SCHEDULE 14A
SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a)
of the Securities Exchange Act of 1934
(Amendment No. ____)
Filed by the Registrant [X]
Filed by a Party other than the Registrant [ ]
Check the appropriate box:
[ ] Preliminary Proxy Statement
[ ] Confidential, for Use of the Commission Only (as
permitted by Rule 14a-6(e)(2))
[x] Definitive Proxy Statement
[ ] Definitive Additional Materials
[ ] Soliciting Material Pursuant to 240.14a-11(c) or
240.14a-12
AMERICAN FINANCIAL CORPORATION
(Name of Registrant as Specified In Its Charter)
(Name of Person(s) Filing Proxy Statement if other than
the Registrant)
Payment of Filing Fee (Check the appropriate box):
[X] No fee required.
[ ] Fee computed on table below per Exchange Act Rules 14a-
6(i)(4) and 0-11.
Title of each class of securities to which
transaction applies:
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transaction applies:
Per unit price or other underlying value of
transaction computed pursuant to Exchange Act Rule
0-11 (Set forth the amount on which the filing fee
is calculated and state how it was determined)
Proposed maximum aggregate value of transaction:
[ ] Fee paid previously with preliminary materials.
[ ] Check box if any part of the fee is offset as provided
by Exchange Act Rule 0-11(a)(2) and identity the filing for
which the offsetting fee was paid previously. Identify the
previous filing by registration statement number, or the
Form or Schedule and the date of its filing.
(1) Amount Previously Paid:
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(4) Date Filed:
<PAGE>
AMERICAN FINANCIAL CORPORATION
One East Fourth Street
Cincinnati, Ohio 45202
Notice of Annual Meeting of Shareholders
and Proxy Statement
To be Held on May 19, 1999
Dear Shareholder:
We invite you to attend our Annual Meeting of Shareholders
on Wednesday, May 19, 1999, in Cincinnati, Ohio. At the meeting,
you will hear a report on our operations and have an opportunity
to meet your directors and executives.
This booklet includes the formal notice of the meeting and
the proxy statement. The proxy statement tells you more about
the agenda and procedures for the meeting. It also describes how
your Board of Directors operates and provides information about
the director candidates.
Even if you own only a few shares of Series J Preferred
Stock, we want your shares to be represented at the meeting. I
urge you to complete, sign, date and return your proxy card
promptly.
Our proxy statement has a new look this year. We hope that
you find it easy to read and understand.
Sincerely,
Carl H. Lindner
Chairman of the Board and
Chief Executive Officer
Cincinnati, Ohio
April 16, 1999
NOTICE OF ANNUAL MEETING OF SHAREHOLDERS
OF AMERICAN FINANCIAL CORPORATION
Date: Wednesday, May 19, 1999
Time: 10:30 a.m. Eastern Daylight Savings
Time
Place: The Cincinnatian Hotel
Second Floor _ Filson Room
601 Vine Street
Cincinnati, Ohio
Purpose: Election of Directors
Conduct other business if properly
raised
Record March 31, 1999 - Only shareholders
Date: of record at the close of business on
that date are entitled to receive
notice of and to vote at the meeting.
Mailing The approximate mailing date of this
Date: proxy statement and accompanying
proxy
form is April 16, 1999.
AFG The meeting will be held concurrently
Meeting: with the meeting of shareholders of
American Financial Group, Inc.
("AFG"), the Company's parent
company.
Your vote is important. Please complete, sign, date and return
your
proxy card, which is the bottom portion of the enclosed
perforated form.
Table Of Contents
Page
GENERAL INFORMATION 1
ELECTION OF DIRECTORS 2
PRINCIPAL SHAREHOLDERS 2
MANAGEMENT 3
COMPENSATION 6
COMMITTEES AND MEETINGS OF THE BOARD OF DIRECTORS 12
INDEPENDENT AUDITORS 12
NOMINATIONS AND SHAREHOLDER PROPOSALS 12
REQUESTS FOR FORM 10-K 13
CERTAIN FINANCIAL INFORMATION F-1
GENERAL INFORMATION
Record Date; Shares Outstanding
As of March 31, 1999, the record date for determining
shareholders entitled to notice of and to vote at the meeting,
the Company had outstanding two classes of voting securities, its
common stock, no par value and its Series J Preferred Stock. At
the Record Date, 10,593,000 shares of Common Stock were
outstanding, all of which were held by AFG, and 2,886,161 shares
of Preferred Stock were outstanding. Each share of outstanding
common stock and preferred stock is entitled to one vote on each
matter to be presented at the Meeting. Abstentions and broker
non-votes will have no effect on any item voted on at the
Meeting.
Cumulative Voting
Shareholders have cumulative voting rights in the election
of directors and one vote per share on all other matters.
Cumulative voting allows a shareholder to multiply the number of
shares owned on the record date by the number of directors to be
elected and to cast the total for one nominee or distribute the
votes among the nominees as the shareholder desires. Nominees
who receive the greatest number of votes will be elected. In
order to invoke cumulative voting, notice of cumulative voting
must be given in writing to an executive officer of the Company
not less than 48 hours before the time fixed for the holding of
the meeting.
Proxies
If a choice is specified on a properly executed proxy form,
the shares will be voted accordingly. If a proxy form is signed
without a preference indicated, those shares will be voted "FOR"
the election of the eight nominees proposed by the Board of
Directors. If any other matters properly come before the meeting
or any adjournment thereof, each properly executed proxy form
will be voted in the discretion of the proxies named therein.
Shareholders may vote in person or by proxy at the meeting.
Proxies given may be revoked at any time by filing with the
Company either a written revocation or a duly executed proxy
bearing a later date, or shareholders may revoke their proxies by
appearing at the meeting and voting in person.
Solicitation of proxies is being made by management at the
direction of the Company's Board of Directors, without additional
compensation, through the mail, in person, by facsimile or by
telephone. The cost will be borne by the Company. In addition,
the Company will request brokers and other custodians, nominees
and fiduciaries to forward proxy soliciting material to the
beneficial owners of shares held of record by such persons, and
the Company will reimburse them for their expenses in so doing.
Adjournment and Other Matters
Approval of a motion for adjournment or other matters
brought before the meeting requires the affirmative vote of a
majority of the shares voting at the meeting. Management knows
of no other matters to be presented at the meeting other than
those stated in this document.
PROPOSAL ELECTION OF DIRECTORS
The Board of Directors has nominated eight directors to hold
office until the next annual meeting of Shareholders and until
their successors are elected and qualified. If any of the
nominees should become unable to serve as a director, the proxies
will be voted for any substitute nominee designated by the Board
of Directors but, in any event, no proxy may be voted for more
than eight nominees. The eight nominees who receive the greatest
number of votes will be elected.
The nominees for election to the Board of Directors are:
Carl H. Lindner Keith E. Lindner
S. Craig Lindner Carl H. Lindner III
Theodore H. Emmerich Thomas M. Hunt
James E. Evans William R. Martin
All of these nominees were elected directors at the last
annual meeting of shareholders of the Company held on May 28,
1998. See "Management" and "Compensation" below for information
concerning the background, securities holdings, remuneration and
other matters relating to the nominees.
The Board of Directors recommends that shareholders vote FOR
the election of these eight nominees as directors.
PRINCIPAL SHAREHOLDERS
The following shareholders are the only persons known by the
Company to own beneficially 5% or more of its outstanding voting
securities as of March 31, 1999:
Name and Address Amount and Nature Percent of
of Beneficial Owner of Voting Securities
Beneficial
Ownership
---------------------- ------------------ -----------------
American Financial 10,593,000 78.6%
Group, Inc. (a) shares
One East Fourth Street of Common
Cincinnati, Ohio 45202 Stock
(a) Carl H. Lindner, S. Craig Lindner, Carl H. Lindner III,
Keith E. Lindner and trusts for their benefit (collectively,
the "Lindner Family") were the beneficial owners of
approximately 45% of the voting stock of AFG at March 31,
1999. AFG and the Lindner Family may be deemed to be
controlling persons of the Company.
MANAGEMENT
The directors, nominees and executive officers of the
Company are:
Director or
Age* Position Executive Since
---- ------------------------- ---------------
Carl H. Lindner 79 Chairman of the Board and 1959
Chief Executive Officer
S. Craig Lindner 44 Co-President and a Director 1979
Keith E. Lindner 39 Co-President and a Director 1981
Carl H. Lindner III 45 Co-President and a Director 1980
Theodore H. Emmerich 72 Director 1988
James E. Evans 53 Senior Vice President and 1976
General Counsel and a Director
Thomas M. Hunt 75 Director 1982
William R. Martin 70 Director 1994
Keith A. Jensen 48 Senior Vice President 1999
Thomas E. Mischell 51 Senior Vice President - Taxes 1985
Fred J. Runk 56 Senior Vice President and
Treasurer 1978
- ------------------
*As of March 31, 1999
Carl H. Lindner (Chairman of the Executive Committee) Mr.
Lindner is the Chairman of the Board and Chief Executive Officer
of the Company. During the past five years, Mr. Lindner has also
been Chairman of the Board and Chief Executive Officer of
AFG. He is Chairman of the Board of Directors of American
Annuity Group, Inc. and Chiquita Brands International, Inc. Mr.
Lindner is the father of Carl H. Lindner III, S. Craig Lindner
and Keith E. Lindner.
S. Craig Lindner (Member of the Executive Committee) Since
March 1996, Mr. Lindner has served as Co-President and a director
of the Company. For over five years, Mr. Lindner has been
President of American Annuity Group, an 83%-owned subsidiary of
AFC that markets tax-deferred annuities principally to employees
of educational institutions and offers life and health insurance
products. Mr. Lindner is also President of American Money
Management Corporation, a subsidiary which provides investment
services for the Company and its affiliated companies. Mr.
Lindner is also a director of American Annuity Group and AFG.
Keith E. Lindner (Member of the Executive Committee) Since
March 1996, Mr. Lindner has served as Co-President and a director
of the Company. In March 1997, Mr. Lindner was named Vice
Chairman of the Board of Directors of Chiquita Brands
International, a worldwide marketer and producer of bananas and
other food products in which the Company has a 37.5% ownership
interest. For more than five years prior to that time, Mr.
Lindner had been President and Chief Operating Officer and a
director of Chiquita. Mr. Lindner is also a director of AFG.
Carl H. Lindner III (Member of the Executive Committee) Mr.
Lindner was President of the Company from February 1992 until he
became Co-President in March 1996. For approximately ten years,
Mr. Lindner has been principally responsible for the Company's
property and casualty insurance operations. Mr. Lindner is also a
director of AFG.
Theodore H. Emmerich (Chairman of the Audit Committee;
Member of the Compensation Committee) Prior to his retirement in
1986, Mr. Emmerich was managing partner of the Cincinnati office
of the independent accounting firm of Ernst & Whinney. He is
also a director of AFG, Carillon Fund, Inc., Carillon Investment
Trust, Gradison Custodial Trust, Gradison-McDonald Municipal
Custodial Trust, Gradison-McDonald Cash Reserve Trust and Summit
Investment Trust.
James E. Evans Since April 1995, Mr. Evans has served as
Senior Vice President and General Counsel of the Company. For
more than five years, he was Vice President and General Counsel
of the Company. Mr. Evans is also a director of AFG.
Thomas M. Hunt (Member of the Compensation Committee)
During the past five years, Mr. Hunt has been Chairman of the
Board of Hunt Petroleum Corporation, an oil and gas production
company. He is also a director of AFG.
William R. Martin (Chairman of the Compensation Committee;
Member of the Audit Committee) During the past five years, Mr.
Martin has been Chairman of the Board of MB Computing, Inc., a
computer software and services company. Mr. Martin is also a
director of American Annuity Group and AFG.
Keith A. Jensen Mr. Jensen was named a Senior Vice
President of the Company in February 1999. Since February 1997,
he has also been Senior Vice President of American Annuity Group.
For more than five years prior thereto he was a partner with
Deloitte & Touche LLP, an independent accounting firm.
Thomas E. Mischell is Senior Vice President - Taxes of the
Company. He had served as a Vice President of the Company for
over five years previously.
Fred J. Runk is Senior Vice President and Treasurer of the
Company. He had served as Vice President and Treasurer of the
Company for more than five years previously.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Exchange Act requires AFC's officers,
directors and persons who own more than ten percent of AFC's
voting stock to file reports of ownership with the Securities and
Exchange Commission and to furnish the Company with copies of
these reports. The Company believes that all filing requirements
were met during 1998.
Securities Ownership
The following table sets forth information, as of March 31,
1999, concerning the beneficial ownership of equity securities of
the Company and its parent and subsidiaries by each director,
nominee for director, the executive officers named in the Summary
Compensation Table (see "Compensation" below) and by all
directors and executive officers as a group. Such information is
based on data furnished by the persons named. Except as set
forth in the following table, no director or executive officer
beneficially owned 1% or more of any class of equity security of
the Company, its parent or any of its subsidiaries outstanding at
March 31, 1999.
Amount and Nature of Beneficial Ownership (a)
Name of Shares of Common Shares of Preferred
Beneficial Owner Stock Held Stock Held
- ---------------- ---------------- ------------------
Carl H. Lindner 10,593,000 (b) ---
Carl H. Lindner III 10,593,000 (b) ---
S. Craig Lindner 10,593,000 (b) ---
Keith E. Lindner 10,593,000 (b) ---
Theodore H. Emmerich --- ---
James E. Evans --- ---
Thomas M. Hunt --- ---
William R. Martin --- 40,126 (c)
Martin
All directors 10,593,000 (b) 60,505 (d)
and executive
officers
as a group
(11 persons)
(a) Does not include the following ownership interests in
American Annuity Group common stock: Messrs. Emmerich,
Evans, Hunt, S.C. Lindner and Martin, and all directors and
executive officers as a group beneficially own 1,561;
19,638; 382; 69,008; 13,575 and 144,576 shares,
respectively. Also excludes the following ownership of
Chiquita common stock: Messrs. Emmerich, Evans, C.H. Lindner
and K.E. Lindner, and all directors and executive officers
as a group beneficially own 1,000; 3,835; 2,125,943; 15,748
and 2,355,302 shares, respectively. This table also
excludes the beneficial ownership of shares of common stock
of AFG, the Company's parent, as follows: Carl H. Lindner -
3,406,041 (5.8%); Carl H. Lindner III - 5,809,758 (9.8%); S.
Craig Lindner - 5,732,121 (9.7%); Keith E. Lindner -
5,729,188 (9.7%); Mr. Emmerich - 21,288, Mr. Evans -
222,518; Mr. Hunt - 20,499; Mr. Martin - 44,669; and all
directors and executive officers as a group - 21,413,171
(35.7%).
(b) Represents shares held by AFG. The Lindner Family may be
deemed to be the beneficial owners of these shares, which
represent 100% of AFC common stock outstanding.
(c) Represents 1.4% of the preferred stock outstanding.
(d) Represents 2.1% of the preferred stock outstanding.
