EXHIBIT 99.2
ALLMERICA FINANCIAL CORPORATION
IMPORTANT FACTORS REGARDING FORWARD-LOOKING STATEMENTS
The Company wishes to caution readers that the following important factors,
among others, in some cases have affected the Company's results and in the
future could cause actual results and needs of the Company to vary materially
from forward-looking statements made from time to time by the Company on the
basis of management's then-current expectations. The businesses in which the
Company is engaged are in rapidly changing and competitive markets and involve a
high degree of risk, and accuracy with respect to forward looking projections is
difficult.
GEOGRAPHIC CONCENTRATION IN THE PROPERTY AND CASUALTY INSURANCE BUSINESS
Substantially all of the Company's property and casualty insurance
subsidiaries net premiums written and earnings are generated in Michigan and the
Northeast (Connecticut, Massachusetts, New York, New Jersey, New Hampshire and
Maine). The revenues and profitability of the Company's property and casualty
insurance subsidiaries are therefore subject to prevailing economic, regulatory,
demographic and other conditions, including adverse weather, in Michigan and the
Northeast.
CYCLICALITY IN THE PROPERTY AND CASUALTY INSURANCE INDUSTRY
Historically, the property and casualty insurance industry has been highly
cyclical. The property and casualty industry's profitability can be affected
significantly by price competition, volatile and unpredictable developments such
as extreme weather conditions and natural disasters, legal developments
affecting insurer liability and the size of jury awards, fluctuations in
interest rates and other factors that affect investment returns and other
general economic conditions and trends that may affect the adequacy of reserves.
Over the past several years, the property and casualty insurance industry as
a whole has been in a soft market. Competition for premiums in the property and
casualty insurance markets may continue to have an adverse impact on the
Company's rates and profitability.
CATASTROPHE LOSSES IN THE PROPERTY AND CASUALTY INSURANCE INDUSTRY
Property and casualty insurers are subject to claims arising out of
catastrophes, which may have a significant impact on their results of operations
and financial condition. The Company may experience catastrophe losses in the
future which could have a material adverse impact on the Company. Catastrophes
can be caused by various events including hurricanes, earthquakes, tornadoes,
wind, hail, fires, severe winter weather and explosions, and the frequency and
severity of catastrophes are inherently unpredictable. The extent of losses
from a catastrophe is a function of two factors: the total amount of insured
exposure in the area affected by the event and the severity of the event.
Although catastrophes can cause losses in a variety of property and casualty
lines, homeowners and commercial property insurance have in the past generated
the vast majority of the Company's catastrophe-related claims. The Company
purchases catastrophe reinsurance as protection against catastrophe losses. The
Company believes, based upon its review of its reinsurers' financial statements
and reputations in the reinsurance marketplace, that the financial condition of
its reinsurers is sound. However, there can be no assurance that reinsurance
will be adequate to protect the Company against such losses or that such
reinsurance will continue to be available to the Company in the future at
commercially reasonable rates.
UNCERTAINTY REGARDING ADEQUACY OF PROPERTY AND CASUALTY LOSS RESERVES
The Company's property and casualty insurance subsidiaries maintain reserves
to cover their estimated ultimate liability for losses and loss adjustment
expenses ("LAE") with respect to reported and unreported claims incurred as of
the end of each accounting period. These reserves are estimates, involving
actuarial projections at a given time, of what the Company's property and
casualty insurance subsidiaries expect the ultimate settlement and
administration of claims will cost based on facts and circumstances then known,
predictions of future events, estimates of future trends in claims severity and
judicial theories of liability, legislative activity and other factors. The
inherent uncertainties of estimating reserves are greater for certain types of
property and casualty insurance lines, particularly workers' compensation, where
a longer period of time may elapse before a definitive determination of ultimate
liability may be made, and environmental liability, where the technological,
judicial and political climates involving these types of claims are changing.
