SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year end Commission File Number
December 31, 2000 0-671
MOTOR CLUB OF AMERICA
(Exact name of registrant as specified in its charter)
New Jersey 22-0747730
(State of incorporation) (I.R.S. Employer Identification No.)
95 Route 17 South, Paramus, New Jersey 07653
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (201)291-2000
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock (par value) $.50 per share
(Title of Class)
Indicate by check mark whether the registrant (l) 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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [x]
The aggregate market value of the voting Common Stock (par value $.50 per share)
held by non-affiliates on March 23, 2000 was $7,653,221 based on the closing
selling price of $7.188 per share.
2,124,387 shares of Common Stock were outstanding as of March 23,
2001.
Documents Incorporated by Reference: Portions of the Registrant's definitive
proxy statement issued in conjunction with the June 6, 2001 Annual Meeting of
Shareholders (Part III).
MOTOR CLUB OF AMERICA
ANNUAL REPORT ON FORM 10-K
DECEMBER 31, 2000
PAGE
PART I
ITEM 1. BUSINESS 4
ITEM 2. PROPERTIES 41
ITEM 3. LEGAL PROCEEDINGS 41
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF 41
SECURITY HOLDERS
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY 43
AND RELATED STOCKHOLDER MATTERS
ITEM 6. SELECTED FINANCIAL DATA 44
ITEM 7. MANAGEMENT'S DISCUSSION AND 45
ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
ITEM 8. FINANCIAL STATEMENTS AND 72
SUPPLEMENTARY DATA
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH 72
ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF 72
THE REGISTRANT
ITEM 11. EXECUTIVE COMPENSATION 72
ITEM 12. SECURITY OWNERSHIP OF CERTAIN 72
BENEFICIAL OWNERS AND MANAGEMENT
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED 72
TRANSACTIONS
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS 73
SCHEDULES AND REPORTS ON FORM 8-K
Cautionary Statement
This Report on Form 10-K contains statements that are not historical facts
and are considered "forward-looking statements" (as defined in the Private
Securities Litigation Reform Act of 1995), which can be identified by terms such
as "believes", "expects", "may", "will", "should", "anticipates", the negatives
thereof, or by discussions of strategy. Certain statements contained herein are
forward-looking statements that involve risks, uncertainties, opinions and
predictions, and no assurance can be given that the future results will be
achieved since events or results may differ materially as a result of risks
facing the Company. These include, but are not limited to, the cyclical nature
of the property casualty insurance industry, the impact of competition, product
demand and pricing, claims development and the process of estimating reserves,
the level of the Company's retentions, catastrophe and storm losses, legislative
and regulatory developments, changes in the ratings assigned to the Company by
rating agencies, investment results, availability of reinsurance, availability
of dividends from our insurance company subsidiaries, investing substantial
amounts in our information systems and technology, the ability of our reinsurers
to pay reinsurance recoverables owed to us, our entry into new markets, our
acquisition of North East Insurance Company on September 24, 1999, our
acquisition of Mountain Valley Indemnity Company on March 1, 2000, our
successful integration of these acquisitions, potential future tax liabilities
related to an insolvent subsidiary and state regulatory and legislative actions
which can affect the profitability of certain lines of business and impede our
ability to charge adequate rates, and other risks
detailed from time to time in the Company's filings with the Securities and
Exchange Commission, including this Annual Report on Form 10-K.
PART I
Item 1. Business
(a) General Development of Business
Motor Club of America (the "Registrant") and a group of directly or
indirectly wholly-owned subsidiaries of which the Registrant is parent are known
as the "Motor Club of America Companies" (the "Motor Club of America Group") and
provide property and casualty insurance services. The Registrant, incorporated
in New Jersey in 1933 as "Automobile Association of New Jersey", is the
successor to a New Jersey corporation organized in 1926. The present name was
adopted in 1958.
Unless otherwise indicated all references in this Form 10-K to "Motor Club
of America", "we", "us", "our" "the Company" or similar terms refer to Motor
Club of America together with its subsidiaries.
We own and operate five regionally focused property and casualty insurance
companies, including companies that specialize in small and mid-sized commercial
insurance.
The Preserver Insurance Group consists of Preserver Insurance Company
("Preserver"), which writes small commercial and homeowners insurance presently
in New Jersey, and Mountain Valley Indemnity Company ("Mountain Valley"), which
writes small and mid-sized commercial insurance presently in New England and New
York. American Colonial Insurance Company ("American
Colonial") plans to commence operations in New York in 2001, writing commercial
lines in tandem with Mountain Valley.
North East Insurance Company ("North East") writes personal automobile
("PPA") and small commercial lines insurance in the State of Maine. Motor Club
of America Insurance Company ("Motor Club") writes PPA insurance in New Jersey.
We are pursuing a strategy to: (1) increase our identification as a
provider of small commercial lines insurance and have continued to expand our
product lines in support of this objective; and (2) expand and diversify our
insurance operations outside the State of New Jersey. We believe that both of
these objectives can be attained through the acquisition of other insurance
companies, which present opportunities to write these product lines in different
geographic areas, and we expect to continue to follow this strategy.
On September 24, 1999, we acquired North East and its subsidiaries, which
include American Colonial. North East was incorporated in 1965 in the State of
Maine. American Colonial was incorporated in 1982 and has not written any
insurance coverage since March 1990. American Colonial is domiciled in New York.
On March 1, 2000, we acquired Mountain Valley, which was incorporated in 1995 in
the State of New Hampshire.
We believe that these acquisitions fully establish us as a regional
commercial lines company in New England and the Mid-Atlantic regions. Motor
Club, Preserver, Mountain Valley, North East and American Colonial are
collectively referred to as the "Insurance Companies" in this Form 10-K.
The Company has restated certain financial information for prior periods,
which is discussed in Note V of the Notes to Consolidated Financial Statements.
(b) Financial Information About Segments
We have four segments, which consist of the active insurance subsidiaries
and a corporate segment. Financial information about these segments is set forth
in Note T of the Notes to Consolidated Financial Statements.
(c) Narrative Description of Business
General
The Insurance Companies underwrite a broad line of commercial and personal
property and casualty coverages, including commercial multi-peril, automobile
and workers' compensation through approximately 300 independent producers in
seven states.
We anticipate continuing to grow our small commercial and ancillary
coverages written by Preserver in the State of New Jersey, Mountain Valley in
the States of New York, Massachusetts, New Hampshire, Vermont, Rhode Island and
Maine and American Colonial in New York. We expect North East to increase its
emphasis of small commercial coverages as well. To improve our competitiveness
in the commercial lines market place, we plan to license Preserver and Mountain
Valley in the same states where the other is conducting business.
Motor Club and North East write PPA business in the States of New Jersey
and Maine, respectively. Although PPA business is expected to increase as well,
we anticipate that this business will continue to decrease as a percentage of
the total consolidated revenues.
On March 1, 2000, Preserver and Mountain Valley entered into
an Insurance Pooling Agreement (discussed on page 15) and formed the
Preserver Insurance Group. In March 2000, the Preserver Insurance Group was
rated B++ (Very Good) by A.M. Best.
At December 31, 2000, Motor Club is separately rated B+ (Very Good) by
Best; North East is rated B (Fair). American Colonial plans to commence
insurance operations in New York in 2001.
Best ratings are based upon factors relevant to policyholders and are not
directed toward the protection of investors. We believe that the Best rating is
an important factor in marketing the Insurance Companies' products.
Effective July 1, 1998, Motor Club began converting its existing policies
from six month terms to twelve month policy terms ( the "Policy Term
Conversion"). While the Policy Term Conversion temporarily increased the amount
of premiums written by Motor Club in 1998, it did not affect the amount of
premiums earned. The Policy Term Conversion was implemented to reduce the
frequency of renewal, thereby increasing operating efficiency and service levels
and reducing expenses.
Our results include the operations of North East since its acquisition on
September 24, 1999, and Mountain Valley since its acquisition on March 1, 2000.
The tables which follow set forth these direct premiums written and earned, by
line of insurance, for the last five years:
Direct Written Premiums
(Amounts in Thousands - Exclusive of Service Charges)
2000 1999 1998 1997 1996
Direct Percent Direct Percent Direct Percent Direct Percent Direct Percent
Program Premium of Total Premium of Total Premium of Total Premium of Total Premium of Total
- ------- ----------------- ----------------- ----------------- ----------------- -----------------
Commercial:
Preserver $13,827 13.9% $11,504 18.6% $ 9,672 13.7% $8,019 13.9% $6,744 12.5%
Mountain Valley 20,367 20.5% -- -- -- -- -- -- -- --
North East 5,148 5.2% 900 1.5% -- -- -- -- -- --
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total Commercial $39,342 39.5% $12,404 20.1% $ 9,672 13.7% $8,019 13.9% $6,744 12.5%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
Personal Auto:
Motor Club $40,334 40.5% $39,611 64.2% $54,254 76.7% $43,238 74.7% $41,055 76.0%
North East 13,154 13.2% 2,877 4.7% -- -- -- -- -- --
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total Personal Auto $53,488 53.7% $42,488 68.9% $54,254 76.7% $43,238 74.7% $41,055 76.0%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
Other Personal:
Preserver $ 6,702 6.7% $6,804 11.0% $ 6,833 9.7% $6,596 11.4% $6,216 11.5%
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total Other Personal $ 6,702 6.7% $6,804 11.0% $6,833 9.7% $6,596 11.4% $6,216 11.5%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
Total Insurance
Companies $99,532 100.0% $61,696 100.0% $70,759 100.0% $57,853 100.0% $54,015 100.0%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
Direct Earned Premiums
(Amounts in Thousands - Exclusive of Service Charges)
2000 1999 1998 1997 1996
Direct Percent Direct Percent Direct Percent Direct Percent Direct Percent
Program Premium of Total Premium of Total Premium of Total Premium of Total Premium of Total
- ------- ----------------- ----------------- ----------------- ----------------- -----------------
Commercial:
Preserver $12,634 13.3% $10,508 16.6% $8,916 15.0% $7,698 13.4% $6,526 12.6%
Mountain Valley 18,583 19.5% -- -- -- -- -- -- -- --
North East 4,613 4.8% 957 1.5% -- -- -- -- -- --
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total Commercial $35,830 37.6% $11,465 18.1% $8,916 15.0% $7,698 13.4% $6,526 12.6%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
Personal Auto:
Motor Club $39,214 41.4% $41,781 65.9% $43,631 73.6% $43,381 75.4% $39,242 75.6%
North East 13,459 14.1% 3,291 5.2% -- -- -- -- -- --
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total Personal Auto $52,673 55.3% $45,072 71.1% $43.631 73.6% $43,381 75.4% $39,242 75.6%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
Other Personal:
Preserver $ 6,797 7.1% $6,843 10.8% $6,764 11.4% $6,422 11.2% $6,152 11.8%
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total Other Personal $ 6,797 7.1% $6,843 10.8% $6,764 11.4% $6,422 11.2% $6,152 11.8%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
Total Insurance
Companies $95,300 100.0% $63,380 100.0% $59,311 100.0% $57,501 100.0% $51,920 100.0%
======= ===== ======= ===== ======= ===== ======= ===== ======= =====
These tables exclude premiums written and earned by Mountain Valley in the
State of Texas in 2000 (which are being transferred to another company not
affiliated with us and are 100% reinsured) and any premiums written and earned
by Mountain Valley and North East prior to their acquisition by us.
The following table sets forth ratios for the Insurance Companies prepared
in accordance with generally accepted accounting principles ("GAAP") and with
statutory accounting practices ("SAP") prescribed or permitted by state
insurance authorities. The SAP combined ratio, a standard measure of
underwriting profitability, is the sum of: (i) the ratio of incurred losses and
loss expenses to net earned premium ("loss ratio"); and (ii) the ratio of
expenses incurred for commissions, premium taxes, administrative and other
underwriting expenses to net written premium ("expense ratio"). The GAAP
combined ratio is calculated in the same manner except that it is based on GAAP
amounts and the denominator for each component is net earned
premium.
December 31,
2000 1999 1998
-----------------------------
GAAP operating ratios:
Loss ratio 66.7% 72.8% 68.6%
Expense ratio 35.3% 36.4% 29.1%
----- ----- ----
Combined ratio 102.0% 109.2% 97.7%
===== ===== ====
Statutory operating ratios:
Loss ratio 69.1% 74.7% 69.9%
Expense ratio 36.2% 33.3% 28.8%
----- ----- ----
Combined ratio 105.3% 108.0% 98.7%
===== ===== ====
In general, when the combined ratio is under 100%, underwriting results are
considered profitable. Conversely, when the combined ratio is over 100%,
underwriting results are generally considered unprofitable. The combined ratio
reflects underwriting results and not investment income, federal income taxes or
other non-operating income or expense. Our operating income is generally a
function of both underwriting results and investment income.
Reinsurance
The Insurance Companies follow the customary industry practice of
reinsuring a portion of their risks and paying to reinsurers a portion of the
premiums received on the policies. The Insurance Companies' reinsurance programs
permit greater diversification of business and the ability to write larger
policies while limiting maximum net losses; in addition, the reinsurance
programs are designed to protect against catastrophic losses. Reinsurance does
not legally discharge an insurer from its primary liability for the full amount
of the policies,
although it does make the reinsurer liable to the insurer to the extent of the
reinsurance ceded. Therefore, the Insurance Companies are subject to credit risk
with respect to their reinsurers.
Reinsurance for property losses of Preserver is maintained under a per
risk excess of loss treaty affording recovery to $2 million, in excess of a
retention of $100,000. On January 1, 2001, this retention was increased to
$250,000. Preserver also maintains a 100% quota share treaty for boiler and
machinery coverage.
Casualty reinsurance is currently maintained for Motor Club and Preserver
under an excess of loss treaty affording recovery up to $3 million, in excess of
a retention, $150,000 to December 31, 1999, $200,000 in 2000 and $250,000
commencing January 1, 2001.
Preserver also maintains reinsurance coverage for personal and commercial
umbrella policies up to $2 million for personal lines policies and up to $5
million for commercial lines policies. Effective March 1, 1998, Preserver
entered into reinsurance contracts for the workers' compensation policies it
commenced writing on that date. An 80% quota share reinsurance contract on the
first $500,000 of workers' compensation coverage has been implemented; an excess
of loss treaty affording coverage up to $10 million in excess of the retention
of $500,000 has also been implemented. After March 1, 2001, we expect to
increase our retentions under these contracts, not materially however.
Effective January 1, 1999, Preserver purchased aggregate stop loss
reinsurance for all of its lines of business which
provides $3 million coverage in excess of a loss ratio of 67.5% after
the application of all other reinsurance. The treaty is subject to experience
adjustments over a three-year period. This treaty affords Preserver protection
against elevated levels of frequency or severity of losses, which are not
consistent with its historical experience, and includes, but is not limited to,
weather-related events, which may not rise to the level of a catastrophe,
subject to a dollar limit. To date Preserver's results have not triggered any
recoveries under this agreement.
North East's principal reinsurance protection is provided through a
combined per risk excess of loss treaty. Prior to 2000, this reinsurance
afforded recovery to $1 million in excess of a retention of $50,000. On January
1, 2000, this retention was increased to $150,000.
In addition, the Insurance Companies' catastrophe reinsurance program
presently covers substantially all catastrophe losses in excess of $500,000 up
to $42.5 million.
Prior to March 1, 2000, the date we acquired Mountain Valley, Mountain
Valley ceded 100% of its premiums, losses and expenses under a quota share
treaty to Trinity Universal Insurance Company ("Trinity"), a subsidiary of
Unitrin, Inc., the seller ("Trinity Quota Share"). All cessions under the
Trinity Quota Share are after the application of all third party reinsurance
that Mountain Valley maintains.
Effective March 1, 2000, under the terms of our Purchase Agreement, the
Trinity Quota Share was terminated on a cut-off basis. Under the terms of the
cut-off,
Mountain Valley will continue to cede 100% of losses and expenses incurred
before March 1, 2000, including subsequent development of those losses and
expenses. In addition, Trinity retained the premiums, losses and expenses on 79
policies in the State of New York until we renewed, canceled or non-renewed
those policies at (or prior to) their expiration dates.
Accordingly, as of March 1, 2000, Mountain Valley had and will continue to
have no net unpaid loss and loss expense reserves for losses incurred before
March 1, 2000. We are subject to credit risk should Trinity not be able to pay
its obligations under the Trinity Quota Share. However, Trinity is presently
rated A+ (Superior) by A.M. Best and has $846 million in surplus as regards
policyholders as of December 31, 2000. Thus, we believe that such credit risk is
not material at this time.
Third party reinsurance for property and casualty losses of Mountain Valley
are maintained under a combined per risk excess of loss treaty affording
recovery to $5 million in excess of a retention of $250,000. Mountain Valley
also maintains a third party 100% quota share treaty for boiler and machinery
coverage and reinsurance coverage for commercial umbrella policies up to $5
million.
Third party reinsurance for workers' compensation losses of Mountain Valley
are maintained under excess of loss treaties affording recovery to $10 million
(effective July 1, 2000) in excess of a retention of $50,000. This coverage had
a limit of $5 million prior to July 1, 2000. Mountain Valley also purchases
catastrophe coverage for workers compensation losses affording recovery to $20
million.
Mountain Valley has also utilized extensively third party facultative
reinsurance for certain risks that it underwrites which it does not believe are
appropriate for coverage by its third party treaty reinsurance. Treaty
reinsurance is reinsurance placed on an aggregate or portfolio basis covering
all risks written by the Company as specified in the contract. Facultative
reinsurance is reinsurance placed on a per risk basis, covering a specific
insurance policy. During 2000, Mountain Valley ceded $1.2 million in facultative
reinsurance to third party reinsurers, generally employing a retention of
$250,000. In 2001, we plan to review Mountain Valley's utilization of
facultative reinsurance to ensure that it provides the proper cost-benefit
relationship.
The Insurance Companies consider numerous factors in selecting reinsurers,
the most important of which is the financial stability of the reinsurer. All of
the Insurance Companies' reinsurers are presently rated A-(Excellent) or higher
by A.M. Best. The Insurance Companies have not experienced any material
collectibility problems for their reinsurance recoverables.
We continually review all of the Insurance Companies' reinsurance coverages
for pricing, adequacy of coverage and security. The terms and charges for
reinsurance coverage are typically negotiated annually. The reinsurance market
is subject to conditions that are similar to those in the direct property
and casualty insurance market, and there can be no assurance that reinsurance
will remain available to the Insurance Companies to the same extent and at the
same cost currently maintained.
During 2000, we took numerous steps to consolidate reinsurance coverages
for the Insurance Companies with the appropriate reinsurers to gain economies of
scale and improved purchasing power in the reinsurance market place. We will
continue to conduct these reviews and take similar actions during 2001.
Insurance Pooling Agreement
Effective March 1, 2000, Preserver and Mountain Valley entered into an
intercompany pooling arrangement with each other and formed the Preserver
Insurance Group ("Group"). The pooling is intended to permit a more uniform and
stable underwriting result from year to year for both companies than they would
experience individually and to spread the risk of loss among the pool
participants. The Group therefore has at its disposal the underwriting capacity
of the entire pool, rather than being limited to policy exposures of a size
commensurate with its own capital and surplus. The additional capacity exists
because such policy exposures are spread between both pool participants which
each have its own capital and surplus. Regulation by state insurance departments
is applied to the individual companies rather than to the pooling. The pooling
enabled Mountain Valley to attain a Best rating as part of the Group it would
not otherwise have been able to achieve, due to its insufficient
operating experience, having commenced operations in 1995.
Pursuant to the terms of the pooling agreement, Mountain Valley cedes 100%
of its premiums and expenses on all of its business, and losses incurred after
March 1, 2000 to Preserver. All of Preserver's premium and expenses on all of
its business, and losses incurred after March 1, 2000 are included in the pooled
business. Preserver then retrocedes to Mountain Valley 25% of the premiums,
losses and expenses subject to the pooling. The pooling does not legally
discharge either participant in the Group from its primary liability for the
full amount of the policies ceded. We anticipate that American Colonial will
join the pool when it recommences operations in 2001.
Loss Reserves
Reserves for unpaid losses and loss expenses at any report date reflect the
estimate of the liabilities for the ultimate net loss of reported claims and
estimated incurred but not reported claims.
The liability for unpaid losses and loss expenses is determined using
case-basis evaluations and statistical projections and represents estimates of
the ultimate net cost of all unpaid losses and loss expenses through December 31
of each year. These estimates are continually reviewed and refined as historical
experience develops, new information becomes known and the effects of trends in
future claim severity and frequency are considered.
The liabilities are adjusted accordingly with such adjustments being
reflected in the current year operations. Apart from the emergence of PPA
development for claims occurring in 1999 related to PPA legislation enacted in
New Jersey (discussed below), no trends that are considered abnormal have been
identified as of the most recent evaluation date, December 31, 2000.
The following table presents a reconciliation of beginning and ending
liability balances for 2000, 1999 and 1998, reported under GAAP:
RECONCILIATION OF LIABILITY FOR LOSSES AND LOSS EXPENSES
2000 1999 1998
--------------------------------------
(Thousands of Dollars)
Liability for losses and loss expenses, net of
reinsurance recoverables, at January 1 $52,529 $39,814 $32,884
Liability for losses and loss expenses, net
of reinsurance recoverables, North East Acquisition - 8,820 -
Incurred losses and loss expenses
Provision for current year claims 55,542 37,272 32,598
Increase in provision for prior years'
claims 166 3,359 3,881
Total incurred and loss expenses 55,708 40,631 36,479
Payments for losses and loss expenses
Payments on current year claims 24,501 16,448 12,038
Payments on prior years' claims 23,541 20,288 17,511
Total payments for losses and loss expenses 48,042 36,736 29,549
Liability for losses and loss expenses, net
of reinsurance recoverables, at December 31 60,195 52,529 39,814
Reinsurance recoverables on unpaid losses
and loss expenses, at December 31 30,197 18,454 18,521
Liability for losses and loss expenses,
gross of reinsurance recoverables,
at December 31 $90,392 $70,983 $58,335
The reconciliation shows a 2000 deficiency of $166,000 in the liability
recorded at December 31, 1999. The small deficiency is primarily the result of
generally neutral net development of reserves in all of the Insurance Companies
during 2000; however, Motor Club did experience favorable development of losses
occurring in 1999, offset by unfavorable development of losses occurring from
1996 to 1998.
We believe that our book of business, particularly Motor Club's PPA book of
business, has loss development characteristics which result in initial adverse
development ("Initial Development") but ultimately develop closer to the
reserves initially established. This Initial Development typically occurs during
the first 24 to 36 months of a given year's reserves. Historically, the Initial
Development has been offset by redundancies from older years approximating or
greater than the Initial Development. However, as Motor Club's PPA book of
business has grown, the Initial Development has been greater than the
redundancies in older years. We believe that as the new PPA book of business
written by Motor Club continues to stabilize and mature, the Net Cumulative
Deficiency in the more recent years will decline and thus the deficiencies
indicated will diminish, which did occur in 2000. We believe this pattern is
supported by the generally sequential decline in the Net Cumulative Deficiency
from the most recent year presented to the oldest year presented.
