<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the period ended June 30, 1997
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 1-8993
FUND AMERICAN ENTERPRISES HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 94-2708455
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
80 SOUTH MAIN STREET, HANOVER, NEW HAMPSHIRE 03755-2053
(Address of principal executive offices including zip code)
(603) 643-1567
(Registrant's telephone number, including area code)
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 ___
As of August 5, 1997, 6,388,027 shares of Common Stock with a par value of $1.00
per share were outstanding.
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FUND AMERICAN ENTERPRISES HOLDINGS, INC.
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
<TABLE>
PAGE NO.
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<S> <C>
ITEM 1. FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets, June 30, 1997 (Unaudited),
and December 31, 1996 2
Condensed Consolidated Income Statements (Unaudited),
Three Months and Six Months Ended June 30, 1997 and 1996 3
Condensed Consolidated Statements of Cash Flows (Unaudited),
Six Months Ended June 30, 1997 and 1996 4
Notes to Condensed Consolidated Financial Statements (Unaudited) 5
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 6
PART II. OTHER INFORMATION
ITEM 1 THROUGH 6 11
SIGNATURES 12
</TABLE>
1
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FUND AMERICAN ENTERPRISES HOLDINGS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------
June 30, December 31,
1997 1996
- -----------------------------------------------------------------------------------------------
(Unaudited)
<S> <C> <C>
Assets
Common equity securities, at fair value (cost: $95.2 and $101.1) $ 156.1 $ 160.8
Fixed maturity investments, at fair value (cost: $151.1 and $154.5) 151.7 155.4
Other investments (cost: $102.6 and $119.7) 179.7 176.5
Short-term investments, at amortized cost (which approximated
market value) 44.5 67.5
--------------------------
Total investments 532.0 560.2
Cash 3.1 4.8
Capitalized mortgage servicing rights, net of accumulated
amortization 159.6 410.9
Mortgage loans held for sale 201.2 314.9
Other mortgage origination and servicing assets 215.1 183.0
Receivable from sale of mortgage servicing 45.0 -
Insurance premiums receivable 54.9 52.2
Reinsurance recoverable on paid and unpaid losses 39.6 40.0
Investments in unconsolidated insurance affiliates 270.7 226.9
Other assets 170.9 187.7
--------------------------
Total Assets $ 1,692.1 $ 1,980.6
- -----------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------
Liabilities
Short-term debt $ 242.2 $ 407.9
Long-term debt 305.1 424.2
Unearned insurance premiums 75.5 72.6
Loss and loss adjustment expense reserves 69.3 65.4
Accounts payable and other liabilities 285.9 279.5
--------------------------
Total liabilities 978.0 1,249.6
- -----------------------------------------------------------------------------------------------
Minority Interest - preferred stock of subsidiary 44.0 44.0
- -----------------------------------------------------------------------------------------------
Shareholders' Equity
Common stock at $1 par value per share - authorized 125,000,000
shares; issued 31,430,607 and 31,940,202 shares 31.4 31.9
Common paid-in surplus 360.7 366.5
Retained earnings 1,018.4 1,067.1
Common stock in treasury, at cost - 25,034,939 shares (871.0) (871.0)
Net unrealized investment gains, after tax 130.6 92.5
--------------------------
Total shareholders' equity 670.1 687.0
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Total Liabilities, Minority Interest and Shareholders' Equity $ 1,692.1 $ 1,980.6
- -----------------------------------------------------------------------------------------------
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</TABLE>
See Notes to Condensed Consolidated Financial Statements.
2
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FUND AMERICAN ENTERPRISES HOLDINGS, INC.
