<PAGE> 1
As Filed With the Securities and Exchange Commission on February 23, 1995
Registration No. 33-
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM S-3
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
ACCEPTANCE INSURANCE COMPANIES INC.
(Exact Name of Registrant as Specified in Its Charter)
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<S> <C> <C>
DELAWARE 6331 31-0742926
(State or other jurisdiction of (Primary SIC CODE) (I.R.S. Employer ID No.)
incorporation or organization)
William J. Gerber
Vice President
222 South 15th Street 222 South 15th Street
Suite 600 North Suite 600 North
Omaha, Nebraska 68102 Omaha, Nebraska 68102
(402) 344-8800 (402) 344-8800
(Address, Including Zip Code, and Telephone Number, (Name, Address, Including Zip Code, and Telephone
Including Area Code, of Registrant's Principal Number
Executive Offices) Including Area Code, of Agent For Service)
</TABLE>
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Copies to:
<TABLE>
<S> <C>
Donn E. Davis, Esq. Peter R. O'Flinn, Esq.
Sylvester J. Orsi, Esq. LeBoeuf, Lamb, Greene & MacRae
Crosby, Guenzel, Davis, L.L.P.
Kessner & Kuester 125 West 55th Street
134 South 13th Street, Suite 400 New York, New York 10019-5389
Lincoln, Nebraska 68508 (212) 424-8000
(402) 434-7300
</TABLE>
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APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: AS SOON AS
PRACTICABLE AFTER THIS REGISTRATION STATEMENT BECOMES EFFECTIVE.
If any of these securities being registered on this Form are to be offered
on a delayed or continuous basis pursuant to Rule 415 under the Securities Act
of 1933, check the following box. / /
CALCULATION OF REGISTRATION FEE
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PROPOSED
PROPOSED MAXIMUM
TITLE OF EACH CLASS AMOUNT MAXIMUM AGGREGATE AMOUNT OF
OF SECURITIES TO BE OFFERING PRICE OFFERING REGISTRATION
TO BE REGISTERED REGISTERED(1) PER UNIT(2) PRICE(2) FEE
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<S> <C> <C> <C> <C>
% Convertible Subordinated
Notes due 2005................... $69,000,000 100% $69,000,000 $23,793
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Common Stock, $.40 par value....... (3) N/A N/A N/A
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</TABLE>
(1) Includes $9,000,000 principal amount of Notes that the Underwriters have the
option to purchase to cover over-allotments, if any.
(2) Estimated in accordance with Rule 457 solely for the purpose of calculating
the registration fee.
(3) Also being registered are such currently indeterminate number of shares of
Common Stock as may be issuable upon or in connection with the conversion of
the Notes being registered hereunder. No additional consideration will be
received by Acceptance Insurance Companies Inc. for such shares.
THE REGISTRANT HEREBY AMENDS THE REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.
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<PAGE> 2
CROSS-REFERENCE SHEET
<TABLE>
<CAPTION>
CAPTION OR
ITEM OF FORM S-3 LOCATION IN PROSPECTUS
- ------------------------------------------------- ------------------------------------------
<S> <C> <C>
1. Forepart of the Registration Statement and
Outside Front Cover Page of Prospectus.... Outside Front Cover Page
2. Inside Front and Outside Back Cover Pages
of Prospectus............................. Inside Front and Outside Back Cover Page;
Available Information; Incorporation of
Certain Documents by Reference; Table of
Contents
3. Summary Information, Risk Factors and
Ratio of Earnings to Fixed Charges........ Prospectus Summary; Certain Investment
Considerations; Selected Consolidated
Financial Data
4. Use of Proceeds........................... Use of Proceeds
5. Determination of Offering Price........... Underwriting
6. Dilution.................................. Not Applicable
7. Selling Security Holders.................. Not Applicable
8. Plan of Distribution...................... Underwriting
9. Description of Securities to be
Registered................................ Description of Notes; Description of
Capital Stock
10. Interests of Named Experts and Counsel.... Legal Matters
11. Material Changes.......................... The Company; Management's Discussion and
Analysis of Financial Condition and
Results of Operations
12. Incorporation of Certain Documents by
Reference................................. Incorporation of Certain Documents by
Reference
13. Disclosure of Commission Position on
Indemnification for Securities Act
Liabilities............................... Not Applicable
</TABLE>
<PAGE> 3
Information contained herein is subject to completion or amendment. A
registration statement relating to these securities has been filed with the
Securities and Exchange Commission. These securities may not be sold nor
may offers to buy be accepted prior to the time the registration statement
becomes effective. This prospectus shall not constitute an offer to sell or
the solicitation of an offer to buy, nor shall there be any sale of these
securities in any State in which such offer, solicitation or sale would be
unlawful prior to registration or qualification under the securities laws
of any such State.
SUBJECT TO COMPLETION, DATED FEBRUARY 23, 1995
PROSPECTUS
$60,000,000
ACCEPTANCE INSURANCE COMPANIES INC.
% CONVERTIBLE SUBORDINATED NOTES DUE 2005
Interest Payable and
------------------
The Notes are convertible at any time prior to maturity, unless previously
redeemed, at the rate of $ principal amount (subject to adjustment) of
the Notes for each share of the common stock, par value $.40 ("Common Stock"),
of the Company. See "Description of Notes -- Conversion Rights." Interest on the
Notes is payable semi-annually in arrears on each and ,
commencing , 1995. On , 1995, the closing sales price
of the Common Stock of the Company on the New York Stock Exchange ("NYSE")
(symbol "AIF") was $ per share.
The Notes are redeemable at the option of the Company, in whole or in part,
on or after , 1998, at the redemption prices set forth in this
Prospectus, plus accrued interest to the date of redemption. See "Description of
Notes -- Optional Redemption." In the event of a Change of Control which
constitutes a Repurchase Event (each as defined herein) of the Company, each
holder of Notes will have the right to require the Company to purchase such
holder's Notes for a cash price equal to 100% of the principal amount thereof
plus accrued interest to the date of purchase. See "Description of
Notes -- Rights to Require Repurchase of Notes upon Change of Control." The
Notes will mature on , 2005. There will be no sinking fund.
The Notes are unsecured obligations of the Company and are subordinated in
right of payment to all current and future Senior Indebtedness (as defined
herein) of the Company. In addition, because the Company itself is a holding
company, the Notes will be effectively subordinated to all existing and future
liabilities of the Company's subsidiaries.
The Company intends to apply for listing of the Notes on the NYSE. There
can be no assurance that an active public market for the Notes will develop or
be maintained after this offering (the "Offering").
FOR A DISCUSSION OF CERTAIN RISKS AND OTHER FACTORS TO BE CONSIDERED BY
PROSPECTIVE INVESTORS, SEE "CERTAIN INVESTMENT CONSIDERATIONS."
------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION, NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS
PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS
A CRIMINAL OFFENSE.
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PRICE TO UNDERWRITING DISCOUNTS PROCEEDS TO
PUBLIC(1) AND COMMISSIONS(2) COMPANY(1)(3)
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<S> <C> <C> <C>
Per Note.......................... 100% % %
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Total(4).......................... $60,000,000 $ $
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</TABLE>
(1) Plus accrued interest, if any, from , 1995.
(2) The Company has agreed to indemnify the Underwriters against certain
liabilities, including liabilities under the Securities Act of 1933, as
amended, and to reimburse certain out-of-pocket expenses of the
Underwriters. See "Underwriting."
(3) Before deducting expenses payable by the Company estimated at $500,000 and
the expense reimbursement described above.
(4) The Company has granted the Underwriters a 30-day option to purchase up to
an additional $9,000,000 principal amount of Notes to cover over-allotments,
if any. If such option is exercised in full, the total Price to Public,
Underwriting Discounts and Commissions and Proceeds to Company will be
$69,000,000, $ and $ , respectively. See "Underwriting."
------------------
The Notes are being offered by the several Underwriters named herein,
subject to prior sale, when, as, and if accepted by them and subject to certain
conditions. It is expected that the Notes offered hereby will be available for
delivery on or about , 1995, at the offices of Smith Barney Inc., 388
Greenwich Street, New York, New York 10013.
------------------
SMITH BARNEY INC.
ADVEST, INC.
OPPENHEIMER & CO., INC.
, 1995
<PAGE> 4
IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT
TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON STOCK OR
THE NOTES AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN
MARKET. SUCH TRANSACTIONS MAY BE EFFECTED ON THE NEW YORK STOCK EXCHANGE, IN THE
OVER-THE-COUNTER MARKET OR OTHERWISE. SUCH STABILIZING, IF COMMENCED, MAY BE
DISCONTINUED AT ANY TIME.
FOR NORTH CAROLINA PURCHASERS: THESE SECURITIES HAVE NOT BEEN APPROVED OR
DISAPPROVED BY THE COMMISSIONER OF INSURANCE FOR THE STATE OF NORTH CAROLINA,
NOR HAS THE COMMISSIONER OF INSURANCE RULED UPON THE ACCURACY OR THE ADEQUACY OF
THIS DOCUMENT.
THE COMPANY IS A HOLDING COMPANY WHICH OWNS DIRECTLY OR INDIRECTLY ALL THE
OUTSTANDING SHARES OF CAPITAL STOCK OF CERTAIN INSURANCE COMPANY SUBSIDIARIES
DOMICILED IN NEBRASKA, IOWA AND ARIZONA. THE NEBRASKA, IOWA AND ARIZONA
INSURANCE LAWS PROVIDE THAT NO PERSON MAY ACQUIRE CONTROL OF THE COMPANY, AND
THUS INDIRECT CONTROL OF THESE INSURANCE COMPANY SUBSIDIARIES, UNLESS SUCH
PERSON HAS GIVEN PRIOR WRITTEN NOTICE TO SUCH INSURANCE COMPANY SUBSIDIARIES AND
RECEIVED THE PRIOR APPROVAL OF THE COMMISSIONER OF INSURANCE OF THE STATES OF
NEBRASKA, IOWA AND ARIZONA. ANY PURCHASER OF 10% OR MORE OF THE OUTSTANDING
SHARES OF COMMON STOCK OF THE COMPANY OR NOTES CONVERTIBLE INTO 10% OR MORE OF
SUCH OUTSTANDING SHARES WOULD BE PRESUMED TO HAVE ACQUIRED SUCH CONTROL UNLESS
THE COMMISSIONER OF INSURANCE OF THE STATES OF NEBRASKA, IOWA AND ARIZONA, UPON
APPLICATION, HAVE DETERMINED OTHERWISE.
------------------------
INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE
The following documents have been filed with the Securities and Exchange
Commission (the "Commission") (File No. 1-7461) and are incorporated in this
Prospectus by reference and made a part hereof:
1. The Company's Annual Report on Form 10-K/A for the fiscal year
ended December 31, 1993.
2. The Company's Quarterly Report on Form 10-Q for the fiscal Quarter
ended March 31, 1994.
3. The Company's Quarterly Report on Form 10-Q for the fiscal Quarter
ended June 30, 1994.
4. The Company's Quarterly Report on Form 10-Q for the fiscal Quarter
ended September 30, 1994.
5. The description of the Company's capital stock contained in the
Company's Registration Statement on Form 10, and any subsequently filed
reports that amended such Registration Statement.
6. The Company's Current Report on Form 8-K dated July 2, 1993, and
amendments 1, 2, 3, 4 and 5 thereto on Form 8-K/A.
All reports and definitive proxy or information statements filed pursuant
to Sections 13(a), 13(c), 14 or 15(d) of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"), subsequent to the date of this Prospectus and
prior to the termination of the offering of the Notes shall be deemed to be
incorporated by reference into this Prospectus and to be a part hereof from the
date of filing of such documents. Any statement contained in a document
incorporated or deemed to be incorporated by reference herein shall be deemed to
be modified or superseded for purposes of this Prospectus to the extent that a
statement contained herein or in any other subsequently filed document which
also is incorporated or deemed to be incorporated by reference herein modifies
or supersedes such statement. Any such statement so modified or superseded shall
not, except as so modified or superseded, be deemed to constitute a part of this
Prospectus.
Any person receiving a copy of this Prospectus may obtain without charge,
upon request, a copy of any of the information incorporated by reference herein,
except for the exhibits to such information unless such exhibits specifically
are incorporated into such information. Requests should be directed to: Investor
Relations, Acceptance Insurance Companies Inc., 222 South 15th Street, Suite 600
North, Omaha, Nebraska 68102.
2
<PAGE> 5
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information and Consolidated Financial Statements (including the notes thereto)
appearing elsewhere in this Prospectus. Except as otherwise specified, all
information in this Prospectus assumes no exercise of the Underwriters'
over-allotment option. For a definition of certain terms used in this
Prospectus, see "Glossary of Insurance Terms."
THE COMPANY
Acceptance Insurance Companies Inc. ("Acceptance" or the "Company") is
engaged in the property and casualty insurance business concentrating on writing
specialty coverages not generally emphasized by standard insurance carriers. The
Company's principal insurance segments are (i) General Agency, which includes
specialty automobile, surplus lines liability and substandard property, and
complex products and professional liability coverages, distributed through
general agents; (ii) Rural America, including crop insurance and traditional
property and casualty products for the rural marketplace; (iii) Program, which
includes transportation and workers' compensation coverages, written primarily
through agents specializing in such coverage, and other focused insurance
programs; and (iv) Non-Standard Automobile, which provides coverages for private
passenger automobiles and is written principally in the southwestern United
States.
The Company's strategy has been to seek opportunities in the property and
casualty insurance market where it believes it can achieve profitable results,
often by taking advantage of capacity shortages or other dislocations in the
market, and to develop those opportunities by attracting and supporting
underwriters and other managers with proven expertise who have dedicated their
careers to understanding a particular segment of the insurance industry.
Acceptance's strategy has resulted in a diversified mix of insurance businesses,
among which the Company's capital is allocated based on management's view as to
where the best underwriting opportunities exist at any time. The Company seeks
to limit its exposure to large losses by implementing strict underwriting
standards and reinsurance programs tailored to the needs of its business lines.
The Company has expanded its business both through internal growth and
through acquisitions. The Company's most significant recent acquisition was its
purchase in July 1993 of The Redland Group, Inc. ("Redland"), a leading writer
of Multi-Peril Crop Insurance ("MPCI") and of crop hail insurance. Multi-Peril
Crop Insurance is a federally-subsidized insurance program which is designed to
provide farmers who suffer an insured crop loss due to the weather or other
natural perils with the funds needed to continue operating and plant crops for
the next growing season. For the year ended December 31, 1994, the Company wrote
approximately $130 million in MPCI Premiums (as defined herein), making it the
third largest writer of MPCI business in the country with an approximate 14%
share of the market.
The size of the national MPCI market is poised to increase in 1995 due to
recent changes in law which may encourage more farmers to participate in the
MPCI program and thereby increase the number of farm acres insured. The Company
believes that it is well-positioned to take advantage of an increase in the size
of the national MPCI market, due to its experience and market penetration. In
addition, the profit sharing formula for MPCI business has been revised by the
federal government for 1995 and 1996 in a manner which increases the potential
profitability of that business for the Company. However, no assurance can be
given that an increase in market size will in fact occur or that any of the
foregoing changes will result in profitable growth for the Company. For further
information about the Company's MPCI business, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- General," "Certain
Investment Considerations -- Crop Program Considerations," and
"Business -- Rural America" and "-- Multi-Peril Crop Insurance Program."
The Company markets its insurance products through approximately 120
general agents and over 9,000 independent agents. The Company's objective is to
be able to write business on both an admitted and a non-admitted basis in each
state in which it operates. The Company believes that this ability is a
competitive advantage since certain lines of specialty insurance can be written
more effectively on a non-admitted, or excess and surplus lines, basis. The
Company's insurance subsidiaries write business in 48 states, the District
3
<PAGE> 6
of Columbia and the Virgin Islands, with 62% of net premiums written during the
nine months ended September 30, 1994 on a non-admitted basis and 38% written on
an admitted basis.
The Company's net premiums written totaled $173.7 million for the nine
months ended September 30, 1994, an increase of 74.7% over $99.4 million written
during the same period in 1993. This increase resulted primarily from the
acquisition of Redland in July 1993 and a significant increase in business
written in the Company's General Agency segment following the hiring in August
1993 of four experienced executives who previously served a large specialty
insurer. For the 1994 nine month period, the Company's net income increased to
$13.2 million from $5.4 million in the 1993 period, primarily as a result of
increased profits from the Company's MPCI business. The Company's statutory
combined ratio was 97.9% for the nine months ended September 30, 1994 as
compared to 109.8% for the property and casualty industry for the same period.
For a discussion of the accounting treatment of the Company's MPCI business, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- General."
Each of the Company's principal insurance company operations which are
rated carry an A- (Excellent) rating by A.M. Best Company, Inc. ("A.M. Best").
A.M. Best bases its ratings upon factors that concern policyholders and agents
and not upon factors concerning investor protection.
The Company's financial results were substantially impacted during the
years 1990 to 1992 by a series of transactions designed to restructure and phase
out certain non-insurance operations and improve the capital position of its
insurance operations. Commencing in the third quarter of 1992, the Company's
insurance operations became its sole focus under the leadership of its current
Chairman and Chief Executive Officer, Kenneth C. Coon, co-founder in 1979 of one
of the Company's principal insurance operations. See "The Company," "Selected
Consolidated Financial Data" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Effects of Prior Non-Insurance
Operations."
THE OFFERING
Securities Offered............ $60,000,000 aggregate principal amount of %
Convertible Subordinated Notes (the "Notes")
due , 2005. ($69,000,000 aggregate
principal amount if the Underwriters'
over-allotment option is exercised in full.)
Interest...................... % per annum, payable semi-annually in arrears
on each and , commencing
, 1995.
Conversion.................... The Notes are convertible into shares of Common
Stock of the Company at any time prior to
maturity unless previously redeemed, at a
conversion price of $ per share, subject to
adjustment in certain events.
Subordination................. The Notes are subordinated in right of payment
to all present and future Senior Indebtedness
(as defined herein) of the Company. The Notes
will also be effectively subordinated to all
indebtedness and other liabilities of the
Company's subsidiaries. The indenture governing
the Notes will not restrict the Company or its
subsidiaries from incurring additional Senior
Indebtedness or other indebtedness or
obligations.
Optional Redemption........... The Notes may be redeemed at the option of the
Company, in whole or in part, at any time on or
after , 1998, initially at %
of their principal amount declining annually to
100% of their principal amount on or after
, 2004, in each case together with
accrued interest to the date of redemption.
There is
4
<PAGE> 7
no mandatory redemption of the Notes and no
sinking fund requirement.
Repurchase Rights............. In the event of a Change of Control of the
Company (as defined herein) which constitutes a
Repurchase Event (as defined herein), each
holder of Notes will have the right to require
the Company to repurchase outstanding Notes
held by such holder at 100% of the principal
amount of such Notes, plus accrued and unpaid
interest to the date of such repurchase.
Use of Proceeds............... The net proceeds of the Offering are estimated
at approximately $57.6 million (approximately
$66.3 million if the Underwriters'
over-allotment option is exercised in full).
The net proceeds will be used to contribute an
aggregate of approximately $40 million of
capital to certain of the Insurance Companies
(as defined herein), to reduce outstanding debt
under the Company's revolving credit facility
(the "Revolving Credit Facility") by
approximately $17 million and for working
capital and general corporate purposes. See
"Use of Proceeds."
Listing....................... The Company intends to apply for listing of the
Notes on the NYSE. The Common Stock is traded
on the NYSE under the symbol "AIF."
5
<PAGE> 8
SUMMARY CONSOLIDATED FINANCIAL INFORMATION
The summary consolidated financial information set forth below should be
read in conjunction with the Consolidated Financial Statements of the Company
and the notes thereto and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
FOUR MONTHS
NINE MONTHS ENDED YEARS ENDED ENDED
SEPTEMBER 30, DECEMBER 31, DECEMBER YEARS ENDED AUGUST 31,
--------------------- ------------------------------------ 31, ----------------------
1994(1) 1993(1) 1993(1) 1992 1991 1990(2) 1990 1989
-------- -------- -------- -------- -------- ----------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA AND RATIOS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA
Insurance Revenues:
Gross premiums
written............... $361,147 $179,494 $256,042 $152,091 $104,853 $25,563 $38,985 $ --
======== ======== ======== ======== ======== ============ ======= =======
Net premiums written.... $173,732 $ 99,435 $137,505 $ 84,085 $ 62,982 $16,627 $36,940 $ --
======== ======== ======== ======== ======== ============ ======= =======
Net premiums earned..... $148,119 $ 88,948 $128,082 $ 79,164 $ 65,164 $23,362 $27,948 $ --
Net investment income... 9,082 7,474 10,467 8,220 6,103 2,518 3,145 --
Net realized capital
gains................. 499 1,788 2,250 1,046 1,953 1,004 616 --
Agency income........... 2,639 2,998 4,119 3,992 1,645 -- -- --
-------- -------- -------- -------- -------- ----------- ------- -------
Insurance revenues.... 160,339 101,208 144,918 92,422 74,865 26,884 31,709 --
Non-insurance revenues.... 148 266 377 2,610 5,824 1,498 1,870 --
-------- -------- -------- -------- -------- ----------- ------- -------
Total revenues............ 160,487 101,474 145,295 95,032 80,689 28,382 33,579 --
Operating profit (loss)... 12,539 7,926 10,566 4,641 1,182 1,063 (2,423) (4,188)
Net income (loss) from
continuing
operations(3)........... $ 13,249 $ 5,434 $ 7,586 $ (826)(4) $(23,110)(5) $ (832) $(5,658) $(5,679)
======== ======== ======== ======== ======== ============ ======= =======
Net income (loss) from
continuing operations per
share:
-- Primary.............. $ 1.12 $ 0.66 $ 0.86 $ (0.24) $ (6.78)(5) $ (0.25) $ (1.82) $ (2.68)
-- Fully diluted........ 1.09 0.64 0.85 (0.24) (6.78)(5) (0.25) (1.82) (2.68)
SAP Ratios(6)
Loss ratio.............. 72.3% 76.5% 75.6% 75.8%(4) 72.2% 73.4%
Expense ratio........... 25.6 23.9 29.3 29.3 28.7 26.3
-------- -------- -------- -------- -------- -----------
Combined ratio.......... 97.9% 100.4% 104.9% 105.1% 100.9% 99.7%
======== ======== ======== ======== ======== ============
</TABLE>
<TABLE>
<CAPTION>
SEPTEMBER 30, 1994
------------------------
AS
ACTUAL ADJUSTED(7)
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<S> <C> <C>
BALANCE SHEET DATA:
Investments............................................................................. $227,388 $ 321,413
Total assets............................................................................ 555,165 651,565
Loss and loss adjustment expense reserves............................................... 229,080 229,080
Unearned premiums....................................................................... 91,664 91,664
Borrowings and term debt................................................................ 29,000 72,000
Stockholders' equity.................................................................... 102,451 155,838
Statutory surplus of Insurance Companies(6)............................................. 87,107 165,407
Ratio of earnings to fixed charges (for nine months ended on date indicated).............. 7.6x 6.7x(8)
</TABLE>
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(1) For a discussion of the accounting treatment of the Company's MPCI business,
the results of which are included in the periods indicated, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- General."
(2) Effective September 1, 1990, the Company changed its fiscal year end from
August 31 to December 31.
(3) Does not include amounts relating to discontinued operations recorded
primarily in 1991. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Effects of Prior Non-Insurance
Operations."
(4) Operating profit was reduced in 1992 by the strengthening of reserves in the
amount of approximately $2.1 million on two lines of insurance and $1.7
million of incurred losses relating to Hurricanes Andrew and Iniki. The
strengthening of reserves and hurricane losses accounted for 4.8% of the
loss ratio for 1992.
(5) Included in loss from continuing operations for the year ended December 31,
1991, is a non-cash charge of $15,300,000, or $4.49 per share, to reduce the
Company's equity investment in real estate operations to estimated net
realizable value, incurred as part of the restructuring of certain prior
non-insurance operations. See "The Company."
(6) Statutory data have been derived from the separate financial statements of
the Company's insurance subsidiaries prepared in accordance with SAP. The
ratios shown for 1990 are calculated on a calendar year basis.
(7) This column is adjusted to give effect to this Offering and the application
of the net proceeds therefrom and to the application of the $53.4 million
net proceeds of the exercise of certain Common Stock purchase warrants on
December 1, 1994.
(8) For purposes of determining the ratio of earnings to fixed charges, earnings
are defined as earnings from continuing operations before income taxes and
fixed charges. Fixed charges consist of interest expense on all indebtedness
and the interest component of rent expense.
6
<PAGE> 9
THE COMPANY
FORMATION AND EARLY YEARS OF ACCEPTANCE INSURANCE
Acceptance Insurance Company ("Acceptance Insurance"), one of the Company's
two principal insurance subsidiaries, was founded in 1979 by Gary O. Gross and
Kenneth C. Coon, the current Chairman and Chief Executive Officer of the
Company. Acceptance Insurance initially focused on writing specialty property
and casualty insurance coverages through general agents, primarily on an excess
and surplus lines basis.
In addition to its growth in existing lines, Acceptance Insurance began to
seek new lines of business through strategic acquisitions, joint ventures with
other experienced insurance managers and new marketing partnerships. In 1988
Acceptance Insurance formed a joint venture with Statewide Insurance Corporation
("Statewide") to write non-standard automobile coverages through Phoenix
Indemnity Insurance Company ("Phoenix Indemnity"), an insurer which was
initially 80% owned by the Company and 20% by Statewide. Statewide was a
managing general agent which had developed non-standard automobile business in
the southwestern United States since the mid-1960's. In the same year,
Acceptance Insurance formed Acceptance Indemnity Insurance Company ("Acceptance
Indemnity") to write focused workers' compensation programs in a joint venture
with specialized claims managers in Minnesota. Additionally, in late 1991,
Acceptance Insurance acquired a transportation program business which had been
developed by experienced managers of the long haul trucking insurance business
of a large multi-line company.
Acquisition by Stoneridge Resources, Inc. Following the death of co-founder
Gary O. Gross in 1987, his descendants were receptive to suggestions which would
provide liquidity for their ownership interest in Acceptance Insurance. This
search eventually led to the acquisition in 1990 of Acceptance Insurance by the
Company, which at such time was known as Stoneridge Resources, Inc.
("Stoneridge"). At the time Stoneridge acquired Acceptance Insurance, Stoneridge
was involved in certain non-insurance operations which included real estate and
citrus businesses principally in Florida. As described below, these non-
insurance operations were restructured and largely phased out by mid-1992.
Despite the change in ownership, the senior management and insurance operating
strategies of Acceptance Insurance remained virtually unchanged following the
acquisition by the Company.
NON-INSURANCE OPERATIONS AND RESTRUCTURING
Shortly after Stoneridge acquired Acceptance Insurance, Stoneridge's real
estate and citrus operations suffered from unrelated business setbacks. In
response, the Board of Directors decided to restructure the Company and operate
solely as a holding company of the insurance business. The Company turned to the
management of Acceptance Insurance, led by Kenneth C. Coon, for its new
direction. In 1991 and 1992 the Company classified as discontinued operations
and sold its citrus operations to reduce debt at the holding company level.
Further, the Company took a charge to continuing operations in 1991 of $15.3
million to write down the value of its principal real estate holdings to their
estimated net realizable value, and in 1992 renamed itself Acceptance Insurance
Companies Inc. At September 30, 1994, the Company's remaining interest in such
principal real estate holdings had a carrying value of $5.2 million.
Capital Additions. As part of its restructuring, in early 1993 the Company
completed an equity rights offering and used the net proceeds of $31.2 million
to pay down debt incurred in its acquisition of Acceptance Insurance and add
capital to the insurance company operations. As part of the equity rights
offering, approximately 4.85 million warrants to purchase Common Stock were
issued (the "Warrants"), each Warrant providing for the purchase of Common Stock
at $11.00 per share. On December 1, 1994, the Company received net proceeds of
approximately $53.4 million from the exercise by holders of the Warrants
following a call by the Company to redeem the Warrants. Of such amount, $38
million was used to increase the surplus of certain of the Insurance Companies
(as defined herein).
7
<PAGE> 10
CONTINUED EXPANSION OF INSURANCE OPERATIONS
The insurance operations of the Company continued to develop and expand
through strategic acquisitions and the addition of experienced underwriters and
other managers with proven expertise in certain specialty lines, both during and
after the transition period during which the Company phased out its
non-insurance operations. In 1991, Acceptance Insurance began writing complex
products and professional liability risks through Acceptance Risk Managers, Inc.
("ARM"), an independent general agency formed by two individuals with
significant expertise in underwriting difficult-to-place liability risks. In
July 1993, the Company acquired Redland, an Iowa based property and casualty
group specializing in Multi-Peril Crop Insurance and crop hail insurance.
Redland is discussed further below. In the same year, the Company expanded its
General Agency segment by hiring four experienced executives who previously
served a large national specialty insurer. This group brought significant
underwriting expertise and agency contacts to the Company, especially in excess
and surplus lines liability and substandard property coverages, and was
responsible for an increase in gross premiums written in these lines to
approximately $60 million in 1994 from approximately $20 million in 1993. In
April 1994, the Company acquired Statewide, which has acted as the exclusive
general agent for the Company's non-standard automobile insurance business since
the formation of Phoenix Indemnity, and by so doing acquired the remaining 20%
interest it did not own in Phoenix Indemnity.
Acquisition of Redland. Redland's insurance business was founded in 1979 by
John P. Nelson, an experienced property and casualty underwriter and the current
President and Chief Operating Officer of the Company, to write crop hail
insurance and other insurance products marketed to the rural community through
rural agents. Redland began offering Multi-Peril Crop Insurance after the
establishment of the MPCI program under the Federal Crop Insurance Act in 1980.
Multi-Peril Crop Insurance is a federally-subsidized insurance program
which offers farmers insurance against substantially all natural perils that
damage crops. The MPCI program is designed to provide farmers who suffer insured
crop loss due to the weather or other natural perils with the funds needed to
continue operating and plant crops for the next growing season. Farmers purchase
crop insurance, including MPCI, to meet risk management needs and are often
encouraged or required to do so by their lenders.
Although the Company writes MPCI business in 37 states, a significant
portion (approximately 34% for 1994) of the business upon which the Company
retains risk after federal reinsurance is written in Iowa and Nebraska. These
states have historically had more consistent crop yields due in part to
advantageous weather conditions and the high percentage of farm acres with
irrigation systems. In addition, the two leading crops in these states are corn
and soybeans, which the Company believes may be less likely to suffer losses
than other, less hardy crops. The Company has crop yield history information on
over 100,000 farms in the United States which it utilizes in its MPCI business.
Redland experienced strong growth in its MPCI business beginning in 1989
after severe droughts in the Midwest during the prior year destroyed a
significant part of the soybean and corn crops of midwestern farmers. However,
Redland's profits suffered in 1992 and 1993 due primarily to unusual weather in
the Midwest, including severe hail storms in 1992 and 1993 and unprecedented
flooding and a cool, wet growing season in 1993. Partly in order to obtain
needed capital, in 1993 Redland agreed to be acquired by the Company.
Since acquiring Redland, the Company has contributed capital to Redland's
principal insurance subsidiary, Redland Insurance Company ("Redland Insurance"),
to enable it to increase its premiums written. For the year ended December 31,
1994, Redland was the third largest writer of MPCI business in the country based
on MPCI Premium with an approximate 14% market share. In addition, the Company's
acquisition of Redland enabled Redland to reduce its reinsurance costs due to
the Company's greater reinsurance buying power.
Reform Act of 1994. The size of the national MPCI market is poised to
increase in 1995 due to recent changes in law. Under the Federal Crop Insurance
Reform Act (the "Reform Act"), passed in 1994, farmers are now required for the
first time to purchase Multi-Peril Crop Insurance in order to be eligible for a
number of other federally-sponsored farm benefits, including acreage "set aside"
programs, in which farmers are paid
8
<PAGE> 11
to leave a portion of their land unplanted, and crop price supports. As a
result, the federal Consolidated Farm Service Agency, which administers the MPCI
program, has estimated that the number of acres insured under the MPCI program
will increase substantially. The Company believes that it is well-positioned to
take advantage of an increase in the size of the national MPCI market, due to
its experience and market penetration. However, there can be no assurance that
such an increase will in fact occur or, if such an increase were to occur, that
it would result in profitable growth for the Company. For further discussion of
the Company's MPCI business, see "Certain Investment Considerations -- Crop
Program Considerations" and "Business -- Rural America."
THE COMPANY'S CURRENT STRUCTURE
The Company has developed and currently manages a select group of
underwriting specialties in the property and casualty insurance business not
generally emphasized by standard insurance carriers. The Company's principal
business segments are (i) General Agency, which includes specialty automobile,
surplus lines liability and substandard property, and complex products and
professional liability coverages; (ii) Rural America, including crop insurance
and traditional property and casualty coverages for the rural marketplace; (iii)
Program, which includes transportation, focused workers' compensation and used
automobile dealer programs; and (iv) Non-Standard Automobile, which provides
coverages for private passenger automobiles and is written principally in the
southwestern United States.
The Company underwrites its products through its five wholly-owned
insurance company subsidiaries: (i) Acceptance Insurance, Acceptance Indemnity,
and American Growers Insurance Company ("American Growers"), each domiciled in
Nebraska; (ii) Redland Insurance, domiciled in Iowa; and (iii) Phoenix
Indemnity, domiciled in Arizona (the Company's insurance subsidiaries are
collectively referred to herein as the "Insurance Companies"). The Insurance
Companies operate on an admitted carrier basis in 44 states and the District of
Columbia and on a non-admitted carrier basis in 42 states, the District of
Columbia and the Virgin Islands.
Each of the Insurance Companies is rated A- (Excellent) by A.M. Best, with
the exception of American Growers to which the A.M. Best rating system does not
apply. A.M. Best bases its ratings upon factors that concern policyholders and
agents, and not upon factors concerning investor protection. Such ratings are
subject to change and are not recommendations to buy, sell or hold securities.
The Company's executive offices are located at 222 South 15th Street, Suite
600 North, Omaha, Nebraska 68102, and its telephone number is (402) 344-8800.
9
<PAGE> 12
CERTAIN INVESTMENT CONSIDERATIONS
There are certain risks involved in an investment in the Notes.
Accordingly, prospective purchasers of the Notes should consider carefully the
factors set forth below as well as the other information contained in this
Prospectus.
NATURE OF BUSINESS; COMPETITION
Insurers compete based on a number of factors, including pricing and other
terms, service provided to agents and policyholders, and ratings. Since the last
half of the 1980's, there has been severe competition in pricing and terms of
coverage in the property and casualty insurance industry, resulting in
underwriting losses for the industry. The Company continues to experience
pricing competition in certain segments of its business as the conditions of a
"soft market cycle" (a period of heightened price competition and impaired
underwriting performance) continue in the industry as a whole. In addition, many
of the Company's competitors have substantially greater financial and other
resources, and some offer a broader variety of coverages than those offered by
the Company. The continuation of soft market conditions for many property and
casualty lines may result in additional competitors seeking to write business in
certain of the Company's specialized lines.
The Company's results also may be influenced by factors affecting the
insurance industry generally and which are largely beyond the Company's control.
Such factors include: (a) weather-related and other catastrophes; (b) taxation
and regulatory reform at both the federal and state levels; (c) changes in
industry standards regarding rating and policy forms; (d) changes in judicial
attitudes toward liability claims; (e) the cyclical nature of pricing in the
industry; and (f) changes in the rate of inflation, interest rates and general
economic conditions.
Property and casualty insurance is a capital intensive business. The
Company must maintain minimum levels of surplus in the Insurance Companies in
order to continue to write business and at the same time meet the standards
established by state insurance regulatory authorities and insurance rating
bureaus. On August 29, 1994, after a review of the Company's six-month financial
statements, A.M. Best placed the current A- (Excellent) ratings of Acceptance
Insurance, Acceptance Indemnity and Redland Insurance under review with negative
implications, citing as the reason the Company's growth in gross written
premiums without a corresponding growth in surplus. The Company subsequently
increased the statutory surplus of Redland Insurance and Acceptance Insurance by
an additional $18 million and $20 million, respectively, with proceeds from the
exercise on December 1, 1994 by holders of the Warrants to purchase Common
Stock. A.M. Best then affirmed the A- (Excellent) ratings. A.M. Best bases its
ratings upon factors that concern policyholders and agents and not upon factors
concerning investor protection. Such ratings are subject to change and are not
recommendations to buy, sell or hold securities.
The Company's history is one of continuing premium growth as a result both
of acquisitions and other equity investments and of internal growth, and it
intends to continue to pursue additional opportunities in the insurance
business. Such growth requires capital, and as a result the Company may seek
additional debt or equity financing in the future, the amounts of which may be
significant. There can be no assurance that the Insurance Companies will have
access to sufficient capital in future periods to continue their growth and also
satisfy the capital requirements of rating agencies and regulators. Such growth
has also involved and may continue to involve entering new lines of insurance in
which the Company has limited prior operating experience. Although the Company
follows the practice of hiring experienced personnel to manage its new lines of
business, there can be no assurance that it will be successful in writing such
new lines.
