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, 2002 or
[_] Transition report pursuant to section 13 or 15 (d) of the Securities
Exchange Act of 1934 for the transition period from _________ to_________
Commission File Number 1-9761
ARTHUR J. GALLAGHER & CO.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 36-2151613
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
Two Pierce Place, Itasca, Illinois 60143-3141
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(Address of principal executive offices) (Zip code)
(630) 773-3800
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(Registrant's telephone number, including area code)
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(Former name, former address and former fiscal year, if changed since last
report)
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 [_]
The number of outstanding shares of the registrant's Common Stock, $1.00 par
value, as of June 30, 2002 was 88,333,342.
ARTHUR J. GALLAGHER & CO.
INDEX
Page No.
Part I. Financial Information:
Item 1. Financial Statements (Unaudited):
Consolidated Statements of Earnings for the three-month and
six-month periods ended June 30, 2002 and 2001 .................... 3
Consolidated Balance Sheets at June 30, 2002 and
December 31, 2001 ................................................. 4
Consolidated Statements of Cash Flows for the six-month
periods ended June 30, 2002 and 2001 .............................. 5
Notes to Consolidated Financial Statements ........................... 6-13
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations ......................................... 14-23
Item 3. Quantitative and Qualitative Disclosure About Market Risk ............ 23
Part II. Other Information:
Item 4. Submission of Matters to a Vote of Security Holders .................. 24
Item 6. Exhibits and Reports on Form 8-K ..................................... 24
Signatures .................................................................... 25
-2-
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
ARTHUR J. GALLAGHER & CO.
CONSOLIDATED STATEMENTS OF EARNINGS
(UNAUDITED)
Three-month period Six-month period
ended June 30, ended June 30,
2002 2001 2002 2001
-------- -------- -------- --------
(in thousands, except per share data)
Operating Results
Revenues:
Commissions $156,840 $125,963 $300,056 $247,573
Fees 91,804 77,554 181,566 153,991
Investment income and other:
Investment income 2,544 7,098 6,145 13,190
Income from equity investments,
installment sales and partnerships 11,439 685 17,364 3,836
Gain on sale of portion of minority
interest in investment 11,848 - 11,848 -
Income from real estate ventures 1,781 1,855 5,257 8,406
Other income 835 792 4,017 3,603
-------- -------- -------- --------
Total investment income and other 28,447 10,430 44,631 29,035
-------- -------- -------- --------
Total revenues 277,091 213,947 526,253 430,599
-------- -------- -------- --------
Expenses:
Salaries and employee benefits 145,333 111,001 271,655 221,924
Other operating expenses 72,004 59,943 135,771 120,170
Expenses of real estate ventures 1,472 1,348 3,282 3,868
Partnership investment expenses 1,361 7,466 3,079 10,712
Depreciation and amortization 8,389 5,417 15,129 11,080
-------- -------- -------- --------
Total expenses 228,559 185,175 428,916 367,754
-------- -------- -------- --------
Earnings before income taxes 48,532 28,772 97,337 62,845
Provision for income taxes 14,071 5,575 29,201 12,565
-------- -------- -------- --------
Net earnings $ 34,461 $ 23,197 $ 68,136 $ 50,280
======== ======== ======== ========
Net earnings per common share $ .39 $ .27 $ .79 $ .59
Net earnings per common and
common equivalent share
.37 .26 .74 .56
See notes to consolidated financial statements.
-3-
ARTHUR J. GALLAGHER & CO.
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
June 30, December 31,
2002 2001
----------- -----------
(in thousands)
ASSETS
Current assets:
Cash and cash equivalents $ 110,589 $ 98,530
Restricted cash 226,949 209,509
Premiums and fees receivable 1,255,450 1,117,238
Investment strategies - trading 53,622 52,588
Other 99,276 85,142
----------- -----------
Total current assets 1,745,886 1,563,007
Marketable securities - available for sale 15,078 18,290
Deferred income taxes 99,785 99,263
Other noncurrent assets 239,513 216,196
Fixed assets 355,362 283,807
Accumulated depreciation and amortization (114,137) (100,562)
----------- -----------
Net fixed assets 241,225 183,245
Intangible assets - net 107,042 65,341
----------- -----------
$ 2,448,529 $ 2,145,342
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Premiums payable to insurance and reinsurance companies $ 1,536,247 $ 1,366,516
Accrued salaries and bonuses 34,809 56,572
Accounts payable and other accrued liabilities 112,498 111,618
Unearned fees 19,633 16,527
Income taxes payable 900 33,746
Borrowings on line of credit facilities 77,237 38,552
Other 5,911 11,273
----------- -----------
Total current liabilities 1,787,235 1,634,804
Long-term debt 135,457 99,850
Other noncurrent liabilities 43,069 39,075
Stockholders' equity:
Common stock - issued and outstanding 88,333 shares in
2002 and 85,111 shares in 2001 88,333 85,111
Capital in excess of par value 88,306 8,768
Retained earnings 325,833 283,796
Unearned deferred compensation (7,102) (3,438)
Unearned restricted stock (9,195) -
Accumulated other comprehensive earnings (loss) (3,407) (2,624)
----------- -----------
Total stockholders' equity 482,768 371,613
----------- -----------
$ 2,448,529 $ 2,145,342
=========== ===========
See notes to consolidated financial statements.
-4-
ARTHUR J. GALLAGHER & CO.
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
Six-month period ended June 30,
2002 2001
----------- ------------
(in thousands)
Cash flows from operating activities:
Net earnings $ 68,136 $ 50,280
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Net gain on investments and other (11,785) (2,716)
Gain on sales of operations (2,500) (2,375)
Depreciation and amortization 15,129 11,080
Increase in restricted cash (17,440) (20,442)
Increase in premiums receivable (129,939) (110,070)
Increase in premiums payable 158,853 115,741
(Increase) decrease in trading investments - net (71) 3,680
Increase in other current assets (13,332) (10,646)
Decrease in accrued salaries and bonuses (20,773) (15,288)
(Decrease) increase in accounts payable and other accrued liabilities (3,481) 3,483
Decrease in income taxes payable (32,978) (9,224)
Tax benefit from issuance of common stock 16,712 7,304
Net change in deferred income taxes 162 (583)
Other (15,915) 3,807
--------- ---------
Net cash provided by operating activities 10,778 24,031
--------- ---------
Cash flows from investing activities:
Purchases of marketable securities (9,129) (9,009)
Proceeds from sales of marketable securities 8,578 15,603
Proceeds from maturities of marketable securities 1,442 76
Net additions to fixed assets (21,937) (12,889)
Cash paid for acquisitions, net of cash acquired (1,020) (4,340)
Proceeds from sales of operations 2,500 2,700
Other (4,526) (16,395)
--------- ---------
Net cash used by investing activities (24,092) (24,254)
--------- ---------
Cash flows from financing activities:
Proceeds from issuance of common stock 13,198 6,735
Repurchases of common stock - (25,110)
Dividends paid (23,913) (19,637)
Borrowings on line of credit facilities 218,593 85,700
Repayments on line of credit facilities (182,000) (77,200)
Repayments of long-term debt (505) (260)
Equity transactions of pooled companies prior to dates of acquisition - (12,559)
--------- ---------
Net cash provided (used) by financing activities 25,373 (42,331)
--------- ---------
Net increase (decrease) in cash and cash equivalents 12,059 (42,554)
Cash and cash equivalents at beginning of period 98,530 149,387
--------- ---------
Cash and cash equivalents at end of period $ 110,589 $ 106,833
========= =========
Supplemental disclosures of cash flow information:
Interest paid $ 5,480 $ 5,307
Income taxes paid 56,248 11,776
See notes to consolidated financial statements.
