<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 18, 1998
REGISTRATION NO. 333-67191
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------------
AMENDMENT NO. 1
TO
FORM SB-2
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------------
PREFERRED EMPLOYERS HOLDINGS, INC.
(Name of small business issuer in its charter)
<TABLE>
<S> <C> <C>
DELAWARE 6411 65-0698779
(State or jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Number) Identification Number)
</TABLE>
10800 BISCAYNE BOULEVARD
MIAMI, FLORIDA 33161
(305) 893-4040
<TABLE>
<S> <C>
(Name, address and telephone number
of agent for service)
(Address and telephone number COPIES OF ALL COMMUNICATIONS, INCLUDING COMMUNICATIONS
of principal executive offices) SENT TO AGENT FOR SERVICE, SHOULD BE SENT TO:
WILLIAM R. DRESBACK DONALD J. BEZAHLER, ESQ.
PREFERRED EMPLOYERS HOLDINGS, INC. JONATHAN J. RUSSO, ESQ.
10800 BISCAYNE BOULEVARD BAER MARKS & UPHAM LLP
MIAMI, FLORIDA 33161 805 THIRD AVENUE
(305) 893-4040 NEW YORK, NEW YORK 10022
(212) 702-5700
</TABLE>
------------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: FROM TIME
TO TIME AFTER THIS REGISTRATION STATEMENT BECOMES EFFECTIVE.
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. / /
- ---------------
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / /
- ---------------
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / /
- ---------------
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. / /
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
PROPOSED MAXIMUM PROPOSED MAXIMUM
TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING PRICE AGGREGATE AMOUNT OF
SECURITIES TO BE REGISTERED REGISTERED PER SHARE OFFERING PRICE REGISTRATION FEE
<S> <C> <C> <C> <C>
Common Stock, $.01 par value...................... 517, 085 (1) $7.50 (2) $3,878,137.50 (2) $1,079 (3)
Common Stock, $.01 par value...................... 1,524,356 (4)(5) $8.94 (6) $13,627,742.64 (6) $4,021 (7)
</TABLE>
(1) This Registration Statement (No. 333-67191) includes the registration of
517,085 shares of the Company's common stock. The Registrant previously
registered 1,524,356 shares of the Company's common stock pursuant to a
Registration Statement on Form SB-2 (No. 333-60087), which was declared
effective on August 7, 1998. Pursuant to Rule 429(b) of the Securities Act,
the prospectus filed herewith includes the 517,085 shares being registered
pursuant to this Registration Statement (No. 333-67191) and the 1,524,356
shares registered previously under Registration Statement (No. 333-60087)
(the "Previous Registration Statement"), that are being carried forward.
(2) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(c) under the Securities Act of 1933, as amended, based
upon the average of the high and low sale price of the Company's common
stock on November 9, 1998.
(3) The amount of the registration fee of $1,079 pertains to the 517,085 shares
of the Company's common stock being registered pursuant to this Registration
Statement (No. 333-67191). The registration fee was paid by the Registrant
in connection with the initial filing of this Registration Statement on
November 12, 1998. The amount does not include the registration fee of
$4,021 paid by the Registrant in connection with the registration of
1,524,356 shares of the Company's common stock pursuant to the Previous
Registration Statement which is being carried forward pursuant to Rule
429(b).
(4) Includes the registration of all of the shares of the Company's common stock
issuable upon (a) the conversion of, or otherwise in respect to, the
Company's 7% convertible subordinated promissory notes due 2003
(collectively, the "Notes") issued in a private placement in May 1998 and
(b) the exercise of warrants (collectively, the "Warrants") to purchase an
aggregate of 348,800 shares of common stock. Estimated solely for purposes
of calculating the registration fee and assumes that all of the outstanding
principal with respect to the Notes ($10,580,000 as of December 17, 1998)
was converted into shares of common stock on December 17, 1998, based on a
conversion price of $9.00 per share.
(5) Pursuant to Rule 416 under the Securities Act of 1933, as amended, such
number of shares of the Company's common stock registered pursuant to the
Previous Registration Statement include an indeterminate number of
additional shares of common stock which may be issued upon the occurrence of
certain events in accordance with the applicable terms and provisions
relating to the Notes and the Warrants, including stock splits, stock
dividends and similar transactions and anti-dilution adjustments.
(6) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(c) under the Securities Act of 1933, as amended, based
upon the average of the high and low sale price of the common stock on the
Nasdaq SmallCap Market on July 24, 1998.
(7) The amount of the registration fee of $4,021 was paid by the Registrant on
July 29, 1998 in connection with the initial filing of the Previous
Registration Statement.
------------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING
PURSUANT TO SAID SECTION 8(A), MAY DETERMINE.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
PROSPECTUS
SUBJECT TO COMPLETION, DATED DECEMBER 18, 1998
THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. THESE
SECURITIES MAY NOT BE SOLD UNTIL THE REGISTRATION STATEMENT FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER
TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE
SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
<PAGE>
2,041,441 SHARES
PREFERRED EMPLOYERS HOLDINGS, INC.
COMMON STOCK
------------------
Securityholders of Preferred identified herein may offer and sell up to
2,041,441 shares of Preferred's common stock under this prospectus. 517,085
shares of common stock are issued and outstanding, and 1,524,356 of these shares
of common stock are issuable upon (i) the conversion of our 7% convertible
subordinated promissory notes due May 2003 and (ii) the exercise of warrants to
purchase 348,800 shares of Preferred's common stock. The securityholders may
offer and sell these shares at any time, in one or more transactions, and at any
price. Preferred will not receive any of the proceeds from the sale of these
shares but we would receive approximately $2.9 million in gross cash proceeds if
all of the warrants relating to 348,800 shares offered under this prospectus
were exercised in full.
The Nasdaq SmallCap Market lists Preferred's common stock under the symbol
"PEGI." On December 15, 1998, the last sale price of Preferred's common stock
was $8.75 per share.
INVESTING IN PREFERRED'S COMMON STOCK INVOLVES CERTAIN RISKS. SEE "RISK
FACTORS" BEGINNING ON PAGE 5 OF THIS PROSPECTUS.
---------------------
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if this
prospectus is truthful or complete. Any representation to the contrary is a
criminal offense.
------------------------
The date of this prospectus is December , 1998.
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Prospectus Summary......................................................................................... 1
Risk Factors............................................................................................... 5
Use of Proceeds............................................................................................ 12
Market for Common Equity and Related Stockholder Matters................................................... 13
Management's Discussion and Analysis of Financial Condition and
Results of Operations...................................................................................... 14
Business................................................................................................... 22
Management................................................................................................. 32
Security Ownership of Certain Beneficial Owners and Management............................................. 37
Certain Relationships and Related Transactions............................................................. 38
Selling Securityholders.................................................................................... 39
Description of Securities.................................................................................. 44
Plan of Distribution....................................................................................... 45
Legal Matters.............................................................................................. 45
Experts.................................................................................................... 46
Available Information...................................................................................... 46
Index to Financial Statements.............................................................................. F-1
</TABLE>
------------------------
Our principal executive offices are located at 10800 Biscayne Boulevard, Miami,
Florida 33161, and our telephone number is (305) 893-4040.
------------------------
This prospectus includes forward-looking statements, including statements
regarding, among other things:
- our anticipated growth strategies, and
- our intention to introduce new products.
We have based these forward-looking statements largely on our expectations.
Forward-looking statements are subject to a number of risks and uncertainties,
certain of which are beyond our control. Actual results could differ materially
from those anticipated as a result of the factors described in "Risk Factors"
including, among other things: (1) circumstances which could affect the writing
of workers' compensation, liability and property insurance, (2) economic,
business and competitive conditions in the insurance industry and the economy in
general and innovations of new insurance products, (3) the enactment of new
regulations and laws, and the amendment of existing regulations and laws which
could affect our business, (4) changes in our business strategy or development
plans, and (5) our ability to obtain sufficient financing.
We undertake no obligation to publicly update or revise any forward-looking
statements, whether as a result of new information, future events or otherwise.
Because of the risks and uncertainties, the forward-looking events and
circumstances discussed in this prospectus might not occur.
------------------------
You should rely only on the information contained in this prospectus. We
have not authorized anyone to provide you with different information. If anyone
provides you with different or inconsistent information, you should not rely on
it. You should not assume that the information contained in this prospectus is
accurate as of any date other than the date on the front cover.
i
<PAGE>
PROSPECTUS SUMMARY
THIS SUMMARY HIGHLIGHTS INFORMATION CONTAINED ELSEWHERE IN THIS PROSPECTUS.
THIS SUMMARY IS NOT COMPLETE AND MAY NOT CONTAIN ALL OF THE INFORMATION THAT YOU
SHOULD CONSIDER BEFORE PURCHASING THE COMMON STOCK. YOU SHOULD CAREFULLY READ
THE ENTIRE PROSPECTUS (AND THE FINANCIAL STATEMENTS CONTAINED IN THE
PROSPECTUS). UNLESS OTHERWISE INDICATED OR THE CONTEXT OTHERWISE REQUIRES, THE
FINANCIAL STATEMENTS AND OTHER FINANCIAL INFORMATION CONCERNING US HAS BEEN
RESTATED TO ACCOUNT FOR THE AUGUST 1998 "POOLING OF INTERESTS" MERGER OF
NATIONAL EXPLORERS AND TRAVELERS HEALTHCARE, INC. ("NET HEALTHCARE") WITH US.
THE COMPANY
We engage in the following activities:
- we sell, on behalf of others, business insurance, including workers'
compensation, property, liability, casualty, and other types of coverage,
and we provide risk management services, including cost containment,
safety management and claims management services, designed for segments of
the franchise industry (particularly fast food restaurants, family-style
restaurants and convenience stores),
- we provide reinsurance for certain workers' compensation and employer's
liability insurance policies we sell, and
- we provide temporary registered nurses and other professional medical
personnel primarily to client hospitals.
INSURANCE. The insurance products sold by us are designed to provide
clients with substantial cost savings and reduce the time otherwise spent in
managing insurance needs and related costs. We offer clients competitive rates
and provide risk management services, including cost containment, safety
management and claims management programs. We believe that our innovative
approach to cost containment helps clients achieve lower claims costs.
REINSURANCE. In 1997, we began operating as a reinsurer for certain
workers' compensation and employer's liability insurance policies sold by us.
Although we assume risks associated with being a reinsurer, our reinsurance
agreement (i) limits our liability for losses and certain expenses to the first
$300,000 per occurrence and (ii) limits our total liability for all coverage to
a maximum of 70% of the total premiums written for each underwriting year.
EMPLOYEE STAFFING. In March and August of 1998, we acquired businesses
which provide temporary registered nurses and other professional medical
personnel mainly to client hospitals. Our travel nurses serve clients for
periods ranging from 8 to 52 weeks and function essentially as permanent
hospital staff, rather than short-term, supplemental staff. We believe that the
ability of travel nurses to function as permanent staff improves the continuity
and consistency of patient care and reduces our clients' overall administration,
orientation and supervisory requirements relating to permanent staff, as well as
reducing turnover of their temporary staff.
STRATEGY. We believe that substantial opportunities for growth include
leveraging our capabilities and expertise in workers' compensation and risk
management. In particular, we believe that by combining our existing expertise
in insurance matters with strategic acquisitions of employee staffing businesses
we can reduce the operating expenses typically associated with these operations
and increase the products we offer to our existing clients and staffing
employees.
Our current strategy for growth includes:
- continuing to capitalize on our business of selling business insurance and
providing risk management services to franchise and related companies;
1
<PAGE>
- making selective acquisitions of employee staffing operations;
- growing our existing insurance business by offering workers' compensation
and other business insurance products, along with risk management
services, to select industries; and
- focusing our employee staffing operations on specific industry segments
without regard to geographic boundaries.
THE OFFERING
Securityholders may offer and sell up to 2,041,441 shares of our common
stock under this prospectus. We will not receive any of the proceeds from the
sale of these shares. However, we would receive approximately $2.9 million in
gross cash proceeds if all of the warrants relating to 348,800 shares offered
under this prospectus were exercised in full with cash. See "Use of Proceeds"
and "Selling Securityholders."
RISK FACTORS
Investing in our common stock involves certain risks. You should consider
the information under the caption "Risk Factors" beginning on page 5 of this
prospectus in deciding whether to purchase the common stock offered under this
prospectus.
2
<PAGE>
SUMMARY FINANCIAL DATA
The following summary financial data as of and for the years ended December
31, 1997 and 1996, and as of and for the nine months ended September 30, 1998
and 1997 is based upon our consolidated financial statements included elsewhere
in this prospectus. This summary data gives retroactive effect to the
consummation in August 1998 of the merger between NET Healthcare and us. Our
consolidated financial statements for applicable periods prior to the merger
have been restated to include the operations of NET Healthcare. We have prepared
our consolidated financial statements in accordance with generally accepted
accounting principles. Our results of operations for any interim period do not
necessarily indicate our results of operations for the full year. You should
read this summary financial data in conjunction with "Management's Discussion
and Analysis of Financial Condition and Results of Operations," "Business" and
our consolidated financial statements.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------------------------------
<S> <C> <C> <C> <C>
1997 1996
---------------------------- ---------------------------
<CAPTION>
PREVIOUSLY PREVIOUSLY
REPORTED RESTATED REPORTED RESTATED
------------- ------------- ------------- ------------
<S> <C> <C> <C> <C>
OPERATING DATA:
Total revenues........................................ $ 15,999,112 $ 27,593,412 $ 3,341,130 $ 5,955,097
Net income (loss)--basic.............................. $ 1,209,418 $ 609,958 $ 104,266 ($ 520,447)
Net income (loss)--diluted............................ $ 1,209,418 $ 609,958 $ 104,266 ($ 520,447)
Net basic earnings (loss) per share................... $ 0.27 $ 0.12 $ 0.03 ($ 0.15)
Net diluted earnings (loss) per share................. $ 0.27 $ 0.12 $ 0.03 ($ 0.15)
PRO FORMA DATA (1):
Pro forma net income (loss)--basic.................... $ 1,209,418 $ 1,069,274 $ 65,375 ($ 326,320)
Pro forma net income (loss)--diluted.................. $ 1,209,418 $ 1,069,274 $ 65,375 ($ 326,320)
Pro forma net basic earnings (loss) per share......... $ 0.27 $ 0.21 $ 0.02 ($ 0.09)
Pro forma net diluted earnings (loss) per share....... $ 0.27 $ 0.21 $ 0.02 ($ 0.09)
</TABLE>
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------------------
<S> <C> <C> <C>
1998 1997
------------- ----------------------------
<CAPTION>
PREVIOUSLY
REPORTED RESTATED
------------- -------------
(UNAUDITED)
<S> <C> <C> <C>
OPERATING DATA:
Total revenues...................................................... $ 39,207,780 $ 11,347,877 $ 19,202,773
Net income--basic................................................... $ 1,547,318 $ 874,580 $ 271,367
Net income--diluted................................................. $ 1,622,696 $ 874,580 $ 271,367
Net basic earnings per share........................................ $ 0.30 $ 0.20 $ 0.05
Net diluted earnings per share...................................... $ 0.28 $ 0.20 $ 0.05
PRO FORMA DATA (1):
Pro forma net income--basic......................................... $ 1,222,857 $ -- $ 658,770
Pro forma net income--diluted....................................... $ 1,298,235 $ -- $ 658,770
Pro forma net basic earnings per share.............................. $ 0.23 $ -- $ 0.13
Pro forma net diluted earnings per share............................ $ 0.22 $ -- $ 0.13
</TABLE>
- ------------------------
(1) The pro forma data included above assumes us and Net Healthcare filed income
tax returns as C corporations for the periods presented. See Notes to our
consolidated financial statements.
3
<PAGE>
<TABLE>
<CAPTION>
AT SEPTEMBER 30,
1998 AT DECEMBER 31, 1997
-------------------- ----------------------------
<S> <C> <C> <C>
PREVIOUSLY
(UNAUDITED) REPORTED RESTATED
------------- -------------
BALANCE SHEET DATA:
Total assets................................................. $ 54,165,421 $ 29,700,203 $ 32,243,821
Total liabilities............................................ $ 41,843,865 $ 17,711,791 $ 21,469,582
Net shareholders' equity..................................... $ 12,321,556 $ 11,988,412 $ 10,774,239
</TABLE>
4
<PAGE>
RISK FACTORS
THE COMMON STOCK OFFERED BY THIS PROSPECTUS INVOLVES A HIGH DEGREE OF RISK.
BEFORE PURCHASING THE COMMON STOCK, YOU SHOULD CAREFULLY CONSIDER THE FOLLOWING
RISK FACTORS AND THE OTHER INFORMATION CONTAINED IN THIS PROSPECTUS.
REINSURANCE LIABILITY
We reinsure certain workers' compensation and employers' liability insurance
policies sold by us and, as a result, assume risks associated with being a
reinsurer, such as paying for claims. Our reinsurance operation has a
contractual arrangement which generally limits our liability to the first
$300,000 per occurrence (for losses and certain expenses) and limits our
aggregate liability for all coverage to a maximum of 70% of the total premiums
written for each underwriting year. However, liabilities incurred by our
reinsurance operations could have a material adverse effect on us.
DEPENDENCE ON REINSURANCE BUSINESS; TERMINATION OF REINSURANCE AGREEMENT
We derived approximately 34% of our revenues for the nine months ended
September 30, 1998 and approximately 49% of our revenues for the year ended
December 31, 1997 from our reinsurance business. Our reinsurance operations are
subject to a reinsurance agreement with a group of insurance companies. Either
party may terminate the reinsurance agreement by giving written notice 180 days
before the beginning of any calendar quarter. Other events may also allow
termination such as (i) if acts required by the reinsurance agreement are
prohibited or rendered impossible or (ii) if either party becomes insolvent,
suffers impairment of capital, files a petition for bankruptcy or is acquired or
controlled by any other insurance company or organization. If the reinsurance
agreement is terminated, then we will, in all likelihood, be materially and
adversely affected.
UNDERWRITING AND LOSS CONTROL
Our financial condition and results of operations depend in large part on
our ability to correctly assess the risks associated with reinsuring the
policies we sell. Failure to correctly assess risks could negatively impact our
loss experience, increase the need for claims management and have a material
adverse effect on us. To limit the risks associated with the reinsurance
business, we use underwriting procedures that we believe are effective in
assessing the risks associated with reinsurance coverage. We also seek to manage
our risks through loss control efforts such as working directly with the insured
to design safety programs and make recommendations that will decrease the
frequency of claims. Inadequate underwriting and loss control procedures or
analyses may cause increased incidents of claims that could materially and
adversely affect us.
REGULATIONS
INSURANCE. We must comply with regulations in various states in which we
sell insurance. The regulations vary from state to state and may include, among
others, licensing requirements, bonding requirements, and requirements governing
the agreements with the insurance carriers for which we act as a general agent.
In addition, significant penalties may be imposed for violations of applicable
regulations and the states could change their regulations.
State law, state legislatures and the political processes all impact upon
workers' compensation coverage. Several states have mandated that employers
receive coverage only from funds operated by the state and have enacted
regulations that place onerous assessments on commercial insurers to subsidize
state assigned risk programs. These state regulations generally prohibit
commercial insurers from offering workers' compensation programs in such states
and cause insureds to participate in state assigned risk programs or
self-insure. As a result, we do not offer insurance in those states. In
addition, other states could enact similar regulations that may prohibit us from
selling insurance in that state. Accordingly, we
5
<PAGE>
could be materially and adversely affected by state regulations concerning
workers' compensation coverage.
REINSURANCE. Our reinsurance business is conducted through a registered
Bermuda insurance company and is subject to the regulations and supervision of
Bermuda. The applicable Bermudian statutes and regulations generally protect
insureds and ceding insurance companies rather than stockholders. These statutes
and regulations require our reinsurance subsidiary to maintain minimum levels of
capital and surplus, prescribe solvency standards and impose restrictions on our
investments. The statutes and regulations in effect restrict the ability of our
reinsurance subsidiary to write new business or distribute funds to us. If
Bermuda amended its capital reserve requirements to require additional reserves,
then we may be required to provide significant amounts of capital to our
reinsurance subsidiary, which could have a material adverse effect on us.
Our reinsurance subsidiary is not registered or licensed as an insurance
company in any jurisdiction in the United States. It conducts business through
its offices in Bermuda. We believe that our reinsurance business is not
generally subject to the insurance laws of any jurisdiction in the United
States, except with respect to the status of our reinsurance subsidiary as a
foreign insurer. We could incur fines and penalties or have restrictions imposed
upon our business operations if the United States or a state challenged our
insurance activities or our ability to conduct those activities from Bermuda.
Ceding insurers in the United States remit premiums to our reinsurance
subsidiary for its reinsurance. Each states' insurance laws impose specific
requirements on insurers which seek to place reinsurance with a foreign insurer.
The regulations, which vary from state to state, could include requiring a
foreign insurer to (i) submit to jurisdiction in the United States, (ii) obtain
approval from the state insurance regulators, or (iii) meet certain capital
requirements. If we fail to comply with any applicable requirements, then
premiums paid to us may be significantly reduced which could have a material
adverse effect on us.
The United States and many states have recently increased their scrutiny of
the insurance and reinsurance regulatory framework, and many states have created
employee class codes that distinguish fast food restaurants from other types of
restaurants. We believe that workers' compensation insurance rates with respect
to such class codes have not been similarly distinguished. In the future, it is
possible that workers' compensation insurance rates could be distinguished based
on class codes. This could have a material adverse effect on us.
EMPLOYEE STAFFING. We conduct employee staffing business in 42 states, and
are subject to regulation by various state agencies pertaining to a wide variety
of employment-related laws. Many of these regulations were enacted prior to the
emergence of the staffing industry and do not specifically address
non-traditional employers.
Many states do not explicitly regulate staffing providers, however, a number
of states have passed laws that have licensing, registration or compliance
requirements for staffing providers, and other states consider enacting similar
regulations from time to time.
Laws regulating the staffing industry vary from state to state, but
generally provide for monitoring the fiscal responsibility of staffing
providers. While we are currently qualified to conduct our staffing business in
most states, there can be no assurance that we will be able to satisfy any new
licensing requirements or other applicable regulations of any particular state.
In addition, there can be no assurance that we will be able to renew our
licenses in the states in which we currently operate upon the expiration of our
licenses.
Numerous Federal and state laws and regulations involving employment
matters, benefit plans and taxes affect our operations. Many of these laws (such
as the Employee Retirement Income Security Act and Federal and state employment
tax laws) do not specifically address the obligations and responsibilities of
non-traditional employers such as staffing providers, and do not have a uniform
definition of "employer." Many of the states in which we operate have not
addressed the staffing relationship for purposes of complying with applicable
state laws governing the employer/employee relationship. In
6
<PAGE>
addition, from time to time, states have considered, and may in the future
consider, imposing certain taxes on gross revenues or service fees of staffing
companies. If these Federal or state laws are adopted or applied in a manner
unfavorable to us, such adoption or application could have a material adverse
effect on our results of operations and financial condition.
It is not possible to predict the future impact of changing laws or
regulations on our operations. Such changes could, however, have a material
adverse effect on us.
DEPENDENCE ON INDEPENDENT INSURANCE BROKER/AGENTS; AVAILABILITY OF PRODUCTS AND
SERVICES
Our operations depend upon the successful marketing of products sold by us
and our services through independent insurance broker/agents. We have tried to
structure our programs to make them financially attractive for independent
broker/agents, but we have no control over the independent broker/agents. As a
result, they could choose not to offer our products or services, and instead
offer products and services of our competitors. We would be materially adversely
affected if these broker/agents fail to successfully sell our products and
services.
We custom design our workers' compensation insurance programs with
nationally recognized carriers rated A or better by A.M. Best and we work with
these carriers to establish competitive rates. In the future, we may be unable
to offer our programs at competitive rates and our business could be materially
adversely affected.
DEPENDENCE ON INVESTMENT INCOME
We invest the premiums we receive from our reinsurance operations. The
income derived from our investments is significant. The reinsurance business has
inherent risks and we try to avoid increasing those risks by safeguarding our
capital and avoiding speculative investments. Under our investment policy, we
invest the premiums primarily in cash and fixed-income securities, although we
have the right to invest a limited percentage in stock of public companies. As
interest rates and stock prices fluctuate, our investments will fluctuate.
Losses, both realized and unrealized, on these investments could have a material
adverse effect on us. We maintain most of our cash in short-term, fixed income
securities. The value of these securities may fluctuate depending on changes in
prevailing interest rates. We generally do not hedge our cash investments
against interest rate risk. As a result, changes in interest rates could result
in a decrease in our investment income and have a material adverse effect on us.
RELIANCE UPON KEY PERSONNEL
Our operations depend largely on the continued employment of Mr. Mel Harris,
our Chairman of the Board, President and Chief Executive Officer. If Mr. Harris
or other members of management or key personnel resign or otherwise leave us,
our business and financial condition could be materially adversely affected.
POTENTIAL IMPACT OF HOLDING COMPANY STRUCTURE ON DIVIDENDS
We conduct our operations through wholly-owned subsidiaries. We may need to
rely on cash dividends and other payments from our subsidiaries to, among other
things, pay creditors, maintain capital and meet other operating requirements.
Regulations could prohibit, restrict or make unfavorable any needed payments
from our subsidiaries. If we are unable to receive cash dividends or other funds
from our subsidiaries, our operations may be materially and adversely affected.
COMPETITION
The business insurance industry is highly competitive. We compete against
other general agents, numerous large insurance companies, managed health care
companies, state sponsored insurance pools,
7
<PAGE>
risk management consultants and unaffiliated broker/agents. Many of our
competitors have significantly larger operations and greater financial,
marketing, human and other resources. Competitive factors include product lines,
premium rates, personalized service and effective cost containment measures.
Some of our competitors may have an advantage over us because we do not offer
the breadth of insurance products offered by them. As a result, we may not have
the ability to maintain our competitive position due to (i) changes in the
marketplace, (ii) competitors offering new products, (iii) loss of resources or
(iv) change in regulations.
INDUSTRY CYCLICALITY; POTENTIAL FLUCTUATIONS IN FINANCIAL RESULTS
Historically, the financial results of companies in the insurance and
employee staffing industries have fluctuated significantly. This could continue
in the future. Our results of operations may fluctuate due to the following
factors, among others:
- competitive price pressures;
- unpredictable developments in loss trends;
- changes in loss reserves;
- market acceptance of new products;
- fluctuations in interest rates and other changes in investment markets
which affect market prices of investments and income from such
investments;
- competitive conditions in the respective industries;
- changes in operating expenses; and
- changes in levels of general business activity and economic conditions.
During the past year, we have experienced increased competitive pricing
pressures in our workers' compensation insurance operations. If a large number
of insureds declined to renew their policies, then our business and results of
operations could be materially and adversely affected.
RISKS ASSOCIATED WITH GROWTH STRATEGY
Our growth strategy includes growing internally and making selective
acquisitions. If we cannot effectively or successfully implement our growth
strategy, then our business, financial condition and results of operations could
be materially and adversely affected. Risks associated with our growth strategy
include, among others:
- difficulty in combining the operations and personnel of an acquired
company or business;
- potential disruption of our ongoing business;
- inability to successfully integrate acquired systems, programs and
businesses into our operations;
- failure to maintain uniform standards, controls and procedures; and
- possible impairment of relationships with employees and insureds.
POSSIBLE LOSS OF QUALIFIED STATUS FOR CERTAIN TAX PURPOSES
The Internal Revenue Service (the "IRS") has been generally examining the
relationship among temporary staffing providers, their clients and staffing
employees. Although we are not specifically under scrutiny, if the IRS
determines that temporary staffing providers (such as us) are not "employers" of
certain staffing employees for purposes of the Internal Revenue Code, then our
(i) 401(k) retirement plan's qualified tax status could be adversely affected,
and (ii) "cafeteria plan" (which includes a flexible
8
<PAGE>
spending account allowing for the payment of certain health and dependent care
coverages with pre-tax payroll dollars) and other health and fringe benefit
plans may lose their favorable tax status.
If we lose the qualified tax status of our 401(k) retirement plan, then the
following could occur:
- vested account balances of staffing employees could become taxable
immediately to them;
- distributions may not qualify for special tax treatment;
- we may lose the tax deduction for our contributions to the 401(k) plan;
- the plan trust could become a taxable trust; and
- penalties could be assessed.
In addition, if the cafeteria plan and the other health and fringe benefit
plans are not considered to meet the requirements of the Internal Revenue Code,
then the following could occur:
- staffing employees may recognize income with respect to these benefits;
and
- clients may become liable for failure to (i) withhold income taxes and
payroll taxes, (ii) pay social security taxes and (iii) report taxable
income.
The loss of our tax qualified status could increase the risks of client
dissatisfaction and potential litigation, and our financial condition, results
of operations and liquidity could be materially adversely affected.
Finally, if we are required to report and pay employment taxes for the
separate accounts of our clients rather than for our own account as a single
employer, we could incur increased administrative burdens.
LIABILITY FOR STAFFING EMPLOYEE PAYROLL AND PAYROLL TAXES
In providing our staffing services to clients, we have the obligation to pay
the salaries, wages and related benefit costs and payroll taxes of our staffing
employees. We pay the (i) salaries and wages for work performed by staffing
employees and (ii) payroll withholding taxes, Federal and state unemployment
taxes, and taxes due under the Federal Insurance Contributions Act (FICA). We
are obligated to make these payments whether or not our clients make timely
payment, or if our clients default in their payment, to us of staffing revenue
owed to us. In the event of substantial client default, there can be no
assurance that our ultimate liability for staffing employee payroll and related
tax costs will not have a material adverse effect on our results of operations
or financial condition.
AVAILABILITY OF QUALIFIED STAFFING PERSONNEL
We compete with other staffing companies, as well as our clients and other
employers, for qualified personnel. In addition, during any given year a number
of our staffing employees may terminate employment with us in order to accept
employment with our clients. In the future, we may encounter difficulty in
recruiting sufficient staffing employees of the caliber that we are committed to
provide to our customers.
During periods of higher employment, we may incur increased expenses
associated with recruiting qualified staffing employees. We believe there is a
shortage of, and significant competition for, medical services professionals who
possess the technical skills and expertise necessary to deliver our services and
that such professionals are likely to remain a limited resource for the
foreseeable future. An inability to attract and retain a sufficient number of
additional qualified staffing employees to support our planned growth, or the
loss of a significant number of qualified staffing employees, could adversely
affect our operating results and business strategy.
9
<PAGE>
STAFFING EMPLOYMENT RISKS
Our staffing employees are typically employed in our clients' workplace. As
a result, we have potential liability for any claims arising out of the services
performed by our staffing employees, such as misuse of client information or
theft of client property. In addition, we have potential liability for claims by
our staffing employees of discrimination and harassment in the clients'
workplace and other similar claims. Finally, we have potential liability for
claims resulting from the violation of other employment-related laws and
regulations, as well as violations of immigration laws.
Because we estimate that we will employ more than 650 staffing employees
during 1998, as well as more than 90 corporate employees, our exposure to
employment-related claims may be significantly greater than comparably-sized
employers in other industries. The failure of our employees to follow our
policies and guidelines may result in negative publicity, injunctive relief or
the payment by us of monetary damages or fines, which could have a material
adverse effect on our operating results and financial condition.
WORKERS' COMPENSATION INSURANCE AND BENEFIT PLANS; UNEMPLOYMENT TAXES AND
WORKERS' COMPENSATION RATES
We maintain workers' compensation insurance and health benefit plans that
cover our staffing employees. Certain of the health benefits we provide are
self-insured by us. In addition, vendors with whom we have established
relationships provide us with our health and workers' compensation contracts,
which we believe are on favorable terms. While we believe that we can secure
replacement contracts on competitive terms without causing significant
disruption to our business, there can be no assurance in this regard.
Our claims experience determines, in part, health benefit premiums and
costs, state unemployment taxes and workers' compensation rates, which comprise
a significant portion of our direct costs. However, if we experience a large
increase in claims activity, our unemployment taxes, health benefit premiums and
costs, or workers' compensation insurance rates may increase. Our ability to
incorporate these increases into the rates we charge clients may be limited by
our contractual arrangements with clients, and therefore, a delay in
incorporating the increases in our rates could result. The increases could have
a material adverse effect on our financial condition or results of operations.
POTENTIAL MALPRACTICE LIABILITY AND INSURANCE
We provide specialty medical services which entail an inherent risk of
professional malpractice and other similar claims. We maintain insurance
coverage that we believe is adequate both as to risk and amount. However, there
can be no assurance that our actual future claims will not exceed the coverage
amounts. If we experience a large claim on our professional malpractice
insurance, the rates for such insurance may increase. Our ability to incorporate
these increases into the rates we charge clients may be limited by contractual
arrangements with clients, and therefore, a delay in incorporating the increases
in our rates could result. The increases could have a material adverse effect on
our financial condition or results of operations.
VOLATILITY OF COMMON STOCK
The market price of our common stock recently has fluctuated significantly
and may be affected by our operating results, securities analysts changing their
estimates of our financial results, changes in our business, changes in the
industries in which we conduct business, and general market and economic
conditions. In addition, the stock markets have recently experienced extreme
price and volume fluctuations. These fluctuations have affected stock prices of
many companies without regard to their specific operating performance. The price
of our common stock may fluctuate significantly in the future.
10
<PAGE>
YEAR 2000 ISSUES
Significant uncertainty exists regarding the impact of Year 2000 issues.
