EXHIBIT 99.01
AMBAC ASSURANCE CORPORATION AND SUBSIDIARIES
(a wholly-owned subsidiary of Ambac Financial Group, Inc.)
Consolidated Financial Statements
December 31, 2001 and 2000
Independent Auditors' Report
The Board of Directors
Ambac Assurance Corporation:
We have audited the accompanying consolidated balance sheets of Ambac
Assurance Corporation and subsidiaries (a wholly owned subsidiary of Ambac
Financial Group, Inc.) as of December 31, 2001 and 2000, and the related
consolidated statements of operations, stockholder's equity and cash flows for
each of the years in the three-year period ended December 31, 2001. These
consolidated financial statements are the responsibility of Ambac Assurance
Corporation's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Ambac
Assurance Corporation and subsidiaries as of December 31, 2001 and 2000, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 2001 in conformity with accounting
principles generally accepted in the United States of America.
/s/ KPMG LLP
KPMG LLP
New York, New York
January 23, 2002
AMBAC ASSURANCE CORPORATION AND SUBSIDIARIES
Consolidated Balance Sheets
December 31, 2001 and 2000
(Dollars in Thousands Except Share Data
2001 2000
---------- -----------
ASSETS
Investments:
Fixed income securities, at fair value
(amortized cost of $4,955,542 in 2001 and $3,969,932 in 2000) ................... $5,083,039 $4,098,511
Short-term investments, at cost (approximates fair value) ........................... 185,943 218,505
Other ............................................................................... 1,394 715
---------- ----------
Total investments ............................................................... 5,270,376 4,317,731
Cash ..................................................................................... 33,678 11,893
Cash pledged as collateral ............................................................... -- 11,705
Securities purchased under agreements to resell .......................................... -- 25,016
Receivable for securities sold ........................................................... 281 1,215
Investment income due and accrued ........................................................ 73,456 67,132
Reinsurance recoverable .................................................................. 2,259 1,091
Prepaid reinsurance ...................................................................... 267,655 242,604
Deferred acquisition costs ............................................................... 163,477 153,424
Other assets ............................................................................. 343,866 230,908
---------- ----------
Total assets .................................................................... $6,155,048 $5,062,719
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Liabilities:
Unearned premiums ................................................................... $1,790,084 $1,556,250
Losses and loss adjustment expense reserve .......................................... 152,352 132,445
Ceded reinsurance balances payable .................................................. 10,146 10,892
Deferred income taxes ............................................................... 147,642 146,839
Current income taxes ................................................................ 126,039 31,308
Note payable to affiliate ........................................................... 63,500 --
Payable for securities purchased .................................................... 26,097 3,935
Other liabilities ................................................................... 362,465 255,308
---------- ----------
Total liabilities ............................................................... 2,678,325 2,136,977
---------- ----------
Stockholder's equity:
Preferred stock, par value $1,000 per share; authorized
shares-- 285,000; issued and outstanding shares-- none .......................... -- --
Common stock, par value $2.50 per share; authorized shares
-- 40,000,000; issued and outstanding shares-- 32,800,000
at December 31, 2001 and December 31, 2000 ...................................... 82,000 82,000
Additional paid-in capital .......................................................... 928,094 760,006
Accumulated other comprehensive income .............................................. 80,556 81,616
Retained earnings ................................................................... 2,386,073 2,002,120
---------- ----------
Total stockholder's equity ...................................................... 3,476,723 2,925,742
---------- ----------
Total liabilities and stockholder's equity ...................................... $6,155,048 $5,062,719
========== ==========
See accompanying Notes to Consolidated Financial Statements.
AMBAC ASSURANCE CORPORATION AND SUBSIDIARIES
Consolidated Statements of Operations
(Dollars in Thousands)
Years Ended December 31,
-----------------------------------------------
2001 2000 1999
--------- --------- ---------
Revenues:
Gross premiums written ............................................... $ 687,457 $ 485,685 $ 449,786
Ceded premiums written ............................................... (95,534) (80,789) (61,845)
--------- --------- ---------
Net premiums written ............................................. $ 591,923 $ 404,896 $ 387,941
========= ========= =========
Net premiums earned .................................................. $ 383,042 $ 314,507 $ 267,356
Other credit enhancement fees ........................................ 21,661 12,157 3,887
--------- --------- ---------
Net premiums earned and other credit enhancement fees ................ 404,703 326,664 271,243
Net investment income ................................................ 268,864 241,908 209,686
Net realized losses .................................................. (1,464) (3,430) (5,675)
Other income ......................................................... 25,830 32,856 18,020
--------- --------- ---------
Total revenues ................................................... 697,933 597,998 493,274
--------- --------- ---------
Expenses:
Losses and loss adjustment expenses .................................. 20,000 15,000 11,000
Underwriting and operating expenses .................................. 73,852 63,153 54,930
Interest expense ..................................................... 4,676 4,027 3,055
--------- --------- ---------
Total expenses ................................................... 98,528 82,180 68,985
--------- --------- ---------
Income before income taxes ....................................... 599,405 515,818 424,289
--------- --------- ---------
Income tax expense:
Current taxes ........................................................ 146,796 103,812 95,552
Deferred taxes ....................................................... 656 24,324 7,172
--------- --------- ---------
Total income taxes ............................................... 147,452 128,136 102,724
--------- --------- ---------
Net income ....................................................... $ 451,953 $ 387,682 $ 321,565
========= ========= =========
See accompanying Notes to Consolidated Financial Statements.
AMBAC ASSURANCE CORPORATION AND SUBSIDIARIES
Consolidated Statements of Stockholder's Equity
(Dollars In Dollars)
Years Ended December 31,
------------------------------------------------------------------------------------
2001 2000 1999
----------------------- ------------------------ ------------------------
Retained Earnings:
Balance at January 1 $2,002,120 $1,674,238 $ 1,404,673
Net income 451,953 $ 451,953 387,682 $ 387,682 321,565 $ 321,565
--------- --------- ---------
Dividends declared -
common stock (68,000) (59,800) (52,000)
---------- ---------- -----------
Balance at December 31 $2,386,073 $2,002,120 $ 1,674,238
---------- ---------- -----------
Accumulated Other
Comprehensive Income (Loss):
Balance at January 1 $ 81,616 $ (92,049) $ 138,651
Unrealized gains (losses) on
securities, $(787),
$269,460, and $(353,935),
pre-tax, in 2001, 2000
and 1999, respectively) (1) (511) 175,149 (230,058)
Foreign currency loss (549) (1,484) (642)
--------- --------- ---------
Other comprehensive (loss) income (1,060) (1,060) 173,665 173,665 (230,700) (230,700)
---------- --------- ---------- --------- ----------- ---------
Total comprehensive income $ 450,893 $ 561,347 $ 90,865
========= ========= =========
Balance at December 31 $ 80,556 $ 81,616 $ (92,049)
---------- ---------- -----------
Common Stock:
Balance at January 1 and
December 31 $ 82,000 $ 82,000 $ 82,000
---------- ---------- -----------
Additional Paid-in Capital:
Balance at January 1 $ 760,006 $ 751,522 $ 541,021
Capital contribution 176,193 -- 209,012
Capital issuance costs (8,468) -- --
Exercise of stock options 363 8,484 1,489
---------- ---------- -----------
Balance at December 31 $ 928,094 $ 760,006 $ 751,522
---------- ---------- -----------
Total Stockholder's Equity at
December 31 $3,476,723 $2,925,742 $ 2,415,711
========== ========== ===========
(1) Disclosure of reclassification amount:
2001 2000 1999
--------------------------------
Unrealized holding gains (losses) arising during period $2,924 $177,873 $(233,747)
Less: reclassification adjustment for net gains (losses) included
in net income 3,435 2,724 (3,689)
---------------------------------
Net unrealized (losses) gains on securities $ (511) $175,149 $(230,058)
================================
See accompanying Notes to Consolidated Financial Statements.
