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 June 30, 1997 Commission File Number 0-
16882
THE COMMERCE GROUP, INC
(Exact name of registrant as specified in its charter)
Massachusetts 04-2599931
(State or other (IRS Employer
jurisdiction Identification
of Incorporation) 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 August 1, 1997, the number of shares outstanding of the
registrant's common stock (excluding Treasury Shares) was
36,042,652
Page 1 of 20
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The Commerce Group, Inc.
Table of Contents
Page No.
Part I - Financial Information
Consolidated Balance Sheets at
June 30, 1997 (Unaudited) and December 31,
1996..................................................... 3
Consolidated Statements of Earnings for the
Three and Six Months Ended June 30, 1997 and 1996 (Unaudited)
................................. 4
Consolidated Statements of Cash Flows for the
Six Months Ended June 30, 1997 and 1996
(Unaudited)............................................... 5
Notes to Unaudited Consolidated Financial
Statements.................................................. 6
Management's Discussion and
Analysis................................................................
................ 7
Part II - Other Information
Item 4
Results of Votes of Security
Holders.................................................................
............... 19
Item 6
Exhibits and Reports on Form 8-
K.......................................................................
........... 20
Signature
........................................................................
................................................... 20
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THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Thousands of Dollars)
June 30, December 31,
1997 1996
(Unaudited)
ASSETS
Investments:
Fixed maturities, at market (cost: $667,706 in 1997 and $700,511
in 1996)....................... $ 685,229 $ 716,702
Equity securities, at market (cost: $264,746 in 1997 and $214,406
in 1996)...................... 291,582 233,721
Mortgage loans on real estate and collateral notes receivable
(less allowance for possible loan
losses of $2,892 in 1997 and $2,760 in
1996)................................................... 71,818
74,586
Short-term
investments.............................................................
.............. 74,928 -
Cash and cash
equivalents.............................................................
........... 54,892 140,535
Other
investments.............................................................
................... 2,032 2,127
Total
investments.............................................................
............... 1,180,481 1,167,671
Accrued investment
income..................................................................
........ 12,024 12,819
Premiums receivable (less allowance for doubtful receivables of
$1,454 in 1997 and $1,500 in 1996). 211,222 157,835
Deferred policy acquisition
costs..................................................................
94,326 82,968
Property and equipment, net of accumulated
depreciation............................................ 34,006
32,100
Residual market
receivable..............................................................
........... 193,564 195,213
Due from
reinsurers..............................................................
.................. 16,703 19,659
Current income
taxes...................................................................
............ 2,621 -
Other
assets..................................................................
..................... 10,587 8,534
Total
assets..................................................................
............... $1,755,534 $1,676,799
LIABILITIES AND
STOCKHOLDERS' EQUITY
Liabilities
Losses and loss adjustment
expenses..............................................................
$ 657,587 $ 649,913
Unearned
premiums................................................................
................ 426,412 367,991
Current income
taxes...................................................................
.......... - 171
Deferred income
taxes...................................................................
......... 9,155 4,223
Deferred
income..................................................................
................ 7,731 7,974
Contingent commissions
accrued.................................................................
.. 11,692 25,712
Payable to securities
broker..................................................................
... 1,556 -
Other liabilities and accrued
expenses...........................................................
30,868 33,776
Total
liabilities.............................................................
............... 1,145,001 1,089,760
Stockholders' equity
Preferred stock, authorized 5,000,000 shares at $1.00 par value;
none issued in 1997 and 1996.... - -
Common stock, authorized 100,000,000 shares at $.50 par value;
issued and outstanding 38,000,000 shares in 1997 and
1996...................................... 19,000 19,000
Paid-in
capital.................................................................
................. 29,621 29,621
Net unrealized gains on investments, net of income taxes of
$15,526 in 1997 and $12,427 in 1996.. 28,833 23,079
Retained
earnings................................................................
................ 571,766 553,539
649,220 625,239
Treasury stock 1,957,348 shares in 1997 and 1,937,348 shares in
1996 ........................... (38,687) (38,200)
Total stockholders'
equity..................................................................
. 610,533 587,039
Total liabilities and stockholders'
equity................................................... $1,755,534
$1,676,799
The accompanying notes are an integral part of these consolidated
financial statements.
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THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
Three and Six Months Ended June 30, 1997 and 1996
(Thousands of Dollars Except Per Share Data)
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
1997 1996 1997 1996
Revenues
Earned premiums ................................................
$ 182,125 $ 165,533 $ 360,128 $ 317,269
Net investment income...........................................