These issues arise when computer systems do not properly recognize date
sensitive information beyond December 31, 1999, thereby generating erroneous
data or failing altogether. We have developed a plan with respect to evaluating
and upgrading our core information technology systems so that they are Year 2000
compliant. In addition, we are in the process of developing a plan with respect
to evaluating and upgrading our non-core information technology systems and
other systems using embedded technology. We have not developed a "worst case"
scenario with respect to Year 2000 issues. Although there can be no assurance
until we complete our evaluations and upgrades, we believe that our computer
equipment and software will function properly in all material respects with
respect to dates in the Year 2000. However, third parties (including suppliers,
vendors and creditors) that have relationships with us may experience
significant Year 2000 issues. If we or third parties with which we have
relationships were to cease or not successfully complete Year 2000 remediation
efforts, we could encounter disruptions to our business. We believe that such
disruptions would not have a material adverse effect on our business, financial
position and results of operations. However, we could be materially and
adversely impacted by widespread economic or financial market disruption, or by
Year 2000 computer system failures of third parties, that may generally occur as
a result of the Year 2000 problem. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
CONTROL BY PRINCIPAL STOCKHOLDER
As of December 17, 1998, Mr. Mel Harris, our Chairman of the Board,
President and Chief Executive Officer, may be deemed to beneficially own
approximately 35.3% of our common stock, including 300,000 shares over which Mr.
Harris has shared investment and voting power subject to a Share Escrow
Agreement between us and Mr. Howard Odzer. Accordingly, Mr. Harris has the
ability to effectively control our management and policies, including matters
requiring stockholders' approval. Mr. Harris' interests may conflict with the
interests of other stockholders. See "Security Ownership of Certain Beneficial
Owners and Management."
POSSIBLE ISSUANCES OF OUR STOCK; ANTI-TAKEOVER PROVISIONS
Our Board of Directors can authorize the issuance of up to 2,000,000 shares
of preferred stock, par value $.01 per share, without stockholder approval. Any
preferred stock issued may have rights superior to the rights of common
stockholders such as (i) voting rights (including the right to vote as a series
on particular matters), (ii) preferences as to dividends and liquidation, (iii)
conversion and redemption rights, and (iv) sinking fund provisions. No preferred
stock is currently outstanding and we do not have any current plans to issue
preferred stock. However, the issuance of preferred stock could affect the
rights of common stockholders and the value of the common stock if preferred
stockholders have priority with respect to dividends, liquidation rights and
redemption rights.
Specific rights granted to preferred stockholders also could restrict our
ability to merge with, or sell our assets to, a third party. The Board of
Director's ability to issue preferred stock also could have the effect of
delaying, deferring or preventing a change in our control. Certain provisions of
Delaware law may also discourage third party attempts to acquire control of us.
EFFECT OF CONVERSION OF THE CONVERTIBLE SECURITIES
In May 1998, we consummated a $10,580,000 private placement of 7%
convertible subordinated notes due May 2003. The principal amount of the notes
may be converted by the holders into common stock at any time prior to 2003 at a
conversion price equal to $9.00 per share. Assuming that all of the noteholders
converted all of the principal amount of the notes into common stock as of
December 18, 1998, we would be obligated to issue a total of 1,175,556 shares of
common stock. The conversion of the notes and the exercise of options, warrants,
and similar rights to purchase shares of common stock could have a negative
impact on the price of the common stock, which could be substantial.
11
<PAGE>
USE OF PROCEEDS
The selling securityholders will receive all of the proceeds from the sale
of the common stock offered hereby. We will not receive any proceeds from the
sale of the common stock offered hereby. However, we would receive approximately
$2.9 million in gross cash proceeds if all of the warrants relating to 348,800
shares offered under this prospectus were exercised in full with cash. See
"Selling Securityholders" and "Plan of Distribution."
12
<PAGE>
MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
Our common stock is currently listed on the Nasdaq SmallCap Market under the
trading symbol "PEGI." We first listed our common stock on the Nasdaq SmallCap
Market in February 1997. During the period from February 1997 to August 1997,
our common stock was also listed on the Boston Stock Exchange. The following
table sets forth the high and low closing sale prices of our common stock as
reported on the Nasdaq SmallCap Market and the Boston Stock Exchange for each
calendar quarter commencing in February 1997 through December 15, 1998 (through
August 1997 in the case of the Boston Stock Exchange).
<TABLE>
<CAPTION>
NASDAQ SMALLCAP
MARKET
CLOSING SALE PRICES
--------------------
YEAR PERIOD HIGH LOW
- --------- ---------------------------------------------------------------------------------------- --------- ---------
<S> <C> <C> <C>
1997 First Quarter (Commencing February 6, 1997)............................................. $ 9.38 $ 7.50
Second Quarter.......................................................................... 7.75 6.00
Third Quarter........................................................................... 12.25 7.00
Fourth Quarter.......................................................................... 10.75 7.00
1998 First Quarter........................................................................... 8.50 7.00
Second Quarter.......................................................................... 9.75 7.62
Third Quarter........................................................................... 9.25 6.25
Fourth Quarter (through December 15, 1998).............................................. 10.375 5.00
</TABLE>
<TABLE>
<CAPTION>
BOSTON STOCK
EXCHANGE
CLOSING SALE PRICES
--------------------
YEAR PERIOD HIGH LOW
- --------- ----------------------------------------------------------------------------------------- --------- ---------
<S> <C> <C> <C>
1997 First Quarter (Commencing February 6, 1997).............................................. $ 8.38 $ 7.13
Second Quarter........................................................................... 7.14 6.00
Third Quarter (Ending August 9, 1997).................................................... 7.75 6.50
</TABLE>
As of December 15, 1998, the closing sale price of our common stock on the
Nasdaq SmallCap Market was $8.75 per share. As of December 16, 1998, there were
approximately 20 holders of record for our common stock. A high percentage of
our common stock held of record is registered in the names of brokerage firms
and depositaries.
DIVIDEND POLICY
We have never declared nor paid any dividends on our common stock and do not
anticipate paying dividends in respect of our common stock in the foreseeable
future. Any payment of future dividends will be at the discretion of our Board
of Directors and will depend upon, among other things, our earnings (if any),
financial condition, cash flows, capital requirements and other relevant
considerations, including applicable contractual restrictions and governmental
regulations with respect to the payment of dividends. See "Risk Factors" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."
13
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with our
consolidated financial statements and notes related thereto contained elsewhere
in this prospectus. On August 10, 1998, we issued 517,085 shares of common stock
in exchange for all the outstanding common stock of National Explorers and
Travelers Healthcare, Inc. ("NET Healthcare"). This business combination was
accounted for as a pooling-of-interests combination and, accordingly, our
consolidated financial statements for applicable periods prior to the
combination have been restated to include the accounts and results of operations
of NET Healthcare.
GENERAL
We are engaged in the property and casualty insurance business and act as a
general agent on behalf of the American International Group of Companies
("AIG"), General Accident Insurance Company and the Kemper Insurance Companies
and as a reinsurer for certain workers' compensation insurance policies written
by us on behalf of affiliates of AIG. Pursuant to general agency agreements, we
are authorized to solicit and bind insurance contracts on behalf of the
insurers, collect and account for premiums on business we write, and request
cancellation or nonrenewal of any policy placed by us. We receive, as
compensation pursuant to the terms of these general agency agreements, gross
commissions on our business at rates which range from approximately 5% to 20%.
We have written workers' compensation insurance since our inception in 1988 and
in late 1995 began writing other forms of property and casualty insurance (such
other forms of insurance being hereinafter referred to as "Package") for family
style and fast food restaurants as a general agent for General Accident. In June
1996, General Accident advised us that they would no longer accept Package
insurance risks for fast food restaurants, but would continue to do so for
family style restaurants. As a result, we became a general agent for Kemper
during March 1997, through which we write package as well as other forms of
property and casualty insurance and workers' compensation insurance.
In December 1996, we formed a reinsurance subsidiary under the laws of
Bermuda ("Preferred Reinsurance") and entered into a reinsurance agreement with
AIG's affiliates pursuant to which Preferred Reinsurance acts as the reinsurer
with respect to certain workers' compensation and employer's liability insurance
policies in force with policy inception dates as of January 1, 1996 and
subsequent which are written by us on behalf of AIG's affiliates. Preferred
Reinsurance is required to provide AIG's affiliates, as security for the payment
of losses, a combination of cash, United States government securities and/or an
irrevocable letter of credit in an aggregate amount equal to 51.5% of the net
written premiums ceded to Preferred Reinsurance pursuant to the insurance
agreement less the amount of losses paid. Preferred Reinsurance receives, as
compensation pursuant to the terms of the reinsurance agreement, the related net
written premiums less certain program expenses and commissions and the losses
paid associated with the business. Although Preferred Reinsurance assumes the
risks associated with being a reinsurer, the reinsurance agreement limits the
liability of Preferred Reinsurance for losses and certain defined expenses to
the first $300,000 per occurrence. In addition, the reinsurance agreement limits
the aggregate liability of Preferred Reinsurance for all coverage to an amount
not to exceed 70% of the gross written premiums for each individual underwriting
year. Because the reinsurance agreement is effective for all business written on
or after January 1, 1996, the policies written prior to the execution of the
contract and formation of Preferred Reinsurance were accounted for as
retroactive reinsurance. Refer to Note 1(c) to our consolidated financial
statements for the year ended December 31, 1997 and the nine months ended
September 30, 1998 contained elsewhere in this prospectus for a more detailed
explanation of the related accounting treatment. The reinsurance agreement with
Preferred Reinsurance is terminable by either party upon the occurrence of
certain events. See "Risk Factors--Dependence on Reinsurance Business;
Termination of Reinsurance Agreement."
14
<PAGE>
We collect workers' compensation premiums from the insureds and remit the
ceding commission (net of our commission) and reinsurance charge to AIG's
affiliates and remit the net premium to Preferred Reinsurance. Commission income
on workers' compensation business is recognized as income when premiums are
collected. Package insurance premiums are principally collected by the insurance
carrier. The Package insurance carrier remits commissions on Package premiums it
collects to us monthly. Commission income on Package business is recognized as
income when premiums are due. Reinsurance premiums received by Preferred
Insurance are earned on a pro-rata basis over the term of the related coverage.
In March 1998, our wholly-owned subsidiary, Preferred Healthcare Staffing,
Inc. ("Preferred Staffing"), consummated the purchase of substantially all of
the assets of HSSI Travel Nurse Operations, Inc. ("HSSI"), a wholly-owned
subsidiary of Hospital Staffing Services, Inc., for $5.0 million in cash.
Preferred Staffing provides registered nurses and other professional medical
personnel to client hospitals in the United States and the Caribbean on a
contractual basis for periods ranging from 8 to 52 weeks.
In August 1998, we acquired through a pooling of interests, all of the
outstanding capital stock of NET Healthcare for 517,085 shares of our common
stock. The exchange ratio was based upon a multiple of NET Healthcare's after
tax net income on an annualized basis, based upon the first four months of 1998,
less outstanding debt. NET Healthcare provides registered nurses and other
professional medical personnel, often referred to as "travel nurses," primarily
to client hospitals in the United States and the Caribbean on a contractual
basis, for periods generally ranging from 8 to 52 weeks.
Preferred Staffinsg negotiates billing rates with the client hospitals to
provide for the recovery of its cost of payroll, housing, utilities, travel and
insurance for its professional medical personnel, plus a profit margin and bills
its client hospitals its negotiated rate. Preferred Staffing records revenue at
the time staffing services are provided.
For the nine months ended September 30, 1998, our total revenues were
$39,207,780 as compared to $19,202,773 for the nine months ended September 30,
1997. For the year ended December 31, 1997, our total revenues were $27,593,412
as compared to total revenues of $5,955,097 for the year ended December 31,
1996, representing a net increase of $21,638,315. For the nine months ended
September 30, 1998, approximately 3.9%, 34.2% and 61.9% of our total revenues
were derived from our general agent, reinsurance captive and staffing
businesses, respectively. For the year ended December 31, 1997, approximately
8.6%, 49.4% and 42.0% of our total revenues were derived from our general agent,
reinsurance captive and staffing businesses, respectively.
RESULTS OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997
TOTAL REVENUES. Total revenues for the nine months ended September 30, 1998
were $39,208,000 compared to $19,203,000 for the 1997 comparable period,
representing a net increase of $20,005,000 or
15
<PAGE>
104.2%. The following table provides a comparison of revenues for the nine
months ended September 30, 1998 and 1997 by category:
<TABLE>
<CAPTION>
PERCENTAGE
1998 1997 NET CHANGE CHANGE
------------- ------------ ------------ -----------
<S> <C> <C> <C> <C>
Net commission income:
Workers' compensation................................... $ 1,035,000 1,121,000 (86,000) (7.7%)
Package................................................. 360,000 378,000 (18,000) (4.8%)
Other, net.............................................. 128,000 281,000 (153,000) (54.5%)
------------- ------------ ------------ -----------
Total net commission income........................... 1,523,000 1,780,000 (257,000) (14.4%)
Premiums earned........................................... 11,681,000 8,038,000 3,643,000 45.3%
Net investment income..................................... 1,336,000 1,104,000 232,000 21.0%
Staffing income........................................... 24,283,000 7,855,000 16,428,000 *
Other income.............................................. 385,000 426,000 (41,000) (9.6%)
------------- ------------ ------------ -----------
Total revenues........................................ $ 39,208,000 19,203,000 20,005,000 104.2%
------------- ------------ ------------ -----------
------------- ------------ ------------ -----------
Workers' compensation:
Premiums collected...................................... $ 11,343,000 11,515,000
------------- ------------
------------- ------------
Ratio of net commission income/ Premiums collected...... 9.1% 9.7%
------------- ------------
------------- ------------
</TABLE>
- ------------------------
* The percentage change is insignificant or not meaningful for comparative
purposes.
Workers' compensation commission income decreased $86,000, or 7.7%, as a
result of an increase in commission expense related to the mix of business
produced by brokers. Package commission income decreased $18,000, or 4.8%, as a
result of a reduction in the business written for Kemper for fast food
restaurants. Other net commission income decreased $153,000, or 54.5%, as a
result of the reduction in volume of audit and small business plan premiums
collected. Premiums earned increased $3,643,000, or 45.3%, as a result of new
business and renewals of prior year business. Net investment income increased
$232,000, or 21.0%, as a result of the investment of premiums received by
Preferred Reinsurance and the proceeds received from the sale of our convertible
subordinated notes. Staffing income increased $16,428,000 as a result of the
acquisition of the assets of HSSI and the increase in Preferred Staffing's
business. Other income decreased $41,000, or 9.6%, as a result of the effects of
the retroactive insurance accounting treatment of Preferred Reinsurance as
discussed more fully in Note 1(c) to our consolidated financial statements.
TOTAL OPERATING EXPENSES. Total operating expenses for the nine months
ended September 30, 1998 were $36,109,000, compared to $18,261,000 for the 1997
comparable period, representing an increase of $17,848,000, or 97.7%. The
following table provides a comparison of total operating expenses for the nine
months ended September 30, 1998 and 1997 by category:
<TABLE>
<CAPTION>
PERCENTAGE
1998 1997 NET CHANGE CHANGE
------------- ------------ ------------ -----------
<S> <C> <C> <C> <C>
Losses and loss adjustment expenses incurred.............. $ 6,202,000 4,357,000 1,845,000 42.4%
Amortization of deferred acquisition costs................ 3,819,000 2,917,000 902,000 30.9%
Staffing costs............................................ 18,989,000 6,382,000 12,607,000 *
Other operating expenses.................................. 7,099,000 4,605,000 2,494,000 54.2%
------------- ------------ ------------ -----------
Total operating expenses................................ $ 36,109,000 18,261,000 17,848,000 97.7%
------------- ------------ ------------ -----------
------------- ------------ ------------ -----------
</TABLE>
- ------------------------
* The percentage change is insignificant or not meaningful for comparative
purposes.
16
<PAGE>
Losses and loss adjustment expenses increased $1,845,000, or 42.4%, which is
consistent with the increase in premiums earned in 1998 as discussed above. For
the nine months ended September 30, 1998, our ratio of losses incurred to
premiums earned was approximately 53%. Amortization of deferred acquisition
costs increased $902,000, or 30.9%, which is also consistent with the increase
in premiums earned in 1998 as discussed above. For the nine months ended
September 30, 1998, our ratio of amortization of deferred acquisition costs to
premiums earned was approximately 33%. Staffing costs increased $12,607,000,
consistent with the staffing income as discussed above. Other operating expenses
increased $2,494,000, or 54.2%. The following table provides a comparison of
other operating expenses for the nine months ended September 30, 1998 and 1997
by category:
<TABLE>
<CAPTION>
PERCENTAGE
1998 1997 NET CHANGE CHANGE
------------ ---------- ----------- -----------
<S> <C> <C> <C> <C>
Personnel expenses............................................ $ 4,314,000 2,582,000 1,732,000 67.1%
Occupancy expenses............................................ 525,000 336,000 189,000 56.3%
Professional fees............................................. 501,000 242,000 259,000 *
Other operating expenses...................................... 1,759,000 1,445,000 314,000 21.7%
------------ ---------- ----------- -----------
Total operating expenses.................................... $ 7,099,000 4,605,000 2,494,000 54.2%
------------ ---------- ----------- -----------
------------ ---------- ----------- -----------
</TABLE>
- ------------------------
* The percentage change is insignificant or not meaningful for comparative
purposes.
Personnel expenses increased $1,732,000, or 67.1%, as a result of the hiring
of four marketing employees, one marketing executive, and a controller with
aggregate annual compensation of $537,000, together with the increased staff
related to the acquisition of the assets of HSSI and the growth in the business
of Preferred Staffing. Occupancy expenses increased $189,000, or 56.3%,
principally as a result of the acquisition of HSSI. Professional fees increased
$259,000, principally as a result of increased legal and accounting fees
associated with various corporate and acquisition matters. Other operating
expenses increased $314,000, or 21.7%, primarily related to the following: (i)
increased insurance expense of $118,000, (ii) increased corporate fees and
services of $142,000, and (iii) increased investment and service fees of
$105,000. Insurance expense increased as a result of the purchase of additional
coverage (i.e., directors and officers liability insurance) and increased
premiums due to increased limits. Corporate fees and services and investment and
service fees increased as a result of the expansion of the business and the
acquisition of the assets of HSSI.
TOTAL NON-OPERATING EXPENSES. Total non-operating expenses for the nine
months ended September 30, 1998 were $1,229,000 compared to $458,000 for the
1997 comparable period. Interest expense increased $326,000 as a result of our
private placement of 7% convertible subordinated notes and borrowings under our
revolving line of credit. Amortization of intangible assets and other
non-operating expenses increased $445,000, consistent with the acquisitions as
discussed above.
FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996
TOTAL REVENUES. Total revenues for the year ended December 31, 1997 were
$27,593,000 compared to $5,955,000 for the year ended December 31, 1996,
representing a net increase of $21,638,000. The
17
<PAGE>
following table provides a comparison of revenues for the years ended December
31, 1997 and 1996 by category:
<TABLE>
<CAPTION>
PERCENTAGE
1997 1996 NET CHANGE CHANGE
------------- ------------ ------------ -----------
<S> <C> <C> <C> <C>
Net commission income:
Workers' compensation.................................. $ 1,401,000 1,680,000 (279,000) (16.6)%
Package................................................ 483,000 577,000 (94,000) (16.3)%
Other, net............................................. 475,000 206,000 269,000 130.6%
------------- ------------ ------------ -----------
Total net commission income........................ 2,359,000 2,463,000 (104,000) (4.2)%
Premiums earned.......................................... 11,675,000 525,000 11,150,000 *
Net investment income.................................... 1,395,000 217,000 1,178,000 *
Staffing income.......................................... 11,594,000 2,614,000 8,980,000 *
Other income............................................. 570,000 136,000 434,000 *
------------- ------------ ------------ -----------
Total revenues..................................... $ 27,593,000 5,955,000 21,638,000 *
------------- ------------ ------------ -----------
------------- ------------ ------------ -----------
Workers' compensation:
Premiums collected..................................... $ 14,929,000 16,746,000
------------- ------------
------------- ------------
Ratio of net commission income/ premiums collected..... 9.39% 10.03%
------------- ------------
------------- ------------
</TABLE>
- ------------------------
* The percentage change is insignificant or not meaningful for comparative
purposes.
Workers' compensation commission income decreased $279,000, or 16.6%, for
the year ended December 31, 1997 as compared to the prior year as a result of a
decrease in premiums collected of $1,817,000, which was attributable to the
decrease in the workers' compensation book of business. The decrease in workers'
compensation commission income was also due to an increase in commission expense
related to the mix of business produced by our brokers. Package commission
income decreased $94,000, or 16.3%, for the year ended December 31, 1997 as
compared to the prior year as a result of the lack of product availability as
described above. Other net commission income increased $269,000 for the year
ended December 31, 1997, as compared to the prior year mostly as a result of the
introduction of our small business plan which accounted for $269,000 of the
increase. Premiums earned increased $11,150,000 for the year ended December 31,
1997, as compared to the prior year as a result of our entry into the
reinsurance business in 1997 and reflects a full year of operations. Net
investment income increased $1,178,000 for the year ended December 31, 1997, as
compared to the prior year as a result of the investable funds raised by us
through our 1997 initial public offering and premiums received by Preferred
Reinsurance. Staffing income increased $8,980,000 for the year ended December
31, 1997 as a result of the expansion of our employee staffing business. Other
income increased $434,000 for the year ended December 31, 1997 as a result of
the effects of the retroactive insurance accounting treatment of Preferred
Reinsurance as discussed more fully in Note l(c) to our consolidated financial
statements for the years ended December 31, 1997 and 1996 contained elsewhere in
this prospectus.
TOTAL OPERATING EXPENSES. Total expenses for the year ended December 31,
1997 were $26,110,000 compared to $6,511,000 for the year ended December 31,
1996, representing an increase of $19,599,000.
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The following table provides a comparison of our total expenses for the years
ended December 31, 1997 and 1996 by category:
<TABLE>
<CAPTION>
PERCENTAGE
1997 1996 NET CHANGE CHANGE
------------- ---------- ------------ -------------
<S> <C> <C> <C> <C>
Losses and loss adjustment expenses incurred............... $ 6,257,000 270,000 5,987,000 *
Amortization of deferred acquisition costs................. 4,162,000 178,000 3,984,000 *
Staffing costs............................................. 9,611,000 2,218,000 7,393,000 *
Other operating expenses................................... 6,080,000 3,845,000 2,235,000 58.1%
------------- ---------- ------------ ---
Total operating expenses............................. $ 26,110,000 6,511,000 19,599,000 *
------------- ---------- ------------ ---
------------- ---------- ------------ ---
</TABLE>
- ------------------------
* The percentage change is insignificant or not meaningful for comparative
purposes.
Losses and loss adjustment expenses increased $5,987,000 for the year ended
December 31, 1997 as compared to the previous year. The increase is consistent
with the increase in premiums earned in 1997 as discussed above. For the year
ended December 31, 1997, our ratio of losses incurred to premiums earned was
approximately 54%. Amortization of deferred acquisition costs increased
$3,984,000 for the year ended December 31, 1997 as compared to the previous
year. This increase is consistent with the increase in premiums earned in 1997
as discussed above. For the year ended December 31, 1997, our ratio of
amortization of deferred acquisition costs to premiums earned was approximately
36%. Staffing costs increased $7,393,000 for the year ended December 31, 1997
consistent with the increase in staffing income as discussed above. Other
operating expenses increased $2,235,000, or 58.1%, for the year ended December
31, 1997 as compared to the previous year. The following table provides a
comparison of our other operating expenses for the years ended December 31, 1997
and 1996 by category:
<TABLE>
<CAPTION>
PERCENTAGE
1997 1996 NET CHANGE CHANGE
------------ ---------- ----------- -------------
<S> <C> <C> <C> <C>
Personnel expenses............................................ $ 3,546,000 2,489,000 1,057,000 42.5%
Occupancy expenses............................................ 457,000 255,000 202,000 79.2%
Professional fees............................................. 372,000 150,000 222,000 *
Other operating expenses...................................... 1,705,000 951,000 754,000 79.3%
------------ ---------- ----------- ---
Total other operating expenses.......................... $ 6,080,000 3,845,000 2,235,000 58.1%
------------ ---------- ----------- ---
------------ ---------- ----------- ---
</TABLE>
- ------------------------
* The percentage change is insignificant or not meaningful for comparative
purposes.
Personnel expenses increased $1,057,000, or 42.5%, for the year ended
December 31, 1997 as compared to the previous year as a result of (i) the hiring
of three executives in 1997 with aggregate annual compensation of $543,000
together with a 2% aggregate annual salary increase in 1997 for all other
employees and (ii) the retroactive effects of the salary increases together with
the building of the support staff in our staffing business from 34 to 53
employees. Occupancy expenses increased $202,000 for the year ended December 31,
1997, principally as a result of our relocation to larger quarters to
accommodate our expansion. Professional fees increased $222,000 for the year
ended December 31, 1997, principally as a result of increased legal fees
associated with various corporate, reinsurance and acquisition matters. Other
operating expenses increased $754,000 for the year ended December 31, 1997 as
compared to the previous year, primarily related to the following: (i) increased
insurance expense of $202,000, (ii) increased relocation expense of $115,000,
(iii) increased sales promotion expense of $115,000, (iv) increased travel
expenses of $55,000, (v) increased supplies expense of $45,000 and (vi)
increased bad debt expenses of $83,000. Insurance expense increased as a result
of the purchase of additional coverage (i.e., directors and officers liability
insurance) and increased premiums due to increased limits. Relocation expense
increased due to the three executives hired as discussed above. Sales promotion,
travel expenses and supplies expense increased as a result of the expansion of
the business and bad debt expenses increased consistent with the increase of
accounts receivable.
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<PAGE>
TOTAL NET NON-OPERATING EXPENSES. Total net non-operating expenses
(principally interest expense) for the year ended December 31, 1997 were
$664,000 compared to ($36,000) for the 1996 comparable period. Interest expense
increased $510,000 for the year ended December 31, 1997 as a result of the
funding of NET Healthcare's operations as more fully described in note 1(d) to
our consolidated financial statements for the years ended December 31, 1997 and
1996 contained elsewhere in this prospectus.
LIQUIDITY AND CAPITAL RESOURCES
GENERAL. Historically, our principal source of cash has been the collection
of workers' compensation insurance premiums from our insureds. In February 1997,
we consummated an initial public offering of 1,725,000 shares of common stock
(including the underwriters' over-allotment option) and received gross cash
proceeds of approximately $12,506,000. In May 1998, we consummated a $10,580,000
private placement of 7% convertible subordinated notes due May 2003.
At September 30, 1998, our net cash and investments were $31,591,000 (net of
premiums payable of $2,416,000), and our net cash provided by operating
activities decreased to $2,909,000 for the nine months ended September 30, 1998
from $8,837,000 for the comparable period in 1997, a decrease of $5,928,000.
This decrease resulted primarily from increases in accounts receivable, deferred
acquisition costs and unearned premiums of $9,358,000, $1,774,000 and
$4,466,000, respectively. The increase in accounts receivable is primarily
associated with the acquisition of the assets of HSSI and the increase in
billings by Preferred Staffing during the first nine months of 1998 of
$2,327,000, an increase of $6,795,000 related to reinsurance premiums
receivable, and increase of $236,000 related to commissions receivable. The
increase in unearned premiums is consistent with the increase in reinsurance
premiums receivable as discussed above.
Cash flows used in investing activities increased to $11,742,000 for the
nine months ended September 30, 1998 from $224,000 for the nine months ended
September 30, 1997, an increase of $11,518,000. This increase resulted primarily
from the purchase of short-term investments of $6,588,000 and the acquisition of
the assets of HSSI for $5 million cash as discussed in Note 1(b) to our
unaudited consolidated financial statements for the nine months ended September
30, 1998.
Cash flows from financing activities for the nine months ended September 30,
1998 reflects the net proceeds received from our private placement of 7%
convertible subordinated notes of $9,622,000, borrowings under our revolving
line of credit of $2 million and repayment of lines of credit of $2,440,000
related to NET Healthcare, compared to the net proceeds received from our
initial public offering of $10,384,000 and borrowings under a revolving line of
credit of $1,182,000 related to NET Healthcare for the comparable period in
1997.
FINANCINGS. In May 1998, our wholly-owned subsidiary, Preferred Staffing,
obtained a $3 million unsecured revolving line of credit from a bank (the
"Credit Facility"). Outstanding borrowings under the Credit Facility bear
interest at the bank's base rate of interest. Interest under the Credit Facility
is due and payable monthly commencing June 2, 1998 and all unpaid principal and
interest is due on May 2, 1999. Outstanding borrowings under the Credit Facility
are secured by our guarantee. As of September 30, 1998, approximately $2 million
was outstanding under borrowings from the Credit Facility, which borrowings bore
interest at the rate of 8 1/4% per annum.
In May 1998, we also consummated a $10,580,000 private placement of 7%
convertible subordinated notes due May 2003. The principal amount of the notes
is convertible into shares of our common stock, at a conversion price of $9.00
per share, at any time prior to the earlier of May 12, 2003 or ten business days
after the receipt of a termination notice (as defined in the notes). The notes
generally prohibit or restrict, among other things, our ability to incur liens
and indebtedness, make certain fundamental corporate changes and specified
investments and conduct certain transactions with affiliates.
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<PAGE>
We believe that our existing cash balances and cash flows from activities
will be adequate to meet our current operations, including expected capital
expenditures, for at least the next twelve months. In connection with our
current business strategy, we may seek additional funds through equity and/or
debt financings. There can be no assurance that any such additional debt or
equity financings will be available to us, or if available, will be on favorable
terms to us.
YEAR 2000
The Year 2000 presents potential concerns for business and consumer
computing. The consequences of this issue may include systems failures and
business process interruption. It may also include additional business and
competitive differentiation. In addition to the well-known calculation problems
with the use of 2-digit date formats as the year changes from 1999 to 2000, the
Year 2000 is a special case leap year which may cause similar problems in many
systems unless remediated.
We have developed a plan with respect to evaluating and upgrading our core
information technology systems so that they are Year 2000 compliant. Two vendors
primarily supply software to us for use in our operations. One vendor supplies
the software used by our insurance operations and one vendor supplies the
software used by our staffing operations. The vendors have each advised us that
the latest upgrades of the software are Year 2000 compliant. By the end of 1998,
we intend to implement these software upgrades, and test the upgraded software
for Year 2000 compliancy during the first quarter of 1999. The historical and
currently projected costs relating to these upgrades and Year 2000 compliance
are not material.
We are in the process of developing a plan with respect to evaluating and
upgrading our non-core information technology systems and other systems using
embedded technology so that they will be Year 2000 compliant. We expect to
complete that plan by the end of 1998 and implement the plan during the first
quarter of 1999.
We also intend to make inquiries of other third parties supplying us with
products and services to receive assurances that they are Year 2000 compliant.
We believe that we will complete that review by the end of the second quarter of
1999.
We have not developed a "worst case" scenario with respect to Year 2000
issues. Although we have not done a cost analysis, we believe that no material
adverse effect on our business will occur if our non-core technology systems are
not Year 2000 compliant. We anticipate that the costs related to such
non-compliance, if any, will not be material.
Although we do not have a Year 2000 contingency plan, we are developing such
a plan, which we expect to complete by the end of 1998.
If we or third parties with which we have relationships were to cease or not
successfully complete Year 2000 remediation efforts, we could encounter
disruptions to our business. We believe that such disruptions would not have a
material adverse effect on our business, financial position and results of
operations. However, we could be materially and adversely impacted by widespread
economic or financial market disruption, or by Year 2000 computer system
failures of third parties, that may generally occur as a result of the Year 2000
problem.
Certain statements relating to the Year 2000 issue are forward-looking
statements and have been made pursuant to the safe harbor provision of the
Private Securities Litigation Reform Act of 1995. Forward-looking statements
involve known and unknown risks and uncertainties which may cause the actual
results in the future periods or plans for future periods to differ materially
from those described herein as anticipated, believed or estimated.
21
<PAGE>
BUSINESS
INTRODUCTION
GENERAL. We are a multi-service oriented provider currently engaged in the
following activities:
- we sell, on behalf of others, business insurance, including workers'
compensation, property, liability, casualty, and other types of coverage,
and we provide risk management services, including cost containment,
safety management, and claims management services, designed for segments
of the franchise industry (particularly fast food restaurants,
family-style restaurants and convenience stores),
- we provide reinsurance for certain workers' compensation and employer's
liability insurance policies we sell, and
- we provide temporary registered nurses and other professional medical
personnel primarily to client hospitals.
INSURANCE. The insurance products sold by us are designed to provide
clients with substantial cost savings and reduce the time otherwise spent in
managing insurance needs and related costs. We offer clients competitive rates
and provide risk management services, including cost containment, safety
management, and claims management programs. We believe that our innovative
approach to cost containment helps clients achieve lower claims costs.
REINSURANCE. In 1997, we began operating as a reinsurer for certain
workers' compensation and employer's liability insurance policies sold by us.
Although we assume risks associated with being a reinsurer, our reinsurance
agreement (i) limits our liability for losses and certain expenses to the first
$300,000 per occurrence and (ii) limits our total liability for all coverage to
a maximum of 70% of the total premiums written for each underwriting year.
EMPLOYEE STAFFING. In March and August of 1998, we acquired businesses
which provide temporary registered nurses and other professional medical
personnel mainly to client hospitals. Our travel nurses serve clients for
periods ranging from 8 to 52 weeks and function essentially as permanent
hospital staff, rather than short-term, supplemental staff. We believe that the
ability of travel nurses to function as permanent staff improves the continuity
and consistency of patient care and reduces our clients' overall administration,
orientation and supervisory requirements relating to permanent staff, as well as
reducing turnover of their temporary staff.
