U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
Annual Report under Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended December 31, 1996
Commission file number 0-16090
HALLMARK FINANCIAL SERVICES, INC.
(Name of Small Business Issuer in Its Charter)
Nevada 87-0447375
(State or Other Jurisdiction of
Incorporation or Organization) (I.R.S. Employer I.D. No.)
14651 Dallas Parkway, Suite 900, Dallas, Texas 75240
(Address of Principal Executive Offices) (Zip Code)
Issuer's Telephone Number, Including Area Code: (972) 404-1637
Securities registered under Section 12(b) of the Exchange Act:
Title of Each Class Name of Each Exchange on Which Registered
Common Stock, 34 par value American Stock Exchange Emerging Company
Marketplace
Securities registered under Section 12(g) of the Exchange Act: None
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or
for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the
past 90 days.
Yes XX No
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of the registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of
this Form 10-KSB or any amendment to this Form 10-KSB.
State issuer's revenues for its most recent fiscal year - $15,435,462.
State the aggregate market value of the voting stock held by non-
affiliates - $6,749,407 as of March 21, 1997.
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date. Common Stock, 34
par value -10,662,277 shares outstanding as of March 21, 1997.
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DOCUMENTS INCORPORATED BY REFERENCE
The information required by Part III is incorporated by reference from
the Registrant's definitive proxy statement to be filed with the
Commission pursuant to Regulation 14A not later than 120 days after the
end of the fiscal year covered by this report.
RISKS ASSOCIATED WITH FORWARD-LOOKING STATEMENTS INCLUDED IN THIS FORM
10-KSB
This Form 10-KSB contains certain forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E
of the Securities Exchange Act of 1934, which are intended to be covered
by the safe harbors created thereby. These statements include the plans
and objectives of management for future operations, including plans and
objectives relating to future growth of the Company's business
activities and availability of funds. The forward-looking statements
included herein are based on current expectations that involve numerous
risks and uncertainties. Assumptions relating to the foregoing involve
judgments with respect to, among other things, future economic,
competitive and market conditions, regulatory framework, and future
business decisions, all of which are difficult or impossible to predict
accurately and many of which are beyond the control of the Company.
Although the Company believes that the assumptions underlying the
forward-looking statements are reasonable, any of the assumptions could
be inaccurate and, therefore, there can be no assurance that the
forward-looking statements included in this Form 10-KSB will prove to be
accurate. In light of the significant uncertainties inherent in the
forward-looking statements included herein, the inclusion of such
information should not be regarded as a representation by the Company or
any other person that the objectives and plans of the Company will be
achieved.
Item 1. Description of Business.
Introduction
Hallmark Financial Services, Inc. ("HFS"), a Nevada corporation
formed in 1987, and its wholly owned subsidiaries (collectively referred
to herein as the "Company") engage in the sale of insurance products on
credit terms, primarily to lower and middle income customers. The
Company's target market encompasses the substantial number of Americans
who either are denied credit from banks, credit card companies and other
conventional credit sources, or have never established a bank account or
credit history. Currently, the Company's business primarily involves
marketing, underwriting and premium financing of non-standard automobile
insurance. Secondarily, the Company provides fee-based claims adjusting
and related services for affiliates and third parties.
Overview
The Company pursues its business activities through an integrated
insurance group, the dominant members of which are an authorized Texas
property and casualty insurance company, American Hallmark Insurance
Company of Texas ("Hallmark"); a managing general agent, American
Hallmark General Agency, Inc. ("AHGA"); a network of 14 affiliated
insurance agencies known as the American Hallmark Agencies ("Hallmark
Agencies"); a commercial excess and surplus lines affiliated managing
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general agency, Hallmark Underwriters, Inc. ("HUI"); a premium finance
company, Hallmark Finance Corporation ("HFC"); and a claims handling and
adjusting firm, Hallmark Claims Service, Inc. ("HCS"), herein
collectively referred to as the "Insurance Group". The Company operates
only in Texas.
Hallmark writes non-standard automobile liability and physical damage
coverages. Currently, Hallmark provides insurance through a reinsurance
arrangement with an unaffiliated company, State & County Mutual Fire
Insurance Company ("State & County"). Through State & County, Hallmark
provides insurance primarily for high risk drivers who do not qualify
for standard-rate insurance.
AHGA, a managing general agency, holds an appointment from State &
County to manage the sale and servicing of State & County policies.
Hallmark reinsures 100% of the State & County policies produced by AHGA
under a related reinsurance agreement. AHGA markets the policies
produced by Hallmark through the Hallmark Agencies and through a group
of some 450 independent agents operating under their own names.
HUI, formed to market and produce commercial excess and surplus lines
("E&S") insurance on behalf of unaffiliated E&S insurers, began
operations in late April 1996. HUI is expected to generate commission
income by producing E&S insurance business through the Hallmark
Agencies, certain agents from the Company's current independent agent
group, and other selected independent agents not currently representing
the Company.
HFC offers premium financing for policies sold by the Hallmark
Agencies and independent agents managed by AHGA. HFC's premium finance
program is presently available through a financing and servicing
arrangement with an unaffiliated premium finance company. During 1997,
HFC expects to begin offering its own premium finance notes funded by
the proceeds of loan agreements executed in March 1997. (See notes 9
and 11 to Consolidated Financial Statements.)
HCS provides fee-based claims adjustment, salvage and subrogation
recovery, and litigation services to Hallmark and three unaffiliated
third parties.
Summary of Business Development
Formed in 1987, HFS commenced its current operations in 1990 when it
acquired, through several acquisitions, most of the companies now
referred to as the Insurance Group. Previously, HFS owned and operated
a small chain of retail outlets specializing in the sale and financing
of optical products and services. These operations were discontinued as
of December 31, 1990.
During 1990, HFS identified Acadine Capital Corporation ("ACC") as an
acquisition candidate. ACC operated various Texas retail insurance
agencies that sold and financed non-standard automobile insurance on
behalf of unaffiliated insurers. To comply with Texas Department of
Insurance ("TDI") regulatory requirements, HFS first acquired the
capital stock of the then inactive managing general agency, Brokers
General, Inc. (now known as AHGA) on August 3, 1990. The purpose of the
AHGA acquisition was to serve, initially, as a vehicle through which to
acquire the retail agency operations of ACC. On August 30, 1990, HFS,
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through AHGA, acquired all of ACC's assets, including the retail agency
operations. HFS also acquired ACC's premium finance operations through
a newly-created subsidiary, Acadine Finance Corporation (now known as
HFC). Immediately thereafter, HFS purchased the capital stock of
Hallmark, as of September 1, 1990.
During 1991, HFS expanded the Insurance Group through two additional
acquisitions, neither of which constituted a material transaction for
accounting purposes. It acquired the capital stock of Citizen's
Adjustment and Reporting Services, Inc. (now known as HCS) as of January
1, 1991. Also, in May 1991, AHGA acquired the business and assets of
another agency operation. AHGA currently owns fourteen retail agencies
which operate under the American Hallmark Agencies name in various Texas
cities.
Insurance Group Operations
HFS manages Hallmark, AHGA, the Hallmark Agencies, HUI, HFC and HCS
as an integrated Insurance Group that shares common management, computer
facilities and corporate offices. AHGA manages the sale of State &
County policies by the Hallmark Agencies and by independent agents.
HUI produces E&S policies issued by unaffiliated insurance companies and
manages the sale of these policies by the Hallmark Agencies and by
Hallmark reinsures 100% of the State & County policies produced by AHGA
under a related reinsurance agreement. AHGA markets the policies
produced by Hallmark through the Hallmark Agencies and through a group
of some 450 independent agents operating under their own names.
HUI, formed to market and produce commercial excess and surplus lines
("E&S") insurance on behalf of unaffiliated E&S insurers, began
operations in late April 1996. HUI is expected to generate commission
income by producing E&S insurance business through the Hallmark
Agencies, certain agents from the Company's current independent agent
group, and other selected independent agents not currently representing
the Company.
HFC offers premium financing for policies sold by the Hallmark
Agencies and independent agents managed by AHGA. HFC's premium finance
program is presently available through a financing and servicing
arrangement with an unaffiliated premium finance company. During 1997,
HFC expects to begin offering its own premium finance notes funded by
the proceeds of loan agreements executed in March 1997. (See notes 9
and 11 to Consolidated Financial Statements.)
HCS provides fee-based claims adjustment, salvage and subrogation
recovery, and litigation services to Hallmark and three unaffiliated
third parties.
Summary of Business Development
Formed in 1987, HFS commenced its current operations in 1990 when it
acquired, through several acquisitions, most of the companies now
referred to as the Insurance Group. Previously, HFS owned and operated
a small chain of retail outlets specializing in the sale and financing
of optical products and services. These operations were discontinued as
of December 31, 1990.
<PAGE>
During 1990, HFS identified Acadine Capital Corporation ("ACC") as an
acquisition candidate. ACC operated various Texas retail insurance
agencies that sold and financed non-standard automobile insurance on
behalf of unaffiliated insurers. To comply with Texas Department of
Insurance ("TDI") regulatory requirements, HFS first acquired the
capital stock of the then inactive managing general agency, Brokers
General, Inc. (now known as AHGA) on August 3, 1990. The purpose of the
AHGA acquisition was to serve, initially, as a vehicle through which to
acquire the retail agency operations of ACC. On August 30, 1990, HFS,
through AHGA, acquired all of ACC's assets, including the retail agency
operations. HFS also acquired ACC's premium finance operations through
a newly-created subsidiary, Acadine Finance Corporation (now known as
HFC). Immediately thereafter, HFS purchased the capital stock of
Hallmark, as of September 1, 1990.
During 1991, HFS expanded the Insurance Group through two additional
acquisitions, neither of which constituted a material transaction for
accounting purposes. It acquired the capital stock of Citizen's
Adjustment and Reporting Services, Inc. (now known as HCS) as of January
1, 1991. Also, in May 1991, AHGA acquired the business and assets of
another agency operation. AHGA currently owns fourteen retail agencies
which operate under the American Hallmark Agencies name in various Texas
cities.
Insurance Group Operations
HFS manages Hallmark, AHGA, the Hallmark Agencies, HUI, HFC and HCS
as an integrated Insurance Group that shares common management, computer
facilities and corporate offices. AHGA manages the sale of State &
County policies by the Hallmark Agencies and by independent agents.
HUI produces E&S policies issued by unaffiliated insurance companies and
manages the sale of these policies by the Hallmark Agencies and by
independent agents. HFC offers premium finance programs for both State
& County and E&S policies marketed by the Hallmark Agencies and
independent agents managed by AHGA and/or HUI. HCS provides claims
services to Hallmark and unaffiliated third parties.
The Company offers both liability and physical damage (comprehensive
and collision) coverages. Hallmark's bodily injury liability coverage is
limited to $20,000 per person and $40,000 per accident, and property
damage liability coverage is limited to $15,000 per accident. Physical
damage coverage is limited to $40,000 and $30,000 for vehicles insured
under annual and monthly policies, respectively.
During 1996, substantially all purchasers of Hallmark policies were
individuals. No single customer or group of related customers has
accounted for more than 1% of its net premiums written during any of the
last three years.
Currently, the Company writes both annual and monthly policies.
During 1996 and 1995, monthly policies accounted for approximately 52%
and 39%, respectively, of Hallmark's net premium volume. The Company's
typical customer is unable or unwilling to pay a full year's premium in
advance, and thus either a monthly policy or an annual policy on credit
suits his/her budgetary needs. For the annual policy customer, the
Company provides premium financing primarily through a premium finance
program offered by HFC.
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Prior to January 1, 1995, and since early-1992, all premium financing
offered by the Company was provided under a direct-bill program
administered by Hallmark. Effective January 1, 1995, the Company began
financing annual policy premiums produced by the Hallmark Agencies
through a premium finance program offered by its formerly dormant
premium finance subsidiary, HFC. During May 1995, the Company expanded
HFC's operations to include financing premiums produced by the Company's
independent agents. The finance charges a premium finance company may
impose under a premium finance note are subject to state regulation, but
the permissible rates are substantially higher than those an insurance
company may now charge under a direct-bill program.
During 1996, approximately 90% of Hallmark's annual policyholders
financed their premiums through HFC's premium finance program. During
1995, approximately 89% of Hallmark's annual policyholders financed
their premiums through either HFC's premium finance program or
Hallmark's direct-bill program. During 1994, approximately 98% of
Hallmark annual policyholders financed their premiums through Hallmark's
direct-bill program.
HCS provides claims adjustment and related litigation services to
both the Company and third parties. Fees are charged either on a per-
file basis, as a percentage of earned premiums, or in certain instances,
a combination of both methods. When the Company receives notice of a
loss, HCS personnel establish a claim file and an estimated loss
reserve. HCS's adjusters review, investigate and initiate claim
payments, with the Company utilizing a third-party claims service only
in unusual circumstances. The Company has an in-house legal staff and
thus handles much of its claims-related litigation in-house. Management
believes that the Company can achieve optimal efficiency and cost
effectiveness by utilizing its own trained employee-adjusters and in-
house litigation staff in most instances.
Underwriting and Other Ratios
An insurance company's underwriting experience is traditionally
measured by the statutory "combined ratio". The combined ratio under
statutory accounting practices ("SAP") is the sum of (1) the ratio of
net losses and loss adjustment expenses ("LAE") incurred to net premiums
earned (referred to as the "statutory loss ratio"), and (2) the ratio of
underwriting and operating expenses to net premiums written (referred to
as the "statutory expense ratio"). The approximate SAP underwriting
profit or loss is reflected by the extent to which the combined ratio is
less or more than 100%. During 1996, 1995 and 1994, Hallmark
experienced statutory loss ratios of 64.1%, 81.8% and 74.6%,
respectively. During the same periods, it experienced statutory expense
ratios of 31.9 %, 11.2% and 21.1%, respectively, and statutory combined
ratios of 96.0%, 93.0% and 95.7%, respectively. These statutory ratios
do not reflect the deferral of policy acquisition costs, investment
income, premium finance revenues, or the elimination of intercompany
transactions required by generally accepted accounting principles
("GAAP").
The decrease in Hallmark's 1996 statutory loss ratio is principally
due to the combined result of improved loss experience of the Company's
core State & County business and retention of 62.5% of the policy
origination fees (included in premiums earned) effective July 1, 1996.
(See Management's Discussion and Analysis or Plan of Operation - Results
<PAGE>
of Operations.) To a lesser extent, insignificant Texas Automobile
Insurance Plan Association ("TAIPA") premium allocations and more
favorable loss development in 1996 of TAIPA business written in prior
years contributed to the decrease in the 1996 loss ratio. Drivers who
purchase insurance through TAIPA typically present high risks and past
claims have been high. The number of drivers who purchased TAIPA
coverage increased substantially in 1992 and 1993 as the flexible rating
plan described in Reinsurance Arrangements resulted in reduced
availability of alternative coverage. Participation in the TAIPA
program, state-wide, remained high due to lower-than-market premium
rates until a rate increase in June 1995. The percentage of TAIPA
premiums allocated to Hallmark by the state peaked in 1992 and dropped
dramatically in 1994. During 1996, 1995, 1994, 1993 and 1992, the
Company was assigned TAIPA premiums of approximately $4,000, $49,000,
$285,000, $850,000, and $1,350,000, respectively. Due to a marked
decrease in 1994 through 1996 allocations, TAIPA earned premiums for
1996 decreased to approximately $25,000 and thus, has had considerably
less impact on Hallmark's underwriting performance than in prior years.
The Company anticipates that TAIPA premiums should have little to no
impact on Hallmark's future performance absent a regulatory change
governing the TAIPA allocation methodology.
Hallmark's 1995 statutory loss ratio was adversely affected by
unusually high catastrophe losses due to hail, as well as an increase in
non-catastrophic losses. To a lesser extent, adverse loss experience
associated with assumed business produced by an unaffiliated agency
pursuant to a 1993 reinsurance agreement also adversely affected the
statutory loss ratio. Although this agreement was canceled effective
December 31, 1994, the runoff of business pursuant to this contract
continued to negatively impact Hallmark's 1995 loss ratio. Hallmark's
1994 statutory loss ratio was also negatively impacted by adverse loss
experience associated with unaffiliated agency business assumed under
the 1993 reinsurance agreement and to the impact of high losses
associated with 1993 TAIPA premiums earned in 1994. It should be noted
that the impact of TAIPA loss experience was intensified because TAIPA
losses are 100% retained by Hallmark and are not included in Hallmark's
quota-share reinsurance agreements.
Hallmark's 1996 statutory expense ratio of 31.9% has increased
compared to 11.2% and 21.1% in 1995 and 1994, respectively. This
increase in the statutory expense ratio is principally due to an almost
20% decrease in ceding commission income. (See Management's Discussion
and Analysis or Plan of Operation - Financial Condition and Liquidity.)
To a lesser extent, the increased statutory expense ratio is also
affected by the increase in Hallmark's payment and retention of premium
taxes and State & County ceding fees under new reinsurance treaties
effective July 1, 1996. Hallmark's 1995 statutory expense ratio was
favorably impacted by high ceding commission income associated with
unusually high premium volumes during the third quarter of 1995.
Under TDI guidelines, casualty insurance companies are expected to
maintain a premium-to-surplus ratio of not more than 3 to 1. The
premium-to-surplus ratio measures the relationship between net premiums
written in a given period (premiums written, less returned premiums and
reinsurance ceded to other carriers) to surplus (admitted assets less
liabilities), all determined on the basis of SAP. For 1996, 1995, and
1994, Hallmark's premium-to-surplus ratios were 2.21 to 1, 2.58 to 1 and
2.53 to 1, respectively. The strengthening of the 1996 ratio in
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relation to 1995 and 1994 is primarily attributable to the combined
effect of the decrease in 1996 premium volume and the statutory loss
ratio improvement in Hallmark's core State & County business.
Reinsurance Arrangements
Hallmark shares its claims risk with non-affiliated insurance
companies. Effective March 1, 1992, Hallmark and AHGA entered into a
reinsurance arrangement with an unaffiliated company, State & County.
Effective July 1, 1996, this arrangement is supplemented by separate
risk-sharing agreements between Hallmark and three unaffiliated
companies, all of which are rated A- or better by A.M. Best: Kemper
Reinsurance Company ("Kemper"), Dorinco Reinsurance Company ("Dorinco");
and Odyssey Reinsurance Corporation ("Odyssey"), formerly Skandia
America Reinsurance Corporation. Prior to July 1, 1996 and since March
1, 1992, Hallmark's principal quota-share reinsurance was with Vesta
Fire Insurance Corporation ("Vesta"), an unaffiliated company with an
A.M. Best rating of A. Between January 1, 1991 and February 29, 1992,
Hallmark ceded 60% of its risk on a quota-share basis to a group of
eight reinsurers.
Prior to March 1, 1992, Hallmark was a direct writer of non-standard
auto insurance on a consent-to-rate basis. On this basis, Hallmark set
its premiums by reference to standard rates adopted by TDI, but added an
excess premium in each prescribed rating category. Effective March
1992, TDI adopted certain amended regulations which replaced the
existing premium rate-setting procedures with a flexible rating plan.
This change virtually eliminated the possibility of Hallmark continuing
to write insurance on a consent-to-rate basis.
Primarily in response to this regulatory change, the Company entered
into a relationship with a Texas county mutual insurance company, State
& County. Texas county mutual companies are governed by special
statutory standards, and their premium rates are not subject to the
rate-setting formulas or TDI approvals required under the 1992 flexible
rating plan.
Under the Company's arrangement with State & County, AHGA is a
managing general agent appointed by State & County which allows AHGA to
issue State & County policies, as well as appoint producing agents to
sell these policies. AHGA issues State & County policies in accordance
with Hallmark's underwriting standards and pursuant to proposed rates
Hallmark submits to State & County. Hallmark's proposed rates are
effective immediately upon approval by State & County and filing with
TDI. Although State & County is required to file periodic rate
adjustments with the state, TDI approval is not required.
Pursuant to the reinsurance agreement, Hallmark reinsures 100% of the
State & County business produced by AHGA. Under related reinsurance
agreements effective July 1, 1996, Kemper, Dorinco, and Odyssey,
collectively, assume a 75% pro-rata portion of the State & County
business, including claims risk, from Hallmark. In addition, these
reinsurers unconditionally guarantee Hallmark's and AHGA's obligations
to State & County. Under the prior quota-share reinsurance agreement
which was terminated effective June 30, 1996, Vesta assumed a pro-rata
portion of the State & County business, including claims risk, from
Hallmark. From August 1, 1993 to June 30, 1996, Hallmark retained 25%
and Vesta assumed 75% of the State & County business. From March 1,
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1992 through July 31, 1993, Hallmark retained 40% and Vesta assumed the
balance.
As compensation for acting as managing general agent, AHGA receives
commissions equal to a percentage of premiums written. It uses a
portion of these commissions to compensate its producing agents for
selling State & County policies.
State & County receives commissions from Hallmark on the State &
County policies AHGA produces equal to a percentage of Hallmark's
assumed premiums written. The commission rate decreases as the annual
volume of premiums written exceeds specified levels. As permitted by
law, AHGA charges policy origination fees on behalf of Hallmark in
addition to premiums.
Under the new reinsurance agreements between Hallmark and the
reinsurers, Hallmark retains 62.5% and cedes only 37.5% of the policy
origination fees (rather than ceding 75% of the policy origination fees
as under the Vesta treaty), pays premium taxes and front fees on 100% of
the business produced (rather than premium taxes and front fees on only
its retained business under the Vesta treaty), and receives a 30%
provisional commission on the portion of the business ceded (rather than
a guaranteed 30% ceding commission under the Vesta treaty). Policy
origination fees are up-front, fully earned fees that the Company is
permitted by law to charge in addition to premiums to cover or defray
certain costs associated with producing policies. The provisional
commission paid under the new treaties will be adjusted annually over a
three year rating period on a sliding scale based on annual loss ratios.
Based upon its loss experience, Hallmark can earn a maximum commission
of 33.5% and is guaranteed a minimum commission of 26% regardless of
loss experience. Currently, the Company is recognizing a commission of
27.5% based on current loss experience.
Marketing
Customers for non-standard automobile insurance typically fall into
two groups. The first is drivers who have had standard auto insurance
but no longer qualify due to reasons such as driving record, claims
history, or residency status. The second group is drivers who either
live in areas of Texas in which standard-rate insurers do not write
insurance or who are declined coverage because of the standard-rate
insurers' limits on the amount of coverage they write for new customers.
Although these drivers may qualify for the lower standard rates, they
cannot obtain standard coverage.
As managing general agent, AHGA manages the marketing of the
Company's non-standard automobile insurance program through a retail
network of affiliated and independent agencies. At December 31, 1996,
there were 14 affiliated offices, operating under the American Hallmark
Agencies name, and some 450 independent agents with offices located
throughout the State of Texas. The 14 Hallmark Agencies are located in
Amarillo, Austin, Corpus Christi, Houston, Lubbock and the Dallas/Fort
Worth metroplex area.
Marketing efforts are twofold: one, direct advertising to the
insured for the benefit of the Hallmark Agencies; and two, marketing and
ongoing service to the Company's independent agents. The Hallmark
Agencies business is developed primarily through advertising in regional
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and local publications, direct-mail, telephone solicitation and
referrals from standard agents and existing customers. Field marketing
representatives promote the Company's insurance program to prospective
independent agents and service existing agents. The Hallmark Agencies
principally sell Hallmark policies, while independent agents may
represent several standard and non-standard insurers. The Company's
appointed independent agents are located throughout Texas in major
cities, as well as suburban and some rural areas, with an emphasis in
the central and southern regions of Texas.
During 1992, substantially all of the Company's core State & County
business consisted of annual policies produced by the Hallmark Agencies.
During 1993, the Company began bolstering premium volume principally
through independent agent production of monthly policies. Thus, during
1993, annual policies were sold primarily by the affiliated agencies,
while the majority of monthly policies were sold by independent agents.
In 1994, the Company expanded its annual program whereby independent
agents could sell annual policies, but receive commissions on an earned,
or monthly, basis. The Company's previous annual program, offered only
to selected independent agents, was substantially discontinued in late
1993. Annual premium production by independent agents during 1996 and
1995 accounted for approximately 40% and 57%, respectively, of total
independent agent production.
Competition
Information available from industry sources indicates that the
private passenger automobile insurance market in Texas is approximately
$6.8 billion in premium volume. Annual premium volume of the non-
standard automobile policies written in Texas exceeded $2 billion,
according to 1995 data. The Company's 1996 core State & County premium
volume was almost 2% of the total non-standard market with gross
premiums written of approximately $43 million as compared to gross
premiums written of approximately $49 million in 1995 and gross premiums
written of $27 million in 1994. Although competition in the Texas non-
standard automobile insurance market is intense with some 40 companies
competing, management believes that the Company has effective tools for
increasing its market share. The Company relies on its ability to
promptly set rates that are directed toward the lower-risk segment of
the non-standard auto market and to compete on the basis of underwriting
criteria and superior service to its agents and insureds.
Insurance Regulation
The operations of Hallmark, AHGA and HFC are regulated by TDI. HFC
is also subject to further regulation under the Texas Credit Code.
Hallmark is required to file quarterly and annual statements of its
financial condition with TDI, prepared in accordance with SAP.
Hallmark's financial condition, including the adequacy of its surplus,
premium-to-surplus ratio, loss reserves, deposits and investments, is
subject to review by TDI. Since Hallmark does not write its insurance
directly, but rather writes through a county mutual, its premium rates
and underwriting guidelines are not subject to the same degree of
regulation imposed on standard insurance companies. However, as
discussed under Reinsurance Arrangements, premium rates and underwriting
guidelines must be approved by State & County, and State & County, in
turn, must file the rates with TDI. AHGA, HUI, and the producing
agents who staff the Hallmark Agencies offices are subject to TDI's
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licensing requirements. HFC is also subject to licensing, financial
reporting and certain financial requirements. In addition, interest
rates, note forms and disclosures, among other things used by HFC, are
regulated by the Office of Consumer Credit Commissioner, as well as by
the TDI.
TDI has broad authority to enforce its laws and regulations through
examinations, administrative orders, civil and criminal enforcement
proceedings, and suspension or revocation of an insurer's Certificate of
Authority or an agent's license. In extreme cases, including actual or
pending insolvency, TDI may take over, or appoint a receiver to take
over, the management or operations of an insurer or an agent's business
or assets. In addition, all insurance companies which write insurance
in the state of Texas are subject to assessments for a state
administered fund which covers the claims and expenses of insolvent or
impaired insurers. The size of the assessment is determined each year
by the total claims on the fund that year. Each insurer is assessed a
pro-rata share based on its direct premiums written. Payments to the
fund may be recovered by the insurer through deductions from its premium
taxes at a rate of 10% per year over ten years. There were no
assessments during 1996 and 1995, and thus Hallmark made no payments to
the fund during the most recent two years. In 1994, Hallmark paid
$33,619 to the state insolvency fund.
HFS is also regulated as an insurance holding company under the Texas
Insurance Code. Financial transactions between HFS or any of its
affiliates and Hallmark are subject to regulation by TDI. Applicable
regulations require TDI's approval of management and expense sharing
contracts, intercompany loans and asset transactions, investments in the
Company's securities by Hallmark and similar transactions. Further,
dividends and distributions by Hallmark to HFS are restricted.
On May 13, 1996, TDI issued its formal report on the results of TDI's
regular, triennial examination of Hallmark's books and records as of
September 30, 1995. The report indicated that no significant items or
discrepancies were noted during the examination.
Effective December 31, 1994, the National Association of Insurance
Commissioners ("NAIC") requested property/casualty insurers to file a
risk-based capital ("RBC") calculation according to a specified formula.
The purpose of the NAIC-designed formula is twofold: (1) to assess the
adequacy of a company's statutory capital and surplus based upon a
variety of factors such as potential risks related to the company's
investment portfolio, ceded reinsurance and product mix; and (2) to
assist state regulators under the RBC for Insurers Model Act by
providing thresholds at which a state commissioner is authorized and
expected to take regulatory action. Texas has not adopted the RBC for
Insurers Model Act formulated by the NAIC, and currently there are no
TDI filing or compliance requirements related to RBC.
Analysis of Hallmark's Losses and LAE
The Company's consolidated financial statements include an estimated
reserve for unpaid losses and LAE of the Company's non-standard
automobile insurance subsidiary, Hallmark. Hallmark estimates its
reserve for unpaid losses and LAE by using case-basis evaluations and
statistical projections, which include inferences from both losses paid
and losses incurred. Hallmark also uses recent historical cost data,
<PAGE>
periodic reviews of underwriting standards and claims management to
modify the statistical projections. Hallmark gives consideration to the
impact of inflation in determining its loss reserves, but does not
discount reserve balances.
The amount of Hallmark's reserves represents management's estimates
of the ultimate net cost of all unpaid losses and LAE incurred through
December of each year. These estimates are subject to the effect of
trends in claim severity and frequency. Management continually reviews
the estimates and adjusts them as claims experience develops and new
information becomes known. Such adjustments are included in current
operations, including increases and decreases, net of reinsurance, in
the estimate of ultimate liabilities for insured events of prior years.
(See the Loss and Loss Adjustment Expenses section of Note 1 of Notes
to Consolidated Financial Statements.)
The Company continually attempts to improve its loss estimation
process by refining its ability to analyze loss development patterns,
claim payments, and other information within a legal and regulatory
environment which affects development of ultimate liabilities. For
example, in 1992 regulatory changes governing timing of certain claim
payments and reserves affected loss development patterns. In addition,
legal trends changing the potential liability of insureds affect claims
handling procedures and claims-related litigation. Such trends can
significantly affect the ability of insurers to estimate reserves for
unpaid losses and related expenses. Thus, future changes in estimates
of claims costs may adversely affect future period operating results;
however, such effects cannot be reasonably estimated.
Reconciliation of Reserve for Unpaid Losses and LAE. The following
table provides a 1996, 1995 and 1994 reconciliation of the beginning and
ending reserve balances, on a gross-of-reinsurance basis, to the gross
amounts reported in the Company's balance sheet.
