The following table presents a reconciliation of changes in liabilities
for property-casualty losses and loss adjustment expenses for the three years
ended December 31, 1993. Additional information relating to reserve development
appears on page 38.
- - --------------------------------------------------------------------------
(Dollars in thousands) 1993 1992 1991
- - --------------------------------------------------------------------------
Beginning of year, net of reinsurance
recoverable $ 464,149 $ 440,180 $ 415,645
Incurred claims:
Current year 266,137 269,798 261,766
Prior years 9,071 19,934 3,085
--------- --------- ---------
Total incurred claims 275,208 289,732 264,851
Payments:
Current year (93,824) (88,692) (86,402)
Prior years (176,815) (177,071) (153,914)
--------- --------- ---------
Total payments (270,639) (265,763) (240,316)
--------- --------- ---------
End of year, net of reinsurance 468,718 464,149 440,180
Reinsurance recoverable on unpaid
losses 44,552 32,701
--------- --------- ---------
End of year (1) (2) $ 513,270 $ 496,850 $ 440,180
- - --------------------------------------------------------------------------
<FN>
(1) Statutory reserves are not materially different from GAAP reserves
presented above.
(2) Financial statement reserves are shown gross of reinsurance recoverable
at December 31, 1992 and 1993.
1
The following table represents statutory loss and expense development by
accident year.
- - ----------------------------------------------------------------------------------------
Incurred loss and loss adjustment expense (1)
Years in which reported at end of year (000 omitted)
losses were ----------------------------------------------------------------
incurred 1988 1989 1990 1991 1992 1993
- - -----------------------------------------------------------------------------------------
Prior to 1988 $1,100,207 $1,096,427 $1,095,266 $1,091,857 $1,090,025 $1,090,537
1988 223,146 219,375 210,856 209,182 211,472 213,905
Cumulative 1,323,353 1,315,802 1,306,122 1,301,039 1,301,497 1,304,442
1989 231,956 234,878 229,121 234,481 238,051
Cumulative 1,547,758 1,541,000 1,530,160 1,535,978 1,542,493
1990 246,088 258,356 269,321 274,281
Cumulative 1,787,088 1,788,516 1,805,299 1,816,774
1991 264,243 267,488 273,817
Cumulative 2,052,759 2,072,787 2,090,591
1992 270,162 261,510
Cumulative 2,342,949 2,352,101
1993 266,316
Ratios:
1988 63.47% 62.39% 59.97% 59.50% 60.15% 60.84%
1989 65.02 65.83 64.22 65.72 66.72
1990 65.94 69.23 72.17 73.50
1991 70.05 70.91 72.59
1992 70.73 68.47
1993 65.23
- - ----------------------------------------------------------------------------------------------
<FN>
(1) This analysis displays the accident year incurred loss and loss adjustment
expense development on a statutory basis for accident years 1988-1993 for all
property-casualty business. Data for 1985-1988 have been restated to reflect
subrogation, previously excluded in the old schedule "O" lines of business. The
total cost for all claims occurring within each annual period is shown first at
the end of that year and then annually thereafter. The total cost includes both
payments made and the estimate of future payments as of each year end. Past
development may not be an accurate indicator of future development since trends
and conditions change.
2
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF CONSOLIDATED FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
The consolidated results of operations were as follows:
- - ---------------------------------------------------------------------------------------------------
(Dollars in thousands) 1993 1992 1991
- - ---------------------------------------------------------------------------------------------------
Investment income, after tax, excluding health and life $ 25,475 $ 31,402 $ 35,624
Realized gains on investments, after tax 17,932 10,847 10,399
- - ---------------------------------------------------------------------------------------------------
Sub-total 43,407 42,249 46,023
- - ---------------------------------------------------------------------------------------------------
Property and casualty underwriting, after tax:
Income (loss) excluding catastrophes and Proposition 103 8,652 (4,208) 3,015
Catastrophes (1,365) (9,900) (6,930)
- - ---------------------------------------------------------------------------------------------------
Property and casualty underwriting income (loss) excluding
Proposition 103 7,287 (14,108) (3,915)
- - ---------------------------------------------------------------------------------------------------
Health and life income after tax, excluding CLIGA assessment 7,424 8,205 6,913
Interest expense, after tax (4,328) (4,273) (3,584)
Parent expenses, after tax (2,176) (2,126) (2,136)
Other non-recurring items, after tax:
Proposition 103 rollback refund (10,611)
CLIGA assessment (3,328)
Lawsuit settlement 4,914
Cumulative effect of change in accounting for income taxes 10,719
Extraordinary items (1,355) 2,600
- - ---------------------------------------------------------------------------------------------------
Net income $ 53,200 $ 28,700 $ 45,901
- - ---------------------------------------------------------------------------------------------------
Declining interest rates in the three years ended December 31, 1993 have
reduced investment income. This decline has been offset, in part, by the effect
of realized gains from sales and early redemptions of securities. Reduced
investment income earned in the health and life operation has been offset by the
effect of managing the spread between the interest earned on invested assets and
the interest credited to policyholders. In addition to the impact of fewer
catastrophe losses in 1993, property-casualty underwriting results benefited
from a significant improvement in the results of the Workers' Compensation
operation.
3
PROPERTY AND CASUALTY INSURANCE OPERATIONS
Premiums earned and underwriting results of Zenith's property-casualty
subsidiaries were as follows:
- - ------------------------------------------------------------------------------------------------
(Dollars in thousands) 1993 1992 1991
- - ------------------------------------------------------------------------------------------------
Premiums earned
Workers' Compensation $ 244,661 $ 221,652 $ 208,989
Reinsurance 23,295 18,382 26,347
Automobile and other Property and Casualty 137,945 137,392 140,732
- - ------------------------------------------------------------------------------------------------
Total $ 405,901 $ 377,426 $ 376,068
- - ------------------------------------------------------------------------------------------------
Underwriting income (loss) before taxes
Workers' Compensation $ 11,618 $ (1,495) $ (1,477)
Reinsurance 5,337 (14,002) (7,668)
Automobile and other Property and Casualty
excluding Proposition 103 rollback refund (5,704) (5,124) 692
- - ------------------------------------------------------------------------------------------------
Total excluding Proposition 103 rollback refund 11,251 (20,621) (8,453)
Proposition 103 rollback refund (16,078)
- - ------------------------------------------------------------------------------------------------
Total including Proposition 103 rollback refund $ 11,251 $ (36,699) $ (8,453)
- - ------------------------------------------------------------------------------------------------
Operating ratios
Workers' Compensation
Losses 38.9% 53.6% 56.6%
Loss adjustment expenses 28.5% 21.4% 13.2%
Underwriting expenses 21.7% 24.4% 27.0%
Dividends to policyholders 6.2% 1.3% 3.9%
- - ------------------------------------------------------------------------------------------------
Combined ratio 95.3% 100.7% 100.7%
- - ------------------------------------------------------------------------------------------------
Reinsurance
Losses and loss adjustment expenses 58.7% 149.3% 99.8%
Underwriting expenses 18.4% 26.9% 29.3%
- - ------------------------------------------------------------------------------------------------
Combined ratio 77.1% 176.2% 129.1%
- - ------------------------------------------------------------------------------------------------
Automobile and other Property and Casualty
Losses and loss adjustment expenses 70.1% 70.0% 65.8%
Underwriting expenses 34.0% 33.7% 33.7%
- - ------------------------------------------------------------------------------------------------
Combined ratio excluding Prop. 103 rollback refund 104.1% 103.7% 99.5%
Proposition 103 rollback refund 11.7%
- - ------------------------------------------------------------------------------------------------
Combined ratio including Prop. 103 rollback refund 104.1% 115.4% 99.5%
- - ------------------------------------------------------------------------------------------------
Total combined ratio excluding Prop. 103 rollback refund 97.2% 105.5% 102.2%
Proposition 103 rollback refund 4.2%
- - ------------------------------------------------------------------------------------------------
Total combined ratio including Prop. 103 rollback refund 97.2% 109.7% 102.2%
- - ------------------------------------------------------------------------------------------------
4
In general, the profitability of property-casualty insurance underwriting
operations is dependent upon, principally, the adequacy of rates charged to the
insured for insurance protection, the frequency and severity of claims, the
ability of the Company to accurately accrue reported and unreported losses in
the correct period, the level of dividends paid to policyholders, and the
Company's ability to service claims, maintain policies and acquire business
efficiently. The cost of defending claims, particularly claims involving fraud
and abuse, has increased substantially in recent years. Property insurance
exposes Zenith to the risk of significant loss in the event of major adverse
natural phenomena, known in the insurance industry as catastrophes. These
catastrophes may cause significant contemporaneous financial statement losses
since catastrophe losses may not be accrued in advance of the event.
The amount by which losses, measured subsequently by reference to payments
and additional estimates, differ from those originally reported for a period is
known as development. This is favorable when losses ultimately settle for less
than that for which they were reserved or subsequent estimates indicate a basis
for reducing reserves on open claims. The following shows the one year loss
reserve development for loss and loss expenses for the three main lines of
property-casualty business:
- - --------------------------------------------------------------------------------
Automobile
Workers' and other
(Dollars in thousands) Compensation Property/Casualty Reinsurance Total
- - --------------------------------------------------------------------------------
One year loss
development in
1993 $ 4,704 $ 4,657 $ (290) $ 9,071
1992 13,502 5,177 1,255 19,934
1991 (464) (1,741) 5,290 3,085
- - --------------------------------------------------------------------------------
Favorable development is shown in brackets in the table above.
Adverse development in 1993 and 1992 was due principally to development of
prior year reserves for loss adjustment expenses which was caused by increased
expenditures on the loss adjustment process, discussed below.
The exposure of the insurance industry to losses arising out of the cost of
pollution damage and savings and loan bankruptcies has been the focus of
attention of a number of interested parties in recent years. Zenith's potential
exposure to losses arising out of pollution clean-up costs began in 1985 when it
commenced the writing of liability coverage under small commercial policies
through CalFarm Insurance and through its reinsurance operation. The policies
written or reinsured by Zenith's subsidiaries contain exclusion clauses for
pollution related losses and such losses are thereby substantially excluded from
all such coverage written by Zenith's subsidiaries. While Zenith has from time
to time received claims for damages resulting from pollution, Zenith believes
that many of these claims will be excluded from coverage and that these claims
will not have a material adverse effect on Zenith's financial condition.
Zenith has also participated, to a limited extent, through assumed
reinsurance, in casualty coverages with some exposure to liability for the costs
of savings and loan bankruptcies. Such participation is limited and although
Zenith has been advised of some claims related thereto, the ultimate outcome is
not expected to have a material adverse effect on Zenith's financial condition.
An uncertain political and regulatory environment, both state and federal,
including proposals relating to national health insurance and the possibilities
of initiatives impacting auto insurance and other areas; the lack of economic
growth in California; a highly competitive insurance industry; and the changing
environment for controlling medical, legal and rehabilitation costs, as well as
fraud and abuse, are all factors that continue to create a challenging operating
environment in the property-casualty industry. Also, lower interest rates reduce
investment income while increasing the market value of certain securities.
Although management is currently unable to predict the effect of any of the
foregoing, these trends and uncertainties could have a material effect on
Zenith's future operations and financial condition.
On January 17, 1994 an earthquake centered in Northridge, California caused
widespread property damage throughout the Los Angeles area, including damage to
Zenith's corporate offices. The risk of earthquakes in California is taken into
consideration in determining rates for insurance and reinsurance and earthquake
insurance is characterized by a high retention
5
of risk by policyholders. Accordingly, even though estimates of the damage
caused by the Northridge earthquake run as high as $30 billion, insured losses
are not expected to exceed $3 billion. Zenith anticipates that it will suffer
some losses as a result of the Northridge earthquake which will be reported in
the first quarter of 1994.
WORKERS' COMPENSATION
Underwriting results improved considerably in 1993 compared to 1992 and 1991
principally because of favorable changes in loss frequency trends. Loss
adjustment expenses increased from $27,634,000 to $47,376,000 to $69,625,000 or,
as a percentage of earned premiums, increased from 13.2% to 21.4% to 28.5% from
1991 to 1992 to 1993. Loss adjustment expenses include the expenses of
servicing, analyzing, investigating and defending claims. These increased
expenditures on the loss adjustment process were undertaken with a view to
decreasing the total outlay for losses, particularly cases involving fraud and
abuse. Management believes that these actions have had, and will continue to
have, a favorable effect on the results of the Workers' Compensation operation.
Premiums charged for workers' compensation insurance in the State of
California are based on, and until December 31, 1994 will continue to be based
on, minimum rates set by the California Insurance Commissioner (the
"Commissioner"). These minimum rates are applied in conjunction with an
experience modification factor, risk-based surcharges and a dividend plan to
arrive at the net cost of insurance to the policyholder. Minimum rates have been
adjusted as follows: January 1, 1991 +3.9%; January 1, 1992 +1.2%; July 1, 1992
+6.7%; July 16, 1993 -7.0%; and January 1, 1994 -12.7%. These changes have
consistently fallen short of the increases that were recommended by the Workers'
Compensation Rating Bureau during this time, however, the recommendations did
not anticipate the recent favorable changes in loss frequency trends. In the
event that rates as constituted after January 1, 1994 prove to be inadequate,
the profitability of Zenith's Workers' Compensation operations may be adversely
affected. Earned premiums increased during the three years ended December 31,
1993 principally because of an increase in premiums attributable to policies
written with surcharges and, to a lesser extent, premiums attributable to
policies written in Texas, an operation which Zenith commenced in 1992. Premiums
written on non-standard policies were $54,945,000 in 1993 compared to
$42,971,000 in 1992 and $15,048,000 in 1991. Premiums written in Texas in 1993
were $10,174,000 compared to $3,925,000 in 1992.
In July, 1993, certain significant workers' compensation legislation was
signed into law in California. Among other things, the new laws will affect the
California workers' compensation industry as follows:
Rating -- Minimum rates were reduced by 7% from those in effect on July 16,
1993. Effective January 1, 1995, the minimum rate law will be abolished and
companies will charge their own, actuarially determined rates.
Benefits -- Maximum weekly benefits for temporary disability will be
increased on July 1, 1994, July 1, 1995 and July 1, 1996, from the current level
of $336 to $490 on July 1, 1996. Maximum weekly benefits for permanent
disability will be subject to increases on these same dates. Permanent partial
disability weekly benefits will increase from a maximum of $148 to $230 with the
greatest increases in cases where disability ratings exceed 70%. Death benefits
will be increased on July 1, 1994 and again on July 1, 1996. At July 1, 1996,
death benefits will amount to $125,000, $145,000 and $160,000 for a worker with
one, two and three total dependents, respectively.