CONDENSED CONSOLIDATED INCOME STATEMENTS
UNAUDITED
(MILLIONS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------
Three Months Ended Six Months Ended
June 30, June 30,
-------------------- ---------------
1997 1996 1997 1996
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Revenues:
Gross mortgage servicing revenue $ 19.0 $ 33.5 $ 48.6 $ 68.1
Amortization and impairment of capitalized mortgage servicing (15.6) (9.8) (24.2) (10.0)
Net gain (loss) on financial instruments 4.4 (1.9) (1.7) (4.9)
------------------------------------------
Net mortgage servicing revenue 7.8 21.8 22.7 53.2
Net gain on sales of mortgages 1.4 11.4 9.3 24.5
Loss on sale of mortgage servicing (1.1) - (4.3) -
Other mortgage operations revenue 4.7 4.6 9.0 9.5
Earned property and casualty insurance premiums 35.8 25.8 71.3 45.3
Earnings from unconsolidated insurance affiliates 4.6 1.7 9.8 3.0
Other insurance operations revenue 2.0 2.0 4.5 5.3
Net investment income 15.1 14.8 29.7 29.0
------------------------------------------
Total revenues 70.3 82.1 152.0 169.8
- ----------------------------------------------------------------------------------------------------------
Expenses:
Compensation and benefits 24.9 25.5 50.4 47.9
Losses and loss adjustment expenses 24.1 17.3 48.3 30.5
General expenses 21.9 20.6 42.6 40.5
Interest expense 11.8 12.9 23.4 27.0
------------------------------------------
Total expenses 82.7 76.3 164.7 145.9
- ----------------------------------------------------------------------------------------------------------
Pretax operating earnings (loss) (12.4) 5.8 (12.7) 23.9
Net realized investment gains 16.2 1.3 25.8 29.7
------------------------------------------
Pretax earnings 3.8 7.1 13.1 53.6
Income tax provision 3.2 3.6 7.6 21.3
------------------------------------------
After tax earnings .6 3.5 5.5 32.3
Loss on early extinguishment of debt, after tax (6.0) - (6.0) -
------------------------------------------
- ----------------------------------------------------------------------------------------------------------
Net income (loss) $ (5.4) $ 3.5 $ (.5) $ 32.3
- ----------------------------------------------------------------------------------------------------------
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Earnings per share:
After tax earnings $ .08 $ .42 $ .74 $ 3.87
Net income (loss) (.73) .42 (.06) 3.87
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</TABLE>
See Notes to Condensed Consolidated Financial Statements.
3
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FUND AMERICAN ENTERPRISES HOLDINGS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED
(MILLIONS)
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------
Six Months Ended
June 30,
--------------------
1997 1996
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash flows from operations:
Net income (loss) $ (.5) $ 32.3
Charges (credits) to reconcile net income to cash flows from operations:
Undistributed earnings from unconsolidated insurance affiliates (6.6) (2.7)
Net realized investment gains (25.8) (29.7)
Decrease (increase) in mortgage loans held for sale 113.7 (58.5)
Loss on sale of mortgage servicing 4.3 -
Increase in unearned insurance premiums 2.9 34.1
Increase in insurance premiums receivable (2.7) (10.0)
Increase in deferred insurance policy acquisition costs (.6) (5.7)
Depreciation and amortization 27.6 14.3
Increase in receivable from sale of servicing 45.0 -
Net unrealized loss on interest rate contracts 1.3 4.9
Changes in current income taxes receivable and payable 4.3 (1.0)
Deferred income tax expense 1.4 22.7
Other, net 12.4 13.9
--------------------
Net cash flows provided from operating activities 176.7 14.6
- ----------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Net decrease in short-term investments 23.0 57.3
Sales of common equity securities and other investments 40.5 192.9
Sales and maturities of fixed maturity investments 44.1 24.8
Purchases of common equity securities and other investments (23.5) (55.2)
Purchases of fixed maturity investments (41.2) (78.6)
Acquisition of consolidated affiliate - (13.2)
Investments in unconsolidated insurance affiliates - (107.6)
Net proceeds from sales of mortgage servicing rights 226.5 -
Collections on and sales of other mortgage origination and servicing assets 182.5 96.5
Additions to other mortgage origination and servicing assets (218.5) (102.2)
Additions to capitalized mortgage servicing rights (61.1) (47.1)
Net purchases of fixed assets (.3) (2.9)
--------------------
Net cash flows provided from (used for) investing activities 172.0 (35.3)
- ----------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
(Repayments) issuances of short-term debt, net (166.0) 61.8
Repayments of long-term debt (129.9) (25.2)
Purchases of common stock retired (51.8) (12.8)
Dividends paid to common shareholders (2.7) (3.1)
Other - (.9)
--------------------
Net cash (used for) provided from financing activities (350.4) 19.8
--------------------
Net decrease in cash during period (1.7) (.9)
Cash balance at beginning of period 4.8 2.7
--------------------
Cash balance at end of period $ 3.1 $ 1.8
- ----------------------------------------------------------------------------------------------------------------------
Supplemental cash flows information:
Interest paid $ (25.6) $ (26.2)
Net income tax (payments) receipts $ (7.3) $ .3
- ----------------------------------------------------------------------------------------------------------------------
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</TABLE>
See Notes to Condensed Consolidated Financial Statements.