COMPENSATION
The following table summarizes the aggregate cash
compensation for 1998, 1997 and 1996 of the Company's Chairman of
the Board and Chief Executive Officer and its four other most
highly compensated executive officers during 1998 (the "Named
Executive Officers") as reported in the proxy statement for AFG's
1999 annual meeting. Such compensation includes amounts paid by
AFC and AFG as well as its subsidiaries and certain affiliates
during the years indicated.
<TABLE>
<CAPTION>
SUMMARY COMPENSATION TABLE
-----------------------------
Long-Term
Annual Compensation
Compensation -------------
------------
Name Other Securities All
and Annual Underlying Other
Principal Year Salary Bonus Compensati Options Compensation
Position (a) (b) on Granted (e)
(c) (# of
Shares) (d)
- ----------------- ------------ ------- -------- --------- ------------
<S> <C> <C> <C> <C> <C> <C>
Carl H. Lindner 1998 $968,000 $697,000 $190,000 --- $ 73,000
Chairman of the 1997 957,000 370,000 107,000 --- 75,000
Board and Chief 1996 913,000 900,000 156,000 --- 118,400
Executive Officer
Keith E. Lindner 1998 968,000 697,000 22,000 40,000 47,000
Co-President 1997 957,000 370,000 14,000 50,000 31,000
1996 917,000 900,000 28,000 --- 31,000
Carl H. Lindner 1998 968,000 697,000 128,000 40,000 34,000
III 1997 957,000 370,000 117,000 50,000 34,000
Co-President 1996 917,000 900,000 174,000 --- 60,500
S. Craig Lindner 1998 968,000 697,000 184,000 40,000 33,000
Co-President 1997 957,000 370,000 132,000 50,000 34,000
1996 917,000 900,000 137,000 --- 32,000
James E. Evans 1998 968,000 670,000 4,000 35,000 787,000
Senior Vice 1997 957,000 350,000 2,000 30,000 260,000
President and 1996 917,000 639,000 14,000 --- 49,500
General Counsel
</TABLE>
(a) This column includes salary paid by Chiquita to Carl H.
Lindner of $100,000 in 1998, and $200,000 in 1997 and 1996,
and to Keith E. Lindner of $100,000 in 1998, $381,000 in
1997 and $900,000 in 1996.
(b) Bonuses are for the year shown, regardless of when paid.
Approximately one-fourth of the bonuses for each individual
were paid in shares of AFG common stock.
(c) This column includes amounts for personal homeowners and
automobile insurance coverage, and the use of corporate
aircraft and automobile service as follows.
Name Year Insurance Aircraft &
Automobile
------------------ ----- ---------- -----------
Carl H. Lindner 1998 $16,000 $174,000
1997 19,000 88,000
1996 16,000 140,000
Keith E. Lindner 1998 11,000 11,000
1997 6,000 8,000
1996 12,000 16,000
Carl H. Lindner III 1998 28,000 100,000
1997 23,000 94,000
1996 19,000 155,000
S. Craig Lindner 1998 43,000 141,000
1997 26,000 106,000
1996 23,000 114,000
James E. Evans 1998 -- 4,000
1997 -- 2,000
1996 -- 14,000
(d) Represents options to purchase shares of AFG common stock.
(e) Includes Company or subsidiary contributions or allocations
under the (i) defined contribution retirement plans and (ii)
employee savings plan in which the following Named Executive
Officers participate (and related accruals for their benefit
under the Company's benefit equalization plan which
generally makes up certain reductions caused by Internal
Revenue Code limitations in the Company's contributions to
certain of the Company's retirement plans) and Company paid
group life insurance as set forth below. For Mr. Evans
only, this column also includes a special 1998 cash bonus of
$750,000.
<TABLE>
<CAPTION>
AFG
Auxiliary Retirement Savings Director's Term
Name Year RASP Plan Plan Fees Life
- -----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Carl H. Lindner 1998 $20,400 $9,600 - $15,000 $28,000
1997 30,000 -- $2,000 15,000 28,000
1996 21,400 $55,000 4,500 14,500 23,000
Keith E. Lindner 1998 20,400 9,600 16,000 -- 1,000
1997 30,000 -- -- -- 1,000
1996 30,000 -- -- -- 1,000
Carl H. Lindner III 1998 20,400 9,600 2,000 -- 2,000
1997 30,000 -- 2,000 -- 2,000
1996 30,000 28,500 -- -- 2,000
S. Craig Lindner 1998 20,400 9,600 2,000 -- 1,000
1997 30,000 -- 2,000 -- 2,000
1996 30,000 -- -- -- 2,000
James E. Evans 1998 20,400 9,600 2,000 -- 5,000
1997 30,000 -- 2,000 -- 5,000
1996 30,000 -- -- 14,500 5,000
Stock Options
The tables set forth below disclose AFG stock options
granted to, or exercised by, the Named Executive Officers during
1998, as well as the number and value of unexercised options held
by them at December 31, 1998.
</TABLE>
<TABLE>
<CAPTION>
OPTION GRANTS IN 1998
Individual Grants Potential
Realizable
Number of Percent Exercise Value at Assumed
Securities of Price Annual Rates of
Underlying Total per Stock Price
Options Options Share Appreciation for
Granted (fair Option
to market Term (b)
------------------
Granted (a) Employees value Expira-
Name (# of shares) in 1998 at date tion Date 5% 10%
of
grant)
- ---------------- ---- ----- -------- ------- ------- -------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Carl H. Lindner - - - - - - -
Keith E. Lindner AFG 40,000 8.6% $42.06 3/20/08 $1,058,052 $2,681,312
S. Craig Lindner AFG 40,000 8.6% $42.06 3/20/08 $1,058,052 $2,681,312
Carl H. Lindner III AFG 40,000 8.6% $42.06 3/20/08 $1,058,052 $2,681,312
James E. Evans AFG 35,000 7.5% $42.06 3/20/08 $ 925,796 $2,346,148
Stock Appreciation for All AFG
Shareholders _ 58,612,176 shares (c) $1,953,104,235 $4,331,586,337
(a) The options were granted under AFG's Stock Option Plan and
cover AFG Common Stock. They vest (become exercisable) to
the extent of 20% per year, beginning one year from the
respective dates of grant, and become fully exercisable in
the event of death or disability or in the event of
involuntary termination of employment without cause within
one year after a change of control of AFG.
(b) Represents the hypothetical future values that would be
realizable if all of the options were exercised immediately
prior to their expiration in 2008 and assuming that the
market price of AFG's common stock had appreciated in value
through the year 2008 at the annual rate of 5% (to $68.51
per share) or 10% (to $109.09 per share). Such hypothetical
future values have not been discounted to their respective
present values, which are lower.
(c) On March 31, 1999, the closing price of AFG common stock on
the New York Stock Exchange was $35.1875. The gain shown
for All Shareholders is based on that share price increasing
to the same prices shown for the above options at the option
expiration dates (to $68.51 and $109.09 per share).
</TABLE>
<TABLE>
<CAPTION>
AGGREGATED OPTION EXERCISES IN 1998 AND 1998 YEAR-END OPTION
VALUES
Number of
Shares Securities
Acquired Underlying Value of Unexercised
on Unexercised Options In-the-Money Options
Exercise at Year End at Year End (a)
--------- --------------------------- --------------------
(# of Value Exercis- Unexercis- Exercis- Unexercis-
Name Company Shares)Realized able able able able
- --------------- ------- ------ -------- -------- --------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Carl H. Lindner AFG - - 51,818 - $1,009,273 -
Carl H. Lindner III AFG 5,455 $51,626 404,545 80,000 $7,913,930 $ 312,800
S. Craig Lindner AFG 5,455 $66,927 249,272 235,273 $4,821,552 $3,404,286
Keith E. Lindner AFG 5,455 $50,281 244,545 240,000 $4,729,791 $3,498,400
James E. Evans AFG - - 97,000 119,000 $1,292,300 $1,036,900
</TABLE>
(a) The value of unexercised in-the-money options is calculated
based on the closing market price on December 31, 1998 for
AFG's common stock on the New York Stock Exchange of
$43.875 per share.
Compensation Committee Report
The Compensation Committee of the Board of Directors
consists of three directors, none of whom is an employee of the
Company, AFG or any of its subsidiaries. This Committee also
acts as the Compensation Committee for AFG. The Committee's
functions include reviewing and making recommendations to the
Board of Directors with respect to the compensation of the
Company's senior executive officers, as defined from time to time
by the Board. The term senior executive officers currently
includes the Chairman of the Board and Chief Executive Officer
(the "CEO"), the Co-Presidents and each other executive officer
whose annual base salary exceeds $500,000. The Compensation
Committee has the exclusive authority to grant stock options
under AFG's Stock Option Plan to employees of the AFG, AFC and
subsidiaries, including senior executive officers.
Compensation of Executive Officers. AFG's compensation
policy for all executive officers has three principal components:
annual base salary, annual incentive bonuses and stock option
grants. Before decisions were made regarding 1998 compensation
for senior executives, the Committee had discussions with senior
executives to solicit their thoughts regarding compensation.
Based in part on such discussions as well as the Committee's
review of AFG's financial results for the preceding year, the
Committee deliberated, formed its recommendations, and presented
its determinations regarding salary and bonus to the full Board
for its review and approval. The compensation decisions
discussed in this report conformed with recommendations made by
the Committee, the CEO and the Co-Presidents.
Annual Base Salaries. The Committee approved annual base
salaries and salary increases for senior executive officers that
were appropriate, in the Committee's subjective judgment, for
their respective positions and levels of responsibilities. In
April 1998, the Committee approved the 1998 salaries of the CEO,
the Co-Presidents and the other senior executive officers, noting
that such salaries would be at the same rates in 1998 as in the
latter part of 1997.
Annual Bonuses. As in 1996 and 1997, the Committee
developed an annual bonus plan for the CEO, the Co-Presidents and
the senior executive officers that would make a substantial
portion of their total compensation dependent on AFG's
performance, including achievement of pre-established earnings
per share targets.
The annual bonus plan for 1998 made 50% of each
participant's annual bonus dependent on AFG attaining certain
earnings per share targets. The other 50% is based on AFG's
overall performance, as subjectively determined by the Committee
with respect to each senior executive officer participating in
the annual bonus plan. A significant aspect of the 1998 annual
bonus plan is that it provided that 25% of any bonuses be paid in
common stock. As in the grant of stock options discussed below,
the Committee believes that payment of a substantial portion of
annual bonuses in common stock align further the interests of
AFG's senior executives with those of its shareholders. The
Committee also selected the senior executive officers whose 1998
bonus would be subject to this plan, including the CEO, the Co-
Presidents and the Senior Vice Presidents. The Committee
recommended to the Board the earnings per share targets.
Under the 1998 annual bonus plan, the bonus target amount
for the CEO and each of the Co-Presidents was the same as in 1997
($925,000), with 0% to 175% of $462,500 (50% of $925,000) to be
paid depending on AFG achieving certain 1998 earnings per share
allocable to insurance operations (the "EPS Component") and 0% to
175% of $462,500 to be paid based on AFG's overall performance,
as subjectively determined by the Committee (the "Company
Performance Component"). The earnings per share target which
would result in the payment of 100% of the EPS Component bonus
was set by the Committee at $2.92. In recommending the 1998
annual bonus plan to the Board for adoption in April 1998, the
Committee noted that no bonus should be paid under the plan if
1998 earnings per share from insurance operations are less than
$2.19 (75% of the 1998 EPS target). The Company's 1998 earnings
per share from insurance operations were $2.56 per share, 88% of
the target amount. The Committee used a straight line
interpolation method to determine what percentage of the EPS
Component bonus should be paid. This resulted in approximately
51% of the bonus target amount attributable to the EPS Component
($234,500) being paid to the CEO and Co-Presidents.
The Committee then evaluated AFG's performance during 1998.
The Committee considered a number of factors, with no relative
weight being given to any specific factor. In determining that
each of the CEO and the Co-Presidents should receive $462,500
(100% of the target amount under AFG Performance Component), the
Committee concluded that a number of 1998 developments enhanced
the value and operations of AFG. These included the upgrade by a
major rating agency of AFG's debt rating and financial strength
rating, the sale of the commercial lines division (which enables
AFG to focus on growth potential in other areas in which it has a
significant market position and expertise) and the funeral
services division, the negotiation of strategic acquisitions and
the maintenance of AFG's debt-to-capital ratio in a range
desirable for investment grade companies. Somewhat offsetting
these positive developments, the Committee noted that the price
of AFG's common stock had not increased appreciably during 1998.
The Board adopted all of the Committee's recommendations with
respect to the determination of amounts paid under the annual
bonus plan for 1998. Under the 1998 Plan, 25% of the bonus
payment was paid in common stock.
The annual base salary and bonuses received by the CEO and
the Co-Presidents from AFG and its affiliates are virtually
identical because the Committee views them as working as a
management team whose skills and areas of expertise complement
each other.
Stock Option Grants. Stock options represent an important
part of AFG's performance-based compensation system. The
Committee believes that Company shareholders' interests are well
served by aligning AFG's senior executives' interests with those
of its shareholders through the grant of stock options in
addition to paying a portion of any annual bonus in common stock.
Options under AFG's Stock Option Plan are granted at exercise
prices equal to the fair market value of common stock on the date
of grant and vest at the rate of 20% per year. The Committee
believes that these features provide an optionee with substantial
incentive to maximize AFG's long-term success. Options for
40,000 shares were granted to the Co-Presidents and additional
options were granted to the other senior executives of AFG in
1998. In considering option grants to the Co-Presidents, the
Committee noted that each Co-President received 8.6% of the total
options granted in 1998 and that their share ownership of AFG is
greater than that percentage. No options were granted to the CEO
in 1998.
Members of the Compensation Committee: William R. Martin, Chairman
Theodore H. Emmerich
Thomas M. Hunt
Certain Transactions
The Company and its subsidiaries have had and expect to
continue to have transactions with AFG's directors, officers,
principal shareholders, their affiliates and members of their
families. The Company believes that the financial terms of these
transactions are comparable to those that would apply to
unrelated parties and are fair to AFC.
Members of the Lindner Family are the principal owners of
Provident Financial Group, Inc. ("Provident"). AFC provides
security guard and surveillance services at the main office of
Provident for which Provident paid $100,000 in 1998. Provident
leases its main banking and corporate office from AFC for which
Provident paid rent of $2,284,000 in 1998. A subsidiary of
Provident leases equipment to subsidiaries of AFC for which
Provident was paid an aggregate of $524,000 during 1998. A
subsidiary of AFC provided payroll processing services to
Provident in 1998 for which Provident paid $64,000.
During 1998, AFC paid $144,000 for coupons redeemable for
ice cream from United Dairy Farmers, Inc. as gifts for employees
at the Company Christmas party. UDF is owned by one of Carl H.
Lindner's brothers and his family.
