FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 1994
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 1-8282
Alexander & Alexander Services Inc.
(Exact name of registrant as specified in its charter)
Maryland 52-0969822
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) No.)
1211 Avenue of the Americas
New York, New York 10036
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (212) 840-8500
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
The number of shares of Common Stock, $1 par value, outstanding as of November
1, 1994 was 41,235,558.
The number of shares of Class A Common Stock, $.00001 par value, outstanding as
of November 1, 1994 was 2,284,089.
The number of shares of Class C Common Stock, $1 par value, outstanding as of
November 1, 1994 was 378,033.
No shares of Class D Common Stock, $1 par value, were outstanding as of
November1, 1994.
<PAGE>
ALEXANDER & ALEXANDER SERVICES INC. AND SUBSIDIARIES
INDEX
Page No.
Part I. Financial Information:
Item 1. Financial Statements:
Unaudited Consolidated Statements of Income for the
Three and Nine Months Ended September 30, 1994 and 1993...........2
Condensed Consolidated Balance Sheets, as of
September 30, 1994 (Unaudited) and December 31, 1993..............3
Unaudited Consolidated Statements of Cash Flows for the
Nine Months Ended September 30, 1994 and 1993.....................5
Unaudited Notes to Financial Statements............................7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations..............25
Part II. Other Information:
Item 1. Legal Proceedings..........................................39
Item 2. Changes in Securities......................................41
Item 4. Submission of Matters to a Vote of Security Holders........41
Item 5. Other Information..........................................41
Item 6. Exhibits and Reports on Form 8-K...........................42
<PAGE>
PART I. FINANCIAL INFORMATION
Alexander & Alexander Services Inc. and Subsidiaries
Unaudited Consolidated Statements of Income
For the Three and Nine Months Ended September 30, 1994 and 1993
(in millions, except per share amounts)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1994 1993 1994 1993
<S> <C> <C> <C> <C>
Operating revenues:
Commissions and fees $318.7 $313.2 $ 953.3 $951.7
Fiduciary investment income 13.9 13.9 37.4 42.1
Total 332.6 327.1 990.7 993.8
Operating expenses:
Salaries and benefits 200.3 193.5 601.5 583.5
Other 128.1 133.4 365.2 365.6
Total 328.4 326.9 966.7 949.1
Operating income 4.2 0.2 24.0 44.7
Other income (expenses):
Investment income 3.0 2.1 6.5 6.8
Interest expense (4.7) (3.0) (11.9) (10.7)
Other (2.0) (5.7) (8.5) (7.7)
Total (3.7) (6.6) (13.9) (11.6)
Income (loss) before income taxes and
minority interest 0.5 (6.4) 10.1 33.1
Income (taxes) benefit (0.2) 3.6 (4.0) (10.8)
Income (loss) before minority interest 0.3 (2.8) 6.1 22.3
Minority interest (0.2) 0.2 (4.0) (1.9)
Income (loss) from continuing operations 0.1 (2.6) 2.1 20.4
Loss from discontinued operations (20.9) - (26.9) -
Income (loss) before cumulative effect
of change in accounting (20.8) (2.6) (24.8) 20.4
Cumulative effect of change in
accounting - - (2.6) 3.3
Net income (loss) (20.8) (2.6) (27.4) 23.7
Preferred stock dividends (4.8) (2.1) (9.0) (4.1)
Earnings (loss) attributable to common
shareholders $(25.6) $ (4.7) $ (36.4) $ 19.6
Per share of common stock:
Income (loss) from continuing
operations $(0.11) $(0.11) $ (0.16) $ 0.37
Loss from discontinued operations (0.47) - (0.61) -
Cumulative effect of change in
accounting - - (0.06) 0.08
Net income (loss) $(0.58) $(0.11) $ (0.83) $ 0.45
Cash dividends $0.025 $ 0.25 $ 0.30 $ 0.75
Weighted average number of shares 43.9 43.4 43.7 43.5
See accompanying notes to financial statements.
</TABLE>
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries
Condensed Consolidated Balance Sheet
September 30, 1994 and December 31, 1993
(in millions)
<TABLE>
<CAPTION>
September 30, December 31,
1994 1993
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents:
Operating $ 237.0 $ 151.5
Fiduciary 576.7 490.7
Short-term investments:
Operating 9.1 3.2
Fiduciary 296.9 313.4
Premiums and fees receivable (less
allowance for doubtful accounts
of $21.8 in 1994 and $20.3 in 1993) 1,060.5 1,172.3
Prepaid expenses and other current assets 136.3 140.6
Total current assets 2,316.5 2,271.7
Property and equipment - net 146.3 152.4
Intangible assets - net 186.9 188.8
Other 170.0 180.9
$2,819.7 $2,793.8
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Premiums payable to insurance companies $1,707.7 $1,744.0
Short-term debt and current portion
of long-term debt 20.9 29.2
Accounts payable and accrued expenses 226.0 312.3
Total current liabilities 1,954.6 2,085.5
Long-term liabilities:
Long-term debt 129.8 111.8
Deferred income taxes 17.0 17.9
Net liabilities of discontinued operations 50.1 106.5
Other 219.0 195.9
Total long-term liabilities 415.9 432.1
Contingent liabilities
8% Series B Cumulative Convertible preferred
stock contingency 10.0 -
See accompanying notes to financial statements.
</TABLE>
- - - -Continued-
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries
Condensed Consolidated Balance Sheets (continued)
September 30, 1994 and December 31, 1993
(in millions)
<TABLE>
<CAPTION>
September 30, December 31,
1994 1993
(Unaudited)
<S> <C> <C>
Stockholders' equity:
Series A junior participating preferred
stock, issued and outstanding, none - -
$3.625 Series A convertible preferred stock,
issued and outstanding 2.3 and 2.3 shares,
respectively 2.3 2.3
8% Series B Cumulative Convertible preferred
stock, issued and outstanding, 4.1 shares and
none, respectively 4.1 -
Common stock, issued and outstanding 41.2
and 40.7 shares, respectively 41.2 40.7
Class A common stock, issued and outstanding
2.3 and 2.4 shares, respectively - -
Class C common stock, issued and outstanding
0.4 and 0.4 shares, respectively 0.4 0.4
Class D common stock, issued and outstanding,
none - -
Paid-in capital 610.0 423.4
Accumulated deficit (168.5) (119.0)
Net unrealized investment losses - net of
deferred income taxes (0.6) -
Accumulated translation adjustments (49.7) (71.6)
Total stockholders' equity 439.2 276.2
$2,819.7 $2,793.8
See accompanying notes to financial statements.
</TABLE>
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries
Unaudited Consolidated Statements of Cash Flows
For the Nine Months Ended September 30, 1994 and 1993
(in millions)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
1994 1993
<S> <C> <C>
Cash provided (used) by:
Operating activities:
Income from continuing operations $ 2.1 $ 20.4
Adjustments to reconcile to net cash
provided (used) by operating activities:
Depreciation and amortization 38.8 40.3
Deferred income taxes 11.1 (6.3)
Gains on dispositions of subsidiaries and
other assets - net of tax - (2.5)
Other 8.9 7.7
Changes in assets and liabilities, net of
effects from acquisitions and dispositions:
Net fiduciary cash and cash equivalents and
short-term investments (32.7) (103.3)
Premiums and fees receivable 158.4 47.2
Prepaid expenses and other current assets 17.6 2.9
Other assets 0.7 (12.7)
Premiums payable to insurance companies (116.3) 31.0
Accounts payable (11.1) 7.9
Other current liabilities (83.0) (72.9)
Other long-term liabilities 15.5 46.0
Discontinued operations, net (80.9) (8.5)
Cumulative effect of change in accounting (2.6) 3.3
Net cash provided (used) by operating
activities (73.5) 0.5
Investing activities:
Net purchases of property and equipment (17.2) (17.0)
Purchases of businesses (2.3) (0.4)
Proceeds from sales of subsidiaries and
other assets 0.4 10.0
Purchases of operating investments (38.0) (74.8)
Sales/maturities of operating investments 7.4 59.4
Net cash used by investing activities (49.7) (22.8)
See accompanying notes to financial statements.
</TABLE>
- - - -Continued-
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries
Unaudited Consolidated Statements of Cash Flows (Continued)
For the Nine Months Ended September 30, 1994 and 1993
(in millions)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
1994 1993
<S> <C> <C>
Financing activities:
Cash dividends $ (19.3) $ (35.0)
Proceeds from issuance of short-term debt 8.0 -
Repayments of short-term debt (24.8) -
Proceeds from issuance of long-term debt 51.0 1.1
Repayments of long-term debt (7.9) (18.0)
Issuance of common and preferred stock 196.5 114.0
Distributions of earnings of pooled entity - (5.6)
Net cash provided by financing activities 203.5 56.5
Effect of exchange rate changes on operating
cash and cash equivalents 5.2 (0.8)
Operating cash and cash equivalents at
beginning of year 151.5 117.0
Operating cash and cash equivalents at end
of period $ 237.0 $ 150.4
Supplemental cash flow information:
Cash paid during the period for:
Interest $ 9.6 $ 9.1
Income taxes 30.8 32.2
Non-cash investing and financing activities:
Notes received on dispositions of subsidiaries $ - $ 2.0
Sale of direct financing lease and related
mortgage notes 19.0 -
See accompanying notes to financial statements.
</TABLE>
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements
(Dollars in millions, except per share information)
1. Interim Financial Presentation
In the opinion of the Company, all adjustments necessary for a fair
presentation have been included in the consolidated financial statements. The
results of operations for the first nine months of the year are not necessarily
indicative of results for the year. Certain prior period amounts have been
reclassified to conform with the current year presentation.
Effective September 30, 1994, the Company changed its presentation of cash
flows to distinguish fiduciary cash and cash equivalents and fiduciary
investments from operating cash and cash equivalents and operating
investments. The Company believes that this presentation of cash flows
provides more useful information regarding the cash flows that are
available for general corporate purposes.
The effect on previously reported cash flows for the year ended December
31, 1993 adjusted for this change in presentation is as follows:
Net cash provided by operating activities:
As previously reported $ 49.9
As adjusted 3.9
Cash and cash equivalents:
As previously reported $642.2
As adjusted 151.5
2. Employees' Retirement Plans and Benefits
Effective January 1, 1994, the Company adopted SFAS No. 112, "Employers'
Accounting for Postemployment Benefits." This statement requires that certain
benefits provided to former or inactive employees after employment but prior to
retirement, including disability benefits and health care continuation
coverage, be accrued based upon the employees' services already rendered. The
cumulative effect of this accounting change was an after-tax charge of $2.6
million or $0.06 per share in the first quarter of 1994. The increase to the
annual cost of providing such benefits will not be significant.
Effective January 1, 1993, the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 106, "Employers' Accounting for Postretirement
Benefits Other Than Pensions" for its U.S. plans. This statement requires the
Company to accrue the estimated cost of future retiree benefit payments during
the years the employee provides services. The Company previously expensed the
cost of these benefits, which are principally health care and life insurance,
as premiums or claims were paid. The statement allowed recognition of the
cumulative effect of the liability in the year of the adoption or the
amortization of the obligation over a period of up to twenty years. The
Company elected to recognize the initial postretirement benefit obligation of
$14 million over a period of twenty years.
3. Dispositions
On November 10, 1994, the Company completed the sale of its U.S.-based personal
lines insurance broking business. The total proceeds from the fourth quarter
sale will approximate $30 million with a resulting pre-tax gain of approximately
$20 million. Substantially all of these proceeds will be received by the
Company in January 1995.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
4. Other Income and Expenses
Other non-operating income (expenses) is comprised of the following:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1994 1993 1994 1993
<S> <C> <C> <C> <C>
Gains on sales of subsidiaries $ - $ 0.7 $ - $ 4.1
Litigation costs (2.3) (6.2) (7.7) (13.3)
Other 0.3 (0.2) (0.8) 1.5
$(2.0) $(5.7) $(8.5) $ (7.7)
During the nine months ended September 30, 1993, the Company sold three small
operations for gross proceeds of $7.6 million. Pre-tax gains of $4.1 million
have been recognized on the sales with resulting after-tax gains totaling $2.5
million, or $0.06 per share.
Litigation costs are associated primarily with the Mutual Fire lawsuit
described in Note 11 of Notes to Unaudited Financial Statements.
5. Income Taxes
Effective January 1, 1993, the Company adopted SFAS No. 109, "Accounting for
Income Taxes." The cumulative effect of adopting this standard increased net
income in the first quarter of 1993 by $3.3 million or $0.08 per share. Tax
benefits of $3.2 million were also allocated to paid-in capital representing
the difference in the tax bases over the book bases of the net assets of
taxable business combinations accounted for as pooling of interests. These
benefits would have been recognized at the respective dates of combination if
SFAS No. 109 had been applied at that time.
During 1993, the Company reached an agreement with the Appeals Office of the
Internal Revenue Service (IRS) on settlement of tax issues with respect to
years 1980 through 1986, most of which relate to issues arising out of the
acquisition of Alexander Howden Group plc. (Alexander Howden). The Company was
advised by the IRS, in a letter dated May 26, 1994, that the Joint Committee on
Taxation had approved that settlement agreement. The liability for tax and net
interest with regard to this settlement will actually be due for years 1987
through 1989 due to acceleration in the use of net operating losses and tax
credits. The Company is currently under examination by the IRS for years 1987
through 1991.
