<PAGE> 1
AS FILED WITH THE U.S. SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 10, 2000
REGISTRATION NO. 333-41136
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
AMENDMENT NO. 2
TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
AMERICAN PHYSICIANS CAPITAL, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C> <C>
MICHIGAN 3679 38-3543910
(STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NO.)
</TABLE>
1301 NORTH HAGADORN ROAD
EAST LANSING, MICHIGAN 48823
(517) 351-1150
(ADDRESS, INCLUDING ZIP CODE AND TELEPHONE NUMBER, INCLUDING AREA CODE OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
------------------------
WILLIAM B. CHEESEMAN
PRESIDENT AND CHIEF EXECUTIVE OFFICER
1301 NORTH HAGADORN ROAD
EAST LANSING, MICHIGAN 48823
(517) 351-1150
(NAME, ADDRESS, INCLUDING ZIP CODE AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
AGENT FOR SERVICE)
------------------------
COPIES TO:
<TABLE>
<S> <C>
MARK A. METZ, ESQ. RICHARD G. CLEMENS, ESQ.
DYKEMA GOSSETT PLLC SIDLEY & AUSTIN
400 RENAISSANCE CENTER BANK ONE PLAZA
DETROIT, MICHIGAN 48243-1668 10 SOUTH DEARBORN STREET
(313) 568-5434 CHICAGO, ILLINOIS 60603
(312) 853-7642
</TABLE>
------------------------
Approximate date of commencement of proposed sale to the public:
AS SOON AS PRACTICABLE AFTER THIS REGISTRATION STATEMENT BECOMES EFFECTIVE.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, as amended (the "Securities Act"), please check the following box. [X]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ]
------------------
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, please check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. [ ]
------------------
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, please check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. [ ]
------------------
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [ ]
------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME EFFECTIVE
ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY
DETERMINE.
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--------------------------------------------------------------------------------
<PAGE> 2
EXPLANATORY NOTE
This Registration Statement contains two separate prospectuses. The first
prospectus relates to two offerings by APCapital of an aggregate of 10,000,000
shares of its common stock -- a subscription offering to eligible MICOA
policyholders, and officers and directors, and a best efforts offering to
selected other people with whom APCapital has a relationship. The second
prospectus relates to a firm commitment underwritten offering of the shares for
which subscriptions are not received and accepted in the subscription and best
efforts offerings. The prospectus for the underwritten offering will be
identical to the prospectus for the subscription and best efforts offerings
except for (i) the alternate pages which appear in this Registration Statement
immediately following the complete prospectus for the subscription and best
efforts offerings and (ii) the absence of the section entitled "Material Federal
Income Tax Consequences" from the prospectus for the underwritten offering.
<PAGE> 3
SUBJECT TO COMPLETION, DATED OCTOBER 10, 2000
PROSPECTUS
10,000,000 SHARES
[APCAPITAL LOGO]
COMMON STOCK
------------------------
We are converting Mutual Insurance Corporation Of America, or MICOA, into a
company that is owned by shareholders. As part of that process, we are offering
shares of common stock in American Physicians Capital, Inc., or APCapital, to
eligible MICOA policyholders, officers and directors in a subscription offering.
APCapital is a new company that will own MICOA and its subsidiaries after the
conversion. MICOA will be renamed American Physicians Assurance Corporation
after the conversion. We are also offering the shares to selected other people
with whom we have a relationship in a best efforts offering. The best efforts
offering is occurring at the same time as the subscription offering.
Participation in the best efforts offering is subject to the prior rights of the
subscription offering participants and to our sole discretion to reject any
offer to purchase stock. We are also offering the shares in a firm commitment
underwritten offering during the period for subscribing in the subscription and
best efforts offerings. Any shares for which subscriptions are not received and
accepted in the subscription and best efforts offerings may be sold in the firm
commitment underwritten offering. The subscription, best efforts and
underwritten offerings will close at the same time.
ELIGIBLE PERSONS WHO WISH TO PURCHASE SHARES IN THE SUBSCRIPTION OR BEST
EFFORTS OFFERING MUST SUBMIT A PROPERLY COMPLETED STOCK ORDER FORM AND PAYMENT
IN FULL ON OR BEFORE 5:00 P.M., EASTERN TIME, , 2000. TO PARTICIPATE,
YOU MUST PURCHASE A MINIMUM OF 100 SHARES OF STOCK. THE MAXIMUM NUMBER YOU MAY
PURCHASE IS SHARES. ADDITIONAL RESTRICTIONS ARE DESCRIBED ELSEWHERE IN
THIS PROSPECTUS.
Until policyholders approve the conversion and the offerings (including the
underwritten offering), we will hold the proceeds of the subscription and best
efforts offerings in an escrow account with The Chase Manhattan Bank. If the
conversion is not approved, or if the offerings are otherwise not completed, we
will promptly refund your money, without interest.
Because this is our initial offering of common stock, there is no current
public market for the stock. We have applied to have the stock listed on the
Nasdaq National Market under the symbol "ACAP" following the conversion.
INVESTING IN THE COMMON STOCK INVOLVES CERTAIN RISKS.
SEE "RISK FACTORS" BEGINNING ON PAGE 11.
<TABLE>
<CAPTION>
PER SHARE TOTAL
--------- -----
<S> <C> <C>
Offering price(1)........................................... $ $
Net proceeds................................................ $ $
</TABLE>
-------------------------
(1) Offering price per share is based upon an appraisal of MICOA, which
established a valuation range of $130 million to $180 million, or $13.00 to
$18.00 per share. The offering price per share may be reduced if the
offering price in the underwritten offering is lower than the current
offering price. For more information, see "The Conversion -- Stock Price and
Number of Shares to be Issued in the Offerings."
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE REGULATORY
BODY HAS APPROVED OR DISAPPROVED THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS ACCURATE OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
------------------------
ABN AMRO ROTHSCHILD
A DIVISION OF ABN AMRO INCORPORATED
The date of this Prospectus is , 2000
<PAGE> 4
ORGANIZATIONAL STRUCTURE
The following chart illustrates the general organization of APCapital and
its subsidiaries after the offerings.
[GRAPHIC IMAGE]
<TABLE>
<S> <C> <C> <C>
An insurer converted from An insurer which primarily An insurer, formerly named RML A group of subsidiaries which
Mutual Insurance Corporation of provides standard workers' Insurance Company, which is includes all the non- insurance
America (MICOA). It provides compensation insurance. primarily used as a preferred related operations of
medical professional liability, pricing company for the APCapital, such as e-commerce,
workers' compensation and other APCapital group. It issues such alternative risk transfer,
related insurance. specialty products as directors captives and investment
and officers insurance, advisors (see further
cost-plus or dividend workers' description below).
compensation insurance, and
surcharged professional
liability insurance.
</TABLE>
AP FINANCIAL GROUP
MICOA DIRECT, LLC: An electronic commerce company that offers agents enhanced
servicing and offers physicians and other health care professionals a new
alternative for purchasing their insurance. Prospective customers can request
quotes and other services for medical professional liability or workers'
compensation insurance through the Internet or a toll-free telephone number.
MICOA CONSULTING, LLC: A unit which sells stand-alone services of APCapital, and
which structures alternative risk transfer programs for eligible customers and
prospects.
MICOA INDEMNITY (BERMUDA) LTD.: A Bermuda company that provides a rent-a-captive
vehicle for clients and prospects.
MICOA MANAGEMENT LTD.: A Bermuda company that provides management and compliance
services to MICOA Indemnity and to clients and prospects of the financial group.
ALPHA ADVISORS, INC.: A Chicago-based investment firm that provides investment
advisory services to MICOA and its insurance company affiliates and to other
insurance company customers. It specializes in providing fixed income portfolio
management.
2
<PAGE> 5
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary.................. 4
Risk Factors........................ 11
Forward-Looking Information......... 16
The Conversion...................... 17
The Subscription, Best Efforts and
Underwritten Offerings............ 23
Use of Proceeds..................... 28
Capitalization...................... 30
Dividend Policy..................... 31
Market for Common Stock............. 31
Pro Forma Data...................... 32
Selected Historical Financial and
Operating Data.................... 36
Management's Discussion and Analysis
of Financial Condition and Results
of Operations..................... 38
</TABLE>
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Business............................ 52
Management.......................... 79
Ownership of Common Stock........... 86
Certain Transactions................ 87
Description of Capital Stock........ 88
Material Federal Income Tax
Consequences...................... 92
Legal Matters....................... 93
Experts............................. 93
Available Information............... 93
Index to Financial Statements....... F-1
</TABLE>
3
<PAGE> 6
PROSPECTUS SUMMARY
[APCAPITAL LOGO]
AN INTRODUCTION
WE ARE A LEADING PROVIDER OF MEDICAL PROFESSIONAL LIABILITY INSURANCE WITH
STRONG TIES TO THE MEDICAL COMMUNITY.
We are primarily a medical professional liability insurance company
servicing health care providers in 13 states throughout the United States, with
a concentration in the Midwest. Our insurance group includes three insurance
companies. MICOA and Insurance Corporation of America, or ICA, are domiciled in
Michigan, and RML Insurance Company, or RML, is domiciled in Illinois. We are
the number one writer of medical professional liability insurance in Michigan,
Kentucky and New Mexico, with a market share of 26% in Michigan, 27% in Kentucky
and 24% in New Mexico, based on 1999 direct premiums written as reported by A.M.
Best Company, Inc. We also generate significant medical professional liability
premium volume in Ohio, Illinois and Florida. In total, our insurance group is
the 16th largest medical professional liability writer in the United States. We
insured 13,073 physicians as of June 30, 2000.
We maintain a close relationship with the medical community we serve. In
addition to the active involvement of practicing physicians on several of its
advisory committees, MICOA and the medical professional liability insurance that
we offer have the endorsements of six medical associations. We believe our
strong relationship with the medical community is due in part to the high
quality service and claims management expertise provided to our insured
physicians. Recognizing the value of our insurance products and services, 83% of
our medical professional liability policyholders renewed their policies in 1999
despite an extremely price competitive marketplace.
Our principal office is at 1301 North Hagadorn Road, East Lansing, Michigan
48823. Our telephone number is (517)351-1150.
WE HAVE RECENTLY EXPANDED OUR PRODUCT LINES.
In 1993, we recognized the need to diversify our product line and broaden
our target market. We chose to enter the workers' compensation market for
several reasons, including: (1) the ease of entry; (2) our expertise in
underwriting insurance lines providing coverage for losses linked to an
insurable event occurring during the period of coverage, or "long tail"
liability lines; (3) our expertise in claims and risk management, especially for
health-related liability risks; and (4) the large overall size of the workers'
compensation market. For the year ended December 31, 1999, we reported $43.2
million in direct premiums written in this line. Our workers' compensation
premiums in 1999 accounted for 22.8% of our total premiums for that year.
4
<PAGE> 7
OUR EFFECTIVE DISTRIBUTION SYSTEM HAS ENABLED US TO INCREASE OUR BUSINESS
SUBSTANTIALLY.
We have a demonstrated ability to enter new markets and generate
significant internal growth through our own distribution system. Direct premiums
written have increased to $189.6 million in 1999, from $129.6 million in 1997,
representing a compound annual growth rate of 21.0%.
Direct premiums written in our medical professional liability business have
grown to $122.9 million in 1999, from $89.0 million in 1997, representing a
compound annual growth rate of 17.5%. While Michigan is still our largest source
of premium volume, the strongest growth in our medical professional liability
business during the past three years has been in Florida, Illinois and Ohio.
In our workers' compensation business, direct premiums written have
increased to $43.2 million in 1999, from $26.2 million in 1997, representing a
compound annual growth rate of 28.2%. We have experienced substantial growth in
Minnesota, Michigan and Iowa.
WE ARE AN ESTABLISHED COMPANY WITH A STRONG FINANCIAL POSITION.
Established in 1975 as a mutual insurance company, we have grown
substantially. Our direct premiums written and net income totaled $189.6 million
and $33.7 million (approximately $4.6 million excluding a one-time tax refund)
in 1999, and $92.9 million and $6.4 million for the six months ended June 30,
2000. At June 30, 2000, we had total assets of $790.7 million and total equity
of $212.8 million. MICOA's rating from A.M. Best Company, Inc. is "A-"
(Excellent), its fourth highest rating category out of 15 categories.
Our strong financial position and diverse premium base provide us the
foundation for implementing our strategic plan. In that regard, we will continue
our recent initiatives to reduce expenses, curtail less profitable underwriting
and restructure our investment portfolio.
OUR STRATEGY FOR THE FUTURE
Our strategy is focused on three primary initiatives and is designed to
provide continued growth in revenue and profitability:
BUILD ON OUR POSITION AS A LEADING NATIONAL WRITER OF MEDICAL PROFESSIONAL
LIABILITY INSURANCE.
- Emphasize underwriting standards and pricing that focus on profitability
rather than premium volume.
- Execute strategic acquisitions in our industry segment.
- Continue to pursue internal growth and geographic expansion.
- Refocus our marketing and product initiatives to provide more
cost-effective, standardized products and services.
- Maintain our historically close relationship with the medical community.
- Develop effective, customer-oriented business processes, including
e-commerce capabilities.
CONVERT FROM A MUTUAL TO A STOCK COMPANY CULTURE.
- Emphasize profitable underwriting rather than access to coverage.
- Restructure our investment portfolio and strategy.
- Become a lower cost producer.
PURSUE OTHER STRATEGIC INITIATIVES.
- Continue to write workers' compensation insurance in niche classes and
markets.
- Market our alternative risk transfer capabilities.
- Develop financial services and products for our physician customer base.
5
<PAGE> 8
SUMMARY HISTORICAL FINANCIAL AND OPERATING DATA
The following table sets forth summary historical consolidated financial
data. The summary income statement data for each of the three years ended
December 31, 1999 and balance sheet data as of December 31, 1999 and 1998 have
been derived from our audited consolidated financial statements and notes
thereto included elsewhere in this prospectus. The summary income statement data
for each of the years ended December 31, 1996 and 1995 and balance sheet data as
of December 31, 1997, 1996, and 1995 have been derived from our audited
consolidated financial statements not included in this prospectus. The summary
income statement data for the six months ended June 30, 2000 and 1999 and
balance sheet data as of June 30, 2000 and June 30, 1999 have been derived from
our unaudited interim consolidated financial statements. All unaudited interim
consolidated financial data presented in the tables below reflect all
adjustments (consisting of normal, recurring accruals) necessary for a fair
presentation of our consolidated financial position and results of operations
for such periods. The results of operations for the six months ended June 30,
2000 are not necessarily indicative of the results to be expected for the full
year. The following summary historical consolidated financial data has been
prepared in accordance with generally accepted accounting principles, or GAAP,
except that the combined statutory data presented below has been prepared in
accordance with applicable statutory accounting practices and was taken from our
annual statements filed with insurance regulatory authorities.
The following is a summary, and in order to fully understand our
consolidated financial data, you should also read "Selected Historical Financial
and Operating Data," "Management's Discussion and Analysis of Financial
Condition and Results of Operations," and our Consolidated Financial Statements
and the notes thereto included elsewhere in this prospectus. In particular,
those other sections of this prospectus contain information about the adoption
of GAAP accounting standards and transactions affecting comparability of results
of operations between periods that are not included in this summary.
6
<PAGE> 9
SUMMARY HISTORICAL FINANCIAL AND OPERATING DATA (CONTINUED)
<TABLE>
<CAPTION>
AT OR FOR THE
SIX MONTHS ENDED AT OR FOR THE
JUNE 30, YEAR ENDED DECEMBER 31,
------------------- ----------------------------------------------------
2000 1999 1999 1998 1997(A) 1996(A) 1995
-------- -------- -------- -------- -------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
REVENUE DATA:
Direct premiums written............. $ 92,904 $ 83,204 $189,647 $160,305 $129,593 $118,839 $ 91,519
Net premiums written................ 85,656 72,955 158,029 147,801 110,776 100,478 80,534
======== ======== ======== ======== ======== ======== ========
Net premiums earned................. $ 86,491 $ 72,297 $148,656 $136,995 $106,764 $ 97,597 $ 82,029
Investment income................... 17,154 15,787 30,539 29,451 28,817 28,725 27,054
Realized gains...................... 1,864 623 1,849 9,540 1,687 956 846
Other income........................ 2,103 264 6,676 2,832 1,757 4,507 968
-------- -------- -------- -------- -------- -------- --------
Total revenues.................... 107,612 88,971 187,720 178,818 139,025 131,785 110,897
LOSSES AND EXPENSES:
Losses and loss adjustment
expenses(b)....................... 73,636 63,385 130,949 122,053 88,418 52,996 61,790
Underwriting expenses............... 19,960 19,226 40,037 38,455 30,798 22,503 16,815
Investment expense.................. 1,553 1,857 3,283 2,943 2,283 3,652 3,684
Interest expense.................... 464 266 565 791 343 325 --
Amortization expense................ 1,164 485 1,177 906 183 61 --
Other expense....................... 1,297 39 1,739 1,206 1,122 1,137 15
-------- -------- -------- -------- -------- -------- --------
Total expenses.................... 98,074 85,258 177,750 166,354 123,147 80,674 82,304
-------- -------- -------- -------- -------- -------- --------
Income from operations before federal
income taxes........................ 9,538 3,713 9,970 12,464 15,878 51,111 28,593
Federal income taxes(c)............... 3,110 523 (23,760) 3,400 4,829 16,300 8,846
-------- -------- -------- -------- -------- -------- --------
Income before cumulative effect of
change in accounting principle...... 6,428 3,190 33,730 9,064 11,049 34,811 19,747
Cumulative effect of change in
accounting principle(b)............. -- -- -- -- -- (20,542) --
-------- -------- -------- -------- -------- -------- --------
Net income(c)......................... $ 6,428 $ 3,190 $ 33,730 $ 9,064 $ 11,049 $ 14,269 $ 19,747
======== ======== ======== ======== ======== ======== ========
SELECTED BALANCE SHEET DATA:
Total cash and investments.......... $583,729 $539,030 $541,894 $548,665 $521,469 $494,198 $443,791
Total assets........................ 790,683 718,318 794,390 715,596 677,529 644,052 547,354
Total liabilities................... 577,843 536,225 585,604 526,844 501,137 486,468 396,825
Total equity........................ 212,840 182,093 208,786 188,752 176,392 157,584 150,529
GAAP RATIOS:
Loss ratio(b)....................... 85.1% 87.7% 88.1% 89.1% 82.8% 54.3% 75.3%
Underwriting expense ratio.......... 23.1 26.6 26.9 28.1 28.8 23.1 20.5
Combined ratio...................... 108.2 114.3 115.0 117.2 111.6 77.4 95.8
Operating ratio..................... 90.1 95.0 96.7 97.8 86.8 51.7 67.3
STATUTORY DATA:
Loss ratio.......................... 84.8% 87.5% 88.0% 89.4% 82.8% 85.3% 75.3%
Underwriting expense ratio.......... 26.2 29.2 29.2 27.0 28.0 24.3 22.4
Combined ratio...................... 111.0 116.7 117.2 116.4 110.8 109.6 97.7
Surplus............................. $180,276 $146,695 $179,829 $144,541 $133,715 $125,883 $116,931
Ratio of net premiums written
to surplus........................ 0.95x 0.99x 0.88x 1.02x 0.83x 0.80x 0.69x
</TABLE>
-------------------------
(a) MICOA acquired Kentucky Medical Insurance Company in 1996 in a transaction
accounted for under the purchase method of accounting. MICOA's mergers with
New Mexico Physicians Mutual Insurance Company and State Mutual Insurance
Company in 1997 were accounted for under the pooling method of accounting.
(b) Loss and loss adjustment expense for 1996 excludes discontinuation of loss
reserve discounting which is reported as a cumulative effect of a change in
accounting principle.
(c) Operating results for the year ended December 31, 1999 include the effects
of a one-time settlement with the Internal Revenue Service. Without this
settlement, net income for the year ended December 31, 1999 would have been
approximately $4.6 million.
7
<PAGE> 10
PLAN OF CONVERSION
We are converting MICOA from a mutual insurance company to a stock
insurance company through a process described in our plan of conversion and in
accordance with Michigan insurance law. The plan of conversion has been approved
by MICOA's board of directors and the Office of Financial and Insurance Services
for the State of Michigan, or OFIS. The plan of conversion still must be
approved by MICOA policyholders, who are meeting on , 2000. Once
policyholders approve the plan of conversion, the conversion will be complete
when we file MICOA's revised articles of incorporation with the OFIS and
complete the offerings.
WHY WE ARE CONVERTING
We are converting MICOA to raise capital to achieve the objectives stated
above, and to provide a more flexible and effective corporate structure to
facilitate strategic transactions. The conversion will increase our capital to
facilitate future product line and geographic expansion, enhance our operating
flexibility and ability to compete, allow us to use APCapital's stock for
potential acquisitions, enhance our access to the capital markets and enable us
to use stock-based compensation plans to attract, motivate and retain qualified
employees.
8
<PAGE> 11
SUMMARY OF THE OFFERINGS
THE SUBSCRIPTION OFFERING..... We are offering APCapital common stock in the
subscription offering to holders of MICOA
insurance policies as of June 28, 2000 and to
directors and officers of MICOA or APCapital
through subscription rights. A subscription
right is a right to purchase APCapital common
stock. For more information, see "The
Subscription, Best Efforts and Underwritten
Offerings -- Eligibility to Participate in the
Subscription and Best Efforts Offerings,"
" -- How to Purchase Common Stock in the
Subscription and Best Efforts Offerings" and
" -- Minimum and Maximum Purchases in the
Subscription and Best Efforts Offerings."
THE BEST EFFORTS OFFERING..... Concurrently with the subscription offering, we
are offering the shares of stock in APCapital
to select members of the general public who
have a relationship with MICOA, but were not
MICOA policyholders on June 28, 2000, or MICOA
or APCapital officers or directors. The rights
of best efforts offering participants to buy
APCapital stock are subject to the prior rights
of subscription offering participants and to
our sole discretion to reject any offer to
purchase stock. For more information see "The
Subscription, Best Efforts and Underwritten
Offerings -- Eligibility to Participate in the
Subscription and Best Efforts Offerings."
THE FIRM COMMITMENT
UNDERWRITTEN OFFERING......... We are offering APCapital stock to members of
the general public in a firm commitment
underwritten offering. Any shares for which
subscriptions are not received and accepted in
the subscription and best efforts offerings may
be sold in the firm commitment underwritten
offering. We anticipate the offering price in
the underwritten offering to be no less than
$ per share and no more than
$ per share. There can be no assurance
that the actual range, when finally determined,
will not be different than the anticipated
range. For more information see "The
Subscription, Best Efforts and Underwritten
Offerings -- The Firm Commitment Underwritten
Offering."
HOW TO BUY STOCK IN THE
SUBSCRIPTION AND BEST
EFFORTS OFFERINGS........... To buy common stock in the subscription or best
efforts offering, eligible participants in
those offerings must sign and complete the
enclosed stock order form and send it to us
with full payment in the envelope provided by
the date and time indicated on the cover of
this prospectus. Payment may be made by check
or money order payable to ChaseMellon
Shareholder Services, L.L.C. You have no right
to modify or withdraw your investment without
our consent. We may reject any incomplete or
late stock order. See "The Subscription, Best
Efforts and Underwritten Offerings."
9
<PAGE> 12
DETERMINATION OF OFFERING
PRICE......................... We determined the offering price per share and
the total number of shares offered based upon a
valuation of MICOA, which was prepared by RP
Financial, LC, in accordance with the
requirements of the Michigan Insurance Code.
The same price will be paid in the subscription
and best efforts offerings. If the offering
price in the underwritten offering is below the
offering price in the subscription and best
efforts offerings, the difference will be
refunded to subscribers in those offerings. If
the offering price in the underwritten offering
is more than the price paid in the subscription
and best efforts offerings, participants in
those offerings will not have to pay more for
their shares and we will not adjust the number
of shares issued to them. For additional
details, see "The Conversion -- Stock Price and
Number of Shares to be Issued in the
Offerings."
TERMINATION OF THE
OFFERINGS..................... We have the right to terminate the offerings
and not consummate the conversion. If we
terminate the offerings, your money will be
promptly refunded, without interest.
DIVIDEND POLICY
We do not currently intend to pay dividends to shareholders of APCapital.
Moreover, the payment of any dividends from the insurance subsidiaries to
APCapital is subject to a number of regulatory conditions intended to protect
policyholders. These are described under "Business -- Insurance Regulatory
Matters."
USE OF PROCEEDS
We will use 50% of the net proceeds from the offerings to make a capital
contribution to MICOA in exchange for its stock. The remainder will be used for
financing future acquisitions and for general corporate purposes which may
include, without limitation, making additional contributions to our
subsidiaries. For additional details, see "Use of Proceeds."
RELATED PARTY TRANSACTIONS
In October 1999, MICOA purchased all of the stock of Stratton-Cheeseman
Management Company, the company that managed our operations since MICOA's
inception in 1975. Stratton-Cheeseman Management Company was 94.4% owned by
William Cheeseman, who is our president and chief executive officer and a member
of our board of directors. In addition, Mr. Cheeseman owns 71.25% of SCW Agency
Group, Inc., an insurance agency which acts as an agent for us in Michigan,
Kentucky, Florida, and Nevada for medical professional liability insurance. SCW
Agency Group, Inc. has historically accounted for a significant portion of our
medical professional liability insurance sales and our total insurance sales.
These transactions and relationships are described in "Certain Transactions."
The above information is a summary of what we believe is the most important
material for you to know about the subscription and best efforts offerings.
Because it is a summary, it does not contain all the information that may be
important to you. To understand the offerings fully, you should carefully read
this entire document. Unless otherwise stated, when we refer to "premiums," we
are referring to our net premiums written.
10
<PAGE> 13
RISK FACTORS
An investment in our common stock involves a number of risks. You should
carefully consider the following information about these risks, together with
the other information contained in this prospectus, before investing in shares
of our common stock. Any of the risks described below could result in a
significant or material adverse effect on our business, financial condition or
results of operations, and a corresponding decline in the market price of our
common stock. You should carefully consider the risk factors and other
information in this prospectus prior to making an investment decision regarding
the common stock.
COMPANY RISKS
IF WE ESTABLISH INADEQUATE LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES, OR IF THEY
DEVELOP LESS FAVORABLY THAN IN THE PAST, OUR PROFITABILITY MAY DECLINE.
We maintain accounting reserves to cover amounts we estimate we will need
to pay policyholders for insured losses, called loss reserves, and for the
expenses we expect to incur to settle policyholder claims, called loss
adjustment expense, or LAE, reserves. These estimates are based on assumptions
related to the cost of settling such claims based on (1) facts and circumstances
then known, (2) predictions of future events, (3) estimates of future trends in
claims frequency and severity, (4) judicial theories of liability and (5)
legislative activity. Determining the appropriate level of these reserves is an
inherently uncertain process and we cannot assure you that our actual losses
will not exceed our reserves. If we experience greater than expected severity or
frequency of claims, there is a risk that currently established reserves will be
inadequate. Inflationary pressure may also affect the adequacy of reserves.
Although our reported earnings in recent years have been increased by the
favorable development on prior year loss reserves, continued favorable
development is not certain. If our reserves are too low and we have to increase
them, the adjustment will reduce income during the period in which the
adjustment is made and may cause the common stock's market price to fall.
SUBSTANTIAL JURY AWARDS AGAINST OUR INSUREDS COULD IMPOSE LIABILITY ON US
EXCEEDING OUR POLICY LIMITS OR THE FUNDS WE HAVE RESERVED FOR THE PAYMENT OF
CLAIMS.
Claims against medical professionals often involve serious injury or even
death of the claimant. As a result, jury awards can often be significant.
Although we believe we have adequate reinsurance in place and our contractual
exposure is legally limited to our policy limits, our loss could exceed our
policy limits due to the imposition of extra-contractual liability. A
significant jury award, or series of awards, against one or more of our insureds
could require us to pay large sums of money in excess of our reserve amount. In
most of our major market states, some form of tort reform has been passed or is
under consideration which sets limits on jury awards. However, should these
measures fail or be overturned, significant increases in jury awards and claim
settlements could result.
IF COMPETITIVE OR OTHER CONDITIONS CHANGE, OUR REVENUES MAY DECREASE OR OUR
EXPENSES MAY INCREASE SO THAT OUR BUSINESS IS NO LONGER PROFITABLE.
Many factors influence the financial results in the sectors in which we
compete. These factors include, among other things, changes in the severity and
frequency of claims, changes in applicable law, regulatory reform, changes in
judicial attitudes toward liability claims, and changes in inflation, interest
rates and general economic conditions. Our earnings could be reduced by
competitive changes affecting rates or other aspects of the lines of the
insurance business in which we operate to a greater extent than if we were more
diversified. Our profitability could also be significantly reduced by cyclical
factors in the insurance industry, such as changing buying patterns and
fluctuations in interest rates.
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In the medical professional liability insurance industry, for example, the
availability of insurance is determined principally by (1) the industry's level
of capitalization, (2) historical underwriting results, (3) returns on
investment and (4) perceived premium rate adequacy. Historically, the financial
performance of the industry has tended to fluctuate in cyclical patterns
characterized by periods of greater competition in pricing and underwriting
terms and conditions, sometimes referred to as a soft insurance market, followed
by periods of capital shortage and lesser competition. In a soft insurance
market, competitive conditions could result in premium rates and underwriting
terms and conditions which may cause us to no longer be profitable.
CHANGES IN THE HEALTH CARE INDUSTRY COULD REDUCE THE SIZE OF OUR PREMIUMS AND
THE NUMBER OF CUSTOMERS BUYING OUR INSURANCE.
Continued major changes to the United States health care system could
dramatically affect the need for MICOA's insurance coverage. In the past several
years, managed care has limited physicians' ability to conduct a traditional
medical practice. As a result, many physicians have joined or affiliated with
managed care organizations, health care delivery systems or practice management
organizations. Larger health care systems generally retain more risk by
accepting higher deductibles and self-insured retentions or form their own
captive insurance companies. This reduces the size of premiums paid to, and the
number of customers buying coverage from, insurers like us. This consolidation
has reduced the role of our traditional customers, the physician and the small
medical group, in medical professional liability insurance purchasing decisions.
Significant reductions in provider reimbursement from third-party payors, or
other events in the health care industry which reduce a health professional's
profitability, could also restrict their ability to pay adequate premiums.
WE MAY BE UNABLE TO OBTAIN ADEQUATE AND AFFORDABLE REINSURANCE COVERAGE FROM
CREDITWORTHY REINSURERS, WHICH WOULD INCREASE OUR RISK AND RESTRICT OUR ABILITY
TO OFFER INSURANCE AT COMPETITIVE RATES AND COVERAGE LIMITS.
Reinsurance is an insurance company's practice of giving up, or ceding,
part of an insurance premium under an insurance policy to another insurance
company. In exchange, the insurance company that receives the ceded premiums
agrees to reimburse part of the liability arising under the related insurance
policy. We use reinsurance arrangements to limit and manage the amount of risk
we retain, to stabilize our underwriting results and to increase our
underwriting capacity. The amount and cost of reinsurance available to us is
subject, in large part, to prevailing market conditions beyond our control. Our
ability to provide insurance at competitive premium rates and coverage limits on
a continuing basis depends in part upon our ability to secure adequate
reinsurance in amounts and at rates that are commercially reasonable. We cannot
assure you that we will continue to be able to obtain reinsurance or that the
losses we experience will be within the coverage limits of our reinsurance.
Further, we are subject to credit risk with respect to our reinsurers because
reinsurance does not relieve us of liability to our insureds for the risks ceded
to reinsurers. A significant reinsurer's inability or refusal to reimburse us
under the terms of a reinsurance agreement could materially reduce our
profitability.
THE CONCENTRATION OF OUR BUSINESS IN MICHIGAN LEAVES US VULNERABLE TO VARIOUS
FACTORS SPECIFIC TO THAT STATE.
In 1999, approximately 37% of our total direct premiums written were
generated in Michigan. This concentration means that our revenues and
profitability depend heavily on prevailing regulatory, economic and other
conditions in Michigan. Among the factors we are vulnerable to are a decrease in
the number of medical practices or an increase in the number or amount of damage
awards in Michigan.
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IF ACTIONS RELATING TO THE CONVERSION ARE LEGALLY CHALLENGED, THE CONVERSION MAY
BE DELAYED OR WE MAY NOT BE ABLE TO IMPLEMENT OUR BUSINESS PLAN.
The statutory period for legally challenging the validity of the Michigan
Insurance Commissioner's decision approving our plan of conversion will have
expired before the conversion becomes effective and the offerings are completed.
A suit could still be brought, however, challenging actions taken or proposed to
be taken under the plan of conversion, or actions taken that fail to comply with
the business plan we submitted as part of the plan of conversion. Such a suit
could result in substantial uncertainty relating to the terms and effectiveness
of the plan of conversion, and a substantial period of time might be required to
reach a final resolution of such suit. In the event of such a challenge, we may
determine not to complete the conversion, or we may determine to complete the
conversion despite the risk of an adverse outcome. An adverse outcome could
include significant money damages or an injunction prohibiting us from effecting
the plan of conversion or fully implementing our business plan after the
conversion. Any such outcome could weaken our financial position, and materially
reduce our profitability and the market price of the common stock.
APCAPITAL DOES NOT CURRENTLY INTEND TO PAY DIVIDENDS AND ITS ABILITY TO PAY
DIVIDENDS WILL BE LIMITED BY APPLICABLE LAW.
Following the conversion, APCapital will be an insurance holding company
and is not expected to have significant operations of its own. We do not
currently intend to pay dividends to shareholders of APCapital. The assets of
APCapital will initially consist of the stock of MICOA and its affiliates and a
portion of the proceeds from the offerings described in this prospectus.
APCapital will depend principally on the receipt of dividends from its operating
subsidiaries to satisfy its financial obligations, including the payment of any
dividends to its shareholders in the future. APCapital therefore will be
dependent upon the results of operations of those companies. In addition, the
laws of Michigan and the states in which MICOA's other insurance operations are
domiciled impose limits on how and when those companies can pay dividends to
shareholders.
YOUR RIGHT TO THE ASSETS OF APCAPITAL'S SUBSIDIARIES WILL BE VERY LIMITED IF
THEY BECOME INSOLVENT.
If any of APCapital's subsidiaries become insolvent, your right to a
distribution of assets in any insolvency proceeding will be very limited.
Neither APCapital nor its shareholders will have any right to proceed directly
against the assets of APCapital's insurance company subsidiaries or to cause
their liquidation under federal or state bankruptcy laws. Under the Michigan
Insurance Code and other state insurance laws, policyholders and other creditors
of an insurance company are entitled to payment in full in an insolvency
proceeding before shareholders become entitled to receive any distribution. See
"Business -- Insurance Regulatory Matters." Similarly, in any liquidation or
insolvency proceeding involving APCapital's non-insurance company subsidiaries,
APCapital and its shareholders would generally be subordinated to the rights of
creditors in such proceeding.
ALTHOUGH OUR STRATEGY FOR GROWTH INCLUDES EXPANSION AND DIVERSIFICATION OF OUR
INSURANCE PRODUCTS AND GEOGRAPHIC OPERATIONS, THERE IS NO ASSURANCE THAT THIS
STRATEGY WILL BE SUCCESSFUL.
Part of our strategic plan is to expand and diversify our products and
operations to meet the financial insurance needs of physicians and related
health care providers. We plan to achieve this goal through the development and
marketing of ancillary financial service products to an expanded customer base.
In addition, we plan to expand our geographic reach beyond the 14 states where
we currently write insurance coverage. We may, however, experience delays,
regulatory impediments and
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other complications in implementing our expansion and diversification strategy
that could reduce our profitability and ultimately cause the strategy to fail.
IF OUR CURRENT RELATIONSHIP WITH MEDICAL ASSOCIATIONS AND PHYSICIANS DOES NOT
CONTINUE, OUR ABILITY TO MARKET OUR PRODUCTS AND COMPETE SUCCESSFULLY MAY BE
HARMED.
MICOA was organized in 1975 under the sponsorship of the Michigan State
Medical Society and has received their endorsement. MICOA is also currently
endorsed by several other medical societies. MICOA relies on its relationship
with physicians and medical associations in marketing its policies in
competition with commercial insurance companies and physician-owned companies.
We cannot assure you that we will be able to maintain these endorsements and
relationships. The loss of these endorsements and relationships could eliminate
an important resource for marketing our products and limit our ability to
compete with other insurance providers.
OUR INSURANCE PREMIUMS AND NET INCOME COULD BE REDUCED BY AN INTERRUPTION OR
CHANGE IN A THIRD-PARTY DISTRIBUTION RELATIONSHIP UPON WHICH WE ARE HIGHLY
DEPENDENT.
MICOA markets its products through approximately 300 independent agents in
14 states. However, one agent, which is controlled by our president and chief
executive officer, accounted for approximately 59% of our total medical
professional liability insurance premiums in 1999. Until January 2000, this
agency had the exclusive right to market our medical professional liability
insurance in Michigan and Kentucky in exchange for enhanced service and
commission rates that were lower than prevailing market rates. As of January
2000, the contract was modified to remove the exclusivity and to modestly
increase commission rates. We cannot assure you that our relationship with this
agent will continue in its current form. An interruption in our relationship
with this agent, or a material increase in the commission rates charged by this
agent, could significantly reduce our medical professional liability insurance
premiums and our net income.
WE MAY NOT BE ABLE TO IMPLEMENT OUR STRATEGY OF SUCCESSFULLY COMPLETING FUTURE
ACQUISITIONS, AND COMPLETED ACQUISITIONS MAY LEAD TO UNEXPECTED LIABILITIES.
Our business strategy calls for growth through strategic acquisitions to
strengthen and expand our operating and marketing capabilities. We believe that
there will continue to be a consolidation in the medical professional liability
insurance industry, and that our opportunities to make strategic acquisitions
will increase. The full benefits of these acquisitions, however, require
integration of administrative, financial, sales, claims and marketing approaches
and personnel. If we are unable to successfully integrate these acquisitions, we
may not realize the benefits of the acquisitions, and our financial results may
be negatively affected. A completed acquisition may adversely affect our
financial condition and results of operations, including our capital
requirements and the accounting treatment of these acquisitions. Completed
acquisitions may also lead to significant unexpected liabilities after the
consummation of these acquisitions.
IF OUR PRESIDENT AND CHIEF EXECUTIVE OFFICER DOES NOT CONTINUE IN THAT ROLE, OUR
FINANCIAL PERFORMANCE MAY DECLINE.
MICOA has been operated since its inception by our president and chief
executive officer, William B. Cheeseman. If Mr. Cheeseman does not continue in
his role with us for any reason, our operations could be interrupted and our
financial performance could be adversely affected.
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IF WE FAIL TO COMPLY WITH INSURANCE INDUSTRY REGULATIONS, OR IF THOSE
REGULATIONS BECOME MORE BURDENSOME TO US, WE MAY NOT BE ABLE TO OPERATE
PROFITABLY.
We are regulated primarily by the OFIS with respect to many aspects of our
business and financial condition. We are also subject to various accounting and
financial requirements established by the other states in which we operate, as
well as the National Association of Insurance Commissioners. In some cases these
requirements include approval of price increases for our insurance products.
Failure to comply with regulatory requirements could result in consequences
ranging from a regulatory examination to a regulatory takeover, which would make
our business less profitable. In addition, insurance laws and regulations could
change or additional restrictions could be imposed which are more burdensome and
costly to us and which make our business unprofitable. Because these laws and
regulations are for the protection of policyholders, any changes may not be in
your best interest as a shareholder.
A REDUCTION IN OUR A.M. BEST RATING COULD MAKE IT MORE DIFFICULT FOR US TO SELL
OUR PRODUCTS.
Ratings assigned by A.M. Best Company, Inc. are based upon factors which
concern policyholders. Ratings provide both industry participants and insurance
consumers meaningful information on specific insurance companies. Higher ratings
generally indicate financial stability and a strong ability to pay claims. We
have an A.M. Best rating of "A-" (Excellent). If our rating is reduced, it could
weaken our competitive position and impair our ability to market and sell our
products.
CHANGES IN PREVAILING INTEREST RATES MAY REDUCE OUR REVENUES, CASH FLOWS OR
ASSETS.
We have invested a significant portion of our investment portfolio in fixed
income securities. In recent years, we have earned our investment income
primarily from interest income on this portfolio. Lower interest rates could
reduce the return on our investment portfolio, if we must reinvest at rates
below those we currently have on securities in our portfolio. The reduced
investment income could also reduce our cash flows. Higher interest rates could
reduce the market value of our fixed income investments. See
"Business -- Investments."
COMMON STOCK RISKS
YOU MAY FIND IT DIFFICULT TO SELL YOUR STOCK IF AN ACTIVE TRADING MARKET DOES
NOT DEVELOP.
This is the first time APCapital has issued common stock, so no market
currently exists for our shares. We have applied to list our stock on the Nasdaq
National Market because the companies listed on it are usually followed by
market analysts and the investment community, making it more likely that an
active trading market will develop. Although we anticipate satisfying all of the
requirements for listing, satisfaction of some of those conditions is beyond our
control and will depend on the number of purchasers in the offerings who are not
officers and directors of APCapital or its subsidiaries and the total number of
shares which are sold. See "Market for the Common Stock."
APPLICABLE LAW AND VARIOUS PROVISIONS IN OUR ARTICLES AND BYLAWS WILL PREVENT OR
DISCOURAGE UNSOLICITED ATTEMPTS TO ACQUIRE APCAPITAL WHICH YOU MAY BELIEVE ARE
IN YOUR BEST INTERESTS OR WHICH MIGHT RESULT IN A SUBSTANTIAL PROFIT TO YOU.
APCapital is subject to provisions of Michigan corporate and insurance laws
which have the effect of impeding a change of control by requiring prior
approval of a change of control transaction by the OFIS and the board of
directors. In addition, APCapital's articles and bylaws include provisions
which: (1) allow for the issuance of "blank check" preferred stock without
further
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shareholder approval; (2) set high vote requirements for certain amendments to
the articles and bylaws; (3) establish a staggered board; (4) limit the ability
of shareholders to call special meetings; and (5) require unanimity for
shareholder action taken without a meeting. These provisions may discourage a
takeover attempt which you consider to be in your best interests or in which you
would receive a substantial premium over the then-current market price. In
addition, approval by the OFIS of a change of control transaction may be
withheld even if the transaction would be in the shareholders' best interests if
it determines that the transaction would be detrimental to policyholders. As a
result, you may not have an opportunity to participate in such a transaction.
See "Description of Capital Stock -- Restrictions on Acquisition of and Business
Combinations by APCapital" and "-- Provisions of Articles of Incorporation and
Bylaws -- Anti-Takeover Effects."
WE MAY NOT BE ABLE TO COMPLETE THE OFFERINGS WITHIN OUR ANTICIPATED TIME FRAME.
APCapital expects to complete the offerings before February 14, 2001.
