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 June 30, 1999.
---------------
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
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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 August 3, 1999, 29,420,750 shares of common stock of
Harleysville Group Inc. were outstanding.
1
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
INDEX
Page Number
-----------
Part I - Financial Information
Consolidated Balance Sheets - June 30, 1999
and December 31, 1998 3
Consolidated Statements of Income - For the
three months ended June 30, 1999 and 1998 4
Consolidated Statements of Income - For the
six months ended June 30, 1999 and 1998 5
Consolidated Statement of Shareholders' Equity -
For the six months ended June 30, 1999 6
Consolidated Statements of Cash Flows -
For the six months ended June 30, 1999
and 1998 7
Notes to Consolidated Financial Statements 8
Management's Discussion and Analysis of Results
of Operations and Financial Condition 13
Part II - Other Information 18
2
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
JUNE 30, DECEMBER 31,
1999 1998
------------ ------------
(unaudited)
ASSETS
------
Investments:
Fixed maturities:
Held to maturity, at amortized
cost (fair value $632,602
and $680,371) $ 618,281 $ 638,319
Available for sale, at fair
value (amortized cost $739,502
and $716,325) 745,578 751,293
Equity securities, at fair value
(cost $101,699 and $95,797) 193,219 174,932
Short-term investments, at cost,
which approximates fair value 20,508 15,022
---------- ----------
Total investments 1,577,586 1,579,566
Cash 3,384 3,799
Receivables:
Premiums 99,047 91,256
Reinsurance 81,855 84,179
Accrued investment income 22,000 22,134
---------- ----------
Total receivables 202,902 197,569
Deferred policy acquisition costs 86,622 78,984
Prepaid reinsurance premiums 12,475 12,108
Property and equipment, net 25,756 25,051
Deferred income taxes 10,289 3,604
Due from affiliate 1,522
Other assets 33,624 33,816
---------- ----------
Total assets $1,954,160 $1,934,497
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Unpaid losses and loss settlement
expenses $ 882,434 $ 893,420
Unearned premiums 349,132 317,772
Accounts payable and accrued
expenses 83,875 83,735
Debt 96,810 97,140
Due to affiliate 12,772
---------- ----------
Total liabilities 1,412,251 1,404,839
---------- ----------
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 and outstanding 29,324,173
and 29,150,518 shares 29,324 29,151
Additional paid-in capital 122,059 119,302
Accumulated other comprehensive
income 63,438 74,167
Retained earnings 327,088 307,038
---------- ----------
Total shareholders' equity 541,909 529,658
---------- ----------
Total liabilities and
shareholders' equity $1,954,160 $1,934,497
========== ==========
See accompanying notes to consolidated financial statements.
3
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
FOR THE THREE MONTHS ENDED JUNE 30, 1999 AND 1998
(dollars in thousands, except per share data)
1999 1998
--------- ---------
Revenues:
Premiums earned $175,099 $165,834
Investment income, net of
investment expenses 21,231 21,343
Realized investment gains 1,210 3,702
Other income 3,770 3,143
-------- --------
Total revenues 201,310 194,022
-------- --------
Losses and expenses:
Losses and loss settlement expenses 119,799 114,425
Amortization of deferred policy
acquisition costs 45,264 42,033
Other underwriting expenses 14,116 13,640
Interest expense 1,556 1,625
Other expenses 1,193 1,087
-------- --------
Total expenses 181,928 172,810
-------- --------
Income before income taxes 19,382 21,212
Income taxes 3,871 4,660
-------- --------
Net income $ 15,511 $ 16,552
======== ========
Per common share:
Basic earnings $ .53 $ .57
======== ========
Diluted earnings $ .52 $ .56
======== ========
Cash dividend $ .125 $ .115
======== ========
See accompanying notes to consolidated financial statements.