19,492 19,472 39,186 38,430
Premium finance fees............................................
1,728 2,265 3,396 6,284
Net realized investment gains (losses)..........................
2,216 (822) 1,920 (1,733)
Total revenues.........................................
205,561 186,448 404,630 360,250
Expenses
Losses and loss adjustment expenses.............................
136,485 122,402 271,796 245,524
Policy acquisition costs........................................
44,270 44,165 87,620 77,481
Total expenses.........................................
180,755 166,567 359,416 323,005
Earnings before income taxes...........................
24,806 19,881 45,214 37,245
Income taxes......................................................
4,835 3,616 8,605 6,387
NET EARNINGS...........................................
$ 19,971 $ 16,265 $ 36,609 $ 30,858
NET EARNINGS PER COMMON SHARE..........................
$ .56 $ .45 $ 1.02 $ .85
CASH DIVIDENDS PAID PER COMMON SHARE...................
$ .26 $ .25 $ .51 $ .31
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING...
36,042,652 36,346,559 36,046,740 36,451,730
The accompanying notes are an integral part of these consolidated
financial statements.
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THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Six Months Ended June 30, 1997 and 1996
(Thousands of Dollars)
(Unaudited)
1997 1996
Cash flows from operating activities:
Net
earnings................................................................
...... $ 36,609 $ 30,858
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Premiums
receivable.............................................................
(53,387) (61,164)
Deferred policy acquisition
costs...............................................
(11,358) (21,675)
Residual market
receivable......................................................
1,649 9,069
Due to/from
reinsurers..........................................................
2,956 2,752
Losses and loss adjustment
expenses.............................................
7,674 27,241
Unearned
premiums...............................................................
58,421 84,076
Current income
taxes............................................................
(2,792) 2,368
Deferred income
taxes...........................................................
1,833 (1,314)
Deferred
income.................................................................
(243) 594
Contingent
commissions..........................................................
(14,020) (15,777)
Other liabilities and accrued
expenses.......................................... (1,352)
(2,993)
Net realized investment (gains)
losses.......................................... (1,920)
1,733
Other -
net.....................................................................
1,411 2,718
Net cash provided by operating
activities................................ 25,481
58,486
Cash flows from investing activities:
Proceeds from maturity of fixed
maturities....................................... 78,201
74,228
Proceeds from sale of fixed
maturities...........................................
39,094 26,590
Purchase of fixed
maturities......................................................
(84,783) (126,120)
Purchase of equity
securities.....................................................
(94,647) (48,387)
Proceeds from sale of equity
securities...........................................
46,502 2,028
Net increase in short-term
investments............................................
(74,928) -
Payments received on mortgage loans and collateral notes
receivable............... 4,796 4,728
Mortgage loans and collateral notes
originated.................................... (2,773)
(4,819)
Mortgages sold to investors on the secondary
market............................... 11 -
Proceeds from sale of real estate acquired by
foreclosures........................ 167
92
Purchase of property and equipment
............................................... (3,915)
(1,420)
Proceeds from sale of property and
equipment...................................... 20
107
Net cash used in investing
activities.................................... (92,255)
(72,973)
Cash flows from financing activities:
Dividends paid to
stockholders....................................................
(18,382) (11,272)
Purchase of treasury
stock........................................................
(487) (7,895)
Net cash used in financing
activities.................................... (18,869)
(19,167)
Decrease in cash and cash
equivalents...............................................
(85,643) (33,654)
Cash and cash equivalents at beginning of
period.................................... 140,535
52,718
Cash and cash equivalents at end of
period.......................................... $ 54,892
$ 19,064
The accompanying notes are an integral part of these consolidated
financial statements.
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The Commerce Group, Inc.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
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,
1996. 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 only of normal recurring adjustments which are, in the
opinion of management, necessary for a fair presentation of
results for the interim periods. Certain 1996 account balances
have been reclassified to conform to the current year's
presentation.
3. Statements in this Form 10-Q concerning future premium writings
and profit levels look forward in time and involve risks and
uncertainties that may affect the Company's actual results of
operations. Actual results may differ materially from those set
forth in the forward looking statements.
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 six months ended June 30, 1997 nor
comparison with the corresponding six months ended June 30, 1996
should be considered indicative of the results which may be
expected for the year ending December 31, 1997.
6. In May 1995, the Board of Directors announced that it had approved
a stock buyback program of up to 3 million shares. As of June 30,
1997, 1,957,348 shares of Treasury Stock were purchased under the
program, of which 20,000 shares were purchased in 1997.