We also believe that the Initial Development referred to is generally consistent
and identifiable in the table on page 24.
We also believe that the 1996, 1997 and 1998 adverse development is
attributable principally to losses which occurred in those years, primarily in
Motor Club's PPA book of business. During 1996, 1997 and 1998, Motor Club's new
PPA book of business was in its Initial Development. As is consistent with
applicable New Jersey statutes, no new business had yet been non-renewed,
resulting in a book of PPA business that lacked historical experience.
Thereafter, certain business was non-renewed and the performance of the book has
modestly improved. Given the adverse development of these particular years, it
is possible that the Net Cumulative Deficiency for 1996, 1997 and 1998 may not
develop consistently with the other years described above, but we do not believe
that this is indicative of prospective loss development for years after 1998.
As noted, Motor Club's PPA book did experience favorable development for
losses occurring in 1999 and during 2000. This may be attributable to aspects of
New Jersey PPA reforms which are discussed in the section titled "New Jersey
Private Passenger Automobile". During 1999, Motor Club's first party medical
claims ("PIP") occurring in 1999 ("Accident Year 1999") were significantly
higher as compared to prior years. These losses did not increase until after the
rate rollback and other provisions of the reforms were implemented in 1999.
We believe that claimants filing more severe claims on an accelerated basis
than historical patterns dictated caused this
increase. We further believe that this acceleration was caused by the
implementation of regulations tightening the fee schedule, allowing
pre-certification methodologies and permitting a revised arbitration system, all
of which should serve to ultimately reduce PIP claim costs.
While this acceleration increased the level of reported losses incurred by
Motor Club in 1999, we reserved for its projected ultimate losses for Accident
Year 1999 generally using historical loss development patterns which indicate
longer development patterns than those which may occur in Accident Year 1999.
We believe that this resulted in more favorable development of Accident
Year 1999 PIP losses in 2000. We have also seen fewer third party liability
claims in Accident Year 1999 and 2000 since the reforms were implemented,
consistent with the stated objectives of the reforms. However, we believe it is
premature to conclude that such favorable development will continue.
The differences between the liability for unpaid losses and loss expenses
reported in our consolidated financial statements prepared in accordance with
GAAP and those reported in the annual statements filed by the Insurance
Companies with State insurance departments in accordance with SAP are reconciled
as follows:
December 31,
2000 1999 1998
-------------------------------------
(thousands of dollars)
Liability for unpaid losses and
loss expenses on a SAP basis
(net of reinsurance recoverables
on unpaid losses and loss expenses) $65,742 $56,759 $43,111
Reinsurance recoverables on unpaid
losses and loss expenses 30,197 18,454 18,521
Anticipated salvage and subrogation
recoveries (5,547) (4,230) (3,297)
Liability for unpaid losses and loss
expenses, as reported in the GAAP basis
financial statements $90,392 $70,983 $58,335
The anticipated effect of inflation is implicitly considered when
estimating liabilities for losses and loss expenses. While anticipated price
increases due to inflation are considered in estimating the ultimate claim
costs, the increase in the average severity of claims is caused by a number of
factors that vary with the individual type of policy written. These anticipated
trends are monitored based on actual development and are modified if necessary.
The table on Page 24 presents the development of the GAAP balance sheet
liabilities for 1991 through 2000; data is presented for those years in which
the Insurance Companies had operations and were owned by us.
The top line on the table shows the estimated liability for unpaid losses
and loss expenses recorded at the balance sheet date for each of the indicated
years. This liability represents
the estimated amount of losses and loss expenses for claims arising in that and
all prior years that are unpaid at the balance sheet date, including losses that
had been incurred but not yet reported. The upper portion of the table shows the
re-estimated amount of the previously recorded liability, based on experience as
of the end of each succeeding year. The estimate is increased or decreased as
more information becomes known about the frequency and severity of claims for
development years. The Net Cumulative Deficiency represents the aggregate change
in the estimates over all prior years. The lower section of the table shows the
cumulative amounts paid with respect to previously recorded liabilities as of
the end of each succeeding year.
In evaluating this information, it should be noted that each amount
includes the effects of all changes in amounts for prior periods. For example,
the amount of deficiency relating to losses settled in 1998, but incurred in
1993, will be included in the cumulative deficiency for the 1998 year.
This table does not present accident or policy year development data, which
readers may be more accustomed to analyzing. Conditions and trends that have
affected development of liabilities in the past may not necessarily occur in the
future. Accordingly, it may not be appropriate to extrapolate future
redundancies or deficiencies based on this table.
Prior to 1992, we conducted private passenger operations in New Jersey
through Motor Club (which continues) and nationwide general insurance
operations through a separate subsidiary, MCA Insurance Company("MCAIC") and its
insurance subsidiary, Property Casualty Company of MCA ("PCCMCA"). The
operations of Motor Club are included in our reserve disclosures. The operations
of MCAIC and PCCMCA have not been included in the consolidated financial
statements and loss reserve disclosures due to MCAIC's insolvency in 1992 as a
result of Hurricane Andrew. Since we wrote-off our investment in MCAIC that
year, and because the losses attributable to MCAIC are subject to the control of
its Receiver, there is no additional loss development from those operations
which impact our results since that time. Accordingly, the loss reserve
disclosures were amended to include only those operations in which we are
currently involved.
LOSS AND LOSS EXPENSE DEVELOPMENT
(In Thousands)
Year ended December 31 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000
Liability for unpaid
losses and loss expenses, net
of reinsurance recoverables $26,494 $28,469 $25,334 $22,356 $23,409 $28,114 $32,884 $39,814 $52,529 $60,195
Net Liability Re-estimated as of:
One year later 30,173 27,145 26,253 23,468 24,313 31,887 36,765 43,173 52,695 -
Two years later 28,954 28,563 26,766 23,813 25,759 33,848 38,422 44,842 - -
Three years later 29,733 28,454 26,819 24,181 25,680 33,527 39,626 - - -
Four years later 28,934 28,702 26,572 23,759 25,252 34,801 - - - -
Five years later 29,071 28,662 26,066 23,221 26,090 - - - - -
Six years later 28,954 28,516 25,330 24,001 - - - - - -
Seven years later 28,920 27,719 25,932 - - - - - - -
Eight years later 28,653 28,394 - - - - - - - -
Nine years later 28,604 - - - - - - - - -
Net Cumulative Redundancy
(Deficiency) ($2,110) $ 75 $ (598) ($1,645) ($2,681) ($6,687) ($6,742) ($5,028) (166) -
Cumulative Amount of Liability Paid Through:
One year later 11,979 12,314 12,311 11,106 11,414 16,203 17,511 20,288 23,541 -
Two years later 18,855 20,270 18,992 17,231 18,357 24,830 28,427 32,143 - -
Three years later 24,161 24,546 23,032 20,821 22,164 30,685 35,086 - - -
Four years later 26,365 26,878 24,882 22,488 24,586 33,743 - - - -
Five years later 27,696 27,642 25,373 23,297 25,576 - - - - -
Six years later 28,207 26,810 25,818 23,799 - - - - - -
Seven years later 28,265 27,194 25,984 - - - - - - -
Eight years later 28,394 28,335 - - - - - - - -
Nine years later 28,312 - - - - - - - - -
Net liability - December 31 $26,494 $28,469 $25,334 $22,356 $23,409 $28,114 $32,884 $39,814 $52,529 $60,195
Reinsurance recoverables 29,003 21,698 20,484 19,309 16,415 19,553 17,363 18,521 18,454 30,197
Gross liability - December 31 $55,497 $50,167 $45,818 $41,665 $39,824 $47,667 $50,247 $58,335 $70,983 $90,392
The reserve for net losses and loss expenses with respect to North East is
only included in the consolidated net losses and expenses as of December 31,
2000 and 1999. No prior reserve development is presented herein as these
operations were not owned prior to the fourth quarter of 1999. The reserve for
net losses and expenses with respect to Mountain Valley is only included in the
consolidated net losses and expenses as of December 31, 2000. No reserve
development is presented herein as these operations were not owned prior to
March 1, 2000.
Competition
The property and casualty insurance industry is generally highly
competitive on the basis of both price and service.
There are numerous companies competing for the coverages which the
Insurance Companies write, many of which are substantially larger and have
considerably greater resources than they have. In addition, because the
Insurance Companies' insurance products are marketed exclusively through
independent insurance agencies, most of which represent more than one insurance
company, they face competition within each agency.
The commercial lines markets that we engage in are highly competitive
markets that are often subject to significant pressures, including but not
limited to the pricing of individual risks. As we become more involved in the
commercial lines markets, these competitive issues will become more widespread.
While Motor Club distributes its personal auto policies similarly and thus
faces the same issues as the other Insurance Companies in concept, the personal
auto regulatory environment in New Jersey, particularly its "take-all-comers"
requirements (see Regulation), has suppressed competition and effectively
eliminated risk selection. In addition, the New Jersey market has historically
been subject to regulatory and legislative volatility which has, at times,
adversely affected the profitability of the PPA line of business, further
suppressing competition. Finally, approximately 24% of Motor Club's appointed
independent insurance agencies represent only Motor Club for PPA coverage and
thus, Motor Club has no competition for this business in those agencies. New
Jersey law presently also substantially restricts the ability of an insurer to
terminate its agencies, limiting Motor Club's ability to manage its agency
force for PPA. We believe this lack of competition in PPA presents a significant
business risk which must be monitored very closely on an ongoing basis.
Investments and Information about Market Risk
We have maintained, in our opinion, a conservative investing philosophy. We
manage our investment portfolio with the assistance of investment professionals
based on guidelines established by management and approved by the Board of
Directors.
The overall goal of the portfolio is to enhance investment returns within
the structure of limited credit risk assumption which management has utilized,
with evaluations of portfolio duration made in relation to the current interest
rate environment. During 1998, our investment guidelines were expanded to allow
for a higher percentage of investments in investment grade corporate bonds and
mortgage-backed securities and to include certain investment grade asset-backed
securities, which provide more structured cash flows. The objectives of these
changes to our investment policy were: (1) to reduce the amount of interest risk
in the portfolio; and (2) enhance portfolio yield without unreasonably
increasing credit risk. We believe these objectives have been accomplished.
We do not invest in or hold any derivative financial instruments.
Tax exempt securities have not been acquired. We believe that our current
tax position, which includes net operating loss
carryforwards, dictates the exclusion of tax exempt securities from the
portfolio, which historically provide substantially lower yields on a before tax
basis than taxable securities.
Market risk represents the potential for loss due to adverse changes in the
fair value of financial instruments. The market risks related to our financial
instruments relate to the investment portfolio, which exposes us to risks
related to interest rates, and to a lesser extent, credit quality and
prepayment. We do not have exposure to foreign currency exchange rates or equity
prices.
Interest rate risk is the price sensitivity of a fixed income security to
changes in interest rates. We view these potential changes in price within the
overall context of asset and liability management. The payout pattern of
insurance liabilities are actuarially determined, to determine their duration,
which is the present value of the weighted average payments expressed in years.
Duration targets are then set for our fixed income investment portfolio after
consideration of these liabilities and other factors, which we believe mitigates
the overall effect of its exposure to interest rate risk.
At December 31, 2000 and 1999, our investment portfolio was comprised of
the following types of securities (all amounts in thousands):
December 31, 2000 December 31, 1999
-------------------- -------------------
Market Market
Value Percent Value Percent
-------------------- -------------------
Taxable Fixed Maturities $98,074 93.4% $78,242 89.9%
Equity Securities 48 0.1% 57 0.1%
Short Term Investments 6,760 6.4% 8,529 9.8%
Mortgage Loans 110 0.1% 154 0.2%
-------- ----- ------- -----
Total Investment
Portfolio $104,992 100.0% $86,982 100.0%
======== ===== ======= =====
At December 31, 2000 and 1999, our taxable fixed maturity portfolio
consisted of the following types of securities (all amounts in thousands):
December 31, 2000 December 31, 1999
-------------------- -------------------
Market Market
Value Percent Value Percent
-------------------- -------------------
United States Treasuries $20,602 21.0% $16,248 20.8%
United States Government
Agencies 5,622 5.7% 3,674 4.7%
Mortgage-Backed Securities 22,921 23.4% 10,406 13.3%
Asset-Backed Securities 12,315 12.6% 10,239 13.1%
Corporate Bonds 36,614 37.3% 37,675 48.1%
-------- ----- ------- -----
Total $98,074 100.0% $78,242 100.0%
======== ===== ======= =====
Mortgage-backed securities ("MBS") consist primarily of Government National
Mortgage Association issues, along with other MBS issues of the United States
Government. Asset-backed securities ("ABS") issues are all rated "Aaa" by
Moody's and "AAA" by Standard & Poor's. The underlying collateral of ABS issues
at December 31, 2000 consists primarily of home equity loans.
The taxable fixed maturity portfolio duration at December 31, 2000 and 1999
was 3.46 and 3.60 years, respectively.
United States Treasuries are weighted towards maturities of five years or
less, to reduce interest rate risk and match the Insurance Companies' claims
payout ratios; corporate obligations are generally weighted towards five to ten
year maturities, to take advantage of the yield curve; the average life of the
GNMA portfolio has been maintained at approximately 10 years to reduce interest
rate risk.
Please refer to Note D in the Notes to Consolidated Financial Statements
("Notes") for statistics regarding portfolio maturity composition.
We have not acquired, nor are there plans to acquire, below investment
grade or "junk" bonds. Ninety-four percent of the fixed maturity portfolio as of
December 31, 2000 was graded Class 1 according to the National Association of
Insurance Commissioners' valuation system. This classification is reserved for
only the highest quality securities, generally rated A or better by two major
rating services.
At December 31, 2000 and 1999, our taxable fixed maturity investment
portfolio at market value by Moody's rating was (all amounts in thousands):
December 31, 2000 December 31, 1999
------------------- -------------------
Market Market
Value Percent Value Percent
------------------- -------------------
United States
Government Securities $49,145 50.1% $29,807 38.1%
Aaa 12,315 12.6% 10,239 13.1%
Aa 10,888 11.1% 10,243 13.1%
A 20,926 21.3% 23,062 29.4%
Baa 4,800 4.9% 4,891 6.3%
------- ----- ------- -----
Total $98,074 100.0% $78,242 100.0%
======= ===== ======= =====
The following table provides information about our taxable
fixed maturity portfolio at December 31, 2000 that are sensitive to changes in
interest rates. The table presents cash flows of principal amounts and related
weighted average interest rates by expected maturity dates. The cash flows are
based on the earlier of the call date or the maturity date or, for mortgage and
asset- backed securities, expected payments patterns. Actual cash flows could
differ from the expected amounts.
EXPECTED CASH FLOWS OF PRINCIPAL AMOUNTS
(all amounts in thousands)
ESTIMATED
AMORTIZED MARKET
2001 2002 2003 2004 2005 Thereafter COST VALUE
------- ------ ------ ------ ------- ---------- --------- ---------
Taxable-- Other than
mortgage- backed
securities $7,596 $5,447 $2,923 $5,671 $11,915 $28,874 $62,426 $62,838
Average interest
rate 7.0% 6.6% 5.7% 6.9% 6.4% 6.5% 6.5%
Mortgage- backed
securities 192 1,086 187 2,008 876 18,493 22,842 22,921
Average interest
rate 6.3% 6.3% 7.4% 7.1% 6.7% 7.0% 7.0%
Asset-backed
securities 3,940 1,409 3,511 991 1,117 1,335 12,303 12,315
Average interest
rate 6.4% 6.7% 6.4% 7.1% 6.8% 6.7% 6.6%
------- ------ ------ ------ ------- ------- ------- -------
Total $11,728 $7,942 $6,621 $8,670 $13,908 $48,702 $97,571 $98,074
======= ====== ====== ====== ======= ======= ======= =======
We anticipate continuing this minimum risk approach to investing for the
foreseeable future. We believe that the mix of investments in both type and
maturity length is appropriate in
order to preserve capital, take advantage of investment opportunities as they
are presented, and provide us with sufficient liquidity to react to economic and
business circumstances as they evolve. Investment results were as follows:
2000 1999 1998
-----------------------------------
(thousands of dollars)
Average investments, at amortized
cost $99,430 $78,018 $68,815
Investment income, after expenses $ 6,413 $ 5,081 $ 4,305
Percent earned on average
investments 6.5% 6.5% 6.3%
Realized gains $ 83 $ 36 $ 29
Regulation
General
Insurance companies are subject to supervision and regulation in the states
in which they transact business. Such
supervision and regulation relate to numerous aspects of an insurance company's
business and financial condition. The primary purpose of such supervision and
regulation is the protection of policyholders. The extent of such regulation
varies, but generally derives from state statutes which delegate regulatory,
supervisory and administrative authority to state insurance departments.
Accordingly, the authority of the state insurance departments includes the
establishment of standards of solvency which must be met and maintained by
insurers; the licensing to do business of insurers and agents; the nature of and
limitations on investments; premium rates for property and casualty insurance;
the provisions which insurers must make for current losses and future
liabilities; the deposit of securities for the benefit of policyholders; and the
approval of policy forms. Insurance departments also conduct periodic
examinations of the affairs of insurance companies and require the filing of
annual and other reports relating to the financial condition of insurance
companies.
State law requires the Insurance Companies to participate in involuntary
insurance programs for automobile insurance, as well as other property and
casualty lines. These programs include joint underwriting associations, assigned
risk plans, fair access to insurance requirements plans and reinsurance
facilities. These laws generally require all companies that write lines covered
by these programs to provide coverage (either directly, via a servicing carrier
or through reinsurance) for insureds who cannot obtain insurance in the
voluntary market. The legislation creating these programs
usually allocates a pro rata portion of risks attributable to such insureds to
each company on the basis of direct written premiums or the number of
automobiles insured. Generally, state law requires participation in such
programs as a condition to doing business. The loss ratio on insurance written
under involuntary programs generally has been greater than the loss ratio on
insurance in the voluntary market.
During 1997, Motor Club began to participate in the New Jersey Personal
Automobile Insurance Plan; fees totaling $266,000, $153,000 and $254,000 were
paid in 2000, 1999 and 1998, respectively, to a servicing carrier rather than
process these policies and take a risk of further loss.
State insurance holding company acts regulate insurance holding company
systems. Each insurance company in the holding company system is required to
register with the insurance supervisory agency of its state of domicile and
furnish certain information concerning the operations of companies within the
holding company system that may materially affect the operations, management or
financial condition of the insurers within the system. Such laws further require
disclosure of material transactions including the payment of "extraordinary
dividends" from the insurance subsidiaries.
Insurance holding company acts require that all transactions within the
holding company system affecting the insurance subsidiaries must be fair and
equitable. Further, approval of
the insurance commissioner is required prior to the consummation of transactions
affecting the control of an insurer.
The Insurance Companies are restricted by the insurance laws of their
respective states of domicile as to the amounts of dividends they may pay
without prior approval by the appropriate regulatory authority.
Applying current regulatory restrictions, as of December 31, 2000, and to
the extent that statutorily defined surplus is available, $3,329,000 would be
available for distribution without prior approval during 2001. The Insurance
Companies paid dividends of $750,000 (another $453,000 is declared but not yet
paid) in 2000, $749,000 in 1999 and $1 million in 1998.
National Association of Insurance Commissioners ("NAIC")
The Insurance Companies are subject to the general statutory accounting
practices and reporting formats established by the NAIC as well as accounting
practices prescribed or permitted by the respective Departments of Insurance in
the states in which they are domiciled. The NAIC has adopted the Codification of
Statutory Accounting Principles with an effective date of January 1, 2001. The
codified principles are intended to provide a basis of accounting recognized and
adhered to in the absence of conflict with, or silence of, state statutes and
regulations. The impact of the codified principles on the statutory capital and
surplus of the Insurance Companies is still being determined and is currently
not expected to decrease statutory capital and surplus as of January 1, 2001.
The NAIC also promulgates model insurance laws and regulations relating to
the financial and operational regulation of insurance companies, which includes
the Insurance Regulating Information System ("IRIS"). IRIS identifies eleven
industry ratios and specifies "usual values" for each ratio. Departure from the
usual values on four or more of the ratios can lead to inquiries from individual
state insurance commissioners as to certain aspects of an insurer's business.
The Insurance Companies' have, in recent years, met substantially all of
the IRIS test ratios. During 2000 however, Preserver and Mountain Valley failed
to meet certain tests by virtue of the Pooling they entered into with each other
and in Mountain Valley's instance, the termination of the Trinity Quota Share.
We expect that both companies will meet these tests in 2001 when these
non-recurring events are eliminated from the test ratio computations.
Also in 2000, Motor Club failed the IRIS ratio test for premiums to
surplus. The threshold for this test is a ratio of less than 3.0 to 1 and Motor
Club's was 3.18 to 1. This is the direct result of automobile reforms in New
Jersey, which are discussed in greater detail in the section that follows titled
"New Jersey Private Passenger Automobile".
NAIC model rules and regulations generally are not directly applicable to
an insurance company until they are adopted by applicable state legislatures and
departments of insurance. However, NAIC model laws and regulations have become
increasingly important in recent years, due primarily to the NAIC's Financial
Regulations Standards and Accreditation Program. Under this program, states
which have adopted certain required model laws and regulations and meet various
staffing and other requirements are "accredited" by the NAIC. Such accreditation
reflects an eventual nationwide regulatory network of accredited states. The
States in which the Insurance Companies are domiciled are accredited by the
NAIC.
The NAIC has adopted Risk-Based Capital ("RBC") requirements for
property/casualty insurance companies, to evaluate the adequacy of statutory
capital and surplus in relation to investment and insurance risks such as asset
quality, credit risk, loss reserve adequacy and other business 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 insurer's regulatory total adjusted capital to its
authorized control level RBC, as defined by the NAIC. Insurers below specific
trigger points or ratios are classified within certain levels, each of which
requires specific corrective action. The ratios of the Insurance Companies are
in excess of that required, therefore requiring no action.
However, the continuing impact of automobile reforms in New Jersey on Motor
Club raises some uncertainty as to whether its ratio will remain above the
level required. This is discussed in greater detail in the section that follows
titled "New Jersey Private Passenger Automobile".
The Gramm-Leach-Bliley Act, or Financial Services Modernization Act of 1999
(the "Act"), was enacted in 1999 and significantly affects the financial
services industry, including insurance companies, banks and securities firms.
