SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended SEPTEMBER 30, 2001.
----------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-14697
-----------
HARLEYSVILLE GROUP INC.
---------------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 51-0241172
----------------------------- ------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
355 MAPLE AVENUE, HARLEYSVILLE, PENNSYLVANIA 19438-2297
--------------------------------------------------------------
(Address of principal executive offices, including zip code)
(215) 256-5000
--------------------------------
(Registrant's telephone number, including area code)
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 X. No.
---
At November 7, 2001, 29,411,198 shares of common stock of Harleysville
Group Inc. were outstanding.
Page 1
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
INDEX
PAGE NUMBER
------------
Part I - Financial Information
Consolidated Balance Sheets - September 30, 2001
and December 31, 2000 3
Consolidated Statements of Income - For the three
months ended September 30, 2001 and 2000 4
Consolidated Statements of Income - For the nine
months ended September 30, 2001 and 2000 5
Consolidated Statement of Shareholders' Equity -
For the nine months ended September 30, 2001 6
Consolidated Statements of Cash Flows - For the
nine months ended September 30, 2001 and 2000 7
Notes to Consolidated Financial Statements 8
Management's Discussion and Analysis of Results
of Operations and Financial Condition 15
Quantitative and Qualitative Disclosure About
Market Risk 19
Part II - Other Information 20
Page 2
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
SEPTEMBER 30, DECEMBER 31,
2001 2000
------------- -------------
(Unaudited)
ASSETS
- -------------------------------------------
Investments:
Fixed maturities:
Held to maturity, at amortized
cost (fair value $472,727
and $578,662) $ 446,127 $ 562,603
Available for sale, at fair value
(amortized cost $909,076
and $800,954) 957,257 818,891
Equity securities, at fair value
(cost $115,778 and $125,517) 146,696 193,750
Short-term investments, at cost,
which approximates fair value 44,274 23,881
---------- ----------
Total investments 1,594,354 1,599,125
Cash 12,275 28,395
Receivables:
Premiums 124,027 101,511
Reinsurance 76,479 76,841
Accrued investment income 21,015 23,316
---------- ----------
Total receivables 221,521 201,668
Deferred policy acquisition costs 89,061 84,759
Prepaid reinsurance premiums 18,009 18,154
Property and equipment, net 28,384 27,621
Deferred income taxes 27,750 19,545
Due from affiliate 5,634
Other assets 36,952 42,595
---------- ---------
Total assets $2,033,940 $2,021,862
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
- --------------------------------------------
Liabilities:
Unpaid losses and loss settlement
expenses $ 867,747 $ 864,843
Unearned premiums 384,213 354,098
Accounts payable and accrued expenses 99,818 120,210
Debt 96,055 96,450
Due to affiliate 19,680
---------- ----------
Total liabilities 1,447,833 1,455,281
---------- ----------
Shareholders' equity:
Preferred stock, $1 par value,
authorized 1,000,000 shares;
none issued
Common stock, $1 par value, authorized
80,000,000 shares; issued 30,404,004
and 30,001,852 shares; outstanding
29,404,004 and 29,001,852 shares 30,404 30,002
Additional paid-in capital 139,293 131,537
Accumulated other comprehensive income 51,414 56,010
Retained earnings 380,561 364,597
Treasury stock, at cost, 1,000,000 shares (15,565) (15,565)
---------- ----------
Total shareholders' equity 586,107 566,581
---------- ----------
Total liabilities and
shareholders' equity $2,033,940 $2,021,862
========== ==========
See accompanying notes to consolidated financial statements.