4
<PAGE>
FUND AMERICAN ENTERPRISES HOLDINGS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
UNAUDITED
NOTE 1. BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements include the
accounts of Fund American Enterprises Holdings, Inc. (the "Company") and its
subsidiaries (collectively, "Fund American"). Fund American's principal
businesses are conducted through White Mountains Holdings, Inc. and its
operating subsidiaries ("White Mountains") and Source One Mortgage Services
Corporation and its subsidiaries ("Source One"). White Mountains is an insurance
holding company principally engaged through its affiliates in the business of
property and casualty insurance. Source One is one of the nation's largest
independent mortgage banking companies.
The financial statements have been prepared in accordance with generally
accepted accounting principles and include all adjustments (consisting of normal
recurring adjustments) considered necessary by management to fairly present the
financial position, results of operations and cash flows of Fund American. These
interim financial statements may not be indicative of financial results for the
full year and should be read in conjunction with the Company's 1996 Annual
Report on Form 10-K. Certain amounts in the prior period financial statements
have been reclassified to conform with the current presentation.
NOTE 2. APPLICATION OF NEW ACCOUNTING STANDARDS
In June 1996, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 125, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishment of Liabilities".
SFAS No. 125 eliminates the distinction between "normal" servicing rights and
excess servicing receivable and changes Fund American's method of measuring the
value of its capitalized excess servicing asset. SFAS No. 125 is effective for
all transfers of financial assets occurring after December 31, 1996. Retroactive
application of SFAS No. 125 is not permitted. The adoption of certain provisions
of SFAS No. 125, which occurred in the 1997 first quarter, did not materially
effect Source One's financial results. The adoption of certain other provisions
of SFAS No. 125 have been deferred to 1998.
In February 1997, the FASB issued SFAS No. 128, "Earnings Per Share". SFAS
No. 128 will serve to simplify the computation of earnings per share and to make
the U.S. standard more compatible with existing international standards. FASB
No. 128 will become effective for all periods ending after December 15, 1997.
Earlier application is not permitted. The adoption of SFAS No. 128 is not
expected to change the method by which the Company currently calculates its
earnings per share but will change the Company's presentation of earnings per
share by eliminating the "primary earnings per share" disclosure (which
considers the effects of common equivalent shares) in favor of a more simplistic
"basic earnings per share" disclosure (which generally considers only common
shares outstanding).
NOTE 3. EARNINGS PER SHARE
Primary earnings per share amounts are based on the weighted average number
of common and dilutive common equivalent shares outstanding of 7,402,225 and
8,320,959 for the three-month periods ended June 30, 1997 and 1996,
respectively, and 7,488,209 and 8,342,831 for the six month periods ended
June 30, 1997 and 1996, respectively. Fully diluted earnings per share
amounts are based on the weighted average number of common shares
outstanding, assuming full dilution, of 7,402,225 and 8,320,974 for the three
month periods ended June 30, 1997 and 1996, respectively, and 7,488,209 and
8,342,859 for the six month periods ended June 30, 1997 and 1996,
respectively.