7. In May 1997 the Board of Directors voted to increase its quarterly
stockholder dividend from $0.25 per share to $0.26 per share.
8. Disclosure of supplemental cash flow information:
Six Months Ended
June 30,
1997 1996
Cash paid during the period for:
Federal and state income taxes
$ 9,622 $ 1,367
State premium and related taxes
of insurance subsidiaries
13,433 6,352
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS
Three months ended June 30, 1997 compared to
three months ended June 30, 1996
Direct premiums written during the second quarter of 1997, increased
$15,582,000 or 9.1% to $186,339,000, as compared to the same period in
1996. The increase was primarily attributable to a $15,423,000, or
11.2% increase in direct premiums written for Massachusetts personal
automobile insurance and an increase of $403,000 which was derived from
the Company's California subsidiary, Western Pioneer Insurance Company,
("Western Pioneer"). The increase in Massachusetts personal automobile
direct premiums written resulted primarily from an increase of 13.9% in
the number of personal automobile exposures written, offset by a 2.2%
decrease in the average personal automobile premium per exposure (each
vehicle insured). The decrease was primarily the result of the
Company's affinity group marketing programs, safe driver rate deviations
and the effect of the 1997 state mandated average rate decrease of 6.2%.
In March 1997, the Company was granted, for the 1997 calendar year,
approval to offer its customers safe driver deviations of 10%.
Companies must re-apply annually, after the state sets rates, to offer
safe driver deviations. For drivers who qualify, both group discount
and safe driver deviations can be combined for up to a 19% reduction
from state mandated rates. Direct premiums written for commercial
automobile insurance decreased by $555,000 or 6.0%. Direct premiums
written for homeowners insurance increased by $310,000, or 2.3% due
primarily to a 4.3% increase in the number of policies written, offset
by a 1.8% decrease in the average premium per policy.
Net premiums written during the second quarter of 1997 increased
$5,434,000 or 3.3% as compared to 1996. The increase in net premiums
written was primarily due to changes in direct premiums written as
described above, as well as to the effects of reinsurance. Written
premiums assumed from the Commonwealth Automobile Reinsurers ("C.A.R.")
decreased $13,225,000, or 55.8% and written premiums ceded to C.A.R.
decreased $3,671,000 or 16.1% as compared to the second quarter of 1996,
as a result of changes in the industry's and the Company's utilization
of C.A.R. reinsurance.
Earned premiums increased $16,592,000, or 10.0% during the second
quarter of 1997 as compared to the same period in 1996. The increase in
earned premiums was primarily due to the increased direct premiums
written from affinity group marketing programs during the second half of
1996 and the first half of 1997, and also a result of the changes in
direct premiums written and net premiums written as described above.
Earned premiums assumed from C.A.R. decreased $1,667,000 or 6.6% and
earned premiums ceded to C.A.R. decreased $2,946,000, or 14.5% as
compared to the second quarter of 1996. Direct premiums earned for
Massachusetts personal automobile insurance increased $16,759,000, or
12.5% compared to the same period in 1996. Commercial automobile
insurance direct premiums earned decreased $1,063,000, or 10.1%, and
homeowners direct premiums earned increased $414,000, or 3.3%, as
compared to the second quarter of 1996. Earned premiums attributable to
Western Pioneer increased $148,000 to $7,109,000 for the three months
ended June 30, 1997, compared to $6,961,000 for the same period in 1996.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Net investment income increased $20,000, or 0.1%, compared to the second
quarter of 1996 versus a 6.8% increase in average invested assets for
the period. This slight increase was the result of a change in the
Company's investment strategy. The Company is seeking greater
flexibility to provide for enhanced potential future capital
appreciation. The Company's strategy is to acquire equity investments,
including potential acquisitions, which forego current investment yield
in favor of potential higher yielding capital appreciation in the
future. As a result, the Company is carrying approximately $111 million
in additional cash and short-term investments which yield lower returns
than its current long-term investment portfolio.
Premium finance fees decreased $537,000, or 23.7% during the second
quarter of 1997 as compared to the same period in 1996. The decrease
was primarily attributable to a change from interest based finance fees
to a "late payment" fee based system for personal automobile policies
with effective dates of January 1, 1996 and forward. The change was in
response to competitive forces that occurred in the Massachusetts
marketplace. The Company is contemplating instituting a billing
statement fee for new and renewal policies with effective dates
beginning in 1998, although no formal filing has been made.