Cost containment -- Major changes
will provide a tougher standard for compensability of stress claims, limit the
number of medical-legal evaluations, limit post termination claims, provide
certain managed care flexibility, limit medical self-referrals where there is a
financial interest and provide limits on vocational rehabilitation costs.
Management is unable to predict the impact that the above legislative
changes will have on its business. Historically, analysis and estimates of the
impact of legislative changes have been difficult to predict with any reasonable
degree of accuracy.
6
AUTOMOBILE AND OTHER PROPERTY AND CASUALTY
Results of operations during 1993 and 1992 were adversely affected by
unfavorable weather and fire related losses. Such losses in 1993 included $1.6
million (of which $1.0 million was assumed from the California Fair Plan,
described below) related to the Southern California brush fires in the fall.
Results of operations in 1992 were reduced when Zenith's subsidiaries
refunded approximately $14 million, with interest of approximately $4.6 million,
to certain affected policyholders to settle the rollback contingency under
Proposition 103. The net cost of the refund after reinsurance reduced
underwriting income in the Automobile and Other Property and Casualty operation
in 1992 by $16.1 million or $10.6 million ($.56 per share) after tax. As part of
the agreement, the California Department of Insurance (the "Department") gave
final approval to all of the Company's rate applications on affected lines of
business subsequent to the rollback period and approved certain rate increases
on farmowners and homeowners policies effective July 1, 1993. Rates were
increased effective July 1, 1993, by 8% for farmowners' policies and by 15.4%
for homeowners' policies. Rate increases, if requested, beyond those subject to
such agreement are subject to prior approval by the Department. Management is
unable to predict whether any such requests for future rate increases, if any,
will be granted by the Department but failure by the Department to act upon such
requests will adversely affect the adequacy of such rates and the profitability
of operations in the lines of business so affected.
CalFarm is required to participate in involuntary market plans, including
the California Automobile Assigned Risk Plan ("CAARP"), the Commercial
Automobile Insurance Procedure ("CAIP") and the California Fair Plan. CAARP,
CAIP and the California Fair Plan are organizations that were established by
statute in California but are serviced by the insurance industry. These
organizations provide private passenger automobile coverage for bodily injury
and property damage, commercial automobile coverage and property coverage to
risks that would not otherwise be accepted in the ordinary course of business by
private insurance carriers. Participation in these organizations by private
carriers in California is mandatory. CAARP, CAIP and the California Fair Plan
together result in additional involuntary assumptions of insurance premiums and
losses which resulted in underwriting losses before taxes of approximately $1.6
million in 1993, $1.4 million in 1992, and $2.5 million in 1991.
REINSURANCE
Reinsurance is an insurance transaction between two insurance companies, in
which one company buys protection from losses sustained under its own insurance
policies which exceed the level it can prudently sustain.
Zenith's current participation in the reinsurance market is highly selective
and is limited principally to participation in the reinsurance of large
individual property losses and the accumulation of losses caused by
catastrophes. Events in recent years have served to increase the premiums paid
for such reinsurance and to increase the amount of such risk retained by
insurers and reinsurers. These developments have created a market which
management believes presents reasonable, acceptable opportunities to produce
favorable underwriting results. However, Zenith's assumed reinsurance business
is written with a view to limiting the company's exposure to losses from any one
event to a maximum of approximately 5% of stockholders' equity.
Underwriting results in 1993 were impacted favorably by the absence of the
type of large catastrophe losses that were characteristic of earlier years. Even
though 1993 was punctuated by certain notable property catastrophe losses, for
the most part, these events did not, individually, cause significant losses to
Zenith because of the higher retention of risk by insurers and reinsurers
referred to above. In 1992, losses of approximately $9.8 million were sustained
in conjunction with Hurricanes "Andrew" and "Iniki". In addition to these
losses, the results of the Reinsurance operation in 1992 were adversely affected
by other large, worldwide property losses. In 1991, catastrophe losses incurred
by the Reinsurance operation amounted to approximately $10.0 million and were
attributable primarily to adverse development of losses associated with
Hurricane "Hugo", the 1990 European
7
windstorms, the Exxon Valdez oil spill and the Phillips Petroleum disaster and,
to a lesser extent, 1991 losses attributable to typhoon damage in Japan and the
Oakland Fire.
During 1993, substantial new capital was drawn into the reinsurance market
in the form of new companies which were formed to write, among other things,
property reinsurance and in the form of new capital subscriptions to Lloyd's
underwriting entities in London, some of which capital was subscribed by
corporations for the first time. Although such new capital does not appear to
have significantly impacted reinsurance premium rates for 1994, management is
unable to predict what impact, if any, such a substantial increase in capital
will have on Zenith's assumed reinsurance business in the future.
FEDERAL INCOME TAXES
In 1992, Zenith adopted Statement of Financial Accounting Standards No. 109,
Accounting for Income Taxes ("SFAS No. 109") under which deferred income tax
assets and liabilities are established, at the currently enacted statutory rate
to reflect temporary differences between the financial statement values of
assets and liabilities and their respective tax values. Valuation allowances are
established, when necessary, to reduce deferred tax assets to the amounts
expected to be realized. The provision for deferred tax in the consolidated
statement of operations represents the change for the period in the net deferred
tax asset or liability. In addition, SFAS No. 109 sets forth the standard for
the recognition of the tax benefit of a capital or operating loss and no longer
requires the presentation of such tax benefit as an extraordinary item when such
loss carryforward is utilized. At December 31, 1993 Zenith did not establish a
valuation reserve since it believes that all of its deferred tax assets are
fully realizable. In particular, deferred tax assets which arise from
differences between insurance reserves on a tax and book basis are fully
realizable because of the historical profitability of Zenith's property and
casualty and health and life operations. Zenith had previously established a
valuation allowance for deferred tax assets which were related to future capital
loss deductions since management believed that future capital gains could not be
predicted with sufficient certainty to satisfy the criteria for asset
recognition under SFAS 109. During 1993 and 1992 realized gains were recognized
and these capital loss tax benefits were realized and the related valuation
allowance was reduced to zero.
In August, 1993, the Revenue Reconciliation Act of 1993 ("the Act") was
enacted. Among other provisions, the Act provides for an increase of 1% in the
rate of income tax on corporations effective January 1, 1993, an increase in
limitations on the deductibility of certain business expenses, an increase in
the cost of payroll taxes and increases in the marginal tax rates of higher
income individuals.
The increase in personal tax rates may impact the savings behavior of
individuals through the reduction of disposable income and/or by the enhancement
of tax deferred savings vehicles such as deferred annuities. Management is
currently unable to predict the effect of the changes in personal taxation
contained in the Act on its operations.
INVESTMENTS
Fluctuations in interest rates impact investment income, realized and
unrealized capital gains, the market value of investments and stockholders'
equity. During the last several years, interest rates have declined and reached
relatively low levels by recent historical measures. Subsequent to year end,
interest rates have risen providing opportunities for increased investment
income due to Zenith's larger cash and short-term investment position, while at
the same time reducing the market value of investments and stockholders' equity.
Since fluctuations in interest rates are probably the norm, management is unable
to predict the impact on Zenith's operations or balance sheet of such changes at
any point in time.
Effective December 31, 1993, Zenith implemented Statement of Financial
Accounting Standards No. 115 "Accounting for Certain Investments in Debt and
Equity Securities" ("SFAS No. 115") which sets forth rules for the accounting
treatment of investments. Among other provisions, SFAS No. 115 sets forth
criteria for the classification of debt securities among three categories. These
criteria include the existence of a "positive intent" and ability to hold a debt
security to maturity for such a security to be
8
classified as "held-to-maturity" and to be accounted for at amortized cost.
Investments classified as "available-for-sale" are reported at fair value with
unrealized gains and losses reported as a separate component of stockholders'
equity and investments classified as "trading securities" are reported at fair
value with unrealized gains and losses included in earnings. The effect of
implementing SFAS No. 115 was an increase in stockholders' equity of
$12,163,000, net of deferred taxes, from the change in carrying value of
Zenith's securities identified as "available-for-sale."
Zenith maintains a diversified investment portfolio consisting of common
stock, preferred stock, investment grade and non-investment grade bonds and
other investments. The goal is to maintain safety and liquidity, enhance
principal values and achieve increased rates of return consistent with
regulatory constraints. The allocation amongst these types of securities is
adjusted from time to time based on market conditions, credit conditions, tax
policy and other factors. The distribution of Zenith's consolidated investment
portfolio is shown in the table below:
- - -----------------------------------------------------------------------------------------------------------
At December 31, 1993 1992
- - -----------------------------------------------------------------------------------------------------------
Carrying % of Fair Carrying % of Fair
(Dollars in thousands) value total value value total value
- - -----------------------------------------------------------------------------------------------------------
Bonds:
Investment grade:
U.S. Government securities $ 442,369 29.4% $ 443,551 $ 383,913 27.9% $ 387,862
Other 613,680 40.9% 649,866 626,515 45.6% 656,703
Non-investment grade 17,995 1.2% 17,995 23,463 1.7% 22,565
Stocks:
Redeemable preferred:
Investment grade 30,589 2.0% 30,589 53,786 3.9% 52,565
Non-investment grade 2,386 0.2% 2,386 1,758 0.1% 1,847
Other preferred 42,741 2.9% 42,741 47,259 3.4% 47,259
Common 15,575 1.0% 15,575 29,656 2.2% 29,656
Short-term investments:
U.S. Government securities 124,306 8.3% 124,306 19,977 1.5% 19,977
Other 152,535 10.2% 152,535 138,721 10.1% 138,721
Other investments 58,221 3.9% 50,048 3.6%
- - -----------------------------------------------------------------------------------------------------------
Total investments $ 1,500,397 100.0% $ 1,375,096 100.0%
- - -----------------------------------------------------------------------------------------------------------
The carrying value of non-investment grade bonds and preferred stocks owned
by Zenith's property-casualty subsidiaries was 6.2% and 6.5% of statutory
surplus at December 31, 1993 and 1992, respectively. The carrying value of
non-investment grade bonds owned by Zenith's life insurance subsidiary was 34.8%
and 56.2% of statutory surplus at December 31, 1993 and 1992, respectively.
Carrying values of non-investment grade bonds and preferred stocks for this
comparison are based upon values and ratings used by the Securities Valuation
Office of the National Association of Insurance Commissioners ("NAIC"). The NAIC
may assign a non-investment grade rating to a security that is rated investment
grade by one or more rating agency.
9
The change in the GAAP carrying value of Zenith's consolidated investment
portfolio in 1993 and 1992 was as follows:
- - --------------------------------------------------------------------------------------------------
(Dollars in thousands) 1993 1992
- - --------------------------------------------------------------------------------------------------
Carrying value at beginning of year $ 1,375,096 $ 1,201,826
Purchases at cost 620,044 638,854
Maturities and exchanges of fixed maturities (196,611) (124,158)
Proceeds from sales of fixed maturity investments:
Held for investment (11,528) (248,591)
Held for sale (224,729) (41,735)
Trading portfolio (140,764)
Proceeds from sales of other investments (78,275) (64,596)
Realized gains from sales of investments:
Held for investment 370 8,623
Held for sale 5,948 1,184
Other investments 9,591 3,193
Realized gains from maturities and exchanges of investments:
Held for investment 4,737
Held for sale 399
Realized losses from writedowns of investments (2,153)
Unrealized gains on investments 20,937 11,405
Increase (decrease) in short-term investments 116,953 (6,683)
Net amortization of bonds and preferred stocks and other changes (1,771) (2,073)
- - --------------------------------------------------------------------------------------------------
Carrying value at end of year $ 1,500,397 $ 1,375,096
- - --------------------------------------------------------------------------------------------------
The information concerning the activity in Zenith's investment portfolio
described in the table above is presented for periods prior to the
implementation of SFAS No. 115.
In 1992, proceeds from sales of fixed maturities held for investment include
$76,622,000 from the sale of municipal bonds, of which $45,341,000 related to
municipal bonds that would otherwise have matured within two years of the date
of sale. In addition, the proceeds from sales of fixed maturities held for
investment include $17,596,000 related to sales of taxable bonds that would
otherwise have matured within two years of the date of sale. Such sales of
tax-exempt and other bonds with short maturities were made to take advantage of
prices at the short end of the yield curve, particularly for tax-exempt
securities, and to utilize tax loss carry forwards.
During the three years ended December 31, 1993, investment income was as
follows:
- - ---------------------------------------------------
Investment income
(Dollars in
thousands) 1993 1992 1991
- - ---------------------------------------------------
Property and
Casualty
portfolio (incl.
Parent)
Before tax $ 37,135 $ 43,128 $ 46,127
After tax 25,475 31,402 35,624
Health and Life
portfolio
Before tax 55,339 53,486 49,558
After tax 35,970 35,301 32,708
Consolidated
Before tax 92,474 96,614 95,685
After tax 61,445 66,703 68,332
- - ---------------------------------------------------
10
The yields on invested assets for the three years ended December 31, 1993
were as follows:
- - ---------------------------------------------------
Investment yields 1993 1992 1991
- - ---------------------------------------------------
Property and
Casualty
Portfolio (incl.
Parent)
Before tax 5.1% 6.2% 7.2%
After tax 3.5% 4.5% 5.6%
Health and Life
Portfolio
Before tax 7.7% 8.6% 9.4%
After tax 5.0% 5.7% 6.2%
- - ---------------------------------------------------
The decrease in yields was attributable to a general decrease in interest
rates, shorter average maturities and higher average quality of invested assets
during the three years ended December 31, 1993. The profitability of
property-casualty and health and life operations is partially dependent upon
Zenith's ability to generate investment income from its cash flows. The
reduction in yields from 1991 to 1993 has reduced the profitability of the
property-casualty operations and future profitability will be similarly related
to the level of such yields. The profitability of the health and life operation
is also dependent upon the spread between interest earned on invested assets and
interest credited to policyholders as discussed below under "Health and Life."
Realized gains on investments for the three years ended December 31, 1993
were as follows:
- - ----------------------------------------------------
Realized gains
(Dollars in
thousands) 1993 1992 1991
- - ----------------------------------------------------
Before tax $ 21,045 $ 10,847 $ 12,999
After tax 17,932 10,847 10,399
- - ----------------------------------------------------
Taxes on net realized gains during the three years ended December 31, 1993
were reduced by the benefit associated with losses carried forward from 1990,
however, in 1991 such tax benefit was recorded as an extraordinary item.
