UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For Quarter Ended September 30, 2000 Commission File Number 0-16882
THE COMMERCE GROUP, INC.
(Exact name of registrant as specified in its charter)
Massachusetts 04-2599931
(State or other jurisdiction (IRS Employer
of Incorporation) Identification No.)
211 Main Street Webster, Massachusetts 01570
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (508) 943-9000
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
As of November 1, 2000, the number of shares outstanding of the
Registrant's common stock (excluding Treasury Shares) was
33,989,852
Page 1 of 31
The Commerce Group, Inc.
Table of Contents
Page No.
Part I - Financial Information
Consolidated Balance Sheets at
September 30, 2000 (Unaudited) and December 31, 1999............ 3
Consolidated Statements of Earnings for the
Three and Nine Months Ended September 30, 2000 and 1999 (Unaudited)..... 4
Consolidated Statements of Cash Flows for the
Nine Months Ended September 30, 2000 and 1999 (Unaudited).......... 5
Consolidated Statements of Cash Flows - Reconciliation of Net Earnings to Net Cash
Provided by Operating Activities for the Nine Months Ended September 30, 2000
and 1999 (Unaudited)............................... 6
Notes to Unaudited Consolidated Financial Statements................ 7
Management's Discussion and Analysis...................... 13
Part II - Other Information
Item 6
Exhibits and Reports on Form 8-K....................... 31
Signature...................................... 31
- - 2 -
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Thousands of Dollars)
September 30, December 31,
2000 1999
(Unaudited)
ASSETS
Investments:
Fixed maturities, at market (cost: $664,570 in 2000 and $661,445 in 1999)............. $ 659,715 $ 647,338
Preferred stocks, at market (cost: $223,653 in 2000 and $230,934 in 1999)............. 206,881 211,049
Common stocks, at market (cost: $413,746 in 2000 and $351,940 in 1999)................ 392,044 301,467
Mortgage loans on real estate and collateral notes receivable (less allowance for
possible loan losses of $1,003 in 2000 and $2,127 in 1999)........................... 52,645 72,451
Cash and short-term investments........................................................ 11,029 22,535
Other investments (cost: $22,200 in 2000 and $13,130 in 1999).......................... 23,527 14,139
Total investments.................................................................. 1,345,841 1,268,979
Accrued investment income................................................................ 17,125 14,697
Premiums receivable (less allowance for doubtful receivables of $ 1,447 in 2000 and
$1,452 in 1999)........................................................................ 268,952 195,160
Deferred policy acquisition costs........................................................ 112,269 98,500
Property and equipment, net of accumulated depreciation.................................. 34,469 34,802
Residual market receivable
Losses and loss adjustment expenses.................................................... 114,847 106,576
Unearned premiums...................................................................... 46,330 50,084
Due from reinsurers...................................................................... 62,083 48,365
Current income taxes..................................................................... 4,731 -
Deferred income taxes.................................................................... 31,538 43,051
Receivable for investments sold ........................................................ 20,042 -
Non-compete agreement.................................................................... 2,917 3,179
Other assets............................................................................. 9,267 8,079
Total assets....................................................................... $2,070,411 $1,871,472
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Losses and loss adjustment expenses.................................................... $ 733,239 $ 674,841
Unearned premiums...................................................................... 557,318 457,095
Current income taxes................................................................... - 10,839
Deferred income........................................................................ 7,999 7,464
Contingent commissions accrued......................................................... 27,262 33,468
Payable for investments purchased...................................................... 6,014 1,953
Excess of book value of subsidiary interest over cost.................................. 9,109 10,758
Other liabilities and accrued expenses................................................. 32,461 27,232
Total liabilities.................................................................. 1,373,402 1,223,650
Minority interest........................................................................ 680 1,188
Stockholders' equity
Preferred stock, authorized 5,000,000 shares at $1.00 par value; none issued in
2000 and 1999........................................................................ - -
Common stock, authorized 100,000,000 shares at $.50 par value;
38,000,000 shares issued in 2000 and 1999............................................ 19,000 19,000
Paid-in capital........................................................................ 29,621 29,621
Net accumulated other comprehensive loss, net of income tax benefits of
$14,346 in 2000 and $28,467 in 1999.................................................. (26,642) (52,867)
Retained earnings...................................................................... 765,729 734,488
787,708 730,242
Treasury stock 3,940,148 shares in 2000 and 3,640,448 shares in 1999................... (91,379) (83,608)
Total stockholders' equity......................................................... 696,329 646,634
Total liabilities, minority interest and stockholders' equity...................... $2,070,411 $1,871,472
The accompanying notes are an integral part of these consolidated
financial statements.
- - 3 -
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
Three and Nine Months Ended September 30, 2000 and 1999
(Thousands of Dollars Except Share and Per Share Data)
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
2000 1999 2000 1999
Revenues
Direct premiums written................................... $ 268,415 $ 232,380 $ 840,595 $ 745,515
Assumed premiums.......................................... 19,876 22,728 60,736 69,821
Ceded premiums............................................ (37,677) (33,908) (111,058) (93,619)
Net premiums written.................................... 250,614 221,200 790,273 721,717
(Increase) decrease in unearned premiums.................. (10,928) 1,722 (90,500) (78,387)
Earned premiums........................................... 239,686 222,922 699,773 643,330
Net investment income..................................... 24,120 22,210 71,008 65,340
Premium finance and service fees.......................... 3,914 3,729 11,463 11,272
Amortization of excess of book value of subsidiary
interest over cost...................................... 847 769 2,542 2,051
Net realized investment gains............................. 2,421 1,686 2,749 7,831
Total revenues........................................ 270,988 251,316 787,535 729,824
Expenses
Losses and loss adjustment expenses....................... 185,143 157,163 537,796 475,671
Policy acquisition costs.................................. 63,118 60,758 178,707 176,655
Total expenses....................................... 248,261 217,921 716,503 652,326
Earnings before income taxes and minority interest... 22,727 33,395 71,032 77,498
Income taxes................................................ 3,710 6,626 11,055 13,665
Net earnings before minority interest................ 19,017 26,769 59,977 63,833
Minority interest in net loss of subsidiary................. 348 252 638 661
NET EARNINGS......................................... $ 19,365 $ 27,021 $ 60,615 $ 64,494
COMPREHENSIVE INCOME................................. $ 34,155 $ 9,680 $ 86,840 $ 19,283
BASIC AND DILUTED NET EARNINGS PER COMMON SHARE...... $ 0.56 $ 0.78 $ 1.77 $ 1.84
CASH DIVIDENDS PAID PER COMMON SHARE................. $ 0.29 $ 0.28 $ 0.86 $ 0.83
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING. 34,118,038 34,819,012 34,181,427 35,089,137
The accompanying notes are an integral part of these consolidated
financial statements.
- - 4 -
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, 2000 and 1999
(Thousands of Dollars)
(Unaudited)
2000 1999
Cash flows from operating activities:
Premiums collected.................................................... $ 720,261 $ 655,346
Net investment income................................................. 68,524 65,085
Premium finance and service fees received............................. 11,463 11,272
Losses and loss adjustment expenses paid.............................. (488,918) (448,473)
Policy acquisition costs paid......................................... (194,580) (180,454)
Federal income tax payments........................................... (29,233) (15,568)
Net cash provided by operating activities......................... 87,517 87,208
Cash flows from investing activities:
Proceeds from maturity of fixed maturities............................ 16,148 77,053
Proceeds from sale of fixed maturities................................ 70,254 73,568
Proceeds from sale of equity securities............................... 24,611 72,730
Purchase of fixed maturities.......................................... (86,855) (86,699)
Purchase of equity securities......................................... (75,814) (139,984)
Purchase of other investments......................................... (8,610) (5,862)
Purchase of subsidiary, net of cash acquired.......................... - (77,056)
Payments received on mortgage loans and collateral notes receivable... 7,369 9,074
Mortgage loans and collateral notes originated........................ (7,255) (6,418)
Purchase of property and equipment.................................... (2,631) (1,892)
Other proceeds from investing activities.............................. 905 1,294
Net cash used in investing activities............................. (61,878) (84,192)
Cash flows from financing activities:
Dividends paid to stockholders........................................ (29,374) (29,021)
Purchase of treasury stock............................................ (7,771) (36,611)
Net cash used in financing activities............................. (37,145) (65,632)
Decrease in cash and short-term investments........................... (11,506) (62,616)
Cash and short-term investments at beginning of period................ 22,535 75,912
Cash and short-term investments at the end of period.............. $ 11,029 $ 13,296
The accompanying notes are an integral part of these consolidated
financial statements.
