-ii-
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the fiscal year ended December 31, 1997
Gryphon Holdings Inc.
30 Wall Street
New York, New York 10005-2201
(212) 825-1200
Commission file number 0-5537
State of Incorporation: Delaware
I.R.S. Employer Identification No. 13-3287060
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
Common Stock NASDAQ National Market
(par value $.01 per share)
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the Registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period than the Registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X . No .
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K (229.405 of this chapter)
is not contained herein, and will not be contained, to the best
of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-
K or any amendment to this Form 10-K. [ ]
As of March 3, 1998, the aggregate market value of the voting
stock held by non-affiliates of the Registrant was $101,191,379.
As of March 3, 1998, the number of shares outstanding of the
Registrant's Common Stock, par value $.01 per share, was
6,696,381.
DOCUMENTS INCORPORATED BY REFERENCE
Proxy statement for the Annual Meeting of Shareholders to be
held on May 12, 1998, which is incorporated into Part III of this
Form 10-K.
FORM 10-K
TABLE OF CONTENTS
Page
Part I
Item 1. Business 1
Item 2. Properties 21
Item 3. Legal Proceedings 21
Item 4. Submission of Matters to a Vote of Security Holders
21
Part II
Item 5. Market for Company's Common Equity and
Related Stockholder Matters 22
Item 6. Selected Consolidated Financial Data 22
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations 24
Item 8. Financial Statements and Supplementary Data 30
Item 9. Changes In and Disagreements with Accountants on
Accounting and Financial Disclosure 30
Part III 31
Part IV
Item 14. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K 31
PART I
ITEM 1. BUSINESS.
(a) General Development of Business.
Gryphon Holdings Inc. ("Gryphon" or the "Company") was
incorporated under the laws of the State of Delaware in 1983. The
Company is a holding company that operates through its main subsidiary,
Gryphon Insurance Group ("GIG"), as a specialty property and casualty
underwriting organization. The Company's wholly owned insurance company
subsidiaries are Associated International Insurance Company
("Associated") and Calvert Insurance Company ("Calvert"). Associated, a
California-domiciled insurance corporation, is an admitted carrier in
California and an approved excess and surplus lines insurer in 48 other
states. Calvert, a Pennsylvania-domiciled insurance corporation, is
admitted in all states, the District of Columbia and Canada and all of
its provinces.
The Company has developed expertise in lines of insurance
typically not emphasized by standard lines insurers, including
architects' and engineers' professional liability ("A&E"), difference in
conditions ("DIC") (primarily earthquake coverage), and various other
specialty coverages. The Company focuses on providing coverage for
small to medium-sized insureds.
The Company employs a disciplined approach to underwriting to
achieve an overall underwriting profit, even if it is necessary to limit
premium growth at times. The Company emphasizes quality service in all
areas of its operations and believes that this approach has enabled the
Company to maintain strong relationships with its insurance producers,
which are primarily excess and surplus lines brokers and general agents.
In February 1998, the Company agreed to acquire The First
Reinsurance Company of Hartford ("FRH") and certain affiliated entities
from Dearborn Risk Management, Inc. for a combination of cash and
preferred stock valued at $43.6 million, plus certain other performance-
driven contingent consideration.
The purchase consideration of $43.6 million consists of $31.9
million of cash and $11.7 million fair value of a new issue of Gryphon
perpetual convertible preferred stock. The preferred stock, which will
have a face amount of $14.4 million, will be convertible into 643,672
shares of the Company's common stock, reflecting a conversion price of
$22.44 per share. No cash dividends will be paid or owed during the
first four and one-half years; a cash dividend at the rate of 4.0% of
the face amount will be paid thereafter. The preferred shares, which
are non-callable for three years, have no sinking fund or mandatory
redemption features. In connection with the transaction, Gryphon
intends to enter into a $55 million credit facility with a group of
financial institutions, the proceeds of which will be used to pay the
cash portion of the purchase price and to repay existing bank
borrowings.
The GAAP shareholders' equity of FRH at December 31, 1997 was
approximately $35 million. Its statutory surplus at that date was
approximately $31 million. FRH is currently rated A- (excellent) by
A.M. Best.
The transaction, which is subject only to regulatory approvals
and other customary conditions, is expected to close during the second
quarter of 1998.
Business Plan
Since January 1, 1996, the Company has pursued a business plan
that has emphasized a more coordinated and integrated approach to the
businesses of its two major underwriting subsidiaries. Through this
strategy, the Company has endeavored to better utilize the complementary
state licensing of the subsidiaries by making available to all
underwriting personnel of the Company the policy issuance capability of
either its admitted insurance company subsidiary, Calvert, or its non-
admitted subsidiary, Associated. In addition, the Company has attempted
to enhance the effectiveness of its smaller subsidiary, Calvert, by
making available to it the financial resources of the Company's larger
subsidiary, Associated.
In pursuit of these objectives, the Company implemented two
significant changes, effective January 1, 1996. On that date, all of
the operating-level personnel previously employed by Associated and
Calvert became employees of GIG, a new management and service
subsidiary. The consolidation into a single company has created a more
efficient organization, has facilitated a more uniform approach to
underwriting and related operations, with freer access to either issuing
company, and has encouraged a single-company culture. Secondly, the
Company has put into place a pooling arrangement between Associated and
Calvert through which the financial resources of the two subsidiaries
are, in effect, combined into one larger and stronger entity. This
arrangement has enhanced various operating ratios and facilitated the
use of higher net retentions in most lines of business.
Underwriting Strategy
The Company seeks to optimize underwriting profitability
regardless of market conditions by providing specialty insurance
products to small and medium-sized commercial insureds. Using its
expertise in specialty lines of insurance, the Company endeavors to
maintain adequate pricing by exercising underwriting discipline,
particularly during times of excess underwriting capacity and greater
competition among insurers. The principal elements of this strategy are
set forth below.
Focus on Specialty Lines. The Company focuses on specialty
lines of insurance where the Company expects that its particular
expertise in evaluating and pricing risks will give it a
competitive advantage. By underwriting a variety of specialty
insurance programs, the Company diversifies its risk among lines of
insurance.
Underwriting Discipline. The Company seeks to write
insurance at prices and terms that it believes will generate
overall underwriting profits. In underwriting, the Company
typically reviews the type of risk, the attractiveness of the
pricing and terms relative to the risk and the Company's aggregate
exposure to similar risks.
Opportunistic Approach. The Company changes its mix of
business as market conditions change and opportunities arise. The
Company generally emphasizes insurance products that have greater
potential for underwriting profitability. The Company avoids
underwriting a line of business if the line cannot be priced
profitably. The Company does not emphasize market share.
Commitment to Service. The Company focuses on providing
consistent, high quality service to its insurance producers and
insureds in both underwriting and claims handling. The Company
believes its producers and insureds benefit from the extensive
experience of its underwriting and claims personnel.
Use of Sophisticated Computer Modeling Techniques. In
addition to employing standard insurance underwriting techniques,
the Company's DIC underwriters utilize the Insurance/Investment
Risk Assessment System ("IRAS"), a sophisticated computer model
which estimates the probable maximum loss ("PML") from earthquakes
of varying frequency and severity, to quantify the risk of and
assist in determining the price and terms of coverage. The Company
also uses IRAS on an ongoing basis to monitor aggregate earthquake
exposure.
Emphasis on Relationships with Producers. The Company
utilizes select wholesale producers, including general agents and
excess and surplus lines brokers, to distribute its insurance
products, expand market reach and provide specialized knowledge of
particular coverages, markets and customers. The Company generally
seeks to be a substantial underwriter for its producers, in order
to enhance the likelihood of receiving the most desirable
underwriting opportunities.
(b) Financial Information about Industry Segments.
The Company operates in only one industry segment, the property
and casualty insurance industry.
(c) Narrative Description of Business.
Principal Business Lines and Products
The following tables set forth the gross and net premiums written
by principal lines of business of the Company for the periods indicated:
Gross Premiums Written by Principal
Lines of Business
(Dollars in thousands)
Year Ended December 31,
1997 1996 1995 1994 1993
Premiums Percent Premiums Percent Premiums Percent Premiums Percent Premiums Percent
Lines of Business
Architects' & Engineers'
Liability $17,704 12.1% $17,843 11.4% $14,452 9.2% $15,910 11.4% $16,677 14.9%
Casualty 28,549 19.6 29,234 18.6 26,902 17.2 21,286 15.3 20,003 17.9
Commercial
Automobile 18,727 12.8 18,337 11.7 18,580 11.8 14,258 10.3 3,201 2.9
Difference in
Conditions 36,572 25.0 38,500 24.5 45,213 28.8 43,259 31.1 34,035 30.5
Other Property 15,962 10.9 24,192 15.4 27,601 17.6 18,424 13.2 13,159 11.8
Specialty Lines28,612 19.6 28,831 18.4 24,232 15.4 26,014 18.7 24,588 22.0
Total $146,126 100.0% $156,937 100.0% $156,980 100.0 $139,151 100.0% $111,663 100.0%
Net Premiums Written by Principal
Lines of Business
(Dollars in thousands)
Year Ended December 31,
1997 1996 1995 1994 1993
Premiums Percent Premiums Percent Premiums Percent Premiums Percent Premiums Percent
Lines of Business
Architects' & Engineers'
Liability $13,096 13.1% $12,884 13.6% $10,576 11.7% $11,381 16.5% $12,302 19.8%
Casualty 21,005 20.9 20,775 22.0 17,266 19.2 14,613 21.1 12,861 20.7
Commercial
Automobile 14,904 14.9 13,947 14.7 13,111 14.5 6,022 8.7 2,341 3.7
Difference in
Conditions 17,639 17.6 20,238 21.4 22,497 25.0 17,247 24.9 18,008 29.0
Other Property 15,102 15.0 9,843 10.4 10,454 11.6 4,916 7.1 3,724 6.0
Specialty Lines18,588 18.5 16,920 17.9 16,271 18.0 15,008 21.7 12,931 20.8
Total $100,334 100.0% $94,607 100.0% $90,175 100.0% $69,187 100.0% $62,167 100.0%
Architects' and Engineers' Liability. A&E insurance
protects architects, engineers and other design professionals
against liability to third parties due to the insured's
negligence. A&E policies are written by the Company exclusively
as claims-made coverage. A&E policies written by the Company
protect insureds for up to $5 million.
The Company generally concentrates on smaller
architectural and engineering firms (i.e., those with $10 million
or less in annual billings) where the principals actively
participate in the operations of the business. Based upon gross
premiums written, approximately 50.5% and 49.0% of the A&E
insurance was written for firms located in California for the
years ended December 31, 1997 and 1996, respectively.
The Company has generated its A&E business exclusively
through Risk Administration & Management Company ("RAMCO") for
over 10 years. RAMCO has been granted binding authority, subject
to A&E underwriting guidelines specified by the Company. The
Company may cancel any policy, subject to applicable insurance
regulations, if it is inconsistent with such guidelines. All A&E
claims are handled by RAMCO with oversight by the Company. The
Company conducts semi-annual audits of RAMCO's underwriting files
and reviews claims with RAMCO on a quarterly basis.
As compensation for A&E insurance produced by RAMCO, the
Company pays RAMCO commissions based upon a percentage of gross
A&E premiums written. RAMCO also receives a contingent
commission based upon the profitability of A&E insurance policies
it produces.
Casualty. The Company specializes in casualty policies
which provide coverage above an insured's self-insured retention
("SIR policies"), umbrella and buffer or excess layer casualty
coverage, including general liability and products liability
coverage. SIR policies have minimum attachment points of
$100,000 on automobile liability and $50,000 on general
liability. The Company's commercial umbrella coverage is
generally written in excess of primary liability insurance
coverage provided by other insurance carriers. The Company also
writes primary general liability and commercial multi-peril
package policies.
Commercial Automobile. The Company underwrites commercial
automobile policies for owner-operators and small commercial
fleets for local, intermediate and long-haul trucking risks
produced through selected general agents. The policies provide
liability, physical damage and cargo insurance with liability
protection up to $1 million.
Difference in Conditions. Substantially all of the DIC
policies written by the Company are for California earthquake
coverage. The Company uses IRAS, a computer modeling program, in
connection with underwriting DIC coverage to estimate PML from
earthquakes of varying severity. IRAS evaluates seismic hazard
by matching structural information provided by the Company
regarding a particular building, group of exposures or portfolio
with the IRAS database, which includes information concerning
earthquake severity and frequency, soil composition, and
proximity to known faults. Although IRAS is available to other
property and casualty insurers, the Company believes that the
amount and quality of information input into IRAS by the Company
results in more effective utilization of IRAS' capabilities. The
Company further believes that its use of IRAS prior to actual
risk selection enables the Company to differentiate its pricing
and terms with respect to particular risks on DIC coverage.
Other Property. The Company's other property coverage
consists primarily of monoline fire and all-risk business
packages, inland marine and plate glass insurance written on
either a primary or an excess and surplus basis. The Company
also writes course-of-construction coverage on engineering
projects, and utilities coverage including transmission lines.
Specialty Lines. Other specialty insurance products
provided by the Company include liquor liability insurance,
animal mortality insurance, special events insurance (for events
such as concerts and contests), directors' and officers'
liability insurance for "not-for-profit" organizations, fiduciary
liability insurance for pension fund trustees, public officials
liability and miscellaneous errors and omissions. The Company has
expanded its specialty lines business to diversify its risk
exposure.
Marketing
The Company writes business through wholesale excess and
surplus lines brokers and general agents. The Company believes
that close working relationships with these insurance producers
are essential to its success. These producers provide
specialized knowledge of particular products, markets and
customers, and enable the Company to capitalize on underwriting
opportunities. The Company seeks to be a substantial underwriter
for its producers in order to enhance the likelihood of receiving
the most desirable underwriting opportunities.
The Company pays brokers and agents commissions based on
the amount of premiums and types of business underwritten. These
payments constitute part of the Company's acquisition costs and
are included in its underwriting expenses. The Company also pays
RAMCO and other general agents contingent commissions based upon
the profitability of the policies they produce for the Company.
Gross premiums written in the State of California amounted
to approximately 40.9% and 43.7% of the aggregate gross premiums
written by the Company for the years ended December 31, 1997 and
1996, respectively. Gross premiums written in any other state
did not exceed 10% of gross premiums written during 1997 or 1996.
Management emphasizes quality service in all phases of its
operations and believes that this approach has enabled the
Company to maintain strong relationships with its producers. To
deliver prompt service while ensuring consistent disciplined
underwriting, the Company has granted selected general agents the
authority to sell and bind insurance coverages in accordance with
detailed procedures and limitations established by the Company.
The Company promptly reviews coverages bound by these agents,
decides whether the insurance is written in accordance with such
procedures and limitations and may cancel policies that are not
in compliance with such procedures and limitations.
Approximately 39.9% and 35.6% of the Company's gross premiums for
the years ended December 31, 1997 and 1996, respectively, were
produced by general agents with binding authority.
Underwriting
The Company employs a disciplined approach to underwriting
to achieve an overall underwriting profit, even if it is
necessary to limit premium growth at times.
At December 31, 1997, the Company's thirty-two
underwriters had an average of 18 years of underwriting
experience. By focusing on specialized classes of insurance, the
Company is able to take advantage of its underwriters' experience
to underwrite complicated insurance risks on a case-by-case
basis. In accepting risks, each underwriter is required to
comply with risk parameters, retention limits and rates
prescribed by the Company. Compensation of senior underwriters
depends in part on the profitability of the lines of business for
which they are responsible.
The Company's computer systems are capable of generating
specific risk reports, which include a variety of historical data
regarding individual risks underwritten by the Company. These
reports inform the underwriters of the historical annual premium
quoted with respect to the risk, the reported losses and loss
adjustment expenses ("LAE") relating to the risk, cumulative
underwriting profitability and other relevant information.
The Company's underwriters generally perform a complete
underwriting evaluation of applicants and determine premiums and
coverage provisions before an insurance quotation is issued.
While the Company's business is primarily underwritten in-house
(except for A&E coverage, which is underwritten exclusively by
RAMCO), the Company has granted selected agents binding authority
to underwrite programs for the Company, subject to specific
guidelines that have been established by the Company. See
"Marketing."
Claims Management and Administration
In accordance with its emphasis on underwriting
profitability, the Company has an active approach to claims
management that is designed to investigate claims as soon as
practicable, manage and anticipate developments and service
producing brokers and insureds throughout the process. The
Company maintains an experienced claims management staff at each
of its major offices, with eleven claims examiners in Woodland
Hills, California and seven claims examiners in Hoboken, New
Jersey.
Claims in respect of A&E insurance written by the Company
are administered by RAMCO under the Company's supervision. Each
of the A&E policies written by the Company is on a claims-made
basis and includes defense costs within the policy limit. Due to
the nature of this line of professional liability coverage, the
Company generally has needed to retain counsel for a majority of
its A&E claims. When the estimated value of a claim exceeds the
Company's attachment level on a particular policy, RAMCO provides
the Company with documentation and a caption report, recommends
appropriate reserve levels and sends requests for claims payments
directly to the Company for processing. The Company reviews each
claim that is submitted and makes the payment it believes is
appropriate.