HEALTH AND LIFE
Results of the Health and Life operations for the three years ended December
31, 1993 were as follows:
- - -------------------------------------------------
(Dollars in
thousands) 1993 1992 1991
- - -------------------------------------------------
Premium income
and other
policy charges $ 63,921 $ 64,448 $ 61,556
Income before
tax and before
realized gains
on investments 6,623 12,124 10,513
Income after
taxes 12,932 10,354 8,325
Invested
assets at
December 31, 767,337 682,896 570,872
Deposits on
deferred annuity
contracts at
December 31, 545,956 485,096 391,194
Stockholder's
equity at
December 31, 124,610 103,944 87,738
- - -------------------------------------------------
Results of the Health and Life operation for 1993 were relatively unchanged
compared to 1992 and 1991, prior to the retroactive assessment from the
California Life Insurance Guarantee Association ("CLIGA"). CLIGA was established
by the California Life Insurance Guarantee Association Act effective January 1,
1991 to protect life insurance and annuity policyholders against impairment or
insolvency of life insurance companies by creating an association of insurers to
pay benefits and continue coverage. CLIGA assesses member insurers separately
for each impairment or insolvency based on each insurer's proportion of its
premium to the total premiums in California for the three years prior to
impairment or insolvency. In December 1991, CalFarm Life was first notified of
the insolvency of Executive Life Insurance Company ("Executive Life"). In March
1992, CalFarm Life received the first assessment for Executive Life, based on a
premium definition that excluded "annuity and fund deposits". This resulted in
an immaterial assessment for CalFarm Life. In
11
August 1993, CLIGA retroactively adjusted prior and future years' assessments to
include "annuity and fund deposits" as premiums. Based on this new definition,
CalFarm Life received its first revised assessment and paid $1,277,000 in
September 1993. Using this assessment, information contained in the
court-approved plan to sell the assets of Executive Life, and data provided by
the National Organization of Life and Health Insurance Guarantee Associations,
CalFarm Life has estimated its liability for the Executive Life and other
liquidations not yet billed to be approximately $3,843,000. The total estimated
assessment of $5,120,000 is reflected in the 1993 results.
Results of the health operations continue to benefit from CalFarm Life's
mutually beneficial, long-standing relationship with the California Farm Bureau
Federation (the "Farm Bureau"). Prior to July 1, 1993 health premiums were
written under two group health insurance programs sponsored by the Farm Bureau.
Effective July 1, 1993, one of the Farm Bureau plans was discontinued by CalFarm
Life. Insureds under this plan were offered membership in the remaining Farm
Bureau sponsored plan. Health premium accounted for approximately 81%, 81% and
82% of the Health, Life and Annuity premium income in 1993, 1992, and 1991,
respectively. Health premium rates were on average 10% higher in 1993 over 1992
to cover escalating costs of health care and increased utilization. It is not
possible to predict the impact of the Clinton Administration's health care
reform bill or possible state law changes on CalFarm Life's business until
definitive legislation, if any, emerges. CalFarm Life's performance has not been
adversely affected by AIDS claims, however, any significant proliferation of
AIDS claims could impact future premium rates.
CalFarm Life's deposits from Universal Life contracts were approximately $19
million in 1993 compared to approximately $13 million in 1992 and approximately
$11 million in 1991. The costs of acquiring the new universal life business,
primarily commission, policy issue and underwriting expenses, are the primary
cause of the increase in deferred policy acquisition costs between 1992 and
1993. The profitability of this business is significantly dependent on
continuing periodic premium payments. Higher than expected lapse and mortality
rates will affect operating income in the period in which they occur.
CalFarm Life continued its marketing program of tax sheltered annuity
products during 1993, specifically those designed for school teachers and
administrators. The Company's annuity products are designed to provide profits
from the investment spread earned on invested assets. The investment spread is
the amount by which the investment yield on invested assets exceeds the interest
credited to policyholders. During 1993, CalFarm Life continued to increase the
interest rate spreads, which improved current operating results. In addition,
CalFarm Life's ability to maximize profits on its annuity business is determined
by policy and premium persistency; the efficiency of operations; and the
limiting of its risks of defaults on its investment portfolio.
CalFarm Life received deposits on fixed annuities of approximately $56
million in 1993, of which approximately $50 million were tax qualified compared
to approximately $83 million in 1992, of which approximately $75 million were
tax-qualified annuities and approximately $80 million in 1991, of which
approximately $72 million were tax-qualified annuities. These deposits were the
primary cause of the increase in investments and investment income between 1991,
1992 and 1993. The amount of deposits received in 1993 by CalFarm Life on
deferred annuity contracts was influenced by economic and tax uncertainties and
by competition in the market for such products. CalFarm Life's annuity products
are primarily sold to school teachers and recent budgetary actions with respect
to education, in addition to the weak California economy, may continue to impact
sales in the future. However, recent increases in personal rates of income tax
may increase the desire to accumulate retirement income on a tax deferred basis.
CalFarm Life minimizes the effect of inflation and interest rate
fluctuations through the design of its interest sensitive life insurance and
annuity products. A significant
12
pricing component of these products includes an annual inflation rate adjustment
factor for administrative expenses. In addition, products with mortality risk
contain mortality and expense margins which can be used to offset negative
economic trends. Interest rate margins are reviewed continuously by management
and adjusted based on financial and economic conditions. Interest rates credited
to interest sensitive life insurance products are guaranteed for the first 12
months from the date of issue and interest rates credited to annuity products
are guaranteed for 12 month periods. Reduced investment yields on CalFarm Life's
investment portfolio (discussed under "Investments") did not materially affect
the profitability of its fixed deferred annuities and life insurance contracts
because of the Company's ability to manage the spread between the interest
earned on investments and the interest credited to policyholder funds, and
dividends to policyholders. Effective October 1, 1993, the guaranteed interest
rates were decreased on new business to 4% on Universal Life contracts and 3% on
Single Premium Whole Life and annuity contracts. CalFarm Life has the
flexibility to decrease credited interest rates, but not below the guaranteed
policy minimum interest rates that range from 3% to 6%. All products include
surrender charges to minimize any negative financial impact upon termination.
The acceptability of CalFarm Life to its policyholders and agents is
influenced by among other things, the ratings given to it by rating agencies
such as A.M. Best Company and Weiss Research, Inc. One of the factors considered
in the rating process is adequacy of statutory capital and surplus in relation
to policyholder obligations. CalFarm Life's risk based capital percentage is
375% which is higher than the NAIC's guidelines.
REAL ESTATE
Results of operations have not yet been impacted by Zenith's real estate
operation which commenced in the second quarter of 1993 through a newly formed
subsidiary. Approximately $7.2 million was expended through December 31, 1993 to
acquire and develop land in Las Vegas, Nevada for private residences. Management
anticipates that a total commitment of approximately $12 million will be made
toward such development before sales of these residences begin, possibly by the
end of the first quarter of 1994.
LIQUIDITY AND INFLATION
Zenith's property-casualty insurance operations and health and life
insurance operations create liquidity because insurance premiums are generally
collected prior to disbursements for claims and benefits. These net cash flows,
as set forth on page 55 in the Consolidated Financial Statements, are invested
as described in "investments" above. Zenith plans to match the expected payout
pattern of its liabilities with a suitable maturity profile of its investment
portfolio. Net cash flows from operations were $56,599,000, $53,929,000 and
$68,966,000, for 1993, 1992 and 1991, respectively. Net cash flows from
operations in 1993 include the payment of approximately $16,000,000, net of
reinsurance, for Proposition 103 rollback refunds. Zenith maintains cash and
short-term investments which amounted to $285,401,000 and $160,554,000 at
December 31, 1993 and 1992, respectively. These balances, or "short-term
liquidity," are supplemented by lines of credit available to Zenith of up to
$50,000,000, of which $50,000,000 was available at December 31, 1993.
Zenith's principal liquidity requirements in the long-term and the
short-term are the funds needed to pay its expenses, service its outstanding
debt, and pay any cash dividends which may be declared to its stockholders. To
meet these requirements, Zenith is principally dependent upon its lines of
credit and dividends from Zenith Insurance and CalFarm Life. In the opinion of
management, Zenith's sources of liquidity are sufficient to fund its short-term
and long-term requirements for liquidity. The insurance subsidiaries are subject
to California insurance regulations which restrict their ability to distribute
dividends. The California Insurance Code has been amended effective January 1,
1994 to revise the method of calculating the maximum dividends payable
13
by the subsidiaries without prior approval of the Department. Such dividend
capabilities are set forth in Note 12 to the Consolidated Financial Statements.
Such restrictions have not had, and under current regulations are not expected
to have, a material adverse impact on Zenith. Zenith received dividends from its
subsidiaries amounting to $25,000,000 in 1993, $15,000,000 in 1992, and
$33,000,000 in 1991. Maximum dividend capability, without prior approval of the
Department, of Zenith's subsidiaries in 1994 is $46,893,000.
Risk-based capital guidelines issued by the NAIC in 1993 for
property-casualty and life insurance companies are not expected to have any
material adverse consequences for Zenith's insurance subsidiaries.
On May 4, 1992 Zenith completed its offering of 9% Senior Notes due 2002,
which were issued at par. The net proceeds of the offering were $73,787,000,
part of which were used to repay in full Zenith's previously outstanding bank
borrowings and to redeem Zenith's previously outstanding 10 1/4% Senior Notes
due 1994. The remainder of the proceeds have been used and are available for
working capital and other general corporate purposes, including repurchases of
common stock of Zenith. The premium to call the 10 1/4% Senior Notes and the
unamortized discount thereon reduced net income in 1992 by $1,355,000 after tax
($.07 per share).
Workers' compensation insurers are required to have securities on deposit
for the protection of policyholders in accordance with regulations of the
California Department of Insurance. At December 31, 1993, investments carried at
$314,400,000 (market value of $313,700,000) were on deposit to comply with such
regulations.
At December 31, 1993, Zenith was authorized to purchase up to 809,000
additional shares of Zenith common stock pursuant to its share repurchase
program. These purchases, which are made at prevailing market prices, are
discretionary and can be adequately funded from Zenith's existing sources of
liquidity.
Inflation rates impact the financial statements and operating results in
several areas. Fluctuations in inflation rates impact the market value of the
investment portfolio and yields on new investments. Inflation also impacts the
portion of the loss reserves that relates to hospital and medical expenses and
property claims and loss adjustment expenses, but not the portion of loss
reserves that relates to workers' compensation indemnity payments for lost wages
due to statutorily defined fixed payments. Adjustments for inflationary impacts
are implicitly included as part of Zenith's subsidiaries' continuous review of
property-casualty reserve estimates. Actuarial account of increased costs is
considered in setting adequate rates, and this is particularly important in the
health insurance area where hospital and medical inflation rates have exceeded
general inflation rates. Workers' compensation premium income is determined
primarily by applying a rate to payrolls, and as inflation increases, average
wage rates are generally adjusted resulting in decreases in premium rates.
Operating expenses, including payrolls, are impacted to a certain degree by the
inflation rate.
Social inflation affects the loss reserves for other property-casualty
liability claims for which settlements are determined in court proceedings.
Inflation and fluctuations in interest rates
also impact our interest sensitive life insurance
products, however, policy provisions for termination charges act to partially
reduce such negative impact. See "Health and Life" above.
14
FIVE-YEAR RECORD
Zenith National Insurance Corp. and Subsidiaries
- - -------------------------------------------------------------------------------------------------------------------
Year ended December 31, Note 1993 1992
- - -------------------------------------------------------------------------------------------------------------------
Consolidated revenues $ 585,782,000 $ 549,335,000
- - -------------------------------------------------------------------------------------------------------------------
Property and Casualty underwriting
Net premiums earned 405,901,000 377,426,000
Underwriting income (loss)
Before Proposition 103 rollback refund, dividends to policyholders and
taxes 6 26,426,000 (17,667,000)
Before Proposition 103 rollback refund and taxes 6 11,251,000 (20,621,000)
Before taxes 1 11,251,000 (36,699,000)
After taxes, before Proposition 103 rollback refund 6 7,287,000 (14,108,000)
After taxes 5 7,287,000 (24,719,000)
Per share .38 (1.31)
- - -------------------------------------------------------------------------------------------------------------------
Health and Life
Premium income and other policy charges 63,921,000 64,448,000
Investment income
Before taxes 55,339,000 53,486,000
After taxes 35,970,000 35,301,000
Tax rate on investment income 35.0% 34%
Income after taxes, before realized gains (losses) 3 4,096,000 8,205,000
Per share .21 .43
Realized gains (losses)
Before taxes 7,050,000 910,000
After taxes 8 8,836,000 2,149,000
Per share .46 .11
Income (loss) after taxes 12,932,000 10,354,000
Per share .67 .55
- - -------------------------------------------------------------------------------------------------------------------
Investments, excluding Health and Life
Investment income
Before taxes 37,135,000 43,128,000
After taxes 25,475,000 31,402,000
After taxes, net of interest expense 4 21,147,000 27,129,000
Per share 1.10 1.43
Tax rate on investment income 31.4% 27.2%
Average yield on investment income
Before taxes 5.1% 6.2%
After taxes 3.5% 4.5%
Realized gains (losses)
Before taxes 13,995,000 9,937,000
After taxes 9,096,000 8,698,000
Per share .47 .46
- - -------------------------------------------------------------------------------------------------------------------
Income after taxes, before realized gains (losses) 4, 5, 6, 7, 9 33,682,000 19,100,000
Net income (loss) 2, 4, 5, 7 53,200,000 28,700,000
- - -------------------------------------------------------------------------------------------------------------------
Earnings per common share
Net income (loss) 2, 4, 5, 7 2.76 1.52
Cash dividends per share to common stockholders 1.00 1.00
Weighted average common shares outstanding 19,297,000 18,918,000
- - -------------------------------------------------------------------------------------------------------------------
Financial Condition
Total assets 1,857,790,000 1,703,553,000
Investments 1,500,397,000 1,375,096,000
Senior notes and bank debt 73,989,000 73,868,000
Total stockholders' equity 349,465,000 301,598,000
Stockholders' equity per share 18.55 16.03
Return on average equity 16.3% 9.7%
- - -------------------------------------------------------------------------------------------------------------------
Insurance statistics (GAAP)
Property and Casualty
Paid loss and loss expense ratio 66.7% 70.4%
Loss and loss expense ratio 67.8% 76.8%
Underwriting expense ratio 25.7% 27.9%
Policyholder dividends ratio 6 3.7% 0.8%
Combined ratio before Proposition 103 rollback refund 6 97.2% 105.5%
Combined ratio after Proposition 103 rollback refund 97.2% 109.7%
Net premiums earned-to-surplus ratio 1.5 1.5
Loss and loss expense reserves-to-surplus ratio (net of reinsurance) 1.7 1.8
Health and Life
Life insurance in force, net of reinsurance 2,523,153,000 2,663,669,000
- - -------------------------------------------------------------------------------------------------------------------
<FN>
(1) Excludes parent company operating expenses of $3,478,000, $3,222,000,
$3,236,000, $3,277,000 and $2,925,000 or $2,176,000, $2,126,000, $2,136,000,
$2,163,000, and $1,930,000, net of tax for 1993, 1992, 1991, 1990 and 1989,
respectively.