INDUSTRY OVERVIEW
WORKERS' COMPENSATION. All fifty States and the District of Columbia have
promulgated statutes, rules and regulations that require employers to provide
wage replacement and medical benefits to work accident victims regardless of
fault. As a result of these mandates, virtually all employers must either (i)
purchase workers' compensation insurance from a private insurance carrier, (ii)
obtain coverage from a state managed fund, or (iii) be self-insured if permitted
by the state in which the business is conducted.
We believe that franchises often are the safest segment of a particular
industry. Most franchises are standardized operations based upon successful
models with demonstrated profitability. These businesses typically have standard
operating procedures and standard plant and equipment with standardized safety
programs. The design and construction of most franchises take into account
safety engineering of the workplace. For example, in a fast food restaurant,
chairs and tables are set a certain distance apart to allow for adequate walking
space, and the cooking equipment used must conform to certain safety standards.
The franchisor and the franchisee have a shared interest to maintain safe, clean
and uniform environments
22
<PAGE>
for their customers and employees. Consequently, we believe that, in general,
workers' compensation cost of claims for franchise businesses are significantly
lower than non-franchise operations.
Franchises are often subject to the same workers' compensation rating system
that the insurance industry uses for any comparable business. As a result, fast
food franchise restaurants may pay the same rates as bars and taverns which may
be open all night, as fine dining restaurants where staff often carry heavy
trays, or as "mom and pop" restaurants without safety engineered facilities or a
formal safety program. Although these businesses may be charged the same
workers' compensation rates, their claims experience is typically significantly
higher. Consequently, most franchise companies generally suffer premium
"redundancy" or an "overcharge" in their insurance premiums in many industries.
In effect, we believe franchise businesses subsidize the higher workers'
compensation claims costs of non-franchise operations.
REINSURANCE. Our subsidiary, Preferred Reinsurance, acts as a reinsurer
with respect to certain workers' compensation and employer's liability insurance
policies sold by Preferred. Reinsurance is an arrangement in which an insurance
company, the reinsurer, agrees to indemnify another insurance company, the
ceding company, against all or a portion of the insurance risks underwritten by
the ceding company under one or more insurance policies. The two basic types of
reinsurance arrangements are treaty and facultative reinsurance. In treaty
reinsurance, the ceding company is obligated to cede, and the reinsurer is
obligated to assume, a specified portion of a type or category of risk insured
by the ceding company. In facultative reinsurance, the ceding company cedes and
the reinsurer generally assumes all or part of the risk under a single insurance
policy.
Both treaty and facultative reinsurance can be written on either a pro-rata
(also known as quota share or proportional) basis or an excess of loss basis.
For reinsurance written on a pro-rata basis, the reinsurer, in return for a
predetermined portion or share of the insurance premium charged by the ceding
company, indemnifies the ceding company against a predetermined portion of the
losses and the allocated portion of loss adjustment expenses ("ALAE") of the
ceding company under the covered insurance policy or policies. For reinsurance
written on an excess of loss basis, the reinsurer generally indemnifies the
ceding company against all or a specified portion of losses and ALAE on
underlying insurance policies in excess of a specified dollar amount, known as
the ceding company's retention or attachment point, subject to a negotiated
limit.
EMPLOYEE STAFFING OPERATIONS. Employee staffing generally is a contractual
arrangement through which a business obtains human resources from a firm
specializing in these functions. The staffing firm typically provides health,
unemployment, and workers' compensation insurance, plus safety training, while
the work site employer retains full operational control over the employee's
activities. In March and August of 1998, we acquired businesses which provide
temporary registered nurses and other professional medical personnel mainly to
client hospitals. Our travel nurses serve clients for periods ranging from 8 to
52 weeks and function essentially as permanent hospital staff, rather than
short-term, supplemental staff.
BUSINESS STRATEGY
We believe that substantial opportunities for growth include leveraging our
capabilities and expertise in workers' compensation and risk management. In
particular, we believe that by combining our existing expertise in insurance
matters with strategic acquisitions of employee staffing businesses we can
reduce the operating expenses typically associated with these operations and
increase the products we offer to our existing clients and staffing employees.
Our current strategy for growth includes:
- continuing to capitalize on our business of selling business insurance and
providing risk management services to franchise and related companies;
- making selective acquisitions of employee staffing operations;
23
<PAGE>
- growing our existing insurance business by offering workers' compensation
and business insurance products, along with risk management services, to
select industries; and
- focusing our employee staffing operations on specific industry segments
without regard to geographic boundaries.
We also seek to continue to strengthen our position as one of the leading
providers of our products and services to fast food and family style franchise
restaurants, convenience stores and other carefully selected franchise
businesses. We believe this goal can be accomplished by devising and
implementing programs on a state-by-state basis to:
- accumulate the latest approved rate information and information on
legislative changes affecting the industry;
- obtain approved carrier rate filings;
- ascertain current factors affecting pricing in the voluntary market and
interact with insurance carriers to encourage competitive pricing (while
respecting the carriers need for profitability and to remain viable in the
marketplace);
- present insured clients with effective methods of monitoring, reducing and
containing claims costs;
- monitor claims handling procedures of claims administrators and interact
with them to produce cost effective results;
- market programs designed to reward preferred risks with incentives to
purchase and renew insurance coverage; and
- become a "one-stop" provider of commercial insurance to selected franchise
industries.
PRODUCTS AND SERVICES
We provide workers' compensation and business insurance products and risk
management services for the American franchise industry. Our insurance programs
are designed specifically to reduce the impact of redundancy on franchise
businesses while also emphasizing loss control and cost containment. By taking
advantage of this business segment's good safety records and by providing risk
management services, including loss control, safety management and claims
management, we afford our clients the opportunity to effectively lower their
cost of claims. We have also developed proprietary information and claims
analyses systems and custom-designed loss reports which explain the claims
procedure and motivate client management to promote safety and control claims
expense.
Our insurance programs are custom designed to be offered only through
nationally recognized carriers with the highest industry ratings. We work with
these carriers to establish competitive rates, while being mindful of a
carrier's need to maintain profitability and remain viable in the marketplace.
Additionally, we offer services designed to enable our clients to realize
substantial savings in their workers' compensation costs while reducing the time
required to manage this element of their business. Specifically, we provide
clients such savings by offering competitive rates, dividends and cost
containment programs which assist our clients in managing their workers'
compensation and other business insurance costs.
Using early intervention techniques, we seek to limit the number of disputes
with injured employees. Through a third-party administrator, we provide our
clients with access to national 800 telephone numbers to ensure that their
claims can be reported quickly, 24 hours-a-day, seven days-a-week. The
third-party administrator has a trained medical staff available to initiate a
four party contact among the claimant, the employer, the adjuster and the
treating physician. This process helps ensure prompt and competent medical care
for the employee and management of the claim. We believe in the prompt
settlement of meritorious claims, but we will aggressively defend against
non-meritorious claims. We attempt to resolve cases prior to litigation and, if
litigation ensues, aggressively seek to settle reasonable claims.
24
<PAGE>
In addition to these cost containing activities, our client services staff
maintains constant communication with clients. Our loss control department
conducts safety seminars and provides periodic newsletters to clients on how to
control the frequency and severity of claims. We believe we have succeeded in
persuading clients that safety is not just an issue of good management but can
have a significant impact on the financial success of their businesses.
We have created a new, innovative, comprehensive and aggressive approach to
safety/loss control, blending old and new prevention techniques to develop
safety programs specific to each industry we serve. While the primary thrust of
our programs is safety for employees and customers, emphasis is also placed on
motivating client management to implement safety programs as a means of
improving profitability. We conduct workshops to demonstrate the benefits of
using our loss control safety programs at no additional cost to our clients.
Proprietary, custom-designed loss management information is communicated by mail
and telephone to our clients at no additional cost.
We believe our safety programs help reduce workers' compensation claims
costs. The basic elements of our safety programs, as recommended to our clients,
include:
- a written safety policy with safety rules;
- regularly scheduled safety meetings;
- new employee hiring practices and training of all new and transferred
employees;
- supervisor responsibility and accountability;
- a regular self-inspection program administered by identified supervisors;
- an incentive program that rewards safety awareness;
- a team safety committee program;
- a timely accident reporting and investigation program;
- a monitored record keeping system for all accidents;
- a policy to implement corrective action for unsafe conditions and acts;
and
- a monthly review by top management of the program and its implementation.
Many states have allowed a reduction in workers' compensation insurance
premiums when an employer implements an approved safety program. Our safety
programs meet the requirements of most states that have approved safety
programs. Such workers' compensation safety program discounts are authorized on
a state by state basis and, therefore, guidelines are state specific. We deal
only with those state programs applicable to the voluntary market, not the
assigned risk market. Certain states make safety program discounts available to
all insureds, while others make them available only to those insureds with high
experience modification factors or based on the size of the premium. Some states
require state certification of the safety program on a risk by risk basis. The
employer, not the provider of the safety program, qualifies for the program. We
evaluate requirements in the states where such discounts are available and
provide employers with manuals, record keeping tools and recommendations which
assist the employer in obtaining certification.
CUSTOMERS
We market our products primarily to the franchise industry both direct and
through broker/agents. Our customers typically are owners of multiple unit
franchises who understand the importance of cost containment and safety
features. While we focus our efforts on large, national franchisees operating
multiple outlets, we also serve smaller, regional franchise operators.
25
<PAGE>
Consumers of insurance products have traditionally focused on price rather
than cost containment. They have come to expect little or no customer service.
We believe we capitalize on these insurance industry deficiencies by tailoring
our products for each niche market, providing quality customer service and, most
importantly, providing loss control and cost containment services.
We conduct regional safety seminars showing how to contain costs and reduce
losses. Although not a sales effort, it is one of the ways we generate new
business while continuing to educate our existing clients.
Each franchisee is provided with its own personal client service
representative who is knowledgeable and available throughout the work day. An
800 "hot line" is also available to reach the manager of client services should
any issue need immediate resolution. We believe that over a continuing period of
time these client support services will distinguish us from our competition.
SALES AND MARKETING
Our sales and marketing programs are varied. We engage in multiple targeted
direct mail programs each year. These direct mail programs, designed to
introduce our products and services to franchise owners and insurance agents,
are complimented by an extensive telemarketing effort. We utilize multiple
databases of franchises and insurance agents in our direct mail and
telemarketing efforts. Our marketing programs identify prospective clients,
clients' agents and new agents to represent us. One of our representatives then
quotes prices to identified prospective clients and/or their agents.
Our marketing programs are designed to generate new prospects for both high
revenue broker/agents (those whose client bases produce workers' compensation
annual premiums in excess of $2 million) as well as smaller broker/agents who
operate in small towns. Generally, agents must have the ability to produce
$300,000 in annualized workers' compensation premiums to receive a contract to
represent us.
Our programs relieve the broker/agent of administrative and claims tasks as
we and/or the insurance carrier bills and collects premiums directly from the
insured, remits the commission earned to the broker/ agent, deals directly with
the insured in connection with any problems experienced by the insured and
serves as a clearinghouse, together with the third-party administrator, with
respect to reporting, processing, reviewing and evaluating claims. As a result
of the foregoing, the broker/agent can earn more revenue by focusing its efforts
on selling products. Other benefits provided to the broker/agent include the
following:
- increasing the geographic area in which the broker/agent can generate
business;
- reducing the likelihood of the broker/agent losing larger multiple store
and multiple state franchisees because the broker/agent will have many
more states in which it is able to write business;
- providing the broker/agent with the option of offering other property and
casualty products to our clients; and
- providing the broker/agent's clients with the benefit of our loss control
and cost containment programs to reduce our clients' losses.
POLICY RENEWALS
Client policy renewals are critical to our operations. We seek to maintain
favorable renewal rates by (i) providing our clients with quality service, (ii)
ensuring that all insurance policy, endorsement and audit documents are
distributed to each client on a timely basis, and (iii) ensuring that all
documents distributed to clients are complete and accurate. We seek to
communicate with each client at least four times each year in order to maintain
close relationships and to learn of any real or perceived problems and concerns
on a timely basis. We believe that our quality service is a major factor in our
client retention rate, which is currently approximately 62%.
26
<PAGE>
Our underwriting department reviews prospect applications to identify risks
that appear undesirable from a historical viewpoint and to recognize those
prospects dedicated to significant improvement in their loss history which
thereby makes them a valuable addition to our customer base and to a carrier's
portfolio. Our underwriting department also evaluates each client for renewal
purposes. This evaluation determines whether the particular client is eligible
to receive a decrease or other form of modification to our renewal premium. If
the client has responded to loss control recommendations and its loss history
reflects improvement, a reduction in its renewal premium rate may be
implemented. The department also identifies clients whose experience has
deteriorated and who have not responded to loss control guidance and
recommendations. If the deterioration is significant enough and the client has
not demonstrated a sincere commitment to improvement in loss experience, our
underwriting department may make a recommendation not to renew the policy.
PREFERRED REINSURANCE
In December 1996, we formed Preferred Reinsurance under the laws of Bermuda.
Preferred Reinsurance acts as the reinsurer with respect to certain workers'
compensation and employer's liability insurance policies written by us. Although
Preferred Reinsurance assumes the risks associated with being a reinsurer, its
liabilities are limited for losses and certain defined expenses to the first
$300,000 per occurrence and its aggregate liability is limited for all coverage
to an amount not to exceed 70% of the gross written premiums for each individual
underwriting year. The reinsurance arrangements are governed by the terms of a
reinsurance agreement between Preferred Reinsurance and insurance companies
affiliated with AIG. The reinsurance agreement with Preferred Reinsurance is
terminable by either party upon the occurrence of certain events. For the year
ended December 31, 1997 and the nine months ended September 30, 1998,
approximately 49.0% and 34%, respectively, of our total revenues were derived
from our reinsurance business. See "Risk Factors--Dependence on Reinsurance
Business; Termination of Reinsurance Agreement."
The purchase of excess and aggregate reinsurance by AIG's affiliates and the
stated aggregate limit of liability in the reinsurance agreement caps the
liability of Preferred Reinsurance for losses and loss adjustment expenses and
permits it to quantify its aggregate maximum loss exposure. By contrast, maximum
liability under pro-rata or quota share reinsurance contracts can be more
difficult to quantify precisely. Quantification of loss exposure is fundamental
to the ability of Preferred Reinsurance to manage its losses.
Pursuant to the terms of the reinsurance agreement, AIG's affiliates are
obligated to cede to Preferred Reinsurance 100% of the net written premium less
certain expenses and commissions associated with the policies covered thereby.
The affiliates retain a commission allowance of 28.83% based on the net written
premiums, and Preferred Reinsurance retains the premiums ceded by AIG's
affiliates to Preferred Reinsurance together with the risks and potential for
profitability associated therewith. Accordingly, we believe that the operations
of Preferred Reinsurance provide us with the opportunity to retain the
underwriting profitability that was previously retained by AIG's affiliates,
while creating a relatively limited risk exposure under the reinsurance
agreement.
Preferred Reinsurance is required to provide AIG's affiliates, as security
for the payment of losses, a combination of cash, United States government
securities and/or an irrevocable letter of credit in an aggregate amount equal
to 51.5% of the net written premiums ceded to Preferred Reinsurance pursuant to
the reinsurance agreement less the amount of losses paid. See "Risk Factors."
INVESTMENT POLICIES. Our results of operations depend, in part, on the
income derived from the investment of premiums by Preferred Reinsurance.
Increases in interest rates or fluctuations in the market price of public
companies may result in losses, both realized and unrealized, on our
investments. See "Risk Factors--Dependence on Investment Income."
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<PAGE>
DATA MANAGEMENT
Our management information systems consist of, among other things, a central
database to keep us abreast of market trends, current premium rates, rate
filings, renewal dates and information on our competition. Our management
information systems constitute an integral part of our business operations. We
utilize such systems to process insurance applications, control the issuance of
policies and endorsements, audit medical fees, pay broker/agent commissions,
manage claims, provide reports to our clients, provide accounting statements and
financial reports, and analyze claims data, all of which give us the ability to
write more effective and competitive policies and result in a higher rate of
policy renewals.
COMPETITION
The business insurance industry is highly competitive. We compete with other
general agents, numerous large insurance companies, managed health care
companies, state sponsored insurance pools, risk management consultants and
affiliated broker/agents, many of which have significantly larger operations and
greater financial, marketing, human and other resources than us. Such
competitors may have material advantages over us as a result of forms of
insurance and services they offer in addition to workers' compensation products
and services. Competitive factors include product lines, premium rates,
personalized service and effective cost containment measures. See "Risk
Factors--Competition."
REGULATIONS
GENERAL. As a general agent, we are subject to regulations in the various
states in which we sell insurance. These regulations vary from state to state,
and may include such matters as licensing requirements, bonding requirements,
requirements regarding our agreements with the insurance carriers for which we
act as a general agent, and certain other requirements. Penalties may be imposed
for violations of such regulations. Changes in such regulations, if any, may
have a material adverse effect on our business.
Under the workers' compensation system, employer insurance or self-funded
coverage is governed by individual laws in each of the fifty states and by
certain federal laws. Changes in individual state regulation of workers'
compensation or managed health care may create a greater or lesser demand for
some or all of our services, or require us to develop new or modified services
in order to meet the needs of the marketplace and compete effectively in that
marketplace.
REINSURANCE BUSINESS. Preferred Reinsurance is registered as a Class 3
insurer in Bermuda and, accordingly, is subject to the provisions of the Bermuda
Insurance Act 1978, as amended, and the regulations promulgated thereunder. The
Bermuda Insurance Act provides that no person shall carry on insurance business
in or from within Bermuda unless registered as an insurer under the Bermuda
Insurance Act by the Minister of Finance. The Minister of Finance has broad
discretion to act in the public's interest. The Minister of Finance is required
by the Bermuda Insurance Act to ascertain whether the applicant is a fit and
proper body to be engaged in the insurance business and, in particular, whether
it has, or has available to it, adequate knowledge and expertise. In connection
with registration, the Minister of Finance may impose conditions relating to the
writing of certain types of insurance business.
The Bermuda Insurance Act imposes on Bermuda insurance companies, such as
our subsidiary Preferred Reinsurance, solvency and liquidity standards and
auditing and reporting requirements and grants to the Minister of Finance powers
to supervise, investigate and intervene in the affairs of insurance companies.
Significant aspects of the Bermuda insurance regulatory framework are set forth
below.
- Preferred Reinsurance is required to maintain a principal office in
Bermuda and appoint and maintain a principal representative in Bermuda.
The Bermuda Insurance Act places a duty on the principal representative to
report to the Minister of Finance the occurrence of certain events,
including, but not limited to, the failure by the insurer for which he or
she acts to comply with a condition imposed by the Minister of Finance
relating to a solvency margin or a liquidity or other
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<PAGE>
ratio with respect to any other such condition not so relating. Without a
reason acceptable to the Minister of Finance, Preferred Reinsurance may
not terminate the appointment of its principal representative, and the
principal representative may not cease to act as such, unless 30 days'
advance notice in writing to the Minister of Finance is given of the
intention to do so.
- Preferred Reinsurance is required to appoint an independent auditor to
conduct an annual audit of the statutory-based financial statements.
- Preferred Reinsurance is required to maintain share capital (the aggregate
par value of issued shares) of at least $120,000.
- Preferred Reinsurance must maintain statutory capital and surplus
exceeding the greater of the following three criteria: (a) $1,000,000; (b)
20% of the net premiums where the net premiums in the current financial
year do not exceed $6,000,000, or, where the net premiums exceed
$6,000,000, $1,200,000 plus 15% of the net premiums which exceed
$6,000,000 (The net premium is the gross premium after deduction for any
premium ceded for reinsurance); and (c) 15% of reserves for losses and
loss expenses.
- Preferred Reinsurance is required to maintain liquid assets at a level
equal to or greater than 75% of its net relevant (insurance) liabilities.
For this purpose, liquid assets include cash and time deposits, quoted
(publicly traded) investments, unquoted bonds and debentures, mortgage
loans backed by first liens on real estate, accrued investment income,
accounts and premiums receivable, reinsurance balances receivable and
funds held by ceding companies.
- Preferred Reinsurance is required to obtain the approval of the Minister
of Finance before reducing by 15% or more its total statutory capital
(comprised of share capital, contributed surplus and any other fixed
capital) as set out in the previous years financial statements.
- Preferred Reinsurance may declare and pay dividends or make distributions
out of contributed surplus or other assets legally available for
distribution provided that after the payment of any such dividend or
distribution Preferred Reinsurance will continue to maintain the required
statutory capital and surplus and liquid assets as summarized above.
- Preferred Reinsurance is required to have a copy of its statutory
financial statements available at its principal office for production to
the Registrar of Companies and to file the statutory financial statements
and a statutory financial return within four months after the end of the
financial year (or such longer period, not exceeding seven months, as the
Registrar of Companies, on application, may allow).
- Preferred Reinsurance is required to include in its annual statutory
financial statements the opinion of a loss reserve specialist in respect
of its loss and loss adjustment expense reserves.
- The Minister of Finance may appoint an inspector with extensive powers to
investigate the affairs of an insurer or reinsurer if the Minister of
Finance believes that an investigation is required in the interest of the
insurer's or reinsurer's policyholders or persons who may become
policyholders. To verify or supplement information otherwise provided to
him, the Minister of Finance may direct an insurer or reinsurer to produce
documents or information relating to matters connected with the insurer's
or reinsurer's business.
Under current Bermuda law, there is no Bermuda income, corporation or
profits tax, withholding tax, capital gains tax, capital transfer tax, estate
duty or inheritance tax payable by our stockholders other than stockholders
ordinarily resident in Bermuda for exchange purposes. Preferred Reinsurance is
not subject to stamp or other similar duty on the issue, transfer or redemption
of its shares of common stock.
We have obtained an assurance from the Minister of Finance under the
Exempted Undertakings Tax Protection Act of 1966 that if any legislation is
enacted in Bermuda imposing tax on profits or income, or
29
<PAGE>
on any capital assets, gain or appreciation or any tax in the nature of estate
duty or inheritance tax, such tax shall not, until March 28, 2016, be applicable
to us or to our operations, or to our shares, debentures or other obligations
except insofar as such tax applies to persons ordinarily resident in Bermuda and
holding such shares, debentures or other obligations or any real property or
leasehold interests in Bermuda owned by us. As an exempted company, we are
liable to pay a registration fee in Bermuda based upon our authorized capital
and the premium on our issued shares of common stock at a rate not exceeding
$25,000 per annum.
PREMIUM RATE RESTRICTIONS. State regulations governing the workers'
compensation system impose restrictions and limitations that effect the business
operations of Preferred Reinsurance. State laws regulate what workers'
compensation benefits must be paid to injured workers. Additionally, most states
must approve the workers' compensation premium rates that may be charged. As a
consequence, the ability of Preferred Reinsurance to pay insured workers'
compensation claims out of the premium revenue generated from Preferred
Reinsurance's assumption of such insurance is dependent on the level of benefits
and premium rates approved by the various states. In this regard, it is
significant that the state regulatory agency that regulates workers'
compensation benefits is often not the same agency that regulates workers'
compensation insurance premium rates.
POSSIBLE FUTURE REGULATIONS. Several state legislatures and the federal
government have considered and are considering a number of cost containment and
health care reform proposals. We believe we may benefit from some proposals that
favor the growth of managed care. However, no assurance can be given that the
state or federal government will not adopt future health care reforms that could
have a material adverse effect on us.
EMPLOYEE STAFFING OPERATIONS
In March 1998, we purchased substantially all of the assets of HSSI for an
aggregate purchase price of $5.0 million in cash. In August 1998, we acquired
through a "pooling of interests" all of the outstanding capital stock of Net
Healthcare for an aggregate of 517,085 shares of our common stock. In connection
with the acquisition of Net Healthcare, (i) 293,015 shares are being held in
escrow until December 31, 1998, and (ii) 51,708 of such shares are being held in
escrow to satisfy any indemnification claims made by us. If we do not make any
claims against the indemnification escrow, the 51,708 shares should be released
in August 1999. All of the 517,085 shares issued to the sellers of NET
Healthcare may be offered and sold pursuant to this prospectus subject to
indemnification claims.
Our employee staffing operations provide registered nurses and other
professional medical personnel, often referred to as "Travelers," primarily to
client hospitals on a contractual basis for periods generally ranging from 8 to
52 weeks, with the average being approximately 17 weeks (standard assignments
are usually for durations of thirteen or twenty-six weeks). Clients utilize
Travelers to provide cost effective interim staff to meet predictable
fluctuations in staffing requirements. In addition, unlike daily or other very
short-term supplemental staff, Travelers serve the client for a long enough
period to function as permanent hospital staff. The ability of the Travelers to
function as permanent staff improves the continuity and consistency of patient
care and reduces the overall administration, orientation and supervisory
requirements of the clients' permanent staff. Travelers are typically employed
on a full-time basis for the period of each assignment. Each Traveler is
generally provided with housing (or a housing subsidy) while on assignment,
travel allowance, and other employee benefits, including malpractice, health and
dental insurance at favorable cost to the Traveler.
CUSTOMERS. As of September 30, 1998, active clients of Preferred Staffing
consisted of approximately 151 hospitals and other clients located in
approximately 34 states and the U.S. Virgin Islands. Travelers serve both
for-profit and not-for-profit entities which range from small rural hospitals to
major teaching and research institutions. A typical client is a hospital with
approximately 250 beds which is located in or near a major metropolitan area.
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<PAGE>
MARKETING. Preferred Staffing currently markets Travelers principally
through in-house sales personnel. Historically, marketing activities have been
conducted primarily by telephone contact, direct mail, attendance at national
and regional conventions, seminars, and direct contact with providers of
healthcare services. Preferred Staffing has developed an extensive computer
database of available, qualified personnel, which enhances its ability to match
personnel with a client's specific needs.
RECRUITMENT. Preferred Staffing currently recruits personnel through its
in-house recruiting department. Recruiting methods historically have included
national and local advertising, attendance at national and regional conventions,
personal and professional referrals and the sponsoring of local seminars in
selected cities throughout the United States and Canada.
Preferred Staffing's current database contains information on pre-screened
personnel classified by skill, experience, and choice and availability for
assignments. The database is updated on a regular basis. When called upon to
fill an assignment, its recruiters can access this database to match a client's
staffing needs with available personnel. Nurses and other medical personnel
listed in the database generally do not work exclusively for any one employer.
SEASONALITY. Historically, the employee staffing business has been
seasonal, with the demand for Travelers being the highest in the first and
fourth quarters of the fiscal year (September through March), due largely to
increased demand particularly during the peak tourist and winter home period in
Florida.
BACKLOG OF ORDERS. As of September 30, 1998, Preferred Staffing had
approximately 1,800 unfilled requests for travel nurses.
EMPLOYEES
As of September 30, 1998, we had approximately 147 full-time employees, of
whom 9 were executive officers, 13 were managers, 32 were sales personnel and 93
were accounting, clerical, loss control or underwriting staff and approximately
620 travelers. Our travelers do not necessarily work full-time shifts. None of
our employees are subject to a collective bargaining agreement. We believe that
our relationships with our employees are good.
DESCRIPTION OF PROPERTY
We lease approximately 16,500 square feet of office space in Miami, Florida
for use as our corporate headquarters. Our initial lease term expires in 2002,
but we have two five-year renewal options. Preferred Staffing leases premises
located in Fort Lauderdale, Florida consisting of approximately 20,000 square
feet, which lease will expire in 2005. We anticipate that our existing leases
will be renegotiated as they expire or that alternative properties can be leased
on acceptable terms. We believe that our present facilities are in good
condition and are suitable for our needs for the foreseeable future.
LEGAL PROCEEDINGS
We are involved in various legal proceedings arising in the ordinary course
of business. As of December 17, 1998, we are not a party to any legal proceeding
which, if adversely determined, would have a material adverse effect on our
financial condition or results of operations.
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<PAGE>
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth certain information, as of December 17, 1998,
concerning our directors, executive officers and key employees:
<TABLE>
<CAPTION>
NAME AGE POSITIONS WITH OUR COMPANY
- ----------------------------------------------------- --- -----------------------------------------------------
<S> <C> <C>
Mel Harris........................................... 58 Chief Executive Officer, President and Chairman of
the Board of Directors
William R. Dresback.................................. 51 Senior Vice President, Chief Financial Officer and
Secretary
Nancy Ryan........................................... 42 Vice President and Assistant Secretary
Stuart J. Gordon..................................... 68 Director
Jack D. Burstein..................................... 53 Director
Maxwell M. Rabb...................................... 88 Director
D. Mark Olson........................................ 50 President and Chief Executive Officer of Preferred
Employers Group
Peter E. Kilissanly.................................. 51 President and Chief Executive Officer of Preferred
Staffing
</TABLE>
The business experience of each of the persons listed above for at least the
last five years is as follows:
MEL HARRIS has been a director of our company since its inception in 1988
and has been our Chairman of the Board of Directors and Chief Executive Officer
since April 1993. In May 1998, Mr. Harris was appointed as President. Mr. Harris
served as Vice Chairman of Jardine Insurance Brokers New York, Inc. from
February 1992 until January 1994. From 1988 until February 1992, Mr. Harris
served as Vice Chairman of Alexander & Alexander of New York, Inc. (a
wholly-owned subsidiary of A&A Services, Inc.), a global insurance brokerage
organization. Mr. Harris currently serves as President of International
Insurance Group, Inc., an insurance brokerage company located in Miami, Florida
and New York, New York. Mr. Harris is also a director and shareholder of
Strategica Capital Corp., a merchant banking firm ("Strategica Capital"). Mr.
Jack D. Burstein, a director of our company, is the President of Strategica
Capital. Mr. Harris has agreed to devote such time as is necessary, and in any
event no less than 80% of his business time, to the affairs of our company.
WILLIAM R. DRESBACK has been our Chief Financial Officer and Secretary since
May 1993 and a Senior Vice President since February 1997. From 1986 to 1992, Mr.
Dresback served as Chief Financial Officer of Cobb Partners Financial, Inc.
(previously a wholly-owned subsidiary of The Walt Disney Company), a national
financial services company primarily involved in the mortgage banking,
construction and real estate development businesses. From 1981 to 1986, Mr.
Dresback served as Senior Vice President and Chief Financial Officer of
International Financial Services, Inc. (a subsidiary of The Torchmark
Corporation), an international financial services company primarily involved in
the financial planning, life insurance and securities brokerage businesses. From
1969 to 1981, Mr. Dresback was employed by KPMG Peat Marwick LLP where he was
responsible for managing the firm's South Florida Insurance Practice.
NANCY RYAN has been a Vice President and the Assistant Secretary of our
company since July 1992. Ms. Ryan has over 12 years of experience in the
commercial insurance industry. Ms. Ryan served as a Vice President of Jardine
Insurance Brokers New York, Inc. from February 1992 until January 1994. From
1988 until February 1992, she served as a Vice President of Alexander &
Alexander of New York, Inc. (a wholly-owned subsidiary of A&A Services, Inc.), a
global insurance brokerage organization. Since 1984, Ms. Ryan has also served as
a Vice President of International Insurance Group, Inc. Ms. Ryan devotes
approximately 75% of her business time to the affairs of our company.
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<PAGE>
STUART J. GORDON has been a director of our company since 1995. Mr. Gordon
has been of counsel to the law firm of Duane, Morris and Heckscher since March
1997. From 1989 until March 1997, Mr. Gordon was a partner at the law firm of
Metzger, Hollis, Gordon & Alprin. Previously, Mr. Gordon served as the Special
Assistant to the Comptroller of the Currency, Deputy Chairman and Treasurer of
the United States Senate campaign of Daniel Patrick Moynihan, the First
Administrative Assistant and Chief of Staff to Senator Moynihan (in Washington,
D.C.) and Deputy Finance Chairman of the presidential campaign of Senator John
Glenn. Mr. Gordon was appointed by the Governor of the State of Maryland to the
Foster Care Review Board and served as a member of the Board of Governors of
Daytop Village. Mr. Gordon serves as a member of the Board of Advisors of the
Independent College Fund of New York.
JACK D. BURSTEIN has been a director of our company since January 1997. Mr.
Burstein has been the Chairman and President of each of Strategica Group, Inc.,
a merchant bank ("Strategica Group"), and Strategica Capital, an affiliate of
Strategica Group and a merchant bank, since 1992. Mr. Harris is a director and
shareholder of Strategica Capital. From 1984 to present, Mr. Burstein has served
as Chief Executive Officer and President of American Capital Corp., a savings
and loan holding corporation, and as Chief Executive Officer of TransCapital
Financial Corporation, a savings and loan holding corporation. Prior to such
time, Mr. Burstein was a senior partner and employee in the accounting firms of
Schecter Beame Burstein Price & Co. and Seidman & Seidman, respectively.
MAXWELL M. RABB has been a director of our company since January 1997. Mr.
Rabb has been of counsel to the law firm of Kramer, Levin, Naftalis, Nessen,
Kamin & Frankel since 1991 and was a partner in the law firm of Stroock, Stroock
& Lavan from 1958 to 1981 and from 1989 to 1991. Mr. Rabb served as the United
States Ambassador to Italy from 1981 to 1989. In addition, Mr. Rabb serves as a
director of the Sterling National Bank, MIC Industries, Inc., Liberty Cable
Company, Inc., Black Hole Technologies, Inc., Data Software and Systems, Inc.,
and CompuTower.
D. MARK OLSON has been President and Chief Executive Officer of Preferred
Employers Group, Inc., a wholly-owned subsidiary of our company since June 1998
and Chief Operating Officer from July 1997 to June 1998. Prior to his employment
with Preferred Employees Group, from 1996 to 1997, Mr. Olson served as
President, Chief Executive Officer and a director of PCA Solutions, Inc., a
workers' compensation third party administration company. From 1987 to 1993, Mr.
