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SECURITIES AND EXCHANGE COMMISSION
Washington,WASHINGTON, D.C. 20549
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FORM 10-K
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 20012002 Commission file number 1-13816
EVEREST REINSURANCE HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
DelawareDELAWARE 22-3263609
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
477 Martinsville Road
Post Office BoxMARTINSVILLE ROAD
POST OFFICE BOX 830
Liberty Corner, New JerseyLIBERTY CORNER, NEW JERSEY 07938-0830
(908) 640-3000
(Address, including zip code, and telephone number, including area code,
of registrant's principal executive office)
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Securities registered pursuant to SectionSECURITIES REGISTERED PURSUANT TO SECTION 12(b) of the Act:OF THE ACT:
Name of Each Exchange
Title of Each Class on Which Registered
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8.5% Senior Notes Due 2005 NYSE
8.75% Senior Notes Due 2010 NYSE
7.85% Trust Preferred Securities NYSE
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Securities registered pursuant to Section 12(g) of the Act: None
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Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes ___ No _X_ No___
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).
Yes ___ No __X__
The aggregate market value on June 28, 2002 (the last business day of the
registrant's most recently completed second quarter) of the voting stock held by
non-affiliates was zero.
At March 28, 2002,20, 2003, the number of common shares of the registrant outstanding was
1,000, all of which are owned by Everest Re Group, Ltd.
The Registrant meets the conditions set forth in General Instruction I(1)(a) and
(b) of Form 10-K and is therefore filing this form with the reduced disclosure
format permitted by General Instruction I of Form 10-K.
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TABLE OF CONTENTS
Item Page
-ITEM PAGE
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PART I
1. Business
2. Properties
3. Legal Proceedings
4. Submission of Matters to a Vote of Security Holders
PART II
5. Market for Registrant's Common Equity and
Related Stockholder Matters
6. Selected Financial Data
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations
7A. Quantitative and Qualitative Disclosures About Market Risk
8. Financial Statements and Supplementary Data
9. Changes in and Disagreements with
Accountants on Accounting and Financial Disclosure
PART III
10. Directors and Executive Officers of the Registrant
11. Executive Compensation
12. Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters
13. Certain Relationships and Related Transactions
14. Controls and Procedures
PART IV
14.15. Exhibits, Financial Statement Schedules,
and Reports on Form 8-K
3
PART I
UNLESS OTHERWISE INDICATED, ALL FINANCIAL DATA IN THIS DOCUMENT HAVE BEEN
PREPARED USING GENERALLY ACCEPTED ACCOUNTING PRINCIPLES ("GAAP"). AS USED IN
THIS DOCUMENT, "HOLDINGS" MEANS EVEREST REINSURANCE HOLDINGS, INC.; "GROUP"
MEANS EVEREST RE GROUP, LTD. (FORMERLY EVEREST REINSURANCE GROUP, LTD.);
"CAPITAL TRUST" MEANS EVEREST RE CAPITAL TRUST; "EVEREST RE" MEANS EVEREST
REINSURANCE COMPANY AND ITS SUBSIDIARIES (UNLESS THE CONTEXT OTHERWISE
REQUIRES); "BERMUDA RE" MEANS EVEREST REINSURANCE (BERMUDA), LTD.; AND THE
"COMPANY" MEANS HOLDINGS AND ITS SUBSIDIARIES (UNLESS THE CONTEXT OTHERWISE
REQUIRES).
ITEM 1. BUSINESS
THE COMPANY
Holdings, a Delaware corporation, is a wholly-owned subsidiary of Group, which
is a Bermuda holding company whose common shares are publicly traded in the
United States on the New York Stock Exchange under the symbol "RE". Group files
an annual report on Form 10-K with the Securities and Exchange Commission with
respect to its consolidated operations, including Holdings. Holdings became a
wholly-owned subsidiary of Group on February 24, 2000 in a corporate
restructuring pursuant to which holders of shares of common stock of Holdings
automatically became holders of the same number of common shares of Group.
On March 14, 2000, Holdings completed public offerings of $200 million principal
amount of 8.75% senior notes due March 15, 2010 and $250 million principal
amount of 8.50% senior notes due March 15, 2005. This abbreviated filing is
required as a result of this outstanding debt. During 2000, the net proceeds of
these offerings and additional funds were distributed by Holdings to Group.
The Company's principal business, conducted through its operating subsidiaries,
is the underwriting of reinsurance and insurance in the United States and
international markets. The Company underwrites reinsurance both through brokers
and directly with ceding companies, giving it the flexibility to pursue business
regardless of the ceding company's preferred reinsurance purchasing method. The
Company underwrites insurance principally through general agency relationships.agent relationships
and surplus lines brokers. The Company's operating subsidiaries, excluding Mt.
McKinley Insurance Company ("Mt. McKinley"), are each rated A+ ("Superior") by
A.M. Best Company ("A.M. Best"), an independent insurance industry rating
organization that rates insurance companies on factors of concern to
policyholders.
Following is a summary of the Company's operating subsidiaries:
o- - Everest Re, a Delaware insurance company and a direct subsidiary of
Holdings, is a licensed property and casualty insurer and/or reinsurer in
all states (except Nevada and Wyoming), the District of Columbia, Puerto
Rico, and Canada, and is authorized to conduct reinsurance business in the
United Kingdom and Singapore. Everest Re underwrites property and casualty
reinsurance on a treaty and facultative basis for insurance and reinsurance
companies in the United States and international markets. Everest Re had
statutory surplus at December 31, 20012002 of $1,293.8$1,494.0 million.
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o- - Everest National Insurance Company ("Everest National"), an Arizona
insurance company and a direct subsidiary of Everest Re, is licensed in 4245
states and the District of Columbia and is authorized to write property and
casualty insurance in the statesjurisdictions in which it is licensed. This is
often called writing insurance on an admitted basis.
o Everest Insurance Company of Canada ("Everest Canada"), a Canadian
insurance company and a direct subsidiary of Everest Re, is licensed in
all Canadian provinces and territories and is federally licensed to
write property and casualty insurance under the Insurance Companies Act
of Canada.
o1
- - Everest Indemnity Insurance Company ("Everest Indemnity"), a Delaware
insurance company and a direct subsidiary of Everest Re, engages in the
excess and surplus lines insurance business in the United States. Excess
and surplus lines insurance is specialty property and liability coverage
that an insurer not licensed to write insurance in a particular
statejurisdiction is permitted to provide to insureds when the specific
specialty coverage is unavailable from admitted insurers. This is often
called writing insurance on a non-admitted basis. Everest Indemnity is
licensed in Delaware and is eligible to write business on a non-admitted
basis in 4148 states, the District of Columbia and Puerto Rico.
o- - Everest Security Insurance Company ("Everest Security"), formerly
Southeastern Security Insurance Company, a Georgia insurance company and a
direct subsidiary of Everest Re, was acquired in January 2000 and writes
property and casualty insurance on an admitted basis in Georgia.
oGeorgia and
Alabama.
- - Mt. McKinley Managers, L.L.C. ("Managers"), a New Jersey limited liability
company and a direct subsidiary of Holdings, is licensed in New Jersey as
an insurance producer. An insurance producer is any intermediary, such as
an agent or broker, which acts as the conduit between an insurance company
and an insured. Managers, which is licensed to act in New Jersey as an
insurance producer in connection with policies written on both an admitted
and a surplus linesnon-admitted basis, is the underwriting manager for Everest
Indemnity. As a result of a 1998
acquisition ofManagers is also the assets of insurance agency operations in Alabama
and Georgia, the continuing insurance agency operations are now carried
on by subsidiaries of Managers. These subsidiaries areparent company for WorkCare Southeast,
Inc., an Alabama insurance agency, and WorkCare Southeast of Georgia, Inc.,
a Georgia insurance agency.
o- - Mt. McKinley Insurance Company (f/k/a Gibraltar Casualty Company, "Gibraltar") ("Mt. McKinley"), a Delaware
insurance company and a direct subsidiary of Holdings, was acquired by
Holdings in September 2000 from The Prudential.Prudential Insurance Company of America
("The Prudential"). Mt. McKinley was formed by Everest Re in 1978 to engage
in the excess and surplus lines insurance business in the United States. In
1985, Mt. McKinley ceased writing new and renewal insurance and now its
ongoing operations relate to servicing claims arising from its previously
written business. Mt. McKinley was a subsidiary of Everest Re until 1991
when Everest Re distributed the stock of Mt. McKinley to a wholly-owned
subsidiary of The Prudential.
o- - Everest Re Holdings, Ltd. ("Everest Ltd."), a Bermuda company and a direct
subsidiary of Everest Re, was formed in 1998 and ownsowned Everest Re Ltd., a
United Kingdom company that is in the process of beingwas dissolved becauseafter its reinsurance operations
have beenwere converted into branch operations of Everest Re. Everest Ltd. also holds
$104.3$79.4 million of investments, the management of which constitutes its
principal operations.
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REINSURANCE INDUSTRY OVERVIEW
Reinsurance is an arrangement in which an insurance company, the reinsurer,
agrees to indemnify another insurance company, the ceding company, against all
or a portion of the insurance risks underwritten by the ceding company under one
or more insurance contracts. Reinsurance can provide a ceding company with
several benefits, including a reduction in net liability on individual or
classes of risks, catastrophe protection from large or multiple losses and
assistance in maintaining acceptable financial ratios. Reinsurance also provides
a ceding company with additional underwriting capacity by permitting it to
accept larger risks and write more business than would be possible without a
concomitant increase in capital and surplus. Reinsurance, however, does not
discharge the ceding company from its liability to policyholders.
2
There are two basic types of reinsurance arrangements: treaty and facultative
reinsurance. In treaty reinsurance, the ceding company is obligated to cede and
the reinsurer is obligated to assume a specified portion of a type or category
of risks insured by the ceding company. Treaty reinsurers do not separately
evaluate each of the individual risks assumed under their treaties and,
consequently, after a review of the ceding company's underwriting practices, are
largely dependent on the original risk underwriting decisions made by the ceding
company. In facultative reinsurance, the ceding company cedes and the reinsurer
assumes all or part of the risk under a single insurance contract. Facultative
reinsurance is negotiated separately for each insurance contract that is
reinsured. Facultative reinsurance normally is purchased by ceding companies for
individual risks not covered by their reinsurance treaties, for amounts in
excess of the dollar limits of their reinsurance treaties and for unusual risks.
Both treaty and facultative reinsurance can be written on either a pro rata
basis or an excess of loss basis. Under pro rata reinsurance, the ceding company
and the reinsurer share the premiums as well as the losses and expenses in an
agreed proportion. Under excess of loss reinsurance, the reinsurer indemnifies
the ceding company against all or a specified portion of losses and expenses in
excess of a specified dollar amount, known as the ceding company's retention or
reinsurer's attachment point, generally subject to a negotiated reinsurance
contract limit.
Premiums paid by the ceding company to a reinsurer for excess of loss
reinsurance are not directly proportional to the premiums that the ceding
company receives because the reinsurer does not assume a proportionate risk. In
pro rata reinsurance, the reinsurer generally pays the ceding company a ceding
commission. The ceding commission generally is based on the ceding company's
cost of acquiring the business being reinsured (commissions, premium taxes,
assessments and miscellaneous administrative expense). There is usually no
ceding commission on excess of loss reinsurance.
Reinsurers may purchase reinsurance to cover their own risk exposure.
Reinsurance of a reinsurer's business is called a retrocession. Reinsurance
companies cede risks under retrocessional agreements to other reinsurers, known
as retrocessionaires, for reasons similar to those that cause insurers to
purchase reinsurance: to reduce net liability on individual or classes of risks,
protect against catastrophic losses, stabilize financial ratios and obtain
additional underwriting capacity.
Reinsurance can be written through professional reinsurance brokers or directly
with ceding companies. From a ceding company's perspective, both the broker
market and the direct market have advantages and disadvantages. A ceding
company's decision to select one market over the other will be influenced by its
perception of such advantages and disadvantages relative to the reinsurance
coverage being placed.
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BUSINESS STRATEGY
The Company's underwriting strategies seek to capitalize on its financial
capacity, its employee expertise and its flexibility to offer multiple products
through multiple distribution channels. The Company's strategies include
effective management of the property and casualty underwriting cycle, which
refers to the tendency of insurance premiums, profits and the demand for and
availability of coverage to rise and fall over time. The Company also seeks to
manage its catastrophe exposures and retrocessional costs. Efforts to control
expenses and to operate in a cost-efficient manner are also a continuing focus
for the Company.
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The Company's products include the full range of property and casualty
reinsurance and insurance coverages, including marine, aviation, surety, errors
and omissions liability ("E&O"), directors' and officers' liability ("D&O"),
medical malpractice, other specialty lines, accident and health ("A&H"),
workersworkers' compensation, and other standard lines. The Company's distribution
channels include both the direct and broker reinsurance markets, U.S. and
international markets, reinsurance, both treaty and facultative, and insurance,
both admitted and non-admitted.
The Company's underwriting strategy emphasizes underwriting profitability rather
than premium volume, writing specialized property and casualty risks and
integration of underwriting expertise across all underwriting units. Key
elements of this strategy are prudent risk selection, appropriate pricing
through strict underwriting discipline and continuous adjustment of the
Company's business mix to respond to changing market conditions. The Company
focuses on reinsuring companies that effectively manage the underwriting cycle
through proper analysis and pricing of underlying risks and whose underwriting
guidelines and performance are compatible with its objectives.
The Company's underwriting strategy also emphasizes flexibility and
responsiveness to changing market conditions, such as increased demand or
favorable pricing trends. The Company believes that its existing strengths,
including its broad underwriting expertise, U.S. and international presence,
high ratings and substantial capital, facilitate adjustments to its mix of
business geographically, by line of business and by type of coverage, allowing
it to capitalize on those market opportunities that provide the greatest
potential for underwriting profitability. The Company's insurance infrastructure
further facilitates this strategy by allowing the Company to develop business
that requires the Company to issue insurance policies. The Company also
carefully monitors its mix of business to avoid inappropriate concentrations of
geographic or other risk.
CAPITAL TRANSACTIONS
The Company has flexibility with respect to capitalization as the result of its
perceived financial strength, including its financial strength ratings as
assigned by independent rating agencies, and its access to the capital markets.
The Company continuously monitors its capital and financial position, as well as
investment and security market conditions, in general and with respect to the
Company's securities, and responds accordingly.
In November 2002, Capital Trust completed public offerings of $210 million
principal amount of 7.85% trust preferred securities. The net proceeds of this
offering were used for working capital and general corporate purposes. Capital
Trust, a Delaware statutory trust owned by the Company, was established in 1999
and exists to issue and sell preferred securities to the public.
On March 14, 2000, Holdings completed a public offering of $200 million
principal amount of 8.75% senior notes due March 15, 2010 and $250 million
principal amount of 8.50% senior notes due March 15, 2005. During 2000, the net
proceeds of these offerings and additional funds were distributed by Holdings to
Group.
RATINGS
The following table shows the financial strength ratings of the Company's
operating subsidiaries as reported by A.M. Best, Standard & Poor's Ratings
Services ("Standard & Poor's) and Moody's Investors Service, Inc. ("Moody's").
These ratings are based upon factors of concern to policyholders and should not
be considered an indication of the degree or lack of risk involved in an equity
investment in an insurance company.
4
Operating Subsidiary A.M. Best Standard & Poor's Moody's
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Everest Re A+ (Superior) AA- (Very Strong)(Positive) Aa3 (Excellent)
Everest National A+ (Superior) AA- (Very Strong)(Positive) Not Rated
Everest Indemnity A+ (Superior) Not Rated Not Rated
Everest Security A+ (Superior) BB pi Not Rated
Everest Canada A+ (Superior) Not Rated Not Rated
Mt. McKinley Not Rated B piNot Rated Not Rated
A.M. Best states that the "A+" ("Superior") rating is assigned to those
companies which, in its opinion, have, on balance, achieved superior financial
strength, operating performance and market profile when compared to the
standards established by A.M. Best and have demonstrated a very strong ability
to meet their ongoing obligations to policyholders. The "A+" ("Superior") rating
is the second highest of fifteen ratings assigned by A.M. Best, which range from
"A++" ("Superior") to "F" ("In Liquidation"). Additionally, A.M. Best has eleven
classifications within the "Not Assigned" category. Standard & Poor's states
that the "AA-" rating is assigned to those insurance companies which, in its
opinion, offer excellent financial security and whose capacity to meet
policyholder obligations is strong under a variety of economic and underwriting
conditions. The "AA-" rating is the fourth highest of nineteen ratings assigned
by Standard & Poor's, which range from "AAA" (Superior) to "R" (Regulatory
Action). Ratings from AA to B may be
modified by the use of a plus or minus sign to show relative standing of the
insurer within those rating categories.
Ratings, denoted with a "pi" subscript, are ratings based on Standard & Poor's
analysis of published financial information and do not reflect in-depth meetings
with the Company's management. The "BB pi" and "B pi" ratings are the twelfth
and fifteenth highest of the nineteen Standard & Poor's ratings. Moody's states that insurance companies
rated "Aa" offer excellent financial security. Together with the Aaa rated
companies, Aa rated companies constitute what are generally known as high grade
companies, with Aa rated companies generally having somewhat larger long-term
risks. Moody's rating gradations are shown through the use of nine distinct
symbols, each symbol representing a group of ratings in which the financial
security is broadly the same. The "Aa3" (Excellent) rating is the fourth highest
of ratings assigned by Moody's, which range from "Aaa" (Exceptional) to "C"
(Lowest). Moody's further distinguishes the ranking of an insurer within its
generic rating classification from Aa to B with 1, 2 and 3 ("1" being the
highest).
The following table shows the investment grade ratings of the Holdings' senior
notes due March 15, 2005 and March 15, 2010 by A.M. Best, Standard & Poor's and
Moody's. Debt ratings are a current assessment of the credit-worthiness of an
obligor with respect to a specific obligation.
A.M. Best Standard & Poor's Moody's
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Senior Notes a A- A3
Trust Preferred Securities a- BBB Baa1
A company with a debt rating of "a" or "a-" is considered by A.M. Best to have a
strong capacity and willingness to meet the terms of the obligation and
possesses a low level of credit risk. The "a" rating isand "a-" ratings are the sixth and
seventh highest of 19 ratings assigned by A.M. Best, which range from "aaa" to
"ccc". A company with a debt rating of "A-" is considered by Standard & Poor's
to have a strong capacity to pay interest and repay principal, although it is
somewhat more susceptible to the adverse effects of changes in circumstances and
economic conditions than debt in higher rated categories. A company with a debt
rating of "BBB" is considered by Standard & Poor's to have adequate capacity to
pay interest and repay principal, but is susceptible to the adverse effects of
changes in circumstances and economic conditions than debt in higher rated
categories. The "A-" ratingand "BBB" ratings from Standard & Poor's isare the seventh
and ninth highest of 24 ratings assigned by Standard & Poor's, which range from
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"AAA" to "D". A company with a debt rating of "A3" is considered to be an
upper-medium-grade obligation by Moody's. This rating represents adequate
5
capacity with respect to repayment of principal and interest, but elements may
be present which suggest a susceptibility to impairment sometime in the future.
A company with a debt rating of "Baa1" is considered to be a medium-grade
obligation by Moody's. This rating represents adequate capacity with respect to
repayment of principal and interest, but certain protective elements may be
lacking or may be characteristically unreliable over any great length of time.
The "A3" rating isand "Baa1" ratings are the seventh and eighth highest of 21 ratings
assigned by Moody's, which range from "AAA" to "C".
All of the above-mentioned ratings are continually monitored and revised, if
necessary, by each of the rating agencies.
COMPETITION
The worldwide reinsurance and insurance businesses are highly competitive.competitive, yet
cyclical by product and market. The terrorist attacks on September 11, terrorist attacks2001 (the
"September 11 attacks") resulted in losses which reduced industry capacity and
were of sufficient magnitude to cause most individual companies to reassess their capital
position, tolerance for risk, exposure control mechanisms and the pricing terms
and conditions at which they are willing to take on risk. The gradual and
variable improving trend which hasthat had been apparent through 2000 and earlier in 2001
firmed significantly.significantly after the September 11 attacks. This firming generally took
the form of immediate and significant upward pressure on prices, including more
restrictive terms and conditions and a reduction of coverage limits and capacity
availability. Such pressures were widespread, with some variability depending on the
product and markets involved, but mainly depending on the characteristics of the
underlying risk exposures. The magnitude of the changes was sufficient to create
temporary disequilibrium in some markets as individual buyers and sellers
adapted to changes in both their internal and market dynamics.
During 2002, the reinsurance and insurance markets continued to firm. This
firming reflects the losses arising from the September 11 attacks as well as
reactions to broad and growing recognition that competition in the late 1990s
reached extremes in many classes and markets, which ultimately led to inadequate
pricing and overly broad terms, conditions and coverages. The effect of these
extremes, which is becoming apparent through excessive loss emergence, varies
widely by company depending on product offerings, markets accessed, underwriting
and operating practices, competitive strategies and business volumes. Across all
market participants, however, the aggregate effect has been impaired financial
results and erosion of the industry capital base. Coupled with deteriorating
investment market conditions and results, and renewed concerns regarding
longer-term industry specific issues, including asbestos exposure and sub-par
capital returns, these financial impacts have introduced substantial, and in
some cases extreme, pressure for the initiation and/or strengthening of
corrective action by individual market participants. These pressures have
resulted in firming prices, more restrictive terms and conditions and tightened
coverage availability across most classes and markets.
These changes reflect a reversal of the general trend from 1987 through 1999
toward increasingly competitive global market conditions across most lines of
business as reflected by decreasing prices and broadening contract terms. The
earlier trend resulted from a number of factors including the emergence of
significant reinsurance capacity in Bermuda, changes in the LloydsLloyd's market,
consolidation and increased capital levels in the insurance and reinsurance
industries, as well as the emergence of new reinsurance and financial products
addressing traditional exposures in alternative fashions. Many of these factors
continue to exist. As a result, although the Company is encouraged by the recent
improvements, and more generally, by current market conditions, the Company
cannot predict with any reasonable certainty whether and to what extent these
improvements will persist.
6
Competition with respect to the types of reinsurance and insurance business in
which the Company is engaged is based on many factors, including the perceived
overall financial strength of the reinsurer or insurer, the A.M. Best and/or
Standard & Poor's rating of the reinsurer or insurer, underwriting expertise,
the jurisdictions where the reinsurer or insurer is licensed or otherwise
authorized, capacity and coverages offered, premiums charged, other terms and
conditions of the reinsurance and insurance business offered, services offered,
speed of claims payment and reputation and experience in lines written. The
Company competes in the United States and international reinsurance and
insurance markets with numerous international and domestic reinsurance and
insurance companies. The Company's competitors include independent reinsurance
and insurance companies, subsidiaries or affiliates of established worldwide
insurance companies, reinsurance departments of certain insurance companies and
domestic and international underwriting operations, including underwriting
syndicates at Lloyd's. Some of these competitors have greater financial
resources than the Company and have established long-term and continuing
business relationships throughout the industry, which can be a significant
competitive advantage. In addition, the potential for securitization of
reinsurance and insurance risks through capital markets provides an additional
source of potential reinsurance and insurance capacity and competition.
6
EMPLOYEES
As of March 1, 2002,2003, the Company employed 345367 persons. Management believes that
its employee relations are good. None of the Company's employees are subject to
collective bargaining agreements, and the Company is not aware of any current
efforts to implement such agreements.
AVAILABLE INFORMATION
The Company's Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and
Current Reports on Form 8-K and amendments to those reports are available free
of charge through the Company's internet website at HTTP://WWW.EVERESTRE.COM as
soon as reasonably practicable after such reports are electronically filed with
the Securities and Exchange Commission.
ITEM 2. PROPERTIES
Everest Re's corporate offices are located in approximately 112,000115,000 square feet
of leased office space in Liberty Corner, New Jersey. The Company's other thirteeneleven
locations occupy a total of approximately 67,00056,000 square feet, all of which are
leased. Management believes that the above-described office space is adequate
for its current and anticipated needs.
ITEM 3. LEGAL PROCEEDINGS
TheIn the ordinary course of business, the Company is involved from timein lawsuits,
arbitrations and other formal and informal dispute resolution procedures, the
outcomes of which will determine the Company's rights and obligations under
insurance and reinsurance agreements and other more general contracts. In some
disputes, the Company seeks to time in ordinary routineenforce its rights under an agreement or to
collect funds owing to it. In other matters, the Company is resisting attempts
by others to collect funds or enforce alleged rights. Such disputes are resolved
through formal and informal means, including litigation and arbitration proceedings incidentalarbitration.
In all such matters, the Company believes that its positions are legally and
commercially reasonable. The Company also regularly evaluates those positions,
and where appropriate, establishes or adjusts insurance reserves to reflect the
results of its business.evaluation. The Company's aggregate reserves take into account
the possibility that the Company may not ultimately prevail in each and every
disputed matter. The Company believes its aggregate reserves reduce the
7
potential that an adverse resolution of one or more of these matters, at any
point in time, would have a material impact on the Company's financial condition
or results of operations. However, there can be no assurances that adverse
resolutions of such matters in any one period or in the aggregate will not
result in a material adverse effect on the Company's results of operations.
The Company does not believe that there are any other material pending legal
proceedings to which it or any of its subsidiaries or their properties are
subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Information for this Item 4 is not required pursuant to General Instruction I(2)
of Form 10-K.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION AND HOLDER OF COMMON STOCK
As of December 31, 2001,2002, all of the Company's common stock was owned by Group
and was not publicly traded.
During 2000, and 1999, the Company declared dividends on its common stock totaling $495.0
million and $11.6 million, respectively.million. The Company did not pay any dividends during 2002 and 2001. The
declaration and payment of future dividends, if any, by the Company will be at
the discretion of the Board of Directors and will depend upon many factors,
including the Company's earnings, financial condition, business needs and growth
objectives, capital and surplus requirements of operating subsidiaries,
regulatory restrictions, rating agency considerations and other factors. As an
insurance holding company, the Company is dependent on dividends and other
permitted payments from its subsidiaries to pay cash dividends to its
stockholders.stockholder. The payment of dividends to Holdings by Everest Re is subject to
limitations imposed by Delaware law. Generally, Everest Re may only pay
dividends out of its statutory earned surplus, which was $915.2$921.0 million at
December 31, 2001,2002, and only after it has given 10 days prior notice to the
Delaware Insurance Commissioner. During this 10-day period, the Commissioner
may, by order, limit or disallow the payment of ordinary dividends if the
Commissioner finds the insurer to be presently or potentially in financial
distress. Further, the maximum amount of dividends that may be paid without the
prior approval of the Delaware Insurance Commissioner in any twelve month period
is the greater of (1) 10% of an insurer's statutory surplus as of the end of the
prior calendar year or (2) the insurer's statutory net income, not including
realized capital gains, for the prior calendar year. Under this definition, the
maximum amount that will be available for the payment of dividends by Everest Re
in 20022003 without triggering the requirement for prior approval of regulatory
authorities in connection with a dividend is $129.4$149.4 million. See Note 11A13A of
Notes to Consolidated Financial Statements.
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RECENT SALES OF UNREGISTERED SECURITIES
None.
ITEM 6. SELECTED FINANCIAL DATA
Information for this Item 6 is not required pursuant to General Instruction I(2)
of Form 10-K.
8
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following is a discussion of the results of operations and financial
condition of Everest
Reinsurance Holdings, Inc. and its subsidiaries (the "Company"). This discussion
and analysis should be read in conjunction with the Consolidated Financial Statementsconsolidated financial
statements and the Notesnotes thereto presented under ITEM 8.
RESTRUCTURING
On February 24, 2000, a corporate restructuring was completed and Everest Re
Group, Ltd. ("Group") became the new parent holding company of the Company,
which remains the holding company for Group's U.S. based operations. Holders of
the Company's common stock automatically became holders of the same number of
Group common shares. The Company is filing this report as a result of its public
issuance of senior notes on March 14, 2000. See ITEM 1 - "Business - The Company" for a further
discussion.
ACQUISITIONS
On September 19, 2000, the Company completed the acquisition of all of the
issued and outstanding capital stock of Gibraltar Casualty Company ("Gibraltar")
from The Prudential Insurance Company of America ("The Prudential") for $51.8
million, which approximated book value. As a result of the acquisition,
Gibraltar became a wholly owned subsidiary of the Company and, immediately
following the acquisition, its name was changed to Mt. McKinley Insurance
Company ("Mt. McKinley"). In connection with the acquisition of Mt. McKinley,
which has significant exposure to asbestos and environmental claims, Prudential
Property and Casualty Insurance Company ("Prupac"), a subsidiary of The
Prudential, provided reinsurance to Mt. McKinley covering 80% ($160.0 million)
of the first $200.0 million of any adverse development of Mt. McKinley's
reserves as of September 19, 2000 and2000. In addition, The Prudential guaranteed
Prupac's obligation to Mt. McKinley. There were $22.2$78.9 million of cessions under
this reinsurance at December 31, 2001,2002, reducing the limit available under this
contract to $137.8$81.1 million.
In connection with the Mt. McKinley acquisition, Prupac also provided excess of
loss reinsurance for 100% of the first $8.5 million of loss with respect to
certain of Mt. McKinley's retrocessions and potentially uncollectible
reinsurance coverage. There were $2.5$0.0 million and $3.6 million of cessions under
this reinsurance during the periods ending December 31, 20002002 and 2001,
respectively, reducing the limit available under the contract to $2.4 million.
Mt. McKinley, a run-off property and casualty insurer in the United States, has
had a long relationship with the CompanyHoldings and its principal operating company,
Everest Reinsurance Company ("Everest Re"). Mt. McKinley was formed in 1978 by
Everest Re and wrote insurance until 1985, when it was placed in run-off. In
1991, Mt. McKinley became a subsidiary of The Prudential. Mt. McKinley is also a
reinsurer of Everest Re. Under a series of transactions dating to 1986, Mt.
8
McKinley reinsured several components of Everest Re's business. In particular,
Mt. McKinley provided stop-loss reinsurance protection, in connection with the
Company's October 5, 1995 IPO,initial public offering, for any adverse loss
development on Everest Re's June 30, 1995 (December 31, 1994 for catastrophe
losses) reserves, with $375.0 million in limits, of which $89.4$103.9 million remains
available (the "Stop Loss Agreement"). The Stop Loss Agreement and other
reinsurance contracts between Mt. McKinley and Everest Re remain in effect
following the acquisition. However, these contracts have becomebecame transactions with
affiliates witheffective on the date of the Mt. McKinley acquisition, and their
financial impact is thereafter eliminated in consolidation. Effective September
19, 2000, Mt. McKinley and Everest Reinsurance (Bermuda), Ltd. ("Bermuda Re")
9
entered into a loss portfolio transfer reinsurance agreement, whereby Mt.
