<PAGE>
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_______________
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED SEPTEMBER 30, 1999 COMMISSION FILE NO. 1-12449
SCPIE HOLDINGS INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-4457980
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
1888 CENTURY PARK EAST, STE. 800 90067
LOS ANGELES, CALIFORNIA (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE
OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(310) 551-5900
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
stock, as of the latest practicable date.
<TABLE>
<S> <C>
Class Outstanding at November 2, 1999
Preferred stock, par value $l.00 per share No shares outstanding
Common stock, par value $0.0001 per share 12,068,462 shares
</TABLE>
================================================================================
1
<PAGE>
PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SCPIE HOLDINGS INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1999 1998
--------------- -------------
(unaudited)
<S> <C> <C>
ASSETS
Securities available-for-sale:
Fixed maturity investments, at fair value
(amortized cost 1999 - $656,938; 1998 - $698,971).................................... $644,509 $722,196
Equity investments, at fair value
(cost 1999 - $24,802; 1998 - $31,493)................................................ 21,393 37,015
-------- --------
Total securities available-for-sale............................................ 665,902 759,211
Short-term investments................................................................... 48,026 34,405
-------- --------
Total investments.............................................................. 713,928 793,616
Cash..................................................................................... 9,957 12,305
Accrued investment income................................................................ 9,785 11,440
Reinsurance recoverable.................................................................. 34,973 24,899
Deferred federal income taxes............................................................ 22,397 12,163
Costs in excess of net assets acquired................................................... 7,189 7,811
Property and equipment, net.............................................................. 19,894 19,706
Other assets............................................................................. 34,226 39,529
-------- --------
Total assets................................................................... $852,349 $921,469
======== ========
LIABILITIES
Reserves:
Losses and loss adjustment expenses.................................................... $448,622 $477,631
Unearned premiums...................................................................... 19,219 24,591
-------- --------
Total reserves................................................................. 467,841 502,222
Other liabilities........................................................................ 15,768 32,729
-------- --------
Total liabilities.............................................................. 483,609 534,951
Commitments and contingencies
STOCKHOLDERS' EQUITY
Preferred stock - par value $1.00, 5,000,000
shares authorized, no shares issued or outstanding - -
Common stock, par value $.0001, 30,000,000
shares authorized, 12,792,091 shares issued,
1999 - 11,568,462 shares outstanding
1998 - 11,878,791 shares outstanding 1 1
Additional paid-in capital............................................................... 36,386 36,386
Retained earnings........................................................................ 368,162 344,587
Treasury stock, at cost
1999 - 723,629 shares and 1998 - 413,300 shares........................................ (25,514) (13,141)
Accumulated other comprehensive income................................................... (10,295) 18,685
-------- --------
Total stockholders' equity..................................................... 368,740 386,518
-------- --------
Total liabilities and stockholders' equity..................................... $852,349 $921,469
======== ========
</TABLE>
See accompanying notes.
2
<PAGE>
SCPIE HOLDINGS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------------------- ---------------------
1999 1998 1999 1998
--------- -------- --------- ---------
<S> <C> <C> <C> <C>
Revenues:
Premiums earned $38,826 $38,289 $119,219 $117,769
Net investment income 9,514 9,768 28,951 30,394
Realized investment gains (losses) (1,325) 3,269 5,283 7,330
Other revenue 166 158 396 428
------- ------- -------- --------
Total revenues 47,181 51,484 153,849 155,921
Expenses:
Losses and loss adjustment expenses 31,725 31,931 97,475 99,307
Other operating expenses 7,307 6,767 21,556 20,707
------- ------- -------- --------
Total expenses 39,032 38,698 119,031 120,014
------- ------- -------- --------
Income before federal income taxes 8,149 12,786 34,818 35,907
Federal income taxes 1,370 3,374 8,441 9,078
------- ------- -------- --------
Net income $ 6,779 $ 9,412 $ 26,377 $ 26,829
======= ======= ======== ========
Basic earnings per share $ 0.59 $ 0.79 $ 2.26 $ 2.21
Diluted earnings per share $ 0.58 $ 0.78 $ 2.26 $ 2.21
Cash dividend declared per share of common stock $ 0.08 $ 0.06 $ 0.24 $ 0.18
</TABLE>
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
ACCUMULATED
ADDITIONAL OTHER TOTAL
COMMON PAID-IN RETAINED TREASURY COMPREHENSIVE STOCKHOLDERS'
STOCK CAPITAL EARNINGS STOCK INCOME EQUITY
------ ---------- ---------- ---------- -------------- -------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE AT JANUARY 1, 1999 $ 1 $36,386 $344,587 $(13,141) $ 18,685 $386,518
Net income - - 26,377 - - 26,377
Other comprehensive loss for unrealized
loss on securities net of reclassification
adjustments of $2,404 for losses
included in net income. - - - - (28,980) (28,980)
--------
Comprehensive loss (2,603)
Purchase of Treasury Stock - - - (12,373) - (12,373)
Cash dividend - - (2,802) - - (2,802)
---- ------- -------- -------- -------- --------
BALANCE AT SEPTEMBER 30, 1999 $ 1 $36,386 $368,162 $(25,514) $(10,295) $368,740
==== ======= -------- ======== ======== ========
</TABLE>
See accompanying notes.
