1996
annual
report
The
CGI
The Commerce Group, Inc.
211 Main Street, Webster, Massachusetts 01570
<PAGE>
INDEX TO 1996 ANNUAL REPORT
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Page
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Financial Highlights............................................ 1
Letter to Stockholders.......................................... 2
Management's Discussion and Analysis of Financial Condition
and Results of Operations...................................... 4
Common Stock Price and Dividend Information..................... 15
Report of Management............................................ 16
Report of Independent Accountants............................... 17
Consolidated Balance Sheets at December 31, 1996 and 1995....... 18
Consolidated Statements of Earnings for the Years Ended
December 31, 1996, 1995 and 1994............................... 19
Consolidated Statements of Stockholders' Equity for the Years
Ended December 31, 1996, 1995 and 1994......................... 20
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1996, 1995 and 1994............................... 21
Notes to Consolidated Financial Statements...................... 22
Selected Consolidated Financial Data............................ 40
Management's Discussion of Supplemental Information on
Insurance Operations........................................... 41
Directors....................................................... 46
Officers........................................................ 48
Stockholder Information......................................... 49
</TABLE>
<PAGE>
FINANCIAL HIGHLIGHTS
(Dollars in Thousands, Except Per Share Amounts)
<TABLE>
1996 1995
1994
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<S> <C> <C>
<C>
Net premiums written........................... $ 711,570 $
603,421 $ 589,197
Earned premiums................................ $ 668,716 $
592,590 $ 572,053
Net investment income.......................... 77,402
71,313 62,901
Premium finance fees........................... 9,713
19,420 18,497
Net realized investment gains (losses)......... (7,574)
712 45,612
Total revenues........................... $ 748,257 $
684,035 $ 699,063
Earnings before income taxes................... $ 92,013 $
149,742 $ 171,988
Income taxes................................... 18,049
39,541 49,405
Net earnings............................. $ 73,964 $
110,201 $ 122,583
Net earnings per common share.................. $ 2.04 $
2.93 $ 3.23
Cash dividends paid per share.................. $ 0.81 $
0.23 $ 0.15
Weighted average number of common shares
outstanding.................................. 36,311,887
37,632,236 38,000,000
Total investments.............................. $1,027,136
$1,044,113 $ 899,546
Total assets................................... 1,676,799
1,564,175 1,382,226
Total liabilities.............................. 1,089,760
1,014,461 968,637
Total stockholders' equity..................... 587,039
549,714 413,589
Total stockholders' equity per share........... 16.28
14.96 10.88
Certain Statutory Financial Ratios (Unaudited):
Loss ratio................................... 70.9%
62.0% 64.6%
Underwriting expense ratio................... 27.1
29.0 27.1
Combined ratio........................... 98.0%
91.0% 91.7%
Net premiums written to policyholders'
surplus.................................... 153.1%
137.1% 168.5%
</TABLE>
1
<PAGE>
THE COMMERCE GROUP, INC.
March 26, 1997
To Our Stockholders:
In 1996, your Company experienced satisfactory financial results
for the 21st consecutive year. From the very first day the funding of
The Commerce Insurance Company was accomplished (April 3, 1972), through
December 31, 1996, we have achieved underwriting profit of $202.6
million on total premiums written of $5.3 billion. This underwriting
profit represents 3.9% of total premiums written. These results
continue to stand out in a year that brought change and innovation to
our industry.
In Massachusetts, the personal automobile insurance industry saw
the 1997 state mandated auto insurance rates drop for the third
consecutive year this past January. Coupled with affinity group
marketing programs and safe driver rate deviations, the Massachusetts
marketplace has become extremely competitive. In spite of these
conditions, your Company saw its share of the Massachusetts personal
automobile market increase to 20.8% in 1996 versus 16.4% at the end of
1995.
In California, Western Pioneer Insurance Company has completed its
first full year as a subsidiary of The Commerce Insurance Company with
stable results and a bright future. Plans have been implemented to
strengthen the agency force and establish an attractive but competitive
rate structure.
Looking to the future, your Company was granted licenses in the
states of Connecticut, Rhode Island and Vermont. In addition,
applications were filed and are pending in the states of Maine and New
Hampshire. Through new technology and internal operating systems, we
envision beginning expansion into these states during the latter part of
1997.
Through it all, your Company has continued to grow and prosper.
The Commerce Insurance Company continues to be the largest writer of
Massachusetts private passenger automobile insurance, as well as the
second largest writer of Massachusetts homeowners insurance. Written
premium, earned premium, investment income, total assets, total
stockholders' equity and total stockholders' equity per share, as
illustrated in the bar graph on the facing page, are all at new highs.
For those of you who are interested in the details, I draw your
attention to the pages in this report labeled "Management's Discussion
and Analysis of Financial Condition and Results of Operations". Behind
these numbers are an extremely dedicated group of people, both in
Massachusetts and California: Our Policyholders (represented by over
738,000 policies in force); Agents (672); Employees (1,350); Officers
(31); Directors (19); and of course, our Stockholders (over 3,800) not
including our Employee Stock Ownership Plan participants who now number
1,385).
Property-liability insurance remains a good business to be in--and
The Commerce Group, Inc. will continue its efforts to be one of the most
profitable long-term players. Your Company's management continues to
believe that owners' interests are its primary constituency.
Our sincere thanks to those who have helped in this building
process--especially our Agents, Employees, Officers and Board of
Directors. This diverse force of committed, ethical and professional
people will continue to build on our past successes and look to the
future with excitement and opportunity. Their individual creativity,
energy and professionalism will continue to serve our shareholders well.
Your comments or questions regarding this report, or The Commerce
Group, Inc. affairs in general, are solicited as always, at any time.
Arthur J.
Remillard, Jr.
President
Caring in everything we do.
2
<PAGE>
The bar graph on page 3 illustrates the Company's annual total
stockholders' equity per share value and annual total stockholders'
equity per share value including cumulative cash dividends paid per
share on December 31, over the most recent fifteen year period. The X
axis lists the years beginning with 1982 through 1996. The Y axis lists
the dollar values starting at $0.00 and increasing in one dollar
increments to $18.00. The graph depicts a total stockholders' equity
per share value in 1982 of $0.38; 1983 of $0.50, 1984 of $0.67, 1985 of
$0.81, 1986 of $0.95, 1987 of $1.40, 1988 of $1.95, 1989 of $2.53, 1990
of $3.36, 1991 of $4.80, 1992 of $7.42, 1993 of $10.09, 1994 of $10.88,
1995 of $14.96, and 1996 of $16.28. The graph also depicts the total
stockholders' equity per share value including and cumulative dividends
paid per share in 1983 of $0.50, 1984 of $0.67, 1985 of $0.81, 1986 of
$0.95, 1987 of $1.40, 1988 of $1.95, 1989 of $2.53, 1990 of $3.36, 1991
of $4.80, 1992 of $7.42, 1993 of $10.09, 1994 of $11.03, 1995 of $15.34
and 1996 of $17.47.
3
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Thousands of Dollars Except Per Share Data)
General
The property and casualty industry has been highly cyclical in
nature. The financial results of property and casualty insurance
companies are impacted both quarterly and annually by many forces unique
to the market. Market forces include the frequency and severity of
losses resulting from weather conditions, the state of the economy and
the general regulatory environment in those states in which an insurer
operates. Until 1995, The Commerce Group, Inc. (the "Company") wrote
insurance solely in the State of Massachusetts. During 1995, the
Company began operations in the State of California when it completed
the acquisition of Western Pioneer Insurance Company ("Western
Pioneer"), a personal automobile insurer located in Pleasanton,
California, on August 31, 1995.
The Company's business strategy remains focused on activities
primarily related to personal automobile insurance. The Company has
been the largest writer of personal property and casualty insurance in
the state of Massachusetts in terms of market share of direct premiums
written since 1990. The Company's share of the Massachusetts personal
automobile market increased in 1996 to approximately 20.8% from 16.4% in
1995.
During 1996, direct premiums written totalled $731,823, a 16.8%
increase over 1995. Direct premiums written in Massachusetts, written
through The Commerce Insurance Company ("Commerce") and Citation
Insurance Company ("Citation") both wholly-owned subsidiaries of
Commerce Holdings, Inc. ("CHI"), which is a wholly-owned subsidiary of
the Company, amounted to $704,439. Direct premiums written in
California, written through Western Pioneer, a wholly-owned subsidiary
of Commerce, amounted to $27,384. Of the total direct premiums written,
direct personal automobile premiums written during 1996 totalled
$622,849, an increase of 21.0% over 1995, and direct homeowners
insurance premiums written totalled $52,377, an increase of 4.2% over
1995. The Company is also the fourth largest writer of commercial
automobile insurance in Massachusetts based on direct premiums written.
During 1996, direct commercial automobile premiums written totalled
$40,441, a 10.5% decrease compared to 1995.
Personal automobile insurance is subject to extensive regulation
in Massachusetts and California. Every owner of a registered automobile
is required to maintain certain minimum automobile insurance coverages.
In Massachusetts, with very limited exceptions, automobile insurers
operating within those states are required by law to issue a policy to
any applicant seeking to obtain such coverages. Marketing and
underwriting strategies for companies operating in Massachusetts are
limited by maximum automobile premium rates and minimum agency
commission levels for personal automobile insurance which are mandated
by the Massachusetts Commissioner of Insurance ("Commissioner"). In
Massachusetts, accident rates, bodily injury claims, and medical care
costs continue to be among the highest in the nation.
During the three-year period from 1994 to 1996, Massachusetts
personal automobile insurance premium rates decreased an average of 2.6%
per year. The Commissioner approved an average 6.2% decrease in
personal automobile premiums for 1997, the third decrease in three
years, as 1996 average rates were cut by 4.5%, and 1995 average rates
were decreased by 6.1%. According to the Commissioner's office, the
current rate environment is the result of continued consumer cooperation
by driving safely, obeying traffic laws, reporting fraud, wearing
seatbelts and individuals locking their autos.
Also, the 1997 decrease was partially driven by corrections to an
industry error impacting prior year rate decisions. The industry error
resulted from a miscalculation of industry expense allowances that had
the effect of overstating rates for 1991 through 1996. Rates for 1997
include an adjustment to recoup this error from the industry equal to
40% of the error with 40% reducing 1998 rates and 20% reducing 1999
rates.
4
<PAGE>
Additionally, 1997 rates were decreased as a result of the
reconciliation of the Safe Driver Insurance Plan ("SDIP") which is
designed to be revenue neutral. In most recent past years, the SDIP
reconciliation resulted in a deficit which was then added into the rates
for the subsequent years. The 1996 SDIP reconciliation, however,
resulted in a surplus. Fifty percent of this surplus is being used to
decrease rates in both 1997 and 1998.
The Company has performed an analysis of the rate decision and has
estimated the impact of the above two items on its results assuming its
market share remains the same as it was at the end of 1996. The earned
premium impact is estimated to be approximately $15.3 million for 1997,
$23.0 million for 1998 and $13.5 million for 1999. The earnings per
share after-tax impact resulting from lower earned premiums for 1997,
1998 and 1999 is estimated to be $0.28, $0.41 and $0.23, respectively.
If the Company's future market share increases (decreases), a larger
(smaller) financial impact would result.
The Automobile Insurers Bureau of Massachusetts ("AIB") has filed
an appeal with the Massachusetts Supreme Judicial Court challenging the
Commissioner's decision to prospectively decrease future rates for the
miscalculation of the industry expense allowance. (The SDIP
reconciliation component is not being challenged.) The AIB's argument
is that, according to statute, there is a prohibition against
retroactive rate making in Massachusetts which effectively bars the
examination of past year's data once all involved parties have agreed to
the rate decision. One insurer has filed a suit with the Massachusetts
Supreme Judicial Court alleging that the prospective nature of the rate
reduction will have an unfair adverse impact on it. This is due to the
fact that the company filing suit believes it should not be adversely
impacted solely because its market share is greater now than during
those years in which the errors occurred. It is not possible to predict
the outcomes of these legal actions or the potential effects thereof on
the Company.
In addition, the Massachusetts Association of Insurance Agents
("MAIA") has also filed a suit with the Massachusetts Supreme Judicial
Court with respect to the Commissioner's ruling on 1997 commissions.
The Commissioner ruled that agents' commissions on 1997 premiums,
subject to safe driver deviations, will be based on the discounted net
premium amounts. The 1996 commissions were based on the gross premium
amounts. The Commissioner's ruling will result in agents receiving
fewer commission dollars on a per policy basis. The Company is unable
to predict the possible outcome of this suit at this time.
The Company's performance in its personal and commercial
automobile insurance lines is integrally tied to its participation in
the Commonwealth Automobile Reinsurers ("C.A.R."). All companies
writing automobile insurance in Massachusetts share in the underwriting
results of C.A.R. business for their respective product line or lines.
Since its inception, C.A.R. has annually generated multi-million dollar
underwriting losses in both its personal and commercial automobile
pools. A company's proportionate share of the C.A.R. personal or
commercial deficit (its participation ratio) is based upon its market
share of the automobile risks for the particular pool, adjusted by a
utilization formula such that, in general, its participation ratio is
disproportionately and adversely affected if its relative use of C.A.R.
exceeds that of the industry, and favorably affected if its relative use
of C.A.R. is less than that of the industry. Automobile insurers
attempt to develop and implement underwriting strategies that will
minimize their relative share of the C.A.R. deficit while maintaining
acceptable loss ratios on risks not insured through C.A.R.
Significant changes in the utilization of the C.A.R. private
passenger pooling mechanism are not expected for 1997, as the various
C.A.R. participation formula changes have been fully implemented since
1993. The marketplace is expected to make minor yearly adjustments to
find the optimum balance between voluntary and ceded writings.
5
<PAGE>
Starting in 1991, and concluding in 1995, reforms were implemented
into the C.A.R. commercial automobile pooling mechanism. The primary
change was the gradual phase-in of a C.A.R. commercial utilization-based
participation formula, so as to reduce the percentage of commercial
business being ceded to C.A.R. The percentage of commercial premiums
ceded to C.A.R. by the industry has decreased (from 56% in 1990 to
approximately 31% in 1996, as estimated by the Company). This also
resulted in significant decreases in the percentage of commercial
automobile business ceded to C.A.R. by the Company, from 68% in 1990 to
approximately 32% in 1996. Continued industry-wide gradual decreases in
the percentage of ceded commercial premiums are expected for 1997, as
companies look to increase their voluntary retention levels.
The Company intends to continue to respond to the incentives and
disincentives provided by C.A.R. rules, by further adjusting the
percentage of personal and commercial business ceded to C.A.R. in 1997.
The Company provides a separate rating tier for preferred
commercial automobile business through Citation. Approximately 22% of
the commercial automobile premium produced by its voluntary agents in
1996 was written by Citation. The Company expects that this secondary
rating tier will continue to assist the Company in retaining its better
commercial automobile accounts, while also further increasing the
percentage of commercial automobile business that can be retained
voluntarily by the Company in 1997 and beyond.
Beginning in the latter part of 1995, the Company began to
actively pursue group marketing programs. The primary purpose of group
marketing programs is to provide participating groups with a convenient
means of purchasing automobile insurance through associations and
employee groups. Billing is primarily through direct billing with
payroll deduction available. Emphasis is placed on writing larger
groups, although accounts with as few as 25 participants are considered.
Groups are eligible for rate discounts which must be filed annually with
the Division of Insurance. In general, the Company looks for groups
with mature/stable membership, favorable driving records and below
average turnover ratios. Participants who leave the sponsoring group
during the term of the policy are allowed to maintain the policy until
expiration. At expiration, a regular Commerce policy may be issued at
the insured's option.
During the latter part of 1995, Commerce signed group marketing
agreements with the five American Automobile Association Clubs of
Massachusetts ("AAA clubs") offering a 10% discount on automobile
insurance to the clubs' members who reside in Massachusetts. Membership
in these clubs is estimated to represent approximately one-third of the
Massachusetts motoring public, and has been the primary reason for a
29.8% increase in the number of personal automobile exposures written by
Commerce. In addition, in 1996, total direct premiums written
attributable to the AAA group business was $344,297 or 47% of the
Company's total direct premiums written. Of this amount, 9% was written
through the AAA clubs and 91% was written through the Company's network
of independent agents.
Initially, the Massachusetts statute, governing group marketing
programs, required that 35% of the eligible members must participate in
a group marketing program within the first year. Accordingly, Commerce
and AAA aggressively pursued AAA members for the AAA Group Marketing
Program. At December 31, 1996, Commerce had achieved the objective of
writing more than 35% of the AAA members within the first year, as over
300,000 AAA members joined the program. The particular portion of the
statute, dealing with achieving the 35% penetration level in one year,
was amended by the Legislature in early 1997 to allow two years to reach
the required penetration level. In 1997, Commerce and AAA intend to
continue to increase the penetration of the eligible AAA membership.
