1
EXHIBIT 13(ii)
MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
December 31, 1993
SUMMARY OF RESULTS OF OPERATIONS
Income after taxes and before accounting changes for 1993 was $13.1 million or
$.63 per share compared to 1992 earnings of $56.3 million or $2.71 per share
and 1991 earnings of $73.9 million or $3.53 per share. Results for 1993 were
significantly impacted by a $20 million restructuring charge, increased claims
and adjustment expenses, increased costs of reinsurance and a reduced level of
realized gains.
Total revenues were substantially unchanged at $636.1 million in 1993
compared to $636.7 million in 1992, which was 6.2 percent higher than revenues
of $599.5 million in 1991. In 1993, increased insurance premiums were offset by
lower investment income and lower realized gains. Net engineering services
revenue was substantially unchanged in 1993 from 1992. In 1992, insurance and
net engineering services revenues increased 7.6 percent and 9.8 percent
respectively from 1991, and income from investment operations decreased from
1991.
[TOTAL REVENUES CHART -- SEE EDGAR APPENDIX]
Insurance operations sustained an operating loss of $26.4 million in 1993
compared to operating gains of $1.8 million and $22.9 million in 1992 and 1991,
respectively. Engineering services operating gain decreased 19.7 percent to
$11.8 million in 1993 from $14.7 million in 1992, and the net margin decreased
in 1993 to 5.1 percent from 6.4 percent in 1992. Income from investment
operations decreased 11.8 percent to $55.4 million from $62.8 million in 1992.
Income from investment operations in 1992 was 10.7 percent lower than 1991
income from investment operations of $70.4 million. The decline in income from
investment operations in 1993 resulted from lower interest rates, lower
realized gains and a decrease in the average invested assets in 1993 compared
to prior years.
In the third quarter of 1993, the Company recorded a $20 million charge
to operations for the cost of restructuring its insurance and engineering
services businesses. Restructuring costs include severance and other costs
related to approximately 300 planned staff reductions and charges related to a
realignment of the Company's operations. In 1993, the Company changed its
method of presenting its participation in Engineering Insurance Group ("EIG"),
an insurance association, from the proportional consolidation method to the
equity method of accounting. This change had no impact on the Company's
reported net income, and all prior year amounts have been reclassified
accordingly.
Dividends paid in 1993 were $2.12, an increase of 4.4 percent from the
$2.03 paid in 1992 which increased 9.7 percent from the $1.85 paid in 1991.
15
2
Insurance Operations
The operating loss sustained by insurance operations was the result of an
increase in claims and adjustment expenses in 1993. Underwriting and
inspection expenses increased 8.2 percent to $112.3 million from $103.8 million
in 1992, which increased 7.8 percent from 1991. The Company's claims and
adjustment expenses in 1993 include weather related losses from the 1993 winter
storms and midwest floods of $5.3 million and $6.8 million, respectively. The
1992 claims and adjustment expenses included $15.0 million related to hurricane
Andrew, net of reinsurance of $23.8 million. Insurance operations in 1993 were
also impacted by higher reinsurance costs. Recent experience within the
Company's excess of loss reinsurance treaty, including losses related to
hurricane Andrew and other large losses, resulted in increased reinsurance
costs in the second half of 1993. Underwriting and inspection expenses in 1993
include increases in employee related, travel and certain system development
costs. Restructuring activities including staff reductions are expected to have
a positive impact on underwriting and inspection expenses in 1994. Policy
acquisition expenses of $64.2 million were substantially unchanged in 1993, but
were lower as a percentage of insurance premiums.
[INSURANCE REVENUES CHART -- SEE EDGAR APPENDIX]
Insurance premiums increased $6.3 million to $349.2 million in 1993 from
$342.9 million in 1992. The 1.8 percent increase in insurance premiums was made
up of increases in net coverages and prices and net new business offset by
higher reinsurance costs. The increase in new business in 1993 was primarily
attributable to growth in reinsurance assumed. The net increases in coverages
and prices in 1993 were primarily due to the impact of a program the Company
began early in 1993 to increase prices for its major customers in response to
loss experience. Price competition continues to depress results in the
property/casualty industry, and the Company is prepared to experience flat or
lower revenues to accomplish improved profitability in 1994. In addition, the
weak U.S. economy has encouraged customers to select insurance programs with
modest price adjustments but higher deductibles, contributing to slower premium
growth. This, combined with the Company's re-underwriting efforts should have a
positive future impact on both the frequency and severity of losses.
Claims and adjustment expenses increased $26.7 million or 15.5 percent in
1993 after increasing $33.3 million or 23.9 percent in 1992. The components of
claims and adjustment expenses net of reinsurance were as follows:
1993 1992 1991
Provision for claims and adjustment expenses
occurring in the current year . . . . . . . . . . . . $ 172.2 $ 146.3 $ 119.4
Change in estimated claims and
adjustment expenses established
in prior years . . . . . . . . . . . . . . . . . . . . 26.9 26.1 19.7
-------- ------- --------
Claims and adjustment expenses . . . . . . . . . . . . . $ 199.1 $ 172.4 $ 139.1
======== ======= =========
The 1993 loss ratio of 57.1 percent, compares to 50.3 percent for 1992 and 43.6
percent for 1991. During 1993, the Company increased the incurred but not
reported reserve by $10.2 million. The 1993, 1992 and 1991 claims and
adjustment expenses included adverse development of prior years reserves. The
adverse development of the 1992, 1991 and 1990 year end reserves was
attributable to the settlement of certain large losses for which the Company
initially determined it would not have liability; the settlement of some
outstanding claims for more than was originally anticipated; unusually late
notice of loss provided by the insured for several large losses; and reserves
established for losses on which the coverage is being contested. The adverse
development of the 1991 year end reserve was also impacted by two large
December losses. The gross claims and adjustment expense reserve at year end
1993 was $214.4 million compared to the reserve at year end 1992 of $172.7
million. At December 31, 1993 the claims recoverable from reinsurers was $44.5
million compared to $39.9 million at December 31, 1992.
16
3
Engineering Services Operations
Net engineering services revenues were substantially unchanged in 1993 at
$231.5 million from $231.0 million in 1992, which was 9.8 percent higher than
revenues of $210.3 million in 1991. The flat revenue in 1993 reflects slight
price increases, offset by lower volume. Engineering services operating gain
decreased 19.7 percent to $11.8 million in 1993 from $14.7 million in 1992 and
$14.0 million in 1991. The margin decreased to 5.1 percent in 1993 from 6.4
percent in 1992 and 6.7 percent in 1991. The Company anticipated engineering
services revenue growth to slow during 1993 as the Company focused on higher
margin business. Revenues and operating gains were lower than anticipated due
to the deferral of engineering services projects caused by the general weakness
in the economy and government indecision resulting from changes in the
Washington Administration. The Company anticipates improved margins in 1994 as
the benefits of the expense reduction programs begun in 1993 are realized.
[ENGINEERING SERVICES CHART -- SEE EDGAR APPENDIX]
Investment Operations
The Company's investment strategy continues to be to maximize the total return
on the investment portfolio over the long-term -- through investment income and
capital appreciation. Income from investment operations, combining net
investment income and realized gains, decreased in 1993 to $55.4 million from
$62.8 million in 1992 and $70.4 million in 1991. Net investment income was
$29.3 million in 1993 compared to $32.0 million in 1992, a decrease of $2.7
million or 8.4 percent. In 1992, net investment income decreased 12.3 percent
from $36.5 million in 1991. The decreases were primarily the result of declines
in interest rates and decreases in average invested assets. The decreases in
average invested assets were the result of cash used to pay dividends, the
repurchase of the Company's stock and the purchase of fixed assets, the
combination of which exceeded cash provided by operations. The Company
repurchased $9.8 million and $15.9 million of its stock in 1993 and 1992,
respectively. Realized gains were $26.1 million in 1993 compared to $30.8
million in 1992, and $33.9 million in 1991.
The market value of the portfolio decreased $17.0 million from $523.0
million to $506.0 million. At December 31, 1993, the pretax balance of
unrealized gains related to equity securities and fixed maturities was $61.4
million.
At December 31, 1993, both equity securities, including non-redeemable
preferreds, and fixed maturities, including redeemable preferreds, are carried
at fair value and are classified as available for sale under the accounting
provisions of FAS 115 ("Accounting for Certain Investments in Debt and Equity
Securities"). Prior to the adoption of FAS 115, fixed maturities were carried
at amortized cost and were classified as held to maturity.
The credit quality of the Company's bond investments at December 31, 1993
averaged a AA rating. The Company's portfolio does not include any bonds in
default as to either principal or interest. Bonds held at December 31, 1993 had
an average yield of 7.5 percent. The fair value of bonds at December 31, 1993
was $78.6 million and the amortized cost was $74.4 million. Bonds held at
December 31, 1993 with a rating of lower than BBB had a fair value of $2.2
million and an amortized cost of $2.3 million.
The Company's redeemable preferred stock investments average a BBB rating
and yield 8.4 percent. At December 31, 1993, the fair value of these
investments was $76.3 million and the cost was $72.3 million.
