<PAGE> 1
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- - EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1995
---------------------------
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 1-9640
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MERCHANTS GROUP, INC.
- -------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 16-1280763
- ---------------------------------------- --------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
250 Main Street, Buffalo, New York 14202
- ---------------------------------------- --------------------------------
(Address of principal executive offices) (Zip Code)
(716) 849-3333
- -------------------------------------------------------------------------------
(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 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
----- -----
As of November 1, 1995, 3,213,894 shares of Common Stock, $.01 par
value per share, were outstanding.
The Exhibit Index for this document appears on page 18.
This document contains 20 pages.
1
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
MERCHANTS GROUP, INC.
CONSOLIDATED BALANCE SHEET
(in thousands)
<TABLE>
<CAPTION>
December 31, September 30,
Assets 1994 1995
------ ------------ ------------
<S> <C> <C>
Investments:
Fixed maturities:
Held to maturity at amortized cost
(fair value $31,863 in 1994 and
$34,361 in 1995) $ 33,933 $ 34,037
Available for sale at fair value
(amortized cost $135,034 in 1994
and $140,628 in 1995) 127,972 137,585
Other long-term investments at
fair value (amortized cost
$5,557 in 1994 and $5,544 in 1995) 4,387 4,644
Short-term investments 4,455 6,440
-------- --------
Total investments 170,747 182,706
Cash 18 566
Interest due and accrued 1,965 1,750
Premiums receivable, net of allow-
ance for doubtful accounts of
$368 in 1994 and $422 in 1995 18,051 20,630
Deferred policy acquisition costs 11,587 12,815
Ceded reinsurance balances receivable 7,632 8,563
Prepaid reinsurance premiums 2,370 2,807
Receivable from affiliate - 890
Federal income taxes receivable 1,195 4,455
Deferred federal income tax benefit 7,738 6,104
Other assets 1,104 1,082
-------- --------
Total assets $222,407 $242,368
======== ========
</TABLE>
See Notes to the Consolidated Financial Statements.
2
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MERCHANTS GROUP, INC.
CONSOLIDATED BALANCE SHEET
(in thousands except share amounts)
<TABLE>
<CAPTION>
December 31, September 30,
1994 1995
---- ----
<S> <C> <C>
Liabilities and Stockholders' Equity
------------------------------------
Liabilities:
Reserve for losses and loss
adjustment expenses $104,015 $118,229
Unearned premiums 45,449 50,473
Other liabilities 5,267 6,225
Payable to affiliate 397 -
--------- ---------
Total liabilities 155,128 174,927
--------- ---------
Stockholders' equity:
Common stock, issued and outstanding
3,158,188 shares at December 31,
1994 and 3,212,644 shares at
September 30, 1995 32 32
Additional paid in capital 34,678 35,284
Unrealized investment losses,
net of tax (6,878) (2,047)
Accumulated earnings 39,447 34,172
--------- ---------
Total stockholders' equity 67,279 67,441
--------- ---------
Commitments and contingent liabilities - -
Total liabilities and stock-
holders' equity $222,407 $242,368
========= =========
</TABLE>
See Notes to the Consolidated Financial Statements.
3
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MERCHANTS GROUP, INC.
CONSOLIDATED STATEMENT OF INCOME
(in thousands except per share amounts)
<TABLE>
<CAPTION>
Three Months Nine Months
Ended September 30, Ended September 30,
------------------- -------------------
1994 1995 1994 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues:
Net premiums earned $23,314 $24,432 $68,519 $70,534
Net investment income 2,415 2,559 7,385 7,670
Realized investment
gains (losses) (3) - 24 (832)
Other revenues 185 50 449 99
------- ------- ------- -------
Total revenues 25,911 27,041 76,377 77,471
------- ------- ------- -------
Expenses:
Net losses and loss
adjustment expenses 16,328 21,339 53,087 60,698
Amortization of deferred
policy acquisition costs 6,268 6,563 18,420 19,126
Other underwriting expenses 1,373 1,337 4,593 6,219
------- ------- ------- -------
Total expenses 23,969 29,239 76,100 86,043
------- ------- ------- -------
Income (loss) before
income taxes 1,942 (2,198) 277 (8,572)
Provision (benefit) for
income taxes 493 (202) (426) (3,771)
------- ------- ------- -------
Net income (loss) $ 1,449 $(1,996) $ 703 $(4,801)
======= ======= ======= =======
Primary and fully diluted
earnings (loss) per share $ .46 $ (.62) $ .22 $ (1.49)
======= ======= ======= =======
Weighted average shares
outstanding:
Primary 3,178 3,219 3,177 3,218
Fully diluted 3,178 3,220 3,177 3,220
</TABLE>
See Notes to the Consolidated Financial Statements.