Commerce and the AAA clubs have agreed that Commerce shall be
their exclusive underwriter of Massachusetts personal automobile group
programs. This contract may be terminated by the AAA clubs upon written
notice to Commerce, whose termination shall take effect at a minimum of
three years from notice of termination.
6
<page
During 1996, the Company was granted licenses in the states of
Connecticut and Rhode Island. License approval in the state of Vermont
was received in January 1997. Applications for licenses were filed by
the Company and are pending in the states of Maine and New Hampshire.
Concurrent with these filings, the Company has entered into an agreement
with Policy Management Services Corporation ("PMSC") and has purchased
software which will allow for the development of internal operating
systems which will enable the Company to process policies in these five
states and Massachusetts. Additionally, a significant investment in new
computer hardware is being made to support this effort. These systems
are not scheduled to be in place for the contiguous states until the
latter part of 1997 and, as a result, Management is not expecting to
start marketing in the states contiguous to Massachusetts until that
time.
Underwriting profit margins are reflected by the extent to which
the combined ratio is less than 100%. This ratio is considered the best
simple index of current underwriting performance of an insurer. During
the five year period ended December 31, 1996, the property and casualty
industry's combined ratio, as reported by A.M. Best and weighted to
reflect the Company's product mix ("weighted industry average"), has
ranged from a low of 102.5% in 1995 to a high of 107.4% in 1992
(including the impact of Hurricane Andrew) on a statutory accounting
principles basis. During this same period of time, the Company's
combined ratio has consistently remained below the weighted industry
average, ranging from as low as 91.0% in 1995 to a high of 98.0% in
1996. On an average basis, the Company's combined ratio was 93.9% for
the five year period ended December 31, 1996 compared to a weighted
industry average of 103.8%.
The Company's total revenues were supplemented in fiscal 1996,
1995 and 1994 by net investment income of $77,402, $71,313 and $62,901,
respectively. Additionally, the Company had realized investment losses
in 1996 of $7,574 and realized investment gains in 1995 and 1994 of $712
and $45,612, respectively.
Regulatory Matters
Automobile insurance reform continues to be debated in the
Massachusetts Legislature. New regulations and legislation are often
proposed with the goal of reducing the need for premium increases. For
further details, please refer to the general discussion on insurance
regulation and premium rates beginning on page 4.
As previously mentioned, in 1995, the Company received approval to
offer 10 percent group discounts to members of the AAA clubs as
previously described. Membership in these clubs is estimated to
represent approximately one-third of the Massachusetts motoring public.
The Company increased its Massachusetts private passenger automobile
insurance writings by 17.5% in 1996 primarily as a result of this
program, ending the year with approximately 20.8% of the Massachusetts
private passenger automobile market as compared to 16.4% in 1995.
Also in 1995, the Company received state regulatory approval to
eliminate interest based premium finance fees on new and renewal
personal automobile insurance policies with effective dates on or after
January 1, 1996. As a result, premium finance fees as a source of the
Company's revenues have been reduced by 50.0% in 1996. As policies
effective in 1995 favorably impacted finance fee income in 1996, the
full effect of the elimination will not be felt until 1997 with the
expectation of further reductions. The change was initiated in direct
response to competitive forces that occurred in the Massachusetts
marketplace.
In January, 1996, the Company was granted approval, for the 1996
calendar year, to offer their customers safe driver deviations of 10
percent to drivers with SDIP classifications of either Step 9 or 10.
These are the two best driver SDIP classifications in Massachusetts,
representing drivers with no at fault accidents and not more than one
minor moving vehicle violation in the last six years. For drivers that
qualify, the Company's automobile discounts and SDIP deviations can be
combined for up to a 19% reduction from the state mandated rates. In
March 1997, approval of SDIP deviations was granted for the 1997
calendar year.
7
<page
In May, 1996, state legislation was passed offering insurers
incentives to write more inner city and coastal homeowners insurance.
The legislation, which arose over concerns of availability and
allegations of redlining, expands coverages and provides various credits
under the Massachusetts Property Insurance Underwriting Association
("Massachusetts Fair Plan"). The Company is considering its
alternatives and expects the legislation to stimulate increased
availability of homeowners insurance in the areas mentioned previously.
Although the U.S. federal government does not directly regulate
the insurance industry, federal initiatives often have an impact on the
business. Congress and certain federal agencies are investigating the
current condition of the insurance industry (encompassing both life and
health and property and casualty insurance) in the United States in
order to decide whether some form of federal role in the regulation of
insurance companies would be appropriate. Congress is continuing to
conduct a variety of hearings relating, in general, to the solvency of
insurers and federal legislation has been proposed from time to time on
this and other subjects. The Company is unable to predict whether or in
what form initiatives will be implemented and what the possible effects
on the Company would be.
In December 1996, a United States District Court, acting on a suit
filed in October 1996, ordered the Massachusetts Division of Insurance
to disregard the existing stated ban on bank sales of life, health and
accident insurance. The decision cited U.S. Supreme Court decisions in
the Barnett and VALIC cases that essentially preempt the State of
Massachusetts ban on the licensing of bank-owned insurance agencies.
Also, in December 1996, a bill was filed in the Massachusetts
Legislature that would allow banks to become licensed agents of an
insurance company or brokers of insurance, permitting such things as the
sale of insurance products in distinctly designated bank branch areas
separate and apart from retail deposit areas. The Company is unable to
predict the possible impacts of these issues at this time.
Congressional initiatives directed at repeal of the McCarran-
Ferguson Act (which exempts the "business of insurance" from certain
federal laws, including antitrust laws, to the extent it is subject to
state regulation) and judicial decisions narrowing the definition of
"business of insurance" for McCarran-Ferguson Act purposes may limit the
ability of insurance and reinsurance companies in general to share
information with respect to rate-setting, underwriting and claims
management practices. It is not possible to predict the outcome of any
such congressional activity or the potential effects thereof on the
Company.
Beginning in 1994 and continuing through 1996, there was increased
debate in the U.S. Congress regarding reforms to the Superfund law, the
federal mechanism designed to clean-up toxic waste sites, as well as the
nation's environmental and pollution policy in general. Management
believes that, because of the types of business written by the Company,
the outcome of the Superfund debate will not significantly affect the
Company.
In order to enhance the regulation of insurer insolvency, the
National Association of Insurance Commissioners ("NAIC") developed a
formula and model law to implement Risk-Based Capital ("RBC")
requirements for property and casualty insurance companies which are
designed to assess capital adequacy and to raise the level of protection
that statutory surplus provides for policyholder obligations. The RBC
model for property and casualty insurance companies measures three major
areas of risk facing property and casualty insurers: (i) underwriting,
which encompasses the risk of adverse loss development and inadequate
pricing; (ii) declines in asset values arising from credit risk; and,
(iii) other business risks from investments. Insurers having less
statutory surplus than required by the RBC calculation will be subject
to varying degrees of regulatory action, depending on the level of
capital inadequacy.
8
<PAGE>
The Company's subsidiaries, Commerce and Citation, have RBC
amounts at December 31, 1996 of $52 million and $4 million,
respectively, and they have statutory surplus of approximately $394
million and $71 million, respectively. The statutory surplus of
Commerce and Citation at December 31, 1996 exceeded the RBC Company
Action Levels of $103 million and $8 million by approximately $291
million and $63 million. The RBC model formula proposes four levels of
regulatory action. The extent of regulatory intervention and action
increases as the level of surplus to RBC falls. The first level, the
Company Action Level, requires an insurer to submit a plan of corrective
actions to the regulator if surplus falls below 200% of the RBC amount.
The Regulatory Action Level (as defined by the NAIC) requires an insurer
to submit a plan containing corrective actions and permits the
Commissioner to perform an examination or other analysis and issue a
corrective order if surplus falls below 150% of the RBC amount. The
Authorized Control Level (as defined by the NAIC) allows the regulator
to rehabilitate or liquidate an insurer in addition to the
aforementioned actions if surplus falls below 100% of the RBC amount.
The fourth action level is the Mandatory Control Level (as defined by
the NAIC) which requires the regulator to rehabilitate or liquidate the
insurer if surplus falls below 70% of the RBC amount.
Year Ended December 31, 1996 Compared to Year Ended December 31, 1995
Direct premiums written during 1996 increased $105,157, or 16.8%
to $731,823 as compared to 1995. The increase was primarily
attributable to a $108,212, or 21.0% increase in direct premiums written
for personal automobile insurance to $622,849. This increase was the
result of an $88,527 increase in direct premiums written for
Massachusetts personal automobile insurance and an increase of $19,685
which was derived from the Company's California subsidiary, Western
Pioneer, which was acquired August 31, 1995. The increase in
Massachusetts personal automobile direct premiums written resulted
primarily from an increase of 29.8% in the number of personal automobile
exposures written, offset by a 9.2% decrease in the average personal
automobile premiums written per exposure (each vehicle insured). This
was primarily the result of the Company's affinity group marketing
programs, safe driver rate deviations and the effect of the 1996 state
mandated average rate decrease of 4.5%. In January 1996, the Company
was granted approval to offer their customers safe driver deviations of
10%. For drivers who qualify, the Company's group discount and safe
driver deviations can be combined for up to a 19% reduction from state
mandated rates. Direct premiums written for commercial automobile
insurance decreased by $4,763, or 10.5%, due primarily to a decrease of
approximately 5.6% in the number of policies written, with the remainder
due to a decrease in the average commercial automobile premium per
policy. Direct premiums written for homeowners insurance (excluding the
Massachusetts Fair Plan) increased by $1,926, or 4.0% due primarily to
an increase in the number of policies written.
Net premiums written during 1996 increased $108,149, or 17.9% as
compared to 1995. The increase in net premiums written was due to the
growth in direct premiums written as described above, as well as to the
effects of reinsurance. Written premiums assumed from C.A.R. increased
$1,454, or 1.6% and written premiums ceded to C.A.R. increased $47 as
compared to 1995, both as a result of changes in the industry's and the
Company's utilization of C.A.R. reinsurance. Premiums ceded to
reinsurers other than C.A.R. decreased $1,602 or 4.9% as compared to
1995.
Earned premiums increased $76,126 or 12.8% during 1996 as compared
to 1995. The increase in earned premiums was primarily due to changes
in direct premiums written and net premiums written as described above.
Earned premiums assumed from C.A.R. increased $1,860 or 2.1% during 1996
compared to 1995. Earned premiums attributable to Western Pioneer
increased $18,794 to $27,628 for 1996 compared to $8,834 for the four
months ended December 31, 1995. The Company acquired Western Pioneer on
August 31, 1995.
Net investment income increased $6,089, or 8.5%, compared to 1995,
principally as a result of an increase in average invested assets (at
cost) of 6.5% when compared to the year ended 1995. Net investment
income as a percentage of total average investments was 7.3% in 1996
compared to 7.2% in 1995.
9
<page
Premium finance fees decreased $9,707 or 50.0% during 1996. The
decrease was primarily attributable to a change from interest based
finance fees to a "late payment" based system for personal automobile
policies with effective dates of January 1, 1996 and forward. The
change was initiated in direct response to competitive forces that
occurred in the Massachusetts marketplace.
The market value of the Company's property and casualty investment
portfolio totaled $1,027,136, at December 31, 1996 compared to
$1,044,113 at December 31, 1995. Management's investment philosophy is
to emphasize investment yield while maintaining investment quality.
Fixed maturities comprised 69.8% of the portfolio at December 31, 1996
compared to 78.1% at December 31, 1995. Equity investments comprised
22.8% at December 31, 1996 compared to 14.5% at December 31, 1995.
The market value of the fixed maturities, which totaled $716,702
at December 31, 1996, is comprised of 68.5% tax-exempt and 31.5% taxable
investments as compared to total fixed maturities of $815,277, comprised
of 72.8% tax-exempt and 27.2% taxable investments at December 31, 1995.
The market value of equity investments, which totaled $233,721 at
December 31, 1996, is comprised of 63.2% preferred stocks and 36.8%
common stocks as compared to total equity investments of $151,579,
comprised of 73.4% preferred stocks and 26.6% common stocks at December
31, 1995. The increase of equity investments and decrease of fixed
maturities at December 31, 1996 compared to December 31, 1995 is
primarily attributable to a change in the mix of investments from
municipal bonds to higher yielding preferred stocks and preferred stock
mutual funds.
Gross realized gains and losses on fixed maturity investments
amounted to $487 and $7,851, respectively, for the year ended December
31, 1996 compared to gross realized gains and losses on fixed maturity
investments of $2,389 and $1,912, respectively, for the year ended
December 31, 1995. Gross realized gains and losses on equity
investments amounted to $478 and $371, respectively, for the year ended
December 31, 1996 compared to gross realized gains and losses on equity
investments of $984 and $579, respectively, for the year ended December
31, 1995. Net realized investment losses totalled $7,574 during 1996 as
compared to net realized investment gains of $712 for 1995. The realized
gains in 1996 were primarily the result of sales of municipal bonds and
common stocks, offset by realized losses on sales of Government National
Mortgage Association ("GNMA") mortgage backed bonds, municipal bonds and
preferred stocks. Also included were realized losses on mortgage
activity of $317 in 1996 compared to $215 in 1995.
Gross unrealized gains and losses on fixed maturity investments
totalled $17,890 and $1,699, respectively, at December 31, 1996 compared
to gross unrealized gains and losses on fixed maturity investments of
$18,626 and $4,657, respectively, at December 31, 1995. The unrealized
gain on fixed maturities remained fairly consistent with 1995 as a
result of stable interest rates during 1996. Gross unrealized gains and
losses on equity investments totaled $22,339 and $3,024, respectively,
at December 31, 1996 compared to gross unrealized gains and losses on
equity investments of $13,430 and $2,008, respectively, at December 31,
1995. The increase in unrealized gain on equity investments was
primarily due to the increase in equity investments, as described
earlier, and the performance of the stock market during 1996 favorably
impacting the market values of common stocks.
Losses and loss adjustment expenses ("LAE") incurred as a
percentage of insurance premiums earned ("loss ratio") was 70.9% in 1996
compared to 62.0% in 1995. The ratio of net incurred losses, excluding
LAE, to premiums earned ("pure loss ratio") on personal automobile
increased to 63.9% in 1996 compared to 56.6% in 1995. This increase was
primarily due to the adverse impact of severe weather conditions
experienced in the northeast during the first half of 1996, adverse loss
experience on personal automobile business assumed from C.A.R. and a
decrease in the personal automobile average earned premium per exposure
of approximately 7.9%. This decrease was due to the effects of affinity
group marketing programs, safe driver rate deviations and the 1996 state
mandated average rate decrease of 4.5%. These factors were offset by
improved loss development during 1996. The commercial automobile pure
loss ratio decreased to 46.7% in 1996 compared to 57.4% in 1995. This
decrease was primarily due to improved loss experience on commercial
automobile business assumed from C.A.R. and better loss development on
voluntary business. For homeowners, the pure loss ratio increased to
72.4% in 1996 compared to 49.6% in 1995. This increase was due
primarily to the severe weather during the first half of 1996, compared
to the mild weather experienced during 1995.
10
<PAGE>
Policy acquisition costs increased by 8.6% in 1996, compared to
5.9% in 1995. This increase was primarily due to the increase in net
premiums written as described previously, offset by a decrease of $9.5
million in the agents profit sharing compensation resulting from the
impact of adverse weather conditions on the Company's loss ratio and the
impact of affinity group marketing service fee income. Agents' profit
sharing compensation is based, in part, on the underwriting profits of
agency business written with the Company. As a percentage of net
premiums written, underwriting expenses (on a statutory basis) were
27.1% for 1996, compared to 29.0% in 1995. This decrease was primarily
attributable to the reasons as mentioned above.
The Company's effective tax rate was 19.6% and 26.4% for the years
ended December 31, 1996 and 1995, respectively. In both years the
effective rate was lower than the statutory rate of 35% primarily due to
tax-exempt interest income. The lower 1996 effective tax rate was
primarily due to tax-exempt interest income comprising a higher
percentage of net income before taxes, the dividends received deduction
and lower capital gains in 1996 versus 1995.
Net earnings decreased $36,237 to $73,964 or 32.9%, during 1996 as
compared to net earnings of $110,201 in 1995, as a result of the factors
previously mentioned.
