SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[xx] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission File Number 1-7461
ACCEPTANCE INSURANCE COMPANIES INC.
(Exact name of registrant as specified in its charter)
Delaware 31-0742926
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
222 South 15th St., Suite 600 N.
Omaha, Nebraska 68102
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (402) 344-8800
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
YES XX NO
The number of shares of each class of the Registrant's common stock outstanding
on May 11, 1999 was:
Class of Common Stock No. of Shares Outstanding
Common Stock, $.40 Par Value 14,244,104
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
FORM 10-Q
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Balance Sheets
March 31, 1999 (unaudited) and December 31, 1998 (audited)
Consolidated Statements of Operations (unaudited)
Three Months Ended March 31, 1999 and 1998
Consolidated Statements of Cash Flows (unaudited)
Three Months Ended March 31, 1999 and 1998
Notes to Interim Consolidated Financial Statements(unaudited)
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
Signatures
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
(unaudited) (audited)
_____________ ____________
ASSETS
<S> <C> <C>
Investments:
Fixed maturities available-for-sale..................................... $ 351,555 $ 337,107
Marketable equity securities - preferred stock.......................... 22,363 27,316
Marketable equity securities - common stock........................... 40,636 44,371
Mortgage loans and other investments.................................... 9,391 9,549
Real estate............................................................. 3,297 3,300
Short-term investments, at cost, which approximates
market................................................................ 75,276 67,754
_____________ ___________
502,518 489,397
Cash....................................................................... 5,877 6,897
Receivables, net........................................................... 153,616 185,951
Reinsurance recoverable on unpaid losses and loss
adjustment expenses...................................................... 224,067 238,769
Prepaid reinsurance premiums............................................... 72,000 76,663
Property and equipment, net................................................ 17,126 16,425
Deferred policy acquisition costs.......................................... 24,346 25,433
Excess of cost over acquired net assets.................................... 33,085 33,363
Deferred income tax........................................................ 5,561 6,901
Other assets............................................................... 17,990 13,144
_____________ __________
Total assets........................................................ $ 1,056,186 $1,092,943
============= ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Losses and loss adjustment expenses........................................ $ 496,378 $ 524,744
Unearned premiums.......................................................... 154,855 162,037
Amounts payable to reinsurers.............................................. 45,937 35,840
Accounts payable and accrued liabilities................................... 13,591 24,293
Bank borrowings............................................................ 15,000 15,000
Company - obligated mandatorily redeemable Preferred Securities of
AICI Capital Trust, holding solely Junior Subordinated Debentures
of the Company........................................................... 94,875 94,875
____________ ___________
Total liabilities ................................................. 820,636 856,789
Contingencies.............................................................. -- --
Stockholders' equity:
Preferred stock, no par value, 5,000,000 shares
authorized, none issued............................................... -- --
Common stock, $.40 par value, 40,000,000
shares authorized, 15,473,004 and 15,466,860
shares issued......................................................... 6,189 6,187
Capital in excess of par value.......................................... 198,749 198,657
Accumulated other comprehensive
income, net of tax.................................................... 1,583 5,305
Retained earnings....................................................... 55,305 52,281
______________ ___________
261,826 262,430
Less:
Treasury stock, at cost, 1,209,520 shares.............................. (26,047) (26,047)
Contingent stock, 20,396 shares....................................... (229) (229)
______________ ___________
Total stockholders' equity............................................ 235,550 236,154
______________ ___________
Total liabilities and stockholders' equity............................ $ 1,056,186 $1,092,943
============== ===========
</TABLE>
The accompanying notes are an integral part of the
interim consolidated financial statements.
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
for the three months ended March 31, 1999 and 1998
(in thousands, except per share data)
(unaudited)
<TABLE>
<CAPTION>
1999 1998
________ _______
<S> <C> <C>
Revenues:
Insurance premiums earned...................................................... $ 53,571 $69,003
Net investment income.......................................................... 6,244 6,920
Net realized capital gains..................................................... 2,480 2,841
________ ________
62,295 78,764
Costs and expenses:
Costs of revenues:
Insurance losses and loss adjustment expenses................................. 36,876 46,301
Insurance underwriting expenses............................................... 18,168 21,200
General and administrative expenses........................................... 553 656
_________ ________
55,597 68,157
_________ ________
Operating profit.................................................................. 6,698 10,607
_________ ________
Other income (expense):
Interest expense.............................................................. (2,390) (2,165)
Share of net loss of investee................................................. -- (704)
Other, net.................................................................... 14 34
_________ ________
(2,376) (2,835)
_________ ________
Income before income taxes and cumulative effect
of change in accounting principles ........................................... 4,322 7,772
Income tax expense (benefit):
Current........................................................................ (2,567) 1,409
Deferred..................................................................... 3,527 205
_________ _______
Income before cumulative effect of change in
accounting principles........................................................... 3,362 6,158
Cumulative effect of change in accounting principles.............................. 338 --
__________ _______
Net income........................................................................ $ 3,024 $ 6,158
========== ========
Earnings (loss) per share:
Basic:
Income before cumulative effect of change in
accounting principles...................................................... $ .24 $ .40
Cumulative effect of change in accounting principles........................... (.02) --
Net income..................................................................... .21 .40
Diluted:
Income before cumulative effect of change in
accounting principles........................................................ $ .23 $ .40
Cumulative effect of change in accounting principles.......................... (.02) --
Net income..................................................................... .21 .40
</TABLE>
The accompanying notes are an integral part of the
interim consolidated financial statements.
