The following selected financial data for the years ended December 31, 2003, 2002, 2001, 2000 and 1999 have been derived from the Company's audited financial statements.
Fiscal Year Ended December 31 -------------------------------------------------------------- 2003 2002** 2001 2000 1999** ----------- ------------ ----------- ----------- ----------- Premiums Assumed $38,171,866 $ 45,296,200 $51,131,226 $52,352,900 $67,104,475 =========== ============ =========== =========== =========== Premiums Returned $ 0 $ 1,635,656 $ 0 $ 0 $24,934,234 =========== ============ =========== =========== ===========
o The Company's net income for 2003 of $8.7 million represented the highest in the Company's history. It is an improvement of approximately 19% over 2002 net income and 52% over 2001 net income.
o Dividends of $8.0 million were declared and paid during March 2004. This dividend represents the highest in the Company's history and represents the fourth consecutive year that the overall dividend payout has increased.
o In 2003, the Company recorded a charge of approximately $0.02 million for securities with an unrealized loss position that was considered other than temporary. This compares to approximately $0.16 million written down in 2002 and $0 in 2001.
o In 2003, the Company implemented a Code of Ethics as mandated by the Sarbanes-Oxley Act of 2002.
addition, the Company evaluated whether the underlying security has demonstrated an ability to recover from unrealized loss positions in the past.
The liabilities for unpaid losses and loss expenses are actuarially determined and represent the accumulation of estimates for reported losses and a provision for losses incurred, but not reported, including claim adjustment expenses. For purposes of establishing reserves for unpaid losses, the Company relies upon the advice of MIC. Loss reserve projections are used to estimate loss reporting patterns, loss payment patterns, and ultimate claim costs. An inherent assumption in such projections is that historical patterns can be used to predict future patterns with reasonable accuracy. Because many variables can affect past and future loss patterns, the effect of changes in such variables on the results of loss projections must be carefully evaluated. The evaluation of these factors involves complex, subjective judgments, which may significantly impact the financial statements. Insurance liabilities are, therefore, necessarily based on estimates, and the ultimate liability may vary from such estimates. Establishing reserves is an uncertain process, and it is possible that actual claims will materially exceed reserves and have a material adverse effect on our results of operations and financial condition. These estimates are regularly reviewed by management and adjustments to such estimates are included in income on a current basis. See Note 4 to the Financial Statements.
The Company had unearned premium reserves of $76,246,766 as of December 31, 2003, compared to $83,482,170 as of December 31, 2002. Unearned premium amounts are attributable to the long-term nature of the vehicle service contracts sold. Such contracts may extend for up to 84 months from the date of issue. In addition, the risk of loss to the Company under the contract arises primarily after the underlying manufacturer's warranty expires. For new vehicles, the warranty generally covers 36 months or 36,000 miles from the date that the vehicle is initially placed into service. For used vehicles, the applicable warranty period depends on the unexpired portion of the original manufacturer's warranty at the time of purchase of the vehicle. Because the Company has limited exposure to risk of loss prior to expiration of the underlying manufacturer's warranty, most premium is not recognized as earned until after such expiration. Since very little premium is recognized as earned until after the expiration of the underlying warranty, most of the premium written in any year is recorded as unearned.
Barbados law requires that the Company's net assets equal at least the aggregate of $1,000,000 and 10% of the amount by which the earned premium exceeded $5,000,000 in the previous year. If the Company's net assets are less than mandated by Barbados law, the Company has the right to reduce the business related to a Subsidiary Capital Account by retrocession or any other means to the extent necessary to permit the Subsidiary Capital Account to meet its pro rata share of the Company's required capital and surplus. At January 1, 2004, the Company's required minimum net assets computed in accordance with Barbados law was $5,040,727 compared to total capital and retained earnings computed for purpose of Barbados law of $25,156,660.
During the year ended December 31, 2003, the Company had net income of $8,684,260 compared to $7,325,118 for the year ended December 31, 2002 and $5,730,918 for the year ended December 31, 2001. The increase in net income in 2003 compared to 2002 is attributable to an improvement in underwriting results partially offset by a $1,991,298 decrease in investment income. The increase in net income in 2002 compared to 2001 is also attributable to an improvement in underwriting results combined with a $217,589 increase in investment income.