AMBAC ASSURANCE CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Dollars in Thousands)
Years Ended December 31,
--------------------------------------------
2001 2000 1999
----------- ----------- -----------
Cash flows from operating activities:
Net income ..................................................... $ 451,953 $ 387,682 $ 321,565
Adjustments to reconcile net income to net cash
Provided by operating activities:
Depreciation and amortization .................................. 2,881 2,925 2,337
Amortization of bond premium and discount ...................... (7,615) (5,507) (4,552)
Current income taxes ........................................... 94,731 (2,474) 13,798
Deferred income taxes .......................................... 1,079 24,667 7,172
Deferred acquisition costs ..................................... (10,053) (18,100) (14,705)
Unearned premiums, net ......................................... 208,783 89,944 120,419
Losses and loss adjustment expenses ............................ 18,739 10,379 8,819
Ceded reinsurance balances payable ............................. (746) (4,136) 8,452
Net realized losses ............................................ 1,464 3,430 5,675
Other, net ..................................................... (10,868) 14,862 7,205
----------- ----------- -----------
Net cash provided by operating activities .................. 750,348 503,672 476,185
----------- ----------- -----------
Cash flows from investing activities:
Proceeds from sales of bonds ................................... 505,688 638,613 1,235,605
Proceeds from matured bonds .................................... 239,669 119,592 177,870
Purchases of bonds ............................................. (1,523,590) (1,135,069) (1,715,372)
Change in short-term investments ............................... 32,562 (11,384) (113,209)
Securities purchased under agreements to resell ................ 25,016 (25,016) 5,449
Other, net ..................................................... (6,645) (5,611) (5,192)
----------- ----------- -----------
Net cash used in investing activities ...................... (727,300) (418,875) (414,849)
----------- ----------- -----------
Cash flows from financing activities:
Dividends paid ................................................. (68,000) (59,800) (52,000)
Capital issuance costs ......................................... (8,468) -- --
Long-term financing from affiliates ............................ 63,500 -- --
Short-term financing from affiliates ........................... -- (7,930) (7,700)
----------- ----------- -----------
Net cash used in financing activities ...................... (12,968) (67,730) (59,700)
----------- ----------- -----------
Net cash flow .............................................. 10,080 17,067 1,636
Cash and cash pledged as collateral at January 1 .................... 23,598 6,531 4,895
----------- ----------- -----------
Cash and cash pledged as collateral at December 31 .................. $ 33,678 $ 23,598 $ 6,531
=========== =========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Income taxes ............................................... $ 51,289 $ 96,116 $ 77,456
=========== =========== ===========
Interest expense on intercompany financings ................ $ 229 $ 15 $ 661
=========== =========== ===========
Supplemental disclosure of non-cash financing activities:
Ambac Assurance received capital contributions from its parent company in
November 2001 in the form of fixed income securities amounting to $176,193 and
in April 1999 and November 1999, in the form of fixed income securities
amounting to $101,479 and $107,533, respectively.
See accompanying Notes to Consolidated Financial Statements.
AMBAC ASSURANCE CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Dollar Amounts in Thousands)
1 BACKGROUND
Ambac Assurance Corporation is a leading provider of financial guarantees
to clients in both the public and private sectors around the world. Ambac
Assurance provides financial guarantees on public finance and structured finance
obligations. Ambac Assurance has earned triple-A ratings, the highest ratings
available from Moody's Investors Service, Inc., Standard & Poor's Ratings
Services, Fitch, Inc., and Rating and Investment Information, Inc. Insurance
policies insured by Ambac Assurance guarantee payment when due of the principal
of and interest on the obligation guaranteed. Ambac Assurance is a wholly owned
subsidiary of Ambac Financial Group, Inc., a holding company whose subsidiaries
provide financial guarantees and financial services to clients in both the
public and private sectors around the world.
2 SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements of Ambac Assurance and
subsidiaries have been prepared on the basis of accounting principles generally
accepted in the United States of America ("GAAP"). 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 consolidated
financial statements and the reported revenues and expenses during the reporting
period. Actual results could differ from those estimates. The significant
accounting policies of Ambac Assurance are as described below:
CONSOLIDATION:
The accompanying consolidated financial statements include the accounts of
Ambac Assurance and its subsidiaries. The following companies have been
consolidated with these financial statements: Ambac Assurance UK Limited, Ambac
Credit Products, LLC, Connie Lee Holdings, Inc., Ambac Private Holdings, LLC,
and Ambac Financial Services, L.P. All significant intercompany balances have
been eliminated.
INVESTMENTS:
Ambac Assurance's investment portfolio is accounted for on a trade-date
basis and consists primarily of investments in fixed income securities that are
considered available-for-sale and are carried at fair value. Fair value is based
primarily on quotes obtained from independent market sources. When quotes are
not available, valuation models are used to estimate fair value. These models
include estimates, made by management, which utilize current market information.
The valuation results from these models could differ materially from amounts
that would actually be realized in the market. Short-term investments are
carried at cost, which approximates fair value. Unrealized gains and losses, net
of deferred income taxes, are included as a component of "Accumulated Other
Comprehensive Income" in stockholder's equity and are computed using amortized
cost as the basis. For purposes of computing amortized cost, premiums and
discounts are accounted for using the interest method. For bonds purchased at a
price below par value, discounts are accreted over the remaining term of the
securities. For bonds purchased at a price above par value which have call
features, premiums are amortized to the most likely call dates as determined by
management. For premium bonds that do not have call features, such premiums are
amortized over the remaining terms of the securities. Premiums and discounts on
mortgage-backed and asset-backed securities are adjusted for the effects of
actual and anticipated
prepayments. Realized gains and losses on the sale of investments are determined
on the basis of specific identification.
SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL:
Securities purchased under agreements to resell are collateralized
investment transactions, and are recorded at their contracted resale amounts,
plus accrued interest. Ambac Assurance takes possession of the collateral
underlying those agreements and monitors its market value on a daily basis and,
when necessary, requires prompt transfer of additional collateral to reflect
current market value. At December 31, 2000, collateral underlying securities
purchased under agreements to resell had an average credit rating of triple-A
and a weighted average maturity of less than 30 days.
