SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Quarterly Period Ended June 30, 2000
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 1-10777
Ambac Financial Group, Inc.
(Exact name of Registrant as specified in its charter)
Delaware 13-3621676
(State of incorporation) (I.R.S. employer identification no.)
One State Street Plaza
New York, New York 10004
(Address of principal executive offices) (Zip code)
(212) 668-0340
(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__
-
As of June 30, 2000, 69,860,269 shares of Common Stock, par value $0.01
per share, (net of 820,115 treasury shares) of the Registrant were outstanding.
Ambac Financial Group, Inc. and Subsidiaries
INDEX
-----
PAGE
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PART I FINANCIAL INFORMATION
Item 1. Consolidated Unaudited Financial Statements
Consolidated Balance Sheets - June 30, 2000
and December 31, 1999 ..................................................... 3
Consolidated Statements of Operations - three months and six months
ended June 30, 2000 and 1999 .............................................. 4
Consolidated Statements of Stockholders' Equity - six months ended
June 30, 2000 and 1999 .................................................... 5
Consolidated Statements of Cash Flows - six months ended
June 30, 2000 and 1999 .................................................... 6
Notes to Consolidated Unaudited Financial Statements ...................... 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ....................................... 10
Item 3. Quantitative and Qualitative Disclosures About
Market Risk ............................................................... 21
PART II OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders ....................... 23
Item 6. Exhibits and Reports on Form 8-K .......................................... 24
SIGNATURES ......................................................................... 25
INDEX TO EXHIBITS .................................................................. 26
PART 1 - FINANCIAL INFORMATION
Item 1 - Financial Statements of Ambac Financial Group, Inc. and Subsidiaries
Ambac Financial Group, Inc. and Subsidiaries
Consolidated Balance Sheets
June 30, 2000 and December 31, 1999
(Dollars in Thousands)
June 30, 2000 December 31, 1999
------------- -----------------
(unaudited)
Assets
- ------
Investments:
Fixed income securities, at fair value
(amortized cost of $8,495,124 in 2000 and $9,028,184 in 1999) $ 8,297,541 $ 8,738,471
Short-term investments, at cost (approximates fair value) 128,556 220,896
Other 5,341 3,168
----------------- --------------
Total investments 8,431,438 8,962,535
Cash 11,971 13,588
Securities purchased under agreements to resell 146,003 103,000
Receivable for investment agreements 254,750 45,918
Receivable for securities sold 6,470 15,369
Investment income due and accrued 113,465 128,668
Reinsurance recoverable 668 500
Prepaid reinsurance 232,723 217,977
Deferred acquisition costs 142,080 135,324
Deferred income taxes 10,590 57,377
Loans 691,231 685,488
Receivable from brokers and dealers 500,000 717,000
Other assets 256,844 262,352
----------------- --------------
Total assets $ 10,798,233 $ 11,345,096
================= ==============
Liabilities and Stockholders' Equity
- ------------------------------------
Liabilities:
Unearned premiums $ 1,441,946 $ 1,431,076
Losses and loss adjustment expenses 127,300 121,475
Ceded reinsurance balances payable 8,160 15,028
Obligations under investment and payment agreements 3,773,509 4,180,513
Obligations under investment repurchase agreements 1,828,151 1,959,741
Current income taxes 21,239 24,831
Debentures 424,028 423,995
Accrued interest payable 77,269 91,142
Other liabilities 266,642 268,696
Payable to brokers and dealers 500,000 717,000
Payable for securities purchased 99,935 93,149
----------------- --------------
Total liabilities 8,568,179 9,326,646
----------------- --------------
Stockholders' equity:
Preferred stock -- --
Common stock 707 707
Additional paid-in capital 526,768 525,012
Accumulated other comprehensive loss (132,416) (187,540)
Retained earnings 1,871,599 1,713,446
Common stock held in treasury at cost (36,604) (33,175)
----------------- --------------
Total stockholders' equity 2,230,054 2,018,450
----------------- --------------
Total liabilities and stockholders' equity $ 10,798,233 $ 11,345,096
================= ==============
See accompanying Notes to Consolidated Unaudited Financial Statements
3
Ambac Financial Group, Inc. and Subsidiaries
Consolidated Statements of Operations
(Unaudited)
For the Periods Ended June 30, 2000 and 1999
(Dollars in Thousands Except Share Data)
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------------------- --------------------------------------
2000 1999 2000 1999
-------------------------------------- --------------------------------------
Revenues:
Financial Guarantee:
Gross premiums written $121,669 $98,708 $191,007 $188,862
Ceded premiums written (26,247) (16,458) (42,374) (21,544)
----------------- ----------------- ----------------- -----------------
Net premiums written $95,422 $82,250 $148,633 $167,318
================= ================= ================= =================
Net premiums earned $80,921 $63,944 $152,079 $124,241
Net fees earned and other income 1,206 1,077 3,001 2,584
Net investment income 58,902 51,296 116,533 100,780
Net realized gains (losses) 2,017 (5,569) 2,479 (5,480)
Financial Services:
Revenue 21,127 13,138 35,569 25,850
Net realized losses (7,090) (2,987) (7,271) (3,300)
Other:
Revenue 438 2,603 1,005 6,423
Net realized gains - - - 775
----------------- ----------------- ----------------- -----------------
Total revenues 157,521 123,502 303,395 251,873
----------------- ----------------- ----------------- -----------------
Expenses:
Financial Guarantee:
Losses and loss adjustment expenses 3,600 2,500 6,849 5,000
Underwriting and operating expenses 13,876 11,872 27,354 23,789
Financial Services 6,276 6,779 12,755 13,756
Interest 9,380 9,094 18,759 18,177
Other 2,219 1,272 3,414 3,215
----------------- ----------------- ----------------- -----------------
Total expenses 35,351 31,517 69,131 63,937
----------------- ----------------- ----------------- -----------------
Income before income taxes 122,170 91,985 234,264 187,936
Provision for income taxes 29,530 21,016 55,986 43,773
----------------- ----------------- ----------------- -----------------
Net income $92,640 $70,969 $178,278 $144,163
================= ================= ================= =================
Net income per share $1.33 $1.02 $2.55 $2.06
================= ================= ================= =================
Net income per diluted share $1.30 $1.00 $2.50 $2.02
================= ================= ================= =================
Weighted average number of
shares outstanding 69,828,677 69,877,457 69,845,690 69,898,316
================= ================= ================= =================
Weighted average number of diluted
shares outstanding 71,259,881 71,309,111 71,217,284 71,319,712
================= ================= ================= =================
See accompanying Notes to Consolidated Unaudited Financial Statements
4
Ambac Financial Group, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
(Unaudited)
For The Six Months Ended June 30, 2000 and 1999
(Dollars in Thousands)
2000 1999
--------------------------- -----------------------------
Retained Earnings:
Balance at January 1 $1,713,446 $1,449,832
Net income 178,278 $178,278 144,163 $144,163
------------- -------------
Dividends declared - common stock (15,375) (13,983)
Exercise of stock options (4,750) (2,110)
--------------- ----------------
Balance at June 30 $1,871,599 $1,577,902
--------------- ----------------
Accumulated Other Comprehensive (Loss) Income:
Balance at January 1 ($187,540) $159,313
Unrealized gains (losses) on securities, $93,717,
and ($93,341), pre-tax in 2000 and 1999, respectively(1) 56,573 (176,693)
Foreign currency (loss) gain (1,449) (1,057)
------------- -------------
Other comprehensive income (loss) 55,124 55,124 (177,750) (177,750)
---------------------------- -----------------------------
Comprehensive income (loss) $233,402 ($33,587)
============= =============
Balance at June 30 ($132,416) ($18,437)
--------------- ----------------
Preferred Stock:
Balance at January 1 and June 30 $- $-
--------------- ----------------
Common Stock:
Balance at January 1 and June 30 $707 $707
--------------- ----------------
Additional Paid-in Capital:
Balance at January 1 $525,012 $519,305
Exercise of stock options 1,756 1,161
--------------- ----------------
Balance at June 30 $526,768 $520,466
--------------- ----------------
Common Stock Held in Treasury at Cost:
Balance at January 1 ($33,175) ($33,067)
Cost of shares acquired (12,560) (9,126)
Shares issued under equity plans 9,131 6,023
--------------- ----------------
Balance at June 30 ($36,604) ($36,170)
--------------- ----------------
Total Stockholders' Equity at June 30 $2,230,054 $2,044,468
=============== ================
(1) Disclosure of reclassification amount:
Unrealized holding gains (losses) arising during period $53,458 ($181,896)
Less: reclassification adjustment for net gains
included in net income (3,115) (5,203)
--------------- ----------------
Net unrealized gains (losses) on securities $56,573 ($176,693)
=============== ================
See accompanying Notes to Consolidated Unaudited Financial Statements.
