================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
---------------------
FORM 10-K
(Mark One)
|x| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1998
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______________ to _______________
Commission file number 0-13891
NAC RE CORP.
(Exact name of registrant as specified in its charter)
-----------------
Delaware 13-3297840
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
One Greenwich Plaza, Greenwich, CT 06836-2568
(Address of principal executive offices)
Registrant's telephone number, including area code: (203) 622-5200
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
Common Stock, par value $.10 per share New York Stock Exchange
Preferred Stock Purchase Rights New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
None
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |x| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |_|
The aggregate market value as of March 3, 1999 of the voting stock held by
non-affiliates of the registrant was approximately $928 million.
There were 18,421,506 shares outstanding of the Registrant's Common Stock,
$.10 par value as of March 3, 1999.
================================================================================
<PAGE>
NAC RE CORP. AND SUBSIDIARIES
Table of Contents
Page
Item Number
- ---- ------
PART I
1. Business 1
2. Properties 15
3. Legal Proceedings 15
4. Submission of Matters to a Vote of Security Holders 15
PART II
5. Market for the Registrant's Common Stock and Related Stockholder
Matters 15
6. Selected Financial Data 17
7. Management's Discussion and Analysis of Financial Condition 18
and Results of Operations
8. Financial Statements and Supplementary Data 32
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosures 59
PART III
10. Directors and Executive Officers 59
11. Executive Compensation 62
12. Security Ownership of Certain Beneficial Owners and Management 75
13. Certain Relationships and Related Transactions 77
PART IV
14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 77
<PAGE>
PART I
Item 1. Business
Recent Developments
On February 15, 1999, NAC Re Corp. ("NAC Re") entered into an Agreement
and Plan of Merger (the "Merger Agreement") with XL Capital Ltd ("XL") pursuant
to which NAC Re will merge into a wholly-owned subsidiary of XL in an all stock
transaction. NAC Re shareholders will receive 0.915 of an XL Class A voting
ordinary share for each share of NAC Re Common Stock in a tax-free exchange of
shares. XL plans to account for the merger as a "pooling-of-interests" under
U.S. generally accepted accounting principles ("GAAP"). The transaction is
subject to approval by NAC Re's shareholders, expiration of the applicable
waiting period under the Hart-Scott-Rodino Antitrust Improvements Act, receipt
of insurance regulatory approvals and other customary closing conditions. It is
expected that the merger will be completed by late second or early third
calendar quarter of 1999.
In connection with the Merger Agreement, NAC Re granted XL the option to
purchase, under certain circumstances, up to 1,860,215 shares of NAC Re Common
Stock at a purchase price of $45.3125 per share. The option is exercisable upon
certain circumstances, including if NAC Re recommends or proposes a different
transaction or if any other person commences a tender or exchange offer to
acquire 10% or more of NAC Re's Common Stock.
Detailed information regarding the proposed transaction and XL will be
filed with the Securities and Exchange Commission and disseminated to NAC Re's
stockholders in connection with the solicitation of stockholder approval.
History
NAC Re is a Delaware corporation that was organized on June 27, 1985 for
the purpose of holding all the outstanding shares of common stock of NAC
Reinsurance Corporation ("NAC"), a property and casualty reinsurance company.
Based on industry data published by the Reinsurance Association of America
("RAA") as of December 31, 1998, NAC is the 8th largest reinsurance company in
the United States, ranked by statutory surplus. NAC is the parent company of:
Greenwich Insurance Company, Indian Harbor Insurance Company, NAC Re Investment
Holdings, Inc., and NAC Re International Holdings Limited. NAC Re and its
subsidiaries are collectively referred to as the Company.
NAC was incorporated in New York in 1929 and from 1939 until April 30,
1984, NAC was a wholly-owned subsidiary of CIT Financial Corporation ("CIT"). On
April 30, 1984, CIT transferred ownership of NAC to RCA Corporation ("RCA"), the
then parent corporation of CIT. On May 24, 1984, Kramer Capital Corporation
("KCC"), through Grey Eagle Enterprises, Inc., a Delaware corporation owned 95%
by KCC and 5% by the former President and Chief Operating Officer of NAC,
acquired NAC from RCA. After completion of a public offering in October 1985,
KCC controlled approximately 51% of the Common Stock of NAC Re. On January 8,
1987, following the approval of their respective stockholders, KCC was merged
into NAC Re. As a result of the merger, NAC Re became 100% publicly owned.
NAC is licensed to write reinsurance in all 50 states, the District of
Columbia, Puerto Rico and all provinces of Canada. Prior to 1977, NAC wrote both
primary insurance and reinsurance business for a variety of risks. Because of
substantial losses incurred from such business, NAC discontinued writing any
significant new insurance or reinsurance and was operated as a run-off company
from 1977 to 1981. NAC's reserves, net of reinsurance recoverables, for business
written prior to 1977, which includes aircraft and marine risks, general
liability, medical, accountant's and attorney's malpractice, other professional
risks and foreign risks, are approximately $42.7 million or less than 3% of
total net claims and claims expense reserves as of December 31, 1998.
In 1990, NAC acquired Greenwich Insurance Company ("Greenwich"), formerly
Harbor Insurance Company, from The Continental Corporation. All liabilities
incurred before the acquisition date, including insurance obligations under
expired as well as in-force business, remained with the previous owner and its
affiliates. Greenwich principally writes primary insurance and is licensed in
all 50 states to write primary insurance and reinsurance.
In 1992, NAC received regulatory authorization for a newly formed
insurance subsidiary, Indian Harbor Insurance Company ("Indian Harbor"). As a
surplus lines carrier, Indian Harbor is licensed in only its state of domicile,
North Dakota, and writes primary business on a nonadmitted basis in selected
states.
-1-
<PAGE>
In December 1993, NAC, through NAC Re International Holdings Limited,
formed and received U.S. and U.K. regulatory authorization for a new reinsurance
subsidiary, NAC Reinsurance International Limited ("NAC Re International"),
based in London, England. NAC Re International, capitalized as of December 31,
1998 with approximately $165.9 million, primarily writes non-U.S. international
property and casualty treaty and facultative reinsurance business. During 1997,
NAC Re International Holdings Limited formed a subsidiary, Stonebridge
Underwriting, Ltd., which is participating as a corporate capital vehicle on a
Lloyd's syndicate.
In 1998, NAC organized NAC Re Investment Holdings, Inc., a non-insurance
investment subsidiary.
General
The Company, through NAC and its subsidiaries, is principally engaged in
providing treaty and facultative reinsurance to primary insurers of casualty
risks (principally general liability, professional liability, automobile and
workers' compensation) and commercial and personal property risks and specialty
risks (including fidelity/surety and ocean marine). In consideration for
reinsuring risks, the Company receives premiums from the primary insurer. In
many cases, the Company reinsures part of its risk with other reinsurers and
pays a premium to such reinsurers.
Reinsurance provides primary insurers with three principal benefits:
reducing net exposure on individual risks, protecting against catastrophic
losses and maintaining acceptable capital ratios. Retrocessions provide
reinsurers with similar benefits. Reinsurance, including retrocessions, does not
legally discharge the reinsured from its liability with respect to its
obligations to the policyholder.
The Company generally writes property and casualty treaty business through
reinsurance brokers, facultative business on a direct basis (directly with the
primary company), and fidelity/surety and ocean marine through both reinsurance
brokers and on a direct basis.
Treaty reinsurance is a contractual arrangement that provides for the
automatic reinsuring by the Company of a specified type or category of risks
underwritten by the primary insurer. Typically, the primary insurer is required
to cede the agreed type or category of risks to the Company and the Company is
obligated to accept a specified portion of such risks. The Company determines
whether to write particular treaties based on many factors, including the
reinsured's risk management and underwriting practices. In treaty reinsurance,
the reinsurer typically does not separately evaluate each of the individual
risks assumed and, within prescribed parameters, is generally dependent on the
underwriting decisions made by the primary insurer. Such dependence subjects the
reinsurer to the risk that the primary insurer has not adequately determined the
risk to be reinsured and, accordingly, the premium ceded to the reinsurer in
connection therewith may not adequately compensate the reinsurer for the risk
assumed. Treaty reinsurance, including fidelity/surety business, constitutes
approximately 77% of the Company's business.
Facultative reinsurance is the reinsurance of individual risks; rather
than an agreement to reinsure all or a portion of a class of risks, the
reinsurer separately rates and underwrites each risk. A portion of the Company's
facultative business is written on an "automatic" basis. Automatic facultative
agreements provide coverage on a blanket basis for risks which would otherwise
be reinsured on an individual basis. Eligible risks must be underwritten by the
cedant in accordance with agreement guidelines, which are generally more
restrictive than typical treaty arrangements. Traditionally, risks covered by
facultative reinsurance are those excluded from coverage by treaty reinsurance.
Approximately 43% of the Company's business in 1998 was written on an
excess of loss basis, under which the Company indemnifies an insurer for a
portion of the losses on insurance policies in excess of a specified loss
amount, generally $1 million or more, and up to an amount per loss specified in
the contract. The balance of the Company's business is written on either a pro
rata basis under which the Company assumes from the primary insurer a percentage
of loss specified in the treaty of each risk in the reinsured class or on a
primary insurance basis as discussed below.
Premiums that the primary insurer pays to the reinsurer for excess of loss
coverage are not directly proportional to the premiums that the primary insurer
receives because the reinsurer does not assume a proportionate risk. In most
instances, the reinsurer does not pay commissions to the primary insurer in
connection with excess of loss reinsurance. In pro rata reinsurance, premiums
that the primary insurer pays to the reinsurer are proportional to the premiums
that the primary insurer receives and the reinsurer generally pays the primary
insurer a ceding commission. Generally, the ceding commission is based on the
primary insurer's cost of obtaining the business being reinsured, such as
commission, local taxes, settlement costs and miscellaneous administrative
expenses.
-2-
<PAGE>
The amount of premium received by the reinsurer for reinsuring risks on a
pro rata basis is generally based on the primary insurer's initial underwriting
assumptions. Thus, if the primary insurer does not accurately estimate the
ultimate losses to be incurred on the risks insured, the reinsurer may also
incur an underwriting loss. Excess of loss reinsurance allows the flexibility to
negotiate a premium based on the reinsurer's own estimate of the actual amount
of losses to be incurred. However, as a practical matter, the rates charged by
primary insurers and the policy terms of primary insurance agreements may affect
the rates charged and the policy terms associated with reinsurance agreements.
The Company also writes primary program insurance business through
Greenwich and Indian Harbor. The principle lines of primary business written
include certain specialty classes such as auto warranty business. The business
is written principally through managing general agents and general agents. The
Company evaluates each business relationship based upon the underwriting
experience and operational expertise of each distribution channel selected, and
performs an analysis to evaluate financial security. The Company periodically
performs underwriting, claims and operational audits of each pool and agency
relationship. Primary program insurance business constitutes approximately 22%
of the Company's business.
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" for a discussion of the Company's premium revenues.
Competition
The property and casualty reinsurance industry has been characterized by
strong, and at times, intense price competition driven largely by the
substantial amount of excess capacity currently present in the industry. The
Company competes with numerous international and domestic reinsurance companies.
These competitors, several of which have far greater financial and other
resources, include independent reinsurance companies and subsidiaries or
affiliates of established worldwide insurance companies. They also include the
reinsurance departments of some primary insurance companies and underwriting
syndicates in Lloyd's.
Competition with regard to the types of reinsurance business transacted by
the Company is based on many factors. These factors include perceived overall
financial strength, size, premiums charged, limits capacity, A.M. Best Company's
("A.M. Best"), Standard & Poor's ("S&P"), and Moody's Investor Services
("Moody's") ratings (see Ratings discussion), services offered, underwriting
expertise and quality of claims management. The number of jurisdictions in which
a reinsurer is licensed to do business is also a factor. The Company believes
that the A.M. Best "A+" rating and the S&P's "AA-" rating of NAC and its
domestic subsidiaries, its nationwide licensing, its reputation for prompt
claims payment and a high level of client service, together with its capacity
limits and surplus size, put it in a favorable position to compete for new
reinsurance opportunities as well as retain its existing client base.
See Industry Overview included in the "Management's Discussion and
Analysis of Financial Condition and Results of Operations" for a discussion of
current market conditions.
Regulation
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and Note 11 of the Notes to the Consolidated Financial
Statements of NAC Re for a discussion of the regulatory issues that impact the
Company.
Marketing
The Company obtains substantially all of its treaty business through
reinsurance brokers. The Company evaluates the financial condition of its
reinsurance brokers on a regular basis. The Company generally pays brokers from
1% to 2.5% of premiums ceded on pro rata business, 5% on "working layer" excess
of loss reinsurance (i.e., reinsurance attaching within the first $1 million of
coverage), and 10% on "non-working layer" excess of loss reinsurance (i.e.,
reinsurance attaching at or above the $1 million layer). The reinsurance broker
typically represents the primary insurer in negotiating and purchasing
reinsurance. The Company's facultative reinsurance generally is written on a
direct basis, with the exception of automatic agreements which may be written
through reinsurance brokers.
See Note 2 of the Notes to the Consolidated Financial Statements of NAC Re
for information regarding the Company's major clients and brokers.
-3-
<PAGE>
Underwriting
Underwriting opportunities presented to the Company are evaluated based
upon a number of factors, including the type and layer of risk to be assumed,
actuarial evaluation of premium adequacy, the primary insurer's underwriting and
claims experience, the primary insurer's financial condition and A.M. Best's
rating, the Company's exposure and experience with the primary insurer and the
line of business to be underwritten. The Company will also perform on-site
underwriting reviews of the primary insurers where deemed necessary to determine
the quality of a current or prospective client's underwriting operation.
Claims
Claims are managed by the Company's professional claims staff whose
responsibilities include reviewing initial loss reports and coverage issues,
monitoring claims handling activities of ceding companies, establishing and
adjusting proper case reserves and approving payment of claims. In addition to
claims assessment, processing and payment, the claims staff selectively conduct
comprehensive claims audits of both specific claims and overall claims
procedures at the offices of selected ceding companies.
Reserves
The Company establishes reserves to provide for the ultimate settlement
and administration of claims for losses, including both claims that have been
reported to the Company and claims for losses that have occurred but have not
been reported to the Company.
The Company establishes reserves for reported claims when it first
receives notice of the claim and may change the reserve as new information
becomes known. It is the Company's policy not to establish a reserve less than
the reserve established by the primary insurer; in many cases, the Company sets
up a reserve higher than the reserve established by the ceding company based on
its evaluation of the claim. In the case of excess of loss reinsurance, reserves
are established on a case by case basis by evaluating several factors. These
factors include the type of claim involved, the circumstances surrounding such
claim, the severity of injury or damage, the Company's experience with the
primary insurer and the policy provisions relating to the type of claim. The
Company regularly adjusts its reserves to reflect newly reported claims,
inflation and other developments. The Company periodically conducts claims
audits of its ceding companies to determine if the amount recommended by the
primary insurer is sufficient or should be increased. Reserves for incurred but
not reported (IBNR) claims are established on the basis of actuarial analysis of
statistical loss information, which is utilized to project ultimate claims
costs. Actuarial reviews of the Company's reserves are conducted quarterly by
actuaries employed by the Company.
Claims reserves are only estimates at a given point in time, based on
facts and circumstances then known, of the amount the insurer or reinsurer
expects to pay on claims. It is possible that the ultimate liability may exceed
or be less than such estimates. The estimates are not precise inasmuch as, among
other things, they are based on predictions of future events and estimates of
future trends in claims severity and frequency and other variable factors. As
additional facts become known during the claim settlement period, it often
becomes necessary to refine and adjust the estimates of liability on a claim
and, even then, the ultimate liability may exceed or be less than the revised
estimates. The estimation of reserves for reinsurers, particularly those that
have experienced recent substantial growth in premium revenues, such as the
Company, is inherently more difficult than the reserve estimations of primary
companies or reinsurers with a fairly stable volume of business and loss
history.
The reserving process is intended to provide implicit recognition of the
impact of inflation and other factors affecting claims payments by taking into
account changes in historical payment patterns and perceived probable trends
(note additional consideration for workers' compensation case reserves as
described below). There is generally no precise method, however, for
subsequently evaluating the adequacy of the consideration given to inflation or
to any other specific factor, because the eventual deficiency or redundancy of
reserves is affected by many factors, some of which are interdependent.
The Company's reserving process includes periodic evaluation of the
potential impact on claims liabilities from exposure to asbestos and
environmental claims, including related loss adjustment expenses. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and Note 4 of the Notes to the Consolidated Financial Statements of
NAC Re for a discussion of asbestos and environmental claims.
-4-
<PAGE>
The Company establishes claims expense reserves to provide for the
ultimate cost of investigating all claims, administering the claims payment
process and defending lawsuits arising from claims. Such claims expense reserves
represent estimates based on actual experience and historical data such as the
ratio of claims expenses to claims paid and other currently available
information.
Except for certain workers' compensation case reserves, the Company does
not discount its reserves in an attempt to present-value the claims or claims
expenses. The Company utilizes tabular reserving for certain workers'
compensation case reserves that are considered fixed and determinable, and
discounts such reserves using a 7% interest rate for financial statements
prepared in accordance with generally accepted accounting principles (GAAP) and
a 5% interest rate for statutory accounting purposes. Tabular reserving
methodology results in applying uniform and consistent criteria for establishing
expected future indemnity and medical payments (including an explicit factor for
inflation) and the use of mortality tables to determine expected payment
periods.
A reconciliation of the difference between the reserves for claims and
claims expenses determined in accordance with GAAP and those recorded for
statutory reporting purposes is as follows:
<TABLE>
<CAPTION>
(In Thousands)
1998 1997 1996
----------- ----------- -----------
<S> <C> <C> <C>
Domestic liability reported on a statutory basis, net of reinsurance $ 1,323,600 $ 1,319,908 $ 1,036,227
International liability, net of reinsurance 108,707 91,528 74,530
Difference in discount rate applied to workers' compensation
case reserves, net (6,326) (4,300) (3,540)
Reinsurance recoverable 292,256 196,836 406,128
----------- ----------- -----------
Consolidated liability reported on a GAAP basis, gross of reinsurance $ 1,718,237 $ 1,603,972 $ 1,513,345
=========== =========== ===========
</TABLE>
Note 4 of the Notes to the Consolidated Financial Statements of NAC Re
provides a table which analyzes paid and unpaid claims and claims expenses and a
reconciliation of beginning and ending reserve balances for the years ended
December 31, 1998, 1997 and 1996. Included in such analysis is a discussion of
certain factors which impact both current and prior year claims activity.
The table below represents the development of GAAP balance sheet reserves
for 1988 through 1998. The top line of the table shows the reserves, net of
reinsurance recoverables, at the balance sheet date for each of the indicated
years. This represents the estimated amounts of net claims and claims expenses
arising in all prior years that are unpaid at the balance sheet date, including
IBNR. The reserve for claims and claims expenses is net of the 7% discount
related to workers' compensation tabular reserves. The upper portion of the
table shows the re-estimated amount of the previously recorded reserve based on
experience as of the end of each succeeding year. The estimate changes as more
information becomes known about the frequency and severity of claims for
individual years. The re-estimated reserve for each year reflects the 7%
discount related to workers' compensation tabular reserves. The "Cumulative
Redundancy (Deficiency)" represents the aggregate change in the estimates over
all prior years. The lower portion of the table shows the cumulative amounts
paid as of successive years with respect to that reserve liability. The second
table below represents the claim development of the gross balance sheet reserves
for years 1992 through 1998.
With respect to the information in the table immediately below, it should
be noted that each amount includes the effects of all changes in amounts for
prior periods. For example, the amount of the deficiency related to claims
settled in 1991, but incurred in 1988, will be included in the cumulative
deficiency amount for years 1988, 1989 and 1990. This table does not present
accident or policy year development data. Conditions and trends that have
affected development of the liability in the past may not necessarily occur in
the future. Accordingly, it may not be appropriate to extrapolate future reserve
development based on these tables. For further discussion of reserve and
retrocessional activity see "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and Notes 4 and 6 of the Notes to the
Consolidated Financial Statements of NAC Re.
-5-
<PAGE>
DEVELOPMENT OF CLAIMS AND CLAIMS EXPENSE RESERVES
Net of Reinsurance Recoverables
(In Millions)
<TABLE>
<CAPTION>
Year Ended December 31,
---------------------------------------------------------------------------------
1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998
---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
RESERVE FOR CLAIMS AND CLAIMS EXPENSES, NET OF
REINSURANCE RECOVERABLES $292 $388 $469 $529 $626 $697 $808 $954 $1,107 $1,407 $1,426
RESERVE RE-ESTIMATED AS OF:
One year later 293 384 460 494 602 653 788 921 1,068 1,369
Two years later 289 376 427 464 548 648 755 882 1,031
Three years later 281 350 407 423 549 630 724 855
Four years later 258 336 379 424 531 606 707
Five years later 253 321 392 417 531 602
Six years later 245 331 391 425 534
Seven years later 265 336 409 432
Eight years later 273 352 422
Nine years later 283 355
Ten years later 294
CUMULATIVE REDUNDANCY (DEFICIENCY) (2) 33 47 97 92 95 101 99 76 38
PERCENTAGE (1%) 9% 10% 18% 15% 14% 13% 10% 7% 3%
CUMULATIVE AMOUNT OF LIABILITY PAID, NET OF
REINSURANCE RECOVERABLES, PAID THROUGH:
One year later $ 34 $ 60 $ 81 $ 65 $104 $119 $140 $146 $ 27 $253
Two years later 73 109 126 116 173 207 233 161 184
Three years later 102 134 166 158 229 258 240 252
Four years later 117 161 197 199 261 246 299
Five years later 133 179 226 220 257 292
Six years later 148 200 244 213 291
Seven years later 163 213 240 240
Eight years later 174 212 262
Nine years later 176 223
Ten years later 183
</TABLE>
============================
-6-
<PAGE>
DEVELOPMENT OF CLAIMS AND CLAIMS EXPENSE RESERVES
Gross of Reinsurance Recoverables
(In Millions)
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------------------------------------
1992 1993 1994 1995 1996 1997 1998
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
GROSS RESERVE FOR CLAIMS AND CLAIMS EXPENSES: $808 $909 $1,086 $1,292 $1,513 $1,604 $1,718
Reserve re-estimated as of:
One year later 798 873 1,097 1,280 1,446 1,583
Two years later 755 882 1,093 1,208 1,425
Three years later 773 888 1,028 1,203
Four years later 774 832 1,036
Five years later 742 860
Six years later 779
CUMULATIVE REDUNDANCY (DEFICIENCY) 29 49 50 89 88 21
PERCENTAGE 4% 5% 5% 7% 6% 1%
</TABLE>
- ----------------------------
-7-
<PAGE>
Retrocession Agreements
Reinsurance companies enter into retrocession arrangements to increase
aggregate premium capacity and to reduce the risk of loss on reinsurance
underwritten. Historically, the Company has obtained reinsurance for itself
primarily through excess of loss reinsurance agreements. The Company has also
obtained reinsurance protection against liability on a single event arising from
several different treaty obligations, and reinsurance protection against
liability arising from related losses involving more than one reinsured or
contract. The Company's retrocession agreements are generally structured on a
treaty basis, and cover its direct, treaty and facultative business. The Company
also purchases specific reinsurance that applies to individual agreements or
contracts. Such reinsurance is generally purchased to limit the Company's net
retention or to supplement its core reinsurance protections.
The Company retrocedes its risks to other reinsurers both through
reinsurance brokers and on a direct basis. The retrocession of risks
underwritten by the Company does not legally discharge the Company from
liability for any part of the risk reinsured. The Company would be required to
absorb the full amount of the loss associated with the reinsured risk if the
retrocessionnaire were unable to or failed to meet its reinsurance obligations
for any reason. The Company evaluates the financial condition of
retrocessionnaires prior to the commencement of underwriting activities and at
least annually thereafter. The Company utilizes financial guidelines to assess
the retrocessionnaires' ability to satisfy future claim obligations. The
Company's retrocessionnaires are subject to periodic evaluation to ensure that
there have been no significant adverse changes in their financial condition.
In the case of retrocessionnaires that are unable to meet their obligation
under the retrocessional agreement or do not satisfy the Company's financial
guidelines, a reserve for actual and potential non-recovery is established,
which includes a provision for paid and unpaid claims and claims expenses,
inclusive of IBNR claims. The reserve for non-recoveries is continually reviewed
and updated to reflect current activity and developments. The Company evaluates
its exposure to reinsurance recoveries after considering the extent to which it
has collateralized the retrocessionnaires' balances by letters of credit, trust
accounts or funds withheld.
At December 31, 1998, the Company had reinsurance recoverables, exclusive
of available offsets, in the form of letters of credit, trust accounts and funds
withheld, totaling $362.4 million, with approximately 173 domestic and 162
foreign retrocessionnaires. The Company had no amounts recoverable from a single
entity or group of entities that exceeded 10% of stockholders' equity as of
December 31, 1998.
The Company evaluates its retrocessional requirements in relation to many
factors, including its surplus capacity, gross line capacity (amount of risk of
loss assumed on any one contract) and changing market conditions. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and Note 6 of the Notes to Consolidated Financial Statements for
information regarding the Company's retrocessional arrangements.
The following discussion outlines the Company's gross lines (the amount of
risk of loss assumed) and net retentions for the years indicated.
-8-
<PAGE>
1999
The following table summarizes the Company's expected gross lines, initial
and maximum retentions on any one claim for 1999:
(In Millions)
Gross Initial Maximum
Line Retention Retention
------ --------- ---------
Casualty Treaty and Casualty Facultative
Automatics $ 7.5(1) $5.0 $5.0(2)
Casualty Facultative (3) $ 7.5 $3.0 $3.0
Property Treaty $ 7.5(1) $3.0 $3.9(4)
Property Facultative $100.0 $3.0 $3.0(4)
Surety $ 20.0(5) $2.0 $4.0
Ocean Marine $ 30.0(6) $1.0 $1.0
(1) The Company has reinsurance protection which provides additional per risk
or per occurrence protection in excess of $7.5 million.
(2) The maximum retention could increase to $10 million in certain limited
circumstances.
(3) Individual risk only.
(4) The maximum retention could increase to $6.2 million in certain limited
circumstances.
(5) Per Principal.
(6) Per Event.
The Company's 1999 reinsurance program for multiple claims arising from
two or more risks in a single occurrence or event is indicated below:
Property--Property business is protected by two sets of retrocessional
agreements. The first set of agreements provides protection for a total of $83
million in excess of an initial retention of $5 million for loss events within
the United States and Canada. NAC's retention gradually increases up to an
additional $16.9 million should gross losses exceed $40 million. The second set
of agreements provides protection for loss events that occur outside of United
States and Canada for 100% of $65 million in excess of an initial retention of
$5 million. Both sets of agreements are on a first and second event basis.
Workers' Compensation--100% of $195 million in excess of a $5 million
retention for any one occurrence.
Casualty Contingency Cover--100% of $35 million in excess of $5 million
for any one occurrence.
In addition to the above reinsurance protections, the Company has coverage
in the event the accident year claims and claims expense ratio exceeds a
predetermined amount. The Company also purchases specific reinsurance that
applies to individual agreements or contracts. Such reinsurance is generally
purchased to limit the Company's net retention or to supplement its core
reinsurance protections.
-9-
<PAGE>
1998
The following table summarizes the Company's expected gross lines, initial
and maximum retentions on any one claim for 1998:
(In Millions)
Gross Initial Maximum
Line Retention Retention
------ --------- ---------
Casualty Treaty and Casualty Facultative
Automatics $ 7.5(1) $5.0 $5.0(2)
Casualty Facultative (3) $ 7.5 $3.0 $3.0
Property Treaty $ 7.5(1) $3.0 $3.9(4)
Property Facultative $100.0 $3.0 $3.0(4)
Surety $ 20.0(5) $2.0 $4.0
Ocean Marine $ 30.0(6) $1.0 $1.0
(1) The Company has reinsurance protection which provides additional per risk
or per occurrence protection in excess of $7.5 million.
(2) The maximum retention could increase to $10 million in certain limited
circumstances.
(3) Individual risk only.
(4) The maximum retention could increase to $6.2 million in certain limited
circumstances.
(5) Per Principal.
(6) Per Event.
The Company's 1998 reinsurance program for multiple claims arising from
two or more risks in a single occurrence or event is indicated below:
Property--Property business is protected by two sets of retrocessional
agreements. The first set of agreements provides protection for a total of $97
million in excess of an initial retention of $5 million for loss events within
the United States and Canada. NAC's retention gradually increases up to an
additional $3 million should gross losses exceed $60 million. The second set of
agreements provides protection for loss events that occur outside of United
States and Canada for 100% of $65 million in excess of an initial retention of
$5 million. Both sets of agreements are on a first and second event basis.
Workers' Compensation--100% of $195 million in excess of a $5 million
retention for any one occurrence.
Casualty Contingency Cover--100% of $25 million in excess of $5 million
for any one occurrence.
In addition to the above reinsurance protections, the Company has coverage
in the event the accident year claims and claims expense ratio exceeds a
predetermined amount.
-10-
<PAGE>
1997
The following table summarizes the Company's gross lines, initial and
maximum retentions on any one claim for 1997:
(In Millions)
Gross Initial Maximum
Line Retention Retention
------ --------- ---------
Casualty Treaty and Casualty Facultative
Automatics $ 7.5(1) $5.0 $5.0(2)
Casualty Facultative (3) $ 7.5 $3.0 $3.0
Property Treaty $ 7.5(1) $3.0 $3.9(4)
Property Facultative $100.0 $3.0 $3.0(4)
Surety $ 20.0(5) $2.0 $4.0
Ocean Marine $ 30.0(6) $1.0 $1.0
(1) The Company has reinsurance protection which provides additional per risk
or per occurrence protection in excess of $7.5 million.
(2) The maximum retention could increase to $10 million in certain limited
circumstances.
(3) Individual risk only.
(4) The maximum retention could increase to $6.2 million in certain limited
circumstances.
(5) Per Principal.
(6) Per Event.
The Company's 1997 reinsurance program for multiple claims arising from
two or more risks in a single occurrence or event is indicated below:
Property--Property business is protected by a series of retrocessional
agreements which provide protection for 100% of $115 million in excess of $5
million on a first and second event. Within the Company's $115 million of
catastrophe protection, $25 million of protection in excess of the first $55
million of protection, is available only if industry-wide claims exceed certain
minimum levels.
Workers' Compensation--100% of $195 million in excess of a $5 million
retention for any one occurrence.
Casualty Contingency Cover--100% of $25 million in excess of $5 million
for any one occurrence.
In recognition of the Company's strong surplus position and financial
capacity, and the continued positive contribution of business written since
1986, the Company terminated two retrocessional programs effective January 1,
1997. The Company received total consideration of approximately $225 million
representing reinsurance recoverable balances for unpaid claims and claims
expenses of approximately the same amount. The termination of these programs has
resulted in an increase in net retention levels for the years 1996 and prior.
