Lease costs of the Company's office facilities in Oak Brook, Illinois, and Bismarck, North Dakota, which total approximately $187,000 and $137,000 annually, are included as expenses under the pooling agreement. See note 2 of Notes to Consolidated Financial Statements under Item 8 of this Form 10-K.
Income taxes ................... 1,885 759 3,124 2,894 2,055 -------- -------- -------- -------- -------- Income from continuing operations ................... 7,134 216 7,308 7,946 6,722
* Prior year assets have been restated to reflect the reporting of ceded reinsurance balances as assets in accordance with SFAS 113. See note 1 of Notes to Consolidated Financial Statements under Item 8 of this Form 10-K.
EMC Insurance Group Inc. (the "Company"), an approximately 67 percent owned subsidiary of Employers Mutual Casualty Company ("Employers Mutual"), is an insurance holding company with operations in property and casualty insurance, reinsurance, nonstandard risk automobile insurance and excess and surplus lines insurance management. Property and casualty insurance is the most significant segment, representing 70.1 percent of consolidated premium income.
Effective January 1, 1993, the pooling agreement was amended so that the voluntary assumed reinsurance business written by Employers Mutual is no longer subject to cession to the pool members. As a result, amounts assumed from nonaffiliates have declined from amounts assumed in prior years. In connection with this change in the pooling agreement, the Company's liabilities decreased $4,470,000 and invested assets decreased $4,427,000. Employers Mutual reimbursed the Company $43,000 for commissions incurred to generate this business.
(2) Effective June 30, 1993, Employers Mutual commuted the portion of the quota share agreement that pertains to a casualty pool that is in a run- off position. In connection with this change in the quota share agreement, the Company's liabilities decreased $19,783,000 and invested assets decreased $17,806,000. The reserve discount amount of $1,977,000 was recorded as deferred income and is being amortized into operations over the estimated settlement period of the reserves, which is ten years. During 1993, $259,000 was recognized as income.
(3) Effective October 31, 1993, Employers Mutual commuted the portion of the quota share agreement that pertains to a voluntary pool that handles large "highly protected" risks. This pool has experienced deteriorating underwriting results over the last several years and Employers Mutual is presently considering whether to continue its participation in the pool beyond 1994. In connection with this change in the quota share agreement, the Company's liabilities decreased $3,827,000 and invested assets decreased $2,620,000. Employers Mutual reimbursed the Company $1,207,000 for commissions incurred to generate this business. No reserve discount was calculated as this business involves short-tail property coverage.
Operating income before income taxes was $9,019,000 in 1993, $975,000 in 1992 and $10,432,000 in 1991. Results for 1992 were significantly affected by catastrophe losses, which totaled $16,569,000. This compares to catastrophe losses of $8,513,000 in 1993 (which includes $1,283,000 of development on Hurricane Andrew) and $3,652,000 in 1991. Results for 1993 and 1992 were negatively impacted by poor experience in the nonstandard risk automobile insurance subsidiary and declining production in the excess and surplus lines insurance management agency.
Premiums earned totaled $156,438,000 in 1993, 147,410,000 in 1992 and $113,419,000 in 1991. The large increase in 1992 reflects the change in the property and casualty insurance subsidiaries' pool participation. Premium volume increased substantially in the reinsurance subsidiary and the nonstandard risk automobile insurance subsidiary in 1993 while the property and casualty insurance subsidiaries remained relatively flat.
Net investment income totaled $20,780,000 in 1993, $21,540,000 in 1992 and $20,202,000 in 1991. The large increase in 1992 reflects investment income earned on $29,402,000 transferred to the property and casualty insurance subsidiaries in connection with the change in pool participation. The decrease in 1993 is primarily due to a decline in invested assets resulting from the transfer of $24,853,000 to Employers Mutual in connection with the change in the property and casualty insurance subsidiaries' pooling agreement relating to the voluntary assumed reinsurance business and the commutation of two reinsurance contracts under the reinsurance subsidiary's quota share agreement.
* Effective January 1, 1993, the Company adopted Statement of Financial Accounting Standards No. 106 (SFAS 106), "Employers' Accounting for Postretirement Benefits Other Than Pensions". The Company adopted SFAS 106 by recognizing the transition obligation as a cumulative effect adjustment to income. The Company's transition obligation amounted to $2,166,000 ($.21 per share), net of income tax benefits of $1,116,000.
* Effective January 1, 1993, the Company adopted Statement of Financial Accounting Standards No. 109 (SFAS 109), "Accounting for Income Taxes". The Company adopted SFAS 109 as a cumulative effect adjustment to income. The Company recognized a benefit of $5,595,000 ($.55 per share), net of a valuation allowance of $1,000,000.
* Effective January 1, 1993, the Company adopted Statement of Financial Accounting Standards No. 113 (SFAS 113), "Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts". SFAS 113 requires a gross (rather than net) balance sheet presentation for ceded reinsurance amounts and addresses the recognition of gain or loss resulting from reinsurance transactions and appropriate financial statement disclosure of reinsurance activities. Ceded reinsurance amounts previously reported on a net basis in the December 31, 1992 balance sheet have been reclassified for comparative purposes. Assets and liabilities increased $20,075,000 and $28,891,000 at December 31, 1993 and 1992, respectively, as a result of the gross-up of ceded balances related to reinsurance receivables on losses and settlement expenses and prepaid reinsurance premiums. Adoption of this statement had no effect on the income of the Company.