On August 26, 1994, the Company received a Notice of Proposed Adjustment from
the IRS in connection with the examination of its 1990 and 1991 U.S. federal
income tax returns, proposing an increase in taxable income for the 1991 tax
year which would result in an additional tax liability estimated by the Company
at $50 million. This proposed adjustment relates to intercompany transactions
involving the stock of a United Kingdom subsidiary.
The Company disagrees with the IRS position on this issue. Although the
ultimate outcome of the matter cannot be predicted with certainty, the Company
and its independent tax counsel believe there are meritorious defenses to the
proposed adjustment and substantial arguments to sustain the Company's position
and that the Company should prevail in the event this issue is litigated. A
similar set of transactions occurred in 1993, which year is not currently under
examination, for which the IRS could propose an increase in taxable income
which would result in an additional tax liability estimated by the Company at
$25 million. The Company believes it should prevail in the event this similar
issue is raised by the IRS. Accordingly, no provision for any liability with
respect to the 1991 and 1993 transactions has been made in the accompanying
consolidated financial statements.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
5. Income Taxes (continued)
The Company believes that its current tax reserves are adequate to cover its
tax liabilities, including the 1980-1986 settlement.
6. Intangible Assets
Amortization of intangible assets included in operating expenses amounted to
$3.1 million and $3 million for the three months ended September 30, 1994 and
1993, respectively, and $9.3 million and $9.2 million for the nine months ended
September 30, 1994 and 1993, respectively.
The Company evaluates the carrying value of its intangible assets, principally
goodwill, by projecting operating results over the remaining lives of such
assets on an undiscounted basis. Such projections take into account past
financial performance as well as management's estimate of future operating
results.
7. Discontinued Operations
In March 1985, the Company discontinued the insurance underwriting operations
acquired in 1982 as part of the Alexander Howden acquisition. In 1987, the
Company sold Sphere Drake Insurance Group (Sphere Drake) and is currently
running-off the Atlanta and Bermuda insurance companies.
The 1987 Sphere Drake sales agreement provides indemnities by the Company for
various potential liabilities including provisions covering future losses on
the insurance pooling arrangements from 1953 to 1967 between Sphere Drake and
Orion Insurance Company (Orion), a U.K.-based insurance company, and future
losses pursuant to a stop loss reinsurance contract between Sphere Drake and
Lloyd's Syndicate 701 (Syndicate 701). In addition, the sales agreement
requires the Company to assume any losses in respect of actions or omissions by
Swann & Everett Underwriting Agency (Swann & Everett), an underwriting
management company previously managed by Alexander Howden.
The types of claims being reported on the Orion insurance pooling arrangement
are primarily asbestosis, environmental pollution and latent disease claims in
the U.S. and are coupled with substantial litigation expenses. Liabilities for
these claims cannot be estimated by conventional actuarial reserving techniques
because the available historical experience is not sufficient to apply such
techniques for these types of claims and case law, which will ultimately
determine the extent of these liabilities, is still evolving. To date, U.S.
case law has already altered the intent and scope of these policies to some
extent. Therefore, the Company has obtained advice from an independent
actuarial firm which used available exposure information and various projection
techniques in estimating the Company's ultimate exposure. The Company has
provided as its ultimate exposure the actuarial firm's latest available point
estimate, which approximates the mid-point within their range of expected loss,
and a provision for Sphere Drake's share of uncollectible reinsurance
recoverables. The $70 million difference between the low and high estimates of
their range is quite wide due to the expansion of coverage and liability by
certain state courts and legislatures for environmental pollution and other
losses in the past and the possibility of similar interpretations in the
future, as well as the uncertainty in determining what scientific standards
will be acceptable for measuring site cleanup.
On October 21, 1994, Orion was placed in provisional liquidation pursuant to
an order of the English Courts. The Company cannot currently assess what the
effect, if any, the provisional liquidation will have on the Orion exposures.
The Company is actively monitoring and assessing the situation.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
7. Discontinued Operations (continued)
Sphere Drake's appeal of a lawsuit against the Names on Lloyd's Syndicate 701
seeking payment of funds due Sphere Drake pursuant to a stop-loss reinsurance
contract with Syndicate 701 and a determination of continuing stop-loss
coverage protecting Sphere Drake under that contract was heard in October 1993
with the U.K. Court of Appeal upholding the adverse decision of the lower
court. The Company has provided $45.4 million as its ultimate exposure under
this indemnity based on the latest available estimate by an independent
actuarial firm. However, the Company's opinion is that this indemnity is
limited in amount to $18.6 million beyond what the Company has currently
provided, pursuant to the terms of the stop-loss reinsurance contract.
Swann & Everett managed the activities of certain underwriting pools for the
years 1964 to 1967 for a U.K.-based insurance company. Swann & Everett
allegedly commuted reinsurance protections improperly covering these
underwriting pools and has agreed with the insurance company to pay losses
that would have been covered by the reinsurance protections. The underwriting
pools wrote reinsurance business through Lloyd's and the London market.
Exposures associated with these underwriting pools are primarily asbestosis,
environmental pollution and latent disease claims. Based on the estimate of an
independent actuarial firm, the Company has currently recorded $20.1 million as
its reserve for this exposure. The actuarial firm's estimate of the high end
of the range of expected loss is $14.9 million greater than the amount
currently recorded.
The actuarial firms referred to above have estimated a reasonably possible loss
in excess of the high estimate of their range of expected loss. This amount
in the aggregate for the Orion and Swann & Everett exposures is $85.3 million.
On July 1, 1994, the Company entered into an insurance-based financing contract
(the Contract) with a reinsurance company that affords certain protection to
the Company for the Orion, Syndicate 701, Swann & Everett, and certain other
exposures included in discontinued operations. The established reserve for
these exposures was $148.5 million at July 1, 1994. The Contract provides for
a payment by the Company of $80 million ($50 million of which was borrowed from
the reinsurance company) to the reinsurance company and for payment by the
Company of the first $73 million of the established reserve. In accordance
with the Contract, which will be accounted for under the deposit method of
accounting, the remaining established reserve of $75.5 million is recoverable
from the reinsurance company. The Contract also provides protection for paid
losses in excess of the established reserve through recoveries of such paid
losses from the reinsurance company. Such recoveries are initially limited
to $25 million and, depending on the timing and amount of loss payment
recoveries, could increase to a maximum of $120 million. At September 30,
1994, the recovery of losses from the reinsurance company, beyond the $75.5
million related to the established reserve, is limited to $26.6 million. The
Contract obligates the Company to pay additional amounts to the reinsurance
company for losses in excess of $26.6 million. Commencing December 31, 1996,
depending on the timing and amount of loss payment recoveries under the
Contract, the Company may be entitled to receive payments from the reinsurance
company in excess of amounts recovered for paid losses if the Contract is
terminated. The Contract may be terminated starting December 31, 1996 at the
Company's option and may be terminated at the reinsurance company's option if the
Atlanta and Bermuda reinsurance agreements discussed below are terminated prior to
January 1, 2006. In connection with the AIG Agreement discussed in Note 12 of
Unaudited Notes to Financial Statements, the Company's right to terminate the
Contract is subject to the consent of AIG as long as AIG is the holder of the
shares related to the AIG Agreement.
As a result of this transaction, the Company recorded a $6 million charge in
the second quarter of 1994 representing the amount of the payment to the
reinsurance company that exceeded the recoverable portion of existing reserves
for the covered exposures.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
7. Discontinued Operations (continued)
If it becomes probable that the ultimate exposures covered by the Contract will
exceed recorded liabilities, the Company would increase the recorded
liabilities to the required amount. To the extent that the recorded increase in
those liabilities is recoverable under the Contract, that amount would be
recorded as an asset of discontinued operations. To the extent that the recorded
increase would not be recoverable under the Contract, that amount would be
recorded as a loss from discontinued operations. The Contract provides for an
aggregate limit on the amount of payments to be made to the Company. If it
becomes probable that the ultimate amount of the exposures covered by the
Contract will exceed the aggregate contract limits, the total amount of such
excess would be recorded as a loss from discontinued operations in the period
that such determination is made.
In November 1994, the Company announced an agreement in principle to resolve
certain indemnity obligations to Sphere Drake. Under terms of the agreement,
which is subject to a definitive written contract, the Company will receive a
cash payment of approximately $5 million from Sphere Drake in settlement of the
zero coupon notes receivable and related indemnities as well as certain income
tax liabilities. The Company recorded a $20.9 million loss from discontinued
operations in the third quarter in connection with this agreement.
Reinsurance agreements provide the Atlanta and Bermuda insurance companies with
insurance coverage for their reserves as of December 31, 1988, and for up to
$50 million of insurance coverage for potential losses in excess of those
reserves, subject to a deductible for one of the Atlanta companies of $12.5
million which under certain circumstances could increase to $15 million. At
September 30, 1994, the Company has recorded $5.6 million of the deductible,
which approximates the midpoint of the actuarial firm's range of expected loss,
and has utilized $21.7 million out of the $50 million of insurance coverage.
The remaining unrecognized deductible of $6.9 million is within the actuarial
firm's range of expected loss. The agreements also provide for a reinsurance
premium adjustment whereby at any time after January 1, 2001, the reinsurance
agreements can be terminated and any excess funds, net of any reinsurance
premium paid to a substitute reinsurance company, would be returned to the
Company. The reinsurance premium adjustment is currently estimated to be
$11.3 million.
A summary of the net liabilities of the Company's discontinued operations is as
follows:
</TABLE>
<TABLE>
<CAPTION>
September 30, December 31,
1994 1993
<S> <C> <C>
Assets
Cash and investments $ 22.8 $ 18.8
Reinsurance recoverable and other assets 170.7 105.8
Zero coupon notes 5.0 28.5
198.5 153.1
Claims and other liabilities 259.6 266.6
Net liabilities of discontinued operations $ 61.1 $113.5
</TABLE>
The net liabilities of the Company's discontinued operations are presented in
the Consolidated Balance Sheets as follows:
<TABLE>
<CAPTION>
September 30, December 31,
1994 1993
<S> <C> <C>
Accounts payable and accrued expenses $ 11.0 $ 7.0
Net liabilities of discontinued operations 50.1 106.5
Total net liabilities of discontinued
operations $ 61.1 $113.5
</TABLE>
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
7. Discontinued Operations (continued)
The changes in the net liabilities of the Company's discontinued operations for
the nine months ended September 30, 1994 are as follows:
1994
Balance, January 1, $113.5
Provision for loss 26.9
Payment of Contract, claims and expenses (80.9)
Distributions 3.6
Translation adjustment (2.0)
Balance, September 30, $ 61.1
The Sphere Drake indemnities and other liabilities arising out of the
discontinued operations are expected to be settled and paid over many years and
could extend over a 20 to 30 year period.
The Company believes that, based on current estimates, the established claim
and other liabilities and the estimated reinsurance premium adjustment will be
sufficient to cover exposures and other expenses associated with its
discontinued operations. However, there is no assurance that further adverse
developments may not occur due to variables inherent in the estimation process,
including estimating insurance reserves for environmental pollution, latent
disease and other exposures, the collectibility of reinsurance recoverable
balances, the effect of future legislation and other matters described above.
It is possible that future developments with respect to these matters could
have a material effect on future interim or annual results of operations.
However, the Company currently believes that such impact will not be material
to the Company's financial condition.
8. Per Share Data
Primary earnings per share are computed by dividing earnings (loss)
attributable to common stockholders by the weighted average number of shares of
Common Stock and their equivalents (Class A and Class C Common Stock)
outstanding during the period and, if dilutive, shares issuable upon the
exercise of stock options and upon conversion of the convertible subordinated
debentures. The $3.625 Series A Convertible Preferred Stock issued in March
1993 and the Series B Convertible Preferred Stock issued in July 1994, are not
common stock equivalents. The computation of fully diluted earnings per share
for the periods presented was antidilutive; therefore, the amounts for primary
and fully diluted earnings are the same.
