<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION JULY 5, 1996
------
REGISTRATION NO. 333-
===============================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
----------------
DANIELSON HOLDING CORPORATION
(exact name of registrant as specified in its charter)
Delaware 6719 95-6021257
(State or other (Primary Standard (I.R.S. Employer
jurisdiction of Industrial Identification Number)
incorporation or Classification Code
organization) Number)
Lisa D. Levey
General Counsel
Danielson Holding Corporation
767 Third Avenue 767 Third Avenue
New York, New York 10017-2023 New York, NY 10017-2023
(212) 888-0347 (212) 888-0347
(Address, including zip code, and (Name, address, including zip code,
telephone number, and telephone number,
including area code, of registrant's including area code, of agent for
principal executive office) service)
----------------
Michael W. Stamm Charles H. Gray, III Charles T. Tuggle, Jr.
Anderson Kill Olick & President and Baker, Donelson, Bearman
Oshinsky, P.C. Chief Operating Officer &
1251 Avenue of the Midland Financial Group, Caldwell, P.C.
Americas Inc. 165 Madison Avenue
New York, NY 10020-1182 825 Crossover Lane, Memphis, TN 38103
(212) 278-1702 Suite 112 (901) 577-2267
Memphis, TN 38117
(901) 680-9100
Approximate date of commencement of proposed sale of securities to
public: As soon as practicable after the effective date of this Registration
Statement.
----------------
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, check the following box. [X]
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
================================================================================
PROPOSED
MAXIMUM AMOUNT OF
TITLE OF EACH CLASS OF AGGREGATE REGISTRATION
SECURITIES TO BE REGISTERED(1) OFFERING PRICE FEE(2)
- -------------------------------------------------------------------------------
<S> <C> <C>
Common Stock, $0.10 par value; Series A
Cumulative Perpetual Preferred Stock, $0.10 par
value $21,664,412 $7,471
================================================================================
</TABLE>
(1) This Registration Statement relates to securities of the Registrant
issuable to holders of common stock of Midland Financial Group, Inc.
("Midland"), in connection with the merger (the "Merger") of Midland into
Mission Sub E, Inc., a wholly-owned subsidiary of Registrant ("Merger
Sub").
(2) Estimated pursuant to Rule 457(o) under the Securities Act of 1933 for the
purpose of calculating the amount of registration fee.
----------------
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 of 1933, as amended, or until this
Registration Statement shall become effective on such date as the Securities
and Exchange Commission, acting pursuant to said Section 8(a), may determine.
===============================================================================
<PAGE>
DANIELSON HOLDING CORPORATION
Cross Reference Sheet pursuant to Rule 404(a) of the Securities Act of 1933
and Item 501(b) of Regulation S-K showing the location or heading in the Joint
Proxy Statement/Prospectus of the information required by Part I of Form S-4.
<TABLE>
<CAPTION>
Location or Heading in
S-4 Item Number and Caption Proxy Statement/Prospectus
--------------------------- --------------------------
<C> <S> <C>
A. INFORMATION ABOUT THE
TRANSACTION
1. Forepart of Registration
Statement and Outside Facing Page; Cross Reference Sheet; Outside
Front Cover Page of Front Cover Page of Proxy
Prospectus................ Statement/Prospectus
2. Inside Front and Outside
Back Cover Pages of
Prospectus................ Available Information; Inside Front Cover
Page of Proxy Statement/Prospectus; Table
of Contents
3. Risk Factors, Ratio of
Earnings to Fixed Charges
and Other Information..... Summary; Risk Factors; Pro Forma Financial
Information; Selected Consolidated
Historical Financial Data of Danielson;
Selected Consolidated Historical Financial
Data of Midland; Market Prices and Related
Information
4. Terms of the Transaction... Summary; The Merger; The Merger Agreement
Certain Federal Income Tax Consequences;
Description of Danielson Capital Stock;
Comparison of Certain Rights of
Stockholders
5. Pro Forma Financial
Information............... Summary; Pro Forma Financial Information
6. Material Contacts with the
Company Being Acquired.... Summary; The Merger; The Merger Agreement
7. Additional Information
Required for Reoffering by
Persons and Parties Deemed
to be Underwriters........ Not Applicable
8. Interests of Named Experts
and Counsel............... Not Applicable
9. Disclosure of Commission
Position on
Indemnification for
Securities Act
Liabilities............... Undertakings; Part II
B. INFORMATION ABOUT THE
REGISTRANT
10. Information with Respect to
S-3 Registrants........... Not Applicable
11. Incorporation of Certain
Information by Reference.. Not Applicable
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Location or Heading in
S-4 Item Number and Caption Proxy Statement/Prospectus
--------------------------- --------------------------
<C> <S> <C>
12. Information with Respect
to S-2 or S-3
Registrants.............. Summary; Danielson's NOL and Deferred Tax
Asset; Business Information Regarding
Danielson and Merger Sub; Pro Forma
Financial Information; Selected
Consolidated Financial Data of Danielson;
Danielson Management's Discussion and
Analysis of Financial Condition and Results
of Operations; Market Prices and Related
Information; Financial Statements
13. Incorporation of Certain
Information by
Reference................ Not Applicable
14. Information with Respect
to Registrants Other than
S-3 or S-2 Registrants... Not Applicable
C. INFORMATION ABOUT THE COMPANY BEING ACQUIRED
15. Information with Respect
to S-3 Companies......... Not Applicable
16. Information with Respect
to S-2 or S-3 Companies.. Summary; Business Information Regarding
Midland; Pro Forma Financial Information;
Selected Consolidated Financial Data of
Midland; Midland Management's Discussion
and Analysis of Financial Condition and
Results of Operations; Market Prices and
Related Information; Financial Statements
17. Information with Respect
to Companies Other than
S-2 or S-3 Companies..... Not Applicable
D. VOTING AND MANAGEMENT
INFORMATION
18. Information if Proxies,
Consents or
Authorizations Are to be
Solicited................ Cover Page; Summary; Introduction; The
Merger; The Merger Proposal; Comparison of
Certain Rights of Stockholders; Principal
Midland Stockholders; Principal Danielson
Stockholders; Election of Danielson
Directors; Executive Officers; Executive
Compensation; Certain Relationships and
Related Transactions
19. Information if Proxies,
Consents or
Authorizations Are Not to
be Solicited, or in an
Exchange Offer........... Not Applicable
</TABLE>
<PAGE>
DANIELSON HOLDING CORPORATION
767 Third Avenue
New York, New York 10017-2023
July 5, 1996
Dear Stockholder:
You are cordially invited to attend the Annual Meeting of Stockholders of
Danielson Holding Corporation ("Danielson"), which will be held on Friday,
August 2, 1996, at The New York Marriott East Side Hotel, 525 Lexington Avenue
(between 48th and 49th Streets), New York, New York 10017 at 1:00 p.m. New
York time (the "Annual Meeting").
At this meeting, you will be asked to consider and vote upon a proposal (the
"Merger Proposal") to approve the proposed merger (the "Merger") of Midland
Financial Group, Inc. ("Midland") into Mission Sub E, Inc., a wholly-owned
subsidiary of Danielson ("Merger Sub"), pursuant to an Agreement and Plan of
Merger dated February 26, 1996 (as amended, the "Merger Agreement") among
Danielson, Midland and Merger Sub. Approval of the Merger Proposal constitutes
approval of the following matters, each of which is related to and necessary
for the consummation of the Merger:
(a) the issuance of shares of Danielson common stock in a number
sufficient to enable Danielson to consummate (i) the Merger and (ii) a
proposed public offering of Danielson common stock, a substantial portion
of the net proceeds of which are intended to be used to fund the cash
portion of the consideration to be paid by Danielson in the Merger and all
or a portion of a $30 million capital contribution to the surviving company
upon the effectiveness of the Merger; approval of the Merger Proposal will
authorize Danielson to issue up to, but not in excess of, 1,802,000 shares
of Danielson common stock in the Merger and 18,889,000 shares of Danielson
common stock in the proposed public offering;
(b) the terms of the new series of Danielson preferred stock that will be
issued to holders of Midland common stock as part of the consideration in
the Merger;
(c) the amendment of the Danielson Certificate of Incorporation to
increase the authorized capital of Danielson from a total of 30 million
shares to a total of 50 million shares, 10 million of which may be
preferred stock and 40 million of which may be common stock; and
(d) the amendment of the Danielson Certificate of Incorporation to remove
Article SIXTH thereof which prohibits the issuance of non-voting stock by
Danielson.
You will also be asked at the meeting to vote on the election of nine
directors and to ratify the appointment of KPMG Peat Marwick LLP as the
independent certified public accountants for Danielson for 1996.
The Merger is more fully described in the accompanying Joint Proxy
Statement/Prospectus.
THE BOARD OF DIRECTORS BELIEVES THAT THE MERGER AND THE MERGER AGREEMENT ARE
FAIR TO, AND IN THE BEST INTERESTS OF, DANIELSON. THE BOARD OF DIRECTORS HAS
UNANIMOUSLY APPROVED THE MERGER AGREEMENT, AND RECOMMENDS THAT YOU VOTE FOR
APPROVAL OF THE MERGER PROPOSAL.
All stockholders are invited to attend the Annual Meeting in person.
Approval of the Merger Proposal requires the affirmative vote of a majority of
the outstanding shares of Danielson common stock.
Because of the significance of the proposed transaction to Danielson, your
participation in the Annual Meeting, in person or by proxy, is especially
important.
<PAGE>
In order that your shares may be represented at the Annual Meeting, you are
urged to complete, sign, date and return promptly the accompanying Proxy in the
enclosed envelope, whether or not you plan to attend the Annual Meeting. If you
attend the Annual Meeting in person, you may, if you wish, vote personally on
all matters brought before the Annual Meeting even if you have previously
returned your Proxy.
Sincerely,
C. Kirk Rhein, Jr.
President and Chief Executive
Officer
<PAGE>
MIDLAND FINANCIAL GROUP, INC.
825 Crossover Lane
Memphis, Tennessee 38117
July 5, 1996
Dear Shareholder:
You are cordially invited to attend a Special Meeting of Shareholders of
Midland Financial Group, Inc. ("Midland"), which will be held on Friday,
August 2, 1996, at The New York Marriott East Side Hotel, 525 Lexington Avenue
(between 48th and 49th Streets), New York, New York 10017 at 10:00 a.m., New
York time (the "Special Meeting").
At this meeting, you will be asked to consider and vote upon a proposed
merger (the "Merger") involving Midland and Danielson Holding Corporation
("Danielson"), pursuant to which Midland will be merged with and into Mission
Sub E, Inc., a wholly-owned subsidiary of Danielson ("Merger Sub"). Upon the
Merger, Merger Sub, as a wholly-owned subsidiary of Danielson, will be the
surviving company, and shareholders of Midland will receive a combination of
cash, Danielson common stock and Danielson Series A Cumulative Perpetual
Preferred Stock. The consideration to be received by Midland shareholders in
the Merger will have a value, based on the valuation provisions in the
Agreement and Plan of Merger, dated as of February 26, 1996 (as amended, the
"Merger Agreement") equal to $14.50 per share of Midland common stock. The
amount to be paid by Danielson in the Merger represents 1.6 times the book
value of Midland as of December 31, 1995. The Merger is more fully described
in the accompanying Joint Proxy Statement/Prospectus.
THE BOARD OF DIRECTORS BELIEVES THAT THE TRANSACTIONS CONTEMPLATED BY THE
MERGER AGREEMENT ARE FAIR TO, AND IN THE BEST INTERESTS OF, MIDLAND AND ITS
SHAREHOLDERS. THE BOARD OF DIRECTORS HAS APPROVED THE MERGER AGREEMENT AND
RECOMMENDS THAT YOU VOTE FOR APPROVAL OF THE MERGER AGREEMENT.
All shareholders are invited to attend the Special Meeting in person.
Approval of the Merger requires the affirmative vote of a majority of the
outstanding shares of common stock of Midland.
The accompanying Joint Proxy Statement/Prospectus provides detailed
information concerning the Merger and certain additional information. You are
urged to read and carefully consider this information.
Because of the significance of the proposed transaction to Midland, your
participation in the meeting, in person or by proxy, is especially important.
In order that your shares may be represented at the Special Meeting, you are
urged promptly to complete, sign, date and return the accompanying Proxy in
the enclosed envelope, whether or not you plan to attend the Special Meeting.
If you attend the Special Meeting in person, you may, if you wish, vote
personally on all matters brought before the Special Meeting even if you have
previously returned your Proxy.
Sincerely,
Joseph W. McLeary
Chairman and Chief Executive Officer
<PAGE>
DANIELSON HOLDING CORPORATION
----------------
NOTICE OF ANNUAL MEETING OF STOCKHOLDERS
To Be Held on August 2, 1996
----------------
NOTICE IS HEREBY GIVEN that the Annual Meeting of Stockholders of Danielson
Holding Corporation ("Danielson") will be held on Friday, August 2, 1996, at
The New York Marriott East Side Hotel, 525 Lexington Avenue (between 48th and
49th Streets), New York, New York 10017 at 1:00 p.m., New York time (the
"Annual Meeting"), for the following purposes:
1. To consider and to vote on a proposal (the "Merger Proposal") to approve
the proposed merger (the "Merger") of Midland Financial Group, Inc.
("Midland") with and into Mission Sub E, Inc., a Delaware corporation that is
a wholly-owned subsidiary of Danielson ("Merger Sub"), pursuant to an
Agreement and Plan of Merger dated February 26, 1996 (as amended, the "Merger
Agreement"), among Danielson, Midland and Merger Sub, a copy of which is
attached to the accompanying Joint Proxy Statement/Prospectus as Appendix A;
Merger Sub, as a wholly-owned subsidiary of Danielson, will be the surviving
company in the Merger; approval of the Merger Proposal will constitute
approval of the following matters each of which is related to the Merger and
necessary for the consummation of the Merger;
(a) the issuance of shares of Danielson common stock, $0.10 par value per
share ("Danielson Common Stock") in a number sufficient to enable Danielson
to consummate (i) the Merger and (ii) a proposed public offering of shares
of Danielson Common Stock, a substantial portion of the net proceeds of
which are intended to be used to fund (x) the cash portion of the
consideration to be paid by Danielson in the Merger (currently estimated to
be $40,533,416 assuming 5,590,816 shares of Midland common stock
outstanding at closing) and (y) all or a portion of a capital contribution
to the surviving company of $30 million; approval of the Merger Proposal
will authorize Danielson to issue up to, but not in excess of, 1,802,000
shares of Danielson common stock in the Merger and 18,889,000 shares of
Danielson common stock in the proposed public offering;
(b) the rights, powers, privileges and restrictions of the new Danielson
Series A Cumulative Perpetual Preferred Stock which will be issued to
holders of Midland common stock as part of the consideration in the Merger;
(c) the amendment of the Danielson Certificate of Incorporation to
increase Danielson's authorized shares from 30 million shares (20 million
of which may be common stock and 10 million of which may be preferred
stock) to 50 million shares (40 million of which may be common stock and 10
million of which may be preferred stock);
(d) the amendment of the Danielson Certificate of Incorporation to remove
Article SIXTH thereof which prohibits the issuance of non-voting stock by
Danielson.
2. To elect nine directors of Danielson to serve for the ensuing year and
until their successors are elected;
3. To confirm the appointment of KPMG Peat Marwick LLP as the independent
certified public accountants for Danielson for the year ending December 31,
1996; and
4. To transact such other business as may properly come before the meeting.
The foregoing items of business are more fully described in the Joint Proxy
Statement/Prospectus accompanying this Notice.
Only stockholders of record at the close of business on June 27, 1996 are
entitled to notice of, and to vote at, the meeting and any adjournments
thereof.
<PAGE>
Approval of the Merger Proposal requires the affirmative vote of a majority
of the outstanding shares of Danielson Common Stock.
THE BOARD OF DIRECTORS OF DANIELSON RECOMMENDS THAT STOCKHOLDERS VOTE TO
APPROVE THE MERGER PROPOSAL AND THE OTHER MATTERS TO BE PRESENTED AT THE
ANNUAL MEETING.
BY ORDER OF THE BOARD OF DIRECTORS
LISA D. LEVEY
Secretary
New York, New York
July 5, 1996
YOUR VOTE IS IMPORTANT
To ensure your representation at the meeting, you are urged to mark, sign,
date and return the enclosed proxy as promptly as possible in the postage-
prepaid envelope enclosed for that purpose. To revoke a proxy, you must
submit to the Secretary of Danielson, prior to voting, either a signed
instrument of revocation or a duly executed proxy bearing a date or time
later than the proxy being revoked. If you attend the meeting, you may
vote in person even if you previously returned a proxy.
<PAGE>
MIDLAND FINANCIAL GROUP, INC.
----------------
NOTICE OF SPECIAL MEETING OF SHAREHOLDERS
To Be Held on August 2, 1996
----------------
NOTICE IS HEREBY GIVEN that a Special Meeting of Shareholders of Midland
Financial Group, Inc. ("Midland") will be held on Friday, August 2, 1996, at
The New York Marriott East Side Hotel, 525 Lexington Avenue (between 48th and
49th Streets), New York, New York 10017 at 10:00 a.m., New York time, for the
following purposes:
1. To consider and vote upon the approval and adoption of an Agreement and
Plan of Merger dated as of February 26, 1996 (as amended, the "Merger
Agreement") between Midland and Danielson Holding Corporation ("Danielson"), a
copy of which is set forth as Appendix A to the attached Joint Proxy
Statement/Prospectus. The Merger Agreement provides for, among other things,
the proposed merger of Midland (the "Merger") with and into Mission Sub E,
Inc., a Delaware corporation, that is a wholly-owned subsidiary of Danielson
("Merger Sub"), with Merger Sub to be the surviving corporation in the Merger;
and
2. To transact such other business as may properly come before the meeting.
The foregoing items of business are more fully described in the Joint Proxy
Statement/Prospectus accompanying this Notice.
Only shareholders of record at the close of business on June 14, 1996 are
entitled to notice of, and to vote at, the meeting and any adjournments
thereof.
Approval of the Merger and the Merger Agreement requires the affirmative
vote of a majority of the outstanding shares of Midland common stock.
THE BOARD OF DIRECTORS OF MIDLAND RECOMMENDS THAT SHAREHOLDERS VOTE TO
APPROVE THE MERGER AND THE MERGER AGREEMENT.
BY ORDER OF THE BOARD OF DIRECTORS
ELENA BARHAM
Secretary
Memphis, Tennessee
July 5, 1996
YOUR VOTE IS IMPORTANT
To ensure your representation at the meeting, you are urged to mark, sign,
date and return the enclosed proxy as promptly as possible in the postage-
prepaid envelope enclosed for that purpose. To revoke a proxy, you must
submit to the Secretary of Midland, prior to voting, either a signed
instrument of revocation or a duly executed proxy bearing a date or time
later than the proxy being revoked. If you attend the meeting, you may
vote in person even if you previously returned a proxy.
<PAGE>
JOINT PROXY STATEMENT/PROSPECTUS
DANIELSON HOLDING CORPORATION MIDLAND FINANCIAL GROUP, INC.
PROXY STATEMENT FOR ANNUAL MEETING OF PROXY STATEMENT FOR SPECIAL MEETING OF
STOCKHOLDERS SHAREHOLDERS
TO BE HELD ON AUGUST 2, 1996 TO BE HELD ON AUGUST 2, 1996
---------------
DANIELSON HOLDING CORPORATION
Prospectus for Common Stock and Series A Cumulative Perpetual Preferred Stock
This Joint Proxy Statement/Prospectus and the accompanying forms of proxy
are being furnished in connection with the solicitation of proxies by the
Boards of Directors of Danielson Holding Corporation ("Danielson") and Midland
Financial Group, Inc. ("Midland") to be used at the Annual Meeting of
Stockholders of Danielson to be held on August 2, 1996 at 1:00 p.m., Eastern
Daylight Time (the "Danielson Meeting") and the Special Meeting of
Shareholders of Midland to be held on August 2, 1996 at 10:00 a.m., Eastern
Daylight Time (the "Midland Meeting" and, together with the Danielson Meeting,
the "Meetings"), in each case, at The New York Marriott East Side Hotel, 525
Lexington Avenue (between 48th and 49th Streets), New York, New York 10017.
This Joint Proxy Statement/Prospectus and the accompanying forms of proxy are
first being mailed to stockholders of Danielson and Midland on or about July
5, 1996.
At the Midland Meeting, the stockholders of Midland will consider and vote
upon the approval and adoption of the Agreement and Plan of Merger dated as of
February 26, 1996, (as amended, the "Merger Agreement"), among Danielson,
Midland and Mission Sub E, Inc., a wholly-owned subsidiary of Danielson
("Merger Sub"). The Merger Agreement provides for the merger (the "Merger") of
Midland with and into Merger Sub. Upon the effectiveness of the Merger, Merger
Sub will be the surviving corporation as a wholly-owned subsidiary of
Danielson (the "Surviving Corporation").
STOCKHOLDERS OF MIDLAND AND DANIELSON SHOULD CAREFULLY CONSIDER THIS JOINT
PROXY STATEMENT/PROSPECTUS IN ITS ENTIRETY, PARTICULARLY THE FACTORS DISCUSSED
UNDER THE HEADING "RISK FACTORS" AT PAGE 19.
At the Danielson Meeting, the stockholders of Danielson will consider and
vote on a proposal (the "Merger Proposal") to approve the proposed Merger of
Midland into Merger Sub pursuant to the Merger Agreement. Approval of the
Merger Proposal constitutes approval of the following matters, each of which
is related to and necessary for the consummation of the Merger:
(a) the issuance of shares (the "Common Stock Issuance") of Danielson
common stock, $0.10 par value per share ("Danielson Common Stock") in a
number sufficient to enable Danielson to consummate (i) the Merger and (ii)
a proposed public offering of Danielson Common Stock (the "Public
Offering"), a substantial portion of the net proceeds of which are intended
to be used to fund the cash portion of the consideration to be paid by
Danielson in the Merger and all or a portion of a $30 million capital
contribution to the Surviving Corporation upon the effectiveness of the
Merger, with any remaining proceeds being added to the general corporate
funds of Danielson; approval of the Merger Proposal will authorize
Danielson to issue up to, but not in excess of, 1,802,000 shares of
Danielson Common Stock in the Merger and 18,889,000 shares of Danielson
Common Stock in the Public Offering;
(b) the terms (the "Preferred Stock Terms") of a new series of Series A
Cumulative Perpetual Preferred Stock of Danielson, $0.10 par value per
share ("Danielson Series A Preferred Stock"), that will be issued to
holders of Midland common stock as part of the consideration in the Merger;
(c) the amendment of the Danielson Certificate of Incorporation to
increase the authorized capital of Danielson from a total of 30 million
shares to a total of 50 million shares, 10 million of which may be
preferred stock and 40 million of which may be common stock (the
"Authorized Capital Charter Amendment"); and
(d) the amendment of the Danielson Certificate of Incorporation to remove
Article SIXTH thereof which prohibits the issuance of non-voting stock by
Danielson (the "Non-Voting Stock Charter Amendment").
Pursuant to the terms of the Merger Agreement, upon the Merger becoming
effective (the "Effective Time"), each share of Midland Common Stock
outstanding prior to the Effective Time will be converted into a right to
receive a combination of cash, Danielson Common Stock and Danielson Series A
Preferred Stock which will have an aggregate value, based on valuation
provisions agreed upon in the Merger Agreement, equal to $14.50 per share (the
"Per Share Merger Price"). The Per Share Merger Price represents 1.6 times the
per share book value of Midland as of December 31, 1995. The total
consideration which Danielson is required to pay in the Merger (currently
estimated to be approximately $81,066,832, when valued in accordance with the
terms of the Merger Agreement and assuming 5,590,816 shares of Midland common
stock, no par value ("Midland Common Stock"), are outstanding at the Effective
Time) will consist of 50% cash, 40% Danielson Series A Preferred Stock and 10%
Danielson Common Stock.
THE SECURITIES TO BE ISSUED IN THE MERGER HAVE NOT BEEN APPROVED OR
DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE
SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS JOINT PROXY
STATEMENT/PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
---------------
The date of this Joint Proxy Statement/Prospectus is July 5, 1996.
<PAGE>
FOR NORTH CAROLINA INVESTORS: THE SECURITIES HAVE NOT BEEN APPROVED OR
DISAPPROVED BY THE COMMISSIONER OF INSURANCE OF THE STATE OF NORTH CAROLINA,
NOR HAS THE COMMISSIONER RULED UPON THE ACCURACY OR ADEQUACY OF THIS DOCUMENT.
EACH NORTH CAROLINA BUYER UNDERSTANDS THAT NEITHER DANIELSON NOR ANY
SUBSIDIARY OF DANIELSON IS LICENSED AS AN INSURANCE COMPANY IN NORTH CAROLINA
NOR DOES EITHER MEET THE BASIC ADMISSION REQUIREMENTS FOR LICENSING AS AN
INSURANCE COMPANY IN NORTH CAROLINA.
A condition to the Merger is the receipt by Midland of an opinion that the
Merger qualifies as a tax-free transaction, within the meaning of Sections
368(a)(1)(A) and 368(a)(2)(D) of the Internal Revenue Code of 1986, as amended
(the "Code"), for holders of Midland Common Stock to the extent of the non-
cash consideration received by such holders in the Merger. See "CERTAIN
FEDERAL INCOME TAX CONSEQUENCES--General." The Merger Agreement contains
consideration election provisions that provide that (i) each holder of Midland
Common Stock will be entitled to make an election (or multiple elections each
relating to a portion of such holder's shares) requesting that the
consideration to be paid to it in the Merger be either cash, Danielson Common
Stock or Danielson Series A Preferred Stock and (ii) the available
consideration payable in the Merger will be allocated first to Midland holders
who request Danielson Common Stock, second to Midland holders who request
Danielson Series A Preferred Stock, third to Midland holders who request cash.
Midland holders who make no election will be treated as though they elected to
receive cash. The consideration election provisions of the Merger Agreement
accord first priority in the allocation of Merger consideration to Midland
holders who elect Danielson Common Stock, so that any Midland holder who
wishes to realize the tax-free benefits of the Merger to the greatest extent
possible may, by electing Danielson Common Stock, increase the likelihood that
such Midland holder will receive predominantly Danielson Common Stock and
Danielson Series A Preferred Stock in the Merger. Neither Danielson nor
Midland can predict at this time what elections will be made by holders of
Midland Common Stock. Accordingly, holders of Midland Common Stock should be
aware that it is possible that they may not receive in the Merger solely the
form of consideration requested by them in their consideration elections and,
under certain circumstances, may not receive any of the form of consideration
requested. See "MERGER AGREEMENT--Election of Form of Merger Consideration"
and Schedule I hereto for more information about the election provisions of
the Merger Agreement.
This Joint Proxy Statement/Prospectus also serves as a Prospectus of
Danielson under the Securities Act of 1933, as amended (the "Securities Act"),
relating to the shares of Danielson Common Stock and Danielson Series A
Preferred Stock issuable in the Merger.
No person is authorized to give any information or to make any
representation other than those contained in this Joint Proxy
Statement/Prospectus, and if given or made, such information or representation
should not be relied upon as having been authorized. This Joint Proxy
Statement/Prospectus does not constitute an offer to sell, or a solicitation
of an offer to purchase, the securities offered by this Joint Proxy
Statement/Prospectus, or the solicitation of a proxy, in any jurisdiction in
which such offer or solicitation may not lawfully be made. Neither the
delivery of this Joint Proxy Statement/Prospectus nor any distribution of
securities pursuant to this Joint Proxy Statement/Prospectus shall, under any
circumstances, create an implication that there has been no change in the
information set forth herein since the date of this Joint Proxy
Statement/Prospectus.
State insurance holding company laws and regulations applicable to Midland
generally provide that no person may acquire control of Midland, and thus
indirect control of its insurance subsidiaries, unless such person has
provided certain required information to, and such acquisition is approved (or
not disapproved) by, the appropriate insurance regulatory authorities.
Generally, any person acquiring beneficial ownership of 10% or more of the
Midland Common Stock would be presumed to have acquired such control, unless
the appropriate insurance regulatory authorities, upon advance application,
determine otherwise.
ii
<PAGE>
AVAILABLE INFORMATION
Danielson and Midland are subject to the informational requirements of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), and in
accordance therewith each company files reports and other information with the
Securities and Exchange Commission (the "SEC"). Reports and other information
filed by each of Danielson and Midland can be inspected and copied at the
public reference facilities at the SEC's office at 450 Fifth Street, N.W.,
Washington, D.C. 20549, (by Danielson) at the SEC's Regional Office at Seven
World Trade Center, New York, New York 10048 and (by Midland) at the SEC's
Regional Office at Citicorp Center, 500 W. Madison Street, Chicago, Illinois
60621-2511. Copies of such material can be obtained from the Public Reference
Section of the SEC at 450 Fifth Street, N.W., Washington, D.C. 20549, at
prescribed rates. Such material and other information concerning Midland can
be inspected and copied at the offices of The National Association of
Securities Dealers, Inc., 1735 K Street, N.W., Washington, D.C. 20006. Such
material and other information concerning Danielson can be inspected and
copied at the offices of the American Stock Exchange, Inc., 86 Trinity Place,
New York, New York 10006-1881. Such material may also be accessed
electronically by means of the SEC's home page on the Internet at
http://www.sec.gov.
Danielson has filed with the SEC a Registration Statement on Form S-4 (the
"Registration Statement") under the Securities Act covering the securities
described herein. This Joint Proxy Statement/Prospectus does not contain all
of the information set forth in the Registration Statement, certain parts of
which are omitted in accordance with the rules and regulations of the SEC.
Statements contained herein or incorporated herein by reference concerning the
provisions of documents are summaries of such documents, and each statement is
qualified in its entirety by reference to the applicable document if filed
with the SEC or attached as an appendix hereto. For further information,
reference is hereby made to the Registration Statement and the exhibits filed
therewith. The Registration Statement and any amendments thereto, including
exhibits filed as a part thereof, are available for inspection and copying as
set forth above.
iii
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
AVAILABLE INFORMATION..................................................... iii
SUMMARY................................................................... 1
The Companies............................................................ 1
Rationale for the Merger................................................. 2
The Meetings............................................................. 3
The Merger............................................................... 4
Accounting; Adjustments at Closing....................................... 12
Market Prices of Danielson Common Stock and Midland Common Stock......... 12
Summary of Selected Historical and Pro Forma Condensed Financial
Information (Unaudited)................................................. 12
RISK FACTORS.............................................................. 16
INTRODUCTION.............................................................. 20
Meetings of Stockholders................................................. 20
Purpose of Meetings...................................................... 20
Voting Requirements at Meetings.......................................... 20
Proxies.................................................................. 21
THE MERGER................................................................ 23
General.................................................................. 23
Background of the Merger................................................. 23
Reasons for the Merger; Recommendation of the Danielson Board............ 26
Opinion of Danielson's Financial Advisor--Stephens....................... 28
Information Concerning Stephens.......................................... 32
Information Concerning DLJ............................................... 32
Reasons for the Merger; Recommendation of the Midland Board.............. 33
Opinion of Midland's Financial Advisor................................... 34
Information Concerning Midland's Financial Advisor....................... 38
Merger Consideration and Election of Consideration....................... 38
Federal Income Tax Consequences.......................................... 41
Accounting Treatment..................................................... 41
Regulatory Approvals..................................................... 41
Interests of Certain Members of Midland Management in the Merger......... 41
Effect on Employee Benefit Plans......................................... 42
Resale of Danielson Common Stock and Danielson Series A Preferred Stock.. 42
No Appraisal Rights...................................................... 43
Trading Market........................................................... 43
THE MERGER AGREEMENT...................................................... 44
Effective Time........................................................... 44
The Merger............................................................... 44
</TABLE>
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Consideration to be Received in the Merger............................... 44
Information Concerning BT................................................ 45
Election of Form of Merger Consideration................................. 46
Exchange of Shares....................................................... 46
Fractional Shares........................................................ 47
Stock Options............................................................ 47
Registration and Listing of Share Consideration.......................... 48
Management of the Surviving Corporation.................................. 48
Representations and Warranties........................................... 48
Covenants................................................................ 48
No Solicitation; Transaction Moratorium.................................. 49
Access to Information.................................................... 49
Additional Covenants..................................................... 49
Conditions to the Merger................................................. 50
The Public Offering...................................................... 50
Capital Contribution..................................................... 51
Termination.............................................................. 51
Termination Expenses and Liability....................................... 51
Indemnification.......................................................... 52
THE MERGER PROPOSAL....................................................... 53
The Common Stock Issuance................................................ 53
The Series A Preferred Stock Terms....................................... 54
The Authorized Capital Charter Amendment................................. 55
The Non-Voting Stock Charter Amendment................................... 56
CERTAIN FEDERAL INCOME TAX CONSEQUENCES................................... 57
General.................................................................. 57
Proposed Legislation..................................................... 57
Treatment of Midland Stockholders........................................ 58
Special Considerations Relating to Danielson Series A Preferred Stock:
Section 306 Stock....................................................... 60
Treatment of Midland, Danielson and Merger Sub........................... 60
Treatment of Midland Options............................................. 61
Net Operating Loss Carryforwards of Danielson............................ 61
DANIELSON'S NOL AND DEFERRED TAX ASSET.................................... 62
BUSINESS INFORMATION REGARDING DANIELSON AND MERGER SUB................... 64
Overview of NAICC's Insurance Business................................... 64
NAICC's Workers' Compensation Insurance Business......................... 65
</TABLE>
iv
<PAGE>
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
NAICC's Non-Standard Personal Automobile Insurance Business............. 67
NAICC's Non-Standard Commercial Automobile Insurance Business........... 70
Provisions for Losses and Loss Adjustment Expenses...................... 71
Reinsurance............................................................. 74
Investments............................................................. 75
Regulation.............................................................. 76
A.M. Best Rating........................................................ 77
Capital Adequacy and Risk-Based Capital................................. 77
Danielson Trust's Business.............................................. 78
Employees............................................................... 79
Properties.............................................................. 79
Legal Proceedings....................................................... 80
BUSINESS INFORMATION REGARDING MIDLAND................................... 81
Overview................................................................ 81
Non-Standard Automobile Insurance....................................... 82
Marketing............................................................... 83
Underwriting............................................................ 84
Claims.................................................................. 85
Provisions for Losses and Loss Adjustment Expenses...................... 85
Reinsurance............................................................. 87
Investments............................................................. 88
Regulation.............................................................. 89
A.M. Best Rating........................................................ 91
Employees............................................................... 91
Properties.............................................................. 91
Legal Proceedings....................................................... 91
PRO FORMA FINANCIAL INFORMATION.......................................... 92
SELECTED CONSOLIDATED HISTORICAL FINANCIAL DATA OF DANIELSON............. 97
SELECTED CONSOLIDATED HISTORICAL FINANCIAL DATA OF MIDLAND............... 98
DANIELSON MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS................................................... 99
General................................................................. 99
Results of NAICC's Operations........................................... 99
Results of Danielson Trust's Operations................................. 103
Results of Danielson's Operations....................................... 106
Authoritative Accounting Pronouncements................................. 107
</TABLE>
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
MIDLAND MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS................................................... 108
Results of Operations................................................... 108
Liquidity and Capital Resources......................................... 111
Recent Accounting Pronouncements........................................ 112
MARKET PRICES AND RELATED INFORMATION.................................... 113
DESCRIPTION OF DANIELSON CAPITAL STOCK................................... 114
Danielson Common Stock.................................................. 114
Danielson Series A Preferred Stock...................................... 116
COMPARISON OF CERTAIN RIGHTS OF STOCKHOLDERS............................. 119
Election of Directors................................................... 119
Removal of Directors.................................................... 119
Conflict-of-Interest Transactions....................................... 120
Special Meetings of Stockholders........................................ 120
Required Vote for Authorization of Certain Actions...................... 120
Action by Written Consent............................................... 121
Inspection Rights....................................................... 121
Amendment of Certificate of Incorporation and Bylaws.................... 121
Voluntary Dissolution................................................... 122
Indemnification......................................................... 122
Business Combination Statute............................................ 122
Control Share Acquisition Act........................................... 123
Investor Protection Act................................................. 123
Authorized Corporation Protection Act................................... 124
Greenmail Act........................................................... 124
Dividends and Other Distributions....................................... 125
Dissenters' Rights...................................................... 125
PRINCIPAL MIDLAND STOCKHOLDERS........................................... 126
Compliance with Section 16(a) of the Exchange Act....................... 127
PRINCIPAL DANIELSON STOCKHOLDERS......................................... 128
Compliance with Section 16(a) of the Exchange Act....................... 130
ELECTION OF DANIELSON DIRECTORS.......................................... 130
EXECUTIVE OFFICERS....................................................... 134
EXECUTIVE COMPENSATION................................................... 135
</TABLE>
v
<PAGE>
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS............................ 142
CONFIRMATION OF APPOINTMENT OF INDEPENDENT PUBLIC ACCOUNTANTS............. 142
LEGAL MATTERS............................................................. 142
EXPERTS................................................................... 142
PROPOSALS AND NOMINATIONS BY STOCKHOLDERS................................. 144
GLOSSARY OF SELECTED INSURANCE TERMS...................................... G-1
SCHEDULE I................................................................ I-1
INDEX TO FINANCIAL STATEMENTS............................................. F-1
APPENDICES
APPENDIX A-- MERGER AGREEMENT
APPENDIX A-1--MERGER AGREEMENT AMENDMENT NO. 1
APPENDIX A-2--MERGER AGREEMENT AMENDMENT NO. 2
APPENDIX B-- OPINION OF DANIELSON'S
FINANCIAL ADVISOR
APPENDIX C-- OPINION OF MIDLAND'S FINANCIAL ADVISOR
APPENDIX D-- DLJ LETTER REGARDING COMMON STOCK OFFERING
APPENDIX E-- TERMS OF DANIELSON SERIES A PREFERRED STOCK
APPENDIX H--OPINION OF BT REGARDING DANIELSON SERIES A PREFERRED STOCK
DIVIDEND RATE
</TABLE>
vi
<PAGE>
SUMMARY
The following is a summary of certain information contained elsewhere in this
Joint Proxy Statement/Prospectus. Reference is made to, and this summary is
qualified in its entirety by, the more detailed information contained elsewhere
in this Joint Proxy Statement/Prospectus and in the attached Appendices.
Stockholders of Danielson and Midland are urged to read carefully this Joint
Proxy Statement/Prospectus and the attached Appendices in their entirety. This
Joint Proxy Statement/Prospectus contains forward-looking statements which
involve risks and uncertainties. The actual results of Danielson and Midland
could differ materially from those anticipated in these forward-looking
statements as a result of certain factors, including those set forth under
"RISK FACTORS" and elsewhere in this Joint Proxy Statement/Prospectus. See
"Glossary of Selected Insurance Terms" for definitions of certain insurance
terms used herein.
All information concerning Danielson included in this Joint Proxy
Statement/Prospectus and the attached Appendices has been furnished by
Danielson and all information concerning Midland included in this Joint Proxy
Statement/Prospectus and the attached Appendices has been furnished by Midland.
Unless the context otherwise requires, as used in this Joint Proxy
Statement/Prospectus "Danielson" refers to Danielson Holding Corporation and
its consolidated subsidiaries including NAICC; "NAICC" refers to National
American Insurance Company of California and its consolidated subsidiaries;
"Midland" refers to Midland Financial Group, Inc. and its consolidated
subsidiaries including MRIC and SRIC; "MRIC" refers to Midland Risk Insurance
Company and its consolidated subsidiaries; and "SRIC" refers to Specialty Risk
Insurance Company and its consolidated subsidiaries; each immediately prior to
the Effective Time.
THE COMPANIES
Danielson
Danielson is a publicly-traded holding company which, through its principal
insurance subsidiary, NAICC, is engaged in specialty property and casualty
insurance businesses. NAICC underwrites principally workers' compensation
insurance and non-standard automobile insurance in California and other western
states. In 1987, when NAICC first became affiliated with Danielson, NAICC was a
small non-rated company with $3.6 million of net premiums written. Since 1987,
NAICC has grown to become a company rated B++ (Very Good) by A.M. Best Company
("A.M. Best"), with $55.3 million of net premiums written in 1995. During the
past several years, NAICC has expanded from its workers' compensation insurance
product line into non-standard automobile insurance in California. NAICC
intends to continue to grow through expansion of its product lines and its
geographic territories in a continuing effort to build stockholder value as a
specialty insurance company.
Danielson regularly seeks, and after the consummation of the Merger intends
to continue to regularly seek, acquisition opportunities that will contribute
to Danielson's strategy of being a diversified specialty property and casualty
insurance company. Danielson looks for well-managed acquisition candidates that
have the potential for achieving significant profitability and enhancing
Danielson stockholder value, either as a result of synergies with existing
Danielson operations or by otherwise helping Danielson to achieve its strategic
objective of maximizing pre-tax income. Danielson, from time to time, signs
confidentiality agreements with potential acquisition candidates relating to
the exchange of information. Except for the Merger Agreement, Danielson is not
currently a party to any understanding or agreement providing for an
acquisition, and there is no assurance that Danielson in the future will
conclude favorable acquisitions. In addition, Danielson's ability to issue
significant amounts of Danielson Common Stock in future acquisitions is limited
by regulations relating to the preservation of Danielson's net operating loss
carryforwards ("NOL"). Danielson believes, however, that its modest debt
leverage and increased size will leave it well positioned to pursue its
acquisition strategy after the consummation of the Merger.
1
<PAGE>
Danielson is the successor to Mission Insurance Group, Inc. ("Mission"), a
company successfully restructured and reorganized through efforts that began in
1985. During that restructuring, Danielson acquired NAICC as a vehicle to
continue in the insurance business. After the Mission restructuring and as a
result of the continuing run-off of Mission's business by trusts administered
by various state regulators, Danielson preserved a federal NOL in excess of $1
billion which expires over the period ending 2010. As a result of the NOL,
Danielson does not expect to pay any material federal income taxes during the
period that its NOL is available. As required by Statement of Financial
Accounting Standards No. 109 "Accounting for Income Taxes" ("SFAS 109"), upon
consummation of the Merger, Danielson will recognize an increase in its paid-in
capital to the extent it determines that it is more likely than not that its
NOL will be utilized. Management has determined that an increase of paid-in
capital of approximately $150 million for financial accounting purposes
reflects the likelihood of its future utilization of a portion of its NOL.
In addition to NAICC, Danielson also owns a small California non-bank trust
company, Danielson Trust Company ("Danielson Trust"). Danielson Trust is
engaged in the personal trust and employee benefit trust businesses.
Danielson's principal offices are located at 767 Third Avenue, New York, New
York 10017-2023 and its telephone number is (212) 888-0347.
Midland
Midland is a publicly-traded company which, through MRIC and SRIC, its
wholly-owned property and casualty insurance subsidiaries, specializes in the
underwriting, marketing and servicing of non-standard personal automobile
insurance. To a lesser extent, Midland also insures commercial automobile and
related risks and coastal dwellings and through its Auto 13 program provides
automobile insurance to individuals who file for bankruptcy protection.
Midland underwrites and markets its products through a branch office network
with three major company-owned regional offices and through three independently
owned general agencies, which use approximately 8,500 independent agents.
Midland conducts its business in 20 states, primarily in the southern and
western United States.
Midland's strategy is to be a low cost provider of non-standard personal
automobile insurance. Midland's management believes that the non-standard
personal automobile market provides greater opportunities for profit than other
segments of the automobile property and casualty insurance market. Midland's
management is pursuing a growth strategy which includes an underwriting and
marketing focus on selected segments of the non-standard personal automobile
market, particularly the minimum limit liability insured. Midland seeks to
expand primarily within its existing markets since expansion in these markets
is more cost effective than expansion in new markets. Midland also has
implemented a direct marketing program in areas where its independent agency
force is less established.
Midland's principal executive offices are located at 825 Crossover Lane,
Memphis, Tennessee 38117 and its telephone number is (901) 680-9100.
RATIONALE FOR THE MERGER
Danielson and Midland believe that the Merger is beneficial to both companies
and is likely to assist each in achieving strategic objectives that would be
difficult for either company to achieve independently.
The Merger is a significant step for Danielson in its continuing strategy to
increase stockholder value by expanding its specialty property and casualty
insurance business through strategic acquisition as well as through internal
growth of Danielson's existing insurance business. Danielson's non-standard
automobile insurance
2
<PAGE>
business will increase substantially as a result of the Merger. In 1995,
Midland had $192.4 million of direct premiums written in its non-standard
personal and commercial automobile insurance business, compared to Danielson's
$31.1 million of direct premiums written in such line of business. See "PRO
FORMA FINANCIAL INFORMATION."
Midland believes that the Merger will assist it in addressing recent losses
and other operational problems brought on by the rapid expansion of its full
coverage programs in Arizona and California. Midland also believes that
Danielson's post-Merger $30 million capital contribution (the "Capital
Contribution") will improve its ability to capitalize on future opportunities
to expand its operations in existing markets and in strategically selected new
markets. Midland believes its net losses of $5.7 million and $9.8 million
during the third and fourth quarters of 1995, respectively, are primarily
attributable to pricing inadequacies relating to full coverage programs in
Arizona and California and inefficient claims handling in those states. Midland
has refocused on its core business and has made operational and underwriting
changes to address the causes of those losses. Specifically, Midland has
adopted rate increases in Arizona, California and other states and now performs
certain prescreening techniques and has adopted other requirements which must
be satisfied prior to underwriting new risks or full coverage policies. It has
also upgraded claims management personnel. See "MIDLAND MANAGEMENT'S DISCUSSION
AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS." Midland
believes that it will benefit from gaining access to NAICC's claims handling
systems, which are superior to Midland's current claims systems. Midland
expects that the Capital Contribution will provide Midland the flexibility to
reduce or eliminate Midland's reliance on its quota-share reinsurance facility
commencing January 1, 1997 and will enable Midland to refinance $26 million in
secured bank debt on more attractive terms, both of which are expected to
improve Midland's profitability. Due to the availability of Danielson's NOL,
Midland will benefit from repositioning its investment portfolio from tax-
exempt securities to higher-yielding taxable securities. On February 27, 1996,
Midland's rating by A.M. Best was reduced from B+ (Very Good) to B (Adequate).
At the time A.M. Best announced its downgrade of Midland, it also stated that
it expected to restore Midland's rating to B+ upon consummation of the Merger
and funding of the Capital Contribution.
The underwriting operations and strategies of NAICC and Midland will remain
separate and distinct after the Merger. Certain personnel of the two companies
will be pooled, however, in order to enhance combined profitability. In
addition, senior executive officers of Danielson, Midland and NAICC will be
members of an Insurance Executive Committee, the purpose of which will be to
identify and exploit opportunities to reduce costs through joint or pooled
efforts.
THE MEETINGS
The Danielson Meeting
The Danielson Meeting will be held on Friday, August 2, 1996, at The New York
Marriott East Side Hotel, 525 Lexington Avenue (between 48th and 49th Streets),
New York, New York 10017 at 1:00 p.m., New York time.
Only holders of record of Danielson Common Stock at the close of business on
June 27, 1996 (the "Danielson Record Date") will be entitled to vote at the
Danielson Meeting. On the Danielson Record Date, there were issued and
outstanding approximately 15,360,255 shares of Danielson Common Stock held by
approximately 1,674 holders of record. Each share is entitled to one vote on
each matter to come up at the Danielson Meeting, except that, pursuant to the
Certificate of Incorporation of Danielson, voting for directors may be
cumulative, if, prior to the vote, any Danielson stockholder gives notice to
Danielson of such stockholder's intention to vote cumulatively.
3
<PAGE>
At the Danielson Meeting, the stockholders of Danielson will be asked to
consider and vote upon the Merger Proposal. Approval of the Merger Proposal
will constitute the approval of the Merger, the Common Stock Issuance, the
Preferred Stock Terms, the Authorized Capital Charter Amendment and the Non-
Voting Stock Amendment. See "THE MERGER PROPOSAL" for information about matters
included in the Merger Proposal and possible consequences thereof. In addition,
at the Danielson Meeting, the stockholders of Danielson will consider and vote
on the election of nine directors and the ratification of the appointment of
KPMG Peat Marwick LLP as Danielson's independent certified public accountants.
Approval of the Merger Proposal requires the affirmative vote of a majority
of the outstanding shares of Danielson Common Stock. On the Danielson Record
Date, 7,680,128 shares of Danielson Common Stock constitute a majority of such
shares outstanding and entitled to vote at the Danielson Meeting.
As of the Danielson Record Date, directors and executive officers of
Danielson owned beneficially an aggregate of 3,657,976 shares of Danielson
Common Stock (including shares issuable upon the exercise of employee stock
options which are currently exercisable or which will become exercisable prior
to the Effective Time), or approximately 22.6% of the shares of Danielson
Common Stock outstanding on such date.
The Midland Meeting
The Midland Meeting will be held on Friday, August 2, 1996, at The New York
Marriott East Side Hotel, 525 Lexington Avenue (between 48th and 49th Streets),
New York, New York 10017 at 10:00 a.m., New York time.
Only holders of record of Midland Common Stock at the close of business on
June 14, 1996 (the "Midland Record Date") will be entitled to vote at the
Midland Meeting. On the Midland Record Date, there were issued and outstanding
5,546,522 shares of Midland Common Stock held by approximately 1,900 holders of
record. Each such share is entitled to one vote on each matter which comes up
at the Midland Meeting.
At the Midland Meeting, the stockholders of Midland will be asked to consider
and vote upon a proposal to approve and adopt the Merger Agreement, which
provides for the merger of Midland with and into Merger Sub, with Merger Sub
being the surviving corporation.
Approval of the Merger Agreement requires the affirmative vote of a majority
of the outstanding shares of Midland Common Stock. On the Midland Record Date,
2,773,262 shares of Midland Common Stock constitute a majority of such shares
outstanding and entitled to vote at the Midland Meeting.
As of the Midland Record Date, directors and executive officers of Midland
owned beneficially an aggregate of 1,598,323 shares of Midland Common Stock
(including shares issuable upon the exercise of employee stock options which
are currently exercisable or which will become exercisable prior to the
Effective Time), or approximately 27% of the shares of Midland Common Stock
outstanding on such date.
THE MERGER
Form of the Merger
Pursuant to the Merger Agreement, Midland will be merged with and into Merger
Sub, with Merger Sub being the Surviving Corporation.
Merger Consideration
The Merger Agreement provides that each share of Midland Common Stock issued
and outstanding prior to the Effective Time will be converted in the Merger
into a right to receive consideration, consisting of a
4
<PAGE>
combination of cash, Danielson Common Stock and Danielson Series A Preferred
Stock, which will have an aggregate value, based on valuation provisions agreed
upon in the Merger Agreement, equal to $14.50 (the "Per Share Merger Price").
The Per Share Merger Price represents 1.6 times the per share book value of
Midland as of December 31, 1995. The total consideration which Danielson is
required to pay in the Merger (currently estimated to be $81,066,832, when
valued in accordance with the terms of the Merger Agreement and assuming
5,590,816 shares are outstanding at the Effective Time) will consist of 50%
cash, 40% Danielson Series A Preferred Stock (valued in accordance with the
terms of the Merger Agreement) and 10% Danielson Common Stock (valued in
accordance with the terms of the Merger Agreement), with the mix of such
consideration for each Midland stockholder being subject to election and to
certain state securities law restrictions.
Pursuant to the terms of the Merger Agreement, shares of Danielson Common
Stock issued to Midland stockholders as consideration in the Merger will be
valued for purposes of the Merger at the average of the closing prices of
Danielson Common Stock on the American Stock Exchange (the "AMEX") (or other
national securities exchange on which Danielson Common Stock is then traded)
for each day on which trading of Danielson Common Stock took place on such
exchange during the period beginning on the date 20 days prior to the date on
which the Public Offering is priced (the "Offering Pricing Date") and ending on
the business day immediately preceding the Offering Pricing Date, provided that
in no event shall such price be lower than $4.50 per share nor more than $10.50
per share.
In addition, as provided in the Merger Agreement, the shares of Danielson
Series A Preferred Stock issued to Midland stockholders in the Merger will be
valued for purposes of the Merger at $25.00 per share (the "Stated Value"). The
Merger Agreement also provides that the dividend rate applicable to Danielson
Series A Preferred Stock shall initially be set, prior to the date of mailing
of this Joint Proxy Statement/Prospectus, at the rate which would be likely to
cause Danielson Series A Preferred Stock to trade at its Stated Value ($25.00
per share) if such security were assumed to have been trading on such date on a
fully-distributed basis. The Merger Agreement provides that such rate is to be
determined by the joint written opinion of Donaldson, Lufkin & Jenrette
Securities Corporation, one of Danielson's financial advisors ("DLJ"), and The
Robinson-Humphrey Company, Inc., Midland's financial advisor ("R-H"). If DLJ
and R-H are unable to agree upon a dividend rate, the Merger Agreement provides
that BT Securities Corporation ("BT") will advise Midland and Danielson in
writing of the rate which, in its opinion represents the rate likely to cause
Danielson Series A Preferred Stock to have a trading price equal to its Stated
Value as of such date if such security were assumed to have been trading on
such date on a fully-distributed basis. The Merger Agreement provides that, if
the dividend rate specified by BT is within the range of rates indicated by DLJ
and R-H, then the rate specified by BT shall be the rate and if the rate
specified by BT is above or below the range of the two rates specified by DLJ
and R-H, the dividend rate will be set at the nearest of the rates specified by
DLJ and R-H.
On June 19, 1996, DLJ advised Danielson that the dividend rate applicable to
Danielson Series A Preferred Stock should be 9 1/4% per annum, while on June
24, 1996, R-H advised Midland that the dividend rate applicable to Danielson
Series A Preferred Stock should be 11 1/4% per annum. As a result, BT was asked
to specify a dividend rate. On July 1, 1996, BT advised Midland and Danielson
that, in its opinion, the rate as of such date should be 10% per annum. Since
the rate specified by BT was within the range of rates specified by DLJ and
R-H, the rate specified by BT has been initially established as the dividend
rate for Danielson Series A Preferred Stock as of the date of this Joint Proxy
Statement/Prospectus. The full text of the written opinion of BT, which sets
forth the assumptions made, matters considered and limitations on the review
undertaken by BT (the "BT Opinion"), is attached as Appendix H to this Joint
Proxy Statement/Prospectus and should be read carefully in its entirety.
On the Offering Pricing Date, which is expected to occur approximately three
business days before the Effective Time, the 10% per annum dividend rate
initially established as the dividend rate for Danielson Series A Preferred
Stock as of the date of this Joint Proxy Statement/Prospectus will be adjusted
by DLJ and R-H upward or downward, if necessary, to the rate which, as of the
Offering Pricing Date, would be likely to cause
5
<PAGE>
Danielson Series A Preferred Stock to trade at its Stated Value if such
security were assumed to have been trading on such date on a fully-distributed
basis. If DLJ and R-H are unable to agree upon a dividend rate as of the
Offering Pricing Date, BT again will be called upon to specify a rate. The
Merger Agreement provision requiring a re-evaluation, and if necessary, a
readjustment, of the dividend rate of Danielson Series A Preferred Stock as of
the Offering Pricing Date is intended to provide that the dividend rate finally
set for Danielson Series A Preferred Stock will be determined with an awareness
of prevailing interest or dividend rates for other securities as of a date
reasonably close to the Effective Time, as well as events or developments
occurring subsequent to the date the initial dividend rate was established. See
"DESCRIPTION OF DANIELSON CAPITAL STOCK--Danielson Series A Preferred Stock."
Under certain circumstances, the provisions in the Merger Agreement governing
the valuation of Danielson Common Stock and Danielson Series A Preferred Stock
which will be issued as part of the consideration payable in the Merger may
result in such securities being ascribed a value for purposes of the Merger
which may be above or below the market value of those securities under normal
trading conditions after the Effective Time. See "THE MERGER--Merger
Consideration and Election of Consideration." As described above, for purposes
of the Merger, Danielson Series A Preferred Stock will be valued at its Stated
Value and Danielson Common Stock will be valued at the average of the closing
prices of that stock on the AMEX during the 20 days prior to the Offering
Pricing Date but in no event shall such price be lower than $4.50 per share nor
more than $10.50 per share. If the average trading price of Danielson Common
Stock over that period is outside the $4.50 to $10.50 range agreed upon in the
Merger Agreement, or if trading in Danielson Common Stock during that 20-day
averaging period is affected positively or negatively by market conditions not
present after the Effective Time, the price at which Danielson Common Stock is
valued as a part of the Merger consideration may be greater than or less than
the trading price of Danielson Common Stock after the Effective Time. In
addition, although the dividend rate for Danielson Series A Preferred Stock was
set on July 1, 1996 at the rate believed likely to cause that security to trade
at its Stated Value if such were assumed to have been trading on a fully-
distributed basis as of such date (and such rate will be re-evaluated and, if
necessary, reset as of the Offering Pricing Date), Stated Value is not the
actual market value of Danielson Series A Preferred Stock as of any date, and
there can be no assurance that Danielson Series A Preferred Stock will trade at
or near its Stated Value after the Effective Time. The dividend rate of 10.00%
per annum initially established for the Series A Preferred Stock is below the
midpoint of the range of rates specified by DLJ and R-H and is not the
arithmetic average of the three different dividend rates specified by DLJ, R-H
and BT, respectively. Because the rates specified by DLJ, R-H and BT are
inherently subject to uncertainty, none of Midland, Danielson, DLJ, R-H or BT
assumes responsibility if the Danielson Series A Preferred Stock does not have
a trading price at or near its Stated Value at, or at any time after, the
Effective Time.
As stated above, the Merger Agreement provides that 10% of the total
consideration payable in the Merger will be delivered in Danielson Common
Stock, valued for that purpose on the basis of the average of the closing
prices of Danielson Common Stock for each day on which trading took place
during the period beginning on the date 20 days prior to the Offering Pricing
Date and subject to the $4.50 to $10.50 range described above. Consequently,
the total number of shares of Danielson Common Stock issuable in the Merger
could be a maximum of 1,802,000 shares, assuming the minimum valuation of $4.50
per share applies, or a minimum of 772,065 shares, assuming the maximum value
of $10.50 per share applies, or an aggregate number of shares within those
maximum and minimum numbers if the closing price average for Danielson Common
Stock is somewhere within the agreed-upon $4.50 to $10.50 range. A Midland
stockholder who elects to receive solely Danielson Common Stock in the Merger,
and who in fact receives solely Danielson Common Stock, would therefore receive
3.22 shares of Danielson Common Stock for each share of Midland Common Stock
owned by it, assuming the minimum $4.50 per share value applies, or 1.38 shares
of Danielson Common Stock for each of its shares of Midland Common Stock,
assuming the $10.50 per share value applies.
The funds necessary to pay the cash portion of the Merger consideration
(currently estimated to be approximately $40,533,400 assuming 5,590,816 shares
of Midland Common Stock are outstanding at the
6
<PAGE>
Effective Time) and some or all of the Capital Contribution are expected to be
raised in the Public Offering. The consummation of the Public Offering is a
condition to the Merger. Danielson currently intends to raise in the Public
Offering gross proceeds of approximately $85 million (before giving effect to
any exercise of an over-allotment option), but, depending on market conditions,
may decide to raise a greater amount. Any net proceeds of the Public Offering
available after payment of the cash portion of the Merger consideration and the
Capital Contribution will be added to Danielson's general corporate funds.
The offering price of Danielson Common Stock in the Public Offering, the
value of Danielson Common Stock for purposes of the Merger and the dividend
rate of Danielson Series A Preferred Stock will all be finally determined on
the Offering Pricing Date, which cannot occur until after the Meetings.
Consequently, at the time of the Meetings Midland stockholders and Danielson
stockholders will know the manner in which the Danielson Series A Preferred
Stock dividend rate and the Danielson Common Stock value will be determined but
they will not know what that value and dividend rate will be, nor will they
know what the price of Danielson Common Stock in the Public Offering will be.
The Merger Agreement does not impose any limitations or conditions relating to
the value of Danielson Common Stock or the dividend rate of Danielson Series A
Preferred Stock, other than the $4.50 to $10.50 price range for Danielson
Common Stock issued in the Merger. In addition, the Merger Agreement does not
set any minimum pricing requirement for the sale of Danielson Common Stock in
the Public Offering. Both the Danielson Board and the Midland Board have
determined however that if, after receipt of stockholder approval at the
Meetings, either the average of the closing prices of Danielson Common Stock on
the AMEX during the 20 days prior to the Offering Pricing Date or the pricing
of Danielson Common Stock in the Public Offering is less than $4.50 or more
than $10.50 per share, the Merger will not be consummated unless it is approved
by Danielson and Midland stockholders on the basis of revised proxy materials
specifically disclosing such Public Offering price or closing price average.
Election of Form of Merger Consideration
The Merger Agreement contains consideration election provisions that provide
that (i) each holder of Midland Common Stock will be entitled to make an
election requesting that the consideration to be paid to it in the Merger be
either cash, Danielson Common Stock or Danielson Series A Preferred Stock and
(ii) the available consideration payable in the Merger will be allocated first
to Midland holders who elect Danielson Common Stock, second to Midland holders
who elect Danielson Series A Preferred Stock, third to Midland holders who
elect cash. Midland holders who make no election will be treated for the
purpose as though they elected to receive cash.
Each holder of Midland Common Stock who has requested a specific form of
consideration will receive such consideration in the Merger subject to
securities law restrictions in certain states and to the availability of such
consideration after giving effect to any prior allocations and after pro-rating
such holder with other holders who have requested the same consideration. If
there is not a sufficient amount of such consideration available to satisfy
such holder's right to receive consideration in the Merger which has a value
equal to the Per Share Merger Price (when valued in accordance with the Merger
Agreement), such holder will receive additional, successive allocations of the
other forms of consideration until such holder has received such value. In such
event, a holder of Midland Common Stock who has elected to receive Danielson
Common Stock will next receive an additional allocation of Danielson Series A
Preferred Stock and, if necessary, an allocation of cash; a holder who has
elected to receive Danielson Series A Preferred Stock will next receive an
additional allocation of Danielson Common Stock and, if necessary, an
allocation of cash; and a holder who has elected to receive cash will next
receive an allocation of Danielson Series A Preferred Stock and, if necessary,
an allocation of Danielson Common Stock.
It is a condition to the Merger that Midland receive an opinion that the
Merger will qualify as a tax-free transaction, within the meaning of Sections
368(a)(1)(A) and 368(a)(2)(D) of the Code, for holders of Midland
7
<PAGE>
Common Stock to the extent of the non-cash consideration received by such
holders in the Merger. The consideration election provisions of the Merger
Agreement accord first priority in the allocation of Merger consideration to
Midland holders who elect Danielson Common Stock so that any Midland holder who
wishes to realize the benefits of the tax-free nature of the Merger to the
greatest extent possible may, by electing Danielson Common Stock, increase the
likelihood that such Midland holder will receive predominantly Danielson Common
Stock and Danielson Series A Preferred Stock in the Merger.
Neither Danielson nor Midland can predict at this time what elections will be
made by holders of Midland Common Stock. Accordingly, holders of Midland Common
Stock should be aware that it is likely that they may not receive in the Merger
solely the form of consideration requested by them in their consideration
elections and, under certain circumstances, it is possible that they may not
receive any of the form of consideration requested. Attached as Schedule I to
this Joint Proxy Statement/Prospectus is a table showing the resulting
allocations of Merger consideration assuming, solely for purposes of
illustration, three different hypothetical patterns of election by holders of
Midland Common Stock.
Recommendation of the Danielson Board of Directors
The Board of Directors of Danielson (the "Danielson Board") believes that the
Merger and the other transactions contemplated by the Merger Agreement and the
Merger Proposal are fair to, and in the best interests of, Danielson and its
stockholders. The Danielson Board has unanimously approved the Merger, the
Merger Agreement, the Common Stock Issuance, the Preferred Stock Terms, the
Authorized Capital Charter Amendment and the Non-Voting Stock Charter Amendment
and recommends that the stockholders of Danielson vote FOR approval of the
Merger Proposal.
For a discussion of the factors considered by the Danielson Board in reaching
its decisions, see "THE MERGER--Reasons for the Merger; Recommendation of the
Danielson Board."
The Danielson Board unanimously recommends that the stockholders of Danielson
vote FOR the nine nominees to the Board of Directors of Danielson named herein,
and FOR the ratification of the appointment of KPMG Peat Marwick LLP as
Danielson's independent certified public accountants.
Opinion of Danielson's Financial Advisor
Stephens Inc. ("Stephens") has acted as financial advisor to Danielson in
connection with the Merger. On February 25, 1996, the date on which the
Danielson Board approved the Merger, Stephens advised the Danielson Board that
Stephens believed it would be able, prior to the mailing of this Joint Proxy
Statement/Prospectus, to render a written fairness opinion stating that the
Merger is fair, from a financial point of view, to Danielson. Stephens advised
the Danielson Board at the February 25 meeting that its views were preliminary
in light of the lack of audited financial statements for Midland for the year
ended December 31, 1995 and the continuing nature of Stephens' and Danielson's
due diligence with respect to Midland. Immediately prior to the date of mailing
of this Joint Proxy Statement/Prospectus, Stephens delivered to the Danielson
Board a written opinion dated the date of this Joint Proxy Statement/Prospectus
to the effect that as of such date the Merger was fair from a financial point
of view to Danielson. The full text of the written opinion of Stephens, which
sets forth the assumptions made, matters considered and limitations on the
review undertaken by Stephens is attached as Appendix B to this Joint Proxy
Statement/Prospectus and should be read carefully in its entirety. See "THE
MERGER--Opinion of Danielson's Financial Advisor-Stephens."
8
<PAGE>
Recommendation of the Midland Board of Directors
The Board of Directors of Midland (the "Midland Board"), believes that the
Merger is fair to, and in the best interests of, Midland and its stockholders.
The Midland Board has approved the Merger and the Merger Agreement and
recommends that the stockholders of Midland vote FOR approval of the Merger
Agreement.
For a discussion of the factors considered by the Midland Board in reaching
its decision, see "THE MERGER--Reasons for the Merger; Recommendation of the
Midland Board."
Opinion of Midland's Financial Advisor
The Robinson-Humphrey Company, Inc. ("R-H") has acted as financial advisor to
Midland in connection with the Merger. On February 26, 1996, the date on which
the Midland Board approved the Merger, R-H delivered an oral opinion to the
Midland Board to the effect that, as of the date of such opinion, the Merger
consideration was fair, from a financial point of view, to the holders of the
Midland Common Stock. R-H has confirmed such opinion by delivery of a written
opinion to that effect dated the date of this Joint Proxy Statement/Prospectus.
The R-H opinion considered the fairness of the Merger consideration (having a
value of approximately $14.50 per share) being paid by Danielson on an
aggregate basis and, therefore, did not attempt to address certain fairness
questions that may arise due to possible stockholder consideration elections
made by Midland stockholders. Midland stockholders who elect to receive all
Danielson Common Stock in the Merger or all Danielson Preferred Stock could
receive consideration having a value at the Effective Time that is materially
less than or materially more than $14.50 per Midland share depending on the
market value of Danielson Common Stock or Danielson Preferred Stock at the
Effective Time. See "RISK FACTORS--Potential Dilutive Effect of Merger on
Danielson Common Stock" and "RISK FACTORS--Absence of Public Market for
Danielson Series A Preferred Stock". The full text of the written opinion of R-
H dated the date of this Joint Proxy Statement/Prospectus which sets forth the
assumptions made, matters considered and limitations on the review undertaken
by R-H, is attached as Appendix C to this Joint Proxy Statement/Prospectus and
should be read carefully in its entirety. See "THE MERGER--Opinion of Midland's
Financial Advisor."
Regulatory Approvals Required
The Merger is subject to review under the Hart-Scott-Rodino Antitrust
Improvements Act of 1976, as amended (the "HSR Act"), by the Federal Trade
Commission ("FTC") and the Department of Justice ("DOJ"). The Merger is subject
to the expiration or earlier termination of the waiting period under the HSR
Act. On April 18, 1996, Danielson and Midland completed the filing of
notification and report forms under the HSR Act with the FTC and the DOJ with
respect to the Merger. On May 2, 1996, Danielson and Midland were notified that
early termination of the requisite waiting period under the HSR Act was granted
effective as of such date.
The Merger is also subject to, among other approvals, the prior approval of
insurance regulatory authorities in the State of Tennessee and the State of
California. Applications for such approvals were filed with the Tennessee
Department of Commerce and Insurance (the "Tennessee Department") on March 14,
1996, and the California Department of Insurance (the "California Department")
on April 19, 1996. On June 27, 1996, the Tennessee Department approved the
Merger without a hearing. On June 24, 1996, the California Department approved
the Merger without a hearing. See "THE MERGER--Regulatory Approvals" for
further discussion of required regulatory approvals.
Conditions to the Merger
In addition to obtaining requisite stockholder and regulatory approvals, the
obligations of Danielson and Midland to consummate the Merger are subject to
the satisfaction or waiver of various conditions, including, among other
things, the obtaining of required third party consents, the receipt of a legal
opinion with respect to
9
<PAGE>
the tax consequences of the Merger, the truth and correctness of
representations and warranties and the absence of certain material adverse
changes. See "THE MERGER AGREEMENT--Conditions to the Merger."
Certain Covenants
The Merger Agreement contains various covenants of Danielson and Midland with
respect to operational and other matters in the period prior to the Effective
Time. Each of Danielson and Midland has agreed to conduct its business and
operations prior to the Effective Time in the ordinary course consistent with
past practices, except as contemplated by the Merger Agreement. Danielson and
Midland have each also agreed that until the Effective Time each will, and that
each will cause its subsidiaries to, (i) preserve intact its current business
organizations and reputation, keep available the service of its current
officers and employees, preserve its relationships with customers, suppliers
and others having business dealings with it, comply in all material respects
with applicable laws and (ii) not enter into any material transactions other
than in the ordinary course of business consistent with the past practices.
Additionally, Danielson and Midland have agreed, among other things, to (a)
take all actions necessary, proper or advisable to consummate the transactions
contemplated by the Merger Agreement, (b) cooperate to make certain filings and
obtain certain consents with respect to the Merger, and (c) cause a meeting of
their respective stockholders to be duly called and held at which the Midland
Board will recommend approval and adoption by the Midland stockholders of the
Merger Agreement and the Merger, and the Danielson Board will recommend
approval and adoption by the Danielson stockholders of the Merger Proposal.
Danielson has also agreed to make the Capital Contribution. Midland has agreed
that, except as required to comply with the fiduciary duties of the Midland
Board, it will not solicit other transactions similar to the Merger. See "THE
MERGER AGREEMENT--Covenants; Additional Covenants."
Termination
The Merger Agreement will terminate on August 31, 1996 unless Danielson
enters into an underwriting agreement with respect to the Public Offering prior
to such date. Midland may extend such termination date for two 30-day periods.
Either Midland or Danielson may terminate the Merger Agreement prior to such
date if the other party (i) materially breaches a representation, warranty or
covenant contained in the Merger Agreement and fails to cure such breach in a
timely manner, or (ii) is unable to satisfy a condition precedent to closing.
Upon any termination of the Merger Agreement resulting from a material, but
non-willful, breach of a representation, warranty or covenant contained in the
Merger Agreement, the non-breaching party will be entitled to reimbursement by
the breaching party of all documented out-of-pocket expenses incurred in an
amount up to $1 million. Midland has agreed to pay Danielson $2.75 million if
the Merger Agreement is terminated upon the occurrence of certain events and
within six months of such termination (i) it is publicly announced that Midland
will enter into an Acquisition Transaction (as defined in the Merger
Agreement), (ii) Midland consummates an Acquisition Transaction, or (iii)
Midland enters into an agreement with respect to an Acquisition Transaction.
Midland is required to pay such amount only if an Acquisition Transaction
closes, and any amount previously paid to Danielson by Midland as an expense
reimbursement will apply as a credit against such amount. See "THE MERGER
AGREEMENT--Termination; Termination Expenses and Liability."
Stock Exchange Listing
The Merger Agreement provides that Danielson will use its best efforts to
cause the shares of Danielson Common Stock and Danielson Series A Preferred
Stock issued in the Merger to be approved for listing on the AMEX or the New
York Stock Exchange ("NYSE") or approved for trading on The National
Association of Securities Dealers Automated Quotation System ("NASDAQ"), in
each case subject to official notice of issuance, prior to the Effective Time.
Danielson Common Stock is currently listed on the AMEX under the trading symbol
"DHC." It is a condition to the consummation of the Merger that Danielson
Series A Preferred Stock be approved for listing on the AMEX, NYSE or NASDAQ.
The AMEX has certain listing criteria
10
<PAGE>
applicable to new listings of preferred stock. First, the issuer must appear to
be in a financial position which will enable it to satisfactorily service the
dividend requirements for the preferred stock and have, at a minimum,
stockholders' equity of $4 million and pre-tax income of $750,000 in its last
fiscal year, or in two of its last three fiscal years. Second, in the case of
an issuer whose common stock is traded on the AMEX or NYSE, at least 100,000
shares of such preferred stock must be publicly held and must trade at a
minimum price of $10.00 per share and the aggregate public market value of such
shares must be at least $2 million. Third, holders of the preferred stock must
have the right, voting as a class, to vote on any change in the rights,
privileges or preferences of such issuance of preferred stock, and the creation
of any class of preferred stock that is senior to or equal in preference to the
issuance of preferred stock to be listed. With respect to voting rights upon
default, holders of the preferred stock should have the right, voting as a
class, to elect at least two members of the issuer's board of directors no
later than two years after a default in the payment of fixed dividends.
Finally, redeemable issuances of preferred stock, if subject to redemption in
part, must be redeemable only pro rata or by lot. Management of Danielson
believes that Danielson Series A Preferred Stock is likely to meet all
applicable AMEX listing criteria, without the need for any waivers of those
criteria by the AMEX.
Certain Federal Income Tax Consequences
A condition to the Merger is the receipt by Midland of an opinion that the
Merger will qualify for federal income tax purposes as a tax-free
reorganization within the meaning of Code Sections 368(a)(1)(A) and
368(a)(2)(D). Such opinion is, however, based on the satisfaction of certain
prior conditions discussed in "CERTAIN FEDERAL INCOME TAX CONSEQUENCES."
Although the condition to obtain an opinion can be waived by the Midland Board
if for any reason that condition cannot be satisfied, the Midland Board has
indicated that it will not waive that condition and permit the Merger to be
consummated unless Midland stockholders have first been advised of the
inability to satisfy that condition and have approved the Merger on that basis.
A holder of Midland Common Stock will not recognize gain or loss upon the
conversion of such stock to the extent such stock is converted in the Merger to
Danielson Common Stock or Danielson Series A Preferred Stock or a combination
of both. No gain or loss will be recognized by, and no amount will be included
in the income of, a holder of Midland Common Stock.
All Midland stockholders should read carefully the discussion under "CERTAIN
FEDERAL INCOME TAX CONSEQUENCES" and are urged to consult their own tax
advisors as to the specific consequences to them of the Merger and the holding
and disposing of Danielson Common Stock and Danielson Series A Preferred Stock
under federal, state, local or any other applicable tax laws.
Directors and Officers Following the Merger
The Merger Agreement provides that the Board of Directors of Merger Sub prior
to the Effective Time will be the directors of the Surviving Corporation after
the Effective Time. Charles H. Gray, III, currently Chief Operating Officer of
Midland, will be the Chief Executive Officer of the Surviving Corporation after
the Effective Time. No changes are currently contemplated in the officers
reporting to Mr. Gray. See "THE MERGER AGREEMENT--Management of the Surviving
Corporation."
Interests of Certain Persons in the Merger
Midland's management and certain members of the Midland Board may be deemed
to have certain interests in the Merger in addition to their interests as
stockholders of Midland generally, and which may create potential conflicts of
interest. These interests include, among others, provisions in the Merger
Agreement with respect to continued employment, employee stock options, other
employee benefits, indemnification and insurance,
11
<PAGE>
severance benefits and the directorships described above. See "THE MERGER--
Interests of Certain Members of Midland Management in the Merger."
Comparison of Stockholder Rights
A discussion of differences in the rights of stockholders under Delaware law
and the Danielson Certificate of Incorporation and Bylaws as compared to rights
of stockholders under Tennessee law and the Midland Charter and Bylaws is
included under "COMPARISON OF CERTAIN RIGHTS OF STOCKHOLDERS."
No Appraisal or Dissenters' Rights
Under Tennessee law, the holders of the Midland Common Stock are not entitled
to dissenters' rights in connection with the Merger. See "THE MERGER--No
Appraisal Rights."
Under Delaware law, the holders of Danielson Common Stock are not entitled to
appraisal rights in connection with the Merger. See "THE MERGER--No Appraisal
Rights."
ACCOUNTING; ADJUSTMENTS AT CLOSING
Danielson intends to treat the Merger as a "purchase" for accounting and
financial reporting purposes. In connection with the Merger, Midland will incur
approximately $4.5 million of costs and expenses contingent upon the
consummation of the Merger of which approximately $2.5 million represents costs
associated with the elimination of duplicative operations of Midland. These
accounting adjustments will not affect in any way the consideration payable in
the Merger, which is fixed pursuant to the Merger Agreement. See "PRO FORMA
FINANCIAL INFORMATION."
As required by SFAS 109, upon consummation of the Merger Danielson will
recognize an increase in its paid-in capital to the extent it determines that
it is more likely than not that its NOL will be utilized. Management has
determined that approximately $150 million for financial accounting purposes
reflects the likelihood of its future utilization of a portion of its NOL. The
amount of that asset reflects, among other things, Danielson's best estimate of
the post-Merger taxable income of Danielson, NAICC, Midland and Danielson Trust
during the period from 1996 through 2005 when the NOL is expected to be
available. See "DANIELSON'S NOL AND DEFERRED TAX ASSET."
MARKET PRICES OF DANIELSON COMMON STOCK AND MIDLAND COMMON STOCK
The following table sets forth the closing price per share of Danielson
Common Stock and Midland Common Stock and the equivalent per share price for
Midland Common Stock giving effect to the Merger as of February 26, 1996, the
last business day preceding public announcement of the execution of the Merger
Agreement, and as of July 1, 1996, the last practicable date prior to the
mailing of this Joint Proxy Statement/Prospectus. The equivalent price per
share of Midland Common Stock at each specified date is the Per Share Merger
Price as described in the Merger Agreement.
<TABLE>
<CAPTION>
Midland Common Stock Midland Common Stock Danielson Common Stock
Dates (Historical) Equivalent Merger Price (Historical)
----- -------------------- ----------------------- ----------------------
<S> <C> <C> <C>
February 26, 1996 $11.875 $14.50 $ 7.50
July 1, 1996 $11.375 $14.50 $ 6.875
</TABLE>
Holders of Midland Common Stock and Danielson Common Stock are urged to
obtain current market quotations for the shares of Danielson Common Stock and
Midland Common Stock.
12
<PAGE>
SUMMARY OF SELECTED HISTORICAL AND PRO FORMA CONDENSED FINANCIAL INFORMATION
(UNAUDITED)
The Summary of Selected Historical and Pro Forma Condensed Financial
Information (unaudited) consolidates the historical balance sheets of Danielson
and Midland as of March 31, 1996, as if the Merger and related transactions had
been consummated on March 31, 1996 and consolidates the statements of
operations of Danielson and Midland for the three months ended March 31, 1996
and the year ended December 31, 1995, as if the Merger and related transactions
had been consummated on January 1, 1995 and 1996, in each case giving effect to
the Merger and related transactions under the purchase method of accounting in
accordance with Accounting Principles Board Opinion No. 16.
The Summary of Selected Historical and Pro Forma Condensed Financial
Information (unaudited) gives effect to the following: (i) the consummation of
the Merger and the transactions contemplated thereby; (ii) the sale of
12,363,636, shares of Danielson Common Stock in the Public Offering at an
assumed gross offering price per share, before underwriting discounts and
commissions, of $6.875 (the closing price of Danielson Common Stock on July 1,
1996 and the issuance of 1,179,154 shares of Danielson Common Stock in the
Merger at a value of $6.875 per share (resulting in a total issuance of
13,542,790 shares); (iii) the Capital Contribution by Danielson to the
Surviving Corporation; (iv) the reduction of Midland's general and
administrative expenses associated with salaries of certain executive officers;
(v) an increase in Danielson's paid-in capital in the amount of approximately
$150 million attributable to the recognition of a portion of the NOL in
accordance with SFAS 109; and (vi) purchase accounting adjustments to reflect
Midland's assets and liabilities at fair value. The Summary of Selected
Historical and Pro Forma Condensed Financial Information (Unaudited) does not
give effect to the exercise of any over-allotment options in the Public
Offering. Approval of the Merger Proposal will authorize Danielson to issue in
the Merger and Public Offering a total number of shares of Danielson Common
Stock ranging from 8,867,303 shares (assuming a $10.50 price per share) to
20,690,373 shares (assuming a $4.50 price per share).
This pro forma financial information is presented for illustrative purposes
only and does not purport to be indicative of the results of operations or
financial position that would have been reported if the Merger had been
consummated at the dates indicated or for the periods presented or that may be
reported in the future. This pro forma financial information contains
information which may be considered forward-looking statements. Such forward-
looking statements involve risks and uncertainties, and actual results could
differ materially from those anticipated in forward-looking statements. This
pro forma financial information is derived from the unaudited Condensed
Consolidated Pro Forma Financial Information appearing herein under "PRO FORMA
FINANCIAL INFORMATION" and should be read in conjunction with such Information
and the notes thereto.
13
<PAGE>
SELECTED AND HISTORICAL
PRO FORMA UNAUDITED CONDENSED CONSOLIDATED FINANCIAL INFORMATION
FOR THE THREE MONTHS ENDED MARCH 31, 1996
(In thousands, except share and per share information)
<TABLE>
<CAPTION>
Consolidated
Danielson Midland Pro Forma
(historical) (historical) (unaudited)
------------ ------------ ------------
<S> <C> <C> <C>
RESULTS OF OPERATIONS:
REVENUES
Net premiums earned and policy
fees............................. $ 8,968 $ 42,144 $ 51,112
Net investment income............. 2,839 2,159 4,998
Net realized investment gains..... -- 407 407
Other income...................... 1,418 21 1,439
---------- --------- -----------
Total revenues................ 13,225 44,731 57,956
LOSSES AND EXPENSES
Net losses and LAE................ 6,671 32,147 38,818
Other expenses.................... 5,941 11,501 17,292
Goodwill amortization............. 43 36 893
Interest expense.................. -- 629 629
---------- --------- -----------
Total losses and expenses..... 12,655 44,313 57,632
Income before provision (benefit)
for income
tax and minority interests....... 570 418 324
Income tax provision (benefit).... 13 (125) (61)
Minority interests................ -- (15) (15)
---------- --------- -----------
Net income.................... $ 557 $ 528 $ 370
========== ========= ===========
Net income........................ $ 557 $ 528 $ 370
Less preferred dividends.......... -- -- (811)
---------- --------- -----------
Net income (loss) available to
common stockholders.............. $ 557 $ 528 $ (441)
========== ========= ===========
Net income (loss) per common
share............................ $ 0.03 $ 0.10 $ (0.01)(/1/)
========== ========= ===========
Weighted average number of shares
outstanding...................... 16,013,221 5,567,000 29,528,310 (/1/)
BALANCE SHEET DATA:
Invested assets................... $ 168,570 $ 162,001 $ 367,818
Total assets...................... $ 210,389 $ 279,575 $ 712,282
Unpaid losses and LAE............. $ 124,258 $ 107,716 $ 231,974
Stockholders' equity.............. $ 65,822 $ 50,581 $ 334,136
Shares of Common Stock outstand-
ing.............................. 15,360,255 5,546,522 28,903,045(/1/)
Book value per common share....... $ 4.29 $ 9.12 $ 10.44(/1/)
Dividends per common share........ -- -- --
</TABLE>
- --------
For explanation of pro forma adjustments see Notes to Pro Forma Unaudited
Condensed Consolidated Balance Sheet and Statement of Operations information.
(1) Assumes a $6.875 price per share. Assuming a $10.50 price per share, (i)
there would be 24,227,558 shares outstanding and book value per common
share would be $12.45; and (ii) weighted average number of shares
outstanding would be 24,852,823 and net loss per common share would be
$.02. Assuming a $4.50 price per share, (i) there would be 36,050,628
shares outstanding and book value per common share would be $8.37 and (ii)
weighted average number of shares outstanding would be 36,675,893 and net
loss per common share would be $.01.
14
<PAGE>
SELECTED AND HISTORICAL
PRO FORMA UNAUDITED CONDENSED CONSOLIDATED FINANCIAL INFORMATION
FOR THE YEAR ENDED DECEMBER 31, 1995
(In thousands, except share and per share information)
<TABLE>
<CAPTION>
CONSOLIDATED
DANIELSON MIDLAND PRO FORMA
(HISTORICAL) (HISTORICAL) (UNAUDITED)
------------ ------------ ------------
<S> <C> <C> <C>
RESULTS OF OPERATIONS:
REVENUES
Net premiums earned and policy
fees............................. $ 60,548 $ 183,043 $ 243,591
Net investment income............. 13,161 9,839 23,000
Net realized investment gains
(losses)......................... 208 (3) 205
Other income...................... 6,164 167 6,331
---------- --------- ----------
Total revenues................ 80,081 193,046 273,127
LOSSES AND EXPENSES
Net losses and LAE................ 48,715 152,103 200,818
Other expenses.................... 28,072 56,438 83,910
Goodwill amortization............. 858 135 4,386
Interest expense.................. -- 1,880 1,880
---------- --------- ----------
Total losses and expenses..... 77,645 210,556 290,994
Income (loss) before provision
(benefit) for income tax and
minority interests............... 2,436 (17,510) (17,867)
Income tax provision (benefit).... 120 (7,445) (7,121)
Minority interests................ -- (6) (6)
---------- --------- ----------
Net income (loss)............. $ 2,316 $ (10,071) $ (10,752)
========== ========= ==========
Net income (loss)................. $ 2,316 $ (10,071) $ (10,752)
Less preferred dividends.......... -- -- (3,243)
---------- --------- ----------
Net income (loss) available to
common stockholders.............. $ 2,316 $ (10,071) $ (13,995)
========== ========= ==========
Net income (loss) per common
share............................ $ 0.14 $ (1.88) $ (0.47)(/1/)
========== ========= ==========
Weighted average number of shares
outstanding...................... 15,989,055 5,369,461 29,531,669(/1/)
</TABLE>
- --------
For explanation of pro forma adjustments see Notes to Pro Forma Unaudited
Condensed Consolidated Statement of Operations Information.
(1) Assumes a $6.875 price per share. Assuming a $10.50 price per share,
weighted average number of shares outstanding would be 24,856,182 and net
loss per common share would be $.56. Assuming a $4.50 price per share,
weighted average number of shares outstanding would be 36,679,251 and net
loss per common share would be $.38.
15
<PAGE>
RISK FACTORS
Holders of Danielson and Midland Common Stock should consider carefully all
of the information set forth in this Joint Proxy Statement/Prospectus
including the information in the Appendices and, in particular, should
evaluate the specific factors set forth below for risks associated with the
Merger and ownership of Danielson Common Stock and Danielson Series A
Preferred Stock. This Joint Proxy Statement/Prospectus contains forward-
looking statements which involve risks and uncertainties. Danielson's and
Midland's actual results could differ materially from those anticipated in the
forward-looking statements as a result of certain factors, including those set
forth in the following risk factors and elsewhere in this Joint Proxy
Statement/Prospectus.
Holding Company Structure; Dividend Restrictions
Danielson (on a parent-only basis) currently is, and after the Merger will
continue to be, a holding company with substantially all its operations
conducted through its subsidiaries. Danielson, however, will be required to
make continuing expenditures for administrative expenses, corporate services
and dividends on Danielson Series A Preferred Stock. Danielson relies
primarily on its existing parent company cash and short-term investments to
meet its liquidity needs. Danielson may in the future also rely on dividends
and tax sharing payments from its subsidiaries to meet its obligations,
although there can be no assurance that such funds will be available.
Payments of future dividends by the insurance subsidiaries of Danielson and
Midland are subject to various laws and regulations which limit the amount of
dividends that can be paid without prior approval from the applicable state
department of insurance. None of NAICC, MRIC or SRIC is able to pay dividends
during 1996 without prior approval of the insurance regulators of California,
in the case of NAICC, and Tennessee, in the cases of MRIC and SRIC. It is
anticipated that Midland and NAICC will be able to pay dividends based on 1996
net income, if any. Under California and Tennessee laws, generally insurance
companies may not, without prior regulatory approval, pay dividends in excess
of their accumulated earned surplus and are further limited to the greater of
(i) 10% of the prior year's statutory surplus, and (ii) the prior year's
statutory net income. The maximum dividend amount permitted by law without
prior approval is not indicative of an insurer's actual ability to pay
dividends, which may be further constrained by business and regulatory
considerations, such as the impact of dividends on surplus which could affect
an insurer's ratings, its competitive position, the amount of premiums that it
can write and its risk-based capital ("RBC") requirements.
A prolonged material decline in insurance subsidiary profits or materially
adverse insurance regulatory developments could subject Danielson to shortages
of cash because of its resulting inability to receive dividends from its
subsidiaries.
Nature of the Business; Competition
The insurance business underwritten by Danielson and Midland is affected by
many factors such as weather conditions and economic activity that can cause
fluctuations in the results of operations. An economic downturn in the states
in which Danielson and Midland write business could result in fewer car sales,
less demand for automobile insurance and lower policy amounts in addition to
increased workers' compensation claims. Severe adverse weather conditions
could also adversely affect Danielson's and Midland's business. These factors,
together with competitive pricing, could result in increases in Danielson's
and Midland's loss ratios and fluctuations in Danielson's and Midland's
underwriting results and net income. Many of these factors are not subject to
the control of Danielson and Midland.
Danielson and Midland compete both with large national writers and with
smaller regional companies in each state in which they operate. Certain of
these competitors are larger and have greater financial resources than
Danielson and Midland. In addition, certain competitors of Danielson have,
from time to time, decreased their prices significantly to gain market share.
Danielson's and Midland's growth depends on their ability to expand in the
states in which they already do business and to expand into other states.
16
<PAGE>
Availability of NOL and Deferred Tax Asset
Danielson has a federal consolidated NOL expiring in the period through 2010
in an aggregate amount of approximately $1.4 billion at December 31, 1995.
Danielson expects that some or all of its consolidated NOL for federal income
tax purposes will be available to offset future taxable income, if any, of
Danielson and Midland and thereby reduce federal income tax payments after the
Effective Time. The continued availability of the NOL is premised on the
conclusion that the "principal purpose" of each of the Merger and Danielson's
restructuring and reorganization as successor to Mission is related to valid
business objectives and not to enable Danielson to utilize its NOL. The
Internal Revenue Service ("IRS") has not examined Danielson's tax returns for
the years in which the losses giving rise to the NOL were reported. The IRS
may attempt to challenge the amount or availability of the NOL in the event of
a future tax audit of such year or years in which the NOL is utilized. A
disallowance by the IRS of all or a portion of the NOL recognized by Danielson
could, if sustained by the courts, effectively eliminate Danielson's NOL and
could, therefore, have an adverse effect on Danielson's financial condition.
Upon the consummation of the Merger and in accordance with SFAS 109,
Danielson will increase its paid-in capital by approximately $150 million to
recognize a portion of its NOL. The amount of the corresponding deferred tax
asset reflects, among other things, Danielson's best estimate, as of June
1996, of the post-Merger taxable income of Danielson, NAICC, Midland and
Danielson Trust. Some of the assumptions underlying Danielson's estimate
inevitably will not materialize, and unanticipated events may occur which
could affect Danielson's actual results, positively or negatively. Danielson
periodically reevaluates the assumptions underlying such deferred tax asset.
Any material change in these assumptions could result in a corresponding
adjustment to the deferred tax asset. See "DANIELSON'S NOL AND DEFERRED TAX
ASSET."
Regulation
Insurance companies are subject to insurance laws and regulations
established by the states in which they transact business. The agencies
established pursuant to these state laws have broad administrative and
supervisory powers relating to the granting and revocation of licenses to
transact insurance business, regulation of trade practices, establishment of
guaranty associations, licensing of agents, approval of policy forms, premium
rate filing requirements, reserve requirements, the form and content of
required regulatory financial statements, periodic examinations of insurers'
records, capital and surplus requirements and the maximum concentrations of
certain classes of investments. These laws, in general, also require approval
of the particular insurance regulators prior to certain actions by the
insurance companies, such as the payment of dividends in excess of statutory
limitations (as discussed under "Holding Company Structure; Dividend
Restrictions" above) and certain transactions and continuing service
arrangements with affiliates. The laws of most states provide for the filing
of premium rate schedules and other information with the insurance
commissioner, either directly or through rating organizations. The
commissioner generally has powers to disapprove such filings or make changes
to the rates if they are found to be excessive, inadequate or unfairly
discriminatory. The determination of rates is based on various factors,
including loss and loss adjustment expense experience. The failure to obtain,
or delay in obtaining, the required approvals could have an adverse impact on
the operations of Danielson's and Midland's insurance subsidiaries.
The National Association of Insurance Commissioners (the "Association") has
adopted the Risk-Based Capital For Insurers Model Act (the "Model Act") which
applies to property and casualty companies. The RBC formulas serve as
benchmarks for regulators to evaluate capital adequacy. The Model Act provides
for increasing levels of regulatory intervention as the ratio of an insurer's
total adjusted capital and surplus decreases relative to its RBC, culminating
with mandatory control of the operations of the insurer by the domiciliary
insurance department at the so-called "mandatory control level." The RBC
formulas became effective in 1994 for property and casualty companies. Based
on the 1995 results, all of Danielson's and Midland's insurance subsidiaries
meet or exceed all minimum applicable RBC standards developed by the
Association.
Adequacy of Provisions for Unpaid Losses and Loss Adjustment Expenses
The insurance subsidiaries of Danielson and Midland establish provisions to
cover their estimated liability for losses and loss adjustment expenses
("LAE") with respect to both reported and unreported claims as of the
17
<PAGE>
end of each accounting period. By their nature, such provisions for unpaid
losses and LAE do not represent an exact calculation of liabilities. Rather,
such provisions for unpaid losses and LAE are estimates involving management's
projections as to the ultimate settlement and administration of claims. These
expectations are, in turn, based on facts and circumstances known at the time,
predictions of future events, estimates of future trends in the severity and
frequency of claims and judicial theories of liability as well as inflation.
NAICC and Midland regularly review their respective reserve techniques and
reserve positions and believe that adequate provision has been made for their
respective unpaid losses and LAE. There can be no assurance that currently
established provisions for unpaid losses and LAE will prove adequate in light
of subsequent actual experience. Future earnings could be adversely impacted
should future loss development require increases in provisions for unpaid
losses and LAE previously established for prior periods.
Investment Portfolio; Effects of Changes in Interest Rates
The respective investment portfolios of Danielson's and Midland's insurance
subsidiaries include fixed maturity securities, such as investment grade and
publicly-traded corporate debt securities. In addition, Danielson's investment
portfolio includes mortgage-backed securities, including collateralized
mortgage obligations. Certain risks are inherent in connection with fixed
maturity securities, including loss upon default and price volatility in
reaction to changes in interest rates and general market factors. Certain
additional risks are inherent with mortgage-backed securities, including the
risks associated with reinvestment of proceeds due to prepayments of such
obligations in a period of declining interest rates.
Potential Market Effect of Public Offering
In deciding whether to approve the Merger, holders of Danielson Common Stock
and holders of Midland Common Stock who may receive Danielson Common Stock in
the Merger should consider the potential effect of the Public Offering on the
market value of Danielson Common Stock. Danielson intends to use a substantial
portion of the net proceeds of the Public Offering to pay the cash portion of
the Merger consideration and at least a portion of the Capital Contribution.
Danielson retains the ability to attempt to use debt and other capital markets
for up to half of the Capital Contribution if, in Danielson's judgment, the
pricing of the Public Offering would be adversely affected by an attempt to
raise the entire amount of the Capital Contribution in the Public Offering.
However, Danielson is not permitted under the Merger Agreement to refuse to
sell Danielson Common Stock in the Public Offering solely because the pricing
of such offering is below the historic trading range of Danielson's Common
Stock. It is impossible to predict the effect that equity market conditions
generally, and the market's perception of the proposed Merger specifically,
may have on the trading price of Danielson Common Stock in the short-term. It
is possible that the Public Offering will be priced at some discount to the
trading price of Danielson Common Stock during the period prior to the
Meetings and the Effective Time. Consequently, if the trading range of
Danielson Common Stock during that period is below its historic trading range,
it is likely that Danielson will be required to sell Danielson Common Stock in
the Public Offering at a price that is below the historic market value of that
security, and it is possible that such price may be below the value ascribed
to Danielson Common Stock pursuant to the terms of the Merger Agreement for
purposes of determining the consideration issuable to Midland holders in the
Merger. Both the Danielson Board and the Midland Board have determined, that
if, after receipt of stockholder approval at the Meetings, either the average
of the closing prices of Danielson Common Stock on the AMEX during the 20 days
prior to the Offering Pricing Date or the pricing of Danielson Common Stock in
the Public Offering is less than $4.50 or more than $10.50 per share, the
Merger will not be consummated unless it is approved on the basis of revised
proxy materials specifically disclosing such Public Offering price or closing
price average. Approval of the Merger Proposal will authorize Danielson to
issue up to 18,889,000 shares of Danielson Common Stock in the Public
Offering. The actual number of shares of Danielson Common Stock that will be
issued in the Public Offering will be dependent upon the pricing obtained in
the Public Offering, but Danielson could issue a total number of shares in
such offering ranging from approximately 18.9 million shares, assuming a price
of $4.50 per share in the offering, to 8.1 million shares assuming a price of
$10.50 per share in the offering.
Possible Dilutive Effect of Merger on Danielson Common Stock
Shares of Danielson Common Stock issued to Midland stockholders as
consideration in the Merger will be valued for purposes of the Merger at the
average of the closing prices of Danielson Common Stock on the AMEX
18
<PAGE>
for each day on which trading of Danielson Common Stock took place during the
period beginning on the date 20 days prior to the Offering Pricing Date and
ending on the day prior to the Offering Pricing Date, but in no event shall
such price be lower than $4.50 per share nor more than $10.50 per share. If
the average trading price of Danielson Common Stock over that 20-day period is
negatively affected either by market conditions in effect generally during
that period or by trading specifically affecting Danielson Common Stock in
advance of the Merger, the value ascribed to Danielson Common Stock in the
Merger could be below its historic trading range and below its average trading
price if measured over a longer period of time. If the value of Danielson
Common Stock is negatively affected in the manner described above, the impact
will be materially worse for any Midland stockholder who elects to receive
Danielson Common Stock, as compared to a Midland stockholder who elects cash,
in the Merger. Both the Danielson Board and the Midland Board have determined,
that if, after receipt of stockholder approval at the meetings, either the
average of the closing prices of the Danielson Common Stock on the AMEX during
the 20 days prior to the Offering Pricing Date or the pricing of Danielson
Common Stock in the Public Offering is less than $4.50 or more than $10.50 per
share, the Merger will not be consummated unless it is approved on the basis
of revised proxy materials specifically disclosing such Public Offering price
or closing price average.
Absence of Public Market for Danielson Series A Preferred Stock
The shares of Danielson Series A Preferred Stock issued in the Merger will
be new securities for which there currently is no market. There can be no
assurance as to the liquidity of any market that may develop for Danielson
Series A Preferred Stock, the ability of holders of Danielson Series A
Preferred Stock to sell such stock, or the price at which holders will be able
to sell Danielson Series A Preferred Stock. Future trading prices of Danielson
Series A Preferred Stock will depend on many factors, including, among other
things, Danielson's operating results and the market for similar securities.
Under the terms of the Merger Agreement, Danielson is required to use its best
efforts to cause Danielson Series A Preferred Stock to be listed on the AMEX,
NYSE or NASDAQ. It is a condition to the consummation of the Merger that
Danielson Series A Preferred Stock be approved for listing on the AMEX, NYSE
or NASDAQ. There can be no assurance, however, that any active market for
Danielson Series A Preferred Stock will develop. If for any reason Danielson
Series A Preferred Stock is listed on a recognized national securities
exchange but owned by a limited number of holders, it is unlikely that an
active trading market will exist for that security, and as a result, it would
have very limited liquidity.
Control; 5% Limitation
Pursuant to Section 382 of the Code, a corporation possessing an NOL (a
"loss corporation") would be restricted in the use of its NOL if the loss
corporation were to undergo an "ownership change" within the meaning of the
Code and regulations promulgated thereunder. Danielson believes that the
issuance of Danielson equity securities in the Merger and the Public Offering
will not cause an ownership change which would restrict the ability of
Danielson to utilize its NOL. Danielson's ability to issue significant amounts
of Danielson Common Stock in connection with future acquisitions, however, may
be limited by such ownership change rules.
In order to avoid an ownership change and, thus, to protect Danielson's
ability to utilize its NOL, Danielson's Certificate of Incorporation contains
a stock ownership limitation (the "5% Limitation") as a restriction on the
ability of certain existing or potential stockholders to acquire securities of
Danielson. See "DESCRIPTION OF DANIELSON CAPITAL STOCK--Danielson Common
Stock, Transfer Restrictions." If such provisions for any reason do not prove
adequate to prevent an ownership change, Danielson's NOL may not be available
to offset its future taxable income. The 5% Limitation, however, may also have
the effect of preserving effective control of Danielson by its principal
stockholders and preserving the Danielson Board's and management's tenure with
Danielson. Danielson's Certificate of Incorporation also contains provisions
requiring Danielson to issue in Danielson's name, as escrow agent,
certificates representing shares of Danielson Common Stock that are
beneficially owned by holders of 5% or more of such stock ("5% Stockholders"),
and to hold such shares until receipt of a written request from a 5%
Stockholder to transfer such shares. Danielson may refuse such request upon
the advice of its tax counsel that such transfer would create an unreasonable
risk of an "ownership change" under Section 382 of the Code. The effect of
such provisions may deter a change in control of Danielson.
19
<PAGE>
INTRODUCTION
MEETINGS OF STOCKHOLDERS
This Joint Proxy Statement/Prospectus is being furnished to the holders of
Danielson Common Stock in connection with the solicitation of proxies by and
on behalf of the Danielson Board for use at the Danielson Meeting to be held
at 1:00 p.m., New York time, on August 2, 1996, at The New York Marriott East
Side Hotel, 525 Lexington Avenue (between 48th and 49th Streets), New York,
New York, and at any adjournments thereof. The Danielson Board has fixed the
close of business on June 27, 1996 as the Danielson Record Date for
determining the stockholders of Danielson entitled to vote at the Danielson
Meeting. This Joint Proxy Statement/Prospectus and the enclosed proxy are
first being sent to holders of Danielson Common Stock on or about July 5,
1996.
This Joint Proxy Statement/Prospectus is also being furnished to the holders
of Midland Common Stock in connection with the solicitation of proxies by and
on behalf of the Midland Board for use at the Midland Meeting to be held at
10:00 a.m., New York time, on August 2, 1996, at The New York Marriott East
Side Hotel, 525 Lexington Avenue (between 48th and 49th Streets), New York,
New York, and at any adjournments thereof. The Midland Board has fixed the
close of business on June 14, 1996 as the Midland Record Date for determining
the stockholders of Midland entitled to vote at the Midland Meeting. This
Joint Proxy Statement/Prospectus and the enclosed proxy are first being sent
to holders of Midland Common Stock on or about July 5, 1996.
PURPOSE OF MEETINGS
At the Danielson Meeting, Danielson's stockholders will consider and vote
upon the Merger Proposal. Approval of the Merger Proposal constitutes approval
of the Merger, the Common Stock Issuance, the Preferred Stock Terms, the
Authorized Capital Charter Amendment and the Non-Voting Stock Charter
Amendment. Danielson stockholders will also consider and vote at the Danielson
Meeting on the election of nine directors of Danielson for the ensuing year,
the ratification of the selection of KPMG Peat Marwick LLP as Danielson's
independent accountants for the year ending December 31, 1996 and such other
business as may properly come before the Danielson Meeting or any adjournments
thereof.
At the Midland Meeting, Midland's stockholders will consider and vote upon
(i) the approval and adoption of the Merger Agreement and (ii) such other
business as may properly come before the Midland Meeting or any adjournments
thereof.
VOTING REQUIREMENTS AT MEETINGS
At the Danielson Meeting, approval and adoption of the Merger Proposal
require the affirmative vote of holders of a majority of the outstanding
Danielson Common Stock or holders of 7,680,128 shares of Danielson Common
Stock. The election of directors at the Danielson Meeting requires a plurality
of votes cast by the Danielson stockholders entitled to vote thereon at the
Danielson Meeting (at which a quorum must be present). Ratification of the
selection of KPMG Peat Marwick LLP as Danielson's independent public
accountants for the year ending December 31, 1996 requires the affirmative
vote of a majority of the votes cast at the Danielson Meeting by holders of
Danielson Common Stock.
The presence at the Danielson Meeting, in person or by proxy, of the holders
of a majority of the total number of shares of Danielson Common Stock
outstanding on the Danielson Record Date will constitute a quorum for the
transaction of business by such holders at the Danielson Meeting. On the
Danielson Record Date, there were 15,360,755 outstanding shares of Danielson
Common Stock, each holder of which is entitled to one vote per share with
respect to each matter to be voted on at the Danielson Meeting, except that,
pursuant to the provisions of the Certificate of Incorporation of Danielson,
voting for directors may be cumulative if, prior to the voting, any
stockholder gives notice of such stockholder's intention to vote cumulatively.
In the event of cumulative voting, each stockholder may give any one candidate
a number of votes equal to the number of
20
<PAGE>
directors to be elected multiplied by the number of shares held by such
stockholder, or may distribute such votes on the same principle among as many
candidates as the stockholder elects. Danielson has no class or series of
stock outstanding other than Danielson Common Stock entitled to vote at the
Danielson Meeting.
At the Midland Meeting, approval and adoption of the Merger Agreement
require the affirmative vote of the holders of a majority of the outstanding
shares of Midland Common Stock or holders of 2,773,262 shares of Midland
Common Stock. The presence at the Midland Meeting, in person or by proxy, of
the holders of 2,773,262 of the total number of shares of Midland Common Stock
outstanding on the Midland Record Date will constitute a quorum for the
transaction of business by such holders at the Midland Meeting. On the Midland
Record Date, there were 5,546,522 outstanding shares of Midland Common Stock,
each holder of which is entitled to one vote per share with respect to each
matter to be voted on at the Midland Meeting. Midland has no class or series
of stock outstanding other than Midland Common Stock entitled to vote at the
Midland Meeting.
At the Meetings, abstentions and broker non-votes (as hereinafter defined)
will be counted as present for the purpose of determining the presence of a
quorum. For the purpose of computing the vote required for approval of matters
to be voted on at the Meetings, shares held by stockholders who abstain from
voting will be treated as being "present" and "entitled to vote" on the matter
and, thus, an abstention has the same legal effect as a vote against the
matter, except that abstentions will have no effect on the election of
directors of Danielson. However, in the case of a broker non-vote or where a
stockholder withholds authority from his proxy to vote the proxy as to a
particular matter, such shares will not be treated as "present" and "entitled
to vote" on the matter and, thus, a broker non-vote or the withholding of a
proxy's authority will have no effect on the outcome of the vote on the
matter. A "broker non-vote" refers to shares represented at the Meetings in
person or by proxy by a broker or nominee where such broker or nominee (i) has
not received voting instructions on a particular matter from the beneficial
owners or persons entitled to vote and (ii) the broker or nominee does not
have the discretionary voting power on such matter.
PROXIES
All proxies that are properly executed by holders of Danielson Common Stock
and received by Danielson prior to the Danielson Meeting will be voted in
accordance with the instructions noted thereon. Any proxy that does not
specify to the contrary will be voted in favor of the Merger Proposal, the
nominees for election as directors and in favor of the ratification of
Danielson's independent certified public accountants. Any holder of Danielson
Common Stock who submits a proxy will have the right to revoke it, at any time
before it is voted, by filing with the Secretary of Danielson written notice
of revocation or a duly executed later-dated proxy, or by attending the
Danielson Meeting and voting such Danielson Common Stock in person.
All proxies that are properly executed by holders of Midland Common Stock
and received by Midland prior to the Midland Meeting will be voted in
accordance with instructions noted thereon. Any proxy that does not specify to
the contrary will be voted in favor of approval and adoption of the Merger
Agreement. Any holder of Midland Common Stock who submits a proxy will have
the right to revoke it, at any time before it is voted, by filing with the
Secretary of Midland written notice of revocation or a duly executed later-
dated proxy, or by attending the Midland Meeting and voting such Midland
Common Stock in person.
All costs relating to the solicitation of proxies of holders of Danielson
Common Stock and Midland Common Stock will be borne by Danielson and Midland,
respectively. Proxies may be solicited by officers, directors and regular
employees of Danielson and Midland and their subsidiaries personally, by mail
or by telephone or otherwise. Danielson has engaged the proxy soliciting firm
of Georgeson & Co., Inc., Wall Street Plaza, New York, New York 10005 at an
estimated cost of $6,500 (plus out-of-pocket expenses), to solicit proxies in
connection with the Danielson Meeting. Midland retains Corporate
Communications, Inc. as its stockholder communications agent. In connection
with such retention, Corporate Communications, Inc. will solicit proxies for
Midland in connection with the Midland Meeting and will be reimbursed for out-
of-pocket expenses incurred in connection with such solicitation. Although
there is no formal agreement to do so, Danielson and Midland may reimburse
banks, brokerage houses and other custodians, nominees and fiduciaries
21
<PAGE>
holding shares of stock in their names or those of their nominees for their
reasonable expenses in sending solicitation material to their principals.
It is important that proxies be returned promptly. Stockholders who do not
expect to attend the respective Meetings of Danielson and Midland in person
are urged to mark, sign and date the respective accompanying proxy and mail it
in the enclosed return envelope, which requires no postage if mailed in the
United States, so that their votes can be recorded.
22
<PAGE>
THE MERGER
GENERAL
This Section of the Joint Proxy Statement/Prospectus describes certain
aspects of the Merger, the Merger Agreement and other related matters. The
following description does not purport to be complete and is qualified in its
entirety by reference to the Merger Agreement, which is attached as Appendix A
to this Joint Proxy Statement/Prospectus and is incorporated herein by
reference. All Danielson and Midland stockholders are urged to read the Merger
Agreement in its entirety.
The Merger Agreement provides that, subject to the satisfaction or waiver of
certain conditions, including but not limited to the receipt of all necessary
third party, regulatory and stockholder approvals, Midland will be merged with
and into Merger Sub. As a result of the Merger, the separate corporate
existence of Midland will cease, and the shares of Midland Common Stock
outstanding prior to the Effective Time will be converted into a right to
receive the consideration provided for in the Merger Agreement.
BACKGROUND OF THE MERGER
Since 1990, when Danielson's current management assumed control of
Danielson, Danielson's strategy has been to grow through strategic
acquisitions. In pursuing that strategy, Danielson in recent years has
analyzed, and in some instances had discussions with respect to, a variety of
possible acquisitions.
In view of the competitive environment of the specialty insurance field, the
Midland Board and senior management of Midland have regularly reviewed various
strategies and transactions intended to enhance Midland stockholder values.
In late November 1995, Midland received an unsolicited expression of
interest from a U.S. subsidiary of a large international insurance company
("Company A"). Messrs. McLeary, Zanone and Gray of Midland met with
representatives of Company A on December 11, 1995 to discuss Company A's
interest in a potential business combination. Company A did not execute a
confidentiality agreement and received no information about Midland except for
publicly-filed documents. Representatives of Company A visited Midland on
January 29, 1996.
Shortly after the December 11 meeting with Company A, Midland received a
second unsolicited expression of interest from a national privately-held
insurance company ("Company B"). Representatives of Midland, including Messrs.
Gray, Zanone and Farmer, met with representatives of Company B on December 13,
1995. After this initial meeting, Company B made no further inquiries of
Midland relative to a business combination.
Stephens, an investment banking company which follows the stock of Midland
and which is also familiar with Danielson, contacted Midland in December 1995,
about a possible meeting between representatives of Midland and Danielson. On
January 16, 1996, Messrs. McLeary, Zanone and Gray of Midland met with Mr.
Rhein of Danielson, Mr. Story of NAICC and a representative of Stephens to
discuss developments affecting their respective companies. During the course
of this meeting, they also discussed the possibility of a strategic business
combination between Danielson and Midland and concluded that further
discussions would be appropriate in light of the unique potential benefits of
such a transaction to both companies and their respective stockholders.
On January 19, 1996, Danielson executed a confidentiality agreement at
Midland's request.
On January 30 and 31, 1996, Messrs. Rhein and Story of Danielson and
representatives of DLJ and Stephens met with Messrs. McLeary, Zanone, Gray,
Farmer and Ms. Barham of Midland and Mr. Bender, a director of Midland and a
Managing Director of R-H, to continue discussions with regard to a possible
strategic business combination. Principal matters discussed in these meetings
included valuation as well as the structure of the proposed transaction
(particularly in light of issues relating to Danielson's NOL) and the
operation of Midland
23
<PAGE>
as an independent subsidiary of Danielson upon consummation of the proposed
transaction. The parties also discussed the October 1995 downgrading by A.M.
Best of the rating of Midland and the ways in which Danielson could assist
Midland, either by facilitating financial accommodations or by direct cash
infusion, to be upgraded by A.M. Best. Additionally, the parties identified
the duplication of efforts in the operating aspects of the insurance business,
including accounting and claims handling, which would result from a strategic
business combination between Danielson and Midland and undertook to explore
whether any synergies or opportunities for cost reduction would result from
the common ownership of their respective operations.
At the regular meeting of the Midland Board on February 9, 1996, the Midland
Board discussed the status of the discussions with Company A, Company B and
Danielson. At this meeting, the Midland Board agreed to retain R-H as its
financial advisor and instructed R-H to identify candidates for a possible
strategic combination.
Subsequent to this meeting and recognizing the pace at which the
negotiations with Danielson were proceeding and the operational issues Midland
needed to address, R-H prepared a confidential memorandum regarding Midland
and identified and contacted 11 potential acquirors. In its initial contact,
R-H did not disclose the name of Midland but only inquired as to the potential
acquirors' general interest in a transaction. Six potential acquirors agreed
to sign confidentiality agreements and received a confidential memorandum
regarding Midland which included a general description of Midland's operations
and target market. The confidential memorandum distributed to the six
potential acquirors did not contain any financial forecasts or material non-
public information. In addition, R-H contacted Company A and was informed that
Company A was no longer interested in continuing discussions. An attempt to
contact Company B was unsuccessful and neither R-H nor Midland heard anything
further from Company B.
On February 13, 1996, representatives of senior management of both Danielson
and Midland met and developed a preliminary draft term sheet relating to a
possible merger involving such companies.
Between February 14 and 17, 1996, representatives of Midland began
conducting a due diligence review of Danielson. In addition, Mr. Gray and a
representative of R-H conducted a due diligence review of Danielson which
included an on-site review of the operations of NAICC in Long Beach,
California and Danielson Trust in San Diego, California. During that same
period, representatives of Danielson and DLJ conducted an on-site diligence
review of Midland in Phoenix, Arizona; Dallas, Texas and in Nashville,
Tennessee.
During the period from February 19, 1996 through February 26, 1996,
negotiations regarding the Merger took place involving various members of
management of Danielson and Midland and their respective advisors, and
beginning on February 21, 1996, numerous drafts of the Merger Agreement were
distributed. In addition, during that period representatives of both companies
continued their preliminary business due diligence.
On February 21, 1996, representatives of Company C, a large regional multi-
line property and casualty insurance company that was one of the companies R-H
had identified in connection with its engagement by Midland, met with Messrs.
McLeary, Zanone and Gray of Midland to discuss its potential interest in a
business combination. On that same day, Midland received a draft copy of a
formal written proposal from Danielson regarding a business combination, which
by its terms required a response from Midland prior to the stock market
opening on Monday, February 26, 1996. Following the receipt of the Danielson
proposal, Midland was informed orally by Danielson that its proposal would
remain outstanding only for a limited period of time. The final version of the
written proposal was delivered to Midland on February 23, 1996. Beginning,
however, with the delivery of the draft proposal, the legal advisers of
Danielson and Midland began negotiating a definitive merger agreement to be
presented to the Danielson Board and the Midland Board. Danielson's proposal
contemplated the acquisition by Danielson of all the issued and outstanding
stock of Midland by means of a merger. The price proposed was 1.6 times
Midland's December 31, 1995 stockholders' equity, to be paid 50% in cash, 40%
in Danielson Series A Preferred Stock and 10% in Danielson Common Stock.
In light of Danielson's formal proposal to Midland and Danielson's
statements that its proposal would be withdrawn in a short time if not
accepted by Midland, R-H contacted the companies to whom it had sent
24
<PAGE>
information regarding Midland to determine if there were any present interest
in pursuing discussions with Midland on an accelerated timetable. Several of
the companies contacted by R-H expressed preliminary interest in visiting
Midland in order to learn more about Midland. However, neither R-H nor Midland
received any definitive expressions of interest from those companies. R-H and
Midland management viewed the Danielson proposal as a viable alternative and,
in light of the inability of the other companies contacted to respond to
Midland in a timely fashion and their inability to express a definitive
interest in a business combination, Midland chose to pursue discussions with
Danielson. Faced with the pending withdrawal of the Danielson proposal and, in
light of the fact that Danielson had conducted preliminary due diligence on
Midland and was aware of Midland's operating results for 1995 and the benefit
of additional capital, it was decided that the Midland Board should convene to
deliberate on the Danielson proposal. Specifically, Company C indicated it had
relatively limited interest in Midland and no interest in pursuing a
transaction under the accelerated timetable imposed by the pending offer.
On February 25, 1996, the Danielson Board held a telephonic meeting
regarding the terms of the proposed Merger in which representatives of
Stephens, DLJ and Anderson Kill Olick & Oshinsky, P.C., counsel for Danielson,
participated by invitation of the Danielson Board. At that meeting, Stephens
advised the Danielson Board that it believed it would be able, prior to the
mailing of this Joint Proxy Statement/Prospectus, to render a written fairness
opinion stating that the Merger is fair, from a financial point of view, to
Danielson. Stephens advised the Danielson Board at that meeting that its views
were preliminary in light of the lack of audited financial statements for the
year ended December 31, 1995 and the continuing nature of Stephen's and
Danielson's due diligence with respect to Midland. At that meeting, the
Danielson Board also heard a presentation from representatives of DLJ with
respect to its assessment of its ability, on behalf of Danielson, to complete
the Public Offering and raise the cash required for the Merger consideration.
After such presentations, the Danielson Board unanimously approved the Merger
and the Merger Agreement.
The Midland Board met all day on February 26, 1996 to consider the proposed
transaction. Mr. Ross Johnson was absent from the meeting and Mr. Bender
reminded the Midland Board that he serves as a Managing Director of R-H and
would abstain from voting on the Merger Agreement. The Midland Board heard a
presentation from Mr. Rhein, President and Chief Executive Officer of
Danielson concerning the transaction from Danielson's point of view and a
presentation from representatives of DLJ with respect to its belief in its
ability to complete the Public Offering and raise the cash required for the
Merger consideration and Capital Contribution.
The Midland Board then heard a presentation from R-H with respect to the
results of its efforts to identify candidates for a possible strategic
combination and the fairness of the proposed Danielson transaction to Midland
stockholders from a financial point of view and a presentation from its legal
advisers with respect to legal issues raised by the proposed transaction. See
"THE MERGER--Opinion of Midland's Financial Advisor." The Board then
deliberated on the terms of the proposed Danielson transaction and discussed
in detail the various considerations identified below under "Reasons for the
Merger; Recommendations of the Midland Board." After additional negotiations
with Mr. Rhein and Danielson's advisors, and after considering the
presentations of its legal and financial advisors and presentations from
certain of its officers with respect to the financial performance, condition,
business operations and prospects of Midland on a stand-alone basis (including
the recent losses) the due diligence review of Danielson, and the belief of
Danielson's management and DLJ's assessment of its ability to raise the cash
required for the Merger consideration and Capital Contribution, the Midland
Board approved the Merger Agreement by the unanimous vote of all Midland
directors present at the meeting (other than Mr. Bender who abstained for the
reasons stated above). Mr. Johnson subsequently advised the Midland Board of
his support for the Merger and the Merger Agreement.
