1
EXHIBIT 13
ANNUAL REPORT ON FORM 10-K
Item 14 (c) - Exhibits
and
Item 14 (d) - Financial Statement Schedules
Year Ended December 31, 1996
McM CORPORATION AND SUBSIDIARIES
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SCHEDULE 1 -- SUMMARY OF INVESTMENTS
McM CORPORATION AND SUBSIDIARIES
December 31, 1996
AMOUNT
SHOWN ON
MARKET BALANCE
TYPE OF INVESTMENT COST VALUE SHEET
------------------ ---- ----- -----
(Thousands of dollars)
Fixed Maturity Securities Available-for-Sale
Bonds
Mortgage-backed securities $18,824 $18,999 $18,999
U.S. Government, government
agencies and authorities 17,449 17,371 17,371
Public utilities and other bonds 665 503 503
------- ------- -------
Total Fixed Maturities Available for Sale 36,938 36,873 36,873
Short-term investments 14,061 14,061 14,061
------- ------- -------
Total Securities Available-for-Sale 50,999 50,934 50,934
Held-to-Maturity
U.S. Government, government
agencies and authorities 5,745 5,799 5,745
States, municipalities and political
subdivisions 193 223 193
------- ------- -------
Total Securities Held To Maturity 5,938 6,022 5,938
======= ======= =======
Total Investments $56,937 $56,956 $56,872
======= ======= =======
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SCHEDULE 2 - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
BALANCE SHEETS
McM CORPORATON (PARENT COMPANY)
(Thousands of dollars)
December 31
1996 1995
---- ----
ASSETS
Fixed maturities available-for-sale $ 0 $ 95
Short term investments 30 0
Cash 107 101
Other assets 80 118
------- -------
217 314
Investments in wholly-owned subsidiaries
at equity * 24,005 25,189
------- -------
TOTAL ASSETS $24,222 $25,503
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Accrued expenses $ 1,562 $ 1,509
Income taxes payable to wholly-owned subsidiaries * 387 205
Payable to wholly-owned subsidiaries * 618 549
------- -------
TOTAL LIABILITIES 2,567 2,263
Shareholders' Equity:
Common stock 4,678 4,675
Additional paid-in capital 1,489 1,477
Unrealized (loss) gain on securities available-for-sale
(including unrealized gain on securities
held by subsidiaries: 1996 - $78 ; 1995 - $570) (65) 465
Retained earnings 15,553 16,623
------- -------
TOTAL SHAREHOLDERS' EQUITY 21,655 23,240
------- -------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $24,222 $25,503
======= =======
* Eliminated in consolidation
See notes to condensed financial information.
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SCHEDULE 2 - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF OPERATIONS
McM CORPORATON (PARENT COMPANY)
(Thousands of dollars)
Year Ended December 31
1996 1995 1994
---- ---- ----
INCOME
Administrative charges to subsidiaries * - Note B $ 650 $ 650 $1,200
Realized investment income 8 5 10
Other income 0 0 1
----- ------- ------
658 655 1,211
General and administrative expenses 893 680 866
----- ------- ------
(LOSS) INCOME BEFORE TAXES, AND EQUITY IN
UNDISTRIBUTED (LOSS) INCOME OF SUBSIDIARIES (235) (25) 345
Income taxes ( benefits) (140) 8 79
----- ------- ------
(LOSS) INCOME BEFORE EQUITY IN UNDISTRIBUTED
(LOSS) INCOME OF SUBSIDIARIES (95) (33) 266
Equity in undistributed (loss) income of subsidiaries (693) 2,243 1,088
----- ------- ------
NET (LOSS) INCOME ($788) $ 2,210 $1,354
===== ======= ======
* Eliminated in consolidation.
See notes to condensed financial information.
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SCHEDULE 2 - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF CASH FLOWS
McM CORPORATON (PARENT COMPANY)
(Thousands of dollars)
Year Ended December 31
1996 1995 1994
---- ---- ----
OPERATING ACTIVITIES
Net Income (Loss) ($ 788) $ 2,210 $ 1,354
Adjustments to reconcile net income (loss) to net cash provided by
(used by) operating activities:
Depreciation 4 4 12
Equity in loss (income) of subsidiaries 693 (2,243) (1,088)
Other assets 33 (7) 227
Other liabilities 53 (72) (617)
Provisions for income taxes 182 126 114
Income taxes payable to wholly-owned subsidiaries 69 6 (17)
------- ------- -------
CASH PROVIDED BY (USED BY) OPERATING ACTIVITIES 246 24 (15)
INVESTING ACTIVITIES
Disposals of fixed maturities 57 0 0
Decrease in short-term investments (30) 0 0
------- ------- -------
CASH USED BY INVESTING ACTIVITIES 27 0 0
FINANCING ACTIVITIES
Employee stock purchases 15 0 0
Cash dividend paid (282) 0 0
------- ------- -------
CASH (USED BY) FINANCING ACTIVITIES (267) 0 0
------- ------- -------
INCREASE (DECREASE) IN CASH $ 6 24 ($ 15)
======= ======= =======
See notes to condensed financial information
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SCHEDULE 2 -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
NOTES TO CONDENSED FINANCIAL INFORMATION
McM CORPORATION (PARENT COMPANY)
The accompanying condensed financial information should be read in conjunction
with the consolidated financial statements and notes thereto of McM Corporation
and Subsidiaries.
NOTE A -- Significant Accounting Policies
In the parent company financial statements, the Company's investments
in wholly-owned subsidiaries are stated at cost plus equity in undistributed
earnings of the subsidiaries. McM is actively engaged through certain of its
subsidiaries in the property and casualty insurance business.
NOTE B -- Administrative Charges
McM is compensated by its subsidiaries in the form of management fees
for providing management support, planning assistance, financial reporting and
investment services.
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SCHEDULE 3 - REINSURANCE
McM CORPORATION AND SUBSIDIARIES
Year Ended December 31, 1996, 1995, and 1994
Premiums Earned
---------------------------------------------
Percentage
Ceded to Assumed of Amount
Direct Other From Other Net Assumed
(Thousands of dollars) Amount Companies Parties Amount to Net
------ --------- ------- ------ ------
YEAR ENDED DECEMBER 31, 1996 $63,163 $21,714 $10,405 $51,854 20.07%
======= ======= ======= ======= =====
YEAR ENDED DECEMBER 31, 1995 $63,731 $23,901 $ 5,871 $45,701 12.85%
======= ======= ======= ======= =====
YEAR ENDED DECEMBER 31, 1994 $65,572 $25,720 $ 1,274 $41,126 3.10%
======= ======= ======= ======= =====
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SCHEDULE 4 - VALUATION AND QUALIFYING ACCOUNTS
McM CORPORATION AND SUBSIDIARIES
(Thousands of dollars)
ADDITIONS
------------------------
(1) (2)
Charged to Charged to
Balance at (Recovery of) Other Balance at
Beginning Costs and Accounts- Deductions- End
DESCRIPTION of Period Expenses Describe Describe of Period
--------- -------- -------- -------- ---------
YEAR ENDED DECEMBER 31, 1996
Deducted from asset account:
Allowance for uncollectible accounts $ 345 $ 30 $0 $ 0 $ 375
====== ===== == ==== ======
Included as liability account:
Allowance for bad debts on liquidated reinsurers $1,060 ($150) $0 $752(1) $ 158
====== ===== == ==== ======
YEAR ENDED DECEMBER 31, 1995
Deducted from asset account:
Allowance for uncollectible accounts $ 315 $ 30 $0 $ 0 $ 345
====== ===== == ==== ======
Included as liability account:
Allowance for bad debts on liquidated reinsurers $1,349 $ 103 $0 $392(1) $1,060
====== ===== == ==== ======
YEAR ENDED DECEMBER 31, 1994
Deducted from asset accounts:
Allowance for uncollectible accounts $ 412 ($ 97) $0 $ 0 $ 315
====== ===== == ==== ======
Included as liability account:
Allowance for bad debts on liquidated reinsurers $2,095 ($ 41) $0 $705(1) $1,349
====== ===== == ==== ======
(1) Write-off of paid recoverable balances for insolvent/liquidated reinsurers
against provision established.
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SCHEDULE 5 - SUPPLEMENTAL INSURANCE INFORMATION
PROPERTY/CASUALTY INSURANCE SUBSIDIARIES
YEAR ENDED DECEMBER 31, 1996, 1995 AND 1994
(Thousands of dollars)
RESERVES CLAIMS AND CLAIM
FOR ADJUSTMENT EXPENSES
UNPAID DISCOUNT INCURRED RELATED TO AMORTIZATION
DEFERRE CLAIMS IF ANY ------------------- OF DEFERRED PAID CLAIMS
POLICY AND CLAIM DEDUCTED (1) (2) POLICY AND CLAIM
ACQUISITION ADJUSTMENT IN UNEARNED EARNED INVESTMENT CURRENT PRIOR ACQUISITION ADJUSTMENT PREMIUMS
COSTS EXPENSES RESERVES PREMIUMS PREMIUMS INCOME YEAR YEAR COSTS EXPENSES WRITTEN
----------- ---------- --------- -------- -------- ---------- ------- ----- ----------- ----------- --------
YEAR ENDED DECEMBER 31:
Net of Reinsurance
- ------------------
1996 $3,992 $26,532 -- $13,857 $51,854 $3,151 $37,651 $1,559 $9,116 $42,675 $53,420
1995 3,343 29,997 -- 12,291 45,701 3,492 31,282 (248) 7,141 39,452 46,663
1994 3,235 38,415 -- 11,329 41,126 3,674 29,106 18 6,098 42,334 38,020
Gross of Reinsurance
- --------------------
1996 $3,992 $55,300 -- $17,925 $73,568 $3,151 $52,711 ($ 930) $9,116 $62,633 $74,259
1995 3,343 66,152 -- 17,234 69,602 3,492 45,395 660 7,141 71,403 72,025
1994 3,235 80,886 -- 14,811 66,846 3,674 46,262 (774) 6,098 64,981 65,547
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McM CORPORATION
ANNUAL REPORT TO SHAREHOLDERS
FOR THE YEAR ENDED
DECEMBER 31, 1996
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Corporate Mission and Profile
Mission
To market specialized insurance products within well defined
market areas at competitive prices and with exceptional service to
deliver better than average returns on investor capital.