3
<PAGE>
SCPIE HOLDINGS INC. AND SUBISIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
--------------------- -----------------------
1999 1998 1999 1998
--------- --------- ---------- ----------
<S> <C> <C> <C> <C>
OPERATING ACTIVITIES
Net income................................................................... $ 6,779 $ 9,412 $ 26,377 $ 26,829
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Unpaid losses and loss adjustment expenses, and
reinsurance recoverables................................................. (12,220) (1,691) (39,083) 26,708
Provision for deferred federal income taxes................................ 895 (26) 2,304 1,187
Realized investments (gains) losses........................................ 863 (2,124) (3,433) (4,764)
Changes in operating assets and liabilities:
Accrued investment income.................................................. 1,162 1,579 1,655 1,801
Unearned premiums.......................................................... (3,533) (1,982) (5,372) 1,164
Provisions for amortization and depreciation............................... 1,924 (422) 3,596 2,014
Other liabilities.......................................................... (6,587) 4,500 (8,951) (23,711)
Other assets............................................................... 1,276 (137) 5,861 (15,738)
-------- -------- --------- ---------
Net cash provided by (used in) operating activities (9,441) 9,109 (17,046) 15,490
INVESTING ACTIVITIES
Purchases--fixed maturities............................................... (32,915) (84,030) (238,262) (232,576)
Sales--fixed maturities................................................... 42,582 89,668 270,370 200,965
Maturities--fixed maturities.............................................. 1,000 1,565 3,928 29,058
Purchases--equities....................................................... - (13,539) (15,789) (17,551)
Sales--equities........................................................... - 2,912 23,247 4,688
Change in short-term investments, net..................................... 1,202 3,407 (13,621) 12,976
-------- -------- --------- ---------
Net cash provided by (used in) investing activities................ 11,869 (17) 29,873 (2,440)
-------- -------- --------- ---------
FINANCING ACTIVITIES
Purchase of treasury stock................................................ (618) (6,801) (12,373) (11,198)
Cash dividends............................................................ (925) (661) (2,802) (2,122)
-------- -------- --------- ---------
Net cash used in financing activities.............................. (1,543) (7,462) (15,175) (13,320)
-------- -------- --------- ---------
Increase (decrease) in cash.................................................. 885 1,630 (2,348) (270)
Cash at beginning of period.................................................. 9,072 11,352 12,305 13,252
-------- -------- --------- ---------
Cash at end of period........................................................ $ 9,957 $ 12,982 $ 9,957 $ 12,982
======== ======== ========= =========
</TABLE>
See accompanying notes.
4
<PAGE>
SCPIE HOLDINGS INC. AND SUBISIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 1999
1. BASIS OF PRESENTATION AND REORGANIZATION
Basis of Presentation
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and with instructions to Form 10-Q and Article 7 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
Operating results for the nine-month period ended September 30, 1999 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 1999. For further information, refer to the consolidated financial
statements and notes thereto included in SCPIE Holdings Inc.'s annual report on
Form 10-K for the year ended December 31, 1998.
The accompanying September 30, 1999 and 1998 consolidated financial statements
include the accounts and operations, after intercompany eliminations, of SCPIE
Holdings Inc. (SCPIE Holdings) and its wholly-owned subsidiaries, principally
SCPIE Indemnity Company (SCPIE Indemnity), American Healthcare Indemnity Company
(AHI), American Healthcare Specialty Insurance Company (AHSIC) and SCPIE
Management Company (SMC), collectively, the Company.
Certain 1998 amounts have been reclassified to conform to the 1999
presentation.
2. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings
per share:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
(IN THOUSANDS, EXCEPT PER SHARE DATA) 1999 1998 1999 1998
---------- -------- --------- ----------
<S> <C> <C> <C> <C>
Numerator:
Net income $ 6,779 $ 9,412 $26,377 $26,829
Numerator for:
Basic earnings per share of common stock $ 6,779 $ 9,412 $26,377 $26,829
Diluted earnings per share of common stock $ 6,779 $ 9,412 $26,377 $26,829
Denominator:
Denominator for basic earnings per share of
common stock -- weighted-average shares
outstanding 11,580 11,981 11,664 12,132
Effect of dilutive securities:
Stock options 19 15 6 16
------- ------- ------- -------
Denominator for diluted earnings per share
of common stock adjusted -- weighted-average 11,599 11,996 11,670 12,148
shares outstanding
Basic earnings per share of common stock $ 0.59 $ 0.79 $ 2.26 $ 2.21
======= ======= ======= =======
Diluted earnings per share of common stock $ 0.58 $ 0.78 $ 2.26 $ 2.21
======= ======= ======= =======
</TABLE>
5
<PAGE>
3. INVESTMENTS
The Company's investments in available-for-sale securities at September 30,
1999 are summarized as follows:
<TABLE>
<CAPTION>
COST OR GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
COST GAINS LOSSES FAIR VALUE
-------------- ---------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Fixed-maturity securities:
Bonds:
U. S. Government and Agencies $189,705 $2,399 $ 4,831 $187,273
State, Municipalities and
Political Subdivisions 314,518 1,509 6,137 309,890
Mortgage-backed securities, U.S. Government 36,987 56 455 36,588
Corporate 115,728 38 5,008 110,758
-------- ------ ------- --------
Total fixed-maturity securities 656,938 4,002 16,431 644,509
Equity securities 24,802 - 3,409 21,393
-------- ------ ------- --------
Total $681,740 $4,002 $19,840 $665,902
======== ====== ======= ========
</TABLE>
4. FEDERAL INCOME TAXES
The components of the federal income tax provision in the accompanying
statements of income are summarized as follows:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
----------------------------
1999 1998
--------- ---------
(IN THOUSANDS)
<S> <C> <C>
Current $6,364 $7,891
Deferred 2,077 1,187
------ ------
Total $8,441 $9,078
====== ======
</TABLE>
A reconciliation of income tax computed at the federal statutory tax rate to
total income tax expense is as follows:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------
1999 1998
---------- ---------
(IN THOUSANDS)
<S> <C> <C>
Federal income tax at 35% $12,186 $12,567
Increase (decrease) in taxes resulting from:
Tax-exempt interest (3,703) (3,641)
Dividends received deduction (85) (121)
Goodwill 158 158
Other (115) 115
------- -------
Total $ 8,441 $ 9,078
======= =======
</TABLE>
In July 1997, the Internal Revenue Service (IRS) completed its examination of
the Company's 1993 federal income tax return and issued notices of proposed
adjustment (IRS Form 5701) that would have increased the Company's 1993 tax
liability. In June 1998, the IRS proposed similar adjustments with respect to
the Company's 1994 and 1995 federal income tax returns. All three years (1993-
1995) were the subject of a settlement (IRS Form 870AD), accepted by the IRS as
of July 16, 1999, that did not increase the Company's federal income tax
liability.
5. COMPREHENSIVE INCOME
Total comprehensive income (loss) was $777 and $(2,603) for the three and nine
months ended September 30, 1999 and $17,298 and $36,027 for the three and nine
months ended September 30, 1998, respectively.
6. COMMITMENTS AND CONTINGENCIES
The Company is named as defendant in various legal actions primarily arising
from claims made under insurance policies and contracts. These actions are
considered by the Company in estimating the loss and loss adjustment expense
reserves. The Company's management believes that the resolution of these
actions will not have a material adverse effect on the Company's financial
position or results of operations.
The Company is a defendant in a California action brought by the bankruptcy
estate of an uninsured physician. The bankruptcy estate alleged that the
Company had an undisclosed conflict of interest when it provided the physician
with a free courtesy defense by an attorney who had represented the interests of
the Company's insureds in other cases. In 1995, a jury made a damage award
against the Company of $4.2 million in compensatory damages, and punitive
damages which were reduced to $14.0 million by the trial judge. The Company
appealed these awards to the California district court of appeal. On May 8,
1998, the appellate court reversed the judgment against the Company in its
entirety. The case was remanded to the California Superior Court in which the
judgment was originally entered. The Company has filed a motion in the Superior
Court for entry of judgment in its favor, which the bankruptcy estate opposed.
