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.
Concentration of the Property and Casualty Insurance Business in Michigan and
the Northeast
The Company's property and casualty insurance subsidiaries generate
substantially all of their net premiums written and earnings in Michigan and the
Northeast (Connecticut, Massachusetts, New York, New Jersey, New Hampshire,
Rhode Island, Vermont 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 and can be affected significantly by the following factors:
. 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
. other factors that affect investment returns
. 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 May Significantly Harm Property and Casualty Insurers
The Company may experience catastrophe losses in the future which could
signficantly affect its results of operations and financial condition and 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. Furthermore, the Company's property and
casualty insurance subsidiaries' reserves are annually certified as required by
insurance regulatory authorities. 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 be adequate
in light of subsequent actual experience.
Sensitivity to Interest Rates Relative to Life Insurance Subsidiaries
Interest rate fluctuations expose the Company's life insurance subsidiaries
to risk of disintermediation and reduction in interest spread or profit margins.
Interest rates also affect bond calls, mortgage prepayments, contract surrenders
and withdrawals of life insurance policies, annuities and guaranteed investment
contracts. 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
. management of mortality charges and dividend scales with respect to its
in force life insurance policies
The Company's operating results are exposed to changes in exchange rates
between the U.S. dollar and certain foreign currencies. Management attempts to
mitigate the effect of negative changes in currency exchange rates by entering
into foreign exchange swap contracts to hedge all of its net foreign currency
exposure.
Regulatory Oversight May Adversely Affect the Company
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
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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 Commissioners ("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.
Statutory Surplus
The capacity for an insurance company's growth in premiums is in part a
function of its statutory surplus. State insurance regulatory authorities and
private agencies that rate insurers' claims-paying abilities and financial
strength consider an insurer's statutory surplus level as measured by state
insurance regulators, to be important. 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.
Statutory Capital
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.
Ratings Downgrades May Harm the Company
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 designed to protect 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, 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.
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Competition
The Company's business consists of four principal segments: Property and
Casualty Insurance, Corporate Risk Management Services, Allmerica Financial
Services, and Allmerica Asset Management. Each of these industry segments 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.
Dependence on and Retention of Key Executives
The Company's success depends, in part, on the efforts and abilities of its
executives, and on John F. O'Brien, in particular. The Company does not have an
employment agreement with Mr. O'Brien. If the Company is unable to attract and
retain qualified executives and key employees, it could be seriously harmed.
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. Although Congress has not yet enacted any of these proposals, it is
currently considering such proposals or similar proposals. If any such proposals
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 judgements 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. 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 Securities and Exchange Commission (the "Commission")
notified the Company that it would be conducting a limited inspection of the
Company's marketing and sales practices associated with variable insurance
products. The Commission requested that the Company provide it with certain
information, which the Company promptly complied with. The Commission has not
instituted any litigation, nor has it initiated any further action with respect
to this matter.
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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
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 specified
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
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 third party assessment, the Company determined that significant
portions of its software required modification or replacement to enable its
computer systems to properly process dates beyond December 31, 1999. The Company
is presently completing the process of modifying or replacing existing software
and believes that this action will cause such systems to be Year 2000 compliant.
However, if the Company fails to make such modifications and conversions on a
timely basis, or if there are serious unanticipated interruptions from unknown
sources, the Year 2000 issue could have a material adverse impact on the
operations of the Company. Specifically, the Company could experience, among
other things, an interruption in its ability to collect and process premiums,
process claim payments, safeguard and manage its invested assets, accurately
maintain policyholder information, accurately maintain accounting records, and
perform customer service. Any of these specific events, depending on duration,
could have a material adverse impact on the results of operations and the
financial position of the Company.
The Company has initiated formal communications with all of its suppliers
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 Company's involvement on a third
party's Year 2000 program, 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
issue, there can be no assurance that exposure for material contingencies will
not arise.
The cost of the Year 2000 project will be expensed as incurred and is being
funded primarily through a reallocation of resources from discretionary projects
and a reduction in systems maintenance and support costs. Therefore, the Year
2000 project is not expected to result in any significant incremental technology
cost and is not expected to have a material effect on the results of operations.
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Approximately 10% of the Company's Year 2000 resources are currently
allocated to the Company's remediation plan, which has three mission critical
elements: internal systems, desktop systems, and external partners.
Internal Systems
Over 98% of the Company's internal systems have been corrected, tested for
year 2000 dates, and returned to production. The remaining systems, which
include relatively small systems waiting for vendor upgrade or scheduled
for elimination or replacement, are targeted to be complete by June 30,
1999.
Desktop Systems
The Company has verified that all desktop computers are capable of
correctly processing year 2000 dates. Additionally, over 98% of the third
party software installed on the Company's desktop machines has been
confirmed capable of processing year 2000 dates properly. The remaining
desktop systems are expected to be upgraded, eliminated, or replaced by
June 30, 1999.
External Partners
The Company has verified that 50% of its electronic interfaces will process
year 2000 dates correctly. Eighty percent of the Property and Casualty
agents have confirmed that they are capable of properly processing year
2000 dates. Sixty percent of the Company's non-electronic partners have
responded that they are capable of properly processing year 2000 dates.
Most external partners have informed the Company that they expect to be
compliant. The Company hopes for full compliance of external partners by
July 1, 1999.
In partnership with an outside consulting firm, the Company has completed
an enterprise-wide year 2000 business risk identification and assessment. The
Continuity of Operations Plan (COOP) requirements have been identified for all
business units of the Company and applicable plans are currently being
developed. These plans will contain immediate steps needed to keep business
functions operating while unforeseen Year 2000 issues are being addressed. It
outlines responses to situations that may affect critical business functions and
also provides triage guidance, a documented order of actions to respond to
problems. During the triage process, business priorities are established and
"Critical Points of Failure" are identified as having a significant impact on
the business. The Company's contingency plans are designed to keep business unit
operations functioning in the event of a failure or delay due to Year 2000
record format and date calculation changes. All plans, including individual
plans by business segment, are scheduled to be completed by September 30, 1999.
Contingency planning will utilize approximately 15% of the Company's Year 2000
resources in 1999.
The remaining 75% of the Company's Year 2000 resources will be utilized to
address on-going compliance issues. These include periodic reviews of
applications, installation and testing of new hardware and software packages,
testing new software maintenance and testing internally developed software.
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 responsiveness and
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, the
Year 2000 readiness of suppliers and business partners, and similar
uncertainties.
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