4
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 1998
(dollars in thousands, except per share data)
1999 1998
--------- ---------
Revenues:
Premiums earned $344,926 $328,466
Investment income, net of
investment expenses 42,757 42,578
Realized investment gains 6,020 7,350
Other income 7,283 6,133
-------- --------
Total revenues 400,986 384,527
-------- --------
Losses and expenses:
Losses and loss settlement expenses 239,645 230,716
Amortization of deferred policy
acquisition costs 88,815 83,145
Other underwriting expenses 29,474 26,938
Interest expense 3,117 3,265
Other expenses 2,342 1,972
-------- --------
Total expenses 363,393 346,036
-------- --------
Income before income taxes and
cumulative effect of accounting
change 37,593 38,491
Income taxes 7,317 8,037
-------- --------
Income before cumulative effect
of accounting change 30,276 30,454
Cumulative effect of accounting change,
net of income tax (2,904)
-------- --------
Net income $ 27,372 $ 30,454
======== ========
Per common share:
Basic:
Income before cumulative effect of
accounting change $ 1.04 $ 1.05
Cumulative effect of accounting
change, net of income tax (.10)
-------- --------
Net income $ .94 $ 1.05
======== ========
Diluted:
Income before cumulative effect of
accounting change $ 1.02 $ 1.03
Cumulative effect of accounting
change, net of income tax (.10)
-------- --------
Net income $ .92 $ 1.03
======== ========
Cash dividend $ .25 $ .23
======== ========
See accompanying notes to consolidated financial statements.
5
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(Unaudited)
FOR THE SIX MONTHS ENDED JUNE 30, 1999
(dollars in thousands)
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER
PAID-IN COMPREHENSIVE RETAINED
SHARES AMOUNT CAPITAL INCOME EARNINGS TOTAL
---------- -------- ---------- ------------- -------- -------
Balance,
Dec. 31,
1998 29,150,518 $29,151 $119,302 $ 74,167 $307,038 $529,658
--------
Net income 27,372 27,372
Other compre-
hensive
income,
net of tax:
Unrealized
investment
losses, net
of reclassi-
fication
adjustment (10,729) (10,729)
--------
Comprehensive
income 16,643
--------
Issuance of
common
stock 173,655 173 2,757 2,930
Cash dividend
paid (7,322) (7,322)
---------- ------- -------- -------- -------- --------
Balance,
June 30,
1999 29,324,173 $29,324 $122,059 $ 63,438 $327,088 $541,909
========== ======= ======== ======== ======== ========
See accompanying notes to consolidated financial statements.
6
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 1998
(in thousands)
1999 1998
---------- ----------
Cash flows from operating activities:
Net income $ 27,372 $ 30,454
Adjustments to reconcile net income
to net cash provided by operating
activities:
Cumulative effect of accounting
change, net of income tax 2,904
Change in receivables, unearned
premiums, prepaid reinsurance
and due to affiliate 11,366 (15,774)
Increase (decrease) in unpaid
losses and loss settlement
expenses (10,986) 24,446
Deferred income taxes 1,281 (1,176)
Increase in deferred policy
acquisition costs (7,638) (5,787)
Amortization and depreciation 1,539 1,215
Gain on sale of investments (6,020) (7,350)
Other, net (5,213) 17,575
Cash from change in intercompany
pooling agreement 14,962
--------- ---------
Net cash provided by
operating activities 14,605 58,565
--------- ---------
Cash flows from investing activities:
Fixed maturity investments:
Purchases (103,751) (114,471)
Sales or maturities 102,253 69,802
Equity securities:
Purchases (10,246) (14,999)
Sales 8,947 14,678
Net (purchases) sales of short-term
investments (5,486) 8,626
Purchase of property and equipment (2,015) (966)
--------- ---------
Net cash used by investing
activities (10,298) (37,330)
--------- ---------
Cash flows from financing activities:
Issuance of common stock 2,930 3,193
Repayment of debt obligations (330) (300)
Dividend paid (7,322) (6,662)
--------- ---------
Net cash used by
financing activities (4,722) (3,769)
--------- ---------
Increase (decrease) in cash (415) 17,466
Cash at beginning of period 3,799 1,460
--------- ---------
Cash at end of period $ 3,384 $ 18,926
========= =========
See accompanying notes to consolidated financial statements.
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 only 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, 1998 included in the
Company's 1998 Annual Report filed with the Securities
and Exchange Commission on Form 10-K.