Premiums earned increased .4 percent to $109,585,000 in 1993, 39.2 percent to $109,139,000 in 1992 and 11.1 percent to $78,413,000 in 1991. The large increase in 1992 reflects $24,821,000 from the change in pool participation. Depressed rates caused by the soft market, a shift of large commercial insureds to alternative risk mechanisms and the generally weak economy contributed to the small increase in 1993. In addition to these factors, results for 1993 reflect the change in the pooling agreement whereby effective January 1, 1993, the voluntary assumed reinsurance business written by Employers Mutual is no longer subject to cession to the pool members. This business accounted for $1,442,000 of earned premiums (including reinstatement premiums) in 1992.
Underwriting loss decreased 46.8 percent to $3,813,000 in 1993, increased 39.3 percent to $7,169,000 in 1992 and increased 76.5 percent to $5,147,000 in 1991. Catastrophe losses had a significant impact on these results, totaling $3,372,000 in 1993, $4,631,000 in 1992 and $2,980,000 in 1991. Results for the last three years have been negatively impacted by a strengthening of workers' compensation reserves. The Company had underestimated the cost of medical expenses associated with workers' compensation claims due to greater than expected increases in the price and usage of drugs, medical durables and medical services. Losses totaling $1,998,000, $1,026,000 and $1,272,000 were charged to operations during 1993, 1992 and 1991, respectively. Employers Mutual has assigned additional staff to supervise the reserving process for workers' compensation claims and to more closely monitor the development of such reserves. In addition, Employers Mutual now employs medically trained persons to assist in determining proper reserve levels based on the future medical needs of the insureds. All major claims have been reviewed and the Company believes that the reserves are now adequate. Results for 1993 reflect $880,000 of losses related to the Midwest summer floods and the change in the pooling agreement whereby effective January 1, 1993, the voluntary reinsurance business written by Employers Mutual is no longer subject to cession to the pool members. Underwriting losses associated with the voluntary reinsurance business (including catastrophe losses) amounted to $1,427,000 in 1992.
Inadequate rate increases and the increasing burden of residual markets in some states reduces the profit potential for the workers' compensation line of business in those states. The parties to the pooling agreement have adjusted rates, policyholder dividends and underwriting standards in these problem states and have experienced a planned overall decline in writings for this line of business. Workers' compensation will continue to be an important line of business for the parties to the pooling agreement; however, the percentage of workers' compensation written premiums to total written premiums is expected to decline gradually as the parties to the pooling agreement refine their underwriting standards based on current conditions in each state.
Operating income before income taxes increased 110.0 percent to $510,000 in 1993, decreased 332.8 percent to a loss of $5,089,000 in 1992 and increased 71.8 percent to $2,186,000 in 1991. Results for 1993 and 1992 were significantly impacted by catastrophe losses, poor experience in two voluntary pools and continued development in a casualty pool that is in a run-off position. Investment income declined 10.0 percent to $6,090,000 in 1993, 5.4 percent to $6,763,000 in 1992 and 2.6 percent to $7,149,000 in 1991. The large decline in 1993 is primarily attributable to the transfer of $20,426,000 to Employers Mutual in connection with the commutation of two reinsurance contracts. Declining interest rates for current investments contributed to the decline in 1992 and 1991.
The following changes were implemented in 1993 to improve the future operating results of the reinsurance subsidiary: (1) the quota share agreement was amended so that effective January 1, 1993, losses in excess of $1,000,000 per event are retained by Employers Mutual; (2) management reduced the aggregate liability in hurricane prone areas by moving to a higher attachment point in nationally exposed programs and by terminating several reinsurance arrangements with other reinsurers that had severe hurricane losses; (3) Employers Mutual commuted two reinsurance contracts under the quota share agreement that have produced very poor results over the last several years.
Operating results before income taxes decreased 65.4 percent to a loss of $1,268,000 in 1993, decreased 153.1 percent to a loss of $767,000 in 1992 and increased 51.9 percent to a profit of $1,444,000 in 1991. Results for 1993 and 1992 were significantly impacted by increased loss frequency and severity associated with a new book of business and a strengthening of loss and settlement expense reserves. Investment income decreased 1.1 percent to $1,166,000 in 1993, 11.3 percent to $1,179,000 in 1992 and 2.1 percent to $1,329,000 in 1991 due to the declining interest rates available for current investments.
The nonstandard risk marketplace is very competitive. Policies are written for relatively short periods of time and insureds continually search for the most attractive rates. In response to the favorable results achieved in 1991, the company began increasing market share in 1992 by offering more competitive rates. The company experienced adverse selection in this new business as the standard market began to accept marginal risks during this same time period. As a result, losses associated with this new business exceeded the premiums received.
Underwriting results decreased 27.6 percent to a loss of $2,543,000 in 1993, decreased 1,911.8 percent to a loss of $1,993,000 in 1992 and increased 126.7 percent to a profit of $110,000 in 1991. In addition to the adverse selection experienced in 1993 and 1992, the company also strengthened its loss and expense reserves in each of these years.
The company has applied for rate increases in all states and is currently reviewing its book of business to identify those risks with unacceptable loss experience. The company will take appropriate action, up to and including the cancellation of specific risks, to improve future loss experience. Rate increases are not expected to have a significant impact on the company's market share in 1994.