5
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
RESULTS OF OPERATIONS -- THREE-MONTH AND SIX-
MONTH PERIODS ENDED JUNE 30, 1997 AND 1996
Fund American reported a net loss of $.5 million, or $.06 per share, for the six
month period ended June 30, 1997, compared to net income of $32.3 million, or
$3.87 per share, for the six month period ended June 30, 1996. For the 1997
second quarter Fund American reported a net loss of $5.4 million, or $.73 per
share, versus net income of $3.5 million, or $.42 per share, in 1996. The 1997
results include a $6.0 million after tax extraordinary loss on early
extinguishment of debt recorded in the second quarter by Source One. The 1996
first half results include a $27.5 million pretax, $17.9 million after tax,
recovery of Source One's valuation allowance associated with its capitalized
mortgage loan servicing asset due to an increase in market interest rates.
Book value per common and equivalent share increased to $95.23 at June 30,
1997, an increase of $4.42 from the December 31, 1996 book value per share of
$90.81.
CONSOLIDATED INSURANCE OPERATIONS.
Valley Insurance Companies ("Valley"), a Northwest region property-casualty
company which writes personal and commercial lines, posted a combined ratio of
99.9% for the 1997 first half versus a 98.0% for the comparable 1996 period.
Valley had $38.5 million of earned premium in the 1997 year-to-date period, an
increase of $4.8 million from the comparable1996 amount. The operations of
Charter Insurance Companies ("Charter"), which writes non-standard automobile
insurance in Texas, posted a combined ratio of 95.4% for the 1997 first half
versus 98.8% for the comparable 1996 period. Charter had $31.5 million of earned
premium in the 1997 year-to-date period, an increase of $20.2 million from the
comparable 1996 amount. Premiums for Charter's automobile policies written prior
to 1996 were fully ceded to a former affiliate of Charter. White Mountains
Insurance Company, a newly formed New England region property-casualty company
which writes commercial lines, had $1.2 million of earned premium in the 1997
first half. A summary of White Mountains' consolidated insurance operating
results follows:
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------
Three Months Six Months
Ended June 30, Ended June 30,
-------------------- --------------------
Dollars in millions 1997 1996 1997 1996
- ------------------------------------------------------------------------
<S> <C> <C> <C> <C>
CONSOLIDATED:
Net written premium $ 35.7 $ 42.7 $ 73.8 $ 79.2
Ending statutory surplus $ 88.5 $ 82.8
VALLEY:
Loss and loss adjustment
expense 65.4% 63.4% 63.8% 62.8%
Underwriting expense 33.8% 33.4% 36.1% 35.2%
------------------------------------------
Combined 99.2% 96.8% 99.9% 98.0%
------------------------------------------
------------------------------------------
CHARTER:
Loss and loss adjustment
expense 69.8% 82.8% 71.9% 80.0%
Underwriting expense 26.3% 15.3% 23.5% 18.8%
------------------------------------------
Combined 96.1% 98.1% 95.4% 98.8%
------------------------------------------
------------------------------------------
WHITE MOUNTAINS INSURANCE
COMPANY:
Loss and loss adjustment
expense 77.5% 95.3% 95.3% 92.5%
Underwriting expense 62.1% 43.1% 60.6% 48.0%
------------------------------------------
Combined 139.6% 138.4% 155.9% 140.5%
- ------------------------------------------------------------------------
- ------------------------------------------------------------------------
</TABLE>
UNCONSOLIDATED INSURANCE OPERATIONS.
The Company's unconsolidated insurance affiliates consist of a 25% economic
interest in Financial Security Assurance Holdings Ltd. ("FSA"), a 50% interest
in Folksamerica Holding Company, Inc. ("Folksamerica") and a 33% interest in
Main Street America Holdings, Inc. ("MSA"). Fund American's earnings from these
affiliates increased to $9.8 million for the 1997 first half, from $3.0 million
for the comparable 1996 period. The increase is primarily due to strong
operating results at FSA and MSA
6
<PAGE>
and the inclusion in 1997 of earnings from the Folksamerica investment (which
was acquired in June 1996). The strong operating results at FSA in the 1997
first half were the result of a steady domestic transaction flow as well as
several large, high premium European transactions. FSA's adjusted book value
ended the 1997 first half at $36.95, up $2.42 from $34.53 at December 31, 1996.
