1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended June 30, 1998 Commission file number 0-5537
Gryphon Holdings Inc.
(Exact name of registrant as specified in its charter)
Delaware 13-3287060
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
30 Wall Street, New York, New York 10005-2201
(Address of principal executive offices) (zip code)
Registrant's telephone number,including area code: (212) 825-1200
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15 (d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes x No
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at June 30, 1998
Common stock, par value $.01 6,740,229
Gryphon Holdings Inc.
TABLE OF CONTENTS
Part I. FINANCIAL INFORMATION Page
Item 1. Financial Statements
Consolidated Balance Sheets at
June 30, 1998 and December 31, 1997 3
Consolidated Statements of Income for
the three and six months
ended June 30, 1998 and 1997 4
Consolidated Statements of Cash Flows for
the six months ended June 30, 1998 and 1997 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 12
Part II. OTHER INFORMATION
Item 4. Submission of Matters to a vote of
Security Holders 18
Item 5. Other Information 19
Item 6. Exhibits and Reports on Form 8-K 19
Signatures 20
EXHIBIT 27 Financial Data Schedule 21
PART I-FINANCIAL INFORMATION
Gryphon Holdings Inc. and Subsidiaries
Consolidated Balance Sheets
June 30, December 31,
1998 1997
(Dollars in thousands)
Investments:
Fixed maturities, available for sale,
at fair value (amortized cost:
6/30/98-$294,052; 12/31/97-$274,506) $300,082 $280,553
Equity securities, available for sale,
at fair value (cost: 6/30/98 - $660) 667
Short-term investments, at cost,
which approximates market 233 257
Total investments 300,982 280,810
Cash and cash equivalents 18,990 32,272
Accrued investment income 4,239 4,071
Premiums receivable 25,526 16,151
Reinsurance recoverable on paid losses 18,480 18,261
Reinsurance recoverable on unpaid losses 164,086 140,810
Prepaid reinsurance premiums 21,615 16,573
Deferred policy acquisition costs 11,700 11,849
Deferred income taxes 13,737 10,569
Income taxes receivable 1,445
Other assets 8,731 7,619
Total assets $589,531 $538,985
Liabilities and Stockholders' Equity
Policy liabilities:
Unpaid losses and loss adjustment
expenses $364,582 $328,911
Unearned premiums 69,942 62,351
Total policy liabilities 434,524 391,262
Reinsurance balances payable 27,157 12,179
Income taxes payable 389
Long-term debt 19,375 21,125
Other liabilities 9,998 9,521
Total liabilities 491,054 434,476
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 30,581 30,742
Accumulated other comprehensive
income, net of tax 3,503 3,585
Deferred compensation (259) (151)
Retained earnings 88,486 95,065
Treasury stock, at cost;
shares 1998: 1,407,821;
1997: 1,461,169 (23,915) (24,813)
Total stockholders' equity 98,477 104,509
Total liabilities and stockholders' equity $589,531 $538,985
See accompanying notes to consolidated financial statements.
The interim financial statements are unaudited.
Gryphon Holdings Inc. and Subsidiaries
Consolidated Statements of Income
Three months ended Six months ended
June 30, June 30,
1998 1997 1998 1997
(Dollars and shares in thousand,
except per-share data)
Revenues
Gross premiums written $44,497 $40,747 $78,508 $76,398
Net premiums written 26,609 27,209 46,966 51,632
Net premiums earned 21,916 25,917 44,431 49,018
Net investment income 4,200 4,315 8,402 8,485
Realized gains on investments 286 12 1,297 29
Other income 256 498
Total revenues 26,402 30,500 54,130 58,030
Expenses
Losses and loss adjustment expenses 27,769 16,460 42,721 29,967
Underwriting, acquisition,
and insurance expenses 11,546 11,156 22,176 22,018
Interest expense 323 409 690 830
Total expenses 39,638 28,025 65,587 52,815
Income (loss) before income taxes (13,236) 2,475 (11,457) 5,215
Provision for income taxes (benefit):
Current (2,596) 880 (1,712) 1,198
Deferred (2,506) (572) (3,166) (321)
Total income taxes (5,102) 308 (4,878) 877
Net income (loss) $(8,134) $2,167 $(6,579) $4,338
Other comprehensive income,
net of tax:
Unrealized investment gains
(losses), net of
reclassification adjustments 855 3,102 (7) (586)
Foreign currency translation
adjustments (84) 9 (75) (12)
Comprehensive income (loss) $(7,363) $5,278 $(6,661) $3,740
Basic net earnings (loss) per share $(1.21) $0.32 $(0.98) $0.65
Basic comprehensive income
(loss) per share $(1.09) $0.79 $(0.99) $0.56
Weighted average shares outstanding 6,740 6,688 6,718 6,676
See accompanying notes to consolidated financial statements.