(2) Debt redemption costs of $1,355,000, net of $698,000 of tax benefit, (or
$.07 per share) were recognized as an extraordinary item in 1992. The tax
benefit of $2,600,000 (or $.14 per share) associated with capital losses carried
forward was recognized as an extraordinary item in 1991.
(3) Income is net of income taxes of $2,527,000, in 1993, $3,919,000 in 1992,
$3,600,000 in 1991, $3,199,000 in 1990 and $3,350,000 in 1989.
(4) Includes holding company's interest expense of $6,658,000, in 1993,
$6,472,000 in 1992, $5,430,000 in 1991, $3,847,000 in 1990 and $3,377,000 in
1989.
15
- - -------------------------------------------------------------------------------------------------------------------
Year ended December 31, 1991 1990 1989
- - -------------------------------------------------------------------------------------------------------------------
Consolidated revenues $ 546,308,000 $ 468,328,000 $ 483,886,000
- - -------------------------------------------------------------------------------------------------------------------
Property and Casualty underwriting
Net premiums earned 376,068,000 373,043,000 356,957,000
Underwriting income (loss)
Before Proposition 103 rollback refund, dividends to policyholders and
taxes (295,000) 25,065,000 29,072,000
Before Proposition 103 rollback refund and taxes (8,453,000) (2,083,000) 4,987,000
Before taxes (8,453,000) (2,083,000) 4,987,000
After taxes, before Proposition 103 rollback refund (3,915,000) 148,000 4,816,000
After taxes (3,915,000) 148,000 4,816,000
Per share (.21) .01 .23
- - -------------------------------------------------------------------------------------------------------------------
Health and Life
Premium income and other policy charges 61,556,000 57,848,000 56,259,000
Investment income
Before taxes 49,558,000 40,283,000 30,174,000
After taxes 32,708,000 26,587,000 19,915,000
Tax rate on investment income 34% 34% 34%
Income after taxes, before realized gains (losses) 6,913,000 6,198,000 6,454,000
Per share .36 .31 .31
Realized gains (losses)
Before taxes 2,162,000 (21,578,000) (6,934,000)
After taxes 1,412,000 (21,409,000) (4,875,000)
Per share .07 (1.09) (.23)
Income (loss) after taxes 8,325,000 (15,211,000) 1,579,000
Per share .44 (.77) .08
- - -------------------------------------------------------------------------------------------------------------------
Investments, excluding Health and Life
Investment income
Before taxes 46,127,000 49,693,000 47,728,000
After taxes 35,624,000 39,744,000 39,045,000
After taxes, net of interest expense 32,040,000 37,205,000 36,816,000
Per share 1.69 1.89 1.77
Tax rate on investment income 22.8% 20.0% 18.2%
Average yield on investment income
Before taxes 7.2% 8.0% 8.3%
After taxes 5.6% 6.4% 6.8%
Realized gains (losses)
Before taxes 10,837,000 (30,961,000) (298,000)
After taxes 8,987,000 (29,135,000) (196,000)
Per share .47 (1.48) (.01)
- - -------------------------------------------------------------------------------------------------------------------
Income after taxes, before realized gains (losses) 32,902,000 41,388,000 46,156,000
Net income (loss) 45,901,000 (9,156,000) 41,085,000
- - -------------------------------------------------------------------------------------------------------------------
Earnings per common share
Net income (loss) 2.42 (.47) 1.98
Cash dividends per share to common stockholders 1.00 .90 .83
Weighted average common shares outstanding 18,981,000 19,685,000 20,785,000
- - -------------------------------------------------------------------------------------------------------------------
Financial Condition
Total assets 1,477,571,000 1,327,332,000 1,182,286,000
Investments 1,201,826,000 1,063,073,000 938,365,000
Senior notes and bank debt 49,799,000 53,642,000 26,692,000
Total stockholders' equity 281,234,000 241,295,000 298,868,000
Stockholders' equity per share 14.93 12.62 14.74
Return on average equity 17.3% (3.3%) 13.7%
- - -------------------------------------------------------------------------------------------------------------------
Insurance statistics (GAAP)
Property and Casualty
Paid loss and loss expense ratio 63.9% 54.0% 51.6%
Loss and loss expense ratio 70.4% 64.1% 62.7%
Underwriting expense ratio 29.6% 29.2% 29.2%
Policyholder dividends ratio 2.2% 7.3% 6.7%
Combined ratio before Proposition 103 rollback refund 102.2% 100.6% 98.6%
Combined ratio after Proposition 103 rollback refund 102.2% 100.6% 98.6%
Net premiums earned-to-surplus ratio 1.6 1.8 1.5
Loss and loss expense reserves-to-surplus ratio (net of reinsurance) 1.8 2.0 1.6
Health and Life
Life insurance in force, net of reinsurance 2,438,036,000 2,233,081,000 2,115,700,000
- - -------------------------------------------------------------------------------------------------------------------
<FN>
(5) After benefit for "fresh start" of $531,000 ($.03 per share) in 1991,
$1,803,000 ($.09 per share) in 1990 and $1,561,000 ($.08 per share) in 1989.
(6) Excludes Proposition 103 rollback refund of $16,078,000, net of
reinsurance, before tax or $10,611,000 ($.56 per share) after tax in 1992.
(7) Net income in 1992 includes increase of $10,719,000 for the cumulative
effect of adoption of SFAS No. 109, Accounting for Income Taxes. Income, after
taxes, before realized gains (losses) excludes such item.
(8) Reflects tax benefit of $1,786,000 and $1,239,000 in 1993 and 1992,
respectively for utilization of capital losses carried forward in Zenith's
consolidated federal income tax return.
(9) Excludes $1,586,000 or $0.08 per share for net effect of legal settlement
and CLIGA assessment in 1993.
16
PROPERTY AND CASUALTY LOSS DEVELOPMENT
Zenith National Insurance Corp. and Subsidiaries
The table that follows shows analysis of development of loss and loss
adjustment expense liabilities as originally estimated on a GAAP basis at
December 31 of each year presented.
The accounting policies used to estimate these liabilities are described in Note
1 to the consolidated financial statements. Amounts represent all
property-casualty operations including CalFarm Insurance losses since its
acquisition June 4, 1985. Statutory reserves are not materially different from
GAAP reserves presented in this table.
ANALYSIS OF LOSS AND LOSS ADJUSTMENT EXPENSE LIABILITY DEVELOPMENT
- - ------------------------------------------------------------------------------------------------------------------------
Year ended December 31, 1993 1992 1991 1990
- - ------------------------------------------------------------------------------------------------------------------------
Liability for unpaid loss and loss adjustment expenses(1) $468,718,000 $464,149,000 $440,180,000 $415,645,000
- - ------------------------------------------------------------------------------------------------------------------------
Paid net of reinsurance (cumulative) as of:
One year later 176,815,000 177,071,000 153,914,000
Two years later 283,706,000 256,176,000
Three years later 314,957,000
Four years later
Five years later
Six years later
Seven years later
Eight years later
Nine years later
Ten years later
- - -------------------------------------------------------------------------------------------------------------------------
Liability net of reinsurance reestimated as of:
One year later (2) 473,220,000 460,114,000 418,730,000
Two years later 477,877,000 433,604,000
Three years later 445,074,000
Four years later
Five years later
Six years later
Seven years later
Eight years later
Nine years later
Ten years later
- - -------------------------------------------------------------------------------------------------------------------------
Favorable (deficient) development $ 9,071,000 $(37,697,000 ) $(29,429,000)
- - -------------------------------------------------------------------------------------------------------------------------
The analysis above presents the development of Zenith's balance sheet
liabilities for 1983 through 1993. The first line shows the liability for loss
and loss adjustment expense as estimated at the end of each calendar year. The
first section shows the actual payments of losses and expenses that relate to
each year end liability as they are paid during subsequent annual periods. The
second section includes revised estimates of unpaid amounts as well as the
payments. The final line shows the favorable or deficient developments of the
original estimates through 1993. Since conditions and trends that have affected
loss and loss adjustment expense development in the past may not occur in the
future in exactly the same manner, if at all, future results may not be reliably
predicted by extrapolation of the data presented.
(1) Net of receivable from reinsurers on unpaid losses and loss adjustment
expenses of $44,552,000 in 1993 and $32,701,000 in 1992.
(2) Net of re-estimated receivable from reinsurers of $55,055,000.
17
- - ---------------------------------------------------------------------------------------------------------------------------------
Year ended December 31, 1989 1988 1987 1986 1985 1984 1983
- - ---------------------------------------------------------------------------------------------------------------------------------
Liability for unpaid loss and loss
adjustment expenses(1) $377,891,000 $337,979,000 $286,844,000 $217,161,000 $153,483,000 $113,567,000 $89,526,000
- - ---------------------------------------------------------------------------------------------------------------------------------
Paid net of reinsurance (cumulative) as of:
One year later 121,051,000 108,423,000 98,802,000 83,511,000 70,725,000 50,376,000 37,032,000
Two years later 196,578,000 169,332,000 152,609,000 128,998,000 107,104,000 82,783,000 61,902,000
Three years later 250,078,000 206,412,000 182,843,000 156,705,000 127,532,000 98,991,000 76,073,000
Four years later 281,409,000 235,720,000 200,753,000 172,261,000 139,188,000 107,850,000 83,194,000
Five years later 254,062,000 218,712,000 181,708,000 146,031,000 114,529,000 88,053,000
Six years later 230,337,000 193,759,000 150,892,000 118,206,000 91,979,000
Seven years later 201,313,000 154,879,000 121,377,000 94,110,000
Eight years later 158,339,000 123,546,000 95,967,000
Nine years later 126,046,000 97,498,000
Ten years later 99,246,000
- - ---------------------------------------------------------------------------------------------------------------------------------
Liability net of reinsurance reestimated
as of:
One year later 372,542,000 331,770,000 286,389,000 213,884,000 154,027,000 126,553,000 92,847,000
Two year later 362,718,000 322,632,000 282,865,000 219,691,000 156,736,000 125,900,000 99,197,000
Three year later 365,901,000 318,052,000 281,937,000 221,401,000 160,791,000 124,876,000 99,886,000
Four year later 372,429,000 315,548,000 278,664,000 222,532,000 164,164,000 127,532,000 98,674,000
Five year later 318,506,000 273,723,000 222,122,000 164,090,000 129,793,000 100,268,000
Six year later 274,248,000 223,622,000 164,685,000 129,714,000 101,700,000
Seven year later 226,059,000 166,594,000 129,956,000 101,676,000
Eight year later 169,008,000 131,289,000 102,058,000
Nine year later 133,723,000 103,230,000
Ten year later 105,185,000
- - ---------------------------------------------------------------------------------------------------------------------------------
Favorable (deficient) development $ 5,462,000 $19,473,000 $12,596,000 $(8,898,000)$(15,525,000)$(20,156,000)$(15,659,000)
- - ---------------------------------------------------------------------------------------------------------------------------------
18
CONSOLIDATED BALANCE SHEET
Zenith National Insurance Corp. and Subsidiaries
- - -------------------------------------------------------------------------------------------------------------------------------
December 31, Note 1993 1992
- - -------------------------------------------------------------------------------------------------------------------------------
Assets
Investments
Fixed maturities:
At amortized cost (fair value $438,705,000, 1993, $1,063,235,000, 1992) $ 401,337,000 $1,031,128,000
At fair value (cost $687,075,000, 1993, $58,296,000, 1992) 705,682,000 58,307,000
Floating rate preferred stocks, at fair value (cost $30,582,000, 1993 and
$34,743,000, 1992) 31,495,000 32,923,000
Convertible and non-redeemable preferred stocks, at fair value (cost $11,545,000,
1993
and $14,096,000, 1992) 11,246,000 14,336,000
Common stocks, at fair value (cost $14,485,000, 1993 and $28,755,000, 1992) 15,575,000 29,656,000
Mortgage loans on real estate 4,515,000 4,960,000
Policy loans 39,609,000 34,308,000
Short-term investments (at cost, which approximates market) 276,841,000 158,698,000
Other investments 14,097,000 10,780,000
- - -------------------------------------------------------------------------------------------------------------------------------
Total investments 1, 2 1,500,397,000 1,375,096,000
Cash 8,560,000 1,856,000
Accrued investment income 21,635,000 22,490,000
Premiums receivable, less allowance for doubtful accounts of $887,000, 1993
and $400,000, 1992 59,188,000 58,381,000
Premium notes receivable, collateralized by letters of credit 1,647,000 1,858,000
Receivable from reinsurers and prepaid reinsurance premiums 57,426,000 47,189,000
Earned but unbilled premiums receivable 4,586,000 6,880,000
Deferred policy acquisition costs 108,416,000 91,019,000
Properties and equipment, less accumulated depreciation 3 47,042,000 48,443,000
Federal income taxes 7 6,987,000
Purchased intangibles and other assets 1 23,216,000 24,382,000
Excess of cost over net assets acquired 1 2,009,000 2,009,000
Other assets 23,668,000 16,963,000
- - -------------------------------------------------------------------------------------------------------------------------------
Total assets $1,857,790,000 $1,703,553,000
- - -------------------------------------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of this statement.