McKinley transferred, for what management believes to be arm's-length
consideration, all of its net insurance exposures and reserves including allocated and unallocated
loss adjustment expenses, to Bermuda Re.
During 2000, the Company completed an additional acquisition, Everest Security
Insurance Company ("Everest Security"), formerly known as Southeastern Security
Insurance Company, a United States property and casualty company whose primary
business is non-standard automobile insurance.
RESULTS OF OPERATIONS
Unusual Loss Events. As a result of the terrorist attacks at the World Trade
Center, the Pentagon and on various airlines on September 11, 2001 (collectively
the "September 11 attacks"), the Company incurred pre-tax losses, based on an
estimate of ultimate exposure developed through a review of its coverages, which
totaled $213.2 million gross of reinsurance and $55.0 million net of
reinsurance. Associated with this reinsurance were $60.0 million of pre-tax
charges, predominantly from adjustment premiums, resulting in a total pre-tax
loss from the September 11 attacks of $115.0 million. After tax recoveries
relating specifically to this unusual loss event, the net loss from the
September 11 attacks totaled $75.0 million. Over 90% of the losses ceded were to
treaties where the reinsurers' obligations are secured, which in the Company's
opinion eliminates material reinsurance collection risk.
As a result of the Enron bankruptcy, the Company has incurred losses, after-tax
and reinsurance, amounting to $18.6 million. This unusual loss reflects all of
the Company's exposures, including underwriting, credit and investment.
INDUSTRY CONDITIONS.CONDITIONS
The worldwide reinsurance and insurance businesses are highly competitive.competitive, yet
cyclical by product and market. The terrorist attacks on September 11, attacks2001 (the
"September 11 attacks") resulted in losses which reduced industry capacity and
were of sufficient magnitude to cause most individual companies to reassess their capital
position, tolerance for risk, exposure control mechanisms and the pricing terms
and conditions at which they are willing to take on risk. The gradual and
variable improving trend which hasthat had been apparent through 2000 and earlier in 2001
firmed significantly.significantly after the September 11 attacks. This firming generally took
the form of immediate and significant upward pressure on prices, including more
restrictive terms and conditions and a reduction of coverage limits and capacity
availability. Such pressures were widespread, with variability depending on the
product and markets involved, but mainly depending on the characteristics of the
underlying risk exposures. The magnitude of the changes was sufficient to create
temporary disequilibrium in some markets as individual buyers and sellers
adapted to changes in both their internal and market dynamics.
During 2002, the reinsurance and insurance markets continued to firm. This
firming reflects the losses arising from the September 11 attacks as well as
reactions to broad and growing recognition that competition in the late 1990's
reached extremes in many classes and markets, which ultimately led to inadequate
pricing and overly broad terms, conditions and coverages. The effect of these
extremes, which is becoming apparent through excessive loss emergence, varies
widely by company depending on product offerings, markets accessed, underwriting
and operating practices, competitive strategies and business volumes. Across all
market participants, however, the aggregate effect has been impaired financial
results and erosion of the industry capital base. Coupled with deteriorating
investment market conditions and results, and renewed concerns regarding
longer-term industry specific issues, including asbestos exposure and sub-par
capital returns, these financial impacts have introduced substantial, and in
some cases extreme, pressure for the initiation and/or strengthening of
corrective action by individual market participants. These pressures have
resulted in firming prices, more restrictive terms and conditions and tightened
coverage availability across most classes and markets.
These changes reflect a clear reversal of the general trend from 1987 through
1999 toward increasingly competitive global market conditions across most lines
of business as reflected by decreasing prices and broadening contract terms. The
earlier trend resulted from a number of factors, including the emergence of
significant reinsurance capacity in Bermuda, changes in the LloydsLloyd's market,
9
consolidation and increased capital levels in the insurance and reinsurance
industries, as well as the emergence of new reinsurance and financial products
addressing traditional exposures in alternative fashions. Many of these factors
continue to exist.exist and have taken on additional importance as the result of the
firming conditions which have emerged. As a result, although the Company is
encouraged by the recent improvements, and more generally, by current market
conditions, the Company cannot predict with any reasonable certainty whether and
to what extent these improvements will persist.
10
SEGMENT INFORMATION
The Company, through its subsidiaries, operates in four segments: U.S.
Reinsurance, U.S. Insurance, Specialty Underwriting and International. The U.S.
Reinsurance operation writes property and casualty reinsurance on both a treaty
and facultative basis through reinsurance brokers as well as directly with
ceding companies within the United States. The U.S. Insurance operation writes
property and casualty insurance primarily through general agent relationships
and surplus lines brokers within the United States. The Specialty Underwriting
operation writes accident and health ("A&H"), marine, aviation and surety
business within the United States and worldwide through brokers and directly
with ceding companies. The International operation writes property and casualty
reinsurance through the Company's branches in Belgium, London, Canada, and Singapore, in
addition to foreign "home-office" business.business written through the Company's New Jersey
headquarters and Miami office.
These segments are managed in a carefully coordinated fashion with strong
elements of central control, including with respect to capital, investments and
support operations. As a result, management monitors and evaluates the financial
performance of these operating segments principally based upon their
underwriting results.
RESULTS OF OPERATIONS
Unusual Loss Events in 2001. As a result of the September 11 attacks, the
Company incurred pre-tax losses, based on an estimate of ultimate exposure
developed through a review of its coverages, which totaled $213.2 million gross
of reinsurance and $55.0 million net of reinsurance. Associated with this
reinsurance were $60.0 million of pre-tax charges, predominantly from adjustment
premiums, resulting in a total pre-tax loss from the September 11 attacks of
$115.0 million. After tax recoveries relating specifically to this unusual loss
event, the net loss from the September 11 attacks totaled $75.0 million. Over
90% of the losses ceded by the Company were pursuant to treaties, where the
reinsurers' obligations are secured, which the Company believes eliminates
material reinsurance collection risk.
As a result of the Enron bankruptcy in 2001, the Company incurred losses,
after-tax and net of reinsurance, amounting to $18.6 million. This unusual loss
reflects all of the Company's exposures to this event, including underwriting,
credit and investment.
YEAR ENDED DECEMBER 31, 2002 COMPARED TO YEAR ENDED DECEMBER 31, 2001
PREMIUMS. Gross premiums written increased 49.0% to $2,755.4 million in 2002
from $1,849.8 million in 2001, as the Company took advantage of selected growth
opportunities and improving pricing in many classes of business, while
continuing to maintain a disciplined underwriting approach. Premium growth areas
included a 70.5% ($227.9 million) increase in the International operation,
mainly attributable to growth in the London, Canadian and Latin American
markets, a 63.5% ($319.1 million) increase in the U.S. Insurance operation,
principally attributable to growth in worker's compensation insurance, a 46.5%
($284.1 million) increase in the U.S. Reinsurance operation, primarily
reflecting growth across property and casualty lines, and an 18.0% ($74.6
million) increase in the Specialty Underwriting operation, mainly attributable
to growth in marine, aviation and surety business. The Company continued to
decline business that did not meet its objectives regarding underwriting
profitability.
Ceded premiums increased to $565.9 million in 2002 from $432.9 million in 2001.
This increase was principally attributable to $372.9 million of ceded premiums
relating to a Quota Share Reinsurance Agreement between Everest Re and Bermuda
Re, whereby Everest Re cedes 20% of its net retained liability on all new and
renewal policies written during the term of this agreement, and an Excess of
Loss Agreement between Everest Re, Everest National Insurance Company, Everest
11
Security and Bermuda Re, whereby Bermuda Re assumes liability for primary
insurance workers' compensation losses exceeding $100,000 per occurrence, with
its liability not to exceed $150,000 per occurrence. Ceded premiums in 2002
included $5.1 million and $49.4 million in adjustment premiums relating to
claims made under the 2001 and 2000 accident year aggregate excess of loss
elements of the Company's corporate retrocessional program, respectively. Ceded
premiums in 2001 included $81.3 million and $58.1 million in adjustment premiums
relating to claims made under the 2001 and 1999 accident year aggregate excess
of loss elements of the Company's corporate retrocessional program,
respectively, with the 2001 accident year cessions principally relating to
losses incurred as a result of the September 11 attacks and the Enron
bankruptcy.
Net premiums written increased by 54.5% to $2,189.5 million in 2002 from
$1,416.9 million in 2001. This increase was a result of the increase in gross
premiums written and ceded premiums.
PREMIUM REVENUES. Net premiums earned increased by 46.8% to $1,957.3 million in
2002 from $1,333.5 million in 2001. Contributing to this increase were a 140.7%
($239.0 million) increase in the International operation, a 58.3% ($171.5
million) increase in the U.S. Insurance operation, a 32.3% ($160.5 million)
increase in the U.S. Reinsurance operation and a 14.2% ($52.9 million) increase
in the Specialty Underwriting operation. All of these changes reflect period to
period variability in gross written and ceded premiums, and business mix,
together with normal variability in earnings patterns. Business mix changes
occur not only as the Company shifts emphasis between products, lines of
business, distribution channels and markets, but also as individual contracts
renew or non-renew, almost always with changes in coverage, structure, prices
and/or terms, and as new contracts are accepted with coverages, structures,
prices and/or terms different from those of expiring contracts. As premium
reporting and earnings and loss and commission characteristics derive from the
provisions of individual contracts, the continuous turnover of individual
contracts, arising from both strategic shifts and day to day underwriting, can
and does introduce appreciable background variability in various underwriting
line items.
EXPENSES. Incurred loss and loss adjustment expenses ("LAE") increased by 29.6%
to $1,399.0 million in 2002 from $1,079.2 million in 2001. The increase in
incurred losses and LAE was principally attributable to the increase in net
premiums earned and modest reserve strengthening in select areas, most notably
in directors and officers liability, surety and workers' compensation lines and
with respect to asbestos exposures, partially offset by lower catastrophe losses
and improvements in rates, terms and conditions in many classes of business, as
well as the impact of changes in the Company's mix of business. Incurred losses
and LAE include catastrophe losses, which reflect the impact both of current
period events and favorable and unfavorable development on prior period events
and are net of reinsurance. A catastrophe is an event that causes a pre-tax loss
on property exposures of at least $5.0 million and has an event date of January
1, 1988 or later. Catastrophe losses, net of contract specific cessions but
before cessions under the corporate retrocessional program, were $30.2 million
in 2002, principally relating to European flood losses and Hurricanes Isidore
and Kenna, compared to net catastrophe losses of $222.6 million in 2001, which
was principally related to the September 11 attacks. Incurred losses and LAE in
2002 reflected ceded losses and LAE of $486.1 million compared to ceded losses
and LAE in 2001 of $619.4 million. Ceded losses and LAE in 2002 include $178.6
million of ceded losses relating to the reinsurance transactions noted earlier
between the Company and Bermuda Re. The ceded losses and LAE in 2002 included
$11.0 million and $90.0 million of losses ceded under the 2001 and 2000 accident
year aggregate excess of loss components of the Company's corporate
retrocessional program, respectively. The ceded losses and LAE in 2001 included
$164.0 million and $105.0 million of losses ceded under the 2001 and 1999
12
accident year aggregate excess of loss components of the Company's corporate
retrocessional program, respectively, with the 2001 accident year cessions
relating principally to losses incurred as the result of the September 11
attacks.
Contributing to the increase in incurred losses and LAE in 2002 from 2001 were a
198.4% ($173.4 million) increase in the International operation, a 63.4% ($134.0
million) increase in the U.S. Insurance operation, principally reflecting
increased premium volume coupled with changes in this segment's specific
reinsurance programs and an 11.4% ($51.4 million) increase in the U.S.
Reinsurance operation, principally due to increased premium volume, partially
offset by decreased catastrophe losses. These increases were partially offset by
an 11.8% ($39.1 million) decrease in the Specialty Underwriting operation,
principally attributable to decreased catastrophe losses. Incurred losses and
LAE for each operation were also impacted by variability relating to changes in
the level of premium volume and mix of business by class and type.
The Company's loss and LAE ratio ("loss ratio"), which is calculated by dividing
incurred losses and LAE by premiums earned, decreased by 9.4 percentage points
to 71.5% in 2002 from 80.9% in 2001, reflecting the earned premiums and incurred
losses and LAE discussed above. The following table shows the loss ratios for
each of the Company's operating segments for 2002 and 2001. The loss ratios for
all operations were impacted by the expense factors noted above as well as by
the impact on ceded premiums of the adjustment premiums under the Company's
corporate retrocessional program.
OPERATING SEGMENT LOSS RATIOS
- ---------------------------------------------------------------------------
Segment 2002 2001
- ---------------------------------------------------------------------------
U.S. Reinsurance 76.1% 90.4%
U.S. Insurance 74.1% 71.8%
Specialty Underwriting 68.7% 89.0%
International 63.8% 51.5%
Underwriting expenses increased by 23.3% to $553.5 million in 2002 from $448.9
million in 2001. Commission, brokerage, taxes and fees increased by $94.8
million, principally reflecting increases in premium volume and changes in the
mix of business. Other underwriting expenses increased by $9.8 million as the
Company expanded its operations to support its increased business volume.
Contributing to the underwriting expense increase were a 66.1% ($54.7 million)
increase in the U.S. Insurance operation, a 17.6% ($19.0 million) increase in
the Specialty operation, a 13.8% ($12.8 million) increase in the International
operation and an 11.4% ($18.7 million) increase in the U.S. Reinsurance
operation. The changes for each operation's expenses principally resulted from
changes in commission expenses related to changes in premium volume and business
mix by class and type and, in some cases, the underwriting performance of the
underlying business. The Company's expense ratio, which is calculated by
dividing underwriting expenses by premiums earned, decreased by 5.4 percentage
points to 28.3% in 2002 compared to 33.7% in 2001.
The Company's combined ratio, which is the sum of the loss and expense ratios,
decreased by 14.9 percentage points to 99.7% in 2002 compared to 114.6% in 2001.
The following table shows the combined ratios for each of the Company's
operating segments for 2002 and 2001. The combined ratios for all operations
were impacted by the loss and expense ratio variability noted above as well as
by the impact on ceded premiums of the adjustment premiums under the Company's
corporate retrocessional program.
13
OPERATING SEGMENT COMBINED RATIOS
- --------------------------------------------------------------------------------
Segment 2002 2001
- --------------------------------------------------------------------------------
U.S. Reinsurance 103.8% 123.3%
U.S. Insurance 103.6% 99.9%
Specialty Underwriting 98.6% 118.0%
International 89.7% 106.2%
INVESTMENTS. Net investment income decreased by 3.0% to $257.9 million in 2002
from $265.9 million in 2001, principally reflecting the lower interest rate
enviroment, partially offset by the effect of investing the $425.2 million of
cash flow from operations in 2002 and $203.4 million of net proceeds from
Everest Re Capital Trust's ("Capital Trust") issuance of trust preferred
securities in November 2002. The following table shows a comparison of various
investment yields as of December 31, 2002 and 2001, respectively, and for the
periods then ended.
2002 2001
-----------------------
Imbedded pre-tax yield of cash and invested
assets at end of period 5.1% 6.0%
Imbedded after-tax yield of cash and invested
assets at end of period 4.2% 4.6%
Annualized pre-tax yield on average cash and
invested assets 5.6% 6.2%
Annualized after-tax yield on average cash and
invested assets 4.3% 4.7%
Net realized capital losses were $53.1 million in 2002, reflecting realized
capital losses on the Company's investments of $108.9 million, which includes
$79.7 million relating to write-downs in the value of securities deemed to be
impaired on an other than temporary basis, of which $25.7 million were for
WorldCom, partially offset by $55.8 million of realized capital gains, compared
to net realized capital losses of $15.7 million in 2001. The net realized
capital losses in 2001 reflected realized capital losses of $45.5 million, which
included $16.7 million relating to write-downs in the value of securities deemed
to be impaired on an other than temporary basis, which were partially offset by
$29.8 million of realized capital gains.
Interest expense was $42.4 million for 2002 compared to $46.0 million for 2001.
Interest expense for 2002 reflects $38.9 million relating to the Company's
senior notes and $3.5 million relating to the Company's borrowing under its
revolving credit facility. Interest expense for 2001 reflects $38.9 million
relating to the Company's senior notes and $7.1 million relating to the
Company's borrowing under its revolving credit facility. In addition, 2002
includes incurred expense of $2.1 million for distributions on Capital Trust's
trust preferred securities.
Other expense was $21.8 million in 2002 compared to other income of $26.6
million in 2001. Significant contributors to other expense in 2002 were deferred
gains principally on the Mt. McKinley reinsurance transaction with Bermuda Re,
which is retroactive in nature, foreign exchange losses, normal provision for
uncollectible audit premium in the U.S. Insurance operation and the amortization
of deferred expenses relating to the Company's issuance of senior notes and
Capital Trust's issuance of trust preferred securities in November 2002,
partially offset by fee income. Other income for 2001 includes $25.9 million
arising from a non-recurring receipt of shares in connection with the
demutualization of a former insurance company client that had issued annuities
to the Company in connection with certain claim settlement transactions. In
14
addition, other income for 2001 includes foreign exchange gains as well as fee
income, offset by the amortization of deferred expenses relating to the
Company's issuance of senior notes.
The Company has in its product portfolio a credit default swap, which it no
longer writes. This product meets the definition of a derivative under Financial
Accounting Standard No. 133 "Accounting for Derivative Instruments and Hedging
Activities" ("FAS 133"). Net derivative expense, essentially reflecting changes
in fair value from this credit default transaction in 2002, was $3.5 million,
compared to $7.0 million in 2001. See also Footnote 2 to Notes to the
Consolidated Financial Statements.
INCOME TAXES. The Company generated income tax expense of $24.8 million in 2002
compared to an income tax benefit of $9.2 million in 2001. The tax expense in
2002 was mainly attributable to improved underwriting results. The tax benefit
in 2001 primarily resulted from the impact of losses relating to the September
11 attacks, the Enron bankruptcy and realized capital losses recognized in 2001,
which reduced taxable income, partially offset by taxable income relating to the
non-recurring receipt of shares in connection with a former client's
demutualization.
NET INCOME. Net income was $115.1 million in 2002 compared to $38.3 million in
2001. This increase generally reflects the improved underwriting results,
partially offset by increased tax expense, realized capital losses and a
decrease in other income.
YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000
PREMIUMS. Gross premiums written increased 34.6% to $1,849.8 million in 2001
from $1,374.0 million in 2000, as the Company took advantage of selected growth
opportunities, while continuing to maintain a disciplined underwriting approach.
Premium growth areas included a 100.6% ($251.9 million) increase in the U.S.
Insurance operation, principally attributable to growth in worker's compensation
insurance, a 30.1% ($95.7 million) increase in the Specialty Underwriting
operation, mainly attributable to growth in A&H medical stop loss writings and a
26.7% ($128.8 million) increase in the U.S. Reinsurance operation, primarily
reflecting improved market conditions. These increases were partially offset by
a 0.2% ($0.8 million) decrease in the International operation. The Company
continued to decline business that did not meet its objectives regarding
underwriting profitability.
Ceded premiums increased to $432.9 million in 2001 from $166.7 million in 2000.
This increase was principally attributable to $123.2 million of ceded premiums
in 2001 relating to an arm's-length loss portfolio reinsurance transaction,
whereby the Company transferred the net exposures and reserves of its Belgium
branch to Bermuda Re. In addition, ceded premiums in 2001 also reflect $81.3
million of adjustment premiums incurred under the 2001 accident year aggregate
excess of loss element of the Company's corporate retrocessional program
relating to losses incurred as a result of the September 11 attacks and the
Enron bankruptcy. In addition, ceded premiums for 2001 and 2000 also include
adjustment premiums of $58.1 million and $35.2 million, respectively, relating
to claims made under the 1999 accident year aggregate excess of loss elementelements of
the Company's corporate retrocessional program. The increase in ceded premiums
in 2001 also reflects the impact on the U.S. Insurance operation's specific
reinsurance protections resulting from this unit's volume increase.
Net premiums written increased by 17.4% to $1,416.9 million in 2001 from
$1,207.3 million in 2000. This increase was consistent withas a result of the increase in gross
premiums written and the increase in ceded premiums.
1015
PREMIUM REVENUES. Net premiums earned increased by 14.7% to $1,333.5 million in
2001 from $1,162.6 million in 2000. Contributing to this increase were a 189.7%
($192.6 million) increase in the U.S. Insurance operation, a 22.9% ($69.2
million) increase in the Specialty Underwriting operation and a 5.5% ($26.0
million) increase in the U.S. Reinsurance operation. These increases were
partially offset by a 40.8% ($116.9 million) decrease in the International
operation, principally attributable to $122.3 million relating to the
reinsurance transaction between the Company and Bermuda Re noted earlier. All of
these changes reflect period to period variability in gross written and ceded
premiums, and business mix, together with normal variability in earnings
patterns. Business mix changes occur not only as the Company shifts emphasis
between products, lines of business, distribution channels and markets but also
as individual contracts renew or non-renew, almost always with changes in
coverage, structure, prices and/or terms, and as new contracts are accepted with
coverages, structures, prices and/or terms different from those of expiring
contracts. As premium reporting and earnings and loss and commission
characteristics derive from the provisions of individual contracts, the
continuous turnover of individual contracts, arising from both strategic shifts
and day to day underwriting, can and does introduce appreciable background
variability in various underwriting line items.
EXPENSES. Incurred loss and loss adjustment expenses ("LAE")LAE increased by 22.9% to $1,079.2 million in 2001
from $878.2 million in 2000. The increase in incurred losses and LAE was
principally attributable to an increase in business volume as reflected by the
increase in net premiums earned, the impact of incurred losses relating to the
September 11 attacks and the Enron bankruptcy and modest reserve strengthening
in select areas, together with the impact of changes in the Company's mix of
business. The Enron bankruptcy contributed $34.0 million of unusual losses in
2001, before cessions under the corporate retrocessional program. Incurred
losses and LAE include catastrophe losses, which reflect the impact of both
current period events and favorable and unfavorable development on prior period
events and are net of reinsurance. A catastrophe is an event that causes a
pre-tax loss on property exposures of at least $5.0 million and has an event
date of January 1, 1988 or later. Catastrophe losses, net of contract specific
cessions but before cessions under the corporate retrocessional program in 2001,
were $222.6 million, relating principally to the September 11 attacks, tropical
storm Alison, the Petrobras Oil Rig loss and the El Salvador earthquake,
loss, compared to $13.9 million in 2000. Incurred losses and LAE in 2001 reflected
ceded losses and LAE of $619.4 million compared to ceded losses and LAE in 2000
of $176.4 million, with the increase principally attributable to cessions
relating to the September 11 attack losses and the Enron bankruptcy, together
with increased cessions under specific reinsurance arrangements in the U.S.
Insurance operation. The ceded losses and LAE for 2001 reflect $164.0 million of
losses ceded under the 2001 accident year aggregate excess of loss component of
the Company's corporate retrocessional program. The ceded losses and LAE for
2001 and 2000 reflect $105.0 million and $70.0 million, respectively, of losses
ceded under the 1999 accident year aggregate excess of loss component of the
Company's corporate retrocessional program, with the amounts in both periods
reflecting reserve strengthening in select lines. In addition, ceded losses and
LAE in 2001 also
reflects $119.4 million relating to the reinsurance transaction
between the Company and Bermuda Re noted earlier.
Contributing to the increase in incurred losses and LAE in 2001 from 2000 were a
200.7% ($141.0 million) increase in the U.S. Insurance operation, principally
reflecting increased premium volume, a 41.5% ($131.9 million) increase in the
U.S. Reinsurance operation, principally reflecting losses in connection with the
September 11 attacks and tropical storm Alison and a 30.1% ($76.5 million)
increase in the Specialty Underwriting operation, principally attributable to
increased premium volume in A&H medical stop loss business together with marine,
11
aviation and surety losses relating to the September 11 attacks, the Enron
bankruptcy and the Petrobras Oil Rig loss event.loss. These increases were partially offset
by a 62.9% ($148.5 million) decrease in the International operation, principally
16
attributable to $119.4 million relating to the reinsurance transaction between
the Company and Bermuda Re noted earlier, and to more favorable loss experience.
Incurred losses and LAE for each operation were also impacted by variability
relating to changes in the level of premium volume and mix of business by class
and type.
The Company's loss and LAE ratio ("loss ratio"), which is calculated by dividing
incurred losses and LAE by premiums earned, increased by 5.4 percentage points
to 80.9% in 2001 from 75.5% in 2000 reflecting the incurred losses and LAE
discussed above. The following table shows the loss ratios for each of the
Company's operating segments for 2001 and 2000. The loss ratios for all
operations were impacted by the expense factors noted above, the impact on ceded
premiums of adjustment premiums under the Company's corporate retrocessional
program.
OPERATING SEGMENT LOSS RATIOS
- --------------------------------------------------------------------------------
Segment 2001 2000
- --------------------------------------------------------------------------------
U.S. Reinsurance 90.4% 67.4%
U.S. Insurance 71.8% 69.2%
Specialty Underwriting 89.0% 84.0%
International 51.5% 82.3%
Underwriting expenses increased by 41.3% to $448.9 million in 2001 from $317.7
million in 2000. Commission, brokerage, taxes and fees increased by $126.2
million, principally reflecting increases in premium volume and changes in the
mix of business. In addition, in 2000, the Company's reassessment of the
expected losses on a multi-year reinsurance treaty led to a $33.8 million
decrease in contingent commissions with a corresponding increase to losses.
Other underwriting expenses increased by $5.0 million as the Company has expanded
its business volume and operations. Contributing to the underwriting expense
increase were a 122.7% ($45.6 million) increase in the U.S. Insurance operation,
mainly relating to the increased premium volume, a 70.8% ($68.0 million)
increase in the U.S. Reinsurance operation, which included the impact of the
contingent commission adjustment noted above and a 22.5% ($19.8 million)
increase in the Specialty operation. These increases were partially offset by a
0.2% ($1.9 million) decrease in the International operation. Except as noted,
the changes for each operation's expenses principally resulted from changes in
commission expenses related to changes in premium volume and business mix by
class and type and, in some cases, the underwriting performance of the
underlying business. The Company's expense ratio, which is calculated by
dividing underwriting expenses by premiums earned, increased by 6.4 percentage
points to 33.7% in 2001 compared to 27.3% in 2000.
The Company's combined ratio, which is the sum of the loss and expense ratios,
increased by 11.8 percentage points to 114.6% in 2001 compared to 102.8% in
2000. The following table shows the combined ratios for each of the Company's
operating segments for 2001 and 2000. The combined ratios for all operations
were impacted by the loss and expense ratio variability noted above as well as
by the impact on ceded premiums of adjustment premiums under the Company's
corporate retrocessional program and, for the International operation, the
effect on the expense ratio related to the ceded premium associated with the
reinsurance transaction between the Company and Bermuda Re noted earlier.
1217
OPERATING SEGMENT COMBINED RATIOS
- --------------------------------------------------------------------------------
Segment 2001 2000
- --------------------------------------------------------------------------------
U.S. Reinsurance 123.3% 88.0%
U.S. Insurance 99.9% 105.8%
Specialty Underwriting 118.0% 113.1%
International 106.2% 115.4%
INVESTMENTS. Net investment income decreased by 0.2% to $265.9 million in 2001
from $271.4 million in 2000, principally reflecting the effect of investing the
$303.8 million of cash flow from operations in 2001, offset by the lower
interest rate environment and increased interest expense on funds held relating
to the utilization of the 1999 and 2001 accident year aggregate excess of loss
elements of the corporate retrocessional program. The following table shows a
comparison of various investment yields as of December 31, 2001 and 2000,
respectively, and for the periods then ended.
2001 2000
-------------------------------------------------
Imbedded pre-tax yield of cash and invested
assets at end of period 6.0% 6.7%
Imbedded after-tax yield of cash and invested
assets at end of period 4.6% 5.0%
Annualized pre-tax yield on average cash and
invested assets 6.2% 6.5%
Annualized after-tax yield on average cash and
invested assets 4.7% 5.0%
Net realized capital losses were $15.7 million in 2001, reflecting realized
capital losses on the Company's investments of $45.5 million, which includes
$3.1$16.7 million relating to write-downs in the value of securities deemed to be
impaired on an other than temporary basis, partially offset by $29.8 million of
realized capital gains, compared to realized capital gains of $0.3 million in
2000. The net realized capital gains in 2000 reflected realized capital gains of
$30.3 million, which were partially offset by $30.0 million of realized capital
losses.
The net realized capital losses for 2001 allowed the Company to
recapture taxes paid on net realized capital gains in prior periods. The
realized capital gains in 2001 and 2000 arose mainly from activity in the
Company's equity portfolio. The realized capital losses in 2001 and 2000 arose
mainly from activity in the Company's fixed maturity portfolios.
Interest expense was $46.0 million for 2001 compared to $39.4 million in 2000.
Interest expense for 2001 reflects $38.9 million relating to the Company's
senior notes issued on March 14, 2000 and $7.1 million relating to the company'sCompany's borrowing under its
revolving credit facility. Interest expense for 2000 reflects $30.9 million
relating to the Company's issuance of senior notes and $8.5 million relating to the
Company's borrowing under its revolving credit facility.
Other income was $26.6 million in 2001 compared to $3.3 million in 2000. Other
income for 2001 includes $25.9 million arising from a non-recurring receipt of
shares in connection with the demutualization of a former insurance company
client whichthat had issued annuities owned byto the Company in connection with certain claim
settlement transactions. In addition, other income for 2001 includes foreign
exchange gains as well as financing fees from Everest Security, offset by the
amortization of deferred expenses relating to the Company's issuance of 13
senior
notes. Significant contributors to other income for 2000 were foreign exchange
gains as well as financing fees from Everest Security, partially offset by net
derivative expense and the amortization of deferred expenses relating to Holdings'the
Company's issuance of senior notes. The foreign exchange gains and losses are
attributable to fluctuations in foreign currency exchange rates.
18
During 2000, the Company added to its product portfolio a credit default swap,
which it no longer offers,writes, that has characteristics which allow this transaction
to be analyzed using approaches consistent with those used in the Company's
other operations. This product meets the definition of a derivative under Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities" ("FAS
133").133. Net derivative expense from this transaction in 2001 was $7.0 million,
principally attributable to credit default losses relating to the Enron
bankruptcy.
INCOME TAXES. The Company generated income tax benefits of $9.2 million in 2001
compared to income tax expense of $43.8 million in 2000. This tax benefit
primarily resulted from the impact of losses relating to the September 11
attacks, the Enron bankruptcy and realized capital losses recognized in 2001,
which reduced taxable income, partially offset by the impact of income tax
expense relating to the non-recurring receipt of shares in connection with a
former client's demutualization.