2 - Changes in Accounting Principles
(a) Guaranty-Fund and Other Insurance-Related
Assessments
In 1997, the American Institute of Certified Public
Accountants (AICPA) issued Statement of Position (SOP) 97-
3, "Accounting by Insurance and Other Enterprises for
Insurance-Related Assessments," which provides guidance
for determining when to recognize, and how to determine,
a liability for guaranty-fund and other insurance-related
assessments. Effective January 1, 1999, the Company
adopted SOP 97-3 and recorded a charge of $2,904,000, net
of a tax benefit of $1,564,000, as the cumulative effect
of the accounting change. Prior period financial
statements have not been restated and pro forma effects
of retroactive application are not material.
(b) Costs of Internal Use Software
In March 1998, the AICPA issued SOP 98-1, "Accounting
for Costs of Computer Software Developed or Obtained for
Internal Use." The SOP requires that certain costs
related to the development or purchase of internal-use
software be capitalized and amortized over the estimated
useful life of the software. This SOP also requires that
costs related to the preliminary project stage and the
post implementation/operations stage in an internal-use
computer software development project be expensed as
incurred. Effective January 1, 1999, the Company adopted
SOP 98-1 and accordingly has capitalized costs of
$482,000 in 1999. Prior period financial statements have
not been restated.
8
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(Unaudited)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
3 - Earnings Per Share
The computation of basic and diluted earnings per
share is as follows:
FOR THE THREE MONTHS FOR THE SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
1999 1998 1999 1998
---------- ---------- --------- --------
(in thousands,
except per share data)
Numerator for basic
and diluted earnings
earnings per share:
Net income $15,511 $16,552 $27,372 $30,454
======= ======= ======= =======
Denominator for basic
earnings per share --
weighted average
shares outstanding 29,299 28,986 29,268 28,949
Effect of stock
incentive plans 305 511 372 535
------- ------- ------- -------
Denominator for
diluted earnings
per share 29,604 29,497 29,640 29,484
======= ======= ======= =======
Basic earnings
per share $ .53 $ .57 $ .94 $ 1.05
======= ======= ======= =======
Diluted earnings
per share $ .52 $ .56 $ .92 $ 1.03
======= ======= ======= =======
4 - Reinsurance
Premiums earned are net of amounts ceded of $11,784,000 and
$23,017,000 for the three and six months ended June 30, 1999,
respectively, and $1,900,000 and $11,770,000 for the
three and six months ended June 30, 1998, respectively.
The ceded earned premiums for the three and six months
ended June 30, 1998 are net of a $8,132,000 refund of
premiums previously ceded to the Michigan Catastrophic
Claims Association. Such premiums were refunded to
Harleysville Group which were then immediately refunded
to policyholders. Losses and loss settlement expenses
are net of amounts ceded of $5,058,000 and $15,647,000
for the three and six months ended June 30, 1999,
respectively, and
9
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
(Unaudited)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
$21,010,000 and $31,549,000 for the three and six months
ended June 30, 1998, 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 ($16,200,000 in 1998) in excess
of $3,600,000 ($1,800,000 in 1998) 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 $1,959,000 and $798,000 and losses incurred of
$(644,000) and $15,318,000, for the three months ended
June 30, 1999 and 1998, respectively. Harleysville Group
ceded to Mutual premiums earned of $3,555,000 and
$1,482,000 and loss incurred of $5,448,000 and
$19,925,000 for the six months ended June 30, 1999 and
1998, 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
reinsurance pooling agreement provides for the right of
offset and the net balance with Mutual is a liability at
June 30, 1999 and December 31, 1998. Mutual has an A. M.
Best rating of "A" (Excellent) and, in accordance with
certain state regulatory requirements, maintained
$334,400,000 (fair value) of investments in a trust
account to secure liabilities under the reinsurance
pooling agreement at June 30, 1999.
5 - Cash Flows
There were cash tax payments of $6,773,000 and
$9,125,000 and cash interest payments of $3,063,000 and
$3,219,000 in the first six months of 1999 and 1998,
respectively.
