UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
- -------------------------------------------------------------------------------
FORM 10K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
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.D. Number)
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
Securities registered pursuant to Section 12(b) of the Act:
Name of Each Exchange
Title of Class on which Registered
Common Stock, par value $.01 per share NASDAQ
Common Stock Warrants, expire December 31, 1999 NASDAQ
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of the Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of the voting stock held by non-affiliates
of the registrant as of March 1, 1999 was approximately $15,130,000.
The number of shares outstanding of the Registrant's Common Stock and
Common Stock Warrants as of March 1, 1999 were 7,790,264 and 658,231,
respectively.
DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents if incorporated by reference and
the Part of the Form 10-K (e.g., Part I, Part II, etc.) into which the document
is incorporated:
(1) Proxy Statement for the 1999 Annual Meeting incorporated by reference
into Part III.
(2) Exhibits listed in Item 14(b), Part IV, incorporated by reference
to Form S-1 filed March 30, 1990, Forms 10-K for 1996, 1994, 1993,1991,
1989 and 1988 and Forms 8-K for July 24, 1992, May 31,1991 and
December 9, 1987.
<PAGE>
6
PART I
ITEM 1 - BUSINESS
General
Universal American Financial Corp. ("the Company" or "Universal") is a
life and accident & health insurance holding company, whose principal
subsidiaries are American Pioneer Life Insurance Company ("American Pioneer"),
American Progressive Life and Health Insurance Company of New York ("American
Progressive"), and American Exchange Life Insurance Company ("American
Exchange"), (collectively the "Insurance Subsidiaries"), and WorldNet Services
Corp. ("WorldNet"), a third party administrator ("TPA"). The references below to
the insurance operations of the Company are to be understood as references to
activities of the Insurance Subsidiaries. Financial items are reported on a
Generally Accepted Accounting Principles basis ("GAAP"), except where otherwise
noted.
Strategic Focus
The Company has implemented, and will continue to pursue, the following
strategies:
Internal Growth
The Company has focused its efforts to reach targeted segments of the
insurance market as defined by product or by geography. These segments include:
o Senior market life insurance, annuity and accident & health
insurance products designed for sale primarily in select
geographic areas;
o Life insurance, annuity and accident & health insurance programs
sold through large independent marketing organizations.
External Growth
Since 1991, the Company has successfully acquired and integrated three
insurance companies and six blocks of business, most recently in the fourth
quarter of 1997 with the acquisition of 100% of the outstanding stock of
American Exchange and in the first quarter of 1998 with the acquisition of $12.6
million of inforce premium from Dallas General Life Insurance Company ("Dallas
General").
In 1998, the Company continued its acquisition strategy by agreeing to
acquire six insurance companies and certain other assets (the "Penn Union
transaction") from PennCorp Financial Group, Inc. See "Pending Acquisition and
Change in Control", below.
Pending Acquisition and Change in Control
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 to acquire all of the outstanding shares of common
stock of certain direct and indirect subsidiaries of PFG, including the
insurance companies as follows (the "Penn Union Transaction"):
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 calls for a purchase price of $175
million with $136 million in cash and $39 million in seller financing. In
addition, the Company will incur approximately $12.0 million in transaction
costs associated with this transaction. Universal will finance the cash portion
of the acquisition with the $82 million of proceeds generated from the UA
Purchase Agreement discussed below and from the execution of a $80 million
credit facility that consists of a $70 million term loan and $10 million
revolving loan facility.
The Penn Union Purchase Agreement is subject to approval by the
insurance regulators of the jurisdictions in which the companies being acquired
are domiciled. Management anticipates this transaction to close in the second
quarter of 1999, although no assurances can be given that it will occur.
Universal American Financial Corp. Share Purchase Agreement with
Capital Z Financial Services Fund II, L.P.
Simultaneously with the execution of the Penn Union Purchase Agreement,
the Company executed a Share Purchase Agreement ("UA Purchase Agreement") with
Capital Z Financial Services Fund II, L.P. ("Capital Z"), whereby Capital Z has
agreed to purchase up to 26,031,746 shares of Universal common stock for a
purchase price of up to $82.0 million (the "Capital Z Transaction") subject to
adjustment as outlined in the UA Purchase Agreement. Pursuant to terms of the UA
Purchase Agreement, the number of shares of Universal common stock and the
aggregate purchase price to be paid by Capital Z will be reduced based upon the
aggregate number of shares of Universal common stock purchased by certain
members of management and agents of Universal, but in no event will it be less
than 19,841,270 shares. Thus, as a result of the closing of the transactions
contemplated by the UA Purchase Agreement, Capital Z will acquire a controlling
interest in Universal. Specifically, if Capital Z purchases the minimum number
of shares under the UA Purchase Agreement, it will acquire 45.6% of the then
outstanding shares of Universal common stock on a fully diluted basis, and if
Capital Z purchases the maximum number of shares, it will acquire 59.8% of the
then outstanding shares of Universal common stock on a fully diluted basis. The
UA Purchase Agreement is subject to (i) regulatory approvals in the states in
which Universal's insurance subsidiaries are domiciled, (ii) shareholder
approval and (iii) consummation of the Penn Union Transaction (see above).
Insurance Marketing Activity
The Company has placed its emphasis on the sale of a line of products
that particularly appeal to the senior market, largely through marketing
organizations with concentrations in this market. The Company began to sell
senior market life and supplemental health insurance products in 1993 in New
York and expanded its sales effort to Florida in 1996 and Texas in 1997. The
momentum into Florida was accelerated by the acquisition of business from First
National Life Insurance Company ("First National") and into Texas by the
American Exchange and Dallas General acquisitions (See "Previous Insurance
Acquisitions Activity"). In 1998, the Company formulated plans to expand its
marketing territories to include other southeastern and midwestern states with
its senior products.
<PAGE>
Business In Force
The Company's growth, in direct and assumed business in force, is
shown in the following tables as of December 31, 1996, 1997 and 1998.
<TABLE>
Annualized Premium In Force As of December 31,
----------------------------------------------------------
1996 (1) 1997 (1) 1998 (1)
----------------- ------------------ -------------------
<S> <C> <C> <C>
Senior Market Life Insurance: Multiple Pay
- -------------------------------------------------------
Asset Enhancer (2) $ 3,191,359 $ 6,107,739 $ 7,333,009
SL 2000 1,130,690 1,465,727 2,050,897
----------------- ------------------ -------------------
Total Senior Market Life Multiple Pay 4,322,049 7,573,466 9,383,906
----------------- ------------------ -------------------
Special Markets: Life Insurance
- -------------------------------------------------------
Group Life 4,150,000 3,888,912 3,519,696
Brokerage (2) 9,031,970 9,433,844 8,293,663
----------------- ------------------ -------------------
Total Special Markets: Life Insurance 13,181,970 13,322,756 11,813,359
----------------- ------------------ -------------------
Senior Market: Accident & Health
- -------------------------------------------------------
Medicare Supplement and Select 58,851,455 68,404,225 85,127,625
Long Term Care 2,277,686 4,546,346 7,657,605
Hospital Indemnity 2,239,207 1,888,069 1,722,233
----------------- ------------------ -------------------
Total Senior Market: Accident & Health 63,368,348 74,838,640 94,507,463
----------------- ------------------ -------------------
Special Markets: Accident & Health
- -------------------------------------------------------
Individual Medical 10,851,433 17,681,996 23,834,760
Other Accident & Health (3) 2,144,717 3,475,324 2,927,896
----------------- ------------------ -------------------
Total Special Markets: Accident & Health 12,996,150 21,157,320 26,762,656
----------------- ------------------ -------------------
Grand Total $ 93,868,517 $ 116,892,182 $142,467,384
================= ================== ===================
</TABLE>
- ----------------------------------------------------------------
(1) Does not include Flex-A-Vest, which amounted to $2,584,493, $2,107,169 and
$2,149,806 at December 31, 1996, 1997 and 1998, respectively.) (See
"Restructuring Activity ", below).
(2) Included in the amounts shown are premiums for interest-sensitive products.
These amounts represent the portion of premium applied to the cost of
insurance (i.e. deposit premiums have been excluded).Business acquired by
the Company that is not actively marketed.
The following table shows all outstanding account values for
interest-sensitive products for 1996, 1997 and 1998. For these products, the
Company earns income on the spread between investment income on the Company's
invested assets and interest credited to these account balances.
Account Values
<TABLE>
As of December 31,
----------------------------------------------------------
1996 1997 1998
------------------ ------------------ ------------------
<S> <C> <C> <C>
Annuities $88,445,217 $88,032,040 $89,262,335
Universal Life 34,686,676 35,640,097 36,542,592
Asset Enhancer 11,407,061 21,413,550 29,081,132
------------------ ------------------ ------------------
Grand Total $134,538,954 $145,085,687 $154,886,059
================== ================== ==================
</TABLE>
<PAGE>
Senior Market
The following are the core products sold to the senior age market.
Medicare Supplement
The Company began to sell Medicare Supplement policies in January 1994.
American Progressive has entered into Managing General Agency relationships with
three of the largest accident & health sales organizations in upstate New York
that specialize in the Senior Market to focus its marketing effort in geographic
areas in New York State where management believes competition is less formidable
than elsewhere in the State.
Recently, American Pioneer filed Medicare Select products with the
Texas and Florida Insurance Departments, to be sold by its general agents,
including Ameri-Life and Health Services ("Ameri-Life"), a Managing General
Agent of the Company. American Pioneer's new Medicare Select policies were
approved by the Florida Insurance Department and sales of this product began in
July 1998.
The Medicare Supplement policies offered by the Insurance Subsidiaries
are primarily on standardized plans A, B, C and F and are underwritten on a
simplified issue basis, except that the policies sold in New York are on a
guaranteed issue basis, subject to the community rating laws of that state (See
"Regulation - Health Care Reform"). Medicare Supplement and Medicare Select
issued premium amounted to $3.1 million, $4.8 million and $13.6 million in 1996,
1997 and 1998, respectively.
Home Health Care and Nursing Home
American Progressive introduced Home Health Care and Nursing Home
products in New York in early 1996. In late 1996, American Pioneer introduced a
managed care home health care product in Florida that uses preferred provider
organization ("PPO") discounts and capitation with a home health care network.
Issued premium for these long-term care products in 1996 (the first year of
sales), 1997 and 1998 amounted to $1.3 million, $2.4 million and $3.9 million,
respectively. Home health care products and long term care products are
currently being filed in various targeted states.
Hospital Indemnity
American Progressive introduced a Senior Age Hospital Indemnity product
in mid-1993 and has premium in force in excess of $1.8 million as of December
1998. Benefits under this product are fixed cash payments based upon the length
of hospital stays and are designed to provide money to meet needs ancillary to
hospitalization.
One, Five, Six and Seven Pay Interest Sensitive Whole Life ("Asset
Enhancer")
This program, marketed primarily by National Financial Group of
Scottsdale, Arizona, a national marketing organization under contract with
American Pioneer, began in 1994 and is now sold in several states. The product
is a simplified issue interest-sensitive whole life product with one, five, six
or seven year payment options. It is designed as an interest-sensitive whole
life vehicle for seniors to facilitate estate planning and transfer assets to
heirs in an income tax-advantaged manner. In many states, the product offers an
optional nursing care and home care rider.
In addition to American Pioneer's own sales of this product, in 1996,
American Pioneer entered into an arrangement with West Coast Life Insurance
Company ("West Coast Life"), an unaffiliated "A+" rated carrier, under which
West Coast issues this product and, through an unaffiliated reinsurer, reinsures
one-third of the risk to American Pioneer. Under its contract with West Coast
Life, American Pioneer administers the product and the relationships with the
producers on a fee basis.
Statutory premium production of five, six and seven pay life insurance
amounted to $1.6 million, $3.8 million and $1.6 million in 1996, 1997 and 1998,
respectively. The single pay plan was introduced in 1995 and statutory premium
production amounted to $6.2 million, $17.6 million and $12.5 million in 1996,
1997 and 1998, respectively. These figures include the entire premium generated
by American Pioneer sales and the portion assumed by American Pioneer on West
Coast Life's sales.
<PAGE>
Senior Life (SL2000 and Peace of Mind)
This series of low-face value, simplified issue whole life products,
introduced in late 1995, is sold by the Insurance Subsidiaries as part of their
senior market effort. The Company issued $0.5 million, $0.7 million and $1.0
million in 1996, 1997 and 1998, respectively.
Special Markets
Group Life Insurance
Through an arrangement with Alabama Blue Cross that has existed since
1989, an American Pioneer group life insurance information package, including a
premium quotation, goes out with most Alabama Blue Cross small group major
medical insurance premium quotation. This program had premium revenue of $3.2
million in 1996, 1997 and 1998.
Annuities
The Company markets Single and Flexible Premium Deferred Annuities
primarily through sales organizations which concentrate in the Tax-Advantaged
Annuity Internal Revenue Code 403(b) market. Annuity products generally focus on
the senior and retirement market. The Company's Tax Shelter Annuities, sold
largely to school teachers, involve people of various ages, some of whom are
senior, but most of whom are purchasing with retirement in mind. The American
Progressive single premium annuity sold in New York, which represents the bulk
of the Company's annuity production, has a seven-year surrender charge, a
one-year rate guarantee and a maximum commission of 6%. Further penetration of
the senior annuity market is also being considered.
All of the Company's annuity products provide minimum interest rate
guarantees. The minimum guaranteed rates on the Company's annuity products
currently range from 4.0% to 5.5% annually and the contracts are designed to
permit the Company to change the credited rates annually subject to the minimum
guaranteed rate. The Company takes into account the current interest rate
environment, the profitability of its annuity business and its relative
competitive position in determining the frequency and extent of changes to the
interest crediting rates.
Statutory premium production of new annuities amounted to $13.6
million, $12.0 million and $10.3 million in 1996, 1997, and 1998, respectively.
Individual Medical
The Company has approximately $16.3 million of annual premium in force
of individual medical business as of December 31, 1998. The Company continued to
market American Exchange's individual medical product, which is 75% reinsured to
an unaffiliated reinsurer. In 1998, $3.1 million annual premium inforce was
issued. The American Pioneer product is 50% reinsured to an unaffiliated
reinsurer and in 1998, $1.8 million annual premium inforce of American
Exchange's individual medical product was issued.
Previous Insurance Acquisition Activity
First National
In the fourth quarter of 1996, the Company acquired, through an
assumption reinsurance agreement, approximately $56 million of annualized senior
market premium from First National. American Pioneer initially contracted with
First National to assume $4.0 million of annualized premium on group Medicare
Supplement coverage issued to the members of the Florida Retired Educators
Association ("FREA"). Then, after First National was placed into Receivership by
the Alabama Insurance Department in October, 1996, American Pioneer assumed, in
addition to the FREA block, approximately $50 million of annualized Individual
Medicare Supplement premium, $1.2 million of annualized Home Health Care premium
and $0.8 million of annualized miscellaneous life and accident & health
insurance premiums, under terms negotiated with the Receiver. All of these
assumptions were effective as of October 1, 1996.
Simultaneously with the second assumption by American Pioneer, American
Pioneer entered into a reinsurance agreement with Transamerica Occidental Life
Insurance Company ("Transamerica"), ceding 90% of the $50.0 million individual
Medicare Supplement premium in force to Transamerica. American Pioneer performs
all the administration on the reinsured business. In addition to the premium
acquired, First National had active relationships with about 1,000 senior market
producers in Florida and 2,000 agents in other states. American Pioneer
recruited certain of these producers, especially in Florida, to sell senior
market products for American Pioneer.
Finally, in order to insure a smooth transition and to take advantage
of the relatively low cost operating environment in Pensacola, Florida the
Company acquired or leased most of the physical operating assets used by First
National, including computer hardware and software, and hired many of First
National's Pensacola administrative employees.
American Exchange Life Insurance Company
On December 4, 1997, the Company acquired American Exchange for $6.6
million in cash. Both the Texas and Florida Insurance Departments approved the
acquisition. American Exchange, which is licensed in Texas and one other state,
had premium revenues in excess of $16.5 million, primarily in Medicare
Supplement and other limited benefit accident & health products and had 19,800
policies in force and 1,000 insurance agents, all based in Texas.
Dallas General Medicare Supplement Block
On March 19, 1998, the Company acquired a $12.6 million block of annual
premium in force of Medicare Supplement business from Dallas General, effective
January 1, 1998. The business was assumed by American Pioneer, with the approval
of the Texas and Florida Departments of Insurance. The Dallas General block had
approximately 10,000 policies in force produced by approximately 400 agents, all
in Texas.
Other
In 1994 American Progressive acquired, by means of reinsurance, blocks
of supplemental health insurance with annualized premiums of approximately $1.3
million. In these transactions, American Progressive assumed all liability under
the reinsured policies incurred after January 1, 1994, in exchange for its
receipt from the ceding company of cash equal to the unearned premium and active
lives reserves on the reinsured business, net of a $60 thousand ceding
commission, and future premium payments from the insureds.
In May 1993, American Progressive acquired 100% of the outstanding
stock of American Pioneer, based in Orlando, Florida, which sold life and
accident & health insurance in 33 states, primarily in the southeast. American
Pioneer's parent, American Pioneer Savings and Loan Association, had been under
the control of the Resolution Trust Company ("RTC") since May 1990. American
Pioneer had an adjusted statutory book value (book value plus asset valuation
reserve) of approximately $7.5 million and a GAAP stockholder's equity of
approximately $14.4 million when it was purchased by American Progressive for
$6.8 million in cash. By December 31, 1998, American Pioneer's adjusted
statutory book value had increased to approximately $12.6 million and its GAAP
stockholder's equity was $22.4 million. In 1998 American Pioneer became a direct
subsidiary of Universal (see "Unstacking").
In May 1991, the Company, through John Adams Life Insurance Company
("John Adams"), then its only insurance company subsidiary, acquired 100% of the
outstanding common stock of American Progressive, into which John Adams then
merged on June 27, 1991, with American Progressive as the surviving company.
American Progressive was acquired from Midland National Life Insurance Company
("Midland") for (a) a cash payment of $4.2 million, and (b) 510,000 shares ($10
par value) of the Company's Series A cumulative, redeemable, convertible
preferred stock ("Series A Preferred Stock"), for a total purchase price of $9.3
million. (The Series A Preferred Stock was redeemed by the Company on December
30, 1994.) American Progressive's statutory book value immediately prior to
acquisition was approximately $9.2 million and its GAAP stockholder's equity was
approximately $9.7 million. As of December 31, 1998, the adjusted statutory book
value was approximately $9.7 million and the GAAP stockholder's equity was
approximately $25.3 million. American Progressive, domiciled in New York and
licensed in 24 other states, historically concentrated on the sale of individual
accident & health insurance products primarily in New York and the northeastern
United States.
Restructuring Activity
Beginning in late 1996 and continuing throughout 1998, the Company
implemented a plan to consolidate the administration of its accident & health
business for all of the Insurance Subsidiaries in Pensacola. Simultaneously, the
Company consolidated the administration if its life and annuity business in
Orlando.
As part of its decision to concentrate its marketing effort on the
Senior Market, the Company decided to discontinue certain lines of business and
reduce its emphasis on others to take advantage of the low-cost operating
environment of its new location in Pensacola.
Consolidation of Administrative Operations
As part of the First National transaction, the Company acquired in
Pensacola a relatively low cost administrative operation with particular
experience in the senior market. This had given the Company an opportunity to
consolidate many of its administrative functions in Pensacola and reduce a
significant amount of fixed overhead costs.
In December 1996, the Company formulated a plan to move most of
American Progressive's policy administrative functions, particularly in its
senior market business, from its office in Brewster, NY to Pensacola. This,
along with other cost saving efforts, resulted in a reduction in the work force
at the American Progressive office from 62 as of June 30, 1996 to approximately
25 as of December 31, 1997, with a modest resultant increase in personnel in
Pensacola, including some personnel employed by American Progressive. In
December 1996, these plans were announced to certain key individuals who were to
be relocated under this reorganization. The remaining employees who were to be
terminated were notified in March 1997. The cost of this consolidation,
including severance costs, relocation costs and the non-renewal fee on the
Brewster office lease, was approximately $0.3 million and was expensed in the
fourth quarter of 1996. The Company saved $0.8 million in 1998 as a result of
this reorganization, which savings should continue in the future.
Modified Premium Term Life Insurance ("Flex-A-Vest 88")
Flex-A-Vest 88 is a ten-year term product with an endowment payable
after the 10th year. It is designed for the middle income market as a method to
provide insurance coverage and a vehicle for retirement or college tuition
funding. In 1998 American Pioneer entered into an assumption reinsurance
agreement to reinsure 100% of this business.
This program, sold by American Pioneer and marketed exclusively by
Interstate Specialty Marketing, Inc. of Tustin, California, began in late 1994
and is now being sold actively in several states. In states where American
Pioneer is not licensed, an arrangement has been made with Pennsylvania Life
Insurance Company ("Pennsylvania Life"), a subsidiary of PFG that issues the
product and reinsures a portion of each case to the Company.
The Company will continue to write this product and reinsure 100% of
the business until the assuming company obtains regulatory approvals on the
product. American Pioneer also administers the product on a fee-basis and
maintains the relationship with the national marketing organization. Including
the premium reinsured from Pennsylvania Life, American Pioneer issued $2.2
million, $1.3 million and $2.5 million of premiums in 1996, 1997 and 1998,
respectively.
Sale of DBL Block
Although American Progressive continued to achieve modest success in
selling New York State Statutory Disability Insurance ("DBL"), the Company
determined that the book of business was too small and growing too slowly to
become a major contributor to the profits of the Company. Therefore, American
Progressive sold the block, which had approximately $5 million of annual premium
in force, to an unaffiliated New York domiciled carrier as of December 31, 1996.
The purchase price amounted to $0.8 million.
Withdrawal from NAIU Pool
Effective January 1, 1994, American Progressive entered into a pooling
agreement through National Accident Insurance Underwriters ("NAIU"), an
unaffiliated agency, and three unaffiliated insurers to underwrite travel
accident and student accident insurance policies. The results of the pool were
erratic, therefore, in August 1996, the Company decided to allocate its capital
and efforts in its core business segments. The Company notified the accident
pool of its intention to withdraw effective December 31, 1996. As of December
31, 1996, American Progressive had approximately $8 million of annual premium in
force under this arrangement, all of which had been assumed from the other pool
participants.
Sale of Dental Block
The Company executed an agreement, with an unaffiliated insurer, to
100% reinsure its group dental block of business effective September 1, 1997.
The block had annual premium in force of $7.8 million. In 1997, the Company
received an initial ceding allowance of $0.2 million and anticipates receiving
additional allowances totaling $0.5 million over a five-year period. In 1998,
$0.1 million of the anticipated $0.5 million was received. The Company will
continue to perform the administration on the business for a fee.
Premium Revenue
Life Insurance and Annuities
The following table sets forth a summary of life premium revenues and
annuity considerations on first year and renewal basis for the three years ended
December 31, 1998, as determined in accordance with statutory accounting
principles ("SAP"). These amounts differ from the premiums reported in the
accompanying consolidated statement of operations, since under GAAP, the annuity
and universal life insurance policies are reported under the retrospective
deposit method prescribed by the Financial Accounting Standards Board ("FASB")
Statement No. 97 "Accounting and Reporting by Insurance Enterprises for Certain
Long-Duration Contracts and for Realized Gains and Losses from the Sales of
Investments" ("Statement No. 97"). (i.e. under GAAP, amounts attributable to
asset accumulation and components of interest-sensitive products are excluded
from premiums. See Note 2e of Notes to Consolidated Financial Statements for
further information).
<TABLE>
Year Ended December 31,
----------------------------------------------------
1996 1997(1), (2) 1998 (2)
---------------- ----------------- ---------------
(Amounts in accordance with statutory accounting principles)
<S> <C> <C> <C>
Life Insurance
-----------------------------------------
Premium received,
policies written in current year $ 10,437,377 $11,037,680 $9,013,052
Premium received,
policies written in prior year 12,206,343 14,279,692 14,626,581
---------------- ----------------- ---------------
Total Life Premium 22,643,720 25,317,372 23,639,633
---------------- ----------------- ---------------
Annuities
-----------------------------------------
Consideration received,
policies written in current year 13,004,354 10,816,588 10,352,887
Consideration received,
policies written in prior years 618,739 988,552 1,031,745
---------------- ----------------- ---------------
Total Annuity Consideration 13,623,093 11,805,140 11,384,632
---------------- ----------------- ---------------
Total Consideration and Premium $ 36,266,813 $37,122,512 $35,024,265
================ ================= ===============
</TABLE>
- ---------------------------------------------------------------------
(1) The 1997 figures include the premium revenues of American Exchange from
December 4, 1997, the date of its acquisition, which amounted to $22,559.
(2) The life insurance amount includes premiums received on asset enhancer
business assumed from West Coast Life, which amounts to $5,584,520 and
$5,195,076 in 1997 and 1998, respectively.
The following table presents information with respect to the Company's
number of policies in force and experience in terms of numbers of policies
issued, and reduced for surrenders, lapses or deaths for annuity and life
insurance:
<TABLE>
1996 1997 1998
------------ ------------ ------------
<S> <C> <C> <C>
Life Insurance Policies
-----------------------------------------
In force, beginning of year 26,642 27,930 32,606
Acquired from First National 286 - -
Acquired from American Exchange - 3,993
Issued during year 4,407 5,116 8,507
Lapsed or surrendered during year (3,193) (4,216) (6,141)
Deaths during year (212) (217) (334)
------------ ------------ ------------
In force, end of year 27,930 32,606 34,638
============ ============ ============
Annuity Policies
-----------------------------------------
In force, beginning of year 5,437 6,833 7,332
Acquired from First National 40 - -
Issued during year 2,119 2,856 3,559
Deaths and surrenders during year (763) (2,357) (2,352)
------------ ------------ ------------
In force, end of year 6,833 7,332 8,539
============ ============ ============
</TABLE>
Accident & Health Insurance
The following table sets forth a summary of accident & health premium
revenues for the three years ended December 31, 1998:
<TABLE>
Year Ended December 31,
--------------------------------------------------------
1996 1997 (2) 1998
----------------- ---------------- -----------------
<S> <C> <C> <C>
Premium received on policies
Written in current year $9,805,305 $12,284,517 $22,469,857
Premium received on policies
Written in prior years (1) 35,047,929 62,802,770 96,224,501
----------------- ---------------- -----------------
Total Accident & Health Premium $44,853,234 $75,087,287 $118,694,358
================= ================ =================
</TABLE>
- ----------------------------------------------------------------------
(1) The 1996 figures include the premium revenues of First National
from October 1, 1996, the date of its acquisition, which amounted,
to $13,498,122. The 1997 figure includes the full year of premium
revenue of First National's policies that amounted to $51,187,027.
