- -------------------------------------------------------------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------------------------
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
---
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2006
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
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SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from ________ to ________
COMMISSION FILE NUMBER: 1-15135
CHANDLER (U.S.A.), INC.
(Exact name of registrant as specified in its charter)
OKLAHOMA 73-1325906
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1010 MANVEL AVENUE, CHANDLER, OKLAHOMA 74834
(Address of principal executive offices and zip code)
Registrant's telephone number, including area code: (405) 258-0804
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
--- ---
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange
Act.
Large accelerated filer Accelerated filer Non-accelerated filer X
--- --- ---
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). YES NO X
--- ---
The number of common shares, $1.00 par value, of the registrant
outstanding on October 31, 2006 was 2,484, which are owned by Chandler
Insurance Company, Ltd.
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Page i
CHANDLER (U.S.A.), INC.
INDEX
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PART I - FINANCIAL INFORMATION
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ITEM 1. FINANCIAL STATEMENTS:
- ------------------------------
Consolidated Balance Sheets as of September 30, 2006 and December 31, 2005 ...1
Consolidated Statements of Operations for the three months
ended September 30, 2006 and 2005 .......................................2
Consolidated Statements of Operations for the nine months
ended September 30, 2006 and 2005 .......................................3
Consolidated Statements of Comprehensive Income for the three
months ended September 30, 2006 and 2005 ................................4
Consolidated Statements of Comprehensive Income for the nine
months ended September 30, 2006 and 2005 ................................5
Consolidated Statements of Cash Flows for the nine months
ended September 30, 2006 and 2005 .......................................6
Notes to Interim Consolidated Financial Statements ...........................7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------------------------------------------------------------------------
RESULTS OF OPERATIONS ..............................................10
---------------------
ITEM 4. CONTROLS AND PROCEDURES ............................................16
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PART II - OTHER INFORMATION
- ---------------------------
Item 1. Legal Proceedings ...............................................16
Item 1A. Risk Factors ....................................................16
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds .....16
Item 3. Defaults Upon Senior Securities .................................16
Item 4. Submission of Matters to a Vote of Security Holders .............16
Item 5. Other Information ...............................................16
Item 6. Exhibits ........................................................16
Signatures ..................................................................17
PAGE 1
CHANDLER (U.S.A.), INC.
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands except share amounts)
September 30, December 31,
2006 2005
------------- ------------
ASSETS (Unaudited)
Investments
Fixed maturities available for sale, at fair value
Restricted (amortized cost $10,844 and $11,789 in 2006 and 2005, respectively).........$ 10,473 $ 11,330
Unrestricted (amortized cost $60,762 and $61,954 in 2006 and 2005, respectively)....... 59,060 60,405
Equity securities at fair value (cost $1,142 and $8,558 in 2006 and 2005,
respectively).......................................................................... 1,455 9,071
------------- ------------
Total investments...................................................................... 70,988 80,806
Cash and cash equivalents ($292 and $209 restricted in 2006 and 2005, respectively)...... 14,075 5,510
Premiums receivable, less allowance for non-collection of $174 and $223 at
2006 and 2005, respectively............................................................. 28,311 28,346
Reinsurance recoverable on paid losses................................................... 1,585 2,875
Reinsurance recoverable on paid losses from related parties.............................. 155 -
Reinsurance recoverable on unpaid losses, less allowance for non-collection of
$139 and $174 at 2006 and 2005, respectively............................................ 28,754 54,708
Reinsurance recoverable on unpaid losses from related parties............................ 14,721 14,284
Prepaid reinsurance premiums............................................................. 8,288 9,763
Prepaid reinsurance premiums to related parties.......................................... 12,862 12,247
Deferred policy acquisition costs........................................................ 996 1,225
Property and equipment, net.............................................................. 8,426 8,640
Amounts due from related parties......................................................... 9,798 9,360
State insurance licenses, net............................................................ 3,745 3,745
Other assets............................................................................. 19,158 13,550
------------- ------------
Total assets.............................................................................$ 221,862 $ 245,059
============= ============
LIABILITIES AND SHAREHOLDER'S EQUITY
Liabilities
Unpaid losses and loss adjustment expenses..............................................$ 85,911 $ 109,541
Unearned premiums....................................................................... 52,664 55,034
Policyholder deposits................................................................... 5,966 5,684
Accrued taxes and other payables........................................................ 5,482 5,221
Premiums payable........................................................................ 2,662 2,181
Premiums payable to related parties..................................................... - 113
Debentures.............................................................................. 6,979 6,979
Junior subordinated debentures issued to affiliated trusts.............................. 20,620 20,620
------------- ------------
Total liabilities...................................................................... 180,284 205,373
------------- ------------
Shareholder's equity
Common stock, $1.00 par value, 50,000 shares authorized;
2,484 shares issued and outstanding.................................................... 2 2
Paid-in surplus......................................................................... 60,584 60,584
Accumulated deficit..................................................................... (17,847) (19,913)
Accumulated other comprehensive income (loss):
Unrealized loss on investments available for sale, net of deferred income taxes......... (1,161) (987)
------------- ------------
Total shareholder's equity............................................................. 41,578 39,686
------------- ------------
Total liabilities and shareholder's equity..............................................$ 221,862 $ 245,059
============= ============
See accompanying Notes to Interim Consolidated Financial Statements.
PAGE 2
CHANDLER (U.S.A.), INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Amounts in thousands)
Three months ended September 30,
--------------------------------
2006 2005
--------------- --------------
Premiums and other revenues
Direct premiums written and assumed..................... $ 30,096 $ 35,156
Reinsurance premiums ceded.............................. (6,643) (7,862)
Reinsurance premiums ceded to related parties........... (7,195) (7,224)
--------------- --------------
Net premiums written and assumed..................... 16,258 20,070
Decrease in unearned premiums........................... (229) (3,344)
--------------- --------------
Net premiums earned.................................. 16,029 16,726
Investment income, net...................................... 7,158 705
Interest income, net from related parties................... 208 175
Realized investment gains, net.............................. 352 -
Other income................................................ 74 76
--------------- --------------
Total premiums and other revenues....................... 23,821 17,682
--------------- --------------
Operating costs and expenses
Losses and loss adjustment expenses, net of amounts
ceded to related parties of $4,175 and $3,025 in
2006 and 2005, respectively.......................... 13,789 11,073
Policy acquisition costs, net of ceding commissions
received from related parties of $2,735 and $2,928 in
2006 and 2005, respectively.......................... 3,225 2,326
General and administrative expenses..................... 3,385 3,183
Interest expense........................................ 685 640
--------------- --------------
Total operating costs and expenses................... 21,084 17,222
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Income before income taxes.................................. 2,737 460
Federal income tax provision................................ (862) (209)
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Net income.............................................. $ 1,875 $ 251
=============== ==============
See accompanying Notes to Interim Consolidated Financial Statements.