CROP PROGRAM CONSIDERATIONS
As a result of the acquisition of Redland in July 1993, the Company became
significantly involved in crop insurance programs, including the federal
Multi-Peril Crop Insurance program and the crop hail business. The Company's
operating results from its crop program can vary substantially from quarter to
quarter as a result of various factors, including timing and severity of losses
from storms and other natural perils and crop production cycles. Therefore, the
results for any quarter are not necessarily indicative of results for any future
10
<PAGE> 13
period. The results of the crop program business primarily are recognized in the
second half of the calendar year.
The Company expects that for the foreseeable future a material amount of
its business will continue to be derived from MPCI business. The MPCI program is
federally regulated and supported by the federal government by means of premium
subsidies to farmers, expense reimbursement and federal reinsurance pools for
private insurers. As such, legislative or other changes affecting the MPCI
program could impact the Company's business prospects. The MPCI program has
historically been subject to change at least annually since its establishment in
1980, some of which changes have been significant. No assurance can be given
that future changes will not significantly affect the MPCI program.
On October 13, 1994, Congress expanded the MPCI program by enacting the
Reform Act. Among other changes resulting from the Reform Act, farmers will now
be able to purchase the minimum level of MPCI coverage ("Basic Coverage") in
exchange for payment of a minimal fixed administrative fee. If a significant
number of the Company's insureds under the MPCI program elect to obtain only
this Basic Coverage, the Company could be adversely affected. Moreover, the
Reform Act also reduces the expense reimbursement rate payable to the Company
for its costs of servicing MPCI policies that exceed the Basic Coverage (such
policies, "Buy-up Coverage") for the 1997, 1998 and 1999 crop years to 29%, 28%
and 27.5%, respectively, of the MPCI Premium serviced, a decrease from the 31%
level established for the 1995 and 1996 crop years. Although the Reform Act
directs the Consolidated Farm Service Agency (the "CFSA"), the federal agency
that administers the MPCI program, to alter program procedures and
administrative requirements so that the administrative and operating costs of
private insurance companies participating in the MPCI program will be reduced in
an amount that corresponds to the reduction in the expense reimbursement rate,
there can be no assurance that the Company's actual costs will not exceed the
expense reimbursement rate.
Total MPCI Premium for each farmer depends upon the type of crops grown,
acreage planted and other factors determined by the CFSA. Each year, the CFSA
sets, by crop, the maximum per bushel commodity price ("Price Selection") to be
used in computing MPCI Premiums. Any reduction of the Price Selection by the
CFSA will reduce the MPCI Premium charged per policy, and accordingly will
adversely impact MPCI Premium volume. For example, for 1995, the CFSA has
determined that, because of strong crop production in 1994, the per bushel price
for corn, one of the most commonly-insured crops for the Company, will be
reduced to $2.25 from $2.40 for 1994. Changes in other United States Department
of Agriculture ("USDA") sponsored programs, such as the set aside programs in
which participant farmers are paid in exchange for not planting a designated
percentage of farmable acres for specified crops, may also reduce the Company's
MPCI Premium. Although, in general, no set aside programs were available in
1994, for 1995 the USDA has established a program under which farmers may set
aside up to 7.5% of their acreage which otherwise would be used for growing
corn.
The Reform Act also directs the CFSA to establish adequate premiums for all
MPCI coverages at such rates as the CFSA determines are actuarially sufficient
to attain a targeted loss ratio. Since 1980, the average MPCI loss ratio has
exceeded this target ratio. There can be no assurance that the CFSA will not
increase rates to farmers in order to achieve the targeted loss ratio in a
manner that could adversely affect participation by farmers in the MPCI program
above the Basic Coverage level.
An additional factor which may adversely impact participation by farmers in
the MPCI program is a potential decrease in the budget of the federal
government. Congress is currently reviewing all areas of federal spending, and
in this connection is expected to consider in 1995 a renewal of, and possible
revisions to, the five-year federal farm bill which expires in 1995. If Congress
cuts spending for the farm bill or farm-related programs in general, the MPCI
program might also be adversely affected.
For further information about the Company's MPCI business, see
"Business -- Multi-Peril Crop Insurance Program."
11
<PAGE> 14
LOSS RESERVES
The reserves for losses and loss adjustment expenses ("LAE") established by
the Company are estimates of amounts needed to pay reported and unreported
claims and related LAE based on facts and circumstances then known. Reserves are
based on estimates of trends in claims severity, judicial theories of liability
and other factors.
The Company underwrites both property and casualty coverages in a number of
specialty areas of business which may involve greater risks than standard
property and casualty lines, including the risks associated with the absence of
a long-term, reliable historical claims experience. These risk components may
make more difficult the task of estimating reserves for losses, and cause the
Company's underwriting results to fluctuate.
The establishment of appropriate reserves is an inherently uncertain
process, and there can be no assurance that the ultimate liability will not
materially exceed the Company's loss and LAE reserves and have a material
adverse effect on the Company's results of operations and financial condition.
Due to the inherent uncertainty of estimating reserves, it has been necessary,
and may over time continue to be necessary, to revise estimated liabilities as
reflected in the Company's loss and LAE reserves. Conditions and trends that
have affected the development of loss reserves in the past may not necessarily
occur in the future. Accordingly, it is not appropriate to extrapolate
redundancies or deficiencies based on historical information. See "Business --
Loss and Loss Adjustment Expense Reserves."
REINSURANCE
In order to reduce risk and to increase its underwriting capacity, the
Company purchases reinsurance. Reinsurance does not relieve the Company of
liability to its insureds for the risks ceded to reinsurers. As such, the
Company is subject to credit risk with respect to the risks ceded to reinsurers.
Although the Company places its reinsurance with reinsurers it believes to be
financially stable, a significant reinsurer's insolvency or inability to make
payments under the terms of a reinsurance treaty could have a material adverse
effect on the Company.
The amount and cost of reinsurance available to companies specializing in
property and casualty insurance are subject, in large part, to prevailing market
conditions beyond the control of such companies. The Company's ability to
provide insurance at competitive premium rates and coverage limits on a
continuing basis depends upon its ability to obtain adequate reinsurance in
amounts and at rates that will not adversely affect its competitive position.
Due to continuing market uncertainties regarding reinsurance capacity, no
assurances can be given as to the Company's ability to maintain its current
reinsurance facilities, which generally are subject to annual renewal. If the
Company is unable to renew such facilities upon their expiration and is
unwilling to bear the associated increase in net exposures, the Company may need
to reduce the levels of its underwriting commitments.
INVESTMENTS
The Company's results of operations depend in part on the performance of
its invested assets. The Company's investment portfolio primarily consists of
fixed maturity securities, which principally include U.S. government
obligations, mortgage-backed securities (including collateralized mortgage
obligations ("CMOs")), obligations of states and political subdivisions and
investment grade, publicly traded corporate debt securities. At September 30,
1994, 68% of the Company's investment portfolio was invested in fixed maturity
securities, including mortgage-backed securities which constituted approximately
30% of the Company's investment portfolio at such date. Certain risks are
inherent in connection with fixed maturity securities, including loss upon
default and price volatility in reaction to changes in interest rates and
general market factors. Certain additional risks are inherent with
mortgage-backed securities, including, among others, risks associated with
reinvestment of proceeds due to prepayments of such obligations in a period of
declining interest rates and risks associated with a decline in market value due
to longer durations from slower
12
<PAGE> 15
prepayments of such obligations in a period of rising interest rates. Certain of
the Company's mortgage-backed securities may be relatively illiquid under
current market conditions, which may affect the accuracy of quoted market prices
for such securities, although management believes that the Company has
sufficient liquidity in the remainder of its investment portfolio to avoid being
required to sell such securities under current market conditions. See
"Business -- Investments."
REGULATION
Insurance companies are highly regulated and supervised in the states in
which they conduct business. The Insurance Companies are subject to state
insurance regulations governing: (i) periodic reporting of the insurer's
financial condition; (ii) periodic financial examination; (iii) approval of
rates and policy forms; (iv) loss reserve adequacy; (v) insurer solvency; (vi)
the licensing of insurers and their agents; (vii) restrictions on the payment of
dividends and other distributions; (viii) approval of changes in control; and
(ix) the type and amount of permitted investments.
The Company also is subject to laws governing insurance holding companies
in Nebraska, Iowa and Arizona, where one or more of the Insurance Companies are
domiciled. These laws require the Company, among other things, to limit certain
transactions between the Company, its affiliates and the Insurance Companies,
including dividends and other distributions, and restrict the ability of any one
person to acquire certain levels of the Company's voting securities without
prior regulatory approval.
Insurance regulatory agencies and the National Association of Insurance
Commissioners ("NAIC") re-examine from time to time existing laws and
regulations and their application to insurance companies. The NAIC has released
its proposed Risk Based Capital ("RBC") formula for property and casualty
insurance companies. The RBC initiative is designed to enhance the current
regulatory framework for the evaluation of the capital adequacy of property and
casualty insurers by promulgating RBC standards which facilitate regulatory
action at an early stage, if necessary. Of the states in which the Insurance
Companies are domiciled, only Nebraska has adopted the RBC rules. There can be
no assurance that existing insurance-related laws and regulations will not
become more restrictive in the future or that laws and regulations enacted in
the future at the state or federal level will not be more restrictive. For
further information as to regulatory issues affecting the Insurance Companies,
including the results of recent Insurance Regulatory Information System ("IRIS")
tests, see "Business -- Regulation" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Liquidity and Capital
Resources."
HOLDING COMPANY STRUCTURE; DIVIDENDS AND OTHER RESTRICTIONS
The Company is an insurance holding company with assets consisting
primarily of the capital stock of its subsidiaries, surplus notes issued by
Acceptance Insurance and investment assets held at the holding company level.
Following the Offering, the ability of the Company to make interest payments on
the Notes will be dependent upon the receipt of dividends or other distributions
from the Insurance Companies, interest payments on such surplus notes issued by
Acceptance Insurance, tax sharing payments from its subsidiaries and net
investment income from, and proceeds from the sale of, holding company
investments. The three domiciliary states of the Insurance Companies limit the
payment of dividends and other distributions by such companies. For example,
under Nebraska law, dividends or distributions may not be paid by an insurance
company unless such dividends, together with any dividends paid within the
preceding 12 months, do not exceed the lesser of (a) 10% of the policyholders'
surplus of the insurer as of the preceding December 31 or (b) the insurer's net
income, excluding realized capital gains, for the preceding calendar year, all
as computed in accordance with statutory accounting principles ("SAP")
applicable to insurance companies. In determining net income available for
dividends in Nebraska, an insurer may carry forward net income, again excluding
realized capital gains, from the second and third full calendar years preceding
the date of determination, less dividends paid in such prior calendar years. See
"Business -- Regulation" for a description of the dividend restrictions
applicable to insurers domiciled in Iowa and Arizona. Under these laws, the
maximum aggregate amount of dividend payments permitted to be paid by the
Insurance Companies in 1995 without prior regulatory approval is approximately
$6.9 million, none of which has been paid. Although the Company believes that
amounts required for it to meet its financial and operating obligations will be
available, there can
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<PAGE> 16
be no assurance in this regard. For further information about the Company's
sources of cash flow and restrictions thereon, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources."
The maximum dividend permitted by law is not necessarily indicative of an
insurer's actual ability to pay dividends or other distributions to a parent
company, which also may be constrained by business and regulatory
considerations, such as the impact of dividends on surplus, which could affect
an insurer's competitive position, the amount of premiums that can be written
and the ability to pay future dividends. Further, state insurance laws and
regulations require that the statutory surplus of an insurance company following
any dividend or distribution by such company be reasonable in relation to its
outstanding liabilities and adequate for its financial needs.
If the Company is unable to generate sufficient funds to service interest
on the Notes from such sources, the Company will be compelled to seek additional
debt or equity financing in the future.
SUBORDINATION OF THE NOTES
The Notes are unsecured and subordinated in right of payment to all present
and future Senior Indebtedness of the Company, and the Indenture does not
require a mandatory sinking fund. Because the Company's operations are conducted
through subsidiaries, the Notes also will be effectively subordinated to all
existing and future indebtedness and other liabilities of the Company's
subsidiaries because the Company's right to receive the assets of any such
subsidiary upon its liquidation or reorganization will be subordinated by
operation of law to the claims of such subsidiary's creditors (including, in
particular as to the Insurance Companies, claims of policyholders). The
Indenture does not limit the amount of Senior Indebtedness which the Company and
its subsidiaries may issue, nor does the Indenture prohibit the Company or its
subsidiaries from creating liens on their property for any purpose. The Company
may incur, and/or cause its affiliates to incur, from time to time, additional
borrowings or other obligations constituting Senior Indebtedness.
In addition, in the event of an insolvency, liquidation or other
reorganization of the Company, the creditors, including holders of the Notes,
and shareholders of the Company will have no right to proceed against the assets
of the Insurance Companies or to cause their liquidation under federal and state
bankruptcy laws. If one of the Insurance Companies were to be liquidated, such
liquidation would be conducted under the applicable state's insurance code by
its insurance commissioner as the receiver with respect to such company's
property and business.
DEPENDENCE ON KEY PERSONNEL
The future success of the Company depends significantly upon the efforts of
Kenneth C. Coon, Chairman and Chief Executive Officer, and John P. Nelson,
President and Chief Operating Officer. A loss of either of these officers could
adversely affect the Company's business. Each of them is employed under an
employment agreement which is automatically renewed from calendar year to
calendar year, unless terminated by either party with a one year notice. The
Company has obtained "key-man" life insurance on each of these officers. Messrs.
Coon and Nelson each has advised the Company that he has no present intention to
leave employment with the Company.
SHARES ELIGIBLE FOR FUTURE SALE
Currently, certain officers, directors and principal stockholders of the
Company, or their affiliates, own approximately 24% of the Common Stock. A
decision by these stockholders to sell in the open market the shares held by
them, to the extent permitted by the Securities Act, could have an adverse
impact on the market price of the Common Stock and accordingly of the Notes. The
Company and its executive officers and directors and certain other stockholders
have agreed with the Underwriters that, for a period of 90 days following the
date of this Prospectus, they will not offer for sale any shares of Common Stock
(other than issuances by the Company pursuant to currently outstanding options
and warrants or as a result of conversion of any Notes). See "Underwriting."
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<PAGE> 17
ABSENCE OF PREVIOUS TRADING MARKET
Prior to this Offering, there has been no public market for the Notes and
there can be no assurance that an active market will develop or continue after
this Offering. Because the Notes are convertible into Common Stock, the prices
at which the Notes trade in the market may be affected by the price of the
Common Stock. The Notes may trade in the public market at prices above, at, or
below face value.
USE OF PROCEEDS
The net proceeds of the Offering are estimated at approximately $57.6
million (approximately $66.3 million if the Underwriters' over-allotment option
is exercised in full). Of the net proceeds, approximately $40 million will be
used to increase the statutory surplus of the Insurance Companies to facilitate
the writing of additional crop and other insurance coverages. Approximately $17
million of the net proceeds will be applied to reduce outstanding debt under the
Company's Revolving Credit Facility. The remainder of the net proceeds will be
retained for working capital and general corporate purposes. Until utilized for
the above purposes, the net proceeds of the Offering will be invested in
short-term, interest-bearing, investment-grade securities. In conjunction with
the increase in statutory surplus, Acceptance Insurance and Redland Insurance
will dividend to their holding company their respective ownership interests in
Phoenix Indemnity and American Growers. The unstacking of Phoenix Indemnity and
American Growers will facilitate cash flow from these subsidiaries to the
Company by removing an intermediate level of ownership and improve the
respective Risk Based Capital positions of Acceptance Insurance and Redland
Insurance.
At September 30, 1994, the $29 million outstanding loan balance under the
Revolving Credit Facility bore interest at 6.25%. The Revolving Credit Facility
expires on March 31, 1998, and may be extended for an additional year with the
consent of the lenders. Borrowings under the Revolving Credit Facility were
incurred primarily to consolidate the term loan used to acquire Acceptance
Insurance and for capital contributions to the Insurance Companies. For further
information regarding the Company's capital needs and financial resources, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
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<PAGE> 18
MARKET FOR REGISTRANT'S COMMON STOCK AND DIVIDEND POLICY
The Common Stock is listed and traded on the NYSE. The following table sets
forth the high and low sales prices per share of Common Stock as reported on the
NYSE Composite Tape for the fiscal quarters indicated. The prices set forth
below for periods prior to December 22, 1992 reflect the prices of the shares of
Common Stock on the NYSE adjusted retroactively to give effect to a one-for-four
reverse stock split on December 22, 1992.
<TABLE>
<CAPTION>
HIGH LOW
---- ---
<S> <C> <C>
Year Ended December 31, 1992
First Quarter................................................. 11 1/2 8
Second Quarter................................................ 11 1/2 9
Third Quarter................................................. 10 6 1/2
Fourth Quarter................................................ 15 6
Year Ended December 31, 1993
First Quarter................................................. 13 1/4 8 1/4
Second Quarter................................................ 14 1/8 12
Third Quarter................................................. 15 1/4 12 1/2
Fourth Quarter................................................ 15 5/8 11 1/4
Year Ended December 31, 1994
First Quarter................................................. 13 3/4 11 1/4
Second Quarter................................................ 13 5/8 11 3/8
Third Quarter................................................. 15 1/8 12 3/8
Fourth Quarter................................................ 18 12 5/8
Year Ending December 31, 1995
First Quarter (through February 21, 1995)..................... 16 5/8 14 1/2
</TABLE>
The closing sales price of the Common Stock on February 21, 1995, as
reported on the NYSE Composite Tape, was $16 1/2 per share. As of February 21,
1995, there were approximately 1,900 holders of record of the Common Stock.
The Company has not paid cash dividends to its stockholders during the
periods indicated above and does not anticipate that it will pay cash dividends
in the foreseeable future. The Revolving Credit Facility prohibits the payment
of cash dividends to stockholders. See "Certain Investment
Considerations -- Holding Company Structure; Dividends and Other Restrictions"
for a description of restrictions on payment of dividends to the Company from
the Insurance Companies.
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CAPITALIZATION
The following table sets forth the consolidated capitalization of the
Company as of September 30, 1994, adjusted retroactively to give effect to the
receipt of approximately $53.4 million from the exercise of the Warrants, and
such capitalization as adjusted to give effect to the Offering (assuming no
exercise of the Underwriters' overallotment option) and the application of the
net proceeds therefrom.
<TABLE>
<CAPTION>
SEPTEMBER 30, 1994
-------------------------
ACTUAL(1) AS ADJUSTED
--------- -----------
(IN THOUSANDS)
<S> <C> <C>
Long-Term Debt:
Revolving Credit Facility........................................ $ 29,000 $ 12,000
Notes offered hereby............................................. 0 60,000
--------- -----------
Total Debt.................................................... 29,000 72,000
Stockholders' Equity:
Preferred stock, no par value, 5,000,000 shares authorized, none
issued........................................................ -- --
Common stock, $.40 par value, 20,000,000 shares authorized;
15,119,862 shares issued(2)(3)................................ 6,048 6,048(3)
Capital in excess of par value................................... 194,668 194,668(3)
Unrealized gain (loss) on marketable equity securities; and on
fixed maturities available for sale, net of tax............... (9,785) (9,785)
Accumulated deficit.............................................. (30,829) (30,829)
--------- -----------
160,102 160,102
Less:
Treasury stock, at cost, 35,559 shares........................... (1,564) (1,564)
Contingent stock, 240,000 shares(4).............................. (2,700) (2,700)
--------- -----------
Total Stockholders' Equity.................................... 155,838 155,838
--------- -----------
Total Capitalization............................................... $ 184,838 $ 227,838
======== =========
</TABLE>
- -------------------------
(1) Includes the effects of the receipt of approximately $53.4 million in net
proceeds from the exercise of the Warrants on December 1, 1994, and the use
of such net proceeds.
(2) Outstanding Common Stock as of September 30, 1994 (adjusted for exercise of
the Warrants) excludes 382,107 shares of Common Stock reserved for issuance
pursuant to the exercise of employee and director options and certain
warrants currently outstanding. See Note 10 to the Consolidated Financial
Statements.
(3) Excludes shares reserved for issuance upon conversion of the Notes.
(4) Contingent stock represents shares issued by the Company as part of the
consideration for the Redland acquisition which are currently held in escrow
through mid-1996 as a fund against which the Company may assert certain
claims arising out of the acquisition.
For more information regarding the Company's Revolving Credit Facility and
other capital resources, see "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Liquidity and Capital Resources."
17
<PAGE> 20
SELECTED CONSOLIDATED FINANCIAL DATA
The following table sets forth certain selected consolidated financial data
and should be read in conjunction with, and is qualified in its entirety by, the
Consolidated Financial Statements and the notes thereto and "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
appearing elsewhere in this Prospectus. This selected consolidated financial
data has been derived from the audited Consolidated Financial Statements of the
Company and its subsidiaries, except that information for the nine months ended
September 30, 1993 and 1994 has not been audited. The information set forth
below with respect to insurance operations does not present information for
Acceptance Insurance's operations for periods prior to its acquisition by the
Company in April 1990.
<TABLE>
<CAPTION>
NINE MONTHS ENDED YEARS ENDED FOUR MONTHS YEARS ENDED AUGUST
SEPTEMBER 30, DECEMBER 31, ENDED 31,
---------------------- ------------------------------------ DECEMBER 31, --------------------
1994(1) 1993(1) 1993(1) 1992 1991 1990(2) 1990 1989
-------- -------- -------- -------- -------- ------------ ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA AND RATIOS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA:
Insurance Revenues:
Gross premiums
written........... $361,147 $179,494 $256,042 $152,091 $104,853 $ 25,563 $38,985 $ --
======== ======== ======== ======== ======== ========= ======= =======
Net premiums
written........... $173,732 $ 99,435 $137,505 $ 84,085 $ 62,982 $ 16,627 $36,940 $ --
======== ======== ======== ======== ======== ========= ======= =======
Net premiums
earned............ $148,119 $ 88,948 $128,082 $ 79,164 $ 65,164 $ 23,362 $27,948 $ --
Net investment
income............ 9,082 7,474 10,467 8,220 6,103 2,518 3,145 --
Net realized capital
gains............. 499 1,788 2,250 1,046 1,953 1,004 616 --
Agency income....... 2,639 2,998 4,119 3,992 1,645 -- -- --
-------- -------- -------- -------- -------- ----------- ------- -------
Insurance
revenues........ 160,339 101,208 144,918 92,422 74,865 26,884 31,709 --
Non-insurance
revenues(3)......... 148 266 377 2,610 5,824 1,498 1,870 --
-------- -------- -------- -------- -------- ----------- ------- -------
Total revenues........ 160,487 101,474 145,295 95,032 80,689 28,382 33,579 --
Insurance expenses:
Losses and loss
adjustment
expenses.......... 105,790 67,821 92,805 60,025 46,917 16,928 19,746 --
Underwriting and
other expenses.... 38,342 21,980 36,905 23,523 19,433 6,371 8,389 --
Agency expenses..... 2,422 2,908 3,794 3,736 1,624 -- -- --
-------- -------- -------- -------- -------- ----------- ------- -------
Insurance
expenses........ 146,186 92,341 133,013 86,793 67,483 23,095 27,971 --
Non-insurance
expenses(3)......... 1,394 839 1,225 3,107 11,533 4,020 7,867 4,188
-------- -------- -------- -------- -------- ----------- ------- -------
Total expenses........ 147,948 93,548 134,729 90,391 79,507 27,319 36,002 4,188
-------- -------- -------- -------- -------- ----------- ------- -------
Operating profit
(loss).............. 12,539 7,926 10,566 4,641 1,182 1,063 (2,423) (4,188)
Other income
(expense):
Interest expense.... (1,160) (1,865) (2,235) (4,428) (5,712) (2,092) (3,987) (2,260)
Other income
(expense),
net(3)............ (185) (304) (340) (823) (18,728) (312) 394 769
-------- -------- -------- -------- -------- ----------- ------- -------
Income (loss) from
continuing
operations before
income taxes and
minority
interests......... 11,194 5,757 7,991 (610) (23,258) (1,341) (6,016) (5,679)
Provision (benefit)
for income taxes.... (2,135) 175 167 -- -- -- -- --
Minority interests in
net income (loss)
of consolidated
subsidiaries........ 80 148 238 216 (148) (509) (358) --
-------- -------- -------- -------- -------- ----------- ------- -------
Net income (loss) from
continuing
operations(4)....... $ 13,249 $ 5,434 $ 7,586 $ (826)(5) $(23,110)(6) $ (832) $(5,658) $(5,679)
======== ======== ======== ======== ======== ========= ======= =======
Net income (loss) from
continuing
operations per
share:
-- Primary.......... $ 1.12 $ 0.66 $ 0.86 $ (0.24) $ (6.78)(6) $ (0.25) $ (1.82) $ (2.68)
-- Fully diluted.... 1.09 0.64 0.85 (0.24) (6.78)(6) (0.25) (1.82) (2.68)
Ratio of earnings to
fixed charges(7).... 7.6x 3.7x 4.1x 1.1x (7) (7) (7) (7)
Pro forma ratio of
earnings to fixed
charges............. 6.7x -- 3.9x -- -- -- -- --
SAP Ratios:(8)
Loss ratio............ 71.4% 76.5% 72.5% 75.8% 72.0% 73.8%
Expense ratio......... 25.9 23.9 28.8 29.7 29.8 26.3
-------- -------- -------- -------- -------- ---------
Combined loss and
expense ratio....... 97.3% 100.4% 101.3% 105.5%(5) 101.8% 100.1%
======== ======== ======== ======== ======== =========
</TABLE>
18
<PAGE> 21
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31, AUGUST 31,
------------------- ----------------------------------------- -------------------
1994 1993 1993 1992 1991 1990 1990 1989
-------- -------- -------- -------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Investments........................ $227,388 $195,088 $187,986 $124,311 $114,187 $ 93,244 $ 88,923 $ 11,510
Total assets(9).................... 555,165 469,921 409,385 257,734 207,532 330,379 334,512 243,318
Loss and loss adjustment expense
reserves(9)...................... 229,080 229,289 211,600 127,666 66,132 58,439 54,241 --
Unearned premiums(9)............... 91,664 61,962 60,114 41,709 19,958 22,140 28,875 --
Borrowings and term debt........... 29,000 19,905 18,951 33,567 55,473 103,658 102,214 113,133
Stockholders' equity............... 102,451 93,512 95,717 34,523 35,042 77,883 79,252 60,745
Statutory surplus of Insurance
Companies(8)..................... 87,107 77,110 73,910 34,527 27,693 26,535 21,955 --
</TABLE>
- -------------------------
(1) For a discussion of the accounting treatment of the Company's MPCI business,
the results of which are included in the periods indicated, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- General."
(2) Effective September 1, 1990, the Company changed its fiscal year end from
August 31 to December 31.
(3) For further information with respect to amounts shown in these lines, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Effects of Prior Non-Insurance Operations."
(4) Does not include amounts relating to discontinued operations recorded
primarily in 1991. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Effects of Prior Non-Insurance
Operations."
(5) Operating profit was reduced in 1992 by the strengthening of reserves in the
amount of approximately $2.1 million on two lines of insurance and $1.7
million of incurred losses relating to Hurricanes Andrew and Iniki. The
strengthening of reserves and hurricane losses accounted for 4.8% of the
loss ratio for 1992.
(6) Included in loss from continuing operations for the year ended December 31,
1991, is a non-cash charge of $15,300,000, or $4.49 per share, to reduce the
Company's equity investment in real estate operations to estimated net
realizable value, incurred as part of the restructuring of certain prior
non-insurance operations. See "The Company."
(7) For purposes of determining the ratio of earnings to fixed charges, earnings
are defined as earnings from continuing operations before income taxes and
fixed charges. Fixed charges consist of interest expense on all indebtedness
and the interest component of rent expense. Earnings were insufficient to
cover fixed charges in the years ended December 31, 1991 by approximately
$22,079,000; for the four months ended December 31, 1990 by approximately
$871,000; and for the years ended August 31, 1990 and 1989 by approximately
$4,998,000 and $5,359,000, respectively. Pro forma for this Offering and the
use of proceeds therefrom, the ratio of earnings to fixed charges would have
been 6.7x for the nine months ended September 30, 1994, and 3.9x for the
year ended December 31, 1993.
(8) Statutory data have been derived from the separate financial statements of
the Company's insurance subsidiaries prepared in accordance with SAP. The
ratios shown for 1990 are calculated on a calendar year basis.
(9) Effective December 31, 1992 the Company adopted Statement of Financial
Accounting Standards #113 which required reinsurance recoverable on unpaid
losses and prepaid reinsurance premiums to be classified as an asset.
Previously, such amounts were classified as reductions of loss and loss
adjustment expense reserves and unearned premiums.
19
<PAGE> 22
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of financial condition and results of
operations of the Company and its consolidated subsidiaries should be read in
conjunction with the Company's Consolidated Financial Statements and the notes
thereto included elsewhere in this Prospectus.
GENERAL
INSURANCE OPERATIONS
Over the past five years, premiums written by the Company's insurance
operations have consistently increased, both as the result of acquisitions and
through internal growth. The Company has reported operating profits in each
quarter beginning with the third quarter of 1992, when the phasing out of its
prior non-insurance operations was substantially completed. For information
about the effects of these prior operations on the Company's financial results,
see "-- Effects of Prior Non-Insurance Operations" below.
Although the property and casualty insurance industry in general has been
experiencing soft market conditions for the past several years, the Company
nonetheless has been able to increase premium volumes in recent periods while
maintaining combined ratios better than the ratios of the industry as a whole.
This growth has been the result of the Company's strategy of acquiring niche
businesses and increasing premiums written in selected lines. The Company's most
significant recent acquisition was its purchase in July 1993 of Redland, which
provides MPCI, crop hail and other named peril crop insurance and certain
standard property and casualty coverages to the rural market. Following its
acquisition by the Company, Redland increased the volume of its MPCI Premium by
45% in 1994 over 1993. The Company was the third largest MPCI writer in the
United States in 1994.
MPCI is a government-sponsored program with accounting treatment which
differs in certain respects from more traditional property and casualty
insurance lines. For income statement purposes under GAAP and under SAP, gross
premiums written consist of the aggregate amount of MPCI premiums paid by
farmers, and do not include any related federal premium subsidies. The Company's
profit or loss from its MPCI business is determined after the crop season ends
on the basis of a complex profit sharing formula established by law and the
CFSA. For income statement purposes, any such profit share earned by the
Company, net of the cost of third party reinsurance, is shown as net premiums
written, which equals net premiums earned for MPCI business; however, any share
of losses payable by the Company is charged to losses and loss adjustment
expenses. All expense reimbursements received are credited to underwriting
expenses. The foregoing are the principal entries that are made in respect of
net premiums written, net premiums earned or losses paid. See "Business --
Multi-Peril Crop Insurance Program."
As a result of this accounting treatment, the MPCI business may tend to
distort comparisons of the Company's results and operating ratios for periods
after the Redland acquisition with prior periods. Certain other characteristics
of the Company's crop business also may affect comparisons, including: (i) the
seasonal nature of the business whereby profits are generally recognized
predominantly in the second half of the year; (ii) the short-term nature of crop
business whereby losses are known within a short time period; and (iii) the
limited amount of investment income associated with crop business. In addition,
cash flows from such business differ from cash flows from certain more
traditional lines. See "-- Liquidity and Capital Resources" below. The seasonal
and short term nature of the Company's crop business, as well as the impact on
such business of weather and other natural perils, may produce more volatility
in the Company's operating results on a quarter to quarter or year to year basis
than has historically been present in the operations of the Company.
EFFECTS OF PRIOR NON-INSURANCE OPERATIONS
Prior to June 1992, the Company also was engaged in certain citrus and real
estate businesses. These operations encountered difficulties beginning in 1990
and the Company commenced a restructuring in 1991. This restructuring was
substantially completed by the third quarter of 1992, and since then the
Company's
20
<PAGE> 23
insurance operations have been its sole business focus. The impact of these
prior non-insurance operations and their restructuring and of certain related
items in the Company's historical results of operations is described more fully
below through an analysis of certain line items appearing in the "Selected
Consolidated Financial Data" appearing elsewhere herein. See "The Company" and
"Selected Consolidated Financial Data".
<TABLE>
<CAPTION>
NINE MONTHS
ENDED SEPTEMBER YEARS ENDED YEARS ENDED
30, DECEMBER 31, FOUR MONTHS AUGUST 31,
--------------- ----------------------------- ENDED -----------------
LINE ITEM 1994 1993 1993 1992 1991 DECEMBER 31, 1990 1990 1989
- --------------------------------------- ------ ----- ------ ------- -------- ----------------- ------- ------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Non-insurance revenues:
Holding company interest income...... $ 148 $ 266 $ 377 $ 0 $ 0 $ 0 $ 0 $ 0
Real estate revenues................. 0 0 0 2,610 5,824 1,498 1,870 0
------ ----- ------ ------- -------- ------ ------- ------
Total non-insurance revenues..... $ 148 $ 266 $ 377 $ 2,610 $ 5,824 $ 1,498 $ 1,870 $ 0
====== ===== ====== ======= ======== ============= ======= ======
Non-insurance expenses:
Holding company general and
administrative expenses............ $1,394 $ 797 $1,182 $ 1,427 $ 6,128 $ 1,922 $ 4,875 $3,711
Real estate expenses................. 0 42 43 1,680 5,405 2,098 2,992 477
------ ----- ------ ------- -------- ------ ------- ------
Total non-insurance expenses..... $1,394 $ 839 $1,225 $ 3,107 $ 11,533 $ 4,020 $ 7,867 $4,188
====== ===== ====== ======= ======== ============= ======= ======
Other income (expense), net:
Major Realty valuation adjustment.... $ 0 $ 0 $ 0 $ 0 $(15,300) $ 0 $ 0 $ 0
Share of net loss of Major Realty.... (219) (263) (301) (1,165) (1,179) (470) (1,018) (320)
Other real estate write-down......... 0 0 0 0 (2,520) 0 0 0
Other, net........................... 34 (41) (39) 342 271 158 1,412 1,089
------ ----- ------ ------- -------- ------ ------- ------
Total other income (expense),
net............................ $ (185) $(304) $ (340) $ (823) $(18,728) $ (312) $ 394 $ 769
====== ===== ====== ======= ======== ============= ======= ======
</TABLE>
Non-Insurance Revenues. Amounts shown as holding company interest income
consisted of interest earned on investment assets held at the holding company
level which were primarily acquired with a portion of the net proceeds of the
Company's equity rights offering. Amounts shown as real estate revenues reflect
income from prior real estate operations which were restructured in 1992 as
described under "Other Income (Expense), Net" below.
Non-Insurance Expenses. Included in holding company general and
administrative expenses are directors' fees, legal and accounting expenses,
shareholder-related costs including annual report, proxy and annual meeting
expenses, New York Stock Exchange fees and similar expenses related to operation
of the holding company. For consistency of presentation, these items have been
included in non-insurance expenses for each of the periods shown.
Real estate expenses relate to miscellaneous costs associated with the
remaining real estate owned by the Company as well as costs from the Company's
restructured real estate operations. All such real estate interests were
contributed by the holding company to Acceptance Insurance prior to the third
quarter of 1992.
Other Income (Expense), Net. The Company owns an approximate 33% interest
in Major Realty Corporation ("Major Realty"), a publicly-traded real estate
company focusing on the ownership of land, principally in Florida (Nasdaq
symbol: "MAJR"). The Company recorded a non-cash charge to continuing operations
of $15.3 million for the year ended December 31, 1991, to reduce its equity
investment in Major Realty to estimated net realizable value. At September 30,
1994, the carrying value of the Company's investment in Major Realty was $5.2
million. The Company continues to recognize its equity share of net operating
losses recorded by Major Realty.
In 1991, the Company recognized an additional $2.5 million loss on the
write-down of a real estate investment not owned by Major Realty. This
investment has since been sold.
Prior Citrus Operations. No effects from the discontinuation and sale of
the Company's prior citrus operations are shown above since those effects were
recorded as loss from discontinued operations for all relevant periods. The
Company recorded a provision for the expected loss on disposal of its investment
in the
21
<PAGE> 24
citrus operations of approximately $19.6 million, or $5.75 per share, in 1991
which is excluded from loss and loss per share from continuing operations. Upon
the sale of such operations in 1992, the Company recognized an additional loss
of approximately $0.1 million.
As a result of these prior non-insurance operations, the Company generated
significant tax loss carryforwards, all of which will have been used by the end
of 1994. The elimination of these tax benefits will result in an increase in
taxes reported by the Company in its operations in future periods beginning in
the first quarter of 1995.
RESULTS OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 1994
COMPARED TO NINE MONTHS ENDED SEPTEMBER 30, 1993
The Company's net premiums earned increased 66.5% for the nine months ended
September 30, 1994 to $148.1 million from $88.9 million in the same period in
1993. The principal components of this increase were crop hail premiums written
by Redland, which was acquired in the third quarter of 1993, and an increase in
General Agency premiums written, primarily resulting from the expansion of this
segment following the hiring of four new managers in August 1993.
