<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 1997
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 1-9627
ZENITH NATIONAL INSURANCE CORP.
[Exact name of registrant as specified in its charter]
Delaware 95-2702776
[State or other jurisdiction of [I.R.S. Employer
incorporation or organization] Identification No.]
21255 Califa Street, Woodland Hills, California 91367-5021
[Address of principal executive offices] [Zip Code]
(818) 713-1000
[Registrant's telephone number, including area code]
Not Applicable
[Former name, former address and former fiscal year,
if changed since last report.]
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 [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date. Number of shares of Common
Stock, $1 par value per share, outstanding as of close of business on
October 31, 1997: 17,789,000 excluding 6,854,000 shares of treasury stock.
1
<PAGE>
PART I FINANCIAL INFORMATION
ITEM 1
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------
September 30, December 31,
(In thousands, except per share data) 1997 1996
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS (Unaudited)
Investments
Fixed maturities:
At amortized cost (fair value $49,700 in 1997 and $53,113 in 1996) $ 48,962 $ 53,353
At fair value (cost $581,099 in 1997 and $608,756 in 1996) 584,693 605,630
Floating rate preferred stocks, at fair value (cost $14,614 in 1997 and 1996) 14,653 14,071
Convertible and non-redeemable preferred stocks, at fair value
(cost $2,515 in 1997 and $750 in 1996) 2,525 784
Common stocks, at fair value (cost $12,055 in 1997 and $18,030 in 1996) 17,021 22,771
Short-term investments (at cost, which approximates fair value) 153,839 106,712
Other investments 50,458 49,478
---------- ----------
TOTAL INVESTMENTS 872,151 852,799
Cash 12,315 12,125
Accrued investment income 12,233 10,973
Premiums receivable 84,396 80,545
Receivable from reinsurers, state trust funds, and
prepaid reinsurance premiums 102,927 104,748
Deposit receivable 12,710 14,776
Federal income taxes 17,823 29,939
Deferred policy acquisition costs 22,129 20,752
Properties and equipment, less accumulated depreciation 55,462 49,179
Other assets 74,454 66,888
---------- ----------
TOTAL ASSETS $1,266,600 $1,242,724
---------- ----------
---------- ----------
LIABILITIES
Policy liabilities and accruals
Unpaid losses and loss expenses $ 619,396 $ 620,078
Unearned premiums 138,349 127,209
Policyholders' dividends accrued 5,730 7,670
Other policyholder funds 6,402 9,109
Reserves on loss portfolio transfers 11,531 8,359
Payable to banks and other notes payable 13,995 14,508
Senior notes payable, less unamortized issue costs
of $556 in 1997 and $647 in 1996 74,444 74,353
Other liabilities 36,892 43,935
---------- ----------
TOTAL LIABILITIES 906,739 905,221
---------- ----------
STOCKHOLDERS' EQUITY
Preferred stock, $1 par - shares authorized 1,000; issued and outstanding,
none in 1997 and 1996 -- --
Common stock, $1 par - shares authorized 50,000; issued 24,627,
outstanding 17,773 in 1997; issued 24,447, outstanding 17,604 in 1996 24,627 24,447
Additional paid-in capital 262,984 258,875
Retained earnings 185,409 175,684
Net unrealized appreciation on investments, net of deferred
tax expense of $4,929 in 1997 and $284 in 1996 9,157 528
---------- ----------
482,177 459,534
Less treasury stock at cost (6,854 shares in 1997 and 6,843 shares in 1996) (122,316) (122,031)
---------- ----------
TOTAL STOCKHOLDERS' EQUITY 359,861 337,503
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $1,266,600 $1,242,724
---------- ----------
---------- ----------
The accompanying notes are an integral part of this statement.