Nevertheless, it is possible that adverse market, economic or regulatory
conditions or other factors could delay the completion of the offerings, and
result in increased costs in completing the offerings. In addition, we may
cancel or rescind the offerings at any time in our sole discretion; accordingly,
you may not be able to purchase shares for which you have subscribed.
THE INTERNAL REVENUE SERVICE MAY ASSERT THAT POLICYHOLDERS HAVE TAXABLE GAIN
UPON RECEIPT OF SUBSCRIPTION RIGHTS.
MICOA has received a letter from RP Financial, LC stating its belief that
the subscription rights have no fair market value. Applying this conclusion in
connection with the opinion received from PricewaterhouseCoopers LLP,
policyholders should not recognize a gain upon receipt of subscription rights.
However, the federal tax consequences of the receipt, exercise and lapse of
subscription rights are uncertain and it is possible that the Internal Revenue
Service would assert, and that a court would sustain, the position that
policyholders have taxable gain upon the receipt of subscription rights. In that
case, gain would be recognized to the extent that the fair market value of the
subscription rights received by the policyholders exceeds the cost basis of any
voting rights and rights to share in any assets of MICOA that were exchanged for
the subscription rights.
FORWARD-LOOKING INFORMATION
This prospectus contains forward-looking statements that are intended to
enhance the reader's ability to assess our future economic performance.
Forward-looking statements include, but are not limited to, statements that
represent our beliefs concerning future operations, strategies, financial
results or other developments, and contain words and phrases such as "may,"
"expects," "should" or similar expressions. Because these forward-looking
statements are based on estimates and assumptions that are subject to
significant business, economic and competitive uncertainties, many of which are
beyond our control or are subject to change, actual results could be materially
different. THE FACTORS DISCUSSED ELSEWHERE IN THIS PROSPECTUS UNDER "RISK
FACTORS" MAY HAVE SUCH AN IMPACT. Other factors not currently anticipated by
management may also materially and adversely affect our results of operations.
Except as required by applicable law, we do not undertake any obligation to
publicly release any revisions which may be made to any forward-looking
statements to reflect events or circumstances occurring after the date of this
prospectus.
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THE CONVERSION
In the following section, we provide a summary of the conversion and of the
plan of conversion. The following is only a summary and is qualified by
reference to the actual terms of the plan of conversion. A copy of the plan of
conversion has been filed as an exhibit to the registration statement of which
this prospectus is a part.
PLAN OF CONVERSION
The conversion of MICOA into a company owned by shareholders is governed by
the Michigan Insurance Code and our plan of conversion. The plan of conversion
was approved by the OFIS on September 8, 2000 and was unanimously approved by
MICOA's board of directors on June 28, 2000. An amendment to the plan of
conversion allowing the firm commitment underwritten offering to take place at
the same time as the subscription and best efforts offerings was approved by
MICOA's board on October 2, 2000. Before the offerings and the conversion can be
completed, the plan of conversion must also be approved by at least two-thirds
of the votes cast by policyholders at a special meeting of policyholders to be
held on , 2000. You are entitled to vote at the meeting and
participate in the subscription offering only if you were a policyholder of
MICOA itself on June 28, 2000. Once policyholders have approved the plan of
conversion, the conversion will be completed and become effective when we file
MICOA's revised articles of incorporation with the OFIS. At the time of the
conversion, MICOA will change its name to American Physicians Assurance
Corporation and will be wholly owned by APCapital.
REASONS FOR THE CONVERSION
The board decided to proceed with the conversion in order to:
- increase our surplus by an amount equal to 50% of the net proceeds of the
offerings, thereby strengthening policyholder protection, as a result of
the contribution of proceeds by APCapital to MICOA;
- provide greater flexibility for future product line expansion and
geographic diversification;
- enhance operational flexibility and improve financial capability to
compete more effectively with other insurance companies and other types
of financial services organizations;
- support future strategic transactions, including potential acquisitions;
- create the ability to use APCapital stock, in addition to cash, as
consideration for strategic acquisitions;
- enhance our access to public capital markets; and
- permit us to attract, motivate and retain highly qualified employees
through the use of stock-based compensation programs.
INTERPRETATION AND AMENDMENT OF THE PLAN OF CONVERSION
The board of directors of MICOA has the exclusive authority to interpret
and apply the provisions of the plan of conversion to particular facts and
circumstances and to make all determinations necessary or desirable to implement
the plan of conversion. The plan of conversion states that any interpretation or
determination made by the board in good faith and based on the information that
was reasonably available will be final, conclusive and binding. The plan of
conversion also states that neither MICOA nor its directors, officers, employees
or agents will be liable to any person in connection with any such
interpretation or determination. The plan of conversion may only be amended,
withdrawn or terminated by the affirmative vote of not less than two-thirds of
the directors of MICOA then in office and approval of the OFIS.
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STOCK PRICE AND NUMBER OF SHARES TO BE ISSUED IN THE OFFERINGS
THE ESTIMATED VALUATION RANGE. In accordance with the Michigan Insurance
Code, MICOA retained RP Financial, LC to make an independent appraisal of the
estimated pro forma market value of MICOA and its subsidiaries immediately
following the conversion for use in determining the total gross proceeds to be
sought through the offerings. RP Financial is a financial consulting firm
serving the financial services industry nationwide that, among other things,
specializes in financial valuations and analyses of business enterprises and
securities, including the pro forma valuation for insurance companies
undertaking a conversion to stock form. RP Financial's fees for preparing the
original appraisal, including one update to the original if requested by MICOA,
is $75,000 plus reimbursement for out-of-pocket expenses. RP Financial may also
receive additional fees for the preparation of updates to the original appraisal
in the event that more than one update is required, in the amount of $5,000 per
update, plus reimbursement for out-of-pocket expenses incurred in the
preparation of such updates. Also, RP Financial will receive additional fees for
assistance in preparing various related documents, and such fees are anticipated
to not exceed $10,000 plus reimbursement of out-of-pocket expenses.
MICOA has also agreed to indemnify RP Financial, and any of its employees
who act for or on behalf of RP Financial in connection with the appraisal,
against any and all loss, cost, damage, claim, liability or expense of any kind,
including claims under federal and state securities laws, arising out of any
misstatement or untrue statement of a material fact or an omission to state a
material fact in the information supplied by MICOA to RP Financial, unless RP
Financial is determined to be negligent or otherwise at fault.
Until its engagement by MICOA, RP Financial had not provided to MICOA any
estimates of the valuation of MICOA pursuant to a conversion transaction, either
directly or indirectly through a third party.
In rendering its appraisal, RP Financial reviewed:
- draft copies of the prospectus of APCapital, the regulatory applications
for the conversion and related documents;
- audited financial statements for the fiscal years ended December 31, 1995
through 1999 and unaudited financial statements as of March 31, 2000,
- financial and other information for MICOA regarding balance sheet
composition and off balance sheet items, revenues and revenue growth by
line of business, marketing, underwriting and pricing, claims, risk
management, and loss control and reinsurance; and
- MICOA's Board-approved budget for the fiscal year ended 2000, as revised
in May 2000, which does not incorporate the use of proceeds.
RP Financial also had discussions with MICOA's management and board regarding
past and current business, operations, financial condition and future prospects.
In reaching its conclusion on the pro forma market value of MICOA as of June 20,
2000, RP Financial assumed that the financial and statistical information
provided by MICOA was accurate and complete. RP Financial did not independently
verify the financial statements and other information provided by MICOA or value
independently the assets and liabilities of MICOA. The valuation considers MICOA
as a going concern only and is not an indication of the liquidation value of
MICOA.
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RP Financial considered the following factors, among others, in rendering
its appraisal:
- the present and pro forma operating results and financial condition of
MICOA;
- factors impacting the external operating environment, including
prevailing economic trends, investment market trends, competition, and
developments in the medical professional liability insurance industry and
the workers' compensation insurance industry;
- a comparative evaluation of the operating and financial characteristics
of MICOA to a peer group of other insurers emphasizing medical
professional liability and workers' compensation product lines;
- the aggregate size of the offering of common stock;
- the anticipated impact of the conversion on MICOA's, business plan,
capital and earnings potential;
- the trading market conditions for securities of comparable insurance
companies; and
- the new issue market for insurance companies converting from mutual to
stock form.
In determining the estimated pro forma market value of MICOA, RP Financial
applied the pro forma market value approach, the commonly accepted valuation
technique for companies converting from mutual to stock form. This valuation
technique as applied by RP Financial in MICOA's valuation is based on the market
pricing ratios of MICOA's peer group after accounting for differences in
financial and operating conditions, risk assessment, market and competitive
assessment, dividends, liquidity of the shares, stock market conditions,
organization and regulatory matters. RP Financial selected twelve insurance
companies for inclusion in the peer group that emphasize similar lines of
insurance as MICOA, specifically medical professional liability insurance and/or
workers' compensation insurance, and whose stocks were not subject to pricing
distortions due to announced acquisitions at the time of the valuation or
alternative corporate structures. The companies included in the peer group are:
Argonaut Group, Inc., FPIC Insurance Group, Inc., Fremont General Corporation,
Frontier Insurance Group, Inc., Medical Assurance, Inc., The MIIX Group, Inc.,
PAULA Financial, Professionals Group, Inc., RTW, Inc., SCPIE Holdings, Inc., St.
Paul Companies, Inc. and Zenith National Insurance Corp. The key market pricing
ratios utilized by RP Financial included the price/earnings multiple, price/book
value ratio, price/tangible book value ratio, price/revenue ratio, and
price/assets ratio. For MICOA, these pricing ratios were computed on a pro forma
basis, incorporating the anticipated incremental benefit of the net offering
proceeds.
RP Financial reached its conclusion as to the appropriate pro forma pricing
ratios for MICOA on the basis of the average and median pricing ratios for the
peer group, with MICOA's ratios incorporating certain valuation adjustments in
relation to the peer group as determined appropriate by RP Financial. These
valuation adjustments included slight upward adjustments to MICOA's pro forma
pricing ratios for financial considerations and risk assessment. No adjustment
to MICOA's pro forma pricing ratios was required for the valuation parameters
relating to MICOA's organization and the regulatory environment, while slight
downward adjustments were applied to MICOA's pro forma pricing ratios for the
valuation parameters relating to dividends and the liquidity of MICOA's shares.
A moderate downward adjustment was applied to MICOA's pro forma pricing ratios
for operating considerations, which took into account MICOA's lower pro forma
return on equity in comparison to the peer group and for factors relating to
marketing of the shares. The latter took into account the favorable near-term
aftermarket share price performance of other converted insurance companies
following their initial public offerings.
RP Financial then computed the pro forma market value utilizing the
financial information and assumptions described above in a set of valuation
formulas established and/or endorsed by regulatory
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agencies in similar transactions incorporating the earnings, book, revenues and
assets ratios calculated by RP Financial.
In applying the book value approach, RP Financial considered both reported
equity as well as tangible equity (reported equity less intangible assets
including goodwill) as of March 31, 2000, for both MICOA and the peer group. In
MICOA's case, the deduction of intangible assets of $18.2 million reduced the
reported equity of $211.0 million as of March 31, 2000 to tangible equity of
$192.8 million. The tangible equity adjustment for the peer group, on average,
was comparable. In applying the revenues and assets approaches, RP Financial did
not make any adjustments other than to reflect the pro forma increase to MICOA's
revenues and total assets as a result of the offering.
In applying the earnings approach, RP Financial considered both reported
earnings as well as estimated core earnings (reported after-tax earnings
adjusted to exclude unusual or extraordinary items). Reported earnings for the
trailing twelve months ended March 31, 2000 were $35.5 million. RP Financial
estimated core earnings for the same period at $7.2 million, reflecting
adjustments of $25.3 million for the large tax refund received and $5.9 million
interest earned on the tax refund net of professional fees and the one-time
pre-tax expense of $1.2 million related to office closures and corresponding
employee severance costs and a 38% marginal tax rate. The adjustments for the
peer group's trailing 12 months earnings on average were relatively minor. RP
Financial also considered MICOA's board-approved fiscal year 2000 budget (as
revised in May 2000). RP Financial also reviewed MICOA's earnings for the three
months ended March 31, 2000 in order to further evaluate the reasonableness of
MICOA's 2000 budget assumptions.
RP Financial concluded that the pro forma market value of the stock to be
issued by MICOA in the conversion, as of June 20, 2000, was $155 million. A
range of value was established to be responsive to moderate changes in market
conditions, based on the appraised value of $155 million, resulting in a
valuation range of $130 million to $180 million.
The $155 million midpoint valuation resulted in a pro forma price/book
ratio of 45.08% and a price/tangible book ratio of 47.57% for MICOA, compared to
the peer group's average reported price/book ratio of 70.27% and tangible
price/book ratio of 81.56%. In terms of revenues and assets, the $155 million
midpoint value indicates a price/revenue ratio of 80.20% and price/assets ratio
of 17.11% for MICOA, as compared to the peer group average price/revenue ratio
of 78.51% and average price/assets ratio of 16.39%.
The $155 million midpoint valuation indicates a pro forma price/earnings
multiple of 12.94 times core earnings for the trailing 12 months ended March 31,
2000, in comparison to the peer group's core earnings multiple of 7.75 times.
The reported earnings multiple is not meaningful due to the high level of
non-recurring earnings during such period.
RP Financial considers book value, tangible book value and earnings to be
the most important bases for determining value consistent with industry
practice. Book value reflects historical accounting of fixed assets and
securities held for investment, dividend policies and the amount and
amortization schedule of intangible assets. Both MICOA and the peer group on
average were profitable over the last 12 months and their respective earnings
trends were generally consistent with industry trends. RP Financial also
considered MICOA's forward earnings multiple, based on budgeted earnings, and
analysts' consensus earnings forecast for the peer group of companies in
reaching its valuation conclusion. RP Financial considers revenues and assets to
be less reflective of the factors which impact the profitability of insurers and
assets typically reflect historical accounting for fixed assets and securities
held for investment.
20
<PAGE> 23
Pricing ratios for MICOA and the peer group (based on prices as of June 20,
2000) are set forth below:
<TABLE>
<CAPTION>
PRICE/EARNINGS BASED ON
------------------------------------------------------
ANNUALIZED PRICE/BOOK
REPORTED EARNINGS REPORTED EARNINGS CORE EARNINGS VALUE BASED ON
FOR THE THREE FOR THE TWELVE FOR THE TWELVE -------------------
MONTHS ENDED MONTHS ENDED MONTHS ENDED REPORTED TANGIBLE PRICE/ PRICE/
MARCH 31, 2000(B) MARCH 31, 2000 MARCH 31, 2000 EQUITY EQUITY REVENUES ASSETS
(X) (X) (X) (%) (%) (%) (%)
----------------- ----------------- -------------- -------- -------- -------- ------
<S> <C> <C> <C> <C> <C> <C> <C>
MICOA (A)
Maximum as
Adjusted........... 11.76 5.02 15.08 52.75 55.24 105.04 21.63
Maximum.............. 10.87 4.48 14.07 49.13 51.61 92.46 19.39
Midpoint............. 9.93 3.94 12.94 45.08 47.52 80.20 17.11
Minimum.............. 8.88 3.37 11.64 40.47 42.81 67.76 14.72
PEER GROUP
Average.............. n/a 7.60 7.75 70.77 81.56 78.51 16.39
Median............... n/a 7.79 7.79 70.39 77.22 67.41 19.11
</TABLE>
-------------------------
(a) Pro forma basis incorporating the impact of the net conversion proceeds at
different points in the $13.00 to $18.00 offering range.
(b) The ratios in this column are presented for illustrative purposes only. The
earnings implied therein should not be construed as projections of actual
results for 2000.
In reaching its valuation conclusion for MICOA, RP Financial also
considered the new issue market and pricing for insurance company conversions.
RP Financial considered the pro forma pricing of other medical professional
liability insurers to be most meaningful. There were only two such conversion
transactions during the last 12 months, one of which involved a structure that
is not comparable. In comparison to the comparable conversion transaction, which
involved The MIIX Group, completed in August 1999, MICOA's pro forma
price/earnings and price/tangible book value ratios are lower than The MIIX
Group's initial pricing. This is in large part due to less favorable current
pricing for the industry sector as a whole.
Based upon RP Financial's opinion and the MICOA board's determination that
the number of shares of common stock to be sold is 10 million shares, the price
per share was determined based on a range from $13.00 per share at the minimum
to $18.00 per share at the maximum. If market conditions, MICOA's financial
condition or other factors considered in determining the pro forma market value
change, we may request that RP Financial prepare an update to the original
valuation letter, which may result in a change in the midpoint valuation and the
resulting valuation range.
RP FINANCIAL'S VALUATION IS NOT INTENDED, AND MUST NOT BE CONSTRUED, AS A
RECOMMENDATION OF ANY KIND AS TO THE ADVISABILITY OF PURCHASING THESE SHARES. RP
FINANCIAL DID NOT INDEPENDENTLY VERIFY THE CONSOLIDATED FINANCIAL STATEMENTS AND
OTHER INFORMATION PROVIDED BY MICOA, NOR DID RP FINANCIAL VALUE INDEPENDENTLY
THE ASSETS OR LIABILITIES OF MICOA. THE VALUATION CONSIDERS MICOA AS A GOING
CONCERN AND SHOULD NOT BE CONSIDERED AS AN INDICATION OF THE LIQUIDATION VALUE
OF MICOA. MOREOVER, BECAUSE THIS VALUATION IS NECESSARILY BASED UPON ESTIMATES
AND PROJECTIONS OF A NUMBER OF MATTERS, ALL OF WHICH ARE SUBJECT TO CHANGE FROM
TIME TO TIME, NO ASSURANCE CAN BE GIVEN THAT PERSONS PURCHASING COMMON STOCK IN
THE OFFERINGS WILL THEREAFTER BE ABLE TO SELL SUCH SHARES AT PRICES AT OR ABOVE
THE PURCHASE PRICE OR IN THE RANGE OF THE VALUATION DESCRIBED ABOVE.
A copy of the valuation letter of RP Financial has been filed as an exhibit
to the registration statement of which this prospectus is a part. Any subsequent
valuation letter will also be filed as an exhibit to the registration statement.
21
<PAGE> 24
THE SUBSCRIPTION AND BEST EFFORTS OFFERINGS PRICE. Under the plan of
conversion, we are offering 10 million shares of common stock at a price based
on our appraised value and the resulting range of value. In accordance with the
RP Financial valuation letter, the price per share in the subscription and best
efforts offerings is within the valuation range of $13.00 per share to $18.00
per share. The price per share at which shares are being offered in the
subscription and best efforts offerings was determined by APCapital's board of
directors (or a committee thereof) immediately prior to the commencement of
those offerings based, in part, on advice from its financial advisor regarding
current market conditions, prices for the stock of comparable companies and
other factors that are customarily considered in determining an initial offering
price.
THE UNDERWRITTEN OFFERING PRICE. The price for the shares sold in the
underwritten offering will be determined by negotiations between us and the
underwriters in the underwritten offering immediately prior to the completion of
that offering and is expected to be not less than $ per share and not more
than $ per share. The actual range for the underwritten offering will not be
determined until immediately before that offering is commenced. There can be no
assurance that the actual range, when finally determined, will not be different
than the anticipated range. The price will be based on then-existing market
conditions, prices for the stock of comparable companies that are publicly
traded and other factors that are customarily considered in determining an
initial underwritten offering price. If the purchase price per share for the
shares sold in the underwritten offering is less than the price paid in the
subscription offering and the best efforts offering, we will issue you a refund
equal to the difference in the per share prices multiplied by the number of
shares for which you subscribed. In the unlikely event that the offering price
per share in the underwritten offering is more than the price paid in the
subscription offering and best efforts offering, you will not have to pay any
more for your shares and we will not adjust the number of shares of APCapital
stock issued to you. See "Material Federal Income Tax Consequences" for a
discussion of possible tax implications if this should occur.
In the event of a full exercise of the underwriters' over-allotment
provision, we will issue up to an additional 15% of the total number of shares
offered in the underwritten offering, or up to 1.5 million shares, at the
offering price per share.
MANAGEMENT PURCHASES IN THE SUBSCRIPTION OFFERING
The plan of conversion limits the aggregate number of shares that officers
and directors may buy to 3% of the shares being offered in the subscription
offering, or 300,000 shares. Individual officers and directors may buy from a
minimum of 100 shares to a maximum of shares. In determining
whether the maximum purchase amount has been reached, an individual officer's or
director's purchase will be aggregated with purchases by the following
associates of the officer or director:
- entities other than APCapital, MICOA or their subsidiaries of which the
officer or director is an officer, partner or beneficial owner of at
least 10% of any class of equity securities;
- any trust or other estate in which the officer or director has a
substantial beneficial interest or as to which the officer or director
serves as trustee or in a similar fiduciary capacity;
- any relative or spouse of the officer or director, or any relative of
such spouse, who has the same home as the officer or director; and
- any person who is insured under the same group insurance policy as the
officer or director.
No officer or director is considered an associate of any other officer or
director.
If officers and directors buy fewer than 300,000 shares, the remaining
shares will be available for policyholders to purchase and, if not purchased by
policyholders, the shares may be purchased in the best efforts or underwritten
offerings. Shares purchased by officers and directors may not be sold until the
one year anniversary of the completion of the conversion. See "Ownership of
Common Stock" for a table describing intended purchases by officers and
directors in the subscription offering.
22
<PAGE> 25
THE SUBSCRIPTION, BEST EFFORTS
AND UNDERWRITTEN OFFERINGS
We are offering for sale 10 million shares of the common stock of APCapital
in the subscription, best efforts and underwritten offerings. In this section we
provide certain information regarding eligibility to participate, how to buy
stock, and the minimum and maximum amount of stock you can buy in the
subscription and best efforts offerings, and other information about the
subscription, best efforts and underwritten offerings.
ELIGIBILITY TO PARTICIPATE IN THE SUBSCRIPTION AND BEST EFFORTS OFFERINGS
THE SUBSCRIPTION OFFERING. Ninety-seven percent of the shares being
offered in the subscription offering are being offered to eligible
policyholders. Eligible policyholders are named policyholders on insurance
policies issued by MICOA and in force as of June 28, 2000. Three percent of the
shares being offered in the subscription offering are being offered to officers
and directors of APCapital and MICOA. The shares of common stock in the
subscription offering are being offered through subscription rights. A
subscription right is a right to purchase APCapital common stock. You are
prohibited by the plan of conversion from transferring your subscription right
or agreeing to transfer the common stock you intend to subscribe for. If you
violate this prohibition, your subscription right will be terminated.
THE BEST EFFORTS OFFERING. Concurrent with the subscription offering, we
are also offering shares of common stock in a best efforts offering. The
following persons are eligible to participate in the best efforts offering:
- people who were named policyholders of insurance policies issued by MICOA
in the three years preceding June 28, 2000 and were not policyholders on
June 28, 2000;
- named policyholders of MICOA insurance policies who bought their
insurance after June 28, 2000;
- named policyholders of insurance issued by MICOA's subsidiaries as of
June 28, 2000;
- people insured pursuant to certificates of insurance under policies
issued by MICOA or its subsidiaries within the three years preceding June
28, 2000;
- the Michigan State Medical Society, Michigan Osteopathic Association,
Kentucky Medical Association and New Mexico Medical Society, and each of
their subsidiaries;
- licensed insurance agents with an agency contract with MICOA or its
subsidiaries, as reflected on the books and records of MICOA and its
subsidiaries; and
- employees of APCapital, MICOA and their subsidiaries who are not eligible
to participate in the subscription offering.
The availability of common stock for purchase in the best efforts offering is
subject to the prior rights of the participants in the subscription offering.
Therefore, best efforts offering participants will only be able to buy shares of
common stock if policyholders, officers and directors buy less than 10 million
shares in the subscription offering. In addition, we reserve the right, in our
sole and absolute discretion, to determine which orders, if any, to accept in
the best efforts offering. We can accept or reject any such order for any reason
or for no reason. Shares are being sold in the best efforts offering at the same
price as the shares in the subscription offering.
23
<PAGE> 26
APCapital has selected ABN AMRO Incorporated as its lead advisor with
respect to the conversion and the offerings. In consideration for the provision
of certain advisory services, APCapital has agreed to pay ABN AMRO Incorporated
an advisory fee of $950,000, payable at closing of the offerings. The advisory
fee will be reduced by the amount of any management fees retained by ABN AMRO
Incorporated as managing underwriter in connection with the firm commitment
underwritten offering.
In addition, ABN AMRO Incorporated has been selected as placement agent for
the subscription and best efforts offerings and will receive fees equal to
between 1.0% and 0.5% of the aggregate proceeds in connection with such
offerings (excluding management and employee purchases), subject to a minimum
fee of $25,000. APCapital has also agreed to reimburse ABN AMRO Incorporated for
its reasonable costs and expenses and to indemnify it against certain
liabilities, including liabilities under the Securities Act and the Exchange
Act.
HOW TO PURCHASE COMMON STOCK IN THE SUBSCRIPTION AND BEST EFFORTS OFFERINGS
To buy common stock in the subscription or best efforts offerings, sign and
complete the enclosed stock order form and send it with your payment, in the
envelope provided for "Stock Reply," to ChaseMellon Shareholder Services, L.L.C.
no later than , 2000. PLEASE DO NOT SEND PAYMENT FOR THE SHARES YOU
ARE BUYING TO APCAPITAL OR ABN AMRO INCORPORATED. Payment may be made by check
or money order payable to ChaseMellon Shareholder Services, L.L.C. Your payment
will be promptly transferred and held in an escrow account at The Chase
Manhattan Bank, which is acting as escrow agent, until the conversion is
completed. If the conversion is completed, your payment will be released to
APCapital upon completion of the conversion, which is expected to occur no later
than February 14, 2001. If the conversion is terminated and not completed, or if
we exercise our discretion to reject your offer to purchase stock in the best
efforts offering, your payment will be returned to you promptly without
interest. Any interest accrued on your funds will be retained by us to help
defray the costs of the conversion.
We will not honor your subscription if your stock order form:
- is not returned to us before 5:00 p.m. Eastern Time, on ,
2000;
- is not properly completed and signed; or
- is not accompanied by payment in full for the shares you intend to
purchase.
We will return any rejected subscriptions. Alternatively, we may decide to waive
any irregularity relating to a stock order form or ask you to correct any errors
in your subscription by a specified date.
Once submitted, you cannot revoke your subscription without our consent. If
you want to revoke your subscription, you must submit to us, at the address set
forth above, a written request for a waiver that describes the circumstances
upon which your request is based. The grant of any such waiver will be in our
sole discretion.
MINIMUM AND MAXIMUM PURCHASES IN THE SUBSCRIPTION AND BEST EFFORTS OFFERINGS
If you decide to buy any shares in the subscription or best efforts
offering, and are eligible to participate in the offerings, the minimum number
of shares you may buy in the offering in which you are participating is 100 and
the maximum number of shares you may buy, regardless of the number of policies
or subscription rights owned, is shares. For purposes of
determining whether the maximum purchase amount has been reached, the purchases
by each eligible participant will be aggregated with the purchases of the
affiliates and associates of such participant or persons acting in
24
<PAGE> 27
concert with the participant. In addition, the total purchases of each best
efforts participant, together with such participant's affiliates and associates,
or by a group of persons acting in concert in the best efforts offering, may not
exceed a maximum of five percent of the number of shares offered in the
offerings.
A participant's "affiliates and associates" means the following:
- persons that, directly or indirectly, through one or more intermediaries,
control, or are controlled by, or are under common control with, the
participant;
- entities other than APCapital, MICOA or their subsidiaries of which the
participant is an officer, partner or beneficial owner of at least 10% of
any class of equity securities;
- any trust or other estate in which the participant has a substantial
beneficial interest or as to which the participant serves as trustee or
in a similar fiduciary capacity;
- any relative or spouse of the participant, or any relative of such
spouse, who has the same home as the participant; and
- any person who is insured under the same insurance policy as the
participant.
Persons "acting in concert" means a group of persons who either (1) knowingly
participate in a joint activity or interdependent conscious parallel action
toward the common goal of acquiring APCapital shares, whether or not pursuant to
an express agreement, or (2) combine or pool voting or other interests in
APCapital shares for a common purpose pursuant to any contract, understanding,
relationship, agreement or other arrangement.
Fractional shares will not be sold in the subscription or best efforts
offering.
RULES FOR OVERSUBSCRIPTION IN THE SUBSCRIPTION AND BEST EFFORTS OFFERINGS
THE SUBSCRIPTION OFFERING. If eligible policyholders subscribe for more
than the 9.7 million shares available to them in the subscription offering, each
policyholder participating in the offering will be able to buy a minimum of 100
shares. Any remaining shares will be allocated among the participating
policyholders who subscribed for more than 100 shares based upon the amount of
premiums paid during the last three years. The following example illustrates how
the allocation formula works:
<TABLE>
<S> <C> <C>
Number of shares remaining after all participating policyholders
have been allocated 100 shares: 8 million shares
Amount of premiums earned by MICOA from policies held by
Policyholder A during 1997, 1998 and 1999: $250,000
Total amount of premiums earned by MICOA from policies held by all
policyholders during 1997, 1998 and 1999 who have subscribed for
more than 100 shares: $25 million
$250,000
Maximum number of shares which may be purchased by -----------
Policyholder A: $25,000,000 X 8,000,000 = 80,000
</TABLE>
If officers and directors subscribe for more than the 300,000 shares
available to them, the 300,000 shares will be allocated among subscribing
officers and directors proportionately, subject to no subscribing officer and
director receiving less than 100 shares.
THE BEST EFFORTS OFFERING. If all of the shares of common stock that we
can sell are not purchased in the subscription offering, it is our intention to
sell shares to eligible participants in a best efforts offering. However, there
is no specific amount of shares set aside for the best efforts offering and we
reserve the right, in our sole and absolute discretion, to determine the number
of shares we
25
<PAGE> 28
would sell in the best efforts offering. In addition, we reserve the right, in
our sole and absolute discretion, to determine which orders, if any, to accept
in the best efforts offering. If subscribers in the best efforts offering
subscribe for more than the total number of shares available for them to
purchase, the number of shares purchased by them as a group will be reduced by
reducing the number of shares purchased by those subscribing for the highest
numbers of shares. The reductions will occur by reducing the number subscribed
for by the person subscribing for the highest number of shares to the number
subscribed for by the person subscribing for the second highest number of
shares, then reducing the number subscribed for by the person subscribing for
the second highest number of shares to the number subscribed for by the person
subscribing for the third highest number of shares and so on until there is no
longer a shortage of shares.
The following example illustrates how this methodology eliminates the
oversubscription:
<TABLE>
<S> <C>
Subscriber A -- Highest number subscribed for:.............. 75,000
Subscriber B -- Second highest number subscribed for:....... 60,000
Subscriber C -- Third highest number subscribed for:........ 35,000
Number of shares by which subscriptions exceed shares
available:................................................ 40,000
</TABLE>
Subscriber A's purchase would be reduced by 15,000 shares to 60,000 and
Subscriber B's purchase would be reduced by 25,000 shares to 35,000. Because the
total reduction (15,000 + 25,000 = 40,000) is equal to the number of shares by
which subscriptions exceeded the shares available, no further reductions are
needed.
THE FIRM COMMITMENT UNDERWRITTEN OFFERING
We are also offering shares to the general public in a firm commitment
underwritten offering. If all of the shares of common stock that we can sell are
not subscribed for in the subscription and best efforts offerings, we may sell
the remaining shares in the underwritten offering. Although the underwritten
offering is occurring at the same time as the subscription and the best efforts
offerings, participants in the underwritten offering will only be able to buy
shares for which subscriptions are not received and accepted in the subscription
and best efforts offerings.
ABN AMRO Incorporated has been selected to be the lead underwriter and sole
book running manager in the underwritten offering. An underwriting agreement
regarding the underwritten offering will not be executed, however, until the
periods for subscribing in the subscription and best efforts offerings have
expired.
We will pay the underwriters compensation for the shares sold in the
underwritten offering in an amount that will be negotiated between us and the
underwriters. For the purpose of covering over-allotments, we also have the
ability to grant the underwriters the option to purchase, for 30 days after the
completion of the underwritten offering, additional common stock in an aggregate
amount not to exceed 15% of the total number of shares offered in the
underwritten offering. The price for the shares purchased through the
over-allotment option will be the price for the shares sold in the underwritten
offering, less an underwriting discount. We will also agree to indemnify the
underwriters against certain liabilities and expenses they may incur in their
role as underwriter, including liabilities under federal securities laws.
CLOSING; DELIVERY OF CERTIFICATES
We will deliver stock certificates to subscribers promptly after completion
of the subscription, best efforts and underwritten offerings, all of which will
close at the same time. Until certificates for the common stock are available
and delivered to subscribers, subscribers may not be able to sell the
26
<PAGE> 29
shares of common stock for which they have subscribed, even though trading of
the common stock will have commenced. You may experience a substantial delay
between the date you subscribe for shares and the date you actually receive the
shares.
The agency agreement between APCapital and ABN AMRO Incorporated as
placement agent provides that the closing of the subscription and best efforts
offerings are subject to various conditions for the benefit of the agent,
including, among others, (1) the absence of a change in our business that would
materially and adversely affect the market for our shares or any other material
adverse change in our financial condition or results of operations, (2) the
receipt of legal opinions and a "cold comfort" letter, (3) the truthfulness of
the representations made in the agreement, (4) our compliance with the covenants
contained in the agreement, (5) the absence of a downgrade in our A.M. Best
Company, Inc. rating, and (6) receipt of all necessary approvals for the
conversion. The agreement also permits the agent to terminate the agreement if
trading has been suspended or materially limited in specified securities
markets, if a general moratorium on banking activities has been declared in New
York or if there is an outbreak or escalation of hostilities or other crisis
that is material and adverse, and such event or events, in the agent's judgment,
make it impracticable to market the shares as contemplated in this prospectus.
LIMITATION ON ACQUISITION OF STOCK
No person or group of persons acting in concert is permitted to acquire,
through the subscription offering, the best efforts offering, the underwritten
offering or subsequent purchases in the market, more than 5% of the shares of
APCapital until the fifth anniversary of the effective date of the plan of
conversion, except with approval of the OFIS.
UNDERSUBSCRIPTION
If we believe the aggregate offering proceeds will be less than $130.0
million, the minimum value in the valuation range, we may cancel all of the
offerings, terminate the plan of conversion and promptly return your funds to
you, without interest. Alternatively, in consultation with the OFIS, we may
establish a new valuation range for our common stock, and extend, reopen or hold
new offerings with stock prices based on the new valuation range, or take such
other action as may be authorized by the OFIS. In the event that we extend,
reopen or hold new offerings, you will be resolicited and given the opportunity
to either buy common stock at the new purchase price or have your money returned
to you, without interest.
27
<PAGE> 30
USE OF PROCEEDS
The amount of proceeds available to APCapital from the sale of common stock
will depend upon the total number of shares of common stock actually sold in the
offerings and the price received for such shares.
APCapital intends to contribute approximately 50% of the net proceeds from
the offerings to MICOA in exchange for all of the capital stock of MICOA to be
issued in the conversion. APCapital will retain the balance of the net proceeds
from the offerings for financing future acquisitions and for general corporate
purposes, which may include, without limitation, additional contributions to our
subsidiaries. Pending such uses, these proceeds will be temporarily invested by
APCapital in U.S. Government securities, obligations of U.S. commercial banks
and thrifts, commercial paper rated A-1 by Standard and Poor's or Prime-1 by
Moody's, short term corporate obligations rated AAA or AA by Standard and Poor's
or Aaa or Aa by Moody's, in bank money market funds investing in such
instruments, and in other instruments and securities in which MICOA's surplus
funds are permitted to be invested pursuant to MICOA's investment policy.
Although we have discussions from time to time regarding transactions with other
entities, no acquisitions are probable at the present time and we do not plan to
pursue any such transactions until the conversion is complete. After the
conversion, we plan to aggressively pursue acquisitions, in accordance with our
strategic plan as described under "Business -- Strategy".
The net proceeds paid to MICOA will be used for general operating purposes
and will become part of its capital, thereby expanding underwriting capacity and
permitting further diversification of its business. These funds will also
increase MICOA's surplus, thereby strengthening policyholder protection, in
accordance with the plan of conversion and applicable law. See "Pro Forma Data."
Set forth below are our estimated net proceeds, assuming the sale of
10,000,000 shares of common stock at $15.50 per share, the minimum and maximum
of the subscription offering range, the minimum and maximum of the anticipated
offering range in the firm commitment underwritten offering and the sale of an
additional 1,500,000 shares upon the exercise of the underwriters' over-
allotment option, and the expected uses of proceeds by APCapital and MICOA. A
range of proceeds is shown in the table because it is possible that the firm
commitment underwritten offering price may be different than the price paid in
the subscription and best efforts offerings. However, the proceeds from the
offerings will not be less than the proceeds at the minimum nor more than the
proceeds at the maximum of the subscription offering range with the
over-allotment option. Actual offering expenses may vary from those shown on the
table.
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<PAGE> 31
We expect that the net proceeds from the sale of the minimum number of
shares of common stock in the offering will be sufficient to satisfy our working
capital needs for the foreseeable future.
<TABLE>
<CAPTION>
ANTICIPATED ANTICIPATED
MINIMUM MAXIMUM
UNDERWRITTEN UNDERWRITTEN WITH OVER-
MINIMUM OF OFFERING PRICE OFFERING PRICE OFFERING PRICE MAXIMUM OF ALLOTMENT OPTION
$13.00 PER OF $ OF [15.50] OF $ $18.00 PER AT $18.00 PER
SHARE PER SHARE PER SHARE PER SHARE SHARE SHARE(A)
---------- -------------- -------------- -------------- ---------- ----------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Gross proceeds of
offering........... $130,000 $155,000 $180,000 $207,000
Less offering
expenses......... 7,800 9,300 10,800 12,420
-------- -------- -------- -------- -------- --------
Net proceeds to
APCapital.......... $122,200 $145,700 $169,200 $194,580
======== ======== ======== ======== ======== ========
Use of proceeds by
APCapital
Capital retained by
APCapital........ $ 61,100 $ 72,850 $ 84,600 $ 97,290
Capital
contribution to
MICOA in exchange
for MICOA
stock............ 61,100 72,850 84,600 97,290
-------- -------- -------- -------- -------- --------
$122,200 $145,700 $169,200 $194,580
======== ======== ======== ======== ======== ========
</TABLE>
-------------------------
(a) Figures in this column assume that no shares are sold in the subscription
and best efforts offerings, that the underwriters are granted an option to
purchase an additional 15% of the shares to be sold in the underwritten
offering to cover over-allotments, and that the over-allotment option is
exercised in full. While not shown in this table, it is also possible that
the underwriters would be granted an over-allotment option if the final
offering price is less than $18.00 per share, or in the event that shares
are sold in the subscription or best efforts offerings. As a result, it is
possible that gross proceeds, assuming that the over-allotment option is
exercised in full, would be less than $207 million and could be within the
$130 million to $180 million valuation range. It is likely that at least
some shares will be sold in the subscription and best efforts offerings and
that the over-allotment option will be less than 1,500,000 shares. See "The
Subscription, Best Efforts and Underwritten Offerings -- The Firm Commitment
Underwritten Offering."
29
<PAGE> 32
CAPITALIZATION
The following table sets forth information regarding the historical
capitalization of MICOA at June 30, 2000 and the pro forma consolidated
capitalization of APCapital giving effect to the sale of 10,000,000 shares of
common stock at [15.50] per share, at the minimum and maximum of the offering
price range based upon the assumptions set forth under "Use of Proceeds," and
the sale of an additional 1,500,000 shares upon exercise of the underwriters'
over-allotment option. A range of information is shown in the table because it
is possible that the firm commitment underwritten offering price may be
different than the price paid in the subscription and best efforts offerings.
However, the proceeds from the offerings will not be less than the values at the
minimum nor more than the values at the maximum of the offering range with the
over-allotment option. For additional financial information, see the
consolidated financial statements and related notes appearing elsewhere in this
document and the information under "Pro Forma Data."
<TABLE>
<CAPTION>
PRO FORMA CONSOLIDATED
CAPITALIZATION OF APCAPITAL
--------------------------------------------------
ANTICIPATED
HISTORICAL MINIMUM
CONSOLIDATED UNDERWRITTEN
CAPITALIZATION MINIMUM OF OFFERING PRICE OFFERING PRICE OF
OF MICOA AT $13.00 PER OF $ [15.50] PER
JUNE 30, 2000 SHARE PER SHARE SHARE
-------------- ---------- ----------------- -----------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
Borrowed funds....... $ 7,595 $ 7,595 $ 7,595
Shareholders' equity:
Common stock, no
par value per
share:
authorized --
50,000,000
shares; shares to
be
outstanding -- as
shown(b)......... -- 126,750 151,125
Retained
earnings(c)........ 220,924 219,852 219,646
Accumulated other
comprehensive
income............. (8,084) (8,084) (8,084)
Unearned
compensation --
restricted stock
awards............. -- (1,931) (2,302)
-------- -------- -------- --------
Total
shareholders'
equity......... $212,840 $336,587 $360,385
======== ======== ======== ========
<CAPTION>
PRO FORMA CONSOLIDATED
CAPITALIZATION OF APCAPITAL
-------------------------------------------
ANTICIPATED
MAXIMUM WITH OVER-
UNDERWRITTEN ALLOTMENT
OFFERING PRICE MAXIMUM OF OPTION AT
OF $ $18.00 PER $18.00 PER
PER SHARE SHARE SHARE(A)
----------------- ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
Borrowed funds....... $ 7,595 $ 7,595
Shareholders' equity:
Common stock, no
par value per
share:
authorized --
50,000,000
shares; shares to
be
outstanding -- as
shown(b)......... 175,500 200,880
Retained
earnings(c)........ 219,439 219,439
Accumulated other
comprehensive
income............. (8,084) (8,084)
Unearned
compensation --
restricted stock
awards............. (2,673) (2,673)
-------- -------- --------
Total
shareholders'
equity......... $384,182 $409,562
======== ======== ========
</TABLE>
-------------------------
(a) Figures in this column assume that no shares are sold in the subscription
and best efforts offerings, that the underwriters are granted an option to
purchase an additional 15% of the shares to be sold in the underwritten
offering to cover over-allotments, and that the over-allotment option is
exercised in full. It is likely that at least some shares will be sold in
the subscription and best efforts offerings and that the over-allotment
option will be less than 1,500,000 shares. See "The Subscription, Best
Efforts and Underwritten Offerings -- The Firm Commitment Underwritten
Offering."
(b) Common stock values represent the sale of 10 million shares (11.5 million
shares assuming exercise of the over-allotment option) and the issuance of
350,000 shares of restricted stock, at the respective per share values, less
estimated offering expenses.
(c) Retained earnings has been adjusted to reflect the compensation expense
related to the stock compensation plan, net of tax benefits. See "Notes to
Unaudited Pro Forma Data."