In July 1997, Carl H. Lindner and a subsidiary of AFC
purchased 51% and 49%, respectively, of common stock of a newly
incorporated entity formed to acquire the assets of a company
engaged in the production of ethanol. The AFC subsidiary
invested $4.9 million and Mr. Lindner invested $5.1 million; the
asset purchase was completed in December 1997. Certain AFC
subsidiaries have entered into a credit facility under which the
ethanol producer may borrow up to $10 million at a rate of prime
plus 3% per annum. There were no borrowings outstanding under
this facility in 1998. In September 1998, the ethanol producer
borrowed $4 million from an AFC subsidiary under a subordinated
note bearing interest at the rate of 14% and paid a $6.3 million
capital distribution to its shareholders, including $3.1 million
to an AFC subsidiary and $3.2 million to Mr. Lindner.
During 1998, the law firm of Keating, Muething & Klekamp,
P.L.L. provided legal services to AFG, AFC and subsidiaries, for
which it was paid $876,000. This law firm leases its offices
from an AFC subsidiary, for which the AFC subsidiary was paid
rent of $1,387,500 in 1998. Paul V. Muething, a partner in the
firm, is the trustee of a trust for the benefit of members of the
Lindner Family which holds 8.9% of AFG's common stock.
A Company subsidiary is the lender under a credit agreement
with American Heritage Holding Corporation, a Florida-based home
builder which is 49% owned by AFG and 11% owned by a brother of
Carl H. Lindner. The homebuilder may borrow up to $8 million at
13% per annum, with interest deferred and added to principal.
The highest outstanding balance owed to the subsidiary during
1998 and the balance at year-end was $6.1 million.
Performance Graph
No performance graph is included as the Company's Common
Stock is not publicly traded.
Directors' Compensation
AFC's Board of Directors receives no annual compensation
from AFC. However, they are paid as directors of AFG, as
follows:
Pursuant to AFG's Non-Employee Directors' Compensation Plan
(the "Directors' Plan"), all directors who are not officers or
employees of AFG are paid the following fees: an annual retainer
of $40,000; an additional annual retainer of $12,000 for each
Board Committee on which the non-employee director serves; and an
attendance fee of $1,000 for each Board or Committee meeting
attended. Non-employee directors who become directors during the
year receive a pro rata portion of these annual retainers. The
retainers and fees to be paid under the Directors' Plan are
reviewed by the Board of Directors from time to time and are
subject to change at its discretion.
In order to align further the interests of AFG's non-
employee directors with the interests of shareholders, the
Directors' Plan provides that a minimum of 50% of such directors'
annual retainers are paid through the issuance of shares of AFG
common stock.
The Board of Directors has a program under which a retiring
director (other than an officer or employee of AFG or any of its
subsidiaries) will, if he has met certain eligibility
requirements, receive upon his retirement (in a lump sum or, at
his election, in deferred payments) an amount equal to five times
the then current annual director's fee. For purposes of this
program, retirement means resignation as a Company director or
not being nominated for reelection by shareholders as a director.
To be eligible for the retirement benefit, a person must have
served as a director for at least four years while not an officer
or employee of AFG or any of its subsidiaries. In addition, a
director will not become eligible for the retirement benefit
until reaching age 55. A director who receives a retirement
benefit must provide consulting services to AFG on request for
five years following retirement without further compensation
(except reimbursement for expenses). Under the program, a death
benefit equal to the retirement benefit will be paid (in lieu of
any retirement benefit under the program) to the designated
beneficiary or legal representative of any person who dies while
serving as a director, whether or not eligible for a retirement
benefit at time of death. This death benefit will not be
available to a director who at any time during the two years
immediately preceding death was an officer or employee of AFG or
any of its subsidiaries.
In addition to providing for the grant of stock options to
key employees, the Stock Option Plan provides for automatic
annual grants of options to each non-employee director of AFG.
During 1998, each non-employee director was granted an option
under the foregoing provisions of the Stock Option Plan to
purchase 1,000 shares at an exercise price of $45.19 per share on
June 1, 1998, the exercise price being the fair market value of
AFG common stock on the date of grant.
COMMITTEES AND MEETINGS OF THE BOARD OF DIRECTORS
The Company's Board of Directors held three meetings and
took action in writing three times in 1998. The Company's Board
of Directors has an Executive Committee, an Audit Committee and a
Compensation Committee. There is no Nominating Committee.
Executive Committee: The Executive Committee consists of
Carl H. Lindner (Chairman), Carl H. Lindner III, S. Craig Lindner
and Keith E. Lindner. The Committee's functions include
analyzing the future development of the business affairs and
operations of the Company, including further expansion of
businesses in which the Company is engaged and acquisitions and
dispositions of businesses. With certain exceptions, the
Executive Committee is generally authorized to exercise the
powers of the Board of Directors between meetings of the Board of
Directors. The Executive Committee consulted among themselves
informally many times throughout the year and took action in
writing on thirteen occasions in 1998.
Audit Committee. The Audit Committee consists of Theodore
H. Emmerich (Chairman) and William R. Martin. Neither is an
officer or employee of the Company or any of its subsidiaries.
The Committee's functions include recommending to the Board of
Directors the engagement of independent accounting firms to audit
the financial statements of the Company and its subsidiaries and
to provide other audit-related services and recommending the
terms of such firms' engagements; reviewing the engagement of
independent accounting firms to provide non-audit services,
including the terms of their engagements; reviewing the adequacy
and implementation of the Company's internal audit function;
reviewing the policies, procedures and principles of the
management of the Company for purposes of conformity to the
standards required by the Foreign Corrupt Practices Act;
establishing procedures designed to provide and encourage timely
access to the Committee by the independent accounting firms
engaged by the Company, its internal audit department and its
principal financial officers; and conducting such investigations
relating to the Company's financial affairs as the Committee or
the Board of Directors deems desirable. The Committee's
functions also include supervising, reviewing and reporting to
the Board of Directors on the performance of management
committees of the Company responsible for the administration of
the employee benefit plans of the Company and its subsidiaries.
The Audit Committee met four times in 1998.
Compensation Committee The Compensation Committee consists
of William R. Martin (Chairman), Theodore H. Emmerich and Thomas
M. Hunt. The functions of the Compensation Committee are
discussed under "Compensation - Compensation Committee Report."
The Compensation Committee met one time and took action in
writing on nine occasions in 1998.
INDEPENDENT AUDITORS
The accounting firm of Ernst & Young LLP served as the
Company's independent auditors for the fiscal year ended December
31, 1998. Representatives of that firm will attend the meeting
and will be given the opportunity to comment, if they so desire,
and to respond to appropriate questions that may be asked by
shareholders. No auditor has yet been selected for the current
year because it is generally the practice of the Company not to
select independent auditors prior to the annual shareholders
meeting.
NOMINATIONS AND SHAREHOLDER PROPOSALS
In accordance with the Company's Code of Regulations (the
"Regulations"), the only candidates eligible for election at a
meeting of shareholders are candidates nominated by or at the
direction of the Board of Directors and candidates nominated at
the meeting by a shareholder who has complied with the procedures
set forth in the Regulations. Shareholders will be afforded a
reasonable opportunity at the meeting to nominate candidates for
the office of director. However, the Regulations require that a
shareholder wishing to nominate a director candidate must have
first given the Secretary of the Company at least five and not
more than thirty days prior written notice setting forth or
accompanied by (a) the name and residence of the shareholder and
of each nominee specified in the notice, (b) a representation
that the shareholder was a holder of record of the Company's
voting stock and intended to appear, in person or by proxy, at
the meeting to nominate the persons specified in the notice and
(c) the consent of each such nominee to serve as director if so
elected.
The Proxy Form used by AFC for the annual meeting typically
grants authority to management's proxies to vote in their
discretion on any matters that come before the meeting as to
which adequate notice has not been received. In order for a
notice to be deemed adequate for the 2000 annual meeting, it must
be received by March 12, 2000. In order for a proposal to be
considered for inclusion in AFC's proxy statement for that
meeting, it must be received by December 31, 1999.
REQUESTS FOR FORM 10-K
The Company will send, upon written request, without charge,
a copy of the Company's most current Annual Report on Form 10-K
to any shareholder who writes to Fred J. Runk, Senior Vice
President and Treasurer, American Financial Group, Inc., One East
Fourth Street, Cincinnati, Ohio 45202.
Pages F1 though F-37 which follow are taken from AFC's Annual
Report on Form 10-K for the year ended December 31, 1998. This
information is being included herein in accordance with Rule 14a-
3 promulgated under the Securities Act of 1934.
AMERICAN FINANCIAL CORPORATION
One East Fourth Street
Cincinnati, Ohio 45202
<PAGE>
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.
AFC is a holding company which, through its subsidiaries, is engaged
primarily in private passenger automobile and specialty property and casualty
insurance businesses and in the sale of tax-deferred annuities and certain
life and supplemental health insurance products. AFC's property and casualty
operations originated in the 1800's and is one of the twenty five largest
property and casualty groups in the United States based on statutory net
premiums written.
Market for Registrant's Common Equity and Related Stockholder Matters
Not applicable - Registrant's Common Stock is owned by American
Financial Group, Inc. See the Consolidated Financial Statements for
information regarding dividends.
<PAGE>
Selected Financial Data
The following table sets forth certain data for the periods
indicated (dollars in millions, except per share data).
1998 1997 1996 1995 1994
Earnings Statement Data:
Total Revenues $4,059 $4,053 $4,114 $3,628 $2,104
Earnings Before Income Taxes
and Extraordinary Items 211 334 340 252 44
Earnings Before Extraordinary
Items 130 208 250 195 19
Extraordinary Items (1) (7) (28) 2 (17)
Net Earnings 129 201 222 197 2
Ratio of Earnings to
Fixed Charges (a) 3.44 4.20 4.99 3.10 1.69
Ratio of Earnings to
Fixed Charges and
Preferred Dividends (a) 3.15 3.52 3.96 2.60 1.40
Balance Sheet Data:
Total Assets $15,848 $15,738 $14,999 $14,851 $10,593
Long-term Debt:
Holding Companies 315 287 340 648 849
Subsidiaries 177 194 178 234 258
Minority Interest 524 510 307 327 106
Capital Subject to
Mandatory Redemption - - - - 3
Other Capital 1,531 1,393 1,277 1,248 396
(a) Fixed charges are computed on a "total enterprise" basis. For
purposes of calculating the ratios, "earnings" have been computed
by adding to pretax earnings the fixed charges and the minority
interest in earnings of subsidiaries having fixed charges and
deducting (adding) the undistributed equity in earnings (losses)
of investees. Fixed charges include interest (excluding interest
on annuity benefits), amortization of debt premium/discount and
expense, preferred dividend and distribution requirements of
subsidiaries and a portion of rental expense deemed to be
representative of the interest factor.
F-1
<PAGE>
Management's Discussion and Analysis
of Financial Condition and Results of Operations
GENERAL
Following is a discussion and analysis of the financial statements
and other statistical data that management believes will enhance the
understanding of AFC's financial condition and results of operations.
This discussion should be read in conjunction with the financial
statements beginning on page F-13.
As discussed in Note A to the financial statements, at the close of
business on December 31, 1996, AFG contributed to AFC 81% of the
common stock of American Premier. Because AFC and American Premier
have been under the common control of AFG since merger transactions
completed in April 1995 (the "Mergers"), the acquisition of American
Premier has been recorded by AFC at AFG's historical cost in a manner
similar to a pooling of interests. Accordingly, the historical
consolidated financial statements of AFC for periods subsequent to the
Mergers have been restated to include the accounts of American
Premier.
LIQUIDITY AND CAPITAL RESOURCES
Ratios AFC's debt to total capital ratio at the parent holding
company level (excluding amounts due AFG) improved from nearly 60% at
the date of the Mergers to approximately 17% at December 31, 1998.
Including amounts due AFG, the ratio was 28% at the end of 1998.
AFC's ratio of earnings to fixed charges, excluding and including
preferred dividends, on a total enterprise basis for the year ended
December 31, 1998, was 3.44 and 3.15, respectively.
The National Association of Insurance Commissioners' model law for
risk based capital ("RBC") applies to both life and property and
casualty companies. RBC formulas determine the amount of capital that
an insurance company needs to ensure that it has an acceptable
expectation of not becoming financially impaired. At December 31,
1998, the capital ratios of all AFC insurance companies substantially
exceeded the RBC requirements (the lowest capital ratio of any AFC
subsidiary was 2.1 times its authorized control level RBC; weighted
average of all AFC subsidiaries was 5.0 times).
Sources of Funds 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. Funds to
meet these obligations come primarily from dividend and tax payments
from their subsidiaries.
<PAGE>
Management believes these 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, AFC would be
required to generate cash through borrowings, sales of securities or
other assets, or similar transactions.
In December 1997, AFC entered into a reciprocal Master Credit
Agreement with the various AFG holding companies under which these
companies make funds available to each other for general corporate
purposes.
F-2
<PAGE>
The senior debentures of AFC and AAG are rated investment grade by
three nationally recognized rating agencies; the subordinated
debentures of APU and AAG are rated investment grade by two of the
agencies.
A new five-year, $300 million bank credit line was established by
AFC in February 1998 replacing two subsidiary holding company lines.
The new credit line provides ample liquidity and can be used to obtain
funds for operating subsidiaries or, if necessary, for the parent
companies. At December 31, 1998, there was $80 million borrowed under
the line.
In 1996 and 1997, wholly-owned trust subsidiaries of AAG sold
preferred securities for cash proceeds totaling $225 million.
Proceeds were used to retire outstanding debt and preferred stock of
subsidiaries and for general corporate purposes, including a capital
contribution to a subsidiary.
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 reductions of debt at the
holding companies (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.
For statutory accounting purposes, equity securities are generally
carried at market value. At December 31, 1998, AFC's insurance
companies owned publicly traded equity securities with a market value
of $1.4 billion, including equity securities of AFC affiliates
(including subsidiaries) of $1.0 billion. Since significant amounts
of these are concentrated in a relatively small number of companies,
decreases in the market prices could adversely affect the insurance
group's capital, potentially impacting the amount of dividends
available or necessitating a capital contribution. Conversely,
increases in the market prices could have a favorable impact on the
group's dividend-paying capability.
Under tax allocation agreements with AFC, its 80%-owned U.S.
subsidiaries generally compute tax provisions as if filing separate
returns based on book taxable income computed in accordance with
generally accepted accounting principles. The resulting provision (or
credit) is currently payable to (or receivable from) AFC.
Uncertainties Two lawsuits were filed in 1994 against American
Premier by USX Corporation ("USX") and a former USX subsidiary. The
lawsuits seek contribution from American Premier for all or a portion
of a $600 million final antitrust judgment entered against a USX
subsidiary in 1994. The lawsuits argue that USX's liability for that
judgment is attributable to the alleged activities of American
Premier's predecessor in an unlawful antitrust conspiracy among
certain railroad companies. In May 1998, the largest and last of the
lawsuits was dismissed in state court. All of USX's claims against
<PAGE>
American Premier have now been dismissed with prejudice, and, although
USX has appeals pending, American Premier and its outside legal
counsel continue to believe that American Premier will not suffer a
material loss from this litigation.