Reserves
The Company's loss reserves are estimates of amounts that
may be needed in the future to pay losses as well as expenses
related to the final adjustment of those losses. Reserves for
losses and LAE have been estimated by the Company utilizing its
own historical experience as well as that of the industry. These
estimates include two components: case reserves and incurred but
not reported reserves ("IBNR"). Case reserves are estimates of
losses and LAE for reported claims and are established by the
Company's claims departments. IBNR reserves, include a provision
for losses that have occurred but have not been reported to the
Company, are the difference between (i) the sum of case reserves
and paid losses and (ii) estimated ultimate incurred losses.
Ultimate incurred losses are an estimate of total losses and LAE
necessary for the ultimate settlement of all reported claims,
including amounts already paid and IBNR claims. The Company
engages independent actuarial consultants to perform periodic
loss and LAE reserve analyses.
The Company's management believes its loss and LAE
reserves are adequate for the ultimate net cost of all losses
incurred by the Company. The Company does not discount its
reserves. The Company will continue to make additional
adjustments to loss and LAE reserve calculations based on
additional analyses and information as available.
Notwithstanding the foregoing, the Company can give no assurances
as to the ultimate adequacy of current reserves for losses or
LAE, or that additional development will not occur in the future
since the process of establishing and estimating loss and LAE
reserves is, by its nature, imprecise.
The following loss and LAE development table illustrates
the change over time of reserves established for
property-liability losses and LAE at the end of various calendar
years. The amounts shown for each year on the top line of the
table represent the Company's estimate of its gross liability for
future payments of losses and LAE as of the balance sheet date as
originally reported. The next line represents the amount of
ceded reserves recoverable from reinsurers for losses and LAE for
the same period, followed by the net losses and LAE unpaid on the
Company's business. The upper half of the table includes re-
estimates of the original balance sheet net liability for unpaid
losses and LAE at the end of each period following the original
report date. The estimates change as more information is known
about the frequency and severity patterns of claims for each
year. A redundancy (deficiency) exists when the reserve as
originally reported is greater (less) than the amount
re-estimated at each December 31. The cumulative redundancy
(deficiency) depicted in the table for a particular calendar year
shows the aggregate change in estimates over the period of years
subsequent to the original calendar year. As of December 31,
1997, the cumulative deficiency of $6,793,000 results principally
from additional loss and LAE development, related to a pre-1985
book of Casualty business and certain pre-1987 reinsurance-
assumed business, both previously discontinued.
In evaluating the information in the table, it should be
noted that each column includes the effects of all changes in
amounts for prior periods. The table does not present accident
year or policy year development data. Conditions and trends that
have affected the development of liabilities in the past may not
necessarily occur in the future. Accordingly, it may not be
appropriate to extrapolate future redundancies or deficiencies
based on this table.
Analysis of Loss and Loss Adjustment Expense Development
(Dollars in thousands)
December 31,
1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997
Gross liability for
unpaid losses and LAE $109,557 $115,796 $151,952 $163,818 $201,057 $231,415 $275,660 $315,691 $308,886 $309,259 $328,911
Deduct: reinsurance
recoverable on unpaid
losses and LAE 58,396 57,097 83,574 77,334 87,927 104,352 133,783 169,889 152,975 137,952 140,810
Net liability for unpaid
losses and LAE $51,161 $58,699 $68,378 $86,484 $113,130 $127,063 $141,877 $145,802 $155,911 $171,307 $188,101
Liability re-estimated as of:
One year later 49,839 61,040 67,584 83,630 111,197 125,372 133,367 146,194 160,209 178,100
Two years later 52,808 58,037 66,774 82,672 110,056 118,354 128,675 143,131 167,572
Three years later 51,360 57,297 66,244 82,271 102,436 114,577 123,942 151,120
Four years later 51,188 56,583 65,745 76,339 98,812 110,989 131,942
Five years later 52,219 55,042 61,067 72,766 96,907 118,049
Six years later 50,122 51,921 58,220 71,686 103,176
Seven years later 48,719 48,290 58,509 77,009
Eight years later 45,261 50,370 65,004
Nine years later 48,154 57,036
Ten years later 54,879
Cumulative redundancy
(deficiency) $(3,718) $ 1,663 $ 3,374 $ 9,475 $ 9,954 $9,014 $ 9,935 $(5,318) $(11,661)$(6,793) $ 0
Cumulative liability paid as of:
One year later $ 9,321 $ 8,854 $ 8,253 $ 2,692 $16,014 $16,692 $ 24,152 $28,911 $ 30,784 $40,289
Two years later 16,078 13,539 11,135 12,648 27,223 34,302 42,402 47,380 59,628
Three years later 20,020 15,143 17,906 20,788 39,657 45,587 53,752 65,835
Four years later 20,936 18,221 21,485 28,381 46,314 52,959 64,708
Five years later 23,453 19,748 26,127 33,633 51,038 60,471
Six years later 23,847 22,641 29,941 36,714 57,125
Seven years later 25,571 25,814 32,322 42,079
Eight years later 28,348 27,552 37,249
Nine years later 29,682 32,332
Ten years later 34,084
Prior to 1985, the Company wrote casualty insurance
coverage at high attachment levels on an excess-of-loss basis.
The Company's net retention was generally $50,000 per risk on
such coverage. As was customary for the insurance industry at
that time, such policies sometimes included exposure to sudden
and accidental, as well as cumulative, environmental impairment
and asbestos-related risks that involve significant unresolved
issues regarding liability, policy coverage and other matters.
Given the nature of this business, the pre-1985 casualty book of
business has an extremely long tail, creating uncertainty in the
estimation of ultimate losses to be paid. The Company generally
establishes reserves for such claims if it believes that the
attachment level of such policies is likely to be reached.
The Company's reserves also reflect certain facultative
and treaty casualty and professional liability reinsurance
assumed (written) prior to 1985. The inherent uncertainties in
estimating reserves are greater for reinsurance than for primary
insurance due to the diversity of the development patterns among
different types of reinsurance contracts, the longer period
between the occurrence of a claim and the reporting of such claim
to the reinsurer, the necessary reliance on ceding companies or
reinsurance intermediaries for information regarding reported
claims and different reserving practices among ceding companies.
A reinsurer's internal data is often supplemented by industry
data to provide the basis for reserve analysis. Thus,
management's judgments about the applicability of industry data
to the Company's reinsurance assumed business add an additional
element of uncertainty to the reserving process. The Company no
longer writes this business.
The insurance industry experienced a number of reinsurance
company failures in the 1980's and certain of the Company's treaty
reinsurers relating to the pre-1985 book of casualty business have
become insolvent or are financially impaired. The Company has written
off or reserved for all debts due from insolvent companies and all
receivables for paid losses and LAE and reserves ceded to companies it
believes to be financially impaired. The Company remainsliable to its
policyholders for the portion reinsured to the extent that any reinsurer
does not meet its obligations for reinsurance ceded to it under the
reinsurance agreements. Failure of reinsurers to honor their obligations
could result in losses to the Company. In addition, as is often the case
in the normal course of business, the Company is involved in disputes
with reinsurers regarding certain loss recoverables. Although the
Company believes that such issues will be resolved in the Company's
favor, there can be no assurance that the Company will prevail; an
unfavorable resolution could have a material effect on the Company's
financial statements.
Since 1985, the Company has changed the type of casualty
insurance it writes and the risks it covers and has amended the
policy forms it uses to expressly exclude from the coverage any
risks directly associated with pollution and asbestos.
Associated revised its casualty coverage to meet the
severity of loss requirements of commercial insureds by providing
coverage over an SIR together with first layer umbrella and
buffer/excess layer policies. The policies generally have minimum
SIR's of $50,000 for general liability and $100,000 for commercial
automobile. As a result, coverage now attaches at much lower levels
and the reporting tail for claims is much shorter than for the pre-1986
book of business. The Company has also developed specialty programs
which focus on lower-severity business and, in addition, writes A&E
coverage only on a claims-made basis and includes defense costs within
A&E policy limits.
The following table provides a reconciliation of beginning
and ending loss and LAE reserve balances of the Company for each
of the years in the three-year period ended December 31, 1997, as
computed in accordance with GAAP.
Reconciliation of Liability for Loss and Loss Adjustment Expenses
(Dollars in thousands)
Year ended December 31,
1997 1996 1995
Gross reserves for losses
and LAE at the beginning of the year $ 309,259 $ 308,886 $ 315,691
Ceded reserves for losses and LAE at
the beginning of the year 137,952 152,975 169,889
Net reserves for losses and LAE at
the beginning of the year 171,307 155,911 145,802
Add: Provision for losses and LAE
for claims occurring in:
The current year 64,222 53,402 50,424
Prior years 6,793 4,298 392
Total net incurred losses and LAE 71,015 57,700 50,816
Less: Losses and LAE payments for claims occurring in:
The current year 13,932 11,520 11,796
Prior years 40,289 30,784 28,911
Total net paid losses and LAE 54,221 42,304 40,707
Reserves for net losses and LAE at end of year 188,101 171,307 155,911
Reinsurance recoverable on unpaid losses 140,810 137,952 152,975
Reserves for gross losses
and LAE at end of year $ 328,911 $ 309,259 $ 308,886
The following table provides a reconciliation of beginning
and ending loss and LAE reserve balances of the Company for each
of the years in the three-year period ended December 31, 1997 for
environmental impairment and asbestos-related liabilities.
Reconciliation of Environmental Impairment and Asbestos-related
Liability for Loss and Loss Adjustment Expenses
(Dollars in thousands)
Year ended December 31,
Environmental Impairment Liability 1997 1996 1995
Gross reserves for losses and LAE
at the beginning of the year $12,981 $ 11,938 $ 14,200
Ceded reserves for losses and LAE
at the beginning of the year 4,177 3,958 5,100
Net reserves for losses and LAE
at the beginning of the year 8,804 7,980 9,100
Add: Provision for losses and LAE
for claims occurring in prior years (845) 1,598 3
Less: Losses and LAE payments
for claims occurring in prior years 1,159 774 1,123
Reserves for net losses and LAE at end of year 6,800 8,804 7,980
Reinsurance recoverable on unpaid losses 5,200 4,177 3,958
Reserves for gross losses and LAE at end of year $12,000 $12,981 $11,938
Year ended December 31,
Asbestos-related Liability 1997 1996 1995
Gross reserves for losses and LAE
at the beginning of the year $4,121 $1,700 $4,050
Ceded reserves for losses and LAE
at the beginning of the year 3,110 1,060 3,350
Net reserves for losses and LAE
at the beginning of the year 1,011 640 700
Add: Provision for losses and LAE
for claims occurring in prior years 847 583 612
Less: Losses and LAE payments for
claims occurring in prior years 143 212 672
Reserves for net losses and LAE at end of year 1,715 1,011 640
Reinsurance recoverable on unpaid losses 2,500 3,110 1,060
Reserves for gross losses and LAE at end of year $4,215 $4,121 $1,700
At December 31, 1997, the reserve for unpaid environmental
impairment losses and related LAE was approximately $6.8 million,
net of reinsurance recoverables deemed probable of collection by
the Company of approximately $5.2 million. The range of gross
reserves for unpaid environmental impairment losses and LAE is
estimated to be $12.0 million to $20.0 million and the range of
reserves, net of reinsurance recoverable, for unpaid
environmental impairment losses and LAE is estimated to be
approximately $6.8 million to $9.5 million.
At December 31, 1997, the reserve for unpaid asbestos-
related losses and related LAE was $1.7 million, net of
reinsurance recoverables deemed probable of collection by the
Company of approximately $2.5 million. The range of gross
reserves for unpaid asbestos-related losses and LAE is estimated
to be $4.2 million to $9.4 million and the range of reserves, net
of reinsurance recoverable, for unpaid asbestos-related losses
and LAE is estimated to be approximately $1.7 million to $3.3
million.
At December 31, 1997, reserves for IBNR losses and LAE for
environmental impairment and asbestos-related claims, included in
the net reserves above, were $3.5 million and $1.4 million,
respectively.
The range of reserves, net of reinsurance recoverable, for
unpaid environmental impairment and asbestos-related losses and
LAE is estimated to be approximately $8.5 million to $12.8
million.
At December 31, 1997 and 1996, the Company had 218 and 232
environmental impairment liability claims, respectively, covering
146 and 154 policyholders, respectively. At December 31, 1997
and 1996, the Company had 72 and 66 asbestos claims,
respectively, covering 57 and 53 policyholders, respectively.
The Company disputes coverage on substantially all of its
environmental impairment and asbestos-related claims since such
underlying policies were generally written with certain coverage
exclusions. In a majority of cases, coverage is being determined
through judicial interpretation, which can vary from jurisdiction
to jurisdiction.
There are significant uncertainties in estimating the
amount of the Company's environmental impairment and asbestos-
related liabilities resulting from a lack of historical data,
long reporting delays, uncertainty as to the number and identity
of insureds with potential exposure, and complex, unresolved
legal issues regarding policy coverage and the extent and timing
of any such contractual liability. Courts have reached different
and sometimes inconsistent conclusions as to when a loss occurred
and what policies provide coverage, what claims are covered,
whether there is an insured obligation to defend, how policy
limits are determined, how policy exclusions are applied and
interpreted, and whether cleanup costs are includible as insured
property damage. These issues are not likely to be resolved in
the near future. As a result of these issues, the ultimate
number and cost of these claims may generate losses that vary
materially from the amounts currently recorded and could have a
material adverse effect on the Company's results of operations
and financial condition. While management believes the Company's
reserves for these coverages are appropriately established,
because of the uncertainty of circumstances surrounding many
critical factors that affect environmental impairment and
asbestos-related liabilities, there can be no assurance that the
Company's reserves for and losses from these claims will not
increase in the future.
Investments
The Company's investment policy has an overall objective
of enhancing after-tax return, through allocations among a range
of investment-grade securities having varying tax
characteristics, maturities and ratings. The precise allocation
varies depending upon investment opportunities, economic
conditions and tax considerations. The Company's investment
portfolio continues to be professionally managed with emphasis on
municipal bonds, U.S. Treasury securities and corporate bonds.
As of December 31, 1997, the portfolio had an estimated effective
modified duration of approximately 4.8 years.
The Company utilizes outside professional investment
managers who currently invest substantially all of the Company's
invested assets. The outside investment managers consult
frequently with management regarding the Company's tax position
and aggregate portfolio characteristics. The Investment
Committee of the Company's Board of Directors meets quarterly
with management to review and amend investment policy and monitor
the performance of the Company's investment managers.
The Company's investment portfolio is subject to several
risks, including interest rate and reinvestment risk. Fixed
maturity security values generally fluctuate inversely with
movements in interest rates. The Company's corporate and
municipal bond investments may contain call and sinking fund
features which may result in early redemptions and the Company's
mortgage-backed securities are subject to prepayment risk.
Declines in interest rates could cause early redemptions or
prepayments, which would require the Company to reinvest at lower
rates.
The Company's securities are classified as available for
sale and reported at fair value, with unrealized gains and
losses, net of deferred income taxes, included in stockholders'
equity.
The following table summarizes the investment results of
the Company for the periods indicated.
Investment Results
(Dollars in thousands)
Year ended December 31,
1997 1996 1995
Average invested assets $302,628 $287,210 $263,674
Net investment income 17,061 16,453 15,839
Realized gains on investments 6,188 1,203 3,647
Pre-tax yield on average assets (excluding
realized gains on investments) 5.6% 5.7% 6.0%
The following table summarizes the Company's fixed
maturity portfolio, excluding short-term investments, by sector
as of December 31, 1997.
Fixed Maturity Portfolio by Sector
(Dollars in thousands)
December 31, 1997
Amortized Percent of Fair
Cost Total Value
U.S. Government and government agencies $78,623 28.6% $ 79,268
Debt securities issued by foreign governments 5,857 2.2 5,981
States and political subdivisions 108,194 39.4 112,516
Corporate securities 34,344 12.5 34,846
Mortgage-backed securities 47,488 17.3 47,942
Total $274,506 100.0% $280,553
The following table summarizes the Company's fixed
maturity portfolio by rating as of December 31, 1997.
Fixed Maturity Portfolio by Rating (1)
(Dollars in thousands)
December 31, 1997
Fair Percent of
Value Total
U.S. Government and government agencies $ 95,579 34.1%
Aaa 106,792 38.1
Aa 35,227 12.4
A 26,586 9.5
Baa 16,369 5.9
Total $280,553 100.0%
(1) Ratings as assigned by Moody's. Such ratings are
generally assigned upon the issuance of the securities,
subject to revision on the basis of ongoing evaluations.
Bonds rated Aaa by Moody's are judged to be of the best
quality and are considered to carry the smallest degree of
investment risk.
The following table summarizes the Company's fixed
maturity portfolio by years to stated maturity as of December 31,
1997.
(Dollars in thousands)
December 31, 1997
Fair Percent of
Value Total
1 year or less $ 286 0.1%
Over 1 year through 5 66,567 23.7
Over 5 years through 10 years 97,677 34.8
Over 10 years through 20 years 27,008 9.6
Over 20 years 41,073 14.7
Mortgage-backed securities 47,942 17.1
Total $280,553 100.0%
At December 31, 1997, investments in Federal National
Mortgage Association securities aggregating approximately $11.8
million represented the only investments in any entity in excess
of 10% of stockholders' equity other than those investments
issued or guaranteed by the U.S. Government.