Olson served as Chairman, President and Chief Executive Officer of Invest
Financial Corporation, a Kemper Financial Services subsidiary, and later as
national director of sales for Kemper Financial. From 1993 to 1996, he served as
a consultant to several of the nation's largest insurance and asset management
companies.
PETER E. KILISSANLY has been President and Chief Executive Officer of
Preferred Healthcare Staffing, Inc., a wholly-owned subsidiary of our company
since March 1998. Prior to his employment with Preferred Staffing, from 1987 to
1997, Mr. Kilissanly served as President and Chief Operating Officer of
Physicians Corporation of America. In 1986, he served as Senior Vice President
of Corporate Marketing and Communications of Equicor Health Plans. From 1984 to
1986, Mr. Kilissanly served as Senior Vice President of Corporate Marketing and
Communications of HCA Health Plans.
All of our directors serve until the next annual meeting of stockholders or
until their successors are duly elected and qualified. All of our officers serve
at the discretion of the Board of Directors, subject to rights, if any, under
contracts of employment with us. See "Management--Employment Agreement." There
are no family relationships among our directors and executive officers.
EXECUTIVE COMPENSATION
The following summary compensation table sets forth the aggregate
compensation paid to, or earned by, our Chief Executive Officer and each of our
other most highly compensated executive officers for the three years ended
December 31, 1997 whose total annual salary and bonus exceeded $100,000
(collectively the "Named Executive Officers").
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<PAGE>
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
ANNUAL COMPENSATION ----------------
------------------------------------------ SECURITIES
OTHER ANNUAL UNDERLYING
NAME AND PRINCIPAL POSITION YEAR SALARY ($) BONUS ($) COMPENSATION ($) OPTIONS/SARS(#)
- ------------------------------------------------------ --------- ----------- ----------- ---------------- ----------------
<S> <C> <C> <C> <C> <C>
Mel Harris(1)......................................... 1997 116,729 -- --) 275,000
Chairman of the Board, Chief Executive Officer and 1996 250,000 -- -- --
President 1995 -- -- 270,000(2 --
William R. Dresback................................... 1997 150,000 -- -- 50,000
Senior Vice President, Chief Financial Officer and 1996 125,000 -- -- --
Secretary 1995 100,000 -- -- --
Howard Odzer(3)....................................... 1997 190,000 -- --) --
Former President of Preferred Employers Group 1996 100,000 -- -- --
1995 100,000 -- 270,000(2 --
</TABLE>
- ------------------------
(1) Mr. Harris serves as our Chairman of the Board and Chief Executive Officer
pursuant to an employment agreement. See "Management--Employment Agreement."
(2) Reflects cash dividends paid to such person pursuant to that certain Amended
and Restated Shareholders Agreement dated as of May 15, 1995, by and among
our company, Mr. Harris and Mr. Odzer.
(3) Effective May 30, 1998, Mr. Odzer resigned from his positions as President
of Preferred Employers Group and a director of our company.
OPTION GRANTS IN 1997
The following table sets forth certain information concerning the grant of
stock options in 1997 to each of the Named Executive Officers.
<TABLE>
<CAPTION>
NUMBER OF
SECURITIES PERCENTAGE TO TOTAL
UNDERLYING OPTIONS GRANTED TO EXERCISE PRICE
NAME OPTIONS GRANTED EMPLOYEES IN 1997 ($/SHARE) EXPIRATION DATE
- ------------------------------------ ------------------- --------------------- ----------------- -------------------
<S> <C> <C> <C> <C>
Mel Harris(1)....................... 275,000 34.7% 7.75 August 20, 2002
William R. Dresback(2).............. 25,000 3.2 7.25 February 5, 2002
William R. Dresback(3).............. 25,000 3.2 7.25 February 5, 2001
Howard Odzer(4)..................... -- -- -- --
</TABLE>
- ------------------------
(1) 55,000 options were exercisable as of August 20, 1998. 220,000 options are
exercisable in four equal installments of 55,000, commencing on August 20,
1999, subject to the terms of the option agreement issued pursuant to our
1996 Stock Option Plan.
(2) Pursuant to the terms of a stock option agreement issued pursuant to our
1996 Stock Option Plan, 15,000 options are immediately exercisable, and
10,000 options are exercisable in two equal installments on February 5, 1999
and on the next anniversary thereof.
(3) Pursuant to the terms of a stock option agreement issued pursuant to the
Share Escrow Agreement, 18,750 options are immediately exercisable, and
6,250 options are exercisable on February 5, 1999.
(4) Effective May 30, 1998, Mr. Odzer resigned from his positions as President
of Preferred Employers Group and a director of our company.
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<PAGE>
AGGREGATE OPTION EXERCISES IN 1997 AND 1997 YEAR-END OPTION VALUES
The following table sets forth certain information concerning the Named
Executive Officers with respect to the number of shares covered by exercisable
and unexercisable stock options at December 31, 1997 and the aggregate value of
exercisable and unexercisable "in-the-money" options at December 31, 1997. No
options were exercised by the Named Executive Officers in 1997.
<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING UNEXERCISED VALUE OF UNEXERCISED
OPTIONS AT FISCAL IN-THE MONEY OPTIONS
YEAR-END AT FISCAL YEAR-END(1)
EXERCISABLE/ EXERCISABLE/
NAME UNEXERCISABLE UNEXERCISABLE
- ------------------------------------------------------------------ ------------------------ ---------------------
<S> <C> <C>
Mel Harris........................................................ --/275,000 --/--
William R. Dresback............................................... 33,750/16,250 --/--
Howard Odzer(2)................................................... --/-- --/--
</TABLE>
- ------------------------
(1) The value of unexercised "in-the-money" options is equal to the difference
between the closing bid price of the common stock on the Nasdaq SmallCap
Market as of December 31, 1997 ($7.00) and the option exercise price per
share, multiplied by the number of shares subject to options.
(2) Effective May 30, 1998, Mr. Odzer resigned from his positions as President
of Preferred Employers Group and a director of our company.
DIRECTOR COMPENSATION
Our directors do not receive compensation for their services as directors,
but are reimbursed for all reasonable out-of-pocket expenses incurred in
connection with each Board of Directors meeting attended. In addition, all of
our directors are eligible for grants of stock options pursuant to the 1996
Stock Option Plan and the Share Escrow Agreement dated February 5, 1997 by and
among Preferred, Mr. Odzer and the escrow agent named therein (the "Share Escrow
Agreement"). During 1997, we granted options to three of our outside directors
under the 1996 Stock Option Plan and the Share Escrow Agreement, representing
options to purchase an aggregate of 75,000 shares of common stock. In February
1997, pursuant to the 1996 Stock Option Plan, each of Messrs. Gordon, Burstein
and Rabb received options to purchase 12,500 shares of common stock at an
exercise price of $7.25 per share, exercisable until February 7, 2002. All of
the stock options granted to the outside directors in 1997 pursuant to the 1996
Stock Option Plan vest at a rate of 20% per year, over a period of five years
commencing in February 1998. In February 1997, pursuant to the Share Escrow
Agreement, each of Messrs. Gordon, Burstein and Rabb received options to
purchase 12,500 shares of common stock at an exercise price of $7.25 per share,
exercisable until February 7, 2001. All of the stock options granted to
directors in 1997 pursuant to the Share Escrow Agreement vest at a rate of 25%
per year, over a period of four years commencing in February 1998. In 1997, Mr.
Harris, an inside director, also received options to purchase 275,000 shares of
common stock under the 1996 Stock Option Plan. See "Executive Compensation."
EMPLOYMENT AGREEMENT
In January 1997, we entered into an employment agreement with Mr. Harris
pursuant to which he agreed to serve as our Chairman of the Board of Directors
and Chief Executive Officer. The agreement is subject to automatic one-year
extensions absent notice of non-renewal from either party. In January 1998, the
agreement was automatically renewed for an additional one-year period. Pursuant
to the agreement, Mr. Harris is entitled to receive an annual salary of $150,000
and is also entitled to receive perquisites similar to perquisites made
available to our other senior executives and reimbursement for all related
business expenses. In July 1997, Mr. Harris voluntarily reduced to $52,000 per
annum the annual salary payable to him during the term pursuant to his
employment agreement, until further notice, in order to
35
<PAGE>
lower our increased operating expenses arising from hiring additional management
personnel. Mr. Harris has agreed to devote such time as is necessary, and in any
event no less than 80% of his business time, to the affairs of our company. The
agreement contains, among other things, customary non-compete and
non-solicitation provisions.
1996 EMPLOYEE STOCK OPTION PLAN
In September 1996, our Board of Directors adopted and our stockholders
approved the 1996 Stock Option Plan (the "Plan"). The Plan provides for the
grant to participants (including our officers and directors) of options to
purchase shares of common stock. In September 1998, our stockholders approved an
increase in the total number of shares of common stock reserved for issuance
upon the exercise of stock options granted or which may be granted under the
Plan, from 300,000 to 1,000,000 shares of common stock.
The Plan may be administered by the Board of Directors or the Compensation
Committee, as the case may be (the "Committee"). The Committee has discretion to
select the optionee and to establish the terms and conditions of each option,
subject to the provisions of the Plan. Options granted under the Plan may or may
not be "incentive stock options" as defined in Section 422 of the Internal
Revenue Code depending upon the terms established by the Committee at the time
of grant, but the exercise price of options granted as incentive stock options
may not be less than 100% of the fair market value of the common stock as of the
date of grant (110% of the fair market value if the grant is an incentive stock
option to an employee who owns more than 10% of the outstanding voting power of
our company). Incentive stock options may not be exercised after 10 years from
the grant (five years if the grant is an incentive stock option to any employee
who owns more than 10% of the outstanding voting power of our company). Options
granted under the Plan are not transferable and may be exercised only by the
respective grantees during their lifetimes or by their heirs, executors, or
administrators in the event of death. Under the Plan, shares subject to
cancelled or terminated options may be available for subsequently granted
options. The number of options outstanding and the exercise price thereof are
subject to adjustment under the Plan in the case of certain transactions such as
mergers, recapitalizations, stock splits or stock dividends. As of December 17,
1998, options to purchase an aggregate of 916,500 shares of common stock were
outstanding under the Plan.
SHARE ESCROW AGREEMENT
Pursuant to the Share Escrow Agreement by and among Howard Odzer, the escrow
agent, and our company, Mr. Howard Odzer placed 300,000 shares of common stock
beneficially owned by him in escrow for issuance upon the exercise of stock
options granted to certain executives, officers and directors designated by the
Committee, in its sole discretion (the "Escrow Options"). Mr. Odzer will receive
all proceeds from any exercise of the Escrow Options. In addition, any exercise
of Escrow Options must occur, if at all, within five years from February 1997.
After such date the balance of the shares of common stock held in escrow
pursuant to the Share Escrow Agreement, if any, shall revert to Mr. Odzer. See
"Certain Transactions."
As of December 17, 1998, options to purchase an aggregate of 221,500 shares
of common stock were outstanding under the Share Escrow Agreement.
36
<PAGE>
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information as of December 17, 1998 with
respect to the beneficial ownership of (i) any person known to us to be the
beneficial owner of more than 5% of any class of our voting securities, (ii)
each of our directors, (iii) each of the Named Executive Officers (named in the
Summary Compensation Table of this prospectus under the heading
"Management--Executive Compensation") and (iv) all of our directors and
executive officers as a group (6 persons).
<TABLE>
<CAPTION>
NUMBER OF PERCENT OF
NAME AND ADDRESS OF BENEFICIAL OWNER SHARES(2) CLASS(2)
- --------------------------------------------------------------------------- ---------- -------------
<S> <C> <C>
Mel Harris(1)(3)........................................................... 1,871,470 35.3
Howard Odzer(4)............................................................ 711,765 13.6
William R. Dresback(1)(5).................................................. 45,000 *
Jack D. Burstein(6)........................................................ 36,250 *
Stuart J. Gordon(7)........................................................ 11,250 *
Maxwell M. Rabb(8)......................................................... 11,250 *
All directors and executive officers as a group (6 persons)................ 2,016,220 37.2
</TABLE>
- ------------------------
* Less than 1%.
(1) The business address of each such person is Preferred Employers Holdings,
Inc., 10800 Biscayne Boulevard, Miami, Florida 33161.
(2) Unless otherwise noted, we believe that all persons named in the table have
sole voting and investment power with respect to all shares of common stock
beneficially owned by them. In accordance with Rule 13d-3 under the Exchange
Act, a person is deemed to be the beneficial owner of securities that can be
acquired by such person within sixty days from the date of determination
upon the exercise of warrants or options. Each beneficial owner's number of
shares and percentage ownership as set forth above is determined by assuming
that options or warrants that are held by such person (but not those held by
any other person) which are exercisable within sixty days from the date
listed above have been exercised. See "Certain Relationships and Related
Transactions."
(3) Includes (i) 1,340,000 shares held of record by Mr. Harris, (ii) 300,000
shares over which Mr. Harris has shared investment and voting power subject
to a Share Escrow Agreement between us and Mr. Odzer, (iii) 88,235 shares
held of record by Francine Harris, the wife of Mr. Harris, (iv) 88,235
shares held of record by Ms. Harris, as custodian for Jamie Jo Harris, the
daughter of Mr. and Ms. Harris, and (v) options to purchase 55,000 shares of
common stock issued pursuant to our 1996 Stock Option Plan which are
exercisable within 60 days from December 17, 1998. Mr. Harris may be deemed
to have voting control over such shares and may be deemed to be the
beneficial owner thereof. Mr. Harris disclaims beneficial ownership of (a)
88,235 shares held of record by Ms. Harris, and (b) 88,235 shares held of
record by Ms. Harris, as custodian for Jamie Jo Harris. Does not include
options to purchase 220,000 shares of common stock which vest over a four
year period ending August 2002 pursuant to our 1996 Stock Option Plan. The
Compensation Committee of our Board of Directors has investment and voting
power over the 300,000 shares placed in escrow under the Share Escrow
Agreement. Mr. Harris is a member of the Compensation Committee. See
"Certain Relationships and Related Transactions."
(4) Of the 711,765 shares held of record by Mr. Odzer, 300,000 shares have been
placed in escrow pursuant to the terms of the Share Escrow Agreement. The
Compensation Committee of our Board of Directors has investment and voting
power over the 300,000 shares placed in escrow under the Share Escrow
Agreement. Mr. Harris is a member of the Compensation Committee. See
"Certain Relationships and Related Transactions." Effective May 30, 1998,
Mr. Odzer resigned from his positions as President of Preferred Employers
Group and a director of our company. Mr. Odzer's address is 1399 N.E. 103rd
Street, Miami Shores, Florida 33138.
37
<PAGE>
(5) Represents (a) options to purchase 20,000 shares of common stock issued
pursuant to our 1996 Stock Option Plan and (b) options to purchase 25,000
shares of common stock issued pursuant to the Share Escrow Agreement, all
exercisable within 60 days from December 17, 1998. Does not include options
to purchase 25,000 shares of common stock which vest over a five year period
commencing July 1999 and ending July 2003 pursuant to our 1996 Stock Option
Plan.
(6) Represents (a) options to purchase 5,000 shares of common stock issued
pursuant to our 1996 Stock Option Plan, (b) options to purchase 6,250 shares
of common stock issued pursuant to the Share Escrow Agreement and (c)
warrants to purchase an aggregate of 25,000 shares of common stock issued to
Strategica Group, all exercisable within 60 days from December 17, 1998. Mr.
Burstein's business address is c/o Strategica Capital Corp., 1221 Brickell
Avenue, Suite 2600, Miami, Florida 33131. See "Certain Relationships and
Related Transactions."
(7) Represents (a) options to purchase 5,000 shares of common stock issued
pursuant to our 1996 Stock Option Plan and (b) options to purchase 6,250
shares of common stock issued pursuant to the Share Escrow Agreement, all
exercisable within 60 days from December 17, 1998. Mr. Gordon's business
address is c/o Duane Morris and Heckscher, 1667 K Street, Suite 700,
Washington D.C. 20006.
(8) Represents (a) options to purchase 5,000 shares of common stock issued
pursuant to our 1996 Stock Option Plan and (b) options to purchase 6,250
shares of common stock issued pursuant to the Share Escrow Agreement, all
exercisable within 60 days from December 17, 1998. Mr. Rabb's business
address is c/o Kramer, Levin, Naftalis, Nessen, Kamin & Frankel, 919 3rd
Avenue, 40th Floor, New York, New York 10022.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Mr. Burstein, a director of our company, is the Chairman and President of
Strategica Group and Strategica Capital. Mr. Harris, Chairman of the Board,
Chief Executive Officer and President of our company, is a director and
shareholder of Strategica Capital, an affiliate of Strategica Group. In March
1997, we paid to Strategica Group a fee of $50,000 as compensation for its
financial advisory and planning services provided in connection with our initial
public offering of 1,725,000 shares of common stock (which was consummated in
February 1997). In April 1998, we paid to Strategica Group a fee of $150,000 as
compensation for its financial advisory and planning services provided in
connection with the acquisition of substantially all of the assets used or
pertaining to the business of HSSI. In April 1998, we paid Strategica Group a
fee of $148,000 in connection with the services provided to us relating to the
acquisition of the outstanding capital stock of Net Healthcare. In July 1998, we
issued to Strategica Group a warrant to purchase an aggregate of 25,000 shares
of common stock at an exercise price of $7.88 per share for consulting services.
See "Business."
In February 1997, the then existing stockholders (the "Exchanging
Stockholders") of Preferred Employers Group, a corporation which conducted
certain of our operations, effected a recapitalization whereby we exchanged
17,647.06 shares of common stock for each share of common stock of Preferred
Employers Group held by the Exchanging Stockholders (the "Exchange"). As a
result of the Exchange, Preferred Employers Group became a wholly-owned
subsidiary of our company. Pursuant to the Exchange, Mr. Harris, Mr. Odzer (the
former President of Preferred Employers Group) and Ms. Ryan, a Vice President
and the Assistant Secretary of our company, received 1,450,000, 1,111,765 and
25,000 shares of common stock, respectively.
In February 1997, our company, Mr. Harris and Mr. Odzer entered into a
Shareholders Agreement which provides for certain arrangements regarding
restrictions on the transferability of shares owned by them or by members of
their respective families and other matters. Under the Shareholders Agreement,
the parties have agreed to rights of first refusal under certain circumstances
with respect to the disposition of shares of common stock held by Messrs. Harris
and Odzer, and certain registration and indemnification rights. The Shareholders
Agreement also reaffirmed the irrevocable proxy granted to Mr. Harris to vote
all
38
<PAGE>
of the shares held of record by Mr. Odzer, which was granted by Mr. Odzer to Mr.
Harris in May 1995. The proxy expires at such time as Mr. Odzer owns less than
fifteen percent of the outstanding common stock of our company. As of December
17, 1998, Mr. Odzer owned approximately 13.6% of the outstanding common stock of
our company, and accordingly, the proxy and certain sections of the Shareholders
Agreement have terminated, and other provisions of the Shareholders Agreement
will expire on May 30, 2004.
Pursuant to a Share Escrow Agreement dated February 5, 1997, Mr. Odzer
placed 300,000 shares of our common stock beneficially owned by him in escrow
for issuance upon the exercise of stock options granted to certain directors,
executives and other officers of our company, as designated by the Compensation
Committee. As of December 17, 1998, options to purchase an aggregate of 221,500
shares of common stock were outstanding under the Share Escrow Agreement. See
"Management."
In January 1996, we entered into a Cost Sharing Agreement with International
Insurance Group, Inc. ("IIG"), pursuant to which we provide office space,
equipment and other administrative services to IIG. IIG is an insurance
brokerage company which is wholly-owned by Mr. Harris, the Chairman of the
Board, Chief Executive Officer and President of our company. Under the Cost
Sharing Agreement, we are entitled to receive from IIG approximately $2,400 per
month for rendering such services. Prior to January 1996, we provided these
services without reimbursement.
In 1995, Preferred Employers Group entered into a Stock Repurchase
Agreement, dated as of May 15, 1995, with Mr. Odzer and Mr. Rothstein, a
step-brother of Mr. Odzer, pursuant to which Preferred Employers Group agreed to
repurchase from them an aggregate of 30 shares of common stock of Preferred
Employers Group (approximately 529,412 shares of Common Stock, as adjusted for
the Exchange). The aggregate purchase price for such shares was $600,000
(including interest) to be paid in 24 installments of $25,000. In July 1995,
pursuant to a subsequent letter agreement by and between Preferred Employers
Group and Mr. Odzer, it was agreed that Preferred Employers Group would not pay
monthly installments for the months of August 1995 through January 1996 and that
payment of monthly installments of $25,000 (including interest) would resume in
February 1996. As of December 31, 1997, Preferred Employers Group paid the total
amount of the balance of the purchase price outstanding to Mr. Odzer which was
$300,000.
We are also a party to certain employment, stock option and other
arrangements with our directors and executive officers. See "Management."
SELLING SECURITYHOLDERS
The following selling securityholders are offering 517,085 shares of common
stock which are issued and outstanding. Such shares may be offered from time to
time by such selling securityholders, their nominees or permitted transferees.
They are under no obligation to sell all or any portion of the shares pursuant
to this prospectus. In addition, we are unable to ascertain the number of shares
of common stock that will be beneficially owned by such selling shareholders
following the termination of this Offering.
39
<PAGE>
The information in the table below concerning the selling securityholders is
based on our records as of December 17, 1998. Information concerning the selling
securityholders may change from time to time after the date of this prospectus.
See "Risk Factors," "Plan of Distribution" and "Description of Securities."
<TABLE>
<CAPTION>
SHARES OF SHARES OF
COMMON STOCK OWNED COMMON STOCK OFFERED
NAME OF SELLING SECURITYHOLDER PRIOR TO OFFERING PURSUANT TO OFFERING
- ------------------------------------------------ --------------------- ---------------------
<S> <C> <C>
Debbie Bender-Balazich(1)(2).................... 247,559 247,559
Steven Barth(2)(3).............................. 164,101 164,101
Steven Jones(2)................................. 74,832 74,832
Stephen McLaughlin(1)(2)........................ 24,944 24,944
Aldo Rodriguez(3)............................... 5,649 5,649
</TABLE>
- ------------------------
(1) Ms. Debbie Bender-Balazich is the Executive Vice President of Preferred
Staffing. Mr. Stephen McLaughlin is the Vice President of Information
Technology of Preferred Staffing.
(2) Includes the following shares being held in escrow pursuant to an escrow
agreement by and among Preferred Staffing, Ms. Bender-Balazich, Mr. Barth,
Mr. Jones, Mr. McLaughlin and City National Bank of Florida: (i) 293,015
shares are being held in escrow until December 31, 1998, when 146,508 shares
will be released to Ms. Bender-Balazich, 87,905 shares will be released to
Mr. Barth, 43,952 shares will be released to Mr. Jones and 14,650 shares
will be released to Mr. McLaughlin and (ii) 51,708 shares are being held in
escrow for the purpose of satisfying certain claims by us. Such shares are
subject to an indemnification escrow until August 11, 1999 unless claims are
made pursuant thereto and may be released, as follows: (i) 25,854 to Ms.
Bender-Balazich; (ii) 15,512 to Mr. Barth; (iii) 7,756 to Mr. Jones; and
(iv) 2,586 to Mr. McLaughlin.
(3) Subsequent to the merger of our company and NET Healthcare, (i) Ms.
Bender-Balazich transferred 7,218 shares to Mr. Barth and 3,766 shares to
Mr. Rodiguez; (ii) Mr. Barth transferred 1,130 shares to Mr. Rodriguez;
(iii) Mr. Jones transferred 2,165 shares to Mr. Barth and 565 shares to Mr.
Rodriguez; and (iv) Mr. McLaughlin transferred 722 shares to Mr. Barth and
188 shares to Mr. Rodriguez. All transfers are reflected above. None of the
transfers relate to the shares being held in escrow.
The following selling securityholders beneficially own as of December 17,
1998 and may offer hereby the number of shares of common stock set forth
opposite their respective names, assuming (i) the conversion of all of the
outstanding principal amount of the 7% convertible subordinated promissory notes
($10,580,000 as of December 17, 1998) into shares based on the conversion price
of $9.00 per share and (ii) the exercise in full of warrants to purchase 348,800
shares for cash. The shares offered pursuant to this prospectus may be offered
from time to time by the selling securityholders named below or their nominees
or permitted transferees. The selling securityholders are under no obligation to
sell all or any portion of the shares pursuant to this prospectus. In addition,
because the selling securityholders are not obligated to sell all or a portion
of their shares pursuant to this prospectus, we are unable to ascertain the
number of shares of common stock that will be beneficially owned by each selling
securityholder following the termination of the Offering.
The information in the table below concerning the selling securityholders is
based on our records as of December 17, 1998. Information concerning the selling
securityholders may change from time to time after the date of this prospectus.
See "Risk Factors," "Plan of Distribution" and "Description of Securities."
We initially registered 1,524,356 shares of common stock issuable upon (i)
conversion of our 7% convertible subordinated promissory notes due May 2003
issued by us in a private placement in May 1998, and (ii) the exercise of
warrents to purchase 348,800 shares of common stock issued in connection
therewith. We filed a registration statement on Form SB-2 (No. 333-60087) that
was declared effective on August 7, 1998 with respect to such common stock. The
number of shares of common stock shown in the following table reflects the
number of shares issuable upon conversion of the notes and/or exercise of the
warrents as explained in the footnotes to the table.
40
<PAGE>
<TABLE>
<CAPTION>
SHARES OF SHARES OF
COMMON STOCK OWNED COMMON STOCK OFFERED
PRIOR TO PURSUANT TO
NAME OF SELLING SECURITYHOLDER OFFERING(1)(2) OFFERING(1)(2)
- ----------------------------------------------------------------- ---------------------- ----------------------
<S> <C> <C>
I. Thomson....................................................... 1,666 1,666
Anker Bank....................................................... 33,333 33,333
Ashford Capital Partners, L.P.................................... 111,111 111,111
The Bald Eagle Fund Ltd.......................................... 4,638 4,638
Clariden Bank.................................................... 111,110 111,110
Jay John Beyrouti................................................ 11,111 11,111
Harvey Bibicoff.................................................. 5,555 5,555
Christopher Binyon Sarofim 1976 Trust............................ 16,666 16,666
Burr Family Trust, Robert Z. Burr and Catherine W. Burr,
Trustees....................................................... 5,555 5,555
Alex T. Chalmers................................................. 1,666 1,666
Dr. David Cohen.................................................. 11,111 11,111
Harriet H. Cohen................................................. 2,777 2,777
Julia Cole....................................................... 11,111 11,111
Chris Conway..................................................... 5,555 5,555
Gerald B. Cramer 1997 Charitable Remainder Trust................. 55,555 55,555
DW Trustees (B.V.I.) Limited as Trustee of the Rectory Farm
Settlement Main Fund........................................... 5,555 5,555
DW Trustees (B.V.I.) Limited as Trustee of the Rectory Farm
Settlement Children's Fund..................................... 2,777 2,777
Joseph Esformes.................................................. 38,888 38,888
Falk Family Foundation........................................... 11,111 11,111
Austin Gleason Pension Fund...................................... 11,111 11,111
Paul Goldenheim.................................................. 2,777 2,777
William O.E. Henry............................................... 5,555 5,555
Jeffries Switzerland............................................. 55,555 55,555
JJM Investments, Inc............................................. 2,777 2,777
Peggy S. Jordan.................................................. 11,111 11,111
E. Stanley Kardatzke Revocable Trust............................. 22,222 22,222
Fred Kassner..................................................... 27,777 27,777
Kensington Partners L.P.......................................... 48,111 48,111
Kensington Partners II L.P....................................... 2,805 2,805
Peter E. Kilissanly(3)........................................... 77,777 77,777
Lynka Adams Kroll................................................ 11,111 11,111
Douglas Levine................................................... 5,555 5,555
Charles Loegering................................................ 11,111 11,111
Lloyd A. Moriber M.D............................................. 11,111 11,111
Larry Palini..................................................... 5,555 5,555
Banque Piguet & Cie SA........................................... 11,111 11,111
Putnam Capital Appreciation Fund................................. 222,222 222,222
Lawrence J. Rodler............................................... 2,777 2,777
Christopher Rolin................................................ 2,777 2,777
Richard Rosenblatt............................................... 5,555 5,555
Ben Rosenbloom................................................... 5,555 5,555
Hare & Co........................................................ 55,555 55,555
J.F. Shea Co., Inc. as nominee 1998-34........................... 111,111 111,111
Commonwealth Associates(4)....................................... 113,136 113,136
Mark Danieli(5).................................................. 733 733
</TABLE>
41
<PAGE>
<TABLE>
<CAPTION>
SHARES OF SHARES OF
COMMON STOCK OWNED COMMON STOCK OFFERED
PRIOR TO PURSUANT TO
NAME OF SELLING SECURITYHOLDER OFFERING(1)(2) OFFERING(1)(2)
- ----------------------------------------------------------------- ---------------------- ----------------------
<S> <C> <C>
Richard Campanella(5)............................................ 662 662
Anthony Giardina(5).............................................. 1,537 1,537
Craig Leppla(5).................................................. 830 830
James Walker(5).................................................. 500 500
Mario Marsillo(5)................................................ 600 600
Ronald Moschetta(5).............................................. 1,632 1,632
Christopher Krecke(5)............................................ 1,000 1,000
Brad Van Siclen(5)............................................... 3,500 3,500
Inder Tallur(5).................................................. 1,270 1,270
Laurant Ashenden(5).............................................. 1,920 1,920
Cornelia Eldridge(5)............................................. 4,988 4,988
Joseph P. Wynne(5)............................................... 4,905 4,905
Basil Asciutto(5)................................................ 8,308 8,308
Seth Elliott(5).................................................. 2,500 2,500
Eric Handler(5).................................................. 3,500 3,500
Eric Rubenstein(5)............................................... 7,467 7,467
Robert O'Sullivan(5)............................................. 8,075 8,075
Keith Rosenbloom(5).............................................. 25,985 25,985
Michael S. Falk(5)............................................... 124,428 124,428
Edmund Shea(5)................................................... 6,897 6,897
Robert Priddy(5)................................................. 5,558 5,558
Robert Beuret(5)................................................. 4,166 4,166
Michael Lyall(5)................................................. 2,917 2,917
Vincent Labarbara(5)............................................. 2,724 2,724
Alvin Mirman(5).................................................. 2,334 2,334
Eric Rand(5)..................................................... 1,151 1,151
Murray Segal(5).................................................. 963 963
Andres Bello(5).................................................. 915 915
Estate of Daniel Parker(5)....................................... 770 770
Robert Tucker(5)................................................. 770 770
Cathy Ross(5).................................................... 750 750
Scott Rickman(5)................................................. 500 500
Michael Volpe(5)................................................. 419 419
Lisa Letteri(5).................................................. 250 250
Richard Galterio(5).............................................. 86 86
Al Legere(5)..................................................... 86 86
Marco Guidice(5)................................................. 68 68
</TABLE>
- ------------------------
(1) The beneficial ownership and shares offered data included in this table
assumes conversion of all of the principal amount of the notes outstanding
as of December 8, 1998 ($10,580,000) into shares of common stock at the
conversion price of $9.00 per share.
(2) The beneficial ownership and shares offered data included in this table
assumes that (a) 150,000 shares of common stock (subject to adjustments) are
issuable upon the exercise of warrants to purchase such shares, and (b)
198,800 shares of common stock (subject to adjustments) are issuable upon
the exercise of warrants to purchase such shares of common stock.
(3) Mr. Peter E. Kilissanly is the President and Chief Executive Officer of
Preferred Staffing. See "Management."
42
<PAGE>
(4) In February 1997, we consummated an initial public offering of 1,725,000
shares of common stock at a price to the public of $7.25 per share.
Commonwealth Associates ("Commonwealth") acted as the managing underwriter
of the offering and received commissions of approximately $875,000 and a
non-accountable expense allowance of $236,000, as well as warrants to
purchase an aggregate of 150,000 shares of common stock, which includes the
shares offered hereby (the "IPO Warrants"). In May 1998, we consummated a
private placement of the notes and Commonwealth acted as our placement
agent. In connection therewith, we paid Commonwealth approximately $900,000
in commissions and fees and issued to Commonwealth a warrant to purchase
198,800 shares of common stock with an exercise price of $9.00 per share
(the "PPM Warrants"). In July 1998, Commonwealth transferred a portion of
the IPO Warrants and PPM Warrants to certain persons.
(5) In July 1998, Commonwealth transferred warrants to purchase the shares of
common stock issuable upon the exercise thereof to certain persons,
including this selling securityholder.
We will incur expenses in respect of this Offering in an amount estimated to
be $140,000 in the aggregate. Except as otherwise provided in this prospectus,
no selling securityholder has held any position or office or had any other
material relationship with our company within the past three years. The selling
securityholders will receive all of the proceeds from the sale of the shares
offered hereby. We will not receive any proceeds from the sale of such shares.
However, we would receive approximately $2.9 million in gross cash proceeds if
all of the warrants relating to 348,800 shares offered hereby were exercised in
full with cash. See "Use of Proceeds" and "Plan of Distribution."
43
<PAGE>
DESCRIPTION OF SECURITIES
COMMON STOCK
We are authorized to issue 20,000,000 shares of common stock, par value $.01
per share, of which, as of December 17, 1998, 5,242,085 shares were outstanding.