Particularly as the casualty book of business matures, the increase in net
retentions for these years may result in increased volatility in future years to
the extent the actual frequency and severity of claims differs from management's
current estimates. The Company believes its exposure to such volatility is
within acceptable levels.
-11-
<PAGE>
Investments
The Finance and Investment Committee (the "Committee") of NAC Re's Board
of Directors is responsible for establishing investment policy and guidelines
and for overseeing their execution. The Company utilizes independent investment
advisors to manage its investment portfolio within the established guidelines.
These advisors are required to report investment transaction activities and
portfolio results on a periodic basis and to meet periodically with the
Committee to review and discuss portfolio structure, security selection and
performance results.
The investment strategy, established by the Committee and management,
focuses on income predictability and asset value stability. Accordingly, the
Company emphasizes investment grade fixed maturity securities. For statutory
accounting purposes, investment grade securities are recorded at amortized cost
and, therefore, statutory surplus is not impacted by fluctuations in their
market value. For GAAP reporting purposes, all of the Company's fixed maturities
and equity securities are categorized as available for sale and are recorded at
their fair value. Periodic changes in fair value are recorded directly in the
Company's stockholders' equity, net of applicable deferred taxes.
A summary of the Company's investment portfolio as of December 31, 1998
and 1997 is set forth below:
<TABLE>
<CAPTION>
(In Thousands)
December 31,
-------------------------------------------------
1998 1997
----------------------- -----------------------
Carrying % of Carrying % of
Value Portfolio Value Portfolio
---------- --------- ---------- ---------
<S> <C> <C> <C> <C>
Cash and short-term $ 150,743 6.1% $ 116,919 5.0%
---------- --------- ---------- ---------
Fixed maturities:
U.S. Treasury 21,755 0.9 14,507 0.6
Tax-exempt 1,324,226 53.9 1,250,973 53.3
Foreign Government 233,150 9.5 172,321 7.3
Corporate 410,522 16.7 425,857 18.1
Mortgage-backed 200,531 8.2 216,845 9.2
Subordinated convertibles 433 -- 8,085 0.4
---------- --------- ---------- ---------
Subtotal 2,190,617 89.2 2,088,588 88.9
---------- --------- ---------- ---------
Equity securities 115,064 4.7 142,527 6.1
---------- --------- ---------- ---------
Total $2,456,424 100.0% $2,348,034 100.0%
========== ========= ========== =========
</TABLE>
Guidelines established by the Committee restrict the portion of the
portfolio that can be held in lower rated or non-investment grade securities.
Consistent with the Company's focus on asset quality, at December 31, 1998,
approximately 94% of the Company's fixed maturity investments were considered
"investment grade" by Moody's Investor Services, Inc., ("Moody's") or S&P.
The guidelines also address portfolio diversification by establishing
certain restrictions regarding the portion of the investment portfolio that can
be invested in a particular security, issuer, an industry sector or, in the case
of tax-exempt securities, in a state or municipality. Such restrictions do not
apply to investments in direct or indirect obligations of the U.S. Government
(i.e., US Treasury and GNMA Securities), which comprised 3.8% of the Company's
cash and invested assets at December 31, 1998.
The portfolio guidelines generally prohibit investment in derivative
products (i.e., products which include features such as futures, forwards,
swaps, options and other investments with similar characteristics), without
prior approval and written authorization by the Committee. Such authorization
would be provided only after obtaining regulatory approval and evaluating a
written plan submitted by the advisor which
-12-
<PAGE>
documents the strategy, the objective, a description of the size and nature of
each transaction, the expected return, the costs/benefits, and the possible risk
factors. The Company did not own any derivative investment products as of
December 31, 1998.
The portfolio guidelines permit the purchase of certain securities which
derive their values or their contractually required cash flows from other
securities, such as mortgage-backed securities, where the underlying collateral
is a pool of residential or commercial real estate mortgages. These securities
are generally considered to have high credit quality since they are either
government or quasi-government agency-backed or are equivalent to a "AAA"
rating. The risks associated with mortgage-backed securities are interest rate
risk (as with all fixed-rate securities) and prepayment risk or extension risk
which may result in a decline in the expected return and/or value of the
security. Prepayment or extension of principal payments occur and can be
exacerbated depending upon the level of interest rates in the marketplace.
Mortgage-backed securities in the Company's investment portfolio totaled $200.5
million at December 31, 1998, of which 15.9% are collateralized mortgage
obligations (CMO's) which generally reduce the uncertainty concerning the
maturity of a mortgage-backed security.
Uncertainties exist regarding interest rates and inflation and their
potential impact on the market values of the Company's fixed income securities.
The Company actively considers the risks and financial rewards associated with
the maturity distribution of its fixed income portfolio. In this regard, the
Company takes into consideration the pattern of expected claims payments and the
Company's future cash flow projections in evaluating its investment
opportunities. Consistent with the payment profile of the Company's claims
reserve liabilities, and based upon the expected maturity of fixed maturity
investments as of December 31, 1998, the Company's fixed maturity investments
which include mortgage-backed securities but exclude convertible securities, had
an expected average maturity of 7.7 years.
A summary of expected maturities of the Company's fixed maturity
investments is set forth below:
(In Thousands)
December 31, 1998
----------------------------------
% of
Carrying Value Portfolio
-------------- ------------
Less than 1 year $ 16,163 0.7%
1-5 years 337,054 15.4
6-10 years 1,069,452 48.8
11-15 years 436,160 19.9
16-20 years 128,188 5.9
More than 20 years 203,167 9.3
-------------- ------------
Subtotal 2,190,184 100.0
Convertibles 433 --
-------------- ------------
Total $2,190,617 100.0%
============== ============
The balance of the Company's investment portfolio at December 31, 1998,
consisting of cash, short-term investments and equity securities, amounted to
$265.8 million. The Company's equity investment strategy is designed to build a
quality equity portfolio. As of December 31, 1998, the Company held $115.1
million or 4.7% of cash and invested assets in equity securities, representing
15.6% of statutory surplus. The Company does not hold any direct investments in
real estate. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations" for further discussion of the Company's investing
activities and results.
-13-
<PAGE>
Ratings
NAC, Greenwich, Indian Harbor and NAC Re International, comprising the NAC
Re group of companies, have been assigned an "A+" (Superior) rating as
determined by A.M. Best, and published in A.M. Best Rating Service,
Property/Casualty Edition. An "A+", which is A.M. Best's second highest rating,
is assigned to companies which have demonstrated superior overall performance
when compared to established standards. Such companies are considered by A.M.
Best to have demonstrated a very strong ability to meet their obligations to
policyholders over a long period of time.
NAC and its domestic subsidiaries, as well as NAC Re International, have
been assigned a "AA-" claims-paying rating from S&P, which is S&P's second
highest rating. A "AA-" is assigned to insurers that offer very strong financial
security, differing only slightly from those rated higher. The Company is
regarded as having financial security characteristics that outweigh any
vulnerabilities, and is highly likely to have the ability to meet financial
commitments. NAC Re International is supported by a Net Worth Maintenance
Agreement with NAC pursuant to which NAC has agreed to provide certain specified
financial support to NAC Re International in meeting its regulatory standards
and liquidity needs, subject to regulatory requirements on NAC.
NAC, Greenwich, and Indian Harbor have been assigned an A1(Good),
A2(Good), and A2(Good) rating, respectively, by Moody's. An "A" rating is
Moody's third highest rating and is assigned to insurers that offer good
financial security, however elements may be present which suggest a
susceptibility to impairment sometime in the future. A numeric modifier of "1"
is used to refer to the highest ranking within the group and a modifier of "2"
refers to the mid-range ranking within the group, based on a ranking scale of 1
to 3.
The A.M. Best rating, S&P claims-paying rating, and the Moody's financial
strength rating are based upon factors of concern to policyholders and should
not be considered an indication of the degree or lack of risk involved in an
equity investment in an insurance or reinsurance company.
NAC Re debt instruments have the following investment grade ratings from
S&P and Moody's:
S&P Moody's
---- -------
$100 Million 8% Senior Notes due 1999 A- A3
$100 Million 7.15% Senior Notes due 2005 A- A3
$100 Million 5.25% Convertible Subordinated Debentures due 2002 BBB+ Baa1
Debt ratings are a current assessment of the credit-worthiness of an
obligor with respect to a specific obligation. A company with a debt rating of
"A-" is considered by S&P to have a strong capacity to pay interest and repay
principal, although it is somewhat more susceptible to the adverse effects of
changes in circumstances and economic conditions than debt in higher rated
categories. A Company with a debt rating "A3" is considered to be an
upper-medium-grade obligation by Moody's. This rating represents adequate
capacity with respect to repayment of principal and interest, but elements may
be present which suggest a susceptibility to impairment sometime in the future.
A company with a debt rating of "BBB+" by S&P and "Baa1" by Moody's is
considered to have adequate capacity to pay interest and repay principal but
capacity to meet long-term obligations is susceptible to adverse economic
conditions or changing circumstances.
All of the above-mentioned ratings are continually monitored and revised,
if necessary, by each of the rating agencies. While the Company believes that it
will maintain and could possibly improve its ratings over time, there is no
assurance that it will continue to receive these favorable ratings in the
future.
-14-
<PAGE>
Employees
At December 31, 1998, the Company had 300 full-time employees, including
42 employees in the Company's international operation. The Company's employees
are not represented by a labor union and the Company believes that its employee
relations are good.
Item 2. Properties
The Company leases its present corporate and administrative offices in a
building located in Greenwich, Connecticut. The Company also has operating
leases for office space at regional branch locations and its international
subsidiary. See Note 7 of Notes to the Consolidated Financial Statements of NAC
Re for a schedule on future minimum rentals related to the Company's operating
leases.
Item 3. Legal Proceedings
NAC, Greenwich and Indian Harbor are parties to various lawsuits generally
arising in the normal course of their business. The Company does not believe
that the eventual outcome of any of the litigations to which NAC, Greenwich or
Indian Harbor are a party will have a material effect on the Company's financial
condition. NAC has been fully indemnified by The Continental Corporation and its
successor, CNA Insurance, for any losses incurred by Greenwich from events
occurring prior to NAC's acquisition of Greenwich.
Item 4. Submission of Matters to a Vote of Security Holders
There were no matters submitted to a vote of security holders during the
fourth quarter of 1998.
PART II
Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters
Market Information
The Common Stock ($.10 par value) of NAC Re is traded on the New York
Stock Exchange (NYSE) under the symbol NRC. For the periods presented below, the
high and low sales price and close prices of the Common Stock as reported by the
NYSE were as follows:
<TABLE>
<CAPTION>
Three Months Ended
----------------------------------------------------------------------------------------------
March 31, June 30, September 30, December 31,
1998 1998 1998 1998
------------------ -------------- --------------------- ---------------------
<S> <C> <C> <C> <C>
High $53.81 $53.94 $55.88 $52.88
Low $47.00 $45.00 $45.06 $43.69
Close $52.44 $53.38 $49.25 $46.94
<CAPTION>
Three Months Ended
----------------------------------------------------------------------------------------------
March 31, June 30, September 30, December 31,
1997 1997 1997 1997
------------------ -------------- --------------------- ---------------------
<S> <C> <C> <C> <C>
High $39.88 $49.00 $51.56 $52.88
Low $33.25 $35.50 $45.50 $43.50
Close $35.63 $48.38 $51.38 $48.81
</TABLE>
Stockholders
There were 441 holders of record of shares of Common Stock as of March 3,
1999. Cede & Company held over 96% of the outstanding shares as nominee for an
unknown number of beneficial stockholders.
-15-
<PAGE>
Dividends
The Company declared a quarterly cash dividend of $.06 per share for March
1997 and increased this to $.075 per share for June 1997 through March 1998. In
June 1998, the Company increased its quarterly dividend to $.09 per share. The
Company considers increasing the dividend on its Common Stock from time to time.
There is presently no intention to decrease the cash dividend in the foreseeable
future. Future dividends will be dependent upon, among other factors, the
earnings of the Company, its financial condition, its capital requirements,
general business conditions and the ability of NAC to pay dividends to NAC Re.
See "Recent Developments" under Item 1 with respect to the Merger Agreement
between XL and NAC Re. Pursuant to the Merger Agreement, XL and NAC Re have
agreed to coordinate with each other regarding the declaration of dividends, the
record dates and payment dates relating thereto so that shareholders will not
receive two dividends, or fail to receive one dividend, for any single calendar
quarter with respect to their shares of NAC Re Common Stock.
For a description of restrictions on NAC's ability to pay dividends,
reference is made to Note 11 of Notes to the Consolidated Financial Statements
of NAC Re.
-16-
<PAGE>
Item 6. Selected Financial Data
The selected consolidated financial data below should be read in
conjunction with the consolidated financial statements and the notes thereto
presented under Item 8.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------
In Thousands, except per share amounts 1998 1997 1996 1995 1994
- --------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
INCOME STATEMENT DATA
Gross premiums written $ 704,691 $ 723,868 $ 714,080 $ 677,938 $ 575,037
Net premiums written 553,666 593,656 574,004 521,489 438,201
Premiums earned 532,846 574,647 526,342 491,785 395,731
Net investment income 131,459 123,050 104,330 89,308 80,504
Net investment gains 35,074 42,675 19,569 25,391 2,155
Total revenues 699,379 740,372 650,241 606,484 478,390
Operating costs and expenses 581,497 617,542 561,205 527,663 436,100
Operating income/net income 96,050 95,677 70,520 62,824 35,612
Return on stockholders' equity (1) 14.6% 17.3% 13.8% 19.7% 9.5%
- --------------------------------------------------------------------------------------------------------------------
PER SHARE DATA
Basic: (2)
Average shares outstanding 18,282 18,378 18,855 17,709 17,603
Operating income/net income $ 5.25 $ 5.21 $ 3.74 $ 3.55 $ 2.02
Diluted (assuming conversion of dilutive
convertible securities):(2)
Average shares outstanding 20,844 20,809 21,115 20,115 19,915
Operating income/net income $ 4.78 $ 4.77 $ 3.51 $ 3.30 $ 1.96
Cash dividends declared per share 0.345 0.285 0.23 0.19 0.16
Stock prices:
High 55.88 52.88 40.63 39.00 34.00
Low 43.69 33.25 28.50 28.25 24.00
Close 46.94 48.81 33.88 36.00 33.50
- --------------------------------------------------------------------------------------------------------------------
BALANCE SHEET DATA
Total assets $3,227,632 $2,984,865 $2,745,631 $2,462,131 $1,916,768
Cash and invested assets 2,456,424 2,348,034 1,983,902 1,863,526 1,414,527
Gross claims and claims expense reserves 1,718,237 1,603,972 1,513,345 1,292,415 1,086,170
Claims and claims expense reserves, net 1,425,981 1,407,136 1,107,217 953,669 808,433
Long-term debt 299,949 299,942 299,934 299,927 200,000
Unrealized appreciation (depreciation)
of investments, net of tax:
Fixed maturities 53,248 43,607 14,526 27,102 (44,204)
Equity securities 4,413 11,393 17,174 8,085 (1,826)
Total reported 57,661 55,000 31,700 35,187 (46,030)
Stockholders' equity 750,725 657,061 553,269 511,756 319,085
Stockholders' equity per share 40.86 35.89 30.06 26.65 18.23
- --------------------------------------------------------------------------------------------------------------------
DOMESTIC STATUTORY DATA
Statutory composite ratio 103.5% 103.1% 101.1% 103.1% 105.7%
Statutory surplus $ 737,114 $ 702,222 $ 663,867 $ 615,433 $ 407,024
- --------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Based on net income divided by stockholders' equity as reported at the
beginning of each year.
(2) Data prior to 1997 restated per SFAS No. 128. See Note 12 of the Notes to
Consolidated Financial Statements with respect to the computation of
earnings per share.
-17-
<PAGE>
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following is a discussion of the Company's results of operations and
financial condition. This discussion and analysis should be read in conjunction
with the consolidated financial statements and the notes thereto presented under
Item 8.
Industry Overview
Abundant capacity and significant price competition continued to
characterize the reinsurance industry during 1998. Excess capital and limited
opportunities for organic growth in traditional markets continued to generate
merger and acquisition activity as companies attempt to maintain or improve
market share and performance. Reinsurers have also actively pursued investments
in the Lloyd's market during 1998. Perhaps more than ever, the Company, together
with the industry, faces a tough challenge in achieving profitable growth.
Despite adverse market forces, the Company's strong 1998 results were achieved
through continued attention to disciplined underwriting, expense reduction
initiatives, and the benefit of a stop loss provision in its retrocessional
program.
There has been a shift in both the market landscape and customer demand.
The growth in traditional reinsurance has slowed as changes and consolidation in
the primary insurance market have intensified shifts in customer demand. As a
result, innovative and sophisticated ways to handle increasingly complex risks
continue to emerge. Those reinsurers wanting to meet these emerging challenges
and compete effectively must adapt to the evolving marketplace and leverage
their expertise to assume new roles in the insurance and reinsurance arenas. We
continue to identify and pursue opportunities to help long-standing clients
through new fee-based services and other nontraditional approaches.
The Company is well positioned to take advantage of these and other
opportunities. Its strong underwriting capabilities, sound financial
fundamentals, and service-driven focus provide the flexibility to adapt to
market dynamics. Responding to these changes in the market, the Company made
several equity based investments in insurance service related entities during
1998: a leading property/casualty insurance asset management firm, a Lloyd's
managing agency, an internet financial services firm, and an internet claims
support firm for the property/casualty insurance industry. These investments are
intended to enhance the Company's ability to provide solutions to its clients
and help it to grow more profitably.
On February 15, 1999, NAC Re and XL signed a definitive agreement whereby
NAC Re will merge into a wholly-owned subsidiary of XL in an all stock
transaction. This transaction is subject to regulatory and stockholder approvals
and other customary closing conditions. It is expected that the merger will be
completed by late second calendar quarter or early third quarter of 1999.
Results of Operations
The Company's net operating income, excluding realized investment gains,
was $73.3 million for 1998, $67.7 million for 1997, and $57.8 million for 1996.
On a basic per share basis, operating income, excluding realized investment
gains, was $4.01, $3.68, and $3.07 for 1998, 1997, and 1996, respectively. On a
diluted per share basis, operating income, excluding realized investment gains,
was $3.68, $3.42, and $2.90 for 1998, 1997, and 1996, respectively.
Net income was $96.1 million for 1998, $95.7 million for 1997, and $70.5
million for 1996. On a basic per share basis, net income was $5.25, $5.21, and
$3.74 for 1998, 1997, and 1996, respectively. On a diluted per share basis, net
income was $4.78, $4.77, and $3.51 for 1998, 1997, and 1996, respectively. Net
income for 1998 includes after-tax realized investment gains of $22.8 million or
$1.10 per diluted share compared to $28.0 million or $1.35 per diluted share in
1997 and $12.7 million or $.61 per diluted share in 1996.
-18-
<PAGE>
Consolidated Premium Revenues
The Company's premium revenue for its domestic and international
operations is as follows:
<TABLE>
<CAPTION>
Gross Premiums Written Percent Change
---------------------------------- ----------------------
(Dollars in millions) 1998 1997 1996 98 vs. 97 97 vs. 96
-------- -------- -------- --------- ----------
<S> <C> <C> <C> <C> <C>
Domestic:
Reinsurance $ 482.2 $ 536.5 $ 573.7 (10.1)% (6.5)%
Primary 161.2 130.7 81.8 23.3 59.9
-------- -------- -------- ----- ----
Total Domestic 643.4 667.2 655.4 (3.6) 1.8
International: 72.7 62.5 61.6 16.4 1.4
-------- -------- -------- ----- ----
Total International 72.7 62.5 61.6 16.4 1.4
Intercompany transactions: (11.5) (5.8) (3.0) -- --
-------- -------- -------- ----- ----
Total $ 704.7 $ 723.9 $ 714.1 (2.6)% 1.4%
======== ======== ======== ===== ====
</TABLE>
Worldwide gross premiums written were $704.7 million in 1998 compared to
$723.9 million in 1997 and $714.1 million in 1996. The 2.6% decrease in 1998 was
primarily attributable to NAC's continued strong underwriting discipline
reflected by the non-renewal of unprofitable accounts amid prolonged soft market
conditions. The 1.4% increase in 1997 was principally attributable to an
increase in domestic specialty primary business.
Underwriting Results
One traditional means of measuring the underwriting performance of a
property/casualty insurer is the statutory composite ratio. This ratio, which is
based on statutory accounting practices (which differ from generally accepted
accounting principles), reflects underwriting experience, but does not reflect
income from investments. A composite ratio of under 100% generally indicates
underwriting profitability while a composite ratio exceeding 100% generally
indicates an underwriting loss.
The following charts set forth statutory composite ratios for the Company.
<TABLE>
<CAPTION>
1998 1997 1996
---------- ---------- ----------
<S> <C> <C> <C>
Domestic Reinsurance Composite Ratio
Claims and claims expenses 64.8% 65.6% 63.7%
Commissions and brokerage 27.7% 28.0% 28.9%
Other operating expenses 10.5% 9.2% 8.6%
---------- ---------- ----------
Total 103.0% 102.8% 101.2%
Domestic Primary Composite Ratio
Claims and claims expenses 101.3% 84.9% 66.0%
Commissions and brokerage (1.6)% (3.7)% (16.6)%
Other operating expenses 26.9% 37.8% 47.1%
---------- ---------- ----------
Total 126.6% 119.0% 96.5%
International Composite Ratio
Claims and claims expenses 73.3% 69.0% 72.4%
Commissions and brokerage 19.7% 21.2% 19.5%
Other operating expenses 18.2% 18.7% 13.7%
---------- ---------- ----------
Total 111.2% 108.9% 105.6%
</TABLE>
-19-
<PAGE>
The increase in the Company's 1998 domestic reinsurance composite ratio is
due to an increase in other operating expenses coupled with a lower premium base
stemming from both difficult market conditions and the Company's decision not to
renew accounts with unsatisfactory returns. In addition, the ratio reflected an
increase of approximately 1.2 percentage points related to property catastrophes
resulting primarily from Hurricane Georges. The increase in the 1997 domestic
reinsurance composite ratio reflects an increase in the claims and claims
expense ratio and other operating expense ratios. Overall, operating expenses
increased in 1998, 1997, and 1996, reflecting business expansion, investment in
technology, and the investment in facultative business.
The 1998 domestic primary composite ratio increased to 126.6% compared to
119.0% in 1997 and 96.5% in 1996. The increase in the claims and claims expense
ratio was attributable to the overall rate environment but was also impacted by
one program that the Company has since terminated. Other operating expenses
decreased by 28.8% in 1998 due to an increased premium base.
The international composite ratio was 111.2% in 1998 compared to 108.9% in
1997 and 105.6% in 1996. The 1998 ratio reflects approximately 2.5 percentage
points due to Hurricane Georges. The increase in the 1997 composite ratio
compared to 1996 is principally attributable to increases in the international
operating expense ratio. The Australian branch of the international reinsurance
subsidiary did not commence writing premium until 1997, contributing to this
increase. The Company generally expects a higher expense ratio in the start-up
of an operation. As anticipated, the expense ratio of the international
subsidiary slightly declined in 1998 as it began to leverage its investment in
infrastructure and generate increases in premium revenues.
The pricing of the Company's reinsurance contracts incorporates many
factors, including exposure to claims and the expenses of the client and broker.
Commissions and brokerage expenses, as a percentage of premium revenues,
declined moderately in 1998 compared to 1997. This decrease was principally due
to the relative increase in 1998 of primary program business, where commission
costs were significantly lower, partially offset by increases in pro rata
contracts written in the Company's specialty lines of business, contracts which
generally require a higher commission rate. The effect of variations in these
expenses to overall underwriting results is mitigated as the evaluation of
premium adequacy by the Company's actuaries and underwriters incorporates all
expenses.
Premium Revenues
In accordance with SFAS No. 131 "Disclosures about Segments of an
Enterprise and Related Information" adopted at December 31, 1998, the Company
has three reportable segments: domestic reinsurance, domestic primary insurance,
and international operations. See Note 2 of the Notes to Consolidated Financial
Statements for further details.
The Company evaluates performance and allocates resources based on profit
or loss from operations before income taxes, excluding gains and losses on the
Company's investment portfolio. Segment information is reviewed on a statutory
accounting basis which differs from generally accepted accounting principles.
Gross premiums written, assets, pretax net investment income, and pretax income
(loss) are identified for each segment.
Domestic Reinsurance Operations
The domestic reinsurance segment represents the reinsurance of property,
casualty, and specialty lines of business, including general liability,
professional liability, automobile and workers' compensation, and commercial and
personal property risks, including fidelity/surety and ocean marine. The
Company's domestic operation includes business written in the United States and
Canada. The Company principally conducts its business through reinsurance
brokers, however, facultative business is handled through direct placement.
-20-
<PAGE>
<TABLE>
<CAPTION>
Gross Premiums Written Percent Change
------------------------------------ ----------------------------
(Dollars in millions) 1998 1997 1996 98 vs. 97 97 vs. 96
---------- ---------- --------- ------------- ------------
<S> <C> <C> <C> <C> <C>
Domestic Reinsurance:
Casualty $284.3 $320.5 $345.0 (11.3)% (7.1)%
Property 145.5 133.5 158.0 9.0 (15.5)
Specialty/Other 52.4 82.4 70.7 (36.4) 16.4
---------- ---------- --------- ------------- ------------
$482.2 $536.4 $573.7 (10.1)% (6.5)%
</TABLE>
Domestic reinsurance gross premiums written declined to $482.2 million in
1998 compared to $536.4 million in 1997 and $573.7 million in 1996. The decrease
in 1997 and further decline in 1998 largely reflects the competitive pressures
in the casualty insurance market and the Company's decision to not renew
accounts which do not meet the Company's profitability standards. Specifically,
the 1998 decrease in the casualty book and the decrease in the specialty book,
which reflects weak surety/fidelity market conditions, more than offset the
increase in the property book which reflects new account business.
(Dollars in millions) 1998 1997 1996
---------- ---------- ----------
Assets $2,397.5 $2,360.9 $2,056.1
Pretax Net Investment Income $ 110.1 $ 103.8 $ 87.6
Pretax Income Excluding Realized Gains $ 92.4 $ 84.2 $ 65.2
The 1998 net investment income increased 6.8% due to the growth in the
portfolio. The 1997 increase of 18.5% was largely due to the investment benefit
on cash flow derived in 1997 from two retrocessional program terminations.
Domestic Primary Operations
The Company's primary revenues consist of business generated from
Greenwich and Indian Harbor. Greenwich, licensed to write property/casualty
insurance throughout the United States, distributes its products through a
network of managing general agents and general agents who write specialized
products with an emphasis on domestic casualty products. Indian Harbor, an
excess and surplus lines carrier licensed in North Dakota, writes primary
business on a non-admitted basis in selected states. Its focus is on seasoned
profitable program business. The principal lines of primary business written
include automobile, auto warranty, aviation, multiple peril and inland marine.
<TABLE>
<CAPTION>
Gross Premiums Written Percent Change
------------------------------------ ----------------------------
(Dollars in millions) 1998 1997 1996 98 vs. 97 97 vs. 96
--------- ---------- ---------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Domestic Primary:
Casualty $20.5 $19.6 $19.2 4.2% 2.4%
Property 56.9 44.9 31.2 26.8 43.7
Specialty/Other 83.8 66.2 31.4 26.7 111.0
--------- ---------- ---------- ------------ ------------
$161.2 $130.7 $81.8 23.3% 59.9%
</TABLE>
Domestic primary gross premiums written increased to $161.2 million in
1998 compared to $130.7 million in 1997 and $81.8 million in 1996. The 23.3%
increase in 1998 largely represents expanded opportunities on existing accounts
as well as new account business. The 1997 increase of 59.9% emanated largely
from increased growth from an auto warranty program.
(Dollars in millions) 1998 1997 1996
------ ------- -------
Assets $82.7 $78.4 $82.0
Pretax Net Investment Income $ 3.3 $ 3.2 $ 2.8
Pretax (Loss) Income Excluding Realized Gains $(0.8) $ 0.1 $ 2.5
-21-
<PAGE>
A pretax loss was recorded for 1998, stemming from the overall rate
environment and from claims from one program that the Company has since
terminated.
International Operations
NAC Reinsurance International commenced writing non-U.S. property and
casualty treaty business in 1994, subsequently building a facultative operation
starting in 1996. Clients are also serviced through a branch operation in
Sydney, Australia and a contact office in Madrid, Spain. The international
reinsurance segment writes non-U.S. property and casualty reinsurance business.
In 1998, the Company acquired Denham Syndicate Management Limited, the Lloyd's
managing agency that manages Denham Syndicate 990. Denham underwrites a
specialized book of international business, concentrating on long-tail casualty
lines and non-marine physical damage. In 1997, the Company formed Stonebridge
Underwriting Ltd., a subsidiary of NAC Reinsurance International, which is a
corporate capital vehicle participating on the Denham Syndicate. This segment
includes gross 1998 premiums of $12 million generated by Stonebridge
Underwriting Ltd. It is estimated that Stonebridge Underwriting Ltd. will
generate premiums of approximately $40 million in 1999.
<TABLE>
<CAPTION>
Gross Premiums Written Percent Change
------------------------------- ----------------------------
(Dollars in millions) 1998 1997 1996 98 vs. 97 97 vs. 96
-------- -------- -------- ------------ ------------
<S> <C> <C> <C> <C> <C>
International Operations:
Casualty $28.8 $30.3 $22.7 (4.6)% 32.9%
Property 31.9 32.2 38.9 (1.1) (17.1)
Other 12.0 N/A N/A -- --
-------- -------- -------- ------------ ------------
$72.7 $62.5 $61.6 16.4% 1.4%
</TABLE>
Gross premiums written from international operations totaled $72.7 million
in 1998, of which $60.7 million represents reinsurance gross premiums written
compared to $62.5 million in 1997, and $61.6 in 1996. The increase of 16.4% in
1998 reflects the addition of international primary premiums generated from
Stonebridge Underwriting which offset the competitive market conditions in both
casualty and property business. The 1.4% increase in 1997 was largely due to an
increase in casualty business partly offset by a decline in property business.
<TABLE>
<CAPTION>
(Dollars in millions) 1998 1997 1996
---------- ---------- ---------
<S> <C> <C> <C>
Assets $315.7 $258.9 $239.4
Pretax Net Investment Income $ 15.7 $ 14.0 $ 11.1
Pretax Income Excluding Realized Gains (Losses) $ 7.0 $ 9.4 $ 7.3
</TABLE>
Net investment income increased to $15.7 million in 1998 compared to $14.0
million in 1997 and $11.1 million in 1996. The increase in the invested asset
base comprised the growth over the three years.