(2) The 1997 figures include the premium revenues of American Exchange
from December 4, 1997, the date of its acquisition, which amounted
to $473,892 and $941,235 current year and renewal year,
respectively.
Private Placement Financing
Series C Preferred Stock
During the second and third quarters of 1997, the Company, pursuant to
a stock purchase agreement between the Company and A.A.M. Capital Partners L.P.
("AAM"), issued 43,750 shares (par value $100) of Series C Preferred Stock for
$4.4 million, of which $2.4 million was purchased by UAFC L.P., an investment
partnership affiliated with AAM, $0.6 million by Chase Equity Partners, L.P.,
and $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. This transaction received the approval of the Florida
Insurance Department.
During the third quarter of 1997, the Company issued an additional
7,930 shares of Series C Preferred Stock to owners and employees of Ameri-Life &
Health Services, an independent marketing organization that sells the Company's
senior market products, for $0.8 million.
Under the terms of the Series C Preferred Stock, the Company had the
right to require conversion of the Series C - 1 and Series C - 2 Preferred Stock
into the Company's common stock at a conversion price of $2.375 per share if the
average reported bid price of its common stock during any 60 day period in 1999
exceeds $3.45 per common share. This condition was satisfied as of March 5, 1999
and all of the 51,680 outstanding shares of Series C Preferred Stock will be
converted to 2,176,000 shares of common stock effective in April 1999.
The Company, AAM, the holders of the Series C Preferred Stock and the
common stock issued upon conversion, Barasch Associates Limited Partnership
("BALP") and Richard A. Barasch entered into a stockholders' agreement at the
closing of the transaction which contained the following conditions:
o The holders of the Series C Preferred Stock were given registration rights and
informational rights.
o BALP and Mr. Barasch granted the Series C holders a co-sale right with
respect to their Series C Preferred Stock and the common stock issued upon
conversion 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
closing of the Capital Z Transaction.
Series D Preferred Stock
On December 31, 1998, the Company contracted to sell 40,000 shares 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-1, 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 requires regulatory
approval, the conversion will be postponed until such approval is obtained or
ceases to be required. The pending Capital Z Transaction will be a "change of
control" within the meaning of the terms of the Series D Preferred Stock.
On March 25, 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 UAFC L.P.'s
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 shareholder 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 such conditions are satisfied
or are no longer applicable. If the pending Capital Z Transaction closes, no
approval of the conversion of the Series D Preferred Stock will be required,
because the UAFC, L.P. will, after conversion of the Series D Preferred Stock,
hold less than 10% of Universal's then outstanding stock. If the Capital Z
Transaction does not close, the Company anticipates that it will obtain the
required approval of a change of control or determination that no change of
control is involved in the conversion of the Series D Preferred Stock.
The stockholder agreement applicable to the Series C Preferred Stock
also applies to the Series D Preferred Stock.
Unstacking
When American Pioneer was acquired in 1993, it became a direct
subsidiary of American Progressive. This ownership structure (the "stacking")
significantly reduced the Risk-Based Capital ratio of American Progressive as
computed by the regulators and the rating agencies and adversely affected the
ratings of both companies and their ability to write new business.
Universal and American Progressive entered into an agreement with the
consent of the New York Insurance Department on June 27, 1996 (the "Unstacking
Agreement") in which Universal was obligated to purchase all of the outstanding
stock of American Pioneer from American Progressive over a five-year period for
a total purchase price of $15.8 million. The Unstacking Agreement was intended
to make American Pioneer a direct subsidiary of Universal, rather than an
indirect subsidiary, owned through American Progressive. This unstacking
increased the surplus of American Progressive, improved its Risk Based Capital
Ratio and, to the extent that American Pioneer is able to pay dividends, permits
the payment of such dividends directly to Universal.
The unstacking was consummated between September 1997 and May 1998. In
the unstacking Universal acquired all of the outstanding stock of American
Pioneer from American Progressive for $15.8 million, half in cash and half in
debentures payable to American Progressive. The debentures pay interest
quarterly at the rate of 8.5% and are due between September 2002 and May 2003
The cash portion of the unstacking was paid by Universal from the proceeds of
the Series C Preferred Stock transaction with AAM, a dividend from American
Pioneer, from the proceeds of a loan from Chase Manhattan Bank and cash
generated by the operation of its subsidiary WorldNet Services Corp. See
"Liquidity and Capital Resources -- The Company".
The stock of the American Pioneer is held in a trust account at Chase
Manhattan Bank as collateral to the inter-company notes between Universal and
American Progressive. Any dividend paid by the American Pioneer to Universal is
required to be used to pay down the principal of the inter-company notes.
Marketing and Distribution
Historically, the Insurance Subsidiaries sold their products through a
traditional general agency system. The Company now, however, seeks to structure
arrangements with independent marketing organizations, licensed as general
agents, that sell particular products and programs meeting particular market
niches or needs. One such arrangement is with an organization that makes
individual sales of interest sensitive whole life insurance policies through
single or multi-year premium payments to middle age and senior age buyers.
American Pioneer has also entered into an agreement with West Coast Life, an A+
life insurance subsidiary of Protective Life Insurance Company, to be the lead
company for the sale of the Asset Enhancer products. The agreement calls for
American Pioneer, West Coast Life and Reinsurance Company of Hannover ("RCH") to
each participate in one-third of the risk and for American Pioneer to be the
administrator of the product on a fee basis. An arrangement with a marketing
organization in one state, which primarily sells Blue Cross/Blue Shield health
insurance, accounted for almost all of the Company's group life sales.
In 1998, no general agent produced as much as 5% of the Company's
accident & health insurance premiums or life insurance premiums and only one
general agent, Confidential Planning Inc., produced more than 10% of the
Company's annuity premiums (10%). The agents, general agents and producers are
paid purely on a commission basis and are not Company employees. In this
marketing area, the Company believes that the Company offers competitive
commission rates and seeks to provide innovative products and quality service to
its independent general agents. In particular, the Company believes that it
provides a higher level of agent support and is more responsive to its agents in
the field than many larger organizations with which it competes. The various
State Departments of Insurance regulates compensation that the Company pays its
agents on certain products.
The Company, through the Insurance Subsidiaries, is licensed to market
its products in 45 states and in the District of Columbia. However,
approximately 80% of its 1998 premium and annuity considerations came from the
states of Florida (33%), Texas (22%), New York (15%), North Carolina (4%),
Alabama (3%), and Georgia (3%).
Competition
The Company competes with other insurance and financial services
companies, including large multi-line organizations, both in connection with the
sale of insurance and asset accumulation products and in acquiring blocks of
business. Many of these organizations have substantially greater capital and
surplus, larger and more diversified portfolios of life and health insurance
policies, larger agency sales operations and higher ratings. In addition, it has
become increasingly difficult for small companies to compete effectively with
their larger competitors for traditional life and annuity sales in part as a
result of heightened consumer and agent awareness of the financial size of
companies.
The Company has met, and seeks to continue to meet, these competitive
pressures by offering a high level of service and accessibility to its field
force and by developing specialized products and marketing approaches.
Ratings
American Pioneer, American Progressive and American Exchange have been
designated "B+ (Very Good)", "B (Adequate)" and "B-(Adequate)", respectively, by
A.M. Best. In evaluating a company's financial and operating performance, A.M.
Best reviews profitability, leverage and liquidity as well as the quality of the
book of business, the adequacy and soundness of reinsurance programs, the
quality and estimated market value of assets, reserve adequacy and the
experience and competence of management. A.M. Best's ratings are based upon
factors relevant to policyholders, agents, insurance brokers and intermediaries
and are not directed to the protection of investors. According to A.M. Best's
published material, a "B+", "B" or "B-" rating is assigned to companies which,
in its opinion, have demonstrated very good (B+) or adequate (B), (B-) overall
performance when compared to the standards it has established. Companies rated
(B+) have a good ability to meet their obligations to policyholders. "B" and
"B-" rated companies have an adequate ability to meet their policyholder
obligations, but their financial strength is vulnerable to adverse changes in
underwriting or economic conditions. Standard and Poors rates American Pioneer,
American Progressive and American Exchange as "BBq", "Bq" and "BBBq",
respectively, which means that, based on their publicly available information,
they are currently able to meet policyholder obligations, although, as to "Bq",
that ability is especially vulnerable to adverse economic and underwriting
conditions. The Insurance Subsidiaries are not currently known to be rated by
the Duff and Phelps or Moody's rating organizations. Although a higher rating by
A.M. Best or another insurance rating organization could have a favorable effect
on the Company's business, management believes that its marketing has enabled,
and will continue to enable, the Insurance Subsidiaries to compete effectively.
Underwriting Procedures
Premiums charged on insurance products are based, in part, on
assumptions about the expected mortality and morbidity experience. In that
regard, the Company has adopted and follows detailed uniform underwriting
procedures designed to assess and quantify certain insurance risks before
issuing individual life insurance, certain health insurance policies and certain
annuity policies to individuals. These procedures are generally based on
industry practices, reinsurer underwriting manuals and the Company's prior
underwriting experience. To implement these procedures, the Insurance
Subsidiaries employ an experienced professional underwriting staff.
Applications for insurance to be underwritten are reviewed to determine
if any additional information is required to make an underwriting decision,
which depends on the type and amount of insurance applied for and the
applicant's age and medical history. Such additional information may include
medical examinations, statements from doctors who have treated the applicant in
the past and, where indicated, special medical tests. If deemed necessary, the
Company uses investigative services to supplement and substantiate information.
For certain coverages, the Company may verify information with the applicant by
telephone. After reviewing the information collected, the Company either issues
the policy as applied for, issues the policy with an extra premium charge due to
unfavorable factors, issues the policy excluding benefits for certain conditions
for a period of time or rejects the application. For certain of its coverages,
the Company has adopted simplified policy issue procedures in which the
applicant submits a single application for coverage typically containing only a
few health-related questions instead of a complete medical history. In New York
and other states, certain of the Company's products, including Medicare
supplement, are subject to "Community Rating" laws which severely limit or
prevent underwriting of individual applications. See "Regulation - Health Care
Reform".
Acquired Immune Deficiency Syndrome ("AIDS"), which has received wide
publicity because of its serious public health implications, presents special
concerns to the life and health insurance industry. The Company considers AIDS
information in underwriting and pricing decisions in accordance with applicable
laws. Applicants for life insurance coverage equal to or exceeding $100,000 and
for major medical and major hospital coverages must submit to a blood or urine
test, which includes AIDS antibody screening. The Company's own mortality and
morbidity experience to date reflects no unduly adverse impact as a result of
any acceleration of AIDS-related life insurance claims. The Company is
continuing to monitor developments in this area but is necessarily unable to
predict the long-term impact of this problem on the life insurance industry, in
general, or on the Company, in particular.
Investments
The following table summarizes the Company's investment portfolio as of
December 31, 1997 and 1998:
Investment Portfolio
<TABLE>
December 31,1997 December 31,1998
----------------------------------- -----------------------------------
Percent of Percent of
Carrying Value Total Carrying Value Total
(Fair Value) Carrying Value (Fair Value) Carrying Value
---------------- ---------------- ---------------- -----------------
<S> <C> <C> <C> <C>
Fixed Maturity Securities:
U.S. Government and
government agencies $ 11,026,445 6.92% $ 6,597,556 4.01%
Mortgage and asset backed 58,725,145 36.83% 63,488,878 38.55%
Investment grade corporates 51,217,648 32.13% 61,354,623 37.26%
Non-investment grade corporates 2,616,470 1.64% 3,356,577 2.04%
---------------- ---------------- ---------------- -----------------
Total fixed maturity securities 123,585,708 77.52% 134,797,634 81.86%
Cash and cash equivalents 25,014,019 15.69% 17,092,938 10.38%
Other Investments:
Policy loans 7,185,014 4.51% 7,276,163 4.42%
Mortgage loans 2,562,008 1.60% 4,456,516 2.71%
Real property tax liens 136,713 0.09% 30,696 0.02%
Equity securities 945,116 0.59% 1,019,780 0.61%
---------------- ---------------- ---------------- -----------------
Total invested assets $159,428,578 100.00% $164,673,727 100.00%
================ ================ ================ =================
</TABLE>
The following table shows the distribution of the contractual
maturities of the Company's portfolio of fixed maturity securities by carrying
value as of December 31, 1998. Expected maturities will differ from contractual
maturities because borrowers may have the right to call or prepay obligations
with or without call or prepayment penalties:
Contractual Maturities of Fixed Maturity Securities
<TABLE>
Percent of
Carrying Total Fixed
Available for Sale Value Maturities
----------------- -----------------
<S> <C> <C>
Due in 1 year or less $ 2,782,948 2.05%
Due after 1 year through 5 years 24,514,144 18.19%
Due after 5 years through 10 years 24,246,138 17.99%
Due after 10 years 17,115,927 12.70%
Mortgage and asset backed securities 66,138,477 49.07%
----------------- -----------------
$134,797,634 100.00%
================= =================
</TABLE>
The following table shows the distribution by carrying value of the
Company's fixed maturity securities portfolio according to the ratings assigned
by Standard & Poor's Corporation, along with related estimated fair values, as
of December 31 1997, and 1998:
Distribution of Fixed Maturity Securities by Rating
<TABLE>
December 31, 1997 December 31, 1998
---------------------------------- ----------------------------------
Carrying % of Carrying % of
Standard & Value Total Value Total
Poor's (Estimated Fixed (Estimated Fixed
Rating Fair Value) Investment Fair Value) Investment
--------------- ----------------- -------------- ------------------ -------------
<S> <C> <C> <C> <C>
AAA $55,914,846 45.24% $ 57,517,532 42.67%
AA 7,713,721 6.25% 14,781,849 10.97%
A 31,225,481 25.27% 32,444,179 24.07%
BBB 26,115,190 21.13% 26,697,497 19.80%
BB 2,218,232 1.79% 2,346,394 1.74%
B 398,238 0.32% - -
CCC - - 1,010,183 0.75%
----------------- -------------- ------------------ -------------
Total $123,585,708 100.00% $134,797,634 100.00%
================= ============== ================== =============
</TABLE>
At December 31, 1997 and 1998, 97.9% and 97.5%, respectively, of the
Company's fixed maturity investments were investment grade corporate fixed
maturity securities (i.e., those rated "BBB-" or higher by Standard & Poor's
Corporation or "Baa3" or higher by Moody's Investors Service). This included
approximately $42.8 million, at December 31, 1997, and $46.8 million, at
December 31, 1998, of collateralized mortgage obligations secured by residential
mortgages. These amounts represented approximately 35% of the Company's fixed
maturity portfolio at December 31, 1997 and 1998, respectively. Certain classes
of mortgage-backed securities are subject to significant prepayment risk. This
is due to the fact that in periods of declining interest rates, mortgages may be
repaid more rapidly than scheduled, as individuals refinance higher rate
mortgages to take advantage of the lower rates then available. As a result,
holders of mortgage-backed securities may receive higher prepayments on their
investments, which they may not be able to reinvest at an interest rate
comparable to the rate paid on such mortgage-backed securities. At December 31,
1997 and 1998, less than investment grade fixed maturity securities had
aggregate carrying values (held at fair value) of $2.6 million and $3.3 million,
respectively, amounting to 1.9% and 2.3%, respectively, of total investments and
1.0% and 1.2%, respectively, of total assets. The Company's holdings of less
than investment grade corporate fixed maturity securities are diversified and
the investment in any one such security at both December 31, 1997 and 1998 was
less than $1.0 million, which was approximately 0.4% of total assets as of each
date. The Company wrote down the value of certain securities, considered to have
been subject to an-other-than temporary decline in value, by $0.6 million in
1998, which was included in net realized gains on investments in the
consolidated statements of operations. The Company did not write down the value
of any securities during 1996 and 1997.
Investment Income
Investment income is an important part of the Company's total revenues
and profitability. Management cannot predict the impact that changes in future
interest rates will have on the Company's financial statements.
The following table shows the investment results of the Company's total
invested asset portfolio, for the three years ended December 31, 1998 (excluding
the realized gain on the sale of a non-operating subsidiary in 1997):
<TABLE>
Investment Results
Years Ended December 31,
--------------------------------------------------------------
1996 1997 1998
------------------- -------------------- -------------------
<S> <C> <C> <C>
Total invested assets, end of period $144,681,269 $ 159,428,478 $ 164,723,727
Net investment income $ 9,850,083 $ 10,022,658 $ 10,721,351
Yield on average cash and investments 7.08% 6.81% 6.67%
Net realized investment gains
on the sale of securities $ 240,075 $ 563,047 $ 255,671
</TABLE>
Reserves
In accordance with applicable insurance regulations, the Company has
established, and carries as liabilities in its statutory financial statements,
actuarially determined reserves that are calculated to satisfy its policy and
contract obligations. Reserves, together with premiums to be received on
outstanding policies and contracts and interest thereon at certain assumed
rates, are calculated to be sufficient to satisfy policy and contract
obligations. The actuarial factors used in determining such reserves are based
on statutorily prescribed mortality tables and interest rates. Reserves
maintained also include unearned premiums, premium deposits, reserves for claims
that have been reported but are not yet paid, reserves for management's estimate
for claims that have been incurred but have not yet been reported and claims in
the process of settlement.
The reserves reflected in the Company's consolidated financial
statements are calculated in accordance with GAAP. These reserves are based upon
the Company's best estimates of mortality and morbidity, persistency, expenses
and investment income, with appropriate provisions for adverse deviation. The
Company uses the net level premium method for all non-interest-sensitive
products and the retrospective deposit method for interest-sensitive products.
GAAP reserves differ from statutory reserves due to the use of different
assumptions regarding mortality and morbidity, and interest rates and the
introduction of lapse assumptions into the GAAP reserve calculation. (See Notes
2e and 2f to the Notes to the Financial Statements).
Reinsurance
Assumption of Asset Enhancer from West Coast Life
Beginning in 1997, the Company began to assume asset enhancer business
written by West Coast Life. The agreement calls for West Coast Life to retain
33.3% of the business written and cede the remaining 66.7% to Reassurance
Company of Hannover ("RCH"). RCH, in turn, cedes 50% of this amount to American
Pioneer, so all companies share in one-third of the risk. Under the agreement,
American Pioneer performs all the underwriting and administration of the
business for a fee. The underlying assets, which are maintained in a trust
account, are managed by West Coast Life pursuant to the recommendation of an
investment committee which is comprised of a representative from each company.
Total premiums issued on this business in 1997 and 1998, on a statutory basis,
amounted to $15.6 million and $11.2 million, respectively, for single-pay and
$3.4 million and $1.4 million, respectively, for multiple-pay business.
Assumption from First National
In the fourth quarter of 1996, the Company acquired, through an
assumption reinsurance agreement, approximately $56 million of annualized senior
market premium from First National. American Pioneer initially contracted with
First National to assume $4 million of annualized premium on group Medicare
Supplement coverage issued to the members of FREA. (See "Previous Insurance
Acquisition Activity").
Other Assumed
As part of its strategy of acquiring blocks of business, the Company
has acquired several blocks of business through reinsurance.
American Progressive participates in a modified coinsurance agreement
with an unaffiliated insurer under an agreement entered into in 1986. The
business assumed consists of non-participating premium-paying Whole Life and
increasing premium Whole Life policies. At December 31, 1998, premiums in force
ceded to American Progressive under this arrangement were approximately $0.4
million, the amount of insurance in force was approximately $22.3 million and
the reserves assumed were approximately $4.7 million.
In 1994, the Company assumed 100% of the risk and premium on certain
accident & health insurance policies written by three insurers not affiliated
with the Company: North American Company for Life and Health Insurance, North
American Company for Life and Health Insurance of New York and Baptist Life
Insurance Company of New York. At December 31, 1998, the premium in force on
these policies was approximately $0.7 million.
Ceded
Consistent with the general practice of the life insurance industry,
the Company reinsures portions of the coverage provided by its life insurance
products to unaffiliated insurance companies under various reinsurance
agreements. Such agreements allow the Company to write policies in amounts
larger than the risk it is willing to retain on any one life, and to continue
writing a larger volume of new business. The mortality risk retention limit on
each policy varies generally between $25,000 and $75,000. The Company cedes
insurance primarily on an "automatic" basis and receives allowances from its
reinsurers ranging from 100% to 142% of the reinsurers' premium in the first
policy year and at varying rates of up to 40% in renewal years. Reinsurance is
not maintained on any of the annuity policies in force.
The Company has "excess of loss" reinsurance agreements with
unaffiliated insurance companies on its accident & health insurance policies to
reduce the liability on individual risks to $60,000 at American Pioneer,
$200,000 at American Progressive and $50,000 at American Exchange. In 1996 the
Company effected a "quota share" reinsurance agreement with another unaffiliated
reinsurer to cede 50% of the remaining $60,000 of individual accident & health
insurance risk at American Pioneer. The limited benefit medical risks at
American Exchange are 75% reinsured to an unaffiliated reinsurer.
The Company reinsures, on a quota share basis to unaffiliated
reinsurers, certain of its new senior accident & health business as follows:
American Pioneer Medicare supplement - 75%; American Progressive Medicare
supplement - 50%; American Progressive hospital indemnity - 25%; and American
Exchange Medicare supplement - 75%. The Company's long term care products
(nursing home and home health care) are 75% reinsured to an unaffiliated
reinsurer with stop loss coverage after the third benefit year. The Company's
managed care home health care product is 30% reinsured with an unaffiliated
reinsurer. Under these various treaties, the Company performs all the
underwriting and administration and receives various allowances for commission
and expenses. In addition, the Company has a quota share agreement on its
Accidental Death and Dismemberment policies under which the reinsurer receives
90% of all premiums and pays 90% of all losses and the Company receives
allowances ranging from 20%-30% of the ceded premium. American Pioneer also
reinsures all of the risk in excess of two years of benefits on certain
disability income policies.
As part of its restructuring, the Company sold all of its New York
Statutory DBL, Group Dental and Deposit Term Life Insurance in force to
unaffiliated insurers. (See "Restructuring Activity").
The Company is contingently liable to pay claims in the unlikely event
that a reinsurer fails to meet its obligations under the reinsurance agreement.
The Company's primary reinsurers are currently rated A+ (Superior) and A
(Excellent) by A.M. Best. To the Company's knowledge, no reinsurer of business
ceded by the Company has been unable to pay any policy claims on any reinsured
business. The reinsurance agreements are subject to cancellation on 90 days
notice as to future business, but policies reinsured prior to such cancellation
remain reinsured as long as they remain in force. Management believes that if
its reinsurance agreements were canceled it would be able to obtain other
reinsurance arrangements on satisfactory terms to enable it to continue writing
new business.
WorldNet
General
WorldNet is a fee-based company whose primary services are to act as a
third party administrator and service provider to the Insurance Subsidiaries and
other non-related companies. WorldNet also provides valuable support to the
Company's underwriters, making telephone contact with potential insureds and
verifying potential insureds' information on life and accident & health
applications.
In addition, WorldNet provides services to unaffiliated companies for
medical managed care and assistance to people traveling away from their homes.
These, and other related services, are sold by WorldNet to insurance companies
(for their insureds), credit card companies (for their card members) and
associations (for their members).
Restructuring
WorldNet was formed in 1992 when Universal acquired the assets and
client base of a firm that provided claims administration, managed care and
traveler's medical assistance to insurance companies (foreign and domestic) and
affinity groups including credit card companies. The revenues of WorldNet grew
from 1992 through 1995, in part due to acquisition, but WorldNet sustained
significant operating losses. In 1996, Universal imposed a two part
restructuring effort in WorldNet. The first part of the restructuring resulted
in a reduction in revenue through the termination of unprofitable contracts, but
also reduced its operating losses. The second part of the restructuring
incorporated into WorldNet's corporate structure a low-cost administrative
facility in Pensacola, Florida which the Company acquired the First National
transaction. This has enabled WorldNet to expand its capacity to service the
Insurance Subsidiaries as well as unaffiliated third parties. As a result of the
addition of the revenues from the Insurance Subsidiaries, amounting to
approximately 74% of WorldNet's revenues, WorldNet showed an operating profit of
$2.0 million in 1998 and $0.9 million in 1997, after incurring losses of $0.2
million in 1996.
Operations
WorldNet operated a 24-hour multi-lingual communications center in Bay
Harbour, Florida. This office entered into a joint venture with Security Health
Providers, Inc. in December 1998 (see below). WorldNet has a third party
administrative office in Pensacola, Florida. As of December 31, 1998, the Bay
Harbour location had 40 full time employees and the Pensacola location had 126
full time employees. The company has developed and acquired proprietary software
applications that have been customized for its market.
Revenues
WorldNet's revenues for years ended December 31, 1996, 1997 and 1998
were as follows:
<TABLE>
Year Ended December 31,
--------------------------------------------------------
1996 1997 1998
----------------- ---------------- ----------------
<S> <C> <C> <C>
Pensacola administrative revenue (1) $ - $ 5,318,242 $ 6,916,153
Managed care and claims adjudication 1,513,962 1,583,933 1,269,713
Travel and other assistance 658,379 355,640 354,028
----------------- ---------------- ----------------
$ 2,172,341 $ 7,257,815 $ 8,539,894
================= ================ ================
</TABLE>
- --------------------------------------------------------------
(1) Included in the 1997 and 1998 Pensacola revenue amount is
$5,230,574 and $6,450,794, respectively, of fees earned from the
Insurance Subsidiaries, which fees were eliminated in the
consolidated financial statements.
In November 1998, the Company's subsidiary (WorldNet's third party
administrator and travelers assistance business conducted at its Bay Harbour
Island location) entered into a joint venture with Security Health Care
Providers, Inc. ("SHP"), a Delaware corporation and contributed the assets used
in that business. In consideration for these assets, the Company received SHP
common and preferred stock constituting 50% of SHP's common and preferred stock
outstanding after the closing of the transaction and $574,800 in 14% convertible
demand notes of SHP.
SHP is in the business of providing information services to senior
citizens regarding, among other things, long-term care, assisted living
facilities nursing homes, medical care providers, and other services. SHP offers
group rate discounts for such services to persons who join various membership
programs of SHP. It receives fees both from its members and from the providers
of the discounted services, based on the use of the services by the members.
