UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the period ended June 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Transition period from to
--------------- ---------------
COMMISSION FILE NUMBER 000-23427
STIRLING COOKE BROWN HOLDINGS LIMITED
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
BERMUDA NOT APPLICABLE
(STATE OF OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
VICTORIA HALL, 3RD FLOOR, 11 VICTORIA STREET, HAMILTON HM 11, BERMUDA
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
TELEPHONE NUMBER: (441) 295-7556
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
YES [X] NO [ ]
The number of outstanding shares of the registrant's Ordinary Stock, $0.25
par value, as of June 30, 1999 was 9,419,972.
<PAGE>
INDEX
PART I - FINANCIAL INFORMATION
PAGE
----
ITEM 1 UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets at December 31, 1998
and June 30, 1999 (Unaudited) ........................... 1
Unaudited Consolidated Statements of Income
and Comprehensive Income for the three month and
six month periods ended June 30, 1998 and 1999........... 3
Unaudited Consolidated Statements of Changes in
Shareholders' Equity for the three month and six
month periods ended June 30, 1998 and 1999............... 4
Unaudited Consolidated Statements of Cash Flows for
the six month periods ended June 30, 1998 and 1999....... 5
Notes to Unaudited Consolidated Financial Statements
at June 30, 1998 and 1999................................ 6
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS...................... 7
PART II - OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS........................................ 13
ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...... 14
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K......................... 15
SIGNATURES............................................... 16
EXHIBITS
Exhibit 11 - Statement of Computation of Net Income Per
Ordinary Share
Exhibit 99 - Forward Looking Information
<PAGE>
STIRLING COOKE BROWN HOLDINGS LIMITED
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, 1998 AND JUNE 30, 1999 (UNAUDITED)
(EXPRESSED IN THOUSANDS OF UNITED STATES DOLLARS, EXCEPT PER SHARE DATA)
1998 1999
---------- -----------
ASSETS
------
<S> <C> <C>
Marketable securities, at fair value
Debt securities (amortized cost, 1998 - $16,722, 1999 - $33,690)......... $ 17,057 $ 33,171
Equity securities (cost, 1998 - $2,384, 1999 - $3,374)................... 2,536 3,856
Short term investments (amortized cost, 1998 - $9,643, 1999 - $1,105).... 9,643 1,105
--------- ---------
Total marketable securities...................................................... 29,236 38,132
Cash and cash equivalents........................................................ 68,165 47,076
Fiduciary funds-restricted....................................................... 63,895 63,726
Insurance and reinsurance balances receivable (affiliates, 1998 - $9,994,
1999 - $51,614).......................................................... 382,417 529,277
Paid losses recoverable from reinsurers.......................................... 8,916 16,255
Outstanding losses recoverable from reinsurers................................... 48,146 62,699
Deferred acquisition costs....................................................... 2,286 1,782
Deferred reinsurance premiums ceded.............................................. 18,711 18,591
Deferred tax asset............................................................... 1,755 3,583
Goodwill......................................................................... 8,775 9,093
Other assets..................................................................... 14,026 14,033
Assets related to deposit liabilities............................................ 3,313 3,370
--------- ---------
Total assets............................................................. $ 649,641 $ 807,617
========= =========
<CAPTION>
LIABILITIES
-----------
<S> <C> <C>
Outstanding losses and loss expenses............................................. $ 66,117 $ 83,688
Unearned premiums................................................................ 25,037 24,267
Deferred income.................................................................. 3,992 2,977
Insurance and reinsurance balances payable (affiliates, 1998 - $957,
1999 - $Nil)............................................................. 438,456 572,842
Funds withheld................................................................... 1,359 4,642
Accounts payable and accrued liabilities......................................... 10,719 14,317
Income taxes payable............................................................. 3,016 4,748
Deposit liabilities.............................................................. 3,313 3,370
--------- ---------
Total liabilities........................................................ $ 552,009 $ 710,851
--------- ---------
Contingencies (Part II - Item 1 - Legal Proceedings)
<CAPTION>
SHAREHOLDERS' EQUITY
--------------------
Share Capital
<S> <C> <C>
Authorized 20,000,000 ordinary shares of par value $0.25 each
Issued and fully paid 9,863,372 ordinary shares.......................... 2,466 2,466
Additional paid in capital....................................................... 54,167 54,167
Accumulated other comprehensive income (loss).................................... 319 (167)
Retained earnings................................................................ 41,914 45,957
--------- ---------
98,866 102,423
Less: Ordinary shares in treasury (1998 - 87,000, 1999 - 443,400) at cost........ (1,234) (5,657)
Total shareholders' equity............................................... 97,632 96,766
--------- ---------
Total liabilities and shareholders' equity............................... $ 649,641 $ 807,617
========= =========
See accompanying notes to unaudited consolidated financial statements
</TABLE>
<PAGE>
STIRLING COOKE BROWN HOLDINGS LIMITED
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
AND COMPREHENSIVE INCOME
<TABLE>
<CAPTION>
THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 1998 AND 1999
(EXPRESSED IN THOUSANDS OF UNITED STATES DOLLARS, EXCEPT PER SHARE DATA)
Three Months Six Months
ended June 30 ended June 30
1998 1999 1998 1999
---------- --------- --------- ---------
<S> <C> <C> <C> <C>
Revenues
Risk management fees ......................... $ 14,065 $ 16,377 $ 26,840 $ 32,541
Net premiums earned .......................... 5,118 2,455 9,604 7,779
Net investment income ........................ 2,093 1,976 4,059 3,939
Other income (losses) ........................ 816 (188) 1,532 (88)
-------- -------- -------- --------
Total revenues ........................... 22,092 20,620 42,035 44,171
-------- -------- -------- --------
Expenses
Net losses and loss expenses incurred ........ 4,954 1,792 9,721 6,029
Acquisition costs ............................ 794 768 1,360 2,058
Depreciation and amortization of
capital assets.............................. 370 426 721 851
Amortization of goodwill ..................... 176 214 353 417
Salaries and benefits ........................ 6,047 6,546 10,712 12,681
Other operating expenses ..................... 4,684 9,520 9,221 16,066
-------- -------- -------- --------
Total expenses ........................... 17,025 19,266 32,088 38,102
-------- -------- -------- --------
Income before taxation ........................... 5,067 1,354 9,947 6,069
Taxation ......................................... 1,042 376 1,935 1,153
-------- -------- -------- --------
Net income before cumulative effect of
a change in accounting principle ............. 4,025 978 8,012 4,916
Cumulative effect of a change in accounting
principle, net of tax (note 2) ............... -- -- -- (307)
-------- -------- -------- --------
Net income ....................................... $ 4,025 $ 978 $ 8,012 $ 4,609
-------- -------- -------- --------
Other comprehensive income (loss), net of tax:
Unrealized holding gains (losses) arising
during the period............................. 16 (451) 48 (398)