NET INCOME. Net income was $38.3 million in 2001 compared to $158.5 million in
2000. This decrease generally reflects the losses attributable to the September
11 attacks and the Enron bankruptcy, partially offset by improved investment
results and the non-recurring receipt of shares in connection with a former
client's demutualization.
SAFE HARBOR DISCLOSURE
This report contains forward-looking statements within the meaning of the U.S.
federal securities laws. The Company intends these forward-looking statements to
be covered by the safe harbor provisions for forward-looking statements in the
federal securities laws. In some cases, these statements can be identified by
the use of forward-looking words such as "may", "will", "should", "could",
"anticipate", "estimate", "expect", "plan", "believe", "predict", "potential"
and "intend". Forward-looking statements contained in this report include
information regarding the Company's reserves for losses and LAE and estimates of
the Company's catastrophe exposure. Forward-looking statements only reflect the Company's expectations
and are not guarantees of performance. These statements involve risks,
uncertainties and assumptions. Actual events or results may differ materially
from the Company's expectations. Important factors that could cause actual
events or results to be materially different from the Company's expectations
include those discussed below under the caption "Risk Factors". The Company
undertakes no obligation to update or revise publicly any forward-looking
statements, whether as a result of new information, future events or otherwise.
RISK FACTORS
The following risk factors, in addition to the other information provided in
this report, should be considered when evaluating the Company. The risks and
uncertainties described below are not the only ones the Company faces. There may
be additional risks and uncertainties. If any of the
following risks actually occur, the Company's business, financial condition or
results of operations could be materially and adversely affected and the trading price of the
Company's common shares could decline significantly.affected.
THE COMPANY'S RESULTS MAY FLUCTUATE AS A RESULT OF FACTORS GENERALLY AFFECTING
THE INSURANCE AND REINSURANCE INDUSTRY.
The results of companies in the insurance and reinsurance industry historically
have been subject to significant fluctuations and uncertainties. Factors that
14
affect the industry in general could also cause the Company's results to
fluctuate. The industry's profitability can be affected significantly by:
o- - fluctuations in interest rates, inflationary pressures and other changes in
the investment environment, which affect returns on invested capital and
may impact the ultimate payout of loss amounts;
o19
- - rising levels of actual costs that are not known by companies at the time
they price their products;
o- - volatile and unpredictable developments, including weather-related and
other natural catastrophes;
o- - events like the September 11, 2001 attacks, which affect the insurance and
reinsurance markets generally;
o- - changes in reserves resulting from different types of claims that may arise
and the development of judicial interpretations relating to the scope of
insurers' liability; and
o- - the overall level of economic activity and the competitive environment in
the industry.
IF THE COMPANY'S LOSS RESERVES ARE INADEQUATE TO MEET ITS ACTUAL LOSSES, THE
COMPANY'S NET INCOME WOULD BE REDUCED OR IT COULD INCUR A LOSS.
The Company is required to maintain reserves to cover its estimated ultimate
liability of losses and loss adjustment expenses for both reported and
unreported claims incurred. These reserves are only estimates of what the
Company thinks the settlement and administration of claims will cost based on
facts and circumstances known to the Company. Because of the uncertainties that
surround estimating loss reserves and loss adjustment expenses, the Company
cannot be certain that ultimate losses will not exceed these estimates of losses
and loss adjustment reserves. If the Company's reserves are insufficient to
cover its actual losses and loss adjustment expenses, the Company would have to
augment its reserves and incur a charge to its earnings. These charges could be
material. The difficulty in estimating the Company's reserves is increased
because the Company's loss reserves include reserves for potential asbestos and
environmental liabilities. Asbestos and environmental liabilities are especially
hard to estimate for many reasons, including the long waiting periods between
exposure and manifestation of any bodily injury or property damage, difficulty
in identifying the source of the asbestos or environmental contamination, long
reporting delays and difficulty in properly allocating liability for the
asbestos or environmental damage.
THE COMPANY'S INABILITY TO ASSESS UNDERWRITING RISK ACCURATELY COULD REDUCE ITS
NET INCOME.
The Company's success is dependent on its ability to assess accurately the risks
associated with the businesses on which the risk is retained. If the Company
fails to assess accurately the risks it retains, the Company may fail to
establish appropriate premium rates and the Company's reserves may be inadequate
to cover its losses, requiring augmentation of the Company's reserves, which in
turn, could reduce the Company's net income.
DECREASES IN RATES FOR PROPERTY AND CASUALTY REINSURANCE AND INSURANCE COULD
REDUCE THE COMPANY'S NET INCOME.
15
The Company primarily writes property and casualty reinsurance and insurance.
The property and casualty industry historically has been highly cyclical. Rates
for property and casualty reinsurance and insurance are influenced primarily by
factors that are outside of the Company's control. Any significant decrease in
the rates for property and casualty insurance or reinsurance could reduce the
Company's net income.
20
IF RATING AGENCIES DOWNGRADE THEIR RATINGS OF THE COMPANY'S INSURANCE COMPANY
SUBSIDIARIES, THE COMPANY'S FUTURE PROSPECTS FOR GROWTH AND PROFITABILITY COULD
BE SIGNIFICANTLY AND ADVERSELY AFFECTED.
The Company's insurance company subsidiaries, other than Mt. McKinley, currently
hold an A+ ("Superior") financial strength rating from A.M. Best Company,Best. Everest Re and
Everest National hold an AA- ("Very Strong"Positive") financial strength rating from
Standard & Poor's Ratings
Services andPoor's. Everest Re holds an Aa3 ("Excellent") financial strength
rating from Moody's
Investors Service, Inc.Moody's. Financial strength ratings are used by insurers and
reinsurance and insurance intermediaries as an important means of assessing the
financial strength and quality of reinsurers. In addition, the rating of a
company purchasing reinsurance may be adversely affected by an unfavorable
rating or the lack of a rating of its reinsurer. A downgrade or withdrawal of
any of these ratings might adversely affect the Company's ability to market its
insurance products and would have a significant and adverse effect on its future
prospects for growth and profitability.
THE COMPANY'S REINSURERS MAY NOT SATISFY THEIR OBLIGATIONS.
The Company is subject to credit risk with respect to its reinsurers because the
transfer of risk to a reinsurer does not relieve the Company of its liability to
the insured. In addition, reinsurers may be unwilling to pay the Company even
though they are able to do so. The failure of one or more of the Company's
reinsurers to honor their obligations in a timely fashion would impact the
Company's cash flow and reduce its net income and could cause the Company to
incur a significant loss.
IF THE COMPANY IS UNABLE TO PURCHASE REINSURANCE AND TRANSFER RISK TO
REINSURERS, ITS NET INCOME COULD BE REDUCED OR THE COMPANY COULD INCUR A LOSS.
The Company attempts to limit its risk of loss by purchasing reinsurance to
transfer a portion of the risks it assumes. The availability and cost of
reinsurance is subject to market conditions, which are outside of the Company's
control. As a result, the Company may not be able to successfully purchase
reinsurance and transfer risk through reinsurance arrangements. A lack of
available reinsurance might adversely affect the marketing of the Company's
programsbusiness and/or force the Company to retain all or a part of the risk that
cannot be reinsured. If the Company were required to retain these risks and
ultimately pay claims with respect to these risks, the Company's net income
could be reduced or the Company could incur a loss.
THE COMPANY'S INDUSTRY IS HIGHLY COMPETITIVE AND THE COMPANY MAY NOT BE ABLE TO
COMPETE SUCCESSFULLY IN THE FUTURE.
The Company's industry is highly competitive and has experienced severesignifiacant
price competition over the last several years.competition. The Company competes in the United States and international
markets with domestic and international insurance companies. Some of these
competitors have greater financial resources than the Company, have been
operating for longer than the Company and have established long-term and
continuing business relationships throughout the industry, which can be a
significant competitive advantage. In addition, the Company expects to face
further competition in the future. The Company may not be able to compete
successfully in the future.
16
THE COMPANY IS DEPENDENT ON ITS KEY PERSONNEL.
The Company's success has been, and will continue to be, dependent on its
ability to retain the services of its existing key executive officers and to
attract and retain additional qualified personnel in the future. The loss of the
21
services of any of its key executive officers or the inability to hire and
retain other highly qualified personnel in the future could adversely affect the
Company's ability to conduct its business.
THE VALUE OF THE COMPANY'S INVESTMENT PORTFOLIO AND THE INVESTMENT INCOME IT
RECEIVES FROM THAT PORTFOLIO COULD DECLINE AS A RESULT OF MARKET FLUCTUATIONS
AND ECONOMIC CONDITIONS.
A significant portion of the Company's investment portfolio consists of fixed
income securities and a smaller portion consists of equity securities. Both the
fair market value of these assets and the investment income from these assets
fluctuate depending on general economic and market conditions. For example, the
fair market value of the Company's fixed income securities generally increases
or decreases in an inverse relationship with fluctuations in interest rates. The
fair market value of the Company's fixed income securities can also decrease as
a result of any downturn in the business cycle that causes the credit quality of
those securities to deteriorate. The net investment income that the Company
realizes from future investments in fixed income securities will generally
increase or decrease with interest rates. Interest rate fluctuations can also
cause net investment income from investments that carry prepayment risk, such as
mortgage-backed and other asset-backed securities, to differ from the income
anticipated from those securities at the time the Company bought them. In
addition, if issuers of individual investments are unable to meet their
obligations, investment income will be reduced and realized capital losses may
arise. Because all of the Company's securities are classified as available for
sale, changes in the market value of the Company's securities are reflected in
its financial statements. Similar treatment is not available for liabilities. As
a result, a decline in the value of the securities in the Company's portfolio
could reduce its net income or cause the Company to incur a loss.
INSURANCE LAWS AND REGULATIONS RESTRICT THE COMPANY'S ABILITY TO OPERATE.
The Company is subject to extensive regulation under U.S., state and foreign
insurance laws. These laws limit the amount of dividends that can be paid to the
Company by its operating subsidiaries, impose restrictions on the amount and
type of investments that they can hold, prescribe solvency standards that must
be met and maintained by them and require them to maintain reserves. These laws
also require disclosure of material intercompany transactions and require prior
approval of certain "extraordinary" transactions. These "extraordinary"
transactions include declaring dividends from operating subsidiaries that exceed
statutory thresholds. These laws also generally require approval of changes of
control. The Company's failure to comply with these laws could subject it to
fines and penalties and restrict it from conducting business. The application of
these laws could affect the Company's liquidity and ability to pay dividends on
its common shares and could restrict the Company's ability to expand its
business operations through acquisitions involving the Company's insurance
subsidiaries.
FAILURE TO COMPLY WITH INSURANCE LAWS AND REGULATIONS COULD HAVE A MATERIAL
ADVERSE EFFECT ON THE COMPANY'S BUSINESS.
The Company cannot assure that it has or can maintainmay not have all required licenses and approvals or that its business fully compliesmay not comply
with the wide variety of applicable laws and regulations or the relevant
authority'sauthorities' interpretation of the laws and regulations. In addition, some regulatory authorities have
relatively broad discretion to grant, renew or revoke licenses and approvals. If the Company does not
have the requisite licenses and approvals or dodoes not comply
17
with applicable
regulatory requirements, the insurance regulatory authorities could preclude or
temporarily suspend the Company from carrying on some or all of its activities
or monetarily penalize the Company. These types of actions could have a material
adverse effect on the Company's business.
22
THE COMPANY MAY EXPERIENCE EXCHANGE LOSSES IF IT DOES NOT MANAGE ITS FOREIGN
CURRENCY EXPOSURE PROPERLY.
The Company's functional currency is the United States dollar. However, the
Company writes a portion of its business and receives a portion of its premiums
in currencies other than United States dollars. The Company also maintains a
portion of its investment portfolio in investments denominated in currencies
other than United States dollars. Consequently, the Company may experience
exchange losses if its foreign currency exposure is not properly managed or
otherwise hedged. If the Company seeks to hedge its foreign currency exposure by
using forward foreign currency exchange contracts or currency swaps, the Company
will be subject to the risk that the counter parties to those arrangements will
fail to perform, or that those arrangements will not precisely offset the
Company's exposure.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET SENSITIVE INSTRUMENTS
The Securities and Exchange Commission Financial Reporting Release #48 requires
registrants to clarify and expand upon the existing financial statement
disclosure requirements for derivative financial instruments, derivative
commodity instruments, and other financial instruments (collectively, "market
sensitive instruments"). The Company does not enter into market sensitive
instruments for trading purposes.
The Company's current investment strategy seeks to maximize after-tax income
through a high quality, diversified, taxable and tax-preferenced fixed maturity
portfolio, while maintaining an adequate level of liquidity. The Company's mix
of taxable and tax-preferenced investments is adjusted continuously, consistent
with its current and projected operating results, market conditions, and the
Company's tax position. The fixed maturities in the investment portfolio are
comprised of non-trading available for sale securities. Additionally, the
Company invests in equity securities, which it believes will enhance the
risk-adjusted total return of the investment portfolio. The Company has also
engaged in a credit default swap, the market sensitivity of which is believed
not to be immaterial.material.
The overall investment strategy considers the scope of present and anticipated
Company operations. In particular, estimates of the financial impact resulting
from non-investment asset and liability transactions, together with the
Company's capital structure and other factors, are used to develop a net
liability analysis. This analysis includes estimated payout characteristics for
which the investments of the Company provide liquidity. This analysis is
considered in the development of specific investment strategies for asset
allocation, duration, and credit quality. The change in overall market sensitive
risk exposure principally reflects the asset changes that took place during the
year, together with minor changes in the underlying risk characteristics.
The $4.5$5.2 billion investment portfolio is comprised principally of fixed maturity
securities that are subject to interest rate risk and foreign currency rate
risk, and equity securities that are subject to equity price risk. The impact of
these risks in the investment portfolio is generally mitigated by changes in the
value of operating assets and liabilities and their associated income statement
impact.
18
Interest rate risk is the potential change in value of the fixed maturity
portfolio, including short-term investments, due to change in market interest
rates. Further, it includes
prepayment risk inIn a declining interest rate environment, it includes prepayment risk on
the $450.8$401.4 million of mortgage-backed securities in the $4.3$4.9 billion fixed
23
maturity portfolio, which consists of mortgage-backed
securities.portfolio. Prepayment risk results from potential accelerated principal
payments that shorten the average life and thus, the expected yield of the
security.
The tables below display the potential impact of market value fluctuations and
after-tax unrealized appreciation on the fixed maturity portfolio as of December
31, 20012002 and 20002001 based on parallel 200 basis point shifts in interest rates up
and down in 100 basis point increments. For legal entities with a U.S. dollar
functional currency, this modeling was performed on each security individually.
To generate appropriate price estimates on mortgage-backed securities, changes
in prepayment expectations under different interest rate environments are taken
into account. For legal entities with a non-U.S. dollar functional currency, the
effective duration of the involved portfolio of securities was used as a proxy
for the market value change under the various interest rate change scenarios.
All amounts are in U.S. dollars and are presented in millions.
20012002
INTEREST RATE SHIFT IN BASIS POINTS
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
-200 -100 0 100 200
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Total Market Value $5,711.7 $5,306.2 $4,936.1 $4,590.3 $4,282.3
Market Value Change from Base
(%) 15.7% 7.5% 0.0% (7.0)% (13.2)%
Change in Unrealized
Appreciation After-tax from
Base ($) $ 4,875.7504.2 $ 4,578.3240.6 $ 4,302.8- $ 4,043.8(224.7) $ 3,807.1(425.0)
2001
INTEREST RATE SHIFT IN BASIS POINTS
- ---------------------------------------------------------------------------------------------------------
-200 -100 0 100 200
- ---------------------------------------------------------------------------------------------------------
Total Market Value $4,875.7 $4,578.3 $4,302.8 $4,043.8 $3,807.1
Market Value Change from
Base (%) 13.3% 6.4% 0.0% (6.0%) (11.5%)(6.0)% (11.5)%
Change in Unrealized
Appreciation After-tax from
Base ($) $ 372.4 $ 179.1 $ - $ (168.3) $ (322.2)
2000
INTEREST RATE SHIFT IN BASIS POINTS
- ------------------------------------------------------------------------------------------
-200 -100 0 100 200
- ------------------------------------------------------------------------------------------
Total Market Value $ 4,637.3 $ 4,384.1 $ 4,150.6 $ 3,923.7 $ 3,710.2
Market Value Change
from Base (%) 11.8% 5.6% 0.0% (5.5%) (10.6%)
Change in Unrealized
Appreciation After-tax
from Base ($) $ 316.4 $ 151.8 $ - $ (147.5) $ (286.3)
Foreign currency rate risk is the potential change in value, income, and cash
flow arising from adverse changes in foreign currency exchange rates. TheEach of
the Company's foreign operations each maintainmaintains capital in the currency of the
country of its geographic location consistent with local regulatory guidelines.
Generally, the Company prefers to maintain the capital of its foreign operations
in U.S. dollar assets although this varies by regulatory jurisdiction in
accordance with market needs. Each foreign operation may conduct business in its
19
local currency as well as the currency of other countries in which it operates.
The primary foreign currency exposures for these foreign operations are the
Canadian Dollar, the British Pound Sterling and the Euro for these foreign operations.Euro. The Company mitigates
24
foreign exchange exposure by a general matching of the currency and duration of
its assets to its corresponding operating liabilities. In accordance with
Financial Accounting Standards Board Statement No. 52, the Company translates
the assets, liabilities and income of non-U.S. dollar functional currency legal
entities to the U.S. dollar. This translation amount is reported as a component
of other comprehensive income. The primary functional foreign currency exposures
for these foreign operations are the Canadian Dollar, the Belgian FrancEuro and the British
Pound Sterling for
these foreign operations.Sterling.
The tables below display the potential impact of a parallel 20% increase and
decrease in foreign exchange rates on the valuation of invested assets subject
to foreign currency exposure in 10% increments as of December 31, 20012002 and 2000.2001.
This analysis includes the after-tax impact of translation from transactional
currency to functional currency as well as the after-tax impact of translation
from functional currency to the U.S. dollar reporting currency. All amounts are
in U.S. dollars and are presented in millions.
20012002
CHANGE IN FOREIGN EXCHANGE RATES IN PERCENT
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
-20% -10% 0% 10% 20%
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Total After-tax Foreign
Exchange Exposure ($ 40.7) ($ 21.6)$(29.9) $(16.8) $ - $ 23.319.0 $ 47.941.3
20002001
CHANGE IN FOREIGN EXCHANGE RATES IN PERCENT
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
-20% -10% 0% 10% 20%
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Total After-tax Foreign
Exchange Exposure ($ 42.9) ($ 22.5)$(40.7) $(21.6) $ - $ 24.223.3 $ 49.547.9
Equity risk is the potential change in market value of the common stock and
preferred stock portfolios arising from changing equity prices. The Company
invests in index mutual funds and high quality common and preferred stocks that are traded on the major
exchanges in the United States.States and funds investing in such securities. The
primary objective in managing the $67.5$72.5 million equity portfolio is to provide
long-term capital growth through market appreciation and income.
The tables below display the impact on market value and after-tax unrealized
appreciation of a 20% change in equity prices up and down in 10% increments as
of December 31, 20012002 and 2000.2001. All amounts are in U.S. dollars and are presented
in millions.
20012002
CHANGE IN EQUITY VALUES IN PERCENT
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
-20% -10% 0% 10% 20%
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Market Value of the Equity Portfolio $ 54.0 $ 60.7 $ 67.5 $ 74.2 $ 80.9$58.0 $65.2 $72.5 $79.7 $87.0
After-tax Change in Unrealized Appreciation (8.8) (4.4)$(9.4) $(4.7) $ - 4.4 8.8$ 4.7 $ 9.4
2025
20002001
CHANGE IN EQUITY VALUES IN PERCENT
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
-20% -10% 0% 10% 20%
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Market Value of the Equity Portfolio $ 29.3 $ 33.0 $ 36.6 $ 40.3 $ 44.0$54.0 $60.7 $67.5 $74.2 $80.9
After-tax Change in Unrealized Appreciation (4.8) (2.4)$(8.8) $(4.4) $ - 2.4 4.8$ 4.4 $ 8.8
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and schedules listed in the accompanying Index to
Financial Statements and Schedules on page F-1 are filed as part of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information for this Item 10 is not required pursuant to General Instruction
I(2) of Form 10-K.
ITEM 11. EXECUTIVE COMPENSATION
Information for this Item 11 is not required pursuant to General Instruction
I(2) of Form 10-K.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
Information for this Item 12 is not required pursuant to General Instruction
I(2) of Form 10-K.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information for this Item 13 is not required pursuant to General Instruction
I(2) of Form 10-K.
ITEM 14. CONTROLS AND PROCEDURES
Within the 90-day period prior to the filing of this report, an evaluation was
carried out under the supervision and with the participation of the Company's
management, including the Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the disclosure controls and procedures (as defined in
Rule 13a-14(c) under the Securities Exchange Act of 1934). Based on their
evaluation, the Chief Executive Officer and Chief Financial Officer believe that
the Company's disclosure controls and procedures are effective to ensure that
information required to be disclosed by the Company in reports that it files or
submits under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in Securities and Exchange Commission rules
and forms. Subsequent to the date of their evaluation, there were no significant
changes in the Company's internal controls or in other factors that could
significantly affect these controls, including any corrective actions with
regard to significant deficiencies and material weaknesses.
26
PART IV
ITEM 14.15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
FINANCIAL STATEMENTS AND SCHEDULES
The financial statements and schedules listed in the accompanying Index to
Financial Statements and Schedules on page F-1 are filed as part of this report.
EXHIBITS
The exhibits listed on the accompanying Index to Exhibits on page E-1 are filed
as part of this report.
REPORTS ON FORM 8-K
No reports on Form 8-K were filed during the last quarter of 2001.
212002.
27
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized on March 28, 2002.
EVEREST REINSURANCE HOLDINGS, INC.
By: /s/ JOSEPH V. TARANTO
------------------------------------------------------------------------------------
Joseph V. Taranto
(Chairman and Chief Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
/s/ JOSEPH V. TARANTO Chairman and Chief March 28, 2002
- ------------------------ Executive Officer March 20, 2003
- ---------------------- and Director (Principal Executive
Joseph V. Taranto Director (Principal
Executive Officer)
/s/ STEPHEN L. LIMAURO Executive Vice President, Chief March 28, 200220, 2003
- ------------------------ Chief----------------------- Financial Officer and Director
Stephen L. Limauro Director (Principal Financial andOfficer)
/s/ KEITH T. SHOEMAKER Comptroller (Principal Accounting March 20, 2003
- ----------------------- Officer)
Keith T. Shoemaker
/s/ THOMAS J. GALLAGHER Director March 28, 200220, 2003
- ------------------------
Thomas J. Gallagher
2228
INDEX TO FINANCIAL STATEMENTS AND SCHEDULES
Pages
-----
Everest Reinsurance Holdings, Inc.
Report of Independent AccountantsI, Joseph V. Taranto, certify that:
1. I have reviewed this annual report on Financial
Statements and Schedules F-2
---
Consolidated Balance Sheets at December 31, 2001 and 2000 F-3
---
Consolidated Statements of Operations and Comprehensive Income
for the years ended December 31, 2001, 2000 and 1999 F-4
---
Consolidated Statements of Changes in Stockholder's Equity
for the years ended December 31, 2001, 2000 and 1999 F-5
---
Consolidated Statements of Cash Flows for the years ended
December 31, 2001, 2000 and 1999 F-6
---
Notes to Consolidated Financial Statements F-7
---
Schedules
I Summary of Investments Other Than Investments in Related
Parties at December 31, 2001 S-1
---
II Condensed Financial Information of Registrant:
Balance Sheets as of December 31, 2001 and 2000 S-2
---
Statements of Operations for the Years Ended
December 31, 2001, 2000 and 1999 S-3
---
Statements of Cash Flows for the Years Ended
December 31, 2001, 2000 and 1999 S-4
---
III Supplementary Insurance Information as of
December 31, 2001 and 2000 and for the years
ended December 31, 2001, 2000 and 1999 S-5
---
IV Reinsurance for the years ended December 31, 2001,
2000 and 1999 S-6
---
Schedules other than those listed above are omitted for the reason that they are
not applicable or the information is otherwise contained in the Financial
Statements.
F-1
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and StockholderForm 10-K of Everest Reinsurance
Holdings, Inc.
In our opinion,Inc;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the consolidatedstatements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, listedand other financial
information included in the accompanying
indexthis annual report, fairly present fairly, in all material
respects the financial position of
Everest Reinsurance Holdings, Inc. and its subsidiaries at December 31, 2001 and
2000, and the results of their operations and their cash flows for each of the
three years in the period ended December 31, 2001 in conformity with accounting
principles generally accepted in the United States of America. In addition, in
our opinion, the financial statement schedules listed in the accompanying index
present fairly, in all material respects, the information set forth therein when
read in conjunction with the related consolidated financial statements. These
financial statements and financial statement schedules are the responsibility of
the Company's management; our responsibility is to express an opinion on these
financial statements and financial statement schedules based on our audits. We
conducted our audits of these statements in accordance with auditing standards
generally accepted in the United States of America, which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
New York, New York
February 14, 2002
F-2
Part I - Item 1
EVEREST REINSURANCE HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except par value per share)
December 31, December 31,
------------ ------------
2001 2000
------------ ------------
ASSETS:
Fixed maturities - available for sale,
at market value (amortized cost:
2001, $4,051,833; 2000, $3,793,279) $ 4,186,923 $ 3,879,335
Equity securities, at market value
(cost: 2001, $66,412; 2000, $22,395) 67,453 36,634
Short-term investments 115,850 271,216
Other invested assets 32,039 29,211
Cash 67,509 68,397
------------ ------------
Total investments and cash 4,469,774 4,284,793
Accrued investment income 64,972 64,508
Premiums receivable 454,548 393,229
Reinsurance receivables 1,471,357 996,689
Funds held by reinsureds 149,710 161,350
Deferred acquisition costs 114,948 92,478
Prepaid reinsurance premiums 48,100 58,196
Deferred tax asset 178,476 174,451
Other assets 60,496 37,622
------------ ------------
TOTAL ASSETS $ 7,012,381 $ 6,263,316
============ ============
LIABILITIES:
Reserve for losses and loss
adjustment expenses $ 4,274,335 $ 3,785,747
Unearned premium reserve 473,308 401,148
Funds held under reinsurance
treaties 308,811 110,464
Losses in the course of payment 83,360 101,995
Contingent commissions 3,345 9,380
Other net payable to reinsurers 132,252 60,332
Current federal income taxes (30,365) (8,210)
8.5% Senior notes due 3/15/2005 249,694 249,615
8.75% Senior notes due 3/15/2010 199,077 199,004
Revolving credit agreement
borrowings 105,000 235,000
Accrued interest on debt and
borrowings 11,944 12,212
Other liabilities 90,211 56,142
------------ ------------
Total liabilities 5,900,972 5,212,829
------------ ------------
Commitments and contingencies (Note 12)
STOCKHOLDER'S EQUITY:
Common stock, par value: $0.01; 200
million shares authorized; 1,000
shares issued in 2001 and 2000 - -
Additional paid-in capital 258,775 255,359
Accumulated other comprehensive
income, net of deferred income
taxes of $40.8 million in 2001
and deferred income taxes of
$30.4 million in 2000 76,003 56,747
Retained earnings 776,631 738,381
------------ ------------
Total stockholder's equity 1,111,409 1,050,487
------------ ------------
TOTAL LIABILITIES AND
STOCKHOLDER'S EQUITY $ 7,012,381 $ 6,263,316
============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
F-3
EVEREST REINSURANCE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(Dollars in thousands, except per share amounts)
Years Ended December 31,
-------------------------------------------
2001 2000 1999
----------- ----------- -----------
REVENUES:
Premiums earned $ 1,333,501 $ 1,162,597 $ 1,071,451
Net investment income 265,924 271,389 252,999
Net realized capital
(loss) gain (15,745) 291 (16,760)
Net derivative (expense) (7,020) - -
Other income (expense) 26,565 3,341 (1,030)
----------- ----------- -----------
1,603,225 1,437,618 1,306,660
----------- ----------- -----------
CLAIMS AND EXPENSES:
Incurred losses and loss
adjustment expenses 1,079,219 878,241 771,570
Commission, brokerage,
taxes and fees 393,645 267,410 285,957
Other underwriting expenses 55,292 50,264 48,263
Non-recurring restructure
expenses - - 2,798
Interest expense on senior
notes 38,903 30,896 -
Interest expense on credit
facility 7,101 8,490 1,490
----------- ----------- -----------
1,574,160 1,235,301 1,110,078
----------- ----------- -----------
INCOME BEFORE TAXES 29,065 202,317 196,582
Income tax (benefit) expense (9,185) 43,822 38,521
----------- ----------- -----------
NET INCOME $ 38,250 $ 158,495 $ 158,061
=========== =========== ===========
Other comprehensive income
(loss), net of tax 19,256 73,448 (202,219)
----------- ----------- -----------
COMPREHENSIVE INCOME (LOSS) $ 57,506 $ 231,943 $ (44,158)
=========== =========== ===========
The accompanying notes are an integral part of the consolidated financial
statements.
F-4
EVEREST REINSURANCE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CHANGES
IN STOCKHOLDER'S EQUITY
(Dollars in thousands, except per share amounts)
Years Ended December 31,
-------------------------------------------
2001 2000 1999
----------- ----------- -----------
COMMON STOCK (shares outstanding):
Balance, beginning of period 1,000 46,457,817 49,989,204
Issued during the period - 8,500 17,400
Treasury stock acquired during
the period - (650,400) (3,554,047)
Treasury stock reissued during
the period - 1,780 5,260
Common stock retired during the
period - (45,817,697) -
Issued during the period - 1,000 -
----------- ----------- -----------
Balance, end of period 1,000 1,000 46,457,817
=========== =========== ===========
COMMON STOCK (par value):
Balance, beginning of period $ - $ 509 $ 509
Common stock retired during
the period - (509) -
----------- ----------- -----------
Balance, end of period - - 509
----------- ----------- -----------
ADDITIONAL PAID IN CAPITAL:
Balance, beginning of period 255,359 390,912 390,559
Retirement of treasury stock
during the period - (138,546) -
Common stock issued during
the period 3,416 2,339 317
Treasury stock reissued
during period - (2) 36
Contribution from subsidiary - 198 -
Common stock retired during
the period - 458 -
----------- ----------- -----------
Balance, end of period 258,775 255,359 390,912
----------- ----------- -----------
UNEARNED COMPENSATION:
Balance, beginning of period - (109) (240)
Net increase during the period - 109 131
----------- ----------- -----------
Balance, end of period - - (109)
----------- ----------- -----------
ACCUMULATED OTHER COMPREHENSIVE
INCOME, NET OF DEFERRED INCOME
TAXES:
Balance, beginning of period 56,747 (16,701) 185,518
Net increase (decrease) during
the period 19,256 73,448 (202,219)
----------- ----------- -----------
Balance, end of period 76,003 56,747 (16,701)
----------- ----------- -----------
RETAINED EARNINGS:
Balance, beginning of period 738,381 1,074,941 928,500
Net income 38,250 158,495 158,061
Restructure adjustments - (55) -
Dividends paid to parent - (495,000) (11,620)
----------- ----------- -----------
Balance, end of period 776,631 738,381 1,074,941
----------- ----------- -----------
TREASURY STOCK AT COST:
Balance, beginning of period - (122,070) (25,642)
Treasury stock retired
during the period - 138,454 -
Treasury stock acquired
during period - (16,426) (96,551)
Treasury stock reissued
during period - 42 123
----------- ----------- -----------
Balance, end of period - - (122,070)
----------- ----------- -----------
TOTAL STOCKHOLDER'S EQUITY,
END OF PERIOD $ 1,111,409 $ 1,050,486 $ 1,327,482
=========== =========== ===========
The accompanying notes are an integral part of the consolidated financial
statements.