The Company has slightly more than half of its invested assets in equity
securities accounting for approximately 33 percent of total assets at December
31, 1993. The Company's largest single holding accounts for 1.0 percent of
total assets. The Company has an exposure to the movement of the stock market,
but its investment strategy remains based on the premise that common stocks
provide the highest total return available in the securities markets.
17
4
Income Taxes
The effective tax rate for 1993 was 22 percent compared to 23 percent for 1992
and 27 percent for 1991. The lower tax rates in 1993 and 1992 were the result
of investment income, much of which is exempt from federal taxes, being a
larger proportion of total income before taxes, and the utilization of federal
tax credits. The lower effective rate was partially offset by the 1 percent
increase in the corporate tax rate.
[INCOME FROM INVESTMENT OPERATIONS CHART -- SEE EDGAR APPENDIX]
Liquidity and Capital Resources
At December 31, 1993, the Company had significant short-term and long-term
borrowing capacity. In addition, the Company receives a regular inflow of cash
from maturing investments, and maintains a highly liquid investment portfolio.
The Company manages its cash and short-term investment position to meet
its operating expense and claims payment needs. Cash from operating activities
was provided by receipts from insurance premiums, engineering services and
investment income, offset by payments for claims and operating expenses such as
salaries, commissions and taxes.
As reported in the Consolidated Statements of Cash Flows, the Company had
cash provided by operating activities of $62.5 million, $73.8 million and $37.9
million in 1993, 1992 and 1991, respectively. During the same periods,
investment transactions provided cash of $16.0 million, $15.9 million and $5.6
million, respectively. The cash provided by operations and investment
transactions was used to pay dividends, purchase fixed assets, repurchase
Company stock and repay short-term borrowings. The Company repurchased
approximately 200,000 and 300,000 shares of its stock in 1993 and 1992,
repectively.
The Company issues short-term commercial paper to fund operating needs.
Commercial paper issued by the Company has received an A1+ rating from Standard
& Poor's and a P1 rating from Moody's. The Company is currently authorized to
issue up to $75 million of commercial paper. At year-end 1993 and 1992, $42.7
million and $52.2 million of commercial paper was outstanding, respectively.
The commercial paper outstanding during 1993 and 1992 was primarily used to
fund engineering services operations.
Dividends paid by the Company are limited by state insurance regulations.
The current restriction is the greater of 10 percent of statutory surplus or
prior year's net income as reported to the regulatory agencies. Currently, the
Company can pay $25.9 million in dividends in 1994 without requesting
regulatory approval. Due to the Company's strong financial position, regulatory
approval was received for the payment of 1993 dividends. The Company expects to
be required to request regulatory approval for the payment of dividends in
1994.
The Company continues to maintain a very conservative capital position
when measured by regulatory requirements. In 1993, the Company's written
premium to surplus ratio was 1.3 to 1.0, which was well below the maximum
leverage point of 3.0 to 1.0 prescribed by state insurance regulators for
property/casualty insurance companies. This relatively low ratio and a low debt
to equity ratio allow the Company access to adequate capital resources.
The short-term nature of the liabilities in the Company's insurance
business and its continued conservative surplus position allow the Company the
flexibility to invest in equity securities and shorter duration fixed maturity
investments. As a result of the short duration of the Company's liabilities,
increases in inflation would not have a significant impact on the Company's
surplus.
18
5
The Company's investments together with its available credit lines
combine to give the Company significant sources of liquidity. The Company
anticipates that cash flow from operations, the liquidity of its investments
and available credit will enable it to meet any foreseeable cash requirements.
Further enhancing the preservation of capital, the Company maintains
reinsurance to limit its exposure to any one hazard to $3.5 million for most of
the Company's business, with a $6 million maximum limit in certain instances
and catastrophe reinsurance for aggregate net losses greater than $15 million.
The National Association of Insurance Commissioners ("NAIC") recently
finalized the formula for Risk Based Capital ("RBC") requirements for
property/casualty insurers. RBC establishes a required statutory surplus level
for an insurance company based on the risks inherent in its overall operations.
Use of the RBC formula is expected to begin in 1995 for 1994 financial
statement data. The application of the current RBC standards to the Company's
operations at December 31, 1993 affirms that the Company's statutory surplus
exceeds the RBC requirements. The Company does not anticipate that the RBC
requirements will affect its ability to conduct its business.
Accounting Changes
At December 31, 1993, the Company adopted Statement of Financial Accounting
Standards No. 115 ("FAS 115"), "Accounting for Certain Investments in Debt and
Equity Securities". FAS 115 expands the use of fair value accounting for debt
and equity securities but retains the use of amortized cost for investments in
debt securities that the reporting entity has positive intent and ability to
hold to maturity.
During the year the Company adopted Statement of Financial Accounting
Standards No. 112 ("FAS 112"), "Employers' Accounting for Postemployment
Benefits" with retroactive application to January 1, 1993. This standard
requires the Company to accrue for the cost of postemployment benefits under
certain conditions, rather than report them on a cash basis, the prior
accounting practice. During the year the Company also adopted Statement of
Financial Accounting Standards No. 113 ("FAS 113"), "Accounting and Reporting
for Reinsurance of Short-Duration and Long-Duration Contracts". Under the
provisions of FAS 113, reinsurance recoverable on unpaid claims and the
unearned portion of ceded reinsurance premiums are reported as assets, rather
than netted against the related liability accounts.
In 1992, the Company adopted Statement of Accounting Standards No. 106
("FAS 106"), "Employers' Accounting for Postretirement Benefits Other Than
Pensions", with retroactive application to January 1, 1992. In 1992, the
Company also adopted the provisions of Statement of Financial Accounting
Standards No. 109 ("FAS 109"), "Accounting For Income Taxes" with retroactive
application to January 1, 1989.
These accounting changes are discussed in further detail in the notes
to the financial statements.
19
6
CONSOLIDATED STATEMENTS OF OPERATIONS
For the years ended December 31, (in millions, except per share data)
1993 1992 1991
REVENUES:
Insurance premiums . . . . . . . . . . . . . . . . . . $ 349.2 $ 342.9 $ 318.8
Net engineering services . . . . . . . . . . . . . . . . 231.5 231.0 210.3
Net investment income . . . . . . . . . . . . . . . . . 29.3 32.0 36.5
Realized investment gains . . . . . . . . . . . . . . . 26.1 30.8 33.9
---------------------------------------
Total revenues . . . . . . . . . . . . . . . . . . . 636.1 636.7 599.5
---------------------------------------
EXPENSES:
Claims and adjustment . . . . . . . . . . . . . . . . . 199.1 172.4 139.1
Policy acquisition . . . . . . . . . . . . . . . . . . 64.2 64.9 60.5
Underwriting and inspection . . . . . . . . . . . . . . 112.3 103.8 96.3
Engineering services . . . . . . . . . . . . . . . . . 219.7 216.3 196.3
Interest . . . . . . . . . . . . . . . . . . . . . . . 1.8 2.5 3.5
Restructuring . . . . . . . . . . . . . . . . . . . . . 20.0 -- --
---------------------------------------
Total expenses . . . . . . . . . . . . . . . . . . . 617.1 559.9 495.7
Equity in operations of insurance association (2.1) (3.4) (2.8)
INCOME BEFORE TAXES AND CUMULATIVE
---------------------------------------
EFFECTS OF CHANGES IN ACCOUNTING PRINCIPLES . . . . . 16.9 73.4 101.0
---------------------------------------
INCOME TAXES (BENEFIT):
Current . . . . . . . . . . . . . . . . . . . . . . . 6.9 18.7 30.2
Deferred . . . . . . . . . . . . . . . . . . . . . . . (3.1) (1.6) (3.1)
---------------------------------------
Total income taxes . . . . . . . . . . . . . . . . 3.8 17.1 27.1
INCOME BEFORE CUMULATIVE EFFECTS
---------------------------------------
OF CHANGES IN ACCOUNTING PRINCIPLES . . . . . . . . . 13.1 56.3 73.9
Cumulative effects of changes in accounting principles
(net of income taxes of $1.9 and $7.8, respectively) (3.6) (15.1) --
---------------------------------------
NET INCOME . . . . . . . . . . . . . . . . . . . . . . . . $ 9.5 $ 41.2 $ 73.9
=======================================
PER SHARE:
Income before accounting changes . . . . . . . . . . . $ 0.63 $ 2.71 $ 3.53
Cumulative effects of changes
in accounting principles . . . . . . . . . . . . . . (0.17) (0.73) --
---------------------------------------
Net income . . . . . . . . . . . . . . . . . . . . . . $ 0.46 $ 1.98 $ 3.53
=======================================
Average shares outstanding . . . . . . . . . . . . . . . . 20.7 20.8 21.0
The accompanying notes are an integral part of the consolidated financial
statements.