Folksamerica's operations performed well despite a continuing highly-competitive
reinsurance market. Folksamerica's June 30, 1997 book value per share increased
to $13.27, an increase of $1.15 from its 1996 year-end value of $12.12 per
share. MSA's underwriting results for the 1997 first half produced a combined
ratio of 103.2%.
MORTGAGE OPERATIONS. A summary of Source One's mortgage loan production and
mortgage servicing portfolio activities follows:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------
Three Months Six Months
Ended June 30, Ended June 30,
-------------------- --------------------
Dollars in millions 1997 1996 1997 1996
- ----------------------------------------------------------------------
<S> <C> <C> <C> <C>
Mortgage loan production:
Retail originations $ 325 $ 505 $ 593 $ 1,100
Wholesale originations 502 602 875 1,212
------------------------------------------
Total $ 827 $ 1,107 $ 1,468 $ 2,312
------------------------------------------
- ----------------------------------------------------------------------
Mortgage loan servicing
portfolio (a):
Beginning balance $ 28,851 $ 31,605 $ 29,201 $ 31,831
Mortgage loan production 827 1,107 1,468 2,312
Regular payoffs (705) (864) (1,296) (1,783)
Other (390) (519) (790) (1,031)
------------------------------------------
Ending balance $ 28,583 $ 31,329 $ 28,583 $ 31,329
- ----------------------------------------------------------------------
- ----------------------------------------------------------------------
</TABLE>
(a) Includes loans subserviced for others ($18,932 million as of June 30,
1997).
The decrease in mortgage loan production and payoffs for the 1997 first half
and second quarter versus the comparable 1996 periods reflects higher market
interest rates and a corresponding decrease in refinancing activity. Additional
information regarding Source One's mortgage loan servicing portfolio is shown
below:
<TABLE>
<CAPTION>
- --------------------------------------------------------------
JUNE 30, Dec. 31,
1997 1996
- --------------------------------------------------------------
<S> <C> <C>
Mortgage loan servicing portfolio
(a):
Number of loans 465,306 478,779
Weighted average interest rate 8.45% 8.48%
Percent delinquent (includes loans
in process of foreclosure) 6.32% 7.17%
- --------------------------------------------------------------
- --------------------------------------------------------------
</TABLE>
(a) Includes loans subserviced for others of $18,932 million and $2,791 million
as of June 30, 1997 and December 31, 1996, respectively.
Source One's gross mortgage servicing revenue decreased to $19.0 million and
$48.6 million for the three and six month periods ended June 30, 1997,
respectively, from $33.5 million and $68.1 million for the comparable 1996
periods. The decrease in gross servicing revenue during the 1997 periods is
primarily the result of Source One's February 28, 1997 sale of servicing with
respect to $17.0 billion of mortgage loans. Source One's net mortgage servicing
revenue decreased to $7.8 million and $22.7 million for the three and six month
periods ended June 30, 1997, respectively, from $21.8 million and $53.2 million
for the comparable 1996 periods. The 1996 six month period results include a
$27.5 million pretax recovery of Source One's valuation allowance associated
with its capitalized mortgage loan servicing asset. The following table
illustrates the recent change in Source One's servicing portfolio mix as a
result of the sale:
<TABLE>
<CAPTION>
- -----------------------------------------------------------
JUNE 30, December 31,
Millions 1997 1996
- -----------------------------------------------------------
<S> <C> <C>
Mortgage loan servicing
portfolio owned $ 9,651 $ 26,410
Mortgage loan servicing
portfolio subserviced for
others 18,932 2,791
--------------------------
Total mortgage loan servicing
portfolio $ 28,583 $ 29,201
- -----------------------------------------------------------
- -----------------------------------------------------------
</TABLE>
7
<PAGE>
In connection with the February 1997 servicing sale, Source One recorded a
$4.3 million pretax loss ($2.8 million after tax) during the 1997 first half.
Source One will continue to subservice the mortgage loans pursuant to a
subservicing agreement for a period of no less than 12 months from the time of
transfer.