DEFERRED ACQUISITION COSTS:
Certain costs incurred, primarily related to the production of business,
have been deferred. These costs include direct and indirect expenses related to
underwriting, marketing and policy issuance, rating agency fees and premium
taxes, net of reinsurance ceding commissions. The deferred acquisition costs are
being amortized over the periods in which the related premiums are earned, and
such amortization amounted to $28,203, $22,472 and $20,843 for 2001, 2000 and
1999, respectively. Deferred acquisition costs, net of such amortization,
amounted to $10,053, $18,100 and $14,705 for 2001, 2000 and 1999, respectively.
LOSSES AND LOSS ADJUSTMENT EXPENSE RESERVE:
The reserve for losses and loss adjustment expenses consists of the active
credit reserve and case basis loss and loss adjustment expense reserves. The
development of the active credit reserve is based upon estimates of the expected
levels of debt service defaults resulting from credit failures on currently
guaranteed issues that are not presently or imminently in default. When losses
occur (actual monetary defaults or defaults which are imminent on guaranteed
obligations), case basis loss reserves are established in an amount that is
sufficient to cover the present value of the anticipated defaulted debt service
payments over the expected period of default and estimated expenses associated
with settling the claims, less estimated recoveries under salvage or subrogation
rights. During 2001, 2000 and 1999, paid losses were $2,595, $4,622, and $2,213,
respectively. All or parts of case basis loss reserves are allocated from any
active credit reserves available. During 2001, 2000 and 1999, salvage received
were $1,333, $0 and $31, respectively.
NET PREMIUMS EARNED:
Up-front insurance premiums written are received for an entire bond issue.
A bond issue may contain several maturities. The premium is allocated to each
bond maturity proportionally, based on total principal amount guaranteed and is
recognized on a straight-line basis over the term of each maturity. Installment
insurance premiums written are recognized over each installment period,
generally one year or less. When an issue insured by Ambac Assurance has been
refunded or called, the remaining unrecognized premium (net of refunding
credits, if any) is generally recognized at that time.
DEPRECIATION AND AMORTIZATION:
Depreciation of furniture and fixtures and electronic data processing
equipment is provided over the estimated useful lives of the respective assets,
ranging from three to five years, using the straight-line method. Amortization
of leasehold improvements and intangibles, including certain computer software
licenses, is provided over the estimated useful lives of the respective assets,
ranging from three to 10 years, using the straight-line method.
POSTRETIREMENT AND POSTEMPLOYMENT BENEFITS:
Ambac Financial Group, through its subsidiaries, provides various
postretirement and postemployment benefits, including pension, and health and
life benefits covering substantially all employees who meet certain age and
service requirements. Ambac Assurance accounts for these benefits under the
accrual method of accounting. Amounts related to the defined benefit pension
plan and postretirement health benefits are charged based on actuarial
determinations.
FOREIGN CURRENCY:
Financial statement accounts expressed in foreign currencies are translated into
U.S. dollars in accordance with FAS Statement 52 "Foreign Currency Translation"
("SFAS 52"). Under SFAS 52, functional currency assets and liabilities are
translated into U.S. dollars using exchange rates in effect at the balance sheet
dates and the related translation adjustments are recorded as a separate
component of comprehensive income, net of any related taxes. Functional
currencies are generally the currencies of the local operating environment.
Income statement accounts expressed in functional currencies are translated
using average exchange rates. Foreign currency transaction gains and losses
arising primarily from transactions in short-term investment securities and cash
denominated in foreign currency are reflected in net income. The Consolidated
Statements of Operations include pre-tax losses from such foreign exchange items
of $3,370, $3,748 and $841 for 2001, 2000 and 1999, respectively.
INCOME TAXES:
Pursuant to a tax sharing agreement, Ambac Assurance is included in Ambac
Financial Group, Inc.'s consolidated Federal income tax return. The tax sharing
agreement provides for the determination of tax expense or benefit based on the
contribution of Ambac Assurance to Ambac Financial Group's consolidated Federal
income tax liability, computed substantially as if Ambac Assurance filed a
separate Federal income tax return. The tax liability due is settled quarterly,
with a final settlement taking place after the filing of the consolidated
Federal income tax return. Ambac Assurance files its own state income tax
returns.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in the period that
includes the enactment date.
STOCK COMPENSATION PLANS:
Ambac Assurance participates in Ambac Financial Group's equity plan. Under
this plan, awards are granted to eligible employees of Ambac Assurance in the
form of incentive stock options or other stock-based awards. Other than the tax
benefits derived from this plan, pursuant to the tax sharing agreement, no other
recognition is given by Ambac Assurance.
DERIVATIVE CONTRACTS:
In June 1998 the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for
Derivative Instruments and Certain Hedging Activities." In June 2000 the FASB
issued SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain
Hedging Activities (an amendment of SFAS 133)." SFAS No. 133 and SFAS No. 138
require all derivative instruments be recorded on the balance sheet at their
respective fair values. SFAS No. 133 and SFAS No. 138 are effective for all
fiscal quarters of all fiscal years beginning after June 30, 2000; Ambac
Assurance adopted SFAS No.133 and SFAS No. 138 on January 1, 2001. In accordance
with the transition provisions of SFAS 133, Ambac Assurance determined that it
did not have an effect on the consolidated financial statements.
Ambac Assurance, through its affiliate Ambac Financial Services, provides
interest rate swaps to states, municipalities and their authorities, and other
entities in connection with their financings. Ambac Financial Services also
enters into total return swaps with professional counterparties. Total return
swaps are only used for fixed income obligations, which meet Ambac Assurance's
credit underwriting criteria. Ambac Financial Services uses futures contracts
for hedging purposes as part of its overall interest rate risk management. Ambac
Assurance, through its subsidiary Ambac Credit Products, enters into structured
credit derivative transactions with various financial institutions. Ambac
Financial Services interest rate swaps, total return swaps and futures contracts
and Ambac Credit Product's structured credit derivatives are classified as held
for trading purposes. These contracts are recorded on trade date at fair value.
Changes in fair value are recorded as a component of other income for interest
rate swaps, total return swaps and futures contracts on the Consolidated
Statements of Operations. The fee component of structured credit derivatives is
reflected in other credit enhancement fees in the accompanying Consolidated
Statement of Operations. The mark to market gain or loss associated with credit
spread changes on structured credit derivatives is reflected in net realized
losses in the accompanying Consolidated Statement of Operations. Amounts
included in net realized losses for credit spread mark-to-market were $3,588,
$4,111 and $0 for the years ended December 31, 2001, 2000 and 1999,
respectively. The fair values of interest rate swaps and structured credit
derivatives are determined by broker quotes, independent pricing services or
valuation models (when broker quotes or pricing services are not available).
Valuation models include estimates, made by management, which utilize current
market information. The valuation results from these models could differ
materially from amounts that would actually be realized in the market. Contracts
are recorded on the Consolidated Balance Sheets on a gross basis; assets and
liabilities are netted by customer only when a legal right of set-off exists.
Gross asset and gross liability balances for interest rate swaps and structured
credit derivatives are recorded as other assets or other liabilities on the
Consolidated Balance Sheets.