The trial judge ruled in favor of the Company, and judgment for the Company was
entered on September 29, 1999. The bankruptcy estate has the right to appeal
this ruling to the district court of appeal. The Company believes that the
action is entirely without merit and will continue to aggressively pursue its
rights.
6
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
The Company is one of the nation's leading providers of medical malpractice
insurance, based on direct premiums written in 1998. The Company currently
insures more than 14,500 physicians, other providers and oral and maxillofacial
surgeons practicing alone or in medical groups, clinics or other healthcare
organizations. The Company also insures a variety of healthcare facilities,
including hospitals, emergency departments, outpatient surgery and hemodialysis
centers, and clinical and pathology laboratories. The Company currently writes
professional liability insurance in 14 states, principally in California.
Certain statements in this report on Form 10-Q that are not historical fact
constitute "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Such forward-looking statements
involve known, and unknown risks, uncertainties and other factors based on the
Company's estimates and expectations concerning future events that may cause the
actual results of the Company to be materially different from historical results
or from any results expressed or implied by such forward-looking statements.
Actuarial estimates of losses and loss expenses (LAE) and expectations
concerning the company's ability to retain its current insureds and to expand
its product lines and its business in existing and into new geographical areas,
including through its affiliation with a major insurance broker, Brown & Brown,
are dependent upon a variety of factors, including future economic, competitive
and market conditions; future legislative and regulatory changes; and the
cyclical nature of the property and casualty industry, all of which are
difficult or impossible to predict accurately and many of which are beyond the
control of the company. In addition, the Company is subject to certain
structural risks, including statutory restrictions on intercompany transactions
within the Company's holding company structure, and uncertainties concerning
compliance of the Company's computer systems with Year 2000 requirements. These
risks and uncertainties are discussed in more detail under "Business - Risk
Factors," and "Management's Discussion and Analysis - General" in the Company's
Annual Report on Form 10-K for the fiscal year ended December 31, 1998.
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 1998
Premiums Earned. Premiums earned were essentially unchanged at $38.8 million
for the three months ended September 30, 1999 from $38.3 million for the same
period in 1998. Medical malpractice premiums from physicians and medical groups
were approximately $32.5 million for the three months ended September 30, 1999
compared to $34.2 million for the same period in 1998. This decrease was
principally attributable to the loss of physician insureds during the second and
third quarters of 1999 in medical specialties that experienced 1999 rate
increases. Hospital medical malpractice premiums were approximately $2.1 million
for the three months ended September 30, 1999 compared to $2.5 million for the
same period in 1998. Assumed reinsurance premiums were approximately $2.9
million for the three months ended September 30, 1999 compared to $1.3 million
for the same period in 1998. Other healthcare related liability premiums
totaled $1.3 million for the three months ended September 30, 1999, compared to
$0.3 million in 1998.
Net Investment Income. Net investment income decreased to $9.5 million for the
three months ended September 30, 1999 from $9.8 million for the same period in
1998. Average invested assets decreased to $725.5 million during the three
months ended September 30, 1999 compared to $778.9 million for the same period
in 1998. The investment portfolio contained a larger percentage of higher
yielding bonds during the 1999 quarter than for the same period in 1998.
Realized Investment Gains. Realized investment losses were approximately $1.3
million for the three months ended September 30, 1999 compared to a realized
gain of $3.3 million for the same period in 1998.
Losses and LAE. Losses and LAE were essentially unchanged at $31.7 million for
the three months ended September 30, 1999 from $31.9 million for the same period
in 1998. As a percentage of premiums earned, losses and LAE decreased to 81.7%
for the three months ended September 30, 1999 from 83.4% for the same period in
1998. For the three months ended September 30, 1999, the Company reduced loss
and LAE reserves incurred in prior policy years approximately $15.7 million as
compared to a reserve reduction of $15.6 million for the same period in 1998 for
claims incurred in prior policy years.
Other Operating Expenses. Other operating expenses increased $0.5 million, or
7.4%, to $7.3 million for the three months ended September 30, 1999 from $6.8
million for the same period in 1998. The ratio of other operating expenses to
premiums earned is referred to as the expense ratio, which was 18.8% for the
three months ended September 30, 1999 and 17.7% for the same period in 1998.
This increase reflected a greater proportion of broker produced premiums in the
1999 quarter compared to 1998.