5
Ambac Financial Group, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
For The Periods Ended June 30, 2000 and 1999
(Dollars in Thousands)
Six Months Ended
June 30,
----------------------------------------------------
2000 1999
---------------------- ----------------------
Cash flows from operating activities:
Net income $178,278 $144,163
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,758 1,407
Amortization of bond premium and discount (5,367) (3,234)
Current income taxes (3,592) 7,544
Deferred income taxes 9,643 1,773
Deferred acquisition costs (6,756) (9,619)
Unearned premiums, net (3,876) 42,833
Losses and loss adjustment expenses 5,657 4,659
Ceded reinsurance balances payable (6,868) (698)
Investment income due and accrued 15,203 14,016
Accrued interest payable (13,873) (10,120)
Net losses on sales of investments 4,792 8,005
Interest rate swaps, at market (246) (22,386)
Other, net (1,273) (6,219)
---------------------- ----------------------
Net cash provided by operating activities 173,480 172,124
---------------------- ----------------------
Cash flows from investing activities:
Proceeds from sales of bonds 703,116 1,753,245
Proceeds from matured bonds 860,364 693,290
Purchases of bonds (1,014,330) (2,935,988)
Change in short-term investments 92,340 2,090
Securities purchased under agreements to resell (43,003) 183,309
Loans (5,743) (7,670)
Other, net (1,611) 8,210
---------------------- ----------------------
Net cash provided by (used in) investing activities 591,133 (303,514)
---------------------- ----------------------
Cash flows from financing activities:
Dividends paid (15,375) (13,983)
Proceeds from issuance of investment agreements 810,643 1,310,852
Payments for investment agreement draws (1,563,812) (1,169,976)
Payment agreements 5,743 7,670
Proceeds from sale of treasury stock 9,131 6,023
Purchases of treasury stock (12,560) (9,126)
---------------------- ----------------------
Net cash (used in) provided by financing activities (766,230) 131,460
---------------------- ----------------------
Net cash flow (1,617) 70
Cash at January 1 13,588 8,239
---------------------- ----------------------
Cash at June 30 $11,971 $8,309
====================== ======================
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Income taxes $48,200 $33,500
====================== ======================
Interest expense on debt $18,920 $18,266
====================== ======================
Interest expense on investment agreements $149,540 $143,436
====================== ======================
See accompanying Notes to Consolidated Unaudited Financial Statements
6
Ambac Financial Group, Inc. and Subsidiaries
Notes to Consolidated Unaudited Financial Statements
(Dollars in thousands)
(1) Basis of Presentation
Ambac Financial Group, Inc., (the "Company") headquartered in New York
City, is a holding company whose affiliates provide financial guarantees and
financial services to clients in both the public and private sectors around the
world. The Company's principal operating subsidiary, Ambac Assurance Corporation
("Ambac Assurance"), a leading provider of financial guarantees for municipal
and structured finance obligations, has earned triple-A ratings, the highest
ratings available from Moody's Investors Service, Inc., Standard & Poor's
Ratings Group, Fitch, and Rating and Investment Information, Inc. The Company,
through its subsidiaries, also provides investment agreements, interest rate
swaps and investment advisory and cash management services, primarily to states,
municipalities and municipal authorities.
The Company's consolidated unaudited interim financial statements have been
prepared on the basis of U.S. generally accepted accounting principles ("GAAP")
and, in the opinion of management, reflect all adjustments, consisting only of
normal recurring adjustments, necessary for a fair presentation of the Company's
financial condition, results of operations and cash flows for the periods
presented. The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosures of contingent assets and
liabilities at the date of the financial statements and the reported revenues
and expenses during the reporting period. Actual results could differ from those
estimates. The results of operations for the three months and six months ended
June 30, 2000 may not be indicative of the results that may be expected for the
full year ending December 31, 2000. These consolidated financial statements and
notes should be read in conjunction with the financial statements and notes
included in the audited consolidated financial statements of Ambac Financial
Group, Inc. and its subsidiaries contained in (i) the Company's Annual Report on
Form 10-K for the year ended December 31, 1999, which was filed with the
Securities and Exchange Commission (the "Commission") on March 30, 2000, and
(ii) the Company's Quarterly Report on Form 10-Q for the quarterly period ended
March 31, 2000, which was filed with the Commission on May 12, 2000.
The consolidated financial statements include the accounts of the Company
and each of its subsidiaries. All significant intercompany balances have been
eliminated.
Certain reclassifications have been made to prior periods' amounts to
conform to the current period's presentation.
(2) Segment Information
The Company has two reportable segments, as follows: (1) Financial
Guarantee, which guarantees municipal and structured finance obligations; and
(2) Financial Services, which provides investment agreements, interest rate
swaps, and investment advisory and cash management services.
7
Notes to Consolidated Unaudited Financial Statements (Continued)
(Dollars in thousands)
The Company's reportable segments are strategic business units that offer
different products and services. They are managed separately because each
business requires different marketing strategies, personnel skill sets and
technology.
Pursuant to insurance and indemnity agreements, Ambac Assurance guarantees
the swap and investment agreement obligations of those financial services
subsidiaries. Intersegment revenues include the premiums earned under those
agreements, but which are eliminated in the consolidated financial statements.
Such premiums are accounted for as if they were premiums to third parties, that
is, at current market prices.
Information provided below for "Corporate and Other" relates to Ambac
Financial Group, Inc. corporate activities. Revenue from unaffiliated customers
in the "corporate and other" column consists primarily of interest income and
realized gains or losses from investment securities.