Year Ended December 31, 1995 Compared to Year Ended December 31, 1994
Direct premiums written during 1995 increased $1,643, or 0.3% to
$626,666 as compared to 1994. The increase was primarily attributable
to a $2,612, or 0.5% increase in direct premiums written for personal
automobile insurance to $514,637. This increase resulted from direct
premiums written of $7,592, for the four months ended December 31, 1995
from Western Pioneer, offset by a decrease in personal automobile direct
premiums written by Commerce of $4,980, or 1.0%, compared to 1994. This
decrease resulted primarily from a 3.6% decrease in the average personal
automobile premiums written per exposure (each vehicle insured). This
was a direct result of the impact on Commerce's business of the 6.1%
overall average rate decrease in the Massachusetts insurance industry's
1995 personal automobile premiums approved by the Commissioner. This
was partially offset by a 2.6% increase in the number of personal
automobile exposures written. Direct premiums written for commercial
automobile insurance decreased by $1,251, or 2.7% due primarily to a
4.9% decrease in the number of policies written, partially offset by a
2.2% increase in the average commercial automobile premium per policy.
Direct premiums written for homeowners insurance (excluding the
Massachusetts Fair Plan) increased by $1,021, or 2.2% due primarily to a
4.6% increase in the average premium per homeowners policy, partially
offset by a 2.4% decrease in the number of policies written.
Net premiums written during 1995 increased $14,224, or 2.4% as
compared to 1994. The increase in net premiums written was due to the
growth in direct premiums written as described above, as well as to the
effects of reinsurance. Written premiums assumed from C.A.R. decreased
$1,536, or 1.6% and written premiums ceded to C.A.R. decreased $17,769,
or 17.7% as compared to 1994, as a result of changes in the industry's
and the Company's utilization of C.A.R. reinsurance. Premiums ceded to
reinsurers other than C.A.R. increased $3,652, or 12.6% as compared to
1994.
Earned premiums increased $20,537, or 3.6% during 1995 as compared
to 1994. Motor vehicle premiums earned increased $17,959, or 3.4%
compared to 1994 including earned premiums assumed from C.A.R. which
increased $12,777, or 16.4%. Earned premiums also increased $2,578, or
6.3% on all other business.
Net investment income increased $8,412, or 13.4%, compared to
1994, principally as a result of an increase in average invested assets
(at cost) of 12.0% when compared to the year ended 1994. Net investment
income as a percentage of total average investments was 7.2% in 1995
compared to 7.0% in 1994.
11
<PAGE>
Premium finance fees increased $923, or 5.0%, to $19,420 in 1995
compared to 1994. The increase was primarily attributable to the net
effect of the increase in policies on direct bill and changes in the
direct bill payment program, offset by decreases in direct premiums
written and premium finance fees refunded due to the personal automobile
rate decrease.
Gross realized gains and losses on fixed maturity investments
amounted to $2,389 and $1,912, respectively, for the year ended December
31, 1995 compared to gross realized gains and losses on fixed maturity
investments of $9,696 and $2,310, respectively, for the year ended
December 31, 1994. Gross realized gains and losses on equity
investments amounted to $984 and $579, respectively, for the year ended
December 31, 1995 compared to gross realized gains and losses on equity
investments of $36,845 and $73, respectively, for the year ended
December 31, 1994. Net realized investment gains totalled $712 during
1995 as compared to $45,612 for the same period in 1994. The realized
gains in 1995 were primarily the result of sales of municipal bonds and
preferred stocks, offset by realized losses on sales of GNMAs and common
stocks. Included in the net realized gains for 1994 was $34,287
realized on the sale of common stock in three New England area bank
holding companies. These bank holding companies were acquired by other
banks in 1994. Also included were realized losses on mortgage activity
of $215 in 1995 compared to $1,203 in 1994.
Gross unrealized gains and losses on fixed maturity investments
totalled $18,626 and $4,657, respectively, at December 31, 1995 compared
to gross unrealized gains and losses on fixed maturity investments of
$1,233 and $57,599, respectively, at December 31, 1994. The unrealized
gain on fixed maturities was the result of a decline in interest rates
during 1995 favorably impacting market values. Gross unrealized gains
and losses on equity investments totaled $13,430 and $2,008,
respectively, at December 31, 1995 compared to gross unrealized gains
and losses on equity investments of $2,287 and $11,174, respectively, at
December 31, 1994. The increase in unrealized gain on equity
investments was primarily due to the performance of the stock market
coupled with declining interest rates during 1995 favorably impacting
the market values of common stocks.
The loss ratio was 62.0% in 1995 compared to 64.6% in 1994. The
personal automobile pure loss ratio increased to 56.6% compared to 54.3%
in 1994. This increase was primarily due to adverse loss experience on
personal automobile business assumed from C.A.R., partially offset by
improved loss experience in the liability component of the personal
automobile book of business. The commercial automobile pure loss ratio
decreased to 57.4% compared to 58.4% in 1994. This decrease was
primarily due to improved loss experience on commercial automobile
business assumed from C.A.R. For homeowners, the pure loss ratio
decreased to 49.6% compared to 91.8% in 1994. This decrease was due
primarily to the relatively mild weather during 1995, compared to the
adverse weather experienced during 1994, especially during the first
quarter of 1994.
Policy acquisition costs increased by 5.9% in 1995, compared to
4.8% in 1994. This increase was due to an increase in the accrual for
agents profit sharing compensation as a result of the impact of the mild
weather during 1995 on the Company's loss ratio. Agent's profit sharing
compensation is based in part on the underwriting profits of agency
business written by the Company. In addition, the Commissioner approved
an increase in the 1995 commission rate for personal automobile to 15.3%
compared to 13.5% in 1994, which also had the effect of increasing
policy acquisition costs.
The Company's effective tax rate was 26.4% and 28.7% for the years
ended December 31, 1995 and 1994, respectively. In both years the
effective rate was lower than the statutory rate of 35% primarily due to
tax-exempt interest income. The lower 1995 effective tax rate was due
to the higher amount of tax-exempt interest income coupled with lower
capital gains in 1995 versus 1994.
While net earnings decreased $12,382, during 1995 as compared to
an increase of $47,267 during 1994, net earnings exclusive of the after
tax impact of net realized investment gains increased $16,803. These
changes were the result of the factors previously mentioned.
12
<page
Liquidity and Capital Resources
The focus of the discussion of liquidity and capital resources is
on the Consolidated Balance Sheets on page 18 and the Consolidated
Statements of Cash Flows on page 21. Stockholders' equity increased by
$37,325, or 6.8%, in 1996 as compared to 1995. Growth stemmed from
$73,964 in net earnings combined with the change in net unrealized
gains, net of income taxes, on fixed maturities and equity securities of
$6,575, partially offset by dividends paid to stockholders of $29,373
and Treasury Stock purchased of $13,841. Total assets at December 31,
1996 increased by $112,624, or 7.2%, to $1,676,799 as compared to total
assets of $1,564,175 at December 31, 1995. The increase in total assets
was primarily due to cash provided by operations and the increase in
cash due to proceeds from the maturities and sales of fixed maturities.
The majority of this growth was reflected in an increase of $30,910, or
24.3% in premiums receivable and in an increase in cash and cash
equivalents of $87,870, or 166.8% as compared to December 31, 1995. Of
the cash and cash equivalents total of $140,535, $118,015 is held in a
U.S. Government Repurchase Agreement at The First National Bank of
Boston. The Company intends to invest these proceeds through Salomon
Brothers Asset Management, Inc. until such time that the Company
believes longer term investments are appropriate.
The Company's fixed maturity portfolio is comprised of GNMAs
(31.5%) and municipal bonds (68.5%). Of the Company's bonds, 100.0% are
rated in either of the two highest quality categories provided by the
NAIC.
As announced in October, 1995, and in order to focus corporate
resources more directly on the Company's main line of business, private
passenger automobile insurance, the operations of the Company's mortgage
subsidiary, Bay Finance Company, Inc. ("Bay Finance"), were
substantially reduced. Effective January 1, 1996, Bay Finance no longer
actively originates mortgage loans with the use of outside originators
and extensive regional marketing. As a result, Bay Finance's staffing
levels were substantially reduced and the remaining employees focus on
servicing the Company's existing mortgage portfolio. Bay Finance has
retained its lending licenses and will continue to make a small number
of various types of mortgage loans.
The Company's liabilities totalled $1,089,760 at December 31, 1996
as compared to $1,014,461 at December 31, 1995. The $75,299, or 7.4%,
increase was comprised primarily of a $31,122, or 5.0%, increase in
losses and loss adjustment expense reserves, an increase of $37,537, or
11.4%, in unearned premiums and a increase of $6,640, or 10.2% in all
other liabilities. The primary reason for the changes in these
liabilities during 1996 was the increased level of personal automobile
insurance business written by the Company attributable to affinity group
marketing programs.
The primary sources of the Company's liquidity are funds generated
from insurance premiums, premium finance fees, net investment income and
the maturing of investments as reflected in the Consolidated Statements
of Cash Flows on page 21.
The Company's operating activities provided cash of $115,651 in
1996 as compared to $135,282 in 1995. These cash flows were primarily
impacted by the fact that while net premiums written increased 17.9% in
1996 as compared to 2.4% in 1995, losses and LAE incurred increased
29.3% in 1996 as compared to a 0.6% decrease in 1995 and policy
acquisition costs increased 8.6% in 1996 as compared to 5.9% in 1995.
The increases were primarily the result of severe weather during the
first half of 1996 coupled with a decrease in the personal automobile
premium rate. The average rate decrease was due to the effects of
affinity group marketing programs, safe driver rate deviations and the
1996 state mandated rate decrease of 4.5%. The cash flows provided by
investing activities were primarily the result of proceeds from the
maturities and sales of fixed maturities offset by the purchases of
fixed maturities and equity securities. Investing and financing
activities were funded by the cash provided by operating activities.
Cash flows used in financing activities totalled $43,214 in 1996
compared to $32,994 in 1995. The increase was primarily attributable to
an increase in dividends paid to stockholders of $20,738 offset by a
decrease in Treasury Stock purchases of $10,518.
13
<PAGE>
The Company's funds are generally invested in securities with
maturities intended to provide adequate funds to pay claims without the
forced sale of investments. The carrying value (at market) of total
investments at December 31, 1996 was $1,027,136. At December 31, 1996,
the Company held cash and cash equivalents of $140,535. These funds
provide sufficient liquidity for the payment of claims and other short-
term cash needs. The Company relies upon dividends from its
subsidiaries for its cash requirements. Every Massachusetts insurance
company seeking to make any dividend or other distributions to its
stockholders must file a report with the Commissioner. An extraordinary
dividend is any dividend or other property, whose fair value together
with other dividends or distributions made within the preceding twelve
months exceeds the greater of ten percent of the insurer's surplus as
regards to policyholders as of the end of the preceding year, or the net
income of a non-life insurance company for the preceding year. No pro-
rata distribution of any class of the insurer's own securities is to be
included. No Massachusetts insurance company shall pay an extraordinary
dividend or other extraordinary distribution until thirty days after the
Commissioner has received notice of the intended distribution and has
not objected. No extraordinary dividends were paid in 1996, 1995 and
1994.
Periodically, sales have been made from the Company's fixed
maturity investment portfolio to actively manage portfolio risks,
including credit-related concerns, to optimize tax planning and to
realize gains. This practice will continue in the future.
Although the Company is not actively pursing acquisitions, in an
effort to enhance future growth potential, the Company continues to
monitor acquisition opportunities with regard to smaller automobile
insurance companies that are in need of capital, have established
management in place and present significant growth opportunities in
their market areas. On August 31, 1995, the Company completed the
acquisition of Western Pioneer Insurance Company, a personal automobile
insurer, located in Pleasanton, California.
The Company's long term growth objective is to expand its writings
outside of Massachusetts. To achieve this objective, during 1996 the
Company was granted licenses in the states of Connecticut and Rhode
Island. License approval in the state of Vermont was received in
January 1997. License applications were filed by the Company and are
pending in the states of Maine and New Hampshire. Concurrent with these
filings, the Company has entered into an agreement with PMSC and has
purchased software which will allow for the development of internal
operating systems which will enable the Company to process policies in
these five states and Massachusetts. To facilitate this development
and, at the same time, address the year 2000 processing issue facing
computer system users, the Company has formed Team 2000. Team 2000 will
provide for a complete integration of databases serving the Company's
three main functions; claims, underwriting and premium accounting.
Through the year 2001, the Company expects to incur over $40 million in
costs with the implementation of the PMSC systems. This amount includes
the purchase of a main frame computer, license fees and the costs
associated with programming, implementation and training. In 1996, the
Company paid $10.5 million for the equipment and services previously
mentioned, of which $4.9 million was expensed during the year. These
systems are not scheduled to be in place for contiguous states until the
latter part of 1997 and as a result, Management is not expecting to
start marketing in the states contiguous to Massachusetts until that
time.
Industry and regulatory guidelines suggest that the ratio of a
property and casualty insurer's annual net premiums written to statutory
policyholders' surplus should not exceed 3.00 to 1.00. The Company's
statutory premiums to surplus ratio was 1.53 to 1.00 and 1.37 to 1.00
for the years ended December 31, 1996 and 1995, respectively.
Recent Accounting Developments
In February, 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128, "Earnings Per
Share". This statement is effective for financial statements issued for
periods ending after December 15, 1997, (including interim periods) with
earlier application not permitted. The statement specifies the
computation, presentation and disclosure requirements for earnings per
share. The Company believes that the adoption of this statement will
not have a material impact on the Consolidated Financial Statements.
14
<PAGE>
Effects of Inflation and Recession
The Company generally is unable to recover the costs of inflation
in its personal automobile insurance line since the premiums it charges
are subject to state regulation. The premium rates charged by the
Company for personal automobile insurance are adjusted by the
Commissioner only at annual intervals. Such annual adjustments in
premium rates may lag behind related cost increases. Economic
recessions will also have an impact upon the Company, primarily through
the policyholder's election to decrease non-compulsory coverages
afforded by the policy and decreased driving, each of which tends to
decrease claims.
To the extent inflation and economic recession influence yields on
investments, the Company is also affected. As each of these
environments affect current market rates of return, previously committed
investments may rise or decline in value depending on the type and
maturity of investment.
Inflation and recession must also be considered by the Company in
the creation and review of loss and LAE reserves since portions of these
reserves are expected to be paid over extended periods of time. The
anticipated effect of economic conditions is implicitly considered when
estimating liabilities for losses and LAE. The importance of
continually adjusting reserves is even more pronounced in periods of
changing economic circumstances.
COMMON STOCK PRICE AND DIVIDEND INFORMATION
On March 31, 1995, the Company's common stock began trading on the
NYSE under the symbol "CGI". Previously, the Company's common stock was
traded on Nasdaq under the symbol "COMG". The high, low and close
prices for shares of the Company's common stock for 1996 and 1995 were
as follows:
<TABLE>
1996
1995
High Low Close High
Low Close
<CAPTION>
<S> <C> <C> <C> <C>
<C> <C>
First Quarter........... $20-3/4 $17-3/4 $19-3/4 $17
$14-3/4 $16-3/4
Second Quarter.......... 22-1/2 18-1/2 20-7/8 17-
7/8 16-1/4 17-7/8
Third Quarter........... 22-1/4 20-1/2 22 19-
7/8 16-3/4 19-5/8
Fourth Quarter.......... 25-3/4 22 25-1/4 21-
7/8 19-1/2 20-5/8
</TABLE>
As of March 1, 1997, there were 1,294 stockholders of record of
the Company's Common Stock, not including stock held in "Street Name" or
held in accounts for participants of the Company's Employee Stock
Ownership Plan ("E.S.O.P.").
The Board of Directors of the Company voted to declare four
quarterly dividends to stockholders of record totaling $0.81 per share
and $0.23 per share in 1996 and 1995, respectively. On May 17, 1996,
the Board voted to increase the quarterly stockholder dividend from
$0.06 to $0.25 per share to stockholders of record as of June 7, 1996.
Prior to that declaration, the Company had paid quarterly dividends of
$0.06 per share dating back to May 19, 1995 when the Board voted to
increase the dividend from $0.05 to $0.06 per share. The $0.05 cash
dividend per share was first declared by the Board on May 20, 1994.
Treasury Stock purchased under the stock buyback program increased
by 673,915 shares during 1996 to 1,937,348 shares at December 31, 1996.
The stock buyback program, authorized by the Board in May 1995, enables
the Company to purchase up to three million shares of the Company's
common stock. The program is now approximately two-thirds complete.
15
<PAGE>
REPORT OF MANAGEMENT
The management of the Company is responsible for the consolidated
financial statements and all other information presented in this Annual
Report. The financial statements have been prepared in conformity with
generally accepted accounting principles determined by management to be
appropriate in the circumstances and include amounts based on
management's informed estimates and judgments. Financial information
presented elsewhere in this Annual Report is consistent with the
financial statements. The appropriateness of data underlying such
financial information is monitored through internal accounting controls,
an internal audit department, independent accountants and the Board of
Directors through its audit committee.