-5-
ARTHUR J. GALLAGHER & CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. Nature of Operations and Basis of Presentation
Arthur J. Gallagher & Co. (Gallagher) provides insurance brokerage and risk
management services to a wide variety of commercial, industrial,
institutional and governmental organizations. Commission revenue is
principally generated through the negotiation and placement of insurance
for its clients. Fee revenue is primarily generated by providing other risk
management services including claims management, information management,
risk control services and appraisals in either the property/casualty market
or human resource/employee benefit market. Investment income and other is
generated from Gallagher's investment portfolio, which includes fiduciary
funds, equity securities, and tax advantaged and other strategic
investments. Gallagher is headquartered in Itasca, Illinois, has more than
250 offices in seven countries and does business in more than 100 countries
around the world through a network of correspondent brokers and
consultants.
The accompanying unaudited consolidated financial statements have been
prepared by Gallagher pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote
disclosures normally included in annual financial statements have been
omitted pursuant to such rules and regulations. Gallagher believes the
disclosures are adequate to make the information presented not misleading.
The unaudited consolidated financial statements included herein are, in the
opinion of management, prepared on a basis consistent with the audited
consolidated financial statements for the year ended December 31, 2001,
except for the conforming reclassifications discussed in Note 3, and
include all adjustments (consisting only of normal recurring adjustments)
necessary for a fair presentation of the information set forth. The
quarterly results of operations are not necessarily indicative of results
of operations for subsequent quarters or the full year. These unaudited
consolidated financial statements should be read in conjunction with the
audited consolidated financial statements and the notes thereto included in
Gallagher's Annual Report on Form 10-K for the year ended December 31,
2001.
2. Effect of New Pronouncements
In June 2001, the FASB issued Statements of Financial Accounting Standards
No. 141 (SFAS 141), "Business Combinations," and No. 142 (SFAS 142),
"Goodwill and Other Intangible Assets." SFAS 141 requires that all business
combinations initiated after June 30, 2001 be accounted for using the
purchase method of accounting. In addition, SFAS 141 further clarifies the
criteria to recognize intangible assets separately from goodwill. The
requirements of SFAS 141 were effective for any business combination
accounted for by the purchase method that was completed after June 30,
2001.
Under SFAS 142, goodwill and indefinite lived intangible assets are no
longer amortized, but are subject to periodic review for impairment (at
least annually or more frequently if impairment indicators arise).
Separable intangible assets that are not deemed to have an indefinite life
will continue to be amortized over their useful lives. The amortization
provisions of SFAS 142 initially only applied to goodwill and intangible
assets related to business combinations accounted for by the purchase
method that were completed after June 30, 2001. With respect to goodwill
and intangible assets acquired prior to July 1, 2001, companies were
required to adopt SFAS 142 in their fiscal year beginning after December
15, 2001 (i.e., January 1, 2002 for calendar year companies). Because of
the different transition dates for goodwill and intangible assets acquired
before June 30, 2001 and those acquired after that date, pre-existing
goodwill and intangible assets were amortized during the transition period
(June 30 to December 31, 2001). Effective January 1, 2002, Gallagher
adopted the remaining provisions of SFAS 142 with respect to pre-existing
goodwill and intangible assets, the effect of which was not material to
Gallagher's consolidated operating results or financial position.
In performing the impairment reviews, Statement No. 142 requires Gallagher
to compare the fair value of a reporting unit with its carrying amount on
an annual basis to determine if there is impairment of goodwill. If
-6-
ARTHUR J. GALLAGHER & CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (Continued)
2. Effect of New Pronouncements (Continued)
the fair value of the reporting unit is less than its carrying value, an
impairment loss would be recorded to the extent that the fair value of the
goodwill within the reporting unit is less than its carrying value. While
Gallagher is still in the process of performing the initial goodwill
impairment review by reporting unit as of January 1, 2002, it is
management's preliminary assessment that a goodwill impairment charge will
not be recorded as of the date of adoption.
3. Reclassifications of Previously Reported Financial Statements
During the first quarter of 2002, Gallagher undertook a review of how it
was accounting for all of its partially owned entities. Given the current
environment regarding ownership/control relationships with respect to
partially owned entities, Gallagher determined that it would be appropriate
to consolidate three operations that were previously accounted for using
the equity method of accounting. In addition, prior to 2002, the premiums
and claims receivable and payable relating to a reinsurance intermediary
subsidiary of Gallagher were reported on a net basis in Gallagher's
consolidated balance sheets with the gross amounts disclosed in the notes
to the consolidated financial statements. During 2002, Gallagher determined
that it would be appropriate to include these amounts on a gross basis in
its consolidated balance sheets in order to conform to a more common
industry practice. Reclassifications have been made to the previously
reported financial statements in order to conform them to the current year
presentation. These reclassifications had no impact on the previously
reported net earnings or stockholders' equity. The following summarizes the
reclassifications that were made to the 2001 consolidated financial
statements (in thousands, except per share data):
Three-month period ended As Previously Amounts
June 30, 2001 Reported Reclassified As Reclassfied
-------------------------------- ------------------ ---------------- -----------------
Total revenues $ 211,096 $ 2,851 $ 213,947
Total expenses 182,324 2,851 185,175
Earnings before income taxes 28,772 - 28,772
Net earnings 23,197 - 23,197
Net earnings per common share .27 - .27
Net earnings per common and
common equivalent share .26 - .26
Six-month period ended
June 30, 2001
--------------------------------
Total revenues $ 422,790 $ 7,809 $ 430,599
Total expenses 359,945 7,809 367,754
Earnings before income taxes 62,845 - 62,845
Net earnings 50,280 - 50,280
Net earnings per common share .59 - .59
Net earnings per common and
common equivalent share .56 - .56
-7-
ARTHUR J. GALLAGHER & CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (Continued)
3. Reclassifications of Previously Reported Financial Statements (Continued)
As Previously Amounts
December 31, 2001 Reported Reclassified As Reclassfied
------------------------------------ ------------------- ------------------ -----------------
Premiums and fees receivable $ 555,276 $ 561,962 $ 1,117,238
Net fixed assets 51,246 131,999 183,245
Total assets 1,471,823 673,519 2,145,342
Premiums payable to insurance and
reinsurance companies 805,595 560,921 1,366,516
Long-term debt - 99,850 99,850
Total stockholders' equity 371,613 - 371,613
4. Business Combinations
During the six-month period ended June 30, 2002, Gallagher acquired
substantially all of the net assets of the following insurance brokerage
firms in exchange for its common stock and/or cash using the purchase
accounting method for recording business combinations (in thousands):
Common Common Recorded
Name and Date of Shares Share Cash Escrow Purchase Contingent
Acquisitions Issued Value Paid Deposited Price Payable
---------------------------- -------- --------- ------- ------------ ---------- ------------
Life Plans Unlimited, Inc.
