UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-QSB
(Mark One)
[x] QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 1999
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(D) OF THE EXCHANGE ACT
For the transition period from ____________ to ____________
Commission file number 0-14451
Acap Corporation
(Exact name of small business issuer as specified in its charter)
State of Incorporation: IRS Employer Id.:
Delaware 25-1489730
Address of Principal Executive Office:
10555 Richmond Avenue, 2ND Floor
Houston Texas 77042
Issuer's telephone number: (713) 974-2242
Check whether the issuer (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the past 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. x Yes No
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
CLASS OUTSTANDING NOVEMBER 8, 1999
Common Stock, Par Value $.10 7,229
This Form 10-QSB contains a total of 18 pages, including any exhibits.
<PAGE>
ACAP CORPORATION AND SUBSIDIARIES
FORM 10-QSB
INDEX
Page No.
Part I. Financial Information:
Item 1. Financial Statements
Condensed Consolidated Balance
Sheet - September 30, 1999 (Unaudited) 3
Condensed Consolidated Statements of
Operations - Nine Months Ended
September 30, 1999 and 1998 (Unaudited) 5
Condensed Consolidated Statements of
Operations - Three Months ended
September 30, 1999 and 1998 (Unaudited) 6
Condensed Consolidated Statements of
Cash Flows - Nine Months Ended
September 30, 1999 and 1998 (Unaudited) 7
Notes to Condensed Consolidated
Financial Statements (Unaudited) 8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 13
Part II. Other Information:
Item 1. Legal Proceedings 17
Item 6. Exhibits 17
<PAGE>
PART I. ITEM 1. FINANCIAL INFORMATION
ACAP CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEET
SEPTEMBER 30, 1999
(UNAUDITED)
ASSETS
Investments:
Fixed maturities available for sale $ 36,683,828
Mortgage loans 1,653,836
Policy loans 6,716,322
Short-term investments 5,493,817
-----------
Total investments 50,547,803
Cash 158,001
Accrued investment income 716,873
Reinsurance receivable 102,938,928
Notes receivable 4,088,295
Accounts receivable (less allowance
for uncollectible accounts of $88,282) 667,229
Deferred acquisition costs 1,848,400
Property and equipment
(less accumulated depreciation of $546,450) 824,603
Costs in excess of net assets of acquired business
(less accumulated amortization of $1,371,539) 1,302,239
Other assets 1,238,038
$164,330,409
===========
See accompanying notes to condensed consolidated financial statements.
continued . . .
<PAGE>
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Policy liabilities:
Future policy benefits $143,370,166
Contract claims 4,418,817
-----------
Total policy liabilities 147,788,983
Other policyholders' funds 2,300,021
Deferred tax liability 121,473
Deferred gain on reinsurance 2,254,463
Deferred gain on sale of real estate 323,373
Note payable 1,375,000
Other liabilities 3,413,531
----------
Total liabilities 157,576,844
-----------
Stockholders' equity:
Series A preferred stock, par value $.10 per share,
authorized, issued and outstanding 74,000 shares
(involuntary liquidation value $2,035,000) 1,850,000
Common stock, par value $.10 per share,
authorized 10,000 shares, issued 8,759 shares 876
Additional paid-in capital 6,259,589
Accumulated deficit (668,771)
Treasury stock, at cost, 1,530 shares (505,921)
Accumulated other comprehensive income-net unrealized
losses, net of taxes of $189,553
(182,208)
-------------
Total stockholders' equity 6,753,565
-------------
$164,330,409
============
See accompanying notes to condensed consolidated financial statements.
<PAGE>
ACAP CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
1999 1998
Revenues:
Premiums and other considerations $6,684,261 1,770,590
Net investment income 1,504,521 1,511,319
Net realized investment gains 871,367 106,353
Reinsurance expense allowance 3,158,985 3,675,211
Amortization of deferred gain on reinsurance 138,535 130,240
Other income 203,268 35,190
---------- ----------
Total revenues 12,560,937 7,228,903
---------- ----------
Benefits and expenses:
Policy benefits 5,139,724 1,805,394
Commissions and general expenses 5,987,411 4,439,138
Interest expense 67,940 57,054
Amortization of deferred acquisition costs 248,272 87,664
Amortization of costs in excess of net
assets of acquired business 179,745 179,745
---------- ----------
Total benefits and expenses 11,623,092 6,568,995
---------- ----------
Income before federal income tax expense
(benefit) 937,845 659,908
Federal income tax expense (benefit):
Current 363,309 194,385
Deferred (333,369) (176,346)
---------- ----------
Net income $ 907,905 641,869
---------- ----------
Other comprehensive income (loss):
Net unrealized holding gains (losses)
arising during period, net of tax of
$721,311 in 1999 and $321,463 in 1998 (1,396,996) 625,965
Less: reclassification adjustment for net
gains included in net income, net of tax of
$0 in 1999 and $14,371 in 1998 0 (32,137)
---------- ----------
Comprehensive income (loss) ($489,091) 1,235,697
========== ==========
Earnings per share:
Net income per share-basic $ 106.62 67.47
--------- ----------
Net income per share-diluted $ 95.05 58.00
---------- ----------
See accompanying notes to condensed consolidated financial statements.
