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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 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: 001-49632
CGA GROUP, LTD.
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(Exact Name of Registrant as Specified in its Charter)
BERMUDA 98-0173536
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(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
CRAIG APPIN HOUSE
8 WESLEY STREET
HAMILTON HM11 BERMUDA
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(Address of Principal Executive Offices and Zip Code)
Registrant's telephone number, including area code: (441) 296-3165
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: NONE
Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
The aggregate market value of shares of common stock, par value $0.01 per
share of CGA Group, Ltd. held by non-affiliates of the Registrant on March 1,
2000 was approximately $60 million. As of March 1, 2000, 28,005,648 shares of
Common Stock, $0.01 par value per share, 3,676,821 shares of Series A Cumulative
Voting Preference Shares, $0.01 par value per share, and 44,971,346 shares of
Series C Cumulative Voting Preference Shares, $0.01 par value per share, were
outstanding.
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CGA GROUP, LTD.
ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 1999
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TABLE OF CONTENTS
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PAGE
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PART I
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Item 1. Business ................................................................................. 1
Item 2. Properties ............................................................................... 13
Item 3. Legal Proceedings ........................................................................ 13
Item 4. Submission of Matters to a Vote of Security Holders ...................................... 13
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters .................... 14
Item 6. Selected Financial Data .................................................................. 14
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations .... 14
Item 7A. Quantitative and Qualitative Disclosures About Market Risk ............................... 20
Item 8. Financial Statements and Supplementary Data .............................................. 24
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure ..... 24
PART III
Item 10. Directors and Executive Officers of the Registrant ....................................... 25
Item 11. Executive Compensation ................................................................... 28
Item 12. Security Ownership of Certain Beneficial Owners and Management ........................... 31
Item 13. Certain Relationships and Related Transactions ........................................... 35
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K .......................... 36
Signatures ........................................................................................... 37
Index to Financial Statements and Schedules .......................................................... 38
Independent Auditors' Report on Financial Statements ................................................. 39
Financial Statements and Schedules
Index to Exhibits
Exhibits
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DOCUMENTS INCORPORATED BY REFERENCE
Portions of the following documents are incorporated by reference into the
indicated part(s) of this Report:
None
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FORWARD-LOOKING INFORMATION
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements. This Report on Form 10-K or any other
written or oral 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. The forward-looking
statements are subject to certain uncertainties and other factors that could
cause actual results to differ materially from such statements. These
uncertainties and other factors (which are described in more detail herein and
in other documents filed by the Company with the Securities and Exchange
Commission) include, but are not limited to, (i) financial difficulties
encountered by an insured of the Company's insurance company subsidiary, (ii)
uncertainties relating to government and regulatory policies (such as subjecting
the Company and/or its subsidiaries to insurance regulation or taxation in
additional jurisdictions), (iii) the legal environment, (iv) the uncertainties
of the reserving process, (v) risks relating to the claims-paying ability rating
of the Company's insurer subsidiary, (vi) loss of the services of any of the
Company's executive officers, (vii) changing rates of inflation and other
economic conditions, (viii) ability to collect reinsurance recoverables, (ix)
the competitive environment in which the Company operates, (x) developments in
global financial markets which could affect the Company's investment portfolio,
and (xi) risks associated with the development of new products and services. The
words "believe", "anticipate", "considered to be", "project", "plan", "expect",
"intend", "will likely result" or "will continue" and similar expressions
identify forward-looking statements. Readers are cautioned not to place undue
emphasis on these forward-looking statements, which speak only as of their
dates. 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.
PART I
ITEM 1. BUSINESS.
CGA Group, Ltd. (the "Company") is a holding company incorporated in
Bermuda with limited liability. The Company, through its primary and
wholly-owned subsidiary Commercial Guaranty Assurance, Ltd. ("CGA"), a Bermuda
insurance company, provides financial guaranty insurance of structured
securities, including commercial real estate backed securities and asset backed
securities. The Company also provides financial guaranty insurance of other
securities, where the Company's senior management team ("Management") has
expertise and credit enhancement opportunities are deemed attractive.
The Company also provides investment management and investment advisory
services to investment vehicles and other clients. These services are provided
through the Company's other wholly-owned subsidiary, CGA Investment Management,
Inc. ("CGAIM"), a Delaware corporation that is registered as an investment
adviser with the Securities and Exchange Commission (the "Commission") under the
Investment Advisers Act of 1940, as amended (the "Advisers Act"). CGA and CGAIM
are sometimes referred to herein as the "Subsidiaries."
The primary clients of CGA and CGAIM are St. George Holdings, Ltd., a
Cayman Islands company ("SG Holdings"), and its subsidiaries (collectively, "St.
George") and Cobalt Holdings LLC, a Delaware limited liability corporation
("Cobalt Holdings"), and its subsidiaries (collectively, "Cobalt"). Most of
CGA's premiums and CGAIM's management fees originate from St. George and Cobalt.
OVERVIEW
The Company was formed with a view to becoming the market leader in the
commercial real estate segment of the financial guaranty industry. The Company
utilizes its structured finance and real estate expertise to underwrite
financial guaranties for commercial real estate and other securities to a zero
loss underwriting standard. The Company's primary target market is the large
U.S. commercial real estate mortgage market, which the Company believes is
underserved. The Company also targets select segments of the private
asset-backed securities ("ABS") market.
CGA's insurance is available via unaffiliated non-U.S. insurance brokers to
a customer base that includes investment and commercial banks with significant
real estate and asset-backed advisory businesses, commercial mortgage loan
origination and asset-backed repackaging operations, and other participants in
the securitization markets.
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OVERVIEW OF THE SUBSIDIARIES
CGA focuses on the Company's primary business of issuing financial guaranty
insurance policies, while CGAIM provides investment and collateral management
services and financial advisory services including transaction structuring
advice.
The main office address of the Company and CGA is Craig Appin House, 8
Wesley Street, Hamilton HM 11 Bermuda. The main office address of CGAIM is 17
State Street, New York, New York 10004.
COMMERCIAL GUARANTY ASSURANCE, LTD.
Commercial Guaranty Assurance, Ltd. ("CGA") is an insurance company
incorporated in Bermuda with limited liability. CGA was incorporated on October
16, 1996, and commenced operations in June 1997. CGA is licensed as a Class 3
insurer under The Insurance Act 1978 (Bermuda), amendments thereto and related
regulations. CGA's claims-paying ability is rated "AAA" by Duff & Phelps Credit
Rating Company ("DCR"), the highest rating assigned by DCR. CGA's claims-paying
ability is also rated in the highest rating category assigned by each of the two
Canadian rating agencies, Dominion Bond Ratings Service Limited ("DBRS") and
Canadian Bond Ratings Service Inc. ("CBRS"). CGA issues financial guaranty
insurance policies, which are the functional equivalent of direct-pay letters of
credit, to insure payment of interest, principal and other amounts payable in
respect of notes, securities and other financial obligations. Because CGA's
credit rating is "Triple-A", all securities and other obligations guaranteed by
CGA are rated "Triple-A" by DCR and, if applicable, DBRS and CBRS.
CGA's "Triple-A" ratings are supported by an aggregate of approximately
$222 million in claims-paying resources (as of December 31, 1999), consisting of
(i) approximately $142 million in statutory capital, (ii) an irrevocable capital
commitment (the "Capital Commitments") on the part of certain existing
shareholders of CGA Group to purchase an aggregate of $60 million in Series B
preferred shares of CGA Group in the event DCR requires such commitment to be
funded in order for CGA to maintain its "Triple-A" rating (for a description of
the Capital Commitment, see Item 12-- "Security Ownership of Certain Beneficial
Owners and Management"), (iii) a $20 million excess of loss insurance policy
provided by ACE Capital Re Overseas Ltd. (formerly known as KRE Reinsurance
Ltd.) an indirect wholly owned subsidiary of ACE, Ltd. (a shareholder of the
Company).
On March 7, 2000, Fitch IBCA, Inc. ("Fitch"), announced that it intended to
acquire DCR, subject to obtaining all requisite shareholder and regulatory
approvals. CGA is not currently rated by Fitch. If such acquisition is
consummated, it is unclear what action, if any, Fitch will take in respect of
CGA's "AAA" rating from DCR.
As a Bermuda domiciled insurance company, CGA does not write insurance or
otherwise conduct or transact insurance business in the United States or any
other jurisdiction where it is not authorized to do so. CGA's insurance may only
be obtained through unaffiliated non-U.S. insurance brokers and consultants on a
direct-placement basis. All negotiations with, and issuances of policies by, CGA
take place in Bermuda or other locations outside of the United States.
CREDIT ENHANCEMENT BUSINESS
CGA's principal business is the issuance of financial guaranty insurance
policies which guarantee timely payment of interest, principal and other amounts
in respect of securities and other financial obligations. CGA primarily insures
investment grade securities in the commercial real estate and asset backed
securities markets, and also insures the liabilities of investment vehicles
which invest in structured securities, including asset backed securities
("ABS"), commercial mortgage backed securities ("CMBS"), senior securities
issued by real estate investment trusts ("REIT's"), and other securities and
financial obligations. A financial guaranty insurance policy is used in the
capital markets as a credit enhancement instrument to guarantee payments of
principal, interest and other amounts in accordance with the original debt
service schedule of the security. In the event the issuer of the security
defaults on its payment obligations, the financial guarantor makes the scheduled
payments. In these instances, the insurer generally has the option, but not the
obligation, to repay the security on an accelerated basis. The financial
guaranty insurance policy is unconditional, irrevocable and noncancellable.
The fundamental business proposition of all financial guarantors is to
elevate to a "Triple-A" level securities which would otherwise have a lower
rating. Issuers of securities rated lower than "Triple-A" purchase financial
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guaranty insurance policies to enhance the rating of such securities to
"Triple-A", thereby reducing their borrowing costs and/or increasing the
liquidity of their securities. In turn, the guarantor collects a premium
(payable either upon issuance of its policy or periodically in installments)
equal to a significant portion of the savings resulting from the improved
trading levels of the guaranteed securities.
Generally, an issuer will purchase a financial guaranty insurance policy to
increase the ratings of its securities to "Triple-A" only when the yield on the
uninsured security exceeds the sum of (i) the annual premium rate charged to
upgrade the security to "Triple-A,"(ii) the yield on the same security when
enhanced to a "Triple-A" level, and (iii) some incentive or "savings" for the
issuer. Therefore, the ability of a financial guarantor to sell its credit
enhancement is a function of the credit spreads available in a market (the
difference, for example, in the yield of a security rated "Triple-A" without
insurance and the yield of a similar security rated "Triple-B"), the trading
level achieved as a result of the "Triple-A" guaranty policy, and the premium
charged for the insurance.
One of CGA's primary target markets is investment vehicles which purchase
structured securities. Therefore, a substantial portion of CGA's guaranty
business is generated from advisers to these investment vehicles. In these
transactions, CGA's policies typically guaranty the liabilities issued by the
investment vehicle. In these cases, and as a condition to issuing its policy,
CGA generally requires that the investment vehicle adopt investment guidelines
acceptable to CGA.
ZERO-LOSS UNDERWRITING STANDARD
CGA underwrites all risks insured by it to a "zero loss" standard--that is,
obligations insured by CGA are required to be structured with sufficient levels
of excess collateral or other first loss protection so that CGA anticipates no
losses on each risk insured without regard to the premium collected thereon or
the investment income related thereto. To this end, each policy written by CGA
is required to meet the criteria specified in the underwriting guidelines
adopted by its Board of Directors. CGA is able to deviate from such guidelines
on a case-by-case basis only in accordance with procedures established by its
Board of Directors. There can be no assurance, however, that CGA will not incur
losses with respect to such insured obligations.
CGA's underwriting guidelines are intended to provide multiple layers of
loss protection. Structured securities and other obligations insured by CGA are
generally backed by pools of assets having reasonably predictable cash flows.
These securities typically provide for one or more forms of
overcollateralization (such as excess collateral, excess cash flow, excess
"spread" or reserves) or third-party protections (such as bank letters of
credit, guarantees, net worth maintenance agreements or reinsurance policies).
On a transaction by transaction basis, overcollateralization or third-party
protections which assume the primary risk of financial loss are used to protect
CGA against losses. Overcollateralization or third-party protections may not,
however, be required in transactions in which CGA is insuring the obligations of
certain highly rated issuers that typically are regulated or have implied or
explicit government support, or sovereign credits.
CGA manages its exposure on an ongoing basis and is currently monitored by
DCR, DBRS and CBRS to ensure that it is operating in a manner consistent with
its "Triple-A" ratings.
CGA'S INSURED BOOK OF BUSINESS
CGA focuses on insuring the "Single-A" and "Triple-B" rated classes or
tranches of ABS, CMBS, senior debt of REITs and other structured securities. CGA
also provides financial guarantees to investment vehicles which invest in these
securities. As of December 31, 1999, CGA's five largest exposures by asset type
were to (i) CMBS, (ii) home equity loans ("HELs"), (iii) collateralized debt
obligations ("CDOs"), (iv) senior REIT securities, and (v) subordinated classes
of credit card securitizations ("CIAs"). Each of these asset types is briefly
described below.
CMBS. Commercial mortgage backed securities are securities collateralized
by loans which are secured by mortgages on commercial real estate. The CMBS
obligations are repaid by the principal and interest collected on the underlying
mortgage loans. As of December 31, 1999, CGA had a total of $614.2 million in
CMBS exposure. The CMBS transactions in CGA's portfolio are predominately "BBB"
rated classes of multi-class issuances (60.6% "BBB", 24.2% "A" and 15.2% "BB").
CMBS transactions are backed by highly diversified (by property type, obligor
and geography) pools of commercial mortgages. Property types typically include
office buildings, multi-family
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housing, industrial, warehouse and hotels. The CMBS book consists primarily of
fixed rate long term (10-11 years) assets, but the book also has a growing
concentration in shorter (3-5 year average life) floating rate assets.
HELs. Home equity loans are generally first-lien residential mortgage loans
made to borrowers who do not qualify for agency conforming loans due to credit
reasons, lack of income documentation, higher debt to income ratios, or
non-standard property type (such as investment properties). HEL transactions are
backed by highly diversified pools of such loans. Securities backed by HELs are
currently the largest asset class in the public ABS market. As of December 31,
1999, CGA had a total of $374.3 million in HEL ABS exposure. The HEL
transactions in CGA's portfolio are predominately "BBB" rated classes of
multi-class issuances (73.2% "BBB", 19.5% "A", 2.4% "AA", and 4.9% "BB"). The
weighted average life of CGA's HEL book is approximately four years.
CDOs. Collateralized debt obligations are securities backed by diversified
(by obligor and industry) pools of high yield corporate bonds and/or bank loans.
Issuance of CDOs has grown rapidly over the last four years, largely as a result
of banks trying to find a more efficient means to syndicate corporate credit
risk. As of December 31, 1999, CGA had a total of $327.3 million in CDO
exposure. The majority of CDO transactions in CGA's portfolio are "BBB"rated
classes of multi-class issuances (61.2% "BBB", 23.8% "A" and 15.0% "AAA"). The
weighted average life of CGA's CDO book is approximately eight years.
REIT Senior Securities. REITs are typically public companies that own real
estate but are structured to qualify for an exemption from U.S. income tax so
long as at least 90% of the REIT's net taxable income is distributed to its
shareholders. REITs invest in all segments of the commercial real estate market,
but generally each REIT focuses on a specific property type or market niche. The
REITs targeted by CGA are public companies with a market capitalization of over
$1 billion that own portfolios of apartment buildings, office buildings, retail
or industrial properties and that are generally well diversified geographically.
As of December 31, 1999, CGA had a total of $326.8 million in REIT exposure. The
REIT exposures in CGA's portfolio are of three types: (i) senior unsecured debt
issued by the REIT (68.9%); (ii) a pool policy and a subordinated note backed by
a diversified pool of senior REIT debt (9.7%); and (iii) REIT preferred stock
(21.4%). REIT exposure includes: (i) short dated (approximately 8 years and
shorter) senior REIT debt; (ii) perpetual REIT preferred and 30 year
subordinated notes; and (iii) the 30 year pool policy and two five year default
swaps issued by CGA as financial guarantees.
CIAs. CIAs or credit card "C" pieces are the most junior tranche of a bank
sponsored credit card securitization. Traditionally, this tranche of credit
enhancement was usually provided by a highly rated bank. However, due to
tightened capital adequacy guidelines, most of the traditional bank providers of
this tranche of credit enhancement have exited this line of business, leaving an
opportunity for investors who are willing to purchase these securities. As of
December 31, 1999, CGA had a total of $148 million in CIA exposure. The CIA
transactions in CGA's portfolio are all "BBB" rated classes of credit card
securitizations. These transactions are issued out of highly diversified, master
trusts containing billions of dollars of credit card receivables. The weighted
average life of CGA's CIA book is approximately five years.
INSURANCE IN FORCE
The following tables show CGA's net par outstanding insured obligations
(after reinsurance) at December 31, 1999 by asset type and by credit rating:
ASSET TYPE U.S.$ THOUSANDS PERCENTAGE
---------- --------------- ----------
ABS Consumer (including HELs and CIAs) ..... $ 656,075 29%
CMBS ....................................... 614,217 28%
ABS Corporate (including CDOs) ............. 459,909 21%
REIT Debt .................................. 256,774 11%
Sovereign .................................. 90,000 4%
Corporate .................................. 87,490 4%
REIT Preferred ............................. 70,000 3%
............................................. ---------- ---
TOTAL .................................. $2,234,465 100%
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CREDIT RATING U.S.$ THOUSANDS PERCENTAGE
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"AAA" ................................... $ 80,267 4%
"AA" .................................... 40,720 2%
"A" ..................................... 550,166 25%
"BBB" ................................... 1,305,450 58%
"BB" .................................... 212,791 9%
Not Rated ............................... 45,071 2%
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TOTAL ................................... $2,234,465 100%
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BERMUDA DOMICILE
Bermuda is recognized internationally as a leading center for the
transaction of insurance and reinsurance business. The Bermuda insurance market
is known for its innovative and sophisticated approach to risk management, which
has helped attract new capital into this market. As of December 31, 1999, there
were over 1,500 insurance companies and insurance captives domiciled in Bermuda,
which have in the aggregate over $50 billion in capital. The holding companies
of a number of the largest Bermuda insurance and reinsurance companies are
listed on the New York Stock Exchange and other major exchanges. The
international business community in Bermuda includes subsidiary operations of
more than three-quarters of the "Fortune 500". Insurance companies in Bermuda
are supported by a highly developed social and business infrastructure,
including skilled personnel, a strong international banking system and
information technology of the highest quality. Favorable tax treatment,
supervision by one regulatory body (as compared with the United States, where
insurance companies are regulated on a state by state basis) and Bermuda's
proximity to the United States are all key advantages.
INVESTMENT PORTFOLIO
CGA invests its capital, premiums received from its insurance business, and
earnings thereon in an investment portfolio. This investment portfolio is CGA's
primary source of claims-paying ability. CGA manages its investment portfolio
with the objectives of protecting its claims-paying ability ratings, maintaining
a high level of liquidity, making investments in U.S. dollar denominated
securities which generate non-U.S. source income, and within these constraints,
obtaining market level long-term total returns. CGA's investment guidelines are
consistent with these objectives.
All of CGA's investments must comply with investment guidelines adopted by
its Board of Directors. The minimum rating level for an investment is at least
"Double-A minus" or the equivalent by a nationally recognized credit rating
agency. CGA's policy is to invest only in investments which are readily
marketable with no legal or contractual restrictions on resale. No investment is
allowed if the investment would generate U.S. source income to CGA.
The investment manager for CGA is Alliance Capital Management Corporation
("Alliance"). Subject to the investment guidelines determined by CGA's Board of
Directors, Alliance has discretion to, among other things, buy, sell, retain, or
exchange investments. Alliance has entered into an investment management
agreement with CGA, which is terminable by either party upon 30 days' written
notice.
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The following tables summarize CGA's investments by country and by type of
debt security, in each case as of December 31, 1999:
COUNTRY PERCENTAGE TYPE PERCENTAGE
------- ---------- ---- ----------
Germany 22% Banking 42%
Supra-national 21% Financial 25%
UK 9% Sovereign 22%
Japan 9% Corporate 6%
Netherlands 9% Public utilities 4%
France 5% Industrial 1%
Canada 5% ----
Italy 3% TOTAL 100%
Sweden 2% ====
Belgium 2%
Denmark 2%
Australia 2%
Other 9%
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TOTAL 100%
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At December 31, 1999, no investments in CGA's investment portfolio were
rated less than "Double-A minus" or the equivalent. The average yield to
maturity on the investment portfolio was 6.8% as of December 31, 1999.
At December 31, 1999, the portfolio holds over eighty different securities,
of which each comprise less than 3% of the portfolio except for one, which
comprises 3.2%. The largest concentration of securities from a single issuer
held by the portfolio is 6.3%.
RISK MANAGEMENT
The primary risk assumed by CGA when it issues an insurance policy is the
credit risk taken in respect of the insured obligation. CGA assumes credit risk
both when it guarantees a security directly, and when it guarantees the
liabilities of investment vehicles which invest in these securities. The most
significant mitigant to credit risk is proper credit underwriting. All
securities and other financial obligations proposed to be insured by CGA,
whether directly (as when CGA issues an insurance policy guaranteeing an
individual asset) or indirectly (as when CGA guarantees the liabilities of an
investment vehicle), are subjected to an intensive credit underwriting process.
As described above, CGA underwrites all risks insured by it to a "zero loss"
standard. A zero loss standard means that all obligations insured by CGA are
structured with sufficient levels of "first loss" credit protection so that CGA
expects no losses on any insured obligation, even under stress scenarios.
The actual process of underwriting new transactions follows several steps.
The proposed transactions are typically received by CGA from Bermuda based
brokers. CGA then performs a quantitative and qualitative risk assessment that
includes stress testing the transaction to a zero-loss standard, a review of the
economic rationale and the motivation of participants, an analysis of relative
value and a legal review of the transaction structure. As part of the risk
assessment process, CGA also performs an economic analysis of each transaction,
including a review of the proposed pricing relative to credit spreads for
similar assets available in the market and the return to equity ("ROE") to CGA
based on capital charges assessed by DCR.
If a transaction is determined to be consistent with CGA's zero loss
underwriting standard and risk adjusted ROE requirements, it is then subjected
to several additional levels of review and approval. First, all transactions
require approval of CGA's Underwriting Committee. Secondly, DCR receives
transaction summaries prior to execution and CGA and DCR review these
transactions with CGA in weekly conference calls. Finally, the Underwriting
Committee of the Board of Directors of CGA Group reviews all executed
transactions on a quarterly basis.
SINGLE RISK LIMITS
CGA further mitigates credit risk exposure through the use of single risk
limits. Single risk limits are the maximum exposure CGA will take to a
particular issuer of securities or, more accurately, to a single revenue source.
The limits vary by credit rating of the underlying asset, the perceived risk of
the sector, and whether CGA assumes the risk by providing direct or indirect
insurance.
SURVEILLANCE
Credit risk is also mitigated by active surveillance, which provides CGA
with the ability to anticipate problems and proactively minimize exposure to
problem credits. CGA monitors and reviews its exposure on an ongoing basis.
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Surveillance for transactions in the St. George and Cobalt investment vehicles
is currently performed by CGAIM on behalf of CGA pursuant to a surveillance
contract. In accordance with the provisions of this agreement, CGAIM monitors
each asset owned by each St. George and Cobalt vehicle and provides detailed
surveillance reports to CGA on a monthly or quarterly basis, depending on asset
type. Surveillance for non-St. George/Cobalt exposures is performed by CGA
personnel. In each case, surveillance procedures are customized to the type of
transaction in the same manner that underwriting is transaction-type specific,
but generally include the review of monthly or quarterly servicer and trustee
reports, and periodic "on site" due diligence visits with originators and
servicers. In addition, CGA is also monitored by DCR, CBRS and DBRS to ensure
that CGA operates in a manner consistent with its "Triple-A" ratings. CGA also
benefits from the oversight provided by the CGA Group Board of Directors.
RESERVES
CGA maintains a general loss reserve for all insured obligations. A general
loss reserve is a balance sheet liability representing management's estimate of
ultimate liability for potential losses and loss adjustment expenses with
respect to insured obligations.
In addition to this general loss reserve, CGA reflects its liability for
the ultimate payment of incurred losses and loss adjustment expenses in respect
of specific insured obligations by establishing case basis loss and loss
adjustment expense reserves, which are balance sheet liabilities representing
estimates of future amounts needed to pay claims and related expenses with
respect to such insured obligations. Case basis reserves are established for
insured risks at such time as the likelihood of a future loss is probable and
determinable. To date, the only case basis reserve established by CGA was with
respect to the CFS Securities insured by CGA. (See "--Claims".)