The Company maintains a system of internal accounting controls
designed to provide reasonable assurance to management and the Board of
Directors that assets are safeguarded and that transactions are executed
in accordance with management's authorization and recorded properly.
The system of internal accounting controls is supported by the selection
and training of qualified personnel combined with the appropriate
division of responsibilities.
Management recognizes its responsibility for fostering a strong
ethical climate so that the Company's affairs are conducted according to
the highest standards of personal and corporate conduct. Management
encourages open communication within the Company and requires the
confidential treatment of proprietary information and compliance with
all domestic laws, including those relating to financial disclosure.
The 1996 consolidated financial statements were audited by the
Company's independent accountants, Coopers & Lybrand L.L.P., in
accordance with generally accepted auditing standards. Management has
made available to Coopers & Lybrand L.L.P., all the Company's financial
records and related data, as well as the minutes of stockholders' and
directors' meetings. Furthermore, management believes that all
representations made to Coopers & Lybrand L.L.P., during its audit were
valid and appropriate.
16
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
The Commerce Group, Inc.
We have audited the accompanying consolidated balance sheets of
The Commerce Group, Inc. and Subsidiaries as of December 31, 1996 and
1995, and the related consolidated statements of earnings, stockholders'
equity and cash flows for each of the three years in the period ended
December 31, 1996. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion
on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall financial statement
presentation. We believe our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
The Commerce Group, Inc. and Subsidiaries as of December 31, 1996 and
1995, and the consolidated results of their operations and their cash
flows for each of the three years in the period ended December 31, 1996,
in conformity with generally accepted accounting principles.
COOPERS &
LYBRAND L.L.P.
Boston, Massachusetts
January 24, 1997
17
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31,
(Thousands of Dollars Except Per Share Data)
<TABLE>
1996 1995
ASSETS
<CAPTION>
<S>
<C> <C>
Investments (notes A2 and B)
Fixed maturities, at market (cost: $700,511 in 1996 and $801,308
in 1995).......................................................... $
716,702 $ 815,277
Equity securities, at market (cost: $214,406 in 1996 and $140,157
in 1995)..........................................................
233,721 151,579
Mortgage loans on real estate and collateral notes receivable
(less allowance for possible loan losses of $2,760 in 1996
and $3,173 in 1995)...............................................
74,586 75,609
Other investments..................................................
2,127 1,648
Total investments..............................................
1,027,136 1,044,113
Cash and cash equivalents (note A3)..................................
140,535 52,665
Accrued investment income............................................
12,819 14,686
Premiums receivable (less allowance for doubtful receivables of
$1,500 in 1996 and $1,103 in 1995).................................
158,153 127,243
Deferred policy acquisition costs (notes A4 and C)...................
82,968 67,160
Property and equipment, net of accumulated depreciation
(notes A5 and D)...................................................
32,100 30,981
Residual market receivable (note F)..................................
195,213 200,124
Due from reinsurers (note F).........................................
19,659 21,897
Deferred income taxes (notes A8 and G)...............................
- - 1,415
Other assets.........................................................
8,216 3,891
Total assets...................................................
$1,676,799 $1,564,175
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Losses and loss adjustment expenses (notes A6, E and F)............ $
649,913 $ 618,791
Unearned premiums (note A7)........................................
367,991 330,454
Current income taxes (notes A8 and G)..............................
171 1,180
Deferred income taxes (notes A8 and G).............................
4,223 -
Deferred income (notes A9 and F)...................................
7,974 8,954
Contingent commissions accrued.....................................
25,712 32,550
Other liabilities and accrued expenses.............................
33,776 22,532
Total liabilities..............................................
1,089,760 1,014,461
Stockholders' Equity (notes B, J, K and L)
Preferred stock, authorized 5,000,000 shares at $1.00 par value;
none issued in 1996 and 1995......................................
- - -
Common stock, authorized 100,000,000 shares at $.50 par value;
issued and outstanding 38,000,000 shares in 1996 and 1995.........
19,000 19,000
Paid-in capital....................................................
29,621 29,621
Net unrealized gains on fixed maturities and equity securities,
net of income taxes of $12,427 in 1996 and $8,887 in 1995.........
23,079 16,504
Retained earnings..................................................
553,539 508,948
625,239 574,073
Treasury Stock, 1,937,348 shares in 1996 and 1,263,433 shares in
1995, at cost (note A11)..........................................
(38,200) (24,359)
Total stockholders' equity.....................................
587,039 549,714
Total liabilities and stockholders' equity.....................
$1,676,799 $1,564,175
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
18
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
For the years ended December 31,
(Thousands of Dollars Except Per Share Data)
<TABLE>
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Revenues
Earned premiums (notes A7 and F)..................... $ 668,716 $
592,590 $ 572,053
Net investment income (note B)....................... 77,402
71,313 62,901
Premium finance fees................................. 9,713
19,420 18,497
Net realized investment gains (losses) (note B)...... (7,574)
712 45,612
Total revenues.................................. 748,257
684,035 699,063
Expenses
Losses and loss adjustment expenses
(notes A6, E and F)................................. 475,231
367,552 369,660
Policy acquisition costs (notes A4 and C)............ 181,013
166,741 157,415
Total expenses.................................. 656,244
534,293 527,075
Earnings before income taxes.................... 92,013
149,742 171,988
Income taxes (notes A8 and G).......................... 18,049
39,541 49,405
NET EARNINGS.................................... $ 73,964 $
110,201 $ 122,583
NET EARNINGS PER COMMON SHARE (primary and
fully diluted) (note A10)...................... $ 2.04 $
2.93 $ 3.23
CASH DIVIDENDS PAID PER SHARE................... $ 0.81 $
0.23 $ 0.15
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING............................. 36,311,887
37,632,236 38,000,000
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
19
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the years ended December 31,
(Thousands of Dollars)
<TABLE>
Net
Common Paid-in Unrealized Retained
Treasury
Stock Capital Gains/Losses Earnings
Stock Total
<CAPTION>
<S> <C> <C> <C> <C>
<C> <C>
Balance December 31, 1993.... $19,000 $29,621 $44,228 $290,499
$ - $383,348
Net earnings................ 122,583
122,583
Change in unrealized gains
(losses), net of taxes..... (86,642)
(86,642)
Stockholder dividends....... (5,700)
(5,700)
Balance December 31, 1994.... 19,000 29,621 (42,414) 407,382
- - 413,589
Net earnings................ 110,201
110,201
Change in unrealized gains
(losses) net of taxes...... 58,918
58,918
Stockholder dividends....... (8,635)
(8,635)
Treasury stock purchased....
(24,359) (24,359)
Balance December 31, 1995.... 19,000 29,621 16,504 508,948
(24,359) 549,714
Net earnings................ 73,964
73,964
Change in unrealized gains
net of taxes............... 6,575
6,575
Stockholder dividends....... (29,373)
(29,373)
Treasury stock purchased....
(13,841) (13,841)
Balance December 31, 1996.... $19,000 $29,621 $23,079 $553,539
$(38,200) $587,039
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
20
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended December 31,
(Thousands of Dollars)
<TABLE>
1996
1995 1994
<CAPTION>
<S> <C>
<C> <C>
Cash flows from operating activities:
Net earnings.............................................. $ 73,964
$ 110,201 $ 122,583
Adjustments to reconcile net earnings to net cash
provided by operating activities:
Premiums receivable..................................... (30,910)
(24,714) (7,267)
Deferred policy acquisition costs....................... (15,808)
(8,094) (3,122)
Residual market receivable.............................. 4,911
14,694 5,494
Due to/from reinsurers.................................. 2,238
(5,005) (4,024)
Losses and loss adjustment expenses..................... 31,122
26,418 24,576
Unearned premiums....................................... 37,537
15,735 31,193
Current income taxes.................................... (1,009)
(8,637) 6,256
Deferred income taxes................................... 2,098
4,651 (4,878)
Deferred income......................................... (980)
(1,497) 3,100
Contingent commissions.................................. (6,838)
8,100 2,724
Other liabilities and accrued expenses.................. 11,244
5,705 (147)
Net realized investment (gains) losses.................. 7,574
(712) (45,612)
Other-net............................................... 508
(1,563) 6,716
Net cash provided by operating activities............. 115,651
135,282 137,592
Cash flows from investing activities:
Proceeds from maturity of fixed maturities................ 170,646
28,479 55,671
Proceeds from sale of fixed maturities.................... 122,431
72,287 123,127
Purchase of fixed maturities.............................. (200,113)
(100,689) (351,260)
Purchase of equity securities............................. (85,480)
(50,418) (26,155)
Proceeds from sale of equity securities................... 11,326
14,784 59,722
Payments received on mortgage loans and collateral notes
receivable.............................................. 8,311
9,892 8,524
Mortgage loans and collateral notes receivable originated. (7,446)
(28,667) (16,562)
Mortgages sold to investors in the secondary market....... 36
2,287 10,725
Proceeds from sale of real estate acquired by
foreclosures............................................. 92
318 2,120
Purchase of property and equipment........................ (4,477)
(3,664) (5,786)
Proceeds from sale of property and equipment.............. 107
283 250
Net cash provided by (used in) investing activities... 15,433
(55,108) (139,624)
Cash flows from financing activities:
Dividends paid to stockholders............................ (29,373)
(8,635) (5,700)
Purchase of treasury stock................................ (13,841)
(24,359) -
Net cash used in financing activities................. (43,214)
(32,994) (5,700)
Increase (decrease) in cash and cash equivalents............ 87,870
47,180 (7,732)
Cash and cash equivalents at beginning of year.............. 52,665
5,485 13,217
Cash and cash equivalents at end of year.................... $ 140,535
$ 52,665 $ 5,485
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
21
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE A-Summary of Significant Accounting Policies
1. Basis of Presentation
The consolidated financial statements of The Commerce Group, Inc.
(the "Company") have been prepared in accordance with generally accepted
accounting principles ("GAAP").
The consolidated financial statements include The Commerce Group,
Inc., and its wholly-owned subsidiaries, Bay Finance Company, Inc.,
Clark-Prout Insurance Agency, Inc. and Commerce Holdings, Inc. ("CHI").
The Commerce Insurance Company ("Commerce") and Citation Insurance
Company ("Citation") are wholly-owned subsidiaries of CHI. Western
Pioneer Insurance Company ("Western Pioneer") is a wholly-owned
subsidiary of Commerce. All intercompany transactions and balances have
been eliminated in consolidation. Certain prior year account balances
have been reclassified to conform to 1996 presentation.
The insurance subsidiaries, Commerce, Citation and Western Pioneer
prepare statutory financial statements in accordance with accounting
practices prescribed by the National Association of Insurance
Commissioners ("NAIC"), the Commonwealth of Massachusetts, and the State
of California.
The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
2. Investments
All investment transactions have credit exposure to the extent
that a counterparty may default on an obligation to the Company. Credit
risk is a consequence of carrying investment positions. The financial
instruments that potentially subject the Company to credit risk consist
primarily of cash and cash equivalents, premium receivables, investments
and mortgage loans on real estate. Concentrations of credit risk with
respect to premiums receivable result from the fact that the Company's
policyholders are concentrated primarily in one geographic area, as the
Company, the largest writer of personal automobile insurance in the
state of Massachusetts, writes primarily in Massachusetts. To manage
credit risk, the Company focuses on higher quality fixed-income
securities, reviews the credit strength of all companies which it
invests in, limits its exposure in any one investment and monitors the
portfolio quality, taking into account credit ratings assigned by
recognized statistical rating organizations.
Investments in fixed maturities, which include bonds and
redeemable preferred stocks, and investments in equity securities, which
include common and non-redeemable preferred stocks, all classified as
available for sale, are carried at fair market value. Unrealized
investment gains and losses on equity investments and fixed maturities,
to the extent that there is no permanent impairment of value, are
credited or charged to a separate component of stockholders' equity
until realized, net of any tax effect. When investment securities are
sold, the realized gain or loss is determined based upon specific
identification. Fair market value of fixed maturities and equity
investments is based on quoted market prices. For other securities held
as investments, fair market value equals quoted market price, if
available. If a quoted market price is not available, fair market value
is estimated using quoted market prices for similar securities. The
Company has not invested more than 7% of fixed maturities in any one
state or political subdivision.
22
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE A-Summary of Significant Accounting Policies - (continued)
The Company originates and holds mortgage loans on real estate
primarily on properties located in the state of Massachusetts. The
Company controls credit risk through credit approvals, credit limits and
monitoring procedures. The Company performs in-depth credit evaluations
on all new customers. Bad debt expenses have not been material in
recent years.
Mortgage loans on real estate and collateral notes receivable are
stated at the amount of unpaid principal, less an allowance for possible
loan losses. The adequacy of the allowance for possible loan losses is
evaluated on a regular basis by Management. Factors considered in
evaluating the adequacy of the allowance include previous loss
experience, current economic conditions and their effect on borrowers
and the performance of individual loans in relation to contract terms.
The provision for possible loan losses charged to operating expenses is
based upon Management's judgment of the amount necessary to maintain the
allowance at a level adequate to absorb possible losses. Loan losses
are charged against the allowance when Management believes the
collectibility of the principal is unlikely and recoveries are credited
to the allowance when received.
Interest on mortgage loans is included in income as earned based
upon rates applied to principal amounts outstanding. Accrual of
interest on mortgage loans is discontinued either when reasonable doubt
exists as to the full, timely collection of interest or principal, or
when a loan becomes contractually past due more than ninety days. When
a loan is placed on nonaccrual status, all unpaid interest previously
accrued is reversed against current period earnings.
3. Cash and Cash Equivalents
Cash and cash equivalents include cash currently on hand and
short-term investments with original maturities, when purchased, of
three months or less. The carrying amount approximates fair value. The
Company holds $118,015 in a U.S. Government Repurchase Agreement at The
First National Bank of Boston. When the Company enters into a
repurchase agreement through its custodian, it receives delivery of the
underlying collateral. The amount of collateral, at the time of
purchase and each subsequent business day, is required to be maintained
at such a level that market value is equal to 102% of the resale price.
The Company intends to invest these proceeds through Salomon Brothers
Asset Management, Inc. until such time that the Company believes longer
term investments are appropriate.
4. Deferred Policy Acquisition Costs
Policy acquisition costs relating to unearned premiums, consisting
of commissions, premium taxes and other underwriting expenses incurred
at the policy issuance, are deferred and amortized over the period in
which the related premiums are earned, the amount being reduced by any
potential premium deficiency. If any potential premium deficiency
exists, it represents future estimated losses, loss adjustment expenses
and amortization of deferred acquisition costs in excess of the related
unearned premiums. There was no premium deficiency in 1996, 1995 and
1994. In determining whether a premium deficiency exists, the Company
considers anticipated investment income on unearned premiums.
23
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE A-Summary of Significant Accounting Policies - (continued)
5. Property and Equipment
Property and equipment are stated at cost and are depreciated on
the straight line method over the estimated useful lives of the assets
using the following rates:
<TABLE>
Percent
Asset Classification
Per Annum
<CAPTION>
<S>
<C>
Buildings....................................... 2.5
Building improvements (prior to 1992)........... 2.5
Building improvements (1992 and subsequent)..... 5.0
Equipment and office furniture.................. 10.0
EDP equipment and copiers....................... 20.0
Automobiles..................................... 33.3
</TABLE>
Maintenance and repairs are charged to operations; betterments are
capitalized. The cost of property sold or otherwise disposed of and the
accumulated depreciation thereon are eliminated from the related
property and accumulated depreciation accounts and any resulting gain or
loss is credited or charged to income.
6. Losses and Loss Adjustment Expenses
The liability for unpaid losses and LAE represents the
accumulation of individual case estimates for reported losses and
estimates for incurred but not reported ("IBNR") losses and LAE.
Assumed losses and LAE are recorded as reported by the ceding
organization with additional adjustments for IBNR. The liability for
losses and LAE is intended to cover the ultimate net cost of all losses
and loss adjustment expenses incurred through the balance sheet date.
Liability estimates are continually reviewed and updated, and therefore,
the ultimate liability may be more or less than the current estimate.
The effects of changes in the estimates are included in the results of
operations in the period in which the estimates are revised.