Great American's liability for unpaid losses and loss adjustment
expenses includes amounts for various liability coverages related to
environmental, hazardous product and other mass tort claims. At
December 31, 1998, Great American had recorded $866 million (before
reinsurance recoverables of $241 million) for such claims on policies
written many years ago where, in most cases, coverage was never
intended. Due to inconsistent court decisions on many coverage issues
and the difficulty in determining standards acceptable for cleaning up
pollution sites, significant uncertainties exist which are not likely
to be resolved in the near future.
AFC's subsidiaries are parties in a number of proceedings relating
to former operations. While the results of all such uncertainties
cannot be predicted, based upon its knowledge of the facts,
circumstances and applicable laws, management believes that sufficient
reserves have been provided. See Note M to the financial statements.
F-3
<PAGE>
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. During 1998, 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 40% of the groups are being "closely watched" because there is
some degree of risk that critical dates in the project schedule may be
missed with a potential for some disruption of normal business
operations. AFC's goal is to have program modifications and new
installations for these groups completed during mid-1999. One group,
which has significantly missed internal project deadlines, now has
been reorganized and staffing levels were increased. This group is
expected to be completed during the third quarter of 1999.
Contingency plans have been developed for certain systems deemed
most critical to operations. These plans provide a documented order
of actions necessary to keep the business functions operating for
these systems. Such plans typically include procedures and workflow
processes for developing and operating contingent databases.
Contingency planning for other systems deemed critical to operations
and reasonably likely not to be modified on schedule began in the
fourth quarter of 1998 and will be completed by mid-1999.
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 1990's
through December 31, 1998, AFC estimates that it has incurred
approximately $46 million in costs related to the project, including
capitalized costs of $10 million for new systems. During 1998,
$27 million in such costs have been expensed. AFC estimates that it
will incur an additional $26 million of such costs in completing the
Project, about two-thirds of which is projected to be expensed.
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 effect on
operations.
<PAGE>
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.
Exposure to Market Risk Market risk represents the potential
economic loss arising from adverse changes in the fair value of
financial instruments. AFC's exposures to market risk relate
primarily to its investment portfolio and annuity contracts which are
exposed to interest rate risk and, to a lesser extent, equity price
risk. AFC's long-term debt is also exposed to interest rate risk.
AFC's investments in derivatives were not significant at December 31,
1998.
F-4
<PAGE>
Fixed Maturity Portfolio The fair value of AFC's fixed maturity
portfolio ($10.3 billion at December 31, 1998) is directly impacted by
changes in market interest rates. AFC's fixed maturity portfolio is
comprised of substantially all fixed rate investments with primarily
short-term and intermediate-term maturities. This practice allows
flexibility in reacting to fluctuations of interest rates. The
portfolios of AFC's property and casualty insurance and life and
annuity operations are managed with an attempt to achieve an adequate
risk-adjusted return while maintaining sufficient liquidity to meet
policyholder obligations. AFC's life and annuity operations use
various actuarial models in an attempt to align the duration of their
invested assets to the projected cash flows of policyholder
liabilities.
The following table provides information about AFC's fixed maturity
investments at December 31, 1998, that are sensitive to interest rate
risk. The table shows principal cash flows (in millions) and related
weighted-average interest rates by expected maturity dates. Callable
bonds and notes are included based on call date or maturity date
depending upon which date produces the most conservative yield.
Mortgage-backed securities ("MBSs") and sinking fund issues are
included based on maturity year adjusted for expected payment
patterns. Actual cash flows may differ from those expected.
Weighted
Principal Average
Cash Flows Interest Rate
1999 $ 848.9 7.87%
2000 942.7 8.01
2001 954.2 8.08
2002 1,086.3 7.76
2003 1,415.3 7.33
Thereafter 4,784.1 7.59
Total $10,031.5 7.68%
Equity Price Risk Equity price risk is the potential economic loss
from adverse changes in equity security prices. Although AFC's
investment in "Other stocks" is less than 4% of total investments, it
is concentrated in a relatively limited number of major positions.
While this approach allows management to more closely monitor the
companies and industries in which they operate, it does increase risk
exposure to adverse price declines in a major position.
Annuity Contracts Substantially all of AAG's fixed rate annuity
contracts permit AAG to change crediting rates (subject to minimum
interest rate guarantees of 3% to 4% per annum) enabling management to
react to changes in market interest rates and maintain an adequate
spread. Sales of variable rate annuities have not been significant.
Projected payments (in millions) of AAG's fixed annuity liabilities at
December 31, 1998, were as follows.
1999 2000 2001 2002 2003 Remaining Total
$660 $620 $560 $500 $450 $2,610 $5,400
<PAGE>
About half of AAG's fixed annuity liabilities at December 31, 1998,
were two-tier in nature in that policyholders can receive a higher
amount if they annuitize rather than surrender their policy, even if
the surrender period has expired. Current stated crediting rates on
AAG's principal fixed annuity products range from 3% on equity-indexed
annuities (before any equity participation) to over 7% on certain new
policies (including first year bonus amounts). AAG estimates that its
effective weighted-average crediting rate over the next five years
will range from 5% to 5.2%. This range reflects actuarial assumptions
as to (i) deaths, (ii) the number of policyholders who annuitize and
receive higher credited amounts and (iii) the number of policyholders
who surrender. Actual experience and changes in actuarial assumptions
may result in different effective crediting rates than those above.
F-5
<PAGE>
Debt and Preferred Securities The following table shows scheduled
principal payments (in millions) on fixed-rate and variable-rate long-
term debt of AFC and its subsidiaries and related weighted average
interest rates. At December 31, 1998, there were $225 million of
subsidiary trust preferred securities outstanding, none of which are
scheduled for redemption during the next five years. The weighted
average interest rate on these securities is 8.46%.
Fixed-Rate Debt Variable-Rate Debt
Weighted Weighted
Scheduled Average Scheduled Average
Principal Interest Principal Interest
Payments Rate Payments Rate
1999 $ 90.7 9.69% $ .3 5.86%
2000 49.1 9.85 .2 5.80
2001 1.2 7.13 .1 5.58
2002 1.1 6.81 85.7 5.95
2003 1.1 6.68 27.2 6.09
Thereafter 233.3 8.26 .2 5.58
Total $376.5 8.80% $113.7 5.98%
At December 31, 1998, the fair value of fixed-rate debt and
variable-rate debt was approximately $388.9 million and
$113.7 million, respectively.
Investments Approximately 70% of AFC's consolidated assets are
invested in marketable securities. A diverse portfolio of primarily
publicly traded bonds and notes accounts for nearly 95% of these
securities. AFC attempts to optimize investment income while building
the value of its portfolio, placing emphasis upon long-term
performance. AFC's goal is to maximize return on an ongoing basis
rather than focusing on short-term performance.
Fixed income investment funds are generally invested in securities
with short-term and intermediate-term maturities with an objective of
optimizing total return while allowing flexibility to react to changes
in market conditions. At December 31, 1998, the average life of AFC's
fixed maturities was just under 6 years.
Approximately 92% of the fixed maturities held by AFC were rated
"investment grade" (credit rating of AAA to BBB) by nationally
recognized rating agencies at December 31, 1998. Investment grade
securities generally bear lower yields and lower degrees of risk than
those that are unrated or noninvestment grade. Management believes
that the high quality investment portfolio should generate a stable
and predictable investment return.
Investments in MBSs represented approximately one-fourth of AFC's
fixed maturities at December 31, 1998. AFC invests primarily in MBSs
which have a reduced risk of prepayment. In addition, the majority of
MBSs held by AFC were purchased at a discount. Management believes
that the structure and discounted nature of the MBSs will mitigate the
effect of prepayments on earnings over the anticipated life of the MBS
portfolio. Approximately 90% of AFC's MBSs are rated "AAA" with
substantially all being of investment grade quality. The market in
which these securities trade is highly liquid. Aside from interest
rate risk, AFC does not believe a material risk (relative to earnings
or liquidity) is inherent in holding such investments.
<PAGE>
Because most income of the property and casualty insurance
subsidiaries has been sheltered from income taxes through 1997,
nontaxable municipal bonds represent only a small portion (less than
1%) of the portfolio.
Prior to the Mergers, the realization of capital gains, primarily
through sales of equity securities, was an integral part of AFC's
investment program. Individual securities are sold creating gains or
losses as market opportunities exist. Pretax capital gains recognized
upon disposition of securities, including investees, during the past
five years have been: 1998 - $16 million; 1997 - $57 million; 1996 -
$166 million; 1995 - $84 million and 1994 - $50 million. At December
31, 1998, the net unrealized gain (before income taxes) on AFC's fixed
maturity and equity securities was $403 million and $223 million,
respectively.
F-6
<PAGE>
RESULTS OF OPERATIONS - THREE YEARS ENDED DECEMBER 31, 1998
General Pretax earnings before extraordinary items were $211 million
in 1998, $334 million in 1997 and $340 million in 1996.
Results for 1998 include a pretax charge in the fourth quarter of
$214 million attributable to an increase in loss reserves relating
to asbestos and environmental coverages ("A&E"), $180 million in
pretax gains, primarily from the sale of substantially all of
AFC's Commercial lines division and the Funeral Services division,
and a $34 million decline in the underwriting results in AFC's
property and casualty insurance business (excluding the special
A&E charge) due primarily to increased catastrophe losses.
Results for 1997 include $91 million in pretax gains, primarily on
the sales of affiliates and other securities, and reflect declines
of $41 million in underwriting results in AFC's property and
casualty insurance business.
Results for 1996 include $203 million in pretax gains primarily on
the sales of Citicasters and Buckeye, reduced by a charge of $80
million resulting from a decision to strengthen insurance A&E
reserves.
Property and Casualty Insurance - Underwriting Following the sale of
its Commercial lines division in late 1998, AFC's property and
casualty group is engaged primarily in private passenger automobile
and specialty insurance businesses. Accordingly, AFC has realigned
its property and casualty group into 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, formerly included in the Commercial and Personal
lines. 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.
The Specialty group includes a highly diversified group of business
lines (formerly, Specialty lines) plus the commercial business
previously included in the Commercial and Personal 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.
<PAGE>
To understand the overall profitability of particular lines, the
timing of claims payments and the related impact of investment income
must be considered. Certain "short-tail" lines of business (primarily
property coverages) have quick loss payouts which reduce the time
funds are held, thereby limiting investment income earned thereon. On
the other hand, "long-tail" lines of business (primarily liability
coverages and workers' compensation) have payouts that are either
structured over many years or take many years to settle, thereby
significantly increasing investment income earned on related premiums
received.
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.
F-7
<PAGE>
While AFC desires and seeks to earn an underwriting profit on all
of its business, it is not always possible to do so. As a result, AFC
attempts to expand in the most profitable areas and control growth or
even reduce its involvement in the least profitable ones.
Excluding the special $214 million A&E charge in the fourth quarter
of 1998, underwriting results of AFC's insurance operations
outperformed the industry average for the thirteenth consecutive year.
AFC's insurance operations have been able to exceed the industry's
results by focusing on growth opportunities in the more profitable
areas of the specialty and nonstandard auto businesses.
Net written premiums and combined ratios for AFC's property and
casualty insurance subsidiaries were as follows (dollars in millions):
1998 1997 1996
Net Written Premiums (GAAP)
Personal $1,279 $1,345 $1,384
Specialty 1,312(*) 1,468 1,367
Other Lines 18 45 37
$2,609 $2,858 $2,788
Combined Ratios (GAAP)
Personal 97.3% 98.5% 103.9%
Specialty 105.0 100.0 88.4
Aggregate (including A&E and other lines) 110.7% 101.4% 102.9%
(*) Before a reduction of $138 million for the unearned premium
transfer related to the sale of the Commercial lines division.
Special A&E Charge Operating results for 1998 and 1996 were
adversely impacted by increases in A&E reserves (exposures for which
AFC may be liable under general liability policies written years ago)
and higher catastrophe losses. A standard insurance measure used in
testing the reasonableness of A&E reserves has been the "survival
ratio" (reserves divided by average annual paid losses for the
preceding three years). Due in part to the greater uncertainties
inherent in estimating A&E claims, management has evaluated its
survival ratio in relation to those published for the industry. Based
primarily on industry survival ratios published in mid-1996, AFC
increased A&E reserves of its discontinued insurance lines by $120
million in 1996 by recording a third quarter, noncash pretax charge of
$80 million and reallocating $40 million, or approximately 2%, of its
Specialty group reserves (approximately $2.1 billion at December 31,
1996).
Under the agreement covering the sale of its Commercial lines
division in 1998, AFC retained liabilities for certain A&E exposures.
Prompted by this retention and as part of the continuing process of
monitoring reserves, AFC began a thorough study of its A&E exposures.
Based on this study and observations of industry trends in this
regard, AFC decided that the survival ratio may not be the best basis
for measuring ultimate A&E exposures. AFC's study was reviewed by
independent actuaries who used state of the art actuarial techniques
that have wide acceptance in the industry. The methods used involved
sampling and statistical modeling incorporating external data bases
that supplement the internal information. AFC recorded a fourth
<PAGE>
quarter charge of $214 million increasing A&E reserves at December 31,
1998, to approximately $866 million (before deducting reinsurance
recoverables of $241 million), an amount which, in the opinion of
management, makes a reasonable provision for AFC's ultimate liability
for A&E claims.
Personal The Personal group's net written premiums decreased
$65.9 million (5%) during 1998 due primarily to stronger price
competition in the personal automobile market. The combined ratio
improved in 1998 due to both lower loss experience and a 6% reduction
in underwriting expenses.
The Personal group's net written premiums decreased $39.6 million
(3%) during 1997 due primarily to a reinsurance agreement, effective
January 1, 1997, under which 80% of all AFC's homeowners' business was
reinsured. Excluding the impact of the reinsurance agreement,
premiums increased 4%. Volume increases in the California nonstandard
auto business resulting from enactment of legislation which
F-8
<PAGE>
requires drivers to provide proof of insurance in order to obtain a
valid permit contributed to a growth in personal automobile business.
Rate increases during 1995 and early 1996, primarily in the
nonstandard auto group, contributed to the improvement in the combined
ratio in 1997.
Specialty The Specialty group's net written premiums decreased
$156 million (11%) during 1998 due primarily to the impact of a
reinsurance agreement whereby approximately 30% of AFC's California
workers' compensation premiums were ceded and the sale of the
Commercial lines division. Excluding these operations, the net
written premiums of the other specialty businesses were essentially
the same as a year ago. Underwriting results worsened from the
comparable period in 1997 due to losses from the midwestern storms in
the second quarter of 1998 compared to milder weather conditions
during 1997 and unusually good results in 1997 in certain other lines.