30
<PAGE> 33
DIVIDEND POLICY
We currently intend to retain all of our earnings, if any, rather than pay
dividends to shareholders. We may, however, pay cash dividends on the common
stock in the future at times determined by the board of directors and when
legally allowed. Our payment of dividends may be contingent on the receipt of
dividends from our subsidiaries. The payment of dividends by our insurance
subsidiaries is subject to limitations imposed by applicable law. See
"Business -- Insurance Regulatory Matters."
MARKET FOR THE COMMON STOCK
We have never issued any capital stock. Consequently, there is no
established market for the common stock. We have applied to have the common
stock approved for quotation on the Nasdaq National Market under the symbol
"ACAP" upon completion of the conversion. Approval of the application to list
the shares is subject to the satisfaction of various conditions, including a
minimum number of public shareholders and a minimum number and value of shares
held by persons other than our officers and directors and our subsidiaries.
Although we expect to meet these conditions, failure to qualify for listing on
the Nasdaq National Market may have an adverse effect on the marketability of
the common stock after the conversion.
We expect several firms to be willing to act as market makers for the
common stock upon completion of the conversion, subject to market conditions and
compliance with applicable laws and regulatory requirements. The development of
a public market having the desirable characteristics of depth, liquidity and
orderliness, however, depends upon the presence in the marketplace of a
sufficient number of willing buyers and sellers at any given time, over which
neither we nor any market maker has any control. Accordingly, there can be no
assurance that an established and liquid market for the common stock will
develop, or if one develops, that it will continue. Furthermore, there can be no
assurance that purchasers will be able to resell their shares of common stock at
or above the purchase price after the conversion or that the market makers will
continue for any specified time to act as such.
31
<PAGE> 34
PRO FORMA DATA
The unaudited pro forma data presented below for APCapital gives effect to:
(1) the conversion; (2) the sale of shares of common stock in the subscription
and best efforts offerings; (3) the sale of shares of common stock in the
underwritten offering; (4) the effect of the award of restricted shares; and (5)
the application of the estimated net proceeds from the offering as set forth in
"Use of Proceeds," as if the conversion and the offerings had occurred as of
January 1, 1999. There is no effect on pro forma net income for the restricted
shares that vest upon issuance. The related compensation expense will be
recorded as a one-time charge and will have no impact on future results.
THE PRO FORMA INFORMATION IS BASED ON AVAILABLE INFORMATION AND ON
ASSUMPTIONS WE BELIEVE ARE REASONABLE. THE PRO FORMA INFORMATION IS PROVIDED FOR
INFORMATIONAL PURPOSES ONLY AND SHOULD NOT BE CONSTRUED TO BE INDICATIVE OF OUR
CONSOLIDATED FINANCIAL POSITION OR OUR CONSOLIDATED RESULTS OF OPERATIONS HAD
THESE TRANSACTIONS BEEN CONSUMMATED ON THE DATES ASSUMED AND DOES NOT IN ANY WAY
REPRESENT A PROJECTION OR FORECAST OF OUR CONSOLIDATED FINANCIAL POSITION OR
CONSOLIDATED RESULTS OF OPERATIONS FOR ANY FUTURE DATE OR PERIOD.
The pro forma information should be read in conjunction with our
Consolidated Financial Statements and the accompanying notes included elsewhere
in this prospectus, and with the other information included in this prospectus
including the information set forth under "The Conversion," "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
"Business."
32
<PAGE> 35
PRO FORMA DATA (CONTINUED)
<TABLE>
<CAPTION>
AT OR FOR THE SIX MONTHS ENDED JUNE 30, 2000
---------------------------------------------------------------------------
10,000,000 10,000,000
10,000,000 SHARES SOLD SHARES SOLD 10,000,000 11,500,000
SHARES SOLD AT $ AT $ SHARES SOLD SHARES SOLD
AT $13.00 PER SHARE PER SHARE AT $18.00 AT $18.00
PER SHARE (ANTICIPATED 10,000,000 (ANTICIPATED PER SHARE PER SHARE
(MINIMUM MINIMUM SHARES SOLD MAXIMUM (MAXIMUM (MAXIMUM
OF THE UNDERWRITTEN AT $[15.50] UNDERWRITTEN OF THE AS
RANGE) OFFERING PRICE) PER SHARE OFFERING PRICE) RANGE) ADJUSTED)
----------- --------------- ----------- --------------- ----------- -----------
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C>
Gross proceeds.................... $130,000 $155,000 $180,000 $207,000
Less: Offering expenses (a)....... 7,800 9,300 10,800 12,420
-------- -------- -------- -------- -------- --------
Estimated net proceeds.......... $122,200 $145,700 $169,200 $194,580
======== ======== ======== ======== ======== ========
CONSOLIDATED NET INCOME
Historical...................... $ 6,428 $ 6,428 $ 6,428 $ 6,428
Pro forma compensation
expense -- restricted stock
awards (b).................... (590) (704) (817) (817)
======== ======== ======== ======== ======== ========
Pro forma net income.......... $ 5,838 $ 5,724 $ 5,611 $ 5,611
======== ======== ======== ======== ======== ========
CONSOLIDATED NET INCOME PER SHARE
Historical...................... $ 0.62 $ 0.62 $ 0.62 $ 0.54
Pro forma compensation stock
plan.......................... (0.06) (0.07) (0.08) (0.07)
-------- -------- -------- -------- -------- --------
Pro forma net income per share
(e)........................ $ 0.56 $ 0.55 $ 0.54 $ 0.47
======== ======== ======== ======== ======== ========
Weighted average number of
shares of common stock
outstanding................... 10,350 10,350 10,350 11,850
Offering price as a multiple of
pro forma net earnings per
share........................... 11.6x 14.1x 16.7x 19.1x
======== ======== ======== ======== ======== ========
STOCKHOLDERS' EQUITY
Historical...................... $212,840 $212,840 $212,840 $212,840
Estimated net proceeds.......... 122,200 145,700 169,200 194,580
Tax benefit of stock
compensation awards (c)....... 1,547 1,845 2,142 2,142
-------- -------- -------- -------- -------- --------
Pro forma stockholders'
equity..................... $336,587 $360,385 $384,182 $409,562
======== ======== ======== ======== ======== ========
Pro forma tangible
stockholders' equity (f)... $318,942 $342,740 $366,537 $391,917
======== ======== ======== ======== ======== ========
STOCKHOLDERS' EQUITY PER SHARE
Historical...................... $ 20.56 $ 20.56 $ 20.56 $ 17.96
Estimated net proceeds.......... 11.81 14.08 16.35 16.42
Tax benefit of stock
compensation awards........... 0.15 0.18 0.21 0.18
-------- -------- -------- -------- -------- --------
Pro forma stockholders' equity
per share.................. $ 32.52 $ 34.82 $ 37.12 $ 34.56
======== ======== ======== ======== ======== ========
Pro forma tangible
stockholders' equity per
share...................... $ 30.82 $ 33.11 $ 35.41 $ 33.07
======== ======== ======== ======== ======== ========
Offering price as a percentage of
pro forma stockholders' equity
per share....................... 39.98% 44.51% 48.49% 52.08%
Offering price as a percentage of
pro forma tangible stockholders'
equity per share................ 42.18% 46.81% 50.83% 54.43%
</TABLE>
33
<PAGE> 36
PRO FORMA DATA (CONTINUED)
<TABLE>
<CAPTION>
FOR THE YEAR ENDED DECEMBER 31, 1999
-----------------------------------------------------------------------------
10,000 SHARES 10,000,000 SHARES
10,000,000 SOLD AT $ SOLD AT $ 10,000,000 11,500,000
SHARES SOLD PER SHARE PER SHARE SHARES SOLD SHARES SOLD
AT $13.00 (ANTICIPATED 10,000,000 (ANTICIPATED AT $18.00 AT $18.00
PER SHARE MINIMUM SHARES SOLD MAXIMUM PER SHARE PER SHARE
(MINIMUM OF UNDERWRITTEN AT $[15.50] UNDERWRITTEN (MAXIMUM OF (MAXIMUM
THE RANGE) OFFERING PRICE) PER SHARE OFFERING PRICE) THE RANGE) AS ADJUSTED)
----------- --------------- ----------- ----------------- ----------- ------------
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C>
Gross proceeds............. $130,000 $155,000 $180,000 $207,000
Less: Offering expenses
(a)...................... 7,800 9,300 10,800 12,420
-------- -------- -------- -------- -------- --------
Estimated net
proceeds............ $122,200 $145,700 $169,200 $194,580
======== ======== ======== ======== ======== ========
CONSOLIDATED NET INCOME
Historical............... $ 33,730 $ 33,730 $ 33,730 $ 33,730
Pro forma compensation
expense -- restricted
stock awards (b)....... (1,180) (1,407) (1,634) (1,634)
-------- -------- -------- -------- -------- --------
Pro forma net income... $ 32,550 $ 32,323 $ 32,096 $ 32,096
======== ======== ======== ======== ======== ========
CONSOLIDATED NET INCOME PER
SHARE
Historical............... $ 3.26 $ 3.26 $ 3.26 $ 2.85
Pro forma compensation
expense -- restricted
stock awards........... (0.11) (0.14) (0.16) (0.14)
-------- -------- -------- --------
Pro forma net income
per share (d)....... $ 3.15 $ 3.12 $ 3.10 $ 2.71
======== ======== ======== ======== ======== ========
Weighted average number of
shares of common stock
outstanding.............. 10,350 10,350 10,350 11,850
======== ======== ======== ======== ======== ========
Offering price as a
multiple of pro forma net
earnings per share....... 4.13x 4.97x 5.81x 6.64x
======== ======== ======== ======== ======== ========
</TABLE>
34
<PAGE> 37
NOTES TO UNAUDITED PRO FORMA DATA
(a) Expenses are estimated to approximate 6 percent of the gross proceeds from
the offerings, based on varying commission rates for total shares issued and
other transaction expenses.
(b) In accordance with the stock compensation plan, APCapital intends to issue
300,000 shares of restricted stock to executive officers, directors and
other members of senior management at the date of conversion. 25% of these
awards will vest upon issuance and will be recorded as a one-time charge to
earnings, and accordingly, have no impact on pro forma net income; the
remaining shares vest over the next three years. The pro forma net income
has been adjusted to recognize the expense associated with the first year
vesting in accordance with the plan, net of federal income tax impact at
34%. The pro forma adjustment is computed based on the award of 300,000
shares, of which 25% vest immediately. Compensation expense for the
remaining 225,000 shares is determined by considering the following: (1)
75,000 shares vest in year 1 and are earned in year 1; (2) 75,000 shares
vest in year 2 and are earned evenly in years 1 and 2; and (c) 75,000 shares
vest in year 3 and are earned evenly in years 1, 2 and 3. Compensation
expense related to the awarded shares is determined by multiplying total
shares earned by the offering price per share, net of federal income taxes
at 34%. No pro forma effect has been given to the issuance of stock options
in connection with the stock compensation plan. APCapital intends to grant
options for its shares at the closing date of the conversion with an
exercise price equal to the fair value (the offering price) at the date of
grant.
(c) APCapital intends to issue 50,000 shares of restricted stock to MICOA's
401(k) plan for the accounts of its employees at the date of conversion.
This transaction will be recorded as a one-time charge to earnings and,
accordingly, there is no impact on pro forma net income. The increase in pro
forma stockholder's equity reflects the tax benefit, at 34%, of the expense
relating to these stock awards, along with the stock awards discussed in
Note (b). The pro forma adjustment is computed by multiplying the 50,000
shares by the per share offering price, and determining the tax benefit at
34%.
(d) Pro forma net income for the year ended December 31, 1999, does not include
an assumption for interest earnings on the net new investable funds
available as a result of the offerings. If interest is earned at a 6.05
percent rate, equal to the one year U.S. Treasury Bill rate as of June 30,
2000, pro forma net income would have increased, net of federal income taxes
at 34%, an additional $4.9 million at the minimum, $5.8 million at a per
share price of $[15.50], $6.8 million at the maximum and $7.8 million at the
maximum as adjusted points of the range, and net income per share would have
been $3.62 at the minimum, $3.68 at a per share price of $[15.50], $3.75 at
the maximum and $3.37 at the maximum as adjusted points of the range.
(e) Pro forma net income for the six months ended June 30, 2000, does not
include an assumption for interest earnings on the net new investable funds
available as a result of the offerings. If interest is earned at a 6.05
percent rate, equal to the one year U. S. Treasury Bill rate as of June 30,
2000, net income would have increased, net of federal income taxes at 34%,
an additional $2.4 million at the minimum, $2.9 million at a per share price
of $[15.50], $3.4 million at the maximum and $3.9 million at the maximum as
adjusted points of the range, and net income per share would have been $0.80
at the minimum, $0.83 at a per share price of $[15.50], $0.87 at the maximum
and $0.80 at the maximum as adjusted points of the range.
(f) Pro forma tangible stockholders' equity is computed by reducing pro forma
stockholders' equity by intangible assets at June 30, 2000 of $17,645,000.
35
<PAGE> 38
SELECTED HISTORICAL FINANCIAL AND OPERATING DATA
The following table sets forth selected historical consolidated financial
data. The selected income statement data for each of the three years ended
December 31, 1999 and balance sheet data as of December 31, 1999 and 1998 have
been derived from our audited consolidated financial statements and notes
thereto included elsewhere in this prospectus (the "Consolidated Financial
Statements"). The selected income statement data for each of the years ended
December 31, 1996 and 1995 and balance sheet data as of December 31, 1997, 1996,
and 1995 have been derived from our audited consolidated financial statements
not included in this prospectus. The selected income statement data for the six
months ended June 30, 2000 and 1999 and balance sheet data as of June 30, 2000
and June 30, 1999 and have been derived from our unaudited interim consolidated
financial statements included in this prospectus. All unaudited interim
consolidated financial data presented in the tables below reflect all
adjustments (consisting of normal, recurring accruals) necessary for a fair
presentation of our consolidated financial position and results of operations
for such periods. The results of operations for the six months ended June 30,
2000 are not necessarily indicative of the results to be expected for the full
year. The following selected historical consolidated financial data has been
prepared in accordance with GAAP, except that the combined statutory data
presented below has been prepared in accordance with applicable statutory
accounting practices and was taken from our annual statements filed with
insurance regulatory authorities.
The following is a summary, and in order to fully understand our
consolidated financial data, you should also read "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and our Consolidated
Financial Statements and the notes thereto included elsewhere in this
prospectus. In particular, those other sections of this prospectus contain
information about the adoption of GAAP accounting standards and transactions
affecting comparability of results of operations between periods that are not
included in this section.
36
<PAGE> 39
SELECTED HISTORICAL FINANCIAL AND OPERATING DATA (CONTINUED)
<TABLE>
<CAPTION>
AT OR FOR THE
SIX MONTHS ENDED AT OR FOR THE
JUNE 30, YEAR ENDED DECEMBER 31,
------------------- ----------------------------------------------------
2000 1999 1999 1998 1997(A) 1996(A) 1995
-------- -------- -------- -------- -------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
REVENUE DATA:
Direct premiums written.......... $ 92,904 $ 83,204 $189,647 $160,305 $129,593 $118,839 $ 91,519
Net premiums written............. 85,656 72,955 158,029 147,801 110,776 100,478 80,534
======== ======== ======== ======== ======== ======== ========
Net premiums earned.............. $ 86,491 $ 72,297 $148,656 $136,995 $106,764 $ 97,597 $ 82,029
Investment income................ 17,154 15,787 30,539 29,451 28,817 28,725 27,054
Realized gains................... 1,864 623 1,849 9,540 1,687 956 846
Other income..................... 2,103 264 6,676 2,832 1,757 4,507 968
-------- -------- -------- -------- -------- -------- --------
Total revenues................. 107,612 88,971 187,720 178,818 139,025 131,785 110,897
LOSSES AND EXPENSES:
Losses and loss adjustment
expenses(b).................... 73,636 63,385 130,949 122,053 88,418 52,996 61,790
Underwriting expenses............ 19,960 19,226 40,037 38,455 30,798 22,503 16,815
Investment expense............... 1,553 1,857 3,283 2,943 2,283 3,652 3,684
Interest expense................. 464 266 565 791 343 325 --
Amortization expense............. 1,164 485 1,177 906 183 61 --
Other expense.................... 1,297 39 1,739 1,206 1,122 1,137 15
-------- -------- -------- -------- -------- -------- --------
Total expenses................. 98,074 85,258 177,750 166,354 123,147 80,674 82,304
-------- -------- -------- -------- -------- -------- --------
Income from operations before
federal income taxes............. 9,538 3,713 9,970 12,464 15,878 51,111 28,593
Federal income taxes(c)............ 3,110 523 (23,760) 3,400 4,829 16,300 8,846
-------- -------- -------- -------- -------- -------- --------
Income before cumulative effect of
change in accounting principle... 6,428 3,190 33,730 9,064 11,049 34,811 19,747
Cumulative effect of change in
accounting principle(b).......... -- -- -- -- -- (20,542) --
-------- -------- -------- -------- -------- -------- --------
Net income(c)...................... $ 6,428 $ 3,190 $ 33,730 $ 9,064 $ 11,049 $ 14,269 $ 19,747
======== ======== ======== ======== ======== ======== ========
SELECTED BALANCE SHEET DATA:
Total cash and investments....... $583,729 $539,030 $541,894 $548,665 $521,469 $494,198 $443,791
Total assets..................... 790,683 718,318 794,390 715,596 677,529 644,052 547,354
Total liabilities................ 577,843 536,225 585,604 526,844 501,137 486,468 396,825
Total surplus.................... 212,840 182,093 208,786 188,752 176,392 157,584 150,529
GAAP RATIOS:
Loss ratio(b).................... 85.1% 87.7% 88.1% 89.1% 82.8% 54.3% 75.3%
Underwriting expense ratio....... 23.1 26.6 26.9 28.1 28.8 23.1 20.5
Combined ratio................... 108.2 114.3 115.0 117.2 111.6 77.4 95.8
Operating ratio.................. 90.1 95.0 96.7 97.8 86.8 51.7 67.3
STATUTORY DATA (AT PERIOD END):
Combined ratio................... 111.0% 116.7% 117.2% 116.4% 110.8% 109.6% 97.7%
Industry combined ratio.......... -- -- 124.5 115.7 107.8 106.0 99.7
Surplus.......................... $180,276 $146,695 $179,829 $144,541 $133,715 $125,883 $116,931
Ratio of net written premium to
statutory surplus.............. 0.95x 0.99x 0.88x 1.02x 0.83x 0.80x 0.69x
</TABLE>
-------------------------
(a) MICOA acquired Kentucky Medical Insurance Company in 1996 in a transaction
accounted for under the purchase method of accounting. MICOA's mergers with
New Mexico Physicians Mutual Insurance Company and State Mutual Insurance
Company in 1997 were accounted for under the pooling method of accounting.
(b) Losses and loss adjustment expenses for 1996 excludes discontinuation of
loss reserve discounting which is reported as a cumulative effect of a
change in accounting principle.
(c) Operating results for the year ended December 31, 1999 include the effects
of a one-time settlement with the Internal Revenue Service. Without this
settlement, net income for the year ended December 31, 1999 would have been
approximately $4.6 million.
37
<PAGE> 40
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following analysis of our consolidated results of operations and
financial condition should be read in conjunction with the selected consolidated
financial and operating data and consolidated financial statements and related
notes included elsewhere in this prospectus.
GENERAL
The financial statements and data presented in the prospectus have been
prepared in accordance with generally accepted accounting principles, or GAAP,
unless otherwise noted. GAAP differs from statutory accounting practices used by
regulatory authorities in their oversight responsibilities of insurance
companies. See Note 16 to the consolidated financial statements for a
reconciliation of our net income and equity between GAAP and statutory
accounting bases. Discussed below are selected key financial concepts.
PREMIUM INCOME. Direct premiums written represent the amounts billed to
policyholders. Direct premiums written are adjusted for premiums ceded to
reinsurers or assumed from other insurers. Premiums ceded to reinsurers
represent the cost to us of reducing our exposure to losses by transferring
agreed upon insurance risks to reinsurers through a reinsurance contract or
"treaty." Net premiums written are earned evenly over the period in which
coverage is provided.
The balance sheet item "premiums received in advance" represents those
premiums collected on policies prior to their renewal dates. Unearned premiums
represent premiums billed but not yet fully earned at the end of the reporting
period. Premiums receivable represent annual billed premiums which have not yet
been collected.
LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES. Loss and LAE reserves are
estimates of future payments for reported and unreported claims and related
expenses of adjusting claims with respect to insured events that have occurred.
The change in these reserves from year to year is reflected as an increase or
decrease to our loss and LAE on the income statement. Loss and LAE reserves are
established based on an estimate of these future payments as reflected in our
past experience with similar cases and historical trends involving claim payment
patterns. Other factors that modify past experience are also considered in
setting these reserves, including court decisions, economic conditions, current
trends in losses, and inflation. Reserving for claims is a complex and uncertain
process, requiring the use of informed estimates and judgments. Although we
follow a practice of conservatively estimating its future payments relating to
losses incurred, there can be no assurance that currently established reserves
will prove adequate in light of subsequent actual experience.
Losses and LAE reserve liabilities as stated on the balance sheet are
reported gross before recovery from reinsurers for the portion of the claims
covered under the reinsurance program, and an asset is established for expected
reinsurance recoverables. Losses and LAE expenses as stated on the income
statement are reported net of reinsurance recoverables.
REINSURANCE. We manage our exposure to individual claim losses, annual
aggregate losses, and LAE through our reinsurance program. The use of
reinsurance is customary practice in the industry. It allows us to obtain
indemnification against a specified portion of losses associated with insurance
policies we have underwritten by entering into a reinsurance agreement with
other insurance enterprises or reinsurers. We pay or cede part of our
policyholder premium to the reinsurers. The reinsurers in return agree to
reimburse us for a specified portion of any claims covered under the reinsurance
contract. While reinsurance arrangements are designed to limit losses from large
exposures and to permit recovery of a portion of direct losses, reinsurance does
not relieve us of our direct liability to our insureds.
38
<PAGE> 41
DESCRIPTION OF RATIOS ANALYZED
In the analysis of our results that follows, we refer to various financial
ratios that investors use to analyze and compare the results of insurance
companies. These ratios include:
- LOSS RATIO -- This ratio compares our losses and loss adjustment expenses
to our net premiums earned and indicates how much we expect to pay to
policyholders for claims and related settlement expenses compared to the
amount of premiums we earn. The lower the percentage, the more profitable
our insurance business is, all else being equal.
- UNDERWRITING EXPENSE RATIO -- This ratio compares our expenses to obtain
new business and renew existing business plus normal operating expenses
to our net premiums earned and is used to measure how efficient we are at
obtaining business and operating the company. The lower the percentage,
the more efficient we are, all else being equal. Sometimes, however, a
higher underwriting expense can result in better business and improve our
loss ratio and overall profitability.
- COMBINED RATIO -- This ratio compares the sum of our underwriting expense
ratio and our loss ratio. The lower the percentage, the more profitable
our insurance business is. This ratio excludes the effects of investment
income.
- OPERATING RATIO -- This ratio equals the sum of losses and loss
adjustment expense, plus policy acquisition and other underwriting
expense, minus investment income, net of investment expense, divided by
net premiums earned. If the percentage is less than 100%, our insurance
operations are profitable.
The statutory ratios will differ from the GAAP ratios as a result of
differences in accounting between GAAP and the statutory basis of accounting,
along with differences in classification of certain losses and other expenses.
Additionally, the denominator for the underwriting expense ratio for GAAP is net
premiums earned, versus net premiums written for statutory ratios.
39
<PAGE> 42
SUMMARY PREMIUM VOLUME BY PRODUCT AND MAJOR MARKET:
<TABLE>
<CAPTION>
FOR THE SIX MONTHS ENDED JUNE 30, FOR THE YEAR ENDED DECEMBER 31,
--------------------------------- ------------------------------------------------------
2000 1999 1999 1998 1997
--------------- --------------- ---------------- ---------------- ----------------
% OF % OF % OF % OF % OF
AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL
------- ----- ------- ----- -------- ----- -------- ----- -------- -----
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Direct premiums written:
Medical professional
liability
Michigan................. $13,035 14.0% $13,780 16.6% $ 46,626 24.6% $ 49,403 30.8% $ 49,004 37.8%
Kentucky................. 12,229 13.2 13,792 16.6 19,857 10.5 19,224 12.0 17,414 13.4
Ohio..................... 6,113 6.6 7,605 9.1 18,744 9.9 17,369 10.8 10,464 8.1
Illinois................. 6,456 6.9 5,859 7.0 14,385 7.6 8,610 5.4 3,468 2.7
Florida.................. 7,113 7.7 5,194 6.2 13,857 7.3 6,894 4.3 -- 0.0
New Mexico............... 3,768 4.1 3,947 4.7 7,763 4.1 8,351 5.2 8,523 6.6
Other.................... 1,200 1.3 688 0.8 1,645 0.8 387 0.3 170 0.1
------- ----- ------- ----- -------- ----- -------- ----- -------- -----
Total medical
professional
liability............ $49,914 53.7% $50,865 61.1% $122,877 64.8% $110,238 68.8% $ 89,043 68.7%
Workers' compensation
Minnesota................ 12,690 13.7% 10,341 12.4% 18,477 9.7% 15,794 9.8% 14,704 11.4%
Michigan................. 4,050 4.4 3,980 4.8 7,903 4.2 7,521 4.7 4,423 3.4
Indiana.................. 3,602 3.9 3,316 4.0 6,340 3.3 5,786 3.6 5,381 4.2
Iowa..................... 3,610 3.9 2,851 3.4 3,340 1.8 933 0.6 15 0.0
Kentucky................. 1,576 1.7 1,309 1.6 2,966 1.6 1,897 1.2 908 0.7
Illinois................. 2,019 2.2 995 1.2 2,415 1.3 1,883 1.2 700 0.5
Other.................... 690 0.7 565 0.7 1,710 0.9 828 0.5 113 0.1
------- ----- ------- ----- -------- ----- -------- ----- -------- -----
Total workers'
compensation......... $28,237 30.4% $23,357 28.1% $ 43,151 22.8% $ 34,642 21.6% $ 26,244 20.3%
Personal and commercial.... 8,104 8.7% 7,177 8.6% 13,669 7.2% 12,167 7.6% 13,272 10.2%
Other...................... 6,649 7.2 1,805 2.2 9,950 5.2 3,258 2.0 1,034 0.8
------- ----- ------- ----- -------- ----- -------- ----- -------- -----
Total.................... $92,904 100.0% $83,204 100.0% $189,647 100.0% $160,305 100.0% $129,593 100.0%
======= ===== ======= ===== ======== ===== ======== ===== ======== =====
Net premiums earned:
Medical professional
liability................ $53,113 61.4% $49,582 68.6% $ 96,323 64.8% 96,288 70.3% 70,486 66.0%
Workers' compensation...... 22,618 26.1 16,774 23.2 36,758 24.7 30,001 21.9 22,942 21.5
Personal and commercial.... 6,033 7.0% 5,012 6.9% 10,730 7.2% 10,244 7.5% 13,336 12.5%
Other...................... 4,727 5.5 929 1.3 4,845 3.3 462 0.3 -- 0.0
------- ----- ------- ----- -------- ----- -------- ----- -------- -----
Total.................... $86,491 100.0% $72,297 100.0% $148,656 100.0% $136,995 100.0% $106,764 100.0%
======= ===== ======= ===== ======== ===== ======== ===== ======== =====
</TABLE>
40
<PAGE> 43
KEY RATIOS BY PRODUCT:
<TABLE>
<CAPTION>
FOR THE THREE MONTHS FOR THE SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30, FOR THE YEAR ENDED DECEMBER 31,
--------------------- --------------------- ----------------------------------
2000 1999 2000 1999 1999 1998 1997
--------- --------- --------- --------- --------- --------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Loss ratios:
Medical professional liability... 86.0% 81.9% 89.3% 87.8% 86.5% 91.4% 83.7%
Workers' compensation............ 68.4 86.3 77.8 84.7 79.5 80.7 78.7
Personal and commercial.......... 75.0 97.8 74.1 97.7 81.9 92.7 85.4
Other............................ 154.0 (8.3) 87.8 79.2 199.3 78.7 0.0
Total.......................... 84.6 83.8 85.1 87.7 88.1 89.1 82.8
Underwriting expense ratios:
Medical professional liability... 16.3% 20.3% 17.5% 21.0% 23.0% 24.4% 27.9%
Workers' compensation............ 29.8 35.7 29.5 37.1 33.5 35.9 33.0
Personal and commercial.......... 37.0 50.4 35.9 47.2 41.3 37.2 25.0
Other............................ 32.1 186.1 38.7 25.5 23.1 92.3 0.0
Total.......................... 22.4 26.7 23.1 26.6 26.9 28.1 28.8
Combined ratios:
Medical professional liability... 102.3% 102.2% 106.8% 108.8% 109.5% 115.8% 111.6%
Workers' compensation............ 98.2 122.0 107.3 121.8 113.0 116.6 111.7
Personal and commercial.......... 112.0 148.2 110.0 144.9 123.2 129.9 110.4
Other............................ 186.1 177.8 126.5 104.7 222.4 171.0 0.0
Total.......................... 107.0 110.5 108.2 114.3 115.0 117.2 111.6
Industry combined ratios (a):
Medical professional liability... -- -- -- -- 124.5% 115.7% 107.9%
Workers' compensation............ -- -- -- -- 113.5% 107.6% 100.7%
===== ===== ======
</TABLE>
-------------------------
(a) Industry combined ratios are not available for quarterly periods.
OVERVIEW
We are a leading provider of medical professional liability insurance
coverage, writing in 13 states throughout the country. Based on direct premiums
written as reported by A.M. Best Company, Inc., we are currently the leading
writer in Michigan, Kentucky and New Mexico. This insurance coverage protects
physicians and other health providers from claims filed against them for alleged
acts of medical malpractice. Medical professional liability insurance
represented 64.8% of our direct premiums written in 1999. We are also a writer
of workers' compensation insurance in 11 states, insuring a variety of business
classes. In addition, we provide a limited amount of general personal and
commercial coverage and participate in a small number of health insurance
programs. Finally, we have begun to develop a financial services segment, which
currently generates fee-based revenue for various consulting services.
Our revenues are derived primarily from premiums charged for our insurance
products, investment income and realized gains from our investment portfolio,
and service fee income from asset management and other consulting services. Our
expenses consist principally of indemnity payments on claims arising from our
insurance products and related settlement expenses, policy
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<PAGE> 44
acquisition costs, other underwriting and operating expenses, investment
management fees, and premium and income taxes.
Our profitability depends in large part upon: (1) the adequacy of our
product pricing and risk selection, which is primarily a function of competitive
conditions and our ability to assess and manage loss trends, (2) our ability to
acquire and service the business underwritten by us in a cost-effective manner,
and (3) the size of our investment portfolio and our ability to generate
investment income from our portfolio. We are currently undertaking
re-underwriting efforts and rate increases in an effort to improve our
profitability and to eliminate unacceptable risks. The re-underwriting process
could have a negative effect on premiums and revenues. Further, the ultimate
impact of the rate increases cannot be foreseen due to competitive conditions
and the potential negative effect on retention. While we believe these efforts
are reasonably likely to have a material impact on our results of operations,
there can be no assurance that we will be more profitable as a result.
Our premium trends are affected by local market economic trends and the
competitive environment. Prior to 1999, the overall "soft market" in medical
professional liability resulted in significant price competition in almost all
markets. In 1999, we began to see a reversal of this trend and an increase in
premium rates. During 1999, we implemented rate increases in some of our major
medical professional liability markets including a 17.4% increase in Kentucky, a
12.4% increase in Ohio and a 5.0% increase in Illinois. Further increases have
been made in 2000, including a 17.9% increase in Florida, a 4.9% increase in
Michigan, an 8.6% increase in New Mexico, a 7.1% increase in Kentucky and a
14.9% increase in Ohio. Workers' compensation insurance rates have been
increased on average approximately 5% in 2000. Our premium volume is also
impacted by management's ongoing strategic initiative to diversify both
geographically and by product. Finally, we continuously evaluate premium rates
and volumes to ensure the profitability of each market.
Medical professional liability direct premiums written increased 11.5% to
$122.9 million in 1999 and 24% to $110.2 million in 1998. Our original core book
of business in Michigan has declined moderately to $46.6 million in 1999, from
$49.4 million in 1998 and $49.0 million 1997. This decrease was caused by
physician practice consolidation and price competition. Most of our growth has
occurred in Illinois, Florida, and Ohio, which we entered with de novo
operations rather than through acquisitions. We began providing medical
professional liability insurance in Illinois in 1995 and this market has grown
from $3.5 million in 1997 to $14.4 million in 1999, as we have established
ourselves as a major and stable provider in this state. We were the fifth
largest medical professional liability insurer in Illinois in 1999 in terms of
direct premiums written as reported by A.M. Best Company. Our Florida operation
began in 1998 with the employment of a small group of experienced medical
professional liability insurance underwriters. With this local connection, our
market presence has quickly and effectively grown from zero in 1997 to almost
$14 million in 1999. We were the eleventh largest medical professional liability
insurer in Florida in 1999. We entered Ohio in 1994 to take advantage of a
competitive opportunity in that state. Our direct premiums written in Ohio
increased from $10.5 million in 1997 to $18.7 million in 1999. We were the fifth
largest medical professional liability insurer in Ohio in 1999.
Our workers' compensation business has also experienced growth in recent
years, with direct premiums written increasing 24.6% in 1999 to $43.2 million
and 32% in 1998 to $34.6 million. Our major growth in direct premiums written in
1999 came from Minnesota ($18.5 million), Michigan ($7.9 million), Iowa ($3.3
million)and Kentucky ($3.0 million). Our workers' compensation business began in
Minnesota in 1993 when we formed a strategic relationship with the Minnesota
Independent Insurance Agents organization. We have since expanded our writings
into contiguous states and those states where we already had a physical presence
for medical professional liability. Workers' compensation insurance represented
22.8% of our business in 1999.
Direct premiums written for personal and commercial business totaled $13.7
million in 1999, $12.2 million in 1998 and $13.3 million in 1997, as insurance
provided to non-target market insureds
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<PAGE> 45
was discontinued and replaced with physician-related policies. Personal and
commercial insurance represented 7.2% of our business in 1999. In 2000 we
determined that the current volume of business could not sustain the expense
load of this operation and have begun to phase out this line of business in its
current form.
Our health line of business has grown from $1.0 million in 1997 to $9.95
million (5.2% of total premiums) in 1999. The business strategy for this line of
business has been the formation of strategic business relationships with major
physician groups who desire to form their own preferred health provider
organizations. We serve as the underwriter for these health programs, but then
cede as much as 95% of the risk to health reinsurers, resulting in an average
retention of 42%. However, due to the volatility of health losses and the
inability to achieve a critical mass of health professionals and premiums, we
have begun to discontinue the health operations. As some of these arrangements
have one to three year commitments, 2000 premiums are expected to continue to
grow. However, 2001 premiums are expected to be significantly less with little
or no premiums thereafter.
We use reinsurance treaties to increase underwriting capacity in terms of
both large line capacity and premium capacity. The net retention and treaty
limits for both professional liability ($11.0 million per occurrence) and
workers compensation (coverage up to the full statutory limits above our
$500,000 retention) capture almost all of our capacity requirements. These
reinsurance arrangements allow us to provide policy limits as required by the
marketplace, without retaining an unreasonable amount of risk. We are also able
to enter new markets without a complete burden on our surplus. This was the case
in Florida, where through 1999 we maintained a 50% quota share reinsurance
arrangement.
Our level of reinsurance participation varies by line of business and, in
some cases, by geographic market. Approximately 18.4% of medical professional
liability premiums were ceded in 1999 as a result of ceding 50% of our Florida
business during its start-up phase. We expect to cede a more normal 12% of
premium liability in 2000. We ceded approximately 4% of workers' compensation
premiums, 17% of personal and commercial premiums and 50% of health premiums.
Our incurred losses are impacted by the frequency and severity of our
insured claims, the local judicial environment and corresponding jury awards,
and state tort reform efforts.
Our expenses consist primarily of policy acquisition costs, which include
commissions, underwriting expenses and premium taxes. Expenses can vary greatly
due to different commission rates and other distribution costs. In late 1999, we
began a process of reengineering our operations to increase efficiencies and
reduce costs by closing two small offices in Indianapolis, Indiana and Columbus,
Ohio. These actions were the first phase of the restructuring of our home office
staff. A small number of staff in those offices relocated to our Louisville
office, and the balance of the staff was laid-off. A total of 35 people,
primarily clerical staff, were terminated at the time of the restructuring.
These events caused a $955,000 charge in 1999, but should result in annual
expense reductions of approximately $2 million, primarily in respect of
salaries, benefits and rent. The $955,000 charge recorded included $802,000 of
severance compensation, $79,000 in office closure cost, and $74,000 in
outplacement services. There were no amounts accrued for restructuring costs at
December 31, 1999. The reengineering process will continue through 2000 and 2001
as we complete a corporate-wide program to update processes and procedures.
There is a potential for another 10 to 30 terminations in 2000 as we evaluate
other locations. This project is being performed in conjunction with
establishing a centralized customer service center or "call center" to
facilitate faster response to customer calls and questions and increase
professional staff effectiveness.
Investment income is generated from the interest earned on our fixed income
security portfolio and, to a lesser extent, rental income on real estate and
dividends received on our equity portfolio. A major restructuring of the
investment portfolio is being undertaken in 2000. We liquidated
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<PAGE> 46
approximately 25% of our bond portfolio and shifted the proceeds into higher
yield corporate securities with an "A" or better Standard & Poor's rating.
Losses generated by these sales were offset by gains in our equity portfolio. We
expect that these changes will increase our average investment yields by
approximately 68 basis points. The investment portfolio restructuring will
continue throughout 2000 as we further diversify our fixed income portfolio and
take a more aggressive duration position.
Realized gains and losses are generated from the sale of fixed income
securities, equity securities and real-estate investments. It has been
management's practice to allocate a portion (approximately 16%) of the portfolio
to capital investment, generally equities and real estate, which generates
appreciation and the ability to recognize gains in the future. The carrying
value of the assets in the portfolio fluctuates due to market conditions. In
1999, we experienced a $27.5 million decline in the market value of the fixed
income portfolio due to rising interest rates. While this decline in market
value impacts the financial statement carrying value of the securities, it does
not affect the ultimate collectibility of the securities.
Our federal income tax rate tends to be lower than the statutory rate due
to tax exempt interest earned on certain securities.
RESULTS OF OPERATIONS -- SIX MONTHS ENDED JUNE 30, 2000 COMPARED TO SIX MONTHS
ENDED JUNE 30, 1999
Direct premiums written increased $9.7 million, or 11.7%, to $92.9 million
in the six months ended June 30, 2000. Medical professional liability direct
premiums written were $49.9 million for the six months of 2000, as compared to
$50.9 million in the first six months of 1999. Increases in Florida of $1.9
million, or 36.9%, and small increases in several other states were offset by
decreases in Kentucky, down $1.6 million or 11.3%, and Ohio, down $1.5 million
or 19.6%. The increase in Florida is due to our relatively new presence in this
market coupled with our price increases. The decreases in Kentucky and Ohio are
the result of our on-going efforts to re-underwrite each book of business
periodically and eliminate unacceptable risks. We instituted substantial price
increases in both states, which were more than offset by reductions in volume.
Workers' compensation direct premiums written increased $4.9 million, or
20.9%, to $28.2 million for the six months ended June 30, 2000. The majority of
this increase was in the Minnesota market, which was up $2.3 million, or 22.7%.
The increase in workers' compensation direct premiums written resulted primarily
from retroactive premium adjustments relating to audits of covered compensation,
as well as selected rate increases.
Personal and commercial lines direct premiums written increased $0.9
million, or 12.9% to $8.1 million for the six months ended June 30, 2000. This
increase reflects our efforts to market this line to health care related
professionals. Health insurance direct premiums written increased $4.8 million
to $6.6 million for the first six months of 2000, as we were just beginning some
of our health programs a year ago.
Net premiums written increased by $12.7 million, or 17.4%, to $85.7 million
for the six months ended June 30, 2000. This increase reflects the increase in
direct premiums written and changes in our reinsurance program, primarily
eliminating the 50% quota share arrangement in Florida.
In total, our loss ratio improved to 85.1% for the six months ended June
30, 2000 as compared to 87.7% for the six months ended June 30, 1999. Medical
professional liability insurance losses and loss adjustment expenses increased
$3.9 million, or 8.9%, to $47.4 million for the six months ended June 30, 2000.
As a percentage of premiums earned, the medical professional liability insurance
loss ratio increased to 89.3% for the six months ended June 30, 2000, compared
to 87.8% for the same
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<PAGE> 47
period of 1999. Increases in Kentucky and Ohio premium rates did not offset the
higher losses incurred in Florida and Ohio.
Workers' compensation insurance losses and loss adjustment expenses
increased $3.4 million, or 23.9%, to 17.6 million for the six months ended June
30, 2000. As a percentage of premiums earned, the workers' compensation
insurance loss ratio decreased to 77.8% for the six months ended June 30, 2000,
compared to 84.7% for the same period of 1999, primarily due to rate increases
effective on January 1, 2000 in Minnesota and Michigan.
Personal and commercial insurance losses and loss adjustment expenses
decreased $429,000, or 8.8%, to $4.5 million for the six months ended June 30,
2000. As a percentage of premiums earned, the personal and commercial insurance
loss ratio decreased to 74.1% for the six months ended June 30, 2000, compared
to 97.7% for the same period of 1999, due primarily to a reduction in winter
storm related losses from 1999 to 2000.
We reported an 87.8% loss ratio in health insurance for the first six
months of 2000 as compared to 79.2% for the first six months of 1999 due to
unfavorable medical loss results so far in 2000. We have experienced substantial
volatility in these rates in the past.
The overall underwriting expense ratio improved to 23.1% in the first six
months of 2000 from 26.6% reported for the first six months of 1999. Medical
professional liability policy acquisition and underwriting expenses decreased
$1.1 million, or 10.7%, to $9.3 million for the six months ended June 30, 2000.
As a percentage of premiums earned, the medical professional liability
underwriting expense ratio decreased to 17.5% for the six months ended June 30,
2000 from 21.0% for the same period of 1999. This decrease was due primarily to
expense reduction measures that we began implementing in the fourth quarter of
1999.
Workers' compensation underwriting expenses increased $451,000, or 7.3%, to
$6.7 million for the six months ended June 30, 2000. As a percentage of premiums
earned, the underwriting expense ratio decreased to 29.5% for the six months
ended June 30, 2000, from 37.1% for the same period of 1999. This decrease was
also due to the expense reduction measures that we began implementing in the
fourth quarter of 1999, including the closing of our Indianapolis workers'
compensation service office.
Personal and commercial underwriting expenses decreased $197,000 or 8.3% to
$2.2 million for the six months ended June 30, 2000. As a percentage of premiums
earned, the underwriting expense ratio decreased to 35.9% for the six months
ended June 30, 2000 from 47.2% in 1999. This decrease was due to specific
expense reduction efforts for this line of business.