Page 3
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000
(dollars in thousands, except per share data)
2001 2000
--------- --------
Revenues:
Premiums earned $184,804 $171,938
Investment income, net of
investment expenses 21,388 21,590
Realized investment gains (losses) (4,154) 2,587
Other income 3,783 4,037
-------- --------
Total revenues 205,821 200,152
-------- --------
Losses and expenses:
Losses and loss settlement expenses 134,275 121,890
Amortization of deferred policy
acquisition costs 44,839 44,369
Other underwriting expenses 15,561 14,787
Interest expense 1,515 1,668
Other expenses 1,206 1,702
-------- --------
Total expenses 197,396 184,416
-------- --------
Income before income taxes 8,425 15,736
Income taxes 570 2,696
-------- --------
Net income $ 7,855 $ 13,040
======== ========
Per common share:
Basic earnings $ .27 $ .45
======== ========
Diluted earnings $ .26 $ .45
======== ========
Cash dividend $ .15 $ .14
======== ========
See accompanying notes to consolidated financial statements.
Page 4
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000
(dollars in thousands, except per share data)
2001 2000
--------- --------
Revenues:
Premiums earned $541,450 $513,872
Investment income, net of
investment expenses 63,856 64,874
Realized investment gains (losses) (7,532) 5,226
Other income 11,809 12,533
-------- --------
Total revenues 609,583 596,505
-------- --------
Losses and expenses:
Losses and loss settlement expenses 387,936 374,409
Amortization of deferred policy
acquisition costs 134,496 132,913
Other underwriting expenses 45,913 44,715
Interest expense 4,701 4,946
Other expenses 4,182 4,889
-------- --------
Total expenses 577,228 561,872
-------- --------
Income before income taxes 32,355 34,633
Income taxes 3,804 3,647
-------- --------
Net income $ 28,551 $ 30,986
======== ========
Per common share:
Basic earnings $ .98 $ 1.08
======== ========
Diluted earnings $ .96 $ 1.07
======== ========
Cash dividend $ .43 $ .41
======== ========
See accompanying notes to consolidated financial statements.
Page 5
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(UNAUDITED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001
(dollars in thousands)
COMMON STOCK ACCUMULATED
--------------- ADDITIONAL OTHER
PAID-IN COMPREHENSIVE RETAINED TREASURY
SHARES AMOUNT CAPITAL INCOME EARNINGS STOCK TOTAL
---------- ------- --------- ------------- -------- --------- --------
Balance,
December 31,
2000 30,001,852 $30,002 $131,537 $56,010 $364,597 $(15,565) $566,581
--------
Net income 28,551 28,551
Other compre-
hensive income,
net of tax:
Unrealized
investment
(losses), net of
reclassification
adjustment (4,596) (4,596)
--------
Comprehensive
income 23,955
--------
Issuance of
common stock 402,152 402 7,756 8,158
Cash dividend
paid (12,587) (12,587)
---------- ------- -------- ------- -------- -------- --------
Balance,
September 30,
2001 30,404,004 $30,404 $139,293 $51,414 $380,561 $(15,565) $586,107
========== ======= ======== ======= ======== ======== ========
See accompanying notes to consolidated financial statements.
Page 6
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000
(in thousands)
2001 2000
---------- ---------
Cash flows from operating activities:
Net income $ 28,551 $ 30,986
Adjustments to reconcile net income
to net cash provided by operating
activities:
Change in receivables, unearned
premiums, prepaid reinsurance
and due to affiliate (14,907) (23,140)
Increase (decrease) in unpaid losses
and loss settlement expenses 2,904 (2,798)
Deferred income taxes (5,590) (2,259)
Increase in deferred policy
acquisition costs (4,302) (2,417)
Amortization and depreciation 2,121 2,567
(Gain) loss on sale of investments 7,532 (5,226)
Other, net (14,492) 3,262
--------- --------
Net cash provided by operating
activities 1,817 975
--------- --------
Cash flows from investing activities:
Fixed maturity investments:
Purchases (198,924) (87,540)
Sales or maturities 210,260 81,164
Equity securities:
Purchases (7,477) (22,686)
Sales 6,970 16,152
Net (purchases) sales of short-term
investments (20,393) 37,852
Purchase of property and equipment (2,474) (2,533)
--------- --------
Net cash provided (used) by
investing activities (12,038) 22,409
--------- --------
Cash flows from financing activities:
Issuance of common stock 7,083 4,316
Payment of debt obligations (395) (360)
Dividends paid (12,587) (11,804)
Purchase of treasury stock (4,711)
--------- --------
Net cash used by
financing activities (5,899) (12,559)
--------- --------
Increase (decrease) in cash (16,120) 10,825
Cash at beginning of period 28,395 20,273
--------- --------
Cash at end of period $ 12,275 $ 31,098
========= ========
See accompanying notes to consolidated financial statements.