On the evening of February 26, 1996, Danielson and Midland executed the
Merger Agreement.
On May 2, 1996, Midland received a letter from counsel for stockholders who
own approximately 9.1% of the Midland Common Stock alleging that the Midland
Board, in entering into the Merger Agreement, failed to fulfill its fiduciary
duties to Midland's stockholders and that the transaction is unfair to, and
not in the best
25
<PAGE>
interest of, Midland's stockholders. Such stockholders also demanded to meet
with the Midland Board. Three of the stockholders served on the Midland Board
from 1980 to 1992. The stockholders filed a Schedule 13D with the SEC
disclosing their intent to act as a group with respect to their ownership of
Midland Common Stock. Midland's counsel responded on behalf of the Midland
Board by denying any claim that the Midland Board failed to fulfill its
fiduciary duty and declining to schedule a meeting with such stockholders.
On June 14, 1996, Midland received two additional letters from counsel for
the stockholders, although it appears the number of stockholders and shares
owned by these stockholders have apparently decreased to approximately 4.8%
from the earlier 9.1% described above. One of the letters states that the
stockholders intend to file direct claims on their own behalf and derivative
claims on behalf of Midland against the Midland Board and each Midland
director who voted in favor of the Merger and who has not withdrawn his vote
unless the Midland directors terminate the Merger, take steps to protect
Midland from potential liability under the Merger Agreement, seek alternative
means of financing to address Midland's current financial issues and, if
appropriate, take steps to seek a merger or other acquisition that will
realize for the Midland stockholders the best value reasonably available. The
second letter requests copies of and the right to inspect certain corporate
documents. The Midland Board reviewed the letters and confirmed its earlier
conclusion that the terms of the Merger are fair to, and in the best interest
of, Midland and its stockholders. Midland's counsel, on behalf of Midland,
related this determination to counsel for the stockholders. Midland provided
the stockholders certain documents to which any stockholder of Midland is
entitled pursuant to the corporate laws of the State of Tennessee.
REASONS FOR THE MERGER; RECOMMENDATION OF THE DANIELSON BOARD
The Danielson Board has unanimously approved the Merger, the Merger
Agreement, the Common Stock Issuance, the Preferred Stock Terms, the
Authorized Capital Charter Amendment and the Non-Voting Stock Charter
Amendment and has determined that the Merger and the Merger Agreement and the
related transactions are in the best interests of Danielson and fair to
Danielson's stockholders from a financial point of view. The Danielson Board
unanimously recommends that the stockholders of Danielson vote FOR approval of
the Merger Proposal.
The Danielson Board considered the following factors in reaching its
conclusion to approve the Merger and to recommend that Danielson stockholders
approve the Merger Proposal:
(a) Danielson's strategic objective of expanding its specialty insurance
business through acquisitions. The Danielson Board viewed this factor as
favorable to its determination because an acquisition of Midland, with its
book of specialty insurance business, would significantly advance that
strategy by increasing the volume of Danielson's existing specialty
insurance business and by giving Danielson a presence in regional markets
in which it currently does not conduct business;
(b) the benefits expected to result from common ownership of NAICC and
Midland. The Danielson Board viewed such factor as favorable to its
determination because it believed that Midland's business would benefit
from the availability of NAICC's claims handling functions and systems
controls in California and Arizona. The Danielson Board also believed that
common ownership of NAICC and Midland could enhance combined profitability
through the pooling of certain personnel of the two operations;
(c) the terms and conditions of the Merger and the Merger Agreement and
related transactions, including the amount and form of consideration to be
paid by Danielson in the Merger. In this regard, the Danielson Board viewed
as favorable to its determination the limitation, under the terms of the
Merger Agreement, on the amount of Danielson Common Stock issuable as
Merger consideration to 10% of the total consideration to be paid in the
Merger, thereby enabling it to avoid an "ownership change" within the
meaning of Section 382(g) of the Code and preserve its NOL;
(d) the financial presentation of Stephens delivered to the Danielson
Board at its meeting on July 1, 1996, including its written opinion to the
Danielson Board dated the date of this Joint Proxy Statement/Prospectus, to
the effect that, as of such date and based upon and subject to certain
matters stated therein, the Merger is fair, from a financial point of view,
to Danielson. See "THE MERGER--Opinion of
26
<PAGE>
Danielson's Financial Advisor-Stephens." The Danielson Board viewed such
factor as favorable to its determination because Stephens is a nationally
recognized investment banking firm with experience in the valuation of
businesses and their securities in connection with mergers, acquisitions
and other business combinations; and
(e) alternatives to the Merger, including the time, expense and
uncertainty associated with attempting to achieve through internal growth
of Danielson's existing insurance business the level of specialty insurance
currently written by Midland.
The Danielson Board also considered certain potentially negative factors in
its deliberation concerning the Merger, including, among others:
(a) the recent downgrading by A.M. Best of the rating of Midland to B
from B+, and the effect that this downgrading has had and would likely have
on Midland;
(b) the historical variability in Midland's operating results;
(c) the inability to predict at that time the price at which Danielson
Common Stock will be sold in the Public Offering and the possibility that
such price may be below the historic trading range of Danielson Common
Stock; and
(d) the inability to predict at that time the dividend rate which would
be established for Danielson Series A Preferred Stock; and
(e) the conditions, including regulatory approvals, required in
connection with the Merger and related transactions, as well as the risks,
uncertainties and possible delays associated with the consummation of the
Merger and related transactions, and the estimated length of time and costs
associated with consummating the Merger and related transactions.
The Danielson Board also considered the February 25, 1996 financial
presentation of DLJ, including its letter to Danielson (a copy of which is
attached as Appendix D), to the effect that DLJ believes, subject to the
matters stated in that presentation and letter, that the Public Offering can
be consummated.
Based on all of these considerations, and such other matters as the members
of the Danielson Board deemed relevant, the members of the Danielson Board
unanimously approved the Merger.
In evaluating the presentations made by Stephens and DLJ, the Danielson
Board took into account the fact that each of those firms will be entitled to
a fee upon consummation of the Merger. No officers or directors of Danielson
have any interest in the Merger other than their interests as stockholders of
Danielson generally.
In reaching its conclusion, the Danielson Board did not establish a specific
value for Danielson or Danielson Common Stock. The Danielson Board did,
however, conclude that the issuance of Danielson Common Stock to Midland
stockholders in the Merger would be in the best interests of Danielson and
fair to its stockholders at any valuation of Danielson Common Stock in excess
of the minimum $5.00 price provided for in the Merger Agreement.
The foregoing discussion of the information and factors considered by the
Danielson Board is not intended to be exhaustive but is believed to include
all material factors considered by the Danielson Board. The Danielson Board
was unanimous in its recommendation to Danielson stockholders that the Common
Stock Issuance Proposal, the Preferred Stock Terms Proposal, the Danielson
Authorized Capital Proposal and the Non-Voting Stock Charter Amendment be
approved.
27
<PAGE>
THE DANIELSON BOARD RECOMMENDS THAT DANIELSON STOCKHOLDERS VOTE FOR APPROVAL
OF THE MERGER PROPOSAL.
OPINION OF DANIELSON'S FINANCIAL ADVISOR--STEPHENS
Stephens was retained by Danielson to act as its financial advisor in
connection with the Merger. In connection therewith, Danielson requested that
Stephens evaluate the fairness, from a financial point of view, to Danielson
of the amount and nature of the consideration to be paid to holders of Midland
Common Stock in the Merger. At the meeting of the Danielson Board held on
February 25, 1996, Stephens advised the Danielson Board that Stephens believed
that it would be able to render, prior to the mailing of this Joint Proxy
Statement/Prospectus, a written opinion stating that the terms of the Merger,
taken together, were fair, from a financial point of view, to Danielson. On
July 1, 1996, an oral fairness opinion was delivered by Stephens to the
Danielson Board, with a written opinion delivered on the date hereof. In
connection with the delivery of its written opinion, Stephens reviewed the
assumptions on which its analyses were based and the factors considered in
connection therewith.
In arriving at its written opinion, Stephens reviewed the Merger Agreement,
the exhibits thereto, and held discussions with certain senior officers,
directors and other representatives and advisors of Midland and Danielson
concerning the business, operations and prospects of Midland and Danielson.
Stephens examined certain publicly available business and financial
information relating to Midland and Danielson, as well as certain financial
forecasts and other data for Midland and Danielson, which were provided to
Stephens by Midland and Danielson, or other representatives and advisors of
Midland and Danielson, including information relating to certain strategic
implications and operational benefits anticipated from the Merger. Stephens
reviewed the financial terms of the Merger as set forth in the Merger
Agreement in relation to, among other things: current and historical market
prices and trading volumes of Midland Common Stock and Danielson Common Stock,
the respective companies' historical and projected earnings, losses,
profitability and other operating data, and the capitalization and financial
condition of Midland and Danielson. Stephens considered, to the extent
publicly available, the financial terms of certain other transactions recently
effected which Stephens considered relevant in evaluating the Merger and
analyzed certain financial, stock market and other publicly available
information relating to the businesses of other companies whose operations
Stephens considered relevant in evaluating those of Midland and Danielson.
Stephens also evaluated the potential pro forma financial impact of the Merger
on Danielson. Stephens considered, for the purposes of its opinion, recent
trends in the non-standard automobile insurance industry, the competitive
position of Midland and the recent downgrading by A.M. Best of the rating of
Midland. In addition to the foregoing, Stephens conducted such other analyses
and examinations and considered such other financial, economic and market
criteria as Stephens deemed appropriate to arrive at this opinion. Stephens
noted that its opinion was necessarily based upon information available, and
financial, stock market and other conditions and circumstances existing and
disclosed to Stephens as of the date of its opinion.
In rendering its opinion, Stephens assumed and relied, without independent
verification, upon the accuracy and completeness of all financial and other
information publicly available or furnished to or otherwise reviewed by or
discussed with Stephens. With respect to financial forecasts and other
information provided to or otherwise reviewed by or discussed with Stephens,
the managements of Midland and Danielson advised Stephens that such forecasts
and other information were reasonably prepared on bases reflecting the best
currently available estimates and judgments of the respective managements of
Midland and Danielson as to the future financial performance of Midland and
Danielson and the strategic implications and operational benefits anticipated
from the Merger. Stephens did not express any opinion as to what the value of
Danielson Common Stock actually would be when issued pursuant to the Merger,
or the prices at which Danielson Common Stock would trade or otherwise be
transferable subsequent to the Merger and the related transactions. In
addition, Stephens did not make or obtain an independent evaluation or
appraisal of the assets, liabilities (contingent or otherwise) or reserves of
Midland or Danielson nor did Stephens make any physical inspection of the
properties or assets of Midland or Danielson. In addition, although Stephens
evaluated the Merger consideration from a financial point of view, Stephens
was not asked to and did not recommend the specific consideration payable in
the Merger or the related transactions. No other limitations were imposed by
Danielson on Stephens with respect to the investigations made or procedures
followed by Stephens in rendering its opinion.
28
<PAGE>
The full text of the written opinion of Stephens dated the date of this
Joint Proxy Statement/Prospectus which sets forth the assumptions made,
matters considered and limitations on the review undertaken, is attached
hereto as Appendix B and is incorporated herein by reference. Holders of
Danielson Common Stock are urged to read this opinion carefully in its
entirety. Stephens' opinion is directed only to the fairness of the Merger
consideration from a financial point of view, does not address any other
aspect of the Merger or related transactions and does not constitute a
recommendation to any stockholder as to how such stockholder should vote at
the Danielson Meeting. The summary of the opinion of Stephens set forth in
this Joint Proxy Statement/Prospectus is qualified in its entirety by
reference to the full text of such opinion.
Overview. In its presentation to the Danielson Board on July 1, 1996,
Stephens reviewed the corporate structure and lines of business of Midland.
Stephens noted that non-standard personal automobile insurance represented
approximately 81% of net premiums written in 1995 and that Midland had
experienced a compound annual growth rate of 51% in this line during the last
three years. Stephens presented an overview of the estimated market shares of
the leading companies in the non-standard personal automobile insurance market
and noted that Midland's 0.8% share ranked 21st nationally and 14th in the
state of California (based on 1994 direct premiums written), and that the
combination of Midland's and Danielson's premiums would rank 17th nationally
and 10th in the state of California. Stephens reviewed the recent historical
performance of Midland as well as its projected future performance as provided
by the managements of Midland and Danielson. Stephens reviewed certain GAAP
and statutory financial information for Midland, including net premiums
earned, total revenues, net operating earnings, book value, loss, expense and
combined ratios, and the ratio of net premiums written to surplus.
Stephens noted that $14.50 per share, the consideration to be paid to the
Midland stockholders in the Merger, represented 15.9x adjusted and fully tax-
effected projected and adjusted GAAP earnings for 1996, 8.4x adjusted and
fully tax-effected projected GAAP earnings for 1997, and 1.8x fully-diluted
and adjusted GAAP tangible book value as of March 31, 1996. The adjusted and
fully tax-effected GAAP earnings were based on projected GAAP pre-tax earnings
provided by the management of Midland, which were calculated without regard to
the effects of the Merger, except that investment income related to the $30
million Capital Contribution was included. Stephens excluded such investment
income for purposes of calculating the preceding multiples. GAAP tangible book
value means book value less goodwill, if any. GAAP tangible book value was
adjusted to reflect an anticipated purchase accounting adjustment which will
reduce Midland's deferred acquisition costs by approximately $5 million.
Stephens further noted that the total transaction value (purchase price plus
debt assumed) represented 0.7x the net premiums (as adjusted to give estimated
effect to Midland's planned reduction in premium) earned during the 12-month
period ended March 31, 1996 and 1.9x statutory book value as of March 31,
1996.
Valuation Analysis. Stephens arrived at valuation ranges for Midland by
utilizing three principal valuation methodologies: a comparable company
analysis; an analysis of selected acquisitions; and a discounted cash flow
analysis. Comparable company analysis analyzes a company's operating
performance and outlook relative to a group of publicly-traded peers to
determine an implied unaffected market trading value. The analysis of selected
acquisitions provides a valuation range based upon financial information of
companies in the same or similar industries as the target which have been
acquired in selected recent transactions. Discounted cash flow analysis
provides insight into the intrinsic value of a company based on projected
earnings and capital requirements and the subsequent cash flows generated by
the assets of the target company. No company used in the comparable company
analysis described below is identical to Midland, and no transaction used in
the analysis of selected acquisitions described below is identical to the
Merger. Accordingly, an analysis of the results of analyses described below
necessarily involves complex considerations and judgments concerning
differences in financial and operating characteristics of the companies and
other factors that could affect the public trading value or the acquisition
value of the companies to which they are being compared.
Comparable Company Analysis. Stephens compared certain financial information
and market data of Midland with two groups of automobile insurance companies
that Stephens believed to be appropriate for comparison. The first group
consisted solely of non-standard automobile insurance companies and included
29
<PAGE>
Guaranty National Corporation, Integon Corporation, Mobile America
Corporation, Omni Insurance Group, Inc., The Progressive Corporation and Titan
Holdings, Inc. The second group consisted of the first group plus additional
companies with significant automobile insurance business, including Allstate
Corporation, Cincinnati Financial Corporation, Mercury General Corporation,
Ohio Casualty Corporation, and SAFECO Corporation. The financial information
compared included market capitalization, total market capitalization, current
price, the previous 52 weeks' high and low sales prices, earnings per share
for 1995, estimated earnings per share for 1996 and 1997, five year compound
growth rate and return on average equity. Additional information compared
included A.M. Bests ratings, the ratio of earnings before interest, taxes,
depreciation and amortization to total market capitalization, and loss,
expense and combined ratios. In order to arrive at a public market reference
range for Midland, Stephens derived multiples for the comparable companies,
including price as a multiple of (i) estimated earnings for 1996 and 1997 in
accordance with GAAP, (ii) March 31, 1996 GAAP book value, and (iii) last
twelve months' revenues. The market price information used in such analysis
was as of June 21, 1996. The earnings per share estimates used were based on
estimates as of June 21, 1996 by Institutional Brokers Estimate System
("IBES"), a data service that monitors and publishes a compilation of earnings
estimates regarding companies of interest to institutional investors produced
by selected research analysts.
With regard to the group of non-standard automobile insurance companies,
price as a multiple of estimated 1996 earnings ranged from 9.6x to 14.5x with
a mean of 11.5x; price as a multiple of estimated 1997 earnings ranged from
8.0x to 12.5x with a mean of 9.5x; price as a multiple of GAAP book value
ranged from 1.1x to 2.4x with a mean of 1.6x; and price as a multiple of last
twelve months' revenues ranged from 0.6x to 1.4x with a mean of 1.0x. With
regard to the broader group of automobile insurance companies, price as a
multiple of estimated 1996 earnings ranged from 9.6x to 14.5x with a mean of
11.9x; price as a multiple of estimated 1997 earnings ranged from 8.0x to
13.1x with a mean of 10.0x; price as a multiple of GAAP book value ranged from
1.1x to 2.4x with a mean of 1.5x; and price as a multiple of last twelve
months' revenues ranged from 0.6x to 2.1x with a mean of 1.2x.
Based on its determination of the relative comparability of the comparable
companies to Midland, Stephens then derived the ranges of these multiples
deemed most meaningful for its analysis (which were 9.0x to 11.0x 1996
estimated earnings, 8.0x to 9.0x 1997 estimated earnings, 1.2x to 1.5x March
31, 1996 GAAP book value and 0.6x to 0.7x last twelve months' revenues,
adjusted to give estimated effect to Midland's planned reduction in premium)
and applied these multiples to Midland. For purposes of this analysis,
Midland's estimated earnings for 1996 and 1997 were determined without regard
to the Merger or the availability of Danielson's NOL. This analysis resulted
in a public market reference range for Midland of between $64.3 million and
$77.2 million (or $11.51 per share to $13.80 per share). In addition, Stephens
derived a mergers and acquisitions ("M&A") market reference range for Midland
of between $14.39 per share and $16.56 per share by applying premiums of
approximately 20-25% (the range of premium that Stephens believed to be the
most appropriate in light of Midland's stock price and financial performance
and market conditions) to the public market reference range derived above.
Analysis of Selected Acquisitions. The transactions used in the analysis
included three recent acquisitions of non-standard automobile insurance
companies, including Guaranty National Corporation's acquisition of Viking
Insurance Holdings, Inc., USF&G Corporation's acquisition of Victoria
Financial Corp., and Integon Corporation's acquisition of Bankers and Shippers
Insurance Company; and three acquisitions of predominantly automobile and/or
specialty insurance companies, including Castle Harlan's acquisition of
Homestead National Corporation, Unitrin Inc.'s acquisition of Milwaukee
Insurance Group, Inc., and Berkshire Hathaway's acquisition of GEICO
Corporation. The financial information compared in the analysis included
equity consideration, total consideration, the net premiums earned, GAAP
tangible book value and statutory book value of the acquired company. In order
to arrive at an acquisition reference range for Midland, Stephens derived
multiples for the selected acquisitions, including (i) the price paid for the
equity of the acquired company as a multiple of GAAP tangible book value and
(ii) the total consideration paid as a multiple of (a) net premiums earned and
(b) statutory book value. Stephens also reviewed 50 acquisitions of property
and casualty insurance companies, which occurred during the last seven years
to supplement its analysis of the named acquisitions.
30
<PAGE>
With regard to the named acquisitions, price as a multiple of GAAP tangible
book value ranged from 1.1x to 2.7x with a mean of 1.7x (1.7x for the non-
standard automobile insurance companies); total consideration as a multiple of
net premiums earned ranged from 0.7x to 2.1x with a mean of 1.1x (1.0x for the
non-standard automobile insurance companies); and total consideration as a
multiple of statutory book value ranged from 1.3x to 5.0x with a mean of 2.5x
(2.2x for the non-standard automobile insurance companies). With regard to the
50 acquisitions of property and casualty companies, which occurred during the
last seven years, price as a multiple of GAAP book value ranged from 0.4x to
3.0x with a mean of 1.4x. This compares to 1.6x (price divided by unadjusted
GAAP book value) for Midland.
Based on the relative comparability of the selected acquisitions to the
Merger, Stephens then derived the ranges of these multiples deemed most
meaningful for its analysis (which were, with regard to price, 1.4x - 1.7x
March 31, 1996 GAAP tangible book value, and with regard to total
consideration, 0.7x to 0.8x net premiums earned, adjusted to give estimated
effect to Midland's planned reduction in premium, and 1.7x to 2.1x statutory
book value) and applied these multiples to Midland. This analysis resulted in
a range of values for Midland of between $71.0 million and $88.1 million (or
$12.70 per share to $15.76 per share).
Discounted Cash Flow Analysis. The stand-alone valuation of Midland was
determined by adding (i) the present value of the projected available
dividends from Midland over a 10-year period from 1996 through 2005, and (ii)
the present value of Midland's 2005 terminal value and subtracting the
proposed capital infusion of $30 million. Separately, Stephens also calculated
the present value of the projected tax sharing payments to be made by Midland
to Danielson during the 10-year period. The terminal value of Midlands common
equity at the end of the 10-year period was determined under two methods:
multiplying the final year's projected GAAP net income by numbers representing
various terminal multiples (ranging from 10.0x to 12.0x) and multiplying the
ending statutory book value by various terminal multiples (ranging from 1.7x
to 2.1x). Earnings were projected assuming that Midland performed in
accordance with management's projections (base case) and one variation thereof
(a higher combined ratio case). The base case projections assume, among other
things, that (i) direct premiums written will grow at about the historical
industry rate for non-standard automobile insurance, which is significantly
less than Midland's historical growth rate, (ii) the loss ratio will decrease
to a level which is more consistent with Midland's experience prior to 1995
and remain relatively constant, (iii) expenses will decline in 1997 and the
expense ratio will decline significantly in 1998 (reflecting the effect of the
termination of quota-share reinsurance on net premiums earned) and modestly
thereafter reflecting increasing economies of scale. The higher combined ratio
case is similar to the base case except that in 1998 it assumes that the
combined ratio decreases by less than the decrease projected in the base case
and then remains constant thereafter, effectively reducing projected
underwriting profits by approximately 15% to 25% per year compared to the base
case. The dividends and terminal values of Midland and the tax sharing
payments were discounted to present values using different discount rates
(ranging from 13% to 15%) chosen to reflect different assumptions regarding
the required rates of return of holders or prospective buyers of Midland's
common equity. Stephens calculated a range of discounted cash flow values per
share on a fully diluted basis of $13.65 to $16.86 using the base case and
$11.40 to $14.29 using the higher combined ratio case. The average present
value of the tax sharing payments ranged from $8.97 to $9.72 per share.
Pro Forma Merger Analysis. In addition to the valuation analysis described
above, Stephens analyzed the pro forma changes in the per share amount of book
value and projected pre-tax income for shares of Danielson Common Stock
resulting from the Merger and the Offering. The analysis was performed on the
basis of the financial conditions of Danielson and Midland as of March 31,
1996 and on Danielson's projections of pre-tax income (adjusted for the effect
of dividends on Danielson Series A Preferred Stock) for the years 1996 and
1997 as if the Merger and Public Offering had occurred on December 31, 1995.
The analysis indicated that the book value per share of Danielson Common
Stock would increase by approximately 143% (from $4.29 per share to $10.44 per
share), due primarily to the recognition of approximately $150 million in NOL
tax benefits as a result of the Merger and the Public Offering. Excluding the
excess of cost over net assets acquired, book value per share would increase
by approximately 117% (from $4.12
31
<PAGE>
per share to $8.94 per share). Projected pre-tax income (adjusted for the
dividend) per share would decrease by approximately 32% in 1996 and increase
by approximately 27% in 1997. For purposes of the foregoing analysis, Stephens
assumed that shares of Danielson Common Stock issued in the Merger and sold in
the Public Offering were priced at $6.875 per share. If Danielson Common Stock
was priced at $4.50 per share, the minimum valuation applicable to shares
issued in the Merger, the book value per share of Danielson Common Stock would
increase by approximately 95% (from $4.29 per share to $8.37 per share), and
projected pre-tax income (adjusted for the dividend) per share would decrease
by approximately 39% in 1996 and increase by approximately 2% in 1997.
The summary set forth above does not purport to be a complete description of
the analyses performed by Stephens. The preparation of a fairness opinion is a
complex process and is not necessarily susceptible to partial analysis or
summary description. Stephens believes that its analyses must be considered as
a whole and that selecting portions of its analyses, without considering all
analyses, would create an incomplete view of the process underlying its
opinion. In performing its analyses, Stephens made numerous assumptions with
respect to industry performance, general business and economic conditions and
other matters, many of which are beyond the control of Midland. The analyses
performed by Stephens are not necessarily indicative of actual values, which
may be significantly more or less favorable than suggested by such analyses.
Additionally, analyses relating to the values of businesses do not purport to
be appraisals or to reflect the prices at which such business actually may be
sold. Because such analyses are inherently subject to uncertainty, none of
Midland, Danielson, Stephens or any other person assumes responsibility if
future events do not conform to the judgments reflected in the opinion of
Stephens.
INFORMATION CONCERNING STEPHENS
Stephens is a nationally recognized investment banking firm and, as a
customary part of its investment banking activities, is regularly engaged in
the valuation of businesses and their securities in connection with mergers
and acquisitions, negotiated underwritings, private placements and for other
purposes. Danielson selected Stephens as a financial advisor because of its
expertise, reputation and familiarity with the insurance industry. Danielson
engaged Stephens to render a fairness opinion to the Danielson Board in
connection with Danielson's proposed acquisition of Midland, pursuant to a
letter agreement dated March 6, 1996. Danielson agreed to pay Stephens $75,000
upon the rendering of a fairness opinion. In addition, pursuant to a letter
agreement dated January 22, 1996, Danielson engaged Stephens to act as a
financial advisor to Danielson in connection with the proposed Merger and has
agreed, if the Merger is consummated, to pay Stephens as consideration for
such services, additional compensation in an amount based on a percentage of
the value of the consideration payable in the Merger. If the Merger is
consummated, the additional compensation payable to Stephens will be
approximately $670,000. Danielson has agreed to reimburse Stephens for out-of-
pocket expenses and to indemnify Stephens against certain liabilities in
connection with rendering the fairness opinion and serving as Danielson's
financial advisor. Stephens has a potential conflict of interest in rendering
its fairness opinion because a portion of its compensation for serving as
Danielson's financial advisor is contingent upon the consummation of the
Merger.
INFORMATION CONCERNING DLJ
Danielson has retained DLJ to act as a financial advisor with regard to the
Merger; to act as lead manager for the Public Offering; and to act as a
pricing firm for purposes of setting the dividend rate on Danielson Series A
Preferred Stock. Danielson has agreed to compensate DLJ for its services with
a fee of $600,000 due upon consummation of the Merger, in addition to
underwriting fees resulting from the Public Offering. Danielson has also
agreed to reimburse DLJ for its reasonable out-of-pocket expenses and to
indemnify DLJ against certain liabilities in connection with its provision of
services to Danielson.
32
<PAGE>
REASONS FOR THE MERGER; RECOMMENDATION OF THE MIDLAND BOARD
The Midland Board believes that the terms of the Merger are fair to and in
the best interest of Midland and its stockholders and recommends that Midland
stockholders vote FOR approval of the Merger. The Midland Board considered the
following factors in reaching its conclusions:
(a) the terms of the Merger Agreement, including the ability of Midland
stockholders to elect among cash, Danielson Series A Preferred Stock and
Danielson Common Stock as consideration;
(b) the "cap and collar" arrangement in respect of the exchange for
Danielson Common Stock comprising 10% of the aggregate Merger
consideration. This arrangement provides that in the event that the average
closing price of Danielson Common Stock calculated on a 20 day basis has
declined below $4.50, the price to be used in calculating the exchange
ratio shall be $4.50. Alternatively, if the average price has increased
above $10.50, the price to be used in calculating the exchange ratio will
be $10.50;
(c) the opinion, analyses and presentation of R-H described above under
"THE MERGER--Background of the Merger" and below under "THE MERGER--Opinion
of Midland's Financial Advisor," including the oral opinion of R-H on
February 26, 1996, to the effect that the Merger was fair to the holders of
Midland Common Stock from a financial point of view. In this respect, while
the Midland Board did not explicitly adopt, and did not rely solely on, R-
H's financial analyses, the Midland Board placed special emphasis on such
analyses in its overall evaluation of the Merger and viewed such analyses
as favorable to its determination. The Midland Board viewed R-H's opinion
as favorable to its determination because R-H is a nationally recognized
investment banking firm with experience in the valuation of businesses and
their securities in connection with, among other types of transactions,
merger and acquisitions, and in providing advisory services and raising
capital for companies in the insurance industry;
(d) information relating to the financial performance, condition,
business operations and prospects of Midland and Danielson and current
industry, economic and market conditions. In this regard, the Midland Board
placed special emphasis on and viewed as favorable to its determination,
1995 historical and projected 1996 and 1997 financial information for both
Midland and Danielson. Additionally, Midland considered its losses for the
year ended December 31, 1995, the anticipated downgrading of its rating by
A.M. Best, the anticipated Capital Contribution by Danielson, the
confidence of Danielson's management and DLJ in its ability to complete the
Public Offering and the perceived benefit of Danielson's NOL of
approximately $1.4 billion. In particular, the Midland Board viewed as
favorable to its determination the fact that the value of the Merger
consideration represented a 22% premium over the closing price of shares of
Midland Common Stock on February 26, 1996;
(e) Midland's ability to terminate the Merger Agreement under certain
circumstances if required by the fiduciary duties of the Midland Board in
responding to a proposal from a third party. The Midland Board viewed such
factor as favorable to its determination because of its belief that a third
party wishing to make a financially superior proposal for Midland would
have the opportunity to do so. Although the Midland Board recognized that
acceptance of the Danielson proposal could have the effect of discouraging
other potential strategic partners from continuing or initiating a review
of Midland's business, the Midland Board concluded that the $2.75 million
fee, representing approximately $0.50 per share of Midland Common Stock,
payable in the event the Merger Agreement is terminated under certain
conditions and an Acquisition Transaction (as defined herein) is announced,
an agreement for such transaction is signed or such transaction is
consummated, within six months of the execution of the Merger Agreement,
would not be a meaningful deterrent to a third party wishing to make a
financially superior proposal to Midland;
(f) the belief that the availability of the Danielson NOL would enable
Midland to shift its investment portfolio from tax-exempt securities to
higher-yielding taxable securities; and
(g) the efforts of R-H to identify possible strategic partners, the level
of interest expressed in Midland by other possible strategic partners with
whom Midland or R-H had been in contact, the absence of other possible
strategic partners who were interested in pursuing discussions with Midland
on an accelerated timetable with the goal of making an alternative proposal
and the absence of attractive alternatives to the Merger for enhancing
stockholder value, including attempting to access the capital markets to
raise equity
33
<PAGE>
capital in order to be able to further strengthen the capital of Midland.
Operational issues (including the 1995 year-end loss of $10.1 million), the
downgrading of Midland's rating by A.M. Best, the resulting negative impact
on Midland's relationship with its agency force, management's view that
such downgrading of Midland's rating would result in a significant loss of
some of Midland's most profitable business, concerns about responses from
state insurance regulators, the expectation that the volume of gross
premiums written would be materially reduced, the benefit of a capital
infusion and the need to remedy the existing default under Midland's senior
credit facility also supported the conclusion of the Midland Board that
acceptance of the Danielson proposal was a preferable alternative to
continuing on a stand-alone basis. The Midland Board also considered
Danielson's statement that its proposal would be withdrawn in a short time
if not accepted by Midland. The Midland Board further considered statements
by Danielson's management and advisors that it would no longer be
interested in Midland if an agreement was not executed prior to Midland's
release of its earnings for the fourth quarter because of Danielson's
belief that the announcement of A.M. Best's downgrade of Midland's rating
in the absence of a statement that A.M. Best expected to restore Midland's
rating upon consummation of a planned merger with Danielson would adversely
affect Midland's agency force. The Midland Board weighed the benefits to
Midland stockholders of accepting the Danielson proposal against the
negative effects of losing the Danielson proposal by delaying a response
based on the possibility of securing one or more alternative offers.
The Midland Board also considered certain potentially negative factors in
its deliberations concerning the Merger, including, among others:
(a) the fact that Midland stockholders may not receive the type of Merger
consideration they request or if the stockholders receive the type of
Merger consideration they request, they may not receive the amounts of each
type they have requested;
(b) the risk that Danielson may not succeed in raising the cash Merger
consideration or the Capital Contribution through the Public Offering; and
(c) the possibility that Midland may be required, if the Merger Agreement
is terminated under certain circumstances, to reimburse Danielson's
expenses up to $1 million, in addition to having to pay its own expenses
incurred in connection with the Merger.
The interest of certain officers in connection with continued employment was
considered by the Midland Board in its discussions relating to the Merger but
such interests were not a factor in the Midland Board's reaching its
determination that the Merger is fair to, and in the best interests of, the
Midland stockholders. See "THE MERGER--Interests of Certain Members of Midland
Management in the Merger."
In view of the wide variety of factors considered by the Midland Board, the
Midland Board did not quantify or otherwise attempt to assign relative weights
to the specific factors considered in making its determination. However, in
the view of the Midland Board, the potentially negative factors considered by
it were not sufficient, either individually or collectively, to outweigh the
positive factors it considered in its deliberations relating to the Merger.
THE MIDLAND BOARD RECOMMENDS THAT MIDLAND STOCKHOLDERS VOTE FOR APPROVAL OF
THE MERGER AND THE MERGER AGREEMENT.
OPINION OF MIDLAND'S FINANCIAL ADVISOR
Midland engaged R-H to provide investment banking advice and services to
Midland in connection with Midland's review and analysis of potential business
combinations, including the Merger. In connection with such engagement,
Midland requested that R-H evaluate the fairness, from a financial point of
view, to the holders of Midland Common Stock of the consideration to be paid
by Danielson to the holders of Midland Common Stock pursuant to the Merger
Agreement. Midland did not impose any limitation on the scope of R-H's
engagement or investigation. On February 26, 1996, at a meeting of the Midland
Board held to evaluate the proposed Merger, R-H rendered an oral opinion to
the Midland Board that, as of such date, the consideration (having a value of
34
<PAGE>
$14.50 per share) to be received in the Merger was fair from a financial point
of view to the holders of Midland Common Stock. R-H subsequently delivered to
the Midland Board a written opinion dated the date of this Joint Proxy
Statement/Prospectus confirming its opinion that, as of the date of this Joint
Proxy Statement/Prospectus, the consideration (having a value of approximately
$14.50 per share) was fair from a financial point of view to the holders of
Midland Common Stock. In connection with its opinion dated the date of this
Joint Proxy Statement/Prospectus, R-H performed procedures to update certain
of its analyses and reviewed the assumptions on which such analyses were based
and the factors considered in connection therewith.
In rendering its opinion, R-H, among other things, reviewed and analyzed:
(i) the terms of the Merger Agreement (including the $4.50 to $10.50 agreed-
upon range of values for Danielson Common Stock); (ii) financial and operating
information with respect to the business, operations and prospects of Midland
furnished to R-H by Midland; (iii) a comparison of the historical financial
results and present financial condition of Midland with those of other
companies which R-H deemed relevant; (iv) an analysis of financial and stock
market information of selected publicly-traded companies which R-H deemed
comparable to Midland; (v) a comparison of the financial terms of the Merger
with the financial terms of certain other recent transactions which R-H deemed
relevant; and (vi) certain information regarding Danielson, including, but not
limited to, (a) certain recent filings with the SEC, (b) the recent trading
and volume history of Danielson Common Stock, and (c) historical and projected
financial information of Danielson. In addition, R-H held discussions with the
management of Midland and Danielson concerning their respective businesses and
operations, assets, present conditions and future prospects, and undertook
such other studies, analyses and investigations as R-H deemed appropriate. The
foregoing factors represent all of the material factors considered by R-H.
In rendering its opinion, R-H assumed and relied upon the accuracy and
completeness of the financial and other information used by it in arriving at
its opinion without independent verification and further relied upon the
assurances of management of each of Midland and Danielson, respectively, that
they were not aware of any facts existing at such time that would make such
information inaccurate or misleading. With respect to financial forecasts
provided to and discussed with R-H by management of Midland, R-H assumed that
such forecasts and projections were reasonably prepared and reflected the best
currently available estimates and judgments of management as to the future
financial performance of Midland. In arriving at its opinion, R-H has not
conducted a physical inspection of the properties or facilities of Midland or
Danielson and did not make or obtain any evaluations or appraisals of the
assets or liabilities of Midland or Danielson. R-H relied as to all legal
matters on advice of counsel to Midland. R-Hs opinion was necessarily based
upon market, economic and other conditions as they existed and could be
evaluated as of the date of the opinion.
With respect to the financial forecasts for Midland and Danielson provided
to and discussed with R-H by each companies' respective management, R-H
assumed such forecasts were reasonably prepared on bases reflecting the best
currently available estimates and judgments of management as to the future
financial performance. Midland's financial forecast assumes that premiums
earned decline and Midland returns to profitability in 1996 as Midland reduces
its exposure to certain automobile insurance programs in Arizona and
California. For the years 1997 and beyond, Midland's forecast assumes that
Midland's operating margins return to pre-1995 levels and premium volume
growth is in line with historical industry growth rates. Danielson's forecast
assumes net earnings increase by approximately 90% in 1996, in part as a
result of growth in Danielson's commercial automobile insurance programs. For
the years 1997 and beyond, Danielson's forecast assumes that Danielson
experiences steady growth as premium rates in the California workers'
compensation market improve.
The full text of the written opinion of R-H, dated the date of this Joint
Proxy Statement/Prospectus, which sets forth the assumptions made, procedures
followed, other matters considered and limits of the review by R-H, appears as
Appendix C to this Joint Proxy Statement/Prospectus. Midlands stockholders are
urged to read this opinion in its entirety. R-Hs opinion was directed only to
the fairness, from a financial point of view, of the consideration (having a
value of approximately $14.50 per share) to be paid by Danielson to the
holders of Midland Common Stock pursuant to the Merger Agreement. R-Hs opinion
was delivered for the information of the Midland Board and does not constitute
a recommendation as to how any stockholder should vote at the Midland Meeting
or any other meeting of Midlands stockholders called to consider the Merger.
The opinion of
35
<PAGE>
R-H does not constitute an opinion as to the price at which Danielson Common
Stock and Danielson Series A Preferred Stock will actually trade at any time.
R-H did not recommend the amount of Merger consideration to be paid to Midland
stockholders. See "MARKET PRICES AND RELATED INFORMATION." This summary of the
opinion of R-H is qualified in its entirety by reference to the full text of
such opinion.
In connection with the preparation of its opinion, R-H performed certain
financial and comparative analyses, including those described below. The
summary set forth below includes the financial analyses used by R-H and deemed
to be material but does not purport to be a complete description of the
analyses performed by R-H in arriving at its opinion. The preparation of a
fairness opinion involves various determinations as to the most appropriate
and relevant methods of financial analysis and the application of those
methods to the particular circumstances, and therefore, such an opinion is not
readily susceptible to summary description. Furthermore, in arriving at its
opinion, R-H did not attribute any particular weight to any analysis or factor
considered by it, but rather made qualitative judgments as to the significance
and relevance of each analysis and factor. Accordingly, R-H believes its
analysis must be considered as a whole and that considering portions of such
analyses and of the factors considered, without considering all analyses and
factors, could create a misleading or incomplete view of the process
underlying the opinion.
The opinion of R-H was based upon economic, market, financial and other
conditions as they existed on February 26, 1996 and the date of this Joint
Proxy Statement/Prospectus and on the information made available to R-H as of
such dates and on the review and analyses conducted by R-H as of such dates.
It should be understood that, although subsequent developments may affect its
opinion, R-H does not have any obligation to update or revise its opinion.
The generally accepted financial analyses R-H used in reaching its opinion
included: (i) "comparable company analysis," which consisted of reviewing
operating statistics and financial and operating information of selected
publicly-traded companies considered to have businesses similar to that of
Midland; (ii) "comparable transaction analysis," which consisted of reviewing
operating statistics and purchase price information for selected merger and
acquisition transactions that involved companies with businesses similar to
that of Midland; and (iii) certain other factors and analyses. The following
is a brief summary of the analyses performed by R-H in preparation for
rendering its opinion to the Midland Board dated the date of this Joint Proxy
Statement/Prospectus.
Comparable Company Analysis
R-H compared selected financial data and market information for Midland to
the corresponding financial data and market information for two groups of
selected public companies in the property and casualty insurance industry. The
first group consisted of property and casualty companies specializing in non-
standard automobile insurance ("Non-Standard Insurers") and included Guaranty
National Corporation, Integon Corporation, Mobile America Corporation, Omni
Insurance Group, Progressive Corporation, and State Auto Financial
Corporation. The second group consisted of regional, multi-line property and
casualty insurance companies ("Regional P&C Insurers") and included Alfa
Corporation, Cincinnati Financial Corporation, Donegal Group, EMC Insurance
Group, Gainsco, Inc., Harleysville Group, Merchants Group, Inc., Meridian
Insurance Group, and Selective Insurance Group. The Non-Standard Insurers were
selected by R-H as companies that are representative of the particular segment
of the insurance industry in which Midland operates and which have similar
operating characteristics to Midland. The Regional P&C Insurers were selected
by R-H as companies that were similar to Midland in terms of their general
business operations, markets, size, and financial characteristics. However, R-
H recognizes that each of the comparable companies is distinguishable from
Midland in certain respects, including, without limitation, equity market
capitalization, ratio of premiums to statutory surplus, loss and expense
ratios and A.M. Best rating.
For each of the comparable companies, R-H reviewed the market value of
equity of the company, based upon its closing stock price on July 1, 1996, as
a multiple of its net operating income (net income excluding
36
<PAGE>
realized gains on the investment portfolio) and stockholders' equity, in each
case calculated in accordance with generally accepted accounting principles
("GAAP"). With regard to the Non-Standard Insurers, the median multiple of the
market value of equity to trailing 12 months GAAP net operating income was
12.1x and ranged from 12.0x to 16.2x. The median multiple of the market value
of equity to 1996 consensus estimates for GAAP net operating income was 12.8x
and ranged from 9.8x to 14.4x. The median multiple of the market value of
equity to GAAP stockholders' equity for the fiscal quarter ended March 31,
1996 was 1.6x and ranged from 1.1x to 2.4x. With regard to the Regional P&C
Insurers, the median multiple of the market value of equity to trailing 12
months GAAP net operating income was 10.2x and ranged from 8.1x to 16.2x. The
median multiple of the market value of equity to 1996 consensus estimates for
GAAP net operating income was 9.6x and ranged from 7.6x to 14.8x. The median
multiple of the market value of equity to GAAP stockholders' equity for the
fiscal quarter ended March 31, 1996 was 1.2x and ranged from 0.8x to 2.1x.
Based on a per share offer price of $14.50, the multiple of the consideration
offered for Midland Common Stock to Midland's stockholders' equity as of March
31, 1996 was 1.6x. This multiple is equal to the median multiple for the Non-
Standard Insurers and greater than the multiple for the Regional P&C Insurers.
The multiple of the consideration offered for Midland Common Stock to
Midland's GAAP net operating income for the trailing 12 months ended March 31,
1996 is not meaningful as Midland incurred an operating loss during this
period.
Comparable Transaction Analysis
R-H performed an analysis of precedent transactions involving non-standard
automobile insurance companies in order to obtain a valuation range for
Midland Common Stock based upon selected merger and acquisition transactions
in the non-standard automobile segment of the property and casualty insurance
industry which in R-H's judgment were deemed to be comparable to the Merger
for purposes of this analysis. R-H reviewed a total of six precedent
transactions involving non-standard automobile insurers. The transactions
included (acquiree/acquiror): Viking Insurance Holdings/Guaranty National
Corporation (7/95); Victoria Financial Corporation/USF&G Corporation (5/95);
Bankers and Shippers Insurance Company/Integon Corporation (10/94); Leader
National Corporation/American Premier Underwriters (5/93); American Financial
Corporation/Penn Central Corporation (12/90); and Integon Corporation/Jupiter
Industries (8/90). Due to the limited number of precedent transactions
involving non-standard automobile insurance companies, R-H also reviewed 77
merger and acquisition transactions involving property and casualty insurance
companies that occurred between 1989 and 1996. R-H reviewed the consideration
paid in such transactions for the equity of the selling company as a multiple
of GAAP net operating income and GAAP stockholders' equity. With regard to the
six non-standard automobile insurance transactions, the median and low
multiples of price paid for common stock to trailing 12 months GAAP net
operating income were 11.5x and 10.9x, respectively. The median and low
multiples of price paid for common stock to GAAP stockholders' equity for the
prior fiscal quarter were 1.5x and 1.0x, respectively. With regard to the 77
property and casualty insurance transactions occurring between 1989 and 1996,
the median multiple of price paid for common stock to trailing 12 months GAAP
net operating income was 12.5x. The median multiple of price paid for common
stock to GAAP stockholders' equity for the prior fiscal quarter was 1.3x.
Based on a per share offer price of $14.50, the implied multiple of price paid
for Midland Common Stock to Midland's stockholders' equity as of December 31,
1995 was 1.6x. This multiple is greater than the median multiple for both the
non-standard automobile precedent transactions and the property and casualty
transactions. The implied multiple of price paid for Midland Common Stock to
Midland's GAAP operating income for the year ended December 31, 1995 is not
meaningful as Midland incurred an operating loss for the year ended December
31, 1995.
No transaction utilized in the comparable transaction analysis is identical
to the Merger. In evaluating precedent transactions, R-H made judgments and
assumptions with regard to industry performance, general business, economic,
market and financial condition and other matters, many of which are beyond the
control of Midland and Danielson, such as the impact of competition on the
business of Midland and the industry generally, industry growth and the
absence of any adverse material change in the financial condition and
prospects of Midland or the industry or in the financial markets in general.
37
<PAGE>
Other Factors
In rendering its opinion, R-H considered certain other factors including,
among other things, a review of (i) the historical and projected financial
results of Midland and Danielson; (ii) the current and projected financial and
operating condition of Midland and Danielson; and (iii) the history of trading
prices and volume for Midland Common Stock and Danielson Common Stock.
INFORMATION CONCERNING MIDLAND'S FINANCIAL ADVISOR
R-H is a recognized investment banking firm and, as a customary part of its
investment banking activities, is regularly engaged in the valuation of
businesses and their securities in connection with mergers and acquisitions,
negotiated underwritings, private placements, and valuations for corporate and
other purposes. Midland's management selected R-H because of its expertise,
reputation and familiarity with Midland and the insurance industry. Midland's
relationship with R-H began in 1992, when R-H served as lead underwriter for
Midland's initial public offering of Midland Common Stock. Since 1992, from
time to time, Midland has requested R-H to provide various financial advisory
services and analyses. No fees were paid by Midland to R-H during the past two
years. In the ordinary course of R-H's business, R-H actively trades in
Midlands Common Stock for its own account and for the account of its customers
and, accordingly, may at any time hold a long or short position in such
securities.
Pursuant to a letter agreement dated February 9, 1996 (the "R-H Engagement
Letter"), Midland engaged R-H to provide investment banking advice and
services to Midland in connection with Midland's review and analysis of
potential business combinations. Midland agreed to pay R-H a retainer fee of
$75,000 and a fee of $200,000 (the "Advisory Fee") upon rendering an opinion
as to whether or not the consideration payable to Midland's public
stockholders in a business combination is fair from a financial point of view.
In addition, if the Merger is consummated, Midland has agreed to pay R-H
additional compensation, based on a percentage of the total consideration for
Midland Common Stock, less the amount of the Advisory Fee. If the Merger is
consummated, this additional compensation will be approximately $535,000.
Pursuant to the R-H Engagement Letter, Midland has agreed to reimburse R-H for
reasonable expenses incurred by R-H, in the event the Merger does not close
prior to December 31, 1996, and to indemnify R-H against certain liabilities
in connection with its engagement. R-H has a potential conflict of interest in
rendering its fairness opinion because a portion of its compensation for
serving as Midland's financial advisor is contingent on the consummation of
the Merger.
MERGER CONSIDERATION AND ELECTION OF CONSIDERATION
The Merger Agreement provides that each share of Midland Common Stock issued
and outstanding prior to the Effective Time will be converted in the Merger
into a right to receive consideration, consisting of a combination of cash,
Danielson Common Stock and Danielson Series A Preferred Stock, which will have
a value, based on valuation provisions agreed upon in the Merger Agreement,
equal to the Per Share Merger Price. The Per Share Merger Price represents 1.6
times the per share book value of Midland as of December 31, 1995. The total
consideration which Danielson is required to pay in the Merger (currently
estimated to be $81,066,832, when valued in accordance with the terms of the
Merger Agreement and assuming 5,590,816 shares are outstanding at the
Effective Time) will consist of 50% cash, 40% Danielson Series A Preferred
Stock (valued in accordance with the terms of the Merger Agreement) and 10%
Danielson Common Stock (valued in accordance with the terms of the Merger
Agreement), with the mix of consideration issuable to each specific Midland
stockholder subject to election.
Pursuant to the terms of the Merger Agreement, shares of Danielson Common
Stock issued to Midland stockholders as consideration in the Merger will be
valued for purposes of the Merger at the average of the closing prices of
Danielson Common Stock on the AMEX (or other national securities exchange on
which Danielson Common Stock is then traded) for each day on which trading of
Danielson Common Stock took place on such exchange during the period beginning
20 days prior to the Offering Pricing Date and ending on the business day
immediately preceding the Offering Pricing Date, provided that in no event
shall such price be lower than $4.50 per share nor more than $10.50 per share.
38
<PAGE>
In addition, as provided in the Merger Agreement, the shares of Danielson
Series A Preferred Stock issued to Midland stockholders in the Merger will be
valued for purposes of the Merger at the Stated Value. The Merger Agreement
also provides that the dividend rate applicable to Danielson Series A
Preferred Stock shall initially be set, prior to the date of mailing of this
Joint Proxy Statement/Prospectus, at the rate which would be likely to cause
Danielson Series A Preferred Stock to trade at its Stated Value if such
security were assumed to have been trading on such date on a fully-distributed
basis. The Merger Agreement provides that such rate is to be determined by the
joint written opinion of DLJ and R-H. If DLJ and R-H are unable to agree upon
a dividend rate, the Merger Agreement provides that BT will advise Midland and
Danielson in writing of the rate which, in its opinion, represents the rate
likely to cause Danielson Series A Preferred Stock to have a trading price
equal to its Stated Value as of such date. The Merger Agreement provides that
if the dividend rate specified by BT is within the range of rates indicated by
DLJ and R-H, then the rate specified by BT shall be the rate and if the rate
specified by BT is above or below the range of the rates specified by DLJ and
R-H, the dividend rate will be set at the nearest of the rates specified by
DLJ and R-H.
On June 19, 1996, DLJ advised Danielson that the dividend rate applicable to
Danielson Series A Preferred Stock should be 9 1/4% per annum, while on June
24, 1996, R-H advised Midland that the dividend rate applicable to Danielson
Series A Preferred Stock should be 11 1/4% per annum. As a result, BT was
asked to specify a dividend rate. On July 1, 1996, BT advised Midland and
Danielson in writing that, in its opinion, the rate as of such date should be
10% per annum. Since the rate specified by BT was within the range of rates
specified by DLJ and R-H, the rate specified by BT has been initially
established as the dividend rate for Danielson Series A Preferred Stock as of
the date of this Joint Proxy Statement/Prospectus. The full text of the BT
Opinion is attached as Appendix H to this Joint Proxy Statement/Prospectus and
should be read carefully in its entirety.
The Merger Agreement provides that the 10% per annum dividend rate initially
set for Danielson Series A Preferred Stock will be adjusted by DLJ and R-H
upward or downward, if necessary, as of the Offering Pricing Date to the rate
which, as of that date, would be likely to cause Danielson Series A Preferred
Stock to trade at its Stated Value if such security were assumed to have been
trading on a fully-distributed basis on such date. If DLJ and R-H are unable
to agree upon a dividend rate as of the Offering Pricing Date, BT will again
be called upon to specify a rate. The Merger Agreement provision requiring a
re-evaluation and, if necessary, a readjustment, of the dividend rate of
Danielson Series A Preferred Stock as of the Offering Pricing Date is intended
to provide that the dividend rate as finally set for Danielson Series A
Preferred Stock will be determined with an awareness of prevailing interest or
dividend rates for other securities as of a date reasonably close to the
Effective Time, as well as events or developments occurring subsequent to the
date the initial dividend rate was established.
In considering the Merger and the related proposals that will be presented
at the Danielson Meeting, holders of Danielson Common Stock and Midland Common
Stock should be aware that under certain circumstances the provisions in the
Merger Agreement governing the valuation of Danielson Common Stock and
Danielson Series A Preferred Stock which will be issued as part of the Merger
consideration may result in such securities being ascribed a value for
purposes of the Merger which may be above or below the fair market value of
those securities under normal trading conditions after the Effective Time. As
described above, for purposes of the Merger, Danielson Series A Preferred
Stock will be valued at its Stated Value and Danielson Common Stock will be
valued at the average trading price of that stock during the period beginning
20 days prior to the Offering Pricing Date and ending on the business day
immediately preceding the Offering Pricing Date. The Merger Agreement also
provides that, regardless of the actual amount of that average price, for
purposes of the Merger, such price shall not be less than $4.50 per share nor
more than $10.50 per share. If the average trading price of Danielson Common
Stock over that period is outside the $4.50 to $10.50 range agreed upon in the
Merger Agreement, or if trading in Danielson Common Stock during that 20-day
averaging period is affected positively or negatively by market conditions not
present after the Effective Time, the price at which Danielson Common Stock is
valued as a part of the Merger consideration may be greater than or less than
the trading price of Danielson Common Stock after the Effective Time. In
addition, although the dividend rate for Danielson Series A Preferred Stock
was set on July 1, 1996 at the rate believed likely to cause that security to
trade at its Stated Value if it were assumed to have been trading on a fully-
distributed basis as of such date (and such rate will be
39
<PAGE>
re-evaluated and, if necessary, reset as of the Offering Pricing Date), Stated
Value is not the actual market value of Danielson Series A Preferred Stock as
of any date, and there can be no assurance that Danielson Series A Preferred
Stock will trade at or near its Stated Value after the Effective Time.
The Merger Agreement contains consideration election provisions that provide
that (i) each holder of Midland Common Stock will be entitled to make an
election requesting that the consideration to be paid to it in the Merger be
either cash, Danielson Common Stock or Danielson Series A Preferred Stock and
(ii) the available Merger consideration will be allocated first to Midland
holders who elect Danielson Common Stock, second to Midland holders who elect
Danielson Series A Preferred Stock, third to Midland holders who elect cash.
Midland holders who make no election will be treated as though they had
elected cash.
Each holder of Midland Common Stock who has requested a specific form of
consideration will receive such consideration in the Merger, subject to
restrictions under certain state securities laws and to the availability of
such consideration after giving effect to any prior allocations and after pro-
rating such holder with other holders who have requested the same
consideration. If there is not a sufficient amount of such consideration
available to satisfy such holder's right to receive consideration in the
Merger which has a value equal to the Per Share Merger Price (when valued in
accordance with the Merger Agreement), such holder will receive additional,
successive allocations of the other forms of consideration until such holder
has received such value. In such event, a holder of Midland Common Stock who
has elected to receive Danielson Common Stock will next receive an additional
allocation of Danielson Series A Preferred Stock and, if necessary, an
allocation of cash; a holder who has elected to receive Danielson Series A
Preferred Stock will next receive an additional allocation of Danielson Common
Stock and, if necessary, an allocation of cash; and a holder who has elected
to receive cash will next receive an allocation of Danielson Series A
Preferred Stock and, if necessary, an allocation of Danielson Common Stock.
It is a condition to the Merger that Midland receive an opinion that the
Merger will qualify as a tax-free transaction, within the meaning of Sections
368(a)(1)(A) and 368(a)(2)(D) of the Code, for holders of Midland Common Stock
to the extent of the non-cash consideration received by such holders in the
Merger. The consideration election provisions of the Merger Agreement accord
first priority, in the allocation of Merger consideration, to Midland holders
who elect Danielson Common Stock, so that any Midland holder who wishes to
realize the benefits of the tax-free nature of the Merger to the greatest
extent possible may, by electing Danielson Common Stock, increase the
likelihood that such Midland holder will receive predominantly Danielson
Common Stock and Danielson Series A Preferred Stock in the Merger.
Although each holder of Midland Common Stock will receive in the Merger for
each share of Midland Common Stock owned by it consideration with a value
equal to the Per Share Merger Price (when valued based on the valuation
provisions in the Merger Agreement), the proportion of its Merger
consideration that will be paid in cash or Danielson Series A Preferred Stock
or Danielson Common Stock will depend on the consideration election, if any,
filed by such holder and on the pro rata allocation of the available Merger
consideration to such holder and all other Midland holders. Neither Danielson
nor Midland can predict at this time what elections will be made by holders of
Midland Common Stock. Accordingly, holders of Midland Common Stock should be
aware that they may not receive in the Merger the form of consideration
requested by them in their consideration elections and, under certain
circumstances, may not receive any of the form of consideration requested.
Attached as Schedule I to this Joint Proxy Statement/Prospectus is a table
showing the allocations of Merger consideration, assuming solely for purposes
of illustration, three different hypothetical patterns of election by holders
of Midland Common Stock.
Promptly after the date of this Joint Proxy Statement/Prospectus, an agent
appointed by Danielson and reasonably acceptable to Midland (the "Exchange
Agent") will mail to holders of Midland Common Stock as of the Midland Record
Date an Election Consideration Form which will instruct Midland stockholders
as to the manner in which consideration elections may be made. Danielson,
after consultation with Midland, will announce in a press release delivered to
the Dow Jones News Service, the last day on which Election Forms will be
accepted (the "Election Deadline"). The Election Deadline will be a business
day not earlier than the date of
40
<PAGE>
the Midland Meeting nor later than the Effective Time and shall be at least
five and not more than 20 business days after the date of the news release
referred to above. Any Midland stockholder who submits an Election Form will
be permitted to revoke its Election Form, or file a revised Election Form, at
any time prior to the Election Deadline.
FEDERAL INCOME TAX CONSEQUENCES
For a discussion of the federal income tax consequences of the Merger, see
"CERTAIN FEDERAL INCOME TAX CONSEQUENCES."
ACCOUNTING TREATMENT
Danielson intends to treat the Merger as a "purchase" for accounting and
financial reporting purposes. See "PRO FORMA FINANCIAL INFORMATION."
REGULATORY APPROVALS
The Merger is subject to review under the HSR Act by the FTC and the DOJ. On
April 18, 1996, Danielson and Midland completed the filing of notification and
report forms under the HSR Act with the FTC and the DOJ. The Merger is subject
to the expiration or earlier termination of the waiting period under the HSR
Act. On May 2, 1996, Danielson and Midland were notified that early
termination of the requisite waiting period under the HSR Act was granted
effective as of such date.
The Merger is also subject to the prior approval of insurance regulatory
authorities in the State of Tennessee and the State of California.
Applications for such approvals were filed with the Tennessee Department on
March 14, 1996, and the California Department on April 19, 1996. On May 15,
1996, the Tennessee Department approved the Merger without a hearing. On June
24, 1996, the California Department approved the Merger without a hearing.
INTERESTS OF CERTAIN MEMBERS OF MIDLAND MANAGEMENT IN THE MERGER
In considering the Merger, Danielson and Midland stockholders should be
aware that certain members of the Midland Board and management of Midland have
certain interests that are in addition to the interests of Midland
stockholders generally and may cause them to have potential conflicts of
interest.
Executive Officers
At the Effective Time, Charles H. Gray, III, currently the Chief Operating
Officer of Midland, will be the Chief Executive Officer of the Surviving
Corporation. No changes are currently contemplated in the officers reporting
to Mr. Gray. The contracts of Mr. Gray, James E. Farmer and Elena Barham will
be modified to increase incentive compensation benefits prospectively while
reducing base salaries, and severance benefits will be triggered upon
termination of employment by Midland and will be based upon three times the
preceding year's salary unless terminated during the first 18 months of
employment, in which case severance will be based on the preceding year's
total compensation. In connection with such modifications, Messrs. Gray and
Farmer and Ms. Barham will be paid the balance of their existing 1996 contract
base salary. It is also anticipated that senior officers and employees of
Midland will participate in Danielson stock option plans and other benefit
arrangements.
Indemnification; Insurance
Danielson has generally agreed to indemnify the present and former officers
and directors of Midland, for a period of three years from the Effective Time,
from any loss, claim, damage, cost or expense suffered due to the fact that
such person was an officer or director of Midland prior to the Effective Time.
In addition, Danielson has agreed to maintain directors' and officers'
liability insurance for Midland directors and officers at the present levels
of coverage for three years from the Effective Time, subject to certain
limitations. See "THE MERGER AGREEMENT--Indemnification."
41
<PAGE>
Midland Stock Options
The Merger Agreement provides for the cashless exercise on the business day
(the "Exercise Date") immediately prior to the consummation of the
transactions contemplated by the Merger Agreement (the "Closing Date") of all
"in-the-money" Midland stock options. See "THE MERGER AGREEMENT--Stock
Options."
Assuming that the fair market value (as defined in the Merger Agreement) of
a share of Midland Common Stock was $14.50 on the Exercise Date, the number of
options held by, and the number of shares that on the Exercise Date would be
issued to, each of the officers and directors of Midland listed below,
management of Midland as a group and the members of the Midland Board as a
group are set forth below:
<TABLE>
<CAPTION>
# of Options # of Shares
Held as of Received on
Name Exercise Date Exercise Date
---- ------------- -------------
<S> <C> <C>
Joseph W. McLeary.............................. 18,200 3,607
Philip R. Zanone............................... 18,200 3,607
Charles H. Gray, III........................... 42,000 1,448
Carlos H. Cantu................................ 14,000 483
Sidney A. Stewart.............................. 14,000 483
Management (as a group)........................ 95,200 11,304
Directors (as a group)......................... 106,400 9,628
</TABLE>
Severance Arrangements
Midland has entered into severance compensation agreements with Messrs.
McLeary and Zanone which are effective only upon consummation of the Merger
pursuant to which each will be paid at an annual rate of $250,000 plus
benefits through the year ending December 31, 1998. This represents a
reduction of $250,000 plus benefits which Midland would have been obligated to
pay to such individuals under their current employment contracts in the event
of a change of control.
Employee Benefits
The Merger Agreement contains other provisions relating to employee benefits
in addition to those described above. See "Effect on Employee Benefit Plans."
EFFECT ON EMPLOYEE BENEFIT PLANS
In the Merger Agreement, Danielson has agreed to cause the Surviving
Corporation and each of its subsidiaries to provide any employees of Midland
or its subsidiaries who continue to be employed after the Effective Time by
the Surviving Corporation or its subsidiaries (the "Continuing Employees")
with employee benefits that are at least approximately equivalent to the
benefits being provided to Midland employees immediately prior to the
Effective Time.
RESALE OF DANIELSON COMMON STOCK AND DANIELSON SERIES A PREFERRED STOCK
The shares of Danielson Common Stock and Danielson Series A Preferred Stock
received by Midland stockholders in the Merger will be freely transferable,
except that shares received by persons who are deemed "affiliates" (as such
term is defined in Rule 144 under the Securities Act) of Midland prior to the
Merger may be resold by them only in transactions permitted by the resale
provisions of Rule 145 under the Securities Act (or, in the case of such
persons who become "affiliates" of Danielson, Rule 144) or as otherwise may be
permitted under the Securities Act. This Joint Proxy Statement/Prospectus does
not cover any resales of Danielson Common Stock or Danielson Series A
Preferred Stock received by any person who may be deemed to be such an
"affiliate."
42
<PAGE>
In the Merger Agreement, Midland has agreed to use its best efforts to cause
each affiliate of Midland to agree in writing with Danielson that such person
will not sell or otherwise transfer Danielson Common Stock or Danielson Series
A Preferred Stock received by such person in the Merger except in accordance
with Securities Act requirements.
For a discussion of the transfer restrictions applicable to shares of
Danielson Common Stock, see "DESCRIPTION OF DANIELSON CAPITAL STOCK--Danielson
Common Stock-Transfer Restrictions."
NO APPRAISAL RIGHTS
Under Delaware law, the holders of Danielson Common Stock are not entitled
to appraisal rights in connection with the Merger. Under Tennessee law, the
holders of Midland Common Stock are not entitled to dissenters' rights in
connection with the Merger. State laws impose fiduciary duties on directors of
a corporation to act in the interests of a corporation's stockholders.
Stockholders may pursue a private action against a corporation's directors for
breach of fiduciary duty if a stockholder believes that the directors of a
corporation have not acted in the interests of such corporation's
stockholders. The unavailability of appraisal or dissenters' rights under
Delaware and Tennessee law does not preclude stockholders of Danielson and
Midland from exercising other rights which may be available to them in
connection with the Merger.
TRADING MARKET
The outstanding shares of Danielson Common Stock are listed for trading on
the AMEX. Danielson will use its best efforts to cause the shares of Danielson
Common Stock and Danielson Series A Preferred Stock issuable as Merger
consideration to be approved for listing on the AMEX, NYSE or NASDAQ. It is a
condition to the consummation of the Merger that Danielson Series A Preferred
Stock be approved for listing on the AMEX, NYSE or NASDAQ.
43
<PAGE>
THE MERGER AGREEMENT
THE INFORMATION CONTAINED IN THIS JOINT PROXY STATEMENT/PROSPECTUS WITH
RESPECT TO THE MERGER AGREEMENT IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
THE COMPLETE TEXT OF THE MERGER AGREEMENT ATTACHED HERETO AS APPENDIX A, WHICH
IS INCORPORATED HEREIN BY REFERENCE. DANIELSON AND MIDLAND STOCKHOLDERS ARE
URGED TO READ THE MERGER AGREEMENT CAREFULLY.
EFFECTIVE TIME
The Merger Agreement provides that the Merger will become effective at the
time a certificate of merger (the "Certificate of Merger") is duly filed with
the Secretary of the State of Tennessee and the Secretary of the State of
Delaware. The time at which the Merger will become effective is referred to
herein as the "Effective Time." Such filings, together with all other filings
or recordings required by Tennessee law and Delaware law in connection with
the Merger, will be made on the date of the consummation of the Public
Offering and upon the satisfaction or, to the extent permitted under the
Merger Agreement, waiver of all conditions to the Merger contained in the
Merger Agreement.
THE MERGER
At the Effective Time, Midland will be merged with and into Merger Sub at
which time the separate corporate existence of Midland will cease and Merger
Sub will be the Surviving Corporation and a wholly-owned subsidiary of
Danielson. From and after the Effective Time, the Surviving Corporation will
possess all the assets, rights, privileges, powers and franchises and be
subject to all of the liabilities, restrictions, disabilities and duties of
Midland and Merger Sub, as provided under Delaware law. The Certificate of
Incorporation and Bylaws of Merger Sub in effect immediately prior to the
Effective Time will be the Certificate of Incorporation and Bylaws of the
Surviving Corporation. The Certificate of Merger will amend the Certificate of
Incorporation of the Surviving Corporation to change its corporate name to
"Midland Financial Group, Inc."
CONSIDERATION TO BE RECEIVED IN THE MERGER
At the Effective Time,
(i) each share of Midland Common Stock held by Midland as treasury stock
immediately prior to the Effective Time will be canceled and no payment
will be made with respect thereto;
(ii) each share of common stock of Merger Sub outstanding immediately
prior to the Effective Time will remain outstanding and will constitute one
share of common stock of the Surviving Corporation; and
(iii) each share of Midland Common Stock outstanding immediately prior to
the Effective Time will be converted into the right to receive the Per
Share Merger Consideration (defined below).
"Per Share Merger Consideration" means the consideration that will be issued
and paid in the Merger in respect of each share of Midland Common Stock, which
will consist of a combination of Danielson Common Stock, Danielson Series A
Preferred Stock and cash.
The total consideration which Danielson is required to pay in the Merger
(currently estimated to be $81,066,832 assuming 5,590,816 shares are
outstanding at the Effective Time) will consist of 50% cash, 40% Danielson
Series A Preferred Stock (valued in accordance with the terms of the Merger
Agreement) and 10% Danielson Common Stock (valued in accordance with the terms
of the Merger Agreement).
Pursuant to the terms of the Merger Agreement, shares of Danielson Common
Stock issued to Midland stockholders as consideration in the Merger will be
valued for purposes of the Merger at the average of the closing prices of
Danielson Common Stock on the AMEX (or other national securities exchange on
which Danielson Common Stock is then traded) for each day on which trading of
Danielson Common Stock took place on such exchange beginning on the date 20
days prior to the Offering Pricing Date, provided that in no event
44
<PAGE>
shall such price be lower than $4.50 per share nor more than $10.50 per share.
In addition, as provided in the Merger Agreement, the shares of Danielson
Series A Preferred Stock issued to Midland stockholders in the Merger will be
valued for purposes of the Merger at the Stated Value ($25 per share) of such
shares. The dividend rate applicable to such shares represents the rate which,
in the joint written opinion of R-H and DLJ, would be likely to cause
Danielson Series A Preferred Stock to trade at its Stated Value if such
security were assumed to have been trading on such date on a fully-distributed
basis. The Merger Agreement provides that such rate is to be determined in the
joint written opinion of DLJ and R-H. If DLJ and R-H are unable to agree upon
a dividend rate, the Merger Agreement provides that BT will advise Midland and
Danielson in writing of the rate which, in its opinion, represents the rate
likely to cause Danielson Series A Preferred Stock to have a trading price
equal to its Stated Value as of such date if such security were assumed to
have been trading on such date on a fully-distributed basis. The Merger
Agreement provides that, if the dividend rate specified by BT is within the
range of rates indicated by DLJ and R-H, then the rate specified by BT shall
be the rate and if the dividend rate specified by BT is above or below the
range of the two rates specified by DLJ and R-H, the dividend rate will be set
at the nearest of the rates by DLJ and R-H.
On June 19, 1996, DLJ advised Danielson that the dividend rate applicable to
Danielson Series A Preferred Stock should be 9 1/4% per annum, while on June
24, 1996, R-H advised Midland that the dividend rate applicable to Danielson
Series A Preferred Stock should be 11 1/4% per annum. As a result, BT was
asked to specify the dividend rate. On July 1, 1996, BT advised Midland and
Danielson in writing that, in its opinion, the rate as of such date should be
10% per annum. Since the rate specified by BT was within the range of rates
specified by DLJ and R-H, the rate specified by BT has been initially
established as the dividend rate for Danielson Series A Preferred Stock. The
full text of the BT Opinion is attached as Appendix H to this Joint Proxy
Statement/Prospectus and should be read carefully in its entirety.
The Merger Agreement provides that the 10% per annum dividend rate initially
set for Danielson Series A Preferred Stock will be adjusted by DLJ and R-H
upward or downward, if necessary, as of the Offering Pricing Date to the rate
which, as of that date, would be likely to cause Danielson Series A Preferred
Stock to trade at its Stated Value if such security were assumed to have been
trading on a fully-distributed basis on such date. If DLJ and R-H are unable
to agree upon a dividend rate as of the Offering Pricing Date, BT will again
be called upon to specify a rate. The Merger Agreement provision requiring a
re-evaluation and, if necessary, a readjustment, of the dividend rate of
Danielson Series A Preferred Stock as of the Offering Pricing Date is intended
to provide that the dividend rate as finally set for Danielson Series A
Preferred Stock will be determined with an awareness of prevailing interest or
dividend rates for other securities as of a date reasonably close to the
Effective Time, as well as events or developments occurring subsequent to the
date the initial dividend rate was established. The dividend rate of 10% per
annum initially established for the Danielson Series A Preferred Stock is
below the midpoint of the range of rates specified by DLJ and R-H and is not
the arithmetic average of the three different dividend rates specified by DLJ,
R-H and BT, respectively. Because the rates specified by DLJ, R-H and BT are
inherently subject to uncertainty, none of Midland, Danielson, DLJ, R-H or BT
assumes responsibility if the Danielson Series A Preferred Stock does not have
a trading price at or near its Stated Value at, or at any time after, the
Effective Time.
INFORMATION CONCERNING BT
BT was retained on June 28, 1996 by Midland and Danielson to render an
opinion as to the dividend rate per annum that would be likely to cause
Danielson Series A Preferred Stock to have a trading price equal to the Stated
Value ($25.00) on the date of such opinion, assuming the shares of Danielson
Series A Preferred Stock traded on a fully distributed basis on the date of
such opinion. BT delivered the BT Opinion to Midland and Danielson on July 1,
1996. Although subsequent events may affect the BT Opinion, BT has no
obligation to update or revise the BT Opinion unless requested to do so by
Midland and Danielson as of the Offering Pricing Date. The Merger Agreement
does not require Midland and Danielson to request BT to update or revise the
BT Opinion unless DLJ and R-H are unable to agree on a dividend rate as of the
Offering Pricing Date. The full text of the BT Opinion, which sets forth the
assumptions made, matters considered and limitations on the review undertaken,
is attached hereto as Appendix H and should be read carefully in its entirety.
45
<PAGE>
Midland and Danielson agreed, jointly and severally, to compensate BT for
its services with a fee of $375,000, of which $75,000 was paid upon execution
and delivery of the engagement letter on June 28, 1996, and $300,000 was paid
upon delivery of the BT Opinion on July 1, 1996. Each of Midland and Danielson
paid half of such amounts. Midland and Danielson also agreed, jointly and
severally, to reimburse BT for its expenses incurred in or arising out of the
engagement and to indemnify BT against certain liabilities in connection with
the engagement, including the rendering of the BT Opinion and any update or
revision thereof.
ELECTION OF FORM OF MERGER CONSIDERATION
The Merger Agreement contains consideration election provisions which enable
any Midland holder who wishes to do so to request the particular form of
consideration that such holder would prefer to receive in the Merger on
account of all its shares of Midland Common Stock (or, by multiple requests,
to elect different consideration for portions of such shares). The
consideration election provisions provide that (i) each holder of Midland
Common Stock will be entitled to make an election requesting that the
consideration to be paid to it in the Merger be either cash, Danielson Common
Stock or Danielson Series A Preferred Stock and (ii) the available Merger
consideration will be allocated first to Midland stockholders who elect
Danielson Common Stock, second to Midland stockholders who elect Danielson
Series A Preferred Stock, third to Midland stockholders who elect cash.
Midland stockholders who make no election will be treated as though they had
elected cash.
Each holder of Midland Common Stock who has requested a specific form of
consideration will receive such consideration in the Merger, subject to the
availability of such consideration after giving effect to any prior
allocations and after pro-rating such holder with other holders who have
requested the same consideration. If there is not a sufficient amount of the
requested form of consideration available to satisfy such holder's right to
receive consideration in the Merger which has a value equal to the Per Share
Merger Price (when valued in accordance with the Merger Agreement), such
holder will receive additional, successive allocations of the other forms of
consideration until such holder has received such value. In such event, a
holder of Midland Common Stock who has elected to receive Danielson Common
Stock will next receive an additional allocation of Danielson Series A
Preferred Stock, if available, and, if necessary, an allocation of cash; a
holder who has elected to receive Danielson Series A Preferred Stock will next
receive an additional allocation of Danielson Common Stock and, if necessary,
an allocation of cash; and a holder who has elected to receive cash will next
receive an allocation of Danielson Series A Preferred Stock and, if necessary,
an allocation of Danielson Common Stock.
Any Midland stockholder who is a North Carolina resident must elect to
receive cash in the Merger because neither Danielson nor any of its
subsidiaries is licensed as an insurance company in North Carolina.
EXCHANGE OF SHARES
Before the Effective Time, Danielson will appoint an agent reasonably
acceptable to Midland (the "Exchange Agent") for the purpose of exchanging
certificates representing Midland Common Stock. As of the Effective Time,
Danielson will deposit with the Exchange Agent, for the benefit of holders of
Midland Common Stock, (i) cash; (ii) certificates representing shares of
Danielson Common Stock; and (iii) certificates representing shares of
Danielson Series A Preferred Stock, in each case issuable pursuant to the
Merger Agreement in exchange for shares of Midland Common Stock evidencing the
right to receive the Per Share Merger Consideration. Promptly after the
Effective Time, Danielson will, or will cause the Exchange Agent to, send to
each holder of Midland Common Stock at the Effective Time a letter of
transmittal to be used in such exchange.
EXCEPT IN CONNECTION WITH CONSIDERATION ELECTIONS, MIDLAND STOCKHOLDERS ARE
REQUESTED NOT TO SURRENDER THEIR CERTIFICATES FOR EXCHANGE UNTIL THEY RECEIVE
A LETTER OF TRANSMITTAL AND INSTRUCTIONS FROM THE EXCHANGE AGENT OR DANIELSON.
Each holder of shares of Midland Common Stock that have been converted into
a right to receive the Per Share Merger Consideration, upon surrender to the
Exchange Agent of a certificate or certificates representing such Midland
Common Stock, together with a properly completed letter of transmittal, will
be entitled to receive in exchange therefor the Per Share Merger Consideration
which such holder has the right to receive pursuant to
46
<PAGE>
the Merger Agreement and cash in lieu of any fractional shares of Danielson
Common Stock and Danielson Series A Preferred Stock, if any, as contemplated
by the Merger Agreement. The certificate or certificates for shares of Midland
Common Stock so surrendered shall be canceled. Until so surrendered, each such
certificate will, after the Effective Time, represent for all purposes only
the right to receive the Per Share Merger Consideration and cash in lieu of
the issuance of fractional shares, if applicable, pursuant to the terms of the
Merger Agreement.
If any shares of Danielson Common Stock or Danielson Series A Preferred
Stock are to be issued to any person other than the registered holder of the
shares of Midland Common Stock represented by the certificate or certificates
surrendered in exchange therefor, it will be a condition to such issuance that
the certificate or certificates so surrendered be properly endorsed or
otherwise be in proper form for transfer and that the person requesting such
issuance shall pay to the Exchange Agent any transfer or other taxes required
as a result of such issuance.
After the Effective Time, there will be no further registration of transfers
of shares of Midland Common Stock. If, after the Effective Time, certificates
representing shares of Midland Common Stock are presented for transfer, they
will be canceled and exchanged for the Per Share Merger Consideration and cash
in lieu of the issuance of fractional shares, if applicable, pursuant to the
terms of the Merger Agreement.
Any shares of Danielson Common Stock, Danielson Series A Preferred Stock or
cash made available to the Exchange Agent pursuant to the provisions of the
Merger Agreement that remain unclaimed by the holders of shares of Midland
Common Stock one year after the Effective Time will, upon request, be returned
to Danielson, and any such holder who has not exchanged his or her shares
prior to that time will be entitled thereafter to look only to Danielson to
exchange such shares. Notwithstanding the foregoing, Danielson will not be
liable to any holder of shares of Midland Common Stock for any amount paid, or
any shares of Danielson Common Stock, Danielson Series A Preferred Stock or
cash delivered to a public official pursuant to applicable abandoned property
laws.
No dividends or other distributions on shares of Danielson Common Stock or
Danielson Series A Preferred Stock will be paid to the holder of any
certificates representing shares of Midland Common Stock until such
certificates are surrendered for exchange as provided in the Merger Agreement.
Upon such surrender, there will be paid, without interest, to the person in
whose name the certificates representing the shares of Danielson Common Stock
or Danielson Series A Preferred Stock into which such shares were converted
are registered, all dividends and other distributions paid in respect of such
Danielson Common Stock or Danielson Series A Preferred Stock on a date
subsequent to, and in respect of a record date after, the Effective Time.
FRACTIONAL SHARES
No fractional shares of Danielson Common Stock or Danielson Series A
Preferred Stock will be issued in the Merger. All fractional shares of
Danielson Common Stock or Danielson Series A Preferred Stock that a holder of
shares of Midland Common Stock would otherwise be entitled to receive as a
result of the Merger will be aggregated, and the Exchange Agent will sell such
shares in the public market and distribute to each holder of shares of Midland
Common Stock entitled thereto a pro rata portion of the net proceeds of such
sale. No cash in lieu of fractional shares of Danielson Common Stock or
Danielson Series A Preferred Stock will be paid to any holder of shares of
Midland Common Stock until certificates representing such shares of Midland
Common Stock are surrendered and exchanged in accordance with the Merger
Agreement.
STOCK OPTIONS
Each option to purchase shares of Midland Common Stock and Midland's 1989
Incentive Stock Option Plan and 1992 Long-Term Incentive Plan (collectively,
the "Options") will be amended on the Offering Pricing Date to provide that
(i) each Option, whether or not exercisable, will become fully vested on the
business day immediately preceding the Effective Time, (ii) each Option will
terminate as of the Effective Time if not
47
<PAGE>
exercised prior to such time, and (iii) except for persons who have been
granted Options within six months of the Effective Time and are required to
file reports under Section 16(a) of the Exchange Act, each holder will be
deemed, as of the date such amendments were made, to have exercised such
Options on the business day immediately preceding the Effective Time. The
deemed exercise of Options will be by means of a "cash-less" exchange,
pursuant to which Midland will issue to each Option holder shares of Midland
Common Stock representing the difference between (i) the per share value of
Midland Common Stock when valued at the Per Share Merger Price and (ii) the
per share exercise price as stated in each Option. The amendment of the
Options will be conditioned upon the consummation of the Merger.
REGISTRATION AND LISTING OF SHARE CONSIDERATION
Danielson has agreed that it will cause the offer and sale of Danielson
Common Stock and Danielson Series A Preferred Stock issuable in the Merger to
be registered under the Securities Act. Danielson has agreed to use its best
efforts to have such shares listed for trading on the NYSE, AMEX or NASDAQ.
Such listing is a condition to the consummation of the Merger.
MANAGEMENT OF THE SURVIVING CORPORATION
The Merger Agreement provides that the Board of Directors of the Merger Sub
immediately prior to the Effective Time will be the Board of Directors of the
Surviving Corporation. At the Effective Time, the Board of Directors of the
Surviving Corporation will consist of the following individuals: C. Kirk
Rhein, Jr.; Charles H. Gray, III; James P. Heffernan; and Martin J. Whitman.
REPRESENTATIONS AND WARRANTIES
The Merger Agreement contains various representations and warranties by each
of Danielson, Midland and Merger Sub relating to, among other things: (a)
corporate organization, existence and good standing; (b) corporate power and
authority to enter into and perform the Merger Agreement; (c) due
authorization of the execution, delivery and performance of the Merger
Agreement (subject, in the case of Midland, to approval thereof by its
stockholders); (d) the validity and binding effect of the Merger Agreement;
(e) the Merger not conflicting with the terms of the charter documents or
resulting in breaches of any agreements; (f) consents or approvals of
governmental bodies or any third parties; (g) its subsidiaries; (h) capital
structure; (i) litigation; (j) compliance with applicable laws; (k) accuracy
of documents filed with the SEC; (l) compliance with contracts and
commitments; (m) labor matters; (n) taxes; (o) employee benefits; (p) the
absence of certain changes and events; and (q) the Registration Statement and
the Joint Proxy Statement/Prospectus.
All of the representations and warranties set forth in the Merger Agreement
will terminate as of the closing of the Merger.
COVENANTS
Each of Danielson and Midland has agreed that, from the date of the Merger
Agreement until the Effective Time, it will, and will cause its subsidiaries,
to conduct its business and operations in the ordinary course consistent with
past practices and except as contemplated by the Merger Agreement, will not
take certain actions without the prior written consent of the other party,
which actions include without limitation: (a) amendments to its charter
documents; (b) stock splits, combinations or reclassifications; (c) stock
redemptions or reacquisitions; (d) the incurrence of indebtedness; (e) the
issuance, sale or grant of any shares of its capital stock; (f) the sale or
encumbrance of any assets (other than the disposition of assets which are not,
individually or in the aggregate, material to Danielson or Midland,
respectively, and its subsidiaries taken as a whole); (g) entering into new,
or modifying any existing employment arrangements or granting salary
increases, bonuses or severance pay (other than in the ordinary course of
business and consistent with past practice and which are not material); (h)
entering into any other agreements, commitments or contracts which are outside
of the ordinary course of business consistent with past practice or not on an
arm's length basis; (i) making any change in the lines of business in
48
<PAGE>
which it participates or is engaged; (j) entering into any contract,
arrangement or understanding requiring the purchase of equipment, materials,
supplies or services over a period greater than 12 months and for the
expenditure of greater than $500,000 per year in the case of Midland and $1
million per year in the case of Danielson, which is not cancelable without
penalty on 30 days' or less notice; (k) the failure to maintain in full force
the insurance policies in effect on the date of the Merger Agreement; (l) the
failure to notify the other party of a claim for damage, which claim is
covered by such insurance and would have a material adverse effect on the
party receiving such claim prior to the Closing Date; (m) the failure to
comply with all laws and orders applicable to it; (n) the adoption of a plan
of complete or partial liquidation or resolutions providing for or authorizing
such liquidation or a dissolution, merger (other than the Merger),
consolidation, restructuring, recapitalization or other reorganization; or (o)
the authorization or proposing of any of the foregoing or entering into any
contract, agreement or commitment to do any of the foregoing.
NO SOLICITATION; TRANSACTION MORATORIUM
Midland has agreed that it will not, and it will not permit its
subsidiaries, and the officers, directors, employees or agents of Midland and
its subsidiaries to directly or indirectly, initiate, solicit, encourage,
participate in any negotiations regarding, furnish any confidential
information in connection with, endorse or otherwise cooperate with, assist,
participate in or facilitate the making of any proposal or offer for, or which
may be reasonably expected to lead to the acquisition or merger, consolidation
or other business combination of Midland and its subsidiaries in any manner
(an "Acquisition Transaction"). Midland may take certain actions with respect
to an Acquisition Transaction if the Midland Board determines, in good faith
and on written advice from independent counsel, that such actions are
consistent with such board's fiduciary obligations under existing laws. If
Midland takes any action, other than preliminary discussions, in response to a
potential Acquisition Transaction, Midland will immediately notify Danielson
in writing. Upon Danielson's receipt of such notice, all of Danielson's duties
and obligations under the Merger Agreement will be suspended for a period (the
"Transaction Moratorium Period") beginning on the date of such notice and
ending on the date Danielson receives notice from Midland that it has ceased
all such contacts and discussion regarding potential Acquisition Transactions.
If a Transaction Moratorium Period continues for a period in excess of 30
days, Danielson may terminate the Merger Agreement prior to its receipt of
notice from Midland terminating a Transaction Moratorium Period, and avail
itself of all remedies available in the Merger Agreement in the event of the
termination of such agreement. As a consequence of any Transaction Moratorium
Period, each of the dates relating to or affecting a date by which Danielson
is required to perform its duties and obligations under the Merger Agreement
will be extended on a day-for-day basis for each day in any Transaction
Moratorium Period.
ACCESS TO INFORMATION
Each of Danielson and Midland has agreed that, until the Effective Time or
earlier termination of the Merger Agreement, it will provide the other party,
including representatives of such other party, access to information
concerning itself, subject to the confidentiality provisions of the Merger
Agreement and existing contractual and legal restrictions.
ADDITIONAL COVENANTS
In addition to the covenants summarized above, each of Danielson and Midland
has agreed to: (a) subject to the terms and conditions of the Merger
Agreement, use its reasonable efforts to take all actions necessary, proper or
advisable under applicable laws and regulations to consummate the transactions
contemplated by the Merger Agreement; (b) cooperate to make certain filings
and obtain certain consents necessary to consummate the transactions completed
by the Merger Agreement; (c) consult with the other party prior to issuing any
press release or making any public announcement relating to the Merger and the
transactions contemplated by the Merger Agreement; (d) cause a meeting of the
stockholders of each company to be duly called and held, at which, subject to
the requirements of their respective fiduciary duties, the Midland Board will
recommend approval and adoption by the Midland stockholders of the Merger
Agreement and the Merger and the transactions contemplated thereby; and the
Danielson Board will recommend approval and adoption by the
49
<PAGE>
Danielson stockholders of the Merger Proposal; and (e) take all actions
necessary in connection with this Joint Proxy Statement/Prospectus and in
connection with the issuance of Danielson Common Stock and Danielson Series A
Preferred Stock pursuant to the Merger Agreement.
CONDITIONS TO THE MERGER
The obligations of each of Danielson and Midland to consummate the
transactions contemplated by the Merger Agreement are subject to the
satisfaction of certain conditions including without limitation: (a) approval
and adoption of the Merger Agreement by the requisite vote of the stockholders
of Midland and Danielson; (b) the receipt of all necessary authorizations,
including the expiration or termination of any waiting period applicable to
the Merger under the HSR Act; (c) the absence of any governmental order, stay,
decree, judgment or injunction preventing consummation of the transactions
contemplated by the Merger Agreement; (d) the continued effectiveness of the
Registration Statement at the Effective Time, and the receipt of all necessary
approvals under state securities laws, the Securities Act or the Exchange Act
relating to the issuance or trading of Danielson Common Stock and Danielson
Series A Preferred Stock; (e) the approval for listing on the AMEX, NYSE or
NASDAQ of the shares of Danielson Common Stock and Danielson Series A
Preferred Stock to be issued in the Merger; (f) the receipt of fairness
opinions to the effect that the financial terms of the Merger are fair to
Danielson and to Midland and its stockholders, respectively; and (g) the
consummation of the Public Offering and the receipt of net proceeds in an
amount not less than $40,533,416.
The obligation of Danielson to consummate the transactions contemplated by
the Merger Agreement are subject to the satisfaction of additional conditions
including, without limitation: (a) receipt of an opinion from counsel to
Midland; (b) the truth and correctness, in all material respects, of the
representations and warranties of Midland contained in the Merger Agreement;
(c) Midland's performance of or compliance in all material respects with its
obligations under the Merger Agreement; and (d) the absence of any materially
adverse information in the Registration Statement with respect to Midland.
The obligation of Midland to consummate the transactions contemplated by the
Merger Agreement is subject to certain conditions including, without
limitation: (a) receipt of an opinion from counsel to Danielson; (b) the truth
and correctness, in all material respects, of the representations and
warranties of Danielson contained in the Merger Agreement; (c) Danielson's
performance of or compliance in all material respects with its obligations
under the Merger Agreement; and (d) the absence of any materially adverse
information in the Registration Statement with respect to Danielson.
THE PUBLIC OFFERING
Danielson has agreed that it will prepare and file with the SEC the
Registration Statement registering under the Securities Act the offer and sale
of shares of Danielson Common Stock in a public underwritten transaction. The
Merger Agreement, which originally provided that such Registration Statement
shall be filed not later than April 15, 1996, was amended to require that such
filing be made by Danielson as promptly as practicable after having received
and having had a reasonable opportunity to respond to the final comments of
the SEC on this Joint Proxy Statement/Prospectus. Midland has agreed to
cooperate in all reasonable respects with Danielson's efforts to consummate
the Public Offering. Danielson may commence active marketing of the Public
Offering at any time prior to the termination of the Merger Agreement and has
the right to determine the date on which it is appropriate to distribute
preliminary prospectuses (the "Preliminary Prospectus Mailing Date").
Danielson has the right to actively market the Public Offering for up to 35
days after the Preliminary Prospectus Mailing Date. If the underwriters
designated in the Merger Agreement (the "Designated Underwriters"), do not
present Danielson, prior to the expiration of such 35 day period, with an
opportunity to enter into a definitive firm commitment underwriting agreement
(the "Underwriting Agreement") with respect to the Public Offering and to
accept pricing of Danielson Common Stock in the Public Offering at a price per
share which would generate net proceeds of not less than an amount equal to
50% of the Merger consideration (an "Adequate Pricing Opportunity"), then
Danielson's obligations to actively market the Public Offering will cease and
Midland may terminate the Merger Agreement. Danielson is required to accept
any Adequate Pricing Opportunity presented to
50
<PAGE>
it by the Designated Underwriters within 35 days after the Preliminary
Prospectus Mailing Date. Midland may terminate the Merger Agreement if
Danielson declines to accept such Adequate Pricing Opportunity. Danielson will
not be deemed to have declined to accept an Adequate Pricing Opportunity if it
does not enter into an underwriting agreement on the reasonable belief that a
condition to the effectiveness of the transactions contemplated by the Merger
Agreement or the Underwriting Agreement would not be satisfied on or prior to
the third business day following the day upon which the Adequate Pricing
Opportunity was presented to Danielson.
CAPITAL CONTRIBUTION
Danielson has agreed that it will make the $30 million Capital Contribution
at the Effective Time. The Capital Contribution will be raised either as
additional proceeds in the Public Offering, or in the debt market. Danielson
may not raise more than $15 million of the Capital Contribution in the debt
market without the prior written consent of the Midland Board.
TERMINATION
The Merger Agreement will terminate on August 31, 1996 (the "Termination
Date") unless the Underwriting Agreement specifying the offering price of
Danielson Common Stock to be issued in the Public Offering has been executed
and delivered prior to such date. Midland may extend the Termination Date for
two 30-day periods by providing Danielson with written notice prior to the
date which would otherwise be the Final Termination Date. Either Midland or
Danielson may terminate the Merger Agreement prior to the Termination Date by
providing the other party with written notice to such effect if any condition
precedent to the closing of the Merger has not been or cannot be satisfied in
a timely manner, or if a party breaches in a material respect a
representation, warranty or covenant contained in the Merger Agreement and
fails to cure or demonstrate an ability to cure such breach in a timely
manner.
TERMINATION EXPENSES AND LIABILITY
Upon the valid termination of the Merger Agreement, neither Danielson nor
Midland will have any liability to each other, and each party will bear its
own costs and expenses relating to the negotiation, execution and delivery of
the Merger Agreement and the transactions contemplated thereby. If a party
willfully breaches any of its representations, warranties or covenants made in
the Merger Agreement, the breaching party will have liability for breach of
contract and will pay such damages to the non-breaching party as may be
determined by a court of law or equity. Danielson and Midland have agreed that
Danielson's failure to make the Capital Contribution to the Surviving
Corporation will not constitute a willful breach of the Merger Agreement.
Upon a termination of the Merger Agreement resulting from (i) the material,
but non-willful breach of any representation, warranty or covenant which
remains uncured after the cure period specified in the Merger Agreement (a
"Non-Willful Breach") by Danielson, or (ii) the failure on the Closing Date or
a date earlier than the Closing Date if so specified in the Merger Agreement
of any representation or warranty made by Danielson in the Merger Agreement (a
"Representation Failure"), Midland will be entitled to reimbursement from
Danielson in an amount up to $1 million, for all documented, out-of-pocket
expenses incurred by Midland in connection with the Merger Agreement.
Upon a termination of the Merger Agreement resulting from (i) a Non-Willful
Breach by Midland, (ii) a Representation Failure by Midland, (iii) the
continuance of a Transaction Moratorium Period for not less than 30 days, or
(iv) the withdrawal or modification by Midland of its recommendation to its
stockholders to approve the Merger, Danielson will be entitled to
reimbursement from Midland in an amount up to $1 million, for all documented,
out-of-pocket expenses incurred by Danielson in connection with the Merger
Agreement.
Midland has agreed to pay Danielson a termination fee in the amount of $2.75
million (the "Termination Fee") in the event the Merger Agreement is
terminated upon the occurrence of certain events and within six months of such
termination date an Acquisition Transaction is publicly announced, an
Acquisition Transaction
51
<PAGE>
closes or an agreement to consummate an Acquisition Transaction is signed.
Danielson will be entitled to the Termination Fee if (i) Midland fails to
obtain its stockholders' approval of the Merger, (ii) Danielson elects to
terminate the Merger Agreement as a result of the continuance of a Transaction
Moratorium Period for a period not less than 30 days, (iii) the Midland Board
withdraws or modifies its recommendation to Midland stockholders to approve
the Merger, or (iv) Midland fails to receive a written fairness opinion as
provided for in the Merger Agreement.
The Termination Fee will be paid on the date of closing of any Acquisition
Transaction. Any amount previously paid by Midland as an expense recoupment
upon termination of the Merger Agreement will be applied as a credit against
the full amount of the Termination Fee.
INDEMNIFICATION
For a period of three years from and after the Effective Time, the Surviving
Corporation will indemnify, defend and hold harmless any person who is or was,
at any time prior to the Effective Time, a director, officer, employee or
agent of Midland or its subsidiaries (each, an "Indemnified Party"), from and
against all losses, claims, damages, costs, expenses, liabilities, judgments
and settlement amounts that are paid or incurred in connection with any claim,
action, suit, proceeding or investigation that is based in whole or in part or
arises out of (i) any action or omission by an Indemnified Party in his or her
capacity as a director, officer, employee or agent of Midland or its
subsidiaries, or (ii) the Merger Agreement or the transactions contemplated by
such agreement.
For a period of three years from and after the Effective Time, the Surviving
Corporation will cause to be maintained in effect (i) all available policies
of directors' and officers' liability insurance maintained by Midland and its
subsidiaries on the date of the Merger Agreement, or (ii) policies of at least
the same coverage and amounts containing terms that are no less advantageous
to the insured parties, with respect to claims arising from facts or events
that occurred on or prior to the Effective Time. Notwithstanding the
foregoing, the Surviving Corporation will not be obligated to expend any
amount per annum in excess of the aggregate premiums paid by Midland and its
subsidiaries as of the date of the Merger Agreement, in order to maintain such
insurance.
52
<PAGE>
THE MERGER PROPOSAL
At the Danielson Meeting, holders of Danielson Common Stock will be asked to
consider and vote on the Merger Proposal. By voting in favor of the Merger
Proposal, a holder of Danielson Common Stock will be approving the Common
Stock Issuance, the Preferred Stock Terms, the Authorized Capital Charter
Amendment and the Non-Voting Stock Charter Amendment. The matters included in
Merger Proposal are discussed below.
THE COMMON STOCK ISSUANCE
Introduction
The "Rules and Policies Applicable to Companies with Securities listed on
the American Stock Exchange" (the "AMEX Rules") require listed companies to
obtain stockholder approval of any application to list additional shares to be
issued as "sole or partial consideration" for the acquisition of another
company if the potential issuance could result in an increase in the listed
company's common shares of 20% or more. The AMEX Rules state that "a series of
closely related transactions may be regarded as one transaction for purposes
of this policy." The number of shares of Danielson Common Stock issuable in
the Merger and the Public Offering will be dependent upon market factors in
the future and cannot be precisely determined at this time. Danielson believes
that the total shares of Danielson Common Stock to be issued will result in a
more than 20% increase in the total outstanding shares of Danielson Common
Stock. Accordingly, in order to comply with the AMEX Rules, the Common Stock
Issuance is included as part of the Merger Proposal to be voted on at the
Danielson Meeting. Approval of the Merger Proposal will authorize Danielson to
issue up to, but not in excess of 1,802,000 shares of Danielson Common Stock
in the Merger and 18,889,000 shares of Danielson Common Stock in the Public
Offering.
Number of Shares Authorized to be Issued
The number of shares of Danielson Common Stock issuable in the Merger and in
the Public Offering will be dependent upon a number of factors which cannot be
determined at this time. The total number of shares of Danielson Common Stock
that will be issued to holders of Midland Common Stock in the Merger will be
determined in accordance with the valuation provisions of the Merger
Agreement. Those provisions of the Merger Agreement provide that Danielson
Common Stock will be valued for purposes of the Merger at the average of the
closing prices of Danielson Common Stock on the AMEX for each day on which
trading of Danielson Common Stock took place on such exchange during the
period beginning on the date 20 days prior to the date on which the Public
Offering is declared effective, provided that in no event shall such price be
lower than $4.50 per share nor more than $10.50 per share. The total number of
shares of Danielson Common Stock issuable in the Merger could be a maximum of
1,802,000 shares assuming the minimum valuation of $4.50 per share applies, or
a maximum of 772,065 shares, assuming the maximum value of $10.50 per share
applies, or an aggregate number of shares within those maximum and minimum
numbers if the closing price average for Danielson Common Stock is somewhere
within the agreed-upon $4.50 to $10.50 range. The total number of shares of
Danielson Common Stock that will be sold in the Public Offering will depend
upon the pricing obtained by Danielson in the Public Offering and upon whether
Danielson decides to raise the full amount of the Capital Contribution in the
Public Offering.
If Danielson raises the full amount of the Capital Contribution in the
Public Offering and if Danielson Common Stock is priced in the Public Offering
and valued for purposes of the Merger at $7.00 per share (the closing price of
Danielson Common Stock on June 24, 1996), Danielson will issue approximately
13.4 million shares of Danielson Common Stock in the Public Offering and the
Merger. If the full amount of the Capital Contribution is raised in the Public
Offering and Danielson Common Stock is priced in the Public Offering and
valued for purposes of the Merger at $10.50 per share (the highest value
possible for purposes of calculating the Merger consideration), Danielson will
issue approximately 8.9 million shares of Danielson Common Stock in the Public
Offering and the Merger. If the full amount of the Capital Contribution is
raised in the Public Offering and Danielson Common Stock is priced in the
Public Offering and valued for purposes of the Merger at $4.50
53
<PAGE>
per share (the lowest value possible for purposes of calculating the Merger
consideration), Danielson will issue approximately 20.7 million shares of
Danielson Common Stock in the Public Offering and the Merger.
The pricing of Danielson Common Stock in the Public Offering will depend on
market conditions and other factors in effect at the time of pricing and will
not be limited or affected by the maximum and minimum values set in the Merger
Agreement. The Merger Agreement requires Danielson to accept any opportunity
to price Danielson Common Stock in the Public Offering which would yield
proceeds sufficient to fund the cash portion of the Merger consideration.
Approval of the Common Stock Issuance will authorize the Danielson Board to
issue shares of Danielson Common Stock in a number sufficient to consummate
the Merger and the Public Offering. Accordingly, the only limit on the number
of shares which may be issued for that purpose will be the number of
authorized but unissued shares of Danielson Common Stock. See "THE MERGER
AGREEMENT--The Authorized Capital Charter Amendment."
Potential Market Effect of Public Offering on Existing Holders of Danielson
Common Stock
In deciding whether to approve the Merger Proposal, holders of Danielson
Common Stock should consider the potential effect of the Public Offering on
the historic market value of Danielson Common Stock. Danielson intends to use
the net proceeds of the Public Offering to pay the cash portion of the Merger
consideration and at least a portion of the Capital Contribution. Danielson
retains the ability to attempt to use debt and other capital markets for up to
one-half of the Capital Contribution if in Danielson's judgment the pricing of
the Public Offering would be adversely affected by an attempt to raise the
entire amount of the Capital Contribution in the Public Offering. Danielson,
however, is not permitted under the Merger Agreement to refuse to sell
Danielson Common Stock in the Public Offering solely because the pricing of
such offering is below the historic trading range of Danielson's Common Stock.
When the Danielson Board approved the Merger, the Board recognized that the
Merger and the transactions contemplated by the Merger potentially may reduce,
in the short-term, the market value of Danielson Common Stock. It is
impossible to predict, however, the effect that equity market conditions
generally, and the market's perception of the proposed Merger specifically,
may have on the trading price of Danielson Common Stock in the short-term. It
is possible that the Public Offering will be priced at some discount to the
trading price of Danielson Common Stock during the period prior to the
Danielson Meeting and the Effective Time. Consequently, if the trading range
of Danielson Common Stock during the period prior to the Danielson Meeting is
below its historic trading range and if holders of Danielson Common Stock vote
in favor of the Merger Proposal, it is likely that Danielson will be required
to sell Danielson Common Stock in the Public Offering at a price which is
below the historic market value of that security and it is possible that such
price may be below the value ascribed to Danielson Common Stock pursuant to
the terms of the Merger Agreement for purposes of determining the
consideration issuable to Midland holders in the Merger.
The Merger Agreement does not set any minimum pricing requirement for the
sale of Danielson Common Stock in the Public Offering. Both the Danielson
Board and the Midland Board have determined, however, that if, after receipt
of stockholder approval at the Meetings, either the average of the closing
prices of Danielson Common Stock on the AMEX during the 20 days prior to the
Offering Pricing Date or the pricing of Danielson Common Stock in the Public
Offering is less than $4.50 or more than $10.50 per share, the Merger will not
be consummated unless it is approved on the basis of revised proxy materials
specifically disclosing such Public Offering price or average closing price.
THE SERIES A PREFERRED STOCK TERMS
The Danielson Certificate of Incorporation provides that the Danielson Board
is authorized to divide the ten million shares of preferred stock authorized
for issuance into series and to determine the rights, powers (including voting
powers), preferences, privileges and restrictions of the preferred stock or
any series thereof. At a meeting on July 1, 1996, the Danielson Board
unanimously approved and adopted the designations, preferences, rights and
limitations of Danielson Series A Preferred Stock which created a 1.3 million
share series of preferred stock.
54
<PAGE>
For a description of the terms of Danielson Series A Preferred Stock, see
"DESCRIPTION OF DANIELSON CAPITAL STOCK--Danielson Series A Preferred Stock"
and the Certificate of Designations of Danielson Series A Preferred Stock,
which is attached as Appendix E to this Joint Proxy Statement/Prospectus. The
Danielson Board also approved at its July 1 meeting the issuance of up to 1.3
million shares of Danielson Series A Preferred Stock in the Merger. Danielson
expects to issue approximately 1.3 million shares of Danielson Series A
Preferred Stock in the Merger (assuming 5,590,816 shares of Midland Common
Stock are outstanding at the Effective Time). Consequently, Danielson does not
expect to have a material number of shares of Danielson Series A Preferred
Stock available after the issuance of shares required for the Merger and has
no present intention of issuing additional shares of Danielson Series A
Preferred Stock for any purpose other than the Merger.
Although the Danielson Certificate of Incorporation generally authorizes the
Danielson Board, without stockholder approval, to issue up to 10 million
shares of preferred stock in one or more series and to designate the terms of
each such series, the Danielson Certificate of Incorporation also provides
that the stockholders of Danielson must approve the rights, powers,
preferences, privileges and restrictions of any preferred stock (or series of
preferred stock) which is to be issued to any holder of 1% or more of the
outstanding shares of Danielson Common Stock or to any officer, director or
affiliate of Danielson prior to the issuance of such stock.
The only persons to whom Danielson Series A Preferred Stock will be issued
in the Merger are holders of Midland Common Stock immediately prior to the
Effective Time. To the best of Danielson's knowledge, no current holder of
Midland Common Stock is a holder of 1% or more of the outstanding Danielson
Common Stock or an officer, director, or affiliate of Danielson. Danielson is
unable however to predict who the owners of Midland Common Stock will be
immediately prior to the Effective Time or to restrict or control the
acquisition of Danielson Common Stock by holders of Midland Common Stock prior
to the Effective Time. Accordingly, in order to ensure that the issuance of
Danielson Series A Preferred Stock in the Merger complies with the Danielson
Certificate of Incorporation, the Preferred Stock Terms are included as part
of the Merger Proposal to be voted on at the Danielson Meeting.
THE AUTHORIZED CAPITAL CHARTER AMENDMENT
The Danielson Certificate of Incorporation provides that the total number of
shares of capital stock that Danielson is authorized to issue is 30 million
shares, of which 20 million shares may be shares of Danielson Common Stock. As
of June 24, 1996, Danielson had 15,360,255 shares of Danielson Common Stock
outstanding and an additional 1,271,537 shares of Danielson Common Stock
reserved for issuance upon the exercise of outstanding options. In order to
ensure that Danielson will have sufficient authorized shares of Danielson
Common Stock to issue the shares contemplated by the Common Stock Issuance,
the Merger Proposal that will be voted on at the Danielson Meeting includes an
amendment of Danielson's Certificate of Incorporation increasing Danielson's
authorized capital stock from 30 million shares to 50 million shares, 10
million of which may be preferred stock and 40 million of which may be common
stock.
Consequences and Possible Adverse Effects of Approval of Authorized Capital
Charter Amendment
As stated above, the total number of shares of Danielson Common Stock that
will be issued in the Merger and the Public Offering will be dependent upon a
number of factors which cannot be determined at this time, most significantly,
the pricing of Danielson Common Stock in the Public Offering and the value of
Danielson Common Stock for purposes of the Merger. See "THE MERGER PROPOSAL--
The Common Stock Issuance-- Number of Shares to be Issued." Based on the
assumption that Danielson Common Stock will be priced and valued within the
$4.50 to $10.50 range provided for in the Merger Agreement, adoption of the
Authorized Capital Charter Amendment may result, at least to some degree, in
an increase in the number of authorized but unissued shares of Danielson
Common Stock that will be available for issuance by Danielson Board without
Danielson stockholder approval after consummation of the Merger and the Public
Offering. The higher Danielson Common Stock is priced in the Public Offering
and valued in the Merger, the larger the number of authorized but unissued
shares will be. For example, if the full Capital Contribution amount is raised
in the Public Offering
55
<PAGE>
and Danielson Common Stock is priced in the Public Offering and valued for
purposes of the Merger at $4.50 per share (the lowest value possible for
purposes of calculating the Merger consideration), Danielson will issue
approximately 20.7 million additional shares of Danielson Common Stock in the
Public Offering and the Merger and, after such issuance, will have
approximately 2.7 million shares of authorized but unissued shares of
Danielson Common Stock available for future issuance upon approval of the
Danielson Board without further Danielson stockholder approval. Assuming the
Merger Proposal is approved and the Merger and the Public Offering are
consummated and Danielson Common Stock is priced in the Public Offering and
valued in the Merger at $6.875 per share, Danielson will issue approximately
13.5 million additional shares of Danielson Common Stock in the Public
Offering and the Merger and, after such issuance, will have approximately 9.8
million authorized but unissued shares of Danielson Common Stock available for
future issuance. Danielson currently has approximately 3.4 million authorized
but unissued shares of Danielson Common Stock which may be issued without
Danielson stockholder approval (after taking into account shares reserved for
issuance upon exercise of outstanding options).
The adoption of the Authorized Capital Charter Amendment will also continue
to grant to the Danielson Board the authority to issue, without Danielson
stockholder approval, a significant number of shares of preferred stock
(estimated to be 8.7 million after giving effect to the issuance of Danielson
Series A Preferred Stock in the Merger), in such series and with such terms as
the Danielson Board may designate.
The rights of holders of Danielson Common Stock and Danielson Series A
Preferred Stock may be adversely affected by the rights of the holders of any
preferred stock issued by Danielson in the future. In addition, the future
issuance by Danielson of preferred stock or Danielson Common Stock may have
the effect of delaying or preventing a change of control of Danielson without
further action by Danielson stockholders. Danielson has no current plans to
issue any shares of preferred stock or Danielson Common Stock other than in
the issuances contemplated by the Merger Proposal, the Public Offering and
issuances upon the exercise of outstanding options. Danielson, however, is
regularly seeking, and intends after consummation of the Merger to continue to
regularly seek, acquisition opportunities. Danielson from time to time signs
confidentiality agreements with potential acquisition candidates relating to
the exchange of information. Danielson, however, does not now have any
understanding or agreement with any acquisition candidate relating to an
acquisition. There can be no assurance that any favorable acquisitions will be
consummated.
THE NON-VOTING STOCK CHARTER AMENDMENT
Article SIXTH of the Danielson Certificate of Incorporation provides the
following:
"Provisions of this Article SIXTH are included in this Certificate of
Incorporation as required by United States Bankruptcy Code Section
1123(a)(6). The Corporation is prohibited from issuing non-voting equity
securities. As to all classes of securities of the Corporation possessing
voting power, there shall be a distribution of such power among such
classes, including, in the case of any class of any equity securities
having a preference over another class of equity securities with respect to
dividends, provisions for the election of directors representing such
preferred class in the event of default in the payment of such dividends."
That prohibition on the issuance of non-voting stock by Danielson was
included in Danielson's Certificate of Incorporation at the time of the
conclusion of the Mission reorganization proceedings in 1990 in order to
comply with certain provisions of federal bankruptcy law. Danielson is not
required at this time to retain that provision in its Certificate of
Incorporation, and its ability to issue non-voting stock would not otherwise
be restricted if its Certificate of Incorporation were amended to delete that
provision. The Danielson Board believes that the removal of that provision
from the Danielson Certificate of Incorporation would give Danielson the
flexibility of issuing non-voting equity securities in future transactions
and, consequently, would be beneficial to Danielson and its stockholders. In
order to permit Danielson to issue non-voting preferred stock in the Merger
and in the future, Danielson has included as part of the Merger Proposal a
proposal to amend the Danielson Certificate of Incorporation to remove Article
SIXTH.
56
<PAGE>
CERTAIN FEDERAL INCOME TAX CONSEQUENCES
The following is a discussion of the material federal income tax
consequences of the Merger. The discussion, however, does not address federal
income or other tax consequences that depend on facts or circumstances
specific to a particular exchanging Midland stockholder, including any tax
consequences arising under foreign, state or local laws. It is, moreover,
based on the provisions of existing law on the date hereof, including the
Code, Treasury regulations promulgated thereunder (final, temporary and
proposed), published and unpublished administrative interpretations thereof
and judicial decisions with respect thereto, all of which are subject to
change, with or without retroactive effect. No ruling has been or will be
sought from the IRS as to any tax consequences of the Merger. THE LAW IS
UNCLEAR IN CERTAIN SIGNIFICANT RESPECTS AND THE IRS COULD DIFFER WITH THE
CONCLUSIONS REACHED HEREIN. MOREOVER, PROPOSED LEGISLATION, IF PASSED, COULD
MATERIALLY CHANGE CERTAIN OF THE TAX CONSEQUENCES DISCUSSED BELOW. AS A
RESULT, EACH EXCHANGING MIDLAND STOCKHOLDER IS URGED TO CONSULT WITH A TAX
ADVISOR WITH RESPECT TO THE FEDERAL INCOME TAX AND OTHER TAX CONSEQUENCES OF
THE MERGER.
GENERAL
Subject to the discussion below, and based on the accuracy of certain
representations made by the managements of Danielson and Midland, Danielson's
counsel is of the opinion that the Merger will qualify as a reorganization (a
"Tax Free Reorganization") pursuant to Sections 368(a)(1)(A) and 368(a)(2)(D)
of the Code.
The Merger has been structured with the intent that 50% of the consideration
provided in the Merger will consist of equity of Danielson. This is the
threshold percentage required by the IRS as a condition to issuing a private
letter ruling relating to a transaction such as the Merger, and thus
represents a safe harbor regarding the amount of equity consideration needed
to qualify the Merger as a Tax Free Reorganization. It is possible, however,
that the value of the equity consideration, issued by Danielson in the Merger
could fall below that percentage if any or all of the following circumstances
exist: (i) if holders of "in-the-money" Midland options receive Danielson
Common Stock and/or Danielson Series A Preferred Stock in the Merger but are
not considered Midland stockholders for purpose of the continuity-of-interest
test or "historic" Midland stockholders for the purposes of determining if the
required percentage of Danielson equity has been issued to "historic" Midland
stockholders; (ii) if Danielson Series A Preferred Stock trades immediately
after the Effective Time at less than its Stated Value or (iii) if Danielson
Common Stock trades at the Effective Time at less than the value attributed to
that stock under the valuation provisions of the Merger Agreement.
Danielson's management, however, believes that the value of Danielson equity
that will be issued in the Merger to persons other than Midland optionees will
significantly exceed 40% of the value of the total Merger consideration and
applicable precedents would support a 40% equity value threshold. Based on the
accuracy of such belief, counsel believes that the value of the equity portion
of the total Merger consideration will be sufficient to cause the Merger to be
a Tax Free Reorganization, even though it is possible that the value of such
equity portion may fall below the IRS's 50% safe harbor ruling standard.
PROPOSED LEGISLATION
Pending budget proposals cast as proposed legislation (released as part of
the Clinton Administration's Budget Plan on March 19, 1996), if enacted as
currently proposed and with a proposed effective date on or prior to the
Merger, could have an adverse impact on Midland stockholders exchanging
Midland Common Stock in the Merger and on the Merger itself. Under one
proposal (to be generally effective "for transactions after December 7,
1995"), Danielson Series A Preferred Stock would be treated as "other
property" or "boot" received in a reorganization and thus would no longer
qualify for tax-free treatment when received in an otherwise tax-free
reorganization such as the Merger. Moreover, the Merger would be recast as a
fully taxable sale of assets by Midland followed by a fully taxable
liquidating distribution of cash and Danielson equity to Midland stockholders.
57
<PAGE>
Based on a joint statement by Senate Finance Committee Chairman Roth and
House Ways and Means Committee Chairman Archer, however, it is expected that
such provision, if enacted, would have an effective date "no earlier than the
date of appropriate congressional action." It appears unlikely at this time
that any "appropriate congressional action" on such budget proposals will
occur prior to the Merger. Moreover, the terms of Danielson Series A Preferred
Stock provide that the redemption provisions thereof shall be inoperative upon
the enactment of any such proposal if such redemption provisions would
otherwise cause Danielson Series A Preferred Stock to be treated as "other
property" or "boot" received in the Merger. There can be no assurance,
however, that Danielson Series A Preferred Stock provision described above
will operate to protect Danielson Series A Preferred Stock from the effect of
any subsequently enacted legislation.
Another pending budget proposal would require that the basis of
"substantially identical" securities (such as blocks of Midland Common Stock
purchased at different times with different bases) must be determined using an
"average basis." Thus, all substantially identical securities disposed of by a
Midland stockholder in the Merger would be deemed to have the same basis (an
average of all of the actual bases of shares of Midland Common Stock whenever
acquired). This proposal, if enacted in its current form, would be effective
30 days after its enactment into law.
Notwithstanding the foregoing, it is impossible to ultimately predict at
this time whether the budget proposals will be enacted and, if enacted,
whether they will contain the provisions described above or similar provisions
and what the effective date of any such provisions would be.
TREATMENT OF MIDLAND STOCKHOLDERS
The Merger will be non-taxable or wholly or partially taxable to Midland
stockholders, depending on the form of the consideration each holder receives
in the Merger.
Recipients of Equity Only
Midland stockholders receiving solely Danielson stock in the Merger (whether
Danielson Common Stock, Danielson Series A Preferred Stock or a combination of
both) will recognize no gain or loss upon the exchange of their Midland Common
Stock for Danielson Common and/or Danielson Series A Preferred Stock. The
basis of Danielson Common and/or Danielson Series A Preferred Stock received
by an exchanging Midland stockholder will be the same as the basis of the
Midland Common Stock exchanged therefor and the holding period of such
Danielson Common and/or Danielson Series A Preferred Stock will include the
holding period of the Midland Common Stock, provided that the Midland Common
Stock is a capital asset in the hands of an exchanging Midland stockholder. In
the case of Midland stockholders receiving both Danielson Common Stock and
Danielson Series A Preferred Stock, the basis of the Midland Common Stock
should be allocated between Danielson Common Stock and Danielson Series A
Preferred Stock in proportion to their relative fair market values.
Recipients of Cash Only
Midland stockholders who receive solely cash in exchange for Midland Common
Stock should be treated as if their Midland Common Stock were redeemed and
will generally recognize capital gain or loss (again assuming the Midland
Common Stock is a capital asset and assuming the attribution rules of Section
318 of the Code do not change the result) based on the difference between the
basis of the Midland stock exchanged and the amount of cash received. Such
capital gain or loss will be long-term if the Midland stock was held for more
than one year at the Effective Time of the Merger, and short-term otherwise.