Source One utilizes interest rate floor contracts and principal only swap
agreements to mitigate the effect on earnings of higher amortization and
impairment of the capitalized servicing asset caused by changes in market
interest rates. Net mortgage servicing revenue for the six month periods ended
June 30, 1997 and 1996, has been reduced by $1.7 million and $4.9 million of
pretax net losses, respectively, which represents declines in the market value
of Source One's investments in interest rate floor contracts and principal only
swap agreements.
The interest rate floor contracts derive their value from differences between
the floor rate specified in the contract and market interest rates. The floor
yields range from 5.47% to 6.24%. To the extent that market interest rates
increase, the value of the floors declines. However, Source One is not exposed
to losses in excess of its initial investment in the floors. The interest rate
floor contracts are carried at fair value with related realized and unrealized
gains and losses included in net loss on financial instruments in the
consolidated income statements. As of June 30, 1997, the carrying value of
Source One's open interest rate floor contracts totalled $2.4 million with a
total notional principal amount of $1.1 billion. The floors have terms ranging
from approximately one to four years.
The value of the principal-only swaps is determined by changes in the value
of referenced principal-only strips. As of June 30, 1997, the carrying value of
Source One's principal-only swap transactions totalled $4.3 million, with a
original notional principal amount of $98.1 million. The principal-only swap
transactions are carried at fair value with related realized and unrealized
gains and losses included in net loss on financial instruments in the
consolidated income statements. The principal-only swaps have remaining terms of
approximately three to four years.
Net gain on sales of mortgages decreased to $1.4 million and $9.3 million for
the three and six month periods ended June 30, 1997, respectively, from $11.4
million and $24.5 million for the comparable 1996 periods, respectively. The
1997 amounts include a $3.0 million pretax charge related to mortgage loans held
for investment which have been identified for sale and marked down from
amortized cost to current market value. The balance of the declines are
primarily due to decreased production and the related decrease in mortgage loan
sales volume during 1997 compared to 1996.
In April 1997 Source One approved and implemented a restructuring plan
designed to reduce its operating costs in order to improve its financial
performance. As part of this plan, during the second quarter Source One reduced
its workforce by approximately 100 employees. The restructuring charge
recognized by Source One during the 1997 second quarter totaled $1.7 million.
Approximately $1.5 million of the restructuring charge was included in
compensation and benefits expense with the remainder being included in general
expenses.
Investment Operations. Fund American's investment income is comprised
primarily of interest income earned on mortgage loans originated by Source One
and the fixed maturity investments of its consolidated insurance operations. Net
investment income was $29.7 million and $29.0 million, respectively, for the
1997 and 1996 six month periods.
8
<PAGE>
Total net investment gains and losses, before tax, were as follows:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------
Millions 1997 1996
- ----------------------------------------------------------------
<S> <C> <C>
Net realized gains $ 25.8 $ 29.7
Net unrealized gains (losses) 58.6 (1.4)
--------------------
Total net investment gains, before tax $ 84.4 $ 28.3
- ----------------------------------------------------------------
- ----------------------------------------------------------------
</TABLE>
Realized investment gains of $25.8 million for the 1997 first half resulted
principally from the sales of 628,581 shares of the common stock of Travelers
Property Casualty Corp. for net proceeds of $22.9 million in the second quarter
and 526,551 shares of the common stock of Veritas DGC Inc. for net proceeds of
$9.8 million during the first quarter. Realized gains of $29.7 million for the
1996 first half resulted principally from the second quarter sales of 2,042,572
shares of the common stock of Zurich Reinsurance Centre Holdings, Inc. for net
proceeds of $61.8 million and 2,928,100 shares of the common stock of The
Louisiana Land and Exploration Company for net proceeds of $125.1 million.
EXPENSES AND INCOME TAXES.
Source One finances its inventory of mortgage loans held for sale primarily with
short-term debt. Accordingly, the decrease in mortgage loan production noted
above also resulted in a decrease in interest expense for the 1997 first half
and 1997 second quarter as compared to the 1996 periods.
Insurance losses and loss adjustment expenses increased from $17.3 million
and $30.5 million in the 1996 second quarter and first half, respectively, to
$24.2 million and $48.4 million in the 1997 second quarter and first half,
respectively, due primarily to increases in earned premium at Charter. The loss
and loss adjustment expense ratio for the 1997 second quarter and first half was
67.8% and 68.0%, respectively, which compares to 67.1% and 67.3%, respectively,
for the comparable 1996 periods.