20
7
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
At December 31, (in millions, except per share data)
1993 1992
ASSETS:
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . $ 7.3 $ 8.7
Short-term investments, at cost . . . . . . . . . . . . . 53.8 46.8
Fixed maturities:
Held to maturity, at amortized cost
(fair value -- $157.6) . . . . . . . . . . . . . . . -- 151.6
Available for sale, at fair value
(cost -- $146.7) 154.9 --
Equity securities, at fair value
(cost -- $236.8; $239.0) . . . . . . . . . . . . . . . 290.0 309.9
-----------------------
Total cash and invested assets . . . . . . . . . . . . 506.0 517.0
Insurance premiums receivable . . . . . . . . . . . . . 68.5 62.0
Engineering services receivable . . . . . . . . . . . . 79.0 71.2
Fixed assets . . . . . . . . . . . . . . . . . . . . . . 64.3 67.4
Participation in pools and associations . . . . . . . . 8.4 11.3
Prepaid acquisition costs . . . . . . . . . . . . . . . . 30.0 30.0
Capital lease . . . . . . . . . . . . . . . . . . . . . . 18.3 19.0
Reinsurance recoverable 44.5 39.9
Other assets . . . . . . . . . . . . . . . . . . . . . . 58.9 68.6
-----------------------
Total assets . . . . . . . . . . . . . . . . . . . . . $ 877.9 $ 886.4
=======================
LIABILITIES:
Unearned insurance premiums . . . . . . . . . . . . . . $ 169.3 $ 171.0
Claims and adjustment expenses . . . . . . . . . . . . . 214.4 172.7
Short-term borrowings . . . . . . . . . . . . . . . . . 42.7 52.2
Long-term borrowings . . . . . . . . . . . . . . . . . . .7 .8
Capital lease . . . . . . . . . . . . . . . . . . . . . . 27.7 27.6
Deferred income taxes . . . . . . . . . . . . . . . . . 6.9 15.5
Dividends payable . . . . . . . . . . . . . . . . . . . . 10.9 11.0
Employee stock ownership plan . . . . . . . . . . . . . 3.7 5.6
Other liabilities . . . . . . . . . . . . . . . . . . . . 76.9 55.7
-----------------------
Total liabilities . . . . . . . . . . . . . . . . . . . 553.2 512.1
-----------------------
Shareholders' equity:
Common stock (stated value; shares authorized
50.0; shares issued 21.3; shares
outstanding 20.5; 20.7) . . . . . . . . . . . . . . . 10.0 10.0
Additional paid-in capital . . . . . . . . . . . . . . . 33.9 33.4
Unrealized investment gains, net of tax . . . . . . . . 44.2 51.9
Retained earnings . . . . . . . . . . . . . . . . . . . 280.4 314.8
Treasury stock, at cost; (shares -- .8; .6) . . . . . . . (35.7) (26.9)
Benefit plans . . . . . . . . . . . . . . . . . . . . . . (8.1) (8.9)
-----------------------
Total shareholders' equity . . . . . . . . . . . . . . 324.7 374.3
-----------------------
Total liabilities and shareholders' equity . . . . . . $ 877.9 $ 886.4
=======================
Shareholders' equity per share . . . . . . . . . . . . $ 15.80 $ 18.05
The accompanying notes are an integral part of the consolidated financial
statements.
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8
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended December 31, (in millions)
1993 1992 1991
OPERATING ACTIVITIES:
Net income . . . . . . . . . . . . . . . . . . . . . . . . . $ 9.5 $ 41.2 $ 73.9
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation and amortization . . . . . . . . . . . . . 20.6 19.9 20.3
Deferred income taxes . . . . . . . . . . . . . . . . . . (3.1) (9.3) (3.1)
Realized investment gains, net of tax . . . . . . . . . . (16.9) (20.3) (22.1)
Change in:
Insurance premiums receivable . . . . . . . . . . . . (6.5) (2.5) (.4)
Engineering services receivable . . . . . . . . . . . (7.8) 1.3 (19.4)
Prepaid acquisition costs . . . . . . . . . . . . . . . -- (2.1) (.4)
Reinsurance recoverable (4.6) (39.9) --
Unearned insurance premiums . . . . . . . . . . . . . (1.7) 14.1 6.2
Claims and adjustment expenses . . . . . . . . . . . . 41.7 61.4 (4.4)
Other 31.3 10.0 (12.7)
-------------------------------------
Cash provided by operating activities . . . . . . . 62.5 73.8 37.9
-------------------------------------
INVESTING ACTIVITIES:
Fixed asset additions . . . . . . . . . . . . . . . . . . . . (14.3) (26.2) (23.6)
Investments:
Sale (purchase) of short-term investments, net . . . . . . (7.2) (5.1) 7.0
Purchase of fixed maturities . . . . . . . . . . . . . . (29.9) (36.2) (17.2)
Proceeds from sale of fixed maturities . . . . . . . . . 7.0 15.6 39.1
Redemption of fixed maturities . . . . . . . . . . . . . 27.5 21.3 16.3
Purchase of equity securities . . . . . . . . . . . . . . (488.5) (446.1) (481.4)
Proceeds from sale of equity securities . . . . . . . . 507.1 466.4 441.8
-------------------------------------
Cash provided by (used in) investing activities . . . . 1.7 (10.3) (18.0)
-------------------------------------
FINANCING ACTIVITIES:
Dividends paid to shareholders . . . . . . . . . . . . . . . (43.9) (42.3) (38.7)
Increase (decrease) in short-term borrowings, net . . . . . . (9.5) 5.2 19.3
Repayment of long-term debt . . . . . . . . . . . . . . . . . (.1) (5.6) (5.7)
Repayment of employee stock ownership plan debt . . . . . . . (1.9) (1.7) (1.6)
Issuance (purchase) of treasury stock . . . . . . . . . . . (10.2) (16.4) 1.2
-------------------------------------
Cash used in financing activities . . . . . . . . . . . (65.6) (60.8) (25.5)
-------------------------------------
Net increase (decrease) in cash . . . . . . . . . . . . . (1.4) 2.7 (5.6)
Cash at beginning of period . . . . . . . . . . . . . . . 8.7 6.0 11.6
------------------------------------
Cash at end of period . . . . . . . . . . . . . . . . . . $ 7.3 $ 8.7 $ 6.0
=====================================
The accompanying notes are an integral part of the consolidated financial
statements.
22
9
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
For the years ended December 31, (in millions)
NET
TOTAL UNREALIZED
SHARE- ADDITIONAL INVESTMENT
HOLDERS' COMMON PAID-IN GAINS RETAINED TREASURY BENEFIT
EQUITY STOCK CAPITAL (LOSSES) EARNINGS STOCK PLANS
Balances at December 31, 1990 . . . . . $348.7 $10.0 $28.4 $56.2 $282.3 $(16.3) $(11.9)
Net income . . . . . . . . . . . . . . . 73.9 -- -- -- 73.9 -- --
Dividends declared . . . . . . . . . . (39.9) -- -- -- (39.9) -- --
Change in unrealized
investment gains . . . . . . . . . . 11.9 -- -- 11.9 -- -- --
Benefit plans . . . . . . . . . . . . . 5.0 -- 2.9 -- -- 2.1 --
Exercise of stock options . . . . . . . 3.2 -- 1.7 -- -- 1.5 --
- -----------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1991 . . . . . 402.8 10.0 33.0 68.1 316.3 (12.7) (11.9)
- -----------------------------------------------------------------------------------------------------------------------
Net income . . . . . . . . . . . . . . 41.2 -- -- -- 41.2 -- --
Dividends declared . . . . . . . . . . (42.7) -- -- -- (42.7) -- --
Change in unrealized
investment gains . . . . . . . . . . (16.2) -- -- (16.2) -- -- --
Benefit plans . . . . . . . . . . . . . 4.0 -- .3 -- -- .7 3.0
Exercise of stock options . . . . . . . 1.1 -- .1 -- -- 1.0 --
Purchase of treasury stock . . . . . . . (15.9) -- -- -- -- (15.9) --
- -----------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1992 . . . . . 374.3 10.0 33.4 51.9 314.8 (26.9) (8.9)
- -----------------------------------------------------------------------------------------------------------------------
NET INCOME . . . . . . . . . . . . . . . 9.5 -- -- -- 9.5 -- --
DIVIDENDS DECLARED . . . . . . . . . . (43.9) -- -- -- (43.9) -- --
CHANGE IN UNREALIZED
INVESTMENT GAINS . . . . . . . . . . (13.0) -- -- (13.0) -- -- --
FAS 115 ACCOUNTING CHANGE . . . . . . . 5.3 -- -- 5.3 -- -- --
BENEFIT PLANS . . . . . . . . . . . . . 1.4 -- .2 -- -- .4 .8
EXERCISE OF STOCK OPTIONS . . . . . . . .9 -- .3 -- -- .6 --
PURCHASE OF TREASURY STOCK . . . . . . (9.8) -- -- -- -- (9.8) --
- -----------------------------------------------------------------------------------------------------------------------
BALANCES AT DECEMBER 31, 1993 . . . . . $324.7 $10.0 $33.9 $44.2 $280.4 $(35.7) $(8.1)
=======================================================================================================================
The accompanying notes are an integral part of the consolidated financial
statements.
23
10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar amounts in millions)
1. Accounting Policies
CONSOLIDATION The accompanying financial statements present the consolidated
accounts of The Hartford Steam Boiler Inspection and Insurance Company and its
subsidiaries (collectively, the Company) and are prepared in accordance with
generally accepted accounting principles. Significant intercompany transactions
and balances have been eliminated. Certain amounts from 1992 and 1991 have been
reclassified to conform with the 1993 presentation.