9. Investments
Effective January 1, 1994, the Company adopted SFAS No. 115, "Accounting for
Certain Investments in Debt and Equity Securities." In accordance with the
Statement, the Company has classified all debt and equity securities as
available for sale. As of January 1, 1994, net unrealized holding gains
totaled $5.5 million, net of deferred income taxes of $3.6 million. At
September 30, 1994, net unrealized holding losses totaled $0.6 million, net of
deferred income taxes of $0.2 million, and are reported as a separate component
of stockholders' equity. During the first nine months of 1994, proceeds from
sales of securities totaled $145.4 million with gross realized gains totaling
$0.5 million.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
9. Investments (continued)
The amortized cost and estimated fair value of debt and equity securities and
financial instruments used to hedge these investments as of September 30, 1994
are summarized below:
<TABLE>
<CAPTION>
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
<S> <C> <C> <C> <C>
Equity securities $ 2.3 $5.2 $ - $ 7.5
Euro-time deposits 70.3 - (0.2) 70.1
Certificates of deposit 107.7 - - 107.7
U.S. Government agencies/
state issuances 28.0 - - 28.0
Mortgage backed
securities 66.4 - - 66.4
Other 61.2 - (0.2) 61.0
Financial instruments -
used as hedges - 0.9 (6.1) (5.2)
Total debt & equity
securities $335.9 $6.1 $(6.5) $335.5
</TABLE>
The amortized cost and estimated fair value of debt securities at September 30,
1994 by contractual maturity are summarized below:
<TABLE>
<CAPTION>
Estimated
Amortized Fair
Cost Value
<S> <C> <C>
Due in one year or less $ 194.6 $ 194.4
Due after one year through five years 72.4 72.2
Due after five years through ten years 0.2 0.2
267.2 266.8
Mortgage backed securities 66.4 66.4
Total debt securities $ 333.6 $ 333.2
</TABLE>
Certain of the above investments with maturities greater than one year are
classified as short-term and included in current assets as they represent
fiduciary investments that will be utilized during the normal operating cycle
of the business to pay premiums payable to insurance companies that are
included in current liabilities.
10. Long-Term Debt
The Company has a $150 million credit agreement with various banks which
expires in July 1995. The agreement provides for unsecured borrowings and
contains various covenants including limits on minimum net worth, maximum
consolidated debt, minimum interest coverage and minimum consolidated cash flow
from operations.
The Company has full and immediate access to the $150 million credit line, has
no borrowings outstanding under this agreement and does not anticipate a need
to borrow under the agreement for the duration of its term.
On July 1, 1994, Alexander & Alexander Services Inc. borrowed $50 million from
the reinsurance company that executed the Contract described in Note 7 of
Unaudited Notes to Financial Statements. The note is payable in five equal
annual installments, commencing July 1, 1997 and bears interest at a rate of
9.45%. If Alexander & Alexander Services Inc. defaults on the borrowing, the
reinsurance company may utilize the Alexander & Alexander Services Inc. note to
settle reinsurance claims under the Contract.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
10. Long-Term Debt (continued)
On July 15, 1994, the purchasers of Shand, Morahan & Company, Inc. (Shand)
executed their Purchase Agreement option to purchase an office building owned
and accounted for by the Company as a direct financing lease by assuming the
non-recourse mortgage notes of $19.5 million. No gain or loss was recognized
on this transaction.
11. Contingent Liabilities
The Company and its subsidiaries are subject to various claims and lawsuits
from both private and governmental parties, which includes claims and lawsuits
in the ordinary course of business, consisting principally of alleged errors
and omissions in connection with the placement of insurance and in rendering
consulting services. In some of these cases, the remedies that may be sought
or damages claimed are substantial. Additionally, the Company and its
subsidiaries are subject to the risk of losses resulting from the potential
uncollectibility of insurance and reinsurance balances and claims advances made
on behalf of clients, exceeding policy limits, and indemnifications connected
with the sales of certain businesses.
Following the acquisition of Alexander Howden in January 1982, certain claims,
relating primarily to the placement of reinsurance by Alexander Howden
subsidiaries and questionable broking and underwriting practices of former
Alexander Howden officials and others, were asserted. In particular, claims
have been asserted against the Company and certain of its subsidiaries
alleging, among other things, that certain of the Company's subsidiaries
accepted, on behalf of certain insurance companies, insurance or reinsurance at
premium levels not commensurate with the level of underwriting risks assumed
and retroceded or reinsured those risks with financially unsound reinsurance
companies. In three pending actions, plaintiffs seek compensatory and punitive
damages totaling $147 million based on treble damage claims under the Racketeer
Influenced and Corrupt Organizations Act. Management of the Company believes
that there are valid defenses to all the claims that have been made with
respect to these activities and the Company is vigorously defending the pending
actions.
In 1987, the Company sold Shand, its domestic underwriting management
subsidiary. The Company has agreed to indemnify the purchasers of Shand
against certain contingencies, including the Mutual Fire, Marine and Inland
Insurance Company (Mutual Fire) and the errors and omissions contingencies
described below. These indemnification obligations are not limited in amount
or duration.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
11. Contingent Liabilities (continued)
Prior to its sale in 1987, Shand and its subsidiaries provided underwriting
management services for and placed insurance and reinsurance with and on behalf
of Mutual Fire. Mutual Fire was placed in rehabilitation by the Courts of the
Commonwealth of Pennsylvania in December 1986. In January 1990, the
Supervisory Court approved a plan of rehabilitation for Mutual Fire. The
rehabilitator, in February 1991, filed a complaint in the Commonwealth court
against Shand and the Company. The case was subsequently removed to the U.S.
District Court for the Eastern District of Pennsylvania. The complaint alleges
that Shand, and in certain respects the Company, breached duties to, and
agreements with, Mutual Fire. In addition to claiming compensatory damages,
the complaint seeks punitive damages and recovery of certain commissions paid
to Shand and the Company. The complaint does not specify, to any meaningful
degree, the amount of alleged damages incurred or sought. The rehabilitator,
through an updated expert's report, has indicated to Shand and the Company that
the damages alleged are in the amount of $234.6 million. The expert's report
previously alleged damages in the amount of $238.5 million. The Company and
Shand strongly disagree with the alleged damages in the updated report and have
substantial arguments to sustain their position. The Company and Shand have
finalized a series of expert's reports that rebut the rehabilitator's report.
The case may be placed on the trial calendar in 1994 or early 1995. Management
believes that there are valid defenses to the allegations set forth in the
complaint, and the Company intends to vigorously defend against this action.
Also, the sales contract between the Company and Shand's purchasers obligates
the Company to certain indemnities with respect to transactions involving
Mutual Fire. In November 1992, the purchaser asserted indemnification claims
related to reinsurance recoverables due from Mutual Fire. In February 1993,
the Company agreed to settle certain of these claims. The Company has recorded
$8.2 million as its estimate of its exposure under this settlement, net of
anticipated recoveries from certain trusteed assets held for Shand's benefit of
$10.8 million and net of $4.6 million of set-offs. The Mutual Fire
rehabilitator has challenged Shand's right to recover these assets and
utilization of such set-offs.
The purchasers of Shand have also notified the Company of indemnification
claims for reinsurance recoverables arising under the Company's obligation to
indemnify the purchasers for losses suffered as a result of errors and
omissions in connection with professional services provided by Shand prior to
the sale of Shand in 1987. To date, five reinsurers have alleged that Shand
committed such errors and omissions, and the purchasers of Shand have advised
the Company that other reinsurers may make similar allegations in the future.
To date, there has been no finding that Shand in fact committed any error or
omission. Shand is actively disputing these allegations in arbitrations
against these reinsurers. Of the five indemnification claims asserted by the
purchasers of Shand against the Company, two have been settled. The remaining
three indemnification claims are the subject of an arbitration proceeding
brought by the purchasers against the Company in August 1994 in which the
purchasers seek payment of reinsurance recoverables or the posting
of collateral for such recoverables. The amounts in question approximate
$16.5 million.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
11. Contingent Liabilities (continued)
On September 20, 1994, the purchasers of Shand notified the Company that three
additional reinsurers have made similar allegations claiming $6.2 million in
unpaid recoverables and asserting that the Company is responsible for posting
collateral of another $22.6 million and that these claims may be included in
the arbitration proceedings. Additional indemnity claims may be made by the
purchasers of Shand if other reinsurers stop paying based on pre-sale errors
and omissions. If those claims were upheld, the Company's resulting
indemnification obligation could be significant. The Company believes that,
until the merits of the alleged errors and omissions have been adjudicated,
the Company's exposure under this indemnity is limited to the costs and
related expenses incurred by Shand in adjudicating the merits of the
allegations. The Company is vigorously disputing the indemnification claims
for reinsurance recoverables asserted by the purchasers of Shand in the
arbitration proceedings.
On November 4, 1993, a class action suit was filed against the Company and
two of its former directors and officers in the United States District Court
for the Southern District of New York. In response to the defendant's motion
to dismiss, an amended complaint was filed on February 16, 1994, purportedly
on behalf of a class of persons who purchased the Company's Common Stock
during the period May 1, 1991 to September 28, 1993, alleging that during said
period the Company's financial statements contained material
misrepresentations as a result of inadequate reserves established by the
Company's subsidiary, Alexander Consulting Group Inc., for unbillable work
in progress. The amended complaint seeks damages in an unspecified amount,
as well as attorneys' fees and other costs, for alleged violations of the
federal securities laws. At a conference with the U.S. District Court for
the Southern District of New York in March 1994, counsel for the plaintiff
was directed to inform counsel for the Company whether plaintiff intended to
file a second amended complaint. On October 31, 1994, plaintiff's counsel
notified the Company that plaintiff intends to seek permission to file a second
amended complaint. The Company currently believes the reasonably possible loss
that might result from this action, if any, would not be material to the
Company's financial position or results of operations.
These contingent liabilities involve significant amounts. While it is not
possible to predict with certainty the outcome of such contingent liabilities,
the applicability or availability of coverage for such matters under the
Company's professional indemnity insurance program, or their financial impact
on the Company, management currently believes that such impact will not be
material to the Company's financial position. However, it is possible that
future developments with respect to these matters could have a material effect
on future interim or annual results of operations.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
12. Common and Preferred Stock
At a special meeting of the Company's stockholders held on July 15, 1994
(Special Meeting) an amendment to the Company's Charter (Charter Amendment)
was approved. The Charter Amendment authorized (i) an increase in the number
of authorized shares of stock of the Company (ii) the terms of a new class of
common stock, Class D Common Stock, par value $1.00 (Class D Stock) and (iii)
other minor amendments. At the special meeting, stockholders also approved
the transactions contemplated by the Stock Purchase and Sale Agreement
entered into by the Company and American International Group, Inc. (AIG) on
June 7, 1994, as it may be amended from time to time (AIG Agreement), which
included approval of the issuance and sale of 4,000,000 shares of the
Company's 8% Series B Cumulative Convertible Preferred Stock, par value $1.00
(Series B Convertible Preferred Shares) to three wholly owned subsidiaries of
AIG at a purchase price of $50 per share for a total purchase price of $200
million (AIG Investment).
The Charter Amendment, which became effective on July 15, 1994, increased the
total authorized capital stock of the Company to 292,000,000 shares of five
classes consisting of 200,000,000 shares of Common Stock, par value $1.00
(Common Stock); 26,000,000 shares of Class A Common Stock, par value $.00001
(Class A Common Stock) 11,000,000 shares of Class C Common Stock, par value
$1.00 (Class C Common Stock); 40,000,000 Class D Stock; and 15,000,000 shares
of Preferred Stock, par value $1.00 (Preferred Shares). The aggregate par
value of all shares of all classes of stock which the Company will, pursuant
to the Charter Amendment, have authority to issue is $266,000,260. Prior to
the effective date of the Charter Amendment, the Company had total authorized
capital stock equal to 88,500,000 shares of four classes consisting of
60,000,000 shares of Common Stock; 13,000,000 Class A Common Stock, 5,500,000
Class C Common Stock, and 10,000,000 Preferred Shares.
In related matters, on July 15, 1994, the Board of Directors authorized an
increase in the number of authorized shares of the Series A Junior
Participating Preferred Stock, par value $1.00 (Participating Preferred
Shares), from 600,000 shares to 1,000,000 shares and certain amendments were
made to the Company's Rights Agreement associated with the Participating
Preferred Shares.
Common Stock and Equivalents
In addition to its Common Stock, the Company has issued two classes of voting
equity securities, Class A and Class C Common Stock, with voting rights equal
to the Company's Common Stock. Associated with each such share is a dividend
paying share issued by a Canadian (RSC Class 1 share) or a United Kingdom
(AASUK Dividend share) subsidiary which pays dividends in Canadian dollars and
pounds sterling respectively, equivalent to the dividends paid on shares of
Common Stock. Holders of these securities, therefore, hold the economic
equivalent of shares of Common Stock. Each Class A share (together with an
RSC Class 1 share) and Class C share (together with an AASUK Dividend share)
may be exchanged at any time for a share of Common Stock.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
12. Common and Preferred Stock (continued)
Class D Stock
Shares of the Company's Series B Convertible Preferred Shares are converible
into Class D Stock, at a conversion price of $17 per share, subject to
adjustment. No shares of Class D Stock are currently outstanding. Holders
of the Class D Stock have the same rights to receive dividends as the holders
of the Common Stock. In the event of the voluntary or involuntary
liquidation, dissolution or winding up of the Company, the holders of Class D
Stock and Common Stock participate ratably in proportion to the number of
shares held by each such holder in any distribution of assets of the Company
to such stockholders. In addition, in the event the Company effects a
subdivision or combination or consolidation of the outstanding shares of
Class D Stock into a greater or lesser number of shares of Class D Stock,
then in each such case the Company will effect an equivalent subdivision or
combination or consolidation of the outstanding shares of Common Stock into a
greater or lesser number of shares of Common Stock. The Class D Stock are
non-voting, except as provided by law, in the event of a proposed amendment
to the Company's Charter that would adversely affect holders of shares of
Class D Stock and following the occurrence of a Specified Corporate Event.