4
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MERCHANTS GROUP, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(in thousands)
<TABLE>
<CAPTION>
Nine Months
Ended September, 30
-------------------
1994 1995
---- ----
<S> <C> <C>
Common stock, beginning and end $ 32 $ 32
------- -------
Additional paid in capital:
Beginning of period 34,659 34,678
Exercise of common stock options 19 606
------- -------
End of period 34,678 35,284
------- -------
Unrealized investment gains (losses),
net of tax:
Beginning of period 1,445 (6,878)
Change during the period (6,213) 4,831
------- -------
End of period (4,768) (2,047)
------- -------
Accumulated earnings:
Beginning of period 38,947 39,447
Net income (loss) 703 (4,801)
Cash dividend on common stock (474) (474)
------- -------
End of period 39,176 34,172
------- -------
Total stockholders' equity $69,118 $67,441
======= =======
</TABLE>
See Notes to the Consolidated Financial Statements.
5
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MERCHANTS GROUP, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
INCREASE IN CASH
(in thousands)
<TABLE>
<CAPTION>
Nine Months
Ended September 30,
-------------------
1994 1995
---- ----
<S> <C> <C>
Cash flows from operations:
Collection of premiums $67,831 $70,948
Payment of losses and loss
adjustment expenses (49,715) (47,146)
Payment of other underwriting
expenses (23,079) (25,494)
Investment income received 7,654 7,927
Investment expenses paid (120) (94)
Income taxes paid (665) (344)
Other cash receipts 449 99
-------- --------
Net cash provided by operations 2,355 5,896
-------- --------
Cash flows from investing activities:
Proceeds from fixed maturities
sold or matured 17,220 10,157
Purchase of fixed maturities (18,899) (13,604)
Net increase (decrease) in other
long-term investments (907) 13
Net increase in short-term
investments (112) (1,985)
Purchase of equipment, net (145) (61)
-------- --------
Net cash used in
investing activities (2,843) (5,480)
-------- --------
Cash flows from financing activities:
Funds borrowed under repurchase
agreement 945 -
Exercise of common stock options 19 606
Cash dividend on common stock (474) (474)
-------- --------
Net cash provided by
financing activities 490 132
-------- --------
Increase in cash 2 548
Cash:
Beginning of period 4 18
-------- --------
End of period $ 6 $ 566
======== ========
</TABLE>
See Notes to the Consolidated Financial Statements.
6
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MERCHANTS GROUP, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
RECONCILIATION OF NET INCOME (LOSS) TO NET CASH
PROVIDED BY OPERATIONS
(in thousands)
<TABLE>
<CAPTION>
Nine Months
Ended September 30,
-------------------
1994 1995
---- ----
<S> <C> <C>
Net income (loss) $ 703 $(4,801)
Adjustments:
Depreciation and amortization (33) 88
Realized investment (gains) losses (24) 832
(Increase) decrease in assets:
Interest due and accrued 306 215
Premiums receivable (782) (2,579)
Deferred policy acquisition costs 70 (1,228)
Ceded reinsurance balances receivable 1,334 (931)
Prepaid reinsurance premiums (40) (437)
Deferred federal income tax benefit (383) (855)
Federal income taxes receivable (645) (3,260)
Receivable from affiliate (1,606) (890)
Other assets (113) (57)
Increase (decrease) in liabilities:
Reserve for losses and loss
adjustment expenses 4,785 14,214
Unearned premiums (226) 5,024
Other liabilities (168) 958
Payable to affiliate (760) (397)
Federal income taxes payable (63) -
-------- --------
Net cash provided by operations $ 2,355 $ 5,896
======== ========
</TABLE>
See Notes to the Consolidated Financial Statements.