<PAGE>
ACAP CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
1999 1998
---- ----
Revenues:
Premiums and other considerations $3,496,936 613,288
Net investment income 524,277 462,577
Net realized investment gains 27,705 20,445
Reinsurance expense allowance 997,912 1,089,259
Amortization of deferred gain on reinsurance 36,726 39,035
Other income 153,309 13,229
---------- ---------
Total revenues 5,236,865 2,237,833
---------- ---------
Benefits and expenses:
Policy benefits 2,899,682 640,065
Commissions and general expenses 2,404,301 1,277,513
Interest expense 29,708 15,701
Amortization of deferred acquisition costs 77,516 31,356
Amortization of costs in excess of net
assets of acquired business 59,916 59,916
---------- ---------
Total benefits and expenses 5,471,123 2,024,551
---------- ---------
Income (loss) before federal income tax
expense (benefit) (234,258) 213,282
Federal income tax expense (benefit):
Current 28,294 49,890
Deferred (189,734) (54,535)
--------- ---------
Net income (loss) $ (72,818) 217,927
--------- ---------
Other comprehensive income (loss):
Net unrealized holding gains (losses)
arising during period, net of tax of
$132,520 in 1999 and $277,581 in 1998 (256,146) 530,799
Less: reclassification adjustment for net
gains (losses) included in net income
(loss), net of tax of $0 in 1999 and
$6,448 in 1998 0 13,894
--------- ---------
Comprehensive income (loss) $ (328,964) 762,620
--------- ---------
Earnings per share:
Net income (loss) per share-basic $ (16.31) 23.36
========= =========
Net income (loss) per share-diluted $ (15.74) 22.65
========= =========
See accompanying notes to condensed consolidated financial statements.
<PAGE>
ACAP CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
1999 1998
---- ----
Cash flows from operating activities:
Net income from operations $907,905 641,869
Adjustments to reconcile net income to
net cash provided by (used in) operating
activities:
Depreciation and amortization 349,248 113,357
Net realized investment gains on investments (871,367) (106,353)
Deferred federal income tax benefit (333,369) (176,346)
Decrease in reinsurance receivables 2,216,359 1,147,742
Increase in accrued investment income (173,568) (93,810)
Increase in accounts receivable (103,984) (72,769)
Increase (decrease) in other assets (867,053) 306,017
Decrease in future policy benefit liability (1,170,246) (1,119,068)
Decrease in contract claim liability (1,219,752) (44,180)
Decrease in other policyholders' funds
liability (550,939) (57,602)
Increase (decrease) in other liabilities 431,571 (610,735)
---------- ----------
- ---------
Net cash provided by (used by) operating
activities (1,385,195) (71,878)
---------- ----------
Cash flows from investing activities:
Proceeds from sales of investments
available for sale and principal
repayments on mortgage loans 2,855,109 7,944,285
Purchases of investments available for sale (4,384,917) (6,625,855)
Net decrease in policy loans 95,527 315,754
Net increase in short-term investments (3,920,187) (228,153)
Purchase of property and equipment (505,271) (248,335)
Proceeds from assumption agreement 2,306,481 0
---------- ----------
Net cash provided by (used in) investing
activities (3,553,258) 1,157,696
---------- ----------
Cash flows from financing activities:
Proceeds from issuance of note payable 1,500,000 0
Principal payments on note payable (687,500) (187,500)
Principal payments on notes receivable 4,437,313 0
Deposits on policy contracts 1,213,334 870,700
Withdrawals from policy contracts (1,345,306) (1,636,247)
Preferred dividends paid (136,439) (145,689)
Treasury stock purchases (5,280) (48,960)
---------- ----------
Net cash provided by (used in) financing
activities 4,976,122 (1,147,696)
---------- ----------
Net increase (decrease) in cash 37,669 (61,878)
Cash at beginning of year 120,332 97,714
---------- ----------
Cash at end of period $ 158,001 35,836
========== ==========
See accompanying notes to condensed consolidated financial statements.
<PAGE>
ACAP CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The condensed consolidated balance sheet as of September 30, 1999
and the condensed consolidated statements of operations and cash
flows for the nine month periods ended September 30, 1999 and 1998,
have been prepared by Acap Corporation (the "Company"), without
audit. In the opinion of management, all adjustments (which,
except as may be noted below, include only normal recurring
adjustments) necessary to present fairly the financial position,
results of operations, and changes in cash flows at September 30,
1999 and for all periods presented have been made.
Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted. It is
suggested that these condensed consolidated financial statements be
read in conjunction with the financial statements and notes thereto
included in the Company's December 31, 1998 Annual Report to
Stockholders. The results of operations for the nine month periods
ended September 30, 1999 and 1998 are not necessarily indicative of
the operating results for the full year.
2. ACCOUNTING STANDARDS
In September 1997, the Financial Accounting Standards Board
("FASB") issued Statement of Financial Accounting Standards (SFAS)
No. 130 "Reporting Comprehensive Income." SFAS No. 130, which must
be adopted for both interim and fiscal periods beginning after
December 15, 1997, establishes standards for reporting and
displaying comprehensive income and its components (revenue,
expenses, gains, and losses) in a full set of general purpose
financial statements. SFAS 130 requires that all items that are
required to be recognized under accounting standards as components
of comprehensive income be reported in a financial statement that
is displayed with the same prominence as other financial
statements.
Effective January 1, 1998, the Company adopted SFAS No. 130. The
Company's only components of other comprehensive income are
unrealized gains and losses on investments. As those items were
previously presented as direct charges or credits to the Company's
stockholders' equity, the only impact of adopting this standard is
to reflect an additional presentation of those items.
3. EARNINGS PER SHARE
Basic earnings per common share is computed by dividing net income
(less dividends paid on preferred stock of $136,439 and $145,689
for the nine months ended September 30, 1999 and 1998,
respectively) by the weighted average common shares outstanding
(7,236 at September 30, 1999 and 7,354 at September 30, 1998).
Earnings per common share on a diluted basis is computed by
dividing net income (less dividends paid on preferred stock of
$136,439 and $145,689 for the nine months ended September 30, 1999
and 1998, respectively, and less the income statement effect of
stock options as if exercised of $58,976 and $58,976 for September
30, 1999 and 1998, respectively) by the weighted average common
shares outstanding as if such stock options were exercised (7,496
at September 30, 1999 and 7,358 at September 30, 1998).
4. STOCKHOLDERS' EQUITY
During the nine months ended September 30, 1999, stockholders'
equity changed for the following items: Decrease in net unrealized
investment gains of $1,396,996; net income of $907,905; cash
dividends paid on preferred stock of $136,439 and a net increase in
treasury stock of $5,280.
5. UNIVERSAL TRANSACTION
On March 5, 1998, American Capitol Insurance Company ("American
Capitol"), a wholly-owned subsidiary of Acap Corporation, closed a
coinsurance transaction with Universal Life Insurance Company
("Universal"). Pursuant to the coinsurance agreement (the
"Coinsurance Agreement"), American Capitol coinsured 100% of the
individual life insurance policies of Universal in force at January
1, 1998. The effective date of the Coinsurance Agreement was
January 1, 1998. American Capitol paid Universal an initial ceding
commission of approximately $13 million. Universal transferred
approximately $40 million in assets to American Capitol in
connection with the coinsurance.
Contemporaneous with the signing of the Coinsurance Agreement, the
parties executed an administrative agreement (the "Administration
Agreement") whereby American Capitol agreed to provide specified
administrative functions for the 246,011 coinsured Universal
policies. American Capitol started administering the policies
beginning July 1, 1998. Between January 1, 1998 and July 1, 1998,
Universal continued to administer the policies, and American
Capitol paid Universal the expense allowance stipulated in the
Administration Agreement.
Concurrent with the coinsurance of the Universal policies, American
Capitol retroceded all of the coinsured Universal policies with an
unaffiliated reinsurer. The reinsurer paid American Capitol an
initial ceding commission of approximately $13.5 million. So,
while Universal transferred $40 million to American Capitol in
connection with the coinsurance, American Capitol transferred $39.6
million in assets to the reinsurer in connection with the
retrocession. Once the reinsurer has recovered the initial ceding
commission, the reinsurer may, at American Capitol's option,
retrocede back to American Capitol 100% of the policies. Upon this
retrocession, American Capitol then pays the reinsurer 30% of the
profits generated by the policies, retaining the other 70% of the
profits. In addition, American Capitol has the right to recapture
the retrocession under certain terms and conditions. While the
retrocession is in effect, American Capitol receives an expense
allowance from the reinsurer.
