SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549n
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended March 31, 2001
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File No. 1-12644
Financial Security Assurance Holdings Ltd.
(Exact name of registrant as specified in its charter)
New York 13-3261323
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)
350 Park Avenue
New York, New York 10022
(Address of principal executive offices)
(212) 826-0100
(Registrant's telephone number,
including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |_|
At May 14, 2001, there were 33,213,238 outstanding shares of Common Stock of the
registrant (excludes 304,757 shares of treasury stock).
INDEX
PAGE
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PART I FINANCIAL INFORMATION
Item 1. Condensed Unaudited Financial Statements
Financial Security Assurance Holdings Ltd. and Subsidiaries
Condensed Consolidated Balance Sheets - March 31, 2001
and December 31, 2000 3
Condensed Consolidated Statements of Operations and
Comprehensive Income - Three months ended
March 31, 2001 and 2000 4
Condensed Consolidated Statement of Changes in Shareholders'
Equity - Three months ended March 31, 2001 5
Condensed Consolidated Statements of Cash Flows - Three
months ended March 31, 2001 and 2000 6
Notes to Condensed Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
PART II OTHER INFORMATION, AS APPLICABLE
Item 6. Exhibits and Reports on Form 8-K 11
SIGNATURES 12
2
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share data)
March 31, December 31,
ASSETS 2001 2000
---- ----
Bonds at market value (amortized cost of $2,055,478 and $1,998,143) $ 2,173,700 $ 2,103,316
Equity investments at market value (cost of $10,006) 9,747 9,747
Short-term investments 76,627 121,788
----------- -----------
Total investments 2,260,074 2,234,851
Cash 16,536 9,411
Deferred acquisition costs 209,075 201,136
Prepaid reinsurance premiums 362,399 354,117
Reinsurance recoverable on unpaid losses 22,035 24,617
Receivable for securities sold 9,226 4,611
Investment in unconsolidated affiliates 58,858 57,609
Other assets 265,587 262,342
----------- -----------
TOTAL ASSETS $ 3,203,790 $ 3,148,694
=========== ===========
LIABILITIES AND MINORITY INTEREST AND SHAREHOLDERS' EQUITY
Deferred premium revenue $ 963,173 $ 936,826
Losses and loss adjustment expenses 99,639 116,336
Deferred federal income taxes 96,800 88,817
Ceded reinsurance balances payable 52,324 48,784
Payable for securities purchased 21,165 4,751
Notes payable 230,000 230,000
Deferred compensation 95,260 90,275
Minority interest 39,372 37,228
Accrued expenses and other liabilities 83,286 129,944
----------- -----------
TOTAL LIABILITIES AND MINORITY INTEREST 1,681,019 1,682,961
----------- -----------
Common stock (200,000,000 shares authorized; 33,517,995
issued; par value of $.01 per share) 335 335
Additional paid-in capital - common 903,479 903,479
Accumulated other comprehensive income [net of deferred income
tax provision of $38,519 and $34,818] 79,443 70,095
Accumulated earnings 539,514 491,824
Deferred equity compensation 24,004 24,004
Less treasury stock at cost (304,757 shares held) (24,004) (24,004)
----------- -----------
TOTAL SHAREHOLDERS' EQUITY 1,522,771 1,465,733
----------- -----------
TOTAL LIABILITIES AND MINORITY INTEREST
AND SHAREHOLDERS' EQUITY $ 3,203,790 $ 3,148,694
=========== ===========
See notes to condensed consolidated financial statements.