Profile
McM Corporation is an insurance holding company headquartered in
Raleigh, North Carolina, which owns these major operating
subsidiary corporations:
Occidental Fire & Casualty Company of North Carolina
Raleigh, North Carolina
Wilshire Insurance Company
Raleigh, North Carolina
Contents
- --------------------------------------------------------------------------------
IFC Corporate Mission and Profile
Consolidated Financial Highlights
Common Stock
Report to Shareholders
Market Overview
Management's Discussion and Analysis of
Financial Condition and Results of Operations
Consolidated Balance Sheets
Consolidated Statements of Operations
Consolidated Statements of Shareholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Report of Independent Auditors
Summary of Quarterly Results of Operations
Officers and Directors
Corporate Information
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Selected Financial Data
- -----------------------------------------------------------------------------------------------------------------
McM CORPORATION AND SUBSIDIARIES 1996 1995 1994 1993 1992
- -----------------------------------------------------------------------------------------------------------------
(Thousands of dollars, except per share data)
Assets $112,870 $126,568 $137,665 $158,984 $187,006
Liabilities 91,215 103,328 117,258 139,262 167,500
Retained earnings 15,553 16,623 14,413 13,059 13,354
Shareholders' equity 21,655 23,240 20,407 19,722 19,506
Net premiums earned 51,854 45,701 41,126 51,043 53,889
Net investment income 3,159 3,497 3,684 5,298 6,564
Realized investment gains 40 123 122 1,797 666
Total revenue 55,698 49,571 45,304 58,293 61,291
(Loss) income from continuing operations (788) 2,210 1,354 (295) (3,764)
(Loss) income from discontinued operations 0 0 0 0 31
Net (loss) income (788) 2,210 1,354 (295) (3,733)
Per share data:
Shareholders' equity $ 4.63 $ 4.97 $ 4.37 $ 4.22 $ 4.17
(Loss) income from continuing operations $ (0.17) 0.47 0.29 (0.06) (0.81)
Net (loss) income $ (0.17) 0.47 0.29 (0.06) (0.80)
Cash dividends $ 0.06 0.00 0.00 0.00 0.00
Common Stock
- -------------------------------------------------------------------------------
McM Corporation Common Stock is traded on the national
over-the-counter securities market, under the NASDAQ symbol,
McMc.
The number of record shareholders of McM Corporation is 883 as
of December 31, 1996.
The table below sets forth by quarters, for the years 1996 and
1995, the range of the high and low bid prices of McM
Corporation's Common Stock as reported in The Wall Street
Journal. Dividends of $.02 per share were paid for the second,
third, and fourth quarters. See Management's Discussion and
Analysis and Note B to the consolidated financial statements
for information regarding restrictions on the ability of McM's
subsidiaries to transfer funds to McM and discussion regarding
nonpayment of dividends.
1996 1995
High Low High Low
------------------------------------------------------------------------------------
First Quarter $4 3/4 $3 1/2 $2 7/8 $2 1/2
Second Quarter 6 1/8 5 1/2 3 1/8 2 3/4
Third Quarter 5 7/8 5 1/4 3 1/2 2 3/4
Fourth Quarter 5 3/4 5 1/4 4 7/8 3 1/2
------------------------------------------------------------------------------------
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REPORT TO SHAREHOLDERS
McM Corporation's results for the year 1996 showed a loss of $788,000.
The loss experienced in the property and casualty operations is primarily
attributable to higher claims severity in the commercial automobile liability
line of business and increased claims frequency in other ongoing lines of
business throughout the year 1996. The level of claims severity experienced in
the fourth quarter of 1996 in the commercial automobile liability business was
the highest level experienced in this line of business in the past sixteen
quarters. We do not expect a continuation of this unusual level of severity.
The Company, after a thorough analysis of fourth quarter and 1996
results and related experience levels, strengthened overall loss reserves by
approximately $3.5 million. Although this action significantly impacted results
for the current year, we believe it was prudent and appropriate under the
circumstances and certainly positions the Company for improved results in the
future.
Consolidated revenues for the year 1996 were $55,698,000 compared to
$49,571,000 for the same period in 1995. This increase in consolidated revenues
reflects growth in the private passenger automobile line of business and
reduction in the premiums being ceded to the Company's reinsurers. The Company
continues to place its reinsurance with high quality and financially sound
reinsurers which specialize in commercial and private passenger automobile
coverages.
The gross investment income of the Company was $3,616,000 for the year
1996 compared to $3,971,000 for the year 1995. This decline of $355,000 in
investment income results from a decrease in invested assets. Consolidated
assets at December 31, 1996, totalled $112,870,000 compared to $126,568,000 at
December 31, 1995. The decrease in consolidated assets can be primarily
attributed to the continued settlement of claims related to the discontinued
lines of business and the acceleration of claims settlement for ongoing lines of
business. Consolidated liabilities at December 31, 1996, totalled $91,215,000
compared to $103,328,000 for the year 1995. This $12.1 million decline in
liabilities of the Company reflects the settlement of claims on the discontinued
business and the acceleration of claims payments.
As set forth in previous reports to Shareholders, the McMillen Trust,
which owns 66% of the outstanding stock of McM Corporation, filed a petition on
behalf of the Trust's beneficiaries in the Chancery Court of Delaware on
December 2, 1986, seeking relief from the requirement of the Trust that the
Trust own at least 65% of the shares of McM Corporation. The Court, on December
10, 1987, decided that the Trust
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must divest itself of its ownership of the shares of McM Corporation and
invest the proceeds in a diversified portfolio for the benefit of present and
future beneficiaries of the Trust. In April 1993, the Court granted the
petition of the Wilmington Trust Company, Trustee of the McMillen Trust, for a
clarification of existing orders to make clear, among other things, that the
timing and terms of any such disposition or sale of the Trust's shares shall be
determined in the sound discretion of the Trustee.
McM Corporation on February 4, 1997, announced that the Trustee of the
McMillen Trust, then holder of 65.9% of the stock of McM Corporation, had
informed the Company that the Trustee had granted to McM Acquisition
Corporation an option to purchase all of the Trust's shares at $6.20 per share,
such option to expire March 1, 1998. The announcement further stated that McM
Acquisition Corporation was controlled by a private investor and real estate
developer, Mr. M. Roland Britt, who has filed a Form 13D with the Securities
and Exchange Commission which shows that the possible purchase of the Trust's
shares is subject to the ability of McM Acquisition Corporation to obtain the
necessary financing as well as North Carolina Department of Insurance and other
regulatory approvals. The announcement included the statement that McM
Corporation is not a party to the option agreement and cannot predict whether
McM Acquisition Corporation will exercise its option or would be able to obtain
the required approvals and financial arrangements.
McM Corporation further announced on February 4, 1997, that in a
separate, independent action, the Company had already agreed to provide McM
Acquisition Corporation confidential access to the Company records and
information to enable McM Acquisition Corporation to conduct due diligence
reviews and to pursue appropriate financial arrangements for a possible
acquisition of all of McM Corporation's shares, such agreement to expire May 31,
1997. The announcement further stated that McM Corporation had granted McM
Acquisition Corporation an exclusive period during which McM will continue its
policy of not soliciting acquisition offers.
As reported to you in previous reports the McM Board of Directors has
discontinued its efforts to sell the remaining companies in the McM Group of
Companies. The Board has also continued the services of PaineWebber, Inc. in the
role of financial advisor to the McM Group of Companies. Management continues to
believe that the progress made thus far has placed the property and casualty
companies in a position to grow profitably in spite of the current highly
competitive market atmosphere and the loss in 1996.
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The discontinuance of the sale process has allowed management to
concentrate its focus on increasing shareholder value. All aspects of the
property and casualty coverages written by the Companies are continually being
evaluated in order to appropriately react to the rapidly changing marketplace.
This continuing evaluation enables management to more timely move its operating
systems to advanced and leading edge technologies thereby providing competitive
products and services to our policyholders and agents.
The investment portfolios of Occidental Fire & Casualty Company and
Wilshire continue to be comprised almost entirely of high quality government
securities. These conservative investments generally produce lower investment
yields. However, the liquidity provided in these conservative portfolios ensures
that policyholders' claims are paid in a timely manner. The McM Group has no
investments in real estate. The stock of Wilshire Insurance Company, the wholly
owned subsidiary of Occidental Fire, is the only stock investment in the
investment portfolios of the insurance companies.
As reported in previous annual reports to you, insurance regulators and
other non-governmental insurance rating entities continue their intensive
oversight of an insurance company's financial health and operating activities.
This is exemplified by the adoption and implementation of Risk-Based Capital
standards for all property and casualty insurance companies by the National
Association of Insurance Commissioners in 1994. McM's property and casualty
insurance subsidiaries' capital positions and other indicators of financial
solvency continue to be well in excess of any regulatory action thresholds
defined in the Risk-Based Capital framework.
The Board of Directors, on a quarterly basis, carefully reviews the
financial position of the Company to determine the advisability of the payment
of a cash dividend to shareholders. During the year 1996 McM declared and paid
three quarterly dividends of $.02 per share to its shareholders. However, in
light of McM's results for the fourth quarter of 1996 and after careful
consideration of all other relevant factors, the Board of Directors decided to
forgo a quarterly dividend payable in the first quarter of 1997. The Board of
Directors will continue to evaluate all relevant factors in the determination of
future dividend payments.