7
<PAGE> 8
MERCHANTS GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Principles of Consolidation and Basis of Presentation
-----------------------------------------------------
The Consolidated balance sheet as of September 30, 1995 and the related
consolidated statement of income, of changes in stockholders' equity and of cash
flows for the nine months ended September 30, 1994 and 1995 are unaudited. In
the opinion of management, the interim financial statements reflect all
adjustments necessary for a fair presentation of financial position and results
of operations. Such adjustments consist only of normal recurring items.
Interim results are not necessarily indicative of results for a full year.
The consolidated financial statements include the accounts of Merchants
Group, Inc. (the "Company"), its wholly-owned subsidiary, Merchants Insurance
Company of New Hampshire, Inc. ("MNH"), and M.F.C. of New York, Inc., an
inactive premium finance company which is a wholly-owned subsidiary of MNH.
The consolidated financial statements have been prepared in conformity
with generally accepted accounting principles ("GAAP") which differ in some
respects from those followed in reports to insurance regulatory authorities. All
significant intercompany balances and transactions have been eliminated.
2. Related Party Transactions
--------------------------
The Company and MNH do not have any paid employees. Under a management
agreement, Merchants Mutual Insurance Company ("Mutual") which owns 7.9% of the
Company's common stock at September 30, 1995, provides the Company and MNH with
the facilities, management and personnel required to manage their day-to-day
business. All underwriting, administrative, claims and investment expenses
incurred on behalf of Mutual and MNH are shared on an allocated cost basis,
determined as follows: for underwriting and administrative expenses, the
respective share of total direct premiums written for Mutual and MNH serves as
the basis of allocation; for claims expenses, the average number of outstanding
claims is used; investment expenses are shared based on each company's share of
total invested assets.
8
<PAGE> 9
3. Earnings Per Share
------------------
Primary and fully diluted earnings (loss) per share were computed by
dividing net earnings (loss) by the weighted average number of shares of common
stock outstanding during each period, increased by the assumed exercise of
23,021 and 65,164 shares of common stock options in 1995 and 1994, respectively,
which would have resulted in 6,499 and 20,242 additional primary shares
outstanding, respectively, assuming the proceeds to the Company from exercise
were used to purchase shares of the Company's common stock, at its average
market value per share during the quarter.
9
<PAGE> 10
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
Results of Operations for the Nine Months Ended September 30, 1995 As Compared
- ------------------------------------------------------------------------------
to the Nine Months Ended September 30, 1994
- -------------------------------------------
Total revenues increased by 1% from $76,377,000 for the nine months
ended September 30, 1994 to $77,471,000 for the nine months ended September 30,
1995. Net premiums earned increased $2,015,000, or 3% and net investment income
increased $285,000, or 4%. Net realized investment gains and losses decreased
from a gain of $24,000 for the nine months ended September 30, 1994 to a loss of
$832,000 for the nine months ended September 30, 1995. Other revenues decreased
$350,000 or 78%.
Net premiums earned increased by 3% from $68,519,000 in the nine months
ended September 30, 1994 to $70,534,000 in the nine months ended September 30,
1995. This increase resulted from a 10% increase in net premiums written, which
was partially offset by a lower contribution to 1995 earnings from unearned
premiums at December 31, 1994 compared to the contribution to 1994 earnings from
unearned premiums at December 31, 1993.
Net premiums written increased from $68,252,000 for the nine months
ended September 30, 1994 to $75,121,000 for the nine months ended September 30,
1995, primarily as a result of a 9% increase in direct premiums written.
