<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the Quarterly Period Ended Commission File
March 31, 1999 No. 1-7361
AMERICAN FINANCIAL CORPORATION
Incorporated under IRS Employer I.D.
the Laws of Ohio No. 31-0624874
One East Fourth Street, Cincinnati, Ohio 45202
(513) 579-2121
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, and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
As of May 1, 1999, there were 10,593,000 shares of the Registrant's Common
Stock outstanding, all of which were owned by American Financial Group, Inc.
Page 1 of 20
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
PART I
FINANCIAL INFORMATION
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(Dollars In Thousands)
March 31, December 31,
1999 1998
Assets:
Cash and short-term investments $ 343,232 $ 289,944
Investments:
Fixed maturities - at market
(amortized cost - $9,987,367 and $9,920,407) 10,248,767 10,323,407
Other stocks - at market
(cost - $214,321 and $207,345) 442,521 430,345
Investment in investee corporation 207,255 192,138
Policy loans 219,341 220,496
Real estate and other investments 250,969 268,171
Total investments 11,368,853 11,434,557
Recoverables from reinsurers and prepaid
reinsurance premiums 1,854,355 1,973,895
Agents' balances and premiums receivable 596,952 618,198
Deferred acquisition costs 489,682 464,047
Other receivables 274,406 318,154
Assets held in separate accounts 162,252 120,049
Prepaid expenses, deferred charges and other assets 332,275 343,554
Cost in excess of net assets acquired 282,394 285,469
$15,704,401 $15,847,867
<PAGE>
Liabilities and Capital:
Unpaid losses and loss adjustment expenses $ 4,684,377 $ 4,773,377
Unearned premiums 1,084,399 1,232,848
Annuity benefits accumulated 5,482,277 5,449,633
Life, accident and health reserves 350,814 341,595
Payable to American Financial Group, Inc. 212,309 270,500
Other Long-term debt:
Holding companies 365,384 315,536
Subsidiaries 195,497 176,896
Liabilities related to separate accounts 162,252 120,049
Accounts payable, accrued expenses and other
liabilities 1,136,402 1,112,442
Total liabilities 13,673,711 13,792,876
Minority interest 512,251 524,335
Shareholders' Equity:
Preferred Stock (liquidation value $72,154) 72,154 72,154
Common Stock, no par value
- 20,000,000 shares authorized
- 10,593,000 shares outstanding 9,625 9,625
Capital surplus 948,142 943,359
Retained earnings 211,618 157,218
Net unrealized gain on marketable securities,
net of deferred income taxes 276,900 348,300
Total shareholders' equity 1,518,439 1,530,656
$15,704,401 $15,847,867
2
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF EARNINGS
(In Thousands, Except Per Share Data)
Three months ended
March 31,
1999 1998
Income:
Property and casualty insurance premiums $537,466 $ 676,172
Life, accident and health premiums 25,588 46,816
Investment income 205,460 220,231
Equity in net earnings of investee 16,317 13,918
Realized gains on sales of:
Securities 4,449 7,446
Investee - 7,704
Other investments - 6,843
Other income 27,805 37,533
817,085 1,016,663
Costs and Expenses:
Property and casualty insurance:
Losses and loss adjustment expenses 365,829 499,825
Commissions and other underwriting expenses 168,221 193,605
Annuity benefits 64,941 71,110
Life, accident and health benefits 18,879 38,106
Interest charges on borrowed money 16,847 17,031
Minority interest expense 13,619 12,141
Other operating and general expenses 76,227 76,699
724,563 908,517
Earnings before income taxes, extraordinary items
and cumulative effect of accounting change 92,522 108,146
Provision for income taxes 34,268 41,736
Earnings before extraordinary items and cumulative
effect of accounting change 58,254 66,410
Extraordinary items - loss on prepayment of debt - (685)
Cumulative effect of accounting change (3,854) -
Net Earnings $ 54,400 $ 65,725
3
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
(Dollars in Thousands)
<TABLE>
<CAPTION>
Common Stock Unrealized
Preferred and Capital Retained Gain on Comprehensive
Stock Surplus Earnings Securities Income (Loss)
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1999 $72,154 $952,984 $157,218 $348,300
Net earnings - - 54,400 - $54,400
Capital contribution from parent - 3,067 - - -
Change in unrealized - - - (71,400) (71,400)
Other - 1,716 - - -
Balance at March 31, 1999 $72,154 $957,767 $211,618 $276,900 ($17,000)
Balance at January 1, 1998 $72,154 $945,779 $34,350 $341,200
Net earnings - - 65,725 - $65,725
Capital contribution from parent - 4,177 - - -
Change in unrealized - - - 8,300 8,300
Other - 95 - - -
Balance at March 31, 1998 $72,154 $950,051 $100,075 $349,500 $74,025
</TABLE>
4
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(In Thousands)
Three months ended
March 31,
1999 1998
Operating Activities:
Net earnings $ 54,400 $ 65,725
Adjustments:
Extraordinary items - 685
Cumulative effect of accounting change 3,854 -
Depreciation and amortization 21,947 24,582
Annuity benefits 64,941 71,110
Equity in net earnings of investee (16,317) (13,918)
Realized gains on investing activities (7,247) (35,299)
Deferred annuity and life policy acquisition costs (28,236) (24,263)
Decrease (increase) in reinsurance and other
receivables 179,424 (34,832)
Decrease (increase) in other assets (10,838) 67,689
Increase (decrease) in insurance claims and reserves (133,449) 41,375
Increase (decrease) in other liabilities 25,935 (5,942)
Increase in minority interest 4,634 5,144
Dividends from investee 1,200 1,200
Other, net (3,030) (6,140)