Less: reclassification adjustments for
realized (gains) losses included in net
income........................................ (32) 102 (32) (88)
-------- -------- -------- --------
Other comprehensive income (loss) ............ (16) (349) 16 (486)
Comprehensive income ......................... 4,009 629 8,028 4,123
======== ======== ======== ========
Net income per share ............................. $ 0.41 $ 0.10 $ 0.82 $ 0.48
======== ======== ======== ========
Net income per share assuming dilution ........... $ 0.41 $ 0.10 $ 0.81 $ 0.48
======== ======== ======== ========
Dividends per share .............................. $ 0.03 $ 0.03 $ 0.06 $ 0.06
======== ======== ======== ========
See accompanying notes to unaudited consolidated financial statements
</TABLE>
STIRLING COOKE BROWN HOLDINGS LIMITED
UNAUDITED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 1998 AND 1999
(EXPRESSED IN THOUSANDS OF UNITED STATES DOLLARS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30 JUNE 30
1998 1999 1998 1999
----------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
ORDINARY SHARES OF PAR VALUE $0.25 EACH
Balance at beginning of period .......... $ 2,466 $ 2,466 $ 2,466 $ 2,466
Options exercised ....................... -- -- -- --
Cancellation of ordinary shares in
treasury .............................. -- -- -- --
-------- -------- -------- --------
Balance at end of period ................ $ 2,466 $ 2,466 $ 2,466 $ 2,466
-------- -------- -------- --------
ADDITIONAL PAID IN CAPITAL
Balance at beginning of period .......... $ 54,167 $ 54,167 $ 54,167 $ 54,167
Proceeds from exercise of options in
excess of par ......................... -- -- -- --
Issuance of shares ...................... -- -- -- --
-------- -------- -------- --------
Balance at end of period ................ $ 54,167 $ 54,167 $ 54,167 $ 54,167
-------- -------- -------- --------
ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
Balance at beginning of period .......... $ 95 $ 182 $ 63 $ 319
Change in unrealized gain (loss) on
marketable securities ................. (16) (349) 16 (486)
-------- -------- -------- --------
Balance at end of period ................ $ 79 $ (167) $ 79 $ (167)
-------- -------- -------- --------
RETAINED EARNINGS
Balance at beginning of period .......... $ 30,765 $ 45,262 $ 27,074 $ 41,914
Net income .............................. 4,025 978 8,012 4,609
Dividends ............................... (293) (283) (589) (566)
-------- -------- -------- --------
Balance at end of period ................ $ 34,497 $ 45,957 $ 34,497 $ 45,957
-------- -------- -------- --------
TREASURY STOCK
Balance at beginning of period .......... $ (667) $ (5,657) $ (667) $ (1,234)
Purchase of ordinary shares in treasury . -- -- -- (4,423)
-------- -------- -------- --------
Balance at end of period ................ $ (667) $ (5,657) $ (667) $ (5,657)
-------- -------- -------- --------
Total shareholders' equity .............. $ 90,542 $ 96,766 $ 90,542 $ 96,766
======== ======== ======== ========
Dividends per share were $0 and $0.03 for the three months ended June 30,
1998 and 1999, respectively, and $0 and $0.06 for the six months ended
June 30, 1998 and 1999 respectively.
See accompanying notes to unaudited consolidated financial statements.
</TABLE>
<PAGE>
STIRLING COOKE BROWN HOLDINGS LIMITED
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 1998 AND 1999
(EXPRESSED IN THOUSANDS OF UNITED STATES DOLLARS)
<TABLE>
<CAPTION>
1998 1999
------------ ------------
<S> <C> <C>
OPERATING ACTIVITIES
Net income ............................................... $ 8,012 $ 4,609
Adjustments to reconcile net income to net cash provided
(used)
by operating activities:
Depreciation and amortization of capital assets .... 721 851
Amortization of goodwill ........................... 353 417
Amortization of marketable securities .............. 54 57
Net realized gains on sale of marketable securities (32) (54)
Net gains on sale of capital assets ................ -- (35)
(Equity in income)/writedown of affiliates ............ (1,448) 240
Changes in non cash operating assets and
liabilities:
Fiduciary funds .................................... (21,957) 170
Insurance and reinsurance balances receivable ...... (34,015) (146,859)
Paid losses recoverable from reinsurers ............ (1,887) (7,340)
Outstanding losses recoverable from reinsurers ..... (10,645) (14,553)
Deferred acquisition costs ......................... (1,174) 504
Deferred reinsurance premiums ceded ................ (5,790) 120
Other assets ....................................... (1,699) (479)
Deferred tax asset ................................. (490) (1,781)
Assets related to deposit liabilities .............. (889) (57)
Outstanding losses and loss expenses ............... 16,487 17,571
Unearned premiums .................................. 6,426 (770)
Insurance and reinsurance balances payable ......... 59,443 134,386
Funds withheld ..................................... 539 3,285
Accounts payable and accrued liabilities ........... 1,746 3,598
Income taxes payable ............................... 1,815 1,731
Deferred income .................................... 559 (1,015)
Deposit liabilities ................................ 889 57
--------- ---------
Net cash provided (used) by operating activities 17,018 (5,347)
--------- ---------
INVESTING ACTIVITIES
Purchase of capital assets ......................... (1,168) (674)
Sale of capital assets ............................. 48 89
Purchase of debt securities ........................ (7,000) (19,581)
Purchase of equity securities ...................... (2,276) (2,701)
Purchase of short-term investments, net ............ (1,393) 8,537
Proceeds on sale of debt securities ................ 9,000 2,737
Proceeds on sale of equity securities .............. 281 1,575
Purchase of subsidiaries, net of cash acquired ..... -- (735)
Dividends received from affiliates ................. 780 --
--------- ---------
Cash used by investing activities .............. (1,728) (10,753)
--------- ---------
FINANCING ACTIVITIES
Dividends .......................................... (589) (566)
Purchase of ordinary shares in treasury ............ -- (4,423)
--------- ---------
Cash used by investing activities .............. (589) (4,989)
--------- ---------
Increase (decrease) in cash and cash equivalents ......... 14,701 (21,089)
Cash and cash equivalents at beginning of period ......... 50,631 68,165
--------- ---------
Cash and cash equivalents at end of period ............... $ 65,332 $ 47,076
========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the period for income taxes ....... $ 598 $ 820
========= =========
See accompanying notes to unaudited consolidated financial statements
</TABLE>
<PAGE>
STIRLING COOKE BROWN HOLDINGS LIMITED
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1998 AND 1999
(EXPRESSED IN THOUSANDS OF UNITED STATES DOLLARS, EXCEPT SHARE DATA)
1. INTERIM ACCOUNTING POLICY
In the opinion of management of Stirling Cooke Brown Holdings ("the
Company"), the accompanying unaudited consolidated financial statements
include all adjustments, consisting only of normal recurring adjustments
and one non-recurring adjustment (see note 2), necessary to present fairly
the financial position of the Company at December 31, 1998 and June 30,
1999, the results of operations for the three months and six months ended
June 30, 1998 and 1999 and the cash flows for the six months ended June 30,
1998 and 1999. Although the Company believes that the disclosure in these
financial statements is adequate to make the information presented not
misleading, certain information and footnote information normally included
in financial statements prepared in accordance with generally accepted
accounting principles has been condensed or omitted pursuant to the rules
and regulations of the Securities and Exchange Commission. The interim
financial statements should be read in conjunction with the Company's
Annual Report on Form 10-K for the fiscal year ended December 31, 1998.
