UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For The Period Ended June 30, 1999
Commission File #0-11321
UNIVERSAL AMERICAN FINANCIAL CORP.
(Exact name of registrant as specified in its charter)
NEW YORK 11-2580136
(State of Incorporation) (I.R.S. Employer I.E. No.)
Six International Drive, Suite 190, Rye Brook, NY 10573
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (914) 934-5200
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
The number of shares outstanding of each of the Registrant's Common
Stock and Common Stock Warrants as of July 31, 1999 were 9,995,410 and 630,806,
respectively.
<PAGE>
2
UNIVERSAL AMERICAN FINANCIAL CORP.
FORM 10-Q
CONTENTS
<TABLE>
<S> <C> <C>
Page No.
PART I - FINANCIAL INFORMATION
Consolidated Balance Sheets at June 30, 1999 and December 31, 1998 3
Consolidated Statements of Operations for the six months ended June 30, 1999
and June 30, 1998
4
Consolidated Statements of Operations for the three months ended June 30, 1999
and June 30, 1998 5
Consolidated Statements of Cash Flows for the six months ended June 30, 1999
and June 30, 1998 6
Notes to Consolidated Financial Statements 7-17
Management's Discussion and Analysis of Financial Condition and Results of Operations 18-27
PART II - OTHER INFORMATION 28
Signature 29
</TABLE>
<PAGE>
6
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<S> <C> <C>
ASSETS June 30, 1999 Dec. 31, 1998
------------------- -------------------
Investments: (unaudited)
Fixed maturities available for sale, at fair value
(amortized cost $137,592,600 and $132,227,114, respectively) $ 134,460,150 $ 134,797,634
Equity securities, at fair value (cost $834,583 and $1,063,186, respectively) 745,323 1,019,780
Policy loans 7,240,661 7,276,163
Property tax liens 30,696 30,696
Mortgage loans 4,398,569 4,456,516
------------------- -------------------
Total investments 146,875,399 147,580,789
Cash and cash equivalents 10,980,897 17,092,938
Accrued investment income 3,194,180 3,538,573
Deferred policy acquisition costs 28,351,037 24,282,771
Amounts due from reinsurers 81,579,585 77,393,653
Due and unpaid premiums 745,641 525,909
Goodwill 4,277,578 4,354,584
Present value of future profits 1,482,401 1,569,601
Other assets 7,146,788 6,963,481
------------------- -------------------
Total assets 284,633,506 283,302,299
=================== ===================
LIABILITIES, SERIES C PREFERRED STOCK, SERIES D PREFERRED STOCK, REDEMPTION
ACCRUAL ON SERIES C AND SERIES D PREFERRED STOCK AND STOCKHOLDERS' EQUITY
LIABILITIES
Policyholder account balances 155,522,370 154,886,059
Reserves for future policy benefits 51,228,105 47,442,966
Policy and contract claims - life 1,190,026 2,297,446
Policy and contract claims - health 24,343,130 24,332,141
Loan payable 4,250,000 4,750,000
Amounts due to reinsurers 290,539 1,810,696
Deferred revenues 184,515 201,389
Deferred income tax liability 868,421 1,218,547
Other liabilities 8,740,359 9,943,970
------------------- -------------------
Total liabilities 246,617,465 246,883,214
------------------- -------------------
Series C Preferred Stock (Issued and outstanding 51,680 at December 31, - 5,168,000
1998)
------------------- -------------------
Redemption accrual on Series C Preferred Stock - 683,214
------------------- -------------------
Series D Preferred Stock (Issued and outstanding 40,000 and 22,500,respectively) 4,000,000 2,250,000
------------------- -------------------
Commitments and contingencies
STOCKHOLDERS' EQUITY
Series B Preferred Stock (Issued and outstanding 400) 4,000,000 4,000,000
Common stock (Authorized, 20,000,000 issued
and outstanding 9,994,710 and 7,638,057, respectively) 99,947 76,381
Common stock warrants (Authorized, issued and outstanding 630,906
and 658,231, respectively) - -
Additional paid-in capital 21,952,410 16,410,412
Accumulated other comprehensive income (1,157,662) 857,872
Retained earnings 9,121,346 6,973,206
------------------- -------------------
Total stockholders' equity 34,016,041 28,317,871
------------------- -------------------
Total liabilities, Series C Preferred Stock, Series D Preferred Stock,
Redemption accrual on Series C and Series D Preferred Stock and $ 284,633,506 $ 283,302,299
stockholders' equity
=================== ===================
</TABLE>
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<S> <C> <C>
Six Months Ended June 30,
1999 1998
-------------- ----------------
Revenues:
Gross premium and policyholder fees earned $ 66,816,806 $ 63,680,168
Reinsurance premiums assumed 980,242 439,996
Reinsurance premiums ceded (46,048,676) (42,808,210)
-------------- ----------------
Net premium and policyholder fees earned 21,748,372 21,311,954
Net investment income 5,669,245 5,369,475
Net realized gains/(losses) on investments (14,878) 216,775
Fee income 1,137,866 1,215,659
Amortization of deferred revenue 22,316 31,678
-------------- ----------------
Total revenues 28,562,921 28,145,541
-------------- ----------------
Benefits, claims and expenses:
Increase in future policy benefits 842,914 764,950
Claims and other benefits 14,477,870 14,522,561
Interest credited to policyholders 3,662,363 3,533,614
Increase in deferred acquisition costs (1,420,371) (1,639,628)
Amortization of present value of future profits 87,200 113,418
Amortization of goodwill 77,005 77,006
Commissions 13,412,799 13,015,982
Commission and expense allowances on reinsurance ceded (15,604,164) (14,590,433)
Other operating costs and expenses 10,887,220 10,313,746
-------------- ----------------
Total benefits, claims and other deductions 26,422,836 26,111,216
-------------- ----------------
Operating income before taxes 2,140,085 2,034,325
Federal income tax expense 727,629 691,670
-------------- ----------------
Net income 1,412,456 1,342,655
Redemption accrual on Series C and Series D Preferred Stock 179,524 216,712
-------------- ----------------
Net income applicable to common shareholders $ 1,232,932 $ 1,125,943
============== ================
Earnings per common share:
Basic $ 0.14 $ 0.15
============== ================
Diluted $ 0.10 $ 0.10
============== ================
</TABLE>
See notes to unaudited consolidated financial statements
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<S> <C> <C>
Three Months Ended June 30,
1999 1998
-------------- ----------------
Revenues:
Gross premium and policyholder fees earned $ 34,750,915 $ 32,274,977
Reinsurance premiums assumed 730,524 236,488
Reinsurance premiums ceded (24,157,436) (21,683,792)
-------------- ----------------
Net premium and policyholder fees earned 11,324,003 10,827,673
Net investment income 2,870,317 2,661,237
Net realized gains/(losses) on investments (61,956) 243,338
Fee income 569,776 582,738
Amortization of deferred revenue 11,158 15,839
-------------- ----------------
Total revenues 14,713,298 14,330,825
-------------- ----------------
Benefits, claims and expenses:
Increase in future policy benefits 526,196 445,075
Claims and other benefits 7,540,823 7,634,077
Interest credited to policyholders 1,744,225 1,790,738
Increase in deferred acquisition costs (564,126) (1,153,593)
Amortization of present value of future profits 43,600 56,709
Amortization of goodwill 38,502 38,503
Commissions 7,159,836 7,866,154
Commission and expense allowances on reinsurance ceded (8,190,435) (8,708,928)
Other operating costs and expenses 5,341,656 5,102,179
------------- -----------------
Total benefits, claims and other deductions 13,640,277 13,070,914
-------------- ----------------
Operating income before taxes 1,073,021 1,259,911
Federal income tax expense 371,203 450,309
-------------- ----------------
Net income 701,818 809,602
Redemption accrual on Series C and Series D Preferred Stock - 108,356
============== ================
Net income applicable to common shareholders $ 701,818 $ 701,246
============== ================
Earnings per common share:
Basic $ 0.07 $ 0.09
============== ================
Diluted $ 0.05 $ 0.06
============== ================
</TABLE>
See notes to unaudited consolidated financial statements
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<S> <C> <C>
Six Months Ended June 30,
1999 1998
--------------- --------------
Cash flows from operating activities:
Net income $ $
1,412,456 1,342,655
Adjustments to reconcile net income to net cash used by operating activities:
Deferred income taxes 727,631 691,670
Change in reserves for future policy benefits 3,785,139 (783,601)
Change in policy and contract claims (1,096,431) (2,152,740)
Change in deferred policy acquisition costs (1,420,371) (1,639,627)
Change in deferred revenue (16,874) (31,678)
Amortization of present value of future profits 87,200 113,418
Amortization of goodwill 77,006 77,006
Change in policy loans 35,502 (31,373)
Change in accrued investment income 344,393 (401,767)
Change in reinsurance balances (4,292,757) (7,483,039)
Change in due and unpaid premium (219,732) (119,397)
Realized (gains)/losses on investments 21,665 (216,775)
Other, net (2,222,713) (1,608,091)
--------------- --------------
Net cash used in operating activities (2,777,886) (12,243,339)
--------------- --------------
Cash flows from investing activities:
Proceeds from sale of fixed maturities available for sale 5,122,714 13,229,218
Proceeds from redemption of fixed maturities available for sale 5,995,536 2,449,780
Cost of fixed maturities purchased available for sale (16,732,432) (17,975,832)
Change in amounts held in trust by reinsurer (349,941) (2,303,753)
Change in amounts held for reinsurer - (989,937)
Proceeds from sale of equity securities 373,803 343,102
Cost of equity securities purchased (104,106) (356,128)
Change in other invested assets 1,909,465 1,186,984
Sale of business, net of cash held - 1,457,733
--------------- --------------
Net cash used in investing activities (3,784,961) (2,958,833)
--------------- --------------
Cash flows from financing activities:
Prepaid acquisition expenses (857,522) -
Net proceeds from issuance of common stock 485,408 405,151
Net proceeds from issuance of Series D Preferred Stock 1,750,000 -
Increase in policyholder account balances 636,311 10,246,962
Change in reinsurance balances on policyholder account balances (1,063,391) (1,189,614)
Principal payment on notes payable (500,000) (350,000)
--------------- --------------
Net cash provided by financing activities 450,806 9,112,499
--------------- --------------
Net decrease in cash and cash equivalents (6,112,041) (6,089,673)
Cash and cash equivalents at beginning of period 17,092,938 25,014,019
--------------- --------------
Cash and cash equivalents at end of period $ 10,980,897 $ 18,924,346
=============== ==============
Supplemental cash flow information:
Cash paid during the period for interest $ 183,924 $141,094
=============== ==============
Cash paid during the period for income taxes $ 25,000 $ -
=============== ==============
</TABLE>
See notes to unaudited consolidated financial statements
<PAGE>
10
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The consolidated financial statements have been prepared on the basis
of generally accepted accounting principles and consolidate the accounts of
Universal American Financial Corp. ("Universal" or the "Parent Company") and its
subsidiaries (collectively the "Company"), American Progressive Life & Health
Insurance Company of New York ("American Progressive"), American Pioneer Life
Insurance Company ("American Pioneer"), American Exchange Life Insurance Company
("American Exchange"), WorldNet Services Corp. ("WorldNet") and Quincy Coverage
Corp. ("Quincy").