The following tables summarize the financial information by reportable
segment as of and for the three and six-month periods ended June 30, 2000 and
1999:
Financial Financial Corporate Intersegment
Three months ended June 30, Guarantee Services And Other Eliminations Consolidated
--------------- --------------- -------------- ----------------- -------------------
2000:
Revenues:
Unaffiliated customers....... $ 143,046 $ 14,037 $ 438 $ - $ 157,521
Intersegment................. 947 (810) 15,957 (16,094) -
--------------- --------------- -------------- ----------------- -------------------
Total revenues................... $ 143,993 $ 13,227 $ 16,395 ($16,094) $ 157,521
--------------- --------------- -------------- ----------------- -------------------
Income before income taxes:
Unaffiliated customers....... $ 125,570 $ 7,761 ($11,161) $ - $ 122,170
Intersegment................. 947 (550) 15,957 (16,354) -
--------------- --------------- -------------- ----------------- -------------------
Total income before income taxes. $ 126,517 $ 7,211 $ 4,796 ($16,354) $ 122,170
--------------- --------------- -------------- ----------------- -------------------
Identifiable assets.............. $4,353,446 $6,397,803 $ 46,984 $ - $10,798,233
--------------- --------------- -------------- ----------------- -------------------
1999:
Revenues:
Unaffiliated customers....... $ 110,748 $ 10,151 $ 2,603 $ - $ 123,502
Intersegment................. 770 (840) 13,143 (13,073) -
--------------- --------------- -------------- ----------------- -------------------
Total revenues................... $ 111,518 $ 9,311 $ 15,746 ($13,073) $ 123,502
--------------- --------------- -------------- ----------------- -------------------
Income before income taxes:
Unaffiliated customers....... $ 96,376 $ 3,372 ($7,763) $ - $ 91,985
Intersegment................. 912 (1,057) 13,143 (12,998) -
--------------- --------------- -------------- ----------------- -------------------
Total income before income taxes. $ 97,288 $ 2,315 $ 5,380 ($12,998) $ 91,985
--------------- --------------- -------------- ----------------- -------------------
Identifiable assets.............. $3,955,428 $6,985,291 $ 141,080 $ - $11,081,799
--------------- --------------- -------------- ----------------- -------------------
8
Notes to Consolidated Unaudited Financial Statements (Continued)
(Dollars in thousands)
Financial Financial Corporate Intersegment
Six months ended June 30, Guarantee Services And Other Eliminations Consolidated
----------------- --------------- -------------- ----------------- -----------------
2000:
Revenues:
Unaffiliated customers....... $ 274,092 $ 28,298 $ 1,005 $ - $ 303,395
Intersegment................. 1,770 (1,648) 31,928 (32,050) -
----------------- --------------- -------------- ----------------- -----------------
Total revenues................... $ 275,862 $ 26,650 $ 32,933 ($32,050) $ 303,395
----------------- --------------- -------------- ----------------- -----------------
Income before income taxes:
Unaffiliated customers....... $ 239,889 $ 15,543 ($21,168) $ - $ 234,264
Intersegment................. 1,770 (1,603) 31,928 (32,095) -
----------------- --------------- -------------- ----------------- -----------------
Total income before income taxes. $ 241,659 $ 13,940 $ 10,760 ($32,095) $ 234,264
----------------- --------------- -------------- ----------------- -----------------
Identifiable assets.............. $4,353,446 $6,397,803 $ 46,984 $ - $10,798,233
----------------- --------------- -------------- ----------------- -----------------
1999:
Revenues:
Unaffiliated customers....... $ 222,125 $ 22,550 $ 7,198 $ - $ 251,873
Intersegment................. 1,542 (1,740) 26,343 (26,145) -
----------------- --------------- -------------- ----------------- -----------------
Total revenues................... $ 223,667 $ 20,810 $ 33,541 ($26,145) $ 251,873
----------------- --------------- -------------- ----------------- -----------------
Income before income taxes:
Unaffiliated customers....... $ 193,336 $ 8,794 ($14,194) $ - $ 187,936
Intersegment................. 1,684 (1,967) 26,343 (26,060) -
----------------- --------------- -------------- ----------------- -----------------
Total income before income taxes. $ 195,020 $ 6,827 $ 12,149 ($26,060) $ 187,936
----------------- --------------- -------------- ----------------- -----------------
Identifiable assets.............. $3,955,428 $6,985,291 $ 141,080 $ - $11,081,799
----------------- --------------- -------------- ----------------- -----------------
The following table summarizes gross premiums written and net premiums
earned included in the financial guarantee segment by location of risk for the
three and six-month periods ended June 30, 2000 and 1999.
Three Months Six Months
------------------------------------------- ------------------------------------------
Gross Premiums Net Premiums Gross Premiums Net Premiums
2000: Written Earned Written Earned
--------------------- ------------------- --------------------- ------------------
United States........................ $ 78,294 $69,751 $132,803 $131,137
Australia............................ 13,035 926 17,426 1,444
Mexico............................... 4,185 1,955 8,146 3,613
Japan................................ 1,751 1,563 3,471 3,206
France............................... 277 321 521 593
United Kingdom....................... 13,484 1,170 13,499 2,424
Internationally diversified (1)...... 3,719 2,717 5,947 5,428
Other international.................. 6,924 2,518 9,194 4,234
--------------------- ------------------- --------------------- ------------------
Total............................ $121,669 $80,921 $191,007 $152,079
--------------------- ------------------- --------------------- ------------------
1999:
United States........................ $ 79,222 $56,876 $157,003 $111,321
Australia............................ 165 244 546 665
Mexico............................... 2,670 1,070 3,935 1,831
Japan................................ 1,493 1,490 2,488 2,467
France............................... 727 183 1,081 431
United Kingdom....................... 9,530 747 15,197 1,408
Internationally diversified (1)...... 3,304 1,957 5,475 3,517
Other international.................. 1,597 1,377 3,137 2,601
--------------------- ------------------- --------------------- ------------------
Total............................ $ 98,708 $63,944 $188,862 $124,241
--------------------- ------------------- --------------------- ------------------
1) Internationally diversified may include components of domestic exposure.
9
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations
The following paragraphs describe the consolidated results of operations of
Ambac Financial Group, Inc. and its subsidiaries (sometimes collectively
referred to as the "Company") for the three and six-month periods ended June 30,
2000 and 1999, and its financial condition as of June 30, 2000 and December 31,
1999. These results include the Company's two reportable segments: Financial
Guarantee and Financial Services.
Materials in this Form 10-Q may contain information that includes or is
based upon forward-looking statements within the meaning of the Securities
Litigation Reform Act of 1995. Forward-looking statements give the Company's
expectations or forecasts of future events. You can identify these statements by
the fact that they do not relate strictly to historical or current facts. They
use words such as "anticipate," "estimate," "expect," "project," "intend,"
"plan," "believe," and other words and terms of similar meaning in connection
with a discussion of future operating or financial performance. In particular,
these include statements relating to future actions, prospective services or
products, future performance or results of current and anticipated services or
products, sales efforts, expenses, the outcome of contingencies such as legal
proceedings, and financial results.
Any or all of the Company's forward-looking statements here or in other
publications may turn out to be wrong. They can be affected by inaccurate
assumptions or by known or unknown risks and uncertainties. Many such factors
will be important in determining the Company's actual future results. The
Company's actual results may vary materially, and there are no guarantees about
the performance of the Company's stock. These statements are based on current
expectations and the current economic environment. They involve a number of
risks and uncertainties that are difficult to predict. These statements are not
guarantees of future performance. Actual results could differ materially from
those expressed or implied in the forward-looking statements. Among factors that
could cause actual results to differ materially are: (1) changes in the
economic, credit or interest rate environment in the United States and abroad;
(2) the level of activity within the national and worldwide debt markets; (3)
competitive conditions and pricing levels; (4) legislative and regulatory
developments; (5) changes in tax laws, and (6) other risks and uncertainties
that have not been identified at this time. The Company undertakes no obligation
to publicly correct or update any forward-looking statement if we later become
aware that it is not likely to be achieved. You are advised, however, to consult
any further disclosures we make on related subjects in the Company's reports to
the SEC.