157,218 157,116
Investing Activities:
Purchases of and additional investments in:
Fixed maturity investments (535,513) (631,793)
Equity securities (19,183) (19,297)
Subsidiaries (26,636) (31,000)
Real estate, property and equipment (18,541) (16,621)
Maturities and redemptions of fixed maturity
investments 340,961 284,517
Sales of:
Fixed maturity investments 180,604 206,843
Equity securities 15,763 2,781
Real estate, property and equipment 2,990 30,043
Cash and short-term investments of acquired
subsidiaries, net 11,740 21,678
Decrease in other investments 21,563 1,281
(26,252) (151,568)
<PAGE>
Financing Activities:
Fixed annuity receipts 107,487 107,832
Annuity surrenders, benefits and withdrawals (191,124) (164,034)
Additional long-term borrowings 69,150 50,248
Reductions of long-term debt (549) (32,185)
Borrowings from AFG 3,000 -
Repayments of borrowings from AFG (64,800) -
Capital contribution 4,667 4,667
Repurchases of trust preferred securities (5,509) -
(77,678) (33,472)
Net Increase (Decrease) in Cash and
Short-term Investments 53,288 (27,924)
Cash and short-term investments at beginning
of period 289,944 231,227
Cash and short-term investments at end of period $343,232 $203,303
5
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A. Accounting Policies
Basis of Presentation The accompanying consolidated financial statements
for American Financial Corporation ("AFC") and subsidiaries are unaudited;
however, management believes that all adjustments (consisting only of
normal recurring accruals unless otherwise disclosed herein) necessary for
fair presentation have been made. The results of operations for interim
periods are not necessarily indicative of results to be expected for the
year. The financial statements have been prepared in accordance with the
instructions to Form 10-Q and therefore do not include all information and
footnotes necessary to be in conformity with generally accepted accounting
principles.
Certain reclassifications have been made to prior years to conform to the
current year's presentation. All significant intercompany balances and
transactions have been eliminated. All acquisitions have been treated as
purchases. The results of operations of companies since their formation
or acquisition are included in the consolidated financial statements.
The preparation of the financial statements requires management to make
estimates and assumptions that affect the amounts reported in the
financial statements and accompanying notes. Changes in circumstances
could cause actual results to differ materially from those estimates.
Investments All fixed maturity securities are "available for sale" and
reported at fair value with unrealized gains and losses reported as a
separate component of shareholders' equity. Short-term investments are
carried at cost; loans receivable are carried primarily at the aggregate
unpaid balance. Premiums and discounts on mortgage-backed securities are
amortized over their expected average lives using the interest method.
Gains or losses on sales of securities are recognized at the time of
disposition with the amount of gain or loss determined on the specific
identification basis. When a decline in the value of a specific
investment is considered to be other than temporary, a provision for
impairment is charged to earnings and the carrying value of that
investment is reduced.
Investment in Investee Corporation Investments in securities of 20%- to
50%-owned companies are generally carried at cost, adjusted for AFC's
proportionate share of their undistributed earnings or losses.
Cost in Excess of Net Assets Acquired The excess of cost of subsidiaries
and investees over AFC's equity in the underlying net assets ("goodwill")
is being amortized over 40 years.
Insurance As discussed under "Reinsurance" below, unpaid losses and loss
adjustment expenses and unearned premiums have not been reduced for
reinsurance recoverable.
<PAGE>
Reinsurance In the normal course of business, AFC's insurance
subsidiaries cede reinsurance to other companies to diversify risk and
limit maximum loss arising from large claims. To the extent that any
reinsuring companies are unable to meet obligations under the agreements
covering reinsurance ceded, AFC's insurance subsidiaries would remain
liable. Amounts recoverable from reinsurers are estimated in a manner
consistent with the claim liability
6
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
associated with the reinsured policies. AFC's insurance subsidiaries
report as assets (a) the estimated reinsurance recoverable on unpaid
losses, including an estimate for losses incurred but not reported, and
(b) amounts paid to reinsurers applicable to the unexpired terms of
policies in force. AFC's insurance subsidiaries also assume reinsurance
from other companies. Income on reinsurance assumed is recognized based
on reports received from ceding reinsurers.
Deferred Acquisition Costs Policy acquisition costs (principally
commissions, premium taxes and other underwriting expenses) related to the
production of new business are deferred ("DPAC"). For the property and
casualty companies, the deferral of acquisition costs is limited based
upon their recoverability without any consideration for anticipated
investment income. DPAC is charged against income ratably over the terms
of the related policies. For the annuity companies, DPAC is amortized,
with interest, in relation to the present value of expected gross profits
on the policies.