The interim financial information herein is unaudited, but in the
opinion of management, includes all adjustments (consisting of normal, recurring
adjustments) necessary to present fairly the financial position and results of
operations for such periods. The results of operations for the six months ended
June 30, 1999 are not necessarily indicative of the results to be expected for
the full year. The consolidated financial statements should be read in
conjunction with the Form 10-K for the year ended December 31, 1998. Certain
reclassifications have been made to prior year's financial statements to conform
with current period classifications.
In June 1998, the Financial Accounting Standards Board ("FASB") issued,
as amended, Statement of Financial Accounting Standards ("SFAS") No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which is
required to be adopted in years beginning after June 15, 2000. Because of the
Company's minimal use of derivatives, management does not anticipate that the
adoption of the new Statement will have a significant effect on earnings or the
financial position of the Company.
2. COMPREHENSIVE INCOME
The components of comprehensive income, net of related tax, for the
six-month periods ended June 30, 1999 and 1998 are as follows:
For the Six Months
Ended June 30,
---------------------------------
1999 1998
------------- -------------
Net income $ 1,412,456 $ 1,342,655
Unrealized gain/(loss) on securities (2,015,534) 186,119
------------- -------------
Comprehensive income/(loss) $ (603,078) $ 1,528,774
============= =============
The components of comprehensive income, net of related tax, for the
three-month periods ended June 30, 1999 and 1998 are as follows:
For the Three Months
Ended June 30,
---------------------------------
1999 1998
------------ ----------
Net income $ 701,818 $ 809,602
Unrealized gain/(loss) on securities (1,222,900) 61,887
------------- ----------
Comprehensive income/(loss) $(521,082) $ 871,489
============= ==========
3. FEDERAL INCOME TAXES
The Company files a consolidated return for Federal income tax
purposes, in which American Pioneer and American Exchange are not currently
permitted to be included. American Pioneer and American Exchange file a separate
consolidated Federal income tax return.
4. EARNINGS PER SHARE
Per share amounts for net income from operations are shown in the
income statement using i) an earnings per common share basic calculation and ii)
an earnings per common share-assuming dilution calculation. A reconciliation of
the numerators and the denominators of the basic and diluted EPS for the six
months ended June 30, 1999 and 1998 is as follows:
<TABLE>
For the Six Months Ended June 30, 1999
-----------------------------------------------------
<S> <C> <C> <C>
Income Shares Per Share
(Numerator) (Denominator) Amount
--------------- ----------------- -------------
Net income $ 1,412,456
Less: Redemption accrual on Series C and Series D
Preferred Stock (179,524)
---------------
Basic EPS
Net income applicable to common shareholders 1,232,932 8,838,048 $ 0.14
=============
Effect of Dilutive Securities
Series B Preferred Stock 1,777,777
Series C Preferred Stock 179,524 1,088,000
Series D Preferred Stock 1,256,173
Non-registered warrants 2,015,760
Registered warrants 630,906
Incentive stock options 270,375
Director stock options 38,500
Agents and others stock options 72,785
Treasury stock purchased from proceeds of
options and warrants (1,241,327)
--------------- -----------------
Diluted EPS
Net income applicable to common
shareholders plus assumed conversions $ 1,412,456 14,746,997 $ 0.10
=============== ================= =============
</TABLE>
<TABLE>
For the Six Months Ended June 30, 1998
-----------------------------------------------------
<S> <C> <C> <C>
Income Shares Per Share
(Numerator) (Denominator) Amount
--------------- ----------------- -------------
Net income $1,342,655
Less: Redemption accrual on Series C Preferred
Stock (216,712)
---------------
Basic EPS
Net income applicable to common shareholders 1,125,943 7,442,146 $ 0.15
=============
Effect of Dilutive Securities
Series B Preferred Stock 1,777,777
Series C Preferred Stock 216,712 2,176,000
Non-registered warrants 2,015,760
Registered warrants 667,381
Incentive stock options 293,000
Director stock option 24,000
Treasury stock purchased from proceeds of
options and warrants (1,248,607)
--------------- -----------------
Diluted EPS
Net income applicable to common
shareholders plus assumed conversions $1,342,655 13,147,457 $ 0.10
=============== ================= =============
</TABLE>
A reconciliation of the numerators and the denominators of the basic
and diluted EPS for the three months ended June 30, 1999 and 1998 is as follows:
<TABLE>
For the Three Months Ended June 30, 1999
-----------------------------------------------------
<S> <C> <C> <C>
Income Shares Per Share
(Numerator) (Denominator) Amount
--------------- ----------------- -------------
Net income $ 701,818
---------------
Basic EPS
Net income applicable to common shareholders 701,818 9,971,270 $ 0.07
=============
Effect of Dilutive Securities
Series B Preferred Stock 1,777,777
Series C Preferred Stock -
Series D Preferred Stock 1,388,889
Non-registered warrants 2,015,760
Registered warrants 630,906
Incentive stock options 540,750
Director stock options 77,000
Agents and others stock options 72,785
Treasury stock purchased from proceeds of
Options and warrants (1,260,206)
--------------- -----------------
Diluted EPS
Net income applicable to common
shareholders plus assumed conversions $ 701,818 15,214,931 $ 0.05
=============== ================= =============
</TABLE>
<TABLE>
For the Three Months Ended June 30, 1998
-----------------------------------------------------
<S> <C> <C> <C>
Income Shares Per Share
(Numerator) (Denominator) Amount
--------------- ----------------- -------------
Net income $809,602
Less: Redemption accrual on Series C Preferred
Stock (108,356)
---------------
Basic EPS
Net income applicable to common shareholders 701,246 7,466,336 $ 0.09
=============
Effect of Dilutive Securities
Series B Preferred Stock 1,777,777
Series C Preferred Stock 108,356 2,176,000
Non-registered warrants 2,015,760
Registered warrants 667,381
Incentive stock options 293,000
Director stock option 24,000
Treasury stock purchased from proceeds of
options and warrants (1,283,717)
--------------- -----------------
Diluted EPS
Net income applicable to common
shareholders plus assumed conversions $809,602 13,136,537 $ 0.06
=============== ================= =============
</TABLE>
5. INVESTMENTS
As of June 30, 1999 and December 31, 1998, fixed maturity securities
are classified as investments available for sale and are carried at fair value,
with the unrealized gain or loss, net of tax and other adjustments (deferred
policy acquisition costs), included in accumulated other comprehensive income.