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
for the three months ended March 31, 1999 and 1998
(in thousands)
(unaudited)
<TABLE>
<CAPTION>
1999 1998
_____________ _____________
<S> <C> <C>
Cash flows from operating activities:
Net income...................................................................... $ 3,024 $ 6,158
Net adjustment to reconcile net income to net cash provided by
operating activities.......................................................... 14,064 48,457
______________ ____________
Net cash provided by operating activities................................... 17,088 54,615
______________ ____________
Cash flows from investing activities:
Proceeds from sales of investments available-for-sale......................... 49,422 31,308
Proceeds from maturities of investments ........................................ 1,147 1,223
Proceeds from maturities of investments available-for-sale...................... 16,712 19,138
Purchases of investments........................................................ (22,918) (985)
Purchases of investments available-for-sale..................................... (75,247) (107,804)
Purchases of property and equipment............................................. (1,765) (1,075)
______________ ___________
Net cash used for investing activities..................................... (32,649) (58,195)
______________ ___________
Cash flows from financing activities:
Proceeds from issuance of common stock.......................................... 94 268
______________ ___________
Net cash provided by financing activities.................................. 94 268
______________ ___________
Net increase (decrease) in cash and short-term investments......................... (15,467) (3,312)
Cash and short-term investments at beginning of period............................. 72,822 38,316
______________ ___________
Cash and short-term investments at end of period................................... $ 57,355 $ 35,004
============== ===========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest........................................ $ 2,360 $ 2,135
============== ===========
Cash paid during the period for income taxes.................................... $ (7,184) $ 4
============== ===========
</TABLE>
The accompanying notes are an integral part of the
interim consolidated financial statements.
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
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 its 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 March 31, 1999 and
December 31, 1998, and the results of operations for the three months ended
March 31, 1999 and 1998 and cash flows for the three months ended March 31,
1999 and 1998.
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 March 31, 1999 approximately $23,798,000 of short-term
investments had a maturity date at acquisition of greater than three months.
Recent Statements of Financial Accounting Standards
In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 133 (SFAS No. 133),
"Accounting for Derivative Instruments and Hedging Activities", which
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts, and
for hedging activities. SFAS No. 133 is effective for all fiscal quarters of
fiscal years beginning after June 15, 1999. Management does not expect the
adoption of SFAS No. 133 to have a material impact to the Company's
consolidated financial statements.
Change in Accounting Principles
In December 1997, the Accounting Standards Executive Committee of the
American Institute of Certified Public Accountants (AcSEC) issued Statement
of Position 97-3, "Accounting by Insurance and Other Enterprises for
Insurance-Related Assessments" (SOP 97-3). SOP 97-3 provides guidance for
determining when an entity should recognize a liability for guaranty-fund
and other insurance-related assessments, how to measure that liability, and
when an asset may be recognized for the recovery of such assessments through
premium tax offsets. The Company adopted SOP 97-3 on January 1, 1999
resulting in a cumulative effect of change in accounting principles of
$338,000.
Reclassifications
Certain prior period amounts have been reclassified to conform with current
year presentation.
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS, Continued
(unaudited)
2. Investments:
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>
March 31, 1999:
Fixed maturities available-for-sale:
U.S. Treasury and government
securities............................. $ 110,360 $ 816 $ 526 $ 110,650
States, municipalities and political
subdivisions........................... 165,630 4,449 379 169,700
Mortgage-backed securities............... 33,746 36 445 33,337
Other debt securities.................... 42,497 886 5,515 37,868
____________ ____________ ___________ ___________
$ 352,233 $ 6,187 $ 6,865 $ 351,555
============ ============ =========== ===========
Marketable equity securities -
preferred stock........................ $ 22,342 $ 538 $ 517 $ 22,363
============ ============ =========== ===========
Marketable equity securities -
common stock........................... $ 37,546 $ 8,686 $ 5,596 $ 40,636
============ ============ =========== ===========
December 31, 1998:
Fixed maturities available-for-sale:
U.S. Treasury and government
securities............................. $ 77,671 $ 1,228 $ 114 $ 78,785
States, municipalities and political
subdivisions........................... 161,017 6,278 93 167,202
Mortgage-backed securities............... 38,475 42 590 37,927
Other debt securities.................... 56,786 1,795 5,388 53,193
____________ ____________ ___________ ___________
$ 333,949 $ 9,343 $ 6,185 $ 337,107
============ ============ =========== ===========
Marketable equity securities -
preferred stock........................ $ 27,246 $ 494 $ 424 $ 27,316
============ ============ =========== ===========
Marketable equity securities -
common stock........................... $ 39,438 $ 9,718 $ 4,785 $ 44,371
============ ============ =========== ===========
</TABLE>
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS, Continued
(unaudited)
3. Insurance Premiums and Claims:
Insurance premiums written and earned by the Company's insurance
subsidiaries for the three months ended March 31, 1999 and 1998 are
as follows (in thousands):
<TABLE>
<CAPTION>
1999 1998
__________ __________
<S> <C> <C>
Direct premiums written.......................................... $ 121,647 $ 128,328
Assumed premiums written......................................... 4,467 9,032
Ceded premiums written........................................... (75,062) (61,768)
__________ __________
Net premiums written......................................... $ 51,052 $ 75,592
========== ==========
Direct premiums earned........................................... $ 126,799 $ 121,671
Assumed premiums earned.......................................... 6,497 9,644
Ceded premiums earned............................................ (79,725) (62,312)
__________ __________
Net premiums earned.......................................... $ 53,571 $ 69,003
========== ==========
</TABLE>
Insurance loss and loss adjustment expenses have been reduced by
recoveries recognized under reinsurance contracts of approximately
$62,513,000 and $23,417,000 for the three months ended March 31, 1999
and 1998, respectively.