Net written premiums increased $101.8 million (7%) in 1997 due
primarily to premiums recorded by a newly acquired aviation division
and the return of premiums in 1996 related to the withdrawal from a
voluntary pool. The Specialty group had a combined ratio of 100% in
1997 despite a significant decline in the results of AFC's California
workers' compensation business relating to (i) deteriorating
underwriting margins on business written in 1996 and 1997, (ii)
reserve reductions in 1996 primarily for business written prior to
1995 in response to a fundamental change in the California workers'
compensation market and actuarial evaluations and (iii) several
current year commercial casualty losses as well as adverse development
in certain prior year claims. The Specialty group's combined ratio
was unusually low in 1996 due primarily to the reallocation of
$40 million in reserves to A&E reserves (a combined ratio impact of
3.0 percentage points) and the 1996 reductions in California workers'
compensation reserves mentioned above.
Life, Accident and Health Premiums and Benefits The increase in life,
accident and health premiums and benefits in 1998 reflects primarily
AAG's acquisition of Great American Life Assurance Company of Puerto
Rico, Inc. in December 1997. Life, accident and health premiums and
benefits increased in 1997 due primarily to an increase in pre-need
life insurance sales by AAG's Funeral Services division which was sold
in 1998.
Investment Income Changes in investment income reflect fluctuations
in market rates and changes in average invested assets.
1998 compared to 1997 Investment income increased $16.9 million
(2%) from 1997 due primarily to an increase in the average amount of
investments held partially offset by decreasing market interest rates.
1997 compared to 1996 Investment income increased $23.4 million
(3%) from 1996 due primarily to an increase in the average amount of
investments held partially offset by decreasing market interest rates.
Investee Corporation Equity in net losses of investee corporation
represents AFC's proportionate share of the results of Chiquita Brands
International. Equity in net losses excludes AFC's share of amounts
included in extraordinary items; the amount for 1996 includes
$1.5 million in earnings from Citicasters which was sold in 1996.
<PAGE>
AFG recorded equity in net losses of Chiquita of $13.2 million,
$5.6 million and $18.4 million in 1998, 1997 and 1996, respectively.
Chiquita's loss attributable to common shareholders (before
extraordinary items) was $35.5 million, $16.6 million and
$39.7 million during these same periods.
F-9
<PAGE>
Chiquita's results for 1998 include pretax writedowns and costs of
$74 million resulting from widespread flooding in Honduras and
Guatemala caused by Hurricane Mitch. Excluding these unusual items,
Chiquita's operating income improved $52 million in 1998 compared to
1997 due primarily to lower delivered product costs for bananas on
higher worldwide volume, which more than offset the adverse effect of
lower banana pricing.
Chiquita's results for 1997 were adversely affected by a stronger
dollar in relation to major European currencies (mitigated in part by
the company's foreign currency hedging program) and by increased
banana production costs resulting primarily from widespread flooding
in 1996. These factors more than offset the benefit of higher local
currency banana pricing in Europe during the second half of the year.
Chiquita's results for 1996 include pretax writedowns and costs of
$70 million resulting from (i) industry-wide flooding in Costa Rica,
Guatemala and Honduras, (ii) certain strategic undertakings designed
to achieve further long-term reductions in the delivered product cost
of Chiquita bananas and (iii) certain claims relating to prior
European Union quota restructuring actions.
Gains on Sales of Investees The gains on sales of investees in 1998
and 1997 represent pretax gains to AFC as a result of Chiquita's
public issuance of shares of its common stock. The gain on sale of
investee in 1996 represents a pretax gain, before $6.5 million of
minority interest, on the sale of Citicasters common stock.
Gains on Sales of Subsidiaries The gains on sales of subsidiaries in
1998 include (i) a pretax gain of $152.6 million on the sale of the
Commercial lines division, (ii) a pretax gain of $21.6 million on
AAG's sale of its Funeral Services division and (iii) a charge of
$15.5 million relating to operations expected to be sold or otherwise
disposed of. The gains on sales of subsidiaries in 1997 include (i) a
pretax gain of $49.9 million on the sale of MDI and (ii) a charge of
$17 million relating to operations expected to be sold or otherwise
disposed of. The gains on sales of subsidiaries in 1996 include a
pretax gain of $33.9 million on the sale of Buckeye Management Company
and the settlement of litigation related to a subsidiary sold in 1993.
Other Income
1998 compared to 1997 Other income decreased $15.2 million (10%)
in 1998 due primarily to income of $46.3 million in 1997 from the sale
of development rights in New York City (including $32.5 million on
rights sold to AFG) and the absence of revenues from a noninsurance
subsidiary which was sold in the fourth quarter of 1997, partially
offset by income in 1998 from the sale of operating real estate assets
and lease residuals.
1997 compared to 1996 Other income increased $18.0 million (13%)
in 1997 compared to 1996 due primarily to the above mentioned sale of
development rights, partially offset by the absence of revenues from a
noninsurance subsidiary which was sold in the first quarter of 1997.
<PAGE>
Annuity Benefits For GAAP financial reporting purposes, annuity
receipts are accounted for as interest-bearing deposits ("annuity
benefits accumulated") rather than as revenues. Under these
contracts, policyholders' funds are credited with interest on a tax-
deferred basis until withdrawn by the policyholder. Annuity benefits
reflect amounts accrued on annuity policyholders' funds accumulated.
The rate at which AAG credits interest on most of its annuity
policyholders' funds is subject to change based on management's
judgment of market conditions. As a result, management has been able
to react to changes in market interest rates and maintain a desired
interest rate spread. While AAG believes the recent interest rate and
stock market environment over the last several years has contributed
to an increase in annuitizations and surrenders, the company's
persistency rate remains approximately 88%. However, a continuation
of the current interest rate environment could adversely affect this
rate.
F-10
<PAGE>
Fixed annuity receipts totaled approximately $480 million in 1998,
$490 million in 1997 and $570 million in 1996. Annuity receipts in
1997 reflect the decrease of business written by a single agency from
$99 million in 1996 to $23 million in 1997. AAG is no longer writing
business through this agency. AAG believes that the success of the
stock market and the recent interest rate environment have also
resulted in decreased sales and persistency of traditional fixed
annuities. Sales of annuity products linked to the performance of the
stock market (equity-indexed and variable annuities) helped offset
this decrease.
Annuity benefits decreased $17.2 million (6%) from 1997 due
primarily to decreases in crediting rates and changes in actuarial
assumptions. Annuity benefits increased $7 million (3%) in 1997 due
primarily to an increase in average annuity benefits accumulated
partially offset by decreases in crediting rates.
Interest on Borrowed Money Changes in interest expense result from
fluctuations in market rates as well as changes in borrowings. AFC
has generally financed its borrowings on a long-term basis which has
resulted in higher current costs.
1998 compared to 1997 Interest expense decreased $14.5 million
(17%) from 1997 due primarily to a decrease in borrowings from AFG.
1997 compared to 1996 Interest expense increased $1.0 million (1%)
from 1996. The increase reflects increased borrowings from AFG,
partially offset by the effect of significant debt reductions during
1996.
Minority Interest Expense Minority interest expense for 1996
includes $6.5 million related to the sale of Citicasters shares
held by AFEI.
Other Operating and General Expenses
1998 compared to 1997 Other operating and general expenses
increased $16.9 million (5%) in 1998 due primarily to inclusion of the
operations of Great American Life Assurance Company of Puerto Rico
following its acquisition in late 1997 which more than offset the
absence of expenses from a noninsurance subsidiary which was sold in
the fourth quarter of 1997.
1997 compared to 1996 Operating and general expenses in 1997
include third quarter charges of $5.5 million relating to an
arbitration settlement and $4.0 million relating to relocating a
subsidiary's operations to Cincinnati. These charges were more than
offset by a reduction caused by the absence of expenses from a
noninsurance subsidiary which was sold in the first quarter of 1997.
Income Taxes See Note K to the Financial Statements for an analysis
of items affecting AFC's effective tax rate.
<PAGE>
Recent Accounting Standards The following accounting standards have
been implemented by AFC in 1997 or 1998 or will be implemented in 1999
or 2000. The implementation of these standards is discussed under
various subheadings of Note A to the Financial Statements (segment
information is discussed in Note C); effects of each are shown in the
relevant Notes. Implementation of Statement of Position ("SOP") 98-5
in the first quarter of 1999 and Statement of Financial Account
Standard ("SFAS") No. 133 in the first quarter of 2000 is not expected
to have a significant effect on AFC.
Accounting
Standard Subject of Standard (Year Implemented) Reference
SFAS #130 Comprehensive Income (1998) "Comprehensive Income"
SFAS #131 Segment Information (1998) "Segment Information"
SFAS #133 Derivatives (2000) "Derivatives"
SOP 98-5 Start-up Costs (1999) "Start-up Costs"
Other standards issued in recent years did not apply to AFC or had
only negligible effects on AFC.
F-11
<PAGE>
Financial Statements and Supplementary Data
Page
Report of Independent Auditors F-13
Consolidated Balance Sheet:
December 31, 1998 and 1997 F-14
Consolidated Statement of Earnings:
Years ended December 31, 1998, 1997 and 1996 F-15
Consolidated Statement of Changes in Shareholders' Equity:
Years ended December 31, 1998, 1997 and 1996 F-16
Consolidated Statement of Cash Flows:
Years ended December 31, 1998, 1997 and 1996 F-17
Notes to Consolidated Financial Statements F-18
"Selected Quarterly Financial Data" has been included in Note N to the
Consolidated Financial Statements.
--------------------------------------------------------------------
F-12
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors
American Financial Corporation
We have audited the accompanying consolidated balance sheet of
American Financial Corporation and subsidiaries as of
December 31, 1998 and 1997, and the related consolidated statements of
earnings, changes in shareholders' equity and cash flows for each of
the three years in the period ended December 31, 1998. Our audits
also included the financial statement schedules listed in the Index at
Item 14(a). These financial statements and schedules are the
responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements and schedules based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well
as evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the consolidated
financial position of American Financial Corporation and subsidiaries
at December 31, 1998 and 1997, and the consolidated results of their
operations and their cash flows for each of the three years in the
period ended December 31, 1998, in conformity with generally accepted
accounting principles. Also, in our opinion, the related financial
statement schedules, when considered in relation to the basic
financial statements taken as a whole, present fairly in all material
respects the information set forth therein.
ERNST & YOUNG LLP
Cincinnati, Ohio
March 19, 1999
F-13
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(Dollars In Thousands)
December 31,
1998 1997
Assets:
Cash and short-term investments $ 289,944 $ 231,227
Investments:
Fixed maturities:
Available for sale - at market
(amortized cost - $9,920,407 and $7,225,736) 10,323,407 7,532,836
Held to maturity - at amortized cost
(market - $3,417,900) - 3,326,996
Other stocks - principally at market
(cost - $207,345 and $153,322) 430,345 446,222
Investment in investee corporation 192,138 200,714
Policy loans 220,496 240,955
Real estate and other investments 268,171 280,235
Total investments 11,434,557 12,027,958
Recoverables from reinsurers and prepaid
reinsurance premiums 1,973,895 998,743
Agents' balances and premiums receivable 618,198 691,005
Deferred acquisition costs 464,047 521,898
Other receivables 318,154 261,454
Assets held in separate accounts 120,049 300,491
Prepaid expenses, deferred charges and other assets 343,554 405,798
Cost in excess of net assets acquired 285,469 299,408
$15,847,867 $15,737,982
<PAGE>
Liabilities and Capital:
Unpaid losses and loss adjustment expenses $ 4,773,377 $ 4,225,336
Unearned premiums 1,232,848 1,328,910
Annuity benefits accumulated 5,449,633 5,528,111
Life, accident and health reserves 341,595 709,899
Payable to American Financial Group, Inc. 270,500 352,766
Other long-term debt:
Holding companies 315,536 286,661
Subsidiaries 176,896 194,084
Liabilities related to separate accounts 120,049 300,491
Accounts payable, accrued expenses and other
liabilities 1,112,442 908,622
Total liabilities 13,792,876 13,834,880
Minority interest 524,335 509,619
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 943,359 936,154
Retained earnings 157,218 34,350
Net unrealized gain on marketable securities,
net of deferred income taxes 348,300 341,200
Total shareholders' equity 1,530,656 1,393,483
$15,847,867 $15,737,982
See notes to consolidated financial statements.
F-14
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF EARNINGS
(In Thousands, Except Per Share Data)
Year ended December 31,
1998 1997 1996
Income:
Property and casualty insurance premiums $2,698,738 $2,824,381 $2,844,512
Life, accident and health premiums 170,365 121,506 103,552
Investment income 885,591 868,689 845,330
Equity in net losses of investees (13,198) (5,564) (16,955)
Realized gains (losses) on sales of:
Securities 6,275 46,006 (3,470)
Investees 9,420 11,428 169,138
Subsidiaries 158,673 33,602 36,837
Other investments 5,293 - -
Other income 137,674 152,854 134,904
4,058,831 4,052,902 4,113,848
Costs and Expenses:
Property and casualty insurance:
Losses and loss adjustment expenses 2,001,783 2,075,616 2,051,421
Special asbestos and environmental
charge 213,500 - 80,000
Commissions and other underwriting
expenses 772,917 790,324 793,800
Annuity benefits 261,666 278,829 271,821
Life, accident and health benefits 131,652 110,082 92,315
Interest charges on borrowed money 72,625 87,155 86,148
Minority interest expense 45,279 45,477 54,748
Other operating and general expenses 348,588 331,655 344,052
3,848,010 3,719,138 3,774,305
Earnings before income taxes and
extraordinary items 210,821 333,764 339,543
Provision for income taxes 81,418 125,227 89,658
Earnings before extraordinary items 129,403 208,537 249,885
Extraordinary items - loss on
prepayment of debt (763) (7,147) (27,889)
Net Earnings $ 128,640 $ 201,390 $ 221,996
See notes to consolidated financial statements.
F-15
<PAGE>
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
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1995 $168,484 $473,991 $365,126 $240,500
Net earnings - - 221,996 - $221,996
Dividends on:
Preferred Stock - - (24,898) - -
Common Stock - - (560,860) - -
Purchases and redemptions (22,524) (14,388) - - -
Sale of preferred shares to
employee benefit plan 16,800 - - - -
Capital contribution from parent - 468,666 - - -
Change in unrealized - - - (57,100) (57,100)
Other - 1,102 - - -
Balance at December 31, 1996 162,760 929,371 1,364 183,400 $164,896
Net earnings - - 201,390 - 201,390
Dividends on Preferred Stock - - (15,071) - -
Purchases and redemptions (162,760) - (153,333) - -
Issuance of Preferred Stock 72,154 - - - -
Capital contribution from parent - 16,707 - - -
Change in unrealized - - - 157,800 157,800
Other - (299) - - -
Balance at December 31, 1997 72,154 945,779 34,350 341,200 $359,190
Net earnings - - 128,640 - 128,640
Dividends on Preferred Stock - - (5,772) - -
Capital contribution from parent - 6,963 - - -
Change in unrealized - - - 7,100 7,100
Other - 242 - - -
Balance at December 31, 1998 $ 72,154 $952,984 $157,218 $348,300 $135,740
</TABLE>
See notes to consolidated financial statements.