Worldwide ceded premiums recorded for retrocession agreements were $151.0
million, $130.2 million, and $140.1 million in 1998, 1997, and 1996,
respectively. The Company continually evaluates its retrocessional programs
based on market conditions, pricing, and its own risk tolerance. In 1998, the
increase in ceded premium was primarily due to reinstatement premium in
connection with 1998 catastrophes as well as an increase in specific
retrocessional coverages principally related to the Company's primary
operations. The 1997 decrease in ceded premium was primarily due to improved
pricing for the Company's catastrophe and per risk retrocessional programs and
the termination of two retrocessional programs, partially offset by growth in
certain primary programs with specific reinsurance protection.
The Company's underwriting philosophy of long-term partnerships with
quality core clients as well as further expansion of its client base continues
to underscore the Company's success. Insurers rated A- or better by A.M. Best
comprised the top 30 clients of the Company in 1998. However, no single client
generated more than 7% of premium volume in 1998, and the top 10 clients
represented approximately 40% of premiums compared to 57% four years prior.
Given this client depth, the Company does not believe that any future reduction
of business assumed from any one client will have a materially adverse effect on
its future financial condition or results of operations due
-22-
<PAGE>
to the Company's competitive position in the marketplace and the continuing
availability of other sources of business.
Operating Costs and Expenses
Claims and Claims Expenses
Generally, claims and claims expenses represent the Company's most
significant and uncertain costs. Claims and claims expense reserves are
estimates involving actuarial and statistical projections, at a given point in
time, of what the Company expects the ultimate settlement and administration of
claims will cost based on facts and circumstances then known. The reserves are
based on estimates of claims and claims expenses incurred and, therefore, the
amount ultimately paid may be more or less than such estimates. These expenses
are principally based on NAC's analysis of reports and individual case estimates
received from ceding companies. A provision, on the basis of past experience,
claims audits, and other factors, is included for losses and loss adjustment
expenses incurred but not reported ("IBNR"). The Company expects to refine such
estimates in subsequent accounting periods based upon facts and circumstances
then known.
The fact that the Company's exposure to claims generally begins excess of
its client's exposure contributes to the uncertainty of its claims estimates.
With this excess coverage, claims occur less frequently than coverages which
attach within the primary insurance coverages, thereby providing less credible
historical claims experience from which to estimate ultimate claims costs.
Further, the Company writes coverage in certain volatile casualty lines of
business, such as general liability, director's and officer's liability and
medical malpractice. Claims activity for these lines is characterized by lengthy
litigation, the ultimate cost of which can be influenced significantly by future
court rulings.
Estimates of claims and claims expenses are based in part on a prediction
of future events, estimates of future trends in claims severity and frequency as
well as other variable factors. The Company's ability to predict future trends
based solely upon its own historical claims experience is inherently difficult
because of its substantial growth in premiums since 1985. Therefore, for
purposes of evaluating future trends and providing an estimate of ultimate
claims costs, the Company has supplemented its historical claims experience to a
certain extent with claims experience derived from external sources, such as
reinsurance industry data. As the Company's book of business continues to
mature, its own historical claims experience achieves greater credibility and
enhances its ability to evaluate future trends. Accordingly, the Company
believes its reserving process improves with additional claims experience.
Claims and claims expenses incurred were $351.9 million in 1998 compared
to $379.5 million in 1997 and $339.0 million in 1996. The decrease in 1998
reflects a decline in earned premium and a flat claims and claims expense ratio
in 1998 compared to 1997. The increase in 1997 was principally attributable to
growth in earned premium and a higher claims and claims expense ratio.
Claims payments were $333.8 million in 1998 compared to $78.9 million in
1997 and $190.4 million in 1996. The 1997 claim payments of $78.9 million
reflect the impact of two retrocessional terminations in January 1997 totaling
approximately $225 million representing the total consideration received,
partially offset by several commutations of assumed business during 1997.
The Company's net favorable claims development for business written since
1986 continued to emerge during 1998, 1997, and 1996. The Company's total net
claims and claims expenses for each year reflect favorable claims development
from prior years of $38.1 million in 1998, $38.6 million in 1997, and $33.3
million in 1996. This favorable development is driven by several factors, some
of which are interdependent. A principal factor is the strength of the actuarial
assumptions underlying the business written, particularly with respect to social
and economic inflation. These actuarial assumptions are utilized to establish
the initial expected target loss ratio employed in the actuarial methodologies
from which the reserves for claims and claims expenses are derived. Such loss
ratios are periodically adjusted to reflect comparisons of actuarially-computed
expected claims to actual claims
-23-
<PAGE>
and claims expense development, inflation and other considerations. This
favorable development has offset certain unfavorable development on business
written prior to 1986, principally related to asbestos and environmental claims.
An important area of focus in the reinsurance and insurance industries is
exposure to asbestos and environmental claims. The Company's reserving process
includes a supplemental evaluation of the potential impact on claims liabilities
from exposure to asbestos and environmental claims, including related loss
adjustment expenses. The Company recorded claims and claims expenses incurred
relating to asbestos and environmental claims of $5.5 million in 1998, $8.1
million in 1997, and $10.7 million in 1996, inclusive of paid claims of $3.5
million, $3.8 million, and $4.2 million, respectively. The Company's claims and
claims expense reserves for such exposures, net of reinsurance, as of December
31, 1998, 1997, and 1996 were $34.9 million, $32.8 million, and $28.5 million,
respectively. A reconciliation of the Company's gross and net liabilities for
such exposures for the three years ending December 31, 1998 is set forth in Note
4 of the Notes to Consolidated Financial Statements.
The Company believes it has made a reasonable provision for its asbestos
and environmental exposures and is unaware of any specific issues which would
materially affect its claims and claims expense estimate. The estimation of
claims and claims expense liabilities for asbestos and environmental exposures
is subject to a much greater uncertainty than is normally associated with the
establishment of liabilities for certain other exposures due to several factors,
including: i) uncertain legal interpretation and application of insurance and
reinsurance coverage and liability; ii) the lack of reliability of available
historical claims data as an indicator of future claims development; iii) an
uncertain political climate which may impact, among other areas, the nature and
amount of costs for remediating waste sites; and iv) the potential of insurers
and policyholders to reach agreements in order to avoid further significant
legal costs. Due to the potential significance of these uncertainties, the
Company believes that no meaningful range of claims and claims expense
liabilities beyond recorded reserves can be established. The Company believes
that these issues are not likely to be resolved in the near future. However, as
they are resolved, additional reserve provisions, which could be material in
amount, may be necessary.
The Company is aware of certain evolving potential exposures, generally
referred to as other mass tort liabilities, and to the extent appropriate, the
Company has considered these exposures in its claims and claims expense
reserves.
The Company is unaware of any specific, unusual and significant
circumstances affecting claims reserve estimates, except to the extent
disclosed.
Reinsurance/Catastrophe Management
The Company purchases reinsurance to increase premium capacity and to
reduce the risk of loss on reinsurance underwritten. Historically, the Company
has obtained reinsurance for itself primarily through excess of loss reinsurance
agreements. The Company has also obtained reinsurance protection against
liability on a single event arising from different treaty obligations or from
related losses involving more than one reinsured or contract. To help manage its
exposure to credit risk, the Company evaluates the financial condition of its
retrocessionnaires periodically. Based on this analysis, a reserve for potential
and actual non-recovery from retrocessionnaires unable to meet their obligation
under the retrocession agreement is included in claims and claims expenses.
Charges to earnings for potential and actual non-recoveries amounted to $1.2
million, $3.7 million, and $1.2 million for 1998, 1997, and 1996, respectively,
and reflect a provision for paid and unpaid claims, inclusive of IBNR claims.
These charges relate to reinsurance purchased prior to 1986.
During 1998, the Company maintained catastrophe reinsurance protection of
$97 million in excess of the Company's initial retention of $5 million on a
first and second event. For 1999, the Company has obtained catastrophe
reinsurance protection of approximately $83 million ($65 million with respect to
claims outside the U.S. and Canada) in excess of a $5 million initial net
retention, subject to a graduated increase of approximately $16.9 million in
additional net retention once losses within the U.S. and Canada exceed $40
million. In addition, the Company has accident year stop loss protection which
can reduce the Company's net property catastrophe claims to a maximum retention
of $5 million. The Company evaluates its potential catastrophe exposure,
including both gross loss estimates and the impact of available reinsurance
protection. While the Company believes its management of catastrophe exposures
and underwriting guidelines are adequate, an extremely large catastrophic event
or multiple
-24-
<PAGE>
catastrophic events could have a material adverse effect on the financial
condition and results of operations of the Company.
Investments
Cash and invested assets were $2.5 billion at December 31, 1998 compared
to $2.3 billion at December 31, 1997, excluding net investment payables of $7.6
million and $25.8 million for 1998 and 1997, respectively.
Net investment income increased 6.8% in 1998 compared to 17.9% in 1997 and
16.8% in 1996. The 1998 increase reflects a continued increase in the invested
asset base. The 1997 increase was principally attributable to the benefit
derived from investment of the proceeds of approximately $180 million resulting
from two retrocessional program terminations in early 1997. The Company's
after-tax investment yield was 4.6% in 1998 compared to 4.7% in 1997 and 4.4% in
1996. The Company anticipates moderate growth in investment income during 1999
due to a higher invested asset base. However, this growth will be tempered by
the decreasing yields available in the current interest rate environment.
Realized investment gains, net of tax, were $1.10 per diluted share for
1998, $1.35 per diluted share for 1997, and $.61 per diluted share for 1996.
Gains and losses on the sale of investments are recognized as a component of
operating income, but the timing and recognition of such gains and losses are
unpredictable and are not indicative of future operating results.
The Company's investment strategy is focused principally on income
predictability and asset value stability. The Company's emphasis on high
quality, fixed maturity investments reflects this strategy. Tactical shifts
between taxable and tax-exempt bonds may occur in order to maximize after-tax
investment returns without compromising balance sheet integrity. At the end of
1998, the Company's fixed maturity investments amounted to $2.2 billion, which
approximates 89% of cash and invested assets. Approximately 94% of such
investments are rated investment grade with an average rating of Aa2/AA by
Moody's Investor Services, Inc. or Standard & Poor's. The duration of the 1998
fixed maturity portfolio is 5.7 years, relatively consistent with the 1997
duration.
The balance of the Company's investment portfolio at December 31, 1998,
consisting of cash, short term investments and equity securities, amounted to
$265.8 million. As of December 31, 1998, the Company held $115.1 million or 4.7%
of cash and invested assets in equity securities, representing 15.6% of
statutory surplus. This was compared to $142.5 million or 6.1% of invested
assets in equity securities at December 31, 1997, representing 20.3% of
statutory surplus.
Changes in market interest rates during 1998 resulted in an increase in
the market value of the Company's investment securities. Net unrealized
appreciation of investments, net of tax, was $57.7 million or $3.14 per share at
December 31, 1998 compared to $55.0 million or $3.00 per share at December 31,
1997. The unrealized appreciation was primarily attributable to the market value
fluctuations in the Company's fixed income securities, which are recorded at
their fair market values.
Uncertainties exist regarding interest rates and inflation and their
potential impact on the market values of the Company's fixed income securities.
The Company actively considers the risks and financial rewards associated with
the maturity distribution of its fixed income portfolio. In this regard, the
Company takes into consideration the pattern of expected claims payments and the
Company's future cash flow projections in evaluating its investment
opportunities.
Since the initial capitalization of NAC Re International with $75 million
in 1993 and subsequent contributions in 1994 and 1995, the stockholders' equity
of NAC Re International has grown to $165.9 million as of December 31, 1998.
This capital, a component of the invested assets described above, is being
invested in accordance with the Company's overall investment strategy. At
December 31, 1998, NAC Re International's investment portfolio, which was
primarily invested in U.K. Government securities, had an average duration of 4.0
years and an after-tax investment yield of 4.1%.
-25-
<PAGE>
Equity Investments
During 1998, the Company purchased interests in three separate entities
that transact business within the property/casualty insurance arena. The
aggregate investment was $9.6 million as of December 31, 1998. These long term
investments are expected to enhance the Company's ability to offer solutions to
the specialized needs of its property/casualty clients as well as to provide
opportunities for additional services to clients.
The Company purchased an equity interest in Prime Advisors Inc., a market
leader in property/casualty insurance asset management. Prime provides valuable
client services through the development of investment strategies and investment
performance optimization.
An investment was made in Net Earnings, an Internet company that combines
proprietary Web technology and small business expertise to offer small
businesses and the financial institutions serving them, a portfolio of online
financial services.
The Company also purchased an interest in cyber$ettle.com, Inc. which
provides Internet claims support for the property/casualty insurance industry.
Its flagship product enables subscribing insurance companies, self-insureds, and
municipalities to effect efficient and inexpensive settlements on claims bound
for litigation.
Income Taxes
The Company's effective tax rate decreased to 18.5% in 1998 compared to
22.1% in 1997 and 20.8% in 1996. Excluding investment gains, the Company's 1998
effective tax rate was 11.5% compared to 15.6% in 1997 and 16.8% in 1996. The
1998 decrease reflects the combination of increased foreign tax credits utilized
in 1998 and the benefits of a shift to tax-exempt fixed maturities. The decrease
in the 1997 effective rate compared to 1996 is also attributed to a shift to
tax-exempt fixed maturities in 1997. Note that the Company's future tax position
is subject to changes in the tax laws.
Liquidity and Capital Resources
As a holding company, NAC Re's assets consist primarily of its common
stock investment in NAC. Cash flow within NAC Re consists of investment income,
operating and interest expenses, dividends to stockholders, and dividends and
tax reimbursements from NAC. These dividends are subject to statutory
restrictions as described in Note 11 of the Notes to Consolidated Financial
Statements.
The Company's debt-to-capital ratio declined to 29.4% in 1998 from 32.3%
in 1997. In late 1995, the Company issued $100 million of 7.15% Notes due
November 15, 2005 and raised approximately $49 million on the issuance of
1,530,000 shares of Common Stock. Previously, the Company had raised $200
million in 1992 through the issuance of $100 million of 5.25% Convertible
Subordinated Debentures due December 2002 and $100 million of 8% Notes due June
1999. The Company intends to refinance the 8% Notes before they are due. As a
result of the transactions and borrowings described above, pretax interest
expense including amortization expense was $21.7 million in 1998, $21.7 million
in 1997, and $22.3 million in 1996.
The Company periodically reviews its credit arrangements for renewal based
on its working capital requirements and other financing needs. In December 1998,
the Company canceled its $15 million line of credit for its reinsurance
subsidiary and increased NAC Re's revolving credit agreement and term loan bank
facility to $50 million as of December 31, 1998. A commitment fee of 1/4 of 1%
per year is paid on the unused credit line. Borrowings of $12.9 million were
outstanding at December 31, 1998 and were principally used in connection with
repurchases of the Company's common stock. The facility is scheduled to be
reduced on a quarterly basis beginning in January 1999.
-26-
<PAGE>
During 1998, the Company repurchased approximately 223,000 shares of NAC
Re Common Stock under the stock repurchase program for an aggregate purchase
price of approximately $11.0 million. As of December 31, 1998, approximately
433,000 shares remained authorized for repurchase under the program.
The Company's quarterly dividend on its Common Stock increased 20% in June
1998 to $.09 per share from $.075 per share. It is anticipated that the cash
dividend level will leave sufficient retained earnings to meet the Company's
future financial needs.
Consolidated stockholders' equity totaled $750.7 million or $40.86 per
basic share at December 31, 1998 compared to $657.1 million or $35.89 per basic
share at December 31, 1997.
Statutory surplus of the reinsurance subsidiary was approximately $737
million and $702 million at the end of 1998 and 1997, respectively. Indicative
of its strengthened capital position is NAC's growth in surplus, primarily due
to statutory net income, and its rank as one of the 10 largest domestic
reinsurers as measured on this basis. The Company believes its surplus level
enhances its ability to attract new business and retain its existing client
base.
The Company's insurance operations create liquidity in that premiums are
received substantially in advance of the time claims are paid. Over the most
recent three years, cash flow provided by operating activities totaled over $590
million, including 1998 cash flow of $109.6 million. The cash flow for 1998
decreased from 1997 principally due to additional cash flow of approximately
$180 million in 1997 from the termination of two retrocessional programs,
coupled with higher claim payments in 1998.
Accounting Pronouncements
See Note 1 of the Notes to Consolidated Financial Statements of NAC Re for
a discussion on accounting pronouncements.
Market Sensitive Instruments
Market Risk
The Company is exposed to various market risks, including changes in
interest rates and foreign currency exchange rates. Market risk is the potential
loss arising from adverse changing interest rates and foreign currency exchange
rates. The Company manages its market risks based on guidelines established by
management. The Company does not enter into derivatives or other financial
instruments for trading purposes.
Since the Company's cash and invested assets exceed its long term debt,
the exposure to interest rate risk relates primarily to its investment
portfolio. The main objectives of managing the investment portfolio of the
Company are to maximize after tax investment income in a manner consistent with
the expected maturities of the liabilities the investments support and to ensure
liquidity and provide income predictability. At December 31, 1998, the Company's
fixed maturity portfolio totaled $2.2 billion. The Company's fixed securities
are categorized as assets held for sale and have a duration of approximately 5.5
years.
Generally, the fair market value of fixed income securities will increase
as interest rates fall and decrease as interest rates rise. The estimated value
of the Company's fixed income securities resulting from an immediate 100 basis
point shift in the treasury yield curve will result in an unrealized loss of
approximately $104 million.
The above discussion of the Company's market risk and the estimated
amounts generated from the sensitivity analyses are forward-looking statements
that relate to risk and uncertainties. Actual results in the future may differ
materially from those projected results in the forward-looking statements.
-27-
<PAGE>
Exchange Rate Risk
The Company's exchange rate exposure results primarily from its
investments in the Company's international operation in London, England. This
exposure stems from transaction gain and loss risk with respect to that
entities' cash flows conducted in currencies other than the functional currency.
The Company's foreign subsidiaries maintain a policy of matching asset and
liability risk with respect to both currency and interest rate exposure. The
Company is also exposed to the extent change in currency rates affect its net
investment in foreign subsidiaries.
Subsequent Event
See Note 15 of the Notes to Consolidated Financial Statements of NAC Re
for a discussion on subsequent events.
Regulatory Initiatives
NAC Re and its domestic subsidiaries are subject to regulatory oversight
under the insurance statutes and regulations of the jurisdictions in which they
conduct business, including all states of the United States and Canada. NAC Re
International is subject to the regulatory authority of the United Kingdom
Department of Trade and Industry and its Australian branch office is also
subject to the Australian Insurance and Supervisory Commission's solvency and
regulatory authority. These regulations vary from jurisdiction to jurisdiction
and are generally designed to protect ceding insurance companies and
policyholders by regulating the Company's financial integrity and solvency in
its business transactions and operations. Many of the insurance statutes and
regulations applicable to the Company relate to reporting and disclosure
standards which allow insurance regulators to closely monitor the Company's
performance. Typical required reports include information concerning the
Company's capital structure, ownership, financial condition, and general
business operations.
In 1993, the National Association of Insurance Commissioners (the "NAIC"),
by adopting a model risk-based capital act, intended to provide an additional
tool for regulators to evaluate the capital of property and casualty insurers
and reinsurers with respect to the risks assumed by them and determine whether
there is a perceived need for corrective action. The nature of the corrective
action depends upon the extent of the calculated risk-based capital deficiency
and ranges from requiring the Company to submit a comprehensive plan to placing
the insurer under regulatory control. While the model risk-based capital act has
not yet been adopted in New York, NAC's domicile, New York has issued a circular
letter requiring the filing of risk-based capital reports by property and
casualty insurers and reinsurers. The NAIC also adopted a proposal that requires
property and casualty insurers and reinsurers to report the results of their
risk-based capital calculations as part of the statutory annual statements filed
with state regulatory authorities. Surplus (as calculated for statutory annual
statement purposes) for each of the Company's domestic subsidiaries is well
above the risk-based capital thresholds that would require either company or
regulatory action.
Various other legislative and regulatory initiatives have been proposed
from time-to-time that could impact the property/casualty insurance industry.
Congress is expected to consider bills targeting financial services
modernization, tax reform, Year 2000 liability, Superfund and product liability
reform, and natural disaster protection. The NAIC continues to refine the
risk-based capital formula for property/casualty insurers as well as adopt model
legislation and regulations regarding insurer investments, accounting standards,
and other regulatory matters. While the Company cannot quantify the impact of
any of these legislative or regulatory measures on its operations, we believe
the Company is adequately positioned to compete in an environment of more
stringent regulation. To the extent that federal legislation, if passed, reduces
litigation costs, it would be a favorable development for the Company.
Impact of the Year 2000 Issue
Information Technology Systems Readiness: The Company began assessing the
impact of the Year 2000 issue on its computer hardware and software systems in
1995. The Company completed its inventory and assessment of all information
technology ("IT") systems (including embedded technology) in 1998. Certain
systems were identified
-28-
<PAGE>
as requiring an upgrade, and others have been designated for replacement with
Year 2000-compliant versions. Plans are in place to complete these upgrades and
replacements by the end of third quarter of 1999.
The Company completed verification testing of its IT infrastructure
systems in 1998. Also in 1998, the Company remediated the computer code of its
legacy reinsurance system. This system is currently being tested to determine if
further remediation is required. Other critical systems that could be impacted
by a Year 2000 issue have been scheduled for some form of testing or
verification. The testing, verification, remediation, and implementation
processes are expected to continue through the end of the 1999 third quarter.
As of the date of this disclosure, management has not identified any
hardware or software computer system with a significant Year 2000 compliance
problem that it believes could have a materially adverse effect on the Company's
financial condition or results of operations. To maintain the Year 2000
readiness status of its tested and remediated IT systems, the Company intends to
retain an IT consulting firm to assist management in monitoring future
compliance changes made by its IT vendors.
Critical Third-Party Constituent Readiness: The Company has contacted its
critical customers, retrocessionnaires, reinsurance intermediaries, managing
general agents, suppliers, and other constituents to determine the nature and
extent of their Year 2000 readiness efforts, and whether their failure to
resolve their own Year 2000 problems would have a material adverse affect on the
Company's financial condition or results of operations. The majority of the
critical third-party constituents reported that they were Year 2000-ready by
December 31, 1998, while others expect that they will be ready at various dates
in 1999. The Company resurveyed all critical third-party constituents in January
1999 to determine if the companies met, or still expect to meet, their
previously reported readiness target dates. Their responses will be factored
into the Company's business contingency plans.
Compliance Costs: The Company's estimated total aggregate Year 2000
readiness costs are not expected to exceed $2 million. The Company incurred
$381,000 in 1998, principally for consulting fees, hardware, and hardware
leases.
Contingency Planning: Management is currently revising its existing
business continuity plans to address how certain potential material internal or
external Year 2000-related failures may impact the Company's critical processes.
The Company acknowledges that, among other things, Year 2000-related failures
could lead to temporary reliance on manual systems to process business
transactions; delayed regulatory reporting of material financial and other
information; delayed receipt of premiums and payment of claims; and disruptions
in the management of the Company's bank accounts and investment portfolios. At
this time, the Company does not expect such worst-case Year 2000 disruptions to
occur, based upon the information currently available to it. However, the
Company intends to address these scenarios in its contingency plans. In
addition, the contingency plans will take into account, but not be limited to,
the following issues: (1) staffing requirements at year-end 1999 and throughout
2000; (2) retention programs for critical personnel, as deemed necessary; (3)
proactive procedures and routines that can be performed to detect problems as
early as possible; and (4) procedures for policy issuance and claims handling in
case temporary failures of our managing general agents and third-party
administrator systems occur. The Company intends to challenge and test its
contingency plans in the third quarter of 1999.
Potential Claims Exposure: The Company is attempting, whenever possible,
to avoid or otherwise limit its overall exposure to Year 2000-related risks in
the context of both its assumed business and retrocessional protection; however,
it may still have material exposure in its property and casualty operations to
Year 2000-related claims. The Company has worked with its brokers and clients to
assess potential Year 2000 exposures in both its new and existing business. If,
in the Company's opinion, the Year 2000 exposure is minimal, or management
believes the cedent is adequately underwriting that exposure, the Company may
not exclude such exposures from its contracts. On the other hand, if the
exposure is believed to be significant, or the cedent, in management's opinion,
is not adequately underwriting the Year 2000 exposure, the Company will attempt
to exclude those exposures or non-renew those contracts. It is not yet possible
to estimate the potential financial impact on the Company of the Year
2000-related claims that may emerge in the future, or to determine whether such
claims will be made against insurance or reinsurance contracts in which the
Company participates, or if such claims will be held to have merit.
-29-
<PAGE>
Other Year 2000 Considerations: Significant failures of certain essential
services including, but not limited to, the telecommunications, utility,
banking, securities, and transportation industries, due to their own Year 2000
problems are generally beyond the Company's control and could have a material
adverse impact on the Company's financial condition or results of operations.
All predictions regarding the impact of the Year 2000 issue on the Company, its
critical third-party constituents, and attendant costs are inherently subject to
unknown risks and uncertainties. While the Company is currently unaware of any
material Year 2000 problems that it believes are reasonably likely to disrupt
its operations, the Company cautions that the factors and assumptions described
above, as well as unknown factors, may cause the Company's actual Year 2000
readiness results, costs and impact on its business, operations, or financial
condition to differ materially from those discussed above.
Safe Harbor Disclosure for Forward-Looking Statements
In connection with the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995 (the "Act"), the Company sets forth below
cautionary statements identifying important factors that could cause the
Company's actual results to differ materially from those which might be
projected, forecasted, or estimated or otherwise implied in the Company's
forward-looking statements, as defined in the Act, made by or on behalf of the
Company in press releases, written statements or documents filed with the
Securities and Exchange Commission, or in its communications and discussions
with investors and analysts in the normal course of business through meetings,
telephone calls and conference calls. Such statements may include, but are not
limited to, projections of premium revenue, investment income, other revenue,
losses, expenses, earnings (including earnings per share), cash flows, plans for
future operations, common shareholders' equity, financing needs, capital plans,
dividends, plans relating to products or services of the Company, and estimates
concerning the effects of litigation or other disputes, as well as assumptions
for any of the foregoing and are generally expressed with words such as
"believes," "estimates," "expects," "anticipates," "could have," "may have," and
similar expressions.
Forward-looking statements are inherently subject to risks and
uncertainties. The Company cautions that factors which may cause the Company's
results to differ materially from such forward-looking statements include, but
are not limited to, the following:
(1) Changes in the level of competition in the reinsurance or primary
insurance markets that adversely affect the volume or profitability of the
Company's business. These changes include, but are not limited to, the
intensification of price competition, the entry of new competitors,
existing competitors exiting the market, and the development of new
products by new and existing competitors;
(2) Changes in the demand for reinsurance, including changes in ceding
companies' retentions, and changes in the demand for primary and excess
and surplus lines insurance coverages;
(3) The ability of the Company to execute its business strategies;
(4) Changes in the frequency and severity of catastrophes which could
significantly impact the Company's business in terms of net income,
reinsurance costs, and cash flow;
(5) Adverse development on claims and claims expense liabilities related to
business written in prior years, including, but not limited to, evolving
case law and its effect on environmental and other latent injury claims,
changing government regulations, newly identified toxins, newly reported
claims, inflation, new theories of liability, or new insurance and
reinsurance contract interpretations;
(6) Changes in the Company's retrocessional arrangements;
(7) Lower than estimated retrocessional or reinsurance recoveries on unpaid
losses, including, but not limited to, losses due to a decline in the
creditworthiness of the Company's retrocessionnaires or reinsurers;
(8) Increases in interest rates, which cause a reduction in the market value
of the Company's interest rate sensitive investments, including, but not
limited to, its fixed income investment portfolio, and its common
shareholders' equity and decreases in interest rates causing a reduction
of income earned on new cash flow from operations and the reinvestment of
the proceeds from sales, calls or maturities of existing investments;
-30-
<PAGE>
(9) Declines in the value of the Company's common equity investments and
credit losses on the Company's investment portfolio;
(10) Gains or losses related to foreign currency exchange rate fluctuations;
and
(11) Adverse results in litigation matters including, but not limited to,
litigation related to environmental, asbestos, other potential mass tort
claims, and claims related to the Year 2000 problem.
In addition to the factors outlined above that are directly related to the
Company's business, the Company is also subject to general business risks,
including, but not limited to, adverse state, federal or foreign legislation and
regulation, adverse publicity or news coverage, changes in general economic
factors, and the loss of key employees.
Item 8. Financial Statements and Supplementary Data
Index to Consolidated Financial Statements and Related Notes Page
----
- --Consolidated Balance Sheet at December 31, 1998 and 1997. 32
- --Consolidated Statement of Income for the years ended
December 31, 1998, 1997 and 1996. 33
- --Consolidated Statement of Stockholders' Equity for the years ended
December 31, 1998, 1997 and 1996. 34
- --Consolidated Statement of Cash Flows for the years ended
December 31, 1998, 1997 and 1996. 35
- --Notes to Consolidated Financial Statements 36
-31-
<PAGE>
================================================================================
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
In Thousands
- -------------------------------------------------------------------------------------------------------
December 31,
--------------------------
1998 1997
- -------------------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Investments:
Available for sale:
Fixed maturities (amortized cost: 1998, $2,108,692; 1997, $2,021,501) $ 2,190,617 $ 2,088,588
Equity securities (cost: 1998, $108,276; 1997, $124,999) 115,064 142,527
Short-term investments 146,828 108,489
- -------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS 2,452,509 2,339,604
Cash 3,915 8,430
Accrued investment income 36,270 36,347
Premiums receivable 239,674 227,569
Reinsurance recoverable balances, net 262,872 172,277
Reinsurance recoverable on unearned premiums 49,962 31,297
Deferred policy acquisition costs 98,874 92,709
Excess of cost over net assets acquired 8,013 3,276
Deferred tax asset, net 37,481 42,646
Other assets 38,062 30,710
- -------------------------------------------------------------------------------------------------------
TOTAL ASSETS $ 3,227,632 $ 2,984,865
=======================================================================================================
LIABILITIES
Claims and claims expenses $ 1,718,237 $ 1,603,972
Unearned premiums 341,443 301,711
8% Notes due 1999 100,000 100,000
7.15% Notes due 2005 99,949 99,942
5.25% Convertible Subordinated Debentures due 2002 100,000 100,000
Investment accounts payable 7,612 26,108
Revolving credit agreement 12,924 12,924
Other liabilities 96,742 83,147
- -------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES 2,476,907 2,327,804
- -------------------------------------------------------------------------------------------------------
STOCKHOLDERS' EQUITY
Preferred stock, $1.00 par value:
1,000 shares authorized, none issued
(Includes 277.5 shares of Series A Junior Preferred Stock) -- --
Common stock, $.10 par value:
25,000 shares authorized (1998, 21,991; 1997, 21,707 shares issued) 2,199 2,171
Additional paid-in capital 268,468 255,424
Accumulated other comprehensive income 62,778 60,989
Retained earnings 516,036 426,309
Less treasury stock, at cost (1998, 3,617; 1997, 3,398 shares) (98,756) (87,832)
- -------------------------------------------------------------------------------------------------------
TOTAL STOCKHOLDERS' EQUITY 750,725 657,061
- -------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 3,227,632 $ 2,984,865
=======================================================================================================
</TABLE>
See Notes to Consolidated Financial Statements.