</TABLE>
2
<PAGE>
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, September 30,
(In thousands, except per share data) 1997 1996 1997 1996
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
CONSOLIDATED REVENUES:
Net premiums earned $ 120,475 $ 112,492 $ 368,669 $ 332,984
Net investment income 13,272 12,574 39,126 37,464
Realized gains on investments 1,861 178 5,733 8,228
Real estate sales 11,480 11,822 32,617 26,617
---------- ---------- ---------- ----------
Total revenues 147,088 137,066 446,145 405,293
EXPENSES:
Losses and loss expenses incurred 81,104 77,928 258,051 225,772
Policy acquisition costs 22,834 20,441 69,196 62,692
Other underwriting and operating expenses 17,902 11,985 49,088 37,358
Policyholders' dividends and participation 533 1,007 -- 1,882
Real estate construction and operating costs 11,225 11,071 31,424 25,054
Interest expense 980 888 2,932 3,724
---------- ---------- ---------- ----------
Total expenses 134,578 123,320 410,691 356,482
Income before federal income tax 12,510 13,746 35,454 48,811
Federal income tax expense 4,510 4,646 12,454 16,611
---------- ---------- ---------- ----------
NET INCOME $ 8,000 $ 9,100 $ 23,000 $ 32,200
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
EARNINGS PER SHARE:
Net income per common share $ 0.44 $ 0.51 $ 1.28 $ 1.81
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
The accompanying notes are an integral part of this statement.
3
<PAGE>
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------
Nine Months Ended
September 30,
(In thousands) 1997 1996
- --------------------------------------------------------------------------------------------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Premiums collected $ 393,281 $ 354,233
Investment income received 37,612 35,031
Proceeds from sales of real estate 32,617 26,617
Losses and loss expenses paid (256,326) (240,167)
Underwriting and other operating expenses paid (121,470) (95,031)
Real estate construction costs paid (36,612) (41,395)
Reinsurance premiums paid (20,964) (17,847)
Dividends paid to policyholders (329) (2,869)
Interest paid (3,185) (4,121)
Income taxes paid (4,497) (18,009)
----------- -----------
Net cash provided by (used in) operating activities,
excluding cash from trading portfolio 20,127 (3,558)
Net cash from sales of trading portfolio investments 1,416 7,050
----------- -----------
Net cash provided by operating activities,
including cash from trading portfolio 21,543 3,492
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of investments:
Fixed maturities Held-to-Maturity -- (5,342)
Investment securities Available-for-Sale (61,985) (301,647)
Other investments (4,146) (2,482)
Proceeds from maturities and exchanges of investments:
Fixed maturities Held-to-Maturity 4,290 7,440
Investment securities Available-for-Sale 22,204 116,624
Other investments 3,452 --
Proceeds from sales of investments:
Investment securities Available-for-Sale 74,454 261,045
Other investments 5,295 3,065
Capital and other expenditures (11,988) (6,101)
Cash received from portfolio transfers 4,648 --
Losses paid on portfolio transfers (1,476) --
Net change in short-term investments (45,800) (59,762)
----------- -----------
Net cash provided by (used in) investing activities (11,052) 12,840
CASH FLOWS FROM FINANCING ACTIVITIES:
Cash advanced from bank construction loans 29,751 18,043
Cash repaid on bank construction loans (30,411) (14,672)
Cash dividends paid to common stockholders (13,275) (13,207)
Proceeds from exercise of stock options 3,919 1,990
Purchase of treasury shares (285) (7,404)
----------- -----------
Net cash used in financing activities (10,301) (15,250)
----------- -----------
Net increase in cash 190 1,082
Cash at beginning of period 12,125 6,919
----------- -----------
Cash at end of period $ 12,315 $ 8,001
----------- -----------
----------- -----------
(continued)
</TABLE>
4
<PAGE>
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------
Nine Months Ended
September 30,
(In thousands) 1997 1996
- -----------------------------------------------------------------------------------------------
<S> <C> <C>
RECONCILIATION OF NET INCOME TO NET CASH FLOWS
FROM OPERATING ACTIVITIES:
Net Income $ 23,000 $ 32,200
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 4,391 2,256
Realized gains on investments (5,733) (8,228)
Net cash from trading portfolio 1,416 7,050
Decrease (Increase) in:
Accrued investment income (1,260) (223)
Premiums receivable (3,851) (7,802)
Receivable from reinsurers, state trust funds, and
prepaid reinsurance premiums 1,821 2,592
Deposit receivable 2,066 --
Federal income taxes 7,967 (1,399)
Deferred policy acquisition costs (1,377) (1,531)
Real estate construction in progress (7,045) (19,378)
Increase (Decrease) in:
Unpaid losses and loss expenses (682) (14,869)
Unearned premiums 11,140 15,219
Policyholders' dividends accrued (1,940) (2,885)
Other policyholder funds (2,707) (4,005)
Other (5,663) 4,495
---------- ---------
Net cash provided by operating activities $ 21,543 $ 3,492
---------- ---------
---------- ---------
</TABLE>
The accompanying notes are an integral part of this statement.