February 28, 2002 127 $ 3,987 $ - $ 443 $ 4,430 $ 3,000
Tom Sherwin Insurance
Agency
February 28, 2002 - - 720 80 800 600
NiiS/APEX Group
Holdings, Inc.
April 1, 2002 643 18,968 - 2,108 21,076 2,000
Cornwall & Stevens
Co., Inc
April 30, 2002 - - 1,800 200 2,000 -
Manning & Smith
Insurance, Inc.
May 31, 2002 274 8,664 - 992 9,656 7,500
Roberts & Roberts
Insurance Agency, Inc.
May 31, 2002 87 2,773 - 308 3,081 1,700
MountainView Software
Corporation
May 31, 2002 15 491 - 55 546 1,100
-------- -------- -------- ---------- ---------- ----------
1,146 $34,883 $2,520 $ 4,186 $ 41,589 $ 15,900
======== ======== ======== ========== ========== ==========
-8-
ARTHUR J. GALLAGHER & CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (Continued)
4. Business Combinations (Continued)
Common shares exchanged in connection with these acquisitions were valued
at closing market prices as of the effective date of the respective
acquisition. Escrow deposits that are returned to Gallagher as a result of
purchase price adjustment provisions are recorded as downward adjustments
to intangible assets when the escrows are settled. The contingent payables
that are disclosed in the foregoing table represent the maximum amount of
additional consideration that could be paid per the purchase agreements.
These contingent obligations are primarily based upon future earnings of
the acquired entities and were not included in the purchase price that was
recorded for these acquisitions at their respective date of acquisition.
Future payments made under these arrangements will be recorded as upward
adjustments to intangible assets when the contingencies are settled.
These acquisitions allow Gallagher to expand into desirable geographic
locations, further extend its presence in the retail and wholesale
insurance brokerage services industry and increase the volume of general
services currently provided. The excess of the purchase price over the
estimated fair value of the tangible net assets acquired at the acquisition
date was allocated to goodwill and expiration lists in the amounts of
$19,535,000 and $19,534,000, respectively. With the exception of the
intangible assets related to the MountainView Software acquisition, which
were allocated to the Risk Management Services segment, all of the goodwill
and expiration lists were allocated to the Insurance Brokerage Services
segment. Purchase price allocations are preliminarily established at the
time of the acquisition and are subsequently reviewed within the first year
of operations to determine the necessity for allocation adjustments.
Expiration lists related to these acquisitions will be amortized on a
straight-line basis over an estimated useful life of 10 years.
Gallagher's consolidated financial statements for the three and six-month
periods ended June 30, 2002 include the operations of these companies from
the date of their respective acquisition. The following is a summary of the
unaudited proforma historical results, as if these purchase acquisitions
had been acquired at January 1, 2002 and 2001, respectively (in thousands,
except per share data):
Three-month period ended Six-month period ended
June 30, June 30,
2002 2001 2002 2001
------------- ------------- ---------- -----------
Total revenues $ 278,992 $ 222,134 $ 535,479 $ 446,774
Net earnings 34,605 24,112 69,051 51,993
Net earnings per common share .39 .28 .79 .61
Net earnings per common and
common equivalent share .37 .27 .75 .57
The unaudited proforma results above have been prepared for comparative
purposes only and do not purport to be indicative of the results of
operations which actually would have resulted had the acquisitions occurred
as of January 1, 2002 and 2001, respectively, nor is it necessarily
indicative of future operating results.
-9-
ARTHUR J. GALLAGHER & CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (Continued)
5. Earnings Per Share
The following table sets forth the computation of net earnings per common
share and net earnings per common and common equivalent share (in
thousands, except per share data):
Three-month period ended Six-month period ended
June 30, June 30,
2002 2001 2002 2001
-------- --------- --------- ---------
Net earnings $ 34,461 $ 23,197 $ 68,136 $ 50,280
======== ========= ========= =========
Weighted average number of
common shares outstanding 87,445 84,618 86,425 84,666
Dilutive effect of stock options using
the treasury stock method 4,921 5,138 5,057 5,257
-------- --------- --------- ---------
Weighted average number of common
and common equivalent shares outstanding 92,366 89,756 91,482 89,923
======== ========= ========= =========
Net earnings per common share $ .39 $ .27 $ .79 $ .59
Net earnings per common and
common equivalent share .37 .26 .74 .56
Options to purchase 95,000 and 295,000 shares of common stock were
outstanding at June 30, 2002 and 2001, respectively, but were not included
in the computation of the dilutive effect of stock options for the
three-month period then ended. Options to purchase 88,000 and 220,000
shares of common stock were outstanding at June 30, 2002 and 2001,
respectively, but were not included in the computation of the dilutive
effect of stock options for the six-month period then ended. These options
were excluded from the computations because the options' exercise prices
were greater than the average market price of the common shares during the
respective periods and, therefore, would be antidilutive to earnings per
share under the treasury stock method.
-10-
ARTHUR J. GALLAGHER & CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (Continued)
6. Comprehensive Earnings
The components of comprehensive earnings and accumulated other
comprehensive earnings (loss) are as follows (in thousands):
Three-month period ended Six-month period ended
June 30, June 30,
2002 2001 2002 2001
--------- --------- --------- ---------
Net earnings $ 34,461 $ 23,197 $ 68,136 $ 50,280
Net change in unrealized gain (loss)
on available for sale securities, net
of income taxes of ($418), ($322),
($522) and $426, respectively (627) (483) (783) 639
--------- --------- --------- ---------
Comprehensive earnings $ 33,834 $ 22,714 $ 67,353 $ 50,919
========= ========= ========= =========
Accumulated other comprehensive
earnings (loss) at beginning of period $ (2,780) $ (1,376) $ (2,624) $ (2,498)
Net change in unrealized gain (loss)
on available for sale securities, net
of income taxes (627) (483) (783) 639
--------- --------- --------- ---------
Accumulated other comprehensive
earnings (loss) at end of period $ (3,407) $ (1,859) $ (3,407) $ (1,859)
========= ========= ========= =========
7. Deferred Compensation
In 2001, Gallagher implemented the Deferred Equity Participation Plan,
which is a non-qualified plan that provides for distributions to certain
key executives of Gallagher upon their normal retirement. Under the
provisions of the plan, Gallagher contributes shares of its common stock,
in an amount approved by Gallagher's Board of Directors, to a rabbi trust
on behalf of the executives participating in the plan. Distributions under
the plan may not normally be made until the participant reaches age 62 and
are subject to forfeiture in the event of voluntary termination of
employment prior to age 62. All distributions from the plan are made in the
form of Gallagher's common stock.