PAGE 3
CHANDLER (U.S.A.), INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Amounts in thousands)
Nine months ended September 30,
-------------------------------
2006 2005
-------------- --------------
Premiums and other revenues
Direct premiums written and assumed...................... $ 84,830 $ 91,318
Reinsurance premiums ceded............................... (16,491) (18,392)
Reinsurance premiums ceded to related parties............ (19,966) (20,509)
-------------- --------------
Net premiums written and assumed...................... 48,373 52,417
Increase (decrease) in unearned premiums................. 1,509 (3,173)
-------------- --------------
Net premiums earned................................... 49,882 49,244
Investment income, net....................................... 8,654 2,057
Interest income, net from related parties.................... 577 489
Realized investment gains, net............................... 541 3
Other income................................................. 216 199
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Total premiums and other revenues........................ 59,870 51,992
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Operating costs and expenses
Losses and loss adjustment expenses, net of amounts
ceded to related parties of $10,568 and $10,359 in
2006 and 2005, respectively........................... 35,957 26,700
Policy acquisition costs, net of ceding commissions
received from related parties of $7,583 and $7,953 in
2006 and 2005, respectively........................... 9,149 7,516
General and administrative expenses...................... 9,693 9,576
Interest expense......................................... 2,007 1,885
-------------- --------------
Total operating costs and expenses.................... 56,806 45,677
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Income before income taxes................................... 3,064 6,315
Federal income tax provision................................. (998) (2,314)
-------------- --------------
Net income............................................... $ 2,066 $ 4,001
============== ==============
See accompanying Notes to Interim Consolidated Financial Statements.
PAGE 4
CHANDLER (U.S.A.), INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(Amounts in thousands)
Three months ended September 30,
--------------------------------
2006 2005
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Net income........................................................ $ 1,875 $ 251
--------------- --------------
Other comprehensive income (loss), before income tax:
Unrealized gains (losses) on securities:
Unrealized holding gains (losses) arising during period...... 1,505 (805)
Less: Reclassification adjustment for gains included in
net income................................................. (352) -
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Other comprehensive income (loss), before income tax.............. 1,153 (805)
Income tax benefit (provision) related to items of other
comprehensive income (loss).................................... (392) 274
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Other comprehensive income (loss), net of income tax.............. 761 (531)
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Comprehensive income (loss)....................................... $ 2,636 $ (280)
=============== ==============
See accompanying Notes to Interim Consolidated Financial Statements.
PAGE 5
CHANDLER (U.S.A.), INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(Amounts in thousands)
Nine months ended September 30,
--------------------------------
2006 2005
--------------- --------------
Net income.......................................................... $ 2,066 $ 4,001
--------------- --------------
Other comprehensive loss, before income tax:
Unrealized gains (losses) on securities:
Unrealized holding gains (losses) arising during period........ 277 (849)
Less: Reclassification adjustment for gains included in
net income................................................... (541) (3)
--------------- --------------
Other comprehensive loss, before income tax......................... (264) (852)
Income tax benefit related to items of other comprehensive income... 90 290
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Other comprehensive loss, net of income tax......................... (174) (562)
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Comprehensive income................................................ $ 1,892 $ 3,439
=============== ==============
See accompanying Notes to Interim Consolidated Financial Statements.
PAGE 6
CHANDLER (U.S.A.), INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Amounts in thousands)
Nine months ended September 30,
-------------------------------
2006 2005
-------------- --------------
OPERATING ACTIVITIES
Net income........................................................... $ 2,066 $ 4,001
Add (deduct):
Adjustments to reconcile net income to cash
applied to operating activities:
Realized investment gains, net..................................... (541) (3)
Net gains (losses) on sale of property and equipment............... 5 (2)
Amortization and depreciation expense.............................. 1,024 1,114
Provision for non-collection of premiums........................... 81 106
Provision for non-collection of reinsurance recoverables........... 75 102
Net change in non-cash balances relating to operating activities:
Premiums receivable............................................... (46) (4,937)
Reinsurance recoverable on paid losses............................ 1,180 (1,207)
Reinsurance recoverable on paid losses from related parties....... (155) 83
Reinsurance recoverable on unpaid losses.......................... 25,989 (7,684)
Reinsurance recoverable on unpaid losses from related parties..... (437) (1,260)
Prepaid reinsurance premiums...................................... 1,475 (1,064)
Prepaid reinsurance premiums to related parties................... (615) 191
Deferred policy acquisition costs................................. 229 (626)
Other assets...................................................... (5,058) 3,202
Unpaid losses and loss adjustment expenses........................ (23,630) 4,403
Unearned premiums................................................. (2,370) 4,046
Policyholder deposits............................................. 282 312
Accrued taxes and other payables.................................. (158) (1,885)
Premiums payable.................................................. 481 (1,298)
Premiums payable to related parties............................... (113) 65
-------------- --------------
Cash applied to operating activities............................... (236) (2,341)
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INVESTING ACTIVITIES
Unrestricted fixed maturities available for sale:
Purchases.......................................................... (995) (3,976)
Sales.............................................................. - 2,091
Maturities......................................................... 2,726 622
Equity securities available for sale:
Purchases.......................................................... (3,178) (78)
Sales.............................................................. 11,135 -
Cost of property and equipment purchased............................ (415) (389)
Proceeds from sale of property and equipment........................ 49 70
Investment in limited partnership................................... (502) -
-------------- --------------
Cash provided by (applied to) investing activities................. 8,820 (1,660)
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FINANCING ACTIVITIES
Payments and loans from related parties............................. 1,260 1,921
Payments and loans to related parties............................... (1,698) (806)
Bank loan proceeds.................................................. 500 -
Payments on bank loan............................................... (81) -
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Cash provided by (applied to) financing activities................. (19) 1,115
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Increase (decrease) in cash and cash equivalents during the period... 8,565 (2,886)
Cash and cash equivalents at beginning of period..................... 5,510 6,870
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Cash and cash equivalents at end of period........................... $ 14,075 $ 3,984
============== ==============
See accompanying Notes to Interim Consolidated Financial Statements.