Reserves are necessarily based on estimates. Because it is difficult to
establish a meaningful statistical base due to the absence of a sufficient
number of losses in CGA's financial guaranty insurance activities and in the
financial guaranty industry generally, there can be no assurance that CGA's
general or case basis reserves will be adequate to cover losses in CGA's insured
book of business. CGA reviews its estimates on an ongoing basis and, as
experience develops and new information becomes known, CGA will adjust its
reserves as necessary.
CONTINGENCY RESERVE
As a Bermuda based Class 3 insurer (as defined herein), CGA generally is
not required to establish contingency reserves. If CGA were to assume
reinsurance from a U.S. domiciled financial guaranty insurer, then CGA would be
required to maintain contingency reserves, which would be maintained as part of
CGA's general reserves. See "Regulation."
REINSURANCE
In order to minimize losses from large exposures and to protect capital and
surplus, CGA may cede a portion of its exposure on a particular transaction or
transactions to one or more reinsurers. To the extent that a risk has been
reinsured, if CGA were to incur a loss on the reinsured transaction, the
reinsurer(s) would be obligated to pay to CGA their proportionate share of the
loss. The reinsurance of risk, however, does not relieve CGA of its original
liability to policyholders. In the event that a reinsurer was unable to meet its
obligations under a reinsurance contract, CGA would remain liable for losses
covered by the applicable policy issued by CGA. To the extent that CGA utilizes
reinsurance, CGA has given Capital Reinsurance Company ("Cap Re"), an indirect,
wholly-owned subsidiary of ACE, Ltd. (a shareholder of the Company) rated "AAA"
for claims-paying ability by Standard & Poor's Corporation ("S&P") and Fitch,
and "Aa2" by Moody's Investor Services, Inc. ("Moody's"), a right of first offer
to provide such reinsurance. CGA's aggregate exposure to reinsurers was $109.7
million as of December 31, 1999.
CGA has entered into an excess of loss reinsurance facility agreement dated
as of June 12, 1997, as amended, with ACE Capital Re Overseas Ltd. (formerly
known as KRE Reinsurance Ltd.), an indirect wholly owned subsidiary of ACE, Ltd.
The obligations of ACE Captial Re Overseas under this agreement are guaranteed
by ACE Capital Re International, Ltd., another wholly owned subsidiary of ACE,
Ltd. which is rated "AA" by S&P and DCR. The agreement provides for a $20
million limit of liability during its nine year term, with no reinstatement of
the limit in the event of loss payments. The Agreement covers all policies and
guarantees written and reinsurance assumed by CGA from its inception until June
12, 2006.
CLAIMS
Even though all risks insured by CGA are underwritten to a "zero loss"
standard, CGA is prepared to deal with claims in the event they should
materialize. CGA's actions in respect of potential claims would include the
review and
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investigation of loss reports, creation and maintenance of claim files,
establishment of proper reserves and payment of claims. CGA would monitor the
progress and ultimate outcome of claims to ensure that cost recovery
opportunities are fully explored. CGA may become actively involved in the
financial restructuring of a transaction if its management concludes that losses
would be minimized by so doing. When and as appropriate, CGA may supplement its
in-house capabilities in this regard with services available from other sources.
CGA monitors its exposure to insured credits on an ongoing basis. In this
regard, CGA reviews available information on the entities which issued the
insured securities, the assets underlying the insured securities, and general
trends in the relevant industry.
In December 1998, Commercial Financial Services Inc., a credit-card debt
collection company ("CFS") and certain of its affiliates filed a petition for
relief under Chapter 11 of the United States Bankruptcy Code. CGA previously had
guaranteed approximately $212 million face amount of asset backed securities
issued by various trusts established and serviced by CFS (the "CFS Securities"),
and had reinsured approximately $162 million of this exposure, so that its
original net exposure was $50 million. As of December 31, 1999, CGA has made
claim payments under its guarantees in respect of the insured CFS Securities in
an aggregate amount of approximately $117.8 million (of which $90 million was
funded by CGA's reinsurer, and $27.8 million was funded by CGA from its own
reserves). CGA made an additional claims payment with respect to the CFS
Securities on March 15, 2000, in the amount of approximately $28.5 million
($21.8 million was funded by CGA's reinsurer, and $6.7 million was funded from
CGA's case basis reserves). Upon making such payment, and together with all such
prior payments, CGA's aggregate net exposure in respect of CFS Securities, (net
of reinsurance and net of CGA's remaining $1.0 million of case basis reserves)
was reduced to approximately $9.6 million. (This aggregate net exposure is
reflected in CGA's December 31, 1999 financial statements.)
CGA, CGAIM and various other plaintiffs have commenced legal proceedings
against CFS, William Bartmann (CFS' founder and principal shareholder), other
former members of CFS' senior management, the placement agent for the CFS
securities insured by CGA and CFS's auditors alleging various counts of federal
and state securities law fraud and common law fraud. It is too early to predict
what, if anything, CGA ultimately may recover in this legal proceeding.
CGA INVESTMENT MANAGEMENT INC.
CGAIM is a Delaware corporation that is registered as an investment adviser
with the Commission under the Advisers Act. CGAIM, which commenced operations in
June 1997, provides investment management and financial advisory services
primarily to specialized investment vehicles and for the U.S. and international
structured finance markets. CGAIM's advisory team currently includes more than
twenty experienced professionals in the areas of asset securitization and
structured finance, real estate finance and risk management.
INVESTMENT MANAGEMENT SERVICES
CGAIM acts as investment manager to specialized investment vehicles and
other clients, including SG Holdings, Cobalt Holdings, and their respective
subsidiaries. Its activities in this capacity include providing advice regarding
the purchase and sale of structured finance assets, the management of funding
and market risks, and reporting and accounting functions. CGAIM performs initial
and ongoing credit reviews on the assets which it recommends for purchase to its
clients, and the counterparties with which it negotiates financial hedges and
derivative contracts. Investment guidelines are developed for each client to
ensure that CGAIM manages its clients' assets pursuant to agreed upon guidelines
and limits.
As an investment manager, CGAIM's duties include the following:
(i) Identifying potential investments on behalf of its clients,
including (1) analyzing credit, legal and market (i.e. interest rate,
credit spread, currency and prepayment) risks and (2) negotiating the
price, covenants, rights, remedies and all documentation relating thereto;
(ii) Identifying swaps, financial hedges and other derivative
contracts on behalf of the client in order to manage the client's
investment portfolio within prudent market risk limits as agreed with the
client;
(iii) Negotiating financing arrangements on behalf of its clients;
(iv) Preparing valuations, reports and other documents as may be
required from time to time by its clients and persons providing financing
to such clients in order to determine compliance with the clients' and such
lenders' policies and procedures; and
8
<PAGE>
(v) Analyzing the performance of assets including recommending the
sales of investments when appropriate.
Market risk management and operations are performed using systems which
integrate front, middle and back office applications with live feeds from market
information services. Policies and procedures are in place to ensure that CGAIM
manages its clients' assets pursuant to agreed upon guidelines and limits.
FINANCIAL ADVISORY SERVICES
CGAIM also acts as a financial advisor for its clients, which include
financial asset issuers and investment banks, in evaluating structured finance
alternatives and financing structures. CGAIM charges advisory fees to its
clients for its services. CGAIM's services as financial advisor include the
following:
(i) providing assistance in evaluating, structuring and documenting
structured finance transactions (which could include the purchase of credit
enhancement provided by CGA); and
(ii) providing assistance in organizing and performing due diligence
relating to financial assets and structured transactions.
REGULATORY STATUS
CGAIM is a registered investment advisor under the Advisers Act, which
requires registration of all non-exempt advisors to conform their conduct to
statutory norms. The Advisers Act, among other things, addresses fee
arrangements between advisors and clients, prohibits fraudulent practices,
precludes assignment of an investment advisory contract without the client's
consent, requires advisors to maintain books and records consistent with rules
that may be promulgated by the Commission, and authorizes the Commission to
inspect such books and records.
ST. GEORGE AND COBALT
SG Holdings was incorporated in the Cayman Islands as a limited liability
corporation for the purpose of forming subsidiaries which will invest in a wide
range of assets, including CMBS, MBS, ABS and corporate securities. Cobalt
Holdings was organized as a Delaware limited liability company for the purpose
of forming subsidiaries which invest in certain types of securities, primarily
debt obligations and preferred stock issued by real estate investment trusts,
certain classes of asset backed securities backed by portfolios of credit card
receivables and certain other fixed income securities. St. George and Cobalt
fund their respective investment portfolios through lending facilities provided
by banks, loans provided by commercial paper conduit vehicles, the direct
issuance of securities in the capital markets, and through synthetic purchase
arrangements such as total rate of return swaps, default swaps and repurchase
agreements. CGAIM acts as asset manager for SG Holdings, Cobalt Holdings, and
their respective subsidiaries. CGA has issued insurance policies which guarantee
the payment obligations of St. George and Cobalt under their respective
financing arrangements. Such policies generally insure the prompt payment of
interest when due, and principal on maturity, of the respective security. It is
expected that the payment obligations of any other subsidiaries of SG Holdings
and Cobalt Holdings under their respective financing arrangements will similarly
be guaranteed by CGA.
RECENT EVENTS
On March 7, 2000, Fitch announced that it intended to acquire DCR, subject
to obtaining all requisite shareholder and regulatory approvals. CGA is not
currently rated by Fitch. If such acquisition is consummated, it is unclear what
action, if any, Fitch will take in respect of CGA's "AAA" rating from DCR. If
Fitch were to rate CGA's claims paying ability at less than "AAA", such action
could have a material adverse effect on CGA's business, financial condition and
prospects.
On March 13, 2000, the Company hired Donaldson, Lufkin & Jenrette
Securities Corporation ("DLJ"), an investment banking firm, to act as the
Company's exclusive financial advisor for the purpose of raising additional
capital. At this time, Management is unable to predict whether or to what extent
DLJ will be successful in these capital raising efforts.
9
<PAGE>
REGULATION
BERMUDA
THE INSURANCE ACT 1978 AND RELATED REGULATIONS
The Insurance Act 1978 (Bermuda) amendments thereto and related regulations
(the "Act"), which regulates the business of CGA, provides that no person shall
carry on an insurance business in or from within Bermuda unless registered as an
insurer under the Act by the Minister of Finance (the "Minister"). The Minister,
in deciding whether to grant registration, has broad discretion to act as he
thinks fit in the public interest. The Minister is required by the Act to
determine whether the applicant is a fit and proper body to be engaged in
insurance business and, in particular, whether it has, or has available to it,
adequate knowledge and expertise. In connection with registration, the Minister
may impose conditions relating to the writing of certain types of insurance. The
registration of an applicant as an insurer is subject to its complying with the
terms of its registration and such other conditions as the Minister may impose
at any time.
An Insurance Advisory Committee appointed by the Minister advises him on
matters connected with the discharge of his functions, and sub-committees
thereof supervise and review the law and practice of insurance in Bermuda,
including reviews of accounting and administrative procedures.
The Act imposes on Bermuda insurance companies solvency and liquidity
standards and auditing and reporting requirements and grants to the Minister
powers to supervise, investigate and intervene in the affairs of insurance
companies. Significant aspects of the Bermuda insurance regulatory framework, as
it applies to Class 3 insurers such as CGA, are set forth below.
CLASSIFICATION OF INSURERS
The Act provides for four classes of registration of insurers carrying on
general business (as defined in the Act). CGA is registered and licensed as a
Class 3 insurer. Class 3 insurers are considered to be subject to a higher
degree of regulation than Classes 1 and 2 insurers, which are primarily
concerned with underwriting related or parent's risks. There is also a Class 4
insurer classification which is used for property catastrophe reinsurance
companies and companies involved in the excess liability business. By virtue of
its class 3 license, CGA is authorized to carry on insurance business of all
classes in or from within Bermuda subject to its compliance with the solvency
margin, liquidity ratio and other requirements imposed on it by the Act.
CANCELLATION OF INSURER'S REGISTRATION
An insurer's registration may be canceled by the Minister on certain
grounds specified in the Act, including failure of the insurer to comply with
its obligations under the Act or if, in the opinion of the Minister after
consultation with the Insurance Advisory Committee, the insurer has not been
carrying on business in accordance with sound insurance principles.
INDEPENDENT APPROVED AUDITOR
Every registered insurer must appoint an independent auditor who will
annually audit and report on the Statutory Financial Statements and the
Statutory Financial Return of the insurer, which are required to be filed
annually with the Registrar of Companies (the "Registrar"), who is the chief
administrative officer under the Act. The auditor must be approved by the
Minister as the independent auditor of the insurer. The approved auditor may be
the same person or firm which audits the insurer's financial statements and
reports for presentation to its shareholders.
LOSS RESERVE SPECIALIST
Each Class 3 insurer is required to submit an annual loss reserve opinion
by the approved loss reserve specialist when filing its Statutory Financial
Statements and Statutory Financial Return. The loss reserve specialist, who will
normally be a qualified property/casualty actuary, must be approved by the
Minister. CGA has received an exemption from having to appoint a loss reserve
specialist and to file the annual loss reserve opinion on the condition that CGA
maintains its claims-paying ability rating of not less than AAA by DCR.
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STATUTORY FINANCIAL STATEMENTS
An insurer must prepare annual Statutory Financial Statements. The Act
prescribes rules for the preparation and substance of such Statutory Financial
Statements (which include, in statutory form, a balance sheet, an income
statement, and a statement of capital and surplus, and detailed notes thereto).
The insurer is required to give detailed information and analyses regarding
premiums, claims, reinsurance and investments. The Statutory Financial
Statements are not prepared in accordance with U.S. GAAP and are distinct from
the financial statements prepared for presentation to the insurer's shareholders
under The Companies Act 1981 of Bermuda, which financial statements may be
prepared in accordance with U.S. GAAP. CGA, within a specified time, must file
its Statutory Financial Statements with the Registrar. The Statutory Financial
Statements must be maintained at the principal office of the insurer for a
period of five years.
MINIMUM SOLVENCY MARGIN
The Act provides that the statutory assets of an insurer must exceed its
statutory liabilities by an amount greater than the prescribed minimum solvency
margin which varies with the class of the insurer and the insurer's net premiums
written and loss reserve level.
MINIMUM LIQUIDITY RATIO
The Act provides a minimum liquidity ratio for general business. An insurer
engaged in general business is required to maintain the value of its relevant
assets at not less than 75% of the amount of its relevant liabilities. Relevant
assets include cash and time deposits, quoted investments, unquoted bonds and
debentures, mortgages secured by first liens on real estate, investment income
due and accrued, accounts and premiums receivable and reinsurance balances
receivable. There are certain categories of assets which, unless specifically
permitted by the Minister, do not automatically qualify as relevant assets such
as unquoted equity securities, investments in and advances to affiliates, real
estate and collateral loans. The relevant liabilities are total general business
insurance reserves and total other liabilities less deferred income tax and
sundry liabilities.
RESTRICTION ON DIVIDENDS
The payment of dividends or other distributions by CGA is limited under
Bermuda insurance regulations. In accordance therewith, CGA is prohibited from
paying dividends or other distributions unless after such payment the amount by
which its general business assets exceed its general business liabilities is the
greater of the following amounts:
(i) $1,000,000; or
(ii) the amount determined by applying the rate of 20% to net premiums
written in the subject year up to $6,000,000 plus the rate of 15%
applied to net premiums written in the subject year in excess of
$6,000,000; or
(iii) the amount determined by applying the rate of 15% to reserves for
losses and loss adjustment expenses reflected in the balance sheet at
the date of determination.
CGA may declare and pay a dividend or make a distribution out of
contributed surplus or other assets legally available for distribution provided
that after the payment of such dividend or distribution CGA will continue to
meet its minimum solvency margin and minimum liquidity ratio as detailed above.
Further, in accordance with Bermuda insurance regulations, before reducing by
15% or more its total statutory capital as set out in its previous year's
financial statements, a Class 3 insurer such as CGA must apply to the Minister
for his approval and is obliged to provide such information in connection
therewith as the Minister may require.
In addition, Board members' fiduciary obligations to creditors,
policyholders and shareholders apply to their votes in respect of dividends,
distributions and redemptions.
The aforementioned restrictions on distributions by CGA to the Company will
restrict the ability of the Company to use the proceeds of the Capital
Commitments to pay dividends to holders of the Company's securities,
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because all proceeds from the Capital Commitments will be contributed by the
Company to CGA. For a description of the Capital Commitments, see Item
12--"Security Ownership of Certain Beneficial Owners and Management".
SUPERVISION, INVESTIGATION AND INTERVENTION
The Minister may appoint an inspector with extensive powers to investigate
the affairs of an insurer if the Minister is satisfied that an investigation is
required in the interest of the insurer's policyholders or persons who may
become policyholders. In order to verify or supplement information otherwise
provided to him, the Minister may direct an insurer and others to produce
documents or information relating to matters connected with theinsurer's
business.
If it appears to the Minister that there is a significant risk of the
insurer becoming insolvent, the Minister may direct the insurer not to take on
any new insurance business; not to vary any insurance contract if the effect
would be to increase the insurer's liabilities; not to make certain investments;
to realize certain investments; to maintain in Bermuda, or transfer to the
custody of a Bermuda bank, certain assets; and to limit its premium income.
Further, in such circumstances, the Minister may direct that no dividends be
paid.
An insurer is required to maintain a principal office in Bermuda and to
appoint and maintain a principal representative in Bermuda. The principal office
of CGA is at Craig Appin House, 8 Wesley Street, Hamilton HM 11 Bermuda and
Michael Miran, CGA's President, is CGA's principal representative. Without a
reason acceptable to the Minister, an insurer may not terminate the appointment
of its principal representative, and the principal representative may not cease
to act as such, unless 30 days' notice in writing to the Minister is given of
the intention to do so. It is the duty of the principal representative, within
30 days of his reaching the view that there is a likelihood of the insurer for
which he acts becoming insolvent or its coming to his knowledge, or his having
reason to believe, that an "event" has occurred, to make a report in writing to
the Minister setting out all the particulars of the case that are available to
him. Examples of such an "event" include failure by the insurer to comply
substantially with a condition imposed upon the insurer by the Minister relating
to a solvency margin or a liquidity or other ratio.
CERTAIN OTHER BERMUDA LAW MATTERS
Although the Company and CGA are incorporated in Bermuda, each is
classified as non-resident of Bermuda for exchange control purposes by the
Bermuda Monetary Authority, Foreign Exchange Control. Pursuant to its
non-resident status, the Company may hold any currency other than Bermuda
dollars and convert that currency into any other currency (other than Bermuda
dollars) without restriction.
As "exempted" companies, the Company and CGA may not, without the express
authorization of the Bermuda legislature or under a license granted by the
Minister, participate in certain business transactions, including:
(i) the acquisition or holding of land in Bermuda (except as required
for its business and held by way of lease or tenancy agreement for a term
not exceeding 50 years);
(ii) the taking of mortgages on land in Bermuda in excess of $50,000;
or
(iii) the carrying on of business of any kind in Bermuda, except in
furtherance of the business of the Company carried on outside Bermuda.
The Bermuda government actively encourages foreign investment in "exempted"
entities like the Company that are based in Bermuda but do not operate in
competition with local businesses. As well as having no restrictions on the
degree of foreign ownership, the Company and CGA are not currently subject to
taxes on their income or dividends or to any foreign exchange controls in
Bermuda. In addition there currently is no capital gains taxin Bermuda.
U.S. AND OTHER
CGA is not admitted to do business in any jurisdiction except Bermuda. The
insurance laws of each state of the U.S. and of many foreign countries regulate
the sale of insurance within their jurisdictions by alien insurers, such as
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<PAGE>
CGA, which are not authorized or admitted to do business within each
jurisdiction. With some exceptions, such sale of insurance within a jurisdiction
where the insurer is not admitted to do business is prohibited. It is not
intended for CGA to maintain an office or to solicit, advertise, settle claims
or conduct other insurance activities in any jurisdiction other than Bermuda
where the conduct of such activities would require that CGA be so authorizedor
admitted.
CGA does not write insurance in the U.S. CGA conducts its business so as
not to be subject to the licensing requirements of insurance regulations in the
U.S. or elsewhere (other than Bermuda). The Company has developed operating
guidelines, which include the acceptance of business through insurance brokers
not resident in the U.S., to assist its personnel in conducting business in
conformity with the laws of U.S. jurisdictions. The Company follows these
guidelines and expects that its activities will comply with applicable insurance
laws and regulations. There can be no assurance, however, that insurance
regulators in the U.S. or elsewhere will not review the activities of CGA and
claim that CGA is subject to such jurisdiction's licensing requirements.
Many states impose a premium tax (typically 2--4% of gross premiums) on
U.S. insureds obtaining insurance from unlicensed foreign insurers, such as CGA,
by direct placement. The premiums charged by CGA do not include any state
premium tax. Each insured is responsible for determining whether it is subject
to any such tax and for paying such tax as may be due.
The U.S. also imposes an excise tax on insurance and reinsurance premiums
paid to foreign insurers or reinsurers by insureds who are U.S. persons with
respect to risks located in the U.S. The rates of tax applicable to premiums
paid to CGA are currently 4% for insurance premiums and 1% for reinsurance
premiums.
COMPETITION
CGA faces potential competition from other financial guarantors, though
Management believes that none are currently active in the commercial real estate
obligations market. These financial guarantors generally have substantially
greater financial, technical and marketing resources, larger customer bases,
longer operating histories, greater name recognition and more established
relationships in the industry than CGA does. Furthermore, the primary U.S.
financial guarantors are all rated "Triple-A" by both S&P and Moody's. In
markets where the financial guarantors currently write insurance, especially the
municipal bond market, CGA is at a significant disadvantage without claims
paying ability ratings from these rating agencies. CGA's inability to negotiate
and conclude its policies in the U.S. may be a competitive disadvantage, in that
potential clients, including issuers and investment banks located in the U.S.,
may be unfamiliar with the Bermuda insurance market and may be reluctant to do
business with a non-U.S. insurance company.
ITEM 2. PROPERTIES.
The Company rents office space in Hamilton, Bermuda under an operating
lease which expires in July 2000, but is expected to be renewed in April 2000.
CGAIM rents office space in New York under an operating lease which expires in
2003 and has one option for a renewal period of five years. Total rent expense
was approximately $438,000 and $355,000 in 1999 and 1998 respectively. Future
minimum rental commitments under the leases, are expected to be approximately
$500,000 per annum.
ITEM 3. LEGAL PROCEEDINGS.
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There were no matters submitted to a vote of security holders during the fourth
quarter of 1999.
13
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PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
There is currently no established public trading market for the Company's
Common Stock. No cash dividends have been declared by the Company with respect
to its Common Stock since the Company's initial capitalization in June 1997. As
of March 15, 2000, there were approximately 60 holders of the Company's Common
Stock. Pursuantto the Company's Bye-laws, for so long as any shares of the
Company's Series A Preferred Stock or Series CPreferred Stock are issued and
outstanding, the Company may not declare or pay dividends on the Common Stock.
CGA's Board of Directors has passed a resolution that CGA will not declare or
pay cash dividends during its first five years of operations. After such
five-year period, CGA intends to comply with dividend restrictions, if any,
imposed by DCR, subject to covenants contained in the subscription agreements
for the various classes of the Company's stock. For a description of the Bermuda
regulatory restrictions on the ability of CGA to pay dividends to the Company,
see Item 1--"Business--Regulation--Restriction on Dividends."
ITEM 6. SELECTED FINANCIAL DATA.
The selected consolidated financial data below should be read in
conjunction with the consolidated financial statements and the notes thereto
presented under Item 8.
<TABLE>
<CAPTION>
AS OF OR FOR YEAR ENDED
---------------------------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 31, MARCH 31,
1999 1998 1997 1997(1)
------------ ------------- ------------- ------------
<S> <C> <C> <C> <C>
Income Statement Data:
Gross premiums written ...................... $ 16,358,269 $ 49,217,083 $ 773,571 $ --
Net premiums written ........................ 14,320,693 9,796,836 773,571 --
Net premiums earned ......................... 12,223,484 9,246,289 502,995 --
Net investment income ....................... 8,641,551 8,528,122 2,955,601 801
Net realized gains (losses) ................. (60,485) 2,814,132 885,422 --
Management fees ............................. 8,207,746 3,353,499 -- --
Operating expenses .......................... 12,987,596 14,023,366 6,510,103 11
Rebate on credit support arrangements ....... 5,510,000 -- -- --
Acquisition costs ........................... 713,571 433,217 53,590 --
Losses and loss adjustment expenses ......... 16,650,000 22,745,000 55,000 --
Loss before cumulative effect of change in
accounting principle ...................... (7,648,871) (14,059,541) (2,706,182) 790
Net loss (7,648,871) (17,987,779) (2,706,182) 790
Net loss attributable to common shareholders (22,614,915) (38,896,227) (12,332,792) 790
Loss per share on cumulative effect of
change in accounting principle ............ -- (0.43) -- --
Basic and diluted loss per common share ..... (0.97) (4.27) (1.89) 0.07
Weighted average shares outstanding ......... 23,395,778 9,100,000 6,522,313 12,000
Balance Sheet Data:
Fixed Maturities ............................ 146,337,676 100,488,537 123,302,763 --
Other Investments ........................... -- 30,000,000 -- --
Cash and cash equivalents ................... 12,775,595 2,598,140 7,199,106 121,742
Premiums receivable ......................... 2,267,991 3,228,497 447,172 --
Reinsurance recoverable ..................... 25,000,000 67,400,000 -- --
Total assets ................................ 199,619,508 215,903,933 142,721,186 133,790
Reserve for losses and loss adjustment
expenses .................................. 36,545,700 90,200,000 55,000 --
Total liabilities ........................... 44,674,096 95,797,551 3,916,609 --
Total mezzanine equity ...................... 87,506,212 126,608,249 107,047,101 --
Total shareholders' equity .................. 67,439,200 (6,501,867) 31,757,476 12,790
- ----------
</TABLE>
(1) The Company's first fiscal year-end was March 31, 1997. The fiscal year-end
was subsequently changed to December 31.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion should be read in conjunction with, and is
qualified in its entirety by, the consolidated financial statements of the
Company and the related notes thereto included elsewhere in this report.