SPECIAL PURPOSE ENTITIES:
Ambac Financial Group, Inc. has sponsored two special purpose entities.
The business purpose of these entities is to provide certain financial guarantee
clients with funding for their debt obligations. Ambac Assurance receives
financial guarantee premiums and may receive other fees for this service. Ambac
Financial Group accounts for these entities as Qualified Special Purpose
Entities ("QSPEs") in accordance with Statement of Financial Accounting
Standards 140, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities." The QSPEs are non-consolidated, bankruptcy
remote entities. Ambac purchases debt obligations from certain financial
guarantee clients and sells these obligations to the QSPEs. The purchase by the
QSPE is financed through the issuance of medium-term notes ("MTNs"), which are
collateralized by the purchased assets. These MTNs are generally structured to
match the cash flow of the assets purchased. Derivative contracts may be used
(interest rate and currency swaps) for hedging purposes only. Derivative hedges
are established at the time MTNs are issued to purchase financial assets. Ambac
Assurance may issue a financial guarantee insurance policy on the assets sold,
the MTNs issued or both. As of December 31, 2001, Ambac Assurance had insurance
policies issued for all assets and MTNs owned and outstanding by the QSPEs.
Since these exposures are insured, any losses incurred would be included in
Ambac Assurance's Consolidated Statements of Operations. Under the terms of an
Administrative Agency Agreement, Ambac Financial Group provides certain
administrative duties, including asset and liability servicing responsibilities.
Assets sold to the QSPEs during 2001, 2000 and 1999 were $793,438, $159,937 and
$100,027, respectively. No gains or losses were recognized on these sales. As of
December 31, 2001, the estimated fair value of financial assets, MTN liabilities
and derivative hedge assets were $989,905, $1,003,588 and $11,677, respectively.
Estimated fair value is determined utilizing valuation models. These models
include estimates, made by management, which utilize current market information.
The valuation results from these models could differ materially from amounts
that would actually be realized in the market. Ambac Assurance received gross
premiums and other fees for issuing financial guarantee policies on the assets
and MTNs of $23,682, $3,204, and $1,019 for the years ended December 31, 2001,
2000 and 1999, respectively. Ambac Financial Group received up-front fees for
providing administrative agency services amounting to $302, $180, and $60 for
2001, 2000 and 1999 respectively.
ACCOUNTING STANDARDS:
In July 2001, the FASB issued FAS Statement 142, "Goodwill and Other
Intangible Assets" ("SFAS142".) SFAS 142 addresses the initial recognition and
measurement of intangible assets either singly or within a group of assets, as
well as the measurement of goodwill and other intangible assets subsequent to
their initial acquisition. SFAS 142 changes the accounting for goodwill and
intangible assets that have indefinite useful lives from an amortization
approach to an impairment-only approach that requires that those assets be
tested at least annually for impairment. Intangible assets that have finite
useful lives will continue to be amortized over their useful lives, but without
an arbitrary ceiling on their useful lives. SFAS 142 is required to be applied
starting with fiscal years beginning after December 15, 2001 and is required to
be applied at the beginning of an entity's fiscal year. The statement is to be
applied to all goodwill and other intangible assets recognized in an entity's
financial statements at that date. Impairment losses for goodwill and indefinite
lived intangible assets that arise due to the initial application of SFAS 142
(resulting from an impairment test) are to be reported as a change in accounting
principle. Retroactive application is not permitted.
In August 2001, the FASB issued FAS Statement 143, "Accounting for
Asset Retirement Obligations"("SFAS 143".) SFAS 143 requires companies to record
the fair value of an asset retirement obligation as a liability in the period in
which it incurs a legal obligation associated with the retirement of tangible
long-lived assets that result from the acquisition, construction, development
and/or normal use of the assets. Companies also record a corresponding asset
which is depreciated over the life of the asset. Subsequent to the initial
measurement of the asset retirement obligation, the obligation is adjusted at
the end of each period to reflect the passage of time and changes in the
estimated future cash flows underlying the obligation. Ambac Assurance is
required to adopt SFAS 143 on January 1, 2003.
In October 2001, the FASB issued FAS Statement 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets"("SFAS 144".) SFAS 144 addresses
financial accounting and reporting for the impairment or disposal of long-lived
assets. This Statement requires that long-lived assets be reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. SFAS Statement 144 requires
companies to separately report discontinued operations and extends that
reporting to a component of an entity that either has been disposed of (by sale,
abandonment, or in a distribution to owners) or is classified as held for sale.
Assets to be disposed of are reported at the lower of the carrying amount or
fair value less costs to sell. Ambac Assurance is required to adopt SFAS 144 on
January 1, 2002.
Ambac Assurance does not expect any material impact from the adoption
of SFAS 142, SFAS 143 or SFAS 144.
RECLASSIFICATIONS:
Certain reclassifications have been made to prior years' amounts to
conform to the current year's presentation.
3 INVESTMENTS
The amortized cost, gross unrealized gains and losses, and estimated
fair value of investments in fixed income securities and short-term investments
at December 31, 2001 and 2000 were as follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ----------- ----------
2001
Municipal obligations .............................. $3,439,356 $ 129,826 $ 28,887 $3,540,295
Corporate obligations .............................. 644,216 22,762 10,777 656,201
Foreign government obligations ..................... 97,108 629 1,137 96,600
U.S. government obligations ........................ 51,182 3,582 -- 54,764
Mortgage and asset-backed securities (includes
U.S. government agency obligations) ................ 723,680 13,018 1,519 735,179
Short-term ......................................... 185,943 -- -- 185,943
---------- ---------- ----------- ----------
$5,141,485 $ 169,817 $ 42,320 $5,268,982
========== ========== =========== ==========
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ----------- ----------
2000
Municipal obligations .............................. $3,206,089 $ 140,244 $ 17,591 $3,328,742
Corporate obligations .............................. 422,200 13,398 13,465 422,133
Foreign government obligations ..................... 36,241 83 954 35,370
U.S. government obligations ........................ 46,396 3,012 1 49,406
Mortgage and asset-backed securities (includes
U.S. government agency obligations) ................ 259,006 5,581 1,728 262,860
Short-term ......................................... 218,505 -- -- 218,505
---------- ---------- ----------- ----------
$4,188,437 $ 162,318 $ 33,739 $4,317,016
========== ========== =========== ==========
The amortized cost and estimated fair value of fixed income securities
and short-term investments at December 31, 2001, by contractual maturity, were
as follows:
Amortized Estimated
Cost Fair Value
------------- -------------
2001
Due in one year or less .............................................. $ 221,676 $ 222,079
Due after one year through five years ................................ 531,357 547,027
Due after five years through ten years ............................... 640,684 653,572
Due after ten years .................................................. 3,024,088 3,111,125
------------- -------------
4,417,805 4,533,803
Mortgage and asset-backed securities (includes U.S. government
agency obligations) .................................................. 723,680 735,179
------------- -------------
$ 5,141,485 $ 5,268,982
============= =============
Expected maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties.