6. STATESMAN TRANSACTION
On October 19, 1998, Texas Imperial Life Insurance Company, a
wholly-owned subsidiary of American Capitol executed an agreement
to acquire the stock of Statesman National Life Insurance Company
("Statesman"). To facilitate the Statesman acquisition, American
Capitol entered into a coinsurance agreement with Statesman dated
November 17, 1998, in which American Capitol coinsured, on a 100%
quota share basis, a portion of Statesman's Medicare supplement
business effective October 31, 1998. The acquisition transaction
closed on December 16, 1998. Statesman was owned by the brother of
the majority shareholder of Acap, and, as a result, this qualified
as a related party transaction. Texas Imperial issued a promissory
note of $100 to the sellers of the Statesman stock ("Sellers"). At
the time of the acquisition of the Statesman stock by Texas
Imperial, Statesman had approximately $1.8 million in surplus
debentures issued to the Sellers. The Sellers' debentures backed
the Sellers' representations and warranties and were to be adjusted
based upon the outcome of certain post-closing price adjustments.
In connection with closing, Texas Imperial purchased an $800,000
surplus debenture from Statesman to bring Statesman's statutory
equity to the level required by the Texas Department of Insurance
(the "Department") as a condition of the Department's approval of
Texas Imperial's acquisition of Statesman. As used herein, the
"Statesman Transaction" refers to the above-described Texas
Imperial acquisition of the stock of Statesman, Texas Imperial
purchase of the $800,000 surplus debenture from Statesman, and
American Capitol coinsurance of a portion of Statesman's Medicare
supplement business.
In January, 1999, it was discovered that Statesman's claim
liabilities were significantly understated. The liability
understatement exceeded the amount of the Sellers' debentures.
Given the mutual mistake of fact upon which the stock purchase, the
surplus debenture purchase and the Department's approval of same
were based, Texas Imperial, the Sellers, and Statesman agreed to
rescind the purchase of the stock and the surplus debenture.
However, the rescission required the approval of the Department.
The Department did not grant its approval. As a result, Texas
Imperial determined that the $800,000 Statesman surplus debenture
was uncollectible and recorded the realized investment loss on the
debenture in 1998 and wrote off its investment in Statesman of
$100. Statesman was placed in receivership by the District Court of
Travis County, Texas 250th Judicial District (the "Court") on June 10, 1999.
On June 10, 1999, the Court approved a Liquidation Plan Regarding
the Insolvency and Liquidation of The Statesman National Life
Insurance Company (the "Liquidation Plan") executed by American
Capitol, Texas Imperial, Statesman, the Department and the National
Organization of Life and Health Insurance Guaranty Associations
("NOLHGA"). Pursuant to the Liquidation Plan, American Capitol and
Texas Imperial assumed all life insurance policies issued by
Statesman since September 30, 1998 as well as all of the Medicare
supplement and hospital indemnity health insurance policies in
force in Statesman. Participating NOLHGA guaranty associations
funded the transaction with a combination of cash and promissory
notes. In determining the funding amount, among other things, the
Company received credit in an amount equal to the $800,000 surplus
debenture Texas Imperial purchased from Statesman during 1998 and
which Texas Imperial wrote off at December 31, 1998. Pursuant to
the Liquidation Plan, at a prescribed point three years after the
closing of the assumption transactions, the actual results during
the three year period of the Medicare supplement policies in
question will be compared to the projected results for that same
period and, if the actual results have been better than projected
("excess profits"), the participating NOLHGA guaranty associations
will be entitled to participate in the excess profits as a refund
in an amount prescribed by a formula set out in the Liquidation
Plan. If the actual results are worse than the projected results,
the guaranty associations are not obligated to compensate the
Company for such shortfall. The assumption transactions closed on
June 18, 1999 with an effective date of June 1, 1999. Approximately
$11 million in cash and notes were transferred to the Company from
the participating NOLHGA guaranty associations and approximately
$10 million in liabilities were transferred to the Company in
connection with the assumption transactions.
Other aspects related to the Statesman Transaction include the
transfer to the Company of policy administration system software
necessary to enable the Company to administer the Statesman
Medicare supplement policies assumed from the guaranty associations.
7. SUPPLEMENTAL INFORMATION REGARDING CASH FLOWS
Cash payments of $280,000 and $210,129 for federal income taxes
were made for the nine months ended September 30, 1999 and 1998, respectively.
Cash payments of $58,038 and $54,032 for interest expense were made
during the nine months ended September 30, 1999 and 1998, respectively.
The following reflects assets acquired and liabilities assumed
relative to the assumption agreement for the policies of Statesman,
the consideration received for such assumption and the net cash
flow relative to such assumption on May 31, 1999:
Assets acquired $ 10,893,429
Liabilities assumed (10,093,429)
------------
Gain from assumption $ 800,000
============
Net cash from assumption:
Cash acquired $ 1,506,481
Gain from assumption 800,000
------------
Net cash provided from assumption $ 2,306,481
============
The following reflects assets acquired and liabilities assumed
relative to the coinsurance agreement for the policies of
Universal, the consideration given for such coinsurance and the net
cash flow relative to such coinsurance on January 1, 1998.