These statements are unaudited.
Gryphon Holdings Inc. and Subsidiaries
Consolidated Statements of Cash Flows
Six months ended June 30,
1998 1997
(Dollars in thousands)
Operating activities
Net income $ (6,579) $ 4,338
Adjustments to reconcile net income
to net cash provided by operating
activities:
Increase in net policy liabilities 14,725 8,799
Increase in premiums receivable (9,375) (2,311)
Decrease (increase) in deferred
policy acquisition costs 149 (1,118)
Deferred income tax provision (3,166) (321)
Increase in other assets and liabilities (2,468) (4,999)
Amortization and depreciation 453 372
Amortization of bond discount, net 510 273
Realized gains on investments (1,297) (29)
Increase (decrease) in reinsurance
balances payable 14,978 (10,053)
Decrease (increase) in accrued
investment income (168) 21
Net cash provided by (used in)
operating activities 7,762 (5,028)
Investing activities
Sales of fixed maturities 159,842 167,960
Purchases of fixed maturities (178,577) (165,090)
Purchases of equity securities (660)
Capital expenditures (414) (576)
Net cash (used in) provided by
investing activities (19,809) 2,294
Financing activities
Principal payment on long-term debt (1,750) (1,750)
Issuance of common stock 738 371
Deferred compensation (148) (29)
Net cash used in financing activities (1,160) (1,408)
Effect of exchange rate changes on cash (75) (12)
Decrease in cash and cash equivalents (13,282) (4,154)
Cash and cash equivalents at
beginning of period 32,272 23,398
Cash and cash equivalents at end of period $ 18,990 $ 19,244
Supplemental disclosure of cash flow information
Income taxes paid $75 $260
Interest paid 690 830
See accompanying notes to consolidated financial statements.
These statements are unaudited.
Gryphon Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
1. Basis of Presentation
Gryphon Holdings Inc. (the "Company") 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"). The accompanying consolidated
financial statements include, for all periods presented, the
accounts and operations of Gryphon Holdings Inc. and its
subsidiaries.
2. Principles of Consolidation
The accompanying consolidated financial statements have been
prepared on the basis of generally accepted accounting
principles, which as to the two wholly owned insurance company
subsidiaries differ from the statutory accounting practices
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.
3. 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 the sales or liquidation
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.
The major categories of net investment income are summarized
as follows:
For the three months For the six months
ended June 30, ended June 30,
1998 1997 1998 1997
(Dollars in thousands)
Fixed maturities $4,145 $3,907 $8,275 $8,061
Cash, cash equivalents and
short term-investments 310 650 636 912
Total investment income 4,455 4,557 8,911 8,973
Less related expenses 255 242 509 488
Net investment income $4,200 $4,315 $8,402 $8,485
The gross realized gains and losses from sales of fixed maturity
securities are as follows:
For the three months For the six months
ended June 30, ended June 30,
1998 1997 1998 1997
(Dollars in thousands)
Gross realized gains $416 $696 $1,630 $1,168
Grossed realized losses (130) (684) (333) (1,139)
Net realized gain on sales $286 12 $1,297 $29
At June 30, 1998 and December 31, 1997, the amortized cost and
estimated fair values of investments in fixed maturities and equity
securities, 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)
June 30, 1998
Fixed maturities
U.S. Treasury securities
and obligations of
U.S. government
corporations and agencies $58,010 $898 $(13) $58,895
Debt securities issued
by foreign governments 4,738 135 4,873
Tax-exempt obligations
of states and
political subdivisions 138,165 3,728 (33) 141,860
Mortgage-backed securities 45,582 656 (19) 46,219
Corporate securities 47,557 736 (58) 48,235
Total fixed maturities 294,052 6,153 (123) 300,082
Equity securities
Preferred stock 660 7 667
Short-term investments 233 233
$294,945 $6,160 $(123) 300,982
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
4. 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 June 30, 1998, the weighted
average interest rate was 6.95%, and the fair value of the loan
approximated the carrying value.