Unpaid Losses and Loss Adjustment Expenses The net liabilities stated
for unpaid claims and for expenses of investigation and adjustment of
unpaid claims are based upon (a) the accumulation of case estimates for
losses reported prior to the close of the accounting period on the direct
business written; (b) estimates received from ceding reinsurers and
insurance pools and associations; (c) estimates of unreported losses based
on past experience; (d) estimates based on experience of expenses for
investigating and adjusting claims and (e) the current state of the law
and coverage litigation. These liabilities are subject to the impact of
changes in claim amounts and frequency and other factors. In spite of the
variability inherent in such estimates, management believes that the
liabilities for unpaid losses and loss adjustment expenses are adequate.
Changes in estimates of the liabilities for losses and loss adjustment
expenses are reflected in the Statement of Earnings in the period in which
determined.
Annuity Benefits Accumulated Annuity receipts and benefit payments
are recorded as increases or decreases in "annuity benefits accumulated"
rather than as revenue and expense. Increases in this liability for
interest credited are charged to expense and decreases for surrender
charges are credited to other income.
Life, Accident and Health Reserves Liabilities for future policy
benefits under traditional life, accident and health policies are computed
using the net level premium method. Computations are based on anticipated
investment yield, mortality, morbidity and surrenders and include
provisions for unfavorable deviations. Reserves are modified as necessary
to reflect actual experience and developing trends.
Assets Held In and Liabilities Related to Separate Accounts Separate
account assets and related liabilities represent variable annuity
deposits.
<PAGE>
Premium Recognition Property and casualty premiums are earned over
the terms of the policies on a pro rata basis. Unearned premiums
represent that portion of premiums written which is applicable to the
unexpired terms of policies in force. On reinsurance assumed from other
insurance companies or written through various underwriting organizations,
unearned premiums are based on reports received from such companies and
organizations. For traditional life, accident and health products,
premiums are recognized as revenue when legally collectible from
policyholders. For interest-sensitive life and universal life products,
premiums are recorded in a policyholder account which is reflected as a
liability. Revenue is recognized as amounts are assessed against the
policyholder account for mortality coverage and contract expenses.
7
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Policyholder Dividends Dividends payable to policyholders are
included in "Accounts payable, accrued expenses and other liabilities" and
represent estimates of amounts payable on participating policies which
share in favorable underwriting results. The estimate is accrued during
the period in which the related premium is earned. Changes in estimates
are included in income in the period determined. Policyholder dividends
do not become legal liabilities unless and until declared by the boards of
directors of the insurance companies.
Minority Interest For balance sheet purposes, minority interest
represents (i) the interests of noncontrolling shareholders in AFC
subsidiaries, including preferred securities issued by trust subsidiaries
of American Annuity Group, Inc. ("AAG"), and (ii) the American Financial
Group, Inc. ("AFG") direct ownership interest in American Premier
Underwriters, Inc. ("American Premier" or "APU") and American Financial
Enterprises, Inc. For income statement purposes, minority interest
expense represents those shareholders' interest in the earnings of AFC
subsidiaries as well as accrued distributions on the trust preferred
securities.
Issuances of Stock by Subsidiaries and Investees Changes in AFC's equity
in a subsidiary or an investee caused by issuances of the subsidiary's or
investee's stock are accounted for as gains or losses where such issuance
is not a part of a broader reorganization.
Income Taxes AFC files consolidated federal income tax returns which
include all 80%-owned U.S. subsidiaries, except for certain life insurance
subsidiaries and their subsidiaries. Deferred income taxes are calculated
using the liability method. Under this method, deferred income tax assets
and liabilities are determined based on differences between financial
reporting and tax bases and are measured using enacted tax rates.
Deferred tax assets are recognized if it is more likely than not that a
benefit will be realized.
Benefit Plans AFC provides retirement benefits to qualified employees of
participating companies through contributory and noncontributory defined
contribution plans contained in AFC's Retirement and Savings Plan. Under
the retirement portion of the plan, company contributions (approximately
6% of covered compensation in 1998) are invested primarily in securities
of AFC and affiliates. Under the savings portion of the plan, AFC matches
a specific portion of employee contributions. Contributions to benefit
plans are charged against earnings in the year for which they are
declared.
AFC and many of its subsidiaries provide health care and life insurance
benefits to eligible retirees. AFC also provides postemployment benefits
to former or inactive employees (primarily those on disability) who were
not deemed retired under other company plans. The projected future cost
of providing these benefits is expensed over the period the employees earn
such benefits.
<PAGE>
Start-up Costs Prior to 1999, AAG, an 83%-owned subsidiary, deferred
certain costs associated with introducing new products and distribution
channels and amortized them on a straight-line basis over 5 years. In
1999, AAG implemented Statement of Position ("SOP") 98-5, "Reporting on
the Costs of Start-Up Activities." The SOP requires that (i) costs of
start-up activities be expensed as incurred and (ii) unamortized balances
of previously deferred costs be expensed and reported as the cumulative
effect of a change in accounting principle. Accordingly, AFC expensed
previously capitalized start-up costs of $3.8 million (net of minority
interest and taxes), effective January 1, 1999.