Federal Income Taxes. Federal income tax expense decreased to $1.4 million for
the three months ended September 30, 1999 from $3.4 million for the same period
in 1998. The effective tax rate is 16.8% for the three months ended September
30, 1999 compared to 26.3% for the same period in 1998 due to realized losses in
1999.
Net income for the third quarter of $6.8 million, or $.59 per share, compares
with $9.4 million, or $.79 per share, in 1998.
Other comprehensive income or loss represents the change in the unrealized
gains and losses of the company's investments occurring during the period. The
Company incurred other comprehensive losses for the third quarter of 1999 (net
of tax benefit) of $6.0 million. The losses were primarily the result of
increased market interest rates that reduced the value of the Company's
investment portfolio. See "Quantitative and Qualitative Disclosures About
Market Risk" below.
7
<PAGE>
NINE MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
1998
Premiums Earned. Premiums earned increased approximately $1.4 million, or
1.2%, to $119.2 million for the nine months ended September 30, 1999 from $117.8
million for the same period in 1998. Medical malpractice premiums from
physicians and medical groups were approximately $103.8 million for the nine
months ended September 30, 1999 compared to $106.4 million for the same period
in 1998. Hospital medical malpractice premiums were approximately $6.7 million
for the nine months ended September 30, 1999 compared to $7.7 million for the
same period in 1998. Assumed reinsurance premiums were approximately $5.5
million for the nine months ended September 30, 1999 compared to $3.3 million
for the same period in 1998. Other healthcare related liability premiums
totaled $3.2 million for the nine months ended September 30, 1999 compared to
$0.4 million in 1998.
Net Investment Income. Net investment income decreased approximately $1.4
million, or 4.6%, to $29.0 million for the nine months ended September 30, 1999
from $30.4 million and for the same period in 1998. Average invested assets
decreased to $753.8 million during the nine months ended September 30, 1999
compared to $797.7 million for the same period in 1998.
Realized Investment Gains. Realized investment gains were approximately $5.3
million for the nine months ended September 30, 1999 compared to $7.3 million
for the same period in 1998.
Losses and LAE. Losses and LAE decreased to $97.5 million for the nine months
ended September 30, 1999 from $99.3 million for the same period in 1998. As a
percentage of premiums earned, losses and LAE decreased to 81.8% for the nine
months ended September 30, 1999 from 84.3% for the same period in 1998. For the
nine months ended September 30, 1999, the Company reduced loss and LAE reserves
incurred in prior policy years approximately $47.2 million as compared to a
reserve reduction of approximately $48.9 million in loss and LAE reserves for
the nine months ended September 30, 1998 for claims incurred in prior policy
years.
Other Operating Expenses. Other operating expenses increased $0.9 million, or
4.3%, to $21.6 million for the nine months ended September 30, 1999 from $20.7
million for the same period in 1998. The ratio of other operating expenses to
premiums earned was 18.1% for the nine months ended September 30, 1999 and 17.6%
for the same period in 1998.
Federal Income Taxes. Federal income taxes decreased $0.7 million to $8.4
million for the nine months ended September 30, 1999 from $9.1 million for the
same period in 1998. The effective tax rate decreased to 24.2% for the nine
months ended September 30, 1999 from 25.3% for the same period in 1998, due
primarily to lower realized gains in 1999.
Net income for the first nine months of 1999 was $26.3 million, or $2.26 per
share, compared to $26.8 million, or $2.21 per share in 1998.
Other comprehensive income or loss represents the change in the unrealized
gains and losses of the company's investments occurring during the period. The
Company incurred other comprehensive losses for the first nine months of 1999
(net of tax benefit) of $29.0 million. The losses were primarily the result of
increased market interest rates which reduced the value of the Company's
investment portfolio. See "Quantitative and Qualitative Disclosures About
Market Risk" below.
LIQUIDITY AND CAPITAL RESOURCES
The primary sources of the Company's liquidity are insurance premiums, net
investment income, recoveries from reinsurers and proceeds from the maturity or
sale of invested assets. Funds are used to pay losses, LAE, operating expenses,
reinsurance premiums and taxes.
Because of uncertainty related to the timing of the payment of claims, cash
from operations for a property and casualty insurance company can vary
substantially from period to period. During the first nine months of 1999, the
Company had negative cash flow from operations of $16.8 million compared to a
positive cash flow of $15.5 million in 1998. The negative cash flow during 1999
was due to the unusually high payments of losses and LAE during the second and
third quarters of 1999.