Results of Operations
Consolidated Net Income
The Company's net income for the three months ended June 30, 2000 was $92.6
million, or $1.30 per diluted share, up 30% from the three months ended June 30,
1999 net income of $71.0 million, or $1.00 per diluted share. The increase in
net income was primarily attributable to higher Financial Guarantee operating
earnings driven by a $32.3 million, or 29%, increase in revenues. The Company's
net income for the six months ended June 30, 2000 was $178.3 million, or $2.50,
per diluted share. This represents an increase of 24% from the comparable prior
period net income of $144.2 million, or $2.02, per diluted share.
10
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
Financial Guarantee
The Company provides financial guarantees through its principal operating
subsidiary, Ambac Assurance Corporation ("Ambac Assurance"). Ambac Assurance's
wholly owned subsidiary, Ambac Assurance UK Limited, serves clients in the
international market. Additionally, Ambac Assurance had served clients in
international markets through its participation in MBIA.AMBAC International, an
unincorporated joint venture with MBIA Insurance Corporation ("MBIA"). On March
21, 2000, Ambac Assurance and MBIA announced the restructuring of that
arrangement. Ambac Assurance and MBIA will continue its current reciprocal
reinsurance arrangements for international business through at least the end of
2000; however, the companies will market and originate financial guarantees
independently. This restructuring was in reaction to a growing acceptance of the
financial guarantee product internationally and the belief that separate
origination functions would be beneficial to the further expansion of the
market. The restructuring did not affect business conducted in Japan where the
market for financial guarantees is just beginning to develop. The companies will
continue to market and originate transactions jointly under the original
arrangement in Japan.
Ambac Credit Products, L.L.C. ("ACP"), a wholly owned subsidiary of Ambac
Assurance, also provides credit protection in the global markets in the form of
structured credit derivatives.
Gross Par Written. Ambac Assurance guaranteed $18.4 billion in par value
------------------
bonds during the three months ended June 30, 2000, a 6% increase over $17.4
billion in par during the comparable prior year period. During the six months
ended June 30, 2000, Ambac Assurance guaranteed $31.7 billion in par value
bonds, a decrease of 13% from $36.5 billion in par value bonds during the
comparable period in 1999. Par value written for the second quarter of 2000 was
comprised of $4.1 billion from municipal bond obligations, $8.2 billion from
structured finance obligations and $6.1 billion from international obligations,
compared to $7.9 billion, $7.2 billion and $2.3 billion, respectively, in the
second quarter of 1999. Par value written for the six months ended June 30, 2000
was comprised of $6.6 billion from municipal bond obligations, $16.1 billion
from structured finance obligations and $9.0 billion from international
obligations, compared to $16.6 billion, $16.4 billion and $3.5 billion,
respectively, in the six months ended June 30, 1999. Insured municipal
obligations for the three and six month periods ended June 30, 2000 were
affected by declines of 10% and 22%, respectively, in total issuance. The
decline in total issuance was largely attributable to the rising interest rate
environment causing a decline in the refinancing component of the market during
the periods. Additionally, decreases in insured market penetration and Ambac's
municipal market share contributed to the decline in insured municipal
obligations during the periods.
Management anticipates, based on growth experienced in the last few years,
that in the foreseeable future, the Company's structured finance and
international businesses will grow more rapidly than the municipal business.
Management believes that business written in the structured finance and
international markets may see large quarterly variances primarily due to general
market conditions and the developmental nature of segments of these markets.
Gross Premiums Written. Gross premiums written for the three and six- month
----------------------
periods ended June 30, 2000 were $121.7 million and $191.0 million,
respectively, an increase of 23% over $98.7 million in the three-month period
ended June 30, 1999 and an increase of 1% over $188.9 million in the six months
ended June 30, 1999. On the municipal side, the negative factors discussed above
under "Gross Par Written" also affected gross premiums written in this
11
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
segment. Structured finance continues to see strong business activity in the
mortgage- backed and asset-backed segments year-to-date and in the utilities
segment in the second quarter. The international business has seen strong
activity in several areas including asset-backed securities, collateralized bond
obligations ("CBO") and infrastructure finance. The following tables set forth
the amounts of gross premiums written and the related gross par written by type:
Three Months Ended June 30,
---------------------------------------------------------------------
(Dollars in Millions) 2000 1999
-------------------------------- ---------------------------------
Gross Gross Gross Gross
Premiums Par Premiums Par
Written Written Written Written
-------------- -------------- --------------- --------------
Municipal finance:
Up-front:
New issue.................................. $ 25.5 $ 3,164 $54.2 $ 6,417
Secondary market........................... 3.1 333 2.7 489
-------------- -------------- --------------- --------------
Sub-total up-front........................ 28.6 3,497 56.9 6,906
Installment............................... 5.7 660 7.2 949
-------------- -------------- --------------- --------------
Total municipal finance................. 34.3 4,157 64.1 7,855
-------------- -------------- --------------- --------------
Structured finance:
Up-front................................... 18.5 1,562 0.5 29
Installment................................ 25.5 6,597 14.6 7,174
-------------- -------------- --------------- --------------
Total structured finance.............. 44.0 8,159 15.1 7,203
-------------- -------------- --------------- --------------
International(1):
Up-front............................. 28.4 766 11.0 130
Installment.......................... 15.0 5,312 8.5 2,182
-------------- -------------- --------------- --------------
Total international.................. 43.4 6,078 19.5 2,312
-------------- -------------- --------------- --------------
Total................................ $121.7 $18,394 $98.7 $17,370
============== ============== =============== ==============
Total up-front................................ $ 75.5 $ 5,825 $68.4 $ 7,065
Total installment............................. 46.2 12,569 30.3 10,305
-------------- -------------- --------------- --------------
Total................................ $121.7 $18,394 $98.7 $17,370
============== ============== =============== ==============
Six Months Ended June 30,
---------------------------------------------------------------------
(Dollars in Millions) 2000 1999
-------------------------------- ---------------------------------
Gross Gross Gross Gross
Premiums Par Premiums Par
Written Written Written Written
-------------- -------------- --------------- --------------
Municipal finance:
Up-front:
New issue.................................. $ 49.0 $ 5,179 $114.7 $14,102
Secondary market........................... 6.4 596 4.0 630
-------------- -------------- --------------- --------------
Sub-total up-front........................ 55.4 5,775 118.7 14,732
Installment............................... 10.3 815 10.8 1,919
-------------- -------------- --------------- --------------
Total municipal finance................. 65.7 6,590 129.5 16,651
-------------- -------------- --------------- --------------
Structured finance:
Up-front................................... 18.6 1,562 0.5 36
Installment................................ 48.5 14,589 27.0 16,316
-------------- -------------- --------------- --------------
Total structured finance.............. 67.1 16,151 27.5 16,352
-------------- -------------- --------------- --------------
International(1):
Up-front............................. 32.6 925 18.2 276
Installment.......................... 25.6 8,064 13.7 3,260
-------------- -------------- --------------- --------------
Total international.................. 58.2 8,989 31.9 3,536
-------------- -------------- --------------- --------------
Total................................ $191.0 $31,730 $188.9 $36,539
============== ============== =============== ==============
Total up-front................................ $106.6 $ 8,262 $137.4 $15,044
Total installment............................. 84.4 23,468 51.5 21,495
-------------- -------------- --------------- --------------
Total................................ $191.0 $31,730 $188.9 $36,539
============== ============== =============== ==============
(1) Gross par written is reduced by reinsurance cessions to MBIA on
international business of $3,341.2 million and $1,345.5 million for the three
months ended June 30, 2000 and 1999, respectively, and $4,901.1 million and
$2,146.4 million for the six months ended June 30, 2000 and 1999, respectively.