The Company is subject to state laws and regulations that
require diversification of its investment portfolio and limit the
amount of investments in certain investment categories. As of
December 31, 1997, the Company's investments complied with all
such laws and regulations.
Reinsurance
Insurance companies purchase reinsurance to spread risk on
individual exposures, protect against catastrophic losses and
increase their capacity to write insurance. Reinsurance involves
an insurance company transferring, or ceding, all or a portion of
its exposure on insurance to a reinsurer. The reinsurer assumes
the exposure in return for a portion of the premium received by
the insurance company. Reinsurance does not discharge the
insurer from its obligations to its insureds. If the reinsurer
fails to meet its obligations, the ceding insurer remains liable
to pay the insured.
The Company cedes a material amount of its business to
reinsurers to spread risk and limit loss per exposure. During
1997, 1996 and 1995, the Company ceded premiums of $45.8
million, $62.3 million and $66.8 million, respectively, which
constituted 31.3%, 39.7%, and 42.6% respectively, of gross
premiums written in each year. Management seeks to mitigate
exposure to adverse reinsurance pricing conditions and its credit
risk by maintaining a diversity of reinsurers.
Catastrophe reinsurance protects an insurer from
significant aggregate loss exposure arising from a single event
such as an earthquake, hurricane, riot, tornado or other
extraordinary event. The Company uses IRAS to evaluate its
earthquake exposure in connection with purchasing catastrophe
reinsurance coverage.
Effective January 1, 1998, The Company maintains a five-
layer catastrophe reinsurance program covering its DIC writings.
The catastrophe reinsurance program covers 95% of the annual
aggregate amount of property claims up to $143 million per
occurrence, subject to a retention of $2.5 million per
occurrence. The Company limits its net retention to $100,000 per
risk for DIC.
Most other exposures, including Casualty, A&E, Specialty
Lines, Commercial Auto and certain Other Property risks have been
consolidated in a three-layer per-event reinsurance program that
provides for indemnity of $24.5 million in excess of a net
retention of $500,000 per risk. In addition to per-risk
coverage, the program provides casualty clash & contingency and
certain non-DIC property catastrophe protection on an occurrence
basis, subject to the same net retention. Effective December 31,
1997, the Company also maintains a 50% quota share protection to
limit its Commercial Auto exposure to $250,000 per policy.
The Company continually evaluates the credit risk related
to its reinsurers and has established a minimum A.M. Best rating
of "A-" for its domestic and Bermuda-based reinsurers and also
requires at least $50 million of policyholder surplus for all
domestic and foreign reinsurers. The Company works with
intermediaries to continually monitor the financial condition of
its reinsurers, as appropriate. If a reinsurer of the Company
were to become insolvent or unable to make payments under the
terms of a reinsurance agreement, it could have a material
adverse effect on the Company.
Competition
The property and casualty insurance industry is highly
competitive. The Company competes with national and smaller
regional insurers in each state in which it operates, as well as
with monoline specialty insurers. Certain of these competitors
are larger and have greater financial resources than the Company.
Among other things, competition may take the form of lower
prices, broader coverage, greater product flexibility, higher
quality services or an insurer's rating by independent rating
agencies. The Company competes with admitted insurers, surplus
line insurers, new forms of insurance organizations such as risk
retention groups, and alternative self-insurance mechanisms.
Increased public and regulatory concerns regarding the
financial stability of participants in the insurance industry
have resulted in greater emphasis being placed by policyholders
upon insurance company ratings and have created some measure of
competitive advantage for insurance carriers with higher ratings.
Associated's and Calvert's financial strength and claims-paying
ability are currently rated "A p (Excellent)" by A.M. Best.
Also, A.M. Best has assigned the financial size category of Class
VII to both companies under its pooling arrangement. In
evaluating a company's financial and operating performance,
A.M. Best reviews the company's profitability, leverage and
liquidity as well as the company's book of business, the adequacy
and soundness of its reinsurance, the quality and estimated
market value of its assets, the adequacy of its loss reserves and
the experience and competence of the management. The ratings
assigned by A.M. Best are based upon factors of concern to
policyholders, agents and intermediaries and are not directed
toward the protection of investors.
Cyclicality
Historically, the overall financial performance of the
property and casualty industry has tended to fluctuate in
cyclical market patterns. These cycles can be more pronounced for
insurance companies, such as the Company, that underwrite
business on a surplus lines basis. During a soft market,
heightened competition for premiums not only increases
competition among surplus lines insurers, but also encourages
admitted insurers to offer coverages for risks generally
underwritten by the surplus lines insurers. During a hard market,
the constriction of available capital among admitted carriers,
combined with the opportunity for increased underwriting profit
in their more traditional lines of business, tends to cause
admitted carriers to reduce their underwriting of surplus lines
coverages. This may increase the overall number of risks
submitted to the surplus lines insurers and consequently may
enhance the opportunity of surplus lines companies to increase
premium volume and improve pricing.
Surplus lines insurance is generally placed by wholesale
brokers and general agents who specialize in particular lines of
coverage or classes of insureds. These insureds tend to be
sophisticated and price-conscious insurance purchasers. As a
result, surplus lines insurers may experience increased premium
rate competition and volume competition in soft markets.
At present, the property and casualty insurance industry
is experiencing a prolonged soft market.
Year 2000 Compliance
Recently, there has been significant public discussion
regarding the potential inability of computer programs and
systems to adequately store and process data after December 31,
1999, due to the inability of such programs and systems to
identify correctly dates subsequent to December 31, 1999.
The Company has completed an assessment of its core
financial and operational software systems and believes it will
be in compliance with the requirements necessary to avoid the
foregoing "Year 2000" problem. The Company will test these
systems to confirm their compliance. If for any reason these
systems are not in compliance by December 31, 1999, the Year 2000
issue could have a material impact on the Company's ability to
meet financial and reporting requirements and to support its
insurance operations.
The Company is in the process of initiating discussions
with significant suppliers, business partners, customers and
other third parties to determine the extent to which the Company
may be vulnerable to the failure of these parties to address and
correct their own Year 2000 issues. However, there can be no
guarantee that the systems of other companies that support the
Company's operations will be timely converted or that a failure
by these companies to correct their Year 2000 problems would not
have a material adverse effect on the Company.
The Company is currently assessing what changes may be
appropriate in insurance coverages it currently markets in light
of the Year 2000 problem. In this connection, management is
consulting with Insurance Services Offices, Inc. ("ISO") and
others regarding possible modifications and/or exclusions to
policy forms that could be implemented in connection with future
insurance policies that will extend coverage beyond December 31,
1999.
The costs incurred to date by the Company in connection
with its Year 2000 compliance initiative have been nominal, and
the Company currently has no indication that the costs associated
with any remaining remedial actions in connection with this
matter will be material.
Employees
As of December 31, 1997, the Company employed
approximately 141 persons, all in the United States. None of its
employees is represented by a labor union, and the Company
believes that its employee relations are good.
Regulation and Other Matters
As a general rule, an insurance company must be licensed
to transact insurance business in each jurisdiction in which it
operates, and almost all significant operations of a licensed
insurer are subject to regulatory scrutiny. Licensed insurance
companies are generally known as "admitted" insurers. Most
states provide a limited exemption from licensing for insurers
issuing insurance coverages that generally are not available from
admitted insurers. These coverages are referred to as "surplus
lines" insurance and these insurers are referred to as surplus
lines or "non-admitted" companies.
The Company's admitted insurance businesses are subject to
comprehensive, detailed regulation throughout the United States
and Canada. Various jurisdictions have established supervisory
agencies with broad authority to regulate, among other things,
licenses to transact business, premium rates for certain
coverages, trade practices, agent licensing, policy forms,
cancellation and renewal practices, underwriting and claims
practices, reserve adequacy and insurer solvency. Many
jurisdictions also regulate investment activities on the basis of
quality, distribution and other quantitative criteria. Further,
most jurisdictions in the United States require admitted
insurance companies to participate in their respective guaranty
funds. Insurers admitted to transact business in such
jurisdictions are required to cover losses of insolvent insurers
and are generally subject to annual assessments of 1% to 2% of
direct premiums written in that jurisdiction to pay claims of
insolvent insurers. In addition, most jurisdictions compel
participation in, and regulate the composition of, various shared
and residual market mechanisms under which insurers are induced
to provide certain coverages.
Generally, non-admitted insurers are subject to less
regulatory scrutiny than admitted companies. The eligibility of
the Company to write insurance on a surplus lines basis in most
jurisdictions is dependent on its compliance with certain
financial standards, including the maintenance of a requisite
level of capital and surplus and the establishment of certain
statutory deposits. State surplus lines laws typically:
(i) require the insurance producer placing the business to show
that he or she was unable to place the coverage with admitted
insurers; (ii) establish minimum financial requirements for
surplus lines insurers operating in the state; and (iii) require
the insurance producer to obtain a special surplus lines license.
In recent years, many jurisdictions have increased the minimum
financial standards applicable to surplus lines eligibility.
State insurance regulators have the discretionary
authority, in connection with the licensing of an insurance
company, to limit or prohibit writing new business within their
jurisdiction when, in the state's judgment, the insurance company
is not maintaining adequate statutory surplus or capital. The
Company does not currently anticipate that any regulator would
limit the amount of new business that Associated or Calvert may
write, given their respective current levels of statutory
surplus.
Most states have enacted legislation that regulates
insurance holding company systems, including acquisitions,
dividends, the terms of surplus notes, the terms of affiliate
transactions and other related matters. Typically, such statutes
require the Company to periodically file information with the
state insurance commissioner, including information concerning
its capital structure, ownership, financial condition and general
business operations. Under the terms of applicable state
statutes, any person or entity desiring to purchase a specified
percentage (commonly 10% or more) of the Company's outstanding
voting securities would be required to obtain prior regulatory
approval of the purchase. Further, state insurance statutes
typically place limitations on the amount of dividends or other
distributions payable by insurance companies, in order to protect
their solvency. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and
Capital Resources."
The insurance industry has been subject to increased
scrutiny. A number of state legislatures have considered or
enacted legislative proposals that alter and, in many cases,
increase the authority of state agencies to regulate insurance
companies and holding company systems. In addition, legislation
has been introduced in several of the past sessions of Congress
which, if enacted, could result in the federal government
assuming some role in the regulation of the insurance industry.
Several committees of Congress have made inquiries and conducted
hearings as part of a broad study of the regulation of United
States insurance companies.
The National Association of Insurance Commissioners (the
"NAIC") and insurance regulators continue to re-examine existing
laws and regulations and their application to insurance
companies. In particular, this re-examination has focused on
insurance company investment and solvency issues and, in some
instances, has resulted in new interpretations of existing law,
the development of new laws and the implementation of
non-statutory guidelines. The NAIC has formed groups to study and
formulate regulatory proposals on such diverse issues as the use
of surplus debentures, accounting for reinsurance transactions,
and the adoption of risk-based capital rules. In connection with
its accreditation of states and as part of its program to monitor
the solvency of insurance companies, the NAIC requires states to
adopt model NAIC laws and regulations on specific topics, such as
holding company regulations and the definition of extraordinary
dividends. The NAIC has adopted a system for assessing the
adequacy of statutory capital and surplus for all property and
casualty insurers. Based on the NAIC guidelines and computations
made by the Company in conformity with such risk-based capital
guidelines, Associated and Calvert satisfy the required levels of
capital. There can be no assurance, however, that capital
requirements applicable to the Company's businesses will not
increase in the future.
The NAIC has developed through the years a set of
financial relationships or "tests" called the Insurance
Regulatory Information System ("IRIS") that are designed for
early identification of companies which may require special
attention by insurance regulatory authorities. Insurance
companies submit data on an annual basis to the NAIC, which in
turn analyzes the data. Generally, an insurance company will
become subject to regulatory scrutiny if it fails to satisfy NAIC
standards for such factors as leverage, profitability, liquidity
and loss reserve development. Failure to satisfy these standards
may result in action by regulatory authorities to constrain a
company's underwriting capacity. No such action has been taken
with respect to the Company.
It is not possible to predict the future impact of
changing state and federal regulations on the Company's
operations.
ITEM 2. PROPERTIES.
The Company leases approximately 49,500 square feet of
office space, including its corporate headquarters located in New
York, New York and underwriting offices located in Woodland
Hills, California and Hoboken, New Jersey. The headquarters in
New York, which consists of 3,900 square feet, is leased for a
term ending in the year 1999. The Woodland Hills office space
consists of 30,275 square feet and is leased for a term ending in
the year 2008. The Hoboken office space consists of 13,525
square feet and is leased for a term ending in the year 2000.
The Company also leases small regional offices in Grand Rapids,
Michigan and Denver, Colorado.
ITEM 3. LEGAL PROCEEDINGS.
The Company is subject to litigation and arbitration in
the normal course of its business. The Company does not believe
that any pending litigation or arbitration to which it is a
party, or of which any of its property is the subject, is likely
to have a material adverse effect on its consolidated financial
position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF
SECURITY HOLDERS.
None.
PART II
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS.
The Company's Common Stock is traded on the NASDAQ
National Market under the symbol "GRYP". The following table
reflects the high and low prices for the quarterly periods during
the years ended December 31,1997 and 1996, as furnished by the
NASDAQ National Market:
1997 1996
High Low High Low
First Quarter $15 1/4 $13 $20 1/4 $16 7/8
Second Quarter 15 5/8 13 7/8 19 1/2 14 5/8
Third Quarter 17 3/4 15 1/4 15 1/4 12
Fourth Quarter 17 3/4 15 7/8 16 12 1/2
As of February 10, 1998, there were approximately 44
record holders of the Common Stock, which does not include
beneficial owners of shares registered in nominee or street name.
The Company has not paid any cash dividends on its Common Stock
since its initial public offering (the "Offering") and does not
anticipate paying any cash dividends in the foreseeable future.
In addition, the Company's term-loan agreement contains a
covenant restricting its ability to declare or pay any cash
dividends to its shareholders. Because the Company is a holding
company and operates through its subsidiaries, its cash flow and
consequent ability to pay dividends are dependent upon the
earnings of its subsidiaries and the distribution of those
earnings to the Company. Also, the ability of the Company's
subsidiaries to pay dividends to the Company is subject to
certain regulatory restrictions. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations--
Liquidity and Capital Resources" and Note 9 of Notes to
Consolidated Financial Statements.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA.
The following table sets forth selected consolidated
financial data of the Company for the periods indicated. The
selected consolidated financial data for the five years ended
December 31, 1997 set forth below are derived from the audited
consolidated financial statements of the Company. The selected
statutory data have been derived from the financial statements of
Associated and Calvert prepared in accordance with statutory
accounting practices ("SAP") and filed with insurance regulatory
authorities. The following information should be read in
conjunction with the Consolidated Financial Statements and the
notes thereto and "Management's Discussion and Analysis of
Financial Condition and Results of Operations", included
elsewhere herein.
Gryphon Holdings Inc.
Selected Consolidated Financial Data
Year ended December 31,
1997 1996 1995 1994 1993
(Dollars and shares in thousands, except per-share amounts)
Statement of Operations Data:
Gross premiums written $146,126 $156,937 $156,980 $139,151 $111,663
Net premiums written $100,334 $ 94,607 $ 90,175 $ 69,187 $ 62,167
Net premiums earned $104,246 $ 87,929 $ 83,399 $ 61,605 $ 57,933
Net investment income 17,061 16,453 15,839 13,099 12,216
Realized gains
(losses) on investments 6,188 1,203 3,647 (2,046) 5,163
Other income 979 1,059
Total revenues 128,474 106,644 102,885 72,658 75,312
Losses and loss
adjustment expenses 71,015 57,700 50,816 40,537 37,065
Underwriting, acquisition,
and insurance expenses 45,089 40,967 34,590 25,721 18,481
Proposition 103 settlement expense 2,000 (1)
Bonuses paid by
Willis Corroon Group plc 2,670 (2)
Interest expenses 1,607 1,761 595 172
Total expenses 117,711 100,428 86,001 66,258 60,388
Income before income taxes 10,763 6,216 16,884 6,400 14,924
Provision for income taxes 1,969 53 3,959 169 2,772 (3)
Net income $ 8,794 $ 6,163 $12,925 $ 6,231 $12,152
Basic earnings per share(5) $ 1.32 $ 0.93 $ 1.69 $ 0.77 $ 1.62
Weighted average
shares outstanding 6,680 6,656 7,648 8,132 7,485
GAAP Ratios:
Loss and loss adjustment
expense ratio 68.1 % 65.6 % 60.9 % 65.8 % 64.0 %
Underwriting expense ratio,
excluding Proposition 103
settlement 43.3 46.6 41.5 41.8 31.9
Combined ratio, excluding
Proposition 103 settlement 111.4 112.2 102.4 107.6 95.9
Proposition 103 settlement 3.5 (1)
Combined ratio 111.4 % 112.2 % 102.4 % 107.6 % 99.4 %
Selected Statutory Data:
Statutory net income $11,013 $7,298 $13,876 $5,296 $7,459 (1)(4)
Statutory surplus
(at end of period) 87,705 82,566 83,433 72,220 69,161
Ratio of net premiums
written to surplus 1.1:1 1.1:1 1.1:1 1.0:1 0.9:1
Balance Sheet Data (at end of period):
Investments, including cash
and cash equivalents $313,082 $303,869 $288,602 $245,242 $237,442
Total assets 538,985 526,984 530,989 492,717 432,080
Loss and loss adjustment
expense reserves 328,911 309,259 308,886 315,691 275,660
Long-term debt 21,125 24,625 25,500
Stockholders' equity 104,509 95,136 93,222 93,773 91,489
Book value per share 15.63 14.28 14.02 11.51 11.25
(1) As part of a stipulation and consent order with the
California Department of Insurance to settle outstanding
obligations under Proposition 103, the Company refunded to
policyholders $2.0 million, including interest. This amount has
been reflected as a charge to net income for the year ended
December 31, 1993.