The Company invests its positive cash flow from operations in both fixed
maturity securities and equity securities. The Company's current policy is to
limit its investment in equity securities and real estate to no more than 8% of
the total market value of its investments. Accordingly, the Company's portfolio
of unaffiliated equity securities was $21.4 million at September 30, 1999. The
Company plans to continue this focus on fixed maturity securities investments
for the indefinite future.
The Company has made limited investments in real estate, which have been used
almost entirely in the Company's operating activities, with the remainder leased
to third parties. In July 1998, the Company entered into a lease covering
approximately 95,000 square feet of office space for new Company headquarters.
The lease is for a term of 10 years and the Company moved its headquarters and
principal operations to this space in early March 1999. The Company intends to
lease its former headquarters to third parties. The Company expended $5.1
million for leasehold improvements and equipment through September 30, 1999, and
estimates a total of $6.9 will be incurred.
The Company maintains a portion of its investment portfolio in high quality,
short-term securities to meet short-term operating liquidity requirements,
including the payment of losses and LAE. Short-term investments totaled $48.0
million, or 6.7% of invested assets, at September 30, 1999. The Company believes
that all of its short-term and fixed maturity securities are readily marketable.
8
<PAGE>
SCPIE Holdings is an insurance holding company whose assets primarily consist
of all of the capital stock of its insurance company subsidiaries. Its
principal sources of funds are dividends from its subsidiaries and proceeds from
the issuance of debt and equity securities. The insurance company subsidiaries
are restricted by state regulation in the amount of dividends they can pay in
relation to earnings or surplus, without the consent of the applicable state
regulatory authority, principally the California Department of Insurance. SCPIE
Holdings' principal insurance company subsidiary may pay dividends to SCPIE
Holdings in any year, without regulatory approval, to the extent such dividends
do not exceed the greater of (i) 10% of its statutory surplus at the end of the
preceding year or (ii) its net income for the preceding year. Applicable
regulations further require that an insurer's statutory surplus following a
dividend or other distribution be reasonable in relation to its outstanding
liabilities and adequate to meet its financial needs, and permit the payment of
dividends only out of statutory earned (unassigned) surplus unless the payment
out of other funds receives regulatory approval. The amount of dividends that
the insurance company subsidiaries are able to pay to SCPIE Holdings during 1999
without prior regulatory approval is approximately $41.1 million. Dividends of
$26.0 million have been paid to SCPIE Holdings through October 31, 1999.
On August 31, 1999, the California Insurance Commission approved a special
dividend of $80.0 million from SCPIE Indemnity Company to SCPIE Holdings. The
proceeds from this dividend will be used by the Company to purchase up to 2
million shares of its common stock through a procedure referred to as a "Dutch
Auction." This procedure allows stockholders to select the price within a
specified range (not in excess of $37.50, nor less than $34.25) at which each
stockholder is willing to sell all or a portion of his or her shares to the
Company. The offer commenced on October 14, 1999 and is scheduled to expire on
November 10, 1999, unless extended by the Company.
On May 25, 1999 the Company entered into a Credit Agreement with Union Bank of
California, N.A., First Union National Bank, and Dresdner Bank AG, as lenders.
Under the Credit Agreement, the Company may borrow up to $75,000,000, from time
to time, subject to certain conditions. The proceeds from the Credit Agreement
may be used by the Company for general corporate purposes and certain other
permitted uses. The Company has made no borrowings under this agreement.
Based on historical trends, market conditions and its business plans, the
Company believes that its sources of funds will be sufficient to meet its
liquidity needs over the next 18 months and beyond. However, because economic,
market and regulatory conditions may change, there can be no assurance that the
Company's sources of funds will be sufficient to meet these liquidity needs. The
short- and long-term liquidity requirements of the Company may vary because of
the uncertainties regarding the settlement dates for unpaid claims.
During May 1999, the Board of Directors authorized the repurchase of up to
1,000,000 shares of the Company's common stock on the open market. This
authorization replaced the Company's prior program that expired on May 13.
Since July 15, 1999, the Company has not purchased any shares under this
program.
YEAR 2000
The Company relies heavily on information technology ("IT") systems and other
systems and facilities such as telephones, building access control systems and
heating and ventilation equipment ("embedded systems") to conduct its business.
The Company also has business relationships with health care providers,
financial institutions, financial intermediaries, public utilities and other
critical vendors as well as regulators and customers who are themselves reliant
on IT and embedded systems to conduct their businesses.