Net premiums earned for the 1994 period also included $8.7 million in
profit sharing (before deducting the cost of third party reinsurance), earned on
the Company's MPCI business, compared to no profit sharing earned for such
business for the 1993 period when the Company recorded a loss share of $0.9
million (net of recoveries from third party reinsurers) following the
acquisition of Redland in July 1993. Because of its accounting treatment, such
1993 loss share is not reflected as a reduction in net premiums earned but
instead as an increase in the Company's losses and loss adjustment expenses for
the 1993 period. The 1994 profit resulted primarily from increases in the
Company's MPCI Premiums and MPCI Retention (as defined herein) after ceding risk
to federal reinsurance pools, as well as the incurrence by the Company's
insureds of fewer insured losses than in the 1993 period, when adverse weather
conditions diminished crop harvests in many regions.
The Company's net investment income increased 21.5% to $9.1 million in the
1994 period versus $7.5 million during the prior period. The average size of the
investment portfolio increased from approximately $168 million during the nine
months ended September 30, 1993 to approximately $200 million during the 1994
period. The investment yield remained constant at approximately 6.2% during both
periods.
Net realized capital gains were $500,000 for the current period versus $1.8
million for the same period in the prior year. The higher amount in 1993
resulted from the Company's decision to reposition its portfolio in a higher
concentration of tax-exempt securities during 1993 when market values of the
Company's fixed income securities in many cases exceeded cost due to lower
prevailing interest rates.
Losses and loss adjustment expenses increased to $105.8 million versus
$67.8 million in 1993 or a 56.0% increase, consistent with the increase in net
premiums earned.
The Company's underwriting and other expenses increased 75.7% to $38.0
million in 1994 versus $21.6 million in 1993. The primary causes for this
percentage increase were the need to increase the staff and systems at the
Insurance Companies in order to monitor the larger operations of the Company
during 1994 as well as the expenses associated with the increase in General
Agency business, including the establishment of the Scottsdale operation.
The Company's interest expense for the period decreased 37.8% to $1.2
million versus $1.9 million in the prior year. This decrease in interest expense
was principally caused by the retirement during 1993 of $16.5 million of higher
interest rate debt issued in connection with the restructuring in 1992, which
was partially offset by a $9.1 million increase in the outstanding debt of the
Company during the 1994 period.
The Company's net income benefitted from the recognition during the nine
months ended September 30, 1994 of a deferred tax benefit to be realized in
future periods of $2.1 million. This net income benefit resulted from the
release of a valuation allowance established for a deferred tax asset upon the
Company meeting the
22
<PAGE> 25
realizability tests for such asset under Statement of Financial Accounting
Standards ("SFAS") #109, "Accounting for Income Taxes", adopted by the Company
in January 1993.
The Company's net income increased 143.8% to $13.2 million for the nine
months ended September 30, 1994 compared to $5.4 million for the same period in
1993 because of the factors discussed above.
YEAR ENDED DECEMBER 31, 1993
COMPARED TO YEAR ENDED DECEMBER 31, 1992.
Net premiums earned increased 61.8% to $128.1 million in 1993 from $79.2
million in 1992. The increase in premiums earned was due primarily to the
Company's ability to retain more premiums as a result of increased capital from
a portion of the $31.2 million proceeds of an offering of the Company's Common
Stock completed in January 1993. The two business lines in which the increase in
retentions was the most significant were the auto liability line, in which net
premiums written increased $23.7 million, and the general liability line, in
which net premiums written increased $11.7 million.
Redland operations added $16.2 million to the Company's net premiums earned
for 1993, consisting primarily of premiums from auto liability, auto physical
damage and crop hail insurance, following the Redland acquisition in July of
that year. Since the Company's MPCI business recorded a loss share of $0.9
million (net of recoveries from third party reinsurers) for 1993, the foregoing
loss is included in losses and loss adjustment expenses.
The Company's net investment income increased 27.3% to $10.5 million in
1993 from $8.2 million in 1992. This increase is attributable primarily to the
increase in the size of the Company's investment portfolio from an average of
$113 million during 1992 to an average of $173 million during 1993. This
increase was principally a result of the investment of approximately $20 million
of funds derived from the Company's Common Stock offering completed in January
1993, the Company's ability to retain more of its premiums written as a result
of this additional capital, and approximately $21 million in additional
investment assets acquired in the Redland acquisition. The impact of the
increase in the average size of the investment portfolio was offset by a
reduction in the average yield on the invested assets from 7.3% during 1992 to
6.3% during 1993. The reduction in the average yield primarily was due to the
addition to the Company's portfolio of tax-exempt securities which in general
have lower yields than equivalent taxable securities, the short term nature of
Redland's portfolio, the amortization of premiums paid for certain of the
Company's mortgage-backed securities caused by an acceleration in the rate of
prepayments of the underlying mortgages, and a general decline in interest
rates.
The Company's net realized capital gains increased to $2.3 million in 1993
from $1.0 million in the prior year. The increase in the net realized capital
gains was primarily a result of sales related to the repositioning of the
Company's portfolio into a higher concentration in tax-exempt securities during
the strong market for fixed income securities in 1993.
Losses and loss adjustment expenses increased 54.6% to $92.8 million in
1993 from $60.0 million in the prior year, consistent with the increase in net
premiums earned. Losses and loss adjustment expenses in 1993 were adversely
impacted by the Company's MPCI results, which generated a net loss share of $0.9
million due primarily to losses resulting from adverse weather conditions in the
1993 growing season. The 1992 results were adversely affected by $1.7 million in
losses from Hurricanes Andrew and Iniki as well as $2.1 million in reserve
strengthening in the Company's workers' compensation and liquor liability lines.
The Company's underwriting and other expenses increased 58.1% to $36.4
million in 1993 from $23.0 million in the prior year, consistent with the
increase in net premiums earned.
The Company's interest expense declined to $2.2 million during 1993 from
$4.4 million in 1992 primarily due to a decrease in the average amount of
outstanding debt as well as a reduction in the average interest rate. In May
1992, the Company completed the sale of its citrus operations permitting a $22
million principal amount reduction in bank debt, which accounted for
approximately $1.1 million of the reduction in interest expense, and in January
1993, completed a Common Stock offering permitting the retirement of $9.5
million
23
<PAGE> 26
of higher interest rate notes issued in 1992, which accounted for approximately
$800,000 of the reduction in interest expense.
Income taxes were $200,000 in 1993 whereas none was recorded in 1992. The
$200,000 recorded in 1993 represented applicable Alternative Minimum Tax amounts
as no other tax was recorded in either year due to the availability of net
operating loss carryforwards.
The Company's net income increased by $8.5 million from 1992 to 1993 as net
income improved from a loss of $900,000 for the year ended December 31, 1992 to
income of $7.6 million for the year ended December 31, 1993 because of the
factors discussed above.
YEAR ENDED DECEMBER 31, 1992
COMPARED TO YEAR ENDED DECEMBER 31, 1991
The Company's net loss decreased $42 million to $900,000 for the year ended
December 31, 1992 as compared to the previous year. This decrease was mainly
attributable to two transactions recorded in 1991, a $19.6 million provision for
the expected loss on disposal of the Company's citrus operations and a $15.3
million write-down of the Company's real estate investments to estimated net
realizable value. The remaining earnings improvement (approximately $7.1
million) related to a decrease in underwriting and other expenses of $5.7
million, a decrease in other expense of $2.6 million, a decrease in interest
expense of $1.3 million, and an increase in investment income of $1.2 million.
These improvements were offset partially by reserve strengthening in the
insurance operations of $2.1 million and hurricane losses of $1.7 million.
Insurance premiums earned increased 21.5% to $79.2 million for the year
ended December 31, 1992 from $65.2 million in the previous year. This increase
was attributable primarily to growth in workers' compensation, non-standard
private passenger automobile and certain General Agency businesses.
During the year ended December 31, 1992, loss and loss adjustment expenses
increased 27.9% as compared to the previous year. This higher rate of growth in
losses (27.9%) compared to premium revenues (21.5%) was attributable primarily
to the increased loss development in the Company's workers' compensation and
liquor liability lines and hurricane losses referenced above.
Insurance expense ratios for the years ended December 31, 1992 and 1991
remained consistent at 29.1% and 29.0%, respectively.
During 1991, the Company's investment strategy provided for investment
principally in U.S. Government securities with maturities of two years or less
as well as realizing gains within the portfolio as the interest rate environment
changed. During 1992, the Company changed its investment strategy to one whereby
various securities of the U.S. Government, U.S. Government agencies, corporate
securities and mortgage-backed securities backed by U.S. Government agency
securities were combined to result in an average duration for the entire
portfolio of between 3.5 and 4 years. This change in strategy as well as an
overall increase in the size of the portfolio resulted in an increase in the
interest income of the portfolio. These factors combined to create an overall
increase in the Company's net investment income for the year ended December 31,
1992, as compared to the previous year. U.S. Government securities and
mortgage-backed securities backed by U.S. Government agency securities comprised
74% of the entire investment portfolio as of December 31, 1992.
In 1992, non-insurance revenues from the Company's former real estate
operations were $2,610,000 of which $1,522,000 (including a termination fee of
$925,000) related to fees earned in connection with a former subsidiary's
management and real estate advisory agreement which terminated June 30, 1992. On
September 25, 1992, the Company completed a merger with its majority-owned real
estate development company, and effected a transfer of the subsidiary's assets
to certain creditors, including the Company, after which the subsidiary's
operations ceased. The net effect of the transactions among the subsidiary, its
creditors and the Company upon the results of operations was insignificant.
Consolidated interest expense decreased $1.3 million from the prior year to
$4.4 million for the year ended December 31, 1992. Total indebtedness was $33.6
million at December 31, 1992, a decrease of $21.9 million from $55.5 million at
December 31, 1991.
24
<PAGE> 27
LIQUIDITY AND CAPITAL RESOURCES
The Company has included a discussion of the liquidity and capital
resources requirements of the Company and the Insurance Companies.
THE COMPANY -- PARENT ONLY
As an insurance holding company, the Company's assets consist primarily of
the capital stock of its subsidiaries, surplus notes issued by Acceptance
Insurance and investment assets held at the holding company level. Following the
Offering, the Company's primary sources of liquidity will be the receipt of
dividends or other distributions from subsidiaries, interest payments on such
surplus notes, tax sharing payments from its subsidiaries and net investment
income from, and proceeds from the sale of, holding company investments. The
Company needs liquidity primarily to service debt, pay operating expenses and
taxes and make investments in subsidiaries.
The three domiciliary states of the Insurance Companies limit the payment
of dividends and other distributions by such companies. For example, under
Nebraska law, dividends or distributions may not be paid by an insurance company
unless such dividends, together with any dividends paid within the preceding 12
months, do not exceed the lesser of (a) 10% of the policyholders' surplus of the
insurer as of the preceding December 31 or (b) the insurer's net income,
excluding realized capital gains, for the preceding calendar year, both computed
in accordance with statutory accounting principles applicable to insurance
companies. In determining net income available for dividends in Nebraska, an
insurer may carry forward net income, again excluding realized capital gains,
from the second and third full calendar years preceding the date of
determination, less dividends paid in such prior calendar years. See "Business
- -- Regulation" for a description of the dividend restrictions applicable to
insurers domiciled in Iowa and Arizona. Under these laws, the maximum aggregate
amount of dividend payments permitted to be made by the Insurance Companies in
1995 without prior regulatory approval is approximately $6.9 million, none of
which has been paid.
The Company currently holds a surplus note issued by Acceptance Insurance
in the principal amount of $20 million, bearing interest at the rate of 9% per
annum, payable quarterly. The Company currently plans to use approximately $26
million of the net proceeds of the Offering to make an additional investment in
Acceptance Insurance in the form of a surplus note with similar terms. Although
the principal of surplus notes issued by a Nebraska domiciled company such as
Acceptance Insurance may not be repaid without the prior approval of the
Nebraska insurance regulators, under current law, no prior approval is required
for interest payments.
The maximum dividend permitted by law is not necessarily indicative of an
insurer's actual ability to pay dividends or other distributions to a parent
company, which may be constrained by business and regulatory considerations such
as the impact of such payments on surplus and certain leverage and operating
ratios, which could affect an insurer's competitive position, the amount of
premiums that can be written and the ability to pay future dividends. Further,
state insurance laws and regulations require that the statutory surplus of
insurance companies following any dividend or distribution by such company be
reasonable in relation to its outstanding liabilities and adequate for its
financial needs.
Statutory accounting practices differ in many respects from those governing
the preparation of financial statements under generally accepted accounting
principles. Accordingly, statutory operating results and statutory surplus may
differ substantially from amounts reported in the GAAP basis financial
statements for comparable items. Information as to statutory surplus and
statutory net income for the Insurance Companies is included in the footnotes to
the Consolidated Financial Statements of the Company included elsewhere herein.
In addition to dividends from the Insurance Companies, the Company also may
receive distributions from its non-insurance subsidiaries which are engaged in
agency, premium finance and claims service operations.
The Company is currently a party to a tax sharing agreement with its
subsidiaries, under which such subsidiaries pay the Company amounts in general
equal to the federal income tax that would be payable by
25
<PAGE> 28
such subsidiaries on a stand-alone basis. These tax payments may provide cash
flow for the Company in the future.
On December 1, 1994, pursuant to a call by the Company to redeem certain
outstanding Warrants, approximately 4.85 million of such Warrants were exercised
to purchase shares of Common Stock, resulting in net proceeds to the Company of
approximately $53.4 million. Of such amount, $18 million was contributed as
surplus to Redland Insurance, $20 million was used to purchase the surplus note
of Acceptance Insurance described above and thereby increase its surplus and the
remainder was used for working capital and general corporate purposes.
At December 31, 1994, after receipt of the proceeds of exercise of the
Warrants, approximately $9.2 million in short-term investments were held by the
Company at the holding company level. The Company intends to retain any net
proceeds of the Offering remaining after the other uses described herein at the
holding company level. Any such retained portion will be invested in short-term
investment grade investments pending other uses. See "Use of Proceeds." The
Company may elect to use a portion of such funds to make interest payments on
the Notes, in order to limit the dividends required to be paid by the Insurance
Companies.
The Company is also a party to the Revolving Credit Facility with a group
of bank lenders which is secured by substantially all of the Company's assets.
The maximum amount that may be borrowed under the facility is $35 million.
Interest is payable quarterly at a rate selected by the Company equal to either
the prime rate or LIBOR plus a margin of 1% to 1.75% depending on the Company's
debt-to-equity ratio. At September 30, 1994, the outstanding balance under the
facility was $29 million, bearing interest at 6.25%. Borrowings under the
facility were used to provide capital for the Insurance Companies and to repay
other debt. The Revolving Credit Facility expires on March 31, 1998, and may be
extended for an additional year with the consent of the lenders. The Company
intends to use approximately $17 million of the net proceeds of the Offering to
reduce the outstanding balance under the Revolving Credit Facility, although
such amount will remain available to be reborrowed.
The Company's history is one of continuing premium growth as a result both
of acquisitions and other equity investments and of internal growth, and it
intends to continue to pursue additional opportunities in the insurance
business. Such growth requires capital, and as a result the Company may seek
additional debt or equity financing in the future to provide capital for the
Insurance Companies, to fund further acquisitions or for other purposes. The
Indenture under which the Notes will be issued will not limit the incurrence of
debt or issuance of equity securities by the Company or its subsidiaries. There
can be no assurance that the Insurance Companies will have access to sufficient
capital in future periods to continue their growth and also satisfy the capital
requirements of rating agencies and regulators.
INSURANCE COMPANIES
The principal liquidity needs of the Insurance Companies are to fund losses
and loss adjustment expense payments and to pay underwriting expenses, including
commissions and other expenses. The available sources to fund these requirements
are net premiums received and, to a lesser extent, cash flows from the Company's
investment activities, which together have been adequate to meet such
requirements on a timely basis. The Company monitors the cash flows of the
Insurance Companies and attempts to maintain sufficient cash to meet current
operating expenses, and to structure its investment portfolio at a duration
which approximates the estimated cash requirements for the payment of loss and
loss adjustment expenses.
Cash flows from the Company's MPCI and crop hail businesses differ in
certain respects from cash flows associated with more traditional property and
casualty lines. MPCI premiums are not received from farmers until the covered
crops are harvested, and when received are promptly remitted by the Company in
full to the government. Covered losses are paid by the Company during the
growing season as incurred, with such expenditures reimbursed by the government
within three business days. Policy acquisition and administration expenses are
paid by the Company as incurred during the year. The Company periodically
throughout the year receives a payment in reimbursement of its policy
administration expenses.
26
<PAGE> 29
The Company's profit or loss from its MPCI business is determined after the
crop season ends on the basis of a complex profit sharing formula established by
law and the CFSA. At such time, the Company receives a profit share in cash,
with any amount in excess of 15% of its MPCI Retention in any year carried
forward to future years, or it must pay its share of losses. The profit sharing
formula takes into consideration the amount of federal premium subsidies
credited to the Company in respect of the MPCI business it has written. These
federal subsidies are non-cash items, which for 1994 ranged as high as 30% of
MPCI Premiums for certain policies and for 1995 may range up to approximately
42% of such MPCI Premiums.
In the crop hail insurance business, premiums are generally not received
until after the harvest, while losses and other expenses are paid throughout the
year.
CHANGES IN FINANCIAL CONDITION
Continued growth in the Company's direct written premiums has placed
greater leverage on the Company's balance sheet as the Company's assets
increased by 35.6% from December 31, 1993 to September 30, 1994 while
stockholders' equity increased only 7.0% for the same period. On August 29,
1994, A.M. Best placed under review with negative implications the A-
(Excellent) ratings of Acceptance Insurance, Acceptance Indemnity and Redland
Insurance due to their rapid growth in premiums without a corresponding growth
in surplus. Subsequently, the Company agreed to increase the statutory capital
of Redland Insurance and Acceptance Insurance by an additional $18 million and
$20 million, respectively. A.M. Best then affirmed the A- (Excellent) ratings
of Acceptance Insurance, Acceptance Indemnity and Redland Insurance.
The NAIC has released its proposed risk-based capital ("RBC") formula for
property and casualty insurance companies. The RBC initiative is designed to
enhance the current regulatory framework for the evaluation of the capital
adequacy of a property and casualty insurer. The formula requires an insurer to
compute the amount of capital necessary to support the elements of risk in (a)
assets (default and market decline), (b) credit (ceded reinsurance
recoverables), (c) off balance sheet/growth risk, (d) loss and loss adjustment
expense reserves (adverse development), and (e) premium/price risk (combined
ratio). The Insurance Companies have reviewed and applied the proposed RBC
formula for the 1993 year and have exceeded these requirements. Of the states in
which the Insurance Companies are domiciled, only Nebraska has adopted the RBC
rules. See "Business -- Regulation."
The Company's unrealized gain or loss on marketable equity securities and
fixed maturities available for sale, net of tax, changed from a $66,000 gain as
of December 31, 1993 to an approximate $9.8 million loss as of September 30,
1994. Such change was caused by the loss in value related to the general upward
movement in the interest rate environment. Although the Company believes that it
has adequate sources of liquidity to avoid being required to realize any of the
foregoing unrealized losses, there can be no assurance in this regard. See
"Recent Statements of Financial Accounting Standards" below.
CONSOLIDATED CASH FLOWS
Cash flows from operations for the nine months ended September 30, 1994
were a positive $49.0 million as compared to a positive $32.1 million for the
first nine months of 1993. The 1994 cash flows were positively impacted by
premium growth in casualty lines of business and changes in the Company's
reinsurance structure whereby the Company retained more of its business for its
own account. Cash flows from financing activities for the first nine months of
1994 were positively impacted primarily by the restructuring of the Company's
bank borrowings upon its entering into the Revolving Credit Facility in March
1994.
INFLATION
The Company does not believe that inflation has had a material impact on
its financial condition or results of operations.
27
<PAGE> 30
RECENT STATEMENTS OF FINANCIAL ACCOUNTING STANDARDS
On January 1, 1994, the Company adopted SFAS #115, "Accounting for Certain
Investments in Debt and Equity Securities." In conjunction with the adoption of
SFAS #115, the Company reclassified its debt and equity securities to meet the
requirements of the statement. SFAS #115 requires investments in debt and equity
securities to be classified at acquisition into one of three categories: held to
maturity, available for sale, or trading.
At January 1, 1994 and September 30, 1994, all debt and equity securities
were classified as available for sale. Available for sale securities are stated
at fair market value with the unrealized gains and losses reported as a separate
component of stockholders' equity. At September 30, 1994, the Company had an
unrealized loss on these securities, net of taxes, of approximately $9.8
million. See "Business -- Investments."
28
<PAGE> 31
BUSINESS
COMPANY STRATEGY
Acceptance is engaged in the property and casualty insurance business
concentrating on writing specialty coverages not generally emphasized by
standard insurance carriers. The Company selects underwriting specialties within
the property and casualty insurance industry that provide a diversified
portfolio of products, with the goal of producing underwriting results better
than the industry average. The Company regularly explores opportunities,
including through acquisition, where it believes it can achieve profitable
results, often by taking advantage of capacity shortages or other dislocations
in the market. Acceptance's strategy is to develop perceived market
opportunities by attracting and supporting underwriters and other managers with
proven expertise who have dedicated their careers to understanding a particular
segment of the insurance industry.
The Company positions itself as both an admitted (licensed) and
non-admitted (excess and surplus lines) carrier in order to afford the
flexibility to operate through various distribution channels and react to
different market conditions and opportunities. The Company allocates its capital
among its product lines depending on where it believes the best underwriting
opportunities exist at any given time.
The Company seeks to structure reinsurance programs to reduce volatility in
its business segments as well as to mitigate catastrophic or large loss
exposure.
INSURANCE SEGMENTS
The Company's principal business segments are:
A. General Agency which includes specialty automobile, surplus lines
liability and substandard property, and complex products and professional
liability coverages. These business lines are marketed through the
Company's general agency system which includes approximately 120 general
agents.
B. Rural America which is comprised of crop insurance programs and
property and casualty coverages for the rural marketplace. These business
lines are marketed by over 9,000 independent insurance agents.
C. Program, including transportation, focused workers' compensation
and used automobile dealer programs. This business is marketed primarily
through independent insurance agents.
D. Non-Standard Automobile coverages for private passenger automobiles
which is written principally in the southwestern United States. This
business is marketed through independent insurance agents.
The following table reflects the amount of net written premium for these
four insurance segments for the periods set forth below.
<TABLE>
<CAPTION>
NINE MONTHS
ENDED
SEPTEMBER 30, YEARS ENDED DECEMBER 31,
------------- ------------------------------
1994 1993(1) 1992 1991
------------- -------- ------- -------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
General Agency...................................... $ 86,443 $ 74,839 $50,976 $41,282
Rural America(2).................................... 32,279 6,589 -- --
Program............................................. 31,319 24,874 15,557 9,528
Non-Standard Auto................................... 23,691 31,203 17,552 12,172
------------- -------- ------- -------
Total.......................................... $ 173,732 $137,505 $84,085 $62,982
========== ======== ======= =======
</TABLE>
- -------------------------
(1) Premiums for Redland operations are included beginning July 1, 1993.
Redland's operations include auto liability, crop hail, commercial
multi-peril, fire and other allied lines and farmowners coverage, as well
as Multi-Peril Crop Insurance.
(2) For a discussion of the accounting treatment of MPCI premiums, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- General."
29
<PAGE> 32
With respect to the business written in the Company's four business
segments, the following table sets forth the Company's gross written premium and
net written premium by principal lines of business. Certain lines of business
are written in more than one of the Company's business segments.
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30, YEARS ENDED DECEMBER 31,
------------------- ---------------------------------------------------------------
1994 1993 1992 1991
------------------- ------------------- ------------------- -------------------
GROSS NET GROSS NET GROSS NET GROSS NET
WRITTEN WRITTEN WRITTEN WRITTEN WRITTEN WRITTEN WRITTEN WRITTEN
PREMIUM PREMIUM PREMIUM PREMIUM PREMIUM PREMIUM PREMIUM PREMIUM
-------- -------- -------- -------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Auto Liability............... $ 67,407 $ 58,812 $ 69,644 $ 64,066 $ 57,590 $40,348 $ 35,992 $28,056
General Liability............ 55,349 40,858 43,598 31,791 39,098 20,104 31,036 16,670
Crop Hail.................... 49,552 21,337 30,411 3,776 -- -- -- --
Auto Physical Damage......... 18,013 17,356 17,653 17,504 15,715 11,579 12,363 9,563
Commercial Multi-Peril....... 16,370 10,039 6,834 3,735 4,201 2,193 3,548 2,075
Workers' Compensation........ 12,626 7,780 15,658 7,360 20,615 6,334 16,371 5,100
Products Liability........... 15,353 4,337 17,310 4,733 12,904 2,350 4,313 801
Fire & Other Allied Lines.... 9,286 3,170 7,379 1,700 882 155 622 123
Farmowners................... 7,528 2,505 4,242 1,205 -- -- -- --
Other(1)..................... 3,622 2,073 2,203 1,946 1,041 1,012 592 587
Homeowners................... 5,058 1,276 1,311 308 45 10 16 7
-------- -------- -------- -------- -------- -------- -------- --------
Subtotal................. 260,164 169,543 216,243 138,124 152,091 84,085 104,853 62,982
Multi-Peril Crop
Insurance(2)............... 100,983 4,189 39,799 (619) -- -- -- --
-------- -------- -------- -------- -------- -------- -------- --------
Total.................... $361,147 $173,732 $256,042 $137,505 $152,091 $84,085 $104,853 $62,982
========= ========= ========= ========= ========= ========= ========= =========
</TABLE>
- -------------------------
(1) Principally comprised of inland marine and surety coverages.
(2) For a discussion of the accounting treatment of MPCI premiums, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- General."
The increase in the Company's gross written premiums in 1994 compared to
1993 as shown in the table above was primarily the result of its acquisition of
Redland, effective July 1, 1993. Redland's operations include auto liability,
crop hail, commercial multi-peril, farmowners, fire and other allied lines, as
well as MPCI. The increase in gross written premiums was also due in part to an
increase in premiums in the General Agency segment, primarily in the general
liability and commercial multi-peril lines, as a result of increased volume
following the hiring in August 1993 of four experienced executives from another
insurer. See "-- General Agency" below.
The principal factors behind the increase in net written premiums include
the Company's retention of a higher proportion of its gross written premiums in
several lines (principally auto liability and general liability) in 1993 as
compared to 1992 as a result of improved capitalization of the Insurance
Companies, which permitted them to cede less of their gross premiums written to
reinsurers. In addition, the Company retained a higher proportion of its crop
hail gross premiums written in 1994 than in 1993 due to substantial increases in
the cost of third party reinsurance following unfavorable results from this
business in 1993 and 1992.
30
<PAGE> 33
GENERAL AGENCY
Products. The Company offers a variety of specialty property and casualty
insurance coverages through its network of approximately 120 general agents.
Specialty insurance coverages written by the General Agency segment include the
following principal lines:
Specialty Automobile, including liability and physical damage
coverages for local haulers of specialized freight, public livery and other
classes of motor vehicles not normally underwritten by standard carriers.
Excess and Surplus Lines Liability and Substandard Property Coverages,
including general liability and commercial multi-peril coverages for small
businesses which normally do not satisfy the underwriting criteria of
standard carriers, such as small contractors, day care centers, automobile
service centers and older apartment buildings, offices and motels.
Complex General Liability Risks, including products and professional
liability which primarily are written on a non-admitted basis and a
substantial amount of which the Company reinsures.
Marketing. General Agency business is written through a system of
approximately 120 general agents who have received binding authority from the
Company for specific lines of business. Insureds are generally small to medium
sized businesses, and the Company provides agents with manuals which provide
specific rules for quoting, binding and issuing insurance policies to these
insureds. Risks that are too large or involve more complex coverages are
submitted to the home office and quoted by the home office underwriters. The
Company believes that a key to profitability in this division is in the choice
of general agents within each geographic area. The Company seeks out general
agents with top reputations and long standing relationships with independent
insurance agents in a specific geographic area.
General agents are compensated primarily through commissions and to a
lesser extent through a profit sharing plan based on the accident year
experience of each agency, under which profits are paid out over a four-year
period beginning in the year immediately following the accident year. The
Company's agency agreements with its general agents may generally be terminated
by either party without cause on 30 days' notice.
In August 1993, the Company expanded the General Agency segment by hiring
four experienced executives who previously managed a division of a large
national specialty property and casualty insurer which underwrote a substantial
book of specialty insurance. This group brought significant underwriting
expertise and agency contacts to the Company, especially in excess and surplus
lines liability and substandard property coverages. Since joining the Company,
this group has been responsible for the appointment of 28 new general agents and
an increase in gross premiums written in these lines to approximately $60
million in 1994 from approximately $20 million in 1993.
A subdivision within the General Agency segment consists of the complex
general liability risks underwritten through Acceptance Risk Managers, Inc., an
unaffiliated general agent. This segment writes larger, long-tail risks, all of
which are processed by ARM with respect to premium quotation, binding and policy
issuance. ARM works with approximately 30 general agents who operate principally
as wholesale intermediaries between the retail agent and ARM. These wholesalers,
which do not have binding authority, tend to be well acquainted with the larger
retail agencies which generally handle these types of risks, as well as the ways
in which coverages can be structured to properly underwrite them.
The Company has structured its general agency relationship with ARM so that
ARM's business incentives are consistent with the profitability goals of the
Company. ARM is paid a flat stipend on the first $10 million of gross premium it
writes each year, and an additional variable fee equal to a percentage of gross
premiums written in excess of the first $10 million, the percentage of which
diminishes as premium volume increases. In addition, the Company has structured
a profit sharing plan with ARM under which the first profit sharing adjustment
in respect of an underwriting year is not paid until four years after the
underwriting year has begun, and includes reserves for losses and expenses which
have been incurred but not yet reported.
31
<PAGE> 34
In the nine months ended September 30, 1994, the Company wrote through ARM
gross written premiums of $32.1 million and net written premiums of $9.8
million. To reduce the potential volatility of ARM's long-tail business, the
Company cedes 70% of this business to domestic reinsurers rated "A" or better by
A.M. Best.
Although ARM currently writes business exclusively for the Company, the
Company's contract with ARM does not prohibit it from writing for other insurers
and can be terminated by either party without cause upon one year's notice.
RURAL AMERICA
Products. The Company's Rural America segment is comprised of its crop
insurance programs and standard property and casualty coverages for the rural
market.
Crop Insurance. The two principal lines of the Company's crop insurance
business are Multi-Peril Crop Insurance and crop hail insurance. Multi-Peril
Crop Insurance is a federally-subsidized program established in 1980 under the
Federal Crop Insurance Act which provides farmers who suffer insured crop damage
during a growing season with funds needed to continue operating and plant crops
for the next season. Under the MPCI program, private insurance companies, in
conjunction with the federal government, offer farmers coverage against
substantially all natural perils, including droughts, freezes, floods, tornados,
insects, hail and other storm damage, excess rainfall, and plant diseases.
Farmers purchase crop insurance, including MPCI, to meet risk management needs
and are often encouraged or required to do so by their lenders. In 1994,
approximately 811,000 MPCI policies were sold by private insurance companies to
U.S. farmers, generating approximately $948 million in MPCI Premiums. For the
year ended December 31, 1994, the Company was the third largest writer of MPCI
business in the United States based on MPCI Premium with a market share of
approximately 14%.
The size of the national MPCI market is poised to increase in 1995 due to
recent changes in law. In response to the substantial costs incurred by the
federal government under traditional disaster relief programs due to
unprecedented flooding in 1993, in October 1994 Congress adopted significant
reforms in the funding and structure of the MPCI program. Among other changes,
the Reform Act now requires farmers for the first time to purchase MPCI coverage
in order to be eligible for a number of other federally-sponsored farm benefits,
including acreage set aside programs, in which farmers are paid to leave a
portion of their land unplanted, and crop price supports. As a result, the
federal Consolidated Farm Service Agency, which administers the MPCI program,
has estimated that the number of acres insured under the MPCI program will
increase substantially in 1995. However, there can be no assurance that such an
increase will in fact occur or, if such an increase were to occur, that it would
result in profitable growth for the Company.
Although the Company writes MPCI business in 37 states, a significant
portion (approximately 34% for 1994) of the business upon which the Company
retains risk after federal reinsurance is written in Iowa and Nebraska. These
states have historically had more consistent crop yields due in part to
advantageous weather conditions and the high percentage of farm acres with
irrigation systems. In addition, the two leading crops in these states are corn
and soybeans, which the Company believes may be less likely to suffer losses
than other, less hardy crops. The Company has crop yield history information on
over 100,000 farms in the United States which it utilizes in its MPCI business.
For a more detailed description of the Company's MPCI business, see
"Certain Investment Considerations -- Crop Program Considerations" and "Business
- -- Multi-Peril Crop Insurance Program."
In addition to Multi-Peril Crop Insurance, the Company offers stand alone
crop hail insurance, which insures growing crops against damage resulting from
hail storms and which involves no federal participation. The Company generally
sells crop hail insurance in conjunction with Multi-Peril Crop Insurance.
Although both crop hail and MPCI provide insurance against hail damage, under
crop hail coverages farmers can receive payments for hail damage which would not
be severe enough to require a payment under an MPCI policy. The Company believes
that offering crop hail insurance enables it to sell more MPCI policies than it
32
<PAGE> 35
otherwise would. In addition to crop hail insurance, the Company also sells a
small volume of insurance against crop damage from other specific named perils.
Other Coverages. The Rural America segment also offers to rural agents a
line of standard property and casualty coverages, e.g., farmowners, automobile
and limited commercial coverages which are marketed to farmers and other
customers in rural areas. The Company has found that many rural agencies
experience difficulty in finding standard property and casualty coverages for
their insureds because many larger insurance companies concentrate on high
volume insurance agencies.
Marketing. The Company markets its crop insurance through approximately
3,800 agencies employing over 7,600 independent agents primarily in the
traditional grain belt of the Midwest. The Company believes its success in
writing crop business is directly related to its investment in quality sales and
service personnel, particularly because there is no price competition with
respect to the MPCI product. The Company's agents, who are in many cases farmers
themselves, often travel from farm to farm to discuss the benefits of crop
insurance in informal, "kitchen table" conversations. A substantial number of
agencies are equipped with laptop computers and proprietary software which
agents use to make presentations to farmers to help them budget their insurance
premium dollars and understand the relative benefits of purchasing different
levels and combinations of MPCI and crop hail insurance policies. The Company
has been an industry leader in the development of this type of marketing
software, which permits the agent to directly transmit orders to the Company's
on-line computer system and serves to strengthen the relationship between the
agent and the Company.
The Company markets its other Rural America coverages primarily through the
same agents which market its crop insurance. The Company believes it can
successfully underwrite this business because it focuses on smaller communities
and outlying farms where certain losses tend to occur less frequently than in
urban areas.
Rural America agents are primarily compensated based on a percentage of
premiums produced. To a lesser degree, agents are also eligible for contingent
commissions generally based upon their production volume and profitability.
PROGRAM
Products. The two largest programs are trucking and workers' compensation.
Other programs include insurance for temporary help agencies, greyhound race
tracks and used car dealers. Trucking coverages include property and casualty
coverages for long haul truckers and upper Midwest regional and national
trucking companies hauling rural products. The workers' compensation program is
based principally in Minnesota and focuses on larger companies, writing policies
with minimum annual premiums of $50,000. The Company's workers' compensation
strategy is to control voluntary and involuntary costs through the application
of intensive claims management techniques which enable clients to improve their
loss frequency experience over time.
Marketing. The Program segment writes insurance generally through highly
focused independent agents who specialize in one particular line of business.
The Company's workers' compensation program is marketed directly to independent
insurance agents who write larger insurance risks. Although the Company's long
haul trucking business has historically been written through general agents, the
Company generally finds that most of its long haul trucking business is received
from a few highly specialized independent insurance agents. In 1991, the Company
purchased Seaboard Underwriters, Inc., a national specialist in long haul
trucking which also receives its business directly from specialized independent
insurance agents. The Company believes that capitalizing on the expertise of
specialized agents may provide more consistent results from this line of
business. In 1993, with the acquisition of Redland, the Company combined all of
its trucking-related business into the Program segment.
With respect to agents in the Program segment, commissions are the primary
form of compensation. Profit sharing plans have been used sparingly to date, but
competitive pressures may induce the Company to offer incentives to producers
based on the profitability of their books of business.
33
<PAGE> 36
Additionally, the Company also provides general agency functions for
unaffiliated insurers primarily in the trucking business for which it receives
commission income.
NON-STANDARD AUTOMOBILE
Products. The Company writes non-standard private passenger automobile
coverages principally in the southwestern United States. This product is
designed for drivers who are unable to obtain coverage from standard carriers
due to prior driving records, other underwriting criteria or market conditions.
Such drivers normally are charged higher premium rates than the rates charged
for preferred or standard risk drivers and are offered only basic limits of
liability in order to meet state financial responsibility laws.