The Act modifies federal law to permit the creation of financial holding
companies ("FHCs"), which, as regulated by the Act, can maintain cross-holdings
in insurance companies, banks and securities firms to an extent not previously
allowed. The Act also permits or facilitates certain types of combinations or
affiliations for FHCs. The Act establishes a functional regulatory scheme under
which state insurance departments will maintain primary regulation over
insurance activities, subject to provisions for certain federal preemptions.
Important provisions of the Act involve requirements for adoption of (i)
multi-state agents' licensing reforms and uniformity requirements and (ii)
privacy protections, giving the states the ability to enact these laws in the
first instance or be preempted. The NAIC adopted a model regulation on privacy,
and a model law on agents' licensing, which have been enacted or are currently
being considered by various state legislatures and insurance departments. It is
presently not anticipated that the insurance regulatory aspects of the Act will
have a material effect on our operations.
New Jersey Private Passenger Automobile
The New Jersey PPA market has historically been subject to regulatory and
legislative volatility which has, at times, adversely affected the profitability
of this line of business,
despite New Jersey having among the highest average premium rates in the United
States. New Jersey insurance law presently requires insurers to write all
eligible PPA coverage presented to them from drivers with eight points or less
on their driving record. This is commonly referred to as "take-all-comers".
The New Jersey Department of Banking and Insurance ("NJ DOBI") may grant an
insurer relief, by written notification, from writing new PPA business pursuant
to the take-all-comers provisions of New Jersey law if a showing finds that the
insurer's premium to surplus ("leverage") ratio exceeds 3 to 1. Motor Club's
present applicable leverage ratio for the year ended December 31, 2000 is 3.18
to 1. The impact of Motor Club's PPA results on this and other key ratios is
discussed further below.
In June 1997, the State of New Jersey enacted PPA legislation, which
principally: (1) repealed the annual "flex" rate increase available to insurers,
which was required by law to be no less than 3%, and replaced it with an
expedited prior approval rate filing process for rate increase requests up to 3%
on an overall basis. Subsequent to the enactment of this legislation, the
Commissioner of the NJ DOBI froze all PPA insurance rates until March 1998, but
still has not yet promulgated the regulations required for insurers to file for
an expedited rate increase and thus has denied all such requests; (2) restricted
the ability of insurers to non-renew at their discretion up to 2% of their
policies; (3) repealed the ability of insurers to non-renew one policy for every
two new policies written in each rating territory; and (4) replaced the rating
system which assessed surcharges to insureds'
policies for specific driving violations and accidents with a broader-based
tiered rating system. Motor Club's tier rating system was approved by the NJ
DOBI and was implemented on all PPA policies with effective dates on and after
November 1, 1998.
Additional PPA legislation (the Automobile Insurance Cost Reduction Act or
"AICRA") was enacted in 1998 which: 1) allows insureds to reduce levels of
compulsory coverages, including the option to reduce their coverage for PIP to
as low as $15,000, from the presently required $250,000; 2) revises the PIP
policy form to set forth the medical treatments and services, valid diagnostic
tests and appropriate health care protocols which are eligible to be paid; 3)
seeks to limit lawsuits by claimants by redefining the type of injury which
would be grounds for litigation; 4) replaces the present PIP arbitration system
which utilizes part-time arbitrators who render only oral decisions without
consulting medical professionals with one using full-time dispute resolution
professionals who may refer questions of medical necessity or diagnosis to
medical review organizations and who must render written decisions; 5) appoints
a special fraud prosecutor to increase enforcement of fraudulent acts committed
against insurance companies; 6) removes the system of territorial rating caps
which have been in place since 1983, enabling insurers to modify (as
appropriate) rates charged in various rating territories, which will be
redefined; and 7) requires up to a 15% reduction in rates on all PPA policies.
Implementation of most of the provisions of AICRA (with one
exception) commenced with new policies issued on March 22, 1999. The only
exception is the redefinition of the territories and removal of the territorial
rating caps, which was scheduled to be implemented by January 1, 2000. It now
appears that it will be sometime in 2002 before those regulations become
effective.
To date, we have believed that AICRA ultimately will have only a modest net
negative effect on Motor Club's PPA operations and profitability, because the
mandated rate reductions do not appear to be completely cost justified (based on
information presently available) by the cost savings in the legislation. While
we have not changed our ultimate outlook for the effect of AICRA, it is clear
based on the impact to date, combined with the inaction of the NJ DOBI as to
implementing several key provisions of AICRA and the 1997 reform legislation,
that this may take longer to occur and that the near-term effects of AICRA may
continue to be more negative than originally forecast before improvement begins.
Presently, as previously indicated, as a result of AICRA, Motor Club's
premium to surplus ratio is in excess of 3 to 1. In addition, Motor Club's
liabilities in relation to its statutory surplus are at a level whereby adverse
development of claims, particularly as a result of the impact of AICRA, could
further reduce its surplus, thus decreasing its RBC ratios, possibly to a level
which would require action as prescribed by law. To date, the NJ DOBI has
generally not been responsive to requests for rate increases or other regulatory
relief based upon the impact of AICRA to companies, nor as noted has it
implemented certain key aspects of the recent reforms which would provide relief
to insurers such as
Motor Club.
Accordingly, considering these elements, combined with New Jersey's
regulatory and legislative history, the enacted legislation, current judicial
decisions, current rate freeze and ongoing volatility, we believe there are
significant uncertainties with regard to our ongoing NJ PPA operations which
could adversely affect us. Consistent with our long-stated goal to increase
our identification as a provider of small commercial lines insurance and expand
and diversify our operations outside the State of New Jersey, we continue to
review strategies to improve the profitability of our PPA business and to
otherwise add more value to our shareholders.
The State of New Jersey also maintains an excess profits law which provides
that PPA insurers whose profits exceed a statutorily computed maximum over a
three year period will be required to pay such excess to its policyholders.
Motor Club has never reported any excess profits under this law and we believe
that in 2001 none will be reported.
Employees
At December 31, 2000, the Motor Club of America Group had approximately 185
employees.
Item 2. Properties
Motor Club of America and its subsidiaries lease office space suitable to
conduct its operations, including its home office in Paramus, New Jersey. In
addition, office facilities in Albany, New York, Bedford, New Hampshire and
Scarborough, Maine are leased under varying terms and expiration dates.
Item 3. Legal Proceedings
The Insurance Companies are a party to numerous lawsuits arising in the
ordinary course of their insurance business. We believe that the resolution of
these lawsuits will not have a material adverse effect on its results of
operations, financial condition, or cash flows.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of security holders in the fourth quarter
of 2000.
Item Pursuant to Instruction 3 to Paragraph (b) of Item 401 of
Regulation S-K. Executive Officers of the Registrant.
At December 31, 2000, the executive officers of the Registrant and their
offices with the Registrant and principal occupations were as follows:
Years in
Which Officer
Has Served
Office and Principal as
Name Age Occupation Such(3)
- ---------------------- --- ---------------------------- -------------
Archer McWhorter (1) 79 Chairman of the Board of
Directors and Director of
the Registrant and Companies
in the Motor Club of America
Group 1986-2000
Stephen A. Gilbert (2) 61 President, Chief Executive
Officer, General Counsel and
Director of the Registrant and
Companies in the Motor Club of
America Group; Chairman of the
Board, Chief Executive Officer
and Director of North East
Insurance Company 1975-2000
Patrick J. Haveron (2) 39 Executive Vice President, Chief
Executive Officer, Chief
Financial Officer and
Director of the Registrant and
Companies in the Motor Club of
America Group; Treasurer of
the Insurance Companies 1988-2000
Peter K. Barbano 50 Vice President, Secretary
and Associate General Counsel 1993-2000
Myron Rogow 57 Vice President 1987-2000
G. Bruce Patterson 56 Vice President 1989-2000
Charles J. Pelosi 55 Vice President 1983-2000
Norma Rodriguez 51 Treasurer 1984-2000
(1) Chairman of the Board of Directors of Companies in the Motor Club of
America Group; from 1996 to March 1997, Director of National Car Rental
Systems, Inc. and affiliated corporations, a car rental enterprise ("NCR");
from 1996 to February 1997, one-third owner of Santa Ana Holdings, Inc.,
which exchanged its 90% stock interest in NCR for stock in Republic
Industries, Inc.; from February 1997 to February 1998, consultant to NCR;
President (to January 1996) of Acceptance Inc., a finance company.
(2) Member of Finance Committee.
(3) Includes years during any portion of which the officer served as such. All
terms of office are until the date of the 2001 Annual Meetings of
Stockholders and Directors.
Except for Archer McWhorter, each of the officers devoted substantially
all of their business time to the affairs of the Registrant or one or more other
companies in the Motor Club of
America Group.
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder
Matters
The Registrant's Common Stock trades on the NASDAQ Stock Market under the
symbol MOTR. The following are the high and the low selling prices for each
quarter of 2000 and 1999, as reported by the NASDAQ:
2000
Quarter High Low
------- ------ ---------
I .............................. 8 3/4 6
II .............................. 8 1/2 6 15/16
III .............................. 9 1/4 7 1/4
IV .............................. 10 7 1/2
1999
Quarter High Low
------- ------ --------
I .............................. 14 7/8 13
II .............................. 14 12
III .............................. 13 1/2 10
IV .............................. 10 7/8 7 1/2
There were approximately 437 holders of record of the Common Stock of the
Registrant as of December 31, 2000. The Registrant paid no dividends in 1999 and
2000.
Item 6. Selected Financial Data
Years ended December 31,
2000(1) 1999(2)(3) 1998(3) 1997(3) 1996(3)
---------- ---------- -------- -------- -------
(in thousands, except as to per share data)
Operating Results:
Revenues from operations $ 83,631 $ 55,951 $ 53,347 $51,102 $46,525
Realized gains on sale
of investments 83 36 28 - 5
Realized gain on sale of
subsidiary - - - - 702
Net investment income 6,413 5,081 4,305 3,595 3,087
---------- -------- -------- ------- -------
Total revenues $ 90,127 $ 61,068 $ 57,680 $54,697 $50,319
========== ======== ======== ======= =======
Income before
federal income taxes $ 3,000 $ 102 $ 5,719 $ 4,630 $ 3,297
---------- -------- -------- ------- -------
Net income $ 1,960 $ 91 $ 3,778 $ 3,357 $ 5,330
========== ======== ======== ======= =======
Financial Condition:
Total assets $ 208,889 $156,588 $130,999 $102,761 $97,128
Convertible subordinated
debentures $ 10,000 $ 10,000 - - -
Note payable $ 11,500 - 3,000 - -
Shareholders' equity $ 29,992 $ 26,909 $ 28,814 $24,415 $20,381
Per Common Share:
Net income - Basic $ .92 $ .04 $ 1.79 $ 1.62 $ 2.61
Net income - Diluted $ .91 $ .04 $ 1.78 $ 1.60 $ 2.56
Book Value $ 14.12 $ 12.67 $ 13.56 $ 11.66 $ 9.95
Weighted average number of
shares outstanding:
Basic 2,124,387 2,117,912 2,108,722 2,074,473 2,045,590
Diluted 2,770,075 2,121,697 2,121,366 2,102,395 2,081,080
Significant Insurance Indicators:
Net premiums written $89,204 $ 54,508 $64,303 $51,680 $47,337
Loss and loss expense ratio 66.7% 72.8% 68.6% 65.1% 64.5%
Expense ratio 35.3% 36.4% 29.1% 33.3% 37.9%
---------- -------- -------- ------- -------
Combined ratio 102.0% 109.2% 97.7% 98.4% 102.4%
========== ======== ======== ====== =======
(1) Includes Mountain Valley's balance sheet as of December 31, 2000 and results
of operations for the ten months ended December 31, 2000.
(2) Includes North East's balance sheet as of December 31, 1999 and results of
operations for the three months ended December 31, 1999.
(3) The financial data as of and for the years ended December 31, 1996, 1997,
1998 and 1999 have been restated as described in Note V in the Notes to the
Consolidated Financial Statements.
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Overview of Business Operations
We own and operate five regionally focused property and casualty insurance
companies, including companies that
specialize in small and mid-sized commercial insurance through the Preserver
Insurance Group.
The Preserver Insurance Group consists of Preserver, which writes small
commercial and homeowners insurance in New Jersey, and Mountain Valley, which
writes small and mid-sized commercial insurance in New England and New York. The
Preserver Insurance Group is rated B++ (Very Good) by A.M. Best Company
("Best"). American Colonial plans to commence operations in New York in 2001,
writing commercial lines in tandem with Mountain Valley.
Motor Club writes private passenger automobile insurance ("PPA") in New
Jersey and is rated B+ (Very Good) by Best. North East writes PPA and small
commercial lines insurance in the State of Maine and is rated B (Fair) by Best.
We are pursuing a strategy to: (1) increase our identification as a
provider of small and mid-sized commercial lines insurance and have continued to
expand our product lines in support of this objective; and (2) expand and
diversify our insurance operations outside the State of New Jersey. We believe
that both of these objectives can be attained through the acquisition of other
insurance companies that present opportunities to write these product lines in
different geographic areas. We expect to continue to follow this strategy
although we do not anticipate any additional acquisition activity in 2001.
Mountain Valley was acquired on March 1, 2000; North East was acquired on
September 24, 1999. We believe that these acquisitions fully establish us as a
regional commercial lines
company in the New England and Mid-Atlantic regions. As evidence of this, only
44% of our consolidated revenues emanated from NJ PPA in 2000, the lowest in our
history. This percentage is expected to continue to decline in the future.
Historically, the Insurance Companies' results of operations have been
influenced by factors affecting the property and casualty insurance industry in
general and the NJ PPA market in particular. The operating results of the U.S.
property and casualty insurance industry have generally been subject to
significant variations due to competition, weather, catastrophic events,
regulation, general economic conditions, judicial trends, fluctuations in
interest rates and other changes in the investment environment.
Results of Operations
In March 2001, the Company's management determined that certain tax
benefits should not have been recognized and that certain deferred tax
liabilities had not been recorded. These tax matters, relate to the tax effects
of temporary differences arising from MCAIC, which was de-consolidated for
financial reporting purposes due to its insolvency in 1992(see Note J in the
Notes to the Consolidated Financial Statements). These tax matters have no
impact on the operations, cash flow or capital and surplus of the Company's
active insurance subsidiaries or on consolidated income before Federal income
taxes for the periods presented, nor is the Company subject to penalties and
interest on the recording of the deferred tax liabilities.
As a result, the 1998 and 1999 Consolidated Financial Statements have been
restated from amounts previously reported. The principal effects of these items
on the accompanying financial statements are presented in Note V in the Notes to
Consolidated Financial Statements.
In addition, retained earnings and thus shareholders' equity at December
31, 1997 was reduced by $126,303, representing the cumulative effect from
revising the tax accrual on prior periods' results of operations after Federal
income taxes. Finally, deferred tax assets were not recorded for the tax effects
of the minimum pension liability that is presented as a component of other
comprehensive income. Shareholders' equity at December 31, 1997 increased by
$1,539,894, representing the cumulative effect on prior periods' results of
revising the tax accrual. The net effect of these prior period adjustments
increased shareholders' equity by $1,413,591 at December 31, 1997.
The consolidated results of operations include, using the purchase method
of accounting, the results of operations of North East and Mountain Valley, from
their respective dates of acquisition.
Net income in 2000 improved as a result of improved income before Federal
income taxes from the Insurance Companies. The Insurance Companies improvement
of $3,748,000 in 2000 was the result of improved loss ratios at our Preserver
segment, economies of scale gained from our acquisitions that enabled Motor Club
to improve its expense ratio and sharply lower expenses at North East. Mountain
Valley's results were largely as anticipated. In 1999, Motor Club and Preserver
had incurred $638,000 in losses and expenses related to Hurricane Floyd, which
struck New Jersey in September 1999.
These improved underwriting results also offset a $1,419,000 increase in
interest expense related to the Convertible Subordinated Debentures and
Promissory Notes issued in 1999 and 2000, respectively, related to our
acquisitions. Non-recurring expenses related to our acquisitions declined, from
$800,000 in 1999 to $354,000 in 2000.
Significantly higher NJ PPA losses occurring in 1999, specifically PIP
first party medical claims, had caused 1999 net income to decline. Income before
federal income taxes declined $3,813,000 as compared to 1998. This was due to
the impact of AICRA on Motor Club. AICRA had been designed to reduce both
premiums and losses in NJ PPA.
Our book value increased to $14.12 per share at December 31, 2000 from
$12.67 per share at December 31, 1999.
The principal sources of the net increase were: (1) net income of
$1,960,000 or $.92 per share; (2)
$1,993,000 or $.94 per share (net of applicable deferred taxes) due to an
increase in the fair value of fixed maturity investments accounted for as
available-for-sale securities under SFAS No. 115 ("Accounting for Certain
Investments in Debt and Equity Securities"); offset by (3) $870,000 or $.41 per
share (net of applicable deferred taxes) due to an increase in the minimum
required pension liability for the Company sponsored defined benefit pension
plan ("Pension Plan") as a result of asset losses and lower interest rates.
Our book value decreased to $12.67 per share at December 31, 1999 from
$13.56 per share at December 31, 1998.
The principal sources of the net decrease were: (1) net income of $91,000
or $.04 per share; (2) $938,000 or $.44 per share (net of applicable deferred
taxes) due to a decrease in the minimum required pension liability for the
Pension Plan as a result of asset gains and higher interest rates; offset by (3)
a decrease of $3,007,000 or $1.42 per share (net of applicable deferred taxes)
in the fair value of fixed maturity investments accounted for as
available-for-sale securities under SFAS No. 115.
Book value in 1999 was also reduced by the dilutive effects ($.09 per
share) of the issuance of 7,958 shares of common stock upon the acquisition of
North East.
Segments
We are organized into four segments - Preserver, Motor Club, North East and
Mountain Valley, along with a corporate segment. See Note T to the Notes to
Consolidated Financial
Statements for further details.
Preserver
The following table summarizes the income before Federal income taxes for
this segment before the effects of the intercompany pooling agreement with
Mountain Valley:
%Change % Change
2000 2000 vs. 1999 1999 1999 vs 1998 1998
----------- ------------- ----------- ------------ -----------
Insurance premiums $15,601,866 12.9% $13,819,638 3.9% $13,303,402
Net investment income 1,808,893 16.4% 1,554,266 24.4% 1,249,505
Realized investment gains 10,781 NM 4,917 NM 12,635
Total revenues 17,421,540 13.3% 15,378,821 5.6% 14,565,542
Losses and loss
expenses incurred 8,025,885 -12.9% 9,214,764 16.3% 7,923,218
Acquisitions costs and
other operating expenses 4,694,870 15.4% 4,066,894 -9.0% 4,468,622
Total expenses 12,720,755 -4.2% 13,281,658 7.2% 12,391,840
Income before Federal
income taxes $ 4,700,785 124.1% $ 2,097,163 -3.5% $ 2,173,702
NM= Not Meaningful
Preserver continues to produce superior results, driven by excellent
growth, lower loss ratios and stable underwriting expenses. The following table
presents the underwriting ratios for this segment for each of the three years
ended December 31:
2000 1999 1998
---- ---- ----
Loss ratio 51.4% 66.7% 59.6%
Expense ratio 30.1% 29.4% 33.6%
Combined ratio 81.5% 96.1% 93.2%
The 13% growth in insurance premiums was led by Preserver's
Commercial Lines business, which grew 20% in 2000, consistent with our
overall growth strategy. Commercial lines policy count grew 10%, and the average
premium continued to increase as Preserver wrote larger accounts by virtue of
its higher Best rating, complete product line offering and competitive pricing.
In addition, Preserver was able to increase premiums on certain renewed
accounts, as market circumstances were more favorable to do so. We anticipate
that such premium increases will continue to be available to Preserver on a
selective basis in 2001, without adversely impacting retention.
The 3% growth in Preserver's Personal Property insurance premiums continues
to reflect modest amounts of new business written, along with adjustments in the
values of properties insured, offset by a continuing slightly higher attrition
rate on existing policies in 2000 as compared to 1999. Personal property policy
count declined 4% in 2000 as compared 1999.
In 1999, the increase in Commercial Lines insurance premiums of 7% was
reflective of the increased number of policies that Preserver wrote during 1999
as compared to 1998. The unchanged amount of Personal Property insurance
premiums written by Preserver reflects modest amounts of new business written
offset by a slightly higher attrition rate on existing policies in 1999 as
compared to 1998; policy count declined by 2%.
Net investment income in 2000 reflects the strong operations and $3 million
surplus contributions we made in March 2000. Invested assets continued to grow
strongly in all years.
Overall losses and LAE incurred for Preserver declined
$1,189,000 or 13% in 2000 as compared to 1999. This combined with the 13%
increase in insurance premiums reduced the net loss ratio by 23%. Most of the
changes in Preserver's net loss ratios in recent years were caused by
fluctuations in recoveries from its reinsurance coverage. Preserver's direct
loss ratios have steadily improved in recent years as its book matures,
retentions improve and pricing in Commercial Lines becomes more favorable, as
the following table shows.
2000 1999 1998
---- ---- ----
Direct Loss Ratio 54.0% 56.7% 69.2%
Ceded Loss Ratio 62.7% 16.7% 117.2%
Net Loss Ratio 51.4% 66.7% 59.6%
In 1999, Hurricane Floyd increased Preserver's net losses by approximately
$228,000 or 1.6 loss ratio points. Thus the direct loss ratio declined slightly
in 2000 as compared to 1999 (as adjusted). In addition, with Preserver's
reinsurance rates essentially unchanged over the last three years, the remainder
of the decrease in the 2000 net loss ratio was attributable to an increased
number of severe losses that had reinsurance recoveries, as compared to 1999.
This also contributed to the lower loss ratio in 1998.
Given the relatively small size of the Preserver book of business, a
limited number of severe losses can cause relatively wide fluctuations in
Preserver's net loss ratio results, depending on whether these losses were
severe enough to generate a reinsurance recovery. There have been no trends or
indications in
the last three years that Preserver's reinsurance programs have been ineffective
or that loss experience was adverse. We believe the continuing stability and
profitable levels of Preserver's direct loss ratio remains a positive indicator
of the quality of its book of business. Expenses reflect the continuing growth
of Preserver's business and are discussed in more detail in the Corporate
segment.