The Company maintains a portion of the investment portfolio in relatively short-term and highly liquid investments to ensure the availability of funds to meet claims and expenses. The remainder of the investment portfolio is invested in securities with maturities that approximate the anticipated liabilities of the insurance issued. The major ongoing sources of the Company's liquidity are insurance premium income, investment income and cash provided from maturing or liquidated investments. The principal outflows of cash are payments of claims, commissions, premium taxes, operating expenses, income taxes, dividends and investment purchases.
The National Association of Insurance Commissioners (NAIC) has recently adopted certain risk-based capital standards for property and casualty insurance companies which will be implemented in 1994. Risk-based capital requirements attempt to measure minimum statutory capital needs based upon the risks in a company's mix of products and investment portfolio. The formula has been designed to help state regulators assess capital adequacy of insurance companies and identify property/casualty insurers that are in (or perceived as approaching) financial difficulty by establishing minimum capital needs based upon the risks applicable to the operations of the individual insurer. The formula takes into consideration industry performance and individual insurer financial characteristics by examining a number of financial criteria to test its perceived levels of risk against assets available to bear such risks. The model act adopted by the NAIC provides a minimum level of capital at which a State Commissioner of Insurance may act to place an insurer under certain restraints or in the worst case, to place an insurer under his or her control. These risk-based capital rules are a quantitative measurement technique which purport to quantify the minimum amount of capital necessary to match the degree of financial risk. It is a method for specifying how much minimum capital an insurer must have, based on the risks it has assumed, to assure that it maintains an acceptably low probability of financial impairment.
The risk-based capital requirements for property and casualty insurance companies will measure three major areas of risk facing property and casualty insurers: asset risk, credit risk and underwriting risk. Companies having less statutory surplus than required by the risk-based capital requirements are subject to varying degrees of regulatory scrutiny and intervention, depending on the severity of the inadequacy. The Company's insurance subsidiaries' ratio of total adjusted capital to risk-based capital at December 31, 1993 is well in excess of the level which would prompt regulatory action.
The majority of the Company's assets are invested in fixed maturities. These investments provide a substantial amount of income which offsets underwriting losses and contributes to net earnings. As these investments mature the proceeds will be reinvested at current rates, which are significantly lower than those now being earned; therefore, less investment income will be available to contribute to net earnings.
As of December 31, 1993, the Company had no material commitments for capital expenditures.
A source of cash flows for the holding company is dividend payments from its subsidiaries. State insurance regulations restrict the maximum amount of dividends insurance companies can pay without prior regulatory approval. See note 8 of Notes to Consolidated Financial Statements for additional information regarding dividend restrictions. The Company collected $860,000, $3,288,000 and $3,600,000 of dividends from its insurance subsidiaries in 1993, 1992 and 1991, respectively and $106,000 of dividends from its excess and surplus lines insurance agency in 1991. The Company paid cash dividends to stockholders totaling $3,443,000, $5,104,000 and $5,082,000 in 1993, 1992 and 1991, respectively. The decrease in 1993 is due to the fact that Employers Mutual received 50 percent of its dividends in common stock under the Company's dividend reinvestment and common stock purchase plan.
The consolidated financial statements and related financial information in this annual report are the responsibility of management. The consolidated financial statements have been prepared in accordance with generally accepted accounting principles and necessarily include certain amounts that are based on management's best estimates and judgments.
/s/ E.H. Creese - ------------------------------------ E. H. Creese, C.P.A. Senior Vice President, Treasurer and Chief Financial Officer
As discussed in notes 1, 10, 12 and 13 to the consolidated financial statements, the Company changed its method of computing unearned premiums in 1993 and implemented the provisions of the Financial Accounting Standards Board's Statements No. 106, "Employers Accounting for Postretirement Benefits Other Than Pensions", No. 109, "Accounting for Income Taxes", No. 113, "Accounting and Reporting for Reinsurance of Short-Duration and Long-Duration Contracts" and No. 115, "Accounting for Certain Investments in Debt and Equity Securities".