3
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME
(Dollars in thousands)
March 31,
-----------------------
2001 2000
---- ----
Revenues:
Net premiums written (net of premiums ceded of $32,316 and $29,931) $ 71,373 $ 36,936
Decrease (increase) in deferred premium revenue (20,109) 10,648
-------- --------
Premiums earned (net of premiums ceded of $22,095 and $19,896) 51,264 47,584
Net investment income 31,714 28,433
Net realized gains (losses) 1,930 (28,835)
Other income 257 269
-------- --------
TOTAL REVENUES 85,165 47,451
-------- --------
Expenses:
Losses and loss adjustment expenses 2,778 1,781
Interest expense 4,154 4,154
Policy acquisition costs 9,274 9,681
Merger related expenses 50,126
Other operating expenses 8,079 9,704
-------- --------
TOTAL EXPENSES 24,285 75,446
-------- --------
Minority interest and equity earnings (37) (296)
-------- --------
INCOME (LOSS) BEFORE INCOME TAXES 60,843 (28,291)
Benefit (provision) for income taxes (13,153) 15,509
-------- --------
NET INCOME (LOSS) 47,690 (12,782)
-------- --------
Other comprehensive income, net of tax:
Unrealized gains on securities:
Holding gains arising during period 10,693 22,683
Less: reclassification adjustment for gains (losses) included in net
income 1,345 (19,164)
-------- --------
Other comprehensive income 9,348 41,847
-------- --------
COMPREHENSIVE INCOME $ 57,038 $ 29,065
======== ========
See notes to condensed consolidated financial statements.
4
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
(Dollars in thousands)
Additional Accumulated Deferred
Paid-In Other Comp- Equity
Common Capital - rehensive Accumulated Compen- Treasury
Stock Common Income Earnings sation Stock Total
----- ------ ------ -------- ------ ----- -----
BALANCE, December 31, 2000 $335 $903,479 $70,095 $491,824 $24,004 $(24,004) $1,465,733
Net income 47,690 47,690
Net unrealized gain on investments,
net of tax 9,348 9,348
---- -------- ------- -------- ------- -------- ----------
BALANCE, March 31, 2001 $335 $903,479 $79,443 $539,514 $24,004 $(24,004) $1,522,771
==== ======== ======= ======== ======= ======== ==========
See notes to condensed consolidated financial statements.
5
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
Three Months Ended March 31,
----------------------------
2001 2000
---- ----
Cash flows from operating activities:
Premiums received, net $ 74,576 $ 28,377
Policy acquisition and other operating expenses
paid, net (70,924) (71,729)
Loss and LAE recovered (paid), net (20,279) 679
Net investment income received 32,902 28,955
Recoverable advances received (paid) 1,536 (709)
Federal income taxes paid (10,523) (12,452)
Interest paid (4,134) (4,134)
Other, net 1,155 (848)
--------- ---------
Net cash provided by (used for) operating
activities 4,309 (31,861)
--------- ---------
Cash flows from investing activities:
Proceeds from sales of bonds 116,706 735,196
Purchases of bonds (159,399) (847,255)
Purchases of property and equipment (467) (2,321)
Net decrease in short-term securities 45,735 109,460
Other investments, net 241 1,785
--------- ---------
Net cash provided by (used for) investing
activities 2,816 (3,135)
--------- ---------
Cash flows from financing activities:
Dividends paid (3,949)
Treasury stock 13,936
Other 25,005
---------
Net cash provided by financing activities 34,992
---------
Net increase (decrease) in cash 7,125 (4)
Cash at beginning of period 9,411 6,284
--------- ---------
Cash at end of period $ 16,536 $ 6,280
========= =========
See notes to condensed consolidated financial statements.
6
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For the Three Months Ended March 31, 2001 and 2000
1. ORGANIZATION AND OWNERSHIP
Financial Security Assurance Holdings Ltd. (the Company) is an insurance
holding company domiciled in the State of New York. The Company is primarily
engaged (through its insurance subsidiaries, collectively known as FSA) in the
business of providing financial guaranty insurance on asset-backed and municipal
obligations. The Company is an indirect subsidiary of Dexia S.A. (Dexia), a
publicly held Belgian corporation.
2. BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements have been
prepared in accordance with instructions to Form 10-Q and, accordingly, do not
include all of the information and disclosures required by accounting principles
generally accepted in the United States of America. These statements should be
read in conjunction with the consolidated financial statements and notes thereto
included in the Company's 2000 Annual Report to Shareholders filed on Form 10-K.
The accompanying financial statements have not been audited by independent
accountants in accordance with auditing standards generally accepted in the
United States of America but, in the opinion of management, all adjustments,
which include only normal recurring adjustments necessary to present fairly the
financial position, results of operations and cash flows at March 31, 2001 and
for all periods presented, have been made. The December 31, 2000 condensed
balance sheet data was derived from audited financial statements, but does not
include all disclosures required by accounting principles generally accepted in
the United States of America. The results of operations for the periods ended
March 31, 2001 and 2000 are not necessarily indicative of the operating results
for the full year. Certain prior year balances have been reclassified to conform
to current year's presentation.
3. RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities" (SFAS No. 133). SFAS 133 was subsequently amended by
SFAS 137 and 138. These statements established accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts, and hedging activities. It requires that entities
recognize all derivatives as either assets or liabilities in the statement of
financial position and measure the instruments at fair value. At December 31,
2000 and March 31, 2001, the Company had a limited number of insurance policies
that would be considered derivatives for accounting purposes and had no open
positions in U.S. Treasury bond futures, call options or other derivative
instruments used for hedging purposes. The adoption on January 1, 2001 of this
standard did not have a material impact on the Company's financial position,
results of operations or cash flows.
7
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Results of Operations
2001 and 2000 First Quarter Results
The Company's 2001 first quarter net income was $47.7 million, compared with a
net loss of $12.8 million (net income of $19.8 million excluding costs relating
to the July 5, 2000 merger with a subsidiary of Dexia S.A.) for the same period
in 2000. Core net income (operating net income less the after-tax effect of
refundings and prepayments) was $48.9 million, compared with $41.7 million for
the same period in 2000, an increase of 17.2%. Total core revenues increased
$8.9 million, from $73.2 million in the first quarter of 2000 to $82.1 million
in the first quarter of 2001, while total core expenses increased only $1.1
million. Operating net income (net income less the after-tax effect of net
realized capital gains or losses and the cost of the equity-based compensation
programs and other non-operating items) was $49.5 million for the first quarter
of 2001 versus $43.2 million for the comparable period in 2000, an increase of
$6.3 million, or 14.5%.
There are two measures of gross premiums originated for a given period. Gross
premiums written captures premiums collected in the period, whether collected
up-front for business originated in the period, or in installments for business
originated in prior periods. An alternative measure, the gross present value of
premiums written (gross PV premiums written), reflects future installment
premiums discounted to a present value, as well as up-front premiums, but only
for business originated in the period. The Company considers gross PV premiums
written to be the better indicator of a given period's origination activity
because a substantial part of the Company's premiums are collected in
installments, a practice typical of the asset-backed business. The discount rate
used to calculate the gross PV premiums written is 5.79% for 2001 and was 5.77%
for 2000. The discount rates represent the average pre-tax yield on the
Company's investment portfolio for the previous three years. Regardless of the
measure used, quarter to quarter comparisons are of limited significance because
originations fluctuate from quarter to quarter but historically have not
exhibited a seasonal pattern.
Gross premiums written increased 55.1%, to $103.7 million for the first quarter
of 2001 from $66.9 million for the first quarter of 2000. Gross PV premiums
written increased 121.2%, to $137.8 million in the first quarter of 2001 from
the first quarter result of $62.3 million in 2000. In the first quarter of 2001,
U.S. asset-backed gross PV premiums written were $62.1 million as compared with
$26.8 million in 2000, an increase of 131.7%; U.S. municipal gross PV premiums
written were $42.3 million as compared with $20.8 million, an increase of
103.4%; and international gross PV premiums were $33.4 million as compared with
$14.7 million, an increase of 127.2%. The increase in PV premium resulted, in
part, from lower overall volume in the first quarter of 2000 due to the
Y2K-related acceleration of business into the fourth quarter of 1999, which
reduced the pipeline in the first quarter of 2000. In addition, in the U.S.
asset-backed market, the Company had strong collateralized debt obligation
issuances and repeat business from auto loan and residential mortgage issuers.
In the first quarter of 2001, the Company insured par value of bonds totaling
$17.4 billion, an increase of 123.1% compared to the first quarter of 2000.
FSA's first quarter U.S. asset-backed component rose 88.0% to $6.8 billion and
the U.S. municipal sector increased 110.1% to $8.0 billion. The international
sector rose to $2.6 billion in the first quarter 2001 from $0.4 billion in the
first quarter of 2000.