Holders of shares of common stock are entitled to one vote for each share held
of record on all matters to be voted on by stockholders. There are no
preemptive, subscription, conversion or redemption rights pertaining to the
shares of common stock. Holders of shares of common stock are entitled to
receive dividends when, as and if declared by the Board of Directors from funds
legally available therefor and to share ratably in our assets that are available
upon liquidation, dissolution or winding up. We have never declared or paid any
dividends on our common stock and do not anticipate that any cash or other
dividends will be paid in the foreseeable future, as we intend to follow a
policy of retaining earnings, if any, to finance future growth. The holders of
shares of common stock do not have cumulative voting rights for the election of
directors and, accordingly, the holders of more than 50% of the shares of common
stock are able to elect all directors.
PREFERRED STOCK
We are currently authorized to issue up to 2,000,000 shares of preferred
stock. The preferred stock may be issued in one or more series, the terms of
which may be determined by the Board of Directors at the time of issuance
without further action by stockholders, and may include voting rights (including
the right to vote as a series on particular matters), preferences as to
dividends and liquidation, conversion and redemption rights and sinking fund
provisions. The issuance of any such preferred stock could materially adversely
affect the rights of holders of common stock and, therefore, could reduce the
value of the common stock. The ability of the Board of Directors to issue
preferred stock could have the effect of delaying, deferring or preventing a
change in our control. See "Risk Factors--Possible Issuances of Our Stock;
Anti-Takeover Provisions." The Company has no present plans to issue any of the
preferred stock and is not in any negotiations contemplating any such issuance.
However, the Company may determine in the future that it is advisable to issue
some or all of such shares for corporate purposes.
44
<PAGE>
PLAN OF DISTRIBUTION
The sale of the shares of common stock, and common stock issuable upon
conversion of the notes and exercise of the warrants, may be effected directly
to purchasers by the selling securityholders as principals or through one or
more underwriters, brokers, dealers or agents from time to time in one or more
transactions (which may involve block transactions). Any sales of the shares may
be effected through the Nasdaq SmallCap Market, in private transactions or
otherwise, and the shares may be sold at market prices prevailing at the time of
sale, at prices related to such prevailing market prices or at negotiated
prices. If the selling securityholders effect sales through underwriters,
brokers, dealers or agents, such firms may receive compensation in the form of
discounts, concessions or commissions from the selling securityholders or the
purchasers of the shares for whom they may act as agent, principal or both.
Those persons who act as broker-dealers or underwriters in connection with the
sale of the shares may be selected by the selling securityholders and may have
other business relationships with, and perform services for, us. Any selling
securityholder, underwriter or broker-dealer who participates in the sale of the
shares may be deemed to be an "underwriter" within the meaning of Section 2(11)
of the Securities Act. Any commissions received by any underwriter or
broker-dealer and any profit on any sale of the shares as principal may be
deemed to be underwriting discounts and commissions under the Securities Act.
The anti-manipulation provisions of Rules 101 through 104 under the Exchange
Act may apply to purchases and sales of shares of common stock by the selling
securityholders. In addition, there are restrictions on market-making activities
by persons engaged in the distribution of the common stock.
Under the securities laws of certain states, the shares may be sold in such
states only through registered or licensed brokers or dealers. In addition, in
certain states the shares may not be able to be sold unless the common stock has
been registered or qualified for sale in such state or an exemption from
registration or qualification is available and is complied with.
We are required to pay expenses incident to the registration, offering and
sale of the shares pursuant to this Offering. We estimate that our expenses in
connection with the Offering will be approximately $140,000 in the aggregate. We
and each selling securityholder have agreed to indemnify each other and certain
other persons against certain liabilities, including liabilities under the
Securities Act.
We have advised the selling securityholders that if a particular offer of
shares is to be made on terms constituting a material change from the
information set forth above, then to the extent required, a prospectus
supplement should be distributed setting forth such terms and related
information and should be used.
LEGAL MATTERS
The validity of the shares of common stock offered hereby will be passed
upon for us by Baer Marks & Upham LLP, New York, New York.
45
<PAGE>
EXPERTS
The consolidated financial statements of the Company as of December 31, 1997
and for each of the years in the two year period then ended have been included
herein in reliance upon the report of KPMG Peat Marwick LLP, independent
certified public accountants, appearing elsewhere herein, and upon the authority
of said firm as experts in accounting and auditing.
The balance sheet of NET Healthcare as of December 31, 1997 and the
statements of operations, shareholders' deficiency and cash flows for each of
the two years in the period ended December 31, 1997, included in this
Registration Statement, have been included herein in reliance on the report of
PricewaterhouseCoopers LLP, independent accountants, given on the authority of
that firm as experts in accounting and auditing.
AVAILABLE INFORMATION
We have filed with the Securities and Exchange Commission under the
Securities Act a Registration Statement on Form SB-2 (the "Registration
Statement"), of which this prospectus is a part, with respect to the shares
offered hereby. This prospectus, which constitutes a part of the Registration
Statement, does not contain all of the information set forth in the Registration
Statement, certain items of which are contained in exhibits and schedules as
permitted by the rules and regulations of the Securities and Exchange
Commission. Statements made in this prospectus as to the contents of any
contract, agreement or other document referred to herein are not necessarily
complete. With respect to each contract, agreement or other document filed as an
exhibit to the Registration Statement or in a filing incorporated by reference
herein, reference is made to the exhibit for a more complete description of the
matters involved, and each statement shall be deemed qualified in its entirety
by this reference.
We are subject to the informational requirements of the Exchange Act and, in
accordance therewith, file certain periodic reports, proxy statements and other
information with the Securities and Exchange Commission. Reports and other
information filed by us may be inspected and copied at the public reference
facilities maintained by the Securities and Exchange Commission at its principal
offices located at Judiciary Plaza, 450 Fifth Street, N.W., Room 1024,
Washington, D.C. 20549, and at the following regional offices of the Securities
and Exchange Commission: Seven World Trade Center, 13th Floor, New York, New
York 10048, and 500 West Madison Street, Suite 1400, Chicago, Illinois 60601.
Copies of such material may be obtained by mail from the Public Reference
Section of the Securities and Exchange Commission at 450 Fifth Street, N.W.,
Washington, D.C. 20549, at prescribed rates. In addition, the Securities and
Exchange Commission maintains a Web site at http://www.sec.gov containing
reports, proxy and information statements and other information regarding
registrants that file electronically with the Securities and Exchange
Commission, including us. Material filed by us can also be inspected at the
offices of the National Association of Securities Dealers, Inc., 1735 K Street,
N.W., Washington, D.C. 20006.
46
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE NO.
-----------
<S> <C>
AUDITED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996 (RESTATED)
Independent Auditors' Report.......................................................................... F-2
Report of Independent Accountants..................................................................... F-3
Consolidated Balance Sheet as of December 31, 1997.................................................... F-4
Consolidated Statements of Operations for the years ended December 31, 1997 and 1996.................. F-5
Consolidated Statements of Shareholders' Equity for the years ended December 31, 1997 and 1996........ F-6
Consolidated Statements of Cash Flows for the years ended December 31, 1997 and 1996.................. F-7
Notes to Consolidated Financial Statements............................................................ F-8
UNAUDITED CONSOLIDATING FINANCIAL SCHEDULES FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996 (RESTATED)
Consolidating Balance Sheet Schedule as of December 31, 1997.......................................... F-21
Consolidating Schedules of Operations for the years ended December 31, 1997 and December 31, 1996..... F-22
Consolidating Schedules of Shareholders' Equity for the years ended December 31, 1997 and 1996........ F-23
Consolidating Schedules of Cash Flows for the years ended December 31, 1997 and 1996.................. F-24
UNAUDITED FINANCIAL STATEMENTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997 (RESTATED)
Consolidated Balance Sheet as of September 30, 1998................................................... F-25
Consolidated Statements of Operations for the nine months ended September 30, 1998 and 1997........... F-26
Consolidated Statements of Cash Flows for the nine months ended September 30, 1998 and 1997........... F-27
Notes to Consolidated Financial Statements............................................................ F-28
</TABLE>
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Preferred Employers Holdings, Inc.:
We have audited the accompanying consolidated balance sheet of Preferred
Employers Holdings, Inc. and subsidiaries as of December 31, 1997 and the
related consolidated statements of operations, shareholders' equity, and cash
flows for the years ended December 31, 1997 and 1996. The consolidated financial
statements give retroactive effect to the merger of Preferred Employers
Holdings, Inc. and subsidiaries and National Explorers and Travelers Healthcare,
Inc. on August 10, 1998, which has been accounted for using the pooling of
interests method as described in the notes to the consolidated financial
statements. We have also audited the combination of the accompanying
consolidated financial statements for the periods indicated above, after
restatement for the August 10, 1998 pooling of interests. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit. We did not audit the financial statements of National Explorers and
Travelers Healthcare, Inc. which statements reflect total assets constituting 8%
of the restated consolidated balance sheet totals, and which reflect net losses
constituting approximately 98% and 120% of the respective restated consolidated
statements of operations totals. Those statements were audited by other auditors
whose report has been furnished to us, and our opinion, insofar as it relates to
data included for National Explorers and Travelers Healthcare, Inc. is based
solely on the report of other auditors.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Preferred Employers Holdings, Inc.
and subsidiaries as of December 31, 1997 and the results of their operations and
cash flows for the years ended December 31, 1997 and 1996.
Our audits were made for the purpose of forming an opinion on the
consolidated financial statements taken as a whole. The consolidating schedules
are presented for purposes of additional analysis of the consolidated financial
statements rather than to present the financial position, results of operations,
and cash flows of the individual companies. The consolidating financial
schedules have been subjected to the auditing procedures applied in the audits
of the consolidated financial statements, and, in our opinion, based upon our
procedures and the report of other auditors, is fairly stated in all material
respects in relation to the consolidated financial statements taken as a whole.
/s/ KPMG Peat Marwick LLP
Miami, Florida
March 27, 1998, except for notes 1(b), 1(d) and 14
which are as of August 10, 1998.
F-2
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors of
National Explorers and Travelers Health Care, Inc.
(d/b/a NET Healthcare, Inc.)
Fort Lauderdale, Florida
In our opinion, the accompanying balance sheet and the related statements of
operations, shareholders' deficiency and of cash flows present fairly, in all
material respects, the financial position of National Explorers and Travelers
Health Care, Inc. (d/b/a NET Healthcare, Inc.) (the "Company") at December 31,
1997, and the results of their operations and their cash flows for the years
ended December 31, 1996 and 1997, in conformity with generally accepted
accounting principles. These financial statements are the responsibility of the
Company's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with generally accepted auditing standards 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 the opinion expressed above.
Since the date of completion of our audit of the above referenced financial
statements and the initial issuance of our report dated June 22, 1998, which
contained an explanatory paragraph regarding the Company's ability to continue
as a going concern and an emphasis of a matter paragraph regarding the pending
sale of the Company, the shareholders of the Company, as discussed in Note 14,
have sold their shares of the common stock of the Company to Preferred
Healthcare Staffing, Inc., a subsidiary of Preferred Employers Holdings, Inc.
Therefore the conditions that raised substantial doubt about whether the Company
will continue as a going concern no longer exist.
PricewaterhouseCoopers LLP
Fort Lauderdale, Florida
June 22, 1998, except for the information in
Note 14, for which the date is August 10, 1998
F-3
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 1997 (RESTATED)
<TABLE>
<CAPTION>
PREVIOUSLY
REPORTED RESTATED
------------- -------------
<S> <C> <C>
ASSETS
Investments:
Held-to-maturity securities, at amortized cost (fair value of $8,237,669)........ $ 8,015,105 8,015,105
Held-to-maturity securities, at amortized cost, restricted (fair value of
$7,947,981).................................................................... 7,877,444 7,877,444
Short-term investments........................................................... 7,090,550 7,090,550
------------- -------------
Total investments............................................................ 22,983,099 22,983,099
Cash............................................................................... 4,125,147 4,125,271
Accrued investment and interest income............................................. 311,934 311,934
Receivables, net................................................................... 585,072 2,699,657
Deferred acquisition costs......................................................... 903,880 903,880
Property and equipment, net........................................................ 478,826 709,800
Deferred tax assets................................................................ 252,837 252,837
Deposits........................................................................... 24,921 154,787
Other assets....................................................................... 34,487 102,556
------------- -------------
Total assets................................................................. $ 29,700,203 32,243,821
------------- -------------
------------- -------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Notes payable...................................................................... $ 0 2,440,000
Unpaid losses and loss adjustment expenses......................................... 6,107,613 6,107,613
Unearned premiums.................................................................. 2,671,831 2,671,831
Premiums payable................................................................... 3,064,103 3,064,103
Commissions payable................................................................ 330,055 330,055
Other liabilities.................................................................. 4,750,082 5,215,387
Accounts payable and accrued expenses.............................................. 508,127 1,360,613
Deferred reinsurance income........................................................ 279,980 279,980
------------- -------------
Total liabilities............................................................ 17,711,791 21,469,582
------------- -------------
Shareholders' equity:
Common stock, $.01 par value; authorized 10,000,000 shares; issued 5,254,412 and
5,771,497 shares, respectively................................................... 52,544 57,715
Additional paid-in capital......................................................... 10,367,074 9,147,730
Retained earnings.................................................................. 2,074,351 2,074,351
------------- -------------
Total shareholders' equity......................................................... 12,493,969 11,279,796
Treasury stock, at cost, 529,412 shares............................................ (505,557) (505,557)
------------- -------------
Net shareholders' equity........................................................... 11,988,412 10,774,239
------------- -------------
Total liabilities and shareholders' equity......................................... $ 29,700,203 32,243,821
------------- -------------
------------- -------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997 AND 1996 (RESTATED)
<TABLE>
<CAPTION>
DECEMBER 31, 1997 DECEMBER 31, 1996
---------------------- --------------------
<S> <C> <C> <C> <C>
PREVIOUSLY PREVIOUSLY
REPORTED RESTATED REPORTED RESTATED
---------- ---------- --------- ---------
REVENUES:
Premiums earned................................................. $11,674,659 11,674,659 524,760 524,760
Net commission income........................................... 2,359,445 2,359,445 2,462,625 2,462,625
Net Investment income........................................... 1,394,544 1,394,544 217,314 217,314
Staffing income................................................. 0 11,594,300 0 2,613,967
Other income.................................................... 570,464 570,464 136,431 136,431
---------- ---------- --------- ---------
Total revenues.................................................. 15,999,112 27,593,412 3,341,130 5,955,097
---------- ---------- --------- ---------
EXPENSES:
Losses and loss adjustment expenses............................. 6,257,095 6,257,095 270,251 270,251
Amortization of deferred acquisition costs...................... 4,161,884 4,161,884 177,526 177,526
Staffing costs.................................................. 0 9,610,778 0 2,218,456
Other expenses.................................................. 4,145,201 6,080,808 2,937,145 3,845,267
---------- ---------- --------- ---------
Total expenses.................................................. 14,564,180 26,110,565 3,384,922 6,511,500
---------- ---------- --------- ---------
Operating income (loss) before income taxes..................... 1,434,932 1,482,847 (43,792) (556,403)
---------- ---------- --------- ---------
Interest expense................................................ (16,534) (663,909) (41,942) (154,044)
Non-operating income............................................ 0 0 190,000 190,000
---------- ---------- --------- ---------
Net non-operating income (expense).............................. (16,534) (663,909) 148,058 35,956
---------- ---------- --------- ---------
Income (loss) before income taxes............................... 1,418,398 818,938 104,266 (520,447)
Income taxes.................................................... 208,980 208,980 0 0
---------- ---------- --------- ---------
Net income (loss)............................................... $1,209,418 609,958 104,266 (520,447)
---------- ---------- --------- ---------
---------- ---------- --------- ---------
Weighted average shares outstanding............................. 4,513,562 5,030,647 3,000,000 3,517,085
---------- ---------- --------- ---------
---------- ---------- --------- ---------
Basic earnings (loss) per share................................. $ 0.27 0.12 0.03 (0.15)
---------- ---------- --------- ---------
---------- ---------- --------- ---------
Diluted earnings (loss) per share............................... $ 0.27 0.12 0.03 (0.15)
---------- ---------- --------- ---------
---------- ---------- --------- ---------
PRO FORMA INFORMATION (UNAUDITED):
Historical income (loss) before income taxes.................... $1,209,418 609,958 104,266 (520,447)
Pro forma income tax provision (benefit)........................ 0 (459,316) 38,891 (194,127)
---------- ---------- --------- ---------
Pro forma net income (loss)..................................... $1,209,418 1,069,274 65,375 (326,320)
---------- ---------- --------- ---------
---------- ---------- --------- ---------
Weighted average shares outstanding............................. 4,513,562 5,030,647 3,000,000 3,517,085
---------- ---------- --------- ---------
---------- ---------- --------- ---------
Pro forma net basic earnings (loss) per share................... $ 0.27 0.21 0.02 (0.09)
---------- ---------- --------- ---------
---------- ---------- --------- ---------
Pro forma net diluted earnings (loss) per share................. $ 0.27 0.21 0.02 (0.09)
---------- ---------- --------- ---------
---------- ---------- --------- ---------
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1997 AND 1996 (RESTATED)
<TABLE>
<CAPTION>
DECEMBER 31, 1997 DECEMBER 31, 1996
---------------------------- --------------------------
<S> <C> <C> <C> <C>
PREVIOUSLY PREVIOUSLY
REPORTED RESTATED REPORTED RESTATED
------------- ------------- ------------ ------------
COMMON STOCK--NUMBER OF SHARES:
Balance at beginning of period......................... 3,529,412 3,529,412 3,529,412 3,529,412
Exchange of common shares.............................. 0 517,085 0 517,085
Issuance of common shares.............................. 1,725,000 1,725,000 0 0
------------- ------------- ------------ ------------
Balance at end of period............................... 5,254,412 5,771,497 3,529,412 4,046,497
------------- ------------- ------------ ------------
------------- ------------- ------------ ------------
COMMON STOCK:
Balance at beginning of period......................... $ 35,294 35,294 35,294 35,294
Exchange of common shares.............................. 0 5,171 0 5,171
Issuance of common shares.............................. 17,250 17,250 0 0
------------- ------------- ------------ ------------
Balance at end of period............................... $ 52,544 57,715 35,294 40,465
------------- ------------- ------------ ------------
------------- ------------- ------------ ------------
ADDITIONAL PAID-IN CAPITAL:
Balance at beginning of period......................... $ 0 0 0 0
Exchange of common shares.............................. 0 (1,224,173) 0 (624,713)
Issuance of common shares.............................. 10,367,074 10,371,903 0 4,829
------------- ------------- ------------ ------------
Balance at end of period............................... $ 10,367,074 9,147,730 0 (619,884)
------------- ------------- ------------ ------------
------------- ------------- ------------ ------------
RETAINED EARNINGS:
Balance at beginning of period......................... $ 864,933 864,933 760,667 760,667
Net income............................................. 1,209,418 1,209,418 104,266 104,266
------------- ------------- ------------ ------------
Balance at end of period............................... $ 2,074,351 2,074,351 864,933 864,933
------------- ------------- ------------ ------------
------------- ------------- ------------ ------------
TREASURY STOCK:
Balance at end of period............................... $ (505,557) (505,557) (505,557) (505,557)
------------- ------------- ------------ ------------
TOTAL SHAREHOLDERS' EQUITY............................. $ 11,988,412 10,774,239 394,670 (220,043)
------------- ------------- ------------ ------------
------------- ------------- ------------ ------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997 AND 1996 (RESTATED)
<TABLE>
<CAPTION>
DECEMBER 31, 1997 DECEMBER 31, 1996
------------------------ ----------------------
<S> <C> <C> <C> <C>
PREVIOUSLY PREVIOUSLY
REPORTED RESTATED REPORTED RESTATED
----------- ----------- ---------- ----------
Cash flow from operating activities:
Net income (loss).......................................... $ 1,209,418 609,958 104,266 (520,447)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization.......................... 150,341 202,312 161,132 182,767
Amortization of deferred acquisition costs............. 4,161,884 4,161,884 177,526 177,526
Deferred income taxes.................................. (252,837) (252,837) 0 0
Provision for uncollectible accounts................... 0 106,367 0 23,212
Change in:
Accrued investment income.......................... (311,934) (311,934) 0 0
Receivables........................................ 3,344,344 2,307,487 (3,583,802) (4,325,804)
Unpaid losses and loss adjustment expenses......... 5,908,223 5,908,223 199,390 199,390
Unearned premiums.................................. 782,854 782,854 1,888,977 1,888,977
Premium payable.................................... (521,487) (521,487) 1,231,676 1,231,676
Commissions payable................................ (179,302) (179,302) 212,769 212,769
Accounts payable and accrued expenses.............. 135,437 696,852 367,215 640,177
Deferred reinsurance income........................ (1,054,421) (1,054,421) 1,334,401 1,334,401
Other, net......................................... (1,857,061) (1,949,994) 1,083,264 1,016,582
----------- ----------- ---------- ----------
Net cash provided by operating activities........ 11,515,459 10,505,962 3,176,814 2,061,226
----------- ----------- ---------- ----------
Cash flow from investing activities:
Purchase of fixed maturities............................... (15,892,549) (15,892,549) 0 0
Purchase of short-term investments, net.................... (7,090,550) (7,090,550) 0 0
Purchase of property and equipment......................... (82,677) (268,470) (130,503) (249,290)
----------- ----------- ---------- ----------
Net cash used in investing activities............ (23,065,776) (23,251,569) (130,503) (249,290)
----------- ----------- ---------- ----------
Cash flow from financing activities:
Proceeds from sale of common stock......................... 10,384,324 10,384,324 0 0
Repayment of shareholder loan.............................. (300,000) (300,000) (275,000) (275,000)
Borrowings from revolving line of credit, net.............. 0 1,114,779 0 1,285,221
Other, net................................................. 0 27,008 0 (8,899)
----------- ----------- ---------- ----------
Net cash provided by (used in) financing
activities..................................... 10,084,324 11,226,111 (275,000) 1,001,322
----------- ----------- ---------- ----------
Net (decrease) increase in cash.............................. (1,465,993) (1,519,496) 2,771,311 2,813,258
Cash at beginning of period.................................. 5,591,140 5,644,767 2,819,829 2,831,509
----------- ----------- ---------- ----------
Cash at end of period........................................ $ 4,125,147 4,125,271 5,591,140 5,644,767
----------- ----------- ---------- ----------
----------- ----------- ---------- ----------
Supplemental disclosure of cash flow information:
Income taxes paid.......................................... $ 202,300 202,300 0 0
----------- ----------- ---------- ----------
----------- ----------- ---------- ----------
Interest paid.............................................. $ 0 638,235 0 103,069
----------- ----------- ---------- ----------
----------- ----------- ---------- ----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-7
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997 AND 1996 (RESTATED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(A) BASIS OF PRESENTATION
The accompanying consolidated financial statements of Preferred Employers
Holdings, Inc. (the "Company") and its subsidiaries, as described below, are
prepared in accordance with generally accepted accounting principles. These
principles vary in certain respects from statutory accounting practices
prescribed or permitted by regulatory authorities. The preparation of financial
statements in conformity with generally accepted accounting principles requires
management to make estimates, based on information available, in recording
transactions resulting from business operations. The balance sheet amounts that
involve a greater extent of accounting estimates and actuarial determinations
subject to future changes are the Company's liabilities for unpaid losses and
loss adjustment expenses. As additional information becomes available (or actual
amounts are determinable), the recorded estimates may be revised and reflected
in operating results. While management believes that the liability for unpaid
losses and loss adjustment expenses is adequate to cover the ultimate liability,
such estimates may be more or less than the amounts actually paid when claims
are settled.
(B) ORGANIZATION
Preferred Employers Holdings, Inc. is the successor company to Preferred
Employers Group, Inc. ("PEGI"). In February 1997, the Company completed an
initial public offering of 1,725,000 shares of common stock (including the
underwriter's over-allotment option) at a price of $7.25 per share. Immediately
prior to the Company's initial public offering, the Company and the stockholders
of PEGI (the "Exchanging Stockholders") effected a recapitalization whereby the
Company exchanged 17,647.06 shares of common stock for each share of common
stock of PEGI held by the Exchanging Stockholders (the "Exchange"). As a result
of the Exchange, PEGI became a wholly owned subsidiary of the Company. Except as
otherwise specified or when the context otherwise requires, references to the
Company herein include Preferred Employers Holdings, Inc. and PEGI, through
which the Company conducts certain of its operations.
On August 10, 1998, the Company issued 517,085 shares of its common stock in
exchange for all the outstanding common stock of National Explorers and
Travelers Healthcare, Inc. ("NET Healthcare"), an employee staffing company and
provider of temporary registered nurses and other professional medical
personnel, primarily to client hospitals. This business combination was
accounted for as a pooling-of-interests combination and, accordingly, the
Company's consolidated financial statements for applicable periods prior to the
combination have been restated to include the accounts and results of operations
of NET Healthcare. The financial statements previously reported by the separate
enterprises and the combined amounts are presented in the accompanying
consolidated financial statements included herein. Prior to the combination, NET
Healthcare reported its results of operations on a calendar year basis which is
consistent with that of PEGI. In recording the pooling-of-interests combination,
NET Healthcare's financial statements as of December 31, 1997 and for the years
ended December 31, 1997 and 1996 were combined with the Company's financial
statements for the same periods.
The Company was appointed as a general agent ("GA") by the American
International Group of Companies ("AIG"), a major group of international
insurance carriers, on January 1, 1993. In this regard, the Company is
authorized to write workers' compensation as well as other forms of "property
and casualty" business (such other forms of insurance being hereinafter referred
to as "Package") on behalf of
F-8
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996 (RESTATED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
AIG. In addition, the Company was appointed as a GA by General Accident
Insurance Company of America ("GAIC") on September 1, 1994, with the authority
to write all forms of commercial property and casualty business for family style
and fast-food restaurants. On June 11, 1996, GAIC advised the Company that it
would no longer write Package insurance for fast-food restaurants; however, on
March 20, 1997, the Company was appointed as a GA by the Kemper Group of
Insurance Companies with the authority to write workers' compensation and other
forms of commercial property and casualty business for family style and
fast-food restaurants and convenience stores.
(C) INSURANCE OPERATIONS
In 1996, the Company formed a Bermuda licensed reinsurance subsidiary (the
"Reinsurer") and entered into a reinsurance agreement (the "Agreement") with AIG
during the fourth quarter of 1996. The Agreement provides that the Reinsurer
assume certain workers' compensation and employer's liability insurance policies
from AIG with policy inception dates as of January 1, 1996 and subsequent.
Although the Reinsurer assumes the risks associated with being a reinsurer, the
Agreement limits the liability of the Reinsurer for losses and certain defined
expenses to the first $300,000 per occurrence. In addition, the Agreement limits
the aggregate liability of the Reinsurer for all coverage to an amount not to
exceed 70 percent of the gross written premium for each individual underwriting
year.
Because the Agreement is effective for all business written on or after
January 1, 1996, the policies written prior to the execution of the Agreement
and formation of the Reinsurer are accounted for as retroactive reinsurance. The
principal difference between the accounting for retroactive and prospective
reinsurance is that revenue and costs of retroactive reinsurance are deferred
and accreted into income over the claim-settlement period, rather than over the
period for which contractual coverage is provided, as would be the case under
prospective reinsurance. Retroactive insurance accounting does not change the
amount of income to be recognized, but rather extends the period of recognition
from one year--the period of coverage--to six years--the period over which
claims liabilities from the business are expected to be settled. Cash flows from
the reinsurance transactions are not affected by the accounting treatment.
The accompanying financial statements reflect a composite
retroactive/prospective accounting treatment with business written prior to
October 1, 1996 being accounted for as retroactive and business written
subsequent thereto accounted for as prospective.
The effects of prospective and retroactive reinsurance accounting treatment
are illustrated below. The prospective method assumed that the Agreement
incepted on January 1, 1996, and provides for a loss ratio of 51.5%, acquisition
costs of 33.83%, aggregate net premiums written of approximately $15 million
($12,600,000 relating to the period from January 1 through September 30, 1996)
and an investment yield of 6.5% on net cash flows. The retroactive (deposit)
method uses the same assumptions except that since the Agreement was not
executed until October 1996, any investment income on net cash flows earned for
the period from January through September 1996 are deferred and recognized as
"other income" over the payment period of the remaining claim liabilities.
F-9
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996 (RESTATED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Income before income taxes recognized, and estimated to be recognized in the
calendar year indicated below is as follows:
<TABLE>
<CAPTION>
COMPOSITE
PROSPECTIVE RETROACTIVE/
METHOD PROSPECTIVE
YEARS (PRO FORMA) (ACTUAL)
- ------------------------------------------------------------------- ------------ -----------
<S> <C> <C>
1996............................................................... $ 1,658,000 324,000
1997............................................................... 1,288,000 1,372,000
1998-2001.......................................................... 1,314,000 2,564,000
------------ -----------
$4,260,000... 4,260,000
------------ -----------
------------ -----------
</TABLE>
It should be noted that the table presented above is for illustrative
purposes only to highlight that the basis of accounting used only impacts the
timing of the net revenue recognition and not the aggregate economic results.
Further, it should be noted that the above table is based on estimates as to the
amount and timing of aggregate loss and loss expense payments, available
investment yields and acquisition and other costs associated with the provision
of insurance protection. Actual results may vary, perhaps materially, from those
illustrated above. No assurance is given or may be taken that subsequent
revisions of estimates will not have a material impact on the illustration
above.
Prospective reinsurance premiums are earned on a pro-rata basis over the
term of the related coverage. The reserve for unearned premiums represents the
portion of the net premiums written relating to the unexpired term of coverage.
Acquisition costs are deferred and amortized over the period in which the
related prospective reinsurance premiums are earned.
Losses and loss adjustment expenses are charged to income as incurred. The
reserve for unpaid claims represents the accumulation of estimates for reported
losses and includes provisions for losses incurred but not reported. The methods
of determining such estimates and establishing resulting reserves are
continually reviewed and updated. Adjustments, if any, resulting therefrom are
reflected in income, currently. The Company does not discount its loss reserves.
(D) STAFFING OPERATIONS
In August 1998, the Company issued 517,085 shares of its common stock in
exchange for all the outstanding common stock of National Explorers and
Travelers Healthcare, Inc. ("NET Healthcare"), an employee staffing company and
provider of temporary registered nurses and other professional medical
personnel, primarily to client hospitals. This business combination has been
accounted for as a pooling-of-interests combination.
Staffing income is recognized at the time the staffing services are
provided. In most instances, the staffing company's temporary healthcare
professionals are considered employees of the staffing company while under
assignment and costs of employment are the responsibility of the staffing
company and are included in the accompanying statements of operations.
F-10
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996 (RESTATED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Receivables include amounts due from healthcare organizations for services
provided by NET Healthcare through the placement of healthcare professionals.
These receivables are presented net of an estimated allowance for uncollectible
accounts based on NET Healthcare's evaluation of expected collections resulting
from an analysis of current and past due accounts, past collection experience in
relation to amounts billed and other relevant information. Concentration of
credit risk relating to accounts receivable is limited by number, diversity and
geographic dispersion of the healthcare organizations serviced by NET
Healthcare.
During 1995, NET Healthcare entered into a line of credit with a shareholder
to provide a total of $190,000 to fund the working capital requirements of NET
Healthcare. The line of credit bore interest at the rate of 5% per annum. In
March 1996, NET Healthcare entered into an additional line of credit with a
shareholder collateralized by outstanding accounts receivable. Interest was
payable at the rate of 2% per month on average outstanding balances. In May
1996, the agreement was amended to allow for additional funding. In May 1997,
the agreement was further amended to increase the interest rate by .5% per month
on approximately $600,000 of the balance of the line of credit. The amended line
of credit, effective April 1, 1998, established a rate of interest of 10% per
annum and eliminated restrictive covenants included in the original agreement.
The line of credit described above had an aggregate outstanding balance of
$2,440,000 at December 31, 1997. Interest expense related to the line of credit
amounted to $608,300 for the year ended December 31, 1997.
The former shareholders of NET Healthcare previously elected to have the
company treated as an "S Corporation" under the Internal Revenue Code and,
therefore, net income or loss was attributable directly to the former
shareholders. Accordingly, no pre-merger benefit for federal or state income
taxes has been reflected in the accompanying combined financial statements.
(E) INVESTMENTS
Fixed maturity securities which the Company has the positive intent and
ability to hold to maturity are classified as "held to maturity" and are
reported at amortized cost. Fixed maturity and equity securities that are bought
and held principally for the purpose of selling them in the near term are
classified as "trading" and are reported at fair value, with unrealized gains
and losses included in income. Fixed maturity and equity securities not
classified as either held to maturity or trading are classified as "available
for sale" and are reported at fair value, with unrealized gains and losses (net
of deferred taxes) charged or credited as a separate component of shareholders'
equity.
Investment income is recorded as earned on the accrual basis and includes
amortization of premiums and accretion of discounts relating to investments
acquired at other than par value. Realized gains or losses on disposal of
investments are determined on a specific identification basis and are included
in revenues.
The Company does not own any on-balance sheet or off-balance sheet
derivative instruments.
(F) PROPERTY AND EQUIPMENT, NET
Property and equipment is stated at cost less accumulated depreciation.
Depreciation is computed using an accelerated method of depreciation over the
estimated useful lives of the related assets, which range from five to seven
years. Leasehold improvements are carried at cost less accumulated amortization
F-11
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996 (RESTATED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
provided on the straight-line basis over the shorter of the lease term or the
estimated useful lives of the improvements.
(G) PREMIUMS PAYABLE
Premiums which are collected from insureds are reported as assets of the
Company and as corresponding liabilities to the insurance carriers. Premiums
received from insureds but not yet remitted to the carriers are held as invested
cash in a fiduciary capacity.
(H) COMMISSION INCOME
Commission income is recognized when premiums are received. Any subsequent
commission adjustments, including policy cancellations, are recognized upon
notification from the insurance carrier or broker.
