SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1996
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File No. 1-12644
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
(Exact name of registrant as specified in its charter)
NEW YORK 13-3261323
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)
350 PARK AVENUE
NEW YORK, NEW YORK 10022
(Address of principal executive offices)
(212) 826-0100
(Registrant's telephone number,
including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
At April 28,1996, there were outstanding 31,268,660 shares of Common Stock, par
value $0.01 per share, of the registrant.
INDEX
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PAGE
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PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Financial Security Assurance Holdings Ltd. and
Subsidiaries Consolidated Balance Sheets -
March 31, 1996 and December 31, 1995 3
Consolidated Statements of Income - Three months ended
March 31, 1996 and 1995 4
Consolidated Statement of Changes in Shareholders'
Equity - Three months ended March 31, 1996 5
Consolidated Statements of Cash Flows
- Three months ended March 31, 1996 and 1995 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
PART II OTHER INFORMATION, AS APPLICABLE
Item 6. Exhibits and Reports on Form 8-K 11
SIGNATURES 12
2
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
March 31, December 31,
ASSETS 1996 1995
Bonds, at market value (amortized cost of $1,066,251 and
$1,027,414) $1,064,964 $1,058,076
Stocks, at market value 10,000
Short-term investments 76,297 52,666
----------- -----------
Total investments 1,151,261 1,110,742
Cash 2,299 1,118
Deferred acquisition costs 131,404 132,951
Prepaid reinsurance premiums 139,014 133,548
Reinsurance recoverable on unpaid losses 62,126 61,532
Receivable for securities sold 2,298 2,326
Other assets 56,620 48,045
----------- -----------
TOTAL ASSETS $1,545,022 $1,490,262
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
Unearned premiums $ 479,240 $ 463,897
Losses and loss adjustment expenses 114,024 111,759
Deferred federal income taxes 30,404 41,936
Ceded reinsurance balances payable 13,576 13,664
Payable for securities purchased 70,021 9,516
Notes payable 30,000 30,000
Accrued expenses and other liabilities 37,374 41,543
----------- -----------
TOTAL LIABILITIES 774,639 712,315
----------- -----------
Preferred stock (3,000,000 shares authorized; 2,000,000
issued and outstanding; par value of $.01 per share) 20 20
Common stock (50,000,000 shares authorized; 32,276,301
issued; par value of $.01 per share) 323 323
Additional paid-in capital - preferred 680 680
Additional paid-in capital - common 696,253 696,253
Unrealized gain (loss) on investments (net of deferred
income tax (benefit) provision of ($450) and $10,731) (836) 19,931
Accumulated earnings 89,459 72,410
Deferred equity compensation 8,658 6,504
Less treasury stock at cost (1,007,641 and 774,276 shares
held) (24,174) (18,174)
------------ -----------
TOTAL SHAREHOLDERS' EQUITY 770,383 777,947
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $1,545,022 $1,490,262
========== ==========
See notes to condensed consolidated financial statements.
3
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
March 31,
---------------------------------------
1996 1995
---- ----
Revenues:
Net premiums written (net of premiums ceded
of $18,441 and $7,236) $34,139 $19,557
Decrease (increase) in unearned premiums (11,405) (4,342)
-------- -------
Premiums earned (net of premiums ceded of
$12,979 and $7,893) 22,734 15,215
Net investment income 15,682 12,354
Net realized gains 1,534 (4,793)
Other income 62 197
-------- ----------
TOTAL REVENUES 40,012 22,973
-------- ----------
Expenses:
Losses and loss adjustment expenses (net of
reinsurance recoveries of $560 and $999): 1,625 1,700
Interest expense 541 57
Policy acquisition costs 7,655 3,601
Other operating expenses 3,957 3,201
-------- ---------
TOTAL EXPENSES 13,778 8,559
-------- ---------
INCOME BEFORE INCOME TAXES 26,234 14,414
Provision for income taxes 6,690 3,609
--------
NET INCOME $19,544 $10,805
========= =========
Weighted average common shares outstanding 31,387 25,993
========= =========
Earnings per common share $ 0.62 $ 0.42
========= =========
See notes to condensed consolidated financial statements.