-32-
<PAGE>
================================================================================
CONSOLIDATED STATEMENT OF INCOME
In Thousands, except per share amounts
- --------------------------------------------------------------------------------
Year ended December 31,
--------------------------------------
1998 1997 1996
--------------------------------------
PREMIUMS AND OTHER REVENUES
Net premiums written $ 553,666 $ 593,656 $ 574,004
Increase in unearned premiums (20,820) (19,009) (47,662)
- --------------------------------------------------------------------------------
Premiums earned 532,846 574,647 526,342
Net investment income 131,459 123,050 104,330
Net investment gains 35,074 42,675 19,569
- --------------------------------------------------------------------------------
Total revenues 699,379 740,372 650,241
- --------------------------------------------------------------------------------
OPERATING COSTS AND EXPENSES
Claims and claims expenses 351,888 379,495 338,953
Commissions and brokerage 137,996 151,152 143,324
Other operating expenses 69,897 65,160 56,606
Interest expense 21,716 21,735 22,322
- --------------------------------------------------------------------------------
Total operating costs and expenses 581,497 617,542 561,205
- --------------------------------------------------------------------------------
INCOME
Operating income before income taxes 117,882 122,830 89,036
Federal and foreign income taxes:
Current 17,120 50,556 23,310
Deferred 4,712 (23,403) (4,794)
- --------------------------------------------------------------------------------
Income tax expense (benefit) 21,832 27,153 18,516
- --------------------------------------------------------------------------------
Operating income/net income $ 96,050 $ 95,677 $ 70,520
================================================================================
PER SHARE DATA
Basic:*
Average shares outstanding 18,282 18,378 18,855
Operating income/net income $ 5.25 $ 5.21 $ 3.74
================================================================================
Diluted (assuming conversion
of dilutive convertible securities):*
Average shares outstanding 20,844 20,809 21,115
Operating income/net income $ 4.78 $ 4.77 $ 3.51
================================================================================
Cash dividends declared per share $ 0.345 $ 0.285 $ 0.23
================================================================================
See Notes to Consolidated Financial Statements.
* 1996 data restated per SFAS No. 128.
-33-
<PAGE>
================================================================================
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
In Thousands
- ------------------------------------------------------------------------------------------------------------------------------------
Accumulated
Other Total
Common Paid-in Comprehensive Retained Treasury Comprehensive Stockholders'
Stock Capital Income Earnings Stock Income Equity
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1995 $ 2,134 $ 246,356 $ 269,660 $ (42,598) $ 36,204 $ 511,756
Comprehensive income:
Net income $ 70,520 70,520 70,520
Other comprehensive income, net of tax:
Unrealized depreciation of investments (3,487) (3,487)
Currency translation adjustments 7,360 7,360
---------
Other comprehensive income 3,873 3,873
---------
Total comprehensive income $ 74,393
---------
Issuance of shares 12 2,306 2,318
Dividends declared on common stock (4,312) (4,312)
Purchase of treasury shares (30,886) (30,886)
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at December 31,1996 2,146 248,662 335,868 (73,484) 40,077 553,269
====================================================================================================================================
Comprehensive income:
Net income $ 95,677 95,677 95,677
Other comprehensive income, net of tax:
Unrealized appreciation of investments 23,300 23,300
Currency translation adjustments (2,388) (2,388)
---------
Other comprehensive income 20,912 20,912
---------
Total comprehensive income $ 116,589
---------
Issuance of shares 25 6,762 6,787
Dividends declared on common stock (5,236) (5,236)
Purchase of treasury shares (14,348) (14,348)
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at December 31,1997 2,171 255,424 426,309 (87,832) 60,989 657,061
====================================================================================================================================
Comprehensive income:
Net income $ 96,050 96,050 96,050
Other comprehensive income, net of tax:
Unrealized appreciation of investments 2,661 2,661
Currency translation adjustments (872) (872)
---------
Other comprehensive income 1,789 1,789
---------
Total comprehensive income $ 97,839
---------
Issuance of shares 28 13,044 13,072
Dividends declared on common stock (6,323) (6,323)
Purchase of treasury shares (10,924) (10,924)
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at December 31,1998 $ 2,199 $268,468 $ 516,036 $ (98,756) $ 62,778 $750,725
====================================================================================================================================
</TABLE>
See Notes to Consolidated Financial Statements
-34-
<PAGE>
================================================================================
CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
In Thousands
- ---------------------------------------------------------------------------------------------------
Year ended December 31,
-------------------------------------------
1998 1997 1996
- ---------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income $ 96,050 $ 95,677 $ 70,520
Adjustments to reconcile net income to net cash
provided by operating activities:
Reserve for claims and claims expenses, net 17,779 300,609 147,927
Unearned premiums, net 20,843 19,025 47,703
Premiums receivable (11,855) (27,692) (43,512)
Accrued investment income 96 (7,903) (1,266)
Reinsurance balances, net 9,963 (33,637) (18,063)
Deferred policy acquisition costs (6,108) (7,522) (14,518)
Net investment gains (35,070) (42,678) (19,577)
Deferred tax asset, net (4,037) (24,499) (4,980)
Other liabilities 14,700 12,937 6,447
Other items, net 7,285 30,055 (4,564)
- ---------------------------------------------------------------------------------------------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 109,646 314,372 166,117
- ---------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Sales of fixed maturity investments 1,484,207 1,469,950 1,336,125
Maturities of fixed maturity investments 27,344 31,680 31,094
Purchases of fixed maturity investments (1,598,045) (1,839,020) (1,508,258)
Net (purchases) sales of short-term investments (37,930) (27,212) 53,646
Sales of equity securities 99,397 154,196 79,569
Purchases of equity securities (72,558) (94,681) (104,917)
Purchases of furniture and equipment (6,057) (5,634) (6,775)
- ---------------------------------------------------------------------------------------------------
NET CASH USED FOR INVESTING ACTIVITIES (103,642) (310,721) (119,516)
- ---------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Issuance of shares 6,964 5,864 1,951
Purchase of treasury shares, net of reissuance (10,924) (14,348) (30,886)
Cash dividends paid to stockholders (6,043) (4,968) (4,163)
Borrowings under revolving credit agreement -- -- 8,162
Repayments under revolving credit agreement -- -- (13,000)
- ---------------------------------------------------------------------------------------------------
NET CASH USED FOR FINANCING ACTIVITIES (10,003) (13,452) (37,936)
===================================================================================================
Effects of exchange rate changes on cash (516) (622) (132)
- ---------------------------------------------------------------------------------------------------
(Decrease) increase in cash (4,515) (10,423) 8,533
Cash - beginning of year 8,430 18,853 10,320
- ---------------------------------------------------------------------------------------------------
Cash - end of year $ 3,915 $ 8,430 $ 18,853
===================================================================================================
</TABLE>
See Notes to Consolidated Financial Statements
-35-
<PAGE>
================================================================================
Notes To Consolidated Financial Statements
1. Summary of Significant Accounting Policies
Basis of Presentation
The consolidated financial statements have been prepared on the basis of
GAAP and include the accounts of NAC Re and its subsidiaries. All intercompany
transactions and balances have been eliminated in consolidation.
The preparation of the financial statements in conformity with GAAP
requires the use of estimates and assumptions that affect amounts reported in
the financial statements and the accompanying notes. Actual results could differ
from such estimates.
Premium Revenues and Related Expenses
Property/casualty premiums are recognized as income over the terms of the
related reinsurance and insurance contracts and policies. Unearned premium
reserves represent the portion of premiums written that relate to the unexpired
terms of contracts and policies in force. Such reserves are computed by pro rata
methods based on statistical data or reports received from ceding companies.
Certain of the Company's assumed and retrocession agreements include provisions
that adjust premium payments based upon the experience under the contracts.
Premiums are recorded based upon the expected ultimate experience under the
agreements.
Acquisition costs, consisting principally of commissions and brokerage
expenses incurred at the time a contract or policy is issued, are deferred and
amortized over the contract period in which the related premiums are earned.
Deferred policy acquisition costs are limited to their estimated realizable
value based on the related unearned premiums and take into account anticipated
claims and claims expenses, based on historical and current experience, and
anticipated investment income.
Investments
Fixed maturities, which include bonds, notes and redeemable preferred
stocks and equity securities, including common and non-redeemable preferred
stocks, have been categorized as "available for sale" and recorded at their fair
value. The fair value of publicly traded fixed maturity and equity securities is
estimated using quoted market prices or dealer quotes. Investments in which the
Company owns between 20% and 50% of the outstanding voting common stock of the
issuer are carried under the equity method of accounting. Under this method, the
Company records its proportionate share of income or loss for such investments
in results of operations. Short-term investments, which have an original
maturity of one year or less, are carried at cost, which approximates fair
value.
The Company categorizes all of its fixed maturity and equity securities as
available for sale in order to provide the Company with the flexibility to
respond to various factors, including changes in market conditions and tax
planning considerations. Unrealized appreciation or depreciation of the
securities available for sale, net of applicable deferred income taxes, is
excluded from income, and recorded as a separate component of accumulated other
comprehensive income in stockholders' equity.
Realized investment gains or losses on the sale or maturity of investments
are determined by the specific identification method. Net investment income,
consisting of dividends and interest, net of investment expenses, is recognized
when earned. The amortization of premium and accretion of discount for fixed
maturities is computed utilizing the interest method. The effective yield
utilized in the interest method is adjusted when sufficient information exists
to estimate the probability and timing of prepayments.
Claims and Claims Expenses
The reserves for claims and claims expenses are based on the Company's
analysis of reports and individual case estimates received from ceding
companies. An amount is included for claims and claims expenses incurred but not
reported on the
-36-
<PAGE>
basis of past experience of the Company and the reinsurance/insurance industry.
These estimates are reviewed regularly and, as claims develop and new
information becomes known, the reserves are adjusted as necessary. Such
adjustments, if any, are reflected in results of operations in the period in
which they become known and are accounted for as changes in estimates. Reserves
are generally recorded without consideration of potential salvage or subrogation
recoveries which are estimated to be immaterial; such recoveries, when realized,
are reflected as a reduction of claims incurred. Certain workers' compensation
case reserves are considered fixed and determinable and are subject to tabular
reserving. Such tabular reserves are discounted using an interest rate of 7%.
Income Taxes
The Company utilizes the liability method of accounting for income taxes.
Under the liability method, deferred income taxes reflect the net tax effect of
temporary differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes. A
valuation allowance is established for any portion of a deferred tax asset that
management believes will not be realized.
Stock Plans
The Company accounts for stock compensation plans in accordance with
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued
to Employees." Accordingly, compensation expense for stock option grants and
stock appreciation rights ("SARs") is recognized to the extent that the fair
value of the stock exceeds the exercise price of the option at the measurement
date.
Per Share Data
Basic earnings per share is based on weighted average common shares and
excludes any dilutive effects of options and convertible securities. Diluted
earnings per share assumes the conversion of dilutive convertible securities and
the exercise of all dilutive stock options. See Note 12 for information with
respect to the computation of earnings per share.
Furniture, Equipment and Leasehold Improvements
The costs of furniture and equipment are charged against income over their
estimated service lives. Leasehold improvements are amortized over the remaining
terms of the office leases. Depreciation and amortization are computed using the
straight-line method. Maintenance and repairs are charged to expense as
incurred. Depreciation and amortization expense was approximately $4.5 million,
$3.5 million and $3.0 million for the years ended December 31, 1998, 1997 and
1996, respectively.
Foreign Exchange
The assets and liabilities of foreign operations are translated at the
rate of exchange in effect at the balance sheet date. Revenues and expenses of
foreign operations are translated at average exchange rates during the year. The
effect of the translation adjustments for foreign operations is recorded, net of
applicable deferred income taxes, as a separate component of accumulated other
comprehensive income in stockholders' equity. Foreign currency transaction gains
and losses are included in net income and are not material.
Cost in Excess of Net Assets Acquired
The excess of cost over net assets acquired is amortized on a
straight-line basis over a period of twenty years. Amortization charged to
operating expenses was approximately $464,000 for the year ended December 31,
1998 and $368,000 for each of the years ended December 31, 1997 and 1996.
Supplemental Cash Flow Information
In August 1998, NAC Re acquired Denham Syndicate Management Limited
("Denham Syndicate") for 100,610 shares of NAC Re Common Stock. The acquisition
was accounted for by the purchase method of accounting. The excess of cost over
the fair value of net assets acquired of $5.2 million is being amortized over a
period of twenty years.
-37-
<PAGE>
Accounting Pronouncements
In February 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits," which is
effective for fiscal years beginning after December 15, 1997. This Statement
does not change the recognition or measurement of pension or postretirement
benefit plans, but standardizes disclosure requirements for pensions and other
postretirement benefits. See Note 9 with respect to the Company's retirement
plans.
In September 1998, the FASB issued SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities," which is required to be adopted
in years beginning after June 15, 1999. The Company does not anticipate that the
adoption of this Statement will have a material effect on the Company's
financial position.
2. Segment Information
At December 31, 1998, the Company adopted SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information." This Statement requires that
companies report certain information about their operating segments in the
interim and annual financial statements, including information about the
products and services from which revenues are derived, the geographic areas of
operation and information regarding major customers. The Statement defines
operating segments based on internal management reporting and management's
decisions about assessing performance and allocating resources.
The Company's operations are conducted in three reportable segments:
domestic reinsurance, domestic primary insurance and the international
operation. The domestic reinsurance segment generally writes property, casualty,
fidelity/surety and ocean marine business through reinsurance brokers. The
domestic primary insurance segment operates through managing and general agents
and writes certain specialty classes such as auto warranty business. The primary
operation consists of business generated by Greenwich Insurance Company and
Indian Harbor Insurance Company. The international operation primarily writes
non-U.S. property and casualty reinsurance business. Due to immateriality, the
Company's international subsidiary, Stonebridge Underwriting, Ltd.
("Stonebridge"), which is participating as a corporate capital vehicle on a
Lloyd's syndicate is included in the international operation segment.
The Company evaluates performance and allocates resources based on profit
or loss from operations before income taxes, excluding gains and losses on the
Company's investment portfolio. Segment information is reviewed on a statutory
accounting basis.
<TABLE>
<CAPTION>
In Thousands
Year ended December 31, 1998
-----------------------------------------------------------------
Domestic
-------------------------------------- International Total
Reinsurance Primary* Total Operations Segments
----------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Net premiums written - external $ 381,865 $ 103,529 $ 485,394 $ 68,272 $ 553,666
Net intersegment premiums 99,475 (88,001) 11,474 (11,474) --
---------- ---------- ---------- ---------- ----------
Total net premiums written 481,340 15,528 496,868 56,798 553,666
Net investment income 110,059 3,251 113,310 15,709 129,019
Pretax income (loss) excluding realized
gains 92,405 (819) 91,586 7,035 98,621
Realized gains 25,502 6 25,508 9,597 35,105
---------- ---------- ---------- ---------- ----------
Total segment pretax income (loss) 117,907 (813) 117,094 16,632 133,726
Total segment assets 2,397,468 82,736 2,480,204 315,655 2,795,859
</TABLE>
-38-
<PAGE>
<TABLE>
<CAPTION>
In Thousands
Year ended December 31, 1997
-----------------------------------------------------------------
Domestic
-------------------------------------- International Total
Reinsurance Primary* Total Operations Segments
----------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Net premiums written - external $ 448,892 $ 86,665 $ 535,557 $ 58,099 $ 593,656
Net intersegment premiums 79,469 (73,664) 5,805 (5,805) --
---------- ---------- ---------- ---------- ----------
Total net premiums written 528,361 13,001 541,362 52,294 593,656
Net investment income 103,794 3,158 106,952 13,963 120,915
Pretax income excluding realized gains 84,237 104 84,341 9,396 93,737
Realized gains 37,447 123 37,570 5,119 42,689
---------- ---------- ---------- ---------- ----------
Total segment pretax income 121,684 227 121,911 14,515 136,426
Total segment assets 2,360,854 78,414 2,439,268 258,945 2,698,213
<CAPTION>
In Thousands
Year ended December 31, 1998
-----------------------------------------------------------------
Domestic
-------------------------------------- International Total
Reinsurance Primary* Total Operations Segments
----------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Net premiums written - external $ 468,472 $ 50,394 $ 518,866 $ 55,138 $ 574,004
Net intersegment premiums 45,846 (42,836) 3,010 (3,010) --
Total net premiums written 514,318 7,558 521,876 52,128 574,004
Net investment income 87,592 2,761 90,353 11,124 101,477
Pretax income excluding realized
gains (losses) 65,235 2,475 67,710 7,258 74,968
Realized gains (losses) 19,417 99 19,516 (34) 19,482
---------- ---------- ---------- ---------- ----------
Total segment pretax income 84,652 2,574 87,226 7,224 94,450
Total segment assets 2,056,091 82,037 2,138,128 239,443 2,377,571
</TABLE>
* The domestic primary segment ceded approximately 85% of all underwriting
activity to the domestic reinsurance segment pursuant to a quota share
reinsurance arrangement.
In Thousands
Year ended December 31,
-----------------------------------
1998 1997 1996
--------- --------- ---------
Net Investment Income:
Total segment net investment income $ 129,019 $ 120,915 $ 101,477
GAAP adjustments 2 38 38
Parent Co. investment income 2,438 2,097 2,815
--------- --------- ---------
Total consolidated net investment income $ 131,459 $ 123,050 $ 104,330
========= ========= =========
Income or Loss:
Total segment pretax income $ 133,726 $ 136,426 $ 94,450
Segment income taxes (21,583) (56,856) (29,908)
GAAP adjustments (778) 30,173 19,272
Parent Co. net loss (15,315) (14,066) (13,294)
--------- --------- ---------
Total consolidated income $ 96,050 $ 95,677 $ 70,520
========= ========= =========
In Thousands
December 31,
-----------------------------------------
1998 1997 1996
----------- ----------- -----------
Assets:
Total segment assets $ 2,795,859 $ 2,698,213 $ 2,377,571
GAAP adjustments 580,769 448,852 532,063
Parent Co./other assets 1,090,991 986,778 872,955
Intercompany elimination (1,239,987) (1,148,978) (1,036,958)
----------- ----------- -----------
Total consolidated assets $ 3,227,632 $ 2,984,865 $ 2,745,631
=========== =========== ===========
-39-
<PAGE>
Supplemental Segment and Geographic Information
The following table summarizes the Company's gross and net premiums
written by type of business and by geographic area. Allocations to geographic
areas have been made on the basis of subsidiary location.
<TABLE>
<CAPTION>
In Thousands
------------------------------------------------------------------------
Gross Premiums Written Net Premiums Written
Year ended December 31, Year ended December 31,
----------------------------------- ---------------------------------
1998 1997 1996 1998 1997 1996
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
United States (Domestic):
Casualty $ 304,711 $ 340,128 $ 364,118 $ 262,330 $ 313,286 $ 328,929
Property 202,477 178,445 189,200 141,028 122,626 121,089
Specialty/Other 136,233 148,591 102,133 93,510 105,450 71,858
--------- --------- --------- --------- --------- ---------
Total U.S. 643,421 667,164 655,451 496,868 541,362 521,876
International:
Casualty 28,860 30,259 22,761 26,268 27,464 22,151
Property 31,885 32,250 38,878 19,513 24,830 29,977
Other 11,999 -- -- 11,017 -- --
--------- --------- --------- --------- --------- ---------
Total International 72,744 62,509 61,639 56,798 52,294 52,128
--------- --------- --------- --------- --------- ---------
Intercompany elimination (11,474) (5,805) (3,010) -- -- --
--------- --------- --------- --------- --------- ---------
Total Consolidated $ 704,691 $ 723,868 $ 714,080 $ 553,666 $ 593,656 $ 574,004
========= ========= ========= ========= ========= =========
</TABLE>
Major Customers
During 1998, three reinsurance brokers, AON Reinsurance Agency, Guy
Carpenter and Company, Inc., and E.W. Blanch, Inc., generated 24%, 17% and 8%,
respectively, of the Company's premiums assumed from client companies. These
same reinsurance brokers generated 24%, 17% and 11%, respectively, during 1997,
and 23%, 13% and 8%, respectively, during 1996, of the Company's assumed
premiums. The Company does not believe that the reduction of business assumed
from any one client or broker will have a materially adverse effect on the
Company due to its competitive position in the marketplace and the continuing
availability of other sources of business.
3. Investment Information
Investment Income
The components of net investment income were as follows:
In Thousands
Year ended December 31,
----------------------------------
1998 1997 1996
--------- --------- ---------
Fixed maturities $ 126,893 $ 112,738 $ 97,048
Equity securities 6,352 6,373 5,228
Cash and short-term investments 3,785 7,110 7,271
--------- --------- ---------
Gross investment income 137,030 126,221 109,547
Interest expense (benefit) 172 (1,646) 472
Investment expenses 5,399 4,817 4,745
--------- --------- ---------
Net investment income $ 131,459 $ 123,050 $ 104,330
========= ========= =========
-40-
<PAGE>
Investment Gains (Losses)
Realized and unrealized investment gains (losses) were as follows:
<TABLE>
<CAPTION>
In Thousands
Year ended December 31,
--------------------------------
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Net realized investment gains:
Fixed maturities $ 25,199 $ 10,345 $ 7,243
Equity securities 9,875 32,330 12,326
-------- -------- --------
Subtotal 35,074 42,675 19,569
Tax expense 12,276 14,682 6,861
-------- -------- --------
Net realized investment gains, net of tax $ 22,798 $ 27,993 $ 12,708
======== ======== ========
Change in unrealized appreciation (depreciation) of investments:
Fixed maturities $ 14,838 $ 44,742 $(19,348)
Equity securities/short-term investments (10,744) (8,894) 13,983
-------- -------- --------
Subtotal 4,094 35,848 (5,365)
Increase (decrease) in deferred income tax liability 1,433 12,548 (1,878)
-------- -------- --------
Net change reflected in stockholders' equity $ 2,661 $ 23,300 $ (3,487)
======== ======== ========
</TABLE>
The following tables reconcile amortized cost to the estimated fair value
(which equals carrying value) of fixed maturity securities and equity
securities.
In Thousands
December 31, 1998
--------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ----------
Available for Sale:
U.S. Treasury $ 20,775 $ 980 -- $ 21,755
Tax-exempt 1,265,247 60,279 $ (1,300) 1,324,226
Foreign Government 222,046 11,118 (14) 233,150
Corporate 404,778 15,154 (9,410) 410,522
Mortgage-backed 195,562 5,328 (359) 200,531
Subordinated convertibles 284 149 -- 433
---------- ---------- ---------- ----------
Total fixed maturities 2,108,692 93,008 (11,083) 2,190,617
Equity securities 108,276 9,579 (2,791) 115,064
---------- ---------- ---------- ----------
Total $2,216,968 $ 102,587 $ (13,874) $2,305,681
========== ========== ========== ==========
In Thousands
December 31, 1997
--------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ----------
Available for Sale:
U.S. Treasury $ 13,957 $ 550 -- $ 14,507
Tax-exempt 1,200,314 51,892 $ (1,233) 1,250,973
Foreign Government 166,899 5,624 (202) 172,321
Corporate 419,715 8,826 (2,684) 425,857
Mortgage-backed 212,434 4,686 (275) 216,845
Subordinated convertibles 8,182 434 (531) 8,085
---------- ---------- ---------- ----------
Total fixed maturities 2,021,501 72,012 (4,925) 2,088,588
Equity securities 124,999 19,122 (1,594) 142,527
---------- ---------- ---------- ----------
Total $2,146,500 $ 91,134 $ (6,519) $2,231,115
========== ========== ========== ==========
-41-
<PAGE>
Contractual maturities of fixed maturity securities are shown below.
Expected maturities, which are best estimates, will differ from contractual
maturities because borrowers may have the right to call or prepay obligations
with or without call or prepayment penalties.
In Thousands
December 31, 1998
-----------------------
Amortized Fair
Cost Value
---------- ----------
Available for Sale:
Due in one year or less $ 16,069 $ 16,163
Due after one year through five years 327,447 337,054
Due after five years through ten years 836,041 869,354
Due after ten years 733,573 767,515
---------- ----------
Subtotal 1,913,130 1,990,086
Mortage-backed securities 195,562 200,531
---------- ----------
Total $2,108,692 $2,190,617
========== ==========
The weighted average contractual and expected maturities, based on fair
value, of the fixed maturity investments excluding convertible securities, as of
December 31, 1998, were 11.4 years and 7.7 years, respectively.
Proceeds from the sales of fixed maturity securities during 1998, 1997 and
1996 were $1,484.2 million, $1,470.0 million and $1,336.1 million, respectively.
Gross gains of $30.0 million, $20.7 million and $16.3 million were realized on
those sales during 1998, 1997 and 1996, respectively. Gross losses of $4.8
million, $10.3 million and $9.1 million were realized during 1998, 1997 and
1996, respectively.
Approximately 94% of all fixed maturity investments held at December 31,
1998 were rated investment grade by Standard and Poor's or Moody's Investor
Services, Inc.
Securities on Deposit
Securities with a face amount of $68.7 million at December 31, 1998 were
on deposit with various state or governmental insurance departments in order to
comply with insurance laws.
Assets Held in Escrow
Included in NAC Re's cash and invested assets at December 31, 1998 are
approximately $22.4 million of assets held in a "holding company" escrow account
arising from a tax allocation agreement between NAC Re and its domestic
subsidiaries. The agreement provides that each subsidiary must remit to NAC Re
its tax liability based upon its separate return. The excess of the taxes paid
by the subsidiaries to NAC Re over the consolidated group's tax liability is
restricted for current operating use, but may become available for unrestricted
use two years following the filing of the consolidated tax return that generated
the asset. Approximately $7 million of the escrow balance will become available
for use in 1999.
-42-
<PAGE>
4. Claims and Claims Expenses
The following table represents an analysis of paid and unpaid claims and
claims expenses and a reconciliation of beginning and ending reserve balances
for the years indicated.
<TABLE>
<CAPTION>
In Thousands
Year ended December 31,
-----------------------------------------
1998 1997 1996
----------- ----------- -----------
<S> <C> <C> <C>
Gross reserves for claims and claims expenses, at beginning of year $ 1,603,972 $ 1,513,345 $ 1,292,415
Less reinsurance recoverables, at beginning of year 196,836 406,128 338,746
----------- ----------- -----------
Reserves for claims and claims expenses, net of reinsurance
recoverables, at beginning of year 1,407,136 1,107,217 953,669
----------- ----------- -----------
Provision for claims and claims expenses, net of reinsurance,
occurring in the current year 389,951 418,091 372,294
Decrease in estimated claims and claims expenses, net of
reinsurance, occurring in prior years (38,063) (38,596) (33,341)
----------- ----------- -----------
Total incurred claims and claims expenses, net of reinsurance 351,888 379,495 338,953
Less payments for claims and claims expenses, net of reinsurance,
occurring during:
The current year 80,732 52,370 44,025
Prior years 253,029 26,548 146,399
----------- ----------- -----------
Total 333,761 78,918 190,424
----------- ----------- -----------
Effects of exchange rate changes on reserves 718 (658) 5,019
----------- ----------- -----------
Reserves for claims and claims expenses, net of reinsurance
recoverables, at end of year 1,425,981 1,407,136 1,107,217
Reinsurance recoverables, at end of year 292,256 196,836 406,128
----------- ----------- -----------
Gross reserves for claims and claims expenses, at end of year $ 1,718,237 $ 1,603,972 $ 1,513,345
=========== =========== ===========
</TABLE>
Estimates of claims and claims expenses are based in part on a prediction
of future events, estimates of future trends in claims severity and frequency as
well as other factors. The Company's ability to predict future trends based upon
its own historical claims experience is inherently difficult because of its
substantial growth in premiums since 1985. Therefore, the Company has
supplemented its historical claims experience to a certain extent with claims
experience derived from external sources, such as reinsurance industry data, for
purposes of evaluating future trends and providing an estimate of ultimate
claims costs. As the Company's book of business continues to mature, its own
historical claims experience achieves greater credibility and enhances its
ability to evaluate future trends. Accordingly, the Company believes its
reserving process improves as additional claims experience emerges.
Claims and claims expenses reflect favorable claims development from prior
years. Net favorable claims development for business written since 1986
continued to emerge during 1998, 1997 and 1996. This favorable development is
affected by several factors, some of which are interdependent. A principal
factor is the strength of the actuarial assumptions underlying the business
written, particularly with respect to the consideration given to social and
economic inflation. These actuarial assumptions are utilized to establish the
expected loss ratio employed in the actuarial methodologies used to establish
the reserves for claims and claims expenses. Such loss ratios are periodically
adjusted to reflect comparisons of actuarially computed expected to actual
claims and claims expense development, inflation and other considerations. This
favorable development has offset certain unfavorable development for business
written prior to 1986, principally related to asbestos and environmental claims.
The Company's incurred claims and claims expenses include a provision of
$1.2 million, $3.7 million and $1.2 million in 1998, 1997 and 1996,
respectively, for estimates of actual and potential non-recoveries from
retrocessionnaires. Included in claims and claims expense reserves at December
31, 1998, 1997 and 1996 is a reserve for potential non-recoveries from
retrocessionnaires of $14.5 million, $13.8 million and $12.7 million,
respectively. Such charges for non-recoveries relate principally to
retrocessional contracts for business written prior to 1986. See Note 6 -
Retrocession Agreements.
Except for certain workers' compensation case reserves, the Company does
not discount its claims and claims expense reserves. The Company utilizes
tabular reserving for workers' compensation case reserves that are considered
fixed and determinable and discounts such reserves using an interest rate of 7%
for financial statements prepared in accordance with
-43-
<PAGE>
GAAP and a 5% interest rate for statutory accounting purposes. The tabular
reserving methodology results in applying a uniform and consistent criteria for
establishing expected future indemnity and medical payments (including an
explicit factor for inflation) and the use of mortality tables to determine
expected payment periods.
Tabular reserves, net of reinsurance, reflected in the GAAP financial
statements at December 31, 1998, 1997 and 1996 were $61.3 million, $42.4 million
and $35.8 million, respectively. The related discounted case reserves, net of
reinsurance, were $20.7 million, $16.1 million and $15.0 million as of December
31, 1998, 1997 and 1996, respectively.
Asbestos and Environmental Related Claims
The Company's reserving process includes a continuing evaluation of the
potential impact on claims liabilities from exposure to asbestos and
environmental claims, including related loss adjustment expenses. Liabilities
are established to cover both known and incurred but not reported claims.