Worldwide concerns have arisen over the ability of IT and embedded systems to
function properly on and after January 1, 2000 ("Year 2000"). The Year 2000
concern is the result of many computer programs being written using two digits
rather than four digits to define the applicable year. Systems that have date-
sensitive software may recognize a date using "00" as the year 1900 rather than
the year 2000, or as no date. This could result in a system failure or
miscalculations causing disruptions of operations, including, among other
things, a temporary inability to process transactions, send invoices or engage
in similar normal business operations.
State of Readiness
In 1995, the Company organized a multi-disciplinary Year 2000 Project Team.
The Year 2000 Project Team has developed and is currently executing a
comprehensive plan designed to make the Company's mission critical IT systems
and embedded systems Year 2000 ready. Outside consultants have reviewed the
Company's overall process, plan and progress to date. The Company's plan for IT
systems consists of four phases: (1) inventory-identifying all IT systems and
risk rating each according to its potential business impact; (2) assessment -
identifying IT systems that use date functions and assessing them for Year 2000
functionality; (3) remediation - reprogramming, or replacing where necessary,
inventoried items to ensure they are Year 2000 ready; and (4) testing and
certification - testing the code modifications and new inventory with other
associated systems, including extensive date testing and performing quality
assurance testing to ensure successful operation in the post-1999 environment.
The Company completed the remediation of substantially all of its mission
critical IT systems by year-end 1998.
During the first quarter of 1999, the Company conducted and completed testing
and certification. The Company believes that its Year 2000 project, generally,
is completed.
9
<PAGE>
External Relationships
The Company also faces the risk that one or more of its critical suppliers or
customers ("external relationships") will not be able to interact with the
Company due to the third party's inability to resolve its own Year 2000 issues,
including those associated with its own external relationships. The Company has
completed its inventory of external relationships and risk rated each external
relationship based upon the potential business impact, available alternatives
and cost of substitution. The Company is attempting to determine the overall
Year 2000 readiness of its external relationships. In the case of mission
critical suppliers such as banks, financial intermediaries (such as stock
exchanges), telecommunications providers and other utilities, IT vendors,
financial market data providers, major physician groups and major hospitals, the
Company is engaged in discussions with the third parties and is attempting to
obtain detailed information as to those parties' Year 2000 plans and state of
readiness. The Company, however, does not have sufficient information at the
current time to predict whether all its external relationships will be Year 2000
ready.
Year 2000 Costs
Year 2000 costs incurred were $101,000, $1,018,000 and $734,000 in 1999, 1998
and 1997, respectively, for a total of $1,853,000. The Company does not expect
to incur any further Year 2000 costs. A large majority of these costs are
expected to be incremental expenses that will not recur in the Year 2000 or
thereafter. The Company expenses these costs as incurred and funds these costs
through operating cash flows.
Risks and Contingency/Recovery Planning
If the Company's Year 2000 issues were unresolved, potential consequences
would include, among other possibilities, the inability to accurately and timely
process claims, update policyholders' accounts, process financial transactions,
bill policyholders, assess exposure to risks, determine liquidity requirements
or report accurate data to management, stockholders, policyholders, regulators
and others as well as business interruptions or shutdowns, financial losses,
reputational harm, increased scrutiny by regulators and litigation related to
Year 2000 issues. The Company is attempting to limit the potential impact of the
Year 2000 by monitoring the progress of its own Year 2000 project and those of
its critical external relationships and by developing contingency/recovery
plans. The Company cannot guarantee that it will be able to resolve all of its
Year 2000 issues. Any critical unresolved Year 2000 issues at the Company or
with its external relationships, however, could have a material adverse effect
on the Company's results of operations, liquidity or financial condition.
The Company has developed contingency/recovery plans aimed at ensuring the
continuity of critical business functions before and after December 31, 1999. As
part of that process, the Company has developed reasonably likely failure
scenarios for its critical IT systems and external relationships and the
embedded systems in its critical facilities. The Company is developing plans
that are designed to reduce the impact on the Company, and provide methods of
returning to normal operations, if one or more of those scenarios occur. The
Company substantially completed contingency/recovery planning as of June 30,
1999.
EFFECT OF INFLATION
The primary effect of inflation on the Company is considered in pricing and
estimating reserves for unpaid losses and LAE for claims in which there is a
long period between reporting and settlement, such as medical malpractice
claims. The actual effect of inflation on the Company's results cannot be
accurately known until claims are ultimately settled. Based on actual results to
date, the Company believes that loss and LAE reserve levels and the Company's
ratemaking process adequately incorporate the effects of inflation.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is subject to various market risk exposures, including interest
rate risk and equity price risk.
