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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
Commission file number 000-23481
ESG RE LIMITED
(Exact name of Registrant as specified in its charter)
Bermuda Not Applicable
(State or other jurisdiction of (I.R.S. Employer
incorporation of organization) Identification No.)
16 Church Street
Hamilton HM11, Bermuda
(Address of executive offices, zip code)
(441) 295-2185
(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 the Registrant's common shares (par value $1.00 per share)
outstanding as of November 11, 1998, was 13,923,799.
================================================================================
<PAGE>
ESG RE LIMITED
1.1 Index to the Condensed Consolidated Financial Statements
PAGE
----
Condensed Consolidated Balance Sheets as of September 30, 1998
(unaudited) and December 31, 1997 1
Condensed Consolidated Statements of Operations for the three
months and nine months ended September 30, 1998 and 1997 (unaudited) 2
Condensed Consolidated Statements of Cash Flows for the nine
months ended September 30, 1998 and 1997 (unaudited) 3
Condensed Consolidated Statements of Comprehensive Income for
the three months and nine months ended September 30,
1998 and 1997 (unaudited) 4
Notes to the Condensed Consolidated Financial Statements
(unaudited) 5
Independent Accountants' Review Report 7
<PAGE>
PART I
ITEM 1. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ESG RE LIMITED
Condensed Consolidated Balance Sheets
(U.S. dollars in thousands except share and per share data)
<TABLE>
<CAPTION>
Unaudited
September 30, December 31,
1998 1997
--------------------------
<S> <C> <C>
ASSETS
Fixed maturity investments - available for sale, at fair value
(cost: $215,231 and $218,694) $ 218,441 $ 218,867
Short-term investments 13,029 11,913
Cash and cash equivalents 11,279 6,196
-------------------------
Total investments and cash 242,749 236,976
Accrued investment income 3,852 437
Management fees receivable 1,510 3,259
Premiums receivable 156,710 25,785
Reinsurance recoverable on incurred losses 1,242 397
Prepaid reinsurance premiums 2,069 300
Deferred acquisition costs 32,600 4,147
Reinsurance balances receivable 8,638 --
Other assets 3,219 1,767
-------------------------
TOTAL ASSETS $ 452,589 $ 273,068
=========================
LIABILITIES
Unpaid losses and loss expenses $ 39,983 $ 7,846
Unearned premiums 105,244 12,168
Acquisition costs payable 43,802 9,584
Reinsurance balances payable 13,086 751
Payable for securities purchased 3,437 --
Accrued expenses, accounts payable, and other liabilities
($40 and $2,520 due to related parties) 3,051 8,344
-------------------------
Total liabilities 208,603 38,693
- --------------------------------------------------------------------------------------------------------
Fiduciary liabilities 5,188 10,485
- --------------------------------------------------------------------------------------------------------
Less: Cash and cash equivalents held in a fiduciary capacity (5,188) (10,485)
- --------------------------------------------------------------------------------------------------------
Commitments and contingencies -- --
SHAREHOLDERS' EQUITY
Preference shares, 50,000,000 shares authorized; no shares issued and
outstanding for 1998 and 1997 -- --
Class B common shares, 100,000,000 shares authorized; no shares
issued and outstanding for 1998 and 1997 -- --
Common shares, par value $1 per share; 100,000,000 shares authorized;
13,923,799 shares issued and outstanding for 1998 and 1997 13,924 13,924
Additional paid-in capital 226,216 225,954
Accumulated other comprehensive income:
Foreign currency translation adjustments, net of tax (723) 32
Unrealized gains on securities, net of reclassification
adjustments and tax 2,953 170
-------------------------
Accumulated other comprehensive income 2,230 202
-------------------------
Retained earnings (deficit) 1,616 (5,705)
-------------------------
Total shareholders' equity 243,986 234,375
-------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 452,589 $ 273,068
=========================
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
1
<PAGE>
ESG RE LIMITED
Condensed Consolidated Statements of Operations
(U.S. dollars in thousands except share and per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30, September 30, September 30,
1998 1997 1998 1997
------------------------------ ------------------------------
<S> <C> <C> <C> <C>
REVENUES
Net premiums written $ 53,915 $ -- $ 157,597 $ --
Change in unearned premiums (27,781) -- (90,154) --
---------------------------- ----------------------------
Net premiums earned 26,134 -- 67,443 --
Management fee revenue 181 356 1,380 2,951
Net investment income (Note 3) 3,359 -- 9,590 --
Net realized investment gains 386 -- 1,712 --
---------------------------- ----------------------------
30,060 356 80,125 2,951
---------------------------- ----------------------------
EXPENSES
Losses and loss expenses 15,940 -- 42,922 --
Acquisition costs 7,324 -- 17,028 --
Administrative expenses (Note 3) 2,467 1,099 8,771 3,153
---------------------------- ----------------------------
25,731 1,099 68,721 3,153
---------------------------- ----------------------------
NET INCOME (LOSS) BEFORE TAXES 4,329 (743) 11,404 (202)
Income tax expense (benefit) 335 (433) 912 (89)
---------------------------- ----------------------------
NET INCOME (LOSS) $ 3,994 $ (310) $ 10,492 $ (113)
============================ ============================
PER SHARE DATA
Basic net income (loss) per share $ 0.29 $ (1.72) $ 0.75 $ (0.63)
============================ ============================
