1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 1996
[ ] 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 000-18269
DELPHI FINANCIAL GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware (302) 478-5142 13-3427277
(State or other jurisdiction of (Registrant's telephone number, (I.R.S. Employer Identification
incorporation or organization) including area code) Number)
1105 North Market Street, Suite 1230, Wilmington, Delaware 19899
(Address of principal executive offices) (Zip Code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to filing requirements
for the past 90 days:
Yes X No
--- ---
As of August 9, 1996, the Registrant had 14,921,911 shares of
Common Stock outstanding.
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DELPHI FINANCIAL GROUP, INC.
FORM 10-Q
INDEX
Page
----
PART I. FINANCIAL INFORMATION
Consolidated Statements of Income for the Three and Six
Months Ended June 30, 1996 and 1995............................ 2
Consolidated Balance Sheets at June 30, 1996 and
December 31, 1995.............................................. 3
Consolidated Statements of Shareholders' Equity
for the Six Month Ended June 30, 1996 and 1995................. 4
Consolidated Statements of Cash Flows for the
Six Months Ended June 30, 1996 and 1995........................ 5
Notes to Consolidated Financial Statements....................... 6
Management's Discussion and Analysis of Financial
Condition and Results of Operations............................ 8
PART II. OTHER INFORMATION................................................ 13
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PART I. FINANCIAL INFORMATION
DELPHI FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
Three Months Ended Six Months Ended
June 30, June 30,
1996 1995 1996 1995
--------- --------- --------- ---------
Revenue:
Insurance premiums and policyholder fees .............. $ 86,361 $ 65,306 $ 158,875 $ 128,478
Net investment income ................................. 38,439 32,118 68,992 57,115
Net realized investment losses ........................ (4,069) (941) (5,268) (2,529)
--------- --------- --------- ---------
120,731 96,483 222,599 183,064
--------- --------- --------- ---------
Benefits and expenses:
Benefits, claims and interest credited
to policyholders..................................... 70,222 59,204 132,795 118,606
Commissions ........................................... 6,084 5,273 11,651 10,504
Amortization of cost of business acquired ............. 7,432 4,056 12,263 8,150
Premium and other taxes, licenses and fees ............ 2,873 2,499 5,592 4,904
Other operating expenses .............................. 9,611 6,390 16,572 12,501
--------- --------- --------- ---------
96,222 77,422 178,873 154,665
--------- --------- --------- ---------
Income from continuing operations before
interest and income tax expense ............. 24,509 19,061 43,726 28,399
Interest expense ......................................... 4,591 3,382 8,044 6,894
--------- --------- --------- ---------
Income from continuing operations before
income tax expense .......................... 19,918 15,679 35,682 21,505
Income tax expense ....................................... 6,585 5,487 12,103 7,377
--------- --------- --------- ---------
Income from continuing operations ............... 13,333 10,192 23,579 14,128
Discontinued operations, net of income tax benefit:
Loss from operations .................................. (394) (404) (765) (843)
Loss on disposal ...................................... (5,836) -- (5,836) --
--------- --------- --------- ---------
Net income ...................................... $ 7,103 $ 9,788 $ 16,978 $ 13,285
========= ========= ========= =========
Results per common share:
Income from continuing operations ..................... $ 0.81 $ 0.84 $ 1.58 $ 1.17
Discontinued operations, net of income tax benefit:
Loss from operations ............................... (0.02) (0.03) (0.05) (0.07)
Loss on disposal ................................... (0.36) -- (0.39) --
--------- --------- --------- ---------
Net income ............................................ $ 0.43 $ 0.81 $ 1.14 $ 1.10
========= ========= ========= =========
Weighted average shares outstanding (in thousands) ....... 16,331 12,050 14,868 12,114
See notes to consolidated financial statements.
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DELPHI FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
June 30, December 31,
1996 1995
----------- ------------
ASSETS:
Investments:
Fixed maturity securities, available for sale ..................... $ 1,924,665 $ 1,554,283
Cash and cash equivalents ......................................... 79,760 16,685
Other investments ................................................. 258,185 220,563
----------- -----------
2,262,610 1,791,531
Cost of business acquired ............................................ 100,339 91,346
Reinsurance receivables .............................................. 199,086 183,077
Other assets ......................................................... 176,758 192,155
Assets held in separate account ...................................... 71,821 64,901
----------- -----------
Total assets .................................................. $ 2,810,614 $ 2,323,010
=========== ===========
LIABILITIES:
Policy liabilities and accruals ...................................... $ 927,473 $ 501,550
Policyholder account balances ........................................ 738,654 743,745
Corporate debt ....................................................... 237,116 134,611
Advances from Federal Home Loan Bank ................................. 201,020 201,057
Securities sold under agreements to repurchase ....................... 52,836 202,495
Other liabilities and policyholder funds ............................. 287,725 258,052
Liabilities related to separate account .............................. 64,921 58,685
----------- -----------
2,509,745 2,100,195
----------- -----------
SHAREHOLDERS' EQUITY:
Preferred Stock, $.01 par; 10,000,000 shares authorized .............. -- --
Class A Common Stock, $.01 par; 40,000,000 shares authorized;
9,814,540 and 6,696,355 shares issued and outstanding, respectively 98 67
Class B Common Stock, $.01 par; 20,000,000 shares authorized;
5,215,788 shares issued and outstanding ........................... 52 52
Additional paid-in capital ........................................... 165,356 87,734
Net unrealized depreciation on investments ........................... (51,409) (34,832)
Retained earnings .................................................... 189,114 172,136
Treasury stock, at cost; 126,568 shares Class A Common Stock ......... (2,342) (2,342)
----------- -----------
300,869 222,815
----------- -----------
Total liabilities and shareholders' equity .................... $ 2,810,614 $ 2,323,010
=========== ===========
See notes to consolidated financial statements.