4. Bank Borrowings:
The Company's $65 million Revolving Credit Facility with its bank
lenders is subject to automatic reductions on a quarterly basis
beginning March 31, 1999. The reduction at March 31, 1999 reduced the
Revolving Credit Facility to $63.5 million. The Company selects its
interest rate as either the prime rate or LIBOR plus a margin of .50%
to 1.25% depending on the Company's debt to equity ratio. Interest is
payable quarterly. At March 31, 1999, the Company had $15 million
outstanding under this arrangement at a weighted average interest cost
of 6.0%.
5. Company-obligated mandatorily redeemable Preferred Securities of AICI
Capital Trust, holding solely Junior Subordinated Debentures of the
Company:
In 1997, AICI Capital Trust, a Delaware business trust organized by
the Company (the "Issuer Trust") issued 3.795 million shares or
$94.875 million aggregate liquidation amount of its 9% Preferred
Securities (liquidation amount $25 per Preferred Security). The
Company owns all of the common securities (the "Common Securities") of
the Issuer Trust. The Preferred Securities represent preferred
undivided beneficial interests in the Issuer Trust's assets. The
assets of the Issuer Trust consist solely of the Company's 9% Junior
Subordinated Debentures due 2027 which were issued in 1997 in an
amount equal to the total of the Preferred Securities and the Common
Securities.
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS, Continued
(unaudited)
Distributions on the Preferred Securities and Junior Subordinated
Debentures are cumulative, accrue from the date of issuance and are
payable quarterly in arrears. The Junior Subordinated Debentures are
subordinate and junior in right of payment to all senior indebtedness
of the Company and are subject to certain events of default and
redemption provisions, all as described in the Junior Debenture
Indenture. At March 31, 1999, the Company had $94.875 million
outstanding at a weighted average interest cost of 9.1%.
6. Income Taxes:
As of March 31, 1999, management believes it is more likely than not
that the Company will realize a portion of the deferred tax asset.
The valuation allowance at March 31, 1999 primarily relates to capital
loss items whose realization is uncertain. The net deferred tax asset
is as follows (in thousands):
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
__________ ___________
<S> <C> <C>
Unpaid losses and loss adjustment expenses................................. 10,723 12,512
Unearned premiums.......................................................... 5,800 5,976
Allowances for doubtful accounts........................................... 1,895 1,822
Other...................................................................... 590 2,344
Unrealized loss on fixed maturities available-for-sale..................... 237 --
_________ __________
Deferred tax asset......................................................... 19,245 22,654
_________ __________
Deferred policy acquisition costs.......................................... (8,521) (8,902)
Other...................................................................... (2,130) (2,051)
Unrealized gain on fixed maturities available-for-sale..................... -- (1,105)
Unrealized gain on marketable equity securities (1,089) (1,751)
Unrealized gain on consolidated subsidiaries held for sale................. (1,869) (1,869)
_________ _________
Deferred tax liability .................................................. (13,609) (15,678)
_________ _________
5,636 6,976
Valuation allowance........................................................ (75) (75)
_________ _________
Net deferred tax asset..................................................... $ 5,561 $ 6,901
========= =========
</TABLE>
Income taxes computed by applying statutory rates to income before
income taxes are reconciled to the provision for income taxes set forth
in the consolidated financial statements as follows (in thousands):
<TABLE>
<CAPTION>
March 31,
__________________________
1999 1998
_________ __________
<S> <C> <C>
Computed U.S. federal income taxes................................... $ 1,513 $ 2,721
Nondeductible amortization of goodwill and other intangibles.......... 114 109
Tax-exempt interest income............................................ (622) (570)
Dividends received deduction.......................................... (205) (239)
Recognition of a portion of the deferred tax asset.................... -- (1,036)
Other................................................................. 160 629
_________ __________
Income taxes provided........................................... $ 960 $ 1,614
========= ==========
</TABLE>
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS, Continued
(unaudited)
7. Net Income Per Share:
Basic and diluted net income per share for the three months ended
March 31, 1999, and 1998 are as follows:
<TABLE>
<CAPTION>
March 31
________________________________
1999 1998
_________ __________
<S> <C> <C>
Income before cumulative effect of change in accounting principles $ 3,362 $ 6,158
Cumulative effect of change in accounting principles 338 --
_________ __________
Net income $ 3,024 $ 6,158
========= ==========
Weighted average common shares outstanding 14,241 15,210
Dilutive effect of contingent shares 21 21
Dilutive effect of stock options 80 224
_________ __________
Diluted weighted average common and equivalent shares outstanding 14,342 15,455
========= ==========
Earnings (loss) per share:
Basic:
Income before cumulative effect of change in
accounting principles $ .24 $ .40
Cumulative effect of change in accounting principles (.02) --
Net income .21 .40
Diluted:
Income before cumulative effect of change in
accounting principles $ .23 $ .40
Cumulative effect of change in accounting principles (.02) --
Net income .21 .40
</TABLE>
8. Comprehensive Income:
Effective January 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income." The comprehensive income, for the quarters
ended March 31, 1999, and 1998 are as follows:
<TABLE>
<CAPTION>
March 31,
________________________________
1999 1998
_________ __________
<S> <C> <C>
Net income $ 3,024 $ 6,158
Other comprehensive income:
Unrealized gains (losses) of investments,
net of reclassification adjustments (5,726) 3,719
Deferred income tax expense (benefit) on changes (2,004) 1,302
_________ __________
Other comprehensive income (3,722) 2,417
__________ __________
Comprehensive income $ (698) $ 8,575
========== ==========
</TABLE>
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS, Continued
(unaudited)
9. Business Segments:
The Company is engaged in the specialty property and casualty and the
crop insurance business. The Property and Casualty Insurance segment
consists of excess and surpus lines liability and property, substandard
property, specialty automobile, workers' compensation, professional
liability, and specialty coverages for transportation risks, temporary
help agencies, condominiums, rural markets, and fine arts. The
principal lines of the Crop Insurance segment are MPCI and crop hail
insurance.