PAGE 7
CHANDLER (U.S.A.), INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
(Unaudited)
NOTE 1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Chandler
(U.S.A.), Inc. ("Chandler USA") have been prepared in accordance with generally
accepted accounting principles for interim financial information and with the
instructions to Form 10-Q and Rule 10-01 of Regulation S-X. They do not
include all information and footnotes required by generally accepted
accounting principles for complete financial statements. However, except
as disclosed herein, there have been no material changes in the information
included in Chandler USA's Annual Report on Form 10-K for the year ended
December 31, 2005. In the opinion of management, all adjustments (consisting
of normal recurring adjustments) considered necessary for a fair presentation
have been included. The results of operations for the three and nine month
periods ended September 30, 2006 are not necessarily indicative of the results
that may be expected for the year.
The consolidated financial statements include the accounts of Chandler
USA and all wholly owned subsidiaries that meet consolidation requirements
including National American Insurance Company ("NAICO") and Chandler
Insurance Managers, Inc. ("CIMI").
NOTE 2. SEGMENT INFORMATION
Chandler USA has one reportable operating segment for property and
casualty insurance. Net premiums earned and losses and loss adjustment
expenses within the property and casualty segment can be identified to
Chandler USA designated insurance programs. Chandler USA's chief operating
decision makers review net premiums earned and losses and loss adjustment
expenses in assessing the performance of an insurance program. In addition,
Chandler USA's chief operating decision makers consider many other factors
such as the lines of business offered within an insurance program and the
states in which the insurance programs are offered. Certain discrete
financial information is not readily available by insurance program,
including assets, investment income, and investment gains or losses,
allocated to each insurance program. Chandler USA does not consider its
insurance programs to be reportable segments, however, the following
supplemental information pertaining to each insurance program's net
premiums earned and losses and loss adjustment expenses is presented for
the property and casualty segment.
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------- -------------------------------
2006 2005 2006 2005
-------------- -------------- -------------- --------------
(In thousands)
INSURANCE PROGRAM
-----------------------------------------------
NET PREMIUMS EARNED
Standard property and casualty............... $ 13,832 $ 13,619 $ 40,458 $ 41,568
Political subdivisions ...................... 1,211 1,687 4,128 5,164
Homeowners .................................. 819 1,200 4,710 1,649
Surety bonds................................. 39 121 150 561
Other (1).................................... 128 99 436 302
-------------- -------------- -------------- --------------
$ 16,029 $ 16,726 $ 49,882 $ 49,244
============== ============== ============== ==============
LOSSES AND LOSS ADJUSTMENT EXPENSES
Standard property and casualty............... $ 17,822 $ 10,518 $ 33,220 $ 24,775
Political subdivisions....................... 429 996 1,918 3,155
Homeowners................................... 440 305 2,453 630
Surety bonds................................. (4,958) (897) (1,756) (1,720)
Other (1).................................... 56 151 122 (140)
-------------- -------------- -------------- --------------
$ 13,789 $ 11,073 $ 35,957 $ 26,700
============== ============== ============== ==============
<FN>
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(1) This program is comprised primarily of the run-off of other discontinued
programs and NAICO's participation in various mandatory workers compensation
pools.
PAGE 8
NOTE 3. LITIGATION
In October 1999, NAICO provided surety bonds for Gulsby Engineering, Inc.
("Gulsby") in connection with contracts between Gulf Liquids New River Project,
LLC ("Gulf Liquids") and Gulsby for the construction of two gas processing
plants in Louisiana. During 2001, Gulsby became unable to pay various vendors
resulting in payments to vendors by NAICO totaling $20,182,499. In August 2001,
NAICO filed suit in federal court in Louisiana alleging that Gulf Liquids had
breached its obligations under the bonds by materially altering certain
contracts and that, as a result, NAICO was exonerated on the bonds and should
recover the amounts paid to vendors. In the fall of 2001, Gulsby and Bay
Limited, another contractor with whom Gulsby had entered into a joint venture
for the construction of other gas processing plants for Gulf Liquids, filed
lawsuits relating to those plants in Houston, Texas. Gulf Liquids filed
original actions and counterclaims. NAICO intervened in the Texas lawsuits
and, in addition, sued Williams Energy Marketing and Trading (which later
became Williams Power Company, Inc.) ("Williams") alleging fraud, breach of
contract, tortious interference with contractual relations, conspiracy and
alter ego. These claims were asserted against both Gulf Liquids and Williams.
Gulf Liquids asserted counterclaims alleging breach of contract against NAICO
and requesting contractual and statutory damages ranging from $40 million to
$80 million. The cases were consolidated for trial in the 215th Judicial
District Court in Harris County, Texas.
The trial in the Harris County cases began in late April 2006, and
concluded August 1, 2006. The jury found in favor of NAICO and Gulsby, Bay
Limited and the joint venture between Gulsby and Bay Limited ("Gulsby-Bay
Plant Partners") on all counts and fixed damages against Gulf Liquids and
Williams totaling $402,568,089.53. The damages determined by the jury
included a total of $325 million in punitive damages. Among other findings,
the jury found:
1. Williams tortiously interfered with NAICO's contractual relationship with
Gulsby and Gulf Liquids; and
2. Williams fraudulently induced NAICO to issue the surety bonds; and
3. Williams defrauded NAICO after the bonds were issued; and
4. Williams' actions were malicious; and
5. Gulf Liquids fraudulently induced NAICO to issue the surety bonds; and
6. Gulf Liquids breached its obligations to NAICO under the bonds; and
7. Williams is responsible for the claims against Gulf Liquids because Gulf
Liquids is the alter ego of Williams; and
8. There were material alterations (cardinal changes) to the contracts NAICO
bonded.
The amounts the jury found owing to NAICO include $20,182,499 in actual
damages, against both Gulf Liquids and Williams, $20 million in punitive
damages against Gulf Liquids, and $50 million in punitive damages against
Williams. The verdicts in favor of Gulsby included $20,941,436 in actual
damages against both Gulf Liquids and Williams, $25 million in punitive
damages against Gulf Liquids and $60 million in punitive damages against
Williams.