- - 5 -
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Reconciliation of Net Earnings to Net Cash Provided by Operating Activities
Nine Months Ended September 30, 2000 and 1999
(Thousands of Dollars)
(Unaudited)
2000 1999
Cash flows from operating activities:
Net Earnings.......................................................... $ 60,615 $ 64,494
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Premiums receivable................................................. (73,792) (55,068)
Deferred policy acquisition costs................................... (13,769) (8,828)
Residual market receivable.......................................... (4,517) (9,553)
Due to/from reinsurers.............................................. (13,718) (9,666)
Losses and loss adjustment expenses................................. 58,398 36,684
Unearned premiums................................................... 100,223 77,082
Current income taxes................................................ (15,570) 2,509
Deferred income taxes............................................... (2,609) (4,413)
Deferred income..................................................... 535 760
Contingent commissions.............................................. (6,206) 4,500
Other assets, liabilities and accrued expenses...................... 2,146 (6,386)
Net realized investment gains....................................... (2,749) (7,831)
Other - net......................................................... (1,470) 2,924
Net cash provided by operating activities.................... $ 87,517 $ 87,208
The accompanying notes are an integral part of these consolidated
financial statements.
- - 6 -
The Commerce Group, Inc. and Subsidiaries
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Thousands of Dollars Except Share, Per Share Data, Ratios and Other
Information)
1. The financial information has been prepared on a basis consistent with
the accounting principles reflected in the audited consolidated
financial statements for the year ended December 31, 1999. Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been omitted pursuant to the Securities and Exchange
Commission rules and regulations, although the Company believes the
disclosures which have been made are adequate to make the information
presented not misleading.
2. The information furnished includes all adjustments and accruals
consisting of normal recurring adjustments which are, in the opinion of
management, necessary for a fair presentation of results for the interim
periods. Certain previously reported 1999 account balances have been
reclassified to conform to the current period's presentation.
3. This Form 10-Q contains some statements that are not historical facts
and are considered "forward-looking statements" as defined in the
Private Securities Litigation Reform Act of 1995. Such forward-looking
statements involve opinions, assumptions and predictions, and no
assurance can be given that the future results will be achieved since
events or results may differ materially as a result of risks facing the
Company. These include, but are not limited to, those risks and
uncertainties in our business that are described in the Company's Annual
Report and other documents filed with the SEC, the possibility of
adverse catastrophe experience and severe weather, adverse impacts from
the Trust Insurance Company ("Trust") insolvency or other possible
future insolvencies, adverse trends in claim severity or frequency,
adverse state and federal regulation and legislation, rate making
decisions for private passenger automobile policies in Massachusetts,
heightened competition, as well as the economic, market or regulatory
conditions and risks associated with entry into new markets and
diversification.
4. The consolidated financial statements should be read in conjunction with
the Company's Annual Report on Form 10-K filed with the Securities and
Exchange Commission.
5. Neither the results for the nine months ended September 30, 2000 nor
comparison with the corresponding nine months ended September 30, 1999
should be considered indicative of the results which may be expected for
the year ending December 31, 2000.
6 The Company purchased 299,700 shares of Treasury stock under the buyback
program during the first nine months of 2000, (94,100 shares during the
third quarter of 2000), increasing the total shares of Treasury Stock to
3,940,148 at September 30, 2000. At September 30, 2000, the Company has
authority to purchase approximately 1.2 million additional shares under
the existing stock buyback program.
- - 7 -
The Commerce Group, Inc. and Subsidiaries
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Thousands of Dollars Except Share, Per Share Data, Ratios and
Other Information)
(Continued)
7. In the first quarter of 2000, the Company entered into a Limited
Partnership Agreement with Conning Partners VI, L.P., a Delaware limited
partnership. This partnership agreement requires a commitment by the
Company to invest $50,000 into the partnership throughout the next five
years as determined by the General Partner. To date the Company has
invested $6,250 into the partnership leaving a balance of funds still
committed but not paid into the partnership of $43,750. The Partnership
was formed to operate as an investment fund principally for the purpose
of making investments primarily in equity, equity-related and other
securities issued in expansion financing, start-ups, buy-outs, and
recapitalization transactions relating to companies in the areas of
insurance, financial services, e-commerce, healthcare and related
businesses, in order to realize long-term capital returns, all as
determined and managed by the General Partner for the benefit of the
Partners.
8. On February 10, 2000 the Massachusetts Division of Insurance placed
Trust in rehabilitation. At December 31, 1999, Trust was the ninth
largest writer of private passenger automobile insurance in
Massachusetts, with an approximate 5% market share. On May 10, 2000,
the Massachusetts Commissioner of Insurance ("Commissioner") filed a
"Motion for order approving cancellation of policies" with the Supreme
Judicial Court for Suffolk County. This motion indicated that "there
is substantial risk that Trust Insurance may be insolvent" and further
asks the court that Trust's "insurance exposures be promptly
terminated, their liabilities runoff and their true financial condition
thereby determined". Based on this motion, all of Trust's remaining
36,000 homeowner policies and 99,300 personal automobile policies were
set for cancellation effective August 1, 2000 and October 1, 2000,
respectively. On July 27, 2000, the court ruled that Trust was
insolvent and was subsequently placed into liquidation on August 2,
2000. Based upon the best available information, the Company recorded
a $12.9 million charge ($8.4 million after taxes or $0.24 per share)
related to this insolvency. Of this amount, $8.0 million impacted
losses and loss adjustment expenses, and $4.9 million, representing the
company's allocation from the Massachusetts Insurers Insolvency Fund
("M.I.I.F") impacted policy acquisition costs.
9. Effective July 1, 2000, the Company changed its annual occurrence and
aggregate annual reinsurance recovery limits on its quota share
reinsurance treaty, from 350%/450% of ceded quota share premiums,
respectively, to 250%/350% of ceded quota share premiums. This change
was made after consultation with the Company's reinsurers and based upon
recent catastrophe modeling performed on the Company's risks. The
modeling indicated that a lower threshold was warranted. Based on this
change, the Company has no reinsurance recoveries for a single event
catastrophe in excess of a total loss of approximately $212.5 million.
Prior to the change this figure was $297.5 million. The level of
reinsurance protection increases (decreases) when the company cedes more
(less) premium to the reinsurers.
- - 8 -
The Commerce Group, Inc. and Subsidiaries
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Thousands of Dollars Except Share, Per Share Data, Ratios and
Other Information)
(continued)
10. Disclosure of Statement of Financial Accounting Standards No. 130 -
Reporting Comprehensive Income:
Nine Months Ended
September 30,
2000 1999
Net earnings.......................................... $ 60,615 $ 64,494
Other comprehensive income (loss), net of taxes
(tax benefits):
Change in unrealized gains (losses), net of
income taxes (benefits) of $13,759 in 2000
and ($17,553) in 1999.............................. 25,553 (32,598)
Reclassification adjustment, net of income taxes
(benefits) of $362 in 2000 and ($6,792) in 1999.... 672 (12,613)
Other comprehensive income (loss)..................... 26,225 (45,211)
Comprehensive income.................................. $ 86,840 $ 19,283
Three Months Ended
September 30,
2000 1999
Net earnings.......................................... $ 19,365 $ 27,021
Other comprehensive income (loss), net of taxes
(tax benefits):
Change in unrealized gains (losses), net of
income taxes (benefits) of $8,027 in 2000
and ($7,180) in 1999............................... 14,908 (13,334)
Reclassification adjustment, net of income tax
benefits of ($64) in 2000 and ($2,158) in 1999..... (118) (4,007)
Other comprehensive income (loss)..................... 14,790 (17,341)
Comprehensive income.................................. $ 34,155 $ 9,680
- - 9 -
The Commerce Group, Inc. and Subsidiaries
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Thousands of Dollars Except Share, Per Share Data, Ratios and
Other Information)
(continued)
11. Disclosure of Statement of Financial Accounting Standards No. 131 -
Disclosures about Segments of an Enterprise and Related Information:
Earnings Before
Income Taxes and Identifiable
Revenue Minority Interest Assets
Nine Months Ended September 30, 2000
Property and casualty insurance
Massachusetts...................... $693,439 $ 66,752 $ 1,774,001
Other than Massachusetts........... 89,433 2,497 239,207
Real estate and commercial lending... 4,219 4,219 53,067
Corporate and other.................. 444 (2,436) 4,136
Consolidated...................... $787,535 $ 71,032 $ 2,070,411
Nine Months Ended September 30, 1999
Property and casualty insurance
Massachusetts...................... $639,908 $ 71,653 $ 1,617,461
Other than Massachusetts........... 84,438 1,138 238,240
Real estate and commercial lending... 3,848 3,848 70,526
Corporate and other.................. 1,630 859 10,821
Consolidated...................... $729,824 $ 77,498 $ 1,937,048
Earnings Before
Income Taxes and Identifiable
Revenue Minority Interest Assets
Three Months Ended September 30, 2000
Property and casualty insurance
Massachusetts...................... $240,061 $ 23,064 $ 1,774,001
Other than Massachusetts........... 30,409 364 239,207
Real estate and commercial lending... 518 518 53,067
Corporate and other.................. - (1,219) 4,136
Consolidated...................... $270,988 $ 22,727 $ 2,070,411
Three Months Ended September 30, 1999
Property and casualty insurance
Massachusetts...................... $218,649 $ 30,847 $ 1,617,461
Other than Massachusetts........... 31,004 1,068 238,240
Real estate and commercial lending... 953 953 70,526
Corporate and other.................. 710 527 10,821
Consolidated...................... $251,316 $ 33,395 $ 1,937,048
The acquisition of American Commerce Insurance Company ("American
Commerce"), on January 29, 1999, resulted in an additional property and
casualty insurance segment entitled "Other than Massachusetts" beginning
with the first quarter ended March 31, 1999. The 1999 "Other than
Massachusetts" nine month numbers include the eight month results of
American Commerce as well as the nine month results of Commerce West
Insurance Company ("Commerce West").