Principal payments due on the term loan are as follows:
Principal Amount
Year ending December 31, (Dollars in thousands)
1998 $1,875
1999 4,125
2000 4,625
2001 5,000
2002 3,750
Total $19,375
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 June 30, 1998, the fair value of the interest rate
swap approximated the carrying value.
5. 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.
6. Comprehensive Income
As of January 1, 1998, the Company adopted SFAS No. 130,
"Reporting Comprehensive Income." This statement establishes
standards for the reporting and presentation of comprehensive
income and its components in a full set of financial statements.
Comprehensive income encompasses all changes in shareholders'
equity (except those arising from transactions with shareholders)
and includes net income, net unrealized capital gains or losses
on available-for-sale securities and foreign currency translation
adjustments, net of taxes. This new standard changes only the
presentation of certain information in the financial statements
and does not affect the Company's financial position or results
of operations.
The summary of the Accumulated other comprehensive income,
net of tax, as reported in the Consolidated Balance Sheets are as
follows:
For the six months
ended June 30,
1998 1997
(Dollars in thousands)
Unrealized investment gains,
net of tax $3,924 $3,086
Foreign currency translation
adjustments, net of tax (421) (231)
Accumulated other comprehensive
income, net of tax $3,503 $2,855
The following table provides a summary of the components of
net unrealized investment gains (losses), as reported in the
Consolidated Statements of Income:
For the three months For the six months
ended June 30, ended June 30,
1998 1997 1998 1997
(Dollars in thousands)
Unrealized investment gains
(losses) arising during the
period (net taxes of $560 and
$451 in 1998, respectively and
$1,672 and $(310) in 1997,
respectively) $1,041 $3,106 $836 $(576)
Less: reclassification
adjustments for realized
gains included in net income
(net of taxes of $100 and
$454 in 1998, respectively
and $4 and $10 in 1997,
respectively) 186 4 843 10
Net unrealized investment gains
(losses) on securities $855 $3,102 $(7) $(586)
7.
New Accounting Standards
In June 1997, the FASB issued SFAS No. 131, "Disclosure
about Segments of an Enterprise and Related Information".
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. An annual presentation is required
for the year ending December 31, 1998 and 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 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.
In June 1998, the Financial Accounting Standards Board issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities", which requires companies to record all derivatives
on the balance sheet as either assets or liabilities and measure
those instruments at fair value. The manner in which companies
are to record gains or losses resulting from changes in the
values of those derivatives depends on the use of the derivative
and whether it qualifies for hedge accounting. This standard is
effective January 1, 2000, with early adoption permitted. The
Company is currently evaluating the impact of the adoption of
this statement and the potential effect on its financial position
and results of operations.
8. Subsequent Event
In July 1998, the Company acquired The First Reinsurance
Company of Hartford and Oakley Underwriting Agency 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 consisted 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 has a face amount of $14.4 million, is 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 a 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 entered
into a $55.0 million credit facility with a group of financial
institutions, the proceeds of which were used to pay the cash
portion of the purchase price and to repay existing bank
borrowings.
The Company has entered into interest rate swap agreements
with commercial lending institutions in order to reduce the
impact of interest rate fluctuations on the Company's borrowings.
The interest rate swaps were effected with respect to the first
$44.4 million of scheduled principal amortizations of the $55.0
million borrowing. The impact of the swaps was to create an
effective fixed rate of 7.62% on the $44.4 million principal
amount.
In the third quarter of 1998, 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.
9. Unaudited Consolidated Financial Statements
In the opinion of management, the accompanying unaudited
consolidated financial statements contain all adjustments
necessary to present fairly the results of operations and
financial position of the Company for the periods ended June 30,
1998 and 1997. The unaudited consolidated financial statements
should be read in conjunction with the consolidated financial
statements and related notes to financial statements as contained
in the Company's 1997 Annual Report on Form 10-K. The results of
operations for the period presented are not necessarily
indicative of the results to be expected for the entire year.