(I) INCOME TAXES
Prior to the formation of the Company, PEGI had elected to be taxed as an "S
corporation" under the provisions of the Internal Revenue Code. PEGI's
stockholders included in their tax returns the Company's income or loss.
Accordingly, no provision for income taxes is provided in the consolidated
financial statements related to 1996. However, subsequent to the formation of
the Company, PEGI is taxed as a "C corporation" under the provisions of the
Internal Revenue Code. As such, deferred tax assets and liabilities are
recognized for the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are measured
using enacted tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date.
(J) NET INCOME PER SHARE
Net income per common share is based upon the weighted average number of
common shares outstanding during each year. In February 1997, SFAS No. 128,
"Earnings per Share" was issued. This statement requires specific computations,
presentations and disclosures for earnings per share (EPS) amounts in order to
make EPS amounts more compatible with international accounting standards. The
Company adopted SFAS No.128 for the period ended December 31, 1997. This
statement requires any prior period EPS amounts to be restated. The adoption of
SFAS No. 128 had no effect on diluted EPS amounts reported for any periods
presented.
(K) ACCOUNTING PRONOUNCEMENTS
SFAS No. 129, "Disclosures of Information about Capital Structure," was also
issued in February 1997 and is also effective December 31, 1997. This statement
establishes standards for disclosing information about an entity's capital
structure.
On June 30, 1997, the FASB released SFAS No. 130, "Reporting Comprehensive
Income." This statement establishes standards for reporting and displaying
comprehensive income and its components in
F-12
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996 (RESTATED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
a full set of financial statements. SFAS No. 130 requires that all components of
comprehensive income be reported in a financial statement that is displayed with
the same prominence as other financial statements. An example of an item that
will be included in the Company's presentation of comprehensive income, in
addition to net income, is unrealized gains and losses on securities available
for sale. This statement is effective beginning in 1998.
Management believes that there will be no significant impact on the
Company's current financial reporting or disclosures as a result of these
pronouncements.
(L) RECLASSIFICATIONS
Certain items in the Company's 1996 financial statements have been
reclassified to conform with the 1997 presentation.
(2) INVESTMENTS
Net investment income for the years ended December 31, 1997 and 1996 is
summarized as follows:
<TABLE>
<CAPTION>
1997 1996
------------ ---------
<S> <C> <C>
Fixed maturities..................................................... $ 973,839 --
Short-term investments and cash...................................... 420,705 217,314
------------ ---------
Net investment income................................................ $ 1,394,544 217,314
------------ ---------
------------ ---------
</TABLE>
At December 31, 1997, the Company did not hold fixed-maturity securities
which individually exceeded 10% of shareholders' equity except U.S. government
and government agency securities.
Bonds with an amortized cost of $7,877,444 were held in a restricted account
for the benefit of the ceding company (AIG) as unauthorized reinsurance at
December 31, 1997, in accordance with statutory requirements.
The amortized cost and estimated fair values of investments at December 31,
1997 are as follows:
<TABLE>
<CAPTION>
AMOUNT AT
WHICH
SHOWN
GROSS GROSS ESTIMATED IN THE
AMORTIZED UNREALIZED UNREALIZED FAIR BALANCE
COST GAINS LOSSES VALUE SHEET
------------- ----------- ----------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Securities held to maturity:
Fixed maturities:
Obligations of states and political
subdivisions............................ $ 8,015,105 222,564 -- 8,237,669 8,015,105
Obligations of states and political
subdivisions--restricted................ 7,877,444 70,537 -- 7,947,981 7,877,744
------------- ----------- ----------- ------------ ------------
Total fixed maturities.................. $ 15,892,549 293,101 -- 16,185,650 15,892,549
------------- ----------- ----------- ------------ ------------
------------- ----------- ----------- ------------ ------------
</TABLE>
F-13
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996 (RESTATED)
(2) INVESTMENTS (CONTINUED)
The amortized cost and fair value of securities at December 31, 1997, by
contractual maturity date, are presented below:
<TABLE>
<CAPTION>
AMORTIZED FAIR
COST VALUE
------------- ------------
<S> <C> <C>
Fixed maturities held-to-maturity:
Due in one year or less.............................................................. $ -- --
Due after one year through five years................................................ 6,941,072 7,139,209
Due after one year through five years--restricted.................................... 6,803,411 6,849,521
Due after five years through ten years............................................... -- --
Due after ten years.................................................................. 1,074,033 1,098,460
Due after ten years--restricted...................................................... 1,074,033 1,098,460
------------- ------------
15,892,549 16,185,650
Short-term investments............................................................... 7,090,550 7,090,550
------------- ------------
Total.............................................................................. $ 22,983,099 23,276,200
------------- ------------
------------- ------------
</TABLE>
(3) FINANCIAL INSTRUMENTS
The carrying amounts for short-term investments, cash, receivables, accrued
investment and interest income, and accounts payable and accrued expenses
approximate their fair values due to the short-term nature of these instruments.
Estimated fair values for fixed maturities were provided by outside
consultants using market quotations, prices provided by market makers or
estimates of fair values obtained from yield data relating to investment
securities with similar characteristics.
(4) STOCKHOLDERS LOAN
In May 1995, the Company entered into a repurchase agreement with
stockholders (the "Agreement") whereby the Company agreed to repurchase from
them an aggregate of 30 shares of common stock (529,412 shares as adjusted to
give effect to the Exchange) (the "Shares") of the Company. The aggregate
purchase price for the Shares was $600,000 (including interest) to be paid in 24
installments of $25,000. The closing of the Agreement was subject to the
Company's completion of a $600,000 distribution to the stockholders of the
Company, pro rata based on the number of shares of common stock of the Company
outstanding and paid to the stockholders of record on the Agreement date,
without giving effect to the repurchase. The $600,000 distribution was made by
the Company on May 26, 1995.
Pursuant to a subsequent agreement made with the stockholders, the
outstanding loan balance at December 31, 1995 was to be repaid in 23 monthly
installments of $25,000 (including interest) commencing in February 1996. The
outstanding balance of the above-referenced stockholders loan was paid in full
during 1997.
F-14
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997 AND 1996
(5) NONOPERATING INCOME
In January 1996, the Company settled a lawsuit with a major brokerage firm
that had unilaterally canceled an insurance-brokerage agreement. The Company
received $190,000 in settlement of the lawsuit.
(6) INCOME TAXES
U.S. Federal and state income tax expense consists of the following
components:
<TABLE>
<CAPTION>
CURRENT DEFERRED TOTAL
---------- ---------- ---------
<S> <C> <C> <C>
December 31, 1997.............................................................. $ 461,817 (252,837) 208,980
December 31, 1996.............................................................. -- -- --
</TABLE>
State income tax aggregated $97,833 for the year ended December 31, 1997.
Income tax expense for the years ended December 31, 1997 and 1996 differed
from the amount computed by applying the U.S. Federal income tax rate of 34% to
income before Federal income taxes as a result of the following:
<TABLE>
<CAPTION>
1997 1996
---------- ----------
<S> <C> <C>
Expected income tax expense (benefit)..................................................... $ 278,439 (176,952)
State income tax, net..................................................................... 41,993 --
Tax-exempt interest....................................................................... (209,237) --
S Corporation income...................................................................... 39,535 176,952
Other, net................................................................................ 58,250 --
---------- ----------
Total income tax expense.............................................................. $ 208,980 --
---------- ----------
---------- ----------
</TABLE>
As a result of the business combination of NET Healthcare, an "S
corporation," with the Company, a "C corporation," Net Healthcare's "S
corporation" status ceased to exist. The unaudited pro forma information in the
consolidated statements of operations reflect income tax expense (benefit) had
NET Healthcare been taxed as a "C corporation," of ($459,316) and ($194,127) for
the years ended December 31, 1997 and 1996, respectively.
Deferred income taxes are based upon temporary differences between the
financial statement and tax bases of assets and liabilities. The following
deferred taxes are recorded for 1997:
<TABLE>
<S> <C>
Deferred tax assets:
Reserve for unpaid claims....................................................... $ 427,414
Other, net...................................................................... 44,348
---------
Gross deferred tax assets..................................................... 471,762
---------
Deferred tax liabilities:
Commissions receivable.......................................................... (151,454)
Commissions payable............................................................. (67,471)
---------
Gross deferred tax liabilities................................................ (218,925)
---------
Net deferred tax asset...................................................... $ 252,837
---------
---------
</TABLE>
F-15
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996
(6) INCOME TAXES (CONTINUED)
A valuation allowance has not been established as the Company believes it is
more likely than not that the deferred tax asset will be realized.
As a Bermuda domiciled corporation, the Company's reinsurance subsidiary
does not file United States tax returns. The Company currently expects to
operate in such a manner that it is not directly subject to U.S. tax (other than
U.S. excise tax on reinsurance premiums where the risks covered thereby are
reinsured with another foreign insurer which is neither a resident of Bermuda
nor a resident of a third country with a United States tax treaty which entitles
the foreign insurer to exemption from excise tax, and withholding tax on certain
investment income from U.S. sources) because it does not engage in business or
have a permanent establishment in the United States.
The Company's reinsurance subsidiary does, however, constitute a "controlled
foreign corporation" ("CFC") for United States federal income tax purposes. As a
result, the Company includes in its gross income for United States federal
income tax purposes its pro-rata share of the CFC's "subpart F income," even if
such subpart F income is not distributed. Substantially all of the reinsurance
subsidiary's income is subpart F income.
The Company is considering an election under section 953(d) of the Internal
Revenue Code to tax the reinsurance subsidiary as a domestic corporation for
U.S. income tax purposes. The Company believes this election, if made, will not
have a material effect on its income tax expense.
(7) STATUTORY SOLVENCY REQUIREMENTS
The Bermuda Insurance Act of 1978 and related regulations (the "Act")
requires the Company to meet a minimum solvency margin. Statutory capital and
surplus as of December 31, 1997 was $7,309,143 and the amount required to be
maintained by the Company was $3,300,000. In addition, a minimum liquidity ratio
must be maintained whereby relevant assets, as defined by the Act, must exceed
75% of relevant liabilities. Once these requirements have been met, there is no
restriction on the retained earnings available for distribution. At December 31,
1997, the Company was in compliance with this requirement.
F-16
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996
(8) LIABILITY FOR UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
Activity in the liability for unpaid losses and loss adjustment expenses is
summarized as follows for the years ended December 31, 1997 and 1996:
<TABLE>
<CAPTION>
1997 1996
------------ ---------
<S> <C> <C>
Net unpaid losses and loss adjustment expenses at beginning of year...................... $ 199,390 --
------------ ---------
Incurred related to:
Current year........................................................................... 6,257,095 270,251
Prior year............................................................................. -- --
------------ ---------
Total incurred....................................................................... 6,257,095 270,251
------------ ---------
Paid related to:
Current year........................................................................... 348,872 70,861
Prior year............................................................................. -- --
------------ ---------
Total paid........................................................................... 348,872 70,861
------------ ---------
Net unpaid losses and loss adjustment expenses at end of year............................ $ 6,107,613 199,390
------------ ---------
------------ ---------
</TABLE>
(9) STOCK OPTIONS
The following table summarizes stock option activity for 1997:
<TABLE>
<CAPTION>
WEIGHTED
OPTION AVERAGE
SHARES EXERCISE PRICE
--------- ---------------
<S> <C> <C>
Granted................................................................................. 511,500 $ 7.48
Exercised............................................................................... -- --
--------- -----
Outstanding at December 31, 1997........................................................ 511,500 $ 7.48
--------- -----
--------- -----
</TABLE>
The Company had no options outstanding prior to 1997.
The following table summarizes information about stock options outstanding
at December 31, 1997:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
---------------------------- ------------------------
<S> <C> <C> <C> <C> <C>
WEIGHTED
AVERAGE WEIGHTED WEIGHTED
RANGE OF REMAINING AVERAGE AVERAGE
EXERCISE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE
PRICES OUTSTANDING LIFE PRICE EXERCISABLE PRICE
- ---------------------------------------------------- ----------- --------------- ----------- ----------- -----------
$7.00............................................... 75,000 9.52 $ 7.00 -- $ 7.00
7.25................................................ 160,000 9.64 7.25 35,000 7.25
7.75................................................ 276,500 9.10 7.75 300 7.75
----------- --- ----- ----------- -----
$7.00-7.75.......................................... 511,500 9.45 $ 7.48 35,300 $ 7.48
----------- --- ----- ----------- -----
----------- --- ----- ----------- -----
</TABLE>
The Company has elected to follow Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees" (APB 25) and related
Interpretations in accounting for its employee stock
F-17
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996
(9) STOCK OPTIONS (CONTINUED)
options as allowed pursuant to FASB Statement No. 123, "Accounting for Stock
Based Compensation" (FASB Statement 123). FASB Statement 123 requires use of
option valuation models that require the input of highly subjective assumptions,
including expected stock price volatility. Because the Company's employee stock
options have characteristics significantly different from traded options and
because changes in the subjective input assumptions can materially affect the
fair value estimate, in management's opinion, the existing models do not
necessarily provide a reliable measure of the fair value of its employee stock
options.
Had compensation cost for the Company's stock option plans been determined
based on the fair value at the grant date for awards under those plans,
consistent with FASB Statement No. 123, the reduction in the Company's 1997 net
income and net income per share would have been insignificant. The effect of
applying the fair method of accounting for stock options on reported net income
and net income per share for 1997 may not be representative of the effects for
future years because outstanding options vest over a period of several years and
additional awards are generally made each year.
The fair value of options granted was estimated at the date of grant using
the Black-Scholes option pricing model with the following weighted average
assumptions for 1997:
<TABLE>
<S> <C>
Risk-free interest rate............................................................ 6.46%
Expected life...................................................................... 7 years
Expected volatility................................................................ 25%
Expected dividend yield............................................................ 0
</TABLE>
(10) LEASES
In August 1994, the Company entered into an office lease agreement which
became effective on April 1, 1995. The agreement provides for an initial
seven-year term with two five-year renewal options. In October 1995, NET
Healthcare entered into an office lease agreement which became effective on
November 15, 1995. The agreement provides for an initial 5-year term with no
renewal options. The following is a schedule of the approximate future minimum
lease payments for office space and equipment for the Company and NET Healthcare
as of December 31, 1997:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER
31,
-----------------------
<S> <C>
1998..................................................................................... $ 369,000
1999..................................................................................... 405,000
2000..................................................................................... 397,000
2001..................................................................................... 361,000
Thereafter............................................................................... 135,000
-----------
$ 1,667,000
-----------
-----------
</TABLE>
Rent expense for the years ended December 31, 1996 and 1997 was
approximately $187,000 and $249,000, respectively.
F-18
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996
(11) LITIGATION
The Company is a defendant in various litigation matters considered to be in
the normal course of business. While the outcome of these matters cannot be
estimated with certainty, it is the opinion of management (after consultation
with legal counsel) that the resolution of such litigation will not have a
material adverse effect on the Company's financial statements.
(12) UNAUDITED PRO FORMA INFORMATION
Pro forma adjustments for income taxes represent the difference between
historical income taxes and income taxes that would have been reported had the
Company and NET Healthcare filed income tax returns as taxable C corporations
for 1996 and 1997, respectively.
(13) YEAR 2000
Year 2000 issues are the result of computer programs being written using two
digits rather than four to define the applicable year. The Company has developed
a plan to address Year 2000 issues. The plan is based on the Company's primary
software vendor having advised the Company that the necessary programming
changes related to Year 2000 issues have been made and tested and that the
software used by the Company can be upgraded to be Year 2000 compliant. The
Company has recently begun to implement this upgrade and expects to be fully
compliant with Year 2000 issues by December 31, 1998. As an integral component
of such plan, the Company will determine if they are Year 2000 compliant. It is
management's belief that for any suppliers who may not be Year 2000 compliant,
such non-compliance will not have a material adverse effect on the Company's
business. However, each major supplier's compliance will be assessed in light of
their response. The costs associated with the implementation of the above
project are not expected to be material.
(14) SUBSEQUENT EVENTS
In March 1998, the Company consummated the purchase of substantially all of
the assets of HSSI Travel Nurse Operations, Inc. ("Travel Nurse"), a
wholly-owned subsidiary of Hospital Staffing Services, Inc. for $5.0 million in
cash. Based in Ft. Lauderdale, Florida since 1981, Travel Nurse has provided
registered nurses and other professional medical personnel, often referred to as
"Travelers," primarily to client hospitals in the United States and the
Caribbean on a contractual basis for periods generally ranging from 8 to 52
weeks. During 1997, Travel Nurse placed in excess of 700 nurses.
In May 1998, the Company obtained a $3 million unsecured revolving line of
credit from a bank. The terms of the loan provide for monthly interest payments
at the prime lending rate (currently 8 1/2% per annum). The loan is renewable on
an annual basis.
In May 1998, the Company concluded a private placement of $10,580,000 of 7%
convertible subordinated notes (the "Notes") due May 2003. The principal amount
of the Notes is convertible at any time by the holders prior to the earlier of
the maturity date (May 12, 2003) or 10 business days after receipt of a
Termination Notice (as defined below), into shares of the Company's common stock
at a conversion price of $9.00 (the "Conversion Price"). In the event (i) the
closing bid price of the Company's common stock equals or exceeds $13.50 per
share for twenty consecutive trading days during any period commencing upon
satisfaction of one of the conditions contained in clause (ii) hereof and (ii)
either a registration statement covering the shares of common stock issuable
upon conversion of the Notes has been declared
F-19
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1997 AND 1996
(14) SUBSEQUENT EVENTS (CONTINUED)
effective by the Securities and Exchange Commission and remains effective or at
least two years has elapsed since the issuance date of the Notes and the shares
of common stock issuable upon conversion of the Notes are saleable, without
restriction, under Rule 144(k) promulgated under the Securities Act of 1933, as
amended, then the holders' rights to convert the outstanding principal amount of
the Notes shall be terminated by the Company by delivering to the holders a
notice of termination (the "Termination Notice"), in which event (a) the holders
will have the right at any time during 10 business days after receipt of the
Termination Notice, in their sole discretion, to convert the outstanding
principal amount of the Notes into shares of common stock of the Company at the
Conversion Price, and (b) thereafter, the holders' option to convert shall
terminate and the Notes may be prepaid by the Company at any time prior to the
Maturity Date, in whole or in part for the face amount thereof, together with
all accrued and unpaid interest through the date of prepayment.
On August 10, 1998, the Company issued 517,085 shares of its common stock in
exchange for all the outstanding common stock of National Explorers and
Travelers Healthcare, Inc., an employee staffing company and provider of
temporary registered nurses and other professional medical personnel, primarily
to client hospitals. This business combination was accounted for as a
pooling-of-interests combination and, accordingly, the Company's consolidated
financial statements for applicable periods prior to the combination have been
restated to include the accounts and results of operations of NET Healthcare.
F-20
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATING BALANCE SHEET SCHEDULE
DECEMBER 31, 1997 (RESTATED)
<TABLE>
<CAPTION>
PREVIOUSLY NET HEATH-
REPORTED CARE, INC. ADJUSTMENT ADJUSTMENT RESTATED
----------- ----------- ---------- ------------- -----------
<S> <C> <C> <C> <C> <C>
ASSETS
Investments:
Held-to-maturity securities, at amortized cost............ $ 8,015,105 0 8,015,105
Held-to-maturity securities, at amortized cost,
restricted.............................................. 7,877,444 0 7,877,444
Short-term investments.................................... 7,090,550 0 7,090,550
----------- ----------- -----------
Total investments....................................... 22,983,099 0 22,983,099
Cash........................................................ 4,125,147 124 4,125,271
Accrued investment and interest income...................... 311,934 0 311,934
Receivables, net............................................ 585,072 2,114,585 2,699,657
Deferred acquisition costs.................................. 903,880 0 903,880
Property and equipment, net................................. 478,826 230,974 709,800
Deferred tax assets......................................... 252,837 0 252,837
Deposits.................................................... 24,921 129,866 154,787
Other assets................................................ 34,487 68,069 102,556
----------- ----------- -----------
Total assets............................................ $29,700,203 2,543,618 32,243,821
----------- ----------- -----------
----------- ----------- -----------
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Notes payable............................................... $ 0 2,440,000 2,440,000
Unpaid losses and loss adjustment expenses.................. 6,107,613 0 6,107,613
Unearned premiums........................................... 2,671,831 0 2,671,831
Premiums payable............................................ 3,064,103 0 3,064,103
Commissions payable......................................... 330,055 0 330,055
Other liabilities........................................... 4,750,082 465,305 5,215,387
Accounts payable and accrued expenses....................... 508,127 852,486 1,360,613
Deferred reinsurance income................................. 279,980 0 279,980
----------- ----------- -----------
Total liabilities....................................... 17,711,791 3,757,791 21,469,582
----------- ----------- -----------
Shareholders' equity:
Common stock................................................ 52,544 10,000 5,171 (2) (10,000)(1) 57,715
Additional paid-in capital.................................. 10,367,074 0 (1,224,173)(3) 4,829 (1)(2) 9,147,730
Retained earnings (deficit)................................. 2,074,351 (1,224,173) 1,224,173 (3) 2,074,351
----------- ----------- ---------- ------------- -----------
Total shareholders' equity.................................. 12,493,969 (1,214,173) 0 0 11,279,796
Treasury stock, at cost..................................... (505,557) 0 0 0 (505,557)
----------- ----------- ---------- ------------- -----------
Net shareholders' equity.................................... 11,988,412 (1,214,173) 0 0 10,774,239
----------- ----------- ---------- ------------- -----------
Total liabilities and shareholders' equity.................. $29,700,203 2,543,618 0 0 32,243,821
----------- ----------- ---------- ------------- -----------
----------- ----------- ---------- ------------- -----------
</TABLE>
- ------------------------
(1) To eliminate merged company common stock.
(2) To record common stock exchanged in connection with merger.
(3) To transfer undistributed deficit to paid-in capital.
See accompanying auditors' report on supplementary consolidating schedules.
F-21
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATING SCHEDULES OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997 AND 1996 (RESTATED)
<TABLE>
<CAPTION>
DECEMBER 31, 1997
------------------------------------------
NET
PREVIOUSLY HEALTHCARE,
REPORTED INC. ADJUSTMENT
------------ --------------- -----------
<S> <C> <C> <C>
REVENUES:
Premiums earned............................................................ $ 11,674,659 0
Net commission income...................................................... 2,359,445 0
Net Investment income...................................................... 1,394,544 0
Staffing income............................................................ 0 11,594,300
Other income............................................................... 570,464 0
------------ ---------------
Total revenues............................................................. 15,999,112 11,594,300
------------ ---------------
EXPENSES:
Losses and loss adjustment expenses........................................ 6,257,095 0
Amortization of deferred acquisition costs................................. 4,161,884 0
Staffing costs............................................................. 0 9,610,778
Other expenses............................................................. 4,145,201 1,935,607
------------ ---------------
Total expenses............................................................. 14,564,180 11,546,385
------------ ---------------
Operating income (loss) before income taxes................................ 1,434,932 47,915
------------ ---------------
Interest expense........................................................... (16,534) (647,375)
Non-operating income....................................................... 0 0
------------ ---------------
Net non-operating income (expense)......................................... (16,534) (647,375)
------------ ---------------
Income (loss) before income taxes.......................................... 1,418,398 (599,460)
Income taxes............................................................... 208,980 0
------------ ---------------
Net income (loss).......................................................... $ 1,209,418 (599,460)
------------ ---------------
------------ ---------------
Net income (loss)--basic................................................... $ 1,209,418 (599,460)
Impact of convertible notes................................................ 0 0
------------ ---------------
Net income (loss)--diluted................................................. $ 1,209,418 (599,460)
------------ ---------------
------------ ---------------
Weighted average shares outstanding--basic................................. 4,513,562 4,513,562 517,085
Impact of convertible notes................................................ 0 0 0
------------ --------------- -----------
Weighted average shares outstanding--diluted............................... 4,513,562 4,513,562 517,085
------------ --------------- -----------
------------ --------------- -----------
Basic earnings (loss) per share............................................ $ 0.27 (0.13)
------------ ---------------
------------ ---------------
Diluted earnings (loss) per share.......................................... $ 0.27 (0.13)
------------ ---------------
------------ ---------------
PRO FORMA INFORMATION (UNAUDITED):
Historical income (loss) before income taxes............................... $ 1,209,418 (599,460)
Pro forma income tax provision (benefit)................................... 0 (459,316)
------------ ---------------
Pro forma net income (loss)................................................ $ 1,209,418 (140,144)
------------ ---------------
------------ ---------------
Pro forma net income (loss)--basic......................................... $ 1,209,418 (140,144)
Impact of potential common shares--convertible notes....................... 0 0
------------ ---------------
Pro forma net income (loss)--diluted....................................... $ 1,209,418 (140,144)
------------ ---------------
------------ ---------------
Weighted average shares outstanding--basic................................. 4,513,562 4,513,562 517,085
Impact of potential common shares--convertible notes....................... 0 0 0
------------ --------------- -----------
Weighted average shares outstanding--diluted............................... 4,513,562 4,513,562 517,085
------------ --------------- -----------
------------ --------------- -----------
Pro forma net basic earnings (loss) per share.............................. $ 0.27 (.03)
------------ ---------------
------------ ---------------
Pro forma net diluted earnings (loss) per share............................ $ 0.27 (.03)
------------ ---------------
------------ ---------------
<CAPTION>
DECEMBER 31, 1996
-----------------------------
NET
PREVIOUSLY HEALTHCARE,
RESTATED REPORTED INC.
------------ ------------ ---------------
<S> <C> <C>
REVENUES:
Premiums earned............................................................ 11,674,659 524,760
Net commission income...................................................... 2,359,445 2,462,625 0
Net Investment income...................................................... 1,394,544 217,314 0
Staffing income............................................................ 11,594,300 0 2,613,967
Other income............................................................... 570,464 136,431 0
------------ ------------ ---------------
Total revenues............................................................. 27,593,412 3,341,130 2,613,967
------------ ------------ ---------------
EXPENSES:
Losses and loss adjustment expenses........................................ 6,257,095 270,251 0
Amortization of deferred acquisition costs................................. 4,161,884 177,526 0
Staffing costs............................................................. 9,610,778 0 2,218,456
Other expenses............................................................. 6,080,808 2,937,145 908,122
------------ ------------ ---------------
Total expenses............................................................. 26,110,565 3,384,922 3,126,578
------------ ------------ ---------------
Operating income (loss) before income taxes................................ 1,482,847 (43,792) (512,611)
------------ ------------ ---------------
Interest expense........................................................... (663,909) (41,942) (112,102)
Non-operating income....................................................... 0 190,000 0
------------ ------------ ---------------
Net non-operating income (expense)......................................... (663,909) 148,058 (112,102)
------------ ------------ ---------------
Income (loss) before income taxes.......................................... 818,938 104,266 (624,713)
Income taxes............................................................... 208,980 0 0
------------ ------------ ---------------
Net income (loss).......................................................... 609,958 104,266 (624,713)
------------ ------------ ---------------
------------ ------------ ---------------
Net income (loss)--basic................................................... 609,958 104,266 (624,713)
Impact of convertible notes................................................ 0 0 0
------------ ------------ ---------------
Net income (loss)--diluted................................................. 609,958 104,266 (624,713)
------------ ------------ ---------------
------------ ------------ ---------------
Weighted average shares outstanding--basic................................. 5,030,647 3,000,000 3,000,000
Impact of convertible notes................................................ 0 0 0
------------ ------------ ---------------
Weighted average shares outstanding--diluted............................... 5,030,647 3,000,000 3,000,000
------------ ------------ ---------------
------------ ------------ ---------------
Basic earnings (loss) per share............................................ 0.12 0.03 (0.21)
------------ ------------ ---------------
------------ ------------ ---------------
Diluted earnings (loss) per share.......................................... 0.12 0.03 (0.21)
------------ ------------ ---------------
------------ ------------ ---------------
PRO FORMA INFORMATION (UNAUDITED):
Historical income (loss) before income taxes............................... 609,958 104,266 (624,713)
Pro forma income tax provision (benefit)................................... (459,316) 38,891 (233,018)
------------ ------------ ---------------
Pro forma net income (loss)................................................ 1,069,274 65,375 (391,695)
------------ ------------ ---------------
------------ ------------ ---------------
Pro forma net income (loss)--basic......................................... 1,069,274 65,375 (391,695)
Impact of potential common shares--convertible notes....................... 0 0 0
------------ ------------ ---------------
Pro forma net income (loss)--diluted....................................... 1,069,274 65,375 (391,695)
------------ ------------ ---------------
------------ ------------ ---------------
Weighted average shares outstanding--basic................................. 5,030,647 3,000,000 3,000,000
Impact of potential common shares--convertible notes....................... 0 0 0
------------ ------------ ---------------
Weighted average shares outstanding--diluted............................... 5,030,647 3,000,000 3,000,000
------------ ------------ ---------------
------------ ------------ ---------------
Pro forma net basic earnings (loss) per share.............................. 0.21 0.02 (0.13)
------------ ------------ ---------------
------------ ------------ ---------------
Pro forma net diluted earnings (loss) per share............................ 0.21 0.02 (0.13)
------------ ------------ ---------------
------------ ------------ ---------------
<CAPTION>
ADJUSTMENT RESTATED
----------- ------------
REVENUES:
Premiums earned............................................................ 524,760
Net commission income...................................................... 2,462,625
Net Investment income...................................................... 217,314
Staffing income............................................................ 2,613,967
Other income............................................................... 136,431
------------
Total revenues............................................................. 5,955,097
------------
EXPENSES:
Losses and loss adjustment expenses........................................ 270,251
Amortization of deferred acquisition costs................................. 177,526
Staffing costs............................................................. 2,218,456
Other expenses............................................................. 3,845,267
------------
Total expenses............................................................. 6,511,500
------------
Operating income (loss) before income taxes................................ (556,403)
------------
Interest expense........................................................... (154,044)
Non-operating income....................................................... 190,000
------------
Net non-operating income (expense)......................................... 35,956
------------
Income (loss) before income taxes.......................................... (520,447)
Income taxes............................................................... 0
------------
Net income (loss).......................................................... (520,447)
------------
------------
Net income (loss)--basic................................................... (520,477)
Impact of convertible notes................................................ 0
------------
Net income (loss)--diluted................................................. (520,477)
------------
------------
Weighted average shares outstanding--basic................................. 517,085 3,517,085
Impact of convertible notes................................................ 0 0
----------- ------------
Weighted average shares outstanding--diluted............................... 517,085 3,517,085
----------- ------------
----------- ------------
Basic earnings (loss) per share............................................ (0.15)
------------
------------
Diluted earnings (loss) per share.......................................... (0.15)
------------
------------
PRO FORMA INFORMATION (UNAUDITED):
Historical income (loss) before income taxes............................... (520,447)
Pro forma income tax provision (benefit)................................... (194,127)
------------
Pro forma net income (loss)................................................ (326,320)
------------
------------
Pro forma net income (loss)--basic......................................... (326,320)
Impact of potential common shares--convertible notes....................... 0
------------
Pro forma net income (loss)--diluted....................................... (326,320)
------------
------------
Weighted average shares outstanding--basic................................. 517,085 3,517,085
Impact of potential common shares--convertible notes....................... 0 0
----------- ------------
Weighted average shares outstanding--diluted............................... 517,085 3,517,085
----------- ------------
----------- ------------
Pro forma net basic earnings (loss) per share.............................. (0.09)
------------
------------
Pro forma net diluted earnings (loss) per share............................ (0.09)
------------
------------
</TABLE>
See accompanying auditors' report on supplementary consolidating schedules.