F-16
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(In Thousands)
<TABLE>
<CAPTION>
Year ended December 31,
1998 1997 1996
<S> <C> <C> <C>
Operating Activities:
Net earnings $128,640 $ 201,390 $ 221,996
Adjustments:
Extraordinary items 763 7,147 27,889
Special asbestos and environmental charge 213,500 - 80,000
Depreciation and amortization 106,280 76,434 79,425
Annuity benefits 261,666 278,829 271,821
Equity in net losses of investee corporations 13,198 5,564 16,955
Changes in reserves on assets 14,020 7,610 5,656
Realized gains on investing activities (205,659) (135,657) (198,676)
Deferred annuity and life policy acquisition costs (117,202) (72,634) (68,511)
Decrease (increase) in reinsurance and other
receivables (342,394) (189,643) 95,553
Decrease (increase) in other assets (9,433) 24,325 92,176
Increase (decrease) in insurance claims and
reserves 176,552 206,900 (70,829)
Increase (decrease) in other liabilities 154,353 (29,935) (211,697)
Increase in minority interest 10,175 36,440 52,333
Dividends from investees 4,799 4,799 4,799
Other, net (14,651) (25,711) (3,989)
394,607 395,858 394,901
Investing Activities:
Purchases of and additional investments in:
Fixed maturity investments (2,155,192) (2,555,060) (2,128,015)
Equity securities (78,604) (37,107) (10,528)
Subsidiaries (30,325) (93,839) -
Real estate, property and equipment (66,819) (64,917) (38,035)
Maturities and redemptions of fixed maturity
investments 1,248,626 897,786 615,849
Sales of:
Fixed maturity investments 795,520 1,407,598 881,114
Equity securities 28,850 104,960 53,195
Investees and subsidiaries 164,589 32,500 284,277
Real estate, property and equipment 53,962 23,289 7,981
Cash and short-term investments of acquired
(former) subsidiaries (21,141) 2,714 (4,589)
Decrease (increase) in other investments (15,135) (12,892) 594
(75,669) (294,968) (338,157)
<PAGE>
Financing Activities:
Fixed annuity receipts 480,572 493,708 573,741
Annuity surrenders, benefits and withdrawals (690,388) (607,174) (517,881)
Additional long-term borrowings 262,537 184,150 288,775
Reductions of long-term debt (251,837) (230,688) (582,288)
Borrowings from AFG 6,000 201,000 152,471
Repayments of borrowings from AFG (80,000) (224,500) (61,000)
Issuances of Preferred Stock - - 16,800
Repurchases of Preferred Stock - (243,939) (36,912)
Issuances of trust preferred securities - 149,353 72,412
Capital contribution 18,667 18,667 18,666
Cash dividends paid (5,772) (15,071) (24,898)
(260,221) (274,494) (100,114)
Net Increase (Decrease) in Cash and Short-term
Investments 58,717 (173,604) (43,370)
Cash and short-term investments at beginning of
period 231,227 404,831 448,201
Cash and short-term investments at end of period $289,944 $ 231,227 $ 404,831
</TABLE>
See notes to consolidated financial statements.
F-17
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
INDEX TO NOTES
A. Accounting Policies I. Minority Interest
B. Acquisitions and Sales of Subsidiaries J. Shareholders' Equity
and Investees K. Income Taxes
C. Segments of Operations L. Extraordinary Items
D. Investments M. Commitments and Contingencies
E. Investment in Investee Corporations N. Quarterly Operating Results
F. Cost in Excess of Net Assets Acquired O. Insurance
G. Payable to American Financial Group P. Additional Information
H. Other Long-Term Debt Q. Subsequent Event
A. Accounting Policies
Basis of Presentation At the close of business on December 31,
1996, American Financial Group, Inc. ("AFG"), which owns 100% of
the Common Stock of American Financial Corporation ("AFC"),
contributed to AFC 81% of the common stock of its wholly-owned
subsidiary, American Premier Underwriters, Inc. ("American
Premier" or "APU"). Since AFC and American Premier were under
AFG's common control, the acquisition of American Premier has been
recorded by AFC at AFG's historical cost in a manner similar to a
pooling of interests.
The consolidated financial statements include the accounts of AFC
and its subsidiaries. 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. With the exception of the acquisition of American
Premier, 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 in conformity with
generally accepted accounting principles 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.
<PAGE>
Investments Debt securities are classified as "held to maturity"
and reported at amortized cost if AFC has the positive intent and
ability to hold them to maturity. Debt and equity securities are
classified as "available for sale" and reported at fair value with
unrealized gains and losses reported as a separate component of
shareholders' equity if the securities are not classified as held
to maturity or bought and held principally for selling in the near
term. At December 31, 1998, AFC reclassified "held to maturity"
securities with an amortized cost of $2.6 billion to "available
for sale" to give management greater flexibility to react to
changing market conditions. This reclassification resulted in an
increase of $98.8 million in the carrying value of fixed maturity
investments and (after effects of income taxes, minority interest,
and adjustments related to deferred policy acquisition costs) an
increase of $48.8 million in shareholders' equity. The transfer
had no effect on net earnings.
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.
F-18
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
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.
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 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.
<PAGE>
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.
F-19
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
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 and, in 1997, include deposits maintained by
several banks under a tax-deferred annuity program previously
offered by American Annuity Group, Inc.'s ("AAG's") Funeral
Services division, which was sold in 1998 (see Note B).
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.
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 the interests of noncontrolling shareholders in AFC
subsidiaries, including preferred securities issued by trust
subsidiaries of AAG, and AFG's direct ownership interest in
American Premier and American Financial Enterprises, Inc.
("AFEI"). 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.
<PAGE>
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.
F-20
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Benefit Plans AFC provides retirement benefits to qualified
employees of participating companies through contributory and
noncontributory defined contribution plans contained in AFG'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 AFG
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.
Start-up Costs Certain costs associated with introducing new
products and distribution channels are deferred by AAG and are
amortized on a straight-line basis over 5 years. Statement of
Position ("SOP") 98-5, "Reporting on the Costs of Start-Up
Activities," was issued during the second quarter of 1998 and is
effective for fiscal years beginning after December 15, 1998. The
SOP requires that (i) costs of start-up activities be expensed as
incurred and (ii) unamortized balances of previously deferred
costs be expensed no later than the first quarter of 1999 and
reported as the cumulative effect of a change in accounting
principle. AAG had approximately $7 million in capitalized start-
up costs at December 31, 1998.
Derivatives The Financial Accounting Standards Board issued SFAS
No. 133, "Accounting for Derivative Instruments and Hedging
Activities," during the second quarter of 1998. SFAS No. 133 is
effective for fiscal periods (both years and quarters) beginning
after June 15, 1999. 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 statement of
financial position 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.
<PAGE>
Comprehensive Income Effective January 1, 1998, AFC implemented
SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 uses
the term "comprehensive income" to describe 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. Implementation of
this statement had no impact on net earnings or shareholders'
equity. Appropriate data for prior periods has been added to
conform to the current presentation.
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.
Fair Value of Financial Instruments Methods and assumptions used
in estimating fair values are described in Note P to the financial
statements. These fair values represent point-in-time estimates
of value that might not be particularly relevant in predicting
AFC's future earnings or cash flows.
F-21
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
B. Acquisitions and Sales of Subsidiaries and Investees
Commercial Lines Division In December 1998, AFC completed the
sale of substantially all of its commercial lines division to Ohio
Casualty Corporation for $300 million plus warrants to purchase
3 million shares of Ohio Casualty common stock. AFC retained
$300 million in securities it would otherwise have transferred to
Ohio Casualty in connection with the reinsurance of business
assumed by Ohio Casualty. For accounting purposes, the insurance
liabilities ceded to Ohio Casualty and the deferred a gain of
$103 million on the insurance ceded to Ohio Casualty and
recognized sale of the other net assets are required to be
accounted for separately. AFC a pretax gain of $153 million on
the sale of the other net assets. The deferred gain is being
recognized over the estimated remaining settlement period
(weighted average of 4.25 years) of the claims ceded. AFC may
receive up to an additional $40 million in the year 2000 based
upon the retention and growth of the insurance businesses acquired
by Ohio Casualty. The commercial lines sold generated net written
premiums of approximately $250 million in 1998 (11 months),
$315 million in 1997 and $314 million in 1996.
Funeral Services division In September 1998, AAG sold its Funeral
Services division for approximately $165 million in cash. The
division held assets of approximately $1 billion at the sale date.
AFC realized a third quarter pretax gain of $21.6 million, before
$2.7 million of minority interest, on this sale.
Chiquita During 1997 and 1998, Chiquita issued shares of its
common stock in acquisitions of operating businesses. AFC
recorded pretax gains of $11.4 million in the fourth quarter of
1997, $7.7 million in the first quarter of 1998 and $1.7 million
in the second quarter of 1998 representing the excess of AFC's
equity in Chiquita following the issuances of its common stock
over AFC's previously recorded carrying value.
Millennium Dynamics, Inc. In December 1997, AFC completed the
sale of the assets of its software solutions and consulting
services subsidiary, Millennium Dynamics, Inc. ("MDI"), to a
subsidiary of Peritus Software Services, Inc. for $30 million in
cash and 2,175,000 shares of Peritus common stock. AFC recognized
a pretax gain of approximately $50 million on the sale.
Peritus experienced difficulties in 1998, wrote off substantial
amounts of its assets, and reported significant losses throughout
the year. As a result, AFC recognized a pretax realized loss of
$26.9 million and reduced its carrying value of Peritus shares to
a nominal value at December 31, 1998.
Citicasters In 1996, AFC sold its investment in Citicasters to
Jacor Communications for approximately $220 million in cash plus
warrants to purchase Jacor common stock. AFC realized a pretax
gain of approximately $169 million, before minority interest of
$6.5 million, on the sale.
<PAGE>
Buckeye In 1996, AFC sold Buckeye Management Company to Buckeye's
management (including an AFG director who resigned in March 1996)
and employees for $60 million in cash, net of transaction costs.
AFC recognized a $33.9 million pretax gain on the sale.
C. Segments of Operations Following the sale of substantially all of
its Commercial lines division, 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, formerly
included in the Commercial and Personal lines. The Specialty
group now includes a highly diversified group of specialty
business units (formerly, Specialty lines) plus the commercial
business previously included in the Commercial and Personal
F-22
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
lines. AFC's annuity and life business markets primarily retirement
products as well as life and supplemental health insurance. AFC's
businesses operate throughout the United States. In addition, AFC
has owned significant portions of the voting equity securities of
certain companies (investee corporation - see Note E).
Effective January 1, 1998, AFC implemented SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related
Information." SFAS No. 131 requires segment information to be
reported based on how management internally evaluates the
operating performance of its business units. Implementation of
this standard had no impact on AFC's financial position or results
of operations.
The following tables (in thousands) show AFC's assets, revenues
and operating profit (loss) by significant business segment.
Operating profit (loss) represents total revenues less operating
expenses.
1998 1997 1996
Assets
Property and casualty insurance (a) $ 8,278,898 $ 7,517,856 $ 7,116,088
Annuities and life 7,174,544 7,693,463 7,009,127
Other 202,287 325,949 674,297
15,655,729 15,537,268 14,799,512
Investment in investees 192,138 200,714 199,651
$15,847,867 $15,737,982 $14,999,163
Revenues (b)
Property and casualty insurance:
Premiums earned:
Personal $ 1,289,689 $ 1,356,642 $ 1,447,751
Specialty 1,371,509 1,429,143 1,355,906
Other lines 37,540 38,596 40,855
2,698,738 2,824,381 2,844,512
Investment and other income 643,106 448,849 500,897
3,341,844 3,273,230 3,345,409
Annuities and life (c) 729,854 638,348 585,079
Other 331 146,888 200,315
4,072,029 4,058,466 4,130,803
Equity in net losses of investees (13,198) (5,564) (16,955)
$ 4,058,831 $ 4,052,902 $ 4,113,848
<PAGE>
Operating Profit (Loss)
Property and casualty insurance:
Underwriting:
Personal $ 34,029 $ 21,235 ($ 55,989)
Specialty (67,131) (324) 155,405
Other lines (d) (256,360) (62,470) (180,125)
(289,462) (41,559) (80,709)
Investment and other income 505,801 311,169 359,002
216,339 269,610 278,293
Annuities and life 128,074 93,794 77,119
Other (e) (120,394) (24,076) 1,086
224,019 339,328 356,498
Equity in net losses of investees (13,198) (5,564) (16,955)
$ 210,821 $ 333,764 $ 339,543
(a) Not allocable to segments.
(b) Revenues include sales of products and services as well as
other income earned by the respective segments.
(c) Represents primarily investment income.
(d) Represents primarily losses related to asbestos and other
environmental matters ("A&E").
(e) Includes holding company expenses.
F-23
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
D. Investments Fixed maturities and other stocks at December 31,
consisted of the following (in millions):
<TABLE>
<CAPTION>
1998
Available for Sale Held to Maturity
Amortized Market Gross Unrealized Amortized Market Gross Unrealized
Cost Value Gains Losses Cost Value Gains Losses
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fixed maturities:
United States Government
and government agencies
and authorities $ 507.5 $ 537.6 $ 30.2 ($ .1) $ - $ - $ - $ -
States, municipalities and
political subdivisions 137.0 144.8 7.8 - - - - -
Foreign government 67.3 71.0 3.8 (.1) - - - -
Public utilities 688.0 717.8 29.9 (.1) - - - -
Mortgage-backed securities 2,399.9 2,493.2 102.0 (8.7) - - - -
All other corporate 6,061.4 6,297.0 265.9 (30.3) - - - -
Redeemable preferred stocks 59.3 62.0 3.5 (.8) - - - -
$9,920.4 $10,323.4 $443.1 ($40.1) $ - $ - $ - $ -
Other stocks $ 207.3 $ 430.3 $230.7 ($ 7.7)
</TABLE>
<TABLE>
<CAPTION>
1997
Available for Sale Held to Maturity
Amortized Market Gross Unrealized Amortized Market Gross Unrealized
Cost Value Gains Losses Cost Value Gains Losses
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fixed maturities:
United States Government
and government agencies
and authorities $ 600.8 $ 618.6 $ 18.1 ($ .3) $ - $ - $ - $ -
States, municipalities and
political subdivisions 86.7 89.3 2.6 - 72.0 73.6 1.8 (.2)
Foreign government 55.9 57.9 2.1 (.1) 8.3 8.9 .6 -
Public utilities 359.3 374.7 15.7 (.3) 459.7 466.7 8.3 (1.3)
Mortgage-backed securities 1,715.7 1,779.4 65.5 (1.8) 868.9 899.4 30.6 (.1)
All other corporate 4,336.9 4,536.9 200.0 - 1,918.1 1,969.3 52.7 (1.5)
Redeemable preferred stocks 70.4 76.0 5.9 (.3) - - - -
$7,225.7 $ 7,532.8 $309.9 ($ 2.8) $3,327.0 $ 3,417.9 $ 94.0 ($ 3.1)
Other stocks $ 153.3 $ 446.2 $293.7 ($ .8)
</TABLE>
<PAGE>
The table below sets forth the scheduled maturities of fixed
maturities based on market value as of December 31, 1998. Data
based on amortized cost is generally the same. Mortgage-backed
securities had an average life of approximately 4.6 years at
December 31, 1998.