<TABLE>
June 30, 1999
--------------------------------------------------------------
<S> <C> <C> <C> <C>
Gross Gross
Amortized Unrealized Unrealized Fair
Classification Cost Gains Losses Value
- -------------------------- ------------- -------------- ------------- ----------------
US Treasury securities
and obligations of
US government $ 6,523,228 $ 63,043 $ (76,232) $6,510,039
Foreign government debt
securities 399,873 1,053 (2,629) 398,297
Corporate debt securities 66,676,383 639,206 (2,663,205) 64,652,384
Mortgage-backed securities 63,993,116 535,439 (1,629,125) 62,899,430
-------------- ---------- ------------- ---------------
$ 137,592,600 $1,238,741 $(4,371,191) $ 134,460,150
============== ========== ============= ===============
</TABLE>
<TABLE>
December 31, 1998
--------------------------------------------------------------
<S> <C> <C> <C> <C>
Gross Gross
Amortized Unrealized Unrealized Fair
Classification Cost Gains Losses Value
- --------------------------- ------------- ------------ ------------ ---------------
US Treasury securities
and obligations of
US government $ 6,444,302 $181,694 $ (28,440) $ 6,597,556
Corporate debt securities 63,502,687 1,680,539 (472,027) 64,711,199
Mortgage-backed securities 62,280,125 1,821,084 (612,330) 63,488,879
-------------- ----------- ------------- ---------------
$132,227,114 $ 3,683,317 $(1,112,797) $ 134,797,634
============== =========== ============= ===============
</TABLE>
The amortized cost and fair value of fixed maturities at June 30, 1999
by contractual maturity are shown below. Expected maturities may differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties.
Amortized Fair
Cost Value
------------------ --------------
Due in 1 year or less $ 3,856,674 $3,877,540
Due after 1 year through 5 years 24,248,989 24,283,641
Due after 5 years through 10 years 25,805,958 24,255,167
Due after 10 years 15,956,699 15,441,107
Mortgage-backed securities 67,724,280 66,602,695
------------------ -------------
$ 137,592,600 $ 134,460,150
================== =============
6. SERIES C PREFERRED STOCK
During 1997, the Company issued 51,680 shares (par value $100) of
Series C Preferred Stock for $5.2 million, of which $2.4 million was purchased
by UAFC L.P. ("AAM") an unaffiliated investment firm, $0.6 million by Chase
Equity Partners, L.P., $1.4 million by Richard A. Barasch (the Chairman and
Chief Executive Officer of the Company), members of his family, and members and
associates of the Company's management and $0.8 million by owners and employees
of Ameri-Life & Health Services, a general agency that sells the Company's
senior market products. This transaction received the approval of the Florida
Insurance Department.
Under the terms of the Series C Preferred Stock, the Company had the
right to require conversion of the Series C Preferred Stock into the Company's
common stock at a conversion price of $2.375 per common share if the average
reported bid price of its common stock for any 60 day period in which such bid
prices are reported exceeded $3.45 per common share. This condition was
satisfied on March 5, 1999. On March 11, 1999 the Company gave notice of the
conversion of the Series C Preferred Stock, and all of the 51,680 outstanding
shares of Series C Preferred Stock were converted to 2,175,986 shares of common
stock on April 1, 1999. As a result of this conversion, the redemption accrual
of $0.8 million was eliminated and credited to retained earnings.
The Company, AAM, the holders of the Series C Preferred Stock, Barasch
Associates Limited Partnership ("BALP") and Richard A. Barasch entered into a
stockholders' agreement at the closing of the 1997 transaction which contained
the following conditions:
The holders of the Series C Preferred Stock were given registration rights
and informational rights.
The Series C Preferred Stockholders agreed to vote their shares for the
election of a person designated by AAM as the director elected by that
Series.
BALP and Mr. Barasch granted the Series C holders a co-sale right should
they sell any shares of the Company's common stock held by them, except to
certain "permitted transferees".
This stockholders' agreement will be superceded by a new agreement
upon the closing of the Capital Z Transaction. (See Note 11).
The Series C Preferred Stock had preemptive rights which were triggered
by the execution of the UA Purchase Agreement on December 31, 1998, subject to
the closing of the sale pursuant to that agreement.
7. SERIES D PREFERRED STOCK
On December 31, 1998, the Company contracted to sell 40,000 shares (par
value $100) of Series D Preferred Stock to UAFC, L.P. for $4.0 million. The
Series D Preferred Stock was divided into two sub-series, Series D-1 and Series
D-2. The 22,500 Series D-1 Shares were issued on December 31, 1998 and the
17,500 Series D-2 shares were issued on February 12, 1999. The Series D
Preferred Stock has the same provisions as the Series C, Preferred Stock, except
(i) that the Series D has no voting rights except as required by law, (ii) the
conversion price on the Series D-1 was $2.70 rather than $2.375 per share, (iii)
the conversion price of the series D-2 was $2.70 or, if a "change of control"
transaction, as defined, occurs in 1999, the conversion price will be equal to
the per share price at which common stock is issued in the change of control
transaction, and (iv) if the issuance of voting shares to a Series D shareholder
pursuant to a conversion requires regulatory approval, the conversion will be
postponed until such approval is obtained or ceases to be required. The Capital
Z Transaction, which was pending on June 30, 1999, and closed on July 30, 1999,
was a "change of control" within the meaning of the terms of the Series D
Preferred Stock. The sale of the Series D Preferred Stock was in full
satisfaction of the preemptive rights of the Series C-1 Preferred Stock held by
UAFC, L.P. and the Series C-2 Preferred Stock.
On March 11, 1999, the Company gave notice of conversion of the Series
D-1 and D-2 Preferred Stock. Since the conversion of the Series D-1 and D-2
Preferred Stock held by UAFC, L.P. to common stock would result in its owning
more than 10% of the Company's voting stock, implementation of the conversion
would require that the New York Insurance Department either (i) approve of UAFC,
L.P. becoming a controlling stockholder of the Company or (ii) determine that
such conversion would not result in UAFC, L.P. becoming a controlling person of
Universal. The completion of the conversion of the Series D Preferred Stock was
therefore deferred until July 30, 1999 when such conditions became no longer
applicable because the shares held by UAFC, L.P. after conversion of the Series
D Preferred Stock became less than 10% of Universal's then outstanding stock.
Thus, on July 30, 1999, the outstanding Series D-1 and Series D-2 Preferred
Stock were converted into 1,388,889 shares of common stock. As a result of this
conversion, the redemption accrual of $62.5 thousand was eliminated and credited
to retained earnings.
The shareholder agreement applicable to the Series C Preferred Stock
also applies to the Series D Preferred Stock.
8. STOCKHOLDERS' EQUITY
Preferred Stock
The Company has 2,000,000 authorized shares of preferred stock to be
issued in series with 40,400 shares issued and outstanding at June 30, 1999, of
which 400 shares are Series B and 40,000 are Series D (see Note 6 for a
discussion of Series C Preferred Stock and Note 7 for a discussion of Series D
Preferred Stock).
Series B Preferred Stock
The Company has 400 shares of Series B Preferred Stock issued and
outstanding, with a par value of $10,000 per share, which are held by
Wand/Universal Investments L.P. I and II ("Wand"). The Series B Preferred Stock
is convertible into common stock at $2.25 per share (subject to adjustment) and
is entitled to dividends as if already converted, only when and if dividends are
declared on the common stock. The holders of the Series B Preferred Stock may
not require the Company to redeem it unless the Company engages in certain
defined transactions. The Company has the right to require a conversion if it
raises additional equity from the public on pricing terms that meet certain
criteria.
As a result of the closing of the Capital Z Transaction, the Series B
Preferred Stock was converted into 1,777,777 shares of common stock on July 30,
1999.
Common Stock
The par value of common stock is $.01 per share with 20,000,000 shares
authorized for issuance. The shares issued and outstanding at June 30, 1999 and
December 31, 1998 were 9,994,710, and 7,638,057, respectively. During the six
months ended June 30, 1999, the Company issued 180,667 shares of its common
stock for $462,680 and converted its Series C Preferred Stock into 2,175,986
shares of common stock (see note 6 for a discussion of Series C Preferred
Stock).
At the Special Meeting of Shareholders held on July 27, 1999, the
shareholders voted in favor of increasing the number of authorized shares for
issuance from 20,000,000 to 80,000,000. (See Note 11 for further information of
shares issued pursuant to the closing of the Capital Z Transaction).