Voluntary commercial lines direct premiums written increased by 9% from
$39,005,000 in the nine months ended September 30, 1994 to $42,527,000 in the
nine months ended September 30, 1995. Workers' compensation direct premiums
written increased 14%, commercial auto direct written premiums increased 8% and
multi-peril direct premiums written increased 29% in the nine months ended
September 30, 1995 compared to the nine months ended September 30, 1994.
Commercial policy retention rates for the nine months ended September 30, 1995
improved by 1.8 percentage points compared to the year earlier period.
Commercial new business units (policies which were written by the Company for
the first time) for the nine months ended September 30, 1995 increased by 5%
compared to the nine months ended September 30, 1994. Voluntary commercial lines
policies in force at September 30, 1995 increased by 3% compared to September
30, 1994.
Voluntary personal lines direct premiums written increased by 8% from
$24,140,000 in the nine months ended September 30, 1994 to $25,987,000 in the
nine months ended September 30, 1995, due to a 5% increase in private passenger
automobile ("PPA") direct premiums written and a 20% increase in homeowners
direct premiums written.
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<PAGE> 11
The growth in PPA direct premiums written was primarily the result of a
35% increase in new business units in 1995 compared to the prior year. The
growth in homeowners policies direct premiums written primarily resulted from a
30% increase in new business units in 1995 compared to 1994.
Involuntary direct premiums written, primarily involuntary PPA
insurance, which comprised 7% of total direct premiums written during both the
nine months ended September 30, 1994 and 1995, increased by 13% from $4,640,000
in the nine months ended September 30, 1994 to $5,281,000 in the nine months
ended September 30, 1995. This increase resulted from an increase in
assignments to the Company from the New York Automobile Insurance Plan and from
the Company's effort to more aggressively pursue the proper premium associated
with each assigned risk policy.
Net investment income increased by 4% from $7,385,000 for the nine
months ended September 30, 1994 to $7,670,000 for the nine months ended
September 30, 1995. Average invested assets during the nine months ended
September 30, 1995 increased 4% compared to the nine months ended September 30,
1994. On a taxable equivalent basis using statutory tax rates, net investment
income increased 1%. The percentage increase in net investment income on a
taxable equivalent basis was lower than the percentage increase in net
investment income, due to a reduction in the percentage of invested assets
allocated to tax exempt investments relative to the prior period.
The Company's investment in Signet Group PLC ("Signet") cumulative
auction rate preference shares included in other long-term investments is
carried at fair value. During the nine months ended September 30, 1995, the
Company recorded an $840,000 unrealized loss on its investment in Signet, which
is included as a component of realized investment gains and losses in the
accompanying consolidated statement of income. Previously, such unrealized gains
or losses related to Signet were recorded directly to stockholders' equity.
There were no material gains or losses realized from the sale of investments in
the nine months ended September 30, 1994 or 1995.
Other revenues decreased by 78% from $449,000 for the nine months ended
September 30, 1994 to $99,000 for the nine months ended September 30, 1995.
This decrease resulted primarily from approximately $450,000 of incremental
charge-offs related to uncollectible premiums receivable. These incremental
charge-offs related primarily to workers' compensation and contractors coverall
policies which were not renewed or which have been cancelled. These premiums
were generated primarily by the audit of insured records.
11
<PAGE> 12
Net losses and loss adjustment expenses ("LAE") increased by 14% from
$53,087,000 in the nine months ended September 30, 1994, to $60,698,000 in the
nine months ended September 30, 1995. The loss and LAE ratio increased from
77.5% in the nine months ended September 30, 1994 to 86.1% in the nine months
ended September 30, 1995.