The holders of the Class D Stock have the right to exchange Class D Stock for
Common Stock, at any time or from time to time, on a share-for-share basis,
provided, however, that no person is be entitled to acquire Common Stock upon
such exchange if after giving effect thereto such person has, or will have
the then contractual right to acquire through conversion, exercise of
warrants or otherwise, more than 9.9% of the combined voting power of the
Company's voting shares then outstanding, absent certain events.
Preferred Stock and Related Rights
The Company's Preferred Stock, $1.00 par value (Preferred Stock), can be
issued in one or more series with full or limited voting rights, with the
rights of each series to be determined by the Board of Directors before each
issuance.
Series A Convertible Preferred Shares
In March 1993, the Company completed a private placement of 2.3 million
shares of $3.625 Series A Convertible Preferred Shares (Series A Convertible
Preferred Shares). Gross proceeds of the offering were $115 million with net
proceeds to the Company of $110.9 million. Holders of the Series A
Convertible Preferred Shares are entitled to receive cumulative cash
dividends at an annual rate of $3.625 per share, payable quarterly in
arrears. The Series A Convertible Preferred Shares have priority as to
dividends over the Common Stock. The shares are convertible into Common
Stock at a conversion price of $31.875 per share of Common Stock, subject to
adjustments. Common Stock issued upon conversion will include Rights, as
described below, provided the conversion occurs prior to the distribution,
redemption or expiration of such Rights. The Series A Convertible Preferred
Shares may be redeemed by the Company on and after March 22, 1997, in whole
or in part, at $52.18 per share until March 14, 1998, and declining ratably
annually to $50 per share on or after March 15, 2003, plus accrued and unpaid
dividends. The Series A Convertible Preferred Shares are non-voting, except
as provided by law and except that, among other things, holders will be
entitled to vote as a separate class with any other series of outstanding
Preferred Stock to elect a maximum of two directors if the equivalent of six
or more quarterly dividends on the Series A Convertible Preferred Shares are
in arrears. The Series A Convertible Preferred Shares have a liquidation
preference of $50 per share.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
12. Common and Preferred Stock (continued)
Series B Convertible Preferred Shares
The Series B Convertible Preferred Shares were issued on July 15, 1994.
After giving effect to estimated transaction expenses and the cost of an
option for an insurance based financing arrangement, the sale of the Series B
Convertible Preferred Shares increased the Company's capital by approximately
$186 million. The shares are convertible into Class D Stock at a conversion
price of $17 per share of Class D Stock, subject to adjustment. The holders
of the Class D Stock have the right to exchange Class D Stock for Common
Stock, at any time or from time to time, on a share-for-share basis, subject
to certain limitations discussed below as to the amount of shares which may
be converted. Dividends on the Series B Convertible Preferred Shares will
reduce the amount of earnings otherwise available for common stockholders by
approximately $16 million in the first year after issuance, and by
approximately $23 million in the fifth year after issuance, assuming
dividends on the Series B Convertible Preferred Shares were to be paid in
kind throughout the first five years after issuance.
Holders of Series B Convertible Preferred Shares are entitled to receive
cumulative dividends at a rate of 8% per annum payable quarterly in arrears.
Until December 15, 1996, dividends on the Series B Convertible Preferred
Shares are payable in kind and thereafter, at the election of the board of
directors, in cash or in kind until December 15, 1999, provided that if the
Company at any time pays dividends in cash on or after December 15, 1996, the
Company may not thereafter declare or pay dividends in kind. With respect to
dividend rights and rights of liquidation, dissolution and winding up, Series
B Convertible Preferred Shares rank senior to Common Stock, Class A Common
Stock, Class C Common Stock, Class D Stock and Participating Preferred Shares
(when and if issued) and pari passu with the Series A Convertible Preferred
Shares.
In determining whether a distribution by the Company (other than upon
voluntary or involuntary liquidation), by dividend, redemption or other
acquisition of shares or otherwise, is permitted pursuant to the balance
sheet solvency test under the Maryland General Corporation Law, the aggregate
liquidation preference of the Series B Convertible Preferred Shares will not
be counted as a liability. The Series B Convertible Preferred Shares have a
liquidation preference of $50 per share.
Series B Convertible Preferred Shares are non-voting, except as provided by
law and except that, among other things, holders will be entitled to vote as
a separate class with any other series of outstanding Preferred Stock to
elect a maximum of two directors if the equivalent of six or more quarterly
dividends on the Series B Convertible Preferred Shares are in arrears.
Following the occurrence of a Specified Corporate Action (as defined in the
Company's Charter) holders shall also have the right to vote as a class with
the holders of the Common Stock and the Class D Stock on all matters as to
which the holders of Common Stock are entitled to vote. A Specified
Corporate Action is defined generally as an action by the Company that would
permit a change in control and certain related events. For the purposes of
such vote, the holders of the Series B Convertible Preferred Shares will be
deemed holders of that number of shares of Class D Stock into which such
shares would then be convertible.
The Series B Convertible Preferred Shares may be redeemed in whole or in part
by the Company after December 15,1999, so long as after that date the Common
Stock has traded 30 consecutive trading days on the New York Stock Exchange
at a price in excess of 150% of the then effective conversion price. The
redemption price will be $54 per share until December 14, 2000, declining
ratably annually to $50 per share on or after December 14, 2006, plus accrued
and unpaid dividends. All redemptions are to be made pro-rata.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
12. Common and Preferred Stock (continued)
Holders of Series B Convertible Preferred Shares have the right to require
the Company to purchase all or any part of the Series B Convertible Preferred
Shares then held by such holders upon the occurrence of a Special Event. A
Special Event consists of actions solely within the control of the Company
and includes the declaration or payment of dividends aggregating in excess of
$0.075 per share of Common Stock during the last seven months of 1994,
cumulatively 25% of earnings in 1995 and 1996, and cumulatively 50% of
earnings thereafter; the disposition by the Company of assets representing
35% or more of the Company's book value or gross revenues; and certain
mergers of the Company or any of its principal subsidiaries with or into any
other firm or entity. Other Special Events include the acquisition by a
third party, with the consent or approval of the Company, of beneficial
ownership of securities representing 35% or more of the Company's total
outstanding voting power. The repurchase price, in the event of a Special
Event, is at a specified premium, ranging from $58.82 per share, if the
Special Event occurs on or before six months after the original issue date,
to $72.06 per share, if the Special Event occurs more than twelve months
after the original issue date, plus in each case accrued and unpaid
dividends. The approximately 11,765,000 shares of Common Stock issuable upon
the ultimate conversion of the Series B Convertible Preferred Shares
represent approximately 21% of the aggregate number of voting shares
outstanding after giving effect to such issuance based on voting shares
outstanding as of August 1, 1994. If dividends on the Series B Convertible
Preferred Shares are paid in kind for the full five year period permitted,
approximately 18,069,000 shares of Common Stock will be issuable upon such
exchange, representing approximately 29% of the total number of voting shares
outstanding after giving effect to such issuance, based on voting shares
outstanding as of August 1, 1994.
Series A Junior Participating Preferred Shares
In 1987, Participating Preferred Shares were authorized and a dividend of
one preferred share purchase right (a Right) for each outstanding share of
Common Stock, each share of Class A and Class C Common Stock and each
subsequently issued share was declared. With respect to the Rights, the
Class D Stock will be treated as if such shares are Class C Common Stock.
Each Right, as amended, entitles the holder thereof to buy one one-hundredth
of a Participating Preferred Share at a price of $85 (subject to adjustment).
The Rights become exercisable only following the announcement by the Company
that a person or a group has acquired beneficial ownership of 15 percent or
more of the Company's voting shares or has commenced a tender or exchange
offer that if consummated would result in the ownership of 15 percent or more
of such voting shares. If the Rights become exercisable, each holder will be
entitled to purchase at the then-current exercise price that number of
Participating Preferred Shares having a value equal to twice the then-current
exercise price.
If the Company is subsequently acquired, each Right will entitle the holder
to purchase at the then-current exercise price, stock of the surviving
company having a market value of twice the exercise price of each Right. In
addition, if a person or group acquires more than 15 percent, but less than
50 percent, of the Company's voting shares, the Board of Directors may
exchange each Right for one one-hundredth of a Participating Preferred Share.
The Rights are redeemable by the Board until the time of announcement that
any person or group has beneficially acquired 15 percent or more of the
Company's voting shares. All rights beneficially owned by a holder of 15
percent or more of the voting shares become void once such holder passes the
15 percent threshold. The Rights are redeemable by action of the Board of
Directors prior to becoming exercisable at a redemption price of $.01 per
Right. The Rights will expire on July 6, 1997.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
12. Common and Preferred Stock (continued)
On April 21, 1992, the Board of Directors of the Company approved an
Amendment to the Rights Agreement (the Rights Agreement), dated as of June
11, 1987, between the Company and First Chicago Trust Company of New York,
as amended and restated as of March 22, 1990. The Amendment provides for
certain technical revisions in the Rights Agreement including definition of
Shares Acquisition Date to mean the first date of public announcement by the
Company that an Acquiring Person has become such. The Amendment also
provides that if the Rights become exercisable, the Company, acting by
resolution of the Board of Directors, may (and if a sufficient number of
Participating Preferred Shares is not available for issuance upon exercise
of the Right, shall), issue equity securities, debt securities, cash and/or
other property in lieu of Participating Preferred Shares.
In connection with the AIG Investment, the Board of Directors amended the
Rights Agreement, dated as of June 11, 1987, between the Company and First
Chicago Trust Company of New York, as amended and restated as of March 22,
1990, as amended April 21, 1993 (Rights Agreement). Pursuant to Amendment
No. 2 to the Rights Agreement, effective as of June 6, 1994, the acquisition of
Series B Convertible Preferred Shares upon closing of the AIG Agreement, the
acquisition of Class D Stock upon conversion of Series B Convertible Preferred
Shares, the acquisition of Common Stock upon exchange for Class D Stock or the
acquisition by AIG or its affiliates or any transferee thereof of any
securities of the Company (if such acquisition is permitted by the Purchase
Agreement) will not (i) cause any person to become an Acquiring Person,
(ii) cause the Distribution Date or the Shares Acquisition Date to occur, or
(iii) give rise to a Section 11(a)(ii) Event (as such capitalized terms are
defined in the Rights Agreement).
In addition, on July 15, 1994, the Board of Directors approved Amendment No. 3
to the Rights Agreement, which provides for, among other things, modifications
of the definitions of Acquiring Person and Distribution Date to raise from 10%
to 15% the percentage of stock ownership needed to cause a person to become an
Acquiring Person or to cause a Distribution Date to occur (as such capitalized
terms are defined in the Rights Agreement).
13. AIG Agreement and Amendment
Under the AIG Agreement, the Company has agreed to make certain payments to
AIG, incuding certain tax matters described in Note 5 of the Unaudited Notes
to Financial Statements, if tax payments and reserves relating to periods
before March 31, 1994 exceed the Company's tax reserves as of March 31, 1994,
or if the Company determines that certain liabilities were greater than, or
that certain assets had an ultimate realizable value less than, the related
amounts shown on the Company's balance sheet as of March 31, 1994. The making
of any such payments by the Company would, in effect, reduce the consideration
received by the Company for the Series B Convertible Preferred Shares.
Pursuant to an amendment to the AIG Agreement, dated as of November 10, 1994,
the Company's potential exposures under the indemnifications, individually or
in the aggregate, are limited to $10 million. As a result of this
indemnification, the Company has classified $10 million of the proceeds from
the issuance of the Series B Convertible Preferred Shares outside of
stockholders' equity until such time as the indemnifications, if any, are
satisfied or otherwise terminated. Under the AIG Agreement, AIG has also
agreed, with specified exceptions, to refrain from attempting to increase its
interest in or influence over the Company by tender offer or proxy solicitation
or other means through July 15, 2002 subject to the occurrence of certain
events that would terminate AIG's standstill covenants.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
14. Financial Instruments
The Company enters into foreign exchange forward contracts and foreign exchange
option agreements primarily to provide risk management against future exposures
that arise at its London-based specialty and reinsurance broking operations.
The exposures arise because a significant portion of the revenues of these
operations are denominated in U.S. dollars, while their expenses are primarily
denominated in U.K. pound sterling.
The Company generally sells forward U.S. dollars and purchases U.K. pound
sterling for periods of up to two years in the future. Such contracts provide
risk management against future anticipated transactions which are not firm
commitments. In addition, the Company enters into foreign exchange contracts
to manage market risk associated with foreign exchange volatility on
intercompany loans and expected intercompany dividends. Finally, the Company
enters into foreign exchange contracts to effectively offset existing contracts
when anticipated exchange rate movements would benefit the Company.
Gains and losses on contracts which are designated as hedges of firm
commitments are deferred until the settlement dates. Contracts which are not
designated as hedges are marked to market at each balance sheet date and are
included in other current assets, with the resulting gain or loss recorded as a
component of other operating expenses. The fair market value of all foreign
exchange contracts at September 30, 1994 was $3.7 million.