In summary, we are very disappointed with the overall results for the
year 1996. The level of claims severity and claims frequency has been thoroughly
reviewed. Management is now satisfied that these unusual claims patterns
constitute an aberration
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and that the property and casualty companies' existing underwriting practices
and claims procedures are performing properly. Also, after an analysis of
fourth quarter and 1996 results and current reserve levels, it was deemed
prudent to strengthen overall loss reserves by approximately $3.5 million. We
are confident that the actions taken will ensure the continuation of the
positive trends that have emerged over the last several years in the Company
and will result in overall profitability in 1997. Management continues to
believe that, in spite of the results for the year 1996 and the limited capital
position, the McM Group of Companies is well positioned to continue improving
the financial position and profitability of the Company and enhancing
shareholder value.
George E. King
Chief Executive Officer and Chairman
Stephen L. Stephano
President and Chief Operating Officer
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Market Overview
McM Corporation provides its property and casualty products and
services through two North Carolina subsidiaries, Occidental Fire & Casualty
Company of North Carolina and Wilshire Insurance Company.
Currently the focus of these companies is transportation insurance.
Both Wilshire and Occidental provide a competitive market to the trucking
industry for local, intermediate and long haul coverages. Occidental also writes
nonstandard private passenger auto coverages in select geographical areas.
Occidental Fire & Casualty Company of North Carolina actively markets
local, intermediate and long haul coverages in seventeen states utilizing
fourteen managing general agents. Non-standard auto coverages are marketed
through Occidental's branch office located in Scottsdale, Arizona, and one
managing general agent. The majority of the commercial auto premium volume is
produced through the Company's annual bill program.
The insureds of the Wilshire Insurance Company are served by the
Marketing and Service Center located in Lancaster, California, and four
managing general agents supervised by the home office. The California marketing
unit deals directly with selected local retail agents in the West Coast truck
marketplace utilizing a specialized monthly direct bill policy. The managing
general agents market intermediate and long haul coverages through an annual
bill program.
The home office located in Raleigh, North Carolina, provides general
management for both Occidental Fire & Casualty and Wilshire Insurance Company
operations including the corporate staff for claims, accounting, legal, data
processing, human resources and investment functions. Also located in the home
office are the marketing, underwriting and service functions for all commercial
automobile business written through managing general agents.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
McM Corporation and Subsidiaries
REVIEW OF OPERATIONS
McM Corporation reported a consolidated net loss for 1996 of $788,000
or $.17 per share compared to net income of $2,210,000 or $.47 per share for
1995 and net income of $1,354,000 or $.29 per share for 1994. Consolidated
results for 1996 were significantly affected by an unusually high level of
claims severity, particularly during the fourth quarter, in the property and
casualty operation's commercial automobile liability line of business.
Consolidated results were also affected by increased frequency in its other
insurance coverages throughout 1996. The Company, as a result of this
unfavorable underwriting experience, strengthened overall reserves by
approximately $3.5 million at year end 1996.
Consolidated results for 1995 and 1994 showed a trend of improving loss
ratios and overall underwriting results when compared to previous years.
Consolidated results for 1994 were favorably impacted by the reduction of
administrative expenses related to a legal action against McM in connection with
the final disposition of its life insurance operations in 1991, in which action
McM was ultimately successful.
Consolidated revenues increased approximately 12.4% in 1996 compared to
1995 following an increase of 9.4% in 1995 when compared to 1994. This trend of
increasing revenues reversed the declines experienced in 1994 and 1993 and
reflects the Company's ongoing commitment to continued moderate growth in
property & casualty insurance premiums. Consolidated revenues showed decreases
of approximately 22.3% and 4.9% in 1994 and 1993, respectively.
Net earned property and casualty insurance premiums for 1996 were $51.9
million compared to $45.7 million in 1995 and $41.1 million in 1994. As
mentioned above, this trend in increasing net premium revenue reflects
management's commitment to moderate premium growth in the insurance coverages it
offers. Gross written premium in the Company's commercial auto lines of
business, which comprised approximately 79.9% of gross written premiums in 1996,
showed a slight decrease of approximately 1.4% to $59.3 million when compared to
1995. Gross production of the Company's private passenger auto coverages in
1996, comprising 20.1% of gross written premiums in 1996, showed an increase of
26.1% to $14.9 million when compared to 1995. The decrease in commercial auto
premiums during 1996 reflects market conditions which have become increasingly
more competitive and price sensitive. The growth in private passenger auto
premiums over the last two years shows the Company's commitment to diversify its
premium portfolio. The overall
37
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increases in premium writings seen in 1995 and 1996 follows self induced
reductions in 1994 and 1993. During 1994 and 1993 the Company eliminated
unprofitable business in targeted markets and took measures to improve the
performance of its agency force including terminating relations with three
managing general agents who had been producing unprofitable commercial
automobile business. During this period the Company also established mechanisms
to help control future premium growth.
To help control premium growth, management increased the level of
premiums ceded to the Company's reinsurers by entering into quota share
reinsurance arrangements for its commercial auto liability and private passenger
automobile coverages. In 1996, the Company maintained a 30% quota share
reinsurance arrangement on its private passenger business (reduced from 40% in
1995) and a 5% quota share arrangement, which was reduced in 1995 from 10% in
1994, on its commercial automobile liability business retained after excess of
loss reinsurance coverage. The level of quota share participation necessary to
help control premium growth is reviewed annually by management.
The reduction in total revenues in 1994 mentioned above was also
impacted by a $1.6 million decline in net investment income, excluding realized
investment gains. The decline in net investment income for 1994 was attributed
to an overall reduction of $16.0 million or 19.3% in invested balances. Net
investment income showed moderate decreases of $338,000 and $187,000 in 1996 and
1995, respectively. Invested balances decreased $6.1 million or 9.7% in 1996
when compared to 1995. Realized investment gains of $40,000 are included in 1996
revenues compared to $123,000 in 1995 and $122,000 in 1994.
Prior to 1989, property and casualty insurance writings focused on
liability, cargo and physical damage coverages associated with the
transportation market with a primary emphasis on commercial trucking insurance.
To diversify its premium distribution, Occidental Fire & Casualty entered the
nonstandard personal auto market in 1989. The Company's plan for premium
diversification has continued as the proportionate share of private passenger
auto business increased to approximately 20.1% of gross written property and
casualty premium in 1996 compared to 16.5% and 11.0% in 1995 and 1994,
respectively. During 1994 and 1993, management re-engineered the underwriting
controls for this portion of the Company's business. This re-engineering effort
contributed to a decrease in private passenger written premiums in 1994 as
management kept production at minimum levels while new rates, underwriting
guidelines and personnel with extensive experience in the complexities of this
market were integrated into this book of business.
Over the last several years the Company also placed a heavy emphasis
on improving the profitability of the Company's commercial
38
20
truck business. In 1994 and 1995 management implemented strategies to help
reduce overall loss ratios and improve the product mix within this portion of
the Company's business. Underwriting results for cargo (inland marine) and auto
physical damage coverages have been historically more profitable than
commercial auto liability coverages because claim costs for property coverages
are easier to determine and claims are settled more rapidly. Commercial auto
written premiums comprised 79.9% of gross written property & casualty premium
in 1996 compared to 83.5% and 89.0% in 1995 and 1994, respectively. The
percentage of cargo and commercial auto physical damage premiums to total
commercial auto premiums increased to 29.9% in 1996 compared to 26.6% and 23.3%
in 1995 and 1994, respectively.
Net investment income included in consolidated revenues was $3.2
million in 1996, $3.5 million in 1995 and $3.7 million in 1994. The decline in
investment income is primarily the result of reductions in invested asset
balances and overall lower investment yields. The decrease in invested balances
is attributed to the continued settlement of claims related to discontinued
lines of business and the acceleration of claims settlement relating to ongoing
lines of business. Overall, liabilities decreased 11.7% or $12.1 million during
1996 when compared to 1995 and have been reduced by $26.0 million since 1994.
As mentioned previously, realized investment gains have not materially
changed over the last three years. These gains totalled $40,000, $123,000 and
$122,000 for 1996, 1995 and 1994, respectively. At December 31, 1996, the
market value of the total long-term fixed income portfolio was $19,000 less than
amortized cost and $84,000 greater than its carrying value. The unrealized gain
of $84,000 relates to those investments the Company intends to hold to
maturity. The full value of these securities will be realized as they mature
(see Note F to the consolidated financial statements). At December 31, 1995,
the market value of the fixed income portfolio was $664,000 greater than its
amortized cost and $199,000 greater than its carrying value.
The overall ratio of net loss and settlement expenses to net premiums
earned was 75.6% for 1996 compared to 67.9% for 1995 and 70.8% for 1994. As
mentioned previously, the Company experienced an unusually high level of claims
severity, mostly in the fourth quarter of 1996, in the property and casualty
operation's commercial automobile liability line of business. In addition,
property and casualty operations experienced increased frequency in its other
lines of business including private passenger auto liability and commercial and
private passenger auto physical damage coverages throughout 1996. These factors
resulted in the strengthening of overall reserves for the 1996 accident year by
approximately $3.5 million, net of reinsurance, at December 31, 1996. This
reserve strengthening included $1.2 million for commercial auto liability, $1.5
million for commercial auto
39
21
physical damage and approximately $800,000 for private passenger auto
coverages. Upon underwriting reviews of individual policy and claim files,
management firmly believes its underwriting practices are solid and does not
anticipate the continuation of the claims severity experienced in commercial
automobile liability.
Net losses and settlement expenses incurred in 1996 also includes adverse
development of approximately $1.6 million on reserves of prior accident years.
This development includes adverse reserve development of approximately $572,000
in private passenger auto liability reserves, $1.2 million in private passenger
and commercial physical damage and inland marine reserves and $613,000 related
to discontinued lines of business $382,000 of which relates to workers
compensation reserves. This adverse development, which totals $2.4 million, was
partially offset by favorable reserve development of $800,000 in the commercial
auto liability line of business.
The ratio of net loss and settlement expenses to net premiums earned for
1995 and 1994 reflected improved underwriting results and favorable or minimal
adverse development on reserves of prior accident years.