A reconciliation of the beginning and ending reserves related to asbestos
and environmental exposure claims for the years indicated is as follows:
<TABLE>
<CAPTION>
In Thousands
Year ended December 31,
---------------------------
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Reserves for claims and claims expenses, net of reinsurance
recoverables, at beginning of year $32,767 $28,500 $22,029
------- ------- -------
Provisions for claims and claims expenses, net of reinsurance 5,541 8,067 10,683
Less payments for claims and claims expenses, net of reinsurance 3,458 3,800 4,212
------- ------- -------
Total incurred claims and claims expenses, net of reinsurance 2,083 4,267 6,471
------- ------- -------
Reserves for claims and claims expenses, net of reinsurance
recoverables, at end of year 34,850 32,767 28,500
Reinsurance recoverables, at end of year 43,211 37,905 32,584
------- ------- -------
Gross reserves for claims and claims expenses, at end of year $78,061 $70,672 $61,084
======= ======= =======
</TABLE>
Incurred but not reported claims and claims expense reserves (IBNR), net
of reinsurance, included in the above table totaled $17.0 million in 1998, $16.6
million in 1997 and $13.4 million in 1996. Ceded liabilities reflect amounts
expected to be recoverable from retrocessionnaires, after reduction for
potential uncollectible amounts.
As of December 31, 1998 and 1997, the Company had approximately 400 and
380 open claim files, respectively, for potential asbestos exposures and 760 and
840 open claim files, respectively, for potential environmental exposures.
Approximately 51% and 49% of the total open claim files for 1998 and 1997,
respectively, are due to precautionary claim notices. Precautionary claim
notices are submitted by the ceding companies in order to preserve their right
to receive coverage under the reinsurance contract. Such notices do not contain
an incurred loss amount to the Company. The Company actively evaluates potential
exposure to asbestos and environmental claims and records claims and claims
expense reserves as appropriate.
The Company believes it has made a reasonable provision for its asbestos
and environmental exposures and is unaware of any specific issues which would
materially affect its claims and claims expense estimate. The estimation of
claims and claims expense liabilities for asbestos and environmental exposures
is subject to a much greater uncertainty than is normally associated with the
establishment of liabilities for certain other exposures due to several factors,
including: i) uncertain legal interpretation and application of insurance and
reinsurance coverage and liability; ii) the lack of reliability of available
historical claims data as an indicator of future claims development; iii) an
uncertain political climate which may impact, among other areas, the nature and
amount of costs for remediating waste sites; and iv) the potential of insurers
and policyholders to reach agreements in order to avoid further significant
legal costs. Due to the potential significance of these uncertainties, the
Company believes that no meaningful range of claims and claims expense
liabilities beyond recorded
-44-
<PAGE>
reserves can be established. As these uncertainties are resolved, additional
reserve provisions, which could be material in amount, may be necessary.
5. Income Taxes
The provision for federal income taxes has been determined on the basis of
a consolidated tax return consisting of NAC Re and its subsidiaries.
The income tax provision in the consolidated statement of income gives
effect to permanent differences between financial and taxable income. Due to the
contribution of tax-exempt income and other factors as noted below, the
Company's effective income tax rate is less than the statutory rate on operating
income. An analysis of the Company's effective tax rate is as follows:
<TABLE>
<CAPTION>
In Thousands
Year ended December 31,
-----------------------------------------------------------------------
1998 1997 1996
---------------------- --------------------- --------------------
% of % of % of
Pretax Pretax Pretax
Amount Income Amount Income Amount Income
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Income taxes computed on pretax
operating income $ 41,259 35% $ 42,991 35% $ 31,163 35%
(Reduction) increase in taxes
resulting from:
Tax-exempt investment income (19,183) (16) (16,680) (14) (12,272) (14)
Dividend received deduction (873) (1) (1,219) (1) (895) (1)
Other, net 629 1 2,061 2 520 1
-------- -------- -------- -------- -------- --------
Tax expense on operating income $ 21,832 19% $ 27,153 22% $ 18,516 21%
======== ======== ======== ======== ======== ========
</TABLE>
Significant components of the provision for income taxes attributable to
operations were as follows:
In Thousands
Year Ended December 31,
--------------------------------
1998 1997 1996
-------- -------- --------
Current expense:
Federal $ 10,490 $ 43,754 $ 19,879
Foreign 6,630 6,802 3,431
-------- -------- --------
Total current expense 17,120 50,556 23,310
Deferred expense (benefit):
Federal 4,729 (23,205) (4,845)
Foreign (17) (198) 51
-------- -------- --------
Total deferred expense (benefit) 4,712 (23,403) (4,794)
-------- -------- --------
Total tax expense $ 21,832 $ 27,153 $ 18,516
======== ======== ========
The Company's 1998 current federal taxable income is based on alternative
minimum taxable income. The Company's current federal tax expense for the years
1997 and 1996 was based on regular taxable income. Federal and foreign taxes
paid in the years 1998, 1997 and 1996 were $22 million, $35 million and $22
million, respectively.
-45-
<PAGE>
Significant components of the Company's deferred tax assets and
liabilities as of December 31, 1998 and 1997 were as follows:
In Thousands
December 31,
-------------------
1998 1997
-------- --------
Deferred tax asset:
Net claims reserve discount $ 84,008 $ 87,704
Net unearned premiums 19,888 18,854
Compensation liabilities 6,978 6,195
Other 3,331 2,631
-------- --------
Deferred tax asset 114,205 115,384
-------- --------
Deferred tax liability:
Deferred policy acquisition costs 33,896 32,375
Unrealized appreciation of investments 31,050 29,616
Currency translation adjustments 2,755 3,225
Other 9,023 7,522
-------- --------
Deferred tax liability 76,724 72,738
-------- --------
Net deferred tax asset $ 37,481 $ 42,646
======== ========
Stockholders' equity at December 31, 1998 and 1997 reflects tax benefits
of $5.6 million and $4.5 million, respectively, related to compensation expense
deductions for stock options exercised.
As a result of the merger of its previously existing parent into NAC Re in
January 1987, $10.2 million of tax loss carryforwards are currently available
for use to offset future taxable income of NAC Re under the separate return
limitation year rules, with the following expiration dates: $6.2 million
expiring in 1999, $3.9 million expiring in 2000 and $.1 million expiring in
2001. A deferred tax asset was not recorded for these loss carryforwards, as the
Company expects these carryforwards to expire without being utilized.
6. Retrocession Agreements
The Company utilizes retrocession agreements principally to increase
aggregate premium capacity and to reduce the risk of loss on reinsurance
underwritten. In addition, the Company maintains catastrophe reinsurance
programs for the purpose of limiting its exposure with respect to multiple
claims arising from a single occurrence or event. The Company's retrocession
agreements provide for recovery of a portion of claims and claims expenses from
retrocessionnaires. Reinsurance recoverables are recorded as assets, predicated
on the retrocessionnaires' ability to meet their obligations under the
retrocession agreements. If the retrocessionnaires are unable to satisfy their
obligation under the agreements, the Company would be liable for such defaulted
amounts.
The effect of retrocessional activity on premiums written and earned is
set forth below:
<TABLE>
<CAPTION>
In Thousands
--------------------------------------------------------------------------
Premiums Written Premiums Earned
Year ended December 31, Year ended December 31,
----------------------------------- -----------------------------------
1998 1997 1996 1998 1997 1996
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Direct $ 154,543 $ 120,483 $ 72,810 $ 119,989 $ 88,622 $ 65,667
Assumed 550,148 603,385 641,270 545,043 605,259 608,542
Ceded (151,025) (130,212) (140,076) (132,186) (119,234) (147,867)
--------- --------- --------- --------- --------- ---------
Net $ 553,666 $ 593,656 $ 574,004 $ 532,846 $ 574,647 $ 526,342
========= ========= ========= ========= ========= =========
</TABLE>
The Company recorded ceded claims and claims expenses incurred of $129.6
million, $51.0 million and $123.2 million for the years ended December 31, 1998,
1997 and 1996, respectively. The decrease in 1997 from 1996 is due to the
terminations of two retrocessional programs discussed later in this Note.
-46-
<PAGE>
The Company's balance sheet as of December 31, 1998 and 1997 reflects
reinsurance recoverables as assets, net of available offsets, as follows:
In Thousands
December 31,
----------------------
1998 1997
--------- ---------
Reinsurance recoverable balances:
Paid claims $ 20,168 $ 10,646
Unpaid claims and claims expenses 292,256 196,836
Ceded balances payable (48,590) (34,305)
Funds held liability (962) (900)
--------- ---------
Reinsurance recoverable balances, net $ 262,872 $ 172,277
========= =========
Reinsurance recoverable on unearned premiums $ 49,962 $ 31,297
========= =========
The Company is the beneficiary of letters of credit, trust accounts and
funds withheld in the aggregate amount of $130 million at December 31, 1998,
collateralizing reinsurance recoverables with respect to certain
retrocessionnaires.
At December 31, 1998, the Company's reinsurance recoverables, exclusive of
available offsets in the form of letters of credit, trust accounts and funds
withheld, were $362.4 million, with approximately 173 domestic and 162 foreign
retrocessionnaires. The Company had no amounts recoverable from a single entity
or group of entities that exceeded 10% of stockholders' equity as of December
31, 1998.
Effective January 1997, the Company terminated two retrocessional
programs. The Company received total consideration of approximately $225
million, representing reinsurance recoverable balances for unpaid claims and
claims expenses of approximately the same amount, with total cash and invested
assets increasing by approximately $180 million.
The Company's maximum retention on any one claim for non-catastrophe
property/casualty losses for 1999, 1998 and 1997 is generally $5 million (up to
$10 million in certain limited circumstances). The Company's maximum retention
for surety losses for 1999, 1998 and 1997 is $4 million per principal. Further,
the Company's initial retention level for property catastrophe claims in 1999
remains the same as 1998 and 1997 at $5 million per event. For 1999, the Company
has obtained $83 million of catastrophe protection ($65 million with respect to
claims outside the U.S. and Canada). If claims within the U.S. and Canada exceed
$40 million, the retrocession agreements provide for an increase to the
Company's net retention of up to an additional $16.9 million. In addition to the
above reinsurance protections, the Company has accident year stop loss
protection which can reduce the Company's net property catastrophe claims to a
maximum retention of $5.0 million.
7. Commitments and Service Agreements
Operating Leases
The Company leases office space under noncancellable, and in most
instances renewable, operating leases expiring at various dates through 2016.
The following is a schedule of future minimum rental payments, exclusive of
escalation clauses and rental income, as of December 31, 1998:
Year In Thousands
------------
1999 $ 4,110
2000 4,213
2001 3,381
2002 1,027
2003 and thereafter 25,371
------------
Total $38,102
============
Rental expense, net of sublease rental income, was approximately $5.2
million for 1998, $4.4 million for 1997 and $3.9 million for 1996.
-47-
<PAGE>
Funds at Lloyd's
The Company participates in the Lloyd's insurance market through its
subsidiary, Stonebridge, which is participating as a corporate capital vehicle
on the Denham Syndicate. A letter of credit has been provided to Lloyd's in
satisfaction of Stonebridge's capital requirement. All corporate capital
providers are required by Lloyd's to post funds at Lloyd's equal to a fixed
percentage of the amount of committed insurance capacity. At December 31, 1998,
the total amount of insurance capacity committed by Stonebridge was about
(pound)29 million and Lloyd's requirement was 50% of that amount. The total
insurance capacity was supported by a letter of credit for (pound)16 million.
Service Agreement
In 1998, the Company entered into consulting agreements with two
investment banking firms with which two Directors of the Company are or had been
associated.
8. Long-term Debt and Financing Arrangements
The Company's $100 million of 7.15% Senior Notes due November 15, 2005,
were issued in November 1995 through a public offering at a price of $99.9
million. The expenses incurred in the offering of approximately $.8 million were
deferred and are being amortized over the life of the Notes. Interest and
amortization costs were $7.2 million for 1998, 1997 and 1996. The fair value of
the Notes, estimated based on quoted market prices, was approximately $106.6
million as of December 31, 1998.
The Company's $100 million of 5.25% Convertible Subordinated Debentures
due December 15, 2002, were issued in December 1992 through a private offering.
The Debentures are callable as of January 15, 1996 and are convertible into
approximately 2 million shares of the Company's Common Stock at a conversion
price of $49.50 per share. The expenses incurred in the offering of
approximately $1.4 million were deferred and are being amortized over the life
of the Debentures. Interest and amortization costs were $5.4 million annually
for 1998, 1997 and 1996. The fair value of the Debentures, estimated based on
quoted market prices, was approximately $106.8 million as of December 31, 1998.
The Company's $100 million of 8% Senior Notes due June 15, 1999 were
issued in June 1992 through a public offering. The expenses incurred in the
offering of approximately $.8 million were deferred and are being amortized over
the life of the Notes. Interest and amortization costs were $8.1 million
annually for 1998, 1997 and 1996. The fair value of the Notes, estimated based
on quoted market prices, was approximately $101.1 million as of December 31,
1998.
In December 1998, NAC Re modified its revolving credit agreement and term
loan bank facility under which it can borrow up to $50 million. A commitment fee
of 1/4 of 1% per year is paid on the unused credit line. Borrowings of $12.9
million were outstanding at December 31, 1998 and were principally used in
connection with repurchases of the Company's Common Stock. The facility was
reduced by $5 million in January 1999 and will be further reduced on a quarterly
basis beginning in April 1999. The Company periodically reviews its credit
arrangements for renewal based on its working capital requirements and other
financing needs. As a result, on September 30, 1998, the Company canceled its
$15 million line of credit facility for its reinsurance subsidiary. Interest
costs on borrowing facilities were approximately $1.0 million in 1998 and 1997
and $1.6 million in 1996.
Total interest expense paid in connection with the Company's long-term
debt and financing arrangements was $21.4 million, $21.3 million and $22 million
for the years ended December 31, 1998, 1997 and 1996, respectively.
-48-
<PAGE>
9. Employee Benefits and Compensation Arrangements
Stock Plans
The Company accounts for stock compensation plans in accordance with APB
Opinion No. 25, "Accounting for Stock Issued to Employees." Accordingly,
compensation expense for stock option grants and SARs is recognized to the
extent that the fair value of the stock exceeds the exercise price of the option
at the measurement date.
The Company maintains stock option plans which provide for the granting of
options and SARs to purchase shares of Common Stock to certain officers of the
Company. Under such plans, the Company had the authority to grant up to
3,675,000 options at December 31, 1998, of which 1,300,000 options related to a
plan implemented during 1997. Options and SARs have generally been granted with
a five or six-year vesting schedule. The majority of the options expire 10 years
from the date of grant; the remainder of the options have no expiration.
Outstanding SARs are generally converted by the Company to options prior to
vesting.
The Company also maintains a stock option plan for non-employee directors
that provides for automatic annual grants of options to eligible directors.
Under such plan, the Company had the authority to grant up to 375,000 options at
December 31, 1998. Options expire 10 years from the date of grant and are fully
exercisable six months after their grant date.
Information concerning stock options (including SARs) for all of the
Company's stock option plans is as follows:
<TABLE>
<CAPTION>
Year ended December 31,
---------------------------------------------------------------------------------------------
1998 1997 1996
------------------------------- ---------------------------- ---------------------------
Number of Average Number of Average Number of Average
Options Exercise Options Exercise Options Exercise
(000's) Price (000's) Price (000's) Price
------------- -------------- ------------ ------------ ----------- ------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding, beginning of year 2,462 $32.45 2,380 $30.51 1,772 $28.27
Granted 499 47.09 307 43.12 713 35.93
Exercised (140) 27.29 (163) 22.33 (33) 19.79
Cancelled (186) 36.79 (62) 37.56 (72) 33.73
------------- -------------- ------------ ------------ ----------- ------------
Outstanding, end of year 2,635 $35.19 2,462 $32.45 2,380 $30.51
============= ============== ============ ============ =========== ============
Exercisable, end of year 1,305 $29.15 1,119 $26.93 931 $23.59
============= ============== ============ ============ =========== ============
Available for grant, end of year 874 -- 1,077 -- 139 --
============= ============== ============ ============ =========== ============
</TABLE>
The following table summarizes information about the Company's stock options
(including SARs) for options outstanding as of December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------------------------------- -------------------------------
Average
Number of Average Remaining Number of Average
Range of Options Exercise Contractual Options Exercise
Exercise Prices (000's) Price Life (Years) (000's) Price
- ---------------------- ------------ ----------- -------------- ------------ ----------
<S> <C> <C> <C> <C> <C>
$13.61 - $18.83 242 $15.19 3.8 242 $15.19
$21.83 - $29.63 407 $24.99 5.1 333 $24.65
$30.13 - $39.75 1,238 $36.11 7.4 699 $35.35
$40.38 - $47.50 748 $45.69 9.1 31 $47.11
- ---------------------- ------------ ----------- -------------- ------------ ----------
$13.61 - $47.50 2,635 $35.19 7.2 1,305 $29.15
====================== ============ =========== ============== ============ ==========
</TABLE>
The Company has an employee stock purchase plan through which all
employees have the option, subject to certain limitations, to purchase NAC Re
Common Stock, at the end of each offering period at a discounted price. The
discounted price is based on 85% of the lesser of the stock's market price at
the beginning of the period or the market price at the end of the period. During
the 1998, 1997 and 1996 plan years, employees purchased approximately 42,800,
46,400 and 28,400 shares of Common Stock, respectively. The Company's stock
purchase plan qualifies as a non-compensatory plan under APB 25.
The Company has restricted stock plans, pursuant to which employees have
been granted approximately 25,900, 71,100 and 57,600 shares of Common Stock
during 1998, 1997 and 1996, respectively. Vesting for such shares generally
occurs
-49-
<PAGE>
over a six-year period. In 1996, the Company also granted 20,000 shares of
restricted stock to an executive in connection with his employment contract,
15,000 of which have vested due to the attainment of the stock appreciation
performance measures; the remainder of the shares vest over a five year period.
The Company incurred compensation expense, under APB 25, for the years ended
December 31, 1998, 1997 and 1996 of approximately $1,092,000, $1,983,000 and
$974,000, respectively, in connection with restricted stock grants.
Supplemental and Pro Forma Disclosures
The following pro forma information regarding net income and earnings per
share required by SFAS No. 123 has been determined as if the Company had
accounted for its employee stock plans under the fair value method described in
that Statement. The fair value of options and other awards granted under the
Company's stock-based compensation plans was estimated on the date of grant
using a Black-Scholes option valuation model. The Black-Scholes option model was
developed for use in estimating the fair value of traded options which have no
vesting restrictions and are fully transferable. In addition, option valuation
models require the input of highly subjective assumptions including the expected
dividend yield, the expected life of the options, the expected stock price
volatility and the risk-free interest rate.
The weighted average assumptions for the stock option grants were as
follows:
1998 1997 1996
---------- -------- -----------
Expected life 7.5yrs 7.5yrs 7.5yrs
Volatility 29% 30% 28%
Dividend yield 0.76% 0.70% 0.67%
Risk-free interest rate 5.5% 6.6% 6.3%
Grant date fair value $19.33 $19.20 $15.32
The assumptions for the stock purchase plan were as follows:
1998 1997 1996
---------- -------- -----------
Expected life 1yr 1yr 1yr
Volatility 29% 30% 28%
Dividend yield 0.79% 0.87% 0.72%
Risk-free interest rate 4.6% 5.3% 5.3%
Grant date fair value $11.88 $9.14 $8.75
For purposes of pro forma disclosures, the estimated fair value of each
option is amortized to expense over the option's vesting period and does not
include grants prior to January 1, 1995. As such, the pro forma net income and
earnings per share are not indicative of future years. The Company's pro forma
information is as follows:
<TABLE>
<CAPTION>
In Thousands, except per share amounts
Year ended December 31,
----------------------------------------------------------------------------------------------
1998 1997 1996
-------------------------- --------------------------- ----------------------------
Reported Pro Forma Reported Pro Forma Reported Pro Forma
----------- -------------- -------------- ------------ -------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Net income $96,050 $93,028 $95,677 $93,047 $70,520 $69,111
Earnings per share:*
Basic $ 5.25 $ 5.09 $ 5.21 $ 5.06 $ 3.74 $ 3.67
Diluted $ 4.78 $ 4.66 $ 4.77 $ 4.66 $ 3.51 $ 3.44
</TABLE>
*1996 data restated per SFAS No. 128.
Incentive Compensation Plans
The Company maintains two incentive compensation plans. The Long-term
Incentive Plan provides for awards to eligible officers based on corporate
performance over a three-year performance cycle. The Annual Incentive Plan for
all employees (which was amended in 1996 to incorporate a previously separate
plan for non-officers) provides for annual cash awards based on individual and
corporate performance. Based on estimated performance levels, the Company
expensed $9.6 million, $10.4 million and $8.5 million for the years ended
December 31, 1998, 1997 and 1996, respectively, related to these plans.
-50-
<PAGE>
Severance Program
The Company has severance agreements with officers and a severance program
for non-officers to provide for severance payments and continuation of benefits
in the event of employment termination following a change in control. The extent
of the severance payments and when they are triggered vary depending upon the
position of the employee and, in the case of non-officers, the length of tenure
of the employee.
Employment Contracts
The Company has employment contracts with certain officers, the terms of
which expire at various times through June 30, 2003. Such agreements provide for
minimum salary levels, incentive bonuses payable in accordance with bonus plans
and, in two contracts, supplemental retirement benefits.
Retirement Plans
The Company maintains a qualified non-contributory defined benefit pension
plan covering substantially all U.S. employees. Pension benefits generally vest
after five years of service. Benefits are based on years of service and
compensation, as defined in the plan, during the highest consecutive three years
of the employee's last ten years of employment.
The Company's policy is to make annual contributions to the plan that are
deductible for federal income tax purposes and that meet the minimum funding
standards required by law. This contribution level is determined by utilizing
the entry age cost method and different actuarial assumptions than those used
for pension expense purposes.
The Company also maintains a non-qualified unfunded supplemental defined
benefit plan designed to compensate individuals to the extent their benefits
under the Company's qualified plan are curtailed due to Internal Revenue Code
limitations.
-51-
<PAGE>
The following tables set forth the amounts recognized in the Company's
financial statements with respect to the qualified and non-qualified pension
plans.
<TABLE>
<CAPTION>
In Thousands
--------------------------------------------------------------------
Retirement Benefits
Plan Equalization Plan Total
-------------------- -------------------- --------------------
Change in Benefit Obligation 1998 1997 1998 1997 1998 1997
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Net benefit obligation at beginning of year $ 9,987 $ 7,620 $ 4,127 $ 2,893 $ 14,114 $ 10,513
Service cost 1,236 1,017 394 316 1,630 1,333
Interest cost 759 637 301 261 1,060 898
Actuarial loss 869 788 228 657 1,097 1,445
Gross benefits paid (69) (75) (1) -- (70) (75)
-------- -------- -------- -------- -------- --------
Net benefit obligation at end of year 12,782 9,987 5,049 4,127 17,831 14,114
-------- -------- -------- -------- -------- --------
Change in Plan Assets
Fair value of plan assets at beginning of
year 8,442 6,461 -- -- 8,442 6,461
Actual return on plan assets 997 1,376 -- -- 997 1,376
Employer contributions 507 680 1 -- 508 680
Gross benefits paid (69) (75) (1) -- (70) (75)
-------- -------- -------- -------- -------- --------
Fair value of plan assets at end of year 9,877 8,442 -- -- 9,877 8,442
-------- -------- -------- -------- -------- --------
Reconciliation of Funded Status
Funded status at end of year (2,905) (1,545) (5,049) (4,127) (7,954) (5,672)
Unrecognized net transition obligation 76 86 -- -- 76 86
Unrecognized prior service cost 66 69 232 243 298 312
Unrecognized net actuarial (gain)/loss (1,460) (1,944) 276 49 (1,184) (1,895)
-------- -------- -------- -------- -------- --------
Net amount recognized at end of year $ (4,223) $ (3,334) $ (4,541) $ (3,835) $ (8,764) $ (7,169)
======== ======== ======== ======== ======== ========
Net Periodic Cost
Service cost $ 1,236 $ 1,017 $ 394 $ 316 $ 1,630 $ 1,333
Interest cost 759 637 301 261 1,060 898
Expected return on assets (612) (496) -- -- (612) (496)
Amortization
Transition obligation 10 10 -- -- 10 10
Prior service cost 3 3 12 12 15 15
Gain -- (13) -- -- -- (13)
-------- -------- -------- -------- -------- --------
Subtotal amortization 13 -- 12 12 25 12
-------- -------- -------- -------- -------- --------
Total expense $ 1,396 $ 1,158 $ 707 $ 589 $ 2,103 $ 1,747
======== ======== ======== ======== ======== ========
</TABLE>
The projected benefit obligation, accumulated benefit obligation and fair value
of assets for the pension plan with accumulated benefit obligations in excess of
plan assets were $5.0 million, $2.5 million and $0, respectively, as of December
31, 1998 and $4.1 million, $2.1 million and $0, respectively, as of December 31,
1997.
The discount rates used in determining the actuarial present value of
benefit obligations were 6.5% and 6.75% for 1998 and 1997, respectively. The
rate of increase for future compensation levels was 5.5% for both 1998 and 1997.
The assumed rate of return on plan assets was 9.0% for 1998 and 8.5% for 1997.
Assets of the qualified plan are invested principally in equity securities and
fixed maturities. Plan assets include approximately $673,000 and $700,000 of NAC
Re Common Stock as of December 31, 1998 and 1997, respectively.
-52-
<PAGE>
The Company maintains a qualified contributory defined contribution plan
for substantially all U.S. employees. Under this plan, the Company makes a
matching contribution equal to 50% of each participant's eligible elective
contributions, which may be up to 6% of the participant's compensation. The
Company may make an additional annual discretionary matching contribution. The
Company also maintains a non-qualified unfunded supplemental defined
contribution plan designed to compensate individuals to the extent the Company's
contributions under the qualified plan are curtailed due to Internal Revenue
Code limitations. The Company expensed $1.9 million for 1998, $2.2 million for
1997 and $2.0 million for 1996, related to these plans. Contributions to the
qualified plan are invested, at the election of the participant, in several
funds, including a NAC Re Common Stock fund. The fund held approximately 176,000
and 111,000 shares of NAC Re Common Stock as of December 31, 1998 and 1997,
respectively.
The Company maintains a qualified non-contributory defined contribution
plan covering substantially all U.K. employees. Contributions under this plan
are determined on the basis of salary, age and position within the organization.
The Company also maintains an unfunded supplemental defined contribution plan
designed to compensate individuals to the extent their benefits under the
qualified plan are curtailed due to U.K. Inland Revenue limitations. The Company
incurred expenses of $591,000, $563,000 and $436,000 for the years ended
December 31, 1998, 1997 and 1996, respectively, related to these plans.
10. Comprehensive Income
In the first quarter of 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income," which requires that a company classify items that meet
the definition of components of other comprehensive income in a financial
statement and display the accumulated balance of other comprehensive income in
the equity section of the statement of financial position. Comprehensive income
includes all changes in equity during a period resulting from transactions and
other events from nonowner sources. Reclassification of prior period financial
statements is required for comparative purposes.
The balances of each classification, net of deferred taxes, within
accumulated other comprehensive income were as follows:
In Thousands
-------------------------------------------------
Unrealized Accumulated
Gains on Currency Other Comp
Year ended December 31, 1998 Investments Translation Income
---------------- ------------- ---------------
Beginning balance $55,000 $5,989 $60,989
Current period change 2,661 (872) 1,789
---------------- ------------- ---------------
Ending Balance $57,661 $5,117 $62,778
================ ============= ===============
In Thousands
-------------------------------------------------
Unrealized Accumulated
Gains on Currency Other Comp
Year ended December 31, 1997 Investments Translation Income
----------------- ------------ ---------------
Beginning balance $31,700 $ 8,377 $40,077
Current period change 23,300 (2,388) 20,912
----------------- ------------ ---------------
Ending Balance $55,000 $ 5,989 $60,989
================ ============= ===============
In Thousands
-------------------------------------------------
Unrealized Accumulated
Gains on Currency Other Comp
Year ended December 31, 1996 Investments Translation Income
----------------- ------------ ---------------
Beginning balance $35,187 $ 1,017 $36,204
Current period change (3,487) 7,360 3,873
----------------- ------------ --------------
Ending Balance $31,700 $ 8,377 $40,077
================ ============= ===============
-53-
<PAGE>
The related tax effects allocated to each component of other comprehensive
income were as follows:
<TABLE>
<CAPTION>
In Thousands
-----------------------------------------------------
Before Tax Tax Expense Net of Tax
Amount (Benefit) Amount
-------------- --------------- -------------
<S> <C> <C> <C>
Year ended December 31, 1998
Unrealized gains on securities:
Unrealized holding gains arising during period $39,168 $13,709 $25,459
Less: reclassification adjustment for gains
realized in net income 35,074 12,276 22,798
-------------- --------------- -------------
Net unrealized gains 4,094 1,433 2,661
Foreign currency translation adjustments (1,342) (470) (872)
-------------- --------------- -------------
Other comprehensive income $ 2,752 $ 963 $ 1,789
============== =============== =============
<CAPTION>
In Thousands
-----------------------------------------------------
Before Tax Tax Expense Net of Tax
Amount (Benefit) Amount
-------------- --------------- -------------
<S> <C> <C> <C>
Year ended December 31, 1997
Unrealized gains on securities:
Unrealized holding gains arising during period $78,523 $27,230 $51,293
Less: reclassification adjustment for gains
realized in net income 42,675 14,682 27,993
------------- ---------------- -------------
Net unrealized gains 35,848 12,548 23,300
Foreign currency translation adjustments (3,674) (1,286) (2,388)
------------- ---------------- -------------
Other comprehensive income $32,174 $11,262 $20,912
============== =============== =============
<CAPTION>
In Thousands
-----------------------------------------------------
Before Tax Tax Expense Net of Tax
Amount (Benefit) Amount
-------------- --------------- -------------
<S> <C> <C> <C>
Year ended December 31, 1996
Unrealized gains(losses) on securities:
Unrealized holding gains arising during period $14,204 $ 4,983 $ 9,221
Less: reclassification adjustment for gains
realized in net income 19,569 6,861 12,708
-------------- --------------- ------------
Net unrealized (losses) (5,365) (1,878) (3,487)
Foreign currency translation adjustments 11,323 3,963 7,360
-------------- --------------- ------------
Other comprehensive income $ 5,958 $ 2,085 $ 3,873
============== =============== =============
</TABLE>
11. Statutory Financial Information
Consolidated statutory net income and surplus of NAC Reinsurance
Corporation ("NAC"), as reported to the insurance regulatory authorities,
differs in certain respects from the amounts as prepared in accordance with
GAAP. The following schedules identify the significant reconciling differences:
In Thousands
Year ended December 31,
-----------------------------------
Net Income: 1998 1997 1996
--------- --------- ---------
Domestic statutory net income $ 101,862 $ 70,292 $ 59,827
Domestic GAAP adjustments:
Deferred acquisition costs 3,620 6,703 14,211
Deferred income taxes (8,245) 23,257 4,421
Other, net 1,349 (560) 401
--------- --------- ---------
Domestic GAAP net income 98,586 99,692 78,860
International operation 12,779 10,051 4,954
Parent company operations (15,315) (14,066) (13,294)
--------- --------- ---------
Consolidated GAAP net income $ 96,050 $ 95,677 $ 70,520
========= ========= =========
-54-
<PAGE>
<TABLE>
<CAPTION>
In Thousands
Year ended December 31,
-----------------------------------
Stockholders' Equity: 1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Consolidated statutory surplus $ 737,114 $ 702,222 $ 663,867
Consolidated GAAP adjustments:
Deferred acquisition costs 98,874 92,709 85,211
Deferred income tax asset, net 33,014 41,795 29,599
Excess of cost over net assets acquired 2,908 3,276 3,644
Unrealized appreciation of investments 91,084 71,846 25,537
Unauthorized/authorized reinsurance charges 20,425 15,452 12,730
Other, net 8,891 6,824 4,695
--------- --------- ---------
Investment in insurance subsidiaries, GAAP 992,310 934,124 825,283
Parent company:
Other net assets 58,364 22,879 27,920
Long-term debt (299,949) (299,942) (299,934)
--------- --------- ---------
Consolidated stockholders' equity, GAAP $ 750,725 $ 657,061 $ 553,269
========= ========= =========
</TABLE>
Under the holding company structure, NAC Re is dependent upon the ability
of its principal operating subsidiary, NAC, for the transfer of funds
principally in the form of cash dividends and tax reimbursements. Such
transactions, including the payment of cash dividends, are subject to
restrictions imposed by New York insurance law. Generally, NAC may pay cash
dividends only out of its statutory earned surplus which was $231.9 million at
December 31, 1998. However, the maximum amount of dividends that may be paid in
any twelve-month period without the prior approval of the New York Insurance
Department is the lesser of net investment income or 10% of statutory surplus as
such terms are defined in the New York insurance law. The maximum amount of cash
dividends that NAC could pay without such regulatory approval, based on 10% of
statutory surplus as of December 31, 1998, is approximately $73.7 million.