<PAGE>
<TABLE>
1996 1995 1994
(Thousands of dollars)
<S> <C> <C> <C>
Reserve for unpaid losses and
LAE, net of reinsurance
recoverables, at beginning
of year $ 5,924 $ 4,297 $ 4,321
Provision for losses and LAE
for claims occurring in the
current period 8,441 8,458 6,803
Increase (decrease) in reserve
for unpaid losses and LAE for
claims occurring in prior
periods (535) 502 (33)
Payments for losses and LAE,
net of reinsurance:
Current period (5,085) (4,020) (3,765)
Prior periods (3,783) (3,313) (3,029)
(8,868) (7,333) (6,794)
Reserve for unpaid losses and
LAE, net of reinsurance
recoverables, at end of year $ 4,962 $ 5,924 $ 4,297
Reinsurance recoverables on
unpaid losses and LAE, at
end of year 15,735 16,399 8,371
Reserve for unpaid losses and
LAE, gross of reinsurance
recoverables on unpaid losses,
at end of year $20,697 $22,323 $12,668
</TABLE>
SAP/GAAP Reserve Reconciliation. The differences between the reserves
for unpaid losses and LAE reported in the Company's consolidated
financial statements prepared in accordance with GAAP and those reported
in the annual statement filed with TDI in accordance with SAP for years
1996 and 1995 are summarized below:
<PAGE>
<TABLE>
1996 1995
(Thousands of Dollars)
<S> <C> <C>
Reserve for unpaid losses and LAE on a
SAP basis (net of reinsurance
recoverables on unpaid losses) $5,483 $6,300
Deduct estimated salvage and subrogation
recoveries reported on a cash basis
for SAP purposes and on an accrual basis
for GAAP purposes (521) (376)
Reserve for unpaid losses and LAE on GAAP
basis (net of reinsurance recoverables
on unpaid losses) $4,962 $5,924
</TABLE>
ANALYSIS OF LOSS AND LAE RESERVE DEVELOPMENT
The following table shows the development of Hallmark's loss
reserves, net of reinsurance, for 1986 through 1996. Section A of the
table shows the estimated liability for unpaid losses and LAE, net of
reinsurance, recorded at the balance sheet date for each of the
indicated years. This liability represents the estimated amount of
losses and LAE for claims arising in prior years that are unpaid at the
balance sheet date, including losses that have been incurred but not yet
reported to Hallmark. Section B of the table shows the re-estimated
amount of the previously recorded liability, based on experience as of
the end of each succeeding year. The estimate is increased or decreased
as more information becomes known about the frequency and severity of
claims.
Cumulative Redundancy/Deficiency (Section C of the table) represents
the aggregate change in the estimates over all prior years. Thus,
changes in ultimate development estimates are included in operations
over a number of years, minimizing the significance of such changes in
any one year. The effects on income in the past three years of changes
in estimates of the liabilities for losses and LAE are shown in the
table under reconciliation of SAP/GAAP reserves for unpaid losses and
LAE.
<PAGE>
<TABLE>
<CAPTION> ANALYSIS OF LOSS AND LAE DEVELOPMENT
(Thousands of dollars)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Year Ended
December 31 '86 '87 '88 '89 '90 '91 '92 '93 '94 '95 '96
A. Reserve for
Unpaid
Losses & LAE,
Net of
Reinsurance
Recoverables 1130 1380 2365 3039 2968 3353 4374 4321 4297 5924 4962
B.Net Reserve Re-
estimated as of:
One year later 1299 2257 4264 3186 3126 2815 3423 4626 5175 5910
Two years
later 1566 4231 4486 3353 30012885 3285 4499 5076
Three years
later 3597 4321 4556 3374 3090 2813 3147 4288
Four years
later 3645 4388 4606 3408 3052 2700 3095
Five years
later 3629 4374 4595 3384 2988 2699
Six years
later 3632 4372 4593 3363 2994
Seven years
later 3632 4373 4585 3359
Eight years
later 3631 4370 4582
Nine years
later 3626 4367
Ten years
later 3626
</TABLE>
<PAGE>
<TABLE>
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
C. Net Cumulative
Redundancy
(Deficiency) (2496)(2987)(2217)(320)(26) 654 1279 33 (779) 14
D. Cumulative
Amount of
Claims Paid,
Net of Reserve
Recoveries,
Through:
One year later 935 1522 3490 1991 2100 1958 2109 3028 3313 3783
Two years later 1325 4029 4155 2994 2760 2472 2768 3883 4442
Three years
later 3583 4211 4457 3285 2956 2654 2956 4147
Four years
later 3615 4334 4569 3363 2990 2668 3027
Five years
later 3627 4369 4587 3369 2983 2669
Six years
later 3632 4372 4590 3361 2981
Seven years
later 3632 4370 4583 3359
Eight years
later 3631 4368 4582
Nine years
later 3626 4367
Ten years
later 3626
Net Reserve - December 31 $ 5,924 $ 4,962
Reinsurance Recoverables 16,399 15,735
Gross Reserve - December 31 22,323 20,697
Net Re-estimated Reserve 5,910
Re-estimated Reinsurance Recoverable 15,874
Gross Re-estimated Reserve 21,784
Gross Cumulative Redundancy 539
</TABLE>
Investment Policy
Hallmark's investment objective is to maximize current yield while
maintaining safety of capital together with sufficient liquidity for ongoing
insurance operations. Accordingly, the investment portfolio is composed of
fixed income securities: U.S. Government and U.S. Government agency
debentures and agency mortgage-backed securities, municipal securities and
U.S. Government bond mutual funds. The average maturity of the portfolio
(after taking into account current assumptions regarding anticipated
principal prepayments on mortgage-backed securities and the call dates of
certain securities held), and including short-term investments, is
approximately three years, which approximates Hallmark's claims payment
patterns. It is Hallmark's intent to hold investments until maturity. The
securities liquidated during 1996 were as a result of maturities, bond calls
and prepayments of mortgage-backed securities totaling $1,775,414. In
<PAGE>
addition, as part of the Company's overall investment strategy, the Company
implemented an integrated cash management system in late-1995 to maximize
investment earnings on all available cash. During 1996, the Company's
investment income totaled $863,863, compared to $585,055 for 1995.
Employees
On December 31, 1996, the Company employed 171 people on a full-time
basis. None of the Company's employees are represented by labor unions.
The Company considers its employee relations to be good.
Item 2. Description of Property.
The Company's corporate headquarters are located at 14651 Dallas Parkway,
Suite 900, Dallas, Texas. This suite also houses Hallmark's operations,
AHGA's administrative staff, HFC and HCS's operations, and the Company's
computer center. The suite is located in a high-rise office building and
contains approximately 21,587 square feet of space. Effective January 1,
1995, the Company renegotiated its lease for a period of 71 months to expire
November 30, 2000. The rent is currently $22,790 per month, and will
increase 3% to 4% annually to a maximum of $25,285 per month. The Hallmark
Agencies' offices are located in 11 Texas cities, including Dallas, Fort
Worth, Austin and Houston. These offices are located in office buildings,
shopping centers, store fronts and similar commercial structures in low and
middle income neighborhoods. They contain an average of 900 square feet.
HUI currently shares space in one of the slightly larger Dallas metroplex
offices. All are leased, some on a month-to-month basis and others for
remaining terms ranging up to 36 months. The type of space the Hallmark
Agencies occupy is generally available at moderate rentals. The Company does
not consider the location of any particular agency office to be material to
its insurance marketing operations.
Item 3. Legal Proceedings.
Except for routine litigation incidental to the business of the Company
and as described in Note 9 to the Consolidated Financial Statements, neither
the Company nor any of the properties of the Company was subject to any
material pending or threatened legal proceedings as of the date of this
report.
Item 4. Submission of Matters to a Vote of Security Holders.
During the fourth quarter of 1996, the Company did not submit any matter
to a vote of its security holders.
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.
The Company's Common Stock has traded on the American Stock Exchange's
Emerging Company Marketplace under the symbol "HAF.EC" since January 6, 1994.
The following table shows the Common Stock's high and low sales prices on
the AMEX Emerging Company Marketplace for each quarter since January 1, 1995.
<PAGE>
<TABLE>
Period High Sale Low Sale
1995
<S> <C> <C>
First Quarter $ .56 $ .25
Second Quarter .75 .56
Third Quarter 1.44 .56
Fourth Quarter 1.50 .81
1996
First Quarter $1.38 $1.00
Second Quarter 1.25 .94
Third Quarter 1.63 1.06
Fourth Quarter 1.38 .88
1997
First Quarter
(through March 21) $ .94 $ .63
</TABLE>
On March 21, 1997 there were 183 record holders of the Company's Common
Stock.
The Company has never paid dividends on its Common Stock. The Board of
Directors intends to continue this policy in order to retain earnings for
development of the Company's business.
Item 6. Management's Discussion and Analysis or Plan of Operation.
The following discussion of the Company's financial condition and the
results of its operations should be read in conjunction with the consolidated
financial statements and related notes included in this Report.
Financial Condition and Liquidity
The Company's sources of funds are principally derived from insurance
related operations. Major sources of funds are from premiums collected (net
of policy cancellations and premiums ceded), external funding of premium
notes, ceding commissions, processing fees, premium finance service charges
and investment activities. Net cash flow utilized from the Company's
consolidated operations for the year ended December 31, 1996 was $621,720,
and net cash flow provided for the year ended December 31, 1995 was
$8,264,673, respectively.
On a consolidated basis, the Company's liquidity declined 7% during
1996 as compared to 1995, with bonds, equities, short-term investments and
cash totaling $13,441,831 at December 31, 1996. The decrease in 1996 cash
flow compared to 1995 is primarily due to lower premium volumes during 1996
(gross premiums written of approximately $42.5 million and $49.2 for 1996 and
1995, respectively). Due to the combined effect of this volume decrease and
the July 1, 1996 change in reinsurance treaty terms as discussed under
Reinsurance Arrangements, ceding commission income decreased 20%.
Additionally, due to both the decrease in 1996 premium volumes, as well as a
<PAGE>
13% decrease in annual policy production, external funds, net of
cancellations, received by the Company to fund annual premiums decreased
$2,178,929 to $13,665,121 from $15,844,050.
At December 31, 1996, the Company had $590,853 in notes payable, $433,517
of which is due in 1997. The Company expects to repay the amounts due on
these notes with cash from operations. However, the amount to be paid in
1997 may be less than the $433,517 reflected in the 1996 notes payable
balance. Included in this amount is a disputed principal obligation of
$380,000 in connection with a financing transaction which occurred prior to
HFS's acquisition of the Insurance Group. Further, if any portion of the
approximately $380,000 is ultimately deemed owing, the Company believes that
it has the right of offset against a related claim in the sum of $240,000.
See Note 5 to Notes to Consolidated Financial Statements.
A substantial portion of the Company's 1996 liquid assets are held by
Hallmark and are not available for general corporate purposes. Of the
Company's consolidated liquid assets of $13,441,831 at December 31, 1996,
$991,095 (as compared to $2,131,582 in 1995) represents non-restricted cash.
Since state insurance regulations restrict financial transactions between an
insurance company and its affiliates, HFS is limited in its ability to use
Hallmark funds for its own working capital purposes. Furthermore, dividends
and loans by Hallmark to HFS are also restricted and, in certain instances,
subject to TDI approval. Based on surplus at December 31, 1996, Hallmark
could pay a dividend up to $546,000 to HFS during 1997 without TDI approval.
In addition, TDI has sanctioned the payment of management fees, commissions
and claims handling fees by Hallmark to HFS and other affiliates.
Accordingly, management fees of $600,000 were paid or accrued in 1995, and
management fees of $1,050,000 were paid or accrued in 1996. Management
anticipates that Hallmark will continue to pay management fees periodically
during 1997, and this should be a continued source of unrestricted liquidity.
Further, management is committed to maintaining the surplus strength of
Hallmark and has no current plans to pay any dividends from Hallmark to HFS.
Commissions from an annual policy program for independent agents initiated
during the first quarter of 1994 have been an additional source of
unrestricted liquidity during 1995 and 1996. Under this program, AHGA offers
independent agents the ability to write annual policies, but commissions to
independent agents are paid monthly on an "earned" basis. However,
consistent with customary industry practice, Hallmark is paying total
commissions up-front to AHGA based on the entire net annual premiums written.
Independent agent production of annual policies was approximately $15
million in 1996 compared to $24 million in 1995. During 1996, AHGA received
$2,660,234 in commissions related to this annual policy program from
Hallmark, of which $1,079,346 will be paid to independent agents during 1997
as earned.
Ceding commission income represents a significant source of funds to the
Company. In 1996 and 1995, ceding commission income exceeded agent
commission and other direct expenses associated with the cost of producing
new business (i.e., policy acquisition costs). Ceding commission income for
1996 decreased $2,149,805 to $8,899,889 representing a 20% decrease as
compared to 1995. In accordance with GAAP, a portion of ceding commission
income and policy acquisition costs is deferred and recognized as income and
expense, respectively, as related net premiums are earned. Deferred ceding
commission income also decreased to $2,368,264 at December 31, 1996, from
$3,518,227 at December 31, 1995. The reduction in deferred ceding commission
income is principally due to the combined effect of a decrease in the
<PAGE>
Company's premium volume, the July 1, 1996 change in reinsurance treaty terms
and to a shift in policy mix due to lower annual policy production. In light
of the decline in premium volume, particularly annual policies, deferred
policy acquisition costs as of December 31, 1996, also decreased in relation
to the prior year. However, deferred policy acquisition costs of $2,536,564
were $168,300 greater than deferred ceding commission income of $2,368,264 at
December 31, 1996.
Prepaid reinsurance premiums and reinsurance recoverable generally
decreased as expected in relation to decreased premium writings. See Note 4
to Notes to Consolidated Financial Statements.
At December 31, 1996, Hallmark reported statutory capital and surplus of
$5,177,994, which reflects an increase of $403,550 over the $4,774,444
reported at December 31, 1995. Although Hallmark reported $908,593 in
statutory net income for 1996, surplus did not increase accordingly. This
was principally due to a $509,200 charge to surplus for excess statutory
reserves over statement reserves. Based on Hallmark's loss ratio history,
statutory accounting regulations require that the minimum statutory loss
ratio for auto liability be 75% for 1994 through 1996 accident years.
Hallmark's liability loss ratio for the 1996 accident year was 70% and
surplus was reduced accordingly. At December 31, 1996, Hallmark showed a
premium-to-surplus ratio of 2.21 to 1, as compared to 2.58 to 1 for the year
ended December 31, 1995. Management does not presently expect Hallmark to
require additional capital during 1997. Management anticipates that Hallmark
is positioned to maintain and strengthen statutory surplus through continued
earnings from insurance operations. Management believes that improved loss
ratios for 1996 reflect results of steps taken to address an unfavorable loss
trend reported in 1995. The statutory loss ratio for the year ended December
31, 1996 was 64.1% compared to 81.8% for 1995. Improved claims handling,
implementation of two rate increases in certain territories in 1996, and a
similar rate adjustment in late-1995 and retention of 62.5% of the policy
origination fees under the new July 1, 1996 reinsurance treaties favorably
impacted Hallmark's loss ratios. Management also believes that steps
initiated during the latter part of 1995 to strengthen the Company's claims
operation has played, and should continue to play, a significant role in
improving Hallmark's loss ratio.
The transfer of financing from Hallmark's direct billing program to HFC's
premium financing program has had a positive impact on liquidity during 1996
and 1995 and management expects this trend to continue. Effective January
1, 1995, the Company began financing annual policy premiums produced by the
Hallmark agencies through a premium finance program offered by its formerly
dormant premium finance subsidiary, HFC, and independent agents began
financing through HFC's premium finance program in May of 1995. The
financing of the premium notes is presently provided by an unaffiliated
premium finance company on a secured basis (see "Insurance Group
Operations"). During 1997, HFC expects to begin offering its own premium
finance notes funded by $15 million in loan proceeds pursuant to agreements
executed in March 1997. (See Notes 9 and 11 to Consolidated Financial
Statements.)
During 1997, management expects that Company liquidity will continue to be
favorably impacted by a continued focus on strengthening the performance of
the Company's core State & County business with particular emphasis on
enhancement of HCS's procedures and staffing. The Company has increased its
claims staff and hired additional, experienced claims adjusters and
supervisory personnel that, in turn, should continue to lower loss and LAE
<PAGE>
payments and favorably impact the Company's profitability. This focus, along
with the Company's ongoing ability to identify and retain quality independent
agents and to respond on a timely basis to rate-change indications arising
from both loss experience and competitive market considerations, is expected
to enhance earnings and liquidity during 1997. Management also anticipates
that an integrated cash management system implemented in late-1995 will
continue to positively impact 1997 liquidity.
The Company continues to pursue third party claims handling and
administrative contracts. Effective January 1, 1997, the Company entered
into a new agreement with an unaffiliated managing general agency ("MGA").
Under this three-year contract, the Company, as program administrator, will
perform certain administrative functions, including but not limited to, cash
management, underwriting and rate-setting reviews, and claims handling. In
addition, Hallmark will assume a 10% pro-rata share of the business produced
under this MGA's program. It is anticipated that fees under this contract
could positively impact liquidity by late-1997.
Beginning late-April 1996, the Company began marketing E&S insurance
through HUI. This business is produced by the Hallmark Agencies and a select
group of independent agents, and some portion of the premiums are financed by
HFC. No entity within the Company bears any underwriting risk. The E&S
policies are written on behalf of several A-rated (A.M. Best rating)
unaffiliated insurance companies. HFC offers premium financing for E&S
business produced by HUI, and is currently financing E&S premium notes with
internally generated funds. As anticipated, the growth of this business has
been gradual due, in part, to increased competition from the standard
insurance market. Management remains committed to the development of its E&S
program, and HUI is increasing its appointments of qualified independent
agents. In addition, HUI recently entered into a relationship with a
London broker and anticipates producing business during 1997 on behalf of a
London carrier subject to satisfactory completion of contract terms and
conditions. Nonetheless, it is not anticipated that the E&S program will
significantly impact liquidity during 1997.
Management intends to continue to investigate opportunities for future
growth and expansion. However, the Company currently has no growth plans
which would require significant additional external funding during 1997.
Results of Operations
Gross premiums written (prior to reinsurance) of $42,502,556 for the year
ended December 31, 1996 were $6,656,399 lower than gross premiums written of
$49,158,955 in 1995, representing a decrease of approximately 14%. The
decrease in gross premiums written during 1996 was due to management's
strategy to curtail the exceptionally high premium volume which occurred in
the third quarter of 1995 through rate adjustments and a culling of
marginally performing agents. The surge in the third quarter 1995 premium
volume was primarily the result of a significant TAIPA rate increase which
directed a sizeable amount of former TAIPA business into the voluntary
market. Net premiums written (after reinsurance) decreased
disproportionately in relation to gross premiums written (prior to
reinsurance). This 7% decrease in net premiums written versus the larger 14%
decrease in gross premiums written was primarily the result of retaining
62.5% of policy origination fees under the new July 1, 1996 reinsurance
treaty (rather than 25% under the former Vesta treaty).
<PAGE>
Premiums earned (prior to reinsurance) of $46,852,203 increased
approximately 8% during 1996 as compared to 1995, and premiums earned (after
reinsurance) increased approximately 14%. The increases in premiums earned
prior to and after reinsurance relates to the following: (1) the 1996 earning
of premiums written during the high-volume months of late 1995, (2) an
increase in the monthly policy production (versus annual) from 39% in 1995 to
52% in 1996, and (3) retention of 62.5% of policy origination fees under the
new reinsurance treaty effective July 1, 1996. Additionally, the
disproportionate 1996 increase of 14% in premiums earned (after reinsurance)
compared to the 8% increase in premiums earned (prior to reinsurance) was in
line with the disproportionate increase in gross and net written premiums as
discussed above.
Incurred loss ratios (computed on both premiums earned prior to and after
reinsurance), on a GAAP basis, for the year ended December 31, 1996, were
approximately 63% and 57%, respectively, as compared to 77% prior to and
after reinsurance for 1995. The 14% decrease in the 1996 gross loss ratio
was primarily attributable to (1) improved loss experience on the Company's
core State & County business, (2) no catastrophic losses in 1996 as compared
to sizeable 1995 hail losses, particularly during the second quarter of 1995,
and (3) higher salvage and subrogation recoveries. The larger increase of
20% in the net incurred loss ratios (computed on net premiums earned after
reinsurance) was primarily due to (1) retention of 62.5% of the policy fees
and (2) more favorable loss development in 1996 of the TAIPA business written
in prior years.
Investment income of $863,863 for the twelve months ended December 31,
1996 increased 48% compared to the prior year. This 48% increase is
primarily due to quicker availability of funds due to funding of premiums
under the premium finance program (versus direct bill) for the entire 1996
year and an increase in the percentage of funds invested under the Company's
enhanced cash management program.
Processing fees, which represent fees earned by HFC pursuant to the
commencement of its premium finance program on January 1, 1995, increased
28%. This increase is due to the financing of premiums produced by both
independent agencies and Hallmark Agencies for the entire 1996 year versus
financing of independent agency premiums for approximately half of 1995.
Other acquisition and underwriting expenses of $5,208,456 increased
approximately 150% as compared to the prior year. As discussed in the
Financial Condition and Liquidity section, ceding commission income of
$8,899,889 for the year decreased approximately 20% in relation to ceding
commission income of $11,049,694 for 1995. The decrease in ceding commission
income during 1996 is directly related to the decrease in premiums written
during 1996 compared to 1995 as discussed above and the change in treaty
terms affecting ceding commissions and premium taxes under the new July 1,
1996 reinsurance treaty (as discussed in the Financial Condition and
Liquidity section).
Operating expenses increased 65% due to costs associated with increases in
legal expenses, expanded premium finance operations in 1996 (which was a
start-up operation beginning January 1995), and start-up costs of E&S
operations.
Net acquisition costs, which represents the net amortization of deferred
policy acquisition costs and deferred ceding commissions, decreased 256% from
$441,101 to a credit of $686,986 principally due to the combined effect of
<PAGE>
(1) the amortization during 1996 of a net deferred credit at the year ended
December 31, 1995 (i.e., deferred ceding commissions exceeded deferred policy
acquisition costs during 1995), (2) the amortization during 1996 of net
policy acquisition costs deferred in 1996 (i.e., deferred policy acquisition
costs exceeded deferred ceding commissions during 1996) primarily as a result
of the decrease in 1996 ceding commission income, and (3) the fact that
deferred ceding commissions exceeded deferred policy acquisition costs during
a year (i.e., 1995) when premium volumes were extraordinarily high (as
compared to 1996).
Year 2000 Compliance
The Company has and will continue to make certain investments in its
software systems and applications to ensure the Company is year 2000
compliant. The financial impact to the Company has not been and is not
anticipated to be material to its financial position or results of operations
in any given year.
New Accounting Pronouncements
In June, 1996, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 125, "Accounting for Transfer and Servicing of Financial Assets and
Extinguishments of Liabilities." Those standards have been established to
provide a consistent application of accounting using a financial-components
approach based upon control of the related assets. After a transfer of
financial assets, an entity recognizes the financial and servicing assets it
controls and the liabilities it has incurred, and derecognizes financial
assets when control has been surrendered and liabilities are extinguished.
SFAS No. 125 is effective for transfer and servicing of financial assets and
extinguishments of liabilities occurring after December 31, 1996, and may
only be applied prospectively. Management does not believe that the
implementation of SFAS No. 125 would have a significant impact on the
Company's financial statements.
In February 1997, the FASB issued SFAS No. 128, "Earnings Per Share."
SFAS No. 128 is designed to improve the earnings per share information
provided in financial statements by simplifying the existing computation
guidelines provided for in APB Opinion No. 15 Earnings Per Share. SFAS No.
128 is effective for financial statements for periods ending after December
15, 1997. Management has not yet determined the effect, if any, this SFAS No.
128 will have on the Company's consolidated financial statements.
In February 1997, the FASB issued SFAS No. 129, "Disclosure of Information
about Capital Structure." SFAS No. 129 is applicable to all entities and
requires that disclosure about an entity's capital structure include brief
discussion of rights and privileges for securities outstanding. SFAS No. 129
is effective for financial statements for periods ending after December 15,
1997.
<PAGE>
Item 7. Financial Statements.
The following consolidated financial statements of the Company and its
subsidiaries are filed as part of this Report.
Description Page Number
Report of Independent Accountants F-2
Consolidated Balance Sheets at December 31, 1996 and 1995 F-3
Consolidated Statements of Operations for the Years Ended
December 31, 1996 and 1995 F-4
Consolidated Statements of Stockholders' Equity for the Years
Ended December 31, 1996 and 1995 F-5
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1996 and 1995 F-6
Notes to Consolidated Financial Statements F-7
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None.
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act.
The information required by Part III, Item 9 is incorporated by reference
from the Registrant's definitive proxy statement to be filed with the
Commission pursuant to Regulation 14A not later than 120 days after the end
of the fiscal year covered by this report.
Item 10. Executive Compensation.
The information required by Part III, Item 10 is incorporated by reference
from the Registrant's definitive proxy statement to be filed with the
Commission pursuant to Regulation 14A not later than 120 days after the end
of the fiscal year covered by this report.
Item 11. Security Ownership of Certain Beneficial Owners and Management.
The information required by Part III, Item 11 is incorporated by reference
from the Registrant's definitive proxy statement to be filed with the
Commission pursuant to Regulation 14A not later than 120 days after the end
of the fiscal year covered by this report.
Item 12. Certain Relationships and Related Transactions.
The information required by Part III, Item 12 is incorporated by reference
from the Registrant's definitive proxy statement to be filed with the
Commission pursuant to Regulation 14A not later than 120 days after the end
of the fiscal year covered by this report.
<PAGE>
Item 13. Exhibits and Reports on Form 8-K.
(a) Exhibits. The exhibits listed in the Exhibit Index appearing at page
20 of this Report are filed with or incorporated by reference in this Report.
(b) Reports on Form 8-K. The Company did not file any Form 8-K Current
Report during or with respect to the fiscal year ended December 31, 1996.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
HALLMARK FINANCIAL SERVICES, INC.
(Registrant)
Date: March 27, 1997 /s/ Ramon D. Phillips
Ramon D. Phillips, President (Chief
Executive Officer)
Date: March 27, 1997 /s/ Johnny J. DePuma
Johnny J. DePuma, Vice President
(Chief Financial Officer/Principal Accounting
Officer)
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and
on the dates indicated.
Date: March 27, 1997 /s/ Ramon D. Phillips
Ramon D. Phillips, Director
Date: March 27, 1997 /s/ Linda H. Sleeper
Linda H. Sleeper, Director
Date: March 27, 1997 /s/ Raymond A. Kilgore
Raymond A. Kilgore, Director
Date: March 27, 1997 /s/ Jack R. Daugherty
Jack R. Daugherty, Director
Date: March 27, 1997 /s/ Kenneth H. Jones, Jr.
Kenneth H. Jones, Jr., Director
Date: March 27, 1997 /s/ Samuel W. Rizzo
Samuel W. Rizzo, Director
Date: March 27, 1997 /s/ A. R. Dike
A. R. Dike, Director
Date: March 27, 1997 /s/ James H. Graves
James H. Graves, Director
Date: March 27, 1997 /s/ C. Jeffrey Rogers
C. Jeffrey Rogers, Director
Date: March 27, 1997 /s/ George R. Manser
George R. Manser, Director
<PAGE>
EXHIBIT INDEX
The following exhibits are either filed with this report or incorporated
by reference.
Exhibit
Number Description Sequential Page #
3(a) Articles of Incorporation of the registrant, as
amended (incorporated by reference to Exhibit
3(a) to the registrant's Annual Report on Form
10-KSB for the fiscal year ended December 31,
1993).
3(b) By-Laws of the registrant, as amended (incorporated by
reference to Exhibit 3(b) to the registrant's Annual
Report on Form 10-KSB for the fiscal year ended
December 31, 1993).
4 Specimen certificate for Common Stock, 34 par value, of
the registrant (incorporated by reference to Exhibit
4 to the registrant's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1991).
10(a) Office Lease for 14651 Dallas Parkway, Suite
900, dated January 1, 1995, between American
Hallmark Insurance Company of Texas and Fults
Management Company, as agent for The Prudential
Insurance Company of America (incorporated by
reference to Exhibit 10(a) to the registrant's
Annual Report on Form 10-KSB for the fiscal
year ended December 31, 1994).
10(b) 100% Quota Share Reinsurance Agreement, as
Restated, between State & County Mutual Fire
Insurance Company and American Hallmark
Insurance Company of Texas, effective March 1,
1992 (incorporated by reference to Exhibit
10(a) to Amendment No. 1 on Form 8 to the
registrant's Quarterly Report on Form 10-QSB
for the quarter ended September 30, 1992).
10(c) General Agency Agreement, effective March 1,
1992, between State & County Mutual Fire
Insurance Company and Brokers General, Inc.
(incorporated by reference to Exhibit 10(b) to
Amendment No. 1 on Form 8 to the registrant's
Quarterly Report on Form 10-QSB for the quarter
ended September 30, 1992).
10(d) Quota Share Retrocession Agreement, effective
March 1, 1992, between American Hallmark
Insurance Company of Texas and Liberty National
Fire Insurance Company (incorporated by
reference to Exhibit 10(c) to Amendment No. 1
on Form 8 to the registrant's Quarterly Report
on Form 10-QSB for the quarter ended September
30, 1992).
<PAGE>
10(e) 1991 Key Employee Stock Option Plan of the
registrant (incorporated by reference to
Exhibit C to the definitive Proxy Statement
relating to the registrant's Annual Meeting of
Shareholders held May 20, 1991).
10(f) 1994 Key Employee Long Term Incentive Plan
(incorporated by reference to Exhibit 10(f) to
the registrant's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1994).
10(g) 1994 Non-employee Director Stock Option Plan
(incorporated by reference to Exhibit 10(g) to
the registrant's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1994).
10(h) Reverse Split-Dollar Agreement, dated April 12,
1991, between the registrant and Ramon D.
Phillips (incorporated by reference to Exhibit
10(I) to the registrant's Annual Report on Form
10-KSB for the fiscal year ended December 31,
1991).
10(I) Form of Common Stock Purchase Warrant
representing warrants issued to officers and
directors of the registrant on October 2, 1992
(incorporated by reference to Exhibit 10(l) to
the registrant's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1992).
10(j) Form of Amendment to Common Stock Purchase
Warrant dated March 29, 1994, representing
warrants issued to officers and directors of
the registrant on October 2, 1992 (incorporated
by reference to Exhibit 10(l) to the
registrant's Annual Report on Form 10-KSB for
the fiscal year ended December 31, 1994).
10(k) Addendum No. 2 to the Quota Share Retrocession
Agreement, effective March 1, 1993, between
American Hallmark Insurance Company of Texas
and Liberty National Fire Insurance Company
(incorporated by reference to Exhibit 10(o) to
the registrant's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1993).
10(l) Addendum No. 3 to the Quota Share Retrocession
Agreement, effective August 1, 1993, between
American Hallmark Insurance Company of Texas
and Liberty National Fire Insurance Company
(incorporated by reference to Exhibit 10(p) to
the registrant's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1993).
10(m) Administrative Services and Consulting
Agreement, dated December 23, 1993, between
American Southwest Insurance Managers, Inc.,
Liberty National Fire Insurance Company,
<PAGE>
Hallmark Financial Services, Inc., Brokers
General, Inc. and Citizens Adjustment and
Reporting Service, Inc. (incorporated by
reference to Exhibit 10(q) to the registrant's
Annual Report on Form 10-KSB for the fiscal
year ended December 31, 1993).
10(n) Form of Executive Compensation Agreement
representing respective agreements dated August
23, 1994, between registrant and Ramon D.
Phillips, Raymond A. Kilgore, Linda H. Sleeper,
and Johnny J. DePuma (incorporated by reference
to Exhibit 10(p) to the registrant's Annual
Report on Form 10-KSB for the fiscal year ended
December 31, 1994).
10(o) Addendum No. 1 to the 100% Quota Share
Reinsurance Agreement, as restated between
State & County Mutual Fire Insurance Company
and American Hallmark Insurance Company of
Texas effective November 22, 1994 (incorporated
by reference to Exhibit 10(q) to the
registrant's Annual Report on Form 10-KSB for
the fiscal year ended December 31, 1994).