19
- - -------------------------------------------------------------------------------------------------------------------------------
December 31, Note 1993 1992
- - -------------------------------------------------------------------------------------------------------------------------------
Liabilities
Policy liabilities and accruals
Unpaid losses and loss expenses $ 513,270,000 $ 496,850,000
Future policy benefits for life insurance contracts 4 154,501,000 138,686,000
Deposits on deferred annuity contracts 545,956,000 485,096,000
Policy and contract claims 5,934,000 7,041,000
Unearned premiums 111,896,000 101,799,000
Policyholders' dividends accrued and accumulated 30,378,000 28,304,000
Other policyholder funds 16,857,000 14,401,000
Reserves on loss portfolio transfers 11,119,000 12,792,000
Senior notes payable, less unamortized issue costs
of $1,011,000, 1993 and $1,132,000, 1992 6 73,989,000 73,868,000
Federal income taxes 7 14,255,000
Special policyholders' dividend--Proposition 103 rollback refund 9 18,111,000
Other liabilities 30,170,000 25,007,000
- - -------------------------------------------------------------------------------------------------------------------------------
Total liabilities 1,508,325,000 1,401,955,000
- - -------------------------------------------------------------------------------------------------------------------------------
Commitments and contingent liabilities 9
Stockholders' equity
Preferred stock, $1 par--shares authorized 1,000,000; issued and outstanding,
none in 1993 and 1992
Common stock, $1 par--shares authorized 50,000,000; issued 23,910,000, outstanding
18,841,000, 1993; issued 23,562,000, outstanding 18,813,000, 1992 10 23,910,000 23,562,000
Additional paid-in capital 249,092,000 242,226,000
Retained earnings 148,043,000 113,867,000
Net unrealized appreciation (depreciation) on investments, net of $7,093,000
deferred taxes in 1993 1, 2 13,176,000 (668,000)
- - -------------------------------------------------------------------------------------------------------------------------------
434,221,000 378,987,000
Less treasury stock at cost (5,069,000 shares, 1993 and 4,749,000 shares, 1992) 10 (84,756,000) (77,389,000)
- - -------------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 349,465,000 301,598,000
- - -------------------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $1,857,790,000 $1,703,553,000
- - -------------------------------------------------------------------------------------------------------------------------------
20
CONSOLIDATED STATEMENT OF OPERATIONS
Zenith National Insurance Corp. and Subsidiaries
- - -----------------------------------------------------------------------------------------------------------------------
Year ended December 31, Note 1993 1992 1991
- - -----------------------------------------------------------------------------------------------------------------------
Consolidated revenues:
Property and casualty premium income 8 $405,901,000 $377,426,000 $376,068,000
Health and life premium income and other policy charges 63,921,000 64,448,000 61,556,000
Net investment income 2 92,474,000 96,614,000 95,685,000
Realized gains on investments 2 21,045,000 10,847,000 12,999,000
Other income, net 9 2,441,000
- - -----------------------------------------------------------------------------------------------------------------------
Total revenues 585,782,000 549,335,000 546,308,000
- - -----------------------------------------------------------------------------------------------------------------------
Expenses:
Property and casualty losses and loss expenses incurred 8 275,208,000 289,732,000 264,851,000
Health and life benefits and other policy credits 84,448,000 85,493,000 79,924,000
Policy acquisition costs 73,942,000 71,787,000 76,183,000
Other underwriting and operating expenses 55,152,000 55,200,000 57,287,000
Policyholders' dividends and participation 16,895,000 4,867,000 10,113,000
Special policyholders' dividend--Proposition 103 rollback refund 9 16,078,000
Interest expense 5, 6 6,658,000 6,472,000 5,430,000
- - -----------------------------------------------------------------------------------------------------------------------
Total expenses 512,303,000 529,629,000 493,788,000
- - -----------------------------------------------------------------------------------------------------------------------
Income from operations before federal income taxes,
extraordinary items and cumulative effect of accounting change 73,479,000 19,706,000 52,520,000
Federal income taxes 7 20,279,000 370,000 9,219,000
- - -----------------------------------------------------------------------------------------------------------------------
Net income before extraordinary items and cumulative effect of
accounting change 53,200,000 19,336,000 43,301,000
Extraordinary item--debt retirement cost,
net of tax benefit of $698,000 6 (1,355,000)
Extraordinary item--tax benefit associated with utilization
of capital losses carried forward 7 2,600,000
Cumulative effect of change in accounting for income taxes 1, 7 10,719,000
- - -----------------------------------------------------------------------------------------------------------------------
Net income $ 53,200,000 $ 28,700,000 $ 45,901,000
- - -----------------------------------------------------------------------------------------------------------------------
Earnings per share:
Net income before extraordinary items and cumulative effect
of accounting change $ 2.76 $ 1.02 $ 2.28
Extraordinary items (.07) .14
Cumulative effect of change in accounting for income taxes .57
- - -----------------------------------------------------------------------------------------------------------------------
Net income per common share 11 $ 2.76 $ 1.52 $ 2.42
- - -----------------------------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of this statement.
21
CONSOLIDATED STATEMENT OF CASH FLOWS
Zenith National Insurance Corp. and Subsidiaries
- - ------------------------------------------------------------------------------------------------------------------
Year ended December 31, 1993 1992 1991
- - ------------------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Premiums collected $ 492,758,000 $ 459,247,000 $ 461,330,000
Deposits on universal life type contracts 21,142,000 14,761,000 12,084,000
Investment income received 95,324,000 98,192,000 94,692,000
Losses and loss adjustment expenses paid (270,854,000) (266,345,000) (244,799,000)
Health claims paid (31,305,000) (33,597,000) (31,996,000)
Death and surrender benefits paid (11,659,000) (11,655,000) (10,588,000)
Underwriting and other operating expenses paid (131,082,000) (130,458,000) (132,837,000)
Real estate construction costs paid (7,285,000)
Reinsurance premiums paid (21,429,000) (22,797,000) (22,765,000)
Dividends paid to policyholders (14,720,000) (10,307,000) (19,008,000)
Special policyholders' dividend--Proposition 103 rollback refund (18,447,000)
Interest paid (6,914,000) (6,073,000) (5,128,000)
Interest on deferred annuity contracts (33,752,000) (33,593,000) (29,014,000)
Income taxes paid (5,178,000) (3,446,000) (3,005,000)
- - ------------------------------------------------------------------------------------------------------------------
Net cash flows from operating activities 56,599,000 53,929,000 68,966,000
- - ------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Purchases of invested assets (620,044,000) (638,854,000) (1,009,210,000)
Proceeds from sales of invested assets 651,907,000 479,080,000 842,752,000
Capital expenditures (3,568,000) (4,168,000) (3,347,000)
Cash received under portfolio transfers 7,628,000 174,000
Losses and adjustment expenses paid under portfolio transfers (1,656,000) (2,187,000) (3,267,000)
Net change in short-term investments (116,953,000) 6,683,000 57,756,000
Other -- principally cash received (advanced) through notes
receivable 2,309,000 128,000 (2,910,000)
- - ------------------------------------------------------------------------------------------------------------------
Net cash flows from investing activities (88,005,000) (151,690,000) (118,052,000)
- - ------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Cash received from bank line of credit 1,000,000 6,350,000 32,300,000
Cash paid on bank line of credit (1,000,000) (40,150,000) (36,600,000)
Cash dividends paid to common stockholders (19,018,000) (18,927,000) (19,012,000)
Proceeds from exercise of stock options 6,261,000 4,526,000 599,000
Deposits on deferred annuity contracts 56,764,000 83,600,000 80,203,000
Acquisition costs of deferred annuity contracts, deferred (5,925,000) (9,104,000) (9,104,000)
Annuitization and return of policyholders' balances on deferred
annuity contracts (26,357,000) (20,279,000) (18,280,000)
Retirement of Senior Notes payable 1994 (17,740,000)
Net proceeds from issuance of Senior Notes payable 2002 73,787,000
Interest on deferred annuity contracts 33,752,000 33,593,000 29,014,000
Purchase of treasury shares (7,367,000) (5,686,000) (4,954,000)
- - ------------------------------------------------------------------------------------------------------------------
Net cash flows from financing activities 38,110,000 89,970,000 54,166,000
- - ------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash 6,704,000 (7,791,000) 5,080,000
Cash at beginning of year 1,856,000 9,647,000 4,567,000
- - ------------------------------------------------------------------------------------------------------------------
Cash at end of year $ 8,560,000 $ 1,856,000 $ 9,647,000
- - ------------------------------------------------------------------------------------------------------------------
Reconciliation of net income to net cash flows from operating
activities:
Net income $ 53,200,000 $ 28,700,000 $ 45,901,000
Adjustments to reconcile net income to net cash flows from operating
activities:
Depreciation 4,978,000 4,855,000 4,832,000
Amortization of intangibles and costs on notes payable 1,286,000 2,969,000 1,575,000
Net amortization of bonds and preferred stocks 1,683,000 1,885,000 269,000
Realized gains on investments (21,045,000) (10,847,000) (12,999,000)
Decrease (increase) in:
Accrued investment income 855,000 (542,000) (1,484,000)
Premiums receivable 1,698,000 3,634,000 5,340,000
Receivable from reinsurers (10,237,000) (41,384,000) (4,301,000)
Deferred policy acquisition costs (11,472,000) (5,305,000) (3,602,000)
Increase (decrease) in:
Unpaid losses and loss expenses 16,420,000 56,670,000 24,535,000
Future policy benefits for life insurance contracts 15,815,000 12,917,000 9,637,000
Policy and contract claims (1,107,000) (168,000) (150,000)
Unearned premiums 10,097,000 6,220,000 5,116,000
Policyholders' dividends accrued and accumulated (16,037,000) 13,349,000 (9,113,000)
Other policyholder funds 2,456,000 (176,000) 2,234,000
Federal income taxes 15,101,000 (14,493,000) 3,614,000
Other (7,092,000) (4,355,000) (2,438,000)
- - ------------------------------------------------------------------------------------------------------------------
Net cash flows from operating activities $ 56,599,000 $ 53,929,000 $ 68,966,000
- - ------------------------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of this statement.
22
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Zenith National Insurance Corp. and Subsidiaries
aa
- - ---------------------------------------------------------------------------------------------------------------------------
Preferred Common
Three years ended December 31, 1993 Note stock $1 par stock $1 par
- - ---------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1990 $23,215,000
Net income for 1991
Net unrealized appreciation on investments in equity securities 2
Exercise of 44,000 stock options 10 44,000
Tax benefit on options exercised in 1991
Purchase of 336,000 treasury shares at cost
Cash dividends declared to common stockholders ($1.00 per share,
paid quarterly)
- - ---------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1991 23,259,000
Net income for 1992
Net unrealized appreciation on investments 2
Exercise of 303,000 stock options 10 303,000
Tax benefit on options exercised in 1992
Purchase of 323,000 treasury shares at cost
Cash dividends declared to common stockholders ($1.00 per share,
paid quarterly)
- - ---------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1992 23,562,000
Net income for 1993
Net unrealized appreciation on investments, net of deferred taxes of $543,000 1,2
Cumulative effect of change in accounting for investments, net of deferred taxes
of $6,550,000 1
Exercise of 348,000 stock options 10 348,000
Tax benefit on options exercised in 1993
Purchase of 320,000 treasury shares at cost
Cash dividends declared to common stockholders ($1.00 per share,
paid quarterly)
- - ---------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1993 $23,910,000
- - ---------------------------------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of this statement.
23
- - ----------------------------------------------------------------------------------------------------------------------------------
Additional Net unrealized appreciation
paid-in Retained (depreciation) on Treasury
Three years ended December 31, 1993 capital earnings investments stock Total
- - ----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1990 $237,095,000 $ 77,128,000 $ (29,394,000) $ (66,749,000) $ 241,295,000
Net income for 1991 45,901,000 45,901,000
Net unrealized appreciation on investments in
equity securities 17,321,000 17,321,000
Exercise of 44,000 stock options 555,000 599,000
Tax benefit on options exercised in 1991 48,000 48,000
Purchase of 336,000 treasury shares at cost (4,954,000) (4,954,000)
Cash dividends declared to common stockholders
($1.00 per share, paid quarterly) (18,976,000) (18,976,000)
- - ----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1991 237,698,000 104,053,000 (12,073,000) (71,703,000) 281,234,000
Net income for 1992 28,700,000 28,700,000
Net unrealized appreciation on investments 11,405,000 11,405,000
Exercise of 303,000 stock options 4,223,000 4,526,000
Tax benefit on options exercised in 1992 305,000 305,000
Purchase of 323,000 treasury shares at cost (5,686,000) (5,686,000)
Cash dividends declared to common stockholders
($1.00 per share, paid quarterly) (18,886,000) (18,886,000)
- - ----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1992 242,226,000 113,867,000 (668,000) (77,389,000) 301,598,000
Net income for 1993 53,200,000 53,200,000
Net unrealized appreciation on investments, net
of deferred taxes of $543,000 1,681,000 1,681,000
Cumulative effect of change in accounting for
investments, net of deferred taxes of
$6,550,000 12,163,000 12,163,000
Exercise of 348,000 stock options 5,913,000 6,261,000
Tax benefit on options exercised in 1993 953,000 953,000
Purchase of 320,000 treasury shares at cost (7,367,000) (7,367,000)
Cash dividends declared to common stockholders
($1.00) per share, paid quarterly) (19,024,000) (19,024,000)
- - ----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1993 $249,092,000 $ 148,043,000 $ 13,176,000 $ (84,756,000) $ 349,465,000
- - ----------------------------------------------------------------------------------------------------------------------------------
24
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Zenith National Insurance Corp. and Subsidiaries
NOTE 1--SUMMARY OF ACCOUNTING POLICIES,
OPERATIONS AND PRINCIPLES OF CONSOLIDATION
Zenith National Insurance Corp. ("Zenith") is engaged through its wholly-
owned insurance subsidiaries, Zenith Insurance Company ("Zenith Insurance"),
CalFarm Insurance Company ("CalFarm Insurance"), ZNAT Insurance Company
("ZNAT"), and CalFarm Life Insurance Company ("CalFarm Life"), in the business
of writing workers' compensation insurance primarily in California; reinsurance;
annuities; health and life insurance coverages; and auto, homeowners, farmowners
and other coverages primarily in the rural areas of California. Zenith also
conducts real estate operations, developing private residences for sale in Las
Vegas, Nevada, through its wholly owned subsidiary, Perma-Bilt, a Nevada
Corporation ("Perma-Bilt").
The financial statements have been prepared in accordance with generally
accepted accounting principles and include Zenith and its subsidiaries. All
significant intercompany balances and transactions have been eliminated in
consolidation.
FAIR VALUES OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, Disclosures about Fair
Value of Financial Instruments ("SFAS No. 107"), requires disclosure of fair
value information about most financial instruments, both on and off the balance
sheet, if it is practicable to estimate. SFAS No. 107 excludes certain financial
instruments, such as certain insurance contracts, and all non-financial
instruments from its disclosure requirements. A financial instrument is defined
as a contractual obligation that ultimately ends with the delivery of cash or an
ownership interest in an entity. Disclosures, included in these notes, regarding
the fair value of financial instruments have been derived using external market
sources, estimates using present value or other valuation techniques.