Investments (note 10): Fixed maturities: Securities held-to-maturity, at amortized cost (market value $206,305,597 and $266,719,495) $191,010,623 $250,552,858 Securities available-for-sale, at market value (amortized cost $109,947,564) ............... 113,081,580 - Equity securities available-for-sale, at market value (cost $505,000 and $1,560,000) .......... 475,000 1,418,000 Short-term investments, at cost which approximates market value ..................... - 59,198,070 ------------ ------------ Total investments .......................... 304,567,203 311,168,928 ------------ ------------
Losses and settlement expenses (notes 2, 3 and 4) . $197,121,852 $215,388,865 Unearned premiums (notes 2, 3 and 4) .............. 45,941,056 45,984,474 Other policyholders' funds ........................ 2,854,793 3,695,397 Income taxes payable .............................. 550,000 668,000 Postretirement benefits (note 12) ................. 3,537,449 - Deferred income (note 2) .......................... 1,717,641 - Other liabilities ................................. 7,578,963 6,159,587 ------------ ------------ Total liabilities .......................... 259,301,754 271,896,323 ------------ ------------
Common stock, $1 par value, authorized 20,000,000 shares; issued and outstanding, 10,325,329 shares in 1993 and 10,161,760 shares in 1992 ........... 10,325,329 10,161,760 Additional paid-in capital ........................ 55,021,926 53,507,459 Unrealized holding gains on fixed maturity securities available-for-sale, net of tax ....... 2,068,451 - Unrealized holding losses on equity securities available-for-sale, net of tax .................. (19,800) (142,000) Retained earnings ................................. 42,319,249 37,866,902 Treasury stock, at cost (8,090 shares in 1993 and 49,392 shares in 1992) ...................... (81,386) (483,344) ------------ ------------ Total stockholders' equity ................. 109,633,769 100,910,777 ------------ ------------ Contingent liabilities (notes 3, 13 and 16)
Year ended December 31, ---------------------------------------- 1993 1992 1991 ------------ ------------ ------------ Revenues: Premiums earned (notes 2 and 3) ... $156,437,538 $147,410,287 $113,419,238 Investment income, net (note 10) .. 20,779,951 21,539,597 20,201,993 Realized investment gains (note 10) 684,445 384,283 64,418 Other income (note 2) ............. 259,217 - - ------------ ------------ ------------ 178,161,151 169,334,167 133,685,649 ------------ ------------ ------------ Losses and expenses: Losses and settlement expenses (notes 2 and 3) ........ 120,355,299 122,087,833 88,104,919 Dividends to policyholders ........ 2,494,284 3,382,736 1,757,923 Amortization of deferred policy acquisition costs ........ 30,717,175 29,291,362 24,255,722 Other underwriting expenses ....... 15,575,257 13,597,179 9,135,247 ------------ ------------ ------------ 169,142,015 168,359,110 123,253,811 ------------ ------------ ------------ Income from continuing operations before income taxes and cumulative effect of changes in accounting principles ....... 9,019,136 975,057 10,431,838 ------------ ------------ ------------ Income taxes (note 13): Current ........................... 1,903,128 2,260,795 3,905,736 Deferred .......................... (18,027) (1,501,430) (781,719) ------------ ------------ ------------ 1,885,101 759,365 3,124,017 ------------ ------------ ------------ Income from continuing operations before cumulative effect of changes in accounting principles 7,134,035 215,692 7,307,821
Income from continuing operations before cumulative effect of changes in accounting principles $ .70 $ .02 $ .73
Unearned premiums ............ (.08) - - ------------ ------------ ------------ Net income ................. $ .96 $ .02 $ .91 ============ ============ ============
Earnings per common share ......... $1.04 $ .03 $ .89 ============ ============ ============
Retained earnings, beginning of year $ 37,866,902 $ 42,891,128 $ 38,947,265 Net income .......................... 9,755,379 215,692 9,161,055 Dividends on common stock ($.52 per share in 1993, 1992 and 1991): Cash dividends .................. (3,443,465) (5,103,890) (5,081,607) Dividends reinvested in shares of common stock .............. (1,859,567) (136,028) (135,585) ------------ ------------ ------------ Retained earnings, end of year ...... 42,319,249 37,866,902 42,891,128 ------------ ------------ ------------
Year ended December 31, ------------------------------------- 1993 1992 1991 ----------- ----------- ----------- Cash flows from operating activities: Income from continuing operations .... $ 9,755,379 $ 215,692 $ 7,307,821 ----------- ----------- ----------- Adjustments to reconcile income to net cash (used in) provided by operating activities: Cumulative effect of changes in accounting principles, net of tax (2,621,344) - - Losses and settlement expenses .... 8,010,617 33,143,232 7,571,843 Unearned premiums ................. 650,196 4,122,176 2,472,252 Other policyholders' funds ........ (840,604) 880,866 (217,686) Deferred policy acquisition costs 413,967 (2,189,375) (523,277) Indebtedness of related party ..... (8,639,436) 2,261,884 (5,269,702) Accrued investment income ......... (242,595) (168,511) 29,659 Accrued income taxes: Current ......................... (118,000) (2,390,000) 951,000 Deferred ........................ (18,027) (1,501,430) (781,719) Provision for amortization ........ (23,072) 23,660 65,284 Realized investment gains ......... (684,445) (384,283) (64,418) Postretirement benefits ........... 255,782 - - Reinsurance receivables ........... 9,389,384 (12,828,945) 3,004,446 Prepaid reinsurance premiums ...... 805,733 (945,813) (61,779) Amortization of deferred income ... (259,217) - - Other, net ........................ 225,040 1,184,844 (961,824) ----------- ----------- ----------- 6,303,979 21,208,305 6,214,079 Cash (used in) provided by the change in the property and casualty insurance subsidiaries' pooling agreement (note 2) ...... (4,426,945) 29,402,411 -
Cash flows from financing activities: Issuance of common stock .......... 331,568 748,405 550,023 Dividends paid to stockholders (note 6(c)) ........ (3,443,465) (5,103,890) (5,081,607) Purchase of treasury stock, net ... (118,641) (278,241) (399,107) ------------ ------------ ------------ Net cash used in financing activities ............... (3,230,538) (4,633,726) (4,930,691) ------------ ------------ ------------ Net (decrease) increase in cash ..... (1,334,309) 1,407,617 (1,068,924)
The Company sold its life insurance subsidiary to Employers Mutual on December 31, 1991. All information presented in this report reflects the life segment as a discontinued operation (see note 5).
Unpaid losses and settlement expenses are based on estimates of reported and unreported claims and related settlement expenses. Changes in estimates are reflected in current operating results. The provisions for losses and settlement expenses are considered adequate to cover the ultimate net cost of losses and claims incurred to date net of estimated salvage and subrogation recoverable. Since the provisions are necessarily based on estimates, the ultimate liability may be more or less than such provisions.