Page 7
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1 - Basis of Presentation
The financial information for the interim periods included herein is
unaudited; however, such information reflects all adjustments, consisting of
normal recurring adjustments, which are, in the opinion of management, necessary
to a fair presentation of the financial position, results of operations, and
cash flows for the interim periods. The results of operations for interim
periods are not necessarily indicative of results to be expected for the full
year.
These financial statements should be read in conjunction with the financial
statements and notes for the year ended December 31, 2000 included in the
Company's 2000 Annual Report filed with the Securities and Exchange Commission
on Form 10-K.
2 - Earnings Per Share
The computation of basic and diluted earnings per share is as follows:
FOR THE THREE MONTHS FOR THE NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2001 2000 2001 2000
------ ------ -------- --------
(in thousands, except per share data)
Numerator for basic
and diluted earnings
per share:
Net income $ 7,855 $13,040 $28,551 $30,986
======= ======= ======= =======
Denominator for basic
earnings per share
-- weighted average
shares outstanding 29,359 28,787 29,235 28,817
Effect of stock
incentive plans 610 252 596 211
------- ------- ------- -------
Denominator for
diluted earnings
per share 29,969 29,039 29,831 29,028
======= ======= ======= =======
Basic earnings
per share $ .27 $ .45 $ .98 $ 1.08
======= ======= ======= =======
Diluted earnings
per share $ .26 $ .45 $ .96 $ 1.07
======= ======= ======= =======
Page 8
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The following options to purchase shares of common stock were not included
in the computation of diluted earnings per share because the exercise price of
the options was greater than the average market price:
FOR THE THREE MONTHS FOR THE NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2001 2000 2001 2000
------ ------ ------ ------
(in thousands)
Number of options - 582 444 1,252
=== === === =====
3 - Reinsurance
Premiums earned are net of amounts ceded of $15,095,000 and $46,098,000 for
the three and nine months ended September 30, 2001, respectively, and
$18,825,000 and $59,659,000 for the three and nine months ended September 30,
2000, respectively. Losses and loss settlement expenses are net of amounts
ceded of $17,070,000 and $53,034,000 for the three and nine months ended
September 30, 2001, respectively, and $16,278,000 and $43,046,000 for the three
and nine months ended September 30, 2000, respectively. Such amounts do not
include the reinsurance transactions with Mutual under the pooling arrangement,
but do include the reinsurance described in the following paragraph.
Harleysville Group has a reinsurance agreement with Harleysville Mutual
Insurance Company (Mutual) whereby Mutual reinsures accumulated catastrophe
losses in a quarter up to $14,400,000 in excess of $3,600,000 in return for a
reinsurance premium. The agreement excludes catastrophe losses resulting from
earthquakes or hurricanes, and supplements the existing external catastrophe
reinsurance program. Harleysville Group ceded to Mutual premiums earned of
$1,898,000 and $1,751,000 and losses incurred of $3,447,000 and $2,570,000 for
the three months ended September 30, 2001 and 2000, respectively. Harleysville
Group ceded to Mutual premiums earned of $5,379,000 and $5,125,000 and losses
incurred of $8,439,000 and $4,281,000 for the nine months ended September 30,
2001 and 2000, respectively.