During 1998, 1997 and 1996, NAC declared dividends of $55.9 million, $22.5
million and $38 million, respectively, to NAC Re.
In 1993, the National Association of Insurance Commissioners (the "NAIC"),
by adopting a model risk-based capital act, intended to provide an additional
tool for regulators to evaluate the capital of property and casualty insurers
and reinsurers with respect to the risks assumed by them and to determine
whether there is a perceived need for corrective action. The nature of the
corrective action depends upon the extent of the calculated risk-based capital
deficiency and ranges from requiring the company to submit a comprehensive plan
to placing the insurer under regulatory control. While the model risk-based
capital act has not yet been adopted in New York, NAC's domicile, New York has
issued a circular letter requiring the filing of risk-based capital reports by
property and casualty insurers and reinsurers. The NAIC also adopted a proposal
that requires property and casualty insurers and reinsurers to report the
results of their risk-based capital calculations as part of the statutory annual
statements filed with state regulatory authorities. Surplus (as calculated for
statutory annual statement purposes) for each of the Company's domestic
subsidiaries is well above the risk-based capital thresholds that would require
either company or regulatory action.
-55-
<PAGE>
12. Earnings Per Share
The following table sets forth the computation of basic and diluted
earnings per share:
<TABLE>
<CAPTION>
In Thousands
Year ended December 31,
---------------------------
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Basic Earnings Per Share:
Net income $96,050 $95,677 $70,520
Weighted average shares 18,282 18,378 18,855
Basic earnings per share $ 5.25 $ 5.21 $ 3.74
======= ======= =======
Diluted Earnings Per Share:
Net income $96,050 $95,677 $70,520
Add back after-tax interest on convertible debentures 3,504 3,504 3,504
------- ------- -------
Adjusted net income $99,554 $99,181 $74,024
Weighted average shares 18,282 18,378 18,855
Assumed exercise of dilutive stock options (1) 542 411 240
Assumed conversion of convertible debentures (2) 2,020 2,020 2,020
------- ------- -------
Weighted average shares and dilutive securities 20,844 20,809 21,115
Diluted earnings per share $ 4.78 $ 4.77 $ 3.51
======= ======= =======
</TABLE>
(1) Computed utilizing the average market price of the Common Stock for the
period.
(2) Reflects the assumed conversion of the Company's 5.25% Convertible
Subordinated Debentures due 2002.
13. Capital Stock
Changes in Common Stock outstanding were as follows:
Year ended December 31,
-----------------------------------------
1998 1997 1996
----------- ----------- -----------
Common Stock:
Balance, beginning of year 21,707,223 21,463,982 21,341,053
Shares issued 284,196 243,241 122,929
----------- ----------- -----------
Balance, end of year 21,991,419 21,707,223 21,463,982
----------- ----------- -----------
Treasury Stock:
Balance, beginning of year 3,398,486 3,060,543 2,137,501
Purchases 223,060 345,375 943,042
Shares reissued (4,482) (7,432) (20,000)
----------- ----------- -----------
Balance, end of year 3,617,064 3,398,486 3,060,543
----------- ----------- -----------
Total Common Stock outstanding 18,374,355 18,308,737 18,403,439
=========== =========== ===========
Stock Repurchase
The Company maintains a stock repurchase program pursuant to which the
Board of Directors has authorized the repurchase of approximately 4,082,000
shares of Common Stock. Since January 1, 1998, the Company repurchased
approximately 223,000 shares of Common Stock, at an average cost of $49.52 per
share. From its inception in 1988 through December 31, 1998, approximately
3,649,000 shares were repurchased at a cost of approximately $99.5 million or an
average price of $27.27 per share. As of December 31, 1998, approximately
433,000 shares remained authorized for repurchase under the program.
-56-
<PAGE>
Rights Plan
In June 1998, coincident with the expiration of the Rights Agreement, as
amended, adopted in June 1988, the Company declared a dividend of one Preferred
Stock Purchase Right (a "Right") for each outstanding share of NAC Re Common
Stock. The Rights will become exercisable only in the event, with certain
exceptions, that a person or group of affiliated or associated persons
accumulates 15% or more of NAC Re voting stock, or if a person or group
announces an offer to acquire 15% or more (see Note 15). Each Right currently
entitles the holder to purchase from the Company, for a price of $150.00 (the
"Exercise Price"), 1/100 of a share of Series A Junior Preferred Stock (the
"Series A Stock").
In addition, upon the occurrence of certain events, holders of the rights
would be entitled to purchase either Company stock or shares in an "acquiring
entity" at half of market value. Further, at any time after a person or group
acquires 15% or more (but less than 50%) of the Company's outstanding voting
stock, the Board of Directors may, at its option, exchange part or all of the
Rights (other than Rights held by the acquiring person or group, which would
become void) for shares of the Company's common stock on a one-for-one basis.
NAC Re will generally be entitled to redeem the Rights at $.01 per Right
at any time until the tenth day following the acquisition of a 15% position in
its voting stock. The Rights will expire on June 10, 2008.
At December 31, 1998, there were 18,374,355 Rights outstanding which, if
exercised, would result in the issuance of approximately 183,700 shares of
Series A Stock.
14. Quarterly Financial Information (Unaudited)
The following is a summary of quarterly financial data, in thousands,
except per share data and stock prices:
<TABLE>
<CAPTION>
Three months ended
--------------------------------------------------------------------------------------------
December 31, September 30, June 30, March 31,
--------------------------------------------------------------------------------------------
1998 1997 1998 1997 1998 1997 1998 1997
--------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Income Statement Data:
Gross premiums written $ 182,504 $ 186,806 $ 181,844 $ 188,002 $ 174,975 $180,518 $ 165,368 $ 168,542
Net premiums written 140,735 155,174 135,472 153,657 141,269 148,654 136,190 136,171
Premiums earned 134,431 152,575 128,970 147,884 136,091 142,078 133,354 132,110
Net investment income 33,393 32,253 33,403 31,917 32,578 30,308 32,085 28,572
Net investment gains 7,654 14,217 6,647 5,641 3,379 17,684 5,118 5,133
Operating costs and expenses 145,626 164,012 144,098 159,901 147,086 152,561 144,687 141,068
Operating income/net income 27,317 26,571 23,723 20,670 22,004 28,582 23,006 19,854
================================================================================================================================
Per Share Data:
Basic:*
Operating/net income $ 1.49 $ 1.45 $ 1.30 $ 1.13 $ 1.21 $ 1.56 $ 1.25 $ 1.08
Diluted:*
Operating/net income 1.35 1.32 1.18 1.03 1.10 1.42 1.14 1.00
Stockholders' equity per share 40.86 35.89 39.98 34.15 38.15 32.30 37.25 29.96
Cash dividends declared per share 0.09 0.075 0.09 0.075 0.09 0.075 0.075 0.06
================================================================================================================================
Stock Prices:
High $ 52.88 $ 52.88 $ 55.88 $ 51.56 $ 53.94 $ 49.00 $ 53.81 $ 39.88
Low 43.69 43.50 45.06 45.50 45.00 35.50 47.00 33.25
Close 46.94 48.81 49.25 51.38 53.38 48.38 52.44 35.63
</TABLE>
*The first three quarters of 1997 earnings per share amounts have been restated
to comply with SFAS No. 128.
-57-
<PAGE>
15. Subsequent Event
On February 15, 1999, XL and NAC Re signed a definitive agreement whereby
NAC Re will merge into a wholly-owned subsidiary of XL in an all stock
transaction. Under the terms of the transaction, NAC Re stockholders will
receive 0.915 of an XL Class A voting ordinary share for each share of NAC Re in
a tax-free exchange of shares. XL plans to account for the merger as a
"pooling-of-interests" under U.S. GAAP. The transaction is subject to the
approval of the NAC Re stockholders, receipt of insurance, and other regulatory
approvals and customary closing conditions. It is expected that the merger will
be completed by late second calendar quarter or early third quarter of 1999.
The merger with XL will not cause the Preferred Stock Purchase Rights described
in Note 13 to become exercisable, due to an amendment to NAC Re's Rights
Agreement adopted in February 1999.
-58-
<PAGE>
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosures
None.
PART III
Item 10. Directors and Executive Officers
(a) Identification of Directors
Director
Name of Director Age Since
---------------- --- -----
Class B (term expires 1999)
Robert A. Belfer 63 August 1985
Nicholas M. Brown, Jr. 44 November 1996
Herbert S. Winokur, Jr. 55 September 1987
Class C (term expires 2000)
Ronald L. Bornhuetter 66 August 1985
Dan Ciampa 52 June 1997
Todd G. Cole 78 September 1987
Daniel J. McNamara 71 September 1991
Class A (term expires 2001)
John P. Birkelund 68 August 1985
C. W. Carson, Jr. 70 September 1987
Michael G. Fitt 67 December 1992
Stephen Robert 58 August 1985
Ronald L. Bornhuetter has been Chairman of the Company since 1993 and
Chairman of the Board of NAC Reinsurance Corporation ("NAC") since 1990. He has
been a Director of the Company and NAC since August 1985. From November 1996
through December 1998, he also served as Chief Executive Officer of the Company.
From August 1985 through October 1996, he served as President of the Company and
Chief Executive Officer of NAC and from March 1986 through October 1996 he also
served as President of NAC. Prior to joining the Company, Mr. Bornhuetter was
Vice President-Finance of General Re Corporation and Senior Vice President and
Comptroller of its subsidiary, General Reinsurance Corporation, having served as
Chief Financial Officer of the Group. He is a Fellow and former President of the
Casualty Actuarial Society; a member and former President of the American
Academy of Actuaries and also served as Chairman of the Actuarial Standards
Board. He is also a member of the International Actuarial Association, and a
former Vice President and head of the U.S. delegation to its Ruling Council. He
is also a member of ASTIN and AFIR. He served as Chairman of The Reinsurance
Association of America from 1993 to 1994. He is a Director of cyber$settle.com,
Inc., Denham Syndicate Management Limited, Net Earnings and Prime Advisors, Inc.
and a Trustee of The College of Wooster, Wooster, Ohio.
-59-
<PAGE>
Nicholas M. Brown, Jr. has been President and Chief Executive Officer of
the Company since January 1999. He joined the Company in November 1996 as
President and Chief Operating Officer and a Director and President and Chief
Executive Officer and a Director of NAC. Prior to joining the Company, Mr. Brown
served at The St. Paul Companies as Executive Vice President and Chief Operating
Officer of St. Paul Fire and Marine Insurance Company from May 1994 until
November 1996 and as President of St. Paul Specialty from November 1993 through
May 1994. From 1976 until 1993 he served in various positions at Aetna. Mr.
Brown is a Fellow of the Casualty Actuarial Society and a member of the American
Academy of Actuaries. He is a Director of cyber$ettle.com, Inc., Denham
Syndicate Management Limited, Net Earnings and Prime Advisors, Inc.
Robert A. Belfer is Chairman and Chief Executive Officer of Belco Oil &
Gas Corp., an independent gas and oil producing company. Prior to that, he was
President and Chairman of Belco Petroleum Corporation, a petroleum exploration
and production company from 1965 until April 1986. Mr. Belfer is a Director of
Enron Corp. and is a member of the Board of Overseers and Treasurer of the
Albert Einstein College of Medicine and a member of the Board of Overseers of
Cornell University Medical College.
John P. Birkelund has been successively Chairman and Senior Advisor of SBC
Warburg Dillon Read since October 1997. From 1981 until 1997, he served in
executive positions at Dillon, Read & Co. Inc., including Chief Executive
Officer from 1988 through 1993 and Chairman from 1988 to 1997. Mr. Birkelund is
a Director of Darby Overseas Investments Ltd. and chairs the Polish-American
Enterprise Fund. He also serves as a trustee or advisor to a number of
non-for-profit organizations.
C. W. Carson, Jr. currently serves as an independent financial consultant.
He was a Partner with Price Waterhouse & Partners from 1985 until June 1988.
From 1983 to 1985, Mr. Carson was Managing Director of the investment banking
firm of Wm. Sword & Co., Inc. From 1956 to 1983, he was affiliated with Chemical
Bank, serving as Vice Chairman and Director of the Bank and Holding Company from
1978 to 1983. Mr. Carson is a Director of Mitsubishi Trust & Banking Corporation
(USA) and Trebol International Corporation and serves as a trustee, director or
advisor to several universities, endowment funds and other not-for-profit
organizations.
Dan Ciampa currently serves as an independent management consultant
advising senior executives in a select number of Fortune 1000 companies. Prior
to establishing his consulting practice in 1996, Mr. Ciampa was associated with
Rath & Strong, Inc., a manufacturing engineering consulting firm. He served at
Rath & Strong for over 25 years in various positions, including CEO and Chairman
of the Board from 1986 to 1996. Mr. Ciampa serves on numerous private and
not-for-profit boards, and is a guest lecturer at several institutions including
Duke University, Boston College, Boston University, Harvard University and
Vanderbilt University.
Todd G. Cole, retired Chairman and Chief Executive Officer of CIT
Financial Corporation, is a consultant and corporate director. In his consulting
role he served as Managing Director of SH&E, Inc., a consulting firm
specializing in aviation (1992-1995), President and Chief Executive Officer of
Frontier Airlines, Inc. D.I.P. (1986-1990) and Vice Chairman and Director of
Eastern Air Lines, Inc. D.I.P. (1989-1991). He is a Director of Kaiser Ventures,
Inc., Hawaiian Airlines, Inc. and several private companies.
Michael G. Fitt was President of Employers Reinsurance Corporation from
1979 to 1991 and Chairman and Chief Executive Officer from 1981 until his
retirement in 1992. He is an Advisory Director of Nations Bank of Kansas City, a
Director of Kansas City Southern Industries, Inc., a Director of DST Systems
Inc. and a member of the Board of Directors of Midwest Research Institute.
Daniel J. McNamara currently is Of Counsel with the law firm of Hughes
Hubbard & Reed LLP. He served as Chairman of the Insurance Group Practice of
that law firm from March 1988 through 1994. From 1971 to 1988 he served as the
first President of Insurance Services Office, Inc. (ISO). Mr. McNamara is a
member and past President of the Casualty Actuarial Society and the American
Academy of Actuaries. A retired Director of General Accident Insurance Company
of America and General Accident Corporation of America, he is currently a
Director of several private companies. He is Chairperson of the Board of
Trustees of the College of Mount St. Vincent and also serves as a trustee or
advisor to several not-for-profit organizations.
-60-
<PAGE>
Stephen Robert served as Chairman of the Board and Chief Executive Officer
of Oppenheimer & Co., Inc. from 1983 to 1997, and was President of that company
from 1979 to 1983. In November 1997, Oppenheimer & Co., Inc. was acquired by
CIBC Wood Gundy Securities Corp., the global corporate and investment banking
arm of Canadian Imperial Bank of Commerce. Mr. Robert served as Vice Chairman of
the new entity, CIBC Oppenheimer Corp., until October 31, 1998. Mr. Robert is
Chancellor of Brown University and he serves on the Boards of Electra
Investments Trust, P.L.C., Thirteen/WNET, The Manhattan Institute, the
Polish-American Enterprise Fund and the New York City Economic Development
Corporation.
Herbert S. Winokur, Jr. is Chairman and Chief Executive Officer of
Capricorn Holdings, Inc., a private investment company. He is also Managing
General Partner of Capricorn Investors, L.P. and Capricorn Investors II, L.P.,
private investment partnerships concentrating on investments in restructure
situations, organized by Mr. Winokur in 1987 and 1994, respectively. Prior to
his current appointments, Mr. Winokur was Senior Executive Vice President and
Director of Penn Central Corporation. Mr. Winokur is also a Director of Enron
Corp., The WMF Group, Ltd., Mrs. Fields Holding Company, Inc., CCC Information
Services Group, Inc., and DynCorp.
(b) Identification of executive officers
The following individuals are the Company's executive officers:
Name Age Office
---- --- ------
Ronald L. Bornhuetter 66 Chairman of the Board, NAC Re and NAC
Nicholas M. Brown, Jr. 44 President and Chief Executive Officer,
NAC Re and NAC
Martha G. Bannerman 56 Vice President and General Counsel,
NAC Re; Executive Vice President,
General Counsel and Secretary,
NAC
Richard H. Miller 51 Vice President, Chief Financial Officer
and Treasurer, NAC Re; Senior Vice
President, Chief Financial Officer and
Treasurer, NAC
Celia R. Brown 44 Secretary, NAC Re; Senior Vice President,
NAC
Stanley J. Kott 50 Executive Vice President, NAC
C. Fred Madsen 45 Executive Vice President, NAC
Martha G. Bannerman has been Executive Vice President of NAC since 1994
and Vice President, General Counsel of the Company and a Director and General
Counsel of NAC since 1986. From 1986 to 1994 she was Vice President of NAC and
Secretary of the Company. From 1970 to 1977, Ms. Bannerman practiced law with
Milbank, Tweed, Hadley & McCloy in New York. In 1977, Ms. Bannerman joined the
Los Angeles law firm of Adams, Duque & Hazeltine (becoming a partner in 1978),
where she specialized in business litigation, including a variety of insurance
and securities matters. Ms. Bannerman served as Chair of the Law Committee of
The Reinsurance Association of America from 1992-1994 and is active in the Tort
and Insurance Practice Section of the American Bar Association. She is a
Director of cyber$ettle.com, Inc.
Richard H. Miller was appointed Vice President, Chief Financial Officer
and Treasurer of the Company in September 1998. He has been Senior Vice
President, Chief Financial Officer and Treasurer of NAC since February 1999. He
served as Vice President, Chief Financial Officer and Treasurer from September
1998 through January 1999, and as Vice President and Controller from June 1996
to September 1998. He has been a Director of NAC since June 1996. Prior to
joining NAC, Mr.
-61-
<PAGE>
Miller was employed for 24 years at Aetna Life & Casualty Companies, most
recently as Vice President and Controller of the property casualty group. He is
a Director of cyber$ettle.com, Inc.
Celia R. Brown has been Secretary of the Company since 1994. Since
February 1999 she has been Senior Vice President of NAC and she has been a
Director of NAC since 1993. She served as Vice President from 1994 to February
1999, as Second Vice President and Associate General Counsel from 1991 to 1994
and as Assistant Vice President and Assistant General Counsel from 1988 to 1991.
Prior to joining NAC, Ms. Brown served as Vice President at JWT Group, Inc. and
as an associate in the law firm of Burns Summit Rovins and Feldesman in New
York.
Stanley J. Kott has been Executive Vice President of NAC since 1994 and a
Director of NAC since 1990. From 1990 to 1994 he served as Vice President and
Manager, Property Facultative. Before joining the Company, he was employed by E.
W. Blanch Company for over three years and served as Senior Vice President,
Limited Partner and Director of the Facultative Division for over three years
and also as Branch Manager, New York Treaty. Mr. Kott was previously a Vice
President at Guy Carpenter serving as Branch Manager of its Hartford Office and
a property facultative underwriter at General Reinsurance Corporation.
C. Fred Madsen has been Executive Vice President of NAC since 1994 and a
Director of NAC since 1991. He served as Vice President and Manager, Casualty
Facultative from 1991 to 1994. Prior to that time he held various positions in
the Casualty Treaty Department. Before joining the Company in 1986, he served in
various underwriting positions at General Reinsurance Corporation and Aetna Life
& Casualty Company.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934 requires the
Company's executive officers and directors, and persons who beneficially own
more than ten percent of a registered class of the Company`s equity securities,
to file reports of ownership and changes in ownership with the Securities and
Exchange Commission and the New York Stock Exchange. Based solely upon a review
of the copies of such forms furnished to the Company and written representations
from the Company's executive officers, directors and greater than 10% beneficial
shareholders, the Company believes that during the year ended December 31, 1998,
all persons subject to the reporting requirements of Section 16(a) filed the
required reports on a timely basis, except for Mr. Belfer, who filed his Form 4
for the month of January on February 23, 1998.
Item 11. Executive Compensation
Summary Compensation Table
The following table sets forth compensation paid or accrued for the last
three fiscal years, or as otherwise indicated, with respect to the named
executive officers of NAC Re, for services rendered by such persons to NAC Re
and NAC.
-62-
<PAGE>
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------------
Long-term Compensation
Annual Compensation Awards Payouts
Name Restricted Securities
and Other Stock Underlying All Other
Principal Annual Awards Options LTIP Compen-
Position Year Salary ($) Bonus ($) Compensation ($) (1) (#) Payouts ($) sation ($)
-------- ---- ---------- --------- ------------ ------- --- ----------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Ronald L. Bornhuetter 1998 $627,917 $350,400 --- --- 34,000 $494,200 $75,494 (3)
Chairman and Chief Executive 1997 $608,083 $424,200 --- --- 34,000 $488,000 $90,043 (3)
Officer, NAC Re; 1996 $581,333 $392,400 --- --- 125,000 $415,300 $90,531 (3)
Chairman, NAC (2)
Nicholas M. Brown, Jr. 1998 $512,500 $286,000 --- --- 153,000 $369,800 $58,751 (6)
President & Chief Operating 1997 $495,833 $345,900 $300,825 (4) --- 27,500 $371,100 $66,675 (6)
Officer, NAC Re; President 1996 $68,510 $245,000 (5) --- $672,500 150,000 --- $6,166 (6)
and Chief Executive Officer,
NAC (2)
Martha G. Bannerman 1998 $321,417 $159,500 --- --- 14,000 $188,400 $34,884 (7)
Vice President and General 1997 $311,250 $193,000 --- $196,875 16,500 $191,400 $43,718 (7)
Counsel, NAC Re; Executive 1996 $290,836 $174,500 --- --- 12,000 $140,900 $41,040 (7)
Vice President, General
Counsel and Secretary, NAC
C. Fred Madsen 1998 $321,417 $159,500 $ 17,766 (8) --- 14,000 $187,700 $35,637 (9)
Executive Vice President, NAC 1997 $311,250 $192,500 $177,640 (8) $196,875 16,500 $191,400 $43,538 (9)
1996 $287,500 $172,500 --- --- 12,000 $129,400 $39,480 (9)
Stanley J. Kott 1998 $321,417 $159,500 --- --- 14,000 $187,700 $34,793 (10)
Executive Vice President, NAC 1997 $311,250 $193,000 --- $196,875 16,500 $191,400 $43,538 (10)
1996 $287,500 $172,500 --- --- 12,000 $132,100 $39,498 (10)
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
1. Restricted stock awards are valued at the closing market price on the date
of each award. The restricted stock granted to Mr. Brown on October 30,
1996 vests as follows: 5,000 shares vest in 20% annual increments
commencing October 30, 1997; 15,000 shares vest 6 years from grant or
earlier upon the attainment by the stock of performance thresholds ranging
from 15% to 45% stock appreciation (all of which thresholds were met in
1997). The 5,000 shares granted to Ms. Bannerman and Messrs. Madsen and
Kott vest in 20% annual increments commencing March 11, 1999. Unvested
restricted stock held by the named executives at year-end, valued at a
December 31, 1998 closing price of $46.9375 was as follows: Mr. Brown:
3,000 shares valued at $140,812.50; Ms. Bannerman: 5,600 shares valued at
$262,850; Mr. Madsen: 5,600 shares valued at $262,850; Mr. Kott: 5,600
shares valued at $262,850. Dividends are paid on shares of restricted
stock as, when and if dividends are paid on the Company's Common Stock.
2. Mr. Brown became Chief Executive Officer, NAC Re effective January 1,
1999.
3. Amounts shown reflect Company contributions to the Employee Savings Plan
and allocations to the Excess Benefit Savings Plan of $11,040 and $62,884,
respectively, for 1998, $14,400 and $75,643, respectively, for 1997, and
$13,596 and $76,935, respectively, for 1996. Also includes $1,570, $8,398,
and $11,689 for life insurance premiums paid by the Company for 1998,
1997, and 1996, respectively.
4. Amount shown for Mr. Brown includes $99,811 in connection with relocation
costs and related tax reimbursement and $170,750 reflecting the difference
between the market value and the purchase price for 5,000 shares of the
Company's Common Stock purchased by Mr. Brown in connection with his
employment agreement.
5. Mr. Brown joined the Company in November 1996. Consists of an annual bonus
of $20,000 and a replacement bonus of $225,000 in connection with Mr.
Brown's employment agreement.
6. Consists of Company contributions to the Employee Savings Plan and
allocations to the Excess Benefit Savings Plan of $10,483 and $48,268,
respectively, for 1998, $14,400 and $52,275, respectively, for 1997 and
$4,111 and $2,055, respectively, for 1996.
7. Consists of Company contributions to the Employee Savings Plan and
allocations to the Excess Benefit Savings Plan of $10,159 and $24,725,
respectively, for 1998, $14,400 and $29,318, respectively, for 1997, and
$13,596 and $27,444, respectively, for 1996.
-63-
<PAGE>
8. Amount shown for Mr. Madsen includes $177,640 in connection with
relocation costs and related tax reimbursement in 1997 and $17,766 in
connection with related tax reimbursement in 1998.
9. Consists of Company contributions to the Employee Savings Plan and
allocations to the Excess Benefit Savings Plan of $11,040 and $24,597,
respectively, for 1998, $14,400 and $29,138, respectively, for 1997 and
$13,596 and $25,884, respectively, for 1996.
10. Consists of Company contributions to the Employee Savings Plan and
allocations to the Excess Benefit Savings Plan of $10,159 and $24,634,
respectively, for 1998, $14,400 and $29,138, respectively, for 1997, and
$13,596 and $25,902, respectively, for 1996.
-64-
<PAGE>
Option Grants in Last Fiscal Year
The Company maintains employee stock option plans pursuant to which
eligible individuals may receive options to purchase the Company's Common Stock.
The table below sets forth information concerning grants of stock options to the
named executive officers of NAC Re during the last fiscal year. The amounts
shown for each of the officers as potential realizable values are based on
arbitrarily assumed annualized rates of stock price appreciation of five percent
and ten percent over a ten-year period from the date of grant of the respective
options. No gain to the optionees is possible without an increase in the stock
price, which will benefit all shareholders proportionately. These potential
realizable values are based solely on arbitrarily assumed rates of appreciation
and are required to be disclosed by regulations adopted by the Securities and
Exchange Commission. Actual gains, if any, on option exercises and common stock
holdings are dependent on the future performance of the Company's Common Stock.
There can be no assurance that the potential realizable values shown in this
table will be achieved.
<TABLE>
<CAPTION>
Potential
Realizable Value at
Assumed Annual
Rates of Stock Price
Appreciation
Individual Grants for Option Term
- --------------------------------------------------------------------------------- ----------------------------
% of
Number of Total
Securities Options
Underlying Granted to Exercise
Options Employees or Base Expira-
Granted in Fiscal Price tion
Name (#) (1) Year ($/Sh) Date (2) 5% (1)(4) 10% (1)(4)
---- ------- ---- ------ -------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Ronald L. Bornhuetter 34,000 10.8% $47.250 6/10/2008 $1,012,095 $ 2,554,335
Nicholas M. Brown, Jr. 153,000(3) 48.5% $47.250 6/10/2008 $4,554,428 $11,494,508
Martha G. Bannerman 14,000 4.4% $47.250 6/10/2008 $ 416,745 $ 1,051,785
C. Fred Madsen 14,000 4.4% $47.250 6/10/2008 $ 416,745 $ 1,051,785
Stanley J. Kott 14,000 4.4% $47.250 6/10/2008 $ 416,745 $ 1,051,785
</TABLE>
(1) Becomes exercisable in installments of 25% per year commencing June 10,
2000 so long as employment with the Company or its subsidiaries continues.
At 5% appreciation, share price would be $77.02 on June 10, 2008. At 10%
appreciation, share price would be $122.38 on June 10, 2008.
(2) Options expire unless exercised within five years following termination of
employment due to retirement, disability or death, or three months
following termination of employment due to discharge or resignation, but
in no event may option term exceed 10 years.
(3) Granted as stock appreciation rights which converted into non-qualified
stock options in 1998.
(4) As of March 3, 1999 there were 18,369,389 shares of the Company's Common
Stock outstanding. Based on those outstanding shares and a share price of
$50.5625 on that date, at 5% appreciation, the share price would be
$82.4169 on March 3, 2009 and potential realizable value for all
shareholders would be $585,145,406. At 10% appreciation, the share price
would be $130.9569 on March 3, 2009 and potential realizable value for all
shareholders would be $1,476,795,548
-65-
<PAGE>
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year-End Option
Values
The following table sets forth information concerning the exercise of
stock options during the last fiscal year by the named executive officers of NAC
Re and the value of unexercised stock options held by such officers at December
31, 1998.