10(p) Processing Agreement, effective January 1,
1995, between Peregrine Premium Finance L.C.
and Hallmark Finance Corporation (incorporated
by reference to Exhibit 10(r) to the
registrant's Annual Report on Form 10-KSB for
the fiscal year ended December 31, 1994).
10(q) Amendment to Processing Agreement, effective
January 1, 1995, between Peregrine Premium
Finance L.C. and Hallmark Finance Corporation
(incorporated by reference to Exhibit 10(s) to
the registrant's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1994).
10(r) Guaranty of Processing Agreement, dated
December 30, 1994, between Hallmark Financial
Services, Inc., Peregrine Premium Finance L.C.
and Bank One, Texas, N.A. (incorporated by
reference to Exhibit 10(t) to the registrant's
Annual Report on Form 10-KSB for the fiscal
year ended December 31, 1994).
10(s) Consent and Agreement, dated December 30, 1994,
between Hallmark Finance Corporation and Bank
One, Texas, N.A. (incorporated by reference to
Exhibit 10(u) to the registrant's Annual Report
on Form 10-KSB for the fiscal year ended
December 31, 1994).
10(t) Second, Third, Fourth and Fifth Amendments to
Office Lease for 14651 Dallas Parkway, Suite
900, dated January 1, 1995, between American
Hallmark Insurance Company of Texas and Fults
<PAGE>
Management Company, as agent for The Prudential
Insurance Company of America (incorporated by
reference to Exhibit 10(t) to the Registrant's
Annual Report on Form 10-KSB for the year ended
12/31/95).
10(u) Form of Shareholders Agreement dated January 1,
1996, between American Hallmark General Agency,
Inc., Robert D. Campbell, Margaret Jones and
American Hallmark Agencies, Inc. (incorporated
by reference to Exhibit 10(u) to the
Registrant's Annual Report on Form 10-KSB for
the year ended 12/31/95).
10(v) Form of Facilities & Services Agreement dated
January 1, 1996, between American Hallmark
General Agency, Inc., Robert D. Campbell,
Margaret Jones and American Hallmark Agencies,
Inc. (incorporated by reference to Exhibit
10(v) to the Registrant's Annual Report on Form
10-KSB for the year ended 12/31/95).
10(w) Form of Indemnification Agreement dated January
1, 1996, between American Hallmark General
Agency, Inc., Hallmark Financial Services,
Inc., Robert D. Campbell, Margaret Jones and
American Hallmark Agencies, Inc. (incorporated
by reference to Exhibit 10(w) to the
Registrant's Annual Report on Form 10-KSB for
the year ended 12/31/95).
10(x) Form of Shareholders Agreement dated January 3,
1996, between American Hallmark General Agency,
Inc., Robert D. Campbell, Richard Mason, Sr.
and Hallmark Underwriters, Inc. (incorporated
by reference to Exhibit 10(x) to the
Registrant's Annual Report on Form 10-KSB for
the year ended 12/31/95).
10(y) Form of Facilities and Services Agreement dated
January 3 1996, between American Hallmark
General Agency, Inc., Robert D. Campbell,
Richard Mason, Sr. and Hallmark Underwriter,
Inc. (incorporated by reference to Exhibit
10(y) to the Registrant's Annual Report on Form
10-KSB for the year ended 12/31/95).
10(z) Form of Indemnification Agreement dated January
3, 1996, between American Hallmark General
Agency, Inc., Hallmark Financial Services,
Inc., Robert D. Campbell, Richard Mason, Sr.
and Hallmark Underwriters, Inc. (incorporated
by reference to Exhibit 10(z) to the
Registrant"s Annual Report on Form 10-KSB for
the year ended 12/31/95).
<PAGE>
10(aa) Form of Second Amendment to Processing
Agreement, effective November 30, 1995, between
Peregrine Premium Finance L.C. and Hallmark
Finance Corporation (incorporated by reference
to Exhibit 10(aa) to the Registrant's Annual
Report on Form 10-KSB for the year ended
12/31/95).
10(ab) Form of 100% Quota Share Reinsurance Agreement
between State & County Mutual Fire Insurance
Company and American Hallmark Insurance Company
of Texas effective July 1, 1996 (incorporated
by reference to Exhibit 10(a) to the
Registrant's Quarterly Report on Form 10-QSB
for the quarter ended June 30, 1996).
10(ac) Form of Quota Share Retrocession Agreement
between American Hallmark Insurance Company of
Texas and the Reinsurer (specifically
identified as follows: Dorinco, Kemper and
Skandia), effective July 1, 1996 (incorporated
by reference to Exhibit 10(b) to the
Registrant's Quarterly Report on Form 10-QSB
for the quarter ended June 30, 1996).
10(ad) Guaranty Agreement effective July 1, 1996
provided by Dorinco Reinsurance Company in
favor of State & County Mutual Fire Insurance
Company (incorporated by reference to Exhibit
10(c) to the Registrant's Quarterly Report on
Form 10-QSB for the quarter ended June 30,
1996).
10(ae) Guaranty Agreement effective July 1, 1996
provided by Kemper Reinsurance Company in favor
of State & County Mutual Fire Insurance Company
(incorporated by reference to Exhibit 10(d) to
the Registrant's Quarterly Report on Form 10-
QSB for the quarter ended June 30, 1996).
10(af) Guaranty Agreement effective July 1, 1996
provided by Skandia America Reinsurance
Corporation in favor of State & County Mutual
Fire Insurance Company (incorporated by
reference to Exhibit 10(e) to the Registrant's
Quarterly Report on Form 10-QSB for the quarter
ended June 30, 1996).
10(ag) Form of Guaranty of Performance and Hold
Harmless Agreement effective July 1, 1996
between Hallmark Financial Services, Inc. and
Dorinco America Reinsurance Corporation
(incorporated by reference to Exhibit 10(f) to
the Registrant's Quarterly Report on Form 10-
QSB for the quarter ended June 30, 1996).
<PAGE>
10(ah) Form of Guaranty of Performance and Hold
Harmless Agreement effective July 1, 1996
between Hallmark Financial Services, Inc. and
Kemper Reinsurance Company (incorporated by
reference to Exhibit 10(g) to the Registrant's
Quarterly Report on Form 10-QSB for the quarter
ended June 30, 1996).
10(ai) Form of Guaranty of Performance and Hold
Harmless Agreement effective July 1, 1996
between Hallmark Financial Services, Inc. and
Skandia America Reinsurance Corporation
(incorporated by reference to Exhibit 10(h) to
the Registrant's Quarterly Report on Form 10-
QSB for the quarter ended June 30, 1996).
10(aj) Form of Addendum No. 4 - Termination to Quota
Share Retrocession Agreement between American
Hallmark Insurance Company of Texas and Vesta
Fire Insurance Company (incorporated by
reference to Exhibit 10(I) to the Registrant's
Quarterly Report on Form 10-QSB for the quarter
ended June 30, 1996).
10(ak) Form of Addendum No. 3 - Termination to 100%
Quota Share Reinsurance Agreement between
American Hallmark Insurance Company and State &
County Mutual Fire Insurance Company
(incorporated by reference to Exhibit 10(j) to
the Registrant's Quarterly Report on Form 10-
QSB for the quarter ended June 30, 1996).
10(al) Automobile Physical Damage Catastrophe Excess
of Loss Reinsurance Agreement effective July 1,
1996 between American Hallmark Insurance
Company of Texas and Kemper Reinsurance Company
(incorporated by reference to Exhibit 10(a) to
the Registrant's Quarterly Report on Form 10-
QSB for the quarter and ended September 30,
1996).
10(am) Form of 100% Quota Share Reinsurance Agreement, *
effective January 1, 1997, between State and County
Mutual Fire Insurance Company, Vaughn General
Agency, Inc. and American Hallmark General Agency,
Inc.
10(an) Form of General Agency Agreement, effective *
January 1, 1997, between Dorinco Reinsurance
Company, State and County Mutual Fire Insurance
Company and Vaughn General Agency, Inc.
10(ao) Form of Administrative Services Agreement *
between State and County Mutual Fire Insurance
Company, Vaughn General Agency, Inc. and
American Hallmark General Agency, Inc.
<PAGE>
10(ap) Form of Loan Agreement dated March 11, 1997, *
between Hallmark Financial Services, Inc. and
Dorinco Reinsurance Company.
10(aq) Form of Promissory Note dated March 11, 1997, *
with Hallmark Financial Services, Inc. as Maker
and Dorinco Reinsurance Company as Payee.
10(ar) Stock Pledge and Security Agreement dated March *
11, 1997, between ACO Holdings, Inc. and
Dorinco Reinsurance Company.
10(as) Form of Loan Agreement between Hallmark Finance *
Corporation and NationsBank of Texas, N.A., dated
March 17, 1997.
10(at) Form of Promissory Note, dated March 17, 1997, with *
NationsBank of Texas, N.A. as Bank and Hallmark
Finance Corporation as Borrower.
10(au) Form of Security Agreement dated March 17, 1997, *
between NationsBank of Texas, N.A. and Hallmark
Finance Corporation.
22 List of subsidiaries of the registrant (incorporated
by reference to Exhibit 22 to the registrant's Annual
Report on Form 10-KSB for the fiscal year ended
December 31, 1991).
28 Schedule P of American Hallmark Insurance Company of P
Texas as filed with the Texas Department of Insurance
for the year ended December 31, 1996.
<PAGE>
EXHIBIT NOTES:
* = FILED HEREWITH
P = PAPER COPY FILED
<PAGE>
Report of Independent Accountants
To the Board of Directors
Hallmark Financial Services, Inc.:
We have audited the accompanying consolidated balance sheets of Hallmark
Financial Services, Inc. and Subsidiaries as of December 31, 1996, and 1995,
and the related consolidated statements of operations, stockholders' equity,
and cash flows for the years then ended. 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 that 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 Hallmark
Financial Services, Inc. and Subsidiaries as of December 31, 1996, and 1995,
and the consolidated results of their operations and their cash flows for the
years then ended, in conformity with generally accepted accounting
principles.
COOPERS & LYBRAND L.L.P.
Dallas, Texas
March 21, 1997
<PAGE>
<TABLE>
<CAPTION> HALLMARK FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1996 and 1995
ASSETS 1996 1995
<S> <C> <C>
Investments:
Debt securities, held-to-maturity $ 5,160,137 $ 6,409,544
Equity securities, available-for-sale 152,246 171,727
Short-term investments, at cost which
approximates market value 3,380,059 3,615,327
Total investments 8,692,442 10,196,598
Cash and cash equivalents 4,749,388 4,257,755
Prepaid reinsurance premiums 8,480,257 11,726,968
Premiums receivable 2,501,003 4,898,628
Installment premiums receivable
(net of allowance for doubtful accounts
of $8,675 in 1996 and $20,275 in 1995) 23,935 299,182
Reinsurance recoverable 20,058,062 19,335,746
Deferred policy acquisition costs 2,536,564 2,999,541
Excess of cost over net assets acquired, net
of accumulated amortization
of $1,014,309 in 1996 and $856,231 in 1995 5,215,905 5,373,983
Deferred Federal income taxes 330,718 567,969
Accrued investment income 46,606 55,765
Other assets 1,128,882 798,216
$ 53,763,762 $ 60,510,351
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Notes payable $ 590,853 $ 639,162
Unpaid losses and loss adjustment
expenses 20,697,393 22,323,090
Unearned premiums 11,310,250 15,659,897
Reinsurance balances payable 2,946,034 3,489,357
Deferred ceding commissions 2,368,264 3,518,227
Drafts outstanding 838,007 684,430
Accounts payable and other accrued
expenses 3,591,597 3,824,591
Total liabilities 42,342,398 50,138,754
Commitments and contingencies
(Notes 9 and 11)
Stockholders' equity:
Common stock, $.03 par value,
authorized 100,000,000 shares;
issued 10,962,277 shares in 1996 and 1995 328,868 328,868
Capital in excess of par value 10,349,665 10,349,665
Retained earnings 1,342,831 293,064
Treasury stock, 300,000 shares, at cost (600,000) (600,000)
Total stockholders' equity 11,421,364 10,371,597
$ 53,763,762 $ 60,510,351
</TABLE>
The accompanying notes are an integral part
of the consolidated financial statements.
<PAGE>
<TABLE>
<CAPTION> HALLMARK FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
for the years ended December 31, 1996 and 1995
1996 1995
<S> <C> <C>
Gross premiums written $ 42,502,556 $ 49,158,955
Ceded premiums written (31,038,998) (36,832,312)
Net premiums written $ 11,463,558 $ 12,326,643
Revenues:
Premiums earned $ 46,852,203 $ 43,410,319
Premiums ceded (34,285,710) (32,409,627)
Net premiums earned 12,566,493 11,000,692
Investment income, net of expenses 863,863 585,055
Finance service charges 27,470 628,747
Processing fees 1,802,606 1,414,283
Service fees 88,439 79,779
Other income 86,591 87,347
Total revenues 15,435,462 13,795,903
Benefits, losses and expenses:
Losses and loss adjustment expenses 29,715,838 33,350,740
Reinsurance recoveries (22,495,277) (24,885,262)
Net losses and loss adjustment
expenses 7,220,561 8,465,478
Acquisition costs, net (686,986) 441,101
Other acquisition and underwriting
expenses 5,208,456 2,081,279
Operating expenses 1,873,626 1,136,173
Interest expense 42,483 40,361
Amortization of intangible assets 168,078 185,953
Total benefits, losses and
expenses 13,826,218 12,350,345
Income from operations before federal
income taxes 1,609,244 1,445,558
Provision for federal income taxes 559,477 190,801
Net income $ 1,049,767 $ 1,254,757
Net income per share of common stock-
primary and fully diluted $ .09 $ .11
Weighted average shares outstanding 12,204,008 11,510,611
</TABLE>
The accompanying notes are an integral part
of the consolidated financial statements.
<PAGE>
<TABLE>
<CAPTION> HALLMARK FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
for the years ended December 31, 1996 and 1995
Common Stock Capital
Number in Retained Total
of Par Excess of Earnings Treasury Stockholders'
Shares Value Par Value (Deficit) Stock Equity
<S> <C> <C> <C> <C> <C> <C>
Balance at
December 31,
1994 10,962,277 $328,868 $10,349,665 ($961,693) ($600,000) $9,116,840
Net income - - - 1,254,757 - 1,254,757
Balance at
December 31,
1995 10,962,277 $328,868 $10,349,665 $293,064 ($600,000) $10,371,597
Net income - - - 1,049,767 - 1,049,767
Balance at
December 31,
1996 10,962,277 $328,868 $10,349,665 $1,342,831 ($600,000) $11,421,364
</TABLE>
The accompanying notes are an integral
part of the consolidated financial statements.
<PAGE>
<TABLE>
<CAPTION> HALLMARK FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
for the years ended December 31, 1996 and 1995
1996 1995
<S> <C> <C>
Cash flows from operating activities:
Net income $ 1,049,767 $ 1,254,757
Adjustments to reconcile net income to
cash provided by operating activities:
Depreciation and amortization expense 282,178 305,491
Loss on sale of assets ( 2,971) -
Change in deferred Federal income taxes 237,251 (567,969)
Change in prepaid reinsurance premiums 3,246,711 (4,422,684)
Change in premiums receivable 2,397,625 (4,898,628)
Change in installment premiums
receivable 275,247 7,985,451
Change in deferred policy acquisition
costs 462,977 (885,782)
Change in deferred ceding commissions (1,149,963) 1,326,883
Change in unpaid losses and loss
adjustment expenses (1,625,697) 9,654,784
Change in unearned premiums (4,349,647) 5,429,986
Change in reinsurance recoverable (722,316) (8,953,435)
Change in reinsurance balances payable (543,323) 770,318
Change in all other liabilities (79,417) 1,654,639
Change in all other assets (103,113) (389,138)
Net cash provided (used) by
operating activities (624,691) 8,264,673
Cash flows from investing activities:
Purchases of property and equipment (339,523) (184,540)
Purchases of debt securities (530,422) (3,018,214)
Maturities, redemptions and capital
distributions of investment securities 1,799,310 934,102
Purchase of short-term investments - (3,515,327)
Maturities of short-term investments 235,268 220,000
Net cash provided by (used in)
investing activities 1,164,633 (5,563,979)
Cash flows from financing activities:
Repayment of notes payable ( 48,309) (243,700)
Cash used in financing activities (48,309) (243,700)
Increase in cash and cash equivalents 491,633 2,456,994
Cash and cash equivalents at
beginning of year 4,257,755 1,800,761
Cash and cash equivalents at
end of year $ 4,749,388 $ 4,257,755
Supplemental cash flow information:
Interest paid $ 42,483 $ 40,360
Income taxes paid $ 504,220 $ 825,000
</TABLE>
The accompanying notes are an integral part
of the consolidated financial statements.
<PAGE>
HALLMARK FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Accounting Policies:
General
Hallmark Financial Services, Inc. ("HFS") and its subsidiaries
(collectively, the "Company"), are engaged primarily in (1) the
marketing, underwriting and premium financing of non-standard
automobile insurance, and (2) providing fee-based claims adjusting and
administrative services to third parties. The Company conducts these
activities through its wholly-owned subsidiaries: American Hallmark
Insurance Company of Texas ("Hallmark"), American Hallmark General
Agency, Inc. ("AHGA"), Hallmark Claims Service, Inc. ("HCS"), and
Hallmark Finance Corporation ("HFC"). Hallmark is a licensed insurer
in Texas and is regulated by the Texas Department of Insurance. AHGA
is a managing general agency currently selling policies written by an
unaffiliated insurer which are reinsured by Hallmark; HFC offers
premium financing through an unaffiliated premium finance company for
annual policies sold by AHGA; and HCS provides claims adjusting
services for Hallmark and third parties.
Principles of Consolidation
The accompanying consolidated financial statements include the
accounts and operations of HFS and its wholly-owned subsidiaries.
Intercompany accounts and transactions have been eliminated.
Basis of Presentation
The accompanying financial statements have been prepared in conformity
with generally accepted accounting principles which, as to Hallmark,
differ from statutory accounting practices prescribed or permitted for
insurance companies by insurance regulatory authorities.
Investments
Debt securities are reported at amortized cost. The Company has the
positive intent and ability to hold all investments in debt securities
to maturity. Provisions for possible losses are recorded only on
other-than-temporary declines in the value of an investment.
Equity securities are reported at market value. Unrealized gains and
losses are recorded as a component of stockholder's equity.
Short-term investments are carried at cost which approximates market.
Short-term investments include certificates of deposit maturing
within one year, U.S. Government securities maturing within one year,
money market funds, and other interest-bearing deposits.
Realized investment gains and losses are recognized in operations on
the specific identification method.
<PAGE>
Recognition of Premium Revenues
Insurance premiums are earned pro rata over the terms of the policies.
Policy fees are recognized when received. Insurance premiums written
include gross policy fees of $4,874,897 and $5,252,575 and policy fees
of $2,053,736 and $1,313,144, net of reinsurance, for the years ended
December 31, 1996 and 1995, respectively.
Finance Service Charges
The majority of Hallmark's annual insurance premiums are financed
through the Company's premium finance program offered by its wholly
owned subsidiary, HFC. Under a servicing and financing arrangement
with an unaffiliated company, HFC receives a processing fee which is
paid and recognized on an earned basis. (See Notes 9 and 11.)
Cash Equivalents
The Company considers all highly liquid investments with a maturity of
three months or less when purchased to be cash equivalents.
Property and Equipment
Property and equipment, aggregating $1,096,825 and $757,302, at
December 31, 1996 and 1995, respectively, included in other assets, is
recorded at cost and is depreciated using the straight-line method
over the estimated useful lives of the assets (five to ten years).
Depreciation expense for 1996 and 1995 was $114,099 and $112,886,
respectively. Accumulated depreciation was $611,609 and $500,480 at
December 31, 1996 and 1995, respectively.
Deferred Policy Acquisition Costs
Policy acquisition costs, mainly commissions, underwriting and
marketing expenses that vary with, and are primarily related to, the
production of new and renewal business, are deferred and charged to
operations over periods in which the related premiums are earned. The
method followed in computing deferred acquisition costs limits the
amount of such deferred costs to their estimated realizable value. In
determining estimated realizable value, the computation gives effect
to the premium to be earned, related investment income, losses and
loss expenses and certain other costs expected to be incurred as the
premiums are earned. Ceding commissions from reinsurers, which
include expense allowances, are deferred and recognized over the
period premiums are earned for the underlying policies reinsured. The
change in deferred ceding commission income is netted against the
change in deferred acquisition costs.
Losses and Loss Adjustment Expenses
Losses and loss adjustment expenses represent the estimated ultimate
net cost of all reported and unreported losses incurred through
December 31, 1996 and 1995. The liabilities for unpaid losses and
loss adjustment expenses are estimated using individual case-basis
valuations and statistical analyses.
<PAGE>
These estimates are subject to the effects of trends in loss severity
and frequency. Although considerable variability is inherent in such
estimates, management believes that the liabilities for unpaid losses
and loss adjustment expenses are adequate. The estimates are
continually reviewed and adjusted as necessary as experience develops
or new information becomes known; such adjustments are included in
current operations. The liabilities for unpaid losses and loss
adjustment expenses at December 31, 1996 and 1995, are reported net of
recoverables for salvage and subrogation of approximately $521,000 and
$377,000, respectively.
Reinsurance
Hallmark is routinely involved in reinsurance transactions with other
companies. Reinsurance premiums, losses, and loss adjustment expenses
are accounted for on bases consistent with those used in accounting
for the original policies issued and the terms of the reinsurance
contracts. (See Note 4 for further discussion.)
Income Taxes
The Company files a consolidated federal income tax return. Deferred
federal income taxes reflect the future tax consequences of
differences between the tax bases of assets and liabilities and their
financial reporting amounts at each year end. Deferred taxes are
recognized using the liability method, whereby tax rates are applied
to cumulative temporary differences based on when and how they are
expected to affect the tax return. Deferred tax assets and
liabilities are adjusted for tax rate changes.
Intangible Assets
When Hallmark, AHGA, HFC, and HCS were purchased by HFS, the excess
cost over the fair value of the net assets acquired was recorded as
goodwill and is being amortized on a straight-line basis over forty
years. Other intangible assets consist of a trade name, a managing
general agent's license, and 3 non-compete arrangements all of which
were fully amortized at December 31, 1996.
The Company continually reevaluates the propriety of the carrying
amount of goodwill and other intangibles as well as the amortization
period to determine whether current events and circumstances warrant
adjustments to the carrying value and/or revised estimates of useful
lives. At this time, the Company believes that no significant
impairment of the goodwill has occurred and that no reduction of the
estimated useful life is warranted.
Net Income Per Share
The computation of net income per share is based upon the weighted
average number of common shares outstanding during the period, plus
(in periods in which they have a dilutive effect) the effect of common
shares contingently issuable, primarily from stock options and
exercise of warrants.
<PAGE>
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities at the date(s) of the financial statements and the
reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Fair Value of Financial Instruments
Cash and Short-term Investments: The carrying amounts reported in the
balance sheet for these instruments approximate their fair values.
Investment Securities: Fair values are estimated using values
obtained from an independent pricing service.
Installment Premiums Receivable: The carrying amounts reported in the
balance sheet for these instruments approximate their fair values as
the terms of the receivables are less than one year.
Notes Payable: Based on immateriality, it was not practicable to
estimate the fair value.
Stock Option Plan
In October 1995, The Financial Accounting Standard Board ("FASB")
issued Statement of Accounting Standards No. 123, Accounting for
Stock-based Compensation (SFAS No. 123). Pursuant to SFAS No. 123, a
company may elect to continue expense recognition under Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees (APB 25) or to recognize compensation expense for grants of
stock, stock options, and other equity instruments to employees based
on fair value methodology outlined in SFAS No. 123. SFAS No. 123
further specifies that companies electing to continue expense
recognition under APB 25 are required to disclose pro forma net income
and pro forma earnings per share as if the fair value based accounting
prescribed by SFAS No. 123 has been applied. The Company has elected
to continue expense recognition pursuant to APB No. 25 (See Note 7).
New Accounting Pronouncements
In June, 1996, the FASB issued SFAS No. 125, "Accounting for Transfer
and Servicing of Financial Assets and Extinguishments of Liabilities."
Those standards have been established to provide a consistent
application of accounting using a financial-components approach based
upon control of the related assets. After a transfer of financial
assets, an entity recognizes the financial and servicing assets it
controls and the liabilities it has incurred, and derecognizes
financial assets when control has been surrendered and liabilities are
extinguished. SFAS No. 125 is effective for transfer and servicing of
financial assets and extinguishments of liabilities occurring after
December 31, 1996, and may only be applied prospectively. The Company
does not believe that the implementation of SFAS No. 125 will have a
significant impact on its consolidated financial statements.
In February 1997, the FASB issued SFAS No. 128, "Earnings Per Share".
SFAS No. 128 is designed to improve the earnings per share
information provided in financial statements by simplifying the
<PAGE>
existing computation guidelines provided for in APB Opinion No. 15
Earnings Per Share. SFAS No. 128 is effective for financial
statements for periods ending after December 31, 1997. Management has
not yet determined the effect, if any, SFAS No. 128 will have on the
Company's consolidated financial statements.
In February 1997, the FASB issued SFAS No. 129, "Disclosure of
Information about Capital Structure." SFAS 129 is applicable to all
entities and requires that disclosure about an entity's capital
structure include brief discussion of rights and privileges for
securities outstanding. SFAS No. 129 is effective for financial
statements for periods ending after December 15, 1997.
Reclassification
Certain previously reported 1995 amounts have been reclassified to
conform to current year presentation. Such reclassifications had no
effect on net income or stockholders' equity.
2. Investments:
Major categories of net investment income are summarized as follows:
<TABLE>
Years ended December 31,
1996 1995
<S> <C> <C>
Debt securities $374,598 $330,280
Equity securities 9,689 11,689
Short-term investments 355,084 121,328
Cash equivalents 122,644 119,512
Other 1,960 3,107
863,975 585,916
Investment expenses (112) (861)
Net investment income $863,863 $585,055
</TABLE>
No investment in any entity or its affiliates exceeded 10% of
stockholders' equity at December 31, 1996 and 1995, respectively.
<PAGE>
The amortized cost and estimated market value of investments in debt
securities by category is as follows:
<TABLE>
<CAPTION> Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
<S> <C> <C> <C> <C>
At December 31, 1996
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $2,434,973 $32,775 ($11,221) $2,456,528
Mortgage Backed Securities 2,399,635 21,250 (65,721) 2,355,163
Obligations of state and
local governments 325,529 6,452 (590) 331,391
Total debt securities $5,160,137 $60,477 ($77,532) $5,143,082
At December 31, 1995
U.S. Treasury securities
and obligations of U.S.
government corporations
and agencies $3,467,482 $65,759 ($10,095) $3,523,146
Mortgage Backed Securities 2,513,859 26,038 (46,625) 2,493,272
Obligations of state and
local governments 428,203 15,458 - 443,661
Total debt securities $6,409,544 $107,255 ($56,720) $6,460,079
</TABLE>
The amortized cost and estimated market value of bonds at December 31,
1996, by contractual maturity, are as follows. Expected maturities
may differ from contractual maturities because certain borrowers
may have the right to call or prepay obligations with or without
penalties.
<TABLE>
Amortized Market
Maturity Cost Value
<S> <C> <C>
1997 $ 1,004,290 $ 1,001,406
1998 - 2000 927,371 920,969
2001 - 2005 502,777 525,250
After 2005 326,064 340,294
Mortgage backed securities 2,399,635 2,355,163
$ 5,160,137 $ 5,143,082
</TABLE>
At December 31, 1996 and 1995, investments in debt securities, with an
approximate carrying value of $100,000 and $98,000, respectively, were
on deposit with the Texas Department of Insurance as required by
statutory regulations.
Proceeds from investment securities of $1,775,414 and $934,102 during
1996 and 1995, respectively, were primarily from maturities and bond
calls.
<PAGE>
3. Liability for Unpaid Losses and Loss Adjustment Expenses:
Activity in the liability for unpaid losses and loss adjustment
expenses (in thousands) is summarized as follows:
<TABLE>
1996 1995
<S> <C> <C>
Balance at January 1 $ 22,323 $ 12,668
Less reinsurance recoverables 16,399 8,371
Net Balance at January 1 5,924 4,297
Incurred related to:
Current year 8,441 8,458
Prior years (535) 502
Total incurred 7,906 8,960
Paid related to:
Current year 5,085 4,020
Prior years 3,783 3,313
Total paid 8,868 7,333
Net Balance at December 31 4,962 5,924
Plus reinsurance recoverables 15,735 16,399
Balance at December 31 $ 20,697 $ 22,323
</TABLE>
Incurred losses of $7,906,000 and $8,960,000 for 1996 and 1995,
respectively, include a decrease of $535,000 for 1996 and an increase
of $502,000 for 1995 due to respective changes made in reserve
estimates for losses and LAE incurred in prior years.
4. Reinsurance:
Hallmark is involved in the assumption and cession of reinsurance
from/to other companies. The Company remains obligated to its
policyholders in the event that the reinsurers do not meet their
obligations under the reinsurance agreements.
Effective March 1, 1992, Hallmark entered into a reinsurance
arrangement with State and County Mutual Fire Insurance Company
("State & County"), an unaffiliated company, to assume 100% of the
nonstandard auto business produced by AHGA and underwritten by State &
County. The earned premiums assumed under this agreement in 1996 and
1995 were $46,827,628 and $43,212,837, respectively. Funds generated
from business produced under this agreement are maintained in accounts
for the benefit of State & County. At December 31, 1996 and 1995,
Hallmark held for the benefit of State & County, cash and cash
equivalents of $3,275,519 and $1,439,760, respectively, and investment
securities at amortized cost of $6,510,613 and $7,243,756,
respectively.
The arrangement is supplemented by a separate retrocession agreement
effective July 1, 1996 between Hallmark and Kemper Reinsurance Company
("Kemper"), Dorinco Reinsurance Company ("Dorinco") and Odyssey
Reinsurance Corporation (AOdysseyA). Prior to July 1, 1996, Hallmark
<PAGE>
had a separate retrocession agreement with Vesta Fire Insurance
Corporation ("Vesta"). Under both agreements, the Company retains 25%
of the risk and cedes 75% to the reinsurers.
Under the retrocession agreement with Kemper, Dorinco, and Odyssey,
Hallmark receives a provisional ceding commission of 30%. This
provisional commission is adjusted annually over a three year rating
period on a sliding scale based on annual loss ratios. Based upon its
loss experience, Hallmark can earn a maximum commission of 33.5% and
is guaranteed a minimum commission of 26% regardless of loss
experience. For the year ended December 31, 1996, Hallmark recognized
a commission of 27.5% based on current loss experience.
Effective July 1, 1996, Hallmark entered into an Excess of Loss
Reinsurance Agreement with Kemper whereby Kemper reinsures Hallmark
for physical damage catastrophe losses in excess of 95% of the
ultimate net loss over and above an initial ultimate net loss of
$100,000 on each and every loss occurrence, subject to a limit of
liability to Kemper of $142,500 on each and every loss occurrence.