8
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Derivatives The Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," during the
second quarter of 1998. AFC must implement SFAS No. 133 no later than
January 1, 2000. SFAS No. 133 establishes accounting and reporting
standards for derivative instruments, including derivative instruments
that are embedded in other contracts, and for hedging activities. SFAS
No. 133 requires the recognition of all derivatives (both assets and
liabilities) in the balance sheet at fair value. Changes in fair value of
derivative instruments are included in current income or as a component of
comprehensive income (outside current income) depending on the type of
derivative. Implementation of SFAS No. 133 is not expected to have a
material effect on AFC's financial position or results of operations.
Comprehensive Income Comprehensive income represents the total of net
earnings plus other comprehensive income. For AFC, other comprehensive
income represents the change in net unrealized gain on marketable
securities net of deferred taxes.
Statement of Cash Flows For cash flow purposes, "investing activities"
are defined as making and collecting loans and acquiring and disposing of
debt or equity instruments and property and equipment. "Financing
activities" include obtaining resources from owners and providing them
with a return on their investments, borrowing money and repaying amounts
borrowed. Annuity receipts, benefits and withdrawals are also reflected
as financing activities. All other activities are considered "operating".
Short-term investments having original maturities of three months or less
when purchased are considered to be cash equivalents for purposes of the
financial statements.
9
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
B. Segments of Operations Having sold substantially all of its Commercial
lines division in December 1998, AFC's property and casualty group is
engaged primarily in private passenger automobile and specialty insurance
businesses. The Personal group consists of the nonstandard auto group
along with the preferred/standard private passenger auto and other
personal insurance business. The Specialty group includes a highly
diversified group of specialty business units. AFC's annuity and life
business markets primarily retirement products as well as life and
supplemental health insurance. In addition, AFC has owned significant
portions of the voting equity securities of Chiquita Brands International,
Inc. (an investee corporation - see Note C).
The following table (in thousands) shows AFC's revenues and operating
profit (loss) by significant business segment. Operating profit (loss)
represents total revenues less operating expenses.
Three months ended March 31,
1999 1998
Revenues (a)
Property and casualty insurance:
Premiums earned:
Personal $ 285,817 $ 327,972
Specialty 250,588 336,909
Other lines (primarily discontinued) 1,061 11,291
537,466 676,172
Investment and other income 102,268 132,301
639,734 808,473
Annuities and life (b) 154,016 188,557
Other 7,018 5,715
800,768 1,002,745
Equity in net earnings of investee 16,317 13,918
$ 817,085 $1,016,663
Operating Profit (Loss)
Property and casualty insurance:
Underwriting:
Personal $ 4,480 $ 11,974
Specialty 349 (9,313)
Other lines (primarily discontinued) (1,413) (19,919)
3,416 (17,258)
Investment and other income 64,528 102,510
67,944 85,252
Annuities and life 26,760 32,054
Other (c) (18,499) (23,078)
76,205 94,228
Equity in net earnings of investee 16,317 13,918
$ 92,522 $ 108,146
(a) Revenues include sales of products and services as well as other
income earned by the respective segments.
(b) Represents primarily investment income.
(c) Includes holding company expenses.
10
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
C. Investment in Investee Corporation Investment in investee corporation
reflects AFC's ownership of 24 million shares (37%) of Chiquita common
stock. The market value of this investment was $244 million and
$229 million at March 31, 1999 and December 31, 1998, respectively.
Chiquita is a leading international marketer, producer and distributor of
quality fresh fruits and vegetables and processed foods. Summarized
financial information for Chiquita follows (in millions):
Three months ended March 31,
1999 1998
Net Sales $693 $717
Operating Income 77 70
Net Income 49 41
D. Payable to American Financial Group In December 1997, AFC entered into a
ten-year reciprocal Master Credit Agreement among AFG and several of AFG's
subsidiary holding companies, including APU and AFC's direct parent, AFC
Holding Company, under which funds are made available to each other at one
percent over LIBOR.
E. Other Long-Term Debt The carrying value of other long-term debt consisted
of the following (in thousands):
March 31, December 31,
1999 1998
Holding Companies:
AFC notes payable under bank line $130,000 $ 80,000
AFC 9-3/4% Debentures due April 2004 78,575 78,560
APU 9-3/4% Subordinated Notes due August 1999 89,258 89,467
APU 10-5/8% Subordinated Notes due April 2000 41,350 41,518
APU 10-7/8% Subordinated Notes due May 2011 17,457 17,473
Other 8,744 8,518
$365,384 $315,536
Subsidiaries:
AAG 6-7/8% Senior Notes due June 2008 $100,000 $100,000
AAG notes payable under bank line 46,000 27,000
Notes payable secured by real estate 37,457 37,602
Other 12,040 12,294
$195,497 $176,896
In April 1999, AFG issued $350 million principal amount of 7-1/8% senior
debentures due 2009. The net proceeds from this offering will be used to
retire (in May) the AFC 9-3/4% debentures due 2004 and to retire (at
maturity) the APU subordinated notes due in 1999 and 2000. The remainder
of the proceeds were used to reduce AFC's revolving bank line of credit.