INVESTMENTS AND CHANGE IN ACCOUNTING PRINCIPLE
At December 31, 1993 Zenith adopted Statement of Financial Accounting
Standards No. 115, Accounting for Certain Investments in Debt and Equity
Securities ("SFAS No. 115"); prior periods have not been restated. SFAS No. 115
requires investments in debt and equity securities to be identified to three
categories as follows: Held-to-maturity -- those securities, which by their
terms must be redeemed by the issuing company, that the enterprise has the
positive intent and ability to hold to maturity, are reported at amortized cost.
Trading
securities -- those securities that are held principally for the purpose of
selling them in the near term and are reported at fair value with unrealized
gains and losses included in earnings. Available-for-sale -- those securities
not classified as either held-to-maturity or trading securities and are reported
at fair value with unrealized gains and losses excluded from earnings and
reported as a separate component of stockholders' equity. The cumulative effect
of such adoption has been reported separately in the consolidated statement of
stockholders' equity and was insignificant to the consolidated statement of
operations.
Prior to the implementation of SFAS No. 115, and since September 1992,
investments in fixed maturities which might, under certain circumstances, be
sold prior to their dates of maturity were classified as investments "held for
sale" and such portfolio was recorded at the lower of cost or market value.
Unrealized losses, net of deferred taxes, on such investments, if any, were
recorded as a charge directly to stockholders' equity. In addition, Zenith
identified certain investments in fixed maturities held for trading purposes.
Such investments were recorded at market value and unrealized gains or losses on
such investments, net of deferred taxes, were credited or charged directly to
stockholders' equity.
25
Mortgage loans on real estate are carried at amortized cost. Policy loans
and other investments are stated at cost. Although the policy loans generally
have no stated maturity, the majority of these loans have interest rates that
fluctuate directly with credited interest rates on related deferred annuity
contracts and, accordingly, the carrying value approximates fair value.
When, in the opinion of management, a decline in market value of investments
is considered to be "other than temporary," such investments are written down to
their net realizable value. The determination of "other than temporary"
includes, in addition to consideration of other relevant factors, a presumption
that if the market value is below cost, by a significant amount for a period of
time, a writedown is necessary.
The market value of investments was supplied by the Merrill Lynch pricing
service, with the exception of 50 items whose values were obtained from other
brokers making a market in the investment, the Bloomberg and Quotron financial
news services, and analytical pricing methods for issues for which there is no
market. These market values are considered fair value.
The cost of securities sold is determined by the "identified certificate"
method. Short-term investments include, certificates of deposit, commercial
paper and U.S. Treasury securities with maturities of less than one year at the
time of purchase. For these short-term investments, the carrying amount is a
reasonable estimate of fair value.
FEDERAL INCOME TAXES AND CHANGE IN ACCOUNTING PRINCIPLE
The federal income tax provision for 1993 and 1992 was prepared in
accordance with Statement of Financial Accounting Standards No. 109, Accounting
for Income Taxes ("SFAS No. 109"), adopted in 1992 effective from the beginning
of 1992 and prior periods have not been restated. The cumulative effect of such
adoption was $10,719,000 in 1992 and is reported in the consolidated statement
of operations. This standard replaced the deferred method of accounting for
deferred income taxes with the liability method, in which deferred assets and
liabilities are established for temporary differences between the financial
statement values of assets and liabilities and their tax bases. The effects of
temporary differences are set forth in Note 7.
RECOGNITION OF PROPERTY AND CASUALTY REVENUE AND EXPENSE
Property and casualty premiums are earned on a pro rata basis over the terms
of the policies. Premiums applicable to the unexpired terms of policies in force
are recorded as unearned premiums. Premiums earned reflect an estimate for
earned but unbilled audit premiums. Workers' compensation insurance premiums are
based upon the payroll of the insured.
An estimated provision for workers' compensation policyholders' dividends is
accrued as the related premiums are earned. Such dividends do not become a fixed
liability unless and until declared by the Board of Directors.
Zenith Insurance and CalFarm Insurance make provision for the settlement of
all incurred claims, both reported and unreported. The liabilities for unpaid
losses and loss expenses are estimates for the eventual costs of claims incurred
but not settled, less estimates of salvage and subrogation. Estimates for
reported claims are primarily determined by evaluation of individual reported
claims. Estimates for claims incurred but not reported are based on Zenith
Insurance's and CalFarm Insurance's experience with respect to the probable
number and nature of such claims. The methods for making such estimates and for
establishing the resulting liabilities are continually reviewed and updated and
any adjustments resulting therefrom are reflected in earnings currently.
RECOGNITION OF REVENUE AND BENEFITS FOR DEFERRED ANNUITY CONTRACTS
Revenues earned from deferred annuity contracts represent amounts assessed
against contract balances during the period, principally for surrenders.
Deposits on deferred annuities represent the amounts received plus credited
interest, less applicable administrative fees. Interest credited rates ranged
from 3.25% to 8.25% in 1993 except for indexed deferred annuity contracts where
rates ranged from 4.5% to 5.5% in 1993.
The fair value of Zenith's liabilities for deposits on deferred annuity
contracts is based on amounts received plus credited interest rates adjusted on
the contract anniversary date to current market rates for these instruments,
less applicable fees, which approximates the carrying amount reported in the
consolidated balance sheet.
26
RECOGNITION OF REVENUE AND BENEFITS FOR UNIVERSAL LIFE, SINGLE PREMIUM LIFE, AND
OTHER INTEREST-SENSITIVE LIFE CONTRACTS
Revenues from universal life, single premium life, and other
interest-sensitive life contracts represent amounts assessed against policy
account balances during the period for mortality charges, surrender charges and
policy administration charges earned.
Future policy benefits for universal life, single premium life and other
interest-sensitive life contracts represent policyholder account balances
consisting of the premiums received plus credited interest, less policyholder
assessments. Amounts included in expense represent benefits in excess of
policyholder account balances. Interest credited rates ranged from 3.75% to 7.0%
in 1993.
RECOGNITION OF REVENUE AND RELATED BENEFITS AND EXPENSES FOR TRADITIONAL LIFE
CONTRACTS AND HEALTH CONTRACTS
Revenues from traditional life insurance contracts represent premiums which
are recognized as income when due. Health insurance premiums are recognized as
income over the related contract period.
Benefits and expenses are associated with earned premiums so as to result in
recognition of profits over the life of the contracts. This association is
accomplished through the provision for future policy benefits and the deferral
and amortization of policy acquisition costs for traditional life contracts and
through the policy and contract liability for health contracts.
Future policy benefits for traditional life contracts have been computed
using primarily the net level premium reserve method based upon estimated future
investment yield, mortality, morbidity and withdrawals.
REINSURANCE
In accordance with general industry practices, Zenith's insurance
subsidiaries annually purchase reinsurance to protect against liabilities in
excess of certain limits on insurance risks they have underwritten. Such
arrangements are known, in the industry, as "excess of loss" protection. The
purpose of such reinsurance is to protect Zenith from the impact of large,
unforseen losses and such reinsurance reduces the magnitude of sudden and
unpredictable changes in net income and the capitalization of insurance
operations.
The ceding of reinsurance does not discharge the original insurer from
primary liability to its policyholder. Balances due from reinsurers on unpaid
losses, including an estimate of such recoverables related to revenues for
incurred but not reported losses are reported as assets and are included in
receivable from reinsurers. Earned premiums are stated in the consolidated
financial statements after deduction of amounts ceded to reinsurers.
Approximately 61% of amounts recoverable from reinsurers at December 31, 1993
are attributable to reinsurance arrangements with one large United States
reinsurance company. No amounts due from reinsurers have been written off as
uncollectible in the three years ended December 31, 1993.
DEFERRED POLICY ACQUISITION COSTS
Property and Casualty Insurance -- Policy acquisition costs, consisting of
commissions, premium taxes and certain other underwriting costs, are deferred
and amortized as the related premiums are earned.
Life Insurance -- The costs of acquiring new business, principally
commission and certain policy issuance and underwriting expenses, have been
deferred to the extent that such costs are recoverable from future revenues.
Costs deferred on deferred annuities, universal life, single premium life and
other interest-sensitive contracts are amortized in relationship to the present
value of expected future gross profits. Costs deferred on traditional life
policies are amortized over the premium paying period of the contracts in
proportion to future anticipated premiums. The assumptions underlying this
amortization schedule are continually reviewed and updated and any adjustments
resulting therefrom are reflected in earnings currently.
REAL ESTATE OPERATIONS
Land and land development costs, including costs of acquisition and
development, property taxes and related interest are capitalized and recognized
pro rata against sales of completed units.
27
PROPERTIES AND EQUIPMENT
Properties and equipment are stated at cost less accumulated depreciation.
Depreciation is calculated principally on a straight-line basis using the
following useful lives: buildings, 10 to 40 years; furniture, fixture and
equipment, 3 to 10 years.
Expenditures for maintenance and repairs are charged to operations as
incurred. Additions and improvements to buildings and other fixed assets are
capitalized and depreciated. Upon disposition, the asset cost and related
depreciation are removed from the accounts and the resulting gain or loss is
included in income.
PURCHASED INTANGIBLES AND OTHER ASSETS
Purchased intangibles and other assets represent the total amount of the
cost in excess of net tangible assets acquired through the CalFarm acquisition.
This amount has been assigned to various intangibles and other amortizable
assets and the assigned values are being amortized actuarially, or on a
straight-line basis over 25 years. Amortization expense for 1993, 1992 and 1991
was $1,166,000, $1,147,000, and $1,118,000, respectively, and accumulated
amortization was $12,318,000 at December 31, 1993 and $11,152,000 at December
31, 1992.
EXCESS OF COST OVER NET ASSETS ACQUIRED
The excess of cost over net assets acquired of $2,009,000 represents the
unamortized excess of cost over underlying net tangible assets of companies
acquired prior to 1970, which is considered to have continuing value, and is not
being amortized.
RECLASSIFICATIONS
Certain 1992 and 1991 amounts have been reclassified to conform to the 1993
presentation.
NOTE 2--INVESTMENTS
The amortized cost and fair values of investments held-to-maturity,
available-for-sale and trading securities were as follows:
- - --------------------------------------------------------------------
(Dollars in Gross Gross
thousands) Amortized unrealized unrealized Fair
December 31, 1993 cost gains (losses) value
- - --------------------------------------------------------------------
Held-to-maturity
U.S. Treasury
securities $ 248 $ 7 $ 255
Corporate debt
securities 340,931 36,532 $ (347) 377,116
Mortgage backed
securities 60,158 1,176 61,334
- - --------------------------------------------------------------------
Total, held-
to-maturity $ 401,337 $ 37,715 $ (347) $ 438,705
- - --------------------------------------------------------------------
- - --------------------------------------------------------------------
(Dollars in Gross Gross
thousands) Amortized unrealized unrealized Fair
December 31, 1993 cost gains (losses) value
- - --------------------------------------------------------------------
Available-for-sale
U.S. Treasury
securities $ 215,945 $ 444 $ (509) $ 215,880
Foreign government
debt securities 5,612 79 5,691
Corporate debt
securities 262,003 19,287 (894) 280,396
Mortgage backed
securities 58,446 598 (8) 59,036
Redeemable
preferred stocks 33,217 753 (995) 32,975
Equity securities 48,827 1,861 (347) 50,341
Short-term
investments 276,841 276,841
- - --------------------------------------------------------------------
Total,
available-
for-sale $ 900,891 $ 23,022 $ (2,753) $ 921,160
- - --------------------------------------------------------------------
Trading securities
U.S. Treasury
securities $ 107,747 $ 27 $ (140) $ 107,634
Corporate debt
securities 4,105 57 (92) 4,070
Equity securities 7,785 228 (38) 7,975
- - --------------------------------------------------------------------
Total, trading
securities $ 119,637 $ 312 $ (270) $ 119,679
- - --------------------------------------------------------------------
Fixed maturity investments at December 31, 1993, are due as follows:
- - -------------------------------------------------------
(Dollars in thousands) Amortized Fair
December 31, 1993 cost value
- - -------------------------------------------------------
Held-to-maturity:
Due in one year or less $ 8,495 $ 8,977
Due after one year through
five years 78,499 85,879
Due after five years through
ten years 151,725 164,829
Due after ten years 162,618 179,020
- - -------------------------------------------------------
Total $ 401,337 $ 438,705
- - -------------------------------------------------------
Available-for-sale:
Due in one year or less $ 368,538 $ 368,994
Due after one year through
five years 286,188 290,121
Due after five years through
ten years 112,205 118,641
Due after ten years 85,133 93,063
- - -------------------------------------------------------
Total $ 852,064 $ 870,819
- - -------------------------------------------------------
Expected maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties. Mortgage-backed securities are shown as being due at
their average expected maturity dates. Redeemable preferred stocks with sinking
fund redemption periods are shown as being due at the mid-point of the sinking
fund period.
28
The amortized cost and market values of investments in fixed maturities and
short-term investments were as follows:
- - ------------------------------------------------------------
(Dollars in
thousands) Gross Gross
December 31, Amortized unrealized unrealized Market
1992 cost gains (losses) value
- - ------------------------------------------------------------
U.S.
Treasury
securities and
obligations
of U.S.
government
corporations
and agencies:
Held for
investment $ 256,927 $ 2,570 $ (501) $ 258,996
Held for sale 71,601 1,908 (6) 73,503
Trading
portfolio 55,374 94 (105) 55,363
Short-term
investments 19,977 19,977
- - --------------------------------------------------------------
Total $ 403,879 $ 4,572 $ (612) $ 407,839
- - --------------------------------------------------------------
Obligations of
states and
political
subdivisions:
Held for
investment $ 1,339 $ 1,339
Corporate
securities:
Held for
investment $ 654,497 $ 31,506 $ (2,743) $ 683,260
Held for sale 46,764 1,099 (1,726) 46,137
Trading
portfolio 2,922 22 2,944
Short-term
investments 138,721 138,721
- - --------------------------------------------------------------
Total $ 842,904 $ 32,627 $ (4,469) $ 871,062
- - --------------------------------------------------------------
Total:
Held for
investment $ 912,763 $ 34,076 $ (3,244) $ 943,595
Held for sale 118,365 3,007 (1,732) 119,640
Trading
portfolio 58,296 116 (105) 58,307
Short-term
investments 158,698 158,698
- - --------------------------------------------------------------
Total $1,248,122 $ 37,199 $ (5,081) $1,280,240
- - --------------------------------------------------------------
Proceeds from sales of fixed maturities were $377,021,000, $290,326,000 and
$754,548,000 during 1993, 1992 and 1991, respectively. Gross gains of
$14,189,000 and gross losses of $588,000 were realized on such sales in 1993.