Prior to July 1996, Hallmark's catastrophic occurrences were reinsured
under an agreement with Vesta. There were no catastrophic losses
during 1996. During 1995, there were two catastrophic occurrences as
defined and covered under the agreements with Vesta due to severe
hailstorms in March and May. Total net recoveries under the
agreements were $129,000.
5. Notes Payable:
A summary of the Company's notes payable is as follows:
<TABLE>
December 31,
1996 1995
<S> <C> <C>
Note payable to individual $210,666 $258,975
Note payable to unaffiliated
finance company 380,187 380,187
Total $590,853 $639,162
</TABLE>
Scheduled annual principal payments on all the foregoing borrowings
are as follows:
Year
1997 $ 433,517
1998 58,915
1999 65,084
2000 33,337
Total $ 590,853
The note payable to an individual is collateralized by most assets of
AHGA and requires monthly principal and interest payments of $6,000
through May 1, 2000, with interest at 10%.
The entire note payable to unaffiliated finance company with interest
at prime plus one percent was due March 1, 1993. The Company has not
made payments on the note since November 1992, and is in technical
default. The note provides for an interest rate after maturity of the
maximum statutory interest rate. The Company believes it has the right
to offset $240,000 which is on deposit with a subsidiary of the
<PAGE>
unaffiliated finance company. The total principal and interest in
arrears aggregates $754,148 at December 31, 1996. Both the lender and
its subsidiary are currently in bankruptcy proceedings. Upon final
settlement, management believes the cost, if any, to the Company will
not exceed amounts accrued in these financial statements.
6. Stockholders' Equity:
Hallmark's 1996 and 1995 net income and stockholders' equity (capital
and surplus), as determined in accordance with statutory accounting
practices, were $908,593 and $5,177,994, and $836,605 and $4,774,444,
respectively. The minimum statutory capital and surplus required for
Hallmark by the Texas Department of Insurance is $2,000,000.
Texas state law limits the payment of dividends to stockholders by
property and casualty insurance companies. The maximum dividend that
may be paid without prior approval of the Commissioner of Insurance is
limited to the greater of 10% of statutory surplus as regards
policyholders as of the preceding calendar year end or the statutory
net investment income of the preceding calendar year. No dividends
were declared or paid by Hallmark in 1996 or 1995.
7. Stock Option Plans:
The Company has two stock option plans for key employees, the 1991 Key
Employee Stock Option Plan and the 1994 Key Employee Long Term
Incentive Plan, and a non-qualified plan for non-employee directors.
The number of shares reserved for future issuance under the 1991
employee plan, the 1994 employee plan and the non-employee director
plan is 500,000, 1,500,000 and 1,350,000, respectively. The option
prices under the plans are not to be less than the closing price of
the common stock on the day preceding the grant date. Pursuant to
the stock option plans, the Company has granted incentive stock
options under Section 422 of the Internal Revenue Code of 1986. The
stock options granted to employees vest over a 3 year period on a
graded schedule, 40% in the first 6 months and 20% on each anniversary
date of the grant date. The stock options granted to the directors
vest over a 6 year period on a graded schedule, 40% in the first 6
months and 10% on each anniversary date of the grant date. In
accordance with APB No. 25, the Company has not recognized
compensation expense for the stock options granted in 1996 and 1995.
In October 1992, the Company issued warrants to purchase 981,333
shares of its common stock ("Guaranty Warrants") to executive officers
and directors in consideration for the recipients' agreement to pledge
outstanding shares of the Company's common stock they owned as
security for a working capital line of credit the Company proposed to
obtain from a commercial bank. The Company subsequently abandoned its
efforts to obtain the working capital line of credit. Each Guaranty
Warrant covered the same number of shares the recipient agreed to
pledge. No value was assigned to these warrants. The Guaranty
Warrants were fully exercisable between October 2, 1992 and
October 1, 1996, at which time they would have expired to the extent
not exercised. On March 28, 1996, the Board of Directors extended the
exercisability of the Guaranty Warrants through October 1, 1998. This
resulted in the forfeiture and is deemed a re-grant for accounting
purposes of the Guaranty Warrants thus requiring a new measurement
date. The exercise price is $.50 per share, an amount equal to the
<PAGE>
last reported sale price of the Common Stock on the American Stock
Exchange's Emerging Company Marketplace prior to October 2, 1992. The
Guaranty Warrants are not transferrable, but may be exercised only by
their recipients (or by a recipient's estate in the event of his/her
death).
A summary of the status of the Company's stock options and warrants as
of December 31, 1996 and December 31, 1995, and the changes during the
year ended on those dates is presented below:
<TABLE>
<CAPTION> 1996 1995
Number Number
of Shares of Weighted of Shares of Weighted
Underlying Average Underlying Average
Options and Exercise Options and Exercise
Warrants Prices Warrants Prices
<S> <C> <C> <C> <C>
Outstanding at
beginning
of the year 2,601,333 $ .42 2,516,333 $ .375
Granted at a
discount 981,333 $ .50 230,000 $ .68
Granted at the
money 350,000 $1.125 - -
Granted at a
premium - - 5,000 $ 1.125
Total Granted 1,331,333 $ .66 235,000 $ .66
Exercised - - - -
Forfeited (981,333) $ .50 - -
Expired (105,000) $1.92 (150,000) $ .375
Outstanding at
end of year 2,846,333 $ .53 2,601,333 $ .42
Exercisable at
end of year 2,332,333 $ .51 1,992,333 $ .53
</TABLE>
<TABLE>
1996 1995
<S> <C> <C>
Weighted-average FV of options
granted at a discount $ .11 $.75
Weighted-average FV of options
granted at the money $ .95 -
Weighted-average FV of options
granted at a premium - $.95
Weighted-average FV of all options
granted during the year $ .33 $.76
</TABLE>
The fair value of each stock option granted is estimated on the date
of grant using the Black-Scholes option-pricing model with the
following weighted-average assumptions for grants in 1995 and 1996,
respectively: no dividend yield for both years; risk-free interest
rates are different for each grant and range from 5.54% to 7.82%; the
expected lives of options are 7 years; and volatility of 100% for all
grants.
<PAGE>
The following table summarizes information about stock options
outstanding at December 31, 1996:
<TABLE>
<CAPTION>
Options and Options and
Warrants Outstanding Warrants Exercisable
Weighted Avg.
Remaining
Range of Contr.
Exercise Outstanding Actual Weighted Avg. Exercisable Weighted Avg.
Prices at 12/31/96 Life Exercise Price at 12/31/96 Exercise Price
<C> <C> <C> <C> <C> <C>
$.25
to
$.70 2,491,333 4.89 $ .45 2,189,333 $ .44
$.71
to
$1.188 355,000 9.03 $1.13 143,000 $1.13
$.25
to
$1.188 2,846,333 5.4 $ .54 2,332,333 $ .51
</TABLE>
The pro forma effects on net income and earnings per share for 1996 and
1995 from compensation expense computed pursuant to SFAS No. 123 is as
follows:
<TABLE>
<CAPTION> December 31, 1996 December 31, 1995
As Reported Pro Forma As Reported Pro Forma
<S> <C> <C> <C> <C>
SFAS No. 123 Charge - $ 259,291 - $ 92,954
Net Income $1,049,767 $ 878,635 $1,254,757 $1,193,407
Net Income Per
Common Share $ .09 $ .07 $ .11 $ .10
</TABLE>
The effects of applying SFAS No. 123 in this pro forma disclosure are
not indicative of future amounts. SFAS No. 123 does not apply to
awards prior to 1995, and the Company anticipates making awards in the
future under its stock-based compensation plan.
<PAGE>
8. Income Taxes:
The composition of deferred tax assets and liabilities and the related
tax effects as of December 31, 1996, and 1995, is as follows:
<TABLE>
1996 1995
<S> <C> <C>
Deferred tax liabilities:
Deferred policy acquisition costs,
deductible for tax ($862,432) ($1,019,844)
Other - (2,373)
Total deferred tax liabilities (862,432) (1,022,217)
Deferred tax assets:
Unearned premiums 192,439 267,439
Loss reserve discounting,
net of salvage and subrogation 65,207 140,211
Deferred ceding commissions,
non-deductible for tax 805,210 1,196,197
Accrued Expenses 30,444 30,444
Net operating loss carryforward 33,171 33,171
Allowance for doubtful accounts 41,510 -
Other 58,347 20,286
Total deferred tax assets 1,226,328 1,687,748
Net deferred tax asset 363,896 665,531
Valuation allowance 33,178 97,562
Net deferred tax asset $ 330,718 $ 567,969
(/TABLE)
A valuation allowance is provided against the Company's deferred tax
asset to the extent that management does not believe it is more likely
than not that future taxable income will be adequate to realize these
future tax benefits.
A reconciliation of the income tax provisions based on the prevailing
corporate tax rate of 34 percent to the provision reflected in the
consolidated financial statements for the years ended December 31,
1996, and 1995, is as follows:
</TABLE>
<TABLE>
1996 1995
<S> <C> <C>
Computed expected income tax
expense at statutory regulatory
tax rate $ 547,143 $ 491,490
Amortization of excess cost
over net assets acquired 53,959 53,024
Tax-exempt interest (8,290) (9,251)
Key-man life insurance 7,878 5,909
Change in valuation allowance (64,392) (364,084)
Other 23,179 13,713
Income tax expense $ 559,477 $ 190,801
(/TABLE>
The change in the valuation allowance primarily results from the
utilization, based upon its recent operating history, of net operating
loss carryforwards for which a full valuation allowance had previously
been recorded.
(PAGE)
The Company has available, for federal income tax purposes, unused net
operating losses of $97,562 at December 31, 1996, which may be used to
offset future taxable income. The net operating losses will expire,
if unused, as follows:
Year
2002 $ 1,325
2003 96,237
$ 97,562
9. Commitments and Contingencies:
The Company has several leases, primarily for office facilities and
computer equipment, which expire in various years through 2000.
Certain of these leases contain renewal options. Rental expense
amounted to $681,326 and $566,296 for the years ended December 31,
1996 and 1995, respectively.
Future minimum lease payments under noncancelable operating leases as
of December 31, 1996 are as follows:
Year
1997 $ 548,315
1998 480,260
1999 445,364
2000 337,085
Total minimum lease payments $ 1,811,024
Effective January 1, 1995, HFC entered into a financing and servicing
arrangement with an unaffiliated premium finance company, Peregrine
Premium Finance L.C. ("Peregrine"). Under the agreement, Peregrine
has agreed to provide a credit facility of $13,500,000 as of December
31, 1996, to fund premium finance notes (the "Notes") generated by
financing State & County policies produced by AHGA. HFC, in turn,
processes and services the Notes on behalf of Peregrine for a
processing fee approximating Peregrine's operating profit from the
Notes, net of imputed borrowing costs on the credit facility and after
deducting certain expenses, including default cost. As of December
31, 1996 and 1995, Peregrine had issued notes totaling $ 8,969,747 and
$11,831,771, respectively, under the credit facility. The imputed
interest costs on the funds borrowed by HFC range from prime (8.25% at
December 31, 1996) plus one percent on approximately 80% of the funded
amount to 25% on approximately 20% of the funded amount. Although
Peregrine's commitment to HFC is not contingent upon Peregrine having
a bank credit facility to fund some portion of the Notes, the
agreement provides for the possible existence of such a facility and
further provides that HFC will reimburse Peregrine for any fees
charged by the bank. Under the agreement, a bank has committed to
provide approximately 80% of the funding of the Notes up to $6,450,126
and $8,570,373 at December 31, 1996 and 1995, respectively. Under this
facility, HFC reimbursed Peregrine $24,370 and $34,599 for 1996 and
1995, respectively, in bank commitment fees representing one-half of
one percent on the unused portion of the bank commitment credit
facility. HFS guarantees HFC's performance and obligations under this
agreement. Neither the Notes issued by Peregrine nor the credit
facility amount outstanding is recorded in the accompanying financial
statements.
<PAGE>
At December 31, 1996, a standby letter of credit of $150,000 had been
issued by a financial institution under an agreement, expiring
December 29, 1997, which is being maintained as collateral for
performance and advances received on a reinsurance contract. At
December 31, 1996, no amounts were outstanding under the letter of
credit. The letter of credit requires an annual commitment fee of
$2,000 and is collateralized by a U.S. Government Security with a
total par value of $200,000 held in Hallmark's name.
Effective August 1, 1994, the Company adopted a 401(K) savings plan.
Employees who have completed three months of service are eligible to
participate. Under this plan employees may contribute a portion of
their compensation, and the Company may contribute a discretionary
amount each year. The Company's contribution for 1996 was $82,000
and for 1995 was $56,856.
A lawsuit filed in March 1995, by former directors, officers and
agents of Hallmark relates to a claim for indemnification. On March
5, 1997, a jury returned a verdict against the Company and in favor of
a former director and officer of Hallmark in the amount of
approximately $516,000 on the basis of contractual and statutory
indemnification claims. Although the jury returned a verdict, the
court has not yet rendered judgment on such verdict. Therefore, the
case is presently neither final nor appealable. In addition, by
agreement of the litigants, the issue of attorneys' fees in the
lawsuit remains to be submitted to the court for determination.
The Company believes the verdict in this lawsuit was both legally and
factually incorrect. The Company intends to file a motion requesting
the court to render judgment in favor of the Company notwithstanding
the jury verdict. If the jury verdict is not set aside or modified by
the trial court, the Company presently intends to appeal the judgment
after it is rendered by the court. However, the Company is presently
unable to determine the likelihood of an unfavorable outcome to such
motion or appeals. Therefore, the Company has accrued only its
estimated attorneys' fees of $235,000.
The Company is involved in other various claims and legal actions
arising in the ordinary course of business. In the opinion of
management, the ultimate disposition of these matters will not have a
material adverse effect on the Company's financial position or results
of operations.
From time to time, assessments are levied on the Company by the
guaranty association of the State of Texas. Such assessments are made
primarily to cover the losses of policyholders of insolvent or
rehabilitated insurers. These assessments can be partially recovered
through a reduction in future premium taxes. There were no
assessments for 1996 and 1995.
10. Concentrations of Credit Risk:
The Company maintains cash equivalents in accounts with two financial
institutions in excess of the amount insured by the Federal Deposit
Insurance Corporation.
All of the Company's business activity is with customers and
independent agents located within the State of Texas.
<PAGE>
11. Subsequent Event:
Effective March 11, 1997, HFS entered into a loan agreement with
Dorinco ("Dorinco Loan Agreement"), an unaffiliated company and a
principal reinsurer of Hallmark , whereby HFS borrowed $7,000,000 to
contribute to its wholly owned premium finance subsidiary, HFC. In a
related transaction, effective March 17, 1997, HFC entered into a loan
agreement ("Bank Credit Line") with a bank whereby the bank committed
to provide a revolving credit facility of $8,000,000 for funding of up
to 60% of premium finance notes outstanding for State & County
policies. Proceeds from the Dorinco Loan Agreement were used to pay
$5,915,109 outstanding under HFC's financing and servicing arrangement
with Peregrine (the "Peregrine Agreement"), liquidating the prime-
plus-one 80%-tier of the two-tier financing arrangement. The
Peregrine Agreement's 20% tier, with a 25% interest rate, will be
utilized by HFC until approximately June 15, 1997 at the conclusion of
HFC's 90-day written cancellation notification period. Thereafter,
the Peregrine Agreement will terminate upon the later of the date on
which (1) all run-off is complete and (2) no outstanding principal or
interest on the Notes is due. Until such time that the 90-day
cancellation is satisfied, HFC will utilize remaining proceeds from
the Dorinco Loan Agreement to fund the Peregrine Agreement's 80% tier.
Beginning on or about June 15, 1997, HFC will commence funding all
new notes issued by HFC with proceeds from both the Dorinco Loan and
the Bank Credit Line.
The Dorinco Loan Agreement provides for a seven-year term at a fixed
interest rate of 8.25%. Interest is payable monthly through February
28, 1999, with principal and interest payments commencing March 31,
1999 through March 31, 2004. Under the Dorinco Loan Agreement, a
penalty ranging from $80,000 to $120,000 is charged for prepaying the
loan prior to the fourth anniversary date except that after the second
anniversary date, up to 40% of the outstanding balance may be prepaid
without penalty.
Collateral securing the Dorinco loan is limited to the stock of HFC
and a commitment by HFS to restrict the stock of Hallmark and AHGA
precluding its use as collateral in any other transaction, as long as
certain financial covenants defined as "triggering events" are
maintained. To avoid a triggering event, Hallmark must (1) maintain a
combined ratio and loss ratio which does not exceed 107% and 83%,
respectively; (2) maintain statutory surplus of $4,200,000 and incur
no decreases to surplus in any one year that exceeds 15% of the prior
year surplus, and (3) HFC must maintain a certain interest coverage
ratio and stockholders' equity levels as defined in the agreement. If
a triggering event should occur, HFS has ten days to pledge the stock
of AHGA and Hallmark as additional collateral securing the Dorinco
loan. The Dorinco Loan Agreement also contains covenants, which
require the Company to satisfy certain financial ratios which are less
restrictive than the "triggering event" ratios and, among other
things, restricts capital expenditures, payment of dividends, and
incurring of additional debt.
In addition, the Dorinco Loan Agreement requires that effective July
1, 1997, Hallmark increase the volume of business ceded to Dorinco
under the July 1, 1996 reinsurance treaty and satisfy certain annual
volume levels ceded over the seven year term of the agreement.
Effective January 1, 1997, the commission structure under Dorinco's
<PAGE>
reinsurance treaty will be amended to include more favorable terms
that allows Hallmark to earn an additional 1% commission at a higher
loss ratio than under the current structure and also increases the
maximum ceding commission that Hallmark may earn by 1% up to 34.5%,
but reduces the minimum ceding commission from 26% to 23% under
certain conditions.
The Bank Credit Line provides for an eighteen-month term which expires
September 17, 1998. Fundings under this line are limited to a 60%
advance rate against a borrowing base of eligible premium finance
notes receivable as defined in the agreement. The agreement provides
for monthly interest payments with interest rate options of prime plus
three-eighths floating or the London Interbank Offered Rate ("LIBOR")
plus two and eight-tenths with fixed rate tranches of three, six
and/or twelve months in $250,000-minimum increments up to a total of
twelve tranches. A one-half of one percent commitment fee is payable
on any unused portion of the Bank Credit Line. To secure advances
under the line, HFC must grant the bank a security interest in the
premium finance notes and HFS and certain subsidiaries must guarantee
HFC's indebtedness. The Bank Credit Line agreement also contains
covenants, which, among other things, require the Company to satisfy
the same financial ratios as in the Dorinco Loan Agreement, and
includes, but is not limited to, restrictions on capital expenditures,
payment of dividends, and incurring of additional debt, and requires
that the Company be in compliance with all terms and covenants of the
Dorinco Loan Agreement.
</TABLE>
100% QUOTA SHARE REINSURANCE AGREEMENT
THIS 100% QUOTA SHARE REINSURANCE AGREEMENT (this "Agreement") is made
and entered into as of the first day of January, 1997, by and among the
Reinsurer specifically identified on the signature page of this
Agreement, ( Reinsurer ), STATE AND COUNTY MUTUAL FIRE INSURANCE
COMPANY, an insurance company organized under the laws of the State of
Texas ("Company"), VAUGHN GENERAL AGENCY, INC., a corporation organized
under the laws of the State of Texas ( General Agent"), and AMERICAN
HALLMARK GENERAL AGENCY, INC., a corporation organized under the laws of
the State of Texas ( Program Administrator");
W I T N E S S E T H:
THAT, in consideration of the mutual covenants hereinafter
contained and upon the terms and conditions hereinbelow set forth, the
parties hereto agree as follows:
PREAMBLE
It is understood that the Company, the Reinsurer, the General Agent
and the Program Administrator (hereinafter identified collectively as
the "Parties") hereto wish to enter into a reinsurance arrangement
through which the Company is to bear no business, credit or insurance
risk whatsoever (save the risk of the Reinsurer's insolvency). The
Reinsurer shall hold the Company harmless and indemnify it for these and
all risks. The Program Administrator shall perform all administrative
f u n ctions for the business subject hereto as provided in the
Administrative Services Agreement ("Administrative Services Agreement")
between the Company, the General Agent and the Program Administrator.
The sole consideration provided by the Company, in exchange for the fees
as agreed to, is to permit the Policies (as hereinafter defined) which
are reinsured 100% under this Agreement to be issued in the name of the
Company. All provisions of this Agreement shall be interpreted so as to
be in accord with this Preamble.
ARTICLE I
CLASSES OF BUSINESS REINSURED
1.01 Effective as of the effective date of this Agreement, the Company
obligates itself to cede to the Reinsurer, and the Reinsurer obligates
itself to accept, 100% of the Company's gross liability under all
p o l icies, certificates, contracts, binders, agreements or other
proposals or evidences of insurance, new and renewal policies, binders,
and contracts of insurance (hereinafter called "Policies") issued by and
on behalf of the Company and classified by the Company, in its sole
discretion, as private passenger automobile in accordance with the Texas
Automobile Manual, including physical damage ( Auto Physical Damage ),
liability, personal injury protection, uninsured/underinsured motorist,
medical payments and miscellaneous coverages as allowed by endorsement
in Texas, during the term of this Agreement, produced by or through the
General Agent appointed by the Company at the request of the Reinsurer
as provided in Article XXI (THE GENERAL AGENT) of this Agreement and
administered by the Program Administrator.
<PAGE>
1.02 Subject to Section 22.06 hereof, the maximum Policy limits subject
to this Agreement are as follows:
Physical Damage: Actual Cash Value (ACV),
not to exceed $40,023 per vehicle
Bodily Injury per person: $ 20,023
Bodily Injury per accident: $ 40,023
Property Damage per Accident: $ 15,023
Personal Injury Protection: $ 2,523 per person, per
accident
Uninsured/Underinsured/B.I.: $ 20,023 per person
$ 40,023 per accident
Uninsured/Underinsured/P.D.: $ 15,023 per accident
In the event of a statutory increase in limits by the State of Texas, or
travel by an insured to a state with greater statutory requirements, the
maximum Policy limits shall be increased to statutory limits in effect
plus $23.
1.04 For purposes of this Agreement the maximum term for any Policy
issued hereunder shall be twelve months.
1.05 This Agreement shall also apply to, and the Reinsurer shall
reinsure, 100% coverage for personal injury protection as required under
Tex. Ins. Code Ch. 5, Art. 5.06-3 or any successor statute thereto, for
the classes of business specified under Section 1.01 above.
1.06 Business ceded hereunder shall include every original Policy,
rewrite, renewal or extension (whether before or after termination of
this Agreement) required by statute or by rule or regulation of the
Texas Department of Insurance, or other authority having competent
jurisdiction, of any Policy of insurance ceded hereunder.
1.07 For purposes of this Agreement the term Accident Year as used in
this Agreement shall mean 12 consecutive months commencing with each
January 1.
<PAGE>
ARTICLE II
EXCLUSIONS
The following risks, perils and classes of business are specifically
excluded:
If the General Agent binds or issues any business excluded, the Company
shall notify the Reinsurer promptly upon actual knowledge of such
business being bound or issued. The Reinsurer shall provide coverage
for any such risk bound until canceled by the Company at any Reinsurer s
request.
(a) All business not specifically described as business covered under
Section 1.01 of this Agreement.
(b) Garagekeepers legal liability.
(c) Vendors single interest.
(d) Vehicles principally used as ambulances, fire and police units.
(e) Commercial vehicles rated as such, and all automobile fleets.
(f) Mobile homes.
(g) Automobile dealers.
(h) Loss or damage caused by or resulting from war, invasion,
hostilities, acts of foreign enemies, civil war, insurrection, military
or usurped power, martial law or confiscation by order of any
governmental or public authority, but not excluding loss or damage which
would be covered under a Policy or standard form containing a standard
war exclusion clause.<PAGE>
(i) Business excluded by the attached Nuclear
Exclusion Clauses - Liability - Reinsurance - U.S.A., No. 08-31.1 and
Canada, No. 08-32.1 and Physical Damage - Reinsurance - U.S.A., 08-33
and Canada, No. 08-34.2.
(j) Reinsurance issued for the account of other insurance companies.
(k) Vehicles used in racing or speed events.
(l) Taxis, limos, buses, livery.
(m) Pools, Association, Syndicates and Insolvency Funds per the
attached Pools, Associations, Syndicates and Insolvency Funds Exclusion
Clause 08-04.3.
<PAGE>
ARTICLE III
COMMENCEMENT OF LIABILITY
The liability of the Reinsurer shall commence obligatorily and
simultaneously with that of the Company as soon as the Company becomes
liable, and the premium on account of such liability shall be credited
to the Reinsurer from the original date of the Company's liability.
ARTICLE IV
REINSURANCE FOLLOWS PRIMARY POLICIES
All reinsurance for which the Reinsurer shall be liable, by virtue
of this Agreement, shall be subject, in all respects, to the same rates,
terms, conditions, interpretations, waivers, the exact proportion of
premiums paid to the Company without any deduction for brokerage, and to
the same modifications, alterations and cancellations, as the respective
insurance of the Company to which such reinsurance relates, the true
intent of this Agreement being that the Reinsurer shall, in every case
to which this Agreement applies and in the proportion specified herein,
follow the fortunes of the Company.
ARTICLE V
COMMENCEMENT AND TERMINATION
5.01 The effective date of this Agreement is at 12:01 a.m., Central
Standard Time, on January 1, 1997, as respects losses arising out of
occurrences commencing under Policies written or renewed on or after
such date at the offices of the Company. This Agreement shall remain
continuously in force until terminated according to the provisions set
forth herein.
5.02 This Agreement may be terminated as follows:
(a) By any Party hereto, as of 12:01 a.m., Central Standard Time, June
30, 1997 or any June 30 or January 1 thereafter, by providing at least
ninety (90) days written notice to the other Parties, such notice to be
sent by certified mail, return receipt requested, postage prepaid;
(b) Immediately by mutual consent of the Company and Reinsurer;
(c) Immediately upon written notice by the Reinsurer or the Company in
the event of the cancellation or non-renewal of the General Agent's
license by the Texas Department of Insurance;
(d) By the Reinsurer after thirty (30) days written notice to the
General Agent and the Company of the General Agent's failure to pay to
the Reinsurer all payments of premiums due hereunder, provided, however,
that in the event such payment is received by the Reinsurer prior to the
date of cancellation stated in the Reinsurer's written notice this
Agreement shall not be so terminated and said written notice shall be of
no further force or effect. If the Reinsurer receives such late premium
within a ten (10) day period following receipt of such notice, the
Reinsurer shall inform the Company and the General Agent of such receipt
as soon as the premium is received and the termination of the Agreement
for reason of default shall be rescinded;
<PAGE>
(e) Immediately, upon written notice by the Company, if the Reinsurer
or General Agent is found to be insolvent by a State Insurance
Department or court of competent jurisdiction, or is placed in
supervision, conservation, rehabilitation, or liquidation, or has a
receiver or supervisor appointed. By the Reinsurer, upon thirty (30)
days written notice, if the Company or General Agent is found to be
insolvent by a State Insurance Department or court of competent
jurisdiction, or is placed in supervision, conservation, rehabilitation
or liquidation, or has a receiver or supervisor appointed;
(f) By the Company immediately and automatically without prior written
notice should the Texas Department of Insurance require cancellation or
disallow credit for this reinsurance;
(g) After thirty (30) days written notice by any party in the event
that the Company, the Reinsurer or the General Agent amalgamates with or
passes under the control of any other company or corporation or changes
a majority of its officers or board of directors during the term of this
Agreement;
(h) Immediately, upon written notice by the Reinsurer or the Company,
if American Hallmark General Agency, Inc. is replaced or is otherwise no
longer serving as the sole Program Administrator.
(i) As provided in Section 28.14 of this Agreement.
5.03 W h en this Agreement terminates for any reason, reinsurance
hereunder shall continue to apply to the business in force at the time
and date of termination until expiration or cancellation of such
business. It is understood that any Policies with effective dates prior
to the termination date but issued after the termination date are
covered under this Agreement. Additionally, the reinsurance hereunder
shall continue to apply as to Policies which must be issued or renewed,
as a matter of state law or regulation or because a producing agent has
not been timely canceled, until the expiration dates on said Policies.
The General Agent agrees that, notwithstanding anything to the contrary,
its appointment by the Company to produce business terminates when this
Agreement terminates unless the General Agent's authority has been
terminated earlier; except that the Company shall provide the General
Agent with the limited agency authority needed to service the run-off of
the business, e.g., issue, cancel, offer renewal where required by law.
5.04 Upon termination of this Agreement, the Company, Reinsurer and
General Agent shall not be relieved of or released from any obligation
created by or under this Agreement in relation to payment, expenses,
reports, accounting or handling, which relate to insurance business
reinsured under this Agreement. The Parties hereto expressly covenant
and agree that they will cooperate with each other in the handling of
all such run-off insurance business until all Policies have expired
either by cancellation or by terms of such Policies and all outstanding
losses and loss adjustment expenses have been settled. While by law and
regulation, the Company recognizes its primary obligations to its
Policyholders, the Reinsurer and General Agent recognize that to the
extent possible there shall be no cost to or involvement by the Company
in servicing this run-off. Upon termination of this Agreement, the
General Agent shall service the run-off of the business, and its duties
for such run-off shall include, but not be limited to, handling all
claims, and handling and servicing all Policies through their natural
expiration, together with any Policy renewals, required to be made by
<PAGE>
provisions of applicable law, whether or not the effective date of such
renewal is subsequent to the effective date of cancellation of this
Agreement. All costs and expenses associated with the handling of such
run-off business following the cancellation or termination of this
Agreement shall be borne solely by the General Agent; however, the
Reinsurer shall be ultimately responsible for the run-off and shall pay
any such costs and/or expenses if the General Agent does not for any
reason pay or cause to be paid such costs and expenses. If for any
reason the General Agent fails or is unable to service any such run-off
business (or any business while the Agreement is still in effect),
including the payment of claims, then consistent with this Agreement,
the Reinsurer's obligation with respect to such run-off business shall
continue and the Reinsurer shall appoint a successor to the General
Agent, subject to the approval of the Company, to administer and
otherwise handle the run-off as provided herein at the Reinsurer s
expense. Such successor shall perform all of the duties and obligations
of the General Agent with respect to servicing such run-off business,
including the payment of claims. In addition, the Company in its sole
discretion may terminate the authority of the General Agent or a
successor thereto to handle such run-off business and the Reinsurer
shall then appoint a successor to the General Agent, subject to the
approval of the Company, at no cost to the Company.
5.05 In the event this Agreement is terminated, the Reinsurer shall
remain liable to and shall, immediately upon request, reimburse the
Company for any assessment made upon the Company by the Commissioner of
Insurance of the State of Texas under Article 21.28-C (Texas Property
and Casualty Insurance Guaranty Act) of the Texas Insurance Code, which
applies to the risks reinsured hereunder to the effective date of
termination. The Company shall likewise remain liable for, and account
to the Reinsurer for any recovery of such assessment under Section 7 or
9 of said Article, or any credit allowed to it against its premium tax
pursuant to Section 15 thereof, applicable to the risks reinsured
hereunder.