Maturity
One year or less 6%
After one year through five years 25
After five years through ten years 30
After ten years 15
76
Mortgage-backed securities 24
100%
F-24
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Certain risks are inherent in connection with fixed maturity
securities, including loss upon default, price volatility in
reaction to changes in interest rates, and general market factors
and risks associated with reinvestment of proceeds due to
prepayments or redemptions in a period of declining interest
rates.
Included in "Other stocks" at December 31, 1998 and 1997, are
$243 million and $313 million, respectively, of securities of
Provident Financial Group, Inc. which exceeded 10% of
Shareholders' Equity.
Realized gains (losses) and changes in unrealized appreciation
(depreciation) on fixed maturity and equity security investments
are summarized as follows (in thousands):
Fixed Equity Tax
Maturities Securities Effects Total
1998
Realized(*) $ 25,841 ($ 19,566) ($ 2,196) $ 4,079
Change in Unrealized 4,982 (69,900) 22,721 (42,197)
1997
Realized 11,542 34,464 (16,102) 29,904
Change in Unrealized 222,188 107,600 (115,426) 214,362
1996
Realized (16,545) 13,075 8,199 4,729
Change in Unrealized (271,803) 70,000 70,631 (131,172)
(*) Includes $6.8 million in realized gains on fixed maturities
transferred to Ohio Casualty in connection with the sale of the
Commercial lines division (see Note B).
<PAGE>
Transactions in fixed maturity investments included in the
Statement of Cash Flows consisted of the following (in millions):
Maturities
and Gross Gross
Purchases Redemptions Sales Gains Losses
1998
Held to Maturity (*) $ .8 $ 584.8 $ 45.3 $12.1 ($ .5)
Available for Sale 2,154.4 663.8 750.2 24.9 (17.5)
Total $2,155.2 $1,248.6 $ 795.5 $37.0 ($18.0)
1997
Held to Maturity $ 5.6 $ 422.3 $ 8.0 $ .5 ($ 1.0)
Available for Sale 2,549.5 475.5 1,399.6 37.7 (25.7)
Total $2,555.1 $ 897.8 $1,407.6 $38.2 ($26.7)
1996
Held to Maturity $ 202.2 $ 331.0 $ 9.3 $ 2.4 ($ 1.2)
Available for Sale 1,925.8 284.8 871.8 29.6 (47.3)
Total $2,128.0 $ 615.8 $ 881.1 $32.0 ($48.5)
(*)Prior to reclassification to available for sale at December 31, 1998.
Securities classified as "held to maturity" having amortized cost
of $41.8 million, $8.2 million and $9.5 million were sold for
gains (losses) of $603,000, ($170,000) and ($159,000) in 1998,
1997 and 1996, respectively, due to significant deterioration in
the issuers' creditworthiness.
F-25
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
E. 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
$229 million and $391 million at December 31, 1998 and 1997,
respectively. Chiquita is a leading international marketer,
producer and distributor of quality fresh fruits and vegetables
and processed foods. Equity in net losses excludes AFC's share of
amounts included in extraordinary items; the amount for 1996
includes $1.5 million in earnings from Citicasters which was sold
in 1996.
Summarized financial information for Chiquita at December 31, is
shown below (in millions).
1998 1997 1996
Current Assets $ 840 $ 783
Noncurrent Assets 1,669 1,618
Current Liabilities 531 483
Noncurrent Liabilities 1,184 1,138
Shareholders' Equity 794 780
Net Sales $2,720 $2,434 $2,435
Operating Income 79 100 84
Loss Before Extraordinary Items (18) - (28)
Extraordinary Loss from Debt Refinancings - - (23)
Net Loss (18) - (51)
Net Loss Attributable to Common Shares (36) (17) (63)
Operating income for 1998 includes $74 million of fourth quarter
write-downs and costs resulting from widespread flooding in
Honduras and Guatemala caused by Hurricane Mitch.
F. Cost in Excess of Net Assets Acquired At December 31, 1998 and
1997, accumulated amortization of the excess of cost over net
assets of purchased subsidiaries amounted to approximately
$143 million and $133 million, respectively. Amortization expense
was $12.2 million in 1998, $11.6 million in 1997 and $10.8 million
in 1996.
G. Payable to American Financial Group Following the Mergers,
American Premier agreed to lend up to $675 million to AFC under a
line of credit. Borrowings under the credit line bore interest at
11-5/8%. On December 27, 1996, American Premier paid a dividend
to AFG which consisted of the $675 million note receivable plus
accrued interest. Subsequently, AFG contributed $450 million of
the note to AFC.
Also, subsequent to the Mergers, American Premier entered into a
credit agreement with AFG under which American Premier and AFG
made loans of up to $250 million available to each other. The
balance outstanding under the credit line bore interest at a
variable rate of one percent over LIBOR.
<PAGE>
In December 1997, AFG's credit agreements with AFC and APU were
replaced with a ten-year reciprocal Master Credit Agreement among
AFG and several subsidiary holding companies, including APU, AFC and
AFC's direct parent, AFC Holding Company, under which funds are
made available to each other at one percent over LIBOR.
F-26
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
H. Other Long-Term Debt Long-term debt consisted of the following at
December 31, (in thousands):
1998 1997
Holding Companies:
AFC notes payable under bank line $ 80,000 $ 45,000
AFC 9-3/4% Debentures due April 2004, less discount
of $618 and $737 (imputed rate - 9.8%) 78,560 79,792
American Premier Underwriters, Inc. ("APU")
9-3/4% Subordinated Notes due August 1999,
including premium of $487 and $1,224
(imputed rate - 8.8%) 89,467 92,127
APU 10-5/8% Subordinated Notes due April 2000,
including premium of $883 and $1,559
(imputed rate - 8.8%) 41,518 43,889
APU 10-7/8% Subordinated Notes due May 2011,
including premium of $1,471 and $1,584
(imputed rate - 9.6%) 17,473 17,586
Other 8,518 8,267
$315,536 $286,661
Subsidiaries:
AAG 6-7/8% Senior Notes due June 2008 $100,000 $ -
AAG notes payable under bank line 27,000 107,000
AAG 11-1/8% Senior Subordinated Notes - 24,080
Notes payable secured by real estate 37,602 49,525
Other 12,294 13,479
$176,896 $194,084
At December 31, 1998, sinking fund and other scheduled principal
payments on debt for the subsequent five years were as follows (in
thousands):
Holding
Companies Subsidiaries Total
1999 $88,980 $ 1,986 $90,966
2000 40,635 8,685 49,320
2001 - 1,382 1,382
2002 85,608 1,268 86,876
2003 - 28,294 28,294
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.
<PAGE>
In February 1998, AFC entered into an unsecured credit agreement
with a group of banks under which AFC can borrow up to
$300 million through December 2002. Borrowings bear interest at
floating rates based on prime or Eurodollar rates. At December
31, 1998 and 1997, the weighted average interest rate on amounts
borrowed under this bank credit line and a previous one was 5.68%
and 6.81%, respectively.
In January 1998, AAG replaced its existing bank lines with a
$200 million unsecured credit agreement. Loans under the credit
agreement mature from 2000 to 2003 and bear interest at floating
rates based on prime or Eurodollar rates. At December 31, 1998
and 1997, the weighted average interest rate on amounts borrowed
under AAG's bank credit line was 6.09% and 6.80%, respectively.
F-27
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
In February 1998, AAG borrowed under the credit line and retired
its 11-1/8% Notes. In June 1998, AAG issued $100 million principal
amount of 6-7/8% Senior Notes due 2008 and used the net proceeds
to reduce outstanding indebtedness under the credit line.
Significant retirements of long-term debt since January 1, 1997,
have been as follows (in millions):
Year Principal Cost
AFC Debentures 1997 $85.0 $96.7
1998 1.4 1.4
APU Notes 1997 11.3 12.5
1998 3.6 3.8
AAG Notes 1997 40.8 42.5
1998 24.1 24.8
Cash interest payments of $73 million, $98 million and $83 million
were made on long-term debt in 1998, 1997 and 1996, respectively.
I. Minority Interest Minority interest in AFC's balance sheet is
comprised of the following (in thousands):
1998 1997
Interest of AFG (parent) and noncontrolling
shareholders in subsidiaries' common
stock $299,335 $284,619
Preferred securities issued by
subsidiary trusts 225,000 225,000
$524,335 $509,619
Trust Issued Preferred Securities Wholly-owned subsidiary trusts
of AAG have issued $225 million of preferred securities and, in
turn, purchased $225 million of newly-authorized AAG subordinated
debt issues which provide interest and principal payments to fund
the respective trusts' obligations. The preferred securities are
mandatorily redeemable upon maturity or redemption of the
subordinated debt.
The preferred securities are summarized as follows:
Date of Optional
Issuance Issue (Maturity Date) Amount Redemption Dates
November 1996 AAG 9-1/4% TOPrS (2026) 75,000,000 On or after 11/7/2001
March 1997 AAG 8-7/8% Pfd (2027) 75,000,000 On or after 3/1/2007
May 1997 AAG 7-1/4% ROPES (2041) 75,000,000 Prior to 9/28/2000 and
after 9/28/2001
AAG effectively provides unconditional guarantees of its trusts'
obligations.
<PAGE>
Minority Interest Expense Minority interest expense is comprised
of (in thousands):
1998 1997 1996
Interest of AFG (parent) and
noncontrolling shareholders in
earnings of subsidiaries $26,248 $29,978 $53,717
Accrued distributions on trust issued
preferred securities 19,031 15,499 1,031
$45,279 $45,477 $54,748
F-28
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
J. Shareholders' Equity At December 31, 1998 and 1997, American
Financial Group owned all of the outstanding shares of AFC's
Common Stock. The number of shares of AFC Common Stock
outstanding were reduced from 45,000,000 to 10,593,000 in
connection with the retirement of Series F and G Preferred Stock
in December 1997.
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. At December 31, 1998 and 1997, the
outstanding voting shares of AFC's Preferred Stock consisted of
the following:
Series J, no par value; $25.00 liquidating 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 December 31, 1998 and 1997.
In December 1997, AFC retired all shares of its Series F and G
Preferred Stock in exchange for approximately $244 million in cash
and 2,886,161 shares of the Series J Preferred Stock. AFC
recognized a charge to retained earnings of $153.3 million
representing the excess of total consideration paid over the
stated value of the preferred stock retired.
In 1996, AFC redeemed 1.6 million shares of its Series F Preferred
Stock for $31.9 million and purchased 250,000 shares of Series F
from its retirement plan for $5.0 million. In 1996, AFC issued
1.6 million shares of its Series G Preferred Stock to its
retirement plan for $16.8 million.
<PAGE>
Unrealized Gain on Marketable Securities The change in net
unrealized gain on marketable securities included the following
(in millions):
Tax Minority
Pretax Effects Interest Net
1998
Unrealized holding gains (losses) on
securities arising during the period ($50.5) $19.0 $1.2 ($30.3)
Unrealized gain on securities transferred
from held to maturity 87.0 (30.4) (7.8) 48.8
Less reclassification adjustment for
realized gains included in net
income and unrealized gains of
subsidiaries sold (20.4) 7.1 1.9 (11.4)
Change in net unrealized gain on
marketable securities $16.1 ($4.3) ($4.7) $7.1
1997
Unrealized holding gains (losses) on
securities arising during the period $320.2 ($112.2) ($20.7) $187.3
Less reclassification adjustment for
realized gains included in net income (51.5) 18.0 4.0 (29.5)
Change in net unrealized gain on
marketable securities $268.7 ($ 94.2) ($16.7) $157.8
1996
Unrealized holding gains (losses) on
securities arising during the period ($ 94.3) $ 21.5 $11.5 ($61.3)
Less reclassification adjustment for
realized gains included in net income 4.7 (1.7) 1.2 4.2
Change in net unrealized gain on
marketable securities ($ 89.6) $ 19.8 $12.7 ($ 57.1)
F-29
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
K. Income Taxes The following is a reconciliation of income taxes at
the statutory rate of 35% and income taxes as shown in the
Statement of Earnings (in thousands):
1998 1997 1996
Earnings before income taxes
and extraordinary items $210,821 $333,764 $339,543
Extraordinary items before income taxes (1,258) (11,201) (34,892)
Adjusted earnings before income taxes $209,563 $322,563 $304,651
Income taxes at statutory rate $ 73,347 112,897 $106,628
Effect of:
Minority interest 9,055 10,168 18,507
Losses utilized (6,572) (3,164) (43,789)
Amortization of intangibles 4,566 3,362 3,065
Dividends received deduction (2,189) (2,002) (7,450)
Other 2,716 (88) 5,694
Total provision 80,923 121,173 82,655
Amounts applicable to extraordinary items 495 4,054 7,003
Provision for income taxes as shown
on the Statement of Earnings $ 81,418 $125,227 $ 89,658
Adjusted earnings before income taxes consisted of the following
(in thousands):
1998 1997 1996
Subject to tax in:
United States $202,094 $331,855 $318,919
Foreign jurisdictions 7,469 (9,292) (14,268)
$209,563 $322,563 $304,651
The total income tax provision consists of (in thousands):
1998 1997 1996
Current taxes (credits):
Federal $ 61,501 $ 27,875 $22,450
Foreign 94 - (1,735)
State 652 (2,544) 6,369
Deferred taxes:
Federal 18,254 96,301 55,250
Foreign 422 (459) 321
$ 80,923 $121,173 $82,655
<PAGE>
For income tax purposes, certain members of the AFC consolidated
tax group had the following carryforwards available at December
31, 1998 (in millions):
Expiring Amount
{ 1999 - 2003 $70
Operating Loss{ 2004 - 2008 56
Capital Loss 1999 68
Other - Tax Credits 15
F-30
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Deferred income tax assets and liabilities reflect temporary
differences between the carrying amounts of assets and liabilities
recognized for financial reporting purposes and the amounts
recognized for tax purposes. The significant components of
deferred tax assets and liabilities included in the Balance Sheet
at December 31, were as follows (in millions):
1998 1997
Deferred tax assets:
Net operating loss carryforwards $ 44.3 $ 66.6
Capital loss carryforwards 23.7 32.0
Insurance claims and reserves 291.2 287.5
Other, net 110.0 148.8
469.2 534.9
Valuation allowance for deferred
tax assets (88.6) (97.9)
380.6 437.0
Deferred tax liabilities:
Deferred acquisition costs (121.3) (127.4)
Investment securities (267.9) (268.2)
(389.2) (395.6)
Net deferred tax asset (liability) ($ 8.6) $ 41.4
The gross deferred tax asset has been reduced by a valuation
allowance based on an analysis of the likelihood of realization.