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DELPHI FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(DOLLARS AND SHARES IN THOUSANDS)
(UNAUDITED)
Six Months Ended June 30,
------------------------------------------------
1996 1995
---------------------- ----------------------
Shares Amounts Shares Amounts
--------- --------- --------- ---------
CLASS A COMMON STOCK:
Beginning balance ..................................... 6,696 $ 67 5,901 $ 59
Issuance of stock, exercise of stock options and
conversion of shares ........................... 3,119 31 192 2
--------- --------- --------- ---------
Ending balance ........................................ 9,815 $ 98 6,093 $ 61
========= ========= ========= =========
CLASS B COMMON STOCK:
Beginning balance ..................................... 5,216 $ 52 5,866 $ 59
Conversion of shares ............................... -- -- (127) (2)
--------- --------- --------- ---------
Ending balance ........................................ 5,216 $ 52 5,739 $ 57
========= ========= ========= =========
CLASS A TREASURY STOCK:
Beginning balance ..................................... 127 $ (2,342) -- $ --
Receipt of Treasury Stock .......................... -- -- 127 (2,342)
--------- --------- --------- ---------
Ending balance ........................................ 127 $ (2,342) 127 $ (2,342)
========= ========= ========= =========
ADDITIONAL PAID-IN CAPITAL:
Beginning balance ..................................... $ 87,734 $ 86,481
Issuance of stock and exercise of stock options .... 77,622 491
--------- ---------
Ending balance ........................................ $ 165,356 $ 86,972
========= =========
NET UNREALIZED DEPRECIATION ON INVESTMENTS:
Beginning balance ..................................... $ (34,832) $ (57,889)
Change in net unrealized (depreciation) appreciation (16,577) 9,120
--------- ---------
Ending balance ........................................ $ (51,409) $ (48,769)
========= =========
RETAINED EARNINGS:
Beginning balance ..................................... $ 172,136 $ 141,672
Net income ......................................... 16,978 13,285
--------- ---------
Ending balance ........................................ $ 189,114 $ 154,957
========= =========
TOTAL SHAREHOLDERS' EQUITY ............................... $ 300,869 $ 190,936
========= =========
See notes to consolidated financial statements.
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DELPHI FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
Six Months Ended
June 30,
----------------------
1996 1995
--------- ---------
Operating activities:
Net income ................................................................. $ 16,978 $ 13,285
Adjustments to reconcile net income to net cash
provided by operating activities:
Change in policy liabilities and accruals, reinsurance
receivables and policyholder accounts ................................ 16,682 11,097
Amortization, principally the cost of business acquired and investments . 9,997 8,207
Deferred costs of business acquired ..................................... (12,904) (9,469)
Net realized losses on investments ...................................... 5,268 2,529
Net change in trading account activities ................................ (4,352) (33,599)
Other ................................................................... (7,984) (3,972)
--------- ---------
Net cash provided (used) by operating activities ..................... 23,685 (11,922)
--------- ---------
Investing activities:
Securities available for sale:
Purchases of investments and loans made ................................. (704,252) (151,207)
Purchases of short-term investments ..................................... -- (6,656)
Sales of investments and receipts from repayment of loans ............... 641,752 251,412
Sales of short-term investments ......................................... 4,400 1,528
Maturities of investments ............................................... 13,806 25,732
Net change in securities held under reverse repurchase agreements ....... 153,070 130,165
Securities held to maturity:
Purchases of investments ................................................ -- (10,327)
Maturities of investments ............................................... -- 15,165
Cash acquired in the SIG Merger, net of consideration paid ................. 37,313 --
Change in deposit in separate account ...................................... (684) 1,672
--------- ---------
Net cash provided by investing activities ............................ 145,405 257,484
--------- ---------
Financing activities:
Deposits to policyholder accounts .......................................... 31,407 934
Withdrawals from policyholder accounts ..................................... (39,030) (92,528)
Proceeds from issuance of common stock and exercise of stock options ....... 267 491
Borrowings under Credit Agreement .......................................... 64,000 --
Principal payments under Credit Agreement .................................. (8,000) (5,000)
Change in amounts due to brokers and other short-term financing ............ (5,000) (5,250)
Change in liability under reverse repurchase agreements .................... (149,659) (126,444)
--------- ---------
Net cash used by financing activities ................................ (106,015) (227,797)
--------- ---------
Increase in cash and cash equivalents .......................................... 63,075 17,765
Cash and cash equivalents at beginning of period ............................... 16,685 1,443
--------- ---------
Cash and cash equivalents at end of period ................................. $ 79,760 $ 19,208
========= =========
See notes to consolidated financial statements.