NAICO is subrogated to any recovery by Gulsby to the extent of NAICO's
losses on the bonds including loss adjustment expenses with interest from the
date the losses and loss expenses were paid.
A significant amount of NAICO's losses on the surety bonds were ceded to
various reinsurers and NAICO will be required to reimburse these reinsurers in
accordance with the agreements between NAICO and the reinsurers.
On October 30, 2006, NAICO filed its Motion for Entry of Judgment
requesting that the Trial Court enter judgment on the jury verdicts for a
total of $100,577,559 plus court costs and anticipated attorney fees for
appeals. This request for judgment will be reviewed by the Trial Court and
a judgment entered after the Trial Court has considered objections by Williams
and Gulf Liquids. Of the total requested judgment, $70,000,000 is punitive
damages and $8,328,824 is prejudgment interest through November 1, 2006.
Prejudgment interest accrues at the rate of $4,561 per day based upon an
8.25% interest rate. NAICO has requested attorney fees of $4,566,236 through
entry of judgment. This request for attorney fees does not include amounts
paid on behalf of Gulsby for which Gulsby has agreed to indemnify NAICO.
Gulsby will file a separate motion for judgment that will include a request
for these fees. The request for judgment takes into account mandatory
credits for a pre-verdict settlement with parties other than Williams and
Gulf Liquids. NAICO expects the Trial Court to enter judgment based upon
its request during the fourth quarter of 2006 or the first quarter of 2007.
When entering judgment, the Court may enter judgment based upon NAICO's
request or may enter a different judgment. After judgment is entered, all
parties may file post-judgment motions. Following the Court's rulings on
post-judgment motions, all parties may appeal all or any of those rulings
or judgments.
PAGE 9
During the third quarter of 2006, NAICO recorded a partial recovery and
increased the estimated recovery on the surety bond claims related to the
construction of the two gas processing plants which resulted in a decrease
in losses and loss adjustment expenses incurred of $4.7 million. In
addition, unpaid losses and loss adjustment expenses decreased $20.2 million,
reinsurance recoverable on unpaid losses and loss adjustment expenses
decreased $16.8 million, and reinsurance recoverable on paid losses and loss
adjustment expenses decreased $1.2 million. NAICO also recorded $6.3 million
of accrued interest income for its estimate of prejudgment interest through
September 30, 2006. Prejudgment interest will continue to accrue at 8.25%.
NOTE 4. COMMITMENTS AND CONTINGENCIES
During March 2001, Chandler USA entered into a $3.8 million sale and
leaseback transaction for certain owned equipment for a three year term.
During March 2004, the lease was extended for an additional three years with
monthly rental installments equal to the sum of (i) $17,512 plus (ii) interest
on the unpaid lease balance at a floating interest rate of 1% over JP Morgan
Chase Bank prime, which was 9.25% at September 30, 2006. Chandler USA has
exercised its option to repurchase the equipment at the end of the lease for
approximately $2.4 million.
Chandler USA has guaranteed the obligations of Chandler Capital Trust I
and Chandler Capital Trust II (the "Capital Trusts"). The Capital Trusts are
wholly owned non-consolidated subsidiaries of Chandler USA that have a total
of $20 million of trust preferred securities outstanding. Chandler USA
guarantees payment of distributions and the redemption price of the trust
preferred securities until the securities are redeemed in full.
NOTE 5. NEW ACCOUNTING STANDARDS
In February 2006, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 155,
"Accounting for Certain Hybrid Financial Instruments - an amendment of FASB
Statements No. 133 and 140." SFAS 155 amends SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities," and SFAS No. 140, "Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities." This Statement also resolves issues addressed in Statement
No. 133 Implementation Issue No. D1, "Application of Statement 133 to
Beneficial Interests in Securitized Financial Assets." SFAS 155 permits
fair value remeasurement for any hybrid financial instrument that contains
an embedded derivative that otherwise would require bifurcation and clarifies
which interest-only strips and principal-only strips are not subject to the
requirements of SFAS 133. SFAS 140 is amended to eliminate the prohibition
on a qualifying special-purpose entity from holding a derivative financial
instrument that pertains to a beneficial interest other than another
derivative financial instrument. SFAS 155 is effective for all financial
instruments acquired or issued during fiscal years beginning after September
15, 2006. Chandler USA does not expect this statement to have a material
impact on its consolidated financial statements.
In March 2006, the FASB issued SFAS No. 156, "Accounting for Servicing
of Financial Assets - an amendment of FASB Statement No. 140." SFAS No. 156
amends SFAS 140, "Accounting for Transfers and Servicing of Financial Assets
and Extinguishments of Liabilities." SFAS 156 requires an entity to
separately recognize financial assets as servicing assets or servicing
entities each time it undertakes an obligation to service a financial asset
by entering into certain kinds of servicing contracts. The entity must also
initially measure all separately recognized servicing assets and servicing
liabilities at fair value, if practicable. Servicing assets and servicing
liabilities subsequently measured at fair value must be separately presented
in the statement of financial position and additional disclosures for all
separately recognized servicing assets and servicing liabilities. SFAS 156
is effective for Chandler USA's fiscal year beginning January 1, 2007.
Chandler USA does not expect this statement to have a material impact on
its consolidated financial statements.
In July 2006, the FASB issued FASB Interpretation ("FIN") No. 48,
"Accounting for Uncertainty in Income Taxes," which clarifies the accounting
for uncertainty in income taxes recognized in the financial statements in
accordance with SFAS No. 109, "Accounting for Income Taxes." Fin 48 provides
guidance regarding the recognition, measurement, presentation and disclosure
of a tax position taken or expected to be taken in a tax return as well as
the derecognition of a tax position previously recognized in the financial
statements. Chandler USA will be required to adopt FIN 48 as of January 1,
2007. Chandler USA does not expect this statement to have a material impact
on its consolidated financial statements.
PAGE 10
In September 2006, the FASB issued SFAS No. 157, "Fair Value
Measurements," which defines fair value, establishes a framework for
measuring fair value in generally accepted accounting principles, and expands
disclosures about fair value measurements. The statement does not require
new fair value measurements, but is applied to the extent that other
accounting pronouncements require or permit fair value measurements. The
statement emphasizes that fair value is a market-based measurement that
should be determined based on the assumptions that market participants would
use in pricing an asset or liability. Companies will be required to disclose
the extent to which fair value is used to measure assets and liabilities, the
inputs used to develop the measurements, and the effect of certain of the
measurements on earnings (or changes in net assets) for the period. Chandler
USA will be required to adopt SFAS No. 157 as of January 1, 2008. Chandler
USA does not expect this statement to have a material impact on its
consolidated financial statements.