Harleysville Group cedes business to and assumes business from Mutual under
a reinsurance pooling agreement. Because this agreement does not relieve
Harleysville Group of primary liability as the originating insurer, there is a
concentration of credit risk arising from business ceded to Mutual. However,
the
Page 9
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
reinsurance pooling agreement provides for the right of offset and the net
pooling balance with Mutual is a liability at September 30, 2001 and December
31, 2000. Mutual has an A. M. Best rating of "A" (Excellent) and, in accordance
with certain state regulatory requirements, maintained $328.7 million (fair
value) of investments in a trust account to secure liabilities under the
reinsurance pooling agreement at September 30, 2001.
4 - Cash Flows
Net cash tax payments of $7,183,000 and $2,466,000 were made in the first
nine months of 2001 and 2000, respectively. Cash interest payments of $3,361,000
and $3,566,000 were made in the first nine months of 2001 and 2000,
respectively.
5 - Restructuring Charges
On July 29, 1999, Harleysville Group announced a plan to consolidate its
claims operations from 23 general claims offices into a centralized direct
reporting center and four specialized regional claims centers. As a result of
this consolidation, the Company recorded a restructuring charge in 1999 for
employee termination benefits to be paid and occupancy charges.
Employee termination benefits include severance payments and related
benefits and outplacement services for 173 employees. Severance payments
totaling $1,793,000 have been made to 172 employees, and the remaining accrual
for employee termination benefits is $10,000 at September 30, 2001. Included in
occupancy charges are future lease obligations, less anticipated sublease
benefits, for leased premises which will no longer be used by the claims
operation. Through September 30, 2001, operations in the 23 general claims
offices have been closed. Payments totaling $513,000 have been made, and the
remaining accrual for occupancy charges is $106,000 at September 30, 2001.
On February 7, 2000, Harleysville Group announced a plan to consolidate
selected support services and office functions throughout its field operations.
As a result of this consolidation, the Company recorded a restructuring charge
in 2000 for employee termination benefits to be paid, occupancy charges and a
write-down of equipment to fair value. This charge was included in other
underwriting expenses.
Page 10
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Employee termination benefits include severance payments and related
benefits and outplacement services for 109 field employees. Severance payments
totaling $883,000 have been made to the 109 employees. Included in occupancy
charges is a future lease obligation, less anticipated sublease benefits, for
leased premises which will no longer be used. Payments totaling $100,000 have
been made against the accrual for occupancy charges. Also, as a direct result
of the consolidation, a loss of $52,000 was realized in 2000 on the disposal of
equipment.
Both consolidations were completed in 2000.
ACTIVITY IN THE RESTRUCTURING ACCRUALS
---------------------------------------
(in thousands)
CLAIMS FIELD
RESTRUCTURING RESTRUCTURING
--------------------------------- ---------------------------------
EMPLOYEE EMPLOYEE
TERMINATION TERMINATION
BENEFITS OCCUPANCY TOTAL BENEFITS OCCUPANCY TOTAL
----------- --------- ------- ---------- ----------- -------
Restructuring charge $ 2,017 $ 594 $ 2,611
Change in prior
accrual due to
voluntary
terminations
and additional
sublease benefits (42) (57) (99)
------- ----- -------
Balance at
December 31, 1999 $ 1,975 $ 537 $ 2,512
======= ===== =======
Restructuring
charge $ 899 $188 $1,087
Cash payments (1,793) (371) (2,164) (883) (50) (933)
Change in prior
accrual due to
voluntary
terminations
greater than
anticipated and
reduced sublease
benefits (172) 50 (122) (16) (16)
------- ----- ------- ----- ---- -----
Balance at
December 31, 2000 10 216 226 138 138
Cash payments (142) (142) (50) (50)
Change in prior
accrual due to
reduced sublease
benefits 32 32
------- ----- ------- ----- ---- -----
Balance at
Sept. 30, 2001 $ 10 $ 106 $ 116 $ $ 88 $ 88
======= ===== ======= ===== ==== ======
Page 11
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
6 - Segment Information
The performance of the personal lines and commercial lines is evaluated
based upon underwriting results as determined under statutory accounting
practices (SAP).