Motor Club
The following table summarizes the income (loss) before Federal income
taxes for this segment:
%Change % Change
2000 2000 vs. 1999 1999 1999 vs 1998 1998
----------- ------------- ----------- ------------ -----------
Insurance premiums $36,574,189 -3.3% $37,802,937 -5.2% $39,872,261
Net investment income 2,934,494 -5.9% 3,119,752 9.4% 2,852,673
Realized investment gains 13,764 NM (260) NM 15,988
Other income 32,454 NM - NM -
Total revenues 39,554,901 -3.3% 40,922,429 -4.3% 42,740,922
Losses and loss
expenses incurred 27,085,861 -6.7% 29,043,044 1.7% 28,556,373
Acquisitions costs and
other operating expenses 12,200,930 -5.3% 12,882,192 15.0% 11,200,514
Total expenses 39,286,791 -6.3% 41,925,236 5.5% 39,756,887
Income (loss) before Federal
income taxes $ 268,110 NM $(1,002,807) NM $ 2,984,035
NM= Not Meaningful
Motor Club results improved in 1999, largely due to economies of scale it
gained in expenses as a result of the acquisition of Mountain Valley and North
East. Higher loss ratios largely due to the impact of AICRA continued to make
profitability in this segment difficult in 2000. The following table presents
the underwriting ratios for each of the three years ended December 31:
2000 1999 1998
---- ---- ----
Loss Ratio 74.1% 76.8% 71.6%
Expense Ratio 33.4% 34.1% 28.1%
Combined Ratio 107.4% 110.9% 99.7%
Despite a small increase in policy count due to increased submissions of
PPA business, Motor Club's PPA insurance premiums declined due to the residual
effect of the statutorily mandated 1999 rate rollback. No rate increases were
received in 2000 and none is presently anticipated in 2001.
The decline in insurance premiums in 1999 as compared to 1998 was also due
principally to the rate rollback provisions of AICRA which were implemented
commencing in 1999, and not a significant change in the number of policies
written during the year.
Net investment income declined due to lower invested assets as a result of
AICRA's impact on the segment, both in the form of higher paid losses and lower
premiums. It had continued to increase in 1999 before AICRA's impact was felt.
Overall losses and LAE incurred for Motor Club declined $1,957,000 or 7% in
2000 as compared to 1999. This contributed to the lower loss ratio but was
offset by declines in insurance premiums discussed previously. In 1999,
Hurricane Floyd increased Motor Club's net losses by $294,000 or 0.8 loss ratio
points.
The slight improvement in the Motor Club calendar year 2000 loss ratio was
due to lower Bodily Injury ("BI") liability loss ratios, primarily in Accident
Year 2000, including reduced litigation. We believe this is due to the impact of
the AICRA reforms on this coverage and this is consistent with the stated
objectives of the AICRA reforms. However, we do think it remains premature to
conclude that such favorable BI development will continue in future Accident
Years, or that Accident Year 2000 may not adversely develop. This is due to the
volatile nature of New Jersey PPA, including the regulatory, judicial and
legislative environments.
First party medical or PIP claims continued to produce poorer results in
Accident Year 2000, consistent with those experienced in Accident Year 1999
after the AICRA rate rollback and related reforms were implemented. The
provision for Accident Year PPA claims was $1,723,000 higher in 1999 as compared
to 1998, accounting for 75% of the consolidated increase that year. These losses
did not increase until after the rate rollback and
other provisions of AICRA were implemented and were discussed previously.
As stated, we believe that claimants filing more severe PIP claims on an
accelerated basis than previously continues to cause this increase. We further
believe that this acceleration is being caused by the implementation of
regulations tightening the fee schedule, allowing pre-certification
methodologies and permitting a revised arbitration system, all of which should
serve ultimately to reduce PIP claim costs.
While this acceleration increased the level of reported PIP losses incurred
by Motor Club in Accident Years 2000 and 1999, we have reserved for their
projected ultimate losses for Accident Years 2000 and 1999, generally using
historical loss development patterns which indicate longer development patterns
than those that may occur in Accident Years 2000 and 1999.
We will continue to monitor loss development patterns in 2001 and
beyond closely, to ensure that the level of reserves carried for PPA is adequate
and appropriate as dictated by actual loss development.
To date, we have believed that AICRA ultimately will have only a modest net
negative effect on Motor Club's PPA operations and profitability, because the
mandated rate reductions do not appear to be completely cost justified (based on
information presently available) by the cost savings in the legislation. While
we have not changed our ultimate outlook for the effect of AICRA, it is clear
based on the impact to date, combined with the inaction of the NJ DOBI in
implementing several key
legislative provisions of AICRA and other legislative reforms, that this may
take longer to occur and that the near-term effects of AICRA may continue to be
more negative than originally forecast before improvement begins.
As a result, Motor Club's premium to surplus ratio is in excess of
3 to 1. In addition, Motor Club's liabilities in relation to its statutory
surplus are at a level whereby adverse development of claims, particularly as a
result of the impact of AICRA, could further reduce its surplus, thus decreasing
its RBC ratios, possibly to a level which would require action as prescribed by
law. To date, the NJ DOBI has generally not been responsive to requests for rate
increases or other regulatory relief based upon the impact of AICRA to
companies, nor as noted has it implemented certain key aspects of AICRA which
would provide relief to insurers such as Motor Club.
Accordingly, considering these elements, combined with New Jersey's
regulatory and legislative history, the enacted legislation, current judicial
decisions, current rate freeze and ongoing volatility, we believe there are
significant uncertainties with regard to our ongoing NJ PPA operations, which
could adversely affect the Company. Consistent with our long-stated goal to
increase our identification as a provider of small commercial lines insurance
and expand and diversify our operations outside the State of New Jersey, we
continue to review strategies to improve the profitability of our NJ PPA
business and otherwise to add more value to our shareholders.
Motor Club's expense ratio declined in 2000 as compared to 1999 as a result
of lower expenses. In large part the decline in expenses is due to the economies
of scale gained from the
acquisition of Mountain Valley and North East. We allocated approximately $1.3
million in costs previously attributable to Motor Club to Mountain Valley and
North East in 2000 without any significant increase in overall expenditures
other than those noted below. This accounts for most of the improvement.
North East
Since its acquisition, the following table summarizes the income (loss)
before Federal income taxes for this segment:
%Change Pro Forma Actual
2000 2000 vs. 1999 1999(1) 1999(2)
----------- ------------- --------- ----------
Insurance premiums $18,310,615 27.3% $14,380,072 $4,184,755
Net investment income 1,016,148 18.9% 854,630 246,204
Realized investment gains 14,849 -72.4% 53,880 31,382
Total revenues 19,341,612 26.5% 15,288,582 4,462,341
Losses and loss
expenses incurred 11,761,626 28.7% 9,140,615 2,373,245
Acquisitions costs and
other operating expenses 6,684,225 -13.6% 7,735,258 1,838,804
Total expenses 18,445,851 9.3% 16,875,873 4,212,049
Income (loss) before
Federal income taxes $ 895,761 NM ($1,587,291) $ 250,292
(1) Pro Forma results for the twelve months ended December 31, 1999
(2) For the three months ended December 31, 1999
NM = Not Meaningful
The following table presents North East's underwriting
ratios for 2000 and 1999:
Pro Forma Actual
2000 1999(1) 1999(2)
----- --------- -----
Loss ratio 64.2% 63.6% 56.7%
Expense ratio 36.5% 53.8% 43.9%
Combined ratio 100.7% 117.4% 100.6%
(1) Pro Forma results for the twelve months ended December 31, 1999
(2) For the three months ended December 31, 1999.
Because North East was only included from September 24, 1999, its date of
acquisition, for purposes of comparability, the following discussion of this
segment is compared with North East's full year of operation in 1999.
North East's income before Federal income taxes represents a significant
improvement from the $1,587,000 which North East lost in 1999.
The loss ratio in 2000 was 64.2% as compared to 63.6% in 1999.
Significantly lower reinsurance costs were offset by an increase in a limited
number of severe losses that occurred in 2000.
The expense ratio declined to 36.5% in 2000 from 53.8% in 1999 and is
primarily attributable to significantly lower expenses, particularly reinsurance
costs, salaries and $1,157,000 in non-recurring expenses in 1999, primarily
severance and expenses incurred in conjunction with our acquisition of North
East. Despite a $1,163,000 or 7% growth in direct premiums written in 2000 as
compared to 1999, reinsurance costs declined $1.3 million or 72% over the same
period, as we renegotiated North East's reinsurance programs.
An additional contributing factor to the improved ratios is insurance
premiums growth of $3,931,000 or 27%, which in part is affected by the
aforementioned reductions in reinsurance costs, combined with premium growth,
primarily in North East's commercial lines
products. In the third quarter of 2000, North East introduced a commercial
package product in the State of Maine similar to that offered by Preserver.
Mountain Valley
Since its acquisition, the following table summarizes the loss before
Federal income taxes for this segment before the effects of the intercompany
pooling agreement with Preserver:
2000(1)
-----------
Insurance premiums $12,980,811
Net investment income 542,760
Realized investment gains 43,354
Total revenues 13,566,925
Losses and loss
expenses incurred 8,834,681
Acquisitions costs and
other operating expenses 5,503,983
Total expenses 14,338,664
Loss before Federal
income taxes $ (771,739)
(1) For the ten months ending December 31, 2000
Mountain Valley is included from March 1, 2000, its date of acquisition.
Because Mountain Valley had no net operations prior to our acquisition of it,
other than net investment income, no comparison is made with prior years.
The following table presents Mountain Valley's underwriting ratios for
2000:
2000(1)
-------
Loss ratio 68.1%
Expense ratio 42.4%
Combined ratio 110.5%
(1) For the ten months ended December 31, 2000
The bulk of Mountain Valley's loss before income taxes of $772,000 in 2000
is the result of investment income being generated from positive cash flow,
offset by approximately $1,167,000 in expenses allocated from us for technology
and home office support during 2000. These results were in line with our
expectations and reflect significant expense ratio improvement from prior to the
acquisition, which we expect to continue in 2001.
As described previously, Mountain Valley has terminated the 100% quota
share it maintained. As noted: 1) there is no loss development, adverse or
favorable, net of third party reinsurance, that we retain on loss occurrences
prior to March 1, 2000; and 2) only Mountain Valley loss occurrences on or after
March 1, 2000 will be retained, net of reinsurance, by us. Based on the short
period of time that we have owned Mountain Valley, no meaningful loss trends on
Accident Year 2000 have been discerned.
Because Mountain Valley has a limited amount of loss experience, ultimate
losses and reserves are being provided for based upon reviews of Mountain
Valley's historical loss development patterns, prior to application of the quota
share, combined with reviews of Preserver's and general industry loss
development patterns.
Given the quota share reinsurance protection that Mountain Valley has, loss
payments are presently very low in relation to losses incurred and therefore
Mountain Valley is generating positive cash flow, with $1,544,000 in cash
flow from operations in the period from acquisition through December 31, 2000.
These assets are being invested in a manner that reflects the ultimate liability
payment patterns anticipated by Mountain Valley and applying an investment
philosophy similar to our other insurance units.
For comparison purposes, Mountain Valley's recurring direct premiums
written have grown $7,233,000 or 44% in 2000 as compared to 1999. Approximately
$1,955,000 of that growth is attributable to premium with policy terms greater
than twelve months, which we believe will help improve Mountain Valley's
retention. The majority of Mountain Valley's premium written growth is being
experienced in the States of New York, Massachusetts and Maine. Growth has been
fairly uniform in its distribution among the various commercial package,
commercial auto and supporting commercial lines products that Mountain Valley
offers.
As Accident Year 2000 and subsequent years' losses become more prevalent in
relation to older accident years, Mountain
Valley's net results should begin to reflect its underwriting operations, in
addition to the expenses related to the deployment of technology platforms
described in the Liquidity and Capital Resources section.
Other Revenues and Expenses
The following table sets forth other revenues and expenses of the Company
for each of the three years ended December 31:
%Change % Change
2000 2000 vs. 1999 1999 1999 vs 1998 1998
---------- ------------- ---------- ------------ ----------
Merger-related expenses $ 354,097 -55.7% $ 800,000 NM $ -
Interest expense 1,867,085 316.7% 448,117 727.4% 54,146
Amortization of
goodwill 84,695 300.0% 21,174 NM -
Federal income tax 1,039,758 NM 10,810 NM 1,941,022
NM = Not Meaningful
The merger expenses are for Mountain Valley in 2000 and North East in 1999.
While we do not rule out the possibility of additional acquisitions, another
transaction is unlikely in 2001, and thus these expenditures should decline
further in 2001.
The increase in interest expense reflects the issuance of
$11.5 million in Debt in February 2000 and $10 million in Convertible
Subordinated Debentures issued in September 1999. Both are related to our
acquisitions of Mountain Valley and North East, respectively, and are discussed
in further detail in the section entitled "Financing Activities".
The increase in the amortization of goodwill in 2000 compared to 1999 is
due to a full year's charge for North East, acquired on September 24, 1999. The
increase in 1999 was for a partial charge of the same item.
Our income tax expense is largely a function of the Company's income before
federal taxes. However, the Company and its subsidiaries (including MCA
Insurance Company in Liquidation and its subsidiaries ("MCAIC"), former
affiliates) file a consolidated Federal income tax return, and participate in a
Tax Sharing Agreement.
Despite being declared insolvent in 1992, MCAIC is required to continue to
be included in the Company's consolidated tax return filed with the Internal
Revenue Service. Since that time, MCAIC has generally continued to generate
taxable losses included in the consolidated tax return.
Under the applicable rules, the Company is entitled to, and has taken
current tax benefits for net operating losses that MCAIC and its subsidiaries
have generated since 1992. However, to the extent that the Company does not have
positive basis (as defined by the Internal Revenue Code), it may also be
required to pay future tax liabilities (which may offset the current tax
benefit) subject to certain events which may trigger such payments. Accordingly,
when such current tax benefits are recognized, a corresponding deferred tax
liability is recorded.
As noted previously, in March 2001, the Company's management determined
that certain tax benefits should not have been recognized and that and that
certain deferred tax liabilities had not been recorded. As a result, the 1998
and 1999 Consolidated Financial Statements have been restated from amounts
previously reported and are discussed in Note V in the Notes to Consolidated
Financial Statements.
At the time of its insolvency, MCAIC realized approximately $150 million in
losses, which generated a net operating loss ("NOL") that could not be utilized
at that time by either the Company or MCAIC under applicable IRS regulations and
which expire in 2006. Additional net operating losses have been experienced by
MCAIC since 1992, some of which were utilized by the Company at a time when it
had no tax basis in MCAIC, thus creating a deferred tax liability represented by
the $1,917,405 "Excess Loss Account" item (for the year ended December 31, 2000)
as shown in Note J of the Notes to the Consolidated Financial Statements. The
$150 million of NOL's generated in 1992 will likely increase the Company's
excess loss account at the time they expire in 2006.
An excess loss account in a subsidiary generally creates taxable income at
the time of the sale, liquidation or other disposition of the subsidiary.
Management expects that the liquidation or other disposition of MCAIC will
take place prior to the expiration of these NOL's in 2006 and prior to the
corresponding increase in the Company's excess loss account. As the control of
the liquidation process rests with the Insurance Department of the State of
Oklahoma (the "Receiver") and not with management, there is a potential risk
that such tax liability could be incurred by the Company after 2006 when the
1992 generated NOLs will have been converted into the Company's excess loss
account. Management believes it is unlikely that such risk will occur, as the
liquidation of MCAIC is probable before the expiration of the NOL. However, the
tax effects of these transactions are subject to the circumstances of the
liquidation process itself and tax-planning strategies exist which could
mitigate the impact of such a tax exposure.
With respect to the Company's excess loss account created by the Company's
utilization of MCAIC's post 1992 NOL's, these excess losses will likely result
in the Company recognizing taxable income in the year MCAIC is liquidated or
otherwise disposed of. The effect of the deferred taxes attributable to such
income has been reflected on Consolidated Financial Statements accompanying this
Report.
Liquidity and Capital Resources
Liquidity is a measure of the ability to generate sufficient cash to meet
cash obligations as they come due. Cash outflows can be variable because of
uncertainties regarding settlement dates for liabilities for unpaid losses and
because of the potential for large losses either individually or in the
aggregate.
As a holding company, the Company derives cash from its subsidiaries in the
form of dividends, tax payments and management fees. The Company uses cash to
pay debt service, Federal income taxes and operating expenses. We also may
provide capital to our subsidiaries. Maximum amounts of dividends that can be
taken without regulatory approval are prescribed by statute (See Note K of Notes
to Consolidated Financial Statements).
Deferred tax liabilities related to MCAIC (captioned as "Excess Loss
Account" in the schedule of net deferred tax assets in Note J in the Notes to
Consolidated Financial Statements) will likely be payable on the final
liquidation of MCAIC by its Receiver, which the Company does not control. It is
not presently known when MCAIC's final liquidation will occur, although the
Company does anticipate that it will have approximately one year notice before
this event occurs and that this should occur prior to 2006. Accordingly, the
Company may be required to seek financing depending on the timing and magnitude
of this liability.
Tax payments and management fees from the insurance subsidiaries are made
under agreements that generally are subject to approval by state insurance
departments.
The Insurance Companies are highly liquid, receiving substantial cash from
premiums, investment income, service fees and proceeds from sales and maturities
of portfolio investments. The principal outflows of cash are payments of claims,
taxes, interest, operating expenses and dividends. Accordingly, the Insurance
Companies maintain investment and reinsurance programs generally intended to
provide adequate funds to pay claims without forced sales of investments. The
Insurance Companies model their exposure to catastrophes and generally have the
ability to pay claims without selling securities. Even in years of greater
catastrophe frequency, the Insurance Companies have been able to pay claims
without liquidating any investments. The Insurance Companies' policy with
respect to fixed maturity investments is to purchase only those that are of
investment grade quality.
See Note K of the Notes to Consolidated Financial Statements for additional
discussion of the NAIC risk-based capital standards and Codification of
Statutory Accounting Principles with an effective
date of January 1, 2001.
As a company with insurance subsidiaries that invests substantial sums in
fixed income securities, we are accustomed to fluctuations in the value of our
fixed income investments. We have identified one hundred percent of those
investments as available for sale pursuant to SFAS 115. Accordingly, changes in
the value of those investments are recorded as other comprehensive income.
Because our investment portfolios are composed completely of securities which
are generally highly liquid (i.e., U.S. government securities and investment
grade corporate bonds), and that our credit reviews have not indicated any
downgrades, there are no grounds to believe that the unrealized gains (in 2000)
or losses incurred (in 1999) are other than temporary. In addition, the
combination of the duration of the portfolio being sufficiently short
(approximately 3.46 and 3.60 years at December 31, 2000 and 1999, respectively),
combined with the highly liquid nature of those securities and our proclivity to
hold those bonds to maturity (although they are classified as
available-for-sale), the par value of those bonds should be fully realized at
maturity, resulting in those unrealized gains and losses being temporary.
In addition, we generally believe that the longer-term trend for future
movements in interest rates is toward lower interest rates, which has occurred
and has positively affected the value of fixed income investments and has
converted those unrealized losses to unrealized gains. We believe the
combination of
economic circumstances, which is resulting in slower overall economic growth,
modest inflation and real long-term interest rates that remain historically
high, all combines to result in lower longer-term interest rate trends.
Operating and Investing Activities
Net cash provided by operating activities was $7,580,000, $910,000 and
$10,547,000 in 2000, 1999 and 1998, respectively. The increased amount in 2000
is due to the premium growth and profitable operations of the Insurance
Companies. The lower amount for 1999 is attributable to the reduction in
insurance premiums in 1999 as a result of the statutorily mandated NJ PPA rate
rollback and increased payment of PIP losses for the 1999 Accident Year.
Net cash utilized in investing activities was $15,917,000, $10,239,000 and
$11,054,000 in 2000, 1999 and 1998, respectively. The amounts used in each year
reflect the investment of cash provided by operating and finance activities.
To date, we have only increased staffing nominally to provide home office
support to our acquisitions. In 2001, we expect to increase staffing further to
support our expanded enterprise and this may increase the expense ratio. We are
also making certain capital improvements, particularly with regard to technology
platforms at Mountain Valley and Preserver. These capital outlays are
anticipated to total at least $1 million in 2001, with additional similar
investments also anticipated in 2002 and beyond.
The depreciation expense for these
improvements, along with associated implementation and conversion costs, are
expected to cause additional increases in our expenses and expense ratio in
future periods. We do expect however, that these improvements will enable
Mountain Valley and Preserver to grow efficiently in the future and will
ultimately result in cost savings in 2001 and beyond. Therefore, any increase in
expenses and expense ratio is expected to be temporary, and should result in a
lower expense ratio in the future.
Aside from the changes in operating expenditures noted previously,
particularly the investments in technology and expenditures associated with the
acquisition of Mountain Valley and North East, no unusual or nonrecurring
operating expenditures have been incurred over this period.
The payout ratio of losses, other than PIP in NJ PPA, has not fluctuated
substantially over this period. Our cash flow from operations is expected to
increase as we increase our revenue through additional premium writings,
specifically commercial lines and continue to reduce our expenses and expense
ratio. This will be offset somewhat by the development and payment of losses on
the new PPA which Motor Club is writing.
Financing Activities
We did not pay dividends on our common stock in 2000, 1999 and 1998.
In connection with our acquisition of Mountain Valley, on February 29, 2000
we borrowed $11.5 million ("Debt") from our three Executive Committee members.
For more information on the Debt, please refer to Note H in the Notes to
Consolidated
Financial Statements.
In connection with our acquisition of North East, we issued $10 million of
Convertible Subordinated Debentures ("Debentures"), on September 23, 1999, in
one series, under a plan previously approved by our shareholders. For more
information on the Debentures, please refer to Note I in the Notes to
Consolidated Financial Statements.
On December 27, 1999, we repaid the $3 million borrowed from Dresdner Bank,
AG in September 1998.
Recent Accounting Pronouncements
During 1999, the Financial Accounting Standards Board ("FASB") issued FASB
137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of
the Effective Date of FASB 133, and Amendment of FASB 133" which extended the
effective date of FASB 133 to January 1, 2001. FASB 133, "Accounting for
Derivative Instruments and Hedging Activities," establishes accounting and
reporting standards for derivative instruments. This statement will not have a
material impact on the Company's results of operations or financial condition.
In September 2000, the FASB issued Statement of Financial Accounting
Standards No. 140, "Accounting for Transfers and Servicing of Financial Assets
and Extinguishments of Liabilities, a replacement of FASB Statement No. 125".
This statement will not have a material impact on the Company's results of
operations
or financial condition.
Item 8. Financial Statements and Supplementary Data
See Item 14 (a).
Item 9. Disagreements With Accountants On Accounting and Financial Disclosures
None
PART III
Items 10, 11, 12 and 13 are omitted from this Report on Form 10-K; the
Registrant shall file a definitive proxy statement pursuant to Regulation 14A
not later than April 30, 2001, which is 120 days after the close of the fiscal
year of the Registrant.