In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting
for Defined Benefit Pension and Other Postretirement Plans - an amendment of
FASB Statements No. 87, 88, 106, and 132(R)." This statement requires the
company to recognize the funded status of its defined benefit postretirement
plans as an asset or liability in its financial statements. In addition,
the statement eliminates the use of a measurement date that is different
than the date of the company's year-end financial statements. Chandler USA
will be required to adopt SFAS No. 158 as of December 31, 2006. Chandler USA
does not expect this statement to have a material impact on its consolidated
financial statements.
NOTE 6. CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS
During the second quarter of 2006, CIMI purchased two limited partnership
units in Basin Drilling #2 LP for $2,000, and purchased 8% cumulative
subordinated debentures in the amount of $500,000. The timing of payment of
interest and principal on the debentures is subject to various restrictions
contained in the cumulative subordinated debenture note. The purpose of the
partnership is to own and operate an oil and gas drilling rig.
CIMI financed the purchase with a $500,000 variable rate bank loan.
Principal and interest payments are due on the bank loan in five quarterly
installments beginning September 1, 2006. Interest is payable at 1% over New
York Prime, which was 9.25% at September 30, 2006.
The partnership is managed by Basin Management, LLC ("BMLLC") who is the
General Partner. A director of NAICO and Chandler USA is the Manager for
BMLLC, and is also a director of the bank and a significant shareholder of
the bank holding company that provided the bank loan described above.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Some of the statements made in this Form 10-Q report, as well as
statements made by Chandler (U.S.A.), Inc. ("Chandler USA") in periodic
press releases and oral statements made by Chandler USA's officials
constitute "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Such forward-looking statements
involve known and unknown risks, uncertainties and other factors that may
cause the actual results, performance or achievements of Chandler USA to be
materially different from any future results, performance or achievements
expressed or implied by the forward-looking statements. Such factors
include, among other things, (i) general economic and business conditions;
(ii) interest rate changes; (iii) competition and regulatory environment in
which Chandler USA and its subsidiaries operate, including the ability to
implement price increases; (iv) claims frequency; (v) claims severity; (vi)
catastrophic events of unanticipated frequency or severity; (vii) the number
of new and renewal policy applications submitted to National American
Insurance Company ("NAICO") by its agents; (viii) the ability of NAICO to
obtain adequate reinsurance in amounts and at rates that will not adversely
affect its competitive position; (ix) the ability of NAICO to collect
reinsurance recoverables; (x) the ability of NAICO to maintain favorable
insurance company ratings; and (xi) various other factors.
PAGE 11
RESULTS OF OPERATIONS
PREMIUMS EARNED
The following table sets forth premiums earned on a gross basis (before
reductions for premiums ceded to reinsurers) and on a net basis (after such
reductions) for each insurance program for the three and nine month periods
ended September 30, 2006 and 2005:
GROSS PREMIUMS EARNED NET PREMIUMS EARNED
--------------------- ---------------------
THREE MONTHS ENDED SEPTEMBER 30, 2006 2005 2006 2005
----------------------------------------- ---------- ---------- ---------- ----------
(In thousands)
Standard property and casualty........... $ 23,091 $ 22,588 $ 13,832 $ 13,619
Political subdivisions................... 3,406 4,596 1,211 1,687
Homeowners............................... 1,924 1,494 819 1,200
Surety bonds............................. 57 172 39 121
Other.................................... 128 101 128 99
---------- ---------- ---------- ----------
TOTAL.................................... $ 28,606 $ 28,951 $ 16,029 $ 16,726
========== ========== ========== ==========
GROSS PREMIUMS EARNED NET PREMIUMS EARNED
--------------------- ---------------------
NINE MONTHS ENDED SEPTEMBER 30, 2006 2005 2006 2005
----------------------------------------- ---------- ---------- ---------- ----------
(In thousands)
Standard property and casualty........... $ 67,860 $ 69,723 $ 40,458 $ 41,568
Political subdivisions................... 11,276 14,432 4,128 5,164
Homeowners............................... 7,410 2,012 4,710 1,649
Surety bonds............................. 215 798 150 561
Other.................................... 438 307 436 302
---------- ---------- ---------- ----------
TOTAL.................................... $ 87,199 $ 87,272 $ 49,882 $ 49,244
========== ========== ========== ==========
Gross premiums earned decreased $345,000 or 1% and $73,000 or less than 1%
in the third quarter and first nine months of 2006, respectively, compared to
the 2005 periods. Net premiums earned decreased $697,000 or 4% and increased
$638,000 or 1% for the third quarter and first nine months of 2006,
respectively.
Gross premiums earned in the standard property and casualty program
increased $503,000 or 2% and decreased $1.9 million or 3% in the third quarter
and first nine months of 2006, respectively, compared to the 2005 periods.
Gross premiums earned in Texas decreased $1.6 million and $6.8 million in the
third quarter and first nine months of 2006, respectively, compared to the
2005 periods while gross premiums earned in Oklahoma increased $1.2 million and
$3.3 million in the respective periods compared to the 2005 periods. The
decrease in Texas premiums was due primarily to a reduction in the number of
agents producing this business for NAICO, as NAICO has been focusing on
increasing premium production in the Oklahoma market. Net premiums earned in
this program increased $213,000 or 2% and decreased $1.1 million or 3% in the
third quarter and first nine months of 2006, respectively, compared to the 2005
periods.
Gross premiums earned in the political subdivisions program decreased
$1.2 million or 26% and $3.2 million or 22% in the third quarter and first
nine months of 2006, respectively, compared to the 2005 periods. The decrease
in gross premiums earned is due primarily to increased competition in the
school districts portion of the program in Oklahoma. Net premiums earned in
this program decreased $476,000 or 28% and $1.0 million or 20% in the third
quarter and first nine months of 2006, respectively. The decrease in net
premiums earned was significantly less than the decrease in gross premiums
earned because this program has a larger portion of property risks than other
programs, and property risks have more reinsurance than other lines of
business.