- - 10 -
The Commerce Group, Inc. and Subsidiaries
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Thousands of Dollars Except Share, Per Share Data, Ratios
and Other Information)
(continued)
12. Disclosure of Supplemental Information:
OTHER INFORMATION:
September 30,
2000 1999
Massachusetts policies in force
Private passenger automobile......................... 644,703 610,625
Homeowners........................................... 134,046 122,954
Commercial automobile................................ 15,957 14,448
Three Months Ended
September 30,
2000 1999
OTHER EARNINGS STATEMENT INFORMATION:
Premiums earned by Massachusetts subsidiaries
Private passenger automobile......................... $ 197,925 $ 179,953
Homeowners........................................... 4,330 4,177
Commercial automobile................................ 10,698 9,840
Other lines.......................................... 768 754
Premiums earned by subsidiaries in other states........ 25,965 28,198
Total........................................... $ 239,686 $ 222,922
Net investment income, after tax....................... $ 19,726 $ 18,628
Pure loss ratios of Massachusetts subsidiaries
Private passenger automobile......................... 67.6% 61.1%
Homeowners (gross of reinsurance).................... 38.8% 43.4%
Commercial automobile................................ 61.6% 55.2%
Pure loss ratios of subsidiaries in other states...... 67.2% 66.7%
Massachusetts private passenger automobile
exposures written..................................... 208,162 189,453
Massachusetts private passenger automobile
premiums written..................................... $ 201,820 $ 173,247
- - 11 -
The Commerce Group, Inc. and Subsidiaries
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Thousands of Dollars Except Share, Per Share Data, Ratios
and Other Information)
(continued)
12. Disclosure of Supplemental Information (continued):
Nine Months Ended
September 30,
2000 1999
OTHER EARNINGS STATEMENT INFORMATION:
Premiums earned by Massachusetts subsidiaries
Private passenger automobile......................... $ 577,176 $ 523,754
Homeowners........................................... 12,819 12,458
Commercial automobile................................ 29,459 28,634
Other lines.......................................... 2,592 2,493
Premiums earned by subsidiaries in other states........ 77,727 75,991*
Total........................................... $ 699,773 $ 643,330
Net investment income, after tax....................... $ 58,657 $ 54,574
Pure loss ratios of Massachusetts subsidiaries
Private passenger automobile......................... 68.0% 66.6%
Homeowners (gross of reinsurance).................... 39.6% 38.1%
Commercial automobile................................ 61.7% 60.1%
Pure loss ratios of subsidiaries in other states...... 64.0% 60.2%*
Massachusetts private passenger automobile
exposures written..................................... 694,465 655,606
Massachusetts private passenger automobile
premiums written..................................... $ 648,170 $ 574,763
* Includes eight month results of American Commerce since the
January 29, 1999 acquisition.
13. Common Stocks
The cost and approximate fair market value of common stocks at
September 30, 2000 and December 31, 1999, were as follows:
September 30, 2000 December 31, 1999
Fair Market Fair Market
Cost Value Cost Value
Investments in closed-end
preferred stock mutual funds. $ 319,166 $ 289,710 $ 267,956 $ 224,120
Investments in other equities.. 94,580 102,334 83,984 77,347
Total common stocks.. $ 413,746 $ 392,044 $ 351,940 $ 301,467
- - 12 -
MANAGEMENT'S DISCUSSION AND ANALYSIS
Three months ended September 30, 2000 compared to
three months ended September 30, 1999
(Thousands of Dollars Except Per Share Data)
Premiums
The following table compares direct premiums written, net premiums
written and earned premiums for the three months ended September 30, 2000 and
1999:
(Dollars in thousands)
Three Months Ended September 30,
2000 1999 Change % Change
Direct Premiums Written:
Personal Automobile in Massachusetts........ $204,046 $175,062 $ 28,984 16.6%
Personal Automobile in All Other States..... 26,967 25,325 1,642 6.5
Commercial Automobile in Massachusetts...... 9,429 7,323 2,106 28.8
Homeowners in Massachusetts................. 19,551 17,107 2,444 14.3
Homeowners in All Other States.............. 4,512 4,262 250 5.9
Other Lines in Massachusetts................ 3,815 3,212 603 18.8
Other Lines in All Other States............. 95 89 6 6.7
Total Direct Premiums Written............ $268,415 $232,380 $ 36,035 15.5%
Net Premiums Written:
Direct Premiums............................. $268,415 $232,380 $ 36,035 15.5%
Assumed Premiums from C.A.R................. 19,876 22,728 (2,852) (12.5)
Ceded Premiums to C.A.R..................... (16,728) (18,589) 1,861 (10.0)
Ceded Premiums to Other than C.A.R.......... (20,949) (15,319) (5,630) 36.8
Total Net Premiums Written............... $250,614 $221,200 $ 29,414 13.3%
Earned Premiums:
Personal Automobile in Massachusetts........ $182,773 $161,303 $ 21,470 13.3%
Personal Automobile in All Other States..... 24,954 24,655 299 1.2
Commercial Automobile....................... 8,376 7,286 1,090 15.0
Homeowners in Massachusetts................. 4,330 4,177 153 3.7
Homeowners in All Other States.............. 870 3,484 (2,614) (75.0)
Other Lines in Massachusetts................ 812 714 98 13.7
Other Lines in All Other States............. 142 59 83 140.7
Assumed Premiums from C.A.R................. 17,362 21,189 (3,827) (18.1)
Assumed Premiums from Other than C.A.R...... 67 55 12 21.8
Total Earned Premiums.................... $239,686 $222,922 $ 16,764 7.5%
Earned Premiums in Massachusetts............ $196,291 $173,480 $ 22,811 13.1%
Earned Premiums-Assumed..................... 17,429 21,244 (3,815) (18.0)
Earned Premiums in All Other States......... 25,966 28,198 (2,232) (7.9)
Total Earned Premiums.................... $239,686 $222,922 $ 16,764 7.5%
- - 13 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
The $28,984 or 16.6% increase in Massachusetts personal automobile
direct premiums written during the third quarter of 2000 resulted primarily
from increases of 9.9% and 12.6% in the number of Massachusetts personal
automobile exposures for liability and physical damage coverage, respectively,
coupled with increases of 7.2% and 1.5% in the average premium rate per
exposure for Massachusetts personal automobile liability and physical damage
exposures, respectively.
The increase in Massachusetts personal automobile exposures, as depicted
in Note 12 of the Notes to Unaudited Consolidated Financial Statements, is
primarily attributable to increased business resulting from the insolvency of
Trust Insurance Company ("Trust"), a Massachusetts personal automobile
insurance writer. The average premium per exposure percentage changes for the
third quarter of 2000 were primarily the result of rate modifications in the
individual coverage components in the 2000 state mandated average rate
increase, combined with changes in the Company's safe driver rate deviations.