Diluted net income (loss) per share $ 0.29 $ (1.72) $ 0.74 $ (0.63)
============================ ============================
Weighted average shares outstanding
Basic 13,923,799 180,000 13,923,799 180,000
Diluted 13,924,571 180,000 14,172,947 180,000
============================ ============================
Dividends declared per
share $ 0.075 $ -- $ 0.225 $ --
============================ ============================
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
2
<PAGE>
ESG RE LIMITED
Condensed Consolidated Statements of Cash Flows
(U.S. dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Nine Months Ended
---------------------------------------------
September 30, 1998 September 30, 1997
---------------------------------------------
<S> <C> <C>
CASH FLOWS FROM INVESTING ACTIVITIES
Net cash provided by (used in) operating activities $ (1,816) $ (538)
-------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Cost of fixed maturity investments acquired - available
for sale (405,480) --
Proceeds from sale of fixed maturity investments - available --
for sale 413,824
Net proceeds from sale of other investment assets (1,116) --
Purchases of fixed assets (254) (55)
Purchases of intangible assets (90) --
Sales of Fixed Assets -- 5
-------------------------------------
Net cash provided by (used in) investing activities 6,884 (50)
-------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net change in short-term debt -- 230
Issuance and sale of shares 385
-------------------------------------
Net cash provided by financing activities -- 615
-------------------------------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 15 19
-------------------------------------
Net increase in cash 5,083 46
Cash and cash equivalents at January 1 6,196 15
-------------------------------------
Cash and cash equivalents at September 30 $ 11,279 $ 61
=====================================
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
3
<PAGE>
ESG RE LIMITED
Condensed Consolidated Statements of Comprehensive Income
(U.S. dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30, September 30, September 30,
1998 1997 1998 1997
----------------------------- ------------------------------
<S> <C> <C> <C> <C>
Net income (loss) $ 3,994 $(310) $ 10,492 $(113)
---------------------- -----------------------
Other comprehensive income, net of tax:
Foreign currency translation adjustments 82 9 (755) 67
Unrealized gains on securities:
Unrealized holding gains arising during 2,989 -- 4,495 --
the period
Less reclassification adjustment for gains
included in net income (386) -- (1,712) --
---------------------- -----------------------
2,603 -- 2,783 --
---------------------- -----------------------
Other comprehensive income 2,685 9 2,028 67
---------------------- -----------------------
Comprehensive income $ 6,679 $(301) $ 12,520 $ (46)
====================== =======================
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
4
<PAGE>
ESG RE LIMITED
Notes to the Unaudited Condensed Consolidated Financial Statements
1. Basis of Presentation
The accompanying unaudited consolidated financial statements of ESG Re Limited
(together with its subsidiaries, the "Company") have been prepared in accordance
with generally accepted accounting principles for interim financial information
and with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles of the United States of America
("U.S. GAAP") for complete financial statements.
In the opinion of management, these unaudited financial statements reflect all
adjustments considered necessary for a fair presentation of financial position,
results of operations and comprehensive income as of and for the periods
presented. The results of operations for any interim period are not necessarily
indicative of the results for a full year. These unaudited consolidated
financial statements should be read in conjunction with the audited consolidated
financial statements, and related notes thereto, included in the Company's 1997
Annual Report on Form 10-K.
The preparation of financial statements in accordance with U.S. GAAP requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period as well as the disclosure of such amounts. Actual results
could materially differ from those estimates and assumptions.
2. Commitments and Contingencies
(a) Employment Contracts
The Company has entered into employment contracts with several employees for
terms of one to five years which have total minimum commitments of $7.3 million
excluding any performance bonuses which are at the discretion of and determined
by the Board of Directors of the Company. The contracts remunerate the employees
for providing services to the Company. The contracts include various non-compete
clauses following termination of employment.
(b) Lease Commitments
The Company and its subsidiaries have various obligations under operating
leases.
The future minimum commitments under lease and employment agreements are as
follows:
Employment Lease
U.S. dollars in thousands Commitments Commitments Total
- --------------------------------------------------------------------------------
Years Ending December 31,
1998 $ 1,199 $ 100 $ 1,299
1999 2,253 478 2,731
2000 1,850 489 2,339
2001 948 351 1,299
2002 773 73 846
Thereafter 255 -- 255
---------------------------------------------
Total $ 7,278 $ 1,491 $ 8,769
=============================================
5
<PAGE>
3. Related Parties
Included in net investment income for the three months and nine months ended
September 30, 1998 were related party investment expenses of $135 thousand and
$409 thousand, respectively.