<TABLE>
<CAPTION>
Number of
Securities Value of
Underlying Unexercised
Unexercised In-the-Money
Options Options
at at
Shares FY-End (#) FY-End ($) (1)
Aquired on ------------------------------- -----------------------------------
Name Exercise Value Realized Exercisable Unexercisable Exercisable Unexercisable
---- -------- -------------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Ronald L. Bornhuetter --- --- 391,500 142,250 $8,926,461 $961,864
Nicholas M. Brown, Jr. --- --- 90,000 240,500 $1,164,375 $894,843
Martha G. Bannerman 875 $32,332 59,630 54,220 $1,147,299 $326,312
C. Fred Madsen --- --- 37,950 53,300 $ 628,888 $314,530
Stanley J. Kott --- --- 45,815 53,360 $ 862,415 $315,171
</TABLE>
(1) Based on year-end market value of Common Stock of $46.9375
-66-
<PAGE>
Long-term Incentive Plan - Awards in Last Fiscal Year
The Company's Long-term Incentive Plan, which is administered by the
Compensation Committee of the Board of Directors, has been designed to provide
awards based on corporate performance over three-years, paid following the end
of each measurement period. In 1998 the measurement criteria for payouts under
the plan was revised and was based on absolute and relative operating return on
beginning equity over a three-year period compared to a peer group composed of
the 14 largest reinsurance companies. The following table sets forth information
concerning Long-term Incentive Plan awards for the named executive officers of
NAC Re. The awards are indicated in dollars, based on 1998 salaries, instead of
percentages, in order to give shareholders an estimate of the amounts that may
be paid out. Distributions under the Long-term Incentive Plan are made in March
of each year with respect to the measurement period ending at the end of the
preceding calendar year, and are included in the Summary Compensation Table.
<TABLE>
<CAPTION>
Performance Estimated Future Payouts under
or Other Non-Stock Price-Based Plan (1)
Period Until ---------------------------------------------------
Maturation or
Name Payout (2) Threshold ($) (3) Target ($) Maximum ($) (4)
- ---- ---------- ----------------- ---------- ---------------
<S> <C> <C> <C> <C>
Ronald L. Bornhuetter 1997 - 1999 $0 $376,750 $753,500
1998 - 2000 $0 $376,750 $753,500
Nicholas M. Brown, Jr. 1997 - 1999 $0 $281,875 $563,750
1998 - 2000 $0 $281,875 $563,750
Martha G. Bannerman 1997 - 1999 $0 $144,638 $289,275
1998 - 2000 $0 $144,638 $289,275
C. Fred Madsen 1997 - 1999 $0 $144,638 $289,275
1998 - 2000 $0 $144,638 $289,275
Stanley J. Kott 1997 - 1999 $0 $144,638 $289,275
1998 - 2000 $0 $144,638 $289,275
</TABLE>
(1) Actual awards and target and maximum amounts are characterized under the
Long-term Incentive Plan as percentages. When an actual award is
determined at the end of each measurement period, the percentage is
applied to the individual's average annual base salary for such period.
Because this average compensation level is not presently determinable, all
amounts disclosed reflect the application of the applicable percentages to
the individual's 1998 salary, which may be more or less than average
compensation at the end of the relevant measurement periods.
(2) Actual awards for the 1996 - 1998 measurement period are reflected in the
Summary Compensation table.
(3) If formula threshold is not reached, no award will be paid under the Plan.
(4) While there are no maximum payouts under the plan as amended, the
Compensation Committee may exercise its discretion if and to the extent
formulas produce awards in excess of 200% of the target payout.
-67-
<PAGE>
Retirement Plan
The NAC Re Corp. Retirement Plan is a qualified non-contributory defined
benefit plan for all employees. Benefits are computed on the basis of a
specified percentage of the individual's average total compensation, which
includes salary and bonus awards (exclusive of Long-term Incentive Plan awards),
for the thirty-six months of highest total compensation during the employee's
last ten years of service. Benefits are computed on the basis of a "life and
ten-year certain" annuity.
The Company maintains a Benefits Equalization Plan authorizing payment to
employees out of general funds of the Company of any benefits calculated under
provisions of the Retirement Plan that are otherwise above the limitations of
the Internal Revenue Code.
The following table shows the estimated annual benefits payable upon
normal retirement for specified average total compensation and years of credited
service under the Retirement Plan and the Benefits Equalization Plan. Amounts
disclosed are not subject to deduction for Social Security or other offset
amounts.
Average Total
Compensation YEARS OF CREDITED SERVICE
15 20 25 30 35
$200,000 $ 45,768 $ 61,025 $ 73,281 $ 85,537 $ 85,537
400,000 93,768 125,025 150,281 175,537 175,537
600,000 141,768 189,025 227,281 265,537 265,537
800,000 189,768 253,025 304,281 355,537 355,537
1,000,000 237,768 317,025 381,281 445,537 445,537
1,200,000 285,768 381,025 458,281 535,537 535,537
1,400,000 333,768 445,025 535,281 625,537 625,537
The following table sets forth the number of full years of credited service as
of December 31, 1998 under the Retirement Plan and the Benefits Equalization
Plan, the 1998 compensation covered by the plans and number of years of credited
service at normal retirement age for the named executive officers of NAC Re.
Number of Full Current Number of Years
Years of Compensation of Credited Service At
Name of Individual Credited Service Covered Normal Retirement Age
- ------------------ ---------------- ------- ---------------------
Ronald L. Bornhuetter 13 $1,052,117 11
Nicholas M. Brown, Jr. 2 858,400 23
Martha G. Bannerman 12 514,417 21
Stanley J. Kott 8 514,417 23
C. Fred Madsen 12 513,917 32
Current Compensation Covered is the equivalent of the salary reported in
the Summary Compensation Table for 1998 and Annual Incentive Plan bonus for 1997
(and actually paid in 1998). See "Employment Agreements with Mr. Bornhuetter"
and "Employment Agreement with Mr. Brown" for a description of the supplemental
pension payable to Messrs. Bornhuetter and Brown upon their retirement.
Employment Agreements with Mr. Bornhuetter
Mr. Bornhuetter is employed pursuant to an agreement with NAC Re and NAC
to provide for his employment through June 30, 2000 (the "Agreement"). The
Agreement provides that Mr. Bornhuetter will be nominated to the respective
Boards of Directors of NAC Re and NAC and that he will be a member of the
Executive Committee and an ex officio member of all
-68-
<PAGE>
other committees of NAC Re and NAC with management responsibilities, except the
Audit Committee and Compensation Committee.
Mr. Bornhuetter's salary was established under previous employment
agreements, with the opportunity for subsequent annual increases. He receives
bonuses paid pursuant to the Annual Incentive Plan and Long-term Incentive Plan
which are dependent on corporate performance. The Annual Incentive Plan bonus is
based on a target percentage of 45% of average salary for the bonus year. The
Long-term Incentive Plan bonus is based on a target percentage of 60% of average
salary for the three-year measurement period.
NAC Re and NAC are required to maintain life insurance of $600,000 on Mr.
Bornhuetter's life and for his benefit (Mr. Bornhuetter receives additional life
insurance pursuant to the Company's benefits program for all employees).
Following the employment term, such insurance must be maintained in the amount
of $100,000. If Mr. Bornhuetter's employment terminates because of disability
before the end of his employment term, his compensation and certain benefits
will continue except that annual salary payments will be 53% of his average
annual compensation including base salary and annual bonus at target reduced by
the amount of any disability payments and retirement benefits he receives under
the various benefit plans maintained by the Company and NAC. This benefit is
payable for Mr. Bornhuetter's lifetime and, following his death, 50% of such
amount is payable to his surviving spouse, unless a lump sum payment option is
elected.
Mr. Bornhuetter will receive a supplemental pension upon his retirement in
an annual amount equal to 53% of his average annual compensation including base
salary and annual bonus at target reduced by benefits payable to Mr. Bornhuetter
under pension plans of the Company or NAC or under pension plans of Mr.
Bornhuetter's prior employer. This benefit is payable to Mr. Bornhuetter for his
lifetime and, following his death, 50% of such amount is payable to his
surviving spouse, unless a lump sum payment option is elected.
If Mr. Bornhuetter's employment is terminated (i) by the Company other
than for cause or (ii) by Mr. Bornhuetter for "good reason," as defined in the
Agreement, in addition to accrued benefits under such agreement, Mr. Bornhuetter
will receive a lump sum payment equal to his then current base salary plus
target payments from the Annual Incentive Plan and Long-term Incentive Plan (the
"Severance Amount") for the unexpired portion of his employment term, except
that, if such termination occurs after a change in control, Mr. Bornhuetter's
severance payment will in no event be less than 2.99 times the Severance Amount.
Provisions regarding continuing life and health insurance, excise tax payments
and the definition of change in control are comparable to those contained in the
Senior Officer Agreements described below.
Employment Agreement with Mr. Brown
Mr. Brown was employed pursuant to an agreement with NAC Re and NAC which
became effective in November 1996, and extended until December 31, 2001 (the
"Former Agreement"). His salary was established under the Former Agreement with
the opportunity for annual increases. Mr. Brown entered into a new agreement
(the "Current Agreement") effective June 30, 1998 for a term extending until
June 30, 2003. The Current Agreement provided for a change in salary to $625,000
in 1999 in connection with his appointment as of January 1, 1999 to Chief
Executive Officer of the Company. He is eligible to receive bonuses paid
pursuant to the Annual Incentive Plan and Long-term Incentive Plan which are
dependent on corporate performance. His target percentages were 45% and 55%,
respectively, until 1999 and 45% and 60% commencing in 1999. Pursuant to his
Current Agreement, Mr. Brown received a stock appreciation right grant (which
automatically converted to a stock option grant on October 30, 1998) with
respect to 125,000 shares of NAC Re Common Stock.
Pursuant to his Current Agreement, if Mr. Brown retires on or after
attaining age fifty, he will receive a supplemental pension equal to 50% of his
average compensation including base salary and annual bonus at target (defined
pursuant to the Current Agreement) reduced by benefits payable to Mr. Brown
under pension plans of the Company or NAC or under pension plans of Mr. Brown's
prior employers. Any retirement benefit that is payable prior to age 60 shall be
reduced by 5% per year to reflect its expected period of payment. This benefit
is payable to Mr. Brown for his lifetime and, following his death, 50% of such
amount is payable to his surviving spouse, if any, for her lifetime.
If Mr. Brown's employment is terminated (i) by the Company other than for
cause or (ii) by Mr. Brown for "good reason," as defined in the Current
Agreement, in addition to accrued benefits under such agreement, Mr. Brown will
receive (i) service credit sufficient to meet the minimum service requirements
under his supplemental pension and (ii) a lump sum payment equal to the sum of
(x) his then current base salary plus (y) the amounts that would be paid to him
under the Annual
-69-
<PAGE>
Incentive Plan and the Long-Term Incentive Plan at his target for the year or
performance period, as the case may be, during which such termination occurs,
multiplied by the greater of three years or the balance of the contract term,
except that, if such termination occurs after a change in control, Mr. Brown's
severance payment will in no event be less than 2.99 times the sum of Mr.
Brown's then annual base salary plus payments under the Annual Incentive Plan
and Long-Term Incentive Plan at target. Provisions regarding continuing life and
health insurance, excise tax payments and the definition of change in control
are comparable to those contained in the Senior Officer Agreements described
below.
Employment Agreements with Executive Vice Presidents
The Company entered into employment agreements with Ms. Bannerman and
Messrs. Kott, and Madsen effective October 30, 1996 for three-year terms.
Pursuant to such agreements, in the event of involuntary termination of
employment, the employee will receive a severance payment equal to his or her
then current base salary plus annual and long-term bonuses paid out at the
target percentages with respect to the greater of the balance of the term of the
agreement or a two-year period. In the event of the voluntary termination of the
employee, he or she is subject to provisions regarding non-competition and
non-solicitation of clients. Severance provisions in the event of a change in
control are described under "Change In Control Severance Agreements."
Change in Control Severance Agreements
In addition to the agreements described above, the Company has entered
into severance agreements with the executive vice presidents and senior vice
presidents of NAC (the "Senior Officer Agreements") and severance agreements
with the other officers of NAC and its subsidiaries in order to reinforce and
encourage the continued dedication and attention of such persons to their
assigned duties without distractions arising from a potential change in control.
These severance agreements as well as a severance program for other employees
are also intended to help retain staff members in the event of a potential
change in control and thereby protect the assets of the Company.
As part of the Senior Officer Agreements, each party has agreed that in
the event of a "potential change in control" of the Company, the senior officer
will remain in the employ of the Company or its subsidiaries for a six-month
period. If a senior officer's employment is terminated within two years of a
"change in control" (i) by the Company other than for cause, or (ii) by the
senior officer for "good reason," the senior officer will be entitled to a
severance payment equal to his average annual compensation from the Company
during the five years immediately preceding the change in control plus target
payments from the Annual Incentive Plan and the Long-term Incentive Plan,
multiplied by 2.99. The severance payment will be made over 2.99 years or in a
discounted lump sum. The senior officer will also receive amounts earned but not
yet paid under the Long-term Incentive Plan, acceleration of vesting of stock
options and restricted stock, and continuing life and health insurance coverage
for a three-year period after termination, as well as legal fees incurred in
enforcing the severance agreement. If a senior officer becomes subject to an
excise tax under the Internal Revenue Code as a result of any payments or
benefits received on a change in control, the Company will make an additional
payment to the senior officer to make him or her whole after payment of the
excise tax.
A "potential change in control" would be deemed to occur if (i) the
Company enters into an agreement, the consummation of which would result in a
change in control of the Company, (ii) any person (including the Company)
publicly announces an intention to take or to consider taking actions which if
consummated would constitute a change in control, (iii) any person becomes the
beneficial owner of securities representing 10% or more of the combined voting
power of the Company's then outstanding securities; or (iv) the Board of
Directors adopts a resolution to the effect that a potential change in control
has occurred. A "change in control" of the Company would be deemed to occur if
(i) any person is or becomes the beneficial owner of securities representing 30%
or more of the combined voting power of the Company's then outstanding
securities, (ii) during any two-year period individuals who constituted the
Board of Directors of the Company cease, for any reason, to constitute a
majority thereof, or (iii) the stockholders of the Company approve a merger,
consolidation or complete liquidation of the Company or a sale of substantially
all of the Company's assets. "Good reason" is defined to include, among other
things, a substantial diminution in the nature or status of responsibilities,
reduction in compensation or benefits, relocation or the failure of the Company
or its successor to provide the senior officer with a three-year employment
contract at comparable levels of compensation and benefits as exist at the time
of the change in control.
-70-
<PAGE>
Compensation of Directors
Directors who are not employees of the Company receive a retainer of
$30,000, of which 25% is paid in cash and 75% is paid in the form of Company
Common Stock. The Common Stock is nontransferable for six months from issuance.
The Directors also receive fees of $2,500 for each Board of Directors' meeting
attended and $1,000 for each Committee meeting attended. The non-executive
Chairman of each Committee receives an additional cash retainer of $2,500
annually. The Company pays for or reimburses the travel and related expenses
incurred to attend Board and Committee meetings.
Directors may elect to defer, until a date specified, receipt of all or a
portion of their cash retainers and fees. Interest is allocated to amounts
deferred at a rate comparable to the rate earned by the Stable Value Fund of the
NAC Re Corp. Employee Savings Plan. During 1998, three Directors elected to
defer compensation pursuant to this arrangement.
The Company maintains the Directors' Stock Option Plan pursuant to which
Directors who are not full-time employees of the Company or its subsidiaries and
who are otherwise eligible automatically receive non-qualified stock options to
purchase NAC Re Common Stock at the market value for such stock on the grant
date. The initial grant under the plan is an option to purchase 11,250 shares of
Common Stock, with subsequent annual grants of options to purchase 2,250 shares
of Common Stock. Such options become exercisable six months following their
grant date. Mr. Fitt also received fees of $12,000 in 1998 in connection with
his role as a Director of the Company's U. K. subsidiary.
Compensation Committee Interlocks and Insider Participation
The members of the Compensation Committee during 1998 were: C. W. Carson,
Jr., Dan Ciampa, Daniel J. McNamara and Stephen Robert. Stephen Robert is Senior
Advisor of CIBC Oppenheimer Corp. ("Oppenheimer") and was Vice Chairman of
Oppenheimer during 1998. Oppenheimer provides investment advisory services with
respect to the Company's pension funds and a small portion of the Company's
investment portfolio. Oppenheimer also provided investment banking services for
the Company in 1998 and 1999.
Board Compensation Committee Report on Executive Compensation
Compensation Philosophy
The Company's compensation philosophy is driven by its primary corporate
objectives -- to provide the best return to the shareholders over the long term
and to maintain a highly motivated staff, providing them with the opportunity to
share in the success of the Company. Specifically, NAC Re's executive
compensation program serves:
o To align the interests of executives and shareholders by causing a
significant portion of executive compensation to be variable, or "at
risk," dependent upon the achievement of long-term corporate
performance objectives, while emphasizing significant ownership of
NAC Re Common Stock.
o To sustain superior corporate performance over time by designing
elements of the compensation program that are based on longer-term
rewards, such as extended vesting and long-term plans.
o To attract and retain quality staff by emphasizing the necessity to
be highly competitive.
Total compensation is intended to fall at approximately the 75th
percentile of the reinsurance industry for above-average corporate performance.
Industry statistics are generally derived from an independent survey of 33
public and private property and casualty reinsurance companies, including three
of the eight companies in the S&P Property-Casualty Insurance Group Index, or
their reinsurance affiliate. This information is further refined to construct a
comparison to the top 15 reinsurers.
At present, the executive compensation program is composed of salary,
annual cash incentive opportunities, long-term cash incentive opportunities and
stock-based awards. As the executive officer's level of responsibility
increases, a greater portion of potential total compensation opportunity is
based on corporate performance and appreciation in stock value and a lesser
portion on individual performance and competitive industry levels, causing
greater potential variability in the individual's absolute compensation from
year to year.
-71-
<PAGE>
Salaries
Salary is viewed as fixed base compensation determined initially by
industry and position comparisons. In addition, salaries are considered in the
context of the Company's internal salary range structure to insure that the
compensation level for each position is determined with regard to other relevant
positions within the Company. For the Chief Executive Officer, annual
adjustments are considered based on the goals and performance of the Company and
prevailing competitive conditions. For other executive officers, individual
performance is also considered.
Annual Incentive Plan
The Company's Annual Incentive Plan provides a yearly cash bonus
opportunity that serves to motivate executive officers to achieve the Company's
operational and strategic goals.
Cash payouts under the Annual Incentive Plan are recommended by management
and determined by the Compensation Committee after the completion of each
calendar year. These payouts are based primarily on corporate performance for
the prior year and an evaluation of each participant's respective contribution
to the performance of the Company. As a participant's responsibilities increase,
the portion of his or her bonus dependent on corporate performance increases.
For the named executive officers, the entire bonus for 1998 was based on
corporate performance.
Commencing in 1998, awards are determined by an evaluation of the
Company's operating return on beginning equity relative to a risk free rate of
return. The Committee may only apply discretion with respect to 10% of the
maximum award.
Long-term Incentive Plan
The Company's Long-term Incentive Plan is designed to provide cash or
stock incentives for superior long-term corporate performance. This program in
particular has been structured to recognize the critical importance and
retention of key management employees and to focus their attention on long-term
goals. Long-term Incentive Plan awards are based solely on corporate
performance.
Commencing with the payout for the 1996-1998 measurement period, the Plan
payout is based on the Company's operating return on beginning equity over a
three-year period compared to a peer group composed of the 14 largest
reinsurance companies and compared to the average risk free rate of return. The
Committee may only apply discretion with respect to 10% of the maximum award.
Stock-based Plans
Stock-based plans are designed to align the interests of executives and
shareholders by providing value to the executive as the stock price increases.
Due to the variability of the stock price, stock options and restricted stock
make a significant portion of executive compensation dependent upon the
Company's overall results and how the Company is perceived by its shareholders
and the marketplace. Options granted to executives are typically granted at 100%
of the market value of the stock on the date of grant. Generally, option awards
become exercisable over a relatively long period, motivating executives to
sustain high corporate performance in order to increase the value of such
options.
For the 1998 option grant an option pool for all officers was established
by the Compensation Committee utilizing guidelines based on general and
reinsurance industry competitive practice and an option valuation. In addition,
the total number of options outstanding relative to shares outstanding was also
considered. Individual awards for executives were determined by the Compensation
Committee by the application of individual guideline amounts (which are based on
level and competitive practice) to the corporate pool.
CEO Compensation
As described, the executive compensation program is designed to link
compensation with the accomplishment of business and corporate objectives and
with return for the shareholders. This was exemplified in the compensation of
the Company's Chief Executive Officer in 1998, Mr. Bornhuetter.
-72-
<PAGE>
As described above, the Company has an employment agreement with Mr.
Bornhuetter. In accordance with such agreement, annual base salary increases are
determined based on a review of his salary in relationship to the performance of
NAC Re and prevailing competitive conditions. Mr. Bornhuetter's annual salary
increase for 1998 was determined in March 1998 to be 3%, consistent with the
Company's merit budget and productivity initiative.
Mr. Bornhuetter's Annual Incentive Plan payment for 1998 was determined by
multiplying the payout percentage determined by the Committee by his target,
resulting in a bonus of $350,400. The specific corporate performance criteria
for determining the bonus level are described under "Annual Incentive Plan,"
above. Mr. Bornhuetter's Long-term Incentive Plan award for the 1996-1998
measurement period was determined by multiplying the payout percentage
determined on the basis of corporate performance by his target, resulting in a
bonus of $494,200. The performance measures utilized for determining this award
level are described under "Long-term Incentive Plan," above. In June 1998, Mr.
Bornhuetter received a stock option grant to purchase 34,000 shares of Common
Stock at the market value on the date of grant as part of the Company's annual
option grants to recognize his contribution to the Company and to further align
his interests with those of the Company's other shareholders.
Compliance with Internal Revenue Code Section 162(m)
Section 162(m) of the Internal Revenue Code, enacted in 1993, generally
disallows a tax deduction to public companies for compensation over $1 million
paid to certain executive officers. Qualifying performance-based compensation
will not be subject to the deduction limit if certain requirements are met. A
portion of the compensation paid by the Company during 1998 to Messrs.
Bornhuetter and Brown was not fully deductible for federal income tax purposes.
Whether all compensation paid in future years is fully deductible will depend
upon the constraints of contractual agreements with the Executive Officers as
well as any determination by the Committee that the need to retain flexibility
with respect to executive compensation is in the best interests of the Company.
By the members of the Compensation Committee:
Stephen Robert (Chairman) C. W. Carson, Jr. Dan Ciampa Daniel J. McNamara
-73-
<PAGE>
Performance Graph
The following graph compares the yearly change in the Company's cumulative
total shareholder return on its Common Stock to such return for the S&P 500
Composite Stock Price Index (the "S&P 500 Index") and a peer group that combines
the S&P Property-Casualty Industry Index (the "P&C Index") and the S&P Multiline
Insurance Stock Price Index. The peer group consists of the following companies:
Allstate Corporation, Chubb Corporation, MBIA Inc., MBIA Investment Corporation,
Loews Corporation, SAFECO Corporation, The St. Paul Companies, American
International Group, CIGNA Corporation, Hartford Financial Services Group Inc.,
Cincinnati Financial Corporation and Progressive Corporation-Ohio (the "Peer
Group"). The cumulative total shareholder return on the Company's Common Stock
(including dividends) was 62.6% from year-end 1993 to year-end 1998. This
compares to 193.9% for the S&P 500 Composite Price Index and 189.5% for the Peer
Group.
[GRAPHIC OMITTED]
[The following table was depicted as a line chart in the printed material.]
Market Cap
Total Combined
NAC Re S&P 500 Peer Group
1993(2) $100.00 $100.00 $100.00
1994 $113.14 $101.32 $104.88
1995 $122.23 $139.40 $149.17
1996 $115.80 $171.42 $185.66
1997 $167.84 $228.61 $275.99
1998 $162.58 $293.94 $289.51
(1) Stock price appreciation plus dividends.
(2) Assumes shareholder invests $100 on December 31, 1993.
-74-
<PAGE>
Item 12. Security Ownership of Certain Beneficial Owners and Management
(a) Security ownership of certain beneficial owners
The following table presents, to the knowledge of the Company, information
as to all beneficial owners of 5% or more of the outstanding shares of Common
Stock as of March 17, 1999, except for Robert A. Belfer, whose ownership is set
forth under Item 12(b) below.
<TABLE>
<CAPTION>
Name and Address of Amount and Nature of
Beneficial Owner Beneficial Ownership(1) Percent of Class
<S> <C> <C>
The Prudential Insurance Company of America 1,300,700(2) 7.1%
751 Broad Street
Newark, NJ 07102-3777
Wellington Management Company, LLP 1,269,868(3) 6.9%
75 State Street
Boston, MA 02109
The Equitable Companies Incorporated 1,145,342(4) 6.2%
1290 Avenue of the Americas
New York, NY 10104
Lazard Freres & Co. LLC 981,411(5) 5.3%
30 Rockefeller Plaza
New York, NY 10020
</TABLE>
(1) Based on information contained in the most recent Schedule 13G or Schedule
13D filed by the beneficial owner under the Securities Exchange Act of
1934.
(2) The Prudential Insurance Company of America ("Prudential") has sole voting
and dispositive power with respect to 1,054,200 of such shares which are
held for the benefit of its clients. Prudential has shared voting power
with respect to 178,300 of such shares, and shared power to dispose of
246,500 of such shares.
(3) The shares are held by Wellington Management Company, LLP ("Wellington")
on behalf of investment advisory clients. Wellington has shared voting
power with respect to 1,118,400 of such shares, and shared power to
dispose with respect to 1,241,168 of such shares.
(4) 600,000 shares are held by The Equitable Life Assurance Society of the
United States ("Equitable"); Equitable has sole voting power and power to
dispose of such shares. 241,700 shares are held by Alliance Capital
Management, L.P. ("Alliance") on behalf of investment advisory clients.
Alliance has sole voting power with respect to 125,600 of such shares,
shared voting power with respect to 100,000 of such shares and sole power
to dispose of all of such shares. 29,733 shares are held by Donaldson,
Lufkin & Jenrette Securities Corporation ("DLJ") for investment purposes;
DLJ has no voting power and shared power to dispose 25,183 of such shares.
273,909 shares are held by Wood, Struthers & Winthrop Management Corp.
("Wood, Struthers") on behalf of investment advisory clients. Wood,
Strothers has sole power to vote 223,440 of such shares, shared voting
power with respect to 25,150 of such shares, and sole power to dispose
273,609 of such shares.
(5) Lazard Freres & Co. LLC ("Lazard Freres") has sole voting power with
respect to 802,307 of such shares, and sole power to dispose all of such
shares.
(b) Security ownership of management.
-75-
<PAGE>
The following table identifies the number of shares of Common Stock
beneficially owned at March 17, 1999 by each director, each named executive
officer and all directors and executive officers as a group. Except as otherwise
indicated, each person has sole voting and investment powers with respect to
shares shown.
Amount and Nature of Percent of
Name of Beneficial Owner Beneficial Ownership Class
------------------------ -------------------- -----
Robert A. Belfer 1,013,816(1)(2) 5.5%
John P. Birkelund 55,175(3) *
Ronald L. Bornhuetter 493,804(4) 2.7%
Nicholas M. Brown, Jr. 117,278(5) *
C. W. Carson, Jr. 23,254(3) *
Dan Ciampa 14,254(6) *
Todd G. Cole 34,504(1) *
Michael G. Fitt 19,754(7) *
Daniel J. McNamara 33,754(8) *
Stephen Robert 44,734(1) *
Herbert S. Winokur, Jr. 38,254(9) *
Martha G. Bannerman 88,360(10) *
Stanley J. Kott 64,483(11) *
C. Fred Madsen 57,829(12) *
All directors and executive officers
of NAC Re as a group (16 persons) 2,141,391(13) 12%
* Less than 1%.
(1) Includes 31,500 shares issuable pursuant to options exercisable under the
Directors' Stock Option Plan and 242 shares of restricted stock issued
pursuant to the 1997 Stock Retainer Plan for Nonemployee Directors (with
respect to which shares there is no right to dispose prior to March 30,
1999).
(2) Includes 91,925 shares held in family trusts with respect to which Mr.
Belfer and/or his wife or son are trustees, and 154,992 shares owned by
his wife. Mr. Belfer disclaims beneficial ownership of such shares. Also
includes 18,500 shares held by a foundation of which Mr. Belfer is an
officer. Mr. Belfer has shared voting and investment power with respect to
such shares. Also includes 123,492 shares held by Mr. Belfer for his wife
in trust and 2,000 shares held by Mr. Belfer for his son. Mr. Belfer has
sole voting and investment power with respect to such shares. Mr. Belfer's
address is 767 Fifth Avenue, 46th Floor, New York, NY 10153.
(3) Includes 20,250 shares issuable pursuant to options exercisable under the
Directors' Stock Option Plan and 242 shares of restricted stock issued
pursuant to the 1997 Stock Retainer Plan for Nonemployee Directors (with
respect to which shares there is no right to dispose prior to March 30,
1999).
(4) Includes 14,667 shares allocated to Mr. Bornhuetter's Employee Savings
Plan account and 391,500 shares issuable pursuant to exercisable options.
Includes 1,775 shares owned by Mr. Bornhuetter's spouse, as to which he
disclaims beneficial ownership.
-76-
<PAGE>
(5) Includes 3,000 shares of restricted stock and 90,000 shares issuable
pursuant to exercisable options.
(6) Includes 13,500 shares issuable pursuant to options exercisable under the
Director's Stock Option Plan and 242 shares of restricted stock issued
pursuant to the 1997 Stock Retainer Plan for Nonemployee Directors (with
respect to which shares there is no right to dispose prior to March 30,
1999).
(7) Includes 18,000 shares issuable pursuant to options exercisable under the
Directors' Stock Option Plan and 242 shares of restricted stock issued
pursuant to the 1997 Stock Retainer Plan for Nonemployee Directors (with
respect to which shares there is no right to dispose prior to March 30,
1999).
(8) Includes 27,000 shares issuable pursuant to options exercisable under the
Directors' Stock Option Plan and 242 shares of restricted stock issued
pursuant to the 1997 Stock Retainer Plan for Nonemployee Directors (with
respect to which shares there is no right to dispose prior to March 30,
1999).
(9) Includes 27,250 shares issuable pursuant to options exercisable under the
Directors' Stock Option Plan and 242 shares of restricted stock issued
pursuant to the 1997 Stock Retainer Plan for Nonemployee Directors (with
respect to which shares there is no right to dispose prior to March 30,
1999).
(10) Includes 5,600 shares of restricted stock, 59,630 shares issuable pursuant
to exercisable options, and 450 shares held jointly with a family member
as to which Ms. Bannerman disclaims beneficial ownership.