Assets acquired $ 39,972,696
Liabilities assumed (53,085,774)
-----------
Cost of coinsurance $(13,113,078)
===========
Cash paid for coinsurance $(13,113,078)
===========
Net cash from coinsurance:
Cash acquired $ 38,597,840
Cash paid for coinsurance (13,113,078)
-----------
Net cash provided from coinsurance $ 25,484,762
===========
The following reflects assets and liabilities transferred in
connection with a coinsurance treaty whereby all policies assumed
from Universal were 100% retroceded to an unaffiliated reinsurer,
the ceding commission received and the net cash flow related to the
coinsurance treaty on January 1,1998.
Assets transferred $(39,580,339)
Liabilities transferred 53,080,339
-----------
Net transferred $ 13,500,000
===========
Ceding commission received $ 13,500,000
===========
Net cash from coinsurance:
Cash paid (38,984,762)
Cash received from coinsurance 13,500,000
------------
Net cash provided from coinsurance $(25,484,762)
===========
Net proceeds from coinsurance agreements $ 0
===========
8. NOTE PAYABLE
On March 31, 1999, the Company repaid the $500,000 balance on its
note from Central National Bank ("CNB") by borrowing $1,500,000
from CNB. The note is renewable by the bank each April 30 until
fully repaid. The note bears interest at a rate equal to the base
rate of a bank. Principal payments on the note of $62,500 are due
quarterly (a six year amortization) beginning April 30, 1999. The
loan agreement contains certain restrictions and financial
covenants. Without the written consent of the bank, Acap may not
incur any debt, pay common stock dividends or sell any substantial
amounts of assets. Also, American Capitol is subject to minimum
statutory earnings and capital and surplus requirements during the
loan term. The Company is in compliance with all of the terms of
the loan as of September 30, 1999.
9. NOTES RECEIVABLE
In connection with the Statesman Transaction, seven promissory
notes totaling $8,525,608 were issued by four different state
guaranty associations. The interest rate on the notes is fixed at
5.3%. The first payment of principal of $4,437,313 along with
accrued interest of approximately $113,000 was paid September 18,
1999. There are no other scheduled payments until maturity at
December 2, 2002 when the balance of $4,088,295 and all accrued and
unpaid interest is due.
The promissory notes are essentially credit risk free because the
notes are backed by all member insurers of an association. A
guaranty association has the statutory authority to assess solvent
insurance companies doing business in the state to meet its
obligations. If the maximum assessment allowed in any one year
does not provide the necessary funds, additional assessments are
made as soon thereafter as permitted by the guaranty association act.
ACAP CORPORATION AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
STATESMAN TRANSACTION
As used herein, "American Capitol" is American Capitol Insurance
Company, a wholly-owned subsidiary of the Company. "Texas
Imperial" is Texas Imperial Life Insurance Company, a wholly-owned
subsidiary of American Capitol.
On October 19, 1998, Texas Imperial executed an agreement to
acquire the stock of Statesman National Life Insurance Company
("Statesman"). To facilitate the Statesman acquisition, American
Capitol entered into a coinsurance agreement with Statesman dated
November 17, 1998, in which American Capitol coinsured, on a 100%
quota share basis, a portion of Statesman's Medicare supplement
business effective October 31, 1998. The acquisition transaction
closed on December 16, 1998. Statesman was owned by the brother of
the majority shareholder of Acap, and, as a result, this qualified
as a related party transaction. Texas Imperial issued a promissory
note of $100 to the sellers of the Statesman stock ("Sellers"). At
the time of the acquisition of the Statesman stock by Texas
Imperial, Statesman had approximately $1.8 million in surplus
debentures issued to the Sellers. The Sellers' debentures backed
the Sellers' representations and warranties and were to be adjusted
based upon the outcome of certain post-closing price adjustments.
In connection with closing, Texas Imperial purchased an $800,000
surplus debenture from Statesman to bring Statesman's statutory
equity to the level required by the Texas Department of Insurance
(the "Department") as a condition of the Department's approval of
Texas Imperial's acquisition of Statesman. As used herein, the
"Statesman Transaction" refers to the above-described Texas
Imperial acquisition of the stock of Statesman, Texas Imperial
purchase of the $800,000 surplus debenture from Statesman, and
American Capitol coinsurance of a portion of Statesman's Medicare
supplement business.
In January, 1999, it was discovered that Statesman's claim
liabilities were significantly understated. The liability
understatement exceeded the amount of the Sellers' debentures.
Given the mutual mistake of fact upon which the stock purchase, the
surplus debenture purchase and the Department's approval of same
were based, Texas Imperial, the Sellers, and Statesman agreed to
rescind the purchase of the stock and the surplus debenture.