Common Stock Warrants
The Company had 630,906 common stock warrants issued and outstanding at
June 30, 1999 and 658,231 issued and outstanding at December 1998, which are
registered under the Securities Exchange Act of 1934. At June 30, 1999 and
December 31, 1998, the Company had 2,015,760 warrants outstanding which are not
registered under the Securities Exchange Act of 1934. The warrants have no par
value, have an exercise price to purchase common stock on a one to one basis at
$1.00 and expire on December 31, 1999.
9. STATUTORY CAPITAL AND SURPLUS REQUIREMENTS AND DIVIDEND RESTRICTIONS
American Progressive, American Pioneer and American Exchange
(collectively, the "Insurance Subsidiaries") are required to maintain minimum
amounts of capital and surplus as determined by statutory accounting. The
minimum statutory capital and surplus requirements of American Progressive,
American Pioneer and American Exchange as of June 30, 1999 for the maintenance
of authority to do business were $2.5 million, $2.8 million and $0.8 million,
respectively. However, in these states substantially more than such minimum
amounts are needed to meet statutory and administrative requirements of adequate
capital and surplus to support the current level of the Insurance Subsidiaries'
operations. At June 30, 1999 the adjusted statutory capital and surplus,
including asset valuation reserve, of American Progressive, American Pioneer and
American Exchange was $10.1 million, $12.9 million, and $3.4 million,
respectively.
10. BUSINESS SEGMENT INFORMATION
Universal has four business segments: Senior Market Accident & Health
Insurance, Other Accident & Health Insurance, Life Insurance, and Non-insurance
Businesses. The Senior Market Accident & Health segment offers Medicare
supplement, home health care, nursing home, and hospital indemnity products. The
Other Accident & Health Insurance segment offers mainly major medical insurance
and some products that are not currently material. Products offered by the Life
Insurance segment include annuities, universal life, and other traditional life
products. The Non-insurance Businesses segment consists mainly of the Parent
Company and WorldNet.
Financial data by segment as of and for the six months ended June 30,
1999 and 1998 is as follows:
<TABLE>
June 30, 1999
---------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Senior Other
Accident & Accident & Life Non-insurance
Health Health Insurance Businesses Total
-------------- -------------- ---------------- ---------------- --------------
Net premiums and policyholder fees
earned $ 13,412,908 $ 4,835,282 $ 3,500,182 $ - $ 21,748,372
Net investment income 398,991 311,777 4,924,858 33,619 5,669,245
Realized gains/(losses) (1,047) (819) (12,924) (88) (14,878)
Fee and other income - - 22,316 1,137,866 1,160,182
-------------- -------------- ---------------- ---------------- --------------
13,810,852 5,146,240 8,434,432 1,171,397 28,562,921
-------------- -------------- ---------------- ---------------- --------------
Policyholder benefits 9,962,648 4,088,768 4,931,731 - 18,983,147
Change in deferred acquisition costs (1,630,774) (87,915) 298,318 - (1,420,371)
Commissions and general expenses 4,403,218 1,155,288 2,568,511 733,043 8,860,060
-------------- -------------- ---------------- ---------------- --------------
Total benefits, claims and other
deductions 12,735,092 5,156,141 7,798,560 733,043 26,422,836
-------------- -------------- ---------------- ---------------- --------------
Operating income/(loss) before taxes $ 1,075,760 $ (9,901) $ 635,872 $ 438,354 $ 2,140,085
============= ============== ================ ================= ==============
ASSETS
Cash and investments $ 10,960,310 $ 8,564,535 $ 135,286,180 $ 3,045,271 $ 157,856,296
Deferred policy acquisition costs 9,066,084 1,016,131 18,268,822 - 28,351,037
Accrued investment income 224,800 175,662 2,774,776 18,942 3,194,180
Goodwill 3,676,291 601,287 - - 4,277,578
Present value of future profits 937,633 544,768 - - 1,482,401
Due and unpaid premiums 436,299 76,681 232,661 - 745,641
Reinsurance recoverable 36,962,495 7,102,626 37,514,464 - 81,579,585
Other assets - - - 7,146,788 7,146,788
============== ============== ================ ================ ==============
Total assets $ 62,263,912 $18,081,690 $194,076,903 $10,211,001 $284,633,506
============== ============== ================ ================ ==============
</TABLE>
<TABLE>
June 30, 1998
---------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Senior Other
Accident & Accident & Life Non-insurance
Health Health Insurance Businesses Total
-------------- -------------- ---------------- ----------------- --------------
Net premiums and policyholder fees
earned $11,921,005 $ 4,844,293 $ 4,546,656 $ - $ 21,311,954
Net investment income 422,657 314,763 4,593,824 38,231 5,369,475
Realized gains 17,063 12,708 185,461 1,543 216,775
Fee and other income - - 31,678 1,215,659 1,247,337
-------------- -------------- ---------------- ----------------- --------------
Total revenues 12,360,725 5,171,764 9,357,619 1,255,433 28,145,541
-------------- -------------- ---------------- ----------------- --------------
Policyholder benefits 8,664,798 3,570,651 6,585,676 - 18,821,125
Change in deferred acquisition costs (1,185,953) (63,850) (389,825) - (1,639,628)
Commissions and general expenses 3,952,038 1,650,117 2,480,087 847,477 8,929,719
-------------- -------------- ---------------- ----------------- --------------
Total benefits, claims and other
deductions 11,430,883 5,156,918 8,675,938 847,477 26,111,216
-------------- -------------- ---------------- ----------------- --------------
Operating income before taxes $ 929,842 $ 14,846 $ 681,681 $ 407,956 $ 2,034,325
============== ============== ================ ================= ==============
ASSETS
Cash and investments $12,528,774 $9,330,484 $136,174,211 $777,730 $158,811,199
Deferred policy acquisition costs 5,582,006 779,460 15,696,700 - 22,058,166
Accrued investment income 295,919 220,379 3,216,326 26,767 3,759,391
Goodwill 3,809,205 622,385 - - 4,431,590
Present value of future profits 1,010,458 595,125 - - 1,605,583
Due and unpaid premiums 325,898 133,338 208,432 - 667,668
Reinsurance recoverable 36,684,866 6,551,209 45,453,841 - 88,689,916
Other assets - - - 8,287,077 8,287,077
============== ============== ================ ================= ==============
Total assets $60,237,126 $18,232,380 $200,749,510 $ 9,091,574 $288,310,590
============== ============== ================ ================= ==============
</TABLE>
Financial data by segment as of and for the three months ended June 30,
1999 and 1998 is as follows:
<TABLE>
June 30, 1999
---------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Senior Other
Accident & Accident & Life Non-insurance
Health Health Insurance Businesses Total
------------- -------------- ---------------- ---------------- ---------------
Net premiums and policyholder fees
earned $ 7,074,342 $ 2,440,511 $ 1,809,150 $ - $11,324,003
Net investment income 141,243 123,164 2,600,872 5,038 2,870,317
Realized gains/(losses) (3,049) (2,659) (56,140) (108) (61,956)
Fee and other income - - 11,158 569,776 580,934
-------------- -------------- ---------------- ---------------- --------------
Total revenues 7,212,536 2,561,016 4,365,040 574,706 14,713,298
-------------- -------------- ---------------- ---------------- --------------
Policyholder benefits 4,897,421 2,149,816 2,764,007 - 9,811,244
Change in deferred acquisition costs (691,942) (65,773) 193,589 - (564,126)
Commissions and general expenses 2,310,081 493,313 1,109,065 480,700 4,393,159
-------------- -------------- ---------------- ---------------- --------------
Total benefits, claims and other
deductions 6,515,560 2,577,356 4,066,661 480,700 13,640,277
-------------- -------------- ---------------- ---------------- --------------
Operating income/(loss) before taxes $ 696,976 $ (16,340) $ 298,379 $ 94,006 $ 1,073,021
============== ============== ================ ================= =============
</TABLE>
<TABLE>
June 30, 1998
---------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Senior Other
Accident & Accident & Life Non-insurance
Health Health Insurance Businesses Total
-------------- -------------- ---------------- ----------------- ---------------
Net premiums and policyholder fees
earned $ 6,170,432 $ 2,498,557 $ 2,158,684 $ - $ 10,827,673
Net investment income 337,892 140,691 2,165,693 16,961 2,661,237
Realized gains 30,896 12,864 198,026 1,552 243,338
Fee and other income - - 15,839 582,738 598,577
-------------- -------------- ---------------- ----------------- --------------
Total revenues 6,539,220 2,652,112 4,538,242 601,251 14,330,825
-------------- -------------- ---------------- ----------------- --------------
Policyholder benefits 4,671,350 1,841,839 3,356,701 - 9,869,890
Change in deferred acquisition costs (713,077) (70,873) (369,643) - (1,153,593)
Commissions and general expenses 1,927,078 879,985 1,133,471 414,083 4,354,617
-------------- -------------- ---------------- ----------------- --------------
Total benefits, claims and other
deductions 5,885,351 2,650,951 4,120,529 414,083 13,070,914
-------------- -------------- ---------------- ----------------- --------------
Operating income before taxes $ 653,869 $ 1,161 $ 417,713 $ 187,168 $ 1,259,911
============== ============== ================ ================= ==============
</TABLE>
11. SUBSEQUENT EVENT
Universal American Financial Corp. Share Purchase Agreement with
Capital Z Financial Services Fund II, L.P.