Effective on March 31, 2002, Gallagher contributed $4.0 million to the plan
through the issuance of 122,000 shares of Gallagher common stock. In June
2001, Gallagher contributed $4.0 million to the plan through the issuance
of 152,000 shares of Gallagher common stock. Gallagher accounts for the
common stock issued to the plan in accordance with the provisions of
Emerging Issues Task Force (EITF) Issue No. 97-14, "Accounting for Deferred
Compensation Arrangements Where Amounts Earned are Held in a Rabbi Trust
and Invested." EITF 97-14 requires that the Gallagher common stock issued
to the trust be valued at historical cost (fair market value at the date of
grant) and the unearned deferred compensation obligation be classified as
an equity instrument, with no recognition of changes in the fair value of
the amount owed to the participants. The unearned deferred compensation
balance is shown as a reduction of stockholders' equity in the accompanying
2002 and 2001 consolidated balance sheets and is being amortized ratably
over the vesting period of the participants. During the three and six-month
periods ended June 30, 2002, $279,000 and $366,000, respectively, were
charged to expense related to this plan. During the three-month and
six-month periods ended June 30, 2001, $187,000 was charged to expense
related to this plan.
-11-
ARTHUR J. GALLAGHER & CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (Continued)
8. Restricted Stock Awards
In 2001, Gallagher adopted an incentive compensation plan for several of
its key executives and management personnel. The compensation under this
plan is determined by a formula applied to the pretax profitability of
certain operating divisions and may include an equity award as part of such
incentive compensation.
Effective on March 31, 2002, Gallagher contributed 274,000 shares of
Gallagher common stock to the plan, with an aggregate value of $8.9 million
as of that date. Also, effective on March 31, 2002, Gallagher granted, to
its Chief Executive Officer, a restricted stock award of 32,000 shares of
Gallagher common stock with an aggregate value of $1.1 million at the time
of grant. All of the 2002 restricted stock awards vest over a three year
period at the rate of 33 1/3% per year beginning on March 31, 2003.
Gallagher accounts for restricted stock at historical cost which equals its
fair market value at the date of grant. When restricted shares are issued,
an unearned restricted stock obligation is recorded as a reduction of
stockholders' equity which will be ratably charged to expense over the
vesting period of the participants. During the three-month and six-month
periods ended June 30, 2002, $836,000 was charged to expense related to
these awards.
9. Commitments And Contingencies
Gallagher generally operates in leased premises. Certain office space
leases have options permitting renewals for additional periods. For minimum
aggregate rental commitments as of December 31, 2001, see Note 12 to the
Consolidated Financial Statements included in Gallagher's Annual Report on
Form 10-K for the year ended December 31, 2001. As of June 30, 2002,
Gallagher had funding commitments of $14.1 million related to several of
its venture capital equity investments.
Gallagher is engaged in various legal actions incident to the nature of its
business. Management is of the opinion that none of the litigation will
have a material effect on Gallagher's consolidated financial position or
operating results. A subsidiary of Gallagher is party to a lawsuit relating
to its investment in the synthetic fuel industry which, if determined
adversely to the subsidiary on substantially all claims and for a
substantial amount of the damages asserted, could have a material adverse
effect on Gallagher. However, Gallagher believes that the plaintiff's
claims lack merit. The subsidiary is vigorously defending such claims and
has asserted counterclaims against the plaintiff.
-12-
ARTHUR J. GALLAGHER & CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) (Continued)
10. Quarterly Operating Results
Quarterly operating results for 2001 were reclassified to conform to the
current year presentation, which had no impact on previously reported net
earnings. The reclassified results were as follows (in thousands, except
per share data):
1st 2nd 3rd 4th
-------- -------- -------- --------
Revenues:
Commissions $121,610 $125,963 $136,653 $154,797
Fees 76,437 77,554 84,422 86,451
Investment income and other:
Investment income 6,092 7,098 4,350 3,881
Income from equity investments,
installment sales and partnerships 3,151 685 6,806 9,110
Gain on sale of portion of minority
interest in investment - - - -
Income from real estate ventures 6,551 1,855 1,975 1,734
Other income 2,811 792 1,458 752
-------- -------- -------- --------
Total investment income and other 18,605 10,430 14,589 15,477
-------- -------- -------- --------
Total revenues 216,652 213,947 235,664 256,725
-------- -------- -------- --------
Expenses:
Salaries and employee benefits 110,923 111,001 115,139 141,500
Other operating expenses 60,227 59,943 63,530 68,007
Expenses of real estate ventures 2,520 1,348 1,320 1,452
Partnership investment expenses 3,246 7,466 8,259 2,108
Depreciation and amortization 5,663 5,417 5,397 6,669
-------- -------- -------- --------
Total expenses 182,579 185,175 193,645 219,736
-------- -------- -------- --------
Earnings before income taxes 34,073 28,772 42,019 36,989
Provision for income taxes 6,990 5,575 116 3,916
-------- -------- -------- --------
Net earnings $ 27,083 $ 23,197 $ 41,903 $ 33,073
======== ======== ======== ========
Net earnings per common share $ .32 $ .27 $ .49 $ .39
Net earnings per common and common
equivalent share
.30 .26 .47 .36
-13-
Item 2.
ARTHUR J. GALLAGHER & CO.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS - CONSOLIDATED
The insurance industry was jolted by the tragic terrorist attacks that occurred
on September 11, 2001. The destruction and devastation of those events have
resulted in the largest insurance loss in America's history and have reshaped
the insurance marketplace more rapidly than expected. Along with this historic
insurance loss, larger than anticipated loss experience across all risks, stock
market declines, lower interest rates and diminished risk capacity have led to
unprecedented premium rate increases. Higher premium rates are referred to as a
"hard market" and generally result in increased commission revenues.
Fluctuations in premiums charged by insurance companies have a direct and
potentially material impact on the insurance brokerage industry. Commission
revenues are generally based on a percentage of the premiums paid by insureds
and normally follow premium levels. Thus, a hard market will generally
contribute positively to Gallagher's operating results, and since September
11/th/, the premium rates charged by insurance companies have increased
significantly having a positive impact on Gallagher's 2002 operating results in
spite of some insurance companies' efforts to reduce commission rates during the
upturn in premium pricing. Although management believes this hard market will
continue into 2003, the longevity of the hard market and its future effect on
Gallagher's business is difficult to predict.
In a period of rising insurance costs, there is resistance among certain "risk"
buyers (Gallagher's clients) to pay increased premiums and the higher
commissions generated by these premiums. Such resistance may cause some buyers
to raise their deductibles and/or reduce the overall amount of insurance
coverage that they purchase. In addition, some buyers will switch to negotiated
fee in lieu of commission arrangements with the broker for placing the risk.
These factors will reduce commission revenue to Gallagher. Other buyers will
move toward the alternative insurance market, which would tend to have a
favorable effect on Gallagher's Risk Management Services segment. Gallagher
anticipates that new sales and renewal increases in the areas of risk
management, claims management, insurance captive and self-insurance services
will continue to be a major factor in Gallagher's fee revenue growth during
2002.
During the six-month period ended June 30, 2002, Gallagher acquired seven
companies which were accounted for as purchases. Gallagher continues to search
for merger partners which complement existing operations, provide entry into new
markets, add new products and enhance local sales and service capabilities. For
information concerning business combinations, see Note 4 to the Consolidated
Financial Statements.
Commission revenues increased by 25% to $156.8 million in the second quarter of
2002 and by 21% to $300.1 million in the first half of 2002 over the respective
periods in 2001. These increases are due principally to new business production
of $37.9 million in the second quarter of 2002 and $66.4 million in the first
six months of 2002, and to renewal increases from increased premiums partially
offset by lost business.
