The Company and its subsidiaries occupy a 7 story office building located at 233 Main Street, in New Britain, Connecticut. ACMAT leases approximately 40% of the building to unaffiliated tenants. The office building is suitable and adequate for ACMAT's current and future requirements.
Earned premiums in 1998 were $10,962,663 compared to $15,045,844 in 1997. Net written premiums were $8,203,617 in 1998 compared to $12,680,197 in 1997. The decrease in earned premiums in 1998 reflects the 35% decrease in 1998 net written premiums over 1997 net written premiums primarily due to a continuing soft insurance market place and the Company's strategy to avoid current unfavorable pricing in the Company's casualty operations. Variances in net written premiums have historically occurred due to the fluctuations in size, number and timing of bonds and policies bound by the Company. The Company plans to maintain its existing pricing strategy and high level of service.
Contract revenues were $12,139,924 in 1998 compared to $10,056,322 in 1997. The increase in contract revenues reflects the Company's securement of an $11 million project in July 1998 which will be completed in August of 1999. Construction revenue is difficult to predict in 1999 and depends greatly on the successful securement of contracts bid. The Company's construction backlog at December 31, 1998 was approximately $6,000,000 compared to $4,800,000 at December 31, 1997.
Realized capital gains from the sale of investments during 1998 were $266,169 compared to realized capital gains of $282,667 in 1997.
Other income (expense) was ($754,588) in 1998 compared to $1,662,586 in 1997. The fluctuation in other income (expense) is due to a loss of approximately $1,400,000 for the Company's share of losses from a limited partnership in 1998 which compares to a gain of approximately $965,000 in 1997. The limited partnership invests in small cap equities and incurred losses in 1998 due to volatility in the small cap market. The Company sold its investment in the limited partnership on December 31, 1998.
Amortization of policy acquisition costs was $2,112,857 in 1998 as compared to $2,802,993 in 1997. The decrease in amortization of policy acquisition costs is primarily attributable to the decrease in premiums earned. Policy acquisition costs, primarily commissions, are deferred and amortized over the policy or bond term.
Interest expense decreased to $4,621,401 in 1998 from $5,116,414 in 1997. The decrease in interest expense in 1998 is due to a decrease in long-term and short-term debt.
Income tax expense was $719,696 in 1998 compared to $1,739,616 in 1997, representing effective Federal tax rates of 23.2% and 27.3%, respectively. The decrease in the Federal effective tax rate is due to tax exempt interest income and dividends subject to the dividend received deduction making up a larger portion of taxable income.
Interest expense has increased to $5,116,414 in 1997 from $4,946,418 in 1996. The increase in interest expense in 1997 was due primarily to an increase in long-term debt issued to purchase stock offset in part by a decrease in short-term debt.
The combined ratio is one means of measuring the underwriting experience of a property and casualty insurer. The combined ratio, consisting of the ratio of losses and loss adjustment expenses to premiums earned (the "loss ratio") plus the ratio of underwriting expenses to premiums written (the "expense ratio") reflects relative underwriting profit or loss. The Company's insurance subsidiaries' loss ratios under generally accepted accounting principles ("GAAP") were 19.6%, 28.8% and 30.0% for the years ended December 31, 1998, 1997 and 1996, respectively. These loss ratios are below industry averages and are believed to be the result of conservative underwriting. The decrease in the loss ratios is due to the release of Surety reserves in 1998 and 1997. There can be no assurance that such loss ratios can continue. The Company's insurance subsidiaries' expense ratios under GAAP were 51.8%, 48.0% and 43.5% for the years ended December 31, 1998, 1997 and 1996, respectively. The increase in the expense ratios is due to the decline in premiums. The Company's insurance subsidiaries' combined ratios under GAAP were 71.4%, 76.8% and 73.5% for the years ended December 31, 1998, 1997 and 1996, respectively. The decrease in the 1998 combined ratio results primarily from the reduction in loss reserves offset in part by the decline in premiums.
ACMAT's principal sources of funds are dividends from its wholly owned subsidiaries, intercompany and short-term borrowings, insurance underwriting fees from its subsidiaries, construction contracting operations and rental income. Management believes that these sources of funds are adequate to serve its indebtedness. ACMAT has recently utilized short-term borrowings to repurchase its stock. ACMAT has also relied on dividends from its insurance subsidiaries to repay debt.