PART IV
Item 14. Exhibits, Financial Statements Schedules and Reports on Form 8-K
(a) (1) The following financial statements are included in
Part II, Item 8:
Page(s)
-------
Report of Independent Accountants F-1
Consolidated Balance Sheets at December 31,
2000 and 1999 F-2
Consolidated Statements of Operations for
the years ended December 31, 2000, 1999
and 1998 F-3
Consolidated Statements of Shareholders'
Equity for the years ended December 31,
2000, 1999 and 1998 F-4
Consolidated Statements of Cash Flows
for the years ended December 31, 2000,
1999 and 1998 F-5 to F-6
Notes to Consolidated Financial Statements F-7 to F-48
(2) The following financial statement schedules for the years 2000,
1999 and 1998 (pursuant Rule 5-04 of Regulation S-X) are presented
herewith:
Schedule I - Summary of Investments- Other than
Investments in Related Parties* F-49
Schedule II - Condensed Financial Information
of Registrant F-50 to F-52
Schedule IV - Reinsurance* F-53
Schedule V - Valuation and Qualifying
Accounts and Reserves F-54
Schedule VI - Supplemental Information
Concerning Property/Casualty
Insurance Operations* F-55
*Presented pursuant to Rule 7-05 of Regulation S-X.
Schedules other than those mentioned above are omitted because the conditions
requiring their filing do not exist, or because the information is given in the
financial statements filed herewith, including the notes thereto.
(b) Exhibits:
Exhibit No. Description Reference
- ----------- ---------------------------------- ----------------------------
2-a Agreement and Plan of Merger Exhibit 2 to Motor Club
between Motor Club of America and of America's Form 8-K
North East Insurance Company, dated March 17, 1999
dated as of March 16, 1999
3-a Restated and Amended Certificate Exhibit 1(i) to Motor
of Incorporation of Motor Club of Club of America's
America, dated June 12, 1972 Annual Report on Form
10-K for fiscal year
ended December 31, 1972
3-b By-Laws of Motor Club of America, Exhibit 3-l to Motor
effective March 15, 1989 Club of America's
Annual Report on Form
10-K for fiscal year
ended December 31, 1988
3-c By-law Amendment of Motor Exhibit 3-m to Motor
Club of America, effective Club of America's
August 3, 1994 Form 8-K dated
July 21, 1994
4-a Specimen Certificate Exhibit 4 to File
representing Common Stock, No. 2-39996 on
$.50 par value Form S-1
10-a Motor Club of America 1987 Stock Exhibit 10-o to Motor
Option Plan Club of America's
Annual Report on Form
10-K for fiscal year
ended December 31,
1987
10-b Specimen copy of Motor Club of Exhibit 10-p to Motor
America 1987 Stock Option Club of America's
Agreement Annual Report on Form
10-K for fiscal year
ended December 31, 1987
10-c Motor Club of America 1992 Exhibit A to Motor
Stock Option Plan Club of America's
Proxy Statement for
fiscal year ended
December 31, 1991
10-d Motor Club of America 1999 Exhibit A to Motor
Stock Option Plan Club of America's
Proxy Statement for
the fiscal year ended
December 31, 1998
10-e Specimen copy Motor Club of Exhibit 10-r to
America 1992 Stock Option Motor Club of
Plan Agreement America's Annual
Report on Form 10-K
for fiscal year
ended December 31, 1992
10-f Settlement Agreement between Exhibit 99 to Motor
Motor Club of America et als. Club of America's
and Receiver of MCA Insurance Form 8-K dated
Company in Liquidation et als. December 20, 1994
and related documents
10-g Order dated December 30, 1994 Exhibit 99-C to Motor
Approving Settlement between Club of America's
Motor Club of America et als and Form 8-K dated
Receiver of MCA Insurance December 30, 1994
Company in Liquidation et als
and related conformed documents
10-h Stock Purchase Agreement Exhibit 99-F to Motor
between Motor Club of America Club of America's
and JVL Holding Properties, Inc Form 8-K dated
December 2, 1996
10-i Agreement dated December 2, 1996 Exhibit 99-G to Motor
between Motor Club of America Club of America's
and Motor Club of America Form 8-K dated
Enterprises, Inc December 2, 1996
10-j $3 Million Senior Unsecured Exhibit 10-i to Motor
Revolving Credit Facility between Club of America's Annual
Motor Club of America and Dresdner Report on Form 10-K
Bank, AG and related documents for fiscal year ended
December 31, 1998
10-k Purchase Agreement dated as of Exhibit 10.1 to Motor
December 16, 1999 between Valley Club of America's Form
Insurance Company and Motor Club 8-K dated December 16,
of America 1999
10-l Specimen copy of Form of Exhibit 1 to Form 13D of
Convertible Subordinated Archer McWhorter dated
Debentures September 23, 1999
10-m Specimen copy of Promissory Note Exhibit 10-m to Motor Club of
America's Annual Report on Form
10-K for fiscal year ended
December 31, 1999
22 Subsidiaries of Motor Club of
America Page 78
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
MOTOR CLUB OF AMERICA
(Registrant)
Dated: April 16, 2001 By s/Stephen A. Gilbert
-------------------------------
Stephen A. Gilbert
President, Chief Executive
Officer, General Counsel
and Director
Dated: April 16, 2001 By s/Patrick J. Haveron
-------------------------------
Patrick J. Haveron
Executive Vice President,
Chief Executive Officer, Chief
Financial Officer and Chief
Accounting Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Dated: April 16, 2001 By s/Archer McWhorter
-------------------------------
Archer McWhorter
Chairman of the Board
and Director
Dated: April 16, 2001 By s/Alvin E. Swanner
-------------------------------
Alvin E. Swanner
Director
Dated: April 16, 2001 By s/William E. Lobeck, Jr.
-------------------------------
William E. Lobeck, Jr.
Director
Dated: April 16, 2001 By s/Robert S. Fried
-------------------------------
Robert S. Fried
Director
Dated: April 16, 2001 By s/Malcolm Galatin
-------------------------------
Malcolm Galatin
Director
REPORT OF INDEPENDENT ACCOUNTANTS
TO THE BOARD OF DIRECTORS AND SHAREHOLDERS
OF MOTOR CLUB OF AMERICA:
In our opinion, the consolidated financial statements listed in the
index appearing under Item 14(a)(1) present fairly, in all material
respects, the financial position of Motor Club of America and its
subsidiaries at December 31, 2000 and 1999, and the results of their
operations and their cash flows for each of the three years in the
period ended December 31, 2000 in conformity with accounting principles
generally accepted in the United States of America. In addition, in our
opinion, the financial statement schedules listed in the index
appearing under Item 14 (a)(2) present fairly, in all material
respects, the information set forth therein when read in conjunction
with the related consolidated financial statements. These financial
statements and financial statement schedules are the responsibility of
the Company's management; our responsibility is to express an opinion
on these financial statements and financial statement schedules based
on our audits. We conducted our audits of these statements in
accordance with auditing standards generally accepted in the United
States of America, which 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 financial
statements, assessing the accounting principles used and significant
estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable
basis for our opinion.
As discussed in Note V, the Company has restated its December 31, 1999
and 1998 financial statements for certain tax matters.
PricewaterhouseCoopers LLP
New York, New York
April 16, 2001
F-1
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
----------
DECEMBER 31,
--------------------
2000 1999
---- ----
(Restated)
ASSETS
Investments:
Fixed maturity securities, available-
for-sale, at fair value (amortized
cost $97,571,094 -2000 and
$80,854,764 -1999) $ 98,074,324 $ 78,242,322
Equity securities, at fair value
(cost $34,659-2000 and $43,346-1999) 47,604 57,053
Mortgage loans on real estate - at the
unpaid principal amount 110,160 153,616
Short-term investments, at fair value
which approximates cost 6,760,341 8,528,858
------------ -----------
Total investments 104,992,429 86,981,849
Cash and cash equivalents 3,607,076 443,733
Premiums receivable 39,749,090 27,132,246
Reinsurance recoverable on paid
and unpaid losses and loss expenses 32,883,564 21,163,574
Notes and accounts receivable 124,111 212,598
Deferred policy acquisition costs 14,505,569 10,560,763
Fixed assets - at cost, less accumulated
depreciation 2,993,229 1,858,621
Federal income tax recoverable 12,413 47,100
Prepaid reinsurance premiums 4,324,915 1,485,450
Deferred tax asset 1,828,706 3,637,551
Goodwill, less accumulated amortization 1,509,152 1,593,801
Other assets 2,080,821 1,470,744
------------ ------------
Total Assets $208,889,242 $156,588,030
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Losses and loss expenses $ 90,392,486 $ 70,983,383
Unearned premiums 53,409,659 38,698,028
Commissions payable 4,573,912 2,802,516
Accounts payable 2,246,702 1,397,263
Accrued expenses 4,032,807 3,112,157
Drafts outstanding 2,741,249 2,685,423
Note payable 11,500,000 -
Convertible subordinated debentures 10,000,000 10,000,000
------------ ------------
Total liabilities 178,896,815 129,678,770
------------ ------------
Shareholders' Equity:
Common Stock, par value $.50 per share:
Authorized - 10,000,000 shares;
issued and outstanding shares 2,124,387 1,062,194 1,062,194
Paid in additional capital 2,066,089 2,066,089
Accumulated other comprehensive loss (2,774,148) (3,897,396)
Retained earnings 29,638,292 27,678,373
------------ ------------
Total Shareholders' Equity 29,992,427 26,909,260
------------ ------------
Total Liabilities and
Shareholders' Equity $208,889,242 $156,588,030
============ ============
The accompanying notes are an integral part of
these consolidated financial statements.
F-2
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
----------
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------
2000 1999 1998
---- ---- ----
(Restated) (Restated)
REVENUES
Insurance premiums (net of
premiums ceded totaling
$13,161,053, $8,358,946
and $6,776,174) $83,467,481 $55,807,330 $53,175,663
Net investment income 6,412,884 5,080,939 4,304,507
Realized gains on
sales of investments (net) 82,949 36,040 28,545
Other revenues 163,833 143,410 171,171
----------- ------------ ------------
Total revenues 90,127,147 61,067,719 57,679,886
----------- ------------ ------------
LOSSES AND EXPENSES
Losses and loss expenses
incurred (net of reinsurance
recoveries totaling $11,428,275,
$1,544,026 and $4,736,671) 55,708,052 40,631,053 36,479,591
Amortization of deferred
policy acquisition costs 25,135,714 14,305,501 13,375,221
Other operating expenses 3,977,827 4,759,728 2,051,522
Merger-related expenses 354,097 800,000 -
Amortization of goodwill 84,695 21,174 -
Interest expense 1,867,085 448,117 54,146
----------- ------------ ------------
Total losses and expenses 87,127,470 60,965,573 51,960,480
----------- ------------ ------------
Income before Federal income
taxes 2,999,677 102,146 5,719,406
Benefit (provision) for Federal
income taxes: current (44,797) 28,331 (179,661)
deferred (994,961) (39,141) (1,761,361)
------------ ------------ ------------
Total Federal income tax (1,039,758) (10,810) (1,941,022)
----------- ------------ ------------
Net income $ 1,959,919 $ 91,336 $ 3,778,384
=========== ============ ============
NET INCOME PER COMMON SHARE:
Basic $ .92 $ .04 $1.79
===== ===== =====
Diluted $ .91 $ .04 $1.78
===== ===== =====
WEIGHTED AVERAGE COMMON AND POTENTIAL COMMON SHARES OUTSTANDING:
Basic 2,124,387 2,117,912 2,108,722
=========== ============ ============
Diluted 2,770,075 2,121,697 2,121,366
=========== ============ ============
The accompanying notes are an integral part of
these consolidated financial statements.
F-3
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
--------
Common Stock (a)
-------------------- Paid-In Accumulated Other
Shares Additional Comprehensive Retained
Issued Amount Capital Income (Loss)(b) Earnings Total
------ ------ ---------------------------------- --------- -----
(Restated) (Restated) (Restated)
Balance at December 31, 1997 2,094,429 $1,047,215 $1,950,204 $(3,931,342) $23,934,956 $23,001,033
Prior period adjustment 1,539,894 (126,303) 1,413,591
Net income 3,778,384 3,778,384
Other comprehensive income, net
of tax:
Unrealized investment gains, net
of reclassification adjustment 668,309 668,309
Minimum pension liability
adjustment (105,204) (105,204)
-----------
Comprehensive income 4,341,489
-----------
Common stock issued 22,000 11,000 46,750 57,750
--------- --------- --------- --------- ----------- -----------
Balance at December 31, 1998 2,116,429 1,058,215 1,996,954 (1,828,343) 27,587,037 28,813,863
Net income 91,336 91,336
Other comprehensive income, net
of tax:
Unrealized investment losses, net
of reclassification adjustment (3,006,583) (3,006,583)
Minimum pension liability
adjustment 937,530 937,530
------------
Comprehensive loss (1,977,717)
------------
Common stock issued 7,958 3,979 69,135 73,114
--------- --------- --------- --------- ----------- -----------
Balance at December 31, 1999 2,124,387 1,062,194 2,066,089 (3,897,396) 27,678,373 26,909,260
Net income 1,959,919 1,959,919
Other comprehensive income, net
of tax:
Unrealized investment gains, net
of reclassification adjustment 1,992,930 1,992,930
Minimum pension liability
adjustment (869,682) (869,682)
-----------
Comprehensive income 3,083,167
--------- --------- --------- --------- ----------- -----------
Balance at Decembe 31, 2000 2,124,387 $1,062,194 $2,066,089 $(2,774,148) $29,638,292 $29,992,427
========= ========== ========== =========== =========== ===========
(a) PAR VALUE $.50 PER SHARE; AUTHORIZED - 10,000,000 SHARES.
(b) NET OF DEFERRED TAXES.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF
THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-4
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
----------
FOR THE YEARS ENDED DECEMBER 31,
------------------------------------
2000 1999 1998
---- ---- -----
(Restated) (Restated)
Net income $ 1,959,919 $ 91,336 $ 3,778,384
Adjustments to reconcile net income
to cash provided by
operating activities:
Depreciation expense 924,900 639,119 527,644
Amortization of bond
premium and discount 122,655 50,336 35,375
Amortization of goodwill 84,695 21,174 -
Gain on sale of investments (82,949) (36,040) (28,545)
Deferred tax provision 994,961 39,141 1,761,361
Changes in assets and liabilities
excluding effects of acquisitions:
Premiums receivable (6,583,131) 575,790 (12,591,502)
Notes and accounts receivable 88,487 (87,154) (775)
Deferred policy acquisition costs (2,521,953) 434,040 (2,849,679)
Federal income tax - current (259,787) (24,526) (53,035)
Reinsurance recoverable on paid and
unpaid losses and loss expenses 980,120 1,071,741 (568,211)
Prepaid reinsurance premiums 1,535,665 353,015 (320,336)
Other assets (358,537) 57,273 116,941
Losses and loss expenses 6,663,991 1,435,399 8,088,365
Unearned premiums 4,201,301 (1,652,130) 11,447,387
Commissions payable 1,708,996 (32,892) 1,512,739
Accounts payable 680,438 521,936 312,874
Accrued expenses (2,615,424) (3,544,396) (914,385)
Drafts outstanding 55,826 996,588 292,620
----------- ----------- ------------
Total cash provided by
operating activities 7,580,173 909,750 10,547,222
----------- ----------- ------------
The accompanying notes are an integral part of
these consolidated financial statements.
F-5
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(CONTINUED)
----------
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------------
2000 1999 1998
---- ---- ----
(Restated) (Restated)
Investing activities:
Proceeds from:
Maturities of fixed maturities 14,551,267 8,074,333 17,444,834
Sales of fixed maturities 7,689,638 1,205,824 2,000,000
Sale of equity securities 8,687 630,612 -
Payments received on mortgage
loan principal 43,455 207,422 161,517
Sale or maturities of short-
term investments 126,600,687 89,390,755 245,390,264
Purchase of:
Fixed maturities (34,191,912) (9,343,352) (31,304,235)
Short-term investments (124,698,557) (89,656,130) (244,133,789)
Mountain Valley (2000) and
North East (1999), net
of cash acquired (3,962,753) (10,127,839) -
Fixed assets (1,957,342) (621,069) (612,897)
----------- ------------ ------------
Total cash utilized in
investing activities (15,916,830) (10,239,444) (11,054,306)
----------- ------------ ------------
Financing activities:
Convertible subordinated
debentures - 10,000,000 -
Note payable 11,500,000 (3,000,000) 3,000,000
Common stock issued - - 57,750
----------- ------------ ------------
Total cash provided by financing
activities 11,500,000 7,000,000 3,057,750
----------- ------------ ------------
Net increase (decrease) in cash 3,163,343 (2,329,694) 2,550,666
Cash and cash equivalents
at beginning of year 443,733 2,773,427 222,761
----------- ------------ ------------
Cash and cash equivalents
at end of year $ 3,607,076 $ 443,733 $ 2,773,427
=========== ============ ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
(1) Total interest paid was $1,774,808 (2000), $448,782 (1999) and
$60,389 (1998).
(2) Total Federal income taxes paid was $0 (2000 and 1999)
and $212,738 (1998).
(3) The Company purchased all of the common stock of Mountain Valley
(2000) and North East (1999). Cash acquired in connection with
the purchase of Mountain Valley (2000) and North East (1999) was
$3,537,247 and $208,725, respectively. In conjunction with the
acquisition, liabilities were assumed as follows:
2000 1999
----------- -----------
Fair value of assets acquired $14,944,762 $32,858,750
Cash paid for the capital stock 7,500,000 10,409,682
Equity paid for the capital stock - 73,114
----------- -----------
Liabilities assumed $ 7,444,762 $23,375,954
=========== ===========
The accompanying notes are an integral part of
these consolidated financial statements.
F-6
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note A - Summary of Significant Accounting Policies:
(a) Basis of Presentation and Principles of
Consolidation:
The consolidated financial statements of Motor Club
of America (the "Company") include its accounts and
those of its directly or indirectly wholly-owned
subsidiary companies. The financial statements have
been prepared on the basis of generally accepted
accounting principles ("GAAP"). The preparation of
financial statements in conformity with these
practices requires management to make estimates and
assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial
statements and the reported amounts of revenues and
expenses during the period. Actual results could
differ from those estimates.
The Company's insurance subsidiaries, Motor Club of
America Insurance Company ("Motor Club"), Preserver
Insurance Company ("Preserver"), Mountain Valley
Indemnity Company ("Mountain Valley"), North East
Insurance Company ("North East") and its subsidiary
American Colonial Insurance Company ("American
Colonial") are collectively referred to as the
"Insurance Companies".
All material intercompany items and transactions have
been eliminated in consolidation. Certain amounts in
prior years have been reclassified to conform to the
current presentation.
(b) Nature of Operations:
The Company is a New Jersey corporation which owns
the Insurance Companies. The Company acquired North
East and its subsidiaries on September 24, 1999 and
Mountain Valley on March 1, 2000; see Note B
and C for more information on these transactions,
respectively. The Insurance Companies engage in
(Continued)
F-7
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note A - Summary of Significant Accounting Policies
(Continued):
property and casualty insurance, principally small
commercial, private passenger automobile and
homeowners insurance, produced by independent agents.
The Company generates substantially all of its
revenues from its insurance operations.
Motor Club and Preserver's operations are in the
State of New Jersey. Mountain Valley's operations are
in New England (except for Connecticut) and New York.
North East's operations are in the State of Maine.
American Colonial, which has not written any business
since March 1990, plans to recommence operations in
the State of New York in 2001.
(c) Insurance Premiums:
Insurance premiums are credited to income by the
monthly pro rata method over the terms of the
contracts. Beginning July 1, 1998, Motor Club began
converting its contracts for private passenger
automobile insurance from six month to twelve month
policies ("Policy Term Conversion"). While the Policy
Term Conversion temporarily increased, for a one year
period commencing July 1, 1998, the amount of
premiums written by Motor Club, it did not affect the
amount of premiums earned. Insurance contracts for
policies are for terms of one to three years.
(d) Investments:
All of the Company's fixed maturity and equity
securities are classified as available-for-sale
securities, and are therefore reported at fair value,
with unrealized gains and losses excluded from
earnings and reported as a separate component of
shareholders' equity, net of applicable deferred
taxes.
(Continued)
F-8
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note A - Summary of Significant Accounting Policies
(Continued):
The Company does not invest in, hold or issue any
derivative financial instruments.
Premium and discount amounts are amortized into
income based on the stated contractual life of the
securities. The Company recognizes income for the
mortgage-backed and asset-backed bond portion of its
fixed maturity securities portfolio using the
constant effective yield method.
When actual prepayments differ from this assumption,
the effective yield is recalculated to reflect actual
payments to date. The net investment in the security
is adjusted to the amount that would have existed had
the new effective yield been applied since the
acquisition of the security. That adjustment is
included in net investment income.
Gains and losses on investments are recognized when
investments are sold or redeemed on a specific
identification basis.
(e) Other Revenues:
Other revenues consist principally of interest on
mortgage loans and servicing fees from motor club
membership fees, which are earned when services are
fulfilled.
(f) Losses and Loss Expenses:
The estimated liability for losses is based on (1)
the accumulation of cost estimates for unpaid losses
reported prior to the close of the accounting period;
and (2) estimates of incurred but not reported losses
based upon past experience; less (3) estimates of
anticipated salvage and subrogation recoveries. In
the normal course of business, the Company seeks to
reduce the loss that
(Continued)
F-9
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note A - Summary of Significant Accounting Policies
(Continued):
may arise from catastrophes or other events that
cause unfavorable underwriting results by
reinsuring certain levels of risk in various areas of
exposure with other insurance enterprises or
reinsurers.
Changes to the estimated liabilities are reflected in
the results of operations currently.
The liability for loss expenses is based on estimates
of expenses to be incurred in the settlement of
claims.
(g) Deferred Policy Acquisition Costs:
Deferred policy acquisition costs are costs that vary
with and are primarily related to the production of
new and renewal business. Such costs include
commissions, premium taxes and certain underwriting
and policy issuance costs which are deferred when
incurred and amortized to income as the related
written premiums are earned.
Investment income is anticipated in determining the
recoverability of deferred policy acquisition costs.
(h) Fixed Assets:
Depreciation on leasehold improvements is computed by
the straight-line method over the remaining lease
term. Depreciation on furniture and fixtures,
technology investments and other equipment, is
computed by the straight-line method over the
estimated useful lives, ranging from three to twenty
years.
(Continued)
F-10
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note A - Summary of Significant Accounting Policies
(Continued):
Expenditures for major renewals and betterments are
capitalized, and expenditures for maintenance and
repairs are charged to income as incurred. When fixed
assets are retired, or otherwise disposed of, the
cost thereof and related accumulated depreciation are
eliminated from the accounts. Any gain or loss on
disposal is credited or charged to operations.
(i) Federal Income Taxes:
Deferred Federal income taxes are provided for
temporary differences between the financial statement
and tax basis of assets and liabilities using enacted
tax rates expected to apply in the years in which the
differences are expected to reverse.
(j) Goodwill:
Under the purchase method of accounting for business
combinations, the total purchase price is allocated
to the acquired assets and liabilities based on their
fair values. Any differences between the excess of
the cost of the transaction and the fair value of net
assets acquired is recorded as goodwill, which will
be amortized on a straight-line basis over twenty
years.