5
<PAGE>
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
NOTE 1. COMPUTATION OF EARNINGS PER SHARE (EPS)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
(In thousands, except per share data) 1997 1996 1997 1996
- ---------------------------------------------------------------------------------------------------------
(A) Net income $8,000 $9,100 $23,000 $32,200
--------------------------------------------------------------------------------------------------
(B) Number of shares used in
calculating primary EPS:
Weighted average outstanding
shares during the period 17,726 17,555 17,687 17,595
Additional common shares
issuable under employee
stock option plan using the
treasury stock method (1) 295 341 260 224
-------------------------------------------------------------------------------------------------
18,021 17,896 17,947 17,819
-------------------------------------------------------------------------------------------------
(A)/(B) Primary EPS $0.44 $ 0.51 $1.28 $ 1.81
-------------------------------------------------------------------------------------------------
(C) Number of shares used in
calculating fully diluted EPS:
Weighted average outstanding
shares during the period 17,726 17,555 17,687 17,595
Additional common shares
issuable under employee
stock option plan using the
treasury stock method (2) 352 341 295 263
-------------------------------------------------------------------------------------------------
18,078 17,896 17,982 17,858
-------------------------------------------------------------------------------------------------
(A)/(C) Fully diluted EPS $0.44 $ 0.51 $1.28 $ 1.80
-------------------------------------------------------------------------------------------------
</TABLE>
(1) Based on the average market price during the period.
(2) Based on the higher of the average market price or price at the end of
each period.
6
<PAGE>
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
- --------------------------------------------------------------------------------
Note 2. Disposition of Investment in Delta Life Insurance Corporation
In the third quarter of 1997, Zenith agreed to sell its investment in Delta
Life Insurance Corporation (Delta Life). The Chairman, President, and Chief
Executive Officer of Delta Life is also a Director of Zenith. Based on the
pending sale, the carrying value of this investment as of September 30, 1997
has been adjusted to reflect the current fair value as indicated by the sales
price with the result that stockholders' equity has been increased by
$3.5 million, net of deferred tax expense. In October 1997, the sale was
settled and Zenith received $17.9 million in cash and recognized $5.4 million
pre-tax realized gain which will be included in the fourth quarter results.
Note 3. Recently Issued Accounting Standards
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 128, "Earnings per Share"
("SFAS 128"). SFAS 128 is effective for periods ending after
December 15, 1997, including interim periods. Zenith will adopt the provisions
of SFAS 128 in the consolidated financial statements as of December 31, 1997.
SFAS 128 requires dual presentation of newly defined basic and diluted EPS on
the face of the income statement for all entities with complex capital
structures. SFAS 128 eliminates the presentation of primary EPS and replaces
it with basic EPS. Basic EPS differs from primary EPS because common stock
equivalents are not considered in computing basic EPS. Fully diluted EPS
will be replaced with diluted EPS. Diluted EPS is similar to fully diluted
EPS, except in determining the number of dilutive shares outstanding for
options and warrants and the proceeds that would be received upon the
conversion of all dilutive options and warrants, net of any tax benefits, are
assumed to be used to repurchase the company's common shares at the average
market price of such stock during the period. For fully diluted earnings per
share, the higher of the average market price or ending market price is used.
If SFAS 128 had been in effect, Zenith would have reported the following EPS
for the three and nine months ended September 30, 1997 and 1996:
- ---------------------------------------------------------------
Three months ended Nine months ended
September 30, September 30,
1997 1996 1997 1996
- ---------------------------------------------------------------
Basic EPS $0.45 $0.52 $1.30 $1.83
Diluted EPS 0.45 0.51 1.29 1.81
7
<PAGE>
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
- --------------------------------------------------------------------------------
In June 1997, the FASB issued Statement of Financial Accounting Standards
No. 130, "Reporting Comprehensive Income" ("SFAS 130"). SFAS 130 is effective
for periods beginning after December 15, 1997, including interim periods.
SFAS 130 requires companies to report comprehensive income and its components in
a financial statement and display the accumulated balance of other
comprehensive income separately from retained earnings and additional
paid-in capital. Comprehensive income includes all changes in stockholders'
equity during a period except those resulting from investments by
stockholders and distributions to stockholders. Zenith has not determined
the presentation impact of SFAS 130.