On December 31, the Company executed a Share Purchase Agreement ("UA
Purchase Agreement") with Capital Z Financial Services Fund II, L.P. ("Capital
Z"), which was amended on July 2, 1999. Under the amended agreement, Capital Z
agreed to purchase up to 28,888,888 shares of Universal common stock for a
purchase price of up to $91.0 million (the "Capital Z Transaction") subject to
adjustment as outlined in the UA Purchase Agreement. On July 30, 1999, the
Capital Z Transaction closed with Capital Z purchasing 25,707,552 shares of
common stock for $80,978,790 ($3.15 per share).
The UA Purchase Agreement received the approvals of the Florida, New
York and Texas Insurance Departments (the states in which Universal's insurance
subsidiaries are domiciled). The stockholder approvals required for the closing
of the UA Purchase Agreement were given on July 27, 1999.
In connection with the closing of the UA Purchase Agreement, certain
managers and agents of Universal and the Penn Union Companies (see below) and
holders of Series C Preferred Stock preemptive rights purchased 3,793,257 shares
of common stock for $11,948,760 ($3.15 per share).
Penn Union Acquisition
On December 31, 1998, Universal entered into a purchase agreement (the
"Penn Union Purchase Agreement") with PennCorp Financial Group, Inc. ("PFG") and
certain subsidiaries of PFG which was amended and restated on July 2, 1999.
Under the amended and restated Penn Union Purchase Agreement, UAFC contracted to
acquire all of the outstanding shares of common stock of certain direct and
indirect subsidiaries of PFG, including six insurance companies (the "Penn Union
Companies") and certain other assets as follows (the "Penn Union Transaction").
The Penn Union Companies are:
Name of Insurance Company State or Province of Domicile
Pennsylvania Life Insurance Company Pennsylvania
Peninsular Life Insurance Company North Carolina
Union Bankers Insurance Company Texas
Constitution Life Insurance Company Texas
Marquette National Life Insurance Company Texas
PennCorp Life of Canada Ottawa
In July 1999, the Penn Union Purchase Agreement received the approvals
of the insurance regulators of the jurisdictions in which the acquired companies
are domiciled.
On July 30, 1999, the Penn Union Transaction closed with Universal
paying $130.5 million in cash for the Penn Union Companies and the other assets.
The Company financed the acquisition with the $81 million of proceeds generated
from the UA Purchase Agreement, the $12 million of proceeds generated from the
sale of common stock to certain management and agents of Universal and the Penn
Union Companies and Series C Preferred Stock holders of preemptive rights, and
from the term loan portion of an $80 million credit facility entered into on
July 30, 1999 consisting of a $70 million term loan and a $10 million revolving
loan facility. None of the revolving loan facility was drawn at closing. The
proceeds of the financing in excess of the $130.5 million purchase price were
used to pay transaction costs of the acquisition and the financing, to retire an
existing UAFC bank loan and to contribute to the surplus of one of the Penn
Union Companies and for working capital.
Based on financial information as of December 31, 1998, the assets and
liabilities acquired in connection with the Penn Union Transaction are
approximately $844 million and $669 million, respectively.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The purpose of this section is to discuss and analyze the Company's
consolidated results of operations and liquidity and capital resources. This
analysis should be read in conjunction with the consolidated financial
statements and related notes, which appear elsewhere in this report and are also
contained in the 1998 Form 10-K.
The Company cautions readers regarding certain forward-looking
statements contained in the following discussion and elsewhere in this report
and in any other oral or written statements, either made by, or on behalf of the
Company, whether or not in future filings with the Securities and Exchange
Commission ("SEC"). Forward-looking statements are statements not based on
historical information. They relate to future operations, strategies, financial
results or other developments. In particular, statements using verbs such as
"expect," "anticipate," "believe" or similar words generally involve
forward-looking statements. Forward-looking statements include statements that
represent the Company's products, investment spreads or yields, or the earnings
or profitability of the Company's activities.
Forward-looking statements are based upon estimates and assumptions
that are subject to significant business, economic and competitive
uncertainties, many of which are beyond the Company's control and are subject to
change. These uncertainties can affect actual results and could cause actual
results to differ materially from those expressed in any forward-looking
statements made by, or on behalf of the Company. Whether or not actual results
differ materially from forward-looking statements may depend on numerous
foreseeable and unforeseeable events or developments, some of which may be
national in scope, such as general economic conditions and interest rates. Some
of these events may be related to the insurance industry generally, such as
pricing competition, regulatory developments and industry consolidation. Others
may relate to Universal specifically, such as credit, volatility and other risks
associated with the Company's investment portfolio, and other factors. Universal
disclaims any obligation to update forward-looking information.
Results of Operations
Six Months Ended June 30, 1999
For the six months ended June 30, 1999, the Company earned net income
after Federal income taxes of $1.4 million ($0.10 per diluted share) compared to
$1.3 million ($0.10 per diluted share) in the prior year. Operating income
before Federal income taxes amounted to $2.1 million for the six months ended
June 30, 1999 compared to $2.0 million in the prior year, which amounts include
net realized gains/(losses) on investments of $(14.9) thousand and $0.2 million.
Revenues. Total revenues increased approximately $0.4 million to
approximately $28.6 million for the six months ended June 30, 1999, compared to
total revenues of approximately $28.1 million in the prior year. In the six
months ended June 30, 1999, the Company's gross premium and policyholder fees
earned (including reinsurance premiums assumed) amounted to $67.8 million, a
$3.7 million increase over the $64.1 million amount in 1998. In addition, the
gross premiums on the Company's following currently marketed programs increased
as follows:
Product Premium Increase Premium Earned
--------------------------------- ---------------- --------------
Senior market accident and health $8.76 $17.5
Major medical 0.37 3.28
Specialty life insurance 0.41 1.10
Specialty medical 1.10 3.97
Non-marketed accident and health 0.08 2.60
--------- ---------
Totals $10.72 $28.45
========= =========
These increases totaling $10.7 million were offset by the decrease in
premiums on the products terminated and not currently marketed by the Company as
follows:
Product Premium Decrease Premium Earned
--------------------------------- ---------------- ---------------
First National assumed business $2.52 $21.51
Non-marketed life insurance 0.61 6.21
Dallas General assumed business 1.64 4.17
American Exchange products 2.28 7.48
---------------- ---------
Totals $7.05 $39.37
================ =========
While the Company was able to increase its gross premium revenue from
its core products, it continues to reinsure a portion of these risks to
unaffiliated reinsurers. Reinsurance premiums ceded for the six months ended
June 30, 1999 amounted to $46.0 million, a $3.2 million increase from the 1998
amount of $42.8 million.
Ceded Premium 1999 Total
Product Increase (Decrease) Premium Ceded
------------------------------ -------------------- --------------
(in millions) (in millions)
American Exchange products $ (2.04) $ 5.60
Dallas General assumed business (0.17) 4.17
Senior market accident & health 5.82 9.94
Senior market life insurance 0.34 1.09
Specialty life insurance 0.49 1.00
Specialty medical 1.10 3.65
First National assumed business (2.68) 16.66
Other lines 0.38 3.94
------------- --------
Totals $ 3.24 $ 46.05
============= ========
Net investment income of the Company increased $0.3 million to $5.7
million for the six months ended June 30, 1999, compared to $5.4 million in the
prior year. This increase is attributable to the increase in invested assets
outstanding during the six month period in 1999 compared to 1998. Realized gains
(losses) on investments amounted to a loss of $14.9 thousand for the six months
ended June 30, 1999 compared to a gain of $0.2 million in the prior year. During
1999 the Company wrote down a permanently impaired security by $0.2 million.
Fee income amounted to $1.1 million for the six months ended June 30,
1999, an increase of $77.8 thousand over the $1.2 million amount for the prior
year. The amortization of deferred revenue amounted to $22.3 thousand for the
six months ended June 30, 1999 compared to $31.7 thousand in the prior year.
Benefits, Claims and Other Deductions. Total benefits, claims and other
deductions increased approximately $0.3 million to $26.4 million for the six
months ended June 30, 1999, compared to $26.1 million in the prior year.
Claims and other benefits decreased slightly to $14.5 million for the
six months ended June 30, 1999 compared to the prior year. The change in
reserves for the six months ended June 30, 1999 amounted to an increase of $0.8
million compared to an increase of $0.8 million in the prior year.