<PAGE>
At March 31, 1999, sinking fund and other scheduled principal payments on
debt for the balance of 1999 and the subsequent five years, adjusted to
reflect the planned debt retirements, were as follows (in thousands):
Holding
Companies Subsidiaries Total
1999 $ - $ 1,568 $ 1,568
2000 - 8,685 8,685
2001 - 1,383 1,383
2002 5,823 1,267 7,090
2003 - 47,294 47,294
2004 - 14,241 14,241
11
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Debentures purchased in excess of scheduled payments may be applied to
satisfy any sinking fund requirement. The scheduled principal payments
shown above assume that debentures previously purchased are applied to the
earliest scheduled retirements.
AFC and AAG each have an unsecured credit agreement with a group of banks
under which they can borrow up to $300 million and $200 million,
respectively. Borrowings bear interest at floating rates based on prime
or Eurodollar rates. Loans mature December 2002 under the AFC credit
agreement and from 2000 to 2003 under the AAG credit agreement.
F. Minority Interest Minority interest in AFC's balance sheet is comprised
of the following (in thousands):
March 31, December 31,
1999 1998
Interest of AFG (parent) and
noncontrolling shareholders
in subsidiaries' common stock $292,651 $299,335
Preferred securities issued by
subsidiary trusts 219,600 225,000
$512,251 $524,335
Trust Issued Preferred Securities Wholly-owned subsidiary trusts of AAG
have issued $225 million of preferred securities and, in turn, purchased a
like amount of AAG subordinated debt which provides interest and principal
payments to fund the respective trusts' obligations. The preferred
securities must be redeemed upon maturity or redemption of the
subordinated debt. AAG effectively provides unconditional guarantees of
its trusts' obligations.
The preferred securities consisted of the following (in thousands):
<TABLE>
<CAPTION>
Date of March 31, December 31, Optional
Issuance Issue (Maturity Date) 1999 1998 Redemption Dates
<S> <C> <C> <C> <C>
November 1996 AAG 9-1/4% TOPrS (2026) 74,600 75,000 On or after 11/7/2001
March 1997 AAG 8-7/8% Pfd (2027) 70,000 75,000 On or after 3/1/2007
May 1997 AAG 7-1/4% ROPES (2041) 75,000 75,000 Prior to 9/28/2000 and
after 9/28/2001
</TABLE>
In the first quarter of 1999, AAG retired $5.4 million of its preferred
securities for $5.5 million in cash.
<PAGE>
Minority Interest Expense Minority interest expense is comprised of (in
thousands):
Three months ended
March 31,
1999 1998
Interest of AFG (parent) and
noncontrolling shareholders
in earnings of subsidiaries $ 8,861 $ 7,383
Accrued distributions by subsidiaries
on trust issued preferred securities 4,758 4,758
$13,619 $12,141
12
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
G. Shareholders' Equity
Preferred Stock Under provisions of both the Nonvoting (4.0 million
shares authorized) and Voting (4.0 million shares authorized) Cumulative
Preferred Stock, the Board of Directors may divide the authorized stock
into series and set specific terms and conditions of each series. The
outstanding voting shares of AFC's Preferred Stock consisted of the
following:
Series J, no par value; $25.00 liquidation value per share; annual
dividends per share $2.00; redeemable at $25.75 per share beginning
December 2005 declining to $25.00 at December 2007; 2,886,161 shares
(stated value $72.2 million) outstanding at March 31, 1999 and
December 31, 1998.
Unrealized Gain on Marketable Securities The change in net unrealized
gain on marketable securities for the three months ended March 31 included
the following (in millions):
Minority
Pretax Taxes Interest Net
1999
Unrealized holding gains (losses) on
securities arising during the period ($120.5) $41.4 $ 9.8 ($69.3)
Less reclassification adjustment for
realized gains included in net income (4.4) 1.6 .7 (2.1)
Change in net unrealized gain on
marketable securities ($124.9) $43.0 $10.5 ($71.4)
1998
Unrealized holding gains (losses) on
securities arising during the period $ 14.8 ($ 5.0) $1.0 $10.8
Less reclassification adjustment for
realized gains included in net income (4.3) 1.5 .3 (2.5)
Change in net unrealized gain on
marketable securities $ 10.5 ($ 3.5) $1.3 $ 8.3
<PAGE>
H. Extraordinary Items Extraordinary items represent AFC's proportionate
share of losses related to debt retirements by the following companies.
Amounts shown are net of minority interest and income tax benefits (in
thousands):
Three months ended
March 31, 1998
Holding Companies:
AFC (parent) ($ 22)
APU (parent) (14)
Subsidiaries:
AAG (649)
($685)
13
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
I. Cash Flows - Fixed Maturity Investments "Investing activities" related to
fixed maturity investments in AFC's Statement of Cash Flows consisted of
the following (in thousands):
Available Held to
For Sale Maturity(a) Total
1999
Purchases $535,513 $ - $535,513
Maturities and redemptions 340,961 - 340,961
Sales 180,604 - 180,604
1998
Purchases $631,717 $ 76 $631,793
Maturities and redemptions 113,955 170,562 284,517
Sales 182,883 23,960(b) 206,843
(a) At December 31, 1998, AFC reclassified all of its "held to
maturity" fixed maturity securities to "available for sale."