After this transaction, SHP has continued to operate the business purchased from
WorldNet out of WorldNet's Bay Harbour Island location, hiring WorldNet
employees who provided services at that location, and has moved SHP's previous
operation in Oakbrook, Illinois to the Bay Harbour Island location.
Regulation
General
The Insurance Subsidiaries, like other insurance companies, are subject
to the laws, regulations and supervision of the states in which they are
domiciled (New York in the case of American Progressive, Florida in the case of
American Pioneer and Texas in the case of American Exchange) and in various
other states in which they are authorized to transact business. The purpose of
such laws and regulations is primarily to provide safeguards for policyholders
rather than to protect the interest of stockholders.
The insurance laws regulate, among other things, capitalization,
permissible investments, premium rates on health insurance policy forms, the
form and content of policies which may be offered, specified methods of
accounting (statutory accounting or SAP) for detailed financial statements
submitted to the various Insurance Departments and minimum capital and surplus
required to continue in operation.
Most states have enacted legislation or adopted administrative
regulations covering such matters as the acquisition of control of insurance
companies and transactions between insurance companies and the persons
controlling them. Additional requirements are often imposed as a condition of
approval of the acquisition of an insurance company, as occurred in the case of
the Company's acquisition of American Pioneer, American Progressive and American
Exchange. The nature and extent of the legislation and administrative
regulations now in effect vary from state to state and most states require
administrative approval of the acquisition of control of an insurance company
incorporated in the state, whether by tender offer, exchange of securities,
merger or otherwise, and require the filing of detailed information regarding
the acquiring parties and the plan of acquisition. The approval of the
domiciliary insurance department is also required before a controlling interest
(10% as to New York and Texas, 5% as to Florida) of an insurance company, or of
a holding company which owns such an insurance company, can be acquired or
transferred. Every insurance company which is authorized to do business in the
state and is a member of an "insurance holding company system" is generally
required to register as such with the insurance regulatory authorities and file
periodic reports concerning its relationships with the insurance holding
company. Material transactions between registered insurance companies and
members of the holding company system are required to be "fair and reasonable"
and in some cases are subject to administrative approval, and the books,
accounts and records of each party are required to be so maintained as to
clearly and accurately disclose the precise nature and details of the
transactions.
Each Insurance Subsidiary is required to file detailed reports with the
insurance department of each state in which it is licensed to conduct business
and its books and records are subject to examination by each such insurance
department. In accordance with the insurance codes of their domiciliary states
and the rules and practices of the National Association of Insurance
Commissioners ("NAIC"), the Insurance Subsidiaries are examined periodically by
examiners of New York, Florida, Texas and by representatives (on an
"association" or "zone" basis) of the other states in which they are licensed to
do business. American Progressive was examined in 1995 for the three years ended
December 31, 1994 by the New York State Insurance Department and is currently
under examination for the three years ended December 31, 1997. American Pioneer
was examined in 1997 for the year ended December 31, 1995 by the Florida
Insurance Department. American Exchange was examined in 1995 for the year ended
December 31, 1994 by the Texas Insurance Department and is currently under
examination for the year ended December 31, 1996. The Company has complied with
all recommendations made in reports on such examinations, and no issues were
raised which the Company deems to be material.
Many states require deposits of assets for the protection of
policyholders either in those states or for all policyholders. At December 31,
1997 and 1998, securities totaling $7.1 million and $7.7 million, respectively
(approximately 5.3% and 5.2%, respectively, of the carrying value of the
Company's invested assets), were on deposit with various state treasurers or
custodians. Such deposits must consist of securities that comply with the
standards established by the particular state.
Codification of Statutory Accounting Practices
The NAIC is in the process of codifying statutory accounting practices
("Codification"). Codification will likely change, to some extent, prescribed
statutory accounting practices and may result in changes to the accounting
practices that the Insurance Subsidiaries use to prepare its statutory-basis
financial statements. Codification, which is expected to be approved by the NAIC
in 1999, will require adoption by the various states before it becomes the
prescribed statutory basis of accounting for insurance companies domesticated
within those states. Accordingly, before Codification becomes effective for the
Insurance Subsidiaries, the Florida, New York and Texas Insurance Departments
must adopt Codification as the prescribed basis of accounting on which domestic
insurers must report their statutory-basis results to the Insurance Department.
At this time it is unclear whether the Florida, New York and Texas Insurance
Departments will adopt Codification. However, based on current draft guidance,
management believes that the impact of Codification will not be material to the
Insurance Subsidiaries' statutory-basis financial statements.
Insurance Regulatory Changes
The NAIC and state insurance regulators have recently become involved
in a process of re-examining existing laws and regulations and their application
to insurance companies. This re-examination has focused on insurance company
investment and solvency issues, risk-based capital guidelines, assumption
reinsurance, interpretations of existing laws, the development of new laws, the
interpretation of nonstatutory guidelines, and the circumstances under which
dividends may be paid. The NAIC has encouraged states to adopt model NAIC laws
on specific topics such as holding company regulations and the definition of
extraordinary dividends. It is not possible to predict the future impact of
changing state regulation on the operations of the Company.
The statutory filings of American Progressive, American Pioneer and
American Exchange require classifications of investments, the maintenance of an
asset valuation reserve ("AVR") and that investment gains and losses resulting
from changes in interest rate levels be deferred and taken into income over a
period of years through the interest maintenance reserve ("IMR"). Similar
requirements are not required under GAAP.
The AVR and IMR of the Insurance Subsidiaries as of December 31, 1997
and 1998 were:
1997 1998
------------- -------------
American Progressive
AVR $438,371 $ 786,721
IMR $752,285 $1,050,711
American Pioneer
AVR $ 316,674 $ 407,246
IMR $ 62,361 $ 288,051
American Exchange
AVR $ 10,877 $11,356
IMR $ - $ 433
Since 1993 New York State has required that all health insurance sold
to individuals and groups with less than 50 employees, to be offered on an open
enrollment and community rated basis. Such insurance may continue to be sold to
groups with more than 50 employees on an underwriting basis, with premium set to
reflect expected or actual results. The community rating aspect of the law
prohibits the use of age, sex, health or occupational factors in rating and
requires that the same average rate be used for all persons with the same policy
residing in the same location. The Medicare supplement actively marketed by
American Progressive in New York State and some of its in force business is
subject to the community rating rules. The extension of such legislation to
Florida and Texas, where significant medically underwritten health insurance is
offered, might cause a reconsideration of the Company's existing health care
coverage offerings.
Dividend and Distribution Restrictions
Under the New York State Insurance Law, the declaration or payment of a
dividend by American Progressive requires the approval of the New York
Superintendent of Insurance, who, as a matter of present policy, would not
approve such payment until American Progressive had generated sufficient
statutory profits to offset its entire negative unassigned surplus, which was
approximately $8.8 million at December 31, 1998.
Under current Florida State insurance law, a life insurer may pay a
dividend or make a distribution without the prior written approval of the
department when:
a) the dividend is paid from that portion of the accumulated and
available surplus of the Company as is derived from the net
operating profits of its business and its net realized capital gains;
b) the dividend is no more than the greater of (i) 10% of the
insurer's surplus as to policyholders derived from net
operating profits on its business and net realized capital
gains; or (ii) the insurer's entire net operating profits
and realized net capital gains derived during the
immediately preceding calendar year;
c) the insurer will have surplus as to policyholders equal to
or exceeding 115% of the minimum required statutory
surplus as to policyholders after the dividend or
distribution is made; and
d) the insurer has filed notice with the department at least 10 business
days prior to the dividend payment or distribution.
American Pioneer has the capacity to pay dividends of approximately
$0.2 million during the year ending December 31, 1999. American Pioneer paid
dividends of $0.5 million and $0.2 million to American Progressive in 1996 and
1997, respectively, and a dividend of $.4 million was paid to Universal in 1997.
Under current Texas insurance law, a life insurer may pay dividends or
make distributions without the prior approval of the Insurance Department as
long as the dividend distributions do not exceed the greater of (i) 10% of the
insurer's surplus as to policyholders as of the preceding December 31st; or (ii)
the insurer's net gain from operations for the immediately preceding calendar
year.
Risk-Based Capital Requirements
Effective December 31, 1993, the NAIC adopted new risk-based capital
("RBC") requirements, which have also been adopted in New York, Florida and
Texas. These are intended to provide for a measurement of statutory capital and
surplus needs based on the risks in a company's mix of products and investment
portfolio. As of December 31, 1997 and 1998, American Progressive's ratios of
total adjusted capital to RBC, based on the NAIC approved model, were
approximately 484% and 633% of the Authorized Control Level, respectively. As of
December 31, 1997 and 1998, American Pioneer's ratios of total adjusted capital
to RBC, based on the NAIC approved model, were approximately 495% and 568% of
the Authorized Control Level, respectively. As of December 31, 1997 and 1998,
American Exchange's ratios of total adjusted capital to RBC, based on the NAIC
approved model, were approximately 227% and 1,781% of the Authorized Control
Level, respectively.
Guaranty Association Assessments
All states require insurance companies to participate in guaranty
associations designed to cover certain claims against insolvent insurers. The
incurrence and amount of such assessments have increased in recent years and are
generally expected to increase further in future years. American Progressive and
American Pioneer were assessed and paid approximately $(1,000) (refund) and
$31,000 in 1997 and $60,000 and $67,000, respectively, in 1998. American
Exchange was assessed and paid approximately $36,000 in 1998. The likelihood and
amount of any other future assessments are now unknown and are beyond the
control of the Company.
Health Care Reform
From time to time, numerous proposals have been introduced in Congress
and the state legislatures to reform the current health care system. Proposals
have included, among other things, employer-based insurance systems, subsidized
premiums for lower income people, "managed competition" among health plans,
programs to regulate policy availability, affordability of public and private
programs and expansion of Medicare to persons under-age 65. Changes in health
care policy could significantly affect the Company's health insurance business.
In 1996, Congress enacted the Kennedy-Kassenbaum Act, which, among
other changes, restricts the ability of insurers to utilize medical underwriting
and pre-existing condition provisions in certain health insurance policies
issued to persons who were previously insured under qualifying policies. These
changes, which became effective in stages, may have an effect on some of the
Company's policies.
Whether or not Congress passes any further health reform measures in
the foreseeable future, it is likely that health reform will continue to
reappear on the legislative agenda in the future. Such additional healthcare
reform proposals also could require standardization of major medical or
long-term care coverages, impose mandated or target loss ratios or rate
regulation, require the use of community rating or other means that further
limit the ability of insurers to differentiate among risks, or mandate
utilization review or other managed care concepts to determine what benefits
would be paid by insurers. These or other proposals could increase or decrease
the level of competition among health insurers. In addition, changes could be
made in Medicare that could necessitate revisions in the Company's Medicare
Supplement products. Other potential initiatives, designed to tax insurance
premiums or shift medical care costs from government to private insurers, could
have effects on the Company's business, some of them adverse. The Company is
unable to predict what changes to the country's health care system will be
enacted, if any, or their effects on the Company's business. See "Regulation".
Other Possible Changes in Legislation
Since insurance is a regulated business, with a high public profile, it
is always possible that legislation may be enacted which would have an adverse
effect on the Company's business.
An important portion of the Company's insurance business is the sale of
deferred annuities and certain life insurance products, which are attractive to
purchasers in part because policyholders generally are not subject to federal
income tax on increases in the value of an annuity or life insurance contract
until some form of distribution is made from the contract. From time to time,
Congress has considered proposals to reduce or eliminate the tax advantages of
annuities and life insurance, which, if enacted, might have an adverse effect on
the ability of the Company to sell the affected products in the future. The
Company is not aware that Congress is actively considering any legislation that
would reduce or eliminate the tax advantages of annuities or life insurance;
however, it is possible that the tax treatment of annuities or life insurance
could change by legislation or other means (for example, by Internal Revenue
Service regulations or judicial decisions).
Certain changes in insurance and tax laws and regulations could have a
material adverse effect on the operations of insurance companies. Specific
regulatory developments which could have a material adverse effect on the
operation of the insurance industry include, but are not limited to, the
potential repeal of the McCarran-Ferguson Act (which exempts insurance companies
from a variety of federal regulatory requirements), and adoption of laws, such
as those already in force in New York, limiting an insurer's ability to
medically underwrite and rate health insurance policies or to exclude
pre-existing conditions from coverage. In addition, the administration of such
regulations is vested in state agencies that have broad powers and are concerned
primarily with the protection of policyholders.
<PAGE>
Employees
At December 31, 1998, the Company employed approximately 265 employees,
none of whom are represented by a labor union. The Company considers its
relations with its employees to be satisfactory.
MANAGEMENT
Directors and Executive Officers of the Company and Officers of the Subsidiaries
The following table sets forth certain information concerning the
Directors and Officers of the Company and the Officers of the subsidiaries:
<TABLE>
Position with the Company,
Present Principal Occupation or Employment
Name Age and Past Five-Year Employment History
<S> <C> <C>
Richard A. Barasch 45 Director, Chairman of the Board (since December 1997), President and Chief Executive
Officer of the Company; Director and President of American Progressive; and Chairman
of the Board of American Pioneer, WorldNet and Security Health. Mr. Barasch has
been a director and executive officer of the Company since July 1988, President
since April 1991 and Chief Executive Officer since June 15, 1995. He has held his
positions with the Company's subsidiaries since their acquisition or organization by
the Company. Term as a Director expires in 2000.
Robert A. Waegelein, C.P.A. 38 Senior Vice President and Chief Financial Officer of the Company (since October
1990) and of the Company's subsidiaries since they were acquired or organized.
Prior to that, Mr. Waegelein, a certified public accountant, was employed by KPMG
Peat Marwick LLP, the Company's then independent public accountants, in positions of
increasing responsibility, finally serving as Senior Manager.
Gary W. Bryant, C.P.A. 49 President, CEO and Director of American Pioneer since April 1983 and Senior Vice
President of the Company since June 15, 1995.
William E. Wehner, C.L.U. 55 Executive Vice President and Chief Operating Officer of American Progressive since
May 1991. Mr. Wehner was employed for over twenty years by Mutual Life Insurance
Company of New York and its affiliates in positions of increasing responsibility,
finally serving as Vice President for Group Insurance.
Guy H. Hartman, FALU, C.L.U. 63 Vice President and Chief Underwriter (since January 1986) and Secretary (since
January 1994) of American Pioneer.
<PAGE>
Brad D. Leonard, F.S.A., M.A.A.A. 54 Vice President of the Company and Senior Vice President and Chief Actuary of
American Progressive and American Pioneer since January 1997. From December 1992 to
January 1997, Mr. Leonard was Vice President & Actuary of The Federal Home Life
Insurance Companies. Prior to December 1992, he was Senior Vice President and Chief
Actuary of American Heritage Life Insurance Company.
Sam Walden 59 Vice President - Information Systems of American Pioneer since November 1986.
Joan M. Ferrarone 59 Secretary of the Company and American Progressive since June 1995. Mrs. Ferrarone
has been employed by the Company since 1991 and by American Progressive since 1984
in positions of increasing responsibility.
Marvin Barasch 76 Chairman Emeritus of the Company (since December, 1997) and Vice-Chairman of
American Progressive (John Adams) since July 1988, Chairman of American Progressive
since June 1996 and a director of American Pioneer since May 1993. Mr. Barasch was
Chief Executive Officer of the Company from July 1988 to June 15, 1995. He has been
in the insurance business as an agent and broker for over 40 years. Term as a
Director expires in 2001.
Michael A. Barasch 43 Director of the Company since July 1988 and American Progressive (and its
predecessor, John Adams) from July 1988 to June 1995. Since February 1995, Mr.
Barasch has been a member of the law firm of Barasch and McGarry. He was a member
of the law firm of Altier and Barasch from February 1989 to February 1995. Term as
a Director expires in 1999.
David F. Bolger 66 Director of the Company since December 1992. Since 1966, Mr. Bolger has been Chief
Executive Officer of Bolger & Co., Inc., an investment banking firm. Term as a
Director expires in 1999.
Mark M. Harmeling 46 Director of the Company since July 1990 and Director of American Progressive since
December 1992. Mr. Harmeling has been Director of Sales and Marketing for Spanos
Companies since June 1997. He has served as President of Bay State Realty Advisors
since January 1994 and previously President of Intercontinental Real Estate
Corporation, a real estate management and development company for more than the past
five years. Mr. Harmeling is also a Director of the following companies: Rochester
Shoetree Corporation (since 1988) and Applied Extrusion Technologies (since 1987).
Term as a Director expires in 2001.
Bertram Harnett 75 Elected director of the Company and American Pioneer in June 1996 and had been a
director of the Company previously (July 29, 1988 to February 9, 1989). Mr. Harnett
is President of the law firm of Harnett Lesnick & Ripps P.A., Boca Raton, Florida,
and its predecessors since 1988, and a practicing lawyer since 1948. He is the
author of treatises on insurance law and is a former Justice of New York State
Supreme Court. Term as a director expires in 2001.
Walter L. Harris 47 Director of the Company since July 1993 and of American Progressive (and its
predecessor, John Adams) since July 1988. Since 1979, Mr. Harris has been President
of Tanenbaum-Harber Company, Inc., a general insurance brokerage firm. Term as a
Director expires in 1999.
Harry B. Henshel 78 Director of the Company since June 1992. Mr. Henshel has been Chairman of the Board
of the Bulova Corporation, a manufacturer of timepieces located in New York City,
for more than the past five years. Mr. Henshel is also a Director of Ponce Hotel
Corporation (since 1973) and Ampal Industries, Inc. (since 1983). Term as a Director
expires in 2000.
Patrick J. McLaughlin 40 Director of the Company since January 1995. Mr. McLaughlin has been Managing
Director of Emerald Capital Group, Ltd., an asset management and consulting firm
specializing in the insurance industry, since April 1993. Prior to that he was an
Executive Vice President and Chief Investment Officer of Life Partners Group, Inc.
(April 1990 to April 1993), Managing Director of Conning & Company (August 1989 to
April 1990) and Senior Vice President and Chief Investment Officer of ICH
Corporation (March 1987 to August 1989). Term as a Director expires in 2000.
Richard Veed 46 Director of the Company since April 25, 1997. Mr. Veed has been a Managing Partner
of AAM Investment Banking Group, Ltd. Since October 1993. Prior to that, he was
President of Guaranty Reassurance Corp. from September, 1992 to May, 1993 and a
Partner at Arthur Andersen & Co. from 1987 to August, 1992. He is also a Director
of HomeVest Financial Group, Inc., Wasatch Crest Group, Inc., and Wasatch Crest
Mutual Insurance Company. Term as Director expires in 1999.
Robert F. Wright 73 Director of the Company since June 1998. Mr. Wright has been President of Robert
F.Wright Associates, Inc. since 1988. Prior to that Mr. Wright was a partner of the
public accounting firm of Arthur Andersen & Co. from 1960 to 1988. Mr. Wright is
Director of Hanover Direct, Inc., Reliance Standard Life Insurance Company and its
affiliates, Deotexis, Inc., GVA Williams, The Navigators Group, Inc., Quadlogic
Controls Corp., Rose Technology Group Limited, and U.S. Timberlands Company, L.P.
He is also an advisory director of Quandrant Management, Inc. Term as a Director
expires in 2000.
</TABLE>
Michael Barasch is Marvin Barasch's son. Richard Barasch is Marvin
Barasch's nephew.
All of the executive officers listed above devote their full business
time to the Company.
All of the Company's and its subsidiaries' officers are
elected annually. The Company's directors are elected for three-year terms,
classified into three classes with the Directors in each class serving for three
years, with the terms staggered by class so that one class is elected at each
annual meeting of shareholders for a full three-year term. All officers and
directors hold office until their successors are duly elected and qualified,
subject to early removal by the Board.
The By-laws of the Company provide that the Board of Directors shall
set the number of directors and that the number of directors in each class shall
be equal, or as nearly as practical. The Company's Board of Directors consists
of eleven directors.
The Board of Directors has an Audit Committee, which also acts as a
Transactions Committee, consisting of Messrs. Bolger, Henshel, McLaughlin, Veed
and Wright, a Compensation Committee consisting of Messrs. Harmeling, Harris,
Veed and Wright and an Executive Committee consisting of Messrs. Marvin, Richard
and Michael Barasch, Bolger, Harnett and Veed. The Audit Committee is empowered
to consult with the Company's independent auditors with respect to their audit
plans and to review their audit report and the accompanying management letters
and, as the Transactions Committee, reviews and makes recommendations to the
Board on certain capital transactions entertained by the Company. The
Compensation Committee reviews and recommends compensation, including incentive
stock option grants, of officers of the Company. The Executive Committee has the
authority to act between Board meetings on behalf of the Board, on all matters
allowed by law.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Company and Wand Partners L.P., an affiliate of Wand/Universal
Investments L.P., I and II, the holders of all of the outstanding Series B
Preferred Stock, entered into a financial advisory agreement, dated December 30,
1994, under which such Wand affiliate renders advisory services to the Company
and is paid a fee of $100,000 per year for such services reduced by any
director's fees paid to the director designated by Wand. Such services and fees
are to continue as long as Wand owns 500,000 shares of Common Stock or common
stock equivalent.
Bertram Harnett, a director of the Company, is a shareholder in
Harnett, Lesnick & Ripps P.A. of Boca Raton, Florida, which was paid $317,864 in
1998 on account of its legal services to, as well as reimbursement for
disbursements made on behalf of, the Company.
Robert F. Wright, a director of the Company, is a shareholder and
President of Robert F. Wright Associates, Inc. of New York City, which was
paid $50,486 on account of its services as Chairman of the Audit
Committee, as well as reimbursement for disbursements made on behalf of the
Company.
Marvin Barasch, Chairman Emeritus and a director of the Company, is the
sole shareholder of Barco Associates Inc. of New York City, which was paid
$100,000 pursuant to a consulting agreement that expires on December 31, 1999.
ITEM 2 - PROPERTIES
The Company currently leases from unaffiliated parties: (i)
approximately 9,000 square feet of office space in Rye Brook, New York, under a
lease expiring in October 2004, (ii) 18,000 square feet in Orlando, Florida,
under a lease expiring in January 2002; (iii) 32,000 square feet in Pensacola,
Florida, under a lease expiring in November 2002, with two renewals at the
Company's option for a period of five years each; (iv) 3,000 square feet in
Dallas, Texas, under a lease expiring in March 2002 and (v) 4,000 square feet in
Bay Harbour, Florida, under a lease expiring in August 1999. These leases
represent the operating offices of American Progressive, American Pioneer,
American Exchange and WorldNet, respectively, and carry an aggregate annual
rental of approximately $750,000. The Company also leases a smaller office in
Andalusia, Alabama, for an aggregate annual rental of approximately $17,000.
ITEM 3 - LEGAL PROCEEDINGS
No reportable litigation was pending at December 31, 1998. The Company
is party to various lawsuits arising out of the ordinary conduct of its
business, none of which, the Company believes, would have a material adverse
effect upon the business of the Company if it were to be adversely determined.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted by the Company to a vote of
stockholders, through the solicitation of proxies or otherwise, during the
fourth quarter of the fiscal year for which this report is filed.
PART II
ITEM 5 - MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Price Range of Publicly Traded Securities
The Company's Common Stock has been traded in the over-the-counter
market and quoted on the Nasdaq National Market under the symbol UHCO since May
12, 1983. The 1999 Warrants have been so traded and so quoted, under the symbol
UHCOW, since September 1990. The following table sets forth the high and low
sales prices per share of Common Stock and 1999 Warrants as reported on the
Nasdaq National Market for the periods indicated.
<TABLE>
Common Stock 1999 Warrants
--------------------------- ------------------------
High Low High Low
------------ ------------ ------------------------
<S> <C> <C> <C> <C>
1996
- -----------------------------------------
First Quarter 3 1/8 2 1/4 1 1/2 1 1/4
Second Quarter 3 1/8 2 1 1/4 1 1/4
Third Quarter 3 1/8 2 31/32 1 3/4 1 1/4
Fourth Quarter 2 11/16 1 1/2 1 3/8 1 1/4
1997
- -----------------------------------------
First Quarter 2 31/64 1 3/4 1 9/32 1 1/8
Second Quarter 2 5/8 1 3/4 1 1/8 1 1/8
Third Quarter 2 5/8 1 7/8 1 3/8 1 1/8
Fourth Quarter 3 1/4 2 1 3/8 1 3/8
1998
- -----------------------------------------
First Quarter 3 2 3/8 1 3/8 1 3/8
Second Quarter 2 15/16 2 5/16 1 3/8 1 3/8
Third Quarter 2 7/8 2 1/8 2 1 1/4
Fourth Quarter 2 7/8 2 1 3/8 1 3/8
1999
- -----------------------------------------
First Quarter (through March 1) 4 1/4 2 13/16 3 3/4 1 7/8
</TABLE>
As of March 1, 1999, there were approximately 1,700 holders of the
Common Stock and 100 holders of the 1999 Warrants. On March 1, 1999, the bid and
ask sales prices for the Common Stock were $3 11/16 and $3 13/16, and for the
1999 Warrants were 2 3/8 and 3 7/8.
Dividends
The Company has neither declared nor paid dividends on its Common Stock
and no such dividends are likely in the foreseeable future. Any future decision
to pay dividends will be made by the Board of Directors in light of conditions
then existing, including the Company's results of operations, financial
condition and requirements, loan covenants, insurance regulatory restrictions,
business conditions and other factors. In addition, the ability of the Company
to pay cash dividends, if and when it should wish to do so, may depend on the
ability of its subsidiaries to pay dividends to the Company. See "Regulation
Dividend and Distribution Restrictions"
<PAGE>
ITEM 6 - SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data presented below should be read
in conjunction with the consolidated financial statements of the Company, the
related notes thereto and the auditors' report thereon and "Management's
Discussion and Analysis of Financial Condition and Results of Operations". The
selected consolidated financial data presented below as of, and for each of the
years ended December 31, 1994 and 1995 are derived from the consolidated
financial statements of the Company, which have been audited and reported upon
by KPMG LLP, independent certified public accountants. The selected consolidated
financial data presented below as of and for each of the years ended December
31, 1996 through 1998, have been audited and reported upon by Ernst & Young LLP,
independent certified public accountants. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations".