5.06 This Agreement provides for termination on a run-off basis. The
relevant provisions of the Agreement shall apply to the business being
run-off. It is also expressly agreed that the terms, conditions and
obligations of the Preamble and Article IV, Sections 5.03, 5.04, 5.05
and 5.06, Articles X, XI, XII, XIII, XV, XVI, XVII, XVIII, XX, XXI,
XXII, XXIII, XXIV, XXV and Section 28.14 shall survive the termination
of this Agreement.
5.07 Upon termination, the Company, at its option, may elect to
terminate the Reinsurer s liability for all losses occurring subsequent
to termination. The Reinsurer will return to the Company a portfolio
r e p resenting the unearned premium reserve under this Agreement
appropriate to the mode of termination.
ARTICLE VI
TERRITORY
This Agreement will cover wherever the Company s Policies cover.
ARTICLE VII
CURRENCY
The currency to be used for all purposes of this Agreement shall be
United States of America currency.
<PAGE>
ARTICLE VIII
RIGHTS OF THIRD PARTIES
Nothing herein shall in any manner create any obligations,
establish any rights or create any direct right of action against the
Reinsurer in favor of any third party, or other person not party to this
Agreement; or create any privity of contract between the Policyholders
and the Reinsurer.
ARTICLE IX
RETENTION AND LIMIT
The Company shall cede and the Reinsurer shall accept 100% of the
Company's gross liability on each risk.
ARTICLE X
CEDING FEE TO THE COMPANY
10.01 The Reinsurer shall pay to the Company, or the General Agent
shall pay to the Company on behalf of the Reinsurer, a fee within forty-
five (45) days following the end of each month to the Company's
designated agent, (T.B.A. Insurance, Inc. (TBA)), as an allowance for
the ceding fee, 3% of Net Collected Premiums, plus the amount of state
premium taxes as provided in the Article XIII and the cost to the
Company of audits performed as provided in the General Agency Agreement.
For purposes of calculating premium taxes due and the ceding fee allowed
the Company, Net Premiums and Net Collected Premiums will include
100% of Policy fees. Should any additional premium tax be assessed at
any time on written premium reinsured hereunder, the General Agent shall
pay the Company such additional premium tax within (fifteen) 15 days of
being informed by the Company of such additional premium tax. The
Parties acknowledge that at the effective date of this Agreement, the
Texas Department of Insurance (or other state agency responsible for
collecting premium taxes) requires the payment of estimated premium
taxes in advance on a semi-annual basis. The General Agent shall,
therefore, pay to the Company within five days prior to the due date of
any such estimated premium tax payment, the amount that would be due
based upon the business produced hereunder.
10.02 The Reinsurer hereby guarantees that the Company will receive
the ceding fee provided hereunder irrespective of any events, losses or
developments for the term of this Agreement. Such payment is not
dependent upon the performance of the General Agent, underwriting
experience, loss experience, whether premium is collected or not, or any
other event foreseen or unforeseen by the parties at the inception of
this Agreement.
<PAGE>
ARTICLE XI
PREMIUMS, COMMISSIONS AND PAYMENTS
11.01 In consideration of the acceptance by the Reinsurer of one
hundred percent (100%) of the Company's liability on insurance business
reinsured hereunder, the Reinsurer is entitled to one hundred percent
(100%) of the Net Collected Premiums (as hereinafter defined) received
by the General Agent or the Reinsurer on Policies reinsured hereunder
less the provisional ceding commission as detailed herein. For the
purposes of determining amounts payable to the General Agent hereunder,
"Net Collected Premiums" shall mean the actual gross premiums charged on
all original and renewal Policies written on behalf of the Company, plus
50% of Policy fees, less return premiums and received by the Program
Administrator by the end of each month. Net Premiums shall mean the
actual gross premiums charged on all original and renewal Policies
written on behalf of the Company, plus 50% of Policy fee, less return
premiums.
(a) The Reinsurer shall allow the General Agent a provisional ceding
commission of 25% of Net Collected Premiums.
(b) The provisional commission allowed the General Agent as detailed
above shall be adjusted periodically in accordance with the provisions
set forth in ARTICLE XII - COMMISSION ADJUSTMENT.
11.02 It is expressly agreed that the ceding commission allowed the
General Agent by the Reinsurer includes provision for premium taxes and
any cost for audits of the General Agent as provided in the General
Agency Agreement. The Reinsurer shall allow the General Agent the
ceding commission as full compensation for all services rendered and in
full reimbursement for all expenditures made by the General Agent. The
General Agent shall not be required to return, as commission or return
commission, monies greater than the total commission paid or otherwise
payable to the General Agent.
11.03 In the event the Company or the Reinsurer, during the
continuance of this Agreement or after its termination, refunds premiums
under any Policy of insurance by reasons of cancellation or otherwise,
the General Agent shall immediately return to the Reinsurer the
commission previously received by it on the portion of the premium
refunded.
11.04 The General Agent shall not seek to recover from the Company
any commissions due, and the Reinsurer shall not seek to recover from
the Company any return commissions due.
11.05 The General Agent shall pay to the Reinsurer the positive
balance, if any, no later than forty-five (45) days following the end of
the month during which the business was written, Net Premiums ceded
hereunder, less the provisional ceding commission as provided herein,
and less loss adjustment expenses and loss payments. Should such
balance be a negative amount, the Reinsurer will promptly pay the
General Agent upon receipt and verification of the amount due as
reported by the General Agent.
<PAGE>
ARTICLE XII
COMMISSION ADJUSTMENT
12.01(a)The final ceding commission shall be determined by the
loss experience under this Agreement. The General Agent will
calculate an adjusted ceding commission for each Underwriting Year
w i thin 60 days following 24 months from the inception of the
Underwriting Year based on premiums earned and losses incurred. The
provisional ceding commission will be adjusted between the General Agent
and the Reinsurer as appropriate. Adjustments for each Underwriting
Year will continue to be made annually until all losses ascribed to the
Underwriting Year have been paid or closed, at which time the ceding
commission will become final.
(b) Premium earned for the Underwriting Year shall mean all Net
Premiums ceded to this Agreement and ascribed to the Underwriting Year
less the unearned premium reserve at the time of the adjustment, if any.
(c) Losses incurred for the Underwriting Year shall mean the loss
and loss expense paid by the Reinsurer (less salvages and recoveries
received) on losses ascribed to the Underwriting Year, plus loss and
loss expense reserves outstanding on losses ascribed to the Underwriting
Year, and plus or minus any credit or debit carryforward as provided in
this Article.
12.02(a) Should the ratio of losses incurred to premium earned be 73.0%
or higher, then the adjusted ceding commission shall be 23.0%.
(b) Should the ratio of losses incurred to premium earned be less
than 73.0%, then the adjusted commission shall be determined by adding
one-percent (1.0%) to the ceding commission for each one percent
reduction of loss ratio subject to ceding commission of 25% at a loss
ratio of 71.0%. Should the ratio of losses incurred to premium earned
be less than 71.0%, then the ceding commission shall be further adjusted
by adding seven-tenths of a percent (.70%) to the ceding commission for
each one percent reduction in the loss ratio below 71.0%, subject to a
maximum ceding commission of 32.0% at a loss ratio of 61.0% or less.
(c) Should the ratio of losses incurred to premium earned be
greater than 73.0% or less than 61.0% the difference between the actual
loss ratio and 73.0% or 61.0%, as the case may be, will be multiplied by
the earned premium for the Underwriting Year and carried forward as a
debit or credit to the ensuing Underwriting Year calculation.
12.05(a) Upon termination, any period of less than 12 months from
inception shall be considered as an Underwriting Year for purposes of
this Article; any period of less than 12 months from anniversary will be
considered as part of the preceding Underwriting Year.
(b) Should this Agreement be terminated on a runoff basis wherein
the Reinsurer is liable for losses occurring after the date of
termination, then such runoff period shall be considered as part of the
last Underwriting Year.
(c) The General Agent shall not seek to recover from the Company
any commissions due, and the Reinsurer shall not seek to recover from
the Company any return commissions due. No funds are due the General
Agent from the Company.
<PAGE>
(d) From any commission, whether provisional or adjusted as herein
p r o vided, shall be subtracted all ceding fees, premium taxes,
assessments, penalties, or fines paid or payable by the Reinsurer or for
which the Reinsurer is liable hereunder.
ARTICLE XIII
ASSIGNMENTS, ASSESSMENTS, PREMIUM TAXES, FINES AND PENALTIES
13.01 This Agreement shall apply to risks assigned to the Company
under any Assigned Risk Plan if, in the sole discretion of the Company,
such risks were assigned to the Company because of the business written
and reinsured hereunder.
13.02 This Agreement shall apply to and the General Agent or the
Reinsurer shall immediately reimburse the Company 100%, as a result of
policies reinsured hereunder, for any assessments made against the
Company pursuant to those laws and regulations creating obligatory funds
(including, but not limited to, insurance guaranty and insolvency
funds), pools, joint underwriting associations, FAIR plans and similar
plans, or any assessments made pursuant to the provisions of Article
21.28-C (Texas Property and Insurance Guaranty Act) of the Texas
Insurance Code, or successor statute thereto. Amounts owed by the
Reinsurer under this Article shall be payable directly by the Reinsurer
to the Company. The Reinsurer shall be entitled to receive from the
Company on or prior to the 31st day of March of each year thereafter (or
such date on which such premium taxes are paid) a sum equal to the
premium tax credit that is allowed to the Company with respect to such
assessments. The premium tax credit allowed the Reinsurer hereunder is
to be on a pro rata and first-in, first-out basis. The Company shall
promptly return to the Reinsurer any amount of assessment refunded to or
credited to the Company pursuant to the provisions of Article 21.28-C of
the Texas Insurance Code.
13.03 The Reinsurer shall also pay promptly and directly to the
Company any fines, penalties, and/or any other charge incurred by the
Company as respects the business reinsured hereunder arising out of
actions or inactions of the General Agent, unless such fines, penalties
and/or any other charge was a direct result of any actual fraud or
violation of criminal law by the Company, which has been finally
determined by a court of competent jurisdiction after the exhaustion of
all appeals.
ARTICLE XIV
ACCOUNTS AND REPORTS
14.01 Within 30 days following the end of each month, the General
Agent shall furnish the Company and the Reinsurer a net account,
segregated by Underwriting Year showing:
1. Net Collected Premiums accounted for during the month on a non-
installment premium basis; plus,
2. Down payments and the portion of installment premiums billed during
the month; less,
<PAGE>
3. Ceding commission due the Company as provided in this Agreement and
applied to item Nos. 1 & 2 above; less,
4. Loss and loss adjustment expense as defined in the Loss and Loss
Adjustment Expense Article; plus,
5. Salvage and subrogation.
6. Commission due the General Agent.
The account will also bear notation of outstanding loss reserve at
the end of the month, unearned premium reserve at the end of the month
and Net Premiums accounted for during the month on an installment
premium basis.
If the balance is due the Company, the Reinsurer will remit any
balance due seven (7) days after its receipt and verification of the
Company s report.
14.03 Periodically upon request the General Agent will provide
statistical or other data as may be requested from time to time by
regulatory authorities, with data segregated by major classes.
14.04 In order to facilitate the handling of the business reinsured
under this Agreement, the General Agent agrees to furnish the Company
with any additional reports necessary to provide the information needed
by the Company to prepare its monthly, quarterly and annual statements
to regulatory authorities.
ARTICLE XV
LOSS AND LOSS ADJUSTMENT EXPENSE
15.01 All loss settlements made by the Company or the General Agent
under the terms of this Agreement whether under strict Policy conditions
or by way of compromise, shall be unconditionally binding upon the
Reinsurer in proportion to its participation. The Reinsurer shall
assume 100% of the risks covered by this Agreement and shall be liable
for and pay to the Company 100% of all losses incurred in connection
with the risks covered by this Agreement including, but not limited to,
judgments and settlements and all interest on said judgments. The
Reinsurer shall also pay to the Company, or to the Program Administrator
on behalf of the Company, an amount equal to 7% of ceded earned premium
to cover loss adjustment expenses, except that the Reinsurer shall pay
to the Company, or to the Program Administrator on behalf of the
Company, 100% of the following:<PAGE>
1. Legal Fees;
2. Court reporter fees, unless used by an adjuster in the
investigation of claims;
3. Court costs;
4. Expert witness fees;
5. Expert testimony fees;
6. Commercial photographs requested by an attorney and will include
photographs taken by the adjuster or commercial photographs requested by
the adjuster while investigating the claim;
7. Court maps or any diagram drawn to scale by a professional map
maker;
8. Fees for medical examinations and reports;
9. Private detectives or investigators fees; and
10. Medical audits.
<PAGE>
11.Appraisal fees. However, it is understood that the cost for the
first 25 appraisal fees emanating from a single occurrence are included
in the 7% expense allowance referenced above.
The Reinsurer shall also pay 100% of costs, expenses and fees resulting
from a declaratory judgment or injunctive action brought by an insured
or other person. The Reinsurer shall, on the other hand, be credited
with 100% of any amount received by the Company as salvage or recovery.
15.02 The Reinsurer s share of losses, expense and loss recovery
shall be carried into the monthly accounting for which provision is
hereinbefore made. When, as a result of any one loss or other casualty
covered by Policies of the Company, the total amount of such loss shall
be due from the Reinsurer, the Reinsurer upon demand by the Company
shall remit forthwith to the Company.
15.03 The Company will promptly notify the Reinsurer or the General
Agent of any claim, suit or action brought against the Company under any
of the Policies when actually notified of a claim, suit or action
against the Company, and will promptly furnish to the Reinsurer or the
General Agent all summons, citations, complaints, petitions,
counterclaims and other pleadings and legal instruments served upon the
Company in connection therewith. The Company hereby further empowers
the Reinsurer to dispose of any salvage received as the result of any
loss settlement hereunder, and to enforce any right of the Company
against any person or organization for damages or equitable relief for
any loss under any of the Policies, employing legal counsel where
necessary, and all sums received as a result thereof will be treated as
current loss recoveries by the Company and Reinsurer. The Company
further agrees to furnish the Reinsurer, on request, any and all legal
instruments necessary to implement the foregoing authorizations. Upon
request, the Reinsurer shall furnish to the Company any or all documents
and correspondence relating to the subject matter hereof.
15.04 All records pertaining to claims arising under insurance
Policies issued on behalf of the Company through or by the General Agent
subject to this Agreement, shall be deemed to be jointly owned records
of the Company and the Reinsurer, and shall be made available to the
Company or the Reinsurer or their respective representatives or any duly
appointed examiner for any State within the United States; and these
records shall be kept in the State of Texas. Notwithstanding the
foregoing, the Reinsurer is authorized to maintain duplicate working
files of all such records outside the State of Texas. The Company, the
Reinsurer and the General Agent agree that they will not destroy any
such records in their possession without the prior written approval of
the others, except that the Company shall not be required to retain
files longer than required by the guidelines set by the Texas Department
of Insurance.
15.05 The Reinsurer shall, or shall cause the General Agent to
establish a separate claim register or method of recording claims
arising under the Policies covered by this Agreement so that all claims
may be segregated and identified separate and apart from other records
of the Reinsurer or General Agent, with such claims register to identify
each claim on an individual case basis both as to identify the
insured(s) and the claimant and the reserve for loss and adjusting
expense. Such claim register shall be kept in a form whereby the Company
can, at any time, determine the status of any claim arising under
<PAGE>
Policies covered by this Agreement. Such records shall reflect the
amount of reserves established for the individual claim and the date
when such reserve was established, and if closed, whether such claim was
closed with or without payment, and if with payment, the amount paid
thereon.
15.06 The General Agent will advise the Reinsurer by separate
report, regardless of any question of liability or coverage, any claim
involving the following:
(a) Fatalities.
(b) Bodily injuries involving:
(i) Brain stem, quadriplegic, paraplegic or severe paralysis;
(ii) Serious burns;
(iii) Amputations of major limbs;
(iv) Serious impairment of vision.
(c) Potential coverage disputes or bad faith situations which may
give rise to a payment for excess of Policy limits or extra contractual
obligations.
(d) Any claims that do not fall within these categories, but have
a potential of significant liability to the Reinsurer.
ARTICLE XVI
LOSS IN EXCESS OF POLICY LIMITS/ECO
16.01 In the event the Company pays or is held liable to pay an
amount of loss in excess of its Policy limit, but otherwise within the
terms of its Policy (hereinafter called "loss in excess of Policy
limits") or any punitive, exemplary, compensatory or consequential
damages other than loss in excess of Policy limits (hereinafter called
"extra contractual obligations") in relation to handling a claim
reinsured hereunder or anything else related to the business reinsured
hereunder, 100% of the loss in excess of Policy limits and/or 100% of
the extra contractual obligations shall be added to the Company's loss,
if any, under the Policy involved, and the sum thereof shall be
reinsured 100% under this Agreement.
16.02 An extra contractual obligation shall be deemed to have
occurred on the same date as the loss covered or alleged to be covered
under the Policy.
16.03 Notwithstanding anything stated herein, this Agreement shall
not apply to any loss incurred by the Company as a result of any actual
fraud and/or violation of a criminal law which has been finally
determined by a court of competent jurisdiction after the exhaustion of
any appeals by an officer or director of the Company acting individually
or collectively in collusion with any individual, corporation or any
other organization or party involved in the presentation, defense or
settlement of any claim covered hereunder.
<PAGE>
ARTICLE XVII
ERRORS AND OMISSIONS
The Company shall not be prejudiced, in any way, by any omission
through clerical error, accident or oversight to cede to the Reinsurer
any reinsurance rightly falling under the terms of this Agreement, or by
erroneous cancellation, either partial or total, of any cession, or by
omission to report, or by erroneously reporting any losses, or by any
other error or omission, but any such error or omission shall be
corrected immediately upon discovery.
ARTICLE XVIII
ACCESS TO RECORDS
The Reinsurer or its duly appointed representatives shall have free
access at any and all reasonable times to such books and records of the
Company or General Agent, its departmental or branch offices, as shall
reflect premium and loss transactions of the Company and/or the business
produced hereunder, for the purpose of obtaining any and all information
concerning this Agreement or the subject matter thereof. Likewise, the
Company or its duly appointed representatives shall have free access at
any and all reasonable times to such books and records of the Reinsurer
and/or General Agent, its departmental or branch offices as shall
reflect premium and loss transactions of the Company and/or the business
produced hereunder, for the purpose of obtaining any and all information
concerning this Agreement or the subject matter hereof.
ARTICLE XIX
REINSURER OR GENERAL AGENT SALE OR TRANSFER
The Reinsurer or the General Agent agree to give the Company or its
designated agent, 90 days advance written notice of any sale or transfer
of such party's business, or such party's consolidation with a successor
firm, in order that the Company may, in its sole discretion:
(a) Assign this Agreement to the successor; or
(b) Enter into a new reinsurance agreement with the successor; or
(c) Terminate this Agreement as provided in Section 5.02(g) of this
Agreement.
ARTICLE XX
INSOLVENCY
20.01 In the event of insolvency of the Company, this reinsurance
shall be payable directly to the Company or to its liquidator, receiver,
conservator or statutory successor on the basis of the liability of the
Company without diminution because of the insolvency of the Company or
because the liquidator, receiver, conservator or statutory successor of
the Company has failed to pay all or a portion of any claims.
20.02 I t is agreed, however, that the liquidator, receiver,
conservator or statutory successor of the Company shall give written
notice to the Reinsurer of the pendency of a claim against the Company
<PAGE>
indicating the Policy or bond reinsured which claim would involve a
possible liability on the part of the Reinsurer within thirty (30) days
after such claim is filed in the insolvency, conservation or liquidation
proceeding or in the receivership, and that during the pendency of such
claim, the Reinsurer may investigate such claims and interpose, at its
own expense, in the proceeding where such claim is to be adjudicated,
any defense or defenses that it may deem available to the Company or its
liquidator, receiver, conservator or statutory successor. The expense
thus incurred by the Reinsurer shall be chargeable, subject to the
approval of the Court, against the Company as part of the expense of
conservation or liquidation to the extent of a pro rata share of the
benefit which may accrue to the Company solely as a result of the
defense undertaken by the Reinsurer.
20.03 Where two or more reinsurers are involved in the same claim
and a majority in interest elect to interpose defense to such claim, the
expense shall be apportioned in accordance with the terms of this
Agreement as though such expense had been incurred by the Company.
20.04 It is further understood and agreed that, in the event of the
insolvency of the Company, the reinsurance under this Agreement shall be
payable directly by the Reinsurer to the Company or to its liquidator,
receiver or statutory successor, except (i) as provided by applicable
law, (ii) where the Agreement specifically provides another payee of
such reinsurance in the event of the insolvency of the Company and (iii)
where the Reinsurer with the consent of the direct insured or insureds
has assumed such Policy obligations of the Company as direct obligations
of the Reinsurer to the payees under such Policies and in substitution
for the obligation of the Company to such payees.
ARTICLE XXI
THE GENERAL AGENT
21.01 The Company, the Reinsurer and the General Agent have entered
into a General Agency Agreement effective January 1, 1997 (the General
Agency Agreement ), a complete copy of which is attached hereto as
Exhibit A and fully incorporated herein by this reference. The
Reinsurer has selected the General Agent to administer the business
reinsured hereunder. While for regulatory purposes, the General Agent
will need to be appointed as the Company's agent, it is recognized that
the General Agent is acting on behalf of the Reinsurer. The Company is
making no evaluation of the General Agent's qualification and has no
obligation to audit or oversee the General Agent or furnish reports or
statistics to the Reinsurer. The Company shall file with the State all
reports requested by the State based upon information received from the
General Agent.
21.02 The Company will, at the request of the General Agent and the
Reinsurer, appoint producing agents to produce business through the
General Agent. The Company, in its sole discretion, may refuse to
appoint any such agent; provided, however, that such appointment shall
not be unreasonably withheld. The General Agent will not establish any
sub-general agencies or any agencies with the authority of a general
agency. The Reinsurer shall hold the Company harmless from and
indemnify it for any damage, liability, claim, expense, cost or fees
(including attorneys fees and expenses) of whatever kind or character
<PAGE>
caused directly or indirectly by any action of or failure to act, by any
such producing agent.
21.03 The General Agent shall be responsible for the control of the
producing agents appointed by the Company at the request of and on
behalf of the Reinsurer, including compliance with state licensing laws
and the financial condition of such agents.
21.04 The Reinsurer shall guarantee payment to the Company of any
amounts due the Company (or the Company s designated agent, TBA) from
business produced by and/or policies issued by or through the producing
agents appointed by the Company at the request of and on behalf of the
General Agent and the Reinsurer. The Reinsurer and the General Agent
shall be solely responsible for notifying such agents of this Agreement
and of any termination thereof, and the Reinsurer shall be responsible
for the consequences of any failure to provide such notification.
21.05 The General Agent shall not sue, or seek arbitration, against
the Company for any acts of the Reinsurer and shall indemnify and hold
the Company harmless from and against any damages, liabilities and
expenses incurred by reason of the Reinsurer s acts or failure to act.
21.06 The Company shall conduct or have conducted the examinations
of the General Agent as provided in Section 5.13 of the General Agency
Agreement. The examinations provided for herein shall be at no cost to
the Company, and the Reinsurer shall indemnify and hold the Company
completely harmless as respects any liability, damage, charge, cost,
f i ne, or penalty, the Company may incur as a result of such
examinations.
ARTICLE XXII
HOLD HARMLESS PROVISIONS
22.01 In consideration of these presents and the reciprocal benefits
derived by the Company and the Reinsurer hereunder, the Reinsurer hereby
holds the Company harmless from, and assumes all liability for, every
claim, demand, liability, loss, damage, cost, charge, attorneys fees,
expense of suit, order, judgment and adjudication of whatever kind or
character incurred by the Company in connection with this Agreement or
any contract or transaction related thereto, including but not limited
to all costs and fees incurred by the Company in asserting its rights
hereunder, in connection with or with respect to this Agreement. The
Reinsurer s obligations hereto relate to, but are not limited to the
following: all liability for agents balances, return premiums and
commissions; deceptive trade practice liability; premiums, 100% of
Policy fees, premium taxes or other charges (whether collected or not);
all actions or inactions by the intermediary identified in Article XXVI,
all actions or inactions by the General Agent or its sub-agents relating
to this Agreement, the General Agency Agreement between the Company and
the General Agent and any agreement with a premium finance company, all
a c t i o ns or inactions of the Program Administrator under the
Administrative Services Agreement, and all fees owing to the General
Agent under this and the aforementioned related agreements.
Notwithstanding anything to the contrary, this provision shall not apply
to:
<PAGE>
(a) fraud, dishonesty, theft or collusion on part of any director,
officer or
employee of the Company or,
(b) Policies not reinsured hereunder, or
(c) the Company's failure to perform its duties and obligations
under this
Agreement due to the Company's willful misconduct.
22.02 In the event any provision, term and/or condition of this
Agreement is inconsistent with the provisions, terms and/or conditions
of Section 22.01 above, the provisions, terms and/or conditions of said
Section 22.01 shall control over and supersede such inconsistent
provisions, terms and/or conditions.
22.03 The Company shall not be liable to the Reinsurer for premiums
unless the Company itself has actually received those premiums and
wrongfully not remitted them to the Reinsurer. The Reinsurer may not
offset any balances on account of losses, loss adjustment expenses or
any other amounts due except as to premiums actually received by the
Company itself (as distinct from premiums not collected, or premiums
collected by the General Agent, or premium placed in the premium trust
account pursuant to the General Agency Agreement) which have wrongfully
not been transmitted to the Reinsurer.
22.04 If for any reason the General Agent fails or is unable to
administer the Policies reinsured hereunder (whether the Agreement is
still in effect or the business is being run-off), the Reinsurer shall
appoint a party (acceptable and approved by the Company) to administer
the business and the Reinsurer shall be responsible for 100% of the cost
of said administration. If return premiums or other funds need to be
returned to premium finance companies, Policyholders or sub-agents, the
Reinsurer shall pay these amounts if the General Agent does not.
22.05 The Reinsurer shall not sue, or seek arbitration, against the
Company for any acts of the General Agent for any monies which the
General Agent owes unless the Company has actually received those monies
and has wrongfully not remitted them to the Reinsurer; and the Reinsurer
shall indemnify the Company for any damages, liabilities and expenses
incurred by reason of the General Agent's acts or failure to act. The
Company is not responsible for any commissions or other monies payable
to the General Agent in connection with this Agreement and the General
Agent shall not sue, or seek arbitration against, the Company for any
actions by, or debts owing from, the Reinsurer. The Reinsurer shall not
seek to recover from, or offset against, the Company any sums, whether
premiums or other monies, which the General Agent was unable or
unwilling to remit to the Company or the Reinsurer.
22.06 In the event the Reinsurer, or any agent appointed pursuant to
this Agreement, binds the Company for insurance coverage on insurance
risks which are in excess of the policy limits set forth in Article I,
and/or are not within the terms of business specified in Article I,
and/or are not within the territory specified in Article I, and/or are
not excluded under Article II, whether intentional or not, the Reinsurer
and General Agency will do such things and take such actions as may be
necessary to reduce the Company's exposure to such risks and to hold the
Company harmless against any liability or loss which may be incurred by
<PAGE>
the Company in excess hereof. At the Company s request, the General
Agent in accordance with applicable law, and policy terms, shall cancel
or not renew any risk bound which is not in conformance with this
Agreement. Any such insurance coverage on insurance risks bound
contrary to the limitations which are in excess of the policy limits set
forth in Article I, and/or are not within the classes of business
specified in Article I, and/or are not within the territory specified
win Article I, and or are excluded under Article II, whether intentional
or not, shall be 100% reinsured and subject to this Agreement.
ARTICLE XXIII
REGULATORY MATTERS
23.01 It is the Parties' understanding that the Texas Department of
Insurance views premiums which are over 90 days due (aged by item and
effective date) to the Company as non-admitted assets. In confirmation
of the liabilities assumed by the Reinsurer under this Agreement, the
Reinsurer hereby assumes 100% of all liability and responsibility for
all premiums in the course of collection. It is expressly agreed and
understood that the Company's liability to the Reinsurer shall be only
for any premium actually collected by the Company and wrongfully not
transmitted to the Reinsurer.
23.02 The Reinsurer shall agree, at no cost to the Company, to take
those actions (including, but not limited to, modifications in how funds
are handled and how accounts are cleared and settled) and agree to those
arrangements necessary to ensure that the Company suffers no adverse
impact because of this reinsurance program and is in compliance with the
laws of the State of Texas and regulations promulgated by any
g o v ernmental entity thereof, including the Texas Department of
Insurance, in so far as this reinsurance program is concerned.
ARTICLE XXIV
LOSS AND UNEARNED PREMIUM RESERVE FUNDING
In the event that either (i) the Texas Department of Insurance or
other state insurance department having jurisdiction over the Company's
loss reserves and unearned premium reserves requires cancellation or
disallows credit for this reinsurance or (ii) the Reinsurer s A.M. Best
rating at any time is lower than A-, the Reinsurer will immediately
secure its obligations under this Agreement via a security fund
agreement to be executed by the Reinsurer and the Company, which
security fund agreement shall be in form and content acceptable to the
Company.
ARTICLE XXV
ARBITRATION
25.01 As a condition precedent to any right of action hereunder, in
the event of any dispute or difference of opinion hereafter arising
between the Company and the Reinsurer with respect to this Agreement, or
with respect to these Parties' obligations hereunder, it is hereby
mutually agreed that such dispute or difference of opinion shall be
submitted to arbitration.
<PAGE>
25.02 One arbiter (an "Arbiter") shall be chosen by the Company and
one Arbiter shall be chosen by the Reinsurer and an umpire (an "Umpire")
shall be chosen by the Arbiters, all of whom shall be active or retired
disinterested executive officers of property and casualty insurance or
reinsurance companies.
25.03 In the event that a party fails to choose an Arbiter within
thirty (30) days following a written request by either party to the
other to name an Arbiter, the party who has chosen its Arbiter may
choose the unchosen Arbiter. Thereafter, the Arbiters shall choose an
Umpire before entering upon arbitration. If the Arbiters fail to agree
upon the selection for the Umpire within thirty (30) days following
their appointment, each Arbiter shall name three nominees, of whom the
other shall decline two, and the decision shall be made by drawing lots.
25.04 Each party shall present its case to the Arbiters and Umpire
within a reasonable amount of time after selection of the Umpire, unless
the period is extended by the Arbiters and the Umpire in writing and/or
at a hearing in Dallas, Texas. The Arbiters and Umpire shall consider
this Agreement as an honorable engagement, as well as a legal
obligation, and they are relieved of all judicial formalities and may
abstain from following the strict rules of law regarding entering of
evidence. The decision in writing by a majority of the Arbiters and
Umpire when filed with the Parties shall be final and binding on the
parties. Judgment upon the final decision of the Arbiters and Umpire may
be entered in any court of competent jurisdiction.
25.05 In the event of a dispute between the Company and the
Reinsurer concerning this Agreement and the General Agency Agreement
(regardless of whether either party has claims against the General
Agent), the entire dispute between the Company and the Reinsurer shall
be subject to arbitration as provided in this Article XXV.
25.06 The costs of the arbitration, including the fees of the
arbitrators and the umpire, shall be borne equally unless the Arbiters
and Umpire shall decide otherwise.