Recipients of Equity and Cash
Midland stockholders receiving Danielson Common Stock and/or Danielson
Series A Preferred Stock together with cash will generally recognize gain, but
not loss, equal to the difference between the sum of the fair market value of
Danielson Common and/or Danielson Series A Preferred Stock plus the cash
received and the
58
<PAGE>
basis of the Midland Common Stock exchanged. The gain recognized will in any
event not exceed the amount of cash received. For this purpose, the IRS
requires gain or loss on separate blocks of stock with separate bases to be
computed separately. The extent, if any, to which a Midland stockholder may
"earmark" Merger consideration to specific blocks of Midland Common Stock (as
opposed to allocating a pro rata portion of each constituent part of the
consideration to each block of Midland stock tendered) may depend upon a
number of factors. Midland stockholders who wish to earmark are urged to
consult their personal tax advisors.
Depending on each exchanging Midland stockholder's particular circumstances
(and depending on whether the attribution rules of Section 318 of the Code
might apply in a particular case), any gain recognized by a Midland
stockholder in the Merger will be taxable either as capital gain or as a
dividend (but in the latter case only to the extent of the stockholder's
ratable share of Midland's accumulated earnings and profits). Generally, this
determination would appear to be made by comparing a Midland stockholder's
hypothetical post-Merger percentage of Danielson Common Stock under the
assumption that exclusively Danielson Common Stock (and no cash or Danielson
Series A Preferred Stock) was issued in the Merger to all Midland stockholders
in exchange for all the Midland Common Stock with the post-Merger percentage
of Danielson Common Stock actually held by such Midland stockholder, with the
difference between the hypothetical post-Merger percentage and the actual
post-Merger percentage being treated as redeemed to the extent of the cash
and/or Danielson Series A Preferred Stock actually distributed.
The hypothetical redemption will then be tested under Section 302(b) of the
Code for capital gain treatment. To the extent the actual post-Merger
percentage of Danielson Common Stock equals or exceeds the hypothetical post-
Merger percentage of Danielson Common Stock for any Midland stockholder,
dividend treatment will result (but only to the extent of the stockholder's
ratable share of Midland's accumulated earnings and profits).
Midland stockholders whose relative stock interest in Danielson after the
Merger is minimal and who exercise no managerial control or other significant
corporate responsibilities ("de minimis stockholders"), should qualify for
capital gain treatment as a "meaningful reduction" which is not "substantially
equivalent to a dividend" under Section 302(b)(1) of the Code where their
actual post-Merger percentage is less than their hypothetical post-Merger
percentage by any amount (again taking into account possible application of
Section 318 of the Code). Midland stockholders other than de minimis
stockholders whose percentage has been reduced in a similar manner would not
necessarily qualify for capital gain treatment and may be tested under other
applicable Section 302 standards. Midland stockholders in these circumstances
would receive capital gain treatment if the hypothetical stock redemption were
"substantially disproportionate" under Section 302(b)(2) of the Code. This
test would be met in the present case where a Midland stockholder's actual
post-Merger percentage of Danielson Common Stock held was less than 80% of
such holder's hypothetical post-Merger percentage of Danielson Common Stock
held. Such Midland stockholders are urged to consult with their own tax
advisors regarding the application of these rules to their own particular
circumstances.
The basis of the shares of Danielson Common and/or Series A Preferred Stock
received by a Midland stockholder receiving Danielson stock and cash will be
the same as the basis of the Midland Common Stock exchanged therefor,
decreased by the amount of cash received and increased by any gain recognized
(which would not include any portion of the gain ultimately treated as a
dividend). The old Midland basis shall be allocated (in the case of a Midland
stockholder receiving both Danielson Common Stock and Danielson Series A
Preferred Stock) between such Common and Preferred Stock in proportion to
their relative fair market values and the holding period of such Common and
Preferred Stock will include the holding period of the Midland Common Stock,
provided the Midland Common Stock is a capital asset.
Cash Payment for Fractional Shares
In the case of all Midland stockholders, the payment of cash in lieu of
fractional shares for the purpose of rounding off fractions resulting from the
exchange, should be treated as a redemption of such fractional shares, to be
tested under Section 302 as described above. Gain or loss (other than with
respect to proceeds treated as a dividend under Section 301) will be measured
by the difference between the cash received for the fractional
59
<PAGE>
interest and the basis properly allocable to such interest. Assuming the
fractional interest was a capital asset, such gain or loss will be a capital
gain or loss, which will be long-term or short-term as previously noted.
SPECIAL CONSIDERATIONS RELATING TO DANIELSON SERIES A PREFERRED STOCK: SECTION
306 STOCK
Danielson Series A Preferred Stock received by Midland stockholders must be
tested for qualification as "Section 306 stock" under Section 306 of the Code.
If any Midland stockholder's Danielson Series A Preferred Stock were treated
as Section 306 stock then (i) the amount realized upon any disposition (other
than a redemption) would be treated as ordinary income, except to the extent
the amount realized exceeds the stock's ratable share of the amount which
would have been treated as a dividend at the time of the distribution (taking
Midland's, and perhaps Danielson's, earnings and profits into account at such
time) if (in lieu of Section 306 stock) Midland had distributed money in an
amount equal to the stock's fair market value at the time of the distribution,
with any excess being treated as proceeds of a sale of the stock; and (ii) a
redemption shall be treated as a dividend distribution under Section 301 of
the Code to the extent of Danielson's earnings and profits at the time of
redemption with any excess being treated first as a recovery of basis and
thereafter as gain from the sale or exchange of the stock.
Danielson Series A Preferred Stock received pursuant to the Merger generally
will be Section 306 stock if the cash received in lieu of such stock would
have been treated as a dividend. In testing for dividend treatment, it appears
that Midland stockholders receiving Danielson Series A Preferred Stock would
be viewed by the IRS for these purposes as if they had hypothetically received
entirely Danielson Common Stock in exchange for their Midland Common Stock, in
a manner similar to the hypothetical post-Merger percentage holdings of those
Midland stockholders receiving equity and cash, discussed above. See "--
Treatment of Midland Stockholders-- Recipients of Equity and Cash." Thus, a
hypothetical post-Merger percentage of Danielson Common Stock should be deemed
held by such Midland stockholder receiving Danielson Series A Preferred Stock
(and/or cash) based on the assumption that such holder (and all other Midland
stockholders receiving Danielson Series A Preferred Stock and/or cash) had
received solely Danielson Common Stock in exchange for such holder's Midland
Common Stock.
Thereafter, Midland stockholders would be tested for dividend equivalence
under Section 302(b) of the Code by assuming that cash was issued in the
hypothetical redemption of Danielson Common Stock deemed received in lieu of
Danielson Series A Preferred Stock actually received (also taking into account
any cash actually received in hypothetical redemption of Danielson Common
Stock deemed received as previously described). Provided the hypothetical
redemption met the "substantially disproportionate" test or the "not
essentially equivalent to a dividend test," as described above, Danielson
Series A Preferred Stock actually received should not be considered as Section
306 stock. Generally, de minimis stockholders of Midland who do not receive
more than half of their consideration in the form of Danielson Common Stock
would not be deemed to hold Section 306 stock because their actual holdings
would always be less than their hypothetical holdings (subject, however, to
the possible application of Section 318 of the Code). Midland stockholders
other than de minimis stockholders who sustain a reduction in interest not
qualifying for the "substantially disproportionate" test are urged to consult
their own tax advisors in this regard.
TREATMENT OF MIDLAND, DANIELSON AND MERGER SUB
No gain or loss will be recognized to Midland upon the transfer of all of
its assets to and the assumption of all of its liabilities by Merger Sub in
exchange for Danielson Common Stock, Danielson Series A Preferred Stock and
cash. In addition, no gain or loss will be recognized by Danielson or Merger
Sub as a result of such exchange or the transfer of Danielson Common Stock,
Danielson Series A Preferred Stock or cash to Merger Sub.
The tax basis of the assets of Midland in the hands of Merger Sub will be
the same as the tax basis of such assets in the hands of Midland immediately
prior to the Merger and the holding period of such assets will include the
period they were held by Midland.
60
<PAGE>
The tax basis to Danielson of its stock in Merger Sub will be the amount of
cash and the tax basis of any other property transferred to Merger Sub,
increased by the tax basis of the assets of Midland in the hands of Merger Sub
and reduced by the liabilities of Midland assumed by Merger Sub.
TREATMENT OF MIDLAND OPTIONS
Pursuant to the Merger Agreement, holders of Midland options (to the extent
they are "in-the-money") will receive a net amount of Midland Common Stock
immediately prior to the Effective Time representing the difference between
the exercise price of the Midland Common Stock subject to the option and such
Common Stock's fair market value (based on the Per Share Merger Price, as
defined in the Merger Agreement). Such net amount of Midland Common Stock
should be included as ordinary income by each Midland option holder in an
amount equal to the fair market value of the Midland Common Stock received and
may be subject to withholding. Such an option holder may also become liable
under Section 4999 for the 20% nondeductible excise tax on recipients of an
"excess parachute payment" under Section 280G.
NET OPERATING LOSS CARRYFORWARDS OF DANIELSON
Danielson currently reports a federal consolidated NOL of approximately $1.4
billion, which is expected to be available to offset future taxable income of
Danielson's consolidated post-Merger group (except to the extent attributable
to certain "recognized built-in gains" of Midland), subject to expiration at
different intervals.
Continued availability of the NOL is subject to the rules of Section 382 of
the Code, which generally restricts NOL utilization after an "ownership
change" (generally a more than 50% increase in stock ownership during a 3-year
"testing period" by "5% stockholders" of a "loss corporation" measured by
value, but not including in the definition of stock ownership so-called
"straight preferred" such as Danielson Series A Preferred Stock). While the
Merger and the Public Offering will result in a substantial increase in
percentage holdings of Danielson Common Stock by 5% stockholders, they (in
conjunction with other relevant increases by other 5% stockholders) will not
result in an "ownership change." Danielson's Certificate of Incorporation also
contains restrictions on transfer and acquisition designed to prevent an
involuntary ownership change (although such restrictions cannot prevent an
involuntary ownership change in all circumstances). Moreover, no assurance can
be given that a voluntary ownership change may not occur in the future should
Danielson's management conclude it is in the best interests of Danielson. In
the event of an ownership change, the amount of Danielson's NOL that could be
utilized in any taxable year would be generally limited to the value of
Danielson's stock on the date of the ownership change multiplied by the
applicable federal "long-term tax-exempt rate" as defined in Section 382(f) of
the Code (plus any unused amounts from prior years).
Continued availability of the NOL is also premised on the conclusion, based
in part on certain representations of Danielson management, that the
"principal purpose" for both of the Merger and Danielson's restructuring and
reorganization as successor to Mission is related to valid business objectives
and not to enable Danielson to utilize its NOL. There can, however, be no
assurance that the IRS will not challenge Danielson in this regard. If any
such challenge were successful, Danielson's NOL could be lost.
61
<PAGE>
DANIELSON'S NOL AND DEFERRED TAX ASSET
Danielson's NOL
As of December 31, 1995, Danielson had an NOL of approximately $1.4 billion
for federal income tax purposes. This number is based upon actual federal
consolidated income tax filings for the periods through December 31, 1994 and
an estimate of the 1995 taxable loss. Some or all of the NOL may be available
to offset, for federal income tax purposes, the future taxable income, if any,
of Danielson and its wholly-owned subsidiaries. While the IRS may attempt to
challenge the amount or availability of this net operating loss in the event
of a future tax audit, management believes, based in part upon the views of
its tax advisors, that its net operating loss calculations are reasonable and
that it is reasonable to conclude that Danielson's net operating losses of in
excess of $1 billion would be available for use by Danielson. There can be no
assurance, however, that Danielson will have available for use some or all of
its NOL if such NOL is challenged on audit by the IRS and if such IRS position
is upheld in a final unappealable order of a court.
Danielson's NOL will expire, if not used, in the following approximate
amounts in the following years (dollars in thousands):
<TABLE>
<CAPTION>
AMOUNT OF
YEAR ENDING CARRYFORWARDS
DECEMBER 31, EXPIRING
------------ -------------
<S> <C>
1998.................................................... $ 32,804
1999.................................................... 203,869
2000.................................................... 249,488
2001.................................................... 155,768
2002.................................................... 169,767
2003.................................................... 196,476
2004.................................................... 75,933
2005.................................................... 99,961
2006.................................................... 129,755
2007.................................................... 44,873
2008.................................................... 4,626
2009.................................................... 10,938
2010.................................................... 6,107
</TABLE>
Danielson's ability to utilize its NOL would be substantially reduced if
Danielson were to undergo an "ownership change" within the meaning of Section
382(g)(1) of the Code. In an effort to reduce the risk of an ownership change,
Danielson has imposed restrictions on the ability of 5% Stockholders to
transfer Danielson Common Stock owned by them and to acquire additional shares
of Danielson Common Stock, as well as the ability of others to become 5%
Stockholders as a result of transfers of Danielson Common Stock.
Notwithstanding such transfer restrictions, there could be circumstances under
which an issuance by Danielson of a significant number of new shares of
Danielson Common Stock or other new class of equity security having certain
characteristics (for example, the right to vote or to convert into Danielson
Common Stock) might result in an ownership change under the Code. The issuance
of Danielson equity securities in the Merger and the Public Offering will not
effect such an ownership change.
Deferred Tax Asset
SFAS 109 requires corporations having an NOL or similar favorable tax
attributes to account for those tax attributes as assets. Under the asset and
liability method of accounting for income taxes required by SFAS 109, a
corporation that has an NOL should currently recognize, for financial
accounting purposes, the future federal tax savings by use of its NOL by
establishing a deferred tax asset. Deferred tax assets are valued for this
purpose using the currently enacted tax rates for the future years in which
the NOL will be available. That value is then reduced by a "valuation
allowance" if it is more likely than not that some portion of the deferred tax
asset will
62
<PAGE>
not be realized (for example, because of insufficient levels of future taxable
income). After recognizing a deferred tax asset, the entity records an income
tax provision on its statement of operations similar to the income tax
provision established by other taxable entities. Thereafter, the income tax
provision amortizes the deferred tax asset and does not reflect an actual cash
charge.
Danielson has accounted for deferred income taxes in accordance with the
asset and liability method since the adoption of SFAS 109 in 1993. Danielson
considered all relevant factors impacting its business operations (such as the
size of NAICC and Danielson Trust, the operating results of NAICC and
Danielson Trust and the competitive environment in which NAICC and Danielson
Trust operate) in order to determine whether the operations were "more likely
than not" to utilize the NOL. After consideration of all positive and negative
factors prior to consummation of the Merger, substantially the full value of
the Danielson NOL has been offset by a valuation allowance and Danielson has
not recognized any material deferred tax asset.
Upon consummation of the Merger, Danielson will recognize a deferred tax
asset of approximately $150 million by increasing paid-in capital by that
amount. The post-Merger reduction of the valuation allowance applicable to
Danielson's deferred tax asset is based primarily on Danielson's conclusion
that it is more likely than not that the combined post-Merger business
operations will earn future taxable income during the period in which
Danielson's NOL is available. The estimate used by Danielson for this purpose
is based very significantly upon Midland's business prospects. The estimate
relating to Midland has been reviewed by Midland and is based on Midland's
estimate of its post-Merger taxable income. Some of the assumptions underlying
Danielson's estimate inevitably will not materialize, and unanticipated events
may occur which could affect Danielson's actual results, positively or
negatively. It should be noted, for example, that Danielson's estimate
assumes, as required by SFAS 109, that no additional acquisitions will be made
by Danielson during the NOL period. As stated earlier, a strategic objective
of Danielson is to make additional acquisitions. This section contains
forward-looking statements which involve risks and uncertainties. Actual
results could differ materially from those anticipated in forward-looking
statements as a result of certain factors including those set forth under
"RISK FACTORS" and elsewhere in this Joint Proxy Statement/Prospectus.
Danielson's post-Merger projected future taxable income will be continuously
re-estimated as actual experience emerges. To the extent that such revised
estimates are less than previously projected, results of operations will be
adversely affected by an increase to the valuation allowance. To the extent
that such revised estimates indicate that the original NOL recognition should
have been greater than $150 million, the valuation allowance will be reduced
by a corresponding increase to paid-in capital.
63
<PAGE>
BUSINESS INFORMATION REGARDING DANIELSON AND MERGER SUB
Danielson is a holding company that is primarily engaged, through its
subsidiaries, in the workers' compensation and the non-standard personal and
commercial automobile insurance businesses. Danielson also owns a small
California non-bank trust company that provides personal trust and employee
benefit trust services. Danielson operates its subsidiaries on a decentralized
basis, allowing most operating decisions to be made at the subsidiary level.
Merger Sub is a Delaware corporation organized and wholly-owned by
Danielson. Merger Sub has not conducted any activities other than those
related to its formation, the preparation of this Joint Proxy
Statement/Prospectus and the negotiations of the Merger Agreement and its
obligations thereunder.
OVERVIEW OF NAICC'S INSURANCE BUSINESS
NAICC's objective is to grow through expansion of its specialty insurance
product lines and its geographic territories in a continuing effort to build
stockholder value as a specialty insurance company. The focus of its strategy
is to provide a limited number of types of insurance products to certain
targeted markets in a highly efficient and profitable manner. NAICC is willing
to redeploy its capital to profitable lines and profitable markets if and when
any specific insurance line or market suffers excessive competition or rate
deterioration. NAICC's incentive compensation of its senior managers is based
upon the achievement of such objective and the implementation of this
strategy.
NAICC is a California corporation engaged in underwriting and marketing
workers' compensation insurance and non-standard personal and non-standard
commercial automobile insurance. NAICC markets its workers' compensation and
non-standard commercial automobile insurance products through more than 700
independent insurance agents and brokers, none of whom individually produce
more than 5% of NAICC's gross premiums written. NAICC markets its non-standard
personal automobile insurance through one general agent that utilizes
approximately 600 independent agents.
The following table sets forth NAICC's gross premiums written by state for
the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS
YEARS ENDED DECEMBER 31, ENDED MARCH 31,
------------------------ ---------------
1993 1994 1995 1995 1996
------- -------- ------- ------- -------
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Arizona............................. $ 2,516 $ 3,046 $ 2,532 $ 753 $ 747
California.......................... 86,212 93,271 61,764 19,154 10,838
Idaho............................... 4,083 4,582 3,318 945 727
Nevada.............................. 434 449 350 27 121
Oregon.............................. 2,610 3,011 2,952 828 676
Other............................... 41 20 33 4 1
------- -------- ------- ------- -------
TOTAL............................. $95,896 $104,379 $70,949 $21,711 $13,110
======= ======== ======= ======= =======
</TABLE>
The following table sets forth net premiums written by line of business for
the periods indicated:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31, THREE MONTHS ENDED MARCH 31,
------------------------------------------- ---------------------------------
1993 1994 1995 1995 1996
------------- ------------- ------------- ----------------- ---------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Line of business:
Workers' compensation... $79,269 90.1% $77,173 84.7% $38,200 69.0% $ 13,264 75.3% $ 3,999 44.5%
Non-standard automobile
Personal............... 4,944 5.6 10,511 11.5 15,018 27.2 3,902 22.2 4,029 44.8
Commercial............. 1,748 2.0 2,065 2.3 2,023 3.7 481 2.7 960 10.7
Other................... 1,992 2.3 1,320 1.5 54 0.1 (35) (0.2) 4 0.0
------- ----- ------- ----- ------- ----- -------- ------ ------- ------
TOTAL.................. $87,953 100.0% $91,069 100.0% $55,295 100.0% $ 17,612 100.0% $ 8,992 100.0%
======= ===== ======= ===== ======= ===== ======== ====== ======= ======
</TABLE>
64
<PAGE>
NAICC'S WORKERS' COMPENSATION INSURANCE BUSINESS
General
Workers' compensation insurance policies provide coverage for workers'
compensation and employers' liability. The workers' compensation portion of
the coverage provides for statutory benefits that employers are required to
pay to employees who are injured in the course of employment including, among
other things, temporary or permanent disability benefits, death benefits,
medical and hospital expenses and expenses of vocational rehabilitation. The
benefits payable and the duration of such benefits are prescribed by statute,
and vary with the nature and severity of the injury or disease and the wages,
occupation and age of the employee. The employers' liability portion of the
coverage provides protection to an employer for its liability for losses
suffered by its employees that are not included within the statutorily
prescribed workers' compensation coverage. Typically, workers' compensation
policies have a maximum term of one year.
At December 31, 1995, NAICC had 3,844 workers' compensation policies in
force with an average approximate annual premium size of $6,201, compared to
7,097 and 7,183 policies in force at December 31, 1993 and 1994, respectively,
with an average approximate annual premium size of $11,492 and $9,566 in each
respective year. NAICC's management believes the decrease of approximately
46.5% in the policies in force from 1994 to 1995 is attributable to
significantly increased price competition in the California workers'
compensation market. For the first quarter of 1996, NAICC continued to price
the renewals of its in-force California policies above the market level price.
In doing so, its in-force policy count continued to decrease.
In 1995, 82% of NAICC's workers' compensation direct premiums written were
in the State of California. Effective January 1, 1995, a new "open rating" law
replaced the old workers' compensation "minimum rate" law. The new open rating
law significantly changes the way in which insurance companies price workers'
compensation insurance in California. Under open rating, to obtain approval to
use any workers' compensation rates in California, an insurer is required to
file its proposed rates and rating plans with the California Department. The
California Department may disapprove a rate filing only if it finds that the
rates are unfairly discriminatory, could threaten the solvency of the insurer,
or could cause a single insurer, other than the California State Compensation
Insurance Fund, to control more than 20% of the market.
The profitability of the workers' compensation line of business in
California in 1992, 1993 and 1994 increased competition in that line. That
competition, coupled with California's adoption of a new "open rating" law in
1995, created a new and less profitable pricing environment in the California
workers' compensation market. Notwithstanding the change in the California
market and in accordance with its underwriting philosophy, NAICC continues to
price its workers' compensation insurance in a way that NAICC expects will
result in profitable operating results. As a result, NAICC has experienced a
reduction in the number of workers' compensation policies written and net
premiums written in recent periods and has redeployed a portion of its capital
into its non-standard automobile insurance business. NAICC's non-standard
personal and commercial automobile insurance business has grown from its
inception in 1993 to $31.1 million in direct premiums written for the year
ended December 31, 1995.
In response to developments affecting the market for workers' compensation
insurance in California, NAICC has pursued a strategy of redeploying its
capital either in other specialty lines of insurance such as non-standard
personal automobile insurance or in the workers' compensation line in
geographic markets believed by NAICC to offer greater potential for
profitability than California. In furtherance of its strategy to write
workers' compensation insurance in markets other than California, in June
1996, NAICC acquired Valor Insurance Company, Incorporated ("Valor"), a
Montana-domiciled specialty property and casualty insurance company that
primarily writes workers' compensation insurance policies. This acquisition
will enable NAICC to market workers' compensation insurance directly to
employers in the state of Montana. Pursuant to the Stock Purchase Agreement
dated May 31, 1996 among NAICC, Valor and Keith E. Brownfield, NAICC paid
approximately $2.9 million to Valor stockholders, with an additional $500,000
payable if certain cumulative net income goals are achieved by Valor prior to
December 31, 2000.
65
<PAGE>
NAICC utilizes a proprietary premium and loss ("PAL") software application
in connection with the primary functions of data entry, reserving, calculation
of benefits and payment of expenses and benefits that NAICC believes offers an
advantage because it is stable, expandable, multi-functional and cost
effective. NAICC's PAL software automatically rates and issues policies,
endorsements and premium audits in all states and provides easy access to data
via its relational database architecture. PAL also provides automatic
reinsurance cessions of both premiums and losses.
Set forth below are certain financial ratios relating to NAICC's workers'
compensation business and a comparison of the combined ratios of NAICC's
workers' compensation business to the industry averages for the periods
indicated.
<TABLE>
<CAPTION>
THREE MONTHS
YEARS ENDED DECEMBER 31, ENDED MARCH 31,
---------------------------- ----------------
1993 1994 1995 1995 1996
-------- -------- -------- ------- -------
<S> <C> <C> <C> <C> <C>
STATUTORY BASIS:
Loss and LAE ratio............. 76.9% 66.6% 71.0% 77.0% 75.8%
Policyholder dividend ratio.... 5.8 12.0 4.1 3.7 1.0
Expense ratio.................. 24.2 25.4 31.4 29.2 57.4
-------- -------- -------- ------- -------
Combined ratio................. 106.9% 104.0% 106.5% 109.9% 134.2%
======== ======== ======== ======= =======
GAAP BASIS:
Loss and LAE ratio............. 76.9% 66.6% 71.0% 77.0% 75.8%
Policyholder dividend ratio.... 4.5 7.6 0.3 1.0 1.0
Expense ratio.................. 25.1 26.0 32.3 28.3 55.8
-------- -------- -------- ------- -------
Combined ratio................. 106.5% 100.2% 103.6% 106.3% 132.6%
======== ======== ======== ======= =======
STATUTORY INDUSTRY AVERAGE:(1)
Combined ratio................. 109.1% 101.4% -- -- --
======== ======== ======== ======= =======
</TABLE>
- --------
(1) Source: A.M. Best statistical data (statutory basis) for workers'
compensation insurance companies. Data for 1995 and the first quarter of
1996 are not currently available.
Marketing
NAICC writes workers' compensation business primarily in the states of
California, Oregon, Arizona and Idaho through more than 700 contracted
independent agents. The agency contracts provide authority to bind coverage
within detailed underwriting guidelines set by NAICC. There are no managing
general agency contracts or general agency contracts covering NAICC's workers'
compensation insurance.
NAICC maintains five new business production offices located in Portland,
Oregon; Phoenix, Arizona; and San Francisco, Fresno; and Long Beach,
California. The marketing and underwriting employees at these offices solicit
and underwrite only new applications produced by independent agents. NAICC
believes that its local presence allows it to better serve independent agents.
All other functions of policyholder service, renewal underwriting, policy
issuance, premium collection and record retention are performed centrally at
NAICC's home office in Long Beach, California.
NAICC targets employers having operations that are classified as low to
moderate hazard and that generally have payrolls under $1 million. Typically,
annual premiums for employers in this payroll category are less than $25,000.
According to the California Workers' Compensation Insurance Rating Bureau
("WCIRB"), which is the designated statistical agent for the California
Department, in California, 58% of all policyholders pay premiums that fall
within the range of $1,000 to $25,000 annually. Only approximately 10% pay
premiums greater than $25,000.
66
<PAGE>
Underwriting
NAICC maintains a disciplined approach to risk selection and pricing. In
accordance with this policy, NAICC selects each prospective policyholder based
on the characteristics of such risk and establishes premiums based on loss
experience and risk exposure. NAICC's pricing policy is not driven by market
share considerations.
Rates, rating plans, policyholder dividend plans and policy forms are
developed and filed by NAICC's underwriting personnel with the appropriate
regulatory agency in each state in which NAICC operates. NAICC relies
principally upon rates promulgated by either the WCIRB or the National Council
on Compensation Insurance, the statistical agent for other western states in
which NAICC markets insurance. Depending upon the state and NAICC's filed
rating plans, NAICC may deviate from the filed rates where warranted by the
characteristics of the risk. Individual policy rate deviations are tracked by
NAICC's PAL on-line underwriting management system.
In 1995, approximately 82% of NAICC's workers' compensation gross premiums
written and 70% of NAICC's workers' compensation policies were produced in
California. For the 1995 policy year, NAICC's workers' compensation policies
in California had an average price of 130.2% of the WCIRB filed loss and LAE
rates, sometimes referred to as "advisory pure premium rates." The California
statewide average price was 106.5% of such advisory pure premium rates.
Advisory pure premium rates are a benchmark for rate adequacy in the
California workers' compensation business.
Claims
NAICC's workers' compensation claims are received, reviewed, processed and
paid by NAICC employees located in claims service offices in Portland, Oregon;
San Francisco, California; and Long Beach, California. NAICC's claims service
personnel in NAICC's home office provide technical support and guidance to
NAICC's claims service offices and monitor all activity at the claims service
office level. All claims personnel receive training in fraud identification.
NAICC believes that it is able to obtain the best result for the employer
through the outsourcing of certain claims functions. Legal and investigative
services (including fraud investigation) are provided by independent law firms
and private investigation firms. NAICC also uses vendors to provide medical
cost savings through physician and hospital bill review, access to preferred
provider networks and large case management on an as-needed basis. NAICC
believes that it is able to competitively contain legal costs, fraud and
medical provider excesses by outsourcing these functions. Most of NAICC's
policyholders are not of sufficient size or type to make a more specialized
managed care approach to medical cost containment more cost effective.
Workers' compensation claims processing involves the issuance of numerous
checks to vendors of legal, medical and rehabilitation services, as well as to
the injured worker. The PAL claims subsystem automatically prints these checks
as well as letters of explanation to the injured worker that must accompany
each check. The claims subsystem has a diary feature which enables claims
examiners and supervisors to constantly monitor open individual claims.
Finally, the claims subsystem provides all necessary routine management
reports and also has the capability to build and run customized queries
easily. NAICC management believes this subsystem is of competitive advantage
to NAICC because it is stable, expandable, and it functions at a relatively
low cost.
NAICC'S NON-STANDARD PERSONAL AUTOMOBILE INSURANCE BUSINESS
General
NAICC currently writes non-standard personal automobile insurance only in
California. NAICC began writing non-standard personal automobile insurance in
July 1993. Non-standard risks are those segments of the driving public which
generally are not considered to be "preferred" business, such as drivers with
a record of prior accidents or driving violations, drivers involved in
particular occupations or driving certain types of vehicles, or those who have
been non-renewed or declined by another insurance company. Management believes
that opportunities in the non-standard personal automobile insurance market
are influenced by many factors,
67
<PAGE>
including the market conditions for standard automobile insurance, the
assigned risk or residual market plans of individual states and the extent to
which state motor vehicle laws are enforced.
NAICC's management believes the non-standard personal automobile insurance
market has grown due to state law enforcement agencies' stepping up
enforcement of motor vehicle laws, including drunk driving and uninsured
motorist laws. According to A.M. Best, premiums from the national non-standard
personal automobile insurance market grew at a compounded annual rate of 13%
from 1990 through 1994, the last year for which such information is available.
NAICC had 15,419 and 20,000 non-standard personal automobile policies in
force for the years ended December 31, 1993 and 1994, respectively, compared
to more than 29,000 policies in force in 1995. NAICC cedes 50% of its non-
standard personal automobile direct premiums written, direct losses and
allocated LAE to a major reinsurance company under a quota-share reinsurance
agreement.
Set forth below are certain financial ratios relating to NAICC's non-
standard personal automobile business and a comparison of the combined ratios
of NAICC's non-standard personal automobile business to the industry averages
for the periods included.
<TABLE>
<CAPTION>
THREE MONTHS
YEARS ENDED DECEMBER 31, ENDED MARCH 31,
---------------------------- ----------------
1993 1994 1995 1995 1996
-------- -------- -------- ------- -------
<S> <C> <C> <C> <C> <C>
STATUTORY BASIS:
Loss and LAE ratio............. 51.8% 71.3% 65.8% 68.8% 69.2%
Expense ratio.................. 41.3 34.1 31.3 31.1 27.3
-------- -------- -------- ------- -------
Combined ratio................. 93.1% 105.4% 97.1% 99.9% 96.5%
======== ======== ======== ======= =======
GAAP BASIS:
Loss and LAE ratio............. 51.8% 71.3% 65.8% 68.8% 69.2%
Expense ratio.................. 60.0 33.6 33.6 34.4 32.9
-------- -------- -------- ------- -------
Combined ratio................. 111.8% 104.9% 99.4% 103.2% 102.1%
======== ======== ======== ======= =======
STATUTORY INDUSTRY AVERAGE:(1)
Combined ratio................. 101.7% 102.7% 104.1% -- --
======== ======== ======== ======= =======
</TABLE>
- --------
(1) Source: A.M. Best, "Best's Review: By-line Underwriting Results; Auto
Private Passenger." Quarterly data are not currently available.
Marketing
NAICC markets non-standard personal automobile insurance solely through one
general agent, SCJ Insurance Services, Inc., which, in turn, markets through
600 independent agents located in California.
The characteristics of NAICC's policies in force as of December 31, 1995
define NAICC's target market. NAICC offers policy terms ranging from one month
to 12 months, approximately 56% of which are one month policies, and 35% of
which are annual policies, and the remainder are either three or six months in
term. Of NAICC's total non-standard personal automobile policies, about 95%
cover owned vehicles and 5% cover individuals who do not own an automobile.
Approximately 40% of NAICC's policyholders are ineligible for non-renewal or
cancellation under California Proposition 103. See "Regulation." About 75% of
NAICC's policies cover liability only with the remaining 25% covering both
liability and physical damage. Northern California accounted for 54% of
NAICC's net premiums written in 1995 while southern California contributed 46%
(of which 12% came from Los Angeles County). NAICC does not foresee any
significant changes in this distribution in the near term.
68
<PAGE>
Underwriting
Insurers admitted in California are required to obtain prior approval of
both rates and forms for most types of insurance, including non-standard
personal automobile liability and physical damage insurance, from the
California Department before being used as part of an insurance contract in
California. NAICC periodically revises its forms and rates based upon demand
and NAICC's historical experience. NAICC's general agent has authority,
through its agency contract, to use these forms and rates to bind new and
renewal policies in accordance with NAICC's underwriting guidelines.
The general agent performs the risk selection, rating, policy issuance, and
premium collection functions for NAICC using its own data processing system.
The general agent's computer system interfaces with NAICC's PAL computer
system and uploads all premium transactions nightly. The general agent's
system affords easy access to data through either customized or routine
management reports enabling both the management of the general agent and NAICC
to track profitability.
NAICC offers limits of liability of a maximum of: $15,000 per person and
$30,000 per accident for bodily injury liability; $10,000 for property damage
liability; automobile medical payments of a maximum of $2,000 per person;
uninsured motorists coverage of $15,000 per person; and $30,000 per accident,
and $33,000 for physical damage to any one covered automobile. NAICC does not
provide policies covering higher or excess limits of liability.
Claims
NAICC's automobile claims personnel adjust automobile claims for both
NAICC's non-standard personal and non-standard commercial automobile programs.
All of NAICC's automobile claims are handled by NAICC employees in the Long
Beach, California headquarters. Claims are reported by agents, insureds and
claimants directly to NAICC through fax or toll-free lines. Claims are
entered, reserved and assigned to NAICC front line adjusters within 24 hours.
NAICC front line adjusters are authorized to settle claims of up to $5,000 to
facilitate rapid resolution. Settlement of claims in excess of $5,000 requires
supervisory approval. NAICC adjusters assign independent appraisers from a
list of NAICC-approved firms to provide repair estimates and other general
appraisal services. The actual investigation of claims is handled primarily by
NAICC adjusters by telephone unless an in-person meeting is necessary, in
which case an independent adjuster is selected from a list approved by
management. NAICC adjusters are responsible for all aspects of claims
investigation, reserving, settlement, payment and recovery.
Each adjuster handles a pending load of 100 to 120 claims files, receiving
30 to 40 new claims per month. Although NAICC currently receives approximately
450 new claims per month, the total auto claims pending count is maintained at
approximately 1,450 pending claims which reflects NAICC's rapid resolution of
claims. Of the approximately 1,450 claims currently pending, fewer than 85 are
being litigated.
NAICC manages litigation through regular supervisory involvement. Although
NAICC assigns cases to outside counsel, NAICC's management conducts routine
file reviews, and adjusters take an active role in managing and resolving the
cases. NAICC has alternative fee arrangements with law firms in several major
cities and closely monitors bills and performance through file reviews and
litigation reports.
All claims personnel receive training in fraud identification. Claims
involving suspected fraud are referred to an in-house special investigation
unit ("SIU") adjuster who manages a detailed investigation of these claims
using outside investigative firms. When evidence of fraudulent activity is
identified, the SIU adjuster works with the various state departments of
insurance, the National Insurance Crime Bureau and local law enforcement
agencies in handling the claims.
Claims recovery is managed by the handling claims adjuster. NAICC has a
contractual agreement with a salvage buyer in order to maintain high levels of
recovery. Subrogation is handled in-house for most claims, while difficult
claims are sent to a collection agent for follow-up on a contingent fee basis.
69
<PAGE>
The auto claims group uses NAICC's PAL system which facilitates all aspects
of claims handling and management by providing (i) on-line claim and policy-
limit verification, (ii) automated claim diary system functions which support
claims supervision, (iii) assurance that expense checks are issued only to
authorized vendors under adjuster authority, (iv) information pertaining to
policyholders' claims history, and (v) form letters which may be customized at
the direction of the adjuster.
NAICC'S NON-STANDARD COMMERCIAL AUTOMOBILE INSURANCE BUSINESS
General
Automobiles used or owned by businesses that are used to further the
purposes of those businesses are classified broadly as "commercial
automobiles" for insurance purposes. The majority of automobiles owned or used
by businesses are insured under policies that provide other coverages for the
business, e.g., general liability insurance. A large percentage of standard
insurers will not cover certain commercial automobiles because of the claims
experience and/or the type of the business, the use or the driver of the
automobile.
NAICC's policies in force typically cover fleets of four or fewer
automobiles. The current average annual premium of the policies in force is
approximately $3,000. About 45% of the policies provide both liability and
physical damage coverage; most of the remainder provide liability insurance
only. Businesses which are unable to insure a specific driver and businesses
having vehicles used in higher than normal hazardous activities are typical
NAICC insureds. Examples of higher hazard vehicles include sand and gravel
haulers, farm vehicles and certain short haul common carriers. NAICC does not
insure intermediate or long haul truckers, trucks hauling logs, pulp or
similar higher hazard automobiles.
Marketing
NAICC markets non-standard commercial automobile insurance through
approximately 600 independent agents located in Arizona, California, Idaho,
Nevada and Oregon. NAICC does not use any managing general agents in this line
of business, although NAICC has granted agency contracts to agents who may use
independent agents. NAICC's new business field offices support the production
of this business through the independent agents.
NAICC believes its procedures facilitate agents' production and placement of
this business with NAICC. Agents are given a diskette for use in their
personal computer containing a menu driven, DOS-based program that rates
applicants and produces a printed application for the agent. The agents have
limited authority to quote and bind policies subject to NAICC's underwriting
guidelines. Finally, all policy premiums are paid directly to NAICC,
eliminating the need for the agent to perform the collection and credit
function.
Underwriting
All data entry, final rating, underwriting and policy issuance for the non-
standard commercial automobile business is done by NAICC employees at its Long
Beach, California office. These employees also perform the premium collection
function. NAICC leases a personal computer-based application for rating,
policy issuance and direct billing that interfaces with its mainframe PAL
system. NAICC believes that this system provides an efficient means of
performing these functions.
Rates and policy forms are developed by NAICC and filed with the regulators
in each of the relevant states, depending upon each state's requirements.
NAICC contracts with a pricing actuary to assist in the rate evaluation,
determination and filing. NAICC relies upon industry experience tempered by
its own experience in establishing rates.
The maximum non-standard commercial automobile policy limit provided by
NAICC is $1 million bodily injury and property damage combined single limit of
liability for each occurrence. NAICC's retains the first
70
<PAGE>
$150,000 bodily injury and property damage combined single limit of liability
for each occurrence. Losses in excess of $150,000 per occurrence are ceded to
reinsurers.
Claims
All of NAICC's non-standard commercial automobile claims are handled under
the direction of the NAICC claims personnel who also are in charge of the non-
standard personal automobile claims operations. The policies and procedures
outlined in the discussion of non-standard personal automobile claims applies
also to non-standard commercial automobile claims. Currently, there are fewer
than 100 such pending claims.
PROVISIONS FOR LOSSES AND LOSS ADJUSTMENT EXPENSES
NAICC's provisions for unpaid losses and LAE are made based upon estimates
for reported losses, NAICC's historical experience of losses reported by
reinsured companies for insurance assumed, and actuarial estimates based upon
historical NAICC and industry experience for development of reported and
unreported (incurred but not reported) claims. Any changes in estimates of
ultimate liability are reflected in current operating results. Inflation is
assumed, along with other factors, in estimating future claims costs and
related liabilities. NAICC does not discount any of its loss reserves for
financial statement purposes.
The ultimate cost of claims is difficult to predict for several reasons.
Claims may not be reported until many years after they are incurred. Changes
in the rate of inflation and the legal environment have created forecasting
complications. Court decisions rendered in the time between the dates on which
a claim is reported and its resolution may dramatically increase liability.
Punitive damages awards have grown in frequency and magnitude. The courts have
imposed increasing obligations on insurance companies to defend policyholders.
As a result, the frequency and severity of claims have grown rapidly and
unpredictably.
The unpaid losses and LAE related to environmental claims are established
based upon facts currently known and the current state of the law and coverage
litigation. Liabilities are estimated for known environmental claims
(including the cost of related litigation) when sufficient information has
been developed to indicate the involvement of a specific contract of insurance
or reinsurance and management can reasonably estimate its liability.
Liabilities for unknown environmental claims or unreported environmental
claims and development of reported environmental claims are included in
NAICC's bulk unpaid losses. Management believes that the liability for unknown
or unreported environmental claims is not material based on historical
reporting experience. The liability for the development of reported
environmental claims is based on estimates of the range of potential losses
for reported environmental claims in the aggregate as well as currently
established case estimates and industry development factors for reported
claims. Estimates of liabilities are reviewed and updated continually.
Exposure exists in excess of amounts that are currently recorded and that
could be material.
Due to these factors, among others, the process used in estimating unpaid
losses and LAE cannot provide an exact result. Management of NAICC believes
that the provisions for unpaid losses and LAE are adequate to cover the net
cost of losses and LAE incurred to date; however, such liability necessarily
is based on estimates and there can be no assurance that the ultimate
liability will not exceed such estimates.
71
<PAGE>
The following table presents information on changes in the provisions for
losses and LAE of NAICC for the periods presented:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1993 1994 1995
-------- -------- --------
(dollars in thousands)
<S> <C> <C> <C>
Net unpaid losses and LAE at beginning of year.. $104,825 $119,223 $128,625
-------- -------- --------
Add:
Provision for losses and LAE related to:
Current year.................................. 65,157 67,131 45,592
Prior years................................... 743 384 3,123
-------- -------- --------
Total incurred.............................. 65,900 67,515 48,715
-------- -------- --------
Less:
Loss and LAE payments for claims related to:
Current year.................................. 11,852 15,849 14,464
Prior years................................... 39,650 42,264 46,582
-------- -------- --------
Total paid.................................. 51,502 58,113 61,046
-------- -------- --------
Net unpaid losses and LAE at end of year........ 119,223 128,625 116,294
Plus reinsurance recoverables on unpaid losses
and LAE........................................ 18,256 17,705 21,112
-------- -------- --------
Gross unpaid losses and LAE at end of year...... $137,479 $146,330 $137,406
======== ======== ========
</TABLE>
The losses and LAE incurred in 1995 relating to prior years are primarily
attributable to claims from business written prior to 1986 that is in run-off.
Two claims from business in run-off comprise substantially all of the losses
and LAE incurred related to prior years: one being a claim for asbestos
exposure, which was settled in 1995 in the form of a policy buy back; the
other, a construction defect claim in which a court decision was contrary to
previously established case law.
NAICC has environmental claims against policies issued prior to 1980. The
principal exposure arises from excess and primary policies of business in run-
off, the obligations of which were assumed by NAICC. These excess and primary
claims are relatively few in number and have policy limits of between $50,000
and $1 million, with reinsurance generally above $50,000. NAICC also has
environmental claims primarily associated with participation in excess of loss
reinsurance contracts assumed by NAICC. These reinsurance contracts have
relatively low limits, generally less than $25,000, and estimates of unpaid
losses are based on information provided by the primary insurance company. As
of December 31, 1995, NAICC's net unpaid losses and LAE relating to
environmental claims were $4.1 million. Included in the 1995 provision for
losses and LAE occurring in prior years is $3.9 million related to claims
arising from businesses in run-off since 1987, which includes environmental
claims. Such losses and LAE increased NAICC's loss and LAE ratio for 1995 from
74.1% to 80.5%.
The following table indicates the manner in which unpaid losses and LAE at
the end of a particular year change as time passes. The first section reflects
the liability as originally reported, net of reinsurance, at the end of the
stated year. Each calendar year-end liability includes the estimated liability
for that accident year and all prior accident years relating to that
liability. The second section shows the original recorded net liability as of
the end of successive years adjusted to reflect facts and circumstances which
were subsequently discovered. The next line, cumulative deficiency, compares
the adjusted net liability amount to the net liability amount as originally
established and reflects whether the net liability as originally recorded was
adequate to cover the estimated cost of claims. The third section reflects the
cumulative amounts related to that liability that were paid, net of
reinsurance, as of the end of successive years.
72
<PAGE>
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------------------------------------------------------
1988 1989 1990 1991 1992 1993 1994 1995
-------- -------- -------- -------- -------- -------- -------- --------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net unpaid losses and
LAE at end of year..... $115,858 $ 95,272 $ 91,870 $ 97,810 $104,825 $119,223 $128,625 $116,294
Net unpaid losses and
LAE re-estimated as of:
One year later......... 120,527 100,599 92,632 94,364 105,568 119,607 131,748
Two years later........ 124,167 100,143 87,504 99,875 111,063 123,039
Three years later...... 121,081 94,954 89,844 107,945 117,756
Four years later....... 116,384 96,948 95,576 116,018
Five years later....... 118,175 101,537 102,081
Six years later........ 122,784 107,344
Seven years later...... 128,589
Cumulative deficiency... (12,731) (12,072) (10,211) (18,208) (12,931) (3,816) (3,123)
Cumulative net paid
losses and LAE as of:
One year later......... 41,767 38,165 31,162 39,131 39,650 42,264 46,582
Two years later........ 72,735 56,876 53,424 63,483 68,025 71,702
Three years later...... 86,142 71,543 66,198 81,485 88,038
Four years later....... 96,352 78,991 75,963 94,238
Five years later....... 102,385 84,980 83,704
Six years later........ 107,661 90,458
Seven years later...... 112,555
Gross unpaid losses and
LAE at end of year..... $125,391 $137,479 $146,330 $137,406
Reinsurance
recoverable............ 20,566 18,256 17,705 21,112
-------- -------- -------- --------
Net unpaid losses and
LAE at end of year..... 104,825 119,223 128,625 116,294
Gross unpaid losses and
LAE re-estimated as of:
One year later......... 130,347 137,998 149,815
Two years later........ 132,201 141,737
Three years later...... 139,823
-------- -------- --------
Re-estimated reinsurance
recoverable............ 22,067 18,698 18,067
-------- -------- --------
Net unpaid losses and
LAE re-estimated....... 117,756 123,039 131,748
Gross cumulative
deficiency............. (14,432) (4,258) (3,485)
</TABLE>
The table above ordinarily would present a ten year development of unpaid
losses and LAE; however, the loss and LAE data of NAICC relating to periods
prior to 1988 are not comparable to such data for periods subsequent to 1988.
In 1988, NAICC assumed the unpaid policyholder liabilities of Mission American
Insurance Company ("MAIC") for accident years 1985, 1986 and 1987. The data
subsequent to 1987 necessary to update the unpaid losses and LAE of NAICC as
of December 31, 1987 and earlier includes loss and LAE data relating to MAIC
that is not reflected in the December 31, 1987 unpaid losses and LAE of NAICC,
and such data cannot be segregated because of the assumption of those 1985,
1986 and 1987 accident year liabilities in 1988. The 1988 assumption of the
policyholder liabilities of MAIC was the last of a series of significant
events and transactions that resulted in, among other things, the acquisition
by Danielson of a majority ownership interest in NAICC, a change in the
management of NAICC, and a material change in the business and operations of
NAICC. As a result of these material changes, NAICC believes the table above,
reflecting information commencing in 1988, provides the most meaningful and
relevant historical analysis possible of unpaid losses and LAE of NAICC.
Although NAICC continues to receive claims relating to 1988 and earlier, the
liability recorded represents the best estimate by NAICC's management of the
liability for currently foreseeable claims.
The cumulative deficiency as of December 31, 1995 of $10.2 million, $18.2
million and $12.9 million for 1990, 1991 and 1992 of net unpaid losses and
LAE, respectively, is primarily attributable to adverse development,
subsequent to 1991, of the workers' compensation loss experience in the 1990
and 1991 loss years. The California workers' compensation industry, including
NAICC, experienced adverse development during those loss years, primarily in
Southern California, largely as a result of a significant increase in the
number of workers' compensation post-termination stress claims primarily due
to a downturn in the California economy and an increase in unemployment.
Workers' compensation reform legislation passed in July 1993, which
73
<PAGE>
effectively reduced the number of successful post-termination stress claims,
as well as a decrease in unemployment in California and highly publicized
anti-fraud activity, have contributed to the significantly more favorable loss
experience in the 1992, 1993 and 1994 loss years. In 1995, favorable
development of approximately $4.9 million in the 1992 and 1993 loss years for
workers' compensation was offset by $2.6 million of adverse development of
commercial business no longer written by NAICC and $5.4 million of adverse
development of the businesses in run-off.
Conditions and trends that have affected the development of these
liabilities in the past may not necessarily recur or have similar effects in
the future. It would not be appropriate to use this cumulative history in the
projection of future performance.
REINSURANCE
In its normal course of business and in accordance with industry practice,
NAICC reinsures a portion of its workers' compensation exposure with other
insurance companies to limit effectively its maximum loss arising out of any
one occurrence. Contracts of reinsurance do not legally discharge the original
insurer from its primary liability. In accordance with GAAP, the estimated
reinsurance receivable arising from these reinsurance contracts is reported
separately as an asset.
In 1995, NAICC retained the first $400,000 per occurrence, and in 1996
increased its retention to $500,000 per occurrence, for workers' compensation
claims. General Reinsurance Corporation ("GRC") continues to reinsure NAICC
for the difference between NAICC's net retention and $5 million per
occurrence. American Re-Insurance Company ("AmRe") continues to reinsure NAICC
for the difference between $5 million per occurrence and $10 million per
occurrence. Finally, NAICC places the remaining $90 million per occurrence, in
excess of the first $10 million per occurrence, with 18 other reinsurers.
Beginning with NAICC's commencement of its non-standard personal automobile
program in June 1993, and continuing to date, NAICC cedes 50% of its non-
standard personal automobile premiums and losses, under a treaty, on a quota-
share basis to Munich American Reinsurance Company ("MARC"). This risk sharing
is based upon a joint venture marketing effort rather than a traditional need
for reinsurance.
Non-standard commercial automobile liability insurance policies are
reinsured under a treaty with GRC. NAICC retains the first $150,000 combined
single limit of liability per occurrence for bodily injury and property
damage. The next $850,000 per occurrence in excess of NAICC's net retention is
ceded to GRC.
As of December 31, 1995, GRC and MARC were the only reinsurers that
accounted for more than 10% of NAICC's reinsurance recoverable on paid and
unpaid claims. Total premiums ceded to reinsurers by NAICC in 1995 were 22% of
gross premiums written. NAICC monitors its reinsurers by reviewing A.M. Best
reports and rating information from reinsurance intermediaries and by
analyzing financial statements of its reinsurers. At December 31, 1995, NAICC
had reinsurance recoverables on paid and unpaid claims of $10 million from GRC
and $9.8 million from MARC. Both MARC and AmRe are rated A+ by A.M. Best; GRC
is rated A++ by A.M. Best.
NAICC and its two subsidiaries participate in an intercompany pooling and
reinsurance agreement under which such subsidiaries cede 100% of their net
liability, defined to include premiums, losses and allocated LAE, to NAICC to
be combined with the net liability for policies of NAICC in formation of a
"pool." NAICC simultaneously cedes to those subsidiaries 10% of the net
liability of the pool. NAICC's subsidiaries commenced participation in the
pool in July 1993 and January 1994. The participating subsidiaries further
reimburse NAICC for executive and professional services and administrative
expenses based on designated percentages of net premiums written for each line
of business. This intercompany pooling and reinsurance agreement has been
approved by the California Department.
74
<PAGE>
INVESTMENTS
NAICC's investment objectives are to produce an attractive total rate of
return on a pre-tax basis while, at the same time, protecting and enhancing
policyholders' capital and surplus on a long-term basis and maintaining
adequate liquidity for insurance operations. NAICC's investment policy
provides that no more than 5% of the investment portfolio at market value can
be invested in equity securities (other than mutual funds) and no more than
10% of the investment portfolio at market value may be invested in mutual
funds. Based on market value at March 31, 1996, 97.4% of NAICC's portfolio
consisted of investment grade fixed maturity securities, 1.6% of the portfolio
consisted of short-term investments and 1% of the portfolio consisted of
equity securities. In addition, investments in individual securities are
limited to a percentage of policyholders' capital and surplus, depending on
the security's rating and the type of security. At March 31, 1996, the fixed
maturity portfolio investments of NAICC had an average maturity of 4.2 years.
The following table sets forth a summary of Danielson's consolidated
investment portfolio as of March 31, 1996, by investment type (dollars in
thousands).
<TABLE>
<CAPTION>
AS OF MARCH 31, 1996
----------------------------------------
AMORTIZED FAIR
COST PERCENTAGE VALUE PERCENTAGE
--------- ---------- -------- ----------
<S> <C> <C> <C> <C>
Fixed maturities:
U.S. Government/Agency (AAA)..... $ 63,815 39.2% $ 64,763 39.6%
Mortgage-backed (AAA)............ 62,203 38.2 61,387 37.5
Corporates (AAA to A)............ 34,369 21.1 34,419 21.0
Corporates (BBB)................. 2,131 1.2 2,242 1.4
-------- ----- -------- ------
Subtotal-investment grade........ 162,518 99.7 162,811 99.5
Other............................ 105 0.1 105 0.1
-------- ----- -------- ------
Total fixed maturities............. 162,623 99.8 162,916 99.6
-------- ----- -------- ------
Equity securities.................. 256 0.2 602 0.4
-------- ----- -------- ------
TOTAL.......................... $162,879 100.0% $163,518 100.00%
======== ===== ======== ======
</TABLE>
The portfolio of Danielson includes mortgage-backed securities ("MBS")
representing 34.7% and 36.9% of Danielson's total portfolio at December 31,
1994 and 1995, respectively, compared to 37.5% at March 31, 1996. All MBS held
by NAICC are issued by the Federal National Mortgage Association ("Fannie
Mae") or the Federal Home Loan Mortgage Corporation ("Freddie Mac"), both of
which are rated "Aaa" by Moody's Investors Services. Fannie Mae and Freddie
Mac are public corporations that were created by Congress and which guarantee
the principal balance of their securities. Fannie Mae also guarantees timely
payment of principal and interest. One risk associated with MBS is the timing
of principal payments on the mortgages underlying the securities. The amount
of principal an MBS investor receives is dependent upon the amortization
schedules and termination patterns (resulting from prepayments or defaults) of
the mortgages included in the particular underlying pool of mortgages
supporting the security purchased. Although the principal is guaranteed, the
yield can vary depending upon the timing of the repayment of the principal
balance, i.e., prepayment and interest rate risk. Fannie Mae and Freddie Mac
also issue higher risk securities and true derivatives, however, these are not
the type held by NAICC. MBS may be composed of various types of bonds having
different interest rates, maturities, as well as priorities to the cash flows
of the underlying mortgages. MBS with sinking fund schedules are known as
Planned Amortization Classes ("PAC") and Targeted Amortization Classes
("TAC"). The structures of PACs and TACs attempt to increase prepayment timing
certainty, thereby minimizing prepayment and interest rate risk. MBS as well
as callable bonds, in contrast to other bonds, are more sensitive to market
value declines in a rising interest rate environment than to market value
increases in a declining interest rate environment. This is primarily because
of payors' increased incentive and ability to prepay principal and issuers'
increased incentive to call bonds in a declining interest rate environment.
NAICC's management does not believe that the inherent prepayment risk in its
portfolio is significant. However, management of NAICC believes that
75
<PAGE>
the potential impact of interest rate fluctuations on Danielson's Consolidated
Financial Statements could be significant because of the greater sensitivity
of the MBS portfolio to market value declines and the classification of the
entire portfolio as available-for-sale. The following table sets forth MBS
held by NAICC as of March 31, 1996, by type of instrument (dollars in
thousands):
<TABLE>
<CAPTION>
AS OF MARCH 31, 1996
--------------------
PERCENT OF
AMORTIZED TOTAL
COST PORTFOLIO
--------- ----------
<S> <C> <C>
Non-PAC/TAC........................................... $18,674 11.5%
PAC/TAC............................................... 43,529 26.7
------- ----
Total MBS............................................. $62,203 38.2%
======= ====
</TABLE>
REGULATION
Insurance companies are subject to insurance laws and regulations
established by the states in which they transact business. The agencies
established pursuant to these state laws have broad administrative and
supervisory powers relating to the granting and revocation of licenses to
transact insurance business, regulation of trade practices, establishment of
guaranty associations, licensing of agents, approval of policy forms, premium
rate filing requirements, reserve requirements, the form and content of
required regulatory financial statements, periodic examinations of insurers'
records, capital and surplus requirements and the maximum concentrations of
certain classes of investments. Most states also have enacted legislation
regulating insurance holding company systems, including with respect to
acquisitions, extraordinary dividends, affiliate transactions and other
related matters. Danielson and its insurance subsidiaries have registered as a
holding company system pursuant to such legislation in California and
routinely report to other jurisdictions. The Association has formed committees
and appointed advisory groups to study and continue to formulate regulatory
promulgations on such diverse issues as the use of surplus debentures,
accounting for reinsurance transactions and the adoption of RBC requirements.
It is not possible to predict the impact of future state and federal
regulations on the operations of Danielson or its insurance subsidiaries.
NAICC is an insurance company domiciled in the State of California and is
regulated by the California Department for the benefit of policyholders. The
California Department is currently conducting a routine examination of the
statutory basis financial statements of NAICC and its subsidiaries as of
December 31, 1995 and has disclosed no findings to date. The California
Insurance Code prohibits the payment, from other than accumulated earned
surplus, of stockholder dividends which exceed the greater of (i) 10% of prior
year's statutory surplus and (ii) prior year's statutory net income, without
prior approval of the California Department. As a result of NAICC's negative
unassigned surplus, NAICC is not permitted to pay dividends in 1996 without
prior regulatory approval.
The California Automobile Assigned Risk Plan (the "Assigned Risk Plan")
provides state mandated minimum levels of automobile liability coverage to
drivers whose driving records, or other relevant characteristics, make it
difficult for them to obtain insurance in the voluntary market. The Assigned
Risk Plan allocates risks to all personal automobile insurers in the voluntary
market based on each insurer's proportionate share of the personal automobile
direct premiums written. Premium rates for Assigned Risk Plan are established
by the California Department and, by law, these rates must be actuarially
sound. To be eligible for the Assigned Risk Plan, an applicant must first be
denied coverage by three admitted insurance carriers. The Assigned Risk Plan
rates were increased by approximately 85% on October 1, 1990 and by 5.2% on
June 1, 1995. The combination of these factors have caused the number of
drivers applying for insurance under the Assigned Risk Plan to decline as well
as reduced the underwriting losses from the Assigned Risk Plan. The population
of drivers in the Assigned Risk Plan has declined by approximately 90% in the
period from 1988 to 1995 and continued declines are anticipated. NAICC does
not expect assignments from the Assigned Risk Plan that will be material or
that will have a material adverse effect upon the profitability of this line
of business.
76
<PAGE>
Prior to 1989, California automobile insurance rates, other than assigned
risk rates discussed above, were not subject to approval by any governmental
agency. In November 1988, Proposition 103, a California ballot initiative, was
passed into law. Among other things, Proposition 103 requires insurance
companies to obtain prior regulatory approval of any new rates prior to use.
Proposition 103 also requires automobile insurers to renew policies of good
drivers as defined in Proposition 103. Proposition 103 does not apply to the
workers' compensation line of business.
A.M. BEST RATING
A.M. Best has assigned a rating of B++ (Very Good) to NAICC. A.M. Best
ratings, which range from A++ (Superior) to F (In Liquidation), reflect that
rating agency's independent opinion of a company's financial strength and
ability to meet its obligations to policyholders. Such ratings are based on a
comparative analysis of the financial condition and operating performance of
insurance companies as determined by their publicly available reports. A.M.
Best prepares its ratings for the protection of policyholders, not
securityholders.
CAPITAL ADEQUACY AND RISK-BASED CAPITAL
Several measures of capital adequacy are common in the property and casualty
industry. The two most often used are (a) premiums-to-surplus (which measures
pressure on capital from inadequate pricing), and (b) reserves-to-surplus
(which measures pressure on capital from inadequate loss and LAE reserves). A
commonly accepted maximum premiums-to-surplus ratio is 3 to 1 and a commonly
accepted maximum reserves-to-surplus ratio is5 to 1.
The following table sets forth the consolidated premiums-to-surplus and
reserves-to-surplus ratios of NAICC (on a statutory basis):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
Ratio of:
Premiums-to-surplus........................... 2.1:1 2.3:1 1.2:1
Reserves-to-surplus........................... 2.8:1 3.2:1 2.6:1
</TABLE>
Given the foregoing relatively conservative financial security ratios,
NAICC's management believes that existing capital is adequate to support above
average premium growth from its current premium levels for the foreseeable
future.
The Association has established a property and casualty RBC model as a
regulatory tool for measuring the financial strength of an insurer based upon
established minimum levels of capital and surplus.
The RBC model sets forth four levels of increasing regulatory intervention,
(1) Company Action Level (200% of an insurer's Authorized Control Level), at
which the insurer must submit to the regulator a plan for increasing such
insurer's capital, (2) Regulatory Action Level (150% of an insurer's
Authorized Control Level), at which the insurer must submit a plan for
increasing its capital to the regulator and the regulator may issue corrective
orders, (3) Authorized Control Level (a multi-step calculation based upon
information derived from an insurer's most recent filed statutory annual
statement), at which the regulator may take action to rehabilitate or
liquidate the insurer, and (4) Mandatory Control Level (70% of an insurer's
Authorized Control Level), at which the regulator must rehabilitate or
liquidate the insurer.
At December 31, 1995, the RBC of NAICC was 290% greater than the Company
Action Level. NAICC currently has no plans to take any action designed to
affect its RBC level. The Merger and the Public Offering are not expected to
have any effect upon NAICC's RBC level.
77
<PAGE>
DANIELSON TRUST'S BUSINESS
General
Danielson Trust is chartered by the California State Banking Department to
provide trust and fiduciary services. For the years ended December 31, 1994
and 1995, and the three months ended March 31, 1996, Danielson Trust had $4.8
million, $4.6 million, and $1.2 million, respectively, of gross revenues
representing 4.3%, 5.8% and 8.7% of Danielson's consolidated revenues, for
$624,000, $2.0 million and $81,000, respectively, of net loss. In March 1993
(the "Acquisition Date"), Danielson acquired all of the common stock of
Danielson Trust, which was known as HomeFed Trust until November 13, 1993. In
February 1994, Danielson Trust acquired the assets of the Western Trust
Services ("WTS") division of Grossmont Bank. On January 31, 1996, following
approval of the California State Banking Department, Danielson Trust sold
substantially all of the fiduciary accounts administered by its Santa Barbara
branch to The Bank of Montecito (now known as Montecito Bank & Trust).
Danielson Trust's business consists of providing trust and investment
services to individuals, not-for-profit corporations and retirement service
clients, including its affiliates. In addition, since 1994 Danielson Trust has
provided custodial services for certificates of deposit to affiliated and
unaffiliated broker-dealers, as well as other custodial services to an
affiliated mutual fund. In connection with Danielson Trust's efforts to expand
its sources of business within its primary market areas, Danielson Trust has
developed enhanced product lines for its private trust and retirement services
lines of business.
The private trust unit of Danielson Trust primarily provides trust, custody
and investment management services for individuals and not-for-profit
corporations. In the performance of its private trust business, this unit may
serve in the capacities of executor, trustee, investment agent, conservator or
custodian. Danielson Trust's private trust unit generated fee income of $1.7
million, $1.3 million and $348,000 for the years ended December 31, 1994 and
1995, and the three months ended March 31, 1996, respectively.
Danielson Trust's retirement services unit (formerly known as employee
benefit trust) provides trustee, custodial, and investment management services
to corporations, typically for qualified employee benefit plans, often in the
form of defined benefit plans, 401(k) plans, or profit sharing plans.
Additionally, this unit provides cash management services to corporations
desiring short-term investments in excess of $1 million. For the years ended
December 31, 1994 and 1995 and the three months ended March 31, 1996, the
retirement services unit of Danielson Trust generated fee income of
approximately $2.3 million, $2.6 million and $652,000, respectively (excluding
retirement services custodial fee income).
In addition to custodial services associated with the private and retirement
services businesses, since 1994 Danielson Trust has provided certificate of
deposit custodial services to broker-dealers and other financial institutions.
Danielson Trust also provides custody services for an affiliated mutual fund.
Total fee income for all custody services provided by Danielson Trust for the
years ended December 31, 1994 and 1995 and the three months ended March 31,
1996 were $427,000, $537,000 and $85,000, respectively, which constituted
8.9%, 11.7% and 7.3%, respectively, of Danielson Trust's total revenue for the
comparable periods. Of that amount, fee income for CD custody services for the
years ended December 31, 1994 and 1995 and the three months ended March 31,
1996 was $339,000, $401,000 and $67,000, respectively. Approximately 1% of
Danielson Trust's total revenues in 1994 and 1995 was generated by each of its
mutual fund-related custody services and other retirement custody services,
and in the first quarter of 1996, by certain other retirement custody
services. Fee income for custody services is not reflected in the private
trust or retirement services revenue amounts referred to above.
During the first quarter of 1994, as previously anticipated, Danielson Trust
ceased providing various trust services to HomeFed Bank (Danielson Trust's
former parent prior to Danielson's acquisition of Danielson Trust) following
the sale of HomeFed Bank's branch offices by the Resolution Trust Corporation.
All of the revenues associated with such services ceased by the end of the
second quarter of 1994. For the year ended December 31, 1994, the run-off of
HomeFed Bank-related business of Danielson Trust generated non-recurring total
fee income of $310,000, or less than 7% of Danielson Trust's 1994 revenues.
78
<PAGE>
Economic Conditions
During 1995 and the first quarter of 1996, the California economy continued
to improve, resulting in increased employment statewide. The San Diego
metropolitan area experienced a significant increase in employment over 1994
and, based upon the forecasts of the University of California, San Diego
Economic Round Table, employment is predicted to continue to increase in 1996
by approximately 3% over 1995. Danielson Trust believes that the increase in
employment may result in additional funds becoming available for investment in
trust products and services, particularly retirement services products, by
corporate pension plans, as well as 401(k) participations for both new and
existing plans. Danielson Trust intends to compete actively for new business
opportunities that may develop in connection with the improvement in local
economic conditions.
Recent and anticipated consolidations among major money centers and regional
banks which are trust and fiduciary services providers in the San Diego area,
including the merger of Union Bank and The Bank of California, as well as the
merger of Wells Fargo Bank and First Interstate Bank of California, are likely
to have a significant impact on the trust and banking industries. Danielson
Trust believes that industry consolidation may provide it with the opportunity
to acquire existing trust relationships involving clients seeking a
relationship with a local trust company, rather than a much larger
institution. The industry consolidation also may increase competitive pressure
on Danielson Trust, thereby heightening the importance of cost containment,
product differentiation and development of additional services to maintain
existing clients and attract new business.
New Business
Danielson Trust has increased its efforts to expand its private trust and
retirement services business within its primary market areas through the
development and introduction of enhanced product lines in the first half of
1996. During 1995, Danielson Trust was appointed to serve as the designated
trustee for PaineWebber Incorporated ("PaineWebber") in its west coast region.
In connection with this appointment, Danielson Trust will provide trust
services to PaineWebber clients throughout California, as well as Arizona,
Colorado, Montana, Nevada, Oregon, Utah, Washington and Wyoming. Danielson
Trust intends to continue to seek additional established distribution channels
for its services. Management of Danielson Trust is hopeful that its increased
business development efforts will result in continued enhancement of Danielson
Trust's reputation as a quality provider of trust and investment services with
a strong commitment to the communities in which it operates.
EMPLOYEES
As of December 31, 1995, the number of employees of Danielson and its
consolidated subsidiaries was approximately as follows:
<TABLE>
<S> <C>
NAICC................................................ 156
Danielson Trust...................................... 64
Danielson (holding company only)..................... 12
---
Total................................................ 232
===
</TABLE>
None of these employees is covered by a collective bargaining agreement.
Danielson believes that its current staffing levels are adequate to conduct
future operations.
PROPERTIES
Danielson, at the holding company level, leases a minimal amount of space
for use as administrative and executive offices. That lease has a term of
approximately five years and is scheduled to expire in 1998. Danielson is
contemplating vacating its current leased space and leasing other office space
on substantially similar terms. Danielson believes that the space available to
it is adequate for its current and foreseeable needs.
NAICC's headquarters are located in a leased office facility in Long Beach,
California, pursuant to a long-term lease that is scheduled to expire in 1999.
In addition, NAICC has entered into short-term leases in connection with its
operations in various locations on the west coast of the United States. NAICC
believes that the foregoing leased facilities are adequate for NAICC's current
and anticipated future needs.
79
<PAGE>
Danielson Trust's headquarters are located in a leased office facility in
San Diego, California. This lease has a term of approximately ten years, with
options to extend, and is scheduled to expire in 2004.
LEGAL PROCEEDINGS
NAICC and Danielson Trust are parties to various legal proceedings which are
considered routine and incidental to their respective insurance and trust
businesses and are not material to the financial condition and operation of
such respective businesses. For information regarding the resolution of
NAICC's claim to recover a reinsurance receivable, see Note 3 of the Notes to
Danielson Consolidated Financial Statements. Danielson, at the holding company
level, is not a party to any legal proceeding which is considered material to
the financial condition and operation of its business.
80
<PAGE>
BUSINESS INFORMATION REGARDING MIDLAND
OVERVIEW
Midland, through MRIC and SRIC, its wholly-owned property and casualty
insurance subsidiaries, specializes in the underwriting, marketing and
servicing of non-standard personal automobile insurance. To a lesser extent,
Midland also insures commercial automobile and related risks and coastal
dwellings and provides automobile insurance through its Auto 13 program to
individuals who file for bankruptcy protection.
Midland markets its products primarily through three major Midland-owned
regional offices and through three independently owned general agencies, which
use approximately 8,500 independent agents located in 20 states, predominantly
in the southern and western United States. Management believes that Midland's
relationship with its general agencies and independent agents has been an
important factor in Midland's growth during the last five years.
Midland's strategy is to be a low cost provider of non-standard personal
automobile insurance. Midland's management believes that the non-standard
personal automobile market provides greater opportunities for profit than
other segments of the automobile property and casualty insurance market.
Midland's management is pursuing a growth strategy that includes an
underwriting and marketing focus on selected segments of the non-standard
personal automobile market, particularly the minimum limit liability insured.
Midland seeks to expand primarily within its existing markets because it
believes that expansion in these markets is more cost effective than expansion
in new markets. Midland also engages in a direct marketing program in areas
where its independent agency force is less established.
The following table sets forth gross premiums written in states where
Midland currently writes insurance policies for the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31, MARCH 31,
-------------------------- -----------------------
1993 1994 1995 1995 1996
-------- -------- -------- ----------- -----------
(dollars in thousands) (dollars in thousands)
<S> <C> <C> <C> <C> <C>
Alabama..................... $ 2,858 $ 3,368 $ 4,775 $ 902 $ 1,361
Arizona..................... 21,061 26,514 28,371 8,465 7,620
Arkansas.................... 1,564 2,958 17,164 3,470 5,594
California.................. 21,386 24,180 39,365 7,080 7,588
Florida..................... 12,929 28,200 29,819 8,788 8,916
Georgia..................... 4,599 9,843 8,895 2,301 2,838
Illinois.................... 830 7,603 3,637 1,181 905
Indiana..................... -- -- 2,244 -- 907
Louisiana................... 16,025 15,184 17,419 3,888 3,452
Mississippi................. 188 889 4,761 753 1,426
Oklahoma.................... -- 249 1,457 320 814
Oregon...................... 38 2,467 6,654 1,051 1,654
South Carolina.............. 2,980 1,864 1,598 335 273
Tennessee................... 6,325 10,747 22,630 5,752 5,991
Texas....................... 3,843 3,743 5,871 802 1,064
Other....................... 566 311 1,976 349 613
-------- -------- -------- ----------- -----------
Total direct premiums
written.................. 95,192 138,120 196,636 45,437 51,016
Reinsurance assumed......... 6,275 14,284 13,570 3,646 874
-------- -------- -------- ----------- -----------
Total gross premiums writ-
ten...................... $101,467 $152,404 $210,206 $ 49,083 $ 51,890
======== ======== ======== =========== ===========
</TABLE>
81
<PAGE>
The following table sets forth net premiums written by line of business for
the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31, MARCH 31,
--------------------------------------------- ----------------------------
1993 1994 1995 1995 1996
---- ---- ---- ---- ----
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Line of business:
Automobile
Non standard
Personal(1)........... $65,388 85.1% $124,505 82.4% $139,549 81.4% $41,769 86.5% $31,455 82.2%
Commercial............. 9,533 12.4 22,762 15.1 28,239 16.4 5,724 11.9 6,065 15.9
Commercial multi-peril.. 323 0.4 1,913 1.3 2,295 1.3 439 0.9 436 1.1
Dwelling................ 1,513 2.0 1,759 1.2 1,599 0.9 335 0.7 271 0.7
Other................... 62 0.1 107 -- 151 0.1 26 -- 44 0.1
------- ----- -------- ----- -------- ----- ------- ----- ------- -----
Total net premiums
written............... $76,819 100.0% $151,046 100.0% $171,833 100.0% $48,293 100.0% $38,271 100.0%
======= ===== ======== ===== ======== ===== ======= ===== ======= =====
</TABLE>
- --------
(1) Includes net premiums written in Midland's Auto 13 program.
NON-STANDARD AUTOMOBILE INSURANCE
General
Midland markets its non-standard personal and commercial automobile
insurance through agents in 20 states. Depending on the specific state, the
non-standard personal and commercial automobile insurance markets consist of
drivers who are unable to obtain coverage from standard carriers due to
undesirable or unverifiable prior driving records, no prior insurance, poor
claims experience, a desire to purchase minimum limits of liability or other
underwriting criteria or market conditions. Generally, such individuals have
fewer assets to protect than insureds who purchase standard or preferred
policies. Premium levels for non-standard risks are substantially higher than
for standard or preferred risks. Midland focuses its multistate sales efforts
primarily on individuals, and until mid-1994, priced its products toward
liability-only business. Midland traditionally has targeted individuals who
have histories of safe driving but require non-standard automobile insurance
for other reasons. In mid-1994, with its move to more full coverage risks,
Midland attracted a broader range of insureds, including many first-time full
coverage buyers as well as many buyers with undesirable insurance and credit
histories.
Midland believes that opportunities for insurers to write non-standard
automobile insurance are influenced by many factors, including compulsory
state insurance laws, market conditions for standard automobile insurance and
state assigned risk or other residual market plans. Midland believes that the
non-standard automobile market has grown during the last five years primarily
due to regulatory changes mandating insurance in certain states and due to
standard carriers exiting certain markets. Midland also believes industry
premium growth in the immediate future will be influenced to a greater extent
by rate increases than in the past five years, due to a recent deterioration
of results for non-standard automobile carriers that it considers to be its
peers.
The Auto 13 Program
Midland offers automobile insurance to individuals who file for bankruptcy
protection (personal reorganization of debt). The Auto 13 program provides
physical damage coverage only. Midland underwrites the Auto 13 program as a
class of risks on a jurisdiction by jurisdiction basis, rather than utilizing
the underwriting criteria described elsewhere herein. This coverage protects a
creditor's security interest in a Chapter 13 debtor's automobile and
eliminates court hearings to repossess automobiles for lack of insurance,
affording judges and trustees time for other matters. Unlike its other
products, Midland markets its Auto 13 program directly to bankruptcy judges
and trustees for blanket applications to appropriate Chapter 13 debtors rather
than to individuals. During the period that an individual debtor is in
reorganization pursuant to a bankruptcy court-approved plan of reorganization,
Midland's program provides automobile physical damage insurance for the debtor
in accordance with an insurance policy approved by the bankruptcy trustee and
the bankruptcy court. This enables the debtor to continue employment in order
to satisfy the debtor's obligations under the approved plan. Midland believes
that its Auto 13 program is the only one of its kind in the United States.
82
<PAGE>
Set forth below are certain financial ratios relating to Midland's business
and a comparison of the combined ratios of Midland to the industry averages
for the periods indicated.
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
YEARS ENDED DECEMBER 31, MARCH 31,
---------------------------- -------------
1993 1994 1995 1995 1996
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
STATUTORY BASIS:
Loss and LAE ratio................ 69.9% 71.3% 88.2% 71.6% 82.3%
Expense ratio..................... 23.8 25.0 23.3 23.6 23.5
-------- -------- -------- ----- ------
Combined ratio.................... 93.7% 96.3% 111.5% 95.2% 105.8%
======== ======== ======== ===== ======
GAAP BASIS:
Loss and LAE ratio................ 69.9% 71.3% 88.2% 71.6% 82.3%
Expense ratio..................... 23.4 25.1 26.8 23.7 23.5
-------- -------- -------- ----- ------
Combined ratio.................... 93.3% 96.4% 115.0% 95.3% 105.8%
======== ======== ======== ===== ======
STATUTORY INDUSTRY AVERAGE: (1)
Combined ratio.................... 101.7% 102.7% 104.1% -- --
======== ======== ======== ===== ======
</TABLE>
- --------
(1) Source: A.M. Best, "Best's Review: By-line Underwriting Results; Auto
Private Passenger." Quarterly data are not currently available.
MARKETING
Midland began to focus on the non-standard personal automobile market in
1988. Gross premiums written have grown from $27.7 million in 1991 to $210.2
million in 1995 due to Midland's expansion into selected states which was
achieved by attracting key personnel with numerous agency and other
relationships and years of experience in their respective markets.
Midland markets its non-standard personal automobile products primarily
through three major Midland-owned regional offices and three independently
owned general agencies, which use approximately 8,500 independent agents in 20
states located primarily in the southern and western regions of the United
States. The general agencies owned by Midland are presently being consolidated
into the three major regional offices of Midland. The three independent
general agencies produce approximately 15% of Midland's premiums volume.
Independent insurance agents have significant influence over which insurance
companies will write insurance policies for their customers; therefore,
Midland's management views its approximately 8,500 independent insurance
agents as Midland's primary customers. Both the general agencies and, in turn,
the independent agents are compensated based on a fixed percentage of the
gross premiums written.
During 1995, Midland terminated its relationship with a number of
independent agents, primarily in California, due to the elimination of its
full coverage programs. In addition, several marginal or unprofitable agents
also were terminated.
Midland has implemented a direct marketing program for non-standard personal
automobile insurance. If successful, Midland intends to expand this program
into other geographic territories where Midland does not have a concentration
of agents. To date, no material amount of premiums have been written through
this program.
Midland's target customer is an experienced driver who desires to purchase
the minimum statutory limits of liability insurance to comply with state laws.
That insured typically has minimal personal assets and is classified by the
industry as non-standard due to a higher cancellation rate and other factors.
83
<PAGE>
Midland's objective is to be a competitive provider of non-standard
automobile insurance while providing superior service to both agents and
insureds. This objective is largely accomplished through maintenance of good
agent and client relationships and computerization of certain marketing,
underwriting, control and administrative functions. Cost-effective automation
allows Midland to write a greater volume of non-standard automobile business
without significantly increasing administrative expenses and provides a system
for expeditious policy and claims processing.
Midland selects the states in which it does business and into which it plans
to expand based on several criteria in a given state, including the size of
the non-standard automobile insurance market, loss results, competition and
regulatory climate. In 1995, Midland expanded its writings in all its major
markets. Premium writings in Arkansas grew significantly in 1995, due to the
appointment of an independent general agency, effective January 1, 1995. The
Arkansas business is now written by one of Midland's company-owned general
agencies. Premium volume in Tennessee more than doubled in 1995 over 1994 due
to increased market penetration by a Midland-owned general agency opened in
mid-1994. In addition, Midland expanded into Indiana and Nevada during 1995.
Midland eliminated certain full coverage programs in late 1995, terminated
certain agents in 1995, implemented certain rate increases in 1995 and
anticipates seeking other rate increases in 1996 and eliminated in 1995
certain of its commercial programs which had become unprofitable. As a
consequence of those actions, Midland expects its overall gross premiums
written to be reduced in 1996 by 20% to 30%, while its profitability is
enhanced.
UNDERWRITING
Midland seeks to classify non-standard personal automobile risks into
narrowly defined segments by analyzing all available underwriting criteria,
including driving records of insureds, class of driver and type of automobile.
Midland considers many factors in determining its non-standard personal
automobile rates, including type, age and location of the vehicle, number of
vehicles per policyholder, number and type of driving violations or accidents,
deductibles and, where allowed by law, age, gender and marital status of the
insured. Midland maintains an extensive database which contains statistical
records with respect to its insureds and their driving experience and repair
costs by location, class of driver and type of automobile. Management believes
this database gives Midland the ability to be more precise in the underwriting
and pricing of its products.
A typical policyholder of Midland seeks minimum limits of liability ranging
from $25,000 to $50,000 (depending upon state regulations), with a policy term
of either six months or 12 months, and is from 25 to 55 years of age. Premiums
for such insurance are typically higher per dollar of coverage than premiums
for standard or preferred risks. Typically, Midland's insureds have fewer
assets which they desire to protect than persons who buy standard or preferred
policies.
During 1994 and early 1995, Midland significantly expanded its full coverage
insurance in California and Arizona and, due to adverse results, substantially
withdrew or eliminated this product in those states. See "MIDLAND MANAGEMENT'S
DISCUSSIONS AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS-
Results of Operations." The following chart presents certain historical
information regarding Midland's full coverage and liability only lines of
business:
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
YEARS ENDED DECEMBER 31, MARCH 31,
------------------------ --------------
1993 1994 1995 1995 1996
-------- -------- -------- ------ ------
<S> <C> <C> <C> <C> <C>
MIDLAND NON-STANDARD PERSONAL
AUTOMOBILE INSURANCE:
Percentage of net written full
coverage..................... 40% 52% 62% 57.5% 45%
Percentage of net written lia-
bility only.................. 60% 48% 38% 42.5% 55%
Total......................... 100% 100% 100% 100% 100%
</TABLE>
In 1995, Midland's loss ratio for its full coverage business exceeded the
loss ratio for its liability only business by approximately 24 percentage
points.
84
<PAGE>
Midland utilizes and continually enhances industry specific computer
software that provides its general and independent agencies with rating
capability and allows Midland to deliver prompt service while ensuring
consistency in underwriting and controls. Midland uses such integrated
computer software to automate its underwriting and rating processes. The
automated system screens insureds by comparing data on policy applications
with criteria pre-established by Midland at the point of underwriting
decisions, correctly rates and issues policies, and captures appropriate
statistics for necessary management information. The software system is custom
enhanced to address the specific requirements of Midland's target business.
Midland also extends its automated system to its general and independent
agencies in various forms and levels of integration. Depending upon the degree
of automation used by an agency, Midland provides services and support for
automated binding, underwriting, and rating of risks within the guidelines
specified as acceptable for Midland's programs. These services supply the
agency with important and pertinent information about the prospective insured,
such as the motor vehicle operation record, credit background and claims
history. The general agencies, and in certain markets independent agents, have
the authority to bind insurance coverages in accordance with procedures and
underwriting guidelines established by Midland. Midland reviews all coverages
bound by the agents promptly and decides whether to accept the insurance at
the quoted premium. Because it has established clear underwriting procedures
and guidelines and promptly reviews the underwriting decisions agents have
made, Midland considers the risks related to granting its agents binding
authority to be minimal.
CLAIMS
Insurance claims are typically investigated and settled by claims adjusters
who are on Midland's staff or affiliated with certain general agencies of
Midland. Midland currently has approximately 140 staff and affiliated claims
adjusters located in Arizona, Florida, Louisiana, Tennessee and Texas, with
average experience of approximately ten years. These adjusters settle in
excess of 95% of Midland's claims. The claims philosophy of Midland emphasizes
timely investigations, settlement of meritorious claims for equitable amounts,
adequate reserving for claims and control of external claims adjusting
expenses. Midland believes its claims philosophy over the last five years
demonstrates its commitment to servicing its agents and insureds and has been
a major factor in the growth of its non-standard personal automobile and other
insurance programs.
Claims settlement authority levels are established for each adjuster or
manager based on such person's level of experience. Upon receipt, each claim
is reviewed and assigned to an adjuster based on its type, severity and class
of insurance. The claims department is responsible for reviewing the claim,
obtaining necessary documentation and establishing appropriate loss and
expense reserves. All claims in litigation are monitored by home office
supervisors.
PROVISIONS FOR LOSSES AND LOSS ADJUSTMENT EXPENSES
Midland is required to maintain reserves for payment of estimated losses and
LAE for both reported claims (established for each case) and losses estimated
to have been incurred but which have not yet been reported ("IBNR"). Midland's
ultimate actual liability may be more or less than current reserve estimates.
Midland uses an independent actuary to assist in determining loss reserves.
As to reported losses, reserves are established on either a case or formula
basis depending on the type and circumstances of the loss. Case reserve
amounts are determined based on Midland's reserving practices which take into
account the type of risk, the circumstances surrounding each claim and policy
provisions relating to types of loss. Formula reserve amounts are based on
historical paid loss data for similar claims with provisions for trend changes
caused by such factors as inflation. Loss reserves are reviewed on a regular
basis and as new data becomes available, estimates are updated and
corresponding adjustments are made to loss reserves. As to IBNR, loss and loss
expense reserves are estimated based on many variables, including historical
and statistical information, inflation, legal developments, economic
conditions, general trends in claim severity and frequency and any other
factors which could affect the adequacy of loss reserves. Midland uses two
different methods for the purpose of establishing its IBNR reserves, depending
on the maturity of the line of business as to which the
85
<PAGE>
reserve is being established. Those methods are the "loss ratio" method and
the "counts and averages" method. Midland's IBNR reserves are reviewed
quarterly by Midland, and at least semi-annually by an independent actuarial
firm. Historically, Midland's IBNR reserves have been established based on
amounts recommended by the independent actuaries. During 1996, Midland plans
to add an in-house loss reserve actuary whose responsibilities will include
determining its IBNR reserves. Adjustments in aggregate reserves are reflected
in the operating results of the period during which such adjustments are made.
Although management uses many resources to calculate reserves, there is no
precise method for determining the ultimate liability. Midland does not
discount loss reserves for financial statement purposes. In addition, there
are no significant differences between GAAP and statutory reserves.
The following table presents information on changes in the reserve for
losses and LAE of Midland for the periods presented:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------
1993 1994 1995
---- ---- ----
(dollars in thousands)
<S> <C> <C> <C>
Net unpaid losses and LAE at beginning of year...... $ 7,121 $ 21,653 $ 49,978
------- -------- --------
Add:
Provision for losses and LAE related to:
Current year...................................... 38,341 82,241 141,130
Prior years....................................... 287 2,070 10,973
------- -------- --------
Total incurred.................................. 38,628 84,311 152,103
======= ======== ========
Less:
Loss and LAE payments for claims related to:
Current year...................................... 17,334 39,542 73,493
Prior years....................................... 6,762 16,444 36,383
------- -------- --------
Total paid...................................... 24,096 55,986 109,876
------- -------- --------
Net unpaid losses and LAE at end of year............ 21,653 49,978 92,205
Plus reinsurance recoverables on unpaid losses and
LAE................................................ 13,634 6,880 12,311
------- -------- --------
Gross unpaid losses and LAE at end of year.......... $35,287 $ 56,858 $104,516
======= ======== ========
</TABLE>
The reinsurance recoverables on paid losses and LAE were $2.8, $2.7 and $4.9
million for each of 1993, 1994 and 1995, respectively.
The following table sets forth the development of Midland's reserves for
unpaid losses and LAE from 1985 through 1995. "Net unpaid losses and LAE" sets
forth the estimated liability recorded at the balance sheet date for each of
the indicated years. This liability represents the estimated amount of losses
and LAE for claims arising in the current year and all prior years that are
unpaid at the balance sheet date, including losses incurred but not reported
to Midland.
The portion of the table labeled "Net unpaid losses and LAE as of one year
later" through "ten years later" shows the reestimated amount of the
previously recorded liability based on experience as of the succeeding year.
The estimate is increased or decreased as payments are made and more
information becomes known about the severity of still unpaid claims. For
example, the 1985 liability has developed a deficiency of $7,000 after ten
years, in that reestimated losses and LAE are expected to be more than the
initial estimated liability established in the 1985 financial statements.
The portion of the table labeled "Cumulative redundancy (deficiency)" shows
the cumulative redundancy or deficiency at December 31, 1995 of the reserve
estimate shown on the top line of the corresponding column. A redundancy in
reserves means that reserves established in prior years exceeded actual losses
and LAE or were reevaluated at less than the originally reserved amount. A
deficiency in reserves means that the reserves
86
<PAGE>
established in prior years were less than actual losses and LAE or that the
actual losses and LAE were reevaluated at more than the originally reserved
amount.
The portion of the table labeled "Cumulative net paid losses and LAE as of
one year later" through "ten years later" shows the cumulative loss and LAE
payments made in succeeding years for losses incurred prior to the balance
sheet date. For example, the 1991 column indicates that as of December 31,
1995, Midland had paid $2,549,000 of the currently reestimated ultimate
liability of $2,616,000 in loss and LAE. This implies that the December 31,
1995 estimate of the remaining liability for 1990 and prior years was $67,000.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------------------------------------------
1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995
---- ----- ---- ---- ---- ---- ---- ---- ---- ---- ----
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net unpaid losses and
LAE at end of year..... $150 $894 $627 $474 $848 $1,041 $2,259 $ 7,121 $21,653 $49,978 $ 92,205
Net unpaid losses and
LAE
re-estimated as of:
One year later......... 187 1,137 642 502 848 1,104 2,129 7,408 23,722 60,951
Two years later........ 171 1,023 649 492 898 1,161 2,577 7,159 26,251
Three years later...... 157 905 645 487 838 1,307 2,628 7,593
Four years later....... 158 870 647 445 892 1,309 2,616
Five years later....... 158 870 624 445 864 1,196
Six years later........ 158 862 624 418 885
Seven years later...... 157 862 624 441
Eight years later...... 157 862 624
Nine years later....... 157 862
Ten years later........ 157
Cumulative redundancy
(deficiency)........... (7) 32 3 33 (37) (155) (357) (472) (4,598) (10,973)
Cumulative net paid
losses and LAE as of:
One year later......... 122 907 606 450 790 904 1,060 4,784 16,456 36,383
Two years later........ 157 862 633 474 841 934 2,168 6,685 22,419
Three years later...... 151 870 642 481 818 1,173 2,417 7,252
Four years later....... 158 870 641 445 874 1,175 2,549
Five years later....... 158 870 624 445 846 1,196
Six years later........ 158 862 624 418 870
Seven years later...... 157 862 624 441
Eight years later...... 157 862 624
Nine years later....... 157 862
Ten years later........ 157
Gross unpaid losses and
LAE at end of year..... $16,711 $35,287 $56,858 $104,516
Reinsurance recover-
able................... 9,590 13,634 6,880 12,311
------- ------- ------- --------
Net unpaid losses and
LAE at end of year..... 7,121 21,653 49,978 92,205
Gross unpaid losses and
LAE
re-estimated as of:
One year later......... 18,002 38,735 69,737
Two years later........ 17,014 42,741
Three years later...... 17,499
Re-estimated reinsurance
recoverable............ 9,906 16,490 8,786
------- ------- -------
Net unpaid losses and
LAE
re-estimated........... 7,593 26,251 60,951
Gross cumulative defi-
ciency................. (788) (7,454) (12,879)
</TABLE>
Midland has experienced a cumulative loss reserve deficiency during the past
six years. The significant deficiencies for years 1993 and 1994 relate to full
coverage personal automobile programs and certain commercial programs as more
fully discussed under "MIDLAND MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS."
REINSURANCE
Reinsurance makes the assuming reinsurer liable to the extent of the
reinsurance ceded. However, in the event that reinsurance companies are unable
to pay their portion of the loss based on the coverage ceded, a ceding insurer
such as Midland would be responsible for the entire loss. Accordingly, the
creditworthiness of reinsurers is extremely important to Midland. Midland
believes that all amounts due from its reinsurers are collectible.
87
<PAGE>
Midland currently uses excess of loss reinsurance to limit the amount of
risk retained under its policies. Through excess of loss reinsurance, Midland
limits its retention on any one risk to $87,500 for personal and $250,000 for
commercial risks. Midland's reinsurers under its excess of loss reinsurance
agreements and their respective A.M. Best's ratings are: Christiana General
Insurance Corporation rated A, Chatham Reinsurance Corporation rated B++,
Gerling Global Reinsurance Corporation rated A and The Mercantile and General
Reinsurance Company of America rated A-.
In addition, in order to alleviate surplus constraints on Midland's
operating insurance subsidiaries, effective September 30, 1995, Midland
entered into a 30% quota-share reinsurance agreement with Kemper Reinsurance
Company ("Kemper") covering its non-standard personal automobile programs.
Kemper is rated A- by A.M. Best.
Midland also purchases catastrophe insurance futures and options to help
manage Midland's risk from catastrophic losses. These contracts are traded on
the Chicago Board of Trade ("CBOT") and are designed to track insured
catastrophic losses on a regional and nationwide basis. See Note 11 of the
Notes to Midland Consolidated Financial Statements.
INVESTMENTS
Midland's investment objectives are to produce an attractive total rate of
return on an after-tax basis, while protecting and enhancing policyholders'
capital and surplus on a long-term basis and maintaining adequate liquidity
for insurance operations. Midland's investment policy provides that at least
50% of Midland's portfolio must be in fixed maturity securities and no more
than 25% of admitted assets can be invested in common stock. At December 31,
1995, 89% of Midland's portfolio consisted of investment grade fixed maturity
securities and 3% of the statutory admitted assets consisted of common stock.
In addition, investments in individual securities are limited to a stated
percentage of policyholders' capital and surplus, depending on the security's
rating and the type of security. The average maturity of Midland's fixed
maturities portfolio is 5 years. The portfolio also includes less than 1% of
MBS. At December 31, 1995, approximately 4% of the fixed maturity investments
were callable bonds. Midland retains an outside investment advisor to manage
its entire portfolio.
During September 1995, Midland's management changed its intent with respect
to securities classified as held-to-maturity and reclassified all securities
in its held-to-maturity portfolio to available-for-sale.
The following table sets forth a summary of Midland's investment portfolio
as of March 31, 1996, by investment type (dollars in thousands):
<TABLE>
<CAPTION>
AS OF MARCH 31, 1996
----------------------------------------
AMORTIZED FAIR
COST PERCENTAGE VALUE PERCENTAGE
--------- ---------- -------- ----------
<S> <C> <C> <C> <C>
Fixed maturities:
U.S. Government/Agency (AAA)... $ 1,199 0.7% $ 1,198 0.7%
Mortgage-backed (AAA).......... 78 -- 79 --
Municipals (AAA to A).......... 66,926 41.6 67,494 41.7
Corporates (AAA to A).......... 37,158 23.1 37,190 23.0
Municipals (BBB)............... 500 0.3 495 0.3
Corporates (BBB)............... 36,274 22.5 36,201 22.3
-------- ----- -------- -----
Subtotal-investment grade...... 142,135 88.2 142,657 88.0
Other.......................... 4,587 2.9 4,506 2.8
-------- ----- -------- -----
Total fixed maturities......... 146,722 91.1 147,163 90.8
Equity securities.................. 14,194 8.9 14,838 9.2
-------- ----- -------- -----
Total............................ $160,916 100.0% $162,001 100.0%
======== ===== ======== =====
</TABLE>
88
<PAGE>
REGULATION
Midland and its property and casualty insurance underwriting subsidiaries
("P&C Subsidiaries") are subject to the insurance laws and regulations of
Tennessee, the domiciliary state of the P&C Subsidiaries, and the laws and
regulations of the other states in which the P&C Subsidiaries are licensed to
do business. At present, the P&C Subsidiaries collectively are licensed to do
business as insurance companies ("admitted") in 20 states and are approved
non-admitted insurers in 12 states. The insurance laws and regulations, as
well as the level of supervisory authority that may be exercised by the
various state insurance departments, vary by jurisdiction, but generally grant
broad powers to supervisory agencies or state regulators to examine and
supervise insurance companies and insurance holding companies with respect to
every significant aspect of the conduct of the insurance business. These laws
and regulations generally require insurance companies to maintain minimum
standards of business conduct and solvency, meet certain financial tests, file
certain reports with regulatory authorities, including information concerning
their capital structure, ownership and financial condition, and obtain prior
approval of certain changes in control of domestic insurance companies and
their direct and indirect parents and the payment of extraordinary dividends
and distributions. In addition, these laws and regulations require approval
for certain intercompany transfers of assets and certain transactions between
insurance companies and their direct and indirect parents and affiliates, and
generally require that all such transactions have terms no less favorable than
terms that would result from transactions between parties negotiating at arms'
length. Further, many states have enacted laws which restrict an insurer's
underwriting discretion, such as the ability to terminate policies, terminate
agents or reject insurance coverage applications. These laws may adversely
affect the ability of insurance companies, including Midland, to earn a profit
on their underwriting operations.
Each P&C Subsidiary is required to file quarterly and annual statutory
financial statements in each jurisdiction in which it is licensed, and is
subject to single and aggregate risk limits and other statutory restrictions
concerning the types and quality of investments and the filing and use of
policy forms and premium rates. Additionally, the P&C Subsidiaries' accounts
and operations are subject to periodic examination by the Tennessee
Commissioner of Commerce and Insurance (the "Tennessee Insurance
Commissioner") and by other state insurance regulatory authorities. The
Tennessee Insurance Commissioner is currently performing a regular examination
of the P&C Subsidiaries for the four years ended December 31, 1994, further
described in Note 12 of the Notes to Midland Consolidated Financial
Statements.
Tennessee insurance laws and regulations, including those affecting
insurance holding companies, impose restrictions on the amount of dividends
that may be paid by the P&C Subsidiaries. As a result of these laws and
regulations, the maximum amount of dividends that a P&C Subsidiary may pay at
any time without prior regulatory approval is the greater of (a) 10% of the
prior year's statutory policyholders' surplus of such P&C Subsidiary and (b)
the prior year's statutory net income of such P&C Subsidiary less the amount
of dividends paid during the preceding 12 months.
Most states have enacted legislation regulating insurance holding companies
such as Midland. The insurance holding company laws and regulations vary by
state, but generally require an insurance holding company and its insurance
company subsidiaries licensed to do business in the state to register and file
certain reports with the regulatory authorities, including information
concerning capital structure, ownership, financial condition, certain
intercompany transactions and general business operations. State holding
company laws also require prior notice or regulatory agency approval of direct
or indirect changes in control of an insurer or its holding company and of
certain material intercompany transfers of assets within the holding company
structure. Tennessee insurance laws and regulations provide that no person may
acquire control of Midland, and thus indirect control of the P&C Subsidiaries,
without obtaining the prior approval of the Tennessee Insurance Commissioner.
Any purchaser of 10% or more of the voting stock of an insurance holding
company is deemed to have acquired control of that company and is required to
obtain the approval of the Tennessee Insurance Commissioner before
consummating such purchase.
89
<PAGE>
In expanding its operations into additional states, Midland is selective. It
carefully considers the legislative and regulatory environment in each state
before commencing operations and will not do business in states where the
climate is not conducive to the operation of its business.
In December 1993, the Association approved a model RBC formula for
determining RBC requirements for property and casualty insurers. See "BUSINESS
INFORMATION REGARDING DANIELSON AND MERGER SUB--Capital Adequacy and Risk-
Based Capital." At December 31, 1995, the RBC of Midland was 35% greater than
the Company Action Level. In light of the Capital Contribution, Midland
currently has no plans to take any action designed to affect its RBC level. On
a pro forma basis, after giving effect to the Merger, the Public Offering and
the Capital Contribution, the RBC level of Midland would increase by $30
million, to 210% of the Company Action Level.
For the year ended December 31, 1995, MRIC and SRIC failed certain of the
Association Financial Ratios from the Insurance Regulatory Information System
("IRIS").
MRIC failed the following ratios:
. Two Year Overall Operating Ratio of 103% exceeded the usual range of less
than 100%, due to adverse loss experience. See "MIDLAND MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS."
. Investment Yields Ratio of 4.2% was less than the lower end of the usual
range (4.5%) due to MRIC's classification of its equity ownership in SRIC
as common stock and due to a significant concentration in tax
preferential securities.
. Liabilities to Liquid Assets Ratio of 106% was slightly above the upper
usual range of 105%, due to substantial increases in the year end
reserves for IBNR Losses. This test measures total liabilities against
invested assets, but excludes premiums and agents' receivable balances.
. Agents' Balances to Surplus Ratio of 54% exceeds the usual range of less
than 40% due to a significant balance of receivables on direct bill
policies. These receivables are offset by a liability for unearned
premiums which is not considered in the calculation.
SRIC failed the following ratios:
. Change in Net Writings Ratio of 63% exceeded the usual upper range limit
of 33% due to the expansion of SRIC's programs in Tennessee in 1995. Net
premiums to surplus ratio, however, is 2.16 to 1, which Midland's
management believes indicates SRIC is not excessively leveraged at
current premium levels.
. Investment Yields Ratio of 4.5% equaled the minimum range of 4.5% due to
significant increases in invested assets in mid-1995 and due to a
concentration in tax preferential securities.
. Agents' Balances to Surplus Ratio of 47% exceeds the usual range of less
than 40% due to significant direct bill premiums receivable which are
offset by liabilities for unearned premiums.
The Association places insurers in four categories ranging from No Priority
to First Priority. MRIC has been designated as Second Priority and is subject
to much closer review by the Association, primarily due to adverse development
in prior year loss reserves. Midland's management believes that this will not
have a material adverse effect on Midland's business.
Many states require that companies writing non-standard personal automobile
insurance in that state participate in a residual market mechanism. Although
regulations vary by state, residual market mechanisms are generally designed
to provide insurance coverage for consumers who are unable to obtain insurance
in the voluntary automobile insurance market. In some states, companies
participate in the administration, profit and/or loss associated with those
consumers' policies to the extent provided by state regulations. In other
states, assigned risk pools are utilized. Assigned risk pool insureds are
assigned on a rotating basis to automobile insurers based on the individual
insurer's share of the total automobile insurance market for that state.
Insurers
90
<PAGE>
then issue and service those individual insurance risks assigned to them and
accept the profit or loss for those policies. Residual markets have not had a
material effect on the business or results of operations of Midland.
A.M. BEST RATING
In February 1996, A.M. Best lowered the ratings on both MRIC and SRIC to B
(Adequate), and placed the ratings under review, pending the outcome of
Midland's proposed merger with Danielson. A.M. Best has indicated that it
views the proposed transaction favorably and that it expects to upgrade the
ratings to B+ (Very Good) if the transaction is consummated. Conversely, A.M.
Best has indicated that the ratings would be under significant downward
pressure if the transaction is not completed. A.M. Best ratings, which range
from A++ (Superior) to F (In Liquidation), reflect such rating agency's
independent opinion of a company's financial strength and ability to meet its
obligations to policyholders. Such ratings are based on a comparative analysis
of the financial condition and operating performance of insurance companies as
determined by their publicly available reports.
EMPLOYEES
At December 31, 1995, Midland employed a total of 424 employees. Neither
Midland nor any of its employees is a party to any collective bargaining
agreements and management of Midland believes employee relations are
excellent.
PROPERTIES
The corporate headquarters of Midland are located in Memphis, Tennessee,
where Midland leases approximately 32,000 square feet of office space.
Midland-owned general agencies are located in Phoenix, Arizona; Mission Viejo,
California; Dallas, Texas; Portland, Oregon; and Nashville, Tennessee. These
offices occupy an aggregate of approximately 100,000 square feet of leased
office space. Midland also leases several small Auto 13 service offices.
Midland owns no real properties and believes that its leased facilities are
adequate for its needs.
LEGAL PROCEEDINGS
In August 1994, Midland and three of its wholly owned subsidiaries were
named in a civil lawsuit on behalf of two Chapter 13 debtors and as putative
representatives of a plaintiff's class challenging the validity of the Chapter
13 automobile insurance program in Alabama. The plaintiffs sought
certification of a class, a declaration that the insurance policies violate
Alabama statutes, a permanent injunction against further implementation of the
Chapter 13 automobile insurance program in Alabama, and reimbursement of
premiums received by Midland under the Chapter 13 automobile program in
Alabama. Midland and its subsidiaries denied the material allegations of the
complaint and were awarded Dismissal by Summary Judgment in August 1995. The
plaintiffs filed a motion for reconsideration, which was denied in October
1995. The plaintiffs have appealed this determination and no decision has been
rendered to date. The lawsuit was filed in the United States District Court
for the Northern District of Alabama, Western Division, and is presently
pending in the United States Court of Appeals, Eleventh Circuit.
In May 1995, Midland, one of its officers and one of its subsidiaries were
named in a wrongful termination lawsuit by a former employee. This lawsuit is
pending in the State of Illinois Circuit Court, Seventh Judicial Circuit. The
plaintiff seeks $200,000 in compensatory damages and $1 million in punitive
damages. The matter is in the discovery stages. Management of Midland believes
that it had valid cause for the dismissal of this employee and presently
intends to vigorously defend the case. Management of Midland believes that the
resolution of this matter will not have a material impact on Midland's
operations.
Midland and its subsidiaries are involved in asserted claims in the normal
course of business. Midland's management believes the outcome of these matters
in the aggregate will not have a material adverse effect on the consolidated
financial statements of Midland.
91
<PAGE>
PRO FORMA FINANCIAL INFORMATION
The pro forma unaudited condensed consolidated financial statements reflect
the Merger and related transactions. The pro forma unaudited condensed
consolidated balance sheet was prepared assuming the Merger and related
transactions were consummated on March 31, 1996. The pro forma unaudited
condensed consolidated statements of operations for the three months ended
March 31, 1996 and the year ended December 31, 1995 reflect the results of
operations of Danielson as if the Merger and related transactions were
consummated as of January 1, 1996 and 1995, respectively.
The historical information has been derived from the historical financial
statements of Danielson and Midland. The pro forma unaudited condensed
consolidated financial statements should be read in conjunction with the
historical consolidated financial statements of Danielson and Midland and the
notes thereto and the other financial information pertaining to Danielson and
Midland included elsewhere herein.
The pro forma unaudited condensed consolidated financial information gives
effect to the following: (i) the consummation of the Merger and the
transactions contemplated thereby; (ii) the sale of 12,363,636 shares of
Danielson Common Stock in the Public Offering at an assumed gross offering
price per share, before underwriting discounts and commissions, of $6.875 (the
closing price of Danielson Common Stock on July 1, 1996) and the issuance of
1,179,154 shares of Danielson Common Stock in the Merger at a value of $6.875
per share (resulting in a total issuance of 13,542,790 shares); (iii) the
Capital Contribution by Danielson to the Surviving Corporation; (iv) the
reduction of Midland's general and administrative expenses associated with
salaries of certain executive officers; (v) an increase in Danielson's paid-in
capital in the amount of approximately $150 million attributable to the
recognition of a portion of the NOL in accordance with SFAS 109; and (vi)
purchase accounting adjustments to reflect Midland's assets and liabilities at
fair value. The pro forma unaudited condensed consolidated financial
statements do not give effect to any exercise of the over-allotment option in
the Public Offering. Approval of the Merger Proposal will authorize Danielson
to issue in the Merger and Public Offering a total number of shares of
Danielson Common Stock ranging from 8,867,303 shares (assuming a $10.50 price
per share) to 20,690,373 shares (assuming a $4.50 price per share).
The pro forma unaudited condensed consolidated financial statements have
been prepared under the purchase method of accounting for the Merger in
accordance with Accounting Principles Board Opinion No. 16. Under purchase
accounting, the acquired assets and liabilities of Midland are recognized at
their fair value as of the acquisition date. The purchase price, estimated to
be approximately $82 million, will be the cash and fair value of securities
issued by Danielson in the Merger, including acquisition related expenses. The
consideration payable in the Merger will be paid 50% in cash to be raised in
the Public Offering, 40% in Danielson Series A Preferred Stock and 10% in
Danielson Common Stock.
The pro forma unaudited condensed consolidated financial statements do not
purport to be indicative of the financial position or results of operations
which would have been achieved had the Merger been consummated as of the dates
indicated or for the periods presented and should not be construed as
representative of future financial position or results of operations. The
following pro forma material contains forward-looking statements which involve
risks and uncertainties. Actual results could differ materially from those
anticipated in such forward-looking statements as a result of certain factors,
including those set forth under "RISK FACTORS" and elsewhere in this Joint
Proxy Statement/Prospectus. The pro forma adjustments are based upon available
information and assumptions that Danielson and Midland believe are reasonable
under the circumstances.
92
<PAGE>
DANIELSON HOLDING CORPORATION
PRO FORMA UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS INFORMATION
FOR THE THREE MONTHS ENDED MARCH 31, 1996
(In thousands, except share and per share information)
<TABLE>
<CAPTION>
Pro Forma Consolidated
Danielson Midland Adjustments Pro Forma
(historical) (historical) (unaudited) (unaudited)
------------ ------------ ----------- ------------
<S> <C> <C> <C> <C>
REVENUES
Net premiums earned and
policy fees $ 8,968 $42,144 -- $51,112
Net investment income 2,839 2,159 -- 4,998
Net realized investment
gains -- 407 -- 407
Other income 1,418 21 -- 1,439
----------- ------------ ----- ------------
Total revenues 13,225 44,731 -- 57,956
LOSSES AND EXPENSES
Net losses and LAE 6,671 32,147 -- 38,818
Policyholder dividends 44 -- -- 44
Policy acquisition
expenses 2,539 9,746 -- 12,285
General and
administrative expenses 3,358 1,755 (150)/1/ 4,963
Goodwill amortization 43 36 814 /2/ 893
Interest expense -- 629 -- 629
----------- ------------ ----- ------------
Total losses and
expenses 12,655 44,313 664 57,632
Income before provision
(benefit) for income
tax and minority
interests 570 418 (664) 324
Income tax provision
(benefit) 13 (125) 51 /3/ (61)
----------- ------------ ----- ------------
Income before minority
interests 557 543 (715) 385
Minority interests -- (15) -- (15)
----------- ------------ ----- ------------
NET INCOME (LOSS) $ 557 $ 528 $(715) $ 370
=========== ============ ===== ============
Net income $ 557 $ 528 $ 370
Less preferred dividends -- -- (811)
----------- ------------ ------------
Net income (loss)
available to common
stockholders $ 557 $ 528 $ (441)
=========== ============ ============
Net income (loss) per
common share/4/ $ 0.03 $ 0.10 $ (0.01)
=========== ============ ============
Weighted average shares
outstanding/4/ 16,013,221 5,567,000 29,528,310
</TABLE>
- --------
(1) Represents the reduction of executive salaries for the three months ended
March 31, 1996, associated with Midland personnel whose positions will be
eliminated. The absence of such personnel, including Midland's Chairman
and Vice Chairman of the Board, is assumed not to adversely impact the
operations of Midland.
(2) Represents the amortization of goodwill, using an amortization period no
greater than 15 years.
(3) Represents the tax effect of the reduction of executive salaries at a rate
of 34% (see note 1).
(4) The pro forma earnings per share data is based on the weighted average
number of shares of Danielson Common Stock, par value $0.10 per share, and
common share equivalents, including stock options outstanding during the
year, adjusted to give effect to shares assumed to be issued in the Public
Offering and in the Merger as of January 1, 1996. The pro forma net income
available to common stockholders includes dividends of $811,000 assumed to
have been declared at a rate of 10% on the pro forma Danielson Series A
Preferred Stock outstanding as of January 1, 1996. Assumes a $6.875 pro
forma price per share. Assuming a $10.50 pro forma price per share, (i)
there would be 24,227,558 shares outstanding and book value per common
share would be $12.45; and (ii) weighted average number of shares
outstanding would be 24,852,823 and net loss per common share would be
$.02. Assuming a $4.50 pro forma price per share, (i) there would be
36,050,628 shares outstanding and book value per common share would be
$8.37 and (ii) weighted average number of shares outstanding would be
36,675,893 and net loss per common share would be $.01.
Interest income of $549,000 which is estimated to be earned on fixed
maturities purchased using the proceeds of the Public Offering for the Capital
Contribution and otherwise in excess of the Merger consideration ($37,247,000
at a yield of 5.9%), is not included in the Pro Forma Unaudited Condensed
Consolidated Statement of Operations.
The elimination of expenses in the estimated amount of $99,000 relating to
Midland's status as a public company, is not included in the Pro Forma
Unaudited Condensed Consolidated Statement of Operations.
Non-recurring charges in the estimated amount of $500,000 which will be
incurred in 1996 by Midland in connection with the Merger, are not included in
the Pro Forma Unaudited Condensed Consolidated Statement of Operations.
93
<PAGE>
DANIELSON HOLDING CORPORATION
PRO FORMA UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS INFORMATION
FOR THE YEAR ENDED DECEMBER 31, 1995
(In thousands, except share and per share information)
<TABLE>
<CAPTION>
Pro Forma Consolidated
Danielson Midland Adjustments Pro Forma
(historical) (historical) (unaudited) (unaudited)
------------ ------------ ----------- ------------
<S> <C> <C> <C> <C>
REVENUES
Net premiums earned and
policy fees $60,548 $183,043 $ -- $243,591
Net investment income 13,161 9,839 -- 23,000
Net realized investment
gains (losses) 208 (3) -- 205
Other income 6,164 167 -- 6,331
------------ ----------- ------- ------------
Total revenues 80,081 193,046 -- 273,127
LOSSES AND EXPENSES
Losses and LAE 48,715 152,103 -- 200,818
Policyholder dividends 137 -- -- 137
Policy acquisition
expenses 13,391 50,070 -- 63,461
General and
administrative expenses 14,544 6,368 (600)/1/ 20,312
Goodwill amortization 858 135 3,393 /2/ 4,386
Interest expense -- 1,880 -- 1,880
------------ ----------- ------- ------------
Total losses and
expenses 77,645 210,556 2,793 290,994
Income (loss) before
provision (benefit) for
income tax and minority
interests 2,436 (17,510) (2,793) (17,867)
Income tax provision
(benefit) 120 (7,445) 204 /3/ (7,121)
------------ ----------- ------- ------------
Income (loss) before
minority interests 2,316 (10,065) (2,997) (10,746)
Minority interests -- (6) -- (6)
------------ ----------- ------- ------------
NET INCOME (LOSS) $ 2,316 $ (10,071) $(2,997) $ (10,752)
============ =========== ======= ============
Net income (loss) $ 2,316 $ (10,071) $ (10,752)
Less preferred dividends -- -- (3,243)
------------ ----------- ------------
Net income (loss)
available to common
stockholders $ 2,316 $ (10,071) $ (13,995)
============ =========== ============
Net income (loss) per
common share/4/ $ 0.14 $ (1.88) $ (0.47)
============ =========== ============
Weighted average shares
outstanding/4/ 15,989,055 5,369,461 29,531,669
</TABLE>
- --------
(1) Represents the reduction of executive salaries for the year ended December
31, 1995, associated with Midland personnel whose positions will be
eliminated. The absence of such personnel, including Midland's Chairman
and Vice Chairman of the Board, is assumed not to adversely impact the
operations of Midland.
(2) Represents the amortization of goodwill, using an amortization period no
greater than 15 years.
(3) Represents the tax effect of the reduction of executive salaries at a rate
of 34% (see note 1).
(4) The pro forma earnings per share data is based on the weighted average
number of shares of Danielson Common Stock, and common share equivalents,
including stock options outstanding during the year, adjusted to give
effect to shares assumed to be issued in the Public Offering and in the
Merger as of January 1, 1995. The pro forma net income available to common
stockholders includes dividends of $3,243,000 assumed to have been
declared at a rate of 10% on the pro forma Danielson Series A Preferred
Stock outstanding as of January 1, 1995. Assumes a $6.875 pro forma price
per share. Assuming a $10.50 pro forma price per share, weighted average
number of shares would be 24,856,182 and net loss per common share would
be $.56. Assuming a $4.50 pro forma price per share, weighted average
number of shares outstanding would be 36,679,251 and net loss per common
share would be $.38.
Interest income of $2,198,000 which is estimated to be earned on fixed
maturities purchased using the proceeds of the Public Offering for the Capital
Contribution and otherwise in excess of the Merger consideration ($37,247,000
at a yield of 5.9%), is not included in the Pro Forma Unaudited Condensed
Consolidated Statement of Operations.
The elimination of expenses in the estimated amount of $395,000 relating to
Midland's status as a public company, is not included in the Pro Forma
Unaudited Condensed Consolidated Statement of Operations.
Non-recurring charges in the estimated amount of $500,000 which will be
incurred in 1996 by Midland in connection with the Merger, are not included in
the Pro Forma Unaudited Condensed Consolidated Statement of Operations.
94
<PAGE>
DANIELSON HOLDING CORPORATION
PRO FORMA UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEET INFORMATION
MARCH 31, 1996
(In thousands, except share and per share information)
<TABLE>
<CAPTION>
Pro Forma Consolidated
Danielson Midland Adjustments Pro Forma
(historical) (historical) (unaudited) (unaudited)
------------ ------------ ----------- ------------
<S> <C> <C> <C> <C>
ASSETS
Fixed maturities
available-for-sale $162,916 $147,163 $ 37,247/1/ $347,326
Equity securities 602 14,838 -- 15,440
Short term investments 5,052 -- -- 5,052
-------- -------- -------- --------
Total investments 168,570 162,001 37,247 367,818
Cash and cash
equivalents 294 3,925 (611)/1/ 3,608
Premiums and fees
receivable 7,295 38,755 -- 46,050
Reinsurance recoverables 21,075 19,002 -- 40,077
Prepaid reinsurance
premium 2,414 21,408 -- 23,822
Deferred acquisition
costs 1,031 9,440 (5,000)/2/ 5,471
Excess cost over net
assets acquired 2,613 -- 40,682 /3/ 43,295
Deferred tax asset -- 4,350 150,000 /4/ 154,350
Other assets 7,097 20,694 -- 27,791
-------- -------- -------- --------
TOTAL ASSETS $210,389 $279,575 $222,318 $712,282
======== ======== ======== ========
LIABILITIES
Unpaid losses and loss
adjustment expenses $124,258 $107,716 $ -- $231,974
Unearned premiums 8,772 81,882 -- 90,654
Policyholder dividends 4,665 -- -- 4,665
Notes payable -- 26,000 -- 26,000
Other liabilities 6,872 13,396 4,585/5/ 24,853
-------- -------- -------- --------
Total liabilities 144,567 228,994 4,585 378,146
STOCKHOLDERS' EQUITY
Preferred Stock -- -- 130 /6/ 130
Common Stock 1,537 41,625 1,354 /7/
(41,625)/3/ 2,891
Additional paid-in
capital 46,131 1,887 266,830 /8/
(1,887)/3/ 312,961
Net unrealized gain on
available for sale
securities 639 715 (715)/3/ 639
Retained earnings 17,581 6,354 (6,354)/3/ 17,581
Treasury stock (66) -- -- (66)
-------- -------- -------- --------
Total stockholders'
equity 65,822 50,581 217,733 334,136
-------- -------- -------- --------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $210,389 $279,575 $222,318 $712,282
======== ======== ======== ========
Book value per common
share $ 4.29 $ 9.12 -- $ 10.44
======== ======== ======== ========
</TABLE>
- --------
(1) Investment in fixed maturities represents the purchase of fixed maturity
securities from proceeds of the Public Offering, of which $30,000,000 will
be contributed post-Merger to Midland. The changes in cash and cash
equivalents represent the estimated expenses to be incurred by Danielson
in connection with the Merger.
(2) Represents the purchase accounting adjustment to reflect the value of
business acquired.
(3) Represents the excess of cost over net assets acquired and the elimination
of the equity accounts of Midland at March 31, 1996.