In June 1997, the FASB issued Statement of Financial Accounting Standards
No. 131, "Disclosures about Segments of an Enterprise and Related Information"
("SFAS 131"). SFAS 131 is effective for periods beginning after
December 15, 1997, including interim periods. SFAS 131 specifies revised
guidelines for determining an entity's operating segments and the type and
level of financial information to be disclosed. Zenith has not determined
the impact of SFAS 131.
Note 4. Proposed Acquisition
On June 17, 1997, Zenith announced that its wholly-owned subsidiary, Zenith
Insurance Company ("Zenith Insurance"), had entered into an agreement with
RISCORP, Inc. ("RISCORP") to purchase all of the assets of RISCORP related to
its workers' compensation business, including RISCORP's existing in-force
business, as well as the right to all new and renewal policies. Zenith
Insurance will also purchase RISCORP's "First Call" managed care workers'
compensation system. After the transaction closes, RISCORP will no longer
engage in the workers' compensation or managed care businesses. In
connection with the transaction, Zenith Insurance will assume certain
liabilities related to RISCORP's insurance businesses, including $15 million
in indebtedness of RISCORP. The purchase price, which will be in cash, will
be the difference between the book value of the assets purchased and the book
value of the liabilities assumed by Zenith Insurance on the closing date,
subject to a minimum purchase price of $35 million. Zenith intends to fund
the closing of this transaction with bank financing and internal funds.
Effective June 18, 1997, Zenith Insurance entered into a reinsurance
agreement with RISCORP. Under the reinsurance agreement, Zenith Insurance
has reinsured all of RISCORP's liabilities on or after June 18, 1997 in
respect of new, renewal, and in-force Florida workers' compensation policies
in the event RISCORP is declared insolvent under applicable insurance law
pursuant to court order. RISCORP has assigned to Zenith Insurance its right
to receive certain payments from other reinsurers in respect of the business
Zenith Insurance has reinsured. In addition, RISCORP has established a trust
account of approximately $50 million to reimburse Zenith Insurance for any
8
<PAGE>
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
- --------------------------------------------------------------------------------
amounts paid under the reinsurance agreement. Although there can be no
assurance that such amount ultimately would be sufficient to reimburse Zenith
fully for such payments, Zenith believes that any contingent liability under
this agreement as of September 30, 1997 would not be material.
The closing of the purchase of RISCORP's assets and liabilities is subject to
several conditions, including the review and approval by appropriate state
and federal regulatory agencies and by RISCORP's shareholders. The agreement
has been approved by the Boards of Directors of Zenith, Zenith Insurance, and
RISCORP. It cannot be predicted at this time when or whether the closing
will occur.
Note 5. Contingencies
The following updates contingencies set forth in Note 8 of Zenith's
consolidated financial statements as of December 31, 1996.
Florida has created a State Disability Trust Fund ("SDTF") and assesses
workers' compensation insurers to pay for what are commonly referred to as
"Second Injuries." Assessments, based upon premiums written, have been
inadequate to completely fund the obligations of SDTF. Zenith expects future
political changes, the nature of which cannot be determined at this time, to
affect SDTF. Zenith has recorded a receivable from SDTF as of
September 30, 1997 based upon specific claims identified by Associated General
Commerce-Self Insurers' Trust Fund ("AGC-SIF") and its historical recovery
experience, the recoverability of which is dependent upon such political
changes, if any. Zenith has not recorded a liability for any future
assessments from SDTF.
In July 1995, Zenith's new workers' compensation computer system became
operational. In addition to enhancing data processing, the new system is
designed, among other things, to improve workflow in the workers'
compensation claims handling process. Management observed certain unusual
claim reserving trends and patterns in 1995, 1996, and 1997, possibly related
to disruption of normal workflows due to implementation of the new system.
Workflows in the future may continue to be impacted as training and
optimization of the new system continue. Management believes that its
estimate of liabilities for unpaid workers' compensation losses and loss
adjustment expenses (amounting to $409.4 million of the total reserves for
unpaid losses and loss adjustment expenses of $619.4 million) at
September 30, 1997 included in these consolidated financial statements is
adequate. However, subsequent re-interpretation of currently available data or
any new information that becomes available may change the estimate of such
liabilities in future periods and such changes, if any, will be reflected in
the consolidated financial statements of the period in which they occur.