Effective December 31, 1993, the Company adopted Statement of Financial Accounting Standards No. 115 (SFAS 115) "Accounting for Certain Investments in Debt and Equity Securities." SFAS 115 requires that investments in all debt securities and those equity securities with readily determinable market values be classified into one of three categories: held-to-maturity, trading or available-for-sale. Classification of investments is based upon management's current intent. Debt securities which management has a positive intent and ability to hold until maturity are classified as securities held-to-maturity and are carried at amortized cost. Unrealized holding gains and losses on securities held-to-maturity are not reflected in the consolidated financial statements. Debt and equity securities that are purchased for short-term resale are classified as trading securities. Trading securities are carried at market value, with unrealized holding gains and losses included in earnings. All other debt and equity securities not included in the above two categories are classified as securities available-for-sale. Securities available-for-sale are carried at market value, with unrealized holding gains and losses reported as a separate component of stockholders' equity, net of tax. At December 31, 1993 the Company did not have any investments categorized as trading securities. Adoption of this statement had no effect on the income of the Company.
Prior to December 31, 1993, investments in fixed maturities were carried at amortized cost, equity securities were carried at market value and short- term investments were carried at cost. Changes in unrealized holding gains and losses resulting from the revaluation of equity securities were reported as direct increases and decreases in stockholders' equity. Unrealized holding gains and losses on fixed maturities and short-term investments were not recognized in the consolidated financial statements.
The Company's carrying value for investments in the held-to-maturity and available-for-sale categories is reduced to its estimated realizable value if a decline in the market value is deemed other than temporary. Such reductions in carrying value are recognized as realized losses and charged to income. Premiums and discounts on debt securities are amortized over the life of the security as an adjustment to yield using the effective interest method. Realized gains and losses on disposition of investments are included in net income. The cost of investments sold is determined on the first-in, first-out method. Included in investments at December 31, 1993 and 1992 are securities on deposit with various regulatory authorities as required by law amounting to $11,329,402 and $10,774,732, respectively.
Net periodic pension cost relating to the Company's employee participation in Employers Mutual's Retirement Plan is computed on the basis of Statement of Financial Accounting Standards No. 87, "Employers' Accounting for Pensions", and includes the following components: service cost, interest cost, actual return on assets for the period and amortization of unrealized gain/loss from past experience. It is the Company's policy to fund pension costs according to regulations provided under the Internal Revenue Code. Assets held in the Plan are a mix of equity, debt and guaranteed interest securities.
Effective January 1, 1993, the Company adopted Statement of Financial Accounting Standards No. 106 (SFAS 106), "Employers' Accounting for Postretirement Benefits Other Than Pensions". Under SFAS 106, the cost of postretirement benefits other than pensions must be recognized on an accrual basis as employees perform services to earn the benefits. Prior to 1993, the cost of retiree health care and life insurance benefits were recognized as expenses when paid.
Certain amounts previously reported in prior years' consolidated financial statements have been reclassified to conform to current year presentation.
Effective January 1, 1993, the pooling agreement was amended so that the voluntary assumed reinsurance business written by Employers Mutual is no longer subject to cession to the pool members. As a result, amounts assumed from nonaffiliates have declined from amounts assumed in prior years. In connection with this change in the pooling agreement, the Company's liabilities decreased $4,470,204 and invested assets decreased $4,426,945. Employers Mutual reimbursed the Company $43,259 for commissions incurred to generate this business.
Effective January 1, 1993, the quota share agreement was amended so that losses in excess of $1,000,000 per event are retained by Employers Mutual. EMC Re pays an annual override commission to Employers Mutual for this additional protection, which totaled $1,808,527 in 1993. Employers Mutual retained $615,000 of losses under this agreement in 1993.
Premiums assumed by the reinsurance subsidiary from Employers Mutual amounted to $34,445,978, $35,777,710 and $29,291,685 in 1993, 1992 and 1991, respectively. It is customary in the reinsurance business for the assuming company to compensate the ceding company for the acquisition expenses it incurred in the generation of the business. Commissions paid by the reinsurance subsidiary to Employers Mutual amounted to $8,979,309, $10,242,650 and $8,873,078 in 1993, 1992 and 1991, respectively.
The reinsurance subsidiary has an aggregate excess of loss treaty with Employers Mutual which provides protection from a large accumulation of retentions resulting from multiple catastrophes in any one calendar year. The coverage provided is $2,000,000 excess of $2,500,000 ($2,000,000 in 1991) aggregate losses retained, excess of $200,000 per event. Maximum recovery is limited to $4,000,000 per accident year. EMC Re recovered $143,501, $4,221,444 and $607,306 under this treaty and paid reinstatement premiums of $208,470, $744,561 and $0 in 1993, 1992 and 1991, respectively. Total premiums paid to Employers Mutual amounted to $708,445, $1,124,561 and $320,000 in 1993, 1992 and 1991, respectively.
As of December 31, 1993, deductions for reinsurance ceded to two unaffiliated reinsurers aggregated $12,191,018, which represented a significant portion of the total prepaid reinsurance premiums and reinsurance receivables for losses and settlement expenses. These amounts reflect the property and casualty insurance subsidiaries' pool participation percentage of amounts ceded by Employers Mutual to these organizations in connection with its role as "service carrier". Under these arrangements, Employers Mutual writes business for these organizations on a direct basis and then cedes 100 percent of this business to these organizations. Credit risk associated with these amounts is minimal as all companies writing direct business in the states that participate in these organizations are responsible for the liabilities of such organizations on a pro rata basis.