Foreign exchange options written by the Company are marked to market at each
balance sheet date. Future cash requirements may exist if the option is
exercised by the holder. Based on foreign exchange rates at September 30,
1994, these options could be exercised at a nominal cost to the Company.
At September 30, 1994, the Company has approximately $107.8 million notional
principal of forward exchange contracts outstanding, primarily to exchange U.S.
dollars into U.K. pound sterling, and approximately $36 million notional
principal outstanding, primarily to exchange U.K. pound sterling into U.S.
dollars. In addition, at September 30, 1994, the Company has approximately
$46.7 million notional principal of foreign exchange contracts outstanding
related to intercompany loans.
These foreign exchange contracts are generally purchased from large
international banks and financial institutions with strong credit ratings.
Credit limits are established based upon the credit ratings of such
institutions and are monitored on a regular basis. Management does not
anticipate incurring any losses due to non-performance by these institutions.
In addition, the Company monitors the market risk associated with forward
exchange and options contracts by using probability analyses, external pricing
systems and information from banks and brokers.
The Company has entered into interest rate swaps and forward rate agreements as
a means to limit the earnings volatility associated with changes in short-term
rates on its investments. These instruments are contractual agreements between
the Company and financial institutions which exchange fixed and floating
interest rate payments periodically over the life of the agreements without
exchanges of the underlying principal amounts. The notional principal amounts
of such agreement are used to measure the interest to be paid or received and
do not represent the amount of exposure to credit loss.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
14. Financial Instruments (continued)
The interest rate swaps and forward rate agreements are purchased from large
international banks and financial institutions with strong credit ratings.
Credit limits are established based on such credit ratings and are monitored on
a regular basis. Management does not anticipate incurring any losses due to
non-performance by these institutions. In addition, the Company monitors the
market risk associated with these interest rate agreements by using probability
analyses, external pricing systems and information from banks and brokers.
The Company records the difference between the fixed and floating rates of such
agreements as a component of its fiduciary investment income. The fair value
of these agreements at September 30, 1994 and December 31, 1993 was an
unrealized loss of $5.2 million and an unrealized gain of $2.7 million,
respectively. The fair value of these agreements was estimated by discounting
the future cash flows using rates currently available for agreements of similar
terms and maturities.
At September 30, 1994 and December 31, 1993 the Company has the following
interest rate swaps and forward rate agreements in effect, by year of final
maturity:
<TABLE>
September 30, 1994
<CAPTION>
Gross Net Weighted Gross Net Weighted
Receiving Average Paying Average
Year Fixed Interest Rate Fixed Interest Rate
<S> <C> <C> <C> <C>
1994 $225.3 7.11% $101.1 5.95%
1995 286.1 5.85 139.0 6.75
1996 166.6 6.27 - -
1997 20.0 6.65 - -
Total $698.0 6.38% $240.1 6.41%
</TABLE>
<TABLE>
December 31, 1993
<CAPTION>
Gross Net Weighted Gross Net Weighted
Receiving Average Paying Average
Year Fixed Interest Rate Fixed Interest Rate
<S> <C> <C> <C> <C>
1994 $208.0 5.81% $358.0 5.63%
1995 129.0 6.57 - -
1996 105.0 5.44 - -
Total $442.0 5.94% $358.0 5.63%
</TABLE>
In addition, as part of its interest rate management program, the Company
writes various types of interest rate options, including caps, collars, floors
and interest rate guarantees. The Company enters into these option agreements
as a means of enhancing the return on its fiduciary funds.
The options are marked to market at each balance sheet date, based on the
Company's estimated cost to settle the options. The estimated cost to settle
the options, less any premium deferred by the Company, is recognized as a
reduction to fiduciary investment income in the period when such changes in
market value occur.
<PAGE>
Alexander & Alexander Services Inc. and Subsidiaries (the Company)
Unaudited Notes to Financial Statements (continued)
14. Financial Instruments (continued)
These written options expose the Company to potential cash obligations, based
on future movements in interest rates. This exposure is measured by the
interest rate differential (contract rate versus the future market rate) times
the notional principal amount. At September 30, 1994, the Company recognized a
current liability of $1.4 million, representing the estimated cost to settle
these options at that date. The estimated cost to settle these options was
nominal at December 31, 1993. The estimated cost to settle these agreements
was determined by obtaining quotes from banks and other financial institutions
which make a market in these instruments.
At September 30, 1994 and December 31, 1993 the Company had the following
written interest rate option agreements outstanding, by year of final maturity
<TABLE>
September 30, 1994
<CAPTION>
Gross Net Weighted Gross Net Weighted
Receiving Average Paying Average
Year Fixed Interest Rate Fixed Interest Rate
<S> <C> <C> <C> <C>
1994 $ 7.9 6.78% $ 15.8 6.66%
1995 25.8 5.01 10.0 4.60
1996 33.7 5.67 7.9 5.00
Total $ 67.4 5.55% $ 33.7 5.66%
</TABLE>
<TABLE>
December 31, 1993
<CAPTION>
Gross Net Weighted Gross Net Weighted
Receiving Average Paying Average
Year Fixed Interest Rate Fixed Interest Rate
<S> <C> <C> <C> <C>
1994 $ 20.0 4.59% $ 15.0 4.87%
1995 22.0 5.75 - -
1996 42.0 5.40 7.0 5.00
Total $ 84.0 5.30% $ 22.0 4.91%
</TABLE>
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Results of Operations
General
The factors that have negatively influenced the Company's insurance services
revenues in the past years continued through the first nine months of 1994.
These factors include soft pricing due to the intense competition among
insurance underwriters. Consulting revenues have also been constrained during
this period due to the competitive environment and uncertainty over health care
reform in the U.S. The Company does not anticipate significant changes in such
conditions for the remainder of 1994. For the first nine months of 1994, the
Company reported a net loss of $27.4 million, or $0.83 per share. Included in
the results were a $26.9 million after-tax charge, or $0.61 per share, relating
to the Company's discontinued operations and a $2.6 million after-tax charge,
or $0.06 per share, for the cumulative effect of a change in an accounting
principle.
Since mid-June 1994, the Company's Board of Directors and management team have
completed a number of initiatives to implement its restructuring process and to
improve the Company's financial condition and future profitability. These
actions include the following:
* In June, Frank G. Zarb was appointed Chairman of the Board, President and
Chief Executive Officer of the Company.
* In June, the quarterly dividend on the Company's Common Stock and Common
Stock equivalents was reduced by 90 percent from $0.25 to $0.025 per share.
The estimated annual cash flow savings based upon the current number of
shares outstanding is approximately $39 million.
* In July, American International Group, Inc. invested $200 million in the
Company (the AIG Investment) and received 4 million shares of the Company's
non-voting 8% Series B Cumulative Convertible Preferred Stock, $1.00 par
value (the Series B Convertible Preferred Shares). Net proceeds to the
Company were approximately $196 million. Proceeds from this capital
infusion will be used for general corporate purposes, including significant
investments to improve its U.S. operations and other core businesses.
* In July, the Company entered into an insurance-based financing contract with
a reinsurance company that affords certain protection for exposures included
in discontinued operations. The contract provided for a payment by the
Company of $80 million to the reinsurance company. Of the $80 million
payment, $30 million was paid from the proceeds of the AIG Investment.
* In July, the Company borrowed $50 million from the reinsurance company that
executed the contract described above. The note is payable in five equal
annual installments, commencing July 1997.
* In July, the Company's credit agreement with various banks was amended to
restore the Company's ability to borrow up to $150 million. The Company has
no borrowings outstanding under this agreement, and does not anticipate a
need to borrow under the agreement for the remainder of its term which
expires in July 1995.
* In July and September, a total of six new directors were elected, increasing
the size of the Company's Board of Directors from 8 to 14 members.
* In August, Edward F. Kosnik was appointed Executive Vice President and Chief
Financial Officer of the Company.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations
General (continued)
* In October 1994, the Company announced the offering of a voluntary retirement
incentive program to more than 200 employees in three U.S. business units,
and a reduction in force of approximately 220 employees in the U.S. insurance
brokerage operation. These actions will result in an estimated $12 million
pre-tax charge in the fourth quarter.
* In November 1994, the Company announced an agreement in principle to resolve
certain indemnity obligations to Sphere Drake. The Company will receive a
cash payment of approximately $5 million from Sphere Drake in settlement of
the zero coupon notes receivable and related indemnities as well as certain
income tax liabilities. The Company recorded a $20.9 million loss from
discontinued operations in the third quarter relating to this agreement.
* In November 1994, the Company completed the sale of its U.S.-based personal
lines insurance broking business. The total proceeds from the fourth quarter
sale will approximate $30 million with a resulting pre-tax gain of
approximately $20 million.
In addition to these actions already taken, a number of initiatives are
underway to further strengthen the Company's balance sheet and increase
operating margins. The Company is conducting an analysis of its core
business activities and is currently reviewing its options with respect to
selling certain non-core businesses and other assets. The Company is also
actively reviewing its options with respect to other indemnity exposures
relating to operations previously sold. The Company is continuing
comprehensive worldwide reviews of its operations to identify and implement
ways of expanding new business efforts and reducing overall costs. These
reviews are expected to be completed by year-end 1994 and will result in a
significant charge for restructuring and other matters in addition to the $12
million fourth quarter charge announced in October. The combined charges are
expected to result in a loss for the fourth quarter and for the year.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Three Months Ended September 30, 1994 vs. 1993
Consolidated
The net loss for the three months ended September 30, 1994 was $20.8 million,
or $0.58 per share. Included in the results was a $20.9 million after-tax
charge, or $0.47 per share, relating to an agreement in principle to end
certain indemnity obligations to Sphere Drake Insurance Group for loss
reserves and reinsurance recoverables.
In the comparable period in 1993, the Company reported a net loss of $2.6
million, or $0.11 per share.
Operating Revenues
Consolidated operating revenues were $332.6 million for the third quarter of
1994, an increase of $5.5 million, or 1.7 percent, from the corresponding
period in 1993. After adjusting for a $3.2 million increase due to changes in
foreign exchange rates, an increase of $4 million for a Mexican retail broking
operation acquired in the third quarter of 1993 and a $2.3 million decrease
resulting from operations sold in 1993, total revenues were essentially equal
to 1993 levels.
Total commissions and fees were $318.7 million for the third quarter of 1994,
an increase of $5.5 million, or 1.8 percent, compared to 1993. Investment
income earned on fiduciary funds was unchanged for the third quarter of 1994.
Operating Expenses
Consolidated operating expenses were $328.4 million for the third quarter of
1994, an increase of $1.5 million, or 0.5 percent, versus the comparable
quarter of 1993. After adjusting for an $8.2 million unfavorable foreign
exchange rate variance, including hedging contract gains and losses, a $2.3
million decrease resulting from operations sold in 1993 and an increase of $3.9
million due to the 1993 Mexico acquisition, total operating expenses decreased
by $8.3 million compared to 1993.
Consolidated salaries and related benefits increased by $6.8 million, or 3.5
percent, including a $2.6 million increase relating to the 1993 acquisition in
Mexico, and a $1.8 million unfavorable foreign exchange rate variance. Staff
costs in 1994 include normal salary progressions and higher benefit costs
partially offset by a 2.7 percent decline in headcount.
Consolidated other operating expenses decreased by $5.3 million, or 4 percent,
in the third quarter of 1994 compared to 1993. Excluding the $6.4 million
negative impact of changes in foreign exchange rates, the increase of $1.3
million relating to the 1993 acquisition in Mexico, the $1 million decrease
resulting from sold operations and $2.4 million of severance costs in 1994,
other operating expenses decreased $14.4 million. This decrease is primarily
due to $11 million of lower insurance-related reserves.
Other Income (Expenses)
Consolidated investment income earned on operating funds was $3 million for the
third quarter of 1994, an increase of $0.9 million, or 42.9 percent, compared
to 1993. The increase was primarily the result of higher investment levels due
to the issuance of preferred stock as well as higher average interest rates.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Three Months Ended September 30, 1994 vs. 1993
Other Income (Expenses) (continued)
Consolidated interest expense was $4.7 million for the third quarter of 1994,
an increase of $1.7 million, or 56.7 percent, compared to 1993. The increase
is attributable primarily to the borrowing of $50 million on July 1, 1994 to
finance a contract with a reinsurance company for certain discontinued
exposures of the Company.
Other expenses decreased by $3.7 million in the third quarter of 1994 compared
to 1993 primarily due to lower litigation costs relating to the Mutual Fire
lawsuit.
Income Taxes
The Company reported tax expense of $0.2 million on pre-tax income of $0.5
million in the third quarter of 1994. The effective tax rate was 40 percent
compared to the U.S. statutory rate of 35 percent. The tax rate was negatively
impacted by the non-deductibility of certain expenses for tax purposes,
including amortization of goodwill and entertainment expenses. Partially
offsetting these factors were foreign tax rates which are lower than the U.S.
statutory rate.
On August 26, 1994, the Company received a Notice of Proposed Adjustment from
the Internal Revenue Services (IRS) in connection with the examination of its
1990 and 1991 U.S. federal income tax returns, proposing an increase in taxable
income for the 1991 tax year which would result in additional tax liability
estimated by the Company at $50 million. This proposed adjustment relates to
an intercompany transaction involving the stock of a United Kingdom subsidiary.