Marketing. The Company's book of business was developed by a general
agency, Statewide, over a period beginning in the mid-1960's. In 1988, the
Company formed a joint venture with Statewide to write this book of business
through Phoenix Indemnity, which was originally owned 80% by the Company and 20%
by Statewide. In 1994, the Company purchased Statewide, thereby acquiring at the
same time the remaining 20% of Phoenix Indemnity.
The Company currently writes this business through approximately 600
independent agents. The Company's agents in general do not specialize in
non-standard automobile coverage and, therefore, the Company may be less likely
to compete directly with specialized non-standard automobile companies. The
Company's strategy in this segment is to write additional business when
attractive opportunities arise; however, the Company is not actively seeking
increased market share.
With respect to agents in the Non-Standard Automobile segment, commissions
are the primary form of compensation. Profit sharing commissions have been used
sparingly to date, but competitive pressures may induce the Company to offer
incentives to producers based on the profitability of their books of business.
MULTI-PERIL CROP INSURANCE PROGRAM
DESCRIPTION OF MPCI PROGRAM
Multi-Peril Crop Insurance is a federally-subsidized program which is
designed to provide participating farmers who suffer insured crop damage with
funds needed to continue operating and plant crops for the next growing season.
All of the material terms of the MPCI program and of the participation of
private insurers such as the Company in the program are set by the federal
Consolidated Farm Service Agency (or "CFSA") under applicable law.
Multi-Peril Crop Insurance provides coverage for insured crops against
substantially all natural perils. Purchasing an MPCI policy permits a farmer to
ensure that his crop yield for any growing season will be at least 50% to 75%
(as selected by the farmer at the time of policy issuance) of his historic crop
yield. If a farmer's crop yield for the year is greater than the yield coverage
he selected, no payment is made to the farmer under the MPCI program. However,
if a farmer's crop yield for the year is less than the yield coverage selected,
MPCI entitles the farmer to a payment equal to the yield shortfall multiplied by
60% to 100% (as selected by the farmer at the time of policy issuance) of the
price for such crop for that season as set by the CFSA.
In order to encourage farmers to participate in the MPCI program and
thereby reduce dependence on traditional disaster relief measures, the Reform
Act establishes a new minimum level of MPCI coverage ("Basic Coverage"), which
farmers may purchase upon payment of a minimal fixed administrative fee instead
of any premium. Basic Coverage insures 50% of historic crop yield at 60% of the
CFSA-set crop price per bushel. Basic Coverage can be obtained from private
insurers such as the Company or from USDA field offices.
In addition to Basic Coverage, MPCI policies that provide a greater level
of protection than the Basic Coverage level are also offered (such policies,
"Buy-up Coverage"). Most farmers purchasing MPCI have historically purchased at
Buy-up Coverage levels, with the most frequently sold policy providing coverage
for 65% of historic crop yield at 100% of the CFSA-set crop price per bushel.
Buy-up Coverages require payment
34
<PAGE> 37
of a premium in an amount determined by formula set by the CFSA. Buy-up Coverage
can only be purchased from private insurers. The Company focuses its marketing
efforts on Buy-up Coverages, which have higher premiums and which the Company
believes will continue to appeal to farmers who desire, or whose lenders
encourage or require, revenue protection.
The number of MPCI policies written has historically tended to increase
after a year, such as 1993, in which many natural disasters adversely affecting
crops have occurred, and decrease following a year, such as 1994, in which
favorable weather conditions prevail. Although management believes that this
historical pattern will be significantly altered by the provisions of the Reform
Act which now require farmers to purchase MPCI in order to receive certain other
federal benefits, no assurance can be given as to the foregoing.
REVENUES
The Company, like other private insurers participating in the MPCI program,
generates revenues from the MPCI program in two ways. First, it markets, issues
and administers policies, for which it receives administrative fees; and second,
it participates in a profit-sharing arrangement in which it receives from the
government a portion of the aggregate profit, or pays a portion of the aggregate
loss, in respect of the business it writes.
PROFIT SHARING ARRANGEMENT
The Company's share of profit or loss on the MPCI business it writes is
determined under a complex formula established by the CFSA. Under this formula,
the primary factors that determine the Company's MPCI profit or loss share are
(i) the gross premiums the Company is credited with having written; (ii) the
amount of such credited premiums retained by the Company after ceding premiums
to certain federal reinsurance pools; and (iii) the loss experience of the
Company's insureds. The following discussion provides more detail about the
implementation of this profit sharing formula.
Gross Premiums. For each year, the CFSA sets the formulas for determining
premiums for different levels of Buy-up Coverage. Premiums are based on the type
of crop, acreage planted, farm location, price per bushel for the insured crop
as set by the CFSA for that year, and other factors. The federal government will
generally subsidize a portion of the total premium set by the CFSA and require
farmers to pay the remainder. Cash premiums received by the Company from farmers
after the end of a growing season are promptly remitted to the federal
government. Although applicable federal subsidies change from year to year, such
subsidies will range up to approximately 42% of the Buy-up Coverage premium for
1995 depending on the crop insured and the level of Buy-up Coverage purchased.
Federal premium subsidies are recorded on the Company's behalf by the
government. For purposes of the profit sharing formula, the Company is credited
with having written the full amount of premiums paid by farmers for Buy-up
Coverages, plus the amount of any related federal premium subsidies (such total
amount, its "MPCI Premium").
As previously noted, farmers are not required to pay any premium for Basic
Coverage. However, for purposes of the profit sharing formula, the Company will
be credited with an imputed premium (its "MPCI Imputed Premium") for all Basic
Coverages it sells. The amount of such MPCI Imputed Premium credited is
determined by formula. In general, such MPCI Imputed Premium will be less than
50% of the premium that would be payable for a Buy-up Coverage policy that
insured 65% of historic crop yield at 100% of the CFSA-set crop price per
bushel, historically the most frequently sold Buy-up Coverage.
Reinsurance Pools. Under the MPCI program, the Company must allocate its
MPCI Premium or MPCI Imputed Premium in respect of a farm to one of three
federal reinsurance pools, at its discretion. These pools provide private
insurers with different levels of reinsurance protection from the CFSA on the
business they have written. For insured farms allocated to the "Commercial
Pool," the Company generally retains 100% of the risk and the CFSA assumes none
of the risk; for those allocated to the "Developmental Pool," the Company
generally retains 35% of the risk and the CFSA assumes 65%; and for those
allocated to the "Assigned Risk Pool," the Company retains 20% of the risk and
the CFSA assumes 80%.
35
<PAGE> 38
Although the Company in general must agree to insure any eligible farm, it
is not restricted in its decision to allocate a risk to any of the three pools,
subject to a minimum aggregate retention of 35% of its MPCI Premiums and MPCI
Imputed Premiums written. Based upon the production histories of each farm for
which the Company writes MPCI policies, as well as other underwriting criteria,
the Company assigns each farm to one of the pools. The Company has crop yield
history information with respect to over 100,000 farms in the United States.
Generally, farms or crops which, based on historical experience, location and
other factors, appear to be less likely to suffer an insured loss, are placed in
the Commercial Pool. Farms or crops which appear to be more likely to suffer a
loss are placed in the Developmental Pool or Assigned Risk Pool. The Company has
historically allocated the bulk of its insured risks to the Commercial Pool.
The Company's share of profit or loss depends on the aggregate amount of
MPCI Premium and MPCI Imputed Premium on which the Company retains risk after
allocating farms to the foregoing pools (its "MPCI Retention").
Loss Experience of Insureds. The Company pays insured losses to farmers as
they are incurred during the growing season, with the full amount of such
payments reimbursed to the Company by the federal government within three
business days. After a growing season ends, the aggregate loss experience of the
Company's insureds in each state for risks allocated to each of the three
reinsurance pools is determined. If, for all risks allocated to a particular
pool in a particular state, the Company's share of losses incurred is less than
its aggregate MPCI Retention, the Company shares in the gross amount of such
profit according to a schedule set by the CFSA for each year. As an example, if
the Company's MPCI Retention in respect of risks allocated to the Commercial
Pool in Nebraska in 1995 was, for instance, $1 million, it would receive 94% of
the first $350,000 of the gross amount of such profit, 65% of the next $100,000
of such gross profit, and 11% of any portion of the remaining $550,000 of such
gross profit, for a maximum potential profit share to the Company on such $1
million of Nebraska Commercial Pool MPCI Retention of approximately $455,000,
assuming no losses were incurred.
A similar calculation would be performed if the Company's share of losses
incurred were greater than its MPCI Retention to determine the Company's
participation in such gross loss. The profit and loss sharing percentages are
different for risks allocated to each of the three reinsurance pools, and
private insurers will receive or pay the greatest percentage of profit or loss
for risks allocated to the Commercial Pool.
The percentage split between private insurers and the federal government of
any profit or loss which emerges from an MPCI Retention is set by the CFSA and
generally is adjusted from year to year. For 1995 and 1996, the CFSA has
increased the maximum potential profit share of private insurers for risks
allocated to the Commercial Pool above the maximum potential profit share set
for 1994, without increasing the maximum potential share of loss for risks
allocated to that pool for 1995. This change increases the potential
profitability of risks allocated to the Commercial Pool by private insurers.
However, no assurance can be given that the profitability of the Company's MPCI
business will increase in 1995, since such profitability is also affected by a
number of other factors.
THIRD PARTY REINSURANCE
In order to reduce the Company's potential loss exposure under the MPCI
program, the Company generally purchases stop loss reinsurance from other
private insurers. The amount purchased varies yearly depending on market
conditions and other factors. Such reinsurance would not eliminate the Company's
potential liability in the event a reinsurer was unable to pay or losses
exceeded the limits of the stop loss coverage.
ADMINISTRATIVE PAYMENTS
Buy-up Coverage. The Company receives an administrative payment from the
CFSA for writing and administering Buy-up Coverage policies. These payments
provide funds to compensate the Company for its expenses, including agents'
commissions and the costs of administering policies and adjusting claims. In
1994, the administrative payments were set at 31% of the MPCI Premium. In 1995
and 1996, this payment has also
36
<PAGE> 39
been set at 31% of the MPCI Premium, but it is scheduled to be reduced to 29% in
1997, 28% in 1998, and 27.5% in 1999.
Basic Coverage. Farmers are required to pay a minimal fixed administrative
fee in order to obtain Basic Coverage. A portion of this fee is retained by the
Company to defray the cost of administration, with the balance remitted to the
government. The Company will also receive, from the CFSA, a separate minimal
claims administration fee in respect of each Basic Coverage policy it writes. In
general, administrative fees payable to the Company in respect of Basic Coverage
are significantly lower than for Buy-up Coverage.
UNDERWRITING
The Company's underwriting staff is organized by specific lines of
insurance. This enables the Company to take advantage of its underwriters'
expertise and experience in underwriting a particular type of insurance risk on
a consistent basis. In accepting risks, each underwriter is required to comply
with risk parameters, retention limits and rates prescribed by the Company.
Generally, in order to deliver prompt service while ensuring consistent
underwriting, the Company grants general agents the authority to sell and bind
insurance coverages in accordance with detailed procedures and limitations
established by the Company. The Company promptly reviews coverages bound by
agents, decides whether the insurance is written in accordance with such
procedures and limitations, and, subject to state law limits and policy terms,
may cancel coverages that are not in compliance. Regulations of each state vary
regarding cancellation of insurance policies and often depend upon whether they
are written on an admitted or non-admitted basis. Additionally, the policies
written by the Company provide that they may generally be canceled with 30 to 60
day notices, subject to state law limits.
The Company's underwriting staff attempts to visit general agents and
independent agents not less than annually. Additionally, the Company provides
seminars in certain lines of business for its general agents and independent
agents to discuss, among other things, new procedures and policies, new
coverages and new regulatory requirements.
The Company grants limited binding authority to certain independent agents
in certain lines of business, and provides that all other agents submit all
quotes to the Company's underwriting staff in order for such coverages to be
bound. Each line of business has detailed procedures and limitations established
by the Company. Business that is outside a general agent's or an independent
agent's binding authority must be submitted to the Company's underwriting staff
to obtain approval to bind such coverages.
ARM's operations are subject to contractual and operational controls
designed to maintain proper underwriting standards. The authority of ARM to bind
the Company is limited to specific types of insurance detailed in reinsurance
treaties written for this business unit and is limited to risks under which the
Company's ultimate net retention does not exceed $150,000. Further, the Company
and each of the four reinsurers participating in this business periodically
audit the underwriting operations of ARM, and each has conducted at least two
audits during 1994.
The Company writes insurance in 44 states and the District of Columbia as
an admitted carrier and in 42 states, the District of Columbia and the Virgin
Islands as an approved non-admitted carrier. Non-admitted carriers normally are
restricted to writing lines of business not regularly written in the standard
admitted market, although they have greater freedom to design policy provisions
and charge appropriate premiums on an unregulated basis. The Company generally
seeks to have an insurance subsidiary licensed as an admitted carrier, as well
as another insurance subsidiary operating as an approved non-admitted carrier,
in each state in which it writes insurance in order to have the flexibility to
offer insurance products in both the admitted as well as the non-admitted
market. For the nine months ended September 30, 1994, the Company wrote 62% of
its written premiums as a non-admitted carrier and 38% as an admitted carrier.
CLAIMS
The Company's claims department administers all claims and directs all
legal and adjustment aspects of the claims handling process. All claims are
processed centrally by the Company's staff. Independent adjusters
37
<PAGE> 40
are utilized regularly to assist in settling claims. The Company maintains an
active approach to claims management which is designed to investigate claims as
soon as practicable in order to manage and anticipate developments throughout
the claims process.
The specialized nature of the Company's business segments requires specific
skills to settle claims successfully and accordingly, the Company maintains a
staff of experienced claim examiners. These claim examiners specialize in
individual segments of the Company's business, which provides greater
consistency and depth of experience in settling claims.
LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES
The Company maintains reserves for estimates of liability for reported
losses, losses which have occurred but which have not yet been reported, and for
the expenses of investigating, processing and settling claims under outstanding
policies. Such reserves are estimates by the Company primarily based on Company
and industry experience with the types of risks involved, knowledge of the
circumstances surrounding individual claims, and Company and industry experience
with respect to the probable number and nature of claims arising from losses not
yet reported. The effects of inflation are implicitly reflected in these loss
reserves through the industry data utilized in establishing such reserves. The
Company does not discount its reserves to estimated present value for financial
reporting purposes. The Company annually obtains an independent review of its
loss reserving process and reserve estimates by a professional actuary as part
of the annual audit of its financial statements.
The following table presents an analysis of the Company's reserves,
reconciling beginning and ending reserve balances for the periods indicated:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------
1993 1992 1991
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Net loss and loss adjustment expense reserves at beginning
of year.................................................. $ 77,627 $ 66,132 $ 58,439
-------- -------- --------
Net loss and loss adjustment expense reserves of Redland at
date of acquisition...................................... 13,499 -- --
-------- -------- --------
Provisions for net losses and loss adjustment expenses for
claims occurring in the current year..................... 90,250 57,678 46,719
Increase in net reserves for claims occurring in prior
years.................................................... 2,555 2,347 198
-------- -------- --------
92,805 60,025 46,917
-------- -------- --------
Net losses and loss adjustment expenses paid for claims
occurring during:
The current year......................................... (40,209) (18,328) (15,487)
Prior years.............................................. (28,008) (30,202) (23,737)
-------- -------- --------
(68,217) (48,530) (39,224)
-------- -------- --------
Net loss and loss adjustment expense reserves at end of
year..................................................... 115,714 77,627 66,132
Reinsurance recoverable on unpaid loss and loss adjustment
expenses................................................. 95,886 50,039 N/A(1)
-------- -------- --------
Gross loss and loss adjustment expense reserves............ $211,600 $127,666 N/A(1)
======== ======== ========
</TABLE>
- -------------------------
(1) The Company adopted SFAS #113, "Accounting and Reporting for Reinsurance of
Short-Duration and Long-Duration Contracts," beginning December 31, 1992.
See discussion below for more information on the accounting treatment of
reinsurance recoverables under SFAS #113.
38
<PAGE> 41
The following table presents the development of balance sheet loss reserves
from calendar years 1983 through 1993. The top line of the table shows the loss
reserves at the balance sheet date for each of the indicated years. These
amounts are the estimates of losses and loss adjustment expenses for claims
arising in all prior years that are unpaid at the balance sheet date, including
losses that had been incurred but not yet reported to the Company. The middle
section of the table shows the cumulative amount paid with respect to previously
recorded reserves as of the end of each succeeding year. The lower section of
the table shows the re-estimated amount of the previously recorded reserves
based on experience as of the end of each succeeding year. The "Cumulative
redundancy (deficiency)" caption represents the aggregate cumulative change in
the estimates over all prior years. Conditions and trends that have affected the
development of loss reserves in the past may not necessarily occur in the
future. Accordingly, it may not be appropriate to extrapolate future
redundancies or deficiencies based on this information. The Company computes the
cumulative redundancy (deficiency) annually on a calendar year basis.
The Company adopted Statement of Financial Accounting Standards No. 113
("SFAS #113"), "Accounting and Reporting for Reinsurance of Short-Duration and
Long-Duration Contracts," effective January 1, 1993. The effect of the
application of SFAS #113 resulted in the reclassification of amounts ceded to
reinsurers, which amounts were previously reported as a reduction in unearned
premium and unpaid losses and loss adjustment expenses, to assets on the
consolidated balance sheet. The table below includes a reconciliation of net
loss and loss adjustment expense reserves to amounts presented on the
consolidated balance sheet after reclassifications related to the adoption of
SFAS #113. The gross cumulative redundancy is presented for 1992, the only year
on the table for which the Company has restated amounts in accordance with SFAS
#113.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------------------------------------------------------------------------------------
1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993
------- ------- ------- ------- ------- ------- ------- ------- ------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net reserves for
unpaid losses
and loss
adjustment
expenses...... $ 2,029 $ 2,764 $ 7,894 $17,373 $27,730 $34,092 $43,380 $58,439 $66,132 $ 77,627 $115,714
Cumulative
amount of net
liability paid
through:
One year
later....... 2,111 2,475 3,857 5,641 8,490 10,413 13,026 23,737 30,202 28,008
Two years
later....... 3,041 4,510 6,408 10,955 15,710 17,765 25,790 41,391 47,803
Three years
later....... 3,769 5,463 8,609 14,721 20,207 23,436 33,005 51,703
Four years
later....... 4,077 6,193 9,868 16,229 22,691 26,254 36,676
Five years
later....... 4,274 6,514 9,970 17,385 23,486 27,802
Six years
later....... 4,323 6,563 10,123 17,464 24,153
Seven years
later....... 4,328 6,658 10,113 17,521
Eight years
later....... 4,380 6,624 10,137
Nine years
later....... 4,382 6,652
Ten years
later....... 4,383
Net reserves
reestimated as
of:
One year
later....... 2,827 5,221 8,720 17,260 26,778 33,360 42,969 58,637 68,479 80,182
Two years
later....... 3,825 6,020 9,490 18,196 27,066 31,482 41,307 59,775 72,712
Three years
later....... 4,170 6,378 10,589 18,648 25,326 29,761 39,670 62,752
Four years
later....... 4,325 6,775 10,606 17,894 24,885 28,936 40,132
Five years
later....... 4,368 6,647 10,224 17,996 24,431 29,081
Six years
later....... 4,362 6,618 10,256 17,802 24,619
Seven years
later....... 4,349 6,686 10,183 17,845
Eight years
later....... 4,392 6,663 10,179
Nine years
later....... 4,398 6,674
Ten years
later....... 4,394
Net cumulative
redundancy
(deficiency)... $(2,365) $(3,910) $(2,285) $ (472) $ 3,111 $ 5,011 $ 3,248 $(4,313) $(6,580)(1) $ (2,555)
Gross reserves
for unpaid
loss and loss
adjustment
expenses...... $127,666 $211,600
Reinsurance
recoverable on
unpaid loss
and loss
adjustment
expenses...... 50,039 95,886
-------- --------
Net reserves for
unpaid loss
and loss
adjustment
expenses...... 77,627 115,714
Reestimated
gross reserves
for unpaid
loss and loss
adjustment
expenses...... $123,750
Reestimated
reinsurance
recoverable on
unpaid loss
and loss
adjustment
expenses...... 43,568
--------
Reestimated net
reserves for
unpaid loss
and loss
adjustment
expenses...... 80,182
--------
Gross cumulative
redundancy.... $ 3,916(2)
========
</TABLE>
- -------------------------
(1) The principal components of the cumulative deficiency in the 1991 calendar
year development were the workers' compensation, general liability, and
commercial multi-peril books of business. The Company's estimates of
development patterns of these lines were based upon historical information.
The actual experience of these lines differed from the historical patterns
causing the deficiency. The Company has adjusted its estimated development
patterns for all actual experience for reserving these lines in subsequent
years.
(2) The gross cumulative redundancy resulted primarily from favorable
development of losses ceded to reinsurers principally in the excess of loss
coverages.
39
<PAGE> 42
For further information about the Company's loss reserves, see "Certain
Investment Considerations -- Loss Reserves."
REINSURANCE
A significant component of the Company's business strategy involves the
structuring of reinsurance tailored to the needs of its business lines.
Insurance companies purchase reinsurance to spread risk on individual exposures,
protect against catastrophic losses and increase their capacity to write
insurance. Reinsurance involves an insurance company transferring, or ceding,
all or a portion of its exposure on insurance to a reinsurer. The reinsurer
assumes the exposure in return for a portion of the premium received by the
insurance company. Reinsurance does not discharge the insurer from its
obligations to its insured. If the reinsurer fails to meet its obligations, the
ceding insurer remains liable to pay the insured, but the reinsurer is liable to
the ceding insurer to the extent of the reinsured portion of any loss.
The Company limits its exposure under individual policies by purchasing
excess of loss and quota share reinsurance from other insurance companies, as
well as maintaining catastrophe reinsurance to protect against catastrophic
occurrences where claims can arise under several policies from a single event,
such as a hurricane, earthquake, wind storm, riot, tornado or other
extraordinary event.
The Company generally retains the first $500,000 of risk under its casualty
lines, ceding the next $2,500,000 to reinsurers; and 25% of the first $500,000
of risk under its property lines, ceding the other 75% to quota share reinsurers
and the next $1,500,000 per risk to other reinsurers. The foregoing reinsurance
coverage does not apply to business written through ARM, for which the Company
maintains a separate 70% quota share treaty. To the extent that individual
policies in any line exceed reinsurance treaty limits, it is the Company's
customary policy to purchase reinsurance on a facultative (specific policy)
basis.
The Company maintains catastrophe reinsurance for its casualty lines which
provides coverages of $7 million in excess of $3 million of aggregate risk per
occurrence, and for its property lines, which provides catastrophe coverage of
95% of $17,500,000 in excess of $2,500,000 per catastrophe.
In its Minnesota workers' compensation business, the Company buys
catastrophe coverage on an unlimited basis from the Minnesota Workers
Compensation Reinsurance Association in excess of $450,000 retention per
occurrence. In other states the Company purchases $49.5 million of coverage in
excess of $500,000 per occurrence and $9.5 million of coverage in excess of
$500,000 per person through private insurers.
The Company reinsures its MPCI business with various federal reinsurance
pools administered by the CFSA. Under the CFSA's reinsurance program, the
Company may (at the Company's election) cede to the CFSA a portion of the
Company's gross exposure under MPCI policies, ranging from 0% to 80% of such
exposure. In 1994, the Company ceded to the CFSA an aggregate of 39.7% of such
gross exposure. The Company's net exposure on MPCI business is further reduced
by privately placed stop loss reinsurance purchased from private carriers. See
"Business -- Multi-Peril Crop Insurance Program."
Approximately 55% of the Company's crop hail business is reinsured through
quota share agreements supplemented by surplus and stop loss contracts purchased
from private reinsurers. Surplus agreements generally limit the Company's quota
share exposure to $1,500,000 per county or township. Stop loss reinsurance is
purchased to cover 95% of net retained losses exceeding 90% up to 130% of
retained premiums.
The Company seeks to mitigate exposure to adverse reinsurance pricing
conditions and to credit risk by maintaining a diversity of reinsurers.
Reinsurance treaties are renegotiated and renewed annually by the Company. The
Company closely monitors the quality and performance of its reinsurers and for
the year ended December 31, 1994, approximately 80% of the Company's reinsurance
business on a ceded premium written basis was ceded to reinsurance companies
rated A- (Excellent) or better by A.M. Best, or was reinsured by the federal
government.
40
<PAGE> 43
The following table sets forth the principal domestic reinsurers of the
Company and their A.M. Best ratings, ranked in order of reinsurance premiums
ceded for the year ended December 31, 1994. At such date, the Company placed 88%
of its reinsurance with domestic reinsurance companies. The balance of the
Company's reinsurance is primarily placed with major international reinsurers.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1994
----------------------------------------------
REINSURANCE OUTSTANDING
PREMIUMS REINSURANCE A.M. BEST'S
DOMESTIC REINSURER CEDED RECOVERABLES(1) 1993 RATING
- ------------------------------------------------------- ----------- --------------- ------------
(IN THOUSANDS)
<S> <C> <C> <C>
Consolidated Farm Service Agency....................... $ 92,744 $17,297 Government
Constitution Reinsurance Corporation................... 18,113 15,608 A+
Reliance Reinsurance Corporation....................... 14,223 6,957 A-
United States Fidelity and Guaranty Corporation........ 7,510 188 A-
Skandia America Reinsurance............................ 6,116 5,113 A
Re Capital Reinsurance Company......................... 5,379 6,804 A
PMA Reinsurance Corporation............................ 4,952 4,705 A+
North American Reinsurance Corporation................. 3,765 2,133 A
-----------
Subtotal.......................................... $ 152,802
-----------
Total Domestic Ceded Premium...................... $ 192,207
=========
80%
=========
</TABLE>
- -------------------------
(1) Represents reinsurance recoverables on unpaid losses and loss adjustment
expenses at period end.
INVESTMENTS
The Company's investment policy is to maximize the after-tax yield of the
portfolio while emphasizing the stability and preservation of the Company's
capital base. Further, the portfolio is invested in types of securities and in
an aggregate duration which reflect the nature of the Company's liabilities and
expected liquidity needs. The Company manages its portfolio internally.
Effective January 1, 1994, all of the Company's fixed maturity securities were
classified as available for sale and carried at market value. At December 31,
1993, the fixed maturity securities which the Company classified as available
for sale were carried at the lower of aggregate cost or market and the fixed
maturity securities classified as held for investment were carried at cost. The
investment portfolio at September 30, 1994 and December 31, 1993, consisted of
the following:
<TABLE>
<CAPTION>
SEPTEMBER 30, 1994 DECEMBER 31, 1993
--------------------- ---------------------
CARRYING CARRYING
TYPE OF INVESTMENT COST VALUE COST VALUE
- ------------------------------------------------ -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Fixed maturity securities
U.S. government obligations................... $ 36,322 $ 34,877 $ 26,455 $ 26,455
Obligations of states and political
subdivisions............................... 33,280 32,256 33,874 33,874
Foreign corporations.......................... 1,498 1,499 499 499
Public utilities.............................. 3,608 3,555 3,218 3,218
All other corporate bonds..................... 17,662 17,401 9,789 9,789
Collateral-backed securities.................. 72,936 62,181 73,757 73,757
-------- -------- -------- --------
Total fixed maturity securities....... 165,306 151,769 147,592 147,592
Common stocks................................... 6,903 6,752 5,439 5,427
Preferred stocks................................ 10,448 9,748 8,367 8,445
Commercial mortgages............................ 2,320 2,320 2,852 2,852
Real estate..................................... 3,894 3,894 4,266 4,266
Cash and short-term investments(1).............. 52,905 52,905 19,404 19,404
-------- -------- -------- --------
Total................................. $241,776 $227,388 $187,920 $187,986
======== ======== ======== ========
</TABLE>
- -------------------------
(1) Due to the nature of crop insurance, the Company must maintain short-term
investments to fund amounts due under the program. Historically, these
short-term funds are highest in the Fall corresponding to the cash flow of
the agricultural industry.
41
<PAGE> 44
The following table sets forth, as of September 30, 1994, the composition
of the Company's fixed maturity securities portfolio by time to maturity.
<TABLE>
<CAPTION>
CARRYING PERCENT TOTAL
MATURITY: VALUE CARRYING VALUE
---------------------------------------------------------- --------------- --------------
(IN THOUSANDS)
<S> <C> <C>
1 year or less............................................ $ 192 0.1%
More than 1 year through 3 years.......................... 32,236 21.2
More than 3 years through 5 years......................... 26,261 17.3
More than 5 years through 10 years........................ 22,130 14.6
More than 10 years through 15 years....................... 3,896 2.6
More than 15 years........................................ 4,874 3.2
Collateral backed securities.............................. 62,181 41.0
--------------- -------
Total........................................... $ 151,769 100.0%
============ ===========
</TABLE>
The following table sets forth, as of September 30, 1994, the ratings
assigned to the Company's fixed maturity securities.
<TABLE>
<CAPTION>
CARRYING PERCENT TOTAL
RATING:(1) VALUE CARRYING VALUE
---------------------------------------------------------- --------------- --------------
(IN THOUSANDS)
<S> <C> <C>
Aaa....................................................... $ 126,380 83.2%
Aa........................................................ 4,348 2.9
A......................................................... 15,212 10.0
Baa....................................................... 3,458 2.3
Below investment grade.................................... 2,371 1.6
--------------- -------
Total........................................... $ 151,769 100.0%
============ ===========
</TABLE>
- -------------------------
(1) Ratings are assigned by Moody's Investors Service, Inc. when available, with
the remaining ratings assigned by Standard & Poor's Corporation.
The Company's investment results for the periods indicated are set forth
below:
<TABLE>
<CAPTION>
NINE MONTHS
ENDED
SEPTEMBER 30, YEARS ENDED DECEMBER 31,
------------- ---------------------------------
1994 1993 1992 1991
------------- -------- -------- -------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C> <C>
Net investment income......................... $ 9,230 $ 10,844 $ 8,220 $ 6,103
Average investment portfolio(1)............... 200,036 173,182 113,024 97,460
Pre-tax return on average investment
portfolio................................... 6.2%(2) 6.3% 7.3% 6.3%
Net realized gains............................ $ 499 $ 2,250 $ 1,046 $ 1,953
</TABLE>
- -------------------------
(1) Average investment portfolio represents the average (based on amortized
cost) of the beginning and ending investment portfolio (excluding real
estate) computed on a quarterly basis.
(2) Return on average investment portfolio for the nine months ended September
30, 1994 has been annualized for comparison purposes.
42
<PAGE> 45
The Company's collateral backed securities portfolio consists of
mortgage-backed securities, all of which are collateralized mortgage obligations
("CMOs"). The following table sets forth as of September 30, 1994 the categories
of the Company's CMOs, which at such date had an average life of approximately
six years.
<TABLE>
<CAPTION>
CARRYING
TYPE OF CMO PAR VALUE(1) AMORTIZED COST(1) (MARKET) VALUE
- ---------------------------------------------------- ------------ ----------------- --------------
(IN THOUSANDS)
<S> <C> <C> <C>
Fixed coupon........................................ $ 19,198 $19,312 $ 18,702
Floating rate(2).................................... 16,933 16,823 16,657
Inverse floating rate(2)............................ 39,024 36,801 26,822
------------ ------------- ------------
Total CMOs(3)............................. $ 75,155 $72,936 $ 62,181
========== ============= ============
</TABLE>
- -------------------------
(1) Par value is the face amount of the underlying mortgage collateral. Any cost
in excess of par value is a "premium" whereas cost lower than par value is a
"discount." The Company's aggregate CMO portfolio has been purchased at a
discount.
(2) Floating rate CMOs provide an increased interest rate when a specified index
interest rate increases and a lower interest rate when such index rate
decreases, while inverse floating rate CMOs provide a lower interest rate
when the index rate increases and a higher rate when the index rate
decreases. Generally, the Company's floating rate and inverse floating rate
securities are tied to the one month LIBOR. The market values of the
Company's floating rate and inverse floating rate CMOs are significantly
impacted by various factors, including the outlook for future interest rate
changes and such securities' relative liquidity under current market
conditions.
(3) All of the CMO portfolio collateral is guaranteed by a government agency.
The yield characteristics of mortgage-backed securities differ from those
of traditional fixed maturity securities. Interest and principal payments occur
more frequently, often monthly, and mortgage-backed securities are subject to
risks associated with variable prepayments. Prepayment rates are influenced by a
number of factors which cannot be predicted with certainty, including the
relative sensitivity of the underlying mortgages backing the assets to changes
in interest rates, a variety of economic, geographic and other factors and the
prepayment priority of the securities in the overall securitization structures.
In general, prepayments on the underlying mortgage loans, and the
securities backed by these loans, increase when the level of prevailing interest
rates declines significantly below the interest rates on such loans.
Mortgage-backed securities purchased at a discount to par will experience an
increase in yield when the underlying mortgages prepay faster than expected
because the faster prepayment results in accelerated recognition of the discount
as income. Those securities purchased at a premium that prepay faster than
expected will incur a reduction in yield because the faster prepayment results
in accelerated amortization of the premium. When declines in interest rates
occur, the proceeds from the prepayment of mortgage-backed securities are likely
to be reinvested at lower rates than the Company was earning on the prepaid
securities.
As the level of prevailing interest rates increases, which occurred during
the first half of 1994, prepayments on mortgage-backed securities decelerate as
fewer underlying mortgages are refinanced. When this occurs, the average
maturity and duration of the mortgage-backed securities increase, which
decreases the yield on mortgage-backed securities purchased at a discount
because the discount is realized as income at a slower rate and increases the
yield on those purchased at a premium as a result of a decrease in annual
amortization of the premium.
REGULATION
As a general rule, an insurance company must be licensed to transact
insurance business in each jurisdiction in which it operates, and almost all
significant operations of a licensed insurer are subject to regulatory scrutiny.
Licensed insurance companies are generally known as "admitted" insurers. Most
states provide a limited exemption from licensing for insurers issuing insurance
coverages that generally are not available from admitted insurers. There
coverages are referred to as "surplus lines" insurance and these insurers as
"surplus lines" or "non-admitted" companies.
43
<PAGE> 46
The Company's admitted insurance businesses are subject to comprehensive,
detailed regulation throughout the United States, under statutes which delegate
regulatory, supervisory and administrative powers to state insurance
commissioners. The primary purpose of such regulations and supervision is the
protection of policyholders and claimants rather than stockholders or other
investors. Depending on whether the insurance company is domiciled in the state
and whether it is an admitted or non-admitted insurer, such authority may extend
to such things as (i) periodic reporting of the insurer's financial condition;
(ii) periodic financial examination; (iii) approval of rates and policy forms;
(iv) loss reserve adequacy; (v) insurer solvency; (vi) the licensing of insurers
and their agents; (vii) restrictions on the payment of dividends and other
distributions; (viii) approval of changes in control; and (ix) the type and
amount of permitted investments.
The Company also is subject to laws governing insurance holding companies
in Nebraska, Iowa and Arizona, where the Insurance Companies are domiciled.
These laws, among other things, require the Company to file periodic information
with state regulatory authorities including information concerning its capital
structure, ownership, financial condition and general business operations;
regulate certain transactions between the Company, its affiliates and the
Insurance Companies, including the amount of dividends and other distributions
and the terms of surplus notes; and restrict the ability of any one person to
acquire certain levels of the Company's voting securities without prior
regulatory approval.
The insurance holding company laws of Nebraska, Iowa and Arizona limit
dividends and other distributions from the Insurance Companies to the Company.
Under Nebraska law, dividends or distributions may not be paid by an insurance
company without prior regulatory approval, unless such dividend, together with
any dividends paid within the preceding 12 months, does not exceed the lesser of
(a) 10% of the policyholders' surplus of the insurer as of the preceding
December 31 or (b) the insurer's net income, excluding realized capital gains,
for the preceding calendar year, all as computed in accordance with SAP. In
determining net income available for dividends in Nebraska, an insurer may carry
forward net income from the second and third full calendar years preceding the
date of determination, again excluding realized capital gains, less dividends
paid in such prior calendar years. Under Iowa law, dividends or distributions
may not be paid by an insurance company without prior regulatory approval,
unless such dividend, together with any dividends paid within the preceding
twelve months, does not exceed the greater of (a) 10% of the policyholders'
surplus of the insurer as of the preceding December 31 or (b) the insurer's net
income for the preceding calendar year, all as computed in accordance with SAP.
Under Arizona law, dividends or distributions may not be paid by an insurance
company without prior regulatory approval, unless such dividend, together with
any dividends paid within the preceding twelve months, does not exceed the
lesser of (a) 10% of the policyholders' surplus of the insurer as of the
preceding December 31 or (b) the insurer's net investment income (including
realized capital losses and excluding realized capital gains) for the preceding
calendar year, all as computed in accordance with SAP.
Other regulatory and business considerations may further limit the
willingness of the Insurance Companies to pay dividends. For example, the impact
of dividends on surplus could affect an insurer's competitive position, the
amount of premiums that it can write and its ability to pay future dividends.