95
<PAGE>
(4) Represents the recording of a deferred tax asset relating to Danielson's
NOL which is recorded in connection with the Merger.
(5) Represents the recording of accruals for certain non-recurring Merger
expenses contingent upon consummation of the Merger.
(6) Danielson is authorized to issue 10,000,000 shares of Preferred Stock, par
value $0.10 per share. Of such shares, 1,300,000 have been designated
Series A Preferred Stock. On a pro forma basis as of March 31, 1996, there
would be 1,297,069 shares of Series A Preferred Stock outstanding having
an aggregate value of $32,427,000.
(7) Danielson is authorized to issue 40,000,000 shares of Common Stock, par
value $0.10 per share. At March 31, 1996, there were 28,913,684 shares of
Danielson Common Stock issued and 28,903,045 of such shares outstanding
after giving effect to the issuance of 13,542,790 shares of Danielson
Common Stock at an assumed value of $6.875 per share in the Public
Offering and in the Merger. Assuming a $10.50 price per share, there would
be 24,227,558 shares outstanding and book value per common share would be
$12.45. Assuming a $4.50 price per share there would be 36,050,628 shares
outstanding and book value per common share would be $8.37. Midland is
authorized to issue 50,000,000 shares of Midland Common Stock, no par
value. At March 31, 1996 there were 5,546,522 shares of Midland Common
Stock issued and outstanding and 5,590,816 shares (including unexercised
options for 44,294 shares) of Midland Common Stock expected to be
converted in the Merger.
(8) Represents (i) Danielson Series A Preferred Stock issued in connection
with the Merger in the amount of $32,427,000 less par value of Danielson
Series A Preferred Stock issued in the amount of $130,000 (ii) Danielson
Common Stock issued for purposes of the Public Offering and in the Merger
in the amount of $93,107,000 less par value of Danielson Common Stock
issued in the amount of $1,354,000 and other direct costs of stock
issuance, including estimated underwriting fees in the amount of
$7,220,000 and (iii) the recording of a deferred tax asset in the amount
of $150,000,000 attributable to Danielson's NOL which will be recognized
in connection with the Merger.
96
<PAGE>
SELECTED CONSOLIDATED HISTORICAL FINANCIAL DATA OF DANIELSON
The following selected consolidated financial data as of March 31, 1995 and
1996 and for each of the three-month periods ended March 31, 1995 and 1996
have been derived from unaudited consolidated financial statements and include
all adjustments that Danielson considers necessary for a fair presentation of
such financial information for those periods. The results of operations for
the three months ended March 31, 1996 are not necessarily indicative of the
results that may be expected for any other interim period or for the full
year. The consolidated financial data as of December 31, 1991, 1992, 1993,
1994 and 1995 and for each of the years in the five-year period ended December
31, 1995 have been derived from the audited consolidated financial statements
of Danielson. The data set forth below should be read in conjunction with
"DANIELSON MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS" included elsewhere herein and the Consolidated
Financial Statements of Danielson and related notes included elsewhere herein.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
YEARS ENDED DECEMBER 31, (UNAUDITED)
----------------------------------------------------------------------- -------------------------
1991 1992 1993 1994 1995 1995 1996
(In thousands, except share and per share information)
<S> <C> <C> <C> <C> <C> <C> <C>
RESULTS OF OPERATIONS:
Gross premiums written $64,324 $78,319 $ 95,896 $104,379 $70,949 $21,711 $13,110
Net premiums written 61,605 74,828 87,953 91,069 55,295 17,613 8,989
Net premiums earned 60,590 73,708 86,052 93,291 60,548 18,532 8,968
Net investment income 11,520 10,107 13,302 11,853 13,161 3,093 2,839
Total revenues 73,763 88,440 102,397 110,340 80,081 22,995 13,225
Pre-tax income (loss) 376 1,984 2,821 3,248 2,436 651 570
Income before
extraordinary items 184 1,898 2,746 3,145 2,316 613 557
Net income 184 8,046 /3/ 3,234 /2/,/3/ 3,895 /1/ 2,316 613 557
Income per share before
extraordinary items 0.01 0.13 0.17 0.20 0.14 0.04 0.03
Net income per share 0.01 0.53 /3/ 0.20 /2/,/3/ 0.25 /1/ 0.14 0.04 0.03
Weighted average shares
outstanding 13,496,620 15,262,984 15,847,682 15,938,018 /4/ 15,989,055 /4/ 16,048,970 /4/ 16,013,221 /4/
<CAPTION>
AS OF MARCH 31,
AS OF DECEMBER 31, (UNAUDITED)
----------------------------------------------------------------------- -------------------------
1991 1992 1993 1994 1995 1995 1996
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Invested assets $141,534 $161,468 $176,738 $181,763 $181,794 $181,687 $168,570
Total assets 198,873 216,868 234,150 240,529 227,924 237,331 210,389
Stockholders' equity 46,659 54,764 58,838 62,318 69,821 63,345 65,822
Book value per share 3.09 3.62 3.89 4.06 4.55 4.12 4.29
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
YEARS ENDED DECEMBER 31, (UNAUDITED)
----------------------------------------------------------------------- -------------------------
1991 1992 1993 1994 1995 1995 1996
<S> <C> <C> <C> <C> <C> <C> <C>
SELECTED GAAP RATIOS:/5/
Loss and LAE ratio 80.6% 78.3% 76.6% 72.3% 80.5% 77.9% 74.4%
Expense ratio 39.9 37.9 34.3 33.9 32.9 31.1 45.6
----- ----- ----- ----- ----- ----- -----
Combined ratio/6/ 120.5% 116.2% 110.9% 106.2% 113.4% 109.0% 120.0%
===== ===== ===== ===== ===== ===== =====
</TABLE>
- --------
(1) Includes extraordinary gain from distribution from an unaffiliated trust.
(2) Includes extraordinary gains from a former subsidiary, as well as a former
trust administered by the California Department as trustee.
(3) Includes extraordinary gain from a former trust administered by the
California Department as trustee.
(4) Reflects shares issued upon the 1994 exercise of options to purchase
Danielson Common Stock.
(5) Reflects operating ratios of Danielson's insurance subsidiaries.
(6) Includes 4.1%, (0.9%), 1.0%, 2.4% and 6.4% for the years ended December
31, 1991, 1992, 1993, 1994 and 1995, respectively, for losses and LAE
incurred related to claims arising from businesses in run-off since 1987,
which include environmental claims.
97
<PAGE>
SELECTED CONSOLIDATED HISTORICAL FINANCIAL DATA OF MIDLAND
The following selected consolidated financial data as of March 31, 1995 and
1996 and for each of the three-month periods ended March 31, 1995 and 1996
have been derived from unaudited consolidated financial statements and include
all adjustments that Midland considers necessary for a fair presentation of
such financial information for those periods. The results of operations for
the three months ended March 31, 1996 are not necessarily indicative of the
results that may be expected for any other interim period or for the full
year. The consolidated financial data as of December 31, 1991, 1992, 1993,
1994 and 1995 and for each of the years in the five-year period ended December
31, 1995 have been derived from the audited consolidated financial statements
of Midland. The data set forth below should be read in conjunction with
"MIDLAND MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS" included elsewhere herein and the Consolidated
Financial Statements of Midland and related notes included elsewhere herein.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
YEARS ENDED DECEMBER 31, (UNAUDITED)
------------------------------------------------- -------------------
1991 1992 1993 1994 1995 1995 1996
(In thousands, except share and per share information)
<S> <C> <C> <C> <C> <C> <C> <C>
RESULTS OF OPERATIONS:
Gross premiums written $27,671 $60,927 $101,467 $152,404 $210,206 $ 49,083 $ 51,890
Net premiums written 12,492 24,748 76,819 151,046 171,833 48,293 38,271
Net premiums earned 11,878 20,571 55,272 118,218 172,394 38,787 39,064
Net investment income 806 1,441 3,330 6,190 9,839 2,064 2,159
Total revenues 13,071 25,137 64,509 131,486 193,046 42,870 44,731
Pre-tax income (loss) 1,583 4,566 9,682 10,900 (17,510) 3,522 418
Net income (loss) 1,116 2,929 7,068 7,925 (10,071) 2,609 528
Net income (loss)
available to
stockholders 994 1,628 7,068 7,925 (10,071) 2,609 528
Net income (loss) per
share 0.64 0.56 1.34 1.45 (1.88) 0.48 0.10
Cash dividend per share 0.13 0.09 -- 0.10 0.20 0.05 --
Weighted average shares
outstanding 1,612,566 2,900,147 5,305,824 5,477,666 5,369,461 5,461,805 5,567,338
<CAPTION>
AS OF MARCH 31,
YEARS ENDED DECEMBER 31, (UNAUDITED)
------------------------------------------------- -------------------
1991 1992 1993 1994 1995 1995 1996
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Invested assets $13,364 $49,483 $102,987 $165,895 $174,803 $150,787 $162,001
Total assets 20,630 76,315 148,708 221,820 283,531 219,977 279,575
Notes payable and other
debt 1,128 286 20,000 40,000 27,000 19,000 26,000
Mandatorily redeemable
preferred stock 4,805 -- -- -- -- -- --
Stockholders' equity 6,480 39,880 50,620 57,794 48,845 60,407 50,581
Book value per share 4.40 9.18 9.57 10.81 9.06 11.29 9.12
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
YEARS ENDED DECEMBER 31, (UNAUDITED)
------------------------------------------------- -------------------
1991 1992 1993 1994 1995 1995 1996
<S> <C> <C> <C> <C> <C> <C> <C>
SELECTED GAAP RATIOS:
Loss and LAE ratio 62.3% 69.2% 69.9% 71.3% 88.2% 71.6% 82.3%
Expense ratio 29.5 23.0 23.4 25.1 26.8 23.7 23.5
---- ---- ---- ---- ----- ---- -----
Combined ratio 91.8% 92.2% 93.3% 96.4% 115.0% 95.3% 105.8%
==== ==== ==== ==== ===== ==== =====
</TABLE>
98
<PAGE>
DANIELSON MANAGEMENT'S DISCUSSION AND ANALYSISOF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This Joint Proxy Statement/Prospectus contains forward-looking statements
which involve risks and uncertainties. The actual results of Danielson and
Midland could differ materially from those anticipated in their forward-
looking statements as a result of certain factors, including those set forth
under "RISK FACTORS" and elsewhere in this Joint Proxy Statement/Prospectus.
GENERAL
Danielson is organized as a holding company with substantially all of its
operations conducted by its subsidiaries. Danielson, on a parent-only basis,
has had limited continuing expenditures for rent and administrative expenses
and derives revenues primarily from investment return on portfolio securities.
Therefore, the analysis of Danielson's financial condition is generally done
on an operating subsidiary basis. For additional information relating to
Danielson's organization, see Note 1 of the Notes to Danielson Consolidated
Financial Statements. For matters affecting Danielson's operations by industry
segment, see Note 14 of the Notes to Danielson Consolidated Financial
Statements.
Danielson does not currently pay significant federal income tax due to the
recognition of losses from several trusts that assumed various liabilities of
certain present and former subsidiaries of Danielson. It is expected that
Danielson's 1995 consolidated federal income tax return will report a
cumulative NOL currently estimated at approximately $1.4 billion, which will
expire in various amounts, if not used, over the period ending 2010. See
"DANIELSON'S NOL AND DEFERRED TAX ASSET" and Note 8 of the Notes to Danielson
Consolidated Financial Statements.
RESULTS OF NAICC'S OPERATIONS
The operations of Danielson's principal subsidiary, NAICC, are primarily in
specialty property and casualty insurance lines of business. At March 31,
1996, NAICC had a B++ rating from A.M. Best.
PROPERTY AND CASUALTY INSURANCE OPERATIONS
Three Months Ended March 31, 1995 compared with Three Months Ended March 31,
1996
The operating results discussed below are not necessarily indicative of the
results to be expected for the year ending December 31, 1996.
Net premiums written were $17.6 million and $9.0 million for the three
months ended March 31, 1995 and 1996, respectively. The decrease in net
premiums written in the first quarter of 1996 from the same period in 1995 is
attributable to a decline in workers' compensation business in California. Net
premiums earned were $18.5 million and $9.0 million for the three months ended
March 31, 1995 and 1996, respectively. The decrease in net premiums earned is
directly related to the decrease in premiums written.
In the workers' compensation line of business, net premiums written were
$13.3 million for the first three months of 1995 compared to $4.0 million for
that period in 1996. The decrease in the first quarter of 1996 from the same
period in 1995 is attributable to significantly increased price competition in
California. It is the policy of NAICC to underwrite business that is expected
to yield an operating profit. As a result, NAICC's new and renewal policy
counts, which decreased significantly in 1995, have continued to decrease
during the first quarter of 1996.
In the non-standard personal automobile insurance line of business, net
premiums written were $3.9 million and $4.0 million for the three months ended
March 31, 1995 and 1996, respectively. In the first three months of 1996, the
non-standard personal automobile line represented 45% of total net premiums
written, up from 22% in
99
<PAGE>
the first three months of 1995. NAICC continues to cede 50% of its non-
standard personal automobile business to a major reinsurance company.
Net investment income was $2.9 million and $2.7 million for the three months
ended March 31, 1995 and 1996, respectively. The decline in net investment
income is the result of a decrease in NAICC's invested assets in those
periods.
The combined ratio (which represents a ratio of losses and expenses to net
premiums earned in a particular period) was 109% and 120% for the three months
ended March 31, 1995 and 1996, respectively.
Net losses and LAE were $14.4 million and $6.7 million for the three months
ended March 31, 1995 and 1996, respectively. The resulting net loss and LAE
ratios for the corresponding periods were 77.9% and 74.4%, respectively. The
decrease in the net loss and LAE ratio in the first quarter of 1996 is due to
the decrease in the workers' compensation line of business which has a higher
loss and LAE expense ratio than the non-standard automobile line of business.
Policy acquisition costs were $3.9 million and $2.5 million for the three
months ended March 31, 1995 and 1996, respectively. The decrease is directly
related to the decline in net premiums earned. Policy acquisition expenses as
a percent of net premiums earned were 21.1% and 28.3% for the three months
ended March 31, 1995 and 1996, respectively. The increase in the policy
acquisition expense ratio in the first quarter of 1996 as compared to the same
period in 1995 is primarily the result of a greater decline in workers'
compensation premiums than in certain underwriting expenses included in policy
acquisition costs.
General and administrative expenses were $1.7 million and $1.6 million for
the three months ended March 31, 1995 and 1996. These expenses are fixed or
semi-variable in nature.
Policyholder dividends for the three months ended March 31, 1995 were
$137,000, as compared with $44,000 during the first quarter of 1996. The
decrease in policyholder dividends is attributable to the decline in workers'
compensation premiums.
Net income from insurance operations for the three months ended March 31,
1995 and 1996 was $1.4 million and $1.1 million, respectively. Net income for
the first quarter of 1996 decreased from the same period in 1995 due to the
decline in premium revenue and investment income.
Years Ended December 31, 1993, 1994 and 1995
Net premiums written were $88.0 million, $91.1 million, and $55.3 million in
1993, 1994 and 1995, respectively. The decline in 1995 is primarily due to
significantly increased price competition on California workers' compensation
business under the open rating law which became effective January 1, 1995.
In the workers' compensation insurance line of business, net premiums
written were $79.3 million, $77.2 million and $38.2 million in 1993, 1994 and
1995, respectively. Workers' compensation net premiums written in California
were affected by three decreases of the minimum rate during the last three
years: a 7% decrease effective July 16, 1993, a 12.7% decrease effective
January 1, 1994, and a 16% decrease effective October 1, 1994. In addition,
the 1995 decrease of approximately 50.5% in the net premiums written from 1994
is attributable to significantly increased price competition in California. It
is the policy of NAICC to underwrite business that is expected to yield an
operating profit. As a result, NAICC's new and renewal policy counts decreased
significantly during 1995. At December 31, 1993 and 1994, NAICC had 7,097 and
7,183 workers' compensation policies in force, respectively, with an average
approximate annual premium size of $11,492 and $9,566 in each respective year
compared to 3,844 of such policies in force at December 31, 1995, with an
average approximate annual premium size of $6,201.
In the non-standard personal automobile insurance line of business, net
premiums written were $4.9 million, $10.5 million and $15.0 million in 1993,
1994 and 1995, respectively. NAICC commenced writing non-standard
100
<PAGE>
personal automobile insurance in July 1993. The increase in such premiums
reflects NAICC's continued expansion of this line of business. NAICC had
15,419 and 20,000 non-standard personal automobile policies in force for the
years ended December 31, 1993 and 1994, respectively, compared to more than
29,000 policies in force in 1995, representing approximately 5.6%, 11.5% and
27.1% of NAICC's total annual net premiums written for all lines of insurance
in each of those years. NAICC cedes 50% of its non-standard personal
automobile insurance business to a major reinsurance company.
In the non-standard commercial automobile insurance line of business, net
premiums written were $1.7 million in 1993 and $2.1 million for each of the
years ended December 31, 1994 and 1995. NAICC writes non-standard commercial
automobile insurance in California, Arizona, Idaho, Nevada and Oregon. NAICC
introduced a new non-standard commercial automobile insurance program early in
1995. NAICC received approval of its non-standard commercial automobile rates
in California, its largest market, in August 1995.
Net premiums written for other commercial property and casualty insurance
were $2.1 million and $1.3 million in 1993 and 1994, respectively. NAICC
ceased writing new and renewal commercial property and casualty policies in
1994.
Net investment income was $12.6 million, $11.3 million, and $12.4 million in
1993, 1994 and 1995, respectively. Net investment income in 1994 (excluding
the recognition in 1993 of an additional $1.7 million of non-recurring
investment income in connection with the commutation of a financing
reinsurance agreement with Great American Insurance Company in 1994) increased
from 1993 primarily as a result of greater average invested assets throughout
most of 1994. The decision to exercise the commutation was made in 1993, at a
time when the 5-year U.S. Treasury interest rate (upon which the commutation
value of the agreement was dependent) had declined significantly. The decline
in this interest rate had the effect of increasing the value of the
commutation above the amount previously recorded for such asset. It was not
possible to have foreseen the level of interest rates which prompted the
decision to commute the agreement and, therefore, the increased value of the
commutation was recognized in 1993. Additionally, interest income of $1.5
million and $205,000 was recognized in 1993 and 1994, respectively,
representing the accretion of interest income for the original expected term
under the inherent interest rate in the agreement. The 1995 increase in net
investment income is primarily due to the receipt of $840,000 of interest
which had accrued on a previously unpaid reinsurance claim (the "Hughes
Claim") and was paid in December 1995 by Lloyds of London ("Lloyds"), together
with such claim. In June 1996, NAICC deposited the proceeds (which includes
both the $2.3 million at issue and the $840,000 of accumulated interest
thereon) received from the Hughes Claim with the United States Court of
Appeals for the Ninth Circuit, to be held in escrow pending rehearing on
certain issues. Net investment income in 1995, exclusive of the Lloyds
interest payment, increased slightly over 1994 because average invested assets
throughout 1995 were slightly greater than in 1994. The average yield on
NAICC's portfolio was 7.4% and 7.2% for the years ended December 31, 1994 and
1995, respectively. The estimated average maturity of the portfolio is 4.9
years.
Other income was $315,000, $504,000 and $1.6 million, in 1993, 1994 and
1995, respectively. The increase in other income in 1995 is primarily due to
an increase from insurance consulting operations.
Net losses and LAE were $65.9 million in 1993 and $67.5 million in 1994,
compared to $48.7 million in 1995. The resulting loss and LAE ratios were
76.6%, 72.3% and 80.5% in such years, respectively. The increase in the loss
and LAE ratio in 1995 was primarily in the workers' compensation line of
business due to a decline in premium rates. The loss and LAE ratio for that
line of business was 76.9% and 66.6% in 1993 and 1994, respectively, as
compared to 71.0% in 1995. The loss and LAE ratio for the non-standard
personal automobile insurance line of business was 51.8%, 71.3% and 65.8% in
1993, 1994 and 1995, respectively. The decrease in the loss and LAE ratio in
1995 was due in part to a rate increase of 6.0% in 1995.
Policy acquisition costs were $17.0 million, $18.7 million and $13.4 million
in 1993, 1994 and 1995, respectively. Policy acquisition expenses as a
percentage of net premiums earned, were 19.8% in 1993, 20.0% in 1994 and 22.1%
in 1995. Policy acquisition costs include expenses directly related to premium
volume (i.e., commissions, premium taxes, and state assessments), as well as
certain underwriting expenses which are fixed in
101
<PAGE>
nature. The increase in the policy acquisition expense ratio in 1995 is
primarily the result of a greater decline in workers' compensation premiums
than in the fixed underwriting expense component of policy acquisition costs.
General and administrative expenses were $8.1 million in 1993, $6.7 million
in 1994 and $6.4 million in 1995. Included in the general and administrative
expenses for 1993 is a partial write-off of a reinsurance recoverable and
related expenses of approximately $1.8 million relating to the Hughes Claim,
an environmental claim by Hughes Aircraft. Expenses related to the Hughes
Claim for 1995 totaled $85,000. General and administrative expenses, other
than Hughes Claim related expenses, decreased primarily as a result of cost
reductions from 1994 to 1995. For information regarding the Hughes Claim, see
Note 3 of the Notes to Danielson Consolidated Financial Statements.
Policyholder dividends of $3.6 million in 1993, $6.0 million in 1994 and
$137,000 in 1995, represent 4.2%, 6.5% and 0.2% of premiums earned in each
respective year. The increased ratio of policyholder dividends to premiums
earned in 1994 from 1993 reflects a reduction of the policyholder dividend
accrual in 1993 for policy years prior to 1992 resulting from higher than
expected loss experience for the same period, as well as the anticipation that
workers' compensation margins and premium volumes would support increased
policyholder dividends. It was not possible to anticipate in 1994 the erosion
of profitability that occurred following the January 1, 1995 implementation of
the open rating law. The provision in 1993 also reflected a decrease in the
dividend accrual, as well as reduction for premiums earned subsequent to July
16, 1993 in response to a reduction in the workers' compensation minimum rate.
The decrease in policyholder dividends in 1995 is attributable to the decline
in workers' compensation premiums as well as a reduction in the rates at which
premiums were written in 1995. The decrease in the policyholder dividend
expense ratio in 1995 is due to the continuing decrease in rates charged for
workers' compensation insurance, to a level at which the margin for
policyholder dividends is eliminated.
Net income from insurance operations was $4.9 million in 1993 and $5.9
million in 1994, compared to $6.0 million in 1995. The increase in net income
in 1993 and 1994 is the result of relatively lower expenses on moderately
higher premiums. Net income in 1995 is comparable to net income in 1994
despite the significant decline in workers' compensation premiums because the
decline in premiums and cash flow did not yet have a significant negative
impact on the average invested assets and investment income in 1995. Net
income includes net realized gains of $473,000 in 1993, $16,000 in 1994, and
$209,000 in 1995.
CASH FLOW FROM INSURANCE OPERATIONS
Cash flows of the insurance business may be influenced by a variety of
factors, including market trends relating to particular lines of insurance,
the insurance regulatory environment, and general economic conditions.
Operating cash flow of the insurance operations may be significantly affected
by the growth or decline of net premiums written, the timing of claims
payments, and the rate of return achieved on the insurance investment
portfolio.
Three Months Ended March 31, 1995 compared with Three Months Ended March 31,
1996
Cash provided by insurance operating activities for the three months ended
March 31, 1995 was $929,000; cash used in insurance operations for the same
period in 1996 was $8.4 million. The increase in cash used in operations in
the first quarter of 1996 is primarily due to the payment of claims and claims
expenses related to prior years while workers' compensation premiums written
have declined. Overall cash and invested assets, at fair value, at March 31,
1995 were $162.5 million, compared to $156.6 million at March 31, 1996.
Years Ended December 31, 1993, 1994 and 1995
Cash provided by insurance operations for the years ended December 31, 1993
and 1994 was $18.7 million and $11.3 million, respectively; cash used in
insurance operating activities for the year ended December 31, 1995 was $2.0
million. The decrease in cash provided by operations in 1994 from 1993
primarily was due to increased
102
<PAGE>
dividend payments to policyholders. The decrease in cash provided by
operations in 1995 is primarily due to the decline in workers' compensation
net premiums written. Because workers' compensation claims ordinarily are paid
over a period of several years, NAICC is now experiencing a situation in which
current claims payments relating to prior years exceed current workers'
compensation premiums. Such negative cash flow is expected to continue with
the settlement of workers' compensation claims, or until such time as
management of NAICC determines that workers' compensation premiums can be
written at rates that can be expected to achieve a profit. However, management
of NAICC anticipates that cash flow from insurance operations will increase
with the growth in premiums from the automobile programs. Overall cash and
invested assets, at fair value, at December 31, 1993 and 1994 were $164.3
million and $156.2 million, respectively, compared to $170.0 million at
December 31, 1995.
Danielson's insurance subsidiaries require both readily liquid assets and
adequate capital to meet ongoing obligations to policyholders and claimants,
as well as to pay ordinary operating expenses. The primary sources of funds to
meet these obligations are premium revenues, investment income, recoveries
from reinsurance and, if required, the sale of invested assets. NAICC's
investment policy guidelines require all liabilities to be matched by a
comparable amount of investment grade invested assets. Management of NAICC
believes that NAICC has both adequate capital resources and sufficient
reinsurance to meet any unforeseen events such as natural catastrophes,
reinsurer insolvencies or possible reserve deficiencies.
The two most common measures of capital adequacy for insurance companies are
premiums-to-surplus ratios (which measure current operating risk) and
reserves-to-surplus ratios (which measure financial risk related to possible
changes in the level of provisions for losses and LAE). A commonly accepted
maximum net written premiums-to-surplus ratio is 3 to 1, although this varies
with different lines of business. NAICC's 1995 premiums-to-surplus ratio of
1.2 to 1 and annualized first quarter 1996 premiums-to-surplus ratio of 1.7 to
1 remain underleveraged by current industry standards. A commonly accepted
maximum loss and LAE reserves-to-surplus ratio is 5 to 1, compared with
NAICC's 1995 ratio of 2.6 to 1 and first quarter 1996 ratio of 2.3 to 1. Given
these relatively conservative financial security ratios, management of NAICC
is confident that existing capital is adequate to support above average
premium growth from its current premium levels for the foreseeable future.
In December 1993, the Association adopted a model for the insurance industry
for determining RBC requirements. Under the RBC model, property and casualty
insurance companies are required to report their RBC ratios based on their
statutory annual statements as filed with regulatory authorities. NAICC has
calculated its RBC requirement under the Association's model, and has capital
in excess of any regulatory action reporting level.
RESULTS OF DANIELSON TRUST'S OPERATIONS
The operations of Danielson Trust are comprised of trust and fiduciary
services. Danielson's Consolidated Financial Statements include accounts and
operations of Danielson Trust for the period from March 26, 1993 through
December 31, 1993 (the "Initial Period") and for 1994 and 1995; however,
comparisons of the financial results of Danielson Trust's operations during
the Initial Period with the results of its operations for the years ended
December 31, 1994 and 1995 have been omitted as they do not relate to
equivalent time periods (nor, in many instances, to equivalent operations) and
would not provide meaningful information relating to historical trends and
financial results. Financial results relating to the Initial Period have been
provided for informational purposes only. In February 1994, Danielson Trust
acquired the assets of the WTS division of Grossmont Bank. Thus, the results
of Danielson Trust's operations during the years ended December 31, 1994 and
1995 are not entirely comparable in that they relate, in part, to different
assets, accounts and lines of business. See Note 2 of the Notes to Danielson
Consolidated Financial Statements.
103
<PAGE>
TRUST AND FIDUCIARY SERVICES OPERATIONS
Three Months Ended March 31, 1995 compared with Three Months Ended March 31,
1996
The operating results discussed below are not necessarily indicative of the
results to be expected for the year ending December 31, 1996.
Total fee income was $1.1 million for each of the three month periods ended
March 31, 1995 and 1996. Fee income for the three months ended March 31, 1996,
as compared with the same period in 1995, reflects increased fees from the
retirement services and private trust lines of business offsetting decreased
custody service fees.
Net investment income was $36,000 and $26,000 for the three months ended
March 31, 1995 and 1996, respectively. Net investment income for the first
quarter of 1996 decreased from the same period in 1995 because average
invested assets during such period in 1996 were less than average invested
assets during the same period in 1995.
General and administrative expenses were $1.5 million and $1.2 million for
the three months ended March 31, 1995 and 1996, respectively. The decrease in
expenses for the first quarter of 1996 from the comparable period in 1995
reflects reduced staffing and data processing expenses, as well as other
operating efficiencies. As a result of the 1996 decrease in expenses,
Danielson Trust's net loss for the three months ended March 31, 1995 of
$395,000, decreased to a net loss of $81,000 in the same period of 1996.
Years Ended December 31, 1993, 1994 and 1995
Total fee income during the Initial Period was $2.3 million. Total fee
income for the years ended December 31, 1994 and 1995 was $4.7 million and
$4.5 million, respectively. Total fee income for 1995 reflects increased non-
recurring termination fees offset by the elimination of fees associated with
certain terminated unprofitable accounts and the cessation of fees associated
with Danielson Trust's former parent, HomeFed Bank.
HomeFed Bank-related fee income for the Initial Period was $884,000 or 37.1%
of Danielson Trust's total revenues for such period. As noted above, fee
income for the year ended December 31, 1994 as compared to the year ended
December 31, 1995, to some extent, does not relate to equivalent operations.
Fee income associated with Danielson Trust's former parent ceased in 1994 as
previously anticipated. For the year ended December 31, 1994, the run-off of
HomeFed Bank-related business of Danielson Trust generated non-recurring total
fee income of $310,000, or less than 7% of Danielson Trust's 1994 total
revenues.
Net investment income was $119,000, $131,000 and $135,000 for the Initial
Period and for the years ended December 31, 1994 and 1995, respectively.
Danielson Trust's fixed maturity holdings are primarily in U.S. Government
obligations.
General and administrative expenses were $2.4 million, $5.4 million and $6.7
million for the Initial Period and for the years ended December 31, 1994 and
1995, respectively. Expenses relating to the integration of the WTS assets and
operations substantially decreased in 1995 from 1994. However, expenses
increased overall in 1995 over 1994, including expenses relating to marketing,
data processing, system and other staffing upgrades. A non-recurring expense
of $709,000 relating to the writedown of goodwill, as well as non-recurring
expenses relating to the writedown of certain fixed assets and certain
employee staff costs, also were reflected in 1995 expenses.
Danielson Trust's net loss from operations during the Initial Period was
$70,000. As a result of expenses and changes necessitated by the WTS
acquisition, as well as increased marketing expenses during 1995, the net loss
from operations of Danielson Trust in 1995 was $2.0 million (including the
writedown of $709,000 of goodwill and $100,000 of amortization expense)
compared to a net loss from operations of $624,000 for the year ended December
31, 1994 (including $86,000 of amortization expense).
104
<PAGE>
CASH FLOW FROM TRUST OPERATIONS
Operating cash flow of Danielson Trust's trust operations is primarily
dependent upon fee income from trust services. Cash flow of the trust business
also is influenced by factors affecting the trust industry generally,
including market growth, competition and general economic conditions.
Three Months Ended March 31, 1995 compared with Three Months Ended March 31,
1996
Cash used in trust operating activities for the three months ended March 31,
1995 and 1996 was $463,000 and $178,000, respectively. The $285,000 decrease
in cash used in trust operating activities in the first quarter of 1996 from
the same period in 1995 is primarily attributable to cost reductions and
operating efficiencies. Overall cash and invested assets, at fair value, at
March 31, 1995 were $2.2 million, compared to $1.7 million at March 31, 1996.
Years Ended December 31, 1993, 1994 and 1995
Cash provided by trust operations for the Initial Period was $153,000; cash
used in trust operating activities for the years ended December 31, 1994 and
1995 was $160,000 and $825,000, respectively. The increase in cash used in
trust operations in 1995 was primarily attributable to significant costs
necessitated by the WTS acquisition as well as accelerated marketing expenses.
Management of the trust business anticipates that cash flow from operations
may improve if sales and marketing efforts result in new fee income-generating
business, as well as through additional operating efficiencies. Overall cash
and invested assets, at fair value, at December 31, 1993, 1994 and 1995 were
$2.8 million, $2.6 million and $1.8 million, respectively.
Danielson Trust requires liquid assets to meet the working capital needs of
its continuing business. The primary source of these liquid assets are fees
charged to Danielson Trust's private trust clients. In connection with the
cessation of fee revenues derived from HomeFed Bank-related business during
the first half of 1994, as well as the incurrence by Danielson Trust since
1994 of significant costs for communications, computer equipment upgrades and
unanticipated systems conversion expenses associated with the acquisition of
the assets of WTS (see Note 2 of the Notes to Danielson Consolidated Financial
Statements), Danielson (at the parent company level) made a $300,000 unsecured
intercompany loan to Danielson Trust in 1994 in the form of a promissory
demand note, with quarterly interest payments at the annual rate of 7.75%. At
December 31, 1995, the entire principal amount of the promissory demand note
was outstanding. Effective March 31, 1996, the entire principal balance of
such note and accrued interest as of January 1, 1996 was forgiven and
converted into additional paid-in capital of Danielson Trust. As of January 1,
1996, Danielson agreed to make an additional unsecured loan to Danielson Trust
in the principal amount of $600,000, bearing interest at the rate of prime
plus 1%, and to consider making additional such loans in the aggregate amount
of $600,000 upon request of Danielson Trust. As of the date hereof, Danielson
Trust has not borrowed any amount under such loan agreement. To the extent
that timing differences exist between the collection of revenue and the actual
payment of expenses, or where revenues generated by Danielson Trust's business
are insufficient to cover its expenses or to maintain compliance with
regulatory capital requirements, the primary sources of funds to meet those
obligations would be the sale of short-term investments, additional
intercompany loans or parent company capital contributions or financing
provided by a third party.
In accordance with California banking regulations, Danielson Trust has
pledged assets with a fair value of $611,000 as of March 31, 1996 to the State
of California as a reserve in connection with certain types of fiduciary
appointments, the maximum amount of such reserves that may be required. State
banking laws also regulate the nature of trust companies' investments of
contributed capital and surplus, and generally restrict such investments to
debt type investments in which banks also are permitted to invest. In order to
satisfy such regulations, a majority of Danielson Trust's investments are in
U.S. Government obligations and, as of March 31, 1996, Danielson Trust was in
compliance with the foregoing requirements.
On January 31, 1996, following approval of the California State Banking
Department, Danielson Trust sold substantially all of the fiduciary accounts
administered by its Santa Barbara branch to The Bank of Montecito (now known
as Montecito Bank and Trust). In connection with the sale, in January 1996,
Danielson Trust recognized a gain of $32,874.
105
<PAGE>
RESULTS OF DANIELSON'S OPERATIONS
CASH FLOW FROM PARENT-ONLY OPERATIONS
Danielson on a parent-only basis has been primarily dependent upon the
earnings achieved on its investment portfolio and the payment of general and
administrative expenses incurred in the normal course of business as the
source of operating cash flow.
Three Months Ended March 31, 1995 compared with Three Months Ended March 31,
1996
For the three months ended March 31, 1995 and 1996, cash used in parent-only
operating activities was $766,000 and $477,000, respectively. The decrease in
cash used in the first quarter of 1996 from the same period in 1995 was
primarily attributable to the receipt of interest on certain investments and
the timing of certain expense payments.
Years Ended December 31, 1993, 1994 and 1995
For the years ended December 31, 1993, 1994 and 1995, cash used in parent-
only operating activities was $2.0 million, $1.1 million and $1.7 million,
respectively. Cash used in operations are primarily attributable to the
parent-only net loss from operations for each year, adjusted for non-cash
charges such as depreciation and amortization, and the operating working
capital requirements of the holding company's business. Cash used in parent-
only operations in 1994 decreased $900,000 from 1993, cash used in parent-only
operations in 1995 increased $600,000 over 1994. The 1994 decrease resulted
primarily from an increase in parent-only cash flow from an extraordinary item
received in 1994 of $750,000. For information regarding Danielson's operating
subsidiaries' cash flow from operations, see "DANIELSON MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS-
Results of NAICC's Operations, Cash Flow from Insurance Operations" and
"DANIELSON MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS-Results of Danielson Trust's Operations, Cash Flow from
Trust Operations."
LIQUIDITY AND CAPITAL RESOURCES
To meet liquidity needs, Danielson relies on its cash and short-term
investments (valued at $5.3 million as of March 31, 1996 and $9.1 million as
at December 31, 1995). Danielson has no material fixed charges other than the
preferred dividends required to be paid on Danielson Series A Preferred Stock
at the conclusion of the Merger. Danielson anticipates that its existing cash
and short-term investments will be adequate to fund fully all holding company
expenses during the next two years.
To the extent that Danielson requires additional cash resources to meet
liquidity needs, Danielson will look to tax sharing payments and/or dividends
from its subsidiaries. In 1996, NAICC cannot pay dividends without the prior
approval of the California Department due to the existence of a $1.8 million
negative unassigned surplus. NAICC's management believes that it will not have
negative unassigned surplus in 1996 and, consequently, management of NAICC
believes that NAICC will be allowed to pay dividends in 1997 without prior
regulatory approval. In 1996, Midland is also required to obtain prior
approval of the Tennessee Insurance Commissioner prior to payment of dividends
due to a negative unassigned surplus, which will be eliminated upon
consummation of the Merger. See "RISK FACTORS-Regulation." For future years,
Danielson will have a tax sharing agreement under which it expects to be
entitled to be paid sums that represent the benefits received by its
subsidiaries resulting from Danielson's NOL.
DISTRIBUTION FROM TRUSTS AFTER 1990 REORGANIZATION
On December 21, 1994, Danielson received a partial distribution in the
amount of $750,000 from an unaffiliated trust that owns certain assets and
liabilities of a former subsidiary of Danielson. The partial distribution is
recorded as an extraordinary item in Danielson's 1994 Consolidated Statements
of Operations. Danielson has been advised that the trust is anticipated to be
terminated in the near future. Danielson does not expect that it will receive
any material amount upon termination of the trust.
106
<PAGE>
On December 30, 1993, following approval of the California Superior Court,
MAIC, a direct subsidiary of Danielson, received a distribution of
approximately $268,000 upon termination of an unaffiliated trust formerly
administered by the California Insurance Commissioner as trustee. Such trust
had assumed the liabilities and substantially all of the assets of MAIC and a
former subsidiary of Danielson. Under the terms of the trust agreement, the
trust was required to distribute to MAIC all amounts which remained in the
trust after satisfying or otherwise resolving all claims against MAIC and such
former subsidiary. The distribution was recorded as an extraordinary item in
Danielson's 1993 Consolidated Statements of Operations. MAIC distributed such
funds to Danielson following approval of the California Department. The
termination of the trust had the effect of finalizing a Superior Court-
approved interim distribution by such former trust to MAIC in 1992 of
approximately $6.2 million, the proceeds of which also were distributed to
Danielson upon approval of the California Department, as well as releasing all
indemnities and pledges running from MAIC to the trust, including a pledge of
3,526,140 shares of KCP Holding Company common stock owned by MAIC.
Also during 1993, MAIC received proceeds of $220,000 from the liquidation of
the estate of a former Texas subsidiary of Danielson. The distribution was
accounted for as an extraordinary item in Danielson's 1993 Consolidated
Statements of Operations.
AUTHORITATIVE ACCOUNTING PRONOUNCEMENTS
In December 1994, Statement of Position 94-6, "Disclosure of Certain
Significant Risks and Uncertainties" ("SOP 94-6") was issued. SOP 94-6 is
effective with respect to financial statements for fiscal years ending after
December 15, 1995. SOP 94-6 requires Danielson to include in its financial
statements disclosures of certain risks and uncertainties relating to the
nature of its operations, the use of estimates in the preparation of financial
statements, and significant concentrations in certain aspects of Danielson's
operations. See Notes 1(J), 2, 4, 8 and 14 of the Notes to Danielson
Consolidated Financial Statements.
In October 1995, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-
Based Compensation" ("SFAS 123"). SFAS 123 encourages all companies to adopt
the new fair value based method of accounting for stock compensation plans in
place of the intrinsic value method. In accordance with current accounting
practice, Danielson has elected to continue to use the intrinsic value method.
However, Danielson anticipates that its 1996 Consolidated Financial Statements
will include pro forma disclosures of net income and earning per share
computed as if the fair value based method had been applied. Danielson plans
to apply the provisions of SFAS 123 in its 1996 Consolidated Financial
Statements.
In November 1995, the FASB Emerging Issues Task Force issued a Special
Report, "A Guide to Implementation of Statement 115 on Accounting for Certain
Investments in Debt and Equity Securities" (the "Special Report") permitting
companies to reassess the appropriateness of the initial classifications of
all securities held at that time and account for any resulting
reclassifications at fair value in accordance with Statement 115. The initial
application of the Special Report and any resulting one-time reclassifications
are meant to occur as of a single date between November 15, 1995 and December
31, 1995, rather than over a number of days during that period. Such
reclassification will not affect Danielson's intent to hold other debt
securities to maturity in the future. In connection with the implementation of
Statement 115, at December 1, 1995, Danielson reclassified all of its held-to-
maturity securities to the available-for-sale security category at an
amortized cost of $139.9 million. See Notes 1(B) and 6 of the Notes to
Danielson Consolidated Financial Statements.
At December 31, 1995, Danielson adopted Statement of Financial Accounting
Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed of" ("SFAS 121"). Upon the adoption of SFAS
121, a pre-tax impairment loss of $709,000 was reported as a component of
income from continuing operations before income taxes. See Notes 1(E) and 2 of
the Notes to Danielson Consolidated Financial Statements.
107
<PAGE>
MIDLAND MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This Joint Proxy Statement/Prospectus contains forward-looking statements
which involve risks and uncertainties. The actual results of Danielson and
Midland could differ materially from those anticipated in their forward-
looking statements as a result of certain factors, including those set forth
under "RISK FACTORS" and elsewhere in this Joint Proxy Statement/Prospectus.
The information in this discussion is presented on the basis of GAAP.
RESULTS OF OPERATIONS
Results of Operations for the quarter ended March 31, 1995 compared to the
quarter ended March 31, 1996
Gross premiums written for the quarter ended March 31 increased by 6% from
1995 to 1996. Midland expanded certain of its programs during 1995, but
experienced unfavorable results. Certain programs have been eliminated, rate
increases have been or are being implemented and underwriting guidelines have
been tightened. As a result, Midland expects full year 1996 gross premiums
written to decline as compared to 1995.
Net premiums written for the quarter ended March 31 declined by 21% from
1995 to 1996 due to the utilization of a 30% quota-share reinsurance facility
during 1996.
Fee income increased by 55% from the first quarter of 1995 to the first
quarter of 1996 due to rate increases implemented in 1995 and due to fees
generated from direct bill policies. During 1994, a large percentage of
Midland's business was agency billed business, but the accounts were
substantially converted to direct billing in late 1994 and 1995.
Losses and LAE increased by 16% for the quarter ended March 31, 1996, as
compared to the same period of 1995. This increase was mitigated by the
utilization of reinsurance during 1996. The loss ratio increased from 71.6% at
March 31, 1995, when Midland retained 98% of its premiums written to 82.3% at
March 31, 1996, net of reinsurance. Midland experienced adverse loss results
during the second half of 1995, and to a lesser extent during the first
quarter of 1996. Midland intends to continue to establish loss reserves at
more conservative levels until the full impact of the underwriting and pricing
changes made in late 1995 and early 1996 are precisely quantified.
Policy acquisition costs remained relatively flat for the first quarter of
1995 and the first quarter of 1996, after giving recognition to ceding
commission income on reinsurance. This is due to a significant decrease in the
percentage of acquisition costs being deferred, as a result of increased loss
ratios.
Operating expenses increased by 20% for the quarter ended March 31, 1996 as
compared to the quarter ended March 31, 1995 due primarily to the addition of
certain personnel and the enhancement of information technology to increase
underwriting controls.
Interest and bank charges increased by 56% from the first quarter of 1995 to
the first quarter of 1996 because the interest rate on Midland's credit
facility was increased retroactive to October 1, 1995 during the first quarter
of 1996. In addition, Midland was required to pay amendment fees of $117,500
in connection with the renegotiation of the financial covenants of the loan
during the first quarter of 1996.
Year Ended December 31, 1994 Compared to the Year Ended December 31, 1995
For the year ended December 31, 1995, Midland reported a $10.1 million net
loss. This loss resulted from adverse claims experience primarily in Arizona
and California non-standard personal automobile programs and, to a lesser
extent, from certain commercial automobile programs. In particular, Midland
believes its full coverage automobile programs in Arizona and California were
inadequately priced.
108
<PAGE>
During 1994, Midland made a decision to expand its full coverage personal
automobile programs, particularly in two of its larger markets, Arizona and
California, where it had previously written substantially liability only
coverage. This decision was based upon several factors, including: Midland was
experiencing a high cancellation rate and low retention rates on liability
only policies; Midland's competitors had reported underwriting profits from
full coverage business; and Midland had been successful in underwriting some
full coverage business in certain other states. However, this strategy proved
costly. Upon implementation of the expanded full coverage programs, Midland's
monthly premium volume increased slightly in Arizona, but doubled in
California. Gross premiums written in Arizona and California for 1994 were
$26.5 million and $24.2 million, respectively. In 1995, gross premiums written
in Arizona and California were $28.4 million and $39.4 million, respectively.
Both programs generated sharply increased claims frequency and consequently,
higher loss ratios on the full coverage business. The increased claims
frequency also presented a claims processing backlog and consequently
increased losses and LAE.
After extensive analysis, Midland concluded that it had attracted a
disproportionate share of insureds with undesirable insurance and credit
histories; market premium levels were inadequate; and in certain situations,
Midland's agents had adversely selected against it in favor of higher
incentive commissions from other carriers. Since identifying these problems,
during 1995 Midland eliminated its full coverage programs in California and
tightened controls over full coverage in Arizona to more carefully selected
risks, and in addition, terminated its relationship with certain unprofitable
agents. Enhanced underwriting procedures have been implemented in all states
in which Midland operates. In addition, rate increases have been implemented
in Florida, Georgia, Texas and Arizona since July 1995 and will be implemented
in California, Louisiana, Arkansas and Tennessee in early to mid-1996. These
actions are expected to reduce Midland's non-standard personal automobile
gross premiums written by approximately 20% in 1996.
To provide additional management controls, Midland established an internal
audit department and a claims audit team in 1995, in early 1996 hired
additional pricing analysts, and a national market analyst, and also in 1996
plans to continue to upgrade claims staff and hire a Chief Actuary for loss
reserving.
Midland also experienced a deterioration in results related to its Illinois
commercial automobile programs and determined in 1995 to close that branch
office and terminate the Illinois program. Expenses associated with the
closing of that branch were approximately $1.0 million in 1995. Additionally,
claims experience on certain commercial automobile programs in Texas
deteriorated while pricing became very competitive. Midland decided to
eliminate those unprofitable programs as well. Commercial gross premiums
written are expected to decrease in 1996, by approximately 30% due to these
changes.
During 1995, Midland strengthened its prior year loss reserves by
approximately $11.0 million due to adverse development in both the commercial
and personal programs mentioned above and due to higher than anticipated LAE.
This adverse development was impacted by a processing backlog in the western
region claims office which occurred in the first half of 1995 related to the
Arizona and California full-coverage programs. Midland believes it has
adequately provided for the development, as well as implemented greater
controls and added sufficient claims staff to prevent any further material
adjustments to prior year reserves.
Midland's combined ratio has deteriorated during the last two years from
93.3% in 1993 to 96.4% in 1994 and 115.0% in 1995. In 1994, this was due in
part to increased loss ratios but also to increased net acquisition costs
caused by the elimination of quota-share reinsurance January 1, 1994.
Midland's loss ratio significantly increased from 71.3% in 1994 to 88.2% in
1995 due to adverse experience in the current year as well as to the adverse
development of prior years. The expense ratio increased from 25.1% in 1994 to
26.8% in 1995 due to the write-off of deferred acquisition costs associated
with discontinued programs and premium reserve deficiencies on certain
continuing lines of business together totaling approximately $5.4 million.
These increased acquisition costs were partially offset by ceding commissions
Midland received from a 30% quota-share reinsurance program implemented as of
September 30, 1995 for its non-standard personal automobile policies. This
program was established with Kemper and included a cession of in-force and
unearned premiums as of September 30, 1995.
109
<PAGE>
Overall, as compared to 1994, Midland's gross premiums written for 1995 grew
38% to $210 million and its net premiums written grew 14% to $172 million.
This growth came primarily from California, due to the implementation of new
full coverage programs, from Arkansas, where Midland appointed a new general
agency in 1995, and from growth within Tennessee, where Midland opened a new
general agency office in mid-1994.
Policy fees increased by 63% from $6.5 million in 1994 to $10.6 million in
1995 due to growth in premium volume.
Investment income increased by 59% from 1994 to 1995 due to the investment
of the $10 million obtained under Midland's credit facility and due to the
investment of operating cash generated in 1995. The value of Midland's
investment portfolio grew by $25.6 million to $162.3 million at December 31,
1995, compared to $136.7 million at December 31, 1994.
Increases in losses and LAE were a result of Midland's growth and the
unusual matters discussed above.
While premiums earned increased by 46% in 1995 as compared to 1994, policy
acquisition costs also increased by 60%. As noted above, the expense ratio
also increased in 1995. These increases were due to the write-off of deferred
policy acquisition costs from discontinued programs and from premium reserve
deficiencies.
Operating expenses increased significantly from $3.7 million in 1994 to $6.4
million in 1995, due to Midland's continued growth and due to significant
investments in information technology systems and marketing programs.
Interest expense nearly doubled in 1995 due to the increase in average debt
outstanding related to Midland's bank credit facility through 1994.
During 1995, Midland's California and Arizona claims operations were
consolidated into a regional claims office in Arizona. This move, coupled with
adverse development in full coverage programs in that region, created a
significant backlog of claims, a resulting disruption in responsiveness and
consequently increased losses and LAE related to those programs. Midland
significantly increased its claims staff to accommodate the workload and
believes it has taken adequate measures to prevent a similar service problem
from recurring. Midland also believes it suffered no significant permanent
damage to its agency and insured relationships during the disruption of
service, due to its prior track record and due to its concentrated efforts to
rectify the problem.
Year Ended December 31, 1993 Compared to the Year Ended December 31, 1994
Gross premiums written increased by 50% from $101.5 million in 1993 to
$152.4 million in 1994. This growth came from several key states, including
Arizona, California, Florida and Georgia. Net premiums written increased 97%
to $151.1 million from $76.8 million in the prior year, due to the growth in
gross premiums written, but also to the elimination of quota-share reinsurance
effective January 1, 1994.
Policy fees increased by 37% from $4.8 million in 1993 to $6.5 million in
1994 due to the growth in premium volume.
Investment income increased by 86% from 1993 to 1994 due to the investment
of cash generated from operations, which benefited by the elimination of
quota-share reinsurance, and due to the investment of the proceeds of
Midland's $20 million credit facility. Midland was also able to take advantage
of rising interest rates with this newly invested cash as well as cash
generated from maturities in its investment portfolio.
Other income is derived from premium finance operations, which remained
fairly stable through 1994.
Losses and LAE increased by 118% from $38.6 million in 1993 to $84.3 million
in 1994 due to the growth in premium volume and to the elimination of quota-
share reinsurance. Also, as previously announced, Midland experienced
increased claims frequency which it attributed to heavy rains in most of its
major markets during
110
<PAGE>
October and November, 1994, increasing the loss ratio to 80.7% for the fourth
quarter, compared to 67.4% for the first nine months. The loss ratio for the
year 1993 was 69.9% compared to 71.3% in 1994.
Policy acquisition costs increased by 152% from $12.5 million in 1993 to
$31.4 million in 1994. This was directly attributable to the growth in premium
volume in that period. The expense ratio increased from 23.4% in 1993 to 25.1%
in 1994 due to the elimination of quota-share reinsurance, which generated
ceding commission income to offset acquisition costs in prior years.
Interest expense increased from $52,000 in 1993 to $970,000 in 1994 due to
outstanding debt under Midland's credit facility through 1994.
The income tax rate for 1993 and 1994 remained fairly constant at 27.1% and
27.3%, respectively, due to the continued concentration of Midland's
investment portfolio in tax-preferenced securities.
LIQUIDITY AND CAPITAL RESOURCES
The operating cash requirements of Midland relate primarily to the payment
of claims, policy acquisition costs and operating expenses. Due to the nature
of risks Midland insures, Midland's liabilities can be estimated. These
liabilities generally develop and are resolved over a period of less than
three years. Therefore, Midland generally has a predictable schedule of cash
needs. Midland manages its investment activities to maintain adequate
liquidity for operating purposes and to protect its policyholders and
stockholders (i.e., "matching" of liquidity and cash requirements). Midland's
portfolio is heavily weighted toward intermediate fixed maturity securities.
Midland generally invests in investment grade securities and has a policy of
not acquiring real estate investments. Historically, Midland has not
experienced any "mismatches" related to liquidity management and none are
anticipated. At December 31, 1994, Midland's fixed maturity securities were
classified as held-to-maturity. During 1995, Midland's Investment Committee
made a decision to liquidate and reinvest the proceeds of certain of those
securities to take advantage of higher available yields. As a result, Midland
has reclassified the entire portfolio to available-for-sale and the securities
are carried at fair value at December 31, 1995. There are no foreseeable
requirements to liquidate any investments prior to their scheduled maturities.
Midland's objective is to maintain a premiums-to-surplus ratio based on the
industry standard of a maximum of 3:1. For the year ended December 31, 1995,
the premiums-to-surplus ratio was 3:1, compared to 2.4:1 for 1994. Midland
anticipates this ratio will decrease during 1996 due to two factors. First,
Midland expects to write less premiums in 1996 as a result of its decision to
eliminate certain programs and due to rate increases already taken or
anticipated to be taken during 1996. Second, Midland will utilize its 30%
quota-share reinsurance facility on its personal automobile programs
throughout 1996. This reinsurance was obtained effective September 30, 1995.
Midland secured a $20 million permanent credit facility in December 1993,
which was utilized to expand underwriting capacity in 1994. This facility was
increased to $30 million in December 1994, with the increase being utilized to
expand underwriting capacity during 1995. At September 30, 1995, Midland
defaulted on certain financial covenants contained in the related loan
agreement. The default was not cured prior to December 31, 1995. The loan
agreement was amended, including revised financial covenants, effective March
1, 1996. Under the terms of the restated loan agreement, Midland is not
required to pay principal until June 30, 1996, and quarterly thereafter
through June 30, 1998. Interest is payable quarterly. See Note 6 and Note 15
of the Notes to Midland Consolidated Financial Statements for further
discussion.
Midland utilizes catastrophe insurance futures and options (the "CAT
contracts") to help manage Midland's risk from catastrophic losses. These CAT
contracts are traded on the CBOT and are designed to track insured
catastrophic losses on a regional and nationwide basis. The CAT contracts are
indexed to loss notices as determined by Insurance Services Office, Inc. (the
"ISO") using data obtained from designated reporting companies. The ISO
considers losses reported to the designated companies as of the end of the
quarter following the loss quarter. The ISO estimates quarterly premiums based
on the most recent statutory annual statements
111
<PAGE>
filed by the reporting companies. Since the premium is known and constant
during the life of the CAT contract, any changes in CAT contract prices are
due entirely to changes in the amount of reported losses. The CAT program is
used by management as a supplement to reinsurance treaties. Depending on CBOT
quotes and conditions in the traditional catastrophic reinsurance market, the
standardized nature of the CAT contracts provides management the opportunity
to "shop" for better price and coverage in specific regions that a reinsurance
company may not be able to offer in a timely fashion.
The program has been used for hedging catastrophic risk with the ISO
September Eastern contract at the CBOT. These particular contracts focus on
the Atlantic coast and gulf regions of the country. It is in certain areas of
those regions that management believes it has catastrophic exposure that is
too costly to reinsure "traditionally." The contracts are based on industry
wide loss ratios calculated by the ISO. To hedge, management purchases or
sells calls or puts at various loss ratios in order to mitigate its exposure
to loss. Therefore, if the industry is suffering from catastrophic losses, the
loss ratio increases. Midland's CAT contracts consequently reflect a profit to
offset underwriting losses. If a catastrophic event does not occur, the CAT
positions reflect a loss, but Midland's underwriting business remains
profitable. The program has performed up to management's expectations.
Midland's management will continue to explore opportunities in the CAT market.
Hedges will be made only if they provide a cost effective supplement to
traditional reinsurance.
RECENT ACCOUNTING PRONOUNCEMENTS
See Note 1 of the Notes to Midland Consolidated Financial Statements for the
impact of recent accounting pronouncements.
112
<PAGE>
MARKET PRICES AND RELATED INFORMATION
Danielson Common Stock has been traded on the AMEX under the symbol "DHC"
since December 6, 1990. On June 24, 1996, there were approximately 1,674
holders of record of Danielson Common Stock.
Midland Common Stock has been traded on NASDAQ under the symbol "MDLD" since
1992. On June 24, 1996, there were approximately 1,900 holders of record of
Midland Common Stock including beneficial owners holding shares in nominee or
"street name."
The following table sets forth the high and low quarterly sales prices per
share of (i) Danielson Common Stock as reported on the AMEX Consolidated
Market from and after January 1, 1994 and (ii) Midland Common Stock as
reported on NASDAQ from and after January 1, 1994.
<TABLE>
<CAPTION>
PRICE RANGE PRICE RANGE
OF DANIELSON OF MIDLAND
COMMON STOCK COMMON STOCK
------------- -------------
High Low High Low
<S> <C> <C> <C> <C>
Year Ended December 31, 1994:
First Quarter....................................... 8 3/8 6 1/4 23 3/4 18 3/4
Second Quarter...................................... 7 6 1/4 22 1/2 18 1/2
Third Quarter....................................... 9 3/4 6 1/4 24 1/4 20 3/4
Fourth Quarter...................................... 9 1/8 6 1/4 24 14
Year Ended December 31, 1995:
First Quarter....................................... 7 3/4 6 5/8 18 3/4 14 3/4
Second Quarter...................................... 8 6 5/8 19 17 1/2
Third Quarter....................................... 7 7/8 7 19 1/2 9
Fourth Quarter...................................... 7 3/4 6 3/4 12 1/2 8 1/2
Year Ending December 31, 1996:
First Quarter....................................... 8 3/8 6 5/8 14 11 1/4
Second Quarter...................................... 8 1/4 6 1/4 12 7/8 10 7/8
</TABLE>
To date, no dividends have been paid or declared on Danielson Common Stock.
Danielson does not expect to declare any cash dividends on Danielson Common
Stock in the foreseeable future. Because Danielson is able to eliminate a
substantial portion of its income tax liability, management believes it likely
will provide stockholders a better total return by reinvesting any excess cash
rather than paying cash dividends. Midland has declared a $0.05 per share
dividend on Midland Common Stock in each of the quarters listed above except
the first and second quarters of 1994.
On February 26, 1996, the last full trading day prior to the public
announcement of the Merger Agreement, the closing price per share of Danielson
Common Stock as reported on the AMEX was $7.50. On July 1, 1996, the closing
price per share of Danielson Common Stock as reported on the AMEX was $6.875.
On February 26, 1996, the last full trading day prior to the public
announcement of the Merger Agreement, the closing price per share of Midland
Common Stock as reported on NASDAQ was $11.875. On July 1, 1996 the closing
price per share of Midland Common Stock as reported on NASDAQ was $11.375.
Holders of Midland Common Stock and Danielson Common Stock are urged to
obtain current market quotations for the shares of Danielson Common Stock and
Midland Common Stock.
113
<PAGE>
DESCRIPTION OF DANIELSON CAPITAL STOCK
The authorized capital stock of Danielson currently consists of 30 million
shares, 20 million of which may be shares of Danielson Common Stock and 10
million of which may be shares of preferred stock. After giving effect to the
Authorized Capital Charter Amendment and the Preferred Stock Terms
contemplated hereby, the authorized capital stock of Danielson will consist of
50 million shares, 40 million of which will be shares of Danielson Common
Stock and 10 million of which will be shares of preferred stock, par value
$0.10 per share, issuable in series, of which 1.3 million shares will be
designated Danielson Series A Preferred Stock. The following description of
Danielson's capital stock does not purport to be complete and is subject to,
and qualified in its entirety by reference to, the Delaware General
Corporation Law, Danielson's Certificate of Incorporation and the Certificate
of Designations for Danielson Series A Preferred Stock.
The following descriptions of Danielson Common Stock and Danielson Series A
Preferred Stock should be read carefully by Midland stockholders since the
Merger consideration includes such securities.
DANIELSON COMMON STOCK
General
The Danielson Board possesses the power to issue shares of authorized but
unissued Danielson Common Stock without further stockholder action, subject,
so long as shares of Danielson Common Stock are listed on the AMEX, to the
requirements of such exchange.
Voting Rights
Each holder of an outstanding share of Danielson Common Stock is entitled to
cast one vote for each such share registered in the name of such holder. The
affirmative vote of the holders of a majority of the outstanding shares of
Danielson Common Stock is necessary to approve any consolidation or merger of
Danielson with or into another corporation pursuant to which shares of
Danielson Common Stock would be converted into or exchanged for any securities
or other securities or other consideration. Pursuant to the Danielson
Certificate of Incorporation, voting for directors may be cumulative if, prior
to the vote, any holder of Danielson Common Stock gives notice to Danielson of
such holder's intention to vote cumulatively.
Dividends
Subject to the rights and preferences of any outstanding preferred stock,
dividends on Danielson Common Stock are payable out of the funds of Danielson
legally available therefor when, as and if declared by the Danielson Board.
However, no dividend may be paid or set aside for payment and no distribution
may be made on Danielson Common Stock unless (i) all accrued and unpaid
dividends with respect to Danielson Series A Preferred Stock and any of the
stock ranking on a parity with such stock as to dividends or upon liquidation
at the time such dividends are payable have been paid or funds have been set
apart for payment of such dividends and (ii) sufficient funds have been set
apart for the payment of the dividends for the current dividend period with
respect to Danielson Series A Preferred Stock and any of the stock ranking on
a parity with such stock as to dividends or upon liquidation.
Rights in Liquidation
In the event Danielson is liquidated, dissolved or wound up, whether
voluntarily or involuntarily, the net assets of Danielson would be distributed
ratably among the holders of the then outstanding shares of Danielson Common
Stock after payment or provision for payment of the full preferential amounts
to which the holders of any series of preferred stock of Danielson then issued
and outstanding are then entitled.
114
<PAGE>
Preemptive Rights
Shares of Danielson Common Stock do not entitle a stockholder to any
preemptive rights enabling a stockholder to subscribe for or receive shares of
stock of any class or any other securities convertible into shares of stock of
any class of Danielson.
Trading Market
The outstanding shares of Danielson Common Stock are listed for trading on
the AMEX. The Registrar and Transfer Agent for Danielson Common Stock is Fleet
National Bank.
Transfer Restrictions
Danielson Common Stock is subject to the following transfer restrictions:
1. No holder, whether record or beneficial, direct or indirect, of 5% or
more of Danielson Common Stock, whether such ownership resulted from receipt
of shares of Danielson Common Stock through a primary issuance by Danielson,
or issued upon exercise of rights to purchase shares of Danielson Common Stock
granted by Danielson, or from any other transaction or transactions, including
without limitation, secondary market acquisitions (and including specifically
any holder, whether record or beneficial, direct or indirect, who proposes to
make an acquisition of Danielson Common Stock, which after the acquisition
will result in total ownership by such holder of 5% or more of Danielson
Common Stock) (a "5% Stockholder"), may purchase, acquire or otherwise receive
additional shares of Danielson Common Stock (herein referred to as an
"Acquisition") or sell, transfer, assign, pledge, encumber or dispose of, in
any manner whatsoever, any shares of Danielson Common Stock, directly or
indirectly owned by such 5% Stockholder, whether such ownership is record or
beneficial ownership (herein referred to as a "Transfer"), prior to a
determination by Danielson and its tax counsel that such transaction will not
result in or create (in conjunction with prior transactions and previously
approved subsequent transactions by any 5% Stockholder(s) and other holders of
Danielson Common Stock) an unreasonable risk of an "ownership change" of
Danielson within the meaning of Section 382(g)(1) of the Code, or any similar
provisions of superseding or additional law relating to preservation of NOL,
including specifically Treasury Regulation Section 1.382-2T(j)(3)(i)
(collectively, an "Ownership Change" under the "Tax Law").
In addition, Danielson has issued stop transfer instructions to the transfer
agent for Danielson Common Stock requiring, as a condition precedent to any
transfer of Danielson Common Stock, that the transfer agent receive either:
(i) a sworn affidavit from each of the proposed transferor and transferee that
it is not a 5% Stockholder; or (ii) an opinion of tax counsel of Danielson
referred to below. Any purported transfer of shares of Danielson Common Stock
in violation of the foregoing transfer restrictions will be a nullity and of
no force and effect. All certificates representing Danielson Common Stock bear
a legend setting forth the foregoing restrictions.
2. In order to ensure compliance with such restrictions, and in order to
establish a procedure for processing requests to effect either an Acquisition
or a Transfer by any one or more 5% Stockholder(s) on a fair and equitable
basis, the following provisions apply to all 5% Stockholders;
(a) Delivery of Shares and Escrow Receipts. All shares of Danielson Common
Stock which are issuable to 5% Stockholders or which subsequently are received
by a 5% Stockholder in an Acquisition are issued in the name of "Danielson
Holding Corporation, as Escrow Agent" and are held by Danielson in escrow (the
"Escrowed Stock"). In lieu of certificates reflecting their ownership of
Danielson Common Stock, the 5% Stockholders receive an escrow receipt
evidencing their beneficial ownership of Danielson Common Stock and record
ownership of the Escrowed Stock. Escrow receipts are non-transferable. The 5%
Stockholders retain full voting and dividend rights for all Escrowed Stock.
(b) Duration of Danielson Holding the Escrowed Stock. As escrow agent,
Danielson holds all shares of Escrowed Stock until termination of the stock
escrow (the "Stock Escrow") (as provided in subsection (d) below) or, if and
to the extent that a 5% Stockholder desires to Transfer Escrowed Stock to a
non-5%
115
<PAGE>
Stockholder, until receipt by Danielson of a favorable opinion from its tax
counsel that the Transfer may be made without thereby resulting in an
Ownership Change under the Tax Law.
(c) Acquisitions and Transfers. All requests by 5% Stockholders to
consummate either an Acquisition or a Transfer of Escrowed Stock, through
secondary market transactions or purchases in a primary offering by Danielson,
are treated in the order in which such requests were received, i.e., on a
"first to request, first to receive" basis. All such requests must be in
writing and delivered to Danielson at its principal executive office,
attention General Counsel, by registered mail, return receipt requested, or by
hand. In the event that Danielson's tax counsel is unable to conclude that a
requested Acquisition or Transfer can be made without an Ownership Change
under the Tax Law, then: (i) the requesting party will be so advised in
writing by Danielson; and (ii) any subsequent request by other 5% Stockholders
to effect a transaction of a type previously denied by Danielson will be
approved only after all previously denied requests (in the order denied) are
given an opportunity to consummate the previously desired transaction. In
addition, Danielson may approve any requested transaction in any order of
receipt if, in its business judgment, such transaction is in its best
interests.
(d) Termination of the Stock Escrow. The Stock Escrow will terminate upon
the first to occur of the following: (i) pursuant to an amendment to the Tax
Law, Danielson concludes that the restrictions are no longer necessary in
order to avoid a loss to Danielson and the members of the affiliated group
filing a consolidated federal income tax return with Danielson of its NOL;
(ii) the NOL of Danielson and members of the affiliated group filing a
consolidated federal income tax return with Danielson no longer are available
to Danielson, whether through passage of time, usage or disallowance; and
(iii) the Danielson Board concludes, in its business judgment, that
preservation of the NOL no longer is in the interests of Danielson and members
of the affiliated group filing a consolidated federal income tax return with
Danielson. Upon termination of the Stock Escrow, each 5% Stockholder will
receive a notice that the Stock Escrow has been terminated and, thereafter,
will receive a Danielson Common Stock certificate evidencing ownership of the
previously Escrowed Stock.
(e) Release of Danielson. Danielson is held harmless and released from any
liability to any and all 5% Stockholders arising from its actions as escrow
agent, except only for intentional misconduct. In performing its duties
Danielson is and will be entitled to rely, without any inquiry, upon the
written advice of its tax counsel and other experts engaged by Danielson. In
the event that Danielson requires further advice or comfort regarding action
to be taken by it as escrow agent, it may deposit the Escrowed Stock at issue
with a court of competent jurisdiction and make further transfers thereof in a
manner consistent with the rulings of such court.
DANIELSON SERIES A PREFERRED STOCK
General
The Danielson Board, without further action by the stockholders, is
authorized to issue up to 10 million shares of preferred stock in one or more
series and to designate as to any such series the dividend rate, redemption
prices and terms, preferences on liquidation or dissolution, rights in the
event of a merger, consolidation, distribution or sale of assets, conversion
rights, voting rights and any other powers, preferences, and relative,
participating, optional or other special rights and qualifications,
limitations or restrictions. The rights of the holders of Danielson Common
Stock will be subject to, and may be adversely affected by, the rights of the
holders of Danielson Series A Preferred Stock and any preferred stock of
Danielson that may be issued in the future. Danielson Series A Preferred Stock
will rank senior to Danielson Common Stock with respect to dividends and
distribution of assets upon liquidation or winding up.
Dividends
Dividends on Danielson Series A Preferred Stock shall accrue and be
cumulative from the date of issuance, whether or not in any dividend period or
periods there shall be funds legally available for the payment of such
dividends. Holders of shares of Danielson Series A Preferred Stock will be
entitled to receive cumulative cash
116
<PAGE>
dividends at a per share rate set in accordance with the terms of the Merger
Agreement. See "THE MERGER AGREEMENT-Consideration to be Received in the
Merger." The dividend rate was preliminarily set on July 1, 1996 at 10% per
annum, subject to upward or downward adjustment as of the Offering Pricing
Date. Dividends on Danielson Series A Preferred Stock will be payable
quarterly on the 15th day of March, June, September and December of each year,
commencing on September 15, 1996. Each such dividend will be payable in
arrears to holders of record as they appear on the stock records of Danielson
at the close of business on such record dates, not less than ten days nor more
than 60 days preceding the payments dates thereof, as shall be fixed by the
Danielson Board. The amount of dividends payable on Danielson Series A
Preferred Stock for each full dividend period shall be computed by dividing
the annual dividend rate by four. The amount of dividends payable for the
initial dividend period on Danielson Series A Preferred Stock, or any other
period shorter or longer than a full dividend period shall be computed on the
basis of a 360-day year consisting of twelve 30-day months.
So long as any shares of Danielson Series A Preferred Stock are outstanding,
no dividends, except as described below, may be declared or paid or set apart
for payment on any class or series of stock of Danielson ranking, as to
dividends, on a parity with Danielson Series A Preferred Stock, nor shall any
such shares be redeemed or purchased by Danielson unless full cumulative
dividends on Danielson Series A Preferred Stock have been declared and paid or
declared and a sum sufficient for the payment thereof set apart for such
payment. When dividends are not paid in full or a sum sufficient for such
payment is not set apart on the shares of Danielson Series A Preferred Stock
and any other class or series of stock ranking on a parity as to dividends
with Danielson Series A Preferred Stock, all dividends declared on Danielson
Series A Preferred Stock and on such other stock may be declared pro rata so
that the amounts of dividends per share declared on Danielson Series A
Preferred Stock and on such other stock shall in all cases bear to each other
the same ratio that the accrued dividends per share on the shares of Danielson
Series A Preferred Stock and such other stock bear to each other.
So long as any shares of Danielson Series A Preferred Stock are outstanding,
Danielson may not (i) declare or pay or set apart for payment any dividend or
other distribution with respect to any junior stock of Danielson or (ii)
redeem or set apart funds for the purchase, redemption or other acquisition of
any junior stock, unless (A) all accrued and unpaid dividends with respect to
Danielson Series A Preferred Stock and any of the stock ranking on a parity
with such stock as to dividends or upon liquidation ("Parity Stock") at the
time such dividends are payable have been paid or funds have been set apart
for payment of such dividends and (B) sufficient funds have been set apart for
the payment of the dividends for the current dividend period with respect to
Danielson Series A Preferred Stock and any Parity Stock.
Redemption
Shares of Danielson Series A Preferred Stock may not be redeemed by
Danielson prior to the fifth anniversary of the Effective Time after which
date the shares of such stock will be redeemable at the option of Danielson,
in whole or in part, at any time or from time to time, out of funds legally
available therefor, at a redemption price equal to the Stated Value plus an
amount equal to accrued and unpaid dividends, if any, to the redemption date,
whether or not earned or declared.
If fewer than all of the shares of Danielson Series A Preferred Stock are to
be redeemed, the shares to be redeemed shall be selected by lot or pro rata.
If fewer than all the shares represented by any certificate are redeemed, a
new certificate will be issued representing the unredeemed shares without cost
to the holder thereof. No fractional shares will be issued upon redemption,
but an adjustment in cash will be made in respect of any fraction of an
unredeemed share which would otherwise be issuable.
On and after the date fixed for redemption, provided that the redemption
price (including any accrued and unpaid dividends to the date fixed for
redemption) has been duly paid or provided for, dividends shall cease to
accrue on Danielson Series A Preferred Stock called for redemption, such
shares shall no longer be deemed to be outstanding and all rights of the
holders of such shares as stockholders of Danielson shall cease except the
117
<PAGE>
right to receive from Danielson the redemption price without interest thereon
after the redemption date and any cash adjustment in lieu of fractional
unredeemed shares. Shares of Danielson Series A Preferred Stock redeemed will
be restored to the status of authorized but unissued shares of Danielson's
preferred stock, without designation as to class, and may thereafter be
issued, but not as shares of Danielson Series A Preferred Stock.
The provisions governing redemption of Danielson Series A Preferred Stock
will become inoperative if Danielson's right to redeem Danielson Series A
Preferred Stock would cause such stock to be treated as "other property," as
such term is used in Section 356(a)(1) of the Code.
Liquidation Preference
In the event of any liquidation, dissolution or winding up of Danielson,
whether voluntary or involuntary, before any payment or distribution of the
assets of Danielson (whether capital or surplus) shall be made to or set apart
for the holders of any class or series of stock ranking junior to Danielson
Series A Preferred Stock, upon liquidation, dissolution or winding up, the
holders of the shares of Danielson Series A Preferred Stock shall be entitled
to receive an amount equal to the Stated Value per share plus an amount equal
to all dividends (whether or not earned or declared) accrued and accumulated
and unpaid thereon to the date of final distribution to such holders; but such
holders shall not be entitled to any further payment. If, upon any
liquidation, dissolution or winding up of Danielson, the assets of Danielson,
or proceeds thereof, distributable among the holders of the shares of
Danielson Series A Preferred Stock shall be insufficient to pay in full the
preferential amount aforesaid and liquidation payments on any other shares of
stock ranking, as to liquidation, dissolution or winding up, on a parity with
Danielson Series A Preferred Stock, then such assets, or the proceeds thereof,
shall be distributed among the holders of shares of Danielson Series A
Preferred Stock and any such other stock ratably in accordance with the
respective amounts which would be payable on such shares of Danielson Series A
Preferred Stock and any such other stock if all amounts payable thereon were
paid in full. Neither a consolidation or merger of Danielson with another
corporation nor a sale or transfer of all or substantially all of Danielson's
assets will be considered a liquidation, dissolution or winding up, voluntary
or involuntary, of Danielson.
Voting Rights
Except as indicated below, or except as otherwise from time to time required
by applicable law, the holders of shares of Danielson Series A Preferred Stock
will have no voting rights.
Whenever dividends payable on Danielson Series A Preferred Stock shall be in
arrears in an amount equal to at least six full quarterly dividends (whether
or not such arrearage occurred in consecutive periods) on shares of Danielson
Series A Preferred Stock then outstanding, the number of directors of
Danielson will be increased by two and the holders of Danielson Series A
Preferred Stock, voting together as a class with the holders of any other
class or series of Parity Stock upon which the same voting rights have been
conferred and are exercisable, will have the right to elect two additional
directors to the Danielson Board at Danielson's next annual meeting of
stockholders to serve until the next such meeting, and at each subsequent
annual meeting to serve until the next such meeting, until all such dividends
on such series have been paid in full. At elections of such directors during
such period, each holder of Danielson Series A Preferred Stock shall be
entitled to one vote per share. Upon any termination of the right of the
holders of such series to vote for directors as provided above, the term of
office of all directors then in office, elected by such series, shall
terminate immediately.
The approval of two-thirds of the outstanding shares of Danielson Series A
Preferred Stock shall be required in order to amend the Certificate of
Incorporation of Danielson to affect materially and adversely the rights,
preferences or voting powers of the holders of such series of stock or to
authorize, create, issue or increase the authorized or issued amount of, any
class of stock having rights senior or superior with respect to dividends and
upon liquidation to such series; provided, however, that any increase in the
amount of authorized preferred stock or the creation and issuance of other
series of preferred stock, or any increase in the amount of authorized shares
of such series or of any other series of preferred stock, in each case ranking
on a parity with or junior to Danielson Series A Preferred Stock with respect
to the payment of dividends or the distribution of assets upon liquidation,
dissolution or winding up, shall require the approval of a majority of the
outstanding shares of
118
<PAGE>
Danielson Series A Preferred Stock and any other series of preferred stock
ranking junior to or on a parity with Danielson Series A Preferred Stock.
No approval by the holders of Danielson Series A Preferred Stock is required
for the creation of an issue of stock ranking prior to Danielson Series A
Preferred Stock as to dividends or the distribution of assets upon
liquidation, dissolution or winding up if notice of redemption is given and
the proceeds of the sale of such new issue of stock are used to retire or
redeem any or all of the outstanding Danielson Series A Preferred Stock.
No Sinking Fund
Danielson Series A Preferred Stock will not be subject to the operation of
any mandatory purchase, retirement or sinking fund.
Trading Market
Danielson has agreed to use its best efforts to cause the shares of
Danielson Series A Preferred Stock to be approved for listing on the AMEX,
NYSE or NASDAQ.
COMPARISON OF CERTAIN RIGHTS OF STOCKHOLDERS
Midland is a Tennessee corporation subject to the provisions of the
Tennessee Business Corporation Act ("TBCA"). Danielson is a Delaware
corporation subject to the provisions of the Delaware General Corporation Law
("DGCL"). Stockholders of Midland, whose rights are governed by Midland's
Charter and Bylaws and by the TBCA, will, upon consummation of the Merger,
become stockholders of Danielson whose rights will then be governed by the
Certificate of Incorporation and Bylaws of Danielson and by the DGCL. The
following is a summary of the material differences between the rights of
stockholders of Midland and Danielson, as such differences arise from the
provisions of the TBCA and the DGCL and from the provisions of the charter and
bylaws of each of Midland and Danielson.
The following summaries do not purport to be complete statements of the
rights of Danielson stockholders under the Danielson Certificate of
Incorporation and Danielson's Bylaws as compared with the rights of Midland
stockholders under Midland's Charter and Bylaws or a complete description of
the specific provisions referred to herein. The identification of specific
differences is not meant to indicate that other equal or more significant
differences do not exist. These summaries are qualified in their entirety by
reference to the TBCA, the DGCL and governing corporate instruments of
Danielson and Midland, to which stockholders are referred. The terms of
Danielson's capital stock are described in greater detail under "DESCRIPTION
OF DANIELSON CAPITAL STOCK." Certain topics discussed below are also subject
to federal law and the regulations promulgated thereunder.
ELECTION OF DIRECTORS
Danielson's Certificate of Incorporation provides that voting for the
election of directors may be cumulative if, prior to the vote, any Danielson
stockholder gives notice to Danielson of such stockholder's intention to vote
cumulatively.
Midland's Charter does not provide for cumulative voting.
REMOVAL OF DIRECTORS
Danielson's Bylaws provide that any director may be removed with or without
cause at any time by the affirmative vote of the holders of record of a
majority of all the outstanding stock entitled to vote for the election of
directors at a special meeting of the stockholders called for that purpose.
Danielson's Bylaws also provide that a director may be removed for cause by
the affirmative vote of a majority of the entire board of directors as long as
Danielson's Certificate of Incorporation provides for cumulative voting and,
if less than the entire board
119
<PAGE>
is to be removed, no director may be removed without cause if the votes cast
against such director's removal would be sufficient to elect him if then
cumulatively voted at an election of entire board of directors.
Midland's Bylaws provide that any director may be removed without cause by a
majority vote of the stockholders and may be removed for cause by a majority
of the entire Midland Board.
CONFLICT-OF-INTEREST TRANSACTIONS
The DGCL generally permits transactions involving Danielson and an
interested director of Danielson if (i) the material facts are disclosed and a
majority of disinterested directors consents, (ii) the material facts are
disclosed and a majority of shares entitled to vote thereon consents, or (iii)
the transaction is fair to Danielson at the time it is authorized by the
Danielson Board, a committee, or the Danielson stockholders.
The TBCA generally permits transactions involving Midland and an interested
director of Midland if (i) the material facts are disclosed and a majority of
disinterested directors or a committee of the Midland Board consents, (ii) the
material facts are disclosed and a majority of disinterested shares entitled
to vote thereon consents or (iii) the transaction is fair to Midland. The TBCA
prohibits loans to directors by Midland unless approved by a majority vote of
disinterested stockholders or the Midland Board determines that the loan
benefits Midland and either approves the specific loan or a general plan of
loans by Midland.
SPECIAL MEETINGS OF STOCKHOLDERS
Pursuant to Danielson's Bylaws, a special meeting of Danielson's
stockholders may be called for any purpose by the chairman of the Danielson
Board, Danielson's President, Secretary or a majority of the Danielson Board.
A special meeting of Danielson's stockholders may be called by the President
or Secretary of Danielson upon the written request of stockholders who
together are the record owners of a majority of the outstanding stock of all
classes entitled to vote at the special meeting.
Midland's Bylaws authorize the President of Midland or a majority of the
Midland Board or, in certain circumstances, the stockholders, to call a
special meeting of stockholders for any purpose. Such a call shall state the
purpose or purposes of the proposed meeting.
REQUIRED VOTE FOR AUTHORIZATION OF CERTAIN ACTIONS
The DGCL provides that the recommendation of the Danielson Board and the
approval of a majority of the outstanding shares of Danielson entitled to vote
thereon is required to effect a merger or consolidation or to sell, lease or
exchange substantially all of Danielson's assets. With respect to a merger, no
vote of the Danielson stockholders would be required if Danielson were the
surviving corporation and (i) the related agreement of merger did not amend
Danielson's Certificate of Incorporation, (ii) each share of stock of
Danielson outstanding immediately before the merger were an identical
outstanding or treasury share of Danielson after the merger and (iii) the
number of shares of Danielson to be issued in the merger (or to be issuable
upon conversion of any convertible instruments to be issued in the merger) did
not exceed 20% of the shares of Danielson Common Stock outstanding immediately
before the merger.
The TBCA provides that the approval of the Midland Board and of a majority
of the outstanding shares of Midland entitled to vote thereon would also
generally be required to approve a merger or to sell, lease, exchange or
otherwise dispose of substantially all of Midland's assets. In accordance with
the TBCA, submission by the Midland Board of any such action may be
conditioned on any basis, including without limitation, conditions regarding a
supermajority voting requirement or that no more than a certain number of
shares indicate that they will seek dissenters' rights.
With respect to a merger, no vote of the stockholders of Midland would be
required if Midland were the surviving corporation and (i) Midland's Charter
would remain unchanged after the merger, subject to certain exceptions, (ii)
each stockholder of Midland immediately before the merger would hold an
identical number of
120
<PAGE>
shares, with identical rights and preferences, after the merger, (iii) the
number of voting shares outstanding immediately after the merger plus the
number of voting shares issuable as a result of the merger (either by
conversion of securities issued pursuant to the merger or the exercise of
rights and warrants issued pursuant to the merger), will not exceed by more
than 20% the number of voting shares of the surviving corporation outstanding
immediately before the merger, and (iv) the number of participating shares
outstanding immediately after the merger, plus the number of participating
shares issuable as a result of the merger (either by conversion of securities
issued pursuant to the merger or the exercise of rights and warrants issued
pursuant to the merger), will not exceed by more than 20% the total number of
participating shares outstanding immediately before the merger.
With respect to a sale, lease, exchange or other disposition of
substantially all the assets of Midland, no vote of the stockholders of
Midland would be required if such transfer were conducted in the regular
course of business or if such transfer were made to a wholly-owned subsidiary
of Midland.
ACTION BY WRITTEN CONSENT
The DGCL provides for action without stockholder meetings if a written
consent setting forth the action to be taken is signed by the holders of
outstanding stock having not less than the minimum number of votes that would
be necessary to authorize or take such action at a meeting at which all shares
entitled to vote thereon were present and voted. Action by written consent of
the Danielson stockholders is impracticable given the number of holders of
Danielson Common Stock.
The TBCA provides that action may be taken without a stockholder meeting and
vote if all stockholders entitled to vote on the action consent to taking such
action without a meeting. Action by written consent of the Midland
stockholders is impracticable given the number of holders of Midland Common
Stock.
INSPECTION RIGHTS
Both the TBCA and the DGCL contain provisions granting stockholders the
right to inspect certain records of each corporation. Under the DGCL, any
stockholder of record, either in person or by attorney or other agent, upon
written demand under oath stating the purpose thereof, has the right to
inspect certain of Danielson's records during certain times. This right is
limited, however, to inspection for "a proper purpose," which is defined as "a
purpose reasonably related to such person's interest as a stockholder."
Under the TBCA, Midland stockholders are also entitled to inspect and copy,
during regular business hours at Midland's principal office, the minutes of
stockholder meetings, charter, bylaws, annual reports, and certain other
records of the corporation, provided the stockholder gives the corporation
written notice of such stockholder's demand at least five business days before
the date on which such stockholder wishes to inspect and copy the records. In
addition, a stockholder who makes a demand in good faith, for a proper
purpose, and describes with reasonable particularity such stockholder's
purpose and the records such stockholder desires to inspect, and if the
records are directly connected with such stockholder purpose, may also, upon
five days' written notice, inspect and copy: (i) accounting records of the
corporation, (ii) the records of stockholders and excerpts from minutes of any
meeting of the board of directors, (iii) records of any action of a committee
of the board of directors while acting in place of the board of directors on
behalf of the corporation, (iv) minutes of any meeting of the stockholders,
and (v) records of action taken by the stockholders or board of directors
without a meeting.
AMENDMENT OF CERTIFICATE OF INCORPORATION AND BYLAWS
Danielson's Certificate of Incorporation may be amended by the affirmative
vote of the holders of a majority of the outstanding shares of Danielson
Common Stock entitled to vote on such amendment. Danielson's Certificate of
Incorporation and Bylaws provide that Danielson's Bylaws may be amended or
repealed by the Danielson Board or by the Danielson stockholders. Danielson's
Bylaws provide that such Bylaws may be
121
<PAGE>
amended or repealed by the holders of shares entitled to vote for the election
of directors, by the vote of not less than two-thirds of such shares. The
Danielson Board may amend or repeal Danielson's Bylaws by the vote of not less
than two-thirds of the entire Danielson Board.
Midland's Charter may be amended by the holders of a majority of the
outstanding shares of Midland Common Stock and its Bylaws may be amended by a
majority vote of the directors present at a meeting or at any meeting of the
stockholders when the votes cast favoring the amendment exceed the votes cast
opposing the amendment.
VOLUNTARY DISSOLUTION
The DGCL provides that Danielson may be dissolved by the approval of the
Danielson Board and a majority of the shares of Danielson entitled to vote
thereon. The DGCL also allows all the stockholders of Danielson acting
unanimously in writing to effect a dissolution of Danielson without the
approval of the Danielson Board. Dissolution by unanimous written consent of
the Danielson stockholders is impracticable given the number of holders of
Danielson Common Stock.
The TBCA provides that Midland may be dissolved if the Midland Board
proposes dissolution and a majority of the shares of Midland entitled to vote
thereon approves. In accordance with the TBCA, the Midland Board may condition
its submission of a proposal for dissolution on any basis, including a greater
stockholder vote requirement.
INDEMNIFICATION
Both the DGCL and the TBCA provide in certain situations for mandatory and
permissive indemnification of directors and officers in substantially the same
manner. The TBCA, however, states that statutory indemnification is not to be
deemed exclusive of any other rights to which a director seeking
indemnification may be entitled; provided, however, no indemnification may be
made if a final adjudication adverse to the director or officer establishes
his liability (1) for any breach of loyalty to the corporation or its
stockholders; (2) for acts or omissions not in good faith or which involve
intentional misconduct or a knowing violation of law; or (3) for unlawful
distributions.
BUSINESS COMBINATION STATUTE
The DGCL regulates business combinations such as mergers, consolidations,
and asset purchases where the business acquired was, or the assets belonged
to, a public corporation, and where the acquiror became an "interested
stockholder" of the public corporation before the date of the transaction
unless (i) prior to the date of the transaction the board of directors of the
corporation approved either the business combination or the transaction which
resulted in the stockholder becoming an interested stockholder, or (ii) upon
consummation of the transaction which resulted in the stockholder becoming an
interested stockholder, the interested stockholder owned at least 85% of the
voting stock of the corporation outstanding at the time the transaction
commenced, excluding for purposes of determining the number of shares
outstanding those shares owned by persons who are directors and also officers
and employee stock plans in which employee participants do not have the right
to determine confidentially whether shares held subject to the plan will be
tendered in a tender or exchange offer, or (iii) on or subsequent to the date
of the transaction the business combination is approved by the board of
directors and authorized at an annual or special meeting of stockholders by
the affirmative vote of at least 66 -2/3% of the outstanding voting stock of
the disinterested stockholders.
In the context of this law, an "interested stockholder" is any person (other
than the corporation and any direct or indirect majority-owned subsidiary of
the corporation) who directly or indirectly, alone or in concert with others,
beneficially owns or controls 15% or more of the voting stock of the public
corporation. The law prohibits business combinations with an unapproved
interested stockholder for a period of three years after the date on which the
person became an interested stockholder and requires that any business
combination with an unapproved interested stockholder after such three year
period be approved by the board of directors and
122
<PAGE>
authorized by the affirmative vote of 66- 2/3% of the outstanding shares held
by persons other than the interested stockholders. The law is very broad in
its scope and is designed to inhibit unfriendly acquisitions but it does not
apply to corporations whose certificate of incorporation or bylaws contain a
provision not to be covered by this Section. Neither Danielson's Certificate
of Incorporation nor Bylaws contain such a provision.
Tennessee's Business Combination Act provides that a party owning 10% or
more of stock in a "resident domestic corporation" (such party is called an
"interested shareholder") cannot engage in a business combination with the
resident domestic corporation unless the combination (i) takes place at least
five years after the interested shareholder first acquired 10% or more of the
resident domestic corporation, and (ii) either (A) is approved by at least
two-thirds of the non-interested voting shares of the resident domestic
corporation or (B) satisfies certain fairness conditions specified in the
Business Combination Act.
These provisions apply unless one of two events occurs. A business
combination with an entity can proceed without delay when approved by the
target corporation's board of directors before that entity becomes an
interested shareholder, or the resident corporation may enact a charter
amendment or bylaw to remove itself entirely from the Business Combination
Act. This charter amendment or bylaw must be approved by a majority of the
stockholders who have held shares for more than one year prior to the vote. It
may not take effect for at least two years after the vote. Midland has not
adopted a charter or bylaw amendment removing Midland from coverage under the
Business Combination Act.
The Business Combination Act further provides an exemption from liability
for officers and directors of resident domestic corporations who do not
approve proposed business combinations or charter amendments and bylaws
removing their corporations from the Business Combination Act's coverage as
long as the officers and directors act in "good faith belief" that the
proposed business combination would adversely affect their corporation's
employees, customers, suppliers, or the communities in which their corporation
operates and such factors are permitted to be considered by the board of
directors under the charter.
The United States Court of Appeals for the Sixth Circuit has held that the
Tennessee Business Combination Act is unconstitutional as it applies to target
corporations organized under the laws of states other than Tennessee.
CONTROL SHARE ACQUISITION ACT
The Tennessee Control Share Acquisition Act ("TCSAA") strips a purchaser's
shares of voting rights any time an acquisition of shares in a covered
Tennessee corporation brings the purchaser's voting power to one-fifth, one-
third or a majority of all voting power. The purchaser's voting rights can be
established only by a majority vote of the other stockholders. The purchaser
may demand a special meeting of stockholders to conduct such a vote. The
purchaser can demand such a meeting before acquiring a control share only if
it holds at least 10% of outstanding shares and announces a good faith
intention to make the control share acquisition. A target corporation may or
may not redeem the purchaser's shares if the shares are not granted voting
rights.
The United States Court of Appeals for the Sixth Circuit has held that the
TCSAA is unconstitutional as it applies to target corporations organized under
the laws of states other than Tennessee.
The DGCL contains no similar provisions with respect to control share
acquisitions.
INVESTOR PROTECTION ACT
Tennessee's Investor Protection Act ("TIPA") applies to tender offers
directed at corporations (called "offeree companies") that have "substantial
assets" in Tennessee and that are either incorporated in or have a principal
office in Tennessee. The TIPA requires an offeror making a tender offer for an
offeree company to file with the Tennessee Insurance Commissioner a
registration statement. When the offeror intends to gain control of the
offeree company, the registration statement must indicate any plans the
offeror has for the offeree. The Tennessee Insurance Commissioner may require
additional information material to the takeover offer and may
123
<PAGE>
call for hearings. The TIPA does not apply to an offer that the offeree
company's board of directors recommends to stockholders.
In addition to requiring the offeror to file a registration statement with
the Tennessee Insurance Commissioner, the TIPA requires the offeror and the
offeree company to deliver to the Tennessee Insurance Commissioner all
solicitation materials used in connection with the tender offer. The TIPA
prohibits "fraudulent, deceptive, or manipulative acts or practices" by either
side, and gives the Tennessee Insurance Commissioner standing to apply for
equitable relief to the Chancery Court of Davidson County, Tennessee, or to
any other chancery court having jurisdiction whenever it appears to the
Tennessee Insurance Commissioner that the offeror, the offeree company, or any
of its respective affiliates has engaged in or is about to engage in a
violation of the TIPA. Upon proper showing, the Chancery Court may grant
injunctive relief. The TIPA further provides civil and criminal penalties for
violations.
The United States Court of Appeals for the Sixth Circuit has held that the
TIPA violates the commerce clause of the United States Constitution to the
extent that it applies to target corporations organized under the laws of
states other than Tennessee.
The DGCL contains no similar provisions with respect to investor protection.
AUTHORIZED CORPORATION PROTECTION ACT
The Tennessee Authorized Corporation Protection Act ("TACPA") is the vehicle
through which the Tennessee statutes attempt to permit the Business
Combination Act and the TCSAA to govern foreign corporations. The TACPA
provides that an authorized corporation can adopt a bylaw or a charter
provision electing to be subject to the operative provisions of the Business
Combination Act and the TCSAA, which then become applicable "to the same
extent as such provisions apply to a resident domestic corporation."
Authorized corporations are those that are required to obtain a Certificate of
Authority from the Tennessee Secretary of State and that satisfy any two of
certain tests including having its principal place of business located in
Tennessee; having a significant subsidiary located in Tennessee; having a
majority of such corporation's fixed assets located in Tennessee; having more
than 10% of the beneficial owners of the voting stock or more than 10% of such
corporation's shares of voting stock beneficially owned by residents of
Tennessee; employing more than 250 individuals in Tennessee or having an
annual payroll paid to residents of Tennessee that is in excess of $5 million;
producing goods and/or services in Tennessee that result in annual gross
receipts in excess of $10 million; or having physical assets and/or deposits
located within Tennessee that exceed $10 million in value.
The United States Court of Appeals for the Sixth Circuit, however, has held
the TACPA unconstitutional as it applies to target corporations organized
under the laws of states other than Tennessee.
The DGCL contains no similar provisions with respect to authorized
corporation protection.
GREENMAIL ACT
The Tennessee Greenmail Act ("TGA") applies to any corporation chartered
under the laws of Tennessee which has a class of voting stock registered or
traded on a national securities exchange or registered with the SEC pursuant
to Section 12(g) of the Exchange Act. The TGA provides that it is unlawful for
any corporation or subsidiary to purchase, either directly or indirectly, any
of its shares at a price above the market value, as defined in the TGA, from
any person who holds more than 3% of the class of the securities purchased if
such person has held such shares for less than two years, unless either the
purchase is first approved by the affirmative vote of a majority of the
outstanding shares of each class of voting stock issued or the corporation
makes an offer of at least equal value per share to all holders of shares of
such class.
The DGCL contains no similar provisions with respect to greenmail.
124
<PAGE>
DIVIDENDS AND OTHER DISTRIBUTIONS
The DGCL generally allows dividends to be paid out of surplus of Danielson
or out of the net profits of Danielson for the current fiscal year and/or the
prior fiscal year. No dividends may be paid if they would result in the
capital of Danielson being less than the capital represented by the preferred
stock of Danielson. There are no shares of Danielson preferred stock
outstanding.
The TBCA provides that Midland generally may make dividends or other
distributions to its stockholders unless after the distribution either (i)
Midland would not be able to pay its debts as they become due in the usual
course of business or (ii) Midland's assets would be less than the sum of its
liabilities plus the amount that would be needed to satisfy the preferential
dissolution rights of its preferred stock. There are no shares of Midland
preferred stock authorized.
DISSENTERS' RIGHTS
The DGCL provides appraisal rights for certain mergers and consolidations.
Appraisal rights are not available to holders of (i) shares listed on a
national securities exchange or held of record by more than 2,000 stockholders
or (ii) shares of the surviving corporation of the merger, if the merger did
not require the approval of the stockholders of such corporation, unless in
either case, the holders of such stock are required pursuant to the merger to
accept anything other than (A) shares of stock of the surviving corporation,
(B) shares of stock of another corporation which are also listed on a national
securities exchange or held by more than 2,000 holders, or (C) cash in lieu of
fractional shares of such stock.
The TBCA generally provides dissenters' rights for mergers and share
exchanges that would require stockholder approval, sales of substantially all
the assets (other than sales that are in the usual and regular course of
business and certain liquidations and court-ordered sales), and certain
amendments to the charter that materially and adversely affect rights in
respect of a dissenter's shares. Dissenters' rights are not available as to
any shares which are listed on an exchange registered under Section 6 of the
Exchange Act or are "national market system" securities as defined in rules
promulgated pursuant to the Exchange Act. Dissenters' rights are not available
to the Midland stockholders.
125
<PAGE>
PRINCIPAL MIDLAND STOCKHOLDERS
The following table sets forth the beneficial ownership of Midland Common
Stock, as of June 24, 1996, owned by (a) each director, (b) each executive
officer, (c) each person known to Midland to own beneficially more than 5% of
the outstanding shares of Midland Common Stock, and (d) directors and officers
as a group. Midland believes that, except as otherwise stated, the beneficial
holders listed below have sole voting and investment power regarding the
shares reflected as being beneficially owned by them.
<TABLE>
<CAPTION>
AMOUNT AND NATURE
OF BENEFICIAL OWNERSHIP PERCENT OF CLASS(1)
----------------------- -------------------
<S> <C> <C>
PRINCIPAL STOCKHOLDERS
MARCo Holdings, L.P. (2)
c/o Michael A. Robinson
One Commerce Square, Suite 1700
Memphis, Tennessee 512,448 9.1
Fenimore Asset Management, Inc.
118 N. Grand Street, Box 310,
Cobleskill, New York, 10243 451,150 8.4
OFFICERS AND DIRECTORS
John J. Shea, Jr., M.D. (3) 310,777 5.6
Philip R. Zanone (4)(5) 443,353 7.9
Charles H. Gray, III (5)(6) 270,733 4.8
Joseph W. McLeary (5)(7) 180,265 3.2
J. Shea Leatherman (8) 164,038 3.0
Elena Barham (5) 71,977 1.2
James E. Farmer (5) 68,330 1.2
Sidney A. Stewart (5) 21,650 *
F. Ross Johnson (9) 38,200 *
Carlos H. Cantu (5) 15,000 *
Theodore J. Bender, III (10) 14,000 *
All Directors and Executive
Officers as a Group
(11 persons) 1,598,323 27.1
</TABLE>
- --------
* Percentage of shares beneficially owned does not exceed 1% of the
outstanding Midland Common Stock
(1) The numbers shown include the shares that are not currently outstanding
but which certain stockholders are entitled to acquire or will be entitled
to acquire within 60 days. Such shares are deemed to be outstanding for
the purpose of computing the percentage of outstanding Midland Common
Stock owned by the particular stockholder and by the group, but are not
deemed to be outstanding for the purpose of computing the percentage of
ownership of any other person.
(2) Includes 102,630 shares directly owned by MARCo Holdings, L.P. and 84,000
shares that Michael A. Robinson may acquire by exercise of warrants. Also
includes 130,000 shares owned by Charles P. and Anne W. Brown; 45,818
shares owned by C.P. Brown Family Trust; 108,000 shares owned by Thomas W.
and Barbara D. Staed; and 14,000 shares owned by each of Blaine Brantly
Staed Irrevocable Trust; Leslie Shelton Staed Irrevocable Trust and
Whitney Egan Staed Irrevocable Trust.
(3) Dr. Shea's address is Shea Clinic, 6133 Poplar Pike, P.O. Box 17987,
Memphis, Tennessee 38187-0987.
(4) Includes 55,734 shares owned by his wife, Irwin L. Zanone, as to which Mr.
Zanone disclaims beneficial ownership; includes 45,700 shares issuable
upon the exercise of options granted under Midland's stock option plans;
excludes options to purchase 17,500 shares which are not exercisable
within the next 60 days.
(5) The address of each of Midland's officers and of Messrs. Cantu and Stewart
is Midland Financial Group, Inc., 825 Crossover Lane, Suite 112, Memphis,
Tennessee 38117.
126
<PAGE>
(6) Includes 104,800 shares issuable upon the exercise of stock options
granted under Midland's stock option plans; excludes options to purchase
27,200 shares that are not exercisable within the next 60 days.
(7) Includes 1,000 shares owned by his wife, Joyce C. McLeary; 44,904 shares
owned by McLeary Financial Group, L.P., of which Mr. McLeary is a limited
partner; 45,700 shares issuable upon the exercise of stock options granted
under Midland stock option plans; excludes options to purchase 17,500
shares that are not exercisable within the next 60 days.
(8) Mr. Leatherman's address is Route 1, Box 193, Robinsonville, Mississippi
38664.
(9) Mr. Johnson's address is 2660 Peachtree Street, N.W., Atlanta, Georgia
30305. Mr. Johnson's ownership includes 2,000 shares owned by his wife,
Laurie Johnson, for which he disclaims beneficial ownership.
(10) Mr. Bender's address is 3541 Ridgewood Road, Atlanta, Georgia 30327.
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Based solely on review of the copies of reporting forms furnished to
Midland, or written representations that no forms are required, Midland
believes that during 1995 its officers and directors and 10% stockholders
complied with all filing requirements for reporting to the SEC their ownership
and changes in ownership of Midland Common Stock (as required pursuant to
Section 16(a) of the Exchange Act).
127
<PAGE>
PRINCIPAL DANIELSON STOCKHOLDERS
The following table sets forth the beneficial ownership of Danielson Common
Stock as of June 24, 1996 owned by (a) each director, (b) each executive
officer, (c) each person known by Danielson to own beneficially more than 5%
of the outstanding shares of Danielson Common Stock and (d) directors and
officers as a group. Danielson believes that, except as otherwise stated, the
beneficial holders listed below have sole voting and investment power
regarding the shares reflected as being beneficially owned by them.
<TABLE>
<CAPTION>
AMOUNT AND NATURE OF
BENEFICIAL OWNERSHIP PERCENT OF CLASS(1)
-------------------- -------------------
<S> <C> <C>
PRINCIPAL STOCKHOLDERS
Commissioner of Insurance 1,803,235/2/,/3/ 11.7
of the State of California
c/o Geoffrey A. Nicholls
Deputy Trustee
Mission Insurance
Companies' Trusts
3333 Wilshire Boulevard--
3rd Floor
Los Angeles, CA 90010
Martin J. Whitman 2,687,947/2/,/4/,/5/,/6/ 17.3
c/o Whitman Heffernan Rhein
& Co., Inc.
767 Third Avenue
New York, NY 10017-2023
Whitman Heffernan & Rhein 1,054,996/2/ 6.9
Workout
Fund, L.P.
c/o WHR Management Company,
L.P.
2 Park Place
Bronxville, NY 10708
Third Avenue Value Fund, 803,669/2/ 5.2
Inc.
767 Third Avenue
New York, NY 10017-2023
OFFICERS AND DIRECTORS**
Martin J. Whitman 2,687,947/2/,/4/,/5/,/6/ 17.3
C. Kirk Rhein, Jr. 1,407,978/5/,/6/,/7/ 9.0
James P. Heffernan 1,372,980/5/,/6/ 8.8
Joseph F. Porrino 56,667/8/ *
Frank B. Ryan 48,667/8/ *
Eugene M. Isenberg 69,924/9/ *
William R. Story 78,972/10/ *
Wallace O. Sellers 23,333/11/ *
Lisa D. Levey 19,700/12/ *
Claudia C. Cosenza 1,800/13/ *
All Officers and Directors
as a Group (10 persons) 3,657,976/1//4/ 22.6
</TABLE>
- --------
* Percentage of shares beneficially owned does not exceed 1% of the
outstanding Danielson Common Stock.
** Paul B. Loyd, Jr. is a nominee for election to the Danielson Board. Mr.
Loyd does not own any shares of Danielson Common Stock.
128
<PAGE>
(1) Share percentage ownership is rounded to nearest tenth of 1% and reflects
the effect of dilution as a result of outstanding options to the extent
such options are, or within 60 days will become, exercisable. As of June
24, 1996 (the date as of which this table was prepared), there were
options outstanding to purchase 1,271,537 shares of Danielson Common
Stock, of which 1,162,695 were exercisable on June 24, 1996, or which
become exercisable within the next 60 days. Shares underlying any option
which was exercisable on June 24, 1996 or becomes exercisable within the
next 60 days are deemed outstanding only for purposes of computing the
share ownership and share ownership percentage of the holder of such
option.
(2) In accordance with provisions of Danielson's Certificate of
Incorporation, all certificates representing shares of Danielson Common
Stock beneficially owned by holders of 5% or more of Danielson Common
Stock are owned of record by Danielson, as escrow agent, and are
physically held by Danielson in that capacity.
(3) Beneficially owned by the Commissioner of Insurance of the State of
California in his capacity as trustee for the benefit of holders of
certain deficiency claims against certain trusts which assumed
liabilities of certain present and former insurance subsidiaries of
Danielson.
(4) Includes 373,397 shares of Danielson Common Stock beneficially owned by
Carl Marks Strategic Investments, L.P. ("CMSI"), an investment limited
partnership; 803,669 shares beneficially owned by Third Avenue Value
Fund, Inc. ("TAVF"), an investment company registered under the
Investment Company Act of 1940; 104,481 shares beneficially owned by
Martin J. Whitman & Co., Inc. ("MJW&Co"), a private investment company;
and 66,167 shares beneficially owned by Mr. Whitman's wife and three
adult family members. Mr. Whitman is a minority general partner of the
partnership that is the general partner of CMSI. Mr. Whitman controls the
investment adviser of TAVF, and may be deemed to own beneficially a 5%
equity interest in TAVF. Mr. Whitman is the principal stockholder in
MJW&Co, and may be deemed to own beneficially the shares owned by MJW&Co.
Mr. Whitman disclaims beneficial ownership of the shares of Danielson
Common Stock owned by CMSI, TAVF, MJW&Co, and Mr. Whitman's family
members.
(5) Includes 1,054,996 shares of Danielson Common Stock beneficially owned by
Whitman Heffernan & Rhein Workout Fund, L.P. ("WHR Fund"), an investment
limited partnership. Each of Messrs. Whitman, Heffernan and Rhein is a
general partner of the partnership that is the general partner of WHR
Fund. Each disclaims beneficial ownership of the shares owned by the WHR
Fund. Does not include 134,763 shares owned by the Employee Stock
Ownership Plan and Trust of KCP Holding Company and Subsidiaries
("ESOP"). Messrs. Heffernan and Rhein are, with Mr. Story, the trustees
of the ESOP; neither Mr. Heffernan nor Mr. Rhein is a participant in the
ESOP.
(6) Includes shares underlying currently exercisable options to purchase an
aggregate of 210,000 shares of Danielson Common Stock at an exercise
price of $3.00 per share.
(7) Includes 28,184 shares of Danielson Common Stock owned by a trust, of
which Mr. Rhein serves as trustee, for the benefit of Mr. Rhein's
children. Mr. Rhein disclaims beneficial ownership of the shares of
Danielson Common Stock owned by the trust.
(8) Includes shares underlying currently exercisable options to purchase an
aggregate of 46,667 shares of Danielson Common Stock at an exercise price
of $3.63 per share.
(9) Includes 20,088 shares owned by Mentor Partnership, a partnership
controlled by Mr. Isenberg, and 28 shares owned by Mr. Isenberg's wife.
Also includes shares underlying currently exercisable options to purchase
an aggregate of 46,666 shares of Danielson Common Stock at an exercise
price of $3.63 per share.
(10) Includes 36,500 shares of Danielson Common Stock beneficially owned by
Mr. Story and an aggregate of approximately 2,472 shares owned by the
ESOP which have been allocated to Mr. Story's account; does not include
132,291 additional shares owned by the ESOP but not allocated to Mr.
Story's account. Mr. Story is a participant in the ESOP and is, together
with Messrs. Heffernan and Rhein, a trustee of the ESOP. Includes shares
underlying options to purchase an aggregate of 40,000 shares of Danielson
Common Stock at an exercise price of $6.6875 per share, which become
exercisable within the next 60 days. Does not include shares underlying
options to purchase an aggregate of 40,000 shares of Danielson Common
Stock at an exercise price of $6.6875 per share which are not currently
exercisable nor become exercisable within the next 60 days.
(11) Includes shares underlying currently exercisable options to purchase an
aggregate of 13,333 shares of Danielson Common Stock at an exercise price
of $7.00 per share. Does not include shares underlying options to
purchase an aggregate of 26,667 shares of Danielson Common Stock at an
exercise price of $7.00 per share which are not currently exercisable nor
become exercisable within the next 60 days.
129
<PAGE>
(12) Includes 100 shares of Danielson Common Stock beneficially owned by Ms.
Levey's children. Ms. Levey disclaims beneficial ownership of the shares
of Danielson Common Stock owned by her children. Includes shares
underlying options to purchase an aggregate of 7,500 shares of Danielson
Common Stock at an exercise price of $6.6875 per share, which become
exercisable within the next 60 days. Does not include shares underlying
options to purchase an aggregate of 7,500 shares of Danielson Common
Stock at an exercise price of $6.6875 per share which are not currently
exercisable nor become exercisable within the next 60 days.
(13) Includes shares underlying options to purchase an aggregate of 1,500
shares of Danielson Common Stock at an exercise price of $6.6875 per
share, which become exercisable within the next 60 days. Does not include
shares underlying options to purchase an aggregate of 1,500 shares of
Danielson Common Stock at an exercise price of $6.6875 per share which
are not currently exercisable nor become exercisable within the next 60
days.
(14) In calculating the shares owned by officers and directors as a group, the
1,054,996 shares of Danielson Common Stock owned by WHR Fund referred to
in footnote 5 above and included in the beneficial ownership amounts of
each of Messrs. Whitman, Heffernan and Rhein reflected in the table above
are counted only once in order to avoid a misleading total. In
calculating the percentage of shares owned by officers and directors as a
group, the shares of Danielson Common Stock underlying all options which
are beneficially owned by officers and directors and which are currently
exercisable or become exercisable within the next 60 days are deemed
outstanding.
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Section 16(a) of the Exchange Act requires Danielson's directors and
executive officers, and persons who own more than 10% of a registered class of
Danielson's equity securities, to file with the SEC and the AMEX initial
reports of ownership and reports of changes in ownership of Danielson Common
Stock and other equity securities of Danielson. Officers, directors and
greater than 10% stockholders are required by federal securities regulations
to furnish Danielson with copies of all Section 16(a) forms they file.
To Danielson's knowledge, based solely upon review of the copies of such
reports furnished to Danielson and written representations that no other
reports were required, except for one Form 3 and one Form 4 with respect to
Ms. Cosenza (involving one transaction) and one Form 3 with respect to Mr.
Sellers (not involving any transaction), all Section 16(a) filing requirements
applicable to Danielson's officers, directors and greater than 10% beneficial
owners were complied with for the fiscal year ended December 31, 1995.
ELECTION OF DANIELSON DIRECTORS
A board of nine directors will be elected at the Danielson Meeting by the
holders of Danielson Common Stock, to hold office until their successors have
been elected and qualified. It is intended that, unless authorization to do so
is withheld, the proxies will be voted "FOR" the election of the director
nominees named below, each of whom, except Mr. Loyd, currently is a director
of Danielson. Each nominee has consented to be named in this Joint Proxy
Statement/Prospectus and to serve as a director if elected. However, if any
nominee shall become unable to stand for election as a director at the
Danielson Meeting, an event not now anticipated by the Danielson Board, the
proxy will be voted for a substitute designated by the Danielson Board or, if
no substitute is selected by the Danielson Board prior to or at the Danielson
Meeting, for a motion to reduce the membership of the Danielson Board to the
number of nominees available. In the event that additional persons are
nominated for election as directors and a stockholder elects to vote shares
cumulatively, the proxy holders intend to vote all proxies received by them in
such a manner in accordance with cumulative voting as will assure the election
of as many of the nominees listed below as possible, with any required
selection among such nominees to be determined by the proxy holders.
The nominees are listed on the following pages with brief statements of
their principal occupation and other information. A listing of the nominees'
beneficial ownership of Danielson Common Stock appears on the preceding pages
under "PRINCIPAL STOCKHOLDERS." All of the nominees for director, with the
exception of Mr. Loyd, were elected to their present terms as directors by the
stockholders at the Annual Meeting of Stockholders of Danielson held on April
25, 1995. Mr. Loyd is proposed to be elected to serve in the existing vacancy
on the Danielson Board. The information concerning the nominees and their
security holdings has been furnished by such nominees to Danielson.
130
<PAGE>
THE DANIELSON BOARD UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS VOTE "FOR"
THE NOMINEES LISTED BELOW:
<TABLE>
<CAPTION>
DIRECTOR
NOMINEE AGE PRINCIPAL OCCUPATION SINCE
------- --- -------------------- --------
<S> <C> <C> <C>
Martin J. Whitman 71 Chairman of the Danielson Board and 1990
Chief
Investment Officer of Danielson;
Managing
Director of Whitman Heffernan Rhein &
Co., Inc.
C. Kirk Rhein, Jr. 43 Chief Executive Officer and President of 1990
Danielson; Managing Director of Whitman
Heffernan Rhein & Co., Inc.
James P. Heffernan 50 Chief Financial Officer of Danielson; 1990
Managing Director of Whitman Heffernan
Rhein & Co., Inc.
Eugene M. Isenberg 66 Chairman of the Board and Chief 1990
Executive Officer of Nabors Industries,
Inc.
Joseph F. Porrino 51 Executive Vice President of the New 1990
School for Social Research
Frank B. Ryan 59 Professor of Mathematics and 1990
Computational and Applied Mathematics at
Rice University
William R. Story 51 President and Chief Executive Officer of 1990
KCP Holding Company and National
American Insurance Company of California
Wallace O. Sellers 66 Director of Enhance Financial Services 1995
Group, Inc.
Paul B. Loyd, Jr. 50 Chairman, President and Chief Executive --
Officer of Reading & Bates Corporation
</TABLE>
The term of office of each person elected as a director will continue until
the next Annual Meeting of Stockholders or until his successor has been
elected. There is no family relationship between any nominee for election as a
director and any other nominee for election as a director or executive officer
of Danielson.
Mr. Whitman, Chairman of the Danielson Board, Chief Investment Officer and a
director of Danielson, is a Managing Director of Whitman Heffernan Rhein &
Co., Inc. ("WHR"), an investment and financial advisory firm which he founded
with Messrs. Heffernan and Rhein during the first quarter of 1987. Since 1974,
Mr. Whitman has been the President and controlling stockholder of M.J. Whitman
& Co., Inc. (now known as Martin J. Whitman & Co., Inc.) ("MJW&Co") which,
until August 1991, was a registered broker-dealer. From August 1994 to
December 1994, Mr. Whitman served as the Managing Director of M.J. Whitman,
L.P. ("MJWLP"), then a registered broker-dealer which succeeded to the broker-
dealer business of MJW&Co. Since January 1995, Mr. Whitman has served as the
Chairman and Chief Executive Officer (and, until June 1995, as President) of
M.J. Whitman, Inc. ("MJW"), which succeeded at that time to MJWLP's broker-
dealer business. Also since January 1995, Mr. Whitman has served as the
Chairman and Chief Executive Officer of M.J. Whitman Holding Corp. ("MJWHC"),
the parent of MJW and other affiliates. Since March 1990, Mr. Whitman has been
the Chairman of the Board, Chief Executive Officer and a director (and, since
January 1991, the President) of Third Avenue Value Fund, Inc. ("TAVF"), an
investment company registered under the Investment Company Act of 1940. Until
April 1994, Mr. Whitman also served as the Chairman of the Board, Chief
Executive Officer and a director of Equity Strategies Fund, Inc., previously a
registered investment company. Since March 1991, Mr. Whitman has served as a
director of Nabors Industries, Inc., a publicly-traded company. From March
1993 through February 1996, Mr. Whitman served as a director of Herman's
Sporting Goods, Inc., a retail sporting goods chain, which filed a voluntary
petition under Chapter 11 of the Untied States Bankruptcy Code on April 26,
1996 ("HSG"). Mr. Whitman also serves as a director of Danielson's
subsidiaries, including National
131
<PAGE>
American Insurance Company of California ("NAICC"), KCP Holding Company
("KCP") and Danielson Trust. Mr. Whitman co-authored the book The Aggressive
Conservative Investor. Mr. Whitman is a Distinguished Faculty Fellow in
Finance at the Yale University School of Management. Mr. Whitman graduated
from Syracuse University magna cum laude in 1949 with a Bachelor of Science
degree and received his Masters degree in Economics from the New School for
Social Research in 1956. Mr. Whitman is a Chartered Financial Analyst.
Mr. Rhein is President, Chief Executive Officer and a director of Danielson.
He also is a Managing Director of WHR and was, prior to April 1987, a partner
in the law firm of Anderson Kill Olick & Oshinsky, P.C. Mr. Rhein specialized
in corporate transactions and securities law during his law practice. Since
March 1991, Mr. Rhein has served as a director and, from May 1991 to May 1996,
as Vice Chairman of Reading & Bates Corporation, a publicly-traded company
listed on the NYSE. Since March 1993, Mr. Rhein has served as a director of
HSG. Mr. Rhein also serves as a director of Danielson's subsidiaries,
including NAICC, KCP and Danielson Trust. Mr. Rhein graduated from the College
of Wooster with a Bachelor of Arts degree in 1974. In 1976, Mr. Rhein received
his Juris Doctor degree from Columbia University School of Law.
Mr. Heffernan is Chief Financial Officer and a director of Danielson. From
1990 through March 1996, Mr. Heffernan served as Chief Operating Officer of
Danielson. He also is a Managing Director of WHR. Prior to April 1987, he was
a partner of Anderson Kill Olick & Oshinsky, P.C. During his law practice, Mr.
Heffernan concentrated in the area of bankruptcy law and reorganizations.