Results of operations for the three months and six months ended June 30,
1999 are not necessarily indicative of what operating results may be for
the full year.
2. REPORTING ON THE COSTS OF STARTUP ACTIVITIES
During 1998, the AICPA Accounting Standards Executive Committee issued
Statement of Position (SOP) 98-5. REPORTING ON THE COSTS OF START-UP
ACTIVITIES. The accounting guidance of this SOP requires that the costs of
start-up activities be expensed as incurred and any costs that are carried
as an asset prior to adoption of SOP 98-5 would be written off by reporting
a cumulative effect of a change in accounting principle in the statement of
income as of January 1, 1999. The cumulative effect of a change in
accounting principle that was recorded in the statement of income for the
three months and six months ended June 30, 1999 is approximately $Nil and
$307 (net of tax of $188) respectively.
<PAGE>
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following is Management's discussion and analysis of Stirling Cooke
Brown Holdings Limited's (the "Company") results of operations for the
three months and six months ended June 30, 1998 and 1999 and financial
condition as of June 30, 1999. This discussion and analysis should be read
in conjunction with the attached unaudited consolidated financial
statements and notes thereto of the Company and the audited consolidated
financial statements and notes thereto of the Company contained in the
Company's Annual Report on Form 10-K for the fiscal year ended December 31,
1998.
GENERAL
The Company was incorporated in Bermuda on December 12, 1995. The Company
is a holding company engaged, through its subsidiaries, in providing
insurance services primarily in the United States, Bermuda and the United
Kingdom. The Company's subsidiaries' activities include brokerage, program
business, underwriting management, insurance and reinsurance. The Company
owns a United States domiciled insurance company Realm National Insurance
Company Limited ("Realm National") which, together with the Company's
Bermuda based reinsurance company Comp Indemnity Reinsurance Company
Limited ("CIRCL"), writes insurance and reinsurance business. Realm
National also earns policy issuance fees. The Company's subsidiaries
specialize in the North American occupational accident and workers'
compensation alternative risk transfer markets.
RESULTS OF OPERATIONS FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30,
1998 AND 1999.
REVENUES AND NET INCOME
- -----------------------
<TABLE>
<CAPTION>
FOR THE THREE MONTHS FOR THE SIX MONTHS
ENDED JUNE 30 ENDED JUNE 30
1998 1999 1998 1999
---- ---- ---- ----
(dollars in thousands) (dollars in thousands)
<S> <C> <C> <C> <C>
Revenues .......................... $ 22,092 $ 20,620 $ 42,035 $ 44,171
Expenses .......................... 17,025 19,266 32,088 38,102
-------- -------- -------- --------
Income before taxation ............ 5,067 1,354 9,947 6,069
Taxation .......................... 1,042 376 1,935 1,153
-------- -------- -------- --------
Net income before cumulative effect
of a change in accounting
principle ....................... 4,025 978 8,012 4,916
Cumulative effect of a change
in accounting principle, net
of tax .......................... -- -- -- (307)
-------- -------- -------- --------
Net income ........................ $ 4,025 $ 978 $ 8,012 $ 4,609
======== ======== ======== ========
BASIC EPS
Net income per Share ............ $ 0.41 $ 0.10 $ 0.82 $ 0.48
Avg. no. of ordinary shares
outstanding (000's) ......... 9,823 9,420 9,823 9,542
DILUTED EPS
Net income per Share ............ $ 0.41 $ 0.10 $ 0.81 $ 0.48
Avg. no. of ordinary shares
outstanding (000's) ......... 9,884 9,420 9,875 9,542
</TABLE>
Basic net income per share decreased to $0.10 in the second quarter and
$0.48 in the first six months of 1999 from $0.41 in the second quarter of
1998 and $0.82 in the first six months of 1998. Diluted net income per
share decreased to $0.10 in the second quarter and $0.48 in the first six
months of 1999 from $0.41 in the second quarter of 1998 and $0.81 in the
first six months of 1998.
The results above reflect significant litigation, strategic advisory costs
and provisions incurred during the six months ended June 30, 1999. The
Company has incurred $3.6 million (before tax) of expenses during the
second quarter and $4.8 million (before tax) of expenses during the six
months ended June 30, 1999 associated with litigation as discussed in the
Legal Proceedings section (see Part II - Item I) and associated with
strategic advisory and restructuring costs.
At June 30, 1999, the Company had 9,419,972 shares outstanding compared to
9,776,372 shares at December 31, 1998, a decrease of 356,400 shares or
3.6%. This decrease was due to various open market share repurchases by the
Company during the first three months of 1999.
REVENUES AND NET INCOME BY SEGMENT
SEGMENT REVENUES FOR THE THREE MONTHS FOR THE SIX MONTHS
---------------- ENDED JUNE 30 ENDED JUNE 30
1998 1999 1998 1999
---- ---- ---- ----
(dollars in thousands) (dollars in thousands)
Brokerage $ 6,490 $ 9,991 $12,323 $18,547
Program business 6,720 5,733 13,066 11,759
Underwriting management 1,026 633 1,993 2,332
Insurance 3,190 2,196 5,281 6,957
Reinsurance 3,095 1,153 6,332 3,076
Other 1,571 914 3,040 1,500
------- ------- ------- -------
Total $22,092 $20,620 $42,035 $44,171
------- ------- ------- -------
SEGMENT PRETAX INCOME FOR THE THREE MONTHS FOR THE SIX MONTHS
--------------------- ENDED JUNE 30 ENDED JUNE 30
(LOSS) 1998 1999 1998 1999
------ ---- ---- ---- ----
(dollars in thousands) (dollars in thousands)
Brokerage $ 2,862 $ 2,742 $ 5,622 $ 6,549
Program business 1,470 (490) 3,008 (741)
Underwriting management 521 58 963 1,252
Insurance 276 18 173 423
Reinsurance (511) (82) (1,061) (474)
Other 449 (892) 1,242 (940)
------- ------- ------- -------
Total $ 5,067 $ 1,354 $ 9,947 $ 6,069
------- ------- ------- -------
Brokerage
- ---------
Revenues of $10.0 million in the second quarter of 1999 represented an
increase of $3.5 million or 53.9% from revenues of $6.5 million in the
second quarter of 1998. Revenues of $18.5 million in the first six months
of 1999 represented an increase of $6.2 million or 50.5% from revenues of
$12.3 million in the first six months of 1998. The increase in revenues is
primarily due to increased insurance and reinsurance brokerage activities
by the Company's UK based brokerage operations that performed well during
the second quarter and first half of 1999 despite increasingly competitive
conditions in the marketplace.
The brokerage segment's profit of $2.7 million in the second quarter of
1999 represented a decrease of $0.2 million or 4.2% from segment profit of
$2.9 million in the second quarter of 1998. Profit of $6.5 million in the
first six months of 1999 represented an increase of $0.9 million or 16.5%
from segment profit of $5.6 million in the first six months of 1998. The
segment profit reflects the increase in revenues offset by an increase in
brokerage segment expenses. This increase in expenses was primarily due to
significant expenses in respect to costs associated with litigation ongoing
in respect of these operations as discussed in the Legal Proceedings
section (Part II - Item 1) and bad debt expenses incurred during the
period.