Interest credited to policyholders increased $0.1 million to $3.7
million, which increase is the result of more interest sensitive account values
in force.
The change in deferred acquisition costs decreased $0.2 million for the
six months ended June 30, 1999 compared to 1998. The amount of acquisition costs
capitalized decreased $0.6 million from $4.0 million in 1998 to $3.4 million.
Non commission expenses deferred decreased $0.3 million to $1.5 million in 1999
compared to $1.8 million in 1998. The amortization of deferred acquisition costs
decreased $0.4 million from $2.4 million in 1998 to $2.0 million in 1999. In the
six months ended June 30, 1999, the Company amortized $77.0 thousand of goodwill
generated in the acquisitions of First National ($55.9 thousand) and American
Exchange ($21.1 thousand). In the six months ended June 30, 1999, the Company
amortized $87.2 thousand of present value of future profits generated in the
acquisitions of American Exchange ($64.1 thousand) and Dallas General ($23.1
thousand).
Commissions increased $0.4 million in the six months ended June 30,
1999 to $13.4 million, compared to $13.0 million in the year ago period. This
increase is the direct result of the $3.7 million increase in total premium
discussed above. Commissions and expense allowances on reinsurance ceded
increased $1.0 million in the six months ended June 30, 1999 to $15.6 million,
compared to $14.6 million in the prior year. This increase is the direct result
of the $3.2 million increase in reinsurance premium ceded discussed above.
Other operating costs and expenses increased $0.6 million in the six
months ended June 30, 1999 to $10.9 million, compared to $10.3 million in the
prior year. The insurance companies' expenses amounted to $10.2 for the six
months ended June 30, 1999 compared to $9.6 million in the prior year, an
increase of $0.6 million. The non-insurance companies' expenses of $0.7 million
remained relatively flat compared to the prior period with Parent Company
expense increases of $89.5 thousand being offset by like decreases at WorldNet.
Results of Operations
Three Months Ended June 30, 1999
For the three months ended June 30, 1999, the Company earned net income
after Federal income taxes of $0.7 million ($0.05 per diluted share) compared to
$0.8 million ($0.06 per diluted share) in the prior year. Operating income
before Federal income taxes amounted to $1.1 million for the three months ended
June 30, 1999 compared to $1.3 million in the prior year, which amount include
net realized gains/(losses) of $0.2 million and $(62) thousand, respectively.
Revenues. Total revenues increased approximately $0.4 million to
approximately $14.7 million for the three months ended June 30, 1999, compared
to total revenues of approximately $14.3 million in the prior year. In the three
months ended June 30, 1999, the Company's gross premium and policyholder fees
earned (including reinsurance premiums assumed) amounted to $35.5 million, a
$3.0 million increase over the $32.5 million amount in 1998. The gross premiums
on the Company's following currently marketed programs increased as follows:
Product Premium Increase Premium Earned
--------------------------------- ----------------- ----------------
Senior market accident and health $4.83 $9.85
Major Medical 0.28 1.74
Specialty life insurance 0.18 0.55
Specialty medical 0.40 2.24
Non-marketed accident and health 0.08 1.40
----------- ----------
Totals $5.77 $15.78
=========== ==========
These increases totaled $5.8 million and were offset by the decrease in
premiums on the products terminated and not currently marketed by the Company as
follows:
Product Premium Decrease Premium Earned
------------------------------- ---------------- ---------------
First National assumed business $0.80 $10.95
Non-marketed life insurance 0.25 3.14
Dallas General assumed business 0.58 1.99
American Exchange products 1.19 3.65
----------- -----------
Totals $2.82 $19.73
=========== ===========
While the Company was able to increase its gross premium revenue from
its core products, it continues to reinsure a portion of these risks to
unaffiliated reinsurers. Reinsurance premiums ceded for the three months ended
June 30, 1999 amounted to $24.2 million, a $2.5 million increase from the 1998
amount of $21.7 million.
Ceded Premium 1999 Total
Product Increase (Decrease) Premium Ceded
-------------------------------- -------------------- --------------
(in millions) (in millions)
American Exchange products $ (0.96) $ 2.78
Dallas General assumed business 0.07 1.99
Senior market accident & health 3.24 5.66
Senior market life insurance 0.10 0.50
Specialty life insurance 0.22 0.50
Specialty medical 0.46 2.09
First National assumed business (0.87) 8.54
Other lines 0.21 2.09
------------ -----------
Totals $ 2.47 $ 24.15
============ ===========
Net investment income of the Company increased $0.2 million to $2.9
million for the three months ended June 30, 1999, compared to $2.7 million in
the prior year. This increase is attributable to the increase in invested assets
outstanding during the three month period in 1999 compared to 1998. Realized
gains (losses) on investments amounted to a loss of $62.0 thousand for the three
months ended June 30, 1999 compared to a gain of $0.2 million in the prior year.
During the second quarter of 1999, the Company wrote down a permanently impaired
security by $0.1 million
Fee income amounted to $0.6 million for the three months ended June 30,
1999, a slight decrease of $13.0 thousand over the $0.6 million amount for prior
year. The amortization of deferred revenue amounted to $11.2 thousand for the
three months ended June 30, 1999 compared to $15.8 thousand in the prior year.
Benefits, Claims and Other Deductions. Total benefits, claims and other
deductions increased approximately $0.6 million to $13.7 million for the three
months ended June 30, 1999, compared to $13.1 million in the prior year.
Claims and other benefits decreased $0.1 million to $7.5 million for
the three months ended June 30, 1999 compared to $7.6 million in the prior year.
The change in reserves for the three months ended June 30, 1999 amounted to an
increase of $0.5 million compared to an increase of $0.4 million in the prior
year generating a variance of $0.1 million. Interest credited to policyholders
decreased $46.5 thousand to $1.7 million.
The change in deferred acquisition costs decreased $0.6 million for the
three months ended June 30, 1999 compared to 1998. The amount of acquisition
costs capitalized decreased $0.5 million from $1.4 million in 1998 to $0.9
million in 1999. Non commission expenses deferred decreased $0.2 million to $0.9
million in 1999 compared to $1.1 million in 1998. The amortization of deferred
acquisition costs increased $10 thousand from $1.0 million in 1998. In the three
months ended June 30, 1999, the Company amortized $38.5 thousand of goodwill
generated in the acquisitions of First National ($27.9 thousand) and American
Exchange ($10.6 thousand). In the three months ended June 30, 1999, the Company
amortized $43.6 thousand of present value of future profits generated in the
acquisitions of American Exchange ($32.0 thousand) and Dallas General ($11.6
thousand).
Commissions decreased $0.7 million in the three months ended June 30,
1999 to $7.2 million, compared to $7.9 million in the prior year. Commissions
and expense allowances on reinsurance ceded decreased $0.5 million in the three
months ended June 30, 1999 to $8.2 million, compared to $8.7 million in the
prior year.
Other operating costs and expenses increased $0.2 million in the three
months ended June 30, 1999 to $5.3 million, compared to $5.1 million in the
prior year. The insurance companies' expenses amounted to $5.0 million for the
three months ended June 30, 1999 compared to $4.8 million in the prior year, an
increase of $0.2 million. The non-insurance companies' expenses of $0.3 million
remained relatively flat compared to the prior period with increases in parent
company expenses related to increased interest expense offset by decreases in
expenses at WorldNet.
Liquidity and Capital Resources
The Company's need for capital has historically been to maintain or
increase the surplus of its Insurance Subsidiaries and to support the Company as
an insurance holding company, including the maintenance of its status as a
public company. In addition, the Company requires capital to fund its
anticipated growth through acquisitions of other companies and blocks of
insurance business.
The Company
The Company requires cash to pay the operating expenses necessary to
support its status as an insurance holding company (which under applicable
Insurance Department regulations must bear its own expenses), and to meet the
cost involved in being a publicly-owned company. In addition, it requires cash
to meet Universal's obligations under the debentures outstanding with American
Progressive and to meet the quarterly amortization of its bank loan.
As of June 30, 1999 the Company had outstanding $4.3 million pursuant
to a credit agreement with Chase Manhattan Bank. During the six months ended
June 30, 1999, the Company repaid $0.5 million in principal and $183.9 thousand
in interest.
In connection with the Unstacking Agreement whereby American Pioneer
became a direct subsidiary of Universal, rather than an indirect subsidiary
owned through American Progressive, Universal has $7.9 million in debentures
outstanding to its subsidiary, American Progressive. The debentures pay interest
quarterly at 8.50% and are due between September 2002 and May 2003. During the
six months ended June 30, 1999 the Company paid $0.3 million in interest on
these debentures to American Progressive which was eliminated in consolidation.
Management believes that the current cash position and expected cash
flows of the non-insurance companies and the availability of dividends from
American Pioneer can support the obligations of Universal noted above for the
foreseeable future. However, there can be no assurance as to the expected future
cash flows or to the availability of dividends from American Pioneer.