The Company invests its assets primarily in fixed-maturity securities, which
at September 30, 1999 comprised 90% of total investments at market value. U.S.
government and tax-exempt bonds represent 77% of the fixed-maturity investments,
with the remainder consisting almost entirely of mortgage-backed securities and
corporate bonds. Equity securities, consisting primarily of common stocks,
account for 3% of total investment at market value. The remaining 7% of the
investment portfolio consists of highly liquid short-term investments, which are
primarily overnight bank repurchase agreements and short-term money market
funds.
The value of the fixed-maturity portfolio is subject to interest rate risk.
As market interest rates decrease, the value of the portfolio goes up with the
opposite holding true in rising interest rate environments. A common measure of
the interest sensitivity of fixed-maturity assets is modified duration, a
calculation that takes maturity, coupon rate, yield and call terms to calculate
an average age of the expected cash flows. The longer the duration, the more
sensitive the asset is to market interest rate fluctuations.
The value of the common stock equity investments is dependent upon general
conditions in the securities markets and the business and financial performance
of the individual companies in the portfolio. Values are typically based on
future economic prospects as perceived by investors in the equity markets.
Interest rates have risen substantially since December 31, 1998, resulting
in a decline in the value of five year treasury bonds and adversely affecting
the carrying value of the company's fixed maturity portfolio. At December 31,
1998 the Company's fixed maturities were valued at $23.2 million in excess of
amortized cost. At September 30, 1999, the value of the portfolio had declined
to $12.4 million below amortized cost.
10
<PAGE>
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is a defendant in a California action brought by the bankruptcy
estate of an uninsured physician. The bankruptcy estate alleged that the
Company had an undisclosed conflict of interest when it provided the physician
with a free courtesy defense by an attorney who had represented the interests of
the Company's insureds in other cases. In 1995, a jury made a damage award
against the Company of $4.2 million in compensatory damages, and punitive
damages which were reduced to $14.0 million by the trial judge. The Company
appealed these awards to the California district court of appeal. On May 8,
1998, the appellate court reversed the judgment against the Company in its
entirety. The case was remanded to the California Superior Court in which the
judgment was originally entered. The Company has filed a motion in the Superior
Court for entry of judgment in its favor, which the bankruptcy estate opposed.
The trial judge ruled in favor of the Company, and judgment for the Company was
entered on September 29, 1999. The bankruptcy estate has the right to appeal
this ruling to the district court of appeal. The Company believes that the
action is entirely without merit and will continue to aggressively pursue its
rights.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are included herewith.
27 Financial Data Schedule
(b) Not applicable.
11
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SCPIE HOLDINGS INC.
Date: November 3, 1999 By: /s/ Patrick Lo
---------------------------------------
Patrick Lo
Senior Vice President and Chief
Financial Officer
12
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 7
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<DEBT-HELD-FOR-SALE> 644,509
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 21,393
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 713,928
<CASH> 9,957
<RECOVER-REINSURE> 34,973
<DEFERRED-ACQUISITION> 0
<TOTAL-ASSETS> 852,349
<POLICY-LOSSES> 448,622
<UNEARNED-PREMIUMS> 19,219
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 0
0
0
<COMMON> 0
<OTHER-SE> 368,740<F1>
<TOTAL-LIABILITY-AND-EQUITY> 852,349
119,219
<INVESTMENT-INCOME> 28,951
<INVESTMENT-GAINS> 5,283
<OTHER-INCOME> 396
<BENEFITS> 97,475
<UNDERWRITING-AMORTIZATION> 21,556
<UNDERWRITING-OTHER> 0
<INCOME-PRETAX> 34,818
<INCOME-TAX> 8,441
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 26,377
<EPS-BASIC> 2.26
<EPS-DILUTED> 2.26
<RESERVE-OPEN> 477,631
<PROVISION-CURRENT> 154,768
<PROVISION-PRIOR> (47,219)
<PAYMENTS-CURRENT> 129,174
<PAYMENTS-PRIOR> 7,384
<RESERVE-CLOSE> 448,622
<CUMULATIVE-DEFICIENCY> (47,219)
<FN>
<F1>Treasury stock of $25,514 is included as a reduction of other stockholders'
equity. Accumulated other comprehensive income of $(10,295) is included as a
component of stockholders' equity.
</FN>
</TABLE>