Program Business
- ----------------
Program business revenues of $5.7 million in the second quarter of 1999
represented a decrease of $1.0 million or 14.7% from revenues of $6.7
million in the second quarter of 1998. Revenues of $11.8 million in the
first six months of 1999 represented a decrease of $1.3 million or 10.0%
from revenues of $13.1 million in the first six months of 1998. The
decrease in revenues was due to reduced fee margin on programs and a
reduction in program business volume due to an increasingly competitive
environment in the U.S. workers' compensation market.
The program business segment's loss of $0.5 million in the second quarter
of 1999 represented a decrease of $2.0 million from segment profit of $1.5
million in the second quarter of 1998. A loss of $0.7 million in the first
six months of 1999 represented a decrease of $3.7 million from segment
profit of $3.0 million in the first six months of 1998. The decrease in the
segment profit reflects the decrease in revenues, together with reduced fee
margins on insurance products which led to reduced profit margins for
program business operations.
Underwriting Management
- -----------------------
Revenues of $0.6 million in the second quarter of 1999 represented a
decrease of $0.4 million from revenues of $1.0 million in the second
quarter of 1998. Revenues of $2.3 million in the first six months of 1999
represented an increase of $0.3 million from revenues of $2.0 million in
the first six months of 1998. This increase in revenues during the first
six months of 1999 was primarily due to additional earnings realized in the
first quarter of 1999 on contracts that were placed in prior years.
Segment profit of $0.1 million in the second quarter of 1999 represented a
decrease of $0.4 million from segment profit of $0.5 million in the second
quarter of 1998. Segment profit of $1.3 million in the first six months of
1999 represented an increase of $0.3 million from segment profit of $1.0
million in the first six months of 1998. The Company's underwriting
management segment continued to experience significant competitive
pressures during the second quarter of 1999 and consequently the Company
expects revenues and profit for this segment to continue to decline until
market conditions improve.
Insurance
- ---------
Revenues of $2.2 million in the second quarter of 1999 represented a
decrease of $1.0 million from revenues of $3.2 million in the second
quarter of 1998. The quarter was adversely affected by a number of policy
cancellations which had a negative impact on revenues and the segment
experienced significant competitive pressures during the second quarter of
1999. Revenues of $7.0 million in the first six months of 1999 represented
an increase of $1.7 million from revenues of $5.3 million in the first six
months of 1998. The increase was due to revenue growth during the first
quarter of 1999. Realm National's gross written premiums were $8.5 million
in the second quarter of 1999 which represents a $4.0 million or 32%
decrease from $12.5 million in the second quarter of 1998. Gross written
premiums were $25.9 million in the first six months of 1999 which
represents a $0.2 million or 0.1% decrease from $26.1 million in the first
six months of 1998.
Market conditions in the workers' compensation insurance market in which
Realm National writes the majority of its business remained very
competitive during the second quarter of 1999.
Segment profit of $0.0 million in the second quarter of 1999 represented a
decrease of $0.3 million from segment profit of $0.3 million in the second
quarter of 1998. Segment profit of $0.4 million in the first six months of
1999 represented an increase of $0.2 million from segment profit of $0.2
million in the first six months of 1998.
Reinsurance
- -----------
The Company's reinsurance segment comprising CIRCL had revenues of $1.2
million in the second quarter of 1999 representing a decrease of $1.9
million from revenues of $3.1 million in the second quarter of 1998.
Revenues of $3.1 million in the first six months of 1999 represent a
decrease of $3.2 million from revenues of $6.3 million in the first six
months of 1998. Net premiums earned are the largest component of revenues
in CIRCL and net premiums earned were $0.9 million in the second quarter of
1999 and were $2.7 million in the first six months of 1999. This represents
a decrease of $2.0 million from net premiums earned of $2.9 million in the
second quarter of 1998 and a decrease of $3.3 million from net premiums
earned of $6.0 million in the first six months of 1998. In early 1999,
management decided to cease underwriting any new programs in CIRCL and a
number of existing contracts were not renewed for the 1999 year. Those
renewed are only being allowed to run until they expire at December 31,
1999. Because some contracts were not renewed by CIRCL during 1999,
revenues decreased in the second quarter of 1999 and will continue to
decrease during the year.
Segment loss of $0.1 million in the second quarter of 1999 represented a
$0.4 million improvement from a segment loss of $0.5 million in the second
quarter of 1998. Segment loss of $0.5 million in the first six months of
1999 represented a $0.6 million improvement from a segment loss of $1.1
million in the first six months of 1998. The primary reason for the loss
during the second quarter and first half of 1999 was an additional $0.1
million provision in the second quarter and $0.5 million provision in the
first half of 1999 against reinsurance recoveries. CIRCL is in dispute with
certain of its reinsurers in respect of amounts due under retrocession
coverages. CIRCL has provided $3.0 million against reinsurance contracts
with projected reinsurance recoverables of a total of $17.0 million. The
provision represents management's best estimates at this time of a possible
shortfall in recoveries. This provision is included in the balance sheet as
a component of insurance and reinsurance balances receivable. The provision
is necessarily an estimate and amounts not collectible from reinsurers may
ultimately be significantly greater or lesser than the provision
established. Any subsequent differences arising will be recorded in the
period in which they occur.
Other
- -----
Other includes primarily the Company's holding companies and other
operating subsidiaries, and income earned from investments in affiliates.
Revenues of $0.9 million in the second quarter of 1999 represented a
decrease of $0.7 million from revenues of $1.6 million in the second
quarter of 1998. Revenues of $1.5 million in the first six months of 1999
represented a decrease of $1.5 million from revenues of $3.0 million in the
first six months of 1998. The primary reason for the decrease in revenues
is a decline in income earned from investments in affiliates.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 1999, the Company held cash and marketable securities of $85.2
million compared to $97.4 million at December 31, 1998. In addition, the
Company held cash in fiduciary accounts relating to insurance client
premiums amounting to $63.7 million at June 30, 1999 compared to $63.9
million at December 31, 1998. Of the $85.2 million of cash and marketable
securities held by the Company at June 30, 1999 (December 31, 1998 - $97.4
million), $49.7 million (December 31, 1998 - $58.9 million) were held by
subsidiaries whose payment of dividends to the Company was subject to
regulatory restrictions or possible tax liabilities. At June 30, 1999, the
Company's investment portfolio (at fair market value) totaled $38.1
million. The portfolio consisted primarily of U.S. Treasury, short-term
cash, equity securities and A-rated corporate debt securities.
During the six month period ending June 30, 1999, the Company's operating
activities used $5.3 million of net cash, compared to generating $17.0
million of net cash during the corresponding six months of 1998. The cash
generated from (used by) operating activities varies according to the
timing of collections and payments of insurance and reinsurance balances.