Fee revenues increased by 18% or $14.3 million to $91.8 million in the second
quarter of 2002 and by 18% or $27.6 million to $181.6 million in the first six
months of 2002 over the respective periods in 2001. These increases reflect new
business production of approximately $15.6 million in the second quarter of 2002
and $30.0 million in the first six months of 2002, and renewal rate increases
partially offset by lost business.
In the second quarter and first six months of 2002, investment income, primarily
interest on cash and restricted funds, was down $4.6 million or 64% and $7.0
million or 53%, respectively, from the same periods in 2001 due primarily to
lower interest income as a result of declining short term interest rates and
lower returns on invested funds managed by external fund managers. Rates of
return on interest bearing accounts and certificates are down approximately 60%
on a year-over-year basis putting considerable pressure on short-term interest
returns.
-14-
ARTHUR J. GALLAGHER & CO.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
RESULTS OF OPERATIONS - CONSOLIDATED (Continued)
In the second quarter of 2002, income from equity investments, installment sales
and partnerships increased $10.8 million to $11.4 million over the same period
in 2001. In the first six months of 2002, equity investments, installment sales
and partnerships increased $13.5 million to $17.4 million over the first six
months of 2001. These increases are due primarily to installment gains
recognized in 2002 from sales, completed in the third and fourth quarters of
2001, of a portion of its interests in two limited partnerships that operate
synthetic fuel facilities. Gallagher will continue to recognize additional
installment gains over time through 2007 based on qualified fuel production
generated by these facilities. Production at these facilities, which ultimately
determines the amount of the gains realized, met expectations in the second
quarter of 2002. However, total production for the first six months of 2002 did
not meet full expectations due to the unusually mild winter and a short-term
shut down of production in the first quarter of 2002 as the facilities were
moved to permanent sites to accommodate the ultimate synfuel purchaser.
The $11.8 million gain on the sale of a portion of a minority interest in an
investment relates to the gain recognized on the sale of a portion of
Gallagher's minority equity position in Asset Alliance Corporation to an
international financial institution. As a result of the sale that was completed
in April 2002, Gallagher recognized a pretax gain of $11.8 million in its second
quarter results. After the sale and subsequent equity transactions of Asset
Alliance Corporation, Gallagher now holds approximately 25% of the company's
outstanding common stock and 24% of total equity, assuming the conversion of all
convertible securities, warrants and options.
Income from real estate ventures represents revenue related to Gallagher's
consolidation of its investments in two real estate partnerships. These real
estate partnerships represent an investment in a limited partnership that owns
the building that Gallagher leases for its corporate headquarters and several of
its subsidiary operations and an investment in a limited partnership that owns
11,000 acres of land near Orlando, Florida, that is currently under development.
Income from real estate ventures in the second quarter of 2002 was flat compared
to the same period in 2001. In the first six months of 2002, income from real
estate ventures decreased 37% to $5.3 million, due primarily to a one-time gain
of $3.0 million generated from the sale of land by the Florida real estate
partnership that was reported in the first quarter of 2001.
Other income consists primarily of gains on the sales of books of brokerage
business and interest income on employee loans and compensation arrangements.
Other income in the second quarter of 2002 was flat compared to the same period
in 2001. For the first six months of 2002, other income increased $414,000
primarily due to an increase in interest income on employee compensation
arrangements of $300,000 and to a $2.5 million gain recognized in 2002 on the
sale of a book of brokerage business compared to a $2.4 million gain that was
recorded on the sale of a book of brokerage business in 2001.
Salaries and employee benefits increased by 31% or $34.3 million to $145.3
million in the second quarter of 2002 and increased by 22% or $49.7 million to
$271.7 million in the first six months of 2002 over the respective periods in
2001. These increases are higher than usual and reflect salary increases and
associated employee benefit costs, and a 14% increase in employee headcount in
the period from June 30, 2001 to June 30, 2002. The increase in employee
headcount relates to the hiring of additional staff to support the new business
growth previously discussed, to the hiring of additional production personnel to
generate future revenue growth, and to employees associated with the
acquisitions accounted for as purchases that were made in the fourth quarter of
2001 and the first six months of 2002.
Other operating expenses increased by 20% or $12.1 million to $72.0 million in
the second quarter of 2002 and by 13% or $15.6 million to $135.8 million in the
first six months of 2002 over the respective periods in 2001. These increases
are due primarily to increases in business insurance costs and commissions paid
to sub-brokers.
-15-
ARTHUR J. GALLAGHER & CO.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
RESULTS OF OPERATIONS - CONSOLIDATED (Continued)
Expenses of real estate ventures in the second quarter of 2002 were flat
compared to the same period in 2001. For the first six months of 2002, expenses
of real estate ventures decreased $586,000 or 15% to $3.3 million primarily due
to a decrease in minority interest expense associated with the two investments
in real estate partnerships previously discussed.
Partnership investment expenses represent Gallagher's portion of the ongoing
expenses associated with the operations of the synthetic fuel facilities. In the
second quarter of 2002, these expenses decreased $6.1 million or 82% to $1.4
million and decreased $7.6 million or 71% in the first six months of 2002 from
the same periods in 2001 due to the two sales of interests in limited
partnerships that operate synthetic fuel facilities discussed above. Because of
the sales, Gallagher's portion of the operating expenses associated with these
partnerships was substantially reduced.
Depreciation and amortization increased 55% to $8.4 million in the second
quarter of 2002 and increased $4.0 million or 37% in the first six months of
2002 over the respective periods in 2001 due primarily to amortization expense
associated with acquisitions accounted for as purchases that were made in the
fourth quarter of 2001 and the first six months of 2002.
The effective income tax rate was 29% for the second quarter and 30% for the
first six months of 2002, and 19% for the second quarter and 20% for the first
six months of 2001. These rates are net of the effect of tax credits generated
by investments in limited partnerships that operate qualified affordable housing
and alternative energy projects, which are partially offset by state and foreign
taxes. The increase in the effective income tax rates in 2002 over the prior
year is due to a reduction in the tax credits earned in 2002. This decrease in
the amount of tax credits earned was due to the two sales of interests in
limited partnerships that operate synthetic fuel facilities. Because of these
sales, Gallagher's portion of the tax credits was substantially reduced in 2002.
Net earnings per common and common equivalent share increased by 42% or $.11 to
$.37 in the second quarter of 2002 and by 32% or $.18 to $.74 in the first six
months of 2002 over the respective periods in 2001. These increases are
primarily due to the 2002 growth in commission and fee revenues and the
previously discussed $11.8 million pretax gain on the sale of a portion of a
minority interest in an equity investment, which were partially offset by
increased expenses and an increase in the effective income tax rate in 2002.