INSURANCE Insurance premiums are net of reinsurance ceded and are earned on a
pro rata basis over the contract period. The portion of gross insurance
premiums not earned at the end of the period is recorded as Unearned insurance
premiums on the Statements of Financial Position. Unearned ceded premiums are
recorded as prepaid premiums and are included in Other assets.
Prepaid acquisition costs, consisting of commissions and premium taxes,
are amortized as the related insurance premiums are earned.
The liability for claims and adjustment expenses for boiler and
machinery, property, environmental liability and other coverages represents the
estimated liability net of salvage recoverable on outstanding claims and claims
incurred but not reported. These liabilities are regularly adjusted based on
historical experience and the latest available information from ceding
reinsurers. These adjustments are recorded currently through the Statements of
Operations.
ENGINEERING SERVICES The Company recognizes the majority of its engineering
services revenues as the service is provided, net of related costs of
subcontracts of $24.6 million, $33.7 million and $21.8 million in 1993, 1992
and 1991, respectively. Revenues from certain contracts are recognized on the
percentage-of-completion method; costs on such contracts are included in
operations as incurred. Provisions are made for losses on contracts at the time
such losses become known.
INVESTMENTS Short-term investments have a maturity of one year or less and are
carried at cost which approximates fair value. Fixed maturities include bonds,
notes and redeemable preferred stocks. Equity securities include common and
non-redeemable preferred stocks.
At December 31, 1993, the Company adopted Statement of Financial
Accounting Standards No. 115 ("FAS 115"), "Accounting for Certain Investments
in Debt and Equity Securities". The Company determined that the fixed
maturities held at December 31, 1993 should be classified as available for
sale. Accordingly, these investments are carried at estimated fair value. In
1992, fixed maturities were classified as held to maturity and were carried at
amortized cost. Equity securities are classified as available for sale and are
carried at estimated fair value, which is consistent with the accounting
treatment in 1992. The adoption of this statement resulted in an increase in
the carrying value of fixed maturity investments of $8.2 million and an
increase in Shareholders' equity of $5.3 million, net of related deferred taxes
at December 31, 1993.
Investment income is net of investment expenses. Realized investment
gains and losses are determined on the basis of specific costs. Unrealized
gains and losses on equity securities and fixed maturities available for sale,
net of deferred income taxes, are included in Shareholders' equity.
The carrying values of short-term investments, investment income accrued
and securities transactions in the course of settlement approximate their fair
value.
INCOME TAXES Deferred income taxes are provided for unrealized appreciation on
equity securities and fixed maturities available for sale, prepaid acquisition
costs and other items which are the result of temporary differences in the
treatment of such items for tax return and financial statement purposes.
FIXED ASSETS Fixed assets are carried at cost less accumulated depreciation.
Depreciation is calculated on the basis of estimated useful lives using
straight-line and accelerated methods. Upon retirement or replacement, any gain
or loss is included in operations. Certain internal system development costs
are capitalized and amortized over a five year period.
PARTICIPATION IN POOLS AND ASSOCIATIONS The Company accounts for pools and
associations on a proportionate basis for all transactions in the Statements of
Operations and Financial Position.
Participation in pools and associations also includes the Company's
equity in the Engineering Insurance Group ("EIG"). In 1988, the Company entered
into an agreement with General Reinsurance Corporation to form EIG, an
unincorporated association which provides property insurance to businesses
outside North America. Each company has a 50 percent participation in the
association. On March 1, 1990, EIG established a wholly owned subsidiary, the
Engineering Insurance Company Limited ("EICL"), in London, England. EICL was
capitalized at $100 million. The capitalization of EICL is partially funded by
a private placement of $80 million of medium-term notes issued by EIG and
guaranteed by either or both the Company and General Reinsurance Company. At
December 31, 1993, $67.0 million of these medium-term notes were outstanding.
In 1993, the Company changed its method of presenting its participation in EIG
from the proportional consolidation method to the equity method of accounting.
The Company's share of revenue and expenses is included on the Statements of
Operations as Equity in operations of insurance association. All prior year
amounts have been reclassified accordingly.
24
11
2. Changes in Accounting Principles
As discussed in Note 1, the Company adopted FAS 115 in 1993.
In 1993, the Company adopted Statement of Financial Accounting Standards
No. 112 ("FAS 112"), "Employers Accounting for Postemployment Benefits" with
retroactive application to January 1, 1993 (see Note 14).
In 1993, the Company adopted Statement of Financial Accounting Standards
No. 113 ("FAS 113"), "Accounting and Reporting for Reinsurance of
Short-Duration and Long-Duration Contracts". All amounts on the Statements of
Financial Position were reclassified accordingly (see Note 9).
In 1992, the Company adopted Statement of Financial Accounting Standards
No. 106 ("FAS 106"), "Employers Accounting for Postretirement Benefits Other
Than Pensions". Under FAS 106 the expense for these benefits was $2.3 million
and $2.0 million in 1993 and 1992, respectively. Prior to 1992 these costs were
expensed as claims were paid (See Note 14). The Company also adopted the
provisions of Statement of Financial Accounting Standards No. 109 ("FAS 109")
"Accounting for Income Taxes" (see Note 10).
3. Restructuring
In September of 1993, the Company recorded a $20 million charge for the cost of
restructuring its insurance and engineering services businesses. Restructuring
costs include severance and other costs related to approximately 300 planned
staff reductions and charges related to a realignment of the Company's
operations.
4. Segment Information
The Company operates three principal businesses -- insurance, engineering
services and investments. Revenues, expenses and receivables are shown for
these segments in the Company's financial statements. The Company does not
allocate assets, other than receivables, between business segments because the
allocations would be immaterial.
Revenues, net income and assets associated with operations outside of the
United States are less than 10 percent of consolidated totals.
The Company derives approximately 10 percent of its revenues from
contracts with various agencies and departments of the U.S. government.
5. Statutory Financial Information
Annual statements for state insurance regulatory authorities are prepared using
an accounting method prescribed or permitted by such authorities (statutory
basis). Statutory accounting practices differ in certain respects from
generally accepted accounting principles (GAAP). With respect to the Company's
financial statements, these differences are primarily comprised of the
accounting for prepaid acquisition costs, deferred income taxes, certain
non-insurance affiliates and employee benefit plans. At year-end 1993 and 1992,
policyholders' surplus on a statutory basis was $259.2 million and $307.6
million, respectively. Consolidated statutory net income for 1993, 1992 and
1991 was $19.7 million, $41.8 million and $59.8 million, respectively.
Various existing insurance and corporate laws, regulations and rulings
restrict payments of dividends. Without prior regulatory approval, at least
$25.9 million of retained earnings have no restrictions relating to
distributions to shareholders in 1994.
25
12
6. Investments
INCOME FROM INVESTMENT OPERATIONS 1993 1992 1991
Investment income:
Short-term interest . . . . . . . . . . . . . . . . . . . . . $ 1.3 $ 1.8 $ 3.7
Fixed maturities:
Taxable interest . . . . . . . . . . . . . . . . . . . . . 3.7 2.3 2.1
Tax exempt interest . . . . . . . . . . . . . . . . . . . . 2.1 2.1 1.8
Redeemable preferred dividends . . . . . . . . . . . . . . 6.9 8.3 10.5
Equity securities:
Common dividends . . . . . . . . . . . . . . . . . . . . . 10.5 10.7 11.4
Non-redeemable preferred dividends . . . . . . . . . . . . 6.3 6.6 6.3
Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.0 2.3 2.7
------ ------ ------
Total investment income . . . . . . . . . . . . . . . . 31.8 34.1 38.5
Investment expenses . . . . . . . . . . . . . . . . . . . . . (2.5) (2.1) (2.0)
------ ------ ------
Net investment income . . . . . . . . . . . . . . . . . 29.3 32.0 36.5
------ ------ ------
Realized investment gains (losses):
Fixed maturities:
Bonds . . . . . . . . . . . . . . . . . . . . . . . . . . .4 .3 (1.7)
Redeemable preferred stocks . . . . . . . . . . . . . . . . .2 -- (.7)
Equity securities:
Common stocks . . . . . . . . . . . . . . . . . . . . . . 21.3 23.7 36.0
Non-redeemable preferred stocks . . . . . . . . . . . . . . 4.2 6.8 .3
------ ------ ------
Realized investment gains . . . . . . . . . . . . . . . 26.1 30.8 33.9
------ ------ ------
Income from investment operations . . . . . . . . . . . . . . . . $ 55.4 $ 62.8 $ 70.4
====== ====== ======
UNREALIZED INVESTMENT GAINS
Equity securities:
Gains . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 59.3 $ 75.7 $ 97.0
Losses . . . . . . . . . . . . . . . . . . . . . . . . . . (6.1) (4.8) (4.2)
Fixed Maturities: Available for sale
Gains . . . . . . . . . . . . . . . . . . . . . . . . . . . 9.1 -- --
Losses . . . . . . . . . . . . . . . . . . . . . . . . . . (.9) -- --
Foreign exchange . . . . . . . . . . . . . . . . . . . . . . . . (2.2) (1.4) .3
------ ------ ------
Total unrealized investment gains . . . . . . . . . . . . . 59.2 69.5 93.1
Income taxes . . . . . . . . . . . . . . . . . . . . . . . . . . (15.0) (17.6) (25.0)
------ ------ ------
Unrealized investment gains, net of tax . . . . . . . . . . $ 44.2 $ 51.9 $ 68.1
====== ====== ======
26
13
6. Investments (continued)
FIXED MATURITIES
The amortized cost, estimated fair values (determined principally based upon
quoted market prices) and gross unrealized gains and losses of fixed maturities
at December 31 were as follows:
1993 AVAILABLE FOR SALE
--------------------------------------------------------
Estimated Gross Gross
Amortized Fair Unrealized Unrealized
Category Cost Value Gains Losses
- -----------------------------------------------------------------------------------------------------
Redeemable preferred stocks . . . . . . . . . $ 72.3 $ 76.3 $ 4.6 $ .6
States and municipalities . . . . . . . . . 28.9 31.2 2.5 .2
Foreign governments . . . . . . . . . . . . . 26.6 28.4 1.8 --
Corporate and other . . . . . . . . . . . . . 18.7 18.8 .2 .1
U.S. Treasury and agencies . . . . . . . . . .2 .2 -- --
------ ------ ------ ------
Total fixed maturities . . . . . . . . . $ 146.7 $ 154.9 $ 9.1 $ .9
====== ====== ====== ======
1992 HELD TO MATURITY
--------------------------------------------------------
Estimated Gross Gross
Amortized Fair Unrealized Unrealized
Category Cost Value Gains Losses
- -----------------------------------------------------------------------------------------------------
Redeemable preferred stocks . . . . . . . . . $ 82.6 $ 86.4 $ 4.0 $ .2
States and municipalities . . . . . . . . . 28.4 30.0 1.9 .3
Foreign governments . . . . . . . . . . . . . 26.6 27.2 .7 .1
Corporate and other . . . . . . . . . . . . . 13.8 13.8 -- --
U.S. Treasury and agencies . . . . . . . . . .2 .2 -- --
------ ------ ------ ------
Total fixed maturities . . . . . . . . . $ 151.6 $ 157.6 $ 6.6 $ .6
====== ====== ====== ======
The amortized cost and estimated fair value of fixed maturities at December 31,
1993 are shown below. Expected maturities will differ from contractual
maturities because borrowers may have the right to prepay obligations.