<TABLE>
Year ended December 31,
---------------------------------------------------------------------------
1994 1995 1996 (4) 1997 (5) 1998
------------- ------------- ------------- ------------- -------------
(In thousands, except for per share data)
<S> <C> <C> <C> <C> <C>
Income Statement Data:
Direct premium and policyholder fees $ 40,652 $ 46,145 $ 55,287 $ 99,339 $131,044
Reinsurance premium assumed 13,564 8,866 10,522 998 998
Reinsurance premium ceded (13,892) (18,200) (25,664) (62,623) (89,546)
------------- ------------- ------------- ------------- -------------
Net premium and other policyholder fees 40,324 36,811 40,145 37,714 42,496
Net investment income 9,239 8,945 9,850 10,023 10,721
Realized gains 42 674 240 1,133 256
Fee income 4,126 3,137 2,872 2,368 2,553
Other income 219 244 280 93 63
Total revenues 53,950 49,811 53,387 51,331 56,089
Total benefits, claims and
other deductions 51,712 47,161 53,014 48,119 52,157
Net income after taxes 2,228 2,642 104 2,119 3,932
Net income applicable to
common shareholders (1) 3,173 2,642 104 1,870 2,174
Earnings per share:
Basic 0.59 0.42 0.01 0.26 0.29
Diluted 0.37 0.25 0.01 0.18 0.20
December 31,
--------------------------------------------------------------------------
Balance Sheet Data: 1994 1995 1996 1997 1998
------------ ----------- ----------- ------------ ------------
(In thousands, except for per share data)
Total cash and investments $125,487 $135,603 $144,681 $ 159,429 $ 164,674
Total assets 164,862 182,994 242,237 272,575 283,302
Policyholder account balances 108,777 118,609 134,539 145,085 154,886
Series C Preferred Stock - - - 5,168 5,168
Series D Preferred Stock - - - - 2,250
Series B Preferred Stock 4,000 4,000 4,000 4,000 4,000
Stockholders' equity 15,321 24,114 22,079 25,706 28,318
Stockholders' equity per share of
Common Stock :
Basic (2) 1.83 2.89 2.53 2.96 3.18
Diluted (3) 1.66 2.30 2.12 2.39 2.59
</TABLE>
- ---------------------------------------------------------
(1) After provision for Series A Preferred Stock dividends of
$576,000 for the year ended December 31, 1994 and Series C Preferred
Stock dividends of $250,000 and $433,000 for the year ended December
31, 1997 and 1998, respectively.
(2) Basic stockholders' equity per share of common stock represents
stockholders' equity less the statement value of Series B Preferred Stock
divided by outstanding shares of common stock.
(3) Diluted stockholders' equity per share of common stock represents
stockholders' equity plus the statement value of the Series C Preferred
Stock, redemption accrual on the Series C Preferred Stock, the Series D
Preferred Stock, the proceeds from the exercise of outstanding options and
warrants divided by outstanding shares of common stock plus the stock
issued pursuant to the conversion of the Series B, Series C and Series D
Preferred Stock and the exercise of the options and warrants outstanding.
(4) Includes the results of the First National block of business since its
acquisition on October 1, 1996. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations".
(5) Includes the results of American Exchange since its acquisition on
December 1, 1997. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations".
<PAGE>
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The Company is an insurance holding company representing the strategic
combination of three life insurance companies, American Progressive, American
Pioneer and American Exchange, and WorldNet. Management is focused on growth,
both internal, through aggressive marketing and product development programs
directed at specialty life and accident & health insurance products, and by
seeking further acquisitions of insurance companies or blocks of business. It
also has embarked on a program to streamline operations through consolidation of
administrative and processing facilities.
The Insurance Subsidiaries had consolidated revenues of approximately
$51.1 million, $49.3 million and $53.7 million for the years ended December 31,
1996, 1997, and 1998, respectively, representing 95%, 96% and 96%, of the
Company's total revenues for each period, respectively. Although American
Progressive, domiciled in New York, primarily sells its products in New York and
the northeastern United States, American Pioneer, domiciled in Florida,
primarily sells its products in Florida and the southeastern United States and
American Exchange, domiciled in Texas, exclusively sells its products in Texas,
one or more of the Insurance Subsidiaries is licensed in 45 states and in the
District of Columbia.
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
Years Ended December 31, 1997 and 1998
The results of operations for the years ended December 31, 1997 and
1998 include the operations of American Progressive, American Pioneer and
WorldNet for the year ended December 31, 1997 and the operations of American
Exchange for the period December 4, 1997, the date of its acquisition, to
December 31, 1997. All references to per share amounts are on a diluted basis.
For the year ended December 31, 1998, the Company earned net income
after Federal income taxes of $2.6 million ($0.20 per share) compared to $2.1
million ($0.18 per share) in the prior year. Operating income before Federal
income taxes amounted to $3.9 million for the year ended December 31, 1998
compared to $3.2 million in the prior year. During 1997, the Company sold
Amerifirst Insurance Company, an inactive insurance company, for $3.4 million
and realized a pretax gain of $0.6 million ($0.4 million after tax or $0.03 per
share).
Revenues. Total revenues increased approximately $4.8 million to
approximately $56.1 million for the year ended December 31, 1998, compared to
total revenues of approximately $51.3 million in the prior year.
Gross premium and policyholder fees earned and reinsurance assumed
In the year ended December 31, 1998, the Company's gross premium and
policyholder fees earned (including reinsurance assumed) amounted to $132.0
million, a $31.7 million increase over the $100.3 million amount in 1997. This
gross premium increase is primarily related to the Company's acquisitions of the
stock of American Exchange in December 1997 ($19.5 million) and a Medicare
Supplement block of business from Dallas General effective January 1, 1998
($10.5 million). In addition, the gross earned premiums on the Company's
currently marketed programs increased as follows:
1998 Total
Product Premium Increase Premium Earned
------------------------------- ---------------- ---------------
(in millions) (in millions)
Senior market accident & health $ 9.79 $ 21.16
Senior market life insurance .91 3.30
Specialty life insurance 1.51 2.60
Specialty medical 3.25 6.35
Group life insurance - 3.39
--------------- --------------
Totals $ 15.46 $ 36.80
=============== ==============
These increases totaled $45.5 million and were offset by the decrease
in premiums on the products terminated and not currently marketed by the Company
as follows:
1998 Total
Product Premium Decrease Premium Earned
------------------------------- ---------------- --------------
(in millions) (in millions)
First National assumed business $ 3.95 $ 47.32
Non-marketed life insurance .53 6.74
Non-marketed accident & health 2.42 11.20
Group dental insurance 6.86 -
---------------- --------------
Totals $ 13.76 $ 65.26
================ ==============
In continuation of its restructuring activity the Company executed an
agreement, with an unaffiliated insurer, to 100% reinsure its group dental block
of business effective September 1, 1997. The Company will continue to perform
the administration on the business for a fee.
Reinsurance premiums ceded
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 year ended December
31, 1998 amounted to $89.5 million, a $26.9 million increase from the 1997
amount of $62.6 million. Details of the changes in reinsurance premiums ceded is
as follows:
Ceded Premium 1998 Total
Product Increase (Decrease) Premium Ceded
------------------------------- ------------------- --------------
(in millions) (in millions)
Business acquired
American Exchange $ 15.36 $ 15.36
Dallas General 8.41 8.41
Senior market accident & health 5.74 10.62
Senior market life insurance .51 1.67
Specialty life insurance .68 1.43
Specialty medical 2.90 5.71
First National assumed business (3.37) 38.38
Other lines (3.29) 7.96
------------------ --------------
Totals $ 26.94 $ 89.54
================== ==============
Investment related revenue
Net investment income of the Company increased $0.7 million to $10.7
million for the year ended December 31, 1998, compared to $10.0 million in 1997.
This increase is attributable to the increase in invested assets outstanding
during 1998 compared to 1997. Realized gains on investments amounted to $0.3
million for the year ended December 31, 1998 compared to $1.1 million in 1997.
Included in the 1998 amount is the $0.5 million write down of certain securities
determined by management to be permanently impaired. Included in the 1997 amount
is the $0.6 million realized gain on the sale of Amerifirst Insurance Company to
an unaffiliated third party.
Other revenue
Fee income amounted to $2.6 million for the year ended December 31,
1998, an increase of $0.2 million from the $2.4 million amount from 1997.
Benefits, Claims and Other Deductions. Total benefits, claims and other
deductions increased approximately $4.0 million to $52.2 million for the year
ended December 31, 1998, compared to $48.1 million for the year ended December
31, 1997.
Claims and other benefits increased $1.9 million to $25.6 million for
the year ended December 31, 1998 compared to $23.7 million in 1997. The change
in reserves for the year ended December 31, 1998 amounted to an increase of $5.4
million compared to an increase of $0.4 million in 1997 generating a variance of
$4.9 million. These increases in claims and change in reserves are the result of
the $4.8 million increase in net premiums earned for the year ended December 31,
1998 discussed above.
Interest credited to policyholders increased $0.6 million to $7.2
million, which increase is the result of more interest sensitive account values
in force, primarily from the sale of the Asset Enhancer product.
The change in deferred acquisition costs increased by $0.6 million for
the year ended December 31, 1998 compared to 1997. The amount of acquisition
costs capitalized increased $2.1 million from $6.7 million in 1997 to $8.8
million in 1998. The overall increase in capitalized costs is the result of the
increase in new premium production in the year ended December 31, 1998 compared
to 1997. The amortization of deferred acquisition costs increased $1.5 million
from $3.8 million in 1997 to $5.3 million in 1998. This increase is the result
of the increase in the asset balance. In the year ended December 31, 1998, the
Company amortized $0.2 million of goodwill generated in the acquisitions of
First National ($111,000) and American Exchange ($60,000) and $.2 million of
present value of future profits generated in the acquisitions of American
Exchange ($128,000) and Dallas General ($46,000).
Commissions increased $6.0 million in the year ended December 31, 1998
to $27.1 million, compared to $21.1 million in 1997. This increase is the direct
result of the $31.7 million increase in total premium discussed above.
Commissions and expense allowances on reinsurance ceded increased $10.9 million
in the year ended December 31, 1998 to $31.2 million, compared to $20.3 million
in 1997. This increase is the direct result of the $26.9 million increase in
reinsurance premium ceded discussed above.
Other operating costs and expenses increased $1.8 million in the year
ended December 31, 1998 to $21.2 million, compared to $19.4 million in 1997. The
insurance companies' expenses amounted to $19.8 million for the year ended
December 31, 1998 compared to $16.7 million in 1997, an increase of $3.1
million. This increase is the result of an increase of expenses incurred in
generating new business ($1.5 million) and the result of expenses incurred at
American Exchange ($.5 million), which was not owned by the Company in the 1997
period as well as an increase in TPA fees ($2.1 million). These increases were
offset by decreases in the general overhead incurred at the insurance companies
($1.1 million). The non-insurance companies' expenses decreased $0.3 million to
$1.3 million for the year December 31, 1998. This decrease in expenses incurred
by WorldNet ($1.1 million) offset by an increase in expenses incurred at the
Parent Company ($.6 million), which is primarily the interest expense on the new
loan outstanding and increased activity of the public company operations in 1998
relative to 1997.
Federal Income Tax Expense. Federal income tax expense increased
approximately $0.2 million to $1.3 million for the year ended December 31, 1998,
compared to $1.1 million for the year ended December 31, 1997. This increase is
the result of the increase in operating income before taxes to $3.9 million in
1998 from $3.2 million in 1997. The effective tax rate in 1998 was 33.7%
compared to 34.0% in 1997.
Years Ended December 31, 1996 and 1997
The results of operations for the years ended December 31, 1996 and
1997 include the operations of American Progressive, American Pioneer and
WorldNet for the year ended December 31, 1997 and the operations of American
Exchange for the period December 4, 1997, the date of its acquisition, to
December 31, 1997. All references to per share amounts are on a diluted basis.
For the year ended December 31, 1997, the Company earned net income
after Federal income taxes of $2.1 million ($0.18 per share) compared to $0.1
million ($0.01 per share) in the prior year. Operating income before Federal
income taxes amounted to $3.2 million for the year ended December 31, 1997
compared to $0.4 million in the prior year. In September 1997, the Company sold
AmeriFirst Insurance Company, an inactive insurance company, to an unaffiliated
third party, for $3.4 million and realized a pretax gain of $0.6 million ($0.4
million after tax or $0.03 per share).
Revenues. Total revenues decreased approximately $2.1 million to
approximately $51.3 million for the year ended December 31, 1997, compared to
total revenues of approximately $53.4 million in the prior year, which decrease
is primarily attributable to the Company's decision to restructure its
operations and exit certain product lines (See "Business - Restructuring
Activity").
Gross premium and policyholder fees earned and reinsurance assumed
In the year ended December 31, 1997, the Company's gross premium and
policyholder fees earned (including reinsurance assumed) amounted to $100.3
million, a $34.5 million increase over the $65.8 million amount in 1996. This
gross premium increase is significantly attributable to the increase of $37.1
million of premiums received on the policies assumed in the fourth quarter of
1996 from First National, which premiums amounted to $51.3 million in 1997
compared to $14.2 million in 1996. In addition, the gross premiums on the
Company's currently marketed programs increased as follows:
Product Premium Increase Premium Earned
--------------------------------- ---------------- ---------------
Senior market supplemental health $ 4.39 $ 11.37
Senior market life insurance .77 2.37
Group life insurance .12 3.41
---------------- ---------------
Totals $ 5.28 $ 17.15
================ ===============
In addition, other life insurance premium increased $2.1 million to
$8.4 million in 1997.
These increases totaled $44.5 million and were offset by the net
decrease in premiums on the products terminated and not currently marketed by
the Company. Effective December 31, 1996, the Company withdrew its participation
in the NAIU specialty accident & health insurance pool and also sold its New
York State DBL business in force. The decrease in premium from the exit from
these lines amounted to $11.2 million for the year ended December 31, 1997.
Effective September 1, 1997, the Company decided to exit the group dental
business and executed an agreement with an unaffiliated reinsurer to cede 100%
of all business earned after September 1, 1997. The premium will continue to be
received by American Pioneer and will be ceded to the reinsurer on a 100% quota
share basis. Gross premiums for the group dental business increased $1.1 million
in 1997.
Other accident & health insurance premiums increased $0.1 million for
the year ended December 31, 1997. Premiums on the international medical
insurance product (which was 90% and 95% reinsured to unaffiliated reinsurers in
1997 and 1996, respectively) increased $1.3 million in 1997, while the premiums
on the non-marketed accident & health products decreased $1.1 million in 1997.
Reinsurance premiums ceded
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 year ended December
31, 1997 amounted to $62.6 million a $37.0 million increase from the 1996 amount
of $25.7 million. Of this increase, $31.0 million relates to the business
acquired from First National, while $1.9 million relates to senior market
accident & health and $0.2 million relates to senior market life insurance. In
addition to these increases, the reinsurance on the international medical
insurance discussed above increased $1.1 million in 1997, while premiums ceded
on life insurance increased $2.2 million.
Effective January 1, 1997, the Company entered into a new reinsurance
agreement on American Pioneer's major medical/major hospital business. Under the
new treaty, the Company retains 50% of the first $60,000 in claims risk compared
to 25% under the prior agreement. As a result, premiums ceded on this product
decreased $1.7 million in 1997. Accident & health premiums ceded on the policies
not currently marketed also decreased $1.0 million.
In connection with the restructuring activity previously discussed,
reinsurance on the NAIU pool business amounted to $1.1 million and reinsurance
on the group dental business amounted to $2.2 million.
Net investment income of the Company increased $0.2 million to $10.0
million for the year ended December 31, 1997, compared to $9.9 million in the
prior year. Realized gains on investments amounted to $1.1 million for the year
ended December 31, 1997 compared to $0.2 million in the prior year. Included in
the 1997 amount is the $0.6 million gain realized on the sale of AmeriFirst
Insurance Company to an unaffiliated third party.
Other revenue
Fee income amounted to $2.4 million for the year ended December 31,
1997, a decrease of $0.5 million from the $2.9 million amount for the prior
year. This decrease is the result of the cancellation of WorldNet's Ontario Blue
Cross contract in 1996. The amortization of deferred revenue amounted to $93,000
for the year ended December 31, 1997, compared to $0.3 million in the prior
year. This $0.2 million decrease is the result of the full amortization of the
deferred revenue generated by the reinsurance of the major medical business on
June 30, 1995, which agreement was terminated by the reinsurer on December 31,
1996 (See "Business -Reinsurance Ceded").
Benefits, Claims and Other Deductions. Total benefits, claims and other
deductions decreased approximately $4.9 million to $48.1 million for the year
ended December 31, 1997, compared to $53.0 million in the prior year.
Claims and other benefits decreased $0.3 million to $23.7 million for
the year ended December 31, 1997 compared to $24.0 million in the prior year.
The increase in net claims on the business assumed from First National amounted
to $6.5 million, while net claims on the senior market accident & health
increased $0.8 million. As discussed above, the Company is retaining a higher
amount of major medical/major hospital business under a new reinsurance
agreement and, as a result, the Company's claims on this product increased $1.1
million to $2.2 million. (This increase corresponds to the $1.1 million increase
in retained premiums.) In addition, claims on the non-marketed accident & health
products increased $0.4 million in 1997.
These increases of $8.7 million were offset by decreases in the claims
incurred on the terminated businesses (NAIU - $4.2 million; New York State DBL -
$3.7 million; group dental - $0.9 million). The remaining decrease of $0.2
million represents a decrease in life insurance claims.
The change in reserves for the year ended December 31, 1997 amounted to
an increase of $0.4 million compared to an increase of $1.9 million in the prior
year generating a decrease of $1.4 million. Included in the 1996 change in
reserves is $0.3 million generated by the NAIU accident pool business that the
Company has exited. Interest credited to policyholders increased $32,000 to $6.6
million.
The change in deferred acquisition costs increased $0.7 million for the
year ended December 31, 1997 compared to 1996. The amount of acquisition costs
capitalized increased $1.7 million from $5.0 million in 1996 to $6.7 million in
1997. This increase is the result of the increase in new premium production in
the year ended December 31, 1997 compared to the prior year. The amortization of
deferred acquisition costs increased $1.0 million from $2.8 million in 1996 to
$3.8 million in 1997. This increase is the result of the increase in the asset
balance. In the year ended December 31, 1997, the Company amortized $0.1 million
of the goodwill generated in the First National acquisition.
Commissions increased $5.0 million in the year ended December 31, 1997
to $21.1 million, compared to $16.1 million in the prior year. This increase is
the direct result of the $34.5 million increase in gross premium earned
discussed above. Commissions and expense allowances on reinsurance ceded
increased $9.3 million for the year ended December 31, 1997 to $20.3 million,
compared to $11.4 million in the prior year. This increase is the direct result
of the $37.0 million increase in reinsurance premium ceded discussed above and
reduces the amounts of commissions and expenses capitalized for deferred
acquisition costs.
Other operating costs and expenses increased $1.7 million in the year
ended December 31, 1997 to $19.4 million, compared to $17.7 million in the prior
year. The non-insurance companies expenses decreased $0.3 million to $2.6
million for the year ended December 31, 1997 as a result of the decrease in
expenses incurred at WorldNet - Miami.
The insurance companies' expenses amounted to $16.8 million for the
year ended December 31, 1997 compared to $14.8 million in the prior year, an
increase of $2.0 million. Expenses incurred administrating the recently acquired
business from First National amounted to $4.3 million, while premium taxes
increased $0.8 million. These increases totaled $5.0 million and were offset by
the decrease in new business expenses of $0.3 million, general overhead of the
insurance companies of $1.1 million and expenses incurred by the NAIU pool of
$1.6 million.
Federal Income Tax Expense. Federal income tax expense increased
approximately $0.8 million to $1.1 million for the year ended December 31, 1997,
compared to $0.3 million for the year ended December 31, 1996. This increase is
the result of the increase in operating income before taxes to $3.2 million in
1997 from $0.4 million in 1996. The operating loss of the non-insurance
companies amounted to $0.6 million in 1996 and a valuation allowance was
recorded for this net operating loss. The effective tax rate in 1997 was 34.0%
compared to 72.3% in 1996 (29.1% after backing out the non-insurance companies
operating loss).
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 the bank loan entered into
on December 10, 1997, as amended on September 30, 1998.
On December 31, 1998 the Company issued 22,500 shares of Series D
Preferred Stock for $2.25 million. (See "Private Placement Financing-Series D
Preferred Stock). The proceeds were used to make a $1.0 million capital
contribution to American Pioneer on December 31, 1998 and for working capital,
In December 1997, the Company entered into an agreement with Chase
Manhattan Bank for a $3.5 million five-year, secured term loan and during the
nine months ended September 30, 1998, the Company made principal payments
totaling $0.4 million. The loan agreement called for interest at the London
Interbank Offered Rate ("LIBOR") plus 200 basis points. However, in order for it
hedge the interest rate risk on this loan agreement, the Company entered into a
three-year interest rate swap agreement, (the "Swap Agreement") with Chase
Securities Corp., effective January 1, 1998 and locked in a fixed interest rate
of 8.19%. During the nine months ended September 30, 1998, the Company paid $0.2
million in interest for the period December 4, 1997 to September 30, 1998.
On September 30, 1998, the Company executed the First Amendment to its
Credit Agreement with Chase Manhattan Bank, which Amendment refinanced the
current loan agreement with the bank. Under the Amendment, the Company executed
a new $5.0 million five-year secured term loan. The principle amount outstanding
on the prior loan was $3.2 million and was paid off with the proceeds of the new
loan. The new loan agreement calls for interest at the LIBOR plus 200 basis
points. The Company's three-year interest rate swap agreement with the Bank
remains in effect on the original $3.5 million loan, which locked in a fixed
interest rate on the refinanced loan of 7.8%. The effect of this swap agreement
was to increase interest expense by $24,000 in 1998. In the fourth quarter, the
Company paid $0.3 million in principal and $0.1 million in interest under the
amended loan agreement.
The loan remains to be secured by a first priority interest in all the
assets of WorldNet Services Corp. and Quincy Corp., a pledge of 9.9% of the
outstanding common shares of American Progressive and 100% of the shares of
Quincy Coverage Corp. The Company believes that the cash flow from WorldNet will
be able to sufficiently service the installment payments required by the loan
agreement.
In connection with the Unstacking Agreement (see "Business -
Unstacking"), Universal has $7.9 million in debentures outstanding to its
American Progressive subsidiary. The debentures pay interest quarterly at 8.5%
and are due between September 2002 and May 2003.
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. Although, there can be no assurance as to the expected
future cash flows or to the availability of dividends from American Pioneer.
Insurance Subsidiaries
American Progressive, American Pioneer and American Exchange 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 December 31,
1998 for the maintenance of authority to do business were $2.5 million, $2.7
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 December 31, 1998 the adjusted statutory
capital and surplus, including asset valuation reserve, of American Progressive,
American Pioneer and American Exchange was $9.7 million, $12.6 million and $3.8
million, respectively.
During 1998, the Company made capital contributions totaling $2 million
to American Pioneer. These amounts were generated by the proceeds of the First
Amendment to the Company's credit agreement and from the proceeds of the Series
D Preferred Stock issuance. The capital contributions were made to support the
growth in new business production at American Pioneer.
The NAIC risk based capital ("RBC") rules have been adopted by New
York, Florida and Texas. See "Regulation Risk-Based Capital Requirements." The
RBC rules provide for various actions when the ratio of a company's total
adjusted surplus to its RBC falls below 200%. At December 31, 1998, American
Progressive, American Pioneer and American Exchange had RBC ratios of
approximately 633%, 568% and 1,781% of the Authorized Control Level,
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 December 31, 1998 the Company held reserves that
exceeded the underlying cash surrender values of its in force life insurance and
annuities by more than $12.0 million. The insurance companies, in management's
view, have not experienced any material changes in surrender and withdrawal
activity in recent years.
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.
As a result of the decrease in economic interest rates, the net yield
on the Company's cash and invested assets decreased from 6.81% in 1997 to 6.67%
in 1998. 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 so as 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's policy
is not to 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 2.1% and 2.5% of total fixed maturities as of both December 31,
1997 and 1998, respectively). As of December 31, 1998 all securities were
current in the payment of principal and interest.
At December 31, 1998, the Insurance Subsidiaries held cash and cash
equivalents totaling $17.1 million, as well as fixed maturity and equity
securities that could readily be converted to cash with carrying values (and
fair values) of $135.8 million. The fair values of these liquid holdings totaled
more than $152.9 million.
Federal Income Taxation of the Company
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. At December 31, 1998 the Company (exclusive of
American Pioneer and American Exchange) had a net operating tax loss carry
forwards of approximately $11.6 million which expire in the years 1999 to 2012.
At December 31, 1998 the Company also had Alternative Minimum Tax (AMT) credit
carryforward for Federal income tax purposes of approximately $0.3 million which
can be used indefinitely.
American Pioneer and American Exchange file a separate consolidated
federal income tax return. At December 31, 1998 American Pioneer and American
Exchange had net operating tax loss carry forwards, most of them incurred prior
to their acquisition by the Company, of approximately $3.7 million which expire
in the years 1999 to 2013. As a result of changes in ownership of American
Pioneer in May 1993, use of most of the loss carry forwards of American Pioneer
are subject to annual limitations.
At December 31, 1997 and 1998, the Company has established valuation
allowances of $1,342,838 with respect to these net operating loss carryforwards
(deferred tax assets). The Company determines a 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. These changes resulted in the
Company increasing taxable income in the non-life companies by $1.2 million and
$0.4 million in 1997 and 1998, respectively. Management believes it is more
likely than not that the Company will realize the recorded net deferred tax
assets.
The Insurance Subsidiaries are taxed as life insurance companies as
provided in the Tax Code. The Omnibus Budget Reconciliation Act of 1990 amended
the Tax Code to require a portion of the expenses incurred in selling insurance
products to be capitalized and amortized over a period of years, as opposed to
an immediate deduction in the year incurred. Instead of measuring actual selling
expenses, the amount capitalized for tax purposes is based on a percentage of
premiums. In general, the capitalized amounts are subject to amortization over a
ten-year period. Since this change only affects the timing of the deductions, it
does not, assuming stability of rates, affect the provisions for taxes reflected
in the Company's financial statements prepared in accordance with GAAP. However,
by deferring deductions, the change does have the effect of increasing the
current tax expense, thereby reducing statutory surplus. Because of the
Insurance Subsidiaries' net operating loss carry forwards, there was no material
increase in the Company's current income tax provision for the three years ended
December 31, 1998 due to this provision.