(2) In connection with the Offering, Willis Corroon Group plc
paid bonuses to certain executives. The bonuses, consisting of
cash and common stock and aggregating approximately $2,670,000,
are shown as an expense and were offset by a capital contribution
equal to the after-tax cost of such bonuses.
(3) Includes the effect of the Company's adoption of SFAS No.
109, which resulted in a one-time cumulative tax benefit of
$0.7 million ($.09 per share) for the year ended December 31,
1993.
(4) Includes the effect of $5.0 million of additional
environmental impairment and asbestos-related reserves recorded
in GAAP financial statements in prior periods. The effect of
such addition was to increase the 1993 statutory combined ratio
from 97.7% to 106.3%.
(5) Prior period earnings per share were not affected by the
adoption of Statement of Financial Accounting Standards No. 128.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.
General
The Company is a holding company that, through its
subsidiaries, underwrites specialty property and casualty
insurance in sectors of the insurance industry that are generally
considered difficult to insure. Many of the coverages written by
the Company can be categorized as excess and surplus lines, which
generally means that the risks are nonstandard, or that the
policies in respect of the risks are written with unusual limits
or at deviated rates. The property and casualty insurance
industry is highly cyclical. The excess and surplus lines
sectors of the property and casualty insurance industry are often
subject to greater cyclicality and volatility than the industry
in general. During soft markets, large standard lines insurers
often utilize excess capacity to assume risks in excess and
surplus and specialty lines. During hard markets, such insurers
tend to abandon the excess and surplus and specialty lines to the
carriers that concentrate in these sectors. Thus, capacity in
these lines will fluctuate substantially, often with fluctuations
in revenues or profits, or both.
Results of Operations
Year Ended December 31, 1997 Compared with Year Ended December
31, 1996
Gross Premiums Written. Gross premiums written were
$146.1 million for the year ended December 31, 1997, compared to
$156.9 million for the year ended December 31, 1996. In 1997, the
Company's gross premiums written decreased due to business lost
as a result of competition for premiums, which has affected the
following lines of business: an $8.2 million decrease in Other
Property, primarily in the Company's national accounts business;
a $1.9 million decrease in Difference in Conditions (DIC)
premiums; a $0.7 million decrease in Casualty premiums; a $0.2
million decrease in Specialty Lines; and a $0.1 million decrease
in Architects' & Engineers' liability.
Net Premiums. Net premiums written increased 6.1% to
$100.3 million for the year ended December 31, 1997 from $94.6
million for the year ended December 31, 1996. Net premiums
written were favorably affected in 1997 as a result of a new
reinsurance program, which reduced reinsurance premiums ceded by
increasing net retentions to $500,000 per risk in most lines of
business. The benefit of the reduced reinsurance premiums ceded
was offset by the effect of a decrease in gross written premiums,
which was caused by the competitive conditions in the property
and casualty marketplace.
Net premiums earned increased by 18.6% to $104.2 million
in the year ended December 31, 1997 from $87.9 million in the
year ended December 31, 1996, resulting from reduced reinsurance
premiums ceded due to increased net retentions from the Company's
new reinsurance program.
Net Investment Income. Net investment income increased
3.7% to $17.1 million for the year ended December 31, 1997 from
$16.5 million for the year ended December 31, 1996. In 1997, net
investment income was affected by additional funds available for
investment, but also by lower average interest rates compared
with 1996.
Net Realized Gains on Investments. For the year ended
December 31, 1997, the Company realized a net gain of $6.2
million, compared with a net gain of $1.2 million for the year
ended December 31, 1996. Portfolio sales were effected in each
year to optimize the mix of taxable and tax-exempt securities.
Other Income. For the year ended December 31, 1997, the
Company recorded $1.0 million of underwriting management fees for
DIC business underwritten on behalf of a companion carrier.
Losses and Loss Adjustment Expenses. Losses and LAE
increased by 23.1% to $71.0 million for the year ended
December 31, 1997 from $57.7 million for the year ended
December 31, 1996, due to increased earned premium exposures and
reserve increases. In 1997, the Company strengthened reserves by
$6.8 million, related to a pre-1985 book of Casualty business and
certain pre-1987 reinsurance-assumed business, both previously
discontinued. In 1996, the Company strengthened reserves with
respect to a truck leasing program ($5.3 million) and a used car
dealers program ($2.2 million), each discontinued during 1995, as
well as environmental impairment and asbestos-related exposures
($2.2 million) on business written prior to 1985. Losses and LAE
were 68.1% of net premiums earned for the year ended December 31,
1997, compared with 65.6% for the year ended December 31, 1996.
Underwriting, Acquisition, and Insurance Expenses.
Underwriting, acquisition, and insurance expenses increased by
10.1% to $45.1 million for the year ended December 31, 1997 from
$41.0 million for the year ended December 31, 1996. The expense
growth was primarily attributable to increased acquisition costs,
resulting from a change in the mix of business written; additions
to staff; and new facilities for the operating companies.
Interest Expense. Interest expense was $1.6 million for
the year ended December 31, 1997, compared with $1.8 million for
the year ended December 31, 1996. Interest expense resulted from
a term loan of $25.5 million borrowed in 1995 to finance the
purchase of 1.5 million shares of the Company's common stock.
Income Taxes. Income taxes were $2.0 million for the year
ended December 31, 1997, compared with $53 thousand for 1996.
In 1997, income taxes were reduced by the tax benefit from
additional reserve strengthening, increased underwriting expenses
and tax-exempt investment income. The tax benefit was partially
offset by additional income taxes resulting from net realized
gains on the sale of investments. In 1996, income taxes were
reduced by the tax benefit from additional reserve strengthening,
increased underwriting expenses and tax-exempt investment income.
Net Income. Net income was $8.8 million for the year
ended December 31, 1997, compared with $6.2 million for the year
ended December 31, 1996.
Weighted Average Shares Outstanding. Average shares
outstanding were 6.7 million in 1997, compared with 6.7 million
in 1996. In accordance with Financial Accounting Standards Board
Statement No. 128, "Earnings Per Share", implemented in 1997, the
Company's basic earnings per share are calculated by dividing
income available to common stockholders by the weighted average
number of common shares outstanding during the period.
Year Ended December 31, 1996 Compared with Year Ended December
31, 1995
Gross Premiums Written. Gross premiums written were
$156.9 million for the year ended December 31, 1996, compared to
$157.0 million for the year ended December 31, 1995. In 1996, the
Company's gross premiums written experienced increases in the
following lines of business: a $4.6 million increase in premiums
from specialty lines, primarily due to a new animal mortality
program; a $3.4 million increase in A&E liability due to expanded
marketing and enhanced coverages offered; and a $2.3 million
increase in casualty premiums, primarily due to new programs, but
offset in part by business lost because of competitive market
conditions in other casualty business written. Such increases
were offset by a $6.7 million decrease in DIC premiums, resulting
from the sharing of premiums with a companion carrier and, to a
lesser extent, from an increase in competition with respect to
certain types of DIC risks; a $3.4 million decrease in premiums
from other property, due to increased competition, mitigated in
part by new business from plate glass and fire policies; and a
$0.2 million decrease in commercial automobile, where the non-
renewal of a truck leasing program offset growth resulting from
new business written.
Net Premiums. Net premiums written increased 4.9% to
$94.6 million for the year ended December 31, 1996 from $90.2
million for the year ended December 31, 1995. This resulted
primarily from a shift in the mix of business toward lines with
higher net retention levels. Also, the Company paid $2.2 million
of catastrophe reinsurance reinstatement premiums in 1995, which
had the effect of increasing ceded premiums and reducing net
premiums written.
Net premiums earned increased by 5.4% to $87.9 million in
the year ended December 31, 1996 from $83.4 million in the year
ended December 31, 1995.
Net Investment Income. Net investment income increased
3.9% to $16.5 million for the year ended December 31, 1996 from
$15.8 million for the year ended December 31, 1995. The increase
is primarily due to additional funds available for investment in
1996 and was partially mitigated by lower average pre-tax
interest rates in 1996 than in 1995, resulting from a greater
component of tax-exempt securities in 1996.
Net Realized Gains on Investments. For the year ended
December 31, 1996, the Company realized a net gain of $1.2
million, compared with a net gain of $3.6 million for the year
ended December 31, 1995. Portfolio sales were effected in each
year to optimize the mix of taxable and tax-exempt securities.
Other Income. For the year ended December 31, 1996, the
Company recorded $1.1 million of underwriting management fees for
DIC business underwritten on behalf of a companion carrier.
Losses and Loss Adjustment Expenses. Losses and LAE
increased by 13.5% to $57.7 million for the year ended
December 31, 1996 from $50.8 million for the year ended
December 31, 1995, due to additional losses and reserve
strengthening for a truck leasing program ($5.3 million) and used-
car dealers program ($2.2 million), each discontinued during
1995; an increase of $2.2 million in reserves for environmental
impairment and asbestos-related exposures on business written
prior to 1985; other reserve increases pertaining to previous
accident years; and, more generally, increases in earned premium
exposures. Such increases were partially offset by reserve
redundancies resulting from favorable development of A&E case
reserves and a re-estimate of other property liabilities. In
1995, the Company recorded catastrophe losses of $1.9 million
related to hailstorms and the Northridge earthquake of 1994.
Underwriting, Acquisition, and Insurance Expenses.
Underwriting, acquisition, and insurance expenses increased by
18.4% to $41.0 million for the year ended December 31, 1996 from
$34.6 million for the year ended December 31, 1995. The expense
growth was primarily attributable to increased acquisition costs,
resulting from a change in the mix of business written; additions
to staff, related to new business; and new facilities for the
operating companies. Also, in 1996, the Company expensed an
additional $1.4 million of deferred acquisition costs.
Interest Expense. Interest expense was $1.8 million for
the year ended December 31, 1996, compared with $0.6 million for
the year ended December 31, 1995. Interest expense resulted from
a term loan of $25.5 million borrowed in 1995 to finance the
purchase of 1.5 million shares of the Company's common stock.
Interest expense was lower in 1995 because it accrued only from
the date of the take-down, in September.
Income Taxes. Income taxes were $53,000 for the year
ended December 31, 1996, compared with $4.0 million for 1995. In
1996, income taxes were reduced by the tax benefit from
additional reserve strengthening on discontinued lines of
business, increased underwriting expenses and tax-exempt
investment income. In 1995, the income tax expense was reduced
by the tax benefit from net claims costs and reinstatement
premiums relating to the Northridge earthquake and tax-exempt
investment income.
Net Income. Net income was $6.2 million for the year
ended December 31, 1996, compared with $12.9 million for the year
ended December 31, 1995.
Weighted Average Shares Outstanding. Average shares
outstanding were 6.7 million in 1996, compared with 7.6 million
in 1995, reflecting the effect of the purchase by the Company of
1.5 million shares of the Company's Common Stock in September of
1995.
Liquidity and Capital Resources
The Company receives cash from premiums and, to a lesser
extent, investment income. The principal cash outflows are for
the payment of claims, reinsurance premiums, policy acquisition
costs and general and administrative expenses. Net cash provided
by operations was $8.1 million in 1997, $24.7 million in 1996,
and $22.0 million in 1995.
At December 31, 1997, the Company maintained cash and cash
equivalents of $32.3 million to meet current payment obligations.
In addition, the Company's investment portfolio could be
substantially liquidated without any material financial impact.
Substantially all of the cash and investments of the Company at
December 31, 1997 were held by its subsidiaries.
Reinsurance recoverables on unpaid losses were $140.8
million at December 31, 1997 and $138.0 million at December 31,
1996. Because of the high limits on many policies relative to
the Company's net retentions, reinsurance recoverable on unpaid
losses can fluctuate significantly depending upon the emergence
and severity of reported and unreported losses.
Net cash provided by operating activities declined to $8.1
million for the year ended December 31, 1997, from $24.7 million
for the year ended December 31, 1996, primarily due to an
increase in gross claims payments during the year. Such payments
will be recoverable from reinsurers in subsequent periods.
In September 1995, the Company purchased 1.5 million
shares of its Common Stock from Willis Corroon Group plc for a
total purchase price of $25.5 million, including related
expenses. The Company financed its purchase of such shares
through the proceeds of borrowing from commercial lending
institutions.
As a holding company, the Company depends principally on
dividends from its insurance company subsidiaries to pay
corporate overhead expenses, including principal and interest on
its borrowings. The Company's subsidiaries are subject to state
insurance laws that restrict their ability to collectively pay
dividends. See "Regulation and Other Matters." Under the
insurance code of Pennsylvania, dividends from Calvert are
limited to the greater of 10% of surplus as regards policyholders
as of the preceding year end or the net income for the previous
year, without prior approval from the Pennsylvania Department of
Insurance. Under the insurance code of California, dividends
from Associated are limited to the greater of 10% of
policyholders' statutory surplus as of the preceding year end or
the Company's statutory net income for the previous year, without
prior approval from the California Department of Insurance. In
1997, 1996 and 1995, the aggregate dividends paid by the two
subsidiaries were $6.7 million, $4.7 million and $2.0 million,
respectively.
The NAIC has adopted a risk-based capital system for
assessing the adequacy of statutory capital and surplus for all
property and casualty insurers. Based on the guidelines and
computations made by the Company in conformity with such
guidelines, Associated and Calvert have exceeded the required
levels of capital. There can be no assurance that capital
requirements applicable to the Company's business will not
increase in the future.
Recently, there has been significant public discussion
regarding the potential inability of computer programs and
systems to adequately store and process data after December 31,
1999, due to the inability of such programs and systems to
identify correctly dates subsequent to December 31, 1999.
The Company has completed an assessment of its core
financial and operational software systems and believes it will
be in compliance with the requirements necessary to avoid the
foregoing "Year 2000" problem. The Company will test these
systems to confirm their compliance. If for any reason these
systems are not in compliance by December 31, 1999, the Year 2000
issue could have a material impact on the Company's ability to
meet financial and reporting requirements and to support its
insurance operations.
The Company is in the process of initiating discussions
with significant suppliers, business partners, customers and
other third parties to determine the extent to which the Company
may be vulnerable to the failure of these parties to address and
correct their own Year 2000 issues. However, there can be no
guarantee that the systems of other companies that support the
Company's operations will be timely converted or that a failure
by these companies to correct their Year 2000 problems would not
have a material adverse effect on the Company.
The Company is currently assessing what changes may be
appropriate in insurance coverages it currently markets in light
of the Year 2000 problem. In this connection, management is
consulting with ISO and others regarding possible modifications
and/or exclusions to policy forms that could be implemented in
connection with future insurance policies that will extend
coverage beyond December 31, 1999.
The costs incurred to date by the Company in connection
with its Year 2000 compliance initiative have been nominal, and
the Company currently has no indication that the costs associated
with any remaining remedial actions in connection with this
matter will be material.
In February 1998, the Company agreed to acquire The First
Reinsurance Company of Hartford ("FRH") and certain affiliated
entities from Dearborn Risk Management, Inc. for a combination of
cash and preferred stock valued at $43.6 million, plus certain
other performance-driven contingent consideration.
The purchase consideration of $43.6 million consists of
$31.9 million of cash and $11.7 million fair value of a new issue
of Gryphon perpetual convertible preferred stock. The preferred
stock, which will have a face amount of $14.4 million, will be
convertible into 643,672 shares of the Company's common stock,
reflecting a conversion price of $22.44 per share. No cash
dividends will be paid or owed during the first four and one-half
years; a cash dividend at the rate of 4.0% of the face amount
will be paid thereafter. The preferred shares, which are non-
callable for three years, have no sinking fund or mandatory
redemption features. In connection with the transaction, Gryphon
intends to enter into a $55 million credit facility with a group
of financial institutions, the proceeds of which will be used to
pay the cash portion of the purchase price and to repay existing
bank borrowings.
The acquisition will be accounted for by the purchase
method of accounting under Opinion No. 16, "Business
Combinations", of the Accounting Principles Board of the American
Institute of Certified Public Accountants. Under this accounting
method, any excess of purchase price over the fair market value
of identifiable assets acquired less liabilities assumed will be
recorded as goodwill.