The accounting policies of the segments are the same as those described
in the summary of significant accounting policies. Management evaluates
the performance of and allocates it resources to its operating segments
based on income before income taxes. Interest income and interest
expense are primarily allocated to segments based upon estimated
investments and capital, respectively. For the three months ended March
31, 1999 and 1998, there were no material intersegment transactions.
Management does not utilize assets as a significant measurement tool
for evaluating segments.
Segment revenues and segment operating profit for the three months
ended March 31 are as follows:
<TABLE>
<CAPTION>
Property and
Casualty Crop
Insurance Insurance Total
_____________ __________ __________
<S> <C> <C> <C>
1999
Revenues $ 61,123 $ 1,172 $ 62,295
============= ========== ==========
Operating profit (loss) 5,511 1,187 6,698
Interest expense and other 1,435 941 2,376
____________ __________ __________
Income before income taxes $ 4,076 $ 246 $ 4,322
============= ========== ==========
1998
Revenues $ 74,429 $ 4,335 $ 78,764
============= ========== ==========
Operating profit (loss) 6,281 4,326 10,607
Interest expense and other 1,920 915 2,835
_____________ __________ __________
Income before income taxes $ 4,361 $ 3,411 $ 7,772
============= =========== ==========
</TABLE>
The Company does not have a single customer which represents 10% or
more of its consolidated revenues. In addition, substantially all
revenue of the Company's reportable segments are attributed to or
located in the United States.
10. Subsequent Event:
On May 11, 1999, the Company entered into a definitive agreement with
Millers American Group, Inc. ("Millers") for the sale of the Company's
non-standard automobile business, including Phoenix Indemnity
Insurance Company ("Phoenix Indemnity") to Millers. Under this
agreement, the Company will transfer all of its non-standard automobile
business and all outstanding stock of Phoenix Indemnity to Millers in
exchange for approximately $25 million in cash. The sale is subject to
customary regulatory approvals. At closing, the effect of the
transaction to after-tax income is expected to be immaterial.
<PAGE>
PART 1.
ITEM 2.
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
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 is based
upon the Company's interim consolidated financial statements and the notes
thereto included in this report.
RESULTS OF OPERATIONS
Forward-Looking Information
Except for the historical information contained in this Quarterly Report on
Form 10-Q, matters discussed herein may constitute forward-looking information,
within the meaning of the Private Securities Litigation Reform Act of 1995.
Such forward-looking information reflects the Company's current best estimates
regarding future operations, but, since these are only estimates, actual
results may differ materially from such estimates.
A variety of events, most of which are outside the Company's control, cannot be
accurately predicted and may materially impact estimates of future operations.
Important among such factors are weather conditions, natural disasters, changes
in state and federal regulations, price competition impacting premium levels,
changes in tax laws, financial market performance, changes in court decisions
effecting coverages, and general economic conditions.
The Company's results are significantly impacted by its crop business,
particularly its MPCI line. Results from the crop lines are not generally
known until the third and fourth quarters of the year, after crops are
harvested. Crop results are particularly dependent on events beyond the
Company's control, notably weather conditions during the crop growing season in
the states where the Company writes a substantial amount of its crop insurance,
and, with the introduction of the Company's Crop Revenue Coverage, the market
price of grains on various commodity exchanges. Additionally, federal
regulations governing aspects of crop insurance are frequently modified, and
any such changes may impact crop insurance results.
Forward-looking information set forth herein does not take into account any
impact from any adverse weather conditions during the 1999 crop season, or the
various other factors noted above which may affect crop and non-crop operating
results.