(b) Sold (at a gain of $.5 million) due to significant deterioration
in the issuers' creditworthiness.
J. Commitments and Contingencies There have been no significant changes to
the matters discussed and referred to in Note M "Commitments and
Contingencies" in AFC's Annual Report on Form 10-K for 1998.
K. Subsequent Event In April 1999, AFC completed the acquisition of
Worldwide Insurance Company (formerly Providian Auto and Home Insurance
Company) for approximately $160 million. Worldwide is a provider of
direct response private passenger automobile insurance.
14
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
ITEM 2
Management's Discussion and Analysis
of Financial Condition and Results of Operations
GENERAL
AFC and American Premier are organized as holding companies with almost
all of their operations being conducted by subsidiaries. These parent
corporations, however, have continuing cash needs for administrative
expenses, the payment of principal and interest on borrowings, shareholder
dividends and taxes. Therefore, certain analyses are best done on a
parent only basis while others are best done on a total enterprise basis.
In addition, since most of its businesses are financial in nature, AFC
does not prepare its consolidated financial statements using a
current-noncurrent format. Consequently, certain traditional ratios and
financial analysis tests are not meaningful.
Year 2000 Status AFC's Year 2000 Project is a corporate-wide program
designed to ensure that its computer systems and other equipment using
date-sensitive computer chips will function properly in the year 2000.
The Project also encompasses communicating with agents, vendors, financial
institutions and others with which the companies conduct business to
determine their Year 2000 readiness and resulting effects on AFC. AFC's
Year 2000 Project Office monitors and coordinates the work being performed
by the various business units and reports monthly to the Audit Committee
of the Board of Directors and more frequently to senior management.
To address the Year 2000 issue, AFC's operations have been divided into
separate systems groups. At March 31, 1999, these groups were in the
process of either (i) modifying their software programs or (ii) replacing
programs with new software that is Year 2000 compliant. A majority of the
groups have met AFC's goal of having program modifications and new
software installations substantially completed by the end of 1998, with
testing continuing in and through 1999. About one-fourth of the groups
are being "closely watched" because there is some degree of risk that
critical dates in the project schedule may be missed. AFC's goal is to
have Year 2000 testing and new installations for these groups completed
during mid-1999. A few groups have experienced significant delays in
meeting internal project deadlines. Plans are being modified and
resources are being redirected towards these groups which are now expected
to be completed during the third quarter of 1999.
Contingency plans are being developed for certain business processes and
systems deemed most critical to operations. These plans provide a
documented order of actions necessary to keep the business functions
operating. Such plans typically include procedures and workflow processes
for developing and operating contingent databases. Contingency planning
for other business processes and systems deemed critical to operations and
reasonably likely not to be modified on schedule will be completed by mid-
1999.
<PAGE>
Many of the systems being replaced were planned replacements which were
accelerated due to the Year 2000 considerations. In addition, a
significant portion of AFC's Year 2000 Project is being completed using
internal staff. Therefore, cost estimates for the Year 2000 Project do
not represent solely incremental costs.
From the inception of the Year 2000 Project in the early 1990s through
March 31, 1999, AFC estimates that it has incurred approximately
$56 million in costs related to the Project, including capitalized costs
of $13 million for new systems. During the first three months of 1999,
$7 million in such costs have been expensed. AFC estimates that it will
incur an additional $18 million of such costs in completing the Project,
about three-fourths of which is projected to be expensed.
15
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
Management's Discussion and Analysis
of Financial Condition and Results of Operations - Continued
Projected Year 2000 costs and completion dates are based on management's
best estimates. However, there can be no assurances that these estimates
will be achieved. Should software modifications and new software
installations not be completed on a timely basis, the resulting
disruptions could have a material adverse affect on operations.
AFC's operations could also be affected by the inability of third parties
such as agents and vendors to become Year 2000 compliant. While
assessments of independent agents and evaluations of third party vendors
are progressing slowly, efforts are being intensified to complete these
assessments in the second quarter of 1999. In addition, AFC's property
and casualty insurance subsidiaries are reviewing the potential impact of
the Year 2000 issue on insureds as part of their underwriting process.
They are also reviewing policy forms, issuing clarifying endorsements
where appropriate and examining coverage issues for Year 2000 exposures.
While it is possible that Year 2000 claims may emerge in future periods,
it is not possible to estimate any such amounts.
Forward-Looking Statements The Private Securities Litigation Reform Act
of 1995 encourages corporations to provide investors with information
about the company's anticipated performance and provides protection from
liability if future results are not the same as management's expectations.
This document contains certain forward-looking statements that are based
on assumptions which management believes are reasonable, but by their
nature, inherently uncertain. Future results could differ materially from
those projected. Factors that could cause such differences include, but
are not limited to: changes in economic conditions especially with regard
to availability of and returns on capital, regulatory actions, changes in
legal environment, levels of catastrophe and other major losses,
availability of reinsurance, the Year 2000 issue, and competitive
pressures. AFC undertakes no obligation to update any forward-looking
statements.