The Company's ratio of underwriting, acquisition and administrative
expenses to net earned premium ("expense ratio") continued to reflect the
declining trend seen over the last three years. Increased production levels
discussed previously, coupled with budgetary control and reduction measures
emphasized by management, have contributed to this declining trend. The expense
ratio for 1996 declined 2.4 percentage points to 33.3% when compared to the
expense ratio of 1995. The expense ratios for 1995 and 1994 were 35.7% and
36.1%, respectively.
As discussed previously, the Company maintained a 30% quota share
reinsurance treaty on its private passenger auto business in 1996. This
reinsurance treaty was entered into in 1993 to help reduce the Company's
statutory net writings to surplus ratio and to help control future premium
growth in that market. This treaty was subsequently reduced by 10% in 1996 from
a 40% cession rate to the current 30% rate. A portion of the Company's
retained commercial auto liability business was originally included in this
treaty but was eliminated in 1996. The Company also maintained a 5% quota share
reinsurance treaty on its net retained commercial auto liability business in
1996 and 1995 (10% for 1994). Management annually evaluates the necessity and
levels of these quota share arrangements and makes adjustments when
appropriate.
The Company utilizes a reinsurance intermediary with which it has a
long term relationship to assist in the development, placement and maintenance
of the Company's reinsurance program. The Company's current reinsurance program
has been placed with high quality and financially sound reinsurers specializing
in personal
40
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and commercial auto business. The creditworthiness of the Company's reinsurers
are continually reviewed by management and the intermediary. The majority of
the Company's reinsurance is placed through the London reinsurance market.
Participating reinsurers are generally very large international reinsurers
with capital and surplus in excess of $100 million and hold ISI or S&P ratings
of BBB or better. Participating Lloyds syndicates are well regarded syndicates
which have been approved by the National Association of Insurance Commissioners
("NAIC"). The Company's U.S. reinsurers are all rated A- or higher by A.M.
Best. For those reinsurers not admitted by the Company's state of domicile,
collateral is secured for the exposure ceded to them in the form of letters of
credit or other reinsurer funds held by the Company. This collateral would
minimize the impact of a potential reinsurer insolvency on the Company's
operations. A schedule of the Company's reinsurers whose balances are
approximately 10% of McM's shareholders' equity or greater is provided below:
Ceded
Reinsurer Balances Receivable
--------- -------------------
(Thousands of dollars)
Lloyds of London $ 9,247
CNA International 4,780
Unionamerica 4,676
Zurich Re 3,481
AXA Reassurance 2,836
All other 11,558
-------
Total $36,578
The allowance for bad debts on liquidated reinsurers relating to
discontinued property and casualty programs was decreased by $150,000 in 1996,
increased by $103,000 in 1995 and decreased by $41,000 in 1994. Other than a
$2.5 million litigation settlement in 1993, overall exposure to losses
associated with discontinued property and casualty business has decreased
significantly over the last several years and has not had a material impact on
operations since 1990.
In the second quarter of 1995, the Company resolved a long standing
uncertainty concerning Proposition 103 by settling this issue with the
California Department of Insurance. The Company fully recognized this settlement
and its related cost in 1995 by including in consolidated results a $500,000
reduction of earned premiums attributable to this settlement. Offsetting this
charge and also included in results for 1995 is a $539,000 favorable arbitration
settlement related to discontinued property and casualty programs.
Amortization of deferred policy acquisition costs from continuing
operations was $9.1 million in 1996, compared to $7.1 million in 1995 and $6.1
million in 1994. Direct and assumed premiums written increased by $2.2 million
in 1996 and $6.5 million
41
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in 1995, resulting in an increase in the related amortization of deferred
policy acquisition costs. Conversely, a reduction in direct and assumed premium
written of $7.2 million in 1994 resulted in a decrease in the related deferral
and amortization of policy acquisition costs.
INCOME TAXES
McM Corporation files a consolidated tax return. The Company had
cumulative net operating loss tax carryforwards of approximately $88.0 million
as of December 31, 1996 (see Note D to the consolidated financial statements).
Subject to certain limitations and alternative minimum tax considerations,
future operations can earn up to the amount of these loss carryforwards without
being subject to federal income taxation.
LIQUIDITY AND CAPITAL RESOURCES
By statute, the majority of the Company's investments are required to
be held in investment grade securities which provide ample protection for both
the policyholder and the shareholder. Significant amounts of short-term
investments are held to meet the liquidity needs of the property and casualty
insurance operations.
As shown in the Consolidated Statements of Cash Flows, the Company
experienced negative cash flows from operations on a consolidated basis of $4.4
million in 1996 compared to $4.0 million in 1995 and $14.6 million in 1994. The
main source of the Company's cash flows is derived from its property and
casualty subsidiaries.
The Company's property and casualty subsidiaries experienced
consolidated negative cash flows of $683,000, $2.7 million and $19.2 million in
1996, 1995 and 1994, respectively. The negative cash flows for the property and
casualty operations can be primarily attributed to the settlement of claim
liabilities, including settlements on discontinued run-off business and the
decreased premium production levels, a primary source of long and short-term
liquidity, in 1994 and 1993. The reduction in written premiums during 1994 and
1993 was a result of management's successful strategy to reduce premium writings
in unprofitable markets and to reduce the Company's net writings to surplus
ratio. As previously mentioned, the property and casualty companies have
experienced moderate growth in premium writings in each of the last two years.
Management expects this increasing trend to continue in 1997, which trend should
provide further improvement in the property and casualty operations cashflows.
Liabilities for losses and loss settlement expenses and policyholder liabilities
decreased $10.8 million in 1996, $12.5 million in 1995 and $19.7 million in
1994.
Short-term investment balances remained relatively stable during 1996,
declining $700,000 to $14.1 million at December 31, 1996,
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24
compared to $14.8 million at December 31, 1995. As mentioned above, the Company
maintains fairly significant levels of short-term investments to meet its
liquidity needs. Total consolidated cash and invested assets at December 31,
1996, were approximately $58.6 million compared to $64.6 million at the end of
1995. The decline in cash and invested assets during 1996 is primarily
attributed to maturities of long-term investments which were absorbed by
operations as discussed above. Management believes the current level of cash
and short-term balances, as well as anticipated sources of cash in 1997, are
more than adequate to meet projected expenditures during the next year and that
the long-term investment portfolio is structured to meet the Company's
long-term liquidity needs.
At December 31, 1995, securities with an amortized cost of $25.8
million previously classified as held-to-maturity were transferred to the
available-for-sale portfolio. As a result of this transfer, unrealized gains of
$298,000 were recognized in the unrealized appreciation component of
shareholders' equity. This transfer was made to provide the Company greater
flexibility in managing its portfolio and was done in accordance with the
implementation guidance issued in November 1995 by the staff of the Financial
Accounting Standards Board.
Of the total cash and invested assets at December 31, 1996,
approximately 62.9% or $36.9 million were comprised of fixed maturities
available-for-sale and 10.1% or $5.9 million were classified as securities
held-to-maturity. Cash and short-term investments totalling $15.8 million
comprised the remaining 27.0% of the investment portfolio. At December 31, 1995,
approximately 49.4% or $31.9 million of cash and invested assets were comprised
of fixed maturities available-for-sale, 25.1% or $16.2 million were recorded as
securities held-to-maturity and 25.5% or $16.5 million represented cash and
short-term investments. The fixed maturity portfolio has a range of expected
maturities which, as mentioned previously, management believes are adequate to
meet long-term liquidity needs. The total market value of fixed maturity
investments was $42.9 million and $48.3 million at December 31, 1996, and 1995,
respectively. These market values were comprised fixed maturities
available-for-sale totalling $36.9 million and $31.9 million and Fixed
maturities held-to-maturity totalling $5.9 million and $16.4 million at
December 31, 1996 and 1995, respectively
Statutory capital positions of the property and casualty insurance
companies are closely monitored by the Company. In addition, the NAIC adopted
Risk-Based Capital ("RBC") requirements for property and casualty insurance
companies in December 1993 to be applied to annual statutory financial
statements beginning December 31, 1994. Annual statutory financial statements
are filed with state insurance regulators on or before March 1 following each
year's end.
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RBC was developed to evaluate the adequacy of statutory capital and
surplus in relation to investment and insurance risks such as asset quality,
asset and liability matching, loss reserve adequacy and other business
environmental factors. The RBC formula is used by state insurance regulators as
an early warning tool to identify, for the purpose of initiating regulatory
action, insurance companies that potentially are inadequately capitalized.
Regulatory compliance is determined by a ratio of the enterprise's regulatory
total adjusted capital, as defined by the NAIC, to its authorized control level
RBC, as defined by the NAIC. Enterprises below specific ratios are classified
within certain levels, each of which requires specific corrective action. The
ratios of total adjusted capital to authorized control level RBC for McM's
property and casualty insurance subsidiaries are in excess of any regulatory
action thresholds defined by the NAIC.
Combined statutory capital and surplus of the property and casualty
subsidiaries decreased $916,000 to $18.2 million at December 31, 1996, compared
to $19.2 million at December 31, 1995.
As previously reported, the Administrative Consent Order agreed to by
the Company and the Commissioner of the North Carolina Department of Insurance
on May 24, 1993, was vacated by the Commissioner in June 1994 upon management's
satisfactory compliance to the terms of the Consent Order. The Consent Order
directly concerned the property & casualty operations' net premium writings to
surplus ratio.
At December 31, 1996, consolidated shareholders' equity was $21.7
million, a decrease of 6.8% when compared to $23.2 million at December 31, 1995.
The Company's main source of funds from which dividends are paid to its
shareholders is its insurance subsidiaries which are subject to certain
restrictions as to the amount of dividends that can be paid in a given year.
These restrictions are discussed in Note B to the consolidated financial
statements. During 1996 the Company paid three quarterly dividends of $.02 per
share. Upon careful consideration of all relevant factors, including the net
loss reported in the fourth quarter of 1996, McM's Board of Directors decided to
forego a quarterly dividend payable im the first quarter of 1997. The Board of
Directors will continue to carefully consider all relevant factors in
determining the payment of dividends in the future.