OVERVIEW
CGA Group, Ltd., a holding company, was incorporated in Bermuda in June
1996. CGA Group has two wholly owned subsidiaries. Commercial Guaranty
Assurance, Ltd., was incorporated in Bermuda in October 1996. Commercial
Guaranty Assurance is licensed as a class 3 insurer under the Act. This act
authorizes Commercial Guaranty Assurance to carry on insurance business of all
classes in or from within Bermuda subject to its compliance with the solvency
margin, liquidity ratio and other requirements imposed on it by the act.
Commercial Guaranty Assurance has a "Triple-A" "claims paying ability" rating
from Duff & Phelps Credit Rating Company and is also rated in the highest rating
category assigned by each of the two Canadian rating agencies, Dominion Bond
Ratings Service and Canadian Bond Ratings Service. Commercial Guaranty Assurance
issues financial guaranty insurance policies, which are the functional
equivalent of direct-pay letters of credit, to insure payment of interest,
principal and other amounts payable in respect of notes, securities, and other
financial obligations.
CGA Investment Management, Inc. was incorporated in the state of Delaware,
in July 1996. CGA Investment Management is registered as an investment advisor
with the United States Securities and Exchange Commission under the Investment
Advisors Act of 1940, as amended. CGA Investment Management provides investment
management and financial advisory services primarily to specialized investment
vehicles and for the U.S. and international structured finance markets.
CGA Group and its subsidiaries were inactive until June 17, 1997, on which
date CGA Group's private placement offering was completed and CGA Group was
recapitalized with (a) two classes of preferred stock totaling $105 million, (b)
common stock totaling $45.5 million and (c) conditional commitments to purchase
$60 million of additional preferred stock. On March 31, 1999 CGA Group sold
43,997,863 shares of its Series C preferred stock to existing shareholders for
an aggregate sales price of approximately $51 million. Concurrent with the sale
of the Series C preferred stock, all the outstanding shares of Series B
preferred stock were converted to shares of common stock. On April 26, 1999 CGA
Group sold 973,483 shares of Series C preferred stock to employees of CGA Group
and its subsidiaries for an aggregate sales price of approximately $1.2 million.
Financial comparisons with the nine month period ended December 31, 1997
have limited meaning, as the Company did not commence operations until after the
private placement offering was completed on June 17, 1997. Accordingly, 1997
financial results reflect only six months of operations during a period in which
the Company was focused on hiring personnel and commencing operations.
15
<PAGE>
RESULTS OF OPERATIONS
SUMMARY OF OPERATIONS
($ IN $000'S)
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED YEAR ENDED ENDED
DECEMBER 31, % DECEMBER 31, DECEMBER 31,
1999 CHANGE 1998 1997
------------ ------- ------------ -------------
<S> <C> <C> <C> <C>
REVENUES
Gross premiums written .............................. $ 16,358 (67%) $ 49,217 $ 774
Ceded premiums ...................................... (2,038) (95%) (39,420) --
Change in unearned premiums ......................... (2,097) 281% (551) (271)
-------- ---- -------- --------
Net premiums earned ................................. 12,223 32% 9,246 503
Net investment income ............................... 8,641 1% 8,528 2,956
Net realized gains (losses) ......................... (60) (102%) 2,814 885
Management fees ..................................... 8,208 145% 3,354 --
-------- ---- -------- --------
Total Revenues ...................................... 29,012 21% 23,942 4,344
EXPENSES
Operating expenses .................................. 12,988 (7%) 14,024 6,510
Rebate on credit support arrangements ............... 5,510 -- -- --
Policy acquisition costs ............................ 713 65% 433 53
Commitment fees ..................................... 600 -- 600 324
Excess of loss facility ............................. 200 -- 200 108
Losses and loss adjustment expenses ................. 16,650 (27%) 22,745 55
-------- ---- -------- --------
TOTAL EXPENSES ...................................... 36,661 (4%) 38,002 7,050
Cumulative effect of change in accounting principle . -- -- (3,928) --
-------- ---- -------- --------
NET LOSS ............................................ (7,649) (58%) (17,988) (2,706)
Pay-in-kind dividends--preferred stock .............. (14,324) (28%) (19,961) (9,353)
Accretion--preferred stock .......................... (642) (32%) (947) (274)
-------- ---- -------- --------
NET LOSS ATTRIBUTABLE TO COMMON SHAREHOLDERS ........ $(22,615) (42%) $(38,896) $(12,333)
======== ==== ======== ========
</TABLE>
Premiums
The net premiums earned in 1999 of $12.2 million were derived from $16.3
million of gross premiums written, of which $2.0 million were ceded under
reinsurance agreements, and offset by a $2.1 million change in unearned
premiums. Ceded premiums in 1999 were affected by approximately $1.0 million of
charges due to recognition of upfront reinsurance premiums related to Commercial
Financial Services securities. As a result of claims paid in 1999 related to the
Commercial Financial Services securities by Commercial Guaranty Assurance's
reinsurer, the reinsured exposure decreased from approximately $154 million to
approximately $58 million, thereby requiring early recognition of the $1.0
million charge. Commercial Guaranty Assurance paid an up-front premium of $1.3
million for the reinsurance in October 1998. Most of the increase in unearned
premiums during 1999 was from one transaction for which CGA received an up-front
premium of approximately $1.8 million, of which only $11 thousand was earned in
1999. Net premiums earned increased by approximately $3 million, or 32% for 1999
compared to 1998. The increase is primarily the result of a 43% increase in
insurance in force as of December 31, 1999 compared to December 31, 1998.
Net premiums earned in 1998 of $9.2 million were derived from $49.2 million
of gross premiums written, of which $39.4 million were ceded under reinsurance
agreements, and offset by a $0.6 million change in unearned premiums. The gross
premiums written and ceded premiums included approximately $39 million from one
transaction. The transaction was entered into by CGA to mitigate risks related
to its exposure in connection with guarantees of two credit facilities for St.
George. As a result of turmoil in certain areas of the capital markets during
the month of October 1998, the spreads over treasuries at which investors were
willing to purchase certain securities widened considerably. This spread
widening caused a decrease in the market value of many of the securities used as
collateral for two of St. George's insured credit facilities. The facilities had
requirements that the lender's operating ratio, (the portfolio market value
divided by the loan outstanding) be maintained above certain levels. In the
event that an operating ratio fell below the required level and was not brought
into compliance within a cure period, the lender could liquidate the collateral
and require CGA to pay any remaining balance outstanding under the credit
facility. On October 30, 1998 CGA provided asset specific guarantees and
obtained third party credit support on a "cut-through" basis on approximately
$382 million par amount of securities within the two insured investment
portfolios. The three
16
<PAGE>
parties that provided such credit support are institutional investors in the
Company. The effect of this third party credit support was to substantially
increase the market value and reduce the future market value volatility of the
credit enhanced securities. In connection with these arrangements, CGA received
a premium of $38.95 million from its two clients, and ceded an aggregate of
$38.7 million to the institutions that provided the cut-through credit
enhancement.
Management fees
Management fees increased to $8.2 million in 1999 from $3.3 million in
1998. The $8.2 million is comprised of $1.7 million of structuring fees earned
in connection with three resecuritizations, $3.5 million of finance origination
fees, and approximately $3.0 million of investment management fees. No
structuring or finance orgination fees were earned in 1998.
CGA Investment Management's assets under management increased by 39% to
$2.5 billion at December 31, 1999 from $1.8 billion as of December 31, 1998.
However, investment management fees earned during 1999 decreased by 11% compared
to 1998. The decrease in management fees earned as a percentage of assets under
management is attributable to certain clients of CGA Investment Management
having resecuritized approximately $924 million in assets over the period
between September 30, 1998 and December 31, 1999. The asset management fees
earned from these resecuritization transactions are lower than the asset
management fees earned while these assets remained in such clients' investment
portfolios. In addition, at the request of certain clients, CGA Investment
Management reduced the amount of the asset management fee by 60% to assist them
with the liquidity difficulties that arose in the fourth quarter of 1998. This
fee reduction totaled approximately $1.3 million for 1999. There were no
investment management or advisory fees earned in 1997.
Insurance in force
The amount of CGA's insured portfolio increased from $1.6 billion net par
as of December 31, 1998 to $2.2 billion as of December 31, 1999. The following
table shows the net par insured obligations at December 31, by asset type:
<TABLE>
<CAPTION>
1999 1998 1997
(000'S) (000'S) (000'S)
---------- ---------- ---------
<S> <C> <C> <C>
Real estate investment trust debt .............. $ 256,774 $ 381,777 $ --
Consumer asset-backed securities ............... 656,075 456,521 52,439
Corporate asset-backed securities .............. 459,909 270,612 46,337
Commercial mortgage-backed securities .......... 614,217 185,754 100,703
Sovereign debt ................................. 90,000 120,000 120,000
Corporate debt ................................. 87,490 75,000 --
REIT Preferred stock ........................... 70,000 70,000 --
---------- ---------- --------
Total ........................................ $2,234,465 $1,559,664 $319,479
========== ========== ========
</TABLE>
The following table presents the credit ratings of the above assets, as
assigned by one or more nationally recognized credit rating agencies, based on
net par outstanding at December 31:
1999 1998 1997
---- ---- ----
"AAA" 4% 4% --
"AA" 2% 3% --
"A" 25% 12% 7%
"BBB" 58% 67% 65%
"BB" 9% 11% 28%
Not rated 2% 3% --
--- --- ---
Total 100% 100% 100%
=== === ===
The credit quality of the portfolio improved during 1998 and 1999 as
non-investment grade exposure decreased from 28% at December 31, 1997 to 11% at
December 31, 1999. The portfolio includes one problem credit consisting of
charged-off credit card receivable transactions. These transactions comprised
less than one percent of CGA's net par insured portfolio as of December 31, 1999
and three percent as of December 31, 1998. CGA has established a case basis
reserve for this exposure which is more fully described below.
Investment income
Net investment income was $8.6 million for the year ended December 31,
1999, $8.5 million for 1998, and $2.9 million for the period ended December 31,
1997. Net investment income is presented after deducting the cost of
17
<PAGE>
external investment management fees that totaled $0.1 million for 1999, $0.3
million for 1998 and $0.2 million for the period ended December 31, 1997.
Commencing in September 1998, CGA modified its investment strategy to have the
investment portfolio closely match the returns of a "Double-A" or better three
to five year Eurodollar bond index. This strategy results in a less actively
managed portfolio, which resulted in the management fee being reduced by
approximately twenty basis points per annum. The new strategy also resulted in
above normal turnover of the portfolio and contributed to the significant gains
realized during 1998. The total market value of the investment portfolio, other
investments, cash and accrued interest receivable at December 31, 1999, was
$163.5 million compared to $136.8 million at December 31, 1998. In April 1999
$47 million was added to the portfolio with proceeds from CGA Group's rights
offering. Cumulative unrealized losses in the portfolio as of December 31, 1999
were $6.5 million compared to $0.9 million of unrealized gains as of December
31, 1998. The unrealized losses in the portfolio resulted from the increase in
interest rates during 1999. The average yield on the investment portfolio was
6.86% at December 31, 1999 compared to 4.82% at December 31, 1998.
Operating expenses
Operating expenses for the year ended December 31, 1999 were $13 million,
$14 million for 1998 and $6.5 million for the nine months ended December 31,
1997. These costs are primarily personnel related which totaled $8.8 million for
1999 and $7.4 million for 1998. The primary reason for the operating expense
reduction in 1999 compared to 1998 was due to a non-recurring expense of $1.2
million of client acquisition costs in 1998 which had previously been
capitalized. These costs were incurred by CGA Investment Management to set up
new investment programs and funding sources for its clients. The majority of the
other operating expenses are comprised of occupancy costs, professional fees,
travel, information services, and administration.
Rebate on credit support arrangements
In December 1999, CGA Investment Management paid $5.5 million to St. George
to cover a portion of the $9.5 million net cost incurred by St. George for the
credit support arrangements which were provided in 1998 and cancelled in 1999.
Losses and loss adjustment expenses
CGA established general loss reserves of $3.3 million in 1999, $2.0 million
in 1998, and $0.1 million in 1997. CGA established case basis reserves, net of
reinsurance, of $15.3 million in 1999 and $20.8 million in 1998. Total case
basis reserves to date, net of reinsurance, are $36.1 million and all relate to
exposure to Commercial Financial Services securities.
In December 1998, Commercial Financial Services Inc., a credit-card debt
collection company and certain affiliates filed a petition for relief under
Chapter 11 of the United States Bankruptcy Code. CGA previously had guaranteed
approximately $212 million face amount of certain asset backed securities issued
by various trusts established and serviced by CFS (the "CFS Securities"), and
had reinsured approximately $162 million of this exposure, so that its original
net exposure was $50 million. As of December 31, 1999, CGA has made claim
payments under its guarantees in respect of the insured CFS Securities in an
aggregate amount of approximately $117.8 million (of which $90 million was
funded by CGA's reinsurer, and $27.8 million was funded by CGA from its own
reserves). CGA made an additional claims payment with respect to the CFS
Securities on March 15, 2000, in the amount of approximately $28.5 million
($21.8 million was funded by CGA's reinsurer, and $6.7 million was funded from
CGA's case basis reserves). Upon making such payment, and together with all such
prior payments, CGA's aggregate net exposure, (net of reinsurance and net of
CGA's remaining $1 million case basis reserve) in respect of CFS Securities was
reduced to approximately $9.6 million.
CGA, CGAIM and various other plaintiffs commenced legal proceedings against
CFS, William Bartmann (CFS' founder and principal shareholder), other former
members of CFS' senior management and the placement agent for the CFS securities
insured by CGA, and CFS's auditors alleging various counts of federal and state
securities law fraud and common law fraud. It is too early to predict what, if
anything, CGA ultimately may recover in this legal proceeding.
Change in accounting principle
The Accounting Standards Executive Committee issued Statement of Position
98-5,"Reporting on Costs of Start-Up Activities", effective for fiscal years
beginning after December 15, 1998, which requires the Company to expense
organization costs as incurred. The Company expensed the remaining unamortized
organization costs totaling $3.9 million in July 1998 which is reflected in the
financial statements as a change in accounting principle.
Preferred dividends
For the year ended December 31, 1999 the pay-in-kind dividends on preferred
stock and accretion on preferred stock totaled $15.0 million compared to $20.9
million for 1998. The decrease resulted from the conversion of all outstanding
Series B preferred stock into common stock on March 31, 1999.
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<PAGE>
SUMMARY OF OPERATING SEGMENTS
The Company has two reportable segments, CGA and CGAIM. CGA issues
financial guaranty insurance policies and CGAIM provides investment management
and advisory services. The tables below presents selected financial information
for each of the operating segments:
As of and for the year ended December 31, 1999:
<TABLE>
<CAPTION>
CGA CGAIM
<S> <C> <C>
REVENUES
Net premiums earned ................................. $ 12,223,484 $ --
Net investment income ............................... 8,030,130 61,479
Net realized losses ................................. (60,485) --
Management fees ..................................... -- 8,207,746
Intersegment revenue ................................ -- 349,546
------------ -----------
Total revenues ...................................... 20,193,129 8,618,771
------------ -----------
EXPENSES
Operating expenses .................................. 1,279,553 9,940,212
Rebate on credit support arrangements ............... -- 5,510,000
Acquisition costs ................................... 713,571 --
Commitment fees ..................................... 600,000 --
Excess of loss facility ............................. 200,000 --
Losses & LAE ........................................ 16,650,000 --
Intersegment expenses ............................... 349,546 257,589
------------ -----------
Total expenses ...................................... 19,792,670 15,707,801
------------ -----------
Net income (loss) ................................... 400,459 (7,089,030)
------------ -----------
TOTAL ASSETS ...................................... $190,644,086 $ 3,005,640
============ ===========
As of and for the year ended December 31, 1998:
CGA CGAIM
REVENUES
Net premiums earned ................................. $ 9,246,289 $ --
Net investment income ............................... 8,387,513 64,934
Net realized gains .................................. 2,814,132 --
Management fees ..................................... -- 3,353,499
Intersegment revenue ................................ -- 122,301
------------ -----------
Total revenues ...................................... 20,447,934 3,540,734
------------ -----------
EXPENSES
Operating expenses .................................. 1,558,407 10,711,550
Acquisition costs ................................... 433,217 --
Commitment fees ..................................... 600,000 --
Excess of loss facility ............................. 200,000 --
Losses & LAE ........................................ 22,745,000 --
Intersegment expenses ............................... 122,301 --
------------ -----------
Total expenses ...................................... 25,658,925 10,711,550
------------ -----------
Net loss ............................................ (5,210,991) (7,170,816)
------------ -----------
TOTAL ASSETS ........................................ $214,823,536 $ 3,752,936
============ ===========
</TABLE>
19
<PAGE>
As of and for the nine months ended December 31, 1997:
CGA CGAIM
REVENUES
Net premiums earned .................. $ 502,995 $ --
Net investment income ................ 2,955,601 --
Net realized gains ................... 885,422 --
------------ -----------
Total revenues ....................... 4,344,018 --
------------ -----------
EXPENSES
Operating expenses ................... 597,883 5,313,368
Acquisition costs .................... 53,590 --
Commitment fees ...................... 323,836 --
Excess of loss facility .............. 107,671 --
Losses & LAE ......................... 55,000 --
------------ -----------
Total expenses ....................... 1,137,980 5,313,368
------------ -----------
Net income (loss) 3,206,038 (5,313,368)
------------ -----------
TOTAL ASSETS ......................... $131,607,950 $ 3,577,782
============ ===========
LIQUIDITY AND CAPITAL RESOURCES
CGA Group capitalized Commercial Guaranty Assurance with $125 million. On
March 31, 1999 CGA Group contributed an additional $27.2 million to Commercial
Guaranty Assurance using proceeds from the sale of CGA Group's Series C
preferred stock. In June, 1999, CGA Group contributed an additional $7.1 million
to Commercial Guaranty Assurance. Alliance Capital Management Corporation
manages Commercial Guaranty Assurance's entire investment portfolio. These funds
are invested in foreign corporate and government debt securities which are rated
"Double-A" or higher and denominated in U.S. dollars. The portfolio maintains a
weighted average duration of two to five years. CGA Investment Management was
capitalized with $3 million. It has required additional funding from CGA Group
since its commencement of operations through December 31, 1999 of $13.9 million
to cover its operations. It is projected to require additional funding at least
through 2003 while it continues to build its assets under management up to an
amount that generates sufficient fee income to cover its operations.
On a consolidated basis, CGA Group used $15.8 million of cash from
operating activities during 1999 compared to providing $1.2 million during 1998.
CGA Group applied $23.9 million of net cash to investing activities during 1999
compared to $5.8 million in 1998. Cash flows from financing activities in 1999
resulted from the sale of Series C preferred stock, which raised net proceeds of
$49.9 million.
On March 31, 1999 CGA Group sold 43,997,863 shares of Series C preferred
stock, par value $.01 per share, to existing shareholders for an aggregate sales
price of $50,996,795. Concurrent with the sale of the Series C preferred stock,
the outstanding 1,600,000 of Series B preferred stock and the 668,678 shares of
Series B preferred stock declared as pay-in-kind dividends thereon, totaling
2,268,678 shares valued at $56,716,950, were exchanged for 18,905,648 shares of
common stock based on an exchange price of $3 per share of common stock.
On April 26, 1999 CGA Group sold 973,483 shares of Series C preferred stock
to employees of CGA Group and its subsidiaries. The shares were sold for $1.20
each, for a total of $1.2 million. The shares were 90% financed by CGA Group at
7% per annum with equal principal installments due annually over a three-year
period.
CGA Group does not expect to pay cash dividends to its shareholders.
Commercial Guaranty Assurance's Board of Directors has passed a resolution that
Commercial Guaranty Assurance will not declare or pay cash dividends during the
first five years of operations. After such five-year period, Commercial Guaranty
Assurance intends to comply with dividend restrictions, if any, imposed by Duff
& Phelps subject to covenants contained in the subscription agreements for the
various classes of CGA Group's stock. In addition, Commercial Guaranty
Assurance's dividend payments are subject to certain limitations under Bermudian
insurance regulations that require minimum solvency margins and liquidity
ratios.
20
<PAGE>
Commercial Guaranty Assurance monitors its exposure on a routine basis and
stays in close contact with its rating agencies to ensure that its "Triple-A"
rating is maintained. Commercial Guaranty Assurance has a $20 million excess of
loss reinsurance facility agreement and can also arrange reinsurance on an as
needed basis to manage its exposure. CGA Group also has commitments which expire
June 17, 2002, from certain institutional shareholders to purchase an aggregate
of $60 million of additional Series B preferred stock. Should those commitments
be called upon, the proceeds would be used to increase the capital of Commercial
Guaranty Assurance. The commitments must be funded in the event that Duff &
Phelps notifies CGA Group at least 45 days prior to June 17, 2002 that
Commercial Guaranty Assurance's rating will otherwise be downgraded below a
"Triple-A" rating.
SUBSEQUENT EVENTS
On March 7, 2000, Fitch announced that it intended to acquire DCR, subject
to obtaining all requisite shareholder and regulatory approvals. CGA is not
currently rated by Fitch. If such acquisition is consummated, it is unclear what
action, if any, Fitch will take in respect of CGA's "AAA" rating from DCR. If
Fitch were to rate CGA's claims paying ability at less than "AAA", such action
could have a material adverse effect on CGA's business, financial condition and
prospects.
On March 13, 2000, the Company hired Donaldson, Lufkin & Jenrette ("DLJ"),
an investment banking firm, to act as the Company's exclusive financial advisor
for the purpose of raising additional capital. At this time, Management is
unable to predict whether or to what extent DLJ will be successful in these
capital raising efforts.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board (the FASB) issued
Statement No. 133 Accounting for Derivative Instruments and Hedging Activities
("SFAS 133"), subsequently amended by SFAS No. 137, which the company is
required to adopt effective January 1, 2001. SFAS 133 requires all derivatives
to be recognized in the statement of financial position as either assets or
liabilities and measured at fair value. Upon implementation, credit default
swaps will be valued at fair value in accordance with this statement. The impact
of SFAS 133 on the company's financial statements will depend on a variety of
factors, including future interpretative guidance from the FASB, and the volume
of credit default swaps written by Commercial Guaranty Assurance.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
RISK MANAGEMENT
In the ordinary course of business, the Company, through its Subsidiaries,
manages a variety of risks. Of these, the primary risk is the credit risk taken
by CGA in respect of obligations insured by it. Other material risks include
those in respect of credit derivatives, liquidity, capital markets, and exposure
to reinsurers. These risks are identified, measured and monitored through a
variety of control mechanisms, which are in place at different levels throughout
the organization.
CREDIT RISK
The most significant risk to which the Company is exposed is credit risk.
Credit risk occurs at a number of levels, primarily in respect of the securities
and other financial obligations insured by CGA, but also in connection with
counterparties to interest rate and currency swaps, credit derivatives, and
liquidity providers.
The primary credit risk to which CGA is exposed is the risk of default on
the underlying securities or other financial obligations which it has
guaranteed. Under its financial guaranty insurance policy, CGA would generally
be liable to pay interest, principal and other amounts in respect of the insured
obligation as these become due for payment in accordance with the payment terms
of the underlying obligation, without giving effect to any acceleration thereof.
In the event the issuer of a CGA-insured security defaults on its payment
obligations, under its policy CGA would be obligated to make all scheduled
payments when due for payment. Under its insurance policies, CGA would generally
have the right, but not the obligation, to repay the defaulted security on an
accelerated basis. Upon making payment in respect of a defaulted security, CGA
would generally be subrogated to all rights and remedies of the issuer of the
security in respect of any related collateral or other security, to the extent
of the payment made by CGA.