Related party expenses of $437 thousand were included in administrative expenses
for the nine months ended September 30, 1998. There were no related party
expenses for the third quarter. For the three and nine months ended September
30, 1997, related party expenses of $108 thousand and $207 thousand,
respectively, were included in administrative expenses.
6
<PAGE>
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
To the Board of Directors and Shareholders
of ESG Re Limited
We have reviewed the accompanying condensed consolidated balance sheet of ESG Re
Limited and subsidiaries as of September 30, 1998 and the related condensed
consolidated statements of operations and comprehensive income for the
three-month and nine-month periods ended September 30, 1998 and 1997, and the
condensed consolidated statements of cash flows for the nine-month periods ended
September 30, 1998 and 1997. These financial statements are the responsibility
of the Company's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and of making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in accordance
with generally accepted auditing standards, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to such condensed consolidated financial statements for them to be in
conformity with accounting principles generally accepted in the United States.
We have previously audited, in accordance with auditing standards generally
accepted in the United States, the consolidated balance sheet of ESG Re Limited
and subsidiaries as of December 31, 1997 and the related consolidated statements
of operations, comprehensive income, changes in shareholders' equity and cash
flows for the year then ended (not presented herein) and in our report dated
February 19, 1998, we expressed an unqualified opinion on those consolidated
financial statements. In our opinion, the information set forth in the
accompanying condensed consolidated balance sheet as of December 31, 1997 is
fairly stated, in all material respects, in relation to the consolidated balance
sheet from which it has been derived.
Deloitte & Touche
November 12, 1998
7
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following is a discussion and analysis of the financial condition as of
September 30, 1998 and the results of operations of ESG Re Limited and
subsidiaries (the "Company" or "ESG") for the three months and nine months ended
September 30, 1997 and 1998. This discussion and analysis should be read in
conjunction with the attached unaudited consolidated financial statements and
notes thereto and the audited consolidated financial statements of the Company
as of and for the year ended December 31, 1997 and notes thereto included in the
Company's Annual Report to Shareholders for the fiscal year ended December 31,
1997. The unaudited consolidated financial statements as of and for the three
months and nine months ended September 30, 1998 and notes thereto have been
reviewed by independent accountants in accordance with standards established by
the American Institute of Certified Public Accountants.
The results of operations and cash flows for any interim period are not
necessarily indicative of results for the full year. In addition, this quarterly
report contains forward-looking statements regarding future profit levels,
premium growth, cash flows and other matters, which involve risks and
uncertainties that may affect the actual results of operations of the Company.
The following important factors, among others, could cause actual results to
differ materially from those set forth in the forward-looking statements: claims
frequency, claims severity, economic activity, competitive pricing and the
regulatory environment in which the Company operates.
GENERAL
The Company is a specialty reinsurance enterprise providing accident, medical,
credit, life and special risk reinsurance to insurers and selected reinsurers on
a worldwide basis, and underwriting management services to co-reinsurers. In
addition, the Company established a direct insurance company, Accent Europe
Insurance Company Limited, in the second quarter to offer pan-European products
to its distribution sources.
In December 1997, the Company raised gross proceeds of $257 million in a private
placement and an initial public offering (the "Offerings"). As a result, the
Company is now able to assume reinsurance risks for its own account. Prior to
the Offerings, the Company operated solely as a reinsurance management services
company. The September 30, 1998 financial statement results included herein
reflect the Company's financial performance as a reinsurance entity. The
September 30, 1997 results reflect the Company's financial performance as a
reinsurance management services company. Thus, comparison between these two
periods is not meaningful.
RESULTS OF OPERATIONS
NET INCOME
For the three months ended September 30, 1998, the Company managed, on behalf of
itself and its co-reinsurers, total premiums of $58.8 million. The current
quarter's managed premium was attributable primarily to new business generation
and to renewals. Also during the quarter, the Company placed $3.5 million with
co-reinsurers, retroceded $1.4 million, and reported net premiums written of
$53.9 million.
For the nine months ended September 30, 1998, the Company managed, on behalf of
itself and its co-reinsurers, total premiums of $177.4 million, of which it
placed $16.6 million with co-reinsurers and retroceded $3.2 million, resulting
in $157.6 million net premiums written for the period.