12
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
Ceded Premiums Written. Ceded premiums written for the three and six months
-----------------------
ended June 30, 2000 were $26.2 million and $42.4 million, respectively, an
increase of 59% from $16.5 million in the three months ended June 30, 1999 and
an increase of 97% from $21.5 million in the six months ended June 30, 1999. The
increase in ceded premiums written for the second quarter of 2000 was primarily
due to increased ceded premiums written on international policies. The increase
in ceded premiums written for the six months ended June 30, 2000 was primarily
from a one-time cede of municipal health care exposure during the first quarter
of 2000 and increased ceded premiums written on international policies during
the period. Ceded premiums written were 21.6% and 22.2% of gross premiums
written for the three and six months ended June 30, 2000, respectively, compared
with 16.7% and 11.4% for the three and six months ended June 30, 1999,
respectively.
Net Premiums Written. Net premiums written for the three and six months
---------------------
ended June 30, 2000 were $95.4 million and $148.6 million, respectively. The
increase of 16% from $82.3 million in the three months ended June 30, 1999
reflects the higher level of gross premiums written during the second quarter of
2000, partially offset by increased ceded premiums. The decrease of 11% from
$167.3 million in the six months ended June 30, 1999 reflects higher premiums
ceded to reinsurers in the first quarter of 2000, partially offset by slightly
higher gross premiums written during the six-month period as compared to the
same six-month period of 1999.
Net Premiums Earned. Net premiums earned during the three and six months
--------------------
ended June 30, 2000 were $80.9 million and $152.1 million, respectively, an
increase of 27% from $63.9 million in the three months ended June 30, 1999, and
an increase of 22% from $124.2 million in the six months ended June 30, 1999.
These increases were primarily the result of increased normal net premiums
earned (defined as net premiums earned excluding the effects of refundings,
calls and other accelerations of previously insured obligations, collectively
referred to as "refundings") during the periods. Normal net premiums earned
increased 31% from $54.0 million in the second quarter of 1999 to $70.5 million
in the second quarter of 2000. Normal net premiums earned for the six months
ended June 30, 2000 were $137.1 million, an increase of 32% from $103.9 million
in the six months ended June 30, 1999. The increases in normal net premiums
earned resulted primarily from strong business written from prior periods in all
areas, particularly structured and international finance.
Net premiums earned include accelerated premiums that result from
refundings. When an issue insured by Ambac Assurance has been refunded or
called, the remaining unearned premium (net of refunding credits, if any) is
generally earned at that time. Refunding levels vary depending upon a number of
conditions, primarily the relationship between current interest rates and
interest rates on outstanding debt. Net premiums earned for the three and six
months ended June 30, 2000 included $10.4 million (which had a net income per
diluted share effect of $0.08) and $15.0 million (which had a net income per
diluted share effect of $0.12), respectively, from refundings. Net premiums
earned for the three and six months ended June 30, 1999 included $9.9 million
(which had a net income per diluted share effect of $0.08) and $20.3 million
(which had a net income per diluted share effect of $0.16), respectively, from
refundings. During the second quarter of 2000, Ambac performed a detailed review
of its insured book of business. This review resulted in the reporting of
refunded issues totaling approximately $7.5 million (net income per diluted
share effect of $0.06) during the second quarter.
13
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
Net Investment Income. Net investment income for the three and six months
----------------------
ended June 30, 2000 were $58.9 million and $116.5 million, respectively, an
increase of 15% from $51.3 million in the three months ended June 30, 1999 and
an increase of 16% from $100.8 million in the six months ended June 30, 1999.
The increases were primarily attributable to the growth of the investment
portfolio from ongoing operations. Additionally, investment income benefited
from capital contributions from the parent company to Ambac Assurance. Ambac
Assurance's investments in tax-exempt securities amounted to 76% of the total
fair value of its portfolio as of June 30, 2000, versus 74% at June 30, 1999.
The average pre-tax yield-to-maturity on the investment portfolio was 6.12% and
6.09% as of June 30, 2000 and 1999, respectively.
Losses and Loss Adjustment Expenses. Losses and loss adjustment expenses
------------------------------------
for the three and six months ended June 30, 2000 were $3.6 million and $6.8
million, respectively, compared to $2.5 million and $5.0 million for the three
and six months ended June 30, 1999, respectively. These increases are due to the
recent increases in business activity over most sectors. Losses and loss
adjustment expenses are generally based upon estimates of the ultimate aggregate
losses inherent in the insured portfolio. There was no salvage received during
the respective periods in 2000 and 1999.
Underwriting and Operating Expenses. Underwriting and operating expenses
------------------------------------
for the three and six months ended June 30, 2000 were $13.9 million and $27.4
million, respectively, an increase of 17% from $11.9 million in the three months
ended June 30, 1999 and an increase of 15% from $23.8 million in the six months
ended June 30, 1999. Underwriting and operating expenses consist of gross
underwriting and operating expenses, less the deferral to future periods of
expenses and reinsurance commissions related to the acquisition of new insurance
contracts, plus the amortization of previously deferred expenses and reinsurance
commissions. During the three and six-month periods ended June 30, 2000, gross
underwriting and operating expenses were $20.6 million and $41.0 million,
respectively, an increase of 14% from both $18.1 million in the three months
ended June 30, 1999 and $35.9 million in the six months ended June 30, 1999. The
increase reflects the overall increased business activity during recent periods
and is primarily due to increased compensation related to new hires.
Underwriting and operating expenses deferred for the three and six months ended
June 30, 2000 were $12.6 million and $25.0 million, respectively, compared to
$11.2 million and $21.7 million for the three and six months ended June 30,
1999, respectively. The amortization of previously deferred expenses and
reinsurance commissions for the three and six months ended June 30, 2000 were
$5.9 million and $11.3 million, respectively, compared to $4.9 million and $9.7
million for the three and six months ended June 30,1999, respectively.
Financial Services
Through its financial services subsidiaries, the Company provides
investment agreements, interest rate swaps and investment advisory and cash
management services, principally to states, municipalities and their
authorities, school districts, and hospitals and health organizations.
Revenues. Revenues, net of realized gains and losses, for the three and
---------
six months ended June 30, 2000 were $21.1 million and $35.6 million,
respectively, up 61% from $13.1 million for the three months ended June 30, 1999
and up 37% from $25.9 million in the six months ended June 30, 1999. Interest
rate swap revenue more than tripled from $4.2 million in
14
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
the second quarter of 1999 to $13.0 million in the second quarter of 2000
primarily attributable to higher inception revenue during the quarter. The
increase in interest rate swap revenues was partially offset by a decline in
investment agreement revenues from $6.2 million in the second quarter of 1999,
to $5.2 million in the second quarter of 2000. The investment agreement decline
resulted primarily from lower municipal market issuance. Interest rate swap
revenues for the six months ended June 30, 2000 were $18.8 million, up 114% from
$8.8 million in the six months ended June 30, 1999. Investment agreement
revenues for the six months ended June 30, 2000 were $10.8 million, down 7% from
$11.6 million in the six months ended June 30, 1999.
Expenses. Expenses for the three and six months ended June 30, 2000 were
---------
$6.3 million and $12.8 million, respectively, down 7% from $6.8 million for the
three months ended June 30, 1999 and down 7% from $13.8 million for the six
months ended June 30, 1999. The decline in expenses is primarily driven by lower
compensation costs at the financial services subsidiaries.