The Company used cash flow from other sources to support operations in the amount of $530,977 in 1998, compared to cash flow realized from operations of $5,585,329 in 1997 and $14,260,264 in 1996. The reduction in cash flows from operations is due primarily to the return of cash collateral and the payment of claims. Substantially all of the Company's cash flow is used to repay short-term and long-term debt, repurchase stock and purchase investments. Purchases of investments are made based upon excess cash available after the payment of losses and loss adjustment expenses and other operating and non-operating expenses. The Company's short term investment strategy coincides with the relatively short maturity of its liabilities which are comprised primarily of reserves for losses covered by claims-made insurance policies, reserves related to surety bonds and collateral held for surety obligations.
Net cash provided by investing activities was $21,326,746 in 1998, and $4,993,298 in 1997. Net cash used for investing activities amounted to $11,392,397 in 1996.
The terms of the Company's note agreements contain limitations on payment of cash dividends, re-acquisition of shares, borrowings and investments and require maintenance of specified ratios and minimum net worth levels, including cross default provisions. The payment of future cash dividends and the re-acquisition of shares are restricted each to amounts of an available fund ("Available Fund"). The Available Fund is a cumulative fund which is increased each year by 20% of the Consolidated Net Earnings (as defined). The Company is in compliance with all covenants at December 31, 1998, except for the ratio of Earnings Before Income Taxes, Depreciation and Amortization to Fixed Charges. The Company has received a waiver for this covenant.
The Company maintains a short-term unsecured bank credit line of $10 million to fund interim cash requirements. There were no borrowings outstanding under this line of credit as of December 31, 1998. Effective December 23, 1998, the Company obtained a $5,000,000, five-year, term loan which is repayable in quarterly installments commencing March 1, 1999. Portions of the proceeds of such term loan were applied to the repayment of term debt and to the reduction of the Company's short-term credit line.
During 1998, the Company purchased, in the open market and privately negotiated transactions, 4,769 shares of its Common Stock at an average price of $20.65. The Company also purchased, in open market and privately negotiated transactions, 342,366 shares of its Class A Stock at an average price of $15.10 per share.
There has been significant public discussion in recent years of the "Year 2000" issue, which relates to the potential inability of computer programs and systems to adequately store and process data after December 31, 1999, due to the inability of such programs and systems to identify correct dates subsequent to December 31, 1999.
In 1997, the Company began to address the Year 2000 issue. The Company's financial and operational computer and software systems are approximately 60% compliant, with all systems expected to be compliant and tested by June 30, 1999. The total cost of the project is estimated to be less than $100,000 and is being funded through operating cash flows. Management believes that these systems will be suitable for continued use into and beyond the year 2000. If for any reason these systems are not suitable for such use, the Year 2000 issue could have a material adverse impact on the Company's ability to meet financial and reporting requirements and to support its insurance operations.
The Company's Year 2000 Review is intended to reduce the level of uncertainty associated with the Year 2000 issue. As part of this review, the Company plans to develop contingency plans to address and mitigate the potential impact of problems that might surface with the approach of the millennium. In light of the current stage of the Company's review of its core financial and operational systems and its "embedded chip" technology, the Company is developing contingency plans that focus on the potential interruption of support services provided to the Company by business affiliates or public authorities due to problems these parties may experience in connection with the Year 2000 issue. The Company intends to explore these and other "worst case" scenarios in the coming months to anticipate and limit, wherever possible, the potential impact of any such scenario on the Company's insurance operations or financial condition. These plans will include identifying alternate suppliers and vendors, conducting staff training and developing alternative communication plans.
The Company has made changes in insurance coverage it currently markets in light of the Year 2000 issue. In the past, judicial interpretations have expanded the coverage of insurance policies, including those regarding pollution and other environmental exposures, beyond the scope anticipated by insurers. The Company will continue to review its reserves in light of evolving developments relating to the Year 2000 issue.
Consolidated Statements of Earnings for the years ended December 31, 1998, 1997 and 1996
Notes to Consolidated Financial Statements - December 31, 1998, 1997 and
ACMAT CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998, 1997 AND 1996
ACMAT's Insurance Group includes United Coastal Insurance, ACSTAR and AMINS, Inc. United Coastal Insurance is an excess and surplus lines property and casualty insurer providing specialty general and environmental liability insurance to specialty trade and environmental contractors, property owners, storage and treatment facilities and allied professionals, as well as professional liability insurance to architects, engineers and consultants. ACSTAR is licensed as an admitted insurer in 49 states and the District of Columbia and provides surety bonding for specialty trade, environmental remediation and asbestos abatement contractors. AMINS, Inc. is an insurance agency which acts primarily as a general agent for ACSTAR and United Coastal Insurance. United Coastal Insurance participates in a number of reinsurance arrangements with other companies on a quota share basis. These arrangements primarily cover marine and other property catastrophic risks.