Net investment income, excluding realized investment gains, increased $1.7
million or 12.0%, to $15.6 million for the six months ended June 30, 2000. The
increase reflects a shift of some of our portfolio from tax exempt securities to
higher yielding taxable corporate securities in the first quarter of 2000. Net
realized investment gains were $1.9 million and $623,000 during the six month
periods ended June 30, 2000 and 1999, respectively. See
"Business -- Investments."
Other expense of $1.3 million includes $459,000 of additional restructuring
charges in 2000. This includes $43,000 in lease termination charges and
approximately $400,000 in severance charges related to the elimination of seven
staff members located in our New Mexico branch office and our health insurance
operation at our East Lansing, Michigan home office. These events are expected
to generate annual savings of approximately $553,000 in salaries. In addition,
we have incurred $274,000 of conversion expenses. The increase in amortization
expense is a result of the acquisition of the management company in October
1999.
We recorded $3.1 million in federal income tax expense for the six months
ended June 30, 2000, compared to $523,000 in federal income taxes during the
same period in 1999. The effective tax rate
45
<PAGE> 48
was 32.6% for the six months ended June 30, 2000, compared to 14.1% for the six
months ended June 30, 1999. As described above, a significant amount of tax
exempt securities were sold in the first quarter of 2000, resulting in a higher
effective tax rate this year.
RESULTS OF OPERATIONS -- 1999 COMPARED TO 1998
Direct premiums written increased $29.3 million or 18.3% in 1999 to $189.6
million. This increase was generated by all product lines. Medical professional
liability direct premiums written totaled $122.9 million in 1999, up $12.6
million or 11.5%. The largest growth was in Florida, up $7.0 million, or 101%,
and Illinois, which was up $5.8 million, or 67%. The increase in both of these
markets reflects the continued growth in relatively new markets entered into by
MICOA. Our core Michigan business was down $2.8 million, or 5.6%, to $46.6
million, due to rate increases, price competition and physician practice
consolidation. Workers' compensation direct premiums written were up $8.5
million or 24.6% to $43.2 million in 1999. The largest gains were experienced in
Minnesota with an increase of $2.7 million, Iowa with an increase of $2.4
million, and Kentucky with an increase of $1.1 million. Minnesota's growth is an
expansion of a long-term market, whereas Kentucky and Iowa are relatively new
markets for MICOA. In addition, we took various rate increases, which impacted
our 1999 premiums.
Personal and commercial direct premiums written were up $1.5 million or
12.3% to $13.7 million as a result of rate increases and cross-selling to
physicians. Health direct premiums written increased $6.7 million or 205.4% to
$9.9 million, as this was only our second full year of writing health premiums.
On a net basis, premiums increased to $158.0 million, up $10.2 million or
6.9% from 1998. There are two primary reasons that the increase in net premiums
written is so much lower than the increase in direct premiums written. First,
there was an increase in the proportion of business from markets and products
where we cede more premiums, principally Florida medical professional liability
(50% ceded) and health insurance nationally (58% ceded). Second, there was a
$5.1 million increase in ceded premiums in 1999 due to an unfavorable adjustment
in the swing-rated reinsurance program resulting from prior year loss activity.
This compares to a favorable adjustment in 1998 of $3.7 million, which reduced
the 1998 ceded premium. Net premiums earned increased $11.7 million, or 8.5%, to
$148.7 million. The difference in growth rate between net written and net earned
premiums primarily reflected the timing of adding new premiums to the book of
business.
Losses and loss adjustment expenses increased $8.9 million, or 7.3%, to
$130.9 million in 1999. The 1999 reported loss ratio was 88.1% as compared to
89.1% in 1998. The accident year loss ratio, which excludes the effects of prior
year developments of loss reserves, was 101.7% in 1999 compared to 103.8% in
1998. We began to see a decline in both the calendar year reported loss ratio
and the accident year loss ratio in 1999. These decreases are primarily the
result of rate increases and a change in the mix of business. The reported loss
ratio is lower than the accident year loss ratio for both years as a result of
favorable development of prior year reserves. Our reported loss ratio has
consistently been less than our accident year loss ratio due to the inherent
uncertainty of medical professional liability claims and our conservative
reserving philosophy. In the period of notice, claims are reserved based on our
estimates of their potential outcome, given the nature and severity of the case.
However, many of our claims have ultimately resulted in lower losses than
initially estimated.
When we enter a new market we tend to be conservative in establishing our
reserves due to our limited history in the local court system. In addition,
because we do not have sufficient company-specific data for projecting reserves,
we utilize industry loss data in the applicable state to establish reserves for
incurred but not reported claims. To the extent these assumptions prove to be
different than our actual experience, subsequent reserve adjustments are
necessary. The recent growth of our medical professional liability business into
new markets has increased this subsequent reserve
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<PAGE> 49
adjustment activity. It usually takes several years to determine the ultimate
loss ratio for any given accident year.
Our 1999 loss ratio was adversely affected by a $6 million reserve
established for a specific health insurance arrangement, which has now been
discontinued. See "Business -- Loss and Loss Adjustment Expense Reserves."
On a line of business basis, the medical professional liability loss ratio
for 1999 was 86.5% as compared to 91.4% for 1998. The medical professional
liability loss ratio continued to benefit from favorable experience in our
Michigan business and rate increases taken in several markets. The workers'
compensation loss ratio was 79.5% in 1999 compared to 80.7% in 1998. The
personal and commercial loss ratio was 81.9% in 1999 and 92.7% in 1998, and the
health loss ratio was 199.3% in 1999 and 78.7% in 1998. The 1999 health loss
ratio was adversely affected by a one-time reserve establishment. Without this
adjustment, the health loss ratio would have been 69.2%.
Underwriting expenses increased $1.6 million or 4.1% in 1999 to $40.0
million. The underwriting expense ratio was 26.9% in 1999 as compared to 28.1%
in 1998. The primary reason for the decrease in expense ratio from 1998 was our
ability to control the rate of expense growth to an amount lower than our
premium growth. Specifically, control over hiring new personnel, reduction in
travel and other service expenses, and lower professional fees resulted in lower
expenses. These savings were partially offset by $0.5 million of development
costs relating to the ART initiative and MICOA Direct. See "Business -- Other
Lines of Business and Services."
Net investment income of $27.3 million in 1999 represented an increase of
$0.8 million or 3.0% over the $26.5 million earned in 1998. The increase was the
result of a larger invested portfolio. Our current return on investments,
excluding changes in market value, was 5.59% in 1999 as compared to 5.64% in
1998. Investment income also included $1.1 million in 1999 from rental income on
investment real estate.
Realized gains were $1.8 million in 1999, down $7.7 million from 1998. The
1998 results were unusually large due to the transitioning of the equity
portfolio to new investment managers. The new managers significantly
restructured the portfolio, triggering a large amount of realized gains.
Other income was $6.7 million in 1999, up $3.8 million from 1998. The 1999
amount includes $9.8 million of interest earned on a settlement with the
Internal Revenue Service, less professional fees and other costs associated with
the settlement of $3.9 million. Other income typically includes finance charge
income from physician premium payment plans. Such income was offset by a higher
level of receivable write-offs in 1999 versus 1998.
Federal income taxes showed a credit of $23.7 million in 1999 versus an
expense of $3.4 million in 1998. The credit was the result of a settlement with
the Internal Revenue Service regarding the treatment of certain loss reserves on
prior years' tax returns. The settlement included $25.3 million in taxes and
$9.8 million in interest for a total of $35.1 million. After associated
professional fees, other costs, and tax of $2.1 million on the interest
component, the net impact was $29.1 million on 1999 operations. The effective
tax rate without the impact of this settlement was approximately 15%, compared
to 27% in 1998. The decrease in the effective tax rate was the result of more of
our pre-tax income being generated from tax-exempt interest.
RESULTS OF OPERATIONS -- 1998 COMPARED TO 1997
Direct premiums written increased to $160.3 million, up $30.7 million or
23.7% in 1998. Medical professional liability direct premiums written were
$110.2 million, an increase of $21.2 million or 23.8% over 1997. The majority of
this increase occurred in Ohio (up $6.9 million), Illinois (up $5.1 million) and
Florida (up $6.9 million). The increase in Ohio was the result of market
opportunities
47
<PAGE> 50
created by the failure of a large competitor. In Illinois, our activities moved
from a start-up phase to more full-fledged operations. We began writing in
Florida for the first time in 1998.
Workers' compensation direct premiums written increased $8.4 million to
$34.6 million in 1998, up 32% from 1997. Much of this increase was in Michigan,
which was up $3.1 million due to the addition of more experienced home office
personnel. Our Illinois (up $1.2 million), Minnesota (up $1.1 million) and
Kentucky (up $1.0 million) operations also experienced growth in 1998.
Personal and commercial direct premiums written dropped to $12.2 million in
1998, down $1.1 million or 8.3%. This was due to the continued restructuring of
this business away from an agricultural focus. Health premiums were $3.3
million, up $2.2 million from 1997. 1998 was our first full year of operation in
this line.
Net premiums written were $147.8 million in 1998, up $37.0 million or
33.4%. The larger increase in net premiums versus direct premiums written was
the result of $3.7 million in favorable ceded reinsurance premium adjustments
received in 1998. Net premiums earned were $137.0 million in 1998, up $30.2
million, or 28.3%, from 1997, a smaller percentage increase than premiums
written due to the timing of when policies were written during the year.
Losses and loss adjustment expenses totaled $122.1 million in 1998, an
increase of $33.6 million or 38.0%. Much of the increase was a result of the
28.3% increase in net premiums earned. However, while our accident year loss
ratio was 103.8% in 1998, as compared to 104.4% in 1997, our reported loss ratio
increased to 89.1% in 1998, compared to 82.8% in 1997.
Our medical professional liability loss ratio increased to 91.4% in 1998
from 83.7% in 1997. This increase was typical in the medical professional
liability insurance sector due to price competition and an increase in loss
frequency and severity. Our recent growth and expansion into new markets added
to this loss ratio increase. Our workers' compensation loss ratio was also up to
80.7% in 1998 from 78.7% in 1997, reflecting a weak pricing environment caused
by softer market conditions in 1998. Our personal and commercial ratio was up to
92.7% in 1998 versus 85.4% in 1997. Both of these lines experienced increases
due to normal fluctuations in loss activity. The first year of health business
generated a loss ratio of 78.7%.
Underwriting expenses increased $7.6 million to $38.5 million for 1998, an
increase of 24.9% from 1997. This increase was more than accounted for by the
28.3% increase in net premiums earned and the corresponding increase in
commissions. As a result, the underwriting ratio decreased to 28.1% in 1998 from
28.8% in 1997. This decrease was a function of the large amount of non-recurring
merger and acquisition costs incurred in 1997.
Our medical professional liability expense ratio decreased to 24.4% in 1998
from 27.9% in 1997. The 1997 expense ratio was unusually high due to merger and
acquisition activity in 1997. Our workers' compensation expense ratio increased
to 35.9% in 1998 from 33.0% in 1997. This increase was attributable to expansion
in our workers' compensation book of business, where we increased writings by
32%. The personal and commercial expense ratio was 37.2% in 1998, up from the
25.0% in 1997. This increase was caused by the restructuring and the 23.2%
reduction in this book of business as we moved away from our agricultural
customer base. The 92.3% expense ratio for health was the result of start-up
expenses for this line.
Net investment income generated in 1998 totaled $26.5 million, the same net
amount earned in 1997. The current yield, excluding changes in market value on
our bond portfolio, went from 6.90% in 1997 to 5.44% in 1998. This decline in
current yield, which was caused by a substantial decline in long-term interest
rates in 1998, was offset by an increase in invested assets of $27.2 million. A
significant portion of our portfolio was shifted to cash due to volatile
interest rates. Overall, our total portfolio return decreased from 6.32% in 1997
to 5.64% in 1998.
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Net realized investment gains increased dramatically in 1998 to $9.5
million, up $7.9 million from 1997. Of this amount, $6.9 million of the gain was
generated from our equity securities portfolio. In July 1998, we terminated our
three previous investment managers and engaged three new managers. The new
managers restructured the portfolio and sold approximately 50% of the securities
previously held, thereby triggering the large gain.
Federal income taxes were $3.4 million in 1998 as compared to $4.8 million
in 1997. Our effective tax rate was 27.3% in 1998 and 30.4% in 1997. Our lower
effective tax rate and fluctuations thereof are directly attributable to the
level of tax-exempt interest generated by our bond portfolio.
LIQUIDITY AND CAPITAL RESOURCES
APCAPITAL. APCapital is a holding company whose only material assets
immediately after the conversion will be the capital stock of MICOA and its
subsidiaries and 50% of the net proceeds from the offerings. APCapital intends
to use these net proceeds to fund its long- and short-term liquidity needs,
which include operating expenses, financing future acquisitions, and may include
making additional contributions to our subsidiaries. APCapital's ongoing cash
flow will consist primarily of dividends and other permissible payments from its
subsidiaries and investment earnings on funds held. APCapital will depend upon
such payments and income for funds for general corporate purposes. See "Use of
Proceeds."
The payment of dividends to APCapital by its insurance subsidiaries will be
subject to limitations imposed by applicable law. For example, based upon the
limitations imposed under the Michigan Holding Company Systems Act, the maximum
amount available for payment of dividends to APCapital by MICOA at June 30, 2000
without the prior approval of regulatory authorities is approximately $18
million. The reorganization and conversion may change the amount available for
the payment of dividends. MICOA's ability to pay dividends to APCapital is
influenced by a variety of factors, including cyclical changes in the medical
professional liability insurance market, MICOA's financial results, insurance
regulatory changes, including changes in the limitations imposed by the Michigan
Holding Company Systems Act on the payment of dividends by MICOA and changes in
general economic conditions.
MICOA. The primary sources of MICOA's liquidity, on both a short- and
long-term basis, will be funds provided by insurance premiums collected, net
investment income, recoveries from reinsurance and proceeds from the maturity or
sale of invested assets. The primary uses of cash, on both a short- and
long-term basis, are losses, loss adjustment expenses, operating expenses,
reinsurance premiums and taxes. In addition, MICOA is indebted to related
parties in the amount of $10 million in connection with the purchase of
Stratton-Cheeseman Management Company. The indebtedness is due in installments,
without interest, over the next nine years beginning in April 2001. At December
31, 1999 and June 30, 2000, MICOA had no material commitments for capital
expenditures.
MICOA's net cash flow from operating activities was approximately $44.7
million for the first six months of 2000, primarily due to the receipt of an
income tax refund and related interest totalling $36.2 million and net income of
$6.4 million. MICOA invests its positive cash flow from operations in both fixed
maturity securities, including short-term investments, and equity securities.
MICOA's investment strategy seeks to maximize after-tax income through a high
quality, diversified, duration sensitive, taxable bond and tax-preferenced
municipal bond portfolio, while maintaining an adequate level of liquidity, and
a modest level of investment in equity securities.
At June 30, 2000, MICOA had $74.7 million of cash available and an
investment portfolio of $509.0 million. The portfolio includes $5.6 million of
bonds maturing in the next year and $38.8 million in marketable equity
securities, to meet short-term cash flow needs. On a long-term basis, fixed
income securities are purchased on a basis intended to provide adequate cash
flows from future
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maturities. At June 30, 2000, $112.8 million of bonds mature in the next one to
five years, and $247.6 million mature in the next five to ten years.
Based on historical trends, market conditions and its business plans, MICOA
believes that its existing resources and sources of funds will be sufficient to
meet its short- and long-term liquidity needs over the next 18 months and
beyond. However, because economic, market and regulatory conditions may change,
there can be no assurance that MICOA's funds will be sufficient to meet these
liquidity needs.
EFFECTS OF INFLATION
We consider the effects of inflation on our business in estimating our
reserves for unpaid losses and loss adjustment expenses, and in the premium
rate-making process. The actual effects of inflation on our operations cannot be
accurately known until the ultimate settlement of claims. However, based upon
the actual results reported to date, it is our opinion that our loss reserves,
including reserves for losses that have been incurred but not yet reported,
adequately provide for the effects of inflation.
EFFECTS OF NEW ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board has issued Statement of Financial
Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities," which is effective for fiscal quarters of all fiscal years
beginning after June 15, 2000 (as amended by SFAS No. 137). SFAS No. 133
requires that all derivative instruments be recorded on the balance sheet at
fair value. Changes in the fair value of derivatives are recorded each period in
current earnings or other comprehensive income, depending on whether a
derivative is designated as part of a hedge transaction, and if it is, the type
of hedge transaction. Because we currently do not use derivative instruments, we
anticipate that the adoption of SFAS No. 133 will not affect our results of
operations or financial position.
MANAGEMENT OF MARKET RISK
Market risk is the risk of loss due to adverse changes in market rates and
prices. Our primary market risk is exposure to changes in interest rates. We are
vulnerable to interest rate risk because, like other insurance companies, we
invest primarily in fixed maturity securities, which are interest-sensitive
assets. We are also subject to the uncertainties inherent in the stock market
because we maintain a portfolio of large capitalization equity securities.
We manage market risk through an investment committee of the MICOA board of
directors with reports and strategies presented by our senior officers,
consultants and professional investment advisors. The committee periodically
measures the impact that an instantaneous rise in interest rates would have on
the fair value of securities. One of the measures the committee uses to quantify
interest rate risk is duration. Duration measures the sensitivity of the fair
value of assets and liabilities to changes in interest rates. For example, if
interest rates increase by 100 basis points, the fair value of an asset with a
duration of five years is expected to decrease in value by approximately 5%. To
calculate duration, we project asset and liability cash flows, and discount them
to a net present value basis using a risk-free market rate adjusted for credit
quality, liquidity, and other specific risks. Duration is calculated by
revaluing these cash flows at an alternative level of interest rates, and
determining the percentage change in fair value from the base case. We also
manage the market risk of our equity portfolio by utilizing two different equity
managers with complementary management styles. We also monitor the performance
of the portfolio on a daily basis.
Our fixed income security portfolio was valued at $429.6 million at June
30, 2000 and had an average duration of 4.46 years. The following table shows
the effects of a change in interest rate on
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the fair value and duration of our portfolio. We have assumed an immediate
increase or decrease of 1% or 2% in interest rate. You should not consider this
assumption or the values shown in the table to be a prediction of actual future
results.
<TABLE>
<CAPTION>
PORTFOLIO CHANGE MODIFIED
CHANGES IN RATES VALUE IN VALUE DURATION
---------------- ---------- --------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
+2%............................................. $389,435 $(40,206) 4.40
+1%............................................. $408,124 $(21,517) 4.48
0............................................. $429,641 -- 4.46
-1%............................................. $447,522 $ 17,881 3.89
-2%............................................. $464,867 $ 35,226 3.73
</TABLE>
The other financial instruments in our investment portfolio, which include
cash, premiums due from reinsurers and accrued investment income, do not produce
a significant difference in fair value when included in the market risk analysis
due to their short-term nature.
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BUSINESS
OVERVIEW
American Physicians Capital, Inc. is a holding company which, following the
conversion, will own MICOA, an insurance company which writes primarily medical
professional liability insurance directly and through its subsidiaries Insurance
Corporation of America, or ICA, and RML Insurance Company, or RML. These
companies also provide workers' compensation insurance and, on a limited basis,
personal and commercial insurance as well as health coverage. MICOA also owns a
financial services group of companies. APCapital is headquartered in East
Lansing, Michigan.
MICOA and its subsidiaries had direct premiums written of $189.6 million
and net income of $33.7 million for 1999, and direct written premiums of $92.9
million and net income of $6.4 million for the six months ended June 30, 2000.
In 1999, medical professional liability insurance premiums equaled 65% of direct
premiums written. In the first six months of 2000, that figure was 53%. At June
30, 2000, MICOA and its subsidiaries had total assets of $790.7 million and
total equity of $212.8 million. The A.M. Best Company rating for MICOA and its
subsidiaries is "A-" (Excellent).
MEDICAL PROFESSIONAL LIABILITY INSURANCE
MICOA is primarily a medical professional liability insurance company
servicing health care providers in 13 states throughout the United States, with
a concentration in the Midwest. MICOA and ICA are domiciled in Michigan, and RML
is domiciled in Illinois. The MICOA insurance group is the number one writer of
medical professional liability insurance in Michigan, Kentucky and New Mexico,
with a market share of 26% in Michigan, 27% in Kentucky and 24% in New Mexico,
based on 1999 direct premiums written as reported by A.M. Best Company. MICOA
also generates significant medical professional liability premium volume in
Ohio, Florida and Illinois. In total, the MICOA insurance group is the 16th
largest medical professional liability writer in the United States. We insured
13,073 physicians as of June 30, 2000.
Medical professional liability insurance insures physicians and other
healthcare providers against liabilities arising from the rendering of, or
failure to render, professional medical services. MICOA offers both claims-made
and occurrence policies, depending on the market, and includes legal defense
against asserted medical professional liability claims. Claims-made policies
provide coverage to the policyholder for claims reported during the period of
coverage. Insureds are insured continuously while their claims-made policy is in
force. Occurrence policies provide coverage to the policyholders for all losses
incurred during the policy year regardless of when the claims are reported.
We issue policies on a claims-made basis or an occurrence basis, or on a
claims-made basis with extended coverage after the policy period, which we refer
to as our TailGard(R) coverage. MICOA offers TailGard(R) coverage to insureds in
Michigan if they meet our underwriting criteria. In 1999, 67.0% of our business
was on a claims-made basis, 15.2% was on an occurrence basis and 17.8% was for
TailGard(R).
MICOA has provided high quality insurance products to its insureds in
Michigan since its inception in 1975. The success of MICOA in Michigan, and its
growth in new markets can be attributed to: (1) its close relationship with its
insured physician base; (2) its ability to successfully litigate claims, thereby
reducing its insured's loss exposure; (3) its effective distribution system; and
(4) its ability to provide its insureds with individualized, cost-effective and
efficient service. Recognizing the value of our insurance products and services,
83% of our medical professional liability policyholders renewed their policies
in 1999 despite an extremely price competitive marketplace. Through July 2000,
our medical professional liability book has experienced an 81%
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retention rate. Our direct premiums written for medical professional liability
insurance were $122.9 million and $110.2 million for the years ended December
31, 1999 and 1998 and $49.9 million for the six months ended June 30, 2000.
Although we generate the majority of our premiums from individual and
small-group practices, we also insure several major physician groups and 20
hospitals. MICOA has received the endorsement of several medical associations,
including the Michigan State Medical Society, Kentucky Medical Association,
Michigan Osteopathic Association and the New Mexico Medical Society. We market
our medical professional liability insurance through approximately 35 strategic
agency relationships, with one agent accounting for 59% of premiums written
during 1999.
The operating results of medical professional liability insurers are
subject to significant fluctuations, which can result in net losses due to a
number of factors, including:
- adverse claims experience;
- judicial trends;
- failure to obtain adequate pricing;
- changes in the investment and interest rate environment; and
- general economic conditions.
OTHER LINES OF BUSINESS AND SERVICES
WORKERS' COMPENSATION. In 1993, we recognized the need to diversify our
product line and to broaden our target market beyond the medical professional
liability niche to lines of insurance with greater premium potential. We entered
the workers' compensation market because of several factors, including: (1) the
ease of entry; (2) our expertise in underwriting long tail liability lines,
especially for health-related liability risks; (3) our expertise in claims and
risk management; and (4) the large overall size of the workers' compensation
market. In response to a request by the Minnesota Independent Insurance Agents
Association to help solve a shortage of workers' compensation carriers in that
state, we established an office in Eden Prairie, Minnesota for sales and service
of workers' compensation insurance. The following year, we further expanded our
workers' compensation business into Michigan.
We currently focus on eight workers' compensation classes: health care,
light to medium manufacturing, restaurants, educational services, non-profit
organizations, specialty trade contractors, wholesalers, and auto related sales
and services. These classes were determined after analyzing our current book of
business, available premium, size of market and profit potential. In some
instances, we also looked at the classes of business our agents specialize in
writing. We focus our workers' compensation efforts on under-serviced geographic
markets and under-served classes with a special effort directed at the health
care sector to leverage knowledge and contacts gained in our medical
professional liability business. For the year ended December 31, 1999, MICOA
reported $43 million in direct premiums written in 11 states in this line and
$28 million for the six months ended June 30, 2000.
In the workers' compensation line of business, retention has also remained
strong, even in years of soft market pricing. In 1999, 86.2% of policies were
retained. Through June 2000, MICOA's workers' compensation book has experienced
an 84% retention rate.
PERSONAL AND COMMERCIAL. We began selling personal and commercial products
to our physician base in 1997 following our statutory merger with State Mutual
Insurance Company, or SMIC. Direct
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premiums written generated by this division were $13.7 million and $12.2 million
for the years ended December 31, 1999 and 1998, and $8.1 million for the six
months ended June 30, 2000. Due to the relatively small scale of this operation
and the large proportion of fixed expenses, we have been unable to operate this
business profitably. Consequently, we have determined to wind down this
operation and will seek to provide personal and commercial insurance through
alternative means.
HEALTH INSURANCE. We entered the health market to assist large physician
groups in forming their own preferred provider organizations. While this
strategy has helped to solidify several important relationships, we have found
the health insurance market too volatile to sustain profitable operations and
have been unable to achieve a critical mass of health professionals and
premiums. Consequently, we have determined to de-emphasize this operation. We
underwrote $9.9 million of direct premiums written in 1999, $3.3 million in 1998
and $6.6 million for the six months ended June 30, 2000. The majority of these
premiums were ceded to reinsurers, resulting in net premiums written of only
$4.1 million in 1999 and $1.2 million in 1998.
FINANCIAL SERVICES. We have developed and acquired a variety of other
organizations to offer financial services and consulting to our customers. These
services include captive insurance company arrangements, loss control
consulting, risk management, investment management, and the development of an
Internet portal to our products and services. While most of these initiatives
are in their start-up phase, they generated fees of $206,000 in 1999 and
$162,000 in 1998. The subsidiaries in this group include:
- MICOA DIRECT, LLC -- Formed in May 2000, MICOA Direct uses e-commerce to
offer physicians a new approach to choosing and purchasing medical
professional liability insurance. It provides customers with innovative
advantages, such as 24-hour online convenience, expert advice and
personalized Web-based services. Through MICOA Direct, we can offer
convenient customer service while lowering our distribution costs by
selling direct to the customer. MICOA Direct has been endorsed by the
Michigan State Medical Society as the online insurance vendor of choice
for its approximately 14,000 physician members.
- MICOA INDEMNITY (BERMUDA) LTD. -- MICOA Indemnity (Bermuda) Ltd. was
established in Bermuda for the purposes of providing a rent-a-captive
vehicle for clients and prospects of MICOA and MICOA Consulting. It has
been established as a "segregated cell" company by private act of the
Bermuda Parliament. Under a "segregated cell" company structure, risks
with respect to individual program cells are isolated from those of other
cell clients, thus providing financial protection for each client.
Alternative risk transfer, or ART, programs can be written for individual
or group customers where there is a desire on the part of the customer to
share in the risk/reward benefits of their insurance program.
- MICOA CONSULTING, LLC -- MICOA Consulting was established to sell
stand-alone services of MICOA and to structure ART programs for eligible
MICOA customers and prospects. It is staffed by marketing and
administrative professionals with expertise in the health care industry,
alternative risk operations, claims, loss control and insurance
marketing. MICOA Consulting has the ability to design insurance programs
for large individual entities and group or association programs that are
able to absorb a significant amount of their own risk.
- MICOA MANAGEMENT LTD. -- MICOA Management Ltd. was incorporated in
Bermuda for the purpose of providing management and compliance services
to MICOA Indemnity (Bermuda) Ltd. and the other reinsured clients of
MICOA serviced in Bermuda. As the number of managed programs grows, MICOA
Management Ltd. will assume increased responsibilities and may develop
staff and facilities in Bermuda to accommodate this expanded activity.
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- SURF (BARBADOS) LTD. -- SURF (Barbados) Ltd. is a dormant Barbadian
reinsurance company. It is anticipated that the company may be activated
at some time in the future to offer services through MICOA Consulting.
- ALPHA ADVISORS, INC. -- Alpha Advisors is a fixed income security
investment management firm. Alpha's management team consists of three
professional managers who average 24 years of experience in investment
management. Alpha provides fixed income security management services to
MICOA and its insurance subsidiaries as well as several non-affiliated
insurance organizations. The assets under management or advisement by
Alpha approximate $1.2 billion, of which 60% is from unrelated
organizations.
HISTORY OF MICOA
MICOA was formed as Michigan Physicians Mutual Liability Company in June
1975 under the sponsorship of the Michigan State Medical Society. MICOA was
formed in response to a medical professional liability insurance crisis in
Michigan created when almost all major providers of insurance coverage abandoned
the state. MICOA was formed with capital loaned by individual Michigan
physicians and Blue Cross/Blue Shield of Michigan and managed by
Stratton-Cheeseman Management Company. By 1981, MICOA was the largest writer of
medical professional liability insurance in Michigan, a distinction we maintain
today. We continued to operate for nearly the next twenty years writing
exclusively medical professional liability coverage in the state of Michigan.
In 1993, we recognized the need to diversify our product line and to
broaden our target market beyond the medical professional liability niche to
lines of insurance with greater premium potential. Through a strategic
relationship with the Minnesota Independent Insurance Agents Association, we
began providing workers' compensation insurance in Minnesota. Since then, our
workers' compensation book of business has grown to over $43 million of direct
premiums written, which represented nearly 23% of our total direct premiums
written in 1999.
In 1995, we formed RML in Illinois to write medical professional liability
insurance in that state. Illinois was selected due to the size of the market,
its proximity to Michigan and other unique market opportunities. This de novo
operation grew to $17.0 million in direct premiums written in 1999 and currently
represents one of our most profitable markets.
In 1996, we acquired Kentucky Medical Insurance Company, or KMIC, based in
Louisville, Kentucky, for $25.6 million in cash. KMIC generated direct premiums
written of $50.8 million in 1999. The KMIC acquisition was executed to achieve
geographic diversity in our medical professional liability book, and to
strengthen our competitive position in the Midwest. KMIC's operations have been
combined into MICOA's and, while we are maintaining a Louisville office, KMIC is
being dissolved as a legal entity.
In 1997, we merged with New Mexico Physicians Mutual Liability Company,
based in Albuquerque, New Mexico, and State Mutual Insurance Company, or SMIC of
Lapeer, Michigan. Both of these transactions were completed as statutory mergers
at no cash cost of acquisition to MICOA.
The merger with New Mexico Physicians Mutual Liability Company further
diversified our geographic coverage and added $47.7 million in statutory assets
and $5.7 million in statutory surplus, and generated $7.8 million in direct
premiums written in 1999. Our merger with SMIC enabled us to expand the lines of
insurance we could market to our physician customer base. The SMIC acquisition
added $18.6 million in statutory assets and $6.4 million in statutory surplus,
and generated $13.7 million in direct premiums written in 1999.
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STATUS OF MEDICAL PROFESSIONAL LIABILITY INDUSTRY SEGMENT
The medical professional liability sector continues to witness significant
changes affecting its customers and the overall competitive environment.
Physicians continue to consolidate into larger practices, moving away from their
traditional approach of working on a solo or small-group basis. Managed care
organizations now employ a substantial proportion of the physician workforce. As
physicians become part of larger organizations, their buying habits tend to
change. Larger physician groups, hospitals, and managed care organizations are
generally more price-sensitive and more demanding buyers than the traditional
sole practitioner. Bigger groups are also better positioned to self-insure for
all or a portion of their insurable risks, reducing the demand for traditional
insurance products, but producing a corresponding need for consulting services,
such as management of insurance captives.
Larger organizations are also more likely than smaller organizations to buy
from insurers who are not domiciled in their main state of operation. This
characteristic reflects their ability and willingness to expend greater effort
shopping for the best deal as well as a need, with respect to some
organizations, for multi-state coverage.
From the 1970's through the early 1990's, the medical professional
liability writers with strong physician ties, generally formed with the
sponsorship of the respective state medical societies, usually operated only in
their home state. However, the combination of reduced demand and increased
capacity has led many of these physician-oriented insurers to cross state lines,
heightening competition. In addition, increased buying leverage for physicians
associated with larger organizations has been exacerbated by these
over-capitalized medical professional liability specialists.
We believe that the sector would benefit significantly from consolidation
and that we will be well-placed to be one of the principal consolidators.
Consolidation brings many economic advantages: costs can be reduced by combining
back-office functions; reinsurance costs are generally lower for larger, more
diverse, insurers; underwriting and claims expertise can be leveraged over a
larger premium base; and capital costs, including stock prices, are generally
better for insurers with less volatile results, which generally comes with
diversification.
STRATEGY
Given this medical professional liability environment, we have adopted
strategies that will allow us to compete effectively and create long-term value
for our shareholders. To maximize the strategies' effectiveness, we are
converting MICOA from a mutual insurer to a stock insurer and creating APCapital
to serve as a publicly owned holding company. The conversion will provide us
with additional capital, greater flexibility and future access to additional
capital. Our strategies for MICOA and APCapital are:
STRATEGY ONE -- BUILD ON OUR POSITION AS A LEADING NATIONAL WRITER OF MEDICAL
PROFESSIONAL LIABILITY INSURANCE.
To achieve this goal, we intend to:
- Emphasize underwriting standards and pricing that focus on profitability
rather than premium volume;
- Execute strategic acquisitions in our industry segment;
- Continue to pursue internal growth and geographic expansion;
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- Refocus our marketing and product initiatives to provide more
cost-effective, standardized products and services;
- Maintain our historically close relationship with the medical community;
and
- Develop effective, customer-oriented business processes, including
e-commerce capabilities.
EMPHASIZE UNDERWRITING STANDARDS AND PRICING THAT FOCUS ON PROFITABILITY
RATHER THAN PREMIUM VOLUME. Our commitment to and focus on medical professional
liability insurance for 25 years has allowed us to develop a strong knowledge of
the market and to build an extensive database of medical professional liability
claims experience. We use this specialized expertise in medical professional
liability insurance and constantly monitor the performance of each market in
order to set premiums at a level we believe is appropriate for the exposure
being insured. With the conversion to a stock company, we intend to focus even
more on appropriate pricing and proper risk selection. As we expand our
business, we intend to maintain underwriting discipline and emphasize
profitability over premium growth.
During 1999, we implemented rate increases in some of our major medical
professional liability markets, including 17.4% in Kentucky, 12.4% in Ohio and,
5% in Illinois. Further increases have been made in 2000, including 17.9% in
Florida, 4.9% in Michigan, 8.6% in New Mexico, 7.1% in Kentucky and 14.9% in
Ohio. Workers' compensation insurance rates have been increased on average
approximately 5% in 2000.
EXECUTE STRATEGIC ACQUISITIONS IN OUR INDUSTRY SEGMENT. We believe that
consolidation will continue in the medical professional liability insurance
industry and that opportunities to make strategic acquisitions will increase.
Since 1996, we have merged with or acquired Kentucky Medical Insurance Company,
New Mexico Physicians Mutual Liability Company and State Mutual Insurance
Company, providing us with valuable experience in executing business
combinations. We believe that the conversion will better position us to make
strategic acquisitions by providing greater access to capital and allowing us to
use our stock as currency for acquisitions.
CONTINUE TO PURSUE INTERNAL GROWTH AND GEOGRAPHIC EXPANSION. Building on
our past success in entering new states and creating valuable books of business,
we will continue to pursue internal growth in existing markets while evaluating
new markets. We will continue to focus on those markets that present unique
opportunities, such as where there is dissatisfaction with a current provider or
where we can initiate a strategic partnership with local underwriters or agents.
REFOCUS OUR MARKETING AND PRODUCT INITIATIVES TO PROVIDE MORE
COST-EFFECTIVE, STANDARDIZED PRODUCTS AND SERVICES. MICOA has achieved
significant medical professional liability growth and expansion in recent years.
While we will continue to work to expand our business, we will continuously
reassess whether our covered insureds fit properly in our risk portfolio in an
effort to improve profitability. We will also refocus our product initiatives to
streamline our nationwide product mix to achieve a more standardized and
cost-effective product structure, while maintaining necessary flexibility to
meet the needs of the marketplace.
We intend to reduce our involvement in personal and commercial insurance in
its current format except for workers' compensation. While the strategy of
offering additional insurance products is still in our plans, the cost structure
of our personal and commercial business is too high to service this market
profitably. In the future, we may offer these products on a very selective basis
via MICOA Direct or only to our target physician market. We anticipate that
discontinuing this business could have a positive impact on our earnings of as
much as $2.3 million annually compared to 1999 net income.
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In addition, we are in the process of de-emphasizing the health insurance
line of business. We have found the health insurance market too volatile to
sustain profitable operations and, with the overall downturn in the health
insurance sector, finding cost-effective reinsurance has become problematic.
De-emphasizing our health care business will also allow us to better focus on
our core lines of business.
MAINTAIN OUR HISTORICALLY CLOSE RELATIONSHIP WITH THE MEDICAL
COMMUNITY. Since its founding in 1975, MICOA has maintained a close
relationship with the medical community. In addition to the active involvement
of practicing physicians on several of our claims advisory committees, MICOA and
the medical professional liability insurance that it offers have the
endorsements of several medical associations. We will continue to utilize
practicing physicians on advisory committees to provide management with input on
medical practice issues, underwriting, claims, risk management, customer needs
and other relevant matters. We believe our relationship with the medical
community is due in part to our focus on providing strong customer service and
claims management to our insured physicians.
DEVELOP EFFECTIVE, CUSTOMER-ORIENTED BUSINESS PROCESSES, INCLUDING
E-COMMERCE CAPABILITIES. With today's advancements in electronic communication
and the competitive nature of the medical professional liability sector, only
those organizations that can quickly and cost-effectively service their
customers will succeed. MICOA has a long history of outstanding customer service
that has created substantial customer loyalty and goodwill.
We have made and continue to make major changes to improve our operating
efficiencies. We recently launched the MICOA Direct Internet initiative that
allows for on-line quoting of insurance coverage and other marketing
initiatives. It will also provide better customer service, improved
communication and an easier way to do business. We have established a customer
service center in our East Lansing, Michigan headquarters to better handle and
respond to customer inquiries. This call center is part of a major
re-engineering process that is currently underway to update all of our major
processes and improve our operating efficiency.
STRATEGY TWO -- CONVERT FROM A MUTUAL TO A STOCK COMPANY CULTURE.
Since its inception, MICOA has operated as a mutual company. As such,
conflicting priorities often existed which at times reduced our profitability.
As described under "Business -- History of MICOA," we were formed by physicians
to serve physicians. Accordingly, underwriting was focused on assuring
physicians access to medical professional liability coverage. We are working to
shift the focus of our underwriting and management practices to increase the
importance of profitability. We intend to follow stricter underwriting standards
and be more selective in who we insure. Further, our investment management
strategies have become more aggressive without sacrificing quality and safety.
Finally, we have implemented and continue to focus on several efficiency and
cost-cutting initiatives, including the previously described withdrawal from
unprofitable business lines. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
STRATEGY THREE -- PURSUE OTHER STRATEGIC INITIATIVES.
Our third major strategy is to continue to diversify our products and
markets through acquisition or internal development of other related insurance
or financial service operations. We will seek to leverage our distribution
strengths, as well as our expertise in claims and risk management, underwriting
and marketing by focusing our acquisition and development efforts on businesses
that are similar to ours or that provide us with the ability to more fully serve
our existing clients. We intend to become the "window to physicians and allied
healthcare professionals." Our strategic
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initiatives will also include, among others, the continued development of our
workers' compensation line of business and other business ventures.
Our strategy and the reorganized structure for APCapital will provide for a
more effective corporate operation and governance. Many states limit an
insurance company's ability to charge different prices to different customers.
Our insurance companies will support each other through alternative pricing and
products. This will allow for the appropriate underwriting of customers based on
their risk classification. The insurance companies will receive additional
support from the financial services group. The alternative risk transfer
companies will provide an alternative to traditional insurance coverage to our
major customers or others who would not have considered MICOA in the past. MICOA
Direct will provide on-line service capabilities to our current customers and
allow for convenient access to MICOA products for those not currently insured by
MICOA.
Our strategies are designed to capitalize on the strengths that have
enabled us to achieve our current market position. These include: (1) our
experience with, commitment to and focus on medical professional liability
insurance; (2) our history of providing a stable insurance company to our
customers; (3) the high level of service we deliver to insureds, including the
aggressive defense of claims on their behalf; (4) our "A-" (Excellent) rating by
A.M. Best Company, Inc.; (5) our ability to customize product features and
programs to fit the needs of our customers; and (6) our close relationship with
the medical community.
CORE INSURANCE PRODUCTS
MICOA underwrites medical professional and hospital professional liability
policy coverages for physicians and physician medical groups, clinics, and other
providers in the healthcare industry.
PHYSICIAN AND MEDICAL GROUP LIABILITY. We offer separate policy forms for
physicians who are sole practitioners and for those who practice as part of a
medical group or clinic. The policy issued to sole practitioners includes
coverage for professional liability that arises in the medical practice. The
medical professional insurance for sole practitioners and for medical groups
provides protection against the legal liability of the insureds for injury
caused by or as a result of the performance of patient treatment, failure to
treat, failure to diagnose and related types of malpractice.
POLICY LIMITS. In some states, we offer limits of insurance up to $11
million per claim, with up to an $11 million aggregate policy limit for all
claims reported for each calendar year or other 12-month policy period. In
Michigan, the most common limits are $200,000 per claim/$600,000 aggregate; in
Florida, $250,000 per claim/$750,000 aggregate; and in New Mexico, $200,000 per
claim/$600,000 aggregate. The most common limit in other states is $1 million
per claim, subject to a $3 million aggregate policy limit. Higher limits and
excess coverage can also be written in conjunction with special reinsurance
arrangements.
REPORTING ENDORSEMENTS. Reporting endorsements are offered for physicians
terminating their policies with MICOA. This coverage extends the period
indefinitely for reporting future claims resulting from incidents occurring
while a claims-made policy was in effect. The price of the reporting endorsement
coverage is based on the length of time the insured has been covered. We provide
free reporting endorsement coverage for insured physicians who die or become
disabled so that they cannot practice their specialty during the coverage period
of the policy and those who have been insured by us for at least five
consecutive years, attain the age of 55 and retire completely from the practice
of medicine. Rules for triggering the free endorsement may vary somewhat from
state to state.
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PROGRAM FOR PHYSICIANS WHO DO NOT MEET OUR USUAL UNDERWRITING
STANDARDS. In some states, we also have a program for physicians who do not
meet some of our usual underwriting standards. We carefully evaluate the
additional risk we assume when we insure these physicians. A surcharge is
applied to the premiums of these physicians to compensate us for the higher
level of risk we are assuming. We also monitor the activities of these insureds
more closely than those of our other insureds and attempt to rehabilitate these
insureds through risk management training. This program was not a significant
source of revenue in 1999.