F-5
EVEREST REINSURANCE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
Years Ended December 31,
-------------------------------------------
2001 2000 * 1999
----------- ----------- -----------
CASH FLOWS FROM OPERATING
ACTIVITIES:
Net income $ 38,250 $ 158,495 $ 158,061
Adjustments to reconcile net
income to net cash provided
by operating activities net
of effects from the purchase
of Mt. McKinley Insurance
Company
(Increase) in premiums
receivable (62,901) (101,894) (36,179)
Decrease in funds held by
reinsureds, net 209,558 29,135 23,007
(Increase) decrease in
reinsurance receivables (476,736) (173,954) 239,763
(Increase) in deferred tax asset (15,968) (16,247) (17,169)
Increase (decrease) in reserve
for losses and loss adjustment
expenses 506,128 827 (133,706)
Increase in unearned premiums 73,201 95,076 25,077
Decrease (increase) in other
assets and liabilities 22,179 (16,887) (67,106)
Non cash compensation expense - 109 131
Accrual of bond discount/
amortization of bond premium (5,836) (7,553) (5,203)
Amortization of underwriting
discount on senior notes 152 112 -
Restructure adjustment - (55) -
Realized capital losses (gains) 15,745 (291) 16,760
----------- ----------- -----------
Net cash provided by (used in)
operating activities 303,772 (33,127) 203,436
----------- ----------- -----------
CASH FLOWS FROM INVESTING
ACTIVITIES:
Proceeds from fixed maturities
matured/called - available
for sale 265,316 181,381 205,669
Proceeds from fixed maturities
sold - available for sale 470,561 730,589 665,873
Proceeds from equity
securities sold 33,373 49,556 69,397
Proceeds from other invested
assets sold 47 - 181
Cost of fixed maturities
acquired - available for sale (1,036,759) (1,174,662) (990,369)
Cost of equity securities
acquired (64,267) (2,732) (16,643)
Cost of other invested assets
acquired (1,497) (1,698) (23,109)
Net sales (purchases) of
short-term securities 156,735 (205,524) (38,200)
Net increase (decrease) in
unsettled securities
transactions 1,595 (955) (47)
Payment for purchase of Mt.
McKinley Insurance Company,
net of cash acquired - 349,743 -
----------- ----------- -----------
Net cash (used in) investing
activities (174,896) (74,302) (127,248)
----------- ----------- -----------
CASH FLOWS FROM FINANCING
ACTIVITIES:
Acquisition of treasury stock
net of reissuances - (16,478) (96,392)
Common stock issued during
the period 3,416 2,288 317
Dividends paid to stockholders - (495,000) (11,620)
Proceeds from issuance of
senior notes - 448,507 -
Borrowings on revolving credit
agreement 22,000 176,000 59,000
Repayments on revolving credit
agreement (152,000) - -
Contribution from subsidiary - 198 -
----------- ----------- -----------
Net cash (used in) provided
by financing activities (126,584) 115,515 (48,695)
----------- ----------- -----------
EFFECT OF EXCHANGE RATE
CHANGES ON CASH (3,180) (1,916) (4,592)
----------- ----------- -----------
Net (decrease) increase in cash (888) 6,170 22,901
Cash, beginning of period 68,397 62,227 39,326
----------- ----------- -----------
Cash, end of period $ 67,509 $ 68,397 $ 62,227
=========== =========== ===========
Supplemental cash flow
information
Cash transactions:
Income taxes paid, net $ 24,370 $ 62,141 $ 59,586
Interest paid $ 46,120 $ 27,169 $ 1,384
Non-cash operating/investing
transaction:
Shares received from
demutualization $ 25,921 $ - $ -
Non-cash financing
transaction:
Issuance of common stock $ - $ 109 $ 131
* In the quarter ended September 30, 2000, the Company purchased all of the
capital stock of Mt. McKinley Insurance Company for $51,800. In conjunction
with the acquisition, the fair value of assets acquired was $679,672 and
liabilities was $627,872.
The accompanying notes are an integral part of the consolidated financial
statements.
F-6
EVEREST REINSURANCE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 2001, 2000 and 1999
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A. BUSINESS AND BASIS OF PRESENTATION
Everest Re Group, Ltd. ("Group"), a Bermuda company with its principal executive
office in Barbados, was established in 1999 as a wholly-owned subsidiary of
Everest Reinsurance Holdings, Inc. ("Holdings"). On February 24, 2000, a
corporate restructuring was completed and Group became the new parent holding
company of Holdings. Holders of shares of common stock of Holdings automatically
became holders of the same number of common shares of Group. The "Company" means
Holdings and its subsidiaries, unless the context otherwise requires. The
Company, through its subsidiaries, principally provides property and casualty
reinsurance and insurance in the United States and internationally. The Company
is filing this report as a result of its public issuance of senior notes on
March 14, 2000. See also Note 5.
The accompanying consolidated financial statements have been prepared in
conformity with generally accepted accounting principles in the United States of
America. The statements include the following domestic and foreign direct and
indirect subsidiaries of the Company: Everest Reinsurance Company ("Everest
Re"), Everest National Insurance Company ("Everest National"), Everest Indemnity
Insurance Company ("Everest Indemnity"), Everest Re Holdings, Ltd. ("Everest
Ltd."), a Bermuda domiciled successor company of Everest Re Ltd. (the assets of
which funded Everest Ltd. and which was formerly known as Everest Reinsurance
Ltd.), Everest Security Insurance Company ("Everest Security"), formerly
Southeastern Security Insurance Company, Everest Insurance Company of Canada
("Everest Canada"), Mt. McKinley Managers, L.L.C. ("Managers"), Workcare
Southeast, Inc. ("Workcare Southeast"), Workcare Southeast of Georgia, Inc.
("Workcare Georgia"), Workcare, Inc and Mt. McKinley Insurance Company ("Mt.
McKinley"). All amounts are reported in U.S. dollars.
The preparation of financial statements in conformity with generally accepted
accounting principles in the United States of America requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities (and disclosure of contingent assets and liabilities) at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
B. INVESTMENTS
Fixed maturity investments are all classified as available for sale. Unrealized
appreciation and depreciation, as a result of temporary changes in market value
during the period, are reflected in shareholders' equity, net of income taxes in
"accumulated other comprehensive income". Equity securities are carried at
market value with unrealized appreciation or depreciation, as a result of
temporary changes in market value during the period, are reflected in
shareholders' equity, net of income taxes in "accumulated other comprehensive
income". Unrealized losses on fixed maturities and equity securities, which are
deemed other than temporary, are charged to net income as realized capital
losses. Short-term investments are stated at cost, which approximates market
value. Realized gains or losses on sale of investments are determined on the
basis of identified cost. For non-publicly traded securities, market prices are
determined through the use of pricing models that evaluate securities relative
to the U.S. Treasury yield curve, taking into account the issue type, credit
quality and cash flow characteristics of each security. For publicly traded
securities, market value is based on quoted market prices. Retrospective
adjustments are employed to recalculate the values of loan-backed and
asset-backed securities. Each acquisition lot is reviewed to recalculate the
effective yield. The recalculated effective yield is used to derive a book value
as if the new yield were applied at the time of acquisition. Outstanding
principal factors from the time of acquisition to the adjustment date are used
F-7
to calculate the prepayment history for all applicable securities. Conditional
prepayment rates, computed with life to date factor histories and weighted
average maturities, are used to affect the calculation of projected and
prepayments for pass through security types. Other invested assets include
limited partnerships and rabbi trusts. Limited partnerships are valued pursuant
to the equity method of accounting, which management believes approximates
market value. The Supplemental Retirement Plan rabbi trust is carried at market
value, while the Deferred Compensation Plan rabbi trust and Supplemental Savings
Plan rabbi trust are carried at cost, which approximates market value. Cash
includes cash and bank time deposits with original maturities of ninety days or
less.
C. UNCOLLECTIBLE REINSURANCE BALANCES
The Company provides reserves for uncollectible reinsurance balances based on
management's assessment of the collectibility of the outstanding balances. Such
reserves were $34.1 million at December 31, 2001 and $27.9 million at December
31, 2000. See also Note 8.
D. DEFERRED ACQUISITION COSTS
Acquisition costs, consisting principally of commissions and brokerage expenses
and certain premium taxes and fees associated with the Company's reinsurance and
insurance business incurred at the time a contract or policy is issued, are
deferred and amortized over the period in which the related premiums are earned,
generally one year. Deferred acquisition costs are limited to their estimated
realizable value based on the related unearned premiums, anticipated claims and
claim expenses and anticipated investment income. Deferred acquisition costs
amortized to income (expense) were $22.7 million, $10.1 million and $12.4
million in 2001, 2000 and 1999, respectively.
E. RESERVE FOR LOSSES AND LOSS ADJUSTMENT EXPENSES
The reserve for unpaid losses and loss adjustment expenses ("LAE") is based on
individual case estimates and reports received from ceding companies. A
provision is included for losses and LAE incurred but not reported ("IBNR")
based on past experience. A provision is also included for certain potential
liabilities relating to asbestos and environmental exposures, which liabilities
cannot be estimated with traditional reserving techniques. See also Note 12. The
reserves are reviewed continually and any changes in estimates are reflected in
earnings in the period the adjustment is made. Management believes that adequate
provision has been made for the Company's losses and LAE. Loss and LAE reserves
are presented gross of reinsurance receivables and incurred losses and LAE are
presented net of ceded reinsurance.
Accruals for contingent commission liabilities are established for reinsurance
contracts that provide for the stated commission percentage to increase or
decrease based on the loss experience of the contract. Changes in the estimated
liability for such arrangements are recorded as contingent commissions. Accruals
for contingent commission liabilities are determined through the review of the
contracts that have these adjustable features and are estimated based on
expected loss and loss adjustment expenses.
F. PREMIUM REVENUES
Premiums written are earned ratably over the periods of the related insurance
and reinsurance contracts or policies. Unearned premium reserves are established
to cover the remainder of the unexpired contract period. Such reserves are
established based upon reports received from ceding companies or computed using
F-8
pro rata methods based on statistical data. Written and earned premiums, and the
related costs, which have not yet been reported to the Company are estimated and
accrued. Premiums are net of ceded reinsurance.
G. INCOME TAXES
The Company and its wholly-owned subsidiaries file a consolidated U.S. federal
income tax return. Group and its other subsidiaries, not included in Holdings'
consolidated tax return, file separate company U.S. federal income tax returns,
where required. Deferred income taxes have been recorded to recognize the tax
effect of temporary differences between the financial reporting and income tax
bases of assets and liabilities.
H. FOREIGN CURRENCY TRANSLATION
Assets and liabilities relating to foreign operations are translated into U.S.
dollars at the exchange rates in effect at the balance sheet date; revenues and
expenses are translated into U.S. dollars using average exchange rates. Gains
and losses resulting from translating foreign currency financial statements, net
of deferred income taxes, are excluded from net income and accumulated in
stockholder's equity.
I. UNUSUAL LOSS EVENTS
As a result of the terrorist attacks at the World Trade Center, the Pentagon and
on various airlines on September 11, 2001 (collectively the "September 11
attacks"), the Company incurred pre-tax losses, based on an estimate of ultimate
exposure developed through a review of its coverages, which totaled $213.2
million gross of reinsurance and $55.0 million net of reinsurance. Associated
with this reinsurance were $60.0 million of pre-tax charges, predominantly from
adjustment premiums, resulting in a total pre-tax loss from the September 11
attacks of $115.0 million. After tax recoveries relating specifically to this
unusual loss event, the net loss from the September 11 attacks totaled $75.0
million. Over 90% of the losses ceded were to treaties where the reinsurers'
obligations are secured, which in the Company's opinion eliminates material
reinsurance collection risk.
As a result of the Enron bankruptcy, the Company has incurred losses, after-tax
and reinsurance, amounting to $18.6 million. This unusual loss reflects all of
the Company's exposures, including underwriting, credit and investment.
J. ACQUISITIONS
On September 19, 2000, the Company acquired Mt. McKinley, f/k/a Gibraltar
Casualty Company, for $51.8 million. Mt. McKinley is a run-off property and
casualty insurer in the United States. No goodwill was generated in the
transaction. The acquisition was recorded using the purchase method of
accounting. Accordingly, the December 31, 2000 consolidated financial statements
of the Company include the results of Mt. McKinley from September 19, 2000.
In connection with the acquisition of Mt. McKinley, Prudential Property and
Casualty Insurance Company ("Prupac"), a subsidiary of The Prudential Insurance
Company of America ("The Prudential"), provided reinsurance to Mt. McKinley
covering 80% ($160.0 million) of the first $200.0 million of any adverse
development of Mt. McKinley's reserves as of September 19, 2000 and The
Prudential guaranteed Prupac's obligation to Mt. McKinley. The stop loss
reinsurance protection that was provided by Mt. McKinley at the time of the
Company's Initial Public Offering ("IPO") and other reinsurance contracts
F-9
between Mt. McKinley and Everest Re remain in effect following the acquisition.
However, these contracts have become transactions with affiliates, with the
financial impact eliminated in consolidation.
The following unaudited pro forma information assumes the acquisition of Mt.
McKinley occurred at the beginning of each year presented. The unaudited pro
forma financial information is presented for informational purposes only and is
not necessarily indicative of the operating results that would have occurred had
the acquisition been consummated at the beginning of each year presented, nor is
it necessarily indicative of future operating results.
Years ended December 31,
------------------------------------
2000 1999
(Dollars in thousands) (Unaudited)
------------------------------------
Revenues $ 1,457,284 $ 1,336,672
Net income 161,079 82,919
The Company also completed the acquisition of Everest Security during 2000, a
United States property and casualty company whose primary business is
non-standard auto. The purchase price of the acquisition was approximately $10.1
million. Goodwill of $3.0 million was generated as a result of the acquisition
and was recorded using the purchase method of accounting.
K. SEGMENTATION
The Company, through its subsidiaries, operates in four segments: U.S.
Reinsurance, U.S. Insurance, Specialty Underwriting and International. See also
Note 14.
M. CODIFICATION
The NAIC has published a codification of statutory accounting principles, which
has been adopted by the states of domicile of the Company's U.S. operating
subsidiaries with an effective date of January 1, 2001. On January 1, 2001,
significant changes to the statutory-basis of accounting became effective. The
cumulative effect of these changes has been recorded as a direct adjustment to
statutory surplus.
M. DERIVATIVES
Effective January 1, 2001, the Company adopted Statement of Financial Accounting
Standard ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities". SFAS No. 133 requires that all derivative instruments be recognized
as either assets or liabilities on the balance sheet and measured at their fair
value. Gains or losses from changes in the derivative values are accounted for
based on how the derivative is used and whether it qualifies for hedge
accounting.
N. FUTURE APPLICATION OF ACCOUNTING STANDARDS
In June 2001, the Financial Accounting Standards Board ("FASB") issued SFAS 142,
"Goodwill and Other Intangible Assets". SFAS 142 establishes new accounting and
reporting standards for acquired goodwill and other intangible assets. It
requires that an entity determine if the goodwill or other intangible asset has
an indefinite useful life or a finite useful life. Those with indefinite useful
lives will not be subject to amortization and must be tested annually for
impairment. Those with finite useful lives will be subject to amortization and
must be tested annually for impairment. This statement is effective for all
F-10
fiscal quarters of all fiscal years beginning after December 15, 2001. The
implementation of this statement will not have a material impact on the
financial position, results of operations or cash flows of the Company.
2. INVESTMENTS
The amortized cost, market value, and gross unrealized appreciation and
depreciation of fixed maturity investments and equity securities are presented
in the tables below:
(dollar values in thousands) Amortized Unrealized Unrealized Market
Cost Appreciation Depreciation Value
----------------------------------------------------------
As of December 31, 2001
Fixed maturities - available for sale
U.S. Treasury securities and
obligations of U.S. government
agencies and corporations $ 114,046 $ 5,242 $ 127 $ 119,161
Obligations of U.S. states and
political subdivisions 1,762,867 78,427 2,768 1,838,526
Corporate securities 1,295,371 41,342 31,717 1,304,996
Mortgage-backed securities 432,330 18,663 237 450,756
Foreign government securities 194,920 18,145 123 212,942
Foreign corporate securities 252,299 10,098 1,855 260,542
----------------------------------------------------------
Total fixed maturities $ 4,051,833 $ 171,917 $ 36,827 $ 4,186,923
==========================================================
Equity securities $ 66,412 $ 1,480 $ 439 $ 67,453
==========================================================
As of December 31, 2000
Fixed maturities - available for sale
U.S. Treasury securities and
obligations of U.S. government
agencies and corporations $ 133,053 $ 4,777 $ - $ 137,830
Obligations of U.S. states and
political subdivisions 1,514,099 85,261 423 1,598,937
Corporate securities 1,198,216 25,865 66,089 1,157,992
Mortgage-backed securities 449,438 13,932 495 462,875
Foreign government securities 211,711 17,137 130 228,718
Foreign corporate securities 286,762 7,735 1,514 292,983
----------------------------------------------------------
Total fixed maturities $ 3,793,279 $ 154,707 $ 68,651 $ 3,879,335
==========================================================
Equity securities $ 22,395 $ 14,266 $ 27 $ 36,634
==========================================================
F-11
The amortized cost and market value of fixed maturities are shown in the
following table by contractual maturity. Mortgage-backed securities generally
are more likely to be prepaid than other fixed maturities. As the stated
maturity of such securities may not be indicative of actual maturities, the
total for mortgage-backed securities is shown separately.
December 31, 2001,
---------------------------
Amortized Market
(dollar values in thousands) Cost Value
----------- -----------
Fixed maturities - available for sale
Due in one year or less $ 82,047 $ 83,307
Due after one year through five years 777,004 815,642
Due after five years through ten years 1,163,696 1,204,077
Due after ten years 1,596,756 1,633,141
Mortgage-backed securities 432,330 450,756
----------- -----------
Total $ 4,051,833 $ 4,186,923
=========== ===========
Proceeds from sales of fixed maturity investments during 2001, 2000 and 1999
were $470.6 million, $730.6 million and $665.9 million, respectively. Gross
gains of $16.4 million, $8.7 million and $0.9 million, and gross losses of $42.4
million, $27.7 million and $28.5 million were realized on those fixed maturity
sales during 2001, 2000 and 1999, respectively. Proceeds from sales of equity
security investments during 2001, 2000 and 1999 were $33.4 million, $49.6
million and $69.4 million, respectively. Gross gains of $13.4 million, $20.6
million and $16.3 million and gross losses of $0.1 million, $1.4 million and
$5.4 million were realized on those equity sales during 2001, 2000 and 1999,
respectively.
The changes in net unrealized gains (losses) of investments of the Company are
derived from the following sources:
Years Ended December 31,
----------------------------------------
(dollar values in thousands) 2001 2000 1999
---------- ---------- ----------
Increase (decrease) during the
period between the market value
and cost of investments carried
at market value, and deferred
tax thereon:
Equity securities $ (13,199) $ (26,229) $ (14,018)
Fixed maturities 49,033 141,403 (304,872)
Other invested assets 20 23 (42)
Deferred taxes (12,549) (40,319) 111,626
---------- ---------- ----------
Increase (decrease) in unrealized
appreciation, net of deferred
taxes, included in stockholder's
equity $ 23,305 $ 74,878 $ (207,306)
========== ========== ==========
F-12
The components of net investment income are presented in the table below:
Years Ended December 31,
-------------------------------------
(dollar values in thousands) 2001 2000 1999
--------- --------- ---------
Fixed maturities $ 270,570 $ 274,905 $ 256,067
Equity securities 896 1,198 3,796
Short-term investments 4,991 6,908 3,702
Other interest income 4,567 3,081 1,652
--------- --------- ---------
Total gross investment income 281,024 286,092 265,217
--------- --------- ---------
Interest on funds held 11,909 11,316 9,133
Other investment expenses 3,191 3,387 3,085
--------- --------- ---------
Total investment expenses 15,100 14,703 12,128
--------- --------- ---------
Total net investment income $ 265,924 $ 271,389 $ 252,999
========= ========= =========
The components of realized capital (losses) gains are presented in the table
below:
Years Ended December 31,
-------------------------------------
(dollar values in thousands) 2001 2000 1999
--------- --------- ---------
Fixed maturities $ (29,074) $ (18,967) $ (27,615)
Equity securities 13,326 19,260 10,836
Short-term investments 3 (2) 19
--------- --------- ---------
Total $ (15,745) $ 291 $ (16,760)
========= ========= =========
The net realized capital losses for 2001 include $3.1 million relating to
write-downs in the value of securities deemed to be other than temporary.
Securities with a carrying value amount of $260.9 million at December 31, 2001
were on deposit with various state or governmental insurance departments in
compliance with insurance laws.
During 2000, the Company entered into a credit swap derivative contract, which
provides credit default protection on a portfolio of referenced securities. Due
to changing credit market conditions and defaults, the Company recorded net
after-tax losses from this contract of $4.6 million in 2001 to reflect it at
fair value, with the 2001 losses principally attributable to the Company's
exposure to the Enron bankruptcy. As of December 31, 2001, the remaining maximum
after-tax net loss exposure under this contract is $2.4 million.
The Company's position in this contract is unhedged and is accounted for as a
derivative in accordance with SFAS 133. Accordingly, this contract is carried at
fair value with changes in fair value recorded in the statement of operations.
F-13
3. RESERVE FOR LOSSES AND LAE
Activity in the reserve for losses and LAE expenses is summarized as follows:
Years Ended December 31,
-----------------------------------------
(dollar values in thousands) 2001 2000 1999
----------- ----------- -----------
Reserves at January 1 $ 3,785,747 $ 3,646,992 $ 3,800,041
Less reinsurance recoverables 980,396 727,780 915,741
----------- ----------- -----------
Net balance at January 1 2,805,351 2,919,212 2,884,300
----------- ----------- -----------
Incurred related to:
Current year 1,074,053 870,454 806,930
Prior years 5,166 7,787 (35,360)
----------- ----------- -----------
Total incurred losses and LAE 1,079,219 878,241 771,570
----------- ----------- -----------
Paid related to:
Current year 387,100 318,673 252,407
Prior years 675,620 673,429 484,251
----------- ----------- -----------
Total paid losses and LAE 1,062,720 992,102 736,658
----------- ----------- -----------
Net balance at December 31 2,821,850 2,805,351 2,919,212
Plus reinsurance recoverables (1) 1,452,485 980,396 727,780
----------- ----------- -----------
Balance at December 31 $ 4,274,335 $ 3,785,747 $ 3,646,992
=========== =========== ===========
(1) Reinsurance recoverables for 2001 include $115,342 resulting from the loss
portfolio from Everest Re to Bermuda Re. In addition, reinsurance
recoverables for 2001 and 2000 include $453,777 and $491,572, respectively,
resulting from the loss portfolio transfer from Mt. McKinley to Bermuda Re.
See also Note 1J.
Prior year incurred losses increased by $5.2 million in 2001, increased by $7.8
million in 2000 and decreased by $35.4 million in 1999. These changes were the
result of normal reserve development inherent in the uncertainty in establishing
loss and LAE reserves, as well as the impact of foreign exchange rate
fluctuations on loss reserves and, for 1999, changes in the Company's
coinsurance in connection with stop loss reinsurance protection provided by Mt.
McKinley at the time of the Company's IPO of ($6.0) million. Although coverage
remains under this reinsurance, the acquisition of Mt. McKinley causes the
financial impact of any cession under this reinsurance to eliminate in
consolidation. See also Note 1J.
4. CREDIT LINE
On December 21, 1999, the Company entered into a three-year senior revolving
credit facility with a syndicate of lenders (the "Credit Facility"). First Union
National Bank is the administrative agent for the Credit Facility. The Credit
Facility will be used for liquidity and general corporate purposes and to
refinance existing debt under the Company's prior credit facility, which has
been terminated. The Credit Facility provides for the borrowing of up to $150.0
million with interest at a rate selected by the Company equal to either (1) the
Base Rate (as defined below) or (2) an adjusted London InterBank Offered Rate
("LIBOR") plus a margin. The Base Rate is the higher of the rate of interest
established by First Union National Bank from time to time as its prime rate or
the Federal Funds rate plus 0.5% per annum. On December 18, 2000, the Credit
Facility was amended to extend the borrowing limit to $235.0 million for a
period of 120 days, at which time the limit reverts back to $150.0 million. The
F-14
amount of margin and the fees payable for the Credit Facility depend upon the
Company's senior unsecured debt. Group has guaranteed all of the Company's
obligations under the Credit Facility.
The Credit Facility agreement requires Group to maintain a debt to capital ratio
of not greater than 0.35 to 1, Holdings to maintain a minimum interest coverage
ratio of 2.5 to 1 and Everest Re to maintain statutory surplus at $850.0 million
plus 25% of future aggregate net income and 25% of future aggregate capital
contributions.
As of December 31, 2001 and 2000, the Company had outstanding borrowings of
$105.0 million and $235.0 million, respectively. Interest expense incurred in
connection with these borrowings was $7.1 million, $8.5 million and $1.5 million
for the periods ending December 31, 2001, December 31, 2000 and December 31,
1999, respectively.
5. SENIOR NOTES
On March 14, 2000, the Company completed public offerings of $200.0 million
principal amount of 8.75% senior notes due March 15, 2010 and $250.0 million
principal amount of 8.5% senior notes due March 15, 2005. During 2000, the net
proceeds of these offerings and additional funds were distributed by the Company
to Group. Interest expense incurred in connection with these senior notes was
$38.9 million and $30.9 million for the periods ending December 31, 2001 and
December 31, 2000, respectively.
6. OPERATING LEASE AGREEMENTS
The future minimum rental commitments, exclusive of cost escalation clauses, at
December 31, 2001 for all of the Company's operating leases with remaining
non-cancelable terms in excess of one year are as follows:
----------------------------
(dollar values in thousands)
----------------------------
2002 $ 4,364
2003 4,412
2004 4,353
2005 3,862
2006 3,996
Thereafter 15,560
----------------------------
Net commitments $ 36,547
============================
All of these leases, the expiration terms of which range from 2001 to 2010, are
for the rental of office space. Rental expense, net of sublease rental income,
was $5.6 million, $4.4 million and $4.2 million for 2001, 2000 and 1999,
respectively.
F-15
7. INCOME TAXES
The components of income taxes for the periods presented are as follows:
Years Ended December 31,
----------------------------------
(dollar values in thousands) 2001 2000 1999
-------- -------- --------
Current tax:
U.S. $ (529) $ 61,401 $ 53,076
Foreign 5,912 (289) 2,615
-------- -------- --------
Total current tax 5,383 61,112 55,691
Total deferred U.S. tax (benefit) (14,568) (17,290) (17,170)
-------- -------- --------
Total income tax (benefit) provision $ (9,185) $ 43,822 $ 38,521
======== ======== ========
A reconciliation of the U.S. federal income tax rate to the Company's effective
tax rate is as follows:
Years Ended December 31,
-------------------------------
2001 2000 1999
------- ------- -------
Federal income tax rate 35.0% 35.0% 35.0%
Increase (reduction) in
taxes resulting from:
Tax exempt income (95.9) (14.7) (17.5)
Other, net 29.3 1.4 2.1
------- ------- -------
Effective tax rate (31.6%) 21.7% 19.6%
======= ======= =======
Deferred income taxes reflect the tax effect of the temporary differences
between the value of assets and liabilities for financial statement purposes and
such values as measured by the U.S. tax laws and regulations. The principal
items making up the net deferred income tax asset are as follows:
December 31,
--------------------------
(dollar values in thousands) 2001 2000
---------- ----------
Deferred tax assets:
Reserve for losses and loss
adjustment expenses $ 226,532 $ 188,364
Unearned premium reserve 29,765 24,007
Foreign currency translation 6,848 4,670
Net operating loss carryforward 21,159 22,514
Other assets - 2,360
Net unrealized depreciation of
investments - -
---------- ----------
Total deferred tax assets 284,304 241,915
---------- ----------
Deferred tax liabilities:
Deferred acquisition costs 40,232 32,367
Net unrealized appreciation of
investments 64,598 35,097
Other liabilities 998 -
---------- ----------
Total deferred tax liabilities 105,828 67,464
---------- ----------
Net deferred tax assets $ 178,476 $ 174,451
========== ==========
F-16
The Company and its subsidiaries have total net operating loss carryforwards of
$43.6 million that expire during years 2002 - 2021. Management believes that it
is more likely than not that the Company will realize the benefits of its net
deferred tax assets and, accordingly, no valuation allowance has been recorded
for the periods presented.
Tax benefits of $3.4 million related to compensation expense deductions for
stock options exercised in 2001 are reflected in the change in stockholder's
equity in "additional paid in capital".
8. REINSURANCE
The Company utilizes reinsurance agreements to reduce its exposure to large
claims and catastrophic loss occurrences. These agreements provide for recovery
from reinsurers of a portion of losses and loss expenses under certain
circumstances without relieving the insurer of its obligation to the
policyholder. Losses and LAE incurred and earned premiums are after deduction
for reinsurance. In the event reinsurers were unable to meet their obligations
under reinsurance agreements, the Company would not be able to realize the full
value of the reinsurance recoverable balances. The Company may hold partial
collateral, including letters of credit, under these agreements. See also Note
1(C).