1993 AVAILABLE FOR SALE
---------------------------
Estimated
Amortized Fair
Maturity Cost Value
- -----------------------------------------------------------------------------------------------------
Due in one year or less . . . . . . . . . . . . . . . . . . . . . . . . . $ 4.6 $ 4.8
Due after one year through five years . . . . . . . . . . . . . . . . . 19.6 21.2
Due after five years through ten years . . . . . . . . . . . . . . . . . 30.7 32.4
Due after ten years . . . . . . . . . . . . . . . . . . . . . . . . . . . 19.5 20.2
------- ---------
74.4 78.6
Redeemable preferred stocks . . . . . . . . . . . . . . . . . . . . . . . 72.3 76.3
------- ---------
Total fixed maturities . . . . . . . . . . . . . . . . . . . . . . . $ 146.7 $ 154.9
======= =========
Gross gains of $.4 million were realized on sales (excluding calls and
redemptions) of fixed maturities in 1993.
27
14
6. Investments (continued)
EQUITY SECURITIES
The cost, estimated fair values (determined principally based upon quoted
market prices) and gross unrealized gains and losses of equity securities at
December 31 were as follows:
1993
----------------------------------------------------
Estimated Gross Gross
Fair Unrealized Unrealized
Category Cost Value Gains Losses
- -----------------------------------------------------------------------------------------------------
Common stocks . . . . . . . . . . . . . . . . $ 163.4 $ 205.7 $ 48.0 $ 5.7
Non-redeemable preferred stocks . . . . . . . 73.4 84.3 11.3 .4
------- ------ ------- -------
Total equity securities . . . . . . . . . $ 236.8 $ 290.0 $ 59.3 $ 6.1
======= ====== ======= =======
1992
----------------------------------------------------
Estimated Gross Gross
Fair Unrealized Unrealized
Category Cost Value Gains Losses
- -----------------------------------------------------------------------------------------------------
Common stocks . . . . . . . . . . . . . . . . $ 170.8 $ 235.1 $ 67.5 $ 3.2
Non-redeemable preferred stocks . . . . . . . 68.2 74.8 8.2 1.6
------- ------ ------- -------
Total equity securities . . . . . . . . . $ 239.0 $ 309.9 $ 75.7 $ 4.8
======= ====== ======= =======
7. Engineering Services Receivable
Engineering services receivable is summarized as follows:
1993 1992
Amounts billed . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 47.3 $ 43.9
Amounts unbilled . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26.1 22.3
Amounts due upon completion of contracts . . . . . . . . . . . . . . . . . 6.2 5.4
------- -------
79.6 71.6
Less reserve for bad debts . . . . . . . . . . . . . . . . . . . . . . . . (.6) (.4)
------- -------
Engineering services receivable . . . . . . . . . . . . . . . . . . . . $ 79.0 $ 71.2
======= =======
8. Fixed Assets
Fixed assets are summarized as follows:
1993 1992
Land and buildings . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 7.4 $ 7.4
Furniture, equipment and other . . . . . . . . . . . . . . . . . . . . . . 113.9 119.8
------- -------
121.3 127.2
Less accumulated depreciation . . . . . . . . . . . . . . . . . . . . . . . (57.0) (59.8)
------- -------
Fixed assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 64.3 $ 67.4
======= =======
28
15
9. Reinsurance
The components of net written and net earned insurance premiums were as
follows:
1993 1992 1991
Written premiums:
Direct . . . . . . . . . . . . . . . . . . . . . . . . $ 246.1 $ 245.8 $ 242.0
Assumed . . . . . . . . . . . . . . . . . . . . . . . . 131.0 125.1 103.5
Ceded . . . . . . . . . . . . . . . . . . . . . . . . . (32.6) (19.9) (20.5)
------ ------ -------
Net written insurance premiums . . . . . . . . . . . $ 344.5 $ 351.0 $ 325.0
====== ====== =======
Earned premiums:
Direct . . . . . . . . . . . . . . . . . . . . . . . . $ 246.9 $ 245.0 $ 235.2
Assumed . . . . . . . . . . . . . . . . . . . . . . . . 131.6 117.3 102.1
Ceded . . . . . . . . . . . . . . . . . . . . . . . . . (29.3) (19.4) (18.5)
------ ------- -------
Net earned insurance premiums . . . . . . . . . . . . $ 349.2 $ 342.9 $ 318.8
====== ======= =======
The Company writes direct business through agencies and brokerage firms. In
addition, the Company assumes boiler and machinery exposures from over 100
insurance companies and several insurance pools. The Company participates in
reinsurance ceded agreements to control its exposure to losses. In the unlikely
event that ceded reinsurers are unable to meet their obligations, the Company
would continue to have primary liability to policyholders for losses incurred.
As a result of the adoption of FAS 113, reinsurance recoverable on unpaid
claims and the unearned portion of ceded reinsurance premiums are reported as
assets, rather than netted against the related liability accounts. The adoption
of FAS 113 did not have any impact on net income for 1992 or 1993. The Company
is not party to any contracts which do not comply with the risk transfer
provisions of FAS 113. During the year the Company recorded $42.1 million of
reinsurance recoveries as a reduction of its claims and adjustment expense. At
December 31, 1993 reinsurance recoverable on paid losses was $1.4 million and
reinsurance recoverable on unpaid losses was $43.1 million.
29
16
10. Income Taxes
TAX PROVISION
The tax provision (benefit) is comprised of the following:
1993 1992 1991
---------------- --------------- ----------------
% of % of % of
Pre-Tax Pre-Tax Pre-Tax
Amount Income Amount Income Amount Income
------ ------ ------ ------ ------ ------
Income before taxes . . . . . . . $16.9 100% $73.4 100% $101.0 100%
----- ----- ----- ----- ----- -----
Tax at statutory rates . . . . . $ 5.9 35% $25.0 34% $34.4 34%
Income taxed at foreign rates . . .1 -- .2 -- .2 --
Dividends received deduction . . (5.7) (34) (5.6) (8) (6.4) (6)
Tax exempt interest . . . . . . . (.7) (4) (.7) (1) (.7) (1)
Restructuring . . . . . . . . . . 3.5 21 -- -- -- --
Tax credits and other . . . . . . .7 4 (1.8) (2) (.4) --
----- ----- ----- ----- ----- -----
Total income taxes . . . . . . . $3.8 22% $17.1 23% $27.1 27%
===== ===== ===== ===== ===== =====
DEFERRED INCOME TAXES
Deferred income taxes reflect the net tax effect of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components
of the Company's deferred tax liabilities and assets as of December 31, 1993
and 1992 are as follows:
1993 1992
Deferred tax liabilities:
Prepaid acquisition costs . . . . . . . . . . . . . . . . . . . . . . . . . $ (10.5) $ (10.5)
Accelerated depreciation . . . . . . . . . . . . . . . . . . . . . . . . . (3.8) (3.8)
Pension asset . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (7.7) (7.0)
Unrealized investment gains . . . . . . . . . . . . . . . . . . . . . . . . (20.8) (23.5)
Other -- net. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (6.1) (4.6)
------- ------
Total deferred tax liabilities . . . . . . . . . . . . . . . . . . . . . (48.9) (49.4)
Deferred tax assets:
Benefit plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 10.9 $ 8.1
Capital lease . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3.5 2.9
Unearned insurance premiums . . . . . . . . . . . . . . . . . . . . . . . . 11.9 11.4
Loss reserve discounting . . . . . . . . . . . . . . . . . . . . . . . . . 8.4 5.9
Restructuring . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2.8 --
Other -- net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.5 5.6
------- -------
Total deferred tax assets . . . . . . . . . . . . . . . . . . . . . . . 42.0 33.9
------- -------
Net deferred tax liabilities . . . . . . . . . . . . . . . . . . . . . $ (6.9) $ (15.5)
======= =======
OTHER INFORMATION
Income taxes paid amounted to $3.5 million, $25.8 million and $30.1 million in
1993, 1992 and 1991, respectively. Federal income tax returns for the years
1992, 1991 and 1990 are open to examination by the Internal Revenue Service. If
examined, no significant tax adjustments are anticipated. In February 1992, the
Financial Accounting Standards Board issued FAS 109, "Accounting for Income
Taxes". The standard prescribes the methodology for calculating and reporting
the provision for income taxes in the financial statements. The Company adopted
the provisions of the standard in its 1992 financial statements, with
retroactive application to December 31, 1989.