During the second and third quarters of 1995, the Company increased its
reserve for losses and LAE related to prior accident years. As a result of
greater than expected reported loss experience through the end of the third
quarter, the Company increased its estimate for claims that occurred in 1989
through 1994 for the homeowners, businessowners, workers' compensation, and
commercial package lines of business. Partly offsetting these increases was a
reduction in the Company's estimate of automobile insurance claims that occurred
in 1993 and 1994. The net increase in the reserve for prior year losses and LAE
approximated $12,550,000 and added 17.8 percentage points to the loss and LAE
ratio in the nine months ended September 30, 1995.
Losses in the nine months ended September 30, 1994 include $3,135,000
paid to Mutual for losses relating to the 1985 through 1994 accident years on
involuntary automobile insurance policies issued under automobile insurance
plans.
Losses and LAE for the nine months ended September 30, 1994 also
included $2,400,000 of higher than normal weather related losses attributable to
severe winter weather experienced in the northeast United States during that
period. These weather related losses increased the loss and LAE ratio in the
nine months ended September 30, 1994 by 3.5 percentage points.
The ratio of the amortization of deferred policy acquisition costs and
other underwriting expenses to net premiums earned increased from 33.6% for the
nine months ended September 30, 1994 to 35.9% for the nine months ended
September 30, 1995. Other underwriting expenses for the nine months ended
September 30, 1995 included approximately $1,100,000 associated with the June
30, 1995 resignation of the Company's former Chief Executive Officer, which
amount represents the Company's portion of the payment required in accordance
with the management agreement with Mutual.
Commissions, premium taxes and other state assessments that vary
directly with the Company's premium volume represented 20.3% of net premiums
earned in the nine months ended September 30, 1995 compared to 20.7% of net
premiums earned in the nine months ended September 30, 1994.
12
<PAGE> 13
During the nine months ended September 30, 1995, the Company recorded an
income tax benefit which resulted from its pre-tax loss. The effective federal
income tax rate used to derive this benefit was based upon the Company's
estimate of its effective federal rate for all of 1995. The benefit recorded
was larger than the statutory federal income tax rate due to tax exempt income.
Results of Operations for the Three Months Ended September 30, 1995 As Compared
- -------------------------------------------------------------------------------
to the Three Months Ended September 30, 1994
- --------------------------------------------
Net premiums earned increased by 5% from $23,314,000 for the three
months ended September 30, 1994 to $24,432,000 for the three months ended
September 30, 1995. This increase resulted primarily from a 10% increase in net
premiums written during the three months ended September 30, 1995 compared to
the three months ended September 30, 1994.
Net premiums written increased by 10% from $22,937,000 for the three
months ended September 30, 1994 to $25,124,000 for the three months ended
September 30, 1995 due to a 12% increase in direct premiums written.
Net investment income increased by 6% from $2,415,000 for the three
months ended September 30, 1994 to $2,559,000 for the three months ended
September 30, 1995 primarily due to 5% increase in average invested assets. On
a taxable equivalent basis using statutory tax rates, net investment income
increased by 3%.
The loss and LAE ratio increased 17.6 percentage points from 70.0% for
the three months ended September 30, 1994 to 87.3% for the three months ended
September 30, 1995. Losses and LAE in the three months ended September 30, 1995
included an increase in the reserve for losses and LAE incurred in the 1989
through 1994 accident years in the homeowners, businessowners, workers'
compensation, and commercial package lines of business. This reserve increase
approximated $5,800,000.
The ratio of the amortization of deferred policy acquisition costs and
other underwriting expenses to net premiums earned decreased from 32.8% for the
three months ended September 30, 1994 to 32.3% for the three months ended
September 30, 1995, primarily due to the increase in earned premiums.
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Liquidity and Capital Resources
- -------------------------------
In developing its investment strategy, the Company determines a level of
cash and short-term investments which, when combined with expected cash flow, is
estimated to be adequate to meet expected cash obligations. Historically, the
excess of premiums collected over payments on claims, combined with cash flow
from investments, has provided the Company with short-term funds in excess of
normal operating demands for cash.