The consolidated financial statements report the life segment's results as discontinued operations on a separate line in the 1991 statement of income. Income from discontinued operations is net of applicable income tax benefit of $150,939.
Under the Employers Mutual 1987 Employee Stock Purchase Plan, Employers Mutual could purchase up to 200,000 shares of EMC Insurance Group Inc. common stock for resale to eligible employees. The plan provided for two option periods each calendar year; from January 1 until the last business day of June, and from July 1 until the last business day of December, with the last business day in each option period being the option exercise date. Any employee who was employed by Employers Mutual, its affiliates, or its subsidiaries on the first day of the month immediately preceding any option period was eligible to participate in the plan. Eligible employees could elect to participate in the plan either through payroll deduction or by lump sum contributions, but in no case could the participation level exceed 10 percent of the employee's base annual compensation amount. The option price was 85 percent of the fair market value of the stock on the exercise date. The plan was terminated in August of 1993 and the remaining shares were deregistered. For the first option period of 1993, 101 employees participated in the plan and exercised a total of 10,706 options at a price of $8.08. Activity under the plan was as follows:
Year ended December 31, ------------ Shares available for purchase, beginning of year .......... - Shares registered for use in plan ....................... 500,000 Shares purchased under plan ............................. (13,454) ------------ Shares available for purchase, end of year ................ 486,546 ============
Year ended December 31, ------------ Shares available for purchase, beginning of year .......... - Shares registered for use in plan ....................... 200,000 Shares purchased under plan ............................. (5,952) ------------ Shares available for purchase, end of year ................ 194,048 ============
Year ended December 31, ------------------------------- 1993 1992 1991 ------- ------- ------- Outstanding, beginning of year ............ 387,093 447,393 431,193 Granted ............................... - 82,900 62,500 Exercised ............................. (24,820) (58,540) (41,300) Expired ............................... (10,200) (84,660) (5,000) ------- ------- ------- Outstanding, end of year .................. 352,073 387,093 447,393 ======= ======= ======= Shares exercisable, end of year ........... 214,680 168,082 195,644 ======= ======= =======
Statutory policyholders' surplus of the Company's insurance subsidiaries was $78,681,248 and $73,638,088 at December 31, 1993 and 1992, respectively. Statutory net income (loss) of the Company's insurance subsidiaries was $8,788,458, ($3,960,393) and $4,852,271 for the three years ended December 31, 1993.
The amortized cost and estimated market value of securities held-to- maturity and available-for-sale as of December 31, 1993 are as follows. The estimated market value is based on quoted market prices, where available, or on values obtained from independent pricing services.
Gross Gross Estimated Amortized Unrealized Unrealized Market December 31, 1993 Cost Gains Losses Value ----------------- ------------ ----------- ----------- ------------ Securities held-to-maturity: U.S. Treasury securities and obligations of U.S. government corporations and agencies ........... $109,895,914 $ 9,931,812 $ (630) $119,827,096 Obligations of states and political subdivisions ........... 18,374,003 1,936,083 (2,129) 20,307,957 Debt securities issued by foreign governments 587,060 70,343 - 657,403 Public utilities ......... 8,813,202 336,199 (910) 9,148,491 Corporate securities ..... 17,050,988 819,896 (467) 17,870,417 Mortgage-backed securities 36,289,456 2,204,777 - 38,494,233 ------------ ----------- ----------- ------------ Total fixed maturity securities held-to- maturity ........... $191,010,623 $15,299,110 $ (4,136) $206,305,597 ============ =========== =========== ============
Securities available-for-sale: Obligations of states and political subdivisions ........... $ 58,431,008 $ 3,038,591 $ (74,084) $ 61,395,515 Other debt securities .... 486,941 4,779 (2,070) 489,650 Short-term investments ... 51,029,615 166,800 - 51,196,415 ------------ ----------- ----------- ------------ Total fixed maturity securities available-for-sale $109,947,564 $ 3,210,170 $ (76,154) $113,081,580 ============ =========== =========== ============ Equity securities available-for-sale $ 505,000 $ - $ (30,000) $ 475,000 ============ =========== =========== ============
Gross Gross Estimated Amortized Unrealized Unrealized Market December 31, 1992 Cost Gains Losses Value ----------------- ------------ ----------- ----------- ------------ U.S. Treasury securities and obligations of U.S. government corporations and agencies ............ $144,419,244 $ 9,242,068 $ (281,096) $153,380,216 Obligations of states and political subdivisions ............ 51,188,090 4,393,165 (99,395) 55,481,860 Debt securities issued by foreign governments .. 590,502 50,452 - 640,954 Public utilities .......... 9,693,693 191,934 (37,746) 9,847,881 Corporate securities ...... 16,560,387 405,443 (183,348) 16,782,482 Mortgage-backed securities 26,983,821 2,500,728 (309) 29,484,240 Other debt securities ..... 1,117,121 19,400 (34,659) 1,101,862 ------------ ----------- ----------- ------------ Total fixed maturity securities held-to- maturity ............ $250,552,858 $16,803,190 $ (636,553) $266,719,495 ============ =========== =========== ============ Equity securities available-for-sale .. $ 1,560,000 $ - $ (142,000) $ 1,418,000 ============ =========== =========== ============
The amortized cost and estimated market value of fixed maturity securities held-to-maturity and available-for-sale at December 31, 1993, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Estimated Amortized Market Cost Value ------------ ------------ Fixed maturity securities held-to-maturity: Due in one year or less ................... $ 14,613,909 $ 14,887,469 Due after one year through five years ..... 55,951,990 61,054,939 Due after five years through ten years .... 73,944,312 80,286,921 Due after ten years ....................... 10,210,956 11,582,035 Mortgage-backed securities ................ 36,289,456 38,494,233 ------------ ------------ Totals .................................. $191,010,623 $206,305,597 ============ ============