LIQUIDITY AND CAPITAL RESOURCES
Ratios AFC's debt to total capital ratio at the parent holding company
level (excluding amounts due AFG) was approximately 19% at March 31, 1999
and 17% at December 31, 1998. Including amounts due AFG, the ratio was
28% at March 31, 1999 and December 31, 1998.
AFC's ratio of earnings to fixed charges, excluding and including
preferred dividends, (on a total enterprise basis) was 4.20 and 3.85 for
the first three months of 1999 and 3.44 and 3.15 for the entire year of
1998.
Sources of Funds Management believes the parent holding companies have
sufficient resources to meet their liquidity requirements through
operations in the short-term and long-term future. If funds generated
from operations, including dividends and tax payments from subsidiaries,
are insufficient to meet fixed charges in any period, these companies
would be required to generate cash through borrowings, sales of securities
or other assets, or similar transactions.
<PAGE>
AFC has a revolving credit agreement with several banks under which it can
borrow up to $300 million. The credit line provides ample liquidity and
can be used to obtain funds for operating subsidiaries or, if necessary,
for the parent companies. At March 31, 1999, there was $130 million
borrowed under the credit line. This amount was repaid in May 1999.
16
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
Management's Discussion and Analysis
of Financial Condition and Results of Operations - Continued
In April 1999, AFG issued $350 million principal amount of 7-1/8% senior
debentures due 2009; the proceeds are to be used to retire certain AFC and
APU public debt and borrowings under AFC's credit line.
Dividend payments from subsidiaries have been very important to the
liquidity and cash flow of the individual holding companies in the past.
However, the reliance on such dividend payments has been lessened by the
combination of (i) strong capital at AFC's insurance subsidiaries (and the
related decreased likelihood of a need for investment in those companies),
(ii) the reduction of debt at the holding companies from historical levels
(and the related decrease in ongoing cash needs for interest and principal
payments), (iii) AFC's ability to obtain financing in capital markets, as
well as (iv) the sales of noncore investments.
Investments Approximately 91% of the fixed maturities held by AFC were
rated "investment grade" (credit rating of AAA to BBB) by nationally
recognized rating agencies at March 31, 1999. Investment grade securities
generally bear lower yields and lower degrees of risk than those that are
unrated and noninvestment grade. Management believes that the high
quality investment portfolio should generate a stable and predictable
investment return.
AFC's equity securities are concentrated in a relatively limited number of
major positions. This approach allows management to more closely monitor
the companies and the industries in which they operate.
RESULTS OF OPERATIONS
General Pretax earnings before extraordinary items and cumulative effect
of accounting change for the first quarter of 1999 were $93 million
compared to $108 million for the first quarter of 1998. While results
included improvements in underwriting profitability in the property and
casualty operations and investee earnings, these were more than offset by
reductions in investment income, realized gains and income from the sale
of real estate properties.
Property and Casualty Insurance - Underwriting AFC's property and
casualty group consists of two major business groups: Personal and
Specialty.
The Personal group consists of the nonstandard auto group along with the
preferred/standard private passenger auto and other personal insurance
business. The nonstandard automobile insurance companies insure risks not
typically accepted for standard automobile coverage because of the
applicant's driving record, type of vehicle, age or other criteria.
<PAGE>
The Specialty group includes a highly diversified group of business lines.
Some of the more significant areas are executive liability, inland and
ocean marine, U.S.-based operations of Japanese companies, agricultural-
related coverages, California workers' compensation, nonprofit liability,
general aviation coverages, fidelity and surety bonds, and umbrella and
excess coverages. Commercial lines businesses sold included certain
coverages in workers' compensation, commercial multi-peril, commercial
automobile, and umbrella.
17
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
Management's Discussion and Analysis
of Financial Condition and Results of Operations - Continued
Underwriting profitability is measured by the combined ratio which is a
sum of the ratios of underwriting losses, loss adjustment expenses,
underwriting expenses and policyholder dividends to premiums. When the
combined ratio is under 100%, underwriting results are generally
considered profitable; when the ratio is over 100%, underwriting results
are generally considered unprofitable. The combined ratio does not
reflect investment income, other income or federal income taxes.
For certain lines of business and products where the credibility of the
range of loss projections is less certain (primarily the various specialty
businesses listed above), management believes that it is prudent and
appropriate to use conservative assumptions until such time as the data,
experience and projections have more credibility, as evidenced by data
volume, consistency and maturity of the data. While this practice
mitigates the risk of adverse development on this business, it does not
eliminate it.
Net written premiums and combined ratios for AFC's property and casualty
insurance subsidiaries were as follows (dollars in millions):
Three months ended
March 31,
1999 1998
Net Written Premiums (GAAP)
Personal $276.5 $358.2
Specialty 248.1 329.0
Other lines .2 7.7
$524.8 $694.9
Combined Ratios (GAAP)
Personal 98.5% 96.3%
Specialty 99.8 102.8
Aggregate (including other lines) 99.4 102.6
Personal The Personal group's net written premiums for the first
three months of 1999 were substantially equivalent to the fourth quarter
of 1998, but $81.7 million (23%) lower than the first quarter of 1998.
The decline is due primarily to stronger price competition in the personal
automobile market over the last twelve months.