The combination of these factors resulted in a 6.0% increase in the average
personal automobile premium per exposure for the third quarter of 2000 as
compared to 8.8% during the third quarter of 1999. Despite the 2000 state
mandated average rate increase of only 0.7%, the Company's increase in the
average personal automobile premium per exposure was primarily due to the
above noted changes coupled with the fact that the rate decision does not
anticipate purchases of new automobiles in the year in which the rate decision
applies and the Company's mix of personal automobile business differs from
that of the industry. In 2000, the Company offered its customers safe driver
deviations of 6.0% to drivers with SDIP classifications of Step 9 and 2.0% for
Step 10 (8.0% for Step 9 and 3.0% for Step 10 in 1999).
The AAA affinity group discount for 2000 was established at 6.0% which
was unchanged from 1999. In 2000, for drivers who qualify, the Company's AAA
affinity group discount and safe driver deviations can be combined for up to
an 11.6% reduction (13.5% in 1999) from state mandated rates.
Other states personal automobile direct premiums written increased
$1,642 or 6.5% during the third quarter of 2000 as compared to the same period
in 1999. Personal automobile direct premiums written by American Commerce,
located in Columbus, Ohio, for the third quarter of 2000 increased $370 or
1.9% to $20,197 as compared to $19,827 for the same period a year ago.
Personal automobile direct premiums written for Commerce West Insurance
Company ("Commerce West"), located in Pleasanton, California, increased $1,272
or 23.1 % to $6,770 during the third quarter of 2000 as compared to $5,498
during the same period a year ago. Both American Commerce and Commerce West
write predominantly personal automobile insurance. American Commerce writes
personal automobile insurance in 24 states while Commerce West writes personal
automobile insurance in the state of California. Both companies target
preferred insurance risks, however Commerce West has recently initiated a non-
standard auto product which is the primary reason for their growth.
Direct premiums written for Massachusetts commercial automobile
insurance increased by $2,106 or 28.8%, due primarily to an increase of
approximately 12.3% in the number of policies written and by a 14.7% increase
in the average commercial automobile premium per policy. The increase is
primarily attributable to increased business resulting from the insolvency of
Trust mentioned earlier.
Direct premiums written for Massachusetts homeowners insurance
increased by $2,444 or 14.3% due primarily to an 18.5% increase in the number
of policies written offset by a 2.9% decrease in the average premium per
policy. Other state homeowners insurance written by American Commerce
increased $250 or 5.9% to $4,512 primarily as the result of a 5.8% increase in
homeowner policies.
- - 14 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
The $29,414 or 13.3% increase in net premiums written was primarily due
to the growth in direct premiums written as described above and by a decrease
in premiums ceded to the Commonwealth Automobile Reinsurers ("C.A.R.") offset
by an increase to premiums ceded to reinsurers other than C.A.R. and by a
decrease of premiums assumed from C.A.R. Premiums ceded to reinsurers other
than C.A.R. during the third quarter of 2000 increased $5,630 or 36.8% as
compared to the third quarter of 1999 primarily as a result of American
Commerce joining the quota-share reinsurance program effective January 1,
2000. An unearned premium transfer of approximately $6.0 million occurred
effective January 2000. Of the $29,414 increase in net premiums written,
$30,853 was associated with Massachusetts business.
The $16,674 or 7.5% increase in earned premiums during the third quarter
of 2000 as compared to the third quarter of 1999 was primarily attributable to
increases to the average rates per exposure for Massachusetts personal
automobile liability and physical damage, coupled with smaller increases in
exposures written, mentioned previously. This resulted in a $22,811 or 13.1%,
increase for Massachusetts earned premiums. The remaining components were a
$3,827 or 18.1% decrease in earned premiums assumed from C.A.R., a $2,702 or
11.8% decrease attributable to American Commerce and an increase of $470 or
8.8% in earned premiums from Commerce West.
Investment Income
Net investment income is affected primarily by the composition of the
Company's investment portfolio. The following table summarizes the
composition of the Company's investment portfolio, at cost, at September 30,
2000 and 1999 (The Company's investment portfolio, at market is shown in the
table found on page 25):
Investments, at cost September 30,
(Dollars in thousands) % of % of
2000 Invest. 1999 Invest.
Fixed maturities (GNMA & FNMA mortgage-
backed bonds, Corporate bonds, U.S.
Treasury bonds and notes and Tax-
exempt state and municipal bonds)...... $ 664,570 47.9% $ 683,856 51.3%
Preferred stocks......................... 223,653 16.1 231,452 17.4
Investments in closed-end
preferred stock mutual funds........... 319,166 23.0 238,606 17.9
Other equity securities.................. 94,580 6.8 82,205 6.2
Total common stocks.................. 413,746 29.8 320,811 24.1
Total equities....................... 637,399 45.9 552,263 41.5
Mortgages and collateral loans (net of
allowance for possible loan losses).... 52,645 3.8 70,062 5.2
Cash and short-term investments.......... 11,029 0.8 13,296 1.0
Other investments........................ 22,200 1.6 13,229 1.0
Total investments.................... $1,387,843 100.0% $1,332,706 100.0%
The mortgage balance decreased from last year due to the sale, without
recourse, of $20,766 of mortgages to an outside party. The Company recorded a
loss of $724 and recorded a receivable for investments sold of $20,042. The
Company's investment strategy is to maximize after-tax investment income
through high quality securities coupled with acquiring equity investments
which may forgo current investment yield in favor of potential higher yielding
future capital appreciation.
- - 15 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
As depicted in the accompanying table, third quarter 2000 net
investment income increased $1,910 or 8.6%, compared to the same period in
1999, principally as a result of an increase in average invested assets (at
cost). Net investment income as a percentage of total average investments was
7.0% and 6.7% in the third quarter of 2000 and 1999, respectively. Net
investment income after tax as a percentage of total average investments was
5.7% and 5.6% in the third quarter of 2000 and 1999, respectively.
Investment Return Quarter Ending September 30,
(Dollars in thousands) 2000 1999
Average month-end investments (at cost)... $1,380,139 $1,326,547
Net investment income..................... 24,120 22,210
Net investment income after-tax........... 19,726 18,628
Net investment income as a percentage
of average net investments (at cost).... 7.0% 6.7%
Net investment income after-tax as a
percentage of average net
investments (at cost)................... 5.7% 5.6%
Amortization of Excess of Book Value of Subsidiary Interest over Cost
As a result of the acquisition of American Commerce, the amount
representing the excess of the fair value of the net assets acquired over the
purchase price at January 29, 1999 was $16,465. The amount is being amortized
into revenue on a straight-line basis over a five-year period. The amount
amortized into revenue increased $78 or 10.2% in the third quarter of 2000 to
$847 as compared to $769 in the same period in 1999. The increase is
primarily attributable to minor adjustments, in the excess of book value of
subsidiary interest over cost, allowable up to one year following the
completion of the acquisition.
Investment Gains and Losses
Net realized investment gains totaled $2,421 during the third quarter
of 2000 as compared to net realized investment gains of $1,686 during the same
period in 1999. A significant portion of the net realized gains during the
third quarter of 2000 was the result of sales of preferred stocks and common
stocks, offset by realized losses attributable to the sale of mortgage loans
and small losses attributable to the sales of non-taxable bonds, and the
maturity of Government National Mortgage Association ("GNMA") mortgage backed
bonds. Net realized gains during the third quarter of 1999 were primarily the
result of sales of common stock, offset by small net realized losses in the
sales of non-taxable bonds, preferred stocks and the maturity of GNMA's.
- - 16 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Loss and Loss Adjustment Expenses
Losses and loss adjustment expenses ("LAE") incurred increased $27,980
or 17.8% during the third quarter of 2000 as compared to the same period a
year ago. The increase was attributable to higher incurred losses on
Massachusetts business, which was the direct result of the increased personal
automobile direct premiums earned discussed earlier and an increase in losses
and LAE assumed from C.A.R. Losses and LAE incurred (on a statutory basis) as
a percentage of insurance premiums earned ("loss ratio") increased to 77.3%
for the third quarter of 2000 compared to 70.7% for the third quarter of 1999.
The increase in the loss ratio was due to a combination of factors including
an additional $5,000 charge recorded due to the insolvency of Trust; an
increase in reported residual market losses from previous quarters; and,
higher losses primarily due to increases in physical damage claims
countrywide. The ratio of net incurred losses, excluding LAE, to premiums
earned ("pure loss ratio") on Massachusetts personal automobile was 67.6% for
the third quarter of 2000 compared to 61.1% for the same period a year ago.