9
<PAGE>
ZENITH NATIONAL INSURANCE CORP. AND SUBSIDIARIES
PART I FINANCIAL INFORMATION
In the opinion of management, all adjustments necessary for a fair presentation
of the results of operations for the periods presented (consisting only of
normal recurring adjustments) have been included. The results of operations for
an interim period are not necessarily indicative of the results for an entire
year.
ITEM 2
Management's Discussion and Analysis of Financial Condition and
Results of Operations
OVERVIEW
Zenith's principal source of consolidated earnings is the income, including
investment income, from operations of its property and casualty insurance
business. The comparative results of operations are set forth in the table
below, followed by a discussion of significant changes.
- --------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, September 30,
(In thousands) 1997 1996 1997 1996
- --------------------------------------------------------------------------------
Investment income, after-tax $8,799 $8,400 $25,941 $24,952
Realized gains on
investments, after-tax 1,209 115 3,726 5,348
- --------------------------------------------------------------------------------
Sub-total 10,008 8,515 29,667 30,300
- --------------------------------------------------------------------------------
Property-casualty underwriting, after-tax:
Income (loss) excluding
catastrophes (677) 1,176 (2,606) 4,640
Catastrophe losses (65) -- (975) --
- --------------------------------------------------------------------------------
Property-casualty underwriting
income (loss) (742) 1,176 (3,581) 4,640
- --------------------------------------------------------------------------------
Income from real estate
operations, after-tax 165 488 764 1,026
Interest expense, after-tax (637) (578) (1,906) (2,421)
Parent expenses, after-tax (794) (501) (1,944) (1,345)
- --------------------------------------------------------------------------------
Net income $8,000 $9,100 $23,000 $32,200
- --------------------------------------------------------------------------------
10
<PAGE>
PROPERTY AND CASUALTY INSURANCE OPERATIONS
Premiums earned, underwriting results and combined ratios before tax for the
three and nine months ended September 30, 1997 and 1996 are as follows:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
(Dollars in thousands) 1997 1996 Change 1997 1996 Change
- ------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Premiums earned
Workers' compensation
California $ 31,283 $ 35,451 (12%) $100,520 $109,137 (8%)
Outside California 27,475 15,879 73% 81,861 43,092 90%
------------------------ -----------------------
Total workers' compensation 58,758 51,330 14% 182,381 152,229 20%
Other property/casualty 53,273 51,751 3% 160,748 151,740 6%
Reinsurance 8,444 9,411 (10%) 25,540 29,015 (12%)
------------------------ -----------------------
Total $120,475 $112,492 7% $368,669 $332,984 11%
------------------------ -----------------------
------------------------ -----------------------
Underwriting income (loss) before taxes
Workers' compensation (6,245) (3,830) (19,003) (9,462)
Other property/casualty 2,246 2,806 4,882 7,508
Reinsurance 3,004 2,925 9,005 9,303
------------------------ -----------------------
Total $ (995) $ 1,901 $ (5,116) $ 7,349
------------------------ -----------------------
------------------------ -----------------------
Combined loss and expense ratios
Workers' compensation
Losses and loss expenses 75.7% 73.0% 77.3% 72.1%
Underwriting expenses 34.0 32.5 33.1 32.9
Dividends to policyholders 0.9 2.0 1.2
------------------------ -----------------------
Combined ratio 110.6% 107.5% 110.4% 106.2%
Other property/casualty
Losses and loss expenses 63.5% 68.5% 65.9% 66.5%
Underwriting expenses 32.3 26.1 31.1 28.6
------------------------ -----------------------
Combined ratio 95.8% 94.6% 97.0% 95.1%
Reinsurance
Losses and loss expenses 33.3% 53.2% 43.9% 52.6%
Underwriting expenses 31.1 15.7 20.9 15.3
Combined ratio 64.4% 68.9% 64.8% 67.9%
Total property/casualty
Losses and loss expenses 67.3% 69.3% 70.0% 67.8%
Underwriting expenses 33.1 28.1 31.4 29.4
Dividends to policyholders 0.4 0.9 0.6
------------------------ -----------------------
Combined ratio 100.8% 98.3% 101.4% 97.8%
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
</TABLE>
11
<PAGE>
Underwriting results declined in the three and nine months ended
September 30, 1997 compared to the corresponding periods in 1996 principally
because of the continued decline in workers' compensation profitability. This
decline in workers' compensation profitability is due to adverse development
of prior year losses and loss expenses in the three and nine months ended
September 30, 1997 and declining California premium volume not offset by expense
savings.