21
<PAGE>
CREDIT DERIVATIVES
CGA has exposure to counterparties in respect of certain credit
derivatives. CGA has entered into default swaps in respect of certain sovereign
and corporate exposures. CGA has also guaranteed the payment obligations of
certain subsidiaries of SG Holdings and Cobalt Holdings under default swaps and
total rate of return swaps which have been entered into by such vehicles.
Default Swaps
Default swaps are credit derivatives that enable the owner of a security to
transfer credit risk to another party. CGA has entered into default swaps
directly with banks and investment banks and has also guaranteed the obligations
of certain subsidiaries of SG Holdings and Cobalt Holdings pursuant to default
swaps.
The party taking the credit exposure in a default swap receives a net
payment that is the economic equivalent of a premium. Unless a credit event
occurs, the swap typically terminates on the maturity date of the reference
security, and there is no termination payment at maturity. Credit events relate
to the reference security and typically include:(i) bankruptcy, (ii) failure to
pay, (iii) repudiation, (iv) restructuring, and (v) cross default or
cross-acceleration. If a credit event occurs, CGA generally would be obligated
to purchase the reference security at par plus accrued interest. In some cases,
CGA would have the additional option of cash settlement, whereby CGA can make a
payment equal to the difference between the market value of the security at the
time, and the par value of the security.
Principal risks associated with default swaps include: (i) credit risk--a
loss may be incurred pursuant to a credit event in respect of the underlying or
reference security; (ii) market value risk--this risk is limited to cash
settlement or to the value of the reference security following a physical
settlement upon a credit event; (iii) counterparty bankruptcy risk--from CGA's
perspective, the counterparty's fixed payments would no longer be received;
however, the swap would terminate and CGA would no longer have the credit
exposure to the reference security; (iv) liquidity risk--if a credit event
occurs, CGA must fund the purchase of the reference security. The cash amount
required may be reduced in the event of a cash settlement, but this option may
not be attractive if the reference security is illiquid or is marked at an
unattractive price; and (v) assignment risk--if the reference security carries
certain rights, remedies, or obligations (such as voting rights related to a
bank loan), these should be assignable in the event of a physical settlement.
As of December 31, 1999, CGA was party to an aggregate $210 million
notional amount of default swaps. $120 million in notional amount of this
exposure was in respect of 16 corporate credits, ranging from $5 million to $30
million in notional amount. Each such default swap has a five-year term, with
$75 million in notional amount maturing in September 2003, and $45 million in
notional amount maturing in June 2004. The remaining $90 million in notional
amount of default swap exposure consists of seven sovereign or quasi-sovereign
credits, ranging in notional amount from $10 million to $20 million. Each of
these default swaps matures in November 2002. In addition, CGA had guaranteed
the payment obligations of a St. George vehicle under a default swap covering
the senior debt obligations of a publicly traded REIT under a revolving credit
facility, with a maximum exposure of $60 million. CGA had approximately $42
million of exposure to this credit as of December 31, 1999, which matures in
July, 2000. As noted above, unless a default event occurs in respect of the
reference security to which the default swap pertains, CGA will not be required
to make any payments and will have no further exposure under the default swap
following the maturity date thereunder.
Total Rate of Return Swaps
Total rate of return swaps ("TRORs") are credit derivatives that are used
by certain subsidiaries of SG Holdings and Cobalt Holdings to assume credit
exposure without using cash. Effectively, the investment vehicle receives all
the economic benefits of owning the investment without financing it on balance
sheet. At the end of the TROR's term (typically one year), the investment
vehicle must purchase the underlying bond at the amount that had been financed
less any principal payments received ("Notional"). Any market value appreciation
or decline is for the investment vehicle's account.
These swaps are either provided by investment banks selling the bond or
through a swap line provided by certain institutional lenders to St. George and
Cobalt. The TROR counterparty benefits from a CGA surety bond guaranteeing the
investment vehicle's obligations under the contract. The counterparty also
retains an ownership interest in the specific bond that is being financed. In
general, the investment vehicle's investment guidelines require no less than a
AA- or Aa3 rating from S&P or Moody's for eligible TROR counterparties.
22
<PAGE>
There are three principal risks associated with TRORs: (i) refinancing
risk--if at the termination date the counterparty does not roll its exposure to
the investment vehicles at the then current notional or financing rate, then the
underlying reference security will need to be refinanced at the then current
market value and financing rates; (ii) market value risk--many TRORs (but not
all) have market value triggers ranging from 5% to 10% of the notional amount.
If the market value of the reference security drops below the relevant dollar
price, then either (a) cash collateral will need to be posted (normally enough
to bring the collateral package back to par), or (b) an early termination event
can be declared by the counterparty; and (iii) counterparty bankruptcy risk--the
investment vehicle does not have a security interest in the underlying bond that
is being financed. In the event of the counterparty's bankruptcy, the investment
vehicle would have only an unsecured claim against the counterparty. Under its
surety bond, CGA would typically guarantee any payment default by St. George,
Cobalt or other investment vehicle under the TROR, and would thus be liable to
cover any payment default by the investment vehicle thereunder.
As of December 31, 1999, CGA had exposure in respect of approximately $285
million in notional amount of reference securities held by various subsidiaries
of St. George Holdings and Cobalt Holdings under TRORS. The underlying reference
securities consist of subordinated tranches of credit card securitizations ($153
million), REIT senior debt ($50 million), CLO/CBOs ($28 million), future flow
transactions ($19 million), equipment leases ($18 million), and home equity
loans ($17 million). As noted above, TRORs are generally for one year terms,
with a market value "true-up" typically required upon renewal. See also
"Liquidity" below.
LIQUIDITY
The liabilities of certain CGA-insured investment vehicles (e.g., SG1 and
SG3) and the CGA-insured medium term notes ("MTNs") issued by GFC do not
necessarily provide term funding for the assets owned by these vehicles. This
could result in incremental exposure to CGA in the event of an inability to
refinance an asset at the maturity date of the associated liability, especially
when the asset's market value is lower than its acquisition cost. Such inability
to refinance could result in a claim against CGA in the amount of the market
value loss on the securities liquidated to repay the maturing liability.
As the liabilities of these CGA-guaranteed investment vehicles approach
maturity, CGAIM will attempt to refinance the liability with the vehicle's
existing lenders, replace the facility with another lender or syndicate of
lenders, or issue MTNs through the GFC Euro MTN Program. In the event a
CGA-insured liability cannot be issued to refinance a maturing liability, CGA
will (i) direct the investment vehicle to sell the related asset with or without
CGA insurance or (ii) attempt to arrange for the purchase of the asset by
another CGA-insured investment vehicle. Refinance options for maturing TRORs
include: (i) refinance or "term out" the full amount of the maturing TROR with
the existing TROR counterparty; (ii) refinance the maturing TROR with the
existing TROR counterparty or new counterparty at the related security's market
value; (iii) sell the asset with or without a CGA guaranty; and (iv) attempt to
arrange for the purchase of the asset by another CGA-insured investment vehicle,
such as GFC St. George or GFC Cobalt. In the case of (ii), (iii) and (iv), CGA
would be liable for any market value shortfall not otherwise covered by the
terms of the refinancing.
As of December 31, 1999, there was approximately $531 million principal
amount of CGA-insured MTNs outstanding under the GFC EMTN Program, with
maturities ranging from one to ten years. The maturity schedule for these MTNs
is as follows: 2000 - $170 million, 2001 - $136 million, 2003 - $100 million,
2004 - $86 million, 2009 - $65 million. In respect of the approximately $170
million in MTNs maturing in 2000, CGAIM intends to fund these maturities through
MTN issuance of $25 to $50 million per month over the first six months of 2000.
If MTN issuance falls short of these levels, a portion of the $140 million in
cash and liquid assets currently available at GFC will be reserved to retire the
maturing liabilities.
In the case of SG1, its revolving credit facility was not renewed in 1998,
and this facility has converted into a term loan maturing November 2, 2002, with
annual amortization. Approximately $274 million remains outstanding under this
facility as of December 31, 1999. SG1 fully paid down the first installment in
November 1999, has prepaid approximately $62 million of the $106 million
installment due in November 2000, and will have to make two further installment
payments of approximately $106 million each in November 2001 and 2002. SG3
renewed its $500 million 364-day credit facility in July 1999, which if not
renewed in July 2000 will convert into a six-year term loan. There was
approximately $274 million outstanding under this facility as of December 31,
1999.
23
<PAGE>
CAPITAL MARKETS
Spread Risk (Credit Spread and Swap Spread Widening/Compression)
The market value of a fixed income asset has two components, duration risk
and credit spread risk. Duration risk is the risk of change in price of a
fixed-rate bond as a result of changes in interest rates. St. George and Cobalt
investment vehicles, which generally borrow at floating, LIBOR based rates, are
required by their investment guidelines to hedge this risk, through interest
rate swaps, to minimize fluctuations in the market value of their portfolios
resulting from movements in the Treasury market. Such interest rate swaps
effectively convert fixed rate assets into synthetic floating rate bonds. Credit
spread risk is the risk resulting from change in price of any non-government
bond as a result of a change in the market's willingness to hold the issuer's
risk. The Company believes that the change in the price of a bond due to credit
spread movements (risk premium) cannot be hedged in today's market for the type
of assets in the St. George and Cobalt investment portfolios. Credit derivative
contracts with market value triggers are also subject to credit spread risk.
The following hold true for spread volatility: (i) the shorter life of the
asset, the lower the credit spread volatility; (ii) higher rated assets have
lower credit spread volatility than lower rated assets; and (iii) assets with
better liquidity (tighter bid/ask spread) have lower credit spread volatility.
The market value volatility of a portfolio of assets and/or derivative
contracts is simply the weighted average of the volatility of the individual
assets. Credit spreads move for the following reasons: (i) underlying changes in
the credit quality of the securities; (ii) supply/demand equation; and (iii)
absences of liquidity, such as occurred in the capital markets in the second
half of 1998.
Interest Rate Movements
The market value of fixed rate bonds fluctuates as underlying interest
rates change (parallel shifts and/or twists). This is commonly measured by the
modified duration of the bond. CGAIM manages the duration risk of the assets in
its clients' portfolios by swapping the fixed rate cash flows into LIBOR
floating rate basis. The interest rate hedge is generally put on simultaneously
with the purchase by the client of the fixed rate bond. CGAIM monitors the
interest rate risks as agreed with each client and set forth in the investment
guidelines for such client. Pursuant to the client's investment guidelines, each
client's investment portfolio must be managed so as to remain within certain
parameters in this market risk category.
Interest Rate Swaps
CGA-insured investment vehicles are required by their respective investment
guidelines to swap all fixed rate investments to LIBOR. This is intended to
ensure that the vehicles lock-in the intended spread on their respective
investments and have sufficient resources to pay interest on their respective
financings. The bankruptcy of a provider of an interest rate swap could leave
CGA exposed to the marked-to-market value of the interest rate swap. In general,
the investment guidelines for the various St. George and Cobalt vehicles require
that swap counterparties be rated not less than "Single-A" by one or more
nationally recognized credit agencies. Certain of the St. George and Cobalt
vehicles have higher or additional requirements for swap counterparties.
24
<PAGE>
ST. GEORGE AND COBALT
INTEREST RATE SWAP COUNTERPARTY EXPOSURE
AS OF DECEMBER 31, 1999
DEBT RATING CATEGORY NOTIONAL AMOUNT ($MM)
-------------------- ---------------------
"Triple-A" $ 9
"Double A" $599
"Single A" $575
(for counterparties with split ratings, the lowest rating category governs)
Counterparty derivative exposures are a function of the notional amount and
tenor of the derivative contracts outstanding, as well as the yield curve. Since
the future paths of the yield curve are probabilistic, there are a number of
analytical approaches to measure the credit exposures from interest rate swaps.
The Company applies a stressed (3-Sigma) expected mark-to-market approach and
aggregates counterparty risks across the CGA-guaranteed investment vehicles and
swap contracts. The "starting point" for the 3-Sigma measurement is the current
marked-to-market value of each derivative contract.
Most of the long dated interest rate swaps to which St. George and Cobalt
are party have "true-up" provisions which allow either counterparty to terminate
a swap contract in five years. This provision provides both counterparties with
a credit risk mitigant. At the current time, CGA-guaranteed vehicles have over
$700 million of long dated interest rate swaps with this type of provision.
Spread Deterioration Risk
Certain of the St. George and Cobalt investment vehicles fund their
LIBOR-based portfolios by borrowings under asset backed commercial paper
facilities. This could subject the vehicle to basis risk if LIBOR and asset
backed commercial paper rates diverge. These two indices normally trade with a
high degree of correlation; i.e. asset backed commercial paper generally yields
around LIBOR minus 5 basis points. However, in times of market disruption, such
as occurred in September and October of 1998, asset-backed commercial paper
widened to as much as LIBOR plus 20 basis points. To the extent that the
LIBOR-based cash flow generated by such St. George and Cobalt investment
vehicles is insufficient to cover such vehicles' increased funding cost due to
excessive widening of asset-backed commercial paper rates, CGA would generally
be liable for any shortfall pursuant to the insurance issued by it.
REINSURANCE
In the ordinary course of its business, CGA cedes exposures under various
reinsurance contracts primarily designed to minimize losses from large risks and
to protect capital and surplus. The reinsurance of risk does not relieve the
ceding insurer of its original liability to policyholders. In the event that any
or all of the reinsurers were unable to meet their obligations to CGA under
these reinsurance arrangements, CGA would be liable for such defaulted amounts.
CGA's exposure to reinsurers was $109.7 million as of December 31, 1999. All
such exposure is with counterparties which are rated at least "Double-A minus"
or the equivalent by one or more nationally recognized statistical credit rating
agencies.
CGA's exposure relating to its reinsurers is the joint probability of both
an asset and a reinsurer defaulting at the same time. Generally speaking, this
risk is considered to be non-correlated, and is therefore considered to be a low
probability risk. Assuming that there is no correlation between the default of
an asset and a reinsurer, the probability of simultaneous default would be
product of the individual default probabilities. For example, a five-year
Baa3-rated asset backed security should have a default probability of
approximately 3.7%, according to Moody's Default Study. Similarly, a Aa3 rated
reinsurer should have a five-year default probability of approximately .60%.
Therefore, the joint probability of simultaneous default would be only .02%. The
risk mitigation gained from the non-correlation of asset and counterparty is
extremely valuable and is the basis for the capital relief provided by
reinsurance.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements listed in the accompanying Index to Financial
Statements and Schedules are filed as part of this Report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
25
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
DIRECTORS AND OFFICERS OF THE COMPANY AND THE SUBSIDIARIES
The table below sets forth the names, ages (as of March 15, 2000) and
titles of the persons who are the members of the board of directors of CGA Group
and the executive officers of the Company and the Subsidiaries.
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- ---------
<S> <C> <C>
Richard A. Price ................... 53 Director, Chief Executive Officer and
President, CGA Group
James R. Reinhart .................. 43 Vice President and Chief Financial
Officer, CGA Group and CGA
Michael M. Miran ................... 47 President, CGA
Geoffrey N. Kauffman ............... 41 President and Chief Executive Officer,
CGAIM
Kem H. Blacker ..................... 44 Managing Director, CGAIM
Landon D. Parsons .................. 41 Managing Director, CGAIM
Jean-Michel Wasterlain ............. 42 Managing Director, CGAIM
Martin S. Avidan ................... 42 Director, CGAIM
Jay H. Shidler ..................... 53 Chairman of the Board of Directors
David M. Barse ..................... 37 Director
Robert L. Denton ................... 47 Director
Richard S. Frary ................... 52 Director
Eric A. Gritzmacher ................ 51 Director
Jeffrey P. Krasnoff ................ 44 Director
Michael J. Morrissey ............... 52 Director
F. Fuller O'Connor, Jr. ............ 40 Director
Alan S. Roseman .................... 43 Director
Paul A. Rubin ...................... 37 Director
Jay S. Sugarman .................... 37 Director
</TABLE>
The Company's Board consists of twelve members. The Board has been elected
in accordance with the Company's Bye-laws and holds office until the next annual
general meeting of the shareholders of the Company. Pursuant to the Company's
Bye-laws, the Board of Directors of the Company has the following composition:
the Chairman (currently Jay H. Shidler), the CEO Member (currently Richard A.
Price), the Management Member (currently Robert L. Denton) eight Members elected
by the Eligible Investment Units Investors (as defined in the Bye-laws) and two
members elected by the holders of the Company's Series C Preferred Stock. As of
the date of this Report, one of these two seats remains vacant. The quorum
necessary for the transaction of business at a meeting of the Board is a
majority of the number of Directors constituting the Board.
Pursuant to the Bye-laws, the Board has established five committees. The
Compensation Committee is comprised of Eric A. Gritzmacher, Alan S. Roseman (as
Chairman), Paul A. Rubin and F. Fuller O'Connor, Jr., and is responsible for
determining compensation for the officers of the Company and the Subsidiaries
and for authorizing and approving the Company's employee benefits plans. The
Audit Committee will review the adequacy and effectiveness of the external
auditors and the audit report and is comprised of Jeffrey P. Krasnoff (as
Chairman), Michael J. Morrissey, Richard S. Frary, Paul A. Rubin and David M.
Barse. The Underwriting Committee is responsible for approving the credit
underwriting guidelines for CGA and is comprised of Alan S. Roseman, Jay H.
Shidler, Jeffrey P. Krasnoff, Eric A. Gritzmacher (as Chairman), F. Fuller
O'Connor, Jr., and Jay S. Sugarman. The Investment Committee is responsible for
recommending investment asset allocations, approving the investment guidelines
which provide standards to ensure portfolio liquidity and safety, recommending
to the Board investment managers and custodians for portfolio assets. The
Investment Committee is comprised of David M. Barse (as Chairman), Michael J.
Morrissey, Robert L. Denton, Richard S. Frary and Jay S. Sugarman. The Capital
Committee is comprised of Paul A. Rubin (as Chairman), David M. Barse, Robert L.
Denton and Alan S. Roseman, and is responsible for reviewing the Company's
equity financing opportunities and other strategic opportunities in the capital
markets.
26
<PAGE>
Under certain circumstances described in the Company's Series A
Subscription Agreement, two additional members of the Board may be elected by
the holders of the Series A Preferred Stock as a class.
The Company's Bye-Laws contain provisions for the election of alternate
directors.
BIOGRAPHICAL INFORMATION
RICHARD A. PRICE--Director, Chief Executive Officer and President of the
Company since July 5, 1996. Until July, 1996, Mr. Price was one of the top
executives at Financial Guaranty Insurance Company ("FGIC"), which he joined in
1985. Most recently, Mr. Price was President of FGIC Capital Markets Services, a
wholly-owned subsidiary of General Electric Capital Corporation ("GE Capital").
The FGIC Capital Market Services companies provide various capital market
services to municipalities and public finance bankers including investment
advice, investment contracts and liquidity for tax-exempt variable rate debt
issues. Mr. Price was responsible to GE Capital for forming these companies,
marketing these products and services and establishing market, credit and
operating risk controls. In 1988, Mr. Price led FGIC's entry into the structured
finance markets, establishing FGIC's ABS, MBS and commercial real estate
securitization activities. Mr. Price was a member of FGIC's three person Credit
Policy Committee, along with FGIC's Chief Executive Officer and FGIC's Chief
Credit Officer.
Prior to FGIC, Mr. Price spent 11 years with Chemical Bank in a number of
areas including Chemical's commercial real estate division where he was Vice
President. He also spent several years at Bankers Trust with the responsibility
of expanding Bankers' third party commercial paper dealer activities.
Mr. Price received a bachelor's degree from Cornell University and a MBA
from the Wharton School of Business.
JAMES R. REINHART--Chief Financial Officer of the Company and CGA since
January 1, 1997. Prior to joining the Company, Mr. Reinhart served as Chief
Financial Officer and Executive Vice President of TriNet Corporate Realty Trust,
Inc. from its inception in May 1993. Mr. Reinhart was previously Chief Financial
Officer at Holman/Shidler Corporate Capital, TriNet's predecessor company and an
affiliate company of The Shidler Group, which he joined in 1986. Prior to
joining The Shidler Group, Mr. Reinhart was a Division Controller for Coldwell
Banker Real Estate Group, an auditor with the accounting firm of McKeehan,
Hallstein, Kendall & Warner and served as an officer in the U.S. Marine Corps.
Mr. Reinhart is a CPA and received a bachelor's degree in accounting from
Bryant College and a MBA from National University.
MICHAEL M. MIRAN--President, Chief Underwriting Officer and Principal
Representative of CGA since January 3, 2000. Mr. Miran served as Managing
Director and General Counsel of CGAIM from June 30, 1997 to January 3, 2000.
Prior to joining CGAIM, Mr. Miran was Vice President and Senior Counsel at FGIC,
where he was responsible for structuring, negotiating and documenting a wide
range of commercial real estate, MBS and ABS transactions, including all of
FGIC's international asset backed transactions. More recently, Mr. Miran also
served as FGIC's Chief Compliance Officer, with responsibility over regulatory
and corporate compliance.
Before joining FGIC in 1990, Mr. Miran was an attorney for seven years with
Weil, Gotshal and Manges in New York, where his practice covered a broad range
of commercial transactions, including mergers and acquisitions, secured
financings, debt restructurings and workouts, and capital markets and securities
transactions.
Mr. Miran received a bachelor of arts degree from New York University, and
a juris doctorate degree from Fordham University School of Law.
GEOFFREY N. KAUFFMAN--President and Chief Executive Officer of CGAIM since
January 3, 2000. Mr. Kauffman served as President and Chief Underwriting Officer
of CGA from January 1, 1997 to January 3, 2000. Prior to joining CGA, Mr.
Kauffman worked at AMBAC Financial Group, Inc. ("AMBAC"), where he was a First
Vice President in the Structured Finance & International Department. Mr.
Kauffman joined AMBAC's Structured Finance & International Department in March
of 1995 to help the group build a presence in international structured finance,
and joined the MBIA/AMBAC International joint venture upon its inception in the
fourth quarter of 1995. When the joint venture opened its London office in April
1996, Mr. Kauffman transferred temporarily to London to launch the joint
venture's structured finance effort in London.
Prior to joining AMBAC, Mr. Kauffman was the Acting Director of the Asset
Backed Securities Group at Financial Guaranty Insurance Company ("FGIC") and a
member of FGIC's European Strategy Team. Mr. Kauffman joined FGIC in 1989 to
help establish FGIC's presence in the asset backed securities market.
27
<PAGE>
Mr. Kauffman received a bachelor's degree from Vassar College and a MBA
from Carnegie Mellon University.
KEM H. BLACKER--Managing Director of CGAIM since January 1, 1997. For the
twelve years prior to joining CGAIM, Mr. Blacker served in various key positions
at FGIC. As Senior Product Manager at FGIC Capital Markets Services Group, Mr.
Blacker invested in structured assets sourced in the Euromarkets for the
municipal GIC business and organized off-balance sheet vehicles. From 1990 to
1993, he served as FGIC's Director of Marketing & Product Development in London,
launching the firm's expansion into the Euromarkets.
Prior to his time at FGIC, Mr. Blacker held Vice President positions with
J.J. Lowry & Company and with E.F. Hutton in both its San Francisco and New York
offices.
Mr. Blacker received a bachelor's degree in economics from the University
of California.
LANDON D. PARSONS--Managing Director--Head of Structured Finance, CGAIM.
Mr. Parsons joined CGAIM in August 1997 as Co-Head of Structured Finance. Mr.
Parsons became sole head of Structured Finance during the first quarter of 1999,
and was promoted to Managing Director effective January 1, 2000. Prior to
joining CGAIM, Mr. Parsons held various positions at FGIC, including Acting
Director of the Asset Backed Securities Group and Senior Business Development
Manager. Prior to joining FGIC in 1994, Mr. Parsons was a Vice President and
Team Leader in Credit Lyonnais' Structured Finance Group. Mr. Parsons managed
the bank's joint venture asset-backed commercial paper conduits, and developed
an off-balance sheet mortgage-warehousing product. Mr. Parsons joined Credit
Lyonnais in 1991 from Capital Markets Assurance Corporation ("CapMAC") where he
was a Vice President in the Corporate Structured Finance Group. At CapMAC, Mr.
Parsons focused on debtor-in-possession facilities, domestic and European trade
receivables, and asset-backed commercial paper conduit credit enhancement. Mr.
Parsons was a member of the Citibank team responsible for establishing CapMAC in
1987.
Mr. Parsons received A bachelor's degree in economics from the University
of Northern Iowa and an MS from Purdue University's Krannert Graduate School of
Management.
JEAN-MICHEL WASTERLAIN--Managing Director of CGAIM since June 1, 1997. Mr.
Wasterlain manages CGAIM's real estate group. Prior to joining CGAIM, Mr.
Wasterlain was responsible for real estate lending and securitization at ING
Barings. At ING, he created a commercial mortgage conduit which originated time
sensitive and complex real estate loans, and structured commercial mortgage loan
securitizations backed by these loans. Mr. Wasterlain's other responsibilities
at ING included establishing and managing a $300 million commercial mortgage
securities investment portfolio, and securing third party financing for ING's
other real estate assets.