Financial data by segment is as follows:
FOR THE THREE MONTHS FOR THE NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2001 2000 2001 2000
--------- ------- --------- --------
(in thousands)
Revenues:
Premiums earned:
Commercial lines $126,031 $109,256 $362,412 $325,332
Personal lines 58,773 62,682 179,038 188,540
-------- -------- -------- --------
Total premiums earned 184,804 171,938 541,450 513,872
Net investment income 21,388 21,590 63,856 64,874
Realized investment gains
(losses) (4,154) 2,587 (7,532) 5,226
Other 3,783 4,037 11,809 12,533
-------- -------- -------- --------
Total revenues $205,821 $200,152 $609,583 $596,505
======== ======== ======== ========
Income before income taxes:
Underwriting loss:
Commercial lines $ (4,984) $ (5,948) $ (7,462) $(23,493)
Personal lines (5,925) (4,367) (24,278) (18,930)
-------- -------- -------- ---------
SAP underwriting loss (10,909) (10,315) (31,740) (42,423)
GAAP adjustments 1,038 1,207 4,845 4,258
-------- -------- -------- --------
GAAP underwriting loss (9,871) (9,108) (26,895) (38,165)
Net investment income 21,388 21,590 63,856 64,874
Realized investment gains
(losses) (4,154) 2,587 (7,532) 5,226
Other 1,062 667 2,926 2,698
-------- -------- --------- --------
Income before income taxes $ 8,425 $ 15,736 $ 32,355 $ 34,633
======== ======== ======== ========
Page 12
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
7 - Comprehensive Income
Comprehensive income consisted of the following (all amounts are net of
taxes):
FOR THE THREE MONTHS FOR THE NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2001 2000 2001 2000
--------- --------- -------- --------
(in thousands)
Net income $ 7,855 $13,040 $28,551 $30,986
Other comprehensive
income:
Unrealized investment
holding gains
(losses) arising
during period (3,169) 6,706 (9,581) 15,986
Less:
Reclassification
adjustment for
(gains) losses
included in net
income 2,769 (1,677) 4,985 (3,392)
------- ------- ------- -------
Net unrealized
investment gains
(losses) (400) 5,029 (4,596) 12,594
------- ------- ------- -------
Comprehensive income $ 7,455 $18,069 $23,955 $43,580
======= ======= ======= =======
8 - New Accounting Standards
Harleysville Group transferred investments with an amortized cost of $81.0
million and unrealized gains of $1.5 million from the held to maturity
classification to the available for sale classification on January 1, 2001,
under the provisions of SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities," and SFAS No. 138, "Accounting for Certain Derivative
Instruments and Certain Hedging Activities, an amendment of SFAS No. 133."
Harleysville Group has no derivative instruments or hedging activities.
Page 13
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
9 - New Statutory Accounting Principles
The NAIC has adopted the Codification of Statutory Accounting Principles
with an effective date of January 1, 2001. The codification principles are
intended to provide a basis of accounting recognized and adhered to in the
absence of, conflict with, or silence of, state statutes and regulations. The
impact of the codified principles on the statutory capital and surplus of the
Company's insurance subsidiaries ranges from (2%) to 9% of statutory capital and
surplus and, on a consolidated basis, increases statutory capital and surplus by
approximately 7%.
Page 14
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
Results of Operations
Premiums earned increased $12.9 million and $27.6 million during the three
and nine months ended September 30, 2001, respectively. The increases are
primarily due to increases in premiums earned for commercial lines of $16.8
million and $37.1 million offset by decreases of $3.9 million and $9.5 million
in personal lines premiums earned for the three and nine months ended September
30, 2001, respectively. The increases in premiums earned for commercial lines
primarily is due to higher rates partially offset by fewer policy counts. The
decreases in premiums earned for personal lines primarily is due to fewer policy
counts partially offset by higher rates.
Investment income decreased $0.2 million and $1.0 million for the three and
nine months ended September 30, 2001 as a decrease in invested assets was offset
by a higher yield on the investment portfolio. The higher yield primarily is
due to having a greater proportion of taxable fixed maturity investments.