As discussed in Note 5, the Company disagrees with the IRS position on this
issue. Although the ultimate outcome of the matter cannot be predicted with
certainty, the Company and its independent tax counsel believe there are
meritorious defenses to the proposed adjustment and substantial arguments to
sustain the Company's position and that the Company should prevail in the event
this issue is litigated. A similar transaction occurred in 1993, which year is
not currently under examination, for which the IRS could propose an increase in
taxable income which would result in additional tax liability estimated by the
Company at $25 million. The Company believes it should prevail in the event
this similar issue is raised by the IRS. Accordingly, no provision for any
liability with respect to the 1991 and 1993 transactions has been made in the
accompanying consolidated financial statements.
Discontinued Operations
In November 1994, the Company announced an agreement in principle to resolve
certain indemnity obligations to Sphere Drake. Under the terms of the
agreement, which is subject to a definitive written contract, the Company will
receive a cash payment of approximately $5 million from Sphere Drake in
settlement of the zero coupon notes receivable and related indemnities as well
as certain income tax liabilities. The Company recorded a $20.9 million loss
from discontinued operations in the third quarter in connection with this
agreement.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Three Months Ended September 30, 1994 vs. 1993
Insurance Services
Operating results for the Insurance Services segment of the Company's
operations are summarized below:
<TABLE>
<CAPTION>
Three Months Ended
September 30,
1994 1993
<S> <C> <C>
Operating Revenues:
Risk management and insurance services $213.6 $206.7
Specialist insurance broking 24.4 24.7
Reinsurance broking 38.7 39.1
276.7 270.5
Operating expenses 256.8 247.1
Operating income $ 19.9 $ 23.4
</TABLE>
Worldwide risk management and insurance services broking commissions and fees
increased by $6.9 million, or 3.5 percent, when compared to the third quarter
of 1993. Foreign exchange rate variances positively impacted 1994 revenues by
$1.9 million. Broking revenues in the U.S. retail organization decreased by
$2.9 million in the third quarter of 1994 compared to 1993 primarily due to
lost business and sluggish new business growth. Offsetting the U.S. retail
decline was a $3.7 million increase in broking revenues for the 1993 Mexican
acquisition and $2.4 million and $2 million increases in broking revenues for
the Europe and Asia/Pacific operations, respectively. Investment income earned
on fiduciary funds in the risk management and insurance services operations was
unchanged for the third quarter of 1994.
Specialist insurance broking commissions and fees decreased by $0.5 million, or
2 percent, in the third quarter of 1994 versus 1993 primarily due to reduced
capacity in the U.K. market as well as continued casualty business competition
and lower rates in the U.S. Investment income earned on fiduciary funds in the
specialist insurance broking operations increased by $0.2 million when compared
to the third quarter of 1993.
Reinsurance broking commissions and fees decreased by $0.5 million, or 1.5
percent, in the third quarter of 1994 compared to 1993. Foreign exchange rate
variances positively impacted such revenues by $0.5 million. Investment income
earned on fiduciary funds in the reinsurance broking operations increased by
$0.1 million when compared to the third quarter of 1993.
Total risk management and insurance services operating expenses increased by
$8.6 million, or 4.4 percent, when compared to the third quarter of 1993.
Foreign exchange rate variances negatively impacted such expenses by $1.6
million. Operating expenses in the U.S. retail organization were essentially
equal to 1993 levels. However, contributing to the overall increase in
operating expenses for risk management and insurance services operations was a
$3.6 million increase due to the 1993 acquisition in Mexico.
Operating expenses for the specialist insurance broking operations increased by
$0.4 million, or 1.8 percent, in the third quarter of 1994 versus 1993.
Foreign exchange rate variances favorably impacted such expenses by $0.3
million.
Operating expenses for the reinsurance broking operations increased by $0.7
million, or 2.4 percent, in the third quarter of 1994 compared to 1993.
Foreign exchange rate variances favorably impacted such expenses by $0.2
million.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Three Months Ended September 30, 1994 vs. 1993
Human Resource Management Consulting
Operating results for the Human Resource Management Consulting segment of the
Company's operations are summarized below.
[CAPTION]
<TABLE>
Three Months Ended
September 30,
1994 1993
<S> <C> <C>
Operating revenues $56.2 $54.2
Operating expenses 54.8 60.1
Operating income (loss) $ 1.4 $(5.9)
</TABLE>
Human resource management consulting commissions and fees increased by $2
million, or 3.7 percent, in the third quarter of 1994 compared to the
corresponding quarter in 1993, due primarily to the Canadian operation which
was negatively impacted in the third quarter of 1993 by a reduction in the
expected realization of consulting revenues. Investment income earned on
fiduciary funds in the human resource management consulting operations was
unchanged for the third quarter of 1994.
Operating expenses for the human resource management consulting operations
decreased by $5.3 million, or 8.8 percent, in the third quarter of 1994
compared to the corresponding quarter in 1993. This decrease reflects certain
1993 expenses for severance, office consolidations and incentive costs.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Nine Months ended September 30, 1994 vs. 1993
Consolidated
The net loss for the nine months ended September 30, 1994 was $27.4 million,
or $0.83 per share. Included in the results were $26.9 million of after-tax
charges of $0.61 per share, relating to certain indemnity obligations and
exposures of the Company's discontinued operations and a $2.6 million after-tax
charge, or $0.06 per share, for the cumulative effect of a change in accounting
principle relating to the adoption of SFAS No. 112, "Employers Accounting for
Postemployment Benefits."
Net income for the nine months ended September 30, 1993 was $23.7 million, or
$0.45 per share, including after-tax gains of $2.5 million, or $0.06 per share,
from the sale of three small operations and a gain relating to a cumulative
effect adjustment of $3.3 million, or $0.08 per share, from a change in
accounting for income taxes.
Effective January 1, 1993, the Company adopted the provisions of SFAS No. 106,
"Employers Accounting for Postretirement Benefits Other Than Pensions." The
Company elected to amortize the initial transition obligation of $14 million
over a twenty year period. The effect of this accounting change was not
significant to the Company's results of operations.
Operating Revenues
Consolidated operating revenues were $990.7 million for the first nine months
of 1994, a decrease of $3.1 million, or 0.3 percent, from the corresponding
period in 1993. After adjusting for a $4.9 million decrease due to changes in
foreign exchange rates, an increase in revenues of $10.9 million for the 1993
Mexico acquisition, and a $7.9 million decrease resulting from operations sold
in 1993, total revenues decreased $1.2 million compared to 1993 levels.
Total commissions and fees increased by $1.6 million, or 0.2 percent, in the
first nine months of 1994 compared to 1993. The effects of changes in foreign
exchange rates and the revenues from operations sold in 1993 negatively
impacted the comparable period by $12.4 million.
Investment income earned on fiduciary funds was $37.4 million for the first
nine months of 1994, a decrease of $4.7 million, or 11.2 percent, compared to
1993. This decrease is primarily due to lower average investment levels,
particularly in the U.S.
Operating Expenses
Consolidated operating expenses were $966.7 million for the first nine months
of 1994, an increase of $17.6 million, or 1.9 percent, versus the comparable
period of 1993. After adjusting for a $1.6 million unfavorable foreign
exchange rate variances, including hedging contracts gains and losses, a $9
million decrease resulting from operations sold in 1993 and an increase of $10
million due to the 1993 Mexico acquisition, total operating expenses increased
by $15 million.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Nine Months ended September 30, 1994 vs. 1993 (continued)
Operating Expenses (continued)
Consolidated salaries and related benefits increased by $18 million, or 3.1
percent. The effect of changes in foreign exchange rates was favorable by $2.5
million. Contributing to the overall increase was a $6.8 million increase
relating to the 1993 Mexico acquisition and an increase of $3.7 million in the
U.K. human resources management consulting operations due to the November 1993
acquisition of Clay & Partners (Clay). Prior to the acquisition, Clay operated
as a partnership and accordingly, their results did not reflect partner draws.
Staff costs in 1994 include normal salary progressions and higher benefit costs
partially offset by a 2.7 percent decline in headcount.
Consolidated other operating expenses decreased by $0.4 million, or 0.1
percent, in the first nine months of 1994 compared to 1993. Excluding the $4.1
million negative impact of changes in foreign exchange rates, an increase of
$3.2 million due to the 1993 Mexico acquisition and the $3.9 million decrease
due to the effect of sold operations, other operating expenses decreased by
$3.8 million.
Other Income (Expenses)
Investment income earned on operating funds decreased by $0.3 million due to
lower average operating fund levels, partially offset by interest income earned
on the proceeds from the July issuance of preferred stock.
Interest expense increased by $1.2 million due primarily to a higher debt level
associated with a $50 million borrowing relating to a contract with a
reinsurance company.
Other income (expenses) in 1994 and 1993 included $7.7 million and $13.3
million, respectively, of provisions for legal costs and, in 1994, estimated
indemnities of $1.2 million to the purchasers of Shand, related to the Mutual
Fire rehabilitation and in 1993 included pre-tax gains of $4.1 million on the
sales of three small operations in the U.S.
Income Taxes
The Company reported income taxes of $4 million on pre-tax income of $10.1
million for the first nine months of 1994. This compares to an expected tax
expense of $3.5 million based on the U.S. statutory rate of 35 percent. The
tax rate was negatively impacted by certain expenses which are not deductible,
including amortization of goodwill and entertainment expenses. Offsetting
these factors are state and local tax benefits on losses generated in the U.S.
operations in the first nine months of 1994 as well as foreign tax rates lower
than the U.S. statutory rate.
The Company's effective tax rate in the first nine months of 1993 was 40
percent. This rate was higher than the U.S. rate of 35 percent primarily due
to amortization of goodwill and other non-deductible expenses. The tax rate
was favorably impacted by the results of Clay, a U.K.-based actuarial
consulting operation acquired in 1993 in a pooling of interests transaction.
Prior to the merger, Clay operated as a partnership and accordingly, their
results did not reflect corporate income taxes of approximately $1 million.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Nine Months ended June 30, 1994 vs. 1993 (continued)
Income Taxes (continued)
As discussed in Note 5, the Company was advised by the IRS, in a letter dated
May 26, 1994, that the Joint Committee on Taxation had approved the settlement
agreement covering the years 1980 through 1986. The liability for tax and net
interest with regard to this settlement will actually be due for years 1987
through 1989 due to acceleration in the use of net operating losses and tax
credits. The Company is currently under examination by the IRS for years 1987
through 1991.
On August 26, 1994, the Company received a Notice of Proposed Adjustment from
the IRS in connection with the examination of its 1990 and 1991 U.S. federal
income tax returns, proposing an increase in taxable income for the 1991 tax
year which would result in additional tax liability estimated by the Company at
$50 million. This proposed adjustment relates to an intercompany transaction
involving the stock of a United Kingdom subsidiary.
As discussed in Note 5, the Company disagrees with the IRS position on this
issue. Although the ultimate outcome of the matter cannot be predicted with
certainty, the Company and its independent tax counsel believe there are
meritorious defenses to the proposed adjustment and substantial arguments to
sustain the Company's position and that the Company should prevail in the event
this issue is litigated. A similar transaction occurred in 1993, which year is
not currently under examination, for which the IRS could propose an increase in
taxable income which would result in additional tax liability estimated by the
Company at $25 million. The Company believes it should prevail in the event
this similar issue is raised by the IRS. Accordingly, no provision for any
liability with respect to the 1991 and 1993 transactions has been made in the
accompanying consolidated financial statements.
The Company believes that its current tax reserves are adequate to cover its
tax liabilities, including the 1980-1986 settlement.
Discontinued Operations
On July 1, 1994, the Company entered into an insurance-based financing contract
(the Contract) with a reinsurance company that affords certain protection to
the Company for the Orion, Syndicate 701, Swann & Everett, and certain other
exposures included in discontinued operations. The established reserve for
these exposures was $148.5 million at July 1, 1994. The Contract provides for
a payment by the Company of $80 million ($50 million of which was borrowed from
the reinsurance company) to the reinsurance company and for payment by the
Company of the first $73 million of the established reserve. In accordance
with the Contract, which will be accounted for under the deposit method of
accounting, the remaining established reserve of $75.5 million is recoverable
from the reinsurance company. The Contract also provides protection for paid
losses in excess of the established reserve through recoveries of such paid
losses from the reinsurance company. Such recoveries are initially limited to
$25 million and, depending on the timing and amount of loss payment recoveries,
could increase to a maximum of $120 million. At September 30, 1994, the
recovery of losses from the reinsurance company, beyond the $75.5 million
related to the established reserve, is limited to $26.6 million. The Contract
obligates the Company to pay additional amounts to the reinsurance company for
losses in excess of $26.6 million. Commencing December 31, 1996, depending on
the timing and amount of loss payment recoveries under the Contract, the
Company may be entitled to receive payments from the reinsurance company in
excess of amounts recovered for paid losses if the Contract is terminated.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Nine Months ended June 30, 1994 vs. 1993 (continued)
Discontinued Operations (continued)
As a result of this transaction, the Company recorded a $6 million charge in
the second quarter of 1994 representing the amount of the payment to the
reinsurance company that exceeded the recoverable portion of existing reserves
for the covered exposures.