Mr. Wasterlain also has previous experience in the financial guaranty
business, at FGIC, and in investment banking, at Lehman Brothers. At FGIC, from
1990 to 1993, he worked on the credit enhancing of over $1 billion of commercial
mortgage securities. At Lehman Brothers, from 1985 to 1990, he was involved in
residential and commercial mortgage-backed securities, as well as providing
investment banking coverage to financial institutions.
Mr. Wasterlain received a bachelor's degree in economics from Stanford
University and a MBA from the Wharton Graduate School of Business.
MARTIN AVIDAN--Director, Portfolio Management, CGAIM. Mr. Avidan joined
CGAIM in July 1997 as Co-Head of Structured Finance. Mr. Avidan focuses on
developing and implementing CGAIM's liability strategy, including conduit
commercial paper facilities, medium term notes and credit derivatives. He is
also responsible for CGAIM's emerging markets investment activities. Prior to
joining CGAIM, he was First Vice President at Credit Lyonnais in its Structured
Finance Group, responsible for both domestic and international asset-backed
securities (ABS). Mr. Avidan founded Credit Lyonnais' structured finance group
in 1987, emphasizing credit enhancement for public and private ABS issues. From
1990 to 1994 he served as Branch Manager of Credit Lyonnais in Los Angeles.
Mr. Avidan received a bachelor's degree in business administration from the
American College in Paris, and a master's degree in International Management
(concentration in finance) from the American Graduate School of International
Management.
JAY H. SHIDLER--Chairman of the Board of Directors of the Company since
June 21, 1996. Mr. Shidler is the Founder and Managing Partner of The Shidler
Group, which he founded in 1970. Mr. Shidler is a founder of, and since June
1994, Chairman of, First Industrial Realty Trust, Inc. (NYSE: FR). Since October
1997, Mr. Shidler has served as Chairman of Corporate Office Properties Trust
(NYSE: OSC).
DAVID M. BARSE--Director of the Company since June 18, 1997. Since May
1998, he has served as President and Chief Operating Officer of Third Avenue
Trust, an open-end management investment company, where he served
28
<PAGE>
as Vice-President and Chief Operating Officer from June 1995 until his election
as President. From April 1995 until February 1998, Mr. Barse served as
Vice-President and Chief Operating Officer of EQSF Advisors, Inc., Third
Avenue's investment advisor, where he currently serves as President and Chief
Operating Officer. Since June 1995, Mr. Barse has been the President of M.J.
Whitman, Inc., a registered broker-dealer, and of M.J. Whitman Holding Corp. Mr.
Barse joined the predecessors of M.J. Whitman in December 1991 as general
counsel.
ROBERT L. DENTON--Director of the Company since July 5, 1996. Since January
1995, Mr. Denton has served as a Managing Partner of The Shidler Group and
resident principal in its New York office. Prior to joining The Shidler Group,
Mr. Denton was employed from December 1991 to December 1994 as an investment
banker at Providence Capital, Inc., which he co-founded. Prior to joining
Providence Capital, Mr. Denton was employed as a management consultant at Booz,
Allen & Hamilton, Inc.
RICHARD S. FRARY--Director of the Company from June 18, 1997 to March 31,
1999, and from September 10, 1999 to date. Since 1990, Mr. Frary has worked in
Investment Banking and Real Estate Investment at Tallwood Associates, which he
co-founded and for which he serves as President. Mr. Frary is also a director of
Washington Homes, Inc. and Wellsford Real Properties, Inc.
ERIC A. GRITZMACHER--Director of the Company since June 18, 1997. Since
1987, Mr. Gritzmacher has served as Vice President, Investments for Pacific Life
Insurance Company (formerly Pacific Mutual Life Insurance Company).
JEFFREY P. KRASNOFF--Director of the Company since June 18, 1997. Mr.
Krasnoff became the President of LNR Property Corporation when it was formed in
June, 1997 and he became a director in December 1997. From 1987 until June 1997,
he was a Vice President of Lennar Corporation. From 1990 until he became the
President of LNR, Mr. Krasnoff was involved almost entirely in Lennar's real
estate investment and management division.
MICHAEL J. MORRISSEY--Director of the Company since June 18, 1997. Mr.
Morrissey has served as the Chairman and CEO of The Firemark Group, an
investment management firm specializing in public and private insurance related
investments, for the past fifteen years. He also serves as a director of NewCap
Re, ONYX, Health Care First, FinPac and Post Acute Care.
F. FULLER O'CONNOR, JR.--Director of CGA Group since September 10, 1999.
Since August 1996, Mr. O'Connor has served as Managing Director of Prudential
Securities, where he specializes in real estate investment banking. From August
1994 to August 1996, he served in the real estate finance group at Chase
Manhattan Bank, where he specialized in commercial mortgage backed securities.
ALAN S. ROSEMAN--Director of the Company since January 27, 1999. Mr.
Roseman is currently a Director, and since 1989, General Counsel of Capital
Reinsurance Corporation, where he also serves as Executive Vice President and
Secretary.
PAUL A. RUBIN--Director of the Company since June 18, 1997. In April 1995,
Mr. Rubin became a principal of Olympus Partners, an investment limited
partnership, and he became partner of Olympus in December 1996. Prior to joining
Olympus in April 1995, Mr. Rubin worked as Vice President at Summit Partners, a
venture capital firm in Boston, which he joined in July 1990.
JAY S. SUGARMAN--Director of the Company since June 18, 1997. Mr. Sugarman
is currently President and since November 1997, Chief Executive Officer, of
Starwood Financial Trust, a finance company focused exclusively on commercial
real estate. Prior to his arrival in 1993 at Starwood Capital Group, a real
estate fund, where he has served as Senior Managing Director, Mr. Sugarman
managed a diversified, privately-owned investment fund.
ITEM 11. EXECUTIVE COMPENSATION.
EXECUTIVE COMPENSATION
The information set forth below describes the components of the total
compensation of the Chief Executive Officer and the other four most highly
compensated executive officers of the Company for services rendered during the
fiscal year ended December 31, 1999 (the "Named Executive Officers").
29
<PAGE>
<TABLE>
<CAPTION>
SUMMARY COMPENSATION TABLE
LONG TERM
ANNUAL COMPENSATION COMPENSATION
--------------------------------------------------------------------------------- ------------
(A) (B) (C) (D) (E) (F) (G)
OTHER ANNUAL ALL OTHER
NAME AND SALARY BONUS COMPENSATION LTIP PAYOUTS COMPENSATION
PRINCIPAL POSITION YEAR ($) ($) ($) ($) ($)
-------------------- ------ --------- --------- ----------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Richard A. Price ................... 1999 312,000 345,000 185,721(1) 0 0
Chief Executive Officer, 1998 300,000 75,000 144,931(2) 0 0
President and Director, CGA 1997 162,500 160,274 45,061(3) 0 0
Group, Ltd.
Geoffrey N. Kauffman ............... 1999 208,000 285,000 163,977(4) 0 0
President, 1998 187,500 100,000 144,514(5) 0 0
CGAIM 1997 94,792 175,000 189,511(6) 0 0
Kem H. Blacker ..................... 1999 234,000 230,000 5,000 0 0
Managing Director, 1998 225,000 105,000 5,000 0 0
CGAIM 1997 121,875 200,000 73,745(7) 0 0
Jean-Michel Wasterlain ............. 1999 182,000 230,000 5,000 0 0
Managing Director, 1998 175,000 175,000 5,000 0 0
CGAIM 1997 94,792 225,000 179,994(7)(8) 0 0
Michael M. Miran ................... 1999 208,000 185,000 5,000 0 0
President, 1998 200,000 145,000 5,000 0 0
CGA 1997 100,769 150,000 0 0 0
</TABLE>
- -------------------
(1) Includes housing allowance of $116,211 and payment of $52,062 to reimburse
cost for taxable expatriate allowances paid in 1997 and 1998.
(2) Includes housing allowance of $126,385.
(3) Includes housing allowance of $36,750.
(4) Includes housing allowance of $127,650.
(5) Includes housing allowance of $126,000.
(6) Includes housing allowance of $63,000 and $115,000 as buyout of Mr.
Kauffman's bonus arrangement with previous employer.
(7) Amounts include payments by the Company of $50,244 and $68,995 made to
Messrs. Wasterlain and Blacker, respectively, for services rendered prior
to June 17, 1997, pursuant to the Company's assumption of such individuals'
employment agreements with CGA Funding, L.P.
(8) Amount includes payment by the Company of $125,000 made to Mr. Wasterlain
as buyout of his bonus arrangement with previous employer.
DIRECTOR COMPENSATION AND BENEFITS
The Chairman and all but one of the Directors do not receive compensation
in connection with their service as members of the Company's Board. Richard S.
Frary, the Director elected by the Series C Preferred stockholders receives
$5,000 for each Board meeting attended. All members of the Company's Board are
reimbursed by the Company for transportation to all meetings of the Board or a
committee thereof as well as all reasonable expenses in connection with such
service.
DIRECTORS AND OFFICERS INSURANCE
Management maintains insurance to insure against liabilities asserted
against any director, officer, employee or agent of the Company arising out of
the performance of such duties.
REMUNERATION AND EMPLOYEE AGREEMENTS
LONG-TERM INCENTIVE PLANS
The Company adopted a stock warrant plan (the "Stock Warrant Plan") to
promote equity ownership of the Company by selected employees, Founders of the
Company and Sponsoring Investors of the Company and its
30
<PAGE>
Subsidiaries, to increase their proprietary interest in the success of the
Company and/or to encourage them to remain in the employ of the Company and the
Subsidiaries. On June 17, 1997, 2,342,500 warrants were authorized. Each warrant
represents a right to purchase, on or prior to the tenth anniversary of the
closing date, one share of Common Stock at an exercise price of $5.00 per share.
The warrants issued to employees vest ratably over a four-year period. All
warrants issued to the Founders and Sponsoring Investors pursuant to the Stock
Warrant Plan vested immediately. In addition, the warrants contain certain
adjustments for dilutive events and certain protections for reorganization, and
consolidations or mergers.
401(K) PLAN
The Company maintains a qualified retirement plan (401(K) plan) for all its
employees. The amounts contributed by the Company for the named executive
officers during the fiscal year ended December 31, 1999was $25,000.
MANAGEMENT CONTRACTS
As of January 1, 1997, the Company entered into an employment agreement
with Richard A. Price, as Chief Executive Officer and President of the Company,
for a term of three years and subject to annual renewal thereafter. Mr. Price's
employment agreement with the Company provides for the payment of a base salary
of $300,000 and a discretionary annual cash bonus based upon an annual incentive
plan approved by the compensation committee of the Company's Board. The
employment agreement automatically renews for a one-year period upon the end of
the term of such agreement, unless terminated by the Company or Mr. Price, and
provides that if his employment is terminated other than for "cause", he shall
receive a severance payment of not less than one-half of his then-current base
salary plus certain relocation expenses. As of January 1, 2000, Mr. Price's base
salary has been increased to $345,000.
The Company has entered into employment agreements with Geoffrey N.
Kauffman, Kem H. Blacker, Michael M. Miran and Jean-Michel Wasterlain, in each
case for a term of one year. The current employment agreements of Messrs.
Kauffman, Blacker, Miran and Wasterlain provide for the payment of base salaries
of $175,000, $200,000, $200,000 and $175,000 per annum, respectively, and
discretionary annual cash bonuses in an amount based upon an annual incentive
plan approved by the compensation committee of the Company's Board. Each such
employment agreement automatically renews for a one-year period upon the
anniversary of such agreement, unless terminated by the Company or the employee.
As of January 1, 2000, the base salaries of Messrs. Kauffman, Blacker, Miran and
Wasterlain have been increased to $285,000, $240,000, $240,000 and $240,000,
respectively. The Company currently is amending the employment contracts of
Messrs. Miran and Kauffman to reflect their new positions at CGA and CGAIM,
respectively.
Each of the employment agreements described above contains provisions
relating to the payment of base salary and discretionary bonus with respect to
the contract period, grants of warrants to purchase common stock of the Company,
the exclusivity of the employee's services, severance benefits in the event of
termination other than for "cause", noncompetition and confidentiality. In
addition, the directors and officers of the Company shall be indemnified and
secured harmless out of the assets of the Company from and against all actions,
costs and charges that they may incur or sustain by or by reason of any act done
in or about execution of their duty. The Company has also purchased insurance
for its business obligations.
BERMUDA-BASED EMPLOYEES
Richard A. Price, James R. Reinhart and Michael M. Miran are based in
Bermuda. Since none of these employees based in Bermuda are Bermudian, their
employment in Bermuda is subject to the specific permission of the appropriate
governmental authority. While the Company is not currently aware of any reasons
why the current work permits for these officers will not be renewed, there can
be no assurance that they will be renewed.
CONFLICTS
The Company's Board has adopted a resolution to the effect that future
transactions between the Company or any of its subsidiaries or affiliates, on
one hand, and Jay Shidler, The Shidler Group or any affiliates of The Shidler
Group, on the other hand, is restricted. Management believes that Mr. Shidler's
real estate investments do not pose a conflict of interest with the business of
the Company. However, to eliminate any appearance of a conflict, the Company,
its
31
<PAGE>
subsidiaries and its affiliates have established a policy of not providing
insurance guaranties or investment services to Mr. Shidler or his affiliates. In
addition, Mr. Shidler does not receive any compensation while he serves as
Chairman or otherwise as a director of the Company, except reimbursements for
travel expenses.
Except for the arrangement described below under Item 13--"Certain
Relationships and Related Transactions", the Company does not, and does not
permit any of its Restricted Subsidiaries to, directly or indirectly, conduct
any business with any of the Directors or any of their affiliates, unless such
transaction or series of transactions are (i) in the best interests of the
Company as determined by the disinterested members of the Board and (ii) entered
into on an arms-length basis.
CGA may not insure risks of stockholders or their affiliates without
bringing such proposed action to the attention of the Board. The decision
whether CGA may insure such risks will be determined by a vote by the Board.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following tables set forth certain information regarding the ownership
of the Company's securities as of December 31, 1999 of (i) each person known by
the Company to own beneficially five percent or more of the outstanding shares
of any class of the Company's voting securities; (ii) each of the Company's
directors; (iii) each of the Company's executive officers; and (iv) all
directors and executive officers of the Company as a group. None of the
directors or executive officers of the Company own beneficially any shares of
the Company's Series A Preferred Stock.
SERIES A PREFERRED STOCK (as of December 31, 1999).
<TABLE>
<CAPTION>
NUMBER OF SHARES
NAME AND ADDRESS OF BENEFICIAL OWNER BENEFICIALLY OWNED PERCENT OF CLASS
- ------------------------------------ ------------------ ----------------
<S> <C> <C>
Putnam Investments (10 funds)(1)(2)
One Post Office Square, Boston, MA 02109 ........................ 933,343 25.4
Oppenheimer (6 funds)(1)(3)
Two World Trade Center, 34th Floor, New York, NY 10048 .......... 707,082 19.2
Third Avenue Trust on behalf of the
Third Avenue Value Fund Series
767 Third Ave., New York, NY 10017 .............................. 622,233 16.9
Lennar Capital Services, Inc.
760 N.W. 107th Ave., Suite 300, Miami, FL 33172 ................. 452,530 12.3
Olympus Growth Fund II, L.P.
Metro Centre, One Station Place,
Stamford, CT 06902 .............................................. 339,401 9.2
ACE Limited(4)
30 Woodbourne Avenue, Hamilton HM 08 Bermuda .................... 339,399 9.2
Pacific Life Insurance Company (2 companies)(1)(5)
700 Newport Center Drive, Newport Beach, CA 92660 ............... 282,833 7.7
</TABLE>
- ----------------
(1) These parties are investment managers with discretion for various funds
under their control.
(2) The ten funds are: The Putnam Fiduciary Trust Company on behalf of Putman
High Yield Fixed Income Trust (DBT) and Putnam High Yield Managed Trust,
Putnam Diversified Income Trust, Putnam Diversified Income Trust II, Putnam
Funds Trust-Putnam High Yield Total Return Fund, Putnam High Yield
Advantage Fund, Putnam High Yield Trust, Putnam Managed High Yield Trust,
Putnam Variable Trust-Putnam VT Diversified Income Fund, Putnam Variable
Trust-Putnam VT High Yield Fund.
(3) The six funds are: Oppenheimer Champion Income Fund, Oppenheimer High Yield
Fund, Oppenheimer Multi-Sector Income Trust, Oppenheimer Strategic Income
Fund, Oppenheimer Variable Account Funds for the account of Oppenheimer
High Income Fund.
(4) Includes 56,567 shares held of record by Capital Reinsurance Company and
282,832 shares held of record by ACE Limited. Capital Reinsurance Company
is a wholly-owned subsidiary of ACE Limited.
(5) The two companies are: Pacific Life Insurance Company and PM Group Life
Insurance Company.
32
<PAGE>
<TABLE>
<CAPTION>
SERIES C PREFERRED STOCK (as of December 31, 1999)
NUMBER OF SHARES
BENEFICIALLY
NAME AND ADDRESS OF BENEFICIAL OWNER OWNED PERCENT OF CLASS
- ------------------------------------ ---------------- ----------------
<S> <C> <C>
Pacific Life Insurance Company
700 Newport Center Drive, Newport Beach, CA 92660 ............... 10,533,309 23.5
Third Avenue Trust
767 Third Ave., New York, NY 10017 .............................. 6,045,667 13.4
ACE Limited
30 Woodbourne Avenue, Hamilton HM 08 Bermuda .................... 5,978,543 13.3
Morgan Guaranty Trusts (2 trusts)(1)(2)
522 Fifth Avenue, New York, NY 10036 ............................ 5,636,684 12.5
Olympus Partners (2 funds)(1)(3)
Metro Centre, One Station Place, Stamford, CT 06902 ............. 5,454,882 12.1
Lennar CGA Holdings, Inc.
760 N.W. 107th Ave., Suite 400, Miami, FL 33172 ................. 5,224,666 11.6
</TABLE>
- ----------------
(1) These parties are investment managers with discretion for various funds
under their control.
(2) The two trusts are: Morgan Guaranty Trust Company of New York as Trustee of
the Multi-market Special Investment Trust Fund of Morgan Guaranty Trust
Company of New York and Morgan Guaranty Trust Company of New York as
Trustee of the Commingled Pension Trust Fund (Multi-market Special
Investment Fund II) of Morgan Guaranty Trust Company of New York.
(3) The two funds are: Olympus Growth Fund II, L.P. and Olympus Executive Fund,
L.P.
33
<PAGE>
<TABLE>
<CAPTION>
COMMON STOCK (as of December 31, 1999)
NUMBER OF SHARES
NAME OF BENEFICIAL OWNER BENEFICIALLY OWNED PERCENT OF CLASS
- ------------------------ ------------------ ----------------
<S> <C> <C>
ACE Limited(1)
30 Woodbourne Avenue, Hamilton HM 08 Bermuda .................... 6,230,944 21.1
Third Avenue Value Fund(2)
767 Third Avenue, New York, NY 10017 ............................ 3,387,395 11.5
Olympus Partners (2 funds)(3), (4)
Metro Centre, One Station Place, Stamford, CT 06902 ............. 3,366,634 11.4
Pacific Life Insurance Company(5)
700 Newport Center Drive, Newport Beach, CA 92660 ............... 3,362,492 11.4
Morgan Guaranty Trust (2 trusts)(3),(6)
522 Fifth Avenue, New York, NY 10036 ............................ 2,959,783 10.0
Lennar CGA Holdings, Inc.(7)
760 N.W. 107th Ave., Suite 400, Miami, FL 33172 ................. 2,324,673 7.9
The Equitable Life Assurance Society of the United States
1290 Avenue of the Americas, New York, NY 10104 ................. 1,909,548 6.5
DIRECTORS AND EXECUTIVE OFFICERS
David M. Barse (8) ................................................ 0 0
Robert L. Denton (9) .............................................. 165,607 *
Richard S. Frary .................................................. 0 0
Eric A. Gritzmacher (10) .......................................... 0 0
Jeffrey P. Krasnoff (11) .......................................... 0 0
Michael J. Morissey (12) .......................................... 0 0
Richard A. Price (13) ............................................. 541,706 1.8
Alan S. Roseman (14) ............................................. 0 0
Paul A. Rubin (15) ................................................ 0 0
F. Fuller O'Connor, Jr. (16) ...................................... 0 0
Jay H. Shidler (17) ............................................... 937,913 3.1
Jay S. Sugarman (18) .............................................. 0 0
Kem H. Blacker (19) ............................................... 132,231 *
Jean-Michel Wasterlain (20) ....................................... 98,730 *
Michael M. Miran (21) ............................................. 27,161 *
Geoffrey N. Kauffman (22) ......................................... 109,852 *
Directors and Executive Officers as a group ....................... 2,013,200 6.8
</TABLE>
- ------------------
* Less than one percent.
(1) Includes 3,341,073 shares of Common Stock and warrants to purchase 4,154
shares of Common Stock held of record by Capital Reinsurance Company, and
2,864,318 shares of Common Stock and warrants to purchase 20,769 shares of
Common Stock held of record by ACE Limited. Capital Reinsurance Company is
a wholly-owned subsidiary of ACE Limited.
(2) Includes 3,341,073 shares of Common Stock and warrants to purchase 45,692
shares of Common Stock. (3) These parties are investment managers with
discretion for various funds under their respective control.
(4) The two funds are: Olympus Growth Fund II, L.P. and Olympus Executive Fund,
L.P.
(5) Includes 3,341,073 shares of Common Stock and warrants to purchase 20,769
shares of Common Stock.
(6) The two trusts are: Morgan Guaranty Trust Company of New York as Trustee of
the Multi-market Special Investment Trust Fund of Morgan Guaranty Trust
Company of New York and Morgan Guaranty Trust Company of New York as
Trustee of the Commingled Pension Trust Fund (Multi-market Special
Investment Fund II) of Morgan Guaranty Trust Company of New York.
34
<PAGE>
(7) Includes 2,291,442 shares of Common Stock and warrants to purchase 33,231
shares of Common Stock.
(8) Excludes 3,341,703 shares of Common Stock, warrants to purchase 45,692
shares of Common Stock, 622,233 shares of Series A Preferred Stock and
6,045,667 shares of Series C Preferred Stock held of record by Third Avenue
Trust, for which Mr. Barse, a Director of the Company, serves as President
and Chief Operating Officer. Mr. Barse disclaims beneficial ownership of
such securities held by Third Avenue Trust.
(9) Includes 68,511 and 17,024 shares of Common Stock and warrants to purchase
64,135 and 15,937 shares of Common Stock held of record by Mr. Denton and
Mr. Denton's wife, Doreen A. Denton, respectively.
(10) Excludes 3,341,703 shares of Common Stock, warrants to purchase 20,769
shares of Common Stock, 282,833 shares of Series A Preferred Stock and
10,553,309 shares of Series C Preferred Stock held of record by Pacific
Life Insurance Company for which Mr. Gritzmacher, a Director of the
Company, serves as Vice President, and its affiliates. Mr. Gritzmacher
disclaims beneficial ownership of such securities held of record by such
entities.
(11) Excludes 2,291,442 shares of Common Stock, warrants to purchase 33,231
shares of Common Stock and 5,224,666 shares of Series C Preferred Stock
held of record by Lennar CGA Holdings Inc. and 452,530 shares of Series A
Preferred Stock held of record by Lennar Capital Services. Mr. Krasnoff
serves as President of LNR Property Corporation, an affiliate of Lennar CGA
Holdings, Inc. and of Lennar Capital Services, Inc. Mr. Krasnoff disclaims
beneficial ownership of such securities held of record by Lennar CGA
Holdings, Inc.
(12) Excludes 1,432,154 shares of Common Stock and 533,333 shares of Series C
Preferred Stock held of record by CGA Firemark Venture Fund I, LLC. Mr.
Morrissey, a Director of the Company, serves as Chairman and Chief
Executive Officer of the Firemark Group, an affiliate of CGA Firemark
Venture Fund I, LLC. Mr. Morrissey disclaims beneficial ownership of such
securities held of record by CGA Firemark Venture Fund I, LLC.
(13) Includes 148,544 shares of Common Stock and vested warrants to purchase
383,162 shares of Common Stock.
(14) Excludes 3,341,703 shares of Common Stock, warrants to purchase 4,154
shares of Common Stock and 56,567 shares of Series A Preferred Stock held
of record by Capital Reinsurance Company, and 282,832 shares of Series A
Preferred Stock, 5,978,543 shares of Series C Preferred Stock, 2,864,318
shares of Common Stock and warrants to purchase 20,769 shares of Common
Stock held of record by ACE Limited. Capital Reinsurance Company is a
wholly-owned subsidiary of ACE Limited. Mr. Roseman, a Director of the
Company, serves as General Counsel, Executive Vice President and Secretary
of Capital Reinsurance Company. Mr. Roseman disclaims beneficial ownership
of such securities held of record by Capital Reinsurance Corporation and
ACE Limited.