Universal American Financial Corp. Share Purchase Agreement with
Capital Z Financial Services Fund II, L.P.
On December 31, 1998, the Company executed a Share Purchase Agreement
("UA Purchase Agreement") with Capital Z Financial Services Fund II, L.P.
("Capital Z"), which was amended on July 2, 1999. Under the agreement, as
amended, Capital Z agreed to purchase up to 28,888,888 shares of Universal
common stock for a purchase price of up to $91.0 million (the "Capital Z
Transaction") subject to adjustment as outlined in the UA Purchase Agreement. On
July 30, 1999, the Capital Z Transaction closed with Capital Z purchasing
25,707,552 shares of common stock for $80,978,790 ($3.15 per share).
The UA Purchase Agreement received the approvals of the Florida, New
York and Texas Insurance Departments (the states in which Universal's
insurance subsidiaries are domiciled) and, on July 27, 1999, received
approval by the stockholders of the Company.
In connection with the closing of the UA Purchase Agreement, certain
managers and agents of Universal and the Penn Union Companies (see below) and
holders of Series C Preferred Stock preemptive rights purchased 3,793,257 shares
of common stock for $11,948,760 ($3.15 per share).
Penn Union Acquisition
On December 31, 1998, Universal entered into a purchase agreement (the
"Penn Union Purchase Agreement") with PennCorp Financial Group, Inc. ("PFG") and
certain subsidiaries of PFG which was amended and restated on July 2, 1999.
Under the agreement, as amended and restated, Universal contracted to acquire
all of the outstanding shares of common stock of certain direct and indirect
subsidiaries of PFG, including six insurance companies (the "Penn Union
Companies") and certain other assets (the "Penn Union Transaction"). The Penn
Union Companies are:
Name of Insurance Company State or Province of Domicile
Pennsylvania Life Insurance Company Pennsylvania
Peninsular Life Insurance Company North Carolina
Union Bankers Insurance Company Texas
Constitution Life Insurance Company Texas
Marquette National Life Insurance Company Texas
PennCorp Life of Canada Ottawa
The Penn Union Purchase Agreement received the approvals of the
insurance regulators of the jurisdictions in which the acquired companies are
domiciled.
On July 30, 1999, the Penn Union Transaction closed with Universal
paying $130.5 million in cash for the Penn Union Companies and the other assets.
The Company financed the acquisition with the $81 million of proceeds generated
from the UA Purchase Agreement discussed above, the $12 million of proceeds
generated from the sale of common stock to certain managers and agents of
Universal and the Penn Union Companies and holders of preemptive rights, and
from the term loan portion of an $80 million credit facility entered into on
July 30, 1999 consisting of a $70 million term loan and a $10 million revolving
loan facility. None of the revolving loan facility was drawn at closing.
Based on financial information as of December 31, 1998, the assets and
liabilities acquired in connection with the Penn Union Transaction are
approximately $844 million and $669 million, respectively.
Conversion of Preferred Stock
As a result of the closing of the Capital Z transaction on July 30,
1999, all of the Series B, D-1 and D-2 Preferred Stock was converted into
1,777,777, 833,333 and 555,556 shares of common stock, respectively.
Insurance Subsidiaries
American Progressive, American Pioneer and American Exchange
(collectively, the "Insurance Subsidiaries") are required to maintain minimum
amounts of capital and surplus as determined by statutory accounting. The
minimum statutory capital and surplus requirements of American Progressive,
American Pioneer and American Exchange as of June 30, 1999 for the maintenance
of authority to do business were $2.5 million, $2.8 million and $0.8 million,
respectively. However, substantially more than such minimum amounts are needed
to meet statutory and administrative requirements of adequate capital and
surplus to support the current level of the Insurance Subsidiaries' operations.
At June 30, 1999 the adjusted statutory capital and surplus, including asset
valuation reserve, of American Progressive, American Pioneer and American
Exchange was $10.1 million, $12.9 million and $3.4 million, respectively.
Liquidity for the life insurance subsidiaries is measured by their
ability to pay scheduled contractual benefits, pay operating expenses, and fund
investment commitments. Sources of liquidity include scheduled and unscheduled
principal and interest payments on investments, premium payments and deposits
and the sale of liquid investments. These sources of liquidity for the Insurance
Subsidiaries significantly exceed scheduled uses.
Liquidity is also affected by unscheduled benefit payments including
death benefits, benefits under accident & health policies and interest-sensitive
policy surrenders and withdrawals. The amount of surrenders and withdrawals is
affected by a variety of factors such as credited interest rates for similar
products, general economic conditions and events in the industry that affect
policyholders' confidence. Although the contractual terms of substantially all
of the Company's in force life insurance policies and annuities give the holders
the right to surrender the policies and annuities, the Company imposes penalties
for early surrenders. At June 30, 1999 the Company held reserves that exceeded
the underlying cash surrender values of its in force life insurance and
annuities by more than $21 million. The Insurance Subsidiaries, in
management's view, have not experienced any material changes in surrender and
withdrawal activity in recent years.
Investments
Changes in interest rates may affect the incidence of policy surrenders
and withdrawals. In addition to the potential impact on liquidity, unanticipated
surrenders and withdrawals in a changed interest rate environment could
adversely affect earnings if the Company were required to sell investments at
reduced values in order to meet liquidity demands. The Company manages the asset
and liability portfolios in order to minimize the adverse earnings impact of
changing market rates. The Company seeks to invest in assets that have duration
and interest rate characteristics similar to the liabilities that they support.
The net yield on the Company's cash and invested assets increased
slightly from 6.67% at December 31, 1998 to 7.03% at June 30, 1999. A
significant portion of these securities are held to support the liabilities for
policyholder account balances, which liabilities are subject to periodic
adjustments to their credited interest rates. The credited interest rates of the
interest-sensitive policyholder account balances are determined by management
based upon factors such as portfolio rates of return and prevailing market rates
and typically follow the pattern of yields on the assets supporting these
liabilities.
The Company's investment policy is to balance the portfolio between
long-term and short-term investments to continue to achieve investment returns
consistent with the preservation of capital and maintenance of liquidity
adequate to meet payment of policy benefits and claims. The Company invests in
assets permitted under the insurance laws of the various states in which it
operates. Such laws generally prescribe the nature, quality of and limitations
on various types of investments that may be made. The Company currently engages
the services of an investment advisor, Asset Allocation and Management Company,
an affiliate of AAM, to manage the Company's fixed maturity portfolio, under the
direction of the management of the Insurance Subsidiaries and in accordance with
guidelines adopted by their respective Boards of Directors. The Company does not
invest in derivative programs or other hybrid securities, except for GNMA's,
FNMA's and investment grade corporate collateralized mortgage obligations. It
invests primarily in fixed maturity securities of the U.S. Government and its
agencies and in corporate fixed maturity securities with investment grade
ratings of "Baa3" (Moody's), "BBB-" (Standard & Poor's) or higher. However, the
Company does own some investments that are rated "BB" or below (together 2.3%
and 2.6% of total fixed maturities as of December 31, 1998 and June 30, 1999,
respectively). As of June 30, 1999 all securities were current in the payment of
principal and interest. During the year, the Company determined that there was a
permanent impairment in the CFS Smart bonds held and wrote them down
approximately $0.2 million to reflect this impairment.
At June 30, 1999, the Insurance Subsidiaries held cash and cash
equivalents totaling $7.9 million, as well as fixed maturity and equity
securities that could readily be converted to cash with carrying values (and
fair values) of $146.9 million.
Federal Income Taxation of the Company
At June 30, 1999 the Company had established a valuation allowance of
$1.3 million with respect to certain of its net operating loss carryforwards
(deferred tax assets). The Company determined the valuation allowance based upon
an analysis of projected taxable income and through its ability to implement
prudent and feasible tax planning strategies. The tax planning strategies
include the Company's recent reorganization and use of its administration
company WorldNet to generate taxable income. Management believes it is more
likely than not that the Company will realize the recorded net deferred tax
assets.
Impact of Year 2000
The Year 2000 issue is the result of computer programs being written
using two digits rather than four to define the applicable year. As a result,
those computer programs have time-sensitive software that recognize a date using
"00" as the year 1900 rather than the year 2000. This could cause a system
failure or miscalculations causing disruptions of operations, including, among
other things, a temporary inability to process transactions, send invoices, or
engage in similar normal business activities.
The Company's plan to resolve the Year 2000 issue involves the
following phases: (1) the assessment phase, which determines the impact of the
Year 2000 issue, (2) the remediation phase, which is the updating or modifying
of affected systems, (3) the testing phase, which determines the effectiveness
of the remediation phase, (4) the implementation phase, which applies all proven
systems to the operating environment and (5) the contingency planning phase,
which develops plans in the event that the Year 2000 issue was not appropriately
addressed.