The Company's property and casualty insurance subsidiaries regularly review
reserving techniques, reinsurance and overall reserve adequacy. Based upon (I)
review of historical data, legislative enactments, judicial decision, legal
developments in imposition of damages, changes in political attitudes and trends
in general economic conditions; (ii) review of per claim information; (iii)
historical loss experience of the property and casualty insurance subsidiaries
and the industry; and (iv) the relatively short-term nature of most of its
property and casualty insurance policies, management believes that adequate
provision has been made for reserves. However, establishment of appropriate
reserves is an inherently uncertain process involving estimates of future losses
and there can be no certainty that currently established reserves will prove
adequate in light of subsequent actual experience. The Company's property and
casualty insurance subsidiaries' reserves are annually certified as required by
insurance regulatory authorities.
SENSITIVITY TO INTEREST RATES RELATIVE TO LIFE INSURANCE SUBSIDIARIES
The Company's life insurance subsidiaries are exposed to risk of
disintermediation and reduction in interest spread or profit margins when
interest rates fluctuate. Bond calls, mortgage prepayments, contract surrenders
and withdrawals of life insurance policies, annuities and guaranteed investment
contracts are influenced by the interest rate environment. Since the Company's
life insurance subsidiaries' investment portfolios consist primarily of fixed
income assets, the investment portfolio market value and the yields on newly
invested and reinvested assets vary depending on interest rates. Management
attempts to mitigate any negative impact of interest rate changes through
asset/liability management, product design (including an increased focus on
variable insurance products), management of crediting rates, use of hedging
techniques, relatively high surrender charges and management of mortality
charges and dividend scales with respect to its in force life insurance
policies.
REGULATORY, SURPLUS, CAPITAL, RATING AGENCY AND RELATED MATTERS
Insurance companies are subject to supervision and regulation by the state
insurance authority in each state in which they transact business. Such
supervision and regulation relate to numerous aspects of an insurance company's
business and financial condition, including limitations on the authorization of
lines of business, underwriting limitations, the setting of premium rates, the
establishment of standards of solvency, the licensing of insurers and agents,
concentration of investments, levels of reserves, the payment of dividends,
transactions with affiliates, changes of control and the approval of policy
forms. Such regulation is concerned primarily with the protection of
policyholders.
State regulatory oversight and various proposals at the federal level
(including the proposed adoption of a federal regulatory framework for insurance
companies) may in the future adversely affect the Company's ability to sustain
adequate returns in certain lines of business. In recent years, the state
insurance regulatory framework has come under increased federal scrutiny, and
certain state legislatures have considered or enacted laws that alter and, in
many cases, increase state authority to regulate insurance companies and
insurance holding company systems. Further, the National Association of
Insurance Commissioner ("NAIC") and state insurance regulators are reexamining
existing laws and regulations, and as a condition to accreditation have required
the adoption of certain model laws which specifically focus on insurance company
investments, issues relating to the solvency of insurance companies, risk-based
capital
("RBC") guidelines, interpretations of existing laws, the development of new
laws, and the definition of extraordinary dividends.
The capacity for an insurance company's growth in premiums is in part a
function of its statutory surplus. Maintaining appropriate levels of statutory
surplus, as measured by state insurance regulators, is considered important by
state insurance regulatory authorities and the private agencies that rate
insurers' claims-paying abilities and financial strength. Failure to maintain
certain levels of statutory surplus could result in increased regulatory
scrutiny, action by state regulatory authorities or a downgrade by the private
rating agencies.
The NAIC has created a new system for assessing the adequacy of statutory
capital for life and health insurers and property and casualty insurers. The
new system, known as risk-based capital, is in addition to the states' fixed
dollar minimum capital and other requirements. The new system is based on risk-
based formulas (separately defined for life and health insurers and property and
casualty insurers) that apply prescribed factors to the various risk elements in
an insurer's business to report a minimum capital requirement proportional to
the amount of risk assumed by the insurer.
In addition, in 1997, A.M. Best decided to no longer rate Citizens
independently from its majority parent, The Hanover Insurance Company, but
instead rated the two separate companies as a group. Consequently, Citizens was
assigned Best's "A (Excellent)" rating, despite its "A+ (Superior)"
qualifications. Management believes that its strong ratings are important
factors in marketing the products of its insurance companies to its agents and
customers, since rating information is broadly disseminated and generally used
throughout the industry. Insurance company ratings are assigned to an insurer
based upon factors relevant to policyholders and are not directed toward
protections of investors. Such ratings are neither a rating of securities nor a
recommendation to buy, hold or sell any security. Further downgrades may have a
material adverse effect on the Company's business and prospects.