4
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)
Additional Additional Unrealized
Paid-In Paid-In Gain Deferred
Preferred Common Capital - Capital - (Loss) on Accumulated Equity Treasury
Stock Stock Preferred Common Investments Earnings Compensation Stock Total
----- ----- --------- ------ ----------- -------- ------------ ----- -----
BALANCE,
December 31, 1995 $20 $323 $680 $696,253 $19,931 $72,410 $6,504 $(18,174) $777,947
Net income 19,544 19,544
Net unrealized gain
on investments (20,767) (20,767)
Dividends paid on common stock
($0.08 per share) (2,495) (2,495)
Deferred equity compensation 2,154 2,154
Repurchase of common stock (6,000) (6,000)
--- ---- ---- ------- ------ ------- -------- -------- --------
BALANCE,
March 31, 1996 $20 $323 $680 $696,253 $ (836) $89,459 $8,658 $(24,174) $770,383
=== ==== ==== ======= ====== ======= ======== ======== ========
See notes to condensed consolidated financial statements.
5
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
THREE MONTHS ENDED MARCH 31,
1996 1995
---- ----
Cash flows from operating activities:
Premiums received, net $ 35,371 $ 15,755
Policy acquisition and other operating expenses
paid, net (22,192) (13,253)
Loss and LAE recovered (paid), net 105 (291)
Net investment income received 17,181 12,472
Recoverable advances paid (8,100) (4,159)
Federal income taxes recovered (paid) (1,799) 4,228
Interest paid (339) (464)
Other, net 65 (2,805)
----------- -----------
Net cash provided by operating activities 20,292 11,483
---------- ----------
Cash flows from investing activities:
Proceeds from sales of bonds 180,722 151,035
Purchases of bonds (167,486) (31,718)
Purchases of property and equipment (548) (340)
Net increase in short-term securities (23,304) (123,851)
---------- ---------
Net cash used for investing activities (10,616) (4,874)
---------- -----------
Cash flows from financing activities:
Payment of management notes (5,624)
Dividends paid (2,495) (2,078)
Treasury stock (6,000) (1,368)
----------- -----------
Net cash used for financing activities (8,495) (9,070)
----------- -----------
Net increase (decrease) in cash 1,181 (2,461)
Cash at beginning of period 1,118 2,742
----------- -----------
Cash at end of period $ 2,299 $ 281
========== ===========
See notes to condensed consolidated financial statements.
6
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 1996 AND 1995
1. ORGANIZATION AND OWNERSHIP
Financial Security Assurance Holdings Ltd. (the Company) is an insurance
holding company domiciled in the State of New York. The Company is primarily
engaged (through its insurance subsidiaries, collectively known as FSA) in the
business of providing financial guaranty insurance on asset- backed and
municipal obligations. At March 31, 1996, the Company was owned 50.7% by U S
WEST Capital Corporation (U S WEST), 7.9% by Fund American Enterprises Holdings,
Inc. (Fund American), 6.2% by The Tokio Marine and Fire Insurance Co., Ltd.
(Tokio Marine) and 35.2% by the public and employees.
2. BASIS OF PRESENTATION
The accompanying consolidated financial statements have been prepared in
accordance with instructions to Form 10-Q and, accordingly, do not include all
of the information and disclosures required by generally accepted accounting
principles. These statements should be read in conjunction with the consolidated
financial statements and notes thereto included in the Company's 1995 Annual
Report to Shareholders. The accompanying financial statements have not been
audited by independent accountants in accordance with generally accepted
auditing standards but, in the opinion of management, all adjustments, which
include only normal recurring adjustments, necessary to present fairly the
financial position, results of operations and cash flows at March 31, 1996 and
for all periods presented have been made. The December 31, 1995 condensed
balance sheet data was derived from audited financial statements, but does not
include all disclosures required by generally accepted accounting principles.