Securities carried at $5,964 and $5,843 at December 31, 2001 and 2000
respectively, were deposited by Ambac Assurance with governmental authorities or
designated custodian banks as required by laws affecting insurance companies.
Net investment income of Ambac Assurance comprised the following:
2001 2000 1999
--------- --------- ---------
Fixed income securities ................................. $ 260,074 $ 232,876 $ 202,804
Short-term investments .................................. 11,241 10,765 8,193
--------- --------- ---------
Total investment income 271,315 243,641 210,997
Investment expense ...................................... (2,451) (1,733) (1,311)
--------- --------- ---------
Net investment income .............................. $ 268,864 $ 241,908 $ 209,686
========= ========= =========
Net realized losses in 2001 were $1,464, compared to net realized losses of
$3,430 and $5,675 in 2000 and 1999, respectively. The following table details
amounts included in net realized losses:
2001 2000 1999
--------- --------- ---------
Gross realized gains on securities sold ................. $ 8,672 $ 8,517 $ 8,050
Gross realized losses on securities sold ................ (3,388) (4,327) (13,725)
Foreign exchange losses on investments .................. (3,160) (3,509) --
Change in fair value of structured credit derivatives ... (3,588) (4,111) --
--------- --------- ---------
Net realized losses ................................ $ (1,464) $ (3,430) $ (5,675)
========= ========= =========
4 REINSURANCE
In the ordinary course of business, Ambac Assurance cedes exposures under
various reinsurance contracts primarily designed to minimize losses from large
risks and to protect capital and surplus. The effect of reinsurance on premiums
written and earned was as follows:
Year Ended December 31,
--------------------------------------------------------------------------
2001 2000 1999
---------------------- ---------------------- ----------------------
Written Earned Written Earned Written Earned
--------- --------- --------- --------- --------- ---------
Direct .......... $ 636,574 $ 414,700 $ 442,714 $ 338,139 $ 425,213 $ 291,983
Assumed ......... 50,883 38,825 42,971 32,530 24,573 19,161
Ceded ........... (95,534) (70,483) (80,789) (56,162) (61,845) (43,788)
--------- --------- --------- --------- --------- ---------
Net premiums..... $ 591,923 $ 383,042 $ 404,896 $ 314,507 $ 387,941 $ 267,356
========= ========= ========= ========= ========= =========
The reinsurance of risk does not relieve the ceding insurer of its original
liability to its policyholders. In the event that all or any of the reinsurers
are unable to meet their obligations to Ambac Assurance under the existing
reinsurance agreements, Ambac Assurance would be liable for such
defaulted amounts. To minimize its exposure to significant losses from reinsurer
insolvencies, Ambac Assurance evaluates the financial condition of its
reinsurers and monitors concentrations of credit risk. As of December 31, 2001,
Ambac Assurance held letters of credit and collateral amounting to approximately
$282,832 from its reinsurers to cover liabilities ceded under the aforementioned
reinsurance contracts. There were no reinsurance recoverables on paid losses as
of December 31, 2001 and 2000. As of December 31, 2001, prepaid reinsurance of
approximately $169,430 was associated with Ambac Assurance's three largest
reinsurers. Ambac Assurance pledged cash and fixed income securities to foreign
insurers of $9,295 and $9,386 at December 31, 2001 and 2000, respectively,
related to business assumed from those insurers.
From 1995 to March 2000, Ambac Assurance and MBIA Insurance Corporation ("MBIA")
marketed financial guarantees outside of the United States via an unincorporated
joint venture, MBIAoAMBAC International (the "Joint Venture"). Under the Joint
Venture, financial guarantee policies were issued separately by each of the
companies. While retaining the right to act individually, each company had the
opportunity to reinsure up to 50 percent of the international financial
guarantee business written by the other company as part of the Joint Venture.
Premiums assumed from MBIA relating to international business were $46,211,
$37,384 and $24,503 in 2001, 2000 and 1999, respectively, while premiums ceded
to MBIA were $21,994, $36,807 and $27,418 in 2001, 2000 and 1999, respectively.
5 LOSSES AND LOSS ADJUSTMENT EXPENSE RESERVE
As discussed in note 2, Ambac Assurance's liability for losses and loss
adjustment expenses consists of case basis and active credit reserves. Following
is a summary of the activity in the case basis loss and active credit reserve
accounts and the components of the liability for loss and loss adjustment
expense reserves:
2001 2000 1999
--------- --------- ---------
Case basis loss and loss adjustment expense reserves:
Balance at January 1 ....................................... $ 32,125 $ 26,705 $ 37,554
Less: reinsurance recoverables ........................... 1,091 501 3,638
--------- --------- ---------
Net Balance at January 1 ................................... 31,034 26,204 33,916
--------- --------- ---------
Incurred related to:
Current year ............................................. 3,000 -- 4,000
Prior years .............................................. (4,938) 9,451 (9,531)
--------- --------- ---------
Total incurred ......................................... (1,938) 9,451 (5,531)
--------- --------- ---------
Paid related to:
Current year ............................................. -- -- --
Prior years .............................................. 1,261 4,621 2,181
--------- --------- ---------
Total paid ............................................. 1,261 4,621 2,181
--------- --------- ---------
Net balance at December 31 ................................. 27,835 31,034 26,204
Plus reinsurance recoverables ............................ 2,259 1,091 501
--------- --------- ---------
Balance at December 31 ..................................... 30,094 32,125 26,705
--------- --------- ---------
Active credit reserve:
Balance at January 1 100,320 94,771 78,240
Net provision for losses 20,000 15,000 11,000
Transfers (to) from case reserves 1,938 (9,451) 5,531
--------- --------- ---------
Balance at December 31 122,258 100,320 94,771
--------- --------- ---------
Total $ 152,352 $ 132,445 $ 121,476
========= ========= =========
6 COMMITMENTS AND CONTINGENCIES
Ambac Assurance is responsible for leases on the rental of office space.
The lease agreements, which expire periodically through September 2019, contain
provisions for scheduled periodic rent increases and are accounted for as
operating leases. An estimate of future net minimum lease payments in each of
the next five years ending December 31, and the periods thereafter, is as
follows:
Amount
------------
2002 ...................................... $ 5,909
2003 ...................................... 5,759
2004 ...................................... 5,760
2005 ...................................... 5,773
2006 ...................................... 5,787
All later years ........................... 77,329
------------
$106,317
============
Rent expense for the aforementioned leases amounted to $5,916, $5,549 and
$5,298 for the years ended December 31, 2001, 2000 and 1999, respectively.
7 INSURANCE REGULATORY
Ambac Assurance is subject to the insurance regulatory requirements of the
States of Wisconsin and New York, and the other jurisdictions in which it is
licensed to conduct business.