7. Premiums
Insurance premiums are recognized as income ratably over the terms
of the policies. Unearned premiums are determined by prorating policy
premiums on a daily basis over the terms of the policies. A significant
portion of the Company's premiums written is derived through the five
American Automobile Association Clubs of Massachusetts ("AAA clubs")
group marketing program. In 1996, total direct premiums written
attributable to the AAA group business was $344,297 or 47% of the
Company's total direct premiums written. Of this amount, 9% was written
through the AAA clubs and 91% was written through the Company's network
of independent agents.
8. Income Taxes
The Company uses an asset and liability approach that requires the
recognition of deferred tax assets and liabilities for the expected
future tax consequences of events that have been recognized in the
Company's financial statements or tax returns. In estimating future tax
consequences, the Company generally considers all expected future events
other than changes in the tax law or rates, unless enacted. Valuation
allowances are established when necessary to reduce deferred tax assets
to the amount expected to be realized.
9. Deferred Income
Income consisting of group marketing service fees and expense
reimbursements which include servicing carrier fees from Commonwealth
Automobile Reinsurers ("C.A.R."), a state-mandated reinsurance
mechanism, on policies written for C.A.R., are deferred and amortized
over the term of the related insurance policies (see note F).
24
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE A-Summary of Significant Accounting Policies - (continued)
10. Net Earnings Per Common Share
Net earnings per common share is computed by dividing net earnings
by the weighted average number of common shares outstanding. The
weighted average number of common shares outstanding for the years ended
December 31, 1996, 1995 and 1994 was 36,311,887, 37,632,236 and
38,000,000, respectively.
11. Treasury Stock
On May 19, 1995, the Board of Directors of the Company, announced
the approval of a stock buyback program of up to three million shares.
Through December 31, 1996, the Company purchased 1,937,348 shares of
Treasury Stock under this program.
NOTE B-Investments and Investment Income
1. Fixed Maturities
The amortized cost and estimated fair market values of investments
in fixed maturities are as follows:
<TABLE>
Gross
Gross Estimated
Amortized Unrealized
Unrealized Fair Market
Cost Gains
Losses Value
At December 31, 1996:
<CAPTION>
<S> <C> <C> <C>
<C>
GNMA mortgage-backed bonds........... $223,590 $ 2,589 $
(627) $225,552
Obligations of states and
political subdivisions.............. 476,921 15,301
(1,072) 491,150
Totals.......................... $700,511 $ 17,890 $
(1,699) $716,702
At December 31, 1995:
GNMA mortgage-backed bonds........... $220,589 $ 2,422 $
(1,638) $221,373
Obligations of states and
political subdivisions.............. 580,719 16,204
(3,019) 593,904
Totals.......................... $801,308 $ 18,626 $
(4,657) $815,277
</TABLE>
Proceeds from sales of investments in fixed maturities, gross
gains, and gross losses realized on those sales were as follows:
<TABLE>
Proceeds
Gross Gross
From
Realized Realized
Sales
Gains Losses
For the year ended December 31, 1996:
<CAPTION>
<S> <C> <C>
<C>
GNMA mortgage-backed bonds......................... $ - $
- - $ -
Obligations of states and political subdivisions... 122,431
367 (3,685)
Totals........................................ $122,431 $
367 $ (3,685)
For the year ended December 31, 1995:
GNMA mortgage-backed bonds......................... $ - $
- - $ -
Obligations of states and political subdivisions... 72,287
2,340 (695)
Totals........................................ $ 72,287 $
2,340 $ (695)
For the year ended December 31, 1994:
GNMA mortgage-backed bonds......................... $ - $
- - $ -
Obligations of states and political subdivisions... 123,127
9,509 (58)
Totals........................................ $123,127 $
9,509 $ (58)
</TABLE>
25
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE B-Investments and Investment Income - (continued)
The amortized cost and approximate fair market value of fixed
maturities at December 31, 1996 and 1995, by contractual maturity, are
as follows:
<TABLE>
1996
1995
Fair
Fair
Amortized Market
Amortized Market
Cost Value
Cost Value
Obligations of states and political subdivisions:
<CAPTION>
<S> <C> <C>
<C> <C>
Due in one year or less.......................... $ 508 $ 517
$ - $ -
Due after one year through five years............ 94 102
1,130 1,149
Due after five years through ten years........... 1,669 1,681
19,956 20,183
Due after ten years.............................. 474,648 488,847
559,633 572,572
476,919 491,147
580,719 593,904
GNMA mortgage-backed bonds....................... 223,592 225,555
220,589 221,373
Total fixed maturities........................... $700,511 $716,702
$801,308 $815,277
</TABLE>
Expected maturities may differ from contractual maturities because
issuers may have the right to call or prepay obligations.
2. Equity Securities
The cost and approximate fair market value of equity securities at
December 31, 1996 and 1995, are as follows:
<TABLE>
1996
1995
Fair
Fair
Market
Market
Cost Value
Cost Value
<CAPTION>
<S> <C> <C>
<C> <C>
Non-redeemable preferred stocks............. $148,481 $147,680
$111,597 $111,220
Preferred stock mutual funds................ 28,553 29,087
- - -
Common stocks............................... 37,372 56,954
28,560 40,359
$214,406 $233,721
$140,157 $151,579
</TABLE>
3. Mortgage Loans on Real Estate and Collateral Notes Receivable
At December 31, 1996 and 1995, mortgage loans on real estate and
collateral notes receivable consisted of the following:
<TABLE>
December 31,
1996
1995
<CAPTION>
<S> <C>
<C>
Residential (1st Mortgages)............ $58,263
$59,575
Residential (2nd Mortgages)............ 1,077
847
Commercial (1st Mortgages)............. 15,805
15,804
Commercial (2nd Mortgages)............. 196
217
75,341
76,443
Collateral notes receivable............ 2,005
2,339
77,346
78,782
Allowance for possible loan losses..... (2,760)
(3,173)
Mortgage loans on real estate and
collateral notes receivable....... $74,586
$75,609
</TABLE>
26
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE B-Investments and Investment Income - (continued)
Fair value of the Company's mortgage loans on real estate and
collateral notes receivable is estimated by discounting the future cash
flows using the current rates at which similar loans would be made to
borrowers with similar credit and for the same remaining maturities.
The future cash flows associated with certain non-performing loans are
estimated based on expected payments from borrowers either through work
out arrangements or the disposition of collateral. The fair value of
mortgage loans on real estate and collateral notes receivable at
December 31, 1996 and 1995, prior to the allowance for possible loan
losses, was $78,920 and $81,200, respectively, which was estimated by
discounting the future cash flows of the mortgages.
At December 31, 1996 and 1995, mortgage loans which were on
nonaccrual status were
$2,095 and $2,727, respectively. The reduction in interest income
associated with nonaccrual loans was $152, $287 and $223 for the years
ended December 31, 1996, 1995 and 1994, respectively.
The Company originates and services residential and commercial
mortgages primarily in Massachusetts and generally its exposure is 80%
or less of the appraised value of any collateralized real property. The
ability and willingness of residential and commercial borrowers to honor
their repayment commitments is generally dependent upon the level of
overall economic activity and real estate values.
A summary of the changes in the allowance for possible loan losses
follows:
<TABLE>
Year Ended
December 31,
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Balance, beginning of year.............. $ 3,173 $
3,324 $ 3,644
Decrease in provision for possible
loan losses......................... (135)
(151) (277)
Loans charged off..................... (278)
- - (43)
Balance, end of year.................... $ 2,760 $
3,173 $ 3,324
</TABLE>
The following table describes mortgage principal balances by
maturity and discloses over 90 days past due and foreclosure
information:
<TABLE>
1996
1995 1994
Fixed Rate Mortgages Maturing:
<CAPTION>
<S> <C> <C>
<C>
One year or less...................... $ 632 $
512 $ 307
More than one year to five years...... 2,248
640 412
More than five years to ten years..... 4,700
5,500 5,452
Over ten years........................ 42,902
40,807 24,407
Total Fixed Mortgages............ $50,482
$47,459 $30,578
Adjustable Rate Mortgages Maturing:
One year or less...................... $ - $
- - $ -
More than one year to five years...... 43
79 183
More than five years to ten years..... 569
455 385
Over ten years........................ 24,247
28,450 28,644
Total Adjustable Mortgages....... $24,859
$28,984 $29,212
Past due over 90 days................... $ 2,095 $
2,727 $ 2,395
Mortgages in Foreclosure................ $ 938 $
795 $ 700
</TABLE>
27
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE B-Investments and Investment Income - (continued)
4. Net Investment Income
<TABLE>
The components of net investment income were as follows:
Year ended
December 31,
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Interest and dividends on fixed maturities... $ 56,034 $
56,467 $ 50,000
Dividends on equity securities............... 12,765
8,486 7,426
Interest on short-term investments........... 4,022
2,466 1,629
Interest on mortgage loans................... 6,737
6,141 6,097
Other........................................ 105
478 208
Total investment income............. 79,663
74,038 65,360
Investment expenses.......................... 2,261
2,725 2,459
Net investment income............... $ 77,402 $
71,313 $ 62,901
</TABLE>
5. Net Realized and Unrealized Investment Gains (Losses)
Net realized investment gains and the net increases (decreases) in
unrealized investment gains or losses, less applicable income tax
expense, were as follows:
<TABLE>
Year ended
December 31,
1996
1995 1994
Net realized investment gains (losses):
<CAPTION>
<S> <C> <C>
<C>
Fixed maturities................................. $ (7,364) $
477 $ 7,386
Equity securities................................ 107
405 38,845
Other............................................ (317)
(170) (619)
Total........................................ $ (7,574) $
712 $ 45,612
Net increase (decrease) in unrealized gains (losses):
Fixed maturities................................. $ 2,222 $
70,335 $(83,843)
Equity securities................................ 7,893
20,308 (49,687)
Related tax benefit (expense).................... (3,540)
(31,725) 46,888
Total........................................ $ 6,575 $
58,918 $(86,642)
</TABLE>
A summary of accumulated unrealized gains and losses on equity
securities and fixed maturity investments in 1996, 1995 and 1994
follows:
<TABLE>
Year ended
December 31,
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Unrealized gains....................... $ 40,227 $
32,056 $ 3,520
Unrealized losses...................... (4,721)
(6,665) (68,773)
Tax benefit (expense).................. (12,427)
(8,887) 22,839
Net unrealized gains
(losses)........................ $ 23,079 $
16,504 $(42,414)
</TABLE>
NOTE C-Deferred Policy Acquisition Costs
Policy acquisition costs incurred and amortized to income are as
follows:
<TABLE>
Year ended
December 31,
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Balance, beginning of year............. $ 67,160 $
59,066 $ 53,647
Costs deferred during the year......... 196,821
174,835 162,834
Amortization charged to expense........ (181,013)
(166,741) (157,415)
Balance, end of year................... $ 82,968 $
67,160 $ 59,066
</TABLE>
28
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE D-Property and Equipment
A summary of property and equipment at December 31, is as follows:
<TABLE>
1996
1995
<CAPTION>
<S> <C>
<C>
Buildings................................. $ 27,506
$ 27,077
Equipment and office furniture............ 24,993
21,436
Building improvements..................... 811
623
53,310
49,136
Less accumulated depreciation....... 22,015
18,953
31,295
30,183
Land...................................... 805
798
$ 32,100
$ 30,981
</TABLE>
Depreciation expenses incurred were $3,202, $3,151 and $3,093 for
the years ended December 31, 1996, 1995 and 1994, respectively.
Depreciation expense is allocated between losses and loss adjustment
expenses and policy acquisition costs.
NOTE E-Losses and Loss Adjustment Expenses
Liabilities for unpaid losses and loss adjustment expenses at
December 31, consist of:
<TABLE>
1996
1995
<CAPTION>
<S> <C>
<C>
Unpaid loss and LAE reserves.............. $705,674
$662,591
Salvage and subrogation recoverable.......
(55,761) (43,800)
$649,913
$618,791
Significant periods of time can elapse between the occurrence of
an insured loss, the reporting of the loss to the insurer and the
insurer's payment of that loss. To recognize liabilities for unpaid
losses, insurers establish reserves as balance sheet liabilities
representing estimates of amounts needed to pay reported and unreported
losses and LAE. Quarterly, the Company reviews these reserves
internally. Regulations of the Division of Insurance require the
Company to obtain annually a certification from either a qualified
actuary or an approved loss reserve specialist that its loss and LAE
reserves are reasonable.
When a claim is reported to the Company, its claims personnel
establish a "case reserve" for the estimated amount of the ultimate
payment. The amount of the reserve is primarily based upon a case-by-
case evaluation of the type of claim involved, the circumstances
surrounding each claim and the policy provisions relating to the type of
loss. The estimate reflects the informed judgment of such personnel
based on general insurance reserving practices and on the experience and
knowledge of the claims person. During the loss adjustment period,
these estimates are revised as deemed necessary by the Company's claims
department based on subsequent developments and periodic reviews of the
cases.
In accordance with industry practice, the Company also maintains
reserves for estimated IBNR. IBNR reserves are determined on the basis
of historical information and the experience of the Company.
Adjustments to IBNR are made periodically to take into account changes
in the volume of business written, claims frequency and severity, the
mix of business, claims processing and other items that can be expected
to affect the Company's liability for losses and LAE over time.
29
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE E-Losses and Loss Adjustment Expenses - (continued)
When reviewing reserves, the Company analyzes historical data and
estimates the impact of various factors such as (i) per claim
information, (ii) the historical loss experience of the Company and
industry and, (iii) legislative enactments, judicial decisions, legal
developments in the imposition of damages, changes in political
attitudes and trends in general economic conditions, including the
effects of inflation. This process assumes that past experience,
adjusted for the effects of current developments and anticipated trends,
is an appropriate basis for predicting future events. There is no
precise method, however, for subsequently evaluating the impact of any
specific factor on the adequacy of reserves, because the eventual
development of reserves is affected by many factors.
By using both individual estimates of reported claims and
generally accepted actuarial reserving techniques, the Company estimates
the ultimate net liability for losses and LAE. After taking into
account all relevant factors, management believes that the provision for
losses and LAE at December 31, 1996 is adequate to cover the ultimate
net cost of losses and claims incurred as of that date. The ultimate
liability, however, may be greater or lower than reserves.
Establishment of appropriate reserves is an inherently uncertain
process, and there can be no certainty that currently established
reserves will prove adequate in light of subsequent actual experience.
The Company does not discount to present value that portion of its loss
reserves expected to be paid in future periods.
Included in the loss reserve methodologies described above, are
liabilities for unpaid claims and claim adjustment expenses for
environmental related claims such as oil spills and lead paint.
Reserves have been established to cover these claims for both known and
unknown losses. Because of the Company's limited exposure to these
types of claims, management believes they will not have a material
impact on the consolidated financial position of the Company in the
future. Loss reserves on environmental related claims amounted to
$8,783, $10,708 and $11,151 in 1996, 1995 and 1994, respectively.
The following table sets forth a reconciliation of beginning and
ending reserves for losses and loss adjustment expenses, net of
reinsurance deductions from all reinsurers including C.A.R., as shown in
the Company's consolidated financial statements for the periods
indicated.
</TABLE>
<TABLE>
Year ended
December 31,
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Reserves for losses and loss adjustment
expenses, beginning of year......................... $486,673
$448,331 $415,613
Incurred losses and loss adjustment expenses:
Provision for insured events of the current year.. 562,997
442,027 435,713
Decrease in provision for insured events of
prior years...................................... (87,766)
(74,475) (66,053)
Total incurred losses and loss adjustment
expenses....................................... 475,231
367,552 369,660
Payments:
Losses and loss adjustment expenses attributable
to insured events of the current year............ 273,334
184,182 188,002
Losses and loss adjustment expenses attributable
to insured events of prior years................. 167,509
145,028 148,940
Total payments.................................. 440,843
329,210 336,942
Loss and loss adjustment expense reserves prior to
effect of ceded reinsurance recoverable.......... 521,061
486,673 448,331
Ceded reinsurance recoverable..................... 128,852
132,118 144,042
Reserves for losses and loss adjustment expenses
at the end of year per financial statements......... $649,913
$618,791 $592,373
</TABLE>
30
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE E-Losses and Loss Adjustment Expenses - (continued)
The increases in payments and incurred losses primarily resulted
from increased business volume in 1996 coupled with an increase in
collision frequency.
The Company's loss and LAE reserves reflect its share of the
aggregate loss and LAE reserves of all Servicing Carriers. The Company
is a defendant in various legal actions arising from the normal course
of its business. These proceedings are considered to be ordinary and
incidental to operations or without foundation in fact. Management is
of the opinion that these actions will not have a material adverse
effect on the consolidated financial statements of the Company.