The Company used $4.4 million during the six month period ended June 30,
1999 to repurchase 356,400 of its own shares on the open market.
On June 1, 1999 the Company paid a second quarter dividend of $0.03 per
share to shareholders of record on May 18, 1999. The actual amount and
timing of any future ordinary share dividends is at the discretion of the
Board of Directors of the Company. The declaration and payment of any
dividends is dependent upon the profits and financial requirements of the
Company and other factors, including certain legal, regulatory and other
restrictions. There can be no assurance that the Company's dividend policy
will not change or that the Company will declare or pay any dividends in
future periods.
ACCOUNTING PRONOUNCEMENTS
In December 1997, the AICPA Accounting Standards Executive Committee issued
Statement of Position (SOP) 97-3. ACCOUNTING BY INSURANCE AND OTHER
ENTERPRISES FOR INSURANCE-RELATED ASSESSMENTS. The accounting guidance of
this SOP focuses on the timing of recognition and measurement of
liabilities for insurance-related assessments. Guidance is also provided on
recording assets representing future recoveries of assessments through
premium tax offsets or policy surcharges. The SOP is effective for fiscal
years beginning after December 15, 1998. The Company does not anticipate
the statement to have a significant impact on the Company's financial
position or results of operations.
In June 1999, the Financial Accounting Standards Board issued SFAS No. 137
"Accounting for Derivative Instruments and Hedging Activities - Deferral of
the Effective Date of FASB Statement No. 133". This statement amends SFAS
No. 133 to defer its effective date for one year, to fiscal years beginning
after June 15, 2000. Initial application for the Company will begin for the
first quarter of the year 2001.
As discussed in Note 2 - Item I, during 1998, the AICPA Accounting
Standards Executive Committee issued Statement of Position (SOP) 98-5.
REPORTING ON THE COSTS OF START-UP ACTIVITIES. The accounting guidance of
this SOP requires that the costs of start-up activities be expensed as
incurred and any costs that are carried as an asset prior to adoption of
SOP 98-5 would be written off by reporting a cumulative effect of a change
in accounting principle in the statement of income as of January 1, 1999.
The cumulative effect of a change in accounting principle that was recorded
in the statement of income for the three months and six months ended June
30, 1999 is approximately $Nil and $307 (net of tax of $188) respectively.
In November 1998, the AICPA Accounting Standards Executive Committee issued
Statement of Position (SOP) 98-7. DEPOSIT ACCOUNTING: ACCOUNTING FOR
INSURANCE AND REINSURANCE CONTRACTS THAT DO NOT TRANSFER RISK. This
statement is effective for all quarters of fiscal years beginning after
June 15, 1999. This SOP provides accounting guidance for insurance and
reinsurance contracts that do not transfer risk, as determined by the
provisions of SFAS 113. The Company is currently reviewing the potential
impact that this standard may or may not have on its financial reporting.
YEAR 2000
The Year 2000 issue is the result of computer programs being written using
two digits rather than four digits to define the applicable year. Any of
the Company's programs or non-information systems that have date-sensitive
software may recognize a date using "00" as the year 1900 rather than the
year 2000. This could result in a major system failure or in
miscalculations.
In 1997, the Company appointed individuals in each of the Company's
geographic regions to review and assess the Company's state of readiness
and its ability to process transactions in the Year 2000. These individuals
and the overall committee that they are a part of are providing guidance to
the operating and support departments, and have and will continue to
monitor the progress of efforts made to address the Year 2000 issue. The
Company is currently implementing its plan and preparing its various
computer systems and selected applications for the Year 2000. This process
involves taking inventory, testing, evaluating and adjusting all known
date-sensitive systems and equipment for Year 2000 compliance. In addition,
the Company is reviewing its essential non-information technology systems
for Year 2000 compliance. The Company has also consulted with various third
parties, including, but not limited to, outside consultants, outside
service providers and infrastructure providers to develop approaches to the
Year 2000 issue, to gain insight to problems and to provide additional
perspective on solutions. Compliance work with respect to the internal
systems has been substantially completed. In 1999, all systems critical to
the Company's core businesses will be retested.
The individuals in each geographic region report at least quarterly to the
overall committee that they are a part of and update that committee on
their respective region's progress. The latest update is that each
geographic region is proceeding on schedule as planned. In the U.S. and
Bermuda, the Company's and its subsidiaries' internal computer systems and
software are relatively modern and few costs have been or are expected to
be incurred to bring those systems into compliance. In the U.K., the
Company's subsidiaries' internal systems and software were not as modern
and the majority of the Company's Year 2000 costs in upgrading the
Company's systems and software have been incurred in that region. Because
of the Year 2000 issue, one large system in the U.K. was replaced in late
1998.
The Company continues to assess its external relationships with third
parties. The Company is in the process of communicating with its
significant vendors and large customers to determine the extent to which
the Company is vulnerable to those third parties' failure to remediate
their own Year 2000 issues. Where deemed necessary by the Company, this
process will involve onsite review of the third party's procedures and
plans for Year 2000 compliance. However, there can be no assurance that the
systems of third parties, such as utility companies, regulatory bodies,
government entities, insurance related companies or insurance carriers on
which the Company's operations rely, will be timely converted, or that a
failure to convert by another company would not have a material adverse
effect on the Company's operating results. However, management believes
that ongoing communication with and assessment of third parties will
minimize these risks.
The Company's insurance and reinsurance subsidiaries may also have an
underwriting exposure to the Year 2000 issue. Although the subsidiaries
have not received any claims of coverage from insureds based on losses
resulting from Year 2000 issues, there can be no assurance that insureds
will be free from losses of this type or that these subsidiaries will be
free from claims made under their policies.
The total estimated cost of compliance is $0.8 million. Approximately $0.5
million of the cost is related to reprogramming or replacement of software,
approximately $0.3 million is related to acquisition of hardware. Costs
related to non-information technology are expected to be immaterial.
Approximately $0.5 million of the $0.8 million cost of compliance has been
incurred as of the end of June 30, 1999. All of these costs are being
funded through operating cash flows. Total costs have not had and are not
expected to have a material impact on the Company's financial results.
Based on the review of the state of readiness of the Company and its risks,
the Company currently anticipates minimal business disruption will occur as
a result of Year 2000 issues. Nonetheless, the Year 2000 issue represents a
risk that cannot be assessed with precision nor controlled with certainty.
Possible consequences of disruptions that could occur given non-compliance
include, but are not limited to, loss of communication links with
subsidiaries and insurance carriers, loss of electric power, inability to
process transactions or inability to engage in similar normal business
activities. Furthermore, failure of significant third parties with which
the Company conducts business, including insurance carriers, to meet Year
2000 compliance could have a materially detrimental effect on the Company.
To date, the Company has not established a contingency plan for possible
Year 2000 issues. Where needed, the Company will establish contingency
plans based on actual testing experience with its systems and assessment of
outside risks.