Specialty For the first three months of 1999, net written premiums
for the Specialty group were $80.9 million (25%) below that of the
comparable 1998 period due primarily to the sale of the Commercial lines
division in December 1998 and the effect on California workers'
compensation premiums of a reinsurance agreement implemented during the
third quarter of 1998. Excluding these items, the net written premiums
increased 2% during the first quarter of 1999.
<PAGE>
A deferred gain of $103 million on the Commercial lines business ceded to
Ohio Casualty in December 1998 is being recognized over the estimated
settlement period (weighted average 4.25 years) of the claims ceded. The
Specialty group's underwriting results for the first quarter of 1999
include $6.7 million in earnings recognized on the ceded business.
Underwriting results for the first quarter of 1999 also benefited from
improved underwriting margins in the California workers' compensation
business and the absence of underwriting losses included in the 1998
period attributable to the commercial lines sold.
18
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
Management's Discussion and Analysis
of Financial Condition and Results of Operations - Continued
Life, Accident and Health Premiums and Benefits The decrease in life,
accident and health premiums and benefits reflects primarily the sale of
AAG's Funeral Services division in September 1998.
Investment Income Investment income decreased approximately
$14.8 million (7%) in the first three months of 1999 compared to 1998 due
primarily to the transfer of investment assets in connection with the
sales of the Commercial lines division and Funeral Services division in
1998.
Investee Corporation Equity in net earnings of investee corporation
represents AFC's proportionate share of Chiquita's earnings. Chiquita
reported net income for the first three months of 1999 of $48.7 million
compared to $41.1 million for the same period in 1998.
Realized Gains Realized capital gains have been an important part of the
return on investments in marketable securities. Individual securities are
sold creating gains and losses as market opportunities exist.
Gain on Sale of Investee Chiquita's public issuance of shares of its
common stock in the first quarter of 1998 resulted in a pretax gain to AFC
of $7.7 million.
Other Income Other income decreased $9.7 million (26%) in the first three
months of 1999 compared to 1998 due primarily to a reduction in income
from the sale of operating real estate assets.
Annuity Benefits Annuity benefits reflect amounts accrued on annuity
policyholders' funds accumulated. The majority of AAG's fixed rate
annuity products permit AAG to change the crediting rate at any time
(subject to minimum interest rate guarantees of 3% or 4% per annum). As a
result, management has been able to react to changes in market interest
rates and maintain a desired interest rate spread.
Annuity benefits decreased $6.2 million (9%) in the first quarter of 1999
compared to the same period in 1998 due primarily to (i) decreases in
crediting rates, (ii) changes in actuarial assumptions, (iii) the sale of
the Funeral Services division and (iv) decreased sales and persistency of
fixed annuities.
Cumulative Effect of Accounting Change In the first quarter of 1999, AAG
implemented Statement of Position 98-5, "Reporting on the Costs of Start-
Up Activities." The SOP requires that costs of start-up activities be
expensed as incurred and that unamortized balances of previously deferred
costs be expensed and reported as the cumulative effect of a change in
accounting principle. Accordingly, AFC expensed previously capitalized
start-up costs of $3.8 million (net of minority interest and taxes) in the
first quarter of 1999.
<PAGE>
Item 3
Quantitative and Qualitative Disclosure of Market Risk
As of March 31, 1999, there were no material changes to the information
provided in AFC's Form 10-K for 1998 under the caption "Exposure to Market
Risk" in Management's Discussion and Analysis of Financial Condition and
Results of Operations.
19
<PAGE>
AMERICAN FINANCIAL CORPORATION 10-Q
PART II
OTHER INFORMATION
Item 6
Exhibits and Reports on Form 8-K
(a) Exhibit 27.1 - Financial Data Schedule as of March 31, 1999. For
submission in electronic filing only.
(b) Reports on Form 8-K: None
Signature
Pursuant to the requirements of the Securities Exchange Act of 1934, American
Financial Corporation has duly caused this Report to be signed on its behalf
by the undersigned duly authorized.
American Financial Corporation
May 13, 1999 BY: Fred J. Runk
Fred J. Runk
Senior Vice President and Treasurer
20
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
American Financial Corporation 10-Q for the three months ended March 31,
1999 and is qualified in its entirety by reference to such financial
statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<CASH> 343,232
<SECURITIES> 10,898,543<F1>
<RECEIVABLES> 596,952
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 15,704,401
<CURRENT-LIABILITIES> 0
<BONDS> 560,881
0
0
<COMMON> 9,625
<OTHER-SE> 1,508,814
<TOTAL-LIABILITY-AND-EQUITY> 15,704,401
<SALES> 0
<TOTAL-REVENUES> 817,085
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 76,227
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 16,847
<INCOME-PRETAX> 92,522
<INCOME-TAX> 34,268
<INCOME-CONTINUING> 58,254
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> (3,854)
<NET-INCOME> 54,400
<EPS-PRIMARY> 0<F2>
<EPS-DILUTED> 0<F2>
<FN>
<F1>Includes an investment in investee of $207 million.
<F2>Not applicable since all common shares are owned by American
Financial Group, Inc.
</FN>
</TABLE>