However, the rescission required the approval of the Department.
The Department did not grant its approval. As a result, Texas
Imperial determined that the $800,000 Statesman surplus debenture
was uncollectible and recorded the realized investment loss on the
debenture in 1998 and wrote off its investment in Statesman of
$100. Statesman was placed in receivership by the District Court
of Travis County, Texas 250th Judicial District (the "Court") on
June 10, 1999.
On June 10, 1999, the Court approved a Liquidation Plan Regarding
the Insolvency and Liquidation of The Statesman National Life
Insurance Company (the "Liquidation Plan") executed by American
Capitol, Texas Imperial, Statesman, the Department and the National
Organization of Life and Health Insurance Guaranty Associations
("NOLHGA"). Pursuant to the Liquidation Plan, American Capitol and
Texas Imperial assumed all life insurance policies issued by
Statesman since September 30, 1998 as well as all of the Medicare
supplement and hospital indemnity health insurance policies in
force in Statesman. Participating NOLHGA guaranty associations
funded the transaction with a combination of cash and promissory
notes. In determining the funding amount, among other things, the
Company received credit in an amount equal to the $800,000 surplus
debenture Texas Imperial purchased from Statesman during 1998 and
which Texas Imperial wrote off at December 31, 1998. Pursuant to
the Liquidation Plan, at a prescribed point three years after the
closing of the assumption transactions, the actual results during
the three year period of the Medicare supplement policies in
question will be compared to the projected results for that same
period and, if the actual results have been better than projected
("excess profits"), the participating NOLHGA guaranty associations
will be entitled to participate in the excess profits as a refund
in an amount prescribed by a formula set out in the Liquidation
Plan. If the actual results are worse than the projected results,
the guaranty associations are not obligated to compensate the
Company for such shortfall. The assumption transactions closed on
June 18, 1999 with an effective date of June 1, 1999. Approximately
$11 million in cash and notes were transferred to the Company from
the participating NOLHGA guaranty associations and approximately
$10 million in liabilities were transferred to the Company in
connection with the assumption transactions.
Other aspects related to the Statesman Transaction include the
transfer to the Company of policy administration system software
necessary to enable the Company to administer the Statesman
Medicare supplement policies assumed from the guaranty
associations. This system enhances the Company's policy
administration capabilities considerably and the Company expects to
use it as its primary policy administration system. As previously
reported, the Company's existing policy administration systems do
not have a Year 2000 problem, and the above mentioned system, sold
and maintained by IBM, is also Year 2000 compliant. In addition,
the Company recently (May, 1999) began to market Medicare
supplement policies by recruiting former agents of Statesman and,
in due course, adding additional agents. Initially this new
marketing program will be relatively modest in scope, involving the
states of Texas, Louisiana, and Oklahoma. Through these steps, the
Company has expanded its business plan to include the
administration and marketing of Medicare supplement policies, and
has positioned itself to acquire additional Medicare supplement
policies as well as accident and health insurance policies in general.
RESULTS OF OPERATIONS
Premiums and other considerations were 278% higher during the nine
months ended September 30, 1999 in comparison to the comparable
period in 1998. Premiums and other considerations were 470% higher
during the three months ended September 30, 1999 in comparison to
the comparable period in 1998. The increase in premiums during
1999 is attributable to the policies acquired from Statesman. As
described above under "Statesman Transaction," effective October
31, 1998, the Company acquired certain Medicare supplement policies
issued by Statesman and, effective May 31, 1999, acquired the
balance of Statesman's Medicare supplement policies as well as
certain other life and hospital indemnity health insurance policies.
Realized investment gains during the nine months ended September
30, 1999 include $800,000 in gains recognized during the second
quarter of 1999 related to the Liquidation Plan described above
under "Statesman Transaction." Pursuant to the Liquidation Plan,
the Company received an amount equal to the $800,000 the Company
had loaned to Statesman and written-off during 1998.
The Company receives an expense allowance for administering certain
blocks of reinsured policies. The expense allowance for the nine
months ended September 30, 1999 was 14% lower than the expense
allowance for the comparable period in 1998. The expense allowance
for the three months ended September 30, 1999 was 8% lower than the
expense allowance for the comparable period in 1998. The decrease
in the expense allowance during 1999 is due to attrition in the
reinsured policies.
Primarily as a result of the above factors, total revenue was 74%
higher during the nine months ended September 30, 1999 and 134%
higher during the three months ended September 30, 1999 in
comparison to the comparable period in 1998.
Policy benefits were 77% of total premiums and other considerations
during the nine months ended September 30, 1999 in comparison to
102% of total premiums and other considerations during the
comparable period in 1998. Policy benefits were 83% of total
premiums and other considerations during the three months ended
September 30, 1999 in comparison to 104% of total premiums and
other considerations during the comparable period in 1998. The
lower benefit to premium ratio during 1999 is largely attributable
to the Medicare supplement business acquired from Statesman, which
had a lower benefit to premium ratio than the balance of the
Company's business.