8
<PAGE>
For the three months and nine months ended September 30, 1998, the Company
continued to incur significant professional services expenses and associated
travel expenses related to initiatives for improving accounting and control
systems and for hiring key executives. Combined professional services and travel
expenses represented approximately 40.0% of the quarter and year to date
administrative expenses. Additionally, the Company continued to make long-term
investments in new business locations. Total administrative expenses for the
three months ended September 30, 1998 were $2.5 million, or 4.6% and 9.4%,
respectively, of net premiums written and net premiums earned. Total
administrative expenses for the nine months ended September 30, 1998, were $8.8
million, or 5.6% and 13.0%, respectively, of net premiums written and net
premiums earned. Loss and loss adjustment expense ratios for the three and nine
months ended September 30, 1998 were 61.0% and 63.7%, respectively, and
acquisition expense ratios for the same periods were 28% and 25.2%,
respectively. Net income for the three months and nine months ended September
30, 1998 was $4.0 million and $10.5 million, respectively.
Consolidated results of operations for the three months and nine months ended
September 30, 1998 and 1997 were as follows:
<TABLE>
<CAPTION>
For the three months For the nine months
ended September 30 ended September 30
U.S dollars in thousands except per share data 1998 1997 1998 1997
- --------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net income (loss) available to common shareholders $3,994 $ (310) $10,492 $ (113)
Basic net income (loss) per common share $ 0.29 $(1.72) $ 0.75 $(0.63)
Diluted net income (loss) per common share $ 0.29 $(1.72) $ 0.74 $(0.63)
</TABLE>
UNDERWRITING RESULTS
Until December 1997 the Company operated as a reinsurance management services
company. In December 1997, the Company assumed a portion of the pool business it
previously managed on behalf of reinsurance clients, retroactive to January 1,
1997. For the year ended December 31, 1997, the Company managed approximately
$100 million of gross premiums written, of which it assumed approximately $26
million. Gross and net premiums written and net premiums earned for the three
months and nine months ended September 30, 1998 were as follows:
Three months ended Nine months ended
U.S. dollars in millions September 30, 1998 September 30, 1998
- --------------------------------------------------------------------------------
Total premiums managed $ 58.8 $ 177.4
Amount placed with co-reinsurers 3.5 16.6
Gross premiums written 55.3 160.8
Net premiums written 53.9 157.6
Net premiums earned 26.1 67.4
9
<PAGE>
Gross premiums written for the three months ended September 30, 1998 consisted
of the following:
o New Business - approximately $49.0 million, or 88.6%, of gross premiums
written was generated from new business. A new representative office in
Toronto, Canada, which was opened in October 1997 to serve the North
American market, underwrote $25.3 million of premiums, or 46% of the third
quarter's gross premium volume.
o Renewal Business - approximately $7.9 million, or 14.2%, of gross premiums
written was generated from renewal business. Historically, the primary
renewal period for the international treaty reinsurance market has been
the first quarter of each calendar year.
o 1997 Underwriting Year - A negative $1.6 million, or approximately (2.8%),
of gross premiums written was attributable to the Company's re-evaluation
of the gross premiums written during the year ended December 31, 1997.
Gross premiums written for the nine months ended September 30, 1998 consisted of
the following:
o New Business - approximately $119.3 million or 74.2% of gross premiums
written was generated from new business. The Company's new representative
office in Toronto underwrote $52.4 million of gross premiums written.
Two significant contracts for European medical, personal accident and life
business were underwritten in the first quarter, including one for quota
share treaty reinsurance incepting January 1, 1997. These contracts
contributed $22.5 million to gross premiums written and $19.4 million to
net premiums earned for the nine months ended September 30, 1998.
Additionally, one significant North American medical contract was
underwritten in the third quarter, contributing $21.6 million gross
written premiums.
o Renewal Business - approximately $39.9 million, or 24.8%, of gross
premiums written was generated from renewal business.
o 1997 Underwriting Year - approximately $1.6 million, or 1.0%, of gross
premiums written was attributable to the 1997 underwriting year book of
business.
10
<PAGE>
Underwriting results for the three months ended September 30, 1998, by line of
business and in total were as follows:
<TABLE>
<CAPTION>
Personal
U.S. dollars in thousands Medical Accident Special Credit Life Total
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Gross premiums written $ 30,516 $ 15,655 $ 190 $8,186 $ 796 $55,343
=================================================================
Net premiums written 29,965 15,463 179 7,883 425 53,915
=================================================================
Net premiums earned 11,004 16,971 901 1,694 (4,436) 26,134
Losses and loss expenses 6,310 11,550 (42) 1,268 (3,146) 15,940
Acquisition costs 4,141 3,379 348 316 (860) 7,324
Operating costs 843 1,300 69 130 (340) 2,002
-----------------------------------------------------------------
Net underwriting income (loss) $ (290) $ 742 $ 526 $ (20) $ (90) $ 868
=================================================================
</TABLE>
Two multiple-product line accounts are producing a lower life weighting than
originally assumed. The resulting realignment of the premium and expenses from
life business to the personal accident and medical lines created negative
underwriting results for the life product line.