(k) Statement of Cash Flows:
For purposes of the statement of cash flows, the
Company considers demand deposits held with financial
institutions and money market mutual fund holdings to
be cash equivalents.
(Continued)
F-11
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note A - Summary of Significant Accounting Policies
(Continued):
(l) Per Share Data:
Basic earnings per share are computed based upon the
weighted average number of common shares outstanding
during each year. Diluted earnings per share are
computed based upon the weighted average number of
common shares outstanding including outstanding stock
options. See Note Q for more information on
outstanding stock options and Note S for more
information on the computation of Earnings per Share.
(m) Comprehensive Income (Loss):
Comprehensive income (loss) consists of net income,
the unfunded accumulated benefit obligation in excess
of plan assets ("minimum pension liability") and net
unrealized investment gains or losses on
available-for-sale securities and is presented
separately in Note P. These amounts are reported net
of deferred Federal income taxes.
(n) Fair Value of Financial Instruments
The carrying amounts reported in the Consolidated
Balance Sheets for cash and cash equivalents, premium
receivables, accounts payable and notes payable
approximate those assets and liabilities fair values
due to the short term nature of the instruments. The
fair value of investments and convertible
subordinated debentures are addressed in the related
footnotes.
Note B - Acquisition of North East:
On September 24, 1999, the Company acquired North East,
headquartered in Scarborough, Maine, through a merger of a
wholly-owned subsidiary of the Company with and into North
East.
Under the terms of the merger, certain North East shareholders
elected and received 7,958 shares of the Company's common
stock representing 41,781 shares of North East common stock;
the remaining shareholders and holders of North East stock
options were paid $10,409,682 in cash. The aggregate purchase
price for the transaction was $10,482,796.
(Continued)
F-12
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note B - Acquisition of North East (Continued):
The acquisition has been accounted for using the purchase
method of accounting and, the excess purchase price over the
fair value of the net assets acquired of $1,614,957 was
allocated to goodwill. The goodwill is being amortized on a
straight-line basis over twenty years. The 1999 consolidated
results of operations include the results of operations of
North East for the three months ended December 31, 1999. The
amount of goodwill amortization expense recorded in 2000 and
1999 was $84,695 and $21,174, respectively.
The following unaudited pro forma consolidated results of
operation for the years ended December 31, 1999 and 1998
assume the North East acquisition occurred as of January 1,
1998:
1999 1998
---- ----
(Restated) (Restated)
Insurance premiums $66,002,646 $65,756,095
Net investment income 5,695,332 5,175,055
Realized gains on sales of
investments (net) 3,102 82,817
Other revenue 143,410 171,171
----------- -----------
Total revenues 71,844,490 71,185,138
----------- -----------
Losses and loss expenses
incurred 47,398,423 44,837,264
Other operating expenses 25,860,049 21,339,295
----------- -----------
Total losses and expenses 73,258,472 66,176,559
----------- -----------
Income (loss) before federal
income taxes (1,413,982) 5,008,579
Benefit (provision) for
federal income taxes 488,475 (1,687,859)
----------- -----------
Net income (loss) $ (925,507) $ 3,320,720
=========== ===========
Per share:
Basic $ (.44) $ 1.57
=========== ===========
Diluted $ (.44) $ 1.40
=========== ===========
(Continued)
F-13
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note C - Acquisition of Mountain Valley:
On March 1, 2000 the Company completed its acquisition of
Mountain Valley, formerly known as White Mountains Insurance
Company, from Unitrin, Inc. for $7.5 million in cash. Mountain
Valley is based in Bedford, New Hampshire.
The fair value of Mountain Valley's net assets at March 1,
2000 was $7,775,687. The acquisition has been accounted for
using the purchase method of accounting and thus based on the
fair value of the net assets acquired at March 1, 2000, the
Company recorded $275,687 of the difference between the excess
which represented the fair value of net assets acquired and
the cost of the transaction as a reduction of deferred policy
acquisition costs, which is being amortized on a straight-line
basis over the terms of the underlying insurance contracts
associated with those costs.
Under the terms of the purchase, Mountain Valley terminated
its former 100% intercompany quota share reinsurance
agreement; at closing there were no net loss and loss expense
reserves for claims occurring prior to closing, including
those which develop subsequently. Mountain Valley assumed
$6,135,200 of unearned premium and other liabilities of
$1,309,562 at closing (subject to certain adjustments).
Because of the 100% quota share, Mountain Valley had no net
underwriting operations prior to March 1, 2000 and thus no pro
forma effects of the acquisition are presented.
Note D - Investments:
(a) The amortized cost and estimated fair value of investments in
fixed maturity securities at December 31, 2000 were as
follows:
(Continued)
F-14
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note D - Investments (Continued):
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
----------- ---------- ----------- ----------
U.S. Government
securities $25,283,857 $ 969,621 $ (29,541) $26,223,937
Mortgage-backed
securities 22,842,939 115,961 (38,022) 22,920,878
Asset-backed
securities 12,303,741 32,086 (20,351) 12,315,476
Corporate
securities 37,140,557 202,337 (728,861) 36,614,033
----------- ---------- --------- -----------
Total $97,571,094 $1,320,005 $(816,775) $98,074,324
=========== ========== ========= ===========
The amortized cost and estimated fair value of investments in
fixed maturity securities at December 31, 1999 were as
follows:
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
----------- ---------- ----------- ----------
U.S. Government
securities $20,031,827 $128,984 $ (239,128) $19,921,683
Mortgage-backed
securities 10,678,363 29,476 (301,482) 10,406,357
Asset-backed
securities 10,454,886 - (216,034) 10,238,852
Corporate
securities 39,689,688 9,436 (2,023,694) 37,675,430
----------- -------- ----------- -----------
Total $80,854,764 $167,896 $(2,780,338) $78,242,322
=========== ======== =========== ===========
The amortized cost and fair value of investments in fixed
maturity securities at December 31, 2000, by contractual
maturity, were as follows:
Amortized Fair
Cost Value
----------- -----------
Due in one year or less $ 6,095,794 $ 6,124,940
Due after one year through
five years 26,531,826 26,873,336
Due after five years through
ten years 30,311,345 30,272,020
Due after ten years 34,632,129 34,804,028
----------- -----------
$97,571,094 $98,074,324
=========== ===========
(Continued)
F-15
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note D - Investments (Continued):
The above maturity tables include $35,236,354 (at fair value)
of mortgage-backed and asset-backed securities, which were
classified based on the contractual life of the securities.
Expected maturities may differ from contractual maturities
because borrowers have the right to call or prepay obligations
with or without call or prepayment penalties. Gross gains of
$157,992, $6,213 and $50,099 were realized on proceeds of
$9,304,811, $546,789 and $10,434,411 in 2000, 1999 and 1998,
respectively, on those sales and calls. Gross losses of
$75,243, $595 and $21,554 were realized on proceeds of
$4,738,160, $250,000 and $5,391,130 in 2000, 1999 and 1998,
respectively, on those sales and calls.
(b) Net investment income by category of investments consisted of
the following:
CATEGORY 2000 1999 1998
-------- ---- ---- ----
Fixed maturities $5,664,918 $4,665,066 $3,950,500
Other, principally
short-term
investments 1,021,032 593,366 498,253
---------- ---------- ----------
Total investment
income 6,685,950 5,258,432 4,448,753
Investment
expenses 273,066 177,493 144,246
---------- ---------- ----------
Net investment
income $6,412,884 $5,080,939 $4,304,507
========== ========== ==========
(c) At December 31, 2000 and 1999, fixed maturity investments (at
fair value) deposited with the various states where the
Insurance Companies conduct business amounted to $7,407,918
and $2,986,560, respectively.
(d) There were no investments in any persons and its affiliates in
excess of ten percent of shareholders' equity.
(Continued)
F-16
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note D - Investments (Continued):
(e) The change in net unrealized gains (losses) on
investments are as follows:
YEARS ENDED DECEMBER 31,
------------------------------------
2000 1999 1998
---- ---- ----
Fixed
maturities $3,115,672 $(4,517,228) $1,012,666
========== ============ ==========
(f) In the opinion of management there has been no other than
temporary impairments in the carrying amount of investments.
Note E - Unpaid Losses and Loss Expenses:
(a) The following table provides a reconciliation of the beginning
and ending balances for unpaid losses and loss expenses for
2000, 1999 and 1998:
2000 1999 1998
---- ---- ----
Balance at January 1 $70,983,383 $58,335,143 $50,246,778
Less: Reinsurance
recoverables 18,453,650 18,520,866 17,363,319
----------- ----------- -----------
Net balance at
January 1 52,529,733 39,814,277 32,883,459
Acquired in 1999 - 8,820,265 -
Incurred losses and
loss expenses:
Provision for current
year claims 55,542,028 37,271,781 32,598,287
Increase in provision
for prior years'
claims 166,024 3,359,272 3,881,304
----------- ----------- -----------
Total incurred losses
and loss expenses 55,708,052 40,631,053 36,479,591
----------- ----------- -----------
Payment for losses and
loss expenses:
Payment on current
year claims 24,501,115 16,447,458 12,038,000
Payment on prior
years' claims 23,540,843 20,288,404 17,510,773
----------- ----------- -----------
(Continued)
F-17
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note E - Unpaid Losses and Loss Expenses (Continued):
2000 1999 1998
---- ---- ----
Total payments for
losses and loss
expenses 48,041,958 36,735,862 29,548,773
----------- ----------- -----------
Net balance at
December 31 60,195,827 52,529,733 39,814,277
Plus: Reinsurance
recoverables 30,196,659 18,453,650 18,520,866
----------- ----------- -----------
Balance at December 31 $90,392,486 $70,983,383 $58,335,143
=========== =========== ===========
The Company recognized unfavorable development in the
provision for insured events of prior years of $166,024,
$3,359,272 and $3,881,304 in 2000, 1999 and 1998,
respectively. The small 2000 development reflects generally
neutral net development in each of the Insurance Companies.
Motor Club did experience favorable development of private
passenger automobile ("PPA") losses occurring in 1999 offset
by unfavorable development of losses occurring from 1996 to
1998. The 1999 and 1998 development reflects the initial
adverse development of Motor Club's reserves for PPA losses
occurring in those years.
In establishing the liability for unpaid losses and loss
settlement expenses, management considers facts currently
known and the current state of the law and coverage
litigation. Liabilities are recognized for known losses
(including the cost of related litigation) when sufficient
information has been developed to indicate the involvement of
a specific insurance policy, and management can reasonably
estimate its liability. In addition, liabilities have been
established to cover additional exposures on both known and
unasserted losses. Estimates of the liabilities are reviewed
and updated continually.
(Continued)
F-18
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note E - Unpaid Losses and Loss Expenses (Continued):
(b) Losses incurred are reduced by salvage and subrogation
approximating $4,249,190, $3,144,175 and $2,661,000 for the
years ended December 31, 2000, 1999 and 1998, respectively.
Note F - Fixed Assets:
Fixed assets consist of the following:
2000 1999
---- ----
Leasehold improvements $ 266,041 $ 202,275
Office furniture, fixtures and
data processing equipment 6,300,978 3,984,231
---------- ----------
6,567,019 4,186,506
Less accumulated depre-
ciation 3,573,790 2,327,885
---------- ----------
Balance at December 31 $2,993,229 $1,858,621
========== ==========
Note G - Reinsurance:
(a) Unearned premiums and unpaid loss and loss expenses are
stated gross of the effects of reinsurance.
(b) Ceded premiums are recognized in a manner consistent with the
coverage provided. Amounts recoverable from reinsurers are
estimated in a manner consistent with the claims liabilities
associated with the reinsurance.
(c) Reinsurance contracts do not relieve the Insurance Companies
from their obligations to policyholders. Failure of reinsurers
to honor their obligations could result in losses to the
Insurance Companies. Generally, for Motor Club and Preserver
all risks in excess of $200,000 for 2000 and $150,000 for 1999
and prior for liability lines and $100,000 for property
lines are reinsured.
North East's principal reinsurance protection is provided
through a combined per risk excess of loss treaty. Prior to
2000, this reinsurance afforded recovery to $1 million in
excess of a retention of $50,000. On January 1, 2000, this
retention was increased to $150,000.
(Continued)
F-19
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note G - Reinsurance (Continued):
Prior to March 1, 2000, the date the Company acquired Mountain
Valley, Mountain Valley ceded 100% of its premiums, losses and
expenses under a quota share treaty to Trinity Universal
Insurance Company ("Trinity"), a subsidiary of Unitrin, Inc.,
("Trinity Quota Share"). All cessions under the Trinity Quota
Share are after the application of all third party reinsurance
that Mountain Valley maintains.
Effective March 1, 2000, the Trinity Quota Share was
terminated on a cut-off basis. Under the terms of the cut-off,
Mountain Valley will continue to cede 100% of losses and
expenses incurred before March 1, 2000, including subsequent
development of those losses and expenses. In addition, Trinity
retained the premiums, losses and expenses on certain policies
in the State of New York until Mountain Valley renewed,
canceled or non-renewed those policies at (or prior to) their
expiration dates.
Accordingly, as of March 1, 2000, Mountain Valley had and will
continue to have no net unpaid loss and loss expense reserves
for losses incurred before March 1, 2000. Reinsurance
recoverables on unpaid loss and loss expenses due under the
Trinity Quote Share were $10,723,263 at December 31, 2000.
Mountain Valley is subject to credit risk should Trinity not
be able to pay its obligations under the Trinity Quota Share.
However, Trinity is presently rated A+ (Superior) by A.M. Best
and has $846 million in statutory surplus as regards
policyholders as of December 31, 2000. Thus, management
believes that such credit risk is not material at this time.
Third party reinsurance for property and casualty losses of
Mountain Valley are principally maintained under a combined
per risk excess of loss treaty affording recovery to $5
million in excess of a retention of $250,000.
(Continued)
F-20
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note G - Reinsurance (Continued):
The Insurance Companies also maintain additional reinsurance
contracts for boiler and machinery coverages, commercial
umbrella and workers' compensation policies, catastrophe
events and for certain risks that it underwrites which it does
not believe are appropriate for coverage by its third party
treaty reinsurance.
The Insurance Companies evaluate the financial condition of
their reinsurers and monitor concentrations of credit risk
arising from activities or economic characteristics of the
reinsurers to minimize their exposure to significant losses
from reinsurer insolvencies.
As referred to in Note A, Motor Club and Preserver's
operations are presently located in the State of New Jersey,
the laws of which require participation in certain reinsurance
funds.
Reinsurance recoverable on paid and unpaid loss and loss
expenses include amounts recoverable from the Unsatisfied
Claim and Judgment Fund ("UCJF") of the State of New Jersey,
which pertains to New Jersey Personal Injury Protection claims
in excess of Motor Club's statutory retention limit of
$75,000. Reinsurance recoverable from the UCJF was $7,858,373
and $8,672,127 as of December 31, 2000 and 1999, respectively.
Motor Club is required to participate in the New Jersey
Automobile Insurance Risk Exchange ("NJ AIRE"). NJ AIRE is
designed to balance differences between Motor Club's bodily
injury exposures and loss payments as compared to industry
exposures and loss payments under New Jersey's dual tort
threshold system.
(Continued)
F-21
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note G - Reinsurance (Continued):
Assessments paid to NJ AIRE based on subject bodily injury
exposures are accounted for as ceded premiums written and
totaled $723,851, $1,805,185 and $1,113,756 in 2000, 1999 and
1998, respectively. Reimbursements from NJ AIRE based on
subject claim payment experience are accounted for as ceded
losses incurred and totaled $1,027,146, $1,347,565 and
$548,415 in 2000, 1999 and 1998, respectively.
Prepaid reinsurance premiums of $4,324,915 and $1,485,450 as
of December 31, 2000 and 1999, respectively, are mainly
attributable to Preserver's and Mountain Valley's workers'
compensation program and excess of loss reinsurance treaties.
The effect of reinsurance on premiums written and earned is as
follows:
2000 1999 1998
----- ---- ----
WRITTEN EARNED WRITTEN EARNED WRITTEN EARNED
--------------------- --------------------- ---------------------
Direct $100,846,838 $96,615,156 $62,467,203 $64,151,936 $71,399,224 $59,951,837
Assumed (17,003) 13,380 46,946 14,340 - -
Ceded (11,625,394) (13,161,055) (8,005,934) (8,358,946) (7,096,511) (6,776,174)
------------ ----------- ----------- ----------- ----------- -----------
Net $ 89,204,441 $83,467,481 $54,508,215 $55,807,330 $64,302,713 $53,175,663
============ =========== =========== =========== =========== ===========
Note H - Note Payable:
On September 14, 1998, the Company entered into a $3 million
revolving credit facility with Dresdner Bank (the "Loan") and
drew on the entire amount of the Loan on September 30, 1998.
The Loan was repaid in full on December 27, 1999. The
weighted-average effective rate of interest on the Loan was
7.28% and 7.0625% in 1999 and 1998, respectively. Interest
paid on the loan in 1999 and 1998 was $216,017 and $54,146,
respectively.
In connection with the acquisition of Mountain Valley, three
of the Company's directors ("Ownership Group") extended
unsecured debt financing ("Notes") in the amount of $11.5
million to finance the transaction and to provide additional
working capital to the Company. The Notes mature on February
28, 2002 and pays interest quarterly at a rate of 10.605%. The
Company is pursuing longer-term financing options to replace
the Notes. At the Company's election, if acceptable financing
is not identified by Motor Club during the two-year period,
the Notes can be extended for up to five years utilizing
successive one-year renewals, in exchange for an increased
interest rate on the Notes. Interest paid on the Notes was
$914,681 in 2000.
Note I - Convertible Subordinated Debentures:
In connection with its acquisition of North East, on September
23, 1999, the Company issued $10 million of Convertible
Subordinated Debentures ("Debentures"), in one series, under a
plan previously approved by its shareholders.
(Continued)
F-22
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note I - Convertible Subordinated Debentures (Continued):
The Debentures are due on September 23, 2009 and bear an
interest rate of 8.44%, which was 2.5% over the London
Interbank Offered Rate, fixed as of September 23, 1999, the
date the series was issued.
At each holder's option, the Debentures are convertible at any
time, in whole or in part, into 645,578 of the Company's
common shares ($10 million divided by 130% of the average
trading price of the Company's common stock over the twenty
day period immediately prior to September 23, 1999
("Conversion Price")). The applicable Conversion Price is
$15.49.
The Ownership Group purchased $9,253,785 of the $10 million in
Debentures issued. If the members of the Ownership Group
convert those Debentures, their percentage ownership in the
Company's common stock will substantially increase. Based on
the Company's common shares outstanding as of December 31,
2000, the Ownership Group could increase its collective
percentage stock ownership from the current 47.1% to 57.7%.
Interest paid on the Debentures was $844,000 and $232,100 in
2000 and 1999, respectively. The fair value of the Debentures
was estimated to be $11,950,282 and $12,648,876 at December
31, 2000 and 1999, respectively. Fair value for the Debentures
are estimated using a model that considers both the debt and
equity components of the security. As to the debt component,
fair value was estimated by considering the Debentures
estimated credit quality, similar instruments and its
remaining average life. As to the equity component, fair value
was estimated using the Black-Scholes option pricing model
based on the following assumptions for 2000 and 1999:
risk-free interest rate of 5.19% and 6.44%; volatility of
47.6% and 50.5%; and expected life of 9.75 years and 8.75
years. The Company does not pay a dividend on its common
stock.
(Continued)
F-23
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note J - Taxes:
(a) The Company and its subsidiaries (including MCA Insurance
Company in Liquidation and its subsidiaries ("MCAIC"), former
affiliates) file a consolidated Federal income tax return, and
participate in a Tax Sharing Agreement.
Despite being declared insolvent in 1992, MCAIC is required to
continue to be included in the Company's consolidated tax
return filed with the Internal Revenue Service. Since that
time, MCAIC has generally continued to generate taxable losses
included in the consolidated tax return.
Under the applicable rules, the Company is entitled to, and
has taken current tax benefits for net operating losses that
MCAIC and its subsidiaries have generated since 1992. However,
to the extent that the Company does not have positive basis
(as defined by the Internal Revenue Code), it may also be
required to pay future tax liabilities (which may offset the
current tax benefit) subject to certain events which may
trigger such payments. Accordingly, when such current tax
benefits are recognized, a corresponding deferred tax
liability is recorded.
(Continued)
F-24
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note J - Taxes (Continued):
In March 2001, the Company's management determined that
certain tax benefits should not have been recognized and that
certain deferred tax liabilities had not been recorded. In
addition, deferred tax assets were not recorded that should
have been for the tax effects of the minimum pension liability
that is presented as a component of other comprehensive
income. As a result, the 1998 and 1999 Consolidated Financial
Statements have been restated from amounts previously reported
and are discussed in Note V.
At the time of its insolvency, MCAIC realized approximately
$150 million in losses, which generated a net operating loss
("NOL") that could not be utilized at that time by either the
Company or MCAIC under applicable IRS regulations and which
expire in 2006. Additional net operating losses have been
experienced by MCAIC since 1992, some of which were utilized
by the Company at a time when it had no tax basis in MCAIC,
thus creating a deferred tax liability represented by the
$1,917,405 "Excess Loss Account" item (for the year ended
December 31, 2000) as shown in the deferred tax reconciliation
of this Note. The $150 million of NOL's generated in 1992 will
likely increase the Company's excess loss account at the time
they expire in 2006.
An excess loss account in a subsidiary generally creates
taxable income at the time of the sale, liquidation or other
disposition of the subsidiary.
Management expects that the liquidation or other disposition
of MCAIC will take place prior to the expiration of these
NOL's in 2006 and prior to the corresponding increase in the
Company's excess loss account. As the control of the
liquidation process rests with the Insurance Department of the
State of Oklahoma (the "Receiver") and not with management,
there is a potential risk that such tax liability could be
incurred by the Company after 2006 when the 1992 generated
NOLs will have been converted into the Company's excess loss
account. Management believes it is unlikely that such risk
will occur, as the liquidation of MCAIC is probable before the
expiration of the NOL. However, the tax effects of these
transactions are subject to the circumstances of the
liquidation process itself and tax-planning strategies exist
which could mitigate the impact of such a tax exposure.
With respect to the Company's excess loss account created by
the Company's utilization of MCAIC's post 1992 NOL's, these
excess losses will likely result in the Company recognizing
taxable income in the year MCAIC is liquidated or otherwise
disposed of. The effect of the deferred taxes attributable to
such income has been reflected in the Consolidated Financial
Statements.