The transaction, which is subject only to regulatory
approvals and other customary conditions, is expected to close
during the second quarter of 1998.
The Company regularly evaluates opportunities for the
acquisitions of books of business, of specialty insurance
companies or companies in related businesses and for business
combinations or joint ventures with other specialty insurance
companies. There can be no assurance, however, that any suitable
business opportunities will arise. In the event that such
opportunities do arise, the Company may incur indebtedness for
borrowed money in connection with the consummation of any such
transaction. Such indebtedness, under certain circumstances,
could adversely affect the Company's liquidity and capital
resources.
The Company has no off-balance-sheet obligations that are
not disclosed in its financial statements. The Company believes
that retained earnings will be sufficient to satisfy its long-
term capital requirements to fund growth.
Effects of Inflation
There was no significant impact on the Company's
operations as a result of inflation during 1997, 1996 and 1995.
However, there can be no assurance that inflation will not have a
material impact on the Company's operations in the future.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
An index to financial statements and required financial
statement schedules is set forth at Item 14.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
PART III
The information required in Part III (Items 10, 11, 12 and
13) is hereby incorporated by reference from the Company's
definitive Proxy Statement, which is expected to be filed
pursuant to Regulation 14A of the Securities Exchange Act of 1934
not later than 120 days after the end of the fiscal year covered
by this report.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND
REPORTS ON FORM 8-K.
(a) Financial Statements. See the index
immediately following the signature pages.
(b) Reports on Form 8-K. The Company did not file
any reports on Form 8-K during the last quarter of the
year ended December 31, 1997.
(c) Exhibits. All exhibits listed below are
filed with this Annual Report on Form 10-K unless
specifically stated to be incorporated by reference
to other documents previously filed with the
Securities and Exchange Commission.
3.1 Amended and Restated Certificate of Incorporation
incorporated herein by reference to Exhibit 3.1 to the
Registration Statement on Form S-1 (the "Registration
Statement") filed with the Securities and Exchange
Commission (the "SEC") on September 23, 1993.
3.2 Amended and Restated By-Laws incorporated herein by
reference to Exhibit 3.2 of the 1995 Form 10-K.
4.1 Specimen Common Stock certificate incorporated herein
by reference to Exhibit 4.1 to Amendment No. 3 to the
Registration Statement filed with the SEC on December 14,
1993.
10.1 Loan Agreement, dated September 8, 1995, in the
principal amount of $25,500,000 by and among Gryphon
Holdings Inc., CIBC Inc. and Canadian Imperial Bank of
Commerce incorporated herein by reference to Exhibit 10.1 of
the 1995 Form 10-K.
10.2 Tax Sharing Agreement among Willis Corroon Group plc,
the Company and certain other parties thereto incorporated
herein by reference to Exhibit 10.2 to Amendment No. 1 to
the Registration Statement.
10.3 General Indemnity Agreement between Willis Corroon
Group plc and the Company incorporated herein by reference
to Exhibit 10.3 to Amendment No. 1 to the Registration
Statement.
10.4 Form of Indemnification Agreement between the Company
and each of its directors and executive officers
incorporated herein by reference to Exhibit 10.4 to the
Registration Statement.
10.5 1993 Stock Option Plan of the Company incorporated
herein by reference to Exhibit 10.5 to Amendment No. 1 to
the Registration Statement.
10.6 Contractual Management Subsidiary Agreement, dated
July 1, 1987, between Associated and RAMCO incorporated
herein by reference to Exhibit 10.6 to the Registration
Statement.
10.7 Severance and Confidentiality Agreement among the
Company, Willis Corroon Group plc and John F. Iannucci
incorporated herein by reference to Exhibit 10.30 of
Amendment No. 1 to the Registration Statement.
10.10 Severance and Confidentiality Agreement between the
Company and Stephen A. Crane incorporated herein by reference
to Exhibit 10.32 of Amendment No. 1 to the Registration
Statement.
10.11 Restricted Stock Plan of the Company incorporated herein by
reference to Exhibit 10.34 of Amendment No. 1 to the
Registration Statement.
10.12 Severance and Confidentiality Agreement dated as of March
21, 1994 between the Company and Robert P. Cuthbert
incorporated herein by reference to Exhibit 10.35 of the
Company's Annual Report on Form 10-K for 1994 (the "1994
Form 10-K").
10.13 Severance and Confidentiality Agreement dated as of
November 11, 1994 between the Company and Robert M. Coffee
incorporated herein by reference to Exhibit 10.36 of the
1994 Form 10-K.
10.14 Amendment to Severance and Confidentiality Agreement dated
as of November 11, 1994 between the Company and Stephen A.
Crane incorporated herein by reference to Exhibit 10.37 of
the 1994 Form 10-K.
10.15 Amendment to Severance and Confidentiality Agreement dated
as of November 11, 1994 between the Company and Robert P.
Cuthbert incorporated herein by reference to Exhibit 10.38
of the 1994 Form 10-K.
10.16 Casualty Quota Share Treaty, effective December 1, 1994,
among Calvert and various reinsurers incorporated herein by
reference to Exhibit 10.45 of the 1994 Form 10-K.
10.17 Excess Catastrophe Reinsurance Contract, effective January
1, 1994, among Associated, Calvert and various reinsurers
stated therein incorporated herein by reference to Exhibit
10.52 of the 1994 Form 10-K.
10.18 Casualty Excess of Loss Reinsurance Contract, effective
July 1, 1994, among Associated, Calvert and various reinsurers
stated therein incorporated herein by reference to Exhibit
10.54 of the 1994 Form 10-K.
10.19 Casualty Excess of Loss Reinsurance Contract, effective
July 1, 1995, among Associated, Calvert, Timberline Insurance
Company and various reinsurers stated therein incorporated
herein by reference to Exhibit 10.51 of the 1995 Form 10-K.
10.20 First Excess Multiple Line Reinsurance Contract, effective
July 1, 1994, among Associated, Calvert and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.55 of the 1994 Form 10-K.
10.21 Second Excess Multiple Line Reinsurance Contract, effective
July 1, 1994, among Associated, Calvert and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.56 of the 1994 Form 10-K.
10.22 Form of Stock Option Agreement under the 1995 Non-Employee
Directors Stock Option Plan incorporated herein by reference
to Exhibit 10.54 of the 1995 Form 10-K.
10.23 Combined Casualty 1st Excess of Loss and Quota Share
Reinsurance Contract, effective July 1, 1995, among
Associated, Calvert, Timberline Insurance Company and
various reinsurers stated therein incorporated herein by
reference to Exhibit 10.55 of the 1995 Form 10-K.
10.24 Casualty Second Excess of Loss Reinsurance Agreement,
effective July 1, 1995, among Associated, Calvert,
Timberline Insurance Company and various reinsurers stated
therein incorporated herein by reference to Exhibit 10.56 of
the 1995 Form 10-K.
10.25 Multi-Line Excess of Loss Reinsurance Contract, effective
July 1, 1995, among Associated, Calvert, Timberline
Insurance Company and various reinsurers stated therein
incorporated herein by reference to Exhibit 10.57 of the
1995 Form 10-K.
10.26 Casualty Excess of Loss Reinsurance Contract, effective July
1, 1993, among Associated, Calvert and various reinsurers
stated therein incorporated herein by reference to Exhibit
10.62 of the 1995 Form 10-K.
10.27 First Excess Casualty Contingency Reinsurance Contract,
effective October 1, 1992, among Associated and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.63 of the 1995 Form 10-K.
10.28 External Third through Fifth Excess Catastrophe Reinsurance
Contract, effective January 1, 1994, among Associated,
Calvert and various reinsurers stated therein incorporated
herein by reference to Exhibit 10.67 of the 1995 Form 10-K.
10.29 Second Catastrophe Excess Reinsurance Agreement, dated July
1, 1995, among Calvert and various reinsurers stated therein
incorporated herein by reference to Exhibit 10.74 of the
1995 Form 10-K.
10.30 Third Catastrophe Excess Reinsurance Agreement, dated July
1, 1995, among Calvert and various reinsurers stated therein
incorporated herein by reference to Exhibit 10.75 of the
1995 Form 10-K.
10.31 Fourth Catastrophe Excess Reinsurance Agreement, dated July
1, 1995, among Calvert and various reinsurers stated therein
incorporated herein by reference to Exhibit 10.76 of the
1995 Form 10-K.
10.32 Casualty First Excess of Loss Reinsurance Contract, dated
July 1, 1995, among Calvert, the Company and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.77 of the 1995 Form 10-K.
10.33 Casualty Second Excess of Loss Reinsurance Contract, dated
July 1, 1995, among Calvert, the Company and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.78 of the 1995 Form 10-K.
10.34 Casualty Third Excess of Loss Reinsurance Contract, dated
July 1, 1995, among Calvert, the Company and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.79 of the 1995 Form 10-K.
10.35 Casualty Fourth Excess of Loss Reinsurance Contract, dated
July 1, 1995, among Calvert, the Company and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.80 of the 1995 Form 10-K.
10.36 Property Excess Per Risk Reinsurance Contract, dated January
1, 1998 between the subsidiaries of the Company and various
reinsurers stated therein.
10.37 Property Excess and Surplus Lines Excess Per Risk
Reinsurance Contract, dated January 1, 1998 between the
subsidiaries of the Company and various reinsurers stated
therein.
10.38 Franchise Excess of Loss Reinsurance Contract, dated January
1, 1998 between the subsidiaries of the Company and various
reinsurers stated therein incorporated herein.
10.39 External Third Through Seventh Catastrophe Excess
Reinsurance Contract, dated January 1, 1998 between the
subsidiaries of the Company and various reinsurers stated
therein.
10.40 Aggregate Excess of Loss Reinsurance Contract, dated January
1, 1997 between the subsidiaries of the Company and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.69 of the 1997 Form 10-K.
10.41 Per Event Reinsurance Contract, dated October 1, 1996
between the subsidiaries of the Company and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.70 of the 1997 Form 10-K.
10.42 "Working" Per Event Reinsurance Contract, dated October 1,
1996 between the subsidiaries of the Company and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.71 of the 1997 Form 10-K.
10.43 Excess Per Event Reinsurance Contract, dated October 1, 1996
between the subsidiaries of the Company and various
reinsurers stated therein incorporated herein by reference
to Exhibit 10.72 of the 1997 Form 10-K.
10.44 "Working" Per Event Reinsurance Contract, dated January 1,
1998 between the subsidiaries of the Company and various
reinsurers stated therein.
10.45 Excess Per Event Reinsurance Contract, dated January 1, 1998
between the subsidiaries of the Company and various
reinsurers stated therein.
10.46 Quota Share Reinsurance Contract, dated January 1, 1998
between the subsidiaries of the Company and Redland
Insurance Co.
10.47 Property Facultative Binding Agreement dated June 1, 1996
between the subsidiaries of the Company and various
reinsurers stated therein.
10.48 Excess of Loss, Blanch Catastrophe Plan, dated January 1,
1998 between the subsidiaries of the Company and
Scandinavian Reinsurance Co.
10.49 Commercial Automobile Quota Share Reinsurance Contract,
dated January 1, 1998 between the subsidiaries of the
Company and various reinsurers stated therein.
10.50 Entertainment Quota Share Treaty, dated January 1, 1998
between the subsidiaries of the Company and various
reinsurers stated therein.
10.51 Entertainment Excess of Loss Treaty, dated January 1, 1998
between the subsidiaries of the Company and various
reinsurers stated therein.
10.52 Stock Purchase Agreement, dated as of February 9, 1998, by
and between the Company of Dearborn Risk Management, Inc.
incorporated therein by reference to Exhibit 10.1 to Form 8-
K filed by the Company with the SEC on February 19, 1998.
21.1 Subsidiaries of the Company (included in Notes to the
Consolidated Financial Statements).
23.1 Consent of KPMG Peat Marwick LLP.
27.1 Financial Data Schedule
(d) Financial Statement Schedules
The financial statement schedules required by Regulation S-K
are incorporated by reference to Item 14(a).
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
Gryphon Holdings Inc. has duly caused this Report to be signed on its
behalf by the undersigned thereunto duly authorized.
GRYPHON HOLDINGS INC.
Dated: March 25, 1998
By: Stephen A. Crane
Stephen A. Crane
President
Pursuant to the requirements of the Securities Exchange Act of
1934, this Report has been signed below by the following persons on
behalf of the Registrant and in the capacities and on the dates
indicated:
Signature Title Date
Stephen A. Crane Director and President March 25, 1998
Stephen A. Crane (Chief Executive Officer)
Robert P. Cuthbert Chief Financial Officer March 25, 1998
Robert P. Cuthbert and Chief Accounting Officer
Robert M. Baylis Director March 25, 1998
Robert M. Baylis
Franklin L. Damon Director March 25, 1998
Franklin L. Damon
Robert R. Douglass Director March 25, 1998
Robert R. Douglass
David H. Elliott Director March 25, 1998
David H. Elliott
Hadley C. Ford Director March 25, 1998
Hadley C. Ford
Richard W. Hanselman Director March 25, 1998
Richard W. Hanselman
Joe M. Rodgers Director March 25, 1998
Joe M. Rodgers
George L. Yeager Director March 25, 1998
George L. Yeager
Form 10-K--Item 14(a)(1) and (2)
Gryphon Holdings Inc. and Subsidiaries
Index of Consolidated Financial Statements and Financial Statement Schedules
Page
Reports of Independent Auditors:
KPMG Peat Marwick LLP F-2
The following audited consolidated financial statements of
Gryphon Holdings Inc. and subsidiaries are included in Item 8:
Consolidated Balance Sheets at December 31, 1997 and 1996 F-3
Consolidated Statements of Income
for the Years Ended December 31, 1997, 1996 and 1995 F-4
Consolidated Statements of Stockholders' Equity for the
Years Ended December 31, 1997, 1996 and 1995 F-5
Consolidated Statements of Cash Flows for the
Years Ended December 31, 1997, 1996 and 1995 F-6
Notes to Consolidated Financial Statements F-7
The following consolidated financial statement schedules of
Gryphon Holdings Inc. and subsidiaries are included
in Item 14(d):
Schedules
I Summary of Investments -- Other Than
Investments in Related Parties S-1
II Condensed Financial Information of Registrant S-2
III Supplemental Insurance Information S-4
IV Reinsurance S-5
VI Supplemental Information Concerning
Property/Casualty Insurance Operations S-6
All other schedules to the consolidated financial statements
required by Article 7 of Regulation S-X are not required under the related
instructions or are not applicable and, therefore, have been
omitted.
REPORT OF KPMG PEAT MARWICK LLP, INDEPENDENT AUDITORS
Board of Directors and Shareholders
Gryphon Holdings Inc.
We have audited the accompanying consolidated balance sheets of
Gryphon Holdings Inc. and subsidiaries as of December 31, 1997
and 1996, and the related consolidated statements of income,
stockholders' equity, and cash flows for each of the years in the
three-year period ended December 31, 1997. In connection with
our audits of the consolidated financial statements, we have also
audited the financial statement schedules, as of December 31,
1997 and 1996 and for each of the years in the three-year period
ended December 31, 1997, as listed in the accompanying index.
These consolidated financial statements and financial statement
schedules are the responsibility of the Company's management.
Our responsibility is to express an opinion on these consolidated
financial statements and financial statement schedules based on
our audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that we plan and
perform the audit 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 consolidated financial statements referred to
above present fairly, in all material respects, the financial
position of Gryphon Holdings Inc. and subsidiaries as of December
31, 1997 and 1996, and the results of their operations and their
cash flows for each of the years in the three-year period ended
December 31, 1997, in conformity with generally accepted
accounting principles. Also, in our opinion, the related
financial statement schedules as of December 31, 1997 and 1996
and for each of the years in the three-year period ended December
31, 1997, when considered in relation to the basic consolidated
financial statements taken as a whole, present fairly, in all
material respects, the information set forth therein.
KPMG Peat Marwick LLP
New York, New York
February 24, 1998
Consolidated Balance Sheets
December 31,
1997 1996
(Dollars in thousands)
Assets
Investments:
Fixed maturities, available for sale, at fair value
(amortized cost: 1997 - $274,506; 1996 - $274,515) $ 280,553 $ 280,164
Short-term investments, at cost, which
approximates market 257 307
Total investments 280,810 280,471
Cash and cash equivalents 32,272 23,398
Accrued investment income 4,071 3,919
Premiums receivable 16,151 18,509
Reinsurance recoverable on paid losses 18,261 14,326
Reinsurance recoverable on unpaid losses 140,810 137,952
Prepaid reinsurance premiums 16,573 18,965
Deferred policy acquisition costs 11,849 12,415
Deferred income taxes 10,569 10,282
Other assets 7,619 6,747
Total assets $ 538,985 $ 526,984
Liabilities and Stockholders' Equity
Policy liabilities:
Unpaid losses and loss adjustment expenses $ 328,911 $ 309,259
Unearned premiums 62,351 68,683
Total policy liabilities 391,262 377,942
Reinsurance balances payable 12,179 16,207
Income taxes payable 389 55
Long-term debt 21,125 24,625
Other liabilities 9,521 13,019
Total liabilities 434,476 431,848
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value; 1,000,000 shares
authorized; none issued or outstanding
Common stock, $.01 par value; 15,000,000 shares
authorized; 8,148,050 shares issued 81 81
Additional paid-in capital 30,742 30,847
Foreign currency translation adjustment, net of tax (346) (219)
Net unrealized investment gains, net of tax 3,931 3,672
Deferred compensation (151) (257)
Retained earnings 95,065 86,271
Treasury stock, at cost; shares
1997: 1,461,169: 1996:1,487,075 (24,813) (25,259)
Total stockholders' equity 104,509 95,136
Total liabilities and stockholders' equity $ 538,985 $ 526,984
See accompanying notes to consolidated financial statements.