Corporate Items
Interest Expense. Interest expense for the three and six months ended June
-----------------
30, 2000 was $9.4 million and $18.8 million, respectively, compared to $9.1
million for the three months ended June 30, 1999 and $18.2 million for the six
months ended June 30, 1999. These increases are primarily due to increased fees
associated with the December 1999 increase in Ambac Assurance's third party
capital support.
Income Taxes. Income taxes for the three and six months ended June 30, 2000
-------------
were at an effective rate of 24.2% and 23.9%, respectively, versus 22.8% and
23.3% for the three and six months ended June 30, 1999. The increased effective
tax rate is primarily the result of the growth in underwriting profits in
proportion to the primarily tax-advantaged investment income.
Supplemental Analytical Financial Data
Management, equity analysts and investors consider the following four
measures important in analyzing the financial results, and measuring the
intrinsic value of the Company: core earnings; operating earnings; adjusted
gross premiums written; and adjusted book value. However, none of these measures
are promulgated in accordance with GAAP and should not be considered as
substitutes for net income, gross premiums written and book value. The
definitions of core earnings, operating earnings, adjusted gross premiums
written and adjusted book value described below may differ from the definitions
used by other public holding companies of financial guarantee insurers.
Core Earnings. The Company defines core earnings as consolidated net
--------------
income, less the effect of net realized gains and losses, net insurance premiums
earned from refundings and calls and certain non-recurring items. Core earnings
for the three and six months ended June 30, 2000 were $90.0 million and $172.9
million, respectively, an increase of 27% from $70.9 million for the three
months ended June 30, 1999 and an increase of 25% from $137.8 million for the
six months ended June 30, 1999. These increases in core earnings were primarily
the result of higher normal net premiums earned from the growth in the financial
guarantee book of business and higher net investment income from the financial
guarantee segment, as well as higher revenues from interest rate swaps in the
financial services segment.
15
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
Operating Earnings. The Company defines operating earnings as consolidated
-------------------
net income, less the effect of net realized gains and losses and certain non-
recurring items. Operating earnings for the three and six months ended June 30,
2000 were $95.9 million and $181.4 million, respectively, an increase of 25%
from $76.5 million in the three months ended June 30, 1999 and an increase of
21% from $149.4 million in the six months ended June 30, 1999.
The following table reconciles net income computed in accordance with GAAP
to operating earnings and core earnings for the three and six months ended June
30, 2000 and 1999:
Three Months Ended Six Months Ended
June 30, June 30,
-------------------------------------------
(Dollars in Millions) 2000 1999 2000 1999
-------------------------------------------
Net Income................................................ $92.6 $71.0 $178.3 $144.2
Net realized losses, after tax............................ 3.3 5.5 3.1 5.2
---------- ---------- --------- --------
Operating earnings..................................... 95.9 76.5 181.4 149.4
Premiums earned from refundings, calls and other
accelerations, after tax.................................. (5.9) (5.6) (8.5) (11.6)
---------- ---------- --------- --------
Core earnings.......................................... $90.0 $70.9 $172.9 $137.8
========== ========== ========= ========
There were 71.3 million and 71.2 million weighted-average diluted shares
outstanding during the three and six months ended June 30, 2000, respectively.
The weighted-average number of diluted shares outstanding during the three and
six months ended June 30, 1999 was 71.3 million shares.
Adjusted Gross Premiums Written. The Company defines adjusted gross premiums
- --------------------------------
written as gross up-front premiums written plus the present value of estimated
installment premiums written on insurance policies and structured credit
derivatives issued in the period. While the majority of municipal finance
premiums are collected up-front at policy issuance, the majority of Ambac
Assurance's structured finance premiums are collected on an installment basis.
Adjusted gross premiums written for the three and six months ended June 30, 2000
were $171.5 million and $287.6 million, respectively, up 27% from $134.8 million
in the three months ended June 30, 1999 and up 8% from $265.2 million in the six
months ended June 30, 1999. The increases in 2000 were primarily due to
increased activity in structured finance and international transactions,
partially offset by a significant decline in municipal transactions driven by
lower issuance and decreased market penetration during the period. Structured
finance and international business increased as a result of continued strong
issuance in the asset-backed markets and the utilities market. The number of
large transactions guaranteed further highlights the growth in the international
market. International transactions guaranteed by Ambac Assurance with AGP
greater than $4.0 million increased from one and two for the three and six
months ended June 30, 1999, respectively, to seven and ten for the three and six
months ended June 30, 2000, respectively. The present value of future
installment premiums written for the three and six months ended June 30, 2000
was $109.2 million and $196.2 million, respectively, an increase of 52% from
$71.9 million written in the second quarter of 1999, and an increase of 44% from
$136.7 million in the six months ended June 30, 1999. The aggregate net present
value of estimated future installment premiums was $656.9 million and $527.2
million as of June 30, 2000 and December 31, 1999, respectively.
16
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
The following table sets forth the amounts of adjusted gross premiums
written by type and percent of total for the three and six months ended June 30,
2000 and 1999:
Three Months Ended June 30, Six Months Ended June 30,
-------------------------------------------- -------------------------------------------
(Dollars in Millions) 2000 % 1999 % 2000 % 1999 %
----------- --------- ---------- --------- ---------- --------- --------- -------
Municipal Finance:
Up-front:
New issue....................... $ 25.5 15% $ 54.3 40% $ 49.0 17% $114.7 43%
Secondary market................ 3.1 2 2.7 2 6.4 2 4.0 2
----------- --------- ---------- --------- ---------- --------- --------- -------
Sub-total up-front........... 28.6 17 57.0 42 55.4 19 118.7 45
Installment.................. 10.6 6 13.8 10 13.9 5 23.6 9
----------- --------- ---------- --------- ---------- --------- --------- -------
Total Municipal Finance.. 39.2 23 70.8 52 69.3 24 142.3 54
----------- --------- ---------- --------- ---------- --------- --------- -------
Structured Finance:
Up-front........................ 17.8 10 0.5 - 17.8 6 0.4 -
Installment..................... 47.4 28 36.9 28 104.2 36 77.1 29
----------- --------- ---------- --------- ---------- --------- --------- -------
Total Structured Finance... 65.2 38 37.4 28 122.0 42 77.5 29
----------- --------- ---------- --------- ---------- --------- --------- -------
International (1):
Up-front...................... 15.9 9 5.5 4 18.2 7 9.4 3
Installment................... 51.2 30 21.1 16 78.1 27 36.0 14
----------- --------- ---------- --------- ---------- --------- --------- -------
Total International....... 67.1 39 26.6 20 96.3 34 45.4 17
----------- --------- ---------- --------- ---------- --------- --------- -------
Total adjusted gross premiums.......... $171.5 100% $134.8 100% $287.6 100% $265.2 100%
=========== ========= ========== ========= ========== ========= ========= =======
Total up-front......................... $ 62.3 36% $ 62.9 47% $ 91.4 32% $128.5 48%
Total installment...................... 109.2 64 71.9 53 196.2 68 136.7 52
----------- --------- ---------- --------- ---------- --------- --------- -------
Total adjusted gross premiums......... $171.5 100% $134.8 100% $287.6 100% $265.2 100%
=========== ========= ========== ========= ========== ========= ========= =======
(1) Adjusted gross premiums written is reduced by reinsurance cessions to MBIA
on international business of $41.9 million and $13.5 million for the three
months ended June 30, 2000 and 1999, respectively, and $47.1 million and $29.8
million for the six months ended June 30, 2000 and 1999, respectively.