F-22
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATING SCHEDULES OF SHAREHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1997 AND 1996 (RESTATED)
<TABLE>
<CAPTION>
DECEMBER 31, 1997
-----------------------------------------------------------------------
<S> <C> <C> <C> <C>
PREVIOUSLY NET
REPORTED HEALTHCARE, INC. ADJUSTMENT RESTATED
----------- ---------------- ---------------- --------------------
COMMON STOCK-NUMBER OF SHARES:
Balance at beginning of
period...................... 3,529,412 10,000 (10,000)(1) 3,529,412
Exchange of common shares..... 0 0 517,085 (2) 517,085
Issuance of common shares..... 1,725,000 0 0 1,725,000
----------- ---------------- ---------------- --------------------
Balance at end of period...... 5,254,412 10,000 507,085 5,771,497
----------- ---------------- ---------------- --------------------
----------- ---------------- ---------------- --------------------
Common stock:
Balance at beginning of
period...................... $ 35,294 10,000 (10,000)(1) 35,294
Exchange of common shares..... 0 0 5,171 (2) 5,171
Issuance of common shares..... 17,250 0 0 17,250
----------- ---------------- ---------------- --------------------
Balance at end of period...... $ 52,544 10,000 (4,829) 57,715
----------- ---------------- ---------------- --------------------
----------- ---------------- ---------------- --------------------
Additional paid-in capital:
Balance at beginning of
period...................... $ 0 0 0 0
Exchange of common shares..... 0 0 (1,224,173)(3) (1,224,173)
Issuance of common shares..... 10,367,074 0 4,829 (1)(2) 10,371,903
----------- ---------------- ---------------- --------------------
Balance at end of period...... $10,367,074 0 (1,219,344) 9,147,730
----------- ---------------- ---------------- --------------------
----------- ---------------- ---------------- --------------------
Retained earnings (deficit):
Balance at beginning of
period...................... $ 864,933 (624,713) 624,713(3) 864,933
Net income (loss)............. 1,209,418 (599,460) 599,460(3) 1,209,418
----------- ---------------- ---------------- --------------------
Balance at end of period...... $ 2,074,351 (1,224,173) 1,224,173 2,074,351
----------- ---------------- ---------------- --------------------
----------- ---------------- ---------------- --------------------
Treasury stock:
Balance at end of period...... $ (505,557) 0 0 (505,557)
----------- ---------------- ---------------- --------------------
Total shareholders' equity.... $11,988,412 (1,214,173) 0 10,774,239
----------- ---------------- ---------------- --------------------
----------- ---------------- ---------------- --------------------
<CAPTION>
DECEMBER 31, 1996
----------------------------------------------------------------------------
<S> <C> <C> <C> <C>
PREVIOUSLY NET
REPORTED HEALTHCARE, INC. ADJUSTMENT RESTATED
---------------- ---------------- --------------------- --------------
COMMON STOCK-NUMBER OF SHARES:
Balance at beginning of
period...................... 3,529,412 10,000 (10,000)(1) 3,529,412
Exchange of common shares..... 0 0 517,085 (2) 517,085
Issuance of common shares..... 0 0 0 0
---------------- ---------------- ---------- --------------
Balance at end of period...... 3,529,412 10,000 507,085 4,046,497
---------------- ---------------- ---------- --------------
---------------- ---------------- ---------- --------------
Common stock:
Balance at beginning of
period...................... 35,294 10,000 (10,000)(1) 35,294
Exchange of common shares..... 0 0 5,171 (2) 5,171
Issuance of common shares..... 0 0 0 0
---------------- ---------------- ---------- --------------
Balance at end of period...... 35,294 10,000 (4,829) 40,465
---------------- ---------------- ---------- --------------
---------------- ---------------- ---------- --------------
Additional paid-in capital:
Balance at beginning of
period...................... 0 0 0
Exchange of common shares..... 0 0 (624,713)(3) (624,713)
Issuance of common shares..... 0 0 4,829 (1)(2) 4,829
---------------- ---------------- ---------- --------------
Balance at end of period...... 0 0 (619,884) (619,884)
---------------- ---------------- ---------- --------------
---------------- ---------------- ---------- --------------
Retained earnings (deficit):
Balance at beginning of
period...................... 760,667 0 0 760,667
Net income (loss)............. 104,266 (624,713) 624,713(3) 104,266
---------------- ---------------- ---------- --------------
Balance at end of period...... 864,933 (624,713) 624,713 864,933
---------------- ---------------- ---------- --------------
---------------- ---------------- ---------- --------------
Treasury stock:
Balance at end of period...... (505,557) 0 0 (505,557)
---------------- ---------------- ---------- --------------
Total shareholders' equity.... 394,670 (614,713) 0 (220,043)
---------------- ---------------- ---------- --------------
---------------- ---------------- ---------- --------------
</TABLE>
- ------------
(1) To eliminate merged company common stock.
(2) To record common stock exchanged in connection with merger.
(3) To transfer undistributed deficit to paid-in capital.
See accompanying auditors' report on supplementary consolidating schedules.
F-23
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATING SCHEDULES OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997 AND 1996 (RESTATED)
<TABLE>
<CAPTION>
DECEMBER 31, 1997 DECEMBER 31, 1996
-------------------------------------- ------------------------------------
<S> <C> <C> <C> <C> <C> <C>
PREVIOUSLY NET HEALTH- PREVIOUSLY NET HEALTH-
REPORTED CARE, INC. RESTATED REPORTED CARE, INC. RESTATED
----------- ------------ ----------- ---------- ------------ ----------
Cash flow from operating activities:
Net income (loss)....................... $ 1,209,418 (599,460) 609,958 104,266 (624,713) (520,447)
Adjustments to reconcile net income
(loss) to net cash provided by (used
in) operating activities:
Depreciation and amortization......... 150,341 51,971 202,312 161,132 21,635 182,767
Amortization of deferred acquisition
costs............................... 4,161,884 0 4,161,884 177,526 0 177,526
Deferred income taxes................. (252,837) 0 (252,837) 0 0 0
Provision for uncollectible
accounts............................ 0 106,367 106,367 0 23,212 23,212
Change in:
Accrued investment income......... (311,934) 0 (311,934) 0 0 0
Receivables....................... 3,344,344 (1,036,857) 2,307,487 (3,583,802) (742,002) (4,325,804)
Unpaid losses and loss adjustment
expenses........................ 5,908,223 0 5,908,223 199,390 0 199,390
Unearned premiums................. 782,854 0 782,854 1,888,977 0 1,888,977
Premium payable................... (521,487) 0 (521,487) 1,231,676 0 1,231,676
Commissions payable............... (179,302) 0 (179,302) 212,769 0 212,769
Accounts payable and accrued
expenses........................ 135,437 561,415 696,852 367,215 272,962 640,177
Deferred reinsurance income....... (1,054,421) 0 (1,054,421) 1,334,401 0 1,334,401
Other, net........................ (1,857,061) (92,933) (1,949,994) 1,083,264 (66,682) 1,016,582
----------- ------------ ----------- ---------- ------------ ----------
Net cash provided by (used in)
operating activities.......... 11,515,459 (1,009,497) 10,505,962 3,176,814 (1,115,588) 2,061,226
----------- ------------ ----------- ---------- ------------ ----------
Cash flow from investing activities:
Purchase of fixed maturities............ (15,892,549) 0 (15,892,549) 0 0 0
Purchase of short-term investments,
net................................... (7,090,550) 0 (7,090,550) 0 0 0
Purchase of property and equipment...... (82,677) (185,793) (268,470) (130,503) (118,787) (249,290)
----------- ------------ ----------- ---------- ------------ ----------
Net cash used in investing activities... (23,065,776) (185,793) (23,251,569) (130,503) (118,787) (249,290)
----------- ------------ ----------- ---------- ------------ ----------
Cash flow from financing activities:
Proceeds from sale of common stock...... 10,384,324 0 10,384,324 0 0 0
Repayment of shareholder loan........... (300,000) 0 (300,000) (275,000) 0 (275,000)
Borrowings from revolving line of
credit, net........................... 0 1,114,779 1,114,779 0 1,285,221 1,285,221
Other, net.............................. 0 27,008 27,008 0 (8,899) (8,899)
----------- ------------ ----------- ---------- ------------ ----------
Net cash provided by (used in) financing
activities............................ 10,084,324 1,141,787 11,226,111 (275,000) 1,276,322 1,001,322
----------- ------------ ----------- ---------- ------------ ----------
Net (decrease) increase in cash........... (1,465,993) (53,503) (1,519,496) 2,771,311 41,947 2,813,258
Cash at beginning of period............... 5,591,140 53,627 5,644,767 2,819,829 11,680 2,831,509
----------- ------------ ----------- ---------- ------------ ----------
Cash at end of period..................... $ 4,125,147 124 4,125,271 5,591,140 53,627 5,644,767
----------- ------------ ----------- ---------- ------------ ----------
----------- ------------ ----------- ---------- ------------ ----------
Supplemental disclosure of cash flow
information:
Income taxes paid....................... $ 202,300 0 202,300 0 0 0
----------- ------------ ----------- ---------- ------------ ----------
----------- ------------ ----------- ---------- ------------ ----------
Interest paid........................... $ 0 638,235 638,235 0 103,069 103,069
----------- ------------ ----------- ---------- ------------ ----------
----------- ------------ ----------- ---------- ------------ ----------
</TABLE>
See accompanying auditors' report on supplementary consolidating schedules.
F-24
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
SEPTEMBER 30, 1998 (UNAUDITED)
<TABLE>
<S> <C>
ASSETS
Investments:
Held-to-maturity securities, at amortized cost
(fair value of $14,183,395)................... $13,893,979
Held-to-maturity securities, at amortized
cost--restricted (fair value of $8,403,360)... 8,231,564
Short-term investments.......................... 7,445,249
------------
Total investments............................. 29,570,792
Cash.............................................. 4,436,391
Accrued investment and interest income............ 301,496
Accounts, commissions and premiums receivable,
net............................................. 9,491,612
Deferred acquisition costs........................ 1,775,668
Property and equipment, net....................... 698,670
Goodwill and other intangible assets, net......... 4,863,892
Deposits.......................................... 316,684
Other assets...................................... 2,710,216
------------
Total assets.................................. $54,165,421
------------
------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Notes payable................................... $12,580,000
Unpaid losses and loss adjustment expenses...... 12,125,200
Unearned premiums............................... 5,248,797
Premiums payable................................ 2,416,030
Commissions payable............................. 318,998
Other liabilities............................... 4,518,849
Accounts payable and accrued expenses........... 4,322,877
Deferred reinsurance income..................... 279,980
Deferred tax liability.......................... 33,134
------------
Total liabilities............................. 41,843,865
------------
Shareholder's equity:
Common stock, $0.01 par value; authorized
20,000,000 shares; issued 5,771,497 shares.... 57,715
Additional paid-in capital...................... 9,891,562
Retained earnings............................... 2,877,836
------------
Total shareholders' equity.................... 12,827,113
Treasury stock, at cost, 529,412 shares......... (505,557 )
------------
Net shareholders' equity...................... 12,321,556
------------
Total liabilities and shareholders' equity.... $54,165,421
------------
------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-25
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997 RESTATED (UNAUDITED)
<TABLE>
<CAPTION>
RESTATED
1998 1997
------------ ------------
<S> <C> <C>
Revenues:
Premiums earned................................. $ 11,680,679 8,037,839
Net investment income........................... 1,336,311 1,103,531
Net commission income........................... 1,522,462 1,779,908
Staffing income................................. 24,283,415 7,854,896
Other income.................................... 384,913 426,599
------------ ------------
Total revenues................................ 39,207,780 19,202,773
------------ ------------
Expenses:
Losses and loss adjustment expenses incurred.... 6,201,515 4,357,452
Amortization of deferred acquisition costs...... 3,819,177 2,916,611
Staffing costs.................................. 18,989,081 6,382,069
Other operating expenses........................ 7,099,442 4,605,080
------------ ------------
Total operating expenses...................... 36,109,215 18,261,212
------------ ------------
Operating income before income taxes.............. 3,098,565 941,561
------------ ------------
Interest expense.................................. 783,348 457,652
Amortization of intangible assets and other
non-operating expenses.......................... 445,226 --
------------ ------------
Total non-operating expenses.................. 1,228,574 457,652
------------ ------------
Income before income taxes........................ 1,869,991 483,909
Income taxes...................................... 322,673 212,542
------------ ------------
Net income...................................... $ 1,547,318 271,367
------------ ------------
------------ ------------
Net income--basic................................. $ 1,547,318 271,367
Impact of potential common shares--convertible
notes........................................... 75,378 --
------------ ------------
Net income--diluted............................... $ 1,622,696 271,367
------------ ------------
------------ ------------
Weighted average outstanding shares--basic........ 5,242,085 4,959,393
Impact of potential common shares--convertible
notes........................................... 589,652 --
------------ ------------
Common shares and common shares equivalents used
in computing
net earnings per share--diluted................. 5,831,737 4,959,393
------------ ------------
------------ ------------
Net basic earnings per share...................... $ .30 $ .05
------------ ------------
------------ ------------
Net diluted earnings per share.................... $ .28 $ .05
------------ ------------
------------ ------------
PRO FORMA INFORMATION (UNAUDITED) (Note 5):
Historical income before income taxes............. $ 1,869,991 483,909
Pro forma income tax provision (benefit).......... 647,134 (174,861)
------------ ------------
Pro forma net income.............................. $ 1,222,857 658,770
------------ ------------
------------ ------------
Pro forma net income--basic....................... $ 1,222,857 658,770
Impact of potential common shares--convertible
notes........................................... 75,378 --
------------ ------------
Pro forma net income--diluted..................... $ 1,298,235 658,770
------------ ------------
------------ ------------
Weighted average shares outstanding--basic........ 5,242,085 4,959,393
Impact of potential common shares--convertible
notes........................................... 589,652 --
------------ ------------
Weighted average shares outstanding--diluted...... 5,831,737 4,959,393
------------ ------------
------------ ------------
Pro forma net basic earnings per share............ $ .23 .13
------------ ------------
------------ ------------
Pro forma net diluted earnings per share.......... $ .22 .13
------------ ------------
------------ ------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-26
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997 RESTATED (UNAUDITED)
<TABLE>
<CAPTION>
RESTATED
1998 1997
------------ ------------
<S> <C> <C>
Cash flow from operating activities:
Net income...................................... $ 1,547,318 271,367
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization................. 702,260 114,297
Amortization of deferred acquisition costs.... 3,819,177 2,916,611
Deferred income taxes......................... (285,971) --
Provision for uncollectible accounts.......... (45,765) 80,503
Change in:
Accrued investment and interest income........ 10,438 (234,756)
Accounts, commissions and premiums
receivable.................................. (6,746,190) 2,611,460
Deferred acquisition costs.................... (4,690,965) (2,916,611)
Unpaid losses and loss adjustment expenses.... 6,017,588 4,095,750
Unearned premiums............................. 2,576,966 (1,888,977)
Premiums payable.............................. (648,073) 186,713
Commissions payable........................... (11,057) (190,698)
Accounts payable and accrued expenses......... 3,000,591 2,689,093
Deferred reinsurance income................... -- (1,054,421)
Other, net.................................... (2,337,243) 2,156,421
------------ ------------
Net cash provided by operating activities... 2,909,074 8,836,752
------------ ------------
Cash flow from investing activities:
Purchase of subsidiary.......................... (5,000,000) --
Purchase of short-term investments, net......... (6,587,693) --
Purchase of property and equipment.............. (153,848) (223,806)
------------ ------------
Net cash used in investing activities....... (11,741,541) (223,806)
------------ ------------
Cash flow from financing activities:
Proceeds from sale of common stock.............. -- 10,384,324
Repayment of shareholder loan................... -- (225,000)
Proceeds from subordinated convertible notes
payable....................................... 9,621,914 --
Borrowings from revolving line of credit, net... 2,000,000 1,182,324
Repayment of lines of credit.................... (2,440,000) --
Other, net...................................... (38,327) 87,770
------------ ------------
Net cash provided by financing activities... 9,143,587 11,429,418
------------ ------------
Net increase in cash.............................. 311,120 20,042,364
Cash at beginning of period....................... 4,125,271 5,644,767
------------ ------------
Cash at end of period............................. $ 4,436,391 $ 25,687,131
------------ ------------
------------ ------------
Supplemental disclosure of cash flow information:
Income taxes paid............................... $ 950,000 --
------------ ------------
------------ ------------
Interest paid................................... $ 584,666 439,301
------------ ------------
------------ ------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-27
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
(UNAUDITED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(A) BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information. Accordingly, they do not include all of the information
and notes 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,
1998 are not necessarily indicative of the results that may be expected for the
year ended December 31, 1998. These unaudited consolidated financial statements
and notes should be read in conjunction with the financial statements and notes
included in the audited consolidated financial statements of the Company for the
year ended December 31, 1997, as restated.
The accompanying unaudited consolidated financial statements of the Company
and its subsidiaries are prepared in accordance with generally accepted
accounting principles. These principles vary in certain respects from statutory
accounting practices prescribed or permitted by regulatory authorities. The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates, based on
information available, in recording transactions resulting from business
operations. The balance sheet amounts that involve a greater extent of
accounting estimates and actuarial determinations subject to future changes are
the Company's liabilities for unpaid losses and loss adjustment expenses. As
additional information becomes available (or actual amounts are determinable),
the recorded estimates may be revised and reflected in operating results. While
management believes that the liability for unpaid losses and loss adjustment
expenses is adequate to cover the ultimate liability, such estimates may be more
or less than the amounts actually paid when claims are settled.
(B) ORGANIZATION
Preferred Employers Holdings, Inc. (the "Company") is the successor company
to Preferred Employers Group, Inc. ("PEGI"). In February 1997, the Company
completed an initial public offering of 1,725,000 shares of common stock
(including the underwriter's over-allotment option) at a price of $7.25 per
share. Immediately prior to the Company's initial public offering, the Company
and the stockholders of PEGI (the "Exchanging Stockholders") effected a
recapitalization whereby the Company exchanged 17,647.06 shares of common stock
for each share of common stock of PEGI held by the Exchanging Stockholders (the
"Exchange"). As a result of the Exchange, PEGI became a wholly-owned subsidiary
of the Company. Except as otherwise specified or when the context otherwise
requires, references to the Company herein include Preferred Employers Holdings,
Inc. and PEGI, through which the Company conducts certain of its business.
In March 1998, the Company, through a wholly-owned subsidiary, consummated
the purchase of substantially all the assets of HSSI Travel Nurse Operations,
Inc. ("Travel Nurse"), a wholly-owned subsidiary of Hospital Staffing Services,
Inc., for $5.0 million in cash. Based in Ft. Lauderdale, Florida since 1981,
Travel Nurse has provided registered nurses and other professional medical
personnel, often referred to as "Travelers," primarily to client hospitals in
the United States and the Caribbean on a contractual basis for periods generally
ranging from 8 to 52 weeks. During 1997, Travel Nurse placed in excess of 700
nurses.
F-28
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
In August 1998, the Company issued 517,085 shares of its common stock in
exchange for all the outstanding common stock of National Explorers and
Travelers Healthcare, Inc. ("NET Healthcare"), an employee staffing company and
provider of temporary registered nurses and other professional medical
personnel, primarily to client hospitals. This business combination was
accounted for as a pooling-of-interests combination and, accordingly, the
Company's consolidated financial statements for applicable periods prior to the
combination have been restated to include the accounts and results of operations
of NET Healthcare.
The Company was appointed as a general agent ("GA") by the American
International Group of Companies ("AIG"), a major group of international
insurance carriers, on January 1, 1993. In this regard, the Company is
authorized to write workers' compensation as well as other forms of "property
and casualty" business (such other forms of insurance being hereinafter referred
to as "Package") on behalf of AIG. In addition, the Company was appointed as a
GA by General Accident Insurance Company of America ("GAIC") on September 1,
1994, with the authority to write all forms of commercial property and casualty
business for family style and fast-food restaurants. On June 11, 1996, GAIC
advised the Company that it would no longer write Package insurance for
fast-food restaurants; however, on March 20, 1997, the Company was appointed as
a GA by the Kemper Group of Insurance Companies with the authority to write
workers' compensation and other forms of commercial property and casualty
business for family style and fast-food restaurants and convenience stores.
(C) INSURANCE OPERATIONS
In 1996, the Company formed a Bermuda licensed reinsurance subsidiary (the
"Reinsurer") and entered into a reinsurance agreement (the "Agreement") with AIG
during the fourth quarter of 1996. The Agreement provides that the Reinsurer
assume certain workers' compensation and employer's liability insurance policies
from AIG with policy inception dates as of January 1, 1996 and subsequent.
Although the Reinsurer assumes the risks associated with being a reinsurer, the
Agreement limits the liability of the Reinsurer for losses and certain defined
expenses to the first $300,000 per occurrence. In addition, the Agreement limits
the aggregate liability of the Reinsurer for all coverage to an amount not to
exceed 70 percent of the gross written premium for each individual underwriting
year.
Because the Agreement is effective for all business written on or after
January 1, 1996, the policies written prior to the execution of the Agreement
and formation of the Reinsurer are accounted for as retroactive reinsurance. The
principal difference between the accounting for retroactive and prospective
reinsurance is that revenue and costs of retroactive reinsurance are deferred
and accreted into income over the claim-settlement period rather than over the
period for which contractual coverage is provided, as would be the case under
prospective reinsurance. Retroactive insurance accounting does not change the
amount of income to be recognized, but rather extends the period of recognition
from one year--the period of coverage, to six years--the period over which
claims liabilities from the business are expected to be settled. Cash flows from
the reinsurance transactions are not affected by the accounting treatment.
The accompanying financial statements reflect a composite
retroactive/prospective accounting treatment with business written prior to
October 1, 1996 being accounted for as retroactive and business written
subsequent thereto accounted for as prospective.
F-29
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The effects of prospective and retroactive insurance accounting treatment
are illustrated below. The prospective method assumes that the Agreement
incepted on January 1, 1996, and provides for a loss ratio of 51.5%, acquisition
costs of 33.83%, aggregate net premiums written of approximately $15 million
($12,600,000 relating to the period from January 1 through September 30, 1996)
and an investment yield of 6.5% on net cash flows. The retroactive (deposit)
method uses the same assumptions except that since the Agreement was not
executed until October 1996, any investment income on net cash flows earned for
the period from January through September 1996 are deferred and recognized as
"other income" over the payment period of the remaining claim liabilities.
Income before income taxes recognized, and estimated to be recognized in the
calendar year indicated below, is as follows:
<TABLE>
<CAPTION>
COMPOSITE
PROSPECTIVE RETROACTIVE/
METHOD (PRO PROSPECTIVE
YEARS FORMA) (ACTUAL)
- ------------------------------------------------------------------- ------------ -----------
<S> <C> <C>
1996............................................................... $ 1,658,000 324,000
1997............................................................... 1,288,000 1,372,000
1998-2001.......................................................... 1,314,000 2,564,000
------------ -----------
$ 4,260,000 4,260,000
------------ -----------
------------ -----------
</TABLE>
It should be noted that the table presented above is for illustrative
purposes only to highlight that the basis of accounting used only impacts the
timing of the net revenue recognition and not the aggregate economic results.
Further, it should be noted that the above table is based on estimates as to the
amount and timing of aggregate loss and loss expense payments, available
investment yields and acquisition and other costs associated with the provision
of insurance protection. Actual results may vary, perhaps materially, from those
illustrated above. No assurance is given or may be taken that subsequent
revisions of estimates will not have a material impact on the illustration
above.
Prospective reinsurance premiums are earned on a pro-rata basis over the
term of the related coverage. The reserve for unearned premiums represents the
portion of the net premiums written relating to the unexpired term of coverage.
Acquisition costs are deferred and amortized over the period in which the
related prospective reinsurance premiums are earned.
Losses and loss adjustment expenses are charged to income as incurred. The
reserve for unpaid claims represents the accumulation of estimates for reported
losses and includes provisions for losses incurred but not reported. The methods
of determining such estimates and establishing resulting reserves are
continually reviewed and updated. Adjustments, if any, resulting therefrom are
reflected in income currently. The Company does not discount its loss reserves.
(D) STAFFING OPERATIONS
In March 1998, the Company purchased substantially all of the assets of
Travel Nurse for $5.0 million in cash. Based in Fort Lauderdale, Florida since
1981, Travel Nurse has provided registered nurses and other professional medical
personnel, often referred to as "Travelers," primarily to client hospitals in
the
F-30
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
United States and the Caribbean on a contractual basis for periods generally
ranging from 8 to 52 weeks. During 1997, Travel Nurse placed in excess of 700
nurses.
In August 1998, the Company issued 517,085 shares of its common stock in
exchange for all the outstanding common stock of NET Healthcare, an employee
staffing company and provider of temporary registered nurses and other
professional medical personnel, primarily to client hospitals. This business
combination was accounted for as a pooling-of-interests combination.
Staffing income is recognized at the time the staffing services are
provided. In most instances, the staffing company's temporary healthcare
professionals are considered employees of the staffing company while under
assignment and costs of employment are the responsibility of the staffing
company and are included in the accompanying statements of operations.
Receivables include amounts due from healthcare organizations for services
provided by Travel Nurse and NET Healthcare through the placement of healthcare
professionals. These receivables are presented net of an estimated allowance for
uncollectible accounts based on an evaluation of expected collections resulting
from an analysis of current and past due accounts, past collection experience in
relation to amounts billed and other relevant information. Concentration of
credit risk relating to accounts receivable is limited by number, diversity and
geographic dispersion of the healthcare organizations serviced by Travel Nurse
and NET Healthcare.
During 1995, NET Healthcare entered into a line of credit with a shareholder
to provide a total of $190,000 to fund the working capital requirements of NET
Healthcare. The line of credit bore interest at the rate of 5% per annum. In
March 1996, NET Healthcare entered into an additional line of credit with a
shareholder collateralized by outstanding accounts receivable. Interest was
payable at the rate of 2% per month on average outstanding balances. In May
1996, the agreement was amended to allow for additional funding. In May 1997,
the agreement was further amended to increase the interest rate by .5% per month
on approximately $600,000 of the balance of the line of credit. The amended line
of credit, effective April 1, 1998, established a rate of interest of 10% per
annum and eliminated restrictive covenants included in the original agreement.
The line of credit described above had an aggregate outstanding balance of
$2,440,000 at December 31, 1997. Interest expense related to the line of credit
amounted to $240,884 and $608,300 for the nine months ended September 30, 1998
and for the year ended December 31, 1997, respectively. The aggregate
outstanding balance together with its related accrued interest expense was paid
in full subsequent to the merger of NET Healthcare and the Company.
The goodwill associated with the Company's acquisition of substantially all
of the assets of Travel Nurse is amortized over 30 years.
The former shareholders of NET Healthcare previously elected to have the
company treated as an "S Corporation" under the Internal Revenue Code and,
therefore, net income or loss was attributable directly to the former
shareholders. Accordingly, no pre-merger benefit for the federal or state income
taxes has been reflected in the accompanying combined financial statements. In
addition, an adjustment has been made to the restated stockholders' equity of
the Company as of September 30, 1998 and December 31, 1997 to eliminate the
untaxed effects of including NET Healthcare's results of operations in the
combined financial statements of the Company.
F-31
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(E) INVESTMENTS
Fixed maturity securities which the Company has the positive intent and
ability to hold to maturity are classified as "held to maturity" and are
reported at amortized cost. Fixed maturity and equity securities that are bought
and held principally for the purpose of selling them in the near term are
classified as "trading" and are reported at fair value, with unrealized gains
and losses included in income. Fixed maturity and equity securities not
classified as either held to maturity or trading are classified as "available
for sale" and are reported at fair value, with unrealized gains and losses (net
of deferred taxes) charged or credited as a separate component of shareholders'
equity.
Investment income is recorded as earned on the accrual basis and includes
amortization of premiums and accretion of discounts relating to investments
acquired at other than par value. Realized gains or losses on disposal of
investments are determined on a specific identification basis and are included
in revenues.
The Company does not own any on-balance sheet or off-balance sheet
derivative instruments.
(F) PROPERTY AND EQUIPMENT, NET
Property and equipment is stated at cost less accumulated depreciation.
Depreciation is computed using an accelerated method of depreciation over the
estimated useful lives of the related assets, which range from five to seven
years. Leasehold improvements are carried at cost less accumulated amortization
provided on the straight-line basis over the shorter of the lease term or the
estimated useful lives of the improvements.
(G) PREMIUMS PAYABLE
Premiums which are collected from insureds are reported as assets of the
Company and as corresponding liabilities to the insurance carriers. Premiums
received from insureds but not yet remitted to the carriers are held as invested
cash in a fiduciary capacity.
(H) COMMISSION INCOME
Commission income is recognized when premiums are received. Any subsequent
commission adjustments, including policy cancellations, are recognized upon
notification from the insurance carrier or broker.
(I) INCOME TAXES
Prior to the formation of the Company, PEGI had elected to be taxed as an "S
corporation" under the provisions of the Internal Revenue Code. PEGI's
stockholders included in their tax returns the Company's income or loss.
However, subsequent to the formation of the Company, PEGI is taxed as a "C
corporation" under the provisions of the Internal Revenue Code. As such,
deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
basis. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.
F-32
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(J) NET EARNINGS PER SHARE
Net earnings per common share is based upon the weighted average number of
common shares outstanding during each period. In February 1997, SFAS No. 128,
"Earnings per Share" was issued. This statement requires specific computations,
presentation and disclosures for earnings per share (EPS) amounts in order to
make EPS amounts more compatible with international accounting standards. The
Company adopted SFAS No. 128 for the period ended December 31, 1997. This
statement requires that any prior period EPS amounts be restated. Stock options
outstanding at September 30, 1998 and 1997 of 916,500 and 250,000, respectively,
had no effect on diluted earnings per share amounts.
In May 1998, the Company concluded a private placement of 7% convertible
subordinated notes due May 12, 2003 in the aggregate principal amount of
$10,580,000. The effect on diluted earnings per share amounts is presented in
the accompanying unaudited statements of operations.
(K) RECLASSIFICATIONS
Certain items in the 1997 financial statements have been reclassified to
conform with the 1998 presentation.
(2) INVESTMENTS
At September 30, 1998 and December 31, 1997, the Company did not hold
fixed-maturity securities which individually exceeded 10% of shareholders'
equity except U.S. government and government agency securities.
Bonds with an amortized cost of $8,231,564 and $7,877,444 were held in a
restricted account for the benefit of the ceding company (AIG) as unauthorized
reinsurance at September 30, 1998 and December 31, 1997, respectively, in
accordance with statutory requirements.
The amortized cost and estimated fair values of investments at September 30,
1998 and December 31, 1997 are as follows:
<TABLE>
<CAPTION>
AMOUNT AT
GROSS GROSS WHICH SHOWN
UNREALIZED UNREALIZED ESTIMATED IN THE
AMORTIZED COST GAINS LOSSES FAIR VALUE BALANCE SHEET
-------------- ----------- ----------- ------------ -------------
<S> <C> <C> <C> <C> <C>
Securities held to maturity:
September 30, 1998:
Fixed maturities:
Obligations of states and political
subdivisions......................... $ 13,893,979 289,416 -- 14,183,395 13,893,979
Obligations of states and political
subdivisions--restricted............. 8,231,564 171,796 -- 8,403,360 8,231,564
-------------- ----------- ----------- ------------ -------------
Total fixed maturities..................... $ 22,125,543 461,212 -- 22,586,755 22,125,543
-------------- ----------- ----------- ------------ -------------
-------------- ----------- ----------- ------------ -------------
</TABLE>
F-33
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(2) INVESTMENTS (CONTINUED)
<TABLE>
<CAPTION>
AMOUNT AT
GROSS GROSS WHICH SHOWN
UNREALIZED UNREALIZED ESTIMATED IN THE
AMORTIZED COST GAINS LOSSES FAIR VALUE BALANCE SHEET
-------------- ----------- ----------- ------------ -------------
<S> <C> <C> <C> <C> <C>
December 31, 1997:
Fixed maturities:
Obligations of states and political
subdivisions......................... $ 8,015,105 222,564 -- 8,237,669 8,015,105
Obligations of states and political
subdivisions--restricted............. 7,877,444 70,537 -- 7,947,981 7,877,744
-------------- ----------- ----------- ------------ -------------
Total fixed maturities..................... $ 15,892,549 293,101 -- 16,185,650 15,892,549
-------------- ----------- ----------- ------------ -------------
-------------- ----------- ----------- ------------ -------------
</TABLE>
The amortized cost and fair value of securities at September 30, 1998 and
December 31, 1997, by contractual maturity date, are presented below:
<TABLE>
<CAPTION>
SEPTEMBER 30, 1998 DECEMBER 31, 1997
--------------------------- --------------------------
AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE
------------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
Fixed maturities held-to-maturity:
Due in one year or less............................ -- -- -- --
Due after one year through five years.............. $ 12,830,608 13,088,075 6,941,072 7,139,209
Due after one year through five years--
restricted....................................... 7,168,193 7,308,040 6,803,411 6,849,521
Due after five years through ten years............. -- -- -- --
Due after ten years................................ 1,063,371 1,095,320 1,074,033 1,098,460
Due after ten years--restricted.................... 1,063,371 1,095,320 1,074,033 1,098,460
------------- ------------ ------------ ------------
22,125,543 22,586,755 15,892,549 16,185,650
Short-term investments............................. 7,445,249 7,445,249 7,090,550 7,090,550
------------- ------------ ------------ ------------
Total............................................ $ 29,570,792 30,032,004 22,983,099 23,276,200
------------- ------------ ------------ ------------
------------- ------------ ------------ ------------
</TABLE>
(3) FINANCIAL INSTRUMENTS
The carrying amounts for short-term investments, cash, accounts, commissions
and premiums receivable, accrued investment and interest income, notes payable,
premiums payable, commissions payable and accounts payable and accrued expenses
approximate their fair values due to the short-term nature of these instruments.
Estimated fair values for fixed maturities were provided by outside
consultants using market quotations, prices provided by market makers or
estimates of fair values obtained from yield data relating to investment
securities with similar characteristics. The carrying amount for the 7%
convertible subordinated notes is $10,580,000 and the related estimated fair
value is $9,965,069 which was determined by management based on available market
information and appropriate valuation methodologies.
F-34
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(4) STOCKHOLDERS LOAN
In May 1995, the Company entered into a repurchase agreement with
stockholders (the "Agreement") whereby the Company agreed to repurchase from
them an aggregate of 30 shares of common stock (529,412 shares as adjusted to
give effect to the Exchange) (the "Shares") of the Company. The aggregate
purchase price for the Shares was $600,000 (including interest) to be paid in 24
installments of $25,000. The closing of the Agreement was subject to the
Company's completion of a $600,000 distribution to the stockholders of the
Company, pro rata based on the number of shares of common stock of the Company
outstanding and paid to the stockholders of record on the Agreement date,
without giving effect to the repurchase. The $600,000 distribution was made by
the Company on May 26, 1995.
Pursuant to a subsequent agreement made with the stockholders, the
outstanding loan balance at December 31, 1995 was to be repaid in 23 monthly
installments of $25,000 (including interest) commencing in February 1996. The
outstanding balance of the above-referenced stockholder loan was paid in full
during 1997.