Investment income in 2003 was $4,377,055 compared to $6,368,353 and $6,150,764 for the years ended December 31, 2002 and 2001, respectively. The decrease in investment income during 2003 compared to 2002 is primarily attributable to (i) lower realized losses on investment securities sold and (ii) a decrease in the overall size of the investment portfolio (at cost) arising from premiums paid to the Company as series of Shares in "run-off" reached a fully earned status. The increase in investment income during 2002 compared to 2001 is primarily attributable to gains realized on the sale of investment securities, which was attributable to the positive impact of lower interest rates on the value of the Company's fixed income securities.
The sale of investment securities for the year ended December 31, 2003 resulted in realized gains of $904,455, compared to realized gains of $2,099,677 and $1,632,053 for the years ended December 31, 2002 and 2001, respectively. Interest earned for the year ended December 31, 2003 was $3,472,600 compared to $4,268,676 and $4,518,711 for the years ended December 31, 2002 and 2001, respectively. Interest earned in 2003 compared to 2002 decreased slightly as a result of a decrease in interest rates in 2003, the reduction in invested assets arising from premiums paid to the Company as series in "run-off" reached a fully earned status, and lower quarterly reinsurance cessions to the Company as additional accounts were placed into "run-off." Interest earned in 2002 compared to 2001 decreased as a result of a decrease in interest rates in 2002, a decrease in premiums paid to the Company as series in "run-off" reached a fully earned status, and the reduction in invested assets arising from premiums paid to the Company on quarterly reinsurance cessions as accounts were placed into "run-off."
o Examined the concentration of the Fund from a geographical, industry, and individual security standpoint.
Unrealized ($000s) Unrealized Loss As Security Type Cost Market Gain (Loss) % of Cost ------------- ---- ------ ----------- ----------
All of the fixed income securities included in the above table are considered investment grade and have maturity dates ranging from May 15, 2005 to April 15, 2037. The Company held positions in sixty fixed income securities with an unrealized loss ranging from approximately $24 to $71,950 (or between 0.0% and 11.0% of cost) at December 31, 2003. Of the above, only one security was in an unrealized loss position for over 12 consecutive months; however, its unrealized loss position was $15,349 or 3.7% of its cost at December 31, 2003. This security was considered to be an "investment grade" security (Aaa) as determined by an independent rating service. Given these factors, it was not considered necessary to record a charge for other than temporary impairment on this security. All of the other securities in an unrealized loss position at December 31, 2003 were in such a position for 12 consecutive months or less.
% of Total Number of % of Mkt. Mkt. Value Holdings Value of Fund of Portfolio -------- ------------- ------------
Equity Securities: CIF Mutual Fund (1): Information Technology 35 20.2% Financial Services 48 18.2% Health Care 16 14.7% Consumer Discretionary 32 13.1% Energy 10 7.7% Materials 21 7.0% Industrials 22 5.1% Telecommunications 13 4.9% Consumer Staples 16 4.8% Cash & Equivalents - 3.4% Utilities 6 0.9% --- ------ Subtotal - Equity Securities 219 100.0% 21.3% --- ------
Fixed Income Securities: U.S. Government Agencies & Asset Backed 60 52.8% 41.5% Corporate 78 18.0% 14.2% Corporate Asset Backed 24 15.9% 12.5% U.S. Government Securities 16 9.6% 7.6% State & Municipal 5 3.0% 2.3% Foreign Government and Agencies 1 0.4% 0.3% Foreign Corporate 2 0.3% 0.2% Other 1 0.1% 0.1% --- ------ ------ Subtotal - Fixed Income Securities 187 100.0% 78.7% --- ------ ------ TOTAL INVESTMENT PORTFOLIO 406 100.0% === ======
(1) Represents a mutual fund called the Capital International Fund (the "Fund") comprised of numerous securities. The Company does not own individual positions in the securities comprising the Fund. At December 31, 2003 there were 219 different securities comprising the Fund.
The Retrocession Agreements require the Company to establish, to the extent requested by MIC, letters of credit, trust accounts, or a combination thereof at the Company's option to permit MIC to obtain full credit for such reinsurance. In accordance with the terms and conditions of the Retrocession Agreements, MIC may utilize the letters of credit or the assets deposited into the trust accounts for any of the following purposes:
o to fund an account with MIC in an amount at least equal to the Minimum Funding Requirement (as such term is defined in the Retrocession Agreements); and
o to pay any other amounts that MIC claims is due under the Retrocession Agreements.
As of December 31, 2003, the Company had established one trust account and deposited assets totaling $88,911,501 into such trust account.
Reserves for unpaid losses are balance sheet liabilities representing estimates of amounts needed in the future to pay claims under Policies with respect to insured events, which have occurred as of the balance sheet dates.