Three months ended March 31, 1999
Compared to three months ended March 31, 1998
The Company's operating profit and net income decreased 36.9% and 50.9%
respectively during the three months ended March 31, 1999 as compared to the
same period in 1998. The reduction in operating profit and net income was
effected by a reduction in net premiums written in the Company's property and
casualty segment, reduced underwriting expenses, improved underwriting results
in the Company's property and casualty segment, lower general and
administrative expenses, a reduction in investment income and realized gains,
and higher interest expense. Certain non-recurring events also effected the
quarter to quarter comparisons from 1998 to 1999. During the first quarter of
1998, the Company benefited from additional profit sharing earned in the
previous year under the Company's Multi-Peril Crop Insurance program. Results
in the first quarter of 1999 were negatively impacted by charges associated
with the previously announced restructuring of the Company's property and
casualty segment. In addition, the net income of the Company was effected in
the first quarter of 1999 by the cumulative effect of a change in accounting
principles adopted on January 1, 1999.
The Company previously announced a restructuring of its property and casualty
segment in which approximately one-third of its property and casualty gross
written premiums for 1998 were discontinued. Accordingly, during the first
quarter of 1999, the Company's net premiums written declined by 32.5% as
compared to the first quarter of 1998. Insurance underwriting expenses in the
first quarter of 1999 declined from the first quarter of 1998, but only by
14.3%. The Company's ratio of losses and loss adjustment expenses incurred to
earned premiums, however, fell by 1.9% from 69.7% during the first quarter of
1998 to 67.8% during the first quarter of 1999, and the Company's general and
administrative expenses fell by 15.7% in the first three months of 1999 as
compared to the same period in 1998.
<PAGE>
The Company's net investment income declined from approximately $6.9 million
during the first three months of 1998 to $6.2 million during the first three
months of 1999. While the size of the Company's investment portfolio increased
from an average outstanding portfolio of $471.8 million during the three months
ended March 31, 1998 to an average outstanding portfolio of $487.4 million
during the three months ended March 31, 1999, the Company's yield declined
from 5.87% during the first quarter of 1998 to 5.12% during the first quarter
of 1999. This decrease in yield resulted as several of the Company's higher
yielding preferred stock investments were called and the size of the Company's
holdings in tax advantaged municipal securities increased, and as overall
interest rates decreased by approximately 60 basis points from the first
quarter of 1998 to the first quarter of 1999. As the Company discontinued
nearly one-third of its property and casualty business, the duration of the
portfolio was shortened and the overall credit quality of the portfolio
improved in order to maintain needed liquidity. In addition, net realized
gains for the first quarter of 1999 were $2.5 million as compared to net
realized capital gains in the first quarter of 1998 of $2.8 million, a 12.7%
reduction.
The Company's net income was also affected by a 10.4% increase in interest
expense for the first quarter of 1999 as compared to the first quarter of 1998.
This was principally a result of increased borrowings by the Company as average
borrowings increased from $94.9 million during the three months ended March 31,
1998 to $109.9 million during the three months ended March 31, 1999. The
additional borrowings were made under the Company's Revolving Credit Facility
(see "Liquidity and Capital Resources - The Company Parent Only") in order to
finance a portion of the Company's stock repurchase program. The Company
expects to pay down substantially all of its current borrowings under the
Revolving Credit Facility during the second quarter of 1999.
The Company's results for the first quarter of 1999 as compared to the first
quarter of 1998 were also affected by certain non-recurring events. During the
first quarter of 1998, the Company recognized underwriting profits of $3.2
million in its crop segment as compared with a loss of $.1 million during the
first quarter of 1999. In the first quarter of 1998, profit was derived from
the recording of additional profit sharing from the previous year under the
Company's Multi-Peril Crop Insurance program. The Company's estimate of its
profit sharing under the MPCI program at December 31, 1997 was affected by a
severe early winter snowstorm which affected geographic areas where the Company
had a high concentration of crop insurance. As the crops were harvested, the
effect of this snowstorm was minimal, and therefore, the Company made an
adjustment during the first quarter of 1998 for its previous year's results.
During the fourth quarter of 1998, a severe freeze in California affected the
Company's crop writings in that geographic area. Negative development during
the first quarter of 1999 from this event offset positive development elsewhere
in the Company's crop operations. Consequently, during the first quarter of
1999, there was no benefit from additional profit sharing earned in prior years.
Also during the first quarter of 1999, the Company experienced increased demand
for its crop segment products, particularly products sold under the federally
subsidized Multi-Peril Crop Insurance program and the Company's proprietary
Crop Revenue Coverage Plus product. The Company records premiums and expenses
associated with these products in the third quarter of each year after final
planted acreages are reported and corresponding final premiums are calculated.
The effect of any potential losses associated with these products also cannot
be determined until the third and fourth quarter of the year as harvesting is
completed. Therefore, there is no material effect in the Company's results in
the first quarter of 1999 from this increase in sales activity. To respond to
this demand, and to obtain reinsurance capacity for the increase in premiums,
the Company elected to close its sales season early and reduce coverage offered
for some crops. The Company expects that the benefits of additional revenue
generated will be offset by increased expenses associated with obtaining
additional reinsurance capacity, processing the unexpected increase in volume
of business, regulatory compliance, and legal expense when revenues and
expenses are recognized in the third quarter of 1999. In addition, the Company
expects its exposure to net loss in 1999 to increase by approximately $5.0
million from historical levels. Premiums ceded to reinsurers also increased
in 1999 and may increase in future years in order to maintain needed
reinsurance capacity.