Workers' compensation premium growth is primarily due to the merger of Zenith
Insurance with AGC-SIF, effective December 31, 1996. Management expects that
workers' compensation premiums generated outside of California will increase
further in future periods if the acquisition of RISCORP's insurance net
assets as discussed in Note 4 to the accompanying unaudited consolidated
financial statements is consummated.
Competition in the workers' compensation business continues to be intense and
profitability is dependent upon the ability to maintain adequate rates,
manage claims costs and keep operating expenses in line with premium volume.
Zenith is unable to predict when its California workers' compensation
operation will return to underwriting profitability that is consistent with
Zenith's historical experience.
Other property/casualty premium volume for the three and nine months ended
September 30, 1997 is consistent with those of the same 1996 periods.
Underwriting results declined primarily due to the expenses related to the
investment in technology during 1997 to upgrade the computer systems. In
addition, the nine months ended September 30, 1997 includes losses from
severe weather damage in California, which amounted to $1.5 million, before
tax.
Reinsurance premiums earned declined in the three and nine months ended
September 30, 1997 compared to the corresponding periods in 1996 due
primarily to selected non-renewal of certain reinsurance treaties and
softening of property catastrophe rates. The decrease in losses and loss
expenses for Reinsurance is primarily due to favorable development for
certain treaties, partially offset by contingent profit commission paid as a
result of such favorable development.
INVESTMENTS
Fluctuations in interest rates continue to impact the market value of fixed
maturity securities classified as Available-for-Sale. At September 30, 1997,
the unrealized appreciation on such fixed maturities was $3.6 million, before
deferred taxes, compared to an unrealized depreciation of $3.0 million,
before deferred taxes, at December 31, 1996. This change resulted in an
increase in stockholders' equity of $4.3 million, after deferred taxes,
between December 31, 1996 and September 30, 1997. Stockholders' equity will
continue to be affected by volatility in the fixed maturity securities market.
12
<PAGE>
Investment income increased in the three and nine months ended
September 30, 1997 compared to the corresponding periods in 1996 principally
due to the increase in invested assets for Zenith Insurance associated with
its merger with AGC-SIF.
The yields on invested assets, which vary with the general level of interest
rates, were as follows:
- --------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, September 30,
1997 1996 1997 1996
- --------------------------------------------------------------------------------
Investment yield, before tax 6.0% 6.1% 5.9% 6.0%
Investment yield, after tax 4.0 4.1 3.9 4.0
- --------------------------------------------------------------------------------
Bonds with investment grade rating represented 98% and 97% of the
consolidated carrying values of fixed maturities at September 30, 1997 and
December 31, 1996, respectively. The average maturity of the investment
portfolio was 4.9 years at September 30, 1997 and 5.1 years at
December 31, 1996.
The change in the carrying value of Zenith's consolidated investment
portfolio during the nine months ended September 30, 1997 is as follows:
(In thousands)
- --------------------------------------------------------------------------------
Carrying value at December 31, 1996 $852,799
Purchases at cost 66,131
Maturities and exchanges of investments (29,946)
Proceeds from sales of investments (81,165)
Realized gains from maturities and exchanges of investments:
Available-for-Sale 723
Realized gains from sales of investments:
Available-for-Sale 3,829
Trading portfolio 223
Other investments 958
-----
Total realized gains on investments 5,733
Unrealized gains on investments 13,277
Increase in short-term investments 47,127
Net amortization of bonds and preferred stocks
and other changes (1,805)
- --------------------------------------------------------------------------------
Carrying value at September 30, 1997 $872,151
- --------------------------------------------------------------------------------
13
<PAGE>
LIQUIDITY
Zenith is principally dependent upon its portfolio of marketable securities
and the investment yields thereon; dividends from its insurance subsidiaries,
whose operations are supported by their own cash flows; and available lines
of credit to pay its expenses, service debt and pay any cash dividends which
may be declared to its stockholders.