The commercial automobile pure loss ratio increased to 61.6% during the third
quarter 2000 as compared to 55.2% for the same period a year ago. This
increase was primarily due to worse experience in the business assumed from
C.A.R. during this period. For homeowners (gross of reinsurance), the pure
loss ratio was 38.8% during the third quarter of 2000 as compared to 43.4% for
the same period a year ago. This decrease was primarily the result of fewer
claims for Massachusetts homeowner business due to favorable weather
conditions and favorable development in the homeowners property area during
the third quarter of 2000. Pure loss ratios of subsidiaries in other states
increased to 67.2% during the third quarter of 2000 as compared to 59.6% for
the same period a year ago. This increase was due primarily to increases in
the severity of bodily injury claims and higher homeowner catastrophe losses.
Policy Acquisition Costs
Policy acquisition costs expensed increased by $2,360 or 3.9% during
the third quarter of 2000 as compared to the same period a year ago. As a
percentage of net premiums written, underwriting expenses for the insurance
companies (on statutory basis) decreased to 26.6% for the third quarter of
2000 as compared to 27.6% for the same period a year ago. The decrease, as
compared to the same period a year ago, was primarily attributable to lower
direct commission expense, as a percentage of net premiums written, associated
with a decrease in Massachusetts mandated minimum commissions, in addition to
a $1,500 decrease in the provision for accrued contingent commissions combined
with a $1,358 decrease in underwriting expenses assumed from C.A.R. were
offset by a $4,900 charge representing company's allocation from the
Massachusetts Insurers Insolvency Fund ("MIIF") for the Trust insolvency.
Income Taxes
The Company's effective tax rate was 16.3% for the third quarter of
2000 as compared to 19.8% for the same period a year ago. In both years the
effective rate was lower than the statutory rate of 35% primarily due to tax-
exempt interest income and the corporate dividends received deduction. The
lower effective tax rate for the third quarter of 2000 was the result of the
higher underwriting loss coupled with the tax exempt interest and the
dividends received deduction comprising a greater portion of earnings before
taxes.
- - 17 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Minority Interest
As a result of the joint venture with AAA Southern New England ("AAA
SNE") and the acquisition of American Commerce, the Company's interest in
ACIC Holding Co., Inc., through Commerce, a wholly-owned subsidiary of
Commerce Holdings, Inc. ("Commerce Holdings"), is represented by ownership of
80% of the outstanding shares of common stock at September 30, 2000. AAA SNE
maintains a 20% common stock ownership. The minority interest in net loss of
subsidiary of $348 included in these consolidated financial statements for
the third quarter of 2000 represents 20% of the net loss during the third
quarter for ACIC Holding Co., Inc. which is calculated after the $2,310
preferred stock dividend paid to Commerce.
Net Earnings
Net earnings decreased $7,576 or 28.3% to $19,365 during the third
quarter of 2000 as compared to $27,021 for the same period a year ago.
Operating earnings, which exclude the after-tax impact of net realized
investment gains, decreased $8,134 or 31.4% to $17,791 ($0.52 per share)
during the third quarter of 2000 as compared to $25,925 ($0.75 per share) for
the same period a year ago, both as a result of the factors previously
mentioned. Adjusting for the Trust insolvency, operating earnings would have
been $24,226 (0.71 per share) for the third quarter of 2000.
- - 18 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS
Nine months ended September 30, 2000 compared to
nine months ended September 30, 1999
(Thousands of Dollars Except Per Share Data)
Premiums
The following table compares direct premiums written, net premiums
written and earned premiums for the nine months ended September 30, 2000 and
1999:
(Dollars in thousands)
Nine Months Ended September 30,
2000 1999 Change % Change
Direct Premiums Written:
Personal Automobile in Massachusetts........ $658,900 $583,500 $ 75,400 12.9%
Personal Automobile in All Other States..... 77,409 68,711* 8,698 12.7
Commercial Automobile in Massachusetts...... 31,750 27,406 4,344 15.9
Homeowners in Massachusetts................. 48,495 45,161 3,334 7.4
Homeowners in All Other States.............. 12,482 10,656* 1,826 17.1
Other Lines in Massachusetts................ 11,237 9,850 1,387 14.1
Other Lines in All Other States............. 322 231* 91 39.4
Total Direct Premiums Written............ $840,595 $745,515 $ 95,080 12.8%
Net Premiums Written:
Direct Premiums............................. $840,595 $745,515* $ 95,080 12.8%
Assumed Premiums from C.A.R................. 60,736 69,821 (9,085) (13.0)
Ceded Premiums to C.A.R..................... (52,152) (52,319) 167 (0.3)
Ceded Premiums to Other than C.A.R.......... (58,906) (41,300) (17,606) 42.6
Total Net Premiums Written............... $790,273 $721,717 $ 68,556 9.5%
Earned Premiums:
Personal Automobile in Massachusetts........ $524,182 $467,386 $ 56,796 12.2%
Personal Automobile in All Other States..... 74,502 66,830* 7,672 11.5
Commercial Automobile....................... 23,596 21,695 1,901 8.8
Homeowners in Massachusetts................. 12,819 12,458 361 2.9
Homeowners in All Other States.............. 3,042 9,013* (5,971) (66.2)
Other Lines in Massachusetts................ 2,494 2,358 136 5.8
Other Lines in All Other States............. 183 148* 35 23.6
Assumed Premiums from C.A.R................. 58,744 63,262 (4,518) (7.1)
Assumed Premiums from Other than C.A.R...... 211 180 31 17.2
Total Earned Premiums.................... $699,773 $643,330 $ 56,443 8.8%
Earned Premiums in Massachusetts............ $563,091 $503,897 $ 59,194 11.7%
Earned Premiums-Assumed..................... 58,955 63,442 (4,487) (7.1)
Earned Premiums in All Other States......... 77,727 75,991* 1,736 2.3
Total Earned Premiums.................... $699,773 $643,330 $ 56,443 8.8%
* Includes eight month results of American Commerce since the
January 29, 1999 acquisition.
- - 19 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
The $75,400 or 12.9% increase in Massachusetts personal automobile
direct premiums written resulted primarily from increases of 5.9% and 7.9%, in
the number of Massachusetts personal automobile exposures for liability and
physical damage coverage, respectively, coupled with increases of 7.7% and
2.4% in the average premium rate per exposure for Massachusetts personal
automobile liability and physical damage exposures, respectively.
The increase in Massachusetts personal automobile exposures, as depicted
in Note 12 of Notes to Unaudited Consolidated Financial Statements, is
primarily attributable to increased business resulting from the insolvency of
Trust, a Massachusetts personal automobile insurance writer. The above
percentage changes for the first nine months of 2000 were primarily the result
of rate modifications in the individual coverage components in the 2000 state
mandated average rate increase, combined with changes in the Company's safe
driver rate deviations. The combination of these factors resulted in a 6.5%
increase in the average personal automobile premium per exposure for the nine
months of 2000 as compared to 8.9% during the first nine months of 1999.
Despite the 2000 state mandated average rate increase of only 0.7%, the
Company's increase in the average personal automobile premium per exposure was
primarily due to the above noted changes coupled with the fact that the rate
decision does not anticipate purchases of new automobiles in the year in which
the rate decision applies and the Company's mix of personal automobile
business differs from that of the industry. In 2000, the Company offered its
customers safe driver deviations of 6.0% to drivers with SDIP classifications
of Step 9 and 2.0% for Step 10 (8.0% for Step 9 and 3.0% for Step 10 in 1999).
The AAA affinity group discount for 2000 was established at 6.0%, which
was unchanged from 1999. In 2000, for drivers who qualify, the Company's AAA
affinity group discount and safe driver deviations can be combined for up to
an 11.6% reduction (13.5% in 1999) from state mandated rates.
The $8,698 or 12.7% increase in other states personal automobile direct
premiums written was primarily attributable to American Commerce whose year to
date 2000 results reflect a full nine months as compared to eight months in
1999. Personal automobile direct premiums written by American Commerce for
the first nine months of 2000 were $58,638 as compared to $52,193 for the
eight month period ended September 30, 1999. Personal automobile direct
premiums written for Commerce West increased $2,253 or
13.6% to $18,771 during the nine months of 2000 as compared to $16,518 during
the same period a year ago. Both American Commerce and Commerce West write
predominantly personal automobile insurance. American Commerce writes
personal automobile insurance in 24 states while Commerce West writes personal
automobile insurance in the state of California. Both companies target
preferred insurance risks, however Commerce West has initiated a non-standard
auto product, which is the prime reason for their growth.