Fixed maturity securities available-for-sale: Due in one year or less ................... $ 51,429,559 $ 51,599,338 Due after one year through five years ..... 10,168,440 10,476,611 Due after five years through ten years .... 31,194,883 33,453,428 Due after ten years ....................... 17,154,682 17,552,203 ------------ ------------ Totals .................................. $109,947,564 $113,081,580 ============ ============
Proceeds from calls and prepayments of fixed maturity securities and realized investment gains and losses were as follows:
A summary of realized investment gains (losses) and net changes in unrealized holding gains (losses) is as follows:
Year ended December 31, ------------------------------------- 1993 1992 1991 ----------- ----------- ----------- Realized investment gains (losses): Fixed maturities .................. $ 696,377 $ 384,283 $ 64,418 Equity securities ................. (11,932) - - ----------- ----------- ----------- Total realized investment gains 684,445 384,283 64,418 Applicable income taxes ........... (232,711) (130,656) (21,902) ----------- ----------- ----------- Net realized investment gains 451,734 253,627 42,516 ----------- ----------- ----------- Net changes in unrealized holding gains (losses): Fixed maturity securities held-to-maturity ................ (871,663) (2,088,038) 11,501,606 Fixed maturity securities available-for-sale .............. 3,134,016 - - Equity securities available-for-sale .............. 112,000 184,375 298,625 Applicable income taxes ........... (807,280) 647,245 (4,012,079) ----------- ----------- ----------- Net changes in unrealized holding gains (losses) ...... 1,567,073 (1,256,418) 7,788,152 ----------- ----------- ----------- Net realized investment gains and changes in unrealized holding gains (losses) ...................... $ 2,018,807 $(1,002,791) $ 7,830,668 =========== =========== ===========
The Company participates in Employers Mutual's defined benefit retirement plan covering substantially all employees. The plan is funded by employer contributions and provides a monthly income for life upon retirement or upon total and permanent disability.
The following table sets forth the funded status and the net periodic pension cost (benefit) for the Employers Mutual defined benefit retirement plan, based upon a measurement date of November 1, 1993, 1992 and 1991, respectively:
As discussed in note 1, Summary of Significant Accounting Policies, the Company adopted SFAS 106 as of January 1, 1993. The Company's transition obligation as of January 1, 1993 amounted to $2,165,900 ($.21 per share), net of income tax benefits of $1,115,767, and was recorded as a cumulative effect adjustment to income. Prior year financial statements have not been restated to apply the provisions of SFAS 106.
Net periodic postretirement benefit cost for the year ended December 31, 1993 included the following components:
Effective January 1, 1993, the health care postretirement plan was amended to provide additional benefits under the prescription drug coverage. The amendment substantially reduced the retired employee's cost sharing provisions for prescription drug coverage. The amendment resulted in a prior service cost of $5,105,109, which will be amortized over 8.9 to 10.0 years beginning January 1, 1994. The Company's share of the prior service cost amounted to $1,156,028.
As discussed in note 1, Summary of Significant Accounting Policies, the Company adopted SFAS 109 as of January 1, 1993. The cumulative effect of this change in accounting for income taxes as of January 1, 1993 increased income by $5,595,177 ($.55 per share), net of a valuation allowance of $1,000,000, and is reported separately in the consolidated statement of income for the year ended December 31, 1993. Excluding the amount recognized as the cumulative effect of the change, the effect of applying SFAS 109 on net income for the year ended December 31, 1993 was a decrease of $174,483 ($.02 per share). Prior year consolidated financial statements have not been restated to apply the provisions of SFAS 109.
Year ended December 31, ------------------------ 1993 1992 ----------- ----------- Loss reserve discounting .......................... $12,549,200 $ 7,239,227 Unearned premium reserve limitation ............... 2,953,491 2,886,863 Postretirement benefits ........................... 1,202,733 - Policyholder dividends payable .................... 970,630 1,209,346 Prepayment of tax on commutation of loss reserves 583,998 - Other, net ........................................ 617,529 201,763 ----------- ----------- Total gross deferred income tax asset ......... 18,877,581 11,537,199
Less valuation allowance .......................... (1,000,000) - ----------- ----------- Total deferred income tax asset ............... 17,877,581 11,537,199 ----------- ----------- Deferred policy acquisition costs ................. (2,617,614) (2,758,363) Net unrealized holding gains ...................... (1,055,365) - Other, net ........................................ (1,163,909) (1,713,615) ----------- ----------- Total gross deferred income tax liability ..... (4,836,888) (4,471,978) ----------- ----------- Net deferred income tax asset ............. $13,040,693 $ 7,065,221 =========== ===========
The valuation allowance primarily relates to the tax benefit of future postretirement benefit deductions that are scheduled to reverse more than fifteen years into the future. The valuation allowance was established for these future deductions due to the uncertainty of the timing of these deductions. There was no change in the valuation allowance during the year ended December 31, 1993.
Management believes the Company will generate sufficient taxable income in the future to recognize the benefits of future tax deductions. The Company has had cumulative taxable income in the five-year period of 1989 - 1993 of approximately $37,500,000.