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DELPHI FINANCIAL GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE A - SIGNIFICANT ACCOUNTING POLICIES
The financial statements included herein were prepared in conformity with
generally accepted accounting principles for interim financial information and
with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
Such principles were applied on a basis consistent with those reflected in the
Company's report on Form 10-K for the year ended December 31, 1995. The
information furnished includes all adjustments and accruals of a normal
recurring nature which are, in the opinion of management, necessary for a fair
presentation of results for the interim periods. Operating results for the six
month period ended June 30, 1996 are not necessarily indicative of the results
that may be expected for the year ended December 31, 1996. Certain
reclassifications have been made in the 1995 financial statements to conform
with the 1996 presentation. For further information refer to the consolidated
financial statements and footnotes thereto included in the Company's report on
Form 10-K for the year ended December 31, 1995. Capitalized terms used herein
without definition have the meanings ascribed to them in the Company's report on
Form 10-K for the year ended December 31, 1995.
NOTE B - DISCONTINUED OPERATIONS
The Company has formalized plans to discontinue its long-term care insurance
business. This is intended to be accomplished by means of a sale, which the
Company will seek to consummate by June 1997. This business was purchased in
December 1994 and was expected to become a significant part of the Company's
operations. The Company reconsidered its strategy due to continued losses from
this business attributable to less than expected sales levels and decided to
concentrate its resources on other opportunities such as product and
distribution enhancements for the Company's group employee benefit products. The
loss on the disposal of this business is primarily attributable to the write-off
of deferred acquisition costs and goodwill associated with the business and a
provision of $1.4 million, net of a tax benefit of $0.8 million, for operating
losses during the phase-out period. Operating losses from this business are
presented net of a tax benefit of $0.2 million for both the three months ended
June 30, 1996 and 1995, respectively, and $0.4 million and $0.5 million for the
six months ended June 30, 1996 and 1995, respectively. Revenues from the
long-term care insurance business totaled $0.5 million and $0.3 million for the
three months ended June 30, 1996 and 1995, respectively, and $0.8 million and
$0.7 million for the six months ended June 30, 1996 and 1995, respectively. The
net liabilities associated with this business of $3.5 million at June 30, 1996
are included in other liabilities in the consolidated balance sheet and consist
primarily of policy liabilities and accruals. The 1995 financial statements have
been restated to reflect the discontinuance of this business.
NOTE C - MERGER
On March 5, 1996, SIG Holdings, Inc. ("SIG") was merged into the Company for
consideration of approximately $54.5 million of cash, net of approximately $1.0
million payable upon the exercise of certain SIG stock options, which was funded
from additional borrowings under the Credit Agreement, and approximately 4.3
million shares of the Company's Class A Common Stock, including shares of Class
A Common Stock reserved for issuance upon the exercise of stock options of SIG
assumed by the Company, plus additional contingent consideration of up to $20.0
million (the "SIG Merger"). The contingent consideration will be payable in
shares of the Company's Class A Common Stock or, at the option of the Company,
in cash. No contingent consideration is due unless SIG's cumulative net income
exceeds $41.8 million for the two years ending December 31, 1997, $62.6 million
for the three years ending December 31, 1998 or $83.5 million for the four years
ending December 31, 1999, and the maximum amount is triggered at cumulative net
income levels of $75.3 million for the three year period or $104.4 million for
the four year period. The Company also assumed $45.0 million of SIG's 8.5%
senior secured notes (the "SIG Senior Notes"). The SIG Senior Notes amortize in
$9.0 million annual installments beginning in May 1999. SIG, through its
subsidiary Safety National Casualty Corporation, is a provider of excess
workers' compensation products to the self-insured market. As of March 5, 1996,
SIG had total assets of $572.5 million, and shareholders' equity was $96.8
million. The SIG Merger was accounted for using the purchase accounting method
with the results of SIG included in the Company's results from the date of the
SIG Merger.