Consolidated Statements of Income
Year ended December 31,
1997 1996 1995
(Dollars and shares in thousands,
except per-share data)
Revenues
Net premiums earned $ 104,246 $ 87,929 $ 83,399
Net investment income 17,061 16,453 15,839
Realized gains on investments 6,188 1,203 3,647
Other income 979 1,059
Total revenues 128,474 106,644 102,885
Expenses
Losses and loss adjustment expenses 71,015 57,700 50,816
Underwriting, acquisition, and insurance expenses 45,089 40,967 34,590
Interest expense 1,607 1,761 595
Total expenses 117,711 100,428 86,001
Income before income taxes 10,763 6,216 16,884
Provision for income taxes (benefit):
Current 2,395 1,389 2,969
Deferred (426) (1,336) 990
Total income taxes 1,969 53 3,959
Net income $ 8,794 $ 6,163 $ 12,925
Basic earnings per share $ 1.32 $ 0.93 $ 1.69
Weighted average shares outstanding 6,680 6,656 7,648
See accompanying notes to consolidated financial statements.
Consolidated Statements of Stockholders' Equity
Foreign Unrealized
Additional Currency Investment
Common Paid-in Translation Gains Deferred Retained Treasury
Stock Capital Adjustment (Losses) Compensation Earnings Stock Total
(Dollars in thousands)
Balances at
January 1, 1995 $ 81 $ 30,850 $ (259) $ (3,840) $ (242) $ 67,183 $ 93,773
Add (deduct):
Net income 12,925 12,925
Translation adjustment 50 50
Stock award plans 49 49
Net unrealized investment
gains, net of tax 11,903 11,903
Purchase of common stock
for treasury (25,478) (25,478)
Balances at
December 31, 1995 81 30,850 (209) 8,063 (193) 80,108 (25,478) 93,222
Add (deduct):
Net income 6,163 6,163
Translation adjustment (10) (10)
Stock award plans (3) (64) 219 152
Net unrealized investment
losses, net of tax (4,391) (4,391)
Balances at
December 31, 1996 81 30,847 (219) 3,672 (257) 86,271 (25,259) 95,136
Add (deduct):
Net income 8,794 8,794
Translation adjustment (127) (127)
Stock award plans (105) 106 446 447
Net unrealized investment
gains, net of tax 259 259
Balances at
December 31, 1997 $ 81 $ 30,742 $ (346) $ 3,931 $ (151) $ 95,065 $(24,813) $104,509
See accompanying notes to consolidated financial statements.
Consolidated Statements of Cash Flows
Year ended December 31,
1997 1996 1995
(Dollars in thousands)
Operating activities
Net income $ 8,794 $ 6,163 $ 12,925
Adjustments to reconcile net income to
net cash provided by operating activities:
Increase in net policy liabilities 8,919 32,239 4,958
Decrease (increase) in premiums receivable 2,358 (1,034) (3,196)
Decrease (increase) in deferred
policy acquisition costs 566 (233) (2,388)
Deferred income tax provision (426) (1,336) 990
Decrease (increase) in other
assets and liabilities (3,009) 1,543 (539)
Amortization and depreciation 781 595 402
Amortization of bond discount, net 498 944 370
Realized gains on investments (6,188) (1,203) (3,647)
Increase (decrease) in
reinsurance balances payable (4,028) (13,166) 12,341
Decrease (increase) in accrued
investment income (152) 161 (175)
Net cash provided by operating activities 8,113 24,673 22,041
Investing activities
Sales of fixed maturities 438,021 281,728 221,026
Purchases of fixed maturities (434,292) (310,660) (249,119)
Maturities or calls of fixed maturities 1,800 3,000 4,775
Net sales of Short-term investments 50 230
Capital expenditures (1,568) (2,111) (366)
Net cash provided by (used in) investing activities 4,011 (27,813) (23,684)
Financing activities
Proceeds from long-term debt 25,500
Common stock acquired for treasury (25,478)
Principal payment on long-term debt (3,500) (875)
Issuance of common stock 340 217
Deferred compensation 37 (131)
Net cash provided by (used in) financing activities (3,123) (789) 22
Effect of exchange rate changes on cash (127) (10) 50
Increase (decrease) in cash and cash equivalents 8,874 (3,939) (1,571)
Cash and cash equivalents at beginning of year 23,398 27,337 28,908
Cash and cash equivalents at end of year $ 32,272 $ 23,398 $ 27,337
Supplemental disclosure of cash flow information
Income taxes paid $ 1,855 $ 1,701 $ 2,783
Interest paid 1,607 1,761 586
See accompanying notes to consolidated financial statements.
1. Summary of Significant Accounting Policies
The significant accounting policies followed by the
Company are summarized below.
Basis of Presentation and Principles of Consolidation
Gryphon Holdings Inc. operates through its main
subsidiary, Gryphon Insurance Group Inc., as a specialty property
and casualty underwriting organization. The Company's wholly
owned insurance company subsidiaries are Associated International
Insurance Company ("Associated") and Calvert Insurance Company
("Calvert"), which operate in the property and casualty insurance
industry. Associated writes the majority of its property and
casualty insurance policies in the State of California. Calvert
writes property and casualty insurance policies throughout the
United States and Canada.
The accompanying consolidated financial statements have
been prepared on the basis of generally accepted accounting
principles ("GAAP"), which as to the two insurance subsidiaries
differ from the statutory accounting practices ("SAP") prescribed
or permitted by regulatory authorities, and include the accounts
of the Company and its subsidiaries. All significant
intercompany accounts and transactions have been eliminated in
consolidation.
The preparation of the consolidated financial statements
in conformity with GAAP requires the use of estimates and
assumptions that affect amounts reported in the consolidated
financial statements and the accompanying notes. Actual
results could differ from such estimates.
Premium Revenues
Direct, assumed and ceded property and liability insurance
premiums written are recognized as earned on a pro rata basis
over the terms of the policies. Unearned premiums are calculated
principally by the application of pro rata fractions and
represent the portion of premiums written that is applicable to
unexpired terms of policies in force.
Recoverable policy acquisition costs that vary with and
are directly related to the production of business, consisting of
commissions, premium taxes and other underwriting expenses
incurred, net of ceding allowances, are deferred and amortized to
income as the related premiums are earned. The Company does not
consider anticipated investment income when determining the
recoverability of amounts deferred. Amortization of deferred
policy acquisition costs amounted to $34.0 million, $30.1
million, and $26.7 million for the years ended December 31, 1997,
1996 and 1995, respectively.
Reinsurance
Assumed reinsurance premiums written, commissions and
unpaid losses and loss adjustment expenses are accounted for
based principally on the reports received from the ceding
insurance companies and in a manner consistent with the terms of
the related reinsurance agreements.
To limit its risks, the Company acquires reinsurance
coverage with retentions and limits that management believes are
appropriate for the circumstances. Reinsurance arrangements
effected under quota-share reinsurance contracts and excess-of-
loss reinsurance contracts provide for greater diversification of
business, allow management to control exposure to potential
losses arising from large risks, and provide additional capacity
for growth. The accompanying consolidated financial statements
reflect premiums earned, losses and loss adjustment expenses
("LAE") and underwriting, acquisition and insurance expenses, net
of reinsurance ceded. Amounts recoverable from reinsurers are
estimated in a manner consistent with the claim liability
associated with the reinsured policies.
Contingent commissions and retrospectively-rated premiums
are accounted for on an earned basis and are accrued, in
accordance with the terms of the applicable reinsurance
agreement, based on the estimated ultimate level of profitability
relating to such reinsured business. Accordingly, the
profitability of the reinsured business is continually reviewed
and as adjustments become necessary, such adjustments are
reflected in current operations.
Cash and Cash Equivalents
The Company considers all highly liquid investments with a
maturity of three months or less when purchased to be cash
equivalents.
Investments
The Company's securities are classified as available for
sale and reported at fair value, with unrealized gains and
losses, net of deferred income taxes, included in stockholders'
equity.
Fair values are based on quoted market prices, when
available, or estimates based on market prices for similar
securities, when quotes are not available. Short-term
investments are carried at cost, which approximates their fair
value. Realized gains and losses from sales or liquidations of
investments are determined on the basis of the specific
identification method and are included in net income. Investment
income is recognized when earned. The amortization of premium
and accretion of discount for fixed maturity securities are
computed utilizing the interest method.
Losses and Loss Adjustment Expenses
The liabilities for unpaid losses and LAE are based on the
Company's estimates of the ultimate cost of unpaid losses
reported prior to the close of the accounting period, IBNR
losses, and the related LAE. These liabilities are estimated by
management utilizing methods and procedures which it believes are
reasonable and necessarily are subject to the impact of future
changes in claim severity and frequency, as well as numerous
other factors. Although management believes that the estimated
liabilities for losses and LAE are reasonable, because of the
extended period of time over which such losses are reported and
settled, the subsequent development of these liabilities may not
conform to the assumptions inherent in their determination and,
accordingly, may vary from the estimated amounts included in the
accompanying consolidated financial statements. To the extent
that the actual emerging loss experience varies from the
assumptions used in the determination of these liabilities, they
are adjusted to reflect actual experience. Such adjustments, to
the extent they occur, are reported in the period recognized.
The Company's liabilities for unpaid losses and LAE
include estimates for certain types of latent exposures, such as
environmental impairment and asbestos-related claims, relating to
business written prior to 1985 and which are generally difficult
to establish with traditional reserving techniques.
The Company wrote policies with environmental impairment
and asbestos-related exposures at high attachment levels and
obtained reinsurance coverage reducing its net retention to
$50,000 per occurrence. Among the complications of reserving for
this type of business are a lack of sufficient historical data,
long reporting delays, uncertainty as to the number and identity
of insureds with potential exposure, and complex, unresolved
legal issues regarding policy coverage and the extent and timing
of any such contractual liability. Courts have reached different
and sometimes inconsistent conclusions as to when a loss occurred
and which policies provide coverage, which claims are covered,
whether there is an insured obligation to defend, how policy
limits are determined, how policy exclusions are applied and
interpreted, and whether clean-up costs are includible as insured
property damage. These legal issues are not likely to be
resolved in the near future.
The establishment of appropriate reserves is an inherently
uncertain process, and there can be no assurance that the
ultimate liability, particularly with respect to latent exposures
such as environmental impairment and asbestos, will not
materially exceed the Company's current liability for unpaid loss
and loss adjustment expense reserve estimates and have a material
adverse effect on its future results of operations and financial
condition. Furthermore, due to the inherent uncertainty of
estimating such liabilities, particularly with respect to such
latent exposures, it has been, and may over time continue to be,
necessary to revise such estimated liabilities. However, on the
basis of the Company's internal procedures, which analyze, among
other things, its experience with similar cases and historical
trends such as reserving patterns, loss payments, pending levels
of unpaid claims, and product mix, as well as court decisions,
economic conditions and public attitudes, management believes
that adequate provision has been made for the Company's
liabilities for unpaid losses and LAE as of December 31, 1997.
Foreign Currency
Transactions denominated in foreign currencies are
translated at the rate of exchange at the transaction date.
Revenues and expenses are translated at average exchange rates.
Assets and liabilities are translated at the exchange rates in
effect at the balance sheet date.
Earnings per Share
In February 1997, the Financial Accounting Standards Board
("FASB") issued Statement of Financial Accounting Standards
(SFAS) No. 128, "Earnings Per Share", which the Company
implemented in 1997. SFAS No. 128 establishes standards for
computing and presenting earnings per share. Primary earnings
per share have been replaced by basic earnings per share and
calculated by dividing income available to common stockholders by
the weighted average number of common shares outstanding during
the period. Fully diluted earnings per share have been replaced
by diluted earnings per share and calculated by including
additional common shares that would have been outstanding if
potentially dilutive shares had been issued during the period.
Prior period earnings per share were not affected by the adoption
of SFAS No. 128.
New Accounting Standards
In June 1997, the FASB issued SFAS No. 130, "Reporting
Comprehensive Income", which requires enterprises to disclose
comprehensive income and its components in a prominent position
on the face of the financial statement. The Company will
implement this statement in 1998. This statement relates to
presentation of information and will have no impact on results of
operations or financial condition.
In June 1997, the FASB issued SFAS No. 131, "Disclosure
about Segments of an Enterprise and Related Information", which
will be effective for the Company beginning January 1, 1998.
SFAS No. 131 redefines how operating segments are determined and
requires disclosure of certain financial and descriptive
information about a company's operating segments. This statement
relates to presentation of information and will have no impact on
results of operations or financial condition. Interim financial
information will be required beginning in 1999 (with comparative
1998 information). The Company is currently evaluating the
segment information disclosures required by SFAS No. 131.
In December of 1997, the American Institute of Certified
Public Accountants issued Statement of Position No. 97-3
"Accounting by Insurance and Other Enterprises for Insurance-
related Assessments" ("SOP 97-3"). SOP 97-3 establishes standards
for accounting for guaranty-fund and certain other insurance related
assessments. SOP 97-3 is effective for fiscal years beginning after
December 15, 1998 and requires any impact of adoption to be reported
as a change in accounting principle. The adoption of this statement
is not expected to have a material effect on the Company's results
of operations or financial condition.
2. Investments
The major categories of net investment income are
summarized as follows:
Year ended December 31
1997 1996 1995
(Dollars in thousands)
Fixed maturities $16,384 $ 16,256 $ 15,245
Cash, cash equivalents
and short-term investments 1,684 1,117 1,610
Total investment income 18,068 17,373 16,855
Less related expenses (1,007) (920) (1,016)
Net investment income $17,061 $ 16,453 $ 15,839
The gross realized gains and losses from sales of fixed
maturity securities are as follows:
Year ended December 31
1997 1996 1995
(Dollars in thousands)
Gross realized gains $ 7,530 $ 3,074 $ 4,306
Gross realized losses (1,342) (1,871) (659)
Net realized gains on sales $ 6,188 $ 1,203 $ 3,647
At December 31, 1997 and 1996, the amortized cost and
estimated fair values of investments in fixed maturities, by
categories of securities, and short-term investments were as
follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
(Dollars in thousands)
December 31, 1997
U.S. Treasury securities
and obligations of
U.S. government
corporations and agencies $ 78,623 $ 667 $ (22) $ 79,268
Debt securities issued
by foreign governments 5,857 130 (6) 5,981
Tax-exempt obligations of states
and political subdivisions 108,194 4,322 112,516
Mortgage-backed securities 47,488 501 (47) 47,942
Corporate securities 34,344 617 (115) 34,846
274,506 6,237 (190) 280,553
Short-term investments 257 257
$ 274,763 $ 6,237 $ (190) $ 280,810
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
(Dollars in thousands)
<C
December 31, 1996
U.S. Treasury securities
and obligations of
U.S. government
corporations and agencies $ 55,845 $ 826 $ (87) $ 56,584
Debt securities issued by
foreign governments 5,747 186 (10) 5,923
Tax-exempt obligations of states
and political subdivisions 141,686 4,718 (69) 146,335
Mortgage-backed securities 43,381 294 (214) 43,461
Corporate securities 27,856 345 (340) 27,861
274,515 6,369 (720) 280,164
Short-term investments 307 307
$ 274,822 $ 6,369 $ (720) $ 280,471
At December 31, 1997, the amortized cost and estimated
fair value of fixed maturities, by contractual maturity, are
shown below. Expected maturities, which are best estimates, will
differ from contractual maturities because borrowers may have the
right to call or prepay obligations with or without prepayment
penalties.
December 31, 1997
Amortized Fair
Cost Value
(Dollars in thousands)
Due in one year or less $ 279 $ 286
Due after one year through five years 65,562 66,567
Due after five years through ten years 95,153 97,677
Due after ten years 66,024 68,081
227,018 232,611
Mortgage-backed securities 47,488 47,942
Total $274,506 $280,553
At December 31, 1997, investments in Federal National
Mortgage Association securities aggregating $11.8 million
represented the only investments in any entity in excess of 10.0%
of stockholders' equity other than those investments issued or
guaranteed by the U.S. government.
Securities on Deposit
At December 31, 1997 and 1996, securities with a fair
value of approximately $19.3 million and $18.6 million,
respectively were on deposit with various state or governmental
insurance departments in order to comply with statutory insurance
laws.
3. Losses and Loss Adjustment Expenses
The following table provides a reconciliation of beginning
and ending loss and LAE reserve balances of the Company for each
of the years in the three-year period ended December 31, 1997 as
computed in accordance with GAAP.