<PAGE>
The Company's net income in the first quarter of 1999 was also affected by the
cumulative effect of a change in accounting principles adopted on January 1,
1999. (See "Recent Accounting Standards"). The Company adopted SOP 97-3 on
January 1, 1999 resulting in a cumulative effect of a change in accounting
principles of $338,000.
Eliminating the effects of these non-recurring events, the Company increased
its operating profit by approximately 9.5% from $7.4 million during the first
quarter of 1998 to $8.1 million during the first quarter of 1999. This
improvement in operating profit is principally the result of the Company's
improved underwriting results in its property and casualty segment. The
Company's combined ratio of losses, loss adjustment expenses, and underwriting
expenses to net earned premiums improved from 102.6% during the first quarter
of 1998 to 100.0% during the first quarter of 1999, resulting in an
approximately $1.7 million improvement in the underwriting results of its
property and casualty segment.
Recent Accounting Standards
In June 1998, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards No. 133 (SFAS No. 133), "Accounting for
Derivative Instruments and Hedging Activities", which establishes accounting
and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities.
SFAS No. 133 is effective for all fiscal quarters of fiscal years beginning
after June 15, 1999. Management does not expect the adoption of SFAS No. 133 to
have a material impact to the Company's consolidated financial statements.
In December 1997, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants (AcSEC) issued Statement of Position
97-3, "Accounting by Insurance and Other Enterprises for Insurance-Related
Assessments" (SOP 97-3). SOP 97-3 provides guidance for determining when an
entity should recognize a liability for guaranty-fund and other
insurance-related assessments, how to measure that liability, and when an
asset may be recognized for the recovery of such assessments through premium
tax offsets. The Company adopted SOP 97-3 on January 1, 1999 resulting in a
cumulative effect of change in accounting principles of $338,000.
LIQUIDITY AND CAPITAL RESOURCES
The Company has included a discussion of the liquidity and capital resources
requirement of the Company and the Company's insurance subsidiaries.
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 two of its insurance
company subsidiaries and investments held at the holding company level. The
Company's primary sources of liquidity are receipts from interest payments on
the surplus notes, payments from the profit sharing agreement with American
Agrisurance, the Company's wholly owned subsidiary which operates as the
general agent for the Company's crop insurance programs, tax sharing payments
from its subsidiaries, investment income from, and proceeds from the sale of,
holding company investments, and dividends and other distributions from
subsidiaries of the Company. The Company's liquidity needs are primarily to
service debt, pay operating expenses and taxes, make investments in
subsidiaries, and repurchase shares of the Company's stock.
The Company currently holds three surplus notes, each in the amount of
$20 million, issued by two of its insurance company subsidiaries, bearing
interest at the rate of 9% per annum payable semi-annually and quarterly.
Although repayment of all or part of the principal of these surplus notes
requires prior insurance department approval, no prior approval of interest
payment is currently required.
Under the American Agrisurance profit sharing agreement, American Agrisurance
receives up to 50% of the crop insurance profit after expenses and a margin
retained by the Insurance Companies based upon a formula established by the
Company and approved by the Nebraska Department of Insurance. If the calculated
profit share is negative, such negative amounts are carried forward and offset
future profit sharing payments. These amounts are distributed in the form of a
dividend to the Company.
Dividends from the insurance subsidiaries of the Company are regulated by the
regulatory authorities of the states in which each subsidiary is domiciled.
The laws of such states generally restrict dividends from insurance companies
to parent companies to certain statutorily approved limits. In 1999, the
statutory limitation on dividends from insurance company subsidiaries to the
parent without further insurance departmental approval is approximately
$15.9 million.
<PAGE>
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 such subsidiaries on
a stand-alone basis.
In 1997, AICI Capital Trust, a Delaware business trust organized by the
Company (the "Issuer Trust") issued 3.795 million shares or $94.875 million
aggregate liquidation amount of its 9% Preferred Securities (liquidation amount
$25 per Preferred Security). The Company owns all of the common securities
(the "Common Securities") of the Issuer Trust. The Preferred Securities
represent preferred undivided beneficial interests in the Issuer Trust's
assets. The assets of the Issuer Trust consist solely of the Company's 9%
Junior Subordinated Debentures due 2027 which were issued in 1997 in an amount
equal to the Preferred Securities and the Common Securities. Distributions on
the Preferred Securities and Junior Subordinated Debentures are cumulative,
accrue from the date of issuance and are payable quarterly in arrears. The
Junior Subordinated Debentures are subordinate and junior in right of payment
to all senior indebtedness of the Company and are subject to certain events of
default and redemptive provisions, all described in the Junior Debenture
Indenture. At March 31, 1999, the Company had $94.875 million outstanding at
a weighted annual interest cost of 9.1%.
As of March 31, 1999, the Company maintains a five-year revolving credit
facility (the "Revolving Credit Facility") with its bank lenders in the amount
of $63.5 million. The Company selects its interest rate at either the prime
rate or LIBOR plus a margin which varies depending on the Company's funded debt
to equity ratio. Interest is payable quarterly. During the first quarter of
1999, the Company had $15 million outstanding indebtedness under this
arrangement at a weighted average cost of 6.0%. The Revolving Credit Facility
contains covenants which do not permit the payment of dividends by the Company,
requires the Company to maintain certain operating and debt service coverage
ratios, requires maintenance of specific levels of surplus and requires the
Company to meet certain tests established by the regulatory authorities.