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DELPHI FINANCIAL GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(UNAUDITED)
NOTE C - MERGER (CONTINUED)
The pro forma operating results, which assume the SIG Merger had occurred at the
beginning of each period, are as follows: total revenue of $241.1 million and
$236.9 million, which includes realized investment losses of $5.3 million, or
$0.21 per share after taxes, and $2.5 million, or $0.10 per share after taxes,
income from continuing operations of $26.8 million and $23.6 million and
earnings per share from continuing operations of $1.63 and $1.44 for the six
months ended June 30, 1996 and 1995, respectively. Pro forma net income, after
losses from discontinued operations of $6.6 million, or $0.40 per share, and
$0.8 million, or $0.05 per share, would be $20.2 million, or $1.23 per share,
and $22.7 million, or $1.39 per share, for the six months ended June 30, 1996
and 1995, respectively. In preparing the pro forma data, adjustments have been
made to reflect the purchase accounting adjustments and interest expense on the
additional borrowings under the Credit Agreement that would have occurred. The
pro forma weighted average numbers of shares outstanding of 16.5 million and
16.4 million for the six months ended June 30, 1996 and 1995, respectively, used
in calculating the pro forma per share data assume that all of the outstanding
options to purchase SIG stock were exercised at the beginning of each period.
The pro forma information does not purport to be indicative of the operating
results that actually would have been achieved had the SIG Merger been
consummated as of the date indicated and should not be construed as
representative of future operating results.
NOTE D - INVESTMENTS
At June 30, 1996, the Company had fixed maturity securities available for sale
with a carrying value and a fair value of $1,924.7 million and an amortized cost
of $2,016.6 million. At December 31, 1995, the Company had fixed maturity
securities available for sale with a carrying value and a fair value of $1,554.3
million and an amortized cost of $1,612.7 million.
NOTE E - REVERSE REPURCHASE AGREEMENTS
The Company's liabilities for securities sold under agreements to repurchase
totaled $52.8 million and $202.5 million at June 30, 1996 and December 31, 1995,
respectively. Included in the Company's fixed maturity securities on the
Consolidated Balance Sheet are $57.1 million and $212.0 million of securities at
June 30, 1996 and December 31, 1995, respectively, which serve as collateral to
secure these liabilities.
NOTE F - CONSOLIDATED STATEMENTS OF CASH FLOW
Supplemental schedule of non-cash investing and financing activities:
The consideration for the SIG Merger included approximately 4.3 million shares
of the Company's Class A Common Stock, including shares of Class A Common Stock
reserved for issuance upon the exercise of SIG stock options assumed by the
Company.
NOTE G - EARNINGS PER SHARE
Earnings per share is computed by dividing net income by the weighted average
number of shares outstanding for the applicable period adjusted by the number of
shares issuable on exercise of common stock options, reduced by the number of
shares assumed to have been repurchased (at the average market value per share
of the Company's common stock) with the proceeds from their exercise.
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DELPHI FINANCIAL GROUP, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The following is an analysis of the results of operations and financial
condition of Delphi Financial Group, Inc. (the "Company", which term includes
the Company and its consolidated subsidiaries unless the context specifies
otherwise). This analysis should be read in conjunction with the consolidated
financial statements and notes thereto included in this document, as well as the
Company's report on Form 10-K for the year ended December 31, 1995. Capitalized
terms used herein without definition have the meanings ascribed to them in the
Company's report on Form 10-K for the year ended December 31, 1995.
RESULTS OF OPERATIONS
Six Months Ended June 30, 1996 Compared to
Six Months Ended June 30, 1995
Insurance Premiums and Policyholder Fees. Insurance premiums and policyholder
fees for the six months ended June 30, 1996 were $158.9 million as compared to
$128.5 million for the six months ended June 30, 1995, an increase of 23.7%.
Contributing to this increase was $22.9 million in premiums from the Company's
excess workers' compensation business which was acquired as a result of the
merger with SIG Holdings, Inc. ("SIG") on March 5, 1996 (the "SIG Merger"). Also
contributing to the increase was modest growth in premiums from the Company's
other group employee benefit products, including the impact of certain price
increases. Deposits from the Company's single premium deferred annuity products,
including the Company's new market value adjusted annuity product, which it
began marketing in the fall of 1995, were $30.5 million for the six months ended
June 30, 1996. Deposits for these products, which are long-term in nature, are
not recorded as premiums; instead, the deposits are recorded as a liability.
Net Investment Income. Net investment income for the six months ended June 30,
1996 was $69.0 million as compared to $57.1 million for the six months ended
June 30, 1995, an increase of 20.8%. The increase is principally due to an
increase in average invested assets as a result of the SIG Merger and improved
performance in the Company's independent investment managers program. The
weighted average annualized yield on invested assets, excluding realized and
unrealized investment gains and losses, was 7.9% on average invested assets of
$1,749.3 million and 7.7% on average invested assets of $1,481.3 million for the
six months ended June 30, 1996 and 1995, respectively.
Net Realized Investment Losses. Net realized investment losses were $5.3 million
for the six months ended June 30, 1996 as compared to net realized investment
losses of $2.5 million for the six months ended June 30, 1995. The Company's
investment strategy results in periodic sales of securities and the recognition
of realized investment gains and losses.