ITEM 2. 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
Second Quarter of 1998 Compared with the Second Quarter of 1997
Gross Premiums Written. Gross premiums written were $44.5
million for the second quarter of 1998, compared with $40.7
million for the second quarter of 1997. In 1998, the Company's
gross premiums written experienced increases in the following
lines of business: a $3.4 million increase in Difference in
Conditions ("DIC") premiums as a result of the replacement of a
companion carrier by a quota share reinsurer in 1998; a $3.0
million increase in Architects' & Engineers' Liability, primarily
due to expanded marketing and the issuance of new multi-year
policies; and a $1.0 increase in Commercial Automobile. Such
increases were offset by a $2.5 million decrease in Casualty
premiums primarily due to the discontinuance of a residential
real estate developers book of business in 1998 and a $0.7
million decrease in Other Property, primarily in the Company's
national account business; and a $0.3 million decrease in
Specialty Lines.
Net Premiums. Net premiums written decreased to $26.6
million for the second quarter of 1998 from $27.2 million for the
second quarter of 1997. Net premiums written were affected in
1998 by most of the factors described above. In addition,
Commercial Automobile and DIC net premiums written decreased due
to increased ceded premiums from quota share reinsurance
agreements entered into in 1998. The Commercial Automobile quota
share treaty reduced the net retention to $250,000 per risk from
$500,000 per risk, and in DIC a companion carrier was replaced by
a quota share reinsurer.
Net premiums earned decreased by 15% to $21.9 million for the
second quarter of 1998 from $25.9 million in the second quarter
of 1997.
Net Investment Income. Net investment income was $4.2
million for the second quarter of 1998, compared with $4.3
million for the second quarter of 1997. In 1998, net investment
income was affected by additional funds available for investment,
but also by lower average interest rates compared with the second
quarter of 1997.
Net Realized Gains on Investments. During the second quarter
of 1998, the Company realized a net gain of $0.3 million,
compared with a net gain of twelve thousand dollars for the
second quarter of 1997. Portfolio sales were effected in each
period to optimize the mix of taxable and tax-exempt investments.
Other Income. For the second quarter of 1997, the Company
recorded $0.3 million of underwriting management fees for DIC
business underwritten on behalf of a companion carrier. In 1998,
the companion carrier was replaced by a quota share reinsurer.
Losses and Loss Adjustment Expenses. Losses and loss
adjustment expenses ("LAE") were $27.8 million for the second
quarter of 1998, compared with $16.5 million for the second
quarter of 1997. In the second quarter of 1998, the Company
completed a comprehensive review of its reserves, resulting in an
addition of $10.6 million to reserves relating to previous
accident years. The reserve strengthening related to various
lines of business, including pre-1985 casualty coverages with
environmental impairment and asbestos-related exposures, nursing
home liability, commercial automobile, artisan contractors, and
liquor liability in two states, almost all of which had been
previously discontinued, and to health clubs and stable
liability. Also, in 1998, losses and LAE increased due to
increased exposures from a change in the Company's mix of
business and increased estimated loss ratios for certain Casualty
lines.
Underwriting, Acquisition, and Insurance Expenses.
Underwriting, acquisition, and insurance expenses were $11.5
million for the second quarter of 1998, compared with $11.2
million for the second quarter of 1997. In the second quarter of
1998, the Company recorded a restructuring charge of $0.8 million
relating to the elimination of sixteen positions, as well as the
related write-off of future office lease obligations on certain
space that is no longer necessary. The restructuring charge was
partially offset by lower acquisition costs in 1998.
Interest Expense. Interest expense was $0.3 million for the
second quarter of 1998, compared with $0.4 million for the second
quarter of 1997. 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. The outstanding
balance as of June 30, 1998 was $19.4 million.
Income Taxes (benefit). A $5.0 million income tax benefit
was recorded for the second quarter of 1998, compared with income
taxes of $0.3 million for the second quarter of 1997. In 1998,
the income tax benefit resulted from an operating loss due to
reserve strengthening and a restructuring charge.
Net Income (loss). The Company recorded a net loss of $8.1
million for the second quarter of 1998, compared with $2.2
million net income for the second quarter of 1997.
Weighted Average Shares Outstanding. Average shares
outstanding were 6.7 million in 1998 and 6.7 million 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.
Six Months Ended June 30, 1998 Compared with the Six Months Ended
June 30, 1997
Gross Premiums Written. Gross premiums written were $78.5
million for the six months ended June 30, 1998, compared with
$76.4 for the six months ended June 30, 1997. In 1998, the
Company's gross premiums written experienced increases in the
following lines of business: a $4.0 million increase in DIC
premiums as a result of the replacement of a companion carrier by
a quota share reinsurer in 1998; a $3.3 million increase in
Architects' & Engineers' Liability, primarily due to expanded
marketing and the issuance of new multi-year policies; and a $1.3
million increase in Commercial Automobile. Such increases were
offset by a $3.9 million decrease in Casualty premiums primarily
due to the discontinuance of a residential real estate developers
book of business in 1998; a $1.7 million decrease in Other
Property, primarily in the Company's national account business;
and a $1.0 million decrease in Specialty Lines.