The Company has completed its assessment of the systems that could be
significantly affected by the Year 2000 issue. The completed assessment
indicated that the Company's main policy administration system utilizes programs
that were written using four digit codes to define the applicable year. This
main policy administration system was tested to determine the system's ability
to operate after January 1, 2000. Test results indicated that the system should
continue to process transactions without disruption. Some of the Company's
computer programs used to process portions of the Company's business outside of
the main policy administration system were written using two digits rather than
four to define the applicable year and therefore have to be modified or
replaced. As a result, the Company began a conversion process to bring all of
the Company's products onto its main policy administration system. All of the
Company's products were placed on this system by January 1, 1999.
In addition to its policy administration system, the Company performed
assessments of other processing systems and determined that a claims paying
system for a small block of business was not Year 2000 compliant. The Company
obtained the vendor upgrade for this system. The installation, testing and
implementation of this upgrade was completed in April 1999.
The Company recently acquired blocks of business (the First National
and Dallas General blocks) and American Exchange. In connection with those
acquisitions, the Company has converted all of the acquired businesses into the
Year 2000 compliant systems currently in place.
In addition to resolving the internal Year 2000 issue, the Company is
working with all external organizations, business partners and vendors to assess
Year 2000 issues associated with the exchange of electronic data. The Company is
in the process of testing the interfaces with these business partners. The
Company has also begun the process of obtaining Year 2000 readiness statements
from all its external business partners to determine the extent to which The
Company might be vulnerable to those third parties' failure to remediate their
own Year 2000 issues. There is no guarantee that the systems of other companies
on which the Company's systems rely will be timely converted and will not have
an adverse effect on the Company's systems.
The Company's plan to resolve the Year 2000 issue has been completed
prior to any anticipated impact on its operating systems, and the Year 2000
issue should not pose significant operational problems for its computer systems.
However, if the Company's plan is not successfully implemented, the Year 2000
issue could have a material impact on the operations of the Company.
The Company's plan includes the development of contingency plans for
any significant risks that might result from the Year 2000 issue. As discussed
above, the Company is not presently aware of any specific significant business
risk that it believes it is exposed to regarding the Year 2000 issue. Therefore,
the Company has not developed a contingency plan for the Year 2000 issue. The
Company will continue to monitor and assess risks for which contingency plans
will be required.
A possible worst case scenario, although this is not considered likely,
would occur if the Federal government and its vendors were unable to continue to
process Medicare supplement claims electronically. In the event that this would
occur, the Company's current procedure of obtaining Medicare claim data through
an electronic interface would not occur and the Company would have to revert to
manually entering this data into the claims paying system. This would result in
the Company hiring approximately 20 additional employees to handle the increase
in this data entry function. The Company considers the clerical marketplace in
each of its primary office locations (Pensacola, Orlando, Miami and Rye Brook)
cabable of handling this situation in a satisfactory manner.
Currently, the Company expects the Year 2000 project costs to be
limited to the allocation of its data processing department resources, and
significant external expenses are not expected. Accordingly, no specific budget
for such costs has been allocated. The costs of the project and the date on
which the Company believes it will complete the Year 2000 modifications are
based on management's best estimates, which were derived utilizing numerous
assumptions of future events, including the continued availability of certain
resources and other factors. There can be no guarantee that these estimates will
be achieved and actual results could differ materially from those anticipated.
Specific factors that might cause such material differences include, but are not
limited to, the availability and cost of personnel trained in this area, the
ability to locate and correct all relevant computer codes, and similar
uncertainties.
Quantitative and Qualitative Disclosures About Market Risk
Market risk relates, broadly, to changes in the value of financial
instruments that arise from adverse movements in interest rates, equity prices
and foreign exchange rates. The Company is exposed principally to changes in
interest rates that affect the market prices of its fixed income securities.
Interest Rate Risk
The Company could experience economic losses if it was required to
liquidate fixed income securities during periods of rising and/or volatile
interest rates. However, the Company attempts to mitigate its exposure to
adverse interest rate movements through a combination of active portfolio
management and by staggering the maturities of its fixed income investments to
assure sufficient liquidity to meet its obligations and to address reinvestment
risk considerations. The Company's insurance liabilities are generally long
tailed in nature, which generally permits ample time to prepare for their
settlement. To date, the Company has not utilized various financial risk
management tools on its investment securities, such as interest rate swaps,
forwards, futures and options to modify it exposure to changes in interest
rates. However, the Company may consider them in the future.
The Company is aware that certain classes of mortgage backed securities
are subject to significant prepayment risk due to the fact that in periods of
declining interest rates, individuals may refinance higher rate mortgages to
take advantage of the lower rates then available. The Company monitors
investment portfolio mix to mitigate this risk.
Sensitivity Analysis
The Company regularly conducts various analyses to gauge the financial
impact of changes in interest rates on it financial condition. The ranges
selected in these analyses reflect management's assessment as being reasonably
possible over the succeeding twelve-month period. The magnitude of changes
modeled in the accompanying analyses should, in no manner, be construed as a
prediction of future economic events, but rather, be treated as a simple
illustration of the potential impact of such events on the Company's financial
results.
The sensitivity analysis of interest rate risk assumes an instantaneous
shift in a parallel fashion across the yield curve, with scenarios of interest
rates increasing and decreasing 100 and 200 basis points from their levels at
June 30, 1999, and with all other variables held constant. A 100 and 200 basis
point increase in market interest rates would result in a pre-tax decrease in
the market value of the Company's fixed income investments of $5.9 million and
$11.6 million, respectively. Similarly, a 100 and 200 basis point decrease in
market interest rates would result in a pre-tax increase in the market value of
the Company's fixed income investments of $5.9 million and $12.1 million,
respectively.
<PAGE>
PART II - OTHER INFORMATION
On July 27, 1999, the Company held a Special Meeting of Shareholders to
vote upon certain proposals relating to the Capital Z Transaction discussed in
the Management's Discussion and Analysis. The following are the proposals voted
upon and the results thereof:
1. To approve the issuance and sale to Capital Z, some agents and
members of the management of the Penn Union Companies and some
Series C Preferred Stock holders of preemptive rights to purchase
common stock of up to 28,888,888 shares of common stock for $3.15
per share and the payment of part of a transaction fee to an
affiliate of Capital Z in Universal American common stock. The
number of shares issued and purchased and the price paid for the
shares may be adjusted under the terms of the share purchase
agreement between Universal American and Capital
Votes For 9,376,773
Votes Against 31,545
Votes Abstain 5,030
2. To amend Universal American's certificate of incorporation to:
(a) Increase the number of authorized shares of common
stock from 20 million shares to 80 million shares.
Votes For 9,379,001
Votes Against 27,192
Votes Abstain 7,155
(b) Provide for shareholder action by written consent
instead of a meeting of shareholders. Written consent
would only need to be given by shareholders holding
the number of shares required to approve the action
being taken by written consent.
Votes For 9,369,508
Votes Against 36,977
Votes Abstain 6,863
(c) Eliminate the requirement that holders of 66 2/3% of
Universal American's outstanding voting capital stock
approve amendments to some provisions of the
certificate of incorporation, which means only
majority approval will be necessary for those
amendments.
Votes For 9,357,280
Votes Against 48,705
Votes Abstain 7,363
(d) Remove the provision in the certificate of
incorporation, which requires the vote by holders of
66 2/3% of the outstanding voting capital stock to
call a special meeting of the shareholders. The board
will amend the by-laws to allow special meetings of
the shareholders to be called at the request of
holders of 50% of the outstanding voting capital
stock.
Votes For 9,379,848
Votes Against 28,845
Votes Abstain 4,655
(e) Replace the present method of electing directors and
the length of the term each director serves with a
system in which all directors are elected at one time
for a term expiring at the next annual meeting.
Directors are currently elected to three-year
staggered terms.
Votes For 9,366,298
Votes Against 43,220
Votes Abstain 3,830
(f) Require 66 2/3% of Universal American's board of
directors to approve some important corporate
actions.
Votes For 9,388,456
Votes Against 21,137
Votes Abstain 3,755
3. To amend Universal American's 1998 Incentive Compensation Plan to
allow a limited number of agents and members of management of the Penn Union
Companies and Universal American to be granted options to purchase shares of
Universal American common stock at the same per share purchase price to be paid
by Capital Z. The per share purchase price may be below the fair market value of
the common stock at the time the options are granted.
Votes For 9,353,970
Votes Against 55,348
Votes Abstain 4,030
- --------------------------------------------------------------------------------
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
UNIVERSAL AMERICAN FINANCIAL CORP.
By: /S/ Robert A. Waegelein
Robert A. Waegelein
Senior Vice President
Chief Financial Officer
Date: August 15, 1999
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