The results of operations for the periods ended March 31, 1996 and 1995 are not
necessarily indicative of the operating results for the full year.
Certain amounts in the 1995 financial statements have been reclassed to
conform to the 1996 presentation.
In the first quarter of 1996, the Company has recharacterized its cash
equivalents as short term investments. The amount of cash equivalents
recharacterized were $24.3 million and $38.1 million, as of March 31, 1996 and
December 31, 1995, respectively.
3. SUBSEQUENT EVENT
In the second quarter of 1996, the Board of Directors of the Company
approved (i) the purchase of 1.0 million shares of the Company's common stock
from U S WEST for a purchase price of $26.50 per share, payable in cash and (ii)
entering into a forward agreement with National Westminster Bank Plc and its
designee(s) (the Counterparty) in respect of up to 1.75 million shares (the
Forward Shares) of the Company's common stock. Under the forward agreement, the
Company will have the right to either (a) purchase the Forward Shares from the
Counterparty for a price equal to $26.50 per share plus carrying costs or (b)
direct the Counterparty to sell the Forward Shares, receiving any excess or
making up any shortfall between the sale proceeds and $26.50 per share plus
carrying costs in cash or additional shares, at its option. U S WEST has also
agreed to sell to Fund American 1.0 million shares of the Company's common stock
for a purchase price of $26.50 per share.
In May 1996, U S WEST, Inc. sold to Salomon Inc debt exchangeable for
common stock ("DECS") which, at maturity, is exchangable, at the option of U S
WEST, Inc., for up to 9,796,303 shares of the Company's common stock owned by
US WEST.
7
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
1996 AND 1995 FIRST QUARTER RESULTS
The Company's 1996 first quarter net income was $19.5 million, compared with
$10.8 million for the same period in 1995, an increase of 80.9%. The increase
was primarily attributable to higher core net income and capital gains. In
December 1995, a subsidiary of the Company merged with Capital Guaranty, so that
in the first quarter of 1996 the Company began to realize the benefits of the
merger when compared to the previous year as total core revenues increased $8.4
million, from $25.8 million in 1995 to $34.1 million in 1996, while total core
expenses increased only $2.8 million. In addition the Company recognized
after-tax capital gains of $1.0 million in the first quarter of 1996 compared to
$3.1 million of capital losses in the first quarter of 1995.
Operating net income (net income less the after-tax effect of net realized
capital gains or losses) was $18.5 million for the first quarter of 1996 versus
$13.9 million for the comparable period in 1995, an increase of $4.6 million or
33.2%. Core net income (operating net income less the after-tax effect of
refundings and prepayments) was $17.6 million for the first quarter of 1996
versus $12.9 million for the comparable period in 1995, an increase of $4.7
million or 5.9%.
There are two measures of gross premiums originated for a given period. Gross
premiums written captures premiums collected in the period, whether collected
up-front for business originated in the period, or in installments for business
originated in prior periods. An alternative measure, the gross present value of
premiums written (gross PV premiums written) reflects future installment
premiums discounted to a present value, as well as up-front premiums, but only
for business originated in the period. The Company considers gross PV premiums
written to be the better indicator of a given period's origination activity
because a substantial part of the Company's premiums are collected in
installments, a practice typical of the asset-backed business. Regardless of the
measure used, quarter to quarter comparisons are of limited significance because
originations fluctuate from quarter to quarter but historically have not
exhibited a seasonal pattern.