Direct premiums written for Massachusetts commercial automobile
insurance increased by $4,344 or 15.9%, due primarily to an increase of
approximately 9.7% in the number of policies written and by a 5.6% increase in
the average commercial automobile premium per policy.
Direct premiums written for Massachusetts homeowners insurance,
increased by $3,334 or 7.4% due primarily to a 12.3% increase in the number of
policies written offset by a 4.2% decrease in the average premium per policy.
The $1,826 increase in other states homeowners insurance was primarily the
result of American Commerce premiums being written for nine months in 2000
versus eight months in 1999.
- - 20 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
The $68,556 or 9.5% increase in net premiums written was due to the
growth in direct premiums written as described above offset primarily by a
$9,085 or 13.0% decrease in premiums assumed from C.A.R. and an increase of
$17,606 or 42.6% in premiums ceded to reinsurers other than C.A.R. during the
first nine months of 2000 as compared to the first nine months of 1999. The
increase in premiums ceded to reinsurers other than C.A.R. was a result of
American Commerce joining the quota-share reinsurance program effective
January 1, 2000 and increases in Massachusetts homeowners premiums. An
unearned premium transfer of approximately $6.0 million occurred effective
January 2000.
The $56,443 or 8.8% increase in earned premiums during the nine months
of 2000 as compared to the first nine months of 1999 was primarily
attributable to increases to the average rates per exposure coupled with the
increases to exposures for Massachusetts personal automobile liability and
physical damage, mentioned previously. This resulted in a $59,194 or 11.7%,
increase for Massachusetts earned premiums. The primary remaining components
were a $1,316 or 2.2% increase attributable to American Commerce, a $420 or
2.6% increase in earned premiums from Commerce West offset by a $4,518 or
7.1% decrease in earned premiums assumed from C.A.R. The increase in earned
premiums for American Commerce is primarily attributable to the nine months
results in 2000 versus the eight month results in 1999, net of the effects of
reinsurance.
Investment Income
Net investment income is affected primarily by the composition of the
Company's investment portfolio. The following table summarizes the
composition of the Company's investment portfolio, at cost, at September 30,
2000 and 1999 (The Company investment portfolio, at market is shown in the
table found on page 25):
Investments, at cost September 30,
(Dollars in thousands) % of % of
2000 Invest. 1999 Invest.
Fixed maturities (GNMA & FNMA mortgage-
backed bonds, Corporate bonds, U.S.
Treasury bonds and notes and Tax-
exempt state and municipal bonds)...... $ 664,570 47.9% $ 683,856 51.3%
Preferred stocks......................... 223,653 16.1 231,452 17.4
Investments in closed-end
preferred stock mutual funds........... 319,166 23.0 238,606 17.9
Other equity securities.................. 94,580 6.8 82,205 6.2
Total common stocks.................. 413,746 29.8 320,811 24.1
Total equities....................... 637,399 45.9 552,263 41.5
Mortgages and collateral loans (net of
allowance for possible loan losses).... 52,645 3.8 70,062 5.2
Cash and short-term investments.......... 11,029 0.8 13,296 1.0
Other investments........................ 22,200 1.6 13,229 1.0
Total investments.................... $1,387,843 100.0% $1,332,706 100.0%
The Company's investment strategy is to maximize after-tax investment
income through high quality securities coupled with acquiring equity
investments which may forgo current investment yield in favor of potential
higher yielding future capital appreciation.
- - 21 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
As depicted in the accompanying table, nine month 2000 net investment
income increased $5,668 or 8.7%, compared to the same period in 1999,
principally as a result of an increase in average invested assets (at cost).
Net investment income as a percentage of total average investments was 6.9% in
the first nine months of 2000 and 6.8% in the same period of 1999. Net
investment income after tax as a percentage of total average investments was
5.7% in both the first nine months of 2000 and 1999.
Investment Return At September 30,
(Dollars in thousands) 2000 1999
Average month-end investments (at cost).. $1,371,730 $1,286,272
Net investment income.................... 71,008 65,340
Net investment income after-tax.......... 58,657 54,574
Net investment income as a percentage
of average net investments (at cost)... 6.9% 6.8%
Net investment income after-tax as a
percentage of average net
investments (at cost).................. 5.7% 5.7%
Amortization of Excess of Book Value of Subsidiary Interest over Cost
As a result of the acquisition of American Commerce, the amount
representing the excess of the fair value of the net assets acquired over the
purchase price at January 29, 1999 was $16,465. The amount is being
amortized into revenue on a straight-line basis over a five-year period. The
amount amortized into revenue increased $491 or 23.9% in the first nine
months of 2000 to $2,542 as compared to the same period in 1999. The
increase is partially attributable to the nine months of amortization during
the first half of 2000 versus the eight months of amortization during the
first half of 1999 and due to minor adjustments, in the excess of book value
of subsidiary interest over cost, allowable up to one year following the
completion of the acquisition.
Investment Gains and Losses
Net realized investment gains totaled $2,749 during the first nine
months of 2000 as compared to net realized investment gains of $7,831 during
the same period in 1999. A significant portion of the net realized gains in
2000 was the result of sales of preferred stocks and common stocks offset by
realized losses attributable to the sale of mortgage loans and net realized
losses on the sale of non-taxable bonds and on the maturity of GNMA's. Net
realized gains during the nine months of 1999 were primarily the result of
sales of common stock offset by losses in the sales of non-taxable bonds,
preferred stock, and on the maturity of GNMA's.
- - 22 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Loss and Loss Adjustment Expenses
Losses and loss adjustment expenses ("LAE") incurred increased $62,125
or 13.1% during the first nine months of 2000 as compared to the same period a
year ago. The increase was attributable to higher incurred losses on
Massachusetts business, which was the direct result of the increased personal
automobile earned premiums discussed earlier, increased computer services
expenses due to fewer expenses in 1999 as a result of a terminated computer
services contract, and increases in losses and LAE assumed from C.A.R. Losses
and LAE incurred (on a statutory basis) as a percentage of insurance premiums
earned ("loss ratio") increased to 77.0% for the first nine months of 2000
compared to 74.3% for the first nine months of 1999. The loss ratio was
adversely impacted by an $8,000 charge due to the insolvency of Trust. The
ratio of net incurred losses, excluding LAE, to premiums earned ("pure loss
ratio") on Massachusetts personal automobile was 68.0% for the first nine
months of 2000 compared to 66.6% for the same period a year ago. This slight
increase was primarily due to by higher physical damage losses. The
commercial automobile pure loss ratio increased to 61.7% during the first nine
months of 2000 as compared to 60.1% for the same period a year ago. For
homeowners (gross of reinsurance), the pure loss ratio was 39.6% during the
first nine months of 2000 as compared to 38.1% for the same period a year ago.
Pure loss ratios of subsidiaries in other states increased to 64.0% during the
first nine months of 2000 as compared to 60.2% for the same period a year ago.
Policy Acquisition Costs
Policy acquisition costs expensed increased by $2,052 or 1.2% during
the first nine months of 2000 as compared to the same period a year ago. As a
percentage of net premiums written, underwriting expenses for the insurance
companies (on statutory basis) decreased to 24.2% for the first nine months of
2000 as compared to 26.1% for the same period a year ago. The decrease was
primarily attributable to lower direct commission expense, as a percentage of
net premiums written, associated with a decrease in Massachusetts mandated
minimum commissions, an $8,000 decrease in the provision for accrued
contingent commissions and a $2,281 decrease in underwriting expenses assumed
from C.A.R. offset by increased business, M.I.I.F. charges and lower prior
year computer services expenses.
Income Taxes
The Company's effective tax rate was 15.6% for the first nine months of
2000 as compared to 17.6% for the same period a year ago. In both years the
effective rate was lower than the statutory rate of 35% primarily due to tax-
exempt interest income and the corporate dividends received deduction. The
lower effective tax rate for the first nine months of 2000 was the result of
the higher underwriting loss coupled with the tax-exempt interest and the
dividends received deduction comprising a greater portion of earnings before
taxes.
Minority Interest
As a result of the joint venture with AAA Southern New England ("AAA
SNE") and the acquisition of American Commerce, the Company's interest in ACIC
Holding Co., Inc., through Commerce, a wholly-owned subsidiary of Commerce
Holdings, Inc. ("Commerce Holdings"), is represented by ownership of 80% of
the outstanding shares of common stock at September 30, 2000. AAA SNE
maintains a 20% common stock ownership. The minority interest in net loss of
subsidiary of $638 included in these consolidated financial statements for the
first nine months of 2000 represents 20% of the net losses for ACIC Holding
Co., Inc. which is calculated after the $6,810 preferred stock dividend was
paid to Commerce.
