MMIHC owns the following fixed assets, all of which are used in the conduct of its business:
The Company owns no real estate. MMIHC leases approximately 15,765 square feet of office space in Edina, Minnesota under a 10-year lease that expires in 2001, subject to the option for MMIHC to renew the lease for an additional five years after the original term. Four-thousand and sixty square feet of office space is leased in West Des Moines, Iowa under a 10-year lease that expires in 2000, with an option for MMIHC to extend the term for an additional five years after the original term. An additional 1,249 square feet of office space is leased in Omaha, Nebraska under a three year lease that expires November 30, 2000. Annual rent expense was $427,646 for 1997 and $392,282 for 1996.
From time to time the Board of Directors of MMIC declares dividends payable to MMIHC to maintain the redemption value of the Company's Class A Common Stock. A $260,000 dividend in November 1995 was declared in accordance with that principle and paid in February of 1996. In July 1996, a dividend of $327,000 was paid to MMIHC as required by a provision of the MMIC/MLM merger agreement. Per the merger agreement, the amount was sufficient to maintain the per share redemption value of MMIHC's Class A Common Stock at the same per share value immediately after the merger as immediately before the merger. There were no dividends declared or paid by MMIC to MMIHC in 1997.
Recently, in response to other business issues, the Company decided to replace all significant application software with new purchased applications. A key criteria in vendor selection was Year 2000 readiness of the software. The new applications are currently being installed and are scheduled to be fully operational prior to December 31, 1998. As a result, management believes that is has adequately addressed the Year 2000 issue as it relates to internal use software.
Management continues to evaluate the Year 2000 readiness of significant vendors and business partners and will develop contingency plans as deemed necessary.
RECONCILIATION OF LIABILITY FOR LOSS AND LOSS ADJUSTMENT EXPENSE (THOUSANDS OF DOLLARS)
The second to the last line on the preceding reconciliation reports the amount of reinsurance recoverables for unpaid losses which are included in the 1997, 1996 and 1995 balance sheet liability "Unpaid losses and loss adjustment expenses." Except for adding the reinsurance recoverables, the reconciliation is presented net of reinsurance which coincides with the manner of presentation of the income statements.
4. A number of other prior year reinsurance premium adjustments recorded in 1996 increased 1996 premiums by $2,143,000. With no counterpart in 1997, the difference between years is a DECREASE in 1997 of $2,143,000.
INVESTMENT INCOME has remained relatively level during the last three years. While invested assets on a cost basis did increase by $6,980,000 during 1997, almost all of that increase occurred in the last quarter when the fixed portfolio was restructured to meet a new benchmark return which was referred to earlier under Liquidity and Capital Resources. Restructuring the fixed portfolio resulted in realized capital gains of $4,916,000.
2. Several other reinsurance treaty adjustments involving prior years retrospective reinsurance treaties resulted in reducing 1996 reinsurance costs by $1,740,000, thereby increasing net premium earned. The years involved ranged from 1987-1995. Most of these treaties originated with IPMIT prior to its merger into MMIC on July 1, 1993.
OTHER UNDERWRITING EXPENSES increased $1,056,000 form 1996 to 1997. Approximately $425,000 of the increase was due to payments to state medical societies, for the first time in 1997, under license and endorsement agreements. The remainder of the increase reflects the increase in overall cost of operating the Company.
Deferred tax effects are provided whenever expense items are recorded in the accompanying financial statements in a time period different from those in the Company's tax returns.
The consolidated financial statements of Midwest Medical Insurance Holding Company and Subsidiary are presented on pages 21 through 47 of this Annual Report on Form 10-K following.
We have audited the accompanying consolidated balance sheets of Midwest Medical Insurance Holding Company and Subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of income, changes in other shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1997. Our audits also included the financial statement schedules listed in the index at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
Insurance policies issued by MMIC are on a "claims made" basis and provide coverage for the policyholder for claims first made against the policyholder and reported to MMIC during the policy period for claims which occurred on or after the retroactive date stated in the policy.
The consolidated financial statements include the accounts of MMIHC and its wholly-owned subsidiaries, MMIC and MMIHC Services, Inc. All transactions between MMIHC and its subsidiaries have been eliminated in consolidation with the exception of the distribution of capital to MMIHC by MMIC in the form of dividends.
MMIC cedes reinsurance in order to reduce its liability on individual risks and to enable it to write business at limits it otherwise would be unable to accept. All reinsurance contracts are excess-of-loss contracts which indemnify MMIC for losses in excess of a stated retention limit up to the policy limits.