Gross gains of $11,949,000 and gross losses of $2,142,000 were realized on such
sales in 1992. Gross gains of $17,221,000 and gross losses of $4,258,000 were
realized on such sales in 1991.
Gross unrealized appreciation and gross
unrealized depreciation were:
- - ---------------------------------------------------------
(Dollars in thousands)
December 31, 1993 1992
- - ---------------------------------------------------------
Fixed maturities
Unrealized appreciation $ 21,161 $ 116
Unrealized (depreciation) (2,406) (105)
- - ---------------------------------------------------------
Net unrealized appreciation $ 18,755 $ 11
- - ---------------------------------------------------------
Equity securities
Unrealized appreciation $ 1,861 $ 3,320
Unrealized (depreciation) (347) (3,999)
- - ---------------------------------------------------------
Net unrealized appreciation
(depreciation) $ 1,514 $ (679)
- - ---------------------------------------------------------
Total $ 20,269 $ (668)
- - ---------------------------------------------------------
Net realized gains (losses) on investments and net unrealized appreciation
(depreciation) on total investments before taxes are summarized as follows:
- - -----------------------------------------------------------------
(Dollars in thousands) Fixed Equity
Year Ended December 31, maturities securities Total
- - -----------------------------------------------------------------
1993
Net realized investment
gains:
Held for investment $ 5,107
Held for sale 6,347
Trading portfolio 2,147
-----------
Total net realized
investment gains 13,601 $ 7,444 $ 21,045
Net unrealized
appreciation
(depreciation) during
the year:
Held for investment 6,536
Held for sale 17,480
Trading portfolio (159)
-----------
Total net unrealized
appreciation during
the year 23,857 2,383 26,240
- - -----------------------------------------------------------------
Total $ 37,458 $ 9,827 $ 47,285
- - -----------------------------------------------------------------
1992
Net realized investment
gains (losses):
Held for investment $ 8,488
Held for sale (111)
Short-term investments
162
-----------
Total net realized
investment gains 8,539 $ 2,308 $ 10,847
Net unrealized
appreciation
(depreciation) during
the year:
Held for investment 4,071
Held for sale (940)
Trading portfolio 11
-----------
Total net unrealized
appreciation during
the year 3,142 11,394 14,536
- - -----------------------------------------------------------------
Total $ 11,681 $ 13,702 $ 25,383
- - -----------------------------------------------------------------
1991
Net realized investment
gains $ 9,812 $ 3,187 $ 12,999
Net unrealized
appreciation during
the year 78,250 17,321 95,571
- - -----------------------------------------------------------------
Total $ 88,062 $ 20,508 $ 108,570
- - -----------------------------------------------------------------
29
Investment income is summarized as follows:
- - ----------------------------------------------------------------
(Dollars in thousands)
Year ended December 31, 1993 1992 1991
- - ----------------------------------------------------------------
Fixed maturities
Bonds $ 79,384 $ 78,197 $ 68,462
Redeemable
preferred stocks 3,205 6,382 10,515
Equity securities
Floating rate
preferred stocks 2,181 2,972 4,183
Convertible and
nonredeemable
preferred stocks 715 1,155 1,058
Common stocks 325 486 680
Mortgage loans on
real estate 572 980 973
Policy loans 2,562 2,129 1,733
Short-term investments 6,775 5,023 8,445
Notes receivable 101 195 425
Other 1,454 3,163 3,238
- - ----------------------------------------------------------------
97,274 100,682 99,712
Less investment expenses 4,800 4,068 4,027
- - ----------------------------------------------------------------
Net investment income $ 92,474 $ 96,614 $ 95,685
- - ----------------------------------------------------------------
Investments carried at $314,400,000 at December 31, 1993 and $302,400,000 at
December 31, 1992 (market value $313,700,000 and $304,800,000, respectively) are
on deposit with regulatory authorities in compliance with insurance company
regulations.
Zenith maintains a diversified investment portfolio as described in
Management's Discussion and Analysis of Consolidated Financial Condition and
Results of Operations. There were no securities in the investment portfolio
which exceeded 10% of stockholders' equity at either December 31, 1993 or 1992.
As of December 31, 1993, Zenith and its subsidiaries own $11,613,000 of
securities in Reliance Insurance Company, its parent and affiliates. Reliance
Insurance Company is a major stockholder of Zenith.
NOTE 3--PROPERTIES AND EQUIPMENT
Properties and equipment consists of the following:
- - ------------------------------------------------------
(Dollars in thousands)
December 31, 1993 1992
- - ------------------------------------------------------
Land $ 14,836 $ 14,836
Buildings 32,360 31,060
Furniture, fixtures and
equipment 32,450 30,204
- - ------------------------------------------------------
79,646 76,100
Less accumulated depreciation 32,604 27,657
- - ------------------------------------------------------
Total $ 47,042 $ 48,443
- - ------------------------------------------------------
NOTE 4--FUTURE POLICY BENEFITS
Future policy benefits and life insurance in force consist of:
- - --------------------------------------------------------------------
Life Future Interest
(Dollars in thousands) Insurance policy rate
December 31, in force benefits assumptions
- - --------------------------------------------------------------------
1993
Universal life contracts $ 2,151,874 $ 88,165 7.0%
Traditional life
contracts 750,750 48,969 9.9%
Other 73,554 17,367 7.9%
- - --------------------------------------------------------------------
1992
Universal life contracts $ 1,799,056 $ 74,076 7.3%
Traditional life
contracts 796,722 47,755 9.6%
Other 355,871 16,855 8.6%
- - --------------------------------------------------------------------
Reinsurance recoverable on future policy benefits amounting to $730,000 and
$686,000 at December 31, 1993 and 1992, respectively, is recorded as an asset.
Traditional life and group life mortality assumptions are based upon
multiples, ranging from 70% to 120%, applied to the 1967-70 Select and Ultimate
Mortality Tables. Individual and group accident and health morbidity assumptions
are based upon CalFarm Life experience. Withdrawal assumptions are based upon
either CalFarm Life experience or industry tables modified, where appropriate,
for CalFarm Life experience.
Mortality, morbidity and withdrawal assumptions for other lines of insurance
(including paid up and reinsurance assumed) are calculated using various
statutory assumptions.
Assumptions with regard to interest rates, mortality, morbidity and
withdrawals for reinsurance ceded approximate the assumptions used in
calculating the related direct reserves.
For deferred annuity contracts, universal life, single premium life, and
other interest-sensitive life insurance contracts, it is assumed that the earned
interest rate would exceed the rate credited to account values by the amount of
the target interest spreads established for each product.
NOTE 5--PAYABLE TO BANKS
Zenith has lines of credit available of $50 million. As of December 31, 1993
and 1992, there were no outstanding balances on these unsecured lines of credit.
Interest on funds borrowed through one of these lines of credit is payable at
the banks' prime rate, less .55%, and at a published prime or a fixed rate
chosen by Zenith on the other line of credit. Zenith Insurance has a line of
credit available of $3 million to enable it to issue letters of credit in favor
of ceding companies in certain states where such ceding companies would not
otherwise be allowed to take credit for reinsurance ceded to Zenith Insurance.
30
Under these agreements certain restrictive covenants apply including the
maintenance of a specific level of net worth for Zenith and its insurance
subsidiaries.
The weighted average interest rate for 1993, 1992 and 1991 was 5.5%, 6.2%
and 8.2%, respectively. At December 31, 1993 and 1992 the prime interest rate
was 6%.
NOTE 6--SENIOR NOTES PAYABLE
$75,000,000 of 9% Senior Notes due 2002 (the "9% Notes") were issued at par
in May 1992. Interest on the notes is payable semi-annually. The notes are
general unsecured obligations of Zenith. Issue costs of $1,213,000 are being
amortized over the term of the notes and $121,000 and $81,000 of such costs were
amortized during 1993 and 1992, respectively. Covenants contained in the
indenture include restrictions on the ability of Zenith and its subsidiaries to
incur secured debt and the right of holders of the 9% Notes to require Zenith to
repurchase the 9% Notes upon a decline in the rating of the 9% Notes within
ninety days after the occurrence of certain events. Those events are: (a) a
person or group becomes the beneficial owner of more than 50% of Zenith common
stock; (b) 10% or more of Zenith common stock is acquired by Zenith within any
twelve month period; or (c) the sum of the fair market value of distributions
(other than regular dividends or distributions of capital stock) and the
consideration for purchases of Zenith common stock by Zenith during a 12 month
period is thirty percent or more of the fair market value of outstanding Zenith
common stock. The fair value at December 31, 1993 of the 9% Notes is $86,250,000
based on a price published by a rating agency.
In June 1992, Zenith called its previously outstanding 10 1/4% Senior Notes
due 1994 utilizing a portion of the proceeds of the 9% Notes. The premium to
call the 10 1/4% Senior Notes and the unamortized discount thereon reduced net
income in 1992 by $1,355,000, net of a tax benefit of $698,000.
NOTE 7--FEDERAL INCOME TAXES
The components of the provision (benefit) for taxes on income from
operations are:
- - -------------------------------------------------------------
(Dollars in thousands)
Year Ended December 31, 1993 1992 1991
- - -------------------------------------------------------------
Current $ 11,982 $ 5,146 $ 5,707
Deferred 8,297 (4,776) 912
Charge in lieu of taxes 2,600
- - -------------------------------------------------------------
Total federal income taxes $ 20,279 $ 370 $ 9,219
- - -------------------------------------------------------------
The charge in lieu of taxes in 1991 represents the additional taxes that
would have been incurred without the capital loss carryforward, the benefit of
which was reflected as an extraordinary item.
The difference between the statutory federal income tax rate (35% in 1993
and 34% in 1992 and 1991) and Zenith's effective tax rate on income from
operations, as reflected in the financial statements, is explained as follows:
- - ------------------------------------------------------------
(Dollars in thousands)
Year ended December 31, 1993 1992 1991
- - ------------------------------------------------------------
Statutory federal income
tax: $ 25,718 $ 6,700 $ 17,857
Increase (reduction) in taxes:
Dividend received
deduction (1,537) (2,577) (3,841)
Tax exempt interest (812) (2,159)
"Fresh start" benefits (902)
Proration of dividend
exclusion and tax
exempt interest to loss
reserves 204 449 812
Rate differential
associated with AMT (1,820)
Utilization of AMT
credit carryforward (775)
Tax benefit of capital
loss carryforward (4,253) (3,688)
Other 147 298 47
- - ------------------------------------------------------------
Total federal income
taxes $ 20,279 $ 370 $ 9,219
- - ------------------------------------------------------------
In 1992 Zenith adopted SFAS No. 109 retroactive to the beginning of 1992
(see Note 1). The cumulative effect of such adoption was an increase in income
of $10,719,000 from the adjustment of deferred taxes at the beginning of the
year, net of a valuation allowance of $11,947,000. The effect on the provision
for federal income taxes in 1992 increased net income by $881,000. In addition,
the tax effect of purchased life insurance reserves was reclassified to deferred
taxes.
In 1993 and 1992, deferred taxes are provided based upon temporary
differences between the tax and book basis of assets and liabilities. The
components of the net deferred tax assets and liabilities were as follows:
31
- - --------------------------------------------------------------
Deferred tax
assets
(Dollars in thousands) (liabilities)
--------------------
Year ended December 31, 1993 1992
- - --------------------------------------------------------------
Differences between the tax basis and
book basis of investments $ (7,725) $ 2,286
Earned but unbilled premiums receivable (1,605) (2,160)
Deferred policy acquisition costs (36,586) (29,943)
Purchased intangibles (15,601) (14,835)
Properties and equipment (2,597) (2,576)
Capital loss carryover 1,346
AMT credit carryover 2,381
Property and casualty loss reserve
discount 25,727 23,790
Difference in computing life policy
reserves 17,044 12,745
Limitation on deduction for unearned
premiums 7,243 6,344
Policyholders' dividends accrued 7,464 6,318
Accrued cost of Proposition 103 rollback
refund 5,468
Other (3,023) (947)
- - --------------------------------------------------------------
(9,659) 10,217
Valuation allowance (4,484)
- - --------------------------------------------------------------
Net deferred tax asset (liability) $ (9,659) $ 5,733
- - --------------------------------------------------------------
Property and casualty loss reserves are not discounted for book purposes,
however the Tax Reform Act of 1986 requires property and casualty loss reserves
to be discounted for tax purposes.
In 1991 deferred taxes are the result of timing differences in the
recognition of revenue and expense for tax and financial statement purposes. The
sources of timing differences, and tax effect of each are:
- - ------------------------------------------------------------
(Dollars in thousands)
Year ended December 31, 1991
- - ------------------------------------------------------------
Deferred policy acquisition costs $ 4,092
Undeclared policyholders' dividends accrued and
accumulated 2,610
Discount on loss and loss expense reserves (2,219)
Amortization of purchased intangibles 2,148
Difference in computing policy reserves (3,474)
Subrogation receivable (25)
Amortization of January 1, 1987 unearned premium
reduction (1,024)
Market discount not recognized for tax purposes
currently 655
Depreciation 160
Effect of AMT (1,038)
Other (973)
- - ------------------------------------------------------------
Total deferred tax $ 912
- - ------------------------------------------------------------
Current taxes receivable (payable) and deferred taxes were as follows:
- - --------------------------------------------------------
(Dollars in thousands)
Year Ended December 31, 1993 1992
- - --------------------------------------------------------
Current taxes $ (4,596) $ 1,254
Deferred taxes (9,659) 5,733
- - --------------------------------------------------------
Federal income taxes $ (14,255) $ 6,987
- - --------------------------------------------------------
Zenith files a consolidated federal income tax return. As California
insurance companies, Zenith's subsidiaries pay premium taxes to the State of
California on gross premiums written in lieu of state income or franchise tax.
The tax rate was 2.35% in 1993 and 1992.
The policyholders' surplus account of CalFarm Life which permitted a
deferral of tax became taxable in 1986 as a result of an election to adjust the
tax basis of assets under Internal Revenue Code Section 338. Accordingly,
CalFarm Life does not have a policyholders' surplus account.