Further, the insurance laws and regulations of Nebraska, Iowa and Arizona
require that the statutory surplus of an insurance company domiciled therein,
following any dividend or distribution by such company, be reasonable in
relation to its outstanding liabilities and adequate for its financial needs.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
While the non-insurance company subsidiaries are not subject directly to
the dividend and other distribution limitations, insurance holding company
regulations govern the amount which a subsidiary within the holding company
system may charge any of the Insurance Companies for services (e.g., agents'
commissions).
The Company's MPCI program is federally regulated and supported by the
federal government by means of premium subsidies to farmers, expense
reimbursement and federal reinsurance pools for private insurers. Consequently,
the MPCI program is subject to oversight by the legislative and executive
branches of the federal government, including the CFSA, a division of the USDA.
The MPCI program regulations generally require compliance with federal
guidelines with respect to underwriting, rating and claims administration. The
44
<PAGE> 47
Company is required to perform continuous internal audit procedures and is
subject to audit by several federal government agencies.
The MPCI program has historically been subject to change by the federal
government at least annually since its establishment in 1980, some of which
changes have been significant. The most recent significant changes to the MPCI
program came as a result of the passage by Congress of the Reform Act of 1994.
See "Certain Investment Considerations -- Crop Program Considerations" and
"Business -- Multi-Peril Crop Insurance Program."
Certain provisions of the Reform Act, if implemented by the CFSA, may
increase competition among private insurers in the pricing of Buy-up Coverage.
The Reform Act authorizes the CFSA to implement regulations permitting insurance
companies to pass on to farmers in the form of reduced premiums certain cost
efficiencies related to any excess expense reimbursement over the insurer's
actual cost to administer the program, which could result in increased price
competition. To date, the CFSA has not enacted regulations implementing these
provisions.
During the past several years, various regulatory and legislative bodies
have adopted or proposed new laws or regulations to deal with the cyclical
nature of the insurance industry, catastrophic events and insurance capacity and
pricing. These regulations include (i) the creation of "market assistance plans"
under which insurers are induced to provide certain coverages, (ii) restrictions
on the ability of insurers to cancel certain policies in mid-term, (iii) advance
notice requirements or limitations imposed for certain policy non-renewals and
(iv) limitations upon or decreases in rates permitted to be charged.
Governmental regulators and the NAIC re-examine from time to time existing
laws and regulations and their application to insurance companies. For example,
the NAIC recently approved and recommended that states adopt and implement
several regulatory initiatives designed to be used by regulators as an early
warning tool to identify deteriorating or weakly capitalized insurance companies
and to decrease the risk of insolvency of insurance companies. These initiatives
include the implementation of the RBC standards for determining adequate levels
of capital and surplus to support the elements of risk in (a) assets (default
and market decline), (b) credit (ceded reinsurance recoverables), (c)
off-balance sheet/growth risk, (d) loss and loss adjustment expense reserves
(adverse development), and (e) premium/price risk (combined ratio). The RBC
standards require regulators to analyze the ratio of an insurance company's
total adjusted capital (defined as the total of its statutory capital, surplus,
asset valuation reserve and certain other adjustments) to its RBC. If a
company's total adjusted capital is less than 100%, or in certain cases 125%
(the "Company Action Level"), of its RBC, the RBC requirements provide for four
levels of regulatory attention, from submission of a comprehensive plan to
improve its capital position, to special examinations, to being placed under
supervision.
The RBC formula also defines a new minimum capital standard which will
supplement the existing system of low, fixed minimum capital and surplus
requirements on a state-by-state basis. The NAIC regulatory initiatives also
restrict an insurance company's ability to pay dividends. Of the states in which
the Insurance Companies are domiciled, only Nebraska has adopted effective
January 1, 1995 the RBC initiatives. Iowa and Arizona may adopt the initiatives,
but the ultimate content and timing of any such statutes and regulations adopted
by those states cannot be determined at this time. Management believes the
implementation of RBC will not have a material adverse effect on the operations
of the Insurance Companies.
The NAIC has developed its Insurance Regulatory Information System ("IRIS")
to assist state insurance departments in identifying significant changes in the
operations of an insurance company, such as changes in its product mix, large
reinsurance transactions, increases or decreases in premiums received and
certain other changes in operations. Such changes may not result from any
problems with an insurance company but merely indicate changes in certain ratios
outside ranges defined as normal by the NAIC. When an insurance company has four
or more ratios falling outside "normal ranges," state regulators may investigate
to determine the reasons for the variance and whether corrective action is
warranted.
For the year ended December 31, 1993, Redland Insurance was outside the
normal range specified by IRIS in six out of the twelve IRIS ratios for property
and casualty insurers. The Company has taken action to
45
<PAGE> 48
improve certain of these ratio results, and, during 1994, the Company
contributed a total of $24 million to the surplus of Redland Insurance,
including the $18 million described below. As a result primarily of the
foregoing IRIS results, the Iowa insurance regulatory authorities conducted a
special examination of Redland Insurance for the year ended December 31, 1993.
Since the results of this examination have not yet been disclosed to the
Company, no assurance can be given that such examination will not result in
regulatory action that could have an adverse impact on the business or results
of operations of Redland Insurance.
The insurance laws of Michigan require non-domiciliary insurance companies
that undergo a change of control to requalify for their certificates of
authority to write insurance. On May 29, 1994, the Michigan Insurance Bureau
(the "Bureau") revoked Redland Insurance's certificate of authority after it
failed to requalify under such law following its acquisition by the Company. The
Bureau cited as its reason concerns about Redland Insurance's capitalization,
operating ratios and 1993 IRIS ratios. The Company has since improved the
capitalization of Redland Insurance. In addition, a portion of the net proceeds
of this Offering will be contributed to Redland Insurance. Redland Insurance
plans to seek requalification in Michigan in 1996. For 1994, gross premiums
written by Redland in Michigan were $4.5 million, 90% of which consisted of MPCI
and crop hail insurance. The Company does not believe that the action by
Michigan will have a material adverse effect on the Company's financial
condition and results of operations since management believes that the Company
has been able to write through Acceptance Insurance substantially all of the
Michigan business it would have written through Redland Insurance.
On August 29, 1994, after a review of the Company's six month financial
statements, A.M. Best placed the current A- (Excellent) rating of three of the
rated Insurance Companies under review, with negative implications, citing as
the reason the Company's growth in written premiums without a corresponding
growth in surplus as the reason. Subsequently, the Company increased the
statutory surplus of Redland Insurance and Acceptance Insurance by an additional
$18 million and $20 million, respectively, with the proceeds from the exercise
of the Warrants. A.M. Best then affirmed the Insurance Companies' A- (Excellent)
rating.
The eligibility of the Company's insurance subsidiaries to write insurance
on a surplus lines basis in most jurisdictions is dependent on their compliance
with certain financial standards, including the maintenance of a requisite level
of capital and surplus and the establishment of certain statutory deposits.
State surplus lines laws typically: (i) require the insurance producer placing
the business to show that he or she was unable to place the coverage with
admitted insurers; (ii) establish minimum financial requirements for surplus
lines insurers operating in the state; and (iii) require the insurance producer
to obtain a special surplus lines license. In recent years, many jurisdictions
have increased the minimum financial standards applicable to surplus lines
eligibility.
The Insurance Companies also may be required under the solvency or guaranty
laws of most states in which they do business to pay assessments (up to certain
prescribed limits) to fund policyholder losses or liabilities of insolvent or
rehabilitated insurance companies. These assessments may be deferred or forgiven
under most guaranty laws if they would threaten an insurer's financial strength
and, in certain instances, may be offset against future premium taxes. Some
state laws and regulations further require participation by the Insurance
Companies in pools or funds to provide some types of insurance coverages which
they would not ordinarily accept.
It is not possible to predict the future impact of changing state and
federal regulation on the Company's operations, and there can be no assurance
that existing insurance-related laws and regulations will not become more
restrictive in the future or that laws and regulations enacted in the future
will not be more restrictive than existing laws.
EMPLOYEES
At February 22, 1995 the Company and its subsidiaries employed 17 salaried
executives and 772 other personnel. Acceptance believes that relations with its
employees are good.
46
<PAGE> 49
MANAGEMENT
The following table sets forth the principal executive officers of the
Company with their ages and offices held:
<TABLE>
<CAPTION>
NAME AGE POSITION
--- ------------------------------------------------------------
<S> <C> <C>
Kenneth C. Coon.......... 44 Chairman and Chief Executive Officer and a Director
John P. Nelson........... 54 President and Chief Operating Officer and a Director
Greg D. Ewald............ 41 Senior Vice President of Underwriting
William J. Gerber........ 37 Vice President, Investments and Investor Relations
Richard C. Gibson........ 59 President of American Agrisurance, Inc.
Robert W. Haney.......... 53 Senior Vice President of Claims
Joseph P. Hutelmyer...... 41 President and Chief Operating Officer of Seaboard
Underwriters
Georgia M. Mace.......... 45 Treasurer and Chief Accounting Officer
George P. Mang........... 63 President and Chief Operating Officer of Phoenix Indemnity
Joseph G. Smith.......... 40 Vice President of Budget, Audit and Strategic Planning
Thomas D. Stamm.......... 48 Senior Vice President of Acceptance Insurance
</TABLE>
Kenneth C. Coon has been Chairman and Chief Executive Officer of the
Company and a director since December 1992. He served as Interim Chief Executive
Officer of the Company beginning in February 1992. Mr. Coon was a founder and
has been President and Chief Executive Officer and a director of Acceptance
Insurance since its formation and of each of its subsidiaries since their
formation or acquisition. Mr. Coon began his career in 1972 as an underwriter
for Cornhusker Casualty, a division of Berkshire Hathaway. Mr. Coon, a chartered
property and casualty underwriter (CPCU), has had more than 20 years of
experience in the insurance industry.
John P. Nelson has been President and Chief Operating Officer of the
Company since March 1994, and a director since August 1993. Mr. Nelson founded
Redland Insurance in 1978 and has served as either Chairman or President and a
director of The Redland Group, Inc. and its insurance subsidiaries since their
formation. Mr. Nelson, a CPCU, has more than 25 years of experience in the
insurance industry.
Greg D. Ewald has been the Senior Vice President of Underwriting of the
Company since October 1993. Mr. Ewald has been Vice President of Underwriting
for Acceptance Insurance and Acceptance Indemnity since April 1990. Prior
thereto, Mr. Ewald was Vice President, Treaty Underwriting, at Underwriters
Reinsurance Company. Mr. Ewald has more than 18 years of experience in the
insurance industry.
William J. Gerber has been Vice President, Investments and Investor
Relations since February 1992. Mr. Gerber was Vice President of the Company
since December 1992 and of Acceptance Insurance since July 1991. Beginning in
August 1987, he was Director of Financial Reporting and Acquisitions for the
Company. Prior thereto, he was a certified public accountant with Coopers &
Lybrand for approximately eight years.
Richard C. Gibson has been President of American Agrisurance, Inc., a
wholly-owned marketing subsidiary of the Company, since its inception in
November 1976. From 1973 through 1976, Mr. Gibson was Vice President and
Marketing Manager of Blakley Crop Hail and prior to that time, from 1964 through
1973 Branch Manager of the Crop Division for the Insurance Company of North
America. Mr. Gibson has over 30 years of experience in the insurance industry.
Robert W. Haney has been Senior Vice President of Claims of the Company
since July 1993. For the prior 11 years, Mr. Haney was Assistant Vice President
of Claims for Empire Fire & Marine. Mr. Haney has over 20 years of experience in
the insurance industry.
Joseph P. Hutelmyer has been President and Chief Operating Officer of
Seaboard Underwriters since October 1991. He was Senior Vice President of
Seaboard from January 1986 and has been employed with Seaboard since 1981. Mr.
Hutelmyer has over 20 years of experience in the insurance industry.
47
<PAGE> 50
Georgia M. Mace has been Treasurer and Chief Accounting Officer of the
Company since May 1992. Ms. Mace has been Treasurer and Chief Accounting Officer
of Acceptance Insurance since 1983 and of each of its subsidiaries since their
formation or acquisition. Ms. Mace has more than 20 years of experience in the
insurance industry.
George P. Mang has been President and Chief Operating Officer of Phoenix
Indemnity since April 1994. Prior to that time, Mr. Mang was Executive Vice
President of Statewide for 25 years. Mr. Mang has over 35 years of experience in
the insurance industry.
Joseph G. Smith has been Vice President of Budget, Audit and Strategic
Planning since August 1993. Mr. Smith served as Vice President and Treasurer of
Redland Insurance from 1982 to 1994. Prior to joining Redland, Mr. Smith worked
as a certified public accountant with Ernst & Whinney for six years.
Thomas D. Stamm has been Senior Vice President of Acceptance Insurance
since October 1993. Prior to that time, Mr. Stamm was a founding officer and
Senior Vice President of Underwriting for the Scottsdale Insurance Company.
Prior to that time, Mr. Stamm was a Vice President of Underwriting for Great
Southwest Fire Insurance Company for 10 years. Mr. Stamm, a CPCU, has more than
20 years of experience in the insurance industry.
The following table provides information as of February 21, 1995, with
respect to beneficial ownership of the Common Stock by each executive officer of
the Company, individually, and by all executive officers of the Company as a
group.
<TABLE>
<CAPTION>
NUMBER OF
NAME SHARES(1) PERCENTAGE(2)
---------------------------------------------------------- --------- -------------
<S> <C> <C>
Kenneth C. Coon(3)........................................ 186,427 1.2%
Greg D. Ewald(4).......................................... 10,025 *
William J. Gerber(5)...................................... 22,979 *
Richard C. Gibson......................................... 354,083 2.4
Robert W. Haney........................................... -- --
Joseph P. Hutelmyer(6).................................... 4,493 *
Georgia M. Mace(7)........................................ 19,695 *
George P. Mang(8)......................................... 20,433 *
John P. Nelson(9)......................................... 908,403 6.1
Joseph G. Smith(10)....................................... 7,818 *
Thomas D. Stamm........................................... -- --
--------- -----
All executive officers as a group (11 persons)............ 1,534,356 10.5%
--------- -----
</TABLE>
- -------------------------
(1) This column sets forth shares of Common Stock which are deemed to be
"beneficially owned" by the persons named under applicable Commission
rules. Each of the persons in the table has sole voting and investment
power with respect to all shares beneficially owned by him, except as
described in the following footnotes.
(2) For purposes of calculating the percentage of Common Stock beneficially
owned by any beneficial owner, but only as to such owner, the shares of
Common Stock issuable to such person under stock options or warrants
exercisable within 60 days are considered outstanding and added to the
shares of Common Stock actually outstanding.
(3) Includes 1,216 shares of Common Stock owned by Mr. Coon's wife, 9,631
shares of Common Stock held for Mr. Coon's account by the trustee of the
Employee Stock Ownership and Tax Deferred Savings Plan ("KSOP"), 1,717
shares of Common Stock held for Mrs. Coon's account by the trustee of the
KSOP, and immediately exercisable options to purchase 63,646 shares of
Common Stock.
(4) Includes 5,564 shares of Common Stock held by the trustee of the KSOP for
the account of Mr. Ewald, and immediately exercisable options to purchase
2,500 shares of Common Stock.
48
<PAGE> 51
(5) Includes 4,512 shares of Common Stock held by the trustee of the KSOP for
the account of Mr. Gerber, 60 shares of Common Stock held by Mr. Gerber as
custodian for his minor children, and immediately exercisable options to
purchase 16,875 shares of Common Stock.
(6) Includes 642 shares of Common Stock held by the trustee of the KSOP for the
account of Mr. Hutelmyer and immediately exercisable options to purchase
2,500 shares of Common Stock.
(7) Includes 5,374 shares of Common Stock held by the trustee under the KSOP
for the account of Ms. Mace and immediately exercisable options to purchase
12,500 shares of Common Stock.
(8) Represents immediately exercisable options to purchase 20,000 shares of
Common Stock.
(9) Includes 117,540 shares of Common Stock held by a family corporation
controlled by Mr. Nelson, 385,405 shares controlled by Mr. Nelson through
revocable proxies, 2,200 shares of Common Stock held by Mr. Nelson's spouse
and 2,200 shares of Common Stock held by Mr. Nelson's minor child.
(10) Includes 1,300 shares of Common Stock owned by Mr. Smith's wife.
49
<PAGE> 52
DESCRIPTION OF NOTES
The Notes are to be issued under an indenture dated as of , 1995
(the "Indenture") between the Company and , as Trustee (the
"Trustee"). A copy of the form of Indenture is filed as an exhibit to the
Registration Statement of which this Prospectus is a part. The following summary
of certain provisions of the Indenture does not purport to be complete and is
subject to, and is qualified in its entirety by reference to, all the provisions
of the Indenture, including the definitions of certain terms therein and those
terms made a part thereof by the Trust Indenture Act of 1939, as amended. As
used in this "Description of Notes," the "Company" means Acceptance Insurance
Companies Inc. and does not include its subsidiaries. Wherever particular
defined terms of the Indenture not otherwise defined herein are referred to,
such defined terms are incorporated herein by reference.
GENERAL
The Notes will be unsecured, subordinated obligations of the Company, will
be limited to $69,000,000 aggregate principal amount (including $9,000,000
aggregate principal amount subject to the Underwriters' over-allotment option)
and will mature on , 2005. The Notes will bear interest at the rate
per annum shown on the front cover of this Prospectus from the date of original
issuance or from the most recent Interest Payment Date to which interest has
been paid or provided for, payable semiannually on and of
each year, commencing , to the Person in whose name the Note (or any
predecessor Note) is registered at the close of business on the preceding
or , as the case may be.
Principal of and premium, if any, and interest on the Notes will be
payable, and the Notes may be converted, exchanged or transferred, at the office
or agency of the Company established for such purpose which will initially be
the office of the Trustee located at ; provided that, at the option
of the Company, payment of interest may be made by check mailed to the address
of the Person entitled thereto as it appears in the Note Register.
Interest on the Notes will be computed on the basis of a 360-day year of
twelve 30-day months. The Notes will be issued only in fully registered form,
without coupons, in denominations of $1,000 and any integral multiple thereof.
No service charge will be made for any registration of transfer or exchange of
Notes, but the Company may require payment of a sum sufficient to cover any tax
or other similar governmental charge payable in connection therewith.
CONVERSION RIGHTS
The Notes will be convertible, in whole or from time to time in part (in
denominations of $1,000 or integral multiples thereof), into shares of Common
Stock of the Company at any time prior to redemption or maturity, initially at
the conversion price stated on the cover page hereof, subject to adjustment as
described below. The right to convert Notes will terminate at the close of
business on the Business Day immediately preceding , 2005. The
right to convert Notes called for redemption will terminate at the close of
business on the Redemption Date and will be lost if not exercised prior to that
time, unless the Company shall default in payment due upon redemption. See
"Optional Redemption" below.
The conversion price will be subject to adjustment in certain events,
including (i) the payment in shares of Common Stock of a dividend or other
distribution on outstanding Common Stock; (ii) the subdivision, combination or
reclassification of the outstanding Common Stock; (iii) the issuance to all
holders of Common Stock of rights, options or warrants entitling them to
subscribe for or purchase Common Stock (or securities convertible or
exchangeable into Common Stock) at less than the current market price per share
(as defined); (iv) the distribution to all holders of Common Stock of shares of
any class of capital stock (other than Common Stock) of the Company, evidences
of indebtedness of the Company, or assets (including cash or securities, but
excluding those dividends and distributions referred to above and dividends and
distributions paid in cash out of the retained earnings of the Company) or
rights, options or warrants to subscribe for or purchase securities of the
Company (excluding the rights, options or warrants referred to in (iii) above);
(v) a distribution of cash to all holders of Common Stock in an aggregate amount
that, together with (A) all other
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<PAGE> 53
cash distributions made within the 12 months preceding such distribution in
respect of which no adjustment of the conversion price has been made and (B) any
cash and the fair market value of other consideration payable in respect of any
tender offer by the Company or a Subsidiary for the Common Stock consummated
within the 12 months preceding such distribution in respect of which no
adjustment of the conversion price has been made, exceeds 12.5% of the Company's
market capitalization (being the product of the current market price per share
times the number of shares of Common Stock then outstanding) on the date fixed
for determining the stockholders entitled to such distribution; (vi) the
consummation of a tender offer made by the Company or any Subsidiary for Common
Stock which involves an aggregate consideration that, together with (X) any cash
and other consideration payable in respect of any tender offer by the Company or
a Subsidiary for the Common Stock consummated within the 12 months preceding the
consummation of such tender offer in respect of which no adjustment to the
conversion price has been made and (Y) the aggregate amount of all cash
distributions to all holders of the Common Stock within the 12 months preceding
the consummation of such tender offer in respect of which no adjustment of the
conversion price has been made, exceeds 12.5% of the Company's market
capitalization (as defined above) as of the last time tenders could have been
made pursuant to such tender offer; and (vii) the issuance of Common Stock to an
Affiliate for a net consideration per share less than the current market price
per share (other than issuances of Common Stock under certain employee benefit
plans).
In the Indenture, the "current market price" per share of Common Stock on
any date shall be deemed to be the average of the Daily Market Prices (as
defined) for the shorter of (i) 30 consecutive business days ending on the last
full trading day on the exchange or market referred to in determining such Daily
Market Prices prior to the time of determination (as defined) or (ii) the period
commencing on the date next succeeding the first public announcement of such
issuance of rights, options or warrants, such distribution or such tender offer,
as the case may be, through such last full trading day prior to the time of
determination.
The Company will be permitted to make such reductions in the conversion
price as it, in its discretion, determines to be advisable in order that any
stock dividend, subdivision of shares, distribution of rights, options or
warrants to purchase stock or securities or distribution of securities
convertible into or exchangeable for stock made by the Company to its
stockholders will not be taxable to the recipients. In addition, the Company
may, from time to time, reduce the conversion price for other reasons, provided
such reduction is irrevocable for a period of at least 20 days.
No adjustment of the conversion price will be required to be made unless
such adjustment would require an increase or decrease of at least 1% or more of
the conversion price as last adjusted, but any adjustments which by reason of
the foregoing are not required to be made will be carried forward and taken into
account in any subsequent adjustment.
Except as described above, the conversion price will not be adjusted for
the issuance of Common Stock, or any securities convertible into or exchangeable
for Common Stock or carrying the right to purchase any of the foregoing, in
exchange for cash, property or services.
Subject to any applicable right of the holders to cause the Company to
purchase their Notes upon a Change of Control (as defined below), in the case of
certain consolidations or mergers with another corporation to which the Company
is a party, or the conveyance, transfer, sale or lease of the Company's
properties and assets as, or substantially as, an entirety, there will be no
adjustment to the conversion price, but each Holder of a Note will have the
right, at such Holder's option, to convert such Note during the period such Note
is convertible, into the kind and amount of securities, cash or other property
receivable upon such consolidation, merger, conveyance, transfer, sale or lease,
by a holder of the number of shares of Common Stock into which such Note might
have been converted immediately prior to such consolidation, merger, conveyance,
transfer, sale or lease (assuming such holder of Common Stock is not a Person or
an Affiliate of such a Person with which the Company consolidated or merged or
to which such conveyance, transfer, sale or lease was made, and did not exercise
any rights of election and received per share the kind and amount of
consideration received per share by holders of a plurality of non-electing
shares of Common Stock). In the case of a cash merger of the Company into
another corporation or any other cash transaction of the type mentioned above,
the effect of these provisions would be that thereafter the Notes would be
convertible at the
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<PAGE> 54
conversion price in effect at such time into the same amount of cash per share
into which the Notes would have been convertible had the Notes been converted
into Common Stock immediately prior to the effective date of such cash merger or
transaction. Depending upon the terms of such cash merger or transaction, the
aggregate amount of cash into which the Notes would be converted could be more
or less than the principal amount of the Notes.
Notes surrendered for conversion during the period from the close of
business on any Regular Record Date through and including the next succeeding
Interest Payment Date (except any such Notes called for redemption on a
Redemption Date that occurs during such period), must be accompanied by payment
in next day funds of an amount equal to the interest thereon which the
registered Holder on such Regular Record Date is to receive. Subject to the
foregoing, no payments or adjustments will be made upon conversion on account of
accrued interest on the Notes or for any dividends or distributions on any
shares of Common Stock delivered upon such conversion. Fractional shares of
Common Stock are not to be issued upon conversion, but, in lieu thereof, the
Company will pay a cash adjustment based upon market price.
SUBORDINATION
The payment of the principal of and premium, if any, and interest on the
Notes will, to the extent set forth in the Indenture, be subordinated in right
of payment to the prior payment in full of all Senior Indebtedness (as defined
below). Upon any payment or distribution of assets or securities of the Company,
of any kind or character, in connection with any liquidation, dissolution,
winding up, reorganization, assignment for the benefit of creditors, marshalling
of assets or any bankruptcy, insolvency or similar proceedings of the Company,
all amounts due or to become due upon all Senior Indebtedness shall first be
paid in full, in cash or cash equivalents, before the Holders, or the Trustee on
their behalf, will be entitled to receive any payment in respect to the
principal of or premium, if any, or interest on the Notes (other than a payment
or distribution consisting solely of equity securities or debt or other
securities which are subordinated to Senior Indebtedness to the same extent as
the Notes or which rank junior to the Notes).
No payment on account of principal of or premium, if any, or interest on
the Notes may be made at any time when there is a continuing default in any
payment of principal of or premium, if any, or interest on any Senior
Indebtedness, or any other default on Senior Indebtedness occurs and the
maturity of such Senior Indebtedness is accelerated in accordance with its
terms, unless, in either case, such default shall have been cured or waived or
the benefits of this sentence shall have been waived or such Senior Indebtedness
shall have been repaid in full in cash or cash equivalents. In addition, no
payment on account of principal of or premium, if any, or interest on the Notes
may be made at any time if there shall have occurred and be continuing any event
of default (other than a default referred to in the immediately preceding
sentence) with respect to any Designated Senior Indebtedness (as defined below),
which default would permit immediate acceleration thereof, for the period (a
"Payment Blockage Period") commencing on the date of receipt of notice of such
default by the Trustee from the trustee or other authorized representative for
the holders of such Designated Senior Indebtedness (or the holders of at least a
majority in principal amount thereof) and ending on the earlier of (i) the date
such event of default has been cured or waived or the benefits of this sentence
have been waived, or such Designated Senior Indebtedness has been repaid in full
in cash or cash equivalents and (ii) the date 179 days after receipt of such
notice. Not more than one Payment Blockage Period may be commenced with respect
to the Notes during any period of 360 consecutive days. Notwithstanding anything
in the Indenture to the contrary, there must be 181 consecutive days in any
360-day period in which no Payment Blockage Period is in effect. No event of
default that was, or that reasonably should have been, known to exist or be
continuing on the date of commencement of any Payment Blockage Period with
respect to the Designated Senior Indebtedness initiating such Payment Blockage
Period shall be, or shall be made, the basis for the commencement of a second
Payment Blockage Period by the representative for, or the holders of, such
Designated Senior Indebtedness, whether or not within a period of 360
consecutive days, unless such event of default shall have been cured or waived
for a period of not less than 90 consecutive days.
By reason of such subordination, in the event of insolvency of the Company,
Holders of the Notes may recover less, ratably, than other creditors of the
Company, including holders of Senior Indebtedness.
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<PAGE> 55
"Senior Indebtedness" is defined as (a) the principal of, premium, if any,
and accrued and unpaid interest on (i) indebtedness, obligations or other
liabilities of the Company for borrowed money, whether outstanding on the date
of execution of the Indenture or thereafter created, incurred or assumed; (ii)
guarantees, directly or indirectly, by the Company of indebtedness for borrowed
money of any other person, or reimbursement obligations under letters of credit,
in either case, whether outstanding on the date of execution of the Indenture or
thereafter created, incurred or assumed; (iii) indebtedness evidenced by notes
(other than Notes), debentures, bonds or other instruments of indebtedness for
the payment of which the Company is responsible or liable, by guarantee or
otherwise, whether outstanding on the date of execution of the Indenture or
thereafter created, incurred or assumed; (iv) obligations of the Company under
interest rate and currency swaps, caps, floors, collars or similar agreements or
arrangements intended to protect the Company against fluctuations in interest or
currency rates, whether outstanding on the date of execution of the Indenture or
thereafter created, incurred or assumed; and (v) obligations of the Company
under any agreement to lease, or any lease of, any real or personal property,
which obligations, whether outstanding on the date of execution of the Indenture
or thereafter created, incurred or assumed, are required to be capitalized on
the books of the Company in accordance with GAAP, or guarantees by the Company
of similar obligations of others, and (b) modifications, renewals, extensions
and refundings of any such indebtedness, obligations or guarantees; unless, in
the instrument creating or evidencing the same or pursuant to which the same is
outstanding, it is provided that such indebtedness, obligation or guarantee, or
such modification, renewal, extension or refunding thereof, is (i) not superior
in right of payment to the Notes or (ii) pari passu or junior in right of
payment to the Notes; provided, however, that Senior Indebtedness shall not
include (x) indebtedness to a Subsidiary or other Affiliate of the Company, (y)
any accounts payable or other liability to trade creditors arising in the
ordinary course of business (including guarantees thereof or installments
evidencing such liabilities) or (z) any obligations with respect to any capital
stock.
"Designated Senior Indebtedness" is defined as (a) the $35,000,000 Credit
Agreement between the Company, the banks named as signatories thereto and NBD
Bank, N.A., as agent (referred to elsewhere in this Prospectus as the Revolving
Credit Facility), as such Credit Agreement may be amended or modified from time
to time, and (b) any other Senior Indebtedness that, at any date of
determination, has an aggregate principal amount of at least $20 million and is
specifically designated by the Company in the instrument evidencing such Senior
Indebtedness as "Designated Senior Indebtedness."
As of September 30, 1994, after giving effect to this Offering and
application of the net proceeds therefrom, approximately $12 million of Senior
Indebtedness would have been outstanding. The actual amount of Senior
Indebtedness at such date was $29 million. The Company expects from time to time
to incur additional indebtedness constituting Senior Indebtedness. The Indenture
does not prohibit or limit the incurring of additional Senior Indebtedness (or
any other indebtedness) by the Company or the incurring of indebtedness by its
subsidiaries.
All of the Company's operations are conducted through subsidiaries, which
are separate and distinct legal entities and have no obligation, contingent or
otherwise, to pay any amounts due pursuant to the Notes or to make any funds
available therefor, whether by dividends, loans or other payments. The Notes
will be effectively subordinated to all indebtedness and other liabilities and
commitments of the Company's subsidiaries. Any right of the Company, and hence
the right of creditors of the Company (including the holders of Notes), to
participate in any distribution of assets of any subsidiary upon its liquidation
or reorganization or otherwise is necessarily subject to the prior claims of
creditors, which may include policyholders, of any subsidiary with respect to
the assets of such subsidiary, except to the extent that claims of the Company
itself as a creditor of the subsidiary may be recognized. As of September 30,
1994, total liabilities of the Company's subsidiaries were approximately $420
million.
OPTIONAL REDEMPTION
The Company will not be permitted to redeem the Notes prior to
, 1998. Thereafter, the Notes will be redeemable at the Company's
option, as a whole or from time to time in part, upon not less than 15 nor more
than 60 days' notice mailed to each Holder of Notes to be redeemed, at the
Holder's address appearing in the Note Register, on any date prior to maturity
at the following Redemption Prices (expressed
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<PAGE> 56
as percentages of principal amount) if redeemed during the 12-month period
beginning of each year indicated below, plus accrued interest to
the Redemption Date:
<TABLE>
<CAPTION>
YEAR PERCENTAGE
--------------------- ----------
<S> <C>
1998................. %
1999................. %
2000................. %
2001................. %
<CAPTION>
YEAR PERCENTAGE
--------------------- ----------
<S> <C>
2002................. %
2003................. %
2004 and
thereafter......... 100%
</TABLE>
If less than all the Notes then outstanding are to be redeemed, the Trustee
will select those to be redeemed as a whole or in part by such method as the
Trustee shall deem fair and appropriate and in accordance with methods generally
used at the time of selection by fiduciaries in similar circumstances.
No sinking fund is provided for the Notes.
CONSOLIDATION, MERGER AND SALE OF ASSETS
The Company may, without the consent of any Holders of Notes, consolidate
or merge with or into, or convey, transfer or lease all or substantially all of
its properties and assets to, any Person, and any other Person may consolidate
or merge with or into, or convey, transfer or lease all or substantially all of
its properties and assets to, the Company; provided, that (a) the Person (if
other than the Company) formed by such consolidation or into which the Company
is merged or the Person which acquires by conveyance or transfer or which leases
all or substantially all of the properties and assets of the Company is a
corporation which is organized and validly existing under the laws of any United
States jurisdiction and expressly assumes, by a supplemental indenture executed
and delivered to the Trustee, the Company's obligations in respect of the Notes
and under the Indenture, (b) after giving effect to such transaction, no Event
of Default, and no event which, after notice or lapse of time or both, would
become an Event of Default, shall have occurred and be continuing, and (c) such
consolidation, merger, conveyance, transfer or lease complies with the Indenture
and all conditions precedent provided for in the Indenture relating to such
transaction have been complied with. Notwithstanding the foregoing, in the event
that such transaction constitutes a Change of Control, the Company may be
obligated to purchase all or a portion of a Holder's Notes.
RIGHTS TO REQUIRE REPURCHASE OF NOTES UPON CHANGE OF CONTROL
In the event of any Change of Control (as defined below) of the Company
which constitutes a Repurchase Event (as defined below) occurring after the date
of issuance of the Notes and on or prior to Maturity, each Holder of Notes will
have the right, at the Holder's option, to require the Company to repurchase all
(or any portion with a principal amount equal to $1,000 or an integral multiple
thereof) of the Holder's Notes on or promptly following the date (the
"Repurchase Date") that is 45 days after the date the Company gives notice of
the Repurchase Event as described below at a price (the "Repurchase Price")
equal to 100% of the principal amount thereof, together with accrued and unpaid
interest to the Repurchase Date. On or prior to the Repurchase Date, the Company
shall deposit with the Trustee or a Paying Agent an amount of money sufficient
to pay the Repurchase Price of the Notes which are to be repaid.
Promptly, but in any event within 30 days following any Change in Control,
the Company is required, with respect to any Senior Indebtedness that would
prohibit the repurchase of Notes by the Company in the event of a Change in
Control, to either (i) repay all such Senior Indebtedness in full or (ii) obtain
the requisite consents under such Senior Indebtedness to permit the repurchase
of the Notes as provided in the Indenture. Notwithstanding the foregoing,
failure by the Company to repurchase the Notes when required under the preceding
paragraph will result in an Event of Default under the Indenture whether or not
such repurchase is permitted by the subordination provisions of the Indenture.
On or before the 20th day after the occurrence of a Repurchase Event, the
Company is obligated to mail to all Holders of Notes a notice of the occurrence
of such Repurchase Event, the Repurchase Date, the date by which the repurchase
right must be exercised, the Repurchase Price for Notes, the procedures which
the Holder must follow to exercise this right and information with respect to
the conversion of the Notes. To
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<PAGE> 57
exercise the repurchase right, the Holder of a Note must deliver, on or before
the close of business on the second Business Day immediately preceding the
Repurchase Date, written notice to the Trustee of the Holder's exercise of such
right, together with the certificates evidencing the Notes with respect to which
the right is being exercised, duly endorsed for transfer.
A "Change of Control" is defined as any of the following: (i) the sale,
lease, conveyance or other disposition of all or substantially all of the
Company's assets as an entirety or substantially as an entirety to any person
(as defined in Section 13(d)(3) of the Exchange Act) in one or a series of
transactions; (ii) any consolidation or merger of the Company in which the
Company is not the continuing or surviving corporation (other than a
consolidation or merger with a wholly owned subsidiary of the Company in which
all shares of Common Stock outstanding immediately prior to the effectiveness
thereof are converted into or exchanged for the same consideration) or pursuant
to which the Common Stock would be converted into or exchanged for cash,
securities or other property, in each case, other than a consolidation or merger
in which the holders of Common Stock immediately prior to the consolidation or
merger have, directly or indirectly, at least a majority of common stock of the
continuing or surviving corporation immediately after the consolidation or
merger; (iii) any transaction or series of transactions (as a result of a tender
offer, merger, consolidation or otherwise) that results in any person (as
defined in Section 13(d)(3) of the Exchange Act) (A) acquiring "beneficial
ownership" (as defined in Rule 13d-3 under the Exchange Act), directly or
indirectly, of 50% or more of the aggregate total voting rights attaching to the
then outstanding voting capital stock of the Company or (B) having the right or
ability by voting right, contract or otherwise to elect or designate for
election a majority of the entire Board of Directors; or (iv) individuals who at
the beginning of any period of two consecutive calendar years constituted the
Board of Directors (together with any new directors whose election to the Board
of Directors or whose nomination for election by the Company's stockholders was
approved by a vote of at least a majority of the members of the Board of
Directors at the beginning of such period or whose election or nomination for
election was previously so approved) cease for any reason to constitute a
majority of the members of the Board of Directors then in office.