10
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) for the total
pooled business of Harleysville Group and Mutual. The
following tables reflect the total pooled business. The
eliminations reflect the share of the total pooled business
not retained by Harleysville Group and the effect of the
catastrophe reinsurance agreement between Harleysville Group
and Mutual.
Financial data by segment is as follows:
FOR THE THREE MONTHS FOR THE SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
1999 1998 1999 1998
-------- --------- --------- ---------
(in thousands)
Revenues:
Premiums earned:
Commercial lines $154,040 $139,909 $ 301,517 $ 275,065
Personal lines 91,874 91,525 182,484 183,196
Eliminations (70,815) (65,600) (139,075) (129,795)
-------- -------- --------- ---------
Total premiums
earned 175,099 165,834 344,926 328,466
Net investment income 21,231 21,343 42,757 42,578
Realized investment
gains 1,210 3,702 6,020 7,350
Other 3,770 3,143 7,283 6,133
-------- -------- --------- ---------
Total revenues $201,310 $194,022 $ 400,986 $ 384,527
======== ======== ========= =========
Income before income
taxes and cumulative
effect of accounting
change:
Underwriting loss:
Commercial lines $ (8,002) $(17,320) $ (26,278) $ (37,190)
Personal lines (1,383) (14,489) (5,212) (12,488)
Eliminations 386 23,408 11,377 32,380
-------- -------- --------- ---------
SAP underwriting
loss (8,999) (8,401) (20,113) (17,298)
GAAP adjustments 4,919 4,137 7,105 4,965
-------- -------- --------- ---------
GAAP underwriting
loss (4,080) (4,264) (13,008) (12,333)
Net investment
income 21,231 21,343 42,757 42,578
Realized investment
gains 1,210 3,702 6,020 7,350
Other 1,021 431 1,824 896
-------- -------- --------- ---------
Income before income
taxes and cumulative
effect of accounting
change $ 19,382 $ 21,212 $ 37,593 $ 38,491
======== ======== ========= =========
11
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 SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
1999 1998 1999 1998
-------- -------- -------- --------
Net income $ 15,511 $16,552 $ 27,372 $30,454
Other comprehensive
income:
Unrealized investment
holding gains
(losses)
arising during
period (10,062) 7,194 (7,025) 18,050
Less:
Reclassification
adjustment for
gains included
in net income (596) (2,395) (3,704) (4,723)
-------- ------- -------- -------
Net unrealized
investment gains
(losses) (10,658) 4,799 (10,729) 13,327
-------- ------- -------- -------
Comprehensive income $ 4,853 $21,351 $ 16,643 $43,781
======== ======= ======== =======
8 - Subsequent Event
On July 29, 1999, Harleysville Group announced it will
consolidate its claims operations from 23 general claims
offices into a centralized direct reporting center and four
specialized regional claims service centers. The
restructuring will result in a net reduction in claims staff
of approximately 125 people. Based on the present evaluation
of the components of the restructuring, a one-time after-tax
charge of approximately $1,700,000 is expected in the third
quarter of 1999. The consolidation will begin immediately and
is expected to be completed by the second quarter of 2000.
12
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
Results of Operations
Premiums earned increased $9.3 million and $16.5 million
during the three and six months ended June 30, 1999,
respectively. The increases are primarily due to an increase in
premiums earned for commercial lines partially offset by
increases of $1.2 million and $2.1 million in premiums ceded
under the catastrophe reinsurance agreement with Mutual for the
three and six months ended June 30, 1999, respectively.
Investment income was essentially unchanged for the three
and six months ended June 30, 1999 as an increase in invested
assets was offset by a lower yield on the investment portfolio.
Realized investment gains decreased $2.5 million and $1.3
million for the three and six months ended June 30, 1999
primarily resulting from fewer sales of equity securities.
Income before income taxes and cumulative effect of
accounting change decreased $1.8 million and $0.9 million for the
three and six months ended June 30, 1999, respectively. The
decreases primarily were due to the lower realized gains.