-16-
ARTHUR J. GALLAGHER & CO.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
RESULTS OF OPERATIONS - SEGMENT INFORMATION
Financial information relating to Gallagher's operating segments is as follows
(in thousands):
Insurance
Brokerage Risk Management Financial
Services Services Services Corporate Total
----------- -------------- ---------- ---------- -----------
Three-month period ended
- ------------------------
June 30, 2002
- -------------
Total revenues $ 183,280 $ 67,758 $24,302 $ 1,751 $ 277,091
Earnings (loss) before
income taxes 26,479 8,338 15,007 (1,292) 48,532
June 30, 2001
- -------------
Total revenues 141,462 65,328 5,351 1,806 213,947
Earnings (loss) before
income taxes 27,022 8,476 (3,701) (3,025) 28,772
Six-month period ended
- ----------------------
June 30, 2002
- -------------
Total revenues 347,846 137,817 36,846 3,744 526,253
Earnings (loss) before
income taxes 58,209 20,285 21,597 (2,754) 97,337
June 30, 2001
- -------------
Total revenues 277,861 131,088 17,904 3,746 430,599
Earnings (loss) before
income taxes 49,038 17,924 264 (4,381) 62,845
Total Identifiable Assets at
- ----------------------------
June 30, 2002 1,710,221 77,802 359,865 300,641 2,448,529
June 30, 2001 1,231,894 63,688 266,028 193,267 1,754,877
Insurance Brokerage Services
The Insurance Brokerage Services segment encompasses operations that, for
commission or fee compensation, place or arrange to place insurance directly
related to the clients' managing of risk. This segment also provides consulting,
for fee compensation, related to the clients' risk financing programs and
includes Gallagher's retail, reinsurance and wholesale insurance brokerage
operations.
Total revenues for this segment in the three and six-month periods ended June
30, 2002 increased 30% to $183.3 million and 25% to $347.8 million,
respectively, over the same periods in 2001. These increases are due principally
to new business of approximately $37.9 and $66.4 million, respectively, and
renewal rate increases partially offset by lost business. Earnings before income
taxes for this segment decreased 2% to $26.5 million in the three-month period
ended June 30, 2002 due primarily to increases in expenses previously discussed
related to salaries and employee benefits, commissions paid to sub-brokers and
amortization of intangible assets. Earnings before income taxes for the
six-month period ended June 30, 2002 increased 19% to $58.2 million over the
same period in 2001 due primarily to the new business production and rate
increases mentioned above.
-17-
ARTHUR J. GALLAGHER & CO.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
RESULTS OF OPERATIONS - SEGMENT INFORMATION (Continued)
Risk Management Services
The Risk Management Services segment includes Gallagher's third party
administration, loss control and risk management consulting, workers'
compensation investigations and insurance property appraisal operations. Third
party administration is principally claims management programs for Gallagher's
clients or clients of other brokers.
Total revenues for this segment in the three and six-month periods ended June
30, 2002 increased 4% to $67.8 million and 5% to $137.8 million over the
respective periods in 2001 due primarily to new business production of
approximately $10.0 and $19.9 million, respectively, and renewal rate increases
substantially offset by lost business. Earnings before income taxes for this
segment in the three-month period ended June 30, 2002 decreased 2% to $8.3
million due primarily to increases in salaries and employee benefit expenses. In
the six-month period ended June 30, 2002, earnings before income taxes increased
13% to $20.3 million over the same period in 2001. This increase is due
primarily to the earnings leverage created by the increased revenues discussed
above.
Financial Services
The Financial Services segment is responsible for the management of Gallagher's
diversified investment portfolio, which includes fiduciary funds, marketable and
other equity securities, and tax advantaged and other strategic investments. The
invested assets of Gallagher are managed in this segment in order to maximize
the return to the company.
Total revenues for this segment in the three and six-month periods ended June
30, 2002 increased 354% to $24.3 million and 106% to $36.8 million over the
respective periods in 2001. These increases are primarily due to the installment
gains from sales of interests in two limited partnerships that operate synthetic
fuel facilities that were completed in the third and fourth quarters of 2001 and
the previously discussed $11.8 million pretax gain on the sale of a portion of a
minority interest in an equity investment. The increases in income generated by
these gains were partially offset by the $3.1 million decrease in income from
real estate ventures during the first quarter of 2002 and a reduction in income
generated from Gallagher's unconsolidated equity portfolio. As previously
discussed, the decrease in income from real estate ventures was primarily due to
a one-time gain of $3.0 million generated from the sale of land by the Florida
real estate partnership that was reported in the first quarter of 2001. Earnings
before income taxes for this segment increased $18.7 million to $15.0 million
and $21.3 million to $21.6 million in the three and six-month periods ended June
30, 2002. These increases are primarily due to the gains discussed above and to
a reduction in ongoing expenses related to the operations of synthetic fuel
facilities.
Corporate
The Corporate segment consists of the operating results of the real estate
limited partnership that owns the building that Gallagher leases for its
corporate headquarters and several of its subsidiary operations, unallocated
administrative costs and the provision for income taxes which is not allocated
to Gallagher's operating entities. Only revenues not attributable to one of the
three operating segments are recorded in the Corporate segment. All costs are
generated in the United States.
-18-
ARTHUR J. GALLAGHER & CO.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
FINANCIAL CONDITION AND LIQUIDITY
The insurance brokerage industry is not capital intensive. The capital used to
fund Gallagher's investment portfolio has been primarily generated from the
excess cash provided by its operations. Cash generated from operating activities
was $10.8 million and $24.0 million for the six months ended June 30, 2002 and
2001, respectively. Because of the variability related to the timing of premiums
and fees receivable and premiums payable, net cash flows from operations vary
substantially from period to period. Funds restricted as to Gallagher's use,
primarily premiums held as fiduciary funds, have not been included in
determining Gallagher's overall liquidity. Currently, Gallagher believes it has
sufficient capital to meet its cash flow needs. However, in the event that
Gallagher needs capital to fund its operations and investing requirements, it
would use borrowings under its credit agreement to meet its short-term needs and
would consider other alternatives for its long-term needs. Such alternatives
would include raising capital through public markets or restructuring its
operations in the event that cash flows from operations are reduced dramatically
due to lost business. However, Gallagher has historically been profitable and
cash flows from operations and short-term borrowings under its credit agreements
have been sufficient to fund Gallagher's operating, investment and capital
expenditure needs. Gallagher expects this favorable cash flow trend to continue
in the future.
On May 31, 2002, a ninety percent owned limited partnership of Gallagher
acquired the net assets of a leasing company that leases two cargo airplanes to
a foreign postal service. As part of this acquisition, the limited partnership
acquired assets of $47.0 million and non-recourse long-term debt of $38.2
million, in exchange for $3.1 million of cash and $5.7 million of other assets.
During the second quarter of 2002, Gallagher consolidated the operations of this
leasing company into its operations.
In 2000, Gallagher and one of its significant subsidiaries entered into an
unsecured Revolving Credit Agreement (the Revolving Credit Agreement), which
expires on September 10, 2003, with a group of five financial institutions. The
Revolving Credit Agreement provides for short-term and long-term revolving
credit commitments of $100.0 million and $50.0 million, respectively. The
facility provides for loans and letters of credit. Letters of credit, in the
aggregate, are limited to $75.0 million of which up to $50.0 million may be
issued under the long-term facility and up to $25.0 million may be issued under
the short-term credit facility in the determination of net funds available for
future borrowing. The Revolving Credit Agreement provides for borrowings to be
denominated in either U.S. dollars or Alternative Currencies, as defined in the
credit agreement. In addition, the credit agreement has two borrowing options,
Domestic Rate Loans and Eurocurrency Loans, as defined in the credit agreement.