Reinsurance receivables and recoverables and prepaid reinsurance premiums are reported as assets and reserve liabilities are reported gross of reinsurance credits.
Effective November 30, 1988, MMIC policyholders earn Class A Common Shares for each month of service pursuant to a stock allocation formula based on underwriting risk classification. Shares earned by new policyholders are not issued until the end of five years of continuous coverage under an MMIC policy (the vesting date). The Company does not record any amounts related to unissued Class A Common Shares. At the vesting date, the issued shares are recorded at the then current redemption value (see Note 12).
Following is the detail of changes in redeemable stock for each of the three years in the period ended December 31, 1997 (in thousands, except for share and per share amounts):
the Supplemental Executive Retirement Plan obligation (Note 9). At December 31, 1997 and 1996, respectively, gross unrealized gains related to these assets were $122,000 and $103,000. Deferred taxes related to these unrealized gains were $43,000 and $37,000, respectively.
Net unrealized appreciation of fixed maturities (decreased) increased by $(2,197,000), $(4,691,000) and $12,000 and net unrealized appreciation of equity securities increased by $11,400,000, $7,123,000 and $6,078,000 for the years ended December 31, 1997, 1996 and 1995, respectively.
A provision of the agreement and plan of merger between IPMIT and the Company requires that any favorable development of certain pre-merger liabilities of IPMIT be paid to the former IPMIT policyholders who remain active MMIC insureds as of the date of payment through a retrospective premium credit. The agreement further stipulates that any amounts due under this provision must be settled no later than December 31, 1998. Actual payments of $2,501,000 and $2,330,000 were made to former IPMIT policyholders in 1997 and 1996, respectively. Actual retrospective premium credits applied to Minnesota policyholder accounts in 1997 and 1996 were $4,803,000 and $5,198,000, respectively.
A provision of the agreement and plan of merger between MLM and the Company requires that any favorable development of certain pre-merger liabilities of MLM be paid to the former MLM policyholders who remain active MMIC insureds as of the date of payment through a retrospective premium credit. The agreement further stipulates that
The reconciliation of the liability for unpaid losses and loss adjustment expenses is as follows (in thousands):
The Company made income tax payments of $1,518,000, $3,260,000 and $832,000 in 1997, 1996 and 1995, respectively.
MMIC is authorized to issue policies with limits not to exceed $5,000,000 for each claim and $5,000,000 in the aggregate under each policy in any one policy year. Limits in excess of $5,000,000 for each claim and $5,000,000 annual aggregate are available to physicians and clinics through reinsurance placed on a facultative basis by MMIC. The Company generally retains the first $750,000 of each claim and reinsures the remainder through a treaty under which premiums are subject to adjustment based on experience.
In the normal course of claim settlement, MMIC negotiates structured settlements including the purchase of annuities from life insurance companies with an A+ rating from A.M. Best (an industry rating organization) at the date of issue and a minimum of $100 million in surplus. These annuities guarantee a stream of payments to the claimant holding the annuity. The majority of these settlements have been assigned to the life insurance company which releases MMIC from any future contractual liability to the claimant. MMIC and its reinsurers could only become liable for ultimate settlement of those claims which have not been assigned. At December 31, 1997 and 1996, respectively, non-assigned structured settlements guaranteed $12,299,000 and $5,926,000 of payments under annuity contracts for which MMIC and its reinsurers paid $4,726,000
and $3,208,000. In the event that the insurance company issuing the annuity was unable to meet its obligation under the terms provided, MMIC would be liable for the ultimate settlement.
The Company provides an unfunded Supplemental Executive Retirement Plan (SERP) which is a non-qualified, defined benefit retirement plan covering certain Company officers. Benefits are based upon years of service and compensation. Although the plan is technically unfunded, the Company has purchased life insurance contracts for each officer, the cash value of which is designed to coordinate with the projected benefit payments under the SERP. The cash value of these contracts is included in other assets. The net periodic pension cost for this plan was $363,000, $323,000 and $292,000 for the years ended December 31, 1997, 1996 and 1995, respectively. The liability recognized in the consolidated balance sheets at December 31, 1997 and 1996 related to this plan was $2,192,000 and $1,909,000, respectively.
Under Minnesota insurance statutes, MMIC is required to maintain statutory surplus in excess of ten times its per occurrence reinsurance retention limit. The minimum level is $7,500,000 for 1997 and 1996.