The income tax provision for the first half of 1997 and 1996 includes $2.5
million and $2.1 million, respectively, of expense related to tax reserve
adjustments. Excluding these tax reserve adjustments, Fund American's effective
income tax rate for the first half of 1997 and 1996 was 39.2% and 35.8%,
respectively.
LIQUIDITY AND CAPITAL RESOURCES
PARENT COMPANY. In connection with Source One's February 28, 1997 sale of
approximately $17.0 billion of mortgage servicing rights to a third party, the
Company has made certain collection, payment and performance guarantees to the
buyer for a period of no more than ten years. The aggregate amount of the
Company's guaranty is initially limited to $20.0 million and is expected to
amortize down to $15.0 million.
During the 1997 second quarter the Company repurchased 499,023 shares of its
common stock ("Shares") for $50.7 million in a series of open market
transactions. All such Shares purchased have since been retired.
Prospectively, the primary sources of cash inflows for the Company will be
distributions received from its operating subsidiaries, sales of investment
securities and investment income.
WHITE MOUNTAINS AND SUBSIDIARIES. On November 1, 1996, Fund American signed a
definitive agreement (the "MSA Agreement") to increase its ownership of MSA from
33% to 50%. MSA currently shares in 40% of NGM's business through a quota share
reinsurance agreement which is expected to be increased to 60% pursuant to the
MSA Agreement. Also pursuant to the MSA Agreement, NGM will contribute certain
of its insurance, reinsurance and information and financial services
subsidiaries
9
<PAGE>
to MSA. The aggregate purchase price to be paid by Fund American pursuant to the
MSA Agreement is approximately $60.2 million, subject to certain purchase price
adjustments. Fund American expects to assign the additional investment in MSA to
White Mountains. The closing is dependent upon the receipt of state regulatory
approvals and is expected to occur in the third quarter of 1997. White Mountains
intends to finance the MSA investment by borrowing $50.0 million pursuant to
White Mountains' credit facility, and through sales and maturities of investment
securities.
As part of a previously disclosed reorganization plan, on July 31, 1997 (upon
receipt of various regulatory and banking approvals) White Mountains was merged
into Fund American Enterprises, Inc., a wholly-owned subsidiary of the Company
and the direct parent company of Source One, and the combined entity was
immediately renamed White Mountains Holdings, Inc.
SOURCE ONE. Through June 30, 1997, Source One received $226.5 million of the
estimated $271.5 million total proceeds from its February 1997 sale of mortgage
servicing rights, with the $45.0 million balance reflected as a receivable on
the June 30, 1997 balance sheet. Source One is currently evaluating its options
as to how it will utilize the remaining proceeds from the sale. These options
include: (i) purchasing additional mortgage servicing rights from third parties;
(ii) further reducing its outstanding indebtedness; (iii) reducing its
outstanding preferred or common shareholders' equity; or (iv) any combination of
the foregoing.
Source One had previously announced that it had contracted to receive from
Fund American approximately $139 million (approximately $119 million net of
associated tax liabilities and other adjustments) of capital infusions during
1997 consisting primarily of common stock and options to acquire common stock of
FSA. During the 1997 first quarter, Fund American contributed net assets
totalling $40.5 million to Source One which did not require regulatory approval.
During the second quarter, Source One recorded the remaining $78.5 million of
contracted net assets. The capital infusions were undertaken to improve Source
One's debt ratings and reduce Source One's borrowing costs.
On May 22, 1997 Source One repurchased $119.6 million of its outstanding
8.875% medium-term notes due October 15, 2001. Source One recognized a $6.0
million after tax loss on the early retirement of the notes.
On July 25, 1997, Source One amended and restated its secured credit
agreement to reflect a reduction in its borrowing requirements resulting from
the cash proceeds received from the February 1997 servicing sale. The provisions
of the amended agreement decrease Source One's borrowing capacity from $750.0
million to $500.0 million and reduce borrowing costs by lowering the facility
fee.