(15) Excludes 3,341,711 shares of Common Stock, 339,401 shares of Series A
Preferred Stock and 5,454,882 shares of Series C Preferred Stock held of
record by Olympus Growth Fund II, L.P. and Olympus Executive Fund, L.P. Mr.
Rubin, a Director of the Company, is a partner of Olympus Partners, an
affiliate of these two funds. Mr. Rubin disclaims beneficial ownership of
such securities held of record by such entities.
(16) Excludes 954,770 shares of Common Stock and 1,818,303 shares of Series C
Preferred Stock held of record by Prudential Securities Group, Inc., for
which Mr. O'Connor, a Director of the Company, serves as managing director.
Mr. O'Connor disclaims beneficial ownership of such securities held of
record by Prudential Securities Group, Inc.
(17) Includes 7,720 shares of Common Stock, warrants to purchase 7,227 shares of
Common Stock and 14,875 shares of Series C Preferred Stock held of record
by Shidler/CGA Corp., 3,741 shares of Common Stock, warrants to purchase
3,502 shares of Common Stock and 7,208 shares of Series C Preferred Stock
held of record by Shidler Equities Corp., and 529,869 shares of Common
Stock, warrants to purchase 385,854 shares of Common Stock and 316,780
shares of Series C Preferred Stock held by Shidler Equities, L.P.
(18) Excludes 954,770 shares of Common Stock and 1,818,303 shares of Series C
Preferred Stock held of record by Starwood CGA, LLC. Mr. Sugarman, a
Director of the Company, is President and Chief Executive Officer of
Starwood Financial Trust, an affiliate of Starwood CGA, LLC. Mr. Sugarman
disclaims beneficial ownership of such securities held of record by
Starwood CGA, LLC.
(19) Includes 20,000 shares of Common Stock and vested warrants to purchase
112,231 shares of Common Stock.
(20) Includes 17,000 shares of Common Stock and vested warrants to purchase
81,730 shares of Common Stock.
(21) Includes 12,000 shares of Common Stock and vested warrants to purchase
15,161 shares of Common Stock.
(22) Includes 23,289 shares of Common Stock and vested warrants to purchase
86,563 shares of Common Stock.
35
<PAGE>
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
CGA and Cap Re have entered into an agreement as of June 4, 1997 which
grants Cap Re the right to make the first offer to provide reinsurance for all
insurance contracts, including contracts of financial guaranty as reinsurance,
issued by CGA ("Right of First Offer Agreement"). Cap Re's rights under the
Right of First Offer Agreement terminate on the earlier of (a) the date that Cap
Re no longer owns 5% of the common stock of the Company or (b) a Qualified
Public Offering (as defined in the CGA Group Bye-laws) by CGA Group.
CGAIM has entered into asset management agreements with each of the
existing subsidiaries of SG Holdings, Cobalt Holdings, and each of their
respective subsidiaries. Pursuant to such agreements, CGAIM will perform
advisory, asset management and related services for such companies. CGA has
guaranteed the payment obligations of such companies under their financing
arrangements, and its expected to guarantee the payment obligations of any other
subsidiaries of SG Holdings or Cobalt Holdings which may be established in the
future in respect of their financing obligations. See Item 1--"Business--CGA
Investment Management, Inc.--St. George and Cobalt."
The Company pays the holders of Investment Units an aggregate of $600,000
per annum as a fee with respect to the $60 million in Capital Commitments. See
Item 12--"Security Ownership of Certain Beneficial Owners and Management".
As of December 31, 1999, 54% of CGA's net exposure was from assets owned by
St. George and Cobalt. Most of CGA's premiums and CGAIM's fee income is
orginated from St. George and Cobalt.
On April 14, 1999, subsidiaries of SG Holdings entered into two
securitization transactions pursuant to which they securitized approximately
$527 million prinicpal amount of securities in their investment portfolios, by
selling these securities to two special purpose trusts established to implement
this transaction. The transaction was financed by issuing three classes of
securities from these trusts. The two seniormost classes of certificates with an
aggregate face amount of $446,450,000 were acquired by or on behalf of an
institutional investor in the Company. The $80,550,000 face amount of
subordinated certificates issued by these trusts were acquired by a subsidiary
of Cobalt Holdings. CGA issued a pool policy relating to each trust's underlying
pool of securities in an amount equal to 5.9% of these securities. A subsidiary
of SG Holdings also provided Put/Call Agreements in respect of certain
securities owned by the trusts with an aggregate face amount of $50 million.
Such subsidiary's obligations under the Put/Call Agreements have been guaranteed
by CGA.
In a separate transaction that closed in December 1999, CGAIM paid $5.5
million to St. George to cover a portion of the cost incurred by St. George for
the credit support arrangements.
36
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) 1. FINANCIAL STATEMENTS AND SCHEDULES.
The Financial Statements listed in the accompanying Index to Financial
Statements and Schedules are filed as part of this Report.
2. EXHIBITS.
The exhibits listed on the accompanying Index to Exhibits are filed as part
of this report.
(B) REPORTS ON FORM 8-K.
No reports on Form 8-K were filed during the quarter ended December 31,
1999.
37
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
CGA GROUP, LTD.
-------------------------------
(Registrant)
Date: March 2, 2000 By /s/ JAMES R. REINHART
----------------------------
James R. Reinhart
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Date: March 2, 2000 By /s/ RICHARD A. PRICE
----------------------------
Richard A. Price
Chief Executive Officer,
President and Director
Date: March 2, 2000 By /s/ DAVID M. BARSE
----------------------------
David M. Barse, Director
Date: March 2, 2000 By /s/ ROBERT L. DENTON
----------------------------
Robert L. Denton,
Director
Date: March 2, 2000 By /s/ RICHARD S. FRARY
----------------------------
Richard S. Frary,
Director
Date: March 2, 2000 By /s/ ALAN S. ROSEMAN
----------------------------
Alan S. Roseman, Director
Date: March 2, 2000 By /s/ JEFFREY P. KRASNOFF
----------------------------
Jeffrey P. Krasnoff,
Director
Date: March 2, 2000 By /s/ MICHAEL J. MORRISSEY
----------------------------
Michael J. Morrissey,
Director
Date: March 2, 2000 By /s/ PAUL A. RUBIN
----------------------------
Paul A. Rubin, Director
Date: March 2, 2000 By /s/ F. FULLER O'CONNOR, JR.
----------------------------
F. Fuller O'Connor, Jr.,
Director
Date: March 2, 2000 By /s/ JAY H. SHIDLER
----------------------------
Jay H. Shidler, Director
38
<PAGE>
<TABLE>
<CAPTION>
INDEX TO FINANCIAL STATEMENTS AND SCHEDULES
PAGE
Financial Statements of CGA Group, Ltd. ----
<S> <C>
Report of Independent Auditors on Financial Statements ................................. 39
Consolidated Balance Sheets at December 31, 1999 and 1998 .............................. 40
Consolidated Statements of Operations for the years ended December 31, 1999,
and 1998 and for the nine months ended December 31, 1997 ............................. 41
Consolidated Statements of Comprehensive Income ........................................ 42
Consolidated Statements of Changes in Mezzanine Equity for the years ended
December 31, 1999 and 1998 ......................................................... 43
Consolidated Statements of Changes in Shareholders' Equity for the years ended
December 31, 1999 and 1998 ......................................................... 44
Consolidated Statements of Cash Flows for the years ended December 31, 1999, and
1998 and for the nine months ended December 31, 1997 ................................. 45
Notes to Consolidated Financial Statements ............................................. 46
</TABLE>
Financial Schedule(s)
All financial statement schedules have been omitted because they are not
applicable or are not required, or the information required to be set forth
therein is included in the Consolidated Financial Statements or Notes thereto.
39
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
TO THE SHAREHOLDERS OF CGA GROUP, LTD.
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, comprehensive income, mezzanine equity,
shareholders' equity and of cash flows present fairly, in all material respects,
the financial position of CGA Group, Ltd. and its subsidiaries at December 31,
1999 and 1998, and the results of their operations and their cash flows for the
years ended December 31, 1999 and 1998 and for the period from April 1, 1997 to
December 31, 1997, in conformity with generally accepted accounting principles
in the United States of America. These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with generally accepted auditing
standards in the United States of America which require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audits provide reasonable basis for the opinion expressed
above.
PricewaterhouseCoopers
Hamilton, Bermuda
March 20, 2000
40
<PAGE>
<TABLE>
<CAPTION>
CGA GROUP, LTD.
CONSOLIDATED BALANCE SHEETS
(EXPRESSED IN U.S. DOLLARS)
DECEMBER 31, DECEMBER 31,
1999 1998
ASSETS ------------ ------------
<S> <C> <C>
Fixed maturity securities available for sale at fair value
(amortized cost: $152,838,109 and $99,560,861) ........................... $146,337,676 $100,488,537
Other investments .......................................................... -- 30,000,000
Cash and cash equivalents .................................................. 12,775,595 2,598,140
Premiums receivable ........................................................ 2,267,991 3,228,497
Management fees receivable ................................................. 412,644 1,093,411
Accrued investment income .................................................. 4,385,663 3,679,763
Deferred acquisition costs ................................................. 4,767,372 3,202,557
Prepaid reinsurance premiums ............................................... 310,144 1,286,782
Reinsurance recoverable .................................................... 25,000,000 67,400,000
Deferred premiums receivable ............................................... 519,809 --
Other assets ............................................................... 2,842,614 2,926,246
------------ ------------
Total assets ........................................................... $199,619,508 $215,903,933
============ ============
LIABILITIES
Unearned premiums .......................................................... $ 2,946,120 $ 821,124
Reserve for losses and loss adjustment expenses ............................ 36,545,700 90,200,000
Reinsurance balances payable ............................................... 285,726 420,660
Accrued costs and expenses ................................................. 4,896,550 4,355,767
------------ ------------
Total liabilities ...................................................... 44,674,096 95,797,551
------------ ------------
MEZZANINE EQUITY Preferred stock, $.01 par value:
Series A, 10,000,000 shares authorized, 3,676,821 and 3,211,891
issued and outstanding .................................................... 87,506,212 75,291,100
Series B, 10,000,000 shares authorized, nil and 1,600,000
issued and outstanding .................................................... -- 51,317,149
------------ ------------
Total mezzanine equity ................................................. 87,506,212 126,608,249
------------ ------------
Shareholders' Equity
Series C preferred stock, $.01 par value 52,000,000 shares authorized
44,971,346 issued and outstanding ........................................ 449,713 --
Additional paid-in-capital--Series C preferred stock ....................... 49,466,298 --
Common stock, $.01 par value, 268,000,000 and 20,000,000 shares
authorized, 28,005,648 and 9,100,000 issued and outstanding .............. 280,057 91,000
Additional paid-in-capital--common stock ................................... 95,723,081 42,486,057
Accumulated other comprehensive income (loss) .............................. (6,500,433) 927,676
Accumulated deficit ........................................................ (71,979,516) (50,006,600)
------------ ------------
Total shareholders' equity (deficit) ................................... 67,439,200 (6,501,867)
------------ ------------
Total liabilities and shareholders' equity ............................. $199,619,508 $215,903,933
============ ============
The accompanying notes are an integral part of these financial statements.
</TABLE>
41
<PAGE>
<TABLE>
<CAPTION>
CGA GROUP, LTD.
CONSOLIDATED STATEMENTS OF OPERATIONS
(EXPRESSED IN U.S. DOLLARS)
NINE MONTHS
YEAR ENDED YEAR ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
REVENUES ------------ ------------ -------------
<S> <C> <C> <C>
Gross premiums written ......................... $ 16,358,269 $ 49,217,083 $ 773,571
Ceded premiums .................................. (2,037,576) (39,420,247) --
------------ ------------ -----------
Net premiums written ............................ 14,320,693 9,796,836 773,571
Change in unearned premiums ..................... (2,097,209) (550,547) (270,576)
------------ ------------ -----------
Net premiums earned ............................. 12,223,484 9,246,289 502,995
Net investment income ........................... 8,641,551 8,528,122 2,955,601
Net realized gains (losses) ..................... (60,485) 2,814,132 885,422
Management fees ................................. 8,207,746 3,353,499 --
------------ ------------ -----------
Total Revenues .............................. 29,012,296 23,942,042 4,344,018
------------ ------------ -----------
EXPENSES
Operating expenses .............................. 12,987,596 14,023,366 6,510,103
Rebate on credit support arrangements ........... 5,510,000 -- --
Policy acquisition costs ........................ 713,571 433,217 53,590
Commitment fees ................................. 600,000 600,000 323,836
Excess of loss facility ......................... 200,000 200,000 107,671
Losses and loss adjustment expenses ............. 16,650,000 22,745,000 55,000
------------ ------------ -----------
Total expenses .............................. 36,661,167 38,001,583 7,050,200
------------ ------------ -----------
Loss before cumulative effect of change in
accounting principle ............................ (7,648,871) (14,059,541) (2,706,182)
Cumulative effect of change in accounting principle -- (3,928,238) --
------------ ------------ -----------
NET LOSS .......................................... (7,648,871) (17,987,779) (2,706,182)
Pay-in-kind dividends-- preferred stock ......... (14,324,045) (19,960,852) (9,352,577)
Accretion-- preferred stock ..................... (641,999) (947,596) (274,033)
------------ ------------ -----------
NET LOSS ATTRIBUTABLE TO COMMON SHAREHOLDERS ...... $(22,614,915) $(38,896,227) $(12,332,792)
Basic and diluted loss per common share ........... $ (0.97) $ (4.27) $ (1.89)
------------ ------------ -----------
Weighted average shares outstanding ............... 23,395,778 9,100,000 6,522,313
------------ ------------ -----------
The accompanying notes are an integral part of these financial statements.
</TABLE>
42
<PAGE>
<TABLE>
<CAPTION>
CGA GROUP, LTD.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(EXPRESSED IN U.S. DOLLARS)
NINE MONTHS
YEAR ENDED YEAR ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
------------- ------------- -------------
<S> <C> <C> <C>
NET LOSS FOR THE PERIOD ............................ $ (7,648,871) $(17,987,779) $ (2,706,182)
OTHER COMPREHENSIVE INCOME
Changes in unrealized appreciation (depreciation) on
fixed maturity securities ........................ (7,428,109) (710,416) 1,636,092
------------- ------------- -------------
COMPREHENSIVE LOSS FOR THE PERIOD .................. $(15,076,980) $(18,698,195) $ (1,068,090)
============= ============= =============
</TABLE>
The accompanying notes are an integral part of these financial statements.
43
<PAGE>
CGA GROUP, LTD.
CONSOLIDATED STATEMENTS OF CHANGES IN MEZZANINE EQUITY
(EXPRESSED IN U.S. DOLLARS)
YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31,
1999 1998
MEZZANINE EQUITY ------------ -------------
SERIES A PREFERRED STOCK
Balance--beginning of period ................. $ 32,119 $ 27,965
Pay-in-kind dividends paid ................... 4,649 4,154
------------- -------------
Balance--end of period ....................... 36,768 32,119
------------- -------------
ADDITIONAL PAID-IN-CAPITAL--SERIES A PREFERRED
Balance--beginning of period ................. 75,258,981 65,504,534
Fair value of warrants ....................... -- (1,347,300)
Pay-in-kind dividends paid ................... 11,618,601 10,379,765
Accretion to redemption value ................ 457,132 514,273
Accretion on warrants ........................ 134,730 207,709
------------- -------------
Balance--end of period ....................... 87,469,444 75,258,981
------------- -------------
TOTAL SERIES A PREFERRED STOCK ............... $ 87,506,212 $ 75,291,100
============= =============
SERIES B PREFERRED STOCK
Balance--beginning of period ................. $ 16,000 $ 16,000
Pay-in-kind dividends paid ................... 6,687 --
Conversion to common stock ................... (22,687) --
------------- -------------
Balance--end of period ....................... -- 16,000
------------- -------------
ADDITIONAL PAID-IN-CAPITAL--SERIES B PREFERRED
Balance--beginning of period ................. 37,284,985 37,059,371
Pay-in-kind dividends paid ................... 16,710,271 --
Accretion to redemption value ................ 50,137 225,614
Unaccreted issuance costs .................... 2,648,879 --
Conversion to common stock ................... (56,694,272) --
------------- -------------
Balance--end of period ....................... -- 37,284,985
------------- -------------
PAY-IN-KIND DIVIDENDS ACCRUED--SERIES B
Balance--beginning of period ................. $ 14,016,164 $ 4,439,231
Dividends accrued ............................ 2,700,795 9,576,933
Dividends paid ............................... (16,716,959) --
------------- -------------
Balance--end of period ....................... $ -- $ 14,016,164
------------- -------------
TOTAL SERIES B PREFERRED STOCK ............... $ -- $ 51,317,149
============= =============
TOTAL MEZZANINE EQUITY ....................... $ 87,506,212 $ 126,608,249
============= =============
The accompanying notes are an integral part of these financial statements.
44
<PAGE>
<TABLE>
<CAPTION>
CGA GROUP, LTD.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(EXPRESSED IN U.S. DOLLARS)
YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31,
1999 1998
SHAREHOLDERS' EQUITY ------------ -------------
SERIES C CONVERTIBLE PREFERRED STOCK
<S> <C> <C>
Balance--beginning of period ............................ $ -- $ --
Stock issued (44,971,346 shares) ........................ 449,713 --
------------ ------------
Balance--end of period .................................. 449,713 --
------------ ------------
ADDITIONAL PAID-IN-CAPITAL--SERIES C PREFERRED
Balance--beginning of period ............................ -- --
Stock issued ............................................ 51,715,259 --
Employee loans .......................................... (1,045,961) --
Issuance costs .......................................... (1,203,000) --
------------ ------------
Balance--end of period .................................. 49,466,298 --
------------ ------------
TOTAL SERIES C PREFERRED STOCK .......................... 49,916,011 --
------------ ------------
COMMON STOCK
Balance--beginning of period ............................ 91,000 91,000
Stock issued (18,905,648 shares) ........................ 189,057 --
------------ ------------
Balance--end of period .................................. 280,057 91,000
------------ ------------
ADDITIONAL PAID-IN-CAPITAL--COMMON STOCK
Balance--beginning of period ............................ 42,486,057 42,086,353
Stock issued ............................................ 56,527,902 --
Fair value of warrants .................................. -- 1,347,300
Accretion of Series A Preferred Stock to redemption value (457,132) (514,273)
Accretion of Series B Preferred Stock to redemption value (50,137) (225,614)
Accretion on warrants ................................... (134,730) (207,709)
Unaccreted issuance costs (Series B) .................... (2,648,879) --
------------ ------------
Balance--end of period .................................. 95,723,081 42,486,057
------------ ------------
TOTAL COMMON STOCK ...................................... 96,003,138 42,577,057
------------ ------------
ACCUMULATED OTHER COMPREHENSIVE INCOME
Balance--beginning of period ............................ 927,676 1,638,092
Decrease during the period .............................. (7,428,109) (710,416)
------------ ------------
Balance--end of period .................................. (6,500,433) 927,676
------------ ------------
ACCUMULATED DEFICIT
Balance--beginning of period ............................ (50,006,600) (12,057,969)
Net loss ................................................ (7,648,871) (17,987,779)
Series A pay-in-kind dividends .......................... (11,623,250) (10,383,919)
Series B pay-in-kind dividends .......................... (2,700,795) (9,576,933)
------------ ------------
Balance--end of period .................................. (71,979,516) (50,006,600)
------------ ------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIT) .................... $ 67,439,200 $ (6,501,867)
============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
45
<PAGE>
<TABLE>
<CAPTION>
CGA GROUP, LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(EXPRESSED IN U.S. DOLLARS)
NINE MONTHS
YEAR ENDED YEAR ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
Cash flows from operating activities ------------- ------------- -------------
<S> <C> <C> <C>
Net loss .......................................... $ (7,648,871) $ (17,987,779) $ (2,706,182)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Amortization of investments ..................... 413,024 (176,711) 1,314,765
Depreciation expense ............................ 508,987 354,587 51,076
Realized loss (gain) on sale of investments ..... 60,485 (2,814,132) (885,422)
Realized loss on sale of fixed assets ........... -- 26,282 --
Changes in assets and liabilities:
Premiums receivable ............................. 960,506 (2,781,325) (447,172)
Management fees receivable ...................... 680,767 (1,093,411) --
Accrued investment income ....................... (705,900) 400,837 (4,080,600)
Deferred acquisition costs ...................... (1,564,815) (2,200,674) (1,001,883)
Prepaid reinsurance premiums .................... 976,638 (1,286,782) --
Deferred premiums receivable .................... (519,809) -- --
Reinsurance recoverable ......................... 42,400,000 (67,400,000) --
Other assets .................................... (234,389) (175,510) (1,159,177)
Organization costs .............................. -- 4,421,353 (4,409,373)
Unearned premiums ............................... 2,124,996 550,548 270,576
Reserve for losses and loss adjustment expenses . (53,654,300) 90,145,000 55,000
Reinsurance balances payable .................... (134,934) 420,660 --
Accrued costs and expenses ...................... 540,783 764,734 3,591,033
------------- ------------- -------------
Net cash provided by (used in) operating activities (15,796,832) 1,167,677 (9,407,359)
------------- ------------- -------------
Cash flows from investing activities
Cost of fixed maturity investments acquired ....... (88,182,991) (143,845,735) (278,498,706)
Proceeds from sale of fixed maturity investments .. 64,432,233 138,940,387 156,404,692
Purchases of fixed assets ......................... (190,966) (1,113,295) (910,140)
Note receivable ................................... -- 250,000 (250,000)
------------- ------------- -------------
Net cash used in investing activites .............. (23,941,724) (5,768,643) (123,254,154)
------------- ------------- -------------
Cash flows from financing activities
Proceeds on issuance of series C preferred stock .. 52,164,972 -- --
Employee loans .................................... (1,045,961) -- --
Issuance costs of series C preferred stock ........ (1,203,000) -- --
Redemption of Common Stock ........................ -- -- (12,000)
Proceeds on issuance of series A preferred stock .. -- -- 65,000,000
Proceeds on issuance of series B preferred stock .. -- -- 40,000,000
Proceeds on issuance of common stock .............. -- -- 45,500,000
Issuance costs of series A preferred stock ........ -- -- (4,571,319)
Issuance costs of series B preferred stock ........ -- -- (3,008,190)
Issuance costs of common stock .................... -- -- (3,048,614)
Loan repaid ....................................... -- -- (121,000)
------------- ------------- -------------
Net cash provided by financing activities ......... 49,916,011 -- 139,738,877
------------- ------------- -------------
Net increase (decrease) in cash and
cash equivalents ................................ 10,177,455 (4,600,966) 7,077,364
Cash and cash equivalents--beginning of period .... 2,598,140 7,199,106 121,742
------------- ------------- -------------
Cash and cash equivalents--end of period .......... $ 12,775,595 $ 2,598,140 $ 7,199,106
============= ============= =============
</TABLE>
The accompanying notes are an integral part of these financial statements.
46
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
1. BUSINESS AND ORGANIZATION
CGA Group, Ltd. is a holding company, which was incorporated in Bermuda on
June 21, 1996. CGA Group has two wholly owned subsidiaries. Commercial Guaranty
Assurance, Ltd. was incorporated in Bermuda on October 16, 1996. Commercial
Guaranty Assurance is licensed as a class 3 insurer under the Insurance Act 1978
(Bermuda), amendments thereto and related regulations which authorizes it to
carry on insurance business of all classes in or from within Bermuda subject to
its compliance with the solvency margin, liquidity ratio and other requirements
imposed on it by the Act. Commercial Guaranty Assurance has a "Triple-A" "claims
paying ability" rating from Duff & Phelps Credit Rating Company and has also
been rated in the highest rating category assigned by each of the two Canadian
rating agencies, Dominion Bond Ratings Service and Canadian Bond Ratings
Service. Commercial Guaranty Assurance issues financial guaranty insurance
policies, which are the functional equivalent of direct-pay letters of credit,
to insure payment of interest, principal and other amounts payable in respect of
notes, securities, and other financial obligations. CGA Investment Management,
Inc. was incorporated in the state of Delaware in July 1996 by the founders of
CGA Group and was acquired at nominal cost to CGA Group on June 9, 1997. CGA
Investment Management did not commence operations until after its acquisition by
CGA Group. CGA Investment Management is registered as an investment advisor with
the United States Securities and Exchange Commission under the Investment
Advisors Act of 1940, as amended. CGA Investment Management provides investment
management and financial advisory services primarily to specialized investment
vehicles and for the U.S. and international structured finance markets. CGA
Investment Management and its employees are based in New York City, New York.
CGA Group's first fiscal year end was March 31, 1997. The Company
subsequently changed its fiscal year end to December 31. Therefore, the
comparative periods in the consolidated financial statements are not consistent.