As of March 31, 1999, the Company held cash and invested assets, excluding
investment in subsidiaries, of $17.9 million.
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 payments 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
acquisition and administration expenses.
In the crop hail business, premiums are generally not received until after the
harvest, while losses and other expenses are paid throughout the year.
The Company's profit or loss from its MPCI business is determined after the
crop season ends on the basis of a profit sharing formula established by law
and the RMA. Commencing with the 1997 year, the Company receives a profit
share in cash, with 60% of the amount in excess of 17.5% of its MPCI Retention
(as defined in the profit sharing agreement) in any year carried forward to
future years, or it must pay its share of losses. Prior to the 1997 year, the
amount carried forward to future years was any amount in excess of 15% of its
MPCI retention. The Company received $51.5 million in payments under the
MPCI program in March of 1999.
<PAGE>
Changes in Financial Condition
The Company's stockholders' equity decreased by approximately $.6 million at
March 31, 1999 as compared to December 31, 1998. The principal components of
this decrease were net income of $3.0 million during the first three months of
1999 and a decrease in the value of the Company's investment portfolio causing
the unrealized gain on available-for-sale securities, net of tax, to decrease
from $5.3 million at December 31, 1998 to $1.6 million at March 31, 1999. This
change in the unrealized gain on available-for-sale securities was attributable
to a decline in the unrealized gain in both the Company's equity and fixed
maturity portfolios.
Consolidated Cash Flows
Cash provided from operations for the three months ended March 31, 1999 and
1998, were $17.1 million and $54.6 million, respectively. The major components
of this decrease in cash flow from period to period were profit sharing
payments received from the federal government under the Company's MPCI crop
insurance program of $57.0 million in the first three months of 1998 compared
to $51.5 million in the first three months of 1999 and $15.2 million in
payments made in the first quarter of 1999 related to reinsurance on the
Company's discontinued lines of business.
Inflation
The Company does not believe that inflation has had a material impact on its
financial condition or the results of operations.
Quantitative and Qualitative Disclosure about Market Risk
The Company's balance sheet includes a significant amount of assets and
liabilities whose fair value are subject to market risk. Market risk is the
risk of loss arising from adverse changes in market interest rates or prices.
The Company currently has interest rate risk as it relates to its fixed
maturity securities and mortgage loans and equity price risk as it relates to
its marketable equity securities. In addition, the Company is also subject to
interest rate risk at the time of refinancing as it relates to its mandatorily
redeemable Preferred Securities. The Company's bank debt is short-term in
nature as the Company generally secures rates for periods ranging from one to
six months and therefore approximates fair value. The Company's market risk
sensitive instruments are entered into for purposes other than trading.
At March 31,1999, the Company had $360.9 million of fixed maturity securities
and mortgage loans and $63.0 million of marketable equity securities that were
subject to market risk. The Company's investment strategy is to manage the
duration of the portfolio relative to the duration of the liabilities while
managing interest rate risk. In addition, the Company has the ability to hold
its maturity investments until maturity and therefore would not expect to
recognize a material adverse impact on income or cash flows.
The Company's Preferred Securities of $94.875 million at March 31, 1999,
mature in August 2027 and are redeemable at the Company's option in August
2002. The Company will continue to monitor the interest rate environment and
evaluate refinancing opportunities as the redemption and maturity date
approaches.
The Company uses two models to analyze the sensitivity of its market risk
assets and liabilities. For its fixed maturity securities, mortgage loans and
mandatorily redeemable Preferred Securities, the Company uses duration modeling
to calculate changes in fair value. For its marketable equity securities, the
Company uses a hypothetical 20% decrease in the fair value of these securities.
Actual results may differ from the hypothetical results assumed in this
disclosure due to possible actions taken by management to mitigate adverse
changes in fair value and because fair values of securities may be affected by
credit concerns of the issuer, prepayment speeds, liquidity of the security and
other general market conditions. The sensitivity analysis duration model used
by the Company produces a loss in fair value of $17.4 million on its fixed
maturity securities and mortgage loans and a gain in fair value of $8.9 million
on its mandatorily redeemable Preferred Securities, based on a 100 basis point
increase in interest rates. The hypothetical 20% decrease in fair value of the
Company's marketable equity securities produces a loss in fair value of $12.6
million.
<PAGE>
Year 2000
The Year 2000 issue is the result of computer programs and microcontrollers
which recognize only two digits rather than four to identify the year. Any
computer program or microcontroller that has a date sensitive function may
recognize a date of "00" as the year 1900 rather than the year 2000. If not
corrected, this could cause computers and other devices dependent upon
microcontrollers to fail or perform miscalculations.
The Company previously identified its information technology ("IT") systems
requiring modification to be Year 2000 compliant. The Company developed and
continues to implement a corrective plan utilizing both internal and external
resources to make necessary modifications to, and to test, the Company's IT
systems for Year 2000 compliance. The Company has addressed the Year 2000 issue
with respect to the majority of the Company's IT systems and believes that they
are Year 2000 compliant and management expects the remaining Company IT systems
to be Year 2000 compliant by September 1, 1999.
Additionally, the Company is reviewing its Non-IT systems which rely on
microprocessors, such as copiers, fax machines, telephone equipment and mail
room equipment, to determine whether they require modification to be Year 2000
compliant. The Company currently also is communicating with the lessors and
other providers of its Non-IT systems in regards to their Year 2000 compliance
status.