- - 23 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Net Earnings
Net earnings decreased $3,879 or 6.0% to $60,615 during the first nine
months of 2000 as compared to $64,494 for the same period a year ago.
Operating earnings, which exclude the after-tax impact of net realized
investment gains, decreased $576 or 1.0% to $58,828 ($1.72 per share) during
the first nine months of 2000 as compared to $59,404 ($1.69 per share) for
the same period a year ago, both as a result of the factors previously
mentioned. Adjusting for the Trust insolvency, operating earnings would have
been $67,213 (1.96 per share) for the first nine months of 2000.
- - 24 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Liquidity and Capital Resources
The focus of the discussion of liquidity and capital resources is on
the Consolidated Balance Sheets on page 3 and the Consolidated Statements of
Cash Flows on pages 5 and 6. Stockholders' equity increased by $49,695 or
7.7%, during the first nine months of 2000 as compared to December 31, 1999.
The increase resulted from $60,615 in net earnings and by changes in other
comprehensive income, net of income taxes, on fixed maturities and preferred
and common stocks of $26,225, offset by dividends paid to stockholders of
$29,374 and Treasury Stock purchased of $7,771. Total assets at September
30, 2000 increased $198,939 or 10.6% to $2,070,411 as compared to total
assets of $1,871,472 at December 31, 1999. The majority of this growth is
reflected in an increase of invested assets, at market value, of $76,862 or
6.1%, of $73,792 or 37.8% in premiums receivable, a $13,769 or 14.0%
increase in deferred policy acquisition costs, a $13,718 or 28.4% increase
in receivable from reinsurers and by a 20,798 or 8.0% increase in all other
assets combined. The increase to premiums receivable is attributable to
increased Massachusetts business. The increase in invested assets is
primarily attributable to increases to the Company's holdings of closed-end
preferred stock mutual funds as shown in the table below.
The Company's investment portfolio, at market, is shown on the
following table as of September 30, 2000 and December 31, 1999 (for
investments, at cost, refer to the table found on page 14):
September 30, December 31,
Investments, at market % of % of
(Dollars in thousands) 2000 Invest. 1999 Invest.
Fixed maturities (GNMA & FNMA mortgage-
backed bonds Corporate bonds, U.S.
Treasury bonds and notes Tax-
exempt state and municipal bonds).... $ 659,715 49.0% $ 647,338 51.0%
Preferred stocks....................... 206,881 15.4 211,049 16.6
Investment in closed-end
preferred stock mutual funds......... 289,710 21.5 224,120 17.7
Other equity securities................ 102,334 7.6 77,347 6.1
Total common stocks................ 392,044 29.1 301,467 23.8
Total equities..................... 598,925 44.5 512,516 40.4
Mortgages and collateral loans (net of
allowance for possible loan losses).. 52,645 3.9 72,451 5.7
Cash and short-term investments........ 11,029 0.8 22,535 1.8
Other investments...................... 23,527 1.8 14,139 1.1
Total investments.................. $1,345,841 100.0% $1,268,979 100.0%
- - 25 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
The Company's fixed maturity portfolio is comprised of GNMAs and FNMA
mortgage backed bonds (10.8%), municipal bonds (74.7%), corporate bonds
(14.0%) and U.S. Treasury bonds (0.5%). As of September 30, 2000, the book
value of the Company's fixed maturity portfolio exceeded its market value by
$4,855($3,156 after taxes, or $0.09 per share). The cost of the Company's
preferred stocks exceeded market value by $16,772 ($10,902 after taxes, or
$0.32 per share). The cost of the Company's common stocks exceeded market
value by $21,702 ($14,106 after taxes, or $0.41 per share).
Preferred stocks decreased $4,168 or 2.0% and common stocks (primarily
composed of closed-end preferred stock mutual funds) increased $90,577 or
30.0%, during the first nine months of 2000 primarily as a result of the
Company's investment strategy. The Company's strategy is to maximize after-
tax investment income through high quality securities coupled with acquiring
equity investments which may forego current investment yield in favor of
potential higher yielding capital appreciation in the future.
The Company's liabilities totaled $1,373,402 at September 30, 2000 as
compared to $1,223,650 at December 31, 1999. The $149,752 or 12.2% increase
was comprised of an increase of $58,398 or 8.7% in loss and loss adjustment
expense reserves, an increase of $100,223 or 21.9% in unearned premiums,
offset by a decrease of $6,206 or 18.5% in contingent commissions accrued
and a decrease of $1,649 or 15.3% in excess of book value of subsidiary
interest over cost (formerly referred to as Negative Goodwill) associated
with the January 29, 1999 acquisition of American Commerce. The net effect
of all other liabilities decreased $1,014 or 2.1%. The significant increase
to the Company's unearned premiums was attributable to the increased
Massachusetts business during the second and third quarters of 2000. The
decrease in contingent commissions is primarily due to $18,205 in payments
to agents offset by current year accruals which are lower than 1999
accruals.
The primary sources of the Company's liquidity are funds generated
from insurance premiums, net investment income, premium finance and service
fees and the maturing and sale of investments as reflected in the
Consolidated Statements of Cash Flows on pages 5 and 6.
The Company's operating activities provided cash of $87,517 in the
first nine months of 2000, as compared to $87,208 during the same period a
year ago. These cash flows were primarily impacted by the fact that while
premiums collected increased $64,915 or 9.9% in the first nine months of
2000, losses and LAE paid increased $40,445 or 9.0%, policy acquisition
costs paid increased $14,126 or 7.8%, and federal income tax payments
increased $13,665 or 87.8% in the first nine months of 2000 as compared to
the same period a year ago. The increase in premiums was primarily the
result of the increases to both liability (5.9%) and physical damage (7.9%)
exposures combined with an average overall rate increase in premium per
exposure of 6.5%.
The increase in net losses and LAE paid amounted to $40,445 or 9.0% as
compared to the same period a year ago. This increase resulted primarily
from an increase in incurred losses on Massachusetts business and an
increase from Other than Massachusetts business. The increase in incurred
losses on Massachusetts business is primarily attributable to higher private
passenger automobile collision and property damage payments and slightly
higher private passenger automobile bodily injury payments. The increase in
incurred losses on Other than Massachusetts business is primarily
attributable to nine months of activity for the period ended September 30,
2000 versus activity for the eight months for the period ended September 30,
1999 for American Commerce.
- - 26 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
The net cash flows used in investing activities were primarily the
result of purchases of fixed maturities and equity securities (predominantly
closed-end preferred stock mutual funds), which were offset by proceeds from
the sale and maturity of fixed maturities and equity securities (predominantly
common stocks and preferred stocks). Investing activities were funded by
accumulated cash and cash provided by operating activities during 2000 and
1999.
Cash flows used in financing activities totaled $37,145 during the
first nine months of 2000 compared to $65,632 during the same period a year
ago. The 2000 cash flows used in financing activities consisted of $29,374 in
dividends paid to stockholders and $7,771 used to purchase 299,700 shares of
Treasury Stock under the Company's stock buyback programs. The 1999 cash
flows used in financing activities consisted of dividends paid to stockholders
of $29,021 and $36,611 used to purchase 1,366,2000 shares of Treasury Stock.
The Company's funds are generally invested in securities with
maturities intended to provide adequate funds to pay claims without the forced
sale of investments. The carrying value (at market) of total investments at
September 30, 2000 was $1,345,841. At September 30, 2000, the Company held
cash and short-term investments of $11,029 (net of outstanding checks of
$37,796). These funds provide sufficient liquidity for the payment of claims
and other short-term cash needs. The Company also relies upon dividends from
its subsidiaries for its cash requirements. Every Massachusetts insurance
company seeking to make any dividend or other distributions to its
stockholders may, within certain limitations, pay such dividends and then file
a report with the Commissioner. Dividends in excess of these limitations are
called extraordinary dividends. An extraordinary dividend is any dividend or
other property, whose fair value together with other dividends or
distributions made within the preceding twelve months exceeds the greater of
ten percent of the insurer's surplus as regards to policyholders as of the end
of the preceding year, or the net income of a non-life insurance company for
the preceding year. No pro-rata distribution of any class of the insurer's
own securities is to be included. No Massachusetts insurance company shall
pay an extraordinary dividend or other extraordinary distribution until thirty
days after the Commissioner has received notice of the intended distribution
and has not objected. No extraordinary dividends were paid in 2000 and 1999.