(b) The tax effects of temporary differences that give rise to
significant portions of the deferred tax assets and
liabilities were as follows:
December 31,
2000 1999
---------- ---------
(Restated)
Deferred tax assets:
Net operating loss ("NOL")
carryforward $2,997,500 $2,969,144
Unpaid losses and loss
expenses 2,448,971 2,046,251
Unearned premium 3,337,694 2,530,457
Unrealized loss on
securities - 888,230
Minimum pension liability 1,559,138 1,111,120
Alternative minimum tax and
general business credit carry-
forwards 345,408 300,611
Other deferred tax assets 227,349 313,353
---------- ----------
Total deferred tax assets 10,916,060 10,159,166
---------- ----------
Deferred tax liabilities:
Deferred acquisition costs (4,931,893) (3,590,659)
Excess loss account (1,917,405) (910,664)
Unrealized gain on
securities (171,098) -
Prepaid pension cost (1,313,026) (1,181,989)
Other deferred tax liabilities (169,490) (223,447)
---------- ----------
Total deferred tax liabilities (8,502,912) (5,906,759)
---------- ----------
Less: valuation allowance for
deferred tax assets (584,442) (614,856)
---------- ----------
Net deferred tax
asset $1,828,706 $3,637,551
========== ===========
(Continued)
F-25
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note J - Taxes (Continued):
The NOL carryforward of $8,816,176 expires beginning in 2009.
The NOL carryforward includes $6,327,667 of NOL's attributable
to North East, which expire in 2014. Under the prevailing tax
laws, these losses must be used to offset taxable income of
North East only, are not available to offset taxable income of
other operations and are subject to an annual limitation of
$587,000.
The Company believes it is more likely than not that it will
generate future taxable income to realize the benefits of the
net deferred tax asset, including those net deferred tax
assets attributable to North East only. The ultimate amounts
realized, however, could be reduced if actual amounts of
future taxable income differ from projected future taxable
income. A valuation allowance has been provided for NOL's
relating to MCAIC that have not been utilized as well as for
capital loss carryforwards generated from North East that
management believes may not be utilized within the
carryforward period.
(c) The provision for Federal income taxes resulted in effective
tax rates that differ from the statutory Federal income tax
rates, as follows:
2000 1999 1998
---- ---- ----
(Restated) (Restated)
Tax provision
computed at statutory
federal income tax rates ($1,019,890) ($ 34,730) ($1,944,598)
Goodwill (28,798) (7,199) -
Other 8,930 31,119 3,576
----------- ----------- -----------
Provision $(1,039,758) $ (10,810) $(1,941,022)
=========== =========== ===========
(d) The Consolidated Statements of operations for the years ended
December 31, 2000, 1999 and 1998 include state taxes based on
insurance premiums of $884,052, $230,606, and $189,346,
respectively.
(Continued)
F-26
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note K - Shareholders' Equity:
(a) The Insurance Companies prepare their statutory financial
statements in accordance with accounting practices prescribed
or permitted by the respective Departments of Insurance in
which they are domiciled ("SAP").
Prescribed statutory accounting practices include a variety of
publications of the National Association of Insurance
Commissioners ("NAIC"), as well as state laws, regulations and
general administrative rules. Permitted statutory accounting
practices encompass all accounting practices not so
prescribed.
The Insurance Companies are required by law to maintain
certain minimum surplus on a statutory basis, and are subject
to risk-based capital requirements and to regulations under
which payment of a dividend from statutory surplus is
restricted and may require prior approval of regulatory
authorities. Applying the current regulatory restrictions as
of December 31, 2000, and to the extent that statutorily
defined surplus is available, $3,329,000 would be available
for distribution during 2001 without prior approval.
As a result of PPA reforms in New Jersey, which include a
reduction of premium due to a rate rollback, Motor Club's
liabilities for unpaid losses and loss expenses in relation to
its statutory surplus are at a level whereby adverse
development of claims, particularly as a result of the impact
of these reforms, could further reduce its surplus, thus
decreasing its risk-based capital ratios, possibly to a level
which would require action as prescribed by law. To date, the
New Jersey Department of Banking and Insurance has generally
not been responsive to request for rate increases or other
regulatory relief based upon the impact of these reforms to
companies, nor as noted has it implemented certain key aspects
of these reforms which would provide relief to insurers such
as Motor Club.
(Continued)
F-27
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note K - Shareholders' Equity (Continued):
The NAIC has adopted the Codification of Statutory Accounting
Principles with an effective date of January 1, 2001. The
codified principles are intended to provide a basis of
accounting recognized and adhered to in the absence of
conflict with, or silence of, state statutes and regulations.
The impact of the codified principles on the statutory capital
and surplus of the Insurance Companies is still being
determined and is currently not expected to decrease statutory
capital and surplus as of January 1, 2001.
(b) The consolidated financial statements of the Company's
insurance subsidiaries have been prepared in accordance with
GAAP, which differ in certain respects from SAP.
The principal differences relate to (1) acquisition costs
incurred in connection with acquiring new business which are
charged to expense under SAP but under GAAP are deferred and
amortized as the related premiums are earned; (2) anticipated
salvage and subrogation recoveries which have not been
credited to losses incurred for SAP; (3) net deferred tax
assets created by the tax effects of temporary differences;
(4) unpaid losses, unpaid loss adjustment expenses and
unearned premium reserves are presented gross of reinsurance
with a corresponding asset recorded; and (5) fixed maturity
portfolios that qualify as available for sale are carried at
fair value and changes in fair value are reflected directly in
unassigned surplus, net of related deferred taxes.
The consolidated capital and surplus, shareholders' equity and
income of the Insurance Companies on a statutory and GAAP
basis were as follows:
DECEMBER 31,
-----------------
2000 1999
---- ----
Capital and surplus -
Statutory basis $39,423,591 $30,211,579
Shareholders' equity -
GAAP basis $65,415,583 $47,647,953
(Continued)
F-28
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note K - Shareholders' Equity (Continued):
YEARS ENDED DECEMBER 31,
-----------------------------
2000 1999 1998
---- ---- ------
Net income (loss):
Statutory basis $ (125,807) $ 204,073 $ (762,471)
GAAP basis $4,896,742 $1,265,286 $5,157,732
Distribution by the Insurance Companies of the excess of GAAP
shareholders' equity over statutory capital and surplus to the
Company is prohibited by law.
Note L - Contingencies:
The Company and its subsidiaries are parties to various legal
actions and administrative proceedings and subject to various
claims arising in the ordinary course of business. The Company
believes that the disposition of these matters will not have a
material adverse effect on the financial position, the results
of operations or cash flows of the Company.
Note M - Pensions:
(a) The Company has a non-contributory defined benefit plan (the
"Plan"). Eligible salaried and hourly employees of the Company
participate in the Plan after twelve months of continuous
employment with the Company when age 21 has been attained.
Retirement benefits are based on each participant's average
compensation and years of service. Vesting of benefits begins
after five years of service commencing from the minimum age of
21 or date of hire, if later.
The Company's contributions are designed to fund the Plan's
normal costs on a current basis and to fund the unfunded prior
service costs, including accrued benefits arising from
qualifying employee service occurring prior to the
establishment of the Plan, over 40 years.
On January 15, 1992, the Company suspended the accrual of
benefits arising from participant service. The Company
continues to fund the Plan for benefits earned through January
31, 1992.
(Continued)
F-29
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note M - Pensions (Continued):
The Plan maintained a significant amount of assets in group
annuity contracts with Mutual Benefit Life Insurance Company
("Mutual"), which was placed in rehabilitation by the NJ DOBI
on July 16, 1991.
In October 1994, MBL Life Assurance Corporation ("MBLLAC")
approved and subsequently paid a "hardship withdrawal" of
$2,666,204 (net of an administrative charge of $470,507) to
the Plan.
The Plan also received $91,938 and $183,876 in distributions
from MBLLAC and Mutual in 1999 and 1998, respectively, under
provisions of the Plan of Rehabilitation.
On June 1, 1999, $3,424,869 was received from MBLLAC and an
additional $14,670 was received on August 27, 1999. The
restructured contract has how been paid in full and the Plan
no longer has any assets with MBLLAC.
(b) Net periodic pension cost for 2000, 1999 and 1998 included the
following components:
2000 1999 1998
---- ---- ----
Interest cost $ 815,300 $ 784,400 $813,900
Expected return on
plan assets (1,076,700) (1,032,700) (946,800)
Recognized loss 268,700 342,100 312,500
--------- ---------- --------
Net periodic cost $ 7,300 $ 93,800 $179,600
========= ========== ========
Measurement of the Company's benefit obligation and pension
expense as of December 31 of each year used the following
assumptions:
2000 1999 1998
---- ---- ----
Discount rate 7.50% 7.75% 6.75%
Expected return on plan
assets 10.00% 10.00% 10.00%
Rate of compensation
increase N/A N/A N/A
(Continued)
F-30
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note M - Pensions (Continued):
(c) A reconciliation of the changes in the Plan's benefit
obligations and fair value of assets during 2000 and 1999 and
a statement of the funded status of the Plan as of December 31
of each year is as follows:
2000 1999
---- ----
Change in benefit obligation:
Benefit obligation at
January 1 $10,844,900 $11,968,900
Service cost - -
Interest Cost 815,300 784,400
Actuarial (gain)/loss 378,300 (886,400)
Benefits paid (1,033,200) (1,022,000)
----------- -----------
Benefit obligation at
December 31 $11,005,300 $10,844,900
=========== ===========
Change in plan assets:
Fair value of plan assets at
January 1 $11,061,300 $10,618,700
Actual return on plan assets (19,100) 1,325,700
Employer contribution 384,800 239,900
Benefits paid (1,033,200) (1,022,000)
Other (112,300) (101,000)
----------- ------------
Fair value of plan assets at
December 31 $10,281,500 $11,061,300
============ ============
Funded Status at December 31 $ (723,800) $ 216,400
Unrecognized loss 4,585,700 3,268,000
------------ ------------
Net amount recognized at
December 31 $ 3,861,900 $ 3,484,400
============ ============
Following are the amounts recognized in the statement of
financial position as of December 31 of each year:
Prepaid benefit cost $3,861,900 $ 3,484,400
Accrued benefit liability (4,585,700) (3,268,000)
Accumulated other comprehensive
income 3,026,600 2,156,900
Deferred tax benefit, as restated 1,559,100 1,111,100
----------- -----------
Net amount recognized $3,861,900 $3,484,400
=========== ===========
The adjustment required to recognize the minimum liability is
reflected as a component of accumulated comprehensive income
(loss) as of December 31, 2000 and 1999, respectively.
(Continued)
F-31
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note M - Pensions (Continued):
(d) The Company maintains a defined contribution plan for
substantially all employees. Employer contributions of a
discretionary amount are made by the Company and its
subsidiaries. Employer contributions in the amount of
$169,554, $124,458 and $116,329 were made by the Company in
2000, 1999 and 1998, respectively, for its employees and
charged to expense.
(e) In 1997, the Company established a non-qualified deferred
compensation plan for certain executive employees. Employer
contributions of a discretionary amount are made by the
Company. Contributions during 2000 and 1999 were immaterial.
Note N - Post-retirement Benefits:
(a) The Company currently provides certain life and health
benefits to retired employees who had twenty-five or more
years of service, subject to certain eligibility restrictions.
These benefits consist of the payment of medical, life and
dental premiums for the retired employees. The Company's
funding policy is to pay for the premiums currently; any
future increases in the cost of these benefits will be borne
by the retirees and not the Company.
(b) Net periodic post-retirement benefit cost for 2000, 1999 and
1998 included the following components:
2000 1999 1998
---- ---- ----
Service cost $ 900 $ 2,700 $ 2,500
Interest cost 77,600 30,100 36,000
Amortization of
transition obligation 28,000 28,000 28,000
Amortization of net
loss 97,100 22,600 21,800
-------- ------- -------
Net postretirement
expense $203,600 $83,400 $88,300
======== ======= =======
(Continued)
F-32
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note N - Post-retirement Benefits (Continued):
Measurement of the Company's benefit obligation and
post-retirement benefit expense as of December 31 of each year
used the following assumptions:
2000 1999 1998
---- ---- ----
Discount Rate 7.50% 7.75% 6.75%
Expected return
on assets N/A N/A N/A
Average rate of
increase in
compensation N/A N/A N/A
(c) A reconciliation of the changes in the benefit obligations and
fair value of assets during 2000 and 1999 and a statement of
the funded status as of December 31 of each year is as
follows:
2000 1999
---- ----
Change in Accumulated Postretirement
Benefit Obligation
Benefit Obligation at January 1 $ 375,300 $502,600
Service Cost 900 2,700
Interest Cost 77,600 30,100
Employee Contributions 52,400 45,700
Benefit Paid (162,400) (157,900)
Actuarial (gain) loss 696,900 (47,900)
---------- ---------
Benefit Obligation at December 31 $1,040,700 $375,300
========== =========
Change in Plan Assets
Fair Value of Plan Assets at
January 1 $ - $ -
Company Contributions 110,000 112,200
Employee Contributions 52,400 45,700
Benefits Paid (162,400) (157,900)
----------- ---------
Fair Value of Plan Assets at
December 31 $ - $ -
=========== =========
Funded Status of the Plan
Benefit obligation less than plan
assets ($1,040,700) ($375,300)
Unamortized transition obligation 333,000 361,000
Unamortized net loss 786,900 187,100
---------- ---------
Net prepaid asset $ 79,200 $172,800
========== =========
(Continued)
F-33
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note N - Post-retirement Benefits (Continued):
The following are the amounts recognized in the statement of
financial position as of December 31 of each year:
2000 1999
---- ----
Prepaid benefit cost $79,200 $172,800
Accumulated other comprehensive income - -
-------- --------
Net amount recognized $79,200 $172,800
======= ========
(d) It is the policy of the Company that any future increase in
life and health care benefits will be borne by the retirees
and not the Company; as a result, there will be no increase in
either the accumulated post-retirement benefit obligation or
the service and interest cost components of net periodic
post-retirement benefit cost related to a 1% increase in the
health care trend rate.
Note O - Selected Quarterly Financial Data (Unaudited):
(a) The Company is restating its tax provision (benefit) and net
income for the three month periods in 2000 and 1999. Please
refer to Note V for further information.
(b) Year ended December 31, 2000:
1st 2nd 3rd 4th
Quarter* Quarter Quarter Quarter
Revenues $19,698,432 $22,453,506 $24,645,495 $23,329,714
=========== =========== =========== ===========
Losses and
expenses $19,420,712 $21,460,858 $23,562,625 $22,683,275
=========== =========== =========== ===========
Net income
(loss) $ 181,546 $ 648,573 $ 707,522 $ 422,368
=========== =========== =========== ===========
* Includes Mountain Valley for one month
Net income (loss) per common share:
Basic $ .09 $ .31 $ .33 $ .20
=========== =========== =========== ===========
Diluted $ .09 $ .28 $ .31 $ .20
=========== =========== =========== ===========
Reconciliation of previously reported to restated net income and per
share information:
1st 2nd 3rd
Quarter* Quarter Quarter
Net income:
Previously reported $249,512 $639,511 $1,544,397
Effect of tax adjustment (68,056) 9,062 (836,875)
-------- -------- ----------
As restated $181,456 $648,573 $ 707,522
======== ======== ==========
Per share information:
Basic:
Previously reported $ 0.12 $ 0.30 $ 0.73
Effect of tax adjustment (0.03) 0.01 (0.40)
-------- -------- ----------
As restated $ 0.09 $ 0.31 $ 0.33
======== ======== ==========
Diluted:
Previously reported $ 0.12 $ 0.28 $ 0.71
Effect of tax adjustment (0.03) 0.00 (0.40)
-------- -------- ----------
As restated $ 0.09 $ 0.28 $ 0.31
======== ======== ==========
* Includes Mountain Valley for one month
(Continued)
F-34
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note O - Selected Quarterly Financial Data (Unaudited) (Continued):
(c) Year ended December 31, 1999:
1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter*
Revenues $14,314,773 $14,417,053 $14,627,084 $17,708,809
=========== =========== =========== ============
Losses and
expenses $13,106,674 $13,173,443 $15,465,552 $19,219,904
=========== =========== =========== ============
Net income
(loss) $ 1,080,247 $ 1,112,000 $ (749,734) $(1,351,177)
=========== =========== =========== ===========
* Includes North East and subsidiaries
Net income (loss) per common share:
Basic $ .51 $ .53 $ (.35) $ (.64)
=========== =========== =========== ===========
Diluted $ .51 $ .52 $ (.35) $ (.64)
=========== =========== =========== ===========
Reconciliation of previously reported to restated net income and per
share information:
1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter*
Net income (loss):
Previously reported $ 985,621 $ 1,011,433 $ 129,745 $ (849,866)
Effect of tax adjustment 94,626 100,567 (879,479) (501,311)
----------- ----------- ----------- -----------
As restated $ 1,080,247 $ 1,112,000 $ (749,734) $(1,351,177)
=========== =========== =========== ===========
Per share information:
Basic:
Previously reported $ 0.47 $ 0.48 $ 0.06 $ (0.40)
Effect of tax adjustment 0.04 0.05 (0.41) (0.24)
----------- ----------- ----------- -----------
As restated $ 0.51 $ 0.53 $ (0.35) $ (0.64)
=========== =========== =========== ===========
Diluted:
Previously reported $ 0.46 $ 0.48 $ 0.06 $ (0.40)
Effect of tax adjustment 0.05 0.04 (0.41) (0.24)
----------- ----------- ----------- -----------
As restated $ 0.51 $ 0.52 $ (0.35) $ (0.64)
=========== =========== =========== ===========
* Includes North East and subsidiaries
Note P - Comprehensive Income:
Comprehensive income consisted of the following:
2000 1999 1998
---- ---- ----
(Restated) (Restated)
Net income $ 1,959,919 $ 91,336 $3,778,384
Other comprehensive income (loss):
Unrealized gains (losses) on
securities:
Unrealized gains (losses) during
period (net of taxes of
($1,122,747), $1,536,862 and
($354,012)) 2,047,676 (2,982,797) 687,149
Less: Reclassification
adjustment for gains included
in net income (net of taxes of
$28,203, $12,254 and $9,705) (54,746) (23,786) (18,840)
----------- ----------- ----------
Net unrealized gains (losses) 1,992,930 (3,006,583) 668,309
----------- ----------- ----------
Minimum pension liability
adjustment (net of taxes
$(448,018), $482,970
and ($54,196)) (869,682) 937,530 (105,204)
----------- ----------- ----------
Other comprehensive income (loss) 1,123,248 (2,069,053) 563,105
----------- ----------- ----------
Comprehensive income (loss) $ 3,083,167 $(1,977,717) $4,341,489
=========== =========== ==========
(Continued)
F-35
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note Q - Stock Option Plans:
The Motor Club of America 1987, 1992 and 1999 Stock Option
Plans ("1987 Option Plan", "1992 Option Plan" and "1999 Option
Plan", respectively) provide for the issuance of options to
purchase 100,000 common shares, respectively, by key
executives at the market price at date of grant.
Options under all Option Plans are exercisable for a five year
period in twenty-five percent increments each year, commencing
one year from the date of grant. As of December 31, 2000: (1)
5,125 shares under the 1987 Option Plan are available for
grant; 57,000 shares were exercisable and 37,875 shares had
been exercised; (2) 1,950 shares under the 1992 Option Plan
are available for grant; 62,500 shares were exercisable and
35,550 shares had been exercised; and (3) 64,000 shares
under the 1999 Option Plan are available for grant, and 36,000
shares were exercisable as of that date.
Transactions during 1998, 1999 and 2000 relating to the 1987
Option Plan are as follows:
Weighted
Exercise Average
Number of Price per Aggregate
Shares Share Amount
------ ----- ------
Options outstanding at
December 31, 1997 84,000 $10.098 848,250
Options exercised in 1998 (22,000) $ 2.625 (57,750)
Options lapsed in 1998 (5,000) $12.75 (63,750)
------- ------- --------
Options outstanding at
December 31, 1998,
1999 and 2000 57,000 $12.75 $726,750
======= ======= ========
(Continued)
F-36
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note Q - Stock Option Plans (Continued):
Transactions during 1998, 1999 and 2000 relating to the 1992
Option Plan are as follows:
Weighted
Exercise Average
Number of Price per Aggregate
Shares Share Amount
--------- --------- ---------
Options outstanding at
December 31, 1997 3,000 $12.75 $ 38,250
Options granted in 1998 28,500 $11.75 334,875
------- ------ --------
Options outstanding at
December 31, 1998 31,500 $11.845 373,125
Options granted in 1999 31,000 $12.875 399,125
------- ------- --------
Options outstanding at
December 31, 1999
and 2000 62,500 $12.36 $772,250
======= ======= ========
There were no transactions during 1999 relating to the 1999
Option Plan. Transactions during 2000 related to the 1999
Option Plan are as follows:
Weighted
Exercise Average
Number of Price per Aggregate
Shares Share Amount
------ ----- ------
Options outstanding at
December 31, 1999 - $ - $ -
Options granted in 2000 36,000 $ 8.125 292,500
------- ------- --------
Options outstanding at
December 31, 2000 36,000 $ 8.125 $292,500
======= ======= ========
(Continued)
F-37
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
----------
Note Q - Stock Option Plans (Continued):
The Company has adopted the provision of SFAS No. 123
("Accounting for Stock-Based Compensation"), which calls for
companies to measure employee stock compensation expense based
on the fair value method of accounting. However, as allowed by
SFAS No. 123, the Company has elected the continued use of APB
Opinion No. 25 ("Accounting for Stock Issued to Employees"),
with pro forma disclosures of net income and earnings per
share determined as if the fair value method had been applied
in measuring compensation cost.
These calculations only take into consideration options issued
since January 1, 1995. In 2000, 1999 and 1998, had the fair
value method been applied, net income would have been reduced
by $126,300, $70,900 and $21,100, $.06, $.03 and $.01 basic
net earnings per share, respectively.
The average fair value of options granted during 2000, 1999
and 1998 was $3.69, $6.34 and $5.79, respectively. The fair
value was estimated using the Black-Scholes option pricing
model based on the following assumptions for 2000, 1999 and
1998: risk-free interest rate of 4.99%, 6.55% and 4.66%;
volatility of 47.6%, 50.5% and 52.3%; and expected life of 4.5
years (in 2000 and 1999) and 4.75 years (in 1998). The Company
does not
pay a dividend on its common stock. The following table
summarizes options outstanding and exercisable at December 31,
2000:
Options Outstanding Options Exercisable
------------------- -------------------
Average
Exercise Average Exercise Exercise
Price Options Life(a) Price Options Price
-------- ------- ------- -------- ------- ---------
$ 8.125 36,000 4.50 $ 8.125 0 -
$11.750 28,500 2.75 $11.750 14,250 $11.750
$12.750 60,000 1.25 $12.750 45,000 12.750
$12.875 31,000 3.50 $12.875 7,750 12.875
------- ---- ------- ------ -------
Total 155,500 2.73 $11.520 67,000 $12.550
======= ==== ======= ====== =======
(a) Average contractual life remaining years.