Factors considered in assessing the need for a valuation allowance
include: (i) recent tax returns, which show neither a history of
large amounts of taxable income nor cumulative losses in recent
years, (ii) opportunities to generate taxable income from sales of
appreciated assets, and (iii) the likelihood of generating larger
amounts of taxable income in the future. The likelihood of
realizing this asset will be reviewed periodically; any
adjustments required to the valuation allowance will be made in
the period in which the developments on which they are based
become known. The aggregate valuation allowance decreased by
$9.3 million in 1998 due primarily to the utilization of net
operating loss carryforwards previously reserved.
Cash payments for income taxes, net of refunds, were
$41.4 million, $43.7 million and $40.2 million for 1998, 1997 and
1996, respectively.
<PAGE>
L. Extraordinary Items Extraordinary items represent AFC's
proportionate share of gains and losses related to debt
retirements by the following companies. Amounts shown are net of
minority interest and income tax benefits (in thousands):
1998 1997 1996
Holding Companies:
AFC (parent) ($ 77) ($5,395) ($ 9,672)
APU (parent) (37) (502) (2,636)
Subsidiaries:
AAG (649) (1,250) (7,159)
Other - - 57
Investee:
Chiquita - - (8,479)
($763) ($7,147) ($27,889)
F-31
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
M. Commitments and Contingencies Loss accruals (included in other
liabilities) have been recorded for various environmental and
occupational injury and disease claims and other contingencies
arising out of the railroad operations disposed of by American
Premier's predecessor, Penn Central Transportation Company
("PCTC"), prior to its bankruptcy reorganization in 1978. Under
purchase accounting in connection with the Mergers, any such
excess liability will be charged to earnings in AFC's financial
statements.
American Premier's liability for environmental claims of
$32.4 million at December 31, 1998, consists of a number of
proceedings and claims seeking to impose responsibility for
hazardous waste remediation costs at certain railroad sites
formerly owned by PCTC and certain other sites where hazardous
waste was allegedly generated by PCTC's railroad related
operations. It is difficult to estimate remediation costs for a
number of reasons, including the number and financial resources of
other potentially responsible parties, the range of costs for
remediation alternatives, changing technology and the time period
over which these matters develop. American Premier's liability is
based on information currently available and is subject to change
as additional information becomes available.
American Premier's liability for occupational injury and disease
claims of $48.1 million at December 31, 1998, includes pending and
expected claims by former employees of PCTC for injury or disease
allegedly caused by exposure to excessive noise, asbestos or other
substances in the workplace. Anticipated recoveries of
$29.5 million on these liabilities are included in other assets.
Recorded amounts are based on the accumulation of estimates of
reported and unreported claims and related expenses and estimates
of probable recoveries from insurance carriers.
AFC has accrued approximately $10.6 million at December 31, 1998,
for environmental costs and certain other matters associated with
the sales of former operations.
In management's opinion, the outcome of the items discussed under
"Uncertainties" in Management's Discussion and Analysis and the
above claims and contingencies will not, individually or in the
aggregate, have a material adverse effect on AFC's financial
condition or results of operations.
F-32
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
N. Quarterly Operating Results (Unaudited) The operations of certain
of AFC's business segments are seasonal in nature. While
insurance premiums are recognized on a relatively level basis,
claim losses related to adverse weather (snow, hail, hurricanes,
tornadoes, etc.) may be seasonal. Historically, Chiquita's
operations are significantly stronger in the first and second
quarters than in the third and fourth quarters. Quarterly results
necessarily rely heavily on estimates. These estimates and
certain other factors, such as the nature of investees' operations
and discretionary sales of assets, cause the quarterly results not
to be necessarily indicative of results for longer periods of
time. The following are quarterly results of consolidated
operations for the two years ended December 31, 1998 (in
millions).
1st 2nd 3rd 4th Total
Quarter Quarter Quarter Quarter Year
1998
Revenues $1,016.7 $1,038.1 $1,032.4 $971.6 $4,058.8
Earnings (loss) before
extraordinary items 66.4 39.6 58.0 (34.6) 129.4
Extraordinary items (.7) (.1) - - (.8)
Net earnings (loss) 65.7 39.5 58.0 (34.6) 128.6
1997
Revenues $945.6 $987.5 $1,034.7 $1,085.1 $4,052.9
Earnings before
extraordinary items 62.0 60.7 34.9 50.9 208.5
Extraordinary items (.1) - (6.9) (.1) (7.1)
Net earnings 61.9 60.7 28.0 50.8 201.4
In the second quarter of 1998, AFC recorded approximately
$41 million of losses due to severe storms in the midwestern part
of the country. In the fourth quarter of 1998, AFC increased A&E
reserves by recording a non-cash, pretax charge of $214 million.
In the fourth quarter of 1997, AFC increased California workers'
compensation reserves by approximately $25 million due to
increased claims severity related to business written in 1996 and
1997. The fourth quarter of 1997 also includes income of
$46.3 million (included in "other income") from the sale of
development rights in New York City.
<PAGE>
AFC has realized substantial gains on sales of subsidiaries and
investees in recent years. See Note B for a more detailed
description of these and other transactions. Sales of
subsidiaries also includes pretax charges of $10.5 million and
$5.0 million in the third and fourth quarters of 1998,
respectively, and $17.0 million in the fourth quarter of 1997
relating to operations expected to be disposed of. Realized gains
on sales of securities, affiliates and other investments amounted
to (in millions):
1st 2nd 3rd 4th Total
Quarter Quarter Quarter Quarter Year
1998 $22.0 $8.9 $25.4 $123.4 $179.7
1997 2.5 4.2 29.7 54.6 91.0
F-33
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
O. Insurance Securities owned by insurance subsidiaries having a
carrying value of approximately $900 million at December 31, 1998,
were on deposit as required by regulatory authorities.
Insurance Reserves The liability for losses and loss adjustment
expenses for certain long-term scheduled payments under workers'
compensation, auto liability and other liability insurance has
been discounted at rates ranging from 3.5% to 8%. As a result, the
total liability for losses and loss adjustment expenses at
December 31, 1998, has been reduced by $41 million.
The following table provides an analysis of changes in the
liability for losses and loss adjustment expenses, net of
reinsurance (and grossed up), over the past three years on a GAAP
basis (in millions):
1998 1997 1996
Balance at beginning of period $3,489 $3,404 $3,393
Provision for losses and LAE
occurring in the current year 2,059 2,045 2,179
Net increase (decrease) in provision
for claims of prior years 156 31 (48)
2,215 2,076 2,131
Payments for losses and LAE of:
Current year (885) (840) (999)
Prior years (1,110) (1,151) (1,121)
(1,995) (1,991) (2,120)
Reserves transferred to Ohio Casualty (481) - -
Reclassification of allowance for
uncollectable reinsurance 77 - -
Balance at end of period $3,305 $3,489 $3,404
Add back reinsurance recoverables,
net of allowable in 1998 1,468 736 720
Gross unpaid losses and LAE
included in the Balance Sheet $4,773 $4,225 $4,124
Reinsurance Recoverable Balance sheet amounts for reinsurance
recoverable and prepaid reinsurance premiums at December 31, 1998,
include amounts recoverable related to (i) the transfer of the
Commercial lines business to Ohio Casualty under a reinsurance
contract ($644 million), (ii) additional A&E reserves recorded
($121 million) and (iii) the ceding of 30% of California workers'
compensation business ($38 million).
<PAGE>
Net Investment Income The following table shows (in millions)
investment income earned and investment expenses incurred by AFC's
insurance companies.
1998 1997 1996
Insurance group investment income:
Fixed maturities $849.6 $830.6 $817.8
Equity securities 9.1 6.4 8.2
Other 12.1 10.6 13.5
870.8 847.6 839.5
Insurance group investment expenses (*) (42.6) (37.3) (38.5)
$828.2 $810.3 $801.0
(*)Included primarily in "Other operating and general expenses"
in the Statement of Earnings.
F-34
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Statutory Information AFC's insurance subsidiaries are required
to file financial statements with state insurance regulatory
authorities prepared on an accounting basis prescribed or
permitted by such authorities (statutory basis). Net earnings and
policyholders' surplus on a statutory basis for the insurance
subsidiaries were as follows (in millions):
Policyholders'
Net Earnings Surplus
1998 1997 1996 1998 1997
Property and casualty companies $261 $159 $276 $1,840 $1,916
Life insurance companies 41 74 67 365 324
Reinsurance In the normal course of business, AFC's insurance
subsidiaries assume and cede reinsurance with other insurance
companies. The following table shows (in millions) (i) amounts
deducted from property and casualty premiums in connection with
reinsurance ceded, (ii) amounts included in income for reinsurance
assumed and (iii) reinsurance recoveries deducted from losses and
loss adjustment expenses.
1998 1997 1996
Reinsurance ceded $788 $614 $518
Reinsurance assumed - including
involuntary pools and associations 37 89 58
Reinsurance recoveries 651 296 306
P. Additional Information Total rental expense for various leases of
office space, data processing equipment and railroad rolling stock
was $41 million, $36 million and $34 million for 1998, 1997 and
1996, respectively. Sublease rental income related to these
leases totaled $5.4 million in 1998, $5.4 million in 1997 and
$6.1 million in 1996.
Future minimum rentals, related principally to office space and
railroad rolling stock, required under operating leases having
initial or remaining noncancelable lease terms in excess of one
year at December 31, 1998, were as follows: 1999 - $40 million;
2000 - $35 million; 2001 - $31 million; 2002 - $25 million;
2003 - $19 million; and $19 million thereafter. At
December 31, 1998, minimum sublease rentals to be received through
the expiration of the leases aggregated $9 million.
Other operating and general expenses included charges for possible
losses on agents' balances, reinsurance recoverables, other
receivables and other assets in the following amounts: 1998 -
$14.0 million; 1997 - $7.6 million; and 1996 - $0. The aggregate
allowance for such losses amounted to approximately $149 million
and $131 million at December 31, 1998 and 1997, respectively.
F-35
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Fair Value of Financial Instruments The following table presents
(in millions) the carrying value and estimated fair value of AFC's
financial instruments at December 31.
1998 1997
Carrying Fair Carrying Fair
Value Value Value Value
Assets:
Fixed maturities $10,323 $10,323 $10,860 $10,951
Other stocks 430 430 446 446
Investment in investee
corporation 192 229 201 391
Liabilities:
Annuity benefits
accumulated $ 5,450 $ 5,307 $ 5,528 $ 5,319
Long-term debt:
Holding companies 315 326 287 301
Subsidiaries 177 176 194 195
Trust preferred securities 225 231 225 230
AFC Preferred Stock 72 80 72 74
When available, fair values are based on prices quoted in the most
active market for each security. If quoted prices are not
available, fair value is estimated based on present values,
discounted cash flows, fair value of comparable securities, or
similar methods. The fair value of the liability for annuities in
the payout phase is assumed to be the present value of the
anticipated cash flows, discounted at current interest rates.
Fair value of annuities in the accumulation phase is assumed to be
the policyholders' cash surrender amount.
Financial Instruments with Off-Balance-Sheet Risk On occasion,
AFC and its subsidiaries have entered into financial instrument
transactions which may present off-balance-sheet risks of both a
credit and market risk nature. These transactions include
commitments to fund loans, loan guarantees and commitments to
purchase and sell securities or loans. At December 31, 1998, AFC
and its subsidiaries had commitments to fund credit facilities and
contribute limited partnership capital totaling up to $80 million.
Restrictions on Transfer of Funds and Assets of Subsidiaries
Payments of dividends, loans and advances by AFC's subsidiaries
are subject to various state laws, federal regulations and debt
covenants which limit the amount of dividends, loans and advances
that can be paid. Under applicable restrictions, the maximum
amount of dividends available to AFC in 1999 from its insurance
subsidiaries without seeking regulatory clearance is approximately
$281 million. Total "restrictions" on intercompany transfers from
AFC's subsidiaries cannot be quantified due to the discretionary
nature of the restrictions.
<PAGE>
Benefit Plans AFC expensed approximately $22 million in 1998,
$21 million in 1997 and $17 million in 1996 for contributions to
its retirement and employee savings plans.
Transactions With Affiliates In December 1997, AFC recognized a
gain of $32.5 million on the sale of development rights to AFG at
their appraised value.
AAG has a line of credit with a company owned in part by AFC
Holding and a brother of AFC's Chairman. Under the agreement,
this company may borrow up to $8 million at 13% with interest
deferred and added to principal. At December 31, 1998,
$6.1 million was due under the credit line.
F-36
<PAGE>
AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
In a 1997 transaction, AAG purchased for $4.9 million a minority
ownership position in a company engaged in the production of
ethanol and AFC's Chairman purchased the remaining ownership.
During 1998, this company borrowed $4.0 million from AAG under a
subordinated note bearing interest at 14% and paid a $6.3 million
capital distribution, including $3.1 million to AAG. AAG's equity
investment in this company at December 31, 1998 was $1.8 million.
In addition, AAG and Great American have each extended a
$5 million line of credit to this company; no amounts have been
borrowed under the credit lines.
Q. Subsequent Event (Unaudited) In January 1999, AFC agreed to
acquire Worldwide Insurance Company (formerly Providian Auto and
Home Insurance Company) from AEGON Insurance Group for
approximately $160 million. Worldwide is a provider of direct
response private passenger automobile insurance and generated net
written premiums in 1998 of approximately $121 million.
Completion of the transaction is expected to occur in the first
half of 1999.
F-37
<PAGE>
AMERICAN FINANCIAL GROUP, INC.
Proxy for Annual Meeting
Registration Name and Address
The undersigned hereby appoints James C. Kennedy and Karl J.
Grafe, and each of them, proxies of the undersigned, each with
the power of substitution, to vote all shares of Common Stock or
Series J. Preferred (collectively, "Voting Stock") of the Company
that the undersigned would be entitled to vote at the Annual
Meeting of Shareholders of American Financial Group, Inc. to be
held on May 19, 1999 at 10:30 a.m., in the election of directors
and on such other matters as may properly come before the meeting
or adjournment thereof.
The Board of Directors recommends a vote FOR the following Propo
sals:
1. Proposal to Elect Directors
/ / FOR AUTHORITY to elect the / / WITHHOLD AUTHORITY to
nominees listed below (except vote for every nominee
those whose names have been listed below
crossed out)
Carl H. Lindner Carl H. Lindner III S. Craig Lindner
Keith E. Lindner Theodore H. Emmerich James E. Evans
Thomas M. Hunt William R. Martin
2. Proposal to approve amendments to the AFG Stock Option Plan
/ / FOR / / AGAINST / / ABSTAIN
DATE: ___________________, 1999 SIGNATURE:
_____________________________
SIGNATURE:
_____________________________
(if held jointly) Important:
Please sign exactly as name
appears hereon indicating,
where proper, official
position or representative
capacity. In case of joint
holders, all should sign.
The named proxy holders will vote the shares represented by this
proxy in the manner indicated. Unless a contrary direction is
indicated, the proxy holders will vote such shares "FOR" the
proposal. If any further matters properly come before the
meeting, such shares shall be voted on such matters in accordance
with the best judgment of the proxy holders.
THIS PROXY IS SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS.