(5) INCOME TAXES
U.S. Federal and state income tax expense (benefit) consists of the
following components:
<TABLE>
<CAPTION>
FOR THE NINE MONTHS ENDED
- ---------------------------------------------------------
<S> <C> <C> <C>
September 30, 1998....................................... $ 36,702 285,971 322,673
September 30, 1997....................................... $ 212,543 -- 212,543
</TABLE>
Income tax expense for the nine months ended September 30, 1998 and 1997
differed from the amount computed by applying the U.S. Federal income tax rate
of 34% to income before Federal income taxes as a result of the following:
<TABLE>
<CAPTION>
FOR THE NINE MONTHS
ENDED SEPTEMBER 30,
----------------------
1998 1997
---------- ----------
<S> <C> <C>
Expected income tax expense.................................................. $ 635,797 164,529
State income tax, net........................................................ 48,059 12,436
Tax-exempt interest.......................................................... (227,064) (174,313)
Travel and entertainment..................................................... 37,299 --
S Corporation income......................................................... (252,903) 205,093
Other, net................................................................... 81,485 4,798
---------- ----------
Total income tax expense................................................... $ 322,673 212,543
---------- ----------
---------- ----------
</TABLE>
As a result of the business combination of NET Healthcare, an "S
corporation," with the Company, a "C corporation," NET Healthcare's "S
corporation" status ceased to exist. The unaudited pro forma information in the
Company's consolidated statements of operations reflect income tax expense
(benefit) had NET Healthcare been taxed as a "C corporation," of $647,134 and
($174,861) for the nine months ended September 30, 1998 and 1997, respectively.
F-35
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(5) INCOME TAXES (CONTINUED)
Deferred income taxes are based upon temporary differences between the
financial statement and tax bases of assets and liabilities. The following
deferred taxes are recorded for September 30, 1998 and December 31, 1997:
<TABLE>
<CAPTION>
1998 1997
------------- ----------
<S> <C> <C>
Deferred tax assets:
Unearned premiums................................................ $ 451,955 --
Reserve for unpaid claims........................................ 782,904 427,414
Other, net....................................................... -- 44,348
------------- ----------
Gross deferred tax assets...................................... 1,234,859 471,762
------------- ----------
Deferred tax liabilities:
Cash to accrual change........................................... (436,555) --
Commissions receivable........................................... -- (151,454)
Commissions payable.............................................. -- (67,471)
Deferred acquisition costs....................................... (764,482) --
Other, net....................................................... (66,956) --
------------- ----------
Gross deferred tax liabilities................................... (1,267,993) (218,925)
------------- ----------
Net deferred (liability) asset................................. $ (33,134) 252,837
------------- ----------
------------- ----------
</TABLE>
A valuation allowance has not been established as the Company believes it is
more likely than not that the deferred tax asset will be realized.
The Company's reinsurance subsidiary is a Bermuda domiciled corporation. The
reinsurance subsidiary is a "controlled foreign corporation" ("CFC") for United
States federal income tax purposes. As a result, the Company includes in its
gross income for United States federal income tax purposes its pro-rata share of
the CFC's "subpart F income" even if such subpart F income is not distributed.
Substantially all of the income of the Company's reinsurance subsidiary is
subpart F income.
The Company has elected under section 953(d) of the Internal Revenue Code to
tax its reinsurance subsidiary as a domestic corporation for U.S. Income Tax
purposes. The Company does not believe this election has a material effect on
its income tax expense.
(6) ANNUAL STATUTORY SOLVENCY REQUIREMENTS
The Bermuda Insurance Act of 1978 and related regulations (the "Act")
requires the Company to meet a minimum solvency margin. Statutory capital and
surplus as of December 31, 1997 was $7,309,143 and the amount required to be
maintained by the Company was $3,300,000. In addition, a minimum liquidity ratio
must be maintained whereby relevant assets, as defined by the Act, must exceed
75% of relevant liabilities. Once these requirements have been met, there is no
restriction on the retained earnings available for distribution. At September
30, 1998 and December 31, 1997, the Company was in compliance with this
requirement.
F-36
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(7) LIABILITY FOR UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
Activity in the liability for unpaid losses and loss adjustment expenses is
summarized as follows for the nine months ended September 30, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
------------- ----------
<S> <C> <C>
Unpaid losses and loss adjustment expenses at beginning of
period.......................................................... $ 6,107,613 199,390
------------- ----------
Incurred related to:
Current year.................................................... 6,201,515 4,357,452
Prior year...................................................... -- --
------------- ----------
Total incurred................................................ 6,201,515 4,357,452
------------- ----------
Paid related to:
Current year.................................................... 183,928 261,702
Prior year...................................................... -- --
------------- ----------
Total paid.................................................... 183,928 261,702
------------- ----------
Unpaid losses and loss adjustment expenses at end of period....... $ 12,125,200 4,295,140
------------- ----------
------------- ----------
</TABLE>
(8) UNSECURED REVOLVING LINE OF CREDIT
In May 1998, the Company obtained a $3 million unsecured revolving line of
credit from a bank. The terms of the loan provide for monthly interest payments
at the bank's prime lending rate (currently 8 1/4% per annum). The loan is
renewable on an annual basis. As of September 30, 1998, the aggregate amount
outstanding under the line of credit was $2 million.
(9) SUBORDINATED CONVERTIBLE NOTES
In May 1998, the Company concluded a private placement of $10,580,000 of 7%
convertible subordinated notes (the "Notes") due May 2003. The principal amount
of the Notes is convertible at any time upon the earlier of the maturity date
(May 12, 2003) or 10 business days after receipt of a termination notice at the
option of the holders into shares of the Company's common stock at a conversion
price of $9.00 (the "Conversion Price"). In the event (i) the closing bid price
of the Company's common stock equals or exceeds $13.50 per share for twenty
consecutive trading days during any period commencing upon satisfaction of one
of the conditions contained in clause (ii) described herein and (ii) either a
registration statement covering the shares of common stock issuable upon
conversion of the Notes has been declared effective by the Securities and
Exchange Commission and remains effective or at least two years has elapsed
since the issuance date of the Notes and the shares of common stock issuable
upon conversion of the Notes are saleable, without restriction, under Rule
144(k) promulgated under the Securities Act of 1933, as amended, then the
holders' right to convert the outstanding principal amount of the Notes shall be
terminated by the Company by delivering to the holders a notice of termination
(the "Termination Notice"), in which event (a) the holders will have the right
at any time during 10 business days after receipt of the Termination Notice, in
their sole discretion, to convert the outstanding principal
F-37
<PAGE>
PREFERRED EMPLOYERS HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 1998
(UNAUDITED)
(9) SUBORDINATED CONVERTIBLE NOTES (CONTINUED)
amount of the Notes into shares of common stock of the Company at the Conversion
Price, and (b) thereafter, the holders' option to convert shall terminate and
the Notes may be prepaid by the Company, at any time prior to the Maturity Date,
in whole or in part for the face amount thereof, together with all accrued and
unpaid interest through the date of prepayment.
(10) LITIGATION
The Company is a defendant in various litigation matters considered to be in
the normal course of business. While the outcome of these matters cannot be
estimated with certainty, it is the opinion of management (after consultation
with legal counsel) that the resolution of such litigation will not have a
material adverse effect on the Company's financial statements.
(11) YEAR 2000
Year 2000 issues are the result of computer programs being written using two
digits rather than four to define the applicable year. The Company has developed
a plan to address Year 2000 issues. The plan is based on the Company's primary
software vendor having advised the Company that the necessary programming
changes related to Year 2000 issues have been made and tested and that the
software used by the Company can be upgraded to be Year 2000 compliant. The
Company has recently begun to implement this upgrade and expects to be fully
compliant with Year 2000 issues by December 31, 1998. As an integral component
of such plan, the Company will determine if they are Year 2000 compliant. It is
management's belief that for any suppliers who may not be Year 2000 compliant,
such non-compliance will not have a material adverse effect on the Company's
business. However, each major supplier's compliance will be assessed in light of
their response. The costs associated with the implementation of the above
project are not expected to be material.
F-38
<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
2,041,441 SHARES
PREFERRED EMPLOYERS HOLDINGS, INC.
COMMON STOCK
--------------
PROSPECTUS
--------------
DECEMBER , 1998
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Section 145 of the Delaware General Corporation Law, among other things, and
subject to certain conditions, authorizes Preferred to indemnify its officers
and directors against certain liabilities and expenses incurred by such persons
in connection with claims made against them as a result of their being an
officer or director of Preferred. Consistent therewith Preferred's Certificate
of Incorporation requires that Preferred indemnify all persons whom it may
indemnify pursuant thereto to the fullest extent permitted by Section 145 of the
Delaware General Corporation Law.
In addition, Preferred's Certificate of Incorporation provides that
directors of Preferred shall not be liable for monetary damages to Preferred or
its stockholders for a breach of fiduciary duty as a director, except for
liability as a result of (i) a breach of the director's duty of loyalty to
Preferred or its stockholders, (ii) acts or omissions not in good faith or which
involve intentional misconduct or a knowing violation of law, (iii) an act
related to certain unlawful dividend payments or stock redemptions or purchases,
or (iv) any transaction from which the director derived an improper benefit. The
effect of these provisions is to eliminate the right of Preferred and its
stockholders (through stockholders' derivative suits on behalf of Preferred) to
recover monetary damages against any director for breach of fiduciary duty as a
director (including breaches resulting from negligent or grossly negligent
behavior) except for situations described in clauses (i)-(iv) of the preceding
sentence. These provisions will not affect the availability of injunctive relief
for breach of fiduciary duty or alter the liability of directors under federal
securities laws.
Pursuant to the Shareholders Agreement, Preferred has agreed to indemnify
each of Mr. Odzer and Mr. Harris for all fines, liabilities, settlements, costs
and expenses, including attorneys' fees, asserted against him or incurred by him
in his capacity as an officer, director, trustee, partner, agent or employee.
Preferred maintains a policy of insurance under which the directors and
officers of Preferred are insured, subject to the limits of the policy, against
certain losses arising from claims made against such directors and officers by
reason of any acts or omissions covered under such policy in their respective
capacities as directors or officers, including liabilities under the Securities
Act.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of Preferred
pursuant to the foregoing provisions, or otherwise, Preferred has been advised
that, in the opinion of the Securities and Exchange Commission, such
indemnification is against public policy as expressed in the Securities Act and
is, therefore, unenforceable.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The following table sets forth the expenses to be incurred and borne by
Preferred in connection with the sale of the shares offered hereby. All amounts
shown are estimates, except for the Securities and Exchange Commission and
Nasdaq filing fees.
<TABLE>
<S> <C>
Securities and Exchange Commission filing fee..................... $ 1,079
Nasdaq SmallCap Market additional share listing fee............... $ 5,171
Legal fees and expenses........................................... $ 50,000
Accounting fees and expenses...................................... $ 35,000
Blue Sky fees and expenses........................................ $ 2,000
Printing and engraving expenses................................... $ 30,000
Miscellaneous..................................................... $ 16,750
---------
Total fees and expenses..................................... $ 140,000
---------
---------
</TABLE>
II-1
<PAGE>
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES
The following paragraphs set forth certain information with respect to the
common stock sold by Preferred within the past three years preceding the filing
of this Registration Statement, in transactions that were not registered under
the Securities Act pursuant to the provisions of Section 4(2) thereof:
Immediately prior to the Preferred's initial public offering, Preferred and
the stockholders of Preferred Employers Group, Inc. ("PEGI") in February 1997,
(the "Exchanging Stockholders") effected a recapitalization whereby Preferred
exchanged 17,647.06 shares of Common Stock for each share of common stock of
PEGI held by the Exchanging Stockholders (the "Exchange").
In May 1998, Preferred consummated a private placement of 7% convertible
subordinated notes due May 2003 (the "Notes") in the aggregate principal amount
of $10,580,000.
In August 1998, Preferred and Preferred Staffing exchanged, through a
pooling-of-interests, all of the outstanding capital stock of National Explorers
and Travelers Healthcare, Inc. for 517,085 shares of Preferred's common stock.
ITEM 27. EXHIBITS.
The following is a list of Exhibits filed as a part of this Registration
Statement:
<TABLE>
<CAPTION>
EXHIBITS DESCRIPTION OF DOCUMENT PAGE
- --------- ------------------------------------------------------------------------------------------------ ---------
<C> <S> <C>
3.1 Certificate of Incorporation of Preferred (Incorporated herein by reference to Exhibit 3.1 to
Preferred's Registration Statement on Form SB-2, No. 333-14103).
3.2 By-Laws of Preferred (Incorporated herein by reference to Exhibit 3.2 to Preferred's
Registration Statement on Form SB-2, No. 333-14103).
4.1 Form of Representative Warrants (Incorporated herein by reference to Exhibit 4.1 to Preferred's
Registration Statement on Form SB-2, No. 333-14103).
4.2 Specimen Common Stock Certificate (Incorporated herein by reference to Exhibit 4.2 to
Preferred's Registration Statement on Form SB-2, No. 333-14103).
4.3 Form of 7% Convertible Subordinated Note (Incorporated herein by reference to Exhibit 4.1 to
Preferred's Current Report on Form 8-K, dated May 4, 1998 (filed on June 2, 1998)).
4.4 Form of Agent's Warrant (Incorporated herein by reference to Exhibit 4.2 to Preferred's Current
Report on Form 8-K, dated May 4, 1998 (filed on June 2, 1998)).
*5.1 Opinion of Baer Marks & Upham LLP (validity of shares).
10.1 Form of Preferred's 1996 Employee Stock Option Agreement (Incorporated herein by reference to
Exhibit 10.1 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.2 Form of Share Escrow Agreement among Preferred, Baer Marks & Upham LLP and Howard Odzer together
with the Letter Agreement Regarding Additional Terms (Incorporated herein by reference to
Exhibit 10.2 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.3 Employment Agreement, dated May 15, 1995, between Preferred and Howard Odzer (Incorporated
herein by reference to Exhibit 10.3 to Preferred's Registration Statement on Form SB-2, No.
333-14103).
10.4 Form of Employment Agreement between Preferred and Mel Harris (Incorporated herein by reference
to Exhibit 10.4 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
</TABLE>
II-2
<PAGE>
<TABLE>
<CAPTION>
EXHIBITS DESCRIPTION OF DOCUMENT PAGE
- --------- ------------------------------------------------------------------------------------------------ ---------
<C> <S> <C>
10.5 Letter dated October 21, 1996, from Preferred to New Hampshire Insurance Company regarding the
Reinsurance Agreement among P.E.G. Reinsurance Company, Ltd., The Insurance Company of the State
of Pennsylvania and other AIG Affiliates and Form of Reinsurance Agreement (Incorporated herein
by reference to Exhibit 10.5 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.6 Office Space Lease Agreement, dated August 1, 1994, between Preferred and K/B Opportunity Fund
I, LP and PEGI (Incorporated herein by reference to Exhibit 10.6 to Preferred's Registration
Statement on Form SB-2, No. 333-14103).
10.7 Form of Advisory Services Letter Agreement between Preferred and the Representative
(Incorporated herein by reference to Exhibit 10.7 to Preferred's Registration Statement on Form
SB-2, No. 333-14103).
10.8 Stock Repurchase Agreement dated as of May 15, 1995, among Preferred, Howard Odzer and Ronald
Rothstein (Incorporated herein by reference to Exhibit 10.8 to Preferred's Registration
Statement on Form SB-2, No. 333-14103).
10.9 Cost Sharing Agreement dated January 3, 1996, between Preferred and International Insurance
Group, Inc. (Incorporated herein by reference to Exhibit 10.9 to Preferred's Registration
Statement on Form SB-2, No. 333-14103).
10.10 Form of Share Exchange Agreement among Preferred and certain stockholders of PEGI listed therein
(Incorporated herein by reference to Exhibit 10.10 to Preferred's Registration Statement on Form
SB-2, No. 333-14103).
10.11 Amended and Restated Shareholders Agreement dated as of May 15, 1995, among Preferred, Howard
Odzer and Mel Harris (Incorporated herein by reference to Exhibit 10.11 to Preferred's
Registration Statement on Form SB-2, No. 333-14103).
10.12 Form of Employment Agreement between Preferred and Howard Odzer (Incorporated herein by
reference to Exhibit 10.12 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.13 Agency Agreement dated September 1, 1994, among Preferred, General Accident Insurance Company of
America ("GAIC") and certain affiliates of GAIC (Incorporated herein by reference to Exhibit
10.13 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.14 General Agency Agreement dated January 1, 1993, among Preferred, The Insurance Company of the
State of Pennsylvania and certain affiliates of AIG (Incorporated herein by reference to Exhibit
10.14 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.15 Preferred's 1996 Stock Option Plan (Incorporated by reference to Preferred's Annual Report on
form 10KSB for the year ended December 31, 1997).
10.16 Employment Agreement dated July 7, 1997, between Preferred and D. Mark Olson (Incorporated
herein by reference to Preferred's Current Report on Form 8-K, dated July 7, 1997 (filed on July
9, 1997)).
10.17 Asset Purchase Agreement dated as of January 21, 1998, among HSSI Travel Nurse Operations, Inc.,
Hospital Staffing Services, Inc. and Preferred Employers Acquisition Corp. (Incorporated herein
by reference to Preferred's Current Report on Form 8-K, dated March 6, 1998 (filed on March 16,
1998)).
</TABLE>
II-3
<PAGE>
<TABLE>
<CAPTION>
EXHIBITS DESCRIPTION OF DOCUMENT PAGE
- --------- ------------------------------------------------------------------------------------------------ ---------
<C> <S> <C>
10.18 Shareholders Agreement dated as of February 11, 1997, among Preferred, Howard Odzer and Mel
Harris (Incorporated hereby by reference to the Company's Annual Report on Form 10-KSB/A No. 1
for the year ended December 31, 1997).
10.19 Loan Agreement, dated May 4, 1998, between Preferred Healthcare Staffing, Inc. and City National
Bank of Florida (Incorporated herein by reference to Exhibit 10.1 to Preferred's Current Report
on Form 8-K, dated May 4, 1998 (filed on June 2, 1998)).
10.20 Promissory Note and Security Agreement dated April 27, 1998, by Preferred Healthcare Staffing,
Inc. to City National Bank of Florida (Incorporated herein by reference to Exhibit 10.2 to
Preferred's Current Report on Form 8-K, dated May 4, 1998 (filed on June 2, 1998)).
10.21 Continuous Guaranty, dated May 5, 1998, by Preferred to City National Bank of Florida
(Incorporated herein by reference to Exhibit 10.3 to Preferred's Current Report on Form 8-K,
dated May 4, 1998 (filed on June 2, 1998)).
10.22 Stock Purchase Agreement, dated July 10, 1998, by and among Preferred Healthcare Staffing, Inc.,
Debbie Bender-Balazich, Steven Barth, Steven Jones and Stephen M. McLaughlin (Incorporated
herein by reference to Exhibit 10.1 to Preferred's Current Report on Form 8-K, dated July 10,
1998 (filed on July 28, 1998)).
10.23 Employment Agreement, made as of August 10, 1998, between Preferred Healthcare Staffing, Inc.
and Debbie Bender-Balazich. (Incorporated herein by reference to Exhibit 10.1 to Preferred's
Current Report on Form 8-K, dated August 19, 1998 (filed on August 20, 1998)).
10.24 Stock Option Agreement, dated as of August 10, 1998, between Preferred and Debbie
Bender-Balazich. (Incorporated herein by reference to Exhibit 10.2 to Preferred's Current Report
on Form 8-K, dated August 19, 1998 (filed on August 20, 1998)).
10.25 Employment Agreement, dated as of August 10, 1998, between Preferred Healthcare Staffing, Inc.
and Stephen M. McLaughlin. (Incorporated herein by reference to Exhibit 10.3 to Preferred's
Current Report on Form 8-K, dated August 19, 1998 (filed on August 20, 1998)).
10.26 Stock Option Agreement, dated as of August 10, 1998, between Preferred and Stephen M.
McLaughlin. (Incorporated herein by reference to Exhibit 10.4 to Preferred's Current Report on
Form 8-K, dated August 19, 1998 (filed on August 20, 1998)).
10.27 Registration Rights Agreement, dated as of August 10, 1998, by and among Preferred and Debbie
Bender-Balazich, Steven Barth, Steven Jones and Stephen M. McLaughlin. (Incorporated herein by
reference to Exhibit 10.5 to Preferred's Current Report on Form 8-K, dated August 19, 1998
(filed on August 20, 1998)).
*21.1 Subsidiaries of the Company.
**23.1 Consent of KPMG Peat Marwick LLP, Independent Accountants.
**23.2 Consent of PricewaterhouseCoopers LLP, Independent Accountants.
*23.3 Consent of Baer Marks & Upham LLP (included in Exhibit 5.1).
*24.1 Power of Attorney (Included on the signature page of this Registration Statement).
*27.1 Financial Data Schedule (not required).
</TABLE>
- ------------------------
* Previously filed.
** Filed herewith.
II-4
<PAGE>
ITEM 28. UNDERTAKINGS.
(a) Preferred hereby undertakes the following:
(1) To file, during any period in which offers or sales are being made,
a post-effective amendment to this Registration Statement to include any
prospectus required by Section 10(a)(3) of the Securities Act, any material
information with respect to the plan of distribution not previously
disclosed in this Registration Statement or any material change to such
information in this Registration Statement.
(2) That, for the purpose of determining liability under the Securities
Act, each such post-effective amendment shall be deemed to be a new
Registration Statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial
bona fide offering thereof.
(3) To file a post-effective amendment to remove from registration any
of the securities that remain unsold at the termination of the Offering.
(b) Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of Preferred
pursuant to the foregoing provisions, or otherwise, Preferred has been advised
that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in the Securities Act and
is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by Preferred of expenses
incurred or paid by a director, officer or controlling person of Preferred in
the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, Preferred will, unless in the opinion of its counsel the matter has
been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against the
public policy as expressed in the Securities Act and will be governed by the
final adjudication of such issue.
(c) That it will:
(1) For determining any liability under the Securities Act, treat the
information omitted from the form of prospectus filed as part of this
Registration Statement in reliance upon Rule 430A and contained in a form
prospectus filed by Preferred under Rule 424(b)(1),or (4), or 497(h) under
the Securities Act as part of this Registration Statement as of the time the
Commission declared it effective.
(2) For determining any liability under the Securities Act, treat each
post-effective amendment that contains a form of prospectus as a new
registration statement for the securities offered in the registration
statement, and that offering of the Common Stock at that time as the initial
bona fide offering of those securities.
II-5
<PAGE>
SIGNATURES
In accordance with the requirements of the Securities Act of 1933, the
Registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements for filing on Form SB-2 and authorized this Registration
Statement to be signed on its behalf by the undersigned, in the City of Miami,
State of Florida, on December 17, 1998.
<TABLE>
<S> <C> <C>
PREFERRED EMPLOYERS HOLDINGS, INC
By: *
------------------------------------------
Mel Harris
CHAIRMAN, PRESIDENT
AND CHIEF EXECUTIVE OFFICER
</TABLE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each director and officer whose
signature appears below constitutes and appoints Mel Harris and William R.
Dresback or each of them, as his true and lawful attorneys-in-fact and agents,
with full powers of substitution and resubstitution, for him and in his name,
place and stead, to sign in any and all capacities any and all amendments
(including posteffective amendments) to this Registration Statement on Form SB-2
and to file the same, with all exhibits thereto and all other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done,
as fully to all intents and purposes as he might or could do in person, hereby
ratifying and confirming all that such attorneys-in-fact and agents, or any of
them, may lawfully do or cause to be done by virtue hereof.
In accordance with the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities and on the dates stated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------ ------------------------------ -------------------
<C> <S> <C>
Chairman of the Board,
* President, Chief Executive
- ------------------------------ Officer and Director December 17, 1998
Mel Harris (Principal Executive
Officer)
Senior Vice President, Chief
/s/ WILLIAM R. DRESBACK Financial Officer and
- ------------------------------ Secretary (Principal December 17, 1998
William R. Dresback Financial and Accounting
Officer)
*
- ------------------------------ Director December 17, 1998
Stuart J. Gordon
*
- ------------------------------ Director December 17, 1998
Jack D. Burstein
*
- ------------------------------ Director December 17, 1998
Maxwell M. Rabb
*By: /s/ WILLIAM R.
DRESBACK
- ------------------------------
William R. Dresback
Attorney-in-Fact
</TABLE>
II-6
<PAGE>
INDEX TO EXHIBITS FILED WITH
FORM SB-2 REGISTRATION STATEMENT
<TABLE>
<CAPTION>
EXHIBITS DESCRIPTION OF DOCUMENT PAGE
- --------- ------------------------------------------------------------------------------------------------ -----------
<C> <S> <C>
3.1 Certificate of Incorporation of Preferred (Incorporated herein by reference to Exhibit 3.1 to
Preferred's Registration Statement on Form SB-2, No. 333-14103).
3.2 By-Laws of Preferred (Incorporated herein by reference to Exhibit 3.2 to Preferred's
Registration Statement on Form SB-2, No. 333-14103).
4.1 Form of Representative Warrants (Incorporated herein by reference to Exhibit 4.1 to Preferred's
Registration Statement on Form SB-2, No. 333-14103).
4.2 Specimen Common Stock Certificate (Incorporated herein by reference to Exhibit 4.2 to
Preferred's Registration Statement on Form SB-2, No. 333-14103).
4.3 Form of 7% Convertible Subordinated Note (Incorporated herein by reference to Exhibit 4.1 to
Preferred's Current Report on Form 8-K, dated May 4, 1998 (filed on June 2, 1998)).
4.4 Form of Agent's Warrant (Incorporated herein by reference to Exhibit 4.2 to Preferred's Current
Report on Form 8-K, dated May 4, 1998 (filed on June 2, 1998)).
*5.1 Opinion of Baer Marks & Upham LLP (validity of shares).
10.1 Form of Preferred's 1996 Employee Stock Option Agreement (Incorporated herein by reference to
Exhibit 10.1 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.2 Form of Share Escrow Agreement among Preferred, Baer Marks & Upham LLP and Howard Odzer together
with the Letter Agreement Regarding Additional Terms (Incorporated herein by reference to
Exhibit 10.2 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.3 Employment Agreement, dated May 15, 1995, between Preferred and Howard Odzer (Incorporated
herein by reference to Exhibit 10.3 to Preferred's Registration Statement on Form SB-2, No.
333-14103).
10.4 Form of Employment Agreement between Preferred and Mel Harris (Incorporated herein by reference
to Exhibit 10.4 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.5 Letter dated October 21, 1996, from Preferred to New Hampshire Insurance Company regarding the
Reinsurance Agreement among P.E.G. Reinsurance Company, Ltd., The Insurance Company of the State
of Pennsylvania and other AIG Affiliates and Form of Reinsurance Agreement (Incorporated herein
by reference to Exhibit 10.5 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.6 Office Space Lease Agreement, dated August 1, 1994, between Preferred and K/B Opportunity Fund
I, LP and PEGI (Incorporated herein by reference to Exhibit 10.6 to Preferred's Registration
Statement on Form SB-2, No. 333-14103).
10.7 Form of Advisory Services Letter Agreement between Preferred and the Representative
(Incorporated herein by reference to Exhibit 10.7 to Preferred's Registration Statement on Form
SB-2, No. 333-14103).
10.8 Stock Repurchase Agreement dated as of May 15, 1995, among Preferred, Howard Odzer and Ronald
Rothstein (Incorporated herein by reference to Exhibit 10.8 to Preferred's Registration
Statement on Form SB-2, No. 333-14103).
10.9 Cost Sharing Agreement dated January 3, 1996, between Preferred and International Insurance
Group, Inc. (Incorporated herein by reference to Exhibit 10.9 to Preferred's Registration
Statement on Form SB-2, No. 333-14103).
10.10 Form of Share Exchange Agreement among Preferred and certain stockholders of PEGI listed therein
(Incorporated herein by reference to Exhibit 10.10 to Preferred's Registration Statement on Form
SB-2, No. 333-14103).
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBITS DESCRIPTION OF DOCUMENT PAGE
- --------- ------------------------------------------------------------------------------------------------ -----------
<C> <S> <C>
10.11 Amended and Restated Shareholders Agreement dated as of May 15, 1995, among Preferred, Howard
Odzer and Mel Harris (Incorporated herein by reference to Exhibit 10.11 to Preferred's
Registration Statement on Form SB-2, No. 333-14103).
10.12 Form of Employment Agreement between Preferred and Howard Odzer (Incorporated herein by
reference to Exhibit 10.12 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.13 Agency Agreement dated September 1, 1994, among Preferred, General Accident Insurance Company of
America ("GAIC") and certain affiliates of GAIC (Incorporated herein by reference to Exhibit
10.13 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.14 General Agency Agreement dated January 1, 1993, among Preferred, The Insurance Company of the
State of Pennsylvania and certain affiliates of AIG (Incorporated herein by reference to Exhibit
10.14 to Preferred's Registration Statement on Form SB-2, No. 333-14103).
10.15 Preferred's 1996 Stock Option Plan (Incorporated by reference to Preferred's Annual Report on
form 10KSB for the year ended December 31, 1997).
10.16 Employment Agreement dated July 7, 1997, between Preferred and D. Mark Olson (Incorporated
herein by reference to Preferred's Current Report on Form 8-K, dated July 7, 1997 (filed on July
9, 1997)).
10.17 Asset Purchase Agreement dated as of January 21, 1998, among HSSI Travel Nurse Operations, Inc.,
Hospital Staffing Services, Inc. and Preferred Employers Acquisition Corp. (Incorporated herein
by reference to Preferred's Current Report on Form 8-K, dated March 6, 1998 (filed on March 16,
1998)).
10.18 Shareholders Agreement dated as of February 11, 1997, among Preferred, Howard Odzer and Mel
Harris (Incorporated hereby by reference to the Company's Annual Report on Form 10-KSB/A No. 1
for the year ended December 31, 1997).
10.19 Loan Agreement, dated May 4, 1998, between Preferred Healthcare Staffing, Inc. and City National
Bank of Florida (Incorporated herein by reference to Exhibit 10.1 to Preferred's Current Report
on Form 8-K, dated May 4, 1998 (filed on June 2, 1998)).
10.20 Promissory Note and Security Agreement dated April 27, 1998, by Preferred Healthcare Staffing,
Inc. to City National Bank of Florida (Incorporated herein by reference to Exhibit 10.2 to
Preferred's Current Report on Form 8-K, dated May 4, 1998 (filed on June 2, 1998)).
10.21 Continuous Guaranty, dated May 5, 1998, by Preferred to City National Bank of Florida
(Incorporated herein by reference to Exhibit 10.3 to Preferred's Current Report on Form 8-K,
dated May 4, 1998 (filed on June 2, 1998)).
10.22 Stock Purchase Agreement, dated July 10, 1998, by and among Preferred Healthcare Staffing, Inc.,
Debbie Bender-Balazich, Steven Barth, Steven Jones and Stephen M. McLaughlin (Incorporated
herein by reference to Exhibit 10.1 to Preferred's Current Report on Form 8-K, dated July 10,
1998 (filed on July 28, 1998)).
10.23 Employment Agreement, made as of August 10, 1998, between Preferred Healthcare Staffing, Inc.
and Debbie Bender-Balazich. (Incorporated herein by reference to Exhibit 10.1 to Preferred's
Current Report on Form 8-K, dated August 19, 1998 (filed on August 20, 1998)).
10.24 Stock Option Agreement, dated as of August 10, 1998, between Preferred and Debbie
Bender-Balazich. (Incorporated herein by reference to Exhibit 10.2 to Preferred's Current Report
on Form 8-K, dated August 19, 1998 (filed on August 20, 1998)).
10.25 Employment Agreement, dated as of August 10, 1998, between Preferred Healthcare Staffing, Inc.
and Stephen M. McLaughlin. (Incorporated herein by reference to Exhibit 10.3 to Preferred's
Current Report on Form 8-K, dated August 19, 1998 (filed on August 20, 1998)).
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBITS DESCRIPTION OF DOCUMENT PAGE
- --------- ------------------------------------------------------------------------------------------------ -----------
<C> <S> <C>
10.26 Stock Option Agreement, dated as of August 10, 1998, between Preferred and Stephen M.
McLaughlin. (Incorporated herein by reference to Exhibit 10.4 to Preferred's Current Report on
Form 8-K, dated August 19, 1998 (filed on August 20, 1998)).
10.27 Registration Rights Agreement, dated as of August 10, 1998, by and among Preferred and Debbie
Bender-Balazich, Steven Barth, Steven Jones and Stephen M. McLaughlin. (Incorporated herein by
reference to Exhibit 10.5 to Preferred's Current Report on Form 8-K, dated August 19, 1998
(filed on August 20, 1998)).
*21.1 Subsidiaries of the Company.
**23.1 Consent of KPMG Peat Marwick LLP, Independent Accountants.
**23.2 Consent of PricewaterhouseCoopers LLP, Independent Accountants.
*23.3 Consent of Baer Marks & Upham LLP (included in Exhibit 5.1).
*24.1 Power of Attorney (Included on the signature page of this Registration Statement).
27.1 Financial Data Schedule.
</TABLE>
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* Previously filed.
** Filed herewith.
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
The Board of Directors
Preferred Employers Holdings, Inc.:
We consent to the use of our report dated March 27, 1998, except for notes 1(b),
1(d) and 14 which are as of August 10, 1998, included herein and to the
reference to our firm under the heading "Experts" in the prospectus.
/s/ KPMG Peat Marwick LLP
Miami, Florida
December 15, 1998
<PAGE>
EXHIBIT 23.2
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the inclusion in this Registration Statement of Preferred
Employers Holdings, Inc. on Form SB-2 (File No. 333-67191) of our report dated
June 22, 1998, except for the information in Note 14, for which the date is
August 10, 1998, on our audits of the financial statements of National Explorers
and Travelers HealthCare, Inc. (d/b/a NET Healthcare, Inc.). We also consent to
the reference to our Firm under the caption "Experts."
/s/ PricewaterhouseCoopers LLP
December 14, 1998
Fort Lauderdale, Florida