Since May 1993, Mr. Heffernan has served as a director of The Columbia Gas
System, Inc., a publicly-traded company listed on the NYSE. Since March 1993,
Mr. Heffernan has served as a director, and since February 1995 as Chairman,
of HSG. Mr. Heffernan also serves as a director of Danielson's subsidiaries,
including NAICC, KCP and Danielson Trust. Mr. Heffernan graduated with a
Bachelor of Arts degree from LeMoyne College in 1967 and received his Juris
Doctor degree from Fordham University Law School in 1970.
Mr. Isenberg, since 1987, has been Chairman and Chief Executive Officer of
Nabors Industries, Inc., a publicly-traded oil and gas drilling company listed
on the AMEX. Beginning in 1996, Mr. Isenberg commenced his term as a Governor
of the AMEX. From 1983 to 1986, Mr. Isenberg served as co-Chief Executive
Officer of Northstar Tubular Corp., a trader in oil county tubular goods. From
1969 to 1982, Mr. Isenberg was Chairman of the Board and principal stockholder
of Genimar Inc., a steel trading and building products manufacturing company.
From 1955 to 1968, Mr. Isenberg was employed in various management capacities
with the Exxon Corp. Mr. Isenberg graduated from the University of
Massachusetts magna cum laude in 1950 with a Bachelor of Arts degree in
Economics and from Princeton University in 1952 with a Masters degree in
Economics.
Mr. Porrino has been Executive Vice President of the New School for Social
Research since September 1991. Prior to that time, Mr. Porrino was a partner
in the New York law firm of Putney, Twombly, Hall & Hirson, concentrating his
practice in the area of labor law. Mr. Porrino received a Bachelor of Arts
degree from Bowdoin College in 1966, and was awarded a Juris Doctor degree
from Fordham University School of Law in 1970.
Dr. Ryan, since August 1990, has been a Professor of Mathematics and
Computational and Applied Mathematics at Rice University. Since March 1996,
Dr. Ryan has served as a director of Sequoia Systems, Inc., a computer systems
company, the capital stock of which is traded on NASDAQ. Since March 1995, Dr.
Ryan has served as a director of America West Airlines, Inc., a publicly-
traded company listed on the NYSE. From August 1990 to February 1995, Dr. Ryan
also served as Vice President--External Affairs at Rice University. For two
years ending August 1990, Dr. Ryan was the President and Chief Executive
Officer of Contex Electronics Inc., a subsidiary of Buffton Corporation, the
capital stock of which is publicly traded on the AMEX. Prior to that, and
beginning in 1977, Dr. Ryan was a Lecturer in Mathematics at Yale University,
where he was also the Associate Vice President in charge of institutional
planning. Dr. Ryan obtained a Bachelor of Arts degree in Physics in 1958 from
Rice University, a Masters degree in Mathematics from Rice in 1961, and a
Doctorate in Mathematics from Rice in 1965.
132
<PAGE>
Mr. Story, since September 1991, has been President and Chief Executive
Officer of NAICC and KCP. Prior to that time, Mr. Story was President and
Chief Operating Officer of NAICC, with which he has been employed since 1987.
Before that time, Mr. Story held underwriting and executive positions with
Mission American Insurance Company, Prudential Reinsurance Company, and The
Hartford. Mr. Story has been a member of the Board of Directors of the
Association of California Insurance Companies ("ACIC") since 1990. Mr. Story
is currently Vice Chairman and Chairman-elect of the ACIC and will being
serving as Chairman for a two-year term in October 1996. Mr. Story has served
on the governing committee of the California WCIRB since March 1994. Mr. Story
also is a member of the Board of Directors and Executive Committee of the
California Workers' Compensation Institute. Mr. Story also serves as a
director of KCP, NAICC and Danielson Trust. Mr. Story received a Bachelor of
Arts degree in Business from the University of Northern Iowa in 1968 and holds
the designations of Chartered Property and Casualty Underwriter, and Associate
in Risk Management (IIA).
Mr. Sellers is a director of Enhance Financial Group, Inc. ("Enhance
Group"), a financial services corporation the capital stock of which is
publicly traded on the NYSE. Until December 31, 1994, Mr. Sellers was the
President and Chief Executive Officer of Enhance Group, from its inception in
1986, as well as its principal subsidiaries, Enhance Reinsurance Company and
Asset Guaranty Insurance Company, from their inceptions in 1986 and 1988,
respectively. From 1987 to 1994, Mr. Sellers served as a director, and from
1992 to 1993 as the Chairman, of the Association of Financial Guaranty
Insurors in New York. From 1990 through 1994, Mr. Sellers served on the Board
of Directors of EIC Corporation Ltd. and Exporters Insurance Company Ltd.,
both of Bermuda. Mr. Sellers was a director and, in 1990, Chairman, of the
Foreign Credit Insurance Association from 1990 through 1994. From 1990 through
1994, Mr. Sellers was a director of Van-American Insurance Company in
Lexington, Kentucky. From 1982 through 1991, Mr. Sellers was a member of the
Board of Directors of Financial News Network in Santa Monica, California. From
1985 through 1990, Mr. Sellers was a director of Intex Holdings (Bermuda)
Limited. Mr. Sellers served on the Board of Directors of The Learning Channel
in Washington, DC. Mr. Sellers received a Bachelor of Arts degree in
Economics, Anthropology and Archaeology from the University of New Mexico in
1951 and a Masters degree in Economics from New York University ("NYU") in
1956. Mr. Sellers also is a Doctoral candidate at the NYU Graduate School of
Business Administration. Mr. Sellers attended the Advanced Management Program
at Harvard University in 1975. Mr. Sellers is a Chartered Financial Analyst.
Mr. Loyd, since June 1991, has served as Chairman and Chief Executive
Officer of Reading & Bates Corporation ("R&B"), since April 1991 as a director
of R&B and, since October 1993 as President of R&B. Mr. Loyd has been
President of Loyd & Associates, Inc., a financial consulting firm, since 1989.
From 1987 to 1989, Mr. Loyd was Chief Executive Officer and a director of
Chiles-Alexander International, Inc. From 1984 to 1987, Mr. Loyd served as
President and a director of Griffin Alexander Drilling Company, and prior to
that time, a director and Chief Financial Officer of Houston Offshore
International, all of which are companies in the offshore drilling industry.
Mr. Loyd received a Bachelor of Arts degree from Southern Methodist University
in 1968 and a Masters of Business Administration from the Harvard Graduate
School of Business in 1975.
COMMITTEES
The Danielson Board has an Audit Committee, a Compensation Committee, an
Executive Committee, and a Review Committee. The Danielson Board does not have
a nominating committee or a committee performing the functions of a nominating
committee.
The Audit Committee consists of directors Porrino, Ryan and Story. The Audit
Committee held two meetings in 1995. The Audit Committee is primarily
responsible for reviewing and evaluating Danielson's accounting principles and
its system of internal accounting controls. The Audit Committee also
recommends engagement of Danielson's independent public accountants.
The Compensation Committee consists of directors Porrino, Ryan and Sellers.
The Compensation Committee held two meetings in 1995. The Compensation
Committee reviews, and makes recommendations to the Danielson Board
concerning, Danielson's executive compensation policy.
133
<PAGE>
The Executive Committee consists of directors Heffernan, Rhein and Whitman,
and held no meetings in 1995. The Executive Committee has the authority to
conduct the business affairs of Danielson, subject to Danielson's Bylaws and
applicable law.
The Review Committee, which consists of directors Porrino, Ryan and Story,
reviews and determines potential conflicts of interest relative to investment
opportunities. The Review Committee held no meetings in 1995.
COMPENSATION OF DIRECTORS
During 1995, each director who was not an officer or employee of Danielson
or its subsidiaries received compensation of $2,500 for each Danielson Board
meeting attended, whether in person or by telephone. For attendance at
Danielson Board meetings during 1995, each of Mr. Porrino and Dr. Ryan
received $10,000, and each of Messrs. Isenberg and Sellers received $7,500,
plus, in each case, reimbursement of reasonable expenses. Directors who are
officers or employees of Danielson or its subsidiaries receive no fees for
service on the Danielson Board. No attendance fee is paid to any directors
with respect to any committee meetings. Each of Mr. Porrino and Dr. Ryan owns
options to purchase 44,667 shares of Danielson Common Stock, and Mr. Isenberg
owns options to purchase 46,666 shares of Danielson Common Stock, in each case
at an exercise price of $3.63 per share (the arithmetic average of the closing
prices of Danielson Common Stock on the AMEX for the 30 days prior to the date
of grant, September 16, 1991). Mr. Sellers owns options to purchase 40,000
shares of Danielson Common Stock at an exercise price of $7.00 per share (the
mean of the high and low prices of Danielson Common Stock on the AMEX on the
date of grant, April 25, 1995). All of these options expire ten years after
the date of grant and became exercisable in three equal annual installments
commencing on the first anniversary of the date of grant and on each of the
next two anniversaries thereafter. All of the options held by Messrs. Porrino
and Isenberg and Dr. Ryan are currently exercisable. None of such directors
has exercised any options to date. None of the options held by Mr. Sellers is
currently exercisable, however, one-third of such options (13,333) becomes
exercisable within 60 days. For additional information regarding the stock
options granted by Danielson, see "EXECUTIVE COMPENSATION--1990 Stock Option
Plan" and "EXECUTIVE COMPENSATION--1995 Stock and Incentive Plan" below.
ATTENDANCE AT DANIELSON BOARD MEETINGS
The Danielson Board held four meetings during 1995. No Danielson director
attended less than 75% of the aggregate number of meetings of the Danielson
Board held during the period for which he was a director during 1995 and all
committees of the Danielson Board on which he served during the period that he
served during 1995.
EXECUTIVE OFFICERS
The following table provides information as of June 24, 1996 regarding the
executive officers of Danielson:
<TABLE>
<CAPTION>
NAME AGE PRINCIPAL POSITION WITH DANIELSON
---- --- ---------------------------------
<S> <C> <C>
Martin J. Whitman 71 Chairman of the Board, Chief Investment
Officer and a Director
C. Kirk Rhein, Jr. 43 President, Chief Executive Officer and a
Director
James P. Heffernan 50 Chief Financial Officer and a Director
Claudia C. Cosenza 32 Controller
Lisa D. Levey 40 General Counsel and Secretary
</TABLE>
For additional information about Messrs. Whitman, Heffernan and Rhein, see
"ELECTION OF DIRECTORS" above.
134
<PAGE>
Ms. Levey has been the General Counsel and Secretary of Danielson since
January 1991. Ms. Levey also has served as Secretary of Danielson Trust and
HSG since March 1993, Assistant Secretary of NAICC since 1992, and Secretary
of WHR since 1991. Prior to January 1991, Ms. Levey was a partner with the law
firm of Anderson Kill Olick & Oshinsky, P.C. specializing in commercial
transactions. Ms. Levey graduated magna cum laude with a Bachelor of Arts
degree from the University of Pennsylvania in 1978 and received her Juris
Doctor degree from New York University School of Law in 1981.
Ms. Cosenza has been Controller of Danielson since April 1992. Prior to that
time, Ms. Cosenza was a Senior Accountant with Danielson. In addition, since
June 1990, Ms. Cosenza has served as Controller of Martin J. Whitman & Co.,
Inc. (which formerly was known as MJW&Co.) and various affiliated entities.
From June 1990 through 1993, Ms. Cosenza also served as Controller of MJWLP.
Ms. Cosenza graduated from Adelphi University in 1985 with a Bachelor of
Business Administration degree in Accounting. Ms. Cosenza is a Certified
Public Accountant.
EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following Summary Compensation Table presents certain information
relating to compensation paid by Danielson for services rendered in 1995 by
the Chief Executive Officer and the three other executive officers of
Danielson as of the last day of the fiscal year whose cash compensation for
such year exceeded $100,000. Only those columns which call for information
applicable to Danielson or the individuals named for the periods indicated
have been included in such table.
<TABLE>
<CAPTION>
LONG TERM
ANNUAL COMPENSATION COMPENSATION
--------------------- ------------
AWARDS
------------
SECURITIES
UNDERLYING
SALARYA BONUSB OPTIONS
NAME AND PRINCIPAL POSITION YEAR ($) ($) (#)
- --------------------------- ---- ---------- ---------- ------------
<S> <C> <C> <C> <C>
C. KIRK RHEIN, JR. .................... 1995 $200,000 -0- -0-
President & Chief Executive Officer 1994 $ 75,000 -0- -0-
1993 $ 75,000 $100,000 -0-
MARTIN J. WHITMAN...................... 1995 $200,000 -0- -0-
Chairman of the Board & Chief 1994 $ 75,000 -0- -0-
Investment Officer 1993 $ 75,000 $100,000 -0-
JAMES P. HEFFERNAN..................... 1995 $200,000 -0- -0-
Chief Financial Officer 1994 $ 75,000 -0- -0-
1993 $ 75,000 $100,000 -0-
LISA D. LEVEY.......................... 1995 $ 158,675c $100,000c -0-
General Counsel & Secretary 1994 $125,175c $100,000c -0-
1993 $131,325c $100,000c -0-
</TABLE>
For information regarding compensation paid during 1995 by NAICC to Mr.
Story, who is a member of the Danielson Board and nominee for re-election at
the Danielson Meeting, see "CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS"
below.
- --------
a Amounts shown indicate cash compensation earned and received by executive
officers in the year shown. Executive officers also participate in
Danielson group health insurance.
b Amounts shown indicate bonuses earned, if any, with respect to services to
Danielson in the fiscal year shown whether or not paid in such fiscal year.
c Amounts shown reflect portion of compensation allocated to Danielson based
upon percentage of time spent in connection with Danielson matters.
135
<PAGE>
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year-End Option
Values
The following table presents certain information relating to the value of
unexercised stock options as of the end of 1995, on an aggregated basis, owned
by the Chief Executive Officer and the three other executive officers of
Danielson as of the last day of the fiscal year whose cash compensation for
such year exceeded $100,000. None of such officers who owned options to
purchase Danielson Common Stock during 1995 exercised any of such options
during 1995. Only those tabular columns which call for information applicable
to Danielson or the named individuals have been included in such table.
<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS
OPTIONS AT FISCAL YEAR-END AT FISCAL YEAR-END
(#) ($)
--------------------------- ---------------------------
NAME EXERCISABLE TUNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ----------- -------------- ----------- -------------
<S> <C> <C> <C> <C>
C. KIRK RHEIN, JR....... 210,000/1/ -0- $787,500/2/ -0-
President & Chief
Executive Officer
MARTIN J. WHITMAN....... 210,000/1/ -0- $787,500/2/ -0-
Chairman of the Board &
Chief Investment Officer
JAMES P. HEFFERNAN...... 210,000/1/ -0- $787,500/2/ -0-
Chief Financial Officer
LISA D. LEVEY........... -0- -0- -0- -0-
General Counsel &
Secretary
</TABLE>
- --------
(1) As previously disclosed, these options were granted March 13, 1991 under
the 1990 Stock Option Plan and are currently exercisable at an exercise
price of $3.00 per share (which equals the arithmetic average of the
closing prices of Danielson Common Stock on the AMEX for the 30 days prior
to the date of grant). The options expire ten years after the date of
grant. Options to purchase 70,000 shares of Danielson Common Stock became
exercisable on each of March 31, 1992, March 13, 1993 and March 13, 1994.
(2) The value of unexercised in-the-money options, whether or not exercisable,
equals the difference between the fair market value of such options at
fiscal year-end (i.e., the closing price of Danielson Common Stock on the
AMEX on December 31, 1995, namely, $6.75) and the exercise price of such
options (i.e., the arithmetic average of the closing prices of Danielson
Common Stock on the AMEX for the 30 days prior to the date of grant, March
13, 1990, namely, $3.00).
Compensation Committee Interlocks and Insider Participation
During 1995, none of the persons who served as members of the Compensation
Committee of Danielson's Board also was, during that year or previously, an
officer or employee of Danielson or any of its subsidiaries or had any other
relationship requiring disclosure herein.
Danielson Board Compensation Committee Report on Executive Compensation
The Compensation Committee of the Danielson Board (the "Committee"), during
1995, was comprised of three independent (i.e., non-employee) directors. The
Committee provided the following report on executive compensation during 1995
as required by applicable securities regulations:
"The Committee's goal continues to be to structure compensation in a way
that will attract and retain highly qualified executives who will conduct the
business of Danielson in a manner that will maximize stockholder values.
Toward that end, the Committee seeks to reward effective executive performance
with reference to Danielson's achievements, and each individual executive's
contribution to those successes, each year.
Danielson does not require its officers to own any amount of Danielson
Common Stock, nor does Danielson maintain a stock retention policy for
officers. However, it is the Committee's belief that the substantial voluntary
stock ownership position of Danielson's executive officers is an extremely
strong indication of the alignment of its officers' interest with that of
Danielson's stockholders.
136
<PAGE>
For the first time since the inception of Danielson's operations in August
1990, the annual base salary of each of C. Kirk Rhein, Jr., the Chief
Executive Officer of Danielson, Martin J. Whitman, the Chairman of the
Danielson Board and Chief Investment Officer of Danielson, and James P.
Heffernan, the Chief Financial Officer of Danielson, was raised, from its
prior level of $75,000 to $200,000. As the Committee has noted in prior
Reports, the historic reason for setting and maintaining low cash compensation
has been those executives' collective desire not to take significant cash out
of Danielson in the form of executive compensation at the very early stages of
Danielson's development. However, the Committee believed it was necessary to
acknowledge in a tangible manner these executives' unstinting efforts on
Danielson's behalf over its first five years of operations and, therefore, the
Committee increased those individuals' base salary.
The three executives' primary goal in 1995 was to identify a suitable
acquisition candidate for Danielson. To accomplish this objective, Messrs.
Rhein, Whitman and Heffernan devoted a substantial portion of their time
evaluating numerous potential strategic opportunities--reviewing materials,
following up introductions, meeting with candidates' management. At the time
of this writing, their efforts appear to have been worthwhile, in light of
Danielson's public announcement of its February 26, 1996 agreement to acquire
Midland in a merger transaction. The Committee is confident that Danielson's
executive management will direct all of their abilities towards consummation
of the transaction, including a public offering of Danielson's Common Stock to
raise the cash portion of the purchase price, as well as the capital
contribution to be made to Midland at closing. Notwithstanding their apparent
success in achieving their 1995 corporate objective, Messrs. Rhein, Whitman
and Heffernan felt it would be premature to accept any bonus or other
compensation for 1995 beyond their base salary described above. The Committee
notes that there are no employment contracts between Danielson and any of its
executive officers.
The Committee recommended an increase in the 1995 base salary of Lisa D.
Levey, Danielson's General Counsel and Secretary, from $150,000 to $175,000.
This was the first change in Ms. Levey's base salary since she joined
Danielson in 1991. The base compensation of $158,675 paid to Ms. Levey in 1995
reflects Danielson's allocated portion of her total base salary amount, based
upon the percentage of Ms. Levey's time actually devoted to Danielson matters.
In addition to base salary, pursuant to the Committee's recommendation,
Danielson paid a $100,000 cash bonus to Ms. Levey with respect to 1995. In
arriving at the bonus amount, the Committee reviewed Ms. Levey's overall
performance as well as her achievement of specific goals identified jointly by
Danielson's executive management and Ms. Levey early in 1995. As part of this
evaluation, the Committee considered a variety of Ms. Levey's accomplishments
in 1995, including the development of Danielson's 1995 Stock and Incentive
Plan (the "1995 Plan") adopted at the last annual meeting of stockholders, and
her involvement in a variety of legal matters relating to Danielson Trust
Company, including in connection with its integration of the Western Trust
Services assets acquired in 1994, as well as with respect to the sale of its
Santa Barbara branch to The Bank of Montecito which closed in January 1996.
Ms. Levey was one of the recipients of stock options granted by the Committee
in January 1996 pursuant to the 1995 Plan, noted below.
During 1995, the Committee did not make any stock-based compensation grants
under the 1995 Plan. However, in keeping with the Committee's view, shared by
management of Danielson, of the value of non-cash compensation both to
motivate performance and reward the creation of long term stockholder value,
on January 15, 1996, the Committee granted an aggregate of 158,900 options
under the 1995 Plan to certain executives and employees of Danielson (other
than Messrs. Rhein, Whitman and Heffernan) and its subsidiaries, NAICC and
Danielson Trust. The exercise price of such options is $6.6875 (the mean of
the high and low prices of Danielson Common Stock on the AMEX on the date of
grant). These awards will be described in detail in the 1996 Committee Report.
The Committee also notes that, in accordance with the terms of the 1995 Plan,
Wallace O. Sellers received an automatic grant of 40,000 options upon his
election as a director of Danielson at the last annual meeting of stockholders
on April 25, 1995.
The Committee does not rely upon quantitative measures or other measurable
objective indicia, such as earnings or specifically weighted factors or
compensation formulae, in reaching compensation determinations. Rather, since
Danielson at the parent-company level is simply a holding company operation
having only a small group of executives responsible for numerous and diverse
areas of Danielson's business and management, and
137
<PAGE>
given the high level of awareness each executive has of the others' activities
and contributions, the Committee evaluates executive performance and reaches
compensation decisions based, in part, upon the recommendations of Danielson's
executives. The Committee also reviews quantitative and comparative
compensation data and, in some instances, analyses provided by an independent
consulting firm to assist it in reaching its compensation determinations.
Finally, the Committee notes that Section 162(m) of the Internal Revenue
Code, in most circumstances, limits to $1 million the deductibility of
compensation, including stock-based compensation, paid to top executives by
public companies. None of the 1995 compensation paid to the executive officers
named in the Summary Compensation Table exceeded the threshold for
deductibility under Section 162(m). See "EXECUTIVE COMPENSATION--Summary
Compensation Table" above. There were no awards under the 1995 Plan during
1995. However, the 1995 Plan is intended to comply with Section 162(m) and,
therefore, awards under that Plan are anticipated to qualify for the corporate
tax deduction."
THE COMPENSATION COMMITTEE:
Joseph F. Porrino
Frank B. Ryan
Wallace O. Sellers
138
<PAGE>
Performance Graph
The following graph sets forth a comparison of the semiannual percentage
change in Danielson's cumulative total stockholder return on Danielson Common
Stock with the Standard & Poor's 500 Stock Index* and the AMEX Industrial
(Financial) Index.** The foregoing cumulative total returns are computed
assuming (i) an initial investment of $100, and (ii) the reinvestment of
dividends at the frequency with which dividends were paid during the applicable
years. Danielson has never paid any dividend on shares of Danielson Common
Stock. The graph below reflects comparative information for the five fiscal
years of Danielson beginning with the close of trading on December 31, 1990 and
ending December 29, 1995. The foregoing information is presented in tabular
format immediately following the graphic presentation. The stockholder return
reflected below is not necessarily indicative of future performance.
[GRAPH APPEARS HERE]
- --------
* The Standard & Poor's 500 Stock Index is a capitalization-weighted index of
500 stocks designed to measure performance of the broad domestic economy
through changes in the aggregate market value of 500 stocks representing all
major industries.
** The AMEX Industrial (Financial) Index ("AIFI") is maintained by the AMEX. As
described by the AMEX, the AIFI is one of eight industrial subindexes of the
AMEX Market Value Index, which is a capitalization-weighted index reflecting
the performance of AMEX-traded common shares, American Depositary Receipts
and warrants.
<TABLE>
<CAPTION>
DANIELSON HOLDING AMEX FINANCIAL STANDARD & POOR'S 500
(DATE) CORPORATION SUB-INDEX STOCK INDEX
------ ----------------- -------------- ---------------------
<S> <C> <C> <C>
12/31/90............. $100.00 $100.00 $100.00
06/30/91............. 137.50 122.06 112.40
12/31/91............. 129.17 127.19 126.31
06/30/92............. 95.83 131.16 123.60
12/31/92............. 120.83 142.51 131.95
06/30/93............. 220.83 146.05 136.43
12/31/93............. 275.00 153.14 141.25
06/30/94............. 220.83 150.60 134.54
12/31/94............. 254.17 138.73 139.08
06/30/95............. 262.50 158.25 164.97
12/31/95............. 229.17 181.26 186.52
</TABLE>
139
<PAGE>
1990 Stock Option Plan
The 1990 Stock Option Plan (the "1990 Plan") of Danielson is a non-qualified
stock option plan which is intended to attract, retain and provide incentives
to key employees of Danielson by offering them an opportunity to acquire or
increase a proprietary interest in Danielson. Options under the 1990 Plan may
be granted to existing officers or employees of Danielson for, in the
aggregate, the purchase of up to 1,260,000 shares of Danielson Common Stock
(all subject to adjustment in connection with events affecting the
capitalization of Danielson). No options were granted under the 1990 Plan
during 1990. On March 13, 1991, options to purchase 210,000 shares were
granted to each of Messrs. Whitman, Heffernan and Rhein, all of whom are
directors and officers of Danielson. The exercise price for all options
granted on March 13, 1991 is $3.00 per share, the arithmetic average of the
closing prices of Danielson Common Stock on the AMEX for the 30 days prior to
the date of grant. The options expire ten years after the date of grant and
became exercisable in equal annual installments commencing on the first
anniversary thereof and on each of the next two anniversaries thereafter. An
additional 630,000 options were granted outside the 1990 Plan as of that date
to Junkyard Partners, L.P. ("Junkyard Partners"), upon the same terms as those
granted on that date under the 1990 Plan. After giving effect to the options
granted outside the 1990 Plan to Junkyard Partners (and excluding options
granted to non-employee directors, described below), Danielson has issued
options to purchase 1,260,000 shares of Danielson Common Stock, the total
number of options which may be granted under the 1990 Plan. In order to
prevent additional dilution, the Compensation Committee of the Board of
Directors of Danielson (the "Committee"), on September 16, 1991, resolved that
it intends to refrain from granting any additional options under the 1990 Plan
in excess of the 630,000 options currently outstanding under the 1990 Plan.
During 1994, Junkyard Partners transferred 257,910 of its 630,000 options to
one of its limited partners. On December 29, 1994, Danielson issued 257,910
restricted shares of Danielson Common Stock upon the exercise of such
transferred options. In connection therewith, Danielson received a total
exercise price of $773,730. Effective May 19, 1995, Danielson purchased 69,453
of the remaining 372,090 options to purchase Danielson Common Stock owned by
Junkyard Partners. The options were exercisable at the time of such purchase
and otherwise would have expired on March 13, 2001. The aggregate purchase
price paid by Danielson for the options was approximately $286,500, which was
equal to the difference between the closing price of Danielson Common Stock on
May 19, 1995 ($7.125 per share) the effective date of such purchase, and the
exercise price of such options ($3.00 per share), or $4.125 per share. As of
December 31, 1995, Junkyard Partners continued to own 302,637 options to
purchase shares of Danielson Common Stock, and Messrs. Whitman, Heffernan and
Rhein continued to own their options, all of which are currently exercisable.
Danielson also was authorized by the terms of its Plan of Reorganization to
grant to non-employee directors of Danielson, outside the 1990 Plan, options
to purchase 140,000 shares of Danielson Common Stock (subject to adjustment in
events affecting the capitalization of Danielson). On September 16, 1991,
Danielson granted to each of Mr. Porrino and Dr. Ryan, both of whom are
unaffiliated directors of Danielson, options to purchase 46,667 shares of
Danielson Common Stock and granted to Mr. Isenberg, also an unaffiliated
director of Danielson, options to purchase 46,666 shares of Danielson Common
Stock. See "PRINCIPAL DANIELSON STOCKHOLDERS." The exercise price of all such
options is $3.63 per share, the arithmetic average of the closing prices of
Danielson Common Stock on the AMEX for the 30 days prior to the date of grant.
These options expire ten years after the date of grant and became exercisable
in three equal annual installments commencing on the first anniversary of the
date of grant and on each of the next two anniversaries thereafter. As of
December 31, 1995, all of the options granted outside the 1990 Plan, all of
which are currently exercisable, remained unexercised.
1995 Stock and Incentive Plan
The 1995 Plan is a qualified plan which provides for the grant of any or all
of the following types of awards: stock options, including incentive stock
options and non-qualified stock options; stock appreciation rights, whether in
tandem with stock options or freestanding; restricted stock; incentive awards;
and performance awards. The purpose of the 1995 Plan is to enable Danielson to
provide incentives to increase the personal financial identification of key
personnel with the long term growth of Danielson and the interests of
Danielson's
140
<PAGE>
stockholders through the ownership and performance of Danielson Common Stock,
to enhance Danielson's ability to retain key personnel, and to attract
outstanding prospective employees and directors.
The 1995 Plan became effective as of March 21, 1995. No incentive stock
options may be granted under the 1995 Plan after March 21, 2005. The 1995 Plan
will remain in effect until all awards have been satisfied or expired. The
1995 Plan is administered by the Committee. The aggregate number of shares of
Danielson Common Stock which may be issued under the 1995 Plan, or as to which
stock appreciation rights or other awards may be granted, may not exceed 1.7
million of which a maximum of 1.5 million shares relate to awards to eligible
individuals (including employee directors) and a maximum of 200,000 shares may
relate to awards to non-employee directors (all subject to adjustment in the
event of stock dividends, stock splits, reorganizations, mergers, and other
events affecting the capitalization of Danielson, and subject to acceleration
in the event of changes in control or ownership of Danielson). The maximum
number of shares of Danielson Common Stock that may be subject to options,
stock appreciation rights, restricted stock awards, performance awards or
incentive awards granted under the 1995 Plan to an individual during any
calendar year cannot exceed 125,000 shares in any calendar year (subject to
adjustment in the event of stock dividends, stock splits and certain other
events). On April 25, 1995, options to purchase 40,000 shares automatically
were granted under the 1995 Plan to Mr. Sellers upon his election as a
director of Danielson. The exercise price for such options is $7.00 per share
(the mean of the high and low prices of Danielson Common Stock on the AMEX on
the date of grant). The options expire ten years after the date of grant and
become exercisable in three equal annual installments commencing on the first
anniversary thereof and on each of the next two anniversaries thereafter. None
of the options granted to Mr. Sellers is currently exercisable; however,
13,333 such options become exercisable on April 25, 1996. On January 15, 1996,
options to purchase an aggregate of 158,900 shares of Danielson Common Stock
were granted under the 1995 Plan to certain officers and employees of
Danielson and its subsidiaries, NAICC and Danielson Trust. Among the
recipients of such options were Ms. Cosenza and Ms. Levey, who are officers of
Danielson, who were granted options to acquire 3,000 shares and 15,000 shares,
respectively, and Mr. Story, who is a member of the Danielson Board and
nominee for re-election at the Danielson Meeting, who received a grant of
options to acquire 80,000 shares. The exercise price for all of such options
is $6.6875 per share (the mean of the high and low prices of Danielson Common
Stock on the AMEX on the date of the grant). The options expire ten years
after the date of grant. The options become exercisable at various times,
depending upon the holder of the options. Continued employment with Danielson
or its subsidiaries is a condition to all of the January 1996 options. For
information regarding compensation paid during 1995 by NAICC to Mr. Story, see
"CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS" below.
Danielson, at the holding company level, has no incentive compensation
plans, employment agreements or other benefit plans, other than medical and
similar plans available to all employees.
141
<PAGE>
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
William R. Story, a director of Danielson and a nominee for re-election at
the Danielson Meeting, is the President and Chief Executive Officer of NAICC.
During 1995, Mr. Story received from NAICC cash compensation of $250,000, as
well as non-cash compensation in the approximate aggregate amount of $14,020
(in respect of various business-related expenses including group term life
insurance). NAICC paid a $200,000 bonus to Mr. Story in 1996 with respect to
1995 services. NAICC does not anticipate paying any other compensation or
bonus to Mr. Story or any other director or officer of Danielson in 1996 with
respect to 1995 services. In addition, NAICC in 1995 made a contribution to a
pension plan in which Mr. Story participates. The amount of such contribution
allocable to the account of Mr. Story is approximately $7,500. Further, NAICC
in 1995 made a contribution to the 401(k) plan and ESOP account of such
individual in the aggregate amount of $4,620. As noted above, in January 1996,
Mr. Story received 80,000 options to acquire Danielson Common Stock under the
1995 Plan. See "EXECUTIVE COMPENSATION--1995 Stock and Incentive Plan."
All of Danielson's officers, other than Martin J. Whitman, dedicate
substantially all of their professional efforts to the operations of
Danielson. In addition, Danielson shares certain personnel and facilities with
several affiliated and unaffiliated companies (including M.J. Whitman, Inc., a
broker-dealer of which Mr. Whitman is the Chairman and Chief Executive
Officer), and certain expenses are allocated among the various entities.
Personnel costs are allocated based upon actual time spent on Danielson
business or upon fixed percentages of compensation. Costs relating to office
space and equipment are allocated based upon fixed percentages. Inter-company
balances are reconciled and reimbursed on a monthly basis.
CONFIRMATION OF APPOINTMENT OF INDEPENDENT PUBLIC ACCOUNTANTS
Danielson has selected KPMG Peat Marwick LLP as independent certified public
accountants to audit the books and records of Danielson for the current fiscal
year and recommends that the stockholders confirm such selection. KPMG Peat
Marwick LLP served in that capacity with respect to 1995. In the event of a
negative vote, the Danielson Board will reconsider its selection. A
representative of KPMG Peat Marwick LLP is expected to be present at the
Danielson Meeting, to have the opportunity to make a statement and to respond
to appropriate questions from stockholders.
THE DANIELSON BOARD UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS VOTE "FOR"
THE CONFIRMATION OF KPMG PEAT MARWICK LLP AS DANIELSON'S AUDITORS AND
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS FOR THE CURRENT FISCAL YEAR.
LEGAL MATTERS
The validity of the shares of Danielson Common Stock and Danielson Series A
Preferred Stock to be issued in the Merger will be passed upon by Anderson
Kill Olick & Oshinsky, P.C., New York, New York, counsel for Danielson.
Michael W. Stamm, Esq., a member of Anderson Kill Olick & Oshinsky, P.C., owns
17,000 shares of Danielson Common Stock.
EXPERTS
The consolidated financial statements and related financial statement
schedules of Midland as of December 31, 1994 and 1995 and for each of the
years in the three-year period ended December 31, 1995 have been included
herein and in the Registration Statement, in reliance upon the report of KPMG
Peat Marwick LLP, independent certified public accountants, appearing
elsewhere herein, and upon the authority of said firm as experts in accounting
and auditing. The report of KPMG Peat Marwick LLP contains an explanatory
paragraph that refers to Midland's adoption of Statement of Financial
Accounting Standards No. 115 "Accounting for Certain Investments in Debt and
Equity Securities" in 1994.
142
<PAGE>
The consolidated financial statements and related financial statement
schedules of Danielson as of December 31, 1994 and 1995 and for each of the
years in the three-year period ended December 31, 1995 have been included
herein and in the Registration Statement, in reliance upon the report of KPMG
Peat Marwick LLP, independent certified public accountants, appearing
elsewhere herein, and upon the authority of said firm as experts in accounting
and auditing. The report of KPMG Peat Marwick LLP contains an explanatory
paragraph that refers to Danielson's adoption of Statement of Financial
Accounting Standards No. 121 "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed of" in 1995.
143
<PAGE>
PROPOSALS AND NOMINATIONS BY DANIELSON STOCKHOLDERS
Proposals of stockholders intended to be presented at the 1997 Annual
Meeting of Stockholders of Danielson must be received by Danielson for
inclusion in the Proxy Statement and form(s) of proxy relating to such Annual
Meeting no later than November 30, 1996. Stockholder proposals should be
directed to the attention of the Secretary of Danielson at the address of
Danielson set forth on the first page of this Joint Proxy
Statement/Prospectus. Timely receipt of a stockholder's proposal will satisfy
only one of various conditions established by the SEC for inclusion in
Danielson's proxy materials.
By Order of the Board of Directors
DANIELSON HOLDING CORPORATION
Lisa D. Levey
Secretary
By Order of the Board of Directors
MIDLAND FINANCIAL GROUP, INC.
Elena Barham
Secretary
July 5, 1996
144
<PAGE>
GLOSSARY OF SELECTED INSURANCE TERMS
<TABLE>
<C> <S>
Admitted insurer or insurance carrier...... A company licensed by a state
insurance regulatory authority
to do business as an insurer.
Assumed reinsurance........................ Insurance or reinsurance
transferred from another
insurance entity.
Cede....................................... To transfer to an insurer or a
reinsurer all or a part of the
insurance or reinsurance written
by an insurance or reinsurance
entity.
Combined ratio............................. A combination of the expense
ratio and the loss ratio. A
combined ratio below 100%
generally indicates profitable
underwriting without
consideration of investment
income. A combined ratio over
100% generally indicates
unprofitable underwriting
without consideration of
investment income.
Direct premiums written.................... Premiums on policies written by
an insurer, excluding premiums
for reinsurance assumed by an
insurer.
Expense ratio.............................. Under statutory accounting
practices ("SAP"), the ratio of
underwriting expenses to net
premiums written. Under
generally accepted accounting
principles ("GAAP"), the ratio
of underwriting expenses to
premiums earned.
Gross or net premiums earned............... The portion of gross or net
premiums written applicable to
the expired period of policies.
Gross premiums written..................... The sum of direct premiums
written and assumed reinsurance.
Incurred but not reported ("IBNR") ........ Losses estimated to have been
incurred but which are not yet
reported to the insurer.
Incurred losses............................ For a given period, the sum of
losses paid plus the change in
Insurance risks: preferred, standard, non- unpaid losses and LAE.
standard.................................. Categories of underwriting
classifications for risk
selection and pricing. The
classifications consider the
loss experience, the degree of
hazard and loss frequency.
Preferred risks have an absence
of prior losses, low degrees of
hazard, and/or low loss
frequency potential. Standard
risks have average loss
experience, moderate degrees of
hazard and/or moderate loss
frequency potential. Non-
standard risks generally have
above average loss experience, a
higher degree of hazard and/or
higher loss frequency potential.
Loss adjustment expenses ("LAE")........... The expenses of settling claims,
including legal and other fees
and claims settlement costs.
Loss and LAE ratio......................... The ratio of incurred losses and
LAE to premiums earned.
Net premiums written....................... The portion of direct premiums
written and assumed reinsurance
retained by an insurer (i.e.,
after deducting premiums on
business ceded).
</TABLE>
G-1
<PAGE>
<TABLE>
<C> <S>
Policy acquisition costs................... Agents' or brokers' commissions,
premium taxes, marketing and
certain underwriting expenses
directly associated with the
production of business.
Premiums-to-surplus ratio.................. Ratio of the most recent twelve
months' statutory net premiums
written divided by the
policyholders' capital and
surplus at the end of the
period.
Quota-share reinsurance.................... A reinsurance agreement under
which an insurer cedes to a
reinsurer a specified percentage
of each risk within a defined
category of insurance business
written by the insurer and
conveys to the reinsurer a
similar percentage of the
premium applicable thereto.
Reinsurance................................ An agreement whereby an insurer
cedes to another insurer all or
a portion of the risk insured
and conveys/pays to that other
insurer a portion of the premium
paid by the insured. Reinsurance
makes the assuming reinsurer
liable to the extent of the
coverage ceded. However, in the
event the reinsurer is unable to
pay its portion of the loss
based on the coverage ceded, the
ceding insurer would be
responsible for the entire loss.
Reserves................................... Estimated liabilities established
for statutory reporting purposes
by an insurer to reflect the
estimated cost of claims
payments and the related
expenses that an insurer will
ultimately be required to pay,
net of reinsurance.
Reserves-to-surplus ratio.................. Ratio of loss and loss expense
reserves for statutory reporting
purposes divided by the
policyholders' capital and
surplus.
Retention.................................. The amount or portion of risk
which an insurer retains for its
own account (i.e., for which the
insurer remains primarily
liable).
SAP or statutory basis..................... Statutory accounting practices
("SAP") provide for recording
transactions and preparing
financial statements in
accordance with the rules and
procedures prescribed or
permitted by state statute or
Statutory or policyholders' capital and regulatory authorities.
surplus................................... Under SAP, the sum remaining
after all liabilities are
subtracted from all admitted
assets.
Underwriting............................... The process whereby an insurer
reviews applications submitted
for insurance coverage and
determines whether it will
accept all or part of the
coverage being requested and
what the applicable premiums and
terms should be. Underwriting
also includes an ongoing review
of existing policies and their
pricing.
Underwriting expenses...................... The aggregate of policy
acquisition expenses and general
and administrative expenses
attributable to underwriting
operations.
</TABLE>
G-2
<PAGE>
<TABLE>
<C> <S>
Underwriting profit (loss)................. The excess (deficiency) resulting
from the difference between
premiums earned and the sum of
incurred losses, LAE and
underwriting expenses.
Unpaid losses and LAE...................... Estimated liabilities established
by an insurer to reflect the
estimated cost of claims
payments and the related LAE in
respect of insurance it has
written, gross of reinsurance.
</TABLE>
G-3
<PAGE>
SCHEDULE I
ALLOCATION RESULTING FROM CERTAIN HYPOTHETICAL ELECTION PATTERNS
<TABLE>
<CAPTION>
RESULTS FOR:
-------------------------------------------------------------------
ASSUMED
PATTERN
OF HOLDERS
ELECTIONS ELECTING CASH
BY HOLDERS HOLDERS ELECTING AND HOLDERS
ALL MIDLAND ELECTING DANIELSON DANIELSON SERIES A MAKING NO
HOLDERS COMMON STOCK PREFERRED STOCK ELECTION
- ----------- ------------------ ------------------ -------------
<S> <C> <C> <C>
CASE I:
(i) 75% elect cash For each Midland share, For each Midland share, For each Midland share,
(ii) 10% elect Danielson Holder will receive Holder will receive Holder will receive:
Series A Preferred $14.50 in value (based on $14.50 in value (based
Stock Merger Agreement on Merger Agreement (i) $8.53 in cash
(iii) 5% elect Danielson valuation provisions) valuation provisions) (ii) $5.12 in value
Common Stock of Danielson Common of Danielson Series A (based on Merger
(iv) 10% make no election Stock Preferred Stock Agreement valuation
provisions) of
Danielson Series A
Preferred Stock
(iii) $0.85 in value
(based on Merger
Agreement valuation
provisions) of
Danielson Common
Stock
- ------------------------------------------------------------------------------------------------------------------------------------
CASE II:
(i) 60% elect cash For each Midland share, For each Midland For each share of
(ii) 20% elect Danielson Holder will receive: share, Midland stock,
Series A Preferred Holder will Holder will
Stock (i) $9.67 in value (based on receive $14.50 receive:
(iii) 15% elect Danielson Merger Agreement in value (based on
Common Stock valuation provisions) of Merger Agreement (i) $11.15 in cash, and
(iv) 5% make no election Danielson Common Stock valuation (ii) $3.35 in value
(ii) $4.83 in value (based on provisions) of (based on Merger
Merger Agreement Danielson Agreement valuation
valuation provisions) of Series A Preferred provisions) of
Danielson Series A Stock Danielson Series
Preferred Stock A Preferred
Stock
- ------------------------------------------------------------------------------------------------------------------------------------
CASE III:
(i) 20% elect cash For each Midland share, For each Midland share, For each Midland
(ii) 10% elect Danielson Holder will receive: Holder will receive $14.50 share, Holder will
Series A Preferred in cash receive $14.50 in
Stock (i) $2.42 in value (based on cash
(iii) 60% elect Common Merger Agreement
Stock valuation provisions) of
(iv) 10% make no election Danielson Common Stock
(ii) $9.67 in value (based on
Merger Agreement
valuation provisions) of
Danielson Series A
Preferred Stock
(iii) $2.41 in cash
</TABLE>
I-1
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<S> <C>
DANIELSON HOLDING CORPORATION
CONSOLIDATED FINANCIAL STATEMENTS OF DANIELSON HOLDING CORPORATION
Independent Auditors' Report........................................... F-2
Consolidated Balance Sheets at December 31, 1994 and 1995.............. F-3
Consolidated Statements of Operations for the years ended
December 31, 1993, 1994 and 1995...................................... F-4
Consolidated Statements of Stockholders' Equity for the years ended
December 31, 1993, 1994 and 1995...................................... F-5
Consolidated Statements of Cash Flows for the years ended
December 31, 1993, 1994 and 1995...................................... F-6
Notes to Consolidated Financial Statements............................. F-7
INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS OF DANIELSON HOLDING
CORPORATION
Consolidated Balance Sheets at December 31, 1995 and March 31, 1996
(Unaudited)........................................................... F-28
Consolidated Statements of Operations for the three months
ended March 31, 1995 and March 31, 1996 (Unaudited)................... F-29
Consolidated Statements of Cash Flows for the three months
ended March 31, 1995 and March 31, 1996 (Unaudited)................... F-30
Consolidated Statement of Stockholders' Equity for the
three months ended March 31, 1996 (Unaudited)......................... F-31
Notes to the Consolidated Financial Statements (Unaudited)............. F-32
MIDLAND FINANCIAL GROUP, INC.
CONSOLIDATED FINANCIAL STATEMENTS OF MIDLAND FINANCIAL GROUP, INC.
Independent Auditors' Report........................................... F-33
Consolidated Balance Sheets at December 31, 1994 and 1995.............. F-34
Consolidated Statements of Income (Loss) for the years ended
December 31, 1993, 1994 and 1995...................................... F-35
Consolidated Statements of Changes in Stockholders' Equity for the
years ended
December 31, 1993, 1994 and 1995...................................... F-36
Consolidated Statements of Cash Flow for the years ended
December 31, 1993, 1994 and 1995...................................... F-37
Notes to Consolidated Financial Statements............................. F-38
INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS OF MIDLAND FINANCIAL
GROUP, INC.
Condensed Consolidated Balance Sheets at December 31, 1995 and March
31, 1996
(Unaudited)........................................................... F-53
Condensed Consolidated Statements of Income for the three months
ended March 31, 1995 and March 31, 1996 (Unaudited)................... F-54
Condensed Consolidated Statement of Cash Flows for the three months
ended March 31, 1995 and March 31, 1996 (Unaudited)................... F-55
Notes to the Condensed Consolidated Financial Statements (Unaudited)... F-56
</TABLE>
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Danielson Holding Corporation:
We have audited the accompanying consolidated balance sheets of Danielson
Holding Corporation and subsidiaries as of December 31, 1994 and 1995, and the
related consolidated statements of operations, stockholders' equity, and cash
flows for each of the years in the three-year period ended December 31, 1995.
These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards 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. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Danielson
Holding Corporation and subsidiaries as of December 31, 1994 and 1995, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1995, in conformity with generally
accepted accounting principles.
As described in Note 1 of the Notes to Consolidated Financial Statements, in
1995 the Company adopted the provisions of the Financial Accounting Standards
Board's Statement of Financial Accounting Standards No. 121, "Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed
of."
KPMG Peat Marwick LLP
New York, New York
February 26, 1996
F-2
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1994 1995
-------- --------
<S> <C> <C>
ASSETS:
Fixed maturities:
Available-for-sale at fair value (Cost: $33,020 and
$167,773)............................................... $ 32,450 $172,595
Held-to-maturity at amortized cost (Fair value: $134,843
and $0)................................................. 145,331 --
Equity securities at fair value (Cost: $256 and $256)...... 548 629
Other investments at fair value (Cost: $256 and $0)........ 250 --
Short term investments, at cost which approximates fair
value..................................................... 3,184 8,570
-------- --------
TOTAL INVESTMENTS...................................... 181,763 181,794
Cash....................................................... 342 605
Accrued investment income.................................. 2,903 2,718
Premiums and fees receivable, net of allowances of $323 and
$157...................................................... 17,061 8,826
Reinsurance recoverable on paid losses, net of allowances
of $675 and $388.......................................... 6,108 1,828
Reinsurance recoverable on unpaid losses, net of allowances
of $425 and $425.......................................... 17,705 21,112
Prepaid reinsurance premiums............................... 2,713 2,226
Property and equipment, net of accumulated depreciation of
$5,807 and $6,849......................................... 5,174 4,159
Deferred acquisition costs................................. 2,204 1,045
Excess of cost over net assets acquired.................... 3,513 2,657
Other assets............................................... 1,043 954
-------- --------
TOTAL ASSETS........................................... $240,529 $227,924
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Unpaid losses and loss adjustment expenses................. $146,330 $137,406
Unearned premiums.......................................... 14,328 8,563
Policyholder dividends..................................... 6,280 4,664
Reinsurance premiums payable............................... 1,679 1,707
Funds withheld on ceded reinsurance........................ 1,810 1,534
Other liabilities.......................................... 7,784 4,229
-------- --------
TOTAL LIABILITIES...................................... 178,211 158,103
Preferred Stock ($0.10 par value; authorized 10,000,000
shares; none issued and outstanding)...................... -- --
Common Stock ($0.10 par value; authorized 20,000,000
shares; issued 15,370,894 shares and 15,370,894 shares;
outstanding 15,360,270 shares and 15,360,255 shares)...... 1,537 1,537
Additional paid-in capital................................. 46,417 46,131
Net unrealized gain (loss) on available-for-sale
securities................................................ (278) 5,195
Retained earnings.......................................... 14,708 17,024
Treasury stock (Cost of 10,624 shares and 10,639 shares)... (66) (66)
-------- --------
TOTAL STOCKHOLDERS' EQUITY............................. 62,318 69,821
-------- --------
Commitments and contingencies..............................
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY............. $240,529 $227,924
======== ========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-3
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
----------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
REVENUES:
Gross premiums earned......................... $ 91,836 $106,552 $ 76,688
Ceded premiums earned......................... (5,784) (13,261) (16,140)
-------- -------- --------
Net premiums earned........................... 86,052 93,291 60,548
Trust fee income.............................. 2,264 4,646 4,475
Net investment income......................... 13,302 11,853 13,161
Net realized investment gains (Note 6)........ 462 24 208
Other income.................................. 317 526 1,689
-------- -------- --------
TOTAL REVENUES.............................. 102,397 110,340 80,081
-------- -------- --------
LOSSES AND EXPENSES:
Gross losses and loss adjustment expenses..... 74,398 82,025 63,543
Ceded losses and loss adjustment expenses..... (8,498) (14,510) (14,828)
-------- -------- --------
Net losses and loss adjustment expenses....... 65,900 67,515 48,715
Policyholder dividends........................ 3,615 6,043 137
Policy acquisition expenses................... 16,993 18,677 13,391
General and administrative expenses........... 12,835 14,792 15,402
Interest expense.............................. 233 65 --
-------- -------- --------
TOTAL LOSSES AND EXPENSES................... 99,576 107,092 77,645
-------- -------- --------
Income before provision for income tax and ex-
traordinary item[s]............................ 2,821 3,248 2,436
Income tax provision............................ 75 103 120
-------- -------- --------
Income before extraordinary item[s]............. 2,746 3,145 2,316
Extraordinary item[s] (Note 13)............... 488 750 --
-------- -------- --------
NET INCOME...................................... $ 3,234 $ 3,895 $ 2,316
======== ======== ========
EARNINGS PER SHARE OF COMMON STOCK AND COMMON
EQUIVALENT SHARE:
Income before extraordinary item[s]........... $ 0.17 $ 0.20 $ 0.14
Extraordinary item[s]......................... 0.03 0.05 --
-------- -------- --------
NET INCOME...................................... $ 0.20 $ 0.25 $ 0.14
======== ======== ========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-4
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
-------------------------
1993 1994 1995
------- ------- -------
<S> <C> <C> <C>
COMMON STOCK
Balance, beginning of year....................... $ 1,511 $ 1,511 $ 1,537
Exercise of options to purchase Common Stock..... -- 26 --
------- ------- -------
Balance, end of year............................. 1,511 1,537 1,537
------- ------- -------
ADDITIONAL PAID-IN CAPITAL
Balance, beginning of year....................... 45,669 45,669 46,417
Exercise of options to purchase Common Stock..... -- 748 --
Retirement of stock options...................... -- -- (286)
------- ------- -------
Balance, end of year............................. 45,669 46,417 46,131
------- ------- -------
NET UNREALIZED GAIN (LOSS) ON AVAILABLE-FOR-SALE
SECURITIES
Balance, beginning of year....................... 15 855 (278)
Net unrealized gain on the date of
reclassification of
available-for-sale securities (Note 6).......... -- -- 2,880
Net increase (decrease).......................... 840 (1,133) 2,593
------- ------- -------
Balance, end of year............................. 855 (278) 5,195
------- ------- -------
RETAINED EARNINGS
Balance, beginning of year....................... 7,579 10,813 14,708
Net income....................................... 3,234 3,895 2,316
------- ------- -------
Balance, end of year............................. 10,813 14,708 17,024
------- ------- -------
TREASURY STOCK
Balance, beginning of year....................... (10) (10) (66)
Purchased during year............................ -- (56) --
------- ------- -------
Balance, end of year............................. (10) (66) (66)
------- ------- -------
TOTAL STOCKHOLDERS' EQUITY..................... $58,838 $62,318 $69,821
======= ======= =======
</TABLE>
- --------------------------------------------------------------------------------
<TABLE>
<S> <C> <C> <C>
COMMON STOCK, SHARES
Balance, beginning of year.................. 15,112,984 15,112,984 15,370,894
Exercise of options to purchase Common
Stock...................................... -- 257,910 --
---------- ---------- ----------
Balance, end of year........................ 15,112,984 15,370,894 15,370,894
========== ========== ==========
TREASURY STOCK, SHARES
Balance, beginning of year.................. 2,726 2,733 10,624
Purchased during year....................... 7 7,891 15
---------- ---------- ----------
Balance, end of year........................ 2,733 10,624 10,639
========== ========== ==========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-5
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
----------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income..................................... $ 3,234 $ 3,895 $ 2,316
Adjustments to reconcile net income to net cash
provided by
(used in) operating activities:
Net realized investment gains.................. (462) (24) (208)
Depreciation and amortization.................. 1,783 1,952 2,455
Change in other invested asset................. (3,104) (205) --
Change in accrued investment income............ 434 (702) 185
Change in premiums and fees receivable......... (787) 1,889 8,235
Change in reinsurance recoverables............. 1,014 (2,883) 4,280
Change in reinsurance recoverable on unpaid
losses........................................ 2,310 551 (3,407)
Change in prepaid reinsurance premiums......... (2,159) (48) 487
Change in deferred acquisition costs........... (7) (8) 1,159
Change in unpaid losses and loss adjustment
expenses...................................... 12,088 8,851 (8,924)
Change in unearned premiums.................... 4,060 (2,174) (5,765)
Change in policyholder dividends payable....... (1,042) (3,501) (1,616)
Change in reinsurance payables and funds
withheld...................................... 91 60 (248)
Other, net..................................... (571) 2,355 (3,437)
-------- -------- --------
Net cash provided by (used in) operating
activities.................................. 16,882 10,008 (4,488)
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sales:
Fixed income maturities...................... 242 -- --
Fixed income maturities available-for-sale... -- 3,239 8,194
Equity securities............................ -- 14 --
Other investments............................ -- -- 433
Investments, matured or called:
Fixed income maturities held-to-maturity..... 27,421 24,551 5,875
Fixed income maturities available-for-sale... -- 3,937 23,732
Investments purchased:
Fixed income maturities held-to-maturity..... (51,204) (32,906) (835)
Fixed income maturities available-for-sale... -- (25,119) (26,455)
Equity securities............................ (5) -- --
Other investments............................ -- (250) (105)
Purchases of property and equipment............ (637) (907) (416)
Proceeds of other invested asset............... -- 19,531 --
-------- -------- --------
Net cash provided by (used in) investing
activities.................................. (24,183) (7,910) 10,423
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Acquisition of Danielson Trust (net of cash
acquired of $208)............................. (4,403) -- --
Acquisition of Western Trust Services.......... -- (2,505) --
Paydown of bank loan........................... (1,000) (2,250) --
Capital lease obligation....................... (180) (96) --
Change in loans to trust accounts.............. (147) 165 --
Purchase of treasury stock..................... -- (56) --
Retirement of stock options.................... -- -- (286)
Proceeds of exercise of options to purchase
Common Stock.................................. -- 774 --
-------- -------- --------
Net cash (used in) financing activities...... (5,730) (3,968) (286)
-------- -------- --------
Net increase (decrease) in cash and short term
investments..................................... (13,031) (1,870) 5,649
Cash and short term investments at beginning of
year............................................ 18,427 5,396 3,526
-------- -------- --------
CASH AND SHORT TERM INVESTMENTS AT END OF YEAR... $ 5,396 $ 3,526 $ 9,175
======== ======== ========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-6
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1993, 1994 AND 1995
1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
FORMATION AND ORGANIZATION
Danielson Holding Corporation ("DHC") is a holding company organized under
the General Corporation Law of the State of Delaware. DHC owns all of the
voting stock of Mission American Insurance Company ("MAIC"). MAIC owns 100% of
the voting stock of KCP Holding Company ("KCP"), Danielson Indemnity Company
and Danielson Reinsurance Corporation. KCP owns 100% of the common stock of
National American Insurance Company of California ("NAICC"), DHC's principal
operating insurance subsidiary. NAICC owns 100% of the common stock of
Danielson Insurance Company ("DIC") and Danielson National Insurance Company
("DNIC"). In March 1993, DHC acquired 100% of the common stock of Danielson
Trust Company ("Danielson Trust"). See also Note 2 "ACQUISITION OF DANIELSON
TRUST COMPANY." For a description of the Company's operations by industry
segment, see Note 14 "BUSINESS SEGMENTS."
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A. Basis of Presentation
The accompanying Consolidated Financial Statements of DHC and subsidiaries
(collectively with DHC, the "Company") have been prepared in accordance with
generally accepted accounting principles. All material transactions among
consolidated companies are eliminated. Certain prior year amounts have been
reclassified to conform with the current year's financial statement
presentation.
B. Investments
The Company classifies its debt and equity securities in one of three
categories: trading, available-for-sale or held-to-maturity. Securities which
are classified as "trading" are bought and held principally for sale in the
near term. Securities which are classified as "held-to-maturity" are
securities which the Company has the ability and intent to hold until
maturity. All other securities, which are not classified as either trading or
held-to-maturity, are classified as "available-for-sale."
Fixed maturities classified as available-for-sale are recorded at fair
value. Fixed maturities classified as held-to-maturity are recorded at
amortized cost, adjusted for the amortization or accretion of premiums or
discounts. Amortization and accretion of premiums and discounts on
collateralized mortgage obligations are adjusted for principal paydowns and
changes in expected maturities. Net unrealized gains or losses on fixed
maturities classified as available-for-sale are excluded from earnings and are
reported as a separate component of stockholders' equity until realized.
Transfers of securities between categories are recorded at fair value at the
date of transfer. Net unrealized gains or losses associated with transfers of
fixed maturities classified as held-to-maturity to fixed maturities classified
as available-for-sale are recorded as a separate component of stockholders'
equity. The net unrealized gains or losses on fixed maturities included in the
separate component of stockholders' equity for fixed maturities transferred
from the classification of available-for-sale to held-to-maturity are
amortized into earnings over the remaining life of the security as an
adjustment to yield in a manner consistent with the amortization or accretion
of premium or discount on the associated security. The Company does not hold
any fixed maturities that are classified as trading. In December 1995, the
Company reclassified its entire held-to-maturity portfolio to available-for-
sale under a one-time provision permitted by the Financial Accounting
Standards Board. No deferred tax benefit or liability has been provided for
unrealized appreciation and depreciation due to the anticipated availability
of the Company's net operating tax loss carryforwards.
F-7
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
A decline in the market value of any available-for-sale or held-to-maturity
security below cost which is deemed to be other than temporary is charged to
earnings, resulting in the establishment of a new cost basis for such
security.
Premiums and discounts of fixed maturities that are classified as held-to-
maturity securities are amortized or accreted based on the effective interest
method. Dividend and interest income are recognized when earned. The cost of
securities sold is determined using the specific identification method.
Equity securities are stated at fair value, and any increase or decrease
from cost is reflected in stockholders' equity as unrealized gain or loss.
Short term investments are stated at cost which approximates fair value.
Investments having an original maturity of three months or less from the time
of purchase have been classified as "short term investments."
C. Property-Casualty Insurance Accounting
1. Revenue Recognition
Earned premium income is recognized ratably over the contract period of an
insurance policy. A liability is established for unearned insurance premiums
representing the portion of premiums that is applicable to the unexpired terms
of policies in force. Premiums earned include an estimate for earned but
unbilled workers' compensation premiums. Premiums earned but unbilled and
included in premiums receivable were $2.7 million and $1.9 million at December
31, 1994 and 1995, respectively.
2. Unpaid Losses and Loss Adjustment Expenses
Unpaid losses and loss adjustment expenses ("LAE") are based on estimates of
reported losses, historical Company experience of losses reported by reinsured
companies for insurance assumed from such insurers, and estimates based on
historical Company and industry experience for unreported claims. Management
believes that the provisions for unpaid losses and LAE are adequate to cover
the cost of losses and LAE incurred to date. However, such liability is, by
necessity, based upon estimates, which may change in the near term, and there
can be no assurance that the ultimate liability will not exceed such
estimates.
3. Reinsurance
In the normal course of business, the Company seeks to reduce the loss that
may arise from catastrophes or other events which cause unfavorable
underwriting results by reinsuring certain levels of risk in various areas of
exposure with other insurance enterprises or reinsurers.
The Company accounts for its reinsurance contracts which provide
indemnification by reducing premiums earned by the amounts paid to the
reinsurer and establishing recoverable amounts for paid and unpaid losses and
LAE ceded to the reinsurer. Amounts recoverable from reinsurers are estimated
in a manner consistent with the claim liability associated with the reinsured
policy. The Company accounts for its reinsurance contracts having limited risk
as financing agreements by establishing deposits for the premiums. Contracts
pursuant to which it is not reasonably possible that the reinsurer may realize
a significant loss from the insurance risk generally do not meet conditions
for reinsurance accounting and are accounted for as deposits. For the years
ended December 31, 1994 and 1995, the Company had no reinsurance contracts
which were accounted for as financing agreements. See Note 3 "REINSURANCE."
F-8
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
4. Deferred Acquisition Costs
Deferred acquisition costs, consisting principally of commissions and
premium taxes paid at the time of issuance of a policy, are deferred and
amortized over the period during which the related premiums are earned.
Deferred acquisition costs are limited to the estimated future profit, based
on the anticipated losses and LAE (based on historical experience),
maintenance costs, policyholder dividends, and anticipated investment income.
The amortization of deferred acquisition costs charged to operations in 1993,
1994 and 1995 was $14.8 million, $13.7 million and $9.1 million, respectively.
5. Policyholder Dividends
Policyholder dividends represent management's estimate of amounts to be paid
on participating policies which share in positive underwriting results, based
on the type of policy plan. Participating policies represent approximately
75%, 79% and 34% of direct written premiums for the years ended December 31,
1993, 1994 and 1995, respectively. An estimated provision for policyholder
dividends is accrued during the period in which the related premium is earned.
These estimated dividends do not become legal liabilities unless and until
declared by the Board of Directors of NAICC.
D. Trust Accounting
Trust fee income is earned as services are rendered. Trust fees may be based
upon either a flat fee or the cost or market value of assets under
administration. The Consolidated Financial Statements of the Company do not
include the fiduciary assets of Danielson Trust.
E. Excess of Cost Over Net Assets Acquired
Until December 31, 1995, the excess of the acquisition cost over the net
assets of businesses acquired (goodwill) was being amortized using the
straight-line method over a period of 25 years. Recoverability of goodwill is
evaluated when a change in circumstances or events indicates that the carrying
amount of such asset may not be recoverable. As of January 1, 1996, the
Company changed its estimated amortization period for existing balances of
previously recorded goodwill from 25 years to 15 years. The amortization of
goodwill over a period of 15 years will result in an annual charge to
operations of approximately $177,000. The amortization of goodwill charged to
operations in 1994 and 1995 was approximately $134,000 and $147,000,
respectively. See Note 2 "ACQUISITION OF DANIELSON TRUST COMPANY."
The Company adopted the provisions of Statement of Financial Accounting
Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of" ("SFAS 121") in 1995. Under SFAS 121,
long-lived assets, certain identifiable intangibles and goodwill related to
such assets to be held and used by an entity are required to be reviewed for
impairment whenever events or changes in circumstance indicate that the
carrying amount of such asset may not be recoverable. SFAS 121 requires that
recoverability be based on estimated future cash flows (undiscounted and
without interest charges) expected to result from the use of the asset and its
eventual disposition. An impairment loss is recognized if the sum of the
expected future cash flows in each of the anticipated carrying years is less
than the carrying amount of such asset, in which case the basis in such asset
is reduced to its fair value. The 1995 net operating losses of Danielson Trust
required the Company to assess the recoverability and amortization of goodwill
associated with the original acquisition of Danielson Trust and the subsequent
acquisition of the WTS assets. Based upon this assessment, the Company has
valued Danielson Trust at slightly in excess of one times the annual revenues.
At December 31, 1995, the effect on the Company of its adoption of SFAS 121
was to reduce the carrying amount of the remaining goodwill by $709,000, to
$2.7 million. The writedown is included in general and administrative
expenses.
F-9
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
F. Property and Equipment
Property and equipment, which include data processing hardware and software
and leasehold improvements, are carried at historical cost less accumulated
depreciation. Depreciation of property and equipment is provided over the
estimated useful lives of the respective assets. Leasehold improvements are
amortized on a straight-line basis over the estimated useful lives of the
assets or over the term of the leases, whichever is shorter. The useful lives
of all property and equipment range from three to 12 years.
G. Income Taxes
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and the respective tax
bases thereof. Deferred tax assets and liabilities are measured using enacted
tax rates which are expected to apply to taxable income in the years in which
those temporary differences are anticipated to be recovered or settled, and
are limited, through a valuation allowance, to the amount realizable. See Note
8 "INCOME TAXES."
H. Per Share Data
Per share data is based on the weighted average number of shares of common
stock of DHC, par value $0.10 per share ("Common Stock") outstanding during
each year. Earnings per share computations, as calculated under the treasury
stock method, include the average number of shares of additional outstanding
Common Stock issuable for stock options, whether or not currently exercisable.
Such average shares were 15,847,682, 15,938,018 and 15,989,055 for the years
ended December 31, 1993, 1994 and 1995, respectively.
I. Fair Value of Financial Instruments
The fair value of a financial instrument is the amount at which the
instrument could be exchanged in a current transaction between willing
parties. The carrying values of the Company's cash and short term investments
approximate fair value because of the short term maturity of those
investments. The fair values of the Company's debt security instruments and
equity security investments are based on quoted market prices as of December
31, 1995. The fair value of all other financial instruments approximates their
respective carrying value. See Note 6 "INVESTMENTS."
J. Use of Estimates
The preparation of financial statements in accordance 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 as at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. Therefore, actual results could differ from such
estimates.
2) ACQUISITION OF DANIELSON TRUST COMPANY
In March 1993, DHC completed the acquisition of 100% of the common stock of
Danielson Trust Company ("Danielson Trust") from a subsidiary of the
Resolution Trust Corporation. Danielson Trust formerly was known, prior to
November 13, 1993, as HomeFed Trust. Danielson Trust is a California
corporation that has been chartered by the California State Banking Department
to provide trust and fiduciary services since 1977. The operations of
Danielson Trust include private trust, retirement services (formerly known as
employee benefit trust) and custodial services.
F-10
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
The acquisition of Danielson Trust has been accounted for as a purchase; the
purchase price of $4.6 million paid by DHC for the Danielson Trust stock,
including legal fees and other related acquisition expenses, was allocated to
the identifiable net assets of Danielson Trust based upon their estimated
relative fair values. In connection with the acquisition, DHC acquired net
assets with a fair value of $3.4 million. Approximately $1.2 million of cost
in excess of net assets acquired was recorded in connection with the purchase
and, through December 31, 1995, was being amortized using the straight-line
method over 25 years. In February 1994, Danielson Trust completed the
acquisition of the assets of the Western Trust Services ("WTS") division of
Grossmont Bank, for a purchase price of $2.5 million which, prior to January
1, 1996, was being amortized over a period of 25 years. As of January 1, 1996,
the Company changed its estimated period of amortization for existing balances
of previously recorded goodwill from a period of 25 years to a period of 15
years.
3) REINSURANCE
Reinsurance is the transfer of risk, by contract, from one insurance company
to another for consideration (premium). Reinsurance contracts do not relieve
an insurance company of its obligations to policyholders. The failure of
reinsurers to honor their obligations could result in losses to NAICC;
consequently, allowances are established for amounts which are deemed
uncollectable. NAICC evaluates the financial condition of its reinsurers and
monitors concentrations of credit risk arising from similar geographic
regions, activities, or economic characteristics of the reinsurers to minimize
its exposure to significant losses from reinsurer insolvencies.
NAICC cedes reinsurance on an excess of loss basis for workers' compensation
risks in excess of $400,000 and generally for all other risks in excess of
$150,000. NAICC also cedes 50% of its personal automobile business on a quota
share basis. The effect of reinsurance on premiums written reflected in the
Company's Consolidated Financial Statements is as follows (dollars in
thousands):
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
---------------------------
1993 1994 1995
------- -------- --------
<S> <C> <C> <C>
Direct........................................ $95,896 $104,379 $ 70,949
Ceded......................................... (7,943) (13,310) (15,654)
------- -------- --------
Net premium................................. $87,953 $ 91,069 $ 55,295
======= ======== ========
</TABLE>
As of December 31, 1995, NAICC had paid $5.5 million in losses and LAE
relating to an environmental claim filed by Hughes Aircraft (the "Hughes
Claim"). The Hughes Claim alleged that environmental damages occurred
continuously over a period of approximately 34 years. NAICC assumed a general
liability policy issued to Hughes Aircraft for three of those years. The
Hughes Claim liability is reinsured in each of such three years under various
contracts involving numerous reinsurance companies; of the $5.3 million ceded,
$5.2 million was disputed by the reinsurers. NAICC commenced arbitration
proceedings relating to $2.9 million and litigation proceedings relating to
$2.3 million in order to collect amounts due NAICC. In April 1993, the
arbitration proceedings were concluded and NAICC was awarded $684,000. NAICC
received payment of the entire amount of the arbitration award by January
1994. In December 1995, the litigation proceedings were concluded and NAICC
received payment of the $2.3 million at issue in such proceedings plus
$840,000 of accumulated interest thereon.
In March 1994, NAICC received $19.5 million of commutation value under an
Excess of Loss Agreement with Great American Insurance Company ("GAIC")
entered into in 1988. Under that agreement, GAIC agreed to provide $26 million
of reinsurance coverage for the ultimate net aggregate losses and allocated
LAE relating
F-11
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
to policyholder liabilities on business written by MAIC after March 31, 1985
that NAICC assumed from MAIC. The agreement included timing restrictions on
the reinsurance payments to be made by GAIC to NAICC. Because of the limited
amount of risk transferred, this transaction was accounted for as a financing
agreement and, at December 31, 1993, the $11 million premium payment by NAICC
to GAIC, together with accrued interest of $8.3 million, was classified as an
"other invested asset." In accordance with the terms of the agreement, NAICC
exercised the commutation provision in January 1994. The decision to exercise
the commutation was made in 1993, at a time when the 5-year U.S. Treasury
interest rate (upon which the commutation value of the agreement was
dependent) had declined significantly. The decline in this interest rate had
the effect of increasing the value of commutation over the amount previously
recorded for such asset. It was not possible to have foreseen the level of
interest rates which prompted the decision to commute the agreement and,
therefore, the increased value of the commutation, in the amount of $1.7
million, was recognized in 1993. Additionally, interest income of $1,504,000
and $205,000 was recognized in 1993 and 1994, respectively, representing the
accretion of interest income for the original expected term and under the
inherent interest rate in the agreement.
As of December 31, 1995, General Reinsurance Corporation ("GRC") and Munich
American Reinsurance Company ("MARC") were the only reinsurers that comprised
more than 10% of NAICC's reinsurance recoverable on paid and unpaid claims. At
December 31, 1995, NAICC had reinsurance recoverables on paid and unpaid
claims of $10 million from GRC and $9.8 million from MARC.
4) UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
The following chart summarizes the activity in NAICC's liability for unpaid
losses and LAE during the three most recent fiscal years (dollars in
thousands):
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
--------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
Net unpaid losses and LAE at beginning of year.. $104,825 $119,223 $128,625
-------- -------- --------
Add:
Provision for losses and LAE related to:
Current year.................................. 65,157 67,131 45,592
Prior years................................... 743 384 3,123
-------- -------- --------
Total incurred.................................. 65,900 67,515 48,715
-------- -------- --------
Less:
Loss and LAE payments for claims related to:
Current year.................................. 11,852 15,849 14,464
Prior years................................... 39,650 42,264 46,582
-------- -------- --------
Total paid...................................... 51,502 58,113 61,046
-------- -------- --------
Net unpaid losses and LAE at end of year........ 119,223 128,625 116,294
Plus reinsurance recoverables on unpaid losses
and LAE........................................ 18,256 17,705 21,112
-------- -------- --------
Gross unpaid losses and LAE at end of year...... $137,479 $146,330 $137,406
======== ======== ========
</TABLE>
The losses and LAE incurred in 1995 relating to prior years are primarily
attributable to claims from business which is in run-off. Two claims comprise
substantially all of the losses and LAE incurred related to
F-12
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
prior years: one being a claim for asbestosis exposure, which was settled in
1995 in the form of a policy buy back; the other, a construction defect claim
in which a court decision was contrary to previously established case law.
NAICC has claims relating to environmental cleanup against policies issued
prior to 1980 which are currently in run-off. The principal exposure arises
from direct excess and primary policies of business in run-off, the
obligations of which were assumed by NAICC. These excess and primary claims
are relatively few in number and have policy limits of between $50,000 and $1
million, with reinsurance generally above $50,000. NAICC also has
environmental claims primarily associated with participation in excess of loss
reinsurance contracts assumed by NAICC. These reinsurance contracts have
relatively low limits, generally less than $25,000, and estimates of unpaid
losses are based on information provided by the primary insurance company.
The unpaid losses and LAE related to environmental cleanup are established
based upon facts currently known and the current state of the law and coverage
litigation. Liabilities are estimated for known claims (including the cost of
related litigation) when sufficient information has been developed to indicate
the involvement of a specific contract of insurance or reinsurance and
management can reasonably estimate its liability. Liabilities for unknown
claims and development of reported claims are included in NAICC's bulk unpaid
losses. The liability for unknown or unreported claims is not estimated to be
material based on historical reporting experience. The liability for the
development of reported claims is based on estimates of the range of potential
losses for reported claims in the aggregate as well as currently established
case estimates and industry development factors for reported claims. Estimates
of liabilities are reviewed and updated continually and exposure exists in
excess of amounts which are currently recorded which could be material.
However, management of NAICC does not expect that liabilities associated with
these types of claims will result in a material adverse effect on future
liquidity or financial position. Liabilities such as these are based upon
estimates and there can be no assurance that the ultimate liability will not
exceed such estimates. Additionally, significant uncertainty exists about the
outcome of coverage litigation which can impact current estimates. As of
December 31, 1995, NAICC's net unpaid losses and LAE relating to environmental
claims were $4.1 million.
5) REGULATION, DIVIDEND RESTRICTIONS AND STATUTORY SURPLUS
DHC's insurance subsidiaries are regulated by various states and prepare
their financial statements in accordance with statutory accounting principles.
NAICC prepares its statutory financial statements in accordance with
accounting practices prescribed or permitted by the California Department of
Insurance (the "Insurance Department"). Prescribed statutory accounting
practices include a variety of publications of the National Association of
Insurance Commissioners (the "Association"), as well as state laws,
regulations and general administrative rules. Permitted statutory accounting
practices encompass all accounting practices not so prescribed. As of December
31, 1994 and 1995, DHC's operating insurance subsidiaries reported statutory
capital and surplus of $39.7 million and $44.9 million, respectively. The
combined statutory net income for DHC's operating insurance subsidiaries, as
reported to the regulatory authorities for the years ended December 31, 1993,
1994 and 1995, was $2.8 million, $2.2 million and $4.8 million, respectively.
The Insurance Department is currently conducting a routine examination of the
statutory basis financial statements of NAICC, DNIC and DIC as of December 31,
1995 and has disclosed no findings to date.
In December 1993, the Association adopted a model for determining the risk
based capital ("RBC") requirements for property and casualty insurance
companies. Under the RBC model, property and casualty insurance companies are
required to report their RBC ratios based on their latest statutory annual
statements as filed with the regulatory authorities. NAICC has calculated its
RBC requirement under the Association's model, and has capital in excess of
any regulatory action or reporting level.
F-13
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
Insurance companies are subject to insurance laws and regulations
established by the states in which they transact business. The agencies
established pursuant to these state laws have broad administrative and
supervisory powers relating to the granting and revocation of licenses to
transact insurance business, regulation of trade practices, establishment of
guaranty associations, licensing of agents, approval of policy forms, premium
rate filing requirements, reserve requirements, the form and content of
required regulatory financial statements, periodic examinations of insurers'
records, capital and surplus requirements and the maximum concentrations of
certain classes of investments. Most states also have enacted legislation
regulating insurance holding company systems, including with respect to
acquisitions, extraordinary dividends, the terms of affiliate transactions and
other related matters. DHC and its insurance subsidiaries have registered as a
holding company system pursuant to such legislation in California and
routinely report to other jurisdictions. The Association has formed committees
and appointed advisory groups to study and formulate regulatory proposals on
such diverse issues as the use of surplus debentures, accounting for
reinsurance transactions and the adoption of RBC requirements. It is not
possible to predict the impact of future state and federal regulation on the
operations of the Company.
Under the California Insurance Code, NAICC is prohibited from paying, other
than from accumulated earned surplus, shareholder dividends which exceed the
greater of net income or 10% of statutory surplus without prior approval of
the Insurance Department. As a result of NAICC's negative unassigned surplus,
NAICC is not permitted to pay dividends in 1996 without prior regulatory
approval.
DHC's trust subsidiary, Danielson Trust, is regulated by the California
Banking Department (the "Banking Department"). Danielson Trust is required by
state banking law to report its financial position to the Banking Department
on a quarterly basis, and to maintain compliance with regulatory capital
requirements. State banking law, and through March 1995 the terms of the
Department's approval of DHC's acquisition of Danielson Trust, restrict the
amount of dividends that Danielson Trust may transfer to DHC without prior
regulatory approval. The Banking Department performs an examination, in each
24-month period, of the trust company's financial statements for the most
recently completed fiscal year. The most recent such State examination of
Danielson Trust was performed as of September 30, 1994. The examination had no
effect on the financial position of Danielson Trust.
6) INVESTMENTS
In compliance with state insurance and banking laws and regulations,
securities with a fair value of approximately $94.6 million and $119.6 million
at December 31, 1994 and 1995, respectively, were on deposit with various
states or governmental regulatory authorities. In addition, at December 31,
1994 and 1995, respectively, investments with a fair value of $5.4 million and
$4.7 million were held in trust or as collateral under the terms of certain
reinsurance treaties and letters of credit; short term investments of $133,000
in each of the years ended December 31, 1994 and 1995 are pledged to
regulatory authorities and are restricted as to use.
Net realized investment gains (losses) in 1993, 1994 and 1995 were as
follows (dollars in thousands):
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
--------------------------------
1993 1994 1995
---- ---- ----
<S> <C> <C> <C>
Fixed maturities........................ $473 $20 $130
Equity securities....................... -- 4 --
Other investments....................... -- -- 78
Other................................... (11) -- --
---- --- ----
Net realized gain..................... $462 $24 $208
==== === ====
</TABLE>
F-14
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
Gross realized gains relating to fixed maturities were $473,000, $36,000 and
$217,000 for the years ended December 31, 1993, 1994 and 1995, respectively.
There were no gross realized losses relating to fixed maturities for the year
ended December 31, 1993. Gross realized losses relating to fixed maturities
were $16,000 and $87,000 for the years ended December 31, 1994 and 1995,
respectively. There were neither gross realized gains nor gross realized
losses relating to equity securities for the years ended December 31, 1993 and
1995. Gross realized gains relating to equity securities were $4,000 for the
year ended December 31, 1994. There were neither gross realized gains nor
gross realized losses relating to other investments for the years ended
December 31, 1993 and 1994. Gross realized gains relating to other investments
were $78,000 for the year ended December 31, 1995.
Net investment income for the past three years was as follows (dollars in
thousands):
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
-----------------------
1993 1994 1995
------- ------- -------
<S> <C> <C> <C>
Fixed maturities.................................. $ 9,862 $11,616 $12,442
Equity securities................................. -- -- --
Short term investments............................ 362 216 219
Other, net........................................ 3,164 247 899
------- ------- -------
Total investment income......................... 13,388 12,079 13,560
Less: Investment expense.......................... 86 226 399
------- ------- -------
Net investment income........................... $13,302 $11,853 $13,161
======= ======= =======
</TABLE>
There were no investments with a carrying value greater than 10% of
stockholders' equity as of December 31, 1994 or 1995.
F-15
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
The amortized cost, unrealized gains, unrealized losses and fair value at
December 31, 1994 and 1995, respectively, for available-for-sale and held-to-
maturity securities, categorized by type of security, were as follows (dollars
in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1994
----------------------------------------
COST OR
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAIN LOSS VALUE
--------- ---------- ---------- --------
<S> <C> <C> <C> <C>
Investments classified as
available-for-sale:
Fixed maturities:
U.S. Government/Agency.......... $ 22,300 $ 1 $ 321 $ 21,980
Corporate....................... 10,720 -- 250 10,470
-------- ------ ------- --------
Total fixed maturities........ 33,020 1 571 32,450
Equity securities................. 256 292 -- 548
-------- ------ ------- --------
Total available-for-sale.......... $ 33,276 $ 293 $ 571 $ 32,998
======== ====== ======= ========
Fixed maturities classified as
held-to-maturity:
U.S. Government/Agency.......... $ 33,864 $ 76 $ 885 $ 33,055
Mortgage-backed................. 64,558 2 6,556 58,004
Corporate....................... 46,909 158 3,283 43,784
-------- ------ ------- --------
Total held-to-maturity............ $145,331 $ 236 $10,724 $134,843
======== ====== ======= ========
<CAPTION>
DECEMBER 31, 1995
----------------------------------------
COST OR
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAIN LOSS VALUE
--------- ---------- ---------- --------
<S> <C> <C> <C> <C>
Investments classified as
available-for-sale:
Fixed maturities:
U.S. Government/Agency.......... $ 54,865 $1,854 $ 4 $ 56,715
Mortgage-backed................. 62,342 1,536 272 63,606
Corporate....................... 50,566 1,729 21 52,274
-------- ------ ------- --------
Total fixed maturities........ 167,773 5,119 297 172,595
Equity securities................. 256 373 -- 629
-------- ------ ------- --------
Total available-for-sale.......... $168,029 $5,492 $ 297 $173,224
======== ====== ======= ========
</TABLE>
Fixed maturities of the Company include mortgage-backed securities ("MBS")
representing 34.7% and 36.9% of the Company's total fixed maturities at
December 31, 1994 and 1995, respectively. All MBS held by the Company are
issued by the Federal National Mortgage Association ("Fannie Mae") or the
Federal Home Loan Mortgage Corporation ("Freddie Mac"), both of which are
rated "Aaa" by Moody's Investors Services. MBS and callable bonds, in contrast
to other bonds, are more sensitive to market value declines in a rising
interest rate environment than to market value increases in a declining
interest rate environment. This is primarily because of payors' increased
incentive and ability to prepay principal and issuers' increased incentive to
call bonds in a declining interest rate environment. NAICC's management does
not believe that the inherent prepayment risk in its portfolio is significant.
However, management of NAICC believes that the potential impact of the
interest rate risk on the Company's Consolidated Financial Statements could be
significant because of the greater sensitivity of the MBS portfolio to market
value declines and the classification of the entire portfolio as available-
for-sale. The Company has no MBS concentrations in any geographic region.
F-16
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
In November 1995, the Financial Accounting Standards Board Emerging Issues
Task Force issued a Special Report, "A Guide to Implementation of Statement
115 on Accounting for Certain Investments in Debt and Equity Securities" (the
"Special Report") permitting companies to effect a one-time reclassification
of all securities held at that time. At December 1, 1995, the Company
reclassified all held-to-maturity securities to the available-for-sale
security category. The amortized cost of the fixed maturities that were
transferred was $139.9 million. Upon the adoption of the Special Report,
unrealized gains of $2.9 million were reported as a component of stockholders'
equity with no effect on the Company's earnings. The purpose of the Company's
reclassification was to provide it with increased flexibility both to respond
to changes in market conditions which could affect asset and liability
matching and cash flow and to effect changes in investment policy guidelines
in response to changes in business conditions. Pursuant to the Special Report,
the reclassifications from the held-to-maturity category in connection with
the one-time reassessment do not affect the Company's intent to hold other
debt securities to maturity in the future.
The following reflects the change in net unrealized gain (loss) on
available-for-sale securities included as a separate component of
stockholders' equity (dollars in thousands):
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
--------------------
1993 1994 1995
---- ------- ------
<S> <C> <C> <C>
Fixed maturities...................................... $457 $(1,027) $5,392
Equity securities..................................... 383 (106) 81
---- ------- ------
Total............................................. $840 $(1,133) $5,473
==== ======= ======
</TABLE>
The expected maturities of fixed maturities and equity securities, by
amortized cost and fair value, at December 31, 1995, are shown below. Expected
maturities may differ from contractual maturities due to borrowers' having the
right to call or prepay their obligations with or without call or prepayment
penalties. Expected maturities of mortgage-backed securities are estimated
based upon the remaining principal balance, the projected cash flows and the
anticipated prepayment rates of each security (dollars in thousands):
<TABLE>
<CAPTION>
AMORTIZED FAIR
MATURITY COST VALUE
-------- --------- --------
<S> <C> <C>
Available-for-sale:
One year or less..................................... $ 28,177 $ 28,386
Over one year to five years.......................... 72,763 76,417
Over five years to ten years......................... 65,844 66,725
More than ten years.................................. 989 1,067
-------- --------
Total fixed maturities............................. $167,773 $172,595
======== ========
</TABLE>
7) STOCKHOLDERS' EQUITY
DHC is authorized to issue 20,000,000 shares of common stock, par value
$0.10 per share ("Common Stock"), and 10,000,000 shares of preferred stock,
par value $0.10 per share. As of December 31, 1995, there were 15,370,894
shares of Common Stock issued and 15,360,255 such shares outstanding (after
giving effect to the issuance of 257,910 shares of Common Stock in connection
with the exercise of stock options on December 29, 1994), and no shares of
preferred stock issued and outstanding; the remaining 10,639 shares issued but
not outstanding are held as treasury stock. For additional information about
the Company's Stock Option Plans, including options granted in January 1996,
see Note 10 "EMPLOYEE BENEFITS AND STOCK OPTION PLANS." In connection with
efforts to preserve the Company's net operating tax loss carryforwards,
F-17
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
DHC has imposed restrictions on the ability of holders of 5% or more of DHC
Common Stock to transfer the Common Stock owned by them and to acquire
additional Common Stock, as well as the ability of others to become 5%
stockholders as a result of transfers of Common Stock. See Note 8 "INCOME
TAXES."
In March 1994, DHC commenced an odd-lot tender offer (the "Odd-Lot Tender
Offer") for shares of its Common Stock owned beneficially or of record by
holders of fewer than 100 shares on the record date, March 25, 1994. The Odd-
Lot Tender Offer, which originally was scheduled to expire on April 29, 1994,
was extended twice, and expired on June 10, 1994. A total of 7,885 shares of
Common Stock were tendered to, and acquired by, DHC in connection with the
Odd-Lot Tender Offer. Under the terms of the Odd-Lot Tender Offer, the
purchase price paid by DHC was $7.00 per odd-lot share, for an aggregate
purchase price of $55,195. The reacquired shares are retained by DHC as
treasury stock.
8) INCOME TAXES
DHC files a Federal consolidated income tax return with its subsidiaries,
including certain subsidiaries that were the grantors of certain trusts that
assumed various liabilities of certain present and former subsidiaries of DHC.
As of December 31, 1995, the Company has a consolidated net operating loss
carryforward of approximately $1.4 billion for Federal income tax purposes.
This number is based upon actual Federal consolidated income tax filings for
the periods through December 31, 1994 and an estimate of the 1995 taxable
loss. The net operating loss carryforward will expire in various amounts, if
not used, between 1998 and 2010. The Internal Revenue Service ("IRS") may
attempt to challenge the amount of this net operating loss in the event of a
future tax audit. Management believes, based in part upon the views of its tax
advisors, that its net operating loss calculations are reasonable and that it
is reasonable to conclude that the Company's net operating losses of in excess
of $1 billion would be available for use by the Company. These tax loss
attributes are currently fully reserved, for valuation purposes, on the
Company's financial statements. The Company considers all relevant factors
impacting its business operations (such as the size of NAICC and Danielson
Trust, the operating results of NAICC and Danielson Trust and the competitive
environment in which NAICC and Danielson Trust operate) in order to determine
whether the operations are more likely than not to utilize the NOLs. The
amount of the deferred tax asset considered realizable could be increased in
the near term if estimates of future taxable income during the carryforward
period are increased. See Note 7 "STOCKHOLDERS' EQUITY" for a description of
certain restrictions on the transfer of Common Stock.
At December 31, 1995, KCP reflected net operating tax loss carryforwards of
$31 million for Federal income tax purposes, distinct from the consolidated
net operating tax loss carryforwards of DHC. KCP's carryforwards arise from
its filing, prior to 1992, of a consolidated Federal income tax return
separately from DHC. The net operating tax loss carryforwards of KCP will
expire, if not used, between 2002 and 2005.
F-18
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
The Company's net operating tax loss carryforwards (including carryforwards
attributable to KCP) will expire, if not used, in the following amounts in the
following years (dollars in thousands):
<TABLE>
<CAPTION>
AMOUNT OF
YEAR ENDING CARRYFORWARD
DECEMBER 31, EXPIRING
------------ ------------
<S> <C>
1998 $ 32,804
1999 203,869
2000 249,488
2001 155,768
2002 169,767
2003 196,476
2004 75,933
2005 99,961
2006 129,755
2007 44,873
2008 4,626
2009 10,938
2010 6,107
----------
$1,380,365
==========
</TABLE>
The Company has made provisions for certain state and local taxes. Tax
filings for these jurisdictions do not consolidate the activity of the trusts
referred to above, and reflect preparation on a separate company basis.
Tax expense consists of the following amounts (dollars in thousands):
<TABLE>
<CAPTION>
1993 1994 1995
---- ---- ----
<S> <C> <C> <C>
Federal income tax.......................................... $-- $-- $--
State and local............................................. 75 103 120
---- ---- ----
Total................................................... $ 75 $103 $120
==== ==== ====
</TABLE>
The following reflects a reconciliation of Federal income tax expense
computed by applying the applicable Federal income tax rate of 34% for 1993,
1994 and 1995, as compared to the provision for Federal income taxes (dollars
in thousands):
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
-------------------------
1993 1994 1995
------- ------- -------
<S> <C> <C> <C>
Computed "expected" tax expense............... $ 959 $ 1,104 $ 828
Change in valuation allowance................. 2,951 904 1,819
Increase in net operating losses from grantor
trusts....................................... (3,973) (2,104) (2,891)
State and local tax expense................... 75 103 120
Amortization of goodwill...................... 59 46 303
Other, net.................................... 4 50 (59)
------- ------- -------
Total income tax expense...................... $ 75 $ 103 $ 120
======= ======= =======
</TABLE>
F-19
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
The tax effects of temporary differences that give rise to the deferred tax
assets and liabilities at December 31, 1994 and 1995, respectively, are
presented as follows (dollars in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1994 DECEMBER 31, 1995
----------------- -----------------
<S> <C> <C>
Deferred tax assets
Loss reserve discounting............. $ 9,558 8,820
Unearned premiums.................... 790 431
Net operating loss carryforwards..... 466,077 469,324
Allowance for doubtful accounts...... 481 330
Policyholder dividends............... 2,135 1,586
Other................................ 17 (8)
--------- ---------
Total gross deferred tax asset....... 479,058 480,483
Less: Valuation allowance............ (478,309) (478,362)
--------- ---------
Total deferred tax asset............. $ 749 $ 2,121
--------- ---------
Deferred tax liabilities
Deferred acquisition costs........... 749 355
Unrealized gains on available-for-
sale securities..................... -- 1,766
--------- ---------
Total deferred tax liabilities....... 749 2,121
--------- ---------
Net deferred tax asset............... $ -- $ --
========= =========
</TABLE>
9) BANK LOAN
During the first quarter of 1994, KCP paid down the outstanding balance of
an unsecured Term Credit Agreement ("Bank Loan") having a principal amount of
$4 million and having an interest rate of the higher of the prime rate plus
2.5% or the Federal Funds Rate plus 1.5%. The Bank Loan was entered into in
connection with the acquisition by DHC as of December 31, 1991 of the
remaining shares of KCP that it did not already own. The fair value of the
Bank Loan was considered to be its carrying value due to the variable nature
of the interest rate. Total interest expense paid in cash on the Bank Loan was
$201,000 and $14,000 in 1993 and 1994, respectively.
10) EMPLOYEE BENEFIT AND STOCK OPTION PLANS
1990 Stock Option Plan
The 1990 Stock Option Plan (the "1990 Plan") of DHC is a non-qualified stock
option plan which is intended to attract, retain and provide incentives to key
employees of DHC by offering them an opportunity to acquire or increase a
proprietary interest in DHC. Options under the 1990 Plan may be granted to
existing officers or employees of DHC for, in the aggregate, the purchase of
up to 1,260,000 shares of Common Stock (all subject to adjustment in
connection with events affecting the capitalization of DHC). No options were
granted under the 1990 Plan during 1990. On March 13, 1991, options to
purchase 210,000 shares were granted to each of Messrs. Whitman, Heffernan and
Rhein, all of whom are Directors and officers of DHC. The exercise price for
all options granted on March 13, 1991 is $3.00 per share, the arithmetic
average of the closing prices of the Common Stock on the American Stock
Exchange for the 30 days prior to the date of grant. The options expire ten
years after the date of grant and became exercisable in equal annual
installments commencing on the first anniversary thereof and on each of the
next two anniversaries thereafter. An additional 630,000 options were granted
outside the 1990 Plan as of that date to Junkyard Partners, L.P. ("Junkyard
Partners"), upon the same terms as those granted
F-20
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
on that date under the 1990 Plan. After giving effect to the options granted
outside the 1990 Plan to Junkyard Partners (and excluding options granted to
non-employee Directors, described below), DHC has issued options to purchase
1,260,000 shares of Common Stock, the total number of options which may be
granted under the 1990 Plan. In order to prevent additional dilution, the
Compensation Committee of the Board of Directors of DHC (the "Committee"), on
September 16, 1991, resolved that it intends to refrain from granting any
additional options under the 1990 Plan in excess of the 630,000 options
currently outstanding under the 1990 Plan. During 1994, Junkyard Partners
transferred 257,910 of its 630,000 options to one of its limited partners. On
December 29, 1994, DHC issued 257,910 restricted shares of Common Stock upon
the exercise of such transferred options. In connection therewith, DHC
received a total exercise price of $773,730. Effective May 19, 1995, DHC
purchased 69,453 of the remaining 372,090 options to purchase Common Stock
owned by Junkyard Partners. The options were exercisable at the time of such
purchase and otherwise would have expired on March 13, 2001. The aggregate
purchase price paid by DHC for the options was approximately $286,500, which
was equal to the difference between the closing price of Common Stock on May
19, 1995 ($7.125 per share) the effective date of such purchase, and the
exercise price of such options ($3.00 per share), or $4.125 per share. As of
December 31, 1995, Junkyard Partners continued to own 302,637 options to
purchase shares of Common Stock, and Messrs. Whitman, Heffernan and Rhein
continued to own their options, all of which are currently exercisable.
DHC also was authorized by the terms of its Plan of Reorganization to grant
to non-employee Directors of DHC, outside the 1990 Plan, options to purchase
140,000 shares of Common Stock (subject to adjustment in events affecting the
capitalization of DHC). On September 16, 1991, DHC granted to each of Mr.
Porrino and Dr. Ryan, both of whom are unaffiliated Directors of DHC, options
to purchase 46,667 shares of Common Stock and granted to Mr. Isenberg, also an
unaffiliated Director of DHC, options to purchase 46,666 shares of Common
Stock. The exercise price of all such options is $3.63, the arithmetic average
of the closing prices of the Common Stock on the American Stock Exchange for
the 30 days prior to the date of grant. These options expire ten years after
the date of grant and become exercisable in three equal annual installments
commencing on the first anniversary of the date of grant and on each of the
next two anniversaries thereafter. As of December 31, 1995, all of the options
granted outside the 1990 Plan, all of which are currently exercisable,
remained unexercised.
1995 Stock and Incentive Plan
The 1995 Stock and Incentive Plan (the "1995 Plan") is a qualified plan
which provides for the grant of any or all of the following types of awards:
stock options, including incentive stock options and non-qualified stock
options; stock appreciation rights, whether in tandem with stock options or
freestanding; restricted stock; incentive awards; and performance awards. The
purpose of the 1995 Plan is to enable DHC to provide incentives to increase
the personal financial identification of key personnel with the long term
growth of the Company and the interests of DHC's stockholders through the
ownership and performance of DHC's Common Stock, to enhance the Company's
ability to retain key personnel, and to attract outstanding prospective
employees and Directors. The 1995 Plan became effective as of March 21, 1995.
No incentive stock options may be granted under the 1995 Plan after March 21,
2005. The 1995 Plan will remain in effect until all awards have been satisfied
or expired. The 1995 Plan is administered by the Committee. The aggregate
number of shares of Common Stock which may be issued under the 1995 Plan, or
as to which stock appreciation rights or other awards may be granted, may not
exceed 1,700,000, of which a maximum of 1,500,000 shares may relate to awards
to eligible individuals (including employee Directors) and a maximum of
200,000 shares may relate to awards to non-employee Directors (all subject to
adjustment in the event of stock dividends, stock splits, reorganizations,
mergers and other events affecting the capitalization of DHC, and subject to
acceleration in the event of changes in control or ownership of DHC). The
maximum number of shares of Common Stock that may be subject to options, stock
appreciation rights, restricted stock awards, performance awards or incentive
awards
F-21
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
granted under the 1995 Plan to any one individual during any calendar year
cannot exceed 125,000 shares in any calendar year (subject to adjustment in
the event of stock dividends, stock splits and certain other events). On April
25, 1995, options to purchase 40,000 shares automatically were granted under
the 1995 Plan to Mr. Sellers upon his election as a Director of DHC. The
exercise price for such options is $7.00 per share (the mean of the high and
low prices of the Common Stock on the American Stock Exchange on the date of
grant). The options expire ten years after the date of grant and become
exercisable in three equal annual installments commencing on the first
anniversary thereof and on each of the next two anniversaries thereafter. None
of the options granted to Mr. Sellers is currently exercisable; however,
13,333 such options will become exercisable on April 25, 1996. On January 15,
1996, options to purchase an aggregate of 158,900 shares of Common Stock were
granted under the 1995 Plan to certain officers and employees of the Company.
Among the recipients of such options were Ms. Cosenza and Ms. Levey, who are
officers of DHC, who were granted options to acquire 3,000 shares and 15,000
shares respectively, and Mr. Story, who is a member of DHC's Board of
Directors, who received a grant of options to acquire 80,000 shares. The
exercise price for all of such options is $6.6875 per share (the mean of the
high and low prices of the Common Stock on the American Stock Exchange on the
date of the grant). The options expire ten years after the date of grant. None
of the options is currently exercisable. The options become exercisable at
various times, depending upon the holder of the options. Continued employment
with the Company is a condition to all of the January 1996 options.
Employee Benefit Plans
KCP maintains an Employee Stock Ownership Plan ("ESOP") of KCP and
Subsidiaries covering all of its employees. Effective April 1, 1993, Danielson
Trust became a participating employer, and its employees were admitted as
additional participants in the ESOP. The ESOP originally acquired common stock
of KCP in February 1990, financed by a loan from KCP in the principal amount
of $998,000 bearing interest at an annual rate of 10%. Shares of DHC Common
Stock were substituted for the KCP stock held by the ESOP as of December 31,
1991. At December 31, 1995, the principal balance due from the ESOP under such
loan was $323,000. The loan, which is guaranteed by KCP, is collateralized by
the Common Stock held by the ESOP. As the debt is repaid, shares are released
from collateral and allocated to employees. All of the shares of Common Stock
held by the ESOP are deemed to be outstanding for earnings per share
computations. KCP has elected to include the value of the Common Stock
allocated annually to participants under the ESOP in the calculation of its
matching contribution to the KCP and Subsidiaries Salary Deferred Plan and
Trust ("401(k) Plan"). Prior to July 1, 1995, the participating employers
contributed 50% of the first 6% of employee-contributed compensation to the
401(k) Plan; effective July 1, 1995, Danielson Trust reduced its maximum
contribution to the 401(k) Plan to 50% of the first 4% of employee-contributed
compensation. The shares of Common Stock owned by the ESOP as of December 31,
1994 and 1995, respectively, were as follows:
<TABLE>
<CAPTION>
1994 1995
------- -------
<S> <C> <C>
Allocated shares........................................... 83,948 94,714
Unreleased shares.......................................... 59,309 40,049
------- -------
Total.................................................. 143,257 134,763
======= =======
</TABLE>
KCP maintains a non-contributory defined benefit pension plan (the "Pension
Plan") covering substantially all of its employees. Effective April 1, 1993,
Danielson Trust was admitted as an additional employer participant in the
Pension Plan. Effective May 15, 1995 (the "Curtailment Date"), Danielson Trust
froze its participation in the Pension Plan, which is deemed to constitute a
curtailment event under Statement of Financial Accounting Standards No. 88,
"Employers' Accounting for Settlements and Curtailments of Defined Benefit
Pension Plans and for Termination Plans." The plan curtailment resulted in a
loss to the Company of $78,678. Danielson Trust
F-22
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
continues to be obligated to make pension plan contributions in respect of
interest on account balances in the Pension Plan as of the Curtailment Date;
however, it will not make any other contributions to, nor will any additional
employees of Danielson Trust be admitted as participants in, the Pension Plan
after the Curtailment Date. Benefits under the Pension Plan are based on an
employee's years of service and average final compensation. The funding policy
of the Pension Plan provides for the participating employers to contribute the
minimum pension costs equivalent to the amount required under the Employee
Retirement Income Security Act of 1974 and the Internal Revenue Code. Vested
benefits under the Pension Plan are fully funded. Any liability associated
with the Pension Plan is reflected in the Company's Consolidated Financial
Statements.
The following table sets forth the Pension Plan's funded status at December
31, 1994 and 1995, valued at January 1, 1995 and 1996, respectively (dollars
in thousands):
<TABLE>
<CAPTION>
1994 1995
------ -------
<S> <C> <C>
Actuarial present value of benefit obligations:
Accumulated benefits obligation, including vested
benefits of $963 for 1994 and $1,529 for 1995.......... $1,070 $ 1,904
====== =======
Projected benefit obligation.............................. $1,312 $ 2,478
Plan assets at fair value, primarily U.S. Government and
government agency obligations............................ 1,105 1,293
------ -------
Projected benefit obligation in excess of plan assets... (207) (1,185)
Unrecognized net (gain) loss.............................. (55) 807
Unrecognized prior service cost........................... 273 83
Adjustment required to recognize minimum liability........ -- (316)
------ -------
(Accrued) prepaid pension cost.......................... $ 11 $ (611)
====== =======
</TABLE>
Net pension costs for the years ended December 31, 1993, 1994 and 1995
include the following components:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
----------------------------------
1993 1994 1995
----- ----- -----
<S> <C> <C> <C>
Service cost........................... $ 219 $ 286 $ 243
Interest cost.......................... 67 100 156
Actual (return) loss on plan assets.... (100) 130 (201)
Net amortization and deferral.......... 35 (199) 131
----- ----- -----
Net pension cost..................... $ 221 $ 317 $ 329
===== ===== =====
</TABLE>
The Pension Plan's assets consist of U.S. Government obligations, registered
equity mutual funds and insured certificates of deposit. The average discount
rate used in determining the actuarial present value of the projected benefit
obligation was 8.25% and 7.25% for 1994 and 1995, respectively. The projected
long term rate of return on assets was 7% for each of 1994 and 1995. The
average rate of compensation increase used in determining the actuarial
present value of the projected benefit obligation was 3% for 1994 and 4.5% for
1995.
KCP maintains the 401(k) Plan in which all employees of KCP and, since April
1, 1993, Danielson Trust, are eligible to participate. Under the 401(k) Plan,
employees may elect to contribute up to 12% of their eligible compensation to
a maximum dollar amount allowed by the IRS. As noted above, prior to July 1,
1995, the
F-23
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
participating employers contributed 50% of the first 6% of employee-
contributed compensation; however, effective July 1, 1995, Danielson Trust
reduced its maximum contribution to 50% of the first 4% of Danielson Trust
employee-contributed compensation. The participating employers have opted to
include the value of the Common Stock allocated annually to participants under
the ESOP in the calculation of their matching contribution. In 1993, 1994 and
1995, the employers' matching obligation to the 401(k) Plan was satisfied
through ESOP shares, cash and forfeitures totaling $157,000, $156,000 and
$211,000, respectively, in value.
11) LEASES
DHC and its subsidiaries and affiliates have entered into various non-
cancelable operating lease arrangements for office space and data processing
equipment. The terms of the operating leases vary from three to ten years and
generally contain renewal options and escalation clauses based on increases in
operating expenses and other factors. Rent expense under operating leases was
$1.6 million for each of the years ended 1993 and 1994 and $1.5 million for
the year ended December 31, 1995.
At December 31, 1995, future net minimum operating lease rental payment
commitments were as follows (dollars in thousands):
<TABLE>
<CAPTION>
MINIMUM OPERATING LEASE
YEAR ENDING DECEMBER 31, RENTAL PAYMENTS
------------------------ -----------------------
<S> <C>
1996............................................ $1,870
1997............................................ 1,837
1998............................................ 1,098
1999............................................ 813
2000 and thereafter............................. 1,258
------
Total commitments............................. $6,876
======
</TABLE>
12) COMMITMENTS AND CONTINGENCIES
NAICC is involved in litigation relating to losses arising from insurance
contracts in the normal course of business which are provided for under
"unpaid losses and loss adjustment expenses." NAICC also is involved in other
litigation pertaining to general corporate matters and claims settlement
practices. Danielson Trust is involved in litigation in the normal course of
business. DHC is not involved in any material litigation. While litigation is
by nature uncertain, management, based in part on advice from counsel,
believes that the ultimate outcome of these actions will not have a material
adverse effect on the consolidated financial condition of DHC.
13) DISTRIBUTIONS RECEIVED BY THE COMPANY
On December 21, 1994, DHC received a partial distribution in the amount of
$750,000 from an unaffiliated trust that owns certain assets and liabilities
of a former subsidiary of DHC. The partial distribution is recorded as an
extraordinary item in the Company's 1994 Consolidated Statements of
Operations. DHC has been advised that the trust is anticipated to be
terminated in the near future. DHC does not anticipate that any amount it may
receive upon termination of the trust will be material.
On December 30, 1993, following approval of the California Superior Court,
MAIC received a distribution of approximately $268,000 upon termination of an
unaffiliated trust formerly administered by the California Insurance
Commissioner as trustee. Such trust had assumed the liabilities and
substantially all of the assets of MAIC and a former subsidiary of DHC. Under
the terms of the trust agreement, the trust was required to
F-24
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
distribute to MAIC all amounts which remained in the trust after satisfying or
otherwise resolving all claims against MAIC and such former subsidiary. The
distribution was recorded as an extraordinary item in the Company's 1993
Consolidated Statements of Operations. MAIC distributed such funds to DHC
following approval of the California Insurance Department (the "Insurance
Department"). The termination of the trust had the effect of finalizing a
Superior Court-approved interim distribution by such former trust to MAIC in
1992 of approximately $6.2 million, the proceeds of which also were
distributed to DHC upon approval of the Insurance Department, as well as
releasing all indemnities and pledges running from MAIC to the trust,
including a pledge of 3,526,140 shares of KCP common stock owned by MAIC.
Also during 1993, MAIC received proceeds of $220,000 from the liquidation of
the estate of a former Texas subsidiary of DHC. The distribution was accounted
for as an extraordinary item in the Company's 1993 Consolidated Statements of
Operations.
14) BUSINESS SEGMENTS
The Company operates in two industry segments: Insurance Services and Trust
and Fiduciary Services. The operations of DHC's primary insurance subsidiary,
NAICC, are in property and casualty insurance. NAICC writes workers'
compensation and non-standard automobile insurance in the western United
States, primarily California. NAICC writes approximately 87% of its insurance
in California. Personal automobile direct written premiums of $8.4 million,
$20 million and $28.8 million and net earned premiums of $2.4 million, $10.3
million and $15.2 million for the years ended December 31, 1993, 1994 and
1995, respectively, were produced through one general agent of NAICC. The
operations of DHC's trust subsidiary, Danielson Trust, consist of providing
private trust, retirement and custodial services, primarily in Southern
California. The accounts and operations of Danielson Trust as of and
subsequent to March 26, 1993, when DHC acquired all of the common stock of
Danielson Trust, are reflected in the Company's Consolidated Financial
Statements. The Company's Corporate operations consist of corporate staff and
treasury functions.
Total revenue by industry segment includes revenues from unaffiliated
customers as reported in the Company's consolidated income statement. Revenue
earned at the Corporate level is primarily dependent upon the rate of return
achieved on its investment portfolio.
Capital expenditures at the Corporate level include both the purchase price
of $4.6 million paid by DHC in March 1993 in its acquisition of the Danielson
Trust stock, including legal fees and other related acquisition expenses, and
the February 1994 acquisition by Danielson Trust of the assets of the WTS
division of Grossmont Bank for a purchase price of $2.5 million.
Identifiable assets are those assets, by industry, that are used in the
Company's operations in such industry. Corporate assets are composed
principally of cash and marketable securities.
Intersegment sales are not material to any of the Company's business
segments.
F-25
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
Summarized financial data for each of the Company's business segments is set
forth below:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
---------------------------
1993 1994 1995
-------- -------- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
REVENUES
Insurance Operations............................. $ 99,416 $105,098 $74,759
Trust Operations................................. 2,384 4,795 4,623
Corporate........................................ 597 447 699
-------- -------- -------
Total........................................ $102,397 $110,340 $80,081
======== ======== =======
INCOME (LOSS) FROM OPERATIONS BEFORE INCOME TAXES AND
EXTRAORDINARY ITEMS
Insurance Operations............................. $ 4,528 $ 5,978 $ 6,090
Trust Operations................................. (68) (611) (2,033)
Corporate........................................ (1,639) (2,119) (1,621)
-------- -------- -------
Total........................................ $ 2,821 $ 3,248 $ 2,436
======== ======== =======
CAPITAL EXPENDITURES
Insurance Operations............................. $ 424 $ 540 $ 298
Trust Operations................................. 178 367 79
Corporate........................................ 4,646 2,505 39
-------- -------- -------
Total........................................ $ 5,248 $ 3,412 $ 416
======== ======== =======
DEPRECIATION AND AMORTIZATION OF NON-INVESTMENT
ASSETS
Insurance Operations............................. $ 1,113 $ 1,133 $ 1,133
Trust Operations................................. 48 201 1,083
Corporate........................................ 37 41 43
-------- -------- -------
Total........................................ $ 1,198 $ 1,375 $ 2,259
======== ======== =======
</TABLE>
<TABLE>
<CAPTION>
AS OF DECEMBER 31,
------------------
1994 1995
-------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
ASSETS
Insurance Operations.................................. $219,839 $211,427
Trust Operations...................................... 7,541 5,438
Corporate............................................. 13,149 11,059
-------- --------
Total............................................. $240,529 $227,924
======== ========
</TABLE>
15) SUBSEQUENT EVENT
On February 26, 1996, DHC entered into a merger agreement pursuant to which
DHC will acquire all of the outstanding stock of Midland Financial Group, Inc.
("Midland") in a merger transaction. The purchase price will be 1.6 times the
1995 year end book value of Midland. As part of the transaction, DHC will make
a $30 million capital contribution to Midland at the closing. The
consideration to be received by the Midland shareholders will be paid 50% in
cash, 40% in DHC non-convertible preferred stock having a market dividend
rate, and 10% in Common Stock to be valued based upon a trading average prior
to the closing date. DHC
F-26
<PAGE>
DANIELSON HOLDING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONCLUDED)
DECEMBER 31, 1993, 1994 AND 1995
expects to finance the cash portion of the purchase price and the $30 million
capital contribution with the net proceeds of an underwritten public offering
of Common Stock to raise approximately $80 million, which is expected to close
concurrently with the acquisition. The DHC public offering will be made as
soon as possible and currently is anticipated to occur during the second
quarter of 1996.
Midland is engaged primarily in non-standard automobile insurance and
related activities in 16 states located primarily in the southern and western
United States.
The closing of the transaction is subject to various conditions, including
approvals by the stockholders of both companies, the receipt of regulatory
approvals, and financing. No assurance can be given that the conditions to the
transaction can be satisfied or that the transaction will be completed.
F-27
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1995 1996
------------ -----------
(UNAUDITED)
<S> <C> <C>
ASSETS:
Fixed maturities, available-for-sale at fair value
(Cost: $167,773 and $162,623)........................ $172,595 $162,916
Equity securities, at fair value (Cost: $256 and
$256)................................................ 629 602
Short term investments, at cost which approximates
fair value........................................... 8,570 5,052
-------- --------
TOTAL INVESTMENTS................................... 181,794 168,570
Cash.................................................. 605 294
Accrued investment income............................. 2,718 2,140
Premiums and fees receivable, net of allowances of
$157 and $184........................................ 8,826 7,295
Reinsurance recoverable on paid losses, net of
allowances of $388 and $388.......................... 1,828 2,977
Reinsurance recoverable on unpaid losses, net of
allowances of $425 and $425.......................... 21,112 18,098
Prepaid reinsurance premiums.......................... 2,226 2,414
Property and equipment, net of accumulated
depreciation of $6,849 and $6,871.................... 4,159 3,850
Deferred acquisition costs............................ 1,045 1,031
Excess of cost over net assets acquired............... 2,657 2,613
Other assets.......................................... 954 1,107
-------- --------
TOTAL ASSETS........................................ $227,924 $210,389
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Unpaid losses and loss adjustment expenses............ $137,406 $124,258
Unearned premiums..................................... 8,563 8,772
Policyholder dividends................................ 4,664 4,665
Reinsurance premiums payable.......................... 1,707 1,832
Funds withheld on ceded reinsurance................... 1,534 1,492
Other liabilities..................................... 4,229 3,548
-------- --------
TOTAL LIABILITIES................................... 158,103 144,567
Preferred stock ($0.10 par value; authorized
10,000,000 shares; none issued and outstanding)...... -- --
Common stock ($0.10 par value; authorized 20,000,000
shares; issued 15,370,894 shares; outstanding
15,360,255 shares)................................... 1,537 1,537
Additional paid-in capital............................ 46,131 46,131
Net unrealized gain on available-for-sale securities.. 5,195 639
Retained earnings..................................... 17,024 17,581
Treasury stock (Cost of 10,639 shares)................ (66) (66)
-------- --------
TOTAL STOCKHOLDERS' EQUITY.......................... 69,821 65,822
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.......... $227,924 $210,389
======== ========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-28
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE THREE
MONTHS ENDED
MARCH 31,
----------------
1995 1996
------- -------
<S> <C> <C>
REVENUES:
Gross premiums earned..................................... $22,391 $12,901
Ceded premiums earned..................................... (3,859) (3,933)
------- -------
Net premiums earned....................................... 18,532 8,968
Trust fee income.......................................... 1,076 1,085
Net investment income..................................... 3,093 2,839
Other income.............................................. 294 333
------- -------
TOTAL REVENUES.......................................... 22,995 13,225
------- -------
LOSSES AND EXPENSES:
Gross losses and loss adjustment expenses................. 16,895 8,586
Ceded losses and loss adjustment expenses................. (2,450) (1,915)
------- -------
Net losses and loss adjustment expenses................... 14,445 6,671
Policyholder dividends.................................... 137 44
Policy acquisition expenses............................... 3,930 2,539
General and administrative expenses....................... 3,832 3,401
------- -------
TOTAL LOSSES AND EXPENSES............................... 22,344 12,655
------- -------
Income before provision for income taxes.................... 651 570
Income tax provision........................................ 38 13
------- -------
NET INCOME.................................................. $ 613 $ 557
======= =======
EARNINGS PER SHARE OF COMMON STOCK AND COMMON EQUIVALENT
SHARE...................................................... $ .04 $ .03
======= =======
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-29
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE THREE MONTHS
ENDED MARCH 31,
---------------------
1995 1996
---------- ----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income............................................ $ 613 $ 557
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization......................... 536 298
Change in accrued investment income................... 253 578
Change in premiums and fees receivable................ 1,688 1,531
Change in reinsurance recoverables.................... 1,357 (1,149)
Change in reinsurance recoverable on unpaid losses.... (125) 3,014
Change in prepaid reinsurance premiums................ (239) (188)
Change in deferred acquisition costs.................. 67 14
Change in unpaid losses and loss adjustment expenses.. (1,565) (13,148)
Change in unearned premiums........................... (680) 209
Change in policyholder dividends payable.............. (391) 1
Change in reinsurance payables and funds withheld..... 538 83
Other, net............................................ (2,352) (895)
--------- ----------
Net cash (used in) operating activities............. (300) (9,095)
--------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sales:
Fixed income maturities available-for-sale............ 997 --
Investments, matured or called:
Fixed income maturities held-to-maturity.............. 483 --
Fixed income maturities available-for-sale............ 2,932 5,194
Investments, purchased:
Fixed income maturities held-to-maturity.............. (170) --
Fixed income maturities available-for-sale............ (4,224) --
Proceeds of sale of branch office assets................ -- 71
Proceeds of sale of property and equipment.............. -- 60
Purchases of property and equipment..................... (90) (59)
--------- ----------
Net cash provided by (used in) investing
activities......................................... (72) 5,266
--------- ----------
Net decrease in cash and short term investments....... (372) (3,829)
Cash and short term investments at beginning of year.. 3,776 9,175
--------- ----------
Cash and short term investments at end of period...... $ 3,404 $ 5,346
========= ==========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-30
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
MARCH 31, 1996
--------------
<S> <C>
COMMON STOCK
Balance, beginning of year..................................... $ 1,537
----------
Balance, end of period......................................... 1,537
----------
ADDITIONAL PAID-IN CAPITAL
Balance, beginning of year..................................... 46,131
----------
Balance, end of period......................................... 46,131
----------
NET UNREALIZED GAIN (LOSS) ON AVAILABLE-FOR-SALE SECURITIES
Balance, beginning of year..................................... 5,195
Net (decrease)................................................. (4,556)
----------
Balance, end of period......................................... 639
----------
RETAINED EARNINGS
Balance, beginning of year..................................... 17,024
Net income..................................................... 557
----------
Balance, end of period......................................... 17,581
----------
TREASURY STOCK
Balance, beginning of year..................................... (66)
----------
Balance, end of period......................................... (66)
----------
TOTAL STOCKHOLDERS' EQUITY................................... $ 65,822
==========
COMMON STOCK, SHARES
Balance, beginning of year..................................... 15,370,894
----------
Balance, end of period......................................... 15,370,894
==========
TREASURY STOCK, SHARES
Balance, beginning of year..................................... 10,639
----------
Balance, end of period......................................... 10,639
==========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-31
<PAGE>
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1) BASIS OF PRESENTATION
The accompanying unaudited Consolidated Financial Statements of Danielson
Holding Corporation ("DHC" or "Registrant") and subsidiaries (collectively
with DHC, the "Company") have been prepared in accordance with generally
accepted accounting principles. However, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete consolidated financial statements. In the opinion of management,
all adjustments (consisting of normal recurring accruals) considered necessary
for a fair presentation have been included. Operating results for the three
months ended March 31, 1996 are not necessarily indicative of the results that
may be expected for the year ended December 31, 1996. For further information,
reference is made to the Consolidated Financial Statements and footnotes
thereto included in DHC's Annual Report on Form 10-K for the year ended
December 31, 1995.