MARKETING
Our marketing philosophy is to sell profitable business in our core lines
of insurance through a broad, multi-channeled, cost-effective distribution
system. In addition to our agency force, we have built our sales and marketing
efforts around several strategic business alliances. These alliances include
medical society endorsements, an independent agency association endorsement,
purchasing group alliances, franchise business programs, sales agreements with
other insurance companies and exclusive agency agreements.
We currently market our products through approximately 300 independent
agents in 14 states. Our medical professional liability product line is marketed
through approximately 35 agents in 13 states, with one strategic partner, SCW
Agency Group, Inc. and its subsidiary, generating $71.9 million, or 59% of our
total medical professional liability direct premiums written. Until January
2000, this agency had the exclusive right to market our medical professional
liability insurance in Michigan and Kentucky in exchange for enhanced service
and commission rates that are lower than prevailing market rates. As of January
2000, the contract was modified to remove the exclusivity and to modestly
increase commission rates. We believe these rates continue to be lower than
prevailing market rates. In Florida, we have seven medical professional
liability agents who cover the state for us. The other agents who write medical
professional liability insurance are independent agents in the remaining states.
Due to the highly specialized nature of medical professional liability,
financially sound agencies that focus on this line are selected to represent us
in targeted geographic areas. Our 35 medical professional liability agencies are
reviewed based upon premium volume, retention and profitability goals. Of the 35
agencies that write medical professional liability, 16 write over $1 million in
premiums with us.
Our other agencies write workers' compensation and other personal and
commercial coverage. The premium volume for these agencies is normally minor in
relation to our total premiums. Only 15 workers' compensation agencies exceeded
$500,000 in premium volume in 1999, and only two of these exceeded $1 million in
premium volume.
Although our marketing structure is currently organized by regions, we are
gradually centralizing our sales and service capability due to the development
of e-commerce and a state-of-the-art central customer service center intended to
offer 24-hour availability for our agents and customers. We have developed a
two-pronged e-commerce strategy focusing on agents and customers. Where we have
an agency network in place, our website will allow us to be more interactive
with our agents, providing them with more information and the ability to better
monitor their clients, and making it easier to do business with us. Our website
will also facilitate the exchange of information between the agents, the
customers and us. In geographic areas where we do not have an agency force, the
website allows us to interact directly and easily with customers and permits
physicians to obtain quotes. The website provides a vehicle for strategic
partners who desire exposure to our customer base.
Additionally, we have expanded our reach to new markets by creating
alternative risk transfer management and captive capabilities through MICOA
Consulting, LLC, MICOA Management Ltd., and MICOA Indemnity (Bermuda) Ltd. These
companies were developed in response to the change
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in commercial insurance buying habits. We estimate that up to 50% of the medical
professional liability market and 60% of the workers' compensation market has
moved to alternative risk transfer. Our new ART business strategy will help us
access this previously unavailable market and allow us to further expand our
multi-channel distribution system, enabling us to sell through the larger
brokers.
Workers' compensation agents are selected based on the following criteria:
a demonstrated record of successful performance; an active plan for growth;
perpetuation of agency management; a staff of trained insurance professionals; a
good credit and financial standing; target market accessibility; and a
profitable track record. Our marketing staff works with each agency to develop a
marketing and underwriting plan, with corresponding premium and loss goals. We
then review their performance every six months, looking at factors such as the
loss ratio experience, new business and retention of renewals, communication and
trust, service level and growth potential. When necessary, we place agents in
business performance rehabilitation programs, and if improvement is not made, we
will ultimately terminate our relationship with poorly performing agencies.
We use staff marketing managers to manage the agency force and our
partnerships with medical societies and other groups. In addition, we use
producer advisory councils and joint marketing committees with our partners to
foster communication and to continually improve our sales results, products and
services.
Our relationship with the Minnesota Independent Insurance Agents
Association has helped us grow our book of workers' compensation business in
Minnesota. The association endorses MICOA as its exclusive workers' compensation
carrier and promotes us to its members through letters, stuffers, articles in
its publications, and direct agency contacts. In exchange for the endorsement,
MICOA pays the association a small commission for each workers' compensation
policy written in Minnesota. The association also handles the disbursement of
commissions due each of its member agents for selling our policies.
We pay various commission rates to our agents based on product, market and
volume considerations. For medical professional liability, we pay commissions
ranging from 5% to 12%. For workers' compensation, our commission rate is 10%
for new business and renewals in all states except Minnesota, where the
commission rate is 7.5% for new business and 6% for renewals. Overall, we expend
approximately 8.6% of our direct written premiums on commissions. While most
other carriers have additional incentives, such as contingent commissions, loan
packages, trips or profit sharing, we have no other costs associated with our
agencies. This helps keep our distribution cost low in comparison to most of our
competitors.
We write direct business (without an agent) in New Mexico for medical
professional liability. In addition, we launched the MICOA Direct e-commerce
distribution channel this year through which we may write additional business
without an agent. MICOA Direct offers physicians a new approach to choosing and
purchasing medical professional liability insurance. It provides customers with
innovative advantages, such as 24-hour online convenience, expert advice, and
personalized, Web-based services. Through MICOA Direct, we can offer convenient
customer service while lowering our distribution costs by selling direct to the
customer. Our ART initiative also uses a direct sales channel, by employing a
highly professional staff of skilled alternative risk experts who call directly
on prospects and customers.
We have an agreement pursuant to which we compensate the Michigan State
Medical Society, or MSMS, for implementing a joint marketing and services plan
with us for marketing our professional medical liability products to MSMS
members. MSMS is guaranteed an annual base payment under the agreement, plus
incentive bonuses if retention, loss ratio and loss goals are
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achieved. We also pay MSMS for phasing out a previous marketing support program
we had implemented, and for support and promotion of MICOA Direct.
UNDERWRITING AND PRICING
Our underwriting department currently comprises 25 experienced underwriters
and 30 support staff. Our present underwriters average approximately 17 years of
experience in property and casualty insurance.
Most of our underwriting work and customer contact is performed through our
local offices under the supervision of the home office. The home office
underwriting department is responsible for the issuance, establishment and
implementation of underwriting standards for all of our underwritten coverages.
The local office underwriting staff have the authority to evaluate, approve and
issue medical professional liability coverage for individual providers and
medical groups with annual premiums that do not exceed a threshold amount.
We follow consistent and strict procedures with respect to the issuance of
all medical professional liability insurance policies. Individual providers are
required to submit an application for coverage along with supporting claims
history and proof of licensure. The individual provider applications provide
information regarding the medical training, current practice and claims history
of the applicant. Institutions are required to submit an application for
coverage along with historical loss information, proof of accreditation,
financial statements, copies of contracts with medical providers, information on
employed professionals and other information. An account analysis form is
completed for each submission and, if coverage is approved, the coverage
recommendation and the pricing methodology is added.
Risk management surveys may be performed prior to quoting a large account
to ascertain the insurability of the risk. Once written, all accounts are
referred to the risk management department to schedule risk management service.
Representatives from the risk management department meet with the insured to
develop programs to control and reduce risk.
We maintain quality control through periodic audits at the underwriting and
processing levels. Renewal accounts are examined as thoroughly as new accounts.
Insureds who no longer meet underwriting guidelines are identified as
non-renewal candidates and are referred to the home office underwriting
department for a recommendation.
Through our management and actuarial staff, we periodically establish rates
and rating classifications for our physician and medical group insureds based on
the loss and LAE experience we have developed over the past 25 years and the
loss and LAE experience for the entire medical professional liability market. We
have various rating classifications based on practice location, medical
specialty and other factors. We also utilize various discounts, including
discounts for part-time practice, physicians just entering medical practice and
claim-free insureds. Most discounts are designed to encourage lower risk
physicians to insure with MICOA. Our pricing rules state that the total
discounts granted to a policyholder cannot exceed 35% of the policyholders'
premium.
The nature of our business requires that we remain sensitive to the
marketplace and the pricing strategies of our competitors. Using the market
information as our background, we normally set our prices based on our estimated
future costs, i.e., projected losses plus projected expenses. From time to time,
we may reduce our discounts or apply a premium surcharge to achieve an
appropriate return. Pricing flexibility allows us to provide a fair rate
commensurate with the assumed liability. If our pricing strategy cannot yield
sufficient premium to cover our costs on a particular type of risk, we
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may determine not to underwrite that risk. We are generally unwilling to
sacrifice profitability for premium growth.
CLAIMS
MEDICAL PROFESSIONAL LIABILITY. Our strategy for handling medical
professional liability claims combines a basic philosophy of vigorously
defending against non-meritorious claims with an overall commitment to providing
outstanding service to our insured physicians and hospitals. This service starts
with a dedicated staff that is very well experienced in medical and legal
matters, and carries through to our defense counsel, who are selected from an
approved list of seasoned litigation specialists in medical professional
liability. Our medical professional liability claims staff currently comprises
45 individuals (27 professional staff and 18 support) working in five locations.
The professional staff has an average of 14 years of experience in medical
professional liability claims handling, and includes five attorneys and two
nurses.
Our claims department is responsible for claims investigation,
establishment of appropriate case reserves for loss and loss adjustment expense,
defense planning and coordination, control of attorneys engaged by MICOA to
defend a claim and negotiation of the settlement or other disposition of a
claim. Our policies require us to provide a defense for our insureds in any suit
involving a medical incident covered by a policy. The defense costs we incur are
in addition to the limit of liability under the policy. Medical professional
liability claims often involve the evaluation of highly technical medical
issues, severe injuries and conflicting expert opinions.
We emphasize early evaluation and aggressive management of claims. When a
claim is reported, a claims department professional completes an initial
evaluation and sets the initial reserve. After a full evaluation of the claim
has been completed, which generally occurs within seven months, the initial
reserve may be adjusted. We have established different levels of authority
within the claims department for settlement of claims.
We retain locally based attorneys specializing in medical professional
liability defense to defend claims. We also obtain the services of medical
experts who are leaders in their specialties and who bring integrity,
credibility and expertise to the litigation process.
We utilize local claims advisory committees composed of physicians from
various specialties. These claims committees meet quarterly to provide
evaluation and guidance on claims. The multi-specialty approach of these
physicians adds a unique perspective to the claims handling process in that
there is an opportunity to obtain the opinions of several different specialists
meeting to share their expertise and experience in the area of liability
evaluation and general peer review. This service is invaluable to the claims
representatives and insureds as it provides in-depth analysis of claims.
Together with the insured, our claims representatives and defense counsel
form a cohesive team that plans and executes a defense strategy that is
particularized to the case at hand and designed to assure that the best possible
outcome will be realized. Whether that outcome is settlement or trial, it will
have been the product of careful, thorough analysis and the thoughtful balancing
of risks and opportunities. This hands-on approach to claims handling has
resulted in 91% of our customer satisfaction surveys that are returned rating us
as "Excellent" for the overall quality of service rendered by our claims
representatives.
The number of pending files (which include pre-suit notices, lawsuits,
non-litigated claims and requests for meetings and/or depositions) increased
from 3,537 at the end 1998 to 3,831 at the end of 1999, due in large part to our
expansion into the states of Ohio, Illinois, and Florida. The percentage of the
files closed without an indemnity payment has improved over this same period
from 77% to
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80%. The average amount of indemnity paid on cases closed with an indemnity
payment also improved from $113,041 for files closed in 1998 to $109,840 for
files closed in 1999. During this same time interval, 196 files were taken to
trial and defense verdicts were obtained on 164 files, for a success rate of
84%. A single plaintiff's case may involve multiple MICOA insureds; trials are
counted by the number of individual policies at risk.
WORKERS' COMPENSATION. Our workers' compensation claims staff comprises 19
individuals, (13 professional staff and 6 support) located in three regional
offices. The professional staff includes several CWCP designees (Certified
Workers' Compensation Professional). The experience of the professional staff in
this department averages 11 years per person.
Our claims professionals are committed to exceptional service, aggressive
claims management and timely claims settlement. We perform on-site reviews of
customers who need special attention in claims reporting, internal accident
investigation and job analysis/definition. We apply numerous techniques to
reduce medical and indemnity costs and, as allowed by statute, we provide
medical direction for injured workers. We encourage development of limited/light
duty work for workers who can re-enter the workforce on a limited basis. All of
this activity helps us reduce the cost of workers' compensation claims.
In some states, an administrative body which oversees legislative changes
within the workers' compensation statute, records efficiencies in reporting,
payments and numbers of cases contested and issues reports on a quarterly basis.
Reviewing these reports regularly helps us measure our effectiveness in the
marketplace against our peers. In addition, we analyze considerable data from
subscriber organizations, such as NCCI and NAIC, to ascertain our effectiveness
in the marketplace.
We apply an aggressive defense for all non-compensable claims. We encourage
participation from the insured and maintain open communications with the
policyholder and defense counsel throughout the life of the case. In defense of
contested workers' compensation claims, our claims representatives work with
pre-approved counsel who specialize in workers' compensation defense practice.
In order to meet our standards, defense firms agree to provide one lead attorney
who is responsible for the assignment. In addition, our preferred counsel follow
detailed billing requirements; such as legal and paralegal splits, hourly
billing in tenths of an hour, billing on a quarterly basis, initial
reviews/analysis within 30 days of assignment and status reports on demand and
with pre-agreed frequencies.
Our claims representatives are responsible for the outcome of the file.
Therefore, legal direction comes from the claim representative at all times.
Strategies for settlement are reviewed at multiple levels throughout the life of
the claim. Supervisory support and direction is routinely sought and documented
in the claim file. Defense strategies are based on facts that have been
thoroughly reviewed. As new information is discovered, it is added to the claim
file. Implications arising from all information developed are thoroughly
discussed and analyzed. Claims that develop contrary results because of new
information or discovery are analyzed for expedient resolution. Authority levels
are constantly monitored and supervisory review is a practice common in claims
settlement decisions.
Most workers' compensation claims are handled outside formal trial
proceedings. Of the small number of claims that do become contested, many are
resolved prior to hearing. When cases are heard and resolved through a formal
hearing, the results are reviewed and acted upon.
RISK MANAGEMENT/LOSS CONTROL
Our Risk Management Department is committed to working with insured
healthcare professionals, institutions and organizations to assist them in the
identification, reduction and/or
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prevention of patient-related incidents and claims. Risk management personnel
work closely with underwriting department staff as part of the process for
timely identification of high-risk applicants and insureds. The risk management
personnel are actively involved in performing assessments and office practice
reviews for new and/or existing clients identified by underwriting. Claims data
is often used in the identification of high-risk insureds and assists the risk
managers in performing assessments and developing educational programs. We focus
educational programs on existing claims and incidents, as well as on areas of
new and/or emerging liability.
The medical professional liability risk management staff consists of 5
professionals. The professional staff holds a number of professional
designations and degrees. The experience of the staff averages 13 years per
person.
The workers' compensation loss control staff consists of five loss control
consultants. These professionals also hold several professional degrees and
designations. The experience of the staff averages 18 years per person.
Primary areas of risk management service include:
- IDENTIFY HIGH-RISK APPLICANTS AND INSUREDS. Risk managers assist
underwriting personnel in the pre-selection and selection process. They
identify and recommend information sources that can assist in the
identification of viable candidates and clients for medical professional
liability insurance.
- PERFORM LOSS CONTROL ASSESSMENTS ON INSUREDS. Loss control specialists
perform on-site audits of physician practices, clinics, hospitals and
nursing homes to assess loss control procedures of our insureds.
- PROVIDE EDUCATIONAL PROGRAMS AND SEMINARS TO HEALTHCARE PROFESSIONALS
THAT EARN CME CREDITS FOR PHYSICIANS. These programs include on-site
education programs, self-study education programs, and external seminars.
Additional education is being provided via the Internet and the MICOA
website.
- PROVIDE CLAIMS AND INCIDENT LOSS EXPERIENCE AND ANALYSIS TO OUR
INSUREDS. In addition to providing claims loss runs and analysis and
incident reporting, we also develop and disseminate "best practices"
identified from benchmarking and comparative data. We will perform
evaluations/audits of insureds to determine implementation and/or
application of best practices.
OTHER PRODUCTS AND FEE-BASED SERVICES
We endeavor to attract fee-based services through MICOA Consulting, LLC, a
wholly owned subsidiary that offers alternative risk financing (self-insurance)
and other non-traditional insurance solutions to clients in health care and
other industries. Using our expertise in insurance and related services, MICOA
Consulting can customize risk transfer programs with a wide array of services,
including:
- Insurance fronting services;
- Reinsurance;
- Self-insurance modeling consulting services;
- Feasibility studies;
- Fee-for-service underwriting and claims expertise;
- Insurance exposure review and analysis;
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- Captive management services;
- "Rent-a-captive" facility;
- Loss control consulting services;
- Captive underwriting services;
- Risk management information systems; and
- Casualty actuarial services.
MICOA Consulting specializes in servicing the following exposures: medical
professional liability, workers' compensation, excess liability, environmental
liability, employment practices liability insurance, director and officer, and
pharmaceutical product liability.
MICOA's rent-a-captive facility, MICOA Indemnity (Bermuda) Ltd. and its
management company, MICOA Management Ltd., are based in Bermuda, the
international leader of captive operations. Through the rent-a-captive, MICOA
Consulting clients are protected from the losses of other clients. The customer
uses MICOA Indemnity as a reinsurer, thereby avoiding the initial capitalization
and start-up costs required to start a captive insurance company. MICOA
Consulting, LLC, is the domestic U.S. facility established to market and manage
this array of alternative risk capabilities for MICOA.
RELATIONSHIP WITH THE MICHIGAN STATE MEDICAL SOCIETY
MICOA enjoys a unique relationship with the Michigan State Medical Society.
It was through the vision of members of MSMS in 1975 that the idea of a Michigan
physicians liability company was first conceptualized. The two organizations
have maintained strong ties ever since. The MSMS has endorsed MICOA as its
exclusive professional liability carrier of choice for 25 years and currently
endorses MICOA pursuant to a contractual relationship for a fee. MICOA has
agreed not to enter into a similar marketing endorsement agreement in Michigan
except with the Michigan Osteopathic Association. The society also recently
announced its endorsement of MICOA's e-commerce site as well. Another tie
between the two organizations is through MICOA contracting with a new MSMS
insurance agency, Physicians Insurance Resource, to sell medical professional
liability to physicians in Michigan. Additionally, MICOA and MSMS are part
owners of two health care-related businesses, Medical Advantage Group and
Professional Credential Verification Service, an NCQA-certified credentials
verification company. MICOA and MSMS share several key leaders. MICOA's first
vice chairman, Billy Ben Baumann, M.D., was inducted in May 2000 as the 135th
president of MSMS.
REINSURANCE CEDED
In accordance with industry practice, we transfer, or cede, to other
insurance companies some of our potential liability under insurance policies we
have underwritten. This practice helps us:
- reduce our net liability on individual risks;
- reduce our risk from natural catastrophes;
- stabilize our underwriting results; and
- increase our underwriting capacity.
As payment for sharing a portion of our risk, we are also required to share
a part of the premium we receive on the related policies. Transferring or ceding
insurance liability to another insurance company is called "reinsurance."
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We determine the amount and scope of reinsurance coverage to purchase each
year based upon an evaluation of the risks accepted, consultations with
reinsurance brokers and a review of market conditions, including the
availability and pricing of reinsurance. As we have expanded our writings
geographically, we merge the new business into the current reinsurance contracts
for our "core" professional liability and worker's compensation products. If we
enter a state with market volatility (Florida professional liability) or
ancillary products (managed care professional liability, HMO reinsurance), we
utilize reinsurance where we share premiums and losses of a certain percentage
until a comfort level is achieved. At this time, we are evaluating aggregate
stop loss scenarios to protect our net retention for all product groups under
every reinsurance contract. We anticipate a multi-year arrangement with a
retention of a loss ratio percentage set above our expected annual loss ratio.
Our reinsurance arrangements are generally renegotiated every three years.
Our largest net insured amount on any risk is $500,000. Prior to 1997, net
retentions were slightly lower on Michigan and Illinois business, and somewhat
higher on Kentucky business.
Under our primary professional liability reinsurance contract, the portion
of the policyholder premium ceded to the reinsurers is "swing-rated" or
experience rated on a retrospective basis. This swing rated cession program is
subject to a minimum and maximum premium range to be paid to the reinsurers in
the future, depending upon the extent of losses actually paid by the reinsurers.
We pay a deposit premium during the initial policy year. An additional
liability, "retrospective premiums accrued under reinsurance treaties," is
recorded to represent an estimate of net additional payments to be made to the
reinsurers under the program, based on the level of loss and LAE reserves
recorded. Like loss and LAE reserves, adjustments to prior year ceded premiums
payable to the reinsurers are reflected in the results of the periods in which
the adjustments are made. We follow a practice of conservatively estimating our
liabilities relating to the swing-rated cession program based on historical loss
experience and have generally established our initial liability based on the
maximum rate payable under the terms of the contracts. The swing-rated
reinsurance premiums are recorded in a manner consistent with the recording of
our loss reserves.
Our net retention in workers' compensation is also now $500,000, in states
other than Minnesota. In Minnesota, insurers are required to obtain reinsurance
from a state facility called the Workers' Compensation Reinsurance Association,
or WCRA. Our current net retention on any one claim with respect to the WCRA is
$620,000. One hundred percent of any potential workers' compensation losses
above our net retentions are reinsured, and are not swing-rated.
To take advantage of emerging markets, we have also utilized quota share
reinsurance in the recent past, pursuant to which we share the premium and
losses with the reinsurer.
On our personal and commercial business, we retain a maximum net liability
of $200,000 per risk, with swing-rating provisions above this amount up to
$500,000. The remainder of the reinsurance protection for personal and
commercial insurance is on a guaranteed cost basis. In terms of property
catastrophe protection, we retain $500,000 and are indemnified for 95% of
$18,945,788 above that amount.
The following table identifies our principal reinsurers, their percentage
participation in our aggregate reinsured risk based upon amounts recoverable and
their respective A.M. Best ratings as of December 31, 1999. A.M. Best classifies
"A" and "A-" ratings as "Excellent" and "A(++)" and "A(+)"
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<PAGE> 70
ratings as "Superior." Other than the entities listed below, no single
reinsurer's percentage participation in 1999 exceeded 3% of total amounts
recoverable from reinsurers.
<TABLE>
<CAPTION>
% OF 1999
AMOUNTS AMOUNTS
A.M. BEST RECOVERABLE FROM 1999 TOTAL CEDED RECOVERABLE FROM
REINSURER RATING REINSURERS PREMIUMS WRITTEN REINSURERS
--------- --------- ---------------- ---------------- ----------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
General Reinsurance
Corporation A(++) $13,221 $5,569 20.1%
Mutual Assurance, Inc. A 12,043 38 18.3%
PMA Reinsurance Corporation A(+) 10,085 6,929 15.3%
Employers Reinsurance
Corporation A(++) 8,407 4,986 12.8%
Zurich Reinsurance A(+) 6,433 2,810 9.8%
Transatlantic Reinsurance
Company A(++) 5,715 2,105 8.7%
</TABLE>
We annually review the financial stability of all of our reinsurers. This
review includes a ratings analysis of each reinsurer participating in a
reinsurance contract. On the basis of this review, as of December 31, 1999 and
1998, we concluded that there was no material risk of not being paid by our
reinsurers. We have not experienced any material difficulties in collecting
amounts due from reinsurers. We believe that our reinsurance is maintained with
financially stable reinsurers and that any reinsurance security we have is
adequate to protect our interests. However, our inability to collect on our
reinsurance, or the inability of our reinsurers to make payments under the terms
of reinsurance, due to insolvency or otherwise, could have a material adverse
effect on our future results of operations and financial condition.
We assume a small amount of reinsurance in connection with our health
business. We reinsured $3.6 million in premiums in 1999 and $1.8 million in
1998.
LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES
MICOA is required by applicable insurance laws and regulations to maintain
reserves for payment of losses and loss adjustment expenses for reported claims
and for claims incurred but not reported, arising from policies that have been
issued. Generally, these laws and regulations require that we provide for the
ultimate cost of those claims without regard to how long it takes to settle them
or the time value of money. We are also required to maintain death, disability
and retirement, or DD&R, reserves, which must be discounted to their present
value. DD&R reserves are included in our loss reserves. The determination of
reserves involves actuarial and statistical projections of what we expect to be
the cost of the ultimate settlement and administration of such claims based on
facts and circumstances then known, estimates of future trends in claims
severity, and other variable factors such as inflation and changing judicial
theories of liability.
The estimation of ultimate liability for losses and loss adjustment
expenses is an inherently uncertain process and does not represent an exact
calculation of that liability. Our current reserve policy recognizes this
uncertainty by maintaining reserves at a level providing for the possibility of
adverse development relative to the estimation process. We do not discount our
reserves to recognize the time value of money.
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<PAGE> 71
When a claim is reported to us, claims personnel establish a "case reserve"
for the estimated amount of the ultimate payment. This estimate reflects an
informed judgment based upon insurance reserving practices appropriate for the
relevant line of business and on the experience and knowledge of the estimator
regarding the nature and value of the specific claim, and severity of injury or
damage, and the policy provisions relating to the type of loss. Case reserves
are periodically adjusted by the claims staff, as more information becomes
available.
We maintain reserves for claims incurred but not reported to provide for
future reporting of already incurred claims and developments on reported claims.
The reserve for claims incurred but not reported is determined by estimating our
ultimate liability for both reported and non-reported claims and then
subtracting the case reserves for reported claims.
Each quarter, we compute our estimated liability using principles and
procedures applicable to the lines of business written. Our reserves are also
considered annually by our independent auditors in connection with their audit
of our financial statements. However, because the establishment of loss reserves
is an inherently uncertain process, there can be no assurance that losses will
not exceed our loss reserves. Adjustments in aggregate reserves, if any, are
reflected in the operating results of the period during which such adjustments
are made. As required by insurance regulatory authorities, we receive a
statement of opinion by an independent consulting actuary concerning the
adequacy of statutory reserves. The results of these actuarial studies have
consistently indicated that our reserves are adequate.
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<PAGE> 72
The following table provides a reconciliation of beginning and ending loss
and loss adjustment expenses reserve balances for the years ended December 31,
1999, 1998 and 1997, and the six months ended June 30, 2000 and 1999, as
prepared in accordance with generally accepted accounting principles.
<TABLE>
<CAPTION>
AT OR FOR THE SIX MONTHS AT OR FOR THE YEAR
ENDED JUNE 30, ENDED DECEMBER 31,
------------------------ --------------------------------
2000 1999 1999 1998 1997
---------- ---------- -------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Balance, beginning of period..... $457,072 $422,987 $422,987 $407,746 $392,626
Reinsurance balance
recoverable.................... 63,490 51,005 51,005 54,910 46,171
-------- -------- -------- -------- --------
Net balance, beginning of
period.................... 393,582 371,982 371,982 352,836 346,455
Incurred related to:
Current year................... 77,636 65,699 150,702 148,767 114,922
Prior years.................... (4,000) (2,314) (19,753) (26,714) (26,504)
-------- -------- -------- -------- --------
Total incurred.............. 73,636 63,385 130,949 122,053 88,418
Paid related to:
Current year................... 7,850 7,038 23,973 20,087 18,754
Prior years.................... 55,258 46,369 85,376 82,820 63,583
-------- -------- -------- -------- --------
Total paid.................. 63,108 53,407 109,349 102,907 82,037
-------- -------- -------- -------- --------
Net balance, end of period....... 404,110 381,960 393,582 371,982 352,836
Reinsurance balances
recoverable.................... 63,073 55,180 63,490 51,005 54,910
-------- -------- -------- -------- --------
Balance, end of period...... $467,183 $437,140 $457,072 $422,987 $407,746
======== ======== ======== ======== ========
</TABLE>
The following table shows the development of the net liability for unpaid
loss and loss adjustment expenses from 1990 through 1999. The top line of the
table shows the original estimated liabilities at the balance sheet date,
including losses incurred but not yet recorded. The upper portion of the table
shows the cumulative amounts subsequently paid as of successive years with
respect to the liability. The lower portion of the table shows the re-estimated
amount of the previously recorded liability based on experience as of the end of
each succeeding year. The estimates change as claims settle and more information
becomes known about the ultimate frequency and severity of claims for individual
years. The redundancy (or deficiency) exists when the re-estimated liability at
each December 31 is less (or greater) than the prior liability estimate. The
"cumulative redundancy" (or deficiency) depicted in the table, for any
particular calendar year, represents the aggregate change in the initial
estimates over all subsequent calendar years.
The volatility of professional liability claim frequency and severity makes
the prediction of the ultimate loss very difficult. Likewise, the long time
frame for professional liability claims to develop and be paid further
complicates the reserving process. We have historically been conservative in the
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<PAGE> 73
establishment of initial reserves, providing for potential adverse development.
Consequently, if this adverse development does not occur, excess reserves are
available for other claims.
<TABLE>
<CAPTION>
AT YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------
1990 1991 1992 1993 1994 1995 1996
-------- -------- -------- -------- -------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Liability for unpaid losses and loss
adjustment expenses net of reinsurance
recoverable............................. $341,541 $329,460 $331,119 $328,436 $341,254 $334,264 $346,455
Cumulative net paid as of:
End of year............................. 58,893 48,746 49,911 57,110 59,982 47,113 69,750
Two years later......................... 101,292 89,018 95,506 97,424 93,724 89,260 134,184
Three years later....................... 132,155 122,754 116,038 126,220 122,509 122,734 181,144
Four years later........................ 154,808 131,636 129,027 137,667 142,127 148,000
Five years later........................ 160,366 139,293 141,781 149,443 154,716
Six years later......................... 165,752 148,078 149,291 155,556
Seven years later....................... 173,051 153,117 153,323
Eight years later....................... 177,231 155,802
Nine years later........................ 179,583
Re-estimated net liability as of:
End of year............................. 322,751 300,661 295,684 304,888 300,626 273,025 324,233
Two years later......................... 295,219 270,154 271,481 269,571 251,083 259,103 302,696
Three years later....................... 263,299 249,489 243,745 235,507 239,185 238,572 291,406
Four years later........................ 241,319 226,200 212,275 221,633 221,973 221,226
Five years later........................ 226,322 201,578 207,953 207,074 207,930
Six years later......................... 211,092 200,140 195,612 194,432
Seven years later....................... 211,022 191,527 187,735
Eight years later....................... 206,621 184,409
Nine years later........................ 202,813
Net cumulative (deficiency) redundancy... 138,728 145,051 143,384 134,004 133,324 113,038 55,049
Gross liability -- end of year........... 352,091 367,332 359,330 392,626
Reinsurance recoverables................. 23,655 26,078 25,066 46,171
-------- -------- -------- --------
Net liability -- end of year............. $328,436 $341,254 $334,264 $346,455
======== ======== ======== ========
Gross re-estimated liability -- latest... $204,986 $218,791 $233,958 $339,015
Reestimated reinsurance
recoverables -- latest.................. 10,554 10,861 12,732 47,609
-------- -------- -------- --------
Net re-estimated liability -- latest..... $194,432 $207,930 $221,226 $291,406
======== ======== ======== ========
Gross cumulative (deficiency)
redundancy.............................. $147,105 $148,541 $125,372 $ 53,611
======== ======== ======== ========
<CAPTION>
AT YEAR ENDED DECEMBER 31,
------------------------------
1997 1998 1999
-------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
Liability for unpaid losses and loss
adjustment expenses net of reinsurance
recoverable............................. $352,836 $371,982 $393,582
Cumulative net paid as of:
End of year............................. 86,703 85,290
Two years later......................... 152,656
Three years later.......................
Four years later........................
Five years later........................
Six years later.........................
Seven years later.......................
Eight years later.......................
Nine years later........................
Re-estimated net liability as of:
End of year............................. 327,542 350,114
Two years later......................... 314,613
Three years later.......................
Four years later........................
Five years later........................
Six years later.........................
Seven years later.......................
Eight years later.......................
Nine years later........................
Net cumulative (deficiency) redundancy... 38,223 21,868
Gross liability -- end of year........... 407,746 422,987 457,072
Reinsurance recoverables................. 54,910 51,005 63,490
-------- -------- --------
Net liability -- end of year............. $352,836 $371,982 $393,582
======== ======== ========
Gross re-estimated liability -- latest... $375,011 $419,474
Reestimated reinsurance
recoverables -- latest.................. 60,398 69,360
-------- --------
Net re-estimated liability -- latest..... $314,613 $350,114
======== ========
Gross cumulative (deficiency)
redundancy.............................. $ 32,735 $ 3,513
======== ========
</TABLE>
In evaluating the information in the table above, it should be noted that
each column includes the effects of changes in amounts for prior periods. The
table does not present accident year or policy year development data. Conditions
and trends that have affected the development of liabilities in the past may not
necessarily occur in the future. Accordingly, it may not be appropriate to
extrapolate future redundancies or deficiencies based on this table.
Statutory accounting principles require reserves to be reported on a net
basis, i.e., after reinsurance. Generally accepted accounting principles require
reserves to be reported on a gross basis, i.e., before reinsurance, with a
corresponding asset established for the reinsurance recoverable. When compared
on either a gross or net basis, our statutory and GAAP reserves are identical.
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<PAGE> 74
INVESTMENTS
An important component of our operating results has been the total return
on invested assets. Our investment objectives are primarily to maximize current
returns, in addition to generating long-term capital appreciation that can
ultimately be converted to current income. We are pursuing these objectives
while maintaining safety of capital together with adequate liquidity for our
insurance operations. Almost all of our investment securities are classified as
available for sale in accordance with Statement of Financial Accounting
Standards No. 115. As of December 31, 1999, our investment portfolio consisted
of investment grade fixed income securities, large capitalization corporate
equity securities, home office and investment real estate, mortgage loans and
short-term investments. The table below contains additional information
concerning the investment ratings of our fixed investments at June 30, 2000.
<TABLE>
<CAPTION>
PERCENTAGE OF
TYPE/RATING OF INVESTMENT(A) AMORTIZED COST FAIR VALUE FAIR VALUE
---------------------------- -------------- ---------- -------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
AAA (including U.S. government and agencies).... $156,421 $150,348 35.0%
AA.............................................. 58,941 56,828 13.2
A............................................... 203,007 195,613 45.5
BBB............................................. 21,490 20,901 4.9
BB.............................................. 6,873 5,951 1.4
-------- -------- -----
$446,732 $429,641 100.0%
======== ======== =====
</TABLE>
-------------------------
(a) The ratings set forth above are based on the ratings assigned by Standard &
Poor's.
Our equity portfolio consists of large capitalization corporate securities in
various market segments. The real estate investments include our East Lansing,
Michigan home office and satellite office in Lapeer, Michigan. We have also
invested in a limited amount of income-producing office buildings and hold a
site for future expansion and/or development, if necessary.
The fixed income security portfolio is managed by one of our subsidiaries.
The equity portfolio is managed by two non-affiliated equity managers.
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<PAGE> 75
The following table sets forth information concerning our investments at
June 30, 2000 and at December 31, 1999 and 1998. In our financial statements,
almost all stock and fixed income securities are carried at fair value as
established by quoted market prices on secondary markets. Financial instruments
included in other invested assets are carried at cost or remaining principal
balances, which approximate their fair market value. The cost column in the
table represents the original cost of stock, the original cost of fixed income
securities as adjusted for amortization of premium and accretion of discount,
and the unpaid balances for mortgage loans.
<TABLE>
<CAPTION>
AT JUNE 30, 2000 AT DECEMBER 31, 1999 AT DECEMBER 31, 1998
--------------------- --------------------- ---------------------
COST FAIR VALUE COST FAIR VALUE COST FAIR VALUE
-------- ---------- -------- ---------- -------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Fixed income securities:
Held to maturity,
states and
political
subdivisions....... $ -- $ -- $ 980 $ 988 $ 1,000 $ 1,069
======== ======== ======== ======== ======== ========
Available-for-sale:
U.S. governmental
obligations........ $115,894 $111,253 $ 99,898 $ 95,006 $102,086 $102,582
State and political
subdivisions....... 59,639 57,313 126,451 123,029 123,172 125,271
Corporate
securities......... 253,720 244,458 198,340 186,316 207,102 210,039
Mortgage-backed
securities......... 6,357 6,235 7,189 7,084 15,911 16,233
Other debt
securities......... 11,122 10,382 16,725 15,868 16,941 17,297
-------- -------- -------- -------- -------- --------
$446,732 $429,641 $448,602 $427,303 $465,212 $471,422
======== ======== ======== ======== ======== ========
Equity securities....... $ 34,080 $ 38,834 $ 29,165 $ 41,661 $ 24,193 $ 30,268
======== ======== ======== ======== ======== ========
Mortgage loans.......... $ 4,672 $ 4,672 $ 7,002 $ 7,002 $ 5,159 $ 5,159
======== ======== ======== ======== ======== ========
</TABLE>
The table below sets forth the maturity profile of our combined fixed
maturity investments as of June 30, 2000. Fixed maturities are carried at fair
value in the consolidated financial statements of MICOA. Collateralized and
asset-backed securities consist of mortgage pass-through holdings and securities
backed by credit card receivables, auto loans and home equity loans. These
securities follow a structured principal repayment schedules and are rated "AA"
or better by Standard & Poor's. These securities are presented separately in the
maturity schedule due to the inherent risk associated with prepayment.
<TABLE>
<CAPTION>
AMORTIZED PORTION OF
COST FAIR VALUE FAIR VALUE
--------- ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
1 year or less........................................ $ 5,625 $ 5,626 1.3%
More than 1 year through 5 years...................... 116,046 112,850 26.3
More than 5 years through 10 years.................... 259,607 247,614 57.6
More than 10 years.................................... 59,097 57,316 13.3
Mortgage backed securities............................ 6,357 6,235 1.5
-------- -------- -----
$446,732 $429,641 100.0%
======== ======== =====
</TABLE>
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<PAGE> 76
The average duration of our fixed maturity investments, including
collateralized and asset backed securities which are subject to paydown, as of
June 30, 2000, was approximately 4.46 years. As a result, the market value of
our investments may fluctuate significantly in response to changes in interest
rates. In addition, we may experience investment losses to the extent our
liquidity needs require the disposition of fixed maturity securities in
unfavorable interest rate environments.
The following table summarizes MICOA's investment results for the three
years ended December 31, 1999, 1998 and 1997, and for the six months ended June
30, 2000 and 1999.
<TABLE>
<CAPTION>
AT OR FOR THE
SIX MONTHS AT OR FOR THE YEAR ENDED
ENDED JUNE 30, DECEMBER 31,
------------------- ------------------------------
2000 1999 1999 1998 1997
-------- -------- -------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Fixed Maturity Securities:
Average invested assets
(including cash and short-term
investments)(a).................... $501,528 $499,004 $492,886 $493,532 $436,974
Investment income:
Before income taxes................ 15,660 15,215 28,664 28,406 27,718
After income taxes................. 10,789 10,862 20,260 19,711 19,330
Average annual return on investments:
Before income taxes................ 6.24% 6.10% 5.82% 5.76% 6.34%
After income taxes................. 4.30% 4.35% 4.11% 3.99% 4.42%
Net realized investment gains (losses)
after income tax................... (3,091) (68) (64) 1,699 45
Net increase (decrease) in unrealized
gains on all fixed maturity
investments after income taxes..... 2,736 (10,417) (17,922) 3,031 5,982
Equity Securities:
Average invested assets(b)............ 40,274 32,910 32,651 26,318 22,958
Net investment income:
Before income taxes................ 87 143 266 335 474
After income taxes................. 64 105 196 247 349
Average annual return on investments:
Before income taxes................ 0.43% 0.87% 0.77% 1.14% 2.06%
After income taxes................. 0.32% 0.64% 0.56% 0.84% 1.52%
Net realized investment gains after
income tax......................... 4,302 473 1,266 4,502 1,052
Net increase in unrealized gains on
all equity investments after income
taxes.............................. 5,097 1,053 4,174 252 1,749
</TABLE>
------------------------
(a) Fixed maturity securities at cost.
(b) Equity securities at market.
74
<PAGE> 77
A.M. BEST RATING
A.M. Best Company, Inc., an insurance rating agency, assigns an "A-"
(Excellent) rating (its fourth highest rating category out of 15 categories) to
MICOA. A.M. Best assigns "A" or "A-" ratings to companies which, in its opinion,
have a strong ability to meet their obligations to policyholders over a long
period of time. In evaluating our financial and operating performance, A.M. Best
reviews our reinsurance, the quality and estimated market value of our assets,
the adequacy of our loss reserves, the adequacy of our surplus, our capital
structure, the experience and competency of our management and our market
presence. No assurance can be given that A.M. Best will not reduce our current
rating in the future.
A.M. Best ratings are not directed toward the protection of investors. As
such, our A.M. Best rating should not be relied upon as a basis for an
investment decision to purchase common stock.
INSURANCE REGULATORY MATTERS
GENERAL. Insurance companies are subject to supervision and regulation in
the states in which they transact business, relating to numerous aspects of
their business and financial condition. The primary purpose of this supervision
and regulation is to protect policyholders. The extent of such regulation
varies, but generally derives from state statutes which delegate regulatory,
supervisory and administrative authority to state insurance departments.
Michigan insurance companies such as MICOA are subject to supervision and
regulation by the OFIS. The authority of the OFIS includes:
- establishing standards of solvency which must be met and maintained by
insurers,
- licensing insurers and agents to do business,
- establishing guidelines for the nature of and limitations on investments
by insurers,
- reviewing premium rates for various lines of insurance,
- reviewing the provisions which insurers must make for current losses and
future liabilities, and
- reviewing transactions involving a change in control.
The OFIS also requires the filing of annual and other reports relating to the
financial condition of insurance companies doing business in Michigan.
Examinations are regularly conducted by the OFIS every three to five years.
The OFIS' last examination of MICOA was as of December 31, 1995. This
examination did not result in any adjustments to the financial position of
MICOA. In addition, there were no substantive qualitative matters indicated in
the examination report that had a material adverse impact on the operations of
MICOA. MICOA and its insurance subsidiaries are also subject to regulation by
the Illinois insurance department, where we are also in good standing. The
oversight by insurance departments includes review of rates and forms, as well
as market conduct.
HOLDING COMPANY REGULATION. Most states, including Michigan, have enacted
legislation that regulates insurance holding company systems. Each insurance
company in a holding company system is required to register with the insurance
supervisory agency of its state of domicile and furnish information concerning
the operations of companies within the holding company system that may
materially affect the operations, management or financial condition of the
insurers within the system. These laws permit the OFIS and any other relevant
insurance departments to examine MICOA,
75
<PAGE> 78
APCapital and their respective insurance subsidiaries at any time, to require
disclosure of material transactions between MICOA and APCapital, and to require
prior approval of sales or purchases of a material amount of assets and the
payment of extraordinary dividends. All transactions within the holding company
system between MICOA, APCapital and their respective subsidiaries must be fair
and equitable. Under Michigan law, the maximum dividend that may be paid by
MICOA to APCapital during any twelve-month period without prior approval of the
OFIS is the greater of 10% of MICOA's statutory surplus as reported on the most
recent annual statement filed with the OFIS, and the net income of MICOA for the
period covered by such annual statement. At June 30, 2000, the amount available
for payment of dividends without the prior approval of the OFIS is approximately
$18 million.