Gross premiums written increased 96.3%, from $26.8 million for the first quarter
of 1995 to $52.6 million for the first quarter of 1996. Gross PV premiums
written also increased from $41.1 million in the first quarter of 1995 to $61.4
million in 1996, an increase of 49.3%. In the first quarter of 1996,
asset-backed gross PV premiums written were $37.2 million, as compared to $25.2
million in 1995, as several large, high-premium transactions were underwritten
within the pooled corporate obligations sector. However, management does not
necessarily believe that this same growth level within the asset-backed sector
will continue throughout the year. For the municipal business, gross PV premiums
written in the first quarter increased from $15.9 million in 1995 to $24.2
million in 1996, an increase of 52.4%. This increase was primarily attributable
to the additional underwriting capabilities the Company realized from the
merger.
In the first quarter of 1996, the Company insured bonds totaling $5.4 billion, a
34.6% increase over the same period in 1995. The first quarter asset-backed
component rose 4.6% to $3.0 billion while the municipal sector rose 110.8% to
$2.4 billion. Compared with the combined FSA and Capital Guaranty first quarter
production in 1995, the increase would have been 22.8%.
Net premiums written were $34.1 million for the first quarter of 1996, an
increase of $14.5 million or 74.6% when compared with $19.6 million in 1995. The
increase in net premiums written was less than that of gross premiums written
because the Company increased the amounts ceded on a facultative basis for the
asset-backed business in 1996 as compared to the first quarter of 1995. This
facultative reinsurance was utilized on the several large, high-premium
transactions noted above, and therefore this level of reinsurance may not
continue at the same rate over the year.
8
Net premiums earned for the first quarter of 1996 were $22.7 million, compared
with $15.2 million in 1995, an increase of 49.4%. Premiums earned from
refundings and prepayments were $4.3 million for the first quarter of 1996 and
$2.0 million for the same period of 1995, with both periods contributing $1.0
million to after-tax earnings. Net premiums earned for the quarter grew 39.1%
relative to 1995 when the effects of refundings and prepayments are eliminated.
While prepayments may continue throughout the remainder of the year, no
assurances can be given that they will continue at the same level that was
experienced in the first quarter of 1996.
Net investment income was $15.7 million for the first quarter of 1996 and $12.4
million for the comparable period in 1995, an increase of 26.9%. The increase in
investment income is primarily due to additional invested assets acquired in the
merger. The Company's effective tax rate on investment income has decreased from
22.9% for the first quarter of 1995 to 18.6% in 1996, as the holdings of
tax-exempt securities has increased. In the first quarter of 1996, the Company
realized net capital gains of gains of $1.5 million as compared with realized
net capital losses of $4.8 million for the same period in 1995. Capital gains
are a by-product of the normal investment management process and will vary
substantially from period to period.
The provisions for losses and loss adjustment expenses during the first quarters
of 1996 and 1995 were $1.6 million and $1.7 million, respectively, representing
additions to the Company's general loss reserve. The additions to the general
reserve represent management's estimate of the amount required to adequately
cover the net cost of claims. The Company will, on an ongoing basis, monitor
these reserves and may periodically adjust such reserves based on the Company's
actual loss experience, its future mix of business, and future economic
conditions. At March 31, 1996, the unallocated balance in the Company's general
loss reserve was $33.3 million.
Total policy acquisition and other operating expenses were $11.6 million for the
first quarter of 1996 compared with $6.8 million for the same period in 1995, an
increase of 70.7%. Excluding the effects of refundings, total policy acquisition
and other operating expenses were $8.7 million for the first quarter of 1996
compared with $6.4 million for the same period in 1995, an increase of 35.8%.
The increase was primarily the result of higher DAC amortization due to a higher
level of premiums earned and increased accruals for performance plan payouts due
to another plan year added to the accrual base.
Income before income taxes for the first quarter of 1996 was $26.2 million, up
from $14.4 million, or 82.0%, for the same period in 1995.
The Company's effective tax rate for the first quarter of 1996 was 25.5%
compared with 25.0% for the same period in 1995. The increase in effective tax
rates from the first quarter of 1995 to 1996 was due to higher levels income at
full statutory tax rates.