Net cash provided by operations increased by $3,542,000 from $2,355,000
in the nine months ended September 30, 1994 to $5,896,000 in the nine months
ended September 30, 1995. Increases in cash provided by the collection of
premiums of $3,117,000, investment income of $273,000 and by a decrease in the
payment of losses and LAE of $2,569,000 were offset by an increase in the
payment of underwriting expenses of $2,415,000.
Net cash used in investing activities increased by $2,637,000 from
$2,843,000 in the nine months ended September 30, 1994 to $5,480,000 in the nine
months ended September 30, 1995. This increase in net cash provided by
investing activities resulted primarily from a $1,873,000 increase in net cash
used to purchase short-term investments.
Net cash provided by financing activities decreased $358,000 from
$490,000 in the nine months ended September 30, 1994 to $132,000 in the nine
months ended September 30, 1995. This decrease was primarily due to a $945,000
decline in funds borrowed under repurchase agreements which was partially offset
by a $587,000 increase in cash provided by the exercise of stock options.
The Company has several objectives with respect to its investment
portfolio, which include maximizing total return while protecting policyholders'
surplus, maintaining flexibility and liquidity, and maintaining a reasonable
duration match between assets and liabilities. Like other property and casualty
insurers, the Company relies on premiums as a major source of cash, and
therefore liquidity. Cash flows from the Company's investment portfolio, either
in the form of interest or principal payments, are an additional source of
liquidity. Because the duration of the Company's investment portfolio and
liabilities are relatively matched, substantial increases or decreases in market
interest rates are not expected to have a material effect on the Company's
liquidity, or its results of operations.
14
<PAGE> 15
The Company generally designates newly acquired fixed maturity
investments as available for sale and carries these investments at fair value.
Unrealized gains and losses related to these investments are recorded as a
component of stockholders' equity. At December 31, 1994, the Company had
recorded $6,878,000 of unrealized losses, net of tax, associated with its fixed
maturity investments. During the nine months ended September 30, 1995, the
Company recorded a $4,831,000 reduction in unrealized losses, net of tax. The
reduction in unrealized losses resulted from a decline in market interest rates
during the period and from the recognition of the $840,000 unrealized loss
related to the Company's investment in Signet as a realized loss.
At September 30, 1995, the Company's bond portfolio represented 94.0% of
invested assets. Management believes that this level of bond holdings will not
adversely affect the Company's liquidity because it expects that cash receipts
from net premiums written and investment income will be sufficient to enable the
Company to satisfy its cash obligations in 1995. Furthermore, a substantial
portion of the Company's bond portfolio is invested in mortgage-backed and other
asset-backed securities, which, in addition to interest income, provide monthly
paydowns of bond principal.
At September 30, 1995, $76,238,000 or 41.7% of the Company's investment
portfolio was invested in mortgage- backed and other asset backed securities,
primarily planned amortization class ("PAC") and sequential pay collateralized
mortgage obligations ("CMO's"). A PAC-CMO has an amortization schedule that is
protected against prepayment risk under a wide range of interest rate scenarios
and is therefore less susceptible to prepayment risk than other mortgage backed
securities. The Company has not invested in the more volatile types of CMO
products such as interest only, principal only or inverse floating rate
securities. All of the Company's CMO investments have an active secondary market
and their effect on the Company's liquidity does not differ from that of other
fixed maturity investments. The Company does not own any other derivative
financial instruments such as futures or options.
At September 30, 1995, $2,587,000 or 1.4%, of the Company's investment
portfolio was invested in non-investment grade securities.
As a holding company, the Company is dependent on cash dividends from
MNH to meet its obligations and to pay any cash dividends. MNH is subject to
New Hampshire insurance laws which place certain restrictions on its ability to
pay dividends without the prior approval of state regulatory authorities. These
restrictions limit dividends to those that, when added to all other dividends
paid within the preceding twelve months, would not exceed 10% of the
15
<PAGE> 16
insurer's statutory policyholders' surplus as of the preceding December 31.
The maximum amount of dividends that MNH could pay during any twelve month
period ending in 1995 without the prior approval of the New Hampshire Insurance
Commissioner is $5,227,000. MNH paid $800,000 of dividends to the Company
during the nine months ended September 30, 1995.