2) PER SHARE DATA
Per share data is based on the weighted average number of shares of common
stock of DHC, par value $0.10 per share ("Common Stock"), outstanding during a
particular year or other relevant period. Earnings per share computations, as
calculated under the treasury stock method, include the average number of
shares of additional outstanding Common Stock issuable for stock options,
whether or not currently exercisable. Such average number of shares were
16,048,970 and 16,013,221 for the three months ended March 31, 1995 and 1996,
respectively.
3) INCOME TAXES
DHC files a Federal consolidated income tax return with its subsidiaries and
with certain trusts that assumed various former liabilities of certain present
and former subsidiaries of DHC. The Company records its interim tax provisions
based upon estimated effective tax rates for the year.
The Company has made provisions for certain state and local franchise taxes.
The amount of these provisions is not material to the Consolidated Financial
Statements. Tax filings for these jurisdictions do not consolidate the
activity of the trusts referred to above. For further information, reference
is made to Note 8 of the Notes to Consolidated Financial Statements included
in DHC's Annual Report on Form 10-K for the year ended December 31, 1995.
F-32
<PAGE>
INDEPENDENT AUDITORS' REPORT
Board of Directors
Midland Financial Group, Inc.:
We have audited the consolidated balance sheets of Midland Financial Group,
Inc. and subsidiaries as of December 31, 1994 and 1995 and the related
consolidated statements of income (loss), changes in stockholders' equity and
cash flows for each of the years in the three-year period ended December 31,
1995. These consolidated financial statements are the responsibility of
Midland's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards 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. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Midland
Financial Group, Inc. and subsidiaries as of December 31, 1994 and 1995, and
the results of their operations and their cash flows for each of the years in
the three-year period ended December 31, 1995 in conformity with generally
accepted accounting principles.
As discussed in note 1, Midland adopted the provisions of Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" in 1994.
KPMG Peat Marwick LLP
Memphis, Tennessee
March 22, 1996, except as to note 12,
which is dated May 31, 1996
F-33
<PAGE>
MIDLAND FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1994 1995
-------- --------
<S> <C> <C>
ASSETS:
Cash and equivalents........................................ $ 29,196 $ 12,479
Investment securities (note 3):
Held to maturity:
Fixed maturities, at amortized cost (fair value
$122,953).............................................. 129,287 --
Available for sale:
Equity securities, at fair value (cost $5,877 and
$13,039 respectively).................................. 5,533 13,408
Fixed maturities, at fair value (amortized cost $1,981
and $146,637, respectively)............................ 1,879 148,916
-------- --------
Total investments..................................... 136,699 162,324
Receivables:
Agents and insureds....................................... 17,252 39,741
Premium finance contracts................................. 1,523 365
Reinsurance--direct....................................... 9,624 17,165
assumed............................................. 1,241 654
Prepaid reinsurance premium............................... 561 21,207
Accrued investment income................................. 2,244 2,296
Deferred policy acquisition costs......................... 15,148 9,617
Equity investments in nonconsolidated companies........... 424 293
Furniture and equipment, at cost, net of accumulated
depreciation of $1,085 and $1,979, respectively.......... 2,518 3,398
Notes receivable (note 9)................................. 2,256 2,158
Deferred income taxes (note 7)............................ 1,042 3,813
Income taxes recoverable.................................. -- 5,414
Other assets.............................................. 2,092 2,607
-------- --------
$221,820 $283,531
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Unpaid losses and loss adjustment expenses (notes 4 and 5).. $ 56,858 $104,516
Unearned premiums (note 5)--direct.......................... 55,901 77,311
assumed..................................................... 6,479 5,162
Due to reinsurers (note 5).................................. -- 7,946
Notes payable (note 6)...................................... 40,000 27,000
Other liabilities........................................... 4,788 12,751
-------- --------
164,026 234,686
-------- --------
Stockholders' equity (note 13):
Common stock, no par value.
Authorized 50,000,000 shares; 5,344,222 and 5,389,022
shares issued, respectively.............................. 39,258 39,420
Additional paid-in capital................................ 1,887 1,887
Retained earnings......................................... 16,943 5,796
Unrealized appreciation (depreciation) of securities
available for sale, net.................................. (294) 1,742
-------- --------
57,794 48,845
Commitments and contingencies (notes 5, 10 and 11)
$221,820 $283,531
======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-34
<PAGE>
MIDLAND FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (LOSS)
(DOLLARS IN THOUSANDS--EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
INCOME:
Premiums earned (note 5).................... $ 55,272 $ 118,218 $ 172,394
Policy fees................................. 4,748 6,491 10,649
Investment income (note 2).................. 3,330 6,190 9,839
Net realized investment gains (losses)(note
3)......................................... 698 42 (3)
Other income................................ 461 545 167
---------- ---------- ----------
64,509 131,486 193,046
---------- ---------- ----------
EXPENSES:
Losses and loss adjustment expenses (notes 4
and 5)..................................... 38,628 84,311 152,103
Policy acquisition costs.................... 12,494 31,431 50,070
Operating expenses.......................... 3,547 3,745 6,368
Interest.................................... 52 970 1,880
Amortization of intangible assets........... 106 129 135
---------- ---------- ----------
54,827 120,586 210,556
Income (loss) before provision for income
taxes and equity interest................ 9,682 10,900 (17,510)
Provision for income taxes (benefit) (note
7)........................................... 2,620 2,980 (7,445)
---------- ---------- ----------
Income (loss) before equity interests....... 7,062 7,920 (10,065)
Equity interests.............................. 6 5 (6)
---------- ---------- ----------
Net income (loss)........................... $ 7,068 $ 7,925 $ (10,071)
========== ========== ==========
PER SHARE DATA:
Net income (loss)........................... $ 1.34 $ 1.45 $ (1.88)
========== ========== ==========
Weighted average common shares outstanding.. 5,305,824 5,477,666 5,369,461
========== ========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
F-35
<PAGE>
MIDLAND FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
COMMON STOCK
-------------------
SHARES
ISSUED ADDITIONAL UNREALIZED
AND PAID-IN RETAINED APPRECIATION
OUTSTANDING AMOUNT CAPITAL EARNINGS (DEPRECIATION) TOTAL
----------- ------- ---------- -------- -------------- --------
<S> <C> <C> <C> <C> <C> <C>
Balances at December 31,
1992................... 4,346,123 $35,392 $1,887 $ 2,483 $ 118 $ 39,880
Net income.............. -- -- -- 7,068 -- 7,068
Warrants exercised...... 872,505 3,429 -- -- -- 3,429
Options exercised....... 70,686 231 -- -- -- 231
Appreciation of equity
securities............. -- -- -- -- 12 12
--------- ------- ------ -------- ------ --------
Balances at December 31,
1993................... 5,289,314 39,052 1,887 9,551 130 50,620
Net income.............. -- -- -- 7,925 -- 7,925
Cash dividends paid
($.10 per share)....... -- -- -- (533) -- (533)
Options exercised....... 14,000 46 -- -- -- 46
Warrants exercised...... 40,908 160 -- -- -- 160
Change in fair value of
securities available
for sale net of tax of
$231................... -- -- -- -- (424) (424)
--------- ------- ------ -------- ------ --------
Balances at December 31,
1994................... 5,344,222 39,258 1,887 16,943 (294) 57,794
Net (loss).............. -- -- -- (10,071) -- (10,071)
Cash dividends paid
($.20 per share)....... -- -- -- (1,076) -- (1,076)
Options exercised....... 44,800 162 -- -- -- 162
Change in fair value of
securities available
for sale net of tax of
$1,058................. -- -- -- -- 2,036 2,036
--------- ------- ------ -------- ------ --------
Balances at December 31,
1995................... 5,389,022 $39,420 $1,887 $ 5,796 $1,742 $ 48,845
========= ======= ====== ======== ====== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-36
<PAGE>
MIDLAND FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss)................................ $ 7,068 $ 7,925 $(10,071)
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Net realized (gains) losses on securities....... (698) (42) 3
Gain on disposal of fixed assets................ -- -- (33)
Depreciation.................................... 353 550 894
Amortization of intangibles..................... 139 351 285
Amortization of discounts and premiums.......... 264 673 529
Deferred taxes.................................. (249) (526) (3,828)
Changes in assets and liabilities:
Agent and insured receivables, net.............. (2,089) (10,983) (22,489)
Reinsurance receivables......................... (7,414) 12,826 (27,600)
Premium finance receivables..................... (256) (716) 1,158
Accrued interest receivable..................... (545) (1,085) (52)
Deferred policy acquisition costs............... (5,541) (8,062) 5,531
Other assets.................................... (677) (527) (868)
Unpaid losses and loss adjustment expenses...... 18,576 21,571 47,658
Unearned premiums............................... 24,176 23,505 20,093
Due to reinsurers............................... (2,246) (8) 7,946
Other liabilities............................... 1,582 430 7,461
Income taxes.................................... 100 593 (5,854)
-------- -------- --------
Net cash provided by operating activities........ 32,543 46,475 20,763
-------- -------- --------
Cash flows from investing activities:
Maturities and calls of securities
--held to maturity.............................. 1,145 4,985 3,260
--available for sale............................ -- 251 1,909
Sales of securities
--held to maturity.............................. 13,820 3,160 --
--available for sale............................ -- 5,720 15,274
Purchases of securities
--held to maturity.............................. (42,824) (67,139) (29,356)
--available for sale............................ -- (7,884) (13,208)
Investments in nonconsolidated companies......... 572 (14) 131
Fixed asset additions............................ (1,104) (1,414) (2,071)
Fixed asset disposals............................ -- -- 329
Investment in insurance programs................. (342) (404) 68
-------- -------- --------
Net cash used in investing activities............ (28,733) (62,739) (23,664)
-------- -------- --------
Cash flows from financing activities:
Notes payable to banks........................... 20,000 30,000 10,000
Note receivable from sale of equity investment... (405) 72 91
Notes receivable from others..................... (1,674) (249) 7
Proceeds from exercise of common stock warrants.. 3,429 160 --
Proceeds from issuance of common stock options... 231 46 162
Repayment of debt................................ (286) (10,000) (23,000)
Dividend to stockholders......................... -- (533) (1,076)
Payments received on notes from stockholders..... 94 -- --
-------- -------- --------
Net cash provided by (used in) financing
activities...................................... 21,389 19,496 (13,816)
-------- -------- --------
Net increase (decrease) in cash and equivalents.. 25,199 3,232 (16,717)
Cash and equivalents:
Beginning of year............................... 765 25,964 29,196
-------- -------- --------
End of year..................................... $ 25,964 $ 29,196 $ 12,479
======== ======== ========
Supplemental disclosures of cash flow
information:
Cash paid during the period for:
Interest........................................ $ 4 $ 936 $ 1,378
Income taxes.................................... 3,020 2,739 2,225
Noncash investing and financing activities:
Transfers to securities available for sale...... -- -- 149,190
Unrealized gain (loss) on securities available
for sale....................................... -- (655) 3,094
</TABLE>
See accompanying notes to consolidated financial statements.
F-37
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1993, 1994 AND 1995
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation and Basis of Presentation
The consolidated financial statements include the accounts of Midland
Financial Group, Inc. (the "Company") and its subsidiaries, except Agents'
Financial Services, Inc. a 40% owned affiliate ("AFS"). Midland's investment
in AFS is carried at cost plus its equity in the undistributed earnings since
date of acquisition. All significant intercompany transactions have been
eliminated.
In preparing the consolidated financial statements, management is required
to make estimates and assumptions that affect the reported amounts of assets
and liabilities as of the date of the balance sheet and revenues and expenses
for the period then ended.
Material estimates that are particularly susceptible to significant change
in the near term relate to the determination of the liability for unpaid loss
and loss adjustment expense and the recoverability of deferred policy
acquisition costs. In connection with the determination of these items,
management uses actuarial projections, historical data and current business
conditions to formulate estimates, including assumptions related to the
ultimate cost to settle claims. These estimates by their nature are subject to
uncertainties for various reasons. Midland's results of operations and
financial condition could be adversely affected should the ultimate payments
required to settle claims be materially in excess of the reserves currently
provided.
Nature of Operations
Midland writes non-standard personal automobile insurance and commercial
automobile insurance for small businesses through six Company-owned and three
independent general agencies. These general agencies market Midland's products
through approximately 8,500 independent insurance agents in 20 states,
primarily in the southeastern and southwestern regions of the United States.
During 1995, Midland wrote a significant amount of business in Arizona,
California and Florida representing 13%, 19% and 14%, respectively, of gross
written premiums.
The nature of the non-standard automobile insurance business is such that
Midland can from time to time, experience abnormally high levels of claims
payouts in the event of unusual weather and other conditions, such as heavy
rain, hail, wind storms and flooding. Midland utilizes both quota share and
excess of loss reinsurance coverage and catastrophic reinsurance options to
limit its exposure on these risks.
Increasing public interest in the availability and affordability of
insurance has prompted legislative, regulatory and judicial activity in
several states. This includes efforts to contain insurance prices, restrict
underwriting practices and risk classifications, mandate rate reductions and
refunds and generally expand regulation affecting the insurance industry.
These regulatory and judicial activities could impact Midland's premium
volume.
Midland manages its credit risk on its investment securities by maintaining
a highly-diversified investment portfolio with limited concentrations in any
given region or industry. Interest rate risk is managed through a combination
of highly liquid debt instruments purchased with an original maturity of three
months or less or fixed maturity securities with an average contractual
maturity of approximately 5 years.
Premiums and Policy Fees
Premiums, net of amounts ceded to reinsurers, are recognized as income
ratably over the terms of the policies. Unearned premiums represent premiums
applicable to the unexpired terms of the policies.
F-38
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
Midland operates six general agencies which receive non-refundable fees for
processing policy applications. Such income is recognized when the effort is
completed, generally in the month received.
Reinsurance
In the normal course of business, Midland seeks to reduce the loss that may
arise from catastrophes or other events that cause unfavorable underwriting
results by reinsuring certain levels of risk in various areas of exposure with
other insurance enterprises or reinsurers. Amounts recoverable from reinsurers
are estimated in a manner consistent with the claim liability associated with
the reinsured policy.
Deferred Policy Acquisition Costs
The costs of selling policies (principally commissions and premium taxes)
are deferred and reduced by the amount recovered from reinsurers through
ceding commissions. The net acquisition costs deferred are amortized to
expense over the periods in which the related premiums are earned. In
addition, during 1995, Midland wrote off approximately $5.4 million of these
costs related to premium reserve deficiencies. Anticipated losses and loss
adjustment expenses and investment earnings, based on past experience, are
considered in determining the recoverable acquisition costs to be deferred.
Net deferred policy acquisition costs were (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------
1993 1994 1995
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Balance, beginning of period................... $ 1,545 $ 7,086 $ 15,148
Acquisition costs deferred..................... 18,035 39,493 44,539
Amortized to expense during the period......... (12,494) (31,431) (50,070)
-------- -------- --------
Balance, end of period......................... $ 7,086 $ 15,148 $ 9,617
======== ======== ========
</TABLE>
Unpaid Losses and Loss Adjustment Expenses
The liability for unpaid losses and loss adjustment expenses includes
reported and incurred but not reported losses and loss adjustment expenses.
Losses and loss adjustment expenses include the estimated costs of
investigating and settling unpaid losses. Such amounts are determined on the
basis of claims adjusters' evaluations and other estimates, and accordingly,
there can be no assurance that the ultimate liability will not vary from such
estimates.
Investment Securities
Effective January 1, 1994, Midland adopted Statement of Financial Accounting
Standards No. 115, "Accounting for Certain Investments in Debt and Equity
Securities" (SFAS No. 115). Under SFAS No. 115, fixed maturity securities for
which a company has the ability and management has the positive intent to hold
to maturity are classified as held to maturity securities and are reported at
amortized cost. Fixed maturity and equity securities that are bought and held
principally for the purpose of selling them in the near term are classified as
trading securities and are reported at fair value, with unrealized gains and
losses included in earnings. Fixed maturity and equity securities not
classified as either held to maturity securities or trading securities are
classified as available for sale securities and are reported at fair value,
with unrealized gains and losses (net of deferred taxes) charged or credited
as a separate component of stockholders' equity.
F-39
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
During September 1995, Company management changed its intent with respect to
securities classified as held to maturity and reclassified all securities in
its held to maturity portfolio to available for sale. The transfer had no
impact on earnings. However, a $1.6 million fair value adjustment was
recorded, resulting in a net $1 million increase in stockholders' equity, net
of tax. Realized gains and losses on the sale of investments are recognized in
the determination of net income or loss on the basis of specific
identification. Amortization of premiums and accretion of discounts are
computed using the interest method. Changes in the valuation of securities
which are considered other than temporary are recorded as losses in the period
recognized.
Income Taxes
Midland files a consolidated federal income tax return with its wholly-owned
subsidiaries.
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
Depreciation
Depreciation on furniture and equipment is provided on a straight-line basis
over the estimated useful lives of the assets (three to seven years).
Cash Equivalents
Midland considers all highly liquid debt instruments purchased with an
original maturity at acquisition of three months or less to be cash
equivalents.
Earnings per Share
Earnings per common share are based on the weighted average number of common
shares outstanding, including common stock equivalents, during the periods
presented. Outstanding options and warrants are considered common stock
equivalents at that point where the market price exceeds the option price. The
resultant effect on earnings per share is calculated using the treasury stock
method. At December 31, 1995, these common stock equivalents were anti-
dilutive.
Fair Value Disclosures
The following methods were used to estimate the fair value of each class of
financial instruments for which it was practicable to estimate that value.
Fixed maturities and equity securities are valued using quoted market prices,
if available. If a quoted market price is not available, fair value is
estimated using quoted market prices of similar securities. Due to the
relatively short-term nature of cash, short-term investments, accounts
receivable, and accounts payable, their carrying amounts are reasonable
estimates of fair value. Fair value of long-term debt is approximately equal
to its recorded value. The fair value of Catastrophe Insurance Contracts is
determined based on the settlement price on the date of valuation as
determined by the exchange on which the contract was traded.
Recent Accounting Pronouncements
SFAS No. 121 "Accounting for the Impairment of Long-lived Assets and for
Long-lived Assets to be Disposed Of," issued in March, 1995, provides guidance
for recognition of impairment losses related to long-
F-40
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
lived assets, and certain intangibles and related goodwill. The Statement is
effective for fiscal years beginning after December 15, 1995.
SFAS No. 123 "Accounting for Stock-Based Compensation" was issued in
October, 1995, and provides for a fair value method of accounting for stock-
based compensation arrangements rather than the intrinsic value method now
followed. Adoption of the fair value method for purposes of preparing basic
financial statements is not required although disclosure or the effect of such
adoption is. The Statement is effective for options awarded after December 15,
1995.
Management believes the adoption of the above-mentioned statements will not
have a material impact on Midland's consolidated financial statements.
Reclassifications
Certain items in the prior years' financial statements have been
reclassified to conform with the 1995 presentation.
(2) INVESTMENT INCOME
Components of investment income were as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
Fixed maturities................................. $ 2,837 $ 5,318 $ 7,699
Equity securities................................ 194 164 607
Call options on U.S. Treasury Notes.............. -- 359 (361)
Cash and cash equivalents........................ 299 349 1,894
-------- -------- --------
Investment income.............................. $ 3,330 $ 6,190 $ 9,839
======== ======== ========
</TABLE>
(3) INVESTMENT SECURITIES
Realized and unrealized investment gains and losses were as follows (in
thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1993 1994 1995
---------------- --------
<S> <C> <C> <C>
Realized gains:
Fixed maturities............................... $ 104 $ 7 $ 764
Equity securities.............................. 965 530 227
------- -------- -------
Total gains.................................. 1,069 537 991
------- -------- -------
Realized losses:
Fixed maturities............................... 138 45 42
Equity securities.............................. 233 450 10
Catastrophe Insurance Contracts................ -- -- 942
------- -------- -------
Total Losses................................. 371 495 994
------- -------- -------
Net realized securities gains (losses)......... $ 698 $ 42 $ (3)
======= ======== =======
Change in unrealized gains (losses):
Fixed maturities............................... $ 1,272 $ (7,812) $ 8,715
======= ======== =======
Equity securities.............................. $ 12 $ (931) $ 713
======= ======== =======
</TABLE>
F-41
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
The amortized cost and estimated fair value of securities follow (in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1994
-----------------------------------------
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
HELD TO MATURITY:
Obligations of the U.S. Government
and its agencies................... $ 1,521 $ -- $ 70 $ 1,451
Obligations of states and political
subdivisions....................... 85,749 15 3,200 82,564
Corporate notes and debentures...... 3,667 9 189 3,487
Redeemable preferred stock.......... 38,350 1 2,900 35,451
-------- ------ ------- --------
$129,287 $ 25 $ 6,359 122,953
-------- ------ ------- --------
AVAILABLE FOR SALE:
Corporate notes and debentures...... 1,730 21 120 1,631
Redeemable preferred stock.......... 251 -- 3 248
Equity securities................... 5,877 145 489 5,533
-------- ------ ------- --------
7,858 166 612 7,412
-------- ------ ------- --------
$137,145 $ 191 $ 6,971 $130,365
======== ====== ======= ========
<CAPTION>
DECEMBER 31, 1995
-----------------------------------------
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
AVAILABLE FOR SALE:
Obligations of the U.S. Government
and its agencies................... $ 1,207 $ 8 $ -- $ 1,215
Obligations of states and political
subdivisions....................... 83,838 1,536 108 85,266
Corporate notes and debentures...... 19,722 125 37 19,810
Redeemable preferred stock.......... 41,870 1,064 309 42,625
Equity securities................... 13,039 483 114 13,408
-------- ------ ------- --------
$159,676 $3,216 $ 568 $162,324
======== ====== ======= ========
</TABLE>
The amortized cost and estimated fair value of fixed maturities by
contractual maturity are shown below. Expected maturities may differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties (in thousands).
<TABLE>
<CAPTION>
AMORTIZED ESTIMATED
COST FAIR VALUE
--------- ----------
<S> <C> <C>
AVAILABLE FOR SALE:
Due in one year or less................................. $ 18,838 $ 18,858
Due after one year through five years................... 70,525 71,056
Due after five years through ten years.................. 37,938 39,242
Due after ten years..................................... 19,336 19,760
-------- --------
$146,637 $148,916
======== ========
</TABLE>
Proceeds from sales of securities during 1993 were $13,820,000. Gross gains
of $1,069,000 and gross losses of $371,000 were realized in 1993. In 1994,
held to maturity securities with an amortized cost of $3,163,000 were sold
resulting in realized losses of $3,000. All sales from the held to maturity
portfolio in 1994 were made
F-42
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
within three months of the contractual maturity of the security. Proceeds from
sales of securities available for sale during 1994 were $5,720,000. Gross
gains of $537,000 and gross losses of $492,000 were realized on those sales.
Proceeds from sales of securities available for sale during 1995 were
$15,274,000. Gross gains of $991,000 and gross losses of $52,000 were realized
on these sales.
Investments in fixed maturities on deposit with various regulatory bodies as
required by law are as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
-------------
1994 1995
------ ------
<S> <C> <C>
Arkansas Commissioner of Insurance............................ $ 50 $ 50
California Commissioner of Insurance.......................... -- 200
Georgia Commissioner of Insurance............................. 25 25
Louisiana Commissioner of Insurance........................... 70 140
Nevada Commissioner of Insurance.............................. 250 250
New Mexico Department of Insurance............................ 375 375
Oklahoma Commissioner of Insurance............................ 100 100
South Carolina Department of Insurance........................ 650 650
Tennessee Department of Insurance............................. $1,675 $2,025
------ ------
$3,195 $3,815
====== ======
</TABLE>
Investments in securities of a single issuer aggregating more than 10% of
stockholders' equity follow (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
-------------
1994 1995
------ ------
<S> <C> <C>
Shelby County, TN.............................................. $5,895 $6,670
Metro Nashville, Davidson County, TN........................... 5,733 6,570
Memphis, TN Electric System.................................... 4,575 5,206
</TABLE>
F-43
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
(4) UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
Midland's consulting actuary has determined that Midland's liability for
unpaid losses and loss adjustment expenses is 2% less than the actuary's
selected ultimate liability and falls within an acceptable range of actuarial
estimates.
The following table presents information on changes in the reserve for
losses and loss adjustment expenses of Midland for the periods presented (in
thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1993 1994 1995
------- ------- --------
<S> <C> <C> <C>
Reserve for losses and loss adjustment expenses at
beginning of year................................ $16,711 $35,287 $ 56,858
Less reinsurance recoverables on unpaid losses and
loss adjustment expenses......................... 9,590 13,634 6,880
------- ------- --------
Net reserves for losses and loss adjustment
expenses at beginning of year.................... 7,121 21,653 49,978
Add:
Provision for losses and loss adjustment
expenses occurring:
Current year.................................. 38,341 82,241 141,130
Prior years................................... 287 2,070 10,973
------- ------- --------
Total....................................... 38,628 84,311 152,103
Less:
Loss and loss adjustment expense payments for
claims occurring:
Current year.................................. 17,334 39,542 73,493
Prior years................................... 6,762 16,444 36,383
------- ------- --------
Total....................................... 24,096 55,986 109,876
------- ------- --------
Net reserve for losses and loss adjustment
expenses at end of year.......................... 21,653 49,978 92,205
Plus reinsurance recoverables on unpaid losses and
loss adjustment expenses......................... 13,634 6,880 12,311
------- ------- --------
Reserve for losses and loss adjustment expenses at
end of year...................................... $35,287 $56,858 $104,516
======= ======= ========
</TABLE>
The reinsurance recoverables on paid losses and loss adjustment expenses are
$2,762, $2,744 and $4,854 for 1993, 1994, and 1995, respectively.
During 1995, Midland strengthened its prior year loss reserves by
approximately $11.0 million due to adverse development in both the commercial
and personal programs and due to higher than anticipated LAE. This adverse
development was impacted by a processing backlog in the western region claims
office which occurred in the first half of 1995 related to the Arizona and
California full-coverage programs.
(5) REINSURANCE
During 1993 the wholly-owned property and casualty insurance subsidiaries of
Midland maintained "quota share" reinsurance agreements whereby a portion of
premiums written, incurred losses and loss adjustment
F-44
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
expenses were ceded to other insurance companies. These quota-share
reinsurance agreements were not utilized in 1994. At September 30, 1995, these
subsidiaries entered into a 30% quota share agreement with Kemper Reinsurance
Company, including a cession of unearned premiums as of that date. This
agreement provides reinsurance on Midland's personal automobile programs,
which generally are for mandatory limits of liability and other coverages of
no more than $25,000 per person and $50,000 per accident for bodily injury,
and in the range of $10,000 to $20,000 for property damage.
The commercial and coastal dwelling programs of Midland provide property and
liability limits of up to $1,000,000. Through excess of loss reinsurance,
Midland limits its retention on any one risk to $375,000.
Under reinsurance agreements, in the event that the reinsuring company is
unable to pay its portion of the loss based on the coverage ceded, Midland
would be responsible for the entire loss. Midland evaluates the financial
viability of its reinsurers on a regular basis and has no reason to believe
that these reinsurers will be unable to pay their portion of the loss based on
the coverage ceded.
Amounts ceded under all reinsurance agreements were as follows (in
thousands)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------
1993 1994 1995
-------- ------- --------
<S> <C> <C> <C>
Premiums written.................................. $ 24,648 $ 1,359 $ 38,372
Premiums earned................................... 25,461 10,801 17,719
Losses and loss adjustment expenses incurred...... 18,936 7,279 14,770
Unearned premiums................................. 9,996 554 21,207
Unpaid losses and loss adjustment expenses........ 13,634 6,880 12,311
</TABLE>
(6) NOTES PAYABLE AND OTHER DEBT
Components of notes payable were as follows (in thousands):
<TABLE>
<CAPTION>
1994 1995
------- -------
<S> <C> <C>
Short-term borrowings from bank; 8.5% interest;
Repaid January 1995...................................... $20,000 --
Bank credit facility, $30 million, secured by subsidiary
operations:
Fixed portion of borrowings; 7.11% interest.............. 10,000 --
Floating portion of borrowings; LIBOR + 2.25% (8.5% at
December 31, 1995)...................................... 10,000 $27,000
------- -------
$40,000 $27,000
======= =======
</TABLE>
At September 30, 1995, Midland defaulted on certain financial covenants
related to the bank credit facility, due to generating a net loss from
operations. Midland has since been unable to cure the default. On January 25,
1996, Midland signed an agreement with the lender to change the entire
facility to a floating interest rate equivalent to 8.5% retroactive to October
1, 1995. In addition, Midland paid a $67,500 amendment fee and the lender
fixed the facility at $27 million decreasing with future principal payments.
Effective March 1, 1996, the loan agreement was restructured, with the
payment of an additional $50,000 fee. The floating rate was adjusted to LIBOR
+ 3.25% through June 30, 1996 and LIBOR + 3.50% thereafter.
In anticipation of the completion of Midland's proposed merger with
Danielson Holding Corporation, further discussed at Note 15, "Subsequent
Events," the lender has agreed to waive a principal payment
F-45
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
scheduled for March 31, 1996. Principal is payable quarterly thereafter
through June 1, 1998. Interest is payable quarterly March 31, 1996 through
June 30, 1998.
(7) INCOME TAXES
The components of income tax expense (benefit) are as follows (in
thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1993 1994 1995
------- ------- --------
<S> <C> <C> <C>
Current:
Federal........................................ $ 2,705 $ 3,311 $ (3,845)
State.......................................... 164 195 228
------- ------- --------
2,869 3,506 (3,617)
Deferred:
Federal........................................ (226) (528) (3,695)
State.......................................... (23) 2 (133)
------- ------- --------
(249) (526) (3,828)
------- ------- --------
Total............................................ $ 2,620 $ 2,980 $ (7,445)
======= ======= ========
</TABLE>
Income tax expense differs from the amounts computed by applying the federal
income tax rates to income before income taxes and equity interests due to the
following (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1993 1994 1995
------- ------- --------
<S> <C> <C> <C>
Tax expense at statutory rate................... $ 3,292 $ 3,715 $ (5,953)
State taxes (net of federal deduction).......... 93 129 63
Dividend received deduction..................... (172) (343) (661)
Tax exempt interest............................. (562) (802) (1,180)
Other, net...................................... (31) 281 286
------- ------- --------
$ 2,620 $ 2,980 $ (7,445)
======= ======= ========
</TABLE>
F-46
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at December
31, 1995 and 1994, respectively, are presented below in thousands:
<TABLE>
<CAPTION>
1994 1995
------- -------
(UNAUDITED)
<S> <C> <C>
Deferred tax assets:
Unearned premiums...................................... $ 4,327 $ 4,244
Discounted losses...................................... 1,957 3,407
Unrealized securities losses........................... 151 --
Deferred compensation.................................. -- 253
Net operating loss carryforwards....................... -- 248
Other.................................................. 253 192
------- -------
Total gross deferred tax asset....................... 6,688 8,344
Less valuation allowance............................. -- --
------- -------
Net deferred tax assets.............................. 6,688 8,344
Deferred tax liabilities:
Deferred acquisition costs............................. (5,301) (3,324)
Equipment, principally due to differences in deprecia-
tion.................................................. (95) (194)
Unrealized securities gains............................ -- (906)
Other.................................................. (250) (107)
------- -------
Total gross deferred tax liability................... (5,646) (4,531)
------- -------
Net deferred tax asset............................... $ 1,042 $ 3,813
------- -------
</TABLE>
Based upon the level of historical taxable income and projections for future
taxable income over periods which the deferred tax assets are deductible,
management believes it is more likely than not Midland will realize the
benefits of the deductible differences at December 31, 1995.
(8) RELATED PARTY TRANSACTIONS
During 1993, 1994 and 1995, Midland paid fees of $201,000, $324,000, and
$351,000, respectively, to an investment company which has certain
stockholders and directors that are also stockholders and directors of
Midland.
Midland has a line of credit to an affiliate which bears interest at prime
plus 3%. Balances outstanding related to this line of credit were $1.3 million
and $1.2 million at December 31, 1994 and 1995, respectively.
(9) EMPLOYEE BENEFIT AND INCENTIVE PLANS
In April, 1989, Midland adopted a nonqualified incentive stock option plan
for officers and key employees. The plan provided for the granting of options
to purchase up to 154,000 shares of common stock of Midland at prices not less
than fair market value, as determined by the Board of Directors, on the date
options are granted. The options vest ratably over a 5 year period and are
exercisable up to 10 years from the dates of grant. In connection with the
granting of an option, Midland also granted a companion stock appreciation
right ("SAR"). The SAR gives the employee the right to surrender for
cancellation all or part of the shares covered by the option, to the extent
such option is exercisable. In the event of surrender, an employee is entitled
to receive payment of up to 100% of the option exercise price. Options with
related SAR's were granted as follows: 1989, 59,486 shares at $3.26 per share;
1990, 42,000 shares at $3.32; and 1991, 42,000 at $3.71. During 1993, options
to purchase 70,686 shares were exercised for a total of $231,000. During 1994,
options to purchase 14,000 shares
F-47
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
were exercised for a total of $46,410. During 1995, options to purchase 44,800
shares were exercised for a total of $162,000.
In November, 1992, the plan was frozen with the simultaneous adoption of a
long-term incentive plan for officers and directors. The remaining options
available for grant under the previous plan were combined with new options
available for grant for a total of 136,514 options available. In 1993 and in
1995, the stockholders approved share increases in the number of shares
available under this plan totalling 500,000. Options under the 1992 plan are
granted at the fair market value at the date of grant, vest over varying
periods at the discretion of the committee, and expire 10 years from the date
of grant. Options to purchase 129,500 shares were granted in 1992 at an option
price of $14 per share. Options to purchase 222,000 shares were granted in
1993 at prices from $20.25 to $21.625. Options to purchase 35,000 shares were
granted in 1994 at an option price of $14.75. Options to purchase 157,000
shares were granted in 1995 at prices from $9.50 per share to $18.75 per
share. No options have been exercised with respect to the plan.
Midland has a defined contribution plan (Savings Plan) intended to be a
qualified plan under Section 401(a) and 401(k) of the Internal Revenue Code.
Eligible participants include all officers and employees with six months of
service. Employee contributions (up to 15% of defined compensation) are
matched 50% by Midland up to a limit of 2.5% of the participant's
compensation. The participants vest in Midland's matched contributions in
equal increments over a four-year period. Matching expense related to the
savings plan for the years ended December 31, 1993, 1994 and 1995 were
approximately $84,000, $120,883, and $99,700, respectively.
In 1994, Midland adopted a deferred compensation plan under which certain
employees may defer up to 25% of their compensation and its directors may
defer 100% of their compensation. Midland matches 100% of the employee
deferrals up to 10% of their compensation in years in which Midland's net
income reaches certain levels. Amounts deposited into these plans are
unsecured liabilities of Midland. The total liability included in accrued
premium taxes and other expenses for these plans at December 31, 1995 and 1994
was $979,174 and $373,485, respectively. The contribution matching expense
related to the plan for the year ended December 31, 1994 was $114,698. Due to
the net loss for the year ended December 31, 1995, Midland was not required to
match employee contributions. In connection with the administration of this
plan, Midland has purchased Company-owned life insurance policies insuring the
lives of certain directors, officers and key employees. The purpose of these
policies is to fund the payment of benefits to the participants.
(10) LEGAL PROCEEDINGS
In August 1994, Midland and three of its wholly owned subsidiaries were
named in a civil lawsuit on behalf of two Chapter 13 debtors and as putative
representatives of a plaintiff's class challenging the validity of the Chapter
13 automobile insurance program in Alabama. The plaintiffs sought
certification of a class, a declaration that the insurance policies violate
Alabama statutes, a permanent injunction against further implementation of the
Chapter 13 automobile insurance program in Alabama, and reimbursement of
premiums received by Midland under the Chapter 13 automobile program in
Alabama. Midland and its subsidiaries denied the material allegations of the
complaint and were awarded Dismissal by Summary Judgement in August 1995. The
plaintiffs filed a motion for reconsideration which was denied in October
1995. The plaintiffs have appealed this determination and no decision has been
rendered to date.
In May 1995, Midland, one of its officers and one of its subsidiaries were
named in a wrongful termination lawsuit by a former employee. This lawsuit is
pending in the State of Illinois Circuit Court, Seventh Judicial Circuit. The
plaintiff seeks $200,000 in compensatory damages and $1 million in punitive
damages. The matter is in the discovery stages. Management of Midland believes
that it had valid cause for the dismissal of this employee and presently
intends to vigorously defend the case. Management of Midland believes that the
resolution of this matter will not have a material impact on Midland's
operations.
F-48
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
Midland and its subsidiaries are involved in asserted claims in the normal
course of business. Management believes the outcome of these matters in the
aggregate will not have a material adverse effect on the consolidated
financial statements of Midland.
(11) COMMITMENTS AND CONTINGENT LIABILITIES
Catastrophe Insurance Contracts
Midland utilizes catastrophe insurance futures and options (CAT contracts)
to help manage Midland's risk from catastrophic losses. These CAT contracts
are traded on the Chicago Board of Trade and are designed to track insured
catastrophic losses on a regional and nationwide basis. The CAT contracts are
indexed to loss notices as determined by Insurance Services Office, Inc. (ISO)
using data obtained from designated reporting companies. ISO considers losses
reported to the designated companies as of the end of the quarter following
the loss quarter. ISO estimates quarterly premiums based on the most recent
statutory annual statements filed by the reporting companies. Since the
premium is known and constant during the life of the CAT contract, any changes
in CAT contract prices are due entirely to changes in the amount of reported
losses.
The CAT program is used by management as a supplement to reinsurance
treaties. Depending on CBOT quotes and conditions in the traditional
catastrophic reinsurance market, the standardized nature of the CAT contracts
provides management the opportunity to "shop" for better price and coverage in
specific regions that a reinsurance company may not be able to offer in a
timely fashion.
The program has been used to reduce Midland's exposure to catastrophic risk
with the ISO September Eastern contract at the CBOT. These particular
contracts focus on the Atlantic coast and gulf regions of the country. It is
in certain areas of those regions that management believes it has catastrophic
exposure that is too costly to reinsure "traditionally". The contracts are
based on industry wide loss ratio calculated by the ISO. Management purchases
or sells calls or puts at various loss ratios to be long the loss ratio. This
way, if the industry is suffering from catastrophic losses the loss ratio will
increase. Management believes that gains in the value of the CAT contracts
resulting from catastrophic losses will offset underwriting losses. Should the
value of the contracts decline as a result of lower industry losses,
Management believes that the effect will be offset by lower underwriting
losses.
During 1995, Midland wrote 384 contracts with a $9.6 million notional value,
purchased 272 contracts with a $6.8 million notional value, and terminated 193
contracts with a $4.8 million notional value. Midland realized gains of
$855,000 on terminated contracts during 1995. At December 31, 1995, Midland
had unrealized losses of $1.8 million on open contracts. The contracts are
carried at fair value at December 31, 1995. The table below summarizes the
open futures and options positions and the owned options at December 31, 1995:
<TABLE>
<CAPTION>
PREMIUM
NUMBER OF NOTIONAL STRIKE EXPIRATION RECEIVED FAIR
CONTRACTS AMOUNT PRICE DATE (PAID) VALUE
--------- ----------- ------ ---------- ----------- --------
<S> <C> <C> <C> <C> <C> <C>
Call options..... 129 $ 3,225,000 70 4/30/96 $ (261,064) $ --
Put options...... 12 300,000 70 4/30/96 93,627 184,500
Call options..... 184 4,600,000 50 4/30/96 581,555 --
Futures.......... 138 3,450,000 70 4/30/96 (2,415,000) 389,970
--- ----------- ----------- --------
463 $11,575,000 $(2,000,882) $574,470
=== =========== =========== ========
</TABLE>
Leases
Midland and its subsidiaries lease office space under noncancellable
operating leases expiring through the year 2006. Rent expense under the leases
was approximately $460,000, $669,000, and $930,000 for the years
F-49
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
ended December 31, 1993, 1994 and 1995, respectively. Future rental
commitments under noncancellable operating leases aggregate approximately
$5,632,000 at December 31, 1995 and are payable as follows (in thousands):
<TABLE>
<S> <C>
1996............................................................... $1,294
1997............................................................... 1,262
1998............................................................... 769
1999............................................................... 405
2000............................................................... 326
2001 and beyond.................................................... 1,576
------
$5,632
======
</TABLE>
(12) REGULATORY EXAMINATION
The State of Tennessee Department of Commerce and Insurance (The Examiners)
have completed the fieldwork in connection with their regular examination of
Midland Risk Insurance Company (MRIC) and Specialty Risk Insurance Company
(SRIC) as of December 31, 1994 and issued their report of findings. The
Examiners have questioned the admissibility of certain of the assets of MRIC
and SRIC, including MRIC's $9 million equity investment in SRIC, for statutory
capital purposes. The aggregate amount of assets whose admissibility the
Examiners questioned was approximately $10 million and $9.6 million at
December 31, 1995 and 1994, respectively. Midland's management has responded
to the Examiner's report and indicated that they believe the assets should be
admitted for statutory capital purposes. In addition, MRIC and SRIC continue
to prepare financial statements for statutory reporting purposes, which admit
the assets questioned by the Examiners. Midland is unable to determine the
outcome, if any, of the matters raised by the Examiners. However, management
believes that the affect of not admitting such assets would not materially
impact Midland's operations because the resulting impact on Midland's risk-
based capital position and capital adequacy ratio is not expected to affect
Midland's ability to continue its anticipated level of premium writings.
F-50
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
(13) STATUTORY CAPITAL AND SURPLUS
Statutory accounting practices for insurance companies differ somewhat from
generally accepted accounting principles. Reconciliations of statutory capital
and surplus and income, as determined using statutory accounting principles,
to the amounts included in the accompanying financial statements is as
follows:
<TABLE>
<CAPTION>
AT DECEMBER 31,
------------------
1994 1995
-------- --------
<S> <C> <C>
Combined statutory capital and surplus.................. $ 62,558 $ 56,588
GAAP adjustments:
Deferred policy acquisition costs..................... 15,148 9,617
Unrealized appreciation on fixed maturities........... -- 1,957
Deferred income taxes................................. (5,549) 4,051
Other................................................. 345 760
-------- --------
GAAP stockholders' equity........................... 72,502 72,973
Noninsurance company adjustments:
Note payable.......................................... (20,000) (27,000)
Other................................................. 5,292 2,872
-------- --------
Stockholders' equity as presented herein............ $ 57,794 $ 48,845
======== ========
<CAPTION>
YEAR ENDED
------------------
1994 1995
-------- --------
<S> <C> <C>
Combined statutory net income (loss).................... 2,068 (9,617)
GAAP adjustments:
Deferred policy acquisition costs..................... 7,159 (5,292)
Deferred income taxes................................. (2,727) 3,200
-------- --------
GAAP net income..................................... 6,500 (11,709)
Noninsurance company adjustments........................ 1,425 1,638
-------- --------
Net income (loss) as presented herein................. $ 7,925 $(10,071)
======== ========
</TABLE>
MRIC cannot declare dividends in excess of the greater of 10% of statutory
capital and surplus or the net income for the preceding fiscal year unless
approval is obtained from the Tennessee Department of Insurance. In addition,
MRIC is required by the State of Tennessee to maintain statutory capital and
surplus of at least $2,000,000.
F-51
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1993, 1994 AND 1995
(14) QUARTERLY FINANCIAL DATA (UNAUDITED)
Presented below is unaudited quarterly financial information for 1994 and
1995. The information has been restated for the effect of reclassifying
securities in the held to maturity portfolio to the available for sale
portfolio during the third quarter of 1995 (see Note 1).
<TABLE>
<CAPTION>
1994
------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Total income.............................. $ 24,359 $ 32,153 $ 36,199 $ 38,775
Total expenses............................ 21,126 28,600 32,287 38,573
Net income................................ 2,258 2,454 2,637 576
Net income per share...................... .41 .45 .48 .11
<CAPTION>
1995
------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Total investments
--held to maturity...................... $139,330 $144,102 -- --
--available for sale.................... 8,793 8,828 $160,203 $162,324
Total assets.............................. 219,977 254,276 287,438 283,531
Total stockholders' equity................ 60,407 63,206 58,111 48,845
Total income.............................. 42,870 50,691 55,321 44,164
Total expenses............................ 39,348 47,066 64,554 60,530
Net income (loss)......................... 2,609 2,795 (5,723) (9,752)
Net income (loss) per share............... .48 .51 (1.05) (1.81)
</TABLE>
(15) SUBSEQUENT EVENTS
On February 9, 1996, Midland's Board of Directors suspended the policy
adopted in August, 1994 of paying a quarterly dividend on its common stock.
On February 26, 1996, Midland entered into an Agreement and Plan of Merger
with Danielson Holding Corporation. The merger will be accounted for by the
purchase method of accounting. The Agreement calls for holders of Midland's
stock to receive consideration of 1.6 times audited book value at December 31,
1995, in a combination of cash, preferred stock and common stock. Midland
anticipates completion of the merger during the second quarter of 1996.
Effective March 1, 1996, Midland entered into an Amended and Restated Loan
Agreement with its lender, SunTrust Bank of Nashville. This agreement provides
for principal payments quarterly June 30, 1996 through June 30, 1998 and
interest payments quarterly March 31, 1996 through June 30, 1998. The loan
agreement includes new financial covenants, with which management expects to
comply.
F-52
<PAGE>
MIDLAND FINANCIAL GROUP, INC.
CONDENSED CONSOLIDATED
BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
DEC. 31, MARCH 31,
1995 1996
-------- -----------
(UNAUDITED)
<S> <C> <C>
ASSETS
Cash and equivalents....................................... $ 12,479 $ 3,925
Investments available for sale at fair value:
Equity securities........................................ 13,408 14,838
Fixed maturities......................................... 148,916 147,163
-------- --------
162,324 162,001
Receivables:
Agents and insureds...................................... 39,741 38,473
Finance contracts receivable............................. 365 282
Reinsurance receivables--direct.......................... 17,165 18,570
--assumed................................................ 654 432
Prepaid reinsurance premium................................ 21,207 21,408
Accrued investment income.................................. 2,296 2,067
Deferred policy acq. costs................................. 9,617 9,440
Net furniture, equip, fixtures............................. 3,398 3,334
Notes receivable........................................... 2,158 2,743
Subsidiary investments..................................... 293 2,267
Deferred income taxes...................................... 3,813 4,350
Income taxes recoverable................................... 5,414 5,624
Other assets............................................... 2,607 4,659
-------- --------
Total Assets........................................... $283,531 $279,575
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Unpaid losses and loss adjustment expenses................. $104,516 $107,716
Unearned premiums and fees--direct......................... 77,311 78,710
- --assumed.................................................. 5,162 3,172
Due to reinsurers.......................................... 7,946 3,473
Notes payable and other debt............................... 27,000 26,000
Accrued premium taxes and other expenses................... 12,751 9,923
-------- --------
Total Liabilities...................................... 234,686 228,994
-------- --------
Common stock............................................... 39,420 41,625
Additional paid-in capital................................. 1,887 1,887
Retained earnings.......................................... 5,796 6,354
Unrealized depr. on equity................................. 1,742 715
Total Stockholders' Equity............................. 48,845 50,581
-------- --------
Total Liabilities and Stockholders' Equity........... $283,531 $279,575
======== ========
</TABLE>
F-53
<PAGE>
MIDLAND FINANCIAL GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
--------------------
1995 1996
--------- ---------
<S> <C> <C>
Gross premiums written.................................. $ 49,083 $ 51,890
========= =========
Net premiums written.................................... $ 48,293 $ 38,271
========= =========
Income:
Premiums earned....................................... $ 38,787 $ 39,064
Commissions and policy fees........................... 1,983 3,080
Investment income..................................... 2,064 2,159
Net realized investment gains......................... (30) 407
Other income.......................................... 66 21
--------- ---------
42,870 44,731
--------- ---------
Expenses:
Losses and loss adjustment expenses................... 27,786 32,147
Policy acquisition costs.............................. 9,671 9,746
Operating expenses.................................... 1,458 1,755
Interest.............................................. 402 629
Amortization of intangible assets..................... 31 36
--------- ---------
39,348 44,313
--------- ---------
Income before provision for income taxes and equity in-
terests................................................ 3,522 418
Provision for income taxes.............................. 879 (125)
--------- ---------
Income before equity interests.......................... 2,643 543
Equity interests........................................ 34 15
--------- ---------
Net income.............................................. $ 2,609 $ 528
========= =========
Net income per common share............................. $ .48 $ .10
========= =========
Weighted average common shares outstanding.............. 5,462 5,567
========= =========
</TABLE>
F-54
<PAGE>
MIDLAND FINANCIAL GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
MARCH 31,
------------------
1995 1996
-------- --------
<S> <C> <C>
Net cash flows from operating activities................... $ 6,094 $ (6,376)
-------- --------
Cash flows from investing activities:
Sales of investments..................................... 73 27,439
Purchases of investments................................. (11,346) (28,913)
Other.................................................... (135) (78)
-------- --------
Net cash used by investing activities.................... (11,408) (1,552)
-------- --------
Cash flows from financing activities:
Exercise of warrants and options......................... 28 --
Repayment of debt........................................ (21,000) (1,000)
Other.................................................... (246) 374
-------- --------
Net cash used by financing activities.................... (21,218) (626)
-------- --------
Cash, beginning of period.................................. 29,196 12,479
-------- --------
Cash, end of period........................................ $ 2,664 $ 3,925
======== ========
</TABLE>
F-55
<PAGE>
MIDLAND FINANCIAL GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with the accounting policies in effect as of
December 31, 1995 as set forth in the annual consolidated financial
statements of Midland Financial Group, Inc. (the "Company"), of such date.
In the opinion of Management, all adjustments necessary for a fair
presentation of the condensed consolidated financial statements have been
included. Certain 1995 amounts have been reclassified to conform with the
1996 presentation. The results of operations for the three-month period
ended March 31, 1996, are not necessarily indicative of the results to be
expected for the full year.
The computations of earnings per share are based upon the weighted average
number of common shares outstanding during each period adjusted for the
assumed exercise of all outstanding stock options using the treasury stock
method (5,462,000 and 5,567,000 for the three months ended March 31, 1995
and 1996, respectively).
F-56
<PAGE>
APPENDIX A
AGREEMENT AND PLAN OF MERGER
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<C> <S> <C>
ARTICLE 1
DEFINITIONS............................................................ A-1
ARTICLE 2
THE MERGER............................................................. A-7
2.1. The Merger.................................................. A-7
2.2. Effective Time of the Merger................................ A-8
2.3. Surviving Corporation....................................... A-8
(a) Certificate of Incorporation and Bylaws................. A-8
(b) Directors............................................... A-8
(c) Effect of the Merger.................................... A-8
(d) Name of Surviving Corporation........................... A-8
ARTICLE 3
MERGER CONSIDERATION; STATUS AND CONVERSION OF SHARES.................. A-8
3.1. Merger Consideration........................................ A-8
(a) Aggregate Merger Consideration.......................... A-8
(b) Per Share Merger Consideration.......................... A-8
3.2. Conversion or Cancellation of Shares in the Merger.......... A-8
(a) Company Common Stock.................................... A-8
(b) Merger Sub Common Stock................................. A-9
3.3. Status of Treasury Shares................................... A-9
3.4. Holder Consideration Election Rights........................ A-9
3.5. Status of Options........................................... A-11
3.6. Payment for Shares in the Merger............................ A-11
3.7. Fractional Shares........................................... A-13
3.8. Transfer of Shares after the Effective Time................. A-13
3.9. Dividend Rate of Preferred Stock............................ A-13
3.10. Closing..................................................... A-13
ARTICLE 4
REPRESENTATIONS AND WARRANTIES OF THE COMPANY.......................... A-14
4.1. Organization of the Company................................. A-14
4.2. Authorization............................................... A-14
4.3. Subsidiaries................................................ A-14
4.4. Capital Stock............................................... A-15
4.5. Government Approvals; Compliance with Laws and Orders....... A-15
4.6. Absence of Certain Changes or Events........................ A-16
4.7. Compliance with Contracts and Commitments................... A-17
4.8. Non-Contravention; Approvals and Consents................... A-18
4.9. Litigation.................................................. A-19
4.10. Labor Matters............................................... A-19
4.11. Absence of Undisclosed Liabilities.......................... A-19
4.12. No Brokers.................................................. A-19
4.13. No Other Agreements to Sell the Assets or the Company....... A-19
4.14. Employee Benefit Plans...................................... A-19
4.15. S-4 Registration Statement and Proxy Statement/Prospectus... A-21
4.16. Tax Matters................................................. A-21
</TABLE>
i
<PAGE>
<TABLE>
<CAPTION>
PAGE
----
<C> <S> <C>
4.17. Reports and Financial Statements........................... A-22
4.18. Payments................................................... A-22
4.19. Information Supplied....................................... A-22
4.20. Other Reports.............................................. A-23
4.21. Vote Required.............................................. A-23
4.22. Chapter 35 of the TBCA..................................... A-23
4.23. Fairness Opinions.......................................... A-23
ARTICLE 5
REPRESENTATIONS AND WARRANTIES OF THE PURCHASER AND THE MERGER SUB.... A-23
5.1. Organization of the Purchaser and the Merger Sub........... A-23
5.2. Authorization.............................................. A-24
5.3. Subsidiaries............................................... A-24
5.4. Capital Stock.............................................. A-24
5.5. Government Approvals; Compliance with Laws and Orders...... A-25
5.6. Authorization for Preferred Stock and Additional Purchaser
Common Stock............................................... A-25
5.7. Absence of Certain Changes or Events....................... A-26
5.8. Compliance with Contracts and Commitments.................. A-27
5.9. Non-Contravention; Approvals and Consents.................. A-28
5.10. Litigation................................................. A-28
5.11. Labor Matters.............................................. A-28
5.12. Absence of Undisclosed Liabilities......................... A-29
5.13. No Brokers................................................. A-29
5.14. No Other Agreements to Merge............................... A-29
5.15. S-4 Registration Statement and Proxy Statement/Prospectus.. A-29
5.16. Tax Matters................................................ A-29
5.17. Reports and Financial Statements........................... A-30
5.18. Payments................................................... A-30
5.19. Information Supplied....................................... A-30
5.20. Other Reports.............................................. A-31
5.21. Fairness Opinion........................................... A-31
5.22. Employee Benefit Plans..................................... A-31
5.23. Vote Required.............................................. A-31
ARTICLE 6
ADDITIONAL COVENANTS AND AGREEMENTS OF THE PARTIES.................... A-31
6.1. Conduct of the Business of the Company..................... A-31
6.2. Conduct of the Business of the Purchaser................... A-34
6.3. No Solicitation; Transaction Moratorium.................... A-36
6.4. Meetings of Shareholders................................... A-37
6.5. Registration Statement..................................... A-37
6.6. Purchaser Common Stock Offering............................ A-37
6.7. Audited Financial Statements............................... A-38
6.8. Reasonable Efforts......................................... A-38
6.9. Access to Information...................................... A-39
6.10. Supplements or Amendments.................................. A-39
6.11. Directors' and Officers' Indemnification and Insurance..... A-40
6.12. Registration and Listing of Share Consideration............ A-41
6.13. Affiliates of the Purchaser and the Company................ A-41
6.14. Consents................................................... A-41
</TABLE>
ii
<PAGE>
<TABLE>
<CAPTION>
PAGE
----
<C> <S> <C>
6.15. Filings and Authorizations................................... A-42
6.16. Further Assurances; Notice of Breach; Cure................... A-42
6.17. Continuation of Compensation and Employee Benefit Plans...... A-42
6.18. Cooperation on Litigation.................................... A-42
6.19. Capital Contribution to Surviving Corporation................ A-43
ARTICLE 7
CONDITIONS TO CLOSING................................................... A-43
7.1. Conditions to Obligations of the Parties..................... A-43
(a) Company's Shareholders' Approval......................... A-43
(b) Purchaser's Stockholders' Approval....................... A-43
(c) Government Consents...................................... A-43
(d) No Suits nor Injunctions................................. A-43
(e) Registration Statement................................... A-43
(f) Listing of Purchaser Shares on Exchange.................. A-44
(g) Purchaser Common Stock Offering.......................... A-44
7.2. Conditions to Obligations of the Purchaser................... A-44
(a) Representations and Warranties True...................... A-44
(b) Performance.............................................. A-44
(c) Compliance Certificate................................... A-44
(d) Opinion of Counsel for the Company....................... A-44
(e) Proceedings.............................................. A-44
(f) Certain Disclosures...................................... A-44
(g) Third Party Consents..................................... A-44
(h) Fairness Opinion......................................... A-44
7.3. Conditions to Obligations of the Company..................... A-44
(a) Representations and Warranties True...................... A-44
(b) Performance.............................................. A-45
(c) Compliance Certificate................................... A-45
(d) Opinion of Counsel for the Purchaser..................... A-45
(e) Proceedings.............................................. A-45
(f) Third Party Consents..................................... A-45
(g) Fairness Opinion......................................... A-45
(h) Certain Disclosure....................................... A-45
(i) Opinion Regarding Tax Consequences....................... A-45
ARTICLE 8
TERMINATION AND ABANDONMENT; BREAK-UP FEE AND EXPENSE REIMBURSEMENT..... A-45
8.1. Termination Rights........................................... A-45
8.2. Termination Expenses and Liability........................... A-46
(a) General Provision........................................ A-46
(b) Expense Recoupment--Company.............................. A-46
(c) Expense Recoupment--the Purchaser........................ A-46
(d) Termination Fee--the Purchaser........................... A-46
ARTICLE 9
MISCELLANEOUS........................................................... A-46
9.1. Expenses..................................................... A-46
9.2. Public Disclosure............................................ A-47
</TABLE>
iii
<PAGE>
<TABLE>
<CAPTION>
PAGE
----
<C> <S> <C>
9.3. Governing Law; Consent to Jurisdiction........................ A-47
9.4. Notices....................................................... A-47
9.5. Headings...................................................... A-48
9.6. Counterparts.................................................. A-48
9.7. Assignment.................................................... A-48
9.8. Severability.................................................. A-48
9.9. Waivers and Amendments........................................ A-48
9.10. No Third Party Beneficiaries.................................. A-48
9.11. Entire Agreement.............................................. A-48
9.12. Survival...................................................... A-48
</TABLE>
EXHIBITS
Exhibit 1A--Series A Preferred Terms
SCHEDULES
Company Disclosure Schedule
Purchaser Disclosure Schedule
Schedule 7.2--Opinion of Counsel for the Company
Schedule 7.3--Opinion of Counsel for the Purchaser
iv
<PAGE>
AGREEMENT AND PLAN OF MERGER
AGREEMENT AND PLAN OF MERGER, dated as of February 26, 1996 (this
"Agreement"), between Midland Financial Group, Inc., a Tennessee corporation
(the "Company"), Danielson Holding Corporation, a Delaware corporation (the
"Purchaser"), and Mission Sub E, Inc., a Delaware corporation (the "Merger
Sub").
WITNESSETH:
WHEREAS, the respective boards of directors of the Company, the Purchaser
and the Merger Sub have approved the Merger of the Company with and into the
Merger Sub (the "Merger"), upon the terms and subject to the conditions set
forth herein;
WHEREAS, the Purchaser, the Merger Sub and the Company desire to make
certain representations, warranties, covenants and agreements in connection
with the Merger;
NOW, THEREFORE, in consideration of the mutual covenants and undertakings
contained herein, and subject to, and on the terms and conditions herein set
forth, the parties hereto agree as follows:
ARTICLE 1
DEFINITIONS
When used in this Agreement, the following terms shall have the respective
meanings set forth below:
"Acquisition Transaction" has the meaning given to such term in Section
6.3(a).
"Adequate Pricing Opportunity" has the meaning given to such term in Section
6.6(d).
"Affiliate" has the meaning given to such term in Rule 12b-2 promulgated
under the Exchange Act.
"Aggregate Cash Consideration Fund" means an amount equal to 50% of the
Aggregate Merger Price.
"Aggregate Common Stock Consideration Fund" means the number of shares of
Purchaser Common Stock determined by dividing (i) an amount equal to 10% of
the Aggregate Merger Price by (ii) the Purchaser Common Stock Per Share Value.
"Aggregate Merger Consideration" means (i) funds representing the Aggregate
Cash Consideration Fund and (ii) stock certificates representing the Aggregate
Preferred Stock Consideration Fund and the Aggregate Common Stock
Consideration Fund.
"Aggregate Merger Price" means the product determined by multiplying (i) the
Per Share Merger Price by (ii) the number of Shares issued and outstanding at
the Effective Time.
"Aggregate Preferred Stock Consideration Fund" means the number of shares of
Preferred Stock determined by dividing (i) an amount equal to 40% of the
Aggregate Merger Price by (ii) the Stated Preferred Per Share Value.
"AMEX" means the American Stock Exchange, Inc.
"Antitrust Division" has the meaning given to such term in Section 6.15.
"Assets" means the assets of the Company and its Subsidiaries reflected on
the Balance Sheet or acquired in the ordinary course of business since the
Balance Sheet Date.
A-1
<PAGE>
"Authorization" means any consent, approval or authorization of, expiration
or termination of any waiting period requirement (including pursuant to the
HSR Act) by, or filing, registration, qualification, declaration or
designation with, any Governmental Body.
"Balance Sheet" means the audited consolidated balance sheet of the Company
as of December 31, 1994, together with the notes thereon and the related
unqualified report of KPMG Peat Marwick LLP, the Company's certified public
accountants, previously delivered to the Purchaser.
"Balance Sheet Date" means December 31, 1994.
"Business Day" means any day other than Saturday or Sunday and any other day
on which commercial banks in New York, New York or Memphis, Tennessee are
required or permitted to be closed.
"Capital Contribution Amount" has the meaning given to such term in Section
6.19.
"Cash Election" has the meaning given to such term in Section 3.4(a).
"Certificate of Merger" means the Certificate of Merger with respect to the
merger of the Company with and into the Merger Sub, containing the provisions
required by, and executed in accordance with, Section 48-21-107 of the TBCA
and Section 252 of the DGCL.
"Certificates" means one or more certificates which immediately prior to the
Effective Time represented outstanding Shares.
"Chosen Underwriters" means DLJ and Salomon Brothers Inc.; provided,
however, that a different investment banking firm may be substituted for any
of such firm upon the mutual written consent of the Purchaser and the Company.
"Closing" means the closing of the Merger contemplated hereby.
"Closing Date" has the meaning given to such term in Section 3.10.
"Code" means the Internal Revenue Code of 1986, as amended, and all
regulations promulgated thereunder, as in effect from time to time.
"Common Stock Election" has the meaning given to such term in Section
3.4(a).
"Company" means Midland Financial Group, Inc. a Tennessee corporation.
"Company's Adjusted Book Value" means an amount equal to the sum of (i) the
total stockholders' equity shown on the Consolidated Balance Sheets of the
Company as of, and for the year ended, December 31, 1995 plus (ii) an
additional amount of up to $2,205,000 reflecting additional book value of the
Company resulting from the issuance of Company Common Stock after December 31,
1995 in connection with the acquisition by the Company of certain minority
interests held by others in Subsidiaries of the Company.
"Company Benefit Arrangement" has the meaning given to such term in Section
4.14(a).
"Company Common Stock" means the common stock, no par value, of the Company.
"Company Disclosure Schedule" means the disclosure schedule of the Company
dated the date of this Agreement delivered concurrently with the execution and
delivery of this Agreement by the Company to the Purchaser.
"Company Employee Plan" has the meaning given to such term in Section
4.14(a).
A-2
<PAGE>
"Company Financial Statements" has the meaning given to such term in Section
4.17.
"Company Material Adverse Effect" means a material adverse effect on (i) the
business, assets, liabilities, results of operations, condition (financial or
otherwise) or prospects of the Company and its Subsidiaries, taken as a whole,
(ii) the validity or enforceability of, or the ability of any party hereto to
perform its obligations under, and to consummate the transactions contemplated
by, this Agreement or any other agreement or instrument contemplated hereby or
to be entered into in connection herewith, or (iii) without limitation as to
the foregoing, any development, condition, event or circumstance relating to
the Company which has a material adverse effect on the Purchaser's ability to
consummate the Purchaser Common Stock Offering or the pricing or any other
terms thereof.
"Company Option" has the meaning given to such term in Section 3.5.
"Company Permits" has the meaning given to such term in Section 4.5(a).
"Company SEC Reports" means all reports (including without limitation,
definitive proxy statements), forms, schedules, registration statements and
other documents together with all amendments and supplements thereto, which
the Company has been required to file with the SEC since January 1, 1992.
"Company Shareholders' Meeting" has the meaning given to such term in
Section 6.4(a).
"Company's Adjusted Per Share Book Value" means an amount expressed in
dollars and cents equal to the quotient determined by dividing (i) the
Company's Adjusted Book Value by (ii) the number of Shares issued and
outstanding as of the Effective Time.
"Company's Shareholders' Approval" has the meaning given to such term in
Section 6.4(a).
"Consideration Fund" refers generically to, either the Common Stock
Consideration Fund, the Preferred Stock Consideration Fund or the Cash
Consideration Fund (and, in the plural form, means all three collectively).
"Constituent Corporations" means each of the Merger Sub and the Company.
"Contract" means any note, bond, mortgage, security agreement, indenture,
license, franchise, permit, concession, contract, lease or other instrument,
obligation or agreement of any kind.
"DGCL" means the Delaware General Corporation Law.
"DLJ" means Donaldson Lufkin & Jenrette Securities Corporation.
"Effective Time" means the date and time of the effectiveness of the Merger
pursuant to Section 2.2 and in accordance with the TBCA and the DGCL.
"Election Deadline" has the meaning given to such term in Section 3.4(e).
"Employees" means the officers, employees, agents, directors or independent
contractors of a Person or any of its Subsidiaries, whether former or current.
"ERISA" means the Employee Retirement Income Security Act of 1974, as
amended, and all regulations promulgated thereunder, as in effect from time to
time.
"ERISA Affiliates" means any trade or business, whether or not incorporated,
that is now or has at any time in the past been treated as a single employer
with the Company or any of its Subsidiaries under Section 414(b) or (c) of the
Code and the Treasury Regulations thereunder.
"Excess Shares" has the meaning given to such term in Section 3.7.
A-3
<PAGE>
"Exchange" means the stock exchange on which the Purchaser Common Stock and
Preferred Stock is listed for trading upon official notice of issuance as of,
or immediately after giving effect to, the Effective Time.
"Exchange Act" means the Securities Exchange Act of 1934, as amended and the
rules and regulations promulgated thereunder.
"Exchange Agent" means the exchange agent selected by the Purchaser and
reasonably acceptable to the Company, to effectuate the payment for and
conversion of Shares in the Merger.
"Final Termination Date" means August 31, 1996 provided, however, that the
Company may, by delivery of written notice to the Purchaser prior to the date
which would otherwise be the Final Termination Date, extend such date up to
two times for a period of thirty days each such time, in which case the "Final
Termination Date" shall mean the date as so extended.
"Form of Election" has the meaning given to such term in Section 3.4(d).
"Fractional Securities Fund" has the meaning given to such term in Section
3.7.
"FTC" has the meaning given to such term in Section 6.15.
"Governmental Body" means any Federal, state, municipal, political
subdivision or other governmental court, tribunal, arbitrator, authority,
official, department, commission, board, bureau, agency or instrumentality,
domestic or foreign.
"Holder Consideration Election" has the meaning given to such term in
Section 3.4(a).
"HSR Act" means the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as
amended, and the rules and regulations promulgated thereunder.
"Indemnified Liabilities" has the meaning given to such term in Section
6.11(a).
"Indemnified Parties" has the meaning given to such term in Section 6.11(a).
"Indemnifying Party" has the meaning given to such term in Section 6.11(a).
"Laws" means any statute, law, rule, regulation or ordinance of any
Governmental Body.
"Lazard" means Lazard Freres & Co.
"Lien" means any lien, claim, mortgage, encumbrance, pledge, security
interest, equity and charge of any kind.
"Merger" means the merger of the Company with and into the Merger Sub as
contemplated by Section 2.1.
"Merger Sub" has the meaning given to such term in the first paragraph
hereof.
"NASDAQ" means National Association of Securities Dealers-Automated
Quotation System.
"Offering Price" means the price per share at which shares of Purchaser
Common Stock are sold to the public in the Purchaser Common Stock Offering.
"Offering Pricing Date" means the date upon which an Underwriting Agreement
providing for the firm commitment underwriting of the Purchaser Common Stock
Offering, and specifying the pricing of the Purchaser Common Stock offered
therein, has been executed and delivered by the Purchaser and all other
parties thereto.
A-4
<PAGE>
"Options" means any subscriptions, options, warrants, rights (including
"phantom" stock rights), preemptive rights or other contracts, commitments,
understandings or arrangements, including any right of conversion or exchange
under any outstanding security, instrument or agreement to issue or sell any
shares of capital stock of a corporation.
"Order" means any judgment, decree, order, writ, permit or license of any
Governmental Body.
"Par Trading Rate" means a dividend rate applicable to the Preferred Stock,
determined in accordance with Section 3.9 initially as of the Preferred
Pricing Date and again as of the Offering Pricing Date, as the rate which is
likely to cause the market values of the Preferred Stock to trade at the
Stated Preferred Per Share Value if such security was assumed to trade on a
fully distributed basis on the date as of which such rate is determined.
"Per Share Merger Price" means a price per Share equal to the product
determined by multiplying (i) the Company's Adjusted Per Share Book Value by
(ii) a factor of 1.6, which price is estimated to be $14.00 per share.
"Person" means any individual or corporation, company, partnership, trust,
incorporated or unincorporated association, joint venture or other entity of
any kind.
"Plan" means the Company's 1989 Incentive Stock Option Plan and 1992 Long-
Term Incentive Plan.
"Potential Acquiror" has the meaning given to such term in Section 6.3(a).
"Preferred Pricing Date" has the meaning given to such term in Section 3.9.
"Preferred Stock" means Series A Preferred Stock of the Purchaser to be
issued at the Effective Time in accordance with Article 3 and which will have
the designations, rights and preferences set forth in the Series A Preferred
Terms and will have a dividend rate set in accordance with Section 3.9.
"Preferred Stock Election" has the meaning given to such term in Section
3.4(a)(ii).
"Preliminary Prospectus Mailing Date" has the meaning given to such term in
Section 6.6(c).
"Pro Rata Allocation" means, for purposes of allocating any Consideration
Fund with respect to Shares owned by a holder, the product determined by
multiplying the total value of the consideration available in such
Consideration Fund, when valued in accordance with the last sentence of
Section 3.1(a) after giving effect to the reduction of such Consideration Fund
by any priority allocations thereof, by such holder's Pro-Rationing Factor.
"Pro-Rationing Factor" means, for purposes of allocating any Consideration
Fund to any holder pursuant to an effective Holder Consideration Election
filed by such holder, the quotient determined by dividing (i) an amount equal
to either (x) the Per Share Merger Price times the number of Shares covered by
such Holder Consideration Election, in the case of an allocation of such
holder's Chosen Consideration, or (y) the amount of such holder's Unsatisfied
Allocation Short-fall, in the case of any allocation of such holder's Second
Form of Consideration or Third Form of Consideration, by (ii) an amount equal
to either (x) the Per Share Merger Price times the number of all Shares
covered by Holder Consideration Elections filed by holders (including such
holder) among whom consideration is to be allocated as a group (in the case of
an allocation of the Chosen Consideration of such group) or (y) the
Unsatisfied Allocation Short-fall of all holders in such group (in the case of
an allocation of the Second Form of Consideration or Third Form of
Consideration of such group).
"Proxy Statement/Prospectus" has the meaning given to such term in Section
6.5.
"Purchaser" has the meaning given to such term in the first paragraph
hereof.
"Purchaser Benefit Arrangement" means each plan (other than any Purchaser
Employee Plan), program, policy, contract or arrangement providing for
bonuses, pensions, deferred pay, stock or stock-related awards,
A-5
<PAGE>
severance pay, salary continuation or similar benefits, hospitalization,
medical, dental or disability benefits, life insurance or other employee
benefits, or compensation to or for any Employees of the Purchaser or any
beneficiaries or dependents of any Employees of the Purchaser (other than
directors' and officers' liability insurance policies), whether or not oral or
written or insured or funded, or constituting an employment or severance
agreement or arrangement with any officer or director of the Purchaser or any
Significant Subsidiary.
"Purchaser Common Stock" means the shares of common stock, par value $.10
per share, of the Purchaser.
"Purchaser Common Stock Offering" has the meaning given to such term in
Section 6.6(a).
"Purchaser Common Stock Per Share Value" means the arithmetic average of the
closing prices of the Purchaser Common Stock on the Amex (or other national
securities exchange on which the Purchaser Common Stock is then listed for
trading) for each day on which trading of such stock took place on the
Exchange during the period beginning on the date twenty days prior to the
Offering Pricing Date and ending on the Business Day immediately preceding the
Offering Pricing Date; provided, however, that in no event shall the Purchaser
Common Stock Per Share Value be an amount less than $5.00 nor more than $10.00
per share.
"Purchaser Disclosure Schedule" means the Disclosure Schedule dated the date
of this Agreement delivered by the Purchaser to the Company.
"Purchaser Employee Plan" means each "employee benefit plan," as such term
is defined in Section 3(3) of ERISA, established by the Purchaser, any of its
Subsidiaries, or any ERISA Affiliate or under which the Purchaser, any of its
Subsidiaries, or any ERISA affiliate contributes or under which any Employees
of the Purchaser or any beneficiary thereof is covered, is eligible for
coverage or has benefit rights with respect to service to the Purchaser, any
of its Subsidiaries or any ERISA Affiliate or under which any obligation
exists to issue capital stock of the Purchaser or any of its Subsidiaries.
"Purchaser Financial Statements" has the meaning given to such term in
Section 5.17.
"Purchaser Material Adverse Effect" means a material adverse effect on (i)
the business, assets, liabilities, results of operations, condition (financial
or otherwise) or prospects of the Purchaser and its Subsidiaries, taken as a
whole, (ii) the validity of enforceability of, or the ability of any party
hereto to perform its obligations under, and to consummate the transactions
contemplated by, this Agreement or any other agreement or instrument
contemplated hereby or to be entered into in connection herewith, or (iii)
without limitation as to the foregoing, the Purchaser's ability to consummate
the Purchaser Common Stock Offering or the pricing or any other terms thereof.
"Purchaser Permits" has the meaning given to such term in Section 5.5(a).
"Purchaser SEC Reports" means all reports (including, without limitation,
definitive proxy statements), forms, schedules, registration statements and
other documents together with all amendments and supplements thereto which the
Purchaser has been required to file with the SEC since January 1, 1991.
"Purchaser's Stockholders' Approval" has the meaning given to such term in
Section 6.4(b).
"Purchaser Stockholders' Meeting" has the meaning given to such term in
Section 6.4(b).
"Representative" has the meaning given to such term in Section 6.3(a).
"Respective Representatives" has the meaning given to such term in Section
6.9.
"R-H" means The Robinson-Humphrey Company, Inc.
"Rule 145 Affiliates" has the meaning given to such term in Section 6.13.
A-6
<PAGE>
"S-4 Registration Statement" has the meaning given to such term in Section
6.5.
"SEC" means the Securities and Exchange Commission.
"Securities Act" means the Securities Act of 1933, as amended, and the rules
and regulations promulgated thereunder.
"Series A Preferred Terms" means the certificate of designations,
preferences, rights and limitations of Preferred Stock substantially in the
form attached hereto as Exhibit 1A.
"Share Consideration" means the amount of shares of Preferred Stock and
Purchaser Common Stock to be delivered by the Purchaser as consideration in
the Merger.
"Shares" means the shares of Company Common Stock issued and outstanding
immediately prior to the Effective Time, after giving effect to the exercise
or cancellation of each Company Option pursuant to Section 3.5.
"Significant Response" has the meaning given to such term in Section 6.3(b).
"Significant Subsidiary" has the meaning given to such term in Rule 1-02(w)
of Regulation S-X promulgated by the SEC.
"Stated Preferred Per Share Value" shall mean, with respect to the Preferred
Stock, the stated per share value thereof, as set forth in the Series A
Preferred Terms.
"Stephens" means Stephens Inc.
"Subsidiary" means as to any Person, any other Person of which at least 50%
of the equity or voting interests are owned, directly or indirectly, by such
first Person.
"Surviving Corporation" has the meaning given to such term in Section 2.1.
"Surviving Corporation Common Stock" means the common stock, par value $.01
per share, of the Surviving Corporation.
"Taxpayers" means as to any Person, such Person, any predecessor of such
Person and all members for income tax purposes of any affiliated group of
corporations of which such Person or any such predecessor corporation is or
has been a member.
"TBCA" means the Tennessee Business Corporation Act.
"Transaction Moratorium Period" has the meaning given to such term in
Section 6.3(b).
"Unsatisfied Allocation Short-fall" has the meaning given to such term in
Section 3.4.
"Wholly-Owned Subsidiary" means a Subsidiary of which 100% of the issued and
outstanding common stock is owned directly or indirectly by the parent
company.
ARTICLE 2
THE MERGER
2.1. The Merger. Subject to the terms and conditions hereof, at the
Effective Time and in accordance with the provisions of this Agreement and the
applicable provisions of the TBCA and the DGCL, the Company shall be merged
with and into the Merger Sub which shall continue as the surviving corporation
(the "Surviving
A-7
<PAGE>
Corporation"). Thereupon the separate corporate existence of the Company shall
cease, and the Surviving Corporation shall continue existence under the laws
of the State of Delaware.
2.2. Effective Time of the Merger. On or prior to the Closing Date, the
parties hereto will cause the Certificate of Merger, satisfactory to the
parties hereto, to be duly prepared, executed and verified on behalf of each
Constituent Corporation and to be filed with the Secretary of State of the
State of Tennessee, as provided in Section 48-21-105 of the TBCA, and the
Secretary of State of the State of Delaware, as provided in Section 252 of the
DGCL, and the Merger shall become effective on the Closing Date.
2.3. Surviving Corporation
(a) Certificate of Incorporation and Bylaws. The Certificate of
Incorporation and Bylaws of the Merger Sub, each as in effect immediately
prior to the Effective Time, shall be the Certificate of Incorporation and
Bylaws of the Surviving Corporation and thereafter shall continue to be its
Certificate of Incorporation and Bylaws until amended as provided therein and
under the provisions of the DGCL.
(b) Directors. The Board of Directors of the Merger Sub immediately prior to
the Effective Time shall from and after the Effective Time be the directors of
the Surviving Corporation until their successors are elected or appointed and
qualified or until their earlier death, resignation or removal in accordance
with the Surviving Corporation's Certificate of Incorporation and Bylaws.
(c) Effect of the Merger. Subject to the foregoing, the effects of the
Merger shall be as provided in the applicable provisions of the TBCA and DGCL.
(d) Name of Surviving Corporation. The name of the Surviving Corporation
shall be "Midland Financial Group, Inc."
ARTICLE 3
MERGER CONSIDERATION; STATUS AND CONVERSION OF SHARES
3.1. Merger Consideration.
(a) Aggregate Merger Consideration. The Aggregate Merger Consideration, when
valued in accordance with the last sentence of this subsection, shall have a
value at the Effective Time equal to the Aggregate Merger Price, with 50% of
that value attributable to non-cash consideration in the form of the Aggregate
Preferred Stock Consideration Fund and the Aggregate Common Stock
Consideration Fund. For purposes of this Article 3, (i) each share of
Preferred Stock in the Aggregate Preferred Stock Consideration Fund shall be
valued at the Stated Preferred Per Share Value and (ii) each share of
Purchaser Common Stock in the Aggregate Common Stock Consideration Fund shall
be valued at the Purchaser Common Stock Per Share Value.
(b) Per Share Merger Consideration. The consideration that will be issued
and paid in the Merger in respect of each Share (i) shall have at the
Effective Time, when valued in accordance with the final sentence of
subsection (a) of this Section 3.1, a value equal to the Per Share Merger
Price and (ii) shall consist of the combination of securities and cash
determined pursuant to this Article 3.
3.2. Conversion or Cancellation of Shares in the Merger. Subject to the
provisions of this Agreement, at the Effective Time, by virtue of the Merger
and without any action on the part of the holders thereof, the shares of the
Constituent Corporations shall be converted or canceled, as the case may be,
in the following manner:
(a) Company Common Stock. Each Share (other than shares of Company Common
Stock held in treasury) shall be converted into a right to receive a
portion of the Aggregate Merger Consideration which (i) has a value, when
valued in accordance with the last sentence of Section 3.1(a), equal to the
Per Share
A-8
<PAGE>
Merger Price and (ii) consists of cash, Preferred Stock and Purchaser
Common Stock in the proportions determined in accordance with Section 3.4.
(b) Merger Sub Common Stock. Each share of Common Stock, par value $.01
per share, of the Merger Sub issued and outstanding immediately prior to
the Effective Time shall remain outstanding and shall constitute one share
of Surviving Corporation Common Stock.
3.3. Status of Treasury Shares. At the Effective Time, each share of Company
Common Stock, if any, held in treasury immediately prior to the Effective Time
shall be canceled and retired and no payment shall be made with respect
thereto.
3.4. Holder Consideration Election Rights.
(a) Each holder of Company Common Stock will be entitled to submit, in
accordance with the procedures set forth in this Section 3.4, a written
request (in each case a "Holder Consideration Election") as to all the Shares
owned by such holder, or multiple written requests each relating to a portion
of the Shares owned by such holder, requesting that, subject to the provisions
of this Section 3.4:
(i) the consideration to be paid in the Merger in respect of the Shares
covered by such Holder Consideration Election be Purchaser Common Stock (a
"Common Stock Election"); for purposes of determining allocations pursuant
to subsection (c) to holders who have made Common Stock Elections,
Purchaser Common Stock shall be deemed the "Chosen Consideration" for such
holders, Preferred Stock shall be deemed the "Second Form of Consideration"
for such holders and cash shall be deemed the "Third Form of Consideration"
for such holders; or
(ii) the consideration to be paid in the Merger in respect of the Shares
covered by such Holder Consideration Election be Preferred Stock (a
"Preferred Stock Election"); for purposes of determining allocations
pursuant to subsection (c) to holders who have made Preferred Stock
Elections, Preferred Stock shall be deemed the "Chosen Consideration" for
such holders, Purchaser Common Stock shall be the "Second Form of
Consideration" for such holders and cash shall be deemed the "Third Form of
Consideration" for such holders; or
(iii) the consideration to be paid in the Merger in respect of the Shares
covered by such Holder Consideration Election be cash (a "Cash Election");
for purposes of determining allocations pursuant to subsection (c) to
holders who have made Cash Elections, cash shall be deemed the "Chosen
Consideration" for such holders, Preferred Stock shall be deemed the
"Second Form of Consideration" for such holders and Purchaser Common Stock
shall be deemed the "Third Form of Consideration" for such holders.
In accordance with the priorities set forth in subsection (b) and the
procedures set forth in subsection (c), each holder who has made a valid
Holder Consideration Election with respect to some or all Shares owned by it
which remains in effect at the Effective Time will receive in the Merger in
respect of such Shares consideration in the form of such holder's Chosen
Consideration (subject to the availability of such consideration after pro-
rating such holder with other holders in accordance with this Section); if
there is not a sufficient amount of such holder's Chosen Consideration
available (after giving effect to pro-rationing) to satisfy such holder's
right to receive consideration in the Merger in respect of such Shares which
has a value equal to the Per Share Merger Price (when valued in accordance
with the last sentence of Section 3.1(a), such holder will receive additional,
successive allocations of such holder's Second Form of Consideration and Third
Form of Consideration, until such holder has received such value.
(b) Priority of Allocations Based on Chosen Consideration. The Aggregate
Merger Consideration shall be allocated among holders of Shares, in the manner
set forth in subsection (c) of this Section, in the following order of
priority:
First, as a group, among all holders of Shares who have made valid Common
Stock Elections that remain in effect at the Effective Time;
A-9
<PAGE>
Second, as a group, among all holders of Shares who have made valid
Preferred Stock Elections that remain in effect at the Effective Time;
Third, as a group, among all holders of Shares who have made valid Cash
Elections that remain in effect at the Effective Time; and
Fourth, as a group, among all holders of Shares who have not made any
Holder Consideration Election.
(c) Manner of Allocation to Each Holder. Each holder who has made a valid
Holder Consideration Election with respect to all or a portion of the Shares
owned by it which remains in effect at the Effective Time shall have a right
to receive in respect of such Shares the following allocations of the
Aggregate Merger Consideration:
(i) Allocation of Chosen Consideration. Such holder shall have a right to
receive in respect of such Shares its Pro Rata Allocation of the
Consideration Fund of such holder's Chosen Consideration (after giving
effect to the depletion of such Consideration Fund by any allocations
granted priority in accordance with subsection (b)).
(ii) Allocation of Second Form of Consideration. If the value of the
allocation made to such holder pursuant to clause (i) above (when valued in
accordance with the last sentence of Section 3.1(a)) is less than the Per
Share Merger Price times the number of Shares owned by such holder and
covered by such Holder Consideration Election, such holder shall have a
right to receive in respect of such Shares a Pro Rata Allocation of the
Consideration Fund of such holder's Second Form of Consideration (after
giving effect to any depletion of such Consideration Fund by any
allocations granted priority in accordance with subsection (b)) to the
extent of the short-fall (an "Unsatisfied Allocation Short-fall") between
(x) the Per Share Merger Price times the number of Shares owned by such
holder and covered by such Holder Consideration Election, and (y) the value
of the allocation made to such holder pursuant to clause (i) above in
respect of such Shares; and
(iii) Allocation of Third Form of Consideration. If the total value of
the allocations made to such holder pursuant to clauses (i) and (ii) above
(when valued in accordance with the last sentence of Section 3.1(a)) is
less than the Per Share Merger Price times the number of Shares owned by
such holder and covered by such Holder Consideration Election, such holder
shall have a right to receive in respect of such Shares a Pro Rata
Allocation of the Consideration Fund of such holder's Third Form of
Consideration (after giving effect to any depletion of such Consideration
Fund by any allocations granted priority in accordance with subsection (b))
to the extent of the Unsatisfied Allocation Short-fall between (x) the Per
Share Merger Price times the number of Shares owned by such holder and
covered by such Holder Consideration Election, and (y) the value of the
allocations made to such holder pursuant to clauses (i) and (ii) above in
respect of such Shares.
Each holder for whom no Holder Consideration Election is in effect at the
Effective Time shall have a right to receive with respect to its Shares its
pro rata allocation of the Aggregate Cash Consideration Fund, the Aggregate
Common Stock Fund and the Aggregate Preferred Stock Fund, in each case after
giving effect to the depletion of those Consideration Funds by prior
allocations to all holders who made Holder Consideration Elections.
(d) A form pursuant to which each record holder of shares of Company Common
Stock may make Holder Consideration Elections and the related letter of
transmittal (the "Form of Election") shall be mailed to shareholders of record
of the Company as of the record date for the Company Shareholders' Meeting and
such mailing shall accompany the Proxy Statement/Prospectus mailed to such
shareholders in connection with such Meeting. The Company shall also make the
Form of Election available at its executive offices and such other places as
the Company and the Purchaser deem appropriate to all persons who become
stockholders of the Company during the period between such record date and the
Election Deadline.
A-10
<PAGE>
(e) A Holder Consideration Election will be deemed effectively made only if
the Exchange Agent shall have received a Form of Election properly completed
and signed, no later than 5:00 P.M. New York City time, on such Business Day
determined in accordance with the last sentence of this Section as is
announced by the Purchaser (after consultation with the Company) in a news
release delivered to the Dow Jones News Service, as the last day on which
Forms of Election will be accepted (the "Election Deadline"). The Business Day
on which the Election Deadline shall occur shall be a date no earlier than the
date of the Company Shareholders' Meeting and no later than the Effective Time
and shall be at least five, and not more than 20, Business Days following the
news release set forth above.
(f) Any holder of Shares who has made one or more effective Holder
Consideration Elections as provided in clause (e) may at any time prior to the
Election Deadline change or revoke its Holder Consideration Election if such
holder submits to the Exchange Agent, and the Exchange Agent receives, prior
to the Election Deadline, a revocation or a revised Form of Election properly
completed and signed.
(g) The Purchaser shall, in its discretion, conclusively determine any
questions with respect to, and shall have the right to make rules not
inconsistent with, the terms of this Agreement, governing the form, terms and
conditions of Forms of Election, the revocation and withdrawal of elections,
the validity and effectiveness of Holder Consideration Elections and the
manner and extent to which they are to be taken into account in making the
determinations provided for in this Section 3.4. The Purchaser (or the
Exchange Agent at the direction of the Purchaser) may make such changes in the
procedures set forth herein for the implementation of elections by the Company
shareholders as shall be necessary or desirable to effect the purposes of this
Agreement. A Company shareholder shall be deemed to have made no Holder
Consideration Election with respect to Shares as to which an invalid or
ineffective election has been made.
3.5. Status of Options. On the Offering Pricing Date, the Company shall
cause the Plan and/or each Option outstanding on such date for the purchase of
shares of Company Common Stock granted under any employee stock option or
compensation plan or arrangement of the Company and its Subsidiaries (a
"Company Option") to be amended in the following respects: (i) each Company
Option, whether or not such Company Option is then exercisable, shall become
fully vested and exercisable as of the close of business on the Business Day
immediately preceding the Closing Date, (ii) each Company Option shall
terminate as of the Effective Time unless exercised prior to the Effective
Time, and (iii) except with respect to any Company Option granted after the
date six months prior to the Closing Date to a person required to file reports
under Section 16(a) of the Exchange Act, each holder of a Company Option shall
be deemed as of the Offering Pricing Date to have irrevocably exercised in
full his Company Option as of the close of business on the Business Day
immediately prior to the Closing Date by means of a "cash-less" exercise
pursuant to which the Company, when issuing shares of Company Common Stock on
exercise, will withhold from such issuance shares with an aggregate value
(when valued at the Per Share Merger Price) equal to the exercise price
payable upon such exercise, in lieu of the payment by the holder of the
exercise price in cash. The amendment of Company Options provided for in this
Section shall be conditional upon the consummation of the Merger such that, in
the event the Merger is not consummated and this Agreement is terminated, the
Company Options shall in all respects revert to the terms in effect prior to
the Offering Pricing Date and all notices of exercise deemed given pursuant to
this Section shall be null and void. No payment, assumption or conversion
shall occur in the Merger with respect to terminated Options. All Shares
issued upon exercise of Company Options pursuant to this Section 3.5 shall be
deemed issued and outstanding at the Effective Time for purposes of the
Merger.
3.6. Payment for Shares in the Merger. The manner of making payment for and
conversion of Shares in the Merger shall be as follows:
(a) At the Effective Time, the Purchaser shall make available to the
Exchange Agent for the benefit of those Persons who immediately prior to
the Effective Time were the holders of Shares, the Aggregate
A-11
<PAGE>
Merger Consideration and such additional funds as may be payable in lieu of
fractional Shares pursuant to Section 3.7. The Exchange Agent shall,
pursuant to irrevocable instructions, deliver the non-cash consideration to
be issued pursuant to Section 3.2 and effect the payments of cash provided
for in Section 3.2 out of the Aggregate Merger Consideration. The Aggregate
Merger Consideration shall not be used for any other purpose.
(b) Promptly after the Effective Time, the Exchange Agent shall mail to
each holder of record of a Certificate or Certificates (i) a form of letter
of transmittal (which shall specify that delivery shall be effected, and
risk of loss and title to the Certificates shall pass, only upon proper
delivery of the Certificates to the Exchange Agent) and (ii) instructions
for use in effecting the surrender of the Certificates for payment
therefor. Upon surrender of Certificates for cancellation to the Exchange
Agent, together with such letter of transmittal duly executed and any other
required documents, the holder of such Certificates shall be entitled to
receive for each of the Shares represented by such Certificates the non-
cash consideration issuable and the cash consideration payable pursuant to
this Article 3, and the Certificates so surrendered shall forthwith be
canceled. Until so surrendered, Certificates shall represent solely the
right to receive the cash and non-cash consideration payable pursuant to
this Article 3 and any cash in lieu of fractional Preferred Stock or
Purchaser Common Stock as contemplated by Section 3.7, with respect to each
of the Shares represented thereby. No dividends or other distributions that
are declared after the Effective Time on securities issued pursuant to this
Article 3 and payable to the holders of record thereof after the Effective
Time will be paid to Persons entitled by reason of the Merger to receive
such securities until such Persons surrender their Certificates. Upon such
surrender, there shall be paid to the Person in whose name the Preferred
Stock and Purchaser Common Stock is issued pursuant to this Article 3 any
dividends or other distributions having a record date after the Effective
Time and payable with respect to such securities between the Effective Time
and the time of such surrender. After such surrender there shall be paid to
the Person in whose name the Preferred Stock and Purchaser Common Stock is
issued pursuant to this Article 3 any dividends or other distributions on
such securities which shall have a record date after the Effective Time and
prior to such surrender and a payment date after such surrender and such
payment shall be made on such payment date. In no event shall the Persons
entitled to receive such dividends or other distributions be entitled to
receive interest on such dividends or other distributions. If any cash or
any certificate representing Preferred Stock or Purchaser Common Stock
issued pursuant to this Article 3 is to be paid to or issued in a name
other than that in which the Certificate surrendered in exchange therefor
is registered, it shall be a condition of such exchange that the
Certificate so surrendered shall be properly endorsed and otherwise in
proper form for transfer and that the Person requesting such exchange shall
pay to the Exchange Agent any transfer or other taxes required by reason of
the issuance of certificates for such Preferred Stock or Purchaser Common
Stock in a name other than that of the registered holder of the Certificate
surrendered, or shall establish to the satisfaction of the Exchange Agent
that such tax has been paid or is not applicable. Notwithstanding the
foregoing, neither the Exchange Agent nor any party hereto shall be liable
to a holder of Shares for any Preferred Stock or Purchaser Common Stock
issued pursuant to this Article 3 or dividends thereon or, in accordance
with Section 3.7, proceeds of the sale of fractional interests, delivered
to a public official pursuant to applicable escheat law. The Exchange Agent
shall not be entitled to vote or exercise any rights of ownership with
respect to the Preferred Stock or Purchaser Common Stock issued pursuant to
this Article 3 and held by it from time to time hereunder, except that it
shall receive and hold all dividends or other distributions paid or
distributed with respect to such securities for the account of the Persons
entitled thereto.
(c) Certificates surrendered for exchange by any Person constituting a
Rule 145 Affiliate of the Company shall not be exchanged for certificates
representing Preferred Stock or Purchaser Common Stock until the Purchaser
has received a written agreement from such Person as provided in Section
6.13.
(d) Any portion of the Aggregate Merger Consideration and the Fractional
Securities Fund which remains unclaimed by the former shareholders of the
Company for one year after the Effective Time shall be delivered to the
Purchaser, upon demand of the Purchaser, and any former shareholders of the
Company shall thereafter look only to the Purchaser for payment of their
claim for the Share Consideration and the
A-12
<PAGE>
Per Share Cash Consideration Amount for the Shares or for any cash in lieu
of fractional Shares included in Share Consideration.
3.7. Fractional Shares. No fractional shares of any security constituting a
part of the Share Consideration shall be issued in the Merger. In lieu of any
such fractional securities, each holder of Shares who would otherwise have
been entitled to a fraction of a share of any security included in the Share
Consideration upon surrender of Certificates for exchange pursuant to this
Article 3 will be paid an amount in cash (without interest) equal to such
holder's proportionate interest in the net proceeds from the sale or sales in
the open market by the Exchange Agent, on behalf of all such holders, of the
Excess Shares representing the aggregation of all fractional interests created
pursuant to this Article 3. As soon as practicable following the Effective
Time, the Exchange Agent shall determine the excess of (i) the number of full
shares of each security included in the Share Consideration delivered to the
Exchange Agent by the Purchaser over (ii) the aggregate number of full shares
to be distributed to holders of Shares (such excess being herein called the
"Excess Shares"), and the Exchange Agent, as agent for the former holders of
Shares, shall sell the Excess Shares at the prevailing prices on the Exchange.
The sale of the Excess Shares by the Exchange Agent shall be executed on the
Exchange through one or more member firms of the Exchange and shall be
executed in round lots to the extent practicable. The Purchaser shall pay all
commissions, transfer taxes and other out-of-pocket transaction costs,
including the expenses and compensation of the Exchange Agent, incurred in
connection with such sale of Excess Shares. Until the net proceeds of such
sale have been distributed to the former shareholders of the Company, the
Exchange Agent will hold such proceeds in trust for such former shareholders
(the "Fractional Securities Fund"). As soon as practicable after the
determination of the amount of cash to be paid to former shareholders of the
Company in lieu of any fractional interests, the Exchange Agent shall make
available in accordance with this Agreement such amounts to such former
shareholders.
3.8. Transfer of Shares after the Effective Time. No transfers of Shares
shall be made on the stock transfer books of the Company after the close of
business on the day prior to the date of the Effective Time.
3.9. Dividend Rate of Preferred Stock. The dividend rate applicable to the
Preferred Stock shall initially be set, not earlier than the date 10 Business
Days nor later than the date five Business Days prior to the date upon which
the Proxy Statement/Prospectus is mailed to shareholders (the "Preferred
Pricing Date"), at the Par Trading Rate as determined in the joint written
opinion of DLJ and R-H. The dividend rate set at the Preferred Pricing Date
shall be subject to upward or downward adjustment as of the Offering Pricing
Date to a rate which, in the joint written opinion of DLJ and R-H, represents
the Par Trading Rate as of the Offering Pricing Date. In the event that DLJ
and R-H are unable to agree upon an appropriate dividend rate for the
Preferred Stock as of either the Preferred Pricing Date or the Offering
Pricing Date, Lazard shall advise the Company and the Purchaser in writing of
the rate which, in its opinion, represents the Par Trading Rate as of such
date. If the rate specified by Lazard for such security as of either such date
is within the high and low rates specified by DLJ and R-H for such security,
the rate so specified by Lazard shall be the rate for such security (subject
to adjustment as of the Offering Pricing Date as provided above in the case of
rates set as of the Preferred Pricing Date). If the rate specified by Lazard
for such security is above or below the range of the two rates specified by
DLJ and R-H for such security, the nearest of the two rates specified by DLJ
and R-H shall be the dividend rate for such security (subject to adjustment as
of the Offering Pricing Date as provided above in the case of rates set as of
the Preferred Pricing Date).
3.10. Closing. The Closing shall, subject to the terms and conditions set
forth herein, including, without limitation, the satisfaction or waiver of the
conditions set forth in Article 7, take place at the New York offices of
Anderson Kill Olick & Oshinsky, P.C. at the Effective Time, which shall occur
at the same time and on the same date (the "Closing Date") as the closing of
the sale of Purchaser Common Stock in the Purchaser Common Stock Offering.
From and after the Offering Pricing Date, time shall be of the essence in this
Agreement.
A-13
<PAGE>
ARTICLE 4
REPRESENTATIONS AND WARRANTIES OF THE COMPANY
Except as otherwise set forth in the Company Disclosure Schedule, the
Company hereby represents and warrants to the Purchaser as follows:
4.1. Organization of the Company. The Company is a corporation duly
organized, validly existing and in good standing under the laws of the State
of Tennessee, has full corporate power and authority to conduct its business
as and to the extent it is presently being conducted and as and to the extent
proposed by the Company to be conducted and to own, lease and operate its
properties and assets. The Company is duly qualified, licensed or admitted to
do business as a foreign corporation and is in good standing in each
jurisdiction in which the property owned, leased or operated by it or the
nature of the business conducted by it makes such qualification, licensing or
admission necessary and where the failure to be so qualified, licensed or
admitted has or could reasonably be expected (so far as can be foreseen at the
time) to have a Company Material Adverse Effect. Each jurisdiction in which
the Company is qualified to do business as a foreign corporation is listed in
Section 4.1 of the Company Disclosure Schedule. Except for the Company's
Subsidiaries, the Company does not directly or indirectly own any material
equity or similar interest in, or any interest convertible into or
exchangeable or exercisable for, any material equity or similar interest in,
any corporation, partnership, joint venture or other business association or
entity other than portfolio securities acquired by the Company in the ordinary
course of business.
4.2. Authorization. The Company has all necessary corporate power and
authority to enter into this Agreement, has taken all corporate action
necessary to consummate the transactions contemplated hereby and, subject to
obtaining the Company Shareholders' Approval, to perform its obligations
hereunder. The execution, delivery and performance of this Agreement by the
Company and the consummation by the Company of the transactions contemplated
hereby have been duly and validly approved by the Board of Directors of the
Company. Subject to Section 6.3, the Board of Directors of the Company has
recommended adoption of this Agreement by the shareholders of the Company and
directed that this Agreement be submitted to the shareholders of the Company
for their consideration, and no other corporate proceedings on the part of the
Company or its shareholders are necessary to authorize the execution, delivery
and performance of this Agreement by the Company and the consummation by the
Company of the transactions contemplated hereby, other than obtaining the
Company Shareholders' Approval. This Agreement has been duly and validly
executed and delivered by the Company and constitutes a legal, valid and
binding obligation of the Company enforceable against the Company in
accordance with its terms, except as enforceability may be limited by
bankruptcy, insolvency, reorganization, moratorium or other similar laws
affecting the enforcement of creditors' rights generally and by general
equitable principles (regardless of whether such enforceability is considered
in a proceeding in equity or at law).
4.3. Subsidiaries. Section 4.3 of the Company Disclosure Schedule sets forth
a complete and accurate list of all of the Company's Subsidiaries and
indicates the Company's ownership interest in each. Section 4.3 of the Company
Disclosure Schedule also sets forth the jurisdiction of incorporation of each
of the Company's Subsidiaries, each jurisdiction in which such Subsidiary is
qualified, licensed (other than licenses to conduct insurance business) or
admitted to do business and the number of shares of capital stock of such
Subsidiary authorized and outstanding. Each Subsidiary of the Company (i) is a
corporation or other legal entity duly organized, validly existing and (if
applicable) in good standing under the laws of the jurisdiction of its
incorporation or organization and has the full power and authority to own,
lease or operate its properties and assets and conduct its business as and to
the extent currently conducted, except where the failure to be duly organized,
validly existing and in good standing does not have, and could not reasonably
be expected (so far as can be foreseen at the time) to have, a Company
Material Adverse Effect, and (ii) is duly qualified, licensed or admitted and
in good standing in each jurisdiction in which the property owned, leased or
operated by it or the nature of the business conducted by it makes such
qualification, license or admission necessary, except where
A-14
<PAGE>
the failure to be so qualified, licensed or admitted does not have and could
not reasonably be expected (so far as can be foreseen at the time) to have a
Company Material Adverse Effect.
4.4. Capital Stock.
(a) As of the date hereof, the authorized capital stock of the Company
consists solely of 50,000,000 shares of Company Common Stock, of which
5,389,022 shares are issued and outstanding, no shares are held in the
treasury of the Company and 534,500 shares are reserved for issuance pursuant
to outstanding Options granted under the Company's Plan, 97,000 shares are
reserved for issuance pursuant to outstanding warrants and 157,500 shares are
reserved for issuance in connection with the acquisition of the minority
interests of certain of the Company's Subsidiaries. Except for shares of
Company Common Stock issued upon exercise of outstanding Options granted
pursuant to the Company's Plan, the outstanding warrants, the acquisition of
certain minority interests of the Company's Subsidiaries and except as
contemplated by Section 6.1(a), there has not been, and as of the Closing Date
there will not have been, any change in the number of issued and outstanding
shares of Company Common Stock or shares of Company Common Stock held in
treasury or reserved for issuance since the date hereof. All of the issued and
outstanding shares of Company Common Stock are, and all shares reserved for
issuance will be, upon issuance in accordance with the terms specified in the
instruments or agreements pursuant to which they are issuable, duly
authorized, validly issued, fully paid and nonassessable. Except as described
in this Section 4.4 and pursuant to this Agreement, there are no outstanding
Options obligating the Company or any of its Subsidiaries to issue or sell any
shares of capital stock of the Company or to grant, extend or enter into any
Option with respect thereto.
(b) All of the outstanding shares of capital stock of each Subsidiary of the
Company are duly authorized, validly issued, fully paid and nonassessable and
are owned, beneficially and of record, by the Company, free and clear of any
Liens. There are no (i) outstanding Options obligating the Company or any of
its Significant Subsidiaries to issue or sell any shares of capital stock of
any Significant Subsidiary of the Company or to grant, extend or enter into
any such Option or (ii) voting trusts, proxies or other commitments,
understandings, restrictions or arrangements in favor of any person other than
the Company or a Significant Subsidiary, wholly owned directly or indirectly,
by the Company with respect to the voting of or the right to participate in
dividends or other earnings on any capital stock of any Significant Subsidiary
of the Company.
(c) There are no outstanding contractual obligations of the Company or any
Significant Subsidiary of the Company to repurchase, redeem or otherwise
acquire any shares of Company Common Stock or any capital stock of any
Significant Subsidiary of the Company or to provide funds to, or make any
investment (in the form of a loan, capital contribution or otherwise) in, any
Significant Subsidiary of the Company or any other Person.
4.5. Government Approvals; Compliance with Laws and Orders.
(a) To the best of the Company's knowledge, the Company and each of its
Significant Subsidiaries has obtained from the appropriate Governmental Bodies
or self-regulatory organizations which are charged with regulating or
supervising any business conducted by the Company or any Significant
Subsidiary of the Company all permits, variances, exemptions, orders,
approvals and licenses necessary for the conduct of its business and
operations as and to the extent currently conducted (the "Company Permits"),
which Company Permits are valid and remain in full force and effect, except
where the failure to have obtained such Company Permits or the failure of such
Company Permits to be valid and in full force and effect, individually or in
the aggregate, does not have and could not reasonably be expected (so far as
can be foreseen at the time) to have a Company Material Adverse Effect. The
Company and its Subsidiaries are in compliance with the terms of the Company
Permits, except failures so to comply which, individually or in the aggregate,
do not have and could not reasonably be expected (so far as can be foreseen at
the time) to have a Company Material Adverse Effect.
(b) Neither the Company nor any of its Significant Subsidiaries has received
notice of any Order or any complaint, proceeding or investigation of any
Governmental Body or self-regulatory organization which is charged with
regulating or supervising any business conducted by the Company or any
Significant Subsidiary of the Company pending or, to the knowledge of the
Company, threatened, which affects or could reasonably be
A-15
<PAGE>
expected (so far as can be foreseen at the time) to affect the validity of any
such Company Permit or impair the renewal thereof, except where the invalidity
of any such Company Permit or the non-renewal thereof does not have and could
not reasonably be expected (so far as can be foreseen at the time) to have a
Company Material Adverse Effect. As of the date hereof, neither the Company
nor any of its Significant Subsidiaries is a party or subject to, any
agreement, consent decree or Order, or other understanding or arrangement
with, or any directive of, any Governmental Body or self-regulatory
organization which is charged with regulating or supervising any business
conducted by the Company or any Significant Subsidiary of the Company which
imposes any material restrictions on or otherwise affects in any material way,
the conduct of the insurance business of the Company or any of its Significant
Subsidiaries.
(c) To the best of the Company's knowledge, the Company and its Subsidiaries
are not and have not been in violation of or default under any Laws or Order
of any Governmental Body or self-regulatory organization which is charged with
regulating or supervising any business conducted by the Company or any
Subsidiary of the Company, except for violations which, individually or in the
aggregate, have not had and could not reasonably be expected (so far as can be
foreseen at the time) to have a Company Material Adverse Effect.
4.6. Absence of Certain Changes or Events. Since the Balance Sheet Date, to
the best of the Company's knowledge (i) there has not been any change, event
or development (or threat thereof) which has had, or that could reasonably be
expected (so far as can be foreseen) to have, individually or in the
aggregate, a Company Material Adverse Effect, (ii) the Company and its
Subsidiaries have conducted their respective businesses only in the ordinary
course consistent with past practice and (iii) neither the Company nor any of
its Significant Subsidiaries has taken any action which, if taken after the
date hereof, would constitute a breach of any provision of Section 6.1.
Without limiting the generality of the foregoing, since the Balance Sheet Date
except as disclosed in Company SEC Reports filed prior to the date hereof and
as disclosed in the Company Disclosure Schedule, there has not been any:
(a) change in the condition (financial or otherwise), assets,
liabilities, working capital, reserves, earnings, business or prospects of
the Company or any of its Subsidiaries, except for changes contemplated
hereby or changes which have not, individually or in the aggregate, had a
Company Material Adverse Effect;
(b) (i) except for normal periodic increases in the ordinary course of
business consistent with past practice, increase in the compensation
payable or to become payable to any Company Employee whose total cash
compensation for services rendered to the Company or any of its
Subsidiaries is currently at an annual rate of more than $100,000, (ii)
except in the ordinary course of business consistent with past practice
bonus, incentive compensation, service award or other like benefit granted,
made or accrued, contingently or otherwise, for or to the credit of any of
the Company Employees, (iii) except in the ordinary course of business
consistent with past practice or as required by law, employee welfare,
pension, retirement, profit-sharing or similar payment or arrangement made
or agreed to by the Company or any of its Subsidiaries for any Company
Employee provided, however, that any employee welfare, pension, retirement,
profit-sharing or similar payment or arrangement made or agreed to by the
Company or any of its Subsidiaries for any Company Employee pursuant to the
existing plans and arrangements described in benefit plans and arrangements
described in Section 4.15 of the Company Disclosure Schedule shall be
permitted, or (iv) new employment agreement to which the Company or any of
its Subsidiaries is a party;
(c) except in the ordinary course of business consistent with past
practice or as required by law, addition to or modification of the employee
benefit plans, arrangements or practices described in Section 4.14 of the
Company Disclosure Schedule affecting Company Employees other than (i)
contributions made for 1994 or 1995 in accordance with the normal practices
of the Company or its Subsidiaries or (ii) the extension of coverage to
other Company Employees who became eligible after the Balance Sheet Date;
(d) sale, assignment or transfer of any of the assets of the Company or
any of its Subsidiaries, which are material, singly or in the aggregate to
the Company and its Subsidiaries, taken as a whole, other than in the
ordinary course;
A-16
<PAGE>
(e) cancellation of any indebtedness or waiver of any rights of
substantial value to the Company and its Subsidiaries, taken as a whole,
whether or not in the ordinary course of business;
(f) amendment, cancellation or termination of any Contract, license or
other instrument material to the Company and its Subsidiaries, taken as a
whole;
(g) capital expenditure or the execution of any lease or any incurring of
liability therefor by the Company or any of its Subsidiaries, involving
payments in excess of $50,000 in any 12 month period or $250,000 in the
aggregate;
(h) failure to repay when due any material obligation of the Company or
any of its Subsidiaries, except in the ordinary course of business or where
such failure could not have a Company Material Adverse Effect;
(i) material change in accounting methods or practices by the Company or
any of its Subsidiaries affecting their respective assets, liabilities or
business;
(j) material revaluation by the Company or any of its Subsidiaries of any
of their respective assets, including without limitation, writing-off notes
or accounts receivable which are, individually or in the aggregate,
material to the Company and its Subsidiaries, taken as a whole;
(k) damage, destruction or loss (whether or not covered by insurance)
having a Company Material Adverse Effect;
(l) mortgage, pledge or other encumbrance of any assets of the Company or
any of its Subsidiaries, which are material, singly or in the aggregate, to
the Company and its Subsidiaries taken as a whole except purchase money
mortgages arising in the ordinary course of business;
(m) declaration, setting aside or payment of dividends or distributions
in respect of any capital stock of the Company or any redemption, purchase
or other acquisition of any of the Company's equity securities;
(n) issuance by the Company or any of its Subsidiaries of, or commitment
of the Company or any of its Subsidiaries to issue, any shares of capital
stock or other equity securities or Options other than the issuance of
Company Common Stock upon the exercise of Options as provided in Section
3.5;
(o) indebtedness incurred by the Company or any of its Subsidiaries for
borrowed money or any commitment to borrow money entered into by the
Company or any of its Subsidiaries, or any loans made or agreed to be made
by the Company or any of its Subsidiaries;
(p) liabilities incurred involving $250,000 or more, except in the
ordinary course of business and consistent with past practice, or any
increase or change in any assumptions underlying or methods of calculating
any bad debt, contingency or other reserves other than in the ordinary
course of business consistent with past practices;
(q) payment, discharge or satisfaction of any liabilities other than the
payment, discharge or satisfaction (i) in the ordinary course of business
and consistent with past practice of liabilities reflected or reserved
against in the Balance Sheet or incurred in the ordinary course of business
and consistent with past practice since the Balance Sheet Date and (ii) of
other liabilities involving not more than $250,000 singly and not more than
$750,000 in the aggregate; or
(r) agreement or commitment by the Company or any of its Subsidiaries to
do any of the foregoing.
4.7. Compliance with Contracts and Commitments.
(a) Section 4.7 of the Company Disclosure Schedule contains an accurate and
complete listing of each material Contract, whether written or oral, required
to be described in the Company SEC Reports or filed as exhibits thereto
pursuant to the Exchange Act. Each of such Contracts (other than Contracts
which have expired or terminated in accordance with the terms thereof) is in
full force and effect and (i) to the best of the Company's knowledge, neither
the Company nor any of its Subsidiaries nor, to the best of the Company's
knowledge, any other party thereto has breached or is in default thereunder,
(ii) to the best of the Company's knowledge, no event has occurred which, with
the passage of time or the giving of notice or both would constitute such a
breach or default, (iii) to the best of the Company's knowledge, no claim of
material default thereunder has been
A-17
<PAGE>
asserted or threatened and (iv) neither the Company nor any of its
Subsidiaries nor, to the knowledge of the Company, any other party thereto is
seeking the renegotiation thereof or substitute performance thereunder, except
where such breach or default, or attempted renegotiation or substitute
performance, individually or in the aggregate, does not have and could not
reasonably be expected (so far as can be foreseen at the time) to have a
Company Material Adverse Effect.
(b) Neither the Company nor any Subsidiary of the Company is in violation of
any term of (i) its charter, by-laws or other organizational documents, (ii)
any agreement or instrument related to indebtedness for borrowed money or any
other Contract to which it is a party or by which it is bound, (iii) any
applicable law, ordinance, rule or regulation of any Governmental Body, or
(iv) any applicable Order of any Governmental Body, or self-regulatory
organization which is charged with regulating or supervising any business
conducted by the Company or any Subsidiary of the Company, the consequences of
which violation, whether individually or in the aggregate, have or could
reasonably be expected (so far as can be foreseen at the time) to have a
Company Material Adverse Effect.
4.8. Non-Contravention; Approvals and Consents.
(a) The execution and delivery of this Agreement by the Company do not, and
the performance by the Company of its obligations hereunder and the
consummation of the transactions contemplated hereby will not, conflict with,
result in a violation or breach of, constitute (with or without notice or
lapse of time or both) a default under, result in or give to any Person any
right of payment or reimbursement, termination, cancellation, modification or
acceleration of, or result in the creation or imposition of any Lien upon any
of the assets or properties of the Company or any of its Subsidiaries under,
any of the terms, conditions or provisions of (i) the Certificate of
Incorporation or By-laws (or other comparable charter document) of the Company
or any of its Subsidiaries, or (ii) subject to the obtaining of the Company
Shareholders' Approval and the taking of the actions described in paragraph
(b) of this Section, (x) Laws or Orders, of any Governmental Body or self-
regulatory organization which is charged with regulating or supervising any
business conducted by the Company or any Subsidiary of the Company, applicable
to the Company or any of its Subsidiaries or any of their respective assets or
properties, or (y) any Contract to which the Company or any of its
Subsidiaries is a party or by which the Company or any of its Subsidiaries or
any of their respective assets or properties is bound, excluding from the
foregoing clauses (x) and (y) conflicts, violations, breaches, defaults,
terminations, modifications, accelerations and creations and impositions of
Liens which, individually or in the aggregate, could not reasonably be
expected to have a Company Material Adverse Effect.
(b) Except for (i) the filing of a premerger notification report by the
Company under the HSR Act, (ii) the filing of the Proxy Statement/Prospectus
with the SEC pursuant to the Exchange Act, (iii) the filing of the Certificate
of Merger and other appropriate merger documents required by the TBCA and the
DGCL with the Secretary of State of the State of Tennessee and the Secretary
of State of the State of Delaware, respectively and appropriate documents with
the relevant authorities of other states in which the Constituent Corporations
are qualified to do business and (iv) any filings required to be made with the
Tennessee State Department of Commerce and Insurance and any other regulatory
authority in each jurisdiction in which the Company or any of its Subsidiaries
conducts insurance business, no consent, approval or action of, filing with or
notice to any Governmental Body or other public or private third party is
necessary or required under any of the terms, conditions or provisions of any
Law or Order of any Governmental Body or self-regulatory organization which is
charged with regulating or supervising any business conducted by the Company
or any Subsidiary of the Company, or any Contract to which the Company or any
of its Subsidiaries is a party or by which the Company or any of its
Subsidiaries or any of their respective assets or properties is bound for the
execution and delivery of this Agreement by the Company, the performance by
the Company of its obligations hereunder or the consummation of the
transactions contemplated hereby, other than such consents, approvals,
actions, filings and notices which the failure to make or obtain, as the case
may be, individually or in the aggregate, could not reasonably be expected to
have a Company Material Adverse Effect.
A-18
<PAGE>
4.9. Litigation. Except as disclosed in Section 4.9 of the Company
Disclosure Schedule there are no actions, suits, arbitrations, investigations
or proceedings (adjudicatory, rulemaking or otherwise) pending or, to the
knowledge of the Company, threatened against the Company or any of its
Subsidiaries (or any Company Employee Plan or Company Benefit Arrangement), or
any property of the Company or any such Subsidiary (including Proprietary
Rights), in any court or before any arbitrator of any kind or before or by any
Governmental Body, except actions, suits, arbitrations, investigations or
proceedings which, individually or in the aggregate, have not had and if
adversely determined or resolved, could not reasonably be expected (so far as
can be foreseen at the time) to have a Company Material Adverse Effect.
4.10. Labor Matters. The Company is in material compliance with all
applicable laws respecting employment practices, terms and conditions of
employment and wages and hours and is not engaged in any unfair labor
practice. There is no unfair labor practice charge or complaint against the
Company pending before the National Labor Relations Board or any other
governmental agency arising out of the Company's activities, and the Company
has no knowledge of any facts or information which would give rise thereto.
4.11. Absence of Undisclosed Liabilities. The Company has no liabilities or
obligations (whether choate or inchoate, absolute or contingent, or otherwise)
except (i) liabilities which are reflected and reserved against or disclosed
on the Balance Sheet, (ii) liabilities incurred in the ordinary course of
business and consistent with past practice since the Balance Sheet Date and
which have not resulted in, and could not reasonably be expected to result in,
individually or in the aggregate, a Company Material Adverse Effect.
4.12. No Brokers. Neither the Company nor any Subsidiary or affiliate of the
Company has entered into or will enter into any Contract or understanding,
whether oral or written, with any Person other than R-H which will result in
the obligation of the Purchaser to pay any finder's fee, brokerage commission
or similar payment in connection with the transactions contemplated hereby.
4.13. No Other Agreements to Sell the Assets or the Company. Neither the
Company nor any Significant Subsidiary has any legal obligation, absolute or
contingent, to any other person to sell any Assets, to sell any capital stock
of the Company or any of its Significant Subsidiaries or to effect any merger,
consolidation or other reorganization of the Company or any of its Significant
Subsidiaries or to enter into any agreement with respect thereto.