For the quarter ended March 31, 1996, the weighted average number of shares of
common stock outstanding increased to 31,387,000 from 25,993,000 during the
first quarter of 1995. This increase was due to additional shares issued by the
Company in the merger with Capital Guaranty. Earnings per share increased from
$0.42 for the first quarter of 1995 to $0.62 for the same period in 1996.
LIQUIDITY AND CAPITAL RESOURCES
The Company's consolidated invested assets and cash equivalents at March 31,
1996, net of unsettled security transactions, was $1,084.0 million, a 1.8%
decrease from the December 31, 1995 balance of $1,103.6 million. This decrease
is primarily the result of a change in the market value of the investment
portfolio, which included an unrealized gain position of $30.7 million at
December 31, 1995 and an unrealized loss position of $1.3 million at March 31,
1996.
Because the operations of the Company are conducted through FSA, the ability of
the Company to declare and pay dividends both on a short- and long-term basis
will be largely dependent upon FSA's ability to do so and upon external
financings.
9
FSA's ability to pay dividends is dependent upon FSA's financial condition,
results of operations, cash requirements, rating agency approval and other
related factors and is also subject to restrictions contained in the insurance
laws and related regulations of New York and other states. Under New York State
insurance law, FSA may pay dividends out of earned surplus, provided that,
together with all dividends declared or distributed by FSA during the preceding
12 months, the dividends do not exceed the lesser of (i) 10% of policyholders'
surplus as of its last statement filed with the New York Superintendent of
Insurance or (ii) adjusted net investment income during this period. FSA, in
January 1996, declared a dividend of $10.0 million to the Company which was paid
in February 1996. FSA, on April 24, 1996, declared a dividend of $8.0 million.
As a customary condition for approving in September, 1994, the application of
Fund American for a change in control of FSA, the prior approval of the New York
Superintendent is required for payment of dividends by FSA to the Company for a
period of two years following such change of control. Such prior approvals have
been obtained by FSA in respect of such quarterly dividend since September, 1994
in the ordinary course.
FSA has several sources of liquidity as discussed in the Company's 1995 Annual
Report to Shareholders. In addition to these sources, FSA on April 30, 1996,
entered into an agreement with a AAA/Aaa rated international bank for a $125.0
million credit facility which expires on January 31, 2003, unless extended. This
facility is a seven-year stand-by irrevocable limited recourse line-of-credit
which provides liquidity and credit support to FSA in the event losses from
municipal obligations in FSA's insured portfolio exceed specified limits.
Repayment of amounts drawn under the line will be limited primarily to
recoveries of losses related to such municipal obligations.
A subsidiary of the Company has $30.0 million outstanding long-term debt. The
Company has no plans for capital expenditures within the next twelve months.
10
PART II
OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
(1) Financial statements of Financial Security Assurance Inc. for
the quarterly period ended March 31, 1996.
(2) Employment Agreement dated December 20, 1995, between the
Company and Michael Djordjevich
(3) Severance Policy for Senior Management (Effective February 8,
1995)
(4) 1993 Equity Participation Plan, as Amended and Restated as of
February 14, 1996
(5) Amended and Restated By-laws of the Company, as amended and
restated on February 14, 1996
(b) Reports on Form 8-K
None
11
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
By /s/ Jeffrey S. Joseph
May 13, 1996 Jeffrey S. Joseph
Managing Director & Controller (Chief Accounting Officer)
12
Exhibit Index
Exhibit No. Exhibit
1. Financial statements of Financial Security Assurance Inc. for the
quarterly period ended March 31, 1996
2. Employment Agreement dated December 20, 1995, between the Company
and Michael Djordjevich
3. Severance Policy for Senior Management (Effective February 8,
1995)
4. 1993 Equity Participation Plan, as Amended and Restated as of
February 14, 1996
5. Amended and Restated By-laws of the Company, as amended and
restated on February 14, 1996