Underwriting results for the nine months ended September 30, 1998, by line of
business and in total were as follows:
<TABLE>
<CAPTION>
Personal
U.S. dollars in thousands Medical Accident Special Credit Life Total
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Gross premiums written $83,707 $47,329 $5,613 $12,177 $ 12,035 $160,861
==================================================================
Net premiums written 82,487 46,360 5,433 11,752 11,565 157,597
==================================================================
Net premiums earned 24,790 34,505 2,050 3,166 2,932 67,443
Losses and loss expenses 14,971 22,885 445 2,316 2,305 42,922
Acquisition costs 8,540 6,875 751 501 361 17,028
Operating costs 2,231 3,066 184 278 402 6,161
------------------------------------------------------------------
Net underwriting income (loss) $ (952) $ 1,679 $ 670 $ 71 $ (136) $ 1,332
==================================================================
</TABLE>
11
<PAGE>
OPERATING RATIOS
The operating ratios for the three months ended September 30, 1998, by line of
business and in total were as follows:
<TABLE>
<CAPTION>
Personal Special
Medical Accident Risk Credit Life Combined
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Loss ratio 57.3% 68.1% (4.7)% 74.9% 70.9% 61.0%
Acquisition expense ratio 37.6% 19.9% 38.6% 18.7% 19.4% 28.0%
- ---------------------------------------------------------------------------------------------------------
Loss and acquisition expense ratio 94.9% 88.0% 33.9% 93.6% 90.3% 89.0%
- ---------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------
Operating expense ratio 7.7%
----
Combined ratio 96.7%
====
</TABLE>
The operating ratios for the nine months ended September 30, 1998, by line of
business and in total were as follows:
<TABLE>
<CAPTION>
Personal Special
Medical Accident Risk Credit Life Combined
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Loss ratio 60.4% 66.3% 21.7% 73.2% 78.6% 63.7%
Acquisition expense ratio 34.4% 19.9% 36.6% 15.8% 12.3% 25.2%
- ---------------------------------------------------------------------------------------------------------
Loss and acquisition expense ratio 94.8% 86.2% 58.3% 89.0% 90.9% 88.9%
- ---------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------
Operating expense ratio 9.1%
----
Combined ratio 98.0%
====
</TABLE>
The nine months ended September 30, 1998 constituted the first full nine-month
period that the Company operated as a reinsurer writing for its own account.
Accordingly, a combined ratio is presented inclusive of an operating results
component to provide a meaningful indication of the underwriting results of the
business. The operating expense ratios of 7.7% and 9.1% for the three months and
nine months ended September 30, 1998, respectively, were calculated by
expressing total administrative expenses net of management fee revenue and
corporate office expenses as a percentage of net premiums earned. In addition,
during the third quarter, based on a review of operating expenses incurred to
support the acquisition of new and renewal insurance contracts under its
deferred acquisition policy, the Company deferred $0.6 million in order to
reflect the matching of revenues with related expenses. The increased deferral
improved the quarter and year-to-date combined ratios by 2.1% and 0.8%,
respectively.
12
<PAGE>
GEOGRAPHIC SPREAD
Geographic diversification of the Company's business continued to be
demonstrated by the distribution of gross written premiums for the three months
and nine months ended September 30, 1998 and the year ended December 31, 1997,
as follows:
Three months ended Nine months ended Year ended
September 30, 1998 September 30, 1998 December 31, 1997
- --------------------------------------------------------------------------------
Western Europe 18.9% 37.0% 62.7%
North America 49.6% 36.5% 1.5%
Latin America 30.0% 18.2% 19.2%
Eastern Europe 0.1% 0.3% 5.3%
Asia 0.8% 0.9% 1.5%
Other 0.6% 7.1% 9.8%
- --------------------------------------------------------------------------------
Total 100.0% 100.0% 100.0%
- --------------------------------------------------------------------------------
PRODUCT MIX
The distribution of gross premiums written by line of business for the three
months and nine months ended September 30, 1998 and for the year ended December
31, 1997 was as follows:
Three months ended Nine months ended Year ended
September 30, 1998 September 30, 1998 December 31, 1997
- --------------------------------------------------------------------------------
Medical 55.2% 52.0% 38.2%
Personal Accident 28.3% 29.4% 35.8%
Credit 14.8% 7.6% 24.5%
Life 1.4% 7.5% --%
Special Risk 0.3% 3.5% 1.5%
- --------------------------------------------------------------------------------
Total 100.0% 100.0% 100.0%
- --------------------------------------------------------------------------------
EXPOSURE MANAGEMENT
The Company manages its underwriting risk exposures through geographic
distribution, an excess of loss reinsurance program, and co-reinsurance. The
Company's excess liability insurance policy generally provides limits up to a
maximum of $30 million per occurrence, with a minimum attachment point generally
of $100 thousand.