(Continued)
F-38
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------
Note R - Lease Obligations:
The Company and its subsidiaries lease office space suitable
to conduct its operations, including its home office in
Paramus, New Jersey. In addition, office facilities in Albany,
New York, Bedford, New Hampshire and Scarborough, Maine are
leased under varying terms and expiration dates. These leases
are considered operating leases for financial reporting
purposes. Some of these leases have options to extend the
length of the leases and contain clauses for cost of living,
operating expense and real estate tax adjustments. Rental
expense was $599,927 in 2000 and $410,000 in 1999 and 1998,
respectively. Future minimum lease payments (without
provisions for sublease income) are $714,112 in 2001; $716,147
in 2002; $716,147 in 2003; $716,147 in 2004; and $1,431,227
thereafter.
Note S - Earnings per Share ("EPS"):
Basic earnings per share are based on weighted average basic
shares outstanding. Diluted earnings per share are based on
weighted average diluted shares outstanding, which is
calculated by adding shares contingently issuable under stock
options and shares contingently issuable under the Debentures
(if dilutive) to the average basic shares outstanding. In 2000
and 1999, the Debentures were not dilutive. The
calculations of average basic and diluted common shares
outstanding and net income per common share are as follows:
(Continued)
F-39
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------
Note S - Earnings per Share ("EPS") (Continued):
2000 1999 1998
---- ---- ----
(Restated) (Restated)
Numerator for basic
earnings per share - net
income $1,959,919 $ 91,336 $3,778,384
Plus: Interest expense on
Debentures, net of tax 557,040 - -
----------- ---------- ----------
Numerator for diluted
earnings per share $2,516,959 $ 91,336 $3,778,384
========== ========== ==========
Weighted average basic
common shares outstanding
(denominator) 2,124,387 2,117,912 2,108,722
Shares contingently
issuable under stock
option plans 110 3,785 12,644
Shares contingently
issuable under Debentures 645,578 - -
---------- ---------- ----------
Average diluted common
shares outstanding
(denominator) 2,770,075 2,121,697 2,121,366
========== ========== ==========
Net income per common share:
Basic $0.92 $0.04 $1.79
===== ===== =====
Diluted $0.91 $0.04 $1.78
===== ===== =====
Note T - Reportable Segments:
The Company's operations are presently conducted through four
basic segments using independent agents: Motor Club;
Preserver; Mountain Valley; and North East. The Motor Club
segment consists of New Jersey private passenger automobile.
The Preserver segment consists of small commercial insurance
featuring package, automobile and workers' compensation
coverage, along with personal property and liability coverage
in the State of New Jersey. Mountain Valley provides small and
medium sized commercial insurance in New England and New York.
The North East segment consists of private passenger
automobile and small commercial insurance in the State of
Maine and the results of its inactive subsidiary, American
Colonial.
The accounting policies of the segments are the same as those
described in the summary of significant accounting policies.
Summary financial information about
(Continued)
F-40
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------
Note T - Reportable Segments (Continued):
the Company's operating segments is presented in the following
table. Income before income taxes by segment consists of
revenues less expense related to the respective segment's
operations. These amounts include realized gains (losses)
where applicable. Assets are not allocated to the individual
segments, and are reviewed in total by management for purposes
of decision making. The Company operates only in the United
States, and no single customer or agent provides ten percent
or more of revenues. Financial data by segment is as follows:
MOTOR NORTH MOUNTAIN
YEAR ENDED DECEMBER 31, 2000 PRESERVER CLUB EAST VALLEY TOTAL
- ----------------------------- ----------- ----------- ----------- ----------- -----------
Insurance premiums $15,601,866 $36,574,189 $18,310,615 $12,980,811 $83,467,481
Net investment income 1,808,893 2,934,494 1,016,148 542,760 6,302,295
Realized investment gains 10,781 13,764 14,849 43,354 82,748
Other income - 32,454 - - 32,454
----------- ----------- ----------- ----------- -----------
Total revenues 17,421,540 39,554,901 19,341,612 13,566,925 89,884,978
----------- ----------- ----------- ----------- -----------
Loss and loss expenses incurred 8,025,885 27,085,861 11,761,626 8,834,681 55,708,053
Acquisitions costs and other
operating expenses 4,694,870 12,200,930 6,684,225 5,503,983 29,084,008
----------- ----------- ----------- ----------- -----------
Total expenses 12,720,755 39,286,791 18,445,851 14,338,664 84,792,061
----------- ----------- ----------- ----------- -----------
Income (loss) before Federal
income taxes $ 4,700,785 $ 268,110 $ 895,761 $ (771,739) $ 5,092,917
Other corporate, net 212,637
Interest expense (1,867,085)
Merger-related expenses (354,097)
Amortization of goodwill (84,695)
Income tax expense (1,039,758)
-----------
Net income $ 1,959,919
===========
MOTOR NORTH MOUNTAIN
YEAR ENDED DECEMBER 31, 1999 PRESERVER CLUB EAST VALLEY TOTAL
- ----------------------------- ----------- ----------- ----------- ----------- -----------
Insurance premiums $13,819,638 $37,802,937 $ 4,184,755 $ - $55,807,330
Net investment income 1,554,266 3,119,752 246,204 - 4,920,222
Realized investment gains 4,917 (260) 31,382 - 36,039
----------- ----------- ----------- ----------- -----------
Total revenues 15,378,821 40,922,429 4,462,341 - 60,763,591
----------- ----------- ----------- ----------- -----------
Loss and loss expenses incurred 9,214,764 29,043,044 2,373,245 - 40,631,053
Acquisitions costs and other
operating expenses 4,066,894 12,882,192 1,838,804 - 18,787,890
----------- ----------- ----------- ----------- -----------
Total expenses 13,281,658 41,925,236 4,212,049 - 59,418,943
----------- ----------- ----------- ----------- -----------
Income (loss) before Federal
income taxes $ 2,097,163 $(1,002,807) $ 250,292 $ - $ 1,344,648
Other corporate, net 26,789
Interest expense (448,117)
Merger-related expenses (800,000)
Amortization of goodwill (21,174)
Income tax expense (10,810)
-----------
Net income $ 91,336
===========
(Continued)
F-41
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------
Note T - Reportable Segments (Continued):
MOTOR NORTH MOUNTAIN
YEAR ENDED DECEMBER 31, 1998 PRESERVER CLUB EAST VALLEY TOTAL
- ----------------------------- ----------- ----------- ----------- ----------- -----------
Insurance premiums $13,303,402 $39,872,261 $ - $ - $53,175,663
Net investment income 1,249,505 2,852,673 - - 4,102,178
Realized investment gains 12,635 15,988 - - 28,623
----------- ----------- ----------- ----------- ------------
Total revenues 14,565,542 42,740,922 - - 57,306,464
----------- ----------- ----------- ----------- ------------
Loss and loss expenses incurred 7,923,218 28,556,373 - - 36,479,591
Acquisitions costs and operating
other expenses 4,468,622 11,200,514 - - 15,669,136
----------- ----------- ----------- ----------- ------------
Total expenses 12,391,840 39,756,887 - - 52,148,727
----------- ----------- ----------- ----------- ------------
Income before Federal income taxes $ 2,173,702 $ 2,984,035 $ - $ - $ 5,157,737
Other corporate, net 615,815
Interest expense (54,146)
Income tax expense (1,941,022)
-----------
Net income $ 3,778,384
============
Note U - Related Party Transactions:
The Ownership Group owns 47.1% of the outstanding common stock
of the Company at December 31, 2000. The Company paid
directors fees' of $192,500 in 2000 and $180,000 during 1999
and 1998 to the Ownership Group.
As noted, the Ownership Group's participation in the
Debentures could potentially increase their share ownership of
the Company from its present 47.1% to 57.7%. During 2000 and
1999, the Ownership Group received $776,680 and $214,780 in
interest payments on the Debentures, respectively, and
$914,681 in interest payments on the Notes in 2000. See Notes
H and I for further information on the Notes and Debentures,
respectively.
Note V - Restatement:
In March 2001, the Company's management determined that
certain tax benefits should not have been recognized and that
certain deferred tax liabilities had not been recorded. These
tax matters, which are discussed in Note J, relate to the tax
effects of temporary differences arising from a subsidiary
that was de-consolidated for financial reporting purposes due
to its insolvency in 1992.
As a result, the 1998 and 1999 Consolidated Financial
Statements have been restated from amounts previously
reported. In addition, retained earnings and thus
shareholders' equity at December 31, 1997 was reduced by
$126,303, representing the cumulative effect from revising the
tax accrual on prior periods' results of operations after
Federal income taxes. In connection with this adjustment,
goodwill arising from the acquisition of North East in 1999
was increased by $152,047.
Finally, deferred tax assets were not recorded that should
have been for the tax effects of the minimum pension liability
that is presented as a component of other comprehensive
income. Shareholders' equity at December 31, 1997 increased by
$1,539,894, representing the cumulative effect on prior
periods' results of revising the tax accrual.
The net effect of these prior period adjustments increased
shareholders' equity by $1,413,591 at December 31, 1997.
These tax matters have no impact on the operations, cash flow
or capital and surplus of the Company's active insurance
subsidiaries or on consolidated income before Federal income
taxes for the periods presented, nor is the Company subject to
penalties and interest on the recording of the deferred tax
liabilities. The effects of these tax items on the
accompanying financial statements are set forth below:
(continued)
F-42
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note V - Restatement (continued):
CONSOLIDATED BALANCE SHEET
AS OF DECEMBER 31, 1999
----------------------------
AS PREVIOUSLY AS
REPORTED RESTATED
------------- --------
ASSETS
Investments:
Fixed maturity securities $ 78,242,322 $ 78,242,322
Equity securities 57,053 57,053
Mortgage loans on real estate 153,616 153,616
Short term investments 8,528,858 8,528,858
------------ -----------
Total investments 86,981,849 86,981,849
Cash & cash equivalents 443,733 443,733
Premiums receivable 27,132,246 27,132,246
Reinsurance recoverable 21,163,574 21,163,574
Notes & accounts receivable 212,598 212,598
Deferred policy acquisition costs 10,560,763 10,560,763
Fixed assets 1,858,621 1,858,621
Federal income tax recoverable 54,026 47,100
Prepaid Reinsurance Premiums 1,485,450 1,485,450
Deferred tax asset 4,128,766 3,637,551
Goodwill 1,745,848 1,593,801
Other assets 1,470,744 1,470,744
------------ ------------
Total Assets $157,238,218 $156,588,030
============ ============
LIABILITIES &
SHAREHOLDERS' EQUITY
Liabilities & Shareholders' Equity:
Losses and loss expenses $ 70,983,383 $ 70,983,383
Unearned premiums 38,698,028 38,698,028
Commissions payable 2,802,516 2,802,516
Accounts payable 1,397,263 1,397,263
Accrued expenses 3,112,157 3,112,157
Drafts outstanding 2,685,423 2,685,423
Convertible subordinated debentures 10,000,000 10,000,000
------------ ------------
Total Liabilities 129,678,770 129,678,770
------------ ------------
Shareholders' Equity:
Common Stock 1,062,194 1,062,194
Paid in Capital 2,066,089 2,066,089
Accumulated other comprehensive income (5,036,515) (3,897,396)
Retained earnings 29,467,680 27,678,373
------------ ------------
Total Shareholders' Equity 27,559,448 26,909,260
------------ ------------
Total Liabilities & Shareholders' Equity $157,238,218 $156,588,030
============ ============
CONSOLIDATED INCOME STATEMENTS FOR THE YEARS ENDED DECEMBER 31,
---------------------------------------------------------------
1999 1998
---------------------------- --------------------------------
AS PREVIOUSLY AS AS PREVIOUSLY AS
REPORTED RESTATED REPORTED RESTATED
------------- -------- ------------- --------
Income before Federal
income taxes $ 102,146 $ 102,146 $ 5,719,406 $ 5,719,406
Benefit (provision) for
Federal income taxes:
current 21,865 28,331 (193,121) (179,661)
deferred 1,152,922 (39,141) (1,270,494) (1,761,361)
----------- ------------ ------------ ------------
Total Federal income tax 1,174,787 (10,810) (1,463,615) (1,941,022)
----------- ------------ ------------ ------------
Net income $ 1,276,933 $ 91,336 $ 4,255,791 $ 3,778,384
=========== ============ ============ ============
Net income per common share:
Basic $ .60 $ .04 $ 2.02 $ 1.79
=========== ============ ============ ============
Diluted $ .60 $ .04 $ 2.01 $ 1.78
=========== ============ ============ ============
F-43
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
SCHEDULE I. SUMMARY OF INVESTMENTS-
OTHER THAN INVESTMENTS IN RELATED PARTIES
AT DECEMBER 31, 2000
----------
Column A Column B Column C Column D
-------- -------- -------- --------
Amount at
which shown
in the
Cost(a) Market balance sheet
------- ------ -------------
Type of Investment
- ------------------
Fixed maturity securities
available-for-sale:
United States Government
and government agencies
and authorities $48,126,796 $49,144,815 $49,144,815
Industrial and
miscellaneous 45,201,651 44,812,674 44,812,674
Public utilities 4,242,647 4,116,835 4,116,835
------------ -----------
Total fixed maturities 97,571,084 98,074,324
Equity securities:
Common stock 34,659 47,604 47,604
Mortgage loans on real
estate 110,160 110,160
Short-term investments,
available-for-sale 6,760,341 6,760,341 6,760,341
------------ ----------- -----------
Total investments $104,476,254 $104,992,429
============ ============
Note: (a) Represents original cost of investments reduced by repayment
and as to fixed maturities, adjusted for amortization of
premiums or accrual of discounts.
(Continued)
F-44
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
SCHEDULE II. CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (PARENT COMPANY)
----------
BALANCE SHEETS
DECEMBER 31,
-----------------------
2000 1999
---- ----
(Restated)
ASSETS:
Investments in subsidiaries $62,642,578 $46,399,026
Insurance premiums receivable 24,608,881 18,896,067
Deferred tax asset 354,887 1,274,804
Other assets 4,865,594 3,506,906
----------- -----------
Total assets $92,471,940 $70,076,803
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY:
Payable to subsidiaries $32,651,439 $28,276,495
Convertible subordinated debentures 10,000,000 10,000,000
Note payable 11,500,000 -
Other liabilities 8,264,570 4,891,048
----------- -----------
Total liabilities 62,416,009 43,167,543
Shareholders' equity 30,055,931 26,909,260
----------- -----------
Total liabilities and
shareholders' equity $92,471,940 $70,076,803
=========== ===========
NOTES TO SCHEDULE
-----------------
The Notes to Consolidated Financial Statements of Motor Club
of America and Subsidiaries are incorporated by reference to this
schedule.
The Statements of Shareholders' Equity are the same as those presented
for Motor Club of America and Subsidiaries.
(Continued)
F-45
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
SCHEDULE II. CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (PARENT COMPANY)
----------
STATEMENTS OF OPERATIONS
For the years ended December 31,
--------------------------------
2000 1999 1998
---- ---- ----
(Restated) (Restated)
REVENUES:
Membership servicing fees $ 112,905 $ 118,924 $ 133,531
Interest on mortgage loans 12,255 16,974 35,251
Other income 117,009 168,222 204,640
---------- ---------- ----------
Total revenues 242,169 304,120 373,422
---------- ---------- ----------
EXPENSES:
Merger expenses 354,097 800,000 -
Interest expense 1,867,085 448,117 60,389
Amortization of goodwill 84,695 21,174 -
General and administrative,
expenses (1) 17,383 277,340 (248,636)
---------- ---------- ----------
Total expenses 2,323,260 1,546,631 (188,247)
---------- ---------- ----------
Income (loss) before
Federal income taxes (2,081,091) (1,242,511) 561,669
Benefit (provision) for
Federal income taxes:
current (44,797) 28,331 1,384,611
deferred (994,961) 40,230 (1,761,361)
--------- ---------- ----------
Total Federal income tax (1,039,758) 68,561 (376,750)
--------- ---------- ----------
Income (loss) before item
shown below (3,120,849) (1,173,950) 184,919
Equity in net income
of subsidiaries 5,080,768 1,265,286 3,593,465
---------- ---------- ----------
Net income $1,959,919 $ 91,336 $3,778,384
========== ========== ==========
(1) Amount is net of $316,814 (2000), $285,762 (1999) and $296,810 (1998)
of management fees charged to subsidiaries.
(Continued)
F-46
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
SCHEDULE II. CONDENSED FINANCIAL INFORMATION
OF REGISTRANT (PARENT COMPANY)
----------
STATEMENTS OF CASH FLOWS
For the years ended December 31,
----------------------------------------------
2000 1999 1998
----------- ------------- -----------
Net income $1,959,919 $91,336 $3,778,384
Adjustments to reconcile net
income to net cash provided by
operating activities:
Depreciation expense 645,963 499,503 426,703
Deferred tax provision (benefit) 994,961 (40,230) 1,761,361
Changes in assets and liabilities
excluding effects of acquisitions:
Premiums receivable (5,712,814) 691,841 (12,221,216)
Investments in subsidiaries (6,602,421) 340,204 (10,818,776)
Other assets (148,204) (7,716) 125,831
Other liabilities 2,044,745 1,065,629 451,011
Payable to subsidiaries 4,374,944 1,778,038 11,857,053
---------- ----------- ----------
Net cash provided by (utilized in)
operating activities (2,442,907) 4,418,605 (4,639,649)
---------- ----------- ----------
Investing activities:
Proceeds from:
Disposal of short-term
investments 14,935,000 - 28,900,000
Payments received on mortgage
loan principal 43,456 207,422 161,517
Purchase of:
Short-term investments (14,935,000) - (25,750,000)
Fixed assets (1,600,549) (454,875) (491,088)
Acquisition of Mountain Valley
(2000) and North East (1999) (7,500,000) (10,409,682) -
----------- ---------- ------------
Net cash provided by (utilized in)
investing activities (9,057,093) (10,657,135) 2,820,429
---------- ----------- ------------
Financing activities:
Convertible subordinated debentures - 10,000,000 -
Note payable 11,500,000 (3,000,000) 3,000,000
Capital contribution to subsidiary - 2,000,000 -
Common stock issued - - 57,750
----------- ----------- -----------
Net cash provided by
financing activities 11,500,000 5,000,000 3,057,750
----------- ----------- -----------
Increase (decrease) in cash and
cash equivalents - (1,238,530) 1,238,530
Cash and cash equivalents at
beginning of year - 1,238,530 -
----------- ----------- -----------
Cash and cash equivalent at end of
year $ - $ - $ 1,238,530
=========== =========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
- -------------------------------------------------
(1) Total interest paid was $1,753,604 (2000), $448,782 (1999) and
$60,389 (1998)
(2) Total federal income taxes paid was $0 (2000 and 1999) and
$212,738 (1998).
(Continued)
F-47
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
SCHEDULE IV. REINSURANCE
FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
----------
Column A Column B Column C Column D Column E Column F
-------- -------- -------- -------- -------- --------
% of
Ceded to Assumed from Amount
other other Assumed
Gross Amount Companies Companies Net Amount to Net
------------ --------- ------------ ---------- -------
December 31, 2000:
Total property and casualty
insurance premiums earned $96,615,156 $13,161,055 $ 13,380 $83,467,481 0.02%
=========== =========== ========== =========== =====
December 31, 1999:
Total property and casualty
insurance premiums earned $64,151,936 $ 8,358,946 $ 14,340 $55,807,330 0.03%
=========== =========== ========== =========== =====
December 31, 1998:
Total property and casualty
insurance premiums earned $59,951,837 $ 6,776,174 $ - $53,175,663 0.00%
=========== =========== ========== =========== =====
(Continued)
F-48
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
SCHEDULE V. VALUATION AND QUALIFYING
ACCOUNTS AND RESERVES
FOR THE YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
----------
Column A Column B Column C Column D Column E
-------- -------- -------- -------- ---------
Additions
Balance at Charged to Charged to Balance
Beginning Cost and Other at end
Description of Period Expenses Accounts Deductions of Period
- ------------- ----------- ---------- ---------- ------------ -----------
Allowance for
doubtful
receivables:
December 31, 2000 $ 68,091 $ - $ - $ - $ 68,091
========== ========== ========== ========== =========
December 31, 1999 $ 68,091 $ - $ - $ - $ 68,091
========== ========== ========== ========== =========
December 31, 1998 $ 68,091 $ - $ - $ - $ 68,091
========== ========== ========== ========== =========
Valuation allowance
for deferred taxes:
December 31, 2000 $ 267,032 $ - $ - $ 117,116 $ 149,916
========== ========== ========== ========== =========
December 31, 1999 $ 95,230 $ 171,802 $ - $ - $ 267,032
========== ========== ========== ========== =========
December 31, 1998 $1,916,202 $ - $ - $1,820,972 $ 95,230
========== ========== ========== ========== =========
(Continued)
F-49
MOTOR CLUB OF AMERICA AND SUBSIDIARIES
SCHEDULE VI. SUPPLEMENTAL INFORMATION CONCERNING
PROPERTY/CASUALTY INSURANCE OPERATIONS
----------
For the years ended December 31, 2000, 1999 and 1998
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G
- ------------ ------------ ------------ ------------ ----------- ----------- -----------
CLAIMS AND CLAIM
RESERVES FOR ADJUSTMENT EXPENSES
DEFERRED UNPAID CLAIMS DISCOUNT, INCURRED RELATED TO
POLICY AND CLAIM IF ANY, NET (1) (2)
ACQUISITION ADJUSTMENT DEDUCTED IN UNEARNED EARNED INVESTMENT CURRENT PRIOR
COSTS EXPENSES COLUMN C PREMIUMS PREMIUMS INCOME (A) YEAR YEARS
------------ ------------- ------------ ---------- -------- ----------- ----------------------
Year ended
December 31, 2000 $14,505,569 $90,392,486 - $53,409,659 $83,467,481 $6,302,094 $55,542,028 $166,024
Year ended
December 31, 1999 $10,560,763 $70,983,383 - $38,698,028 $55,807,330 $4,920,229 $37,271,781 $3,359,272
Year ended
December 31, 1998 $ 8,708,329 $58,335,143 - $30,733,144 $53,175,663 $4,102,255 $32,598,287 $3,881,304
COLUMN H COLUMN I COLUMN J COLUMN K
----------- ----------- ----------- -----------
AMORTIZATION PAID
OF DEFERRED CLAIMS
POLICY AND CLAIM
ACQUISITION ADJUSTMENT PREMIUM
COSTS EXPENSES WRITTEN
------------ ---------- -------
Year ended
December 31, 2000 $25,135,714 $48,041,958 $89,204,441
Year ended
December 31, 1999 $14,305,501 $36,735,862 $54,508,215
Year ended
December 31, 1998 $13,375,221 $29,548,773 $64,302,713
Note: (a) Excludes non-insurance subsidiaries' investment income and realized
investment gains.
F-50