4.14. Employee Benefit Plans.
(a) The Company Disclosure Schedule sets forth a true and complete list of
all the following: (i) each "employee benefit plan," as such term is defined
in Section 3(3) of ERISA, established by the Company, any of its Significant
Subsidiaries, or any ERISA Affiliate or under which the Company, any of its
Significant Subsidiaries, or any ERISA Affiliate contributes or under which
any Employees of the Company or any beneficiary thereof is covered, is
eligible for coverage or has benefit rights with respect to service to the
Company, any of its Significant Subsidiaries or any ERISA Affiliate or under
which any obligation exists to issue capital stock of the Company or any of
its Significant Subsidiaries (each, a "Company Employee Plan"), and (ii) each
other plan, program, policy, contract or arrangement providing for bonuses,
pensions, deferred pay, stock or stock-related awards, severance pay, salary
continuation or similar benefits, hospitalization, medical, dental or
disability benefits, life insurance or other employee benefits, or
compensation to or for any Company Employees or any beneficiaries or
dependents of any Company Employees (other than directors' and officers'
liability insurance policies), whether or not oral or written or insured or
funded, or constituting an employment or severance agreement or arrangement
with any officer or director of the Company or any Significant Subsidiary
(each, a "Company Benefit Arrangement"). Any such Company Employee Plans or
Company Benefit Arrangements maintained for any officer, director or employee
of a Subsidiary of the Company that is not a Significant Subsidiary are not in
the aggregate material to the Company and its Significant Subsidiaries taken
as a whole. The Company Disclosure Schedule also (i) sets forth a true and
complete list of each Company Employee Plan maintained by the Company, any
ERISA Affiliate, or any of its Significant Subsidiaries, during the five years
preceding the date of this Agreement that was covered during such period by
Title IV of ERISA,
A-19
<PAGE>
(ii) identifies each Company Employee Plan that is intended to be qualified
under Section 401(a) of the Code, and (iii) identifies the Company Employee
Plans and Company Benefit Arrangements that are maintained, respectively, by
each of the Company and its Significant Subsidiaries. The Company has made
available to the Purchaser with respect to each Company Employee Plan and
Company Benefit Arrangement: (i) a true and complete copy of all written
documents comprising such Company Employee Plan or Company Benefit Arrangement
(including amendments and individual agreements relating thereto) or, if there
is no such written document, an accurate and complete description of such
Company Employee Plan or Company Benefit Arrangement; (ii) the most recent
Form 5500 or Form 5500-C (including all schedules thereto), if applicable;
(iii) the most recent financial statements and actuarial reports, if any,
including without limitation, any such reports relating to any health or
medical plan; (iv) the summary plan description currently in effect and all
material modifications thereof, if any; and (v) the most recent Internal
Revenue Service determination letter, if any. Any such Company Employee Plans
and Company Benefit Arrangements not so provided are not in the aggregate
material to the Company and its Subsidiaries taken as a whole.
(b) Each Company Employee Plan and Company Benefit Arrangement has been
established and maintained in all material respects substantially in
accordance with its terms and substantially in compliance with all applicable
laws, including, but not limited to, ERISA and the Code where the failure to
comply with such terms or laws would have a Company Material Adverse Effect.
To the best of the Company's knowledge, neither the Company nor any of its
Significant Subsidiaries nor any of their respective Employees nor any other
disqualified person or party-in-interest with respect to any Company Employee
Plan, have engaged directly or indirectly in any "prohibited transaction," as
such term is defined in section 4975 of the Code or Section 406 of ERISA, with
respect to which the Company or its Significant Subsidiaries could have or has
any material liability. All contributions required to be made to the Company
Employee Plans and Company Benefit Arrangements have been made timely or, to
the extent such contributions have not been made timely the liability
resulting therefrom is not material. Each Company Employee Plan that is
intended to be qualified under Section 401(a) of the Code and whose related
trust is intended to be exempt from taxation under Section 501(a) of the Code
has received, or has applied for and has not been denied, a favorable
determination letter with respect to its qualification and to the Company's
best knowledge, nothing has occurred which could cause a loss of such
qualification. Neither the Company, any ERISA Affiliate nor any Significant
Subsidiary has incurred any liability to the Pension Benefit Guaranty
Corporation other than a liability for premiums not yet due.
(c) Neither the Company, any ERISA Affiliate nor any Significant Subsidiary
has ever maintained, sponsored or contributed to any employee plan that is or
was subject to Section 412 of the Code has incurred any "accumulated funding
deficiency" (as defined in Section 412 of the Code), whether or not waived.
(d) Neither the Company, any ERISA Affiliate nor any Significant Subsidiary
has ever maintained or sponsored or contributed to any employee pension
benefit plan.
(e) Neither the Company nor any ERISA Affiliate has any liability under
Title IV of ERISA, nor do any circumstances exist that could result in any of
them having any liability under Title IV of ERISA. To the best of the
Company's knowledge, neither the Company nor any Significant Subsidiary has
any liability for any failure to comply with the continuation coverage
requirements of Section 601 et seq. of ERISA and Section 4980B of the Code or
to the extent the Company or any Significant Subsidiary has any such
liability, such liability is not material.
(f) There are no actions, suits, arbitrations, inquiries, investigations or
other proceedings (other than routine claims for benefits) pending or, to the
Company's knowledge, threatened, with respect to any Company Employee Plan or
Company Benefit Arrangement.
(g) No Employees and no beneficiaries or dependents of Employees are or may
become entitled under any Company Employee Plan or Company Benefit arrangement
to post-employment welfare benefits of any kind, including without limitation
death or medical benefits, (other than coverage mandated by Section 4980B of
the Code.)
A-20
<PAGE>
(h) There are no agreements with, or pending petitions for recognition of, a
labor union or association as the exclusive bargaining agent for any of the
employees of the Company or any of its Significant Subsidiaries; no such
petitions have been pending at any time within two years of the date of this
Agreement and, to the Company's best knowledge, there has not been any
organizing effort by any union or other group seeking to represent any
employees of the Company or any of its Significant Subsidiaries as their
exclusive bargaining agent at any time within two years of the date of this
Agreement. There are no labor strikes, work stoppages or other labor troubles,
other than routine grievance matters, now pending, or, to the Company's
knowledge, threatened, against the Company or any of its Significant
Subsidiaries, nor have there been any such labor strikes, work stoppages or
other labor troubles, other than routine grievance matters, with respect to
the Company or any of its Significant Subsidiaries at any time within two
years of the date of this Agreement.
(i) Neither the Company, nor any Significant Subsidiary has scheduled or
agreed upon future increases of benefits levels (or creations of new benefits)
with respect to any Company Employee Plan or Company Benefit Arrangement, and
no such increases or creation of benefits have been proposed or made the
subject of representations to employees under circumstances which make it
reasonable to expect that such increases would be granted. No loan is
outstanding between the Company, any Subsidiary, or any ERISA Affiliate and
any Employee.
4.15. S-4 Registration Statement and Proxy Statement/Prospectus.
(a) The Proxy Statement/Prospectus relating to the Company Shareholders'
Meeting, as amended or supplemented from time to time, and any other
documents, including without limitation, the S-4 Registration Statement, to be
filed with the SEC or any other Governmental Body or self-regulatory
organization which is charged with regulating or supervising any business
conducted by the Company or any Subsidiary of the Company in connection with
the Merger and the other transactions contemplated hereby will not, on the
date of its filing or, in the case of the Proxy Statement/Prospectus, at the
date it is mailed to shareholders, at the time of the Company Shareholders'
Meeting and at the Effective Time, contain any untrue statement of a material
fact or omit to state any material fact required to be stated therein or
necessary in order to make the statements therein, in light of the
circumstances under which they are made, not misleading insofar as the
information therein relates to the Company. The Proxy Statement/Prospectus and
any such other documents filed by the Company with the SEC under the Exchange
Act will comply as to form in all material respects with the requirements of
the Exchange Act and the Securities Act.
(b) Neither the information supplied or to be supplied by or on behalf of
the Company for inclusion, nor the information incorporated by reference from
documents filed by the Company with the SEC, in any document to be filed by
the Purchaser with the SEC or any other Governmental Body or self-regulatory
organization which is charged with regulating or supervising any business
conducted by the Company or any Subsidiary of the Company in connection with
the Merger, the Purchaser Common Stock Offering or any other transaction
contemplated hereby will on the date of its filing contain, to the best of the
Company's knowledge, any untrue statement of a material fact or omit to state
any material fact required to be stated therein or necessary in order to make
the statements therein, in light of the circumstances under which they are
made, not misleading.
4.16. Tax Matters. To the best of the Company's knowledge, the Company
Taxpayers have duly filed all tax reports and returns required to be filed by
them, including all federal, state, local and foreign tax returns and reports
and have paid in full all taxes required to be paid by such Company Taxpayers
before such payment became delinquent. To the best of the Company's knowledge,
the Company has made adequate provision, in conformity with generally accepted
accounting principles consistently applied, for the payment of all taxes which
may subsequently become due. All taxes which any Company Taxpayer has been
required to collect or withhold have been duly collected or withheld and, to
the extent required when due, have been or will be duly paid to the proper
taxing authority.
The consolidated federal income tax returns of the Company and its
predecessors and the federal income tax returns of each Subsidiary of the
Company whose results of operations are not consolidated in the federal
A-21
<PAGE>
income tax returns of the Company, have not been examined by the Internal
Revenue Service for any periods since their inception. There are no audits
known by the Company to be pending of the Company's tax returns, and there are
no claims which have been or may be asserted relating to any of the Company's
tax returns filed for any year which if determined adversely would result in
the assertion by any governmental agency of any deficiency which could
reasonably be expected to result in, individually or in the aggregate, a
Company Material Adverse Effect. There have been no waivers of statutes of
limitations by the Company.
None of the Company Taxpayers has filed a statement under Section 341(f) of
the Code (or any comparable state income tax provision) consenting to have the
provisions of Section 341(f)(2) (collapsible corporations provisions) of the
Code (or any comparable state income tax provision) apply to any disposition
of any of the Company's assets or property, and no property of the Company is
property which the Purchaser or the Company is or will be required to treat as
owned by another person pursuant to the provisions of Section 168(f) (safe
harbor leasing provisions) of the Code. The Company is not a party to any tax-
sharing agreement or similar arrangement with any other party.
For the purpose of this Agreement, any federal, state, local or foreign
income, sales, use, transfer, payroll, personal property, occupancy or other
tax, levy, impost, fee, imposition, assessment or similar charge, together
with any related addition to tax, interest or penalty thereon, is referred to
as a "tax."
4.17. Reports and Financial Statements. The Company has filed with the SEC
all Company SEC Reports and has previously made available to the Purchaser
true and complete copies of all the Company SEC Reports. As of their
respective dates, the Company SEC Reports (i) complied as to form in all
material respects with the requirements of the Securities Act, or the Exchange
Act, as the case may be, and (ii) to the best of the Company's knowledge, did
not contain any untrue statement of a material fact or omit to state a
material fact required to be stated therein or necessary to make the
statements therein, in light of the circumstances under which they were made,
not misleading. The audited consolidated financial statements and unaudited
interim consolidated financial statements (including, in each case, the notes,
if any, thereto) included in the Company SEC Reports (the "Company Financial
Statements") complied as to form in all material respects with the published
rules and regulations of the SEC with respect thereto, and, to the best of the
Company's knowledge, fairly present (subject, in the case of the unaudited
interim financial statements, to normal, recurring year-end audit adjustments
which are not expected, individually or in the aggregate, to result in a
Company Material Adverse Effect) the consolidated financial position of the
Company and its consolidated subsidiaries as of the respective dates thereof
and the consolidated results of their operations and cash flows for the
respective periods then ended, in each case, in accordance with generally
accepted accounting principles consistently applied. Each Significant
Subsidiary of the Company is treated as a consolidated subsidiary of the
Company in the Company Financial Statements for all periods covered thereby.
4.18. Payments. The Company has not, directly or indirectly, paid nor has it
delivered any fee, commission or other sum of money or item or property,
however characterized, to any finder, agent, government official or other
party, in the United States or any other country, which is in any manner
related to the business or operations of the Company, which the Company knows
or has reason to believe to have been illegal under any federal, state or
local laws of the United States or any other country having jurisdiction; and
the Company has not participated, directly or indirectly, in any boycotts or
other similar practices affecting any of its actual or potential customers and
has at all times done business in an open and ethical manner.
4.19. Information Supplied. The financial and other information provided to
the Purchaser by or on behalf of the Company on or prior to the date hereof
and listed on the Company Disclosure Schedule at Section 4.19 of such Schedule
relating to (i) loans of the Company or its Subsidiaries secured by an
interest in real property, (ii) the reserves and other amounts of liabilities
or obligations of the Company and its Subsidiaries in respect of insurance
contracts, annuity contracts and guaranteed interest contracts as established
or reflected on the books and records of the Company and its Subsidiaries and
(iii) reinsurance, retrocession, coinsurance and similar contracts was
prepared in good faith and, as of the dates provided and in light of the
circumstances under which such information was provided (as supplemented by
further information provided by the Company to the
A-22
<PAGE>
Purchaser prior to the date hereof), accurately reflected in all material
respects the status or matters purported to be reflected by such financial or
other information. To the best of the Company's knowledge, the information
listed on Company Disclosure Schedule at Section 4.19 thereof which was
provided to the Purchaser by the Company with respect to the business,
operations and financial condition of the Company is not false or misleading
in any material respect, as of the dates provided and in light of the
circumstances under which such information was provided (as supplemented by
further information provided by the Company to the Purchaser prior to the date
hereof).
4.20. Other Reports. Since January 1, 1991, to the best of the Company's
knowledge, the Company and each insurance Subsidiary of the Company has filed
all required forms, reports and documents required to be filed with the
applicable state commissioners or superintendents of insurance, and any other
Governmental Body or self-regulatory organization which is charged with
regulating or supervising any business conducted by the Company or any
Subsidiary of the Company (other than such forms, reports and documents which
if not filed would not adversely affect in any significant manner the licenses
and regulatory status of the Company or any insurance Subsidiary), each of
which complied in all material respects with applicable requirements in effect
on the dates of such filings and to the best of the Company's knowledge, none
of which, as of its date, contained any untrue statement of a material fact or
omitted to state any material fact required to be stated therein or necessary
in order to make the statements therein, in light of the circumstances in
which they were made, not misleading.
4.21. Vote Required. The affirmative vote of the holders of record of a
majority of the outstanding shares of Company Common Stock with respect to the
adoption of this Agreement is the only vote of the holders of any class or
series of the capital stock of the Company required to adopt this Agreement
and approve the Merger and the other transactions contemplated hereby.
4.22. Chapter 35 of the TBCA. The provisions of Sections 48-35-101 et seq.
of the TBCA will not apply to this Agreement, the Merger or the other
transactions contemplated hereby.
4.23. Fairness Opinions. The Company has received the oral opinion of R-H to
the effect that the consideration to be received by the holders of Company
Common Stock pursuant to the Merger is fair from a financial point of view to
such holders.
ARTICLE 5
REPRESENTATIVES AND WARRANTIES OF THE PURCHASE AND THE MERGER SUB
Except as otherwise set forth in the Purchaser Disclosure Schedule, the
Purchaser and the Merger Sub hereby represent and warrant to the Company as
follows:
5.1. Organization of the Purchaser and the Merger Sub. Each of the Purchaser
and the Merger Sub is a corporation duly organized, validly existing and in
good standing under the laws of the State of Delaware, has full corporate
power and authority to conduct its business as and to the extent it is
presently being conducted and as and to the extent proposed by the Purchaser
to be conducted and to own, lease and operate its properties and assets. The
Purchaser is duly qualified, licensed or admitted to do business as a foreign
corporation and is in good standing in each jurisdiction in which the property
owned, leased or operated by it or the nature of the business conducted by it
makes such qualification, licensing or admission necessary and where the
failure to be so qualified, licensed or admitted has or could reasonably be
expected (so far as can be foreseen at the time) to have a Purchaser Material
Adverse Effect. Each jurisdiction in which the Purchaser is qualified to do
business as a foreign corporation is listed in Section 5.1 of the Purchaser
Disclosure Schedule. Except for the Purchaser's Subsidiaries, the Purchaser
does not directly or indirectly own any material equity or similar interest
in, or any interest convertible into or exchangeable or exercisable for, any
material equity or similar interest in, any
A-23
<PAGE>
corporation, partnership, joint venture or other business association or
entity other than portfolio securities acquired by the Purchaser in the
ordinary course of business.
5.2. Authorization. Each of the Purchaser and the Merger Sub has all
necessary corporate power and authority to enter into this Agreement, has
taken all corporate action necessary to consummate the transactions
contemplated hereby and, subject to obtaining the Purchaser's Stockholders'
Approval, to perform its obligations hereunder. The execution, delivery and
performance of this Agreement by the Purchaser and the Merger Sub and the
consummation by the Purchaser and the Merger Sub of the transactions
contemplated hereby have been duly and validly approved by the Board of
Directors of the Purchaser and the Merger Sub, respectively. The Board of
Directors of the Purchaser has recommended adoption of this Agreement by the
stockholders of the Purchaser and directed that this Agreement be submitted to
the stockholders of the Purchaser for their consideration, and no other
corporate proceedings on the part of the Purchaser or its stockholders are
necessary to authorize the execution, delivery and performance of this
Agreement by the Purchaser and the consummation by the Purchaser of the
transactions contemplated hereby, other than obtaining the Purchaser's
Stockholders' Approval. This Agreement has been duly and validly executed and
delivered by the Purchaser and the Merger Sub and constitutes a legal, valid
and binding obligation of the Purchaser enforceable against the Purchaser and
the Merger Sub in accordance with its terms, except as enforceability may be
limited by bankruptcy, insolvency, reorganization, moratorium or other similar
laws affecting the enforcement of creditors' rights generally and by general
equitable principles (regardless of whether such enforceability is considered
in a proceeding in equity or at law).
5.3. Subsidiaries. Section 5.3 of the Purchaser Disclosure Schedule sets
forth a complete and accurate list of all of the Purchaser's Subsidiaries, and
indicates the Company's ownership interest in each. Section 5.3 of the
Purchaser Disclosure Schedule also sets forth the jurisdiction of
incorporation of each of the Purchaser's Subsidiaries, each jurisdiction in
which such Subsidiary is qualified, licensed (other than licenses to conduct
insurance business) or admitted to do business and the number of shares of
capital stock of such Subsidiary authorized and outstanding. Each Subsidiary
of the Purchaser (i) is a corporation or other legal entity duly organized,
validly existing and (if applicable) in good standing under the laws of the
jurisdiction of its incorporation or organization and has the full power and
authority to own, lease or operate its properties and assets and conduct its
business as and to the extent currently conducted, except where the failure to
be duly organized, validly existing and in good standing does not have, and
could not reasonably be expected (so far as can be foreseen at the time) to
have, a Purchaser Material Adverse Effect, and (ii) is duly qualified,
licensed or admitted and in good standing in each jurisdiction in which the
property owned, leased or operated by it or the nature of the business
conducted by it makes such qualification, license or admission necessary,
except where the failure to be so qualified, licensed or admitted does not
have and could not reasonably be expected (so far as can be foreseen at the
time) to have a Purchaser Material Adverse Effect.
5.4. Capital Stock.
(a) As of the date hereof, the authorized capital stock of the Purchaser
consists solely of 20,000,000 shares of Purchaser Common Stock, of which
15,360,255 shares are issued and outstanding, 10,639 shares are held in the
treasury of the Purchaser and 1,271,537 shares are reserved for issuance
pursuant to outstanding Options and 10,000,000 shares of preferred stock, none
of which are issued or outstanding. Except for shares of Purchaser Common
Stock to be issued upon exercise of outstanding Options and except as
contemplated by Section 6.6, there has not been, and as of the Closing Date
there will not have been, any change in the number of issued and outstanding
shares of Purchaser Common Stock or material change in the number of shares of
Purchaser Common Stock held in treasury or reserved for issuance since such
date. All of the issued and outstanding shares of Purchaser Common Stock are,
and all shares reserved for issuance will be, upon issuance in accordance with
the terms specified in the instruments or agreements pursuant to which they
are issuable, duly authorized, validly issued, fully paid and nonassessable.
Except as described in this Section 5.4, there are no outstanding Options
obligating the Purchaser or any of its Subsidiaries to issue or sell any
shares of capital stock of the Purchaser or to grant, extend or enter into any
Option with respect thereto.
A-24
<PAGE>
(b) Except as disclosed in the Purchaser SEC Reports filed prior to the date
hereof, all of the outstanding shares of capital stock of each Subsidiary of
the Purchaser are duly authorized, validly issued, fully paid and
nonassessable and are owned, beneficially and of record, by the Purchaser or a
Subsidiary of the Purchaser, free and clear of any Liens. There are no (i)
outstanding Options obligating the Purchaser or any of its Subsidiaries to
issue or sell any shares of capital stock of any Subsidiary of the Purchaser
or to grant, extend or enter into any such Option or (ii) voting trusts,
proxies or other commitments, understandings, restrictions or arrangements in
favor of any person other than the Purchaser or any of its Wholly-Owned
Subsidiaries with respect to the voting of or the right to participate in
dividends or other earnings on any capital stock of any Subsidiary of the
Purchaser.
(c) There are no outstanding contractual obligations of the Purchaser or any
Subsidiary of the Purchaser to repurchase, redeem or otherwise acquire any
material number of shares of Purchaser Common Stock or any capital stock of
any Subsidiary of the Purchaser or to provide a material amount of funds to,
or make any material investment (in the form of a loan, capital contribution
or otherwise) in, any Subsidiary of the Purchaser or any other Person.
5.5. Government Approvals; Compliance with Laws and Orders.
(a) To the best of the Purchaser's knowledge, the Purchaser and each of its
Subsidiaries has obtained from the appropriate Governmental Bodies or self-
regulatory organizations which are charged with regulating or supervising any
business conducted by the Purchaser or any Subsidiary of the Purchaser all
permits, variances, exemptions, orders, approvals and licenses necessary for
the conduct of its business and operations as and to the extent currently
conducted (the "Purchaser Permits"), which Purchaser Permits are valid and
remain in full force and effect, except where the failure to have obtained
such Purchaser Permits or the failure of such Purchaser Permits to be valid
and in full force and effect, individually or in the aggregate, does not have
and could not reasonably be expected (so far as can be foreseen at the time)
to have a Purchaser Material Adverse Effect. The Purchaser and its
Subsidiaries are in compliance with the terms of the Purchaser Permits, except
failures so to comply which, individually or in the aggregate, do not have and
could not reasonably be expected (so far as can be foreseen at the time) to
have a Purchaser Material Adverse Effect.
(b) Neither the Purchaser nor any of its Significant Subsidiaries has
received notice of any Order or any complaint, proceeding or investigation of
any Governmental Body or self-regulatory organization which is charged with
regulating or supervising any business conducted by the Purchaser or any
Significant Subsidiary of the Purchaser pending or, to the knowledge of the
Purchaser, threatened, which affects or could reasonably be expected (so far
as can be foreseen at the time) to affect the validity of any such Purchaser
Permit or impair the renewal thereof, except where the invalidity of any such
Purchaser Permit or the non-renewal thereof does not have and could not
reasonably be expected (so far as can be foreseen at the time) to have a
Purchaser Material Adverse Effect. As of the date hereof, neither the
Purchaser nor any of its Significant Subsidiaries is a party or subject to,
any agreement, consent decree or Order, or other understanding or arrangement
with, or any directive of, any Governmental Body or self-regulatory
organization which is charged with regulating or supervising any business
conducted by the Purchaser or any Significant Subsidiary of the Purchaser
which imposes any material restrictions on or otherwise affects in any
material way, the conduct of the insurance business of the Purchaser or any of
its Significant Subsidiaries.
(c) To the best of the Purchaser's knowledge, the Purchaser and its
Subsidiaries are not and have not been in violation of or default under any
Laws or Order of any Governmental Body or self-regulatory organization which
is charged with regulating or supervising any business conducted by the
Purchaser or any Subsidiary of the Purchaser, except for violations which,
individually or in the aggregate, have not had and could not reasonably be
expected (so far as can be foreseen at the time) to have a Purchaser Material
Adverse Effect.
5.6. Authorization for Preferred Stock and Additional Purchaser Common
Stock. Prior to the Effective Time, the Purchaser will have taken all
necessary action to permit it to issue the number of shares of Preferred Stock
and shares of Purchaser Common Stock required to be issued pursuant to Article
3. The shares of Preferred
A-25
<PAGE>
Stock and Purchaser Common Stock issued pursuant to Article 3 will, when
issued, be duly authorized, validly issued, fully paid and nonassessable and
no stockholder of the Purchaser will have any preemptive right of subscription
or purchase in respect thereof. The shares of Preferred Stock and Purchaser
Common Stock will, when issued, be registered under the Securities Act and the
Exchange Act and registered or exempt from registration under any applicable
state securities laws and will be approved for listing upon official notice
issuance by the Exchange.
5.7. Absence of Certain Changes or Events. Since the Balance Sheet Date (i)
there has not been any change, event or development (or threat thereof) which
has had, or that could reasonably be expected (so far as can be foreseen) to
have, individually or in the aggregate, a Purchaser Material Adverse Effect,
(ii) the Purchaser and its Subsidiaries have conducted their respective
businesses only in the ordinary course consistent with past practice and (iii)
neither the Purchaser nor any of its Significant Subsidiaries has taken any
action which, if taken after the date hereof, would constitute a breach of any
provision of Section 6.2. Without limiting the generality of the foregoing,
since the Balance Sheet Date except as described in the Purchaser SEC Reports
filed prior to the date of this Agreement or as disclosed in the Purchaser
Disclosure Schedule, there has not been any:
(a) change in the condition (financial or otherwise), assets,
liabilities, working capital, reserves, earnings, business or prospects of
the Purchaser or any of its Subsidiaries, except for changes contemplated
hereby or changes which have not, individually or in the aggregate, had a
Purchaser Material Adverse Effect.
(b) (i) except for normal periodic increases in the ordinary course of
business consistent with past practice, increase in the compensation
payable or to become payable to any Purchaser Employee whose total cash
compensation for services rendered to the Purchaser or any of its
Subsidiaries is currently at an annual rate of more than $350,000, (ii)
bonus, incentive compensation, service award or other like benefit granted,
made or accrued, contingently or otherwise, for or to the credit of any of
the Purchaser Employees, (iii) employee welfare, pension, retirement,
profit-sharing or similar payment or arrangement made or agreed to by the
Purchaser or any of its Subsidiaries for any Purchaser Employee except
pursuant to the existing plans and arrangements described in the Purchaser
Disclosure Schedule or (iv) new employment agreement to which the Purchaser
or any of its Subsidiaries is a party;
(c) addition to or modification of the employee benefit plans,
arrangements or practices described in the Purchaser Disclosure Schedule
affecting Purchaser Employees other than (i) contributions made for 1994 or
1995 in accordance with the normal practices of the Purchaser or its
Subsidiaries or (ii) the extension of coverage to other Purchaser Employees
who became eligible after the Balance Sheet Date;
(d) sale, assignment or transfer of any of the assets of the Purchaser or
any of its Subsidiaries, which are material singly or in the aggregate to
the Purchaser and its Subsidiaries, taken as a whole, other than in the
ordinary course;
(e) cancellation of any indebtedness or waiver of any rights of
substantial value to the Purchaser and its Subsidiaries, taken as a whole,
whether or not in the ordinary course of business;
(f) amendment, cancellation or termination of any Contract, license or
other instrument material to the Purchaser and its Subsidiaries, taken as a
whole;
(g) capital expenditure or the execution of any lease or any incurring of
liability therefor by the Purchaser or any of its Subsidiaries, involving
payments in excess of $350,000 in any 12 month period or $1,000,000 in the
aggregate;
(h) failure to repay when due any material obligation of the Purchaser or
any of its Subsidiaries, except in the ordinary course of business or where
such failure could not have a Purchaser Material Adverse Effect;
(i) material change in accounting methods or practices by the Purchaser
or any of its Subsidiaries affecting their respective assets, liabilities
or business;
A-26
<PAGE>
(j) except in connection with the transactions contemplated by the
Merger, material revaluation by the Purchaser or any of its Subsidiaries of
any of their respective assets, including without limitation, writing-off
notes or accounts receivable which are, individually or in the aggregate,
material to the Purchaser and its Subsidiaries, taken as a whole;
(k) damage, destruction or loss (whether or not covered by insurance)
having a Purchaser Material Adverse Effect on the properties, business or
prospects of the Purchaser and its Subsidiaries, taken as a whole;
(l) mortgage, pledge or other encumbrance of any assets of the Purchaser
or any of its Subsidiaries, which are material singly or in the aggregate,
to the Purchaser and its Subsidiaries, taken as a whole, except purchase
money mortgages arising in the ordinary course of business;
(m) declaration, setting aside or payment of dividends or distributions
in respect of any capital stock of the Purchaser or any redemption,
purchase or other acquisition of any of the Purchaser's equity securities;
(n) except in connection with the transactions contemplated by the
Merger, issuance by the Purchaser or any of its Subsidiaries of, or
commitment of the Purchaser or any of its Subsidiaries to issue, any shares
of capital stock or other equity securities or Options;
(o) indebtedness incurred by the Purchaser or any of its Subsidiaries for
borrowed money or any commitment to borrow money entered into by the
Purchaser or any of its Subsidiaries, or any loans made or agreed to be
made by the Purchaser or any of its Subsidiaries;
(p) liabilities incurred involving $1,000,000 or more, except in the
ordinary course of business and consistent with past practice, or any
increase or change in any assumptions underlying or methods of calculating
any bad debt, contingency or other reserves other than in the ordinary
course consistent with past practices;
(q) payment, discharge or satisfaction of any liabilities other than the
payment, discharge or satisfaction (i) in the ordinary course of business
and consistent with past practice of liabilities reflected or reserved
against in the Balance Sheet or incurred in the ordinary course of business
and consistent with past practice since the Balance Sheet Date and (ii) of
other liabilities involving not more than $1,000,000 singly and not more
than $2,000,000 in the aggregate; or
(r) agreement or commitment by the Purchaser or any of its Subsidiaries
to do any of the foregoing.
5.8. Compliance with Contracts and Commitments.
(a) Each material Contract to which the Purchaser is a party is in full
force and effect and (i) to the best of the Purchaser's knowledge, none of the
Purchaser or any of its Subsidiaries or any other party thereto, has breached
or is in default thereunder, (ii) to the best of the Purchaser's knowledge, no
event has occurred which, with the passage of time or the giving of notice or
both would constitute such a breach or default, (iii) no claim of material
default thereunder has, to the knowledge of the Purchaser, been asserted or
threatened and (iv) none of the Purchaser or any of its Subsidiaries or, to
the knowledge of the Purchaser, any other party thereto is seeking the
renegotiation thereof or substitute performance thereunder, except where such
breach or default, or attempted renegotiation or substitute performance,
individually or in the aggregate, does not have and could not reasonably be
expected (so far as can be foreseen at the time) to have a Purchaser Material
Adverse Effect.
(b) Neither the Purchaser nor any Subsidiary of the Purchaser is in
violation of any term of (i) its charter, by-laws or other organizational
documents, (ii) any agreement or instrument related to indebtedness for
borrowed money or any other Contract to which it is a party or by which it is
bound, (iii) any applicable law, ordinance, rule or regulation of any
Governmental Body, or (iv) any applicable Order of any Governmental Body, or
self-regulatory organization which is charged with regulating or supervising
any business conducted by the Purchaser or any Subsidiary of the Purchaser,
the consequences of which violation, whether individually or in the aggregate,
have or could reasonably be expected (so far as can be foreseen at the time)
to have a Purchaser Material Adverse Effect.
A-27
<PAGE>
5.9. Non-Contravention; Approvals and Consents.
(a) The execution and delivery of this Agreement by the Purchaser do not,
and the performance by the Purchaser of its obligations hereunder and the
consummation of the transactions contemplated hereby will not, conflict with,
result in a violation or breach of, constitute (with or without notice or
lapse of time or both) a default under, result in or give to any person any
right of payment or reimbursement, termination, cancellation, modification or
acceleration of, or result in the creation or imposition of any Lien upon any
of the assets or properties of the Purchaser or any of its Subsidiaries under,
any of the terms, conditions or provisions of (i) the Certificate of
Incorporation or By-laws (or other comparable charter document) of the
Purchaser (assuming Purchaser Stockholder Approval) or any of its
Subsidiaries, (ii) subject to the taking of the actions described in paragraph
(b) of this Section, (x) Laws or Orders, of any Governmental Body or self-
regulatory organization which is charged with regulating or supervising any
business conducted by the Purchaser or any Subsidiary of the Purchaser,
applicable to the Purchaser or any of its Subsidiaries or any of their
respective assets or properties, or (y) any Contract to which the Purchaser or
any of its Subsidiaries is a party or by which the Purchaser or any of its
Subsidiaries or any of their respective assets or properties is bound,
excluding from the foregoing clauses (x) and (y) conflicts, violations,
breaches, defaults, terminations, modifications, accelerations and creations
and impositions of Liens which, individually or in the aggregate, could not
reasonably be expected to have a Purchaser Material Adverse Effect.
(b) Except for (i) the filing of a premerger notification report by the
Purchaser under the HSR Act, (ii) the filing of the Proxy Statement/Prospectus
with the SEC and the AMEX and NASDAQ pursuant to the Exchange Act and applying
for listing of the Share Consideration on an Exchange, (iii) the filing of the
Certificate of Merger and other appropriate merger documents required by the
TBCA and the DGCL with the Secretary of State of the State of Tennessee and
the Secretary of State of the State of Delaware, respectively, and appropriate
documents with the relevant authorities of other states in which the
Constituent Corporations are qualified to do business, (iv) the filing of a
registration statement with the SEC and any "blue sky" or similar filings in
connection with the Purchaser Common Stock Offering and (v) the making of any
required filings with the California Department of Insurance and Banking
Department, no consent, approval or action of, filing with or notice to any
Governmental Body or other public or private third party is necessary or
required under any of the terms, conditions or provisions of any Law or Order
of any Governmental Body or self-regulatory organization which is charged with
regulating or supervising any business conducted by the Purchaser or any
Subsidiary of the Purchaser, or any Contract to which the Purchaser or any of
its Subsidiaries is a party or by which the Purchaser or any of its
Subsidiaries or any of their respective assets or properties is bound for the
execution and delivery of this Agreement by the Purchaser, the performance by
the Purchaser of its obligations hereunder or the consummation of the
transactions contemplated hereby, other than such consents, approvals,
actions, filings and notices which the failure to make or obtain, as the case
may be, individually or in the aggregate, could not reasonably be expected to
have a Purchaser Material Adverse Effect.
5.10. Litigation. There are no actions, suits, arbitrations, investigations
or proceedings (adjudicatory, rulemaking or otherwise) pending or, to the
knowledge of the Purchaser, threatened against the Purchaser or any of its
Subsidiaries (or any Purchaser Employee Plan or Purchaser Benefit
Arrangement), or any property of the Purchaser or any such Subsidiary
(including Proprietary Rights), in any court or before any arbitrator of any
kind or before or by any Governmental Body, except actions, suits,
arbitrations, investigations or proceedings which, individually or in the
aggregate, have not had and if adversely determined or resolved, could not
reasonably be expected (so far as can be foreseen at the time) to have a
Purchaser Material Adverse Effect.
5.11. Labor Matters. The Purchaser is in material compliance with all
applicable laws respecting employment practices, terms and conditions of
employment and wages and hours and is not engaged in any unfair labor
practice. To the best of the Purchaser's knowledge, there is no unfair labor
practice charge or complaint against the Purchaser pending before the National
Labor Relations Board or any other governmental agency arising out of the
Purchaser's activities, and the Purchaser has no knowledge of any facts or
information which would give rise thereto.
A-28
<PAGE>
5.12. Absence of Undisclosed Liabilities. The Purchaser has no known
liabilities or obligations (whether choate or inchoate, absolute or
contingent, or otherwise) except (i) liabilities which are reflected and
reserved against or disclosed on the Balance Sheet, (ii) liabilities incurred
in the ordinary course of business and consistent with past practice since the
Balance Sheet Date and which have not resulted in, and could not reasonably be
expected to result in, individually or in the aggregate, a Purchaser Material
Adverse Effect.
5.13. No Brokers. Neither the Purchaser nor any Subsidiary or affiliate of
the Purchaser has entered into or will enter into any Contract or
understanding, whether oral or written, with any Person other than Stephens
and DLJ which will result in the obligation of the Purchaser to pay any
finder's fee, brokerage commission or similar payment in connection with the
transactions contemplated hereby.
5.14. No Other Agreements to Merge. Except as disclosed in the SEC Reports,
neither the Purchaser nor any Significant Subsidiary thereof has any legal
obligation, absolute or contingent, to any other person to effect any merger,
consolidation or other reorganization of the Purchaser or any of its
Significant Subsidiaries or to enter into any agreement with respect thereto.
5.15. S-4 Registration Statement and Proxy Statement/Prospectus.
(a) The Proxy Statement/Prospectus relating to the Purchaser Stockholders'
Meeting, as amended or supplemented from time to time, and any other
documents, including without limitation, the S-4 Registration Statement, to be
filed with the SEC or any other Governmental Body or self-regulatory
organization which is charged with regulating or supervising any business
conducted by the Purchaser or any Subsidiary of the Purchaser in connection
with the Merger and the other transactions contemplated hereby will not, on
the date of its filing or, in the case of the Proxy Statement/Prospectus, at
the date it is mailed to stockholders, at the time of the Purchaser
Stockholders' Meeting and at the Effective Time, contain any untrue statement
of a material fact or omit to state any material fact required to be stated
therein or necessary in order to make the statements therein, in light of the
circumstances under which they are made, not misleading, insofar as the
information therein relates to the Purchaser. The Proxy Statement/Prospectus
and any such other documents filed by the Purchaser with the SEC under the
Exchange Act will comply as to form in all material respects with the
requirements of the Exchange Act and the Securities Act.
(b) Neither the information supplied or to be supplied by or on behalf of
the Purchaser for inclusion, nor the information incorporated by reference
from documents filed by the Purchaser with the SEC, in any document to be
filed by the Company or any of its Subsidiaries with the SEC or any other
Governmental Body or self-regulatory organization which is charged with
regulating or supervising any business conducted by the Purchaser or any
Subsidiary of the Purchaser in connection with the Merger, the Purchaser
Common Stock Offering contemplated in Section 6.6 or any other transaction
contemplated hereby will on the date of its filing contain, to the best of the
Purchaser's knowledge, any untrue statement of a material fact or omit to
state any material fact required to be stated therein or necessary in order to
make the statements therein, in light of the circumstances under which they
are made, not misleading.
5.16. Tax Matters. To the best of the Purchaser's knowledge, since August
15, 1990, the Purchaser Taxpayers have duly filed all tax reports and returns
required to be filed by them, including all federal, state, local and foreign
tax returns and reports and have paid in full all taxes required to be paid by
such Purchaser Taxpayers before such payment became delinquent. To the best of
Purchaser's knowledge, the Purchaser has made adequate provision, in
conformity with generally accepted accounting principles consistently applied,
for the payment of all taxes which may subsequently become due. All taxes
which any Purchaser Taxpayer has been required to collect or withhold have
been duly collected or withheld and, to the extent required when due, have
been or will be duly paid to the proper taxing authority.
The consolidated federal income tax returns of the Purchaser and its
predecessors and the federal income tax returns of each Subsidiary of the
Purchaser whose results of operations are not consolidated in the federal
income tax returns of the Purchaser, have not been examined by the Internal
Revenue Service for any periods
A-29
<PAGE>
since August 1990. There are no audits known by the Purchaser to be pending of
the Purchaser's tax returns, and there are no claims which have been or may be
asserted relating to any of the Purchaser's tax returns filed for any year
which if determined adversely would result in the assertion by any
governmental agency of any material deficiency which could reasonably be
expected to result in, individually or in the aggregate, a Purchaser Material
Adverse Effect. There have been no waivers of statutes of limitations by the
Purchaser.
None of the Purchaser Taxpayers has filed a statement under Section 341(f)
of the Code (or any comparable state income tax provision) consenting to have
the provisions of Section 341(f)(2) (collapsible corporations provisions) of
the Code (or any comparable state income tax provision) apply to any
disposition of any of the Purchaser's assets or property, no property of the
Purchaser is property which the Purchaser or the Company is or will be
required to treat as owned by another person pursuant to the provisions of
Section 168(f) (safe harbor leasing provisions) of the Code. The Purchaser is
not a party to any tax-sharing agreement or similar arrangement with any other
party.
5.17. Reports and Financial Statements. The Purchaser has filed with the SEC
all Purchaser SEC Reports and has made available to the Company true and
complete copies of all the Purchaser SEC Reports. As of their respective
dates, the Purchaser SEC Reports (i) complied as to form in all material
respects with the requirements of the Securities Act, or the Exchange Act, as
the case may be, and (ii) to the best of the Purchaser's knowledge, did not
contain any untrue statement of a material fact or omit to state a material
fact required to be stated therein or necessary to make the statements
therein, in light of the circumstances under which they were made, not
misleading. The audited consolidated financial statements and unaudited
interim consolidated financial statements (including, in each case, the notes,
if any, thereto) included in the Purchaser SEC Reports (the "Purchaser
Financial Statements") complied as to form in all material respects with the
published rules and regulations of the SEC with respect thereto, and, to the
best of the Purchaser's knowledge, fairly present (subject, in the case of the
unaudited interim financial statements, to normal, recurring year-end audit
adjustments which are not expected, individually or in the aggregate, to be
material or to result in a Purchaser Material Adverse Effect) the consolidated
financial position of the Purchaser and its consolidated subsidiaries as of
the respective dates thereof and the consolidated results of their operations
and cash flows for the respective periods then ended, in each case, in
accordance with generally accepted accounting principles consistently applied.
Each Significant Subsidiary of the Purchaser is treated as a consolidated
subsidiary of the Purchaser in the Purchaser Financial Statements for all
periods covered thereby.
5.18. Payments. The Purchaser has not, directly or indirectly, paid nor has
it delivered any fee, commission or other sum of money or item or property,
however characterized, to any finder, agent, government official or other
party, in the United States or any other country, which is in any manner
related to the business or operations of the Purchaser, which the Purchaser
knows or has reason to believe to have been illegal under any federal, state
or local laws of the United States or any other country having jurisdiction;
and the Purchaser has not participated, directly or indirectly, in any
boycotts or other similar practices affecting any of its actual or potential
customers and has at all times done business in an open and ethical manner.
5.19. Information Supplied. The financial and other information provided to
the Company by or on behalf of the Purchaser on or prior to the date hereof
and listed on the Purchaser Disclosure Schedule at Section 5.19 of such
Schedule relating to the business, assets, liabilities and business prospects
of the Purchaser was prepared in good faith and, as of the dates provided and
in light of the circumstances under which such information was provided (as
supplemented by further information provided by the Purchaser to the Company
prior to the date hereof), accurately reflected in all material respects the
status or matters purported to be reflected by such financial or other
information. To the best knowledge of the Purchaser, the information provided
to the Company by the Purchaser with respect to the business, operations and
financial condition of the Purchaser is not false or misleading in any
material respect, as of the dates provided and in light of the circumstances
under which such information was provided (as supplemented by further
information provided by the Purchaser to the Company prior to the date
hereof).
A-30
<PAGE>
5.20. Other Reports. Since January 1, 1991, the Purchaser and each
Subsidiary of the Purchaser has filed all required forms, reports and
documents required to be filed with the applicable state commissioners or
superintendents of insurance and, since March 26, 1993, banking, and any other
Governmental Body or self-regulatory organization which is charged with
regulating or supervising any business conducted by the Purchaser or any
Subsidiary of the Purchaser (other than such forms, reports and documents
which if not filed would not adversely affect in any significant manner the
licenses and regulatory status of the Purchaser or any insurance Subsidiary),
each of which complied in all material respects with applicable requirements
in effect on the dates of such filings and, to the best of the Purchaser's
knowledge, none of which, as of its date, contained any untrue statement of a
material fact or omitted to state any material fact required to be stated
therein or necessary in order to make the statements therein, in light of the
circumstances in which they were made, not misleading.
5.21. Fairness Opinion. The Purchaser has received oral advice as to the
proposed fairness of the Merger from a financial point of view to the
Purchaser and its stockholders.
5.22. Employee Benefit Plans. Purchaser, its Significant Subsidiaries and
its ERISA Affiliates are in compliance with all laws relating to Purchaser
Benefit Arrangements and Purchaser Employee Plans, including, without
limitation, ERISA and the Internal Revenue Code, except where the failure to
comply would not have a Purchaser Material Adverse Effect and none of
Purchaser, its Significant Subsidiaries or ERISA Affiliates has any liability
to or in respect of any such Purchaser Benefit Arrangements and Purchaser
Employee Plans, including, without limitation, any liability under Part 4 of
Title I or Title IV of ERISA or under the Code, that could have a Purchaser
Material Adverse Effect and to the best of the knowledge of Purchaser, no
event has occurred or is likely to occur that would result in any such
liability.
5.23. Vote Required. The affirmative vote of the holders of record of at
least a majority of the outstanding shares of Purchaser Common Stock with
respect to the adoption of this Agreement and ratification of Preferred Stock
terms is the only vote of the holders of any class or series of the capital
stock of the Purchaser required to adopt this Agreement and approve the Merger
and the other transactions contemplated hereby.
ARTICLE 6
ADDITIONAL COVENANTS AND AGREEMENTS OF THE PARTIES
6.1. Conduct of the Business of the Company. Except as expressly
contemplated by this Agreement or as set forth in the Company Disclosure
Schedule, during the period from the date of this Agreement to the Effective
Time: (i) the Company will, and will cause each of its Subsidiaries to,
conduct its business only in, and the Company will not take, and will cause
each of its Subsidiaries not to take, any action except in, the ordinary
course consistent with past practice, (ii) the Company will not, and the
Company will cause each of its Subsidiaries not to, enter into any material
transaction other than in the ordinary course of business consistent with past
practice and (iii) to the extent consistent with the foregoing, with no less
diligence and effort than would be applied in the absence of this Agreement,
the Company will, and will cause each of its Subsidiaries to, preserve intact
its current business organizations and reputation, keep available the service
of its current officers and employees, preserve its relationships with
customers, suppliers and others having business dealings with it with the
objective that their goodwill and ongoing businesses shall be unimpaired at
the Effective Time and comply in all material respects with all Laws and
Orders of all Governmental Bodies or regulatory authorities applicable to it.
Without limiting the generality of the foregoing and except as otherwise
expressly permitted in this Agreement, prior to the Effective Time, the
Company will not and will not permit any of its Subsidiaries to, without the
prior written consent of the Purchaser (except to the extent set forth in the
Company Disclosure Schedule):
(a) except for (i) 534,500 shares of Company Common Stock reserved for
issuance upon exercise of Company Options outstanding as of the date hereof
or issuable pursuant to additional Company Options which may be granted
after the date hereof but prior to the Effective Time (ii) 97,000 shares of
Company Common Stock reserved for issuance pursuant to warrants and (ii)
157,500 additional shares of Company
A-31
<PAGE>
Common Stock which may be issued after the date hereof but prior to the
Effective Time in connection with the acquisition of minority interests in
certain Subsidiaries of the Company, issue, deliver, sell, dispose of,
pledge or otherwise encumber, or authorize or propose the issuance,
delivery, sale, disposition or pledge or other encumbrance of (A) any
additional shares of its capital stock of any class (including the Shares),
or any securities or rights convertible into, exchangeable for, or
evidencing the right to subscribe for any shares of its capital stock, or
any rights, warrants, options, calls, commitments or any other agreements
of any character to purchase or acquire any shares of its capital stock or
any securities or rights convertible into, exchangeable for, or evidencing
the right to subscribe for, any shares of its capital stock, or (B) any
other securities in respect of, in lieu of, or in substitution for, Shares
outstanding on the date hereof;
(b) except as contemplated in subsection (a) above, directly or
indirectly redeem, repurchase or otherwise acquire, or propose to redeem,
repurchase or otherwise acquire, any of its outstanding securities
(including the Shares) or any Option with respect thereto;
(c) split, combine, subdivide, reclassify or take similar action with
respect to any shares of its capital stock or issue or authorize or propose
the issuance of any other securities in respect of, in lieu of or in
substitution for shares of its capital stock or declare, set aside for
payment or pay any dividend, or make any other actual, constructive or
deemed distribution in respect of any shares of its capital stock or
otherwise make any payments to shareholders in their capacity as such,
other than in a manner consistent with prior business practices;
(d) (i) increase in any manner the compensation or fringe benefits of any
of its directors, officers or employees, except for normal increases in the
ordinary course of business consistent with past practice that, in the
aggregate, do not result in a material increase in benefits or compensation
expense to the Company and its Subsidiaries taken as a whole, (ii) pay or
agree to pay any pension, retirement allowance or other employee benefit
not required or contemplated by any of the existing benefit, severance,
pension or employment plans, agreements or arrangements as in effect on the
date hereof to any such director, officer or employees, whether past or
present that, in the aggregate, result in a material increase in benefits
or compensation expense to the Company and its Subsidiaries taken as a
whole, (iii) enter into any new or amend any existing employment agreement
with any such director, officer or employee, except for employment
agreements with new employees entered into in the ordinary course of
business consistent with past practice, that, in the aggregate, do not and
will not result in a material increase in benefits or compensation expense
to the Company and its Subsidiaries taken as a whole, (iv) enter into any
new or amend any existing severance agreement with any such director,
officer or employee, except as permitted in the Company Disclosure Schedule
and except for severance agreements in the ordinary course of business
consistent with past practice, that in the aggregate do not and will not
result in a material increase in the benefits or compensation expense to
the Company and its Subsidiaries taken as a whole, or (v) except as may be
required to comply with applicable law, become obligated under any new
pension plan or arrangement, welfare plan or arrangement, multi-employer
plan or arrangement, employee benefit plan or arrangement, severance plan
or arrangement, benefit plan or arrangement, or similar plan or
arrangement, which was not in existence on the date hereof, or amend any
such plan or arrangement in existence on the date hereof if such amendment
would have the effect of enhancing or accelerating any benefits thereunder,
except for plans, arrangements or amendments in the ordinary course of
business consistent with past practice, that, in the aggregate do not
result in a material increase in the benefits or compensation expense to
the Company and its Subsidiaries taken as whole;
(e) enter into any contract or amend or modify any existing contract, or
engage in any new transaction outside the ordinary course of business
consistent with past practice or not on an arm's length basis, with any
Affiliate of the Company or any of its Subsidiaries;
(f) adopt a plan of complete or partial liquidation, or resolutions
providing for or authorizing such liquidation or a dissolution, merger,
consolidation, restructuring, recapitalization or other reorganization of
the Company or any of its Subsidiaries (other than the Merger, and other
than such of the foregoing with respect to any subsidiary of the Company as
do not change the beneficial ownership interest of the Company in such
Subsidiary);
A-32
<PAGE>
(g) make any acquisition, by means of merger, consolidation, purchase of
a substantial equity interest in or a substantial portion of the assets of,
or otherwise, of (i) any business or corporation, partnership, association
or other business organization or division thereof or (ii) except in the
ordinary course and consistent with past practice, any other assets;
(h) adopt or propose any amendments to its Certificate of Incorporation
or Bylaws, except as contemplated by this Agreement, or alter through
merger, liquidation, reorganization, restructuring or in any other fashion
the corporate structure or ownership of any Subsidiary not constituting an
inactive Subsidiary of the Company;
(i) other than borrowings under existing credit facilities or other
borrowings in the ordinary course (but in all cases only in the aggregate
at any time outstanding up to $1,000,000 of additional borrowings after the
date hereof), (x) incur any indebtedness for borrowed money or guarantee
any such indebtedness other than in the ordinary course of business
consistent with past practices or, except in the ordinary course consistent
with past practice, (y) make any loans, advances or capital contributions
to, or investments in, any other Person (other than to the Company or any
Wholly Owned Subsidiary of the Company) or (z) voluntarily purchase,
cancel, prepay or otherwise provide for a complete or partial discharge in
advance of a scheduled repayment date with respect to, or waive any right
under, any indebtedness for borrowed money other than in the ordinary
course of business consistent with past practice;
(j) make any change in the lines of business in which it participates or
is engaged;
(k) enter into any agreement providing for acceleration of payment or
performance or other consequence as a result of a change of control of the
Company or its Subsidiaries;
(l) enter into any contract, arrangement or understanding requiring the
purchase of equipment, materials, supplies or services over a period
greater than 12 months and for the expenditure of greater than $500,000 per
year which is not cancelable without penalty on 30 days' or less notice; or
(m) except to the extent required by applicable law, (x) permit any
material change in (A) pricing, marketing, purchasing, investment,
accounting, financial reporting, inventory, credit, allowance or tax
practice or policy or (B) any method or calculating any bad debt,
contingency or other reserve for accounting, financial reporting or tax
purposes or (y) make any material tax election or settle or compromise any
material income tax liability with any Governmental Body or regulatory
authority;
(n) other than dispositions of assets which are not, individually or in
the aggregate, material to the Company and its Subsidiaries taken as a
whole, sell, lease, grant any security interest in or otherwise dispose of
or encumber any of its assets or properties;
(o) take any action that would cause any representations set forth in
Article 4 not to be true in all material respects from and after the date
hereof until the Effective Time;
(p) fail to maintain in full force the insurance policies in effect on
the date hereof or change any self-insurance program in effect in any
material respect;
(q) in the event that a claim is made for damage, which damage would have
a Company Material Adverse Effect during the period prior to the Closing
Date which is covered by such insurance, fail to promptly notify the
Purchaser of the pendency of such a claim;
(r) do any act or omit to do any act, or permit any act or omission to
act, which will cause a breach of any Contract or commitment of the Company
or any of its Subsidiaries, except to the extent that such breach would not
have a Company Material Adverse Effect;
(s) fail to duly comply with all Laws and Orders applicable to it and its
properties, operations, business and employees except to the extent that
such non-compliance would not have a Company Material Adverse Effect; or
(t) authorize, recommend, propose or announce an intention to do any of
the foregoing, or enter into any Contract to do any of the foregoing.
A-33
<PAGE>
6.2. Conduct of the Business of the Purchaser. Except as expressly
contemplated by this Agreement or as set forth in the Purchaser Disclosure
Schedule, during the period from the date of this Agreement to the Effective
Time: (i) the Purchaser will, and will cause each of its Subsidiaries to,
conduct its business only in, and the Purchaser will not take, and will cause
each of its Subsidiaries not to take, any action except in, the ordinary
course consistent with past practice, (ii) the Purchaser will not, and the
Purchaser will cause each of its Subsidiaries not to, enter into any material
transaction other than in the ordinary course of business consistent with past
practice and (iii) to the extent consistent with the foregoing, with no less
diligence and effort than would be applied in the absence of this Agreement,
the Purchaser will, and will cause each of its Subsidiaries to, preserve
intact its current business organizations and reputation, keep available the
service of its current officers and employees, preserve its relationships with
customers, suppliers and others having business dealings with it with the
objective that their goodwill and ongoing businesses shall be unimpaired at
the Effective Time and comply in all material respects with all Laws and
Orders of all Governmental Bodies or regulatory authorities applicable to it.
Without limiting the generality of the foregoing and except as otherwise
expressly permitted in this Agreement or as set forth in the Purchaser
Disclosure Schedule, prior to the Effective Time, the Purchaser will not and
will not permit any of its Subsidiaries to, without the prior written consent
of the Company, which consent may not be withheld unless the action in
question would have or could reasonably be expected to have a Purchaser
Material Adverse Effect:
(a) except for 2,772,637 shares of Purchaser Common Stock reserved for
issuance upon exercise of options outstanding as of the date hereof or
granted under existing plans or arrangements after the date hereof, issue,
deliver, sell, dispose of, pledge or otherwise encumber, or authorize or
propose the issuance, delivery, sale, disposition or pledge or other
encumbrance of (A) any additional shares of its capital stock of any class
(including the shares of Purchaser Common Stock), or any securities or
rights convertible into, exchangeable for, or evidencing the right to
subscribe for any shares of its capital stock, or any rights, warrants,
options, calls, commitments or any other agreements of any character to
purchase or acquire any shares of its capital stock or any securities or
rights convertible into, exchangeable for, or evidencing the right to
subscribe for, any shares of its capital stock, or (B) any other securities
in respect of, in lieu of, or in substitution for, shares of Purchaser
Common Stock outstanding on the date hereof;
(b) directly or indirectly redeem, repurchase or otherwise acquire, or
propose to redeem, repurchase or otherwise acquire, any of its outstanding
securities (including the shares of Purchaser Common Stock) or any Option
with respect thereto;
(c) other than pursuant to the Purchaser Common Stock Offering or the
Merger, split, combine, subdivide, reclassify or take similar action with
respect to any shares of its capital stock or issue or authorize or propose
the issuance of any other securities in respect of, in lieu of or in
substitution for shares of its capital stock or declare, set aside for
payment or pay any dividend, or make any other actual, constructive or
deemed distribution in respect of any shares of its capital stock or
otherwise make any payments to shareholders in their capacity as such;
(d) (i) increase in any manner the compensation or fringe benefits of any
of its directors, officers or employees, except for normal increases in the
ordinary course of business consistent with past practice that, in the
aggregate, do not result in a material increase in benefits or compensation
expense to the Purchaser and its Subsidiaries taken as a whole, (ii) pay or
agree to pay any pension, retirement allowance or other employee benefit
not required or contemplated by any of the existing benefit, severance,
pension or employment plans, agreements or arrangements as in effect on the
date hereof to any such director, officer or employee, whether past or
present that, in the aggregate, do not result in a material increase in
benefits or compensation expense to the Purchaser and its Subsidiaries
taken as a whole, (iii) enter into any new or amend any existing employment
agreement with any such director, officer or employee, except for
employment agreements with new employees entered into in the ordinary
course of business consistent with past practice, that, in the aggregate,
do not result in a material increase in benefits or compensation expense to
the Purchaser and its Subsidiaries taken as a whole, (iv) enter into any
new or amend any existing severance agreement with any such director,
officer or employee, except as permitted in the Purchaser Disclosure
Schedule or (v) except as may be required to comply with applicable law,
become obligated
A-34
<PAGE>
under any new pension plan or arrangement, welfare plan or arrangement,
multi-employer plan or arrangement, employee benefit plan or arrangement,
severance plan or arrangement, benefit plan or arrangement, or similar plan
or arrangement, which was not in existence on the date hereof, or amend any
such plan or arrangement in existence on the date hereof if such amendment
would have the effect of enhancing or accelerating any benefits thereunder;
(e) enter into any contract or amend or modify any existing contract, or
engage in any new transaction outside the ordinary course of business
consistent with past practice or not on an arm's length basis, with any
Affiliate of the Purchaser or any of its Subsidiaries;
(f) adopt a plan of complete or partial liquidation, or resolutions
providing for or authorizing such liquidation or a dissolution, merger,
consolidation, restructuring, recapitalization or other reorganization of
the Purchaser or any of its Subsidiaries not constituting an inactive
Subsidiary (other than the Merger, and other than such of the foregoing
with respect to any Subsidiary of the Purchaser as do not change the
beneficial ownership interest of the Purchaser in such Subsidiary);
(g) make any acquisition, by means of merger, consolidation, purchase of
a substantial equity interest in or a substantial portion of the assets of,
or otherwise, of (i) any business or corporation, partnership, association
or other business organization or division thereof or (ii) except in the
ordinary course and consistent with past practice, any other assets;
(h) adopt or propose any amendments to its Certificate of Incorporation
or Bylaws, except as contemplated by this Agreement, or alter through
merger, liquidation, reorganization, restructuring or in any other fashion
the corporate structure or ownership of any Subsidiary not constituting an
inactive Subsidiary of the Purchaser;
(i) other than borrowings under existing credit facilities or other
borrowings in the ordinary course or borrowings used to fund the Capital
Contribution, (x) incur any indebtedness for borrowed money or guarantee
any such indebtedness other than in the ordinary course of business
consistent with past practices or, except in the ordinary course consistent
with past practice, (y) make any loans, advances or capital contributions
to, or investments in, any other Person (other than to the Purchaser or any
Wholly Owned Subsidiary of the Purchaser) or (z) voluntarily purchase,
cancel, prepay or otherwise provide for a complete or partial discharge in
advance of a scheduled repayment date with respect to, or waive any right
under, any indebtedness for borrowed money other than in the ordinary
course of business consistent with past practice;
(j) make any change in the lines of business in which it participates or
is engaged;
(k) enter into any agreement providing for acceleration of payment or
performance or other consequence as a result of a change of control of the
Purchaser or its Subsidiaries;
(l) enter into any contract, arrangement or understanding requiring the
purchase of equipment, materials, supplies or services over a period
greater than 12 months and for the expenditure of greater than $1,000,000
per year which is not cancelable without penalty on 30 days' or less
notice; or
(m) except to the extent required by applicable law, (x) permit any
material change in (A) pricing, marketing, purchasing, investment,
accounting, financial reporting, inventory, credit, allowance or tax
practice or policy or (B) any method or calculating any bad debt,
contingency or other reserve for accounting, financial reporting or tax
purposes or (y) make any material tax election or settle or compromise any
material income tax liability with any Governmental Body or regulatory
authority;
(n) other than dispositions of assets which are not, individually or in
the aggregate, material to the Purchaser and its Subsidiaries taken as a
whole, sell, lease, grant any security interest in or otherwise dispose of
or encumber any of its assets or properties;
(o) take any action that would cause any representations set forth in
Article 5 not to be true in all material respects from and after the date
hereof until the Effective Time;
(p) fail to maintain in full force the insurance policies in effect on
the date hereof or change any self-insurance program in effect in any
material respect;
A-35
<PAGE>
(q) in the event that a claim is made for damage, which damage would have
a Purchaser Material Adverse Effect during the period prior to the Closing
Date which is covered by such insurance, fail to promptly notify the
Company of the pendency of such a claim;
(r) do any act or omit to do any act, or permit any act or omission to
act, which will cause a breach of any Contract or commitment of the
Purchaser or any of its Subsidiaries, except to the extent that such breach
would not have a Purchaser Material Adverse Effect;
(s) fail to duly comply with all Laws and Orders applicable to it and its
properties, operations, business and employees except to the extent that
such non-compliance would not have a Purchaser Material Adverse Effect;
(t) authorize, recommend, propose or announce an intention to do any of
the foregoing, or enter into any Contract to do any of the foregoing.
6.3. No Solicitation; Transaction Moratorium.
(a) The Company shall not, and shall not permit any of its Subsidiaries to,
nor shall it authorize or permit any officer, director, employee, investment
banker, financial advisor, attorney, accountant or other agent or
representative (each, a "Representative") retained by or acting for or on
behalf of it or any of its Subsidiaries to, directly or indirectly, initiate,
solicit, encourage, participate in any negotiations regarding, furnish any
confidential information in connection with, endorse or otherwise cooperate
with, assist, participate in or facilitate the making of any proposal or offer
for, or which may reasonably be expected to lead to, an Acquisition
Transaction by any Person or group (a "Potential Acquiror"); provided,
however, that (i) the Company may furnish or cause to be furnished information
concerning the Company and its businesses, properties or assets to a Potential
Acquiror (provided that such information is supplied on terms, including
confidentiality terms, substantially similar to those set forth in the
Confidentiality Letter dated January 19, 1996, between the Purchaser and the
Company), (ii) the Company may engage in discussions or negotiations with a
Potential Acquiror, (iii) following receipt of a proposal or offer for an
Acquisition Transaction, the Company may take and disclose to its shareholders
a position contemplated by Rules 14d-9 and 14e-2(a) under the Exchange Act or
otherwise make disclosure to the Company's shareholders and (iv) following
receipt of a proposal or offer for an Acquisition Transaction the Board of
Directors may withdraw or modify its recommendation to the Company's
shareholders contemplated by Section 6.4 and thereby elect to terminate this
Agreement pursuant to Section 8.1(a), but in each case referred to in the
foregoing clauses (i) through (iv) only to the extent that the Board of
Directors of the Company shall conclude in good faith on the basis of written
advice from independent counsel that such action is necessary or appropriate
in order for such Board of Directors to act in a manner which is consistent
with its fiduciary obligations under applicable law. The Company will
immediately cease and cause to be terminated any existing activities,
discussions or negotiations with any parties conducted heretofore with respect
to any Acquisition Transaction. As used in this Agreement, "Acquisition
Transaction" means any merger, consolidation or other business combination
involving the Company or any of its Significant Subsidiaries or any
acquisition in any manner of all or a substantial portion of the equity of, or
all or a substantial portion of the assets of, the Company or any of its
Significant Subsidiaries, whether for cash, securities or any other
consideration or combination thereof other than pursuant to the transactions
contemplated by this Agreement.
(b) If at any time the Company or any Representative of the Company provides
a Significant Response (as defined below) to any inquiry or solicitation by a
Potential Acquiror, the Company shall immediately deliver to the Purchaser a
written notice advising Purchaser of the fact that such Significant Response
has been given. As a consequence of the delivery of such notice all duties and
obligations of the Purchaser hereunder shall be suspended during the
Transaction Moratorium Period. "Transaction Moratorium Period" means a period
beginning on the date of such notice and ending on the date of Purchaser's
receipt of a written notice signed by the President of the Company certifying
that all discussions and contacts between the Company and its Representatives,
on one hand, and the Potential Acquiror to whom the Company had provided a
Significant Response and any Representatives or Affiliates thereof, on the
other, have ended and are not expected to resume. In the event that a
Transaction Moratorium Period continues for a period in excess of 30 days, the
Purchaser may, at any time prior to its receipt of a notice terminating such
Transaction Moratorium Period, terminate this
A-36
<PAGE>
Agreement pursuant to Section 8.1(a). If the Company delivers a notice of
Significant Response, the Final Termination Date and each of the dates set
forth herein as relating to or affecting a date by which the Purchaser is
required to perform duties and obligations hereunder shall in each case be
extended on a day-for-day basis for each day in any Transaction Moratorium
Period. "Significant Response" means any action by the Company or any of its
Representatives in response to an inquiry, solicitation or request for
documents or other information received by the Company from a Potential
Acquiror other than participation by the Company in a preliminary discussion
or discussions with such Potential Acquiror or any Representative thereof and
shall include, without limitation, (i) any action by the Company or any of its
Representatives to provide a Potential Acquiror information regarding the
Company other than publicly available information, (ii) any execution by the
Company and a Potential Acquiror of a confidentiality agreement relating to
information about the Company and (iii) any participation by the Company or
any of its Representatives in substantive discussions regarding the terms and
conditions of an Acquisition Transaction or regarding a term sheet or similar
document relating to an Acquisition Transaction.
6.4. Meetings of Shareholders.
(a) Subject to the fiduciary duties of the Company's Board of Directors
under applicable law as advised in writing by counsel (i) the Company will
take all action necessary in accordance with applicable law and its
Certificate of Incorporation and Bylaws to convene a meeting of its
shareholders (the "Company Shareholders' Meeting") as promptly as practicable
to consider and vote upon the approval of the Merger and the other
transactions contemplated hereby (the "Company's Shareholders' Approval") and
(ii) the Board of Directors of the Company shall recommend and declare
advisable such approval and the Company shall take all lawful action to
solicit, and use all reasonable efforts to obtain, such approval. The
Purchaser agrees to cooperate in all reasonable respects with the Company in
the Company's efforts to obtain the Company Shareholders' Approval.
(b) Subject to the fiduciary duties of the Purchaser's Board of Directors
under applicable law, as advised in writing by counsel (i) the Purchaser will
take all action necessary in accordance with applicable law and its
Certificate of Incorporation and Bylaws to convene a meeting of its
stockholders (the "Purchaser Stockholders' Meeting") as promptly as
practicable to consider and vote upon the approval of the Merger and such
amendments to its Certificate of Incorporation as may be necessary to
authorize the Preferred Stock and sufficient additional shares of Purchaser
Common Stock to permit the Purchaser Common Stock Offering ("Purchaser's
Stockholders' Approval") and (ii) the Board of Directors of the Purchaser
shall recommend and declare advisable such approval and the Purchaser shall
take all lawful action to solicit, and use all reasonable efforts to obtain,
such approval. The Company agrees to cooperate in all reasonable respects with
the Purchaser in the Purchaser's efforts to obtain the Purchaser Stockholders'
Approval.
6.5. Registration Statement. The Company and the Purchaser will, as promptly
as practicable, jointly prepare and file with the SEC, not later than April
15, 1996, a registration statement on Form S-4 (the "S-4 Registration
Statement"), containing a joint proxy statement/prospectus, in connection with
the registration under the Securities Act of the Share Consideration issuable
in the Merger and the vote of the Company's shareholders and the Purchaser's
stockholders with respect to the Merger (such proxy statement/prospectus,
together with any amendments thereof or supplements thereto, in each case in
the form or forms mailed to the Company's shareholders and the Purchaser's
stockholders, is herein called the "Proxy Statement/Prospectus"). The Company
and the Purchaser will use all reasonable efforts to have, or cause the S-4
Registration Statement to be, declared effective as promptly as practicable,
and also will take any other action required to be taken under federal or
state securities laws, and the Company and the Purchaser will use all
reasonable efforts to cause the Proxy Statement/Prospectus to be mailed to
shareholders of the Company and stockholders of the Purchaser at the earliest
practicable date.
6.6. Purchaser Common Stock Offering.
(a) The Purchaser will, as promptly as practicable but in no event later
than April 15, 1996, prepare and file with the SEC a Registration Statement
registering under the Securities Act the offer and sale of shares of Purchaser
Common Stock in a public underwritten transaction (the "Purchaser Common Stock
Offering").
A-37
<PAGE>
(b) The Company agrees to cooperate in all reasonable respects with the
Purchaser in the Purchaser's efforts to consummate the Purchaser Common Stock
Offering, including, without limitation, to (i) assist the Purchaser in
preparing any offering documents or related materials and presenting such
offering documents or related materials to potential investors in connection
with the Purchaser Common Stock Offering and (ii) provide to the Purchaser any
required closing opinions, documents or certifications relating to the Company
required at the closing for the Purchaser Common Stock Offering. The Company
shall provide indemnity to the Purchaser with respect to any information
concerning the Company supplied by the Company for use in the Purchaser Common
Stock Offering, such indemnity to be on terms substantially similar to that
given by the Purchaser to any underwriters in the Purchaser Common Stock
Offering.
(c) The Purchaser shall have the right to commence active marketing of the
Purchaser Common Stock Offering at any time prior to termination of this
Agreement including, without limitation, the right to determine the date (the
"Preliminary Prospectus Mailing Date") on which it is appropriate to
distribute preliminary prospectuses; provided, however, that the Purchaser
shall first have determined that, in its reasonable judgment, the commencement
of active marketing at that time is feasible in light of foreseeable market
conditions. After the Preliminary Prospectus Mailing Date relating to such
offering, the Purchaser will continue in good faith the active marketing of
such offering by attending and actively participating in meetings with
financial analysts and potential investors customary for offerings comparable
to the Purchaser Common Stock Offering.
(d) The Purchaser shall have the right to actively market the Purchaser
Common Stock Offering for up to 35 days after the Preliminary Prospectus
Mailing Date. If the Chosen Underwriters do not present the Purchaser prior to
the expiration of such 35 day period with an opportunity to enter into a
definitive firm commitment underwriting agreement with respect to the
Purchaser Common Stock Offering and to accept pricing of Purchaser Common
Stock in the Purchaser Common Stock Offering at a price per share which would
generate net proceeds to the Purchaser of not less than the Aggregate Cash
Consideration Fund (an "Adequate Pricing Opportunity"), (i) the Purchaser's
obligation hereunder to actively market such Offering will cease, and (ii) the
Company alone will have the right to terminate this Agreement pursuant to
Section 8.1(a) (subject to the terms and conditions set forth therein). If the
Chosen Underwriters present to the Purchaser prior to the expiration of such
35 day period an Adequate Pricing Opportunity, the Purchaser shall be required
to accept. If the Purchaser shall decline to accept such Adequate Pricing
Opportunity, the Company may terminate this Agreement pursuant to Section 8.1
(subject to the terms and conditions set forth therein), which termination
shall become effective no sooner than the day five Business Days after the
delivery to the Purchaser of written notice of termination (unless the
Purchaser has accepted an Adequate Pricing Opportunity prior to such date).
The Purchaser shall not be deemed to have declined to accept an Adequate
Pricing Opportunity if the Purchaser does not enter into an underwriting
agreement on the basis of a determination by the Purchaser that, in its
reasonable judgment, there is a material risk that any condition set forth in
Article 7 hereof (other than a condition set forth solely in Section 7.3 which
has been irrevocably waived by the Company) or in the underwriting agreement
would not be satisfied on or prior to the third Business Day following the day
upon which such Adequate Pricing Opportunity was presented to the Purchaser.
6.7. Audited Financial Statements. The Purchaser and the Company each will
use its best efforts to cause its respective audited financial statements as
of, and for the year ending, December 31, 1995, to be certified by its
independent auditors in conformity with generally accepted accounting
principals consistently applied and to be delivered to the other party hereto
not later than March 31, 1996.
6.8. Reasonable Efforts. The Company and the Purchaser shall and shall use
all reasonable efforts to cause their respective Subsidiaries to: (i) promptly
make all filings and seek to obtain all Authorizations required under all
applicable laws with respect to the Merger and the other transactions
contemplated hereby and will cooperate with each other with respect thereto;
(ii) use all reasonable efforts to promptly take, or cause to be taken, all
other actions and do, or cause to be done, all other things necessary, proper
or appropriate to satisfy the conditions set forth in Article 7 and to
consummate and make effective the transactions contemplated by this Agreement
on the terms and conditions set forth herein as soon as practicable (including
seeking to remove promptly any injunction or other legal barrier that may
prevent such consummation); and (iii) not take any action
A-38
<PAGE>
(including, without limitation, effecting or agreeing to effect or announcing
an intention or proposal to effect, any acquisition, business combination or
other transaction) which might reasonably be expected to impair the ability of
the parties to consummate the Merger at the earliest possible time (regardless
of whether such action would otherwise be permitted or not prohibited
hereunder). The Purchaser shall cause the Chosen Underwriters to report to the
Company to the extent necessary to effectuate the provisions of Section 6.5.
6.9. Access to Information. Subject to currently existing contractual and
legal restrictions applicable to the Company (which the Company represents and
warrants are not material) or to the Purchaser (which the Purchaser represents
and warrants are not material), and upon reasonable notice, each of the
Company and the Purchaser shall (and shall cause each of its Subsidiaries to)
afford to officers, employees, counsel, accountants and other authorized
representatives of the other party (the "Respective Representatives") access,
during normal business hours throughout the period prior to the Effective
Time, to its properties, books and records (including without limitation, the
work papers of independent accountants) and, during such period, shall (and
shall cause each of its Subsidiaries to) furnish promptly to such Respective
Representatives all information concerning its business, properties and
personnel as may reasonably be requested, provided that no investigation
pursuant to this Section 6.9 shall affect or be deemed to modify any of the
respective representations or warranties made by the Purchaser or the Company.
Each of the Company and the Purchaser agrees that it will not, and will cause
its Respective Representatives not to, use any information obtained pursuant
to this Section 6.9 for any purpose unrelated to the consummation of the
transactions contemplated by this Agreement (including, without limitation,
the Purchaser Common Stock Offering). Subject to the requirements of law, each
party hereto will keep confidential, and will cause its Respective
Representatives to keep confidential, all information and documents obtained
pursuant to this Section 6.9 except as otherwise consented to by the other
party; provided, however, that neither the Purchaser nor the Company shall be
precluded from making any disclosure which it deems required by law in
connection with the transactions contemplated by this Agreement (including,
without limitation, the Purchaser Common Stock Offering). In the event any
party is required to disclose any information or documents pursuant to the
immediately preceding sentence, such party shall promptly give written notice
of such disclosure that is proposed to be made to the other party so that the
parties can work together to limit the disclosure to the greatest extent
possible and, in the event that either party is legally compelled to disclose
any information, to seek a protective order or other appropriate remedy or
both. Upon any termination of this Agreement, each of the Company and the
Purchaser will collect and deliver to the other party all documents obtained
pursuant to this Section 6.9 or otherwise for such party or its Respective
Representatives by it or any of its Respective Representatives then in their
possession and any copies thereof. All requests for access to the Company or
the Purchaser and their respective Subsidiaries pursuant to this Section 6.9
shall be made through their Respective Representatives named in the Purchaser
Disclosure Schedule or the Company Disclosure Schedule, as the case may be.
6.10. Supplements or Amendments.
(a) If at any time prior to the Company Shareholders' Meeting or the
Purchaser Stockholders' Meeting (whichever is later) any event with respect to
the Company or any of its Subsidiaries or any of their respective officers and
directors should occur which is required to be described in an amendment of,
or a supplement to, the Proxy Statement/Prospectus or the S-4 Registration
Statement, the Company shall notify the Purchaser thereof by reference to this
Section 6.10(a) and such event shall be so described, and such amendment or
supplement shall be promptly filed with the SEC and, as required by law,
disseminated to the shareholders of the Company and such amendment or
supplement shall comply with all provisions of applicable law. If at any time
prior to the Effective Time, the Company or any of its Subsidiaries or any of
their respective officers or directors becomes aware of any fact or condition
which would cause any material statement in the Proxy Statement/Prospectus or
in the prospectus relating to the Purchaser Common Stock Offering to have been
untrue or would cause the Proxy Statement/Prospectus or such other prospectus
to omit to state a material fact required to have been stated therein or
necessary in order to make the statements therein, in light of the
circumstances under which they were made, not misleading, the Company shall
promptly notify the Purchaser in writing of such fact or condition.
A-39
<PAGE>
(b) If at any time prior to the Company Shareholders' Meeting or the
Purchaser Stockholders' Meeting (whichever is later) any event with respect to
the Purchaser, or any of its Subsidiaries or their respective officers or
directors should occur which is required to be described in an amendment of,
or a supplement to, the Proxy Statement/Prospectus or the S-4 Registration
Statement, the Purchaser shall notify the Company thereof by reference to this
Section 6.10(b) and such event shall be so described, and such amendment or
supplement shall be promptly filed with the SEC and, as required by law,
disseminated to the stockholders of the Purchaser and such amendment or
supplement shall comply with all provisions of applicable law. If at any time
prior to the Effective Time, the Purchaser or any of its Subsidiaries or any
of their respective officers or directors becomes aware of any fact or
condition which would cause any material statement in the Proxy
Statement/Prospectus to have been untrue or would cause the Proxy
Statement/Prospectus to omit to state a material fact required to have been
stated therein or necessary in order to make the statements therein, in light
of the circumstances under which they were made, not misleading, the Purchaser
shall promptly notify the Company in writing of such fact or condition.
6.11. Directors' and Officers' Indemnification and Insurance.
(a) From and after the Effective Time, the Surviving Corporation (the
"Indemnifying Party") shall until the third anniversary of the Effective Time
indemnify, defend and hold harmless each person who is now, or has been at any
time prior to the date hereof or who becomes prior to the Effective Time, a
director, officer, employee or agent of the Company or any of its Subsidiaries
(each, an "Indemnified Party") against (i) all losses, claims, damages, costs
and expenses (including attorneys' fees), liabilities, judgments and
settlement amounts that are paid or incurred in connection with any claim,
action, suit, proceeding or investigation (whether civil, criminal,
administrative or investigative and whether asserted or claimed prior to, at
or after the Effective Time) that is based in whole or in part on, or arises
in whole or in part out of, the fact that such Indemnified Party is or was a
director, officer, employee or agent of the Company or any of its Subsidiaries
or in the case of a present or former director, officer or employee of the
Company or a Subsidiary, a fiduciary of any employee benefit plan or
arrangement of the Company or any of its Subsidiaries and, in either case
relates to or arises out of any action or omission occurring at or prior to
the Effective Time ("Indemnified Liabilities"), and (ii) all Indemnified
Liabilities based in whole or in part on, or arising in whole or in part out
of, or pertaining to this Agreement or the transactions contemplated hereby,
in each case to the full extent a corporation is permitted under applicable
law to indemnify its own directors, officers, employees or agents, as the case
may be; provided that no Indemnifying Party shall be liable for any settlement
of any claim effected without its written consent, which consent shall not be
unreasonably withheld. Without limiting the foregoing, in the event that any
such claim, action, suit, proceeding or investigation is brought against any
Indemnified Party (whether arising prior to or after the Effective Time), (w)
the Indemnifying Party will pay expenses in advance of the final disposition
of any such claim, action suit, proceeding or investigation to each
Indemnified Party to the full extent permitted by applicable law provided that
the person to whom expenses are advanced provides an undertaking to repay such
advance if it is ultimately determined that such person is not entitled to
indemnification; (x) the Indemnified Parties shall retain counsel reasonably
satisfactory to the Indemnifying Parties; (y) the Indemnifying Parties shall
pay all reasonable fees and expenses of such counsel for the Indemnified
Parties (subject to the final sentence of this paragraph) promptly as
statements therefor are received; and (z) the Indemnifying Parties shall use
all commercially reasonable efforts to assist in the vigorous defense of any
such matter. Any Indemnified Party wishing to claim indemnification under this
Section, upon learning of any such claim, action, suit, proceeding or
investigation, shall notify the Indemnifying Party, but the failure so to
notify an Indemnifying Party shall not relieve it from any liability which it
may have under this paragraph except to the extent such failure irreparably
prejudices such party. The Indemnified Parties as a group may retain only one
law firm to represent them with respect to each such matter unless there is,
under applicable standards of professional conduct, a conflict on any
significant issue between the positions of any two or more Indemnified
Parties.
(b) The Surviving Corporation shall, until the third anniversary of the
Effective Time, cause to be maintained in effect, to the extent available, the
policies of directors' and officers' liability insurance maintained by the
Company and its Subsidiaries as of the date hereof (or policies of at least
the same coverage and amounts containing terms that are no less advantageous
to the insured parties) with respect to claims arising from facts or
A-40
<PAGE>
events that occurred on or prior to the Effective Time; and in no event shall
the coverage for the transactions contemplated hereby be excluded; provided
that in no event shall the Surviving Corporation be obligated to expend in
order to maintain or procure insurance coverage pursuant to this paragraph any
amount per annum in excess of the aggregate premiums paid by the Company and
its Subsidiaries as of the date hereof for such purpose, but in such case
shall purchase as much coverage as possible for such maximum annual amount;
and provided, further, that in the event any claim or claims are asserted or
made within such three year period, the obligations of the Surviving
Corporation to maintain in effect insurance shall continue until the
disposition of any and all claims.
(c) In the event that any action, suit, proceeding or investigation relating
to this Agreement or to the transactions contemplated by this Agreement is
commenced, whether before or after the Closing, the parties hereto agree to
cooperate and use their respective reasonable efforts to vigorously defend
against and respond thereto.
(d) This Section 6.11 shall survive the Effective Time and is intended to
benefit the Indemnified Parties and their successors and assigns and shall be
binding on all successors and assigns of the Purchaser, the Company and the
Surviving Corporation.
(e) The Surviving Corporation shall honor, to the fullest extent permitted
by applicable law, all indemnification agreements existing as of the date
hereof between the Company and any of the Indemnified Parties.
6.12. Registration and Listing of Share Consideration.
(a) The Purchaser will cause to be registered, under the applicable
provisions of the Securities Act, the offer and sale in the Merger of Share
Consideration to be issued pursuant to this Agreement.
(b) The Purchaser will use its best efforts to cause the Share Consideration
to be listed on the AMEX, NYSE or NASDAQ.
6.13. Affiliates of the Purchaser and the Company. Prior to the Effective
Time, the Company shall deliver to the Purchaser a letter identifying all
Persons who, at the time this Agreement is submitted for approval to the
shareholders of the Company, may be deemed to be "affiliates" of the Company
for purposes of Rule 145 under the Securities Act (the "Rule 145 Affiliates")
or who may otherwise be deemed to be Affiliates of the Company. The Company
shall use all reasonable efforts to cause each person who is identified as a
Rule 145 Affiliate in such list to deliver to the Purchaser on or prior to the
Effective Time, a written agreement, in the form to be approved by the parties
hereto, that such Rule 145 Affiliate will not sell, pledge, transfer or
otherwise dispose of any shares of Preferred Stock issued to such Rule 145
Affiliate pursuant to the Merger, except pursuant to an effective registration
statement or in compliance with Rule 145 or an exemption from the registration
requirements of the Securities Act.
6.14. Consents. Between the date hereof and the Closing Date, the Company
and the Purchaser shall use their respective best efforts, without payment of
any consideration to the persons or entities from whom or which consents or
agreements are required, to obtain at the earliest practicable date, and prior
to the Closing Date, all consents and agreements of third parties necessary
for the performance by the Company and the Purchaser of their respective
obligations under this Agreement or any agreement referred to herein or
contemplated hereby or to the consummation of the transactions contemplated
hereby or thereby except for those consents and agreements which, if not
obtained, would not have a Company Material Adverse Effect or a Purchaser
Material Adverse Effect. No consideration, whether such consideration shall
consist of the payment of money or shall take any other form, for any such
consent or agreement necessary to the consummation of the transactions
contemplated hereby shall be given or promised by either of the Company or the
Purchaser or any of their respective Subsidiaries without the prior written
approval of the other party.
A-41
<PAGE>
6.15. Filings and Authorizations. The Company and the Purchaser shall, as
promptly as practicable following the execution and delivery of this
Agreement, file or supply, or cause to be filed or supplied, all
notifications, reports and other information required to be filed or supplied
pursuant to the HSR Act and applicable state insurance laws in connection with
the transactions contemplated by this Agreement. In addition to and not in
limitation of the foregoing, each of the parties will (x) take promptly all
actions necessary to make the filings required of the Purchaser and the
Company or their affiliates under the HSR Act, (y) comply at the earliest
practicable date with any request for additional information received by such
party or its affiliates from the Federal Trade Commission (the "FTC") or the
Antitrust Division of the Department of Justice (the "Antitrust Division")
pursuant to the HSR Act, and (z) cooperate with the other party in connection
with such party's filings under the HSR Act and in connection with resolving
any investigation or other inquiry concerning the Merger or the other matters
contemplated by this Agreement commenced by either the FTC or the Antitrust
Division or state attorneys general. Each of the Company and the Purchaser
will proceed diligently and in good faith and will use all commercially
reasonable efforts to do, or cause to be done, all things necessary, proper or
advisable to, as promptly as practicable, (i) make, or cause to be made, all
such other filings and submissions, as may be required to consummate the
Merger and the other transactions contemplated hereby in accordance with the
terms of this Agreement, (ii) obtain, or cause to be obtained, all
authorizations, approvals, consents and waivers from all persons and
governmental authorities necessary to be obtained in order to consummate such
transfer and such transactions and (iii) take, or cause to be taken, all other
actions necessary, proper or advisable in order to fulfill their respective
obligations hereunder.
6.16. Further Assurances; Notice of Breach; Cure. At any time and from time
to time after the Closing, the parties agree to use their best efforts to
cooperate with each other, to execute and deliver such other documents,
instruments of transfer or assignment (which documents and instruments must be
in form reasonably satisfactory to each party executing the same), files,
books and records and do all such further acts and things as may reasonably be
required to carry out the transactions contemplated hereunder. Each party
shall promptly notify the other party in writing of any information delivered
to or obtained by such party which would prevent the satisfaction of any
condition set forth in Article 7 or consummation of the transactions
contemplated by this Agreement, or would indicate a breach of the
representations or warranties of any of the parties to this Agreement. After
giving or receiving notice that any representation, warranty or covenant set
forth herein has been breached or that any condition set forth in Article 7
cannot be satisfied, the affected party shall have 15 days to cure same or to
demonstrate to the other party's reasonable satisfaction that such breach or
condition both is curable and will be cured prior to the estimated Effective
Time. If such party fails to cure or demonstrate such ability to cure such
breach or satisfy such condition, the other party shall have the right to
waive the breach or failure of condition unless the nature of such breach or
failure of condition renders closing under this Agreement impossible. If such
breach or failure of condition is not waived, this Agreement may be terminated
in accordance with Section 8.1.
6.17. Continuation of Compensation and Employee Benefit Plans. The Purchaser
and the Company acknowledge and agree that the Purchaser shall have the sole
and exclusive right to determine its future benefit and employment policies
and that it is not intended that, and in no event shall, the provisions of
this Section 6.17 create any right or interest of any person (including,
without limitation, the Company or any employee of the Company or any ERISA
Subsidiary). The Purchaser acknowledges that it intends to cause the Surviving
Corporation to establish or continue to maintain as of the Closing Date,
benefit plans and programs providing benefits for non-union employees of the
Company or any ERISA Subsidiary that in the aggregate (as to the current and
former employee groups, respectively) are at least approximately equivalent to
the benefits being provided for such employees of the Company and any ERISA
Subsidiary under the Company Employee Plans existing immediately before the
Closing Date. Effective as of the Closing Date, Purchaser shall cause the
Surviving Corporation to assume all duties, obligations and liabilities with
respect to the compensation and benefits payable to or on account of current
or former employees of the Company or any ERISA Subsidiary with respect to the
relationship of such employee(s) with any such entities.
6.18. Cooperation on Litigation. The Purchaser and the Company agree to
furnish or cause to be furnished to each other, upon reasonable request, as
promptly as practicable, such information (including access
A-42
<PAGE>
to books and records) and assistance as is reasonably necessary for the
preparation for or the prosecution or defense of any suit, action, litigation
or arbitration or other proceeding or investigation against the Purchaser or
the Company, respectively. The party requesting such information and
assistance shall reimburse the other party for all reasonable out-of-pocket
costs and expenses incurred by such party in providing such information and in
rendering such assistance.
6.19. Capital Contribution to Surviving Corporation. The Purchaser agrees to
raise $30,000,000 (the "Capital Contribution Amount") either (i) as additional
proceeds in the Purchaser Common Stock Offering (in excess of the funds
necessary for the Aggregate Cash Consideration Fund) or (ii) if, in the
judgment of the Purchaser the pricing of the Purchaser Common Stock Offering
would be adversely affected by attempting to raise such additional proceeds in
such offering, in the debt market; provided, however, that Purchaser may not
raise more than $15,000,000 of the Capital Contribution Amount in the debt
market without the prior written consent of the Board of Directors of the
Company. The Purchaser shall at the Effective Time make a capital contribution
to the Surviving Corporation in an amount equal to the Capital Contribution
Amount.
ARTICLE 7
CONDITIONS TO CLOSING
7.1. Conditions to Obligations of the Parties. The respective obligations of
each party to consummate the transactions contemplated hereby shall be subject
to the fulfillment, on or prior to the Closing Date, of each of the following
conditions, unless waived in writing by the party being benefitted thereby, to
the extent permitted by applicable law.
(a) Company's Shareholders' Approval. The Company shall have obtained the
Company's Shareholders' Approval from the requisite holders of Shares in
accordance with applicable law and the Certificate of Incorporation and
Bylaws of the Company.
(b) Purchaser's Stockholders' Approval. The Purchaser shall have obtained
the Purchaser's Stockholders' Approval from the requisite holders of shares
of Purchaser Common Stock in accordance with applicable law and the
Certificate of Incorporation and Bylaws of the Purchaser.
(c) Government Consents. All (i) Authorizations specified in the Company
Disclosure Schedule and the Purchaser Disclosure Schedule and (ii) other
Authorizations required in connection with the execution and delivery of
this Agreement and the performance of the obligations hereunder shall have
been made or obtained in each case without limitation or restriction
unacceptable to the Purchaser in its reasonable judgment, except, in the
case of Authorizations referred to in clause (ii) above, where the failure
to have obtained such Authorizations could not reasonably be expected (so
far as can be foreseen at the time) to have a Purchaser Material Adverse
Effect or a Company Material Adverse Effect, as the case may be.
(d) No Suits nor Injunctions. There shall be no suits, actions, inquiry,
investigations nor proceedings, nor shall there be in effect any Order or
injunction of any court or Governmental Body of competent jurisdiction,
restraining, enjoining or otherwise preventing consummation of the
transactions contemplated by this Agreement or permitting such consummation
only subject to any condition or restriction unacceptable to the Purchaser
in its reasonable judgment.
(e) Registration Statement. The S-4 Registration Statement shall have
been declared effective and shall be effective at the Effective Time, and
no stop order suspending effectiveness shall have been issued, no action,
suit, proceeding or investigation by the SEC to suspend the effectiveness
thereof shall have been initiated and be continuing, and all necessary
approvals under state securities laws or the Securities Act or Exchange Act
relating to the issuance or trading of the Purchaser Common Stock and
Preferred Stock shall have been received.
A-43
<PAGE>
(f) Listing of Purchaser Shares on Exchange. The shares of Preferred
Stock and Purchaser Common Stock required to be issued hereunder shall have
been approved for listing on the Exchange, subject only to official notice
of issuance.
(g) Purchaser Common Stock Offering. The Purchaser Common Stock Offering
shall have been consummated in accordance with its terms and the terms of
the underwriting agreement entered into in connection therewith and the net
proceeds received by the Purchaser pursuant thereto shall not have been
less than the Aggregate Cash Consideration Amount.
7.2. Conditions to Obligations of the Purchaser. The obligations of the
Purchaser to consummate the transactions contemplated by this Agreement are
subject to the fulfillment at or prior to the Effective Time of each of the
following conditions, any or all of which may be waived in whole or part by
the Purchaser to the extent permitted by applicable law:
(a) Representations and Warranties True. Each of the representations and
warranties made by the Company in this Agreement shall be true and correct
in all material respects as of the Closing Date as though made on and as of
the Closing Date or, in the case of representations and warranties made as
of a specified date earlier than the Closing Date, on and as of such
earlier date, and the Company shall have delivered to the Purchaser a
certificate, dated the Closing Date and executed on behalf of the Company
by its Chairman of the Board, President or any Executive or Senior Vice
President, to such effect.
(b) Performance. The Company shall have performed or complied in all
material respects with all agreements and conditions contained herein
required to be performed or complied with by it prior to or at the time of
the Closing.
(c) Compliance Certificate. The Company Closing shall have delivered to
the Purchaser a certificate, dated the Closing Date, signed by the
President or any Vice President of the Company, certifying as to the
fulfillment of the precedent conditions specified herein.
(d) Opinion of Counsel for the Company. The Purchaser shall have received
from Baker, Donelson, Bearman & Caldwell, P.C. or other counsel for the
Company satisfactory to the Purchaser an opinion, dated the Closing Date,
in substantially the form set forth in Schedule 7.2 hereto.
(e) Proceedings. All corporate proceedings taken by the Company in
connection with the transactions contemplated hereby and all documents
incident thereto shall reasonably be satisfactory in all respects to the
Purchaser and the Purchaser's counsel, and the Purchaser and Purchaser's
counsel shall have received all such counterpart originals or certified or
other copies of such documents as they may reasonably request.
(f) Certain Disclosures. The S-4 Registration Statement, at the time it
shall have been declared effective, shall disclose no information in
existence on the date hereof materially adverse with respect to the
Company's business, properties, operations, condition (financial or other)
or prospects not previously disclosed in the Company SEC Reports or this
Agreement.
(g) Third Party Consents. All required authorizations, consents or
approvals of any third party (other than a Governmental Body), the failure
to obtain which could have a Company Material Adverse Effect, shall have
been obtained.
(h) Fairness Opinion. The Purchaser shall have received a written opinion
of Stephens, dated the date of the Proxy Statement/Prospectus, to the
effect that the financial terms of the Merger are fair from a financial
point of view to the Purchaser and its stockholders.
7.3. Conditions to Obligations of the Company. The obligations of the
Company to consummate the transactions contemplated by this Agreement are
subject to the fulfillment at or prior to the Effective Time of each of the
following conditions, any or all of which may be waived in whole or in part by
the Company to the extent permitted by applicable law.
(a) Representations and Warranties True. Each of the representations and
warranties made by the Purchaser in this Agreement shall be true and
correct in all material respects as of the Closing Date as
A-44
<PAGE>
though made on and as of the Closing Date or, in the case of
representations and warranties made as of a specified date earlier than the
Closing Date, on and as of such earlier date and the Purchaser shall have
delivered to the Company a certificate, dated the Closing Date and executed
on behalf of the Purchaser by its Chairman of the Board, President, Chief
Operating Officer or Secretary, to such effect.
(b) Performance. The Purchaser shall have performed or complied in all
material respects with all agreements and conditions contained herein
required to be performed or complied with by it prior to or at the time of
the Closing.
(c) Compliance Certificate. The Purchaser shall have delivered to the
Company a certificate, dated the date of the Closing, signed by the
Chairman of the Board, President, Chief Operating Officer, or Secretary of
the Purchaser, certifying as to the fulfillment of the precedent conditions
specified herein.
(d) Opinion of Counsel for the Purchaser. The Company shall have received
from Anderson Kill Olick & Oshinsky, P.C. or other counsel for the
Purchaser satisfactory to the Company an opinion, dated the Closing Date,
in substantially the form set forth in Schedule 7.3 hereto.
(e) Proceedings. All corporate proceedings taken by the Purchaser in
connection with the transactions contemplated hereby and all documents
incident thereto shall reasonably be satisfactory in all respects to the
Company and the Company's special counsel, and the Company and the
Company's special counsel shall have received all such counterpart
originals or certified or other copies of such documents as they may
reasonably request.
(f) Third Party Consents. All required authorizations, consents or
approvals of any third party (other than a Governmental Body), the failure
to obtain which could have a Purchaser Material Adverse Effect, shall have
been obtained.
(g) Fairness Opinion. The Company shall have received a written opinion
of R-H, dated the date of the Proxy Statement/Prospectus, to the effect
that the consideration to be received pursuant to the Merger by the holders
of Shares is fair from a financial point of view to such holders.
(h) Certain Disclosure. The S-4 Registration Statement, at the time it
shall have been declared effective, shall disclose no information in
existence on the date hereof materially adverse with respect to the
Purchaser's business, properties, operations, condition (financial or
otherwise) or prospects not previously disclosed in the Purchaser SEC
Reports or this Agreement.
(i) Opinion Regarding Tax Consequences. The Company shall have received
an opinion of Anderson Kill Olick & Oshinsky, P.C. or other counsel of
Purchaser satisfactory to the Company dated the date of the Proxy
Statement/Prospectus to the effect that the Merger shall be treated for
federal income tax purposes as a tax-free reorganization.
ARTICLE 8
TERMINATION AND ABANDONMENT;
BREAK-UP FEE AND EXPENSE REIMBURSEMENT
8.1. Termination Rights. This Agreement shall terminate on the Final
Termination Date unless prior thereto the Offering Pricing Date has occurred
on or prior to such date. This Agreement may be terminated at an earlier time
upon the mutual written consent of the parties. In addition, either party may
terminate this Agreement prior to the Final Termination Date by delivery of
written notice to such effect to the other party (a) in accordance with
termination rights specifically provided elsewhere in this Agreement, (b) in
the event that any condition precedent to the closing of the Merger has not
been or cannot be satisfied within the time periods (including any grace or
cure periods) and in the manner provided herein, and (c) in the event that a
party breaches in some material respect a representation, warranty or covenant
contained herein and such party fails to cure or demonstrate an ability to
cure such breach within the time period provided in Section 6.16.
A-45
<PAGE>
8.2. Termination Expenses and Liability.
(a) General Provision. Unless a party is entitled pursuant to the provisions
of subsections (b), (c), (d) or (e) below to receive expense reimbursement or
any termination payment, or unless a party commits a willful breach of any
representation, warranty or covenant contained herein, upon a termination of
this Agreement by either party, each party shall bear its own costs and
expenses and neither party shall have any liability to the other in connection
with or following any valid termination of this Agreement. Upon a willful
breach of any representation, warranty or covenant made by a party herein,
such party shall have such liability for breach of contract and shall pay such
damages as may be determined by a court of law or equity. It is understood
that any failure on the part of the Purchaser to fulfill the covenant set
forth in Section 6.19 shall not constitute a wilful breach of a covenant for
purposes of this subsection (a).
(b) Expense Recoupment--Company. Upon a termination of this Agreement by
either party, the Company shall be entitled to be reimbursed by the Purchaser
promptly after such termination for the actual, documented out-of-pocket
expenses incurred by the Company in connection with this Agreement and the
transactions contemplated hereby, up to a $1,000,000 maximum, if the reason
for such termination is the Purchaser has committed a material but non-willful
breach of any representation, warranty or covenant herein which shall not have
been cured within any applicable time period or the Purchaser shall be unable
to comply with the condition set forth in Section 7.3(a) relating to
representations and warranties.
(c) Expense Recoupment--the Purchaser. Upon a termination of this Agreement
by either party, the Purchaser shall be entitled to be reimbursed by the
Company promptly after such termination for the actual, documented out-of-
pocket expenses incurred by the Purchaser in connection with this Agreement
and the transactions contemplated hereby (including, without limitation, the
expenses incurred in connection with the Purchaser Common Stock Offering), up
to $1,000,000 maximum, if the reason for such termination is one of the
following: (i) the Company has committed a material but non-willful breach of
any representation, warranty or covenant herein which shall not have been
cured within any applicable time period or the condition set forth in Section
7.2(a) relating to representations and warranties shall otherwise not be
capable of being satisfied, (ii) a Transaction Moratorium Period shall have
continued for not less than 30 days, or (iv) the Company shall have withdrawn
or modified its recommendation for the Company Shareholders' Approval.
(d) Termination Fee--the Purchaser. In the event (i) the Company fails to
obtain Company Shareholders' Approval and this Agreement is terminated, or
(ii) the Purchaser has elected to terminate this Agreement under Section
6.3(b) or (iii) the Board of Directors of the Company has withdrawn or
modified its recommendation to its shareholders as contemplated by Section
6.3(a) and this Agreement is terminated or (iv) the condition set forth in
Section 7.3 relating to the receipt by the Company of a fairness opinion has
not been satisfied, then the Company and its successors shall owe the
Purchaser (in addition to any expense reimbursement provided for in Section
8.2(c)) a termination fee of $2,750,000 (subject to reduction by the amount of
any credit pursuant to the last sentence of this subsection), payable in
immediately available funds, if, within six months from the date of a
termination of this Agreement, an Acquisition Transaction is publicly
announced, an Acquisition Transaction closes or an agreement to consummate an
Acquisition Transaction is signed. Such termination fee shall be paid on the
date of closing of any such Acquisition Transaction; provided, however, that
any amount previously paid by the Company to the Purchaser as an expense
recoupment pursuant to subsection (c) of this Section 8.2 shall apply as a
credit against any amount payable by the Company under this subsection.
ARTICLE 9
MISCELLANEOUS
9.1. Expenses. Except as otherwise provided in Section 8.2, each party shall
bear its own expenses, including the fees and expenses of any attorneys,
accountants, investment bankers, brokers, finders or other intermediaries or
other Persons engaged by it, incurred connection with this Agreement and the
transactions contemplated hereby.
A-46
<PAGE>
9.2. Public Disclosure. Except as may be required to comply with the
requirements of applicable law, or otherwise to comply with the terms and
conditions of this Agreement, in which case prior notice thereof shall, to the
extent practicable, be given to the other party hereto, and reasonable efforts
to obtain such party approval shall be made, the parties hereto agree that no
press release or similar public announcement or communication will be made or
caused to be made concerning the execution or performance of this Agreement
without the prior approval of the other party.
9.3. Governing Law; Consent to Jurisdiction. This Agreement shall be deemed
to be made in and in all respects shall be interpreted, construed and governed
by and in accordance with the laws of the State of Delaware (without regard to
principles of conflicts of law) applicable to agreements made and to be
entirely performed within such state. The Company and the Purchaser
irrevocably agree that any legal action or proceeding arising out of or in
connection with this Agreement, or the transactions contemplated hereby, shall
be brought in the United States District Court for the Southern District of
New York. Any and all service of process and any other notice in any such
action, suit or proceeding shall be effective against any party if given
personally or by registered or certified mail, return receipt requested, or by
any other means of mail that requires a signed receipt, postage prepaid,
mailed to such party as herein provided.
9.4. Notices. Any notices or other communications required under this
Agreement shall be in writing, shall be deemed to have been given and received
when delivered in person, or addressed
(a)if to the Purchaser to:
Danielson Holding Corporation
767 Third Avenue
New York, NY 10017
Attention: C. Kirk Rhein, Jr.
Telephone: (212) 888-0347
Fax: (212) 735-0003
with a copy to:
Anderson Kill Olick & Oshinsky, P.C.
1251 Avenue of the Americas
New York, NY 10020-1182
Attention: Michael W. Stamm
Telephone: (212) 278-1702
Fax: (212) 728-1733
(b)if to the Company to:
Midland Financial Group, Inc.
825 Crossover Lane
Suite 112
Memphis, TN 38117-4936
Attention: Joseph W. McLeary
Telephone: (901) 680-9100
Fax: (901) 638-6395
with a copy to:
Baker, Donelson, Bearman & Caldwell, P.C.
165 Madison Avenue
First Tennesee Building, 20th Floor
Memphis, TN 38103
Attention: Charles T. Tuggle, Jr.
Telephone: (901) 577-2267
Fax: (901) 577-2303
or at such other place or places or to such other person or persons as shall
be designated in writing by the parties to this Agreement in the manner herein
provided.
A-47
<PAGE>
9.5. Headings. Article, section and paragraph headings contained in this
Agreement are for reference purposes only and shall not in any way affect the
meaning or interpretation of this Agreement.
9.6. Counterparts. This Agreement may be executed in one or more
counterparts, and by the different parties hereto in separate counterparts,
each of which when executed shall be deemed to be an original, but all of
which taken together shall constitute one and the same instrument.
9.7. Assignment. This Agreement may not be assigned by a party hereto
without the prior written consent of the other hereto. This Agreement shall be
binding upon and inure to the benefit of successors and assigns of the parties
hereto.
9.8. Severability. If any provision of this Agreement is held to be
unenforceable for any reason, it shall be adjusted rather than voided, if
possible, in order to achieve the intent of the parties to this Agreement to
the fullest extent possible. In any event, all other provisions of this
Agreement shall be deemed valid and enforceable to the fullest extent
permitted.
9.9. Waivers and Amendments. This Agreement may be amended, superseded,
canceled, renewed or extended, and the terms hereof may be waived, at any
time, but only by a written instrument signed by the parties or, in the case
of a waiver, by the party waiving compliance. No delay on the part of any
party in exercising any right, power or privilege hereunder shall operate as a
waiver thereof, nor shall any waiver on the part of any party of any such
right, power or privilege, or any single or partial exercise of any such
right, power or privilege, preclude any further exercise thereof or the
exercise of any other such right, power or privilege.
9.10. No Third Party Beneficiaries. Except as provided in Section 6.10
nothing in this Agreement shall convey any rights or remedies upon any person
or entity that is not a party to this Agreement or a permitted assignee of a
party to this Agreement.
9.11. Entire Agreement. This Agreement, the Schedules and Exhibits hereto
and any collateral agreements executed in connection with the consummation of
the transactions contemplated herein, constitute the entire agreement between
the parties hereto with respect to the transactions contemplated hereby and
supersedes all prior written or oral understandings, agreements or
undertakings with respect thereto.
9.12. Survival. Notwithstanding any provision of this Agreement to the
contrary, the representations and warranties of the Company and the Purchaser
contained in this Agreement shall not survive, and shall be of no force and
effect following, the Closing Date of the Merger.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly
executed as of the date first written above.
Midland Financial Group, Inc.
/s/ Joseph W. McLeary
By: _________________________________
Name: Joseph W. McLeary
Title: Chairman and Chief
Executive Officer
Danielson Holding Corporation
/s/ C. Kirk Rhein, Jr.
By: _________________________________
Name: C. Kirk Rhein, Jr.
Title: President and Chief
Executive Officer
Mission Sub E, Inc.
/s/ C. Kirk Rhein, Jr.
By: _________________________________
Name: C. Kirk Rhein, Jr.
Title: President and Chief
Executive Officer
A-48
<PAGE>
APPENDIX A-1
DANIELSON HOLDING CORPORATION
767 THIRD AVENUE
NEW YORK, NEW YORK 10017
April 18, 1996
Midland Financial Group, Inc.
825 Crossover Lane, Suite 112
Memphis, Tennessee 38117-4936
Re: Agreement and Plan of Merger
Ladies and Gentlemen:
Reference is made to the Agreement and Plan of Merger dated as of February
26, 1996 (the "Merger Agreement"), between Danielson Holding Corporation (the
"Purchaser"), Midland Financial Group, Inc. (the "Company") and Mission Sub E,
Inc. (the "Merger Sub"). Capitalized terms used but not otherwise defined
herein shall have the meaning given to such terms in the Merger Agreement.
By signing in the space provided below, the Company and the Merger Sub
hereby agree with the Purchaser to amend certain provisions of the Merger
Agreement as follows:
1. Section 6.5 of the Merger Agreement is hereby amended in its entirety to
read as follows:
6.5 Registration Statement. The Company and the Purchaser will, as
promptly as practicable, jointly prepare and file with the SEC, not later
than April 24, 1996, a joint proxy statement, in connection with the Merger
and the vote of the Company's shareholders and the Purchaser's stockholders
with respect to the transactions contemplated by this Agreement (such proxy
statement, together with any amendments thereof or supplements thereto, in
each case in the form or forms mailed to the Company's shareholders and the
Purchaser's stockholders, is herein called the "Proxy Statement"). The
Proxy Statement will form part of the registration statement on Form S-4
registering under the Securities Act the Share Consideration issuable in
the Merger (the "S-4 Registration Statement"). The Company and the
Purchaser will use all reasonable efforts to (i) have, or cause the Proxy
Statement/Prospectus to become definitive, (ii) file the S-4 Registration
Statement with the SEC, and (iii) have or cause the S-4 Registration
Statement to be declared effective as promptly as practicable. The Company
and the Purchaser also will take any other action required to be taken
under federal or state securities laws, and the Company and the Purchaser
will use all reasonable efforts to cause the Proxy Statement to be mailed
to shareholders of the Company and stockholders of the Purchaser at the
earliest practicable date.
2. Section 6.6 (a) of the Merger Agreement is hereby amended in its entirety
to read as follows:
6.6 Purchaser Common Stock Offering.
(a) The Purchaser will, as promptly as practicable after having received
and having had a reasonable opportunity to respond to the final comments of
the SEC on the Proxy Statement, prepare and file with the SEC a
registration statement on Form S-3 registering under the Securities Act the
offer and sale of shares of Purchaser Common Stock in a public underwritten
transaction (the "Purchaser Common Stock Offering").
3. Section 6.4 of the Merger Agreement is hereby amended to add the
following subsection (c):
(c) It is understood that for purposes of obtaining approval of the
Merger at the Purchaser Stockholders' Meeting, approval of the amendments
to the Purchaser's Certificate of Incorporation as may be necessary to
authorize the Preferred Stock and sufficient additional shares of Purchaser
Common Stock to permit the Purchaser Common Stock Offering shall be deemed
to be approval of the Merger by the Purchaser's stockholders.
A-49
<PAGE>
Except as specifically set forth in this letter, the Merger Agreement is
hereby affirmed and shall remain in full force and effect.
Very truly yours,
Danielson Holding Corporation
/s/ C. Kirk Rhein, Jr.
By: _________________________________
President and Chief Executive
Officer
Accepted and Agreed To:
Midland Financial Group, Inc.
/s/ Joseph W. McLeary
By: _________________________________
Chairman and Chief Executive
Officer
Mission Sub E, Inc.
/s/ C. Kirk Rhein, Jr.
By: _________________________________
President and Chief Executive
Officer
A-50
<PAGE>
APPENDIX A-2
DANIELSON HOLDING CORPORATION
767 THIRD AVENUE
NEW YORK, NEW YORK 10017
July 3, 1996
Midland Financial Group, Inc.
825 Crossover Lane, Suite 112
Memphis, Tennessee 38117-4936
Re: Agreement and Plan of Merger
Ladies and Gentlemen:
Reference is made to the Agreement and Plan of Merger dated as of February
26, 1996, as amended (the "Merger Agreement"), between Danielson Holding
Corporation (the "Purchaser"), Midland Financial Group, Inc. (the "Company")
and Mission Sub E, Inc. (the "Merger Sub"). Capitalized terms used but not
otherwise defined herein shall have the meaning given to such terms in the
Merger Agreement.
By signing in the space provided below, the Company and the Merger Sub
hereby agree with the Purchaser to amend certain provisions of the Merger
Agreement and the Certificate of Designation, Preferences, Rights and
Limitations of Series A Cumulative Perpetual Preferred Stock of Danielson
Holding Corporation, attached as Exhibit 1A to the Merger Agreement (the
"Certificate of Designation") as follows:
1. The definition of Series A Preferred Terms appearing in Article 1 of
the Merger Agreement is hereby amended in its entirety to read as follows:
"Series A Preferred Terms' means the certificate of designations,
preferences, rights and limitations of Preferred Stock in the form
attached hereto as Exhibit 1A."
2. The definition of "Lazard" appearing in Article 1 of the Merger
Agreement and all references to Lazard therein are hereby deleted and in
lieu and in place thereof, the term "BT" shall appear, and for purposes of
Article 1 of the Merger Agreement, BT shall be defined as follows:
"BT' means BT Securities Corporation."
3. The definition of "Purchaser Common Stock Per Share Value" appearing
in Article 1 is amended to read in its entirety as follows:
"Purchaser Common Stock Per Share Value" means the arithmetic average
of the closing prices of the Purchaser Common Stock on the Amex (or
other national securities exchange on which the Purchaser Common Stock
is then listed for trading) for each day on which trading of such stock
took place on the Exchange during the period beginning on the date
twenty days prior to the Offering Pricing Date and ending on the
Business Day immediately preceding the Offering Pricing Date; provided,
however, that in no event shall the Purchaser Common Stock Per Share
Value be an amount less than $4.50 nor more than $10.50 per share.
4. Section 3.4(d) of the Merger Agreement is hereby amended in its
entirety to read as follows:
"(d) A form pursuant to which each record holder of shares of Company
Common Stock may make Holder Consideration Elections and the related
letter of transmittal (the "Form of Election") shall be mailed to
shareholders of record of the Company as of the record date for the
Company Shareholders' Meeting and such mailing shall, at the
Purchaser's discretion, either (i) accompany the Proxy
Statement/Prospectus mailed to such shareholders in connection with
such Meeting, or (ii) be mailed to such shareholders promptly after the
mailing of the Proxy Statement/Prospectus. The Company shall also make
the Form of Election available at its executive offices and such other
places as the Company and the Purchaser deem appropriate to all persons
who become stockholders of the Company during the period between such
record date and the Election Deadline."
A-51
<PAGE>
5. Section 3.4(b) is amended to read in its entirety as follows:
"(b) Priority of Allocations Based on Chosen Consideration. The
Aggregate Merger Consideration shall be allocated among holders of
Shares, in the manner set forth, in subsection (c) of this Section, in
the following order of priority:
First, as a group, among all holders of Shares who have made valid
Common Stock Elections that remain in effect at the Effective Time;
Second, as a group, among all holders of Shares who have made valid
Preferred Stock Elections that remain in effect at the Effective
Time; and
Third, among (i) all holders of Shares who have made valid Cash
Elections that remain in effect at the Effective Time and (ii) all
holders of Shares for whom no Holder Consideration Election is in
effect at the Effective Time, both such holders treated for such
allocation purposes as a single group.
Each holder for whom no Holder Consideration Election is in effect at the
Effective Time shall be treated as though such holder has made a valid Cash
Election."
6. Section 3.4(c) is amended to delete the final paragraph thereof.
7. Section 3.9 of the Merger Agreement is hereby amended in its entirety
to read as follows:
"3.9 Dividend Rate of Preferred Stock. The dividend rate applicable to
the Preferred Stock shall initially be set prior to the date upon which
the Proxy Statement/Prospectus is mailed to shareholders (the
"Preferred Pricing Date"), at the Par Trading Rate as determined in the
joint written opinion of DLJ and R-H. The dividend rate set at the
Preferred Pricing Date shall be subject to upward or downward
adjustment as of the Offering Pricing Date to a rate which, in the
joint written opinion of DLJ and R-H, represents the Par Trading Rate
as of the Offering Pricing Date. In the event that DLJ and R-H are
unable to agree upon an appropriate dividend rate for the Preferred
Stock as of either the Preferred Pricing Date or the Offering Pricing
Date, BT shall advise the Company and the Purchaser in writing of the
rate which, in its opinion, represents the Par Trading Rate as of such
date. If the rate specified by BT for such security as of either such
date is within the high and low rates specified by DLJ and R-H for such
security, the rate so specified by BT shall be the rate for such
security (subject to adjustment as of the Offering Pricing Date as
provided above in the case of rates set as of the Preferred Pricing
Date). If the rate specified by BT for such security is above or below
the range of the two rates specified by DLJ and R-H for such security,
the nearest of the two rates specified by DLJ and R-H shall be the
dividend rate for such security (subject to adjustment as of the
Offering Pricing Date as provided above in the case of rates set as of
the Preferred Pricing Date)."
8. Section 9.9 of the Merger Agreement is hereby amended in its entirety
to read as follows:
"9.9. Waivers and Amendments.
(a) This Agreement may be amended, superseded, canceled, renewed or
extended, and the terms hereof may be waived, at any time, but only by
a written instrument signed by parties or, in the case of a waiver, by
the party waiving compliance. No delay on the part of any party in
exercising any right, power or privilege hereunder shall operate as a
waiver thereof, nor shall any waiver on the part of any party of any
such right, power or privilege, or any single or partial exercise of
any such right, power or privilege, preclude any further exercise
thereof or the exercise of any other such right, power or privilege.
(b) Subject to Article 8, this Agreement may be terminated by the
boards of directors of Midland and Merger Sub at any time prior to the
filing of a Certificate of Merger with the Secretary of State of
Delaware and Tennessee, notwithstanding approval of this Agreement by
the stockholders of Midland and Merger Sub.
(c) Subject to Article 8, this Agreement may be amended by the boards
of directors of Midland and Merger Sub at any time prior to the filing
of a Certificate of Merger with the Secretary of State of Delaware and
Tennessee, provided that an amendment made subsequent to the adoption
of this Agreement by the stockholders of Midland and Merger Sub shall
not (1) alter or change the amount or kind of shares, securities, cash,
property and/or rights to be received in exchange for or on conversion
of all or any of the shares of Company Common Stock, (2) alter or
change any terms of the certificate
A-52
<PAGE>
of incorporation of the Surviving Corporation to be effected by the
merger, or (3) alter or change any of the terms and conditions of this
Agreement if such alteration or change would adversely affect the
holders of Company Common Stock."
9. Section 5 of the Certificate of Designation is hereby amended by
adding the following provision:
"(f) The provisions of this Section 5 shall be null and void if the
Corporation's right to redeem the Series A Preferred Stock would cause
the Series A Preferred Stock to be treated, for purposes of the Merger,
as "other property," as such term is used in Section 356(a)(1) of the
Internal Revenue Code of 1986, as amended."
10. Section 7(e) of the Certificate of Designation is hereby amended in
its entirety to read as follows:
"(e) Upon termination of such special voting rights attributable to all
holders of the Series A Preferred Stock and any other series or
Preferred Stock ranking on a parity with the Series A Preferred Stock
as to dividends or the distribution of assets upon liquidation,
dissolution or winding up and upon which like voting rights have been
conferred and are exercisable, the term of office of each director
elected by the holders of shares of Series A Preferred Stock and such
parity Preferred Stock (a "Preferred Stock Director") pursuant to such
special voting rights shall immediately terminate and the number of
directors constituting the entire Board of Directors shall be reduced
by the number of Preferred Stock Directors. Any Preferred Stock
Director may be removed without cause by, and shall not be removed
without cause otherwise than by, the vote of the holders of record of a
majority of the outstanding shares of Series A Preferred Stock and all
other series of Preferred Stock ranking on a parity with the Series A
Preferred Stock with respect to dividends who were entitled to
participate in such Preferred Stock Director's election, voting as a
separate class, at a meeting called for such purposes. If the office of
any Preferred Stock Director becomes vacant by reason of death,
resignation, retirement, disqualification, removal from office, or
otherwise, the remaining Preferred Stock Director may choose a
successor who shall hold office for the unexpired term in respect of
which such vacancy occurred."