Adjusted Book Value. Adjusted book value ("ABV") per common share increased
--------------------
10% to $49.03 at June 30, 2000 compared to $44.68 at December 31, 1999. The
Company derives ABV by beginning with stockholders' equity (book value) and
adding or subtracting the after-tax value of: the net unearned premium reserve;
deferred acquisition costs; the present value of estimated net future
installment premiums; and the unrealized gain or loss on investment agreement
liabilities. These adjustments will not be realized until future periods and may
differ materially from the amounts used in determining ABV. The following table
reconciles book value per share to ABV per share as of June 30, 2000 and
December 31, 1999:
June 30, December 31,
2000 1999
------------------- -------------------
Book value per share.................................................. $31.92 $28.85
After-tax value of:
Net unearned premium reserve........................................ 11.25 11.28
Deferred acquisition costs.......................................... (1.32) (1.26)
Present value of installment premiums............................... 6.11 4.90
Unrealized gain on investment agreement liabilities................. 1.07 0.91
------------------- -------------------
Adjusted book value per share......................................... $49.03 $44.68
=================== ===================
17
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
Liquidity and Capital Resources
Ambac Financial Group, Inc. Liquidity. The Company's liquidity, both on a
--------------------------------------
short-term basis (for the next twelve months) and a long-term basis (beyond the
next twelve months), is largely dependent upon (i) Ambac Assurance's and other
subsidiaries' ability to pay dividends or make payments to the Company; and (ii)
external financings. Pursuant to Wisconsin insurance laws, Ambac Assurance may
declare dividends, provided that, after giving effect to the distribution, it
would not violate certain statutory equity, solvency and asset tests. During the
six months ended June 30, 2000, Ambac Assurance paid dividends of $29.9 million
on its common stock to the Company.
The Company's principal uses of liquidity are for the payment of its
operating expenses, interest on its debt, dividends on its shares of common
stock, purchases of its common stock in the open market and capital investments
in its subsidiaries. Based on the amount of dividends that it expects to receive
from Ambac Assurance and other subsidiaries during the next twelve months and
the income it expects to receive from its investment portfolio, management
believes that the Company will have sufficient liquidity to satisfy its
liquidity needs over the next twelve months, including the ability to pay
dividends on its common stock in accordance with its dividend policy. Beyond the
next twelve months, Ambac Assurance's ability to declare and pay dividends to
the Company may be influenced by a variety of factors, including adverse market
changes, insurance regulatory changes and changes in general economic
conditions. Consequently, although management believes that the Company will
continue to have sufficient liquidity to meet its debt service and other
obligations over the long term, no guarantee can be given that Ambac Assurance
will be permitted to dividend amounts sufficient to pay all of the Company's
operating expenses, debt service obligations and dividends on its common stock.
Ambac Assurance Liquidity. The principal uses of Ambac Assurance's
--------------------------
liquidity are the payment of operating expenses, reinsurance premiums, income
taxes and dividends to the Company. Management believes that Ambac Assurance's
operating liquidity needs can be funded exclusively from its operating cash
flow. The principal sources of Ambac Assurance's liquidity are gross premiums
written, scheduled investment maturities, net investment income and receipts
from structured credit derivatives. During 1999, the Company contributed $200
million to Ambac Assurance to support the growth in the financial guarantee
business.
Financial Services Liquidity. The principal uses of liquidity by Financial
-----------------------------
Services subsidiaries are payment of investment agreement obligations pursuant
to defined terms, net obligations under interest rate swaps and related hedges,
operating expenses and income taxes. Management believes that its Financial
Services liquidity needs can be funded primarily from its operating cash flow
and the maturity of its invested assets. The principal sources of this segment's
liquidity are proceeds from issuance of investment agreements, net investment
income, maturities of securities from its investment portfolio (which are
invested with the objective of matching the cash flows of its obligations under
the investment agreements), net receipts from interest rate swaps and related
hedges, and fees for investment management services. Additionally, from time to
time, liquidity needs are satisfied by short-term inter-company loans from Ambac
Financial Group, Inc. The investment objectives with respect to investment
agreements are to achieve the highest after-tax total return, subject to a
minimum average credit quality rating of Aa/AA on invested assets, and to
maintain cash flow matching of invested assets to related liabilities to
minimize interest rate and liquidity exposure. Financial Services
18
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
maintains a portion of its assets in short-term investments and repurchase
agreements in order to meet unexpected liquidity needs.
Credit Facilities. The Company and Ambac Assurance have a revolving credit
------------------
facility with three major international banks for $150 million, which expires in
August 2001 and provides a two-year term loan provision. The facility is
available for general corporate purposes, including the payment of claims. As of
June 30, 2000 and December 31, 1999, no amounts were outstanding under this
credit facility.
Ambac Assurance maintains third party capital support in the form of a
seven-year irrevocable limited recourse credit facility from a group of highly
rated banks for $750 million. This credit facility provides liquidity to Ambac
Assurance in the event claims from municipal obligations in its covered
portfolio exceed specified levels. Repayment of amounts drawn under the credit
facility are limited primarily to the amount of any recoveries of losses related
to municipal policy obligations. The line expires in December 2006. As of June
30, 2000 and December 31, 1999, no amounts were outstanding under this facility.
ACP has a revolving credit facility with a major international bank for $50
million that expires in June 2001 and provides a three-year term loan provision.
The facility is available to ACP for general corporate purposes, including
payments in regard to its credit derivative activities. As of June 30, 2000 and
December 31, 1999, no amounts were outstanding under this facility.
Stock Repurchase Program. The Board of Directors of the Company has
-------------------------
authorized the establishment of a stock repurchase program that permits the
repurchase of up to 6,000,000 shares of the Company's Common Stock. During the
six months ended June 30, 2000, the Company acquired approximately 276,000
shares for an aggregate amount of $12.6 million. Since inception of the Stock
Repurchase Program, the Company has acquired approximately 4,849,000 shares for
an aggregate amount of $172.9 million.
Balance Sheet. As of June 30, 2000, the fair value of the Company's
--------------
consolidated investment portfolio was $8.43 billion, down 6% from $8.96 billion
at December 31, 1999. This decrease was primarily due to a decrease in volume in
investment and payment agreements, partially offset by cash flow from financial
guarantee operations and a decline in interest rates causing market values of
the investment portfolio to rise. As of June 30, 2000, stockholders' equity was
$2.23 billion, a 10% increase from year-end 1999 stockholders' equity of $2.02
billion. The increase stemmed from a combination of net income for the period
and an increase in the value of the investment portfolio due to a decline in
interest rates.
Cash Flows. Net cash provided by operating activities was $173.5 million
-----------
and $172.1 million during the six months ended June 30, 2000 and 1999,
respectively. These cash flows were primarily provided by financial guarantee
operations.
Net cash used in financing activities was $766.2 million during the six
months ended June 30, 2000, $753.2 million was used by investment agreements
draws paid (net of investment agreements issued). For the six months ended June
30, 1999, $131.5 million was provided by financing activities, of which $140.9
million was from investment agreements issued (net of draws paid).
19
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
Net cash provided by investing activities was $591.1 million during the six
months ended June 30, 2000, $1,563.5 million was provided by sales and
maturities of bonds, partially offset by $1,014.3 million used to purchase
bonds. For the six months ended June 30, 1999, $303.5 million was used in
investing activities, $2,936.0 million was used to purchase bonds, partially
offset by proceeds from sales and maturities of bonds of $2,446.5 million.
Material Commitments. The Company has made no commitments for material
---------------------
capital expenditures within the next twelve months.
20
Item 3. Quantitative and Qualitative Disclosures About Market Risk
In the ordinary course of business, the Company, through its subsidiaries,
manages a variety of risks, principally market, credit, liquidity, operational,
and legal. These risks are identified, measured and monitored through a variety
of control mechanisms that are in place at different levels throughout the
organization.