Currently, Zenith has three revolving lines of credit in place. These lines
provide Zenith with $100 million of revolving credit, which is currently
available, along with internal funds, to fund the closing of the proposed
acquisition of certain assets and liabilities from RISCORP. The closing date
and ultimate purchase price cannot be determined at this time, although the
purchase agreement calls for a minimum purchase price of $35 million.
The increase in net cash flows from operations for the nine months ended
September 30, 1997 compared to the same period last year is due primarily to
additional premiums collected in the workers' compensation operations that
resulted from the merger of Zenith Insurance and AGC-SIF effective on
December 31, 1996.
On September 4, 1997, the Board of Directors declared a regular quarterly
cash dividend of $0.25 per share on the outstanding shares, payable on
November 14, 1997 to stockholders of record at the close of business on
October 31, 1997.
PROPOSED CODIFICATION OF STATUTORY ACCOUNTING PRINCIPLES
The National Association of Insurance Commissioners is in the process of
codifying statutory accounting principles to provide a comprehensive basis of
statutory accounting and reporting for use by insurance departments,
insurers, and auditors. The codified principles have not yet been finalized,
and approval is currently not expected until early 1998, with an anticipated
effective date of January 1, 1999. Implementation of the codified statutory
accounting principles may affect the surplus level and the capitalization
requirement of Zenith's insurance subsidiaries on a statutory basis. Zenith
has not determined the impact of this codification.
RECENTLY ISSUED ACCOUNTING STANDARDS
As discussed in Note 3 of the accompanying notes to the consolidated
financial statements, the FASB issued various Statements of Financial
Accounting Standards ("SFAS") during the nine months ended September 30, 1997.
14
<PAGE>
In February 1997, the FASB issued SFAS No. 128, "Earnings per Share" ("SFAS
128"). SFAS 128 is effective for periods ending after December 15, 1997,
including interim periods. Zenith will adopt the provisions of SFAS 128 in
the consolidated financial statements as of December 31, 1997. SFAS 128
requires dual presentation of newly defined basic and diluted EPS on the face
of the income statement for all entities with complex capital structures.
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income"
("SFAS 130"). SFAS 130 is effective for periods beginning after
December 15, 1997, including interim periods. SFAS 130 requires companies to
report comprehensive income and its components in a financial statement and
display the accumulated balance of other comprehensive income separately from
retained earnings and additional paid-in capital. Zenith has not determined
the presentation impact of SFAS 130.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information" ("SFAS 131"). SFAS 131 is effective for
periods beginning after December 15, 1997, including interim periods. SFAS 131
specifies revised guidelines for determining an entity's operating segments
and the type and level of financial information to be disclosed. Zenith has
not determined the impact of SFAS 131.
FORWARD LOOKING INFORMATION
The Private Securities Litigation Reform Act of 1995 provides a safe harbor
for forward-looking statements if accompanied by meaningful cautionary
statements identifying important factors that could cause actual results to
differ materially from those discussed. Forward-looking statements include
those related to the plans and objectives of management for future
operations, future economic performance, or projections of revenues, income,
earnings per share, capital expenditures, dividends, capital structure, or
other financial items. Statements containing words such as EXPECT,
ANTICIPATE, BELIEVE, or similar words that are used in Management's
Discussion and Analysis of Financial Condition and Results of Operations, in
other parts of this Report or in other written or oral information conveyed
by or on behalf of Zenith are intended to identify forward-looking
statements. Zenith undertakes no obligation to update such forward-looking
statements, which are subject to a number of risks and uncertainties that
could cause actual results to differ materially from those projected. These
risks and uncertainties include but are not limited to the following: (1)
heightened competition, particularly intense price competition; (2) adverse
state and federal legislation and regulation:(3) changes in interest rates
causing a reduction of investment income; (4) general economic and business
conditions which are less favorable than expected; (5) unanticipated changes
in industry trends; (6) adequacy of loss reserves; (7) catastrophic events or
the occurrence of a significant number of storms, and wind and hail losses;
and (8) other risks detailed herein and from time to time in Zenith's other
reports and filings with the Securities and Exchange Commission.
15
<PAGE>
ITEM 6
Exhibits and Reports on Form 8-K
- --------------------------------------------------------------------------------
(a) Exhibits
3.1 Certificate of Incorporation of Zenith as in effect immediately prior to
November 22, 1985. (Incorporated herein by reference to Exhibit 3 to
Zenith's amendment of Form 8, date of amendment October 10, 1985, to
Zenith's Current Report on Form 8-K, date of report July 26, 1985.)