1997 1996 1995
Gross reserves for losses and
LAE at the beginning of the year $ 309,259 $ 308,886 $ 315,691
Ceded reserves for losses and
LAE at the beginning of the year 137,952 152,975 169,889
Net reserves for losses and
LAE at the beginning of the year 171,307 155,911 145,802
Add: Provision for losses and
LAE for claims occurring in:
The current year 64,222 53,402 50,424
Prior years 6,793 4,298 392
Total net incurred losses and LAE 71,015 57,700 50,816
Less: Losses and LAE payments
for claims occurring in:
The current year 13,932 11,520 11,796
Prior years 40,289 30,784 28,911
Total net paid losses and LAE 54,221 42,304 40,707
Reserves for net losses and
LAE at end of year 188,101 171,307 155,911
Reinsurance recoverable on unpaid losses 140,810 137,952 152,975
Reserves for gross losses
and LAE at end of year $ 328,911 $ 309,259 $ 308,886
The provision for losses and LAE for claims occurring in
prior years shows an unfavorable development of $6.8 million in
1997. The unfavorable development resulted principally from a
pre-1985 book of Casualty business and certain pre-1987
reinsurance-assumed business, both previously discontinued.
The following table provides a reconciliation of beginning
and ending loss and LAE reserve balances of the Company for each
of the years in the three-year period ended December 31, 1997 for
environmental impairment and asbestos-related liabilities.
Reconciliation of Environmental Impairment and Asbestos-related
Liability for Loss and Loss Adjustment Expenses
(Dollars in thousands)
Year ended December 31,
Environmental Impairment Liability
1997 1996 1995
Gross reserves for losses and
LAE at the beginning of the year $ 12,981 $ 11,938 $ 14,200
Ceded reserves for losses and
LAE at the beginning of the year 4,177 3,958 5,100
Net reserves for losses and
LAE at the beginning of the year 8,804 7,980 9,100
Add: Provision for losses and
LAE for claims occurring in prior years (845) 1,598 3
Less: Losses and LAE payments
for claims occurring in prior years 1,159 774 1,123
Reserves for net losses and LAE at end of year 6,800 8,804 7,980
Reinsurance recoverable on unpaid losses 5,200 4,177 3,958
Reserves for gross losses and LAE at end of year $ 12,000 $ 12,981 $ 11,938
Year ended December 31,
Asbestos-related Liability
1997 1996 1995
Gross reserves for losses and
LAE at the beginning of the year $ 4,121 $ 1,700 $ 4,050
Ceded reserves for losses and
LAE at the beginning of the year 3,110 1,060 3,350
Net reserves for losses and
LAE at the beginning of the year 1,011 640 700
Add: Provision for losses and
LAE for claims occurring in prior years 847 583 612
Less: Losses and LAE payments for
claims occurring in prior years 143 212 672
Reserves for net losses and LAE at end of year 1,715 1,011 640
Reinsurance recoverable on unpaid losses 2,500 3,110 1,060
Reserves for gross losses and LAE at end of year $ 4,215 $ 4,121 $ 1,700
At December 31, 1997, the reserve for unpaid environmental
impairment losses and related LAE was approximately $6.8 million,
net of reinsurance recoverables deemed probable of collection by
the Company of approximately $5.2 million. The range of gross
reserves for unpaid environmental impairment losses and LAE is
estimated to be $12.0 million to $20.0 million and the range of
reserves, net of reinsurance recoverable, for unpaid
environmental impairment losses and LAE is estimated to be
approximately $6.8 million to $9.5 million.
At December 31, 1997, the reserve for unpaid asbestos-
related losses and related LAE was $1.7 million, net of
reinsurance recoverables deemed probable of collection by the
Company of approximately $2.5 million. The range of gross
reserves for unpaid asbestos-related losses and LAE is estimated
to be $4.2 million to $9.4 million and the range of reserves, net
of reinsurance recoverable, for unpaid asbestos-related losses
and LAE is estimated to be approximately $1.7 million to $3.3
million.
There are significant uncertainties in estimating the
amount of the Company's environmental impairment and asbestos-
related liabilities resulting from a lack of historical data,
long reporting delays, uncertainty as to the number and identity
of insureds with potential exposure, and complex, unresolved
legal issues regarding policy coverage and the extent and timing
of any such contractual liability. Courts have reached different
and sometimes inconsistent conclusions as to when a loss occurred
and what policies provide coverage, what claims are covered,
whether there is an insured obligation to defend, how policy
limits are determined, how policy exclusions are applied and
interpreted, and whether cleanup costs are includible as insured
property damage. These issues are not likely to be resolved in
the near future. As a result of these issues, the ultimate
number and cost of these claims may generate losses that vary
materially from the amounts currently recorded and could have a
material adverse effect on the Company's results of operations
and financial condition. While management believes the Company's
reserves for these coverages are appropriately established,
because of the uncertainty of circumstances surrounding many
critical factors that affect environmental impairment and
asbestos-related liabilities, there can be no assurance that the
Company's reserves for and losses from these claims will not
increase in the future.
4. Reinsurance
Certain premiums and losses are assumed from and ceded to
other insurance companies under various reinsurance agreements.
The Company cedes a portion of its business through quota share
treaties, excess of loss treaties and facultative placements, and
generally retains net amounts of risk ranging from $100,000 to
$500,000 per risk.
The following table sets forth the significant reinsurance
receivables due from reinsurers as of December 31, 1997.
Year ended December 31, 1997
(Dollars in thousands)
Reinsurance A.M. Best's
Reinsurer Receivables Rating
American Re-Insurance Company $ 19,684 A+
Signet Star Reinsurance Corporation 10,853 A
Odyssey Reinsurance Corporation 10,507 A -
St. Paul Fire and Marine Insurance Company 10,224 A+
First Excess & Reinsurance Corporation 9,430 A
Lloyd's Underwriters 9,310 *
Great Lakes American Reinsurance Company 8,884 A -
Swiss Reinsurance America Corp. 7,589 A
* A.M. Best does not assign ratings to Lloyd's syndicates.
The amount and cost of reinsurance available to companies
specializing in property and casualty insurance are subject, in
large part, to prevailing market conditions beyond the control of
the Company. The Company's ability to provide insurance at
competitive premium rates and coverage limits on a continuing
basis depends to a significant extent upon its ability to obtain
adequate reinsurance in amounts and at rates that will not
adversely affect its competitive position.
For the years ended December 31, 1997, 1996 and 1995,
amounts relating to assumed and ceded reinsurance premiums
written and earned and losses and LAE incurred reflected in the
accompanying consolidated statements of income approximated the
following:
Year ended December 31,
1997 1996 1995
(Dollars in thousands)
Premiums Written:
Assumed $ 3,315 $ 2,390 $ 2,076
Ceded 45,792 62,330 66,805
Premiums Earned:
Assumed $ 3,715 $ 2,209 $ 1,715
Ceded 48,179 63,824 66,064
Losses & LAE Incurred:
Assumed $ 14,617 $ 4,455 $ 2,585
Ceded 46,569 42,052 52,089
At December 31, 1997 the Company held letters of credit of
approximately $7.7 million securing amounts due from reinsurers.
During 1997, Associated maintained a six-layer property
catastrophe reinsurance program which covered 95% of the annual
aggregate amount of property claims up to $138.0 million per
occurrence, subject to a retention of $2.5 million per
occurrence.
Associated limits its net retention to $100,000 per risk
for difference in conditions ("DIC"). Until October 1, 1996,
Associated retained $250,000 per risk for casualty, architects'
and engineers' professional liability, specialty lines, and
commercial auto and up to $500,000 per risk for non-DIC property
policies. Calvert reinsured various lines of business through
quota share treaties, excess of loss treaties and facultative
placements which limited Calvert's net retention per risk to a
maximum of $200,000 for property and casualty.
Effective October 1, 1996, the Company's reinsurance
program was restructured to provide protection for loss events
covering property and casualty classes of business, excluding DIC
and certain other property business. The program provides for
$24.5 million of coverage in excess of a new retention of
$500,000 for each and every event. Certain business is covered
by a quota share treaty that limits the Company's net retention
per risk to a maximum of $250,000.
Reinsurance ceded contracts do not relieve the Company of
its obligations to policyholders. The Company remains liable to
its policyholders for the portion reinsured to the extent that any
reinsurer does not meet its obligations for reinsurance ceded to it
under the reinsurance agreements. Failure of reinsurers to honor
their obligations could result in losses to the Company. In addition,
as is often the case in the normal course of business, the Company
is involved in disputes with reinsurers regarding certain loss
recoverables. Although the Company believes that such issues will be
resolved in the Company's favor, there can be no assurance that the
Company will prevail; an unfavorable resolution could have a material
effect on the Company's financial statements.
5. Federal Income Taxes
The Company uses an asset and liability approach for
financial accounting and reporting for income taxes. Under the
asset and liability method, deferred tax assets and liabilities
are recorded based on the difference between the financial
statement and tax bases of assets and liabilities and the tax
rates in effect when these temporary differences are expected to
reverse. The principal assets and liabilities giving rise to
such differences are loss and LAE reserves, unearned premiums,
deferred policy acquisition costs, and net unrealized investment
gains (losses).
The components of the net deferred income tax asset are as
follows:
Year ended December 31,
1997 1996
(Dollars in thousands)
Discount on loss reserves $ 12,769 $ 12,270
Unearned premium reserve 3,204 3,477
Alternative minimum tax credit 1,099 1,099
Other, net 130 129
Deferred income tax asset 17,202 16,975
Deferred policy acquisitions costs (4,147) (4,345)
Unrealized gains on investments (2,117) (1,977)
Other, net (369) (371)
Deferred income tax liability (6,633) (6,693)
Net deferred income tax asset $ 10,569 $ 10,282
The Company has not established a valuation reserve
because it believes, based on its tax-planning strategies and
projected future earnings, that it is likely that the net
deferred tax asset will be fully realized.
A reconciliation of income taxes computed at the statutory
federal income tax rate to the income tax provision is presented
below:
1997 1996 1995
% of Pre-Tax % of Pre-Tax % of Pre-Tax
Amount Income Amount Income Amount Income
(Dollars in thousands)
Taxes based on statutory
federal income tax rate $ 3,767 35.0% $ 2,176 35.0% $ 5,909 35.0%
Add (deduct):
Tax exempt interest (1,994)(18.5) (2,338)(37.6) (2,131)(12.6)
Other, net 196 1.8 215 3.5 181 1.1
Total income taxes $ 1,969 18.3% $ 53 0.9% $ 3,959 23.5%
6. Long-Term Debt
In September 1995, the Company purchased 1.5 million
shares of its common stock beneficially owned by Willis Corroon
Group plc for a purchase price of $25.5 million, including
related expenses. The Company financed its purchase through an
unsecured term loan from commercial lending institutions. This
loan matures in varying amounts through 2002 with interest
payable at least quarterly. The term loan interest rate is
equivalent to either the bank's prime rate or the London
Interbank Offered Rate ("LIBOR") plus 1%, at the discretion of
the Company. The term loan agreement contains certain
restrictive covenants, including restrictions on the Company's
ability to declare or pay any cash dividends to its shareholders.
As of December 31, 1997, the weighted average interest rate was
6.89%, and the fair value of the loan approximated the carrying
value.
Principal payments due on the term loan are as follows:
Year ending December 31, Principal Amount
(Dollars in thousands)
1998 $ 3,625
1999 4,125
2000 4,625
2001 5,000
2002 3,750
Total $21,125
In October 1995, the Company entered into an interest rate
swap agreement with a commercial lending institution in order to
reduce the impact of interest rate fluctuations on the Company's
term loan. The interest rate swap was effected with respect to
the first $15.5 million of scheduled principal amortizations of
the $25.5 million loan. The impact of the swap was to create an
effective fixed rate of 6.97% on the $15.5 million principal
amount. As of December 31, 1997, the fair value of the interest
rate swap approximated the carrying value.
7. Fair Value of Financial Instruments
The Company follows SFAS No. 119, "Disclosure about
Derivative Financial Instruments and Fair Value of Financial
Instruments." SFAS No. 119 requires disclosure of an estimate of
the fair value of financial instruments. The Statement defines
the fair value of financial instruments as the amount at which
the instruments could be exchanged in a current transaction
between willing parties. The following table summarizes the
carrying amount and estimated fair value of the Company's
financial instruments at December 31, 1997 and 1996.
Year ended December 31
1997 1996
(Dollars in thousands)
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
Financial assets:
Investments and cash $313,082 $313,082 $303,869 $303,869
Financial liabilities:
Long-term debt 21,125 21,129 24,625 24,651
The following methods and assumptions were used to
estimate the fair value of each class of financial instrument:
Investments and cash
The fair values of fixed maturities are based on quoted
market prices. The fair value of short-term instruments
approximates amortized cost. The fair value of cash and cash
equivalents approximates amortized cost.
Long-term debt
The fair value of the Company's long-term debt is
estimated based on the quoted market prices for the same or
similar issues or on current rates offered to the Company for
debt of the same maturities. The fair value includes the effect
of the interest rate swap.
8. Commitments and Contingencies
Leases
The Company and its subsidiaries lease certain office
facilities and computer equipment. Minimum rental commitments for
these leases, exclusive of escalations due to real estate taxes
and operating expenses, are as follows:
Year ending December 31, (Dollars in thousands)
1998 $1,163
1999 1,130
2000 964
2001 755
2002 784
Thereafter 4,728
$9,524
Total rent expense for all leases was $1,469,000,
$1,310,000 and $959,000 in 1997, 1996 and 1995, respectively.
9. Dividends and Stockholders' Equity
Dividends
Associated, a California domiciled company, and Calvert, a
Pennsylvania domiciled company, are required to file with the
Department of Insurance of various states an annual convention
statement, which is prepared in conformity with accounting
practices prescribed or permitted by the respective states.
These practices vary from GAAP principally in that policy
acquisition costs are charged to expense when incurred, deferred
federal income taxes are not recognized, investments are
reflected at amortized cost, and nonadmitted assets are excluded
from the balance sheet.
Under state insurance laws of Pennsylvania, the maximum
amount of dividends which can be paid by Pennsylvania-domiciled
insurance companies without prior approval of the Insurance
Commissioner is limited to the greater of 10% of surplus as
regards policyholders as of the preceding year end or the
insurance company's net income for the previous year. Under
state insurance laws of California, Associated is permitted to
pay as dividends to the Company, after advance notice to the
California Insurance Department, an amount equal to the greater
of 10% of Associated's policyholders surplus at the end of the
preceding year or its statutory net income for the preceding
year. Dividends in excess of these amounts require the prior
approval of the California Insurance Department. Dividends may
be paid only out of earned surplus. As such, at December 31,
1997, the maximum amount of dividends that Associated could pay
in 1998 without California Insurance Department approval amounted
to approximately $9.0 million and the maximum amount of dividends
that Calvert could pay in 1998 without Pennsylvania Insurance
Department approval amounted to approximately $2.0 million.
Stockholders' Equity
A reconciliation of the two insurance subsidiaries' net
income and stockholders' equity for each of the years in the
three years ended December 31, 1997 and as of December 31, 1997
and 1996, as reported to the various regulatory authorities in
accordance with SAP, to the related GAAP amounts included in the
accompanying consolidated financial statements is as follows:
Stockholders'
Net Income Equity
1997 1996 1995 1997 1996
(Dollars in thousands)
Associated's and Calvert's
statutory basis amounts $ 11,013 $ 7,298 $ 13,876 $ 87,705 $ 82,566
Add (deduct):
Deferred policy
acquisition costs (566) 233 2,388 11,849 12,415
Deferred income taxes 426 341 (728) 11,602 11,175
Nonadmitted assets 2,781 3,090
Unauthorized reinsurance 3,862 3,980
Foreign currency
translation adjustment 7 (68) (110)
Unrealized investment gains 3,931 3,672
Net income - non
insurance subsidiaries 794 816
Other, net (197) (67) 25 98 (33)
Associated's and Calvert's
GAAP amounts 11,477 8,553 15,451 121,828 116,865
Holding Company:
Non-insurance
company expenses (2,683) (2,390) (2,526)
GAAP equity (17,319) (21,729)
Consolidated amounts
-- GAAP basis $8,794 $6,163 $12,925 $104,509 $95,136
10. Shareholder Rights Plan
In June 1995, the Board of Directors declared a dividend
of one right for each outstanding share of Common Stock. Each
right entitles the holder to purchase from the Company a unit
consisting of 1/100 of a share of Junior Participating Cumulative
Preferred Stock at a price of $50 per unit. Initially, the
rights will not be exercisable and will trade with the Common
Stock. In the event a person or group acquires 20% or more of
the Common Stock, or commences a tender offer for the outstanding
shares, the rights become exercisable.
If a person or group acquires 20% or more of the Common
Stock, the rights will entitle a holder (other than the acquiring
person or group of acquiring persons) to buy shares of Common
Stock having a market value of twice the exercise price of the
right. If the Company is subsequently involved in a merger or
other business combination with a holder of 20% or more of the
stock of the Company, the rights will entitle a holder to buy
shares of common stock of the acquiring corporation having a
market value of twice the exercise price of the right.