The Company relies on various third parties in the normal course of its
operations and has identified certain third parties with which it has material
relationships. These include insurance producers, reinsurers, government
agencies, banks and providers of telecommunication and utility. The Company
currently is communicating with these material third parties to determine if
they are Year 2000 compliant.
One of the more significant third parties is the Risk Management Agency ("RMA")
which, along with the Federal Crop Insurance Corporation ("FCIC"), administers
the federal crop insurance program. The RMA calculates and settles the
Company's MPCI profit share and expense reimbursement. The RMA has publicly
stated that all RMA and FCIC systems will be Year 2000 compliant as of the
filing date of this 10-Q.
The Company has conducted a comprehensive review of potential claims related to
Year 2000 issues which might be submitted in conjunction with policies of
insurance it currently underwrites. Although the Company has concluded Year
2000 exposures are not covered under its existing insurance policies, the
Company is acting to eliminate, reduce or mitigate potential claims for
coverage of Year 2000 exposures through the use of exclusionary language, new
underwriting procedures and pricing practices, withdrawal from certain classes
of business, and establishment of a specialized unit within its claims
department to respond to such claims.
The Company has expensed costs of approximately $2.9 million relating to the
year 2000 issue since inception of the project, and did not incur any expenses
during the three months ended March 31, 1999. The Company anticipates an
additional $.3 to $.8 million of expenses to complete the project.
Although the Company plans to have addressed the Year 2000 issues prior to
being affected by such issues, it currently is assessing the need to develop
contingency plans, particularly with respect to certain third parties with whom
it has material relationships. The Company anticipates this assessment will be
complete, and contingency plans with respect to certain third parties will be
in the development stage, by September 1999.
Particularly because of the potentially wide-scale disruption of general
infrastructure and business systems, and despite the Company's activities in
regards to the Year 2000 issue, there can be no assurance that computer and
microcontroller failures related to the Year 2000 will not interfere with the
Company's normal business operations, result in unintended and unexpected
claims under policies of insurance written by the Company, or otherwise have a
material adverse affect upon the Company's business, financial condition and
results of operations.
Subsequent Event
On May 11, 1999, the Company entered into a definitive agreement with Millers
American Group, Inc. ("Millers") for the sale of the Company's non-standard
automobile business, including Phoenix Indemnity Insurance Company ("Phoenix
Indemnity") to Millers. Under this agreement, the Company will transfer all of
its non-standard automobile business and all outstanding stock of Phoenix
Indemnity to Millers in exchange for approximately $25 million in cash. The
sale is subject to customary regulatory approvals. At closing, the effect of
the transaction to after-tax income is expected to be immaterial.
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
See Exhibit Index.
(b) No reports on Form 8-K were filed by the registrant during the
quarter for which this report is filed.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ACCEPTANCE INSURANCE COMPANIES INC.
May 11, 1999 /s/ Kenneth C. Coon
___________________________________
Kenneth C. Coon
Chief Executive Officer
May 11, 1999 /s/ Georgia M. Mace
___________________________________
Georgia M. Mace
Treasurer and Chief Financial Officer
<PAGE>
ACCEPTANCE INSURANCE COMPANIES INC. AND SUBSIDIARIES
QUARTERLY REPORT ON FORM 10-Q
FOR THE THREE MONTHS ENDED MARCH 31, 1999
EXHIBIT INDEX
NUMBER EXHIBIT DESCRIPTION
27 Financial Data Schedule.
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
This schedule contains summary financial information extracted from the
unaudited consolidated financial statements included in the Form 10-Q and is
qualified in its entiretly by reference to such financial statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<DEBT-HELD-FOR-SALE> 351,555
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 62,999
<MORTGAGE> 9,391
<REAL-ESTATE> 3,297
<TOTAL-INVEST> 502,518
<CASH> 5,877
<RECOVER-REINSURE> 32,376
<DEFERRED-ACQUISITION> 24,346
<TOTAL-ASSETS> 1,056,186
<POLICY-LOSSES> 496,378
<UNEARNED-PREMIUMS> 154,855
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 109,875
0
0
<COMMON> 6,189
<OTHER-SE> 229,361
<TOTAL-LIABILITY-AND-EQUITY> 1,056,186
53,571
<INVESTMENT-INCOME> 6,244
<INVESTMENT-GAINS> 2,480
<OTHER-INCOME> 0
<BENEFITS> 36,876
<UNDERWRITING-AMORTIZATION> 1,087
<UNDERWRITING-OTHER> 17,081
<INCOME-PRETAX> 4,322
<INCOME-TAX> 960
<INCOME-CONTINUING> 3,362
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 338
<NET-INCOME> 3,024
<EPS-PRIMARY> .21
<EPS-DILUTED> .21
<RESERVE-OPEN> 0<F1>
<PROVISION-CURRENT> 0<F1>
<PROVISION-PRIOR> 0<F1>
<PAYMENTS-CURRENT> 0<F1>
<PAYMENTS-PRIOR> 0<F1>
<RESERVE-CLOSE> 0<F1>
<CUMULATIVE-DEFICIENCY> 0<F1>
<FN>
<F1>This amount is presented on an annual basis. See 12/31/98 Form 10-K for the
most recent reported amounts.
</FN>
</TABLE>
