The Group's executive and administrative offices are located on six floors of a ten-story office building at 122 Fifth Avenue, New York, New York 10011 and some additional space in the surrounding area under leases, each of which expire on September 30, 1998.
The Group has entered into a twenty-year lease agreement in an office building in Brooklyn, New York, in which Leucadia has an equity interest, and will relocate its executive and administrative offices in September 1998. The Group received certain incentives from both the City and State of New York in connection with this lease, which will be recognized over the term of the lease.
The Company maintains cash, short-term and readily marketable securities and anticipates that the cash flow from investment income and maturities of long term fixed maturities will be sufficient to satisfy its anticipated cash needs. The Company does not presently anticipate paying dividends in the near future and believes it has sufficient capital to meet its currently anticipated level of operations.
During the three years ended December 31, 1997, the Company received servicing fees for providing administrative and claims services for the NYPAP. During 1997, the premium volume that the Group managed under this program significantly declined primarily due to the ongoing depopulation of the NYPAP, which is expected to continue, and increased competition. During 1997, the Group's agreement with NYPAP contributed approximately $900,000 to the Company in pre-tax income, net of servicing expenses. Effective February 28, 1998, the Group ceased serving as a servicing carrier for the NYPAP, thereby enabling the Group to concentrate its resources on its core non-service businesses and redeploy certain resources previously dedicated to the NYPAP. Accordingly, the Group will not provide such services in 1998, except for the run-off of the remaining NYPAP claims, which will occur over approximately a two-year period. The Group believes it has provided sufficient reserves for future claims servicing costs related to such run-off business.
The 1995 reserve strengthening included approximately $6.9 million for private passenger automobile lines of business and $3.0 million for workers' compensation lines of business. In early 1994, the private passenger automobile business increased significantly as a result of the acquisition of a large block of assigned risk business. The acquisition of this block of business nearly doubled the volume previously written by the Company. Early in 1995, losses began to develop in this line of business that indicated a higher ultimate loss ratio than the Company had experienced on similar blocks of assigned risk business from earlier periods, which experience formed the basis of the Company's original loss estimate. The Company believes the increased losses in this line resulted primarily from its inability to effectively process a much larger volume of claims from its significantly increased customer base. Consequently, claims investigation and file documentation were not conducted timely which led to higher claim costs. With respect to workers' compensation lines, the Company's policies provide insurance coverage to the employer if employees are able to successfully assert liability for employer negligence in providing a safe working environment. During 1995, a relatively small number of such claims with large dollar values emerged that had not been previously anticipated. The emergence of these claims, and the fact that the workers' compensation line of business is susceptible to the emergence of losses over an extended period, resulted in a revision of the Company's estimate of ultimate losses and reserves were increased.
For the lines of business discussed above, as well as all other property and casualty lines of business, the Company employs a variety of standard actuarial loss projection techniques, statistical analyses and case base evaluations to estimate its liability for unpaid losses. The actuarial projections include an extrapolation of both losses paid and incurred by business line and accident year and implicitly consider the impact of inflation and claims settlement patterns upon ultimate claim costs based upon historical patterns. These estimates are performed quarterly and consider any changes in trends and actual loss experience. Any resulting change in the estimate of the liability for unpaid losses, including those discussed above, is reflected in current year earnings during the quarter the change in estimate is identified.
The reserving process relies on the basic assumption that past experience is an appropriate basis for predicting future events. The probable effects of current developments, trends and other relevant matters are also considered. Since the establishment of loss reserves is affected by many factors, some of which are outside the Company's control or affected by future conditions, reserving for property and casualty claims is a complex and uncertain process, requiring the use of informed estimates and judgements. As additional experience and other data become available and are reviewed, the Company's estimates and judgements may be revised. While the effect of any such changes in estimates could be material to future results of operations, the Company does not expect such changes to have a material effect on its liquidity or financial condition.
In management's judgement, information currently available has been appropriately considered in estimating the Company's loss reserves. The Company will continue to evaluate the adequacy of its loss reserves on a quarterly basis, incorporating any future changes in trends and actual loss experience, and record adjustments to its loss reserves as appropriate.
The combination of other underwriting expenses incurred and the amortization of deferred policy acquisition costs reflected a decrease of approximately $7.8 million, or 27.8% in 1997, and increases of $1.7 million, or 6.6% in 1996. The decrease in 1997 was primarily the result of lower operating costs, primarily relating to pension and severance benefits for certain employees, and a decrease in the provision for servicing carriers expenses in connection with the NYPAP, offset by higher systems costs. The increase in 1996 was the result of higher operating costs primarily relating to pension and severance benefits for certain employees coupled with higher systems costs.
The Company has evaluated its information technology systems to determine the potential impact of the year 2000. The year 2000 issue is the result of computer programs being written using two digits (rather than four) to define the applicable year. Any programs that have time-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000, which could result in miscalculations or system failures. In 1996, the Group began to evaluate its information technology systems and their ability to support future business needs. This led to a decision to acquire new policy management and accounting systems. These systems provide enhanced functionality and improved processing for underwriting, claims, billing, collection, reinsurance, reporting and accounting and are designed to be year 2000 compliant. The Group anticipates that these new systems will be fully implemented in 1999. The Company does not expect that the year 2000 issue will have a material effect on its consolidated financial position or consolidated results of operations. However, the year 2000 issue may affect other entities with which the Company transacts business, and the Company cannot predict the effect of the year 2000 issue on such entities.
Statements included in this Report may contain forward-looking statements. Such forward-looking statements are made pursuant to the safe-harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements may relate, but are not limited, to projections of revenues, income or loss, capital expenditures, fluctutations in insurance reserves, plans for growth and future operations, competition and regulation as well as assumptions relating to the foregoing. Forward-looking statements are inherently subject to risks and uncertainties, many of which cannot be predicted or quantified. When used in this Report, the words "estimates", "expects", "anticipates", "believes", "plans", "intends" and variations of such words and similar expressions are intended to identify forward- looking statements that involve risks and uncertainties. Future events and actual results could differ materially from those set forth in, contemplated by or underlying the forward-looking statements. The factors that could cause actual results to differ materially from those suggested by any such statements include, but are not limited to, those discussed or identified from time to time in the Company's public filings, including general economic and market conditions, changes in domestic laws, regulations and taxes, changes in competition and pricing environments, regional or general changes in asset valuation, the occurence of significant natural disasters, the inability to reinsure certain risks economically, the adequacy of loss reserves, prevailing interest rate levels and changes in the composition of the Company's assets and liabilities through acquisitions or divestitures. Undue reliance should not be placed on these forward-looking statements, which are applicable only as of the date hereof. The Company undertakes no obligation to revise or update these forward-looking statements to reflect events or circumstances that arise after the date of this Report or to reflect the occurrence of unanticipated events.
Financial Reporting Release No. 48 ("Accounting Policies for Derivative Financial Instruments and Derivative Commodity Instruments") issued on February 4, 1997 by the Securities Exchange Commission requires certain domestic and foreign issuers to disclose the accounting policies for derivative instruments and derivative commodity instruments and disclosure of quantitative and qualitative information about market risk inherent in these instruments. The Company's market capitalization is under the reporting threshold for 1997 and accordingly no disclosure is included herein. The Company will be required to disclose such information beginning with 1998 financial activity.