The Company purchases corporate level retrocessions covering the potential
accumulation of all exposures. For 1999, the Company purchased an accident year
aggregate excess of loss retrocession agreement which provided up to $175.0
million of coverage if Everest Re's consolidated statutory basis accident year
loss ratio exceeded a loss ratio attachment point provided in the contract for
the 1999 accident year. During 2000 and 2001, the Company ceded $70.0 million
and $105.0 million of losses, respectively, to this cover, reducing the limit
available under the contract to $0.0 million. For 2001, the Company purchased an
accident year aggregate excess of loss retrocession agreement which provided up
to $175.0 million of coverage if Everest Re's consolidated statutory basis
accident year loss ratio exceeded a loss ratio attachment point provided in the
contract for the 2001 accident year. During 2001, the Company ceded $164.0
million of losses to this cover, reducing the limit available under the contract
to $11.0 million.
In addition, the Company has coverage under an aggregate excess of loss
reinsurance agreement provided by Prudential Property and Casualty Insurance
Company of Indiana ("Prupac"), a wholly-owned subsidiary of The Prudential, in
connection with the Company's acquisition of Mt. McKinley in September 2000.
This agreement covers 80% or $160 million of the first $200 million of any
adverse loss reserve development on the carried reserves of Mt. McKinley at the
date of acquisition and reimburses the Company as such losses are paid by the
Company. There were $22.2 million of cessions under this reinsurance at December
31, 2001, reducing the limit available under the contract to $137.8 million.
In connection with the Mt. McKinley acquisition, Prupac also provided excess of
loss reinsurance for 100% of the first $8.5 million of loss with respect to
certain of Mt. McKinley's retrocessions and potentially uncollectible
reinsurance coverage. There were $2.5 million and $3.6 million of cessions under
this reinsurance during the periods ending December 31, 2000 and 2001,
respectively, reducing the limit available under the contract to $2.4 million.
Effective September 19, 2000, Mt. McKinley and Everest Reinsurance (Bermuda),
Ltd. ("Bermuda Re") entered into a loss portfolio transfer reinsurance
agreement, whereby Mt. McKinley transferred, for what management believes to be
arm's-length consideration, all of its net insurance exposures and reserves,
including allocated and unallocated loss adjustment expenses to Bermuda Re.
F-17
Effective October 1, 2001, Everest Re and Bermuda Re entered into a loss
portfolio transfer reinsurance agreement, whereby Everest Re transferred, for
what management believes to be arm's-length consideration, its Belgium branches'
net insurance exposures and reserves, including allocated and unallocated loss
adjustment expenses to Bermuda Re.
Written and earned premiums are comprised of the following:
Years Ended December 31,
-----------------------------------------
(dollar values in thousands) 2001 2000 1999
----------- ----------- -----------
Written premium
Direct $ 438,837 $ 224,177 $ 70,473
Assumed 1,410,963 1,149,848 1,071,344
Ceded (432,872) (166,704) (46,248)
----------- ----------- -----------
Net written premium $ 1,416,928 $ 1,207,321 $ 1,095,569
=========== =========== ===========
Earned premium
Direct $ 380,178 $ 138,982 $ 73,822
Assumed 1,396,211 1,145,142 1,042,921
Ceded (442,888) (121,527) (45,292)
----------- ----------- -----------
Net earned premium $ 1,333,501 $ 1,162,597 $ 1,071,451
=========== =========== ===========
The amounts deducted from losses and LAE incurred for net reinsurance recoveries
were $619.4 million, $173.1 million and $7.4 million for the years ended
December 31, 2001, 2000 and 1999, respectively. The net reinsurance recoveries
for 2001 include $119.4 million relating to the reinsurance transaction between
Everest Re and Bermuda Re noted earlier. The net reinsurance recoveries for 1999
were impacted by cessions to stop loss reinsurance provided by Mt. McKinley at
the time of the Company's IPO.
As of December 31, 2001, the Company carried as an asset $1,471.4 million in
reinsurance receivables with respect to losses ceded. Of this amount, $584.6
million, or 39.7%, was receivable from Bermuda Re, $339.0 million, or 23.0%, was
receivable from subsidiaries of London Reinsurance Group ("London Life") and
$145.0 million, or 9.9%, was receivable from Continental Insurance Company
("Continental"). As of December 31, 2000, the Company carried as an asset $996.7
million in reinsurance receivables with respect to losses ceded. Of this amount,
$491.6 million, or 49.3%, was receivable from Bermuda Re, $145.0 million, or
14.5%, was receivable from Continental Insurance Company ("Continental") and
$70.0 million, or 7.0%, was receivable from subsidiaries of London Reinsurance
Group ("London Life"). No other retrocessionaire accounted for more than 5% of
the Company's receivables. See also Note 3.
The Company's arrangements with Bermuda Re are secured through the use of trust
agreements. The Company's arrangements with London Life and Continental are
managed on a funds held basis, which means that the Company has not released
premium payments to the retrocessionaire but rather retains such payments to
secure obligations of the retrocessionaire, records them as a liability, credits
interest on the balances and reduces the liability account as payments become
due. As of December 31, 2001, such funds had reduced the Company's net exposure
to London Life to $158.9 million, 100% of which has been secured by letters of
credit, and its exposure to Continental to $67.9 million. As of December 31,
2000, such funds had reduced the Company's net exposure to Continental to $74.4
million, and its exposure to London Life to $33.5 million, 100% of which has
been secured by letters of credit.
F-18
9. COMPREHENSIVE INCOME
The components of comprehensive income for the periods ending December 31, 2001,
2000 and 1999 are shown in the following table:
(dollar values in thousands) 2001 2000 1999
---------- ---------- ----------
Net income $ 38,250 $ 158,495 $ 158,061
---------- ---------- ----------
Other comprehensive income,
before tax:
Foreign currency translation
adjustments (6,228) (2,201) 7,824
Unrealized gains (losses)
on securities arising
during the period 20,112 115,488 (302,172)
Less: reclassification
adjustment for realized
losses (gains) included in
net income 15,745 (291) 16,760
---------- ---------- ----------
Other comprehensive income
(loss), before tax 29,629 112,996 (311,108)
---------- ---------- ----------
Income tax expense (benefit)
related to items of other
comprehensive income:
Tax (benefit) expense from
foreign currency translation (2,179) (771) 2,737
Tax expense (benefit) from
unrealized gains (losses)
arising during period 7,041 40,421 (105,760)
Tax expense (benefit) from
realized gains (losses)
included in net income (5,511) 102 (5,866)
---------- ---------- ----------
Income tax expense (benefit)
related to items of other
comprehensive income: 10,373 39,548 (108,889)
Other comprehensive income
(loss), net of tax 19,256 73,448 (202,219)
---------- ---------- ----------
Comprehensive income (loss) $ 57,506 $ 231,943 $ (44,158)
========== ========== ==========
F-19
The following table shows the components of the change in accumulated other
comprehensive income for the years ending December 31, 2001 and 2000.
(dollar values in thousands) 2001 2000
---------------------------------------------------
Beginning balance of accumulated
other comprehensive income (loss) $ 56,747 $ (16,701)
--------- ----------
Beginning balance of foreign
currency translation adjustments $ (8,433) $ (7,003)
Current period change in foreign
currency translation adjustments (4,049) (4,049) (1,430) (1,430)
---------- --------- ---------- ----------
Ending balance of foreign currency
translation adjustments (12,482) (8,433)
---------- ----------
Beginning balance of unrealized
gains on securities 65,180 (9,698)
Current period change in
unrealized gains on securities 23,305 23,305 74,878 74,878
---------- --------- ---------- ----------
Ending balance of unrealized
gains on securities 88,485 65,180
---------- ----------
Current period change in accumulated
other comprehensive income 19,256 73,448
--------- ----------
Ending balance of accumulated other
comprehensive income $ 76,003 $ 56,747
========= ==========
10. EMPLOYEE BENEFIT PLANS
The Company maintains both a qualified and a non-qualified defined benefit
pension plan for its U.S. employees. Generally, the Company computes the
benefits based on average earnings over a period prescribed by the plans and
credited length of service. The Company has not been required to fund
contributions to its qualified defined benefit pension plan for the years ended
December 31, 2001 and 2000 because the Company's qualified plan was subject to
the full funding limitation under the Internal Revenue Service guidelines. The
Company's non-qualified defined benefit pension plan, effected in October 1995,
provides compensating pension benefits for participants whose benefits have been
curtailed under the qualified plan due to Internal Revenue Code limitations.
Although not required under Internal Revenue Service guidelines, the Company
contributed $0.3 million and $0.9 million to the qualified and non-qualified
plans respectively in 2001. The change in the accumulated pension benefit
obligation for 2001 reflects the net effect of amendments made to the plans as a
result of the Economic Growth and Tax Relief Reconciliation Act of 2001. Pension
expense for the Company's plans for the years ended December 31, 2001, 2000 and
1999 were $1.6 million, $1.0 million and $1.5 million, respectively.
F-20
The following table summarizes the status of these plans:
Years Ended December 31,
------------------------
(dollar values in thousands) 2001 2000
--------- ---------
Change in projected benefit obligation:
Benefit obligation at beginning of year $ 24,572 $ 22,060
Service cost 1,398 1,351
Interest cost 1,921 1,628
Change in accumulated benefit obligation 36 -
Actuarial gain (loss) 3,786 (252)
Benefits paid (311) (215)
--------- ---------
Benefit obligation at end of year 31,402 24,572
--------- ---------
Change in plan assets:
Fair value of plan assets at beginning of year 20,200 21,375
Actual return on plan assets (250) (960)
Actual contributions during the year 1,229 -
Benefits paid (311) (215)
--------- ---------
Fair value of plan assets at end of year 20,868 20,200
--------- ---------
Funded status (10,534) (4,372)
Unrecognized prior service cost 924 1,034
Unrecognized net (gain) 4,099 (1,820)
--------- ---------
(Accrued) pension cost $ (5,511) $ (5,158)
========= =========
Plan assets are comprised of shares in investment trusts with approximately 64%
and 36% of the underlying assets consisting of equity securities and fixed
maturities, respectively.
Net periodic pension cost included the following components:
Years Ended December 31,
----------------------------------
(dollar values in thousands) 2001 2000 1999
-------- -------- --------
Service cost $ 1,397 $ 1,351 $ 1,476
Interest cost 1,921 1,628 1,532
Expected return on assets (1,905) (1,915) (1,625)
Amortization of net loss (gain)
from earlier periods 21 (225) 6
Amortization of unrecognized
prior service cost 147 147 147
-------- -------- --------
Net periodic pension cost $ 1,582 $ 986 $ 1,536
======== ======== ========
The weighted average discount rates used to determine the actuarial present
value of the projected benefit obligation for 2001, 2000 and 1999 are 7.0%, 7.5%
and 7.5%, respectively. The rate of compensation increase used to determine the
actuarial present value of the projected benefit obligation for 2001, 2000 and
1999 is 4.50%. The expected long-term rate of return on plan assets for 2001,
2000 and 1999 is 9.0%.
F-21
The Company also maintains both qualified and non-qualified defined contribution
plans ("Savings Plan" and "Non-Qualified Savings Plan", respectively) covering
U.S. employees. Under the plans, the Company contributes up to a maximum 3% of
the participants' compensation based on the contribution percentage of the
employee. The Non-Qualified Savings Plan provides compensating savings plan
benefits for participants whose benefits have been curtailed under the Savings
Plan due to Internal Revenue Code limitations. The Company's incurred expenses
related to these plans were $0.6 million, $0.6 million and $0.6 million for
2001, 2000 and 1999, respectively.
In addition, the Company maintains several defined contribution pension plans
covering non-U.S. employees. Each non-U.S. office (Canada, London, Belgium, Hong
Kong, and Singapore) maintains a separate plan for the non-U.S. employees
working in that location. The Company contributes various amounts based on
salary, age, and/or years of service. The contributions as a percentage of
salary for the branch offices range from 2% to 12%. The contributions are
generally used to purchase pension benefits from local insurance providers. The
Company's incurred expenses related to these plans were $0.4 million, $0.3
million and $0.3 million for 2001, 2000 and 1999, respectively.
11. DIVIDEND RESTRICTIONS AND STATUTORY FINANCIAL INFORMATION
A. DIVIDEND RESTRICTIONS
Delaware law provides that an insurance company which is either an insurance
holding company or a member of an insurance holding system and is domiciled in
the state shall not pay dividends without giving prior notice to the Insurance
Commissioner of Delaware and may not pay dividends without the approval of the
Insurance Commissioner if the value of the proposed dividend, together with all
other dividends and distributions made in the preceding twelve months, exceeds
the greater of (1) 10% of statutory surplus or (2) net income, not including
realized capital gains, each as reported in the prior year's statutory annual
statement. In addition, no dividend may be paid in excess of unassigned earned
surplus. At December 31, 2001, Everest Re had $129.4 million available for
payment of dividends in 2002 without prior regulatory approval.
B. STATUTORY FINANCIAL INFORMATION
Everest Re prepares its statutory financial statements in accordance with
accounting practices prescribed or permitted by the National Association of
Insurance Commissioners ("NAIC") and the Delaware Insurance Department.
Prescribed statutory accounting practices are set forth in the NAIC Accounting
Practices and Procedures Manual. The capital and statutory surplus of Everest Re
was $1,293.8 million (unaudited) and $1,272.7 million at December 31, 2001 and
2000, respectively. The statutory net income of Everest Re was $78.9 million
(unaudited), $165.3 million and $149.9 million for the years ended December 31,
2001, 2000 and 1999, respectively.
F-22
C. CODIFICATION
The Company's operating subsidiaries file statutory-basis financial statements
with the state departments of insurance in the states in which the subsidiary is
licensed. On January 1, 2001, significant changes to the statutory-basis of
accounting became effective. The cumulative effect of these changes has been
recorded as a direct adjustment to statutory surplus. The cumulative effect of
these changes increased Everest Re's statutory surplus by $57.1 million
(unaudited).
12. CONTINGENCIES
The Company continues to receive claims under expired contracts that assert
alleged injuries and/or damages relating to or resulting from toxic torts, toxic
waste and other hazardous substances, such as asbestos. The Company's asbestos
claims typically involve liability or potential liability for bodily injury from
exposure to asbestos or for property damage resulting from asbestos or products
containing asbestos. The Company's environmental claims typically involve
potential liability for (1) the mitigation or remediation of environmental
contamination or (2) bodily injury or property damages caused by the release of
hazardous substances into the land, air or water.
The Company's reserves include an estimate of the Company's ultimate liability
for asbestos and environmental claims for which ultimate value cannot be
estimated using traditional reserving techniques. There are significant
uncertainties in estimating the amount of the Company's potential losses from
asbestos and environmental claims. Among the complications are: (1) potentially
long waiting periods between exposure and manifestation of any bodily injury or
property damage; (2) difficulty in identifying sources of asbestos or
environmental contamination; (3) difficulty in properly allocating
responsibility and/or liability for asbestos or environmental damage; (4)
changes in underlying laws and judicial interpretation of those laws; (5)
potential for an asbestos or environmental claim to involve many insurance
providers over many policy periods; (6) long reporting delays, both from
insureds to insurance companies and ceding companies to reinsurers; (7)
historical data concerning asbestos and environmental losses, which is more
limited than historical information on other types of casualty claims; (8)
questions concerning interpretation and application of insurance and reinsurance
coverage; and (9) uncertainty regarding the number and identity of insureds with
potential asbestos or environmental exposure.
Management believes that these factors continue to render reserves for asbestos
and environmental losses significantly less subject to traditional actuarial
methods than are reserves on other types of losses. Given these uncertainties,
management believes that no meaningful range for such ultimate losses can be
established. The Company establishes reserves to the extent that, in the
judgment of management, the facts and prevailing law reflect an exposure for the
Company or its ceding company. Due to the uncertainties discussed above, the
ultimate losses may vary materially from current loss reserves and could have a
material adverse effect on the Company's future financial condition, results of operations and cash flows. See also Note 8.
F-23
The following table shows the development of prior year asbestos and
environmental reserves on both a gross and net of retrocessional basis for the
years ended:
(dollar values in thousands) 2001 2000 1999
---------- ---------- ----------
Gross basis
Beginning of reserves $ 693,704 $ 614,236 $ 660,793
Incurred losses 29,674 (5,852) 3,690
Paid losses (78,988) 85,320 (50,247)
---------- ---------- ----------
End of period reserves $ 644,390 $ 693,704 $ 614,236
========== ========== ==========
Net basis
Beginning of reserves $ 317,196 $ 365,069 $ 263,542
Incurred losses - (5,645) -
Paid losses (1) (41,027) (42,228) 101,527
---------- ---------- ----------
End of period reserves $ 276,169 $ 317,196 $ 365,069
========== ========== ==========
(1) Net of $0.0 million, $0.0 million and $118.8 million ceded paid losses in
2001, 2000 and 1999, respectively, under the stop loss reinsurance
protection provided by Mt. McKinley at the time of the Company's IPO.
At December 31, 2001, the gross reserves for asbestos and environmental losses
were comprised of $107.1 million representing case reserves reported by ceding
companies, $59.5 million representing additional case reserves established by
Everest Re on assumed reinsurance claims, $65.5 million representing case
reserves established by Everest Re on direct excess insurance claims, $88.6
million representing case reserves resulting from the acquisition of Mt.
McKinley and $323.7 million representing IBNR reserves.
The Company is also named in various legal proceedings incidental to its normal
business activities. In the opinion of the Company, none of these proceedings
would have a material adverse effect upon the financial condition, results of
operations or cash flows of
the Company.registrant as of, and for, the periods presented in this annual report;
4. The Prudential sells annuitiesregistrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have;
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which are purchased by property and casualty
insurance companies to settle certain types of claim liabilities. In 1993 and
prior, Everest Re, for a fee, acceptedthis annual report
is being prepared;
b. evaluated the claim payment obligationeffectiveness of the propertyregistrant's disclosure controls
and casualty insurer,procedures as of a date within 90 days prior to the filing date of
this annual report (the "Evaluation Date"); and
concurrently, becamec. presented in this annual report our conclusions about the
ownereffectiveness of the annuity or assigneedisclosure controls and procedures based on our
evaluation as of the annuity proceeds. In these circumstances,Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
March 20, 2003 /s/ JOSEPH V. TARANTO
- -------------- -----------------------
Joseph V. Taranto
Chairman and Chief
Executive Officer
I, Stephen L. Limauro, certify that:
1. I have reviewed this annual report on Form 10-K of Everest Re
would be liable if The Prudential were unableReinsurance
Holdings, Inc;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the annuity payments. The
estimated cost to replace all such annuities for which Everest Re was
contingently liable at December 31, 2001 and 2000 was $147.1 million and $148.7
million, respectively. In 2001, the Company received sharesstatements made, in The Prudential
valued at $25.9 million, as a result of The Prudential's demutualization
process, representing The Prudential common equity interest attributed to these
annuities. The value of these shares was recorded in "other income" in the
consolidated statement of operations and comprehensive income. These shares in
no way affect the underlying contingent liabilitylight of the Company.
Everest Re has purchased annuities from an unaffiliated life insurance company
to settle certain claim liabilities of Everest Re. Should the life insurance
company become unable to make the annuity payments, Everest Re would be liable.
The estimated cost to replacecircumstances under which such
annuities at December 31, 2001 and 2000 was
$13.7 million and $12.6 million, respectively.
F-24
13. RELATED-PARTY TRANSACTIONS
During the normal course of business, the Company, through its affiliates,
engages in what mangement believes to be arm's-length reinsurance and brokerage
and commission business transactionsstatements were made, not misleading with companies controlled or affiliated
with its outside directors. These transactions are immaterialrespect to the Company'speriod covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows.
The Company engages in business transactions with Group and Bermuda Re.
Effective October 1, 2001, Everest Re and Bermuda Re entered into a loss
portfolio reinsurance agreement, whereby Everest Re transferred it's Belgium
Branch, for what management believes to be arm's-length consideration, net
insurance exposures and reserves to Bermuda Re. During 2000, the Company
distributed $495.0 million to Group to facilitate the completionflows of
the corporate restructuring. In addition, effective September 19, 2000, Mt. McKinleyregistrant as of, and Bermuda Re entered into a loss portfolio transfer reinsurance agreement,
whereby Mt. McKinley transferred, for, what management believesthe periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have;
a. designed such disclosure controls and procedures to be
arm's-length consideration, all ofensure that
material information relating to the registrant, including its
net insurance exposures and reserves,
including allocated and unallocated loss adjustment expensesconsolidated subsidiaries, is made known to Bermuda Re.
14. SEGMENT REPORTING
The Company, through its subsidiaries, operatesus by others within those
entities, particularly during the period in four segments: U.S.
Reinsurance, U.S. Insurance, Specialty Underwriting and International. The U.S.
Reinsurance operation writes property and casualty treaty reinsurance through
reinsurance brokers as well as directly with ceding companies withinwhich this annual report
is being prepared;
b. evaluated the United
States, in addition to property, casualty and specialty facultative reinsurance
through brokers and directly with ceding companies within the United States. The
U.S. Insurance operation writes property and casualty insurance primarily
through general agent relationships and surplus lines brokers within the United
States. The Specialty Underwriting operation writes accident and health, marine,
aviation and surety business within the United States and worldwide through
brokers and directly with ceding companies. The International operation writes
property and casualty reinsurance through the Company's branches in Belgium,
London, Canada, and Singapore, in addition to foreign "home-office" business.
These segments are managed in a carefully coordinated fashion with strong
elements of central control, including with respect to capital, investments and
support operations. As a result, management monitors and evaluates the financial
performance of these operating segments based upon their underwriting gain or
loss ("underwriting results"). Underwriting results include earned premium less
losses and LAE incurred, commission and brokerage expenses and other
underwriting expenses. The accounting policieseffectiveness of the operating segments areregistrant's disclosure controls
and procedures as of a date within 90 days prior to the samefiling date of
this annual report (the "Evaluation Date"); and
c. presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as those describedof the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a. all significant deficiencies in Note 1K, Summarythe design or operation of Significant Accounting Policies.
The Company does not maintain separate balance sheetinternal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data for its operating
segments. Accordingly, the Company does not review and evaluate the financial
results of its operating segments based upon balance sheet data.
F-25
The following tables present the relevant underwriting resultshave
identified for the operating
segments for the three years ended December 31, 2001, 2000registrant's auditors any material weaknesses in
internal controls; and
1999.
U.S. REINSURANCE
- --------------------------------------------------------------------------------
(dollar values in thousands) 2001 2000 1999
---------- ---------- ----------
Earned premiums $ 497,600 $ 471,631 $ 456,572
Incurred losses and loss
adjustment expenses 449,635 317,735 316,507
Commission and brokerage 148,807 78,978 112,285
Other underwriting expenses 15,211 17,039 18,270
---------- ---------- ----------
Underwriting (loss) gain $ (116,053) $ 57,879 $ 9,510
========== ========== ==========
U.S. INSURANCE
- --------------------------------------------------------------------------------
(dollar values in thousands) 2001 2000 1999
---------- ---------- ----------
Earned premiums $ 294,225 $ 101,576 $ 57,791
Incurred losses and loss
adjustment expenses 211,311 70,277 41,077
Commission and brokerage 63,512 25,487 15,702
Other underwriting expenses 19,185 11,646 8,593
---------- ---------- ----------
Underwriting gain (loss) $ 217 $ (5,834) $ (7,581)
========== ========== ==========
SPECIALTY UNDERWRITING
- --------------------------------------------------------------------------------
(dollar values in thousands) 2001 2000 1999
---------- ---------- ----------
Earned premiums $ 371,805 $ 302,637 $ 265,343
Incurred losses and loss
adjustment expenses 330,841 254,302 185,608
Commission and brokerage 102,144 81,794 76,024
Other underwriting expenses 5,688 6,253 4,702
---------- ---------- ----------
Underwriting (loss) $ (66,868) $ (39,712) $ (991)
========== ========== ==========
INTERNATIONAL
- --------------------------------------------------------------------------------
(dollar values in thousands) 2001 2000 1999
---------- ---------- ----------
Earned premiums $ 169,871 $ 286,753 $ 291,745
Incurred losses and loss
adjustment expenses 87,432 235,927 228,378
Commission and brokerage 79,182 81,151 81,946
Other underwriting expenses 13,829 13,798 14,892
---------- ---------- ----------
Underwriting (loss) $ (10,572) $ (44,123) $ (33,471)
========== ========== ==========
F-26
The following table reconciles the underwriting results for the operating
segments to income before tax as reportedb. any fraud, whether or not material, that involves management or other
employees who have a significant role in the consolidated statements of
operationsregistrant's internal
controls; and
comprehensive income:
(dollar values in thousands) 2001 2000 1999
---------- ---------- ----------
Underwriting (loss) $ (193,276) $ (31,790) $ (32,533)
Net investment income 265,924 271,389 252,999
Realized (loss) gain (15,745) 291 (16,760)
Net derivative (expense) (7,020) - -
Corporate expenses (1,379) (1,528) (4,604)
Interest expense (46,004) (39,386) (1,490)
Other income (expense) 26,565 3,341 (1,030)
---------- ---------- ----------
Income before taxes $ 29,065 $ 202,317 $ 196,582
========== ========== ==========
6. The Company writes premiumregistrant's other certifying officers and I have indicated in the United States and international markets. The
revenues, net income and identifiable assets of the individual foreign countriesthis
annual report whether or not there were significant changes in which the Company writes business are not material.
Approximately 13.6%, 12.9% and 17.9% of the Company's gross premiums writteninternal
controls or in 2001, 2000 and 1999, respectively, were sourced through the Company's largest
intermediary.
F-27
15. UNAUDITED QUARTERLY FINANCIAL DATA
Summarized quarterly financial data were as follows:
(dollar values in thousands
except per share amounts) 1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter
--------- --------- --------- ---------
2001 Operating data:
Gross written premium $ 418,926 $ 482,578 $ 487,081 $ 461,215
Net written premium 386,822 416,736 363,972 249,398
Earned premium 327,992 391,085 343,828 270,596
Net investment income 67,362 68,747 65,316 64,499
Net realized capital
(loss) gain (4,789) 4,084 (991) (14,049)
Total claims and
underwriting expenses 336,299 401,320 482,595 307,942
Net income (loss) 33,591 39,762 (53,082) 17,979
========= ========= ========= =========
2000 Operating data:
Gross written premium $ 304,252 $ 326,225 $ 355,550 $ 387,998
Net written premium 287,537 295,129 302,043 322,612
Earned premium 266,184 285,780 291,191 319,442
Net investment income 63,809 66,941 71,281 69,388
Net realized capital
gain (loss) 7,864 (8,185) (89) 701
Total claims and
underwriting expenses 273,555 292,675 298,336 331,349
Net income 49,051 31,541 40,390 37,513
========= ========= ========= =========
F-28
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE I - SUMMARY OF INVESTMENTS -
OTHER THAN INVESTMENTS IN RELATED PARTIES
DECEMBER 31, 2001
(Dollars in thousands)
Column A Column B Column C Column D
- --------------------------------- ----------- ----------- -----------
Amount
Shown in
Market Balance
Cost Value Sheet
----------- ----------- -----------
Fixed maturities-available
for sale
Bonds:
U.S. government and
government agencies $ 114,046 $ 119,161 $ 119,161
State, municipalities and
political subdivisions 1,762,867 1,838,526 1,838,526
Foreign government securities 194,920 212,942 212,942
Foreign corporate securities 252,299 260,542 260,542
Public utilities 151,029 153,547 153,547
All other corporate bonds 1,081,871 1,087,892 1,087,892
Mortgage pass-through securities 432,330 450,756 450,756
Redeemable preferred stock 62,471 63,557 63,557
----------- ----------- -----------
Total fixed maturities-available
for sale 4,051,833 4,186,923 4,186,923
Equity securities 66,412 67,453 67,453
Short-term investments 115,850 115,850 115,850
Other invested assets 32,039 32,039 32,039
Cash 67,509 67,509 67,509
----------- ----------- -----------
Total investments and cash $ 4,333,643 $ 4,469,774 $ 4,469,774
=========== =========== ===========
S-1
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
CONDENSED BALANCE SHEET
(Dollars in thousands, except par value per share)
December 31, 2001 December 31, 2000
----------------- -----------------
ASSETS
Equity securities, at market value
(cost: 2001, $55; 2000, $55) $ 141 $ 143
Short-term investments 711 26,359
Cash 74 28
Investment in subsidiaries, at
equity in the underlying net assets 1,667,808 1,706,111
Receivable from affliate (2,153) (2,488)
Deferred tax asset 15,165 14,653
Accrued investment income 2 4
Other assets 2,617 3,312
----------------- -----------------
Total assets $ 1,684,365 $ 1,748,122
================= =================
LIABILITIES
8.5% Senior notes due 3/15/2005 $ 249,694 $ 249,615
8.75% Senior notes due 3/15/2010 199,077 199,004
Revolving credit facility 105,000 235,000
Current federal income taxes (26,644) -
Accrued interest on debt and borrowings 11,944 12,212
Due to affilitates 33,860 1,748
Other liabilities 25 56
----------------- -----------------
Total liabilities 572,956 697,635
----------------- -----------------
STOCKHOLDER'S EQUITY
Common stock, par value: $0.01; 200
million shares authorized; 1,000
issued in 2001 and 2000 - -
Paid-in capital 258,775 255,359
Accumulated other comprehensive
income, net of deferred taxes
of $40.8 million in 2001 and
$30.4 million in 2000 76,003 56,747
Retained earnings 776,631 738,381
----------------- -----------------
Total stockholder's equity 1,111,409 1,050,487
----------------- -----------------
Total liabilities and stockholder's
equity $ 1,684,365 $ 1,748,122
================= =================
See notes to consolidated financial statements.
S-2
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
CONDENSED STATEMENT OF OPERATIONS
(Dollars in thousands)
For Years Ended December 31,
----------------------------------------
2001 2000 1999
---------- ---------- ----------
REVENUES
Net investment income $ 241 $ 1,371 $ 612
Net realized capital gain 1 - -
Other (expense) (543) (416) -
Equity in undistributed
change in retained
earnings of subsidiaries 68,027 184,191 161,388
---------- ---------- ----------
Total revenues 67,726 185,146 162,000
---------- ---------- ----------
EXPENSES
Interest expense 46,004 39,386 1,490
Other expenses 427 5 2,489
---------- ---------- ----------
Income before taxes 21,295 145,755 158,021
Income tax (benefit) (16,955) (12,740) (40)
---------- ---------- ----------
Net income $ 38,250 $ 158,495 $ 158,061
========== ========== ==========
See notes to consolidated financial statements.