Harleysville Group's statutory combined ratio decreased to 101.3%
and 102.9% for the three and six months ended June 30, 1999,
respectively, from 102.3% and 103.2% for the three and six months
ended June 30, 1998, respectively, primarily due to improved
results in the personal automobile and workers compensation lines
of business. Such improved results primarily are due to variances
from expected claims severity for insured events of prior years.
Losses ceded under the aggregate catastrophe reinsurance
agreement with Mutual decreased by $16.0 million and $14.5
million for the three and six months ended June 30, 1999,
respectively, primarily due to fewer and less severe catastrophes
in 1999. In 1998, there were several severe spring storms in the
second quarter and a first quarter ice storm in upstate New York.
The income tax expense for the three and six months ended
June 30, 1999 includes the tax benefit of $2.9 million and $5.9
million associated with tax-exempt interest compared to $2.8
million and $5.5 million in the same prior year periods.
On July 29, 1999, Harleysville Group announced it will
consolidate its claims operations from 23 general claims offices
into a centralized direct reporting center and four specialized
regional claims service centers. The restructuring will result
in a net reduction in claims staff of approximately 125 people.
Based on the present evaluation of the components of the
restructuring, a one-time after-tax charge of approximately
$1,700,000, or $.06
13
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
(Continued)
per diluted share, is expected in the third quarter of 1999. The
consolidation will begin immediately and is expected to be
completed by the second quarter of 2000 and result in annual
after-tax savings of approximately $2,300,000, or $.08 per
diluted share, based on a preliminary analysis of achievable cost
savings.
Effective for one year from July 1, 1999, the Company's
subsidiaries and Mutual and its wholly-owned subsidiaries renewed
its catastrophe reinsurance treaty which provides coverage for
85.5% of up to $147 million in excess of a retention of $20
million for any given catastrophe. Harleysville Group's 1999
pooling share of this coverage would be 85.5% of up to $106
million in excess of a retention of $14.4 million for any given
catastrophe. Accordingly, pursuant to the terms of the treaty,
the maximum recovery would be $126 million for any catastrophe
involving an insured loss equal to or greater than $167 million.
Harleysville Group's 1999 pooling share of this maximum recovery
would be $90 million for any catastrophe involving an insured
loss of $120 million or greater. The treaty includes
reinstatement provisions providing for coverage for a second
catastrophe and requiring payment of an additional premium in the
event of a first catastrophe occurring.
Liquidity and Capital Resources
Net cash provided by operating activities was $14.6 million
and $58.6 million for the six months ended June 30, 1999 and
1998, respectively. The decrease primarily results from a
decline of $18.2 million in cash held as collateral for security
lending transactions, and by the effect of the 1998 amendment to
the pooling agreement with Mutual. A cash transfer of $15.0
million was received, effective January 1, 1998, by Harleysville
Group related to the various liabilities assumed in connection
with such amendment.
Net cash used by investing activities was $10.3 million and
$37.3 million for the six months ended June 30, 1999 and 1998,
respectively. The decrease is primarily due to the decline in
cash provided by operating activities.
14
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
(Continued)
Net cash used by financing activities increased $1.0 million
for the six months ended June 30, 1999 primarily due to the
increase in dividends paid.
Harleysville Group Inc. maintained $5.6 million of cash and
marketable investments at the holding company level at June 30,
1999 which is available for general corporate purposes including
dividends, debt service, capital contributions to subsidiaries,
acquisitions and the repurchase of stock. In June 1999, the
Company adopted a stock repurchase plan under which the Company
and Mutual may each purchase up to 500,000 shares of Harleysville
Group common stock, up to a total of 1,000,000 shares. The
Company has no material commitments for capital expenditures as
of June 30, 1999.
Year 2000
Harleysville Group began assessing its information
technology (IT) systems in 1996 and developed plans to ensure
their functionality with respect to the year 2000 millennium
change. These plans contain four major phases: remediation,
certification testing, enterprise testing and street testing.
The major part of the remediation phase involved modifying
our basic transaction processing systems that include the policy
issuance, billing and claims systems. The remediation phase was
completed during the fourth quarter of 1998.
The certification testing phase began in the third quarter
of 1998 and was fully completed in the second quarter of 1999.