Certificate of Amendment to Certificate of Incorporation of Zenith,
effective November 22, 1985. (Incorporated herein by reference to
Zenith's Current Report on Form 8-K, date of report November 22, 1985.)
3.2 By-laws of Zenith, as currently in effect. (Incorporated herein by
reference to Exhibit 3.2 to Zenith's Annual Report on Form 10-K for the
year ended December 31, 1988.)
10.5 Modification of Note dated October 10, 1997 modifying the original
Revolving Note dated July 1, 1997 between Zenith National Insurance
Corp. and City National Bank . (The original Revolving Note is
incorporated herein by reference to Exhibit 10.2 to Zenith's Quarterly
Report on Form 10-Q, followed by amendment No. 1 thereto on Quarterly
Report on Form 10-Q/A, for the quarterly period ended June 30, 1997.)
11 Statement re computation of per share earnings. Part 1, Item 1, Note 1
of the consolidated financial statements is incorporated herein by
reference.
27 Financial data schedule
(b) Reports on Form 8-K
No Reports on Form 8-K were filed by the Registrant for the quarter
ended September 30, 1997.
16
<PAGE>
ZENITH NATIONAL INSURANCE CORP.
Signatures
- --------------------------------------------------------------------------------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
ZENITH NATIONAL INSURANCE CORP.
Registrant
Date: November 13, 1997 /S/ STANLEY R. ZAX
------------------------------------------
Stanley R. Zax
Chairman of the Board and President
(Principal Executive Officer)
Date: November 13, 1997 /S/ FREDRICKA TAUBITZ
------------------------------------------
Fredricka Taubitz
Executive Vice President and
Chief Financial Officer
(Principal Accounting Officer)
17
<PAGE>
Exhibit 10.5
MODIFICATION OF NOTE
This Modification of Note ("Modification"), is dated October 10, 1997, and
is by and between ZENITH NATIONAL INSURANCE CORP., a Delaware corporation
("Borrower"), and CITY NATIONAL BANK, a national banking association ("CNB").
A. Borrower executed and delivered to CNB a Promissory Note dated July 1, 1997
in the principal sum of $20,000,000.00 ("Note"), a true and correct copy of
which is attached hereto as Exhibit "A."
B. Borrower hereby acknowledges the execution, validity, and enforceability of
the Note.
C. Borrower has requested that CNB modify the terms of the Note as set forth
below.
THEREFORE, in consideration of the mutual covenants and agreements set
forth and other good and valuable consideration, Borrower and CNB agree as
follows:
1. Paragraph 2 of the Note is amended and restated in its entirety as
follows:
"2. INTEREST. Each Loan shall bear interest from
disbursement until due (whether at stated maturity, by
acceleration or otherwise), at a rate equal to, at the
Borrower's option as indicated on Borrower's Notice of
Borrowing/Interest Selection, either (a) for a LIBOR Loan,
the sum of the LIBOR Interest Rate plus FORTY HUNDREDTHS OF
ONE PERCENT (0.40%) per year, or (b) for a Prime Loan , the
fluctuating Prime Rate, minus FIFTY-FIVE HUNDREDTHS OF ONE
PERCENT (0.55%) per year, in all cases computed on the basis
of a 360 day year, actual days elapsed. A Loan shall be a
Prime Loan any time it is not a LIBOR Loan."
2. This Modification is an amendment only, and not a novation. Except as
expressly provided herein, all of the terms and conditions of the Note shall
remain unchanged and in full force and effect.
3. Capitalized terms not defined herein shall have the respective
meanings given them in the Note.
18
<PAGE>
4. This Modification constitutes the parties' entire agreement with
respect to the subject matter referred to, and supersedes all agreements,
representations, warranties, statements and/or understandings pertaining to the
subject matter. This Modification may not be amended, altered or modified
except by a writing signed by all parties.
5. This Modification shall become effective only upon receipt by CNB of
an executed original.
ZENITH NATIONAL INSURANCE CORP.,
a Delaware corporation
By: /s/ Stanley R. Zax
____________________________________
STANLEY R. ZAX, President and
Chairman of the Board
[Exhibit "A" to Modification of Note is not included.]
19
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<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> SEP-30-1997
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