Securities are classified in one of three categories, held to maturity, trading or available for sale. Debt securities for which the Company has the ability and intent to hold to maturity are classified as held to maturity and are stated at amortized cost. Securities bought in anticipation of short-term market movements, if any, are classified as trading securities and are carried at market value with unrealized gains or losses reflected in the statement of income. Securities that are not classified as either held-to maturity securities or trading securities are classified as available for sale and are carried at market value with unrealized gains or losses included in other comprehensive income, net of income taxes.
Policy acquisition costs, representing commissions and certain underwriting costs, are deferred and amortized on a straight-line basis over the policy term. During the years ended December 31, 1998, 1997 and 1996, deferrable costs capitalized were $1,584,541, $1,975,523 and $3,063,875, respectively. The amortization of deferred policy acquisition costs charged to operations for the years ended December 31, 1998, 1997 and 1996 was $2,112,857, $2,802,993 and $3,617,308, respectively.
Revenue on construction contracts is recorded using the percentage of completion method. Under this method revenues with respect to individual contracts are recognized in the proportion that costs incurred to date relate to total estimated costs. Revenues and cost estimates are subject to revision during the terms of the contracts, and any required adjustments are made in the periods in which the revisions become known. Provisions are made, where applicable, for the entire amount of anticipated future losses on contracts in progress. Claims are recorded as revenue at the time of settlement and profit incentives and change orders are included in revenues when their realization is reasonably assured. Selling, general and administrative expenses are not allocated to contracts.
Fair value estimates are made at a specific point in time, based on quoted market prices and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company's entire holdings of a particular financial instrument. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
The amortized cost and fair value of fixed maturities at December 31, 1998 and 1997, by effective maturity, follows:
A summary of gross unrealized gains and losses at December 31, 1998 and 1997 follows:
Realized capital gains (losses) for the years ended December 31, 1998, 1997 and 1996 follows:
The balances billed but not paid by customers pursuant to retainage provisions in construction contracts will be due upon completion of the contracts and acceptance by the owner. In management's opinion, the majority of contract retainage is expected to be collected in 1999.
Future minimum rental income to be generated by leasing a portion of the building under non-cancelable operating leases as of December 31, 1998 are estimated to be $654,548 for 1999, $591,845 for 2000, $570,944 for 2001, $570,944 for 2002 and $486,944 for 2003. Rental income earned in 1998, 1997 and 1996 was $626,730, $561,852 and $504,063, respectively.
A summary of intangibles, acquired primarily in connection with purchases of the Company's insurance subsidiaries, at December 31, 1998 and 1997 follows:
At December 31, 1998, the Company has a $10,000,000 bank line of credit with a financial institution. The line of credit does not require the Company to maintain a compensating balance. There were no outstanding borrowings under this line of credit at December 31, 1998. Borrowings outstanding at December 31, 1997 under a previous line of credit were $5,000,000.
Under the terms of the line of credit, interest on the outstanding balance is calculated based upon the London Inter-Bank Offering Rate (LIBOR) plus 160 basis points in effect during the borrowing period.
On December 9, 1998, the Company obtained a $5,000,000, five-year term loan from a financial institution, which is currently payable in quarterly installments of $250,000 commencing March 1, 1999. The interest rate is fixed at 7.25%. The loan agreements contain certain limitations on borrowings, minimum statutory capital levels and require maintenance of specified ratios. The proceeds, along with internal funds, were used to refinance existing debt which existed at December 31, 1998.
The fair value at December 31, 1998 of the mortgage, the term loan and the senior notes approximate carrying value. It is not practicable to estimate the fair value of convertible note at December 31, 1998 because of the complex and unique terms associated with this debt instrument.
Taxes paid in 1998, 1997 and 1996 were $52,227, $1,790,253 and $1,556,471, respectively.
