options have been exercised under this agreement. Two of the Company's directors, now officers of the Company, were instrumental in establishing the operations of Summit and are entitled to receive 50% of the first $1 million of profits attributed to PICO's ownership of Summit's common stock. No compensation was paid under this arrangement during 1999, 1998, or 1997. Subsequent to year-end, PICO sold its interest in Summit Global Management, Inc. to Summit's Chief Executive Officer for $100,000.
In 1998, the Company entered into an agreement with its president and chief executive officer to defer a portion of his 1998 regular compensation in a Rabbi Trust account held in the name of the Company. The deferrals are included within the Company's consolidated balance sheet. Salary deferrals to the trust amounted to $316,000 for 1998. There were no deferrals into this trust in 1999.
The Company acquired 412,846 shares of its common stock at a cost of $1.6 million, and assumed call option obligations for the delivery of these shares when the options are exercised. These call options expire on December 30, 2003 and are held by the chairman of PICO's board and its chief executive officer. On December 31, 1998, 57,307 of these options were exercised for a total of $200,000.
publications of the NAIC, as well as state laws, regulations and general administrative rules. Permitted statutory accounting practices encompass all accounting practices not so prescribed. Physicians has received written approval from the Ohio Department to discount its MPL unpaid loss and loss adjustment expense reserves, including related reinsurance recoverable using a 4% discount rate. Statutory practices vary in certain respects from generally accepted accounting principles. The principal variances are as follows:
1) Certain assets are designated as "non-admitted assets" and charged to shareholders' equity for statutory accounting purposes (principally certain agents' balances and office furniture and equipment).
PICO is engaged in water rights and water storage through its subsidiary Vidler. Vidler is engaged in the following activities:
Sequoia writes property and casualty insurance in California and Nevada, focusing on the niche markets of farm insurance and small to medium-sized commercial insurance. Sequoia writes a small amount of personal insurance, and is pursuing two opportunities to increase this business.
In the past, Citation wrote commercial property and casualty insurance in California and Arizona. After the reverse merger was completed, management identified redundancies between Citation and Sequoia, and combined the operations of the two companies into one location. Sequoia now directly writes all business in California and Nevada. Citation is licensed in 7 states, but only writes insurance in Arizona. The level of premium generated is minor.
Until 1995, Physicians and Professionals wrote medical professional liability insurance, mostly in the state of Ohio. Physicians and Professionals have stopped writing new business and are being "run off". This means that they are handling claims arising from historical business, and selling investments when funds are needed to pay claims.
- - BANK AND OTHER BORROWINGS: Carrying amounts for these items approximate fair value because current interest rates and, therefore, discounted future cash flows for the terms and amounts of loans disclosed in Note 22, are not significantly different from the original terms.
Global Equity SA entered into two loan agreements with Swiss banks to partially finance the purchase of additional shares of Jungfraubahn Holding A.G. The loans are collateralized by a portion of the shares held in custody at the banks, are due February 3, 2000, and bear interest at 3.95% (LIBOR 1.45 + 250 basis points). The loans were repaid in full upon maturity and were replaced by a credit facility with a Swiss bank which provides for flexible terms with interest rates ranging from LIBOR + 2% for fixed term loans to 4 1/4% for current advances. A portion of the shares held at the bank collateralizes the new loan.
Nevada Land & Resource Company issued a $5 million promissory note, maturing on October 1, 2000 in connection with the acquisition of lands. The note was collateralized by 9.4 acres of land, which held geothermal leases. The notes bore interest at 9% and were paid monthly to the extent that payment was received on four geothermal leases associated with the land. In April 1999, Nevada Land & Resource Company settled the note payable by exchanging the particular land deed, which was collateral for the note. As a result of this settlement the Company recognized an extraordinary gain of $442,240, net of taxes.
The Company's future minimum principal debt repayments for the years ending December 31, are as follows:
Shareholders were offered 1 right to buy 1 new share at $15 for every 2 common shares held at March 1, 2000.
An investment partnership called PICO Equity Investors, L.P. has agreed to acquire shares which are not subscribed for, up to a total of 3,333,333 shares with an aggregate subscription price of $50 million. In the event that less than 3,333,333 shares of common stock remain unpurchased by our shareholders on March 27, 2000, PICO has committed to sell and PICO Equity Investors, L.P. has committed to purchase the number of shares necessary to increase the total number of shares purchased by PICO Equity Investors, L.P. to 3,333,333. If no rights are exercised and PICO Equity Investors, L.P. purchases all the standby commitment shares of common stock it is required to purchase under the standby commitment, PICO Equity Investors will own approximately 19.9% of PICO's common stock after the rights offering. PICO Equity Investors, an entity managed by PICO Equity Investors Management, LLC, which is owned by three of PICO's current directors (including PICO's Chairman of the Board and PICO's President and Chief Executive Officer), will exercise all voting and investment decisions with respect to these shares for up to 10 years.
The Company will use the net proceeds of the offering to develop existing water and water storage assets, acquire additional water assets, acquire strategic investments, and for general working capital needs.
The rights offering closed on March 27, 2000 resulting in the issuance of 3,415 additional shares of common stock with proceeds of $51,225. On March 28, 2000, 3,333,333 additional shares of common stock were issued to PICO Equity Investors, L.P. under the standby commitment for $50,000,000.