The Company's non-North American business is co-reinsured with two other
reinsurance companies that have participations with underwriting lines totaling
12.5%. The North American business is co-reinsured beginning with the third
quarter by one company with a participation of 10.0%; a second company began a
5.0% participation in the fourth quarter.
13
<PAGE>
MANAGEMENT FEE REVENUE
Management fee revenue decreased by approximately one-half for both the three
months and nine months ended September 30, 1998 compared to the corresponding
prior year periods. The overall decrease was due to the change in the focus of
the Company's business as it has converted from reinsurance management to acting
as a reinsurer for its own account. Management fee revenue for the three months
and nine months ended September 30, 1998 was comprised primarily of fees earned
as compensation for underwriting and managing the reinsurance portfolio on
behalf of the Company's co-reinsurers.
INVESTMENT RESULTS
For the three months ended September 30, 1998, net investment income and net
realized investment gains totaled $3.4 million and $0.4 million, respectively.
For the nine months ended September 30, 1998, net investment income and net
realized investment gains totaled $9.6 million and $1.7 million. As of September
30, 1998, total investments and cash were $243 million, consisting mainly of the
proceeds raised from the Offerings.
The following table reflects the investment results for the three months ended
September 30, 1998:
<TABLE>
<CAPTION>
Net Annualized Net Realized
Average Investment Effective Investment
U.S dollars in thousands Investments Income(1) Yield Gains
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Fixed maturity investments $218,624 $3,085 5.6% $386
Short-term investments 10,082 93 3.7% --
Cash and cash equivalents 17,064 181 4.2% --
- --------------------------------------------------------------------------------------------
Total $245,770 $3,359 5.5% $386
- --------------------------------------------------------------------------------------------
</TABLE>
(1) Net investment income is net of investment related expenses.
14
<PAGE>
The following table reflects the investment results for the nine months ended
September 30, 1998:
<TABLE>
<CAPTION>
Net Annualized Net Realized
Average Investment Effective Investment
U.S dollars in thousands Investments Income(1) Yield Gains
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Fixed maturity investments $218,654 $9,079 5.5% $1,712
Short-term investments 12,471 357 3.8% --
Cash and cash equivalents 8,738 154 2.3% --
- --------------------------------------------------------------------------------------------
Total $239,863 $9,590 5.3% $1,712
- --------------------------------------------------------------------------------------------
</TABLE>
(1) Net investment income is net of investment related expenses.
The Company's investment portfolio was positively impacted by a general increase
in prices in the U.S. bond markets which allowed net investment gains to be
realized on sales of fixed income securities during the period.
ADMINISTRATIVE EXPENSES
Total administrative expenses for the three months ended September 30, 1998
increased to $2.5 million from $1.1 million for the comparative prior year
quarter. Total administrative expenses increased to $8.8 million from $3.2
million for the nine months ended September 30, 1998. Administrative expenses
consist primarily of personnel costs, professional fees, travel costs, and
foreign exchange gains/losses.
Personnel costs increased by $0.4 million to $0.9 million during the 1998 third
quarter from the corresponding prior year period. Personnel costs increased by
$1.7 million to $3.1 million for the nine months ended September 30, 1998 over
the corresponding prior year period. This increase in personnel costs was due to
the significant investment in personnel made both prior to and since the
Offerings and includes additions of executives and staff at the holding company
and representative offices in Toronto, Canada and Sydney, Australia.
Professional service fees increased by $0.4 million to $0.6 million for the
three months ended September 30, 1998 from the corresponding prior year period.
For the nine months ended September 30, 1998, professional service fees
increased by $2.1 million to $2.6 million from the nine months ended September
30, 1997. These professional service fees related to the Company's new public
reporting requirements, staff recruiting efforts and computer systems
improvements.
Travel expenses increased by $0.1 million to $0.4 million for the three months
ended September 30, 1998 from the corresponding prior year period. For the nine
months ended September 30, 1998, travel expenses increased by $0.3 million to
$0.9 million compared to the corresponding prior year period. These travel
expenses relate primarily to the Company's continuing identification and
investigation of new business and underwriting opportunities.
15
<PAGE>
Foreign exchange gains of $65 thousand for the nine months ended September 30,
1998 were incurred as many of the currencies in which the Company operates
strengthened against the U.S. dollar. Foreign exchange gains recognized during
the second and third quarters more than offset first quarter 1998 foreign
exchange losses of $572 thousand during which time the U.S. dollar had
strengthened. These gains and losses were primarily unrealized and were incurred
on the revaluation of assets and liabilities denominated in foreign currencies
for reporting purposes. As the Company maintains a natural hedge, whereby
foreign currency assets are held in the same currency in which it must pay
liabilities, there is little impact on cash flows from foreign exchange gains
and losses.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 1998, total investments and cash were $242.7 million
compared to $237.0 million at December 31, 1997. All fixed maturity securities
in the Company's investment portfolio are classified as available for sale and
are carried at fair value. The following table summarizes the fixed maturity
investment portfolio as of September 30, 1998.