Under a management agreement, Mutual provides employees, services and
facilities for MNH to carry on its insurance business on a cost reimbursed
basis. The balance in the receivable from affiliate account represents the
amount owed by Mutual to the Company for the difference between premiums
collected and payments for losses, employees, services and facilities made by
Mutual on behalf of MNH.
On November 1, 1994, Mutual filed an application with the New York
Insurance Department to convert from a mutual company to a stock corporation
under the New York law that permits a mutual insurance company to demutualize.
In such a demutualization, a mutual insurance company's policyholders and
surplus note holders are entitled to receive their equitable share of that
company's appraised fair market value in cash or securities or a combination
thereof. Mutual's application is currently pending with the Department, and
must ultimately be approved by the Department and Mutual's policyholders after
the Department has determined Mutual's fair market value based upon an
independent appraisal. The Company has advised Mutual and the Department of its
interest in sponsoring Mutual's demutualization, and Mutual has granted the
Company a right of first refusal in that regard. The Company would consider
acquiring Mutual if it determines that the appraised value is acceptable and it
has sufficient capital to fund the acquisition. In the event the Company is not
able to acquire Mutual at a price, on terms or in a time frame acceptable to the
Company, the Company may elect to develop its own management structure and
might, therefore, terminate the management agreement with Mutual, subject to its
required five year notice provision, or request that Mutual and the Department
agree to amend the management agreement. Such an amendment might include, but
not be limited to, a shortening of the termination period.
MNH, like many other property-casualty insurance companies, is subject
to environmental damage claims asserted by or against its insureds. Management
of the Company is of the opinion that based on various court decisions
throughout the country, such claims should not be recoverable under the terms of
MNH's insurance policies because of either specific or general coverage
exclusions contained in the policies. However, there is no assurance that the
courts will agree with MNH's position in every case, nor can there be assurance
that material claims will not be asserted under policies which a court will find
do not explicitly or implicitly
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<PAGE> 17
exclude claims for environmental damages. Management, however, is not aware of
any pending claim or group of claims which would result in a liability that
would have a material adverse effect on the financial condition of the Company
or MNH.
Industry and regulatory guidelines suggest that the ratio of a
property-casualty insurer's annual net premiums written to its statutory surplus
should not exceed 3 to 1. The Company has consistently followed a business
strategy that would allow MNH to meet this 3 to 1 regulatory guideline. For the
first nine months of 1995, MNH's ratio of net premiums written to statutory
surplus, annualized for a full year, was 2.2 to 1.
17
<PAGE> 18
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
-----------------
On January 31, 1995, a New York State trial court dismissed a purported
class action lawsuit which was filed in 1993 against the Company, Mutual, MNH
and the directors of the Company and of Mutual (the "defendants") on behalf of
the then minority shareholders of the Company. The Court, in granting the
defendants' motion, held that plaintiff's claims, to the extent they have any
merit, are derivative in nature. The complaint, which sought equitable relief
and unspecified money damages, alleged that the defendants breached their
fiduciary obligations to the minority shareholders of the Company, and defrauded
the minority shareholders, by causing MNH to purchase from the FDIC the surplus
note issued by Mutual and simultaneously reducing the principal amount plus
accrued return on such surplus note to $1,350,000, which is the amount MNH paid
to the FDIC for the note, and by approving the public sale of the Company's
common stock sold in July 1993 at what the plaintiff alleges was an inadequate
price. On March 31, 1995, the plaintiff filed a motion with the trial court for
permission to reargue the defendants' motion to dismiss. On September 29, 1995,
the trial court denied the plaintiff's motion to reargue. The Company and the
other defendants intend to oppose any appeal or repleading by the plaintiff.
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits
(11) Statement re computation of per share earnings
(filed herewith).
(27) Financial Data Schedule (filed herewith).