Interest rates on borrowings under the Domestic Rate Loan option are based on
the prime commercial rate and interest rates on borrowings under the
Eurocurrency Loan option are based on LIBOR plus .400% for short-term and
long-term revolving credit commitments. The facility fee related to this credit
agreement is based on .100% of the used and unused portions of the short-term
and long-term revolving credit commitments.
As of June 30, 2002, under the long-term credit facility, Gallagher has
contingently committed to funding $47.9 million through letter of credit
arrangements related to its corporate insurance programs and several of its
equity and other strategic investments. Also, as of June 30, 2002, there were
$65.0 million of borrowings outstanding under the Revolving Credit Agreement.
Accordingly, Gallagher had $37.1 million available for future borrowing. In
2002, Gallagher borrowed $212.0 million and repaid $182.0 million of short-term
borrowings under this facility. These borrowings were used on a short-term basis
to finance a portion of Gallagher's operating and investment activities. Terms
of the Revolving Credit Agreement include various covenants that require
Gallagher to maintain specified levels of tangible net worth and restrict the
amount of payments on certain expenditures. Gallagher was in compliance with
these covenants as of June 30, 2002.
As of June 30, 2002, there were $10.1 million of borrowings on a line of credit
facility and $137.6 million of long-term debt outstanding (of which $2.1 million
is current) related to Gallagher's investments in the two
-19-
ARTHUR J. GALLAGHER & CO.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
FINANCIAL CONDITION AND LIQUIDITY (Continued)
previously discussed real estate partnerships and one airplane partnership.
These borrowing were used by the three partnerships for their own operating,
investing and financing activities. Borrowings under these facilities are not
available to Gallagher and as such have not been included in determining
Gallagher's overall liquidity. Based on the ownership structure of these three
investments, management believes that Gallagher's exposure to losses related to
these investments is limited to the combination of its net carrying value,
letters of credit and financial guarantees. With the exception of the debt
related to the airplane partnership discussed above, there have been no material
changes in Gallagher's exposure to losses for these investments since
December 31, 2001.
For additional information, see Note 4 to the Consolidated Financial Statements
included in Gallagher's Annual Report on Form 10-K for the year ended December
31, 2001. In the event that these limited partnerships were to default on their
debt obligations and Gallagher's net carrying value became impaired, the amount
to be written-off could have a material effect on Gallagher's consolidated
financial position or operating results.
Through the first six months of 2002, Gallagher paid $23.9 million in cash
dividends on its common stock. Gallagher's dividend policy is determined by the
Board of Directors. Quarterly dividends are declared after considering
Gallagher's available cash from earnings and its anticipated cash needs. On
July 15, 2002, Gallagher paid a second quarter dividend of $.15 per share to
shareholders of record as of June 28, 2002, a 15% increase over the second
quarter dividend per share in 2001.
Net capital expenditures were $21.9 million and $12.9 million for each of the
six-month periods ended June 30, 2002 and 2001, respectively. These amounts
include net capital expenditures related to Gallagher's investments in the two
real estate partnerships previously discussed. In the first six months of 2002,
the Florida real estate partnership made net capital expenditures of $6.7
million related to its land development project. In 2002, exclusive of the net
capital expenditures related to the two real estate partnerships, Gallagher
expects to exceed the previously announced estimate of total expenditures for
capital improvements of $25.0 million. Capital expenditures by Gallagher are
related primarily to office moves and expansions and updating computer systems
and equipment.
In 1988, Gallagher adopted a common stock repurchase plan that has been extended
through June 30, 2003. Under the plan, Gallagher repurchased 914,000 shares at a
cost of $25.1 million in the first six months of 2001; there were no repurchases
in the first six months of 2002. Repurchased shares are held for reissuance in
connection with exercises of options under its stock option plans. Under the
provisions of the repurchase plan, Gallagher is authorized to repurchase 5.0
million additional shares through June 30, 2003. Gallagher is under no
commitment or obligation to repurchase any particular amount of common stock and
at its discretion may suspend the repurchase plan at any time.
-20-
ARTHUR J. GALLAGHER & CO.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
CONTRACTUAL OBLIGATIONS AND COMMITMENTS
In connection with its operating and investing activities, Gallagher has entered
into certain contractual obligations, as well as commitments to fund certain
investments. Gallagher's future cash payments associated with its contractual
obligations pursuant to the Revolving Credit Agreement and other debt
obligations as of June 30, 2002 are as follows (in thousands):
Payments Due by Period
---------------------------------------------------------------------------------
Contractual Obligations 2002 2003 to 2004 2005 to 2006 Thereafter Total
- ------------------------------------ ------------ ------------------ ----------------- ---------------- --------------
Revolving credit agreement $ 65,000 $ - $ - $ - $ 65,000
Florida real estate project debt 12,610 5,700 - 12,410 30,720
Mortgage loan on corporate
headquarters 351 1,558 1,840 75,188 78,937
Airplane partnership debt 1,023 4,531 32,483 - 38,037
------------ ------------------ ----------------- ---------------- --------------
Total contractual obligations $ 78,984 $ 11,789 $ 34,323 $ 87,598 $ 212,694
============ ================== ================= ================ ==============
Gallagher's commitments associated with outstanding letters of credit, financial
guarantees and funding commitments as of June 30, 2002 are as follows (in
thousands):
Total
Amount of Commitment Expiration by Period Amounts
---------------------------------------------------------------
Other Commitments 2002 2003 to 2004 2005 to 2006 Thereafter Committed
- ------------------------------------ ------------ ---------------- -------------- ------------ --------------
Letters of credit $ 645 $ 7,888 $ 3,530 $ 35,884 $ 47,947
Financial guarantees 12,500 20,000 - 5,100 37,600
Funding commitments 7,400 6,700 - - 14,100
------------ ------------------ ----------------- -------------- ----------------
Total other commitments $ 20,545 $ 34,588 $ 3,530 $ 40,984 $ 99,647
============ ================== ================= ============== ================
Since commitments may expire unused, the amounts presented in the table above do
not necessarily reflect the actual future cash funding requirements of Gallagher.
-21-
ARTHUR J. GALLAGHER & CO.
REVIEW BY INDEPENDENT AUDITORS
The consolidated financial statements as of June 30, 2002 and for the
three-month and six-month periods ended June 30, 2002 and 2001 have been
reviewed, prior to filing, by Ernst & Young LLP, Gallagher's independent
auditors, and their report is included herein.
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
Board of Directors and Stockholders
Arthur J. Gallagher & Co.
We have reviewed the accompanying consolidated balance sheet of Arthur J.
Gallagher & Co. as of June 30, 2002 and the related consolidated statements of
earnings for the three-month and six-month periods ended June 30, 2002 and 2001,
and the consolidated statements of cash flows for the six-month periods ended
June 30, 2002 and 2001. These financial statements are the responsibility of the
Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data, and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted in
accordance with auditing standards generally accepted in the United States,
which will be performed for the full year with the objective of expressing an
opinion regarding the financial statements taken as a whole. Accordingly, we do
not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to the accompanying consolidated financial statements referred to above
for them to be in conformity with accounting principles generally accepted in
the United States.