<TABLE>
<CAPTION>
Average
Fair Duration Market Credit
U.S. dollars in thousands Value (Years) Yield Rating
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Corporate securities $137,218 3.3 5.4% AA
U.S. treasury securities and
obligations of U.S. government
corporations and agencies 37,352 1.5 4.4% AAA
Mortgage backed securities 9,718 0.4 5.9% AAA
Obligations of states and political
subdivisions 25,335 2.6 5.7% AA
Foreign currency debt securities 8,818 3.2 3.8% AA
- --------------------------------------------------------------------------------------------
Total $218,441 2.8 5.2% AA
- --------------------------------------------------------------------------------------------
</TABLE>
By comparison, at December 31, 1997, the entire portfolio was invested in U.S.
treasury securities and obligations of government corporations and agencies.
The Company's investment policy objective is to maximize long-term investment
returns while maintaining a liquid, high-quality portfolio. To this end, the
investment policy requires that the portfolio have an average credit quality
rating of AA, no more than 3% of the portfolio invested in the securities of a
single issuer (other than issues of sovereign governments with a rating of AA or
better), and a target duration of 2.75 years. ESG's investment portfolio
reflects the Company's investment policy and guidelines.
The Company expects that its financial and operational needs for the foreseeable
future will be met by funds generated from operations, but may consider
acquiring additional funding as attractive market opportunities emerge.
16
<PAGE>
Shareholders' equity as of September 30, 1998 was $244.0 million compared to
$234.4 million at December 31, 1997. The major factors influencing the increased
level of shareholders' equity in the nine month period included $10.5 million of
net income, net unrealized investment gains of approximately $2.8 million,
offset partially by the declaration of three dividends, each of $0.075 per
common share, aggregating to $3.1 million. Basic book value per common share
increased to $17.52 as of September 30, 1998 from $16.83 as of December 31,
1997.
CURRENT DEVELOPMENTS
A quarterly cash dividend of $0.075 per share was declared on November 10, 1998
by the Company's Board of Directors, payable on December 1, 1998 to common
shareholders of record on November 24, 1998.
Early in the fourth quarter, the Company began the process of establishing a
global support center (the "Support Center") in Dublin, Ireland. Corporate
functions expected to operate from the Support Center include operating and
administrative functions such as systems and technology, finance and accounting,
human resources, insurance claims, and administration. A small number of staff
relocations from Hamburg, Germany will be involved in the transition which is
expected to be complete by the end of the second quarter 1999.
CURRENCY
The Company's functional currency is the U.S. dollar. However, because the
Company underwrites reinsurance exposures, collects premiums, and holds
investments in currencies other than the U.S. dollar, the Company experiences
foreign exchange gains and losses, which in turn affect the results of
operations.
The Company intends to hold investments in the currencies in which it will
collect premiums, pay claims, and hold reserves, thus creating a natural foreign
exchange hedge so that resulting foreign exchange rate gains and losses can be
reduced to the extent assets equal liabilities. If in the future this hedging
strategy is not effective, the Company may consider other hedging activities to
reduce its foreign currency exposures.
On January 1, 1999, a single currency, the "euro", will be adopted as the
national currency of the 11 participating countries in the European Monetary
Union, including Germany and Ireland, two of the countries in which the Company
operates and in which the Company maintains a significant presence. ESG German
and Irish subsidiaries will not be required to use the euro for accounting
purposes prior to January 1, 2002. Due to uncertainties related to the euro
conversion, the impact of the conversion is not known. Management is currently
reviewing the impact that the adoption of the euro will have on its operations,
accounting systems, and financial reporting.
17
<PAGE>
YEAR 2000 ISSUE
The Year 2000 Issue relates to the ability of computer systems to properly
interpret date information for the Year 2000 and beyond. In January 1998,
Management initiated an enterprise-wide initiative to address Year 2000 issues
with respect to the Company's computer software and information technology
systems. The initiative has as its focus two distinct areas which include Year
2000 compliance of the Company's software, systems and technology platforms and,
the evaluation of the Year 2000 preparedness of significant third parties with
whom the Company conducts business, including vendors and customers.
The Company has substantially completed its assessment of Company software and
systems and has adopted a plan to implement compliant components and to develop
a disaster recovery plan, targeted to be substantially complete by the end of
second quarter 1999. The Company estimates that through September, 1998, the
remediation and validation effort are approximately 40% complete, with
immaterial incremental costs incurred thus far as a result of usage of internal
staff only to date. Remaining testing and conversion efforts also are expected
to be conducted primarily by internal staff; however, limited third party
assistance during the fourth quarter of 1998 and the first two quarters of 1999
may be utilized. No significant third party costs are anticipated. Future costs
of remediation are not expected to have a material impact on the Company's
financial position, results of operation or cash flows, although no assurance
can be given in this regard.