30
17
11. Leases
The Company leases its home office facility at One State Street under a
long-term capital lease with the One State Street Limited Partnership. The
lease obligation of $26.1 million was recorded at July 1, 1983 at an interest
rate of 15 percent. Accumulated amortization was $7.8 million and $7.1 million
at December 31, 1993 and 1992, respectively. Terms of the lease require annual
payments of approximately $4.0 million a year through June 30, 2018. In
addition, the Company is required to pay over the lease term a proportional
share of the variable operating expenses of the facility. This amounted to
approximately $2.9 million for the years ended 1993, 1992 and 1991.
The Company owns the One State Street land and leases it to the One State
Street Limited Partnership. The Company receives a base rental for the land and
a participation in the cash flow of the Partnership. The Company has a right of
first refusal should the Partnership decide to sell the facility. If the
Company does not exercise its right of first refusal it will receive 65 percent
of the net sale proceeds.
In addition to its home office facility, the Company leases facilities
and certain equipment which are accounted for as operating leases. Lease
expenses amounted to $14.7 million, $14.5 million and $11.5 million in 1993,
1992 and 1991, respectively.
At December 31, 1993, minimum rental commitments under noncancelable
leases accounted for as operating leases with initial or remaining terms of
more than one year were as follows:
Years ended December 31,
1994 . . . . . . . . . . . . . . . . . . . . . . . . . $ 12.5
1995 . . . . . . . . . . . . . . . . . . . . . . . . . 11.0
1996 . . . . . . . . . . . . . . . . . . . . . . . . . 10.0
1997 . . . . . . . . . . . . . . . . . . . . . . . . . 8.7
1998 . . . . . . . . . . . . . . . . . . . . . . . . . 7.0
1999 and thereafter . . . . . . . . . . . . . . . . . 9.1
-----
Total . . . . . . . . . . . . . . . . . . . . . . . . $ 58.3
=====
12. Debt
During 1993 the Company borrowed on a short-term basis through its commercial
paper program which has a limit of $75 million. Current maturities of
long-term debt in the amount of $.1 million are included within short-term
debt. Total interest paid on short-term and long-term debt amounted to $1.8
million, $2.6 million and $4.0 million in 1993, 1992 and 1991, respectively.
13. Pension Plans
The Company maintains various types of pension plans covering employees of HSB
and certain affiliates. The expense for all plans was $3.7 million, $3.3
million and $2.6 million in 1993, 1992 and 1991, respectively. The Company's
funding policy is to contribute an amount necessary to satisfy the minimum
requirements of applicable regulations plus such additional amounts as the
Company may determine appropriate.
The pension expense for the U.S. pension plans is a net credit to earnings for
1993, 1992 and 1991 due to the over funded status of the primary plan. The
components of the credit are as follows:
1993 1992 1991
Service costs . . . . . . . . . . . . . . . . . . . . . . . $ 3.2 $ 3.4 $ 3.1
Interest costs . . . . . . . . . . . . . . . . . . . . . . 9.3 8.6 7.3
Return on assets . . . . . . . . . . . . . . . . . . . . . (5.2) (5.1) (27.5)
Net amortization and deferral . . . . . . . . . . . . . . . (11.0) (9.5) 14.1
------ ------- -------
Net pension credit . . . . . . . . . . . . . . . . . . $ (3.7) $ (2.6) $ (3.0)
====== ======= =======
31
18
13. Pension Plans (continued)
The following table represents a reconciliation of the U.S. plans' funded
status and the amounts recognized in the Company's Statements of Financial
Position at December 31:
Funded Unfunded
1993 1992 1993 1992
-------------------- -------------------
Actuarial present value of
benefit obligations:
Vested benefit obligation . . . . . . . . . . $ 86.1 $ 66.8 $ 19.6 $ 13.0
======== ======= ======== ========
Accumulated benefit obligation . . . . . . . $ 86.9 $ 67.5 $ 20.8 $ 15.4
======== ======= ======== ========
Projected benefit obligation . . . . . . . . $ 108.2 $ 85.0 $ 23.4 $ 17.7
Assets available for plan benefits
(equity securities and fixed income
investments at fair value) . . . . . . . 147.5 147.6 -- --
-------- ------- -------- --------
Assets in excess of (less than)
projected benefit obligation . . . . . . . 39.3 62.6 (23.4) (17.7)
FAS 87 unamortized net
transition asset (obligation) 16.9 19.0 (1.8) (2.2)
Unrecognized prior service costs (2.2) (2.5) (3.3) (3.3)
Unrecognized net gain (loss) . . . . . . . . (8.1) 19.8 (7.0) (3.0)
-------- ------- -------- --------
Unrecognized net asset (liability) 6.6 36.3 (12.1) (8.5)
Additional liability . . . . . . . . . . . . -- -- (5.0) --
-------- ------- -------- --------
Net pension asset (liability) . . . . . . $ 32.7 $ 26.3 $ (16.3) $ (9.2)
======== ======= ======== ========
Assumptions used for the primary U.S. plan at years ended:
1993 1992 1991
Discount rate 7.50% 8.50% 8.50%
Long-term rate of return on assets 9.50% 10.50% 10.50%
Rate of increase in future compensation levels 5.50% 6.30% 6.80%
The benefits payable under the Company's pension plans are based on a
combination of years of service and compensation level. Generally, vesting
occurs if a plan participant has at least five years of service or meets other
criteria. Assets available for plan benefits include approximately $14.9
million of Company stock.
32
19
14. Postretirement and Postemployment Plans
POSTRETIREMENT PLANS
The Company makes available health care and life insurance benefits for retired
employees of HSB and certain affiliates.
The Company made contributions to the plans in 1993 as claims were
incurred. Contributions totaled $1.8 million, $1.4 million and $1.3 million for
the years ended December 31, 1993, 1992 and 1991, respectively. At December 31,
1993 and 1992, these plans were unfunded. Retirees' contributions to these
plans vary, based upon the retiree's age, years of service and election of
coverage. The Company amends the plan from time to time changing the
contribution rate of retirees and amounts of coverage.
Components of net periodic postretirement benefit cost are:
Years Ended December 31,
------------------------
1993 1992
Service cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ .2 $ .1
Interest cost . . . . . . . . . . . . . . . . . . . . . . . . . . . 2.1 1.9
------ -------
Net periodic postretirement benefit cost . . . . . . . . . . . . . . $ 2.3 $ 2.0
====== =======
The following table sets forth the amounts recognized in the Company's
Statements of Financial Position:
At December 31,
--------------------
1993 1992
Accumulated postretirement benefit obligations for:
Retirees . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 21.6 $ 19.3
Other fully eligible plan participants . . . . . . . . . . . . . . 1.5 1.4
Other active plan participants . . . . . . . . . . . . . . . . . . . 4.7 2.6
------ -------
Total accumulated postretirement benefit obligation 27.8 23.3
Unrecognized net loss (3.9) --
------ -------
Accrued postretirement benefit liability $ 23.9 $ 23.3
====== =======
The assumptions used to calculate the above obligations are as follows:
At December 31,
-------------------
1993 1992
Weighted-average discount rate . . . . . . . . . . . . . . . . . . . 7.5% 8.5%
Current year health care cost trend rate . . . . . . . . . . . . . . 16.0% 18.0%
Ultimate health care cost trend rate . . . . . . . . . . . . . . . . 6.0% 6.5%
Number of years to reach ultimate . . . . . . . . . . . . . . . . . . 8 8
The health care cost trend rate assumption has a significant effect on the
amounts reported. To illustrate, increasing the assumed health care cost trend
rates by 1 percent in each year would increase the accumulated postretirement
benefit obligation as of January 1, 1993 of $25.2 million by approximately $1.6
million and the aggregate of the service and interest cost for the year ended
December 31, 1993 by approximately $.1 million.