The Company and its subsidiaries maintain, for the benefit of non-union employees, a qualified thrift, profit sharing and retirement plan. Participants are required to contribute three percent of their compensation to the plan annually. The Company's contributions, established by the Board of Directors, were $85,000, $85,000 and $100,000 for 1998, 1997 and 1996, respectively.
The Company participated in various multi-employer defined contribution plans for its union employees. Upon withdrawal from these plans, the Company may be liable for its share of the unfunded vested liabilities of the plans. Such obligations, if any, of the Company are not determinable at December 31, 1998.
During 1997 and 1996, the Company issued 450,000 and 499,999, respectively, shares of Class A Stock at $10 per share pursuant to the conversion options of the Convertible Senior Notes to AIG Life Insurance Company and American International Life Assurance Company of New York, all of which was repurchased by the Company in 1997 (see Note 10). The issuance of stock pursuant to the conversion option of the Convertible Senior Notes is a non-cash transaction that is not reflected in the Consolidated Statement of Cash Flows.
The Company accounts for stock options in accordance with the provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees. Accordingly, compensation expense is recognized only if the fair value of the underlying stock at the grant date exceeds the exercise price of the option. Accordingly, no compensation cost has been recognized for stock options. Had compensation cost for the Company's stock options issued in 1996 been determined consistent with SFAS No. 123, "Accounting for Stock Based Compensation" the Company's net earnings and earnings per share would have been reduced to the pro forma amounts indicated below: There were no stock options granted in 1998 or 1997.
Under applicable insurance regulations, ACMAT's insurance subsidiaries are restricted as to the amount of dividends they may pay, without the prior approval of any insurance department and are limited to approximately $10,730,000 in 1999.
In accordance with statutory accounting principles, ACMAT's insurance subsidiaries' statutory capital and surplus was $55,124,801, and $70,989,140 at December 31, 1998 and 1997, respectively, and their statutory net income for the years ended December 31, 1998, 1997 and 1996 was $12,078,378, $12,383,045 and $8,778,843, respectively. The primary differences between amounts reported in accordance with GAAP and amounts reported in accordance with statutory accounting principles are excess statutory reserves over statement reserves (Schedule P Liability), carrying value of fixed maturity investments; assets not admitted for statutory purposes such as agents balances over 90 days, furniture and fixtures and certain notes receivable; and deferred acquisition costs and deferred taxes which are recognized for GAAP only.
Pursuant to various debt covenants, previously described, ACMAT is restricted from purchasing treasury stock and paying dividends greater than 20% of consolidated net earnings.
The Company adopted SFAS No. 128, Earnings per Share, on December 31, 1997. SFAS No. 128 supersedes APB Opinion No. 15, Earnings per Share, and replaces primary earnings per share and fully diluted earnings per share with basic earnings per share and diluted earnings per share, respectively. The Company has restated earnings per share for all prior periods presented to comply with the provisions of SFAS No. 128.
The following is a reconciliation of the numerators and denominators of the basic and diluted earnings per share ("EPS") computations for the years ended December 31, 1998, 1997 and 1996:
The Company is a party to legal actions arising in the ordinary course of its business. In management's opinion, the Company has adequate legal defenses respecting those actions where the Company is a defendant, has appropriate insurance reserves recorded, and does not believe that their settlement will materially affect the Company's operations or financial position.
Many construction projects in which the Company has been engaged have included asbestos exposures which the Company believes to involve a particularly high degree of risk because of the hazardous nature of asbestos. The Company believes it has reduced the risks associated with asbestos through proper training of its employees and by maintaining general liability and workers' compensation insurance. From 1986 to 1996, the Company obtained its general liability insurance from its insurance subsidiaries. Since 1989, the Company has obtained its surety bonds from its insurance subsidiary.
Effective January 1, 1998, the Company adopted SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information". SFAS No. 131 establishes standards for the way that public enterprises report information about operating segments in annual financial statements and requires that selected information about those operating segments be reported in interim financial statements. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and assessing performance. The Company redefined its reportable operating segments as a result of the adoption of SFAS No. 131 and segment information for 1997 and 1996 has been restated.
The following presents the condensed financial position of ACMAT Corporation (parent company only) as of December 31, 1998 and 1997 and its condensed statements of earnings and cash flows for the years ended December 31, 1998, 1997 and 1996.
The accompanying condensed financial statements should be read in conjunction with the Consolidated Financial Statements and Notes thereto in the Company's 1998 Annual Report.