Net Premiums. Net premiums written decreased to $47.0
million for the six months ended June 30, 1998 from $51.6 million
for the six months ended June 30, 1997. Net premiums written
were affected in 1998 by most of the factors described above. In
addition, Commercial Automobile and DIC net premiums written
decreased due to increased ceded premiums from quota share
reinsurance agreements entered into in 1998. The Commercial
Automobile quota share treaty reduced the net retention to
$250,000 per risk from $500,000 per risk, and in DIC a companion
carrier was replaced by a quota share reinsurer.
Net premiums earned decreased by 9% to $44.4 million for the
six months ended June 30, 1998 from $49.0 million for the six
months ended June 30, 1997.
Net Investment Income. Net investment income was $8.4
million for the six months ended June 30, 1998, compared with
$8.5 million for the six months ended June 30, 1997. In 1998,
net investment income was affected by additional funds available
for investment, but also by lower average interest rates compared
with the six months ended June 30, 1997.
Net Realized Gains on Investments. During the six months
ended June 30, 1998, the Company realized a net gain of $1.3
million, compared with a net gain of twenty nine thousand dollars
in 1997. Portfolio sales were effected in each period to
optimize the mix of taxable and tax-exempt investments.
Other Income. For the six months ended June 30, 1997, the
Company recorded $0.5 million of underwriting management fees for
DIC business underwritten on behalf of a companion carrier. In
1998, the companion carrier was replaced by a quota share
reinsurer.
Losses and Loss Adjustment Expenses. Losses and loss
adjustment expenses were $42.7 million for the six months ended
June 30, 1998, compared with $30.0 million for the six months
ended June 30, 1997. In the second quarter of 1998, the Company
completed a comprehensive review of its reserves, resulting in an
addition of $10.6 million to reserves relating to previous
accident years. The reserve strengthening related to various
lines of business, including pre-1985 casualty coverages with
environmental impairment and asbestos-related exposures, nursing
home liability, commercial automobile, artisan contractors, and
liquor liability in two states, almost all of which had been
previously discontinued, and to health clubs and stable
liability. Also, in 1998, losses and LAE increased due to
increased exposures from a change in the Company's mix of
business and increased estimated loss ratios for certain Casualty
lines.
Underwriting, Acquisition, and Insurance Expenses.
Underwriting, acquisition, and insurance expenses were $22.2
million for the six months ended June 30, 1998, compared with
$22.0 million for the six months ended June 30, 1997. In the
second quarter of 1998, the Company recorded a restructuring
charge of $0.8 million relating to the elimination of sixteen
positions, as well as the related write-off of future office
lease obligations on certain space that is no longer necessary.
The restructuring charge was partially offset by lower
acquisition costs in 1998.
Interest Expense. Interest expense was $0.7 million for the
six months ended June 30, 1998, compared with $0.8 million for
the six months ended June 30, 1997. 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.
The outstanding balance as of June 30, 1998 was $19.4 million.
Income Taxes (benefit). A $4.9 million income tax benefit
was recorded for the six months ended June 30, 1998, compared
with income taxes of $0.9 million for the six months ended June
30, 1997. In 1998, the income tax benefit resulted from an
operating loss due to reserve strengthening and a restructuring
charge.
Net Income (loss). The Company recorded a net loss of $6.6
million for the six months ended June 30, 1998, compared with
$4.3 million net income for the six months ended June 30, 1997.
Weighted Average Shares Outstanding. Average shares
outstanding were 6.7 million in 1998 and 6.7 million 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.
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 $7.8 million for the first six months of 1998.
At June 30, 1998, the Company maintained cash and cash
equivalents of $19.0 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
June 30, 1998 were held by its subsidiaries.
Reinsurance recoverables on unpaid losses were $164.1 million
at June 30, 1998 and $140.8 million at December 31, 1997. Due to
the high limits on the Company's issued policies relative to net
retentions, reinsurance recoverable on unpaid losses can
fluctuate significantly depending upon the emergence and severity
of reported and unreported losses.
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. 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.
The National Association of Insurance Commissioners 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.