S-3
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
CONDENSED STATEMENT OF CASHFLOWS
(Dollars in thousands)
For Years Ended December 31,
------------------------------------------
2001 2000 1999
---------- ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 38,250 $ 158,495 $ 158,061
Adjustments to reconcile net income
to net cash provided by operating
activities:
Equity in undistributed change in
retained earnings of subsidiaries (68,027) (585,734) (161,388)
Increase (decrease) in other
liabilities 32,085 (1,352) 1,488
(Decrease) increase in accrued
interest on debt and borrowings (268) 12,106 106
(Increase) in deferred tax asset (27,156) (12,709) (40)
Decrease (increase) in other
assets 697 (2,881) (435)
(Increase) decrease in receivable
from affliates (335) 568 20,754
Restructure adjustment - (55) -
Accrual of bond discount (107) (877) -
Amortization of underwriting
discount on senior notes 152 112 -
Realized capital (gain) (1) - -
Non-cash compensation - 109 131
---------- ----------- -----------
NET CASH (USED IN) PROVIDED BY
OPERATING ACTIVITIES (24,710) (432,218) 18,677
CASH FLOWS FROM INVESTING ACTIVITIES
Additional investment in
subsidiaries, net of cash acquired - 349,743 50
Cost of equity securities acquired - (55) -
Net sales (purchases) of short-term
securities 25,756 (25,482) -
---------- ----------- -----------
NET CASH PROVIDED BY (USED IN)
INVESTING ACTIVITIES 25,756 324,206 50
CASH FLOWS FROM FINANCING ACTIVITIES
Borrowing on revolving credit line 22,000 176,000 59,000
Repayments on revolving credit line (152,000) - -
Proceeds from issuance of senior
notes - 448,507 -
Acquisition of treasury stock net
of reissuances - (16,478) (62,106)
Effect of restructuring - (11,706) -
Common stock issued during the
period - 2,288 317
Contribution from subsidiaries 129,000 198 -
Dividends paid to stockholders - (495,000) (11,707)
---------- ----------- -----------
NET CASH PROVIDED BY (USED IN)
FINANCING ACTIVITIES (1,000) 103,809 (14,496)
Net increase in cash 46 (4,203) 4,231
Cash, begining of period 28 4,231 -
---------- ----------- -----------
Cash, end of period $ 74 $ 28 $ 4,231
========== =========== ===========
Supplemental cash flow
information
Non-cash operating transaction:
Dividends received from
subsidiaries in the form of
forgiveness of liabilities $ - $ - $ 836
See notes to consolidated financial statements.
S-4
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION
Column A Column B Column C Column D Column F Column G Column H Column I Column J Column K
- --------------------- -------- ---------- --------- ---------- --------- ---------- --------- --------- ----------
Reserve Incurred
for Losses Loss Amortization
Deferred and Loss Unearned Net and Loss of Deferred Other
Acquisition Adjustment Premium Earned Investment Adjustment Acquisition Operating Written
Geographic Area Costs Expenses Reserves Premium Income Expenses Costs Expenses Premium
- --------------------- -------- ---------- --------- ---------- --------- ---------- --------- --------- ----------
December 31, 2001
Domestic $ 98,491 $3,641,323 $ 412,139 $1,163,630 $ 231,567 $ 991,787 $ 314,463 $ 41,463 $1,224,118
International 16,457 633,012 61,169 169,871 34,357 87,432 79,182 13,829 192,810
-------- ---------- --------- ---------- --------- ---------- --------- --------- ----------
Total $114,948 $4,274,335 $ 473,308 $1,333,501 $ 265,924 $1,079,219 $ 393,645 $ 55,292 $1,416,928
======== ========== ========= ========== ========= ========== ========= ========= ==========
December 31, 2000
Domestic $ 75,436 $3,176,004 $ 340,509 $ 875,844 $ 236,079 $ 642,314 $ 186,259 $ 36,466 $ 902,946
International 17,042 609,743 60,639 286,753 35,310 235,927 81,151 13,798 304,375
-------- ---------- --------- ---------- --------- ---------- --------- --------- ----------
Total $ 92,478 $3,785,747 $ 401,148 $1,162,597 $ 271,389 $ 878,241 $ 267,410 $ 50,264 $1,207,321
======== ========== ========= ========== ========= ========== ========= ========= ==========
December 31, 1999 (1)
Domestic $ 779,706 $ 209,617 $ 543,192 $ 198,323 $ 41,857 $ 799,265
International 291,745 43,382 228,378 81,946 14,892 296,304
---------- --------- ---------- --------- --------- ----------
Total $1,071,451 $ 252,999 $ 771,570 $ 280,269 $ 56,749 $1,095,569
========== ========= ========== ========= ========= ==========
(1) The 1999 amounts have been restated to conformother factors that could significantly affect internal
controls subsequent to the 2001date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and 2000 segment
presentation.
S-5
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE IVmaterial
weaknesses.
March 20, 2003 /s/ STEPHEN L. LIMAURO
- REINSURANCE
(Dollars in thousands)
Column A Column B Column C Column D Column E Column F
- ---------------------------- --------- --------------- --------------- ----------- ----------
Gross Ceded To Assumed From Net Assumed to
Amount Other Companies Other Companies Amount Net
--------- --------------- --------------- ----------- ----------
December 31, 2001
Total property and liability
insurance earned premium $ 380,178 $ 442,888 $ 1,396,211 $ 1,333,501 104.7%
December 31, 2000
Total property and liability
insurance earned premium $ 138,982 $ 121,527 $ 1,145,142 $ 1,162,597 98.5%
December 31, 1999
Total property and liability
insurance earned premium $ 73,822 $ 45,292 $ 1,042,921 $ 1,071,451 97.3%
S-6-------------- ---------------------------
Stephen L. Limauro
Executive Vice President
and Chief Financial Officer
INDEX TO EXHIBITS
Exhibit No. PageEXHIBIT NO. PAGE
- ----------- ----
2.1 Agreement and Plan of Merger among Everest Reinsurance Holdings,
Inc.,Everest Re Group, Ltd. and Everest Re Merger Corporation,
incorporated herein by reference to Exhibit 2.1 to the Registration
Statement on Form S-4 (No. 333-87361)
3.1 Certificate of Incorporation of Everest Reinsurance Holdings, Inc.,
incorporated herein by reference to Exhibit 4.1 to the Registration
Statement on Form S-8 (No. 333-05771)
3.2 Bye-LawsBy-Laws of Everest Reinsurance Holdings, Inc., incorporated herein by
reference to Exhibit 3.2 to the Everest Reinsurance Holdings, Inc.
Quarterly Report on Form 10-Q for the quarter ended March 31, 2000
4.1 Indenture, dated March 14, 2000, between Everest Reinsurance Holdings,
Inc. and The Chase Manhattan Bank, as Trustee, incorporated herein by
reference to Exhibit 4.1 to Everest Reinsurance Holdings, Inc. Form
8-K filed on March 15, 2000
4.2 First Supplemental Indenture relating to the 8.5% Senior Notes due
March 15, 2005, dated March 14, 2000, between Everest Reinsurance
Holdings, Inc. and The Chase Manhattan Bank, as Trustee, incorporated
herein by reference to Exhibit 4.2 to Everest Reinsurance Holdings,
Inc. Form 8-K filed on March 15, 2000
4.3 Second Supplemental Indenture relating to the 8.75% Senior Notes due
March 15, 2010, dated March 14, 2000, between Everest Reinsurance
Holdings, Inc. and The Chase Manhattan Bank, as Trustee, incorporated
herein by reference to Exhibit 4.3 to the Everest Reinsurance
Holdings, Inc. Form 8-K filed on March 15, 2000
*10.1 Employment Agreement with Joseph V. Taranto executed on July 15,
1998, incorporated herein by reference to Exhibit 10.21 to Everest
Reinsurance Holdings, Inc. Quarterly Report on Form 10-Q for the
quarter ended June 30, 1998 (the "second quarter 1998 10-Q")
*10.2 Amendment of Employment Agreement by and among Everest Reinsurance
Company, Everest Reinsurance Holdings, Inc., Everest Re Group, Ltd.
andAnd Joseph V. Taranto dated February 15, 2000, incorporated herein by
reference to Exhibit 10.29 to Everest Re Group, E-1
Ltd. Annual Report on
Form 10-K for the year ended December 31, 1999 (the "1999 10-K")
*10.3 Change of Control Agreement with Joseph V. Taranto effective July
15, 1998, incorporated herein by reference to Exhibit 10.22 to the
second quarter 1998 10-Q
*10.4 Amendment of Change of Control Agreement by and among Everest
Reinsurance Company, Everest Reinsurance Holdings, Inc., Everest Re
Group, Ltd. andAnd Joseph V. Taranto dated February 15, 2000,
incorporated herein by reference to Exhibit 10.30 to the 1999 10-K
10.5 Credit Agreement Between Everest Reinsurance Holdings, Inc., the
Lenders Named Therein and First Union National Bank dated December 21,
1999 providing for a $150 million Senior Revolving Credit Facility,
incorporated herein by reference to Exhibit 10.30 to Everest
Reinsurance Holdings, Inc. Form 8-K filed on December 28, 1999
10.6 First Amendment to Credit Agreement dated as of December 21, 1999
between Everest Reinsurance Holdings, Inc., the Lenders Named Therein
and First Union National Bank, incorporated herein by reference to
Exhibit 10.19 to Everest Re Group, Ltd. Annual Report on Form 10-K for
the year ended December 31, 2000 (the "2000 10-K")
10.7 Parent Guaranty dated February 24, 2000 made by Everest Re Group, Ltd.
inIn favor of the Lenders under Everest Reinsurance Holdings, Inc.'s
Credit Facility, incorporated herein by reference to Exhibit 10.33 to
the 1999 10-K
10.8 Guarantor Consent dated December 18, 2000 made by Everest Re Group,
Ltd. inIn favor of the Lenders under Everest Reinsurance Holdings,
Inc.'s Credit Facility, incorporated herein by reference to Exhibit
10.21 to the 2000 10-K
10.9 Stock Purchase Agreement between The Prudential Insurance Company of
America and Everest Reinsurance Holdings, Inc. for the sale of common
stock of Gibraltar Casualty Company dated February 24, 2000,
incorporated herein by reference to Exhibit 10.32 to the 1999 10-K
10.10 Amendment No. 1 to Stock Purchase Agreement between The Prudential
Insurance Company of America and Everest Reinsurance Holdings, Inc.
for the sale of common stock of Gibraltar Casualty Company dated
August 8, 2000, incorporated herein by reference to Exhibit 10.1 to
the Everest Re Group, Ltd. Quarterly Report on Form 10-Q for the
quarter ended June 30, 2000
E-22
10.11 Proportional Excess of Loss Reinsurance Agreement entered into
between Gibraltar Casualty Company and Prudential Property and
Casualty Insurance Company, incorporated herein by reference to
Exhibit 10.24 to the 2000 10-K
10.12 Guarantee Agreement made by The Prudential Insurance Company of
America in favor of Gibraltar Casualty Company, incorporated herein by
reference to Exhibit 10.25 to the 2000 10-K
10.13 Lease, effective December 26, 2000 between OTR, an Ohio general
partnership, and Everest Reinsurance Company, incorporated herein by
reference to Exhibit 10.26 to the 2000 10-K
*10.14 Amendment of Employment Agreement by and among Everest Reinsurance
Company, Everest Reinsurance Holdings, Inc., Everest Re Group, Ltd.,
Everest Global Services, Inc. and Joseph V. Taranto, dated March 30,
2001, incorporated herein by reference to Exhibit 10.1 to Everest Re
Group, Ltd. Report on Form 10-Q for the quarter ended March 31, 2001
(the "first quarter 2001 10-Q")
*10.15 Amendment of Employment Agreement by and among Everest
Reinsurance Company, Everest Reinsurance Holdings, Inc., Everest Re
Group, Ltd., Everest Global Services, Inc. and Joseph V. Taranto,
dated April 20, 2001, incorporated herein by reference to Exhibit 10.2
to the first quarter 2001 10-Q.
*10.16 Amendment of Change of Control Agreement by and among Everest
Reinsurance Company, Everest Reinsurance Holdings, Inc., Everest Re
Group, Ltd., Everest Global Services, Inc. and Joseph V. Taranto,
dated March 30, 2001, incorporated herein by reference to Exhibit 10.3
to the first quarter 2001 10-Q
10.17 Second Amendment to Credit Agreement dated as of November 21, 2002
between Everest Holdings, Inc., the Lenders Named Therein and Wachovia
Bank, National Association (formerly known as First Union National
Bank), incorporated herein by reference to Exhibit 10.31 to Everest Re
Group, Ltd. Annual Report on Form 10-K for the year ended December 31,
2002
23.1 Consent of PricewaterhouseCoopers LLP, filed herewith
99.1 Certification of Chief Executive Officer and Chief Financial Officer.
- --------------------------
* Management contract or compensatory plan or arrangement.
E-33
INDEX TO FINANCIAL STATEMENTS AND SCHEDULES
PAGES
-----
Everest Reinsurance Holdings, Inc.
Report of Independent Accountants on Financial Statements and Schedules F-2
---
Consolidated Balance Sheets at December 31, 2002 and 2001 F-3
---
Consolidated Statements of Operations and Comprehensive Income for the
years ended December 31, 2002, 2001 and 2000 F-4
---
Consolidated Statements of Changes in Stockholder's Equity for
the years ended December 31, 2002, 2001 and 2000 F-5
---
Consolidated Statements of Cash Flows for the years ended
December 31, 2002, 2001 and 2000 F-6
---
Notes to Consolidated Financial Statements F-7
---
Schedules
I Summary of Investments Other Than Investments in Related Parties at
December 31, 2002 S-1
---
II Condensed Financial Information of Registrant:
Balance Sheets as of December 31, 2002 and 2001 S-2
---
Statements of Operations for the Years Ended
December 31, 2002, 2001 and 2000 S-3
---
Statements of Cash Flows for the Years Ended December 31, 2002,
2001 and 2000 S-4
---
III Supplementary Insurance Information as of December 31, 2002 and
2001 and for the years ended December 31, 2002, 2001 and 2000 S-5
---
IV Reinsurance for the years ended December 31, 2002, 2001 and 2000 S-6
---
Schedules other than those listed above are omitted for the reason that they are
not applicable or the information is otherwise contained in the Financial
Statements.
F-1
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholder of
Everest Reinsurance Holdings, Inc.
In our opinion, the consolidated financial statements listed in the accompanying
index present fairly, in all material respects, the financial position of
Everest Reinsurance Holdings, Inc. and its subsidiaries at December 31, 2002 and
2001, and the results of their operations and their cash flows for each of the
three years in the period ended December 31, 2002 in conformity with accounting
principles generally accepted in the United States of America. In addition, in
our opinion, the financial statement schedules listed in the accompanying index
present fairly, in all material respects, the information set forth therein when
read in conjunction with the related consolidated financial statements. These
financial statements and financial statement schedules are the responsibility of
the Company's management; our responsibility is to express an opinion on these
financial statements and financial statement schedules based on our audits. We
conducted our audits of these statements in accordance with auditing standards
generally accepted in the United States of America, which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
PricewaterhouseCoopers LLP
New York, New York
February 6, 2003
F-2
EVEREST REINSURANCE HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except par value per share)
December 31, December 31,
------------ ------------
2002 2001
------------ ------------
ASSETS:
Fixed maturities - available for sale,
at market value (amortized cost:
2002, $4,569,844; 2001, $4,051,833) $ 4,805,976 $ 4,186,923
Equity securities, at market value
(cost: 2002, $79,791; 2001, $66,412) 72,468 67,453
Short-term investments 130,075 115,850
Other invested assets 42,307 32,039
Cash 116,843 67,509
------------ ------------
Total investments and cash 5,167,669 4,469,774
Accrued investment income 61,708 64,972
Premiums receivable 639,327 454,548
Reinsurance receivables - unaffiliated 1,104,827 886,734
Reinsurance receivables - affiliated 735,248 584,623
Funds held by reinsureds 121,308 149,710
Deferred acquisition costs 161,450 114,948
Prepaid reinsurance premiums 149,588 48,100
Deferred tax asset 144,376 178,476
Other assets 95,763 60,496
------------ ------------
TOTAL ASSETS $ 8,381,264 $ 7,012,381
============ ============
LIABILITIES:
Reserve for losses and adjustment
expenses $ 4,875,225 $ 4,274,335
Unearned premium reserve 809,813 473,308
Funds held under reinsurance treaties 399,492 308,811
Losses in the course of payment 38,016 83,360
Contingent commissions 4,333 3,345
Other net payable to reinsurers 147,342 132,252
Current federal income taxes (16,365) (30,365)
8.5% Senior notes due 3/15/2005 249,780 249,694
8.75% Senior notes due 3/15/2010 199,158 199,077
Revolving credit agreement borrowings 70,000 105,000
Interest accrued on debt and borrowings 13,481 11,944
Deferred gain on reinsurance 16,904 -
Other liabilities 73,357 90,211
------------ ------------
Total liabilities 6,880,536 5,900,972
------------ ------------
Company-obligated mandatorily
redeemable preferred securities
of subsidiary trusts holding solely
subordinated debentures ("trust
preferred securities") 210,000 -
------------ ------------
STOCKHOLDER'S EQUITY:
Common stock, par value: $0.01; 200
million shares authorized; 1,000
shares issued in 2002 and 2001 - -
Additional paid-in capital 259,508 258,775
Accumulated other comprehensive
income, net of deferred income
taxes of $73.4 million in 2002 and
$40.8 million in 2001 139,486 76,003
Retained earnings 891,734 776,631
------------ ------------
Total stockholder's equity 1,290,728 1,111,409
------------ ------------
TOTAL LIABILITIES, TRUST
PREFERRED SECURITIES AND
STOCKHOLDER'S EQUITY $ 8,381,264 $ 7,012,381
============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
F-3
EVEREST REINSURANCE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(Dollars in thousands, except per share amounts)
Years Ended December 31,
-------------------------------------------
2002 2001 2000
----------- ----------- -----------
REVENUES:
Premiums earned $ 1,957,346 $ 1,333,501 $ 1,162,597
Net investment income 257,922 265,924 271,389
Net realized capital
(loss) gain (53,127) (15,745) 291
Net derivative (expense) (3,466) (7,020) -
Other (expense) income (21,847) 26,565 3,341
----------- ----------- -----------
2,136,828 1,603,225 1,437,618
----------- ----------- -----------
CLAIMS AND EXPENSES:
Incurred losses and loss
adjustment expenses 1,398,953 1,079,219 878,241
Commission, brokerage, taxes
and fees 488,435 393,645 267,410
Other underwriting expenses 65,060 55,292 50,264
Distributions related to trust
preferred securities 2,091 - -
Interest expense on senior notes 38,916 38,903 30,896
Interest expense on credit
facility 3,501 7,101 8,490
----------- ----------- -----------
1,996,956 1,574,160 1,235,301
----------- ----------- -----------
INCOME BEFORE TAXES 139,872 29,065 202,317
Income tax expense (benefit) 24,769 (9,185) 43,822
----------- ----------- -----------
NET INCOME $ 115,103 $ 38,250 $ 158,495
=========== =========== ===========
Other comprehensive income,
net of tax 63,483 19,256 73,448
----------- ----------- -----------
COMPREHENSIVE INCOME $ 178,586 $ 57,506 $ 231,943
=========== =========== ===========
The accompanying notes are an integral part of the consolidated financial
statements.
F-4
EVEREST REINSURANCE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CHANGES
IN STOCKHOLDER'S EQUITY
(Dollars in thousands, except per share amounts)
Years Ended December 31,
-------------------------------------------
2002 2001 2000
----------- ----------- -----------
COMMON STOCK (shares outstanding):
Balance, beginning of period 1,000 1,000 46,457,817
Issued during the period - - 8,500
Treasury stock acquired during
period - - (650,400)
Treasury stock reissued during
period - - 1,780
Common stock retired during
the period - - (45,817,697)
Issued during the period - - 1,000
----------- ----------- -----------
Balance, end of period 1,000 1,000 1,000
=========== =========== ===========
COMMON STOCK (par value):
Balance, beginning of period $ - $ - $ 509
Common stock retired during
the period - - (509)
----------- ----------- -----------
Balance, end of period - - -
----------- ----------- -----------
ADDITIONAL PAID IN CAPITAL:
Balance, beginning of period 258,775 255,359 390,912
Retirement of treasury stock
during the period - - (138,546)
Common stock issued during
the period 733 3,416 2,339
Treasury stock reissued
during period - - (2)
Contribution from subsidiary - - 198
Common stock retired during
the period - - 458
----------- ----------- -----------
Balance, end of period 259,508 258,775 255,359
----------- ----------- -----------
UNEARNED COMPENSATION:
Balance, beginning of period - - (109)
Net increase during the period - - 109
----------- ----------- -----------
Balance, end of period - - -
----------- ----------- -----------
ACCUMULATED OTHER COMPREHENSIVE
INCOME, NET OF DEFERRED INCOME
TAXES:
Balance, beginning of period 76,003 56,747 (16,701)
Net increase during the period 63,483 19,256 73,448
----------- ----------- -----------
Balance, end of period 139,486 76,003 56,747
----------- ----------- -----------
RETAINED EARNINGS:
Balance, beginning of period 776,631 738,381 1,074,941
Net income 115,103 38,250 158,495
Restructure adjustments - - (55)
Dividends paid to parent - - (495,000)
----------- ----------- -----------
Balance, end of period 891,734 776,631 738,381
----------- ----------- -----------
TREASURY STOCK AT COST:
Balance, beginning of period - - (122,070)
Treasury stock retired
during the period - - 138,454
Treasury stock acquired
during period - - (16,426)
Treasury stock reissued
during period - - 42
----------- ----------- -----------
Balance, end of period - - -
----------- ----------- -----------
TOTAL STOCKHOLDER'S EQUITY,
END OF PERIOD $ 1,290,728 $ 1,111,409 $ 1,050,487
=========== =========== ===========
The accompanying notes are an integral part of the consolidated financial
statements.
F-5
EVEREST REINSURANCE HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
Twelve Months Ended December 31,
-------------------------------------------
2002 2001 2000
----------- ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 115,103 $ 38,250 $ 158,495
Adjustments to reconcile net income
to net cash provided by operating
activities net of effects from the
purchase of subsidiary:
(Increase) in premiums receivable (180,683) (62,901) (101,894)
Decrease in funds held by
reinsureds, net 115,679 209,558 29,135
(Increase) in reinsurance
receivables (349,061) (476,736) (173,954)
(Increase) in deferred
tax asset (204) (15,968) (16,247)
Increase in reserve for losses
and loss adjustment expenses 556,265 506,128 827
Increase in unearned premiums 333,547 73,201 95,076
(Increase) decrease in other
assets and liabilities (210,717) 22,179 (16,887)
Non cash compensation expense - - 109
Accrual of bond discount/
amortization of bond premium (8,059) (5,836) (7,553)
Amortization of underwriting
discount on senior notes 167 152 112
Restructure adjustments - - (55)
Realized capital losses (gains) 53,127 15,745 (291)
----------- ----------- -----------
Net cash provided by (used in)
operating activities 425,164 303,772 (33,127)
----------- ----------- -----------
CASH FLOWS FROM INVESTING
ACTIVITIES:
Proceeds from fixed maturities
matured/called - available for sale 456,342 265,316 181,381
Proceeds from fixed maturities
sold - available for sale 1,086,998 470,561 730,589
Proceeds from equity securities
sold 19,940 33,373 49,556
Proceeds from other invested
assets sold 3,222 47 -
Cost of fixed maturities acquired
- available for sale (2,082,403) (1,036,759) (1,174,662)
Cost of equity securities acquired (32,683) (64,267) (2,732)
Cost of other invested assets
acquired (12,886) (1,497) (1,698)
Net (purchases) sales of
short-term securities (13,635) 156,735 (205,524)
Net increase (decrease) in
unsettled securities transactions 887 1,595 (955)
Payment for purchase of
subsidiary, net of cash acquired - - 349,743
----------- ----------- -----------
Net cash (used in) investing
activities (574,218) (174,896) (74,302)
----------- ----------- -----------
CASH FLOWS FROM FINANCING
ACTIVITIES:
Acquisition of treasury
stock net of reissuances - - (16,478)
Common shares issued during
the period 733 3,416 2,288
Dividends paid to shareholders - - (495,000)
Contribution from subsidiary - - 198
Proceeds from issuance of
senior notes - - 448,507
Proceeds from trust preferred
securities 210,000 - -
Borrowings on revolving
credit agreement 45,000 22,000 176,000
Repayments on revolving
credit agreement (80,000) (152,000) -
----------- ----------- -----------
Net cash provided by (used in)
financing activities 175,733 (126,584) 115,515
----------- ----------- -----------
EFFECT OF EXCHANGE RATE
CHANGES ON CASH 22,656 (3,180) (1,916)
----------- ----------- -----------
Net increase (decrease) in cash 49,334 (888) 6,170
Cash, beginning of period 67,509 68,397 62,227
----------- ----------- -----------
Cash, end of period $ 116,843 $ 67,509 $ 68,397
=========== =========== ===========
Supplemental cash flow
information
Cash transactions:
Income taxes paid, net $ 9,716 $ 24,370 $ 62,141
Interest paid $ 42,805 $ 46,120 $ 27,169
Non-Cash operating/investing
transaction:
Shares received from
demutualization $ - $ 25,921 $ -
Non-cash financing
transaction:
Issuance of common stock $ - $ - $ 109
In the quarter ended September 30, 2000, the Company purchased all of the
capital stock of Mt. McKinley Insurance Company for $51,800. In conjunction with
the acquisition, the fair value of assets acquired was $679,672 and liabilities
assumed was $627,872.
The accompanying notes are an integral part of the consolidated financial
statements.
F-6
EVEREST REINSURANCE HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 2002, 2001 and 2000
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A. BUSINESS AND BASIS OF PRESENTATION
Everest Re Group, Ltd. ("Group"), a Bermuda company with its principal executive
office in Barbados, was established in 1999 as a wholly-owned subsidiary of
Everest Reinsurance Holdings, Inc. ("Holdings"). On February 24, 2000, a
corporate restructuring was completed and Group became the new parent holding
company of Holdings. Holders of shares of common stock of Holdings automatically
became holders of the same number of common shares of Group. The "Company" means
Holdings and its subsidiaries, unless the context otherwise requires. The
Company, through its subsidiaries, principally provides property and casualty
reinsurance and insurance in the United States and internationally.
The accompanying consolidated financial statements have been prepared in
conformity with generally accepted accounting principles in the United States of
America. The statements include the following domestic and foreign direct and
indirect subsidiaries of the Company: Everest Re Capital Trust ("Capital Trust")
Everest Reinsurance Company ("Everest Re"), Everest National Insurance Company
("Everest National"), Everest Indemnity Insurance Company ("Everest Indemnity"),
Everest Re Holdings, Ltd. ("Everest Ltd."), a Bermuda domiciled successor
company of Everest Re Ltd. (the assets of which funded Everest Ltd. and which
was formerly known as Everest Reinsurance Ltd.), Everest Security Insurance
Company ("Everest Security"), formerly Southeastern Security Insurance Company,
Everest Insurance Company of Canada ("Everest Canada"), Mt. McKinley Managers,
L.L.C. ("Managers"), Workcare Southeast, Inc. ("Workcare Southeast"), Workcare
Southeast of Georgia, Inc. ("Workcare Georgia"), Workcare, Inc and Mt. McKinley
Insurance Company ("Mt. McKinley"). All amounts are reported in U.S. dollars.
The preparation of financial statements in conformity with generally accepted
accounting principles in the United States of America requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities (and disclosure of contingent assets and liabilities) at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
B. INVESTMENTS
Fixed maturity investments are all classified as available for sale. Unrealized
appreciation and depreciation, as a result of temporary changes in market value
during the period, are reflected in stockholder's equity, net of income taxes in
"accumulated other comprehensive income". Equity securities are carried at
market value with unrealized appreciation or depreciation, as a result of
temporary changes in market value during the period, are reflected in
stockholder's equity, net of income taxes in "accumulated other comprehensive
income". Unrealized losses on fixed maturities and equity securities, which are
deemed other than temporary, are charged to net income as realized capital
losses. Short-term investments are stated at cost, which approximates market
value. Realized gains or losses on sale of investments are determined on the
basis of identified cost. For non-publicly traded securities, market prices are
determined through the use of pricing models that evaluate securities relative
to the U.S. Treasury yield curve, taking into account the issue type, credit
quality and cash flow characteristics of each security. For publicly traded
securities, market value is based on quoted market prices. Retrospective
adjustments are employed to recalculate the values of loan-backed and
asset-backed securities. Each acquisition lot is reviewed to recalculate the
effective yield. The recalculated effective yield is used to derive a book value
as if the new yield were applied at the time of acquisition. Outstanding
F-7
principal factors from the time of acquisition to the adjustment date are used
to calculate the prepayment history for all applicable securities. Conditional
prepayment rates, computed with life to date factor histories and weighted
average maturities, are used to affect the calculation of projected and
prepayments for pass through security types. Other invested assets include
limited partnerships and rabbi trusts. Limited partnerships are valued pursuant
to the equity method of accounting, which management believes approximates
market value. The Supplemental Retirement Plan rabbi trust is carried at market
value, while the Deferred Compensation Plan rabbi trust and Supplemental Savings
Plan rabbi trust are carried at cost, which approximates market value. Cash
includes cash and bank time deposits with original maturities of ninety days or
less.
C. UNCOLLECTIBLE REINSURANCE BALANCES
The Company provides reserves for uncollectible reinsurance balances based on
management's assessment of the collectibility of the outstanding balances. Such
reserves were $31.3 million at December 31, 2002 and $34.1 million at December
31, 2002. See also Note 10.
D. DEFERRED ACQUISITION COSTS
Acquisition costs, consisting principally of commissions and brokerage expenses
and certain premium taxes and fees associated with the Company's reinsurance and
insurance business incurred at the time a contract or policy is issued, are
deferred and amortized over the period in which the related premiums are earned,
generally one year. Deferred acquisition costs are limited to their estimated
realizable value based on the related unearned premiums, anticipated claims and
claim expenses and anticipated investment income. Deferred acquisition costs
amortized to income (expense) were $488.4 million, $393.6 million and $267.4
million in 2002, 2001 and 2000, respectively.
E. RESERVE FOR LOSSES AND LOSS ADJUSTMENT EXPENSES
The reserve for unpaid losses and loss adjustment expenses ("LAE") is based on
individual case estimates and reports received from ceding companies. A
provision is included for losses and LAE incurred but not reported ("IBNR")
based on past experience. A provision is also included for certain potential
liabilities relating to asbestos and environmental exposures, which liabilities
cannot be estimated with traditional reserving techniques. See also Note 3. The
reserves are reviewed continually and any changes in estimates are reflected in
earnings in the period the adjustment is made. Management believes that adequate
provision has been made for the Company's losses and LAE. Loss and LAE reserves
are presented gross of reinsurance receivables and incurred losses and LAE are
presented net of ceded reinsurance.
Accruals for contingent commission liabilities are established for reinsurance
contracts that provide for the stated commission percentage to increase or
decrease based on the loss experience of the contract. Changes in the estimated
liability for such arrangements are recorded as contingent commissions. Accruals
for contingent commission liabilities are determined through the review of the
contracts that have these adjustable features and are estimated based on
expected loss and loss adjustment expenses.