Benefits and Expenses. Policyholder benefits and expenses for the six months
ended June 30, 1996 were $178.9 million as compared to $154.7 million for the
six months ended June 30, 1995, an increase of 15.6%. During the first six
months of 1996, benefits and expenses for group employee benefit products
increased by $28.3 million as compared to the same period in 1995. Of this
increase, $20.2 million was attributable to the Company's excess workers'
compensation business which was acquired as a result of the SIG Merger. The
remaining increase was primarily attributable to premium growth in the Company's
other group employee benefit product lines. The combined ratio (loss ratio plus
expense ratio) for group insurance lines, excluding excess workers' compensation
insurance, was 97.8%, slightly above the comparable period of 1995, which was
97.2%. Benefits and interest credited on asset accumulation products decreased
by $4.6 million for the six months ended June 30, 1996 as compared to the six
months ended June 30, 1995, principally due to a decline in average funds under
management of $125.5 million and a decrease in the weighted average annualized
crediting rate on asset accumulation products from 5.7% to 5.4%. These decreases
were primarily attributable to scheduled maturities of guaranteed investment
contracts, which had higher average crediting rates than the Company's other
asset accumulation products.
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Operating Income. Income from continuing operations before interest and taxes
for the six months ended June 30, 1996 was $43.7 million as compared to $28.4
million for the six months ended June 30, 1995, an increase of 53.9%. The
increase in 1996 was primarily due to the acquisition of the excess workers'
compensation business through the SIG Merger and an increase in the weighted
average yield on invested assets, partially offset by an increase in net
realized investment losses.
Interest Expense. Interest expense for the six months ended June 30, 1996 was
$8.0 million as compared to $6.9 million for the six months ended June 30, 1995.
The increase was primarily due to interest expense on the SIG Senior Notes,
which were assumed in conjunction with the SIG Merger. An increase in interest
expense on the Credit Agreement due to additional borrowings in 1996 to fund the
SIG Merger was substantially offset by a decline in the weighted average
borrowing rate.
Income Taxes. Income tax expense for the six months ended June 30, 1996 was
$12.1 million as compared to $7.4 million for the six months ended June 30,
1995. The increase was primarily due to the $15.3 million increase in operating
income partially offset by a decrease in the effective tax rate from 34.3% for
the six months ended June 30, 1995 to 33.9% for the six months ended June 30,
1996 due to an increase in tax-exempt interest earned during 1996.
Discontinued Operations. The Company has formalized plans to discontinue its
long-term care insurance business. Operating losses on this business totaled
$0.8 million, net of a tax benefit of $0.4 million and $0.5 million, for both
the six months ended June 30, 1996 and 1995, respectively. The Company also
recorded a one-time charge as of June 30, 1996 of $5.8 million, net of a tax
benefit of $3.2 million, attributable to the discontinuance of this product
line.
Three Months Ended June 30, 1996 Compared to
Three Months Ended June 30, 1995
Insurance Premiums and Policyholder Fees. Insurance premiums and policyholder
fees for the three months ended June 30, 1996 were $86.4 million as compared to
$65.3 million for the three months ended June 30, 1995, an increase of 32.3%.
Contributing to this increase was $17.7 million in premiums from the Company's
excess workers' compensation business which was acquired as a result of the SIG
Merger. Also contributing to the increase was modest growth in premiums from the
Company's other group employee benefit products, including the impact of certain
price increases. Deposits from the Company's single premium deferred annuity
products, including the Company's new market value adjusted annuity product,
which it began marketing in the fall of 1995, were $13.7 million for the three
months ended June 30, 1996. Deposits for these products, which are long-term in
nature, are not recorded as premiums; instead, the deposits are recorded as a
liability.
Net Investment Income. Net investment income for the three months ended June 30,
1996 was $38.4 million as compared to $32.1 million for the three months ended
June 30, 1995, an increase of 19.6%. The increase is principally due to an
increase in average invested assets as a result of the SIG Merger. The weighted
average annualized yield on invested assets, excluding realized and unrealized
investment gains and losses, was 7.8% on average invested assets of $1,961.2
million and 8.7% on average invested assets of $1,471.3 million for the three
months ended June 30, 1996 and 1995, respectively. The decline in the yield is
principally attributable to the portfolio acquired in conjunction with the SIG
Merger, of which a portion is invested in tax-exempt municipal securities.
Net Realized Investment Losses. Net realized investment losses were $4.1 million
for the three months ended June 30, 1996 as compared to net realized investment
losses of $0.9 million for the three months ended June 30, 1995. The Company's
investment strategy results in periodic sales of securities and the recognition
of realized investment gains and losses.