If it becomes probable that the ultimate exposures covered by the Contract will
exceed recorded liabilities, the Company would increase the recorded liabilities
to the required amount. To the extent that the recorded increase in those
liabilities is recoverable under the Contract, that amount would be recorded as
an asset of discontinued operations. To the extent that the recorded increase
would not be recoverable under the Contract, that amount would be recorded as a
loss from discontinued operations. The Contract provides for an aggregate
limit on the amount of payments to be made to the Company. If it becomes
probable that the ultimate amount of the exposures covered by the Contract
will exceed the aggregate contract limits, the total amount of such excess
would be recorded as a loss from discontinued operations in the period that
such determination is made.
In November, 1994 the Company announced an agreement in principle to resolve
certain indemnity obligations to Sphere Drake. Under terms of the agreement,
which is subject to a definitive written contract, the Company will receive a
cash payment of approximately $5 million from Sphere Drake in settlement of the
zero coupon notes receivable and related indemnities as well as certain income
tax liabilities. The Company recorded a $20.9 million loss from discontinued
operations in the third quarter in connection with this agreement.
Cumulative Effect Adjustments
Effective January 1, 1994, the Company adopted SFAS No. 112, "Employers'
Accounting for Postemployment Benefits." This statement requires that certain
benefits provided to former or inactive employees after employment but prior to
retirement, including disability benefits and health care continuation
coverage, be accrued based upon the employees' service already rendered. The
cumulative effect of this accounting change was an after-tax charge of $2.6
million or $0.06 per share in the first quarter of 1994. The increase to the
annual cost of providing such benefits will not be significant.
Effective January 1, 1993, the Company adopted SFAS No. 109, "Accounting for
Income Taxes." The cumulative effect of adopting this standard increased net
income in the first quarter of 1993 by $3.3 million or $0.08 per share. Tax
benefits of $3.2 million were also allocated to paid-in capital representing
the difference in the tax bases over the book bases of the net assets of
taxable business combinations accounted for as pooling of interests. These
benefits would have been recognized at the respective dates of combination if
SFAS No. 109 had been applied at that time.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Nine Months ended September 30, 1994 vs. 1993 (continued)
Insurance Services
Operating results for the Insurance Services segment of the Company's
operations are summarized below:
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
1994 1993
<S> <C> <C>
Operating Revenues:
Risk management and insurance services $634.8 $632.1
Specialist insurance broking 76.5 78.9
Reinsurance broking 118.7 116.8
830.0 827.8
Operating expenses 761.0 742.5
Operating income $ 69.0 $ 85.3
</TABLE>
Worldwide risk management and insurance services broking commissions and fees
increased $5.7 million, or 0.9 percent, in the first nine months of 1994 versus
the corresponding period in 1993. Foreign exchange rate variances negatively
impacted such revenues by $3.8 million. Broking revenues in the U.S. decreased
by $18.5 million in the first nine months of 1994 compared to 1993. The
continued softness in certain insurance markets and lost business had a
significant negative impact on broking revenues. Offsetting the U.S. decline
were a $10.3 million increase in 1994 broking revenues due to the 1993
acquisition in Mexico, a $4.8 million increase in the Europe operations, a $3.7
million increase in the Asia/Pacific operations and a $1.2 million increase in
the Company's U.S.-based claims administration operation. These increases were
due primarily to new business production. Investment income earned on
fiduciary funds in the risk management and insurance services operations
decreased by $3 million when compared to the first nine months of 1993.
Specialist broking commissions and fees decreased by $2.3 million, or 3.1
percent, in the first nine months of 1994 over 1993 due to the withdrawal of a
significant underwriter for certain classes of business as well as lower
contingent commissions in the United Kingdom. Foreign exchange rate variances
positively impacted such revenues by $0.3 million. Investment income earned on
fiduciary funds in the specialist insurance broking operations decreased by
$0.1 million when compared to the first nine months of 1993.
Reinsurance broking commissions and fees were up $2.5 million, or 2.3 percent,
in the first nine months of 1994 versus 1993 primarily due to selected premium
rate increases and new business, particularly in Canada, France and Latin
America. Foreign exchange rate variances negatively impacted such revenues by
$0.8 million. Investment income earned on fiduciary funds in the reinsurance
broking operations decreased by $0.6 million when compared to the first nine
months of 1993.
Worldwide risk management and insurance services operating expenses increased
by $16.2 million, or 2.7 percent, when compared to the same nine month period
in 1993. Foreign exchange rate variances positively impacted such expenses by
$3.2 million. Operating expenses in the U.S. retail organization increased
$4.8 million versus 1993 levels. Also, contributing to the overall increase in
operating expenses for risk management and insurance services operations was a
$9.7 million increase for the 1993 acquisition in Mexico.
Operating expenses for the specialist insurance broking operations decreased by
$1.1 million, or 1.8 percent, versus the comparable 1993 period due to
favorable foreign exchange rate variances.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Results of Operations (continued)
Nine Months ended September 30, 1994 vs. 1993 (continued)
Insurance Services (continued)
Operating expenses for the reinsurance broking operations increased by $3.4
million, or 4 percent, for the first nine months of 1994. Foreign exchange
rate variances favorably impacted such expenses by $1.5 million.
Human Resource Management Consulting
Operating results for the Human Resource Management Consulting segment of the
Company's operations are summarized below:
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
1994 1993
<S> <C> <C>
Operating revenues $160.9 $156.7
Operating expenses 162.5 161.3
Operating loss $ (1.6) $ (4.6)
</TABLE>
Human resource management consulting commissions and fees increased by $4.2
million, or 2.7 percent, in the first nine months of 1994 compared to 1993.
Revenue growth of $5.9 million, or 5.8 percent, was reflected in the U.S.
operations due to new business and client retention efforts. Partially
offsetting this increase was a $1.4 million decrease in the U.K. operations due
to recent legislation in the U.K. which requires commission disclosure to
clients on financial services products. Investment income earned on fiduciary
funds in the human resource management consulting operations was unchanged for
the first nine months of 1994.
Operating expenses for the human resource management consulting operations
increased by $1.2 million, or 0.7 percent, in the first nine months of 1994
compared to the corresponding period in 1993. A $4.9 million favorable
variance in the U.S. was due primarily to one-time expenses reflected in 1993.
This was offset by higher salary costs in the U.K. from the Clay acquisition,
which operated as a partnership in 1993.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Liquidity and Capital Resources
Net cash used by operating activities was $73.5 million for the first nine
months of 1994. This decrease is primarily due to the $80 million payment on
the contract entered into with a reinsurance company for exposures related to
the Company's discontinued operations. Additionally, the Company borrowed $50
million from this reinsurance company. Proceeds from these borrowings are
included in net cash provided by financing activities.
The Company's net capital expenditures for property and equipment were $17.2
million during the first nine months of 1994. Capital expenditures are
expected to increase throughout the year as the Company continues with its
investment in redesigning work processes and enhancing systems technology.
The Company has a $150 million credit agreement with various banks which
expires in July 1995. The amended agreement provides for unsecured borrowings
and contains various covenants including limits on minimum net worth, maximum
consolidated debt, minimum interest coverage and minimum consolidated cash
flow from operations.
The Company has full and immediate access to the $150 million credit line, has
no borrowings outstanding under this agreement and does not anticipate a need to
borrow under the agreement for the remainder of its term.
Supplementing the credit agreement, the Company has unsecured lines of credit
available for general corporate purposes totaling $127.1 million, of which
$126.3 million were unused at September 30, 1994. These lines consist of
uncommitted cancellable facilities in the U.S. and other countries. If drawn,
the lines bear interest at market rates and carry annual commitment fees of not
greater than 1/2% of the line.
On July 1, 1994, Alexander & Alexander Services Inc. borrowed $50 million from
the reinsurance company that executed the Contract described in Note 7 of
Unaudited Notes to Financial Statements. The note is payable in five equal
annual installments, commencing July 1, 1997 and bears interest at a rate of
9.45%. If Alexander & Alexander Services Inc. defaults on the borrowing, the
reinsurance company may utilize the Alexander & Alexander Services Inc. note to
settle claims under the Contract.
At September 30, 1994, the Company has an accumulated deficit of $168.5
million. The Company's current financial position satisfies Maryland law
requirements for the payment of dividends. The Board of Directors will
continue to take into consideration the Company's financial performance and
projections, as well as the provisions of the AIG Agreement pertaining to
dividends described in Note 12 of Unaudited Notes to Financial Statements, in
connection with future decisions with respect to dividends. In addition, no
dividends may be declared or paid on the Company's Common Stock unless an
equivalent amount per share is declared and paid on the dividend paying
shares associated with the Class A and Class C Common stock. As previously
discussed, in May 1994 the Board of Directors reduced the Company's quarterly
dividend from $0.25 to $0.025 per share. The estimated annual cash flow
savings based upon the current number of shares outstanding is approximately
$39 million.
As described in Notes 7 and 11 of Unaudited Notes to Financial Statements, the
Company has significant litigation and other exposures which may require cash
resources. In addition, as described in Note 5 of Unaudited Notes to Financial
Statements, the Company was advised by the IRS in a letter dated May 26, 1994,
that the Joint Committee review has been completed and that the Company's
settlement with the IRS has been approved. The settlement, which approximates
$38 million in tax and net interest, does not require any cash resources until
the examinations of the years 1987 through 1989 are finalized with the IRS.
This is expected to occur in the first half of 1995.
<PAGE>
Alexander & Alexander Services Inc. & Subsidiaries (the Company)
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Liquidity and Capital Resources (continued)
The Company has substantial arguments and legal defenses against its litigation
exposures; however, the timing and ultimate outcome of these issues cannot be
predicted with certainty. When funds are required on the settlement with the
IRS and in the event additional funds are required to meet litigation
exposures, the Company believes it has sufficient resources, including credit
capacity, to cover those tax liabilities and other potential liabilities which
are likely to arise on settlement of other issues.
On July 15, 1994, pursuant to the terms of the AIG Agreement, AIG purchased
from the Company 4,000,000 shares of Series B Convertible Preferred Shares at
a purchase price of $50 per share for a total purchase price of $200,000,000.
Such proceeds, net of approximately $3.9 million of related expenses, are
available for general corporate purposes, of which $30 million has been used to
fund the reinsurance arrangement with respect to discontinued operations.
Under the terms of the AIG Agreement, the declaration or payment of dividends
in excess of prescribed amounts may require the Company to purchase all or
part of the then outstanding Series B Convertible Preferred Shares. Dividends
on the Series B Convertible Preferred Shares will reduce the amount of
earnings otherwise available for common stockholders by approximately $16
million in the first year after issuance, and by approximately $23 million in
the fifth year after issuance, assuming dividends on the Series B Convertible
Preferred Shares were to be paid in kind throughout the first five years after
issuance.
Reference is made to Part II, Item 2 of this report for a description of the
rights of Series B Convertible Preferred Shares.
Also, on July 15, 1994, the purchasers of Shand executed their Purchase
Agreement option to purchase an office building owned and accounted for by the
Company as a direct financing lease by assuming the non-recourse mortgage notes
of $19.5 million. No gain or loss will be recognized on this transaction.
The Company believes that cash flow from operations, along with current
operating cash balances and supplemented by the proceeds from the Series B
Convertible Preferred Shares and assets sales, will be sufficient to fund
working capital and other operating requirements. In the event additional funds
are required, the Company believes it will have sufficient resources, including
borrowing capacity, to meet such requirements.
<PAGE>
PART II. OTHER INFORMATION
Alexander & Alexander Services Inc. & Subsidiaries
Item 1. Legal Proceedings
The Company and its subsidiaries are subject to various claims and lawsuits
from both private and governmental parties, which include claims and lawsuits
in the ordinary course of business, consisting principally of alleged errors
and omissions in connection with the placement of insurance and in rendering
consulting services. In some of these cases, the remedies that may be sought
or damages claimed are substantial. Additionally, the Company and its
subsidiaries are subject to the risk of losses resulting from the potential
uncollectibility of insurance and reinsurance balances and claims advances made
on behalf of clients, exceeding policy limits, and indemnifications connected
with the sales of certain businesses.
Reference is made to the discussion under the caption "Item 3. Legal
Proceedings" of the Company's Report on Form 10-K for the fiscal year ended
December 31, 1993 as to the Section captioned "Mutual Fire and Shand
Contingencies" which is amended in its entirety as follows.
In 1987, the Company sold Shand, Morahan & Company, Inc. (Shand), its domestic
underwriting management subsidiary. The sales contract between the Company and
Shand's purchasers obligates the Company to certain indemnities with respect to
transactions involving Mutual Fire Marine and Inland Insurance Company (Mutual
Fire). These indemnification obligations are not limited in amount or
duration. The Company, Alexander & Alexander Inc., a subsidiary of the
Company, and Shand are defendants in a lawsuit brought in 1991 by the
Pennsylvania Insurance Commissioner as rehabilitator of Mutual Fire. The
complaint alleges matters within the terms of such indemnification obligation.