F. PREMIUM REVENUES
Premiums written are earned ratably over the periods of the related insurance
and reinsurance contracts or policies. Unearned premium reserves are established
to cover the remainder of the unexpired contract period. Such reserves are
established based upon reports received from ceding companies or computed using
F-8
pro rata methods based on statistical data. Written and earned premiums, and the
related costs, which have not yet been reported to the Company are estimated and
accrued. Premiums are net of ceded reinsurance.3
G. INCOME TAXES
The Company and its wholly-owned subsidiaries file a consolidated U.S. federal
income tax return. Deferred income taxes have been recorded to recognize the tax
effect of temporary differences between the financial reporting and income tax
bases of assets and liabilities.
H. FOREIGN CURRENCY TRANSLATION
Assets and liabilities relating to foreign operations are translated into U.S.
dollars at the exchange rates in effect at the balance sheet date; revenues and
expenses are translated into U.S. dollars using average exchange rates. Gains
and losses resulting from translating foreign currency financial statements, net
of deferred income taxes, are excluded from net income and accumulated in
stockholder's equity.
I. UNUSUAL LOSS EVENTS IN 2001
As a result of the terrorist attacks at the World Trade Center, the Pentagon and
on various airlines on September 11, 2001 (collectively the "September 11
attacks"), the Company incurred pre-tax losses, based on an estimate of ultimate
exposure developed through a review of its coverages, which totaled $213.2
million gross of reinsurance and $55.0 million net of reinsurance. Associated
with this reinsurance were $60.0 million of pre-tax charges, predominantly from
adjustment premiums, resulting in a total pre-tax loss from the September 11
attacks of $115.0 million. After tax recoveries relating specifically to this
unusual loss event, the net loss from the September 11 attacks totaled $75.0
million. Over 90% of the losses ceded were to treaties where the reinsurers'
obligations are secured, which in the Company's opinion eliminates material
reinsurance collection risk.
As a result of the Enron bankruptcy, the Company incurred losses, after-tax and
reinsurance, amounting to $18.6 million. This unusual loss reflects all of the
Company's exposures, including underwriting, credit and investment.
J. ACQUISITIONS
On September 19, 2000, the Company acquired Mt. McKinley for $51.8 million. Mt.
McKinley is a run-off property and casualty insurer in the United States. No
goodwill was generated in the transaction. The acquisition was recorded using
the purchase method of accounting. Accordingly, the December 31, 2000
consolidated financial statements of the Company include the results of Mt.
McKinley from September 19, 2000.
In connection with the acquisition of Mt. McKinley, Prudential Property and
Casualty Insurance Company ("Prupac"), a subsidiary of The Prudential Insurance
Company of America ("The Prudential"), provided reinsurance to Mt. McKinley
covering 80% ($160.0 million) of the first $200.0 million of any adverse
development of Mt. McKinley's reserves as of September 19, 2000 and The
Prudential guaranteed Prupac's obligation to Mt. McKinley. The stop loss
reinsurance protection that was provided by Mt. McKinley at the time of the
Company's initial public offering and other reinsurance contracts between Mt.
McKinley and Everest Re remain in effect following the acquisition. However,
these contracts became transactions with affiliates effective on the date of the
F-9
Mt. McKinley acquisition, and their financial impact is thereafter eliminated in
consolidation. Effective September 19, 2000, Mt. McKinley and Everest
Reinsurance (Bermuda), Ltd. ("Bermuda Re") entered into a loss portfolio
transfer reinsurance agreement, whereby Mt. McKinley transferred, for what
management believes to be arm's-length consideration, all of its net insurance
exposures and reserves to Bermuda Re.
The following unaudited pro forma information assumes the acquisition of Mt.
McKinley occurred at the beginning of each year presented. The unaudited pro
forma financial information is presented for informational purposes only and is
not necessarily indicative of the operating results that would have occurred had
the acquisition been consummated at the beginning of each year presented, nor is
it necessarily indicative of future operating results.
-----------
2000
(Dollars in thousands) (Unaudited)
-----------
Revenues $ 1,457,284
Net income 161,079
The Company also completed the acquisition of Everest Security during 2000, a
United States property and casualty company whose primary business is
non-standard auto. The purchase price of the acquisition was approximately $10.1
million. Goodwill of $3.0 million was generated as a result of the acquisition
and was recorded using the purchase method of accounting.
K. SEGMENTATION
The Company, through its subsidiaries, operates in four segments: U.S.
Reinsurance, U.S. Insurance, Specialty Underwriting and International. See also
Note 16.
L. CODIFICATION
The NAIC has published a codification of statutory accounting principles, which
has been adopted by the states of domicile of the Company's U.S. operating
subsidiaries with an effective date of January 1, 2001. On January 1, 2001,
significant changes to the statutory-basis of accounting became effective. The
cumulative effect of these changes has been recorded as a direct adjustment to
statutory surplus. See also Note 13C.
M. DERIVATIVES
The Company has in its product portfolio a credit default swap contract, which
it no longer offers. This contract meets the definition of a derivative under
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("FAS 133"). The Company's position in this
contract is unhedged and is accounted for as a derivative in accordance with FAS
133. Accordingly, this contract is carried at fair value and recorded in "Other
liabilities" in the statement of financial position and changes in fair value
are recorded in the statement of operations.
N. RETROACTIVE REINSURANCE
Premiums on assumed retroactive contracts are earned when written with a
corresponding liability established for the estimated loss the Company
ultimately expects to pay out. The initial gain is deferred and amortized into
income over an actuarial determined pay out period. Premiums on ceded
retroactive contracts are earned when written with a corresponding reinsurance
F-10
recoverable established for the amount of reserves ceded. The initial loss is
deferred and amortized into expense over an actuarial determined expected pay
out period.
O. DEPOSIT ASSETS AND LIABILITIES
In the normal course of its operations, the Company enters into contracts that
do not meet the risk transfer provisions of FAS No. 113, "Accounting and
Reporting for Reinsurance of Short Duration and Long Duration Contracts". These
contracts are accounted for using the deposit accounting method. For these
contracts, the Company originally records deposit liabilities for an amount
equivalent to the assets received. Actuarial studies are used to estimate the
final liabilities under these contracts with any change reflected in the
Statement of Operations.
P. POLICYHOLDER DIVIDENDS
The Company issues certain insurance policies with dividend payment features.
These policyholders share in the operating results of their respective policies
in the form of dividends declared. Dividends to policyholders are accrued during
the period in which the related premiums are earned and are determined based on
the terms of the individual policies.
Q. APPLICATION OF NEW ACCOUNTING STANDARDS
In June 2001, the Financial Accounting Standards Board issued FAS 142, "Goodwill
and Other Intangible Assets". FAS 142 established new accounting and reporting
standards for acquired goodwill and other intangible assets. It requires that an
entity determine if other intangible assets have an indefinite useful life or a
finite useful life. Goodwill and those intangible assets with indefinite useful
lives are not subject to amortization and must be tested at least annually for
impairment. Those with finite useful lives are subject to amortization and must
be tested annually for impairment. This statement is effective for all fiscal
quarters of all fiscal years beginning after December 15, 2001. The Company
adopted FAS 142 on January 1, 2002. The implementation of this statement has not
had a material impact on the financial position, results of operations or cash
flows of the Company.
Prior to 2002, Group accounted for its stock-based employee compensation plans
under the recognition and measurement provisions of APB Opinion No. 25,
"Accounting for Stock Issued to Employees", and related interpretations.
Effective January 1, 2002, Group adopted the fair value recognition provisions
of FAS No. 123, "Accounting for Stock-Based Compensation, prospectively to all
employee awards granted, modified or settled after January 1, 2002.
F-11
2. INVESTMENTS
The amortized cost, market value, and gross unrealized appreciation and
depreciation of fixed maturity investments and equity securities are presented
in the tables below:
(dollar values in thousands) Amortized Unrealized Unrealized Market
Cost Appreciation Depreciation Value
---------- ------------ ------------ ----------
As of December 31, 2002
Fixed maturities - available for sale
U.S. Treasury securities and obligations of
U.S. government agencies and corporations $ 344,957 $ 9,276 $ 204 $ 354,029
Obligations of U.S. states and political
subdivisions 2,520,597 144,574 2,593 2,662,578
Corporate securities 879,592 50,685 25,235 905,042
Mortgage-backed securities 376,251 25,443 319 401,375
Foreign government securities 249,055 22,737 - 271,792
Foreign corporate securities 199,392 13,239 1,471 211,160
---------- ------------ ------------ ----------
Total fixed maturities $4,569,844 $ 265,954 $ 29,822 $4,805,976
========== ============ ============ ==========
Equity securities $ 79,791 $ 2,112 $ 9,435 $ 72,468
========== ============ ============ ==========
As of December 31, 2001
Fixed maturities - available for sale
U.S. Treasury securities and obligations of
U.S. government agencies and corporations $ 114,046 $ 5,242 $ 127 $ 119,161
Obligations of U.S. states and political
subdivisions 1,762,867 78,427 2,768 1,838,526
Corporate securities 1,295,371 41,342 31,717 1,304,996
Mortgage-backed securities 432,330 18,663 237 450,756
Foreign government securities 194,920 18,145 123 212,942
Foreign corporate securities 252,299 10,098 1,855 260,542
---------- ------------ ------------ ----------
Total fixed maturities $4,051,833 $ 171,917 $ 36,827 $4,186,923
========== ============ ============ ==========
Equity securities $ 66,412 $ 1,480 $ 439 $ 67,453
========== ============ ============ ==========
F-12
The amortized cost and market value of fixed maturities are shown in the
following table by contractual maturity. Mortgage-backed securities generally
are more likely to be prepaid than other fixed maturities. As the stated
maturity of such securities may not be indicative of actual maturities, the
total for mortgage-backed securities is shown separately.
December 31, 2001
--------------------------
Amortized Market
(dollar values in thousands) Cost Value
--------------------------
Fixed maturities - available for sale
Due in one year or less $ 69,039 $ 70,769
Due after one year through five years 1,038,572 1,089,665
Due after five years through ten years 855,793 903,276
Due after ten years 2,230,189 2,340,891
Mortgage-backed securities 376,251 401,375
---------- ----------
Total $4,569,844 $4,805,976
========== ==========
Proceeds from sales of fixed maturity investments during 2002, 2001 and 2000
were $1,087.0 million, $470.6 million and $730.6 million, respectively. Gross
gains of $54.9 million, $16.4 million and $8.7 million, and gross losses of
$84.8 million, $42.4 million and $27.7 million were realized on those fixed
maturity sales during 2002, 2001 and 2000, respectively. Proceeds from sales of
equity security investments during 2002, 2001 and 2000 were $19.9 million, $33.4
million and $49.6 million, respectively. Gross gains of $0.9 million, $13.4
million and $20.6 million and gross losses of $0.3 million, $0.1 million and
$1.4 million were realized on those equity sales during 2002, 2001 and 2000,
respectively.
The changes in net unrealized gains (losses) of investments of the Company are
derived from the following sources:
Years Ended December 31,
------------------------------------
(dollar values in thousands) 2002 2001 2000
------------------------------------
Increase (decrease) during the period between the market
value and cost of investments carried at market value,
and deferred tax thereon:
Equity securities $ (8,363) $ (13,199) $ (26,229)
Fixed maturities 101,043 49,033 141,403
Other invested assets (32) 20 23
Deferred taxes (32,427) (12,549) (40,319)
-------- --------- ---------
Increase in unrealized appreciation, net of
deferred taxes, included in stockholder's equity $ 60,221 $ 23,305 $ 74,878
======== ========= =========
F-13
The components of net investment income are presented in the table below:
Years Ended December 31,
--------------------------------------
(dollar values in thousands) 2002 2001 2000
--------------------------------------
Fixed maturities $273,572 $270,570 $274,905
Equity securities 934 896 1,198
Short-term investments 3,485 4,991 6,908
Other interest income 2,783 4,567 3,081
-------- -------- --------
Total gross investment income 280,774 281,024 286,092
-------- -------- --------
Interest on funds held 21,070 11,909 11,316
Other investment expenses 1,782 3,191 3,387
-------- -------- --------
Total investment expenses 22,852 15,100 14,703
-------- -------- --------
Total net investment income $257,922 $265,924 $271,389
======== ======== ========
The components of realized capital (losses) gains are presented in the table
below:
Years Ended December 31,
------------------------------------------
(dollar values in thousands) 2002 2001 2000
------------------------------------------
Fixed maturities $(53,773) $(29,074) $(18,967)
Equity securities 620 13,326 19,260
Short-term investments 26 3 (2)
-------- -------- --------
Total $(53,127) $(15,745) $ 291
======== ======== ========
The net realized capital losses for 2002 and 2001 include $79.7 million and
$16.7 million respectively, relating to write-downs in the value of securities
deemed to be impaired on an other than temporary basis.
Securities with a carrying value amount of $424.2 million at December 31, 2002
were on deposit with various state or governmental insurance departments in
compliance with insurance laws.
During 2000, the Company entered into a credit swap derivative contract, which
provides credit default protection on a portfolio of referenced securities. Due
to changing credit market conditions and defaults, the Company recorded net
after-tax losses from this contract of $2.3 million and $4.6 million in 2002 and
2001, respectively, to reflect it at fair value, with the 2001 losses
principally attributable to the Company's exposure to the Enron bankruptcy. As
of December 31, 2002, there is no remaining maximum after-tax net loss exposure
under this contract.
The Company's position in this contract is unhedged and is accounted for as a
derivative in accordance with FAS 133. Accordingly, this contract is carried at
fair value with changes in fair value recorded in the statement of operations.
F-14
3. RESERVE FOR LOSSES AND LAE
Activity in the reserve for losses and LAE expenses is summarized as follows:
Years Ended December 31,
---------------------------------------------
(dollar values in thousands) 2002 2001 2000
---------------------------------------------
Reserves at January 1 $4,274,335 $3,785,747 $3,646,992
Less reinsurance recoverables 1,452,485 980,396 727,780
---------- ---------- ----------
Net balance at January 1 2,821,850 2,805,351 2,919,212
---------- ---------- ----------
Incurred related to:
Current year 1,279,785 1,074,053 870,454
Prior years 119,168 5,166 7,787
---------- ---------- ----------
Total incurred losses and LAE 1,398,953 1,079,219 878,241
---------- ---------- ----------
Paid related to:
Current year 302,664 387,100 318,673
Prior years 841,648 675,620 673,429
---------- ---------- ----------
Total paid losses and LAE 1,144,312 1,062,720 992,102
---------- ---------- ----------
Net balance at December 31 3,076,491 2,821,850 2,805,351
Plus reinsurance recoverables 1,798,734 1,452,485 980,396
---------- ---------- ----------
Balance at December 31 $4,875,225 $4,274,335 $3,785,747
========== ========== ==========
Prior year incurred losses increased by $119.2 million, $5.2 million and $7.8
million in 2002, 2001 and 2000, respectively. The increase in 2002 was the
result of modest reserve strengthening in select areas, most notably in
directors and officers, surety and workers' compensation lines, and with respect
to asbestos exposures, while the increase in 2000 was the result of normal
reserve development inherent in the uncertainty in establishing loss and LAE
reserves, as well as the impact of foreign exchange rate fluctuations on loss
reserves for both periods.
The Company continues to receive claims under expired contracts which assert
alleged injuries and/or damages relating to or resulting from environmental
pollution and hazardous substances, including asbestos. The Company's asbestos
claims typically involve potential liability for bodily injury from exposure to
asbestos or for property damage resulting from asbestos or products containing
asbestos. The Company's environmental claims typically involve potential
liability for (a) the mitigation or remediation of environmental contamination
or (b) bodily injury or property damages caused by the release of hazardous
substances into the land, air or water.
The Company's reserves include an estimate of the Company's ultimate liability
for asbestos and environmental ("A&E") claims for which ultimate value cannot be
estimated using traditional reserving techniques. There are significant
uncertainties in estimating the amount of the Company's potential losses from
asbestos and environmental claims. Among the complications are: (a) potentially
long waiting periods between exposure and manifestation of any bodily injury or
property damage; (b) difficulty in identifying sources of asbestos or
environmental contamination; (c) difficulty in properly allocating
responsibility and/or liability for asbestos or environmental damage; (d)
changes in underlying laws and judicial interpretation of those laws; (e)
F-15
potential for an asbestos or environmental claim to involve many insurance
providers over many policy periods; (f) long reporting delays, both from
insureds to insurance companies and ceding companies to reinsurers; (g)
historical data on asbestos and environmental losses, which is more limited and
variable than historical information on other types of casualty claims; (h)
questions concerning interpretation and application of insurance and reinsurance
coverage; and (i) uncertainty regarding the number and identity of insureds with
potential asbestos or environmental exposure.
With respect to asbestos claims in particular, several additional factors have
emerged recently that further compound the difficulty in estimating the
Company's liability. These developments include: (a) continued growth in the
number of claims filed, in part reflecting a much more aggressive plaintiff bar;
(b) a disproportionate percentage of claims filed by individuals with no
functional injury from asbestos, claims with little to no financial value but
that have increasingly been considered in jury verdicts and settlements; (c) the
growth in the number and significance of bankruptcy filings by companies as a
result of asbestos claims; (d) the growth in claim filings against defendants
formerly regarded as "peripheral"; (e) the concentration of claims in a small
number of states that favor plaintiffs; (f) the growth in the number of claims
that might impact the general liability portion of insurance policies rather
than the product liability portion; (g) responses in which specific courts have
adopted measures to ameliorate the worst procedural abuses; and (h) the
potential that the U. S. Congress and state legislatures may consider
legislation to address the asbestos litigation issue.
Management believes that these uncertainties and factors continue to render
reserves for A&E losses significantly less subject to traditional actuarial
analysis than are reserves for other types of losses. Given these uncertainties,
management believes that no meaningful range for such ultimate losses can be
established. The Company establishes reserves to the extent that, in the
judgment of management, the facts and prevailing law reflect an exposure for the
Company or its ceding companies. In connection with the acquisition of Mt.
McKinley, which has significant exposure to asbestos and environmental claims,
Prupac, a subsidiary of The Prudential, provided reinsurance to Mt. McKinley
covering 80% ($160.0 million) of the first $200.0 million of any adverse
development of Mt. McKinley's reserves as of September 19, 2000 and The
Prudential guaranteed Prupac's obligations to Mt. McKinley. Through December 31,
2002, cessions under this reinsurance agreement have reduced the available
remaining limits to $81.1 million net of coinsurance. Due to the uncertainties
discussed above, the ultimate losses may vary materially from current loss
reserves and, depending on coverage under the Company's various reinsurance
arrangements, could have a material adverse effect on the Company's future
financial condition, results of operations and cash flows.
F-16
The following table shows the development of prior year asbestos and
environmental reserves on both a gross and net of retrocessional basis for the
years ended December 31, 2002, 2001 and 2000:
(dollar values in thousands) 2002 2001 2000
---------------------------------------
Gross basis
Beginning of reserves $644,390 $693,704 $614,236
Incurred losses 95,004 29,674 (5,852)
Paid losses (71,472) (78,988) 85,320
-------- -------- --------
End of period reserves $667,922 $644,390 $693,704
======== ======== ========
Net basis
Beginning of reserves $276,169 $317,196 $365,069
Incurred losses 6,167 - (5,645)
Paid losses (39,179) (41,027) (42,228)
-------- -------- --------
End of period reserves $243,157 $276,169 $317,196
======== ======== ========
At December 31, 2002, the gross reserves for asbestos and environmental losses
were comprised of $112.5 million representing case reserves reported by ceding
companies, $55.5 million representing additional case reserves established by
the Company on assumed reinsurance claims, $262.1 million representing case
reserves established by the Company on direct excess insurance claims, including
Mt. McKinley, and $237.8 million representing IBNR reserves.
4. CREDIT LINE
On December 21, 1999, the Company entered into a three-year senior revolving
credit facility with a syndicate of lenders (the "Credit Facility"). On November
21, 2002, the maturity date of the Credit Facility was extended to December 19,
2003. Wachovia Bank, National Association (formerly First Union National Bank)
is the administrative agent for the Credit Facility. The Credit Facility will be
used for liquidity and general corporate purposes. The Credit Facility provides
for the borrowing of up to $150.0 million with interest at a rate selected by
the Company equal to either (1) the Base Rate (as defined below) or (2) an
adjusted London InterBank Offered Rate ("LIBOR") plus a margin. The Base Rate is
the higher of the rate of interest established by Wachovia Bank from time to
time as its prime rate or the Federal Funds rate plus 0.5% per annum. On
December 18, 2000, the Credit Facility was amended to extend the borrowing limit
to $235.0 million for a period of 120 days, at which time the limit reverts back
to $150.0 million. The amount of margin and the fees payable for the Credit
Facility depend upon the Company's senior unsecured debt. Group has guaranteed
all of the Company's obligations under the Credit Facility.
The Credit Facility agreement requires Group to maintain a debt to capital ratio
of not greater than 0.35 to 1, Holdings to maintain a minimum interest coverage
ratio of 2.5 to 1 and Everest Re to maintain statutory surplus at $850.0 million
plus 25% of future aggregate net income and 25% of future aggregate capital
contributions.
As of December 31, 2002 and 2001, the Company had outstanding borrowings of
$70.0 million and $105.0 million, respectively. Interest expense incurred in
connection with these borrowings was $3.5 million, $7.1 million and $8.5 million
for the years ending December 31, 2002, 2001 and 2000, respectively.
F-17
5. SENIOR NOTES
On March 14, 2000, the Company completed public offerings of $200.0 million
principal amount of 8.75% senior notes due March 15, 2010 and $250.0 million
principal amount of 8.5% senior notes due March 15, 2005. During 2000, the net
proceeds of these offerings and additional funds were distributed by the Company
to Group. Interest expense incurred in connection with these senior notes was
$38.9 million, $38.9 million and $30.9 million for the years ending December 31,
2002, 2001, and 2000, respectively.
6. TRUST PREFERRED SECURITIES
In November 2002, pursuant to a trust agreement between the Company and JPMorgan
Chase Bank, the property trustee, and Chase Manhattan Bank USA, the Delaware
trustee, Capital Trust completed a public offering of $210.0 million of 7.85%
trust preferred securities, resulting in net proceeds of $203.4 million. The
proceeds of the issuance were used to purchase $210 million of 7.85% junior
subordinated debt securities of the Company that will be held in trust by the
property trustee for the benefit of the holders of the trust preferred
securities. The Company used the proceeds from the sale of the junior
subordinated debt for general corporate purposes and made capital contributions
to its operating subsidiaries.
Capital Trust will redeem all of the outstanding trust preferred securities when
the junior subordinated debt securities are paid at maturity on November 15,
2032. The Company may elect to redeem the junior subordinated debt securities,
in whole or in part, at any time after November 14, 2007. If such an early
redemption occurs, the outstanding trust preferred securities will also be
proportionately redeemed.
Distributions on the trust preferred securities will be cumulative and pay
quarterly in arrears. Distributions relating to the trust preferred securities
for the year ended December 31, 2002 were $2.1 million.
7. LETTERS OF CREDIT
The Company has arrangements available for the issue of letters of credit, which
letters are generally collateralized by the Company's cash and investments. At
December 31, 2002, $67.1 million of letters of credit were issued and
outstanding under these arrangements, generally supporting reinsurance provided
by the Company's non-U.S. operations. The following table summarizes the
Company's letters of credit as of December 31, 2002. All dollar amounts are in
the thousands.
Year of
Bank Commitment In Use Expiry
- --------------------------------------------------------------------------------
Citibank (London) Individual $ 3,208 1/28/2005
$ 1,272 12/31/2005
$ 62,641 12/31/2006
F-18
8. OPERATING LEASE AGREEMENTS
The future minimum rental commitments, exclusive of cost escalation clauses, at
December 31, 2001 for all of the Company's operating leases with remaining
non-cancelable terms in excess of one year are as follows:
---------------------------
(dollar values in thousands)
---------------------------
2003 $ 5,274
2004 5,201
2005 4,710
2006 4,726
2007 4,581
Thereafter 15,043
---------------------------
Net commitments $39,535
===========================
All of these leases, the expiration terms of which range from 2004 to 2013, are
for the rental of office space. Rental expense, net of sublease rental income,
was $6.5 million, $5.6 million and $4.4 million for 2002, 2001 and 2000,
respectively.
9. INCOME TAXES
The components of income taxes for the periods presented are as follows:
Years Ended December 31,
-------------------------------------
(dollar values in thousands) 2002 2001 2000
-------------------------------------
Current tax:
U.S. $12,069 $ (529) $61,401
Foreign 12,193 5,912 (289)
------- ------- -------
Total current tax 24,262 5,383 61,112
Total deferred U.S. tax expense (benefit) 507 (14,568) (17,290)
------- ------- -------
Total income tax expense (benefit) $24,769 $(9,185) $43,822
======= ======= =======
A reconciliation of the U.S. federal income tax rate to the Company's effective
tax rate is as follows:
Years Ended December 31,
----------------------------------
2002 2001 2000
----------------------------------
Federal income tax rate 35.0% 35.0% 35.0%
Increase (reduction) in taxes resulting from:
Tax exempt income (18.6) (95.9) (14.7)
Other, net 1.3 29.3 1.4
---- ---- ----
Effective tax rate 17.7% (31.6%) 21.7%
==== ==== ====
Deferred income taxes reflect the tax effect of the temporary differences
between the value of assets and liabilities for financial statement purposes and
such values as measured by the U.S. tax laws and regulations. The principal
items making up the net deferred income tax asset are as follows:
F-19
December 31,
--------------------------
(dollar values in thousands) 2002 2001
--------------------------
Deferred tax assets:
Reserve for losses and loss adjustment expenses $ 184,963 $ 226,532
Unearned premium reserve 46,224 29,765
Foreign currency translation 4,965 6,848
Impairments 7,799 -
Deferred compensation 7,599 -
Capital loss carryforward 371 -
Foreign tax credit carryforwards 17,956 21,159
Other assets 22,832 -
--------- ---------
Total deferred tax assets 292,709 284,304
--------- ---------
Deferred tax liabilities:
Deferred acquisition costs 58,638 40,232
Investments 8,019 -
Net unrealized appreciation of investments 79,357 47,616
Other liabilities 2,319 17,980
--------- ---------
Total deferred tax liabilities 148,333 105,828
--------- ---------
Net deferred tax assets $ 144,376 $ 178,476
========= =========
Management believes that it is more likely than not that the Company will
realize the benefits of its net deferred tax assets and, accordingly, no
valuation allowance has been recorded for the periods presented.
Tax benefits of $0.7 million and $3.4 million related to compensation expense
deductions for stock options exercised in 2002 and 2001, respectively, are
reflected in the change in shareholders' equity in "additional paid in capital".
10. REINSURANCE
The Company utilizes reinsurance agreements to reduce its exposure to large
claims and catastrophic loss occurrences. These agreements provide for recovery
from reinsurers of a portion of losses and loss expenses under certain
circumstances without relieving the insurer of its obligation to the
policyholder. Losses and LAE incurred and earned premiums are after deduction
for reinsurance. In the event reinsurers were unable to meet their obligations
under reinsurance agreements, the Company would not be able to realize the full
value of the reinsurance recoverable balances. The Company may hold partial
collateral, including letters of credit and funds held, under these agreements.
See also Note 1C.
The Company considers the purchase of corporate level retrocessions covering the
potential accumulation of all exposures. For 1999, the Company purchased an
accident year aggregate excess of loss retrocession agreement which provided up
to $175.0 million of coverage if Everest Re's consolidated statutory basis
accident year loss ratio exceeded a loss ratio attachment point provided in the
contract for the 1999 accident year. During 2000 and 2001, the Company ceded
$70.0 million and $105.0 million of losses, respectively, to this cover,
reducing the limit available under the contract to $0.0 million. For 2000, the
Company purchased an accident year aggregate excess of loss retrocession
F-20
agreement which provided up to $175.0 million of coverage if Everest Re's
consolidated statutory basis accident year loss ratio exceeded a loss ration
attachment point provided in the contract for the 2000 accident year. During
2002, the Company ceded $90.0 million of losses to this cover, reducing the
limit available under the contract to $85.0 million. For 2001, the Company
purchased an accident year aggregate excess of loss retrocession agreement which
provided up to $175.0 million of coverage if Everest Re's consolidated statutory
basis accident year loss ratio exceeded a loss ratio attachment point provided
in the contract for the 2001 accident year. During 2001 and 2002, the Company
ceded $164.0 million and $11.0 million of losses, respectively, to this cover,
reducing the limit available under the contract to $0.0 million.
In addition, the Company has coverage under an aggregate excess of loss
reinsurance agreement provided by Prupac, a wholly-owned subsidiary of The
Prudential, in connection with the Company's acquisition of Mt. McKinley in
September 2000. This agreement covers 80% or $160 million of the first $200
million of any adverse loss reserve development on the carried reserves of Mt.
McKinley at the date of acquisition and reimburses the Company as such losses
are paid by the Company. There were $78.9 million of cessions under this
reinsurance at December 31, 2002, reducing the limit available under the
contract to $81.1 million.
In connection with the Mt. McKinley acquisition, Prupac also provided excess of
loss reinsurance for 100% of the first $8.5 million of loss with respect to
certain of Mt. McKinley's retrocessions and potentially uncollectible
reinsurance coverage. There were $0.0 million and $3.6 million of cessions under
this reinsurance during the periods ending December 31, 2002 and 2001,
respectively, reducing the limit available under the contract to $2.4 million.
Effective January 1, 2002, Everest Re and Bermuda Re entered into a Quota Share
Reinsurance Agreement, for what management believes to be arm's-length
consideration, whereby Everest Re cedes 20% of the net retained liability on all
new and renewal policies written during the term of this agreement. Effective
January 1, 2002, Everest Re, Everest National Insurance Company and Everest
Security Insurance Company entered into an Excess of Loss Reinsurance Agreement
with Bermuda Re, for what management believes to be arm's-length consideration,
covering workers' compensation losses occurring on and after January 1, 2002, as
respects new, renewal and in force policies effective on that date. Bermuda Re
is liable for any loss exceeding $100,000 per occurrence, with its liability not
to exceed $150,000 per occurrence.
Effective October 1, 2001, Everest Re and Bermuda Re entered into a loss
portfolio transfer reinsurance agreement which are accounted for on a
retroactive basis, whereby Everest Re transferred, for what management believes
to be arm's-length consideration, its Belgium branches' net insurance exposures
and reserves, including allocated and unallocated loss adjustment expenses to
Bermuda Re.