The Clinton Administration has made two tax proposals relating to the
insurance industry that may have an impact on the Company. One proposal is to
require recapture of untaxed profits on policyholder surplus accounts. Between
1959 and 1983, stock life insurance companies deferred tax on a portion of their
profits. These untaxed profits were added to a policyholders surplus account
("PSA"). In 1984, Congress precluded life insurance companies from continuing to
defer taxes on any future profits. The Clinton Administration argues that there
is no continuing justification for permitting stock life companies to defer tax
on profits that were earned between 1959 and 1983. Accordingly, the stock life
companies would be required to include in their gross income over a ten years
their PSA balances. American Pioneer has $1.1 million of untaxed profits in its
PSA, while American Progressive and American Exchange have none.
A second proposal the Clinton Administration has made modifies the
rules for capitalizing policy acquisition costs of life insurance companies on
the grounds that life insurance companies generally only capitalize a fraction
of their actual policy acquisition costs. The proposed modifications to
capitalization percentages apply only to group or individual term life
insurance, non-pension annuity contracts, cash value life insurance, credit life
insurance and credit health insurance and are higher than the current
capitalization percentages. For the 1998 tax year, the Company had $44.3 million
of premium receipts subject to proposed modifications to capitalization
percentages.
The Company can not predict whether or not these proposals will pass or
pass in some modified form and, therefore, can not predict the impact caused by
these proposed tax changes.
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. It is anticipated that the
installation, testing and implementation of this upgrade will be completed by
March 31, 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 estimates that its plan to resolve the Year 2000 issue will
be completed by June 30, 1999, which is prior to any anticipated impact on its
operating systems, and that 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 Brooke)
to be able to handle 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.
Effects of Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued
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, 1999. Because of Universal'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.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments
of an Enterprise and Related Information" ("Statement 131"), effective for years
beginning after December 15, 1997, which Statement was adopted by the Company.
Statement 131 requires that a public company report financial and descriptive
information about its reportable operating segments pursuant to criteria that
differ from current accounting practice. Operating segments, as defined, are
components of an enterprise about which separate financial information is
available that is evaluated regularly by the chief operating decision-makers in
deciding how to allocate resources and in assessing performance. The financial
information reported includes segment profit and loss, certain revenue and
expense items and segment assets and reconciliations to corresponding amounts in
the general purpose financial statements. Statement 131 also requires
information about revenues from products or services, countries where the
Company has operations or assets, and major customers. The adoption of Statement
131 did not affect results of operations or financial position.
As of January 1, 1998, the Company adopted Statement 130, "Reporting
Comprehensive Income." Statement 130 establishes new rules for the reporting and
display of comprehensive income and its components; however, the adoption of
this Statement had no impact on Universal's net income or shareholders' equity.
Statement 130 requires unrealized gains or losses on Universal's
available-for-sale securities, which prior to adoption were reported separately
in shareholders' equity, to be included in other comprehensive income. Prior
year financial statements have been reclassified to conform to the requirements
of Statement 130.
ITEM 7A - 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 rate 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
December 31, 1998, 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 $5.3 million
and $10.6 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 $5.2 million and $11.0 million,
respectively.
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and supplementary schedules are listed in the
accompanying Index to Consolidated Financial Statements and Financial Statement
Schedules on Page F - 1.
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
PART III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors and executive officers of the
Registrant is set forth in Part I, Item 1, under the caption "Executive Officers
and Directors".
ITEM 11 - EXECUTIVE COMPENSATION
Information regarding executive compensation is incorporated by
reference to Universal American Financial Corp.'s definitive proxy statement to
be filed pursuant to Regulation 14A under the Securities Exchange Act of 1934
within 120 days after the end of the Company's fiscal year ended December 31,
1998.
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information regarding beneficial ownership of Universal American
Financial Corp.'s voting securities by directors, officers and persons who, to
the best knowledge of the Company, are known to be the beneficial owners of more
than 5% of the Company's voting securities as of December 31, 1998, is
incorporated by reference to Universal American Financial Corp.'s definitive
proxy statement to be filed pursuant to Regulation 14A under the Securities
Exchange Act of 1934 within 120 days after the end of the Company's fiscal year
ended December 31, 1998.
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information regarding certain relationships and related transactions is
incorporated by reference to Universal American Financial Corp.'s definitive
proxy statement to be filed pursuant to Regulation 14A under the Securities
Exchange Act of 1934 within 120 days after the end of the Company's fiscal year
ended December 31, 1998.
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) 1 and 2 Financial Statements and Financial Statement Schedules
See separate index to Financial Statements and Financial Statement
Schedules on Page F - 1.
3 Exhibits and Reports on Form 8-K
(a) Exhibits
3(a) Restated Certificate of Incorporation, consisting of:
(i) Restated Certificate of Incorporation filed
October 4, 1993, is hereby incorporated by
reference to Exhibit 3(a)(3) to Form 10-Q
dated November 11, 1994.
(ii) Certificate of Correction of Restated
Certificate of Incorporation, dated December
13, 1993, is hereby incorporated by
reference to Exhibit 3(a)(2) to Form 10-K
dated March 28, 1994.
(iii) Certificate of Amendment to Restated Certificate
of Incorporation relating to Series B Preferred
Stock, is hereby incorporated by reference
to Exhibit 3.2(III) to Form 8-K dated
January 18, 1995.
(iv) Certificate of Correction of the Certificate
of Amendment of the Certificate of
Incorporation relating to Series C-1 and C-2
Preferred Stock, filed April 23, 1997.
(v) Certificate of Amendment of the Certificate of
Incorporation of Universal American Financial
Corp. relating to Series D-1 and D-2 Preferred
Stock filed December 30, 1998.
3(b) By-Laws, as amended, are hereby incorporated by reference to
Exhibit 3(b) to Form 10-K for 1989.
4(a) Form of Warrant Certificate:
(i) for Warrants registered under the Exchange
Act of 1934, as amended, is hereby
incorporated by reference to Exhibit 4 to
Current Report on Form 8-K dated July 24,
1992; and
(ii) for Warrants not so registered under the
Exchange Act of 1934, is hereby incorporated
by reference to Exhibit 4.2 to Form S-1
filed March 30, 1990, as amended by the
Warrant Exchange Agreement dated July 15,
1992, filed as Exhibit 28(I) to Current
Report on Form 8-K dated July 24, 1992.
10(a) Stock Subscription Agreement as of August 12, 1994, between
Registrant and Wand/Universal L.P., as amended by Agreement
dated November 23, 1994 is incorporated by reference to
Exhibit 10(e) to Current Report on Form 8-K dated August 12,
1994 and Exhibit 10.4(1) to Current Report on Form 8-K dated
January 18, 1995.
10(b) Financial Advisory Agreement as of September 1, 1994 between
Registrant and Wand Partners L.P. is incorporated by reference
to Exhibit 10(f) to Current Report on Form 8-K dated August
12, 1994.
10(c) Shareholder Agreement among the Registrant, Wand/Universal
Investments L.P., Barasch Associates Limited Partners and
Others, dated December 30, 1994 is incorporated by reference
to Exhibit 10(d) to Form 10-K for 1994.
10(d) Special Commitments to the Superintendent of Insurance of the
State of New York, dated January 6, 1995, signed by:
(i) the Registrant, American Progressive, BALP and
NMRB Corp. and
(ii) WAND, Wand (Universal) Inc., David S.
Callard and Bruce W. Schnitzer are
incorporated by reference to Exhibit 10(e)
to Form 10-K for 1994.
10(e) Stock purchase agreement between Registrant and AAM Capital
Partners, L.P. dated July 7, 1997, including:
(i) Exhibit 10, proposed Certificate of Amendment
of Incorporation relating to Series C Preferred
Stock; and
(ii) Exhibit 11, proposed shareholder agreement.
Incorporated by reference to Exhibit 10(g) to Form 10K for
1996.
10(f) Stock Purchase Agreement among registrant, UAFC L.P. and Chase
Equity Partners L.P. entered into December 31, 1998 together
with side letter dated December 31, 1998 between Registrant
and AAM Capital Partners, L.P.
11 Computation of basic and diluted earnings per share,
incorporated by reference to Note 2j of Notes to Consolidated
Financial Statements for 1998, included in this Form 10K.
22 List of Subsidiaries:
<TABLE>
State of Percentage
Name Incorporation Owned
<S> <C> <C>
American Progressive Life & Health
Insurance Company of New York New York 100%
American Pioneer Life Insurance Company Florida 100%
American Exchange Life Insurance Company Texas 100%
Quincy Coverage Corporation New York 100%
WorldNet Services Corp. Florida 100%
Security Health Providers, Inc. Delaware 50%
</TABLE>
23(a) Consent of Ernst & Young LLP
(b) Reports on Form 8-K
None
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized on the 30th day of
March 1999.
UNIVERSAL AMERICAN FINANCIAL CORP.
(Registrant)
By: /s/ Richard A. Barasch
Richard A. Barasch
Chairman, President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below on March 30, 1999 bythe following persons in
the capacities indicated:
Signatures Title
/s/ Richard A. Barasch Chairman of the Board, President,
Richard A. Barasch Chief Executive Officer and Director
(Principal Executive Officer)
/s/ Robert A. Waegelein Senior Vice President and Chief
Robert A. Waegelein Financial Officer
(Principal Accounting Officer)
/s/ Marvin Barasch Chairman Emeritus and Director
Marvin Barasch
/s/ Michael A. Barasch Director
Michael A. Barasch
/s/ David F. Bolger Director
David F. Bolger
/s/ Mark M. Harmeling Director
Mark M. Harmeling
/s/ Bertram Harnett Director
Bertram Harnett
/s/ Walter L. Harris Director
Walter L. Harris
/s/ Harry B. Henshel Director
Harry B. Henshel
/s/ Patrick J. McLaughlin Director
Patrick J. McLaughlin
/s/ Richard Veed Director
Richard Veed
/s/ Robert F. Wright Director
Robert Wright
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED FINANCIAL STATEMENTS AND FINANCIAL
STATEMENT SCHEDULES OF THE REGISTRANT:
Independent Auditors' Reports F-2
Consolidated Balance Sheets as of December 31, 1997 and 1998 F-3
Consolidated Statements of Operations
for the Three Years Ended December 31, 1998 F-4
Consolidated Statements of Stockholders' Equity
for the Three Years Ended December 31, 1998 F-5
Consolidated Statements of Cash Flows
for the Three Years Ended December 31, 1998 F-6
Notes to Consolidated Financial Statements F-7
Schedule I -- Summary of Investments - other than investments in related parties
(incorporated in Note 5 to Consolidated Financial Statements)
Schedule II -- Condensed Financial Information of Registrant F-39
Schedule III -- Supplementary Insurance Information F-42
Schedule IV -- Reinsurance (incorporated in Note 11 of Notes to Consolidated
Financial Statements)
Other schedules were omitted because they were not applicable
<PAGE>
F-36
Independent Auditors' Report
The Board of Directors and Stockholders
Universal American Financial Corp.:
We have audited the accompanying consolidated balance sheets of Universal
American Financial Corp. and subsidiaries as of December 31, 1998 and 1997 and
the related consolidated statements of operations, stockholders' 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 as listed in the
Index at Item 14(a). These consolidated 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
Universal American Financial Corp. and subsidiaries at December 31, 1998 and
1997 and the consolidated results of its operations and its 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
New York, New York
March 30, 1999
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1997 and 1998
<TABLE>
ASSETS 1997 1998
------------- -------------
<S> <C> <C>
Investments (Notes 2c and 5)
Fixed maturities available for sale, at fair value
(amortized cost $121,119,346 and $132,227,114,
respectively) $123,585,708 $134,797,634
Equity securities, at fair value (cost $987,095 and
$1,063,186, respectively) 945,116 1,019,780
Policy loans 7,185,014 7,276,163
Property tax liens 136,713 30,696
Mortgage loans 2,562,008 4,456,516
------------- -------------
Total investments 134,414,559 147,580,789
Cash and cash equivalents 25,014,019 17,092,938
Accrued investment income 3,357,624 3,538,573
Deferred policy acquisition costs (Note 2d) 20,832,060 24,282,771
Amounts due from reinsurers (Note 11) 76,576,040 77,393,653
Due and unpaid premiums 548,271 525,909
Deferred income tax asset (Note 6) 105,413 -
Goodwill 4,508,596 4,354,584
Present value of future profits 1,281,807 1,569,601
Other assets 5,936,947 6,963,481
------------- -------------
Total assets 272,575,336 283,302,299
============= =============
LIABILITIES, Series C Preferred Stock, Redemption
accrual on Series C Preferred Stock, Series D Preferred
Stock AND STOCKHOLDERS' EQUITY
LIABILITIES
Policyholder account balances (Note 2e) 145,085,687 154,886,059
Reserves for future policy benefits 38,327,612 47,442,966
Policy and contract claims - life 1,167,213 2,297,446
Policy and contract claims - health 22,592,441 24,332,141
Loan payable (Note 12) 3,500,000 4,750,000
Amounts due to reinsurers 17,769,695 1,810,696
Deferred revenues 264,745 201,389
Deferred income tax liability (Note 6) - 1,218,547
Other liabilities 12,743,775 9,943,970
------------- -------------
Total liabilities 241,451,168 246,883,214
------------- -------------
Series C Preferred Stock (Issued and outstanding 51,680)
(Note 7) 5,168,000 5,168,000
------------- -------------
Redemption accrual on Series C Preferred Stock 249,790 683,214
------------- -------------
Series D Preferred Stock (Issued and outstanding 22,500)
(Note 8) - 2,250,000
-------------- ------------
Commitments and contingencies (Note 13)
STOCKHOLDERS' EQUITY (Note 9)
Series B Preferred Stock (Issued and outstanding 400) 4,000,000 4,000,000
Common stock (Authorized, 20,000,000 issued
and outstanding 7,325,860 and 7,638,057, respectively) 73,259 76,381
Common stock warrants (Authorized, issued and
outstanding 668,481 and 658,231, respectively) - -
Additional paid-in capital 15,992,497 16,410,412
Accumulated other comprehensive income 841,620 857,872
Retained earnings 4,799,002 6,973,206
------------- -------------
Total stockholders' equity 25,706,378 28,317,871
------------- -------------
Total liabilities, Series C Preferred Stock,
Redemption accrual on Series C Preferred Stock,
Series D Preferred Stock and stockholders' equity $272,575,336 $283,302,299
============= =============
</TABLE>
See notes to consolidated financial statements.
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Years Ended December 31, 1998
<TABLE>
REVENUE: (Notes 2e and f) 1996 1997 1998
----------- ----------- -----------
<S> <C> <C> <C>
Gross premiums and policyholder fees earned $55,286,610 $99,339,251 $131,044,411
Reinsurance premiums assumed 10,521,987 997,836 997,891
Reinsurance premiums ceded (25,663,224) (62,622,721) (89,546,238)
----------- ----------- -----------
Net premiums and policyholder fees earned
(Note 11) 40,145,373 37,714,366 42,496,064
Net investment income (Note 5) 9,850,083 10,022,658 10,721,351
Realized gains on investments (Note 5) 240,075 1,132,521 255,671
Fee income 2,871,319 2,367,763 2,552,664
Amortization of deferred revenue (Note 2g) 280,335 93,212 63,356
----------- ----------- -----------
Total revenues 53,387,185 51,330,520 56,089,106
----------- ----------- -----------
BENEFITS, CLAIMS AND OTHER DEDUCTIONS:
Increase in future policy
benefits 1,854,539 440,936 5,355,787
Claims and other benefits 24,042,876 23,719,208 25,638,642
Interest credited to policyholders 6,614,176 6,645,716 7,240,241
Increase in deferred acquisition costs (2,257,617) (2,945,672) (3,529,521)
Amortization of present value of future
profits - - 174,400
Amortization of goodwill - 111,819 170,898
Commissions 16,080,245 21,089,466 27,146,850
Commission and expense allowances
on reinsurance ceded (11,004,623) (20,300,483) (31,219,549)
Other operating costs and expenses 17,684,697 19,358,303 21,179,767
----------- ----------- -----------
Total benefits, claims and
other deductions 53,014,293 48,119,293 52,157,515
----------- ----------- -----------
Operating income before taxes 372,892 3,211,227 3,931,591
Federal income tax expense (Note 6) 269,017 1,091,818 1,323,963
----------- ----------- -----------
Net income 103,875 2,119,409 2,607,628
Redemption accrual on Series C Preferred
Stock (Note 7) - 249,790 433,424
----------- ----------- -----------
Net Income applicable to common shareholders $ 103,875 $1,869,619 $ 2,174,204
=========== =========== ===========
Earnings per common share (Note 2 j):
Basic $0.01 $0.26 $0.29
=========== =========== ===========
Diluted $0.01 $0.18 $0.20
=========== =========== ===========
</TABLE>
See notes to consolidated financial statements.
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the Three Years Ended December 31, 1998
<TABLE>
Accumulated
Series B Additional Other
Preferred Common Paid-In Comprehensive Retained
Stock Stock Capital Income Earnings Total
---------- ---------- ---------- ------------- ---------- ------------
<S> <C> <C> <C> <C> <C> <C>
Balance, January 1,
1996 $ 4,000,000 $69,575 $15,849,542 $ 1,369,651 $ 2,825,508 $24,114,276
Net income - - - - 103,875 103,875
Change in net unrealized
investment gain (loss) - - - (2,341,888) - (2,341,888)
------------
Comprehensive income - - - - - (2,238,013)
------------
Issuance of common stock - 1,917 200,346 - - 202,263
----------- ---------- ---------- ------------- ---------- ------------
Balance, December 31,1996 4,000,000 71,492 16,049,888 (972,237) 2,929,383 22,078,526
----------- ---------- ---------- ------------- ---------- ------------
Net income - - - - 2,119,409 2,119,409
Change in net unrealized
investment gain (loss) - - - 1,813,857 - 1,813,857
------------
Comprehensive income - - - - - 3,933,266
------------
Issuance of Common stock - 1,767 272,253 - - 274,020
Issuance of Series C Preferred Stock - - (329,644) - - (329,644)
Redemption accrual on Series C
Preferred Stock - - - - (249,790) (249,790)
------------ ---------- ---------- ------------ ----------- ------------
Balance, December 31, 1997 4,000,000 73,259 15,992,497 841,620 4,799,002 25,706,378
------------ ---------- ---------- ------------ ----------- ------------
Net income - - - - 2,607,628 2,607,628
Change in net unrealized
investment gain (loss) - - - 16,252 - 16,252
----------
Comprehensive income - - - - - 2,623,880
----------
Issuance of common stock - 3,122 524,920 - - 528,042
Issuance of Series
D Preferred Stock - - (107,005) - - (107,005)
Redemption accrual
on Series C - - - - (433,424) (433,424)
Preferred Stock
----------- ---------- ---------- ---------- ---------- -----------
Balance, December 31, 1998 $4,000,000 $76,381 $16,410,412 $857,872 $6,973,206 $28,317,871
========== ========== =========== ========== ========== ==========
</TABLE>
See notes to consolidated financial statements.
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Three Years Ended December 31, 1998
<TABLE>
1996 1997 1998
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 103,875 $2,119,409 $2,607,628
Adjustments to reconcile net income to net
cash used by operating activities:
Deferred income taxes 269,017 1,091,818 1,323,963
Change in reserves for future policy
benefits 3,526,269 (3,997,414) 6,927,945
Change in policy and contract claims 677,167 (2,713,062) (270,067)
Change in deferred policy acquisition costs (2,257,617) (2,945,673) (3,529,521)
Change in deferred revenue (280,336) (93,212) (63,356)
Amortization of present value of future
profits - - 174,400
Amortization of goodwill - 111,819 154,012
Change in policy loans (746,103) (589,250) (91,149)
Change in accrued investment income (427,870) (368,951) (180,949)
Change in reinsurance balances (11,773,467) (4,963,108) (5,320,077)
Change in due and unpaid premium 114,812 2,269,874 22,362
Realized gains on investments (240,075) (1,132,521) (255,671)
Other, net 1,125,463 4,336,972 (1,873,773)
------------ ------------ ------------
Net cash used by operating activities (9,908,865) (6,873,299) (374,253)
------------ ------------ ------------
Cash flows from investing activities:
Proceeds from sale of fixed maturities
available for sale 18,329,599 35,962,815 26,887,431
Proceeds from redemption of fixed
maturities available for sale 25,436,976 9,029,804 7,941,450
Cost of fixed maturities purchased
available for sale (48,466,456) (37,932,859 (45,886,182)
Change in amounts held in trust for
reinsurer - (5,154,802) (5,182,289)
Proceeds from sale of equity securities 506,250 337,022 511,678
Cost of equity securities purchased (501,250) (689,802) (591,280)
Change in other invested assets 269,702 (1,367,882) (107,532)
Proceeds from sale of subsidiary, net of
cash held - 2,020,496 -
Purchase of business, net of cash acquired 1,685,010 (4,080,033) (2,562,824)
------------ ------------ ------------
Net cash used by investing activities (2,740,169) (1,875,241) (18,989,548)
------------ ------------ ------------
Cash flows from financing activities:
Net proceeds from issuance of common stock 202,263 274,020 421,037
Proceeds from the issuance of Series C
Preferred Stock - 4,838,356 -
Proceeds from the issuance of Series D
Preferred Stock - - 2,250,000
Increase in policyholder account balances 15,930,118 10,546,733 7,521,683
Change in short-term debt - (800,000) -
Increase in loan payable - 3,500,000 1,850,000
Principle repayment on loan payable - - (600,000)
Change in notes payable (369,698) - -
------------ ------------ ------------
Net cash provided from financing activities 15,762,683 18,359,109 11,442,720
------------ ------------ ------------
Net (decrease) increase in cash and cash
equivalents 3,113,649 9,610,569 (7,921,081)
------------ ------------ ------------
Cash and cash equivalent at beginning of
year 12,289,801 15,403,450 25,014,019
------------ ------------ ------------
Cash and cash equivalent at end of year $15,403,450 $25,014,019 $17,092,938
============ ============ ============
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest $ 83,852 $ 77,389 $ 306,578
============ =========== ===========
Income taxes $ - $ 62,000 $ -
============ =========== ===========
</TABLE>
See notes to consolidated financial statements.
<PAGE>
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND COMPANY BACKGROUND:
Universal American Financial Corp. (the "Company" or "Universal" formerly,
Universal Holding Corp.) was incorporated under the laws of the State of New
York in August 1981, for the purpose of conducting insurance and related
business primarily through its then wholly-owned subsidiary, John Adams Life
Insurance Company of New York ("John Adams"). On May 17, 1991, the Company
acquired 100% of the outstanding common stock of American Progressive Life &
Health Insurance Company of New York ("American Progressive") and on June 27,
1991 merged John Adams into American Progressive. In 1988, the Company organized
Quincy Coverage Corp. ("Quincy") an insurance agent and broker. In January 1992,
the Company began operations in WorldNet Services Corp. ("WorldNet"), a provider
of managed care and assistance to travelers. On May 26, 1993, the Company
acquired 100% of the outstanding common stock of American Pioneer Life Insurance
Company ("American Pioneer"). On December 4, 1997, the Company acquired 100% of
the outstanding common stock of American Exchange Life Insurance Company
("American Exchange") (See Note 4).
The Company's marketing emphasis is to sell products particularly
appealing to the senior market place, and largely through marketing
organizations with concentrations in this market. The Company began to sell
senior market life and accident & health insurance products in 1993 in New York
and expanded its sales effort to Florida in 1996 and to Texas in 1997. The
momentum into Florida was accelerated by the acquisition of business from First
National Life Insurance Company ("First National"), while the expansion into
Texas was accelerated by the acquisition of American Exchange (See Note 4). The
core products sold to the senior age market include Medicare supplement, home
health care, nursing home, hospital indemnity and senior life insurance. In
addition, the Company sells certain program life insurance and annuity products
through independent marketing organizations.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
a. Basis of Presentation: The significant accounting policies
followed by Universal American Financial Corp. and subsidiaries
that materially affect financial reporting are summarized
below. The accompanying consolidated financial statements have
been prepared in accordance with generally accepted accounting
principles ("GAAP") which, as to American Progressive, American
Pioneer and American Exchange, differ from statutory
accounting practices prescribed or permitted by regulatory
authorities. The preparation of financial statements in
conformity with GAAP requires management to make estimates and
assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and
liabilities at the date of the financial statements and the
reported revenues and expenses during the reporting
period. Actual results could differ from those estimates.
b. Principles of Consolidation: The accompanying consolidated financial
statements include the accounts of Universal American Financial
Corp. and its wholly-owned subsidiaries, including the operations of
American Exchange since December 4, 1997, the date of its
acquisition. All material intercompany transactions and balances
have been eliminated.
<PAGE>
c. Investments: Investments are shown on the following bases:
The Company follows Financial Accounting Standards Board ("FASB")
Statement No. 115, "Accounting for Certain Debt and Equity
Securities" ("Statement No. 115"). Statement No. 115 requires that
debt and equity securities be classified into one of three
categories and accounted for as follows: Debt securities that the
Company has the positive intent and the ability to hold to maturity
are classified as "held to maturity" and reported at amortized cost.
Debt and equity securities that are held for current resale are
classified as "trading securities" and reported at fair value, with
unrealized gains and losses included in earnings. Debt and equity
securities not classified as held to maturity or as trading
securities are classified as "available for sale" and reported at
fair value. Unrealized gains and losses on available for sale
securities are excluded from earnings and reported as accumulated
other comprehensive income, net of tax and deferred policy
acquisition cost adjustment.
As of December 31, 1997 and 1998, all fixed maturity securities were
classified as available for sale and were 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. Equity securities are carried at current fair
value. Policy loans and mortgage loans are stated at the unpaid
principal balance. Short-term investments are carried at cost, which
approximates fair value. Property tax liens are carried at cost.
Investment income is recorded when earned. Realized investment gains
and losses on the sale of securities are based on the specific
identification method.
d. Deferred Policy Acquisition Costs: The cost of acquiring new
business, principally commissions and certain expenses of the
agency, policy issuance and underwriting departments, all of
which vary with, and are primarily related to the production of
new and renewal business, have been deferred. These costs are
being amortized in relation to the present value of expected
gross profits on the policies arising principally from
investment, mortality and expense margins for FASB Statement No.
97, "Accounting and Reporting by Insurance Enterprises for
Certain Long-Duration Contracts and for Realized Gains and Losses
from the Sale of Investments", ("Statement No. 97") products
and in proportion to premium revenue using the same
assumptions used in estimating the liabilities for future policy
benefits for FASB Statement No. 60, "Accounting and Reporting by
Insurance Enterprises", ("Statement No. 60") products. Deferred
policy acquisition costs are written off to the extent that it is
determined that future policy premiums and investment income
or gross profits would not be adequate to cover related losses
and expenses. No deferred policy acquisition costs were
written off for the years ended December 31, 1996, 1997 and 1998.