Market risk represents the potential for losses that may result from
changes in the market value of a financial instrument as a result of changes in
market conditions. The primary market risks that would impact the value of the
Company's financial instruments are interest rate risk, basis risk (taxable
interest rates relative to tax-exempt interest rates, discussed below) and
credit spread risk. Below we discuss each of these risks and the specific types
of financial instruments impacted. Senior managers in the Company's market risk
management group are involved in setting and monitoring risk limits and the
application of risk measurement methodologies. The estimation of potential
losses arising from adverse changes in market conditions is a key element in
managing market risk. The Company utilizes various systems, models and stress
test scenarios to monitor and manage market risk. This process includes frequent
analyses of parallel and non-parallel shifts in the yield curve, "value-at-risk"
and changes in credit spreads. Models include estimates, made by management,
which utilize current and historical market information. The valuation results
from these models could differ materially from amounts that would actually be
realized in the market.
Financial instruments that may be adversely affected by changes in interest
rates consist primarily of investment securities, investment agreement
liabilities, debentures, and derivative contracts (primarily interest rate
swaps) used for hedging purposes. The Company monitors interest rate risk by
running frequent analyses of parallel and non-parallel shifts in the yield curve
and other stress test scenarios.
Financial instruments that may be adversely affected by changes in basis
include the Company's municipal interest rate swap portfolio. The Company,
through its affiliate Ambac Financial Services, L.P. ("AFSLP"), is a provider of
interest rate swaps to states, municipalities and their authorities and other
entities in connection with their financings. AFSLP manages its business with
the goal of being market neutral to changes in overall interest rates, while
seeking to profit from retaining some basis risk. If actual or projected tax-
exempt interest rates change in relation to taxable interest rates, the Company
will experience an unrealized mark-to-market gain or loss. Since late 1995, most
municipal interest rate swaps transacted by AFSLP contain provisions that are
designed to protect the Company against certain forms of tax reform, thus
mitigating its basis risk. The estimation of potential losses arising from
adverse changes in market relationships, known as value-at-risk, is a key
element in management's monitoring of basis risk for the municipal interest rate
swap portfolio. The Company has developed a value-at-risk methodology to
estimate potential losses over a specified holding period and based on certain
probabilistic assessments. The Company's methodology estimates value-at-risk
using a 300-day historical "look back" period. This means that changes in market
values are simulated using market inputs from the past 300 days. Since no single
measure can capture all dimensions of market risk, the Company supplements its
value-at-risk methodology by performing daily analyses of parallel and non-
parallel shifts in yield curves and stress test scenarios which measure the
potential impact of normal market conditions, which might cause abnormal
volatility swings or disruptions of market relationships.
21
Item 3. Quantitative and Qualitative Disclosures About Market Risk (Continued)
Financial instruments that may be adversely affected by changes in credit
spreads include the Company's outstanding structured credit derivative
contracts. The Company, through its affiliate, ACP, enters into structured
credit derivative contracts. These contracts require ACP to make payments upon
the occurrence of certain defined credit events relating to underlying
obligations (generally fixed income securities). If credit spreads of the
underlying obligations change, the market value of the related structured credit
derivative could change. As such, ACP could experience an unrealized mark-to-
market gain or loss. Market liquidity could also impact valuations. Changes in
credit spreads are generally caused by changes in the market's perception of the
credit quality of the underlying obligations. The majority of ACP's contracts
are partially hedged with various financial institutions or structured with
first loss protection. Such structuring mitigates ACP's risk of loss and the
price volatility of these financial instruments. Management models the potential
impact of credit spread changes on the value of the credit derivative contracts
and personnel in the Company's credit surveillance group monitor credit spread
risk.
22
PART II - OTHER INFORMATION
Items 1, 2, 3 and 5 are omitted either because they are inapplicable or
because the answer to such question is negative.
Item 4 - Submission of Matters to a Vote of Security Holders
The following matters were voted upon at the Annual Meeting of Stockholders
of the Company held on May 10, 2000, and received the votes set forth below:
Proposal 1. The following directors were elected to serve on the Company's
----------
Board of Directors:
Number of Votes Cast
-----------------------------------------
For Withheld
-----------------------------------------
Phillip B. Lassiter 63,583,895 32,711
Michael A. Callen 63,584,775 31,831
Renso L. Caporali 63,582,666 33,940
Jill M. Considine 62,562,639 1,053,967
Richard Dulude 63,582,356 34,250
W. Grant Gregory 63,583,575 33,031
C. Roderick O'Neil 63,583,865 32,741
There were no broker non-votes for this proposal.
Proposal 2. The proposal to approve the amendments to the 1997 Executive
----------
Incentive Plan that will (i) increase the maximum incentive amount that may be
awarded to any participant under the Plan; (ii) redefine the "Covered Employees"
performance goals set forth in the Plan; and (iii) extend the term of the Plan
to January 1, 2005 were adopted, with 62,167,040 votes in favor, 1,417,042 votes
against and 32,524 votes abstaining. There were no broker non-votes for this
proposal.
Proposal 3. The proposal to ratify the selection of KPMG as independent
----------
auditors of the Company and its subsidiaries for 2000 was adopted, with
63,602,730 votes in favor, 7,274 votes against and 6,602 votes abstaining. There
were no broker non-votes for this proposal.
23
PART II - OTHER INFORMATION (Continued)
Item 6 - Exhibits and Reports on Form 8-K
(a) The following are annexed as exhibits:
Exhibit
Number Description
-------------- ----------------------------------------------------------
10.23* Ambac Financial Group, Inc. 1997 Executive Incentive Plan,
amended as of January 1, 2000
10.24 First Extension of U.S. $50,000,000 Revolving Credit
Agreement, dated June 9, 2000 among Ambac Credit Products,
LLC, the banks, financial institutions and other
institutional lenders (the "Lenders"), and the Bank of New
York, as Agent for the Lenders.
27.00 Financial Data Schedule.
99.03 Ambac Assurance Corporation and Subsidiaries Consolidated
Unaudited Financial Statements as of June 30, 2000 and
December 31, 1999 and for the periods ended June 30, 2000
and 1999.
(b) Reports on Form 8-K:
There were no reports on Form 8-K filed during the second quarter of 2000.
--------------
- -----------------------
* Management contract or compensatory plan, contract or arrangement required to
be filed as an exhibit pursuant to Item 6(a) of Form 10-Q.
---------
24
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.
Ambac Financial Group, Inc.
(Registrant)
Dated: August 11, 2000 By: /s/ Frank J. Bivona
---------------------------------
Frank J. Bivona
Executive Vice President and Chief
Financial Officer (Principal Financial
and Accounting Officer and Duly
Authorized Officer)
25
INDEX TO EXHIBITS
Exhibit
Number Description
-------------- -----------------------------------------------------------
10.23 Ambac Financial Group, Inc. 1997 Executive Incentive Plan,
amended as of January 1, 2000
10.24 First Extension of U.S. $50,000,000 Revolving Credit
Agreement, dated June 9, 2000 among Ambac Credit Products,
LLC, the banks, financial institutions and other
institutional lenders (the "Lenders"), and the Bank of New
York, as Agent for the Lenders.
27.00 Financial Data Schedule.
99.03 Ambac Assurance Corporation and Subsidiaries Consolidated
Unaudited Financial Statements as of June 30, 2000 and
December 31, 1999 and for the periods ended June 30, 2000
and 1999.
26