(b) Reports on Form 8-K
The Registrant filed a Form 8-K, dated July 5, 1995, which
indicated in a press release attached to the Form 8-K and
incorporated by reference under Item 5 (Other Events) that the
Registrant's Chairman, President and Chief Executive Officer had
left the Registrant on June 30, 1995, and that the Registrant had
appointed Richard E. Garman as Chairman, Brent D. Baird as
President and Robert M. Zak as Chief Operating Officer.
18
<PAGE> 19
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.
MERCHANTS GROUP, INC.
(Registrant)
Date: November 6, 1995 By: /s/ Robert M. Zak
--------------------------
Robert M. Zak
Chief Operating Officer
(duly authorized officer of the
registrant and chief accounting
officer)
19
<PAGE> 1
Exhibit 11
MERCHANTS GROUP, INC.
Computation of Income Per Share
(in thousands, except per share data)
<TABLE>
<CAPTION>
For the Three For the Nine
Months Ended Months Ended
September 30, September 30,
--------------------- ---------------------
1994 1995 1994 1995
--------- --------- --------- ---------
<S> <C>
Net income (loss) for computing
earnings per common share
without dilution and
fully diluted $1,449 $(1,996) $ 703 $(4,801)
========= ========= ========= =========
Weighted average number of common
shares outstanding - without
dilution 3,158 3,213 3,157 3,213
Addition from assumed exercise as
of the beginning of the period,
of common stock options
outstanding as of the end of the
period, reduced by the number of
shares assumed to have been
repurchased by the company with
the proceeds from exercise, at
the average market value per
share during the period 20 6 20 5
--------- --------- --------- ---------
Weighted average number of common
share and common share
equivalents outstanding 3,178 3,219 3,177 3,218
Addition from assumed exercise as
of the beginning of the period, of
common stock options outstanding as
of the end of the period, reduced
by the number of shares assumed to
have been repurchased by the
company with the proceeds from
exercise at the market value per
share as of the end of the period. - 1 - 2
--------- --------- --------- ---------
Weighted average number of common
shares and common share
equivalents outstanding, primary
and fully diluted 3,178 3,220 3,177 3,220
========= ========= ========= =========
Primary and fully diluted earnings
(loss) per share $ .46 $(.62) $ .22 $(1.49)
========= ========= ========= =========
</TABLE>
20
<TABLE> <S> <C>
<ARTICLE> 7
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1995
<PERIOD-START> JAN-01-1995
<PERIOD-END> SEP-30-1995
<DEBT-HELD-FOR-SALE> 137,585,000
<DEBT-CARRYING-VALUE> 34,037,000
<DEBT-MARKET-VALUE> 34,361,000
<EQUITIES> 0
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 182,706,000
<CASH> 566,000
<RECOVER-REINSURE> 8,563,000
<DEFERRED-ACQUISITION> 12,815,000
<TOTAL-ASSETS> 242,368,000
<POLICY-LOSSES> 118,229,000
<UNEARNED-PREMIUMS> 50,473,000
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 0
<COMMON> 32,000
0
0
<OTHER-SE> 67,409,000
<TOTAL-LIABILITY-AND-EQUITY> 242,368,000
70,534,000
<INVESTMENT-INCOME> 7,670,000
<INVESTMENT-GAINS> (832,000)
<OTHER-INCOME> 99,000
<BENEFITS> 60,698,000
<UNDERWRITING-AMORTIZATION> 19,126,000
<UNDERWRITING-OTHER> 6,219,000
<INCOME-PRETAX> (8,572,000)
<INCOME-TAX> (3,771,000)
<INCOME-CONTINUING> (4,801,000)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (4,801,000)
<EPS-PRIMARY> (1.49)
<EPS-DILUTED> (1.49)
<RESERVE-OPEN> 104,015,000
<PROVISION-CURRENT> 48,148,000
<PROVISION-PRIOR> 12,550,000
<PAYMENTS-CURRENT> 20,071,000
<PAYMENTS-PRIOR> 27,075,000
<RESERVE-CLOSE> 118,229,000
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