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26
Consolidated Balance Sheets
- -------------------------------------------------------------------------------------------------------------------------
December 31
McM CORPORATION AND SUBSIDIARIES 1996 1995
- -------------------------------------------------------------------------------------------------------------------------
(Thousands of dollars)
ASSETS
Invested assets:
Fixed maturity securities available-for-sale, at fair value (cost: 1996 - $36,938;
1995 - $31,477) $ 36,873 $ 31,942
Fixed maturity securities held-to-maturity, at amortized cost (fair value: 1996 - $6,022;
1995 - $16,429) 5,938 16,230
Short-term investments 14,061 14,848
- -------------------------------------------------------------------------------------------------------------------------
56,872 63,020
Cash 1,776 1,637
Accrued investment income 803 840
Premiums receivable 9,380 9,935
Reinsurance balances recoverable on:
Paid losses and settlement expenses 3,676 3,461
Unpaid losses and settlement expenses 28,768 36,155
Unearned premiums 4,068 4,943
Deferred policy acquisition costs 3,992 3,343
Equipment, at cost less accumulated depreciation (1996 - $1,699; 1995 - $1,437) 1,331 1,105
Other assets 2,204 2,129
- -------------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $112,870 $126,568
=========================================================================================================================
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Reserves for losses and settlement expenses $ 55,300 $ 66,152
Unearned premiums 17,925 17,234
Other policyholder funds 6,580 7,247
Amounts payable to reinsurers 3,089 5,008
Accrued expenses and other liabilities 8,321 7,687
- -------------------------------------------------------------------------------------------------------------------------
91,215 103,328
Commitments and contingencies - Notes A, B, C and H
Shareholders' equity:
Common Stock, par value $1 per share - authorized 10,000,000 shares,
issued and outstanding: 1996 - 4,678,183; 1995 - 4,675,038 4,678 4,675
Additional paid-in capital 1,489 1,477
Unrealized (loss) gain on securities available-for-sale (65) 465
Retained earnings 15,553 16,623
- -------------------------------------------------------------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY 21,655 23,240
- -------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $112,870 $126,568
=========================================================================================================================
See notes to consolidated financial statements.
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Consolidated Statements of Operations
- --------------------------------------------------------------------------------------------------------------------
Year Ended December 31
McM CORPORATION AND SUBSIDIARIES 1996 1995 1994
- --------------------------------------------------------------------------------------------------------------------
(Thousands of dollars, except per share data)
Revenues
Premiums earned $ 73,568 $ 69,602 $ 66,846
Premiums ceded (21,714) (23,901) (25,720)
------------------------------------
Net premiums earned 51,854 45,701 41,126
Investment income, less investment expense (1996 - $457; 1995 - $474;
1994 - $459) 3,159 3,497 3,684
Realized investment gains 40 123 122
Other income 645 250 372
- ------------------------------------------------------------------------------------------------------------------
TOTAL REVENUES 55,698 49,571 45,304
Losses and Expenses
Losses and settlement expenses 51,781 46,055 45,488
Losses and settlement expenses ceded (12,571) (15,021) (16,364)
------------------------------------
Net losses and settlement expenses 39,210 31,034 29,124
Underwriting, acquisition and administrative expenses 17,426 16,224 14,867
(Recoveries of) provision for bad debts on liquidated reinsurers (150) 103 (41)
- ------------------------------------------------------------------------------------------------------------------
TOTAL LOSSES AND EXPENSES 56,486 47,361 43,950
- ------------------------------------------------------------------------------------------------------------------
NET (LOSS) INCOME ($ 788) $ 2,210 $ 1,354
==================================================================================================================
Per Share Data
Net (loss) income per share ($ 0.17) $ 0.47 $ 0.29
==================================================================================================================
See notes to consolidated financial statements.
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Consolidated Statements of Shareholders' Equity
- ------------------------------------------------------------------------------------------------------------------------
Net
Additional Unrealized
McM CORPORATION Common Paid-in Investment Retained
AND SUBSIDIARIES Stock Capital Gain (Loss) Earnings
- ------------------------------------------------------------------------------------------------------------------------
(Thousands of dollars)
BALANCES AT JANUARY 1, 1994 $ 4,675 $1,477 $ 511 $13,059
Net income for 1994 1,354
Change in net unrealized loss or gain on securities available-for-sale (669)
- ---------------------------------------------------------------------------------------------------------------------
BALANCES AT DECEMBER 31, 1994 4,675 1,477 (158) 14,413
Net income for 1995 2,210
Change in net unrealized loss or gain on securities available-for-sale 623
- ---------------------------------------------------------------------------------------------------------------------
BALANCES AT DECEMBER 31, 1995 4,675 1,477 465 16,623
Net loss for 1996 (788)
Change in net unrealized loss or gain on securities available-for-sale (530)
Employee stock purchases 3 12
Dividends declared and paid (282)
- ---------------------------------------------------------------------------------------------------------------------
BALANCES AT DECEMBER 31, 1996 $ 4,678 $1,489 ($ 65) $15,553
=====================================================================================================================
See notes to consolidated financial statements.
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Consolidated Statements of Cash Flows
- -------------------------------------------------------------------------------------------------------------------------------
Year Ended December 31
McM CORPORATION AND SUBSIDIARIES 1996 1995 1994
- -------------------------------------------------------------------------------------------------------------------------------
(Thousands of dollars)
Operating Activities
Net (loss) income ($ 788) $ 2,210 $ 1,354
Adjustments to reconcile net (loss) income to net cash used by operating activities:
Policy liabilities (10,828) (12,461) (19,706)
Premiums receivable 555 (1,143) (244)
Accrued investment income 37 176 (251)
Net recoverable from reinsurers 6,128 6,625 3,342
Amortization of deferred policy acquisition costs 9,116 7,141 6,098
Policy acquisition costs deferred (9,765) (7,249) (5,801)
Other 1,150 673 590
- ------------------------------------------------------------------------------------------------------------------------------
CASH USED BY OPERATING ACTIVITIES (4,395) (4,028) (14,618)
Investing Activities
Fixed maturity securities available-for-sale:
Purchases (18,447) (109) (3,824)
Sales 0 3,377 3,372
Maturities 12,974 1,408 3,306
Fixed maturity securities held-to-maturity:
Purchases (1,118) (2,984) (10,107)
Maturities 11,362 120 3,095
Purchases of property and equipment, net (757) (474) (142)
Change in short-term investments 787 2,830 19,397
- ------------------------------------------------------------------------------------------------------------------------------
CASH PROVIDED BY INVESTING ACTIVITIES 4,801 4,168 15,097
- ------------------------------------------------------------------------------------------------------------------------------
Financing Activities
Employee stock purchases 15 0 0
Cash dividends paid (282) 0 0
- ------------------------------------------------------------------------------------------------------------------------------
CASH USED BY FINANCING ACTIVITIES (267) 0 0
- ------------------------------------------------------------------------------------------------------------------------------
NET INCREASE IN CASH $ 139 $ 140 $ 479
==============================================================================================================================
See notes to consolidated financial statements.
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Notes to Consolidated Financial Statements
McM Corporation and Subsidiaries
NOTE A Significant Accounting Policies
Basis of Presentation: The consolidated financial statements have been prepared
in accordance with generally accepted accounting principles (GAAP) which, as to
the insurance subsidiaries, vary in some respects from statutory accounting
practices which are prescribed or permitted by the various state insurance
departments.
The consolidated financial statements include the accounts and
operations of McM and its wholly-owned subsidiaries. McM is actively engaged
through certain of its subsidiaries in the property and casualty insurance
business. All significant intercompany accounts and transactions have been
eliminated. The Company's subsidiaries are as follows:
Subsidiary Abbreviation
- --------------------------------------------------------------------------------
Property and Casualty:
Occidental Fire & Casualty Company of North Carolina OF&C
Wilshire Insurance Company Wilshire
Other:
Equity Holdings, Inc. Equity
- --------------------------------------------------------------------------------
The property and casualty insurance subsidiaries are primarily involved
in the sale of commercial automobile and private passenger automobile insurance.
The commercial automobile insurance consists primarily of liability, physical
damage and inland marine coverages. The commercial automobile lines of business
represented 80%, 84%, and 89% of gross written premium in 1996, 1995 and 1994,
respectively. Private passenger automobile insurance, which represents the
remainder of gross written premiums, consists primarily of liability and
physical damage coverages. The Company's products are generally marketed through
general and independent agents. In 1996, premiums were written in 27 states
throughout the U.S. Direct premiums written in California, all of which were for
commercial automobile insurance products, represented 34%, 37% and 40% of total
direct written premiums in 1996, 1995 and 1994, respectively.
Investments: Fixed maturity securities are classified as either held-to-maturity
or available-for-sale. Management determines the appropriate classification of
fixed maturity securities at the time of purchase and reevaluates such
designation as of each balance sheet date. The Company has identified and
accounted for its investments as follows:
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Securities held-to-maturity and available-for-sale: Debt securities are
classified as held-to-maturity when the Company has the positive intent and
ability to hold the securities to maturity. Held-to-maturity securities are
stated at amortized cost. Securities not classified as held-to-maturity are
classified as available-for-sale. Available-for-sale securities are stated at
fair value, with the unrealized gains and losses reported as a separate
component of shareholders' equity. The amortized cost of securities classified
as held-to-maturity or available-for-sale is adjusted for amortization of
premiums and accretion of discounts to maturity, or in the case of
mortgage-backed securities, over the estimated life of the security. Such
amortization is included in investment income. Realized gains and losses include
any declines in value judged to be other-than-temporary. The cost of securities
sold is based on the specific identification method. Short-term investments are
comprised of corporate master notes and United States Treasury Notes and Bills
maturing in twelve months or less. These investments are carried at fair value.
The Company had fixed maturity securities with a face value of
approximately $11.8 million and $16.1 million on deposit with various state
insurance departments at December 31, 1996, and 1995, respectively. The Company
also had $3.4 million in short-term investments held in a security trust as
collateral for assumed reinsurance balances at December 31, 1996 and 1995.