NOTE ON FORWARD-LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements. This Form 10-Q may include
forward-looking statements which reflect the Company's current views with
respect to future events and financial performance. These forward-looking
statements are identified by their use of such terms and phrases as
"intends," "intend," "intended," "goal," "estimate," "estimates,"
"expects," "expect," "expected," "project," "projected," "projections,"
"plans," "anticipates," "anticipated," "should," "designed to,"
"foreseeable future," "believe," "believes" and "scheduled" and similar
expressions. Readers are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date the statement
was made. The Company undertakes no obligation to publicly update or revise
any forward-looking statements, whether as a result of new information,
future events or otherwise.
Reference is made to the cautionary statements contained in Exhibit 99 to
this Form 10-Q for a discussion of the factors that may cause actual
results to differ from the results discussed in these forward-looking
statements.
<PAGE>
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
(a) There currently are pending several arbitration proceedings
in England between reinsurers and their ceding insurers relating to
reinsurance transactions involving the personal accident excess of loss
market ("LMX") for the account years 1993, 1994, 1995 and 1996. Although
neither the Company nor its broker subsidiaries are a party to any of these
arbitrations, certain of the Company's subsidiaries acted as reinsurance
broker for ceding companies that are parties to certain of the
arbitrations.
The reinsurers have alleged that they sustained losses due to a
spiral in the LMX market which was not disclosed to them by the ceding
insurers or their reinsurance brokers. As a consequence, these reinsurers
have asserted that they are no longer obliged to honor their reinsurance
agreements and have ceased paying claims. If one or more reinsurers prevail
in the pending arbitrations, it is possible that one or more ceding
insurers that are reinsurance brokerage clients of the Company's broker
subsidiaries may assert a claim against one or more of those subsidiaries.
In addition, one insurance company subsidiary of the Company is
directly involved in one of the same arbitrations because it assumed the
position of one of the reinsureds by way of portfolio transfer. If the
insurance company subsidiary does not prevail in that arbitration, it may
be unable to recover some or all of the amounts currently or ultimately due
to it under certain contracts of reinsurance.
During 1998, certain of the reinsurers and reinsureds filed a
total of 7 writs in the English courts (which are the equivalent of a civil
complaint in U.S. jurisdictions) against one or more of the Company's
brokerage subsidiaries to toll the statute of limitations. Some of these
writs were issued pending the outcome of related arbitrations. None of
these writs specified an amount of damages sought. In most cases, to avoid
incurring additional litigation expenses, the relevant subsidiaries
negotiated standstill agreements with the reinsurer or reinsured. In one
case, where the reinsurer alleged that the Company's brokerage subsidiary
participated in a conspiracy, the subsidiary has challenged that allegation
in the English courts; the matter is pending decision.
The primary factual allegation by the reinsurers is that,
although they believed they reinsured the subject risks only at high excess
levels, the LMX spiral caused their high excess positions to not equate
with their expectation of remoteness from the incidence of loss. As to
certain of the Company's brokerage subsidiaries, the reinsurers and
reinsureds have alleged in their writs that the subsidiary was negligent,
misrepresented, or failed to disclose the potential effect of the spiral on
the reinsurers' exposure to risk. As indicated, in one case the writ also
alleged conspiracy, an allegation that is being vigorously defended.
The Company does not yet have sufficient information to determine
whether any claims ultimately will be prosecuted against the Company or its
subsidiaries or whether any such claims ultimately will result in payment
of any liability or settlement by the Company or its subsidiaries.
The Company understands that the parties to the arbitration and
court proceedings and other participants in these markets currently are
attempting to achieve a business solution that could involve a financial
contribution by participants in the market. Although no assurances can be
given as to the outcome of the pending proceedings and their effect on the
Company, the Company believes, based on the information presently available
to it, that any such effect should not have a material adverse affect the
Company's financial condition.
Separately, one of the Company's subsidiaries is involved in an
arbitration with the Liquidator of an insolvent insurer. The Liquidator
claims that the insurer is owed approximately $2.5 million attributable to
reinsurance premiums for business the Company's subsidiary agreed to, but
failed to, reinsure with the insurer. The arbitration is unrelated to the
arbitrations described above. The Liquidator's Statement of Claim was
submitted on May 12, 1999. The Company's subsidiary is in the process of
preparing a response. Based on information currently available, it is the
opinion of management that the Liquidator's claim is without merit, and the
Company and its subsidiary intend to vigorously defend against it.
(b) A civil complaint was filed on March 29, 1999 in the U.S.
District court for the Southern District of New York by Odyssey Re (London)
("Odyssey"). The complaint asserts claims against the Company, certain of
its subsidiaries, and unrelated parties under the Racketeering Influenced
and Corrupt Organizations ("RICO") Act and for common law fraud. The
complaint alleges that the defendants participated in an unlawful scheme to
induce Odyssey to act as a reinsurer for reinsurance risks that, by their
structure and nature, were certain to generate substantial losses. Odyssey
seeks compensatory damages "in excess of $35 million," treble damages,
punitive damages in an unspecified amount, rescission of its reinsurance
and other contracts, and payment of its attorneys' fees.
Based on information currently available, it is the opinion of
management that this complaint is without merit, and the Company intends to
vigorously defend itself. In this respect, on April 28, 1999, the Company
filed a motion to dismiss the claim. A hearing on the Company's motion was
held on June 28, 1999. By order dated July 1, 1999, the court directed
Odyssey to file an amended complaint by August 15, 1999. The Company
anticipates that it will be able to move to dismiss the amended complaint
on one or more grounds. Although no assurance can be given as to the
outcome of this legal proceeding, the Company believes, based on the
information currently available to it, that the outcome should not
materially adversely affect the Company's financial condition.
(c) The Company is subject to other litigation and arbitration in
the ordinary course of its business. While any of these proceedings
contains an element of uncertainty, management presently believes the
outcome of these currently pending proceedings will not have a material
adverse effect on the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its Annual Meeting of Stockholders (the "Meeting") on May
27, 1999. A total of 9,863,372 of the Company's Ordinary Shares, with one
vote each, were entitled to vote at the Meeting and holders of 6,132,949
Ordinary Shares voted in person or by proxy, constituting a quorum.
The following directors were elected at the Meeting:
Name of Director Votes for Votes Withheld
- ---------------- --------- --------------
Mr. Nicholas Brown 6,130,199 2,750
Mr. Reuben Jeffery III 6,130,199 2,750
Mr. Jean de Pourtales 6,130,199 2,750
The following additional directors continued to serve after the Meeting:
George W. Jones, Warren W. Cabral, and Nicholas Mark Cooke. Subsequent to
the Meeting, Mr. Cabral resigned and Mr. Patrick J. McDonough was appointed
as a new director.
Other matters voted on during the Meeting were as follows:
Confirmation of independent auditors, Arthur Andersen LLP, of the Company:
6,131,949 affirmative, 1,000 negative, -0- abstained.
Authority to act on such other business as properly came before the Meeting
or any adjournment thereof: 6,132,949 granted, -0- withheld.
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit No. Description
----------- -----------
11. Statement of Computation of Net Income Per
Ordinary Share
99. Forward Looking Information
(b) Reports on Form 8-K
The Company filed a report on Form 8-K dated April 7, 1999
reporting a suit brought against it by Odyssey Re and
management's action taken thereto.