Effective September 19, 2000, Mt. McKinley and Bermuda Re entered into a loss
portfolio transfer reinsurance agreement which are accounted for on a
retroactive basis, whereby Mt. McKinley transferred, for what management
believes to be arm's-length consideration, all of its net insurance exposures
and reserves, including allocated and unallocated loss adjustment expenses to
Bermuda Re.
F-21
The following table summarizes the premiums and losses ceded by the Company to
Bermuda Re:
Years Ended December 31,
-------------------------------------------
(dollar values in thousands) 2002 2001 2000
-------------------------------------------
Ceded written premium $381,071 $123,229 $484,810
Ceded earned premium 283,786 122,310 484,810
Ceded losses and LAE $207,233 $123,886 $479,392
Written and earned premiums are comprised of the following:
Years Ended December 31,
---------------------------------------------
(dollar values in thousands) 2002 2001 2000
---------------------------------------------
Written premium
Direct $ 843,602 $ 438,837 $ 224,177
Assumed 1,911,820 1,410,963 1,149,848
Ceded (565,903) (432,872) (166,704)
---------- ---------- ----------
Net written premium $2,189,519 $1,416,928 $1,207,321
========== ========== ==========
Earned premium
Direct $ 667,151 $ 380,178 $ 138,982
Assumed 1,754,717 1,396,211 1,145,142
Ceded (464,522) (442,888) (121,527)
---------- ---------- ----------
Net earned premium $1,957,346 $1,333,501 $1,162,597
========== ========== ==========
The amounts deducted from losses and LAE incurred for net reinsurance recoveries
were $486.1 million, $619.4 million and $173.1 million for the years ended
December 31, 2002, 2001 and 2000, respectively.
As of December 31, 2002, the Company carried as an asset $1,840.1 million in
reinsurance receivables with respect to losses ceded. Of this amount, $735.2
million, or 40.0%, was receivable from Bermuda Re, $440.0 million, or 23.9%, was
receivable from subsidiaries of London Reinsurance Group ("London Life") and
$145.0 million, or 7.9%, was receivable from Continental Insurance Company
("Continental"). As of December 31, 2001, the Company carried as an asset
$1,471.4 million in reinsurance receivables with respect to losses ceded. Of
this amount, $584.6 million, or 39.7%, was receivable from Bermuda Re, $339.0
million, or 23.0%, was receivable from subsidiaries of London Life and $145.0
million, or 9.9%, was receivable from Continental. No other retrocessionaire
accounted for more than 5% of the Company's receivables. See also Note 3.
The Company's arrangements with Bermuda Re are secured through the use of trust
agreements. The Company's arrangements with London Life and Continental are
managed on a funds held basis, which means that the Company has not released
premium payments to the retrocessionaire but rather retains such payments to
secure obligations of the retrocessionaire, records them as a liability, credits
interest on the balances and reduces the liability account as payments become
due. As of December 31, 2002, such funds had reduced the Company's net exposure
to London Life to $190.2 million, effectively 100% of which has been secured by
letters of credit, and its exposure to Continental to $60.9 million. As of
December 31, 2001, such funds had reduced the Company's net exposure to London
F-22
Life to $158.9 million, 100% of which has been secured by letters of credit and
its exposure to Continental to $67.9 million.
11. COMPREHENSIVE INCOME
The components of comprehensive income for the periods ending December 31, 2002,
2001 and 2000 are shown in the following table:
(dollar values in thousands) 2002 2001 2000
---------------------------------------------
Net income $115,103 $38,250 $158,495
-------- ------- --------
Other comprehensive income, before tax:
Foreign currency translation adjustments 5,145 (6,228) (2,201)
Unrealized gains on securities arising during
the period 39,521 20,112 115,488
Less: reclassification adjustment for
realized losses (gains) included in net
income 53,127 15,745 (291)
-------- ------- --------
Other comprehensive income, before tax
97,793 29,629 112,996
-------- ------- --------
Income tax expense (benefit) related to items
of other comprehensive income:
Tax expense (benefit) from foreign
currency translation 1,883 (2,179) (771)
Tax expense from unrealized
gains arising during period 13,832 7,041 40,421
Tax (benefit) expense from realized (losses) gains
included in net income (18,595) (5,511) 102
-------- ------- --------
Income tax expense related to
items of other comprehensive income: 34,310 10,373 39,548
Other comprehensive income, net of tax 63,483 19,256 73,448
-------- ------- --------
Comprehensive income $178,586 $57,506 $231,943
======== ======= ========
F-23
The following table shows the components of the change in accumulated other
comprehensive income for the years ending December 31, 2002 and 2001.
(dollar values in thousands) 2002 2001
--------------------------------------------------------
Beginning balance of accumulated other
comprehensive income $ 76,003 $56,747
-------- -------
Beginning balance of foreign currency
translation adjustments $ (12,482) $ (8,433)
Current period change in foreign currency
translation adjustments 3,262 3,262 (4,049) (4,049)
--------- -------- -------- -------
Ending balance of foreign currency
translation adjustments (9,220) (12,482)
--------- --------
Beginning balance of unrealized gains on
securities 88,485 65,180
Current period change in unrealized gains
on securities 60,221 60,221 23,305 23,305
--------- -------- -------- -------
Ending balance of unrealized gains on
securities 148,706 88,485
--------- --------
Current period change in accumulated
other comprehensive income 63,483 19,256
-------- -------
Ending balance of accumulated other
comprehensive income $139,486 $76,003
======== =======
12. EMPLOYEE BENEFIT PLANS
A. DEFINED BENEFIT PENSION PLANS
The Company maintains both qualified and non-qualified defined benefit pension
plans for its U.S. employees. Generally, the Company computes the benefits based
on average earnings over a period prescribed by the plans and credited length of
service. The Company has not been required to fund contributions to its
qualified defined benefit pension plan for the years ended December 31, 2001 and
2000 because the Company's qualified plan was subject to the full funding
limitation under the Internal Revenue Service guidelines. The Company's
non-qualified defined benefit pension plan, effected in October 1995, provides
compensating pension benefits for participants whose benefits have been
curtailed under the qualified plan due to Internal Revenue Code limitations.
Although not required under Internal Revenue Service guidelines, the Company
contributed $3.2 million and $2.0 million to the qualified, and non-qualified
plans respectively in 2002. The change in the accumulated pension benefit
obligation reflects the net effect of amendments made to the plans during 2002
and 2001. Pension expense for the Company's plans for the years ended December
31, 2002, 2001 and 2000 were $3.5 million, $1.6 million and $1.0 million,
respectively.
F-24
The following table summarizes the status of these plans:
Years Ended December 31,
-----------------------
(dollar values in thousands) 2002 2001
-----------------------
Change in projected benefit obligation:
Benefit obligation at beginning of year $31,402 $24,572
Service cost 1,877 1,398
Interest cost 2,376 1,921
Change in accumulated benefit obligation 784 36
Actuarial gain 3,666 3,786
Benefits paid (309) (311)
------- -------
Benefit obligation at end of year 39,796 31,402
------- -------
Change in plan assets:
Fair value of plan assets at beginning of year 20,868 20,200
Actual return on plan assets (2,387) (250)
Actual contributions during the year 5,172 1,229
Benefits paid (309) (311)
------- -------
Fair value of plan assets at end of year 23,344 20,868
------- -------
Funded status (16,453) (10,534)
Unrecognized prior service cost 811 924
Unrecognized net loss 11,738 4,099
------- -------
(Accrued) pension cost $(3,904) $(5,511)
======= =======
Plan assets are comprised of shares in investment trusts with approximately 77%
and 23% of the underlying assets consisting of equity securities and fixed
maturities, respectively.
Net periodic pension cost included the following components:
Years Ended December 31,
-------------------------------------
(dollar values in thousands) 2002 2001 2000
-------------------------------------
Service cost $1,877 $1,397 $1,351
Interest cost 2,376 1,921 1,628
Expected return on assets (1,861) (1,905) (1,915)
Amortization of net loss (gain) from earlier periods 275 21 (225)
Amortization of unrecognized prior service cost 898 148 147
------ ------ ------
Net periodic pension cost $3,565 $1,582 $ 986
====== ====== ======
The weighted average discount rates used to determine the actuarial present
value of the projected benefit obligation for 2002, 2001 and 2000 are 6.75%,
7.0% and 7.5%, respectively. The rate of compensation increase used to determine
the actuarial present value of the projected benefit obligation for 2002, 2001
and 2000 is 4.50%. The expected long-term rate of return on plan assets for
2002, 2001 and 2000 is 9.0%.
The Company also maintains both qualified and non-qualified defined contribution
plans ("Savings Plan" and "Non-Qualified Savings Plan", respectively) covering
U.S. employees. Under the plans, the Company contributes up to a maximum 3% of
F-25
the participants' compensation based on the contribution percentage of the
employee. The Non-Qualified Savings Plan provides compensating savings plan
benefits for participants whose benefits have been curtailed under the Savings
Plan due to Internal Revenue Code limitations. The Company's incurred expenses
related to these plans were $0.7 million, $0.6 million and $0.6 million for
2002, 2001 and 2000, respectively.
In addition, the Company maintains several defined contribution pension plans
covering non-U.S. employees. Each non-U.S. office (Canada, London, Belgium, Hong
Kong and Singapore) maintains a separate plan for the non-U.S. employees working
in that location. The Company contributes various amounts based on salary, age,
and/or years of service. The contributions as a percentage of salary for the
branch offices range from 2% to 12%. The contributions are generally used to
purchase pension benefits from local insurance providers. The Company's incurred
expenses related to these plans were $0.4 million, $0.4 million and $0.3 million
for 2002, 2001 and 2000, respectively.
B. POST-RETIREMENT PLAN
Beginning January 1, 2002, the Company established the Retiree Health Plan. This
plan provides health care benefits for eligible retired employees (and their
eligible dependants), who have elected coverage to traditional formula. The
Company currently anticipates that most covered employees will become eligible
for these benefits if they retire while working for the Company. The cost of
these benefits is shared with the retiree. The Company accrues the
postretirement benefit expense during the period of the employee's service.
A health care inflation rate of 9.0% in 2002, was assumed to change to 8.0% in
2003; and then decrease one percentage point annually to 5.0% in 2006; and then
remain at that level.
Changes in the assumed health care cost trend can have a significant effect on
the amounts reported for the health care plans. A one percent change in the rate
would have the following effects on:
Percentage Percentage
(Dollars in thousands) Point Increase Point Decrease
-----------------------------------------
a. Effect on total service and
interest cost components $ 148 ($ 114)
b. Effect on accumulated
postretirement $ 952 ($ 745)
Pension expense for this plan for the year ended December 31, 2002 was $0.6
million.
F-26
The following table summarizes the status of these plans:
Years Ended December 31,
------------------------
(dollar values in thousands) 2002 2001
------------------------
Change in projected benefit obligation:
Benefit obligation at beginning of year $ - $ -
Accrual for Retiree Health Plan 3,888 -
Service cost 327
Interest cost 294 -
Actuarial gain (208) -
Benefits paid (29) -
------- ------
Benefit obligation at end of year 4,272 -
------- ------
Funded status (4,271) -
Unrecognized net loss (208) -
------- ------
(Accrued) cost $(4,479) $ -
======= ======
Net periodic cost included the following components:
Years Ended December 31,
------------------------------------
(dollar values in thousands) 2002 2001 2000
------------------------------------
Service cost $ 327 $ - $ -
Interest cost 294 - -
------- ---- ----
Net periodic cost $ 621 $ - $ -
======= ==== ====
13. DIVIDEND RESTRICTIONS AND STATUTORY FINANCIAL INFORMATION
A. DIVIDEND RESTRICTIONS
Delaware law provides that an insurance company which is either an insurance
holding company or a member of an insurance holding system and is domiciled in
the state shall not pay dividends without giving prior notice to the Insurance
Commissioner of Delaware and may not pay dividends without the approval of the
Insurance Commissioner if the value of the proposed dividend, together with all
other dividends and distributions made in the preceding twelve months, exceeds
the greater of (1) 10% of statutory surplus or (2) net income, not including
realized capital gains, each as reported in the prior year's statutory annual
statement. In addition, no dividend may be paid in excess of unassigned earned
surplus. At December 31, 2002, Everest Re had $149.4 million available for
payment of dividends in 2003 without prior regulatory approval.
B. STATUTORY FINANCIAL INFORMATION
Everest Re prepares its statutory financial statements in accordance with
accounting practices prescribed or permitted by the National Association of
Insurance Commissioners ("NAIC") and the Delaware Insurance Department.
Prescribed statutory accounting practices are set forth in the NAIC Accounting
Practices and Procedures Manual. The capital and statutory surplus of Everest Re
was $1,494.0 million (unaudited) and $1,293.8 million at December 31, 2002 and
F-27
2001, respectively. The statutory net income of Everest Re was $77.6 million
(unaudited), $78.9 million and $165.3 million for the years ended December 31,
2002, 2001 and 2000, respectively.
C. CODIFICATION
The Company's operating subsidiaries file statutory-basis financial statements
with the state departments of insurance in the states in which the subsidiary is
licensed. On January 1, 2001, significant changes to the statutory-basis of
accounting became effective. The cumulative effect of these changes has been
recorded as a direct adjustment to statutory surplus. The cumulative effect of
these changes in 2001 increased Everest Re's statutory surplus by $57.1 million.
14. CONTINGENCIES
In the ordinary course of business, the Company is involved in lawsuits,
arbitrations and other formal and informal dispute resolution procedures, the
outcomes of which will determine the Company's rights and obligations under
insurance and reinsurance agreements and other more general contracts. In some
disputes, the Company seeks to enforce its rights under an agreement or to
collect funds owing to it. In other matters, the Company is resisting attempts
by others to collect funds or enforce alleged rights. Such disputes are resolved
through formal and informal means, including litigation and arbitration.
In all such matters, the Company believes that its positions are legally and
commercially reasonable. The Company also regularly evaluates those positions,
and where appropriate, establishes or adjusts insurance reserves to reflect the
results of its evaluation. The Company's aggregate reserves take into account
the possibility that the Company may not ultimately prevail in each and every
disputed matter. The Company believes its aggregate reserves reduce the
potential that an adverse resolution of one or more of these matters, at any
point in time, would have a material impact on the Company's financial condition
or results of operations. However, there can be no assurances that adverse
resolutions of such matters in any one period or in the aggregate will not
result in a material adverse effect on the Company's results of operations.
The Company does not believe that there are any other material pending legal
proceedings to which it or any of its subsidiaries or their properties are
subject.
The Prudential sells annuities which are purchased by property and casualty
insurance companies to settle certain types of claim liabilities. In 1993 and
prior years, the Company, for a fee, accepted the claim payment obligation of
these property and casualty insurers, and, concurrently, became the owner of the
annuity or assignee of the annuity proceeds. In these circumstances, the Company
would be liable if The Prudential were unable to make the annuity payments. The
estimated cost to replace all such annuities for which the Company was
contingently liable at December 31, 2002 and 2001 was $150.5 million and $147.1
million respectively.
The Company has purchased annuities from an unaffiliated life insurance company
with an A+ (Superior) rating from A.M. Best to settle certain claim liabilities
of the Company. Should the life insurance company become unable to make the
annuity payments, the Company would be liable for those claim liabilities. The
estimated cost to replace such annuities at December 31, 2002 and 2001 was $14.8
million and $13.7 million, respectively.
F-28
15. RELATED-PARTY TRANSACTIONS
During the normal course of business, the Company, through its affiliates,
engages in what mangement believes to be arm's-length reinsurance and brokerage
and commission business transactions with companies controlled or affiliated
with its outside directors. These transactions are immaterial to the Company's
financial condition, results of operations and cash flows.
The Company engages in business transactions with Group and Bermuda Re. See also
Note 10.
16. SEGMENT REPORTING
The Company, through its subsidiaries, operates in four segments: U.S.
Reinsurance, U.S. Insurance, Specialty Underwriting and International. The U.S.
Reinsurance operation writes property and casualty treaty reinsurance through
reinsurance brokers as well as directly with ceding companies within the United
States, in addition to property, casualty and specialty facultative reinsurance
through brokers and directly with ceding companies within the United States. The
U.S. Insurance operation writes property and casualty insurance primarily
through general agent relationships and surplus lines brokers within the United
States. The Specialty Underwriting operation writes accident and health, marine,
aviation and surety business within the United States and worldwide through
brokers and directly with ceding companies. The International operation writes
property and casualty reinsurance through the Company's branches in London,
Canada, and Singapore, in addition to foreign business written through the
Company's New Jersey headquarters and Miami office.
These segments are managed in a carefully coordinated fashion with strong
elements of central control, including with respect to capital, investments and
support operations. As a result, management monitors and evaluates the financial
performance of these operating segments based upon their underwriting gain or
loss ("underwriting results"). Underwriting results include earned premium less
losses and LAE incurred, commission and brokerage expenses and other
underwriting expenses. The accounting policies of the operating segments are the
same as those described in Note 1K, Summary of Significant Accounting Policies.
The Company does not maintain separate balance sheet data for its operating
segments. Accordingly, the Company does not review and evaluate the financial
results of its operating segments based upon balance sheet data.
F-29
The following tables present the relevant underwriting results for the operating
segments for the three years ended December 31, 2002, 2001 and 2000.
U.S. REINSURANCE
- --------------------------------------------------------------------------------
(dollar values in thousands) 2002 2001 2000
------------------------------------------
Earned premiums $ 658,131 $ 497,600 $ 471,631
Incurred losses and loss adjustment
expenses 501,000 449,635 317,735
Commission and brokerage 163,808 148,807 78,978
Other underwriting expenses 18,876 15,211 17,039
--------- ---------- ---------
Underwriting (loss) gain $ (25,553) $ (116,053) $ 57,879
========= ========== =========
U.S. INSURANCE
- --------------------------------------------------------------------------------
(dollar values in thousands) 2002 2001 2000
------------------------------------------
Earned premiums $ 465,719 $ 294,225 $ 101,576
Incurred losses and loss adjustment
expenses 345,326 211,311 70,277
Commission and brokerage 111,562 63,512 25,487
Other underwriting expenses 25,802 19,185 11,646
--------- ---------- ---------
Underwriting (loss) gain $ (16,971) $ 217 $ (5,834)
========= ========== =========
SPECIALTY UNDERWRITING
- --------------------------------------------------------------------------------
(dollar values in thousands) 2002 2001 2000
------------------------------------------
Earned premiums $ 424,666 $ 371,805 $ 302,637
Incurred losses and loss adjustment
expenses 291,772 330,841 254,302
Commission and brokerage 120,440 102,144 81,794
Other underwriting expenses 6,363 5,688 6,253
--------- ---------- ---------
Underwriting gain (loss) $ 6,091 $ (66,868) $ (39,712)
========= ========== =========
INTERNATIONAL
- --------------------------------------------------------------------------------
(dollar values in thousands) 2002 2001 2000
------------------------------------------
Earned premiums $ 408,830 $ 169,871 $ 286,753
Incurred losses and loss adjustment
expenses 260,855 87,432 235,927
Commission and brokerage 92,625 79,182 81,151
Other underwriting expenses 13,196 13,829 13,798
--------- --------- ---------
Underwriting gain (loss) $ 42,154 $ (10,572) $ (44,123)
========= ========= =========
F-30
The following table reconciles the underwriting results for the operating
segments to income before tax as reported in the consolidated statements of
operations and comprehensive income:
(dollar values in thousands) 2002 2001 2000
-----------------------------------------------
Underwriting gain (loss) $ 5,721 $(193,276) $(31,790)
Net investment income 257,922 265,924 271,389
Realized (loss) gain (53,127) (15,745) 291
Net derivative (expense) (3,466) (7,020) -
Corporate expenses (823) (1,379) (1,528)
Distributions related to trust
preferred securities (2,091) - -
Interest expense (42,417) (46,004) (39,386)
Other (expense) income (21,847) 26,565 3,341
-------- --------- --------
Income before taxes $139,872 $ 29,065 $202,317
======== ========= ========
The Company produces business in its United States and international operations.
The net income and assets of the individual foreign countries in which the
Company writes business are not identifiable in the Company's financial records.
The largest country, other than the United States, in which the Company writes
business is the United Kingdom, with $188.5 million for the year ended December
31, 2002. No other country represented more than 5% of the Company's revenues.
Approximately 16.5%, 13.6% and 12.9% of the Company's gross premiums written in
2002, 2001 and 2000, respectively, were sourced through the Company's largest
intermediary.
F-31
17. UNAUDITED QUARTERLY FINANCIAL DATA
Summarized quarterly financial data were as follows:
(dollar values in thousands)
1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter
-----------------------------------------------------
2002 OPERATING DATA:
Gross written premium $590,884 $626,636 $693,456 $844,446
Net written premium 514,095 519,367 523,559 632,498
Earned premium 458,118 451,607 456,387 591,234
Net investment income 64,799 65,472 64,402 63,249
Net realized capital gain (loss) 1,039 (39,909) (7,074) (7,183)
Total claims and underwriting expenses 453,701 439,083 453,284 606,380
Net income 46,315 22,548 34,803 11,437
======== ======== ======== ========
2001 OPERATING DATA:
Gross written premium $418,929 $480,873 $486,275 $463,720
Net written premium 386,825 415,031 363,170 251,902
Earned premium 327,992 389,382 343,022 273,105
Net investment income 67,362 68,747 65,316 64,499
Net realized capital (loss) gain (4,789) 4,084 (991) (14,049)
Total claims and underwriting expenses 336,299 399,617 482,595 309,645
Net income (loss) 33,591 39,762 (53,082) 17,979
======== ======== ======== ========
F-32
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE I - SUMMARY OF INVESTMENTS -
OTHER THAN INVESTMENTS IN RELATED PARTIES
DECEMBER 31, 2002
(Dollars in thousands)
COLUMN A COLUMN B COLUMN C COLUMN D
- --------------------------------------------------- ----------- ----------- -----------
AMOUNT
SHOWN IN
MARKET BALANCE
COST VALUE SHEET
----------- ----------- -----------
Fixed maturities-available for sale
Bonds:
U.S. government and government agencies $ 344,957 $ 354,029 $ 354,029
State, municipalities and political subdivisions 2,520,597 2,662,578 2,662,578
Foreign government securities 249,055 271,792 271,792
Foreign corporate securities 199,392 211,159 211,159
Public utilities 97,983 102,829 102,829
All other corporate bonds 741,778 759,322 759,322
Mortgage pass-through securities 376,251 401,376 401,376
Redeemable preferred stock 39,831 42,891 42,891
----------- ----------- -----------
Total fixed maturities-available for sale 4,569,844 4,805,976 4,805,976
Equity securities 79,791 72,468 72,468
Short-term investments 130,075 130,075 130,075
Other invested assets 42,338 42,307 42,307
Cash 116,843 116,843 116,843
----------- ----------- -----------
Total investments and cash $ 4,938,891 $ 5,167,669 $ 5,167,669
=========== =========== ===========
S-1
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
CONDENSED BALANCE SHEET
(Dollars in thousands, except par value per share)
December 31, December 31,
----------- -----------
2002 2001
----------- -----------
ASSETS
Equity securities, at market value (cost: 2002, $22,950; 2001, $55) $ 24,996 $ 141
Short-term investments 16,466 711
Cash 384 74
Investment in subsidiaries, at equity in the underlying net assets 1,983,592 1,667,808
Receivable from affliate 126 (2,153)
Deferred tax asset (607) 15,165
Accrued investment income 65 2
Other assets 8,955 2,617
----------- -----------
Total assets $ 2,033,977 $ 1,684,365
=========== ===========
LIABILITIES
8.5% Senior notes due 3/15/2005 $ 249,780 $ 249,694
8.75% Senior notes due 3/15/2010 199,158 199,077
Revolving credit facility 70,000 105,000
Current federal income taxes (6,758) (26,644)
Accrued interest on debt and borrowings 13,546 11,944
Due to affilitates 993 33,860
Other liabilities 34 25
Subordinated Debentures 216,496 -
----------- -----------
Total liabilities 743,249 572,956
----------- -----------
STOCKHOLDER'S EQUITY
Common stock, par value: $0.01; 200 million shares authorized;
1,000 issued in 2002 and 2001 - -
Paid-in capital 259,508 258,775
Accumulated other comprehensive income, net of deferred taxes
of $75.1 million in 2002 and $40.8 million in 2001 139,486 76,003
Retained earnings 891,734 776,631
----------- -----------
Total stockholder's equity 1,290,728 1,111,409
----------- -----------
Total liabilities and stockholder's equity $ 2,033,977 $ 1,684,365
=========== ===========
See notes to consolidated financial statements.
S-2
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
CONDENSED STATEMENT OF OPERATIONS
(Dollars in thousands)
For Years Ended December 31,
-----------------------------------------
2002 2001 2000
--------- -------- ---------
Net investment income $ 408 $ 241 $ 1,371
Net realized capital gain - 1 -
Other (expense) (2,241) (543) (416)
Equity in undistributed change in retained earnings of subsidiaries 137,645 68,027 184,191
--------- -------- ---------
Total revenues 135,812 67,726 185,146
--------- -------- ---------
EXPENSES
Interest expense 44,574 46,004 39,386
Other expenses 466 427 5
--------- -------- ---------
Income before taxes 90,772 21,295 145,755
Income tax (benefit) (24,331) (16,955) (12,740)
--------- -------- ---------
Net income $ 115,103 $ 38,250 $ 158,495
========= ======== =========
See notes to consolidated financial statements.
S-3
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
CONDENSED STATEMENT OF CASH FLOWS
(Dollars in thousands)
For Years Ended December 31,
------------------------------------------
2002 2001 2000
------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 115,103 $ 38,250 $ 158,495
Adjustments to reconcile net income to net cash provided
by operating activities:
Equity in undistributed change in retained earnings of subsidiaries (137,645) (68,027) (585,734)
(Decrease) increase in other liabilities (32,858) 32,085 (1,352)
Increase (decrease) in accrued interest on debt and borrowings 1,602 (268) 12,106
Decrease (increase) in deferred tax asset 34,972 (27,156) (12,709)
(Increase) decrease in other assets (6,401) 697 (2,881)
(Increase) decrease in receivable from affliates (2,279) (335) 568
Restructure adjustment - - (55)
Accrual of bond discount - (107) (877)
Amortization of underwriting discount on senior notes 167 152 112
Realized capital (gain) - (1) -
Non-cash compensation - - 109
--------- -------- ---------
NET CASH (USED IN) OPERATING ACTIVITIES (27,339) (24,710) (432,218)
--------- -------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Additional investment in subsidiaries, net of cash acquired (200,196) - 349,743
Cost of equity securities acquired (22,895) - (55)
Net (purchases) sales of short-term securities (15,755) 25,756 (25,482)
--------- -------- ---------
NET CASH (USED IN) PROVIDED BY INVESTING ACTIVITIES (238,846) 25,756 324,206
--------- -------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Borrowing on revolving credit line 45,000 22,000 176,000
Repayments on revolving credit line (80,000) (152,000) -
Proceeds from issuance of senior notes - - 448,507
Proceeds from issuance of subordinated debentures 216,496 - -
Acquisition of treasury stock net of reissuances - - (16,478)
Effect of restructuring - - (11,706)
Common stock issued during the period - - 2,288
Contribution from subsidiaries 85,000 129,000 198
Dividends paid to stockholders - - (495,000)
--------- -------- ---------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 266,496 (1,000) 103,809
--------- -------- ---------
Net increase in cash 311 46 (4,203)
Cash, begining of period 74 28 4,231
--------- -------- ---------
Cash, end of period $ 385 $ 74 $ 28
========= ======== =========
See notes to consolidated financial statements.
S-4
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION
(DOLLARS IN THOUSANDS)
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G COLUMN H COLUMN I COLUMN J
- ----------------- --------- ---------- --------- ---------- --------- ---------- --------- -------- ----------
RESERVE FOR INCURRED AMORTIZATION
DEFERRED LOSSES & LOSS UNEARNED NET LOSS AND LOSS OF DEFERRED OTHER NET
ACQUISITION ADJUSTMENT PREMIUM EARNED INVESTMENT ADJUSTMENT ACQUISITION OPERATING WRITTEN
GEOGRAPHIC AREA COSTS EXPENSES RESERVES PREMIUM INCOME EXPENSES COSTS EXPENSES PREMIUM
- ----------------- --------- ---------- --------- ---------- --------- ---------- --------- -------- ----------
DECEMBER 31, 2002
Domestic $ 133,824 $4,125,389 $ 702,970 $1,548,516 $ 229,990 $1,138,098 $ 395,810 $ 51,864 $1,653,600
International 27,626 749,836 106,843 408,830 27,932 260,855 92,625 13,196 535,919
--------- ---------- --------- ---------- --------- ---------- --------- -------- ----------
Total $ 161,450 $4,875,225 $ 809,813 $1,957,346 $ 257,922 $1,398,953 $ 488,435 $ 65,060 $2,189,519
========= ========== ========= ========== ========= ========== ========= ======== ==========
DECEMBER 31, 2001
Domestic $ 98,491 $3,641,323 $ 412,139 $1,163,630 $ 231,567 $ 991,787 $ 314,463 $ 41,463 $1,224,118
International 16,457 633,012 61,169 169,871 34,357 87,432 79,182 13,829 192,810
--------- ---------- --------- ---------- --------- ---------- --------- -------- ----------
Total $ 114,948 $4,274,335 $ 473,308 $1,333,501 $ 265,924 $1,079,219 $ 393,645 $ 55,292 $1,416,928
========= ========== ========= ========== ========= ========== ========= ======== ==========
DECEMBER 31, 2000
Domestic $ 875,844 $ 236,079 $ 642,314 $ 186,259 $ 36,466 $ 902,946
International 286,753 35,310 235,927 81,151 13,798 304,375
Total ---------- --------- ---------- --------- -------- ----------
$1,162,597 $ 271,389 $ 878,241 $ 267,410 $ 50,264 $1,207,321
========== ========= ========== ========= ======== ==========
S-5
EVEREST REINSURANCE HOLDINGS, INC.
SCHEDULE IV - REINSURANCE
(DOLLARS IN THOUSANDS)
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F
- ---------------------------- --------- --------- ----------- ----------- --------
GROSS CEDED TO ASSUMED FROM NET ASSUMED TO
AMOUNT OTHER COMPANIES OTHER COMPANIES AMOUNT NET
--------- --------- ----------- ----------- --------
DECEMBER 31, 2002
Total property and liability
insurance earned premium $ 667,151 $ 464,523 $ 1,754,718 $ 1,957,346 89.6%
DECEMBER 31, 2001
Total property and liability
insurance earned premium $ 380,178 $ 442,888 $ 1,396,211 $ 1,333,501 104.7%
DECEMBER 31, 2000
Total property and liability
insurance earned premium $ 138,982 $ 121,527 $ 1,145,142 $ 1,162,597 98.5%
S-6