RISK-BASED CAPITAL REQUIREMENTS. In addition to state-imposed insurance
laws and regulations, the OFIS administers the requirements adopted by the
National Association of Insurance Commissioners, or NAIC, that require insurance
companies to calculate and report information under a risk-based formula that
attempts to measure capital and surplus needs based on the risks in a company's
mix of products and investment portfolio. Under the formula, we first determine
our risk-based capital base level by taking into account risks with respect to
our assets and underwriting risks relating to our liabilities and obligations.
We then compare our "total adjusted capital" to the base level. Our "total
adjusted capital" is determined by subtracting our liabilities from our assets
in accordance with rules established by the OFIS.
The following table highlights the ramifications of the various ranges of
non-compliance. The ratios represent the relationship of a company's total
adjusted capital to its risk-based capital base level.
<TABLE>
<CAPTION>
RATIO AND CATEGORY ACTION
------------------ ------------------------------------------
<S> <C>
2.0 or more None - in compliance
1.5 - 1.99: Company Action Company must submit a comprehensive plan
to the regulatory authority discussing
proposed corrective actions to improve the
capital position
1.0 - 1.49: Regulatory Action Regulatory authority will perform a
special examination of the company and
issue an order specifying corrective
actions that must be taken
0.7 - 0.99: Authorized Control Regulatory authority may take any action
if deems necessary, including placing the
company under regulatory control
Less than 0.7: Mandatory Control Regulatory authority is required to place
the company under regulatory control
</TABLE>
MICOA's ratio has always exceeded 2.0 in the past, but there can be no
assurance that the requirements applicable to MICOA will not increase in the
future. As of December 31, 1999, MICOA's risk-based capital base level was $45.9
million and its total adjusted capital was $179.8 million, for a ratio of 3.9.
IRIS REQUIREMENTS. The NAIC has also developed a set of financial ratios,
referred to as the Insurance Regulatory Information System, or IRIS, for use by
state insurance regulators in monitoring the financial condition of insurance
companies. The NAIC has established an acceptable range of values for each of
the IRIS financial ratios. Generally, an insurance company will become the
subject of increased scrutiny when four or more of its IRIS ratio results fall
outside the range deemed acceptable by the NAIC. The nature of increased
regulatory scrutiny resulting from IRIS
76
<PAGE> 79
ratio results outside the acceptable range is subject to the judgment of the
applicable state insurance department, but generally will result in accelerated
review of annual and quarterly filings.
For 1999 and 1998 our results on a consolidated basis were within the
acceptable range for all IRIS tests. For 1999, MICOA's IRIS ratios on a
consolidated basis were as follows:
<TABLE>
<CAPTION>
NAIC UNUSUAL MICOA RESULTS
IRIS RATIOS VALUES FOR 1999
----------- ------------- -------------
OVER UNDER
<C> <S> <C> <C> <C>
1 Gross Premiums to Surplus........................... 900 124.4
1A Net Premium to Surplus.............................. 300 83
2 Change in Net Writings.............................. 33 -33 6.9
3 Surplus Aid to Surplus.............................. 15 --
4 Two-Year Overall Operating Ratio.................... 100 96.4
5 Investment Yield.................................... 10 4.5 5
6 Change in Surplus................................... 50 -10 8
7 Liabilities to Liquid Assets........................ 105 97.1
8 Agents' Balances to Surplus......................... 40 2.2
9 One-Year Reserve Development to Surplus............. 20 (13.5)
10 Two-Year Reserve Development to Surplus............. 20 (26.4)
11 Estimated Current Reserve Deficiency to Surplus..... 25 5.1
</TABLE>
The NAIC does not compute IRIS ratios on a consolidated basis. However,
none of MICOA or its subsidiaries had more than two ratios outside the
acceptable range for 1999.
GUARANTY FUND. We participate in various guaranty associations in the
states in which we write business, which protects policyholders and claimants
against losses due to insolvency of insurers. When an insolvency occurs, the
associations are authorized to assess member companies up to the amount of the
shortfall of funds, including expenses. Member companies are assessed based on
the type and amount of insurance written during the previous calendar year.
MICOA makes accruals for its portion of assessments when notified of assessments
by the associations.
CHANGE IN CONTROL. The Michigan Insurance Code requires that the OFIS
receive prior notice of and approve a change of control for either MICOA or
APCapital. The Michigan Insurance Code contains a complete definition of
"control." In simplified terms, a person, corporation, or other entity would
obtain "control" of MICOA or APCapital if they possessed, had a right to acquire
possession, or had the power to direct any other person acquiring possession,
directly or indirectly, of 10% or more of the voting securities of either
company. To obtain approval for a change of control of MICOA, the proposed
acquiror must file an application with the OFIS containing detailed information
such as the identity and background of the acquiror and its affiliates, the
sources of and amount of funds to be used to effect the acquisition, and
financial information regarding the proposed acquiror. Insurance laws of other
states applicable to our insurance subsidiaries have similar requirements. We
are currently seeking an exemption from the approval process from Illinois
insurance regulators due to the impact of the conversion on RML. We expect to
receive exemption approval prior to the closing of the offerings.
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<PAGE> 80
BUSINESS SEGMENT INFORMATION
See Note 17 to Consolidated Financial Statements for information regarding
our business segments.
EMPLOYEES
As of June 30, 2000, we had 272 employees. None of the employees are
covered by a collective bargaining unit and we believe that employee relations
are good.
LITIGATION
We are not currently subject to any material litigation. As insurers, we
have many routine matters in current litigation. We do not expect these routine
cases to have a material adverse effect on our financial condition and results
of operations.
PROPERTIES
We own two office buildings, one in Lapeer, Michigan (30,000 square feet)
and our home office in East Lansing, Michigan (89,000 square feet). We acquired
the Lapeer building through our merger with State Mutual Insurance Company. It
currently houses our personal and commercial operations. With the wind-down of
the personal and commercial line of business, we plan to sell or lease the
Lapeer building.
We lease office space as needed in our major markets to provide a local
presence. In addition, we have begun to lease additional space to address
capacity issues with our current home office building. Our leases tend to be
approximately five years in length. We currently lease space in East Lansing,
Michigan; Chicago, Illinois; Louisville, Kentucky; Boca Raton, Florida; Eden
Prairie, Minnesota; Las Vegas, Nevada; and Albuquerque, New Mexico. We currently
have approximately 88,000 square feet under lease.
We also own various real estate investment properties as part of our
investment portfolio.
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<PAGE> 81
MANAGEMENT
Set forth below is information about the directors and executive officers
of APCapital and MICOA.
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Thomas Robert Berglund, M.D. ........ 66 Director of APCapital and MICOA
William B. Cheeseman................. 59 Director, President and Chief
Executive Officer of APCapital and
MICOA
Billy Ben Baumann, M.D. ............. 64 Director of APCapital and MICOA
Myron Emerick, D.O. ................. 67 Director of APCapital and MICOA
AppaRao Mukkamala, M.D. ............. 55 Director of APCapital and MICOA
Lloyd A. Schwartz.................... 72 Director of APCapital
Stephen L. Byrnes.................... 59 Vice President and Chief Marketing
Officer of MICOA
Frank H. Freund...................... 40 Vice President, Treasurer and Chief
Financial Officer of APCapital and
MICOA
Robert J. Kellogg.................... 45 Vice President and Chief Operating
Officer of MICOA
Margo C. Runkle...................... 41 Vice President and Chief Human
Resources Officer of MICOA
Dawn L. Shattuck..................... 47 Vice President and Chief Information
Officer of MICOA
</TABLE>
BOARD OF DIRECTORS OF APCAPITAL
The business of APCapital is managed under the direction of APCapital's
board of directors. According to the articles of APCapital, directors will be
divided into three equally-sized classes, designated Class I, Class II and Class
III. At the 2001 annual meeting of the shareholders, Drs. Emerick and Mukkamala,
who are the Class I directors, will be elected for a one-year term, Mr. Schwartz
and Dr. Baumann, who are the Class II directors, will be elected for a two-year
term and Dr. Berglund and Mr. Cheeseman, who are the Class III directors, will
be elected for a three-year term. At each succeeding annual meeting of
shareholders beginning in 2001, successors to the class of directors whose term
expires at that annual meeting will be elected for a three-year term. Each
director will hold office until a successor is elected and qualified, or until
they resign or are removed. The board of directors of APCapital may establish
reasonable compensation for their services by majority vote, and will do so
following the conversion. Set forth below is information about the directors of
APCapital.
THOMAS ROBERT BERGLUND, M.D., current chairman of MICOA's board of directors,
has been a member of the MICOA board since 1985 and a member of the APCapital
board since July 2000. Dr. Berglund practices family medicine in Portage,
Michigan. Dr. Berglund has been a member of the board of directors of the
Michigan State Medical Society since 1977, serving as chairman from 1981 to 1985
and president from 1986 to 1987.
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<PAGE> 82
WILLIAM B. CHEESEMAN was named president and chief executive officer of MICOA in
1999 and of APCapital in July 2000. He has been a director of MICOA since May
2000 and of APCapital since July 2000. Mr. Cheeseman guided the establishment of
Michigan Physicians Mutual Liability Company, now MICOA, in 1975. From 1975
until assuming his current position with MICOA, Mr. Cheeseman was a principal in
the Stratton-Cheeseman Management Company, or the management company, which
managed MICOA until being acquired by it as of October 31, 1999.
BILLY BEN BAUMANN, M.D. is the first vice chairman of MICOA's board of directors
and has been a board member since 1988. He became a director of APCapital in
July 2000. Dr. Baumann is a pathologist and former chief of staff at Pontiac
General Hospital, in Pontiac, Michigan, and is currently president of the
Michigan State Medical Society.
MYRON EMERICK, D.O. is a physician in general practice. He has been a member of
the MICOA board since 1985. He became a director of APCapital in July 2000.
APPARAO MUKKAMALA, M.D., a board certified radiologist, has been a member of the
MICOA board of directors since 1995. He became a director of APCapital in July
2000.
LLOYD A. SCHWARTZ is a certified public accountant and has served as the deputy
receiver/rehabilitator of two Michigan-based insurance companies since 1993. Mr.
Schwartz has also served as a technical reviewer for the Michigan Association of
Certified Public Accountants Peer Review Program since 1990. Prior to 1990, Mr.
Schwartz was a partner with the accounting firm of Coopers & Lybrand LLP, where
he specialized in audits of insurance companies. Mr. Schwartz is also a member
of the Board of Directors of Franklin Financial Corporation. He became a
director of APCapital in July 2000.
EXECUTIVE OFFICERS
The executive officers of APCapital and MICOA serve at the pleasure of the
respective board of directors and are elected or appointed annually by the
respective board of directors.
For information with respect to Mr. Cheeseman, see "Management -- Board of
Directors of APCapital" above.
STEPHEN L. BYRNES is the vice president and chief marketing officer of MICOA.
Prior to joining MICOA, Mr. Byrnes was vice president and chief marketing
officer at Norwest Corporation, in Minneapolis, Minnesota from 1979 to 1989, and
then served as President of Norwest Insurance Inc. from 1989 until joining the
management company to serve MICOA in his current capacity in 1995. He was
officially appointed to his current position in May 2000.
FRANK H. FREUND is the vice president, treasurer and chief financial officer of
MICOA, and has served MICOA in that capacity through the management company
since September 1997. He was officially appointed to his current position in May
2000. He became treasurer and chief financial officer of APCapital in July 2000.
Mr. Freund's previous employment includes working with the Michigan practice of
Deloitte & Touche LLP from October 1994 to September 1997, serving as an audit
senior manager in that firm's insurance and health care business insurance
services group.
ROBERT J. KELLOGG is the chief operating officer of MICOA. Mr. Kellogg served as
president and chief executive officer of State Mutual Insurance Company from
July 1995 until its merger with MICOA in January 1998, at which time he joined
the management company to serve MICOA in the position of regional director. Mr.
Kellogg began serving MICOA in his current capacity through the management
company in September 1998. He was officially appointed to his current position
in May 2000.
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<PAGE> 83
MARGO C. RUNKLE is the chief human resources officer of MICOA. Ms. Runkle joined
the management company in August 1994, serving as director of enterprise systems
and director of systems development for MICOA until August 1997, when she left
to pursue a doctorate in organizational behavior. Ms. Runkle returned to the
management company to serve MICOA in her current capacity in October 1998. She
was officially appointed to her current position at MICOA in May 2000.
DAWN L. SHATTUCK is the chief information officer of MICOA. Prior to joining the
management company to serve MICOA in her current capacity in October 1999, Ms.
Shattuck served as chief information officer for the State of Michigan Family
Independence Agency, beginning in March 1997. From October 1994 to March 1997,
Ms. Shattuck was director of management information systems for the State of
Michigan House of Representatives. She was officially appointed to her current
position at MICOA in May 2000.
MANAGEMENT COMPENSATION
SUMMARY. The executive officers of APCapital have received no compensation
from APCapital since its formation. From January 1, 1999 through October 31,
1999, compensation was paid by Stratton-Cheeseman Management Company. Thereafter
all compensation was paid by MICOA. The following table sets forth certain
information regarding the compensation of MICOA's chief executive officer and
the four other most highly compensated executive officers of MICOA for 1999
whose salary and bonus exceeded $100,000 in 1999.
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<PAGE> 84
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
---------------------------
SALARY BONUS ALL OTHER
NAME AND PRINCIPAL POSITION YEAR ($) ($) COMPENSATION(A)
--------------------------- ---- -------- ------- ---------------
<S> <C> <C> <C> <C>
William B. Cheeseman,
President and Chief Executive Officer... 1999 $231,995 -- $20,982
Robert J. Kellogg,
Vice President and Chief Operating
Officer................................. 1999 187,528 $50,000 70,479
Frank H. Freund,
Vice President, Treasurer and Chief
Financial Officer....................... 1999 180,115 50,000 21,928
Stephen L. Byrnes,
Vice President and Chief Marketing
Officer................................. 1999 120,013 55,000 21,335
Margo C. Runkle,
Vice President and Chief Human Resources
Officer................................. 1999 105,019 50,000 16,322
</TABLE>
(a) The amounts included in "All Other Compensation" for the named executive
officers are as follows:
<TABLE>
<CAPTION>
NAME 401(K) PENSION MOVING
---- ------ ------- -------
<S> <C> <C> <C>
William B. Cheeseman............................... -- $20,982 --
Stephen L. Byrnes.................................. $353 20,982 --
Frank H. Freund.................................... 946 20,982 --
Robert J. Kellogg.................................. 802 20,982 $48,695
Margo C. Runkle.................................... 565 15,757 --
</TABLE>
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<PAGE> 85
EMPLOYEE CONTRACTS. We have an employment agreement with Mr. Cheeseman,
dated as of October 27, 1999. The agreement provides for a term expiring on
October 27, 2009, at a level of compensation including a base salary, incentive
plan, discretionary bonus and fringe benefits agreed upon annually by us and Mr.
Cheeseman. The agreement provides that it will terminate upon Mr. Cheeseman's
death or total disability or that we may terminate the agreement for cause. The
agreement prohibits Mr. Cheeseman from competing with us during the term of the
agreement and for a period of two years following termination. Compensation for
the covenant not to compete is an amount equal to two times the annual base
salary paid to Mr. Cheeseman during the year preceding the year in which
employment is terminated.
We also have an employment agreement with Mr. Byrnes dated as of April 4,
1997. The agreement provides for a base salary of $110,000 during 1997 with
annual increases indexed to annual increases in the Consumer Price Index. In the
event we terminate the agreement, except for cause, we must pay severance pay of
up to 120% of Mr. Byrnes' base salary plus a portion of the bonus paid to Mr.
Byrnes in the year previous to termination. Mr. Byrnes may terminate the
agreement at any time, with or without cause, upon two weeks' written notice.
The agreement contains a covenant not to compete during its term and for a
period of two years following termination.
The employment agreement with Robert J. Kellogg became effective in 1997
and continues for an initial term of five years. Upon expiration of the initial
five year term, the agreement automatically renews for successive one year terms
unless either party gives six months prior written notice of nonrenewal. The
agreement provides for an annual salary of $180,000 and for payment of bonuses
at the discretion of the board of directors. In the event we terminate Mr.
Kellogg's employment without cause, we owe Mr. Kellogg severance pay equal to
two times his current salary, plus two times the bonus compensation paid in the
year previous to termination. Mr. Kellogg may also terminate the agreement at
any time, with or without cause, upon thirty days' prior written notice.
STOCK COMPENSATION PLAN
GENERAL. Directors, officers, employees and consultants of APCapital and
its subsidiaries will be eligible to participate in the Stock Compensation Plan.
The plan provides for the grant of nonqualified stock options, incentive stock
options, restricted stock, restricted stock units and performance awards at any
time prior to June 28, 2010. An aggregate of 1,200,000 shares of APCapital
common stock will be initially reserved for issuance under the plan. APCapital
has not yet determined who will receive grants under the plan.
ADMINISTRATION. The plan will be administered by the board of APCapital or
a committee of two or more non-employee directors who also constitute "outside
directors" (as defined under Section 162(m) of the Internal Revenue Code). The
board or committee generally has the power to select the recipients of awards,
determine the terms of awards and amend or terminate the plan at any time
without the approval of APCapital's shareholders, so long as any amendment does
not increase the number of shares available under the plan or change the
provisions relating to eligibility for grants. If the board or committee
determines in its sole discretion that a change in control (as defined in the
plan) has occurred, any outstanding option shall become immediately exercisable
in full, the remaining restricted period on any restricted stock award or
restricted stock unit shall lapse, and the performance requirements for a
performance award will be deemed to have been satisfied in full.
Options granted under the plan may be either incentive stock options under
Section 422 of the Internal Revenue Code or nonqualified stock options. The
exercise price will be determined by the committee and must not be less than the
fair market value of the shares on the date of grant. The exercise price must be
at least 110% of fair market value if the recipient is the holder of more than
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<PAGE> 86
10% of APCapital's stock. Options granted under the plan become exercisable at
such times as the board or committee may determine and will not exceed ten
years. The aggregate fair market value, determined on the grant date, of stock
with respect to which incentive stock options may first become exercisable for a
holder during any calendar year may not exceed $100,000. The maximum number of
shares that may be granted to any person during any one calendar year is
700,000.
Payment for shares to be acquired upon exercise of options granted under
the plan may be made in cash, by check or, at the discretion of the board or
committee, a holder may exercise an option through a cashless exercise procedure
whereby the holder provides an option exercise notice to us and simultaneously
irrevocably instructs a broker to sell a sufficient number of the shares from
the option exercise to pay the option exercise price and accompanying taxes. In
addition, at the committee's discretion, shares held by the holder for at least
six months may be tendered to us to pay the exercise price and tax withholding
obligations, if any.
RESTRICTED STOCK AWARDS AND RESTRICTED STOCK UNITS. The plan also provides
for the grant of restricted stock or restricted stock units. Shares of
restricted stock and restricted stock units will initially be non-transferable
and will become transferable upon fulfillment of conditions established by the
committee at the time of grant. An award of restricted stock or restricted stock
units may also be subject to vesting or other restrictions, which may include
performance goals. All of the terms relating to vesting or other restrictions,
including performance goals, and the termination of the restriction period
relating to a restricted stock award or restricted stock unit, will be
determined by the board or committee and set forth in the agreement relating to
such restricted stock award or restricted stock unit. The holder of shares of
restricted stock will have rights as a shareholder of APCapital, including the
right to vote and receive dividends with respect to the shares of restricted
stock.
If a holder of a restricted stock award or restricted stock unit terminates
employment or services for any reason other than retirement, death or
disability, the holder's shares of restricted stock or restricted stock unit
still subject to the restricted period will expire. However, the board or
committee, in its sole discretion, may waive the restrictions remaining on any
or all shares of a restricted stock award or restricted stock units and add such
new restrictions to such shares of restricted stock or restricted stock units as
it deems appropriate. In the event of a holder's retirement, death or
disability, the restricted period remaining on any outstanding restricted stock
awards or restricted stock units will be deemed to have lapsed as of the
occurrence of such event.
PERFORMANCE AWARDS. The plan also provides for the grant of performance
awards. Each performance award is a right, contingent upon the attainment of
performance goals within a specified performance period, to receive shares of
common stock, which may be restricted stock, or the fair market value of such
shares in cash. All of the terms relating to the satisfaction of performance
goals, the length of any performance period, the amount of any performance award
granted, the amount of any payment or transfer to be made pursuant to any
performance award, and any other terms and conditions of any performance award,
including the effect upon such award of termination of the holder's employment,
directorship and/or consulting relationships, will be determined by the board or
committee.
INCOME TAX CONSEQUENCES. Under the Internal Revenue Code as now in effect,
at the time an incentive stock option is granted or exercised, the holder will
not be deemed to have received any income, and we will not be entitled to a
deduction. The difference between the exercise price and the fair market value
of the APCapital shares on the date of exercise is a tax preference item, which
may subject the holder to the alternative minimum tax in the year of exercise.
The holder of an incentive stock option generally will be accorded capital gain
or loss treatment on the disposition of the stock acquired upon exercise,
provided the disposition occurs more than two years after the date of grant
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<PAGE> 87
and more than one year after exercise. A holder who disposes of shares acquired
by exercise of an incentive stock option prior to the expiration of the
foregoing holding periods realizes ordinary income upon the disposition equal to
the difference between the exercise price and the lesser of the fair market
value of the shares on the date of exercise or the disposition price. To the
extent ordinary income is recognized by the holder, we are permitted to deduct a
corresponding amount as compensation expense.
Upon the exercise of a nonqualified stock option, a holder will generally
recognize ordinary income equal to the difference between the exercise price and
the fair market value of the stock on the date of exercise. Upon withholding for
income and employment taxes, we will receive a corresponding compensation
deduction. When the holder disposes of the shares acquired upon exercise of the
option, any amount received in excess of the fair market value of the shares on
the date of exercise will be treated as capital gain.
A participant who receives a restricted stock, restricted stock unit or
performance share award recognizes ordinary income equal to the fair market
value of the stock on the date the restrictions lapse, in the case of restricted
stock, or restricted stock units, or the date on which any cash payment is
received, as applicable, and, upon withholding for income and employment taxes,
we will receive a compensation tax deduction equal to the ordinary income
realized by the participant.
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<PAGE> 88
OWNERSHIP OF COMMON STOCK
Only one share of APCapital is currently outstanding. It was issued to
William B. Cheeseman for $15.50 in connection with the incorporation of
APCapital. The directors and executive officers have indicated that they intend
to purchase in the subscription offering the number of shares set forth in the
following table. The information provided below, however, does not represent a
commitment to purchase the shares indicated. Actual purchases may be higher or
lower than the number of shares set forth in the table. We understand that
shares to be purchased by directors and officers are being purchased for
investment purposes. Such shares are subject to a one year limitation on resale
imposed by the Michigan Insurance Code. See "Description of Capital
Stock -- Limitation on Resales."
<TABLE>
<CAPTION>
NAME NUMBER OF SHARES
---- ----------------
<S> <C>
Billy Ben Baumann, M.D. ................................
Thomas Robert Berglund, M.D. ...........................
Stephen L. Byrnes.......................................
William B. Cheeseman....................................
Myron Emerick, D.O. ....................................
Frank H. Freund.........................................
Robert J. Kellogg.......................................
AppaRao Mukkamala, M.D. ................................
Margo C. Runkle.........................................
Lloyd A. Schwartz.......................................
Dawn L. Shattuck........................................
</TABLE>
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<PAGE> 89
CERTAIN TRANSACTIONS
Prior to October 31, 1999, we operated under a management agreement with
Stratton-Cheeseman Management Company, or SCMC, pursuant to which SCMC was the
employer of all personnel who processed and managed our business. SCMC was 94.4%
owned by William B. Cheeseman, our President and Chief Executive Officer and a
member of the board of directors of APCapital and MICOA. Effective October 31,
1999, we purchased all of the outstanding stock of SCMC for $19.5 million,
consisting of $9.5 million in cash and a commitment to pay $10 million in
installments over the next 9 years without interest. Payments begin April 30,
2001 and are to be made annually thereafter. Annual payments will increase or
decrease by $200,000 for each corresponding half-grade level increase or
decrease in our A.M. Best Company rating during the term of the payments. If we
terminate Mr. Cheeseman's employment or if he dies or becomes disabled, payments
due Mr. Cheeseman will be accelerated. The payments due Mr. Cheeseman may also
be accelerated upon notice within 60 days following completion of the
conversion. Mr. Cheeseman has waived his right to accelerate pursuant to this
provision, however.
The approximate aggregate amount paid to SCMC was $29.5 million during
1999, $30.1 million during 1998 and $18.5 million during 1997, including
management fees of $3.2 million in 1999, $2.5 million in 1998 and $2.1 million
in 1997. The remaining amounts paid in these years related to pass-through
costs, primarily for compensation costs and related employee benefit expenses.
We also have a relationship with SCW Agency Group, Inc. and its
subsidiaries. SCW Agency Group, Inc. is 71.25% owned by Mr. Cheeseman. SCW and
its subsidiaries provide sales and marketing services to us in Michigan,
Kentucky, Florida and Nevada with respect to our medical professional liability
insurance. Until January 2000, they had the exclusive right to market our
medical professional liability insurance in Michigan and Kentucky in exchange
for enhanced service and commission rates that are lower than prevailing market
rates. As of January 2000, the contract was modified to remove the exclusivity
and to modestly increase commission rates. The commission rates currently paid
in Michigan are 5.5% and 7.5% in Kentucky for medical professional liability
insurance, which are lower than rates we pay to other agencies with regard to
medical professional liability insurance. The Michigan rate will gradually
increase to 7.5% by the end of 2002. Premiums sold by the agencies totaled $71.9
million during 1999, $62.5 million during 1998 and $65.5 million during 1997,
representing 37.9%, 40.0% and 50.5% of our total premiums written during such
years. We paid commissions on these premiums to the agencies of $4.8 million
during 1999, $4.0 million during 1998 and $2.4 million during 1997.
Effective January 1997, the board of directors of KMIC, a subsidiary of
MICOA, approved the sale of its wholly owned subsidiary, KMA Insurance Agency,
Inc. for $705,292 to SCW Agency Group, Inc. The sale consisted of a downpayment
of $176,573 with the balance to be paid in five equal annual installments of
$105,944, plus interest at the current prime rate (9.5% at June 30, 2000). At
June 30, 2000, $211,888 of the purchase price remained to be paid.
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<PAGE> 90
DESCRIPTION OF CAPITAL STOCK
GENERAL
APCapital is authorized to issue 50,000,000 shares of common stock, no par
value, and 5,000,000 shares of preferred stock. A total of 1,200,000 shares of
common stock are reserved for issuance under the stock compensation plan and
approximately 50,000 shares are being contributed to employee accounts in our
401(k) plan. APCapital does not currently plan to pay dividends. As a
shareholder, you would be entitled to receive a proportionate share of any
dividends declared by the board of directors, and to one vote per share on all
matters submitted to a vote of the shareholders of APCapital. See "Dividend
Policy."
In an election of directors, you would not have the right to accumulate all
of your votes and vote them for one director. Rather, the holders of a majority
of the outstanding shares will have the power to elect all of the directors and
the remaining holders will not have the power to elect any directors. In
addition, APCapital would not be required to offer any additional shares to you
for sale before selling shares to the public or any other shareholder. Your
shares would not give you any right to convert them into any other security or
to require APCapital to repurchase them from you. If APCapital is liquidated or
dissolved, you would be entitled to receive your proportionate share of the net
assets of APCapital after the payment of all of its creditors and all holders of
its securities which have rights to receive payment before holders of common
stock. When the shares are paid for in full and issued to you upon completion of
the conversion, you will not be required to pay additional money to APCapital
solely by virtue of your ownership of common stock. Additional shares of
authorized common stock or preferred stock may be issued, as determined by the
board of directors of APCapital from time to time, without shareholder approval,
except as may be required by applicable stock exchange requirements or
applicable law.
LIMITATION ON RESALES
The common stock issued in the conversion to persons other than officers
and directors of MICOA or APCapital will be freely transferable under the
Securities Act. Shares issued to officers and directors may not be transferred
for a period of one year from the effective date of the conversion pursuant to
the provisions of the Michigan Insurance Code. The underwriting agreement will
provide that shares issued to directors and officers are also subject to
restrictions on resale for 180 days after the closing of the offerings without
the consent of ABN AMRO Incorporated. Share certificates issued to officers and
directors will bear a legend giving appropriate notice of these restrictions and
we will give instructions to the transfer agent for the common stock with
respect to these transfer restrictions. Any shares issued to officers and
directors as a stock dividend, stock split or otherwise during the one year
period with respect to these shares will be subject to the same restriction.
Participation in the subscription offering or best efforts offering by
persons who are associated with a broker or dealer is only permissible in
accordance with, and subject to the limitations of, Rule 2110 of the Conduct
Rules of the National Association of Securities Dealers, Inc. or NASD, and the
"Free-Riding and Withholding Interpretation" promulgated thereunder. In general,
"associated with a broker/dealer" includes (1) every officer, director, general
partner, employee or agent of a broker/dealer that is a member of the NASD, (2)
every sole proprietor, partner, officer, director, or branch manager of any
member, or any natural person occupying a similar status or performing similar
functions, or any natural person engaged in the investment banking or securities
business who is directly or indirectly controlling or controlled by such member,
whether or not any such person is registered or exempt from registration with
the NASD and (3) any immediate family member of any such person; and "immediate
family" includes parents, mother-in-law or father-in-law, husband or wife,
brother or sister, brother-in-law or sister-in-law, son-in-law or
daughter-in-law, and children and any other person who is supported, directly or
indirectly, to a material extent by any
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person referred to in clause (1) or (2). To comply with conditions under which
an exemption from the "Free Riding and Withholding Interpretation" is available,
shares sold in the subscription offering or best efforts offering to persons
associated with a broker or dealer may not be sold or transferred for a period
of three months following the conclusion of the offerings and the purchases must
be reported in writing to the broker or dealer within one day of payment for the
shares.
RESTRICTIONS ON ACQUISITION OF AND BUSINESS COMBINATIONS BY APCAPITAL
Michigan law contains provisions that may, in conjunction with the articles
of incorporation of APCapital, have the effect of impeding a change of control
of APCapital. These provisions may have the effect of discouraging a future
takeover attempt which individual shareholders may deem to be in their best
interests or in which shareholders may receive a substantial premium for their
shares over the then-current market price. As a result, shareholders who desire
to participate in such a transaction may not have an opportunity to do so. The
following is a summary of the provisions of Michigan corporate law relating to
these restrictions. See "Business -- Insurance Regulatory Matters" for a
description of restrictions on the acquisition of a controlling interest in
APCapital contained in the Michigan Insurance Code.
Chapter 7A of the Michigan Business Corporation Act, which applies to
APCapital, contains provisions that generally require that business combinations
between a corporation which is subject to Chapter 7A and an owner of 10% or more
of the voting power of the corporation be approved by a very high percentage of
the shareholders. The vote required is the affirmative vote of at least 90% of
the votes of each class of stock entitled to be cast and not less than 2/3 of
the votes of each class of stock entitled to be cast, other than voting shares
owned by the 10% owner. The high vote requirements will not apply if (1) the
corporation's board of directors approves the transaction prior to the time the
10% owner becomes such or (2) the transaction satisfies the specified fairness
standards, various other conditions are met and the 10% owner has been such for
at least five years.
Chapter 7B of the Michigan Business Corporation Act, which also applies to
APCapital, provides that "control shares" acquired in a "control share
acquisition" have no voting rights except as granted by the shareholders of the
company. "Control shares" are outstanding shares that, when added to shares
previously owned by a shareholder, increase such shareholder's ownership of
voting stock to 20% or more, 33 1/3% or more or a majority of the outstanding
voting power of the company. A "control share acquisition" generally must be
approved by a majority of the votes cast by shareholders entitled to vote,
excluding shares owned by the acquiror and officers and employee-directors of
the company.
PROVISIONS OF ARTICLES OF INCORPORATION AND BYLAWS; ANTI-TAKEOVER EFFECTS
The following discussion is a summary of certain provisions of the articles
of incorporation and bylaws of APCapital which may be deemed to have an
"anti-takeover" effect. These provisions should be given careful attention. The
following description is necessarily general and is qualified in its entirety by
reference to the articles and bylaws, copies of which are included as exhibits
to the registration statement of which this prospectus is a part.
ISSUANCE OF PREFERRED STOCK. The board of directors of APCapital is
authorized by the articles, to issue, from time to time, preferred APCapital
shares in one or more series, each series to bear a distinctive designation and
to have such relative rights, powers, preferences, limitations and restrictions
as shall be determined by the board in the resolution or resolutions providing
for the issuance of the preferred shares. We cannot state the actual effect of
any issuance of preferred shares upon the rights of holders of APCapital's
common stock because the board has not determined to
89
<PAGE> 92
issue any preferred shares, or any issuance price or prices, terms or rights
related to preferred shares. However, such effects might include:
- Restrictions on common stock dividends if dividends for preferred shares
have not been paid,
- Dilution of voting power and equity interest of existing holders of
common stock to the extent that any series of preferred shares has voting
rights or would acquire voting rights upon the occurrence of certain
events (such as failure to pay dividends for a specific period) or that
any series of preferred shares is convertible into common stock, and
- Current holders of common stock not being entitled to share in
APCapital's assets upon liquidation, dissolution or winding-up until
satisfaction of any liquidation preferences granted to any series of
preferred shares.
AMENDMENT OF ARTICLES AND BYLAWS. Generally, under Michigan corporate law,
a company's articles may be amended by the affirmative vote of a majority of the
outstanding shares entitled to vote or a majority of the directors then in
office. APCapital's articles provide that amendment of its articles provisions
regarding the election of board members, amendment of the articles or bylaws, or
action by consent in lieu of a meeting, or any other amendment to the articles
that has the effect of modifying or permitting circumvention of those
provisions, requires the affirmative vote of the holders of not less than
two-thirds of the then outstanding shares of APCapital's capital stock entitled
to vote at a duly called and held meeting. The notice of meeting must include
notice of the proposed articles revision. A two-thirds vote is not required for
amendment of these articles provisions, however, if the amendment is recommended
to the shareholders by not less than three-fourths of the board, in which case
the amendment only requires the vote necessary under Michigan law.
APCapital's bylaws can be amended by the directors or by APCapital's
shareholders with the affirmative vote of the holders of not less than
two-thirds of the then outstanding shares of capital stock entitled to vote at a
duly called and held meeting. The notice of meeting must include notice of the
proposed bylaws revision.
BOARD OF DIRECTORS. APCapital's articles provide that the size of the
board will be not less than three nor more than fifteen directors, with the
exact number of directors determined from time to time by affirmative vote of
the majority of directors then in office. At any meeting of the directors, a
majority of the directors then in office constitutes a quorum for the
transaction of business. APCapital will have a staggered board. Consequently, at
least two annual meetings will normally be required to effect a change in the
composition of a majority of the board. See "Management -- Board of Directors of
APCapital."
LIMITATIONS ON SPECIAL MEETINGS. Special meetings of APCapital's
shareholders may be called by the board, the chairman of the board or the
president. A special meeting must be called at the written request of
shareholders holding two-thirds of the shares of APCapital's stock outstanding
and entitled to vote. The request must state the purpose for which the meeting
is to be called.
ACTION BY CONSENT. Any action that can be taken by APCapital's
shareholders at a meeting can be taken by written consent only if the consent is
signed by the holders of all of the outstanding shares of APCapital's capital
stock entitled to give consent.
INDEMNIFICATION AND LIMITATION OF LIABILITY MATTERS
The bylaws of APCapital require it to reimburse its directors and officers
to the fullest extent permitted by law for expenses, judgments, penalties, fines
and settlements in connection with legal proceedings to which the director or
officer is a party due to their service in any capacity at
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<PAGE> 93
APCapital's request. If the legal proceeding is brought by APCapital or on its
behalf, APCapital's reimbursement obligation is limited to expenses and
settlements. In either case, the director or officer must be found to have acted
in good faith and in a manner they believed to be in APCapital's and its
shareholders' best interest or not opposed to APCapital's or its shareholders'
best interest. If the proceeding is a criminal proceeding, APCapital must
reimburse the director or officer only if they had no reasonable cause to
believe their conduct was unlawful.
As permitted by law, the articles of incorporation of APCapital generally
limit the personal liability of its directors to APCapital and its shareholders
for breach of their fiduciary duty. The articles of incorporation, however, do
not eliminate or limit the liability of a director for any of the following:
- the amount of a financial benefit received by a director to which he or
she is not entitled;
- intentional infliction of harm on the corporation or its shareholders;
- a violation of Section 551 of the Michigan Business Corporation Act
relating to improper distributions; or
- an intentional criminal act.
As a result of this provision, shareholders of APCapital may be unable to
recover damages against directors for actions taken by them which constitute
negligence or gross negligence or which are in violation of their fiduciary
duties, although it may be possible to obtain an injunction with respect to such
actions. APCapital has been advised that, in the opinion of the Securities and
Exchange Commission, indemnification for liabilities arising under the
Securities Act of 1933 is against public policy as expressed in the Securities
Act and is, therefore, unenforceable.
TRANSFER AGENT
ChaseMellon Shareholder Services, L.L.C. will act as transfer agent and
registrar for the common stock after the conversion.
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<PAGE> 94
MATERIAL FEDERAL INCOME TAX CONSEQUENCES
GENERAL
The following discussion is a summary of the material federal income tax
considerations relevant to the conversion, the subscription offering and
policyholders. It is based on a tax opinion received from PricewaterhouseCoopers
LLP. The summary does not discuss all the potential federal income tax effects,
nor does it discuss any other type of tax law ramifications. The analysis
assumes that if you buy common stock, you will own it as an investment, or
"capital asset" as the term is defined in the Internal Revenue Code.
The discussion is based upon current law and relevant interpretations, all
of which are subject to change at any time. In addition, the tax opinion notes
that the issues it discusses are not addressed by any direct authorities or
binding precedent. The IRS rulings on which the opinion is based are likewise
subject to change at any time. Any changes could be retroactively applied in a
manner that could adversely affect policyholders, holders of common stock or
APCapital.
YOU ARE URGED TO CONSULT YOUR TAX ADVISOR CONCERNING THE FEDERAL INCOME TAX
CONSEQUENCES OF RECEIVING AND EXERCISING SUBSCRIPTION RIGHTS AND HOLDING COMMON
STOCK, AND CONCERNING ANY TAX CONSEQUENCES TO YOU OF THE CONVERSION OTHER THAN
FEDERAL INCOME TAX CONSEQUENCES.
SUBSCRIPTION RIGHTS
Generally, the federal income tax consequences of the receipt, exercise and
lapse of subscription rights are uncertain. They present novel issues of tax law
which are not addressed by any direct authorities. The tax opinion provides
that:
(1) the eligible policyholders should be treated as transferring their
voting rights and rights to share in any assets of MICOA to APCapital in
exchange for the subscription rights, and that therefore, an eligible
policyholder should recognize gain to the extent that the fair market value
of the subscription rights received, if any, exceeds the cost basis of such
eligible policyholder in the rights surrendered therefor;
(2) an eligible policyholder who acquires common stock by exercising a
subscription right should have a basis in such common stock equal to the
amount of cash paid therefor plus the basis in the subscription right, if
any; and
(3) the applicable holding period for such common stock should
commence on the day the subscription right is exercised.
We have received a letter from RP Financial, LC, stating its belief that
the subscription rights do not have any fair market value, based on the facts
that these rights are acquired by the recipients without cost, are
nontransferable and of short duration, and give the recipients the right only to
purchase the common stock at a price equal to its estimated fair market value,
which will be the same price as the purchase price for the unsubscribed shares
of common stock in the best efforts offering and is expected to be the same
price as the purchase price for the shares in the firm commitment underwritten
offering. The letter of RP Financial is not binding on the IRS, and the IRS
could disagree with conclusions reached in the letter. In the event of any
disagreement, there can be no assurance that the IRS would not prevail in a
judicial or administrative proceeding.
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<PAGE> 95
MATERIAL TAX EFFECTS TO APCAPITAL
The tax opinion also states, among other things, that the conversion should
constitute a reorganization within the meaning of Section 368(a)(1)(E) of the
Internal Revenue Code. As a result, no gain or loss should be recognized by
MICOA as a result of the conversion. The tax opinion further states that:
(1) APCapital should recognize no gain or loss on its granting of
subscription rights to eligible policyholders and should recognize no gain
or loss on the lapse of a subscription right;
(2) no gain or loss should be recognized by APCapital on the receipt
of cash or other property in exchange for its stock;
(3) APCapital should have a basis in the stock of MICOA equal to the
amount paid for it; and
(4) MICOA should recognize no gain or loss on receipt of property in
exchange for its stock.
LEGAL MATTERS
Legal matters with respect to the common stock being offered by this
prospectus will be passed on for APCapital by Dykema Gossett PLLC, Detroit,
Michigan. The underwriters are represented by Sidley & Austin, Chicago,
Illinois.
EXPERTS
The consolidated balance sheets of MICOA as of December 31, 1999 and 1998,
and the consolidated statements of income, surplus and comprehensive income and
cash flows for each of the years in the three year period ended December 31,
1999, have been included in this prospectus in reliance upon the report of
PricewaterhouseCoopers LLP, independent accountants, given on the authority of
that firm as experts in accounting and auditing. PricewaterhouseCoopers LLP has
further consented to the publication in this prospectus of the summary of its
tax opinion under the caption "Material Federal Income Tax Consequences" and to
the use of its name and statements with respect to it appearing in this
prospectus.
RP Financial, LC has reviewed and approved the statements in this
prospectus as to the valuation analysis letter, the estimated pro forma market
value of APCapital and the value of the subscription rights to purchase common
stock, and consents to the use of its name and statements with respect to it
appearing in this prospectus.
AVAILABLE INFORMATION
After the conversion, we intend to furnish our shareholders each year with
an annual report containing audited financial information and to make available
a quarterly report containing unaudited financial information following each of
the first three quarters of each year.
We have filed a registration statement on Form S-1 with the Commission to
register the shares of common stock being offered in the offerings under the
Securities Act. As permitted by Commission rules, we have included some of the
information relating to the offerings, such as the exhibits, in the registration
statement rather than this prospectus. The registration statement can be read
and copied at the Commission's Public Reference Room at 450 Fifth Street, N.W.,
Washington, D.C. 20549. Information about the operation of the Public Reference
Room can be
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<PAGE> 96
obtained by calling the Commission at 1-800-SEC-0330. You may also obtain a copy
of the registration statement by accessing the Commission's website at
http://www.sec.gov. We urge you to review the exhibits which are attached to the
registration statement, since our discussion of these documents in the
prospectus is often brief and may not include every provision of the exhibit.