The Company recognizes the potential impact of Year 2000 issues with its service
providers and customers. The Company is currently communicating with its
significant service providers to assess their readiness and will address
compliance risks with each new significant vendor.
18
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
There are no lawsuits pending, or to the knowledge of the Company threatened, to
which the Company or any of their Subsidiaries or affiliates is a party or of
which any of their properties is subject other than the routine litigation
incidental to the business.
ITEM 2: CHANGES IN SECURITIES
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of stockholders during the third quarter of
this fiscal year.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS
Exhibit 11.1 Computation of Earnings Per Share
Exhibit 15.1 Consent of Deloitte & Touche
Exhibit 27.1 Financial Data Schedule
19
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Company
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
November 16, 1998
ESG RE LIMITED
/s/ Joan H. Dillard
JOAN H. DILLARD
CHIEF FINANCIAL OFFICER
20
Exhibit 11.1
Computation of Earnings Per Share
The following is a reconciliation of the numerators and denominators of
the basic and diluted earnings per share computations for income from continuing
operations:
<TABLE>
<CAPTION>
U.S. dollars in thousands except share and per Income Shares Per Share
share data (Numerator) (Denominator) Amount
- ----------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Three Months Ended September 30, 1998
- -------------------------------------
Basic earnings per share
Income available to common shareholders $ 3,994 13,923,799 $ 0.29
Effect of Dilutive Securities:
Class A Warrants --
Director and Employee Options 772
Class B Warrants --
----------------------------------------------
Diluted earnings per share
Income available to common shareholders $ 3,994 13,924,571 $ 0.29
==============================================
Three Months Ended September 30, 1997
- -------------------------------------
Basic and diluted loss per share
Loss available to common shareholders $ (310) 180,000 $ (1.72)
----------------------------------------------
Nine Months Ended September 30, 1998
- ------------------------------------
Basic earnings per share
Income available to common shareholders $ 10,492 13,923,799 $ 0.75
Effect of Dilutive Securities:
Class A Warrants 164,516
Director and Employee Options 51,729
Class B Warrants 32,903
----------------------------------------------
Diluted earnings per share
Income available to common shareholders $ 10,492 14,172,947 $ 0.74
==============================================
Nine Months Ended September 30, 1997
- ------------------------------------
Basic and diluted earnings per share
Income available to common shareholders $ (113) 180,000 $ (0.63)
==============================================
</TABLE>
The Company was recapitalized in December 1997. In order to provide a
presentation comparable to 1998, all 1997 share amounts used in the earnings per
share calculation have been presented on a recapitalized basis.
21
EXHIBIT 15.1
November 12, 1998
ESG Re Limited
#16 Church Street
Hamilton, Bermuda
We have made a review, in accordance with standards established by the American
Institute of Certified Public Accountants, of the unaudited interim financial
information of ESG Re Limited and subsidiaries for the periods ended September
30, 1998 and 1997, as indicated in our report dated November 12, 1998; because
we did not perform an audit, we expressed no opinion on that information.
We are aware that our report referred to above which is included in your
Quarterly Report on Form 10-Q for the quarter ended September 30, 1998, is
incorporated by reference in Registration Statement #333-40341 on Form F-1.
We are also aware that the aforementioned report, pursuant to Rule 436(c) under
the Securities Act of 1933, is not considered a part of the Registration
Statement prepared or certified by an accountant or a report prepared or
certified by an accountant within the meaning of Sections 7 and 11 of that Act.
Deloitte & Touche
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
This schedule contains summary financial information extracted from the
condensed consolidated balances sheet at September 30, 1998, and condensed
consolidated statement of operations for the quarter ended September 30, 1998,
qualified in its entirety by reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JUL-01-1998
<PERIOD-END> SEP-30-1998
<DEBT-HELD-FOR-SALE> 218,441
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 0
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 231,470
<CASH> 11,279
<RECOVER-REINSURE> 1,242
<DEFERRED-ACQUISITION> 32,600
<TOTAL-ASSETS> 452,589
<POLICY-LOSSES> 39,983
<UNEARNED-PREMIUMS> 105,244
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 0
0
0
<COMMON> 13,924
<OTHER-SE> 230,062
<TOTAL-LIABILITY-AND-EQUITY> 452,589
26,134
<INVESTMENT-INCOME> 3,359
<INVESTMENT-GAINS> 386
<OTHER-INCOME> 181
<BENEFITS> 15,940
<UNDERWRITING-AMORTIZATION> 7,324
<UNDERWRITING-OTHER> 2,467
<INCOME-PRETAX> 4,329
<INCOME-TAX> 335
<INCOME-CONTINUING> 3,994
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3,994
<EPS-PRIMARY> 0.29
<EPS-DILUTED> 0.29
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