Net realized investment gains totaled $2,216,000 during the second
quarter of 1997 as compared to net realized investment losses of
$822,000 for the same period in 1996. The realized gains in the second
quarter of 1997 were primarily the result of sales of preferred stocks
and common stocks.
Losses and loss adjustment expenses ("LAE") incurred as a percentage of
insurance premiums earned ("loss ratio") increased to 75.1% for the
second quarter of 1997 as compared to 73.9% for the same period in 1996.
The ratio of net incurred losses, excluding LAE, to premiums earned
("pure loss ratio") on personal automobile decreased to 65.9% compared
to 66.6% in the second quarter of 1996. Although the overall pure loss
ratio remained fairly consistent, the collision loss ratio increased
substantially during the second quarter primarily as a result of the
severe April 1, 1997 snowstorm. The mix of the Company's private
passenger automobile coverage continued to show a higher rate of
increase in physical damage coverages as compared to the increases in
liability coverage. Additionally, in 1997 the severity of the collision
claims increased over the same period of last year as a result of
inflationary pressures on repair costs and a decrease in average salvage
values. The impact in the physical damage area was offset however by
improved frequency and severity in the private passenger automobile
casualty area. The commercial automobile pure loss ratio increased to
58.3% compared to 51.5% during the second quarter of 1996. This
increase was primarily due to a higher loss ratio on voluntary business,
offset by better loss experience on business assumed from C.A.R. For
homeowners, the pure loss ratio decreased to 62.3% compared to 92.9%
during the second quarter of 1996. This decrease was due to more normal
weather conditions during the second quarter of 1997 as compared to the
severe weather experienced during the same period in 1996.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Policy acquisition costs increased by 0.2% during the second quarter of
1997 compared to the same period in 1996. As a percentage of net
premiums written, underwriting expenses (on a statutory basis) were
22.7% during the second quarter of 1997 as compared to 27.6% for the
same period in 1996. This decrease was primarily due to lower agent
profit sharing commissions resulting from higher loss ratios, as well as
the impact of higher 1996 second quarter commissions which resulted from
a 1996 ruling by Massachusetts regulators requiring companies to pay
agent commissions on safe driver rate deviations. The 1996 impact of
this decision resulted in additional expense of $3.4 million. Agents'
profit sharing compensation is based primarily on the underwriting
profits of each agency's business written with the Company.
The Company's effective tax rate was 19.5% for the second three months
of 1997 as compared to 18.2% for the same period in 1996. In both years
the effective tax rate was lower than the statutory rate of 35.0%
primarily due to tax-exempt interest income.
Net earnings increased $3,706,000 during the second three months of 1997
as compared to the same period in 1996, as a result of the factors
mentioned above.
- - 9 -
The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS
Six months ended June 30, 1997 compared to
six months ended June 30, 1996
Direct premiums written during the first six months of 1997, increased
$18,190,000 or 4.4% to $430,467,000, as compared to the same period in
1996. The increase was primarily attributable to a $20,410,000 or 6.0%
increase in direct premiums written for Massachusetts personal
automobile insurance and an increase of $109,000 which was derived from
Western Pioneer. The increase in Massachusetts personal automobile
direct premiums written resulted primarily from an increase of 8.0% in
the number of personal automobile exposures written, offset by a 1.8%
decrease in the average personal automobile premium per exposure (each
vehicle insured). The decrease was primarily the result of the
Company's affinity group marketing programs, safe driver rate deviations
and the effect of the 1997 state mandated rate decrease of 6.2%. In
March 1997, the Company was granted approval to offer its customers safe
driver deviations of 10%. Companies must re-apply annually, after the
state sets rates, to offer safe driver deviations. For drivers who
qualify, both group discount and safe driver deviations can be combined
for up to a 19% reduction from state mandated rates. Direct premiums
written for commercial automobile insurance decreased by $2,221,000, or
9.4%, due primarily to a 8.5% decrease in the number of policies
written, as well as a 0.9% decrease in the average commercial automobile
premium per policy. Direct premiums written for homeowners insurance
increased by $70,000 or 0.3% due primarily to a 2.1% increase in the
number of policies written, offset by a 1.5% decrease in the average
premium per policy. Direct premiums written for all other lines
decreased $178,000, or 2.2%.