Benefits and Expenses. Policyholder benefits and expenses for the three months
ended June 30, 1996 were $96.2 million as compared to $77.4 million for the
three months ended June 30, 1995, an increase of 24.3%. During the second
quarter of 1996, benefits and expenses for group employee benefit products
increased by $19.5 million as compared to the same period in 1995. Of this
increase, $15.9 million was attributable to the Company's excess workers'
compensation business which was acquired as a result of the SIG Merger. The
remaining increase was primarily attributable to premium growth in the Company's
other group employee benefit product lines. The combined ratio (loss ratio plus
expense ratio) for group insurance lines, excluding excess workers' compensation
insurance, was 97.1% for the three months ended June 30, 1996, somewhat above
the comparable period of 1995, which was 96.1%. Benefits and interest credited
on asset accumulation products decreased by $1.7 million for
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the three months ended June 30, 1996 as compared to the three months ended June
30, 1995, principally due to a decline in average funds under management of
$98.5 million and a decrease in the weighted average annualized crediting rate
on asset accumulation products from 5.7% to 5.3%. These decreases were primarily
attributable to scheduled maturities of guaranteed investment contracts, which
had higher average crediting rates than the Company's other asset accumulation
products.
Operating Income. Income from continuing operations before interest and taxes
for the three months ended June 30, 1996 was $24.5 million as compared to $19.1
million for the three months ended June 30, 1995, an increase of 28.3%. The
increase in 1996 was primarily due to the acquisition of the excess workers'
compensation business through the SIG Merger, partially offset by an increase in
net realized investment losses.
Interest Expense. Interest expense for the three months ended June 30, 1996 was
$4.6 million as compared to $3.4 million for the three months ended June 30,
1995. The increase was primarily due to interest expense on the SIG Senior
Notes, which were assumed in conjunction with the SIG Merger. An increase in
interest expense on the Credit Agreement due to additional borrowings in 1996 to
fund the SIG Merger was partially offset by a decline in the weighted average
borrowing rate.
Income Taxes. Income tax expense for the three months ended June 30, 1996 was
$6.6 million as compared to $5.5 million for the three months ended June 30,
1995. The increase was primarily due to the $5.4 million increase in operating
income, partially offset by a decrease in the effective tax rate from 35.0% in
the second quarter of 1995 to 33.1% for the comparable period of 1996 due to an
increase in tax-exempt interest earned during 1996.
Discontinued Operations. The Company has formalized plans to discontinue its
long-term care insurance business. Operating losses on this business totaled
$0.4 million, net of a tax benefit of $0.2 million, for both the three months
ended June 30, 1996 and 1995, respectively. The Company also recorded a one-time
charge as of June 30, 1996 of $5.8 million, net of a tax benefit of $3.2
million, attributable to the discontinuance of this product line.
LIQUIDITY AND CAPITAL RESOURCES
General. The Company has approximately $97.8 million of financial resources
available at the holding company level at June 30, 1996 which are primarily
comprised of investments in the common stock of its non-insurance subsidiaries.
The assets of these non-insurance subsidiaries were primarily invested in
balances with independent investment managers and marketable securities. All of
the amounts invested with independent investment managers are withdrawable at
least annually, subject to applicable notice requirements. A shelf registration
statement is also in effect under which up to $149.2 million in securities may
be issued by the Company.
Other sources of liquidity at the holding company level include interest and
principal payments made on the Surplus Debentures issued by RSLIC-Texas,
dividends paid from insurance subsidiaries, primarily generated from operating
cash flows and investments, and borrowings available under the Credit Agreement.
RSLIC-Texas generates less than 1% of the Company's premiums, policyholder fees
and deposits; therefore, payments on the Surplus Debentures are generally funded
by dividend payments made by RSLIC to RSLIC-Texas. These dividends are subject
to regulatory restrictions and, in the absence of regulatory approval, are
generally limited within any 12-month period, in the aggregate, to the greater
of RSLIC's statutory net income for the preceding year, or 10% of RSLIC's
statutory surplus at the end of the preceding year. RSLIC has $25.3 million
available for dividend payments without prior regulatory approval during 1996.
SNCC's ability to pay dividends is subject to regulatory and certain other
contractual restrictions and, in the absence of the requisite approvals,
dividends are generally limited within any 12-month period, in the aggregate, to
the lesser of 10% of SNCC's statutory surplus at the end of the preceding year
or SNCC's statutory net investment income for the preceding year. SNCC has $9.2
million available for dividend payments without prior approval during 1996.
Additional dividends may also be paid by RSLIC and SNCC with the requisite
approvals.
The Company's current liquidity needs, in addition to funding operating
expenses, include principal and interest payments on outstanding borrowings
under the Credit Agreement, the Senior Notes and the SIG Senior Notes. The
Credit Agreement permits the Company to borrow up to $200.0 million at any one
time. Of the total facility, $43.5 million is restricted for use in connection
with, among other things, acquisitions or the redemption of the SIG Senior
Notes. The maximum amount available to the Company under the Credit Agreement
will be reduced on October 1 of each year with the balance due on April 1, 2002.