Cash: Cash represents cash balances deposited in banking institutions. Balances
invested in corporate master notes and other interest bearing cash equivalents
are included in short-term investments.
Equipment: Equipment is stated at cost less allowances for accumulated
depreciation which are computed principally on the straight-line method.
Recognition of Insurance Revenues: Premiums for property and casualty insurance
policies are recognized as revenues on a monthly pro rata basis over the terms
of the policies.
The Company utilizes a general agency force to market its annual
commercial automobile business and a portion of its private passenger automobile
business. As of December 31, 1996, agents' balances receivable of approximately
$3.9 million were associated with three general agents.
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Deferred Policy Acquisition Costs: Costs which vary with and are primarily
related to the production of property and casualty policies are deferred to the
extent recoverable and are amortized over the lives of the policies in
proportion to the recognition of premiums earned. Anticipated investment income
is considered in the evaluation of recoverability of unamortized deferred
acquisition costs.
Reserves for Losses and Settlement Expenses: Reserves for estimated losses are
determined on a case basis for reported claims and on estimates based on Company
experience for loss settlement expenses and incurred but not reported claims.
These liabilities give effect to trends in claims severity and other factors
which may vary as the losses are ultimately settled. Although considerable
variability is inherent in such estimates for losses and loss settlement
expenses, management believes that these liabilities are adequate. The estimates
are continually reviewed and, as adjustments to these liabilities become
necessary, such adjustments are reflected in current operations.
The reserves for losses include amounts assumed from involuntary pools
and other residual market mechanisms of the various states in which the
Companies have written policies. The estimated liability for the assumed pools
is recorded based on information provided to the Company by the pools.
Reinsurance: McM assumes and cedes reinsurance and participates in various pools
and associations. The reinsurance arrangements allow management to control
exposure to potential losses arising from large risks, and provide additional
capacity for growth. The reinsurance is effected under quota-share contracts and
by excess-of-loss contracts. Amounts recoverable from reinsurers for unpaid
losses and settlement expenses are estimated in a manner consistent with the
related liabilities associated with reinsured policies.
Income Taxes: The Company accounts for income taxes using the liability method.
Deferred tax assets, net of a valuation allowance, and liabilities are
recognized for the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are measured
using enacted tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date.
Leases: The Company and its subsidiaries rent office space and
equipment under various operating lease agreements. The
51
33
aggregate rental expense charged to operations was approximately $802,000 in
1996, $737,000 in 1995, and $658,000 in 1994. Future minimum lease commitments
require payments of approximately $642,000 in 1997 and $426,000 in 1998.
Use of Estimates: The preparation of financial statements requires management to
make estimates and assumptions that affect amounts reported in the financial
statements and accompanying notes. Such estimates and assumptions could change
in the future as more information becomes known which could impact the amounts
reported and disclosed herein.
New Accounting Standards: The Financial Accounting Standards Board ("FASB")
previously issued Statement of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed Of" ("SFAS 121"). SFAS 121 requires impairment losses to be recorded
on long-lived assets used in operations when indicators of impairment are
present and the undiscounted cash flows estimated to be generated by those
assets are less than the assets' carrying amount. SFAS 121 also addresses the
accounting for long-lived assets that are expected to be disposed of. Although
the Company adopted SFAS 121 in the first quarter of 1996, there was no impact
on current earnings.
The Company also adopted Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation"
("SFAS 123") during 1996. See Note I for further discussion.
NOTE B Statutory Results and Dividend Restrictions
The reporting practices for McM's insurance subsidiaries prescribed or
permitted by state regulatory authorities ("statutory accounting") differ from
generally accepted accounting principles. OF&C (which includes Wilshire on a
statutory equity basis) reported to insurance regulatory authorities net income
of $49,000 in 1996, $2.0 million in 1995, and $578,000 in 1994 and combined
capital and surplus of $18.2 million and $19.2 million December 31, 1996 and
1995, respectively.
McM's insurance subsidiaries are subject to regulation and supervision
by regulatory authorities in the states in which they operate. The regulatory
bodies have broad administrative powers relating to standards of solvency,
minimum capital and surplus requirements, maintenance of required reserves,
payments of dividends, statutory accounting and reporting practices, and other
financial and operational matters. Generally, the net assets of the insurance
subsidiaries available for transfer to the parent company are limited to the
amounts by which the insurance subsidiaries' net assets, as determined in
accordance
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34
with statutory accounting practices, exceed the minimum statutory capital
requirement of $2,250,000. Also, by statute, dividends exceeding the lesser of
10% of statutory-basis capital and surplus or the previous year's net income,
excluding net realized capital gains, require the prior approval of the
Commissioner of the North Carolina Department of Insurance.
OF&C and Wilshire are domiciled in the State of North Carolina and
prepare their statutory-basis financial statements in accordance with accounting
practices and procedures prescribed or permitted by the North Carolina
Department of Insurance. "Prescribed" statutory accounting practices include
state laws, regulations, and general administrative rules, as well as a variety
of publications of the National Association of Insurance Commissioners ("NAIC").
"Permitted" statutory accounting practices may differ from state to state, may
differ from company to company within a state, and may change in the future. The
NAIC currently is in the process of codifying statutory accounting practices,
the result of which is expected to constitute the only source of "prescribed"
statutory accounting practices. The completion date of that project is currently
undeterminable. However, upon completion, prescribed statutory accounting
practices will likely change, to some extent, and may result in changes to the
accounting that insurance enterprises use to prepare their statutory financial
statements.
The North Carolina Department of Insurance imposes minimum risk-based
capital requirements on insurance enterprises that were developed by the NAIC.
The formulas for determining the amount of risk-based capital ("RBC") specify
various weighting factors that are applied to financial balances or various
levels of activity based on the perceived degree of risk. Regulatory compliance
is determined by a ratio ("the Ratio") of the enterprise's regulatory total
adjusted capital, as defined by the NAIC, to its authorized control level RBC as
defined by the NAIC. Enterprises below specific trigger points or ratios are
classified within certain levels, each of which requires corrective action. Each
of McM's insurance subsidiaries' Ratios exceed any minimum RBC requirement.
NOTE C Reinsurance
The property and casualty insurance subsidiaries have entered into
reinsurance agreements with various reinsurers in order to reduce their ultimate
claim risk. Current reinsurance agreements provide for premium rates based on
the amount of coverage in excess of the defined retention level.
Generally, the Company's retention level for all accident years was
$100,000 with the exception of the 1991 accident year which was $250,000. These
retention levels are effected under
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35
the Company's casualty excess of loss reinsurance treaties.
The Company is also party to quota share reinsurance arrangements on
its private passenger automobile and commercial auto liability coverages. A
quota share reinsurance treaty is maintained on the Company's private passenger
automobile business which became effective in April 1993. The rates pertaining
to this treaty were 30% during 1996, and 40% prior to 1996. This treaty was
placed to help control the Company's statutory net writings to surplus ratios as
well as future premium growth in that market. A 5% quota share reinsurance
treaty is also maintained by the Company to help control future growth in this
line of business.
The effect of reinsurance on premiums written and earned in 1996, 1995
and 1994 was as follows:
For the Year Ended December 31
--------------------------------------------------------------------------------
1996 1995 1994
Premiums Premiums Premiums
Written Earned Written Earned Written Earned
------- ------ ------- ------ ------- ------
(Thousands of dollars)
Direct $ 62,698 $ 63,163 $ 64,099 $ 63,731 $ 62,558 $65,572
Assumed 11,561 10,405 7,926 5,871 2,989 1,274
Ceded (20,839) (21,714) (25,362) (23,901) (27,527) (25,720)
-------- -------- -------- -------- -------- -------
Net $ 53,420 $ 51,854 $ 46,663 $ 45,701 $ 38,020 $41,126
======== ======== ======== ======== ======== =======
The Company has provided amounts for losses arising from uncollectible
balances due from various property and casualty reinsurers. These provisions are
based on the overall trends experienced in the reinsurance industry and an
evaluation and analysis of individual balances due the Company. To minimize its
exposure to significant losses from reinsurance insolvencies, OF&C and Wilshire
evaluate the financial condition of their reinsurers and monitor concentration
of credit risk arising from similar geographic regions, activities or economic
characteristics of the reinsurers. At December 31, 1996, reinsurance
recoverables of $5.9 million were associated with a single reinsurer. The
remaining reinsurance recoverables were associated primarily with six
reinsurers. OF&C and Wilshire's policy is to hold collateral under related
reinsurance agreements in the form of letters of credit for all reinsurers not
licensed to do business in North Carolina.
To the extent that reinsuring companies may later be unable to meet
obligations under the reinsurance agreements, the insurance subsidiaries would
remain liable.
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NOTE D Income Taxes
The Revenue Reconciliation Act of 1993 increased the U.S. Federal
income tax rate to 35% for taxable income in excess of $10 million. Because of
the large tax return net operating loss carryforwards of the Company and Company
estimates that annual taxable income in the near future, before utilization of
the carryforwards, will not exceed $10 million, a U.S. Federal income tax rate
of 34% has been used to compute deferred tax assets and liabilities for the
Company.
There was no income tax expense attributable to income from continuing
operations for the years ended December 31, 1996, 1995 and 1994. These amounts
differed from the amounts computed by applying the U.S. federal income tax rate
of 34 percent to pretax income from continuing operations as follows:
Year Ended December 31
1996 1995 1994
(Thousands of dollars)
Pretax income (loss) from
continuing operations $(788) $ 2,210 $1,354
- -------------------------------------------------------------------------------------
Computed "expected" tax expense (benefit) (268) 751 $ 460
Increase (decrease) in taxes resulting from:
Change in valuation allowance 257 (2,768) (281)
Other 11 33 (179)
Net operating and capital losses not
utilized -- 1,984 --
- -------------------------------------------------------------------------------------
Income Tax Expense $ 0 $ 0 $ 0
=====================================================================================
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities as of December
31, 1996 and December 31, 1995, are presented below.