Net premiums written during the first six months of 1997 increased
$19,365,000 or 4.8% as compared to 1996. The increase in net premiums
written was primarily due to changes in direct premiums written as
described above as well as to the effects of reinsurance. Written
premiums assumed from C.A.R. decreased $10,029,000 or 19.8% and written
premiums ceded to C.A.R. decreased $10,959,000 or 22.7% as compared to
the first six months of 1996, as a result of changes in the industry's
and the Company's utilization of C.A.R. reinsurance.
Earned premiums increased $42,859,000, or 13.5% during the first six
months of 1997 as compared to the same period in 1996. The increase in
earned premiums was due to changes in direct premiums written and net
premiums written as described above. Earned premiums assumed from
C.A.R. decreased $1,889,000, or 4.2% and earned premiums ceded to C.A.R.
decreased $5,665,000, or 13.9% during the first six months of 1997
compared to the same period in 1996. Direct premiums earned for
Massachusetts personal automobile insurance increased $37,302,000, or
14.2% compared to the same period in 1996. Commercial automobile direct
premiums earned decreased $2,260,000, or 10.5%, and homeowners direct
premiums earned increased $777,000, or 3.1%, as compared to the first
six months of 1996. Earned premiums attributable to Western Pioneer
increased $67,000 to $13,986,000 for the six months ended June 30, 1997,
compared to $13,919,000 for the same period in 1996.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Net investment income increased $756,000, or 2.0%, compared to the first
six months of 1996 versus a 6.1% increase in average invested assets for
the period. This modest increase was primarily the result of a change
in the Company's investment strategy. The Company is seeking greater
flexibility to provide for enhanced potential future capital
appreciation. The Company's strategy is to acquire equity investments,
including potential acquisitions, which forego current investment yield
in favor of potential higher yielding capital appreciation in the
future. As a result, the Company is carrying approximately $111 million
in additional cash and short-term investments which yield lower returns
than its current long-term investment portfolio.
Premium finance fees decreased $2,888,000, or 46.0% during the first six
months of 1997 as compared to the same period in 1996. The decrease was
primarily attributable to a change from interest based finance fees to a
"late payment" fee based system for personal automobile policies with
effective dates of January 1, 1996 and forward. The change was in
response to competitive forces that occurred in the Massachusetts
marketplace. The Company is comtemplating instituting a billing
statement fee for new and renewal policies with effective dates
beginning in 1998, although no formal filing has been made.
Net realized investment gains totaled $1,920,000 during the first six
months of 1997 as compared to net realized investment losses of
$1,733,000 for the same period in 1996. The realized gains in the first
six months of 1997 were primarily the result of sales of preferred
stocks and common stocks.
The loss ratio decreased to 75.4% for the first six months of 1997 as
compared to 77.5% for the same period in 1996. The pure loss ratio on
personal automobile decreased slightly to 66.9% compared to 67.0% in
1996. Similar to the three month period, the collision loss ratio has
worsened for the first six months of 1997 compared to 1996 as a result
of the following factors: an approximate 4.0% decrease in the average
premium collision rate per exposure; an increase in severity; and, an
increase in the mix of coverages such that more of the Company's
insureds are carrying collision coverage. The overall private passenger
automobile loss ratio remained fairly stable, however, because the worse
loss ratios in the physical damage area were offset by better loss
experience in the bodily injury area. The commercial automobile pure
loss ratio decreased to 52.8% compared to 61.0% during the first six
months of 1996. This decrease was primarily due to better loss
experience on voluntary business, as well as better loss experience on
business assumed from C.A.R. For homeowners, the pure loss ratio
decreased to 61.3% compared to 136.6% during the first six months of
1996. This decrease was due to more normal weather during the first
half of 1997 as compared to severe weather during the same period in
1996.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Policy acquisition costs increased by 13.1% during the first six months
of 1997 compared to the same period in 1996. The increase in policy
acquisition costs was primarily due to higher volumes of business
written during the first six months of 1997 and fewer acquisition costs
being deferred as compared to 1996. This was due to a higher rate of
growth in 1996 primarily from affinity groups. As a percentage of net
premiums written, underwriting expenses (on a statutory basis) were
23.5% during the first six months as compared to 24.7% for the same
period in 1996. The decrease in this percentage was primarily
attributable to lower commission rates which were partially offset by
higher expenses for computer services related to upgrading the Company's
computer systems.
The Company's effective tax rate was 19.0% for the first six months of
1997 as compared to 17.1% for the same period in 1996. In both years
the effective tax rate was lower than the statutory rate of 35.0%
primarily due to tax-exempt interest income.
Net earnings increased $5,751,000 during the first six months of 1997 as
compared to the same period in 1996, as a result of the factors
mentioned above.