We have previously audited, in accordance with auditing standards generally
accepted in the United States, the consolidated balance sheet of Arthur J.
Gallagher & Co. as of December 31, 2001, and the related consolidated statements
of earnings, stockholders' equity, and cash flows for the year then ended, not
presented herein, and in our report dated January 23, 2002 we expressed an
unqualified opinion on those consolidated financial statements prior to certain
reclassifications. The information set forth in the audited consolidated balance
sheet as of December 31, 2001 has been reclassified to reflect the items
described in Note 3 to the financial statements described in the first paragraph
of this letter. Based on our review of these reclassifications, it is our
opinion that the accompanying consolidated balance sheet as of December 31,
2001, as reclassified, is fairly stated, in all material respects, in relation
to the consolidated balance sheet from which it has been derived.
/s/ Ernst & Young LLP
-----------------------------------------
Ernst & Young LLP
Chicago, Illinois
August 13, 2002
-22-
ARTHUR J. GALLAGHER & CO.
INFORMATION CONCERNING FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements within the meaning of that term
in the Private Securities Litigation Reform Act of 1995 found at Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934. Additional written or oral forward-looking statements may be made by
Gallagher from time to time in filings with the Securities Exchange Commission,
press releases, or otherwise. Statements contained in this report that are not
historical facts are forward-looking statements made pursuant to the safe harbor
provisions of the Act. Forward-looking statements may include, but are not
limited to, discussions concerning revenues, expenses, earnings, cash flow,
capital structure, financial losses, as well as market and industry conditions,
premium rates, financial markets, interest rates, foreign exchange rates,
contingencies and matters relating to Gallagher's operations and income taxes.
In addition, when used in this report, the words "anticipates," "believes,"
"should," "estimates," "expects," "intends," "plans" and variations thereof and
similar expressions are intended to identify forward-looking statements. Such
forward-looking statements are based on available current market and industry
material, experts' reports and opinions and long-term trends, as well as
management's expectations concerning future events impacting Gallagher.
Forward-looking statements made by or on behalf of Gallagher are subject to
risks and uncertainties, including but not limited to the following: Gallagher's
commission revenues are highly dependent on premiums charged by insurers, which
are subject to fluctuation; lower interest rates reduce Gallagher's income
earned on invested funds; the alternative insurance market continues to grow
which could unfavorably impact commission and favorably impact fee revenue;
Gallagher's revenues vary significantly from period to period as a result of the
timing of policy inception dates and the net effect of new and lost business
production; the general level of economic activity can have a substantial impact
on Gallagher's renewal business; Gallagher's operating results, return on
investment and financial position may be adversely impacted by exposure to
various market risks such as interest rate, equity pricing, foreign exchange
rates and the competitive environment, and changes in income tax laws.
Gallagher's ability to grow has been enhanced through acquisitions, which may or
may not be available on acceptable terms in the future and which, if
consummated, may or may not be advantageous to Gallagher. Accordingly, actual
results may differ materially from those set forth in the forward-looking
statements.
Readers are cautioned not to place undue reliance on any forward-looking
statements contained in this report, which speak only as of the date set forth
on the signature page hereto. Gallagher undertakes no obligation to publicly
release the result of any revisions to these forward-looking statements that may
be made to reflect events or circumstances after such date or to reflect the
occurrence of anticipated or unanticipated events.
Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
There has been no material change with respect to market risk from that
described in Item 7A of Gallagher's Annual Report on Form 10-K for the year
ended December 31, 2001.
-23-
ARTHUR J. GALLAGHER & CO.
PART II - OTHER INFORMATION
Item 4 Submission of Matters to a Vote of Security Holders
At the Annual Meeting of Stockholders of Arthur J. Gallagher & Co. held
on May 14, 2002, 77,386,794 shares of Gallagher's Common Stock, or
90.38% of the total Common Stock outstanding on the record date for
such meeting, were represented.
The Stockholders of Gallagher elected Mr. James J. Braniff III, Mr.
Michael J. Cloherty and Mr. Gary P. Coughlan as Class III Directors
with terms expiring in 2005. Of the shares voted with respect to the
election of Mr. Braniff, 74,927,736 were voted in favor and 2,459,058
were withheld. Of the shares voted with respect to the election of Mr.
Cloherty, 74,925,515 were voted in favor and 2,461,279 were withheld.
Of the shares voted with respect to the election of Mr. Coughlan,
75,286,394 were voted in favor and 2,100,400 were withheld.
Continuing as Class I Directors with terms expiring in 2003 are James
W. Durkin, Jr., J. Patrick Gallagher, Jr., Ilene S. Gordon and James R.
Wimmer. Continuing as Class II Directors with terms expiring in 2004
are T. Kimball Brooker, Robert E. Gallagher, David E. McGurn, Jr., and
Richard J. McKenna.
The Stockholders of Gallagher also ratified the appointment of Ernst &
Young LLP as independent auditors for the fiscal year ending December
31, 2002. Of the shares voted with respect to the ratification of Ernst
& Young LLP, 74,758,284 were voted in favor, 2,611,339 were voted
against, and 17,171 were withheld.
Item 6. Exhibits and Reports on Form 8-K
a. Exhibit 10.8.7 - Arthur J. Gallagher & Co. and AJG Financial
Services, Inc. Seventh Amendment to Credit
Agreement Dated as of August 9, 2002.
Exhibit 10.27.3 - Amendment No. 3 to the Arthur J. Gallagher & Co
Restated 1988 Nonqualified Stock Option Plan
(Amended as of January 17, 2002).
Exhibit 10.28.3 - Amendment No. 4 to the Arthur J. Gallagher & Co
Restated 1989 Non-Employee Directors' Stock
Option Plan (Amended as of January 17, 2002).
Exhibit 15.1 - Letter re: unaudited interim financial
information
Exhibit 99.1 - Certification of CEO Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
Exhibit 99.2 - Certification of CFO Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
b. Reports on Form 8-K. No Reports on Form 8-K were filed during the
three-month period ended June 30, 2002.
-24-
ARTHUR J. GALLAGHER & CO.
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) 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 on the 14th day of August,
2002.
ARTHUR J. GALLAGHER & CO.
/s/ Michael J. Cloherty
-----------------------------------------
Michael J. Cloherty
Executive Vice President
(principal financial officer and duly
authorized officer)
-25-
ARTHUR J. GALLAGHER & CO.
EXHIBIT INDEX
Exhibit 10.8.7 - Arthur J. Gallagher & Co. and AJG Financial Services, Inc.
Seventh Amendment to Credit Agreement Dated as of August 9,
2002.
Exhibit 10.27.3 - Amendment No. 3 to the Arthur J. Gallagher & Co Restated
1988 Nonqualified Stock Option Plan (Amended as of January
17, 2002).
Exhibit 10.28.3 - Amendment No. 4 to the Arthur J. Gallagher & Co Restated
1989 Non-Employee Directors' Stock Option Plan (Amended as
of January 17, 2002).
Exhibit 15.1 - Letter re: unaudited interim financial information.
Exhibit 99.1 - Certification of CEO Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
Exhibit 99.2 - Certification of CFO Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.