The Company filed a report on Form 8-K on April 27, 1999
reporting a change in auditors to be effective for the
fiscal year ended 1999.
The Company filed a report on Form 8-K on May 14, 1999
reporting the Company's financial results for the three
months ended March 31, 1999.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
Dated: August 12, 1999
STIRLING COOKE BROWN HOLDINGS LIMITED
BY: George W. Jones
-------------------------------
George W. Jones
CHIEF FINANCIAL OFFICER AND DIRECTOR
EXHIBIT 11
STIRLING COOKE BROWN HOLDINGS LIMITED
STATEMENT OF COMPUTATION OF NET INCOME PER ORDINARY SHARE
<TABLE>
<CAPTION>
(Expressed in thousands of United States Dollars, except per share data)
As of or for the three As of or for the six
months ended June 30 months ended June 30
1998 1999 1998 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net Income............................. $ 4,025 $ 978 $ 8,012 $ 4,609
=========== =========== =========== ===========
BASIC
Number of Shares:
Weighted average number of
ordinary shares outstanding.......... 9,863,372 9,863,372 9,863,372 9,863,372
Weighted average treasury
shares held.......................... (40,000) (443,400) (40,000) (321,630)
----------- ----------- ----------- -----------
9,823,372 9,419,972 9,823,372 9,541,742
=========== =========== =========== ===========
Net income per share $ 0.41 $ 0.10 $ 0.82 $ 0.48
=========== =========== =========== ===========
DILUTED
Number of shares:
Weighted average number of
ordinary shares outstanding.......... 9,863,372 9,863,372 9,863,372 9,863,372
Weighted average treasury
shares held (40,000) (443,400) (40,000) (321,630)
Incremental shares of outstanding
stock options........................ 60,544 -- 52,117 --
----------- ----------- ----------- -----------
9,883,916 9,419,972 9,875,489 9,541,742
=========== =========== =========== ===========
Net income per share assuming dilution $ 0.41 $ 0.10 $ 0.81 $ 0.48
=========== =========== =========== ===========
</TABLE>
EXHIBIT 99
FORWARD-LOOKING INFORMATION
The Private Securities Litigation Reform Act of 1995 provides a
"safe harbor" for forward-looking statements. The Company's Form l0-K for
the year ended December 31, 1998, the Company's 1998 Annual Report to
Shareholders, any Form 10-Q or Form 8-K of the Company, or any other oral
or written statements made by or on behalf of the Company, may include
forward-looking statements which reflect the Company's current views with
respect to future events and financial performance. These forward-looking
statements are identified by their use of such terms and phrases as
"intends," "intend," "intended," "goal," "estimate," "estimates,"
"expects," "expect," "expected," "project," "projects," "projected,"
"projections," "plans," "anticipates," "anticipated," "should," "designed
to," "foreseeable future," "believe," "believes," and "scheduled" and
similar expressions. Readers are cautioned not to place undue reliance on
these forward-looking statements, which speak only as of the date the
statement was made. The Company undertakes no obligation to publicly update
or revise any forward-looking statements, whether as a result of new
information, future events or otherwise. The actual results of the Company
may differ significantly from the results discussed in forward-looking
statements. Factors that might cause such a difference include but are not
limited to, (a) the general political, economic and competitive conditions
in the United States, Bermuda and the United Kingdom, and other markets
where the Company operates; (b) changes in capital availability or costs,
such as changes in interest rates; (c) market perceptions of the industry
in which the Company operates, or security or insurance ratings; (d)
government regulation; (e) authoritative generally accepted accounting
principles or policy changes from such standard-setting bodies as the
Financial Accounting Standards Board and the Securities and Exchange
Commission, (f) possible disruptions from the Year 2000 problem, and the
factors set forth below.
COMPETITION; CYCLICALITY OF INSURANCE AND REINSURANCE BUSINESSES
The business of providing risk management services and products
to the workers' compensation and property and casualty insurance markets is
highly competitive. The Company competes with other providers of
alternative market services (including domestic and foreign insurance
companies, reinsurers, insurance brokers, captive insurance companies,
rent-a-captives, self-insurance plans, risk retention groups, state funds,
assigned risk pools and other risk-financing mechanisms) and with providers
of traditional insurance coverage. Many of the Company's competitors have
significantly greater financial resources, longer operating histories, and
better financial or insurance ratings and offer a broader line of insurance
products than the Company. Factors affecting the traditional insurance and
reinsurance industry influence the environment for alternative risk
management services and products. Insurance market conditions historically
have been subject to cyclicality and volatility due to premium rate
competition, judicial trends, changes in the investment and interest rate
environment, regulation and general economic conditions, causing many
insurance buyers to search for more stable alternatives. The traditional
insurance and reinsurance industry is in a protracted period of significant
price competition, due in part to excess capacity in most lines of
business. While some form of workers' compensation insurance is a statutory
requirement in most states, the choices exercised by employers in response
to the underwriting cycle in traditional insurance and reinsurance markets
have had and will continue to have a material effect on the Company's
results of operations. Although most of the Company's revenues are derived
from fees and commissions rather than underwriting activities, a
substantial portion of the Company's fees are calculated as a percentage of
premium volume, and therefore the Company's fee revenues are directly and
adversely affected by highly competitive market conditions. Additionally,
changes in risk retention patterns by purchasers of insurance and
reinsurance products could have an adverse effect upon the Company.
DEPENDENCE ON RELATIONSHIPS WITH INDEPENDENT PRIMARY
INSURANCE CARRIERS
The Company's Managing General Agencies market insurance products
and programs developed by the Company on behalf of insurers and reinsurers.
The primary insurers are Clarendon National Insurance Company and its
affiliates ("Clarendon") and Legion Insurance Company and its affiliates
("Legion"). In addition, the Company's insurance brokering and reinsurance
brokering operations, Managing General Underwriters, and claims and loss
control servicing operations provide additional business and services to
Clarendon and Legion in respect of these products and other insurance and
reinsurance policies. In 1998, fees received from Clarendon accounted for
approximately 43% (1997 -- 51%) of the Company's total revenues, while fees
received from Legion accounted for less than 10% (1997 -- same) of the
Company's total revenues. Historically, the Company has had a good
relationship with both Clarendon and Legion. There can be no assurance,
however, that Clarendon or Legion will not institute changes which affect
their relationships with the Company. The loss of business from Clarendon
or Legion could have a material adverse effect on the Company's results of
operations and financial conditions. Additionally, any decline in or
disruption of Clarendon's or Legion's business could disrupt the Company's
business and could have a material adverse effect on the Company's results
of operations and financial condition.