In 2005, NAICO began writing homeowner and dwelling policies in the state
of Texas through a managing general agent. Gross premiums earned in this
program increased $430,000 or 29% and $5.4 million or 268% in the third
quarter and first nine months of 2006, respectively, compared to the 2005
periods. Net premiums earned decreased $381,000 or 32% and increased $3.1
million or 186% in the third quarter and first nine months of 2006,
respectively. The decrease in net premiums earned in the third quarter of
2006 was due to an increase in the cost of reinsurance covering catastrophic
exposures. NAICO discontinued this program during the second quarter of 2006
due primarily to increased catastrophe exposures and will runoff the business
it has written.
PAGE 12
Gross premiums earned in the surety bond program decreased $115,000 or
67% and $583,000 or 73% in the third quarter and first nine months of 2006,
respectively, compared to the 2005 periods. Net premiums earned in the surety
bond program decreased $82,000 or 68% and $411,000 or 73% in the third quarter
and first nine months of 2006, respectively. NAICO is no longer actively
marketing its surety bond program.
LITIGATION
On August 1, 2006, a jury trial concluded in Harris County, Texas,
related to the construction of two gas processing plants in Louisiana. NAICO
had provided surety bonds in connection with the construction of these plants.
The amounts the jury found owing to NAICO include approximately $20.2 million
in actual damages and $70.0 million in punitive damages. See Note 3 of Notes
to Interim Consolidated Financial Statements for a discussion of this jury
verdict.
On October 30, 2006, NAICO filed its Motion for Entry of Judgment
requesting that the Trial Court enter judgment for a total of $100.6 million
plus court costs and anticipated attorney fees for appeals. This amount
includes $70.0 million in punitive damages, $8.3 million in prejudgment
interest through October 31, 2006, and attorney fees of $4.6 million through
entry of judgment. NAICO expects the Trial Court to enter judgment based
upon its request during the fourth quarter of 2006 or the first quarter of
2007. When entering judgment, the Court may enter judgment based upon
NAICO's request or may enter a different judgment.
During the third quarter of 2006, NAICO recorded a partial recovery and
increased the estimated recovery on the surety bond claims related to the
construction of the two gas processing plants which resulted in a decrease in
losses and loss adjustment expenses incurred of $4.7 million. In addition,
unpaid losses and loss adjustment expenses decreased $20.2 million,
reinsurance recoverable on unpaid losses and loss adjustment expenses
decreased $16.8 million, and reinsurance recoverable on paid losses and loss
adjustment expenses decreased $1.2 million. NAICO also recorded $6.3 million
of accrued interest income for its estimate of prejudgment interest through
September 30, 2006. Prejudgment interest will continue to accrue at 8.25%.
NET INVESTMENT INCOME AND NET REALIZED INVESTMENT GAINS
At September 30, 2006, Chandler USA's investment portfolio consisted
primarily of fixed income U.S. Treasury and government agency bonds,
high-quality corporate bonds, equity securities and mutual funds that invest
in equity securities, with approximately 17% invested in cash and money
market instruments. Income generated from this portfolio is largely
dependent upon prevailing levels of interest rates. Chandler USA's portfolio
contains no non-investment grade bonds or real estate investments. Chandler
USA also receives interest income from related parties on intercompany loans.
Net investment income included $6.3 million in prejudgment interest
income accrued for a favorable jury verdict in civil litigation regarding
certain surety bond claims in the third quarter of 2006. See "LITIGATION"
and Note 3 of Notes to Interim Consolidated Financial Statements for a
discussion of this jury verdict. Net investment income, excluding interest
income from this jury verdict and from related parties, increased $129,000
or 18% and $273,000 or 13% in the third quarter and first nine months of 2006,
respectively, due to an increase in invested assets and to higher interest
rates in 2006. Cash and invested assets were $85.1 million at September 30,
2006 compared to $84.1 million at September 30, 2005. Net interest income
from related parties increased $33,000 or 19% and $88,000 or 18% in the third
quarter and first nine months of 2006, respectively, due primarily to higher
interest rates during 2006.
Chandler USA had net realized investment gains of $352,000 during the
third quarter of 2006. There were no net realized investment gains during
the third quarter of 2005. Net realized investment gains were $541,000
during the first nine months of 2006 compared to $3,000 during the first
nine months of 2005. The net realized gains in 2006 were from sales of
equity securities.
LOSSES AND LOSS ADJUSTMENT EXPENSES
Chandler USA estimates losses and loss adjustment expenses based on
historical experience and payment and reporting patterns for the type of risk
involved. These estimates are based on data available at the time of the
estimate and are periodically reviewed by independent professional actuaries.
Although such estimates are management's best estimates of the expected
values, the ultimate liability for unpaid claims may vary from these values.
PAGE 13
The percentage of losses and loss adjustment expenses to net premiums
earned ("loss ratio") was 86.0% and 72.1% for the third quarter and first
nine months of 2006, compared to 66.2% and 54.2% in the corresponding 2005
periods. The increase in the 2006 loss ratios was due primarily to an
increase in losses incurred in the current and the 2005 accident years in
the standard property and casualty program. In the third quarter and first
nine months of 2006, losses and loss adjustment expenses incurred related to
prior accident years were $958,000 and $4.8 million, respectively, and
increased the respective loss ratios by 6.0 and 9.7 percentage points. An
increase in losses incurred in the 2005 accident year of $4.7 million in the
third quarter of 2006 was largely offset by a reduction in losses incurred in
the 2001 accident year of $4.4 million, primarily in the surety bond program.
The reduction in surety bond losses resulted from NAICO recording a partial
recovery and increasing the estimated recovery on claims related to the
construction of two gas processing plants in Louisiana. See "LITIGATION" and
Note 3 of Notes to Interim Consolidated Financial Statements for more
information. During 2005, adverse loss development totaling $3.6 million and
$5.4 million for the third quarter and first nine months of 2005,
respectively, increased the respective loss ratios by 21.5 and 11.0
percentage points. The adverse loss development in 2005 was due primarily to
an increase in losses for prior accident years in the standard property and
casualty program and the political subdivisions program. This was partially
offset by a reduction in losses for prior accident years in the surety bond
program.
Weather-related losses from wind and hail totaled $93,000 and $652,000
in the third quarter and first nine months of 2006 and increased the
respective loss ratios by 0.6 and 1.3 percentage points. Weather-related
losses totaled $225,000 and $350,000 in the third quarter and first nine
months of 2005, and increased the respective 2005 loss ratios by 1.3 and 0.7
percentage points.