In determining whether a sale, lease, conveyance or other disposition of
all or substantially all of the Company's assets as an entirety or substantially
as an entirety involves a Change of Control of the Company within the meaning of
the Indenture, several considerations may be relevant, including the percentage
of the Company's assets being disposed of, the percentage of the Company's
revenues and income generated by such assets and the effect of such disposition
on the Company's remaining operations.
A Change of Control as described above shall constitute a "Repurchase
Event" unless (i) the daily closing price of the Common Stock for any five
trading days during the ten trading days immediately preceding the Change of
Control is at least equal to 105% of the conversion price of the Notes in effect
immediately preceding the time of such Change of Control, or (ii) the
consideration in the transaction, if applicable, giving rise to such Change of
Control to the holders of Common Stock consists of cash, securities that are, or
immediately upon issuance will be, listed on a national securities exchange or
quoted on the Nasdaq National Market, or a combination of cash and such
securities, and the aggregate fair market value of such consideration (which, in
the case of such securities, shall be equal to the average of the daily closing
prices of such securities during the ten consecutive trading days commencing
with the sixth trading day following consummation of such transaction) is at
least 105% of the conversion price of the Notes in effect on the date
immediately preceding the closing date of such transaction.
The right to require the Company to repurchase Notes as a result of the
occurrence of a Repurchase Event could create an event of default under Senior
Indebtedness as a result of which any repurchase could, absent a waiver, be
prohibited by the subordination provisions of the Notes. See "Subordination"
above.
If a Repurchase Event were to occur, no assurance can be given that the
Company would have sufficient funds to repurchase all Notes tendered by the
Holders thereof or to make any principal (and premium, if any) or interest
payment otherwise required by the Notes.
The Company will comply with any tender offer rules under the Exchange Act
which may then be applicable, including Rule 14e-1, or any other applicable laws
or regulations in connection with any offer required to be made by the Company
to repurchase the Notes as a result of a Change of Control. In the event
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<PAGE> 58
of any conflict between such tender offer rules or other applicable laws or
regulations and the Change of Control provisions, such rule or other laws or
regulations shall control.
EVENTS OF DEFAULT
The following will be Events of Default under the Indenture: (i) failure to
pay principal of, or premium, if any, on any Note when due, whether upon
maturity, redemption, repurchase or otherwise; (ii) failure to pay any interest
on any Note when due, and the continuance of any such failure for 30 days; (iii)
failure to perform or breach of any other covenant or warranty of the Company in
the Indenture, continued for 60 days after written notice of such failure has
been given to the Company by the Trustee or by the Holders of at least 25% of
the aggregate principal amount of the Notes then outstanding; (iv) failure to
pay when due the principal of, or the acceleration of, any indebtedness for
money borrowed of the Company or any Material Subsidiary in excess of $5
million, if such indebtedness is not discharged, or such acceleration is not
rescinded or annulled or cured, within 30 days after written notice as provided
in the Indenture; and (v) certain involuntary or voluntary events of bankruptcy,
insolvency or reorganization involving the Company or any Material Subsidiary.
If an Event of Default shall occur and be continuing (other than in respect
of certain events of bankruptcy, insolvency or reorganization of the Company or
any Material Subsidiary), either the Trustee or the Holders of at least 25% in
aggregate principal amount of the outstanding Notes may accelerate the maturity
of all Notes; provided, however, that after such acceleration, but before a
judgment or decree based on acceleration, the Holders of a majority in aggregate
principal amount of outstanding Notes may, under certain circumstances, rescind
and annul such acceleration if all Events of Default (other than the non-payment
of accelerated principal, premium, if any, and interest) have been cured or
waived as provided in the Indenture. If an Event of Default occurs in respect of
certain events of bankruptcy, insolvency or reorganization of the Company or any
Material Subsidiary, then the principal of and accrued interest on all Notes
shall become immediately due and payable without any declaration or other act on
the part of the Trustee or Holders of the Notes.
The Company will be required to furnish to the Trustee annually a statement
as to the performance by the Company of certain of its obligations under the
Indenture and as to any default in such performance.
Subject to the provisions of the Indenture relating to the duties of the
Trustee in case an Event of Default (as defined) shall occur and be continuing,
the Trustee will be under no obligation to exercise any of its rights or powers
under the Indenture at the request or direction of any of the Holders, unless
such Holders shall have offered to the Trustee reasonable security or indemnity
against the costs, expenses and liabilities which might be incurred by it in
compliance with such request or direction. Subject to such provisions for the
indemnification of the Trustee, the Holders of a majority in aggregate principal
amount of the outstanding Notes will have the right to direct the time, method
and place of conducting any proceeding for any remedy available to the Trustee
or exercising any trust or power conferred on the Trustee. However, such
limitations do not apply to a suit instituted by a Holder of a Note for the
enforcement of payment of the principal of and premium, if any, or interest on
such Note on or after the respective due dates expressed in such Note or of the
right to convert such Note in accordance with the Indenture.
MODIFICATION AND WAIVER
The Indenture may be amended or modified, without the consent of any
Holders, by the Company and the Trustee to: (i) evidence the succession of
another Person to the Company and the assumption by any such successor of the
covenants of the Company in the Indenture or the Notes; (ii) to add to the
covenants of the Company for the benefit of the Holders, or to surrender any
right or power conferred upon the Company in the Indenture; (iii) to secure the
Notes; (iv) to make provision with respect to certain conversion rights of
Holders pursuant to the Indenture; or (v) to cure any defect or ambiguity, to
correct or supplement any provision which may be inconsistent with any other
provision, or to make or amend any other provisions with respect to matters or
questions arising under the Indenture which shall not be inconsistent with the
provisions of the Indenture; provided, that such action pursuant to this clause
shall not adversely affect the interests of
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<PAGE> 59
the Holders in any material respect. Modifications and amendments of the
Indenture other than those described above may be made by the Company and the
Trustee with the consent of the Holders of a majority in aggregate principal
amount of the outstanding Notes; provided, however, that no such modification or
amendment may, without the consent of the Holder of each outstanding Note
affected thereby, (a) change the Stated Maturity of the principal of, or any
installment of interest on, any Note; (b) reduce the principal amount of, the
premium or interest on, any Note; (c) change the place or currency of payment of
principal of, or premium or interest on, any Note; (d) impair the right to
institute suit for the enforcement of any payment on or with respect to any
Note; (e) adversely affect the right to convert Notes; (f) reduce the
above-stated percentage of outstanding Notes necessary to modify or amend the
Indenture; or (g) reduce the percentage of aggregate principal amount of
outstanding Notes necessary for waiver of compliance with certain provisions of
the Indenture or for waiver of certain defaults. The Holders of a majority in
aggregate principal amount of the outstanding Notes may waive any past default
under the Indenture, except a default in the payment of principal, premium or
interest on any Note, or in respect of a provision which under the Indenture
cannot be modified or amended without the consent of the Holder of each
outstanding Note affected.
CONCERNING THE TRUSTEE
will be the Trustee under the Indenture and is also .
GOVERNING LAW
The Indenture provides that it and the Notes will be governed by, and
construed in accordance with, the laws of the State of New York without giving
effect to applicable principles of conflicts of law to the extent that the
application of the law of another jurisdiction would be required thereby.
DESCRIPTION OF CAPITAL STOCK
GENERAL
The authorized capital stock of the Company consists of 20,000,000 shares
of Common Stock, par value $.40 per share, and 5,000,000 shares of Preferred
Stock without par value, issuable in series. As of February 22, 1995, after
exercise of the Warrants, 15,129,227 shares of Common Stock were outstanding
excluding 382,107 shares of Common Stock reserved for issuance pursuant to the
exercise of options currently outstanding or available for grant under the
Company's employee stock plans and certain warrants issued in 1992 in connection
with certain bridge financing. No shares of the Company's Preferred Stock are
outstanding.
COMMON STOCK
Holders of Common Stock are entitled to one vote per share on all matters
to be voted upon by shareholders. There is no cumulative voting for the election
of directors. Subject to limitations contained in any loan agreements and any
prior rights hereafter created in holders of any Preferred Stock then
outstanding, holders of Common Stock are entitled to receive such dividends as
are declared by the Board of Directors out of funds legally available therefor.
The Company's agreement with the banks under its Revolving Credit Facility
currently prohibits the payment of cash dividends on its Common Stock. In the
event of liquidation, dissolution or winding up of the Company, the holders of
Common Stock are entitled to share ratably in any assets remaining after payment
of liabilities and subject to any prior rights hereafter created in holders of
any Preferred Stock then outstanding. Holders of the Company's Common Stock do
not have preemptive or other subscription rights. Shares of Common Stock
currently outstanding are validly issued, fully paid and nonassessable.
Keycorp Shareholder Services, Inc. ("Keycorp"), is the transfer agent and
registrar for the Company's Common Stock. The Company's Common Stock is traded
on the New York Stock Exchange under the symbol AIF.
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<PAGE> 60
PREFERRED STOCK
The Company's Board of Directors is authorized by the Company's Certificate
of Incorporation to issue one or more series of Preferred Stock, without nominal
or par value, and to establish the terms of any series of Preferred Stock,
including, among other things, (i) the number of shares in the series of
Preferred Stock being issued and the designation of stated value; (ii) the
frequency and rate of dividends, if any, whether such dividends are to be
cumulative and the relative rights of priority; (iii) whether the shares are to
be redeemable and, if so, the terms and conditions and the amount of any sinking
fund providing for the purchase or redemption of such shares; (iv) whether the
shares will be convertible and, if so, the terms and provisions thereof; (v) the
voting rights, if any, that are to apply; and (vi) the rights of the series in
the event of liquidation, dissolution or winding up and the relative rights of
priority of payment of that series. Currently, no series of Preferred Stock has
been designated or issued by the Company's Board of Directors.
CERTAIN DELAWARE LAW PROVISIONS
The Company is subject to the provisions of Section 203 of the General
Corporation Law of the State of Delaware. Section 203 prohibits a publicly-held
Delaware corporation from engaging in a "business combination" with an
"interested stockholder" for a period of three years after the date of the
transaction in which the person became an interested stockholder, unless the
business combination is approved in a prescribed manner. A "business
combination" includes mergers, asset sales, stock sales and other transactions
resulting in a disproportionate financial benefit to the interested stockholder.
Subject to certain exceptions, an "interested stockholder" is a person who,
together with affiliates and associates, owns, or within three years did own,
15% of the corporation's outstanding voting stock.
CERTAIN FEDERAL INCOME TAX CONSEQUENCES
The following is a general discussion of the material federal income tax
consequences relevant to the purchase, ownership and disposition of the Notes
described in this Prospectus. This summary is based on current provisions of the
Internal Revenue Code of 1986, as amended (the "Code"), applicable Treasury
regulations, judicial authority and administrative rulings and practice. There
can be no assurance that the IRS will not take a contrary view, and no ruling
from the IRS has been or will be sought. Legislative, judicial or administrative
changes or interpretations may be forthcoming that could alter or modify the
statements and conclusions set forth herein. Any such changes or interpretations
may or may not be retroactive and could affect the income tax consequences to
Holders. Purchasers of the Notes should consult their own tax advisors with
respect to the consequences of holding or disposing of the Notes, including the
applicability of any state, local or foreign tax laws.
This discussion is limited to investors (Holders) who hold the Notes as
capital assets within the meaning of Section 1221 of the Code. Furthermore, this
discussion does not include all of the income tax consequences which may be
relevant to certain types of investors who are subject to special treatment
under the Code, such as individual retirement accounts (IRAs) and other
tax-deferred accounts, dealers in securities, life insurance companies,
depository institutions, tax exempt organizations and foreign persons.
INTEREST ON NOTES
The semi-annual interest paid on the Notes will be taxable to a Holder as
ordinary interest income in accordance with the Holder's method of tax
accounting at the time that such interest is accrued or either actually or
constructively received.
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<PAGE> 61
PREMIUM, OR ORIGINAL ISSUE DISCOUNT OR MARKET DISCOUNT
A Holder of a Note which has been purchased at a premium (i.e. cost greater
than its principal or face amount), excluding any amount attributable to the
conversion privilege, may amortize such premium as an offset of Interest Income.
Special rules apply which may require the amount of the premium and the
amortization thereof to be determined with reference to the optional redemption
price and date.
To the extent the Notes are originally issued at a discount from their
principal amount to be paid at maturity, they will be issued with Original Issue
Discount (OID). For Federal income tax purposes, the difference between the
Issue Price (the initial offering price to the public at which a substantial
amount of the Notes are to be sold) and the principal amount at maturity of each
Note constitutes OID. Holders of the Notes will be required to include OID in
taxable income periodically over the term of the Notes before receipt of the
cash attributable to such income.
For Federal income tax purposes, a Holder of a Note must include in gross
income the sum of the daily portions of OID with respect to the Note for each
day during the taxable year or a portion of a taxable year on which such Holder
holds the Note ("Accrued OID"). The daily portion is determined by allocating to
each day of the accrual period a pro rata portion of an amount equal to this
adjusted Issue Price of the Note at the beginning of the accrual period
multiplied by the yield to maturity of the Note (determined by compounding at
the close of each accrual period and adjusted for the length of the accrual
period). The accrual period will be each abc-month period (or shorter period
from the date of original issue) which ends on the day in each calendar year
corresponding to the maturity date of the Note or the date six months before
such maturity date. The adjusted Issue Price of the Note at the start of any
accrual period is the Issue Price of the Note increased by the accrued OID for
each prior accrual period. Under these rules, Holders will have to include in
gross income increasingly greater amounts of OID in each successive accrual
period.
If the amount of OID is considered de minimis the Holder will include such
OID in taxable income only upon the collection of premium payments. Any taxable
income realized from such de minimis OID will be recognized as capital gain
income by the Holder. De Minimis OID exits if total OID is less than one quarter
of one percent (.25%) of the issue price of the Note multiplied by the number of
complete years to maturity.
The Company will be required to furnish annually to the IRS and to certain
noncorporate Holders information regarding the amount of the OID attributable to
that year.
If Notes are purchased after the date of issuance at an amount less than
their principal amount (assuming no OID) or revised Issue Price if issued with
OID, the Notes generally will be considered to bear "market discount" in the
hands of such Holder. In such case, any gain recognized by the Holder on the
sale, exchange, or retirement dispositions of the Notes generally will be
treated as ordinary interest income at the time of such sale, exchange, or
retirement to the extent of the market discount that accrued on the Notes while
held by such Holder and to the extent it has not previously been included in
income. Any non-taxable disposition of a Note with accrued market discount may
result in the carryover of the accrued market discount to property received in
the non-taxable transaction. In addition, the Holder may be required to defer
the deduction of all or a portion of the interest paid on any indebtedness
incurred to purchase or carry the Notes (but such deferral would not be required
if a Holder elected to include accrued market discount in income as it accrued).
Market discount will generally be treated as accruing ratably over the term of
the Notes, or, at the election of the Holder, under a constant yield method.
Management anticipates that premium or OID associated with the offering (if
any) will be minimal.
Conversion of Notes
A Holder of a Note will not recognize gain or loss on the conversion of the
Notes into Shares, except with respect to cash received in lieu of a fractional
Share. Gain or loss recognized on the receipt of cash paid in lieu of such a
fractional Share will be the difference between the amount of cash received and
the amount of tax basis allocable to the fractional Share redeemed. The holding
period of the Shares received by the Holder upon conversion of the Notes will
include the period during which the Notes were held prior to conversion. The
Holder's aggregate tax basis in the Shares received upon conversion of the Notes
will equal the Holder's
59
<PAGE> 62
aggregated tax basis in the Notes exchanged therefor (less any basis allocable
to cash received in lieu of a fractional Share).
If a Note as to which there is accrued market discount not yet recognized
in taxable income is converted to Shares, such accrued discount will carry over
to the Shares (to the extent that such accrued market discount has not been
included in income), and any gain realized upon the subsequent disposition of
such Shares will, to the extent of such accrued market discount, be taxable as
ordinary interest income.
A taxable distribution to shareholders of the Shares which results in an
adjustment of the conversion price of the Notes may, in certain circumstances,
be treated as a deemed distribution to the holders of the Notes. In certain
other circumstances, the absence of such an adjustment may result in a deemed
distribution to the holders of the Shares. Such deemed distributions will be
taxable as a dividend, as a return of capital, or as a capital gain, depending
upon the earnings and profits of the Company. See the discussion below under
Dividends on Shares.
Disposition of Notes or Shares
In general, the Holder of a Note (or the Shares into which it was
converted) will recognize capital gain or loss upon the sale, redemption,
retirement or other disposition of the Notes or Shares which is equal to the
difference between the amount realized (except to the extent attributable to the
payment of accrued interest or to accrued market discount not previously
included in income -- see Premium and Market Discount, above) and the Holder's
tax basis in the Notes Shares. A Holder's tax basis is generally the cost of the
Notes increased by the amount of OID, if any, previously included in taxable
income or any accrued market discount previously taken into income or decreased
by any premium which has been amortized. To determine the basis in the Shares
into which the Notes have been converted, see Conversion of Notes (above) and
Dividends on Shares (below). The gain or loss on such disposition in excess of
any market discount not previously included in the determination of taxable
income, on the Notes or the Shares will be long-term capital gain or loss if the
holding period of the Notes or Shares is more than one year at the time of such
disposition.
Dividends on Shares
Distributions paid to Holders of Shares will constitute dividends for
federal income tax purposes to the extent of the Company's current or
accumulated earnings and profits, as determined under the Code. Such dividends
will be taxable to the Holder under rules generally applicable to distributions
received from United States corporations. Holders that are United States
corporations which receive distributions made from the Company's current or
accumulated earnings and profits may be eligible for a 70% dividends-received
deduction. Individuals, partnerships, trusts, and certain corporations are not
entitled to the dividends-received deduction.
In the event that a Holder receives a distribution on Shares which
otherwise constitutes a dividend under the Code, but the distribution exceeds
the current and accumulated profits of the Company, such distribution will be
treated first as a non-taxable return of capital reducing the Holder's basis in
the Shares. Any distribution in excess of the Holder's basis in the Shares will
be treated as a capital gain.
INFORMATION REPORTING AND BACKUP WITHHOLDING
Backup withholding, at a rate of 31%, generally applies to payments of
interest, dividends, distributions, and proceeds of a sale or exchange of Notes
or Shares if the Holder has not provided an accurate taxpayer identification
number, as well as certain other information, to the payor or has not otherwise
established an exemption from backup withholding in a manner prescribed by the
Code. Corporations are generally exempt from the backup withholding
requirements. Any amount withheld under the backup withholding rules is
allowable as a credit against a Holder's federal income tax, upon furnishing the
required information.
Holders should consult their tax advisors regarding the application of
information and backup withholding in the particular situation and the
availability of an exemption therefrom, and the procedures for obtaining any
such exemption.
60
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UNDERWRITING
Under the terms and subject to the conditions contained in the Underwriting
Agreement, each of Smith Barney Inc., Advest, Inc. and Oppenheimer & Co., Inc.,
has severally agreed to purchase, and the Company has agreed to sell to each
such Underwriter, the principal amount of the Notes set forth opposite the name
of such Underwriter below:
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT OF
UNDERWRITER NOTES
---------------------------------------------------------------- -----------
<S> <C>
Smith Barney Inc................................................
Advest, Inc.....................................................
Oppenheimer & Co., Inc..........................................
-----------
Total................................................. $60,000,000
==========
</TABLE>
The Company has granted an option to the Underwriters, exercisable for 30
days from the date of this Prospectus, to purchase up to an aggregate of
$9,000,000 additional principal amount of the Notes at the public offering price
set forth on the cover page of this Prospectus less underwriting discounts and
commissions. The Underwriters may exercise such option to purchase additional
Notes solely for the purpose of covering over-allotments, if any, incurred in
connection with the sale of the Notes offered hereby. To the extent the
Underwriters exercise this option, each of the Underwriters will become
obligated, subject to certain conditions, to purchase approximately the same
percentage of such additional principal amount of the Notes as the principal
amount set forth next to such Underwriter's name in the preceding table bears to
the total principal amount in such table.
The Underwriters propose to offer part of the Notes directly to the public
at the public offering price set forth on the cover page of this Prospectus, and
part to certain dealers at a price that represents a concession not in excess of
% below the public offering price. The Underwriters may allow, and such
dealers may reallow, a concession not in excess of % to other underwriters or
to certain other dealers. After the initial public offering, the public offering
price and such concessions may be changed by the Underwriters.
The Underwriting Agreement provides that the obligations of the several
Underwriters to pay for and accept delivery of the Notes offered hereby are
subject to the approval of certain legal matters by counsel and to certain other
conditions, including the conditions that no stop order suspending the
effectiveness of the Registration Statement is in effect and no proceedings for
such purpose are pending before or threatened by the Commission.
The Company and the Underwriters have agreed to indemnify each other
against certain liabilities, including liabilities under the Securities Act of
1933, as amended (the "Securities Act"). In addition, it is expected that the
Company will reimburse the Underwriters for part of the fees and expenses of
counsel for the Underwriters.
The Company and all of its directors and executive officers and certain
other shareholders have agreed that for a period of 90 days after the date of
this Prospectus, they will not, without the prior written consent of the
Underwriters, sell, offer to sell, contract to sell or otherwise dispose of any
shares of Common Stock (other than issuances by the Company pursuant to
currently outstanding options and warrants or as a result of conversion of any
Notes) or any securities convertible into or exercisable or exchangeable for any
shares of Common Stock (other than the sale of the Notes by the Company) or
grant options (other than employee stock options or director options) to
purchase any shares of Common Stock.
The Company intends to apply for listing of the Notes on the New York Stock
Exchange. In that connection, Smith Barney Inc., on behalf of the Underwriters,
is expected to confirm that upon completion of this Offering, there will not be
fewer than holders of $ principal amount or more of the Notes.
Prior to this Offering, there has been no public market for the Notes and
there can be no assurance that an active market will develop or continue after
this Offering. Consequently, the initial public offering price and the
conversion prices will be determined through negotiations among the Company and
the Underwriters.
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<PAGE> 64
Among the factors expected to be considered in determining such prices are the
historical trading prices for the Common Stock, the history of, and the
prospects for, the Company's business and the industry in which it competes, an
assessment of the Company's management, its past and present operations, its
past and present earnings and the trend of such earnings, the prospects for
earnings by the Company, the present state of the Company's development, the
general condition of the securities markets at the time of this Offering and the
market price and earnings of similar securities of comparable companies at the
time of this Offering.
Because the Notes are convertible into Common Stock, the prices at which
the Notes trade in the market may be affected by the price of the Common Stock.
The Notes may trade in the public market at prices above, at, or below face
value.
LEGAL MATTERS
Certain legal matters regarding the Notes offered hereby will be passed
upon for the Company by Crosby, Guenzel, Davis, Kessner & Kuester, Lincoln,
Nebraska, and for the Underwriters by LeBoeuf, Lamb, Greene & MacRae, L.L.P.,
New York, New York. Donn E. Davis, a member of the firm of Crosby, Guenzel,
Davis, Kessner & Kuester, holds the office of Secretary of the Company.
EXPERTS
The Company's audited consolidated balance sheets as of December 31, 1993
and 1992, and the related consolidated statements of operations, stockholders'
equity and cash flows for each of the three years ended December 31, 1993, have
been included herein in reliance upon the reports of Deloitte & Touche LLP,
independent accountants, given upon the authority of said firm as experts in
accounting and auditing.
Redland's consolidated balance sheet as of December 31, 1992, and the
related consolidated statements of operations, cash flows and changes in
stockholders' equity for the year then ended, incorporated by reference herein
from the Company's Current Report on Form 8-K, dated July 2, 1993, have been
incorporated herein in reliance on the report of Price Waterhouse LLP,
independent accountants, given on the authority of such firm as experts in
accounting and auditing. Redland's audited consolidated balance sheets as of
December 31, 1991, and the related consolidated statements of operations,
stockholders' equity and cash flows for each of the two years in the period
ended December 31, 1991, incorporated by reference herein from the Company's
Current Report on Form 8-K, dated July 2, 1993, have been incorporated herein in
reliance on the report of Deloitte & Touche LLP, independent accountants, given
on the authority of such firm as experts in accounting and auditing.
AVAILABLE INFORMATION
The Company is subject to the informational requirements of the Exchange
Act, and in accordance therewith files reports, proxy statements and other
information with the Commission. Such reports, proxy statements and other
information may be inspected and copied (at prescribed rates) at the public
reference facilities maintained by the Commission at Room 1024, 450 Fifth
Street, N.W., Washington, D.C. 20549, and at the Commission's regional offices
located at Seven World Trade Center, 13th Floor, New York, New York 10048, and
Northwestern Atrium Center, 500 West Madison Street, Suite 1400, Chicago,
Illinois 60661. Copies of such material may be obtained from the Public
Reference Section of the Commission at 450 Fifth Street, N.W., Washington, D.C.
20549, upon payment of the prescribed fees. The Company's Common Stock is listed
on the NYSE and such reports, proxy statements and other information should also
be available for inspection at the library of the NYSE, located at 20 Broad
Street, New York, New York 10005.
The Company has filed with the Commission in Washington, D.C. a
Registration Statement on Form S-3 (including any amendments thereto, the
"Registration Statement") under the Securities Act for the registration of the
Notes offered hereby. This Prospectus does not contain all of the information
set forth in the Registration Statement and the exhibits thereto, as permitted
by the rules and regulations of the Commission.
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<PAGE> 65
For further information with respect to the Company and the Notes, reference is
made to the Registration Statement and the exhibits filed therewith, copies of
which may be obtained from the Commission as specified above. Statements
contained in this Prospectus as to the contents of any contract or other
document are not necessarily complete, and in each instance, reference is made
to the copy of such contract or document filed as an exhibit to the Registration
Statement, each such statement being qualified in its entirety by such
reference.
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<PAGE> 66
GLOSSARY OF INSURANCE TERMS
Admitted insurer: An insurance company licensed by a state regulatory
authority to transact insurance business in that state. An admitted insurer is
subject to the rules and regulations of each state in which it is licensed
governing virtually all aspects of its insurance operations and financial
condition. A non-admitted insurer, also known as an excess and surplus lines
insurer, is not licensed to transact insurance business in a given state but may
be permitted to write certain business in that state in accordance with the
provisions of excess and surplus lines insurance laws which generally involve
less rate, form and operational regulation.
Basic Coverage: The minimum available level of Multi-Peril Crop Insurance,
providing coverage for 50% of a farmer's historical yield for eligible crops at
60% of the price per bushel for such crop set by the CFSA. This coverage is
offered through private insurers and USDA field offices.
Buy-up Coverage: Multi-Peril Crop Insurance policy providing coverage in
excess of that provided by Basic Coverage. Buy-up Coverage is offered only
through private insurers.
Combined ratio: The sum of the expense ratio and the loss ratio determined
in accordance with GAAP or SAP.
Consolidated Farm Service Agency ("CFSA"): A division of the USDA which
administers and provides reinsurance for the federally-regulated MPCI program,
formerly known as the Federal Crop Insurance Corporation.
Direct written premiums: Total premiums collected in respect of policies
issued by an insurer during a given period without any reduction for premiums
ceded to reinsurers.
Excess and surplus lines insurance: The business of insuring risks for
which insurance is unavailable from admitted insurers in whole or in part. Such
business is placed by the broker or agent with nonadmitted insurers in
accordance with the excess and surplus lines provisions of state insurance laws.
Excess of loss reinsurance: A form of reinsurance whereby the reinsurer,
subject to a specified limit, agrees to indemnify the ceding company for the
amount of each loss, on a defined class of business, that exceeds a specified
retention.
Expense ratio: Under statutory accounting, the ratio of underwriting
expenses to net premiums written. Under GAAP accounting, the ratio of
underwriting expenses to net premiums earned.
Generally Accepted Accounting Principles ("GAAP"): Accounting practices as
set forth in opinions and pronouncements of the Accounting Principles Board of
the American Institute of Certified Public Accountants and statements and
pronouncements of the Financial Accounting Standards Board and which are
applicable in the circumstances as of the date in question.
Gross written premiums: Direct written premiums plus premiums collected in
respect of policies assumed, in whole or in part, from other insurance carriers.
Incurred but not reported ("IBNR") reserves: The liability for future
payments on losses which have already occurred but have not yet been reported to
the insurer. IBNR reserves include LAE (as hereinafter defined) related to such
losses and may also provide for future adverse loss development on reported
claims.
Insurance Regulatory Information System ("IRIS"): A system of ratio
analysis developed by the NAIC primarily intended to assist state insurance
departments in executing their statutory mandates to oversee the financial
condition of insurance companies.
Loss adjustment expenses ("LAE"): Expenses incurred in the settlement of
claims, including outside adjustment expenses, legal fees and internal
administrative costs associated with the claims adjustment process, but not
including general overhead expenses.
Loss ratio: The ratio of losses and LAE incurred to premiums earned.
Loss reserves: Liabilities established by insurers to reflect the ultimate
estimated cost of claim payments as of a given date.
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<PAGE> 67
MPCI Imputed Premium: For purposes of the profit/loss sharing arrangement
with the federal government, the amount of premiums credited to the Company for
all Basic Coverages it sells, as such amount is determined by formula.
MPCI Premium: For purposes of the profit/loss sharing arrangement with the
federal government, the amount of premiums credited to the Company for all
Buy-up Coverages paid by farmers, plus the amount of any related federal premium
subsidies.
MPCI Retention: The aggregate amount of MPCI Premium and MPCI Imputed
Premium on which the Company retains risk after allocating farms to the three
federal reinsurance pools.
Multi-Peril Crop Insurance ("MPCI"): A federally-regulated and subsidized
crop insurance program that insures a producer of crops with varying levels of
protection against substantially all natural perils to growing crops.
NAIC: The National Association of Insurance Commissioners.
Net earned premiums: The portion of net written premiums applicable to the
expired period of policies and, accordingly, recognized as income during a given
period.
Net written premiums: Total premiums for insurance written (less any return
premiums) during a given period, reduced by premiums ceded in respect of
liability reinsured by other carriers.
Policyholders' or Statutory surplus: As determined under SAP (hereinafter
defined), the excess of total admitted assets over total liabilities.
Quota share reinsurance: A form of reinsurance whereby the reinsurer agrees
to indemnify the cedent for a stated percentage of each loss, subject to a
specified limit the cedent pays, on a defined class of business.
Reinsurance: The practice whereby a company called the "reinsurer" assumes,
for a share of the premium, all or part of a risk originally undertaken by
another insurer called the "ceding" company or "cedent." Reinsurance may be
affected by "treaty" reinsurance, where a standing agreement between the ceding
and reinsuring companies automatically covers all risks of a defined category,
amount and type, or by "facultative" reinsurance where reinsurance is negotiated
and accepted on a risk-by-risk basis.
Retention: The amount of liability, premiums or losses which an insurance
company keeps for its own account after application of reinsurance.
Stop loss reinsurance: A form of reinsurance, similar to Excess of Loss
Reinsurance, whereby the primary insurer caps its loss on a particular risk by
purchasing reinsurance in excess of such cap.
Statutory Accounting Principles ("SAP"): Accounting practices which consist
of recording transactions and preparing financial statements in accordance with
the rules and procedures prescribed or permitted by state regulatory
authorities. Statutory accounting emphasizes solvency rather than matching
revenues and expenses during an accounting period.
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<PAGE> 68
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Audited Consolidated Financial Statements for the Years Ended December 31, 1993 and
December 31, 1992:
Independent Auditors' Report........................................................ F-2
Consolidated Balance Sheets......................................................... F-3
Consolidated Statements of Operations............................................... F-4
Consolidated Statement of Stockholders' Equity...................................... F-5
Consolidated Statements of Cash Flows............................................... F-6
Notes to Consolidated Financial Statements.......................................... F-7
Interim Consolidated Financial Statements for the Three Months and Nine Months Ended
September 30, 1994 and September 30, 1993 (unaudited):
Interim Consolidated Balance Sheets................................................. F-20
Interim Consolidated Statements of Operations....................................... F-21
Interim Consolidated Statements of Cash Flows....................................... F-22
Notes to Interim Consolidated Financial Statements.................................. F-23
</TABLE>
F-1
<PAGE> 69
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders
of Acceptance Insurance Companies Inc.
We have audited the accompanying consolidated balance sheets of Acceptance
Insurance Companies Inc. and its subsidiaries as of December 31, 1993 and 1992,
and the related consolidated statements of operations, stockholders' equity and
cash flows for each of the three years in the period ended December 31, 1993.
These consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements 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, such consolidated financial statements present fairly, in
all material respects, the financial position of Acceptance Insurance Companies
Inc. and subsidiaries as of December 31, 1993 and 1992, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1993, in conformity with generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, in 1993
the Company adopted Statement of Financial Accounting Standards No. 113,
Accounting and Reporting of Reinsurance for Short-Duration and Long-Duration
Contracts.