At the
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Company's current level of borrowing, no principal repayments would be required
until October 1, 2000. The Senior Notes mature in their entirety on October 1,
2003 and are not subject to any sinking fund requirements nor are they
redeemable prior to maturity. The SIG Senior Notes amortize in five annual
installments of $9.0 million beginning in May 1999. Sources of liquidity
available at the holding company level in 1996 are expected to exceed the
Company's cash requirements for 1996.
The Company has formalized plans to discontinue its long-term care insurance
business. This is expected to be accomplished by means of a sale, which is
intended to be consummated by June 1997. This business was purchased in December
1994 and was expected to become a significant part of the Company's operations.
The Company reconsidered its strategy due to continued losses from this business
attributable to less than expected sales levels and decided to concentrate its
resources on other opportunities such as product and distribution enhancements
for the Company's group employee benefit products. The discontinuance of this
business is not expected to have a material effect on the Company's financial
condition or liquidity in the future.
The primary sources of liquidity of the Company's significant insurance
subsidiaries are premiums and deposits on policies and contracts, investment
income and repayments of principal on, and proceeds from sales and maturities
of, invested assets. The liquidity requirements of these subsidiaries
principally relate to the contractual obligations associated with their
insurance and annuity products and operating expenses. The Company believes that
these sources of funding will be adequate to satisfy its insurance subsidiaries'
liquidity requirements on both a short-term and long-term basis.
Operating activities increased cash and cash equivalents by $23.7 million for
the six months ended June 30, 1996. Net investing activities provided $145.4
million of cash during the first half of 1996, primarily due to sales of
mortgage-backed securities and net cash acquired as a result of the SIG Merger.
Financing activities used $106.0 million of cash for the six months ended June
30, 1996, principally to reduce reverse repurchase agreement liabilities, offset
by additional borrowings under the Credit Agreement to fund the cash
consideration associated with the SIG Merger.
Investments. The Company's overall investment strategy to achieve its objectives
of safety and liquidity, while seeking the best available return, focuses on,
among other things, (i) matching of durations of the Company's interest
sensitive assets and liabilities to minimize the Company's exposure to
fluctuations in interest rates, (ii) financing the purchase of securities
through advances from the FHLB to enhance investment yields and to manage the
duration of its liabilities, and (iii) using hedging strategies to reduce
interest rate risk and to better match the duration of its interest-sensitive
assets and liabilities. The Company has de-emphasized the use of reverse
repurchase agreements and has reduced its liabilities under these agreements
from $202.5 million at December 31, 1995 to $52.8 million at June 30, 1996. The
weighted average credit rating of the Company's fixed maturity portfolio as
rated by Moody's Investors Service was "Aa" at June 30, 1996. While an
investment grade rating of this type addresses credit risk, it does not address
other risks, such as interest rate risk, which is discussed below.
During the first half of 1996, the Company reduced its investments in
mortgage-backed securities to 37% of total invested assets, or $845.9 million,
as compared to 63% of total invested assets, or $1,133.5 million, at December
31, 1995. This reduction resulted from the sale of $260.0 million of
mortgage-backed securities and the acquisition of SIG's investment portfolio,
which totaled $541.8 million at June 30, 1996. Approximately 36% of the
Company's mortgage-backed securities are guaranteed by U.S. Government sponsored
entities as to the full amount of principal and interest. The remaining 64% of
the mortgage-backed portfolio consists of investments in trusts created by banks
and finance and mortgage companies. Of the Company's total mortgage-backed
securities portfolio, 99% of these holdings have been rated as investment grade
by nationally recognized statistical rating organizations. The single largest
investment in a mortgage-backed security totaled $49.6 million, or 2% of total
invested assets, at June 30, 1996. The Company's holdings include certain
privately placed mortgage-backed securities, the carrying value of which totaled
$124.8 million at June 30, 1996. Although there is an additional degree of
liquidity risk associated with privately placed securities, the Company believes
that, if necessary, it could liquidate all or a portion of its investments in
these securities in a timely manner at or close to market value. The Company has
not experienced any material write-downs in its mortgage-backed portfolio.
Mortgage-backed securities subject the Company to a degree of interest rate
risk, including prepayment and extension risk which is generally a function of
the sensitivity of each security's underlying collateral to prepayments under
varying interest rate environments and the repayment priority of the securities
in the particular securitization structure. The Company seeks to limit the
extent of this risk by emphasizing the more predictable payment classes and
securities with stable collateral. In addition, the
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Company has developed a hedging program to assist it in managing the duration of
its mortgage-backed securities. The hedging program utilizes short positions in
U.S. Treasury futures contracts to reduce the Company's interest rate risk,
effectively shortening the duration of the Company's mortgage-backed securities.
At June 30, 1996, the Company maintained mortgage-backed securities with a
weighted average duration of 5.4 years, after giving effect to hedging
activities, in line with the duration of its interest sensitive liabilities,
which range from three to six years. The duration of the Company's
mortgage-backed securities without the hedging instruments was approximately 6.1
years. At June 30, 1996, realized losses on closed futures positions totaling
$20.8 million and unrealized losses on open futures positions totaling $1.2
million have been deferred and recorded as adjustments to the amortized cost of
the mortgage-backed securities being hedged and will be amortized into
investment income over the expected term of the securities being hedged.