The rights may be redeemed by the Company at $.001 per
right at any time prior to the acquisition by any person or group
of 20% or more of the Company's shares. The rights have no
voting power and will expire in June 2005, if not previously
redeemed.
11. Property and Equipment
Property and equipment is classified with other assets in
the accompanying consolidated balance sheets and is stated at
cost, net of accumulated depreciation and amortization.
Depreciation is computed using the straight-line method over the
estimated useful lives of the related property and equipment
and ranges principally from three to seven years.
Property and equipment, included in Other assets in the
balance sheet, is comprised of the following:
Year ended December 31,
1997 1996
(Dollars in thousands)
Furniture, fixtures and leasehold improvements $ 2,539 $ 2,475
Computers 2,074 1,011
Office equipment 416 354
5,029 3,840
Less: Accumulated depreciation and amortization 1,715 1,116
$ 3,314 $ 2,724
12. Stock Option and Restricted Stock Plans
The Company's stock option plans provide for granting of
stock options to key employees and non-employee directors.
Options are granted at a price not less than the market price on
the date of grant. Options that have been granted under the
plans will become exercisable in four annual installments of 25%
each commencing on the second anniversary of the date of grant
and will expire ten years from the date of grant.
The Company's restricted stock award plan provides for the
granting of up to 100,000 shares of common stock to key
employees, subject to restrictions as to continuous employment
except in the case of death or normal retirement. Restrictions
generally expire over a five-year period from date of grant.
Compensation expense is recognized over the restriction period.
As of December 31, 1997, 76,500 shares are available for issuance
under the plan.
The Financial Accounting Standards Board issued SFAS No.
123, "Accounting for Stock-Based Compensation." SFAS No. 123
provides an option either to continue the Company's current
method of accounting for stock-based compensation, or to adopt
the fair value method of accounting for stock-based employee
compensation plans, which would require the Company to expense
the fair value of its stock options at the date of grant over the
vesting period.
The Company has continued to elect to follow Accounting
Principle Board ("APB") Opinion No. 25, "Accounting for Stock
Issued to Employees", and related interpretations in accounting
for its stock option and restricted stock plans. Accordingly, no
compensation expense has been recognized for its stock-based
compensation plans other than for restricted stock awards.
Although the Company elected to continue to follow APB No. 25, it
is required to provide additional disclosures including pro forma
net income and earnings per share as if the Company adopted the
fair value method for recognition purposes in 1995.
A summary of stock option activity as of December 31,
1997, follows:
Weighted Average of
Available Exercise Price of
for Option Outstanding Outstanding Options
Balance, December 31, 1994 34,000 366,000 $13.18
Authorized 100,000
Granted (114,000) 114,000 14.89
Cancelled 21,000 (21,000) 13.07
Balance, December 31, 1995 41,000 459,000 13.61
Authorized 250,000
Granted (162,500) 162,500 17.44
Exercised (3,925) 13.00
Cancelled 59,250 (59,250) 15.03
Balance, December 31, 1996 187,750 558,325 14.58
Granted (46,500) 46,500 16.02
Exercised - (32,500) 13.00
Cancelled 41,250 (41,250) 15.18
Balance, December 31, 1997 182,500 531,075 14.76
The following table summarizes outstanding and exercisable
options as of December 31, 1997.
Options Outstanding Options Exercisable
Weighted
Range of Average Weighted Weighted
Year of Exercise Number Remaining Average Number Average
of Grant Prices Outstanding Contractual Life Exercise Price Exercisable Exercise Price
1993 $13 209,825 6.00 $13.00 148,263 $13.00
1994 $13 - $15 57,500 6.45 14.11 28,750 14.11
1995 $13 - $16 100,250 7.48 14.88 50,125 14.88
1996 $14 - $20 122,000 8.36 17.44 30,500 17.44
1997 $13 - $17 41,500 9.85 16.31 - 16.31
531,075 257,638
The pro forma net income and basic earnings per share
determined consistent with SFAS No. 123 is as follows:
Pro forma (1) 1997 1996 1995
Net income $8,583 $5,974 $12,880
Basic earnings per share $1.28 $.90 $1.68
(1) During the initial phase-in period of SFAS No. 123, the
effects of applying the standard for either recognizing
compensation cost or providing pro forma disclosures are not
likely to be representative of the effects on reported net income
for future years, based on the fact that options vest over
several years and additional awards generally are made each year.
The weighted average fair value of options granted during
1997, 1996 and 1995 were $6.62, $7.64 and $6.29, respectively.
The Black-Scholes option-pricing model was used with the
following weighted average assumptions: volatility of 22.8%, and
risk-free interest rate of 5.99% in 1997; volatility of 24.3%,
and risk-free interest rate of 6.81% in 1996; volatility of
24.3%, and risk-free interest rate of 6.18% in 1995. For all
periods, a seven-year life is assumed.
13. Employee Benefits and Incentive Bonus Plans
The Company maintains a defined contribution retirement
401(k) & Profit Sharing Plan. Participation in the plan is
available to all employees upon their satisfaction of specified
eligibility requirements. Under the 401(k) component of the
plan, the Company matches, on a dollar-for-dollar basis, each
employee's contribution up to 3% of eligible compensation. Under
the profit sharing component of the plan, annual contributions
may be authorized by the Board of Directors based upon the
Company's performance for the relevant year. The Company's costs
are charged to income and amounted to $0.5 million in 1997, $0.5
million in 1996 and $0.4 million in 1995.
The Company maintains an annual incentive bonus plan for
officers and other key employees. Bonuses are based upon
predetermined objectives established by the Compensation
Committee. The Company's total incentive bonus plan expense for
the years ended December 31, 1997, 1996 and 1995 was $0.4
million, $0.6 million and $1.6 million, respectively.
14. Concentrations of Business
Gross premiums written in the State of California amounted
to approximately $59,696,000, $68,663,000 and $76,396,000 in
1997, 1996 and 1995, respectively. In the State of New York, the
Company's gross premiums written were $11,190,000, $11,975,000
and $20,141,000 for the years ended December 31, 1997, 1996 and
1995, respectively. Gross premiums written in any other state do
not exceed 10% of gross premiums written.
The Company's architects' and engineers' professional
liability insurance business is produced by Risk Administration
and Management Company ("RAMCO"), an unaffiliated managing
general agent. For the years ended December 31, 1997, 1996 and
1995, direct premiums written by RAMCO for the Company amounted
to approximately $17,704,000, $17,843,000 and $14,452,000,
respectively.
15. Quarterly Financial Information (unaudited)
Quarterly financial information (unaudited) for the year
ended December 31, 1997 is presented below:
Three months ended
March 31, June 30, Sept. 30, Dec. 31,
1997 1997 1997 1997
(Dollars and shares in thousands, except per share amounts)
Gross premiums written $ 35,651 $ 40,747 $ 37,290 $ 32,438
Net premiums written 24,423 27,209 28,223 20,479
Net premiums earned 23,101 25,917 27,783 27,445
Net investment income 4,170 4,315 4,344 4,232
Realized gains on investments 17 12 2,601 3,558
Other income 242 256 296 185
Total revenues 27,530 30,500 35,024 35,420
Income before income taxes 2,740 2,475 5,019 529
Net income 2,171 2,167 3,697 759
Basic earnings per share $ 0.33 $ 0.32 $ 0.55 $ 0.11
Weighted average shares outstanding 6,663 6,68 6,688 6,686
Quarterly financial information (unaudited) for the year
ended December 31, 1996 is presented below:
Three months ended
March 31, June 30, Sept. 30, Dec. 31,
1996 1996 1996 1996
(Dollars and shares in thousands, except per share amounts)
Gross premiums written $ 34,919 $ 39,017 $ 44,807 $ 38,194
Net premiums written 21,213 22,585 28,165 22,644
Net premiums earned 21,951 21,180 22,292 22,506
Net investment income 4,159 3,921 4,065 4,308
Realized gains (losses)
on investments 802 (190) 4 587
Other income 270 285 389 115
Total revenues 27,182 25,196 26,750 27,516
Income (loss) before income taxes 4,658 (294) 2,249 (397)
Net income 3,505 337 1,986 335
Basic earnings per share (1) $ 0.53 $ 0.05 $ 0.30 $ 0.05
Weighted average shares outstanding 6,648 6,656 6,660 6,661
(1) As a result of the Company's purchase of its Common Stock,
the average number of shares outstanding varies from quarter to
quarter, and the sum of the quarterly earnings per common share
may not equal the total for the year.
16. Subsequent Event
In February 1998, the Company agreed to acquire The First
Reinsurance Company of Hartford ("FRH") and certain affiliated
entities from Dearborn Risk Management, Inc. for a combination of
cash and preferred stock valued at $43.6 million, plus certain
other performance-driven contingent consideration.
The purchase consideration of $43.6 million consists of
$31.9 million of cash and $11.7 million fair value of a new issue
of Gryphon perpetual convertible preferred stock. The preferred
stock, which will have a face amount of $14.4 million, will be
convertible into 643,672 shares of the Company's common stock,
reflecting a conversion price of $22.44 per share. No cash
dividends will be paid or owed during the first four and one-half
years; a cash dividend at the rate of 4.0% of the face amount
will be paid thereafter. The preferred shares, which are non-
callable for three years, have no sinking fund or mandatory
redemption features. In connection with the transaction, Gryphon
intends to enter into a $55 million credit facility with a group
of financial institutions, the proceeds of which will be used to
pay the cash portion of the purchase price and to repay existing
bank borrowings.
The acquisition will be accounted for by the purchase
method of accounting under Opinion No. 16, "Business
Combinations," of the Accounting Principles Board of the American
Institute of Certified Public Accountants. Under this accounting
method, any excess of purchase price over the fair market value
of identifiable assets acquired less liabilities assumed will be
recorded as goodwill.
The transaction, which is subject only to regulatory
approvals and other customary conditions, is expected to close
during the second quarter of 1998.
At December 31, 1997
SCHEDULE I -- SUMMARY OF INVESTMENTS --
OTHER THAN INVESTMENTS IN RELATED PARTIES
COLUMN COLUMN COLUMN COLUMN
A B C D
Amount at
which
shown in the
Type of Investment Cost Value balance sheet
(Dollars in thousands)
Fixed maturities:
Bonds:
United States Government and
government agencies and authorities $ 78,623 $ 79,268 $ 79,268
States, municipalities and
political subdivisions 108,194 5,981 5,981
Foreign governments 5,857 112,516 112,516
Mortgage-backed securities 47,488 47,942 47,942
Corporate bonds 34,344 34,846 34,846
Total fixed maturities 274,506 280,553 280,553
Short-term investments 257 257 257
Total investments $274,763 $280,810 $280,810
SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT
Balance Sheets
December 31,
1997 1996
(Dollars in thousands)
Assets
Cash and cash equivalents $ 517 $ 289
Investment in subsidiaries 123,235 118,336
Income tax recoverable 1,574 439
Deferred income taxes 1,084 1,084
Other assets (99) 268
Total assets $ 126,311 $120,416
Liabilities and stockholders' equity
Liabilities:
Other liabilities $ 677 $ 655
Long-term debt 21,125 24,625
Total liabilities 21,802 25,280
Stockholders' equity:
Preferred stock, $.01 par value; 1,000,000 shares
authorized; none issued or outstanding
Common stock, $.01 par value; 15,000,000 shares
authorized; 8,148,050 shares issued 81 81
Additional paid in capital 30,742 30,847
Foreign currency translation adjustment, net of tax (346) (219)
Net unrealized gains, net of tax 3,931 3,672
Deferred compensation (151) (257)
Retained earnings 95,065 86,271
Treasury stock, at cost; shares
1997: 1,487,075: 1996: 1,500,000 (24,813) (25,259)
Total stockholders' equity 104,509 95,136
Total liabilities and stockholders' equity $ 126,311 $120,416
Statements of Income
Year ended December 31,
1997 1996 1995
(Dollars in thousands)
Revenue
Net investment income $ 28 $ 24 $ 28
Total revenues 28 24 28
Expenses
Operating expenses 2,521 1,921 3,282
Interest expense 1,607 1,761 595
Total expenses 4,128 3,682 3,877
Loss before income taxes and equity in
undistributed income of subsidiaries (4,100) (3,658) (3,849)
Income tax benefit 1,417 1,268 1,323
Loss before equity in undistributed
income of subsidiaries (2,683) (2,390) (2,526)
Equity in undistributed income
of subsidiaries 11,477 8,553 15,451
Net income $ 8,794 $ 6,163 $12,925
SCHEDULE II--CONDENSED FINANCIAL INFORMATION OF REGISTRANT
Statements of Cash Flows
Year ended December 31,
1997 1996 1995
(Dollars in thousands)
Operating activities
Loss before equity in undistributed
income of subsidiaries $ (2,683) $ (2,390) $ (2,526)
Adjustments to reconcile net income to net cash
provided by operating activities:
Increase in income tax recoverable (487)
Deferred income tax provision (995) 261
Amortization and depreciation 79 68 85
Decrease (increase) in other
assets and liabilities (684) (798) 825
Net cash used by operating activities (3,288) (4,115) (1,842)
Investing activities
Capital expenditures (11) (2) (5)
Net cash used by investing activities (11) (2) (5)
Financing activities
Dividends received 6,650 4,726 2,000
Proceeds from long-term debt 25,500
Common stock acquired for treasury (25,478)
Issuance of common stock 340 217
Deferred compensation 37 (131)
Principal payment on long term debt (3,500) (875)
Net cash provided by financing activities 3,527 3,937 2,022
Increase (decrease) in cash
and cash equivalents 228 (180) 175
Cash and cash equivalents at
beginning of year 289 469 294
Cash and cash equivalents at end of year $ 517 $ 289 $ 469
Year ended December 31,
SCHEDULE III--SUPPLEMENTAL INSURANCE INFORMATION
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G COLUMN H COLUMN I COLUMN J
Future Policy
Benefits Other Policy Benefits Underwriting,
Deferred Policy Losses, Claims Claims and Claims Losses Acquisition,
Acquisition and Loss Unearned Benefits Premium Net Investment & Settlement and Insurance Premiums
Year&Segment Costs Expenses Premiums Payable Revenue Income Expenses Expense Written
(Dollars in thousands)
1997
Property/
Casualty $ 11,849 $ 328,911 $ 62,351 $ 0 $104,246 $ 17,061 $ 71,015 $ 45,089 $100,334
Total $ 11,849 $ 328,911 $ 62,351 $ 0 $104,246 $ 17,061 $ 71,015 $ 45,089 $100,334
1996
Property/
Casualty $ 12,415 $ 309,259 $ 68,683 $ 0 $ 87,929 $ 16,453 $ 57,700 $ 40,967 $ 94,607
Total $ 12,415 $ 309,259 $ 68,683 $ 0 $ 87,929 $ 16,453 $ 57,700 $ 40,967 $ 94,607
1995
Property/
Casualty $ 12,182 $ 308,886 $ 63,472 $ 0 $ 83,399 $ 15,839 $ 50,816 $ 34,590 $ 90,175
Total $ 12,182 $ 308,886 $ 63,472 $ 0 $ 83,399 $ 15,839 $ 50,816 $ 34,590 $ 90,175
Year ended December 31,
SCHEDULE IV--REINSURANCE
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F
Percentage of
Assumed from Amount
Ceded to Other Other Assumed to
Direct Amount Companies Companies Net Amount Net
(Dollars in thousands)
1997
Premiums:
Property/ Casualty
Insurance $ 142,811 $ 45,792 $ 3,315 $ 100,334 3.3%
Total Premiums$ 142,811 $ 45,792 $ 3,315 $ 100,334 3.3%
1996
Premiums:
Property/Casualty
Insurance $ 154,547 $ 62,330 $ 2,390 $ 94,607 2.5%
Total Premiums$ 154,547 $ 62,330 $ 2,390 $ 94,607 2.5%
1995
Premiums:
Property/Casualty
Insurance $ 154,904 $ 66,805 $ 2,076 $ 90,175 2.3%
Total Premiums$ 154,904 $ 66,805 $ 2,076 $ 90,175 2.3%
Year ended December 31,
SCHEDULE VI--SUPPLEMENTAL INFORMATION CONCERNING PROPERTY/CASUALTY
INSURANCE OPERATIONS
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G COLUMN H COLUMN I COLUMN J COLUMN K
Claims & Claim
Adjustment Expenses
Incurred Related to
(1) (2)
Reserves for Amortization
Affiliation Policy Claim any, Net Policy and Claim
with Acquisition Adjustment Deducted in Unearned Earned Investment Current Prior Acquisition Adjustment Premiums
Company Costs Expenses Column C Premiums Premiums Income Year Years Costs Expenses Written
(Dollars in Thousands)
1997
Consolidated
Property/Casualty
Entities $11,849 $328,911 $ - $62,351 $104,246 $17,061 $64,222 $ 6,793 $34,006 $54,221 $100,334
1996
Consolidated
Property/Casualty
Entities $12,415 $309,259 $ - $68,683 $87,929 $16,453 $53,402 $ 4,298 $30,062 $42,304 $ 94,607
1995
Consolidated
Property/Casualty
Entities $12,182 $308,886 $ - $63,472 $83,399 $15,839 $50,424 $ 392 $26,706 $40,707 $ 90,175