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37
December 31
--------------------------
1996 1995
(Thousands of dollars)
Deferred tax asset:
Unearned premium reserves $ 942 $ 836
Claim reserves 1,279 1,095
Tax return net operating and
capital loss carryforwards 30,810 30,804
Unrealized losses on fixed
maturity securities 22 --
Other 252 263
-------- --------
Total gross deferred tax assets 33,305 32,998
Less: Valuation allowance (31,624) (31,367)
-------- --------
Net deferred tax assets $ 1,681 $ 1,631
Deferred tax liabilities:
Deferred policy acquisition
costs $ 1,357 $ 1,137
Agent balances 47 180
Unrealized gains on fixed
maturity securities -- 158
Other 277 156
-------- --------
Total liabilities $ 1,681 $ 1,631
-------- --------
Net deferred tax account $ 0 $ 0
======== ========
The valuation allowance for deferred tax assets as of January 1, 1996,
was $31,367,000. The net change in the total valuation allowance for the year
ended December 31, 1996, was an increase of $257,000.
McM and its subsidiaries file a consolidated income tax return.
The Company had cumulative tax operating loss carryforwards of
approximately $88 million as of December 31, 1996, with expiration dates of 1997
through 2011. In addition, the Company had tax capital loss carryforwards of
$3,172,000. The tax capital loss carryforwards expire in 1997.
No income taxes were paid in 1996, 1995, or 1994.
NOTE E Pension Plan
McM and its subsidiaries have a non-contributory defined benefit
pension plan covering substantially all their employees. The plan provides for
payments to qualified employees based on
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38
compensation and years of service. The Company and its subsidiaries make
contributions to the plan, if necessary, equal to the amounts required by ERISA.
The following table sets forth the plan's funded status and amounts
recognized in the Company's balance sheets at December 31:
December 31
------------------------
1996 1995
- --------------------------------------------------------------------------------
(Thousands of dollars)
Actuarial present value of benefit obligations:
Accumulated benefit obligation, including
vested benefits of $1,890 in 1996 and
$1,707 in 1995 $ 2,027 $ 1,813
================================================================================
Projected benefit obligation for service
rendered to date $(2,816) $(2,591)
Plan assets at fair value, primarily listed stocks,
U.S. bonds, and money market accounts 1,819 1,161
- --------------------------------------------------------------------------------
Projected benefit obligation in excess of plan
assets (997) (1,430)
Unrecognized net loss 356 566
Deferred asset gain (157) (51)
Unrecognized prior service cost (52) (56)
Unrecognized net transition asset (78) (94)
- --------------------------------------------------------------------------------
Net pension liability $ (928) $(1,065)
================================================================================
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Net periodic pension expense included the following components:
Year Ended December 31
1996 1995 1994
- --------------------------------------------------------------------------------
(Thousands of dollars)
Service cost-benefits earned
during the period $ 257 $ 208 $ 190
Interest cost on projected
benefit obligation 206 176 143
Actual return on plan assets (277) (135) 64
Net amortization and deferral 157 40 (151)
- --------------------------------------------------------------------------------
Net periodic pension cost $ 343 $ 289 $ 246
================================================================================
The weighted average discount rate used to determine the actuarial
present value of the projected benefit obligation was 7.75% and 7.25% at
December 31, 1996, and 1995, respectively. The rate of increase in future
compensation levels used to determine the actuarial present value of the
projected benefit obligation was 4.75% at December 31, 1996, and at December 31,
1995. The expected long-term rate of return on plan assets was 9% for the years
ended December 31, 1996, 1995, and 1994. The unrecognized prior service cost and
the cumulative net recognized gains and losses in excess of the greater of the
market value of plan assets and the projected benefit obligation are being
amortized using the optional straight-line method over the average expected
future service of active participants.
NOTE F Investment Operations
The sources of investment income are summarized as follows:
Year Ended December 31
------------------------------
1996 1995 1994
- --------------------------------------------------------------------------------
(Thousands of dollars)
Fixed maturities $2,490 $3,155 $3,229
Other long-term investments 48 36 38
Short-term investments 1,078 780 876
------------------------------
3,616 3,971 4,143
Investment expenses 457 474 459
------------------------------
NET INVESTMENT INCOME $3,159 $3,497 $3,684
==============================
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The amortized cost and estimated market values of investments in fixed
maturities at December 31, 1996 and 1995, are as follows:
Gross Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------------------------------------
(Thousands of dollars)
Fixed Maturity Securities Available-for-Sale:
December 31, 1996:
U.S. Treasury securities
and obligations of
U.S. governmental
corporations and agencies $17,449 $ 33 $(111) $17,371
Public utilities and other 665 -- (162) 503
Mortgage-backed securities 18,824 291 (116) 18,999
- --------------------------------------------------------------------------------
Total $36,938 $324 $(389) $36,873
================================================================================
Gross Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------------------------------------------
(Thousands of dollars)
Fixed Maturity Securities Held-to-Maturity:
December 31, 1996:
U.S. Treasury securities
and obligations of
U.S. governmental
corporations and agencies $5,745 $58 $(4) $5,799
Obligations of states and
political subdivisions 193 30 -- 223
------ --- --- ------
Total $5,938 $88 $(4) $6,022
================================================================================
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Gross Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------------------------------------------
(Thousands of dollars)
Fixed Maturity Securities Available-for-Sale:
December 31, 1995:
U. S. Treasury securities and
obligations of U.S.
governmental
corporations and
agencies $25,998 $329 $ -- $26,327
Public utilities 758 3 (7) 754
Mortgage-backed securities 4,445 294 (48) 4,691
U.S. corporate securities 276 -- (106) 170
- --------------------------------------------------------------------------------
Total $31,477 $626 $(161) $31,942
================================================================================
Gross Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
----------------------------------------------------
(Thousands of dollars)
Fixed Maturity Securities Held-to-Maturity:
December 31, 1995:
U.S. Treasury securities
and obligations of
U.S. governmental
corporations and
agencies $16,037 $166 $-- $16,203
Obligations of states and
political subdivisions 193 33 -- 226
- --------------------------------------------------------------------------------
Total $16,230 $199 $-- $16,429
================================================================================
The amortized cost and estimated market value of fixed maturities at
December 31, 1996, by contractual maturity, are shown below. Expected maturities
may differ from contractual maturities as certain borrowers have the right to
call or prepay obligations without penalty.
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Estimated
Amortized Market
Cost Value
----------------------
(Thousands of dollars)
Fixed Maturity Securities Available-for-Sale:
Due in one year or less $ 2,227 $ 2,089
Due after one year through five years 10,727 10,667
Due after five years through ten years 5,067 5,030
Due after ten years 93 88
- ----------------------------------------------------------------------------
18,114 17,874
Mortgage backed securities 18,824 18,999
- ----------------------------------------------------------------------------
$36,938 $36,873
============================================================================
Fixed Maturity Securities Held-to-Maturity:
Due in one year or less $ 77 $ 77
Due after one year through five years 4,643 4,683
Due after five years through ten years 1,218 1,262
Due after ten years -- --
- ----------------------------------------------------------------------------
$ 5,938 $ 6,022
============================================================================
Realized gains and losses from sales of investments in fixed maturities
were as follows:
Year Ended December 31
1996 1995 1994
------------------------
(Thousands of dollars)
Realized gains and losses:
Fixed maturity securities available-for-sale:
Gross realized gains $40 $123 $122
Gross realized losses -- -- --
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43
The carrying value of investments in persons (other than the U.S.
Government or a Government Agency or Authority, State, Municipality, or
Political Subdivision) exceeding 10% of total shareholders' equity is as
follows:
December 31
----------------------
1996 1995
----------------------
(Thousands of dollars)
Southern Capital Corporation $3,628 $6,231
General Electric Capital Corporation $8,903 $8,617
NOTE G Reserves for Losses and Settlement Expenses
The consolidated financial statements include the estimated reserve for
losses and settlement expenses of the property and casualty insurance
subsidiaries. The subsidiaries primarily write commercial auto liability,
physical damage and cargo coverages and non-standard private passenger
automobile coverages. The liabilities for losses and settlement expenses are
determined using case basis evaluations and statistical projections and
represent estimates of the ultimate net cost of all unpaid losses and settlement
expenses incurred through December 31 of each year. These estimates give effect
to trends in claims severity and other factors which may vary as the liabilities
are ultimately settled. The estimates are continually reviewed and, as
adjustments to these liabilities become necessary, such adjustments are
reflected in current operations.
The following table provides a reconciliation of the beginning and
ending reserve balances for losses and settlement expenses, on a
gross-of-reinsurance basis, for 1996, 1995 and 1994, to the gross amounts
reported in McM's balance sheet.
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44
Year Ended December 31
------------------------------------
1996 1995 1994
------------------------------------
(Thousands of dollars)
Reserves for losses
and settlement expenses,
net of reinsurance
recoverables, at
beginning of year $29,997 $ 38,415 $51,625
Provision for insured
events of the current
year 37,651 31,282 29,106
Increase (decrease) in
provision for insured
events of prior years 1,559 (248) 18
-----------------------------------
Incurred losses and
settlement expenses
during current year, net
of reinsurance 39,210 31,034 29,124
Payments for:
Losses and settlement
expenses attributable to
insured events of the
current year 22,853 18,113 15,307
Losses and settlement
expenses attributable to
insured events of prior
years 19,822 21,339 27,027
-----------------------------------
42,675 39,452 42,334
-----------------------------------
Reserves for losses and
settlement expenses, net
of reinsurance recoverables,
at end of year 26,532 29,997 38,415
Reinsurance recoverable on
unpaid losses and settlement
expenses at end of current
year 28,768 36,155 42,471
-----------------------------------
Gross reserves for losses and
settlement expenses at end
of year $55,300 $ 66,152 $80,886
===================================
The reconciliation above reflects the emergence of a $1,559,000
deficiency in the December 31, 1995, reserve during 1996, approximately $800,000
of which relates to discontinued lines of business and participation in
involuntary pools and other residual market mechanisms in which OF&C and
Wilshire are required to participate by the various states in which the
companies write insurance. The remainder consists of
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45
approximately $68,000 relating to commercial auto lines of business, and
$691,000 relating to private passenger auto lines of business.