DELOITTE & TOUCHE LLP
March 28, 1994
F-2
<PAGE> 70
ACCEPTANCE INSURANCE COMPANIES INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1993 1992
-------- --------
<S> <C> <C>
ASSETS
Investments (Note 4):
Fixed maturities held for investment.................................. $ 51,756 $ 71,248
Fixed maturities available for sale................................... 95,836 33,743
Marketable equity securities.......................................... 13,872 3,275
Mortgage loans and other investments.................................. 2,852 3,391
Real estate........................................................... 4,266 4,998
Short-term investments, at cost, which approximates market............ 19,404 7,656
-------- --------
187,986 124,311
Cash.................................................................... 2,894 5,042
Receivables, net (Note 5)............................................... 48,166 26,526
Equity investment in Major Realty Corporation (Note 6).................. 5,376 5,677
Property and equipment, net of accumulated depreciation of $1,557 and
$790, respectively.................................................... 3,200 1,527
Deferred policy acquisition costs....................................... 11,815 6,152
Reinsurance recoverable on unpaid loss and loss adjustment expenses..... 95,886 50,039
Prepaid reinsurance premiums............................................ 15,448 16,830
Excess of cost over acquired net assets................................. 33,254 19,409
Other assets............................................................ 5,360 2,221
-------- --------
$409,385 $257,734
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Losses and loss adjustment expenses..................................... $211,600 $127,666
Unearned premiums....................................................... 60,114 41,709
Amounts payable to reinsurers........................................... 7,186 10,200
Accounts payable and accrued liabilities................................ 13,343 8,753
Bank borrowings, term debt and other borrowings (Note 7)................ 18,951 17,067
Notes payable to affiliates (Note 7).................................... -- 16,500
-------- --------
Total liabilities................................................ 311,194 221,895
-------- --------
Contingencies (Note 17)
Minority interests...................................................... 2,474 1,316
-------- --------
Stockholders' equity (Note 2):
Preferred stock, no par value, 5,000,000 shares authorized, none
issued............................................................. -- --
Common stock, $.40 par value, 20,000,000 shares authorized; 9,976,415
and 3,517,027 shares issued........................................ 3,991 1,407
Capital in excess of par value........................................ 140,002 86,527
Unrealized gain (loss) on marketable equity securities................ 66 (183)
Accumulated deficit................................................... (44,078) (51,664)
-------- --------
99,981 36,087
Less:
Treasury stock, at cost, 35,559 shares............................. (1,564) (1,564)
Contingent stock, 240,000 shares (Note 3).......................... (2,700) --
-------- --------
Total stockholders' equity....................................... 95,717 34,523
-------- --------
$409,385 $257,734
======== ========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-3
<PAGE> 71
ACCEPTANCE INSURANCE COMPANIES INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
1993 1992 1991
-------- ------- --------
<S> <C> <C> <C>
Revenues:
Insurance premiums earned (Note 12)..................................... $128,082 $79,164 $ 65,164
Insurance agency commissions............................................ 4,119 3,992 1,645
Real estate revenues.................................................... -- 2,610 5,824
Net investment income (Note 4).......................................... 13,094 9,266 8,056
-------- ------- --------
145,295 95,032 80,689
-------- ------- --------
Costs and expenses:
Cost of revenues:
Insurance losses and loss adjustment expenses (Note 12)............... 92,805 60,025 46,917
Insurance agency costs................................................ 3,794 3,736 1,624
Insurance underwriting expenses....................................... 35,083 22,054 17,883
Real estate costs..................................................... -- 818 3,620
General and administrative expenses..................................... 3,047 3,758 9,463
-------- ------- --------
134,729 90,391 79,507
-------- ------- --------
Operating profit.................................................... 10,566 4,641 1,182
-------- ------- --------
Other income (expense):
Interest expense........................................................ (2,235) (4,428) (5,712)
Share of net loss of investee (Note 6).................................. (301) (1,165) (1,179)
Major Realty valuation adjustment (Note 6).............................. -- -- (15,300)
Other, net.............................................................. (39) 342 (2,249)
-------- ------- --------
(2,575) (5,251) (24,440)
-------- ------- --------
Income (loss) from continuing operations before income taxes and
minority interests................................................. 7,991 (610) (23,258)
Provision for income taxes (Note 8)....................................... 167 -- --
Minority interests in net income (loss) of consolidated subsidiaries...... 238 216 (148)
-------- ------- --------
Income (loss) from continuing operations............................ 7,586 (826) (23,110)
-------- ------- --------
Discontinued operations (Note 16):
Net loss from discontinued operations................................... -- -- (721)
Loss on disposal of discontinued operations............................. -- (83) (19,600)
-------- ------- --------
Loss from discontinued operations................................... -- (83) (20,321)
-------- ------- --------
Income (loss) before extraordinary item............................. 7,586 (909) (43,431)
Extraordinary item (Note 6)............................................... -- -- 512
-------- ------- --------
Net income (loss)................................................... $ 7,586 $ (909) $(42,919)
========= ======== =========
Net income (loss) per share:
Primary:
Continuing operations................................................. $ 0.86 $(0.24) $ (6.78)
Discontinued operations............................................... -- (0.02) (5.96)
------- -------- ---------
Income (loss) before extraordinary item............................. 0.86 (0.26) (12.74)
Extraordinary item........................................................ -- -- 0.15
------- -------- ---------
Net income (loss) per share......................................... $ 0.86 $(0.26) $(12.59)
======= ======== =========
Fully diluted:
Continuing operations................................................. $ 0.85 $(0.24) $ (6.78)
Discontinued operations............................................... -- (0.02) (5.96)
------- -------- ---------
Income (loss) before extraordinary item............................. 0.85 (0.26) (12.74)
Extraordinary item........................................................ -- -- 0.15
------- -------- ---------
Net income (loss) per share......................................... $ 0.85 $(0.26) $(12.59)
======= ======== =========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-4
<PAGE> 72
ACCEPTANCE INSURANCE COMPANIES INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1993, 1992 AND 1991
(IN THOUSANDS)
<TABLE>
<CAPTION>
UNREALIZED
GAIN
CAPITAL (LOSS) ON RETAINED
IN MARKETABLE EARNINGS TOTAL
COMMON EXCESS OF EQUITY (ACCUMULATED TREASURY CONTINGENT STOCKHOLDERS'
STOCK PAR VALUE SECURITIES DEFICIT) STOCK STOCK EQUITY
------ --------- ---------- ------------ -------- ---------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1991........... $1,370 $ 86,414 $ (150) $ (7,836) $ (1,915) $ -- $ 77,883
Issuance of common stock under
employee benefit plans........... 13 317 -- -- 75 -- 405
Change in unrealized gain (loss) on
marketable equity securities..... -- -- (327) -- -- -- (327)
Net loss........................... -- -- -- (42,919) -- -- (42,919)
------ --------- ---------- ------------ -------- ---------- -------------
Balance at December 31, 1991......... 1,383 86,731 (477) (50,755) (1,840) -- 35,042
Issuance of common stock under
employee benefit plans........... 3 27 -- -- -- -- 30
Issuance of common stock in
connection with Major
Group merger..................... 21 -- -- -- -- -- 21
Issuance of common stock in
settlement of expenses........... -- (231) -- -- 276 -- 45
Change in unrealized gain (loss) on
marketable equity securities..... -- -- 294 -- -- -- 294
Net loss........................... -- -- -- (909) -- -- (909)
------ --------- ---------- ------------ -------- ---------- -------------
Balance at December 31, 1992......... 1,407 86,527 (183) (51,664) (1,564) -- 34,523
Issuance of common stock from
rights offering.................. 1,597 29,568 -- -- -- -- 31,165
Issuance of common stock from note
payable conversion............... 350 6,650 -- -- -- -- 7,000
Issuance of common stock in
connection with Redland
acquisition...................... 632 17,132 -- -- -- (2,700) 15,064
Issuance of common stock under
employee benefit plans........... 5 125 -- -- -- -- 130
Change in unrealized gain (loss) on
marketable equity securities..... -- -- 249 -- -- -- 249
Net income......................... -- -- -- 7,586 -- -- 7,586
------ --------- ---------- ------------ -------- ---------- -------------
Balance at December 31, 1993......... $3,991 $ 140,002 $ 66 $(44,078) $ (1,564) $ (2,700) $ 95,717
======= ========= ======== ========== ======== ======== ==========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-5
<PAGE> 73
ACCEPTANCE INSURANCE COMPANIES INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, 1993, 1992 AND 1991
(IN THOUSANDS)
<TABLE>
<CAPTION>
1993 1992 1991
--------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) from continuing operations........................ $ 7,586 $ (826) $(23,110)
Adjustments to reconcile net income (loss) from continuing
operations to net cash provided by (used for) operating
activities:
Depreciation and amortization..................................... 3,533 1,552 2,572
Major Realty valuation adjustment................................. -- -- 15,300
Share of net loss of investee..................................... 301 1,165 1,179
Minority interests................................................ 238 216 (148)
Policy acquisition costs incurred................................. (37,147) (21,785) (18,302)
Amortization of policy acquisition costs.......................... 31,484 21,033 18,661
Gain on sale of investments....................................... (2,250) (1,046) (1,953)
Increase (decrease) in cash attributable to changes in assets and
liabilities, net of effects of purchase of companies:
Receivables..................................................... 8,138 (6,784) (7,299)
Net losses and loss adjustment expenses......................... 24,588 11,495 7,693
Net unearned premiums........................................... 9,424 4,921 (2,182)
Amounts payable to reinsurers................................... (25,600) (4,068) 10,479
Accounts payable and accrued liabilities........................ 3,137 (6,227) 3,470
Net operating cash flows of discontinued operations............... -- -- 5,183
Other, net........................................................ 1,141 (379) 3,110
--------- -------- --------
Net cash provided by (used for) operating activities................ 24,573 (733) 14,653
--------- -------- --------
Cash flows from investing activities:
Proceeds from sales of investments.................................. 22,230 18,962 246,185
Proceeds from sales of investments available for sale............... 115,339 60,351 --
Proceeds from maturities of investments............................. 37,854 15,902 1,329
Purchases of investments............................................ (36,124) (65,082) (240,137)
Purchases of investments available for sale......................... (173,695) (88,494) --
Proceeds from sale of discontinued operations....................... -- 28,970 --
Purchase of companies, net of cash and short-term investments
acquired.......................................................... (4,165) -- 2,908
Net investing cash flows of discontinued operations................. -- -- 7,535
Other, net.......................................................... (794) (764) 2,721
--------- -------- --------
Net cash provided by (used for) investment activities............. (39,355) (30,155) 20,541
--------- -------- --------
Cash flows from financing activities:
Proceeds from bank borrowings....................................... 6,597 16,000 1,293
Repayments of bank borrowings....................................... (8,086) (40,320) (8,145)
Proceeds from term debt, other borrowings and notes payable to
affiliates........................................................ -- 16,519 8,521
Repayments of term debt, other borrowings and notes payable to
affiliates........................................................ (10,764) (8,918) (3,568)
Proceeds from issuance of common stock.............................. 31,295 32 66
Net financing cash flows of discontinued operations................. -- -- (13,059)
Minority interests.................................................. 830 47 49
--------- -------- --------
Net cash provided by (used for) financing activities.............. 19,872 (16,640) (14,843)
--------- -------- --------
Net increase (decrease) in cash and short-term investments............ 5,090 (47,528) 20,351
Cash and short-term investments at beginning of period................ 12,471 59,999 39,648
--------- -------- --------
Cash and short-term investments at end of period...................... $ 17,561 $ 12,471 $ 59,999
========= ======== ========
Non-cash financing activities:
Note payable to affiliate converted to equity....................... $ 7,000 $ -- $ --
========= ======== ========
Issuance of common stock for acquisition of Redland................. $ 15,064 $ -- $ --
========= ======== ========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-6
<PAGE> 74
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF OPERATIONS
Acceptance Insurance Companies Inc. (the "Company") is primarily engaged in
the specialty property and casualty insurance business through its wholly-owned
subsidiaries, Acceptance Insurance Holdings Inc. ("Acceptance") and The Redland
Group, Inc. ("Redland"), which the Company acquired on April 11, 1990 and August
13, 1993, respectively. The Company previously conducted citrus operations
through its approximate 52% owned subsidiary, Orange-co, Inc. ("Orange-co"). In
December 1991, the Company decided to sell its interest in Orange-co and in May
1992 its interest was sold. As a result, the Company's share of the net loss of
Orange-co is presented separately as discontinued operations on the consolidated
statements of operations.
The Company holds a 33% equity investment in Major Realty Corporation
("Major Realty"), a Florida based real estate company.
PRINCIPLES OF CONSOLIDATION
The Company's consolidated financial statements include the accounts of its
majority-owned subsidiaries. All significant intercompany transactions have been
eliminated.
INSURANCE ACCOUNTING
Premiums are recognized as income ratably over the terms of the related
policies. Benefits and expenses are associated with premiums earned, resulting
in the recognition of profits over the term of the policies. This association is
accomplished through amortization of deferred policy acquisition costs and
provisions for unearned premiums and loss reserves.
The liability for unearned premiums represents the portion of premiums
written which relates to future periods and is calculated generally using the
pro rata method. The Company also provides a liability for policy claims based
on its review of individual claim cases and the estimated ultimate settlement
amounts. This liability also includes estimates of claims incurred but not
reported based on Company and industry paid and reported claim and settlement
expense experience. Differences which arise between the ultimate liability for
claims incurred and the liability established will be reflected in the statement
of operations of future periods as additional claim information becomes
available.
Certain costs of acquiring new insurance business, principally commissions,
premium taxes, and other underwriting expenses, have been deferred. Such costs
are being amortized as the premiums are earned. Anticipated investment income is
considered in computing premium deficiencies, if any.
STATEMENTS OF CASH FLOWS
The Company aggregates cash and short-term investments with maturity dates
of three months or less from the date of purchase for purposes of reporting cash
flows. As of December 31, 1993 and 1992, approximately $4,737,000 and $227,000
of short-term investments had maturity dates at acquisition of greater than
three months.
INVESTMENTS
Effective September 30, 1992, the Company has designated fixed maturities
as either securities held for investment or securities available for sale.
Securities held for investment represent those securities which the Company has
the intent and ability to hold to maturity.
F-7
<PAGE> 75
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
Securities available for sale represent those securities which might be sold in
response to changes in various economic conditions to maintain a portfolio
duration which approximates the estimated settlement of reserves for loss and
loss adjustment expenses. Securities held for investment are valued at amortized
cost while securities available for sale are valued at the lower of amortized
cost or market value.
Marketable equity securities are carried at market and any net unrealized
gain or loss is reflected separately as a component of stockholders' equity.
Mortgage loans are carried at the lower of their unpaid principal balance or
their estimated net realizable value.
Real estate is stated at the lower of cost or estimated net realizable
value and is non-income producing.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, net of accumulated depreciation.
Depreciation is recognized principally using the straight-line method over a
period of five to ten years.
EXCESS OF COST OVER ACQUIRED NET ASSETS
The excess of cost over equity in acquired net assets is being amortized
principally using the straight-line method over periods not exceeding 40 years.
Recoverability of this asset is evaluated periodically based on
management's estimate of future undiscounted earnings of the businesses
acquired.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Estimated fair values of financial instruments have been determined by the
Company, using available market information and appropriate valuation
methodologies. However, judgment is necessarily required in interpreting market
data to develop the estimates of fair value. Accordingly, the estimates
presented herein are not necessarily indicative of the amounts that the Company
could realize in a current market exchange. The use of different market
assumptions may have an effect on the estimated fair value amounts presented.
The fair value of fixed maturities and equity securities disclosed in the
financial statements are determined by the quoted market price or modeling
techniques for asset-backed securities not actively traded. The book value of
mortgage loans, short-term investments, and other investments approximate fair
value at December 31, 1993.
The book value of cash, receivables, equity investment in Major Realty
Corporation, accounts payable and borrowings approximate fair value.
PER SHARE DATA
Primary earnings per share and fully diluted earnings per share are based
on weighted average shares outstanding of approximately 11.6 million and 11.9
million, respectively, for the year ended December 31, 1993, and approximately
3.4 million for the years ended December 31, 1992 and 1991. Included in weighted
average shares outstanding in 1993 is the assumed conversion of all outstanding
options and warrants utilizing the treasury stock method with appropriate
adjustment to net income attributable to the assumed use of proceeds.
RECENT STATEMENTS OF FINANCIAL ACCOUNTING STANDARDS
The Company adopted Statement of Financial Accounting Standards (SFAS) No.
113, "Accounting and Reporting for Reinsurance of Short-Duration and
Long-Duration Contracts", effective January 1, 1993. The effect of the
application of SFAS No. 113 resulted in the reclassification of amounts ceded to
reinsurers
F-8
<PAGE> 76
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
previously reported as a reduction in unearned premium and unpaid losses and
loss adjustment expenses, to assets on the consolidated balance sheet. The
application included a restatement of amounts as of December 31, 1992.
In April 1993, the Financial Accounting Standards Board approved for
issuance Statement of Financial Accounting Standards (SFAS) No. 115, "Accounting
for Certain Investments in Debt and Equity Securities". The standard will be
adopted effective January 1, 1994. The effect of adoption of this pronouncement
will be that securities designated as available for sale will be reported at
market value with unrealized gains and losses reported as a separate component
of stockholders' equity which is not expected to be significant.
RECLASSIFICATIONS
Certain prior period accounts have been reclassified to conform with
current year presentation.
2. COMMON STOCK ISSUED
On January 27, 1993, the Company completed a Common Stock Rights Offering
to raise additional equity capital. The Rights Offering was fully subscribed
resulting in the issuance of 3,992,480 units, at $8.00 per unit, consisting of
one share of common stock and a warrant for the purchase of one share of common
stock exercisable at $11.00 until January 27, 1997, unless called under certain
provisions. Net proceeds of approximately $31.2 million were used to retire $9.5
million of Secured Subordinated Notes (see Note 7).
Effective April 15, 1993, the holder of a $7,000,000 Secured Subordinated
Note of one of the Company's subsidiaries, which had been assumed by the
Company, exchanged such note for 875,000 shares of common stock and warrants to
purchase, at a price of $11.00 per share during a period ending January 27,
1997, 875,000 additional shares of common stock. The shares of common stock and
warrants were identical to the shares and warrants issued in the Company's
Rights Offering.
3. REDLAND ACQUISITION
On August 13, 1993, the Company acquired all of the outstanding common
stock, warrants to purchase common stock, and preferred stock of Redland
pursuant to an Exchange Agreement. Redland underwrites multi-peril crop, crop
hail, specialty automobile, and farmowner insurance coverages. The acquisition
of Redland was accounted for as a purchase transaction. The purchase price of
approximately $15.4 million, comprised of 1,339,000 shares of the Company's
common stock and acquisition related costs of $306,000, was allocated based upon
the estimated fair market value of assets acquired and liabilities assumed. The
purchase price in excess of the fair market value of the net assets acquired is
being amortized using the straight-line method over 40 years.
The results of operations for Redland are included in the accompanying
financial statements effective July 1, 1993. The purchase price does not reflect
240,000 shares issued by the Company and held in escrow pursuant to the Exchange
Agreement, as a fund against which the Company may assert certain claims. The
primary contingency under which claims may be asserted is the ultimate
development of Redland's liability for losses and loss adjustment expenses. Upon
resolution of contingencies related to the acquisition, such shares will be
returned to the Company or released to former Redland stockholders.
F-9
<PAGE> 77
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The pro forma financial data, which gives effect to the acquisition of
Redland as though it had been completed January 1, 1993, for the year ended
December 31, 1993 and January 1, 1992, for the year ended December 31, 1992, is
as follows (in thousands, except per share data):
<TABLE>
<CAPTION>
1993 1992
-------- --------
<S> <C> <C>
Revenues................................................................ $157,299 $123,598
======== ========
Loss from continuing operations......................................... $ (1,292) $ (3,649)
======== ========
Net loss................................................................ $ (1,292) $ (3,732)
======== ========
Earnings per share:
Primary and fully diluted:
Continuing operations.............................................. $ (0.14) $ (0.76)
Discontinued operations............................................ -- (0.02)
-------- --------
Net loss per share............................................... $ (0.14) $ (0.78)
======== ========
</TABLE>
The pro forma financial data for the year ended December 31, 1993, is not
necessarily indicative of the results had the Company actually acquired Redland
on January 1, 1993, as the financial data includes $3.9 million of charges to
earnings taken by Redland in the first and second quarters of 1993. The charges
were comprised of a $900,000 write-down of a marketable equity security and a
$3.0 million strengthening of reserves, both of which would have been adjusted
to their fair market value on January 1, 1993, and thus would have been excluded
from the 1993 results of operations.
4. INVESTMENTS
A summary of net investment income earned on the investment portfolio for
the years ended December 31, 1993, 1992 and 1991 is as follows (in thousands):
<TABLE>
<CAPTION>
1993 1992 1991
------- ------ ------
<S> <C> <C> <C>
Interest on fixed maturities....................................... $ 9,177 $7,339 $4,692
Interest on short-term investments................................. 711 659 1,600
Net realized gains on sales of investments......................... 2,250 1,046 1,953
Other.............................................................. 1,338.. 391 328
------- ------ ------
13,476 9,435 8,573
Investment expenses................................................ (382) (169) (517)
------- ------ ------
Net investment income.............................................. $13,094 $9,266 $8,056
======= ====== ======
</TABLE>
F-10
<PAGE> 78
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The amortized cost and related market values of fixed maturities in the
accompanying balance sheets are as follows (in thousands):
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- -------
<S> <C> <C> <C> <C>
December 31, 1993:
Fixed maturities held for investment:
U.S. Treasury and government securities.......... $ 9,076 $ 360 $ -- $ 9,436
States, municipalities and political
subdivisions................................... 504 26 -- 530
Mortgage-backed securities....................... 33,070 1,330 81 34,319
Other debt securities............................ 9,106 663 -- 9,769
------- -------- ------- -------
$51,756 $2,379 $ 81 $54,054
======= ======== ======= =======
Fixed maturities available for sale:
U.S. Treasury and government securities.......... $17,379 $ 241 $206 $17,414
States, municipalities and political
subdivisions................................... 33,370 407 4 33,773
Mortgage-backed securities....................... 40,687 302 203 40,786
Other debt securities............................ 4,400 88 11 4,477
------- -------- ------- -------
$95,836 $1,038 $424 $96,450
======= ======== ======= =======
Marketable equity securities........................ $13,806 $ 526 $460 $13,872
======= ======== ======= =======
December 31, 1992:
Fixed maturities held for investment:
U.S. Treasury and government securities.......... $10,154 $ 98 $144 $10,108
Mortgage-backed securities....................... 43,109 454 254 43,309
Other debt securities............................ 17,985 355 32 18,308
------- -------- ------- -------
$71,248 $ 907 $430 $71,725
======= ======== ======= =======
Fixed maturities available for sale:
U.S. Treasury and government securities.......... $12,045 $ 207 $ 72 $12,180
Mortgage-backed securities....................... 17,649 18 94 17,573
Other debt securities............................ 4,049 38 12 4,075
------- -------- ------- -------
$33,743 $ 263 $178 $33,828
======= ======== ======= =======
Marketable equity securities........................ $ 3,458 $ 106 $289 $ 3,275
======= ======== ======= =======
</TABLE>
F-11
<PAGE> 79
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The amortized cost and related market values of the debt securities as of
December 31, 1993 are shown below by stated maturity dates. Actual maturities
may differ from stated maturities because the borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
AMORTIZED MARKET
COST VALUE
--------- -------
(IN THOUSANDS)
<S> <C> <C>
Fixed maturities held for investment:
Due after one year through five years.................................. $ 7,345 $ 7,672
Due after five years through ten years................................. 10,837 11,533
Due after ten years.................................................... 504 530
------- -------
18,686 19,735
Mortgage-backed securities............................................. 33,070 34,319
------- -------
$51,756 $54,054
======= =======
Fixed maturities available for sale:
Due after one year through five years.................................. $21,382 $21,452
Due after five years through ten years................................. 10,071 10,225
Due after ten years.................................................... 23,696 23,987
------- -------
55,149 55,664
Mortgage-backed securities............................................. 40,687 40,786
------- -------
$95,836 $96,450
======= =======
</TABLE>
As of December 31, 1993, the weighted average duration of the
mortgage-backed securities is expected to be less than four years. Proceeds from
sales of debt securities during the years ended December 31, 1993, 1992 and 1991
were approximately $115,339,000, $76,457,000 and $241,216,000, respectively.
There were no sales of fixed maturity securities held for investment. Gross
realized gains on sales of debt securities were approximately $2,023,000,
$1,362,000 and $2,688,000, and gross realized losses on sales of debt securities
were approximately $17,000, $85,000 and $506,000 during the years ended December
31, 1993, 1992 and 1991, respectively.
On May 31, 1993, all of the Company's investments in fixed maturities of
financial service entities were transferred to securities available for sale
from securities held for investment. The Company's core business is inherently
subject to the same market fluctuations as the financial services industry.
Consequently, the Company believes this action is prudent to mitigate its
aggregate industry exposure. The amortized cost and market value at date of
transfer aggregated approximately $9,704,000 and $10,206,000, respectively.
As required by insurance regulatory laws, certain bonds with an amortized
cost of approximately $11,401,000 and short-term investments of approximately
$376,000 at December 31, 1993 were deposited in trust with regulatory agencies.
F-12
<PAGE> 80
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
5. RECEIVABLES
The major components of receivables are summarized at December 31 as
follows (in thousands):
<TABLE>
<CAPTION>
1993 1992
------- -------
<S> <C> <C>
Insurance premiums and agents' balances due............................... $33,801 $18,841
Amounts recoverable from reinsurers on paid losses........................ 10,978 5,617
Accrued interest.......................................................... 2,126 1,308
Installment notes receivable.............................................. 1,768 1,197
Other..................................................................... 1,586 770
Less allowance for doubtful accounts...................................... (2,093) (1,207)
------- -------
$48,166 $26,526
======= =======
</TABLE>
6. EQUITY INVESTMENT IN MAJOR REALTY CORPORATION
As of December 31, 1993 and 1992, the Company held an approximate 33%
equity investment in Major Realty, a publicly traded real estate company engaged
in the ownership and development of its undeveloped land in Orlando, Florida.
In accordance with Accounting Principles Board Opinion No. 18 and other
authoritative pronouncements, the Company recorded a non-cash charge of
$15,300,000 in the accompanying consolidated statement of operations for the
year ended December 31, 1991 to reflect its equity investment in Major Realty at
estimated net realizable value. This provision was necessitated by the weak
economic conditions surrounding the real estate industry generally, which have
negatively impacted the financial condition and prospects of Major Realty which,
at that time, raised doubt about its ability to continue to meet its obligations
as they came due.
At December 31, 1993, the carrying value of the Company's investment in
Major Realty approximated $5.4 million or $2.36 per share. Additionally at that
date, Major Realty had a stockholders' equity of approximately $14,000 and the
quoted market price of Major Realty on NASDAQ was $1.69 per share. The Company
expects to realize a minimum of its carrying value in Major Realty based on the
estimated net realizable values of Major Realty's underlying assets. The
Company's estimate of net realizable value is based upon several factors
including estimates from Major Realty's management, assets appraisals and sales
to date of Major Realty's assets. Commencing in 1992, the Company has not
recognized its share of net gains realized by Major Realty on sales of real
estate but continues to recognize its share of expenses recorded by Major
Realty.
The extraordinary item reflected in the accompanying consolidated statement
of operations for the year ended December 31, 1991 represents the Company's
interest in an extraordinary gain recorded at Major Realty in February 1991.
This extraordinary gain resulted from the conveyance of Major Realty's interest
in the Major Centre Plaza office building and the payment of $170,000 in cash to
the mortgage note holder in exchange for the full satisfaction and release of an
$8,080,000 mortgage note. No related federal income tax provision was provided
since this extraordinary gain was offset by losses incurred at Major Realty
during the year ended December 31, 1991.
F-13
<PAGE> 81
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The following summary financial data for Major Realty as of and for the
years ended December 31, 1993 and 1992 was obtained from Major Realty's
consolidated financial statements (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1993 1992
------- -------
<S> <C> <C>
Land held for sale or development......................................... $ 7,283 $56,442
Other assets.............................................................. 3,621 1,741
------- -------
Total assets............................................................ $10,904 $58,183
======= =======
Mortgage and other notes payable.......................................... $ 9,438 $51,745
Other liabilities......................................................... 1,452 7,315
Stockholders' deficit..................................................... 14 (877)
------- -------
Total liabilities and stockholders' equity.............................. $10,904 $58,183
======= =======
Total revenues............................................................ $55,199 $ 4,794
======= =======
Gross profit.............................................................. $ 2,895 $ 1,640
======= =======
Net income (loss)......................................................... $ 891 $(3,671)
======= =======
</TABLE>
7. BANK BORROWINGS, TERM DEBT AND OTHER BORROWINGS AND NOTES PAYABLE TO
AFFILIATES
In March 1994, the Company agreed to amend its borrowing arrangements with
its bank lenders. The proposed structure is a $35 million line of credit with
interest payable quarterly at the prime rate or at LIBOR plus a margin of 1% to
1.75%, depending on the Company's debt to equity ratio. The line of credit will
mature in four years and may be extended to five years by the bank lenders. The
line of credit will be consummated once final legal documentation is completed
which is anticipated to be in April 1994.
The following information relates to the debt agreements in effect as of
December 31, 1993 and 1992:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1993 1992
------- -------
(IN THOUSANDS)
<S> <C> <C>
Bank borrowings:
Term loan at the prime rate of interest plus .5% or at the Company's
option, LIBOR plus 2.5%.............................................. $12,000 $15,500
Revolving promissory note at the federal funds rate plus 2.75%.......... 6,597 --
Notes payable to affiliates:
Secured subordinated notes at the prime rate of interest plus 6%........ -- 9,500
Secured subordinated convertible note at the prime rate of
interest plus 6%..................................................... -- 7,000
Term debt and other borrowings............................................ 354 1,567
------- -------
$18,951 $33,567
======= =======
</TABLE>
At December 31, 1993, the $12.0 million note payable was collateralized by
the Company's Acceptance common stock. Principal of $1,000,000 and interest on
the note is due quarterly with a maturity of October 1, 1996.
In August 1993, Redland refinanced its existing notes payable to a bank
with a new $7,500,000 revolving promissory note with a maturity of January 5,
1995 which is collateralized by Redland common stock. At December 31, 1993,
$6,597,000 was outstanding under this agreement.
The Company issued $9.5 million of Secured Subordinated Notes to certain
directors or stockholders in April 1992 through the exchange of previously
issued secured and unsecured notes aggregating approximately
F-14
<PAGE> 82
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
$8.3 million and cash. Additionally, the Company issued to the holders of the
Secured Subordinated Notes approximately 97,500 common stock warrants
exercisable for five years at a price of $9.50 per share. In January 1993, these
notes were redeemed.
In April 1992, Acceptance issued a $7 million secured subordinated
convertible note maturing in 1997. In April, 1993, this note was converted into
875,000 units of common stock and warrants identical to those issued in the
Rights Offering (see Note 2).
Aggregate maturities are as follows (in thousands):
<TABLE>
<S> <C>
1994............................................................................... $ 4,354
1995............................................................................... 10,597
1996............................................................................... 4,000
-------
$18,951
=======
</TABLE>
Cash payments for interest were approximately $2.5 million, $4.2 million
and $5.7 million during the years ended December 31, 1993, 1992 and 1991,
respectively.
8. INCOME TAXES
The Company adopted Statement of Financial Accounting Standards (SFAS) No.
109, "Accounting for Income Taxes", effective January 1, 1993. The prospective
application of SFAS No. 109 resulted in no effect upon net income for the year
ended December 31, 1993.
SFAS No. 109 requires that the Company recognize a deferred tax asset for
all temporary differences and net operating loss carryforwards and a related
valuation allowance account when realization of the asset is uncertain.
Accordingly, a valuation allowance has been recorded for the full amount of the
deferred tax asset. During 1993, the valuation allowance decreased $1,560,000,
the same amount the net deferred tax asset decreased. The significant items
comprising the Company's net deferred tax asset as of December 31, 1993 are as
follows (in thousands):
<TABLE>
<S> <C>
Net operating loss carryforwards expiring in varying amounts through 2006......... $ 2,440
Unpaid losses and loss adjustment expenses........................................ 6,581
Unearned premiums................................................................. 3,037
Allowances for doubtful accounts.................................................. 712
Major Realty basis difference..................................................... 7,531
--------
Deferred tax asset.............................................................. 20,301
--------
Deferred policy acquisition costs................................................. (4,017)
Other............................................................................. (23)
--------
Deferred tax liability.......................................................... (4,040)
--------
16,261
Valuation allowance............................................................... (16,261)
--------
Net deferred tax asset............................................................ $ --
========
</TABLE>
The Company recognized a current tax expense of approximately $167,000 for
the year ended December 31, 1993 as a result of amounts due under alternative
minimum taxable income provisions which limit net operating loss carryforwards.
Cash payments for income taxes were approximately $232,000 during the year ended
December 31, 1993.
F-15
<PAGE> 83
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
9. OPERATING LEASES
The Company leases office space and certain furniture and equipment under
various operating leases. Future minimum obligations under these operating
leases are as follows (in thousands):
<TABLE>
<S> <C>
1994................................................................................ $1,675
1995................................................................................ 1,494
1996................................................................................ 1,355
1997................................................................................ 1,176
1998................................................................................ 899
Thereafter.......................................................................... 1,886
------
$8,485
======
</TABLE>
Rental expense totaled approximately $1,169,000, $1,014,000 and $569,000
for the years ended December 31, 1993, 1992 and 1991, respectively.
10. STOCK OPTIONS AND AWARDS
In December 1992, stockholders approved an incentive stock option plan
under which options granted to employees vest over the four years following the
date of grant, options granted to non-employee directors are vested one year
from the date of grant and all options terminate ten years from the date of
grant. A maximum of 500,000 shares are available for the plan and 94,500 options
were granted during 1993.
On January 27, 1993, certain executive officers of the Company were awarded
non-qualified options entitling these officers to purchase a total of 72,500
shares of the Company's Common Stock market value on the date of grant of $8.75
per share, which are currently exercisable through January 27, 1998.
In connection with consulting agreements entered into in May 1991 with
certain of its directors, the Company incurred approximately $100,000 and
$528,000 of expense during the years ended December 31, 1992 and 1991,
respectively. Under the same agreements and in addition to the above, these
directors received a total of 62,210 options to purchase Company common stock at
a price of $10.25 per share, subject to certain antidilution provisions, which
are exercisable through May 1996.
Changes in stock options are as follows:
<TABLE>
<CAPTION>
NUMBER OF SHARES
------------------- OPTION PRICE
RESERVED GRANTED PER SHARE
-------- ------- -------------
<S> <C> <C> <C>
Balance at January 1, 1991.................................. 213,909 154,099 $ 3.92-$38.50
Granted................................................... 62,210 74,710 $10.25
Canceled.................................................. -- (6,513)
Exercised................................................. (15,290) (15,290) $ 4.32
-------- -------
Balance at December 31, 1991................................ 260,829 207,006 $ 3.92-$38.50
Reserved.................................................. 500,000 --
Canceled.................................................. (58,455) (4,632)
Exercised................................................. (7,643) (7,643) $3.92
-------- -------
Balance at December 31, 1992................................ 694,731 194,731 $12.76-$38.50
Granted................................................... 72,500 167,000 $ 8.75-$13.00
Canceled.................................................. (87,500) (87,500)
-------- -------
Balance at December 31, 1993................................ 679,731 274,231 $ 8.75-$38.50
======= =======
</TABLE>
All shares under option at December 31, 1993 were exercisable, except for
94,500 options issued in 1993 under the incentive stock option plan.
F-16
<PAGE> 84
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
In December 1992, stockholders approved an employee stock purchase plan
whereby eligible employees will be given the opportunity to subscribe for the
purchase of the Company's common stock for 85% of its fair market value as
defined. During 1993, 12,639 shares were issued under this plan.
11. RELATED PARTY TRANSACTIONS
Included in real estate revenues for the years ended December 31, 1992 and
1991, is fee income totaling approximately $1,522,000 and $1,850,000,
respectively, for real estate advisory services provided by Major Group to Major
Realty. Revenues for the year ended December 31, 1992 included a non-recurring
fee of $925,000 associated with the settlement and termination of the advisory
agreement in March 1992, effective January 1, 1992. As part of the termination
and settlement agreement, Major Realty issued two promissory notes aggregating
$1,514,581 to Major Group representing payment of all deferred fees and interest
thereon and payment of the termination fee. The promissory notes bear interest
at 12%, mature in 1997 and are collateralized by second and third mortgages on
certain real property owned by Major Realty. One note, on which principal and
accrued interest totals approximately $143,000 at December 31, 1993, is
convertible into Major Realty common stock at any time, while the remaining
note, on which principal and accrued interest totals approximately $278,000 at
December 31, 1993, may be converted into Major Realty common stock beginning
March 1995. Four members of the Board of Directors of the Company also serve on
the Board of Directors of Major Realty.
12. INSURANCE PREMIUMS AND CLAIMS
Insurance premiums written and earned by the Company's insurance
subsidiaries at December 31, 1993, 1992 and 1991 are as follows (in thousands):
<TABLE>
<CAPTION>
1993 1992 1991
--------- -------- --------
<S> <C> <C> <C>
Direct premiums written...................................... $ 253,359 $144,464 $103,594
Assumed premiums written..................................... 2,683 7,627 1,259
Ceded premiums written....................................... (118,537) (68,006) (41,871)
--------- -------- --------
Net premiums written....................................... $ 137,505 $ 84,085 $ 62,982
========= ======== ========
Direct premiums written...................................... $ 250,074 $134,551 $100,109
Assumed premiums written..................................... 3,642 7,048 908
Ceded premiums written....................................... (125,634) (62,435) (35,853)
--------- -------- --------
Net premiums written....................................... $ 128,082 $ 79,164 $ 65,164
========= ======== ========
</TABLE>
Insurance loss and loss adjustment expenses have been reduced by recoveries
recognized under reinsurance contracts of $216,246,000 for the year ended
December 31, 1993.
Five insurance agencies produced direct premiums written aggregating
approximately 34%, 51% and 46% of total direct premiums during the years ended
December 31, 1993, 1992 and 1991, respectively.
Insurance loss and loss adjustment expenses paid totaled approximately
$68,217,000, $48,530,000 and $39,224,000 during the years ended December 31,
1993, 1992 and 1991, respectively.
13. REINSURANCE
The Company's insurance subsidiaries cede insurance to other companies
under quota share, excess of risk and facultative treaties. The insurance
subsidiaries also maintain catastrophe reinsurance to protect against
catastrophic occurrences where claims can arise under numerous policies due to a
single event. The reinsurance agreements are tailored to the various programs
offered by the insurance subsidiaries. The largest amount retained in any one
risk by the insurance subsidiaries during 1993 was $500,000. The insurance
subsidiaries are contingently liable if the reinsurance companies are unable to
meet their obligations. The methods used for recognizing income and expenses
related to reinsurance contracts have been applied in a
F-17
<PAGE> 85
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
manner consistent with the recognition of income and expense on the underlying
direct and assumed business. (See Note 1).
One reinsurer, which has an A.M. Best rating of A+ (superior), accounted
for approximately 9% of reinsurance recoverable on unpaid losses and loss
adjustment expenses and prepaid reinsurance premiums at December 31, 1993. No
other reinsurer, except for the Federal Crop Insurance Corporation (a division
of the United States Dept. of Agriculture) accounted for more than 5% of these
balances.
14. DIVIDEND RESTRICTIONS AND REGULATORY MATTERS
Dividends from the Acceptance insurance subsidiaries and Redland insurance
subsidiaries are not available to the Company because of restrictive covenants
set forth in loan agreements which prohibit dividends from Acceptance or Redland
to the Company without the express consent of the respective holders of these
obligations.
Acceptance's insurance subsidiaries reported to regulatory authorities
total policyholders' surplus of approximately $57,044,000 and $33,324,000 at
December 31, 1993 and 1992, respectively, and total statutory net income of
$2,712,000 and $1,304,000 for the years ended December 31, 1993 and 1992,
respectively. Redland's insurance subsidiaries reported to regulatory
authorities total policyholders' surplus of approximately $14,719,000 at
December 31, 1993 and statutory net loss of approximately $5,052,000 for the
year ended December 31, 1993.
15. MAJOR GROUP ACQUISITION
On September 25, 1992, the Company completed a merger with Major Group
which increased the Company's ownership interest to 100%. Pursuant to Settlement
Agreements among the Company, Major Group and certain secured creditors (the
"Term Sheet Creditors"), Major Group (1) conveyed substantially all of its
assets, except for certain property located in Fort Lauderdale, Florida (the
"Fort Lauderdale Commerce Center Property") and two promissory notes from Major
Realty Corporation (the "Major Realty Notes"), to the Term Sheet Creditors in
satisfaction of all of Major Group's obligations due to them; (2) the Fort
Lauderdale Commerce Center Property and the Major Realty Notes were transferred
to the Company in satisfaction of all amounts due the Company under a note of a
subsidiary of Major Group, which was secured by a mortgage on the Fort
Lauderdale Commerce Center Property and guaranteed by Major Group; and (3) the
Company issued a promissory note in the principal amount of $500,000 payable in
installments over one year to the Term Sheet Creditors in exchange for all of
the Major Group preferred stock held by the Term Sheet Creditors. Assets
conveyed to the Term Sheet Creditors and liabilities satisfied approximated $5.7
million. Immediately upon conclusion of these transactions, Major Group was
merged into a wholly-owned subsidiary of the Company.