Operations commenced following the completion of CGA Group's private
placement offering which occurred on June 17, 1997. The initial capitalization
of CGA Group consisted of 12,000 common shares with a par value of $1.00 per
share. All 12,000 shares were redeemed on June 17, 1997 at which time CGA Group
completed its recapitalization.
As part of the recapitalization on June 17, 1997, CGA Group issued 2.6
million shares of Series A preferred stock with a par value of $.01 per share at
a price of $25 per share. The shares of Series A preferred stock are entitled to
a 13.75% quarterly compounding dividend paid in additional shares of Series A
preferred stock. The Series A preferred stockholders also received warrants,
which are transferable separately from the Series A preferred stock, which
represent the right to purchase on or prior to June 17, 2007 a total of 270,000
shares of common stock at an exercise price of $.01 per share. The warrants were
valued at $4.99 per share and were accounted for as additional paid-in-capital
to the common stock.
As part of the recapitalization on June 17, 1997, CGA Group issued 1.6
million shares of Series B preferred stock with a par value of $.01 per share
for a price of $25 per share. The shares of Series B preferred stock were
entitled to a 20% quarterly compounding dividend paid in additional shares of
Series B preferred stock. The shares of Series B preferred stock were sold to
investors as part of investment units which also included commitments to
purchase an additional $60 million of Series B preferred stock in the aggregate
upon the occurrence of certain events, in order to maintain Commercial Guaranty
Assurance's "Triple-A" rating from Duff & Phelps. Commercial Guaranty Assurance
pays a $600,000 annual fee to the holders of the investment units for their
commitments. The investment units also included an aggregate of 7,827,957 shares
of common stock out of a total of 9,100,000 million shares of common stock
issued pursuant to the recapitalization at a price of $5 per share.
The remaining 1,272,043 shares of common stock were sold to the sponsoring
investors and certain members of management who also received 847,729 warrants,
which each represent the right to purchase one share of common stock on or prior
to June 17, 2007 at an exercise price of $5 per share. The exercise price on
these warrants is subject to reduction based on the sales price of additional
common stock or equivalents. A reduction in the exercise price occurred on March
31, 1999 from $5.00 to $2.12 as a result of the Series B preferred stock
conversion and Series C
47
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
preferred stock issuance described below. An additional 1,494,771 warrants have
been authorized for issuance to certain employees, which each represent the
right to purchase one share of common stock on or prior to June 17, 2007 at an
exercise price of $5 per share.
On March 31, 1999 CGA Group sold 43,997,863 shares of Series C preferred
stock, par value $.01 per share, to existing shareholders for an aggregate sales
price of $50,996,795. Concurrent with the sale of the Series C preferred stock,
the outstanding 1,600,000 of Series B preferred stock and the 668,678 shares of
Series B preferred stock declared as pay-in-kind dividends thereon, totaling
2,268,678 shares valued at $56,716,950, were exchanged for 18,905,648 shares of
common stock based on an exchange price of $3 per share of common stock.
On April 26, 1999 CGA Group sold 973,483 shares of Series C preferred stock
to employees of CGA Group and its subsidiaries. The shares were sold for $1.20
each for an aggregate sales price of $1,168,179. CGA Group received cash
proceeds of $122,218 and the remaining $1,045,961 was financed by CGA Group by
granting employee loans up to a maximum of 90% of the purchase price of the
shares. The employee loans were granted in the form of promissory notes which
bear interest at a rate of 7% per annum and are repayable in three equal
installments on April 26, 2000, April 26, 2001 and April 26, 2002.
The primary clients of Commercial Guaranty Assurance and CGA Investment
Management are St. George and Cobalt. As of December 31, 1999 approximately 54%
of Commercial Guaranty Assurance's net exposure was from assets owned by St.
George and Cobalt. Most of Commercial Guaranty Assurance's premiums and CGA
Investment Management's fee income is originated from St. George and Cobalt.
2. SIGNIFICANT ACCOUNTING POLICIES
The consolidated financial statements have been prepared on the basis of
accounting principles generally accepted in the United States of America (GAAP)
and include the accounts of CGA Group, Commercial Guaranty Assurance, and CGA
Investment Management. All significant intercompany accounts and transactions
have been eliminated in consolidation. The preparation of financial statements
in conformity with GAAP requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the date of the consolidated financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. Significant
accounting policies under GAAP are as follows:
a) Premiums
Insurance contracts are classified as long-duration contracts for
accounting purposes as the contracts are expected to remain in force for an
extended period. The contracts generally are not subject to unilateral changes
in their provisions and provide insurance protection for extended periods.
Premium rates generally are level throughout the period of coverage. Premiums
are recognized as written upon inception of multi-year policies. Up-front
premiums are earned pro-rata over the period of risk.
Installment premiums are earned over each installment period.
b) Management fees
Fees earned by CGA Investment Management on managed assets are generally
paid quarterly on the outstanding par balance. Fees on assets managed as of
December 21, 1999 range from 5 to 25 basis points per annum.
c) Deferred premiums receivable
The collection of premiums owed to Commercial Guaranty Assurance related to
certain insured securities is deferred. Certain securities that were purchased
by clients at significant discounts from their par values generate cash flows
that are insufficient to cover the related insurance premiums. The premiums are
earned over the period of risk and are recorded at the present value of premiums
that will be received upon the maturity of such securities.
48
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
d) Deferred acquisition costs
Deferred acquisition costs are expenses that vary with and are primarily
related to the production of business. These costs include compensation,
underwriting, certain rating agency fees, legal and other expenses. Deferred
acquisition costs are amortized on a straight-line basis over the estimated term
of the related insured risks. Commercial Guaranty Assurance evaluates the
recoverability of deferred acquisition costs whenever changes in circumstances
warrant. If it is determined that an impairment exists, the excess of the
unamortized balance over deferred acquisition costs will be charged to earnings.
e) Reinsurance
In the ordinary course of business, Commercial Guaranty Assurance cedes
exposures under various reinsurance contracts designed to limit losses from
certain risks and to protect capital and surplus. The reinsurance of risk does
not relieve Commercial Guaranty Assurance of its original liability to its
policyholders. In the event that a reinsurer was unable to meet its obligations
under the existing reinsurance contracts, Commercial Guaranty Assurance would be
liable for such defaulted amounts.
Prepaid reinsurance premiums represent the portion of premiums ceded to
reinsurers applicable to the unexpired terms of the reinsurance contracts in
force.
f) Reserve for losses and loss adjustment expenses
A case basis reserve for unpaid losses and loss adjustment expenses may be
recorded at the present value of the estimated loss when, in management's
opinion, the likelihood of a future loss is probable and determinable at the
balance sheet date. A general reserve is calculated by applying a loss factor to
the total net par amount outstanding of Commercial Guaranty Assurance's insured
obligations over the expected term of such insured obligations.
Management believes that the current level of the reserve is adequate to
cover the ultimate net cost of claims. The reserve is necessarily an estimate
and there can be no assurance that the ultimate liability will not differ from
such estimates. Commercial Guaranty Assurance will monitor the provision on an
ongoing basis and may periodically adjust the reserve based on actual loss
experience, the future mix of business and economic conditions.
The reserve for losses and loss adjustment expenses is reflected on the
balance sheet gross of any losses recoverable from reinsurers.
g) Investments
In accordance with the provisions of Statement of Financial Accounting
Standards No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," investments in debt securities are designated as available-for-sale
and are recorded at fair value, being quoted market value. Any resulting
unrealized gains or losses are reflected as a separate component of
shareholder's equity as accumulated other comprehensive income and as a separate
component of the statement of comprehensive income. Short-term investments,
which are those investments with a maturity of less than one year at time of
purchase, are carried at cost, which approximates fair value. Other investments
are carried at cost, which approximates fair value.
Bond discounts and premiums are accreted or amortized on the effective
interest method over the term of the related securities. Realized gains or
losses on sale of investments are determined on the basis of specific
identification. Net investment income is recognized when earned and includes
interest and amortization of market premiums and discounts and is net of
investment management and custody fees.
h) Statement of cash flows
For purposes of the statements of cash flows, cash equivalents are composed
of short term deposits with original maturities which are less than three
months.
49
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
i) Loss per common share
CGA Group computes loss per share in accordance with Statement of Financial
Accounting Standards No. 128, "Earnings Per Share." Loss per common share is
calculated using the loss for the period adjusted for preference dividends,
accretion of preference stock to redemption value, and accretion on warrants
divided by the weighted average number of common shares outstanding and, if
dilutive, shares issuable under outstanding warrants.
j) Start-up activities
The Accounting Standards Executive Committee issued Statement of Position
98-5, "Reporting on Costs of Start-Up Activities", effective for fiscal years
beginning after December 15, 1998. This statement requires CGA Group to expense
organization costs as incurred. On July 1, 1998, CGA Group expensed the
remaining unamortized organization costs which is reflected in the financial
statements as a change in accounting principle.
3. INVESTMENTS
a) Fixed maturities
The fair values, gross unrealized gains and losses and amortized cost of
fixed maturities at December 31, 1999 and 1998 are as follows:
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
1999 COST GAINS LOSSES FAIR VALUE
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Non-U.S. Government $ 33,995,209 -- $ (1,509,028) $ 32,486,181
Corporate 116,796,572 -- (4,991,405) 111,805,167
Short-term 2,046,328 -- -- 2,046,328
Fixed Maturities $152,838,109 -- $ (6,500,433) $146,337,676
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
1998 COST GAINS LOSSES FAIR VALUE
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Non-U.S. Government.. $ 12,024,005 $ 77,789 $ (82,384) $ 12,019,410
Corporate ........... 85,488,892 1,316,526 (384,255) 86,421,163
Short-term .......... 2,047,964 -- -- 2,047,964
------------ ------------ ------------ ------------
Fixed Maturities .... $ 99,560,861 $ 1,394,315 $ (466,639) $100,488,537
============ ============ ============ ============
</TABLE>
The change in unrealized appreciation (depreciation) on fixed maturity
securities was $(7,428,109) in 1999 and $(710,416) in 1998.
Fixed maturities at December 31, 1999 and 1998, by contractual maturity,
are shown below. Expected maturities could differ from contractual maturities
because borrowers may have the right to call or prepay obligations, with or
without call or prepayment penalties.
<TABLE>
<CAPTION>
1999 1999 1998 1998
MATURITY PERIOD FAIR VALUE AMORTIZED COST FAIR VALUE AMORTIZED COST
- --------------- ------------ -------------- ------------ --------------
<S> <C> <C> <C> <C>
Less than 1 year ........... $ 2,046,328 $ 2,046,328 $ 2,047,964 $ 2,047,964
1-5 years .................. 139,855,448 146,089,396 91,006,563 90,195,974
5-10 years ................. 4,435,900 4,702,385 7,434,010 7,316,923
------------ -------------- ------------ --------------
Total fixed maturities.. $146,337,676 $152,838,109 $100,488,537 $ 99,560,861
============ ============== ============ ==============
</TABLE>
50
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
Realized gains for the year ended December 31, 1999 were $244,586; for the
year ended December 31, 1998 were $3,436,817 and for the nine months ended
December 31, 1997 were $1,895,725. Realized losses for the year ended December
31, 1999 were $305,071; for the year ended December 31, 1998 were $622,685 and
for the nine months ended December 31, 1997 were $1,010,303. Investments are
made predominately in U.S. dollar denominated foreign corporate and government
securities. The rating level for an investment cannot be below "Double-A minus".
The portfolio consists of "Double-A" rated investments on average. The portfolio
manager operates under guidelines to maintain a weighted average duration of two
to five years.
(b) Net investment income
Net investment income for the years ended December 31, 1999 and 1998 and
the nine months ended December 31, 1997 was derived from the following sources:
1999 1998 1997
---------- ---------- ----------
Fixed maturities ................ $7,989,790 $8,400,894 $2,849,428
Other ........................... 796,702 501,677 331,297
---------- ---------- ----------
Gross investment income ......... 8,786,492 8,902,571 3,180,725
Investment expense .............. (144,941) (374,449) (225,124)
---------- ---------- ----------
Net investment income ........... $8,641,551 $8,528,122 $2,955,601
========== ========== ==========
4. OTHER INVESTMENTS
Other investments at December 31, 1998 are comprised of a $30 million note
issued by St. George Holdings which is the parent company of certain clients of
CGA Investment Management. The note was carried at its original cost which
approximated fair value. The note bore interest of 3 month LIBOR plus 1% per
annum payable quarterly and had a five year term with no prepayment penalty. The
3 month LIBOR rate at December 31, 1998 was 5.06%. The note was purchased to
provide St. George Holdings and its subsidiaries with cash to manage their
liquidity and to pay for additional financial guaranty insurance.
The note was repaid in full in 1999.
5. DETAIL OF OTHER ASSETS
1999 1998
Other Assets ---------- ----------
Other prepaid expenses .................. $ 668,627 $ 222,752
Prepaid commitment fees ................. 276,164 276,164
Fixed assets, net of depreciation ....... 1,285,579 1,603,600
Deposits ................................ 301,080 280,000
Accounts receivable ..................... 47,405 368,730
Other ................................... 263,759 175,000
---------- ----------
Total other assets .................. $2,842,614 $2,926,246
========== ==========
6. LOSSES AND LOSS EXPENSES
The reserve for losses and loss adjustment expenses is established in an
amount equal to the Commercial Guaranty Assurance's estimate of unidentified or
case basis reserves and unallocated losses including costs of settlement, on the
obligations it has insured. Case basis reserves are established when specific
insured issues are identified as currently or likely to be in default. Such a
reserve is based on the present value of the expected loss and loss adjustment
expenses. The general reserve for losses and loss adjustment expenses is
calculated by applying a loss factor, determined based on an independent rating
agency study of bond defaults, to net par amount outstanding of the insured
obligations.
51
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
The reserve for losses and loss adjustment expenses is comprised of the
following at December 31, 1999 and 1998:
1999 1998
----------- -----------
Case basis reserve ..................... $33,200,000 $88,200,000
General reserve ........................ 3,345,700 2,000,000
----------- -----------
Total reserve for losses and loss
adjustment expenses .............. $36,545,700 $90,200,000
=========== ===========
The activity in the reserve for losses and loss adjustment expenses is as
follows:
1999 1998
------------ ------------
Balance at beginning of year ............... $ 90,200,000 $ 55,000
Less reinsurance recoverables .......... (67,400,000) --
------------ ------------
Net balance at beginning of year ........... 22,800,000 55,000
Net losses and loss expenses incurred in
respect of losses occurring in:
Current year ........................... 1,350,000 22,745,000
Prior years ............................ 15,300,000 --
------------ ------------
Total .................................. 16,650,000 22,745,000
Net losses and loss expenses paid in respect
of losses occuring in prior years ........ (27,904,300) --
------------ ------------
Balance at end of year ................. 11,545,700 22,800,000
Reinsurance recoverable .................... 25,000,000 67,400,000
------------ ------------
Reserve for losses and loss adjustment
expenses, gross of reinsurance recoverable
Balance at end of year ................. $ 36,545,700 $ 90,200,000
============ ============
In October, 1998 the credit ratings on asset-backed securities which
clients of Commercial Guaranty Assurance had purchased, and that were originated
and serviced by Commercial Financial Services Inc., a credit-card debt
collection company, were withdrawn by the three credit rating companies that
rated the most recently issued Commercial Financial Services securities. The
withdrawal of the ratings was in response to allegations of accounting
irregularities at Commercial Financial Services. The rating agencies, investors
and insurers commenced investigations into the allegations. On December 11,
1998, Commercial Financial Services filed a petition for relief under Chapter 11
of the United States Bankruptcy Code with the Bankruptcy Court for the Northern
District of Oklahoma (the "Bankruptcy Court"). The Bankruptcy Court approved
Commercial Financial Services' rejection of the servicing contracts and other
agreements relating to Commercial Financial Services' servicing of the
receivables underlying the Commercial Financial Services securities, effective
as of June 23, 1999. As a result, servicing in respect of the Commercial
Financial Services securities was transferred to the trustees of the respective
trusts which issued such securities (Bankers Trust Company, in the case of the
Commercial Financial Services securities guaranteed by Commercial Guaranty
Assurance), as backup servicers, and their designated sub-servicers.
Clients of Commercial Guaranty Assurance had previously purchased
approximately $212 million face amount of Commercial Financial Services
securities, which exposure was guaranteed by Commercial Guaranty Assurance.
Commercial Guaranty Assurance had obtained reinsurance for approximately $162
million face amount of such exposure. In December 1998, Commercial Guaranty
Assurance established a $20.8 million case basis reserve in respect of its
exposure on Commercial Financial Services securities, representing management's
estimate of probable losses on such exposure. In June, 1999 Commercial Guaranty
Assurance added an additional $7.1 million to its case
52
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
basis reserve for Commercial Financial Services. In June and September 1999,
Commercial Guaranty Assurance made claim payments on its guarantees in respect
of Commercial Financial Services securities in the aggregate amount of
approximately $117.9 million, of which $90 million consisted of payments from
its reinsurer and $27.9 million consisted of Commercial Guaranty Assurance's own
funds, paid out of such case basis reserve. In connection with this claim
payment, Commercial Guaranty Assurance and its reinsurer received approximately
$119.1 million par value of Commercial Financial Services bonds. The bonds have
no readily determinable market value and have not been recorded on the books of
Commercial Guaranty Assurance. Until Commercial Guaranty Assurance's exposure on
Commercial Financial Services securities reaches zero, any future interest
payments received on these securities are intended to be used to purchase
additional Commercial Financial Services securities from Commercial Guaranty
Assurance's clients, thereby further reducing Commercial Guaranty Assurance's
exposure. In December, 1999 Commercial Guaranty Assurance added an additional
$8.2 million to its case basis reserve for Commercial Financial Services
comprised of $7.7 million of expected losses and $0.5 million of expected loss
adjustment expenses.
As a result of these claim payments, additional reserves and interim
principal repayments on the Commercial Financial Services securities, Commercial
Guaranty Assurance's gross remaining exposure in respect of Commercial Financial
Services securities has been reduced to approximately $76.0 million as of
December 31, 1999. Of this exposure, approximately $58.1 million is covered by
reinsurance and $7.7 million is included in case basis reserves, leaving
Commercial Guaranty Assurance with a remaining net exposure of approximately
$9.6 million at December 31, 1999.
At December 31, 1999 aggregate incurred losses for Commercial Financial
Services securities total $36.1 million of which $27.9 million has been paid. On
March 15, 2000 Commercial Guaranty Assurance made a claim payment of $28.5
million of which $21.8 million consisted of payments from its reinsurer and $6.7
million consisted of Commercial Guaranty Assurance's own funds, paid out of the
case basis reserve. Giving effect to the claim payment on March 15, 2000
Commercial Guaranty Assurance's gross remaining exposure to Commercial Financial
Services was reduced to $45.0 million of which $34.4 million is covered by
reinsurance and $1.0 million is included in case basis reserves.
Commercial Guaranty Assurance, CGA Investment Management and various other
plaintiffs have commenced legal proceedings against Commercial Financial
Services, William Bartmann (the founder and principal shareholder of Commercial
Financial Services), other former members of Commercial Financial Services'
senior management, the placement agent for the Commercial Financial Services
securities insured by Commercial Guaranty Assurance and Commercial Financial
Services' auditors, alleging various counts of federal and state securities law
fraud and common law fraud. It is too early to predict what, if anything,
Commercial Guaranty Assurance ultimately may recover in this legal proceeding.
7. REINSURANCE
In the ordinary course of business, Commercial Guaranty Assurance cedes
exposures under various reinsurance contracts primarily designed to minimize
losses from large risks and to protect capital and surplus. The reinsurance of
risk does not relieve the ceding insurer of its original liability to its
policyholders. In the event that all or any of the reinsurers are unable to meet
their obligations to Commercial Guaranty Assurance under the existing
reinsurance agreements, Commercial Guaranty Assurance would be liable for such
defaulted amounts. Commercial Guaranty Assurance also has a $20 million excess
of loss reinsurance facility. As of December 31, 1999 prepaid reinsurance of
approximately $0.3 million was associated with a single reinsurer. As stated
above, Commercial Guaranty Assurance has reinsured a portion of its exposure to
asset-backed securities originated and serviced by Commercial Financial
Services.
In October, 1998 Commercial Guaranty Assurance provided credit support on
approximately $382 million of securities within two insured portfolios, which
was further supported by a "Triple-A" rated reinsurer, using
53
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
documentation that would permit the insured to proceed directly against the
reinsurer. The effect of the described credit support arrangements was to
substantially increase the market value of the subject securities. Commercial
Guaranty Assurance received a premium of $38.95 million from its clients in
connection with these credit support arrangements, and ceded $38.7 million to
the aforementioned reinsurer. On April 14, 1999, these credit support
arrangements were cancelled and approximately $29.5 million of premium was
refunded to the clients.
In a separate transaction that closed in December 1999, CGAIM paid $5.5
million to St. George to cover a portion of the cost incurred by St. George for
the credit support arrangements.
8. MEZZANINE EQUITY
1999 1998
---------- ----------
Series A : 3,676,821 and 3,211,891 shares
issued and outstanding ................. $ 36,768 $ 32,119
Additional paid in capital ............... 87,469,444 75,258,981
---------- ----------
Total series A preferred stock ........... 87,506,212 75,291,100
Series B: nil and 1,600,000 shares
issued and outstanding ................. -- 16,000
Additional paid in capital ............... -- 37,284,985
---------- ----------
Total series B preferred stock ....... -- 37,300,985
========== ==========
CGA Group's Series A preferred stock is subject to mandatory redemption
including all accrued and unpaid dividends thereon, on June 17, 2007. The Series
A preferred stock is also redeemable at the election of CGA Group at any time.
The dividends on the Series A preferred stock are declared quarterly by the
Board of Directors and paid in additional shares of Series A preferred stock.
The Series A and Series B preferred stock were each recorded at fair value.
The difference between fair value and the redemption value (excluding
pay-in-kind dividends) is being accreted over the mandatory redemption period by
a charge to shareholders' equity.
The Series A preferred stock and the Series B preferred stock are voting
securities, and are entitled to 7 votes per share and 5 votes per share,
respectively, on all matters presented to the security holders of CGA Group for
their approval. The Series A preferred stock ranks senior in liquidation
preference to all other classes of capital stock of CGA Group, followed by the
Series C preferred stock, the Series B preferred stock and the common stock of
CGA Group, respectively.
On March 31, 1999 all issued and outstanding shares of Series B preferred
stock were converted into shares of common stock, at a conversion ratio of
11.816 shares of common stock per share of Series B preferred stock. The
conversion ratio was based on an assumed value of $3.00 per share of common
stock. As a result of the conversion, 18,905,648 new shares of common stock were
issued. No shares of Series B preferred stock are currently issued and
outstanding. If the $60 million of Series B preferred commitments are called,
new shares will be issued with pay-in-kind dividends yielding 7%.
9. SHAREHOLDERS' EQUITY
a) COMMON STOCK
The number of common shares outstanding during the years ended December 31,
1999 and 1998 was as follows:
1999 1998
---------- ---------
Issued and outstanding .................. 28,005,648 9,100,000
Weighted average number of shares ....... 23,395,778 9,100,000
54
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
The common stock of CGA Group carries two votes per share on all matters
presented to the security holders of CGA Group for their approval.
B) SERIES C PREFERRED STOCK
The Series C preferred stock are voting securities and are entitled to 1
vote per share on all matters presented to the security holders of CGA Group for
their approval. The book values of shares issued and outstanding as of December
31, 1999 and 1998 were as follows:
1999 1998
44,971,346 and nil shares issued and ----------- -------
outstanding ........................ $ 449,713 $ --
Additional paid-in-capital ........... 49,466,298 --
Total Series C preferred stock ....... $49,916,011 $ --
The shares of Series C preferred stock which may be converted into shares
of common stock on a one-for-one basis at the holder's option at any time, are
mandatorily convertible into shares of common stock upon the occurrence of
certain events at the conversion rate specified in CGA Group's Bye-Laws, and are
subject to redemption by CGA Group for cash upon the occurrence of certain
events at the redemption rate specified in CGA Group's Bye-laws.
The additional paid in capital has been reduced by approximately $1.2
million in issuance costs and $1.0 million in employee loans. CGA Group holds
promissory notes from certain employees in connection with the sale of Series C
preferred stock that occurred on April 26, 1999. The notes are repayable in
three equal installments and accrue interest at an annual rate of 7%. The
employee loan balance represents the original principal loan balance.
10. LOSS PER COMMON SHARE
The following table sets forth the computation of basic and diluted loss
per share for the years endedDecember 31, 1999 and 1998 and the nine months
ended December 31, 1997.