POLICY ACQUISITION COSTS
Policy acquisition costs consist of costs associated with the
acquisition of new and renewal business and generally include direct costs
such as premium taxes, commissions to agents and ceding companies and
premium-related assessments and indirect costs such as salaries and expenses
of personnel who perform and support underwriting activities. NAICO also
receives ceding commissions from the reinsurers who assume premiums from
NAICO under certain reinsurance contracts and the ceding commissions are
accounted for as a reduction of policy acquisition costs. Direct policy
acquisition costs and ceding commissions are deferred and amortized over the
terms of the policies. When the sum of anticipated losses, loss adjustment
expenses and unamortized policy acquisition costs exceeds the related unearned
premiums, including anticipated investment income, a provision for the
indicated deficiency is recorded.
The following table sets forth Chandler USA's policy acquisition costs
for each of the three and nine month periods ended September 30, 2006 and
2005:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ ------------------
2006 2005 2006 2005
-------- -------- -------- --------
(In thousands)
Commissions expense......................... $ 4,026 $ 5,186 $ 12,176 $ 12,779
Other premium related assessments........... 346 408 848 852
Premium taxes............................... 563 (57) 1,745 1,269
Excise taxes................................ 72 72 200 205
Other expense............................... 191 157 569 509
-------- -------- -------- --------
Total direct expenses....................... 5,198 5,766 15,538 15,614
Indirect underwriting expenses.............. 1,547 1,494 4,546 4,835
Commissions received from reinsurers........ (4,425) (5,332) (11,163) (12,307)
Adjustment for deferred acquisition costs... 905 398 228 (626)
-------- -------- -------- --------
Net policy acquisition costs................ $ 3,225 $ 2,326 $ 9,149 $ 7,516
======== ======== ======== ========
Total gross direct and indirect expenses as a percentage of direct
written and assumed premiums were 22.4% and 23.7% for the third quarter and
first nine months of 2006, compared to 20.7% and 22.4% in the corresponding
year ago periods. Commission expense as a percentage of gross written and
assumed premiums was 13.4% and 14.4% in the second quarter and the first nine
months of 2006 compared to 14.8% and 14.0% in the corresponding 2005 periods.
PAGE 14
Premium taxes increased by $620,000 in the third quarter of 2006 compared
to the third quarter of 2005. The increase is due to Oklahoma premium tax
credits totaling $674,000 that were utilized in the third quarter of 2005.
These credits were received in connection with NAICO's purchase of common
units in an Oklahoma rural small business capital company.
Indirect underwriting expenses were 5.1% and 5.4% of total direct
written and assumed premiums in the third quarter and first nine months of
2006, respectively, compared to 4.2% and 5.3% in the corresponding 2005
periods. Indirect expenses include general overhead and administrative
costs associated with the acquisition of new and renewal business, some of
which is relatively fixed in nature, thus, the percentage of such expenses
to direct written and assumed premiums will vary depending on Chandler USA's
overall premium volume. Commissions received from reinsurers as a percent
of ceded reinsurance premiums were 32.0% and 30.6% in the third quarter and
first nine months of 2006, respectively, compared to 35.3% and 31.6% in the
corresponding 2005 periods.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses were 11.8% and 11.1% of gross
premiums earned in the third quarter and first nine months of 2006,
respectively, compared to 11.0% for both of the corresponding 2005 periods.
General and administrative expenses have historically not varied in direct
proportion to Chandler USA's revenues. A portion of such expenses is allocated
to policy acquisition costs (indirect underwriting expenses) and loss and loss
adjustment expenses based on various factors including employee counts,
salaries, occupancy and specific identification. Because certain types of
expenses are fixed in nature, the percentage of such expenses to revenues will
vary depending on Chandler USA's overall premium volume.
INTEREST EXPENSE
Interest expense increased $45,000 and $122,000 in the third quarter
and first nine months of 2006, respectively, compared to the 2005 periods.
Substantially all of Chandler USA's interest expense is related to its
outstanding senior debentures and junior subordinated debentures. The
increase in the 2006 periods was due primarily to the increase in interest
rates during 2005 and 2006, as a portion of Chandler USA's junior
subordinated debentures were issued with a floating interest rate.
LIQUIDITY AND CAPITAL RESOURCES
In the first nine months of 2006, Chandler USA used $236,000 in cash
from operations. Cash used by operations included a decrease in prepaid
reinsurance premiums of $1.5 million. This was offset by a decrease in
unearned premiums of $2.4 million. Unpaid losses and loss adjustment
expenses decreased $23.6 million during the first nine months of 2006. This
was offset by a decrease in reinsurance recoverable on unpaid losses of
$25.6 million. The decreases in unpaid losses and loss adjustment expenses
and in reinsurance recoverable on unpaid losses were primarily due to the
recording of estimated recoveries as a result of a favorable jury verdict in
civil litigation regarding certain surety bond claims in the third quarter
of 2006. A significant amount of these estimated recoveries were ceded to
various reinsurers. See "Litigation" and Note 3 of Notes to Interim
Consolidated Financial Statements for a discussion of this jury verdict. In
the first nine months of 2005, Chandler USA used $2.3 million in cash from
operations.
At September 30, 2006, Chandler Insurance owed approximately $9.8
million to Chandler USA versus $9.4 million at December 31, 2005 under an
Intercompany Credit Agreement (the "Credit Agreement") covering intercompany
loans between the parties. The Credit Agreement requires interest to be paid
at the prime interest rate published in the Wall Street Journal each month,
and balances owed by either party are payable at any time upon demand.
During March 2001, Chandler USA entered into a $3.8 million sale and
leaseback transaction for certain owned equipment for a three year term.
During March 2004, the lease was extended for an additional three years with
monthly rental installments equal to the sum of (i) $17,512 plus (ii) interest
on the unpaid lease balance at a floating interest rate of 1% over JP Morgan
Chase Bank prime, which was 9.25% at September 30, 2006. Chandler USA has
exercised its option to repurchase the equipment at the end of the lease for
approximately $2.4 million.
PAGE 15
Chandler USA is a holding company receiving cash principally through
borrowings, subsidiary dividends and other payments, subject to various
regulatory restrictions. The capacity of insurance companies to write
insurance is based on maintaining liquidity and capital resources sufficient
to pay claims and expenses as they become due. The primary sources of
liquidity for Chandler USA's subsidiaries are funds generated from insurance
premiums, investment income, capital contributions from Chandler USA and
proceeds from sales and maturities of portfolio investments. The principal
expenditures are payment of losses and loss adjustment expenses, insurance
operating expenses and commissions.