25.07 This Agreement shall be interpreted under the laws of Texas
and the arbitration shall be governed and conducted according to the
Texas General Arbitration Act.
ARTICLE XXVI
INTERMEDIARY
Sedgwick Re, Inc. is hereby recognized as the Intermediary
n e g o t iating this Agreement for all business hereunder. All
c o mmunications, including notices, premium, return premiums,
commissions, taxes, losses, loss adjustment expenses, salvages and loss
settlements relating thereto shall be transmitted to the Company,
General Agent or the Reinsurer through Sedgwick Re, Inc., 1501 Fourth
Avenue Suite 1400, Seattle, Washington 98101. Payments by the Company
and/or the General Agent to the Intermediary shall be deemed to
constitute payments to the Reinsurer. Payments by the Reinsurer to the
Intermediary shall be deemed to constitute payment to the Company and/or
the General Agent only to the extent such payments are actually received
by the Company and/or General Agent.
<PAGE>
ARTICLE XXVII
SAVINGS CLAUSE
If any law or regulation of any Federal, State or local Government
of the United States of America, or the ruling of officials having
supervision over insurance companies, should prohibit or render illegal
this Agreement, or any portion thereof, as to risks or properties
located in the jurisdiction of such authority, either the Company or the
Reinsurer may upon written notice to the other suspend or abrogate this
Agreement insofar as it relates to risks or properties located within
such jurisdiction to such extent as may be necessary to comply with such
law, regulations or ruling. Such illegality, shall in no way affect any
other portion thereof, provided however, that the Reinsurer or Company
may terminate or suspend this Agreement insofar as it relates to the
business to which such law or regulation may apply.
ARTICLE XXVIII
MISCELLANEOUS
28.01 This Agreement has been made and entered into in the State of
Texas and the Agreement shall be subject to and construed under the laws
of the State of Texas. This Agreement shall be deemed performable at
the Company's administrative office in Fort Worth, Texas, and it is
agreed that the venue of any controversy arising out of this Agreement,
or any breach thereof, shall be in Dallas County, Texas.
28.02 All notices required to be given hereunder shall be deemed to
have been duly given by personally delivering such notice in writing or
by mailing it, Certified Mail, return receipt requested, with postage
prepaid. Any Party may change the address to which notices and other
communications hereunder are to be sent to such Party by giving the
other Party written notice thereof in accordance with this provision.
28.03 All acts and payments under this Agreement are performable and
payable at the offices of the Company in Fort Worth, Tarrant County,
Texas. The address of the Company, for the purpose of this Agreement,
is 8200 Anderson Boulevard, Fort Worth, Texas, 76120. The address of
the Reinsurer for the purposes of this Agreement is as set forth on the
their applicable signature page executed by the Reinsurer in connection
with this Agreement. The address of the General Agent for the purpose
of this Agreement is in care of American Hallmark General Agency, Inc.,
14651 Dallas Parkway, Suite 900, Dallas, Texas 75240.
28.04 This Agreement shall be binding upon the Parties hereto,
together with their respective successors and permitted assigns. None
of the Reinsurer, the General Agent or the Program Administrator may
assign any of its rights or obligations under this Agreement without the
prior written consent of the Company.
28.05 This Agreement may be executed in one or more counterparts,
each of which shall be deemed an original, but all of which together
shall constitute one and the same instrument.
28.06 This Agreement may be amended, modified or supplemented only
by a written instrument executed by all Parties hereto.
<PAGE>
28.07 This Agreement is the entire agreement between the Parties and
supersedes any and all previous agreements, written or oral, and
amendments thereto.
28.08 A waiver by the Company, Reinsurer or General Agent of any
breach or default by the other party under this Agreement shall not
constitute a continuing waiver or a waiver by the Company or the
Reinsurer of any subsequent act in breach or of default hereunder.
28.09 Headings used in this Agreement are for reference purposes
only and shall not be deemed a part of this Agreement.
28.10 The Parties hereto intend all provisions of this Agreement to
be enforced to the fullest extent permitted. Accordingly, should a court
of competent jurisdiction or arbitration panel determine that the scope
of any provision is too broad to be enforced as written, the Parties
intend that the court or arbitration panel should reform the provision
to such narrower scope as it determines to be enforceable under present
or future law; such provision shall be fully severable; this Agreement
shall be construed and enforced as if such illegal, invalid, or
unenforceable provision were never a part hereof; and the remaining
provisions of this Agreement shall remain in full force and effect and
shall not be affected by the illegal, invalid, or unenforceable
provision or by its severance.
28.11 This Agreement is not exclusive and the Company reserves the
right to appoint or contract with other reinsurers, agents and/or
managing agents in the territory covered by this Agreement.
28.12 T h e Reinsurer or General Agent shall not insert any
advertisement respecting the Company or the business to be written under
this Agreement in any publication or issue any circular or paper
referring to the Company or such business without first obtaining the
written consent of the Company. The Reinsurer and/or General Agent shall
establish and maintain records of any such advertising as required by
Texas statute and regulation.
28.13 Policy cancellations at the Company's request will be made
strictly subject to requirements imposed by the Company's underwriting
rules and practices or the Reinsurer's underwriting rules and practices,
as approved by the Company, and in compliance with applicable statutes
and regulations and the applicable provisions contained in this
Agreement and the pertinent Policy. Such cancellation authority shall
be exercised only for causes inherent in the particular risk and shall
not be construed as authority to make general or indiscriminate
cancellations or replacement of the Policies with those of another
Company, except upon specific written instructions from the Company.
When directed by the Company, the Reinsurer and/or the General Agent
will cancel any and all Policies produced by it for any reason the
Company deems necessary.
28.14 This Agreement shall be interpreted in conformance with
applicable Texas law and regulation. If it is found or ordered by a
court or regulatory body that a term or provision of this Agreement does
not conform to such law or regulation then this Agreement shall be
deemed to be amended and modified in accordance with such law. However,
where this Agreement is found not to comply with applicable law or
<PAGE>
regulation, the Company may in its sole discretion terminate this
Agreement immediately and without prior notice.
28.15 The Company agrees that the Reinsurer and/or the General Agent
shall have the right, with the approval of the Company, to determine the
rates and prepare the rate filing for the Company to file during the
term of this Agreement and during the term of the run-off.
ARTICLE XXIX
T.B.A. INSURANCE, INC.
29.01 The Company has contracted with TBA as its designated
intermediate agent to perform certain duties on the Company s behalf and
to issue certain checks on behalf of the Company in exchange for certain
fees. The Reinsurer agrees that TBA is to bear no business, credit or
insurance risk and can bear no liability whatsoever to the Reinsurer
save liability for any actual fraud or violation of criminal law it
commits, which has been finally determined by a court of competent
jurisdiction after the exhaustion of any appeals. TBA shall receive all
the protections from liability which are contained herein for the
benefit of the Company.
ARTICLE XXX
PARTICIPATION: 100% QUOTA SHARE REINSURANCE AGREEMENT
EFFECTIVE: January 1, 1997
This Agreement obligates the Reinsurer for 100% of the interests and
liabilities set forth under this Agreement.
I N W I TNESS WHEREOF, the parties hereto, by their authorized
representatives, have executed this Agreement as of the date first above
mentioned:
In Midland, Michigan, this day of
, 1996.
DORINCO REINSURANCE COMPANY
Midland, Michigan
By_________________________________
(signature)
___________________________________
(name)
___________________________________
(title)
<PAGE>
IN WITNESS WHEREOF, the Parties hereto by their respective duly
authorized representatives have executed this Agreement as of the dates
first above mentioned.
DATED: ________________ STATE AND COUNTY MUTUAL FIRE
INSURANCE COMPANY
BY:___________________________
ITS:__________________________
IN WITNESS WHEREOF, the Parties hereto by their respective duly
authorized representatives have executed this Agreement as of the dates
first above mentioned.
DATED: ________________ VAUGHN GENERAL AGENCY, INC.
BY: __________________________
ITS: _________________________
IN WITNESS WHEREOF, the Parties hereto by their respective duly
authorized representatives have executed this Agreement as of the dates
first above mentioned.
DATED: ________________ AMERICAN HALLMARK
GENERAL AGENCY, INC.
BY: __________________________
ITS: _________________________
GENERAL AGENCY AGREEMENT
THIS GENERAL AGENCY AGREEMENT (this "Agreement") is made and
entered into as of the first day of January, 1997, by and among
DORINCO REINSURANCE COMPANY, an insurance company organized under
the laws of the State of Michigan ("Reinsurer"), STATE AND COUNTY
MUTUAL FIRE INSURANCE COMPANY, an insurance company organized under
the laws of the State of Texas ("Company"), and VAUGHN GENERAL
AGENCY, INC., a corporation organized under the laws of the State
of Texas ("General Agent");
W I T N E S S E T H:
THAT, in consideration of the mutual covenants hereinafter
contained and upon the terms and conditions hereinbelow set forth,
the parties hereto agree as follows:
PREAMBLE
The Company, the Reinsurer, the General Agent and American
Hallmark General Agency, Inc. ( Program Administrator ) have
entered into that certain 100% Quota Share Reinsurance Agreement
dated as of January 1, 1997, a true and complete copy of which is
attached hereto as Exhibit A and fully incorporated herein by this
reference (the "Reinsurance Agreement"), which Reinsurance
Agreement requires the appointment of the General Agent to perform
certain specified acts on behalf of the Company and Reinsurer. The
General Agent desires to perform the functions and duties necessary
under the Reinsurance Agreement. It is therefore mutually agreed
by the parties that the General Agent will perform all functions
necessary for the production, service, management and loss
adjustment of policies issued under the Reinsurance Agreement in
accordance with the terms and conditions set forth therein and
herein. To the extent that there is any conflict between the terms
of this Agreement and the Reinsurance Agreement, the Reinsurance
Agreement shall govern. Notwithstanding any provisions to the
contrary contained elsewhere herein or in any other document, it is
expressly understood that the execution and delivery of this
Agreement and the Company's performance hereunder shall not under
any circumstances be interpreted to affect, weaken or modify the
Reinsurer's obligation to indemnify and hold the Company harmless
of all business, credit and insurance risks as set forth in the
Reinsurance Agreement. The contractual assumption by the Reinsurer
of all of these risks in the Reinsurance Agreement, along with the
contractual assumption by the Program Administrator of certain
duties under the related Administrative Services Agreement (as such
term is defined in the Reinsurance Agreement), are conditions
precedent to the Company's entering into this Agreement with the
General Agent.
<PAGE>
ARTICLE I
APPOINTMENT AND DUTIES
1.01 The Company, at the direction of the Reinsurer, hereby
appoints the General Agent as its managing general agent for the
purpose of producing and handling the business which is the subject
of the Reinsurance Agreement issued or renewed on or after the
effective date of this Agreement. The Company, at the request of
the Reinsurer, hereby grants authority to the General Agent to
solicit, accept and receive applications for such classes of
coverage as are specified in the Reinsurance Agreement; to secure,
at its own expense, reasonable underwriting information through
reporting agencies or other appropriate sources relating to each
risk insured; to issue, renew and countersign policies,
certificates, endorsements and binders which the Company may, from
time to time, authorize to be issued, delivered, renewed and
countersigned; and to collect and receipt for the premiums thereon
and therefor; and to perform such other duties as are generally
required of agents and general agents.
1.02 All activities of the General Agent pursuant to this Agreement
shall be in strict compliance with the terms of the Reinsurance
Agreement and all rules, regulations and instructions of the
Company, including, but not limited to, all rules, instructions and
specifications included in the Company's rate manuals, rate
brochures and rate schedules.
1.03 The Company, at the Reinsurer's request, further authorizes
the General Agent to perform all acts and duties under policies of
insurance issued by the Company as would otherwise be performed by
the Company, including, but not limited to, properly sending and/or
receiving reports and notices, remitting and/or receiving monies
due from or to the Company, and adjusting and paying losses or
other claims. The Company grants to the General Agent the
authority to settle claims on behalf of the Company. However, the
maximum dollar amount of such authority per claim shall not exceed
$30,000. For claims settlement in excess of $30,000, the General
Agent may only settle such claims with prior approval of the
Company and Reinsurer. The Company retains final authority to
determine any disputes relating to claims settlement and setting of
loss reserves. In performing each of the acts mentioned above, the
General Agent shall be under the direct supervision and control of
the Reinsurer, and the Reinsurer shall be solely responsible for
the acts of the General Agent. While there are acts of the General
Agent which may be required by the State of Texas or any regulatory
agency thereof to be performed on behalf of the Company, the
Reinsurer shall remain ultimately responsible for such acts and
will indemnify and hold the Company completely harmless for any
damage, cost, liability, expense and/or loss (including attorneys'
fees and expenses) incurred by the Company as respects such acts of
the General Agent. The General Agent must send to the Company a
report, within thirty (30) days of determination, that a claim (i)
involves a coverage dispute; (ii) involves a demand in excess of
policy limits; (iii) alleges bad faith; (iv) alleges a violation of
the Texas Deceptive Trade Practices Act; or (v) alleges a violation
of the Texas Insurance Code, Article 21.21 (Unfair Competition and
Unfair Practices).
<PAGE>
1.04 The Company, at the Reinsurer s request, authorizes the
Program Administrator to manage the claims adjustment for all
losses for policies issued hereunder. The Program Administrator is
authorized to have claims adjusted through independent claims
adjusters, subject to the supervision of the Reinsurer. The
selection of independent claims adjusters shall be subject to prior
written approval of the Reinsurer and Company. Such independent
claims adjusters are not the agents of the Company and the Company
shall be held harmless and indemnified by the Reinsurer for any
liability, claim, demand, expense and/or cost of whatever kind or
character as a result of, related to or connected with any action
or inaction of such claims adjusters.
1.05 The Company shall not be responsible for the General Agent's
expenses and costs, including, but not limited to, salaries,
bonuses, rentals, transportation facilities, clerk hire,
solicitors' fees, postage, advertising, exchange, personal license
fees, adjustment by the General Agent of losses under policies
issued by the General Agent, or any other agency expenses
whatsoever. The General Agent's sole compensation shall be the fee
agreed to by the Reinsurer and the General Agent as provided in
Section 3.01 of this Agreement.
1.06 The General Agent understands and agrees that it has no power
or authority granted to it by the Company independent of the
Reinsurance Agreement, and that this Agreement and the General
Agent's authority hereunder shall cease immediately upon
termination, for any reason, of this Agreement or of the
Reinsurance Agreement (excepting only the General Agent's
responsibilities with regard to run-off and other matters as set
forth herein or in the Reinsurance Agreement).
1.07 The General Agent shall not have the power to accept or bind
risk other than as set forth herein, as set forth in the
Reinsurance Agreement or as may be subsequently authorized by the
Company and Reinsurer in writing. The General Agent may not bind
or cede reinsurance or retrocessions on behalf of the Company, may
not commit the Company to participation in insurance or reinsurance
syndicates, and may not commit the Company to a claim settlement
with a reinsurer without the prior written approval of the Company.
If such prior written approval is given, the General Agent shall
forward promptly a report to the Company concerning such
transaction and/or payment. The Company hereby authorizes the
General Agent to collect payments for losses and loss adjustment
expenses from a reinsurer. The General Agent shall send a report
to the Company concerning such transactions promptly.
1.08 The General Agent acknowledges that this Agreement shall not
become effective until the General Agent is duly appointed by the
Company and on file with the Texas Department of Insurance. The
General Agent agrees that any producing agent receiving commission
pursuant to this Agreement shall first be duly appointed by the
Company and said appointment on file with the Texas Department of
Insurance. The General Agent further agrees to be responsible for
the payment of any penalty assessed to the Company for any
violation by the General Agent or any producing agent appointed by
the General Agent pursuant to the provisions of Article IV hereof
of any license or appointment provision of the Texas Insurance Code
<PAGE>
or the rules and regulations promulgated thereunder. If the
General Agent fails to pay such penalty, the Reinsurer shall pay it
immediately upon notification by the Company (either orally or in
writing) of the General Agent's failure to pay such penalty.
1.09 It is understood that the Reinsurer has acknowledged that the
Company shall not be required to monitor the General Agent's
compliance with the terms of either the Reinsurance Agreement or
this Agreement and the Reinsurer shall be responsible for
monitoring the General Agent's compliance with the Reinsurance
Agreement and this Agreement.
1.10 The authority and limitations of the General Agent to issue
policies are as follows:
(a) the maximum annual premium volume the General Agent may
produce under this General Agency Agreement is $12
million;
(b) the basis of the rates charged are as provided in the
Company's rate manuals, rate brochures and rate schedules
which the General Agent shall follow;
(c) the only classes of business the General Agent is
authorized to produce and handle under this Agreement are
the classes of business specified in the Reinsurance
Agreement;
(d) the maximum limits of liability for policies to be
produced pursuant to this Agreement are set forth in the
Reinsurance Agreement;
(e) the General Agent may issue policies under this Agreement
only to insureds domiciled in the State of Texas; but
this limitation shall not apply to losses if said
policies provide coverage outside the aforesaid
territorial limit;
(f) the General Agent shall only cancel policies as set forth
in the policy form for the policies produced hereunder or
as otherwise permitted by the laws of the State of Texas;
(g) the maximum term for any policy issued hereunder shall be
twelve (12) months;
(h) the General Agent shall employ all reasonable and
appropriate measures to control and keep a record of the
issuance of the Company's insurance policies hereunder,
including, but not limited to, keeping records of policy
numbers issued and maintaining policy inventories;
(i) the excluded risks are those set forth in the Reinsurance
Agreement.
In underwriting policies, the General Agent shall follow the
underwriting guidelines developed by the General Agent, the
Reinsurer and the Company, and these guidelines are herein
incorporated by reference.
<PAGE>
ARTICLE II
PREMIUMS
2.01 It is expressly agreed and understood that all premiums
collected by the General Agent are collected on behalf of the
Company; that such premiums are the property of the Company; and
that the General Agent has no interest in the premiums collected by
it. All premiums collected by the General Agent on the business
produced under the Reinsurance Agreement shall be deposited in a
bank account separate and apart from all other bank accounts of the
General Agent which (i) reflects ownership of the account by the
Company and (ii) is otherwise maintained in accordance with the
requirements of Article 21.07-3, Section 3C of the Texas Insurance
Code. The only disbursements from such account shall be the
payment of claims, claims expenses, return premiums and commission
due the General Agent as authorized herein and in the Reinsurance
Agreement and remittance of premiums to the Reinsurer. The General
Agent shall not make personal use of any funds in this separate
account. The commissions payable to the General Agent are debts
due to the General Agent by the Reinsurer and the privilege herein
granted of deducting commissions from said premiums should not be
taken as a waiver by the Company of its exclusive ownership rights
of premiums as provided herein. Should any dispute arise between
the Company, the Reinsurer and/or the General Agent regarding
payment of premium, the General Agent shall remit immediately all
money and property, without deductions for commissions, to the
segregated account with full reservation of any and all rights
reserved by the parties.
2.02 The General Agent shall furnish to the Company and Reinsurer
all necessary premium and loss data (in a form acceptable to the
Reinsurer and the Company) no later than forty-five (45) days
following the end of the month during which the business is written
or losses are incurred to enable the Company to record statistics
required by statutes, regulation or upon call by authorities having
competent jurisdiction. Such data shall include, but is not
limited to, premiums written and unearned premium. Said data shall
be segregated by lines of insurance and location of risk.
2.03 The keeping of an account with the General Agent on the
Company's books as a creditor and debtor account is declared a
record memorandum of business transacted and neither such keeping
of an account, nor alteration in commission rate, nor failure to
enforce prompt remittance or compromise or settlement or
declaration of balance of account, shall be held to waive assertion
of the trust relation as to premiums collected by the General
Agent.
2.04 The General Agent shall be liable for the payment of all
original and advance premiums upon all policies of insurance
written through the General Agent or any sub-agents of the General
Agent.
<PAGE>
2.05 The General Agent shall remit to the Reinsurer any funds of or
due to the Company under this Agreement at the earlier of the
following: (1) forty-five (45) days from the end of the month in
which collected premium is recorded; or (2) ninety (90) days from
the end of the month in which the coverage under this Agreement is
issued.
2.06 The General Agent shall hold all funds of or due the Company
in a fiduciary capacity.
ARTICLE III
COMPENSATION TO THE GENERAL AGENT
3.01 The Reinsurer shall allow the General Agent in full
compensation for all services rendered and in full reimbursement
for all expenditures made by the General Agent the fee specified in
Article XI of the Reinsurance Agreement. The Reinsurer shall pay
the Company directly its ceding fee as specified in the Reinsurance
Agreement (Article X), and the amounts for assignments,
assessments, premium taxes, fines and penalties as specified in the
Reinsurance Agreement (Articles X and XIII). The General Agent
shall not be required to return, as commission or return
commission, monies greater than the total commission paid or
otherwise payable to the General Agent.
3.02 The Company shall not be liable for or responsible for any
commissions or other monies payable to the General Agent in
connection with this Agreement or the Reinsurance Agreement. The
General Agent shall not sue or seek arbitration against the Company
for any actions by, or debts owing from, the Reinsurer.
3.03 In the event the Company or the Reinsurer, during the
continuance of this Agreement or after its termination, refunds
premiums under any policy of insurance by reasons of cancellation
or otherwise, the General Agent agrees immediately to return to the
Reinsurer the commission previously received by it on the portion
of the premium refunded.
ARTICLE IV
SUB-AGENTS
4.01 The General Agent may appoint such producing agents as shall
be reasonably approved by the Reinsurer and the Company. The
General Agent may not terminate the appointment of such agents
without the written authorization of the Company.
4.02 The General Agent and the Reinsurer shall comply with, and
shall be responsible to insure the compliance by all such producing
agents with, the terms of this Agreement and the Reinsurance
Agreement and all other written rules and regulations of the
Company, and treat as confidential and use only in the interest of
the Company all instructions, information and materials received
from the Company.
4.03 The General Agent and Reinsurer shall be solely responsible
for the performances of any producing agents under all of the terms
and provisions hereof, including, but not limited to, the
collections of premiums and refunds of premiums.
<PAGE>
4.04 Each such producing agent must receive a Class II appointment
as an agent of the Company through the appropriate regulatory body
of Texas as provided by law, before any application shall be
accepted from him or other insurance performances on behalf of the
Company are performed. The Reinsurer and General Agent shall be
ultimately responsible for the obligation of the producing agent to
obtain a Class II appointment as provided herein. The General
Agent shall have each producing agent appointed with the Company.
4.05 It is also specified that the General Agent and the Reinsurer
shall be solely responsible for all commissions payable to any
producing agents. The Reinsurer, General Agent and any producing
agent shall not seek to hold the Company liable through litigation,
arbitration or otherwise for commissions payable to such producing
agents.
4.06 The Company, in its sole discretion with or without cause, and
without prior written notice, may terminate the appointment of any
producing agent.
ARTICLE V
ADDITIONAL DUTIES OF AGENT
5.01 The General Agent shall, at all times during the period of
this Agreement, comply with all laws of the State of Texas and all
orders, policy decisions or other requirements of the Texas
Department of Insurance.
5.02 All books, records, accounts, documents and correspondence of
the General Agent and any producing agent pertaining to the
Company's and Reinsurer's business shall, at all times, be open to
examination by any authorized representative of the Company,
Reinsurer or Program Administrator. The General Agent shall make
copies of records available upon request by the Company, Reinsurer
or Program Administrator, whether such request is before or after
termination of this Agreement or the Reinsurance Agreement. The
General Agent must maintain separate records of business,
including, but not limited to, underwriting files for each insurer
for whom it acts as a general agent pursuant to the Texas Insurance
Code, Article 21.07-3, Section 3C(b) or any amendment or successor
thereto. Such records must be maintained for five (5) years or
until the completion of a financial examination by the insurance
department of the state in which the Company is domiciled,
whichever is longer.
5.03 The General Agent shall maintain adequate accounting
procedures and systems, at no cost or expense to the Company, and
shall provide statistics in a timely manner for all reporting
requirements under the Reinsurance Agreement or as shall be
required from time to time by the regulatory authorities of the
State of Texas or any other governmental agency or authority. Such
statistical information shall be provided to the Company by the
General Agent at the General Agent's sole cost and expense.
5.04 The General Agent shall forward to the Company and Program
Administrator, no later than forty-five (45) days from the close of
the month being accounted for, a report in detail of all policies
of insurance written or placed, or liability increased or
<PAGE>
decreased, or policies continued or renewed or canceled by or
through the General Agent during the month being accounted for,
which shall include all premiums due thereon whether collected or
not. Such report shall show the net amount due to the Company and
Reinsurer on all such business on the lines of business authorized
to be written by the General Agent and the amounts paid in losses,
loss adjustment expenses and commissions. Such report shall also
include, to the extent not already included, both insurance and
reinsurance transactions and all transactions pursuant to Texas
Insurance Code, Article 21.07-3, Section 3C(a) including:
(i) statement of written, earned and unearned premiums;
(ii) losses and loss expenses outstanding;
(iii) losses incurred but not reported; and
(iv) any management fees.
The report shall be received by or confirmed to the Company no
later than forty-five (45) days from the close of the month for
which business is reported. The Company shall maintain such
account reports on file for at least three (3) years and shall make
the account reports available to the Commissioner of Insurance of
the State of Texas (the "Commissioner") for review upon request.
5.05 The General Agent shall account for and furnish to the
Company, upon request, complete copies of all policies issued,
copies of all spoiled, voided or otherwise unissued policies, and
copies of all claim files created with respect to all loss
occurrences under any policy issued under this Agreement.
5.06 The title of all undelivered policies, books, supplies, or
other property related to the reinsured business is in the Company,
and these shall be delivered to the Company by the General Agent
immediately upon the termination of this Agreement. The General
Agent agrees to surrender peaceably the same without compelling the
Company to resort to any legal proceedings whatsoever.
5.07 The General Agent shall not insert any advertisement
respecting the Company or the business to be written under this
Agreement and/or the Reinsurance Agreement in any publication or
issue any circular or paper referring to the Company or such
business without first obtaining the written consent of the
Company. The General Agent shall establish and maintain records of
any such advertising as required by Texas statute and regulation.
5.08 The General Agent shall maintain on behalf of the Company and
Reinsurer complete copies of all policies issued hereunder and
copies of all claim files created with respect to all loss
occurrences thereunder. Any or all policies and/or claim files
required to be maintained by General Agent pursuant to this Section
5.08 may be maintained in electronic data storage form accessible
by computer and if so stored in this fashion, no physical copy of
such items need be maintained. Where electronic claims files are
maintained by the General Agent, any data from such files requested
or required by the Company shall be provided within thirty (30)
days or less if so requested by the Company.
<PAGE>
5.09 The General Agent shall pay to the Reinsurer the positive
balance, if any, no later than forty-five (45) days following the
end of the month during which the business was written, of net
collected premiums hereunder (being defined as premiums collected
less return premiums) less the General Agent's commissions and less
loss adjustment expenses and loss payments. Should such balance be
a negative amount, the Reinsurer shall promptly pay the General
Agent upon receipt and verification of the amount due as reported
by the General Agent.
5.10 The General Agent shall be solely responsible for procuring
and renewal, extension, or new policy or insurance that may be
required by any state or rule or regulation of any State Insurance
Department with respect to policies originally written directly for
the Company. The General Agent and Reinsurer shall indemnify the
Company and hold it harmless from any loss, damage, cost, claim or
expense whatsoever that the Company may incur, or for which it may
become liable, as a result of the said General Agent's failure,
refusal or neglect to fulfill said responsibility.
5.11 The General Agent agrees that its duties and obligations under
this Agreement shall be due and owing also to the Company's and
Reinsurer's successors and assigns.
5.12 Nothing in this Article V shall be construed as requiring the
Company to monitor the book of business which is the subject of the
Reinsurance Agreement for the benefit of the Reinsurer.
5.13 At no expense to the Company, the Company shall conduct or
cause to be conducted a semi-annual examination of the General
Agent, in compliance with 28 TAC Sec. 19.1204(b)(19). Furthermore, if
the Company's aggregate premium volume increases by thirty (30)
percent in any thirty (30) day period, at no expense to the
Company, the Company shall examine or cause to be examined within
ninety (90) days the General Agent if it writes more than twenty
(20) percent of the Company's volume and has also experienced a
twenty (20) percent increase in premium volume during that same
thirty (30) day period in compliance with 28 TAC Sec. 19.1204(b)(19).
The examinations required under the preceding paragraph shall
adequately provide the Commissioner with the information outlined
in (a) through (e) below, shall be made available to the
Commissioner for review, shall remain on file with the Company for
a minimum of three (3) years and shall, at a minimum, contain
information concerning the following:
(a) claims procedures of the General Agent;
(b) timeliness of claims payments by the General Agent
(i.e., lag time between date claim is reported and date
claim is paid);
(c) timeliness of premium reporting and collection by the
General Agent;
(d) compliance by the General Agent with underwriting
guidelines under Section 1.10 hereof; and
<PAGE>
(e) reconciliation of policy inventory.
5.14 The General Agent shall return any unearned premium due
insureds or other persons on the business which is the subject of
the Reinsurance Agreement; if for any reason, the General Agent
does not return such unearned premium, then the Reinsurer shall pay
such amount and/or amounts.
5.15 The General Agent shall be duly licensed as a managing general
agent as required under Texas law.
5.16 Should the Texas Department of Insurance make a request to the
Company for any data required to comply with a statistical plan
and/or data call, the General Agent shall be solely responsible to
provide the Company with such data. Should the request from the
Texas Department of Insurance require the Company to contract the
services of an outside source, such as an actuarial firm, to
compile the data required, the General Agent shall be responsible
for its proportionate share of the total cost for services
rendered.
ARTICLE VI
TERM AND TERMINATION
6.01 The effective date of this Agency Agreement is 12:01 a.m.,
Central Standard Time, on January 1, 1997, and shall remain
continuously in force unless canceled as follows:
(a) This Agreement may be canceled by any party giving at
least ninety (90) days prior written notice to the other
parties. Notice shall be provided by registered mail,
return receipt requested, and notice shall be deemed to
have been provided on the date of mailing.
(b) Immediately by mutual consent of the Company and
Reinsurer.
(c) At any time, by the Company, without prior notice in the
event of any other party declaring bankruptcy or being
declared or found bankrupt or insolvent, or being the
subject of a cease and desist order, corrective order, or
being placed in, or subject to, a proceeding of
supervision, conservation, rehabilitation or liquidation.
(d) Automatically and Immediately in the event of the
cancellation or non-renewal of the General Agent's
license or certificate of authority issued by the Texas
Department of Insurance.
(e) Immediately upon written notice by the Company, if the
Reinsurer or General Agent is found to be insolvent by a
State Insurance Department or court of competent
jurisdiction, or is placed in supervision, conservation,
rehabilitation, or liquidation, or has a receiver or
supervisor appointed. By the Reinsurer, upon thirty (30)
days written notice, if the Company or General Agent is
found to be insolvent by a State Insurance Department or
court of competent jurisdiction, or is placed in
<PAGE>
supervision, conservation, rehabilitation or liquidation,
or has a receiver or supervisor appointed.
(f) If the General Agent shall default in making remittance
for net premiums then this Agreement shall be terminated
according to the terms provided in Section 5.02(d) of the
Reinsurance Agreement.