POSTEMPLOYMENT PLANS
The Company makes available to employees of HSB and certain affiliates
postemployment benefits such as short-term and long-term disability, medical
continuation and workers compensation. In 1993, the Company adopted the
provisions of FAS 112 which requires the Company to accrue for the cost of
these benefits when certain conditions exist, rather than report these benefits
on a cash basis, which had been the prior accounting practice.
The adoption of FAS 112 resulted in a non-cash, after-tax charge of $3.6
million or $.17 per share. This charge was recognized as the cumulative effect
of a change in accounting principle in the Statements of Operations.
33
20
15. Stock Option Plans
The Company has a Stock Option Plan under which key employees of the Company
and its subsidiaries may be granted restricted stock and stock options.
The Company's restricted stock is an award of common shares that may not
be sold or transferred during the restriction period, usually three years, from
the date on which the award is granted. During the restriction period, the
employee is the registered owner, receives dividends and may vote the
restricted shares. When the restriction period ends, the stock certificates are
delivered to the employee. Compensation expense is based on the market value of
the Company's common stock at the date of grant and is recognized over the
period of the restriction. Compensation expense for this plan in 1993, 1992 and
1991 was $3.3 million, $4.0 million, and $3.9 million, respectively. The
unamortized compensation expense related to this plan is included in Benefit
plans in the Statements of Financial Position. These amounts were $3.0 million
and $4.6 million in 1993 and 1992, respectively.
A stock option award under the Company's stock option plan allows for the
purchase of the Company's common stock at no less than the market price on the
date of grant. Options granted to-date are exercisable no earlier than one year
after the grant date and expire no more than seven years from the date of
grant.
Information with respect to restricted stock and stock options follows:
Options Outstanding
Shares ---------------------------
Available Average
For Grant Shares Option Price
--------- --------- ------------
Balance, December 31, 1990 . . . . . . . 365,699 486,003 $ 45.07
Options granted . . . . . . . . . . . . . (228,100) 228,100 62.25
Options forfeited (exercised) . . . . . . 3,400 (159,709) 31.43
Restricted stock granted . . . . . . . . (86,800) -- --
--------- --------- ---------
Balance, December 31, 1991 . . . . . . . 54,199 554,394 56.07
Authorized . . . . . . . . . . . . . . . 1,000,000 -- --
Options granted . . . . . . . . . . . . (263,600) 263,600 51.58
Options forfeited (exercised) . . . . . . 7,800 (41,011) 36.51
Restricted stock granted . . . . . . . . (47,051) -- --
--------- --------- ---------
Balance, December 31, 1992 . . . . . . . 751,348 776,983 55.58
OPTIONS GRANTED . . . . . . . . . . . . . (355,400) 355,400 55.39
OPTIONS FORFEITED (EXERCISED) . . . . . . 8,800 (37,283) 40.22
RESTRICTED STOCK GRANTED . . . . . . . . (29,220) -- --
--------- --------- ---------
BALANCE, DECEMBER 31, 1993 . . . . . . . 375,528 1,095,100 $ 56.03
========= ========= =========
In 1989, the Company established a Restricted Stock Plan for non-employee
Directors of the Company. Stock awards are made on the date of the annual
meeting to each Director elected or continuing in office. The maximum number of
restricted shares which may be granted under the Plan shall be 20,000 shares of
common stock. Under this plan, 1,413 and 1,740 and 1,440 shares of restricted
stock were granted in 1993, 1992 and 1991, respectively.
34
21
16. Employee Stock Ownership Plan
The Company has an Employee Stock Ownership Plan (ESOP) and a Trust to
administer the Plan. In 1985, the Trust borrowed $15 million from commercial
lenders at 9.57 percent and purchased 1,142,856 newly issued shares of the
Company's common stock (adjusted to reflect stock splits since that date). The
Company guaranteed the loan and the shares held in the Trust are pledged as
collateral.
The loan is reported as a liability and the cost of unallocated shares
related to the ESOP is included under Benefit plans on the Company's Statements
of Financial Position. The cost of unallocated shares was $2.6 million, $4.1
million and $5.6 million in 1993, 1992 and 1991, respectively.
Contributions made by the Company plus the dividends on the unallocated
shares held by the Trust are used to make interest and principal payments of
approximately $2.3 million per year over the 10-year term. Shares are allocated
to the account of each participant with one or more years of service, based on
salary, and become fully vested after five years of service.
Components of the ESOP expense were as follows:
1993 1992 1991
Amortization of allocated shares . . . . . . . . . . $ 1.9 $ 1.8 $ 1.6
Interest expense . . . . . . . . . . . . . . . . . .5 .6 .8
Dividends paid on unallocated shares . . . . . . . . (.7) (.9) (1.0)
Proceeds from sale of forfeited shares . . . . . . . (.1) (.1) --
---- ---- -----
ESOP expense . . . . . . . . . . . . . . . . . . . . $ 1.6 $ 1.4 $ 1.4
==== ==== =====
At December 31, 1993, the Trust held approximately 315,000 shares of stock not
allocated to employees.
35
22
17. Stock Purchase Rights
On November 28, 1988, the Board of Directors created and authorized 250,000
shares of Series A Junior Participating Preferred Stock at no par value and
declared a dividend distribution of one right for each outstanding share of
common stock to shareholders of record on December 8, 1988.
The rights will separate from the common stock and become exercisable if
a person or group acquires ownership of 20 percent or more of the outstanding
common stock of the Company, commences a tender or exchange offer to acquire 20
percent or more of the outstanding shares, or if any person or group has become
the beneficial owner of an amount of common stock which the Board determines to
be substantial and not in the best interest of the shareholders.
The rights entitle holders to purchase preferred shares at an exercise
price of $110 per share. If an acquiror obtains 20 percent or more of the
Company's common stock and the Board of Directors determines that such
acquisition is not in the best interest of the shareholders, the rights will
entitle holders to purchase common shares of the Company at a discount. If the
Company is involved in a merger or other transactions in which shares are
exchanged, the rights will entitle holders to purchase common shares of the
acquiror at a discount.
The rights expire on November 28, 1998 and may be redeemed by the Company
for $.01 per right any time until the tenth business day following public
announcement that a 20 percent position has been acquired.
36
23
18. Consolidated Quarterly Data (Unaudited)
FIRST SECOND THIRD FOURTH
1993 QUARTER QUARTER QUARTER QUARTER YEAR
---------------------------------------------------------------------
Insurance premiums . . . . . . . . . . . . $ 87.7 $ 88.0 $ 86.3 $ 87.2 $ 349.2
Net engineering services . . . . . . . . . 56.8 58.0 59.3 57.4 231.5
Net investment income . . . . . . . . . . . 7.5 7.8 7.3 6.7 29.3
Realized investment gains . . . . . . . . 7.8 7.6 6.5 4.2 26.1
-------- ------- -------- -------- -------
Total revenues . . . . . . . . . . . . $ 159.8 $ 161.4 $ 159.4 $ 155.5 $ 636.1
======== ======= ======== ======== =======
Income (loss) before taxes and
accounting change . . . . . . . . . . $ 24.0 $ 6.1 $ (29.7) $ 16.5 $ 16.9
Income taxes (benefits) . . . . . . . . . . (6.2) (.6) 7.1 (4.1) (3.8)
-------- ------- -------- -------- -------
Income (loss) before accounting change . . 17.8 5.5 (22.6) 12.4 13.1
Cumulative effect of
accounting change . . . . . . . . . . (3.6) -- -- -- (3.6)
-------- ------- -------- -------- -------
Net income (loss) . . . . . . . . . . . . . $ 14.2 $ 5.5 $ (22.6) $ 12.4 $ 9.5
======== ======= ======== ======== =======
Per common share:
Income (loss) before
accounting change . . . . . . . . . . $ .86 $ .26 $ (1.09) $ .60 $ .63
Cumulative effect of
accounting change . . . . . . . . . . (.17) -- -- -- (.17)
Net income (loss) . . . . . . . . . . $ .69 $ .26 $ (1.09) $ .60 $ .46
======== ======= ======== ======== =======
Dividends declared . . . . . . . . . . $ .53 $ .53 $ .53 $ .53 $ 2.12
Common stock price ranges:
High . . . . . . . . . . . . . . . . . $ 59 1/2 $58 $ 54 5/8 $ 49 5/8 $59 1/2
Low . . . . . . . . . . . . . . . . . 54 3/8 52 1/2 43 3/4 43 1/4 43 1/4
Close . . . . . . . . . . . . . . . . . 57 1/4 54 5/8 48 1/2 44 1/2 44 1/2
Shareholders at year-end . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,603
FIRST SECOND THIRD FOURTH
1992 QUARTER* QUARTER* QUARTER* QUARTER YEAR
----------------------------------------------------------------------
Insurance premiums . . . . . . . . . . . . $ 83.2 $ 85.4 $ 86.5 $ 87.8 $ 342.9
Net engineering services . . . . . . . . . 54.3 60.5 59.7 56.5 231.0
Net investment income . . . . . . . . . . . 8.5 8.0 7.5 8.0 32.0
Realized investment gains . . . . . . . . 7.9 7.4 7.4 8.1 30.8
-------- ------- -------- -------- -------
Total revenues . . . . . . . . . . . . $ 153.9 $ 161.3 $ 161.1 $ 160.4 $ 636.7
======== ======= ======== ======== =======
Income before taxes and
accounting change . . . . . . . . . . $ 24.9 $ 26.0 $ 1.4 $ 21.1 $ 73.4
Income taxes (benefits) . . . . . . . . . . (7.1) (7.5) 1.4 (3.9) (17.1)
-------- ------- -------- -------- -------
Income before accounting change . . . . . . 17.8 18.5 2.8 17.2 56.3
Cumulative effect of
accounting change . . . . . . . . . . (15.1) -- -- -- (15.1)
-------- ------- -------- -------- -------
Net income . . . . . . . . . . . . . . . . $ 2.7 $ 18.5 $ 2.8 $ 17.2 $ 41.2
======== ======= ======== ======== =======
Per common share:
Income before accounting change . . . . $ .85 $ .89 $ .13 $ .83 $ 2.71
Cumulative effect of
accounting change . . . . . . . . . . (.72) -- -- -- (.73)
-------- ------- -------- -------- -------
Net income . . . . . . . . . . . . . . $ .13 $ .89 $ .13 $ .83 $ 1.98
======== ======= ======== ======== =======
Dividends declared . . . . . . . . . . $ .50 $ .50 $ .53 $ .53 $ 2.06
Common stock price ranges:
High . . . . . . . . . . . . . . . . . $ 56 5/8 $56 3/4 $ 59 1/8 $ 59 1/4 $59 1/4
Low . . . . . . . . . . . . . . . . . 45 1/8 47 1/2 53 1/4 54 45 1/8
Close . . . . . . . . . . . . . . . . . 47 7/8 55 1/8 58 3/8 58 3/8 58 3/8
Shareholders at year-end . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5,764
*Restated to reflect adoption of FAS 106.