Total expenses (i.e., total benefits and expenses less policy
benefits) were approximately $1.7 million higher during the nine
months ended September 30, 1999 in comparison to the comparable
period in 1998. Total expenses were approximately $1.2 million
higher during the three months ended September 30, 1999 in
comparison to the comparable period in 1998.
A large portion of the increase in total expenses relates to the
customary expenses associated with the acquisition of the policies
from Statesman. Approximately $1 million of the increased expenses
for the nine months ended September 30, 1999 and approximately
$600,000 of the increased expenses for the three months ended
September 30, 1999 are attributable to commissions on the business
acquired from Statesman. Beginning June 1, 1999, general expenses
include the costs associated with administering the business
acquired from Statesman. General expenses for 1999 also include
expenses associated with moving personnel and records from
Statesman's offices to the Company's offices.
The Company currently operates on three policy administration
systems. The Company plans to convert from two of the current
systems onto the IBM system acquired as a part of the Statesman
Transaction discussed above. Once the conversions are completed,
the Company expects to experience lower unit costs as a result of
enhanced capabilities of the IBM system and the efficiencies
resulting from being on a single system. To accomplish the
conversions, the Company added programming and conversion resources
during 1999. The conversion process is expected to take
approximately two years.
General expenses for the first quarter of 1998 included a one-time
broker's fee of $227,500 associated with the coinsurance of a block
of policies from Universal Life Insurance Company ("Universal").
YEAR 2000 STATUS
The Year 2000 issue is the result of computer programs being
written using two digits rather than four to define the applicable
year. Any of the Company's computer programs or hardware that have
date-sensitive software or embedded chips may recognize a date
using "00" as the year 1900 rather than the year 2000. This could
result in a system failure or miscalculations causing disruptions
of normal business activities. To date, the Company has fully
completed its assessment of all systems that could be significantly
affected by the Year 2000 issue. In addition, the Company has
gathered information about the Year 2000 compliance status of
material third parties with whom the Company conducts business and
continues to monitor their compliance.
The Company's policies are administered on three policy
administration systems. One of the policy administration systems
was internally developed. The Company's assessment of that system
found that minor corrections were necessary to make the system Year
2000 compliant. Those corrections have been completed, tested, and
implemented. Based on the testing performed, the Company believes
that the system is now Year 2000 compliant. The other two policy
administration systems are vendor developed and supported systems.
The vendors have represented that the systems are Year 2000
compliant. With all three policy administration systems Year 2000
compliant, the Company is positioned to perform all basic policy
transactions without disruption.
The Company used two general ledger and accounts payable systems.
One of the systems is no longer supported by the vendor who
developed the system. The Company's assessment of that system
found that extensive modifications were needed to make the system
Year 2000 compliant. The other general ledger/accounts payable
system is currently supported by the vendor. The version of that
system in production at the Company is not Year 2000 compliant.
While the Company had originally planned on installing an updated
version of the vendor's system that is Year 2000 compliant, during
the third quarter of 1999 the Company decided to convert to a
general ledger/accounts payable system provided by a different
vendor. The Company licensed the new system in August 1999. The
Company installed the new general ledger/accounts payable system
and converted to exclusive use of that system for general ledger
and accounts payable functions effective November 1, 1999.
The system used for claims processing of the Medicare supplement
policies acquired from Statesman is not Year 2000 compliant.
During July 1999, the Company licensed a vendor-supplied claims
processing system. The Company began on installing the new claims
system in August, 1999, and plans to begin processing all health
claims on that system by December 1, 1999. The Company is
currently in parallel testing with the new claims system.
As assessment of the Company's operating equipment determined that
certain of the Company's personal computers needed to be replaced
prior to January 1, 2000. Those personal computers have now been
replaced.
Until the third quarter of 1999, the Company used existing internal
resources to remediate the systems that are not Year 2000
compliant, and the costs thus incurred had not been significant.
During the third quarter of 1999, the Company used programming
consultants to assist in the Year 2000 efforts. The Company
incurred approximately $35,000 in Year 2000 related expenses during
the third quarter of 1999. The cost of replacement of the general
ledger, accounts payable, and health claims systems was
approximately $225,000. The cost of replacing certain of the
Company's personal computers that are not Year 2000 compliant was
approximately $15,000. Year 2000 related costs for the remainder
of 1999 are estimated to be approximately $80,000.
Management of the Company believes that it has an effective program
in place to resolve the Year 2000 issue in a timely manner. As
noted above, the Company has not yet completed all necessary phases
of the Year 2000 program. In the event that the Company does not
complete any additional phases, the Company would not be able to
use the system that pays Medicare supplement claims.