A significant portion of Chandler USA's consolidated assets represents
assets of NAICO that may not be immediately transferable to Chandler USA in
the form of shareholder dividends, loans, advances or other payments.
Statutes and regulations governing NAICO and other insurance companies
domiciled in Oklahoma regulate the payment of shareholder dividends and other
payments by NAICO to Chandler USA. Under applicable Oklahoma statutes and
regulations, NAICO is permitted to pay shareholder dividends only out of
statutory earned surplus. To the extent NAICO has statutory earned surplus,
NAICO may pay shareholder dividends only to the extent that such dividends
are not defined as extraordinary dividends or distributions. If the
dividends are, under applicable statutes and regulations, extraordinary
dividends or distributions, regulatory approval must be obtained. Under the
applicable Oklahoma statute, and subject to the availability of statutory
earned surplus, the maximum shareholder dividend that may be declared (or
cash or property distribution that may be made) by NAICO in any one calendar
year without regulatory approval is the greater of (i) NAICO's statutory net
income, excluding realized capital gains, for the preceding calendar year;
or (ii) 10% of NAICO's statutory policyholders' surplus as of the preceding
calendar year end, not to exceed NAICO's statutory earned surplus.
As of December 31, 2005, NAICO had statutory earned surplus of $9.6
million. Applying the Oklahoma statutory limits described above, the maximum
shareholder dividend NAICO may pay in 2006 without the approval of the
Oklahoma Department of Insurance is $5.7 million. NAICO did not pay any
shareholder dividends to Chandler USA in 2005 or the first nine months of
2006.
In addition to the statutory limits described above, the amount of
shareholder dividends and other payments to affiliates can be further limited
by contractual or regulatory restrictions or other agreements with regulatory
authorities restricting dividends and other payments, including regulatory
restrictions that are imposed as a matter of administrative policy. If
insurance regulators determine that payment of a shareholder dividend or
other payments to an affiliate (such as payments under a tax sharing
agreement, payments for employee or other services, or payments pursuant to
a surplus note) would be hazardous to such insurance company's policyholders
or creditors, the regulators may block such payments that would otherwise be
permitted without prior approval.
Historically, NAICO has played a significant role in the servicing of
debt and other obligations of Chandler USA through the payment of
shareholder dividends. These obligations include $7.0 million of 8.75%
senior debentures due in 2014, $13.4 million of 9.75% junior subordinated
debentures due in 2033, $7.2 million of floating rate junior subordinated
debentures due in 2034 and the obligations under the sale and leaseback
transaction discussed previously. Management's expectation is that Chandler
Insurance or other subsidiaries will be able to meet these obligations in
the future. It is possible that dividends from NAICO may be necessary to
service Chandler USA's debt obligations. To the extent that the
restrictions discussed previously limit NAICO's ability to pay shareholder
dividends or other payments to Chandler USA, Chandler USA's ability to
satisfy the debt obligations may also be limited.
A.M. BEST RATING
Effective May 26, 2006, A.M. Best Company affirmed the financial
strength rating of B+ (Very Good) and assigned an issuer credit rating
(ICR) of "bbb-" to NAICO. Concurrently, A.M. Best has affirmed the ICR
of "bb-" of NAICO's parent, Chandler USA, and the debt rating of "bb-" on
Chandler USA's 8.75% senior unsecured debentures due 2014. A.M. Best's
outlook for all ratings remains negative.
As reported by A.M. Best, these rating actions reflect NAICO's
capitalization and management's corrective actions in recent years,
including significantly increasing rates, reducing exposures, improving
risk selection and tightening policy terms and conditions. Offsetting the
positive rating factors has been the occurrence of adverse loss reserve
development between 2001 and 2005. Although the majority of the adverse
development during this period impacted accident years 1997 through 2001,
more recent accident years began to develop adversely in 2005.
PAGE 16
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
As of the end of the period covered by this report and pursuant to Rule
13a-15 of the Securities Exchange Act of 1934 (the "Exchange Act"), Chandler
USA's management, including the Chief Executive Officer and Chief Financial
Officer, conducted an evaluation of the effectiveness and design of Chandler
USA's disclosure controls and procedures (as that term is defined in Rules
13a-15(e) and 15d-15(e) of the Exchange Act). Based upon that evaluation,
Chandler USA's Chief Executive Officer and Chief Financial Officer concluded,
as of the end of the period covered by this report, that Chandler USA's
disclosure controls and procedures were effective in recording, processing,
summarizing and reporting information required to be disclosed by Chandler
USA, within the time periods specified in the Securities and Exchange
Commission's rules and forms.
CHANGES IN INTERNAL CONTROLS
In addition and as of the end of the period covered by this report,
there have been no changes in internal control over financial reporting (as
defined in Rule 13a-15(f) and 15d-15(f) of the Exchange Act) during the
quarter to which this report relates that have materially affected or are
reasonably likely to materially affect, the internal control over financial
reporting.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
-----------------
Chandler USA and its subsidiaries are not parties to any material
litigation other than as is routinely encountered in their respective
business activities. While the outcome of these matters cannot be
predicted with certainty, Chandler USA does not expect these
matters to have a material adverse effect on its financial condition,
results of operations or cash flows. See Note 3 of Notes to Interim
Consolidated Financial Statements for a discussion of a favorable
jury verdict in civil litigation regarding certain surety bond
claims.
Item 1A. Risk Factors
------------
There have been no material changes from risk factors previously
disclosed in our Annual Report on Form 10-K for the year ended
December 31, 2005.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
-----------------------------------------------------------
None.
Item 3. Defaults Upon Senior Securities
-------------------------------
None.
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
None.
Item 5. Other Information
-----------------
None.
Item 6. Exhibits
--------
31.1 Rule 13a-14(a)/15d-14(a) Certifications.
32.1 Section 1350 Certifications.
PAGE 17
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.
Date: November 13, 2006 CHANDLER (U.S.A.), INC.
By: /s/ W. Brent LaGere
-----------------------------------
W. Brent LaGere
Chairman of the Board and
Chief Executive Officer
(Principal Executive Officer)
By: /s/ Mark C. Hart
-----------------------------------
Mark C. Hart
Sr. Vice President - Finance, Chief
Financial Officer and Treasurer
(Principal Accounting Officer)