Source One is currently considering further steps to restructure its debt
capital including (i) the issuance of approximately $50.0 million of additional
medium-term notes pursuant to an existing shelf registration and (ii) entering
into interest rate swaps whereby Source One's obligation to pay a fixed rate of
interest on a portion of its outstanding medium-term notes and debentures will
be swapped for an obligation to pay a floating rate of interest. Source One
believes that using floating rate debt to finance a larger portion of its
mortgage servicing assets is prudent, since the value of such assets generally
increases as interest rates increase, and declines as interest rates decrease.
Source One's investments, mortgage loans held for sale and mortgage loan
servicing portfolio provide a liquidity reserve since they may be sold to meet
cash needs.
10
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE BY SECURITY HOLDERS
At the Company's 1997 Annual Meeting of shareholders, which was held
on May 29, 1997 in Hanover, New Hampshire, shareholders approved
proposals (as further described in the Company's 1997 Proxy Statement)
calling for the Election of Directors and the Appointment of
Independent Auditors. With respect to the Election of Directors,
6,290,075 votes were cast in favor of the proposal and 44,150 votes
were withheld. With respect to the Appointment of Independent
Auditors, 6,312,245 votes were cast in favor of the proposal, 4,676
votes were cast against the proposal and 14,304 votes abstained.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
11 - Statement Re Computation of Per Share Earnings*
27 - Financial Data Schedule*
(b) Reports on Form 8-K
None.
*Filed herewith.
11
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FUND AMERICAN ENTERPRISES HOLDINGS, INC.
----------------------------------------
(Registrant)
Date: August 13, 1997 By: /s/
--------------- -------------------------------------
Michael S. Paquette
Vice President and Controller
<PAGE>
EXHIBIT 11
FUND AMERICAN ENTERPRISES HOLDINGS, INC.
STATEMENT RE COMPUTATION OF PER SHARE EARNINGS
(IN THOUSANDS, EXCEPT PER SHARE EARNINGS)
UNAUDITED
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
--------------------- ---------------------
1997 1996 1997 1996
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
EARNINGS PER SHARE:
After tax earnings $ 603 $ 3,466 $ 5,519 $ 32,300
Loss on early extinguishment of debt, after tax (5,975) -- (5,975) --
--------- --------- --------- ---------
Net income (loss) $ (5,372) $ 3,466 $ (456) $ 32,300
--------- --------- --------- ---------
--------- --------- --------- ---------
Earnings per share denominator:
Average common shares outstanding 6,727 7,638 6,813 7,660
Dilutive options and warrants 675 683 675 683
--------- --------- --------- ---------
Shares for per share computation 7,402 8,321 7,488 8,343
--------- --------- --------- ---------
--------- --------- --------- ---------
Earnings per share:
After tax earnings $ .08 $ .42 $ .74 $ 3.87
Net income (loss) (.73) .42 (.06) 3.87
--------- --------- --------- ---------
--------- --------- --------- ---------
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> JUN-30-1997
<CASH> 3
<SECURITIES> 532
<RECEIVABLES> 100
<ALLOWANCES> (13)
<INVENTORY> 0
<CURRENT-ASSETS> 331
<PP&E> 60
<DEPRECIATION> (25)
<TOTAL-ASSETS> 1,692
<CURRENT-LIABILITIES> 242
<BONDS> 305
0
44
<COMMON> 540
<OTHER-SE> 131
<TOTAL-LIABILITY-AND-EQUITY> 1,692
<SALES> 0
<TOTAL-REVENUES> 152
<CGS> 0
<TOTAL-COSTS> 137
<OTHER-EXPENSES> (26)
<LOSS-PROVISION> 4
<INTEREST-EXPENSE> 23
<INCOME-PRETAX> 13
<INCOME-TAX> 8
<INCOME-CONTINUING> 5
<DISCONTINUED> 0
<EXTRAORDINARY> (6)
<CHANGES> 0
<NET-INCOME> (1)
<EPS-PRIMARY> (.06)
<EPS-DILUTED> (.06)
</TABLE>