REINSURANCE CONSIDERATIONS; AVAILABILITY AND COSTS; CREDIT RISKS
The Company relies upon the use of reinsurance agreements in its
various programs to limit and manage the amount of risk retained by the
Company or its customers, including insurance companies. The availability
and cost of reinsurance may vary over time and is subject to prevailing
market conditions. A lack of available reinsurance coverage could limit the
Company's ability to continue certain of its insurance programs. In respect
of the Company's own insurance operations, the lack of available
reinsurance or increases in the cost of reinsurance could also increase the
amount of risk retained by the Company. In addition, while the Company
seeks to obtain reinsurance with coverage limits intended to be appropriate
for the risk exposures assumed, there can be no assurance that losses
experienced by the Company will be within the coverage limits of the
Company's reinsurance agreements. The Company is also subject to credit
risk as a result of its reinsurance arrangements, as the Company is not
relieved of its liability to policyholders by ceding risk to its
reinsurers. The Company is selective in regard to its reinsurers, placing
reinsurance with only those reinsurers that it believes have strong balance
sheets. The Company monitors the financial strength of its reinsurers on an
ongoing basis. The insolvency, inability, or unwillingness of any of the
reinsurers used by the Company to meet its obligations could have a
material adverse effect on the results of operations and financial position
of the Company. No assurance can be given regarding the future ability of
any of the Company's reinsurers to meet their obligations. The
establishment of provisions against reinsurance balances receivable is an
inherently uncertain process and there can be no assurance that the
ultimate provision will not materially increase or decrease. Although the
Company has no reason to believe that its provision against reinsurance
balances receivable are inadequate, it is possible that the Company will
need to revise the provision significantly in the near term. In the event
of such an increase or decrease, the amount would be reflected in the
Company's income statement in the period in which the provision was
adjusted.
DEPENDENCE ON KEY PERSONNEL
The Company's success depends to a substantial extent on the
ability and experience of its executive officers. The loss of the services
of one or more such persons could have a material adverse effect on the
business of the Company and its future operations.
POSSIBLE REVISIONS TO LOSS RESERVES
To the extent its activities involve any retention of risk of
loss, the Company maintains loss reserves to cover its estimated ultimate
liability for losses and loss adjustment expenses with respect to reported
and unreported claims incurred. Reserves are estimates involving actuarial
and statistical projections at a given time of what the Company expects to
be the cost of the ultimate settlement and administration of claims based
on facts and circumstances then known, estimates of future trends in claims
severity and other variable factors such as inflation. To the extent that
reserves prove to be inadequate in the future, the Company would have to
increase such reserves and incur a charge to earnings in the period such
reserves are increased, which could have a material adverse effect on the
Company's results of operations and financial condition. The establishment
of appropriate reserves is an inherently uncertain process and there can be
no assurance that ultimate losses will not materially exceed the Company's
loss reserves. The Company has limited historical claim loss experience to
serve as a reliable basis for the estimation of ultimate claim losses.
Although the Company has no reason to believe that its loss reserves are
inadequate, it is possible that the Company will need to revise the
estimate of claim losses significantly in the near term. In the event of
such an increase, the amount, net of associated reinsurance recoveries,
would be reflected in the Company's income statement in the period in which
the reserves were increased.
ADVERSE EFFECT OF LEGISLATION AND REGULATORY ACTIONS
The Company conducts business in a number of states and foreign
countries. Certain of the Company's subsidiaries are subject to
comprehensive regulation and supervision by government agencies in the
states and foreign jurisdictions in which they do business. The primary
purpose of such regulation and supervision is to provide safeguards for
policyholders rather than to protect the interests of shareholders. The
laws of the various state jurisdictions establish supervisory agendas with
broad administrative powers with respect to, among other things, licensing
to transact business, licensing of agents, admittance of assets, regulating
premium rates, approving policy forms, regulating unfair trade and claims
practices, establishing reserve requirements and solvency standards,
requiring participation in guarantee funds and shared market mechanisms,
and restricting payment of dividends. Also, in response to perceived
excessive cost or inadequacy of available insurance, states have from
time-to-time created state insurance funds and assigned risk pools which
compete directly, on a subsidized basis, with private providers such as the
Company. Any such event, in a state in which the Company has substantial
operations, could substantially affect the profitability of the Company's
operations in such state, or cause the Company to change its marketing
focus. State insurance regulators and the National Association of Insurance
Commissioners continually re-examine existing laws and regulations. It is
impossible to predict the future impact of potential state, federal and
foreign country regulations on the Company's operations, and there can be
no assurance that future insurance-related laws and regulations, or the
interpretation thereof, will not have an adverse effect on the operations
of the Company's business.
POSSIBLE ADVERSE IMPACT OF LICENSING PROCESS ON REALM NATIONAL
The Company is in the process of seeking the regulatory approvals
necessary to expand Realm National Insurance Company Limited's ("Realm
National") business to include workers' compensation and other specialty
casualty insurance lines in each of the states in which Realm National is
currently licensed to offer other insurance products, and intends to
license Realm National in substantially all of the remaining 50 states and
the District of Columbia. The Company expects that as Realm National
receives such approvals and licenses, the revenues to be generated by Realm
National and its integration into the Company's existing businesses will
become an important component of the Company's future earnings growth.
However, no assurance can be given that Realm National will receive such
approvals and licenses, or when such approvals and licenses will be granted
if Realm National does receive them. A state may require as part of its
licensing process that the insurer or its management have a certain period
of experience (typically one to three years) in the lines of business for
which a license is being sought. Although the Company's management has been
involved in offering workers' compensation products and services for many
years, Realm National's own experience in this line of business began for
all material purposes after Realm National's acquisition by the Company in
September 1996. Therefore, some states may determine that Realm National
does not have the requisite experience to meet this requirement. In the
absence of such experience, the insurance regulatory authority may delay
issuing a license until such time as the experience is obtained. The
failure to receive, or a delay in receiving, one or more of such approvals
and licenses could have a material adverse impact on Realm National's
ability to generate future earnings growth for the Company.
TAXATION OF THE COMPANY AND CERTAIN OF ITS SUBSIDIARIES
The Company and certain of its subsidiaries are incorporated
outside the United States and, as foreign corporations, do not file United
States tax returns. These entities believe that they operate in such a
manner that they will not be subject to U.S. tax (other than U.S. excise
tax on reinsurance premiums and withholding tax on certain investment
income from U.S. sources) because they do not engage in business in the
United States. There can be no assurance, however, that these entities will
not become subject to U.S. tax because U.S. law does not provide definitive
guidance as to the circumstances in which they would be considered to be
doing business in the United States. If such entities are deemed to be
engaged in business in the United States (and, if the Company were to
qualify for benefits under the income tax treaty between the United States
and Bermuda or the United States and the United Kingdom, such business
would be attributable to a "permanent" establishment in the United States),
the Company would be subject to U.S. tax at regular corporate rates on its
income that is effectively connected with its U.S. business plus an
additional 30% "branch profits" tax on income remaining after the regular
tax.
INTEREST RATE FLUCTUATIONS
The Company maintains most of its cash in the form of short-term,
fixed-income securities, the value of which is subject to fluctuation
depending on changes in prevailing interest rates. The Company generally
does not hedge its cash investments against interest rate risk.
Accordingly, changes in interest rates may result in fluctuations in the
income derived from the Company's cash investments.
LEGAL PROCEEDINGS
The Company is a party to certain legal proceedings. Although the
Company does not believe, based on presently available information, that
the outcome of these proceedings will have a material adverse effect on the
Company's financial condition, the outcomes of legal proceedings are always
subject to uncertainty.