In addition, Major Group settled certain claims by agreeing to pay $150,000
in cash and other consideration, payment of which is guaranteed by the Company,
payable over a two year period and payment of the net cash proceeds from the
sale of certain sewer connections not to exceed $150,000. In connection with the
above, the Company issued approximately 52,000 shares of common stock to
complete the merger. The Company recorded approximately $494,000 of excess of
cost over acquired net assets which is being amortized over five years. The net
effect of the transactions among Major Group, the Term Sheet Creditors and the
Company upon results of operations was insignificant.
16. DISCONTINUED OPERATIONS
In December 1991, the Company decided to sell its approximate 52% interest
in Orange-co, its Florida based subsidiary primarily engaged in growing and
processing citrus products as well as packaging and marketing these citrus and
other beverage products. The Company, therefore, recorded a provision for the
expected loss on disposal, including estimated costs of disposition, of
approximately $19,600,000, with no related federal income tax effect.
Additionally, revenues and expenses of Orange-co were reclassified as net
F-18
<PAGE> 86
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
income (loss) from discontinued operations. The Company's interest in the
estimated earnings of Orange-co during the disposal period were not recognized
because such earnings were not expected to be realized.
On May 28, 1992, the Company consummated the sale of Orange-co for
$31,000,000. After payment of expenses of the transaction, $2,030,000, the
Company realized a loss on the transaction of $83,000.
Net sales of Orange-co for the year ended December 31, 1991, were
$80,357,000.
17. CONTINGENCIES
The Company is involved in various insurance related claims and other legal
actions arising from the normal conduct of business. Management believes that
the outcome of these proceedings will not have a material effect on the
consolidated financial statements of the Company.
A subsidiary of the Company has guaranteed debt of $775,000 relating to a
real estate partnership in which the subsidiary has a limited partnership
interest.
18. INTERIM FINANCIAL INFORMATION (UNAUDITED)
<TABLE>
<CAPTION>
PRIMARY FULLY DILUTED
UNDERWRITING NET INCOME NET INCOME
INCOME NET INCOME (LOSS) (LOSS) PER
QUARTERS ENDED REVENUES (LOSS) (LOSS) PER SHARE SHARE
- ------------------------------- -------- ------------ ---------- ---------- -------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
1993:
December 31.................. $ 43,821 $ (264) $ 2,152 $ 0.21 $ 0.21
September 30................. 38,460 954 2,167 0.22 0.22
June 30...................... 32,581 (389) 1,715 0.20 0.20
March 31..................... 30,433 (107) 1,552 0.24 0.23
-------- ------------ ---------- ----------
$145,295 194 $ 7,586 $ 0.86(2) $ 0.85(2)
======== ========= ======== ========
1992:
December 31.................. $ 24,434 $ (266) $ 814 $ 0.24 $ 0.24
September 30................. 25,280 (695) 756 0.22 0.22
June 30...................... 23,182 (2,011)(1) (2,608)(1) (0.76) (0.76)
March 31..................... 22,136 57 129 0.04 0.04
-------- ------------ ---------- ----------
$ 95,032 $ (2,915) $ (909) $(0.26) $ (0.26)
======== ========= ======== ========
</TABLE>
- -------------------------
(1) The underwriting loss and net loss for the quarter ended June 30, 1992 was
primarily due to the $2,100,000 strengthening of the Company's loss reserves
for its workers' compensation and liquor liability business.
(2) Quarterly net income per share numbers for 1993 do not add to the annual net
income per share due to rounding.
19. SUBSEQUENT EVENT
In March 1994, the Company entered into an Agreement and Plan of Merger
with Statewide Insurance Corporation, the exclusive general agent for the
Company's non-standard automobile insurance program underwritten by Phoenix
Indemnity Insurance Company ("Phoenix Indemnity"), and the owner of 20% of the
outstanding shares of common stock of Phoenix Indemnity pursuant to which the
Company will acquire by merger (the "Merger") Statewide Insurance Corporation
(except for certain assets and liabilities relating to its agency operations
other than the non-standard automobile program which will be divested prior to
the merger). The effective date of the Merger is March 31, 1994.
F-19
<PAGE> 87
ACCEPTANCE INSURANCE COMPANIES INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
1994 1993
------------- ------------
(UNAUDITED) [(AUDITED)]
<S> <C> <C>
ASSETS
Investments:
Fixed maturities available for sale.............................. $ 151,769 $ 95,836
Fixed maturities held for investment............................. -- 51,756
Marketable equity securities -- preferred stock.................. 9,748 8,445
Marketable equity securities -- common stock..................... 6,752 5,427
Mortgage loans and other investments............................. 2,320 2,852
Real estate...................................................... 3,894 4,266
Short-term investments, at cost, which approximates market....... 52,905 19,404
--------- --------
227,388 187,986
Cash............................................................... 6,562 2,894
Receivables, net................................................... 106,510 37,338
Reinsurance recoverable on paid loss and adjustment expenses....... 21,420 10,828
Equity investment in Major Realty Corporation...................... 5,157 5,376
Property and equipment, net........................................ 4,087 3,200
Reinsurance recoverable on unpaid loss and adjustment expenses..... 92,072 95,886
Deferred policy acquisition costs.................................. 19,401 11,815
Prepaid reinsurance premiums....................................... 21,386 15,448
Deferred tax asset................................................. 8,537 --
Excess of cost over acquired net assets............................ 38,400 33,254
Other assets....................................................... 4,245 5,360
--------- --------
Total assets............................................. $ 555,165 $409,385
========= ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Losses and loss adjustment expenses................................ $ 229,080 $211,600
Unearned premiums.................................................. 91,664 60,114
Amounts payable to reinsurers...................................... 83,364 7,186
Accounts payable and accrued liabilities........................... 19,606 13,343
Bank borrowings, term debt and other borrowings.................... 29,000 18,951
--------- --------
Total liabilities........................................ 452,714 311,194
Contingencies...................................................... -- --
Minority interests................................................. -- 2,474
--------- --------
Stockholders' equity:
Preferred stock, no par value, 5,000,000 shares authorized, none
issued........................................................ -- --
Common stock, $.40 par value, 20,000,000 shares authorized;
10,266,481 and 9,976,415 shares issued........................ 4,107 3,991
Capital in excess of par value................................... 143,222 140,002
Unrealized gain (loss) on marketable equity securities; and on
fixed maturities available for sale, net of tax............... (9,785) 66
Accumulated deficit.............................................. (30,829) (44,078)
--------- --------
106,715 99,981
Less:
Treasury stock, at cost, 35,559 shares........................ (1,564) (1,564)
Contingent stock, 240,000 shares.............................. (2,700) (2,700)
--------- --------
Total stockholders' equity............................... 102,451 95,717
--------- --------
Total liabilities and stockholders' equity............... $ 555,165 $409,385
========= ========
</TABLE>
The accompanying notes are an integral part of the interim consolidated
financial statements.
F-20
<PAGE> 88
ACCEPTANCE INSURANCE COMPANIES INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1994 AND 1993
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
------------------- ---------------------
1994 1993 1994 1993
------- ------- -------- --------
<S> <C> <C> <C> <C>
Revenues:
Insurance premiums earned....................... $63,425 $34,438 $148,119 $ 88,948
Insurance agency commissions.................... 837 952 2,639 2,998
Net investment income........................... 3,553 2,475 9,230 7,740
Net realized capital gains...................... 101 595 499 1,788
------- ------- -------- --------
67,916 38,460 160,487 101,474
------- ------- -------- --------
Costs and expenses:
Cost of revenues:
Insurance losses and loss adjustment
expenses................................... 45,207 28,202 105,790 67,821
Insurance agency costs....................... 755 988 2,422 2,908
Insurance underwriting expenses.............. 13,719 5,282 36,015 20,669
General and administrative expenses............. 1,372 1,066 3,721 2,150
------- ------- -------- --------
61,053 35,538 147,948 93,548
------- ------- -------- --------
Operating profit.................................. 6,863 2,922 12,539 7,926
------- ------- -------- --------
Other income (expense):
Interest expense................................ (461) (627) (1,160) (1,865)
Share of net loss of investee................... (65) (40) (219) (263)
Other, net...................................... (11) 50 34 (41)
------- ------- -------- --------
(537) (617) (1,345) (2,169)
------- ------- -------- --------
Income before income taxes and minority
interests....................................... 6,326 2,305 11,194 5,757
Current tax expense............................... 1,301 85 1,366 175
Deferred tax benefit.............................. (1,301) -- (3,501) --
Minority interests in net income of consolidated
subsidiaries.................................... -- 53 80 148
------- ------- -------- --------
Net income........................................ $ 6,326 $ 2,167 $ 13,249 $ 5,434
======= ======= ======== ========
Earnings per share:
Primary......................................... $ .51 $ .22 $ 1.12 $ .66
======= ======= ======== ========
Fully diluted................................... $ .50 $ .22 $ 1.09 $ .64
======= ======= ======== ========
</TABLE>
The accompanying notes are an integral part of the interim consolidated
financial statements.
F-21
<PAGE> 89
ACCEPTANCE INSURANCE COMPANIES INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1994 AND 1993
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
1994 1993
-------- ---------
<S> <C> <C>
Cash flows from operating activities:
Net income.......................................................... $ 13,249 $ 5,434
Net adjustment to reconcile net income to net cash provided by
operating activities............................................. 35,785 26,698
-------- ---------
Net cash provided by operating activities................... 49,034 32,132
-------- ---------
Cash flows from investing activities:
Proceeds from sales of investments.................................. 641 1,067
Proceeds from sales of investments available for sale............... 22,151 94,776
Proceeds from maturities of investments............................. 6,545 4,201
Proceeds from maturities of investments held for investment......... -- 4,133
Proceeds from maturities of investments available for sale.......... 13,828 11,658
Purchases of investments............................................ (29,508) (6,821)
Purchases of investments available for sale......................... (57,285) (149,619)
Purchase of Redland, net of cash and cash equivalents acquired...... -- (4,106)
Purchases of property and equipment................................. (1,172) (730)
-------- ---------
Net cash used for investing activities...................... (44,800) (45,441)
-------- ---------
Cash flows from financing activities:
Repayments of bank borrowing........................................ (18,597) (7,211)
Proceeds from bank borrowings....................................... 29,000 6,500
Repayments of term debt, other borrowings and notes payable to
affiliates....................................................... (354) (10,588)
Minority interests.................................................. 7 823
Proceeds from issuance of common stock.............................. 236 31,205
Other............................................................... (340) --
-------- ---------
Net cash provided by financing activities................... 9,952 20,729
-------- ---------
Net increase (decrease) in cash and short-term investments............ 14,186 7,420
Cash and short-term investments at beginning of period................ 17,561 12,471
-------- ---------
Cash and short-term investments at end of period...................... $ 31,747 $ 19,891
======== =========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest............................ $ 1,018 $ 2,144
======== =========
Cash paid during the period for income taxes........................ $ 78 $ 167
======== =========
Non-cash financing activities:
Notes payable to affiliates converted to equity..................... $ -- $ 7,000
======== =========
Issuance of common stock for merger with Statewide.................. $ 3,100 $ --
======== =========
Issuance of common stock for merger with Redland.................... $ -- $ 15,064
======== =========
</TABLE>
The accompanying notes are an integral part of the interim consolidated
financial statements.
F-22
<PAGE> 90
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION
The Company's consolidated financial statements include the accounts of
Acceptance Insurance Companies Inc. and majority owned subsidiaries (the
"Company"). All significant intercompany transactions have been eliminated.
MANAGEMENT'S OPINION
The accompanying consolidated financial statements reflect all adjustments,
consisting only of normal recurring adjustments except as otherwise disclosed,
which in the opinion of management are considered necessary to fairly present
the Company's financial position as of September 30, 1994 and December 31, 1993,
and the results of operations for the three months and nine months ended
September 30, 1994 and 1993 and cash flows for the nine months ended September
30, 1994 and 1993.
STATEMENTS OF CASH FLOWS
The Company aggregates cash and short-term investments with maturity dates
of three months or less from the date of purchase for purposes of reporting cash
flows. As of September 30, 1994 approximately $27,720,000 of short-term
investments had a maturity date at acquisition of greater than three months.
EXCESS OF COST OVER ACQUIRED NET ASSETS
The excess of cost over equity in acquired net assets is being amortized
principally using the straight-line method over periods not exceeding 40 years.
Recoverability of this asset is evaluated periodically based on Management's
estimate of future undiscounted earnings of the businesses acquired.
RECLASSIFICATIONS
Certain prior year accounts have been reclassified to conform with current
period presentation.
2. SUBSEQUENT EVENTS:
On December 1, 1994, holders of approximately 4.85 million warrants to
purchase, at a price of $11.00 per share, shares of common stock of the Company
exercised such warrants, resulting in net proceeds to the Company of
approximately $53.4 million. A total of $38 million of such proceeds were
invested in certain of the Company's insurance subsidiaries.
3. STATEWIDE MERGER:
On March 31, 1994, the Company entered into an Agreement and Plan of Merger
with Statewide Insurance Corporation ("Statewide"), the exclusive general agent
for the Company's non-standard automobile insurance program underwritten by
Phoenix Indemnity Insurance Company ("Phoenix Indemnity"), and the owner of 20%
of the outstanding shares of common stock of Phoenix Indemnity, pursuant to
which the Company acquired by merger (the "Merger") Statewide (except for
certain assets and liabilities relating to its agency operations other than the
non-standard automobile program which were divested prior to the Merger). The
Merger was effective at the beginning of business on April 1, 1994.
The purchase price of approximately $3.1 million, comprised of
approximately 266,000 shares of the Company's common stock, was allocated based
upon the estimated fair market value of assets acquired and liabilities assumed.
The purchase price in excess of the fair market value of the net assets acquired
is being amortized using the straight-line method over 40 years.
F-23
<PAGE> 91
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
4. PER SHARE DATA:
Primary earnings per share and fully diluted earnings per share are based
on the weighted average shares outstanding of approximately 13.5 million and
13.7 million, respectively, for the three months ended September 30, 1994 and
approximately 12.5 million and 12.6 million, respectively, for the three months
ended September 30, 1993. Primary earnings per share and fully diluted earnings
per share are based on the weighted average shares outstanding of approximately
13.4 million and 13.6 million, respectively, for the nine months ended September
30, 1994 and approximately 11.0 million and 11.4 million, respectively, for the
nine months ended September 30, 1993. Included in weighted average shares
outstanding is the assumed conversion of all outstanding options and warrants
utilizing the treasury stock method with appropriate adjustment to net income
attributable to the assumed use of proceeds.
5. INVESTMENTS:
On January 1, 1994 the Company adopted Statement of Financial Accounting
Standards No. 115 (SFAS 115), "Accounting for Certain Investments in Debt and
Equity Securities." In conjunction with the adoption of SFAS 115, the Company
reclassified its debt and equity securities to meet the requirements of the
statement. SFAS 115 requires investments in debt and equity securities to be
classified at acquisition into one of three categories: held to maturity,
available for sale, or trading. Securities are classified as trading when they
are bought and held principally for the purpose of selling them in the near
future. Securities are classified as available for sale when the securities may
be sold from time to time to effectively manage interest rate exposure and
liquidity needs. Securities are classified as held to maturity securities when
the Company has the positive intent and ability to hold these securities until
maturity.
At January 1, 1994 and September 30, 1994 all debt and equity securities
were classified as available for sale. Available for sale securities are stated
at fair value with the unrealized gains and losses reported as a separate
component of stockholders' equity.
F-24
<PAGE> 92
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
The amortized cost and related market values of debt and equity securities
in the accompanying balance sheets are as follows (in thousands):
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
September 30, 1994:
Fixed maturities available for sale:
U.S. Treasury and government securities.... $ 36,322 $ 14 $ 1,459 $ 34,877
States, municipalities and political
subdivisions............................. 33,280 10 1,034 32,256
Mortgage-backed securities................. 72,936 136 10,891 62,181
Other debt securities...................... 22,768 110 423 22,455
--------- ---------- ---------- ---------
$ 165,306 $ 270 $ 13,807 $ 151,769
======== ======== ======== ========
Marketable equity securities available for
sale -- preferred stock.................... $ 10,448 $ 17 $ 717 $ 9,748
======== ======== ======== ========
Marketable equity securities available for
sale -- common stock....................... $ 6,903 $ 414 $ 565 $ 6,752
======== ======== ======== ========
December 31, 1993:
Fixed maturities held for investment:
U.S. Treasury and government securities.... $ 9,076 $ 360 $ -- $ 9,436
States, municipalities and political
subdivisions............................. 504 26 -- 530
Mortgage-backed securities................. 33,070 1,330 81 34,319
Other debt securities...................... 9,106 663 -- 9,769
--------- ---------- ---------- ---------
$ 51,756 $2,379 $ 81 $ 54,054
======== ======== ======== ========
Fixed maturities available for sale:
U.S. Treasury and government securities.... $ 17,379 $ 241 $ 206 $ 17,414
States, municipalities and political
subdivisions............................. 33,370 407 4 33,773
Mortgage-backed securities................. 40,687 302 203 40,786
Other debt securities...................... 4,400 88 11 4,477
--------- ---------- ---------- ---------
$ 95,836 $1,038 $ 424 $ 96,450
======== ======== ======== ========
Marketable equity securities -- preferred
stock...................................... $ 8,367 $ 179 $ 101 $ 8,445
======== ======== ======== ========
Marketable equity securities -- common
stock...................................... $ 5,439 $ 347 $ 359 $ 5,427
======== ======== ======== ========
</TABLE>
F-25
<PAGE> 93
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
6. INSURANCE PREMIUMS AND CLAIMS:
Insurance premiums written and earned by the Company's insurance
subsidiaries for the three months and nine months ended September 30, 1994 and
1993 are as follows (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
---------------------- ----------------------
1994 1993 1994 1993
--------- -------- --------- --------
<S> <C> <C> <C> <C>
Direct premiums written....................... $ 168,170 $ 96,986 $ 336,517 $177,093
Assumed premiums written...................... 18,235 1,063 24,630 2,401
Ceded premiums written........................ (117,792) (61,713) (187,415) (80,059)
--------- -------- --------- --------
Net premiums written........................ $ 68,613 $ 36,336 $ 173,732 $ 99,435
========= ======== ========= ========
Direct premiums earned........................ $ 160,549 $ 96,131 $ 305,036 $171,352
Assumed premiums earned....................... 18,401 1,073 24,560 3,360
Ceded premiums earned......................... (115,525) (62,766) (181,477) (85,764)
--------- -------- --------- --------
Net premiums earned......................... $ 63,425 $ 34,438 $ 148,119 $ 88,948
========= ======== ========= ========
</TABLE>
Insurance loss and loss adjustment expenses have been reduced by recoveries
recognized under reinsurance contracts of approximately $53,416,000 and
$101,378,000 for the three months and nine months ended September 30, 1994,
respectively.
7. BANK BORROWINGS, TERM DEBT AND OTHER BORROWINGS:
On March 31, 1994, the Company amended its borrowing arrangements with its
bank lenders. The new structure is a $35 million line of credit with interest
payable quarterly at the Company's option of the prime rate or LIBOR plus a
margin of 1% to 1.75%, depending on the Company's debt to equity ratio. The line
of credit will mature in four years and may be extended to five years by the
bank lenders.
At September 30, 1994, the Company had $29 million outstanding under this
arrangement. The proceeds were used to retire bank borrowings and accrued
interest of $17.7 million and to provide capital for insurance subsidiaries. On
September 6, 1994 the Company elected LIBOR plus 1.25% percent or 6.25% through
December 6, 1994.
8. INCOME TAXES:
The Company adopted Statement of Financial Accounting Standards (SFAS) No.
109 "Accounting for Income Tax", effective January 1, 1993.
SFAS No. 109 requires that the Company recognize a deferred tax asset for
all temporary differences and net operating loss carryforwards and a related
valuation allowance account when realization of the asset is uncertain. The
Company had reported pre-tax losses from 1989 through 1992. Although the
circumstances that generated these losses were not indicative of operating
income, management was uncertain of future earnings and recorded the related
valuation allowance account.
The Company has reported nine consecutive quarters with pre-tax earnings.
The Company has generated AMT credit carryforwards and has used all of its net
operating loss carryforwards. Management continued assessing the weight of
evidence at each balance sheet and continues to believe it is more likely than
not that the Company will realize a portion of the deferred tax asset. During
1994 the Company has reduced the valuation allowance by approximately $5.9
million.
F-26
<PAGE> 94
ACCEPTANCE INSURANCE COMPANIES INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
<TABLE>
<CAPTION>
(IN THOUSANDS)
--------------
<S> <C>
Unpaid losses and loss adjustment expenses..................................... $ 7,031
Unearned premiums.............................................................. 4,779
Allowances for doubtful accounts............................................... 1,098
Other.......................................................................... 607
Unrealized loss on marketable equity securities................................ 264
Unrealized loss on fixed maturities available for sale......................... 4,603
Major Realty basis difference.................................................. 7,606
--------
Deferred tax asset........................................................... 25,988
--------
Deferred policy acquisition costs.............................................. (6,596)
Other.......................................................................... (466)
--------
Deferred tax liability....................................................... (7,062)
--------
18,926
Valuation allowance............................................................ (10,389)
--------
Net deferred tax asset......................................................... $ 8,537
========
</TABLE>
F-27
<PAGE> 95
- ------------------------------------------------------
- ------------------------------------------------------
NO DEALER, SALESPERSON OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS
PROSPECTUS IN CONNECTION WITH THE OFFER CONTAINED HEREIN, AND, IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY OR ANY OF THE UNDERWRITERS. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER OF ANY SECURITIES OTHER THAN THOSE TO WHICH IT RELATES OR AN
OFFER TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, THOSE TO WHICH IT RELATES
IN ANY STATE TO ANY PERSON TO WHOM IT IS NOT LAWFUL TO MAKE SUCH OFFER IN SUCH
STATE. THE DELIVERY OF THIS PROSPECTUS AT ANY TIME DOES NOT IMPLY THAT THE
INFORMATION HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO ITS DATE.
------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Incorporation of Certain Documents by
Reference.......................... 2
Prospectus Summary................... 3
The Company.......................... 7
Certain Investment Considerations.... 10
Use of Proceeds...................... 15
Market for Registrant's Common Stock
and Dividend Policy................ 16
Capitalization....................... 17
Selected Consolidated Financial
Data............................... 18
Management's Discussion and Analysis
of Financial Condition and Results
of Operations...................... 20
Business............................. 29
Management........................... 47
Description of Notes................. 50
Description of Capital Stock......... 57
Certain Federal Income Tax
Consequences....................... 58
Underwriting......................... 61
Legal Matters........................ 62
Experts.............................. 62
Available Information................ 62
Glossary of Insurance Terms.......... 64
Index to Financial Statements........ F-1
</TABLE>
- ------------------------------------------------------
- ------------------------------------------------------
- ------------------------------------------------------
- ------------------------------------------------------
$60,000,000
ACCEPTANCE INSURANCE
COMPANIES INC.
% CONVERTIBLE
SUBORDINATED NOTES
DUE
------------
PROSPECTUS
, 1995
------------
SMITH BARNEY INC.
ADVEST, INC.
OPPENHEIMER & CO., INC.
- ------------------------------------------------------
- ------------------------------------------------------
<PAGE> 96
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following sets forth the estimated costs and expenses to be incurred in
connection with the issuance and distribution of the securities to be
registered.
<TABLE>
<S> <C>
Securities and Exchange Commission registration fee............... $ 23,793
Trustee's fees.................................................... 25,000
NASD filing fee................................................... 8,000
Rating agency fees................................................ 50,000
Accounting fees and expenses...................................... 50,000
Legal fees and expenses (including "Blue Sky" legal fees)......... 200,000
Printing and engraving............................................ 125,000
Miscellaneous expenses............................................ 13,207
Transfer agent and Registrar fees................................. 5,000
---------
Total................................................... $ 500,000
========
</TABLE>
ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS
DELAWARE GENERAL CORPORATION LAW.
The General Corporation Law of Delaware ("Delaware Law") under which the
Company is incorporated, permits the Company to indemnify each of its directors
and officers against expenses (including attorney fees), judgments, fines, and
amounts paid in settlement actually and reasonably incurred by him in connection
with litigation or similar proceedings by reason of serving in such capacities
if the person acted in good faith and in a manner the person reasonably believed
to be in or not opposed to the best interests of the corporation and, with
respect to criminal actions or proceedings, was not unlawful.
RESTATED CERTIFICATE OF INCORPORATION.
The Company's Restated Certificate of Incorporation generally provides that
directors and officers will be indemnified to the fullest extent permissible
under Delaware Law against all expenses (including amounts paid in settlement)
incurred in any proceeding (whether or not such proceeding was by or in the
right of the Company) in which they were a party because of their position as a
director or officer of the Company or because they served at the request of the
Company as a director, officer, employee or agent of another corporation or
entity.
The general effect of the indemnification provisions of the Restated
Certificate of Incorporation and the Delaware Law is that the Company is
required to pay for all expense, liability or loss reasonably incurred by its
directors and officers in any action in which they are a party by reason of the
fact that they are directors or officers of the Company, except where a court
determines that such indemnification is not permissible or that the person
seeking indemnification is not entitled to indemnification. The Company is
prohibited from making payment for indemnification on account of any matter: (i)
regarding remuneration paid to such person if the remuneration was in violation
of law; (ii) for an accounting of profits made from the purchase or sale by such
person of securities of the Company in violation of Section 16(b) of the
Securities Exchange Act of 1934; (iii) brought about or contributed to by the
dishonesty of such person if a court establishes that acts of active and
deliberate dishonesty were committed or attempted by such person with actual
dishonest purpose and intent and were material to the adjudication; (iv)
attributable to such person having gained any personal profit or advantage to
which he was not entitled; or (v) any matter in respect of which any final
decision by a court having competent jurisdiction or other final adjudication
shall determine that indemnification is not lawful. The Company's obligations
include the payment in advance of the final disposition of a proceeding or
expenses incurred by a director or officer in defending such proceeding upon the
receipt from such director or officer of
II-1
<PAGE> 97
an undertaking to repay such expenses if it is ultimately determined that such
officer or director is not entitled to indemnification. Directors and officers
are entitled to bring suit against the Company, at the Company's expense if
successful, for failure to make a requested indemnification and the Company has
the burden of proof to show such indemnification to be improper. The
indemnification obligations of the Company may be funded through insurance or
otherwise.
ITEM 16. EXHIBITS
See Exhibit Index.
ITEM 17. UNDERTAKINGS
(1) Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons of
the Registrant pursuant to the foregoing provisions, or otherwise, the
Registrant has been advised that in the opinion of the Securities and Exchange
Commission such indemnification is against public policy as expressed in the Act
and is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the Registrant of expenses
incurred or paid by a director, officer or controlling person of the Registrant
in the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
(2) The undersigned Registrant hereby undertakes that, for purposes of
determining any liability under the Securities Act of 1933, each filing of the
Registrant's annual report pursuant to Section 13(a) or Section 15(d) of the
Securities Exchange Act of 1934 (and, where applicable, each filing of an
employee benefit plan's annual report pursuant to Section 15(d) of the
Securities Exchange Act of 1934) that is incorporated by reference in the
registration statement shall be deemed to be a new registration statement
relating to the securities offered therein, and the offering of such securities
at that time shall be deemed to be the initial bona fide offering thereof.
(3) The undersigned Registrant hereby undertakes that: (a) for purposes of
determining any liability under the Securities Act of 1933, the information
omitted from the form of Prospectus filed as part of this Registration Statement
in reliance upon Rule 430A and contained in a form of Prospectus filed by the
Registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act
shall be deemed to be part of this Registration Statement as of the time it was
declared effective; and (b) for the purpose of determining liability under the
Securities Act of 1933, each post-effective amendment that contains the form of
Prospectus shall deemed to be a new Registration Statement relating to the
securities offered herein and the offering of such securities at that time shall
be deemed to be the initial bona fide offering thereof.
II-2
<PAGE> 98
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the registrant
certifies that it has reasonable grounds to believe that it meets all of the
requirements for filing in Form S-3 and has duly caused this Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in Omaha, Nebraska on February 23, 1995.
ACCEPTANCE INSURANCE COMPANIES INC.
By /s/ KENNETH C. COON
-------------------------------------
Kenneth C. Coon
Chairman and Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed below by the following persons in the
capacities and on the date or dates indicated.
<TABLE>
<CAPTION>
SIGNATURES CAPACITY DATE
- --------------------------------------------- --------------------------- ------------------
<S> <C> <C>
/s/ KENNETH C. COON Chairman and Chief February 23, 1995
- --------------------------------------------- Executive Officer and
Kenneth C. Coon Director
/s/ JOHN P. NELSON President and Chief February 23, 1995
- --------------------------------------------- Operating Officer and
John P. Nelson Director
/s/ GEORGIA M. MACE Treasurer (Principal February 23, 1995
- --------------------------------------------- Financial and Chief
Georgia M. Mace Accounting Officer)
/s/ JAY A. BIELFIELD Director February 23, 1995
- ---------------------------------------------
Jay A. Bielfield
/s/ EDWARD W. ELLIOTT, JR. Director February 23, 1995
- ---------------------------------------------
Edward W. Elliott, Jr.
/s/ ROBERT LEBUHN Director February 23, 1995
- ---------------------------------------------
Robert LeBuhn
/s/ MICHAEL R. MCCARTHY Director February 23, 1995
- ---------------------------------------------
Michael R. McCarthy
/s/ R. L. RICHARDS Director February 23, 1995
- ---------------------------------------------
R. L. Richards
/s/ DAVID L. TREADWELL Director February 23, 1995
- ---------------------------------------------
David L. Treadwell
/s/ DOUG T. VALASSIS Director February 23, 1995
- ---------------------------------------------
Doug T. Valassis
</TABLE>
II-3
<PAGE> 99
EXHIBIT INDEX
<TABLE>
<CAPTION>
NUMBER EXHIBIT DESCRIPTION
------ ----------------------------------------------------------------------------------
<S> <C>
1.1* Underwriting Agreement dated , 1995 by and among Acceptance Insurance
Companies Inc., Smith Barney Inc., Advest, Inc. and Oppenheimer & Co., Inc.
4.1 Form of Stock Certificate representing shares of Acceptance Insurance Companies
Inc. Common Stock, $.40 par value. Incorporated by reference to the Acceptance
Insurance Companies Inc. Annual Report on Form 10-K for the year ended December
31, 1992.
4.3* Form of Indenture relating to % Convertible Subordinated Notes due 2005
(including Form of Note).
5* Opinion of Crosby, Guenzel, Davis, Kessner & Kuester, Counsel for the Registrant.
12.1 Statement re: Computation of Ratios of Earnings to Fixed Charges.
12.2 Statement re: Computation of Pro Forma Ratios of Earnings to Fixed Charges.
23.1 Consent of Deloitte & Touche LLP.
23.2 Consent of Price Waterhouse LLP.
23.3* Consent of Crosby, Guenzel, Davis, Kessner & Kuester.
25* Statement of Eligibility of Trustee.
28 Schedule P -- Analysis of Losses and Loss Expenses of Consolidated Annual
Statement for the year 1993. Incorporated by reference to the Acceptance Insurance
Companies Inc. Annual Report on Form 10-K for the year ended December 31, 1993.
</TABLE>
- -------------------------
* To be filed by amendment
<PAGE> 1
EXHIBIT 12.1
ACCEPTANCE INSURANCE COMPANIES INC.
COMPUTATION OF RATIOS OF EARNINGS TO FIXED CHARGES
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR YEAR 4 MONTHS YEAR YEAR YEAR 9 MONTHS 9 MONTHS
ENDED ENDED ENDED ENDED ENDED ENDED ENDED ENDED
AUGUST AUGUST DECEMBER DECEMBER DECEMBER DECEMBER SEPTEMBER SEPTEMBER
31, 1989 31, 1990 31, 1990 31, 1991 31, 1992 31, 1993 30, 1993 30, 1994
-------- -------- -------- --------- --------- --------- --------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Pre-tax
income
from
continuing
operations... $ (5,679) $ (6,016) $ (1,341) $(23,258) $ (610) $ 7,991 $ 5,757 $11,194
Add:
Share
of net
loss of
investee... 320 1,018 470 1,179 1,165 301 263 219
Fixed
charges... 2,335 4,112 2,149 5,902 4,766 2,625 2,152 1,713
Deduct:
Minority
interest
in net
income of
consolidated
subsidiaries... -- -- -- -- (216) (238) (148) (80)
------------ --------- --------- ---------- -------- ---------- --------- ----------
Pre-tax
income
from
continuing
operations,
as
adjusted... $ (3,024) $ (886) $ 1,278 $(16,177) $5,105 $ 10,679 $ 8,024 $13,046
============ ========= ========= ========== ======== ========== ========= ==========
Fixed
charges:
Interest
expense... $ 2,260 $ 3,987 $ 2,092 $ 5,712 $4,428 $ 2,235 $ 1,889 $ 1,160
Fixed
charge
component
of rental
expense... 75 125 57 190 338 390 263 553
------------ --------- --------- ---------- -------- ---------- --------- ----------
Total
fixed
charges... $ 2,335 $ 4,112 $ 2,149 $ 5,902 $4,766 $ 2,625 $ 2,152 $ 1,713
============== ========== ========= ========== ======== ========== ========= ==========
Ratio
of
earnings
to fixed
charges... (1.30)x (0.22)x 0.59x (2.74)x 1.07x 4.07x 3.73x 7.62x
============ ========= ========= ========== ======== ========== ========= ==========
Coverage
deficiency... $ 5,359 $ 4,998 $ 871 $ 22,079
============ ========= ========= ==========
</TABLE>
<PAGE> 1
EXHIBIT 12.2
ACCEPTANCE INSURANCE COMPANIES INC.
COMPUTATION OF PRO FORMA RATIOS OF EARNINGS TO FIXED CHARGES
(IN THOUSANDS)
<TABLE>
<CAPTION>
12 MONTHS 9 MONTHS
ENDED ENDED
DECEMBER 31, SEPTEMBER 30,
1993 1994
------------ -------------
<S> <C> <C>
Pre-tax income from continuing operations........................... $ 7,991 $11,194
Add:
Share of net loss of investee..................................... 301 219
Pro forma fixed charges........................................... 2,816 1,978
Deduct:
Minority interest in net income of consolidated subsidiaries...... (238) (80)
------------ -------------
Pro forma pre-tax income from continuing operations, as adjusted.... $ 10,870 $13,311
========== ==========
Pro forma fixed charges:
Pro forma interest expense on debt refinanced..................... $ 1,308 $ 1,074
Interest expense on other debt.................................... 1,118 351
Fixed charge component of rental expense.......................... 390 553
------------ -------------
Total pro forma fixed charges..................................... $ 2,816 $ 1,978
========== ==========
Pro forma ratio of earnings to fixed charges........................ 3.86x 6.73x
========== ==========
</TABLE>
<PAGE> 1
EXHIBIT 23.1
INDEPENDENT AUDITORS' CONSENT
We consent to the use in this Registration Statement relating to the
issuance of convertible subordinated debt of Acceptance Insurance Companies Inc.
on Form S-3 of our report dated March 28, 1994, appearing in the Prospectus,
which is part of this Registration Statement, and to the references to us under
the heading "Experts" in such Prospectus. Such report includes an explanatory
paragraph regarding the change in accounting method as described in Note 1 to
the consolidated financial statements.
We consent to the incorporation by reference in the above mentioned
Registration Statement of the reports of Deloitte & Touche dated March 28, 1994,
appearing in the Annual Report on Form 10-K/A-2 of Acceptance Insurance
Companies Inc. for the year ended December 31, 1993.
We also consent to the incorporation by reference in the above mentioned
Registration Statement of the report of Deloitte & Touche dated April 20, 1992
(July 7, 1993 as to Note P) relating to the consolidated financial statements of
The Redland Group, Inc. and subsidiaries for the years ended December 31, 1991
and 1990, appearing in the Current Report on Form 8-K of Acceptance Insurance
Companies Inc. dated July 2, 1993.
DELOITTE & TOUCHE LLP
Omaha, Nebraska
February 21, 1995
<PAGE> 1
EXHIBIT 23.2
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporation by reference in the Registration
Statement on Form S-3 of Acceptance Insurance Companies Inc. of our report
relating to the consolidated financial statements of the Redland Group, Inc. and
subsidiaries which appears in the Current Report on Form 8-K of Acceptance
Insurance Companies Inc. dated July 2, 1993. We also consent to the reference to
us under the heading of "Experts" in the Prospectus which is a part of this
Registration Statement.
PRICE WATERHOUSE LLP
Dallas, Texas
February 21, 1995