The anticipated effect of inflation is implicitly considered when
estimating liabilities for losses and settlement expenses. While anticipated
cost increases due to inflation are considered in estimating the ultimate claim
costs, the increase in average severity of claims is caused by a number of
factors that vary with the individual type of policy written. Future average
severity is projected based on historical trends adjusted for anticipated
changes in these trends and general economic conditions. These anticipated
trends are monitored based on actual development and are modified as necessary.
NOTE H Contingencies
Litigation: In the normal course of operations, certain subsidiaries of the
Company have been named as parties to various pending and threatened litigation.
While the outcome of some of these matters cannot be estimated with certainty,
it is the opinion of management, that the resolution of these matters will not
have a material adverse affect on the Company's consolidated financial
position, or results of operations.
Guaranty Associations: The insurance subsidiaries are required to be members of
various state insurance guaranty associations in order to conduct business in
those states. These associations have the authority to assess member companies
in the event that an insurance company conducting business in that state is
unable to meet its policyholder obligations. The Company recognizes the expense
for these assessments in the year they are assessed. The Company received net
refunds of $26,000 and 12,000 in 1996 and 1995, respectively, and incurred
expenses of $76,000 in 1994 related to these assessments.
NOTE I Stock Option Plan and Earnings Per Share
At December 31, 1996, the Company adopted Statement of Financial
Accounting Standards No. 123 "Accounting for Stock-Based Compensation" ("SFAS
123"). SFAS 123 introduces a fair-value based method of accounting for
stock-based compensation and encourages, but does not require, compensation
expense recognition for grants of stock, stock options and other equity
instruments to employees. In accordance with SFAS 123, the Company has elected
to continue to follow Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees" (APB 25) and related interpretations in
accounting for its employee stock options.
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46
The Company had an Employee Incentive Stock Option Plan, the 1986
Employee Incentive Stock Option Plan ("1986 Plan"), which expired by its terms,
May 16, 1996. The 1986 Plan provided that options be granted to selected key
employees at exercise prices equal to market value on the date the option is
granted. Options were granted for a period not exceeding ten years and were
exercisable at a rate of 20% per year starting one year from the date of grant.
Depending upon the circumstances of an optionee's termination of employment,
the optionee's options either a) remain exercisable for three months after
termination to the extent they were exercisable at termination unless vesting
is accelerated by the Compensation Committee, b) remain exercisable until a
change in control of the Company, as defined in the 1986 plan, c) remain
exercisable for five years and one day from the date of the optionee's
termination or d) terminate as of the termination of the optionee's employment.
The Company had reserved 250,000 shares of common stock for
distribution under the Plan. The following options to purchase the Company's
common shares were outstanding under the 1986 Plan as of December 31, 1996 and
1995:
NUMBER OF SHARES
UNDERLYING
OUTSTANDING
OPTIONS
OPTION
PRICE
DATE OF GRANT 1996 1995 PER SHARE
- --------------------------------------------------------------------------------
January 15, 1988 1,000 11,000 $ 8.50
October 6, 1988 2,000 2,000 $10.00
January 15, 1993 42,962 42,962 $ 1.38
July 25,1994 19,000 19,000 $ 2.25
August 17, 1994 81,000 81,000 $ 2.75
- --------------------------------------------------------------------------------
145,962 155,962
================================================================================
At December 31, 1996, 68,778 options were exercisable. No options have
been exercised under the Plan. The weighted-average exercise price is $2.42 per
share and the weighted-average remaining contractual life is 5.7 years at
December 31, 1996. Earnings per common share are based on the average number of
shares of Common Stock outstanding during the year. The effect of stock options
is not dilutive in the computation of earnings per share.
In 1996 the Company adopted the 1996 Employee Incentive Stock Option
Plan ("1996 Plan") which generally has the same terms as the 1986 Plan. The
Company has reserved 300,000 shares of common stock for distribution under the
1996 Plan. No options had been granted under the 1996 Plan as of December 31,
1996.
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47
The Company has a phantom stock plan under which shares of "phantom
stock" may be awarded to certain employees. A maximum of 250,000 shares of
phantom stock may be awarded under the plan. Upon maturity of an award, shares
of phantom stock are settled in cash equal to the market value of common shares
at the maturity date plus the amount of cash dividends paid on an equal number
of common shares over the life of the award. The awards generally vest over a
five year period beginning five years after the award date and mature on the two
year anniversary of the termination of the employee, or upon a change in control
(as defined in the plan) of the Company. In both 1996 and 1995, 50,000 shares
of phantom stock were granted under the plan and related expenses of $44,000
and $26,000 were accrued, respectively.
Pro forma information regarding net (loss) income and earnings per share is
required by SFAS 123, which also requires that the information be determined as
if the Company has accounted for its employee stock options and awards granted
subsequent to December 31, 1994, under the fair value method prescribed by SFAS
123. The estimated fair value of the phantom stock awards, calculated under a
Black-Scholes valuation model, did not have a material impact on the reported
net (loss) income or net (loss) income per share at December 31, 1996 and 1995.
Further, because SFAS 123 is applicable only to stock-based awards granted after
December 31, 1994, the pro forma effect of the amortization of the estimated
fair value of the Company's outstanding stock is not likely to be representative
of the effects on the reported net (loss) income for future years.
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NOTE J Summary of Fair Values
The method of determining fair values for investments in fixed maturity
securities is discussed in Note F. For all other financial instruments, carrying
value approximates fair value.
The following table summarizes the carrying value and fair value of
financial instruments:
December 31
1996 1995
---------------------------------------------------
Carrying Fair Carrying Fair
Value Value Value Value
---------------------------------------------------
(Thousands of dollars)
Financial Assets:
Cash $ 1,776 $ 1,776 $ 1,637 $ 1,637
Short-term investments $14,061 $14,061 $14,848 $14,848
Fixed maturity securities
available-for-sale
(Note F) $36,873 $36,873 $31,942 $31,942
Fixed maturity securities
held-to-maturity
(Note F) $ 5,938 $ 6,022 $16,230 $16,429
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Report of Independent Auditors
ERNST & YOUNG LLP
Board of Directors and Shareholders
McM Corporation
We have audited the accompanying consolidated balance sheets of McM
Corporation and subsidiaries as of December 31, 1996 and 1995, and the
related consolidated statements of operations, shareholders equity and
cash flows for each of the three years in the period ended December 31,
1996. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for
our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position
of McM Corporation and subsidiaries at December 31, 1996 and 1995, and
the consolidated results of their operations and their cash flows for
each of the three years in the period ended December 31, 1996, in
conformity with generally accepted accounting principles.
Raleigh, North Carolina
February 28, 1997
ERNST & YOUNG LLP
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SUMMARY OF QUARTERLY RESULTS OF OPERATIONS
The following is a summary of quarterly results of operations for the years
ended December 31, 1996 and 1995.
- -------------------------------------------------------------------------------------------------
March 31 June 30 Sept. 30 Dec. 31
- -------------------------------------------------------------------------------------------------
(Thousands of dollars, except per share data)
1996
Premiums $12,758 $12,862 $12,883 $ 13,351
Investment Income, Less Investment Expense 890 717 764 788
Realized Gains 0 0 0 40
Losses and Expenses 13,038 13,087 13,305 17,056
Net Income (Loss) 671 598 423 (2,480)
Net Income (Loss) Per Share $ 0.14 $ 0.13 $ 0.09 ($ 0.53)
1995
Premiums $10,590 $10,778 $11,915 $ 12,418
Investment Income, Less Investment Expense 896 891 857 853
Realized Gains 0 0 0 123
Losses and Expenses 10,927 11,173 11,974 13,287
Net Income 594 540 852 224
Net Income Per Share $ 0.13 $ 0.12 $ 0.18 $ 0.05
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Officers and Directors
Officers Directors
George E. King Michael A. DiGregorio
Chairman Emeritus and Vice President/Senior Trust Counsel
Chief Executive Officer Wilmington Trust Company
Wilmington, DE
Stephen L. Stephano
President and George E. King
Chief Operating Officer Chairman Emeritus and
Chief Executive Officer
Michael D. Blinson McM Corporation
Senior Vice President Raleigh, NC
and Corporate Secretary
Laurence F. Lee, Jr.
Kevin J. Hamm Retired
Vice President and Jacksonville, FL
Chief Financial Officer
Laurence F. Lee III
Harold A. Strube President
Vice President and Plan Analysts, Inc.
Assistant Corporate Secretary Jacksonville, FL
Claude G. Sanchez, Jr.
Private Investor
Veguita, NM
Stephen L. Stephano
President and Chief Operating Officer
McM Corporation
Raleigh, NC
R. Peyton Woodson III
President
Enterprise Holdings Proprietary, Inc.
Raleigh, NC
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52
Corporate Information
McM Corporation Corporate Office
702 Oberlin Road
P.O. Box 12317
Raleigh, North Carolina 27605
Telephone: (919)833-1600
Registrar-Transfer Agent
Wachovia Bank and Trust Company, N.A.
Winston-Salem, North Carolina
General Counsel
Ragsdale, Liggett & Foley, PLLC
Raleigh, North Carolina
Independent Auditors
Ernst & Young LLP
Raleigh, North Carolina
Form 10-K
Annual Report for the year ended December 31, 1996, has been
filed with the Securities and Exchange Commission. A copy will
be made available to shareholders without charge upon request.
Please write to Corporate Secretary at the Corporation's
Corporate Office.
Annual Meeting
The Annual Shareholders' Meeting of McM Corporation will be
held at the corporate offices of McM Corporation, 702 Oberlin
Road, Raleigh, North Carolina, on May 22, 1997, at 10:00 a.m.
71