(g) If the General Agent shall defraud or attempt to defraud
the Company; or any policyholder, then the Company may
at its sole discretion cancel this contract by giving the
General Agent written notice of cancellation served
personally or by mail, which shall be effective
immediately.
(h) Automatically and immediately, without notice upon
cancellation or termination of the Reinsurance Agreement,
including, but not limited to, termination of the
Reinsurance Agreement by the Company as provided in
Section 5.02(f) of the Reinsurance Agreement.
(i) As provided in Section 9.11 of this Agreement.
6.02 It is expressly agreed and understood that nothing in this
paragraph authorizes the General Agent to write any new business
under this Agreement should the Reinsurance Agreement terminate,
except the business that is required to be renewed or issued
because of applicable law or regulation, as provided in Article V
of the Reinsurance Agreement (any such business which is issued
because of the requirements of law or regulation is 100% reinsured
under the Reinsurance Agreement, as provided in Article V of the
Reinsurance Agreement).
6.03 The Company shall have no liability to the General Agent
and/or Reinsurer by virtue of the Company's termination of this
Agreement as set forth in this Article; it being expressly
understood that partial consideration for the Company's grant of
agency authority to the General Agent is the General Agent's and
Reinsurer's promise that the Company shall not be responsible for
any damages which might arise by virtue of any termination of this
Agreement.
6.04 In the event of termination of this Agreement, after the
General Agent having promptly accounted for and paid over premiums
for which it may be liable, the General Agent's records, use and
control of expirations shall remain the property of the General
Agent and left in its undisputed possession.
6.05 In the event that this Agreement is terminated, the General
Agent, for no additional fee, shall have the authority (unless
revoked by the Company at its sole discretion in which case the
Reinsurer shall appoint a successor at no cost to the Company) as
provided in this Agreement to continue to perform all of its duties
under this Agreement on the remaining policies during the run-off
period. The General Agent's duties during the run-off period shall
include handling and servicing of all policies through their
natural expiration, together with any policy renewals required to
be made by the provisions of applicable law, whether or not the
<PAGE>
effective date of such renewal is subsequent to the effective date
of cancellation of this Agreement. Further, upon termination of
this Agreement, the General Agent shall not be relieved of or
released from any obligation created by or under this Agreement in
relation to payment, expenses, reports, accounting or handling,
which relate to the outstanding insurance business under this
Agreement existing on the date of such termination. The Company,
General Agent and Reinsurer will cooperate in handling all such
business until the business has expired either by cancellation or
by the terms of the policies and all outstanding losses and loss
adjustment expenses have been settled.
6.06 As the Reinsurance Agreement provides for termination on a
run-off basis, the relevant provisions of this Agreement shall
apply to business being run-off. It is also expressly agreed that
the terms, conditions and obligations of the Preamble and Articles
II, IV and V, Sections 6.03, 6.04, 6.05, 6.06 and 6.07, Articles
VII and VIII, and Section 9.11 herein shall survive termination of
this Agreement.
6.07 The Company may suspend the authority of the General Agent
during the pendency of any dispute regarding any event of default
by the General Agent.
ARTICLE VII
T.B.A. INSURANCE, INC.
The Company has contracted with T.B.A. Insurance, Inc. ("TBA")
to perform certain duties on the Company's behalf and to issue
certain checks on behalf of the Company in exchange for certain
fees. The General Agent and Reinsurer agree that TBA is to bear no
business, credit or insurance risk and no liability whatsoever to
the General Agent. TBA shall be and is hereby granted all
protections from, and indemnities against, all liabilities which
are contained herein for the benefit of the Company.
ARTICLE VIII
HOLD HARMLESS AND INDEMNIFICATION
The General Agent agrees to and does hereby indemnify and hold
the Company harmless from and against any and all actions, causes
of actions, suits, arbitrations, or proceedings of any kind,
liabilities, losses, claims, damages, costs, or expenses (including
attorneys' fees and expenses), incurred by the Company by reason
of, arising out of, or relating in any way to this Agreement or any
action taken or inaction by the General Agent in breach of the
terms of this Agreement or the terms of the Reinsurance Agreement,
or which is not in full compliance therewith. If the General Agent
does not indemnify and hold the Company harmless as provided in
this Article VIII, the Reinsurer shall fulfill the obligations of
the General Agent and make the payments required of the General
Agent pursuant to this Article VIII.
ARTICLE IX
MISCELLANEOUS
9.01 This Agreement has been made and entered into in the State of
Texas and shall be governed by and construed in accordance with the
laws of the State of Texas.
<PAGE>
9.02 This Agreement shall be binding upon the parties hereto,
together with their respective successors and permitted assigns.
9.03 This Agreement is not exclusive and the Company reserves the
right to appoint other agents in the territory covered by this
Agreement and the General Agent reserves the right to act as
General Agent for other insurers or reinsurers.
9.04 The Company shall have no right of control over the General
Agent as to time, means or manner of the General Agent's conduct
within the terms of the Agreement and the Reinsurance Agreement and
the authority herein granted and nothing herein is intended or
shall be deemed to constitute the General Agent an employee or
servant of the Company. The General Agent shall at all times be an
independent contractor.
9.05 This Agreement shall be deemed performable at the Company's
administrative office in Fort Worth, Texas, and it is agreed that
the venue of any controversy arising out of this Agreement, or for
the breach thereof, shall be in Dallas County, Texas.
9.06 Neither the Reinsurer nor the General Agent shall assign any
of its rights or obligations under this Agreement without the prior
written consent of the Company. No verbal modification will be
recognized by any party hereto and this Agreement cannot be
modified by any subsequent practices or course of dealing by the
parties inconsistent herewith. If the Company, the General Agent
or Reinsurer shall fail to take advantage of a breach, if any, by
another party of the terms, conditions, covenants, or any of them
herein contained, such failure shall not be deemed to constitute,
or be construed as, a waiver of any rights on the part of the
General Agent, Company or Reinsurer to thereafter enforce any of
the said terms, conditions or covenants.
9.07 This Agreement may be amended, modified or supplemented only
by a written instrument executed by all parties hereto. All such
amendments or changes shall specify the effective date of such
amendments or changes.
9.08 This Agreement supersedes any and all provisions, terms and/or
conditions of any other general agency agreements, whether oral or
written, by between and among the parties.
9.09 The General Agent shall notify the Company in writing within
thirty (30) days when there is a change in the ownership of 10% or
more of the outstanding stock in the General Agent or when there is
any change in the General Agent's principal officers or directors.
9.10 The General Agent shall not offset balances due under this
Agreement against balances due or owing under any other contract.
9.11 This Agreement shall be interpreted in conformance with
applicable Texas law and regulation. If it is found or ordered by
a court or regulatory body that any provision or term of this
Agreement does not conform to such law or regulation then this
Agreement shall be deemed to be amended, and modified to be in
accordance with such law. However, where this Agreement is found
not to comply with applicable law or regulations, the Company may
<PAGE>
in its sole discretion terminate this Agreement immediately and
without prior notice.
IN WITNESS WHEREOF, the Parties hereto by their respective
duly authorized representatives have executed this Agreement as of
the date first above mentioned.
DATED: STATE AND COUNTY MUTUAL FIRE
INSURANCE COMPANY
BY:
ITS:
DATED: VAUGHN GENERAL AGENCY, INC.
BY:
ITS:
DATED: DORINCO REINSURANCE COMPANY
BY:
ITS:
ADMINISTRATIVE SERVICES AGREEMENT
This Administrative Services Agreement ("Agreement") is hereby entered
into by State and County Mutual Fire Insurance Company ("Company"),
Vaughn General Agency, Inc. ("General Agent") and American Hallmark
General Agency, Inc. ("Program Administrator").
WHEREAS, Dorinco Reinsurance Company ("Reinsurer"), General Agent,
Company and Program Administrator have entered into a 100% Quota Share
Reinsurance Agreement ("Reinsurance Agreement") and Reinsurer, Company
and General Agent have entered into a General Agency Agreement ("GA
Agreement"), of which both agreements are incorporated herein by
reference, by which General Agent shall produce private passenger
automobile insurance business on behalf of Company and Reinsurer shall
reinsure Company for 100% of the liability of said business.
WHEREAS, the Reinsurance Agreement requires Program Administrator to
perform all administrative functions for the aforementioned automobile
insurance business and provides for payment to Program Administrator
for, among other things, loss adjustment administration, professional
consulting and other administrative services.
NOW THEREFORE the parties to this Agreement hereby agree as follows:
DUTIES AND FUNCTIONS OF PROGRAM ADMINISTRATOR
1. The establishment of and maintenance of the bank account referred
to in Article II, paragraph 2.01 of the GA Agreement ("Premium
Account").
2. The collection of premiums remitted by General Agent, sub-agents or
insureds on insurance business written under the terms of the
Reinsurance Agreement. Such premiums shall be deposited to the
Premium Account.
3. Cash disbursements from the Premium Account. Such disbursements
shall be limited to payment of claims, claims expenses, reinsurance
premiums, return premiums, cash management fees, professional
consulting fees, commissions due General Agent, premium taxes and
fees due to Company. All cash disbursements from the Premium
Account are to be in compliance with those disbursements authorized
by this Agreement, the Reinsurance Agreement and GA Agreement.
4. The selection, appointment, supervision and compensation of claims
adjusting firm(s) and/or independent claims adjusters, as provided
for in Article I, paragraph 1.04 of the GA Agreement, to settle
claims on business written under the terms of the Reinsurance
Agreement.
5. The supervision of loss settlements and total responsibility for
assuring that all claims, on business written under the terms of
the Reinsurance Agreement, are settled and that all provisions of
Articles XV, XVI, XVII of the Reinsurance Agreement are adhered to
and properly accounted for.
<PAGE>
6. Accumulate accounts and reports referred to in Article XIV of the
Reinsurance Agreement, Article II paragraph 2.02 of the GA
Agreement and Article V paragraph 5.04 of the GA Agreement and
furnish Company and Reinsurer, on behalf of General Agent, with
said reports, on a timely basis, as required in the respective
agreements.
COMPENSATION OF PROGRAM ADMINISTRATOR
1. G e n eral Agent shall pay to the Program Administrator, as
compensation for cash management services, a Cash Management Fee
equal to one percent (1%) of the Net Collected Premiums (as defined
in Article XI of the Reinsurance Agreement) on insurance written
under the terms of the Reinsurance Agreement plus fifty percent
(50%) of the remaining policy fees, net of the corresponding
ceding fees and premium taxes, related to this same business. This
Cash Management fee is payable to Program Administrator ten (10)
days after the end of the month in
which the Net Collected Premiums are collected and shall be paid
from the Premium Account and netted against payments due to General
Agent.
2. In addition to the above Cash Management Fee, General Agent agrees
to pay to Program Administrator a Provisional Administration Fee
equal to fifty percent (50%) of any commission earned by General
Agent in excess of the adjusted ceding commission referred to in
Article XII, paragraph 12.02 of the Reinsurance Agreement. This
Provisional Administration Fee is payable to Program Administrator
ten (10) days after the end of the month in which said commission
is determined to have been earned by General Agent and shall be
paid from the Premium Account and netted against commission
payments due to General Agent.
3. In consideration for administrative and consulting services within
the terms of the Reinsurance Agreement, Reinsurer has agreed to
pay to Program Administrator, pursuant to Article XV, paragraph
15.01, on behalf of the Company, an Administrative and Consulting
Fee equal to seven percent (7%) of the ceded earned premium of
insurance business written under the terms of the Reinsurance
Agreement. This Administrative and Consulting Fee is payable to
Program Administrator ten (10) days after the end of the month in
which the ceded premium is earned. In addition, the amounts
payable by Reinsurer under Article XV, paragraph 15.01 of the
Reinsurance Agreement shall be payable to the Program Administrator
upon presentation of proper documentation and shall be paid from
the Premium Account.
4. Program Administrator and General Agent will share equally,
interest and other investment income, less bank service charges, if
any, earned or generated by monies on deposit in the Premium
Account. This investment income will be paid to the respective
recipients from the Premium Account ten (10) days after the end of
the month in which earned.
<PAGE>
TERM
The effective date of this Agreement is at 12:01 a.m., Central Standard
Time, January 1, 1997 and shall remain continuously in force for a
period of three (3) years, unless, (1) terminated by mutual consent of
the Program Administrator, General Agent and Company, (2) Reinsurer
requests termination (in which case this Agreement shall terminate
thirty (30) days after Reinsurer's written request to terminate) or (3)
the incurred losses, including IBNR, to premium earned (exclusive of
policy fees) ratio exceeds seventy-five percent (75%) from inception, at
any time during the term of of this agreement (in which case this
Agreement shall terminate thirty days after Program Administrator's
written notice of termination).
U p o n termination, all duties and functions of the Program
Administrator, under this Agreement, shall cease, with the exception of
the Program Administrator's responsibilities regarding the settlement of
claims. Program Administrator's responsibilities under items 4 and 5
above under Duties and Responsibilities of Program Administrator shall
continue for a period of twelve (12) months after termination of this
Agreement. This responsibility shall be limited to the settlement of
claims on insurance business for which Program Administrator has been
compensated.
HOLD HARMLESS AND INDEMNIFICATION
Program Administrator and General Agent agree to and do hereby indemnify
and hold Company harmless from any and all actions, proceedings, claims,
demands, costs, damages, judgements, expenses, causes of action, suits,
arbitrations, or proceedings of any kind, liabilities, losses ,claims
(including bad faith, punitive damages, exemplary damages, fraud by
agent or class action), damages, cost or expenses of attorneys or cost
incurred by Company by reason of, arising out of, or relating in any way
to its settling of claims pursuant to this Agreement, relating to any
other matter under this agreement, or any action taken or not taken by
Program Administrator or General Agent in breach of the terms of this
Agreement, the Reinsurance Agreement or the GA Agreement.
WHEREAS, the Company. General Agent and Program Administrator have
entered into this Agreement, now therefore a representative of each of
these with authority to enter into this Agreement shall have affixed his
signature hereto.
<PAGE>
EXECUTED this day of January, 1997.
STATE AND COUNTY MUTUAL FIRE INSURANCE COMPANY
Signature:
Name and Title:
VAUGHN GENERAL AGENCY, INC
Signature:
Name and Title:
AMERICAN HALLMARK GENERAL AGENCY, INC.
Signature:
Name and Title:
LOAN AGREEMENT
THIS LOAN AGREEMENT (the "Agreement") is made and entered into on
this day of March, 1997, by and between Hallmark Financial
Services, Inc., a Nevada corporation (the "Borrower"), and DORINCO
REINSURANCE COMPANY (the Lender ), a Michigan corporation.
Borrower and Lender agree as follows:
1. Definitions. For purposes of this Agreement, the following
terms have the following meanings:
a. "ACO" means ACO Holdings, Inc., a Texas corporation which
is wholly owned by HFS.
b. "Affiliates" means the Subsidiaries, Hallmark
Underwriting, Inc., a Texas corporation, and American Hallmark Agencies,
Inc., a Texas corporation. "Affiliate" means any of the Affiliates.
c. "Agreement" means this Loan Agreement, as amended,
modified or supplemented from time to time in writing.
d. "AH" means American Hallmark Insurance Company of Texas,
a Texas domiciled insurance company which is wholly owned by HFS.
e. "AHGA" means American Hallmark General Agency, Inc., a
Texas corporation which is wholly owned by ACO.
f. "Borrower" means Hallmark Financial Services, Inc., a
Nevada corporation.
g. "Business Day" means a day other than a Saturday, Sunday
or other day on which Lender is not open for business.
h. "Code" means the Internal Revenue Code of 1986, as
amended from time to time.
i. "Combined Ratio" means a combined ratio determined in
accordance with statutory accounting practices from time to time
prescribed or permitted by the Texas Department of Insurance or the
National Association of Insurance Commissioners for stock property and
casualty insurance companies in Texas.
j. "Commissioner" means the Commissioner of the Texas
Department of Insurance.
k. "Environment" means any water, including, but not limited
to, surface water, ground water and water vapor, any land, including
land surface or subsurface, stream sediments, air, fish, wildlife,
plants and all other natural resources or environmental media.
l. "Environmental Laws" means all federal, state and local
environmental, land use, zoning, health, chemical use, safety, and
sanitation laws, statutes, ordinances, regulations, codes and rules
relating to the protection of the Environment and/or governing the use,
storage, treatment, generation, transportation, processing, handling,
production or disposal of hazardous substances (as defined in 42 U.S.C.
Section 9601(14)) and the policies, guidelines, procedures,
<PAGE>
interpretations, decisions, orders and directives of federal, state and
local governmental agencies and authorities with respect thereto.
m. "ERISA" means the Employee Retirement Income Security Act
of 1974, as amended from time to time.
n. "Events of Default" means the occurrence of one or more
events set forth in Section 8 of this Agreement.
o. "Federal Bankruptcy Code" means Title 11 of the United
States Code, entitled "Bankruptcy," as amended, or any successor federal
bankruptcy law.
p. "Gross Premium Written" means gross premiums determined
in accordance with statutory accounting practices from time to time
prescribed or permitted by the Texas Department of Insurance or the
National Association of Insurance Commissioners for stock property and
casualty insurance companies in Texas.
q. "HCS" means Hallmark Claims Services, Inc., a Texas
corporation which is wholly owned by ACO.
r. " H FC" means Hallmark Finance Corporation, a Texas
corporation which is wholly owned by ACO.
s. "HFC Interest Coverage Ratio" means, for any period
specified below, the ratio of (i) the sum obtained by adding (A) HFC's
pre-tax net income determined in accordance with generally accepted
accounting principles (but before deduction of dividends, distributions,
management fees and marketing fees) for such period, plus (B) HFC
Interest Expense for such period, to (ii) HFC Interest Expense for such
period. The Interest Coverage Ratio shall be determined (x) as of the
last day of the fiscal quarters ending September 30, 1997, December 31,
1997, and March 31, 1998, for the period commencing on July 1, 1997, and
ending on the last day of each such fiscal quarter, and (y) as of the
last day of each fiscal quarter ending in the period beginning April 1,
1998 through and including the Expiration Date, for the twelve-month
period ending on the last day of such fiscal quarter.
t. "HFC Interest Expense" means for any period the sum of
(i) HFC's aggregate interest expense determined in accordance with
generally accepted accounting principles (including the portion of any
obligation allocable to interest expense under a capital lease) for such
period, plus (ii) HFC's bad debt expense determined in a manner
consistent with the Borrower's internally prepared financial statements
dated November 30, 1996.
u. "Indebtedness" means any obligation, indebtedness or
liability now or hereafter owed by Borrower to Lender pursuant to the
Transaction Documents.
v. "Lender" means Dorinco Reinsurance Company, a Michigan
corporation, and any successors or assigns.
<PAGE>
w. " L o ss Ratio" means the loss ratio determined in
accordance with statutory accounting practices from time to time
prescribed or permitted by the Texas Department of Insurance or the
National Association of Insurance Commissioners for stock property and
casualty insurance companies in Texas.
x. "NationsBank Loan Documents" means the Loan Documents
described and defined in that certain Loan Agreement of even date
herewith between HFC and NationsBank of Texas, N.A.
y. "Net Premium Written" means net premiums determined in
accordance with statutory accounting practices from time to time
prescribed or permitted by the Texas Department of Insurance or the
National Association of Insurance Commissioners for stock property and
casualty insurance companies in Texas.
z. "Outstanding Debt" means any obligation, indebtedness or
liability now or hereafter owed by HFC pursuant to the NationsBank Loan
Documents.
aa. "Pledge Agreement" means the Stock Pledge and
Security Agreement described in Section 3 pursuant to which Borrower
pledges to Lender, as security for the Indebtedness, the Pledged Stock.
bb. "Pledged Stock" means all of the following, whether
now owned or hereafter acquired: (i) all of the issued and outstanding
capital stock of HFC, (ii) all certificates, options, rights, warrants
and other securities issued as an addition to, in substitution or
exchange for, or on account of such shares of capital stock, and (iii)
all proceeds of the foregoing.
cc. "Promissory Note" means the Promissory Note of even
date herewith in the original principal amount of $7,000,000.00 from
Borrower, as maker, payable to the order of Lender, in the form attached
hereto as Exhibit A, and all extensions, renewals, substitutions and
modifications thereof.
dd. "Restricted Stock" means all of the following,
whether now owned or hereafter acquired: (i) all of the issued and
outstanding capital stock of AH and AHGA, (ii) all certificates, options
rights, warrants and other securities issued as an addition to, in
substitution or exchange for, or on account of such shares of capital
stock, and (iii) all proceeds of the foregoing.
ee. "Solvent" means, with respect to any person or
entity, on a particular determination date, that on such date such
person or entity is able to realize upon its assets and pay its debts
and other liabilities, contingent obligations and other commitments as
they mature in the normal course of business.
ff. "Statutory Capital and Surplus" means capital and
surplus determined in accordance with statutory accounting practices
from time to time prescribed or permitted by the Texas Department of
Insurance or the National Association of Insurance Commissioners for
stock property and casualty insurance companies in Texas.
<PAGE>
gg. "Subsidiaries" means ACO, AH, AHGA, HCS, and HFC.
"Subsidiary" means any of the Subsidiaries.
hh. "Transaction Documents" means this Agreement, the
Promissory Note, the Pledge Agreement, and all amendments, renewals,
substitutions and restatements of any of the preceding documents.
2. Promissory Note Commitment. Lender will loan to Borrower the
sum of $7,000,000.00 upon the terms and conditions set forth in this
Agreement and the Promissory Note for the purpose of enabling Borrower
to make a $7,000,000 capital contribution to HFC.
3. Collateral. In order to secure the Indebtedness, Borrower has
caused ACO to pledge to Lender the Pledged Stock pursuant to the terms
of the Pledge Agreement attached hereto as Exhibit B. Lender shall not
presently have or claim any security interest in the Restricted Stock.
Upon the occurrence of any "triggering event" specified below, Borrower
shall, and shall cause ACO to, within ten (10) days, execute and deliver
to Lender a Stock Pledge and Security Agreement in substantially the
same form as Exhibit B (without any material change thereto) covering
the Restricted Stock, together with certificates representing the
Restricted Stock, and thereafter such Restricted Stock shall be deemed
Pledged Stock for purposes of this Agreement. For purposes of this
Section 3, a "triggering event" means:
a. If as of the end of any fiscal quarter AH's Combined
Ratio for the four (4) immediately preceding fiscal quarters of AH's
operations exceeds 107%;
b. If as of the end of any fiscal quarter AH's Loss Ratio
for the four (4) immediately preceding fiscal quarters of AH's
operations exceeds 83%;
c. If as of the end of any fiscal quarter the HFC Interest
Coverage Ratio is less than 1.8 to 1.0;
d. As of the date of any reporting period required by law or
the Texas Department of Insurance, the stockholders' equity of HFC
(determined in accordance with generally accepted accounting principles)
shall be less than the amount set forth below for the calendar year
indicated:
1997 $7,890,000
1998 $8,200,000
1999 $8,650,000
2000 $9,200,000
2001 and thereafter $9,450,000; or
e. As of the date of any reporting period required by law or
the Texas Department of Insurance, the Statutory Capital and Surplus of
AH shall be less than $4,200,000 or shall have decreased by more than
15% from the comparable reporting period of the preceding calendar year.
4. Conditions to this Agreement. This Agreement is effective
only upon fulfillment of the following conditions to the satisfaction of
Lender on or prior to the date of execution of this Agreement:
<PAGE>
a. C o rporate Action. Borrower shall have taken all
necessary and appropriate corporate action authorizing Borrower to enter
into and perform this Agreement and to execute and deliver to Lender
this Agreement, the Promissory Note, the Pledge Agreement and any other
documents reasonably requested by Lender. Further, Borrower shall have
delivered to Lender certified copies of such corporate resolutions and
such other corporate documents as Lender may reasonably request.
b. Corporate Documents. Borrower shall have furnished to
Lender:
(i) a certificate of Borrower's and a certificate of
AH's, HFC s and AHGA s good standing in the State of Texas, issued as of
a date satisfactory to Lender;
(ii) c e r tificate of incumbency specifying the
officers of Borrower; and
(iii) such other documents as Lender may reasonably
request.
c. Borrower's Opinion. Borrower shall have delivered to
Lender an opinion of Borrower's counsel in form and content satisfactory
to Lender and its counsel.
d. Transaction Documents. Borrower shall have delivered or
caused to have been delivered to Lender all Transaction Documents in
form and content satisfactory to Lender and its counsel.
e. Reinsurance Treaty. Borrower shall have caused AH to
offer, for the time period set forth in the table contained in this
paragraph, to reinsure a portion of its Personal Lines Auto Quota Share
Reinsurance with Lender, the form and content of such reinsurance treaty
to be substantially similar to Exhibit D attached to and made a part of
this Agreement, in amounts sufficient to allow for the following
schedule of ceded premiums:
Treaty Years Ceded
Premium
07/01/97 to 06/30/98 $ 20,000,000
07/01/98 to 06/30/99 $ 21,600,000
07/01/99 to 06/30/00 $ 23,328,000
07/01/00 to 06/30/01 $ 25,194,240
07/01/01 to 06/30/02 $ 27,209,779
07/01/02 to 06/30/03 $ 29,386,562
07/01/03 to 06/30/04 $ 31,737,486
f. Due Diligence. Lender shall have conducted a
due diligence investigation of Borrower and its Affiliates in
scope and content satisfactory to Lender.
g. Other Documents. Borrower shall provide copies
of all documentation as Lender reasonably requests.
h. Other Matters. All matters incidental to the
execution and delivery of the Transaction Documents and all
actions required by the Transaction Documents shall be
satisfactory to Lender.
<PAGE>
5. Representations and Warranties. To induce Lender to
enter into this Agreement and to loan to Borrower the funds
described in this Agreement, Borrower represents and warrants.
a. C o r p orate Existence. Borrower and its
Affiliates are duly organized, validly existing and in good
standing under the laws of the State of their incorporation,
and each has the power to own its assets and carry on its
business as now being conducted.
b. Corporate Capacity. The execution, delivery
and performance of the Transaction Documents to which Borrower
is a party are within Borrower's corporate powers, have been
duly authorized by all necessary and appropriate corporate
action, and are not in contravention of any law or regulation
or the terms of Borrower's Articles of Incorporation, Bylaws
or amendments thereto, or of any agreement, undertaking or
other document to which Borrower is a party or by which
Borrower or any of Borrower's property is bound or affected.
T h e execution, delivery and performance of the Pledge
Agreement is within ACO's corporate powers, has been duly
authorized by all necessary and appropriate corporate action,
and is not in contravention of any law or regulation or the
terms of ACO's Articles of Incorporation, Bylaws or amendments
thereto, or of any agreement, undertaking or other document to
which Borrower or ACO is a party or by which Borrower or ACO
or any of their respective property is bound or affected.
c. Financial Condition.
(i) Borrower has furnished to Lender its and
AH's most current audited annual financial statements, which
s t atements fairly and accurately reflect the financial
condition and results of operations of Borrower and AH as of
the date and for the period referred to, and have been
prepared in accordance with generally accepted accounting
principles consistently applied during the interval involved
and from interval to interval. Since the date of such
financial statements, there have not been any materially
adverse changes in the financial condition or results of
operations reflected in such financial statements, nor has
AH's Statutory Capital and Surplus decreased by $250,000 or
more.
(ii) Borrower has furnished to Lender its and
AH's most current quarterly consolidated and consolidating
financial statements. Since the date of these financial
statements, there have not been any material adverse changes
in the financial condition or results of operations reflected
in such financial statements, except as disclosed to Lender.
d. Taxes. All federal and other tax returns
required to be filed by Borrower and by AH have been filed and
all taxes required by such returns have been paid, except to
the extent that the same are now being contested in good faith
and by appropriate proceedings. Neither Borrower nor AH has
received any notice from the Internal Revenue Service or any
other taxing authority proposing additional taxes.
<PAGE>
e. Litigation. Except as disclosed to Lender,
there are no actions, suits, proceedings or investigations
pending or, to the knowledge of Borrower, threatened against
Borrower or AH or any basis therefor, which, if adversely
determined, could, in any case or in the aggregate, materially
adversely affect the property, assets, financial condition or
business of Borrower or AH, or impair the right or ability of
Borrower or AH to carry on its operations substantially as
conducted on the date of this Agreement. For purposes of this
paragraph, "material" means a $250,000 or more decrease in
AH's Statutory Capital and Surplus.
f. V a l idity of Transaction Documents. The
Transaction Documents to which Borrower is a party constitute
t h e legal, valid and binding obligations of Borrower,
enforceable in accordance with their respective terms, except
as enforceability may be limited by applicable bankruptcy and
insolvency laws and the laws affecting creditors' rights
generally. The Pledge Agreement constitutes the legal, valid
and binding obligation of ACO, enforceable in accordance with
its terms, except as enforceability may be limited by
applicable bankruptcy and insolvency laws and the laws
affecting creditors' rights generally.
g. Consents, Licenses, etc. No consent, license,
approval or authorization of, or registration, declaration or
filing with, any court, regulatory or governmental body,
authority or person or entity is required in connection with
t h e valid execution, delivery or performance of the
Transaction Documents.
h. No Violations. Borrower and AH are not in
violation of any term of their Articles of Incorporation,
Bylaws or, except as disclosed to Lender, any agreement or
instrument to which they or their property are a party or are
bound, and the execution and delivery of the Transaction
Documents shall not cause a default or result in the violation
of any such agreements.
i. Contingent Liabilities. Except as set forth in
the NationsBank Loan Documents, there are no suretyship
agreements, guaranties or other contingent liabilities of
Borrower and AH that have not been disclosed in writing to
Lender.
j. Compliance with Laws. Borrower and AH each are
in compliance with all applicable laws, rules, regulations and
other legal requirements with respect to its business, and the
use, maintenance and operation of the real and personal
property owned or leased by it in the conduct of its business,
except where the failure to so comply would not have a
material adverse effect on the financial condition, business
or operation of either Borrower or AH.
<PAGE>
k. Affiliates' Capital Stock. Each Affiliate's
total authorized capital shares, the par value of such shares,
a n d the number of such shares authorized, issued and
outstanding, are as set forth on Exhibit C. All shares of
each Affiliate are of one class and all shares of each
Affiliate have been validly issued in full compliance with all
federal and state laws, and are fully paid and non-assessable.
No other shares of any class or type are authorized or
outstanding respecting each Affiliate. The record and
beneficial ownership of the issued and outstanding capital
stock of each Affiliate is as set forth in Exhibit C.
l. No Defaults. Except as disclosed to Lender, no
event or condition is existing which constitutes, or upon the
lapse of time or the giving of notice, or both, would
constitute an event of default under any agreement or evidence
of indebtedness relating to any obligation of Borrower or any
Affiliate, except where such default would not have a material
adverse effect on the financial condition, business or
operation of Borrower or any Affiliate.
m. R e s trictions on Pledged Stock. Neither
Borrower nor any Affiliate is a party to any buy-sell
agreement or similar agreement restricting the pledge or
t r ansfer of its capital stock other than restrictions
contained in the Transaction Documents and the NationsBank
Loan Documents.
n. No Options, Warrants, etc. Except as disclosed
to Lender, there is not outstanding any option, warrant or
other right requiring or permitting Borrower or others to
purchase or convert any obligation into shares of any
Affiliate's capital stock.
o. Title to Assets. As of the date of execution
of this Agreement, Borrower and its Subsidiaries each are the
legal and beneficial owner of all of their assets and
properties (including, without limitation, the Pledged Stock
and the Restricted Stock) as disclosed in Borrower's and its
Subsidiaries' consolidated and consolidating financial
statements. Borrower and its Subsidiaries own such assets and
properties free and clear of all security interests, liens and
other encumbrances other than the encumbrances created by
(i) ACO's pledge of the Pledged Stock,
(ii) the NationsBank Loan Documents,
(iii) existing encumbrances disclosed in
B o r rower's consolidated and consolidating financial
statements,
(iv) p u rchase money security interests in
equipment used in the normal course of Borrower's or an
Affiliate's business, and
(v) operating or capital equipment leases for
use in the ordinary course of business.