The Company has several reinsurance arrangements in place on its
life and accident & health insurance risks (see Note 11). In the
accompanying statement of operations, the Company reports
commissions incurred on direct premium written and commission and
expense allowances on reinsurance ceded on separate lines to
correspond to the presentation of the premiums earned by the
Company. In determining the amounts capitalized for deferred
acquisition costs, the Company includes an amount for gross
commissions and direct issue expenses, net of the related allowances
received from the reinsurer on these costs.
<PAGE>
Details with respect to deferred policy acquisition costs for the
three years ended December 31, 1998 are as follows:
Balance at January 1, 1996 $ 16,564,450
Capitalized costs 5,042,137
Adjustment relating to unrealized loss
on fixed maturities 269,447
Amortization (2,784,520)
----------
Balance at December 31, 1996 $ 19,091,514
Capitalized costs 6,712,207
Adjustment relating to unrealized gain
on fixed maturities (1,205,127)
Amortization (3,766,534)
----------
Balance at December 31, 1997 $ 20,832,060
Capitalized costs 8,791,732
Adjustment relating to unrealized
gain on fixed maturities (78,810)
Amortization (5,262,211)
----------
Balance at December 31, 1998 $ 24,282,771
==========
e. Recognition of Revenues, Contract Benefits and Expenses for
Investment and Universal Life Type Policies: Revenues for
universal life-type policies and investment products consist of
mortality charges for the cost of insurance and surrender charges
assessed against policyholder account balances during the period.
Benefit claims incurred in excess of policyholder account balances
are expensed. The liability for policyholder account balances
for universal life-type policies and investment products under
Statement No.97 are determined following a "retrospective deposit"
method. The retrospective deposit method establishes a liability
for policy benefits at an amount determined by the account or
contract balance that accrues to the benefit of the policyholder,
which consist principally of policy account values before any
applicable surrender charges. Premium receipts are not reported
as revenues when the retrospective deposit method is used.
Credited interest rates for these products range from 4.50% to
7.25%. For the three years ended December 31, 1996, 1997 and 1998,
one general agency of American Progressive produced $5.8 million,
$2.9 million and $1.1 million of annuity receipts, respectively,
which represented approximately 43%, 24% and 10% respectively,
of total annuity receipts of American Progressive.
f. Recognition of Premium Revenues and Policy Benefits for
Accident & health Insurance Products: Premiums are recorded when
due and recognized as revenue over the period to which the premiums
relate. Benefits and expenses associated with earned premiums
are recognized as the related premiums are earned so as to result
in recognition of profits over the life of the policies. This
association is accomplished by recording a provision for future
policy benefits and amortizing deferred policy acquisition costs.
The liability for future policy benefits for accident& health
policies consists of active life reserves and the estimated
present value of the remaining ultimate net cost of incurred
claims. Active life reserves include unearned premiums and
additional reserves. The additional reserves are computed on
the net level premium method using assumptions for future
investment yield, mortality and morbidity experience. The
assumptions are based on past experience and include provisions
for possible adverse deviation. Claim reserves are established for
future payments not yet due on incurred claims, primarily
relating to individual disability insurance and group long-term
disability insurance products. These reserves are established
based on past experience and are continuously reviewed and updated
with any related adjustments recorded to current operations.
Claim liabilities represent policy benefits due but unpaid at
year-end and primarily relates to individual health
insurance products.
<PAGE>
Activity in the accident & health policy and contract claim
liability is as follows:
1996 1997 1998
----------- ---------- -----------
Balance at beginning of
year $ 8,681,136 $24,628,019 $ 22,592,441
Less reinsurance
recoverables (2,650,646) (15,269,309) (17,033,804)
----------- ---------- -----------
Net balance at beginning
of year 6,030,490 9,358,710 5,558,637
----------- ---------- -----------
Balance acquired with
First National 3,374,535 - -
Balance acquired with
American Exchange - 551,126 -
Balance acquired with
Dallas General - - 785,000
Incurred related to:
Current year 23,029,175 19,363,347 18,043,448
Prior years (2,511,056) (2,424,332) (782,037)
----------- ---------- -----------
Total incurred 20,518,119 16,939,015 17,261,411
----------- ---------- -----------
Paid related to:
Current year 15,671,699 14,405,575 13,673,436
Prior years 4,892,735 6,884,639 4,675,761
----------- ---------- -----------
Total paid 20,564,434 21,290,214 18,349,197
----------- ---------- -----------
Net balance at end of year 9,358,710 5,558,637 5,255,851
Plus reinsurance
recoverables 15,269,309 17,033,804 19,076,290
----------- ---------- -----------
Balance at end of year $ 24,628,019 $22,592,441 $24,332,141
=========== =========== ===========
g. Deferred Revenue: The Company entered into a 90% quota share
reinsurance agreement with an unaffiliated reinsurer on
certain life insurance policies in force as of June 30, 1993.
The Company ceded $3.7 million of life insurance reserves and
received $1.7 million as a ceding commission, which was recorded as
deferred revenue. The deferred revenue amount is being amortized
into income over the expected life of the underlying policies
reinsured. The Company amortized $122,433, $93,212 and
$63,356 of deferred revenue during 1996, 1997 and 1998,respectively.
The Company entered into a 75% quota share reinsurance agreement
with an unaffiliated reinsurer on the $60,000 retention of certain
individual accident & health insurance policies in force as of June
30, 1995. The Company received $0.9 million as a ceding commission,
$0.6 million of which was offset by the amortization of the deferred
acquisition cost asset related to this business. The remaining
$0.2 million was recorded as deferred revenue and $0.2 million was
recognized as income during 1996. The agreement was canceled
effective December 31, 1996.
h. Income Taxes: The Company's method of accounting for income taxes
is the asset and liability method. Under the asset and liability
method, deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. Deferred tax assets
and liabilities are measured using enacted tax rates expected
to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax
rates is recognized in income in the period that includes the
enactment date of a change in tax rates.
i. Reinsurance Accounting: Recoverables under reinsurance contracts are
included in total assets as amounts due from reinsurers. The cost of
reinsurance related to long-duration contracts is accounted for over
the life of the underlying reinsured policies using assumptions
consistent with those used to account for the underlying policies.
<PAGE>
j. Earnings Per Common Share: Basic EPS excludes dilution and is
computed by dividing income available to common shareholders,
(after deducting the redemption accrual on the Series C Preferred
Stock), by the weighted average number of shares outstanding for
the period. Diluted EPS gives the dilutive effect of the stock
options, warrants and Series B, C and D Preferred Stock outstanding
during the year. A reconciliation of the numerators and the
denominators of the basic and diluted EPS for the years ended
December 31, 1996, 1997 and 1998 is as follows:
For the Year Ended December 31, 1996
-------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amount
---------- ------------ ---------
Net income $ 103,875
Basic EPS
Net income applicable to
common shareholders 103,875 6,999,293 $ 0.01
=========
Effect of Dilutive
Securities
Series B Preferred stock 1,777,777
Non-registered warrants 2,015,760
Registered warrants 668,481
Incentive stock options 266,000
Director stock option 9,000
Treasury stock purchased
from proceeds of exercise
of options and warrants (1,198,376)
---------- ----------
Diluted EPS
Net income applicable to
common shareholders plus
assumed conversions $ 103,875 10,537,935 $0.01
========== =========== =========
For the Year Ended December 31, 1997
-------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amount
----------- ------------ ---------
Net income $2,119,409
Less: Redemption accrual
on Series C Preferred
Stock (249,790)
----------
Basic EPS
Net income applicable to
common shareholders 1,869,619 7,241,931 $ 0.26
=========
Effect of Dilutive Securities
Series B Preferred Stock 1,777,777
Series C Preferred Stock 249,790 1,356,421
Non-registered warrants 2,015,760
Registered warrants 668,481
Incentive stock options 296,000
Director stock option 16,000
Treasury stock purchased
from proceeds of options
and warrants (1,331,515)
---------- ------------
Diluted EPS
Net income applicable to
common Shareholders
plus assumed conversions $2,119,409 12,040,855 $ 0.18
========== ============ =========
<PAGE>
For the Year Ended December 31, 1998
-------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amount
---------- ------------ ---------
Net income $2,607,628
Less: Redemption accrual
on Series C Preferred
Stock (433,424)
----------
Basic EPS
Net income applicable to
common shareholders 2,174,204 7,532,758 $ 0.29
=========
Effect of Dilutive
Securities
Series B Preferred Stock 1,777,777
Series C Preferred Stock 433,424 2,176,000
Series D Preferred Stock -
Non-registered warrants 2,015,760
Registered warrants 658,231
Incentive stock options 229,000
Director stock option 7,000
Treasury stock purchased
from proceeds of exercise
of options and warrants (1,241,022)
---------- ------------
Diluted EPS
Net income applicable to
common Shareholders plus
assumed conversions $2,607,628 13,155,504 $ 0.20
========== ============ =========
k. Comprehensive Income: As of January 1, 1998, the Company adopted
Statement 130,"Reporting Comprehensive Income". Statement 130
establishes new rules for the reporting and display of
comprehensive income and its components; however, the adoption of
this Statement had no impact on the Company's net income or share-
holders' equity. Statement 130 requires unrealized gains or losses
on the Company's available-for-sale securities, which prior to
adoption were reported separately in shareholders' equity, to be
included in other comprehensive income. Prior year financial
statements have been reclassified to conform to the requirements of
Statement 130.
The components of comprehensive income, net of related tax, for the
year ended December 31, 1996, 1997 and 1998 are as follows:
1996 1997 1998
------------ ----------- -----------
Net income $ 103,875 $ 2,119,409 $ 2,607,628
Net unrealized gain (loss)
arising during the year (2,223,062) 2,796,624 115,630
Reclassification
adjustment for gains
(losses) included in net
income (118,826) (982,767) (99,378)
------------ ----------- -----------
Comprehensive income(loss) $(2,238,013) $ 3,933,266 $ 2,623,880
============ =========== ===========
l. Cash Flow Information: Included in cash and cash equivalents are
cash on deposit, money market funds, and short term investments
which had an original maturity of three months or less from the time
of purchase.
m. FASB Statement No. 133: In June 1998, the FASB issued Statement 133,
Accounting for Derivative Instruments and Hedging Activities, which
is required to be adopted in years beginning after June 15, 1999.
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.
m. Reclassifications: Certain reclassifications have been made to
prior years' financial statements to conform to current period
classifications.
3. PENDING TRANSACTIONS
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"), whereby Capital Z has agreed to purchase up to 26,031,746 shares of
Universal common stock for a purchase price of up to $82.0 million (the "Capital
Z Transaction") subject to adjustment as outlined in the Purchase Agreement.
Pursuant to terms of the UA Purchase Agreement, the number of shares of
Universal common stock and the aggregate purchase price to be paid by Capital Z
will be reduced based upon the aggregate number of shares of Universal common
stock purchased by certain members of management and agents of the companies
being acquired pursuant to the Penn Union Purchase Agreement discussed below,
but in no event will it be less than 19,841,270 shares. Thus, as a result of the
closing of the transactions contemplated by the UA Purchase Agreement, Capital Z
will acquire a controlling interest in Universal. Specifically, if Capital Z
purchases the minimum number shares under the UA Purchase Agreement, it will
acquire 45.6 % of the then outstanding shares of Universal common stock on a
fully diluted basis, and if Capital Z purchase the maximum number of shares, it
will acquire 59.8% of the then outstanding shares of Universal common stock on a
fully diluted basis.
The UA Purchase Agreement is subject to (i) regulatory approvals in the
states in which Universal's insurance subsidiaries are domiciled, (ii)
shareholder approval and (iii) the consummation of the Penn Union Transaction
(see below).
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 to acquire all of the outstanding shares of common
stock of certain direct and indirect subsidiaries of PFG, including the
insurance companies as follows (the "Penn Union Transaction"):
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 calls for a purchase price of $175
million with $136 million in cash and $39 million in seller financing. In
addition, the Company will incur approximately $12 million in transaction costs
associated with this transaction. The Company will finance the cash portion of
the acquisition with the $82 million of proceeds generated from the UA Purchase
Agreement discussed above and from the execution of a $80 million credit
facility that consists of a $70 million term loan and $10 million revolving loan
facility.
The Penn Union Purchase Agreement is subject to approval by the insurance
regulators of the jurisdictions in which the acquired companies are domiciled.
Management expects this transaction to close in the second quarter of 1999,
although no assurances can be given that it will occur. Based on unaudited
financial information as of September 30, 1998, the assets and liabilities to be
acquired in connection with the Penn Union Transaction are approximately $831
million and $656 million, respectively.
4. RECENT ACQUISITIONS:
Dallas General
On March 19, 1998, the Company acquired a $12.6 million block of annual
premiums in force of Medicare Supplement business from Dallas General Life
Insurance Company ("Dallas General") for a purchase price of $0.8 million. At
the time of the acquisition, the Company entered into a reinsurance agreement
with Reassurance Company of Hannover ("RCH") to cede 75% of the business
acquired to RCH for a ceding allowance of $0.6 million. In connection with this
assumption, the Company incurred $0.3 million of expenses. The Company recorded
an asset of $0.5 million as present value of future profits, which will be
amortized over the expected live of the underlying policies. During the year
ended December 31, 1998, the Company amortized $35,000 of this asset. The amount
of reserves assumed totaled $5.4 million and the Company received assets
consisting of cash, real estate and mortgage loans totaling $5.4 million.
American Pioneer, with the approval of the Texas and Florida Departments of
Insurance, assumed the business.
American Exchange Life Insurance Company
On December 4, 1997, the Company, through its wholly owned subsidiary,
American Pioneer, acquired 100% of the outstanding common stock of American
Exchange for $6.6 million in cash, which acquisition was approved by both the
Texas and Florida Departments of Insurance. This acquisition was accounted for
using the purchase method. American Exchange, which is licensed in Texas and two
other states, had annual premium in force in excess of $16.6 million, primarily
in Medicare Supplement and other limited benefit accident & health products and
had 19,800 policies in force and 1,000 insurance agents, all based in Texas.
The following schedule summarizes the assets acquired and liabilities
assumed, at fair value, on the date of acquisition:
Assets acquired:
Fixed maturities $ 6,826,474
Equity securities 317,413
Cash and cash equivalents 2,679,665
Policy loans 174,513
Accrued investment income 159,528
Other assets 298,397
----------
Total assets acquired 10,455,990
==========
Liabilities assumed
Reserves for future policy
benefits 737,290
Policy and contract claims 266,048
Amounts due to reinsurers 4,036,450
Deferred Federal income taxes 435,814
Other liabilities 768,367
----------
Total liabilities assumed 6,243,969
==========
Net assets acquired 4,212,021
Present value of future profits 1,281,807
Goodwill 1,265,868
----------
Total purchase price $ 6,759,696
==========
The present value of future profits is being amortized based upon the
expected lives of the underlying products. The goodwill is being amortized over
30 years.
First National Life
In the fourth quarter of 1996, the Company acquired, through an assumption
reinsurance agreement, approximately $56.0 million of annualized senior market
premium from First National. American Pioneer initially contracted with First
National to assume $4.0 million of annualized premium on group Medicare
Supplement coverage issued to the members of the Florida Retired Educators
Association ("FREA"). Then, after First National was placed into Receivership by
the Alabama Insurance Department in October, 1996, American Pioneer assumed, in
addition to the FREA block, approximately $50.0 million of annualized Individual
Medicare Supplement premium, $1.2 million of annualized Home Health Care premium
and $0.8 million of annualized miscellaneous life and accident & health
insurance premiums, under terms negotiated with the Receiver. All of these
assumptions were effective as of October 1, 1996. Simultaneously with the second
assumption by American Pioneer, American Pioneer entered into a reinsurance
agreement with Transamerica Occidental Life Insurance Company ("Transamerica"),
ceding 90% of the $50.0 million Individual Medicare Supplement to Transamerica.
As part of the First National transaction, the Company acquired in
Pensacola, Florida a relatively low cost administrative operation with
particular experience in the senior market. This has given the Company an
opportunity to consolidate many of its administrative functions in Pensacola and
save a significant amount of fixed overhead. At closing, the fair values of
liabilities assumed exceeded the fair value of assets assumed by $3.5 million,
which were classified as goodwill and is being amortized over 30 years.
In December 1996, the Company formulated a plan to move most of American
Progressive's policy administrative functions, particularly in its senior market
business, from its office in Brewster, NY to Pensacola, Florida. This, along
with other cost saving efforts, resulted in a reduction in the work force at the
American Progressive office from 62 as of June 30, 1996 to approximately 25 as
of December 31, 1997, with a modest resultant increase in personnel in
Pensacola, including some personnel employed by American Progressive. In
December 1996, these plans were announced to certain key individuals who were to
be relocated under this reorganization. The remaining employees who were to be
terminated were notified in March 1997. The cost of this consolidation,
including severance costs, relocation costs and the non-renewal fee on the
Brewster office lease, was approximately amounted to $0.3 million and was
expensed in the fourth quarter of 1996.
5. INVESTMENTS:
As of December 31, 1997 and 1998, investments consisted of the following:
<TABLE>
December 31,1997
---------------------------------------------------------
Face Amortized Fair Carrying
Classification Value Cost Value Value
- ------------------------- ------------- -------------- ------------- ------------
<S> <C> <C> <C> <C>
US Treasury bonds and
notes $ 7,610,000 $ 7,697,324 $ 7,802,780 $ 7,802,780
Corporate bonds 113,902,686 113,422,022 115,782,928 115,782,928
Equity Securities 987,095 945,116 945,116
-------------- ------------- ------------
Sub-total 122,106,441 $124,530,824 $124,530,824
=============
Property tax liens 136,713 136,713
Policy loans 7,185,014 7,185,014
Mortgage loans 2,562,008 2,562,008
-------------- ------------
Total investments $131,990,176 $134,414,559
============== ============
December 31,1998
---------------------------------------------------------
Face Amortized Fair Carrying
Classification Value Cost Value Value
- ------------------------- ------------- -------------- ------------- ------------
US Treasury bonds and
notes $ 3,800,000 $ 3,848,038 $ 3,947,957 $ 3,947,957
Corporate bonds 129,150,377 128,379,076 130,849,677 130,849,677
Equity Securities 1,063,186 1,019,780 1,019,780
-------------- ------------ ------------
Sub-total 133,290,300 $135,817,414 $135,817,414
=============
Property tax liens 30,696 30,696
Policy loans 7,276,163 7,276,163
Mortgage loans 4,456,516 4,456,516
-------------- ------------
Total investments $ 145,053,675 $147,580,789
============== ============
The amortized cost and fair value of fixed maturities as of December 31,
1997 and 1998 are as follows:
December 31, 1997
-------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Classification Cost Gains Losses Value
- ------------------------ -------------- -------------- ----------- -------------
US Treasury securities
and obligations of
US government $ 10,821,981 $ 224,552 $ (20,088) $ 11,026,445
Corporate debt
securities 52,427,251 1,668,511 (261,644) 53,834,118
Mortgage-backed
securities 57,870,114 1,506,116 (651,085) 58,725,145
-------------- -------------- ----------- ------------
$ 121,119,346 $3,399,179 $ (932,817) $123,585,708
============== ============== =========== ============
December 31, 1998
------------------------------------------------------
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 63,502,687 1,680,539 (472,027) 64,711,199
securities
Mortgage-backed 62,280,125 1,821,084 (612,330) 63,488,879
securities
-------------- -------------- ----------- ------------
$ 132,227,114 $ 3,683,317 (1,112,797) $134,797,634
============== ============== =========== ============
</TABLE>
The amortized cost and fair value of fixed maturities at December 31, 1998
by contractual maturity are shown below. Expected maturities will 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 $ 2,769,318 $ 2,782,948
Due after 1 year through
5 years 23,928,906 24,514,144
Due after 5 years through
10 years 23,729,941 24,246,138
Due after 10 years 16,922,605 17,115,927
Mortgage-backed
securities 64,876,344 66,138,477
--------------- -------------
$ 132,227,114 $134,797,634
=============== =============
Included in fixed maturities at December 31, 1997 and 1998 were securities
with carrying values of $7.1 million and $7.7 million, respectively, held by
various states as security for the policyholders of the Company within such
states.
Gross unrealized gains and gross unrealized losses of equity securities as
of December 31, 1997 and 1998 are as follows:
1997 1998
--------- --------
Gross unrealized gains $ 29,378 $ 44,102
Gross unrealized losses (71,357) (87,508)
--------- --------
Net unrealized losses $(41,979) $(43,406)
========= =========
The components of the change in unrealized gains and losses included in
the consolidated statements of stockholders' equity for the three years ended
December 31, 1998 are as follows:
1996 1997 1998
----------- ----------- -----------
Change in net unrealized gains (losses):
Fixed maturities $ (3,335,207) $ 3,485,207 $ 104,158
Equity securities 18,264 (29,393) (1,427)
Adjustment relating to
deferred policy
acquisition costs 269,477 (1,205,127) (78,810)
----------- ----------- ----------
Change in net unrealized gains
(losses) before income tax (3,047,466) 2,250,687 23,921
Income tax expense (benefit) (705,578) 436,830 7,669
----------- ---------- ----------
Change in net unrealized
gains (losses) $ (2,341,888) $ 1,813,857 $ 16,252
=========== =========== ===========
The details of net investment income for the three years ended December
31, 1998 are as follows:
1996 1997 1998
---------- ----------- -----------
Investment Income:
Fixed maturities $ 9,048,143 $ 8,961,283 $ 9,198,632
Cash and cash equivalents 731,924 801,987 919,724
Equity securities - 29,044 58,580
Property tax liens (1,297) 22,639 4,906
Policy loans 487,740 495,623 612,629
Mortgage loans 86,858 102,737 363,036
----------- ----------- -----------
Gross investment income 10,353,368 10,413,313 11,157,507
Investment expenses 503,285 390,655 436,156
---------- ----------- -----------
Net investment income $ 9,850,083 $10,022,658 $10,721,351
========== =========== ===========
Gross realized gains and gross realized losses included in the
consolidated statements of operations for the three years ended December 31,
1998 are as follows:
1996 1997 1998
---------- ----------- -----------
Realized gains:
Fixed maturities $ 363,927 $ 760,381 $ 1,250,224
Equity securities 5,000 629,847 25,708
---------- ----------- ----------
Total realized gains 368,927 1,390,228 1,275,932
---------- ----------- -----------
Realized losses:
Fixed maturities (128,852) (257,707) (991,033)
Equity securities - - (29,228)
---------- ----------- ----------
Total realized losses (128,852) (257,707) (1,020,261)
---------- ----------- ----------
Net realized gains $ 240,075 $ 1,132,521 $ 255,671
========== =========== ===========
During the year ended December 31, 1998, the Company wrote down the value
of certain fixed maturity securities by $0.6 million which represents
management's estimate of other than temporary declines in value and was included
in net realized gains on investments. In 1997, the Company realized a gain of
$0.6 million on the sale of AmeriFirst Insurance Company, a non-operating
subsidiary.
6. 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.
The Company's federal income tax expense consisted of:
1996 1997 1998
---------- ---------- -----------
Current $ - $ - $ -
Deferred 269,017 1,091,818 1,323,963
---------- ---------- -----------
Total tax expense $269,017 $1,091,818 $1,323,963
========== ========== ===========
A reconciliation of the "expected" tax expense at 34% with the Company's
actual tax expense applicable to operating income before taxes reported in the
Consolidated Statements of Operations is as follows:
1996 1997 1998
-------------- -------------- -----------
Expected tax expense $ 126,783 $ 1,091,818 $1,336,741
Change in the beginning
of the year balance of the
valuation allowance for
deferred tax assets
allocated to income tax
expense 187,414 - -
Other (45,180) - (12,778)
-------------- -------------- -----------
Actual tax expense $ 269,017 $ 1,091,818 $ 1,323,963
============== ============== ===========
In addition to Federal income tax, the Company is subject to state premium
and income taxes, which taxes are included in other operating costs and expenses
in the accompanying statement of operations.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying value of assets and liabilities for financial reporting
purposes and the amount used for income tax purposes. The tax effects of
temporary differences that give rise to significant portions of the deferred tax
assets and deferred tax liabilities at December 31, 1997 and 1998 are as
follows:
1997 1998
----------- ------------
Deferred tax assets:
Reserves for future policy benefits $3,617,347 $ 3,309,830
Deferred revenues 90,013 68,472
Net operating loss carryforwards 5,125,637 5,219,133
AMT credit carryforward 107,262 107,262
Investment valuation differences 120,488 189,039
Other 159,555 23,386
----------- ------------
Total gross deferred tax assets 9,220,302 8,917,122
Less valuation allowance (1,342,838) (1,342,838)
----------- ------------
Net deferred tax assets 7,877,464 7,574,284
----------- ------------
Deferred policy acquisition costs (5,796,879) (6,755,687)
Unrealized gains on investments (436,830) (444,472)
Goodwill (1,102,528) (1,059,008)
Present value of future profits (435,814) (533,664)
----------- ------------
Total gross deferred tax
liabilities (7,772,051) (8,792,831)
----------- ------------
Net deferred tax asset
(liability) $ 105,413 $ (1,218,547)
=========== ============
In 1997, a deferred tax liability related to the present value of future
profits recorded as a result acquisition of American Exchange was established
and amounted to $0.4 million. In 1996, a deferred tax asset related to the tax
liabilities assumed in excess of tax assets received in the acquisition of
certain business from First National was established and amounted to $0.3
million.
At December 31, 1998 the Company (exclusive of American Pioneer and
American Exchange) had net operating tax loss carry forwards of approximately
$11.6 million which expire in the years 1999 to 2012. At December 31, 1998 the
Company also has Alternative Minimum Tax (AMT) credit carry forward for Federal
income tax purposes of approximately $0.3 million which can be used
indefinitely. At December 31, 1998 American Pioneer and American Exchange had
net operating tax loss carry forwards, most of them incurred prior to their
acquisition by the Company, of approximately $3.7 million which expire in the
years 1999 to 2013. As a result of changes in ownership of American Pioneer in
May 1993, use of most of the loss carry forwards of American Pioneer are subject
to annual limitations.
At December 31, 1997 and 1998, the Company has established valuation
allowances of $1.3 million with respect to its deferred tax assets. The Company
determines a 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. These changes resulted in the Company increasing taxable income
in the non-life companies by $1.2 million and $0.4 million in 1997 and 1998,
respectively. Management believes it is more likely than not that the Company
will realize the recorded deferred tax assets.