Ambac Assurance's ability to pay dividends is generally restricted by law
and subject to approval by the Office of the Commissioner of Insurance of the
State of Wisconsin. Wisconsin insurance law restricts the payment of dividends
in any 12-month period without regulatory approval to the lesser of (a) 10% of
policyholders' surplus as of the preceding December 31 and (b) the greater of
(i) statutory net income for the calendar year preceding the date of dividend,
minus realized capital gains for that calendar year and (ii) the aggregate of
statutory net income for three calendar years preceding the date of the
dividend, minus realized capital gains for those calendar years and minus
dividends paid or credited within the first two of the three preceding calendar
years. Based upon these restrictions, at December 31, 2001, the maximum amount
that will be available during 2002 for payment of dividends by Ambac Assurance
is approximately $200,000. Ambac Assurance paid cash dividends of $68,000,
$59,800 and $52,000 on its common stock in 2001, 2000 and 1999, respectively.
The New York Financial Guarantee Insurance Law establishes single risk
limits applicable to all obligations issued by a single entity and backed by a
single revenue source. Such limits are specific to the type of insured
obligation (for example, municipal or asset-backed). The limits compare the
insured net par outstanding and average annual debt service, net of reinsurance
and collateral, for a single risk to the insurer's qualified statutory capital,
which is defined as the sum of the insurer's policyholders' surplus and
contingency reserves. As of December 31, 2001 and 2000, Ambac Assurance and its
subsidiaries were in compliance with these regulatory requirements.
Ambac Assurance's statutory financial statements are prepared on the basis
of accounting practices prescribed or permitted by the Wisconsin Insurance
Department. Effective January 1, 2001, Wisconsin adopted the National
Association of Insurance Commissioners' statutory accounting practices
as the basis of its statutory accounting practices. The adoption of the National
Association of Insurance Commissioners' accounting practices did not have a
material effect on Ambac Assurance's statutory capital. The commissioner of the
Wisconsin Insurance Department has the right to permit specific practices that
deviate from prescribed practices. Ambac Assurance does not have any accounting
practices that are permitted, rather than prescribed, by the Insurance
Department of the State of Wisconsin.
Statutory capital and surplus differs from stockholder's equity determined
under GAAP principally due to statutory accounting rules that treat loss
reserves, premiums earned, policy acquisition costs, deferred income taxes and
investment carrying values differently.
The following is a reconciliation of consolidated stockholder's equity
presented on a GAAP basis for Ambac Assurance and its consolidated subsidiaries
to statutory capital and surplus for Ambac Assurance:
For the Years Ended December 31,
--------------------------------------
2001 2000
---------------- ---------------
Ambac Assurance Corporation GAAP stockholder's equity ............ $3,476,723 $2,925,742
Mandatory contingency reserve ........................... (1,265,652) (1,080,748)
GAAP loss reserves ...................................... 122,257 100,320
Unearned premium reserve ................................ (345,284) (306,874)
Deferred acquisition costs .............................. (162,102) (151,675)
Income taxes ............................................ 178,191 147,108
Tax and loss bonds ...................................... 128,371 128,371
Unrealized gains (losses) on investments ................ (139,587) (131,011)
Statutory goodwill, net of amortization ................. 24,637 28,744
Other ................................................... (21,270) (4,826)
------------- -------------
Statutory capital and surplus .................................... $1,996,284 $1,655,151
============= =============
Statutory net income was $394,559, $381,328 and $262,756 for 2001, 2000 and
1999, respectively.
8 INCOME TAXES
The total effect of income taxes on income and stockholder's equity for the
years ended December 31, 2001 and 2000 was as follows:
2001 2000
-------- --------
Total income taxes charged to income ............................. $147,452 $128,136
-------- --------
Income taxes (credited) charged to stockholder's equity:
Unrealized (losses) gains on bonds ........................... (275) 94,311
Exercise of stock options .................................... (363) (8,484)
-------- --------
Total (credited) charged to stockholder's equity ........ (638) 85,827
-------- --------
Total effect of income taxes ..................................... $146,813 $213,963
======== ========
The tax provisions in the accompanying consolidated statements of
operations reflect effective tax rates differing from prevailing Federal
corporate income tax rates. The following is a reconciliation of these
differences:
2001 % 2000 % 1999 %
----------- --------- ---------- --------- ---------- --------
Computed expected tax at
statutory rate .............. $209,792 35.0% $ 180,536 35.0% $ 148,501 35.0%
Reductions in expected
tax resulting from:
Tax-exempt interest ......... (59,644) (10.0) (50,479) (9.8) (43,136) (10.2)
Other, net .................. (2,696) (0.4) (1,921) (0.4) (2,641) (0.6)
----------- --------- ---------- --------- ----------- ---------
Income tax expense .......... $147,452 24.6% $128,136 24.8% $ 102,724 24.2%
=========== ========= ========== ========= =========== =========
The tax effects of temporary differences that give rise to significant
portions of the deferred tax liabilities and deferred tax assets at December 31,
2001 and 2000 are presented below:
2001 2000
---------- -----------
Deferred tax liabilities:
Contingency reserve ................................... $163,957 $163,957
Unrealized gains on bonds ............................. 44,624 44,899
Deferred acquisition costs ............................ 56,783 53,133
Unearned premiums and credit fees ..................... 57,516 50,617
Other ................................................. 6,099 9,281
---------- -----------
Total deferred tax liabilities ..................... 328,979 321,887
---------- -----------
Deferred tax assets:
Tax and loss bonds .................................... 128,371 128,371
Loss reserves ......................................... 42,903 35,281
Alternative minimum tax credit carryforward ........... -- 2,468
Compensation .......................................... 5,859 4,613
Other ................................................. 4,204 4,315
---------- -----------
Sub-total deferred tax assets ...................... 181,337 175,048
Valuation allowance ................................... -- --
---------- ------------
Total deferred tax assets .......................... 181,337 175,048
---------- ------------
Net deferred tax liabilities ....................... $147,642 $146,839
========== ===========
Ambac Assurance believes that no valuation allowance is necessary in
connection with the deferred tax assets.
9 EMPLOYEE BENEFITS
Pensions:
Ambac Financial Group has a defined benefit pension plan covering
substantially all employees of Ambac. The benefits are based on years of service
and the employee's highest salary during five consecutive years of employment
within the last ten years of employment. Ambac Financial Group's funding policy
is to contribute annually the maximum amount that can be deducted for Federal
income tax purposes. Contributions are intended to provide not only for benefits
attributed to service-to-date but also for those expected to be earned in the
future.