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<PAGE> 97
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE(S)
-------
<S> <C>
AUDITED CONSOLIDATED FINANCIAL STATEMENTS
REPORT OF INDEPENDENT ACCOUNTANTS......................... F-2
Balance Sheets as of December 31, 1999 and 1998........... F-3
Statements of Income for the years ended December 31,
1999, 1998 and 1997.................................... F-4
Statements of Surplus and Comprehensive Income for the
years ended December 31, 1999, 1998 and 1997........... F-5
Statements of Cash Flows for the years ended December 31,
1999, 1998 and 1997.................................... F-6
Notes to Consolidated Financial Statements................ F-7
UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Balance Sheets as of December 31, 1999 and June 30,
2000................................................... F-22
Statements of Income for the six months ended
June 30, 2000 and 1999................................. F-23
Statements of Comprehensive Income (Loss) for the six
months ended June 30, 2000 and 1999.................... F-24
Statements of Cash Flows for the six months ended
June 30, 2000 and 1999................................. F-25
Notes to Condensed Consolidated Financial Statements...... F-26
</TABLE>
F-1
<PAGE> 98
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors of
Mutual Insurance Corporation Of America
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of income, surplus and comprehensive income, and
cash flows present fairly, in all material respects, the financial position of
Mutual Insurance Corporation Of America and its subsidiaries at December 31,
1999 and 1998 and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 1999, in conformity with
accounting principles generally accepted in the United States. 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
auditing standards generally accepted in the United States which require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for the opinion expressed above.
PricewaterhouseCoopers LLP
Grand Rapids, Michigan
February 17, 2000
F-2
<PAGE> 99
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1999 AND 1998
<TABLE>
<CAPTION>
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
Investments
Fixed maturities
Held-to-maturity, at amortized cost $ 980,000 $ 1,000,000
Available-for-sale, at fair value 427,302,753 471,422,020
Equity securities, at fair value 41,660,956 30,267,882
Other investments 38,857,447 9,337,778
------------ ------------
Total investments 508,801,156 512,027,680
Cash and cash equivalents 33,093,240 36,636,949
Accrued investment income 7,428,800 7,139,181
Premiums receivable 51,149,675 40,434,242
Reinsurance recoverable 65,896,671 51,577,447
Prepaid reinsurance premiums 9,366,824 8,061,113
Deferred policy acquisition costs 9,405,730 6,238,880
Federal income taxes recoverable 35,486,271 6,278,315
Deferred federal income taxes 34,548,769 26,870,654
Property and equipment, net of accumulated depreciation of
$7,906,836 in 1999 and $6,542,535 in 1998 16,087,411 15,354,519
Goodwill, net of accumulated amortization of $1,634,418 in
1999 and $902,329 in 1998 18,808,738 1,818,969
Other assets 4,316,479 3,158,569
------------ ------------
TOTAL ASSETS $794,389,764 $715,596,518
============ ============
LIABILITIES
Unpaid losses and loss adjustment expenses $457,071,989 $422,986,570
Unearned premiums 85,589,766 74,910,961
Premiums received in advance 3,094,359 2,924,007
Ceded reinsurance payable 12,348,359 13,073,688
Note payable, officer (Note 4) 7,373,000 --
Accrued expenses and other liabilities 20,125,956 12,948,919
------------ ------------
Total liabilities 585,603,429 526,844,145
------------ ------------
COMMITMENTS AND CONTINGENCIES
SURPLUS
Accumulated other comprehensive income Net unrealized
(depreciation) appreciation on investments, net of
deferred federal income tax (benefit) expense of
($3,081,506) in 1999 and $4,311,579 in 1998 (5,722,798) 7,972,765
Unassigned surplus 214,509,133 180,779,608
------------ ------------
Total surplus 208,786,335 188,752,373
------------ ------------
TOTAL LIABILITIES AND SURPLUS $794,389,764 $715,596,518
============ ============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-3
<PAGE> 100
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997
<TABLE>
<CAPTION>
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
REVENUES
Net premiums written $158,028,833 $147,800,623 $110,776,066
Change in unearned premiums (9,373,094) (10,805,579) (4,012,292)
------------ ------------ ------------
Net premiums earned 148,655,739 136,995,044 106,763,774
Investment income 30,538,864 29,451,270 28,817,085
Net realized investment gains 1,849,548 9,539,583 1,686,891
Other income 6,676,235 2,831,733 1,757,369
------------ ------------ ------------
Total revenues 187,720,386 178,817,630 139,025,119
------------ ------------ ------------
EXPENSES
Losses and loss adjustment expenses 130,948,834 122,052,813 88,418,235
Underwriting expenses 40,036,713 38,454,634 30,798,045
Investment expenses 3,283,127 2,942,414 2,282,817
Interest expense 565,064 790,712 342,765
Amortization expense 1,177,454 905,563 183,270
General and administrative expenses 783,919 1,207,322 1,122,764
Restructuring charges 955,344 -- --
------------ ------------ ------------
Total expenses 177,750,455 166,353,458 123,147,896
------------ ------------ ------------
Income before income taxes 9,969,931 12,464,172 15,877,223
Federal income tax (benefit) expense (23,759,594) 3,400,000 4,828,664
------------ ------------ ------------
Net income $ 33,729,525 $ 9,064,172 $ 11,048,559
============ ============ ============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-4
<PAGE> 101
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SURPLUS
AND COMPREHENSIVE INCOME
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997
<TABLE>
<CAPTION>
ACCUMULATED
OTHER
UNASSIGNED COMPREHENSIVE
SURPLUS INCOME TOTAL
------------ ------------- ------------
<S> <C> <C> <C>
Balance, January 1, 1997 $160,666,877 $ (3,082,735) $157,584,142
Comprehensive income
Net income 11,048,559 11,048,559
Unrealized gain on investment securities 7,758,982 7,758,982
------------ ------------ ------------
Total comprehensive income, net of taxes 18,807,541
------------
Balance, December 31, 1997 171,715,436 4,676,247 176,391,683
Comprehensive income
Net income 9,064,172 9,064,172
Unrealized gain on investment securities 3,296,518 3,296,518
------------ ------------ ------------
Total comprehensive income, net of taxes 12,360,690
------------
Balance, December 31, 1998 180,779,608 7,972,765 188,752,373
Comprehensive income
Net income 33,729,525 33,729,525
Unrealized loss on investment securities (13,695,563) (13,695,563)
------------ ------------ ------------
Total comprehensive income, net of taxes 20,033,962
------------
Balance, December 31, 1999 $214,509,133 $ (5,722,798) $208,786,335
============ ============ ============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-5
<PAGE> 102
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997
<TABLE>
<CAPTION>
1999 1998 1997
------------ ------------- ------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 33,729,525 $ 9,064,172 $ 11,048,559
Adjustments to reconcile net income to net cash
provided by operating activities
Depreciation and amortization 2,205,749 1,119,942 822,646
Net realized investment gains (1,849,548) (9,539,583) (1,686,891)
Deferred federal income taxes (285,030) 2,248,427 1,359,326
Amortization of bond premium and discount, net 1,552,180 1,115,769 1,911,045
Changes in
Accrued investment income (289,618) (234,528) (259,112)
Premiums receivable (10,715,433) (11,495,036) (8,421,436)
Reinsurance recoverable (14,319,224) 4,572,992 (7,295,396)
Prepaid reinsurance premiums (1,305,711) (1,971,015) (322,132)
Deferred policy acquisition costs (3,166,850) (1,158,609) (56,579)
Federal income taxes recoverable (29,207,956) (6,046,415) (9,673,108)
Unpaid losses and loss adjustment expenses 34,085,419 15,241,054 15,119,972
Unearned premiums 10,678,805 12,776,592 4,334,424
Premiums received in advance 170,352 (1,021,427) (1,136,164)
Ceded reinsurance payable (725,329) 594,039 (308,695)
Accrued expenses and other liabilities 6,294,909 (1,883,634) 6,101,625
Other assets (1,233,998) 1,224,388 (881,116)
------------ ------------- ------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 25,618,242 14,607,128 10,656,968
------------ ------------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases
Available for sale, fixed maturities (34,106,596) (342,082,989) (91,559,605)
Available for sale, equity securities (28,457,498) (35,545,718) (10,299,365)
Acquisition of subsidiary (9,500,000) (1,181,775)
Other assets (3,365,000) (2,200,379) (4,572,500)
Real estate (29,490,210)
Property and equipment (2,191,176) (891,118) (1,009,403)
Sales and maturities
Available for sale, fixed maturities 50,677,835 287,315,076 109,425,397
Available for sale, equity securities 25,921,916 35,316,556 10,493,571
Held-to-maturity 20,000 1,790,000 2,980,000
Other assets 1,256,714 1,646,158 1,845,634
Property and equipment 72,064 62,588 5,898,401
Real estate 469,056
Disposition of businesses 176,573
------------ ------------- ------------
NET CASH (USED IN) PROVIDED BY INVESTING
ACTIVITIES (29,161,951) (54,120,770) 22,196,928
------------ ------------- ------------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (3,543,709) (39,513,642) 32,853,896
Cash and cash equivalents, beginning of year 36,636,949 76,150,591 43,296,695
------------ ------------- ------------
Cash and cash equivalents, end of year $ 33,093,240 $ 36,636,949 $ 76,150,591
============ ============= ============
</TABLE>
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Federal income taxes of $(151,860), $6,813,403, and $13,185,123 were paid, net
of recoveries in 1999, 1998, and 1997, respectively.
KMA Insurance Agency was sold for cash and notes receivable in 1997 (Note 4).
SUPPLEMENTAL DISCLOSURES OF NON-CASH ITEMS
The Company purchased Stratton-Cheeseman Management Company during 1999. In
conjunction with the acquisition, a liability of $955,000 was assumed and a
note payable of $7.3 million was issued (Note 4).
The accompanying notes are an integral part of the consolidated financial
statements.
F-6
<PAGE> 103
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES
BASIS OF CONSOLIDATION AND REPORTING
The accompanying consolidated financial statements include the accounts of
Mutual Insurance Corporation Of America ("MICOA") and its wholly-owned
subsidiaries, MICOA Management Company ("MMC"), MICOA Indemnity (Bermuda), Ltd.
("MIBL"), and Preferred Ventures, Inc. ("PVI"), and PVI's wholly-owned
subsidiaries, Kentucky Medical Insurance Company ("KMIC"), RML Insurance Company
("RML"), Insurance Corporation of America ("ICA") and Alpha Advisors, Inc.,
together referred to as (the "Company"). All significant intercompany accounts
and transactions are eliminated in consolidation.
NATURE OF BUSINESS
The Company is principally engaged in the business of providing medical
professional liability, workers' compensation and personal and commercial
insurance throughout the United States with a concentration of writings in the
Midwest.
INVESTMENTS
Held-to-maturity securities are those securities that the Company has the
positive intent and ability to hold to maturity and are recorded at amortized
cost. Available-for-sale securities are those securities that would be available
to be sold in the future in response to the Company's liquidity needs, changes
in market interest rates and asset-liability management strategies.
Available-for-sale securities are reported at estimated fair value, with
unrealized gains and losses excluded from earnings and reported as a separate
component of surplus, net of deferred taxes.
Investment income includes amortization of premium and accrual of discount
on the yield-to-maturity method relating to investments acquired at other than
par value. Realized gains or losses on sales or maturities of investments are
determined on a specific identification basis and are credited or charged to
income.
Equity securities are carried at quoted market values. Fair values of fixed
maturities and equity securities are determined on the basis of dealer or market
quotations or comparable securities on which quotations are available. Mortgage
loans are carried at the unpaid principal balance which approximates the fair
market value, as they bear current market interest rates. Real estate is carried
at historical cost, less accumulated depreciation. Real estate of $30,595,210 in
1999 and mortgage loans of $7,002,304 in 1999 and $5,159,128 in 1998 are
included in other investments on the balance sheet.
CASH AND CASH EQUIVALENTS
Cash equivalents consist principally of commercial paper and money market
funds, are stated at cost, which approximates fair value, and have maturities of
three months or less at the date of purchase.
F-7
<PAGE> 104
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
PREMIUMS WRITTEN AND RECEIVABLE
Premiums written are earned primarily using pro rata methods over the
period of risk. Premiums receivable include $35,625,784 at December 31, 1999 and
$28,978,885 at December 31, 1998 of premium installments financed by the Company
over terms of 3 to 10 months at interest rates of up to 12 percent. Receivable
balances consist principally of written premiums from physicians in the States
of Michigan, Ohio, Kentucky, Florida, Minnesota and New Mexico. Receivables are
generally collateralized by unearned premiums.
DEFERRED POLICY ACQUISITION COSTS
Deferred policy acquisition costs ("DAC") include commissions, premium
taxes and other costs incurred in connection with writing business. These costs
are deferred and amortized over the period in which the related premiums are
earned. Future investment income has been considered in determining the
recoverability of deferred costs.
PROPERTY, EQUIPMENT AND DEPRECIATION
Property and equipment are recorded at cost. Depreciation is computed for
assets using straight-line and accelerated methods over the following periods:
building - 40 years, furniture - 10 years, computer equipment and software - 5
years. Upon the sale or retirement of property and equipment, balances are
removed from the respective accounts and any gain or loss is included in income.
UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
The provision for unpaid losses and loss adjustment expenses is estimated
actuarially using the Company's claim experience. These estimates are subject to
the effects of trends in loss severity and frequency. Although considerable
variability is inherent in such estimates, management believes that the
liability for unpaid losses and loss adjustment expenses is adequate. The method
for making such estimates and for establishing the resulting liabilities are
continually reviewed, and any adjustments are reflected in current earnings.
Unpaid losses and loss adjustment expenses include amounts for death,
disability and retirement, which are recorded on a discounted basis (at December
31, 1999 the discount was approximately $12 million).
REVENUE RECOGNITION
Insurance premium income is recognized on a daily pro rata basis over the
respective terms of the policies in-force and unearned premiums represent the
portion of premiums written which are applicable to the unexpired terms of
policies in-force.
REINSURANCE
Reinsurance premiums and losses related to reinsured business are accounted
for on a basis consistent with those used in accounting for the original
policies issued and the terms of the reinsurance contracts. Reinsurance
recoverables and prepaid reinsurance premiums are accounted for in accordance
with Statement of Financial Accounting Standards ("SFAS") No. 113, "Accounting
and Reporting for Reinsurance." Premiums ceded to other companies have been
reported as a reduction of premium income. Reinsured losses incurred are
reported as a reduction of gross losses incurred.
F-8
<PAGE> 105
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
INCOME TAXES
Deferred income taxes are recognized at prevailing income tax rates for
temporary differences between financial statement and income tax bases of assets
and liabilities and net operating loss carryforwards for which income tax
benefits will be realized in future years.
GOODWILL
Goodwill consists of the excess of cost over fair market value of net
assets of acquired businesses. Goodwill is amortized on a straight-line basis
over periods ranging from five to ten years.
The carrying value of goodwill is periodically reviewed to determine if any
impairment has occurred. The Company measures the potential impairment of
recorded goodwill based on the estimated undiscounted cash flows of the entity
acquired over the remaining amortization period.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
RECLASSIFICATION
Certain amounts in the 1998 and 1997 financial statements have been
reclassified to conform to the 1999 presentation.
SURPLUS AND DIVIDEND RESTRICTIONS
Statutory surplus requirements, including risk-based capital, are subject
to the limitations contained in the various insurance codes. For 2000, the
maximum amount of dividends that may be paid to MICOA's policyholders without
prior approval of the Michigan Insurance Bureau is approximately $18,000,000.
2. EFFECTS OF NEW ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board has issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities", which is
effective for fiscal quarters of all fiscal years beginning after June 30, 2000
(as amended by SFAS No. 137). SFAS No. 133 requires that all derivative
instruments be recorded on the balance sheet at fair value. Changes in fair
value of derivatives are recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is part of a hedge
transaction, and if it is, the type of hedge transaction. Because the Company
does not use derivative instruments, management anticipates that the adoption of
SFAS No. 133 will not affect the Company's results of operations or financial
position.
3. COMPREHENSIVE INCOME
SFAS No. 130, "Reporting Comprehensive Income", requires unrealized gains
or losses on the Company's available-for-sale securities to be included in other
comprehensive income. Realized
F-9
<PAGE> 106
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
investment gains on securities held as of the beginning of the year totaling
$1,348,493 in 1999, $9,388,204 in 1998, and $1,560,136 in 1997, had unrealized
appreciation of $412,082 at the beginning of 1999, $5,116,612 at the beginning
of 1998, and $1,223,745 at the beginning of 1997.
4. MERGER AND ACQUISITION ACTIVITY
Effective August 1, 1997, the operations and accounts of New Mexico
Physicians Mutual Liability Company ("NMPMLC") were merged into MICOA pursuant
to an agreement of merger approved by the Boards of MICOA and NMPMLC. In a
separate transaction, effective December 31, 1997, the operations and accounts
of State Mutual Insurance Company ("SMIC") were merged into MICOA in accordance
with the terms of a merger agreement approved by the Boards of MICOA and SMIC.
Neither transaction involved the disbursement of cash by MICOA, but was the
combination of two mutual insurance companies. Both NMPMLC and SMIC ceased to
exist as separate entities and their policyholders became policyholders of
MICOA, the surviving entity. These merger transactions have been accounted for
using the pooling-of-interest method. Accordingly, the Company's financial
statements have been restated to include the accounts and results of operations
of NMPMLC and SMIC for all periods presented.
The results of operations for the separate companies and the combined
amounts presented in the 1997 consolidated financial statements are as follows:
<TABLE>
<S> <C>
NET PREMIUMS EARNED
Premerger
MICOA $ 61,488,597
NMPMLC 908,721
SMIC 13,380,778
Postmerger 30,985,678
------------
$106,763,774
============
NET INCOME (LOSS)
Premerger
MICOA $ 2,629,557
NMPMLC 331,457
SMIC (1,767,769)
Postmerger 9,855,314
------------
$ 11,048,559
============
</TABLE>
Effective January 1, 1997, the Board of Directors of KMIC approved the sale
of its wholly owned subsidiary, KMA Insurance Agency, Inc. (the "Agency") for
$705,292 to SCW Agency Group, Inc. (formerly Stratton, Cheeseman & Walsh, Inc.).
The sale consisted of a downpayment of $176,573 with the balance to be paid in 5
equal annual installments of $105,944, plus interest at current prime rate. The
Agency markets KMIC's policies and offers lines of insurance other than medical
professional liability in Kentucky. The Company recognized a gain on the sale of
the Agency of $6,000.
Effective October 31, 1999, MICOA purchased all of the outstanding stock of
Stratton-Cheeseman Management Company ("SCMC") which was substantially owned by
the president of
F-10
<PAGE> 107
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the Company, for $19.5 million, consisting of $9.5 million in cash and a
commitment to pay $10 million in installments over the next nine years without
interest. Installments begin April 30, 2001 and are to be made annually
thereafter. The Company discounted the non-interest bearing obligation, using a
discount rate of 6%, recording a note payable of $7.3 million. The acquisition
was accounted for using the purchase method of accounting and resulted in the
recognition of $16.65 million in goodwill. The goodwill is being amortized over
a period of 10 years. The remaining purchase price was allocated to the fair
value of assets acquired, consisting of a $150,000 investment in an unaffiliated
entity. The purchase agreement contains certain provisions, including change of
control provisions, for the acceleration or cancellation of the $10 million
commitment. If the commitment is accelerated or cancelled, any remaining
discount or amounts forfeited will be recorded as an adjustment to goodwill.
Annual payments will increase or decrease by $200,000 for each corresponding
half-grade level increase or decrease in the Company's A.M. Best Company, Inc.
rating during the term of the payments. Any amounts paid for changes in the
industry rating will be recorded as compensation expense in the period earned.
If the Company terminates the president or if he dies or is disabled, payments
will accelerate. Unaudited pro forma revenues and net income, as if this
transaction had occurred as of January 1, 1999, do not differ significantly,
from revenues and net income presented in the accompanying statement of income.
5. INVESTMENTS
The composition of the investment portfolio at December 31 was:
<TABLE>
<CAPTION>
1999
-----------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
------------ ----------- ------------ ------------
<S> <C> <C> <C> <C>
Held-to-maturity, states and
political subdivisions $ 980,000 $ 7,752 $ -- $ 987,752
------------ ----------- ------------ ------------
Available-for-sale
U.S. government obligations $ 99,897,606 $ 101,611 $ (4,993,071) $ 95,006,146
States and political subdivisions 126,450,806 293,885 (3,715,987) 123,028,704
Corporate securities 198,339,740 82,042 (12,106,086) 186,315,696
Mortgage-backed securities 7,188,785 3,997 (108,674) 7,084,108
Other debt securities 16,725,334 10,803 (868,038) 15,868,099
------------ ----------- ------------ ------------
Fixed maturities 448,602,271 492,338 (21,791,856) 427,302,753
Equity securities 29,164,942 14,412,322 (1,916,308) 41,660,956
------------ ----------- ------------ ------------
Total available-for-sale $477,767,213 $14,904,660 $(23,708,164) $468,963,709
============ =========== ============ ============
</TABLE>
F-11
<PAGE> 108
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
<CAPTION>
1998
--------------------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
------------ ----------- ----------- ------------
<S> <C> <C> <C> <C>
Held-to-maturity, states and
political subdivisions $ 1,000,000 $ 69,470 $ -- $ 1,069,470
------------ ----------- ----------- ------------
Available-for-sale
U.S. government obligations $102,086,324 $ 925,287 $ (429,312) $102,582,299
States and political subdivisions 123,172,030 2,290,132 (191,641) 125,270,521
Corporate securities 207,101,632 3,413,869 (476,820) 210,038,681
Mortgage-backed securities 15,910,525 346,277 (23,533) 16,233,269
Other debt securities 16,941,007 356,243 -- 17,297,250
------------ ----------- ----------- ------------
Fixed maturities 465,211,518 7,331,808 (1,121,306) 471,422,020
Equity securities 24,193,240 6,661,192 (586,550) 30,267,882
------------ ----------- ----------- ------------
Total available-for-sale $489,404,758 $13,993,000 $(1,707,856) $501,689,902
============ =========== =========== ============
</TABLE>
The components of pretax investment income at December 31 were:
<TABLE>
<CAPTION>
1999 1998 1997
----------- ----------- -----------
<S> <C> <C> <C>
Interest income $27,101,326 $28,320,833 $27,563,530
Dividend income 266,372 335,821 473,790
Other investment income 3,171,166 794,616 779,765
----------- ----------- -----------
Investment income $30,538,864 $29,451,270 $28,817,085
=========== =========== ===========
Gross realized gains
Available for sale
Fixed maturities $ 22,879 $ 2,861,303 656,505
Equity securities 5,490,664 8,998,314 2,322,824
----------- ----------- -----------
Total gross realized gains 5,513,543 11,859,617 2,979,329
=========== =========== ===========
Gross realized losses
Available for sale
Fixed maturities (120,839) (247,251) (587,759)
Equity securities (3,543,156) (2,072,783) (704,679)
----------- ----------- -----------
Total gross realized losses (3,663,995) (2,320,034) (1,292,438)
----------- ----------- -----------
Net realized investment gain $ 1,849,548 $ 9,539,583 $ 1,686,891
=========== =========== ===========
</TABLE>
F-12
<PAGE> 109
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Changes in unrealized gains (losses) on fixed maturities and equity securities
were:
<TABLE>
<CAPTION>
1999 1998 1997
------------ ----------- -----------
<S> <C> <C> <C>
Held-to-maturity, fixed maturities $ (61,718) $ (20,923) $ (43,373)
============ =========== ===========
Available for sale
Fixed maturities $(27,510,020) 4,684,016 9,246,665
Equity securities 6,421,372 387,550 2,690,231
Deferred income taxes 7,393,085 (1,775,048) (4,177,914)
------------ ----------- -----------
$(13,695,563) $ 3,296,518 $ 7,758,982
============ =========== ===========
</TABLE>
The composition of fixed maturities by maturity at December 31, 1999 was:
<TABLE>
<CAPTION>
AMORTIZED ESTIMATED
COST FAIR VALUE
------------ ------------
<S> <C> <C>
Held-to-maturity
One to five years $ 980,000 $ 987,752
Available-for-sale
Less than one year 14,449,210 14,483,262
One to five years 160,353,390 156,573,062
Five to ten years 220,942,505 205,826,522
More than ten years 45,668,381 43,335,799
Mortgage-backed securities 7,188,785 7,084,108
------------ ------------
Total $448,602,271 $427,302,753
============ ============
</TABLE>
The amortized cost and estimated fair value of debt securities at December
31, 1999, by contractual maturity, are shown above. Expected maturities will
differ from contractual maturities because borrowers may have the right to call
or prepay obligations with or without call or prepayment penalties.
Bonds with amortized costs of $7,486,007 and $7,171,187 were on deposit
with various states as of December 31, 1999 and 1998, respectively. Proceeds on
the sales of investments in bonds totaled $15,242,596 in 1999, $216,339,719 in
1998 and $59,044,208 in 1997.
6. DEFERRED ACQUISITION COSTS
Changes in deferred policy acquisition costs for the years ended December
31, 1999, 1998 and 1997 are summarized as follows:
<TABLE>
<CAPTION>
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Beginning balance $ 6,238,880 $ 5,080,271 $ 5,023,692
Additions 23,514,325 13,404,635 10,754,753
Amortization (20,347,475) (12,246,026) (10,698,174)
------------ ------------ ------------
Balance, December 31 $ 9,405,730 $ 6,238,880 $ 5,080,271
============ ============ ============
</TABLE>
F-13
<PAGE> 110
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
7. PROPERTY AND EQUIPMENT, NET
At December 31, 1999 and 1998, property and equipment consisted of the
following:
<TABLE>
<CAPTION>
1999 1998
----------- -----------
<S> <C> <C>
Land $ 570,829 $ 570,829
Building (occupied by the Company) 13,274,786 13,274,786
Computer equipment and software 6,716,593 5,632,289
Furniture 3,432,040 2,419,150
----------- -----------
23,994,248 21,897,054
Accumulated depreciation (7,906,837) (6,542,535)
----------- -----------
$16,087,411 $15,354,519
=========== ===========
</TABLE>
8. UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
Activity in unpaid losses and loss adjustment expenses during 1999, 1998,
and 1997 is as follows:
<TABLE>
<CAPTION>
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Balance, beginning of year $422,986,570 $407,745,516 $392,625,544
Less-reinsurance recoverables (51,004,593) (54,909,378) (46,170,767)
------------ ------------ ------------
Net balance, beginning of year 371,981,977 352,836,138 346,454,777
Incurred related to
Current year 150,701,691 148,766,643 114,922,392
Prior years (19,752,857) (26,713,830) (26,504,157)
------------ ------------ ------------
Total incurred 130,948,834 122,052,813 88,418,235
------------ ------------ ------------
Paid related to
Current year 23,972,923 20,087,455 18,453,671
Prior years 85,375,908 82,819,519 63,583,203
------------ ------------ ------------
Total paid 109,348,831 102,906,974 82,036,874
------------ ------------ ------------
Net balance, end of year 393,581,980 371,981,977 352,836,138
Plus, reinsurance recoverables 63,490,009 51,004,593 54,909,378
------------ ------------ ------------
$457,071,989 $422,986,570 $407,745,516
============ ============ ============
</TABLE>
Incurred loss and loss adjustment expenses for prior years declined during
1999, 1998, and 1997 as a result of favorable development. Management believes
the estimate of the ultimate liability for losses and loss adjustment expenses
at December 31, 1999 is reasonable and reflective of anticipated ultimate
experience. However, it is possible that the Company's actual incurred loss and
loss adjustment expenses will not conform to the assumptions inherent in the
determination of the liability. Accordingly, it is reasonably possible that the
ultimate settlement of losses and the related loss adjustment expenses may vary
significantly from the estimated amounts included in the accompanying financial
statements.
F-14
<PAGE> 111
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
9. REINSURANCE
Reinsurance arises from the Company seeking to reduce its loss exposure on
its higher limit policies related primarily to medical malpractice. The Company
has mainly entered into excess of loss contracts for medical malpractice and
quota share agreements for workers' compensation. A reconciliation of
direct-to-net premiums, on both a written and earned basis, for 1999, 1998, and
1997 is as follows:
<TABLE>
<CAPTION>
1999 1998 1997
--------------------------- --------------------------- ---------------------------
WRITTEN EARNED WRITTEN EARNED WRITTEN EARNED
------------ ------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Direct $189,646,996 $178,102,116 $160,304,741 $147,451,386 $129,592,819 $126,247,759
Ceded (35,227,575) (33,930,945) (14,358,401) (11,462,114) (19,604,611) (19,941,063)
Assumed 3,609,412 4,484,568 1,854,283 1,005,772 787,858 457,078
------------ ------------ ------------ ------------ ------------ ------------
Net $158,028,833 $148,655,739 $147,800,623 $136,995,044 $110,776,066 $106,763,774
============ ============ ============ ============ ============ ============
</TABLE>
Losses and loss adjustment expenses incurred are net of ceded losses of
$43,132,000 for 1999, $8,557,000 for 1998, and $24,236,000 for 1997.
The Company received a refund of approximately $3.6 million of ceded
premiums from a reinsurer in 1998 due to the cancellation of the reinsurance
agreement. The refund resulted in a reduction of ceded premiums.
The Company's policy is to enter into reinsurance contracts only with
highly rated reinsurers. Reinsurance contracts do not relieve the Company from
its obligations to policyholders. If the reinsurance company is unable to meet
its obligations under existing reinsurance agreements, the Company could incur
losses.
The Company had reinsurance recoverables from the following reinsurers at
December 31, 1999 and 1998 (in thousands):
<TABLE>
<CAPTION>
1999 1998
------- -------
<S> <C> <C>
General Reinsurance Corporation $13,221 $ 8,609
Mutual Assurance, Inc. 12,043 14,552
PMA Reinsurance Corporation 10,085 3,689
Employers Reinsurance Corporation 8,407 8,876
Zurich Reinsurance 6,433 5,171
Transatlantic Reinsurance Company 5,715 2,703
Others 19,360 16,038
------- -------
$75,264 $59,638
======= =======
</TABLE>
Amounts due from reinsurers on the accompanying balance sheet consisted of
the following (in thousands):
<TABLE>
<CAPTION>
1999 1998
------- -------
<S> <C> <C>
Reinsurance recoverable $65,897 $51,577
Prepaid reinsurance premium 9,367 8,061
------- -------
Amounts recoverable from reinsurers $75,264 $59,638
======= =======
</TABLE>
F-15
<PAGE> 112
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. INCOME TAXES
The provision for income taxes consists of:
<TABLE>
<CAPTION>
1999 1998 1997
------------ ---------- ----------
<S> <C> <C> <C>
Current (benefit) expense $(23,474,564) $1,151,573 $3,469,338
Deferred (benefit) expense (285,030) 2,248,427 1,359,326
------------ ---------- ----------
$(23,759,594) $3,400,000 $4,828,664
============ ========== ==========
</TABLE>
Income taxes incurred do not bear the usual relationship to income before
income taxes due to the following:
<TABLE>
<CAPTION>
1999 1998 1997
----------------------- -------------------- -------------------
<S> <C> <C> <C> <C> <C> <C>
Income before income taxes $ 9,969,931 $12,464,172 $15,877,223
------------ ----------- -----------
Tax at statutory rate $ 3,489,476 35.0% $ 4,362,460 35.0% $ 5,557,028 35.0%
Tax effect of
Tax refund (see below) (25,266,798) (253.4)%
Tax exempt interest (1,915,496) (19.2)% (1,603,792) (12.9)% (1,285,590) (8.1)%
Other items, net (66,776) (0.7)% 641,332 5.2% 557,226 3.5%
------------ ------- ----------- ----- ----------- ----
$(23,759,594) (238.3)% $ 3,400,000 27.3% $ 4,828,664 30.4%
============ ======= =========== ===== =========== ====
</TABLE>
At December 31, 1999 and 1998, the components of the net deferred tax asset were
as follows:
<TABLE>
<CAPTION>
1999 1998
----------- -----------
<S> <C> <C>
Deferred tax assets arising from
Losses and loss adjustment expenses $24,907,851 $25,668,528
Unearned premiums 5,727,211 4,679,489
Alternative minimum tax credits 318,676 362,165
Unrealized loss on securities 3,081,506 --
Accounts receivable allowance 468,480 468,480
Net operating loss carryforwards 3,646,319 2,946,319
----------- -----------
Total deferred tax assets 38,150,043 34,124,981
----------- -----------
Deferred tax liabilities arising from
Deferred policy acquisition costs 3,292,006 2,183,605
Unrealized gains on securities -- 4,311,579
Other 309,268 759,143
----------- -----------
Total deferred tax liabilities 3,601,274 7,254,327
----------- -----------
Net deferred tax asset $34,548,769 $26,870,654
=========== ===========
</TABLE>
At December 31, 1999, the Company has approximately $10,500,000 of net
operating loss carryforwards. These carryforwards begin expiring in the year
2000 and fully expire in the year 2012. Their use is limited to approximately
$900,000 annually.
On November 17, 1999, the Company received notice from the Internal Revenue
Service acknowledging their approval of an outstanding claim for refund totaling
$25,266,798 and interest thereon of approximately $9.8 million. The refund was
the result of a settlement with the IRS
F-16
<PAGE> 113
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
regarding the tax treatment of loss reserves. The interest component, net of
fees, is included in other income in 1999 operations. The taxes refunded have
been reported as a federal income tax credit in 1999 operations. On February 17,
2000, the Company received the first installment of the refund which totaled
$27.6 million of tax and interest.
11. FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures About Fair Value of Financial Instruments",
requires disclosures of fair-value information about financial instruments,
whether or not recognized in the balance sheet, for which it is practicable to
estimate the value. In situations where quoted market prices are not available,
fair values are to be based on estimates using present value or other valuation
techniques. SFAS No. 107 excludes certain financial instruments and all
nonfinancial instruments from its disclosure requirements.
Under SFAS No. 107, the Company's investment securities, cash and cash
equivalents, premiums receivable, and reinsurance recoverable on paid losses
constitute financial instruments. The carrying amounts of all financial
instruments, other than investment securities, which are presented in Note 5
approximated their fair values at December 31, 1999 and 1998.
12. OTHER EXPENSES
In November 1999, the Company closed two offices in Indiana and Ohio and
restructured the home office staff. A total of 35 people, primarily clerical
staff, were terminated at the time of office closure and restructuring. These
events resulted in a charge during 1999 of approximately $955,000, including
$802,000 of severance costs and $74,000 of out-placement services. At December
31, 1999, substantially all activities related to the office closings were
complete and no additional amounts were accrued.
13. RELATED PARTY TRANSACTIONS
Prior to the acquisition of SCMC, the Company had no employees and
contracted with SCMC to provide management services to the Company through
October 31, 1999. The aggregate amount paid to SCMC during 1999, 1998 and 1997
approximated $29,533,000, $30,126,000 and $18,470,000, respectively, including
management fees of $3,208,556 in 1999, $2,514,886 in 1998 and $2,086,578 in
1997. The remaining amounts paid in these years related to pass-through costs,
primarily for compensation costs and related employee benefit expenses.
The president of the Company is a majority owner of SCW Agency Group, Inc.
formerly Stratton-Cheeseman & Walsh, Inc., an agency that sells the Company's
medical professional liability insurance in Michigan, Kentucky, Florida and
Nevada. Direct premiums written by the agency during 1999, 1998 and 1997 totaled
$71,902,000, $62,466,000 and $65,521,000, respectively, representing, 37.9%,
40.0% and 50.5% of direct premiums written during such years. Commission expense
incurred related to SCW Agency Group, Inc. approximated $4,811,000, $3,994,000
and $2,390,000 in 1999, 1998 and 1997, respectively.
At December 31, 1999, note payable, officer, also includes imputed interest
since the date of acquisition of SCMC, aggregating $7,373,000 (See Note 4).
The amount due SCMC was $724,857 at December 31, 1998.
F-17
<PAGE> 114
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
14. EMPLOYEE BENEFIT PLANS
In connection with the acquisition of SCMC, the Company continued the
benefits offered under certain defined contribution plans. The defined
contribution plans provide for Company contributions of 10% of employee
compensation, as defined in the plan and a 25% match of employee contributions
on the first 4% of contributions. Prior to the acquisition, these costs were
provided by the Company and included in the management fee (Note 13). Employer
contributions to the plans were approximately $1,405,000, $1,295,000 and
$948,000 for 1999, 1998 and 1997, respectively.
15. COMMITMENTS AND CONTINGENCIES
The Company participates in various guaranty associations in the states in
which it writes business, which protects policyholders and claimants against
losses due to insolvency of insurers. When an insolvency occurs, the
associations are authorized to assess member companies up to the amount of the
shortfall of funds, including expenses. Member companies are assessed based on
the type and amount of insurance written during the previous calendar years. The
Company accrues for its portion of assessments when notified of assessments by
the associations. Assessments to date are not significant; however, the ultimate
liability for future assessments is not known. Accordingly, the Company is
unable to predict whether such future assessments will materially affect the
financial condition of the Company.
The Company is obligated under operating leases, which have various
expiration dates through December 2004. Minimum future lease payments are as
follows: 2000 - $2,001,703; 2001 - $1,349,341; and 2002 - $920,011;
2003 - $708,931; and 2004 and thereafter - $4,612,085. Rental expense was
$2,665,464 in 1999 and $2,431,018 in 1998, and $1,464,072 in 1997.
16. GAAP AND STATUTORY REPORTING
MICOA, KMIC, RML, and ICA, domiciled in the States of Michigan, Kentucky,
Illinois, and Texas, respectively, prepare the accompanying consolidated
financial statements in accordance with generally accepted accounting principles
("GAAP"). These organizations are subject to regulation by the Michigan
Insurance Bureau, the Kentucky Department of Insurance, Illinois Department of
Insurance, and Texas Department of Insurance and file financial statements using
statutory accounting practices prescribed or permitted by the respective state
insurance regulators. Prescribed statutory accounting practices include a
variety of publications of the National Association of Insurance Commissioners
("NAIC"), as well as state laws, regulations and general administrative rules.
Permitted statutory accounting practices encompass all accounting practices not
so prescribed. Such practices vary in certain respects from generally accepted
accounting principles. The principal variances are as follows:
- Deferred policy acquisition costs are charged against operations as
incurred for statutory accounting purposes.
- Assets designated as "nonadmitted assets" are charged directly to
policyholders' surplus for statutory accounting purposes.
- Bonds and U. S. government securities, which the Company does not intend
to hold to maturity, are generally carried at amortized cost for
statutory accounting purposes.
F-18
<PAGE> 115
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
- Unpaid losses and loss adjustment expense and unearned premiums are
reported net of the impact of reinsurance for statutory accounting
purposes.
- Deferred federal income taxes are recognized for generally accepted
accounting principles and are not recorded for statutory purposes.
- The settlement refund with the IRS was credited directly to surplus for
statutory purposes.
A reconciliation illustrating the differences between statutory and GAAP
surplus is shown below:
<TABLE>
<CAPTION>
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Statutory surplus, December 31 $179,828,902 $144,540,634 $133,715,435
Nonadmitted assets 7,493,082 5,531,416 6,180,459
Deferred taxes 34,548,769 26,870,654 30,894,128
Deferred acquisition costs 9,405,730 6,238,880 5,080,271
Valuation of securities (21,300,318) 6,209,702 2,294,947
Goodwill (2,102,216) (2,727,134) (2,497,490)
Other 912,386 2,088,221 723,933
------------ ------------ ------------
GAAP surplus, December 31 $208,786,335 $188,752,373 $176,391,683
============ ============ ============
Statutory net (loss) income for the year ended
December 31 $ (991,783) $ 11,082,557 $ 14,162,868
============ ============ ============
</TABLE>
In 1998, the NAIC adopted the Codification of Statutory Accounting
Principles ("the codification") guidance, which will replace the current
Accounting Practices and Procedures Manual as the NAIC's primary guidance on
statutory accounting. The NAIC is now considering amendments to the codification
guidance that would also be effective upon implementation. The NAIC has
recommended an effective date of January 1, 2001. The codification provides
guidance for areas where statutory accounting has been silent and changes
current statutory accounting in some areas.
It is expected that the Michigan Insurance Bureau (the Bureau) or other
state Departments of Insurance will adopt the codification guidance or whether
the Bureau or other state Departments of Insurance will make any changes to that
guidance. The Company has not estimated the potential effect of the codification
guidance.