In July 1998, the Company acquired The First Reinsurance
Company of Hartford and Oakley Underwriting Agency 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 consisted 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 has a face amount of $14.4 million, is 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 a 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 entered
into a $55 million credit facility with a group of financial
institutions, the proceeds of which were used to pay the cash
portion of the purchase price and to repay existing bank
borrowings.
The Company has entered into interest rate swap agreements
with commercial lending institutions in order to reduce the
impact of interest rate fluctuations on the Company's borrowings.
The interest rate swaps were effected with respect to the first
$44.4 million of scheduled principal amortizations of the $55.0
million borrowing. The impact of the swaps was to create an
effective fixed rate of 7.62% on the $44.4 million principal
amount.
In the third quarter of 1998, 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 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 organic growth.
Year 2000 Issue
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 correct 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 "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 problem could have
a material impact on the Company's ability to meet financial and
reporting requirements and to support its insurance operations.
The Company has initiated 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. 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.
Effects of Inflation
There was no significant impact on the Company's operations
as a result of inflation during the second quarter of 1998.
However, there can be no assurance that inflation will not have a
material impact on the Company's operations in the future.
PART II - OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
a) The Annual Meeting of Shareholders of Gryphon Holdings Inc.
was held on Tuesday, May 12, 1998.
b) Class II Directors elected at the Annual Meeting of
Shareholders:
Votes Votes
For Withheld
David H. Elliott 5,157,014 13,201
Richard W. Hanselman 5,157,014 13,201
George L. Yeager 5,157,014 13,201
c) Other Directors of the Registrant whose terms of office
continued after the Annual Meeting: Robert M. Baylis, Stephen A.
Crane, Franklin L. Damon, Robert R. Douglass, Hadley C. Ford,
and Joe M. Rodgers.
Item 5. OTHER INFORMATION
The Company's Bylaws provide that no business may be brought
before an Annual Meeting of Shareholders, except as specified in
the notice of the meeting or as otherwise properly brought before
the meeting by, or at the direction of, the Board of Directors,
or by a shareholder entitled to vote, who has delivered written
notice to the Secretary of the Company at the Company's principal
office (containing certain information specified in the Bylaws)
not more than 60 days nor less than 45 days prior to the Annual
Meeting of Shareholders; provided, however, in the event that
less than 45 days notice or prior public disclosure of the date
of such meeting is given or made to shareholders, notice by a
shareholder to be timely must be received not later than the
close of business on the 10th day following the day on which such
notice was mailed or public disclosure was made; provided
further, notice by the shareholder to be timely must be received
in all events not later than the close of business on the 7th day
preceding the day on which the meeting is to be held.
The Bylaws also provides that nominations for Director may be
made only by the Board of Directors, or by a shareholder entitled
to vote, who has delivered written notice to the Secretary of the
Company (containing certain information specified in the Bylaws)
in the same manner and subject to the same time requirements
outlined in the preceding paragraph.
For the Company's Annual Meeting of the Shareholders expected
to be held on Tuesday, May 11, 1999, shareholders must submit any
such written notice to the Secretary of the Company, during the
period from March 12, 1999 through March 27, 1999, provided that
notice or prior public disclosure of the date of the Annual
Meeting is given or made to shareholders by March 27, 1999. If
such notice or public disclosure of the date of the Annual
Meeting is not given or made by March 27, 1999, a shareholder's
notice regarding the foregoing matters must be received by the
10th day following the day the notice of the Annual Meeting is
mailed or public disclosure is made; provided that, any notice
from a shareholder regarding any of the foregoing matters must be
received in all events by the close of business on May 4, 1999.
The foregoing requirement is separate and apart from the
Securities and Exchange Commission's requirements that a
shareholder must meet in order to have a shareholder's proposal
included in the Company's proxy statement under Rule 14a-8.
These requirements were outlined in the Company's proxy materials
for its 1998 Annual Meeting of Shareholders.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
Exhibit No. Description Page No.
27 Financial Data Schedule 21
b) No reports on Form 8-K were filed during the second quarter of
1998.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Gryphon Holdings Inc.
(Registrant)
Date: August 12, 1998 Stephen A. Crane
Stephen A. Crane
President & Chief Executive Officer
Date: August 12, 1998 Robert P. Cuthbert
Robert P. Cuthbert
Senior Vice President &
Chief Financial Officer
(Principal Financial and
Accounting Officer)