Liquidity and Capital Resources
The focus of the discussion of liquidity and capital resources is the
Consolidated Balance Sheets on page 3 and the Consolidated Statements of
Cash Flows on page 5. Stockholders' equity increased by $23,494,000 or
4.0%, during the first six months of 1997. This increase was the result
of net earnings of $36,609,000 and by the increase in net unrealized
gains, net of income taxes, on fixed maturities and equity securities of
$5,754,000, offset by dividends paid to stockholders of $18,382,000, and
treasury stock purchased of $487,000. Total assets at June 30, 1997
increased by $78,735,000 or 4.7%, to $1,755,534,000 as compared to total
assets of $1,676,799 at December 31, 1996. The majority of this growth
was reflected in an increase in invested assets of $ 12,810,000 or 1.1%,
$52,751,000 or 33.3% in premiums receivable, $11,358,000, or 13.7% in
deferred policy acquisition costs, and an increase in all other assets
of $1,816,000. The increase in premiums receivable was primarily
attributable to the seasonality of the policy effective dates of the
Company's business, as well as the increase in personal automobile
business and the elimination of premium finance fees. The increase in
deferred acquisition costs was attributable to the increase in personal
automobile business and factors described previously.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
As of June 30, 1997, the market value of the Company's fixed maturity
portfolio exceeded its book value by $17,523,000 ($11,390,000 after
taxes, or $0.32 per share). At December 31, 1996 the market value of
the Company's fixed maturity portfolio exceeded its book value by
$16,191,000 ($10,524,000 after taxes, or $0.29 per share). The slight
increase in unrealized gain on fixed maturities resulted primarily from
the prevailing conditions in the bond market caused by the benign
interest-rate environment and to a change in the Company's investment
strategy. The Company's strategy is to acquire equity investments,
including potential acquisitions, which forego current investment yield
in favor of future potentially higher yielding capital appreciation.
As a result, the Company is carrying approximately $111 million in
additional cash and short-term investments which yield lower returns
than its current long-term investment portfolio.
The Company's liabilities totalled $1,145,001,000, at June 30, 1997 as
compared to $1,089,760,000 at December 31, 1996. The $55,241,000 or
5.1% increase was comprised of a $7,674,000 or 1.2% increase in losses
and loss adjustment expenses, an increase of $58,421,000 or 15.9% in
unearned premiums, offset by a $10,852,000 or 15.1% decrease in all
other liabilities. The change in unearned premiums primarily resulted
from the increase in personal automobile direct premiums written, as
previously mentioned. The small increase in unpaid losses was primarily
a result of more normal weather experienced during the first six months
of 1997 compared to the same period last year.
The primary sources of the Company's liquidity are funds generated from
insurance premiums, net investment income and maturing investments as
reflected in the Consolidated Statements of Cash Flows on page 5. In
response to the changing competitive forces in the marketplace, the
Company eliminated interest based premium finance fees for both new and
renewal personal automobile insurance policies with effective dates on
or after January 1, 1996 and replaced it with a "late payment" fee based
system. The impact of this change through the second quarter of 1997
has resulted in a 46.0% decrease in combined premium finance fees and
late payment fees as compared to the same period in 1996. The
elimination of interest based fees had the impact of increasing premium
receivables. The Company is contemplating instituting a billing
statement fee for policies effective in 1998 for customers who pay their
premium in installments versus in total at the beginning of the policy
term.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
The Company's operating activities provided net cash of $25,481,000 in
the first six months of 1997 as compared to $58,486,000 in 1996. These
cash flows were primarily impacted by the Company's premium writings
attributable to the affinity group marketing programs mentioned
previously, and higher loss payments. Premiums collected increased
approximately 8.0% during the first six months which were more than
offset by an increase in total voluntary loss payments of approximately
14.8%. Loss payments in the personal automobile lines of business were
approximately 25.8% higher and were offset by a decrease in payments for
other than automobile lines of business of approximately $10,000,000
compared to the prior year. The decrease in other than automobile loss
payments was primarily the result of more normal weather in 1997 versus
the severe weather experienced in 1996. The increase in automobile loss
payments was attributable primarily to two factors: increased payments
for collision coverages (as previously explained) and increased payments
for bodily injury claims. Bodily injury payments were higher primarily
due to increased business writings coupled with initiatives in the
claims department to accelerate the claims settlement process in an
effort to reduce the overall cost of bodily injury claims in the long
run as well as to reduce the overall number of open bodily injury
claims.