During the third quarter of 2001, $16.6 million of cash was added to the
investment portfolio. Because reinvestment interest rates are lower, the trend
of lower investment income, particularly on an after tax basis, is expected to
continue in the fourth quarter of 2001.
Realized investment gains (losses) decreased $6.7 million and $12.8 million
for the three and nine months ended September 30, 2001, respectively, primarily
resulting from lesser sales of equity securities and from increases of $1.8
million and $8.8 million, respectively, in losses recognized on equity
investments that were trading below cost on an other-than-temporary basis. Such
increased losses for the nine months ended September 30, 2001 were partially
offset by greater gains on the sale of fixed maturity securities.
Income before income taxes decreased $7.3 million and $2.3 million for the
three and nine months ended September 30, 2001, respectively. The decreases
were primarily due to the lower investment income and lower realized gains
(losses) for the three and nine months ended September 30, 2001. For the nine
months ended September 30, 2001, these decreases were partially offset by a
lower underwriting loss. Harleysville Group's statutory combined ratio was
104.6% for both the three months ended September 30, 2001 and 2000 and decreased
to 104.1% for the nine months ended September 30, 2001 from 107.3% for the nine
months ended September 30, 2000. The nine months ended September 30, 2000
Page 15
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
(Continued)
include a pre-tax charge of $1.1 million ($.03 per basic share after taxes)
related to the consolidation of selected non-claims support services and office
functions throughout the field operations. This restructuring charge adversely
affected the statutory combined ratio by 0.2 points for the nine months ended
September 30, 2000. Income before income taxes for the nine months ended
September 30, 2000 also was reduced by $1.9 million ($0.04 per basic share after
taxes) to reflect the effect of a settlement of litigation between the North
Carolina Rate Bureau and the Commissioner of Insurance over personal automobile
insurance rate levels dating back to 1994. The settlement, which mandates a
refund of premium be made to policyholders, adversely affected the combined
ratio by 0.5 points. Excluding the impacts of the field restructuring and North
Carolina Rate Bureau settlement, the statutory combined ratio decreased 2.5
points for the nine months ended September 30, 2001. Such decrease is primarily
due to better results in commercial lines partially offset by worse results in
personal lines. The improvement in commercial lines primarily is due to
benefits from higher pricing, re-underwriting and agency management efforts
partially offset by $3.6 million of net estimated loses resulting from the
September 11 terrorist acts. While the trend of improving commercial lines
results is expected to continue in 2002, commercial lines may not improve in the
fourth quarter of 2001 as compared to the fourth quarter of 2000 as workers
compensation losses have been trending higher than those reported in the fourth
quarter of 2000. The decline in personal lines profitability primarily is due
to higher loss trends in the personal automobile lines.
In October 2001, Reliance Insurance Company was ordered liquidated and it
is expected that various state guaranty funds will levy assessments in the
fourth quarter of 2001. It is currently estimated that such assessments will
result in a charge to Harleysville Group ranging from $1 million to $4 million
before taxes in the fourth quarter of 2001.
The terrorist acts of September 11, 2001 have given rise to concerns about
the availability and pricing of reinsurance for the property and casualty
industry. Harleysville Group's catastrophe reinsurance treaty provides coverage
through June 30, 2002 and our casualty reinsurance treaties expire December 31,
2001. As future reinsurance prices and terms may be less favorable,
Harleysville Group is working closely with its reinsurers and monitoring the
progress of proposals for federal government solutions to the reinsurance
coverage availability and pricing issues.
Page 16
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
(Continued)
The income tax provision for the three and nine months ended September 30,
2001 includes the tax benefit of $2.4 million and $7.6 million associated with
tax-exempt investment income, compared to $2.9 million and $8.6 million in the
same prior year periods.
New Accounting Standards
In July 2001, the FASB issued SFAS No. 141, "Business Combinations," and
SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires the
purchase method of accounting to be used for all future business combinations
and contains provisions for the accounting for goodwill and intangible assets.