37
24
TEN YEAR FINANCIAL SUMMARY
(in millions, except per share data(1))
SUMMARY OF STATEMENTS OF OPERATIONS
Revenues:
Insurance premiums(4) . . . . . . . . . $ 349.2 $ 342.9 $ 318.8 $ 296.3 $ 286.8 $ 291.8
Net engineering services . . . . . . . . 231.5 231.0 210.3 174.2 137.8 112.7
Income from investment operations(4) . . 55.4 62.8 70.4 65.5 58.1 47.9
Total revenues . . . . . . . . . . . . 636.1 636.7 599.5 536.0 482.7 452.4
- --------------------------------------------------------------------------------------------------------------
Income before taxes and accounting
changes . . . . . . . . . . . . . . . . 16.9 73.4 101.0 110.5 109.6 96.0
Income taxes . . . . . . . . . . . . . . . 3.8 17.1 27.1 31.8 32.0 25.3
Income before accounting changes . . . . . 13.1 56.3 73.9 78.7 77.6 70.7
Income per share before accounting
changes . . . . . . . . . . . . . . . . 0.63 2.71 3.53 3.79 3.78 3.46
Dividends paid per share . . . . . . . . . 2.12 2.03 1.85 1.70 1.50 1.15
- --------------------------------------------------------------------------------------------------------------
SUMMARY OF STATEMENTS OF FINANCIAL POSITION
Total assets(4)(5) . . . . . . . . . . . $ 877.9 $ 886.4 $ 843.6 $ 784.6 $ 794.5 $ 730.1
Long-term borrowings and
capital lease obligations(4) . . . . . . 28.4 28.4 28.5 33.9 39.4 51.7
Shareholders' equity (3) . . . . . . . . . 324.7 374.3 402.8 348.7 329.0 266.5
Per share (3) . . . . . . . . . . . . . 15.80 18.05 19.16 16.74 15.97 13.04
Return on average equity before
accounting changes(3) . . . . . . . . . 3.7% 14.8% 19.5% 23.5% 26.3% 29.1%
Stock price per share:
High . . . . . . . . . . . . . . . . . . $ 59.50 $ 59.25 $ 63.75 $ 62.13 $ 59.25 $ 36.75
Low . . . . . . . . . . . . . . . . . . 43.25 45.13 46.25 43.50 34.75 23.00
Close . . . . . . . . . . . . . . . . . 44.50 58.38 57.50 48.75 53.50 36.75
Common shares outstanding
at end of year . . . . . . . . . . . . 20.5(2) 20.7(2) 21.0 20.8 20.6 20.4
- ---------------------------------------------------------------------------------------------------------------
INSURANCE(4)
Operating gain (loss) . . . . . . . . . . $ (26.4) $ 1.8 $ 22.9 $ 40.1 $ 46.2 $ 46.7
Loss ratio . . . . . . . . . . . . . . . 57.1% 50.3% 43.6% 37.1% 33.3% 35.0%
Expense ratio . . . . . . . . . . . . . 50.5% 49.2% 49.2% 49.4% 50.6% 49.0%
Combined ratio . . . . . . . . . . . . 107.6% 99.5% 92.8% 86.5% 83.9% 84.0%
- ---------------------------------------------------------------------------------------------------------------
ENGINEERING SERVICES
Gross revenues . . . . . . . . . . . . . $ 256.1 $ 264.7 $ 232.1 $ 193.8 $ 156.1 $ 119.0
Subcontract & equipment resale costs . . . 24.6 33.7 21.8 19.6 18.3 6.3
Net revenues . . . . . . . . . . . . . . 231.5 231.0 210.3 174.2 137.8 112.7
Operating gain . . . . . . . . . . . . . . 11.8 14.7 14.0 11.4 10.6 6.9
Gross margin . . . . . . . . . . . . . . 4.6% 5.6% 6.0% 5.9% 6.8% 5.8%
Net margin . . . . . . . . . . . . . . . 5.1% 6.4% 6.7% 6.5% 7.7% 6.1%
- ---------------------------------------------------------------------------------------------------------------
INVESTMENTS(4)
Net investment income . . . . . . . . . . $ 29.3 $ 32.0 $ 36.5 $ 37.9 $ 41.7 $ 35.8
Realized investment gains . . . . . . . . 26.1 30.8 33.9 27.6 16.4 12.1
Income from investment operations . . . 55.4 62.8 70.4 65.5 58.1 47.9
- ---------------------------------------------------------------------------------------------------------------
(1) All per share data has been restated to reflect stock splits.
(2) Reflects the repurchase of approximately .2 million shares in 1993, .3
million shares in 1992, 1 million shares in 1987 and 8 million shares in
1984.
(3) The Company recognized the cumulative effect of the adoption of FAS 109
"Accounting for Income Taxes", effective January 1, 1989 and restated
results for 1989 through 1991. FAS 109 was adopted in 1992.
(4) Certain prior year amounts have been reclassified to conform with the
Company's change in presentation of its investment in Engineering Insurance
Group.
(5) Certain prior year amounts have been reclassified to conform with the 1993
presentation related to the adoption of FAS 113, "Accounting and Reporting
for Reinsurance of Short-Duration and Long-Duration Contracts".
40
25
10 Year
Compound
Annual
1987 1986 1985 1984 Growth
$ 283.5 $ 268.6 $ 206.3 $ 158.3 9.1%
98.4 84.4 83.2 78.4 12.8%
44.4 41.7 29.5 37.0 7.0%
426.3 394.7 319.0 273.7 10.1%
- -----------------------------------------------------------
85.6 77.1 40.8 15.8 -6.9%
25.0 24.0 9.9 0.7 -6.9%
60.6 53.1 30.9 15.1 -6.9%
2.96 2.50 1.51 0.67 -3.8%
0.95 0.55 0.42 0.38 19.1%
- -----------------------------------------------------------
$ 701.7 $ 669.7 $ 563.2 $ 416.0 7.8%
62.6 68.5 71.7 71.7
216.7 216.3 159.5 112.0 5.8%
10.65 10.17 7.50 5.57 9.4%
26.9% 27.3% 23.2% 11.0%
$ 36.63 $ 25.50 $ 15.88 $ 7.44 22.8%
20.25 15.63 7.31 6.13 24.3%
23.00 23.56 15.62 7.31 20.8%
20.3(2) 21.3 21.3 20.1(2)
- -----------------------------------------------------------
$ 40.4 $ 37.6 $ 10.9 $ (25.2)
35.6% 36.5% 40.6% 52.4%
50.1% 49.5% 54.1% 63.5%
85.7% 86.0% 94.7% 115.9%
- -----------------------------------------------------------
$ 102.7 $ 88.2 $ 84.8 $ 80.1 14.0%
4.3 3.4 1.6 1.7 36.6%
98.4 84.8 83.2 78.4 13.0%
6.9 4.2 6.6 9.0 10.1%
6.7% 4.8% 7.8% 11.3%
7.0% 5.0% 8.0% 11.5%
- ------------------------------------------------------------
$ 33.6 $ 30.2 $ 25.1 $ 20.9 5.4%
10.8 11.5 4.4 16.1
44.4 41.7 29.5 37.0 7.0%
- ------------------------------------------------------------
[MARKET PRICE PER SHARE CHART -- SEE EDGAR APPENDIX]
[COMBINED RATIO CHART -- SEE EDGAR APPENDIX]
[ENGINEERING SERVICES MARGIN CHART -- SEE EDGAR APPENDIX]
41