The table below sets forth a reconciliation of the beginning and ending
projected benefit obligation, beginning and ending balances of the fair value of
plan assets, and the funded status of the plan as of December 31, 2001 and 2000:
2001 2000
------------- ----------
Change in Projected Benefit Obligation:
Projected benefit obligation at beginning of year ............................ $12,669 $11,201
Service cost ................................................................. 1,031 892
Interest cost ................................................................ 853 829
Actuarial (gain) loss ........................................................ (189) 20
Benefits paid ................................................................ (254) (273)
Other ........................................................................ 250 --
-------- --------
Projected benefit obligation at end of year .................................. $14,360 $12,669
-------- --------
Change in Plan Assets:
Fair value of plan assets at beginning of year ............................... $11,957 $12,841
Actual return on plan assets ................................................. (872) (611)
Ambac Financial Group contributions .......................................... 2,000 --
Benefits paid ................................................................ (254) (273)
-------- --------
Fair value of plan assets at end of year ..................................... $12,831 $11,957
-------- --------
Funded status ................................................................ ($1,529) ($ 712)
Unrecognized loss (gain) ..................................................... 1,132 (916)
Unrecognized prior service cost .............................................. (379) (781)
-------- --------
Pension liability ............................................................ ($ 776) ($ 2,409)
======== ========
Ambac Financial Group's net pension costs for the years ended December
31, 2001, 2000 and 1999 included the following components:
2001 2000 1999
---------- ---------- ----------
Service cost ..................................................... $ 1,031 $ 892 $ 979
Interest cost on expected benefit obligation ..................... 853 829 783
Expected return on plan assets ................................... (1,286) (1,056) (893)
Amortization of unrecognized transition asset .................... -- -- (3)
Amortization of prior service cost ............................... (151) (151) (151)
Recognized net actuarial (gain) loss ............................. (78) (12) 39
------- ------- -------
Net periodic pension cost ........................................ $ 369 $ 502 $ 754
======= ======= =======
Pension expense is allocated to each of Ambac Financial Group's
subsidiaries based on percentage of payroll. Pension expense recorded by Ambac
Assurance amounted to $281, $375 and $553 in 2001, 2000 and 1999, respectively.
The discount rate used in the determination of the actuarial present value
for the projected benefit obligation was 7.0% and 7.5% for 2001 and 2000,
respectively. The expected long-term rate of return on assets was 9.25% for both
2001 and 2000. The rate of increase in future compensation levels used in
determining the actuarial present value of the projected benefit obligation was
4.5% and 5.0% for 2001 and 2000, respectively.
Substantially all employees of Ambac Financial Group and its subsidiaries
are covered by a defined contribution plan (the "Savings Incentive Plan"), for
which contributions and costs are determined as 6% of each eligible employee's
eligible base salary, plus a matching company contribution of 50% on
contributions up to 6% of base salary made by eligible employees to the Savings
Incentive Plan. The total cost of the Savings Incentive Plan to Ambac Assurance
was $2,188, $1,940 and $1,695 in 2001, 2000 and 1999, respectively.
Annual Incentive Program:
Ambac Financial Group has an annual incentive program that provides for
awards to key officers and employees based upon predetermined criteria. Ambac
Assurance's cost of the program for the years ended December 31, 2001, 2000 and
1999 amounted to $24,927, $21,055 and $16,106, respectively.
Postretirement Health Care and Other Benefits:
Ambac Financial Group provides certain medical and life insurance benefits
for retired employees and eligible dependents. All plans are contributory. None
of the plans are currently funded.
Ambac Assurance's postretirement benefits expense was $113, $328 and $456
in 2001, 2000 and 1999, respectively. Ambac Financial Group's unfunded
accumulated postretirement benefit obligation was $1,727, and the accrued
postretirement liability was $2,504 as of December 31, 2001.
The assumed health care cost trend rates range from 7.5% in 2002,
decreasing ratably to 6.0% in 2008, and remaining at that level thereafter.
Increasing the assumed health care cost trend rate by one percentage point in
each future year would increase Ambac Financial Group's accumulated
postretirement benefit obligation at December 31, 2001 by $639 and Ambac
Financial Group's 2001 benefit expense by $103. The discount rate used to
measure the accumulated postretirement benefit obligation and 2001 expense was
7.0%.
10 GUARANTEES IN FORCE
The par amount of bonds guaranteed, for non-affiliates, were $357,219,000
and $313,475,000 at December 31, 2001 and 2000, respectively. The par amount of
bonds guaranteed, for non-affiliates, net of reinsurance, were $318,043,000 and
$276,252,000 at December 31, 2001 and 2000, respectively. As of December 31,
2001 and 2000, the guarantee portfolio was diversified by type of guaranteed
bond as shown in the following table:
Net Par Amount Outstanding
--------------------------------
(Dollars in Millions) 2001 2000
------------- ----------
Public Finance:
Lease and tax-backed revenue ............................................ $ 52,102 $ 46,292
General obligation ...................................................... 39,664 39,432
Utility revenue ......................................................... 29,513 28,504
Health care revenue ..................................................... 19,003 17,837
Transportation revenue .................................................. 13,000 10,496
Higher education ........................................................ 11,854 9,603
Investor-owned utilities ................................................ 11,642 10,560
Housing revenue ......................................................... 7,476 7,146
Student loans ........................................................... 7,249 6,375
Other ................................................................... 5,103 4,065
-------- --------
Total Public Finance ................................................ 196,606 180,310
-------- --------
Structured Finance:
Mortgage-backed and home equity ......................................... 42,723 38,215
Asset-backed and conduits ............................................... 23,302 22,121
Other ................................................................... 6,612 4,324
-------- --------
Total Structured Finance ............................................ 72,637 64,660
-------- --------
International Finance:
Structured credit derivatives ........................................... 26,123 15,313
Asset-backed and conduits ............................................... 11,721 8,595
Utilities ............................................................... 2,878 1,803
Mortgage-backed and home equity ......................................... 2,602 1,364
Sovereign/sub-sovereign ................................................. 1,299 1,123
Other ................................................................... 4,177 3,084
-------- --------
Total International Finance ......................................... 48,800 31,282
-------- --------
$318,043 $276,252
======== ========
As of December 31, 2001 and 2000, the International Finance guarantee
portfolio is shown in the following table by location of risk:
Net Par Amount Outstanding
-----------------------------------------------
(Dollars in Millions) 2001 2000
--------------------- ---------------------
United Kingdom ........................... $ 6,531 $ 3,103
Australia ................................ 1,623 1,382
Japan .................................... 1,167 1,167
France ................................... 1,155 765
Germany .................................. 948 471
Mexico ................................... 654 608
Internationally diversified .............. 32,621 20,962
Other international ...................... 4,101 2,824
--------------------- ---------------------
$48,800 $31,282
===================== =====================
Internationally diversified includes structured credit derivatives which
includes components of domestic exposure.
Direct financial guarantees in force (principal and interest) were
$542,458,000 and $480,631,000 at December 31, 2001 and 2000, respectively. Net
financial guarantees in force (after giving effect to reinsurance) were
$476,190,000 and $418,386,000 as of December 31, 2001 and 2000, respectively.
In the United States, California and New York were the states with the
highest aggregate net par amounts in force, accounting for 8.8% and 5.7% of the
total at December 31, 2001. No other state accounted for more than five percent.
The highest single insured risk represented less than 1% of aggregate net par
amount insured.
11 FAIR VALUES OF FINANCIAL INSTRUMENTS
The following fair value amounts were determined by using independent
market information when available, and valuation models when market quotes were
not available. In cases where specific market quotes are unavailable,
interpreting market data and estimating market values require considerable
judgment by management. Accordingly, the estimates presented are not necessarily
indicative of the amount Ambac Assurance could realize in a current market
exchange.