The net cash flows used in investing activities were primarily the
result of purchases of fixed maturities, equity securities and the net
increase in short-term investments offset by proceeds from the sale and
maturity of fixed maturities and equity securities. Investing
activities were funded by accumulated cash and cash provided by
operating activities during 1997 and 1996.
Cash flows used in financing activities totaled $18,869,000 during the
first six months of 1997 compared to $19,167,000 during the same period
in 1996. This is due to dividends paid to stockholders of $18,382,000
in 1997 ($11,272,000 in 1996) and the purchase of Treasury Stock under
the Company's stock buyback program of 20,000 shares for $487,000 during
the first six months of 1997 compared to 397,115 shares for $7,895,000
during the same period in 1996.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
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. At June 30, 1997, the Company held cash and cash
equivalents of approximately $54,892,000. These funds, coupled with
short-term investments, provide sufficient liquidity for the payment of
claims and other short-term cash needs. The Company relies upon
dividends from its subsidiaries for its cash requirements. Every
Massachusetts domestic insurance company seeking to make any dividend or
other distributions to its stockholders must file a report with the
Massachusetts Commissioner of Insurance ("Commissioner"). 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 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 domestic
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 1997.
In February 1997, the Company entered into an agreement to invest
$125,000,000 through Salomon Brothers Asset Management, Inc. The Company
intends to purchase short-term securities via this arrangement until
such time that the Company believes longer term investments are
appropriate. In April 1997, the Company began purchasing Commercial
Paper via this arrangement. At June 30, 1997, the Company held
$74,928,000 in Commercial Paper.
Periodically, sales have been made from the Company's fixed maturity
investment portfolio to actively manage portfolio risks, including
credit-related concerns and matching of asset and liability cash flows,
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 written premiums to statutory
policyholders' surplus should not exceed 3.00 to 1.00. The Company's
statutory premiums to surplus ratio was 1.61 to 1.00 and 1.62 to 1.00
for the twelve months ended June 30, 1997 and 1996, respectively.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
The Company has established the Team 2000 and Century Change projects
which are corporate-wide efforts to prepare the Company's systems for
the next millenium. Team 2000 and Century Change will particularly
address the Company's computer systems and applications that support the
Company's primary insurance line: private passenger automobile in the
state of Massachusetts. The Company expects to incur internal staff
costs as well as consulting expenses to prepare the systems for the year
2000. Administration, programming, testing and implementation of system
applications related to Century Change are expected to cost $5,000,000
to $7,000,000 over the next 24 months. The majority of the Century
Change effort will represent a redeployment of existing internal
technical resources. Upon completion of the Century Change project, the
Company expects to focus its efforts on the Team 2000 project which will
eventually replace the Company's existing internal computer systems for
Massachusetts business utilizing software purchased from Policy
Management Services Corporation, Inc. ("PMSC"). Costs to date for the
Team 2000 effort are approximately $20,000,000 ($9,500,000 of which
relate to 1997). Total Team 2000 project costs over the next 5 to 7
years have been estimated at over $40,000,000 including funds expended
to date.
Recent Significant Events
In February, 1997 the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128, "Earnings Per
Share". This statement is effective for financial statements issued for
periods ending after December 15, 1997, (including interim periods) with
earlier application not permitted. The statement specifies the
computation, presentation and disclosure requirements for earnings per
share. The Company believes that the adoption of this statement will
not have a material impact on the Consolidated Financial Statements.
The Company continues to monitor acquisition opportunities consistent
with a long term growth strategy to expand outside Massachusetts through
acquisitions of smaller automobile insurance companies that are in need
of capital, have established management in place and present significant
growth opportunities in their market areas.
In June 1997, the Massachusetts Supreme Judicial Court upheld an earlier
ruling by the Commissioner to prospectively decrease future rates for
the miscalculation of the industry expense allowance. The suit filed by
the Automobile Insurers Bureau of Massachusetts ("AIB") claimed that,
according to statute, there was a prohibition against retroactive rate
making in Massachusetts which effectively barred the examination of past
year's data once all involved parties had agreed to the rate decision.
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The Commerce Group, Inc.
MANAGEMENT'S DISCUSSION AND ANALYSIS (Continued)
Also, in June 1997, the Massachusetts Supreme Judicial Court rejected,
on technical grounds, a suit filed by an insurer who alleged that the
prospective nature of the rate reduction would have had an unfair
adverse impact on it. This was due to the fact that the company filing
suit believed it should not have been adversely impacted solely because
its market share was greater now than during those years in which the
errors occurred.