NOTE F-Reinsurance Activity
The Company has reinsurance contracts for casualty and catastrophe
coverages. These reinsurance arrangements minimize the Company's losses
arising from large risks and protect the Company against numerous losses
from a single occurrence or event. The Company also has a combined
quota share and excess loss reinsurance contract on its other than
automobile property business.
Property and Catastrophe Reinsurance
From the inception, on September 30, 1993, through the third
quarter of 1995, the Company's combined property quota share and excess
loss reinsurance contract was written with five domestic reinsurance
companies. Under the quota share portion of the arrangements, the
reinsurers indemnified the Company for 36% of the loss and LAE, and paid
a commission allowance based on the ratio of losses incurred to premiums
earned. In exchange, the Company paid to the reinsurers 40% of the net
premium pertaining to the related business. The maximum per occurrence
loss reimbursement was $40.0 million and the maximum annual aggregate
occurrence loss reimbursement was $60.0 million. Under the excess loss
reinsurance portion of the arrangements, the Company reinsured each
risk, retaining $125 and reinsuring 100% of the next $875.
Effective September 30, 1995, the Company increased its coverage
under the combined property quota share and excess loss reinsurance
contract. The contract is now written with six domestic reinsurance
companies. Under the quota share portion of the arrangements, the
reinsurers indemnify the Company for 45% of the loss and LAE, and pay a
commission allowance based on the ratio of losses incurred to premiums
earned. In exchange, the Company pays to the reinsurers 49% of the net
premium pertaining to the related business. The maximum per occurrence
loss reimbursement is $50.0 million and the maximum annual aggregate
occurrence loss reimbursement is $75.0 million. Under the excess loss
reinsurance portion of the arrangements, the Company reinsures each
risk, retaining $125 and reinsuring 100% of the next $875. This
reinsurance contract is continuous, cancelable quarterly with ninety
days notice.
Effective March 1, 1995, through February 29, 1996, the Company
had catastrophe reinsurance coverage for that portion of the loss not
covered under the property quota share arrangement. Catastrophe
reinsurance coverage was in force for approximately 88.0% of the amounts
incurred for all property claims arising from a single event or
occurrence up to a maximum loss of $100.0 million, after first
subtracting property quota share losses. Coverage under the catastrophe
program was as follows: a net retention of $5.0 million; 50.0% of the
next $5.0 million; and, 95.0% of the next $90.0 million. Including the
Company's retention, total catastrophe coverage was $100.0 million.
This coverage was placed with a number of reinsurers, both foreign and
domestic.
31
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE F-Reinsurance Activity - (continued)
Effective March 1, 1996, through February 28, 1997, the Company's
catastrophe reinsurance program has been tailored in conjunction with
the property quota share arrangement to provide catastrophe reinsurance
protection at varying levels of losses. The table below provides
information depicting the approximate combined recoveries of all
property reinsurance programs (catastrophe and quota share) at various
loss scenarios if a catastrophe were to strike:
<TABLE>
Net Loss
Total Reinsurance Retained by
Loss Recovery the Company
<CAPTION>
<S> <C> <C>
$ 25,000 $ 11,300 $13,700
50,000 35,000 15,000
75,000 58,800 16,200
100,000 82,500 17,500
125,000 105,000 20,000
150,000 110,000 40,000
</TABLE>
The Company will have no reinsurance recoveries for total loss
amounts in excess of $150.0 million. The Company is currently
renegotiating its primary catastrophe reinsurance program to become
effective May 1, 1997. This renegotiation does not affect the property
quota share arrangement or one other non-primary catastrophe reinsurance
program.
Casualty Reinsurance
Through December 31, 1996, casualty reinsurance was on an excess
of loss basis for any one event or occurrence with a maximum recovery of
$4.0 million over a net retention of $1.0 million. Effective January 1,
1997, casualty reinsurance is on an excess of loss basis for any one
event or occurrence with a maximum recovery of $9.0 million over a net
retention of $1.0 million. This coverage is placed with Swiss
Reinsurance America Corporation, formerly North American Reinsurance
Corporation (rated A by A.M. Best).
Effective January 1, 1995, personal and commercial liability
umbrella policies are reinsured on a 95% quota share basis in regard to
limits up to $1.0 million and 100% quota share basis for limits in
excess of $1.0 million but not exceeding $5.0 million for policies with
underlying automobile coverage of $250,000/$500,000 or more. Effective
January 1, 1996, the Company added personal liability umbrella
reinsurance coverage for policies with underlying automobile coverage of
$100,000/$300,000, on a 65% quota share basis in regard to limits up to
$1.0 million and 100% quota share basis for limits in excess of $1.0
million but not exceeding $3.0 million. These coverages are placed with
American Reinsurance Corporation (rated A+ by A.M. Best).
C.A.R.
C.A.R., a state-mandated reinsurance mechanism, enables the
Company and approximately 40 other writers of automobile insurance in
Massachusetts ("Servicing Carriers") to reinsure any automobile risk
that the insurer perceives to be underpriced at the premium level
permitted by the Massachusetts Insurance Commissioner (the
"Commissioner"). Servicing Carriers, which are responsible for over
99.0% of total direct premiums written for personal automobile insurance
in Massachusetts, are required to offer automobile insurance coverage to
all eligible applicants pursuant to "take-all-comers" regulations, but
may reinsure undesirable business with C.A.R.
The Company pays to C.A.R. all of the premiums generated by the
policies it has ceded and C.A.R. reimburses the Company for all losses
incurred on account of ceded policies. In addition, the Company
receives a fee for servicing ceded policies based on the expense
structure established by C.A.R. For the years ended December 31, 1996,
1995 and 1994, these servicing fees amounted to $17,127, $21,669 and
$14,282, respectively.
32
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE F-Reinsurance Activity - (continued)
C.A.R. has annually generated multi-million dollar underwriting
losses in both the personal and commercial pools since its inception.
The Company is required to share in the underwriting results of C.A.R.
business for its respective product lines. Under current regulations,
the Company's share of the C.A.R. personal or commercial deficit is
based upon its market share for retained automobile risks for the
particular pool, adjusted by a "utilization" concept, such that, in
general, the Company is disproportionately and adversely affected if its
relative use of C.A.R. reinsurance exceeds that of the industry, and
favorably affected if its relative use of C.A.R. reinsurance is less
than that of the industry. During 1996, 1995 and 1994, the Company's
net participation in the C.A.R. personal automobile pool approximated
19.0%, 16.0% and 16.0%, respectively.
Written premiums, earned premiums, losses incurred and the
liabilities for unearned premiums, unpaid losses ceded to and assumed
from C.A.R. and other receivables from C.A.R. were as follows:
<TABLE>
Year ended December 31,
1996 1995
1994
Ceded Assumed Ceded Assumed
Ceded Assumed
Income Statement
<CAPTION>
<S> <C> <C> <C> <C> <C>
<C>
Written premiums... $ 82,861 $ 93,703 $ 82,814 $ 92,249
$100,583 $ 93,785
Earned premiums.... 85,977 92,469 92,664 90,609
87,585 77,832
Losses incurred.... 84,074 93,278 75,475 87,786
81,217 63,842
Balance Sheet
Unearned premiums.. $ 36,042 $ 46,681 $ 39,158 $ 45,446 $
49,008 $ 43,806
Unpaid losses...... 123,092 117,237 126,555 110,003
138,356 95,290
Other receivables
from C.A.R........ 36,079 N/A 34,411 N/A
27,454 N/A
Residual Market
Receivable......... $195,213 N/A $200,124 N/A
$214,818 N/A
</TABLE>
In accordance with Statement of Financial Accounting Standards No.
113, "Accounting and Reporting for Reinsurance of Short-Duration and
Long-Duration Contracts", the company presents assets and liabilities
gross of reinsurance. The Residual Market Receivable represents the
gross amount of reinsurance recoverable from C.A.R. including unpaid
losses, unearned premiums, paid losses recoverable and unpaid ceded and
assumed premiums.
The current C.A.R. utilization-based participation ratio has been
in place for the personal automobile market since 1993. During 1996,
1995 and 1994, the Company's amount of personal automobile risks it
reinsured through C.A.R. approximated 8.0%, 11.0% and 14.0%,
respectively.
Earned premiums and losses and loss adjustment expenses are stated
in the accompanying consolidated financial statements after deductions
for ceded reinsurance. Those deductions for reinsurance other than
C.A.R. are as follows:
<TABLE>
Year ended
December 31,
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Earned premiums ceded.................................. $36,261
$28,056 $28,278
Losses and loss adjustment expenses ceded.............. 22,453
21,454 17,936
</TABLE>
The Company, as primary insurer, would be required to pay losses
in their entirety in the event that the reinsurers were unable to
discharge their obligations under the reinsurance agreements.
33
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE G-Income Taxes
The Company and its subsidiaries file a consolidated federal
income tax return.
The Federal income tax expense (benefit) consisted of the
following:
<TABLE>
Year ended
December 31,
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Current............................ $ 15,951 $
34,891 $ 54,181
Deferred........................... 2,098
4,650 (4,776)
$ 18,049 $
39,541 $ 49,405
</TABLE>
Deferred taxes arise from temporary differences in the bases of
assets and liabilities for tax and financial statement purposes. The
sources of these differences and the related tax effects consisted of
the following:
<TABLE>
Year ended
December 31,
1996
1995 1994
<CAPTION>
<S> <C> <C>
<C>
Deferred policy acquisition costs.................. $ 6,022 $
5,087 $ (1,683)
Unearned premiums.................................. (3,695)
(1,469) (488)
Salvage and subrogation recoverable................ 425
151 356
Discounting of loss reserves....................... (2,954)
(370) (983)
Tax depreciation in excess of book depreciation.... 192
205 108
Book value rights/book value awards/stock
appreciation rights............................... 1,686
334 773
Bad debt expense................................... 131
92 145
Deferred items not included above.................. 291
620 (3,004)
Deferred income tax (benefit)................ 2,098
4,650 (4,776)
Change in unrealized gains (losses)................ 3,540
31,726 (46,888)
Change in deferred tax liability(asset)...... $ 5,638 $
36,376 $(51,664)
</TABLE>
Realization of a deferred tax asset is dependent on generating
sufficient taxable income in future years. Although realization is not
assured, Management believes it is more likely than not that all of the
deferred tax asset will be realized. The amount of the deferred tax
asset considered realizable, however, could be reduced in the near term
if estimates of future taxable income are reduced. Deferred tax
liabilities (assets) were comprised of the following components at
December 31, 1996 and 1995:
<TABLE>
1996
1995
<CAPTION>
<S> <C>
<C>
Deferred policy acquisition costs.............................. $
24,535 $ 18,513
Unearned premiums..............................................
(19,839) (16,144)
Salvage and subrogation recoverable............................
2,407 1,982
Discounting of loss reserves...................................
(23,800) (20,846)
Tax depreciation in excess of book depreciation................
2,705 2,513
Book value rights/book value awards/stock appreciation rights..
3,287 1,601
Bad debt allowances............................................
(901) (1,032)
Unrealized gains...............................................
12,427 8,887
Deferred items not included above..............................
3,402 3,111
Deferred tax liability (asset)........................... $
4,223 $ (1,415)
</TABLE>
34
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE G-Income Taxes - (continued)
Federal income tax on income is less than the amount computed by
applying the statutory rate of 35% for the years ended 1996, 1995 and
1994 for the following reasons:
<TABLE>
Year ended December 31,
1996 1995
1994
<CAPTION>
<S> <C> <C> <C> <C>
<C> <C>
Tax at statutory rate.. $ 32,205 35.0% $52,410 35.0%
$60,196 35.0%
Tax exempt interest.... (10,062) (10.9) (11,067) (7.4)
(8,836) (5.2)
Dividends paid to ESOP
participants......... (1,169) (1.3) - -
- - -
Dividends received
deduction............ (3,167) (3.4) (2,038) (1.4)
(1,819) (1.1)
Other.................. 242 0.2 236 0.2
(136) -
Tax at effective rate.. $ 18,049 19.6% $39,541 26.4%
$49,405 28.7%
</TABLE>
NOTE H-Related Party Transactions
The Company has made loans to insurance agencies with which the
Company transacts business on a regular basis. At December 31, 1996,
eleven of these loans which had an aggregate outstanding principal
balance of $2,384 were collateralized by the assets of the agencies. At
December 31, 1995, thirteen of these loans which had an aggregate
outstanding principal balance of $2,138 were collateralized by the
assets of the agencies. Mortgage loans to agents collateralized by real
estate had an aggregate outstanding balance of $317 and $323 at December
31, 1996 and 1995, respectively.
During 1992, the Company insured a mortgage note in the principal
amount of $28,750 issued by a corporation to a bank. Two directors of
the Company, were, with others, guarantors of this note. The Company's
liability under this insurance policy, which expired on October 15,
1995, was $12,000. For this insurance, the Company received the full
premium of $1,080 in 1992, which was earned pro-rata through the
expiration date of the policy.
One Director of the Company, is the former President and principal
owner of an insurance agency which is one of the Company's independent
insurance agencies. This Director sold his ownership interest in that
agency in 1994, although he remains associated with it under an
employment/consulting agreement and serves as Chairman of an Advisory
Board. This Director also continues to receive payments under non-
competition and loan agreements. This Director receives no direct or
indirect compensation based on the commissions paid to the agency by the
Company. During the years ended December 31, 1996, 1995, and 1994 the
agency received from the Company commissions of $906, $885 and $1,010,
respectively, in the aggregate, for policies written. The Company also
purchased certain insurance coverages through the agency and paid
premiums for these policies of $360, $218 and $217 in 1996, 1995 and
1994, respectively.
NOTE I-Employee Stock Ownership Plan
The Company offers an Employee Stock Ownership Plan for the
benefit of substantially all employees, including those of the Company's
subsidiaries. The E.S.O.P. is noncontributory on the part of
participants and contributions are made at the discretion of the Board
of Directors. The Company is under no obligation to make contributions
or maintain the Plan for any length of time, and may completely
discontinue or terminate the Plan at any time without liability.
Contributions by the Company and subsidiaries to the Plan for the
years ending December 31, 1996, 1995 and 1994 were $6,216, $5,729 and
$5,430, respectively.
35
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars Except Per Share Data)
NOTE J-Stockholders' Equity
Book Value Rights, Book Value Awards and Stock Appreciation Rights
Program
The Board of Directors authorized a Book Value Rights Program
which provided for the payment of awards in cash to key employees based
upon increases in the book value of the Company at the end of the
program period, which is December 31st of the third year after the
rights have been granted. The Board of Directors authorized advance
payments of $1,888 in December, 1995 applicable to Book Value Rights
maturing in 1996 and $1,929 in December, 1994 applicable to Book Value
Rights maturing in 1995. Expenses relating to this Book Value Rights
Program were $234, $3,738 and $4,579 in 1996, 1995 and 1994,
respectively.
The Management Incentive Plan approved by the Company's
stockholders in May, 1994 provides for the award of up to 2,500,000
shares of common stock or equivalent units (subject to anti-dilution
adjustments) in the form of incentive stock options, non-qualified stock
options, book value awards, stock appreciation rights, restricted stock
and performance stock units. All directors, officers and other senior
management employees of the Company or any of its subsidiaries are
eligible to participate in this Management Incentive Plan. Book value
awards issued relating to this Plan totalled 481,671, 623,649 and
336,236 in 1996, 1995 and 1994, respectively. Stock appreciation rights
issued also relating to this Plan totalled 533,910, 689,919 and 613,435
in 1996, 1995, and 1994, respectively. Expenses relating to book value
awards were $2,140, $714 and $0 in 1996, 1995 and 1994. Expenses
relating to stock appreciation rights were $6,224, $366 and $0 in 1996,
1995 and 1994.
NOTE K-Net Capital Requirements
The insurance companies included in the consolidated financial
statements are subject to the financial capacity guidelines established
by their respective state Divisions of Insurance. Every Massachusetts
insurance company seeking to make any dividend or other distributions to
its stockholders must file a report with the Commissioner. An
extraordinary dividend is any dividend or other property, whose fair
value together with other dividends or distributions made within the
preceding twelve months exceeds the greater of ten percent of the
insurer's surplus as regards policyholders as of the end of the
preceding year, or the net income of a non-life insurance company for
the preceding year. No pro-rata distribution of any class of the
insurer's own securities is to be included. No Massachusetts insurance
company shall pay an extraordinary dividend or other extraordinary
distribution until thirty days after the Commissioner has received
notice of the intended distribution and has not objected. No
extraordinary dividends were paid in 1996, 1995 and 1994.