7. 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 has 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 on the days during any 60 day period in 1999 on
which such bid prices are reported exceeds $3.45 per common share. This
condition was satisfied on March 5, 1999 and all of the 51,680 outstanding
shares of Series C Preferred Stock will be converted to 2,176,000 shares of
common stock in April 1999.
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 transaction which contained the
following conditions:
o The holders of the Series C Preferred Stock were given registration rights
and informational rights.
o 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.
o 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 3.
8. 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-1, 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 requires regulatory approval, the conversion will be postponed until
such approval is obtained or ceases to be required. The pending Capital Z
Transaction will be a "change of control" within the meaning of the terms of the
Series D 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 shareholder 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 such conditions are satisfied or are no longer
applicable. If the pending Capital Z Transaction closes, no approval of the
conversion of the Series D Preferred Stock will be required, because the UAFC,
L.P. will, after conversion of the Series D Preferred Stock, hold less than 10%
of Universal's then outstanding stock. If the Capital Z Transaction does not
close, the Company anticipates that it will obtain the required approval of a
change of control or determination that no change of control is involved in the
conversion of the Series D Preferred Stock.
The shareholder agreement applicable to the Series C Preferred Stock also
applies to the Series D Preferred Stock.
9. STOCKHOLDERS' EQUITY:
Preferred Stock
The Company has 2,000,000 authorized shares of preferred stock to be
issued in series with 52,080 and 74,580 shares issued and outstanding at
December 31, 1997 and 1998, respectively (see Note 7 for a discussion of Series
C Preferred Stock and Note 8 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. ("Wand"). The Series B Preferred Stock is
convertible into Common Stock at $2.25 per share (subject to anti-dilution
adjustment) and is entitled to dividends as if already converted, only when and
if dividends are declared on the Common Stock. The holder of the Series B
Preferred Stock may not require the Company to redeem it unless the Company
engages in (i) a merger with, or acquisition of, another entity which results in
that entity or its shareholders having sufficient voting power to elect a
majority of the Company's Board of Directors or (ii) the sale or other exchange
of 40% or more of the Company's assets or of its outstanding Common Stock. The
Company has the right to require a conversion if it raises additional equity
from the public on pricing terms that meet certain criteria.
The holders of the Series B Preferred Stock have the right to elect one
Director of the Company, and have the right to vote on all other matters
submitted to the vote of the holders of the Common Stock, as if their Series B
Preferred Stock had been converted to Common Stock. In addition, under the New
York Business Corporation Law, any amendment to the Certificate of Incorporation
which would make certain changes affecting the Series B Preferred Stock must be
approved by the holders of a majority of the outstanding Series B Preferred
Stock, voting separately as a class.
Pursuant to the stock subscription agreement, Wand, the Company and
certain shareholders of the Company, including Barasch Associates Limited
Partnership ("BALP"), entered into a shareholders' agreement contemporaneously
with the issuance of the Series B Preferred Stock to Wand. Under the
shareholders' agreement, the holder of the Series B Preferred Stock agreed to
vote such shares, and the Common Stock issued upon their conversion, for the
nominees of BALP for election as directors of the Company and, after the
conversion of the Series B Preferred Stock to Common Stock, all parties agreed
to vote their shares for the election of one director designated by Wand. The
shareholders' agreement also contained "stand still," "tag along" and
registration rights provisions. The stand still provision will prohibit Wand
from acquiring more than an additional 5% of the Company's outstanding Common
Stock without the Company's consent, as long as BALP and certain partners in
BALP continue to hold at least certain percentages of the Company's Common
Stock, on an outstanding and fully diluted basis. The tag along provision will
prohibit BALP and certain of its partners from making private sales of their
shares of Common Stock unless Wand is given the opportunity to sell a
proportionate part of its holding on the same terms. This stockholders'
agreement will be superceded by a new agreement upon the closing of the Capital
Z transaction.
The Company and Wand Partners L.P., an affiliate of Wand, have also
entered into a financial advisory agreement, under which the Wand affiliate is
to render advisory services to the Company and is to be paid a fee of $100,000
per year for such services as long as Wand owns 500,000 shares of Common Stock,
or its common stock equivalent, reduced by any directors' fee paid to the
director designated by Wand.
In connection with the determination by the New York Superintendent of
Insurance (the "Superintendent") that Wand is not a controlling shareholder of
the Company, within the meaning of the New York Insurance Law, certain commit-
ments were made to the Superintendent. These commitments included a commit-
ment by Wand, Wand's general partner and Wand's general partner's shareholders
that, as long as Wand owns 10% or more of the voting power of Universal's out-
standingstock, Wand will not acquire any additional shares of Universal, except
by exercise of its conversion rights, and will not attempt to obtain or exercise
control of Universal, without the consent of the Superintendent. Universal,
American Progressive, BALP, BALP's general partner and certain limited partners,
and the shareholders of BALP's general partner also entered into commitments,
including commitments that, as long as Wand owns 10% or more of the voting power
of Universal's outstanding shares, the size of Universal's Board would not be
reduced below ten directors and that no transaction between Universal or
American Progressive, on the one hand, and Wand or its partners of controlling
parties, on the other hand, would be entered without the approval of the
Superintendent, except for the shareholders agreement and the financial advisory
agreement referred to herein.
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 December 31, 1997
and 1998 were 7,325,860 and 7,638,057, respectively. During the years ended
December 31, 1996, 1997 and 1998, the Company issued 191,689, 176,639 and
312,197 shares, respectively, of its common stock.
Common Stock Warrants
The Company had 668,481 and 658,231 common stock warrants issued and
outstanding at December 31, 1997 and 1998, which are registered under the
Securities Exchange Act of 1934. During the year ended December 31, 1998, 10,250
warrants were exercised to purchase common shares at $1.00 per share. At
December 31, 1997 and 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.
Option Plans
On May 28, 1998, the Company's shareholders approved the 1998 Incentive
Compensation Plan (the "1998 ICP"). The 1998 ICP superceded the Company's
Incentive Stock Option Plan, Stock Option Plan For Directors, and Non-Qualified
Stock Option Plan for Agents and Others (the "Pre-Existing Plans") Options
previously granted under these plans will remain outstanding in accordance with
their terms and the terms of the respective plans.
Incentive Stock Option Plan
In 1983, the Company adopted an Incentive Stock Option Plan for employees.
Under this Plan, as amended, 1,000,000 shares of common stock were reserved. As
of December 31, 1998, 516,500 of these shares have been issued and 442,500
shares were subject to options granted prior to the adoption of the 1998 ICP.
Options under this plan expire ten years after the date granted or upon the
earlier termination of employment. Options vest 50% in the first year after
grant and 50% in the second year after grant, and at December 31, 1998, 369,254
options are exercisable. Additional information with respect to options under
the Company's Incentive Stock Option Plan is as follows:
Shares Under
Options Exercise
Outstanding Price
------------- ---------------
Balance, January 1, 1996 611,000
Granted 141,000 $2.00 - $2.20
Exercised (135,000) $0.50 - $1.35
Terminated (47,000) $2.87 - $3.25
-------------
Balance, December 31,1996 570,000
1996
Granted 166,500 $2.00 - $3.03
Exercised (95,000) $1.25 - $1.44
Terminated (21,000) $1.25 - $3.33
-------------
Balance, December 31, 1997 620,500 $1.44 - $3.33
1997
Granted -
Exercised (165,000) $1.25 - $1.63
Terminated (13,000) $0.80 - $2.00
=============
Balance, December 31,1998 442,500 $2.00 - $3.33
=============
Stock Option Plan for Directors
At the 1992 Annual Shareholders' Meeting, the Universal American Financial
Corp. non-employee Directors Plan ("Stock Option Plan for Directors") was
approved. The Stock Option Plan for Directors reserves 75,000 shares of common
stock and provides that options shall be granted on June 30 of each year to each
eligible Director, then in office, at the rate of 1,000 options for each
additional year of service completed since the last grant. Options under this
plan are exercisable one year after grant. Since inception, 19,000 options have
been exercised. Additional information with respect to the Company's stock
option plan for Directors is as follows:
Options Exercise
Outstanding Price
------------- ---------------
Balance, January 1, 1996 21,000
Granted 7,000 $2.50
-------------
Balance, December 31, 1996 28,000
Granted 8,000 $1.88
-------------
Balance, December 31, 1997 36,000
Granted - $2.62
Exercised (8,700) $0.56 - $1.63
Terminated (4,300) $1.88 - $3.50
-------------
Balance, December 31,1998 23,000 $1.88 - $3.50
=============
Stock Option Plan for Agents and Others
On December 15, 1995, the Board of Directors approved a plan under which
up to 200,000 options could be granted to agents of the Company's subsidiaries
(subject to insurance law restrictions) and to other persons as to whom the
Board of Directors believes the grant of such options will serve the best
interests of the Corporation, provided that no options may be granted under this
plan to officers, directors or employees of the Company or of any subsidiary,
while they are serving as such. Such options will expire 10 years from the date
of the grant. Additional information with respect to the Company's Stock Option
Plan for Agents and Others is as follows:
Options Exercise
Outstanding Price
------------- ---------------
Balance, January 1, 1996 40,000 $2.50
Granted 46,393 $2.50 - $2.97
-------------
Balance, December 31, 1996 86,393
Granted 16,393 $2.50
-------------
Balance, December 31, 1997 102,786
Granted -
-------------
Balance, December 31, 1998 102,786 $2.50 - $2.97
=============
1998 ICP
The 1998 ICP provides for grants of stock options, stock appreciation
rights ("SARs"), restricted stock, deferred stock, other stock-related awards,
and performance or annual incentive awards that may be settled in cash, stock,
or other property ("Awards").
The total number of shares of the Corporation's Common Stock reserved and
available for delivery to participants in connection with Awards under the 1998
ICP is (i) 1.5 million, plus (ii) the number of shares of Common Stock subject
to awards under Preexisting Plans that become available (generally due to
cancellation or forfeiture) after the effective date of the 1998 ICP, plus (iii)
13% of the number of shares of Common Stock issued or delivered by the
Corporation during the term of the 1998 ICP (excluding any issuance or delivery
in connection with Awards, or any other compensation or benefit plan of the
Corporation), provided, however, that the total number of shares of Common Stock
with respect to which incentive stock options ("ISOs") may be granted shall not
exceed 1.5 million. As of December 31, 1998, 691,000 shares were reserved for
outstanding Awards under the 1998 ICP and 850,945 shares were reserved for
issuance under future Awards.
The 1998 ICP imposes individual limitations on the amount of certain
Awards in order to comply with Section 162(m) of the Internal Revenue Code (the
"Code"). Under these limitations, during any fiscal year the number of options,
SARs, shares of restricted stock, shares of deferred stock, shares of Common
Stock issued as a bonus or in lieu of other obligations, and other stock-based
Awards granted to any one participant shall not exceed one million shares for
each type of such Award, subject to adjustment in certain circumstances, the
maximum cash amount that may be earned as a final annual incentive award or
other annual cash Award in respect of any fiscal year by any one participant is
$5 million, and the maximum cash amount that may be earned as a final
performance award or other cash Award in respect of a performance period other
than an annual period by any one participant on an annualized basis is $5
million.
Executive officers, directors, and other officers and employees of the
Corporation or any subsidiary, as well as other persons who provide services to
the Corporation or any subsidiary, are eligible to be granted Awards under the
1998 ICP, which is administered by Board or a Committee established pursuant to
the Plan.
The 1998 ICP provides that unless otherwise determined by the Board, each
non-employee director would be granted an option to purchase 4,500 shares of
Common Stock upon approval of the 1998 ICP by shareholders or, as to directors
thereafter elected, his or her initial election to the Board, and at each annual
meeting of shareholders starting in 1999 at which he or she qualifies as a
non-employee director. Unless otherwise determined by the Board, such options
will have an exercise price equal to 100% of the fair market value per share on
the date of grant and will become exercisable in three equal installments after
each of the first, second and third anniversaries of the date of grant based on
continued service as a director.
The Committee, may, in its discretion, accelerate the exercisability, the
lapsing of restrictions, or the expiration of deferral or vesting periods of any
Award, and such accelerated exercisability, lapse, expiration and vesting shall
occur automatically in the case of a "change in control" of the Corporation,
except to the extent otherwise determined by the Committee at the date of grant
or thereafter.
During 1998, the options amounting to 520,500, 36,000 and 134,500 were
granted to employees, non-employee directors and others, respectively, under the
1998 ICP.
Accounting for Stock-Based Compensation
The Company has elected to follow Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25")
and related interpretations in accounting for its employee stock options
because, as discussed below, the alternative fair value accounting provided
for under FASB Statement No.123, "Accounting for Stock-Based Compensation",
"Statement No. 123") requires use of option valuation models that were not
developed for use in valuing employee stock options.
Pro forma information regarding net income and earnings per share is
required by Statement No. 123, and has been determined as if the Company had
accounted for its employee stock option under the fair value method of that
Statement. The fair value for these options was estimated at the date of grant
using a Black-Scholes option pricing model with the following weighted-average
assumptions for 1996, 1997and 1998, respectively: risk-free interest rates of
6.32% - 6.38%, 6.13% - 6.63% and 5.63% - 6.63%; dividend yields of 0%, 0% and
0%; volatility factors of the expected market price of the Company's common
stock of 51.96% - 52.74%, 49.97% - 53.48% and 43.74 - 46.08%; and a
weighted-average expected life of the option of 4.5 years.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options that have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock option.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The Company's
pro forma information is as follows:
1996 1997 1998
------------- ------------- ------------
Net Income $ 103,875 2,119,409 2,607,628
Less: Pro forma estimated fair
value options granted 156,756 234,664 525,809
------------- ------------- ------------
Pro forma net income (loss) $ (52,881) 1,884,745 2,081,819
============= ============= ============
Pro forma diluted earnings per
share $ (0.01) $ 0.16 $ 0.16
============= ============= ============
A summary of the status of the Company's three stock option plans as of
December 31, 1997 and 1998, and changes during the years ending on those dates
is presented below:
<TABLE>
1997 1998
-------------------------- --------------------------
Weighted-Average Weighted-Average
Fixed Options Options Exercise Price Options Exercise Price
- --------------------------- --------- --------------- ---------- --------------
<S> <C> <C> <C> <C>
Outsanding-beginning of 684,400 $2.09 759,300 $2.22
year
Granted 190,900 2.48 691,000 2.61
Exercised (95,000) 1.33 (173,700) 1.49
Terminated (21,000) 2.83 (17,300) 1.83
--------- --------------- ---------- --------------
Outstanding-end of year 759,300 $2.22 1,259,300 $2.57
========= =============== ========== ==============
Options exercisable at end
of year 568,400 485,000
========= ==========
Weighted-average fair
value of Options granted
during the year $ 1.20 $ 1.12
========= ==========
</TABLE>
The following table summarizes information about stock options outstanding
at December 31, 1998:
<TABLE>
Number Weighted-Average Weighted- Number Weighted-
Range of Outstanding Remaining Average Exercisable Average
Exercise at Contractual Exercise at 12/31/98 Exercise
Prices 12/31/98 Life Price Price
- -------------- ---------- --------------- ------------- ------------- ------------
<S> <C> <C> <C> <C> <C>
$ 1.88 7,000 8.5 years $1.88 7,000 $1.88
2.00 to 2.97 1,024,300 8.9 years 2.44 367,536 2.35
3.03 to 3.50 228,000 7.7 years 3.20 110,500 3.17
---------- -------------
$ 1.88 to 3.50 1,259,300 8.7 years 2.57 485,036 2.53
========== =============
</TABLE>
<PAGE>
10. STATUTORY CAPITAL AND SURPLUS REQUIREMENTS AND DIVIDEND RESTRICTIONS:
American Progressive, American Pioneer and American Exchange 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 December 31, 1998 for
the maintenance of authority to do business were $2.5 million, $2.7 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.
During 1998, the Company made capital contributions totaling $2.0 million
to American Pioneer. These amounts were generated by the proceeds of the First
Amendment to the Company's credit agreement and from the proceeds of the Series
D Preferred Stock issuance. The capital contributions were made to support the
growth in new business production at American Pioneer.
The NAIC risk based capital ("RBC") rules have been adopted by New York,
Florida and Texas. The RBC rules provide for various actions when the ratio of a
company's total adjusted surplus to its RBC falls below 200%. At December 31,
1998, American Progressive, American Pioneer and American Exchange's ratios of
total adjusted capital to RBC were in excess of the Authorized Control Levels.
The following is a reconciliation of the Company's consolidated GAAP net
income and stockholders' equity to the corresponding statutory amounts for its
insurance subsidiaries:
As of December 31,
------------------------
1997 1998
----------- -----------
GAAP stockholders' equity $ 25,706,378 $ 28,317,871
Deferred acquisition costs (20,832,060) (24,282,771)
Unrealized gain on investments, net (2,087,515) (1,657,533)
Goodwill (4,508,596) (4,354,584)
Present value of future profits (1,281,807) (1,569,601)
Policyholder reserve adjustments 7,185,234 6,466,969
Asset valuation and interest maintenance
reserve (1,580,569) (2,544,527)
Deferred revenue 264,745 201,389
Deferred Federal income taxes 550,547 1,560,547
Loan payable 3,500,000 4,750,000
Series C and D preferred stock 5,168,000 7,418,000
Universal debenture payable to American
Progressive 5,925,000 7,900,000
Other, including non-insurance subsidiaries (2,123,954) (1,129,834)
----------- -----------
Consolidated statutory surplus $ 15,885,403 $ 21,075,926
=========== ===========
<TABLE>
Years ended December 31,
-----------------------------------
1996 1997 1998
----------- -----------------------
<S> <C> <C> <C>
GAAP net income applicable to common
shareholders $ 103,875 $ 1,869,619 $ 2,174,204
Redemption accrual on Series C preferred stock - 249,790 433,424
Deferred acquisition costs (2,257,617) (2,945,672) (3,529,521)
Amortization of goodwill - 111,819 170,898
Amortization of present value of future
profits - - 174,400
Realized gains on investments (369,428) (891,761) (322,030)
Amortization of the interest maintenance
reserve 229,768 249,789 323,120
Deferred revenue (280,335) (93,212) (63,356)
Policyholder benefits and expenses 1,081,369 18,079 (814,875)
Deferred Federal income tax expense 269,017 1,091,818 994,681
Interest expense on loan payable 83,852 77,389 306,578
Interest expense on Universal debenture
payable to American Progressive - 78,311 603,686
Other, including non-insurance subsidiaries 467,372 (495,354) (1,075,146)
=========== ========== ==========
Consolidated statutory net income $(672,127) $(679,385) ($623,937)
=========== ========== ==========
</TABLE>
Dividend payments from American Progressive to the Company would require
regulatory approval which, in all likelihood, would not be obtained until
American Progressive generated enough statutory profits to offset its entire
negative unassigned surplus, which was approximately $8.8 million at December
31, 1998. American Progressive made no dividends or distributions during 1996,
1997 or 1998.
American Pioneer may pay a dividend or make a distribution without the
prior written approval of the Florida Insurance Department when (a) the dividend
is equal to or less than the greater of (1) 10% of the insurer's surplus as to
policyholders derived from net operating profits on its business and net
realized capital gains ("policyholder surplus from operations"); or (2) the
insurer's entire net operating profits and realized net capital gains derived
during the immediately preceding calendar year but not more than its
policyholder surplus from operations; (b) the insurer will have surplus as to
policyholders equal to or exceeding 115% of the minimum required statutory
surplus as to policyholders after the dividend or distribution is made; and (c)
the insurer has filed notice with the department at least 10 business days prior
to the dividend payment or distribution. American Pioneer paid American
Progressive $500,000 and $185,455 in dividends during 1996 and 1997,
respectively and paid Universal $425,000 in dividends in 1997. American Pioneer
did not pay any dividends in 1998 and has the capacity to make $0.2 million in
dividend payments in 1999. During 1998, Universal contributed $0.2 million
to the surplus of American Pioneer to support the growth in new business in
American Pioneer.
Under current Texas insurance law, a life insurer may pay dividends or
make distributions without the prior approval of the Insurance Department as
long as the dividend distributions do not exceed the greater of (i) 10% of the
insurer's surplus as to policyholders as of the preceding December 31st; or (ii)
the insurer's net gain from operations for the immediately preceding calendar
year. American Exchange made no dividends or distributions in 1997 or 1998.
The Insurance Subsidiaries' statutory basis financial statements are
prepared in accordance with accounting practices prescribed or permitted by
their respective domiciliary states. "Prescribed" statutory accounting practices
include state laws, regulations and general administrative rules, as well as
publications of the NAIC. "Permitted" statutory accounting practices encompass
all accounting practices that are not prescribed; such practices may differ from
state to state, may differ from company to company within a state and may change
in the future. The Company does not utilize any permitted accounting practices.
The NAIC currently is in the process of codifying statutory accounting
practices. That project, when completed, may change prescribed statutory
accounting practices and thus may result in changes to the accounting practices
that the Insurance Subsidiaries use to prepare their statutory basis financial
statements.
11. REINSURANCE:
The Company is party to several reinsurance agreements on its life and
accident & health insurance risks. The Company's senior market accident & health
insurance products are reinsured under coinsurance treaties with unaffiliated
insurers, while the life insurance risks are reinsured under either coinsurance
or yearly-renewable term treaties with unaffiliated insurers. Under coinsurance
treaties, the reinsurer receives an agreed upon percentage of all premiums and
reimburses the Company that same percentage of any losses. In addition, the
Company receives certain allowances from the reinsurers to cover commissions,
expenses and premium taxes. Under yearly-renewable term treaties, the reinsuring
company receives premiums at an agreed upon rate and holds the required reserves
for its share of the risk on a yearly-renewable term basis. The Company
evaluates the financial condition of its reinsurers and monitors concentrations
of credit risk to minimize its exposure to significant losses from reinsurer
insolvencies. A contingent liability exists with respect to reinsurance that may
become a liability of the Company in the event that the reinsurers should be
unable to meet the obligations that they assumed.
The Company has several quota share reinsurance agreements in place with
RCH, Cologne Life Reinsurance Company ("CLR") and Transamerica Occidental Life
("TA") (collectively, the "Reinsurers"), which Reinsurers are rated A or better
by A.M. Best. These agreements cover various accident & health insurance
products written or acquired by the Company and contain ceding percentages
ranging between 50% and 90%. The Reinsurers receive their pro-rata premium and
pay their pro-rate benefits. In addition, the Company receives allowances from
the Reinsurers to reimburse the commission, administration and premium tax
expenses associated with the business reinsured. At December 31, 1997 and 1998,
amounts due from these Reinsurers were as follows:
Reinsurer 1997 1998
--------- ----------------- ----------------
RCH $ 20,485,857 $ 29,176,800
TA 20,823,260 21,760,558
CLR 2,721,061 3,685,663
------------ -------------
Total $ 44,030,178 $ 54,623,021
=========== ============
A summary of reinsurance activity for the three years ended December 31,
1998 is presented below:
As of December 31,
----------------------------------------
Life insurance in force 1996 1997 1998
(amounts in thousands) ------------ ------------ -------------
Gross amount $ 2,118,265 $2,118,492 $ 2,038,438
Ceded to other companies (889,132) (842,624) (735,791)
Assumed from other
companies 25,484 42,237 47,084
------------ ------------ -------------
Net Amount $ 1,254,617 $1,318,105 $ 1,349,731
============ ============ =============
Percentage of assumed to net 2% 3% 4%
============ ============ =============
Year Ended December 31,
---------------------------------------
Premiums 1996 1997 1998
------------ ----------- ------------
Life insurance $ 9,923,021 $12,660,147 $ 15,242,667
Accident & health 44,853,225 86,177,075 115,801,744
------------ ----------- ------------
Total gross premiums 54,776,246 98,837,222 131,044,411
------------ ----------- ------------
Ceded to other companies
Life insurance (2,870,540) (5,585,289) (7,238,165)
Accident & health (22,792,684) (57,037,432) (82,308,073)
------------ ----------- ------------
Total ceded premiums (25,663,224) (62,622,721) (89,546,238)
------------ ----------- ------------
Assumed from other
companies
Life insurance 391,456 997,836 997,891
Accident & health 10,130,531 - -
------------ ----------- ------------
Total assumed premium 10,521,987 997,836 997,891
------------ ----------- ------------
Net amount
Life insurance 7,443,937 8,072,694 9,002,393
Accident & health 32,191,072 29,139,643 33,493,671
------------ ----------- ------------
Total net premium $39,635,009 $37,212,337 $42,496,064
============ =========== ============
Percentage of assumed to net
Life insurance 5% 12% 11%
============ =========== ============
Accident & health 31% 0% 0%
============ =========== ============
Total assumed to total net 27% 3% 2%
============ =========== ============
<PAGE>
12. LOAN PAYABLE:
On December 10, 1997, the Company entered into an agreement with Chase
Manhattan Bank for a $3.5 million five-year secured term loan. The loan proceeds
were used to finance a portion of the intercompany sale of American Pioneer from
American Progressive to Universal and to retire the $0.8 million amount
outstanding on the term loan agreement with another commercial bank. The loan
agreement calls for interest at the London Interbank Offered Rate (LIBOR) plus
200 basis points. In connection with this loan agreement, the Company entered
into a three-year interest rate swap agreement, (the "Swap Agreement") with
Chase Securities Corp., effective January 1, 1998, to lock in a fixed rate of
8.19% for the three year period. Upon expiration of the Swap Agreement, the
Company's interest rate reverts to the LIBOR plus 200 basis points.
On September 30, 1998, the Company executed the First Amendment to its
Credit Agreement with Chase Manhattan Bank that refinanced the current loan
agreement with the bank. Under the Amendment, the Company executed a new $5.0
million five-year secured term loan. The loan proceeds were used to pay off the
principle amount outstanding on the prior loan of $3.2 million and for a capital
contribution to American Pioneer for $1.0 million. The new loan agreement calls
for interest at the London Interbank Offered Rate (LIBOR) plus 200 basis points.
The Company's three-year interest rate swap agreement on the original $3.5
million loan with the Bank remains in effect.
The loan is secured by a first priority interest in all the assets of
WorldNet Services Corp. and Quincy Corp., a pledge of 9.9% of the outstanding
common shares of American Progressive and 100% of the shares of Quincy Coverage
Corp.