In July 1997, The Massachusetts Supreme Judicial Court upheld an earlier
ruling by the Commissioner that agent commissions would be based on
premiums after discounts are deducted. The Massachusetts Association of
Insurance Agents ("MAIA") had previously filed suit with respect to the
Commissioner's ruling on 1997 commissions. The Commissioner ruled that
agents' commissions on the 1997 premiums, subject to safe driver
deviations, would be based on the deviated net premium amounts. The 1996
commissions were based on premiums that were "grossed-up" for safe
driver deviations. The Commissioner's ruling results in agents
receiving fewer commission dollars on a per policy basis.
An application for a license in the state of Maine is pending. In late
July, the Company was notified that it was granted a license in the
state of New Hampshire. Prior to this, the Company was granted licenses
in the states of Connecticut, Rhode Island and Vermont. The Company is
currently gearing its internal operating systems to accommodate multiple
state operation. To address this undertaking, the Company in 1996,
entered into an agreement with PMSC. The Company purchased PMSC's
software and began the implementation process which will allow for the
development of internal operating systems thus enabling the Company to
process policies in the aforementioned five New England states. The
Company expects these systems to be available during the first quarter
of 1998. Therefore the Company does not expect to begin writing
insurance in those states until that time.
The Company began a stock buyback program during the second quarter of
1995. The program, which was approved by the Board of Directors on May
19, 1995, authorizes the Company to purchase up to 3 million shares of
Treasury Stock. Since the inception of the program through March 31,
1997, the Company has purchased 1,957,348 shares of Treasury Stock, of
which 20,000 shares were purchased during the first six months of 1997.
Additionally, the Company's Employee Stock Ownership Plan has purchased
more than 546,000 shares in open market transactions since the buyback
program was announced, of which 122,900 shares were purchased during the
first six months of 1997 for $3,059,362.
On June 20, 1997, the Company paid a quarterly dividend of $0.26 to
stockholders of record as of June 6, 1997. The Company increased its
quarterly dividend to stockholders from $0.25 to $0.26 during the second
quarter of 1997.
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The Commerce Group, Inc.
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.
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The Commerce Group, Inc.
PART II - OTHER INFORmation
Item 4. RESULTS OF VOTES OF SECURITY HOLDERS
On May 30, 1997, at the Special Meeting in Lieu of the Annual Meeting of
the stockholders of the Company, the slate of Directors as presented in
the Annual Proxy was approved. The votes as tabulated by Boston
EquiServe, L.P. were as follows:
Total Vote For Total Vote
Withheld
Each Director From Each
Director
Herman F. Becker 31,655,568 34,239
Joseph A. Borski, Jr. 31,656,768 33,039
Eric G. Butler 31,656,938 32,869
Henry J. Camosse 31,657,168 32,639
Gerald Fels 31,657,158 32,649
David R. Grenon 31,657,168 32,639
Robert W. Harris 31,657,168 32,639
Robert S. Howland 31,655,338 34,469
John J. Kunkel 31,653,636 36,171
Raymond J. Lauring 31,656,938 32,869
Roger E. Lavoie 31,656,938 32,869
Normand R. Marois 31,657,168 32,639
Suryakant M. Patel 31,653,085 36,722
Arthur J. Remillard, Jr. 31,657,008 32,799
Arthur J. Remillard, III 31,657,008 32,799
Regan P. Remillard 31,657,008 32,799
Antranig A. Sahagian 31,656,938 32,869
Gurbachan Singh 31,639,996 49,811
John W. Spillane 31,621,296 68,511
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The Commerce Group, Inc.
PART II - OTHER INFORmation
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) During the quarter ended June 30, 1997, the Company filed a Form
8-K/A - dated June 11, 1997 reporting a change in the Company's
independent accountants. Effective on that date, the Company
engaged the accounting firm of Ernst & Young LLP as independent
accountants for the fiscal year ending December 31, 1997. The
responsibilities of Coopers & Lybrand, L.L.P. were terminated
effective June 11, 1997.
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
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The Commerce Group, Inc.
PART II - OTHER INFORmation
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) During the quarter ended June 30, 1997, the Company filed a Form
8-K/A - dated June 11, 1997 reporting a change in the Company's
independent accountants. Effective on that date, the Company
engaged the accounting firm of Ernst & Young LLP as independent
accountants for the fiscal year ending December 31, 1997. The
responsibilities of Coopers & Lybrand, L.L.P. were terminated
effective June 11, 1997.
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
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