STATE GUARANTY FUNDS, SHARED MARKETS MECHANISMS AND POOLING ARRANGEMENTS
All fifty states of the United States have insurance guaranty fund laws
requiring all life and health and property and casualty insurance companies
doing business within the state to participate in guaranty associations, which
are organized to pay contractual obligations under insurance policies issued by
impaired or insolvent insurance companies. These associations levy assessments
(up to prescribed limits) on all member insurers in a particular state on the
basis of the proportionate share of the premiums written by member insurers in
the lines of business in which the impaired or insolvent insurer is engaged.
Mandatory assessments by state guaranty funds are used to cover losses to
policyholders of insolvent or rehabilitated companies and can be partially
recovered through a reduction in future premium taxes in many states. These
assessments may increase in the future depending upon the rate of insolvencies
of insurance companies.
In addition, as a condition to the ability to conduct business in various
states, the Company's property and casualty insurance subsidiaries are required
to participate in mandatory property and casualty shared market mechanisms or
pooling arrangements, which provide various insurance coverages to individuals
or other entities that otherwise are unable to purchase such coverage
voluntarily provided by private insurers. The Company cannot predict whether
its participation in these shared market mechanisms or pooling arrangements will
provide underwriting profits or losses to the Company.
COMPETITION
The Company's business is composed of four principal segments: Property and
Casualty Insurance, Corporate Risk Management Services, Allmerica Financial
Services, and Institutional Services. Each of these industry segments, in
general, is highly competitive. The Company's products and services compete not
only with those offered by insurance companies, but also with products offered
by other financial institutions and health maintenance organizations. In all of
its segments, many of the Company's competitors are larger and have greater
financial, technical, and operating resources than those of the Company. In
addition, the company may face additional competition from banks and other
financial institutions should current regulatory restrictions on the sale of
insurance and securities by these institutions be repealed.
RETENTION OF KEY EXECUTIVES
The future success of the Company will be affected by its continued ability to
attract and retain qualified executives. The Company's success is dependent in
large part on John F. O'Brien, the loss of whom could adversely affect the
Company's business. The Company does not have an employment agreement with Mr.
O'Brien.
FEDERAL INCOME TAX LEGISLATION
Currently, under the Code, holders of certain life insurance and annuity
products are entitled to tax-favored treatment on these products. For example,
income tax payable by policyholders on investment earnings under certain life
insurance and annuity products is deferred during the product's accumulation
period and is payable, if at all, only when the insurance or annuity benefits
are actually paid or to be paid. Also, for example, interest on loans up to
$50,000 secured by the cash value of certain insurance policies owned by
businesses is eligible for deduction even though investment earnings during the
accumulation period are tax-deferred.
In the past, legislation has been proposed that would have curtailed the tax-
favored treatment of the life insurance and annuity products offered by the
Company. These proposals were not enacted, however; such proposals or similar
proposals are currently under consideration by Congress. If these or similar
proposals directed at limiting the tax-favored treatment of life insurance
policies and annuity contracts were enacted, market demand for such products
offered by the Company would be adversely affected.
SALES PRACTICES
A number of civil jury verdicts have been returned against life and health
insurers in the jurisdictions in which the Company does business involving the
insurers' sales practices, alleged agent misconduct, failure to properly
supervise agents, and other matters. Some of the lawsuits have resulted in the
award of substantial judgments against the insurer, including material amounts
of punitive damages. In some states, juries have substantial discretion in
awarding punitive damages in these circumstances. The Company and its
subsidiaries, from time to time are involved in such litigation. Although the
outcome of any litigation cannot be predicted with certainty, to date, no such
lawsuit has resulted in the award of any material amount of damages against the
Company.
In December 1996, the Company received notice from the Securities and Exchange
Commission (the "Commission") that it would be conducting a limited inspection
concerning the Company's marketing and sales practices associated with variable
insurance products. The Commission requested that certain information be
provided to it by the Company, which the Company promptly complied with. No
litigation has been instituted, nor has the Commission initiated any further
action with respect to this matter.