The action, in the United States District Court for the Eastern District of
Pennsylvania and styled Constance B. Foster v. Alexander & Alexander Services
Inc. et al. (Civil Action No. 91-1179), arises out of Shand's relationship as
underwriting manager for Mutual Fire, now insolvent. The complaint alleges that
Shand, and in certain respects the Company, breached duties to, and agreements
with, Mutual Fire. In addition to claiming compensatory damages, the complaint
seeks punitive damages and recovery of certain commissions paid to Shand and
the Company. The complaint does not specify, to any meaningful degree, the
amount of alleged damages incurred or sought. The rehabilitator, through an
updated expert's report, has indicated to Shand and the Company that the damages
alleged are in the amount of $234.6 million. The expert's report previously
alleged damages in the amount of $238.5 million. The Company and Shand strongly
disagree with the alleged damages in the updated report and have substantial
arguments to sustain their position. The Company and Shand have finalized a
series of expert reports that rebut the rehabilitator's report. The case may be
placed on the trial calendar in 1994 or early 1995. Management of the Company
believes that there are valid defenses to the allegations set forth in the
complaint and the Company is vigorously defending this action.
The sales contract between the Company and Shand's purchasers also obligates
the Company to certain other indemnities with respect to transactions
involving Mutual Fire. In November 1992, the purchaser, by written notice,
asserted indemnification claims related to reinsurance recoverables due from
Mutual Fire. In February 1993, the Company agreed to settle certain of these
claims. The Company has estimated its exposure under this settlement, net of
anticipated recoveries from certain trusteed assets held for Shand's benefit of
$10.8 million and net of $4.6 million of set-offs, and established a reserve in
1992. The Mutual Fire rehabilitator has challenged Shand's right to recover
these assets and the utilization of such set-offs.
<PAGE>
PART II. OTHER INFORMATION (continued)
Alexander & Alexander Services Inc. & Subsidiaries
Item 1. Legal Proceedings (continued)
The purchasers of Shand have also notified the Company of indemnification
claims for reinsurance recoverables arising under the Company's obligation to
indemnify the purchasers for losses suffered as a result of errors and
omissions in connection with professional services provided by Shand prior to
the sale of Shand in 1987. To date, five reinsurers have alleged that Shand
committed such errors and omissions, and the purchasers of Shand have advised
the Company that other reinsurers may make similar allegations in the future.
To date, there has been no finding that Shand in fact committed any error or
omission. Shand is actively disputing these allegations in arbitrations
against three of these reinsurers. Of the five indemnification claims
asserted by the purchasers of Shand against the Company, two have been
settled. The remaining three indemnification claims are the subject of an
arbitration proceeding brought by the purchasers against the Company in August
1994 in which the purchasers seek payment of reinsurance recoverables or the
posting of collateral for such recoverables. The amounts in question
approximate $16.5 million.
On September 20, 1994, the purchasers of Shand notified the Company that three
additional reinsurers have made similar allegations claiming $6.2 million in
unpaid recoverables and asserting that the Company is responsible for posting
collateral of another $22.6 million and that these claims may be included in
the arbitration proceedings. Additional indemnity claims may be made by the
purchasers of Shand if other reinsurers stop paying based on pre-sale errors
and omissions. If those claims were upheld, the Company's resulting
indemnification obligation could be significant. The Company believes that,
until the merits of the alleged errors and omissions have been adjudicated, the
Company's exposure under this indemnity is limited to the costs and related
expenses incurred by Shand in adjudicating the merits of the allegations. The
Company is vigorously disputing the indemnification claims for reinsurance
recoverables asserted by the purchasers of Shand in the arbitration
proceedings.
Reference is made to the discussion under the caption "Item 3. Legal
Proceedings" of the Company's Report on Form 10-K for the fiscal year ended
December 31, 1993 as to the legal proceeding captioned The Highway Equipment
Company, et al. v. Alexander Howden Limited, et al. (Case No. 1-85-01667, U.S.
Bankruptcy Court, So. Dist. Ohio, Western Div.) which is incorporated in its
entirety herein, except as amended as follows. In April 1993, the bankruptcy
court ordered a directed verdict in the Company's favor. That verdict was
affirmed in March 1994 in a decision by the U.S. District Court for the
Southern District of Ohio and plaintiffs have appealed the decision to the
U.S. Court of Appeals for the Sixth Circuit.
<PAGE>
PART II. OTHER INFORMATION (continued)
Alexander & Alexander Services Inc. & Subsidiaries
Item 1. Legal Proceedings (continued)
Reference is made to the discussion under the caption "Item 3. Legal
Proceedings" of the Company's Report on Form 10-K for the fiscal year ended
December 31, 1993 as to the legal proceeding captioned Harry Glickman v.
Alexander & Alexander Services Inc., et al. (Civil Action No. 93 Civ. 7594)
(S.D.N.Y.) which is incorporated in its entirety herein except as amended as
follows. At a conference with the U.S. District Court for the Southern
District of New York in March 1994, counsel for the plaintiff was directed to
inform counsel for the Company whether plaintiff intended to file a second
amended complaint. On October 31, 1994, plaintiff's counsel notified the
Company that plaintiff intends to seek permission to file a second amended
complaint. The Company currently believes the reasonably possible loss that
might result under this action, if any, would not be material to the
Company's financial position or results of operations.
Item 2. Changes in Securities
Reference is made to Part I, Notes 12 and 13 of the Company's Unaudited Notes
to Financial Statements to the Company's Report on Form 10-Q for the quarter
ended September 30, 1994 for a description of the Charter Amendment, the
rights of the Series B Convertible Preferred Shares and Class D Stock and the
amendments associated with Participating Preferred Shares and is incorporated
herein.
Item 4. Submission of Matters to a Vote of Security Holders
A special meeting of Stockholders of the Company was held on July 15, 1994. At
the meeting, the Company's stockholders acted upon (i) a proposal to approve a
Stock Purchase and Sale Agreement, dated as of June 6, 1994, between the
Company and American International Group, Inc. (AIG), pursuant to which the
Company would issue and sell 4,000,000 shares of its 8% Series B Cumulative
Convertible Preferred Stock (Series B Convertible Preferred Shares) to AIG for
an aggregate purchase price of $200,000,000 (AIG Agreement) and all transactions
contemplated pursuant to the AIG Agreement; and (ii) a proposal to approve
certain amendments to the Company's charter (together, Charter Amendment) to,
among other things (A) increase the number of authorized shares of the capital
stock; and (B) establish the terms of the Class D Shares, into which Series B
Convertible Preferred Shares are convertible.
The proposal to approve the AIG Agreement and related matters was duly adopted.
The vote was as follows: 34,803,859 votes were cast for adoption of the
proposal; 428,046 votes were cast against adoption of the proposal; and there
were 128,806 abstentions and broker non-votes with respect to the proposal.
The proposal to approve the Charter Amendment was duly adopted. The vote was
as follows: 33,617,605 votes were cast for adoption of the proposal; 1,596,150
votes were cast against adoption of the proposal; and there were 146,177
abstentions and broker non-votes with respect to the proposal.
Item 5. Other Information
At a regular of the executive committee of the board of directors held on
August 29, 1994, Edward F. Kosnik was elected, effective as of August 29,
1994, as Executive Vice President and Chief Financial Officer of the Company.
At a regular meeting of the Board of Directors on September 29, 1994, three
new directors were elected. The newly elected directors are: Gerald R. Ford,
former President of the United States, Maurice H. Hartigan II, Senior
Managing Director, Chemical Banking Corp, New York; and James Bickford Hurlock,
Partner & Chairman of the Management Committee, White & Case, a New York-based
law firm. The election of three additional directors increased the size of
the board from 11 to 14 members.
<PAGE>
PART II. OTHER INFORMATION (continued)
Alexander & Alexander Services Inc. & Subsidiaries
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit No. Item
10.1 Amendment No. 1, dated as of November 10, 1994, to
Stock Purchase and Sale Agreement, dated as of June
6, 1994, between the Company and American
International Group Inc.
(b) Reports on Form 8-K
Current Report on Form 8-K was filed on October 3, 1994 noticing the
election of Gerald R. Ford, Maurice H. Hartigan and James Bickford
Hurlock to the Company's Board of Directors.
Current Report on Form 8-K was filed on July 19, 1994 regarding (i) a
Special Meeting of Stockholders of the Company held on July 15, 1994,
at which stockholders approved the issuance and sale of 4,000,000
shares of the Company's Series B Convertible Preferred Shares to AIG
at a purchase price of $50 per share, for a total purchase price of
$200,000,000, and certain charter amendments and agreements related to
such issuance and sale; (ii) certain amendments to the Company's
Rights Agreement; (iii) the amendment of the Company's long-term
credit agreement to restore the Company's line of credit from $75
million to $150 million; (iv) the election on July 15, 1994 of three
new directors, thereby increasing the number of directors from 8 to
11; and (v) the purchase of reinsurance coverage for indemnities and
exposures relating to certain of the Company's discontinued
operations.
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized, on the 14th day of November, 1994.
ALEXANDER & ALEXANDER SERVICES INC.
(Registrant)
BY:/s/ Edward F. Kosnik November 14, 1994
Edward F. Kosnik Date
Executive Vice President &
Chief Financial Officer
<PAGE>
ALEXANDER & ALEXANDER SERVICES INC.
Quarterly Report on Form 10-Q
For the Quarter Ended September 30, 1994
INDEX TO EXHIBITS
Certain exhibits to this Report on Form 10-Q have been incorporated by
reference. For a list of these Exhibits see Item 6 hereof. The following
exhibits are being filed herewith:
Exhibit Page No.
10.1 Amendment No. 1, dated as of November 10, 1994, to
Stock Purchase and Sale Agreement, dated as of
June 6, 1994, between the Company and American
International Group Inc..................................45
<PAGE>
EXHIBIT 10.1
Amendment No. 1 dated as of November 10, 1994 ("Amendment No. 1") to the Stock
Purchase and Sale Agreement dated as of June 6, 1994 ("Agreement") between
Alexander & Alexander Services Inc., a Maryland corporation ("A&A"), and
American International Group, Inc., a Delaware corporation ("AIG") on behalf of
itself and each of its subsidiaries ("Purchasers") which purchased and
continues to hold 8% Series B Cumulative Preferred Stock, par value $1.00 per
share, of A&A ("Series B Stock").
Whereas, A&A and AIG, on behalf of itself and each of the Purchasers, desires
to amend the Agreement as and to the extent set forth herein.
Now, therefore, in consideration of the premises and other good and valuable
consideration receipt of which is hereby acknowledged, each of A&A and AIG, on
behalf of itself and each of the Purchasers, hereby agree as follows:
1. Section 6.0 of the Agreement is hereby amended to add a new clause (iv)
thereto immediately following clause (iii) which clause (iv) shall read
as follows:
(iv) Solely for purposes of Section 6.0 of this Agreement (but not with
respect to any other provision hereof or otherwise), A&A shall not be
required to pay, as an adjustment to the purchase price pursuant to this
Section 6.0, more than $10 million, individually or in the aggregate.
2. A&A agrees to pay all reasonable expenses (including attorneys fees and
expenses) incurred by AIG and each of the Purchasers in connection with
this Amendment No. 1 and the subject matter hereof.
3. The execution and delivery of this Amendment No. 1 by A&A is deemed a
certification by A&A that the representations and warranties of A&A set
forth in Section 4 of the Agreement, as amended by this Amendment No. 1,
are true and correct in all material respects on and as of the date
hereof as if made on and as of the date hereof (except as otherwise
disclosed to AIG in writing).
4. This Amendment No. 1 shall not constitute a consent or waiver to or
modification of any other provision, term or condition of the Agreement.
All terms, provisions, covenants, representations, warranties,
agreements and conditions contained in the Agreement, as amended hereby,
shall remain in full force and effect.
5. This Amendment No. 1 may be executed in any number of counterparts and
by different parties hereby in separate counterparts, each of which
when executed and delivered shall be deemed an original, but all such
counterparts together shall constitute but one and the same instrument.
6. THIS AMENDMENT NO. 1 SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE
WITH THE LAWS OF THE STATE OF NEW YORK, AS APPLIED TO CONTRACTS MADE AND
PERFORMED WITHIN THE STATE OF NEW YORK, WITHOUT REGARD TO PRINCIPLES OF
CONFLICTS OF LAW. EACH OF THE PARTIES HERETO AGREES TO SUBMIT TO THE
JURISDICTION OF THE STATE AND FEDERAL COURTS IN THE STATE OF NEW YORK IN
ANY ACTION OR PROCEEDING ARISING OUT OF OR RELATING TO THIS AMENDMENT
NO. 1.
<PAGE>
In witness whereof, the parties hereby have executed this Amendment No. 1.
ALEXANDER & ALEXANDER SERVICES INC.
By: /s/ Edward F. Kosnik
Name: Edward F. Kosnik
Title: Executive Vice President
Chief Financial Officer
AMERICAN INTERNATIONAL GROUP, INC.,
on behalf of itself and each of
the Purchasers
By: /s/ Edward E. Matthews
Name: Edward E. Matthews
Title: Vice Chairman - Finance
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