(11) Includes 5,586 shares allocated to Mr. Kott's Employee Savings Plan
Account, 5,600 shares of restricted stock, and 45,815 shares issuable
pursuant to exercisable options.
(12) Includes 7,698 shares allocated to Mr. Madsen's Employee Savings Plan
Account, 5,600 shares of restricted stock, and 37,950 shares issuable
pursuant to exercisable options.
(13) Includes 36,305 shares allocated to Employee Savings Plan accounts, 22,900
shares of restricted stock, 864,235 shares issuable pursuant to
exercisable options, and 249,142 shares as to which such individuals
disclaim beneficial ownership.
Item 13. Certain Relationships and Related Transactions
John P. Birkelund, a Director of the Company, was Chairman of SBC Warburg
Dillon Read Inc. during 1998, which firm performed investment banking services
for the Company in 1998 and 1999. See Compensation Committee Interlocks and
Insider Participation with respect to Stephen Robert.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
Financial Statements and Schedules
The Financial Statements and schedules listed in the accompanying Index to
Financial Statements and Schedules on page F-1 are filed as part of this report.
-77-
<PAGE>
Exhibits
The exhibits listed on the Index to Exhibits set forth below are filed as
part of this report.
Exhibit No.
- -----------
(3) -- Articles of incorporation and bylaws:
3.1 -- Restated Certificate of Incorporation of NAC Re
incorporated herein by reference to Exhibit 3.1 to the
Annual Report on Form 10-K of NAC Re for the year ended
December 31, 1990
3.2 -- Bylaws of NAC Re as amended through June 9, 1988
incorporated herein by reference to Exhibit 3.2 to the
Annual Report on Form 10-K of NAC Re for the year ended
December 31, 1988 (the "1988 10-K")
(4) -- Instruments defining rights of security holders,
including indentures:
4.1 -- Rights Agreement dated as of June 18, 1998 by and between
NAC Re Corporation and American Stock Transfer and Trust
Company incorporated herein by reference to Exhibit 1 to
the Registration Statement on Form 8-A filed on June 19,
1998
4.2 -- First Amendment to Rights Agreement, dated February 16,
1999, by and between NAC Re Corp. and American Stock
Transfer & Trust Co. incorporated herein by reference to
Exhibit 2.1 to the Amendment to a Registration Statement
on Form 8-A filed February 19, 1999.
(10) -- Material contracts:
10.1 -- Lease of NAC Re's corporate and administrative offices in
Greenwich, CT incorporated herein by reference to Exhibit
10.11 to the Annual Report on Form 10-K for the year
ended December 31, 1985
10.2 -- Form of Sublease between NAC Re and NAC incorporated
herein by reference to Exhibit 10.16 to the Joint Proxy
Statement/Prospectus on Form S-4 (No. 33-8836) of NAC Re
and KCC
*10.3 -- Amended 1985 Stock Option Plan of NAC Re incorporated
herein by reference to Exhibit 10.6 to the Registration
Statement on Form S-1 (No. 2-99952)
*10.4 -- 1986 Incentive and Non-qualified Stock Option Plan of NAC
Re incorporated herein by reference to Exhibit 10.12 to
the Registration Statement on Form S-1 (No. 33-5198)
*10.5 -- NAC Re Corp. 1989 Stock Option Plan incorporated herein
by reference to Exhibit 4.2 to the Registration Statement
on Form S-8 (No. 33-27745)
*10.6 -- NAC Re Corp. 1993 Stock Option Plan incorporated herein
by reference to Exhibit A to the definitive Proxy
Statement filed with the Securities and Exchange
Commission on March 26, 1993 ("1993 Proxy Statement")
*10.7 -- Amended and Restated NAC Re Corp. Directors' Stock Option
Plan incorporated herein by reference to Exhibit B to the
1993 Proxy Statement
*10.8 -- Amended and Restated NAC Re Corp. Benefits Equalization
Plan incorporated herein by reference to Exhibit 10.8 to
the Annual Report on Form 10-K for the year ended
December 31, 1993 (the "1993 10-K")
*10.9 -- Amended and Restated NAC Re Corp. Excess Benefit Savings
Plan incorporated herein by reference to Exhibit 10.9 to
the 1993 10-K
*10.10 -- Form of Severance Contract between NAC Re Corp. and the
executive officers of NAC Re incorporated herein by
reference to Exhibit 10.23 to the 1988 10-K
*10.11 -- NAC Re Corp. Amended and Restated Annual Incentive Plan
incorporated herein by reference to Exhibit 10.17 to the
Annual Report on Form 10-K of NAC Re for the year ended
December 31, 1991 (the "1991 10-K")
*10.12 -- NAC Re Corp. Long-term Incentive Plan incorporated herein
by reference to Exhibit 10.12 to the Annual Report on
Form 10-K of NAC Re for the year ended December 31, 1994
(the "1994 10-K")
*10.13 -- Employment contract with Ronald L. Bornhuetter dated as
of March 4, 1992 incorporated herein by reference to
Exhibit 10.19 to the 1991 10-K
*10.14 -- Trust Agreement, dated as of July 1, 1989, between NAC Re
and Marine Midland Bank, N.A. relating to supplemental
pension benefits for Ronald L. Bornhuetter incorporated
herein by reference to Exhibit 10.22 to the Annual Report
on Form 10-K of NAC Re for the year ended December 31,
1989 (the "1989 10-K")
*10.15 -- NAC Re Corp. Directors' Deferred Compensation Agreement
incorporated herein by reference to Exhibit 10.20 to the
1989 10-K
-78-
<PAGE>
*10.16 -- Consulting Agreement with Michael G. Fitt effective as of
March 1, 1995 incorporated herein by reference to Exhibit
10.17 to the 1994 10-K
*10.17 -- Employment contract with Ronald L. Bornhuetter dated as
of October 30, 1996 incorporated herein by reference to
Exhibit 10.17 to the Annual Report on Form 10-K for year
ended December 31, 1996 (the "1996 10-K")
*10.18 -- Employment contract with Nicholas M. Brown, Jr., dated as
of October 30, 1996 incorporated herein by reference to
Exhibit 10.18 to the 1996 10-K
*10.19 -- Form of Employment contract with Executive Vice
Presidents dated as of October 30, 1996 incorporated
herein by reference to Exhibit 10.19 to the 1996 10-K
*10.20 -- 1997 Incentive and Capital Accumulation Plan incorporated
herein by reference to Exhibit A to the definitive Proxy
Statement filed with The Securities and Exchange
Commission on March 26, 1997
*10.21 -- 1997 Stock Retainer Plan For Nonemployee Directors
incorporated herein by reference to Exhibit 10.21 to the
Annual Report on Form 10-K for the year ended December
31, 1997
*10.22 -- Employment Contract with Nicholas M. Brown, Jr. dated as
of June 30, 1998, incorporated herein by reference to NAC
Re's quarterly report on Form 10Q for June 30, 1998
(11) -- Statement regarding computation of per share earnings
incorporated herein by reference to Note 12 of the Notes
to the Consolidated Financial Statements contained herein
(12) -- Statement regarding computation of ratios
(21) -- Subsidiaries of the registrant
(23) -- Consents of experts and counsel
(24) -- Powers of attorney
(27) -- Financial Data Schedule fiscal year end 1998
- ----------
* Executive Compensation Plans or Arrangements
Reports on Form 8-K
There were no reports on Form 8-K filed with the Securities and Exchange
Commission during the fourth quarter of 1998.
Executive Compensation Plans or Arrangements
Executive compensation plans or arrangements are indicated by an asterisk
on the Index to Exhibits set forth above.
-79-
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Act
of 1934, the registrant has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
NAC RE CORP.
(Registrant)
By /s/ RICHARD H. MILLER
----------------------------------------
Richard H. Miller
Vice President, Chief Financial
Officer and Treasurer
Dated: March 24, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
RONALD L. BORNHUETTER* Director, Chairman March 24, 1999
- --------------------------
Ronald L. Bornhuetter
NICHOLAS M. BROWN, JR.* Director, President and March 24, 1999
- -------------------------- Chief Executive Officer
Nicholas M. Brown, Jr.
ROBERT A. BELFER* Director March 24, 1999
- --------------------------
Robert A. Belfer
JOHN P. BIRKELUND* Director March 24, 1999
- --------------------------
John P. Birkelund
C. W. CARSON, JR.* Director March 24, 1999
- --------------------------
C. W. Carson, Jr.
DAN CIAMPA* Director March 24, 1999
- --------------------------
Dan Ciampa
TODD G. COLE* Director March 24, 1999
- --------------------------
Todd G. Cole
MICHAEL G. FITT* Director March 24, 1999
- --------------------------
Michael G. Fitt
DANIEL J. McNAMARA* Director March 24, 1999
- --------------------------
Daniel J. McNamara
STEPHEN ROBERT* Director March 24, 1999
- --------------------------
Stephen Robert
HERBERT S. WINOKUR, JR.* Director March 24, 1999
- --------------------------
Herbert S. Winokur, Jr.
Vice President, Chief Financial
/s/ RICHARD H. MILLER Officer and Treasurer March 24, 1999
- --------------------------
Richard H. Miller
- ----------
* By CELIA R. BROWN, his attorney-in-fact and agent, pursuant to a power of
attorney, a copy of which has been filed with the Securities and Exchange
Commission as Exhibit 24 hereto.
By /s/ CELIA R. BROWN
----------------------------------------
Celia R. Brown
Secretary
-80-
<PAGE>
INDEX TO FINANCIAL STATEMENTS AND SCHEDULES
NAC Re Corp. Pages
Report of Independent Auditors on Financial Statements
and Schedules F-2
Consolidated Balance Sheet at December 31, 1998 and 1997 34
Consolidated Statement of Income for the years ended
December 31, 1998, 1997 and 1996 35
Consolidated Statement of Stockholders' Equity for the years
ended December 31, 1998, 1997 and 1996 36
Consolidated Statement of Cash Flows for the years ended
December 1998, 1997, and 1996 37
Notes to Consolidated Financial Statements 38
Schedules
I Summary of Investments Other Than Investments in Related
Parties at December 31, 1998 S-1
III Condensed Financial Information of Registrant S-2 - S-4
V Supplementary Insurance Information for the years ended
December 31, 1998, 1997, and 1996 S-5
VI Reinsurance for the years ended December 31, 1998, 1997 and 1996 S-6
X Supplementary Information Concerning Property-Casualty Insurance
Operations S-7
Schedules other than those listed above are omitted for the
reason that they are not applicable.
- ----------
F - 1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Shareholders of
NAC Re Corporation:
We have audited the accompanying consolidated balance sheet of NAC Re
Corporation and subsidiaries as of December 31, 1998 and 1997 and the related
consolidated statements of income, stockholders' equity and cash flows for each
of the three years in the period ended December 31, 1998. Our audits also
included the financial statement schedules listed in the Index at Item 14. These
financial statements and schedules are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and schedules based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
NAC Re Corporation and subsidiaries at December 31, 1998 and 1997, and the
consolidated results of their operations and cash flows for each of the three
years in the period ended December 31, 1998, in conformity with generally
accepted accounting principles. Also, in our opinion, the related financial
statement schedules, when considered in relation to the basic financial
statements taken as a whole, present fairly in all material respects, the
information set forth therein.
New York, New York ERNST & YOUNG LLP
February 3, 1999
except for Note 15, as to which the date is
February 15, 1999
F - 2
<PAGE>
SCHEDULE I
NAC RE CORP. AND SUBSIDIARIES
OTHER THAN INVESTMENTS IN RELATED PARTIES
SUMMARY OF INVESTMENTS
(In Thousands)
<TABLE>
<CAPTION>
December 31, 1998
----------------------------------------
Amount at
which
Amortized Market shown in the
Cost Value Balance Sheet
---------- ---------- -------------
<S> <C> <C> <C>
Type of Investment:
FIXED MATURITY SECURITIES
United States Government $ 20,775 $ 21,755 $ 21,755
Foreign Governments 222,046 233,150 233,150
Mortgage-backed securities 195,562 200,531 200,531
States, municipalities and political subdivisions 1,265,247 1,324,226 1,324,226
Corporate bonds 404,778 410,522 410,522
Subordinated convertibles 284 433 433
---------- ---------- ----------
Total Fixed Maturities 2,108,692 2,190,617 2,190,617
EQUITY SECURITIES 108,276 115,064 115,064
CASH AND SHORT-TERM INVESTMENTS 150,746 150,743 150,743
---------- ---------- ----------
Total Investments $2,367,714 $2,456,424 $2,456,424
========== ========== ==========
</TABLE>
S - 1
<PAGE>
SCHEDULE II
NAC RE CORP. AND SUBSIDIARIES
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
NAC RE CORP.
BALANCE SHEET
(Parent Company)
(In Thousands)
<TABLE>
<CAPTION>
December 31,
--------------------------
1998 1997
----------- -----------
<S> <C> <C>
ASSETS
Fixed maturities $ 46,157 $ 25,283
Short-term investments 4,479 1,657
Cash 1,130 3,186
Accrued investment income 522 353
Deferred expenses 1,189 1,527
Federal income tax recoverable -- --
Investment in wholly-owned subsidiaries 992,310 934,124
Fixed assets 10,207 9,614
Intercompany receivable, net 13,238 8,813
Other assets 4,920 1,037
----------- -----------
Total assets $ 1,074,152 $ 985,594
=========== ===========
LIABILITIES
8% Notes due 1999 $ 100,000 $ 100,000
7.15% Notes due 2005 99,949 99,942
5.25% Convertible Subordinated Debentures due 2002 100,000 100,000
Revolving credit loan 12,924 12,924
Federal income tax payable 3,558 9,318
Interest payable 1,582 1,587
Dividend payable 1,652 1,372
Accrued expenses and other liabilities 3,762 3,390
----------- -----------
Total liabilities 323,427 328,533
----------- -----------
STOCKHOLDERS' EQUITY
Preferred stock, $1.00 par value:
1,000 shares authorized, none issued (includes 277.5 shares of
Series A Junior Preferred Stock) -- --
Common stock, $.10 par value:
25,000 shares authorized (1998, 21,991; 1997, 21,707 issued) 2,199 2,171
Additional paid-in capital 268,468 255,424
Accumulated other comprehensive income 62,778 60,989
Retained earnings 516,036 426,309
Less treasury stock, at cost (1998, 3,617 shares; 1997, 3,398 shares) (98,756) (87,832)
----------- -----------
Total stockholders' equity 750,725 657,061
----------- -----------
Total liabilities and stockholders' equity $ 1,074,152 $ 985,594
=========== ===========
</TABLE>
S - 2
<PAGE>
SCHEDULE II
NAC RE CORP. AND SUBSIDIARIES
CONDENSED FINANCIAL INFORMATION OR REGISTRANT - (Continued)
NAC RE CORP.
STATEMENT OF INCOME
(Parent Company)
(In Thousands)
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Income
Dividend declared from insurance subsidiary $ 55,875 $ 22,500 $ 38,000
Net investment income 2,438 2,097 2,815
Net investment (losses) gains (31) (14) 87
Rental and other income 3,142 2,312 1,559
-------- -------- --------
61,424 26,895 42,461
-------- -------- --------
Expenses
Interest and amortization expense 21,678 21,697 22,284
Other operating costs and expenses 7,671 4,656 2,672
-------- -------- --------
29,349 26,353 24,956
-------- -------- --------
Income before intercompany tax allocation
and equity in net income of wholly-owned
subsidiaries less dividend declared 32,075 542 17,505
-------- -------- --------
Current intercompany tax credit 4,969 7,702 6,778
Deferred tax benefit 3,516 190 424
-------- -------- --------
Total tax credit, net 8,485 7,892 7,202
-------- -------- --------
Income before equity in net income of
wholly-owned subsidiaries less dividend declared 40,560 8,434 24,707
Equity in net income of wholly-owned
subsidiaries less dividend declared 55,490 87,243 45,813
-------- -------- --------
Net income $ 96,050 $ 95,677 $ 70,520
======== ======== ========
</TABLE>
S - 3
<PAGE>
SCHEDULE II
NAC RE CORP. AND SUBSIDIARIES
CONDENSED FINANCIAL INFORMATION OR REGISTRANT - (Continued)
NAC RE CORP.
STATEMENT OF CASH FLOWS
(Parent Company)
(In Thousands)
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Operating Activities
Net income $ 96,050 $ 95,677 $ 70,520
Less equity in net income of subsidiaries, less cash
dividend ($55,875 in 1998, $22,500 in 1997, $38,000 in 1996) 55,490 87,243 45,813
-------- -------- --------
40,560 8,434 24,707
Adjustments to reconcile net income to net cash
provided by operating activities (9,253) 3,328 2,482
-------- -------- --------
Net cash provided by operating activities 31,307 11,762 27,189
-------- -------- --------
Investing Activities
Sales of fixed maturity investments 19,450 10,489 8,844
Maturities of fixed maturity investments 138 3,000 7,000
Purchases of fixed maturity investments (40,634) (8,435) (12,425)
Net (purchases) sales of short-term investments (2,822) 3,720 9,553
Purchases of furniture and equipment (4,714) (4,164) (4,648)
-------- -------- --------
Net cash (used) provided by investing activities (28,582) 4,610 8,324
-------- -------- --------
Financing Activities
Issuance of shares 12,186 5,864 1,951
Purchase of treasury shares, net of reissuance (10,924) (14,348) (30,886)
Cash dividends paid to stockholders (6,043) (4,968) (4,163)
Borrowings under revolving credit agreement -- -- 8,162
Repayments under revolving credit agreement -- -- (13,000)
-------- -------- --------
Net cash (used) provided by financing activities (4,781) (13,452) (37,936)
-------- -------- --------
(Decrease) increase in cash (2,056) 2,920 (2,423)
Cash - beginning of year 3,186 266 2,689
-------- -------- --------
Cash - end of year $ 1,130 $ 3,186 $ 266
======== ======== ========
</TABLE>
S - 4
<PAGE>
SCHEDULE III
NAC RE CORP. AND SUBSIDIARIES
SUPPLEMENTARY INSURANCE INFORMATION
(In Thousands)
<TABLE>
<CAPTION>
Future Benefits, Amortization
Deferred policy benefits, claims, of deferred
policy losses, claims Net losses and policy
acquisition and claims Unearned Premium investment settlement acquisition
costs expenses premiums revenue income expenses costs
--------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
December 31, 1998
Domestic:
Property/Casualty $ 92,692 $ 1,601,234 $ 313,863 $ 479,881 $ 114,187 $ 313,976 $ 129,308
Accident and Health -- 4,726 3,086 3,689 1,563 1,787 --
--------------------------------------------------------------------------------------------------------
Subtotal 92,692 1,605,960 316,949 483,570 115,750 315,763 129,308
International:
Property/Casualty 6,182 127,169 25,631 49,276 15,709 36,125 8,688
Intercompany elimination -- (14,892) (1,137) -- -- -- --
--------------------------------------------------------------------------------------------------------
Total $ 98,874 $ 1,718,237 $ 341,443 $ 532,846 $ 131,459 $ 351,888 $ 137,996
========================================================================================================
December 31, 1997
Domestic:
Property/Casualty $ 89,072 1,513,416 285,217 525,017 109,545 $ 346,005 $ 140,862
Accident and Health -- (462) (219) (1,386) (458) (1,697) --
--------------------------------------------------------------------------------------------------------
Subtotal 89,072 1,512,954 284,998 523,631 109,087 344,308 140,862
International:
Property/Casualty 3,637 98,692 17,461 51,016 13,963 35,187 10,290
Intercompany elimination -- (7,674) (748) -- -- -- --
--------------------------------------------------------------------------------------------------------
Total $ 92,709 $ 1,603,972 $ 301,711 $ 574,647 $ 123,050 $ 379,495 $ 151,152
========================================================================================================
December 31, 1996
Domestic:
Property/Casualty $ 82,369 $ 1,434,429 $ 255,514 $ 474,025 $ 93,062 $ 303,485 $ 133,423
Accident and Health -- 2,764 775 1,987 144 (950) --
--------------------------------------------------------------------------------------------------------
Subtotal 82,369 1,437,193 256,289 476,012 93,206 302,535 133,423
International:
Property/Casualty 2,842 80,531 15,609 50,330 11,124 36,418 9,901
--------------------------------------------------------------------------------------------------------
Intercompany elimination -- (4,379) -- -- -- -- --
--------------------------------------------------------------------------------------------------------
Total $ 85,211 $ 1,513,345 $ 271,898 $ 526,342 $ 104,330 $ 338,953 $ 143,324
========================================================================================================
<CAPTION>
Other
operating Premiums
expenses written
--------------------------
<S> <C> <C>
December 31, 1998
Domestic:
Property/Casualty $ 79,864 $ 490,158
Accident and Health 1,093 6,710
--------------------------
Subtotal 80,957 496,868
International:
Property/Casualty 10,656 56,798
Intercompany elimination -- --
--------------------------
Total $ 91,613 $ 553,666
==========================
December 31, 1997
Domestic:
Property/Casualty $ 77,932 $ 543,633
Accident and Health (326) (2,271)
--------------------------
Subtotal 77,606 541,362
International:
Property/Casualty 9,289 52,294
Intercompany elimination -- --
--------------------------
Total $ 86,895 $ 593,656
==========================
December 31, 1996
Domestic:
Property/Casualty $ 71,231 $ 521,072
Accident and Health 110 804
--------------------------
Subtotal 71,341 521,876
International:
Property/Casualty 7,587 52,128
--------------------------
Intercompany elimination -- --
--------------------------
Total $ 78,928 $ 574,004
==========================
</TABLE>
S - 5
<PAGE>
SCHEDULE IV
NAC RE CORP. AND SUBSIDIARIES
REINSURANCE
(In Thousands)
<TABLE>
<CAPTION>
Percentage
Ceded Assumed of amount
Gross to other from other Net assumed
Amount companies companies amount to net
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
December 31, 1998
Premiums Written:
Property/casualty $ 154,376 $ 149,910 $ 542,489 $ 546,955 99%
Accident and health 167 1,115 7,659 6,711 114
--------- --------- --------- --------- ---------
Total $ 154,543 $ 151,025 $ 550,148 $ 553,666 99%
========= ========= ========= ========= =========
December 31, 1997
Premiums Written:
Property/casualty $ 120,509 $ 130,645 $ 606,063 $ 595,927 102%
Accident and health (26) (433) (2,678) (2,271) 118
--------- --------- --------- --------- ---------
Total $ 120,483 $ 130,212 $ 603,385 $ 593,656 102%
========= ========= ========= ========= =========
December 31, 1996
Premiums Written:
Property/casualty $ 72,749 $ 139,928 $ 640,379 $ 573,200 112%
Accident and health 61 148 891 804 111
--------- --------- --------- --------- ---------
Total $ 72,810 $ 140,076 $ 641,270 $ 574,004 112%
========= ========= ========= ========= =========
</TABLE>
S - 6
<PAGE>
SCHEDULE VI
NAC RE CORP. AND SUBSIDIARIES
SUPPLEMENTARY INFORMATION CONCERNING
PROPERTY/CASUALTY INSURANCE OPERATIONS
(In Thousands)
<TABLE>
<CAPTION>
Claims and Claims
Expenses incurred
Related to (2)
------------------
Deferred Reserve for
Affiliation Policy Unpaid Claims Discount Net
with Acquisition and Claims if any, Unearned Earned Investment Current Prior
Registrant Costs Expenses Deducted(1) Premiums Premiums Income Year Years
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Consolidated Subsidiaries
December 31, 1998 $98,874 $1,718,237 $40,633 $341,443 $532,846 $131,459 $389,951 ($38,063)
December 31, 1997 92,709 1,603,972 26,290 301,711 574,647 120,953 418,091 (38,596)
December 31, 1996 85,211 1,513,345 20,766 271,898 526,342 101,515 372,294 (33,341)
<CAPTION>
Amortization
of Deferred
Affiliation Policy Paid Claims
with Acquisition and Claims Premiums
Registrant Costs Expenses Written
- ----------------------------------------------------------------------
<S> <C> <C> <C>
Consolidated Subsidiaries
December 31, 1998 $137,996 $333,761 $553,666
December 31, 1997 151,152 78,918 593,656
December 31, 1996 143,324 190,424 574,004
</TABLE>
- ----------
(1) Relates to certain workers' compensation case reserves which are
discounted for statutory accounting purposes utilizing a 5% interest rate,
and a 7% interest rate for GAAP
(2) Amounts are net of discount related to certain workers' compensation case
reserves.
S - 7
NAC RE CORP. AND SUBSIDIARIES
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
(Dollars in Thousands)
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------------------
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Earnings:
Operating income before income taxes $117,882 $122,830 $ 89,036 $ 78,821 $ 42,290
-------- -------- -------- -------- --------
Add back fixed charges:
Interest expense 21,371 21,390 21,976 15,381 14,196
Amortization of related debt expenses 345 345 346 267 258
Assumed interest component of rent expenses 1,622 1,551 1,311 1,235 1,099
-------- -------- -------- -------- --------
Total fixed charges 23,338 23,286 23,633 16,883 15,553
-------- -------- -------- -------- --------
Adjusted earnings $141,220 $146,116 $112,669 $ 95,704 $ 57,843
======== ======== ======== ======== ========
Ratio of earnings to fixed charges 6.1 to 1 6.3 to 1 4.8 to 1 5.7 to 1 3.7 to 1
======== ======== ======== ======== ========
</TABLE>
SUBSIDIARIES OF NAC Re CORP.
Jurisdiction
Name of Incorporation
- ---- ----------------
NAC Reinsurance Corporation New York
o Greenwich Insurance Company California
o Indian Harbor Insurance Company North Dakota
o NAC Re International Holdings Limited United Kingdom
oo NAC Re International Services
Company Limited United Kingdom
oo NAC Reinsurance International Limited United Kingdom
oo Stonebridge Underwriting, Ltd. United Kingdom
oo Denham Syndicate Management Limited United Kingdom
NAC Re Investment Holdings, Inc. Delaware
NAC Re Financial Services, Inc. Delaware
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any one of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Ronald L. Bornhuetter
-----------------------------------------
Ronald L. Bornhuetter
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Martha G. Bannerman and Celia R. Brown and each and any one of
them, his true and lawful attorney-in-fact and agent, for him and in his name,
place and stead, to sign the name of the undersigned in the Report of NAC Re
Corp. on Form 10-K for 1998 and any and all amendments thereto, and to file the
same, with all exhibits thereto, and other documents in connection therewith,
with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to do
and perform each and every act and thing requisite and necessary to be done in
connection therewith, as fully to all intents and purposes as he might or could
do in person, hereby ratifying and confirming all that said attorneys-in-fact
and agents, or any one of them, may do or cause to be done by virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Nicholas M. Brown, Jr.
-----------------------------------------
Nicholas M. Brown, Jr.
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr. Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Robert A. Belfer
-----------------------------------------
Robert A. Belfer
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any one of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ John P. Birkelund
-----------------------------------------
John P. Birkelund
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any one of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ C. W. Carson, Jr.
-----------------------------------------
C. W. Carson, Jr.
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any one of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Dan Ciampa
-----------------------------------------
Dan Ciampa
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any one of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Todd G. Cole
-----------------------------------------
Todd G. Cole
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman, and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Michael G. Fitt
-----------------------------------------
Michael G. Fitt
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any one of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Daniel J. McNamara
-----------------------------------------
Daniel J. McNamara
Director
Dated: March 10, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any one of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Stephen Robert
-----------------------------------------
Stephen Robert
Director
Dated: March 22, 1999
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned hereby constitutes
and appoints Nicholas M. Brown, Jr., Martha G. Bannerman and Celia R. Brown and
each and any one of them, his true and lawful attorney-in-fact and agent, for
him and in his name, place and stead, to sign the name of the undersigned in the
Report of NAC Re Corp. on Form 10-K for 1998 and any and all amendments thereto,
and to file the same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in connection therewith, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or any one of them, may do or cause to be done by
virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereto set his hand.
/s/ Herbert W. Winokur, Jr.
-----------------------------------------
Herbert S. Winokur, Jr.
Director
Dated: March 10, 1999
EXHIBIT 23
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statements
(Form S-8 No. 33-25585, Form S-8 No. 33-77494 and Form S-8 No. 333-33873)
pertaining to the NAC Re Corp. Employee Stock Purchase Plan, in the Registration
Statement (Form S-8 No. 33-27745) pertaining to the NAC Re Corp. 1989 Stock
Option Plan, in the Registration Statement (Form S-8 No. 7813) pertaining to the
NAC Re Corp. 1985 and 1986 Stock Option Plans, in the Registration Statements
(Form S-8 No. 33-22841 and Form S-8 No. 333-03935) pertaining to the NAC Re
Corp. Employee Savings Plan, in the Registration Statement (Form S-8 No.
33-34516) pertaining to the NAC Re Corp. Director's Stock Option Plan, in the
Registration Statement (Form S-8 No. 33-77492) pertaining to the NAC Re Corp.
Director's Stock Option Plan, in the Registration Statement (Form S-8 No.
33-77114) pertaining to the NAC Re Corp. 1993 Stock Option Plan, and in the
Registration Statement (Form S-8 No. 333-33875) pertaining to the NAC Re Corp.
1997 Incentive and Capital Accumulation Plan of our report dated February 3,
1999, except for Note 15, as to which the date is February 15, 1999, with
respect to the consolidated financial statements and schedules of NAC Re
Corporation and subsidiaries included and/or incorporated by reference in the
Annual Report (Form 10-K) for the year ended December 31, 1998.
New York, New York ERNST & YOUNG LLP
March 24, 1999
<TABLE> <S> <C>
<ARTICLE> 7
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<DEBT-HELD-FOR-SALE> 2,190,617
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 115,064
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 2,452,509
<CASH> 3,915
<RECOVER-REINSURE> 20,168
<DEFERRED-ACQUISITION> 98,874
<TOTAL-ASSETS> 3,227,632
<POLICY-LOSSES> 1,718,237
<UNEARNED-PREMIUMS> 341,443
<POLICY-OTHER> 12,918
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 299,949
0
0
<COMMON> 2,199
<OTHER-SE> 748,526
<TOTAL-LIABILITY-AND-EQUITY> 3,227,632
532,846
<INVESTMENT-INCOME> 131,459
<INVESTMENT-GAINS> 35,074
<OTHER-INCOME> 0
<BENEFITS> 351,888
<UNDERWRITING-AMORTIZATION> 207,893
<UNDERWRITING-OTHER> 21,716
<INCOME-PRETAX> 117,882
<INCOME-TAX> 21,832
<INCOME-CONTINUING> 96,050
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 96,050
<EPS-PRIMARY> 5.25
<EPS-DILUTED> 4.78
<RESERVE-OPEN> 1,603,972
<PROVISION-CURRENT> 389,951
<PROVISION-PRIOR> (38,063)
<PAYMENTS-CURRENT> 80,732
<PAYMENTS-PRIOR> 253,029
<RESERVE-CLOSE> 1,718,237
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