Net premiums written were $71.4 million for the first quarter of 2001, an
increase of 93.2% when compared with 2000. Net premiums earned for the first
quarter of 2001 were $51.3 million, compared with $47.6 million in the first
quarter of 2000, an increase of 7.7%. Premiums earned from refundings and
prepayments were $1.2 million for the first quarter of 2001 and $3.1 million for
the same period of 2000, contributing $0.6 million and $1.5 million,
respectively, to after-tax earnings. Net premiums earned for the quarter grew
12.5% relative to the same period in 2000 when the effects of refundings and
prepayments are eliminated.
8
Net investment income was $31.7 million for the first quarter of 2001 and $28.4
million for the comparable period in 2000, an increase of 11.5%. The Company's
effective tax rate on investment income was 11.4% for the first quarter of 2001
compared with 13.5% for the same period in 2000. In the first quarter of 2001,
the Company realized $1.9 million in net capital gains compared with net capital
losses of $28.8 million for the same period in 2000. Capital gains and losses
are generally a by-product of the normal investment management process and will
vary substantially from period to period. However, the Company intentionally
incurred above normal realized losses during the first quarter of 2000 in order
to take advantage of various federal tax loss carrybacks that were available to
the Company.
The provision for losses and loss adjustment expenses during the first quarter
of 2001 was $2.8 million compared with $1.8 million in 2000, representing
additions to the Company's general loss reserve. Additions to the general loss
reserve represent management's estimate of the amount required to adequately
cover the net cost of claims. The Company will, on an ongoing basis, monitor
these reserves and may periodically adjust such reserves, upward or downward,
based on the Company's actual loss experience, its future mix of business and
future economic conditions. At March 31, 2001, the unallocated balance in the
Company's general loss reserve was $67.6 million.
Total policy acquisition and other operating expenses (excluding the cost of the
equity-based compensation programs of $4.6 million for the first quarter of 2001
compared with $6.3 million for the same period of 2000) were $12.7 million for
the first quarter of 2001 compared with $13.1 million for the same period in
2000. Excluding the effects of refundings, total policy acquisition and other
operating expenses were $12.4 million for the first quarter of 2001 compared
with $12.3 million for the same period in 2000. In the first quarter 2000, the
Company recognized $50.1 million in merger-related expenses, of which $50.0
million represented an increase in equity-based compensation.
Income before income taxes for the first quarter of 2001 was $60.8 million,
compared with a loss before income taxes of $28.3 million for the same period in
2000.
Liquidity and Capital Resources
The Company's consolidated invested assets and cash equivalents at March 31,
2001, net of unsettled security transactions, was $2,248.1 million, compared
with the December 31, 2000 balance of $2,234.7 million. These balances include
the change in the market value of the investment portfolio, which had an
unrealized gain position of $118.0 million at March 31, 2001 and $104.9 million
at December 31, 2000.
At March 31, 2001, the Company had, at the holding company level, an investment
portfolio of $25.5 million available to fund the liquidity needs of its
activities outside of its insurance operations. Because the majority of the
Company's operations are conducted through FSA, the long-term ability of the
Company to service its debt will largely depend upon the receipt of dividends or
surplus note payments from FSA and upon external financings.
FSA's ability to pay dividends is dependent upon FSA's financial condition,
results of operations, cash requirements, rating agency approval and other
related factors and is also subject to restrictions contained in the insurance
laws and related regulations of New York and other states. Under New York State
insurance law, FSA may pay dividends out of earned surplus, provided that,
together with all dividends declared or distributed by FSA during the preceding
12 months, the dividends do not exceed the lesser of (i) 10% of policyholders'
surplus as of its last statement filed with the New York Superintendent of
Insurance or (ii) adjusted net investment income during this period. FSA paid no
dividends in 2000 or the first quarter of 2001. Based upon FSA's statutory
statements for the quarter ended March 31, 2001, and considering dividends that
can be paid by its subsidiary, the maximum amount normally available for payment
of dividends by FSA without regulatory approval over the following 12 months is
approximately $75.5 million. However, as a customary condition for approving the
application of Dexia for a change in control of FSA, the prior approval of the
Superintendent of the New York State Insurance Department is required for any
payment of dividends by FSA to the Company for a period of two years following
such change in control, which occurred July 5, 2000. In addition, the Company
holds $120 million of surplus notes of FSA. Payments of principal and interest
on such notes may be made only with the approval of the New York Insurance
Department. FSA paid $1.5 million in interest on such notes in the first quarter
of 2001 and 2000.