The Company has developed contingency plans for critical
applications. These contingency plans involve, among other
actions, manual workarounds and adjusting staffing strategies.
LIQUIDITY AND CAPITAL RESOURCES
Primarily due to an increase in market interest rates during 1999,
as of September 30, 1999, the Company reported net unrealized
investment losses of $182,208 in comparison to net unrealized
investment gains of $1,214,785 at December 31, 1998. It is not
anticipated that the Company will need to liquidate investments
prior to their projected maturities in order to meet cash flow
requirements.
On March 31, 1999, the Company repaid the $500,000 balance on its
note from Central National Bank ("CNB") by borrowing $1,500,000
from CNB. The note is renewable by the bank each April 30 until
fully repaid. The note bears interest at a rate equal to the base
rate of a bank. Principal payments on the note of $62,500 are due
quarterly (a six year amortization) beginning April 30, 1999. The
loan agreement contains certain restrictions and financial
covenants. Without the written consent of the bank, Acap may not
incur any debt, pay common stock dividends or sell any substantial
amounts of assets. Also, American Capitol is subject to minimum
statutory earnings and capital and surplus requirements during the
loan term. The Company is in compliance with all of the terms of
the loan as of September 30, 1999.
CAUTIONARY STATEMENT
The 1995 Private Securities Litigation Reform Act provides issuers
the opportunity to make cautionary statements regarding forward-
looking statements. Accordingly, any forward-looking statement
contained herein or in any other oral or written statement by the
Company or any of its officers, directors or employees is qualified
by the fact that actual results of the Company may differ
materially from such statement due to the following important
factors, among other risks and uncertainties inherent in the
Company's business: state insurance regulations, rate competition,
adverse changes in interest rates, unforeseen losses with respect
to loss and settlement expense reserves for unreported and reported
claims, and catastrophic events.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On May 5, 1999, a civil action (the "Action") was filed by Martin
L. Skeen and William F. Skeen ("Plaintiffs") in the Court of
Chancery of the State of Delaware (the "Court") against Acap and
Acap's directors ("Defendants"). The Plaintiffs asked the Court
(1) to direct the Defendants to pay Acap the $800,000 lost as a
result of the write-off of the surplus debenture purchased from
Statesman in connection with the Statesman Transaction, (2) to
direct the Defendants to account for all of the transactions
related to the Statesman Transaction, (3) to require a new election
of directors after full disclosure with respect to the Statesman
Transaction, and (4) to award such other damages and relief as may
be appropriate, including the costs of the Action. Plaintiffs also
questioned the compensation of the Company's President in respect
to the employee benefit "Split-Dollar" insurance arrangement. The
Action was filed without advance demand or notification to the
Defendants.
The Company believes that the claims by the Plaintiffs are without
merit. As noted above in the section of this report titled
"Statesman Transaction," the $800,000 related to the Statesman
surplus debenture was recovered through the transaction with
NOLHGA. Further, while the acquisition of the Statesman stock
involved a related party, the Company believes that the transaction
was handled in an arms'-length manner and that all necessary
disclosures were made. The litigation is still in the preliminary
stages, and the Company is defending the actions vigorously.
ITEM 6. EXHIBITS
Exhibit 27 Financial Data Schedule
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this Quarterly Report on Form
10-QSB for the quarter ended September 30, 1999 to be signed on its
behalf by the undersigned thereunto duly authorized.
ACAP CORPORATION
(Registrant)
Date: November 11, 1999 By: \s\William F. Guest
---------------------------
William F. Guest, President
Date: November 11, 1999 By: \s\John D. Cornett
---------------------------
John D. Cornett, Treasurer
(Principal Accounting Officer)
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORAMTION EXTRACTED FROM SEPTEMBER
30, 1999 FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<DEBT-HELD-FOR-SALE> 36,683,828
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 0
<MORTGAGE> 1,653,836
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<TOTAL-INVEST> 50,547,803
<CASH> 158,001
<RECOVER-REINSURE> 102,938,928
<DEFERRED-ACQUISITION> 1,848,400
<TOTAL-ASSETS> 164,330,409
<POLICY-LOSSES> 143,370,166
<UNEARNED-PREMIUMS> 0
<POLICY-OTHER> 4,418,817
<POLICY-HOLDER-FUNDS> 2,300,021
<NOTES-PAYABLE> 1,375,000
0
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<INVESTMENT-INCOME> 1,504,521
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<INCOME-PRETAX> 937,845
<INCOME-TAX> 29,940
<INCOME-CONTINUING> 907,905
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<NET-INCOME> 907,905
<EPS-BASIC> 106.62
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<RESERVE-OPEN> 1,659,756
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