Periodically, sales have been made from the Company's fixed maturity
investment portfolio to actively manage portfolio risks, including credit-
related concerns, to optimize tax planning and to realize gains. This
practice will continue in the future.
Industry and regulatory guidelines suggest that the ratio of a property
and casualty insurer's annual net premiums written to statutory policyholders'
surplus should not exceed 3.00 to 1.00. The Company's annualized statutory
premiums to surplus ratio was 1.82 to 1.00 and 1.67 to 1.00 for the period
ended September 30, 2000 and 1999, respectively.
In keeping with the Company's long-term growth objective to expand
outside Massachusetts, in 1995 the Company acquired Commerce West, a personal
automobile insurer, located in Pleasanton, California. Most recently, the
Company formed a joint venture (ACIC Holding Co., Inc.) in November 1998, and
acquired, American Commerce located in Columbus, Ohio, in January 1999.
American Commerce writes automobile and homeowners insurance solely through 34
AAA independent insurance agencies in 24 states.
- - 27 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
In early 1999, Commerce, a subsidiary of the Company, invested $90,800
in the joint venture (ACIC Holding Co., Inc.) to fund the American Commerce
acquisition and to capitalize the joint venture that is owned together with
AAA SNE. Of this $90,800, Commerce invested $90,000 in the form of preferred
stock and an additional $800 representing its 80% common stock ownership. The
terms of the preferred stock call for quarterly cash dividends at the rate of
10% per annum. In the event cash dividends cannot be paid, additional
preferred stock will be issued. (Additional preferred stock was issued in the
second and third quarters of 2000.) AAA SNE invested $200 representing its
20% common stock ownership. Commerce consolidates ACIC Holding Co., Inc. and
it's wholly-owned subsidiary, American Commerce, for financial reporting and
tax purposes. Since 1995, Commerce has maintained an affinity group marketing
relationship with AAA Insurance Agency, Inc., a subsidiary of AAA SNE. AAA
Insurance Agency, Inc. has been an agent of Commerce since 1985.
Market Risk: Interest Rate Sensitivity and Equity Price Risk
The Company's investment strategy emphasizes investment yield while
maintaining investment quality. The Company's investment objective is to
maintain high quality diversified investments structured to maximize after-tax
investment income while minimizing risk. It is the Company's practice to only
invest in investment grade stock and fixed maturity securities. The Company's
funds are generally invested in securities with maturities intended to provide
adequate funds to pay claims and meet other operating needs without the forced
sale of investments. Periodically, sales have been made from the Company's
fixed maturity portfolio to actively manage portfolio risks, including credit-
related concerns, to optimize tax planning and to realize gains. This
practice will continue in the future.
In conducting investing activities, the Company is subject to, and
assumes, market risk. Market risk is the risk of an adverse financial impact
from changes in interest rates and market prices. The level of risk assumed
by the Company is a function of the Company's overall objectives, liquidity
needs and market volatility.
The Company manages its market risk by focusing on higher quality stock
and fixed income investments, by periodically monitoring the credit strength
of companies in which investments are made, by limiting exposure in any one
investment and by monitoring the quality of the investment portfolio by taking
into account credit ratings assigned by recognized rating organizations.
- - 28 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
As part of its investing activities, the Company assumes positions in
fixed maturity, stock, short-term and cash equivalents markets. The Company
is, therefore, exposed to the impacts of interest rate changes in the market
value of investments. For 2000, the Company's exposure to interest rate
changes and equity price risk has been estimated using sensitivity analysis.
The interest rate impact is defined as the effect of a hypothetical interest
rate change of plus-or-minus 200 basis points on the market value of fixed
maturities and preferred stocks. The equity price risk is defined as a
hypothetical change of plus-or-minus 10% in the fair value of common stocks.
Changes in interest rates would result in unrealized gains or losses in the
market value of the fixed maturity and preferred stock portfolio due to
differences between current market rates and the stated rates for these
investments. Based on the results of the sensitivity analysis at September
30, 2000 and 1999, the Company's estimated market exposure for a 200 basis
point increase (decrease) in interest rates were calculated. A 200 basis
point increase results in a decrease in the market value of the fixed
maturities and preferred stocks of $92,081 and $84,868 respectively. A 200
basis point decrease results in an increase in the market value of the same
securities of $53,676 and $47,208 respectively. The equity price risk impact
at September 30, 2000 and 1999, based upon a 10% increase in the fair value of
common stocks, would be an increase of $39,204 and $30,355 respectively.
Based upon a 10% decrease, common stocks would decrease $39,204 and $30,355
respectively. Long-term interest rates (30-year Treasury Bond) were 5.87% at
September 30, 2000 and 6.06% at September 30, 1999. Long-term interest rates
(30-year Treasury Bond) increased to 6.48% at December 31, 1999 from 5.08% at
December 31, 1998.
Stock Buyback and Dividends
The Company purchased 299,700 shares of Treasury Stock under the stock
buyback program during the first nine months of 2000 increasing total shares
of Treasury Stock to $3,940,148 at September 30, 2000. At September 30, 2000,
the Company has authority to purchase approximately 1.2 million additional
shares under the previously announced stock buyback program.
On September 15, 2000, the Company paid a quarterly dividend of $0.29
to stockholders of record as of September 1, 2000. The Company increased its
quarterly dividend to stockholders from $0.28 to $0.29 during the second
quarter of 2000.
Recent Accounting Developments
During 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("FASB 133") effective for
financial statements issued for fiscal years beginning after June 15, 1999.
Subsequently, during 1999, FASB issued Financial Accounting Standards No. 137
"Deferral of the Effective Date of FASB Statement 133" ("FASB 137"). The
adoption date was delayed to fiscal years beginning after June 15, 2000. The
Company had no derivative or hedging activity during the nine months of 1999
and 2000.
- - 29 -
The Commerce Group, Inc. and Subsidiaries
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Effects of Inflation and Recession
The Company generally is unable to recover the costs of inflation in
its personal automobile insurance line since the premiums it charges are
subject to state regulation. The premium rates charged by the Company for
Massachusetts personal automobile insurance are adjusted by the Commissioner
only at annual intervals. Such annual adjustments in Massachusetts premium
rates may lag behind related cost increases. Economic recessions will also
have an impact upon the Company, primarily through the policyholder's election
to decrease non-compulsory coverages afforded by the policy and decreased
driving, each of which tends to decrease claims.
To the extent inflation and economic recession influence yields on
investments, the Company is also affected. As each of these environments
affect current market rates of return, previously committed investments may
rise or decline in value depending on the type and maturity of investment.
Inflation and recession must also be considered by the Company in the
creation and review of loss and LAE reserves since portions of these reserves
are expected to be paid over extended periods of time. The anticipated effect
of economic conditions is implicitly considered when estimating liabilities
for losses and LAE. The importance of continually adjusting reserves is even
more pronounced in periods of changing economic circumstances.
Massachusetts Insurers Insolvency Fund
All of the insurers writing the types of insurance covered by the
M.I.I.F. are M.I.I.F. members. M.I.I.F. is obligated to pay any unpaid claim,
up to $300,000, against an insolvent insurer if the claim existed prior to the
declaration of insolvency or arose within 60 days thereafter. M.I.I.F.
assesses members the amounts necessary to pay both its obligations and the
expenses of handling covered claims. Subject to certain limitations,
assessments are made in the proportion that each member's net written premiums
for the preceding calendar year for all property and casualty lines of
business bore to the corresponding net written premiums for all members for
the same period. During the third quarter of 2000, the Company recorded a
$4.9 million charge representing the Company's allocation from M.I.I.F. for
the Trust insolvency. Trust was declared insolvent in July 27, 2000 and
subsequently placed into liquidation on August 2, 2000. The statute that
established M.I.I.F. also provides for the recoupment by insurers of amounts
paid to M.I.I.F. Historically, the Commissioner has allowed insurers to
recoup the amounts they paid M.I.I.F. through rate increases.
- - 30 -
The Commerce Group, Inc. and Subsidiaries
PART II - OTHER INFORMATION
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Form 8-K - none filed during the third quarter of 2000.
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.
THE COMMERCE GROUP, INC.
RANDALL V. BECKER
Randall V. Becker
Treasurer and Chief Accounting Officer
- - 31-
The Commerce Group, Inc. and Subsidiaries
PART II - OTHER INFORMATION
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Form 8-K - none filed during the third quarter of 2000.
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.
THE COMMERCE GROUP, INC.
Randall V. Becker
Treasurer and Chief Accounting Officer
- - 31-