For purposes of establishing reserves for unpaid losses, the Company relies upon the advice of MIC. At December 31, 2003 and 2002, the Company's reserves for unpaid losses were estimated as a percentage of earned premiums for the corresponding quarter. This calculation is compared to an acceptable range for the reserves developed by actuaries of the ceding company. At December 31, 2003, and 2002, the reserves for unpaid losses were $2,164,872 and $3,650,641, respectively. At December 31, 2003, the estimated range of reserves for unpaid losses prepared for the Company by the ceding company's actuaries was as follows:
Low end of range: $1.9 million High end of range: $2.8 million
o Loss development factors for the direct business of the ceding company were utilized due to the larger volume and greater stability.
o The loss development factors were weighted based on the mix of new and used vehicle business in the latest calendar year.
Reserves for unpaid losses are established after periodic actuarial reviews, based on judgments of the effects of technological change, manufacturers' warranties, and MIC's historical experience with mechanical motor vehicle service agreements. Consequently, the determination of reserves for unpaid losses is an estimate and a process inherently subject to a number of highly variable factors. Ultimate losses could develop higher than expected, resulting in an adjustment of reserves. Any adjustments to reserves for unpaid losses are reflected in the operating results for the periods in which they become known.
The Company utilizes a percentage of earned premiums for the corresponding quarter to estimate reserves for unpaid losses. The factor utilized is influenced by, among other things, underwriting results and the ability of eligible participants to submit claim payments without requiring the pre-approval by an adjuster. As of December 31, 2003 as a result of improved underwriting results and the ability of eligible participants to have claims paid without the pre-approval of an adjuster, the factor used to estimate reserves for unpaid losses was reduced. The factor change resulted in a favorable earnings impact of $1,082,794 in 2003.
There have been no other changes to the key assumptions made to estimate the reserves for unpaid losses, including new events that occurred since the last reporting date (December 31, 2002).The Company's incurred loss ratios (losses incurred as a percentage of net premium earned) on all business for the calendar years ended December 31, 2003, 2002 and 2001 were 64.7%, 71.6%, and 73.4%, respectively.
* Vehicle Service Contract claims are generally paid within 90 days of when they are incurred. Accordingly, the liability for unpaid claims incurred in all prior years has been combined at each year end.
The table above shows initial estimated reserves at December 31, 2003, 2002, 2001, 2000 and 1999 and amounts paid on claims unsettled at each prior period end. Claims are typically processed for payment at the time the claim is reported. Therefore, the recorded claim liability at each year end represents the estimated incurred, but not reported claims and claims in the process of payment. The cumulative deficiency or redundancy represents the total change in reserve estimates covering prior years.
Recently Issued Accounting Standards SFAS 150 - In May 2003, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, which provides standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. The Statement is effective for financial instruments entered into or modified after May 31, 2003 and for pre-existing instruments as of the beginning of the first interim period beginning after June 15, 2003. We do not believe the adoption of SFAS 150 will have a material impact on the Company's financial condition or results of operations.
Statements of Cash Flows for the years ended December 31, 2003, 2002 and 2001 30
To the Stockholders of MOTORS MECHANICAL REINSURANCE COMPANY, LIMITED One Financial Place Collymore Rock St. Michael, Barbados
Investments Debt securities $65,807,414 $74,393,966 Equity securities 17,782,758 12,597,450 Total Investments 3,7 83,590,172 86,991,416 Cash and cash equivalents 7 4,999,219 257,303 Accrued investment income 502,869 572,241 Deferred acquisition costs 17,148,979 19,810,917 Advances to stockholders 479,509 323,206 Due from Motors Insurance Corporation - 379,634 Prepayments - 44,779 ----------- -----------
COMMITMENTS AND CONTINGENCIES 7 - - ----------- ----------- STOCKHOLDERS' EQUITY 5 Share capital - - Common stock - no par value; Authorized - 2,000 shares; Issued and outstanding - 2,000 shares 200,000 200,000 - - Participating stock - no par value; Authorized - 100,000 shares; Issued and outstanding - 20,600 shares at December 31, 2003 and 23,300 shares at December 31, 2002 1,545,000 1,747,500 ------------ ------------ Total share capital 1,745,000 1,947,500 Retained earnings 8 23,411,660 20,276,888 Accumulated other comprehensive income/(loss) 2,172,276 (1,157,908) ------------ ------------ Total Stockholders' Equity 27,328,936 21,066,480 ------------ ------------
Years Ended December 31, -------------------------------------- Notes 2003 2002 2001 ----- ---- ---- ----
INCOME Reinsurance premiums assumed 6 $38,171,866 $45,296,200 $51,131,226 Recapture of unearned 9 - (1,635,656) - reinsurance premiums Decrease in unearned premiums 7,235,404 6,151,952 2,281,343 ----------- ----------- ----------- Premiums earned 45,407,270 49,812,496 53,412,569 ----------- ----------- ----------- Investment Income Interest earned 3,472,600 4,268,676 4,518,711 Realized gains on investments - net 904,455 2,099,677 1,632,053 ----------- ----------- ----------- Investment income 4,377,055 6,368,353 6,150,764 ----------- ----------- -----------
DEDUCT SURPLUS AMOUNTS ON (619,015) (1,251,979) (372,852) ----------- ----------- ----------- REDEMPTION OF PARTICIPATING STOCK
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001 (Continued)
The financial statements are stated in United States dollars and prepared in conformity with accounting principles generally accepted in the United States of America
Premiums are written on the basis of quarterly cessions and earned relative to anticipated loss exposures. Acquisition costs, consisting of ceding commissions and excise taxes, are charged to expense on the basis of premiums earned.