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value:
Investments: The fair values of fixed income investments are based
primarily on quoted market prices received from a nationally recognized pricing
service or dealer quotes. When quotes are not available, fair values are
estimated based upon internal valuation models.
Short-term investments, other investments and cash: The fair values of
short-term investments, other investments and cash are assumed to approximate
amortized cost.
Securities purchased under agreements to resell: The fair value of
securities purchased under agreements to resell is assumed to approximate
carrying value.
Investment income due and accrued: The fair value of investment income due
and accrued is assumed to approximate carrying value.
Derivative contracts held for trading purposes: The fair values of interest
rate swaps, total return swaps and structured credit derivative transactions, as
discussed in Note 2, are based on quoted dealer prices, current settlement
values, or valuation models.
Note payable to affiliate: The fair value of the note payable is assumed to
equal carrying value.
Liability for net financial guarantees written: The fair value of the
liability for those financial guarantees written is based on the estimated cost
to reinsure those exposures at current market rates, which amount consists of
the current unearned premium reserve, less an estimated ceding commission
thereon.
Other financial guarantee insurance policies have been written on an
installment basis, where the future premiums to be received by Ambac Assurance
are determined based on the outstanding exposure at the time the premiums are
due. The fair value of Ambac Assurance's liability under its installment premium
policies is measured using the present value of estimated future installment
premiums, less an estimated ceding commission. The estimate of the amounts and
timing of the future installment premiums
is based on contractual premium rates, debt service schedules and expected
run-off scenarios. This measure is used as an estimate of the cost to reinsure
Ambac Assurance's liability under these policies.
The carrying amount and estimated fair value of financial instruments are
presented below:
As of December 31,
------------------------------------------------------
2001 2000
-------------------------- --------------------------
(Dollars in Millions) Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
------------ ------------ ------------ ------------
Financial assets:
Fixed income securities ................ $5,083 $5,083 $4,099 $4,099
Short-term investments ................. 186 186 219 219
Other investments ...................... 1 1 1 1
Cash ................................... 34 34 12 12
Cash pledged as collateral ............. -- -- 12 12
Securities purchased under
agreements to resell ................. -- -- 25 25
Investment income due and accrued ...... 73 73 67 67
Derivative contracts assets- trading
purposes ............................. 296 296 189 189
Financial liabilities:
Note payable to affiliate .............. 64 64 -- --
Derivative contract liabilities:
Derivative contracts liabilities -
trading purposes ..................... 238 238 156 156
Liability for financial guarantees
written:
Gross (up-front) ................... 1,790 1,253 1,556 1,089
Net (up-front) ..................... 1,522 1,065 1,314 920
Gross installment premiums ......... -- 818 -- 653
Net installment premiums ........... -- 691 -- 535
12 LONG-TERM DEBT AND LINES OF CREDIT
At December 31, 2001, Ambac Private Holdings had an unsecured note payable
to an affiliate, Ambac Investments, Inc. with a carrying value of $63,500 and a
maturity date of October 30, 2006. This note pays interest quarterly at 0.2%
below three month LIBOR, currently at 1.71%.
Ambac Financial Group and Ambac Assurance have a revolving credit facility
with four major international banks for $200,000, which expires in August 2002
and provides a two-year term loan provision. The facility is available for
general corporate purposes, including the payment of claims. As of December 31,
2001 and 2000, no amounts were outstanding under this credit facility.
Ambac Credit Products has a revolving credit facility with one major
international bank for $50,000, which expires in June 2002, and provides for a
three-year term loan provision. The facility is
available to Ambac Credit Products for general corporate purposes, including
payments in regard to its structured credit derivative activities. As of
December 31, 2001 and 2000, no amounts were outstanding under this credit
facility.
Ambac Assurance maintains third-party capital support in the form of
seven-year irrevocable limited recourse credit facility from a group of highly
rated banks. This credit facility provides liquidity to Ambac Assurance in the
event claims from public finance and certain structured obligations in its
guaranteed portfolios exceed specified levels. Repayment of amounts drawn under
the credit facility is limited primarily to the amount of any recoveries of
losses related to policy obligations in the guaranteed portfolios. During 2001,
Ambac Assurance replaced a portion of the facility with a new capital markets
structure (see below). Consequently, the facility was reduced from $800,000 to
$400,000. The facility's expiration date was also extended to June 30, 2008. As
of December 31, 2001 and 2000, no amounts were outstanding under this facility.
Ambac Assurance acquired a perpetual put option on its own preferred stock
from a trust established by a major investment bank. The trust was created as a
vehicle for providing capital support to Ambac Assurance by allowing it to
obtain immediate access to new capital at its sole discretion at any time
through the exercise of the put option. If the put option were exercised, the
preferred stock holdings of Ambac Assurance would give investors the rights of
an equity investor in Ambac Assurance. Such rights are subordinate to insurance
claims, as well as to the general unsecured creditors of Ambac Assurance. If
exercised, Ambac Assurance would receive up to $400,000 in return for the
issuance of its own perpetual preferred stock, the proceeds of which may be used
for any purpose including the payment of claims. Dividend payments on the
preferred stock are cumulative only if Ambac Assurance pays dividends on its
common stock. The trust is a special purpose trust that is restricted to holding
high quality short-term commercial paper investments to ensure that it can meet
its obligations under the put option. To fund these investments, the trust has
issued its own auction market perpetual preferred stock. Ambac Assurance pays a
floating put option fee. The trust is rated AA/Aa2 by Standard & Poor's and
Moody's respectively.
13 RELATED PARTY TRANSACTIONS
During 2001 and 2000, Ambac Assurance guaranteed the timely payment of
principal and interest on obligations under investment agreements and investment
repurchase agreements issued by its affiliates. As of December 31, 2001 and
2000, the aggregate amount of investment agreements and investment repurchase
agreements insured was $4,858,103 and $4,241,871, respectively, including
accrued interest. These guarantees are collateralized by investment securities,
accrued interest receivable, securities purchased under agreements to resell and
cash and cash equivalents, which as of December 31, 2001 and 2000, had a fair
value of $4,836,918 and $4,235,073, respectively, in the aggregate. During 2001
and 2000, Ambac Assurance recorded gross premiums written of $4,162 and $2,542,
and net premiums earned of $4,309 and $3,185, respectively, related to these
agreements.
During 2001 and 2000, several interest rate swap transactions were executed
between Ambac Financial Services and its affiliates (other than Ambac
Assurance). As of December 31, 2001 and 2000, these contracts had an outstanding
notional amount of approximately $986,000 and $112,006, respectively. As of
December 31, 2001 and 2000, Ambac Financial Services recorded a liability of
$8,673 and an asset of $4,909, respectively, related to these transactions.
Ambac Financial Services has a line of credit with Ambac Financial Group,
Inc. The purpose of this line was to fund short-term liquidity needs of Ambac
Financial Service's operations. Interest on borrowings are payable at rates
which vary according to the terms. There were no outstanding borrowings under
the line as of December 31, 2001 and 2000.
In 2001, Ambac Assurance received a capital contribution in the form of
fixed income securities amounting to $176,193 from Ambac Financial Group.