<TABLE>
<CAPTION>
1999 1998 1997
Basic Loss Per Share ------------ ------------ ------------
Numerator:
<S> <C> <C> <C>
Net loss ..................................... $ (7,648,871) $(17,987,779) $ (2,706,182)
Series A--Pay-in-kind dividends paid ......... (11,623,250) (10,383,919) (4,913,346)
Series A--Accretion to redemption value ...... (457,132) (514,273) (190,472)
Series A--Accretion on warrants .............. (134,730) (207,709) --
Series B--Pay-in-kind dividends .............. (2,700,795) (9,576,933) (4,439,231)
Series B--Accretion to redemption value ...... (50,137) (225,614) (83,561)
------------ ------------ ------------
Net loss attributable to common shareholders ... $(22,614,915) $(38,896,227) $(12,332,792)
------------ ------------ ------------
Denominator:
Weighted average shares outstanding .......... 23,395,778 9,100,000 6,522,313
------------ ------------ ------------
Basic loss per share ........................... $ (0.97) $ (4.27) $ (1.89)
============ ============ ============
Diluted loss per share
Numerator ...................................... $(22,614,915) $(38,896,227) $(12,332,792)
------------ ------------ ------------
Denominator .................................... 23,395,778 9,100,000 6,522,313
------------ ------------ ------------
Diluted loss per share ......................... $ (0.97) $ (4.27) $ (1.89)
============ ============ ============
Loss per share on cumulative effect of change in
accounting principle ......................... $ -- $ (0.43) $ --
============ ============ ============
</TABLE>
55
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
CGA Group has outstanding warrants and Series C preferred stock which were
not included in the computation of the diluted loss per share as the effect of
these warrants and Series C preferred stock is antidilutive for the periods
presented above.
On June 17, 1997 CGA Group issued warrants to purchase 270,000 shares of
common stock in connection with the issuance of 2.6 million shares of Series A
preferred stock. All of the warrants are outstanding as of December 31, 1999.
These warrants are exercisable at any time on or prior to June 17, 2007 at an
exercise price of $.01 per share of common stock.
CGA Group also issued 847,729 warrants to certain investors and members of
management on June 17, 1997. Each such warrant represents the right to purchase
one share of common stock on or prior to June 17, 2007. The exercise price of
the warrants was lowered from $5 per share to $2.12 per share in connection with
the Series B preferred stock conversion into common stock and the issuance of
the Series C preferred stock. All such warrants were outstanding as of December
31, 1999. In addition, CGA Group has authorized 1,494,771 warrants for issuance
to certain employees. These warrants each represent the right to purchase one
share of common stock on or prior to June 17, 2007 at an exercise price of $5
per share. The employee warrants vest ratably over a four-year period and expire
if not exercised within thirty days of the employee's termination of employment.
As of December 31, 1999, there were 1,315,984 warrants outstanding of which
657,992 warrants were exercisable. As of December 31, 1998 there were 1,348,129
warrants outstanding of which 337,032 warrants were exercisable. The total
number of common share equivalents not included in the calculation of diluted
loss per share was 46,747,067 because they were anti-dilutive.
11. INSURANCE IN FORCE
The following table shows the net par outstanding of insured obligations,
net of reinsurance, at December 31, by asset type:
1999 1998
ASSET TYPE (IN 000'S) (IN 000'S)
---------- ---------- ----------
Auto ............................................ $ 26,158 $ 3,158
Commercial loan and bond obligations ............ 327,335 189,375
Commercial mortgage-backed securities ........... 614,217 185,754
Corporate asset-backed securities ............... 147,490 90,000
Credit card receivables ......................... 165,997 185,732
Equipment ....................................... 17,111 27,129
Future flows .................................... 55,463 39,108
Home equity loans ............................... 374,280 236,381
Real estate investment trust debt ............... 256,774 381,777
Real estate investment trust preferred stock .... 70,000 70,000
Sovereign debt .................................. 90,000 120,000
Other consumer ABS .............................. 89,640 31,250
---------- ----------
Total ....................................... $2,234,465 $1,559,664
========== ==========
The following table presents the credit ratings of the above assets, based
on net par outstanding at December 31:
1999 1998
---- ----
"AAA" ........................................... 4% 4%
"AA" ............................................ 2% 3%
"A" ............................................. 25% 12%
"BBB" ........................................... 58% 67%
"BB" ............................................ 9% 11%
Not rated ....................................... 2% 3%
--- ---
Total ........................................ 100% 100%
=== ===
North America comprises 93% of the insured obligations geographic exposure.
Other countries include Turkey, Korea, Greece, Poland, Portugal and Venezuela,
each of which comprises approximately 2% or less of the geographic exposure.
12. SEGMENT REPORTING
CGA Group has two reportable segments: Commercial Guaranty Assurance and
CGA Investment Management (see description of each segment in Note 1). CGA
Group's management has identified the operating segments on the
56
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
basis that they are separate entities with each entity carrying on a different
type of business. Commercial Guaranty Assurance provides financial guaranty
insurance and CGA Investment Management provides investment management services.
The accounting policies of each of the segments are the same as those described
in the summary of significant accounting policies.
The table below presents financial information for each of the operating
segments.
<TABLE>
<CAPTION>
As of and for the year ended December 31, 1999.
CGA CGAIM OTHER (A) TOTAL
REVENUES ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net premiums earned ............... $ 12,223,484 $ -- $ -- $ 12,223,484
Net investment income ............. 8,030,130 61,479 549,942 8,641,551
Net realized losses ............... (60,485) -- -- (60,485)
Management fees ................... -- 8,207,746 -- 8,207,746
Intersegment revenue .............. -- 349,546 257,589 607,135
------------- ------------- ------------- -------------
TOTAL REVENUES ................ 20,193,129 8,618,771 807,531 29,619,431
------------- ------------- ------------- -------------
EXPENSE ITEMS
Operating expenses ................ 1,279,553 9,940,212 1,767,831 12,987,596
Rebate on credit support
arrangements ..................... -- 5,510,000 -- 5,510,000
Acquisition costs ................. 713,571 -- -- 713,571
Commitment fees ................... 600,000 -- -- 600,000
Excess of loss facility ........... 200,000 -- -- 200,000
Losses and loss adjustment expenses 16,650,000 -- -- 16,650,000
Intersegment expenses ............. 349,546 257,589 -- 607,135
TOTAL EXPENSES ................ 19,792,670 15,707,801 1,767,831 37,268,302
------------- ------------- ------------- -------------
Net income (loss) ................. 400,459 (7,089,030) (960,301) (7,648,871)
------------- ------------- ------------- -------------
ASSETS
TOTAL ASSETS .................. $ 190,644,086 $ 3,005,640 $ 17,302,581 $ 210,952,307
============= ============= ============= =============
</TABLE>
(a) The "other" segment is comprised of CGA Group, Ltd., the holding company,
which does not meet any of the quantitative thresholds for determining a
reportable segment.
<TABLE>
<CAPTION>
As of and for the year ended December 31, 1998.
CGA CGAIM OTHER TOTAL
REVENUES ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Net premiums earned ..................... $ 9,246,289 $ -- $ -- $ 9,246,289
Net investment income ................... 8,387,513 64,934 75,675 8,528,122
Net realized gains ...................... 2,814,132 -- -- 2,814,132
Management fees ......................... -- 3,353,499 -- 3,353,499
Intersegment revenue .................... -- 122,301 -- 122,301
------------ ------------ ------------ ------------
TOTAL REVENUES ...................... 20,447,934 3,540,734 75,675 24,064,343
------------ ------------ ------------ ------------
EXPENSE ITEMS
Operating expenses ...................... 1,558,407 10,711,550 1,753,409 14,023,366
Acquisition Costs ....................... 433,217 -- -- 433,217
Commitment Fees ......................... 600,000 -- -- 600,000
Excess of loss facility ................. 200,000 -- -- 200,000
Losses and loss adjustment expenses ..... 22,745,000 -- -- 22,745,000
Intersegment expenses ................... 122,301 -- -- 122,301
------------ ------------ ------------ ------------
TOTAL EXPENSES ...................... 25,658,925 10,711,550 1,753,409 38,123,884
------------ ------------ ------------ ------------
Net loss ............................ (5,210,991) (7,170,816) (1,677,734) (14,059,541)
------------ ------------ ------------ ------------
Cumulative effect of change in accounting
policy ................................ 1,127,353 480,207 2,320,678 3,928,238
ASSETS
TOTAL ASSETS ........................ $214,823,536 $ 3,752,936 $ 7,860,816 $226,437,288
============ ============ ============ ============
</TABLE>
57
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
<TABLE>
<CAPTION>
As of and for the nine months ended December 31, 1997.
CGA CGAIM OTHER TOTAL
REVENUES ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Net premiums earned ............... $ 502,995 $ -- $ -- $ 502,995
Net investment income ............. 2,955,601 -- -- 2,955,601
Net realized gains ................ 885,422 -- -- 885,422
------------ ------------ ------------ ------------
TOTAL REVENUES ................ 4,344,018 -- -- 4,344,018
------------ ------------ ------------ ------------
EXPENSE ITEMS
Operating expenses ................ 597,883 5,313,368 598,852 6,510,103
Acquisition Costs ................. 53,590 -- -- 53,590
Commitment Fees ................... 323,836 -- -- 323,836
Excess of loss facility ........... 107,671 -- -- 107,671
Losses and loss adjustment expenses 55,000 -- -- 55,000
------------ ------------ ------------ ------------
TOTAL EXPENSES ................ 1,137,980 5,313,368 598,852 7,050,200
------------ ------------ ------------ ------------
Net income (loss) ................. 3,206,038 (5,313,368) (598,852) (2,706,182)
ASSETS
TOTAL ASSETS .................. $131,607,950 $ 3,577,782 $ 11,085,250 $146,270,982
============ ============ ============ ============
</TABLE>
The following are reconciliations of reportable segment revenues, expenses
and assets to CGA Group's consolidated totals in the financial statements.
Depreciation expense is included in operating expenses.
<TABLE>
<CAPTION>
1999 1998 1997
REVENUES ------------- ------------- -------------
<S> <C> <C> <C>
Total revenues for reportable segments ....... $ 29,619,431 $ 24,064,343 $ 4,344,018
Elimination of intersegment revenues ......... (607,135) (122,301) --
------------- ------------- -------------
Total consolidated revenues .............. $ 29,012,296 $ 23,942,042 $ 4,344,018
------------- ------------- -------------
EXPENSES
Total expenses for reportable segments ....... $ 37,268,302 $ 38,123,884 $ 7,050,200
Elimination of intersegment operating expenses (607,135) (122,301) --
------------- ------------- -------------
Total consolidated expenses .............. $ 36,661,167 $ 38,001,583 $ 7,050,200
------------- ------------- -------------
ASSETS
Total assets for reportable segments ......... $ 210,952,307 $ 226,437,288 $ 146,270,982
Intercompany loans ........................... (8,700,421) (7,551,429) (3,549,796)
Other intercompany balances .................. (2,632,378) (2,981,926) --
------------- ------------- -------------
Total consolidated assets .................... $ 199,619,508 $ 215,903,933 $ 142,721,186
------------- ------------- -------------
</TABLE>
13. CONTINGENCIES AND COMMITMENTS
Lease commitments
CGA Group rents office space in Hamilton, Bermuda under an operating lease
which expires in July 2000, but is expected to be renewed in April 2000. CGA
Investment Management rents office space in New York, under an operating lease
which expires in 2003 with one option for a renewal period of five years. Total
rent expense was approximately $437,769, $355,000 and $300,000 in 1999, 1998 and
1997 respectively. Future minimum rental commitments under the leases, are
expected to be approximately $500,000 per annum.
14. TAXATION
CGA Group and Commercial Guaranty Assurance, which are domiciled in
Bermuda, have received from the Minister of Finance of Bermuda an assurance
under the Exempted Undertakings Tax Protection Act, 1966, as amended, of
Bermuda, that generally protects them from incurring taxation by Bermuda tax
authorities until March
58
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
28, 2016. Since CGA Group and Commercial Guaranty Assurance are not engaged in a
trade or business in the U.S. there should be no U.S. income taxes due, however,
CGA Group and Commercial Guaranty Assurance do file protective U.S. income tax
returns. CGA Investment Management will be subject to U.S. taxation at regular
corporate tax rates, but has tax losses carried forward of approximately $7.1
million and $7.7 million as at December 31, 1999 and 1998 respectively, for
which no benefit has been recorded in the financial statements. These tax loss
carry-forwards expire in the year 2014 and 2013 respectively.
15. STATUTORY FINANCIAL DATA
Under The Insurance Act 1978, amendments thereto and related regulations,
Commercial Guaranty Assurance is required to file an annual Statutory Financial
Return and Statutory Financial Statements to maintain certain measures of
solvency and liquidity during the period. The statutory capital and surplus at
December 31, 1999 and 1998 was $141,938,889 and $114,898,018 respectively.
Statutory net income for the year ended December 31, 1999 was $161,828 and
statutory net loss for the year ended December 31, 1998 was $13,809,607. The
principal differences between capital and surplus and statutory net income and
shareholders' equity and income as reported in conformity with GAAP relates to
deferred acquisition costs and prepaid expenses of Commercial Guaranty
Assurance. There were no statutory restrictions on payment of dividends from the
retained earnings of Commercial Guaranty Assurance as the required level of
solvency was met by the common stock in issue.
16. RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board (the FASB) issued
Statement No. 133 Accounting for Derivative Instruments and Hedging Activities
("SFAS 133"), subsequently amended by SFAS No. 137, which the Company is
required to adopt effective January 1, 2001. SFAS 133 requires all derivatives
to be recognized in the statement of financial position as either assets or
liabilities and measured at fair value. Upon implementation, credit default
swaps will be valued at fair value in accordance with this statement. The impact
of SFAS 133 on the Company's financial statements will depend on a variety of
factors, including future interpretative guidance from the FASB, and the volume
of credit default swaps written by Commercial Guaranty Assurance.
17. SUBSEQUENT EVENTS
On March 7, 2000, Fitch announced that it intended to acquire DCR, subject
to obtaining all requisite shareholder and regulatory approvals. CGA is not
currently rated by Fitch. If such acquisition is consummated, it is unclear what
action, if any, Fitch will take in respect of CGA's "Triple-A" rating from DCR.
If Fitch were to rate CGA's claims paying ability at less than "Triple-A", such
action could have a material adverse effect on CGA's business. financial
condition and prospects.
On March 13, 2000, the Company hired Donaldson, Lufkin & Jenrette
Securities Corporation ("DLJ"), an investment banking firm, to act as the
Company's exclusive financial advisor for the purpose of raising additional
capital. At this time, Management is unable to predict whether or to what extent
DLJ will be successful in these capital raising efforts.
59
<PAGE>
CGA GROUP, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998
(EXPRESSED IN 7.S. DOLLARS)
<TABLE>
<CAPTION>
18. QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
1999 1ST QTR 2ND QTR 3RD QTR 4TH QTR TOTAL
- ---- ------------ ------------ ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
Net premiums written ................ $ 3,047,607 $ 4,000,007 $ 2,183,509 $ 5,089,570 $ 14,320,693
Net premiums earned ................. 3,082,046 3,465,496 2,340,119 3,335,823 12,223,484
Net investment income and net
realized gains .................... 1,823,067 2,327,536 2,246,174 2,184,289 8,581,066
Management fees ..................... 1,145,259 478,796 506,894 6,076,797 8,207,746
------------ ------------ ------------ ------------ -------------
TOTAL REVENUES .................. 6,050,372 6,271,828 5,093,187 11,596,909 29,012,296
============ ============ ============ ============ =============
Operating Expenses .................. 3,276,277 3,238,902 3,424,867 3,047,550 12,987,596
Rebate on credit support
arrangements ...................... -- -- -- 5,510,000 5,510,000
Acquisition costs ................... 148,138 167,116 186,802 211,515 713,571
Commitment fees and excess of
loss facility ..................... 197,945 202,055 201,233 198,767 800,000
Losses and loss adjustment
expenses, net ..................... 300,000 7,450,000 300,000 8,600,000 16,650,000
------------ ------------ ------------ ------------ -------------
TOTAL EXPENSES .................. 3,922,360 11,058,073 4,112,902 17,567,832 36,661,167
============ ============ ============ ============ =============
Net income (loss) ................... 2,128,012 (4,786,245) 980,285 (5,970,923) (7,648,871)
Net loss attributable to shareholders $(3,531,036) $(7,789,311) $(2,120,831) $(9,173,737) $(22,614,915)
Basic and fully diluted loss
per share ......................... $ (0.38) $ (0.28) $ (0.10) $ (0.21) $ (0.97)
1998 1ST QTR 2ND QTR 3RD QTR 4TH QTR TOTAL
- ---- ------------ ------------ ------------ ------------ ------------
Net premiums written ................ $ 1,949,993 $ 1,607,759 $ 2,882,474 $ 3,356,610 $ 9,796,836
Net premiums earned ................. 1,071,135 1,649,341 3,027,536 3,498,277 9,246,289
Net investment income and net
realized gains .................... 1,646,061 3,119,215 1,985,828 4,591,150 11,342,254
Management fees ..................... 189,056 492,939 1,472,589 1,198,915 3,353,499
------------ ------------ ------------ ------------ -------------
TOTAL REVENUES .................. 2,906,252 5,261,495 6,485,953 9,288,342 23,942,042
============ ============ ============ ============ =============
Operating Expenses .................. 3,063,863 4,366,129 4,043,755 2,549,619 14,023,366
Acquisition costs ................... 53,245 92,342 129,944 157,686 433,217
Commitment fees and excess of
loss facility ..................... 197,945 199,589 201,233 201,233 800,000
Losses and loss adjustment
expenses, net ..................... 195,000 405,000 700,000 21,445,000 22,745,000
------------ ------------ ------------ ------------ -------------
TOTAL EXPENSES .................. 3,510,053 5,063,060 5,074,932 24,353,538 38,001,583
============ ============ ============ ============ =============
Net income (loss) ................... (603,801) 198,435 (2,517,216) (15,065,197) (17,987,779)
Net loss attributable to
shareholders ...................... (5,683,130) (4,909,349) (7,991,082) (20,312,666) (38,896,227)
Basic and fully diluted earnings
(loss) per share .................. ($ 0.62) ($ 0.54) ($ 0.88) ($ 2.23) ($ 4.27)
</TABLE>
60
<PAGE>
INDEX TO EXHIBITS
EXHIBIT NUMBER DESCRIPTION
3.1 Memorandum of Association and Certificate of Incorporation of
CGA Group, Ltd., incorporated herein by reference to Exhibit
3.1 to the Registration Statement on Form S-1 (No. 333-7944)
of the Company (the "Registration Statement")
3.2 Amended and Restated Bye-laws of CGA Group, Ltd.,
incorporated herein by reference to Exhibit 3.2 to the
Registration Statement
3.3 Amended and Restated Appendices to Amended and Restated
Bye-laws of CGA Group, Ltd., incorporated herein by reference
to Exhibit 3.3 to the Registration Statement
4.1 CGA Group, Ltd. Shareholders Agreement dated as of June 12,
1997, as amended and restated as of March 31, 1999,
incorporated herein by reference to Exhibit 4.1 to the
Registration Statement
10.1 Series A Subscription Agreement dated as of June 9, 1997, by
and among CGA Group, Ltd. and the holders of the Series A
Preferred Stock, incorporated herein by reference to Exhibit
10.1 to the Registration Statement
10.2 Common Stock Warrant Acquisition Agreement, dated as of June
9, 1997, by and among CGA Group, Ltd. and the holders of the
Series A Preferred Stock, incorporated herein by reference to
Exhibit 10.2 to the Registration Statement
10.3 Investment Units Subscription Agreement dated as of June 4,
1997, by and among CGA Group, Ltd. and the holders of the
Investment Units, incorporated herein by reference to Exhibit
10.3 to the Registration Statement
10.4 Right of First Refusal Agreement dated as of June 17, 1997,
by and between CGA Group, Ltd. and Capital Reinsurance
Company, incorporated herein by reference to Exhibit 10.4 to
the Registration Statement
10.5 Discretionary Investment Advisory Agreement, dated as of
December 18, 1996 between Alliance Capital Management, L.P.
and Commercial Guaranty Assurance, Ltd., incorporated herein
by reference to Exhibit 10.5 to the Registration Statement
10.6 Investment Management Agreement dated as of December 27,
1996, between J.P. Morgan Investment Management Inc. and
Commercial Guaranty Assurance, Ltd., incorporated herein by
reference to Exhibit 10.6 to the Registration Statement
10.7 Letter Agreement, dated June 17, 1997 between CGA Group, Ltd.
and DCR (and Attachments), incorporated herein by reference
to Exhibit 10.7 to the Registration Statement
10.8 Employee Warrant Agreement, incorporated herein by reference
to Exhibit 10.8 to the Registration Statement
10.9 CGA Group, Ltd. Employee Stock Warrant Plan, incorporated
herein by reference to Exhibit 10.9 to the Registration
Statement
10.10 CGA Group, Ltd. Sponsoring Investors and Founders Stock
Warrant Plan, incorporated herein by reference to Exhibit
10.10 to the Registration Statement
10.11 Excess of Loss Agreement, dated as of June 12, 1997, by and
between CGA Group, Ltd. and KRE Reinsurance Ltd.,
incorporated herein by reference to Exhibit 10.11 to the
Registration Statement
10.12 Employment Agreement, as of January 1, 1997, by and between
CGA Group, Ltd. and Richard A. Price, incorporated herein by
reference to Exhibit 10.12 to the Registration Statement
10.13 Employment Agreement, as of January 1, 1997, by and between
CGA Group, Ltd. and Jean-Michel Wasterlain, incorporated
herein by reference to Exhibit 10.20 to the Registration
Statement
61
<PAGE>
10.14 Employment Agreement, as of June 30, 1997, by and between
Commercial Guaranty Assurance, Ltd. and Michael M. Miran,
incorporated herein by reference to Exhibit 10.18 to the
Registration Statement
10.15 Employment Agreement, as of January 1, 1997, by and between
CGA Investment Management, Inc. and Kem H. Blacker,
incorporated herein by reference to Exhibit 10.16 to the
Registration Statement
10.16 Employment Agreement, as of January 1, 1997, by and between
Commercial Guaranty Assurance, Ltd. and Geoffrey N. Kauffman,
incorporated herein by reference to Exhibit 10.15 to the
Registration Statement
10.17 CGA Group, Ltd. Founders' Common Stock Subscription
Agreement, dated as of June 12, 1997, among CGA Group, Ltd.,
CGA Funding, L.P., and certain Founders of CGA Group, Ltd.,
incorporated herein by reference to Exhibit 10.19 to the
Registration Statement
10.18 Series C Convertible Cumulative Voting Preferred Stock
Subscription Agreement, dated as of March 31, 1999,
incorporated by reference herein to Exhibit 10.18 to the
Registration Statement
10.19 Agreement dated as of March 1, 1999 by and among CGA Group
and the holders of the Series C Preferred Stock, incorporated
herein by reference to Exhibit 10.19 to the Registration
Statement
10.20 Restricted Stock Purchase Agreement and Promissory Note,
dated as of April 26, 1999, between CGA Group, Ltd. and the
employees listed therein, incorporated herein by reference to
Exhibit 10.20 to the Registration Statement
10.21 CGA Group, Ltd. Chief Financial Officer's Certificate as to
Adjustment to Exercise Price of Warrants Issued Pursuant to
the Sponsoring Investors and Founders Stock Warrant Plan,
dated May 18, 1999, incorporated herein by reference to
Exhibit 10.21 to the Registration Statement
21.1 Subsidiaries of CGA Group, Ltd.
27.1 Financial Data Schedule
62
EXHIBIT 21.1
SUBSIDIARIES OF CGA GROUP, LTD.
-- Commercial Guaranty Assurance, Ltd. (100%) (Bermuda)
-- CGA Investment Management, Inc. (100%) (Delaware)
<TABLE> <S> <C>
<ARTICLE> 7
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> DEC-31-1999
<DEBT-HELD-FOR-SALE> 146,337,676
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 0
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 146,337,676
<CASH> 12,775,595
<RECOVER-REINSURE> 25,000,000
<DEFERRED-ACQUISITION> 4,767,372
<TOTAL-ASSETS> 199,619,508
<POLICY-LOSSES> 36,545,700
<UNEARNED-PREMIUMS> 2,946,120
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 0
87,506,212
0
<COMMON> 96,003,138
<OTHER-SE> 49,916,011
<TOTAL-LIABILITY-AND-EQUITY> 199,619,508
12,223,484
<INVESTMENT-INCOME> 8,641,551
<INVESTMENT-GAINS> (60,485)
<OTHER-INCOME> 8,207,746
<BENEFITS> 16,650,000
<UNDERWRITING-AMORTIZATION> (713,571)
<UNDERWRITING-OTHER> 0
<INCOME-PRETAX> (7,648,871)
<INCOME-TAX> 0
<INCOME-CONTINUING> (7,648,871)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (7,648,871)
<EPS-BASIC> (0.97)
<EPS-DILUTED> (0.97)
<RESERVE-OPEN> 90,200,000
<PROVISION-CURRENT> 1,350,000
<PROVISION-PRIOR> 15,300,000
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 27,904,300
<RESERVE-CLOSE> 36,545,700
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