Investments, all of which are available for sale, are comprised of interest-bearing marketable securities, and an investment in an international equity fund (the "Fund"), which are carried at fair value based on quoted market prices and dealer quotes obtained from an external pricing service. Unrealized appreciation/(depreciation) is included in accumulated other comprehensive income/(loss).
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000 (CONTINUED)
Realized gains and losses on the sale of investments and losses from other than temporary impairment are included as investment income and are calculated based on amortized costs. To determine the amounts recorded as other than temporary impairment for its fixed income investments held, the Company evaluated, among other things, the length of time and the extent that the security's market value has been valued at less than cost; the financial health of the issuer, including any specific events, which may influence the issuer; the Company's intent to hold the investment; and the security's rating as determined by an independent rating agency. If an investment's unrealized loss position was determined to be other than temporary in nature, the underlying security's cost basis was written down to the market value at the time that the impairment charge was recorded. The Company's investment in the Fund was reviewed using the applicable criteria described above and such review also included the following procedures to determine whether any charge for other than temporary impairment was necessary:
In 2003, gross gains of $1,211,346 and gross losses of $306,891 were realized. In 2002, gross gains of $3,516,788 and gross losses of $1,417,111 were realized. In 2001, gross gains of $2,067,143 and gross losses of $435,090 were realized. For the years ended December 31, 2003, 2002 and 2001 of the realized loss recorded, $18,741, $159,632 and $0, respectively were recorded for investments whose losses were determined to be other than temporary.
The fair value and unrealized losses on the investments at December 31, 2003 are as follows:
At December 31, 2003, the investment portfolio is comprised of approximately 79% (2002 - 86%) in diverse debt securities, which do not result in any concentration of credit risk and 21% (2002 - 14%) in the Fund based on market value. At December 31, 2003 and 2002, 100% of the Company's investments are denominated in United States dollars.
The following table sets forth an analysis of changes in the reserves for unpaid losses for the years ended December 31, 2003, 2002 and 2001:
Under the provisions of the retrocession agreement, the Company will assume future additional premiums of $25,415,589 ($27,827,390 at December 31, 2002) relating to premiums written by Motors Insurance Corporation, but unearned at the respective period ends. The amounts will be received as the premiums are earned, net of related acquisition costs.
An amount equal to one percent of assumed premiums is allocated to the capital account of the Common Stockholder. Such allocations accumulate as restricted retained earnings and may be used to advance capital to any Participating Stockholders who incur a deficit in their subsidiary capital accounts. Any such advances are repayable out of future profitable operations of the respective Participating Stockholder. Amounts allocated to the Common Stockholder, net of advances to Participating Stockholders, are presented in the table below.
During 2002, the Company entered a recapture agreement with MIC for one series of Participating Stock. Under the agreement MIC recaptured premiums of $1,635,656, which represents unearned premiums and an amount equal to $57,426 for losses incurred, but unpaid with respect to the recaptured business as of June 30, 2002. Additionally, MIC has paid the Company a recapture commission of $391,954 and a refund of U.S. Federal Excise Tax of $16,357, which represents the deferred portion of the ceding commissions and taxes previously paid by the Company. Upon recapturing these shares, such amounts were transferred into another mechanical service contract reinsurance company that assumes business from MIC.