NOTE 8--REINSURANCE
Reinsurance transactions reflected in the financial statements are as
follows:
- - ----------------------------------------------------------
(Dollars in thousands) 1993 1992 1991
- - ----------------------------------------------------------
Ceded reinsurance netted
against earned premiums
for the year $ 22,457 $ 22,231 $ 21,498
Ceded reinsurance netted
against property and
casualty losses and
loss adjustment
expenses incurred 38,716 11,350 18,986
Net assumed reinsurance
included in earned
premiums for the year 26,094 19,357 27,531
- - ----------------------------------------------------------
Zenith Insurance has an assumed reinsurance agreement with Reliance
Insurance Company, a major stockholder of Zenith. Three of Zenith's directors
are also directors of Reliance Insurance Company. Reimbursed estimated costs
paid to Reliance relating to this arrangement amounted to $578,000, $420,000 and
$211,000 for 1993, 1992 and 1991, respectively. Zenith's reinsurance
arrangements provide protection against claims in excess of between $200,000 and
$700,000 per occurrence depending upon the type of coverage. Zenith's
catastrophe reinsurance provides protection against aggregate losses per event
on property and workers' compensation coverages with limits ranging from
$20,000,000 to $100,000,000. Assumed reinsurance business is not covered by such
catastrophe reinsurance.
NOTE 9--COMMITMENTS AND CONTINGENT
LIABILITIES
Zenith and its subsidiaries lease space for some of its offices expiring
through 2002, equipment on leases expiring through 1996 and automobiles on two
through five year leases. The minimum rentals on these operating leases as of
December 31, 1993 are as follows:
- - -------------------------------------------------------------
(Dollars in
thousands)
Year Equipment Auto fleet Offices Total
- - -------------------------------------------------------------
1994 $ 66 $ 731 $ 3,687 $ 4,484
1995 37 301 3,133 3,471
1996 20 49 2,347 2,416
1997 1,072 1,072
1998 and
thereafter 5,789 5,789
- - -------------------------------------------------------------
Total $ 123 $ 1,081 $ 16,028 $ 17,232
- - -------------------------------------------------------------
32
Rental expenses for 1993, 1992, and 1991 amounted to $5,717,000, $4,774,000
and $4,009,000, respectively.
Zenith and its subsidiaries are involved in certain litigation. In the
opinion of management and legal counsel, such litigation is either without merit
or the ultimate liability, if any, will not have a material effect on the
consolidated financial condition of Zenith.
RESOLUTION OF CONTINGENCIES SURROUNDING CERTAIN LITIGATION AND OTHER MATTERS
Other income in the amount of $2,441,000 recognized in 1993 relates to
certain events which were resolved in 1993 associated with the non-investment
grade securities market and Zenith's related write-downs of investments in 1990.
Zenith settled litigation which will result in the receipt of approximately
$7,561,000. Also, the California Life Insurance Guarantee Association ("CLIGA")
assessed CalFarm Life approximately $5,120,000 for its share of the cost
associated with the failure of Executive Life Insurance Company.
RESOLUTION OF CONTINGENCIES SURROUNDING PROPOSITION 103
In January 1993, Zenith entered into discussions with the California
Department of Insurance (the "Department") to resolve the rollback refund issue
with respect to its subsidiaries. In this context, and without admitting that
Zenith would owe any refunds or that its rates would require a refund under a
correct application of the California Supreme Court's directive of May 1989,
management came to the conclusion that in the best interests of Zenith's
stockholders and customers, a fair settlement would be better than the continued
uncertainty and the costs and risks associated with the litigation of this
issue.
Accordingly, on January 27, 1993, Zenith announced that it had reached an
agreement with the Department to resolve Zenith's Proposition 103 rollback
refund contingency. During 1993, under the agreement, Zenith's subsidiaries
refunded to each holder of an affected policy issued or renewed during the
rollback period an amount equal to approximately 9.5% of the premium paid plus
interest from May 8, 1989 to the date of payment. The net cost of the refund,
after reinsurance, reduced income in 1992 by $16,078,000 before income taxes.
NOTE 10--COMMON STOCK
Under an employee non-qualified stock option plan adopted by the Board of
Directors in 1978, as amended, options are issued to officers and key employees
for the purchase of Zenith's common stock at 100% of the market price at the
date of grant. The options expire between five and ten years after the date of
grant or three months after termination of employment. Zenith makes no charges
to earnings in connection with stock options.
Additional information with respect to stock options is as follows:
- - ---------------------------------------------------------------
Option Price
Number ----------------------------
Options of shares Per share Total
- - ---------------------------------------------------------------
Outstanding at
December 31, 1991 1,720,000 $11.94-$ 21.02 $ 30,638,000
Granted 335,000 17.13-17.44 5,781,000
Exercised 303,000 11.94-19.09 4,527,000
Expired or cancelled 367,000 17.84-20.11 6,947,000
----------- ------------
Outstanding at
December 31, 1992 1,385,000 11.94-21.02 24,945,000
Granted 332,000 22.56-28.19 8,198,000
Exercised 348,000 11.94-19.81 6,261,000
Expired or cancelled 65,000 11.94-19.81 1,137,000
----------- ------------
Outstanding at
December 31, 1993 1,304,000 $11.94-$ 28.19 $ 25,745,000
- - ---------------------------------------------------------------
The 1,304,000 outstanding options are exercisable: 1994, 895,000; 1995,
173,000; 1996, 153,000; and 83,000, 1997.
At December 31, 1993, 1992 and 1991, respectively, 454,000, 721,000 and
689,000 shares were available to be granted. At December 31, 1993 and 1992,
respectively, 704,000 and 912,000 options could have been exercised. In 1991,
43,000 options were exercised for a total amount of $598,000 with an option
price of $13.38-15.13 per share.
At December 31, 1993 Zenith had authority from its Board of Directors to
purchase 809,000 additional treasury shares at prevailing market prices.
NOTE 11--EARNINGS PER COMMON SHARE
Earnings per common share are computed on the basis of the weighted average
of common shares outstanding. The number of shares used in 1993, 1992 and 1991
in the computation of earnings per common share was 19,297,000, 18,918,000 and
18,981,000, respectively.
NOTE 12--DIVIDEND RESTRICTIONS
Under insurance company regulations of the State of California, the maximum
dividends that may be paid to Zenith by its insurance company subsidiaries
during any 12 month period without prior approval of the Department of Insurance
is limited to the greater of 10% of statutory surplus as regards policyholders
at the preceding December 31,
33
or 100% of net income for the preceding year for Zenith Insurance, and the
greater of 10% of statutory surplus as regards policyholders at the preceding
December 31, or statutory net gain from operations for the preceding year for
CalFarm Life. In addition, any such dividend must be paid out of earned surplus.
Zenith Insurance's stockholder's equity and CalFarm Life's stockholder's equity
in accordance with generally accepted accounting principles amounted to
$279,117,000 and $124,610,000, respectively, as of December 31, 1993 of which
Zenith Insurance and CalFarm Life could pay $40,969,000 and $5,924,000,
respectively, in 1994, to Zenith in dividends without prior approval, leaving a
restricted balance of $238,148,000 and $118,686,000, respectively. In addition,
in 1994, $1,117,000 can be paid to Zenith Insurance by its insurance
subsidiaries which would be available for dividend payments to Zenith in the
following year.
NOTE 13--STATUTORY FINANCIAL DATA
Capital stock and surplus and net income on a statutory basis as reported to
regulatory authorities were as follows:
- - --------------------------------------------------
(Dollars in thousands)
Year ended
December 31, 1993 1992 1991
- - --------------------------------------------------
Capital stock and
surplus:
Property and
casualty,
consolidated $ 228,097 $ 203,479 $ 186,806
Life insurance 59,241 54,769 45,247
Net income:
Property and
casualty,
consolidated 49,698 7,562 35,984
Life insurance 4,966 8,253 10,434
- - --------------------------------------------------
NOTE 14--UNAUDITED QUARTERLY FINANCIAL
DATA
- - -------------------------------------------------------------------
(Dollars in thousands
except per share data)
Year ended March June September December
December 31, 1993 31 30 30 31
- - -------------------------------------------------------------------
Premium income and
other policy
charges $ 113,935 $ 120,192 $ 119,992 $ 115,703
Net investment
income 24,324 23,683 22,872 21,595
Realized gains on
investments 4,997 5,659 3,841 6,548
Other income, net 2,441
Net income 12,600 15,100 13,500 12,000
Net income per
share .66 .78 .70 .63
- - -------------------------------------------------------------------
- - ---------------------------------------------------------------------
(Dollars in thousands
except per share data)
Year ended March June September December
December 31, 1992 31 30 30 31
- - ---------------------------------------------------------------------
Premium income
and other policy
charges $ 104,877 $ 108,068 $ 111,686 $ 117,243
Net investment income 23,646 24,707 24,923 23,338
Realized gains on
investments 1,845 3,266 4,527 1,209
Income (loss) from
operations before
income taxes,
extraordinary
item and cumulative
effect of
accounting change 11,647 12,139 1,702 (5,782)
Extraordinary
item--debt
retirement cost (1,355)
Cumulative effect of
accounting
change 10,719
Net income (loss) 19,644 7,818 2,734 (1,496)
Net income (loss)
per share 1.04 .41 .14 (.08)
- - ---------------------------------------------------------------------
Quarterly data for 1992 have been restated for the adoption of SFAS No. 109,
retroactive to January 1, 1992 and to present debt retirement costs in the
second quarter as an extraordinary item.
In the fourth quarter of 1992 Zenith recognized $16,078,000 of expense
associated with Proposition 103 rollback refunds (see Note 9).
NOTE 15--SEGMENT INFORMATION
Zenith's operations are conducted through three business segments. These
segments and their respective operations are as follows:
PARENT
Zenith is a holding company owning directly or indirectly all of the capital
stock of certain California insurance and insurance related companies. In 1993,
Zenith commenced a real estate operation through a newly formed subsidiary.
PROPERTY AND CASUALTY OPERATIONS
Zenith's property and casualty insurance operations offer multiple product
line insurance and reinsurance. Investments and related income of the property
and casualty insurance companies are available for payment of claims and
benefits and have not been identified with individual product lines.
HEALTH AND LIFE INSURANCE OPERATIONS
Zenith's life insurance operations offer individual and group life, annuity
and accident and health policies. Identifiable assets for the health and life
insurance segment are those assets which are used in the life insurance company.
34
The following table is a summary of results by major segments:
- - ------------------------------------------------------------------------------------------------------
(Dollars in thousands except per share data)
Year ended December 31 1993 1992 1991
- - ------------------------------------------------------------------------------------------------------
Property and Casualty
Net written premiums $ 415,947 $ 378,178 $ 380,408
Net earned premiums 405,901 377,426 376,068
Investment income 36,643 42,276 45,727
Underwriting income (loss) before Proposition 103 rollback
refund(1)(8) 11,251 (20,621) (8,453)
Underwriting income (loss)(1) 11,251 (36,699) (8,453)
Income after taxes and before realized gains and Proposition 103
rollback refund(3)(8) 32,425 16,674 31,400
Income after taxes and before realized gains(3) 32,425 6,063 31,400
Income after taxes 40,939 16,208 41,841
Identifiable assets 946,219 912,928 815,255
- - ------------------------------------------------------------------------------------------------------
Health and Life
Premium income and other policy charges(2) 63,921 64,448 61,556
Investment income 55,339 53,486 49,558
Income after taxes and before realized gains(3) 4,096 8,205 6,913
Income after taxes 12,932 10,354 8,325
Identifiable assets 897,157 789,664 669,434
- - ------------------------------------------------------------------------------------------------------
Parent
Investment income 492 852 400
(Loss) after taxes and before realized gains (losses) (3) (1,253) (5,779) (5,411)
(Loss) after taxes (671) (7,226) (6,865)
Identifiable assets 32,409 22,928 9,226
- - ------------------------------------------------------------------------------------------------------
Consolidated total
Premium income and other policy charges 469,822 441,874 437,624
Investment income 92,474 96,614 95,685
Underwriting income (loss) before Proposition 103 rollback
refund(1)(8) 11,251 (20,621) (8,453)
Underwriting income (loss)(1)(8) 11,251 (36,699) (8,453)
Income after taxes and before realized gains and Proposition 103
rollback refund(4)(3)(8) 33,682 19,100 32,902
Per share 1.75 1.01 1.73
Income after taxes and before realized gains(3) 35,268 8,489 32,902
Income after taxes 53,200 19,336 43,301
Net income(5)(6) 53,200 28,700 45,901
Per share 2.76 1.52 2.42
Total assets(7) $1,857,790 $1,703,553 $1,477,571
- - ------------------------------------------------------------------------------------------------------
<FN>
(1) After policyholders' dividends of $15,175,000, $2,954,000 and $8,158,000 for
1993, 1992 and 1991, respectively.
(2) Of total health and life premium income and other policy charges, 62%, 62%
and 63% for 1993, 1992 and 1991, respectively, is represented by one group
health plan.
(3) Realized gains on investments after taxes were as follows:
1993 1992 1991
----------------------------------
Property and Casualty $ 8,514 $ 10,145 $ 10,441
Health and Life 8,836 2,149 1,412
Parent 582 (1,447) (1,454)
----------------------------------
Consolidated Total $ 17,932 $ 10,847 $ 10,399
Realized gains in the Health and Life segment reflect $1,786,000, and
$1,239,000 tax benefit for capital loss carryover utilized in the
consolidated federal income tax return in 1993 and 1992, respectively.
(4) In 1993, excludes $1,586,000 for net effect of legal settlement and CLIGA
assessment.
(5) Net income in 1992 includes an extraordinary item of $1,355,000, net of tax
benefit, for debt redemption costs and in 1991 includes $2,600,000 for the
tax benefit associated with utilization of capital losses carried forward
from prior years.
(6) Net income in 1992 includes $10,719,000 for the cumulative effect of the
change in accounting for income taxes.
(7) Reflects elimination entry of $17,995,000, $21,967,000 and $16,344,000 in
1993, 1992 and 1991, respectively.
(8) Proposition 103 rollback refund in 1992 was $16,078,000, net of reinsurance,
or $10,611,000 ($.56 per share) after tax.
35
INDEPENDENT
ACCOUNTANT'S
To the Stockholders and Board of Directors REPORT
of Zenith National Insurance Corp.
We have audited the accompanying consolidated balance sheet of Zenith
National Insurance Corp. and subsidiaries as of December 31, 1993 and 1992, and
the related consolidated statements of operations, cash flows, and stockholders'
equity for each of the three years in the period ended December 31, 1993. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Zenith
National Insurance Corp. and subsidiaries as of December 31, 1993 and 1992, and
the consolidated results of its operations and its cash flows for each of the
three years in the period ended December 31, 1993, in conformity with generally
accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, the
Company changed its method of accounting for investments as of December 31,
1993.
Coopers & Lybrand
Los Angeles, California
February 17, 1994
CalFarm
36 TheZenith