17. SEGMENT INFORMATION
The Company is organized and operates principally in the property and
casualty insurance industry and has five reportable segments -- medical
professional liability lines property and casualty insurance, workers'
compensation line property and casualty insurance, personal and commercial lines
property and casualty insurance, other, and corporate and investments. The
accounting policies of the segments are the same as those described in the basis
of presentation. Expense allocations are based primarily on loss and loss
adjustment expenses by line of business and certain other estimates for
underwriting expenses; reported segment results would change if different
methods were applied. The Company does not allocate assets, investment income
and income taxes to operating segments. Segment information, for which results
are regularly reviewed by management in making decisions
F-19
<PAGE> 116
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
about resources to be allocated to the segments and assess their performance, is
summarized as follows (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Revenues:
Medical professional liability $ 96,322 $ 96,288 $ 70,486
Workers' compensation 36,758 30,000 22,942
Personal and commercial 10,730 10,244 13,335
Other 4,845 462 --
Corporate and investments 39,065 41,824 32,262
-------- -------- --------
Total revenue $187,720 $178,818 $139,025
======== ======== ========
Income (loss) before income taxes:
Medical professional liability $ (9,146) $(15,133) $ (8,114)
Workers' compensation (4,774) (4,986) (2,697)
Personal and commercial (2,482) (3,064) (1,380)
Other (5,929) (328) (262)
Corporate and investments 32,301 35,975 28,330
-------- -------- --------
Total income before income taxes $ 9,970 $ 12,464 $ 15,877
======== ======== ========
</TABLE>
F-20
<PAGE> 117
THIS PAGE INTENTIONALLY LEFT BLANK
F-21
<PAGE> 118
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
JUNE 30, 2000 DECEMBER 31, 1999
------------- -----------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Investments:
Fixed maturities
Held-to-maturity, at amortized cost $ 980,000
Available-for-sale, at fair value $429,640,868 427,302,753
Equity securities, at fair value 38,843,098 41,660,956
Other investments 40,564,771 38,857,447
------------ ------------
Total investments 509,048,737 508,801,156
Cash and cash equivalents 74,680,173 33,093,240
Premiums receivable 42,557,919 51,149,675
Reinsurance recoverable 67,707,526 65,896,671
Federal income tax recoverable -- 35,486,271
Deferred federal income taxes 36,157,762 34,548,769
Property and equipment, net of accumulated depreciation of
$8,587,385 in 2000 and $7,906,836 in 1999 16,086,614 16,087,411
Goodwill, net of accumulated amortization of $2,798,744 in
2000 and $1,634,418 in 1999 17,644,412 18,808,738
Other assets 26,799,523 30,517,833
------------ ------------
TOTAL ASSETS $790,682,666 $794,389,764
============ ============
LIABILITIES
Unpaid losses and loss adjustment expenses $467,182,738 $457,071,989
Unearned premiums 80,973,403 85,589,766
Federal income taxes payable 2,782,146
Ceded reinsurance payable 5,142,821 12,348,359
Note payable, officer 7,595,000 7,373,000
Accrued expenses and other liabilities 14,166,211 23,220,315
------------ ------------
Total liabilities 577,842,319 585,603,429
------------ ------------
SURPLUS
Accumulated other comprehensive income:
Net unrealized depreciation on investments, net of
deferred federal income tax benefit (8,083,773) (5,722,798)
Unassigned surplus 220,924,120 214,509,133
------------ ------------
Total surplus 212,840,347 208,786,335
------------ ------------
TOTAL LIABILITIES AND SURPLUS $790,682,666 $794,389,764
============ ============
</TABLE>
F-22
<PAGE> 119
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, 2000 AND 1999
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
-----------------------------
2000 1999
------------ -----------
<S> <C> <C>
Net premiums written $ 85,655,922 $72,954,945
Change in unearned premiums 834,583 (658,383)
------------ -----------
Net premiums earned 86,490,505 72,296,562
Investment income 17,154,147 15,787,450
Net realized investment gains 1,863,976 623,387
Other income 2,103,318 263,640
------------ -----------
Total revenues 107,611,946 88,971,039
------------ -----------
Losses and loss adjustment expenses 73,635,804 63,385,341
Underwriting expenses 19,960,187 19,226,433
Investment expenses 1,552,704 1,856,601
Interest expense 463,621 265,637
Amortization expense 1,164,326 484,751
General and administrative expenses 564,408 38,887
Demutualization expenses 274,328 --
Other expenses 458,795 --
------------ -----------
Total expenses 98,074,173 85,257,650
------------ -----------
Income before income taxes 9,537,773 3,713,389
Federal income tax expense 3,110,070 522,818
------------ -----------
Net income $ 6,427,703 $ 3,190,571
============ ===========
</TABLE>
F-23
<PAGE> 120
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, 2000 AND 1999
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
----------------------------
2000 1999
----------- -----------
<S> <C> <C>
Net income $ 6,427,703 $ 3,190,571
Other comprehensive income (loss):
Unrealized gains (losses) on investment securities net of
reclassification adjustment and net of deferred income
tax benefit of $1,271,294 in 2000 and $5,035,554 in
1999 (2,360,975) (9,351,743)
----------- -----------
Comprehensive income (loss) $ 4,066,728 $(6,161,172)
=========== ===========
</TABLE>
F-24
<PAGE> 121
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, 2000 AND 1999
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
-----------------------------
2000 1999
------------- ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 6,427,703 $ 3,190,571
Adjustments to reconcile net income to net cash provided
by operating activities
Depreciation and amortization 1,938,024 1,165,300
Net realized investment gains (1,863,976) (623,387)
Deferred federal income taxes (336,898) (1,352,789)
Amortization of bond premium and discount, net 333,255 527,720
Amortization of discount on note payable, officer 220,000
Changes in:
Unearned premiums (4,616,363) (350,143)
Unpaid losses and loss adjustment expenses 10,110,749 14,153,069
Accrued expenses and other liabilities (9,054,104) (4,251,675)
Ceded reinsurance payable (7,205,538) (137,997)
Reinsurance recoverable (1,810,855) (4,477,413)
Premiums receivable 8,591,756 91,894
Recoverable federal income taxes 38,268,417 893,075
Other, net 3,722,112 (735,691)
------------- ------------
Net cash provided by operating activities 44,724,282 8,092,534
------------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases
Available-for-sale -- fixed maturities (132,002,792) (17,876,884)
Available-for-sale -- equity securities (31,841,781) (11,126,904)
Real estate (5,352,111) (3,014,390)
Other investments -- (2,265,000)
Property and equipment (786,345) (1,290,294)
Sales and maturities
Available-for-sale -- fixed maturities 128,784,959 29,857,951
Available-for-sale -- equity securities 33,435,842 8,641,342
Other investments 4,624,879 302,753
------------- ------------
Net cash (used in) provided by investing activities (3,137,349) 3,228,574
------------- ------------
Net increase in cash and cash equivalents 41,586,933 11,321,108
Cash and cash equivalents, beginning of period 33,093,240 36,636,949
------------- ------------
Cash and cash equivalents, end of period $ 74,680,173 $ 47,958,057
============= ============
</TABLE>
F-25
<PAGE> 122
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
Mutual Insurance Corporation Of America and Subsidiaries, "MICOA" is an
insurance company domiciled in Michigan. The accompanying condensed consolidated
financial statements include the accounts of MICOA and its wholly-owned
subsidiaries, MICOA Management Company, MICOA Indemnity (Bermuda), Ltd., and
Preferred Ventures, Inc. "PVI," and PVI's wholly-owned subsidiaries, Kentucky
Medical Insurance Company, RML Insurance Company, Insurance Corporation of
America and Alpha Advisors, Inc., together referred to a the "Company."
The accompanying unaudited condensed consolidated financial statements of
the Company have been prepared in conformity with generally accepted accounting
principles and Regulation S-X as they apply to interim financial information.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
All significant intercompany transactions have been eliminated in consolidation.
In the opinion of management, all adjustments (consisting of normal
recurring adjustments) considered necessary for the fair presentation of
financial position and results of operations have been included. The operating
results for the six-month period ended June 30, 2000 are not necessarily
indicative of the results to be expected for the year ending December 31, 2000.
2. DEMUTUALIZATION COSTS
During April 2000, the Company began to develop a plan of conversion,
commonly referred to as a demutualization. Under the plan of conversion the
Company would convert from a mutual insurance company to a company owned by
shareholders. Incremental costs incurred in connection with the demutualization,
primarily professional fees, are expensed as incurred. Amounts incurred in the
six months ended June 30, 2000 approximated $274,000.
3. OTHER EXPENSES
In 2000, the Company continued to review the profitability of its branch
offices and its lines of business. This review resulted in a reduction of seven
staff members located in its New Mexico branch office and its health insurance
operation at the East Lansing home office. These events resulted in charges
during 2000 of approximately $459,000 primarily relating to severance costs.
4. SEGMENT INFORMATION
The Company is organized and operates principally in the property and
casualty insurance industry and has five reportable segments -- medical
professional liability lines property and casualty insurance, workers'
compensation line property and casualty insurance, personal and commercial lines
property and casualty insurance, other, and corporate and investments. The
accounting policies of the segments are the same as those described in the basis
of presentation. Expense allocations are based primarily on loss and loss
adjustment expenses by line of business and certain other estimates for
underwriting expenses; reported segment results would change if different
methods were applied. The Company does not allocate assets, investment income
and income taxes to operating segments. Segment information, for which results
are regularly reviewed by management in making decisions
F-26
<PAGE> 123
MUTUAL INSURANCE CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
about resources to be allocated to the segments and assess their performance, is
summarized as follows (in thousands):
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
-------------------
2000 1999
-------- -------
<S> <C> <C>
Revenues:
Professional liability $ 53,113 $49,581
Workers' compensation 22,617 16,774
Personal and commercial 6,033 5,012
Other 4,727 929
Corporate and investments 21,122 16,675
-------- -------
Total revenue $107,612 $88,971
======== =======
Income (loss) before income taxes:
Professional liability $ (3,590) $(4,367)
Workers' compensation (1,656) (3,653)
Personal and commercial (605) (2,252)
Other (1,254) (44)
Corporate and investments 16,643 14,029
-------- -------
Total income before income taxes $ 9,538 $ 3,713
======== =======
</TABLE>
F-27
<PAGE> 124
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
NO PERSON HAS BEEN AUTHORIZED IN CONNECTION WITH THE SUBSCRIPTION OFFERING TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATION WHICH IS NOT CONTAINED IN
THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST
NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY US. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY COMMON
STOCK HEREBY TO ANY PERSON OR BY ANYONE IN ANY JURISDICTION IN WHICH IT IS
UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS
PROSPECTUS NOR ANY SALE MADE UNDER THIS PROSPECTUS SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THE INFORMATION CONTAINED IN THIS
PROSPECTUS IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE OF THIS PROSPECTUS.
-------------------------
UNTIL (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL DEALERS
EFFECTING TRANSACTIONS IN THE COMMON STOCK OF APCAPITAL WHETHER OR NOT
PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS IS IN ADDITION TO THE OBLIGATION OF DEALERS TO DELIVER A PROSPECTUS WHEN
ACTING AS UNDERWRITERS.
10,000,000 SHARES
[APCAPITAL LOGO]
COMMON STOCK
----------------
PROSPECTUS
----------------
ABN AMRO ROTHSCHILD
A DIVISION OF ABN AMRO INCORPORATED
, 2000
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<PAGE> 125
THE INFORMATION IN THIS PRELIMINARY PROSPECTUS IS NOT COMPLETE AND MAY BE
CHANGED. THIS PRELIMINARY PROSPECTUS IS NOT AN OFFER TO SELL THESE
SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN
ANY JURISDICTION WHERE THE OFFER OR SALE IS NOT PERMITTED.
ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
SUBJECT TO COMPLETION, DATED OCTOBER 10, 2000
PROSPECTUS
UP TO 10,000,000 SHARES
[APCAPITAL LOGO]
COMMON STOCK
------------------------
We are converting Mutual Insurance Corporation Of America, or MICOA, into a
company that is owned by shareholders. As part of that process, we are offering,
in a firm commitment underwritten offering, shares of common stock in American
Physicians Capital, Inc., or APCapital, for which subscriptions are not received
and accepted in the subscription and best efforts offerings currently underway.
APCapital is a new company that will own MICOA and its subsidiaries after the
conversion. MICOA will be renamed American Physicians Assurance Corporation
after the conversion. The subscription offering is being made to eligible MICOA
policyholders, officers and directors and the best efforts offering is being
made to selected other people with whom we have a relationship. The
subscription, best efforts and underwritten offerings will close at the same
time. The offerings and the conversion are subject to approval by MICOA
policyholders.
We estimate that the offering price in the underwritten offering will be
between $ and $ per share. The offering price in the subscription and
best efforts offerings is $ per share. If the offering price in the
underwritten offering is less than the price paid in the subscription and best
efforts offerings, we will issue a refund to the participants in those
offerings. If the offering price in the underwritten offering is more than the
price paid in the subscription and best efforts offerings, participants in those
offerings will not have to pay any more for their shares and we will not adjust
the number of shares of stock issued to them.
Because this is our initial offering of common stock, there is no current
public market for the stock. We have applied to have the stock listed on the
Nasdaq National Market under the symbol "ACAP" following the conversion.
INVESTING IN THE COMMON STOCK INVOLVES CERTAIN RISKS.
SEE "RISK FACTORS" BEGINNING ON PAGE 11.
<TABLE>
<CAPTION>
PRICE TO UNDERWRITING PROCEEDS TO
PUBLIC DISCOUNT APCAPITAL
---------- ------------ -----------
<S> <C> <C> <C>
Per share.............................................
Total.................................................
</TABLE>
We have granted the underwriters the right to purchase an additional 15% of the
shares sold in the underwritten offering to cover over-allotments.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE REGULATORY
BODY HAS APPROVED OR DISAPPROVED THESE SECURITIES OR DETERMINED IF THIS
PROSPECTUS IS ACCURATE OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
------------------------
ABN AMRO ROTHSCHILD
A DIVISION OF ABN AMRO INCORPORATED
The date of this Prospectus is , 2000
A-1
<PAGE> 126
ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary.................. 4
Risk Factors........................ 11
Forward-Looking Information......... 16
The Conversion...................... 17
The Subscription, Best Efforts and
Underwritten Offerings............ 23
Use of Proceeds..................... 28
Capitalization...................... 30
Dividend Policy..................... 31
Market for Common Stock............. 31
Pro Forma Data...................... 32
Selected Historical Financial and
Operating Data.................... 36
</TABLE>
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Management's Discussion and Analysis
of Financial Condition and Results
of Operations..................... 38
Business............................ 52
Management.......................... 79
Ownership of Common Stock........... 86
Certain Transactions................ 87
Description of Capital Stock........ 88
Legal Matters....................... 93
Experts............................. 93
Available Information............... 93
Underwriting........................ U-1
Index to Financial Statements....... F-1
</TABLE>
A-2
<PAGE> 127
ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
SUMMARY OF THE OFFERINGS
THE SUBSCRIPTION AND BEST
EFFORTS OFFERINGS............. We are offering APCapital common stock at
$ per share in the subscription offering to
holders of MICOA insurance policies as of June
28, 2000 and to directors and officers of MICOA
or APCapital through subscription rights.
Concurrently with the subscription offering, we
are offering the shares of stock in APCapital
to select members of the general public who
have a relationship with MICOA, but were not
MICOA policyholders on June 28, 2000, or MICOA
or APCapital officers or directors. The rights
of best efforts offering participants to buy
APCapital stock are subject to the prior rights
of subscription offering participants and to
our sole discretion to reject any offer to
purchase stock. For more information, see "The
Subscription, Best Efforts and Underwritten
Offerings -- Eligibility to Participate in the
Subscription and Best Efforts Offerings" and
" -- Minimum and Maximum Purchases in the
Subscription and Best Efforts Offerings."
THE FIRM COMMITMENT
UNDERWRITTEN OFFERING......... We are offering APCapital shares for which
subscriptions are not received and accepted in
the subscription and best efforts offerings to
members of the general public in a firm
commitment underwritten offering. For more
information see "The Subscription, Best Efforts
and Underwritten Offerings -- The Firm
Commitment Underwritten Offering."
DETERMINATION OF OFFERING
PRICE......................... We determined the subscription and best efforts
offering price per share and the total number
of shares offered based upon a valuation of
MICOA, which was prepared by RP Financial, LC,
in accordance with the requirements of the
Michigan Insurance Code. The underwritten
offering price will be determined through
negotiations with the underwriters. If the
offering price in the underwritten offering is
below the offering price in the subscription
and best efforts offerings, we will issue a
refund to the participants in those offerings
equal to the difference in the per share price
multiplied by the number of shares for which
they subscribed. If the underwritten offering
price is more than the price paid in the
subscription and best efforts offerings, no
price adjustment will be made. As a result, the
underwritten offering price may be greater than
the price paid in the subscription and best
efforts offerings. For additional details, see
"The Conversion -- Stock Price and Number of
Shares to be Issued in the Offerings."
A-3
<PAGE> 128
ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
DIVIDEND POLICY
We do not currently intend to pay dividends to shareholders of APCapital.
Moreover, the payment of any dividends from the insurance subsidiaries to
APCapital is subject to a number of regulatory conditions intended to protect
policyholders. These are described under "Business -- Insurance Regulatory
Matters."
USE OF PROCEEDS
We will use 50% of the net proceeds from the offerings to make a capital
contribution to MICOA in exchange for its stock. The remainder will be used for
financing future acquisitions and for general corporate purposes which may
include, without limitation, making additional contributions to our
subsidiaries. For additional details, see "Use of Proceeds."
RELATED PARTY TRANSACTIONS
In October 1999, MICOA purchased all of the stock of Stratton-Cheeseman
Management Company, the company that managed our operations since 1975.
Stratton-Cheeseman Management Company was 94.4% owned by William Cheeseman, who
is our president and chief executive officer and a member of our board of
directors. In addition, Mr. Cheeseman owns 71.25% of SCW Agency Group, Inc., an
insurance agency which acts as our agent in Michigan, Kentucky, Florida, and
Nevada for medical professional liability insurance. SCW Agency Group, Inc. has
historically accounted for a significant portion of our medical professional
liability insurance sales and our total insurance sales. These transactions and
relationships are described in "Certain Transactions."
The above information is a summary of what we believe is the most important
material for you to know about the underwritten offering. Because it is a
summary, it does not contain all the information that may be important to you.
To understand the offering fully, you should carefully read this entire
document. Unless otherwise stated, when we refer to "premiums," we are referring
to our net premiums written.
A-4
<PAGE> 129
ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
APPLICABLE LAW AND VARIOUS PROVISIONS IN OUR ARTICLES AND BYLAWS WILL PREVENT OR
DISCOURAGE UNSOLICITED ATTEMPTS TO ACQUIRE APCAPITAL WHICH YOU MAY BELIEVE ARE
IN YOUR BEST INTERESTS OR WHICH MIGHT RESULT IN A SUBSTANTIAL PROFIT TO YOU.
APCapital is subject to provisions of Michigan corporate and insurance laws
which have the effect of impeding a change of control by requiring prior
approval of a change of control transaction by the OFIS and the board of
directors. In addition, APCapital's articles and bylaws include provisions
which: (1) allow for the issuance of "blank check" preferred stock without
further shareholder approval; (2) set high vote requirements for certain
amendments to the articles and bylaws; (3) establish a staggered board; (4)
limit the ability of shareholders to call special meetings; and (5) require
unanimity for shareholder action taken without a meeting. These provisions may
discourage a takeover attempt which you consider to be in your best interests or
in which you would receive a substantial premium over the then-current market
price. In addition, approval by the OFIS of a change of control transaction may
be withheld even if the transaction would be in the shareholders' best interests
if it determines that the transaction would be detrimental to policyholders. As
a result, you may not have an opportunity to participate in such a transaction.
See "Description of Capital Stock -- Restrictions on Acquisition of and Business
Combinations by APCapital" and "-- Provisions of Articles of Incorporation and
Bylaws -- Anti-Takeover Effects."
WE MAY NOT BE ABLE TO COMPLETE THE OFFERINGS WITHIN OUR ANTICIPATED TIME FRAME.
APCapital expects to complete the offerings before February 14, 2001.
Nevertheless, it is possible that adverse market, economic or regulatory
conditions or other factors could delay the completion of the offerings, and
result in increased costs in completing the offerings. In addition, we may
cancel or rescind the offerings at any time in our sole discretion; accordingly,
you may not be able to purchase shares for which you have subscribed.
FORWARD-LOOKING INFORMATION
This prospectus contains forward-looking statements that are intended to
enhance the reader's ability to assess our future economic performance.
Forward-looking statements include, but are not limited to, statements that
represent our beliefs concerning future operations, strategies, financial
results or other developments, and contain words and phrases such as "may,"
"expects," "should" or similar expressions. Because these forward-looking
statements are based on estimates and assumptions that are subject to
significant business, economic and competitive uncertainties, many of which are
beyond our control or are subject to change, actual results could be materially
different. THE FACTORS DISCUSSED ELSEWHERE IN THIS PROSPECTUS UNDER "RISK
FACTORS" MAY HAVE SUCH AN IMPACT. Other factors not currently anticipated by
management may also materially and adversely affect our results of operations.
Except as required by applicable law, we do not undertake any obligation to
publicly release any revisions which may be made to any forward-looking
statements to reflect events or circumstances occurring after the date of this
prospectus.
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ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
RP FINANCIAL'S VALUATION IS NOT INTENDED, AND MUST NOT BE CONSTRUED, AS A
RECOMMENDATION OF ANY KIND AS TO THE ADVISABILITY OF PURCHASING THESE SHARES. RP
FINANCIAL DID NOT INDEPENDENTLY VERIFY THE CONSOLIDATED FINANCIAL STATEMENTS AND
OTHER INFORMATION PROVIDED BY MICOA, NOR DID RP FINANCIAL VALUE INDEPENDENTLY
THE ASSETS OR LIABILITIES OF MICOA. THE VALUATION CONSIDERS MICOA AS A GOING
CONCERN AND SHOULD NOT BE CONSIDERED AS AN INDICATION OF THE LIQUIDATION VALUE
OF MICOA. MOREOVER, BECAUSE THIS VALUATION IS NECESSARILY BASED UPON ESTIMATES
AND PROJECTIONS OF A NUMBER OF MATTERS, ALL OF WHICH ARE SUBJECT TO CHANGE FROM
TIME TO TIME, NO ASSURANCE CAN BE GIVEN THAT PERSONS PURCHASING COMMON STOCK IN
THE OFFERINGS WILL THEREAFTER BE ABLE TO SELL SUCH SHARES AT PRICES AT OR ABOVE
THE PURCHASE PRICE OR IN THE RANGE OF THE VALUATION DESCRIBED ABOVE.
A copy of the valuation letter of RP Financial has been filed as an exhibit
to the registration statement of which this prospectus is a part. Any subsequent
valuation letter will also be filed as an exhibit to the registration statement.
THE SUBSCRIPTION AND BEST EFFORTS OFFERINGS PRICE. Under the plan of
conversion, we are offering 10 million shares of common stock at a price based
on our appraised value and the resulting range of value. In accordance with the
RP Financial valuation letter, the price per share in the subscription and best
efforts offerings is within the valuation range of $13.00 per share to $18.00
per share. The price per share at which shares are being offered in the
subscription and best efforts offerings was determined by APCapital's board of
directors (or a committee thereof) immediately prior to the commencement of
those offerings based, in part, on advice from its financial advisor regarding
current market conditions, prices for the stock of comparable companies and
other factors that are customarily considered in determining an initial offering
price.
THE UNDERWRITTEN OFFERING PRICE. The price for the shares sold in the
underwritten offering will be determined by negotiations between us and the
underwriters in the underwritten offering immediately prior to the completion of
that offering and is expected to be not less than $ per share and not more
than $ per share, although there can be no assurance to that effect. The
price will be based on then-existing market conditions, prices for the stock of
comparable companies that are publicly traded and other factors that are
customarily considered in determining an initial underwritten offering price. If
the purchase price per share for the shares sold in the underwritten offering is
less than the price paid in the subscription offering and the best efforts
offering, we will issue to participants in the subscription and best efforts
offerings a refund equal to the difference in the per share prices multiplied by
the number of shares for which they subscribed. In the unlikely event that the
offering price per share in the underwritten offering is more than the price
paid in the subscription offering and best efforts offering, participants in
those offerings will not have to pay any more for their shares and we will not
adjust the number of shares of APCapital stock issued to them to compensate for
the price differential.
In the event of a full exercise of the underwriters' over-allotment
provision, we will issue up to an additional 15% of the total number of shares
offered in the underwritten offering, or up to 1.5 million shares, at the
offering price per share.
MANAGEMENT PURCHASES IN THE SUBSCRIPTION OFFERING
The plan of conversion limits the aggregate number of shares that officers
and directors may buy to 3% of the shares being offered in the subscription
offering, or 300,000 shares. Individual officers and directors may buy from a
minimum of 100 shares to a maximum of shares. In determining
whether the maximum purchase amount has been reached, an individual officer's or
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ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
director's purchase will be aggregated with purchases by the following
associates of the officer or director:
- entities other than APCapital, MICOA or their subsidiaries of which the
officer or director is an officer, partner or beneficial owner of at
least 10% of any class of equity securities;
- any trust or other estate in which the officer or director has a
substantial beneficial interest or as to which the officer or director
serves as trustee or in a similar fiduciary capacity;
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ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
THE SUBSCRIPTION, BEST EFFORTS
AND UNDERWRITTEN OFFERINGS
We are offering for sale up to 10 million shares of the common stock of
APCapital in the subscription, best efforts and underwritten offerings. In this
section we provide certain information regarding the offerings.
THE FIRM COMMITMENT UNDERWRITTEN OFFERING
We are offering shares to the general public in a firm commitment
underwritten offering, subject to the rights of participants in the subscription
and best efforts offerings. The subscription period for the subscription and
best efforts offerings began on , 2000 will end on
, 2000. Participants in the underwritten offering will only be
able to buy shares that are not subscribed for which subscriptions are not
received and accepted in the subscription and best efforts offerings.
ABN AMRO Incorporated has been selected to be the lead underwriter and sole
book running manager in the underwritten offering. See "Underwriting."
ELIGIBILITY TO PARTICIPATE IN THE SUBSCRIPTION AND BEST EFFORTS OFFERINGS
THE SUBSCRIPTION OFFERING. Ninety-seven percent of the shares being
offered in the subscription offering are being offered to eligible
policyholders. Eligible policyholders are named policyholders on insurance
policies issued by MICOA and in force as of June 28, 2000. Three percent of the
shares being offered in the subscription offering are being offered to officers
and directors of APCapital and MICOA. The shares of common stock in the
subscription offering are being offered through subscription rights. A
subscription right is a right to purchase APCapital common stock. The plan of
conversion prohibits the transfer of subscription rights and agreements to
transfer the common stock a subscription offering participant intends to
subscribe for. Violation of this prohibition can result in termination of the
subscription right.
THE BEST EFFORTS OFFERING. Concurrent with the subscription offering, we
are also offering shares of common stock in a best efforts offering. The
following persons are eligible to participate in the best efforts offering:
- people who were named policyholders of insurance policies issued by MICOA
in the three years preceding June 28, 2000 and were not policyholders on
June 28, 2000;
- named policyholders of MICOA insurance policies who bought their
insurance after June 28, 2000;
- named policyholders of insurance issued by MICOA's subsidiaries as of
June 28, 2000;
- people insured pursuant to certificates of insurance under policies
issued by MICOA or its subsidiaries within the three years preceding June
28, 2000;
- the Michigan State Medical Society, Michigan Osteopathic Association,
Kentucky Medical Association and New Mexico Medical Society, and each of
their subsidiaries;
- licensed insurance agents with an agency contract with MICOA or its
subsidiaries, as reflected on the books and records of MICOA and its
subsidiaries; and
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ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
- employees of APCapital, MICOA and their subsidiaries who are not eligible
to participate in the subscription offering.
The availability of common stock for purchase in the best efforts offering is
subject to the prior rights of the participants in the subscription offering.
Therefore, best efforts offering participants will only be able to buy shares of
common stock if policyholders, officers and directors buy less than 10 million
shares in the subscription offering. In addition, we reserve the right, in our
sole and absolute discretion, to determine which orders, if any, to accept in
the best efforts offering. We can accept or reject any such order for any reason
or for no reason. Shares are being sold in the best efforts offering at the same
price as the shares in the subscription offering.
APCapital has selected ABN AMRO Incorporated as its lead advisor with
respect to the conversion and the offerings. In consideration for the provision
of certain advisory services, APCapital has agreed to pay ABN AMRO Incorporated
an advisory fee of $950,000, payable at closing of the offerings. The advisory
fee will be reduced by the amount of any management fees retained by ABN AMRO
Incorporated as managing underwriter in connection with the firm commitment
underwritten offering, if any.
In addition, ABN AMRO Incorporated has been selected as placement agent for
the subscription and best efforts offerings and will receive fees equal to
between 1.0% and 0.5% of the aggregate proceeds in connection with such
offerings (excluding management and employee purchases), subject to a minimum
fee of $25,000. APCapital has also agreed to reimburse ABN AMRO Incorporated for
its reasonable costs and expenses and to indemnify it against certain
liabilities, including liabilities under the Securities Act and the Exchange
Act.
MINIMUM AND MAXIMUM PURCHASES IN THE SUBSCRIPTION AND BEST EFFORTS OFFERINGS
The minimum number of shares that can be purchased by participants in the
subscription and best efforts offerings is 100 and the maximum number of shares
they may buy, regardless of the number of policies or subscription rights owned,
is shares. For purposes of determining whether the maximum
purchase amount has been reached, the purchases by each eligible participant
will be aggregated with the purchases of the affiliates and associates of such
participant or persons acting in concert with the participant. In addition, the
total purchases of each best efforts participant, together with such
participant's affiliates and associates, or by a group of persons acting in
concert in the best efforts offering, may not exceed a maximum of five percent
of the number of shares offered in the offerings.
A participant's "affiliates and associates" means the following:
- persons that, directly or indirectly, through one or more intermediaries,
control, or are controlled by, or are under common control with, the
participant;
- entities other than APCapital, MICOA or their subsidiaries of which the
participant is an officer, partner or beneficial owner of at least 10% of
any class of equity securities;
- any trust or other estate in which the participant has a substantial
beneficial interest or as to which the participant serves as trustee or
in a similar fiduciary capacity;
- any relative or spouse of the participant, or any relative of such
spouse, who has the same home as the participant; and
- any person who is insured under the same insurance policy as the
participant.
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ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
Persons "acting in concert" means a group of persons who either (1) knowingly
participate in a joint activity or interdependent conscious parallel action
toward the common goal of acquiring APCapital shares, whether or not pursuant to
an express agreement, or (2) combine or pool voting or other interests in
APCapital shares for a common purpose pursuant to any contract, understanding,
relationship, agreement or other arrangement.
Fractional shares will not be sold in the subscription or best efforts
offering.
CLOSING
The subscription, best efforts and underwritten offerings will close at the
same time.
LIMITATION ON ACQUISITION OF STOCK
No person or group of persons acting in concert is permitted to acquire,
through the subscription offering, the best efforts offering, the underwritten
offering or subsequent purchases in the market, more than 5% of the shares of
APCapital until the fifth anniversary of the effective date of the plan of
conversion, except with approval of the OFIS.
UNDERSUBSCRIPTION
If we believe the aggregate offering proceeds will be less than $130.0
million, the minimum value in the valuation range, we may cancel all of the
offerings, terminate the plan of conversion and promptly return funds paid by
the subscription and best efforts offering participants to them, without
interest. Alternatively, in consultation with the OFIS, we may establish a new
valuation range for our common stock, and extend, reopen or hold new offerings
with stock prices based on the new valuation range, or take such other action as
may be authorized by the OFIS. In the event that we extend, reopen or hold new
offerings, subscription and best efforts offering participants will be
resolicited and given the opportunity to either buy common stock at the new
purchase price or have their money returned to them, without interest.
A-10
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ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
LEGAL MATTERS
Legal matters with respect to the common stock being offered by this
prospectus will be passed on for APCapital by Dykema Gossett PLLC, Detroit,
Michigan, and for the underwriters by Sidley & Austin, Chicago, Illinois.
EXPERTS
The consolidated balance sheets of MICOA as of December 31, 1999 and 1998,
and the consolidated statements of income, surplus and comprehensive income and
cash flows for each of the years in the three year period ended December 31,
1999, have been included in this prospectus in reliance upon the report of
PricewaterhouseCoopers LLP, independent accountants, given on the authority of
that firm as experts in accounting and auditing.
RP Financial, LC has reviewed and approved the statements in this
prospectus as to the valuation analysis letter, the estimated pro forma market
value of APCapital and the value of the subscription rights to purchase common
stock, and consents to the use of its name and statements with respect to it
appearing in this prospectus.
AVAILABLE INFORMATION
After the conversion, we intend to furnish our shareholders each year with
an annual report containing audited financial information and to make available
a quarterly report containing unaudited financial information following each of
the first three quarters of each year.
We have filed a registration statement on Form S-1 with the Commission to
register the shares of common stock being offered in the offerings under the
Securities Act. As permitted by Commission rules, we have included some of the
information relating to the offerings, such as the exhibits, in the registration
statement rather than this prospectus. The registration statement can be read
and copied at the Commission's Public Reference Room at 450 Fifth Street, N.W.,
Washington, D.C. 20549. Information about the operation of the Public Reference
Room can be obtained by calling the Commission at 1-800-SEC-0330. You may also
obtain a copy of the registration statement by accessing the Commission's
website at http://www.sec.gov. We urge you to review the exhibits which are
attached to the registration statement, since our discussion of these documents
in the prospectus is often brief and may not include every provision of the
exhibit.
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<PAGE> 136
ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
UNDERWRITING
We have entered into an underwriting agreement with the underwriters named
below. ABN AMRO Incorporated and are acting as representatives
for the underwriters. The underwriting agreement provides for each underwriter
to purchase the number of shares of common stock shown opposite its name below,
subject to the terms and conditions of the underwriting agreement. The
underwriters' obligations are several, which means that each underwriter is
required to purchase the specified number of shares, but is not responsible for
the commitment of any other underwriter to purchase shares.
<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITER SHARES
----------- ---------
<S> <C>
ABN AMRO Incorporated.......................................
--------
Total.......................................................
========
</TABLE>
This is a firm commitment underwriting, which means that the underwriters
have agreed to purchase all of the shares offered by this prospectus if they
purchase any shares (other than those covered by the over-allotment option
described below). The underwriting agreement provides that if an underwriter
defaults in its commitment to purchase shares, the commitments of non-defaulting
underwriters may be increased or the underwriting agreement may be terminated,
depending on the circumstances.
The representatives have advised us that the underwriters propose to offer
the shares directly to the public at the public offering price that appears on
the cover page of this prospectus. In addition, the underwriters may offer some
of the shares to selected securities dealers at the public offering price less a
concession of $ per share. The underwriters may also allow, and these
dealers may reallow, a concession not in excess of $ per share to other
dealers. After the shares are released for sale to the public, the underwriters
may change the offering price and other selling terms at various times.
We have granted the underwriters an over-allotment option. This option,
which is exercisable for up to 30 days after the date of this prospectus,
permits the underwriters to purchase a maximum of additional
shares from us to cover over-allotments. If the underwriters exercise all or
part of this option, they will purchase shares covered by the option at the
initial public offering price that appears on the cover page of this prospectus,
less the underwriting discount. The underwriters have severally agreed that, to
the extent the over-allotment option is exercised, they will each purchase a
number of additional shares proportionate to each underwriter's initial
commitment reflected in the foregoing table. The following table shows the
underwriting fees to be paid to the underwriters by us in connection with this
offering. The fees to be paid by us are shown assuming both no exercise and full
exercise of the underwriters' over-allotment option.
<TABLE>
<CAPTION>
NO EXERCISE FULL EXERCISE
----------- -------------
<S> <C> <C>
Per share................................................... $ $
Total....................................................... $ $
</TABLE>
We will pay specified offering expenses of the underwriters, estimated to
be approximately $ .
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<PAGE> 137
ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
APCapital and each of its directors and officers have agreed that, except
for certain exceptions described below, during the period beginning from the
date of this prospectus through and including the date that is 180 days after
the date of this prospectus, they will not offer, sell, contract to sell or
otherwise dispose of any securities of APCapital which are substantially similar
to the shares being offered hereby, including but not limited to, any securities
which are convertible into or exchangeable for, or that represent the right to
receive such securities, in each case without the prior written consent of ABN
AMRO Incorporated. APCapital can, however, offer, sell, contract to sell and
otherwise dispose of the securities of APCapital without ABN AMRO Incorporated's
consent (1) pursuant to the APCapital stock compensation plan, and (2) to
MICOA's 401(k) plan for the accounts of its employees as contemplated in this
prospectus. APCapital's officers and directors can make gifts of APCapital
securities without ABN AMRO Incorporated's consent to donees that agree to be
bound by similar agreements limiting their ability to dispose of APCapital
securities.
The rules of the Securities and Exchange Commission may limit the ability
of the underwriters to bid for or purchase shares before the distribution of the
shares is completed. However, the underwriters may engage in the following
activities under the rules:
Stabilizing transactions -- The underwriters may make bids or
purchases for the purpose of pegging, fixing or maintaining the price of
shares, so long as stabilizing bids do not exceed a specified maximum and
may discontinue these bids or purchases at any time.
Over-allotment and syndicate covering transactions -- The underwriters
may create a short position in the shares by selling more shares than are
shown on the cover page of this prospectus. If a short position is created
in connection with the offering, the representatives may engage in
syndicate covering transactions by purchasing shares in the open market.
The representatives may also elect to reduce any short position by
exercising all or part of the over-allotment option.
Penalty bid -- The underwriters may also impose a penalty bid. Penalty
bids permit the underwriters to reclaim selling concessions allowed to an
underwriter, if the underwriters repurchase shares originally sold by that
underwriter in transactions to cover syndicate short positions, in
stabilization transactions or otherwise.
These activities, which may be commenced and discontinued at any time,
may be effected on the Nasdaq National Market, in the over-the-counter
market or otherwise. Any of these activities may cause the market price of
the common stock to be higher than the price that would otherwise exist in
the open market in the absence of such transactions.
We have selected ABN AMRO Incorporated to serve as our lead advisor in
respect of the conversion and the offerings and to serve as the placement agent
in the subscription and best efforts offerings. ABN AMRO Incorporated will be
paid a fee for these services, with the advisory fee reduced by the amount of
any management fees retained by ABN AMRO Incorporated as managing underwriter in
connection with the firm commitment underwritten offering. See "The
Subscription, Best Efforts and Underwritten Offerings -- Eligibility to
Participate in the Subscription and Best Efforts Offerings." From time to time,
ABN AMRO Incorporated has provided, and continues to provide, other investment
banking services to us.
We have agreed to indemnify the underwriters against certain liabilities,
including liabilities under the Securities Act of 1933, and to contribute to
payments the underwriters may be required to make to satisfy any such
liabilities.
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<PAGE> 138
ALTERNATE PAGE FOR UNDERWRITTEN OFFERING PROSPECTUS
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
NO PERSON HAS BEEN AUTHORIZED IN CONNECTION WITH THE SUBSCRIPTION OFFERING TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATION WHICH IS NOT CONTAINED IN
THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST
NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY US. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY COMMON
STOCK HEREBY TO ANY PERSON OR BY ANYONE IN ANY JURISDICTION IN WHICH IT IS
UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS
PROSPECTUS NOR ANY SALE MADE UNDER THIS PROSPECTUS SHALL, UNDER ANY
CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THE INFORMATION CONTAINED IN THIS
PROSPECTUS IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE OF THIS PROSPECTUS.
-------------------------
UNTIL (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL DEALERS
EFFECTING TRANSACTIONS IN THE COMMON STOCK OF APCAPITAL WHETHER OR NOT
PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS IS IN ADDITION TO THE OBLIGATION OF DEALERS TO DELIVER A PROSPECTUS WHEN
ACTING AS UNDERWRITERS.
UP TO 10,000,000 SHARES
[APCAPITAL LOGO]
COMMON STOCK
----------------
PROSPECTUS
----------------
ABN AMRO ROTHSCHILD
A DIVISION OF ABN AMRO INCORPORATED
, 2000
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
A-14
<PAGE> 139
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) Exhibits
A list of the exhibits required to be filed as part of this Registration
Statement on Form S-1 is included under the heading "Exhibit Index" in this Form
S-1 and incorporated herein by reference.
(b) Financial Statement Schedules
All financial statement schedules have been omitted because they are not
required or because the required information is given in the consolidated
financial statements or notes thereto.
II-1
<PAGE> 140
SIGNATURES
Pursuant to the requirements of the Securities Act, the Registrant
certifies that it has duly caused this amendment to this registration statement
to be signed on its behalf by the undersigned, thereunto duly authorized, in the
City of East Lansing, State of Michigan on October 10, 2000.
American Physicians Capital, Inc.
By: /s/ WILLIAM B. CHEESEMAN
------------------------------------
William B. Cheeseman
President and Chief Executive
Officer
Pursuant to the requirements of the Securities Act, this amendment to this
registration statement has been signed by the following persons in the
capacities indicated on October 10, 2000.
<TABLE>
<CAPTION>
SIGNATURES TITLE
---------- -----
<S> <C>
/s/ WILLIAM B. CHEESEMAN President and Chief Executive Officer, and a
------------------------------------------------ Director
William B. Cheeseman
/s/ FRANK H. FREUND Vice President, Treasurer, Chief Financial Officer
------------------------------------------------ and Principal Accounting Officer
Frank H. Freund
* Director
------------------------------------------------
Thomas Robert Berglund, M.D.
* Director
------------------------------------------------
Billy Ben Baumann, M.D.
* Director
------------------------------------------------
Myron Emerick, D.O.
* Director
------------------------------------------------
AppaRao Mukkamala, M.D.
* Director
------------------------------------------------
Lloyd Schwartz
*By: /s/ WILLIAM B. CHEESEMAN
-------------------------------------------
William B. Cheeseman,
Attorney-In-Fact
</TABLE>
II-2
<PAGE> 141
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
<C> <S>
1.1* Form of Agency Agreement among American Physicians Capital,
Inc., MICOA and ABN AMRO Incorporated
1.2* Form of Underwriting Agreement among ABN AMRO Incorporated,
APCapital and MICOA
2.1* Plan of Conversion, dated June 28, 2000, as amended
September 22, 2000
3.1** Articles of Incorporation
3.2** Bylaws
5.1* Opinion of Dykema Gossett PLLC regarding the validity of the
securities being registered
8.1*** Opinion of PricewaterhouseCoopers LLP regarding tax matters
10.1* American Physicians Capital, Inc. Stock Compensation Plan
10.2* Form of Escrow Agreement, by and among American Physicians
Capital, Inc., MICOA, ChaseMellon Shareholder Services,
L.L.C. and Chase Manhattan Bank
10.3** Stock Purchase Agreement by and among MICOA and William B.
Cheeseman and William J. Gaugier dated August 31, 1999
10.4** Stock Purchase Agreement between Kentucky Medical Insurance
Company and Stratton, Cheeseman & Walsh, Inc., dated March
6, 1997
10.5** MICOA/SCW Sales Agency Agreement (Medical Professional
Liability-Michigan Only), dated January 1, 2000
10.6** KMIC Insurance Company Agency Agreement, dated October 13,
1998
10.7** Employment Agreement between William B. Cheeseman and MICOA
Management Company, Inc., dated October 27, 1999
10.8** Employment Agreement between Stephen L. Byrnes and
Stratton-Cheeseman Management Company, dated April 4, 1997
10.9** Employment Agreement between Robert J. Kellogg and
Stratton-Cheeseman Management Company, dated July 18, 1997
10.10* First Amendment to Stock Purchase Agreement by and among
MICOA, William B. Cheeseman and William J. Gaugier dated
August 31, 1999
10.11* Agency Agreement between MICOA and Stratton, Cheeseman,
Walsh-Nevada, Inc. dated May 25, 1999
10.12* Sub-Agent Agreement between SCW Agency Group, Inc. and
Managed Insurance Services, Inc., dated April 11, 2000
10.13* Form of Letter Agreement by and among MICOA, APCapital and
ABN AMRO Incorporated
21.1** Subsidiaries of Registrant
23.1* Consent of PricewaterhouseCoopers LLP
23.2** Consent of RP Financial, LC
23.3* Consent of Dykema Gossett PLLC (contained in opinion filed
as Exhibit 5.1)
24.1** Power of Attorney (included on page II-4 of registration
statement as originally filed)
27.1** Financial Data Schedule at or for the Year ended December
31, 1999
27.2** Financial Data Schedule at or for the Six Months ended June
30, 2000
</TABLE>
<PAGE> 142
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
<C> <S>
99.1* Stock Order Form for Subscription and Best Efforts Offerings
and form of Proxy for Policyholders
99.2* Letter to Former Policyholders and Agents
99.3* Question and Answer Brochure
99.4* Letter to Prospective Purchasers in the Subscription
Offering
99.5** Valuation Analysis Letter of RP Financial, LC
99.6** Subscription Rights Letter of RP Financial, LC
99.7* Letter to Prospective Purchasers in Best Efforts Offering
</TABLE>
-------------------------
* Filed herewith.
** Previously filed.
*** To be filed by amendment.