The Company has also developed a hedging program to reduce the interest rate
risk associated with its municipal securities portfolio. This hedging program
also utilizes short positions in U.S. Treasury futures contracts and limits the
interest rate risk associated with its investments in trusts comprised of
municipal securities. The short futures contracts hedging these securities have
a net deferred realized gain on closed positions of $3.3 million and an
unrealized loss on open positions of $2.8 million which have been recorded as
adjustments to the amortized cost of the municipal securities being hedged and
will be amortized into investment income over the expected term of the
securities being hedged.
The Company manages an investment program in which securities are financed using
advances from the Federal Home Loan Bank of Pittsburgh ("FHLB"). The Company
utilizes this program to earn spread income, which is the difference between the
financing cost and the earnings from the securities purchased with those funds,
and to manage the duration of its liabilities. The advances from the FHLB, which
are at a fixed rate, had an average term to maturity of 4.3 years. This program
requires the Company to maintain securities on deposit with the FHLB as
collateral for the funds outstanding. As the fair value of those securities
increases or decreases, the Company may be allowed to retake possession of
securities or be required to deposit additional securities.
Asset/Liability Management. A significant aspect of the Company's continued
profitability is its ability to manage risks associated with interest-sensitive
assets and liabilities. The Company prices its annuity products based on
assumptions concerning prevailing and expected interest rates and other factors
to achieve a positive difference, or spread, between its expected return on
investments and the crediting rate. The Company achieves this spread by active
portfolio management focusing on matching the durations of invested assets and
related liabilities to minimize the exposure to fluctuations in interest rates
and by the adjustment of the crediting rate on annuity products. The results of
this asset/liability matching are analyzed periodically through cash flow
analysis under multiple interest rate scenarios. In response to the decline in
interest rates during 1995, the Company has reduced the crediting rates on its
annuity products for 1996. The Company believes that it will continue to achieve
a positive spread and that the amount of lapses and surrender rates will remain
consistent with those assumed in the pricing of the products.
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PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
The Company held its Annual Meeting of Stockholders on May 14, 1996.
The directors elected at the meeting will serve for a term ending on
the date of the 1997 Annual Meeting of Stockholders. The directors
elected at the meeting were Thomas L. Rhodes, Robert Rosenkranz, Edward
A. Fox, Charles P. O'Brien, Lewis S. Ranieri, Robert M. Smith, Jr.,
Thomas A. Sullivan and B.K. Werner. One director is voted upon by the
Class A stockholders, voting separately as a class. At the 1996 Annual
Meeting that director was Mr. Rhodes.
The voting results for all matters at the meeting were as follows:
1) Election of Directors
VOTES
-----
Withhold
For Authority
---------- ---------
Class A Director:
Thomas L. Rhodes........................... 5,826,250 87,514
Directors:
Robert Rosenkranz.......................... 57,984,130 87,514
Edward A. Fox.............................. 57,984,130 87,514
Charles P. O'Brien......................... 57,984,130 87,514
Lewis S. Ranieri........................... 57,984,130 87,514
Robert M. Smith, Jr........................ 57,984,130 87,514
Thomas A. Sullivan......................... 57,984,130 87,514
B.K. Werner................................ 57,984,130 87,514
2) All Other Matters - With regard to the amendment to the Company's
Amended and Restated Employee Nonqualified Stock Option Plan, this
proposal received 57,942,094 votes for approval, 44,989 votes
against approval, 38,961 votes abstaining and 45,600 broker
non-votes. With regard to transacting such other business that
properly comes before the meeting or any adjournment thereof, this
proposal received 57,054,267 votes for approval, 753,377 votes
against approval, 251,000 votes abstaining and 13,000 broker
non-votes; however, no such other business came before the
meeting.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
11 - Computation of Earnings Per Share of Common Stock
27 - Financial Data Schedule
(b) Reports on Form 8-K
The Company filed a report on Form 8-K on March 19, 1996, and an
amendment thereto on April 11, 1996, announcing the completion of the
merger with SIG Holdings, Inc. on March 5, 1996. The report included
the financial statements of SIG Holdings, Inc. as of December 31,
1995 and 1994 and for the years ended December 31, 1995, 1994 and
1993 and unaudited pro forma condensed financial statements giving
effect to the merger as of and for the year ended December 31, 1995.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DELPHI FINANCIAL GROUP, INC. (Registrant)
/s/ ROBERT ROSENKRANZ
------------------------------------
Robert Rosenkranz
Chairman of the Board, President and
Chief Executive Officer
(Principal Executive Officer)
/s/ JANE R. DUNLAP
------------------------------------
Jane R. Dunlap
Vice President and Treasurer
(Chief Accounting Officer)
Date: August 13, 1996
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