The following table sets forth certain summary information with respect to
total borrowings of the Company for the three years ended December 31, 1998:
As of December Year Ended December 31,
31,
--------------------- -----------------------------------
Weighted
Maximum Average(a) Average
Amount Interest Amount Amount Interest
Outstanding Rate Outstanding Outstanding Rate (b)
---------- --------- ----------- ---------- ----------
1996 $ 800,000 9.50% $ 800,000 $ 800,000 10.48%
========== ========= =========== ========== ==========
1997 $3,500,000 8.19% $3,500,000 $ 952,000 9.76%
========== ========= =========== ========== ==========
1998 $4,750,000 7.97% $5,000,000 $3,743,750 8.19%
========== ========= =========== ========== ==========
- --------------------------------------
(a)The average amounts of borrowings outstanding were computed by
determining the arithmetic average of the months' average outstanding
in borrowings.
(b)The weighted-average interest rates were determined by dividing
interest expense related to total borrowings by the average amounts
outstanding of such borrowings.
13. COMMITMENTS:
The Company is obligated under certain lease arrangements for its
executive and administrative offices in New York, Orlando, Florida and Texas.
Rent expense for the three years ended December 31, 1996, 1997 and 1998 was $0.6
million, $0.8 million and $0.7 million, respectively. The minimum rental
commitments, subject to escalation clauses, at December 31, 1998 under
non-cancelable operating leases are as follows:
1999 $ 776,000
2000 758,000
2001 769,000
2002 500,000
2003 274,000
2004 193,000
---------
Totals $3,270,000
==========
14. UNIVERSAL AMERICAN FINANCIAL CORP. 401(K) SAVINGS PLAN:
Effective April 1, 1992, the Company adopted the Universal American
Financial Corp. 401(k) Savings Plan ("Savings Plan"). The Savings Plan is a
voluntary contributory plan under which employees may elect to defer
compensation for federal income tax purposes under Section 401(k) of the
Internal Revenue Code of 1986. The employee is entitled to participate in the
Savings Plan by contributing through payroll deductions up to 20% of the
employee's compensation. In the two year period ended December 31, 1997, the
Company matched the employee's contribution up to 1% of the employee's
compensation. Beginning in 1998, the Company matched the employee's contribution
up to 2% of the employee's compensation. The Company's matching contributions
are made with Company common stock. As of December 31, 1998, 298,554 shares of
the Company's common stock were held by the Savings Plan.
The participating employee is not taxed on these contributions until they
are distributed. Moreover, the employer's contributions vest at the rate of 25%
per plan year. Amounts credited to employee's accounts under the Savings Plan
are invested by the employer-appointed investment committee. Generally, a
participating employee is entitled to distributions from the Savings Plan upon
termination of employment, retirement, death or disability. Savings Plan
participants who qualify for distributions may receive a single lump sum, have
the assets transferred to another qualified plan or individual retirement
account, or receive a series of specified installment payments. Total matching
contributions by the Company under the Savings Plan were $38,478, $40,546 and
$92,487 in 1996, 1997 and 1998, respectively.
15. FINANCIAL INSTRUMENTS WITH CONCENTRATIONS OF CREDIT RISK:
For the years ended December 31, 1997 and 1998, the Company held unrated
or less-than-investment grade corporate debt securities with carrying and
estimated fair values as follows:
1997 1998
---------- ----------
Carrying value $2,616,470 $3,356,577
========== ==========
Estimated fair value $2,616,470 $3,356,577
========== ==========
Percentage of total
assets 1.0% 1.2%
========== ==========
The holdings of less-than-investment grade securities are widely
diversified and the investment in any one such security is currently less than
$1,000,000, which is approximately 0.4% of total assets.
16. DISCLOSURES ABOUT FAIR VALUES OF FINANCIAL INSTRUMENTS:
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value:
a. Fixed maturities available for sale: For those securities available
for sale, fair value equals quoted market price, if available. If a
quoted market price is not available, fair value is estimated using
quoted market prices for similar securities.
b. Equity securities: For equity securities carried at fair value, fair
value equals quoted market price.
c. Cash and cash equivalents: For cash and cash equivalents, the
carrying amount is a reasonable estimate of fair value.
d. Investment contract liabilities: For annuity and universal life type
contracts, the carrying amount is the policyholder account value
(see Note 2e); estimated fair value equals the policyholder account
value less surrender charges.
e. Short term debt and loan payable: For short-term borrowings and loan
payable, the carrying value is a reasonable estimate of fair value
due to their short-term nature.
f. Accounts receivable and uncollected premiums: Accounts receivable
and uncollected premiums are primarily insurance contract related
receivables, which are determined based upon the underlying
insurance liabilities and added reinsurance amounts.
The estimated fair values of the Company's financial instruments as of
December 31, 1997 and 1998 are as follows:
1997
-----------------------------
Carrying
Amount Fair Value
-------------- -------------
Financial assets:
Fixed maturities available
for sale $ 123,585,708 $ 123,585,708
Equity securities 945,116 945,116
Policy loans (a) 7,185,014
Property tax liens (b) 136,713
Mortgage loans (c) 2,562,008
Cash and cash equivalents 25,014,019 25,014,019
Financial liabilities:
Investment contract liabilities 145,085,687 132,208,242
Loan Payable 3,500,000 3,500,000
1998
-----------------------------
Carrying
Amount Fair Value
-------------- -------------
Financial assets:
Fixed maturities available
for sale $ 134,797,634 $134,797,634
Equity securities 1,019,780 1,019,780
Policy loans (a) 7,276,163
Property tax liens (b) 30,696
Mortgage loans (c) 4,456,516
Cash and cash equivalents 17,092,938 17,092,938
Financial
liabilities:
Investment contract 159,882,986 147,910,709
liabilities
Loan payable 4,750,000 4,750,000
- --------------------------------------
(a)It is not practicable to estimate the fair value of policy loans, as
they have no stated maturity and their rates are set at a fixed spread
to related policy liability rates. Policy loans are carried at the
aggregate unpaid principal balances in the consolidated balance sheets,
and earn interest at rates between 6% to 8%. Individual policy
liabilities, in all cases, equal or exceed outstanding policy loan
balances.
(b)Property tax liens are carried at cost. The determination of fair
value for these invested assets is not practical because there is no
active trading market for such invested assets. Individual liens in all
cases are first priority liens with collateral in excess of 300% of the
carrying value of the lien.
(c)Mortgage loans are carried at the aggregate unpaid balances and the
fair market value was not determined as the amount involved was
considered to be immaterial.
<PAGE>
17. CONDENSED QUARTERLY RESULTS OF OPERATIONS (UNAUDITED):
The quarterly results of operations for the three years ended December 31,
1998 are presented below:
<TABLE>
1996 Three Months Ended
- -------------------------------- ----------------------------------------------------------
March 31, June 30, September 30, December 31,
----------- ---------- ------------ ------------
<S> <C> <C> <C> <C>
Total revenue $ 12,257,842 $ 11,737,328 $ 14,199,901 $ 15,192,114
Total benefits, claims & other
expenses 11,930,299 11,550,317 14,049,636 15,484,041
----------- ---------- ------------ -------------
Operating income before income
taxes 327,543 187,011 150,265 (291,927)
Federal income tax expense
(benefit) 45,948 63,584 49,011 110,474
----------- ---------- ------------ -------------
Net income applicable to
common Shareholders 281,595 123,427 101,254 (402,401)
=========== ========== ============ =============
Basic earnings per share $ 0.04 $ 0.02 $ 0.01 $ (0.06)
=========== ========== ============ =============
Diluted earnings per share $ 0.03 $ 0.01 $ 0.01 $ (0.04)
=========== ========== ============ =============
1997 Three Months Ended
- -------------------------------- -----------------------------------------------------------
March 31, June 30, September 30, December 31,
------------ ---------- ------------ -------------
Total revenue $12,884,699 $ 13,274,793 $ 14,029,877 $ 11,141,151
Total benefits, claims & other
expenses 12,325,071 12,565,533 12,792,167 10,436,522
------------ ---------- ------------ ------------
Operating income (loss) before
income taxes 559,628 709,260 1,237,710 704,629
Federal income tax expense 190,013 241,410 420,820 239,575
------------ ---------- ------------ ------------
Net Income 369,615 467,850 816,890 465,054
Redemption accrual on Series C
Preferred Stock - 55,200 91,230 103,360
------------ ---------- ------------ -------------
Net income applicable to common
Shareholders $ 369,615 $ 412,650 $ 725,660 $ 361,694
============ =========== ============= =============
Basic earnings per share $ 0.05 $ 0.06 $ 0.10 $ 0.05
============ =========== ============= =============
Diluted earnings per share $ 0.03 $ 0.06 $ 0.10 $ 0.05
============ =========== ============= =============
1998 Three Months Ended
- -------------------------------- -------------------------------------------------
March 31, June 30, September 30, December31,
------------ ----------- ------------- -------------
Total revenue $ 13,814,716 $ 14,330,825 $ 14,068,314 $ 13,875,251
Total benefits, claims & other
expenses 13,040,302 13,070,914 13,050,164 12,996,135
------------ ----------- ------------ -------------
Operating income before income
taxes 774,414 1,259,911 1,018,150 879,116
Federal income tax expense 241,361 450,309 346,172 286,121
------------ ----------- ------------ ------------
Net Income 533,053 809,602 671,978 592,995
Redemption accrual on Series
C Preferred Stock 108,356 108,356 108,356 108,356
------------ ---------- ------------ ------------
Net income applicable to common
Shareholders $ 424,697 $ 701,246 $ 563,622 $ 484,639
=========== ========== ============ ============
Basic earnings per share $ 0.06 $ 0.09 $ 0.07 $ 0.07
=========== ========== ============ ============
Diluted earnings per share $ 0.04 $ 0.06 $ 0. 05 $ 0.05
=========== ========== ============ ============
</TABLE>
During the fourth quarter of 1996, the Company accrued $0.3 million for its
restructuring (see Note 3) and $0.5 million for its withdrawal from its
participation in the National Accident Insurance Underwriters accident pool as
of December 31, 1996. Offsetting these amounts was the amount received by the
Company on the sale of its New York State DBL business, which amounted to
$0.2 million, net of additional reserves established.
18. INTERCOMPANY SALE OF AMERICAN PIONEER:
When American Pioneer was acquired in 1993, it became a wholly owned
subsidiary of American Progressive. This ownership structure (the "stacking")
had a significant negative impact on the Risk-Based Capital ratio of American
Progressive as computed by the regulators and the rating agencies and adversely
affected the ratings of both companies and their ability to write new business.
Pursuant to an agreement between Universal and American Progressive,
entered into with the consent of the New York Insurance Department on June 27,
1996 (the "Unstacking Agreement"), Universal is obligated to purchase all of the
outstanding stock of American Pioneer from American Progressive over a five-year
period for a total purchase price of $15.8 million. Under the terms of the
Unstacking Agreement, the purchase was implemented in segments with the purchase
price of the shares included in each segment being paid one half in cash and one
half in five-year debentures, paying interest at 8.5%. The debentures are
payable by Universal to American Progressive.
The Unstacking Agreement is intended to make American Pioneer a direct
subsidiary of Universal, rather than an indirect subsidiary, owned through
American Progressive. This unstacking is expected to have a beneficial effect on
the ratings of both insurers. In addition, the unstacking increases the surplus
of American Progressive, improves American Progressive's Risk Based Capital
Ratio and, when and to the extent that American Pioneer is able to pay
dividends, permits the payment of such dividends directly to Universal.
The first segments of the unstacking were consummated in September and
December of 1997. In the aggregate, Universal acquired 75% of American Pioneer
from American Progressive for $11.9 million consisting of $5.9 million in cash
and $5.9 million in debentures payable to American Progressive. The cash portion
of the unstacking was obtained by Universal from the proceeds of the Series C
Preferred Stock transaction with AAM, a dividend from American Pioneer, and from
the proceeds of a loan from Chase Manhattan Bank.
In May 1998, Universal purchased the remaining 25% of American Pioneer for
$4.0 million consisting of $2.0 million in cash and $2.0 million in debentures.
The cash portion of the proceeds was obtained from the cash flow from the
operations of WorldNet.
19. 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, asset enhancer, SL 2000 and other individual
and group products. The Non-insurance Businesses segment consists mainly of the
Parent Company and WorldNet, a third party administrator.
Financial data by segment for the three years ended December 31, 1998 is as
follows:
<TABLE>
December 31, 1996
Senior Other
Accident Accident Life Non-insurance
& Health & Health Insurance Businesses Total
--------- ---------- ----------- ------------- -----------
<S> <C> <C> <C> <C> <C>
Net premiums and policyholder
fees earned $ 7,424,224 $ 24,766,849 $ 7,954,300 $ - $ 40,145,373
Net investment income 196,135 642,840 8,978,091 33,017 9,850,083
Realized gains 4,780 16,473 218,822 - 240,075
Fee and other income - 450,000 411,583 2,290,071 3,151,654
---------- ---------- ----------- ------------ -----------
Total revenues 7,625,139 25,876,162 17,562,796 2,323,088 53,387,185
Policyholder benefits 4,488,845 17,586,363 10,436,383 - 32,511,591
Increase in
deferred acquisition costs (447,347) (54,503) (1,755,767) - (2,257,617)
Commissions and general
expenses 3,423,190 9,162,378 7,300,442 2,874,309 22,760,319
--------- ---------- ---------- ------------ -----------
Total benefits, claims
and other deductions 7,464,688 26,694,238 15,981,058 2,874,309 53,014,293
Operating income (loss)
before taxes 160,451 (818,076) 1,581,738 (551,221) 372,892
Federal income tax 46,709 (238,149) 460,457 - 269,017
---------- ---------- ---------- ----------- -----------
Net income (loss) available to
common shareholders $ 113,742 $ (579,927) $ 1,121,281 $ (551,221) $ 103,875
========== =========== =========== ============ ===========
ASSETS
Cash and investments 4,830,823 11,622,056 125,318,018 2,910,372 144,681,269
Deferred policy acquisition
costs 2,673,952 699,926 15,717,636 - 19,091,514
Accrued investment income 1,538,661 982,583 354,253 - 2,875,497
Goodwill - - - - -
Present value of future
profits 3,529,529 - - - 3,529,529
Due and unpaid premiums 406,207 1,253,677 1,052,137 - 2,712,021
Reinsurance recoverable 26,528,972 6,463,932 27,845,385 - 60,838,289
Other assets - - - 8,508,619 8,508,619
=========== ========== =========== =========== ============
Total assets $39,508,144 $21,022,174 $170,287,429 $11,418,991 $242,236,738
=========== ========== =========== ============ ============
December 31, 1997
Senior Other
Accident Accident Life Non-insurance
& Health & Health Insurance Businesses Total
--------- ---------- ---------- ------------ -----------
Net premiums and policyholder
fees earned $ 15,973,157 $ 13,168,808 $ 8,572,401 $ - $ 37,714,366
Net investment income 610,850 304,091 9,043,727 63,990 10,022,658
Realized gains 34,536 17,193 511,318 569,474 1,132,521
Fee and other income - - 365,980 2,094,995 2,460,975
---------- ---------- ----------- ------------ -----------
Total revenues 16,618,543 13,490,092 18,493,426 2,728,459 51,330,520
Policyholder benefits 11,218,500 9,117,256 10,470,104 - 30,805,860
Increase in deferred
acquisition costs (1,703,473) (67,833) (1,174,366) - (2,945,672)
Commissions and general
expenses 6,605,284 4,410,798 7,721,476 1,521,547 20,259,105
---------- ---------- ----------- ----------- ----------
Total benefits, claims
and other deductions 16,120,311 13,460,221 17,017,214 1,521,547 48,119,293
Operating income before taxes 498,232 29,871 1,476,212 1,206,912 3,211,227
Federal income tax 169,399 10,156 501,913 410,350 1,091,818
---------- ---------- ----------- ----------- ----------
Net income before Series C
dividend 328,833 19,715 974,299 796,562 2,119,409
Series C dividend - - - 249,790 249,790
---------- ---------- ----------- ----------- ----------
Net income available to
common shareholders $ 328,833 $ 19,715 $ 974,299 $ 546,772 $ 1,869,619
========== ========== =========== =========== ===========
ASSETS
Cash and investments 13,909,644 12,332,925 130,583,170 2,602,839 159,428,578
Deferred policy acquisition
costs 4,376,593 735,071 15,720,396 20,832,060
Accrued investment income 204,637 101,872 3,029,679 21,436 3,357,624
Goodwill 3,875,662 632,934 - - 4,508,596
Present value of future
profits 640,904 640,903 - - 1,281,807
Due and unpaid premiums 255,607 126,786 165,878 - 548,271
Reinsurance recoverable 27,851,574 8,375,214 40,349,252 - 76,576,040
Other assets - - - 6,042,360 6,042,360
========== ========== =========== =========== ============
Total assets $51,114,621 $22,945,705 $189,848,375 $ 8,666,635 $ 272,575,336
=========== ========== =========== =========== ============
December 31, 1998
Senior Other
Accident Accident Life Non-insurance
& Health & Health Insurance Businesses Total
---------- ---------- ----------- ------------ -----------
Net premiums and policyholder
fees earned $23,856,580 $ 9,637,090 $ 9,002,394 $ - $ 42,496,064
Net investment income 682,736 633,746 9,381,653 23,216 10,721,351
Realized gains 16,281 15,667 223,723 - 255,671
Fee and other income - - 364,623 2,251,397 2,616,020
----------- ---------- ----------- ------------ -----------
Total revenues 24,555,597 10,286,503 18,972,393 2,274,613 56,089,106
Policyholder benefits 18,455,546 6,962,521 12,816,603 - 38,234,670
Increase in deferred
acquisition costs (2,883,858) (367,988) (277,675) - (3,529,521)
Commissions and general
expenses 7,409,242 3,640,553 5,132,793 1,269,778 17,452,366
---------- ---------- ----------- ------------ -----------
Total benefits, claims
and other deductions 22,980,930 10,235,086 17,671,721 1,269,778 52,157,515
Operating income before taxes 1,574,667 51,417 1,300,672 1,004,835 3,931,591
Federal income tax 530,269 17,315 438,001 338,378 1,323,963
---------- ---------- ----------- ------------ ----------
Net income before Series C
dividend 1,044,398 34,102 862,671 666,457 2,607,628
Series C dividend - - - 433,424 433,424
---------- ---------- ----------- ------------ ----------
Net income available to
common shareholders $ 1,044,398 $ 34,102 $ 862,671 $ 233,033 $ 2,174,204
ASSETS
Cash and investments $10,677,277 $ 9,836,378 $141,177,535 $ 2,982,537 $ 164,673,727
Deferred policy acquisition
costs 7,138,963 1,224,547 15,919,261 - 24,282,771
Accrued investment income 225,336 209,167 3,096,407 7,662 3,538,572
Goodwill 3,742,748 611,836 - - 4,354,584
Present value of future
profits 992,788 576,813 - - 1,569,601
Due and unpaid premiums 200,418 172,928 152,563 - 525,909
Reinsurance recoverable 33,166,226 8,432,300 35,795,127 - 77,393,653
Other assets - - - 6,963,482 6,963,482
============ ========== =========== ========== ===========
Total assets $ 56,143,756 $ 21,063,969 $196,140,893 $ 9,953,681 $283,302,299
============ ========== =========== ========== ===========
</TABLE>
<PAGE>
Schedule II - Condensed Financial Information of Registrant
UNIVERSAL AMERICAN FINANCIAL CORP.
(Parent Company)
CONDENSED BALANCE SHEETS
December 31, 1997 and 1998
1997 1998
------------ ------------
ASSETS
Cash and cash equivalents $ 969,878 $ 1,794,470
Investments in subsidiaries at equity 38,069,090 47,824,471
Note receivable from American Pioneer 1,000,000 1,000,000
Due from subsidiary 259,848 368,093
Deferred tax asset 983,540 1,327,899
Other assets 304,965 797,637
------------ -----------
Total assets 41,587,321 53,112,570
============ ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Loan Payable 3,500,000 4,750,000
Note Payable to American Progressive 5,925,000 7,900,000
Due to subsidiary 949,099 3,863,313
Amounts payable and other liabilities 89,054 180,172
----------- -----------
Total liabilities 10,463,153 16,693,485
----------- -----------
Series C Preferred Stock 5,168,000 5,168,000
----------- -----------
Redemption accrual on Series C
Preferred Stock 249,790 683,214
----------- -----------
Series D Preferred Stock - 2,250,000
----------- -----------
Total stockholders' equity 25,706,378 28,317,871
----------- -----------
Total liabilities and stockholders'
equity $41,587,321 $53,112,570
=========== ===========
See notes to consolidated financial statements.
Schedule II, Continued
<PAGE>
Schedule II - continued
UNIVERSAL AMERICAN FINANCIAL CORP.
(Parent Company)
CONDENSED STATEMENTS OF OPERATIONS
For the Three Years Ended December 31, 1998
1996 1997 1998
---------- --------- ----------
REVENUES:
Net investment income $ 75 $ 73,797 $ 98,216
Other income - - 37,500
Dividends received from American
Pioneer - 425,000 -
---------- --------- ----------
Total revenues 75 498,397 135,716
---------- --------- ----------
EXPENSES:
Selling, general and
administrative expenses 301,235 501,998 1,661,575
---------- --------- ----------
Total expenses 301,235 501,998 1,661,575
---------- --------- ----------
Operating loss before provision
for federal income taxes and
equity income (301,160) (3,601) (1,525,859)
Federal income taxes (benefit) - (119,099) (344,360)
---------- --------- ----------
Net income (loss) before equity
income (301,160) 115,498 (1,181,499)
Equity in undistributed income 405,035 2,003,911 3,789,127
---------- --------- ----------
Net income 103,875 2,119,409 2,607,628
Redemption accrual on Series C Preferred
Stock - 249,790 433,424
---------- --------- ---------
Net income applicable to common
shareholders $103,875 $1,869,619 $2,174,204
========== ========== ==========
See notes to consolidated financial statements.
Schedule II, Continued
<PAGE>
Schedule II - continued
UNIVERSAL AMERICAN FINANCIAL CORP.
(Parent Company)
CONDENSED STATEMENTS OF CASH FLOWS
For the Three Years Ended December 31, 1998
<TABLE>
1996 1997 1998
----------- ----------- -----------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income 103,875 2,119,409 $2,607,628
Adjustments to reconcile net income to net
cash used by operating activities:
Amortization and depreciation, net - - -
Increase in investment in subsidiaries (392,557) (1,729,891) (5,805,378)
Change in amounts due to/from subsidiaries 176,160 185,535 2,914,214
Change in other assets and liabilities (32,860) (205,375) (837,909)
----------- ----------- -----------
Net cash (used by) provided from operating
activities (145,382) 369,678 (1,121,445)
----------- ----------- -----------
Cash flows from investing activities:
Cost of note receivable from American Pioneer - (1,000,000) -
Purchase of American Pioneer - (11,850,000) (3,950,000)
----------- ----------- -----------
Net cash used by investing activities - (12,850,000) (3,950,000)
----------- ----------- -----------
Cash flows from financing activities:
Net proceeds from issuance of common stock 202,263 274,020 421,037
Proceeds from the issuance of Series C
Preferred Stock - 4,838,356 -
Proceeds from the issuance of Series D
Preferred Stock - - 2,250,000
Increase in note payable to American
Progressive - 5,925,000 1,975,000
Increase in loan payable - 3,500,000 1,250,000
Change in short-term debt - (800,000) -
----------- ----------- -----------
Net cash provided from financing activities 202,263 13,373,376 5,896,037
----------- ----------- -----------
Net increase in cash and cash equivalents 56,881 893,054 824,592
Cash and cash equivalents:
At beginning of year 19,963 76,844 969,878
----------- ----------- -----------
At end of year $ 76,844 $ 969,878 $ 1,794,470
=========== =========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest $ 83,852 $ 77,389 $306,578
=========== =========== ===========
Income taxes $ - $ - $ -
=========== =========== ===========
</TABLE>
See notes to consolidated financial statements
<PAGE>
Schedule III - Supplementary Insurance Information
UNIVERSAL AMERICAN FINANCIAL CORP. AND SUBSIDIARIES
SUPPLEMENTARY INSURANCE INFORMATION
<TABLE>
1996 1997 1998
------------- ------------- -------------
<S> <C> <C> <C>
Deferred policy acquisition costs $ 19,091,514 $ 20,832,060 $ 24,282,771
============= ============= =============
Policyholder account balances $ 134,538,954 $ 145,085,687 $ 154,886,059
============= ============= ==============
Policy and contract claims $ 25,814,721 $ 23,759,654 $ 26,629,587
============= ============= ==============
Premiums and policyholders fees
earned $ 40,145,373 $ 37,714,366 $ 42,496,064
============= ============= ==============
Net investment income $ 9,850,083 $ 10,022,658 $ 10,721,351
============= ============= ==============
Interest credited to policyholders $ 6,614,176 $ 6,645,716 $ 7,240,241
============= ============= ==============
Claims and other benefits and
Change in future policy benefits $ 25,897,415 $ 24,160,144 $ 30,994,429
============= ============= ==============
Increase in deferred acquisition costs $ 2,257,617 $ 2,945,672 $ 3,529,521
============= ============= ==============
Commissions and other operating costs and
expenses $ 22,760,319 $ 20,147,286 $ 17,452,366
============= ============= ==============
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 7
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> Dec-31-1998
<PERIOD-END> Dec-30-1998
<DEBT-HELD-FOR-SALE> 0
<DEBT-CARRYING-VALUE> 134787634
<DEBT-MARKET-VALUE> 134787634
<EQUITIES> 1019780
<MORTGAGE> 4456516
<REAL-ESTATE> 30696
<TOTAL-INVEST> 147580789
<CASH> 17092938
<RECOVER-REINSURE> 77393653
<DEFERRED-ACQUISITION> 24282771
<TOTAL-ASSETS> 283302293
<POLICY-LOSSES> 47442966
<UNEARNED-PREMIUMS> 0
<POLICY-OTHER> 154886059
<POLICY-HOLDER-FUNDS> 26629587
<NOTES-PAYABLE> 4750000
0
11418000
<COMMON> 76381
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 283302293
42496064
<INVESTMENT-INCOME> 10721351
<INVESTMENT-GAINS> 255671
<OTHER-INCOME> 2616020
<BENEFITS> 25638642
<UNDERWRITING-AMORTIZATION> (3529521)
<UNDERWRITING-OTHER> 0
<INCOME-PRETAX> 3931590
<INCOME-TAX> 1323963
<INCOME-CONTINUING> 2607628
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2607628
<EPS-PRIMARY> 0.29
<EPS-DILUTED> 0.2
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