To the extent Commerce and Citation are restricted from paying
dividends to CHI, CHI will be limited in its ability to pay dividends to
the Company. On this basis, the Company's ability to pay dividends to
its stockholders is limited. During 1996 Commerce and Citation paid
$37,130 and $6,600 in dividends, respectively, to CHI; CHI then paid
$43,470 to the Company in March 1996. During 1995, Commerce and
Citation paid $29,845 and $4,950 in dividends, respectively, to CHI; CHI
then paid $34,650 to the Company in March 1995.
36
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE K-Net Capital Requirements (continued)
The Board of Directors of the Company voted to declare four
quarterly dividends to stockholders of record totaling $0.81 per share
and $0.23 per share in 1996 and 1995, respectively. On May 17, 1996,
the Board voted to increase the quarterly stockholder dividend from
$0.06 to $0.25 per share to stockholders of record as of June 7, 1996.
Prior to that declaration, the Company had paid quarterly dividends of
$0.06 per share dating back to May 19, 1995 when the Board voted to
increase the dividend from $0.05 to $0.06 per share. The $0.05 cash
dividend per share was first declared by the Board on May 20, 1994.
Treasury Stock purchased under the stock buyback program increased
by 673,915 shares during 1996 to 1,937,348 shares at December 31, 1996.
The stock buyback program, authorized by the Board in May 1995, enables
the Company to purchase up to three million shares of the Company's
common stock. The program is now approximately two-thirds of the way
complete.
NOTE L-Statutory Balances
Following is a GAAP to Statutory reconciliation for both earnings
and policyholders surplus for the combined operations of Commerce,
Citation and effective August 31, 1995, Western Pioneer:
<TABLE>
1996 1995
1994
Earnings Equity Earnings Equity
Earnings Equity
<CAPTION>
<S> <C> <C> <C> <C>
<C> <C>
GAAP............................ $ 74,432 $550,151 $110,450
$512,875 $113,892 $378,301
Deferred income taxes........... 929 2,165 4,152
(2,650) (10,051) (38,180)
Deferred acquisition costs...... (15,808) (82,968) (8,094)
(67,160) (5,419) (59,066)
Bonds-book versus market........ - (16,194) -
(14,432) - 56,366
Preferred stock-market versus
book........................... - (331) -
(1,607) - (1,081)
Deferred income................. (963) 7,768 (1,496)
6,766 4,321 11,575
Deferred service fee income..... 1,538 1,538 - -
- - -
Deferred reinsurance
commissions.................... 2,082 5,796 2,060
5,614 (1,257) 2,297
Statutory reserve over statement
reserves....................... - (5,397) -
(1,940) - (437)
Goodwill in subsidiary.......... (270) 2,515 (97)
2,806 - -
Difference in GAAP to statutory
net income in subsidiary....... 416 - (74) -
- - -
Other........................... 4 (304) (4)
(162) - -
(12,072) (85,412) (3,553)
(72,765) (12,406) (28,526)
Statutory....................... 62,360 464,739 106,897
440,110 101,486 349,775
Less subsidiary net loss from
January 1, 1995 through
August 30, 1995................ - - 429 -
- - -
Adjusted statutory.............. $ 62,360 $464,739 $107,326
$440,110 $101,486 $349,775
</TABLE>
37
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE M-Segment Information
Selected information by industry segment for 1996, 1995 and 1994 is
summarized as follows:
<TABLE>
Earnings
Before Identifiable
Revenue Income
Taxes Assets
1996
<CAPTION>
<S> <C> <C>
<C>
Property and casualty insurance............ $740,707 $ 91,242
$1,590,695
Real estate and commercial lending......... 4,249 4,249
75,255
Corporate and other........................ 3,301
(3,478) 10,849
Consolidated........................... $748,257 $ 92,013
$1,676,799
1995
Property and casualty insurance............ $677,217 $147,378
$1,479,898
Real estate and commercial lending......... 3,804 3,804
76,642
Corporate and other........................ 3,014
(1,440) 7,635
Consolidated........................... $684,035 $149,742
$1,564,175
1994
Property and casualty insurance............ $691,478 $167,738
$1,315,100
Real estate and commercial lending......... 3,972 3,972
59,452
Corporate and other........................ 3,613 278
7,674
Consolidated........................... $699,063 $171,988
$1,382,226
</TABLE>
NOTE N-Supplement to Consolidated Statements of Cash Flows
<TABLE>
Disclosure of cash flow information:
Year
ended December 31,
1996
1995 1994
Cash paid during the year for:
<CAPTION>
<S> <C>
<C> <C>
Federal and state income taxes........................ $17,007
$43,658 $48,140
State premium and related taxes of insurance
subsidiaries......................................... 17,859
15,592 15,517
</TABLE>
During the years ended December 31, 1996, 1995 and 1994, the
Company acquired property through foreclosure of mortgages held with
remaining principle balances at the time of foreclosure of $245, $641
and $1,930, respectively.
NOTE O-Insolvency Fund Assessments
As provided in the statutes, insurance companies which write
business in Massachusetts are assessed for losses attributable to the
insolvency of other insurance companies by the Massachusetts Insurers
Insolvency Fund ("M.I.I.F."). From its inception, on August 2, 1972
through December 31, 1996, the M.I.I.F. has approved assessments
totaling $138,489, of which the Company's share was approximately
$7,823. It is anticipated that there will be additional assessments
from time to time relating to various insolvencies. By statute, no
insurer may be assessed in any year an amount greater than two percent
of that insurer's net direct written premiums for the calendar year
preceding the assessment. Although the timing and amounts of any such
assessments are not known, Management is of the opinion that such
assessments will not have a material effect on the consolidated
financial position of the Company. The Company's policy is to record
these assessments as assessed. According to statute, the assessed
insurance companies have the right to recoup amounts paid to the
M.I.I.F., over a reasonable length of time, through premium rates
approved by the Commissioner. The Company's policy is to record the
recovery of the assessed amounts as received. Assessments by the
M.I.I.F. for the years ended December 31, 1996, 1995 and 1994 were $742,
$338 and $331, respectively.
38
<PAGE>
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996, 1995 and 1994
(Thousands of Dollars)
NOTE P-Quarterly Results of Operations (Unaudited)
An unaudited summary of the Company's 1996 and 1995 quarterly
performance is as follows:
<TABLE>
1996 FIRST SECOND
THIRD FOURTH
QUARTER QUARTER
QUARTER QUARTER
<CAPTION>
<S> <C> <C>
<C> <C>
Total revenues................................. $173,802 $186,448
$192,333 $195,674
Net earnings................................... 14,593 16,265
21,436 21,670
Net earnings per weighted average common
share (primary and fully diluted)............ 0.40 0.45
0.59 0.60
Cash dividends paid per share.................. 0.06 0.25
0.25 0.25
1995
Total revenues................................. $164,462 $167,374
$174,259 $177,940
Net earnings................................... 22,271 29,287
28,847 29,796
Net earnings per weighted average common
share (primary and fully diluted)............ 0.59 0.77
0.77 0.80
Cash dividends paid per share.................. 0.05 0.06
0.06 0.06
</TABLE>
NOTE Q-Subsequent Events
On January 24, 1997, the Massachusetts Commissioner of Insurance
issued 1997 private passenger automobile rates. The overall rate
decrease from 1996 rates was 6.2%. This decrease was partially driven
by corrections to an industry error impacting prior year rate decisions.
The industry error resulted from a miscalculation of industry expense
allowances that had the effect of overstating rates for 1991 through
1996. Rates for 1997 include an adjustment to recoup this error from
the industry equal to 40% of the error with 40% reducing 1998 rates and
20% reducing 1999 rates.
Additionally, 1997 rates were decreased as a result of the
reconciliation of the Safe Driver Insurance Plan ("SDIP") which is
designed to be revenue neutral. In most recent past years, the SDIP
reconciliation resulted in a deficit which was then added into the rates
for the subsequent years. The 1996 SDIP reconciliation, however,
resulted in a surplus. Fifty percent of this surplus is being used to
decrease rates in both 1997 and 1998.
The Company has performed an analysis of the rate decision and has
estimated the impact of the above two items on its results assuming its
market share remains the same as it was at the end of 1996. The earned
premium impact is estimated to be approximately $15.3 million for 1997,
$23.0 million for 1998 and $13.5 million for 1999. The earnings per
share after-tax impact resulting from the lower earned premiums for
1997, 1998 and 1999 is estimated to be $0.28, $0.41 and $0.23,
respectively. If the Company's future market share increases
(decreases), a larger (smaller) financial impact would result.
The Company was notified in January 1997 that its application for
a license in the State of Vermont was approved. Applications for
licenses in the states of Maine and New Hampshire remain pending.
39
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data presented below should be
read in conjunction with the consolidated financial statements of the
Company and the notes thereto. This financial data has been extracted
from financial statements audited by Coopers & Lybrand L.L.P. All
dollar amounts set forth in the following tables are in thousands except
per share data.
<TABLE>
Year Ended
December 31,
1996 1995 1994
1993 1992
Statement of Earnings Data:
<CAPTION>
<S> <C> <C> <C>
<C> <C>
Net premiums written........... $ 711,570 $ 603,421 $ 589,197
$ 563,416 $ 508,847
Increase in unearned premiums.. (42,854) (10,831) (17,144)
(14,856) (98,353)
Earned premiums................ 668,716 592,590 572,053
548,560 410,494
Net investment income.......... 77,402 71,313 62,901
53,068 39,223
Premium finance fees........... 9,713 19,420 18,497
16,666 13,916
Net realized investment gains
(losses)...................... (7,574) 712 45,612
7,506 1,537
Total revenues............ 748,257 684,035 699,063
625,800 465,170
Losses and loss adjustment
expenses...................... 475,231 367,552 369,660
373,959 271,789
Policy acquisition costs....... 181,013 166,741 157,415
150,195 117,833
Total expenses............ 656,244 534,293 527,075
524,154 389,622
Other income
Withdrawing companies'
settlements................... - - -
- - 43,168
Earnings before income taxes... 92,013 149,742 171,988
101,646 118,716
Income taxes................... 18,049 39,541 49,405
26,330 34,411
Net earnings.............. $ 73,964 $ 110,201 $ 122,583
$ 75,316 $ 84,305
Per Share Data:
Net earnings per share.... $ 2.04 $ 2.93 $ 3.23
$ 1.98 $ 2.23
Cash dividends paid per
share................... $ 0.81 $ 0.23 $ 0.15
$ - $ -
Weighted average number of
shares outstanding.............. 36,311,887 37,632,236 38,000,000
38,000,000 37,852,108
</TABLE>
<TABLE>
Year Ended
December 31,
1996 1995 1994
1993 1992
Balance Sheet Data:
<CAPTION>
<S> <C> <C> <C>
<C> <C>
Total investments.............. $1,027,136 $1,044,113 $ 899,546
$ 860,017 $ 633,470
Premiums receivable............ 158,153 127,243 102,529
95,262 68,724
Total assets................... 1,676,799 1,564,175 1,382,226
1,298,371 1,097,304
Unpaid losses and loss
adjustment expenses........... 649,913 618,791 592,373
567,797 495,800
Unearned premiums.............. 367,991 330,454 314,719
283,526 264,567
Stockholders' equity........... 587,039 549,714 413,589
383,348 281,933
Stockholders' equity per share 16.28 14.96 10.88
10.09 7.42
</TABLE>
40
<PAGE>
MANAGEMENT'S DISCUSSION OF THE SUPPLEMENTAL INFORMATION
ON INSURANCE OPERATIONS
(Thousands of Dollars)
The following exhibits depict the progress of the insurance
operations of the Company over the past fifteen years. For these years
of operation, net premiums written amounted to $4,066,668. During this
period, the average statutory financial ratios were 66.9% for losses and
loss expenses and 27.2% for underwriting expenses resulting in an
average combined ratio of 94.1%. Total net investment income amounted
to $437,553 or 10.8% of net premiums written. Net realized gains were
$65,117. Stockholders' equity was $8,384 at the beginning of 1982 and
$550,151, at the end of 1996, resulting in an average annual increase of
33.1%. The progress of the insurance operations during the most recent
five year period, compared to the two previous five year periods, can
best be illustrated by the following comparison:
<TABLE>
5 Year
Period
1992-96
1987-91 1982-86
<CAPTION>
<S> <C> <C>
<C>
Direct premiums written............................ $3,110,296
$1,710,049 $346,678
Net premiums written............................... 2,976,451
895,364 194,853
Net investment income.............................. 303,546
106,790 27,217
Net realized gains................................. 50,290
13,942 885
Stockholders' equity at end of period.............. 550,151
177,225 31,461
Statutory Financial Ratios (Unaudited)
Losses and loss expenses to premiums earned...... 66.5%
66.8% 74.5%
Underwriting expenses to net premiums written.... 27.4
26.6 27.0
Combined ratio............................... 93.9%
93.4% 101.5%
Increase in Stockholders' Equity................... 210.5%
462.5% 275.3%
</TABLE>
The insurance operations of the Company include the operating results of
Commerce, its subsidiary company Western Pioneer and Citation. Citation
commenced business in 1981 as a wholly-owned subsidiary of Commerce. On
December 31, 1989 the ownership of Citation was transferred to The
Commerce Group, Inc. Capital stock, paid-in capital and retained
earnings of Commerce and Citation as of January 1, 1989 were combined
due to the effect of the transfer in ownership of Citation to The
Commerce Group, Inc. on December 31, 1989. In September 1993, ownership
of both Commerce and Citation was transferred from The Commerce Group,
Inc. to CHI, a subsidiary of The Commerce Group, Inc. Results of
Western Pioneer are included since its acquisition by Commerce on August
31, 1995. The combined balance sheets of these insurance subsidiaries
appear on pages 42 and 43. The combined statements of earnings of
insurance operations appear on pages 44 and 45.