FSA's primary uses of funds are to pay operating expenses and to pay dividends
to, or repay surplus notes held by, its parent. FSA's funds are also required to
satisfy claims under insurance policies in the event of default by an issuer of
an insured obligation and the unavailability or exhaustion of other payment
sources in the transaction, such as the
9
cash flow or collateral underlying the obligations. FSA seeks to structure
asset-backed transactions to address liquidity risks by matching insured
payments with available cash flow or other payment sources. The insurance
policies issued by FSA provide, in general, that payments of principal, interest
and other amounts insured by FSA may not be accelerated by the holder of the
obligation but are paid by FSA in accordance with the obligation's original
payment schedule or, at FSA's option, on an accelerated basis. These policy
provisions prohibiting acceleration of certain claims are mandatory under
Article 69 of the New York Insurance Law and serve to reduce FSA's liquidity
requirements.
The Company believes that FSA's expected operating liquidity needs, both on a
short- and long-term basis, can be funded from its operating cash flow. In
addition, FSA has a number of sources of liquidity that are available to pay
claims on a short- and long-term basis: cash flow from written premiums, FSA's
investment portfolio and earnings thereon, reinsurance arrangements with
third-party reinsurers, liquidity lines of credit with banks, and capital market
transactions.
FSA has a credit arrangement, aggregating $150.0 million at March 31, 2001,
provided by commercial banks and intended for general application to
transactions insured by FSA and its insurance company subsidiaries. At March 31,
2001, there were no borrowings under this arrangement. In April 2001, FSA
reduced this credit facility to $125.0 million, and extended its term through
April 26, 2002, unless further extended. In addition, there are credit
arrangements assigned to specific insured transactions. In August 1994, FSA
entered into a facility agreement with Canadian Global Funding Corporation and
Hambros Bank Limited. Under the agreement, FSA can arrange financing for
transactions subject to certain conditions. The amount of this facility was
$186.9 million, of which $110.2 million was unutilized at March 31, 2001.
FSA has a standby line of credit in the amount of $240.0 million with a group of
international banks to provide loans to FSA after it has incurred, during the
term of the facility, cumulative municipal losses (net of any recoveries) in
excess of the greater of $240.0 million or the average annual debt service of
the covered portfolio multiplied by 5.75%, which amounted to $573.7 million at
March 31, 2001. The obligation to repay loans made under this agreement is a
limited recourse obligation payable solely from, and collateralized by, a pledge
of recoveries realized on defaulted insured obligations in the covered
portfolio, including certain installment premiums and other collateral. This
commitment has a term that will expire on April 30, 2008 and contains an annual
renewal provision subject to approval by the banks. No amounts have been
utilized under this commitment as of March 31, 2001.
The Company has no plans for material capital expenditures within the next
twelve months.
Forward-Looking Statements
This quarterly report contains forward-looking statements regarding, among other
things, the Company's plans and prospects. Important factors, including general
market conditions and the competitive environment, could cause actual results to
differ materially from those described in such forward-looking statements.
Certain of these factors are described in more detail under the heading
"Forward-Looking Statements" in Item 1 of the Company's Annual Report on Form
10-K for the year ended December 31, 2000. Forward-looking statements in this
report are expressly qualified by all such factors. The Company undertakes no
obligation to revise or update any forward-looking statements to reflect changes
in events or expectations or otherwise.
10
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
10.1 Amended and Restated 1993 Equity Participation Plan (amended and
restated as of February 15, 2001).
99 Financial statements of Financial Security Assurance Inc. for the
quarterly period ended March 31, 2001.
(b) Reports on Form 8-K
None
11
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FINANCIAL SECURITY ASSURANCE HOLDINGS LTD.
By /s/ Jeffrey S. Joseph
---------------------------------------
May 14, 2001 Jeffrey S. Joseph
Managing Director & Controller
(Chief Accounting Officer)
12
Exhibit Index
Exhibit No. Exhibit
- ----------- -------
10.1 Amended and Restated 1993 Equity Participation Plan (amended and
restated as of February 15, 2001).
99 Financial statements of Financial Security Assurance Inc. for the
quarterly period ended March 31, 2001.