The actual income tax expense for the years ended December 31, 1993, 1992 and 1991 differed from the "expected" tax expense for those years (computed by applying the United States federal corporate tax rate of 34 percent to income from continuing operations before income taxes and cumulative effect of changes in accounting principles) as follows:
The Internal Revenue Service is currently examining the Company's 1990 and 1991 tax returns. The Company does not expect any material assessments related to these examinations.
Year ended December 31, ------------------------------------- 1993 1992 1991 ----------- ----------- ----------- Statutory net income (loss) ........... $ 8,761,472 $(3,118,589) $15,271,311 Change in deferred policy acquisition costs ................... (413,967) 2,189,375 523,277 Change in salvage and subrogation accrual ............................. (232,760) 742,233 81,119 Change in other policyholders' funds .. 840,604 (880,866) 217,686 Change in pension accrual ............. (103,846) 622,177 275,628 GAAP postretirement benefit cost in excess of statutory cost ......... (216,091) - - Deferred income tax benefit ........... 18,027 1,501,430 781,719 Income from discontinued operations (note 4) ................. - - 1,853,234 Statutory gain on sale of life subsidiary ..................... - (474,356) (9,900,000) Statutory reserve discount on commutation of reinsurance contract in excess of GAAP amortization ...... (1,717,641) - - Other, net ............................ 198,237 (365,712) 57,081 ----------- ----------- ----------- Income before cumulative effect of changes in accounting principles, GAAP basis .......................... 7,134,035 215,692 9,161,055
Income taxes ...................... 5,595,177 - - Postretirement benefits ........... (2,165,900) - - Unearned premiums ................. (807,933) - - ----------- ----------- ----------- Net income, GAAP basis ................ $ 9,755,379 $ 215,692 $ 9,161,055 =========== =========== ===========
The carrying amount of (1) cash, (2) accounts receivable, (3) indebtedness of related party, (4) accounts payable and (5) accrued expenses approximate fair value because of the short maturity of these instruments.
The estimated fair value of the Company's investments at December 31, 1993 are summarized as follows. The estimated fair value is based on quoted market prices, where available, or on values obtained from independent pricing services (see note 10).
Carrying Estimated Amount Fair Value ------------ ------------ Fixed maturity securities held-to-maturity ...... $191,010,623 $206,305,597 Fixed maturity securities available-for-sale .... $113,081,580 $113,081,580 Equity securities available-for-sale ............ $ 475,000 $ 475,000
Employers Mutual has entered into unsecured financing arrangements with several large commercial policyholders. The Company, under terms of the pooling agreement, is a 22 percent participant in these policies (note 2). At December 31, 1993, the Company is contingently liable for $1,738,000 of unsecured receivables held by Employers Mutual.
The Financial Accounting Standards Board has issued Statement of Financial Accounting Standards No 112 (SFAS 112), "Employers' Accounting for Postemployment Benefits". SFAS 112 requires that the cost of certain postemployment benefits that vest or accumulate be accrued over the period of an employee's service. SFAS 112 is effective for fiscal years beginning after December 31, 1993. The Company will adopt this standard in the first quarter of 1994. Adoption of this standard is not expected to have a material effect on the income of the Company.
Income before income taxes (benefit) ........ $ 3,375,144 $ 476,062 $ 627,295 $ 4,540,635 Income taxes (benefit) ... 1,262,205 (963,626) 392,546 1,193,976 ----------- ----------- ----------- ----------- Income from operations ... 2,112,939 1,439,688 234,749 3,346,659 Income from accounting changes ................ 2,621,344 - - - ----------- ----------- ----------- ----------- Net income .......... $ 4,734,283 $ 1,439,688 $ 234,749 $ 3,346,659 =========== =========== =========== ===========
Three months ended, -------------------------------------------------- March 31 June 30 September 30 December 31 ----------- ----------- ----------- ----------- - ---- Total revenues ........... $40,592,007 $41,298,060 $42,664,483 $44,779,617 =========== =========== =========== =========== Income (loss) before income taxes (benefit) $ 2,315,687 $ 1,015,692 $(2,472,573) $ 116,251 Income taxes (benefit) ... 299,983 516,923 (879,335) 821,794 ----------- ----------- ----------- ----------- Net income (loss) ... $ 2,015,704 $ 498,769 $(1,593,238) $ (705,543) =========== =========== =========== ===========
Earnings (loss) per share* $ .20 $ .05 $ (.16) $ (.07) =========== =========== =========== ===========
Income before income taxes $ 3,089,115 $ 773,182 $ 2,070,921 $ 4,498,620 Income taxes ............. 614,989 170,077 622,519 1,716,432 ----------- ----------- ----------- ----------- Income from continuing operations ............. 2,474,126 603,105 1,448,402 2,782,188 Income from discontinued operations ............. 458,529 469,056 637,317 288,332 ----------- ----------- ----------- ----------- Net income .......... $ 2,932,655 $ 1,072,161 $ 2,085,719 $ 3,070,520 =========== =========== =========== =========== Earnings per share:* Income from continuing operations ............. $ .25 $ .06 $ .15 $ .27 Income from discontinued operations ............. .04 .05 .06 .03 ----------- ----------- ----------- ----------- Net income .......... $ .29 $ .11 $ .21 $ .30 =========== =========== =========== ===========
* Since the weighted average shares for the quarters are calculated independent of the weighted average shares for the year, quarterly earnings per share may not total to annual earnings per share.