This phase involved testing each system using aged data and
critical future dates in a separate year 2000 compliant
environment and remediating any problems that arise.
Harleysville Group did not encounter any significant problems
during certification testing and all problems identified have
been remediated.
The enterprise testing phase began in the second quarter of
1999 and involved testing hardware and operating system software
running in concert with each other using critical future dates.
The enterprise testing was completed and no significant problems
were encountered.
15
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
(Continued)
The street testing phase involves testing Harleysville
Group's IT systems with third parties and began in the second
quarter of 1999. There have been no significant problems in the
testing so far. The exact timing of the completion of this phase
is dependent upon the readiness of the third parties.
Harleysville Group has identified and communicated with all of
the third parties identified.
Harleysville Group has non-IT systems that include embedded
technology such as office equipment and building systems.
Harleysville Group has inventoried the non-IT systems and has
either tested or communicated with vendors and landlords
regarding year 2000 readiness for essentially all of the non-IT
systems. Harleysville Group currently does not expect any
material impact to its business, results of operations or
financial condition from the failure of non-IT systems.
Harleysville Group's expenses since 1996 to address year
2000 issues were approximately $3.5 million as of June 30, 1999
and consisted primarily of costs of internal resources.
Estimated remaining costs to complete the year 2000 work are
currently $0.1 million.
Harleysville Group's year 2000 plans provide for time to
correct problems encountered in the testing phases. Harleysville
Group is continually assessing the most reasonably likely worst
case year 2000 scenario and the contingency alternatives. This
assessment is ongoing and contingency plans will be finalized in
the third quarter.
Harleysville Group has risk that third parties will suffer
year 2000 problems. As most of Harleysville Group's computer
systems have been internally developed, Harleysville Group is not
significantly dependent on third party vendors for year 2000
compliance. Of the independent agents that interface
electronically with Harleysville Group, almost all either
utilize, or have access to, a system for which the remediation
and certification testing phases are complete. Some information
used in underwriting policies and adjusting claims, such as motor
vehicle reports, rating information and crime data bases, is
generally obtained electronically. Investment portfolio pricing
information and bank statement information is obtained
electronically. Harleysville Group is communicating with and
monitoring the year 2000 progress of such third parties and will
conclude its contingency planning later in 1999.
16
HARLEYSVILLE GROUP INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS
OF OPERATIONS AND FINANCIAL CONDITION
(Continued)
Harleysville Group is also communicating with and monitoring the
year 2000 readiness of other third parties it does business with
but with which it does not exchange data electronically. To the
extent that any of these third parties appear not to be year 2000
ready, Harleysville Group will make appropriate contingency plans
dependent upon the facts and circumstances of each third party.
Harleysville Group has risk that claims related to year 2000
issues will be made under insurance policies that it underwrites.
Harleysville Group has concluded that its policies do not
generally provide coverage for losses relating to year 2000
issues and has issued endorsements further clarifying this
exclusion. However, due in part to the potential for judicial
decisions which expand policies to cover risks that were not
contemplated by the policy, which in turn may produce
unanticipated claims at that point in time, the amount of any
potential year 2000 coverage liabilities is not determinable.
This year 2000 disclosure contains statements which are
forward-looking statements that involve risks and uncertainties
and qualify for the statutory safe harbor under the Private
Securities Litigation Reform Act of 1995. Future year 2000
readiness activities may not adhere to the anticipated schedule
and cost estimations because: more problems may be encountered
than anticipated in the various stages of testing and trained
personnel may not be available to work on internal systems in the
time required; or there may be unexpected problems with the
readiness of third party business partners and vendors who cannot
produce services; or utility companies may not be able to provide
the vital services required to maintain operations.
17
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 -
ITEM 6. a. Exhibits - None
b. Reports on Form 8-K:
On June 23, 1999 Harleysville Group Inc.
filed a report on Form 8-K, reporting
under Item 5, that its Board of Directors
authorized a stock repurchase plan.
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: August 5, 1999 /s/BRUCE J. MAGEE
---------------------------------
Bruce J. Magee
Senior Vice President and
Chief Financial Officer
(principal financial officer and
principal accounting officer)
18