41
<PAGE>
MANAGEMENT'S DISCUSSION OF THE SUPPLEMENTAL INFORMATION
ON INSURANCE OPERATIONS (continued)
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
COMBINED BALANCE SHEETS OF INSURANCE SUBSIDIARIES
December 31,
(Thousands of Dollars)
<TABLE>
1996 1995 1994
1993 1992
ASSETS
<CAPTION>
<S> <C> <C> <C>
<C> <C>
Cash and short-term investments.... $ 140,102 $ 52,308 $ 4,560
$ 12,615 $ 25,809
Bonds, at market (at amortized cost
prior to 1993).................... 716,702 815,277 745,010
649,491 505,565
Preferred stocks, at market (at
amortized cost prior to 1993)..... 147,680 111,220 85,574
80,059 2,261
Common stocks, at market........... 86,041 40,359 9,656
47,462 43,545
Mortgage loans on real estate...... 45,398 31,404 35,715
42,042 60,697
Premium balances receivable........ 157,673 126,090 101,529
94,333 67,876
Investment income receivable....... 12,655 14,440 13,285
10,205 9,710
Residual market receivable......... 195,213 200,124 214,818
220,312 274,426
Reinsurance receivable............. 19,659 21,897 16,892
12,868 365
Deferred acquisition costs......... 82,968 67,160 59,066
53,647 55,442
Current income taxes............... - - -
- - -
Deferred income taxes.............. - 2,100 38,180
- - -
Real estate, furniture and equipment 26,138 24,642 25,246
22,371 23,183
Total assets................ $1,630,229 $1,507,021 $1,349,531
$1,245,405 $1,068,879
LIABILITIES
Unpaid losses and loss expenses.... $ 649,913 $ 618,791 $ 592,373
$ 567,797 $ 495,800
Unearned premiums.................. 367,991 330,454 314,719
283,526 264,567
Notes payable...................... - - -
- - -
Deferred income.................... 7,974 8,954 10,451
7,351 8,384
Accounts payable, accrued and other
liabilities....................... 49,309 34,351 43,433
16,564 20,863
Current income taxes............... 2,726 1,596 10,254
4,867 9,249
Deferred income taxes.............. 2,165 - -
13,669 4,400
Total liabilities........... 1,080,078 994,146 971,230
893,774 803,263
STOCKHOLDERS' EQUITY
Capital stock...................... 3,600 3,450 3,450
3,450 3,450
Paid-in capital.................... 45,050 23,700 23,700
8,700 8,700
Retained earnings
Balance, January 1............... 485,725 351,151 339,481
253,466 165,075
Net earnings..................... 74,432 110,450 113,892
79,837 91,980
Unrealized gains (losses) on
investments..................... 6,574 58,919 (77,622)
21,928 9,811
Dividends paid................... (65,230) (34,795) (24,600)
(15,750) (13,400)
Balance, December 31............... 501,501 485,725 351,151
339,481 253,466
Total stockholders' equity.. 550,151 512,875 378,301
351,631 265,616
Total liabilities and
stockholders' equity...... $1,630,229 $1,507,021 $1,349,531
$1,245,405 $1,068,879
</TABLE>
42
<PAGE>
MANAGEMENT'S DISCUSSION OF THE SUPPLEMENTAL INFORMATION
ON INSURANCE OPERATIONS (continued)
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
COMBINED BALANCE SHEETS OF INSURANCE SUBSIDIARIES
December 31,
(Thousands of Dollars)
<TABLE>
1991 1990 1989 1988 1987 1986 1985
1984 1983 1982
ASSETS
<CAPTION>
<S> <C> <C> <C> <C> <C> <C> <C>
<C> <C>
$ 11,190 $ 38,654 $ 84,308 $ 60,885 $ 21,051 $ 10,048 $ 11,802 $
7,953 $ 3,864 $ 6,557
329,935 242,735 153,621 133,867 116,220 88,755 56,985
34,422 22,352 14,054
869 1,010 1,324 1,606 2,295 6,755 9,956
10,837 7,986 4,759
30,055 4,869 2,900 1,921 1,438 149 134
1,494 1,540 1,507
66,122 56,124 52,244 42,882 15,931 - -
7,825 5,860 3,555
55,510 57,733 56,713 33,727 19,329 11,817 8,194
6,028 5,430 2,810
6,063 4,235 3,093 2,889 2,370 2,485 1,722
1,286 887 523
277,196 290,440 268,951 198,177 132,725 87,178 50,327
29,187 20,513 13,000
- - - - - - -
- - - -
33,981 27,273 22,702 15,699 10,898 7,129 5,417
3,968 3,057 1,731
- - 341 266 - 2,209 1,294
- - - 260
883 1,666 - - - - -
- - - -
24,163 25,046 23,118 9,684 8,356 7,370 5,648
3,136 2,799 2,590
$835,967 $749,785 $669,315 $501,603 $330,613 $223,895 $151,479
$106,136 $74,288 $51,346
LIABILITIES
$439,551 $403,752 $345,020 $270,628 $169,539 $113,513 $ 71,525 $
44,425 $32,860 $23,154
192,785 175,334 174,345 118,079 84,876 55,378 36,024
23,585 14,190 9,496
- 1,662 1,837 2,013 2,204 3,772 4,140
2,858 1,313 1,388
12,918 20,264 23,689 23,307 11,058 7,503 4,208
3,173 1,658 1,302
7,677 21,065 27,513 19,350 14,532 8,532 4,162
4,479 2,482 2,731
5,811 3,542 - - 470 - -
418 1,487 -
- - 1,623 1,021 1,853 3,736 3,623
2,610 2,079 1,582
658,742 625,619 574,027 434,398 284,532 192,434 123,682
81,548 56,069 39,653
STOCKHOLDERS' EQUITY
3,450 3,450 3,450 2,350 2,350 2,350 2,350
2,350 2,250 2,000
8,700 8,700 8,700 6,500 6,500 6,500 6,500
6,500 5,500 4,000
112,016 83,138 62,877 37,231 22,611 18,947 15,738
10,469 5,693 4,084
55,214 32,414 21,966 21,837 15,614 4,362 4,025
6,033 5,213 1,819
2,545 (86) 645 321 (54) 7 (158)
(179) 63 198
(4,700) (3,450) (2,350) (1,034) (940) (705) (658)
(585) (500) (408)
165,075 112,016 83,138 58,355 37,231 22,611 18,947
15,738 10,469 5,693
177,225 124,166 95,288 67,205 46,081 31,461 27,797
24,588 18,219 11,693
$835,967 $749,785 $669,315 $501,603 $330,613 $223,895 $151,479
$106,136 $74,288 $51,346
</TABLE>
43
<PAGE>
MANAGEMENT'S DISCUSSION OF THE SUPPLEMENTAL INFORMATION
ON INSURANCE OPERATIONS (continued)
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
COMBINED STATEMENTS OF EARNINGS OF INSURANCE OPERATIONS
Year Ended December 31,
(Thousands of Dollars)
<TABLE>
1996 1995 1994
1993 1992
Underwriting
<S> <C> <C> <C>
<C> <C>
Direct premiums written.............. $731,823 $626,666 $625,023
$601,289 $525,495
Net premiums written................. $711,570 $603,421 $589,197
$563,416 $508,847
Increase in unearned premiums........ 42,854 10,831 17,144
14,856 98,353
Earned premiums.................. 668,716 592,590 572,053
548,560 410,494
Expenses
Losses and loss expenses............. 474,173 367,258 369,764
373,243 271,848
Underwriting expenses................ 194,873 171,892 162,446
147,290 138,669
(Increase) decrease in deferred
acquisition costs................... (15,809) (5,723) (5,420)
1,796 (21,462)
Total expenses................... 653,237 533,427 526,790
522,329 389,055
Underwriting income (loss)............. 15,479 59,163 45,263
26,231 21,439
Net investment income.................. 76,867 71,007 63,119
52,868 39,685
Premium finance fees................... 9,666 19,246 18,315
16,486 13,734
Net realized investment gains (losses). (7,863) 720 32,025
13,040 12,368
Earnings before Federal income
taxes and withdrawing companies'
settlements...................... 94,149 150,136 158,722
108,625 87,226
Other income
Withdrawing companies' settlements... - - -
- - 43,168
Earnings before Federal income taxes... 94,149 150,136 158,722
108,625 130,394
Federal income taxes (benefits)........ 19,717 39,686 44,830
28,788 38,414
Earnings before cumulative effect of
change in accounting principle........ 74,432 110,450 113,892
79,837 91,980
Cumulative effect on prior years (to
December 31, 1986) of changing to
different method of accounting for
income taxes.......................... - - -
- - -
NET EARNINGS..................... $ 74,432 $110,450 $113,892
$ 79,837 $ 91,980
Statutory Financial Ratios (Unaudited)
Losses and loss expenses to
premiums earned..................... 70.9% 62.0% 64.6%
68.0% 66.2%
Underwriting expenses to net
premiums written.................... 27.1 29.0 27.1
25.7 28.1
Combined ratio................... 98.0% 91.0% 91.7%
93.7% 94.3%
Underwriting profit (loss)....... 2.0% 9.0% 8.3%
6.3% 5.7%
</TABLE>
44
<PAGE>
MANAGEMENT'S DISCUSSION OF THE SUPPLEMENTAL INFORMATION
ON INSURANCE OPERATIONS (continued)
THE COMMERCE GROUP, INC. AND SUBSIDIARIES
COMBINED STATEMENTS OF EARNINGS OF INSURANCE OPERATIONS
Year Ended December 31,
(Thousands of Dollars)
<TABLE>
1991 1990 1989 1988 1987 1986 1985
1984 1983 1982
<CAPTION>
<S> <C> <C> <C> <C> <C> <C> <C>
<C> <C>
$429,780 $401,077 $366,492 $306,469 $206,231 $131,807 $85,000
$65,699 $37,318 $26,854
$310,999 $219,936 $140,313 $124,923 $ 99,193 $ 60,808 $49,229
$33,943 $25,817 $25,056
30,193 34,692 12,655 9,678 13,428 6,775 6,392
2,137 2,258 1,902
280,806 185,244 127,658 115,245 85,765 54,033 42,837
31,806 23,559 23,154
173,901 125,219 88,564 80,203 65,299 44,205 33,548
19,567 15,242 15,923
85,655 55,551 44,181 33,115 25,882 18,460 15,177
11,241 6,532 9,000
(6,708) (4,571) (7,003) (4,801) (3,769) (1,712) (1,448)
(911) (1,327) (811)
252,848 176,199 125,742 108,517 87,412 60,953 47,277
29,897 20,447 24,112
27,958 9,045 1,916 6,728 (1,647) (6,920) (4,440)
1,909 3,112 (958)
32,661 25,978 21,256 15,999 10,896 7,554 6,835
5,684 4,108 3,036
11,165 10,074 8,095 4,592 3,021 1,436 531
324 39 -
7,529 74 618 2,298 3,423 185 336
(108) 314 158
79,313 45,171 31,885 29,617 15,693 2,255 3,262
7,809 7,573 2,236
- - - - - - -
- - - -
79,313 45,171 31,885 29,617 15,693 2,255 3,262
7,809 7,573 2,236
24,099 12,757 9,919 7,780 2,987 (2,107) (763)
1,776 2,360 417
55,214 32,414 21,966 21,837 12,706 4,362 4,025
6,033 5,213 1,819
- - - - 2,908 - -
- - - -
$ 55,214 $ 32,414 $ 21,966 $ 21,837 $ 15,614 $ 4,362 $ 4,025 $
6,033 $ 5,213 $ 1,819
61.9% 65.7% 68.0% 69.5% 79.4% 83.5% 79.7%
63.6% 63.8% 69.8%
30.0 26.7 26.3 22.0 22.5 24.4 28.1
27.8 23.9 33.5
91.9% 92.4% 94.3% 91.5% 101.9% 107.9% 107.8%
91.4% 87.7% 103.3%
8.1% 7.6% 5.7% 8.5% (1.9%) (7.9%) (7.8%)
8.6% 12.3% (3.3%)
</TABLE>
45
<PAGE>
THE COMMERCE GROUP, INC.
DIRECTORS
<TABLE>
<CAPTION>
<S> <C>
Herman F. Becker......................... President and owner, Sterling
Realty and Huguenot Development
Corporation
Joseph A. Borski, Jr..................... Self-employed Certified Public
Accountant
Eric G. Butler........................... Retired Vice President-General
Claims Manager of Commerce and
Citation
Henry J. Camosse......................... Retired President, Henry
Camosse & Son Co., Inc., a
building and masonry supplies company
Gerald Fels.............................. Executive Vice President and
Chief Financial Officer of
the Company
David R. Grenon.......................... Assistant Clerk and Chairman
of the Advisory Board
of The Protector Group
Insurance Agency, Inc., a
property and casualty
insurance agency.
Robert W. Harris......................... Retired Treasurer, H.C.
Bartlett Insurance Agency, Inc.
Robert S. Howland........................ Retired Clerk, H.C. Bartlett
Insurance Agency, Inc.
John J. Kunkel........................... Retired President and
Treasurer, Kunkel Buick and
GMC Truck, retired Treasurer,
Kunkel Bus Company
Raymond J. Lauring....................... Retired President, Lauring
Construction Company
Roger E. Lavoie.......................... Retired President and
Treasurer, Lavoie Toyota-
Dodge, Inc.
Normand R. Marois........................ Retired Chairman of the Board,
Marois Bros., Inc.,
a contracting firm
Suryakant M. Patel....................... Physician specializing in
internal medicine
Arthur J. Remillard, Jr.................. President, Chief Executive
Officer, and Chairman
of the Board of the Company
Arthur J. Remillard, III................. Senior Vice President and
Assistant Clerk of
the Company, Senior Vice
President of Commerce
and Citation in charge of
Policyholder Benefits
Regan P. Remillard....................... Senior Vice President -
General Counsel
of the Company, President and
Secretary of
Western Pioneer Insurance
Company
Antranig Sahagian........................ Retired Owner, A. Sahagian
Service Center
Gurbachan Singh.......................... Physician specializing in
general surgery
John W. Spillane......................... Clerk of the Company and
practicing attorney
</TABLE>
46
<PAGE>
DIRECTORS OF
COMMERCE HOLDINGS, INC.
The Commerce Insurance Company
Western Pioneer Insurance Company
Citation Insurance Company
<TABLE>
<CAPTION>
<S> <C>
Arthur J. Remillard, Jr................ President, Chief Executive
Officer and Chairman
of the Board
Gerald Fels............................ Executive Vice President and
Chief Financial
Officer
Arthur J. Remillard, III (1)........... Senior Vice President and
Clerk
Regan P. Remillard..................... Senior Vice President -
General Counsel, President and
Secretary of Western Pioneer Insurance Company
David R. Grenon (1).................... Assistant Clerk and Chairman
of the Advisory
Board of The Protector Group
Insurance Agency
John M. Nelson (1)..................... Chairman and Chief Executive
Officer of Wyman-
Gordon Company
Suryakant M. Patel (1)................. Physician specializing in
internal medicine
William G. Pike (1).................... Executive Vice President and
Chief Financial
Officer of Granite State
Bankshares, Inc.
DIRECTORS OF
BAY FINANCE COMPANY, INC.
Arthur J. Remillard, Jr................ President and Chairman of the
Board
Gerald Fels............................ Executive Vice President and
Chief Financial
Officer
John W. Spillane....................... Clerk and practicing attorney
Arthur J. Remillard, III............... Assistant Clerk
Regan P. Remillard..................... Senior Vice President
DIRECTORS OF
CLARK-PROUT INSURANCE AGENCY, INC.
Arthur J. Remillard, Jr................ President and Chairman of the
Board
Gerald Fels............................ Executive Vice President and
Chief Financial
Officer
John W. Spillane....................... Clerk and practicing attorney
Arthur J. Remillard, III............... Assistant Clerk
Elizabeth M. Edwards................... Vice President
</TABLE>
(1) Commerce Holdings, Inc., The Commerce Insurance Company and Citation
Insurance Company
only.
47
<PAGE>
THE COMMERCE GROUP, INC.
Commerce Holdings, Inc.
The Commerce Insurance Company
Western Pioneer Insurance Company
Citation Insurance Company
Bay Finance Company, Inc.
Clark-Prout Insurance Agency, Inc.
OFFICERS OF
THE COMMERCE GROUP, INC.
<TABLE>
<CAPTION>
<S> <C>
President, Chief Executive Officer and Chairman of the Board... Arthur
J. Remillard, Jr.
Executive Vice President and Chief Financial Officer........... Gerald
Fels
Senior Vice President and Assistant Clerk...................... Arthur
J. Remillard, III
Senior Vice President and General Counsel...................... Regan
P. Remillard
Senior Vice President.......................................... Mary
M. Fontaine
Clerk.......................................................... John
W. Spillane
Treasurer and Chief Accounting Officer.........................
Randall V. Becker
Assistant Treasurer............................................ Thomas
A. Gaylord
Assistant Vice President....................................... Robert
E. McKenna
* Officers of Subsidiaries
President, Chief Executive Officer and Chairman of the Board... Arthur
J. Remillard, Jr.
Executive Vice President and Chief Financial Officer........... Gerald
Fels
Senior Vice Presidents......................................... David
H. Cochrane
Mary
M. Fontaine
Robert
E. Longo
Arthur
J. Remillard, III
Joyce
B. Virostek
Senior Vice President and General Counsel...................... Regan
P. Remillard
Vice Presidents................................................ Peter
J. Dignan
Elizabeth M. Edwards
Michael J. Richards
Angelos Spetseris
Henry
R. Whittier, Jr.
Assistant Vice Presidents..............Burton C. Aaronson Ronald
J. Lareau
Robert M. Blackmer Karen
A. Lussier
Stephen R. Clark Donald
G. MacLean
Raymond J. DeSantis Robert
E. McKenna
Warren S. Ehrlich Robert
L. Mooney
John V. Kelly
Kenneth E. Morrison
Treasurer and Chief Accounting Officer.........................
Randall V. Becker
Assistant Treasurer............................................ Thomas
A. Gaylord
Officers of Western Pioneer Insurance Company
President and Secretary........................................ Regan
P. Remillard
Chief Financial Officer........................................ Albert
E. Peters
Assistant Vice President....................................... Robert
M. Keppel
Treasurer and Controller....................................... Joan
M. Kelly
</TABLE>
* Officers often hold positions with several operating subsidiaries.
The titles listed
represent their primary office as of March 1, 1997.
48
<PAGE>
Stockholder Information
Special Meeting in Lieu of the Annual Meeting
A special meeting in lieu of the annual meeting of stockholders will be
held at 9:00 a.m. on Friday, May 30, 1997 at the Company's Underwriting
Building, 11 Gore Road (Route 16), Webster, MA.
Form 10-K
Stockholders interested in the detailed information contained in the
Company's annual report on Form 10-K, as filed with the Securities and
Exchange Commission, may obtain a copy without charge, by writing to the
Assistant to the President at 211 Main Street, Webster, MA 01570.
Transfer Agent
The Commerce Group, Inc.
c/o The First National Bank of Boston
Boston EquiServe, L.P.
Investor Relations
Mail Stop: 45-02-09
P.O. Box 644
Boston, MA 02102-0644
(617) 575-3100
Executive Offices
211 Main Street
Webster, MA 01570
(508) 943-9000
Trading of Common Stock
The Company's Common Stock began trading on the NYSE on March 31, 1995
under the symbol "CGI". Prior to that, the Company's Common Stock was
traded on Nasdaq under the symbol "COMG".
Independent Accountants
Coopers & Lybrand L.L.P.
One Post Office Square
Boston, MA 02109
(617) 478-5000
49
<PAGE>