11. Section 9 of the Certificate of Designation is hereby amended in its
entirety to read as follows:
"Status of Acquired Shares. Shares of Series A Preferred Stock redeemed
by the Corporation, or otherwise acquired by the Corporation, will upon
the taking of any action required by law, be restored to the status of
authorized but unissued shares of the Corporation's preferred stock,
without designation as to class, and may thereafter be issued, but not
as shares of Series A Preferred Stock."
Except as specifically set forth in this letter, the Merger Agreement is
hereby affirmed and shall remain in full force and effect.
Very truly yours,
Danielson Holding Corporation
/s/ C. Kirk Rhein, Jr.
By: _________________________________
President and
Chief Executive Officer
ACCEPTED AND AGREED TO:
Midland Financial Group, Inc.
/s/ Joseph W. McLeary
By: _________________________________
Chairman and
Chief Executive Officer
Mission Sub E, Inc.
/s/ C. Kirk Rhein, Jr.
By: _________________________________
President and
Chief Executive Officer
A-53
<PAGE>
APPENDIX B
Stephens Inc.
July 5, 1996
The Board of Directors of
Danielson Holding Corporation
767 Third Avenue
New York, NY 10017-2023
Gentlemen:
We have acted as your financial advisor in connection with the acquisition
by Danielson Holding Corporation (the "Company") of Midland Financial Group,
Inc. ("Midland") (the "Transaction"). Midland will be merged with and into
Mission Sub E, Inc., a wholly-owned subsidiary of Danielson; and the
shareholders of Midland will receive a combination of cash, Danielson common
stock and Danielson Series A Cumulative Perpetual Preferred Stock, equal to
$14.50 per share of Midland common stock, determined in accordance with the
valuation provisions in the Agreement and Plan of Merger dated February 26,
1996 (as amended) (the "Agreement and Plan of Merger"). The terms and
conditions of the Transaction are more fully set forth in the Agreement and
Plan of Merger.
You have requested our opinion as to the fairness to the Company from a
financial point of view of the consideration to be paid by the Company in the
Transaction. In connection with rendering our opinion we have:
(i) analyzed certain publicly available financial statements and reports
regarding Midland and the Company, including the Joint Proxy
Statement/Prospectus, dated July 5, 1996, related to the Transaction;
(ii) analyzed certain internal financial statements and other financial
and operating data (including financial projections) concerning Midland and
the Company prepared by management of Midland and the Company respectively;
(iii) analyzed, on a pro forma basis, the effect of the Transaction on
the Company's balance sheet, capitalization ratios, earnings and book value
both in the aggregate and, where applicable, on a per share basis;
(iv) reviewed the reported prices and trading activity for the Midland
common stock and the Danielson common stock;
(v) compared the financial performance of Midland and the prices and
trading activity of the Midland common stock with that of certain other
comparable publicly-traded companies and their securities;
(vi) reviewed the financial terms, to the extent publicly available, of
certain comparable transactions;
(vii) reviewed the Agreement and Plan of Merger and related documents;
(viii) discussed with management of Midland and the Company the
operations of and future business prospects for Midland and the anticipated
financial consequences of the Transaction to the Company;
(ix) assisted in your deliberations regarding the material terms of the
Transaction; and
(x) performed such other analyses and provided such other services as we
have deemed appropriate.
We have relied on the accuracy and completeness of the information and
financial data provided to us by Midland and the Company, and our opinion is
based upon such information. We have inquired into the reliability of such
information and financial data only to the limited extent necessary to provide
a reasonable basis for our opinion, recognizing that we are rendering only an
informed opinion and not an appraisal or certification of value. With respect
to the financial projections prepared by management of Midland and those
prepared by management
B-1
INVESTMENT BANKERS
111 CENTER STREETPOST OFFICE BOX 3507 LITTLE ROCK, ARKANSAS 72203-3507
501-374-4361 FAX 501-377-2674
<PAGE>
of the Company, we have assumed that they have been reasonably prepared on
bases reflecting the best currently available estimates and judgments of the
future financial performance of Midland and the Company.
As part of our investment banking business, we regularly issue fairness
opinions and are continually engaged in the valuation of companies and their
securities in connection with business reorganizations, private placements,
negotiated underwritings, mergers and acquisitions and valuations for estate,
corporate and other purposes. We are familiar with Midland and the Company and
issue periodic research reports regarding the business activities and
prospects of Midland. In the ordinary course of business, Stephens Inc. and
its affiliates at any time may hold long or short positions, and may trade or
otherwise effect transactions as principal or for the accounts of customers,
in debt or equity securities or options on securities of Midland and the
Company. Stephens is receiving a fee, and reimbursement of its expenses, in
connection with the issuance of this fairness opinion. In connection with its
role as financial advisor to the Company, Stephens will receive a success fee
in the event the Transaction is successfully consummated, against which
Stephens will credit the fee received in connection with the issuance of this
fairness opinion.
Based on the foregoing and our general experience as investment bankers, and
subject to the qualifications stated herein, we are of the opinion on the date
hereof that the consideration to be paid by the Company in the Transaction is
fair to the Company from a financial point of view.
The Agreement and Plan of Merger provides that the Danielson common stock to
be issued to the shareholders of Midland will be valued based on its average
closing price (the "Average Closing Price") during the twenty-day period
preceding the date on which the proposed public offering of Danielson common
stock (the "Public Offering"), a substantial portion of the net proceeds of
which are intended to be used to consummate the Transaction, is priced,
subject to a minimum price of $4.50 per share and a maximum price of $10.50
per share. The Agreement and Plan of Merger also provides that if either the
price at which the Danielson common stock will be sold in the Public Offering
or the Average Closing Price is less than $4.50 per share or more than $10.50
per share, then the Joint Proxy Statement/Prospectus must be recirculated to
provide shareholders of Midland and Danielson a second opportunity to vote on
the Transaction and the other matters presented therein. If a recirculation of
the Joint Proxy Statement/Prospectus is required pursuant to these provisions,
Stephens reserves the right to review and reconsider its analysis and its
opinion as set forth above.
This opinion and a summary discussion of our underlying analyses and role as
your financial advisor may be included in communications to the Company's
shareholders provided that we approve of such disclosures prior to
publication.
Very truly yours,
/s/ Stephens Inc.
B-2
<PAGE>
APPENDIX C
The Robinson-Humphrey Company, Inc.
July 5, 1996
Board of Directors
Midland Financial Group, Inc.
825 Crossover Lane
Suite 112
Memphis, TN 38117
Gentlemen:
In connection with the proposed acquisition of Midland Financial Group, Inc.
("MDLD" or the "Company") by Danielson Holding Corporation ("DHC") (the
"Merger"), you have asked us to render our opinion as to whether the
consideration to be offered to the stockholders of MDLD in the Merger, as
provided in the Agreement and Plan of Merger dated February 26, 1996, as
amended, among such parties (the "Merger Agreement"), is fair, from a
financial point of view. We understand that, pursuant to the terms of the
Merger Agreement, holders of all outstanding shares of the Common Stock, no
par value, of MDLD (the "MDLD Common Stock") will receive consideration equal
to 1.6 times the GAAP book value per share of MDLD Common Stock at December
31, 1995, or approximately $14.50 per share, and that the consideration to be
paid to MDLD stockholders (the "Consideration") will be approximately
comprised of as follows: (i) 50% in cash; 40% in Series A Cumulative Perpetual
Preferred Stock, par value $.10 per share, of DHC (the "DHC Preferred Stock");
and (iii) 10% in Common Stock, par value $.10 per share, of DHC (the "DHC
Common Stock"). The actual combination of cash, DHC Preferred Stock and DHC
Common Stock to be received for each share of MDLD Common Stock will depend on
the election made with respect to each share and the aggregate elections made
with respect to all shares of MDLD Common Stock. The dividend rate on the DHC
Preferred Stock has been initially established pursuant to Section 3.9 of the
Merger Agreement as the dividend rate that is believed to be likely to cause
the DHC Preferred Stock to have a trading price equal to its stated value of
$25.00 per share, as of July 1, 1996, if such security were then trading on a
fully-distributed basis. The exchange rate for the DHC Common Stock to be
issued to the Company's stockholders will be the average of closing prices of
DHC Common Stock on the American Stock Exchange for each day on which trading
of DHC Common Stock took place on such exchange beginning on the date 20 days
prior to the date on which the public offering of DHC Common Stock is priced
and ending on the business day immediately preceding the pricing of the DHC
public offering, provided that in no event shall such price assigned to DHC
Common Stock be lower than $4.50 per share or more than $10.50 per share.
We have been requested by the Company to render our opinion (the "Opinion")
with respect to the fairness, from a financial point of view, to the Company's
stockholders of the Consideration to be received by such stockholders pursuant
to the terms of the Merger Agreement. We have not been requested to opine as
to, and our opinion does not in any manner address, the Company's underlying
business decision to proceed with, effect or consummate the Merger.
C-1
ATLANTA FINANCIAL CENTER
3333 PEACHTREE ROAD, NE . ATLANTA, GEORGIA 30326
(404) 266-6000
<PAGE>
In arriving at our Opinion, we reviewed and analyzed: (i) the Merger
Agreement; (ii) financial and operating information with respect to the
business, operations and prospects of the Company furnished to us by the
Company; (iii) a comparison of the historical financial results and present
financial condition of the Company with those of other companies which we
deemed relevant; (iv) an analysis of financial and stock market information of
selected publicly traded companies which we deemed to be comparable to the
Company; (v) a comparison of the financial terms of the Merger with the
financial terms of certain other recent transactions which
we deemed to be relevant; and (vi) certain information regarding DHC,
including, without limitation: (a) certain recent filings with the Securities
and Exchange Commission, (b) the recent trading history of DHC Common Stock,
(c) historical and projected financial information regarding DHC, and (d) the
dividend rate proposed to be paid on the DHC Preferred Stock, which rate was
initially established pursuant to Section 3.9 of the Merger Agreement as the
dividend rate that is believed to be likely to cause the DHC Preferred Stock
to have a trading price equal to its stated value of $25.00 per share, as of
July 1, 1996, if such security were then trading on a fully-distributed basis.
In addition, we held discussions with the management of the Company and DHC
concerning their respective businesses and operations, assets, present
conditions and future prospects, and undertook such other studies, analyses
and investigations as we deemed appropriate.
We have relied upon the accuracy and completeness of the financial and other
information used by us in arriving at our Opinion without independent
verification and have further relied upon the assurances of management of each
of the Company and DHC, respectively, that they are not aware of any facts
that would make such information inaccurate or misleading. In arriving at our
Opinion, we have not conducted a physical inspection of the properties or
facilities of the Company or DHC. We have not made or obtained any evaluations
or appraisals of the assets or liabilities of the Company or DHC. We have
relied as to all legal matters on advice of counsel to the Company. Our
Opinion is necessarily based upon market, economic and other conditions as
they exist and can be evaluated as of the date of this letter.
We have acted as financial advisor to the Company in connection with the
Merger and will receive a fee for our services, a portion of which will be
paid upon the delivery of this Opinion. In addition, the Company has agreed to
indemnify us for certain potential liabilities arising out of the rendering of
this Opinion.
Based upon and subject to the foregoing, we are of the Opinion as of the
date hereof that, from a financial point of view, the Consideration to be
received by the Company's stockholders in the Merger is fair to such
stockholders. Our Opinion is contingent upon, and it is our understanding that
the Merger itself is contingent upon, the successful consummation of a public
offering of common stock by DHC to be underwritten by Donaldson, Lufkin &
Jenrette Securities Corporation that results in a minumum of $55.6 million in
net proceeds to DHC.
This Opinion is for the use and benefit of the Board of Directors of the
Company and the Company's stockholders and shall not be disclosed publicly or
made available to, or relied upon by, any third party without our prior
approval, except that: (i) this Opinion may be filed with the Securities and
Exchange Commission as an exhibit to the registration statement on Form S-4
being filed by DHC in connection with the Merger; and (ii) this Opinion may be
described in, and a copy hereof may be annexed to, the proxy statement to be
circulated to the stockholders of the Company in connection with the Merger.
We are expressing no opinion herein as to the prices at which the DHC Common
Stock or DHC Preferred Stock will actually trade at any time subsequent to the
date hereof. This Opinion is not intended to be and does not constitute a
recommendation to any stockholder as to how such stockholder should vote with
respect to the Merger.
Very truly yours,
/s/ The Robinson-Humphrey Company, Inc.
The Robinson-Humphrey Company, Inc.
C-2
<PAGE>
APPENDIX D
Donaldson, Lufkin & Jenrette
Donaldson, Lufkin & Jenrette Securities Corporation .
140 Broadway, New York, NY 10005-1285 . (2120 504-3000
February 26, 1996
Board of Directors
Danielson Holding Corporation
767 Third Avenue
New York, NY 10017-2023
Dear Sirs:
We understand that Danielson Holding Company (the "Company") intends to
acquire all of the issued and outstanding common stock of Midland Financial
Group, Inc. (the "Acquired Business") (the "Acquisition"). You have advised us
that the total purchase price for the Acquisition (including the contribution
of $30 million to the capital of Midland's insurance subsidiary) will be
approximately $110.4 million and the Acquisition (and such refinancing) will
be financed with the issuance by the Company of $30.2 million in aggregate
principal amount of preferred stock issued directly to Midland's shareholders,
the issuance by the Company of $7.5 million in aggregate amount of Danielson's
common stock issued directly to Midland's shareholders with the balance ($72.7
million) being provided by the net proceeds of an equity offering of up to
44.4 million shares of Danielson's common stock (the "Common Stock").
You have asked Donaldson, Lufkin & Jenrette Securities Corporation ("DLJ")
to act as lead-managing underwriter in connection with the sale of the Common
Stock. Based on the information that you and Midland have provided to us, and
on our analysis of the current market for securities issued by entities
engaged in the insurance industry, we are pleased to inform you that we
believe that the Common Stock can be sold to finance a portion of the purchase
price of the Acquisition as described above, subject to the matters set forth
in the following paragraph.
Our ability to consummate the sale or placement of the Common Stock is
subject to: (i) the Common Stock and all other debt and equity financing for
the Acquisition (including any debt to be assumed) and all related
documentation being satisfactory in form and substance to DLJ; (ii) the
purchase price and other terms and conditions of the Acquisition being
substantially the same as set forth in the merger proposal of February 25,
1996; (iii) the execution and delivery of customary documentation with respect
to the Acquisition and all related transactions in form and substance
satisfactory to DLJ; (iv) the absence of any material adverse change in the
business, condition (financial or otherwise), result of operations, assets,
liabilities or prospects of the Company or the Acquired Business; (v) the
absence of any permanent negative change or implied permanent negative change
in A.M. Best ratings of the Company or the Acquired Business, post-
Acquisition; (vi) the receipt of all necessary governmental, regulatory and
third party approvals and consents in connection with the Acquisition; (vii)
the execution and delivery of customary documentation with respect to the
Common Stock and the offering and sale thereof (including, but not limited to,
the underwriting agreement, purchase agreement or placement agreement) that is
satisfactory in form and substance to DLJ; (viii) the satisfactory completion
of our due diligence investigation, a substantial portion of which has already
been completed; (ix) satisfactory market conditions for new issuances of
equity securities or in the securities markets in general; and, (x) our having
reasonable time to market the Common Stock with the assistance of management
of the Company and the Acquired Business, based on our experience in
comparable transactions sold in comparable markets.
This letter shall be treated as confidential and is being provided to the
Company solely in connection with the Company's proposed acquisition of the
Acquired Business and may not be used, circulated, quoted or
D-1
<PAGE>
otherwise referred to in any document, except with DLJ's prior written
consent. Notwithstanding the foregoing, this letter may be shown to the Board
of Directors of the Acquired Business provided that the Board of Directors of
the Acquired Business agrees to treat the letter as confidential. Please note
that this letter is not a commitment to purchase or place the Common Stock or
any other securities of the Company.
We look forward to working with you toward the successful completion of the
proposed financing.
Sincerely,
/s/ Donaldson, Lufkin & Jenrette
D-2
<PAGE>
APPENDIX E
CERTIFICATE OF DESIGNATION
PREFERENCES, RIGHTS AND LIMITATIONS
OF
SERIES A CUMULATIVE PERPETUAL PREFERRED STOCK
OF
DANIELSON HOLDING CORPORATION
----------------
Pursuant to Section 151 of the General Corporation Law
of the State of Delaware
----------------
, of Danielson Holding Corporation ( the "Corporation"), a
corporation organized and existing under the General Corporation Law of the
State of Delaware, does hereby certify that the following resolution was duly
adopted by the Board of Directors of the Corporation (the "Board of
Directors") by unanimous written consent thereto effective , 1996, and
that such resolution is in full force and effect upon the date of this
Certificate.
"RESOLVED, that pursuant to the authority expressly granted to and vested
in the Board of Directors by the provisions of the Certificate of
Incorporation of the Corporation (the "Certificate of Incorporation") there
hereby is created, from the shares of authorized but unissued shares of
Preferred Stock of the Corporation, par value $ per share, authorized in
Article of the Certificate of Incorporation (the "Preferred Stock"), a
series of Series A Cumulative Perpetual Preferred Stock of the Corporation
consisting of shares, which series shall have the following powers,
designation, preferences and relative, participating, optional and other
special rights, and the following qualifications, limitations and
restrictions (in addition to those set forth in the Certificate of
Incorporation):
1. Designation and Amount; No Fractional Shares. The designation of the
Series of Preferred Stock created by this resolution shall be Series A
Cumulative Preferred Stock, par value $ per share (the "Series A Preferred
Stock"), and the number of shares constituting such series shall be . The
Series A Preferred Stock shall be issuable solely in whole shares.
2. Stated Value. The stated value (the "Stated Value") of each such share of
Series A Preferred Stock is $ .
3. Dividends.
(a) the holders of Series A Preferred Stock shall be entitled to receive,
when, as and if declared by the Board of Directors, out of funds at the
time legally available therefor, cumulative cash dividends accruing at a
per share rate of % per annum, and no more, quarterly in arrears on the
15th day of March, June, September and December of each year, commencing
, 1996 (each, a "Dividend Payment Date") (except that if any such
date is a Saturday, Sunday or legal holiday, then such dividend shall be
payable on the next day that is not a Saturday, Sunday or legal holiday) to
holders of records as they appear upon the stock transfer books of the
Corporation on such record dates, not less than 10 nor more than 60 days
preceding the payment dates for such dividends, as are fixed by the Board
of Directors (each, a "Record Date"). For purposes hereof, the term "legal
holiday" shall mean any day on which banking institutions are authorized to
close in New York City. The Series A Preferred Stock will not participate
in dividends with the Common Stock, par value $.10 per share, of the
Corporation (the "Common Stock"). The date of initial issuance of shares of
Series A Preferred Stock is hereinafter referred to as the "Issue Date".
Dividends payable on the Series A Preferred Stock (i) for any period other
than a full dividend period, shall be computed on the basis of a 360-day
year consisting of twelve 30-day months and (ii) for each full dividend
period, shall be computed by dividing the annual dividend rate by four.
E-1
<PAGE>
(b) Dividends on the shares of Series A Preferred Stock shall be
cumulative from the Issue date whether or not there shall be funds legally
available for the payment thereof. Subject to the next succeeding sentence,
if there shall be outstanding shares of any other series of Preferred Stock
ranking junior to or on a parity with the Series A Preferred Stock as to
dividends, no dividends (other than dividends payable solely in additional
shares of such other series) shall be declared or paid or set apart for
payment on any such other series for any period unless full cumulative
dividends have been or contemporaneously are declared and paid or declared
and a sum sufficient for the payment thereof is set apart for such payment
on the Series A Preferred Stock for all dividend periods terminating on or
prior to the date of payment of such dividends. If dividends on the Series
A Preferred Stock and on any other series of Preferred Stock ranking on a
parity as to dividends with the Series A Preferred Stock are in arrears, in
making any dividend payment on account of such arrears, the Corporation
shall make payments ratably upon all outstanding shares of the Series A
Preferred Stock and shares of such other series of Preferred Stock in
proportion to the respective amounts of dividends in arrears on the Series
A Preferred Stock and on such other series of Preferred Stock to the date
of such dividend payment. Holders of shares of Series A Preferred Stock
shall not be entitled to any dividend, whether payable in cash, property or
stock, in excess of full cumulative dividends on such shares. No interest,
or sum of money in lieu of interest, shall be payable with respect to any
dividend payment or payments which may be in arrears.
(c) Unless full cumulative dividends on all outstanding shares of the
Series A Preferred Stock shall have been paid or declared and set aside for
payment for all past dividend periods, no dividend shall be declared, paid
or set apart for payment or any other distribution (whether in cash or
obligations of the Corporation or other properties, other than dividends
payable solely in additional shares of Common Stock or other junior stock)
upon the Common Stock or upon any other stock ranking junior to the Series
A Preferred Stock as to dividends or the distribution of assets upon
liquidation, dissolution or winding up, nor shall any Common Stock or any
other stock of the Corporation ranking junior to or on a parity with
Series A Preferred Stock as to dividends or the distribution of assets upon
liquidation, dissolution or winding up be redeemed, purchased or otherwise
acquired for any consideration (or any moneys be paid to or made available
for a sinking fund for the redemption of any shares of any such stock) by
the Corporation (except by conversion into or exchange for stock of the
Corporation ranking junior to the Series A Preferred Stock as to dividends
and the distribution of assets upon liquidation, dissolution or winding
up).
4. Liquidation Preference.
(a) In the event of any liquidation, dissolution or winding up of the
affairs of the Corporation, whether voluntary or involuntary, the holders
of Series A Preferred Stock shall be entitled to receive out of the assets
of the Corporation available for distribution to stockholders an amount
equal to the Stated Value per share plus an amount equal to any accrued and
unpaid dividends thereon (whether or not declared) to and including the
date of such distribution, and no more, before any payment or distribution
shall be made to the holders of Common Stock or any other class or series
of stock of the Corporation ranking junior to the Series A Preferred Stock
as to the distribution of assets upon liquidation, dissolution or winding
up. After payment of such liquidating distributions, the holders of shares
of Series A Preferred Stock will not be entitled to any further
participation in any distribution of assets by the Corporation.
(b) In the event the assets of the Corporation available for distribution
to stockholders upon any liquidation, dissolution or winding up of the
affairs of the Corporation, whether voluntary or involuntary, shall be
insufficient to pay in full the amounts payable with respect to the Series
A Preferred Stock pursuant to Section 4(a) and any other shares of
Preferred Stock ranking on a parity with the Series A Preferred Stock as to
the distribution of assets, the holders of Series A Preferred Stock and the
holders of such other Preferred Stock shall share ratably in any
distribution of assets of the Corporation in proportion to the full
respective preferential amounts to which they are entitled.
(c) The merger or consolidation of the Corporation into or with any other
corporation, the merger or consolidation of any other corporation into or
with the Corporation or the sale of the assets of the Corporation
substantially as an entirety shall not be deemed a liquidation, dissolution
or winding up of the affairs of the Corporation within the meaning of this
Section 4.
E-2
<PAGE>
5. Redemption.
(a) The Corporation, at its option, may redeem any or all shares of
Series A Preferred Stock, at any time or from time to time, on or after
, 2001 at a redemption price per share equal to the Stated Value
thereof, plus an amount equal to accrued and unpaid dividends thereon
(whether or not declared) to and including the date of redemption (the
"Redemption Price").
(b) If less than all the outstanding shares of Series A Preferred Stock
are to be redeemed, the shares to be redeemed shall be selected pro rata or
by lot.
(c) Notice of any redemption shall be given by first class mail, postage
prepaid, mailed not less than 30 nor more than 90 days prior to the date
fixed for redemption to the holders of record of the shares of Series A
Preferred Stock to be redeemed, at their respective addresses appearing on
the books of the Corporation. Such notice shall state: (i) the date fixed
for redemption; (ii) the Redemption Price; (iii) the number of shares of
Series A Preferred Stock to be redeemed and if less than all the shares
held by such holder are to be redeemed, the number of such shares to be so
redeemed from such holder; (iv) the place where certificates for such
shares are to be surrendered for payment of the Redemption Price; and (v)
that after such date fixed for redemption the shares to be redeemed shall
not accrue dividends. Such notice shall be deemed to have been duly given
to any holder of the Series A Preferred Stock within the meaning of the
foregoing provisions when the same shall have been mailed as aforesaid.
Accidental failure to mail any such notice to one or more of such holders
shall not affect the validity of such redemption as to the other holders.
Subject to Section 5(d) below, if such notice is mailed as aforesaid, and
if on or before the date fixed for redemption, funds sufficient to redeem
the shares called for redemption are set aside by the Corporation in trust
for the account of the holders of the shares to be redeemed,
notwithstanding the fact that any certificate for shares called for
redemption shall not have been surrendered for cancellation, on and after
the redemption date the shares represented thereby so called for redemption
shall be deemed to be no longer outstanding, dividends thereon shall cease
to accrue and all rights of the holders of such shares as stockholders of
the Corporation shall cease (except the right to receive the Redemption
Price, without interest, upon surrender of the certificate representing
such shares). Upon surrender in accordance with the aforesaid notice of the
certificate for any shares so redeemed (duly endorsed or accompanied by
appropriate instruments of transfer, if so required by the Corporation in
such notice), the holders of record of such shares shall be entitled to
receive the Redemption Price, without interest. Notwithstanding the
foregoing, however, as and to the extent that the Corporation is required
under the abandoned property laws of any jurisdiction to escheat any
redemption funds held in trust for the benefit of any holder, the
Corporation shall be absolved of any further obligation or liability to
such holder to the full extent provided by any such law. In case fewer than
all the shares represented by any such certificate are redeemed, a new
certificate shall be issued representing the unredeemed shares without cost
to the holder thereof.
(d) At the option of the Corporation, if notice of redemption is mailed
as aforesaid, and if prior to the date fixed for redemption, funds
sufficient to pay in full the Redemption Price are deposited in trust for
the account of the holders of the shares to be redeemed, with a bank or
trust company named in such notice doing business in the Borough of
Manhattan, City of New York, State of New York, and having capital and
surplus of at least $100 million (which bank or trust company also may be
the transfer agent and/or paying agent for the Series A Preferred Stock)
notwithstanding the fact that any certificate(s) for shares called for
redemption shall not have been surrendered for cancellation, on and after
such date of deposit the shares represented thereby so called for
redemption shall be deemed to be no longer outstanding, and all rights of
the holders of such shares as shareholders of the Corporation shall cease,
except the right of the holders thereof to receive out of the funds so
deposited in trust the Redemption Price, without interest, upon surrender
of the certificate(s) representing such shares. Unless otherwise required
by law, any funds so deposited with such bank or trust company which shall
remain unclaimed by the holders of shares called for redemption at the end
of two years after the redemption date shall be repaid to the Corporation,
on demand, and thereafter the holder of any such shares shall look only to
the Corporation for the payment, without interest, of the Redemption Price.
Notwithstanding the foregoing, however, as and to the extent that the
Corporation is required under the abandoned property laws of any
jurisdiction to escheat any redemption
E-3
<PAGE>
funds held in trust for the benefit of any holder, the Corporation shall be
absolved of any further obligation or liability to such holder to the full
extent provided by any such laws.
(e) Any provision of this section 5 to the contrary notwithstanding, in
the event that any quarterly dividend payable on the Series A Preferred
Stock shall be in arrears and until all such dividends in arrears shall
have been paid or declared and set apart for payment, the Corporation shall
not redeem any shares of Series A Preferred Stock unless all outstanding
shares of Series A Preferred Stock are simultaneously redeemed and shall
not purchase or otherwise acquire any shares of Series A Preferred Stock
except in accordance with a purchase or exchange offer made on the same
terms to all holders of record of Series A Preferred Stock for the purchase
of all outstanding shares thereof.
(f) The provisions of this Section 5 shall be null and void if the
Corporation's right to redeem the Series A Preferred Stock would cause the
Series A Preferred Stock to be treated, for purposes of the Merger, as
"other property," as such term is used in Section 356(a)(1) of the Internal
Revenue Code of 1986, as amended.
6. No Sinking Fund. The shares of Series A Preferred Stock shall not be
subject to the operation of any mandatory purchase, retirement or sinking
fund.
7. Voting Rights. Other than as required by applicable law, the Series A
Preferred Stock shall not have any voting powers either general or special,
except that:
(a) Unless the vote or consent of the holders of a greater number of
shares shall then be required by law, the affirmative vote or consent of
the holders of at least 66 2/3% of all of the shares of the Series A
Preferred Stock and any other series of Preferred Stock, at the time
outstanding, given in person or by proxy, either in writing or by a vote at
a meeting called for the purpose at which the holders of shares of the
Series A Preferred Stock and any such other series of Preferred Stock shall
vote together as a separate class, shall be necessary for authorizing,
effecting or validating the amendment, alteration or repeal of any of the
provisions of the Certificate of Incorporation, as amended or of any
amendment or supplement thereto (including any certificate of designation
or any similar document relating to any series of Preferred Stock) of the
Corporation or the by-laws of the Corporation, which would adversely affect
the preferences, rights, powers or privileges, qualifications, limitations
and restrictions of the Series A Preferred Stock and any such other series
of Preferred Stock. If the Series A Preferred Stock (but not all other
series of Preferred Stock outstanding) are affected by the above-described
actions in this Section 7(a), the Series A Preferred Stock shall, in
addition, be entitled to vote on such actions separately as a class, and
shall approve such actions by the affirmative vote or consent of the
holders of at least 66 2/3% of all of the shares of Series A Preferred
Stock.
(b) Unless the vote or consent of the holders of a greater number of
shares shall then be required by law, the affirmative vote or consent of
the holders of at least 66 2/3% of all of the shares of Series A Preferred
Stock and any other series of Preferred Stock of the Corporation ranking on
a parity with shares of the Series A Preferred Stock, either as to
dividends or the distribution of assets upon liquidation, dissolution or
winding up, at the time outstanding, given in person or by proxy, whether
in writing or by a vote at a meeting called for the purpose at which the
holders of shares of the Series A Preferred Stock and any such other series
of Preferred Stock shall vote together as a single class without regard to
series, shall be necessary to create, authorize or issue, or reclassify any
authorized stock of the Corporation into, or create, authorize or issue,
any obligation or security convertible into or evidencing a right to
purchase, any shares of any class of stock of the Corporation ranking prior
to the Series A Preferred Stock or ranking prior to any other series of
Preferred Stock which ranks on a parity with the Series A Preferred Stock
as to dividends or the distribution of assets upon liquidation, dissolution
or winding up. Notwithstanding the above, no vote of Series A Preferred
Stock is required for the creation of an issue of stock ranking prior to
the Series A Preferred Stock as to dividends or the distribution of assets
upon liquidation, dissolution or winding up if a notice of redemption has
been given for the Series A Preferred Stock as provided herein and the
proceeds of the sale of such new issue of stock are used to retire or
redeem any or all of the Series A Preferred Stock.
E-4
<PAGE>
(c) Unless the vote or consent of the holders of a greater number of
shares shall then be required by law, the affirmative vote or consent of
the holders of a majority of all of the shares of Series A Preferred Stock
and any other series of Preferred Stock of the Corporation ranking junior
to or on a parity with shares of the Series A Preferred Stock, either as to
dividends or the distribution of assets upon the liquidation, dissolution
or winding up, shall be required to increase the authorized amount of
Preferred Stock, or to create any series of Preferred Stock ranking on a
parity with the Series A Preferred Stock, either as to dividends or the
distribution of assets upon liquidation, dissolution or winding up.
(d) Whenever, at any time or times, dividends payable on the shares of
Series A Preferred Stock shall be in arrears in an amount equal to at least
six full quarterly dividends (whether or not such arrearage occurred in
consecutive periods) on shares of the Series A Preferred Stock at the time
outstanding, the holders of the outstanding shares of Series A Preferred
Stock shall have the exclusive right, voting separately as a class together
with holders of shares of any one or more other series of Preferred Stock
ranking on a parity with the Series A Preferred Stock either as to
dividends or the distribution of assets upon liquidation, dissolution or
winding up and upon which like voting rights have been conferred and are
exercisable, to elect two directors of the Corporation for one-year terms
at the Corporation's next annual meeting of stockholders and at each
subsequent annual meeting of stockholders. At elections for such directors,
each holder of Series A Preferred Stock shall be entitled to one vote for
each share held (the holders of shares of any other series of Series A
Preferred Stock ranking on such a parity being entitled to such number of
votes, if any, for each share of stock held as may be granted to them).
Upon the vesting of such rights of the holders of Series A Preferred Stock,
the maximum authorized number of members of the Board of Directors shall
automatically be increased by two and the two vacancies so created shall be
filled by vote of the holders of the outstanding shares of Series A
Preferred Stock (either alone or together with the holders of shares of any
one or more other series of Preferred Stock ranking on such a parity) as
set forth herein. The right of the holders of Series A Preferred Stock,
voting separately as a class to elect (either alone or together with the
holders of shares of any one or more other series of Preferred Stock
ranking on such a parity) members of the Board of Directors as aforesaid
shall continue until such time as all dividends accumulated on the Series A
Preferred Stock shall have been paid in full or declared and set apart for
payment, at which time such right shall immediately terminate, except as
herein or by law expressly provided, subject to revesting in the event of
each and every subsequent default of the character above mentioned.
(e) Upon termination of such special voting rights attributable to all
holders of the Series A Preferred Stock and any other series or Preferred
Stock ranking on a parity with the Series A Preferred Stock as to dividends
or the distribution of assets upon liquidation, dissolution or winding up
and upon which like voting rights have been conferred and are exercisable,
the term of office of each director elected by the holders of shares of
Series A Preferred Stock and such parity Preferred Stock (a "Preferred
Stock Director") pursuant to such special voting rights shall immediately
terminate and the number of directors constituting the entire Board of
Directors shall be reduced by the number of Preferred Stock Directors. Any
Preferred Stock Director may be removed without cause by, and shall not be
removed without cause otherwise than by, the vote of the holders of record
of a majority of the outstanding shares of Series A Preferred Stock and all
other series of Preferred Stock ranking on a parity with the Series A
Preferred Stock with respect to dividends who were entitled to participate
in such Preferred Stock Director's election, voting as a separate class, at
a meeting called for such purposes. If the office of any Preferred Stock
Director becomes vacant by reason of death, resignation, retirement,
disqualification, removal from office, or otherwise, the remaining
Preferred Stock Director may choose a successor who shall hold office for
the unexpired term in respect of which such vacancy occurred.
8. Ranking. Any class or classes of stock of the Corporation shall be deemed
to rank:
(a) prior to the Series A Preferred Stock, as to dividends or as to
distribution of assets upon liquidation, dissolution or winding up, if the
holders of such class shall be entitled to the receipt of dividends or of
amounts distributable upon liquidation, dissolution or winding up, as the
case may be, in preference or priority to the holders of Series A Preferred
Stock,
E-5
<PAGE>
(b) on a parity with the Series A Preferred Stock, as to dividends or as
to distribution of assets upon liquidation, dissolution or winding up,
whether or not the dividend rates, dividend payment dates or redemption or
liquidation prices per share thereof are different from those of the Series
A Preferred Stock, if the holders of such class of stock and the Series A
Preferred Stock shall be entitled to the receipt of dividends or of amounts
distributable upon liquidation, dissolution or winding up, as the case may
be, in proportion to their respective amounts of accrued and unpaid
dividends per share or liquidation prices, without preferences or priority
one over the other, and
(c) junior to the Series A Preferred Stock, as to dividends or as to the
distribution of assets upon liquidation, dissolution or winding up, if such
stock shall be Common Stock or if the holders of Series A Preferred Stock
shall be entitled to receipt of dividends or of amounts distributable upon
liquidation, dissolution or winding up, as the case may be, in preference
or priority to the holders of shares of such stock.
9. Status of Acquired Shares. Shares of Series A Preferred Stock redeemed by
the Corporation, or otherwise acquired by the Corporation, will upon the
taking of any action required by law, be restored to the status of authorized
but unissued shares of the Corporation's preferred stock, without designation
as to class, and may thereafter be issued, but not as shares of Series A
Preferred Stock.
10. Conversion and Preemptive Rights. The Series A Preferred Stock is not
entitled to any conversion, preemptive or subscription rights with respect to
any securities of the Corporation.
11. Severability of Provisions. Whenever possible, each provision hereof
shall be interpreted in a manner as to be effective and valid under applicable
law, but if any provision hereof is held to be prohibited by or invalid under
applicable law, such provision shall be ineffective only to the extent of such
prohibition or invalidity, without invalidating or otherwise adversely
affecting the remaining provisions hereof. If a court of competent
jurisdiction should determine that a provision hereof would be valid or
unenforceable if a period of time were extended or shortened or a particular
percentage were increased or decreased, then such court may make such change
as shall be necessary to render the provision in question effective and valid
under applicable law.
IN WITNESS WHEREOF, Danielson Holding Corporation has caused this
Certificate to be signed and attested by the undersigned, this of ,
1996.
Danielson Holding Corporation
By: _________________________________
Attest:
_____________________________________
E-6
<PAGE>
APPENDIX H
[LOGO OF Bankers Trust
BANKERS TRUST Bankers Trust New York Corporation
APPEARS HERE] and its affiliated Companies
BT Securities Corporation Mailing Address:
P.O. Box 318, Church Street Station
New York, New York 10008
July 1, 1996
Midland Financial Group, Inc.
825 Crossover Lane
Suite 112
Memphis, Tennessee 38117-4936
Danielson Holding Corporation
767 Third Avenue
New York, New York 10017-2023
Ladies and Gentlemen:
Midland Financial Group, Inc. (the "Company") and Danielson Holding
Corporation (the "Purchaser") have engaged BT Securities Corporation ("BT") to
render an opinion (the "Opinion") to the Company, the Purchaser and Mission Sub
E, Inc., a wholly-owned subsidiary of the Purchaser (the "Merger Sub" and,
collectively with the Company and the Purchaser, the "Merger Parties"), as to
the dividend rate applicable to the Series A Cumulative Preferred Stock, $.10
par value per share and having a stated value of $25.00 per share (the "Series
A Preferred Stock"), that BT believes, if the Transactions (as defined below)
were consummated and the Series A Preferred Stock were assumed to trade on a
fully distributed basis, in each case as of the date of such Opinion, would be
likely to cause the Series A Preferred Stock to have a trading price of $25.00
per share on such date.
The issuance of the Series A Preferred Stock is to be effected in connection
with the transactions contemplated by the Agreement and Plan of Merger dated as
of February 26, 1996, as amended (the "Merger Agreement"), between the Merger
Parties, which provides for, among other things, (a) the acquisition of the
Company by the Purchaser by means of the merger of the Company with and into
the Merger Sub (the "Merger") in a tax-free reorganization in consideration of
the payment to the stockholders of the Company of an amount equal in the
aggregate to approximately $81,066,832 (the "Merger Consideration"), which is
equal to 1.6 times the total stockholders' equity of the Company as of December
31, 1995, as adjusted pursuant to the Merger Agreement, which aggregate amount
shall be paid (i) approximately $40,533,416 in cash, (ii) approximately
$32,426,733 in Series A Preferred Stock of the Purchaser, which shares of
Series A Preferred Stock shall be listed for trading on the American Stock
Exchange, Inc. or The New York Stock Exchange, Inc. or approved for trading in
The National Association of Securities Dealers Automated Quotation System, and
(iii) approximately $8,106,683 in common stock, $.10 par value per share (the
"Common Stock"), of the Purchaser, (b) the contribution of $30,000,000 in
capital by the Purchaser to the Merger Sub (the "Capital Contribution Amount")
and (c) the issuance and sale by the Purchaser of shares of Common Stock in a
public offering to provide net proceeds to the Purchaser of not less than the
cash portion of the Merger Consideration and a portion APPENDIX H
H-1
<PAGE>
of the Capital Contribution Amount. The transactions contemplated by the
Merger Agreement are collectively referred to as the "Transactions".
For the purposes of this Opinion, (a) the term "trading price" with respect
to the Series A Preferred Stock shall mean a price within a range of prices at
which the Series A Preferred Stock would change hands in routine trading
transactions between willing buyers and willing sellers as of the date of this
Opinion, each having reasonable knowledge of the relevant facts, none being
under any compulsion to act, and with equity to both; and (b) the term "fully
distributed" shall mean, with respect to the Series A Preferred Stock, that
the shares of Series A Preferred Stock issued in the Transactions to
stockholders of the Company (other than "affiliates" of the Company, as such
term is defined in the rules and regulations promulgated under the Securities
Act of 1933, as amended) who do not desire to hold such shares as an
investment shall have been completely transferred to persons who shall have
purchased such shares with a view to investment. It is our understanding, upon
which we are relying, that you concur with our definitions of "trading price"
and "fully distributed," and that you are relying on your own respective
counsel, accountants and other similar expert advisors for legal, accounting,
tax and other similar expert advice in these matters and all other matters
addressed by this Opinion.
In connection with this Opinion, we have made such examination and
investigation as we have deemed necessary and appropriate to permit us to
express an informed opinion with respect to the matters referred to below.
Among other things, we have:
1. reviewed a draft of the Preliminary Joint Proxy Statement/Prospectus
(the "Preliminary Joint Proxy Statement/Prospectus") proposed to be
included in the Registration Statement on Form S-4 of the Purchaser
with respect to the Transactions (the "Registration Statement");
2. reviewed the Merger Agreement, including the form of Certificate of
Designation, Preferences, Rights and Limitations of Series A
Cumulative Perpetual Preferred Stock of the Purchaser attached
thereto as Exhibit 1A;
3. reviewed the consolidated financial statements of the Company and its
subsidiaries included in the Preliminary Joint Proxy
Statement/Prospectus;
4. reviewed the consolidated financial statements of the Purchaser and
its subsidiaries included in the Preliminary Joint Proxy
Statement/Prospectus;
5. reviewed the selected and historical pro forma unaudited condensed
consolidated financial information of the Company and its
subsidiaries, the Purchaser and its subsidiaries and the Purchaser
and its subsidiaries, including Merger Sub, after giving effect to
the consummation of the Transactions, respectively, included in the
Preliminary Joint Proxy Statement/Prospectus;
6. conferred with certain members of the senior management of the
Company with respect to the operations, financial condition, future
prospects and projected operations and performance of the Company and
its subsidiaries;
7. conferred with certain members of the senior management of the
Purchaser with respect to the operations, financial condition, future
prospects and projected operations and performance of the Purchaser
and its subsidiaries;
8. reviewed the letter of Donaldson, Lufkin & Jenrette Securities
Corporation ("DLJ") dated June 19, 1996 with respect to the dividend
rate of the Series A Preferred Stock, reviewed certain related
material prepared by DLJ with respect to the same and conferred with
representatives of DLJ with respect to the foregoing;
9. reviewed the letter of The Robinson-Humphrey Company, Inc.,
("Robinson-Humphrey") dated June 24, 1996 with respect to the
dividend rate of the Series A Preferred Stock, reviewed certain
related material prepared by Robinson-Humphrey with respect to the
same and conferred with representatives of Robinson-Humphrey with
respect to the foregoing;
10. reviewed the form of letter proposed to be delivered by Stephens Inc.
("Stephens") to the Purchaser, attached as Appendix B to the
Preliminary Joint Proxy Statement/Prospectus, with respect to the
fairness, from a financial point of view, of the terms of the Merger
to the Purchaser,
H-2
<PAGE>
reviewed certain related material prepared by Stephens with respect
to the same and conferred with representatives of Stephens with
respect to the foregoing;
11. reviewed the form of letter proposed to be delivered by Robinson-
Humphrey to the Company, attached as Appendix C to the Preliminary
Joint Proxy Statement/Prospectus, with respect to the fairness, from
a financial point of view, of the merger consideration to be issued
in the Merger to the stockholders of the Company, reviewed certain
related material prepared by Robinson-Humphrey with respect to the
same and conferred with representatives of Robinson-Humphrey with
respect to the foregoing;
12. reviewed forecasts and projections for the ten years ended December
31, 2005 (a) of the Company and its subsidiaries prepared by
management of the Company, (b) of the Purchaser and its subsidiaries
prepared by management of the Purchaser and (c) of the Purchaser and
its subsidiaries, including the Merger Sub, after giving effect to
the consummation of the Transactions and the proposed refinancing of
the outstanding bank indebtedness of the Company on terms reflected
in such forecasts and projections, prepared by the Purchaser; and
conferred with certain members of the senior managements of the
Company and the Purchaser, respectively, with respect to the
foregoing;
13. reviewed the historical market prices and trading activity for the
publicly traded securities of the Company and the Purchaser,
respectively, and reviewed other publicly available financial and
operating data for the Company and the Purchaser and their respective
subsidiaries;
14. reviewed publicly available data regarding the historical results of
operations, present financial condition and other information of
certain companies engaged primarily in the insurance business, none
of which companies is identical in all material respects to, and many
of which companies differ substantially in material respects from,
the Purchaser and its subsidiaries, including the Merger Sub, after
giving effect to the consummation of the Transactions; reviewed
publicly available data regarding the historical market prices,
interest and dividend rates and trading activity of debt securities
and preferred stock issued by such companies; and, to the extent we
deemed appropriate, compared such data to comparable data with
respect to the Purchaser and its subsidiaries, including the Merger
Sub, after giving effect to the consummation of the Transactions;
15. reviewed publicly available data regarding the historical market
prices, interest and dividend rates and trading activity of debt
securities and preferred stock issued by certain companies other than
the Merger Parties having terms and other features that we deem
relevant to our analysis (including the respective principal or
stated amounts thereof, the respective maturities or redemption dates
thereof, if any, and the existence, absence or level of securities
ratings by nationally recognized statistical ratings organizations,
coverage by securities analysts and historical trading activities),
none of which instruments is identical in all material respects to,
and many of which differ substantially in material respects from, the
Series A Preferred Stock with respect to such terms and features; and
16. conducted such other studies, analyses and investigations as we have
deemed appropriate.
We have relied upon and assumed, without independent verification, that the
forecasts and projections referred to in item 12 above have been reasonably
prepared on and reflect the best currently available estimates and judgements
of the persons preparing the same as to the future financial performance of
the Company and its subsidiaries and the Purchaser and its subsidiaries, in
each case before giving effect to the consummation of the Transactions, and
the Purchaser and its subsidiaries, including the Merger Sub, after giving
effect to the consummation of the Transactions, as the case may be, and we
express no view as to such forecasts and projections or the assumptions on
which they are based. We have also assumed that there has been no material
change in the assets, financial condition, business or prospects of the
Company and its subsidiaries or the Purchaser and its subsidiaries,
respectively, since the date of the most recent financial statements made
available to us. We have also assumed that the definitive, final versions of
documents we have reviewed as forms or in draft form will not contain any
material information that differs materially from the information contained in
such forms or drafts.
H-3
<PAGE>
For the purposes of this Opinion, we have also relied upon and assumed that,
as of the date of this Opinion: the Transactions have been consummated in
accordance with the terms of the Merger Agreement and the description of the
Transactions in the Preliminary Joint Proxy Statement/Prospectus; the Series A
Preferred Stock is listed for trading on the American Stock Exchange, Inc. or
The New York Stock Exchange, Inc. or has been approved for trading on The
National Association of Securities Dealers Automated Quotation System; the
Series A Preferred Stock has not been assigned a securities rating by a
nationally recognized statistical ratings organization; the rating of the
Company and its subsidiaries by A.M. Best Company is not less than "B+" (Very
Good); the shares of Series A Preferred Stock issued to stockholders of the
Company (other than "affiliates" thereof, as defined in the rules and
regulations promulgated under the Securities Act of 1933, as amended) in the
Transactions are freely transferable; the merger contemplated by the Merger
Agreement qualifies as a tax-free reorganization described in Sections
368(a)(1)(A) and 368(a)(2)(D) of the Internal Revenue Code of 1986, as amended
(the "Code"); the Purchaser has a federal consolidated net operating loss
carryforward of approximately $1.4 billion, which the Purchaser's consolidated
group after the consummation of the Transactions will be able to utilize to
offset future income of the Purchaser and its subsidiaries without limitation
under Section 382 of the Code or otherwise (except for a limitation with
respect to certain "recognized built-in gains" of the Company) through the
expiration dates thereof as set forth in the Preliminary Joint Proxy
Statement/Prospectus; the negative unassigned surplus of a subsidiary of the
Company is reset to zero; the respective provisions of the Company and its
subsidiaries and the Purchaser and its subsidiaries for unpaid losses and loss
adjustment expenses as of March 31, 1996, as disclosed in the consolidated
financial statements of the Company and its subsidiaries and the Purchaser and
its subsidiaries, respectively, included in the Preliminary Joint Proxy
Statement/Prospectus, are adequate; the issuance and sale by the Purchaser of
shares of Common Stock in a public offering has been completed and has
provided to the Purchaser net proceeds of not less than the sum of (i) the
cash portion of the Merger Consideration, (ii) the Capital Contribution Amount
and (iii) $7 million; and outstanding bank indebtedness of the Company has
been refinanced in a principal amount not greater than $27 million on terms
consistent with those reflected in the forecasts and projections of the
Purchaser and its subsidiaries, including the Merger Sub, after giving effect
to the consummation of the Transactions and such refinancing, referred to
above.
We have not independently verified, or otherwise assumed responsibility for,
the accuracy or completeness of the information supplied to us or publicly
available with respect to any of the Merger Parties and their respective
subsidiaries and do not assume any responsibility with respect to it. We have
assumed that any such information provided by the Merger Parties or their
respective representatives, including, without limitation, any information
included in the Preliminary Joint Proxy Statement/Prospectus, any prospectus
or similar document, does not contain any untrue statement of a material fact
or omit to state a material fact necessary in order to make the statements
therein not misleading in light of the circumstances under which such
statements are made. We have not made or obtained any independent evaluation
or appraisal of the assets, liability (contingent or otherwise) or reserves of
any of the Merger Parties and their respective subsidiaries, nor have we made
any physical inspection of the properties or assets of any of the Merger
Parties and their respective subsidiaries.
The Opinion expressed below is necessarily based on business, economic,
market and other conditions as they exist and can be evaluated by us at the
date of this Opinion, and we express no Opinion as of any other date. Although
subsequent developments may affect the Opinion, we have no obligation to
update or revise the Opinion unless requested by the Company and the Purchaser
to do so pursuant to the terms of their engagement of BT.
Based upon the foregoing, and in reliance thereon, it is our opinion as of
the date of this letter that, if the Transactions were consummated and the
Series A Preferred Stock were assumed to trade on a fully distributed basis,
in each case as of the date of this Opinion, the dividend rate applicable to
the Series A Preferred Stock that would be likely to cause the Series A
Preferred Stock to have a trading price of $25.00 per share on such date is
10.00% per annum.
No opinion is expressed herein as to the fairness of the Transactions, from
a financial point of view or otherwise, to any Merger Party, any of its
stockholders or any other person, as to the value or fairness of any
H-4
<PAGE>
consideration to be received by any Merger Party, any of its stockholders or
other person in connection with the Transactions, as to the price at which
shares of Series A Preferred Stock will actually trade upon the issuance
thereof or at any time thereafter or as to the price at which any holder of
shares of Series A Preferred Stock will at any time be able to sell or
otherwise dispose of such shares or any interest therein. There can be no
assurance that the Series A Preferred Stock will trade at or near its stated
value per share or on a fully distributed basis at any time.
By your acceptance hereof, you agree that this Opinion is furnished subject
to the conditions, scope of engagement, limitations and understandings set
forth herein. This Opinion shall be used only by the Merger Parties and only
for purposes of determining the compliance of the Merger Parties with Section
3.9 of the Merger Agreement. No representation is made herein as to the
sufficiency of this Opinion for this or any other purpose. This Opinion shall
not be used, reproduced, disseminated, quoted or referred to at any time, in
any manner or for any other purpose (including in any public filing), nor
shall any public references be made to us (nor our role herein), except with
our prior written consent, except that (i) this Opinion may be filed with the
Securities and Exchange Commission as an exhibit to the Registration Statement
and (ii) this Opinion may be described in, and a copy hereof may be annexed to
the Joint Proxy Statement/Prospectus included in the Registration Statement.
Without limiting the generality of the foregoing, no person is authorized to
rely, and no person is justified in relying, on this Opinion in determining
how to vote with respect to any matter related to the Transactions, in
determining the type of consideration, or the amount thereof, to be received
in the Transactions or in determining whether or when to purchase, sell or
hold any shares of Series A Preferred Stock or other securities.
Very truly yours,
BT Securities Corporation
/s/ W. Dana LaForge
By: _________________________________
W. Dana LaForge
Managing Director
H-5
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Danielson's Bylaws provide that Danielson shall indemnify and hold harmless,
to the fullest extent which it is empowered to do unless prohibited from doing
so by the Delaware General Corporation Law, as it exists or may hereafter be
amended (but, in the case of any such amendment, only to the extent that such
amendment permits the corporation to provide broader indemnification rights
than said law permitted the corporation to provide prior to such amendment),
any person who was or is a party or is threatened to be made a party to or is
otherwise involved in any action, suit, or proceeding, whether civil,
criminal, administrative or investigative, by reason of the fact that he or
she was a director or officer of Danielson, or while a director or officer of
Danielson, is or was serving at the request of Danielson as a director,
officer, employee or agent of another corporation, partnership, joint venture,
trust, or other enterprise, including service with respect to an employee
benefit plan, against all expense, liability and loss (including attorneys'
fees, judgements, fines, ERISA exercise taxes or penalties and amounts paid-in
settlement) reasonably incurred or suffered by such person in connection
therewith and that such indemnification shall continue as to any such person
who has ceased to be a director or officer, and shall inure to the benefit of
such person's heirs, executors and administrators; provided, however, that
except with respect to proceedings to enforce indemnification rights,
Danielson shall indemnify any such person in connection with a proceeding (or
part thereof) initiated by such person only if such proceeding (or part
thereof) was authorized by Danielson's board of directors.
Section 145 of the Delaware General Corporation Law provides that a
corporation may indemnify any person who was or is a party or is threatened to
be made a party to any threatened, pending or completed action, suit or
proceeding, whether civil, criminal, administrative or investigative (other
than an action by or in the right of the corporation) by reason of the fact
that he is or was a director, officer, employee or agent of the corporation,
or is or was serving at the request of the corporation as a director, officer,
employee or agent of another corporation, partnership, joint venture, trust or
other enterprise, against expenses (including attorneys' fees), judgments,
fines and amounts paid in settlement actually and reasonably incurred by him
in connection with such action, suit or proceeding if he acted in good faith
and in a manner he reasonably believed to be in or not opposed to the best
interest of the corporation, and, with respect to any criminal action or
proceeding, had no reasonable cause to believe his conduct was unlawful; and
further that a corporation may indemnify such person against expenses
(including attorneys' fees) actually and reasonably incurred by him in
connection with the defense or settlement of such action or suit if he acted
in good faith and in a manner he reasonably believed to be in or not opposed
to the best interests of the corporation, except that no indemnification shall
be made in respect of any claim, issue or matter as to which such person shall
have been adjudged to be liable to the corporation unless and only to the
extent that the Court of Chancery or the court in which such action or suit
was brought shall determine upon application that, despite the adjudication of
liability but in view of all the circumstances of the case, such person is
fairly and reasonably entitled to indemnity for such expenses which the Court
of Chancery or such other court shall deem proper. To the extent that a
director, officer, employee or agent of a corporation has been successful on
the merits or otherwise in defense of any such action, suit or proceeding, or
in defense of any claim, issue or matter therein, he shall be indemnified
against expenses (including attorneys' fees) actually and reasonably incurred
by him in connection therewith.
The Bylaws further provide that Danielson shall indemnify any such person
seeking indemnification in connection with a proceeding initiated by such
person only if such proceeding was authorized by the board of directors of
Danielson, except that it shall be a defense to any such action (other than an
action brought to enforce a claim for expenses incurred in defending any
proceeding in advance of its final disposition where the required undertaking,
if any, has been tendered to Danielson) that the claimant has not met the
standards of conduct (as set forth above) which make it permissible under the
Delaware General Corporation Law for Danielson to indemnify the claimant for
the amount claimed, but the burden of such defense shall be on Danielson.
II-1
<PAGE>
The Bylaws further provide that the right to indemnification shall be a
contract right and shall include the right to be paid by Danielson for the
expenses incurred in defending any such proceeding in advance of its final
disposition unless otherwise determined by the board of directors of Danielson
in the specific case upon receipt of an undertaking by or on behalf of the
director or officer to repay such amount if it shall ultimately be determined
that he or she is not entitled to be indemnified by Danielson; and that such
expenses incurred by other employees and agents may be so paid upon such terms
and conditions, if any, as the board of directors of Danielson deems
appropriate. The rights conferred in the Bylaws to indemnification and the
payment of expenses incurred in defending a proceeding in advance of its final
disposition are not exclusive of any other right which any person may have or
hereafter acquire under any statute, provision of the certificate of
incorporation, by-law, agreement, vote of stockholders or disinterested
directors or otherwise.
Section 102 of the Delaware General Corporation Law allows a corporation to
eliminate or limit the personal liability of a director of a corporation to
the corporation or to any of its stockholders for monetary damage for a breach
of fiduciary duty as a director, except in the case where the director (i)
breaches his duty of loyalty to the corporation or its stockholders, (ii)
fails to act in good faith, engages in intentional misconduct or knowingly
violates a law, (iii) authorizes the payment of a dividend or approves a stock
purchase or redemption in violation of Section 174 of the Delaware General
Corporation Law or (iv) obtains an improper personal benefit. Article Tenth of
Danielson's Certificate of Incorporation includes a provision which eliminates
directors' personal liability to the fullest extent permitted under the
Delaware General Corporation Law.
Danielson maintains insurance covering its directors and officers against
certain liabilities incurred by them in their capacities as such including
among other things, certain liabilities under the Securities Act of 1933, as
amended.
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(A) EXHIBITS
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBITS/1/ PAGE NUMBER
------------ -----------
<S> <C>
Plan of Acquisition:
2.1* Agreement and Plan of Merger dated as of February
26, 1996 among Midland Financial Group, Inc.,
Danielson Holding Corporation and Mission Sub E,
Inc. (included as Appendix A to this Joint Proxy
Statement/Prospectus).
2.2 Letter Agreement dated April 18, 1996 amending the
Agreement and Plan of Merger (included as Appendix
A-1 to the Joint Proxy Statement/Prospectus).
2.3 Letter Agreement dated July , 1996 amending the
Agreement and Plan of Merger (included as Appendix
A-2 to the Joint Proxy Statement/Prospectus).
3.1* Certificate of Incorporation of Danielson Holding
Corporation (included as Exhibit B to Proxy
Statement, dated April 1, 1992).
Organizational Documents:
3.2* Bylaws of Danielson Holding Corporation (included
as Exhibit C to Proxy Statement, dated April 1,
1992).
3.3 Form of Certificate of Amendment of Certificate of
Incorporation of Danielson Holding Corporation.
3.4 Form of Certificate of Designation, Preferences,
Rights and Limitations of Series A Cumulative
Perpetual Preferred Stock of Danielson Holding
Corporation (included as Appendix E to the Joint
Proxy Statement/Prospectus).
Instruments Defining Rights of Security-Holders:
4.1* Certificate of Incorporation of Danielson Holding
Corporation (included as Exhibit B to Proxy
Statement, dated April 1, 1992).
4.2 Form of Certificate of Designation, Preferences,
Rights and Limitations of Series A Cumulative
Perpetual Preferred Stock of Danielson Holding
Corporation (included as Appendix E to the Joint
Proxy Statement/Prospectus).
</TABLE>
II-2
<PAGE>
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBITS/1/ PAGE NUMBER
------------ -----------
<S> <C>
Opinion re Legality:
5.1 Opinion of Anderson Kill Olick & Oshinsky, P.C. as
to the legality of the securities being registered.
Opinion re Liquidation Preference:
7.1 Opinion of Anderson Kill Olick & Oshinsky, P.C.
regarding the liquidation preference of Danielson
Series A Preferred Stock.
Opinion re Tax Matters:
8.1 Opinion of Anderson Kill Olick & Oshinsky, P.C.
regarding certain tax matters relating to the
Merger.
Material Contracts--Executive Compensation Plans
and Arrangements:
10.11* 1990 Stock Option Plan (filed with Report on Form
8-K dated September 4, 1990, Exhibit 10.8).
10.12* 1995 Stock and Incentive Plan (included as Exhibit
A to Proxy Statement filed on March 30, 1995).
Statements re Computation of Per Stock Earnings:
11.1 Computation of Earnings per share for the quarters
ended March 31, 1995 and 1996--Danielson Holding
Corporation.
11.2 Computation of Earnings per share for the year
ended December 31, 1995--Danielson Holding
Corporation.
11.3 Computation of Earnings per share for the quarters
ended March 31, 1995 and 1996--Midland Financial
Group, Inc.
11.4 Computation of Earnings per share for the year
ended December 31, 1995--Midland Financial Group,
Inc.
Subsidiaries of the Registrant:
21.1 Subsidiaries of Danielson Holding Corporation.
Consents of Experts and Counsel:
23.1 Consent of Anderson Kill Olick & Oshinsky, P.C.
(included in Exhibit 5.1 to this Registration
Statement).
23.2 Consent of Anderson Kill Olick & Oshinsky, P.C.
(included in Exhibit 7.1 to this Registration
Statement).
23.3 Consent of Anderson Kill Olick & Oshinsky, P.C.
(included in Exhibit 8.1 to this Registration
Statement).
23.4 Consent of KPMG Peat Marwick LLP.
23.5 Consent of KPMG Peat Marwick LLP.
Power of Attorney:
24.1 Powers of Attorney executed by certain directors of
Danielson Holding Corporation (included in
signature page of this Registration Statement).
</TABLE>
II-3
<PAGE>
<TABLE>
<CAPTION>
SEQUENTIAL
EXHIBITS/1/ PAGE NUMBER
------------ -----------
<S> <C>
Additional Exhibits:
99.1* Press release dated February 27, 1996 (filed with
Report on Form 8-K dated March 1, 1996, Exhibit
99.1).
99.2 Press release dated April 19, 1996.
99.3 Press release dated April 25, 1996.
</TABLE>
- --------
/1/Exhibit numbers are referenced to Item 601 of Regulation S-K under the
Securities Exchange Act of 1934.
* Asterisk indicates an exhibit previously filed with the Securities and
Exchange Commission and incorporated herein by reference.
(B) FINANCIAL STATEMENT SCHEDULES
DANIELSON HOLDING CORPORATION
Schedule I--Summary of Investments--Other than Investments in Related
Parties
Schedule II--Condensed Financial Information of Danielson
Schedule IV--Reinsurance
Schedule V--Valuation and Qualifying Accounts Schedule
III and VI--Supplementary Insurance Information and Supplemental
Information Concerning Property-Casualty Insurance
Operations
MIDLAND FINANCIAL GROUP, INC.
Schedule I--Summary of Investments--Other than Investments in Related
Parties
Schedule II--Condensed Financial Information of Midland
Schedule IV--Reinsurance
ITEM 22. UNDERTAKINGS
The undersigned registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement:
(a) To include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
(b) To reflect in the prospectus any facts or events arising after the
effective date of the registration statement (or the most recent post-
effective amendment thereof) which, individually or in the aggregate,
represent a fundamental change in the information set forth in the
registration statement; and
(c) To include any material information with respect to the plan of
distribution not previously disclosed in the registration statement or any
material change to such information in the registration statement.
(2) That, for the purpose of determining any liability under the Securities
Act of 1933, each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial
bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment any
of the securities being registered which remain unsold at the termination of
the offering.
The undersigned registrant hereby undertakes that, for purposes of
determining any liability under the Securities Act of 1933, each filing of the
registrant's annual report pursuant to Section 13(a) or Section 15(d) of the
Securities Exchange Act of 1934 (and, where applicable, each filing of an
employee benefit plan's annual
II-4
<PAGE>
report pursuant to Section 15(d) of the Securities Exchange Act of 1934) that
is incorporated by reference in the registration statement shall be deemed to
be a new registration statement relating to the securities offered therein,
and the offering of such securities at that time shall be deemed to be the
initial bona fide offering thereof.
The undersigned registrant hereby undertakes as follows: that prior to any
public reoffering of the securities registered hereunder through use of a
prospectus which is a part of this registration statement, by any person or
party who is deemed to be an underwriter within the meaning of Rule 145(c),
the issuer undertakes that such reoffering prospectus will contain the
information called for by the applicable registration form with respect to
reofferings by persons who may be deemed underwriters, in addition to the
information called for by the other items of the applicable form.
The undersigned registrant undertakes that every prospectus: (i) that is
filed pursuant to the immediately preceding paragraph, or (ii) that purports
to meet the requirements of Section 10(a)(3) of the Securities Act of 1933,
and is used in connection with an offering of securities subject to Rule 415,
except to the extent permitted to be filed as a prospectus supplement, will be
filed as a part of an amendment to the registration statement and will not be
used until such amendment is effective, and that, for purposes of determining
any liability under the Securities Act of 1933, each such post-effective
amendment shall be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Securities
Act of 1933 and is therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment by the
registrant of expenses incurred or paid by a director, officer or controlling
person of the registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the registrant will, unless
in the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the
Securities Act of 1933 and will be governed by the final adjudication of such
issue.
The undersigned registrant hereby undertakes to respond to requests for
information that is incorporated by reference into the prospectus pursuant to
Items 4, 10(b), 11 or 13 of this form, within one business day of receipt of
such request, and to send the incorporated documents by first class mail or
other equally prompt means. This includes information contained in documents
filed subsequent to the effective date of the registration statement through
the date of responding to the request.
The undersigned registrant hereby undertakes to supply by means of a post-
effective amendment all information concerning a transaction, and the company
being acquired involved therein, that was not the subject of and included in
the registration statement when it became effective.
II-5
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THE REGISTRANT
HAS DULY CAUSED THIS REGISTRATION STATEMENT TO BE SIGNED ON ITS BEHALF BY THE
UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN THE CITY OF NEW YORK, STATE OF NEW
YORK, ON , 1996.
Danielson Holding Corporation
/s/ C. Kirk Rhein, Jr.
By: _________________________________
C. KIRK RHEIN, JR. PRESIDENT AND
CHIEF EXECUTIVE OFFICER
THE REGISTRANT AND EACH PERSON WHOSE SIGNATURE APPEARS BELOW CONSTITUTES AND
APPOINTS C. KIRK RHEIN, JR. AND LISA D. LEVEY, AND ANY AGENT FOR SERVICE NAMED
IN THIS REGISTRATION STATEMENT AND EACH OF THEM, HIS, HER OR ITS TRUE AND
LAWFUL ATTORNEYS-IN-FACT AND AGENTS, WITH FULL POWER OF SUBSTITUTION AND
RESUBSTITUTION, FOR HIM, HER OR IT AND IN HIS, HER, OR ITS NAME, PLACE AND
STEAD, IN ANY AND ALL CAPACITIES, TO SIGN AND FILE (I) ANY AND ALL AMENDMENTS
(INCLUDING POST-EFFECTIVE AMENDMENTS) TO THIS REGISTRATION STATEMENT, WITH ALL
EXHIBITS THERETO, AND OTHER DOCUMENTS IN CONNECTION THEREWITH, AND (II) A
REGISTRATION STATEMENT, AND ANY AND ALL AMENDMENTS THERETO, RELATING TO THE
OFFERING COVERED HEREBY FILED PURSUANT TO RULE 462(B) UNDER THE SECURITIES ACT
OF 1933, WITH THE SECURITIES AND EXCHANGE COMMISSION, GRANTING UNTO SAID
ATTORNEYS-IN-FACT AND AGENTS, AND EACH OF THEM, FULL POWER AND AUTHORITY TO DO
AND PERFORM EACH AND EVERY ACT AND THING REQUISITE OR NECESSARY TO BE DONE IN
AND ABOUT THE PREMISES, AS FULLY TO ALL INTENTS AND PURPOSES AS HE, SHE, OR IT
MIGHT OR COULD DO IN PERSON, HEREBY RATIFYING AND CONFIRMING ALL THAT SAID
ATTORNEYS-IN-FACT AND AGENTS OR ANY OF THEM, OR THEIR OR HIS SUBSTITUTE OR
SUBSTITUTES, MAY LAWFULLY DO OR CAUSE TO BE DONE BY VIRTUE HEREOF.
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT, THIS REGISTRATION
STATEMENT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE CAPACITIES AND ON
THE DATES INDICATED.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ C. Kirk Rhein, Jr. President, Chief July 5, 1996
- ------------------------------------- Executive Officer
C. KIRK RHEIN, JR. and Director
(principal
executive officer)
/s/ James P. Heffernan Chief Financial July 5, 1996
- ------------------------------------- Officer and
JAMES P. HEFFERNAN Director (principal
financial officer)
/s/ Claudia C. Cosenza Controller July 5, 1996
- ------------------------------------- (principal
CLAUDIA C. COSENZA accounting officer)
</TABLE>
II-6
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ Martin J. Whitman Chairman of the July 5, 1996
- ------------------------------------- Board, Chief
MARTIN J. WHITMAN Investment Officer
and Director
/s/ Joseph F. Porrino Director July 5, 1996
- -------------------------------------
JOSEPH F. PORRINO
Director , 1996
- -------------------------------------
FRANK B. RYAN
Director , 1996
- -------------------------------------
EUGENE M. ISENBERG
/s/ William R. Story Director July 5, 1996
- -------------------------------------
WILLIAM R. STORY
Director , 1996
- -------------------------------------
WALLACE O. SELLERS
</TABLE>
II-7
<PAGE>
SCHEDULE I
DANIELSON HOLDING CORPORATION AND SUBSIDIARIES
SUMMARY OF INVESTMENTS--OTHER THAN INVESTMENTS IN RELATED PARTIES
(IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31, 1995
-------------------------------------------
COST OR FAIR AMOUNT REFLECTED ON
AMORTIZED COST VALUE BALANCE SHEET
-------------- -------- -------------------
<S> <C> <C> <C>
Fixed maturities classified as
available-for-sale:
U.S. Government/Agency.......... $ 54,865 $ 56,715 $ 56,715
Mortgage-backed................. 62,342 63,606 63,606
Corporate....................... 50,566 52,274 52,274
-------- -------- --------
TOTAL FIXED MATURITIES........ 167,773 172,595 172,595
-------- -------- --------
Equity securities:
Common stocks................... 256 629 629
-------- -------- --------
TOTAL EQUITY SECURITIES....... 256 629 629
-------- -------- --------
Short term investments............ 8,570 8,570 8,570
-------- -------- --------
TOTAL INVESTMENTS............. $176,599 $181,794 $181,794
======== ======== ========
</TABLE>
S-2
<PAGE>
SCHEDULE II
DANIELSON HOLDING CORPORATION
CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
(PARENT COMPANY ONLY)
STATEMENTS OF OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
-------------------------
1993 1994 1995
------- ------- -------
<S> <C> <C> <C>
REVENUES:
Net investment income............................. $ 597 $ 435 $ 675
Net realized investment losses.................... -- -- (2)
Other income...................................... -- 12 26
------- ------- -------
TOTAL REVENUES.................................. 597 447 699
------- ------- -------
EXPENSES:
Employee compensation and benefits................ 1,182 1,118 1,442
Professional fees................................. 429 751 221
Other general and administrative fees............. 625 697 657
------- ------- -------
TOTAL EXPENSES.................................. 2,236 2,566 2,320
------- ------- -------
Income (loss) before provision for income taxes..... (1,639) (2,119) (1,621)
Income tax provision................................ 54 40 36
------- ------- -------
Loss before equity in net income of subsidiaries.... (1,693) (2,159) (1,657)
Equity in net income of subsidiaries................ 4,927 5,304 3,973
------- ------- -------
INCOME BEFORE EXTRAORDINARY ITEM.................... 3,234 3,145 2,316
Extraordinary item................................ -- 750 --
------- ------- -------
NET INCOME.......................................... $ 3,234 $ 3,895 $ 2,316
======= ======= =======
</TABLE>
S-3
<PAGE>
SCHEDULE II, CONTINUED
DANIELSON HOLDING CORPORATION
CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
(PARENT COMPANY ONLY)
BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE INFORMATION)
<TABLE>
<CAPTION>
DECEMBER 31,
----------------
1994 1995
------- -------
<S> <C> <C>
ASSETS:
Cash........................ $ 51 $ 18
Fixed maturities:
Available-for-sale at fair
value (Cost: $12,794 and
$10,487)................. 12,736 10,530
Short term investments, at
cost which approximates
fair value................. 165 466
------- -------
TOTAL CASH AND
INVESTMENTS............ 12,952 11,014
Investment in subsidiaries.. 48,944 58,289
Accrued investment income... 176 175
Other assets................ 576 626
------- -------
TOTAL ASSETS............ $62,648 $70,104
======= =======
LIABILITIES AND
STOCKHOLDERS' EQUITY:
Other liabilities........... $ 330 $ 283
------- -------
Total liabilities....... 330 283
------- -------
Preferred Stock ($0.10 par
value; authorized
10,000,000 shares; none
issued and outstanding).... -- --
Common Stock ($0.10 par
value; authorized
20,000,000 shares; issued
15,370,894 shares and
15,370,894 shares;
outstanding 15,360,270
shares and 15,360,255
shares).................... 1,537 1,537
Additional paid-in capital.. 46,417 46,131
Net unrealized gain (loss)
on available-for-sale
securities................. (278) 5,195
Retained earnings........... 14,708 17,024
Treasury stock (Cost of
10,624 shares and 10,639
shares)....................... (66) (66)
------- -------
TOTAL STOCKHOLDERS'
EQUITY................. 62,318 69,821
------- -------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY... $62,648 $70,104
======= =======
</TABLE>
S-4
<PAGE>
SCHEDULE II, CONTINUED
DANIELSON HOLDING CORPORATION
CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
(PARENT COMPANY ONLY)
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
FOR THE YEARS ENDED
DECEMBER 31,
----------------------------
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income...................................... $ 3,234 $ 3,895 $ 2,316
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Net realized investment losses................ -- -- 2
Depreciation and amortization................. (46) 125 86
Equity in net (income) of subsidiaries........ (4,927) (5,304) (3,973)
Increase (decrease) in accrued expenses....... (47) 56 (47)
Other, net.................................... (238) 209 (79)
-------- -------- --------
Net cash (used in) operating activities..... (2,024) (1,019) (1,695)
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Investments purchased:
Fixed income maturities available-for-sale.... -- (12,933) (10,787)
Fixed income maturities held-to-maturity...... (8,592) -- --
Proceeds from sales:
Fixed income maturities available-for-sale.... -- 7,026 1,837
Investments, matured or called
Fixed income maturities available-for-sale.... -- -- 11,210
Fixed income maturities held-to-maturity...... -- 8,430 --
Change in accrued investment income........... 36 (127) 1
-------- -------- --------
Net cash provided by (used in) investing
activities................................. (8,556) 2,396 2,261
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Acquisition of Danielson Trust Company.......... (4,611) -- --
Acquisition of Western Trust Services........... -- (2,505) --
Proceeds from exercise of options to purchase
Common Stock................................... -- 774 --
Retirement of stock options..................... -- -- (286)
Purchase of treasury stock...................... -- (56) --
Dividend received from subsidiary............... 668 -- --
Change in receivable from subsidiary............ (137) (344) (12)
Return of capital from subsidiaries............. 133 (2) --
-------- -------- --------
Net cash (used in) financing activities..... (3,947) (2,133) (298)
-------- -------- --------
Net increase (decrease) in cash and short term
investments.................................... (14,527) (756) 268
Cash and short term investments at beginning of
year........................................... 15,499 972 216
-------- -------- --------
CASH AND SHORT TERM INVESTMENTS AT END OF YEAR.. $ 972 $ 216 $ 484
======== ======== ========
</TABLE>
S-5
<PAGE>
SCHEDULE IV
DANIELSON HOLDING CORPORATION
REINSURANCE
(IN THOUSANDS)
<TABLE>
<CAPTION>
CEDED EARNED ASSUMED EARNED PERCENTAGE OF
GROSS EARNED TO OTHER FROM OTHER NET EARNED AMOUNT
AMOUNT COMPANIES COMPANIES AMOUNT ASSUMED TO NET
------------ ------------ -------------- ---------- --------------
<S> <C> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31,
1993:
Property and liability
insurance premiums..... $ 91,768 $ 5,784 $ 68 $86,052 --
======== ======= ===== ======= ===
YEAR ENDED DECEMBER 31,
1994:
Property and liability
insurance premiums..... $106,552 $13,261 $ -- $93,291 --
======== ======= ===== ======= ===
YEAR ENDED DECEMBER 31,
1995:
Property and liability
insurance premiums..... $ 76,688 $16,140 $ -- $60,548 --
======== ======= ===== ======= ===
</TABLE>
S-6
<PAGE>
SCHEDULE V
DANIELSON HOLDING CORPORATION
VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<TABLE>
<CAPTION>
ADDITIONS
-------------------------------
BALANCE AT CHARGED TO COSTS CHARGED TO BALANCE AT
BEGINNING OF PERIOD AND EXPENSES OTHER ACCOUNTS DEDUCTIONS END OF PERIOD
------------------- ---------------- -------------- ---------- -------------
<S> <C> <C> <C> <C> <C>
Allowance for premiums
and fees receivable.... $323 $ 117 $ -- $ 283 $157
==== ===== ===== ===== ====
Allowance for
uncollectable
reinsurance on paid
losses................. $675 $ -- $ -- $ 287 $388
==== ===== ===== ===== ====
Allowance for
uncollectable
reinsurance on unpaid
losses................. $425 $ -- $ -- $ -- $425
==== ===== ===== ===== ====
</TABLE>
S-7
<PAGE>
SCHEDULES III AND VI
DANIELSON HOLDING CORPORATION
SUPPLEMENTARY INSURANCE INFORMATION AND SUPPLEMENTAL INFORMATION CONCERNING
PROPERTY--CASUALTY INSURANCE OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
RESERVES FOR
UNPAID
CLAIMS AND OTHER
DEFERRED CLAIM DISCOUNT FROM POLICY CLAIMS
AFFILIATION WITH ACQUISITION ADJUSTMENT RESERVES FOR UNEARNED AND BENEFITS NET EARNED INVESTMENT
REGISTRANT COSTS EXPENSES UNPAID CLAIMS PREMIUMS PAYABLE PREMIUMS INCOME
---------------- ----------- ------------ ------------- -------- ------------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Consolidated Property--
Casualty Entities:
As of and for the year
ended 12/31/93....... $2,196 $137,479 $-- $16,502 $-- $86,052 $12,587
==== ====
As of and for the year
ended 12/31/94....... $2,204 $146,330 $-- $14,328 $-- $93,291 $11,287
==== ====
As of and for the year
ended 12/31/95....... $1,045 $137,406 $-- $ 8,563 $-- $60,548 $12,351
==== ====
</TABLE>
<TABLE>
<CAPTION>
CLAIMS AND CLAIM
ADJUSTMENT EXPENSES
INCURRED RELATED TO AMORTIZATION OTHER PAID CLAIMS
AFFILIATION WITH ------------------------ OF DEFERRED OPERATING AND CLAIM NET WRITTEN
REGISTRANT CURRENT YEAR PRIOR YEARS ACQUISITION COSTS EXPENSES ADJUSTMENT EXPENSES PREMIUMS
---------------- ------------ ----------- ----------------- --------- ------------------- -----------
<S> <C> <C> <C> <C> <C> <C>
Consolidated Property--
Casualty Entities:
As of and for the year
ended 12/31/93....... $65,157 $ 743 $14,812 $2,181 $51,502 $87,953
As of and for the year
ended 12/31/94....... $67,131 $ 384 $13,724 $4,953 $58,113 $91,069
As of and for the year
ended 12/31/95....... $45,592 $3,123 $ 9,089 $4,302 $61,046 $55,295
</TABLE>
S-8
<PAGE>
SCHEDULE I
MIDLAND FINANCIAL GROUP, INC.
SUMMARY OF INVESTMENTS--OTHER THAN INVESTMENTS IN RELATED PARTIES
DECEMBER 31, 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
AMOUNT AT
WHICH SHOWN
IN THE
FAIR BALANCE
TYPE OF INVESTMENT COST VALUE SHEET
------------------ -------- -------- -----------
<S> <C> <C> <C>
FIXED MATURITIES:
Bonds:
United States Government and government
agencies...................................... $ 1,207 $ 1,215 $ 1,215
Municipalities................................. 83,838 85,266 85,266
All other corporate bonds...................... 19,722 19,810 19,810
Redeemable preferred stock..................... 41,870 42,625 42,625
-------- -------- --------
Total fixed maturities....................... 146,637 148,916 148,916
-------- -------- --------
EQUITY SECURITIES:
Common stock..................................... 13,039 13,408 13,408
-------- -------- --------
Total equity securities...................... 13,039 13,408 13,408
-------- -------- --------
Total Investments............................ $159,676 $162,324 $162,324
======== ======== ========
</TABLE>
S-10
<PAGE>
SCHEDULE II PAGE 1 OF 5
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
MIDLAND FINANCIAL GROUP, INC.
(PARENT COMPANY ONLY)
CONDENSED BALANCE SHEETS
DECEMBER 31, 1994 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
1994 1995
------- -------
<S> <C> <C>
ASSETS
Investments in subsidiaries.................................. $74,425 $76,671
Cash and equivalents......................................... 29 1,869
Securities available for sale................................ 6,732 --
Due from affiliates.......................................... 13,365 --
Furniture and equipment...................................... 1,335 2,167
Notes receivable............................................. 1,756 1,651
Other assets................................................. 916 1,049
Deferred income taxes........................................ -- 125
Income taxes recoverable..................................... 235 1,470
------- -------
$98,793 $85,002
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Notes payable................................................ $40,000 $27,000
Due to affiliates............................................ -- 7,212
Accrued expenses............................................. 559 1,945
Income taxes payable......................................... 440 --
------- -------
40,999 36,157
------- -------
STOCKHOLDERS' EQUITY:
Common stock................................................. 39,258 39,420
Additional paid-in capital................................... 1,887 1,887
Retained earnings............................................ 16,943 5,796
Unrealized appreciation (depreciation) of securities avail-
able for sale............................................... (294) 1,742
------- -------
Total stockholders' equity............................... 57,794 48,845
------- -------
$98,793 $85,002
======= =======
</TABLE>
See accompanying note to condensed financial statements.
S-11
<PAGE>
SCHEDULE II PAGE 2 OF 5
MIDLAND FINANCIAL GROUP, INC.
(PARENT COMPANY ONLY)
CONDENSED STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 1993, 1994 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
1993 1994 1995
------ ------ --------
<S> <C> <C> <C>
Income:
Investment income.................................. $ 186 $ 652 $ 1,929
Net realized securities gain....................... 186 -- --
Management fees.................................... 552 695 1,284
Other.............................................. 58 7 --
------ ------ --------
982 1,354 3,213
------ ------ --------
Expenses:
General and administrative......................... 266 173 1,908
Interest expense................................... -- 924 1,859
------ ------ --------
266 1,097 3,767
------ ------ --------
Income (loss) before income taxes and equity in-
terests......................................... 716 257 (554)
Income tax provision................................. (254) (283) (114)
------ ------ --------
Income (loss) before equity interests.............. 462 (26) (668)
Equity interests..................................... 6 5 (6)
------ ------ --------
Net income (loss) before equity in undistributed
income of subsidiaries............................ 468 (21) (674)
Equity in undistributed income of subsidiaries....... 6,600 7,946 (9,397)
------ ------ --------
Net income (loss).................................. $7,068 $7,925 $(10,071)
====== ====== ========
</TABLE>
See accompanying note to condensed financial statements.
S-12
<PAGE>
SCHEDULE II PAGE 3 OF 5
MIDLAND FINANCIAL GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
COMMON STOCK
-------------------
SHARES ADDITIONAL UNREALIZED
ISSUED AND PAID-IN RETAINED APPRECIATION
OUTSTANDING AMOUNT CAPITAL EARNINGS (DEPRECIATION) TOTAL
----------- ------- ---------- -------- -------------- --------
<S> <C> <C> <C> <C> <C> <C>
Balances at December 31,
1992................... 4,346,123 $35,392 $1,887 $ 2,483 $ 118 $ 39,880
Net income.............. -- -- -- 7,068 -- 7,068
Warrants exercised...... 872,505 3,429 -- -- -- 3,429
Options exercised....... 70,686 231 -- -- -- 231
Appreciation of equity
securities............. -- -- -- -- 12 12
--------- ------- ------ -------- ------ --------
Balances at December 31,
1993................... 5,289,314 39,052 1,887 9,551 130 50,620
Net income.............. -- -- -- 7,925 -- 7,925
Cash dividends paid
($.10 per share)....... -- -- -- (533) -- (533)
Options exercised....... 14,000 46 -- -- -- 46
Warrants exercised...... 40,908 160 -- -- -- 160
Change in fair value of
securities available
for sale net of tax of
$231................... -- -- -- -- (424) (424)
--------- ------- ------ -------- ------ --------
Balances at December 31,
1994................... 5,344,222 39,258 1,887 16,943 (294) 57,794
Net loss................ -- -- -- (10,071) -- (10,071)
Cash dividends paid
($.20 per share)....... -- -- -- (1,076) -- (1,076)
Options exercised....... 44,800 162 -- -- -- 162
Change in fair value of
securities available
for sale net of tax
of $1,058.............. -- -- -- -- 2,036 2,036
--------- ------- ------ -------- ------ --------
Balances at December 31,
1995................... 5,389,022 $39,420 $1,887 $ 5,796 $1,742 $ 48,845
========= ======= ====== ======== ====== ========
</TABLE>
See accompanying note to condensed financial statements.
S-13
<PAGE>
SCHEDULE II PAGE 4 OF 5
MIDLAND FINANCIAL GROUP, INC.
(PARENT COMPANY ONLY)
CONDENSED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31 1993, 1994, AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
1993 1994 1995
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss).............................. $ 7,068 $ 7,925 $(10,071)
Gain on investments............................ (186) -- --
Changes in assets and liabilities:
Other assets................................... 390 (779) (133)
Accrued expenses and other liabilities......... (11) 549 1,386
Income taxes payable........................... (429) 505 (1,800)
Other noncash items............................ 18 51 137
-------- -------- --------
Net cash provided by (used in) operating activi-
ties............................................ 6,850 $ 8,251 (10,481)
-------- -------- --------
Cash flows from investing activities:
Investment in subsidiaries..................... (18,659) (17,512) (2,246)
Purchases of investments....................... (8,985) (7,429) --
Sales of investments........................... 3,811 5,720 6,732
Fixed asset additions.......................... (260) (655) 945
Other.......................................... (100) (6) 126
-------- -------- --------
Net cash provided by (used in) investing activi-
ties............................................ (24,099) (19,976) 5,557
-------- -------- --------
Cash flows from financing activities:
Proceeds from credit facility.................. 20,000 30,000 10,000
Notes receivable............................... (1,579) (177) 102
Proceeds from exercise of common stock warrants
and options................................... 3,660 206 162
Repayment of debt.............................. -- (10,000) (23,000)
Loans to affiliates............................ (2,244) (10,330) 20,576
Dividends to stockholders...................... -- (533) (1076)
-------- -------- --------
Net cash provided by financing activities........ 19,837 9,166 6,764
-------- -------- --------
Increase (decrease) in cash...................... 2,588 (2,559) 1,840
Cash at beginning of year........................ -- 2,588 29
-------- -------- --------
Cash at end of year.............................. $ 2,588 $ 29 $ 1,869
======== ======== ========
</TABLE>
See accompanying note to condensed financial statements.
S-14
<PAGE>
SCHEDULE II PAGE 5 OF 5
MIDLAND FINANCIAL GROUP, INC.
(PARENT COMPANY ONLY)
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
NOTE TO CONDENSED FINANCIAL STATEMENTS
(1) The accompanying condensed financial information should be read in
conjunction with the consolidated financial statements of Midland
Financial Group, Inc. and subsidiaries as of December 31, 1994 and 1995
and for the three-year period ended December 31, 1995.
S-15
<PAGE>
SCHEDULE IV
MIDLAND FINANCIAL GROUP, INC.
REINSURANCE
YEARS ENDED DECEMBER 31, 1993, 1994 AND 1995
(AMOUNTS IN THOUSANDS, EXCEPT PERCENTAGES)
<TABLE>
<CAPTION>
ASSUMED PERCENTAGE
CEDED TO FROM OF AMOUNT
DIRECT OTHER OTHER NET ASSUMED
AMOUNT COMPANIES COMPANIES AMOUNT TO NET
-------- --------- --------- ------- ----------
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1993:
Premiums
Property casualty.............. $ 78,329 25,461 2,402 55,272 4.35
-------- ------ ------ ------- ----
Total.......................... $ 78,329 25,429 2,402 55,272 4.35
======== ====== ====== ======= ====
Year ended December 31, 1994:
Premiums
Property casualty.............. $117,738 10,801 11,281 118,218 9.54
-------- ------ ------ ------- ----
Total.......................... $117,738 10,801 11,281 118,218 9.54
======== ====== ====== ======= ====
Year Ended December 31, 1995:
Premiums
Property casualty.............. $175,226 17,719 14,887 172,394 8.64
-------- ------ ------ ------- ----
Total.......................... $175,226 17,719 14,887 172,394 8.64
======== ====== ====== ======= ====
</TABLE>
S-16
<PAGE>
MIDLAND FINANCIAL GROUP, INC.
PROXY FOR SPECIAL MEETING OF SHAREHOLDERS
The undersigned hereby appoints Joseph W. McLeary and Elena Barham, or either
of them, with power of substitution, attorneys and proxies to represent the
undersigned in the Special Meeting of Shareholders of MIDLAND FINANCIAL GROUP,
INC. ("Midland") to be held on August 2, 1996 at The New York Marriott East
Side Hotel, New York, New York at 10:00 a.m. New York time, or at any
adjournment thereof, to vote all shares of the Midland common stock, no par
value, which the undersigned is entitled to vote as designated below and upon
such other business that may properly come before the meeting.
[X] PLEASE MARK VOTES AS IN THIS EXAMPLE.
THE SHARES REPRESENTED BY THIS PROXY WILL BE VOTED IN ACCORDANCE WITH THE
SPECIFICATION MADE. IF NO SPECIFICATION IS MADE, THE SHARES REPRESENTED BY THIS
PROXY WILL BE VOTED FOR THE PROPOSAL AND, IN THE DISCRETION OF THE PROXY
HOLDERS, ON ANY OTHER MATTERS THAT MAY PROPERLY COME BEFORE THE MEETING OR ANY
ADJOURNMENT THEREOF.
1. Approval and adoption of the Agreement and Plan of Merger, dated as of
February 26, 1996, as amended, among Midland Financial Group, Inc.,
Danielson Holding Corporation and Mission Sub E., Inc.
[_] FOR [_] AGAINST [_] ABSTAIN
<PAGE>
THIS PROXY IS SOLICITED BY THE BOARD OF DIRECTORS AND WILL BE VOTED IN
ACCORDANCE WITH THE SHAREHOLDER'S SPECIFICATIONS HEREON. IN THE ABSENCE OF SUCH
SPECIFICATION, THE PROXY WILL BE VOTED "FOR" APPROVAL AND ADOPTION OF THE
AGREEMENT AND PLAN OF MERGER.
PLEASE MARK, SIGN, DATE AND RETURN PROMPTLY USING THE ENCLOSED ENVELOPE.
MARK HERE IF YOU PLAN
TO ATTEND THE MEETING [_]
Date: _______________________ , 1996
____________________________________
____________________________________
____________________________________
PLEASE SIGN EXACTLY AS NAME APPEARS
HEREON AND DATE. IF THE SHARES ARE
HELD JOINTLY, EACH HOLDER SHOULD
SIGN. WHEN SIGNING AS AN ATTORNEY,
EXECUTOR, ADMINISTRATOR, TRUSTEE,
GUARDIAN OR AS AN OFFICER SIGNING
FOR A CORPORATION, PLEASE GIVE FULL
TITLE UNDER SIGNATURE.
<PAGE>
DANIELSON HOLDING CORPORATION
PROXY FOR ANNUAL MEETING OF STOCKHOLDERS
The undersigned hereby appoints C. Kirk Rhein, Jr. and Lisa D. Levey, or
either of them, with power of substitution, attorneys and proxies to represent
the undersigned in the Annual Meeting of Stockholders of DANIELSON HOLDING
CORPORATION ("Danielson"), to be held on August 2, 1996 at The New York
Marriott East Side Hotel, New York, New York at 1:00 p.m. New York time, or at
any adjournment thereof, to vote all shares of Danielson common stock, $0.10
par value per share, which the undersigned is entitled to vote as designated
below and upon such other business that may properly come before the meeting.
[X] PLEASE MARK VOTES AS IN THIS EXAMPLE.
THE SHARES REPRESENTED BY THIS PROXY WILL BE VOTED IN ACCORDANCE WITH THE
SPECIFICATION MADE. IF NO SPECIFICATION IS MADE, THE SHARES REPRESENTED BY THIS
PROXY WILL BE VOTED FOR THE PROPOSALS AND, IN THE DISCRETION OF THE PROXY
HOLDERS, ON ANY OTHER MATTERS THAT MAY PROPERLY COME BEFORE THE MEETING OR ANY
ADJOURNMENT THEREOF.
1. Approval and adoption of the Merger Proposal, which will constitute approval
of the merger of Midland Financial Group, Inc. into Mission Sub E, Inc.;
approval of the Common Stock Issuance; approval of the Preferred Stock
Terms; approval of the Authorized Capital Charter Amendment; and approval of
the Non-Voting Stock Charter Amendment.
[_] FOR [_] AGAINST [_] ABSTAIN
2. The election of the following persons as Directors of Danielson to serve
until the next Annual Meeting of Stockholders and until their respective
successors shall be duly elected and qualified:
Nominees: Martin J. Whitman; James P. Heffernan, C. Kirk Rhein, Jr.; Joseph
F. Porrino; Eugene M. Isenberg; Frank B. Ryan; William R. Story;
Wallace O. Sellers and Paul B. Loyd, Jr.
[_] FOR all nominees
[_] AGAINST as to all nominees
[_] FOR except for vote withheld from
the following nominees:
--------------------------------------
3. Confirmation of the selection of KPMG Peat Marwick LLP as independent
certified public accountants for Danielson for the fiscal year ending
December 31, 1996.
[_] FOR [_] AGAINST [_] ABSTAIN
4. To vote and otherwise represent the shares on any other matters which may
properly come before the meeting or any adjournments thereof, according to
their decision and in their discretion.
<PAGE>
THIS PROXY IS SOLICITED BY THE BOARD OF DIRECTORS AND WILL BE VOTED IN
ACCORDANCE WITH THE STOCKHOLDER'S SPECIFICATIONS HEREON. IN THE ABSENCE OF SUCH
SPECIFICATION, THE PROXY WILL BE VOTED "FOR" APPROVAL OF THE MERGER PROPOSAL,
"FOR" THE ELECTION OF DIRECTORS AND "FOR" CONFIRMATION OF THE SELECTION OF KPMG
PEAT MARWICK LLP AS INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS.
MARK HERE IF YOU PLAN
TO ATTEND THE MEETING [_] Date: _____________________ , 1996
__________________________________
__________________________________
PLEASE SIGN EXACTLY AS NAME
APPEARS HEREON AND DATE. IF THE
SHARES ARE HELD JOINTLY, EACH
HOLDER SHOULD SIGN. WHEN SIGNING
AS AN ATTORNEY, EXECUTOR,
ADMINISTRATOR, TRUSTEE, GUARDIAN
OR AS AN OFFICER SIGNING FOR A
CORPORATION, PLEASE GIVE FULL
TITLE UNDER SIGNATURE.
PLEASE MARK, SIGN, DATE AND RETURN PROMPTLY USING THE ENCLOSED ENVELOPE.
<PAGE>
EXHIBIT 3.3
CERTIFICATE OF AMENDMENT
OF
CERTIFICATE OF INCORPORATION
OF
DANIELSON HOLDING CORPORATION
-----------------------------------------------
Adopted in accordance with the provisions
of Section 242 of the General Corporation
Law of the State of Delaware
-----------------------------------------------
The undersigned, President of Danielson Holding Corporation (the
"Corporation"), a corporation existing under the laws of the State of
Delaware, do hereby certify as follows:
FIRST: That the Certificate of Incorporation of the Corporation has been
amended as follows:
1. By striking out the whole of paragraph 4.1 of Article FOURTH thereof
as it now exists and inserting in lieu and instead thereof a new paragraph 4.1,
reading in its entirety, as follows:
"4.1: The Corporation is authorized to issue 50,000,000 shares
consisting of two classes of shares designated "Preferred Stock" and "Common
Stock," respectively. The total number of shares of Preferred Stock authorized
to be issued is 10,000,000 and the number of shares of Common
-1-
<PAGE>
Stock authorized to be issued is 40,000,000. The par value of each
share is $0.10."
2. By striking out the whole of Article SIXTH thereof in its entirety.
SECOND: That at a regularly scheduled meeting of the Board of Directors of
the Corporation, resolutions were unanimously adopted setting forth such
amendment, declaring such amendment to be advisable and calling for the
consideration of such amendment by the Corporation's stockholders.
THIRD: That thereafter at the annual meeting of stockholders of the
Corporation, such amendment was duly adopted in accordance with the provisions
of Section 242 of the General Corporation Law of the State of Delaware.
IN WITNESS WHEREOF, the undersigned has signed this certificate
this _____th day of _____, 1996.
________________________________
C. Kirk Rhein, Jr.
President
-2-
<PAGE>
EXHIBIT 5.1
July 5, 1996
Danielson Holding Corporation
767 Third Avenue
New York, New York 10017-2023
Ladies and Gentlemen:
We have acted as counsel to Danielson Holding Corporation, a Delaware
corporation ("Danielson"), in connection with the preparation of a Registration
Statement on Form S-4 (No.333-)(the "Registration Statement") which was filed
by Danielson with the Securities and Exchange Commission on July __, 1996 (as
such Registration Statement may be amended from time to time, the "Registration
Statement"). The Registration Statement relates to the registration by Danielson
under the Securities Act of 1933, as amended, of up to 1,621,336 shares of
Common Stock, par value $0.10 per share, of Danielson (the "Common Stock") and
1,297,069 shares of Series A Cumulative Perpetual Preferred Stock, par value
$0.10 per share of Danielson (the "Preferred Stock, and together with the Common
Stock, the "Shares").
In rendering the opinions expressed below, we have been furnished with and,
without independent investigation but with your consent have relied upon
(i) certificates of officers, directors and representatives of Danielson with
respect to certain factual matters, and (ii) certificates, documents,
instruments and assurances of public officials as we have deemed appropriate
or advisable. We have also examined originals or copies identified to our
satisfaction as being true copies, of the documents listed below, and we have
made no independent investigation of any factual information contained therein
or contained in any documents incorporated by reference or otherwise referred to
therein (collectively, the "Documents"):
A. Registration Statement (together with the form of proxy
statement/prospectus forming a part thereof);
B. Certificate of Incorporation of Danielson;
C. Certificate of Designation Preferences, Rights and Limitations of the
Preferred Stock;
D. Bylaws of Danielson; and
E. Minutes of Meetings of the Board of Directors of Danielson relating to
the transactions contemplated by the Registration Statement.
<PAGE>
Danielson Holding Corporation
July 5, 1996
Page 2
In addition, for the purposes of the opinions rendered herein, we have
assumed with your permission and without independent verification:
(a) that all signatures of all persons signing all Documents in connection
with which the opinions are rendered are genuine and authorized;
(b) that all Documents submitted to us as true copies, whether certified
or not, conform to authentic original Documents; and
(c) that all Documents submitted to us as originals or duplicate originals
are authentic original documents.
Based upon the foregoing, we are of the opinion:
(1) Danielson has been duly incorporated and is validly existing and in
good standing under the laws of the State of Delaware.
(2) The Shares have been duly authorized and, upon issuance and delivery
thereof in the manner contemplated by the Registration Statement, will be
validly issued, fully paid and nonassesable.
We are members of the Bar of the State of New York and the foregoing
opinion is limited to the laws of the State of New York, the federal laws of the
United States of America and the General Corporation Law of the State of
Delaware.
We hereby consent to the reference of our name in the Registration
Statement and to the filing of this opinion as Exhibit 5.1 to the Registration
Statement.
This opinion is being rendered only to you for your exclusive benefit and
is intended to be relied upon by you in connection with the transactions
contemplated by the Registration Statement. This opinion may not be used for
any other purpose, or relied on by any other person, firm or entity for any
purpose, without our prior written consent.
Very truly yours,
/s/ Anderson Kill Olick & Oshinsky, P.C.
-----------------------------------------
ANDERSON KILL OLICK & OSHINSKY, P.C.
-2-
<PAGE>
EXHIBIT 7.1
July 5, 1996
Danielson Holding Corporation
767 Third Avenue
New York, New York 10017-2023
Ladies and Gentlemen:
You have requested our opinion, as counsel to Danielson Holding
Corporation, a Delaware corporation (the "Company") concerning whether, under
Delaware law (i) there should be any restriction upon the surplus of the Company
available for payment of dividends solely by reason of the fact that the
liquidation preference of the Series A Cumulative Perpetual Preferred Stock of
the Company, par value $0.10 per share (the "Preferred Stock") exceeds the par
value of such shares and (ii) whether any remedy should be available to the
holders of Preferred Stock before or after payment of any dividend solely
because such dividend would reduce the surplus of the Company to an amount less
than the amount by which the liquidation preference of the Preferred Stock
exceeds the par value of such shares.
We have examined and are familiar with originals or copies, certified or
otherwise indentified to our satisfaction, of the following documents:
(i) the Certificate of Incorporation of the Company (the "Certificate of
Incorporation");
(ii) the Bylaws of the Company (the "Bylaws"); and
(iii) the Certificate of Designation Preferences, Rights and Limitations of
the Preferred Stock (the "Certificate of Designation").
In our examination, we have assumed the legal capacity of all natural
persons, the genuineness of all signatures, the authenticity of all documents
submitted to us as originals, the conformity to original documents of all
documents submitted to us
<PAGE>
Danielson Holding Corporation
July 5, 1996
Page 2
as certified or photostatic copies and the authenticity of the originals of such
copies. As to any facts material to this opinion which we did not independently
establish or verify, we have relied upon oral or written statements and
representations of officers and other representatives of the Company and others.
The Certificate of Designation provides that in the event of a
liquidation, dissolution or winding up of the Company, whether voluntary or
involuntary, each holder of a share of Preferred Stock shall be entitled to
receive out of the assets of the Company available for distribution to its
stockholders, an amount equal to twenty five dollars ($25.00) per share, plus
all accrued and unpaid dividends thereon to and including the date of such
distribution, before any distribution of assets to the holders of the Company's
common stock, or any other capital stock of the Company ranking junior to the
Preferred Stock as to the distribution of assets, liquidation, dissolution or
winding up of the Company.
There is no provision in the Certificate of Incorporation of the
Company, the Bylaws or the Certificate of Designation which purports to
restrict the surplus of the Company by reason of the excess of the liquidation
preference of the Preferred Stock over the par value. Section 170 of the General
Corporation Law of the State of Delaware (the "GCL") authorizes a Delaware
corporation to pay dividends out of its surplus. Surplus is defined by Section
154 of the GCL as the amount by which the net assets of a corporation exceed its
capital. Both net assets, as defined in Section 154, and capital, as defined in
and determined in accordance with Sections 154 and 244 of the GCL, are
determined without reference to the amount of any liquidation preference of any
class of the corporation's stock. Accordingly, the authorization in Section 170
of the GCL for payment of dividends out of surplus is not in any way limited or
restricted solely by reason of the fact that a class of stock of a corporation
has a liquidation preference in excess of the par value of such stock. Moreover,
we are not aware of any applicable provisions of the Constitution of the State
of Delaware nor any controlling Delaware case law which would suggest that
surplus would be restricted by the excess of the liquidation preference over the
par value of the Preferred Stock.
Therefore, while there are no authorities specifically addressing this
issue, it is our opinion that (i) there should be no restriction upon the
surplus of the Company available for the payment of dividends on any outstanding
capital stock of the Company solely by reason of the fact that the liquidation
<PAGE>
Danielson Holding Corporation
July 5, 1996
Page 3
preferences of the Preferred Stock exceeds the par value of such shares and (ii)
no remedy should be available to the holders of shares of the Preferred Stock
before or after payment of any dividend solely because such dividend would
reduce the surplus of the Company to an amount less than the amount of such
excess, assuming that the payment of such dividend is in accordance with
provisions of the GCL, the Certificate of Incorporation of the Company, the
Bylaws or the Certificate of Designation.
Members of this firm are admitted to the Bar of the State of New York
and the foregoing opinion is limited to the laws of the State of New York, the
federal laws of the United States of America and the GCL.
We hereby consent to the filing of this opinion as Exhibit 7.1 to the
Registration Statement on Form S-4 of the Company (the "Registration Statement")
and to the use of our name in the Registration Statement under the caption
"Legal Matters."
This opinion is being rendered only to you for your exclusive benefit
and is intended to be relied upon by you in connection with the transactions
contemplated by the Registration Statement. This opinion may not be used for any
other purpose, or relied on by any other person, firm or entity for any purpose,
without our prior written consent.
Very truly yours,
/s/ Anderson, Kill Olick & Oshinsky, P.C.
---------------------------------------------
ANDERSON KILL OLICK & OSHINSKY,
P.C.
<PAGE>
EXHIBIT 8.1
[LETTERHEAD OF ANDERSON KILL OLICK & OSHINSKY]
July 1, 1996
Danielson Holding Corporation
Mission Sub E, Inc.
767 Third Avenue
New York, NY 10017-2023
Ladies and Gentlemen:
We have acted as counsel to Danielson Holding Corporation
("Danielson") and Mission Sub E, Inc. ("Merger Sub") in connection with the
preparation and filing with the Securities and Exchange Commission under the
Securities Act of 1933, as amended, of a Registration Statement on Form S-4 (the
"Registration Statement"), relating to the registration of common and preferred
stock of Danielson to be issued by Danielson pursuant to the terms of the
Agreement and Plan of Merger (the "Merger Plan") among Danielson, Merger Sub and
Midland Financial Group, Inc. ("Midland"), whereby Midland will be merged with
and into Merger Sub (the "Merger"). This opinion is being rendered pursuant to
the requirements of Form S-4 and is subject to receipt by counsel prior to the
Effective Time (as defined in the Merger Plan) of certain written
representations of Danielson and Midland.
We are of the opinion that the discussion in the Joint Proxy
Statement/Prospectus constituting part of the Registration Statement under the
caption "Certain Federal Income Tax Consequences," insofar as it relates to
statements of law or legal conclusions, is accurate in all material respects.
We hereby consent to the filing of this opinion as an Exhibit to the
Registration Statement and to the reference to our firm under the caption
"Certain Federal Income Tax Consequences" in the Joint Proxy
Statement/Prospectus. However, this opinion is not to be used for any other
purpose without our prior consent.
Very truly yours,
Anderson Kill Olick & Oshinsky, P.C.
By:/s/ Stefan R. Boshkov
--------------------------
Stefan R. Boshkov
<PAGE>
EXHIBIT 11.1
DANIELSON HOLDING CORPORATION
STATEMENT REGARDING COMPUTATION OF EARNINGS PER SHARE
(In thousands, except per share amounts)
(Unaudited)
<TABLE>
<CAPTION>
For the Years Ended December 31,
1993 1994 1995
----------------------------------
<S> <C> <C> <C>
Primary earnings per share:
Weighted average shares outstanding 15,110 15,107 15,360
Net effect of dilutive stock options based
upon the treasury stock method using the
average market price per share 737 815 629
----------------------------------
Common and common equivalent shares 15,847 15,922 15,989
==================================
Net income before extraordinary item 2,746 3,145 2,316
==================================
Net income 3,234 3,895 2,316
==================================
Fully diluted earnings per share:
Weighted average shares outstanding 15,110 15,107 15,360
Net effect of dilutive stock options based
upon the treasury stock method using the
closing market price per share (only if
higher than the average price) 880 831 629
----------------------------------
Common and common equivalent shares 15,990 15,938 15,989
==================================
Net income before extraordinary item 2,746 3,145 2,316
==================================
Net income 3,234 3,895 2,316
==================================
Earnings per share:
Primary earnings per share before
extraordinary items $0.17 $0.20 $0.14
Primary earnings per share $0.20 $0.25 $0.14
Fully diluted earnings per share before
extraordinary items $0.17 $0.20 $0.14
Fully diluted earnings per share $0.20 $0.25 $0.14
</TABLE>
<PAGE>
EXHIBIT 11.2
DANIELSON HOLDING CORPORATION
STATEMENT REGARDING COMPUTATION OF EARNINGS PER SHARE
(In thousands, except per share amounts)
(Unaudited)
<TABLE>
<CAPTION>
For the Three Months
Ended March 31,
1995 1996
------------------------
<S> <C> <C>
Primary earnings per share:
Weighted average shares outstanding 15,360 15,360
Net effect of dilutive stock options based upon the
treasury stock method using the average market price
per share 637 625
------------- --------
Common and common equivalent shares 15,997 15,985
============= ========
Net income $613 $557
============= ========
Fully diluted earnings per share:
Weighted average shares outstanding 15,360 15,360
Net effect of dilutive stock options based upon the
treasury stock method using the closing market price
per share (only if higher than the average price) 689 653
------------- --------
Common and common equivalent shares 16,049 16,013
============= ========
Net income 613 557
============= ========
Earnings per share:
Primary earnings per share $0.04 $0.03
Fully diluted earnings per share $0.04 $0.03
</TABLE>
<PAGE>
EXHIBIT 11.3
MIDLAND FINANCIAL GROUP, INC. AND SUBSIDIARIES
STATEMENT REGARDING COMPUTATION OF EARNINGS PER SHARE
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
For the Three Months
Ended March 31,
1995 1996
-----------------------
<S> <C> <C>
Primary:
Average Shares outstanding 5,347 5,547
Net effect of dilutive stock options and warrants -
based on the treasury stock method using average
market price 97 20
------------ -------
Common and common equivalent shares 5,444 5,567
============ =======
Net income $2,609 $ 528
============ =======
Fully diluted:
Average shares outstanding 5,347 5,547
Net effect of dilutive stock options and warrants -
based on the treasury stock method using average
market price 115 20
------------ -------
Common and common equivalents 5,462 5,567
============ =======
Net income $2,609 $528
============ =======
Earnings per share:
Primary earnings per share $0.48 $0.10
Fully diluted earnings per share $0.48 $0.10
</TABLE>
<PAGE>
EXHIBIT 11.4
MIDLAND FINANCIAL GROUP, INC. AND SUBSIDIARIES
STATEMENT REGARDING COMPUTATION OF EARNINGS PER SHARE
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
For the Years Ended December 31,
1993 1994 1995
----------------------------------
<S> <C> <C> <C>
Primary earnings per share:
Average shares outstanding 5,118 5,322 5,369
Net effect of dilutive stock options based
upon the treasury stock method using the
average market price per share 188 156 --
----------------------------------
Common and common equivalent shares 5,306 5,478 5,369
==================================
Net income 7,068 7,925 (10,071)
==================================
Fully diluted earnings per share:
Average shares outstanding 5,118 5,322 5,369
Net effect of dilutive stock options and
warrants - based on the treasury stock
method using average market price 174 155 --
----------------------------------
Common and common equivalent shares 5,292 5,477 5,369
==================================
Net income (loss) $7,068 $7,925 $(10,071)
==================================
Earnings per share:
Primary earnings per share 1.34 1.45 (1.88)
Fully diluted earnings per share 1.34 1.45 (1.88)
</TABLE>
<PAGE>
EXHIBIT 21.1
DANIELSON HOLDING CORPORATION
SUBSIDIARIES
<TABLE>
<CAPTION>
Jurisdictions in
Jurisdiction Which Qualified, Name Under Which
of Licensed or Admitted Subsidiary Does
Name of Subsidiary Incorporation to Do Business Business
------------------ ------------- -------------- --------
<S> <C> <C> <C>
Mission American Insurance California CA, OH, TX
Company
Danielson Indemnity Company Missouri CA
Danielson Reinsurance Missouri CA
Corporation
KCP Holding Company Delaware DE, CA
National American Insurance California CA, AZ, FL, HI, NAICC
Company of California ID, IN, KS, MO,
MT, NE, NV, NM,
OR, SD, TX, UT,
WA, WI
Danielson Insurance Company California CA, ID, KS
Danielson National California CA, ID, KS
Insurance Company
Great River Insurance California N/A
Company*
NAICC Insurance Services, California N/A
Inc.
Viscount Insurance California N/A
Services, Inc.*
Kramer Capital New York NY, CA, IL
Consultants, Inc.
Danielson Trust Company California CA Danielson Trust
Danielson Mortgage Delaware none**
Corporation**
Danielson Advisers, Inc.** Delaware none**
Danielson Investments, Delaware none**
Inc.**
Mission Sub D, Inc.** Delaware none**
Mission Sub E, Inc.** Delaware none**
Valor Insurance Company, Montana MT Valor
Incorporated
</TABLE>
________________________
* Inactive corporation. In process of being dissolved. Was not approved by
California Department of Insurance to conduct insurance business or to issue
shares of capital stock.
** Inactive corporation.
<PAGE>
EXHIBIT 23.4
The Board of Directors
Danielson Holding Corporation:
The audits referred to in our report dated February 26, 1996, included the
related financial statement schedules as of December 31, 1994 and 1995, and
for each of the years in the three-year period ended December 31, 1995,
included in the registration statement. These financial statement schedules
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statement schedules based on our audits.
In our opinion, such financial statement schedules, when considered in
relation to the basic consolidated financial statements taken as a whole,
present fairly, in all material respects, the information set forth therein.
We consent to the use of our reports included herein and to the reference to
our firm under the heading "Experts" in the joint proxy statement/prospectus.
As described in Note 1 of the Notes to Consolidated Financial Statements, in
1995 the Company adopted the provisions of the Financial Accounting Standards
Board's Statement of Financial Accounting Standards No. 121, "Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed
of."
/s/ KPMG Peat Marwick LLP
New York, New York
July 3, 1996
<PAGE>
EXHIBIT 23.5
The Board of Directors
Midland Financial Group, Inc.:
The audits referred to in our report dated March 22, 1996, except Note 12,
which is dated May 31, 1996, included the related financial statement
schedules as of December 31, 1994 and 1995, and for each of the years in the
three-year period ended December 31, 1995, included in the registration
statement. These financial statement schedules are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statement schedules based on our audits. In our opinion, such
financial statement schedules, when considered in relation to the consolidated
financial statements taken as a whole, present fairly, in all material respects,
the information set forth therein.
We consent to the use of our reports included herein and to the reference to
our firm under the heading "Experts" in the joint proxy statement/prospectus.
As discussed in Note 1 to the consolidated financial statements, Midland
adopted the provisions of the Financial Accounting Standards Board's Statement
of Financial Accounting Standards No. 115, "Accounting for Certain Investments
in Debt and Equity Securities," in 1994.
/s/ KPMG Peat Marwick LLP
Memphis, Tennessee
July 2, 1996
<PAGE>
EXHIBIT 99.2
FOR IMMEDIATE RELEASE
---------------------
Contact: C. Kirk Rhein, Jr.
President & Chief Executive Officer
212/888-0347
DANIELSON HOLDING AND MIDLAND FINANCIAL EXTEND FILING
-----------------------------------------------------
New York City - April 19, 1996
Danielson Holding Corporation (DHC-AMEX) announced today that Danielson
and Midland Financial Group, Inc. (MDLD-NASDAQ) have agreed to extend
until April 24, 1996 the deadline for a preliminary joint proxy statement
to be filed with the Securities and Exchange Commission (SEC) in
connection with the companies' recently announced merger agreement. In
the original agreement, the preliminary joint proxy statement was to have
been filed by April 15, 1996. Danielson continues to anticipate filing a
registration statement relating to the public offering of its stock in
connection with the merger agreement as soon as practicable following
receipt by the companies of final SEC comments on the joint proxy
statement and their submission of responses.
As previously announced, Danielson and Midland have signed a merger
agreement pursuant to which Danielson will acquire all of the outstanding
stock of Midland in a merger transaction. The purchase price will be 1.6
times the 1995 year-end book value of Midland (or a purchase price of
$14.50 per Midland share, based upon Midland's 1995 year-end book value of
$9.06 per share). As part of the transaction, Danielson will make a $30
million capital contribution to Midland at the closing.
The consideration to be received by the Midland shareholders will be paid
50% in cash, 40% in DHC non-convertible preferred stock having a market
dividend rate, and 10% in DHC common stock to be valued based upon a
trading average prior to the closing date. Danielson will finance the
cash portion of the purchase price and the $30 million capital
contribution with the net proceeds of an underwritten public offering of
DHC common stock to raise approximately $80 million, which will close
concurrently with the acquisition. Danielson's public offering will be
made as soon as possible and currently is anticipated to occur during the
second quarter of 1996.
The closing of the transaction is subject to various conditions, including
approvals by the shareholders of both companies, the receipt of regulatory
approvals, and financing. No assurance can be given that the conditions
to the transaction can be satisfied or that the
<PAGE>
transaction will be completed. The public offering to be made by
Danielson in connection with the merger transaction will be made after
receipt of shareholder approval of the transaction and will be made only
by means of a prospectus.
Danielson Holding Corporation is an American Stock Exchange listed
company, engaging in financial services businesses through its
subsidiaries, including specialty insurance and trust services.
-2-
<PAGE>
EXHIBIT 99.3
FOR IMMEDIATE RELEASE
---------------------
Contact: C. Kirk Rhein, Jr.
President & Chief Executive Officer
212/888-0347
DANIELSON HOLDING AND MIDLAND FINANCIAL FILE
--------------------------------------------
PRELIMINARY JOINT PROXY STATEMENT
---------------------------------
New York City - April 25,1996
Danielson Holding Corporation (DHC-AMEX) announced today that Danielson
and Midland Financial Group, Inc. (MDLD-NASDAQ) filed a preliminary joint
proxy statement with the Securities and Exchange Commission (SEC) on April
24, 1996, as previously contemplated, in connection with the companies'
recently announced merger agreement. The filing, which was made on a
confidential basis, is subject to review by the SEC. A definitive joint
proxy statement/prospectus, which will be publicly available, will be
filed with the SEC as soon as practicable following the companies' receipt
of final SEC comments on the preliminary joint proxy statement and their
submission of responses. Danielson continues to anticipate filing, at
approximately the same time as the definitive joint proxy
statement/prospectus, a registration statement with respect to the public
offering of its stock in connection with the merger agreement.
As previously announced, Danielson and Midland have signed a merger
agreement pursuant to which Danielson will acquire all of the outstanding
stock of Midland in a merger transaction. The purchase price will be 1.6
times the 1995 year-end book value of Midland (or a purchase price of
$14.50 per Midland share, based upon Midland's 1995 year-end book value of
$9.06 per share). As part of the transaction, Danielson will make a $30
million capital contribution to Midland at the closing.
The consideration to be received by the Midland shareholders will be paid
50% in cash, 40% in DHC non-convertible preferred stock having a market
dividend rate, and 10% in DHC common stock to be valued based upon a
trading average prior to the closing date. Danielson will finance the
cash portion of the purchase price and the $30 million capital
contribution with the net proceeds of an underwritten public offering of
DHC common stock to raise approximately $80 million, which will close
concurrently with the acquisition. Danielson's public offering will be
made as soon as possible and currently is anticipated to occur during the
second quarter of 1996.
-1-
<PAGE>
The closing of the transaction is subject to various conditions, including
approvals by the shareholders of both companies, the receipt of regulatory
approvals, and financing. No assurance can be given that the conditions
to the transaction can be satisfied or that the transaction will be
completed. The public offering to be made by Danielson in connection with
the merger transaction will be made after receipt of shareholder approval
of the transaction and will be made only by means of a prospectus.
Danielson Holding Corporation is an American Stock Exchange listed
company, engaging in financial services businesses through its
subsidiaries, including specialty insurance and trust services.
-2-