HEALTH CARE REFORM LEGISLATION
There continue to be a number of legislative and regulatory proposals
introduced at the federal and state level to reform the current health care
system. At the federal level, recent proposals have focused on managed care
reform, and patient protection and advocacy. State and federal legislation
adopted over the past few years generally limits the flexibility of insurers
with respect to underwriting practices for small employer plans that contain
less than 50 employees, provides for crediting previous coverage for the
purposes of determining pre-existing conditions, and limits the ability to
medically underwrite individual risks in the group market. In addition, several
states have enacted managed care reform legislation which may change managed
care programs. While future legislative activity is unknown, it is probable that
limitations on insurers that utilize managed care programs or market health
insurance to small employers will continue. However, the Company's rating,
underwriting practices, and managed care programs are consistent with the
objective of current reform initiatives. For example, the Company does not
experience rate small cases, nor does it refuse coverage to eligible individuals
because of medical histories. Also, its managed care programs provide for
coverage outside of the preferred network and allow for open communication
between a doctor and his/her patient. Because of its emphasis on managed care
and risk sharing partnerships, management believes that it will continue to be
able to operate effectively in the event of further reform, even if specific
states expand the existing limitations.
The Company believes that the proposed federal and state health care reforms
would, if enacted, substantially expand access to and mandate the amounts of
health care coverage while limiting or eliminating insurer's flexibility and
restrict the profitability of health insurers and managed care providers. The
Company cannot predict whether any of the current proposals will be enacted or
access the particular impact such proposals may have on the Company's Corporate
Risk Management Services' business.
IMPACT OF THE YEAR 2000 ISSUE
The Year 2000 Issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any of the Company's
computer programs that have date-sensitive software may recognize a date using
"00" as the year 1900 rather than the year 2000. This could result in a system
failure or miscalculations causing disruptions of operations, including, among
other things, a temporary inability to process transactions, send invoices, or
engage in similar normal business activities.
Based on a recent assessment, the Company determined that it will be required
to modify or replace significant portions of its software so that its computer
systems will properly utilize dates beyond December 31, 1999. The Company
presently believes that with modifications to existing software and conversions
to new software, the Year 2000 Issue can be resolved. However, if such
modifications and conversions are not made, or are not completed timely, the
Year 2000 Issue could have a material impact on the operations of the Company.
The Company has initiated formal communications with all of its significant
suppliers and large customers to determine the extent to which the Company is
vulnerable to those third parties' failure to remediate their own Year 2000
Issue. The Company's total Year 2000 project cost and estimates to complete the
project include the estimated costs and time associated with the impact of a
third party's Year 2000 Issue, and are based on presently available information.
However, there can be no guarantee that the systems of other companies on which
the Company's systems rely will be timely converted, or that a failure to
convert by another company, or a conversion that is incompatible with the
Company's systems, would not have material adverse effect on the Company. The
Company does not believe that it has material exposure to contingencies related
to the Year 2000 Issue for the products it has sold. Although the Company does
not believe that there is a material contingency associated with the Year 2000
project, there can be no assurance that exposure for material contingencies will
not arise.
The Company will utilize both internal and external resources to reprogram, or
replace, and test the software for Year 2000 modifications. The Company plans
to complete the mission critical elements of the Year 2000 project by December
31, 1998. The cost of the Year 2000 project will be expensed as incurred over
the next two years, and is being funded through a reallocation of resources from
discretionary projects. Therefore, the Year 2000 project is not expected to
result in significant incremental technology costs or to have material effect on
the results of operations.
The costs of the project and the date on which the Company plans to complete
the Year 2000 modifications are based on management's best estimates, which were
derived utilizing numerous assumptions of future events including the continued
availability of certain resources, third party modification plans and other
factors. However, there can be no guarantee that these estimates will be
achieved and actual results could differ materially from those plans. Specific
factors that might cause such material differences include, but are not limited
to, the availability and cost of personnel trained in this area, the ability to
locate and correct all relevant computer codes, and similar uncertainties.