SFAS No. 142 is effective January 1, 2002 and will require that goodwill and
intangible assets with indefinite useful lives no longer be amortized, but
instead be evaluated for impairment.
At September 30, 2001, Harleysville Group has unamortized goodwill in the
amount of $23.6 million which will be subject to transition provisions of SFAS
No. 141 and 142. Amortization expense related to goodwill was $0.6 million for
both the nine month periods ended September 30, 2001 and 2000. Harleysville
Group has not yet determined an estimate of the impact of adopting SFAS No. 141
and 142 on its financial statements at the date of this report.
Liquidity and Capital Resources
Net cash provided by operating activities increased $0.8 million for the
nine months ended September 30, 2001. The increase primarily resulted from a
decrease in cash used by underwriting activities partially offset by a decrease
of $26.5 million in cash held as collateral for security lending transactions.
Net cash used by investing activities was $12.0 million for the nine months
ended September 30, 2001 and net cash of $22.4 million was provided by investing
activities for the nine months ended September 30, 2000. The change is
primarily due to the increase in cash provided by operating activities and
decreased cash used in financing activities.
Net cash used by financing activities decreased $6.7 million for the nine
months ended September 30, 2001 primarily due to the purchase of treasury stock
in 2000 and an increase in the issuance of common stock in 2001.
Page 17
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
(Continued)
Harleysville Group Inc. maintained $5.9 million of cash and marketable
securities at September 30, 2001 which is available for general corporate
business purposes including dividends, debt service, capital contributions to
subsidiaries, acquisitions and the repurchase of stock. The Company had no
material commitments for capital expenditures as of September 30, 2001.
Certain of the statements contained herein (other than statements of
historical facts) are forward looking statements. Such forward looking
statements are made pursuant to the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995 and include estimates and assumptions
related to economic, competitive and legislative developments. These forward
looking statements are subject to change and uncertainty which are, in many
instances, beyond the Company's control and have been made based upon
management's expectations and beliefs concerning future developments and their
potential effect on Harleysville Group. There can be no assurance that future
developments will be in accordance with management's expectations so that the
effect of future developments on Harleysville Group will be those anticipated by
management. Actual financial results including premium growth and underwriting
results could differ materially from those anticipated by Harleysville Group
depending on the outcome of certain factors, which may include changes in
property and casualty loss trends and reserves; natural catastrophe losses;
competition in insurance product pricing; government regulation and changes
therein which may impede the ability to charge adequate rates; performance of
the financial markets; fluctuations in interest rates; availability and price of
reinsurance; and the status of labor markets in which the Company operates.
Page 18
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
QUANTITATIVE AND QUALITATIVE DISCLOSURE
ABOUT MARKET RISK
Harleysville Group's market risk generally represents the risk of gain or
loss that may result from the potential change in the fair value of Harleysville
Group's investment portfolio as a result of fluctuations in prices and interest
rates. Harleysville Group attempts to manage its interest rate risk by
maintaining an appropriate relationship between the average duration of the
investment portfolio and the approximate duration of its liabilities.
Harleysville Group has maintained approximately the same duration of its
investment portfolio to its liabilities from December 31, 2000 to September 30,
2001. In addition, the Company has not significantly changed its investment mix
during this period.
Page 19
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings - None
ITEM 2. Changes in Securities - None
ITEM 3. Defaults Upon Senior Securities - None
ITEM 4. Submission of Matters to a Vote of Security
Holders - None
ITEM 5. Other Information - None
ITEM 6. a. Exhibits - None
b. Reports on Form 8-K - None
SIGNATURE
Pursuant to the requirements 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.
HARLEYSVILLE GROUP INC.
Date: November 13, 2001 /s/BRUCE J. MAGEE
------------------- ---------------------------------
Bruce J. Magee
Senior Vice President and
Chief Financial Officer
(principal financial officer and
principal accounting officer)
Page 20