<PAGE>
p. ERISA. Borrower and its Affiliates are in
compliance with all of the provisions of ERISA and no events
or circumstances have occurred or exist which could result in
Borrower or any Affiliate incurring a material liability or
contingent liability under the provisions of ERISA.
q. E n vironmental Matters. Borrower and its
Affiliates are not subject to any existing, pending or
threatened suit, claim, notice of violation or request for
information under any Environmental Laws. Borrower and its
Affiliates have not provided any notice or information to
regulatory authorities under any Environmental Laws. Borrower
and its Affiliates are in compliance with all Environmental
Laws.
r. Solvency. Borrower and its Affiliates are
S o l vent, both before and after giving effect to the
transactions contemplated by the Transaction Documents.
s. Lien on Pledged Stock. Upon execution and
delivery of the Pledge Agreement and delivery of the Pledged
Stock to Lender, the Pledge Agreement shall create a valid
lien upon and first priority perfected security interest in
the Pledged Stock and the proceeds of the Pledged Stock,
s u b ject to no prior security interest, lien, charge,
encumbrance or agreement purporting to grant to any third
party a security interest in the Pledged Stock.
The representations and warranties contained in this
Agreement survive closing of the transactions described in
this Agreement.
6. Affirmative Covenants. So long as any part of the
Indebtedness remains unpaid or this Agreement remains in
effect, Borrower shall comply with the affirmative covenants
listed below:
a. I n f o rmation to be Furnished to Lender.
Borrower shall and shall cause AH to furnish to Lender:
(i) as soon as available, a copy of each
annual or quarterly report of, including but not limited to
finances and results of the National Association of Insurance
Commissioners Insurance Regulatory Information System tests,
Borrower and AH filed with the Texas Department of Insurance
or any other insurance regulatory authority;
(ii) as soon as available, but no later than
one hundred twenty (120) days after the end of each fiscal
y e a r, audited consolidated and consolidating financial
statements of Borrower, AH and HFC, as of the end of such
year, which have been prepared in accordance with generally
a c c epted accounting principles and present fairly and
accurately the financial condition and results of operations
of Borrower, AH and HFC, for said period, which statements
shall consist of balance sheets and related statements of
income, retained earnings and cash flow, all in reasonable
d e t ail and certified by Borrower's independent public
accountants;
<PAGE>
(iii) as soon as available, but no later
than forty-five (45) days after the end of each fiscal
quarter, unaudited consolidated and consolidating financial
statements of Borrower, AH and HFC, as of the end of such
fiscal quarter, which contain non-material variations from
generally accepted accounting principles and present fairly
a n d accurately the financial condition and results of
operations of Borrower, AH and HFC, for said period, which
statements shall consist of balance sheets and related
statements of income, retained earnings and cash flow, all in
reasonable detail and certified to be true and correct by
Borrower's chief financial officer or President;
(iv) as soon as available, copies of all of
Borrower's reports on Form 10-KSB, Form 10-QSB and Form 8-K
filed with the Securities and Exchange Commission;
(v) as soon as available all independent third
party audits, insurance regulatory agency audits and actuarial
reports of Borrower, AH, or HFC;
(vi) i m m ediate notice in writing of any
material event or circumstance which bears upon the accuracy
or reliability of the information previously furnished to
Lender;
(vii) prompt notice in writing, in such
detail as Lender may reasonably request, of all material
litigation and all material proceedings before any
governmental or regulatory agencies affecting Borrower, AH, or
HFC;
(viii) within ten (10) days after Borrower
obtains knowledge of the occurrence of any Event of Default
under this Agreement, or any Transaction Document which is
continuing or of any condition not remedied which, upon the
lapse of time or the giving of notice, or both, would
constitute an Event of Default under this Agreement, or any
Transaction Document notice of such occurrence together with a
detailed statement of the steps taken to cure the effect of
such event or condition; and
(ix) as soon as practicable, but in no event
later than thirty (30) days after Lender's request, such other
information respecting the financial condition and results of
operations of Borrower, AH, or HFC, as Lender may reasonably
request from time to time.
b. Examinations. Borrower shall and shall cause
AH and HFC to, at any time during normal working hours and
from time to time, permit Lender or its agents to inspect
Borrower's, AH s and/or HFC s books and records, which books
and records shall be kept in good order and reasonable detail.
c. Taxes. Borrower shall and shall cause its
A f f i liates to promptly pay and discharge all taxes,
assessments and other governmental charges prior to the date
on which penalties are attached thereto.
<PAGE>
d. Good Standing; Business. Borrower shall and
shall cause its Affiliates to take all reasonable steps to
preserve their corporate existence and their right to conduct
business as presently conducted.
e. Compliance with Laws. Borrower shall and shall
cause its Affiliates to comply with any applicable federal,
state or local laws, rules, regulations and other legal
requirements with respect to their business, including but not
limited to compliance with all Environmental Laws and the
provisions of ERISA and the Code with respect to all pension
plans.
f. License, Permits, etc. Borrower shall and
s h a ll cause its Affiliates to maintain all of their
franchises, grants, authorizations, licenses, permits,
consents, certificates and orders, if any, in full force and
effect until their respective expiration dates, except where
the failure to maintain such items will not have a material
adverse effect on either Borrower or its Affiliates, their
financial condition, business or operation.
g. Maintenance of Ownership. Borrower shall cause
its Affiliates to at all times maintain the percentage
ownership of each class of their issued and outstanding
capital stock as set forth in Exhibit C.
h. Insurance. Borrower shall and shall cause its
Affiliates to maintain or cause to be maintained insurance
with responsible and reputable insurance companies acceptable
to Lender in such amounts and covering such risks as may be
reasonably required by Lender; provided, however, that Lender
acknowledges and agrees that the current insurance carriers,
amounts and risks covered are now satisfactory.
i. Books and Records. Borrower shall and shall
cause its Affiliates to maintain, at their own cost and
expense, accurate and complete books and records which comply
in all material respects with generally accepted accounting
principles and, with respect to AH, with statutory accounting
principles.
j. Defend Pledged and Restricted Stock.
(i) Borrower shall cause all stock
certificates representing shares of the issued and outstanding
capital stock of AHGA and AH to contain a reference to this
Agreement in the form attached hereto as Exhibit E.
(ii) Borrower shall, and shall cause ACO to,
defend at its own expense, the Pledged Stock and Restricted
Stock against the claims and demands of all third parties.
k. Use of Proceeds. Borrower shall use the
proceeds of the Promissory Note to purchase additional shares
of the capital stock or otherwise contribute to the equity
capital of HFC.
<PAGE>
l. Management. Borrower may make changes in and
additions to its management group so long as either Ramon D.
Phillips or Linda H. Sleeper remains primarily responsible for
t h e management of Borrower. In the event of death,
resignation, or incapacity of both Ramon D. Phillips and
Linda H. Sleeper, Borrower shall obtain Lender's acceptance of
the named replacement, such acceptance not to be unreasonably
withheld.
m. Statutory Capital and Surplus.
(i) B o rrower shall cause AH to maintain
Statutory Capital and Surplus of at least $2,650,000 as of the
date of each reporting period required by law or required by
the Texas Department of Insurance.
(ii) Borrower shall cause HFC to maintain the
f o l l owing minimum stockholders' equity (determined in
accordance with generally accepted accounting principles) as
of the date of each reporting period required by law or
required by the Texas Department of Insurance:
1997 $ 7,780,000
1998 $ 8,000,000
1999 $ 8,300,000
2000 $ 8,800,000
2001 $ 9,300,000
n. Board Meetings. Borrower shall advise Lender
of and hereby grants to Lender the right to be present at all
Board meetings of Borrower. Borrower shall cause each
Affiliate to advise Lender and grant to Lender the right to be
present at all Board meetings of such Affiliate.
o. Reinsurance Treaty. Borrower shall cause AH to
continue to offer, for the time period set forth in the table
contained in this paragraph, to reinsure a portion of its
Personal Lines Auto Quota Share Reinsurance with Lender, the
f o r m and content of such reinsurance treaty to be
substantially similar to Exhibit D attached hereto, in amounts
sufficient to allow for the following schedule of ceded
premiums:
Treaty Years Ceded
Premium
07/01/97 to 06/30/98 $ 20,000,000
07/01/98 to 06/30/99 $ 21,600,000
07/01/99 to 06/30/00 $ 23,328,000
07/01/00 to 06/30/01 $ 25,194,240
07/01/01 to 06/30/02 $ 27,209,779
07/01/02 to 06/30/03 $ 29,386,562
07/01/03 to 06/30/04 $ 31,737,486
p. Affiliate Transactions. All transactions for
the duration of the Transaction Documents between or among
Borrower, each Affiliate, and any director, officer, employee
and/or agent of Borrower or any Affiliate shall be in good
faith and commercially reasonably.
<PAGE>
7. Negative Covenants.
a. Ratios.
(i) Borrower shall not permit AH's ratio of
gross premium to surplus (calculated by dividing Gross Premium
Written by Statutory Capital and Surplus) to be above 10.0:1
as of the date of any report required by law or the Texas
Department of Insurance.
(ii) Borrower shall not permit AH's ratio of
net premium to surplus (calculated by dividing Net Premium
Written by Statutory Capital and Surplus) to be above 3.0:1 as
of the date of any report required by law or the Texas
Department of Insurance.
(iii) Borrower shall not permit the average
of AH's Combined Ratio as of the end of any four (4)
immediately preceding fiscal quarters of AH's operations to
exceed 115%.
(iv) Borrower shall not permit the average of
AH's Loss Ratio as of the end of any four (4) immediately
preceding fiscal quarters of AH's operations to exceed 87%.
(v) Borrower shall not permit the HFC Interest
Coverage Ratio as of the end of any fiscal quarter to be less
than 1.5 to 1.0.
b. Change in Ownership or Business.
(i) Borrower shall not, nor permit AH, HFC or
AHGA to, change the nature of their respective business except
as provided in this Agreement.
(ii) Borrower shall not permit AH to write
directly or indirectly the following lines of business, or its
e q u ivalent: mortgage guaranty, ocean marine, financial
guaranty, medical malpractice, earthquake (as a separate
coverage), group accident and health, credit accident and
health (group and individual), other accident and health,
workers compensation, products liability, aircraft (all
perils), fidelity, surety, boiler and machinery, credit, and
international.
c. Dividends. Borrower shall not pay or declare
any cash or other dividends or distributions on its corporate
stock. Borrower shall not permit AH to pay or declare any
cash or other dividends or distributions on its corporate
stock if such payment or declaration would result in an Event
of Default.
d. Intercompany Service Agreements. Borrower
shall not, nor permit AH to, amend or adjust the commission
structure of its intercompany service agreements in place at
the date of execution of this Agreement, to the extent that it
materially adversely affects AH financially.
<PAGE>
e. Disposition of Assets, Security Interests and
other Encumbrances. Borrower shall not, nor permit AH, HFC or
AHGA to, sell, assign, transfer or otherwise dispose of any of
its assets or properties or any interest therein, or create,
incur or suffer to exist any mortgage, security interest,
lien, license or other encumbrance upon any of its properties
or assets, whether nor owned or hereafter acquired, except
(a) ACO's pledge of the Pledged Shares (and Borrower's and
ACO's pledge of the Restricted Shares, if effected) pursuant
to this Agreement, (b) security interests created or arising
pursuant to the NationsBank Loan Documents, (c) purchase money
security interests in equipment used in the normal course of
B o rrower's, AH's, HFC's or AHGA's respective business,
(d) operating or capital equipment leases for use in the
ordinary course of business, and (e) existing encumbrances
d i s closed in Borrower's consolidated and consolidating
financial statements.
f. Investments and Advances. Borrower shall not,
nor permit AH to, make any investment in or advance to any
person, firm or corporation, other than advances (i) to or
investments in Affiliates, and (ii) to employees in the
ordinary course of business, not to exceed $50,000.00 to any
employee.
g. Guaranties. Borrower shall not, nor permit AH
to, become a guarantor, surety or otherwise liable for the
debts or other obligations of any other person, firm or
corporation, except for (a) obligations arising under the
NationsBank Loan Documents, (b) obligations under reinsurance
agreements, and (c) obligations of Affiliates, provided the
aggregate liability of either Borrower or AH on obligations of
all other Affiliates shall not exceed $500,000, further
provided no single transaction shall exceed $200,000.
h. Disposition of Pledged Stock. Without limiting
the generality of any other provision of this Section 7,
Borrower shall not, nor permit ACO to,
(i) s e l l, convey, transfer or otherwise
dispose of any of the Pledged Stock or Restricted Stock or any
interest therein, or create, incur or permit to exist any
pledge, mortgage, lien, charge, encumbrance or any security
interest whatsoever in or with respect to any of the Pledged
Stock or the Restricted Stock or the proceeds thereof, other
than that created under the Transaction Documents;
(ii) consent to or approve or permit the
issuance of any additional shares of any class of capital
stock of HFC, AH or AHGA or any securities convertible
voluntarily by the holder thereof or automatically upon the
occurrence or non-occurrence of any event or condition into,
or exchangeable for, any such shares, or any warrants,
options, rights or other commitments entitling any person to
purchase or otherwise acquire any such shares;
<PAGE>
(iii) consent to or approve or permit any
amendment, restatement or substitution of the Articles of
Incorporation and/or Bylaws of HFC, AH or AHGA without the
prior written consent of Lender, it being hereby acknowledged
b y B orrower that any such amendment, restatement or
substitution shall not be effective unless so consented to by
Lender and that Lender may give or withhold such consent in
each instance in Lender's sole and absolute discretion; or
(iv) consent to or approve or permit HFC, AH or
AHGA to sell, dispose of, encumber or grant a lien on or
security interest in all or any material portion of its
property or assets.
i. Affiliates' Stock. Borrower shall not permit
any Affiliates to consent to or approve or permit the issuance
of any additional shares of any class of capital stock of any
Affiliate, or any securities convertible voluntarily by the
holder thereof or automatically upon the occurrence or non-
occurrence of any event or condition into, or exchangeable
for, any such shares, or any warrants, options, rights or
o t her commitments entitling any person to purchase or
otherwise acquire any such shares other than to the present
owner of the capital stock of such Affiliate as set forth in
Exhibit C.
j. Miscellaneous. So long as any part of the
Indebtedness remains unpaid or this Agreement remains in
effect, Borrower shall not, nor permit AH to, without the
express prior written consent of Lender:
(i) Create, incur or permit to exist or
otherwise become liable for, directly or indirectly, any
indebtedness for borrowed money or for the deferred purchase
price of real or personal property in excess of $500,000 in
the aggregate, provided, however, no individual transaction
shall exceed $200,000 except (i) trade indebtedness incurred
in the ordinary course of business, (ii) the Indebtedness, and
(iii) the Outstanding Debt.
(ii) M e rge or consolidate with any other
company or companies; enter into any joint venture or
partnership with any person, firm or corporation other than an
Affiliate; or convey, lease or sell all or any material
portion of its property or assets or business to any other
person, firm or corporation, other than the purchase or sale
of assets in the ordinary course of business.
(iii) Consent to or approve or permit any
m a terial amendment, restatement or substitution of the
Articles of Incorporation and/or Bylaws of AH, it being hereby
acknowledged by Borrower that any such amendment, restatement
or substitution shall not be effective unless so consented to
by Lender and that Lender may give or withhold such consent in
each instance in Lender's sole and absolute discretion. For
purposes of this Section 7, and without limiting the scope of
this Section 7, any change in capital structure or in the
<PAGE>
relative rights, preferences or limitations relating to
capital stock shall be deemed a material change.
8. Events of Default.
a. D e f aults. Each of the following shall
constitute an Event of Default for purposes of this Agreement:
(i) Borrower fails to pay within ten (10)
Business Days of the due date principal, interest, costs or
expenses due under the Transaction Documents;
(ii) Borrower makes a misstatement of material
fact in the Transaction Documents or any other document or
certificate relating to the Agreement;
(iii) Borrower fails to observe or perform
any covenant, term or agreement set forth in Section 3 hereof;
(iv) Borrower fails to observe or perform any
other covenant, term or agreement of the Transaction Documents
and such failure is not cured within thirty (30) days
following notice thereof from Lender;
(v) Filing by or against Borrower or AH of a
petition or request for liquidation, reorganization,
arrangement, adjudication as a bankrupt, relief as a debtor,
or other relief under the bankruptcy, insolvency or similar
laws of the United States or any state thereof now or
hereafter in effect;
(vi) If Borrower or AH seeks, consents to or is
subjected to the appointment or taking possession of a
receiver, liquidator, assignee, trustee, custodian or other
similar official for it or for any substantial portion of its
property, or if a court of competent jurisdiction shall enter
any decree effectuating such an appointment or ordering the
winding up or liquidation of Borrower or AH;
(vii) B o r rower or AH ceases business
operations, makes a general assignment for the benefit of
creditors or consents to or has filed against it any formal or
informal proceeding for the dissolution, liquidation or
winding-up of the affairs of Borrower or AH; provided however,
if such action is brought against Borrower or AH, Borrower
shall have 60 days to cause such action to be dismissed;
(viii) An admission in writing by Borrower
or AH that it is not Solvent;
(ix) If any judgment against Borrower or AH not
covered by insurance or any attachment or other levy against
any of its property for an amount in excess of $200,000.00
remains unpaid, unstayed on appeal, undischarged, unbonded or
undismissed for more than thirty (30) consecutive days;
<PAGE>
(x) If any governmental agency, department,
commission or authority delivers to Borrower or AH a cease and
desist order, letter of unsafe practices or conditions, an
order of correction, or similar directive under applicable law
o r commences any action which could result in taking
possession, reorganization or liquidation of Borrower or AH,
and such letter, action or other directive is permitted to
remain uncured or undismissed for more than forty-five (45)
consecutive days;
(xi) All or a controlling interest in the
capital stock of Borrower is sold, assigned or otherwise
transferred or a security interest or other encumbrance is
granted or otherwise acquired therein or in respect thereto,
in a single transaction or series of related transactions;
(xii) Borrower or AH commences any action
or proceeding to contest the validity or enforceability of any
Transaction Document or any lien or security interest granted
or obligations evidenced by any Transaction Document; or
(xii) A writ or order of attachment or
garnishment in excess of $250,000 is issued or made against
any of the property, assets or income of Borrower.
b. Remedies upon Default. Upon the occurrence of
an Event of Default under this Agreement, Lender may declare
all of the Indebtedness due and owing, without notice to
Borrower, whereupon all such Indebtedness and other amounts
shall thereupon be and become immediately due and payable. In
addition, Lender may pursue or exercise any and all other
rights, remedies, privileges and powers given Lender by this
Agreement, the Promissory Note, or any other instrument or
document now or hereafter given as security for payment of the
Indebtedness or any other obligations under this Agreement or
any applicable law due to a default thereunder. No failure on
the part of Lender to exercise, and no delay in exercising,
any right hereunder, under the Promissory Note, or under any
documents securing the Indebtedness shall operate as a waiver
thereof, nor shall any singular or partial exercise by Lender
hereunder or under the Promissory Note or such other documents
preclude any other or further exercise thereof, or the
exercise of any other right.
Borrower agrees that upon the occurrence of an
Event of Default under this Agreement, the proceeds of any
property or collateral in the possession of Lender or in which
Lender has a security interest, whether or not such property
or collateral is held as security for the Indebtedness under
this Agreement, may be held and/or applied by Lender, at its
discretion, to the payment of the Promissory Note, the
Indebtedness and any other indebtedness owed to Lender by
Borrower, at such times and in such order as Lender may from
time to time deem appropriate.
9. Miscellaneous.
<PAGE>
a. P e r formance of Borrower's Duties. Upon
Borrower's failure to perform any of its duties under the
T r a n saction Documents, Lender has the right, but no
obligation, to perform any or all such duties.
b. Notice of Sale. Without in any way requiring
notice to be given in the following manner, Borrower agrees
that any notice by Lender of sale, disposition or other
intended action under or in connection with this Agreement,
whether required by the Uniform Commercial Code of the State
of Michigan or otherwise, constitutes reasonable notice to
Borrower if such notice is given in the manner described in
Section 9.j. of this Agreement and at least fifteen (15) days
prior to such action.
c. Exercise of Lender's Rights. No course of
dealing between Lender and Borrower and no delay or omission
by Lender in exercising any right or remedy under the
Transaction Documents or with respect to the Indebtedness
shall operate as a waiver of any such right or remedy, or of
any other right or remedy, and no single or partial exercise
of any such right or remedy shall preclude any other right or
remedy, or exercise of, or further exercise of any other right
or remedy. All rights and remedies of Lender are cumulative.
d. Successors and Assigns. Lender and Borrower as
used in this Agreement include the successors and assigns of
those parties, except Borrower does not have the right to
assign its rights under or any interest in this Agreement.
e. Indemnification. Borrower agrees to pay,
indemnify and hold Lender harmless from and against all
liabilities, obligations, losses, damages, penalties, actions,
judgments, suits, costs, expenses or disbursements of any kind
or nature whatsoever (including reasonable attorneys' fees,
costs and expenses) which arise out of, relate to or are
connected in any manner with the negligent or willful acts or
omissions of Borrower, including, without limitation, any
costs or expenses incurred by Lender in connection with
enforcing its rights to indemnification pursuant to this
subparagraph. The provisions of this subparagraph survive
payment of the Indebtedness.
f. Severability. The provisions of this Agreement
are independent and separable from each other, and no such
p r o v i sion shall be affected or rendered invalid or
unenforceable by virtue of the fact that for any reason any
other provision may be invalid or unenforceable in whole or in
part. If any provision of this Agreement is prohibited or
u n e n forceable in any jurisdiction, such provision is
ineffective in such jurisdiction only to the extent of such
prohibition or unenforceability, and such prohibition or
unenforceability does not invalidate the balance of such
provision to the extent it is not prohibited or unenforceable
nor render prohibited or unenforceable such provision in any
other jurisdiction.
<PAGE>
g. Modifications. No modification or waiver of
any provision of, nor consent to any departure by Borrower
from this Agreement is effective unless in writing signed by
an authorized representative of Lender and Borrower, and such
waiver or consent is effective only in the specific instance
and for the purpose for which given. No notice to or demand
on Borrower in any case entitles Borrower to any other or
further notice or demand in similar or other circumstances.
h. G o v erning Law. This Agreement and the
Transaction Documents delivered in connection with this
Agreement are governed by and construed in accordance with the
laws of the State of Michigan. Exercise of any right or
remedy in the event of default is likewise governed by the
laws of Michigan.
i. Further Assurances. Borrower agrees to take
such additional actions and execute such further documents as
Lender may reasonably request in order to give effect to the
transactions described in this Agreement.
j. N o t ices. Except as otherwise expressly
provided in this Agreement or any other Transaction Document,
each notice, request or demand pursuant to this Agreement or
any Transaction Document shall be in writing and mailed by
United States mail, postage prepaid, certified mail, return
receipt requested, addressed as follows:
If to Borrower:
Hallmark Financial Services, Inc.
14651 Dallas Parkway, Suite 900
Dallas, TX 75240
Attention: Ramon D. Phillips
(214) 404-1637
(214) 788 0520 (facsimile)
If to Lender:
Dorinco Reinsurance Company
1320 Waldo Avenue
Midland, MI 48642
Attention: David E. Chamberlain
(517) 636-7156
(517) 638-9963 (facsimile)
N o tices shall be deemed given five (5) days
following the date deposited in the United States mail as
evidenced by the postmark of the United States Post Office in
which the notice was deposited.
k. Singular and Plural. Whenever used, the
singular number includes the plural, and the plural numbers
includes the singular, and the use of any gender applies to
all genders.
<PAGE>
l. Counterparts. This Agreement may be executed
in any number of counterparts, and by Borrower and Lender on
separate counterparts, each of which when so executed and
delivered will be an original, but all of which together shall
constitute one in the same Agreement.
m. Section Headings. The captions and headings of
the sections and subsections of this Agreement are for
convenience of reference only and are not to be used to
interpret or define the provisions of this Agreement.
n. ORAL AGREEMENTS. ORAL AGREEMENTS OR
COMMITMENTS TO LOAN MONEY, EXTEND CREDIT OR TO FOREBEAR FROM
ENFORCING REPAYMENT OF A DEBT INCLUDING PROMISES TO EXTEND OR
RENEW SUCH DEBT ARE NOT ENFORCEABLE. TO PROTECT YOU
( B O R R OWER) AND US (LENDER) FROM MISUNDERSTANDING OR
DISAPPOINTMENT, ANY AGREEMENTS WE REACH COVERING SUCH MATTERS
ARE CONTAINED IN THIS WRITING, WHICH IS THE COMPLETE AND
EXCLUSIVE STATEMENT OF THE AGREEMENT BETWEEN US, EXCEPT AS WE
MAY LATER AGREE IN WRITING TO MODIFY IT.
IN WITNESS WHEREOF, the parties hereto have executed
this Agreement as of the day and year first above written.
BORROWER:
HALLMARK FINANCIAL SERVICES, INC.
By:
Name: Linda H. Sleeper
Title: Executive Vice President
ATTEST:
[CORPORATE SEAL]
LENDER:
DORINCO REINSURANCE COMPANY
By:
Name: Paul D. Brink
Title: President & CEO
<PAGE>
EXHIBIT E
STOCK CERTIFICATE RESTRICTIONS
"Sale, transfer, pledge or other
disposition of the shares represented by
this certificate is restricted pursuant to
a Loan Agreement dated March , 1997,
between Hallmark Financial Services, Inc.
and Dorinco Reinsurance Company."
PROMISSORY NOTE
$7,000,000.00 March 11, 1997
FOR VALUE RECEIVED, the undersigned, Hallmark Financial Services,
Inc., a Nevada corporation with its principal offices at 14651 Dallas
Parkway, Suite 900, Dallas, TX 75240, ("Maker"), hereby unconditionally
promises to pay to the order of DORINCO REINSURANCE COMPANY, a Michigan
corporation with its principal offices at 1320 Waldo Avenue, Midland, MI
48642 ("Payee"), by wire transfer so as to constitute immediately
available funds, or as otherwise directed, the principal sum of Seven
Million Dollars ($7,000,000.00), in lawful money of the United States of
America, together with interest (calculated on the basis of a 360 day
year), on the unpaid principal balance from day-to-day remaining,
computed from the date of advance until maturity at the rate per annum
which shall from day-to-day be equal to the lesser of (a) the maximum
rate allowable by law, or (b) eight and one-quarter percent (8.25%).
The principal of and interest upon this Note shall be due and
payable as follows:
(a) Interest, computed as aforesaid, shall be due and payable
monthly as it accrues, beginning on March 31, 1997, and
thereafter, on the last business day of each succeeding month
thereafter and on March 31, 2004 (the "Termination Date"); and
(b) The unpaid principal amount of this Note shall be payable in
sixty consecutive monthly installments commencing on March 31,
1999, and continuing on the last business day of each calendar
month thereafter until and including the Termination Date.
Each such installment shall be in an amount equal to one-
sixtieth (1/60th) (rounded to the nearest $1.00) of the
original principal amount of this Note, provided, however,
that the final payment on the Termination Date shall be an
amount equal to the then-unpaid principal of this Note plus
any other amounts payable hereunder.
All past-due principal and, to the extent permitted by applicable
law, past-due interest upon this Note shall bear interest at the lesser
of maximum rate allowable by law, or the rate per annum which shall from
day-to-day be equal to thirteen percent (13%).
All payments shall be made to Citibank, N.A., New York (ABA #021-
00-0089) for credit to the account of Payee, Account Number 3900-6944,
if by wire, or, if by check, to Box #8157, Citibank, P.O. Box 7247-8157,
Philadelphia, PA 19170.
The occurrence of any one or more of the following events shall
constitute an Event of Default under this Note:
(a) t h e failure to pay any amount hereunder within ten
(10) business days of the due date (whether at maturity, by
reason of acceleration or otherwise); or
(b) any other event of default under that certain Loan Agreement,
dated as of March 10, 1997, between Maker and Payee.
<PAGE>
Maker agrees that if such Event of Default under this Note occurs,
then, at the option of Payee, all or any part of the unpaid principal
balance of this Note and accrued interest shall immediately become due
and payable without notice or demand. Failure of Payee hereof to assert
any right contained herein shall not be deemed to be a waiver thereof.
Maker may prepay this Note, in whole or in part, with the payment
of liquidated damages. If Maker prepays, in whole or in part, before
the first anniversary date of this Note but before the second
anniversary date, the liquidated damages are equal to $120,000.00. If
Maker prepays, in whole or in part, after the second anniversary date of
this Note but before the third anniversary date, the liquidated damages
are equal to $100,000.00. If Maker prepays, in whole or in part, after
the third anniversary date of this Note but before the fourth
anniversary date, the liquidated damages are equal to $80,000.00.
However, Maker may repay up to 40% of this Note at any time after the
second anniversary without liquidated damages. Maker may prepay all or
any portion of this Note after the fourth anniversary date without
liquidated damages or other penalty.
In the event any one or more of the provisions of the Note shall
for any reason be held to be invalid, illegal, or unenforceable, in
whole or in part or in any respect, or in the event that any one or more
of the provisions of this Note operate or could prospectively operate to
invalidate this Note, then and in either of those events, such provision
or provisions shall be modified to the minimum extent necessary to make
the application of such provision or provisions valid and enforceable
and shall not affect any other provision of this Note and the remaining
provisions of this Note shall remain operative and in full force and
effect and shall in no way be affected, prejudiced, or disturbed
thereby.
Maker hereby forever waives presentment, demand for payment,
protest, notice of protest, notice of dishonor of this Note, and all
other demands and notices in connection with the delivery, acceptance,
performance, and enforcement of this Note. Maker further agrees to
indemnify and hold harmless Payee for all costs of collection including
reasonable attorneys' fees and expenses that Payee may incur by reason
of Maker's failure promptly to pay when due the indebtedness evidenced
by this Note.
This Note shall be paid without deduction by reason of any setoff,
defense, or counterclaim of Maker.
No amendment or waiver of any provision of this Note nor consent to
any departure by Maker therefrom shall in any event be effective unless
the same shall be in writing and signed by Payee, and then such waiver
or consent shall be effective only in the specific instance and for the
specific purpose for which given.
No failure on the part of Payee to exercise, and no delay in
exercising, any right hereunder shall operate as a waiver thereof; nor
shall any single or partial exercise of any right hereunder preclude any
other or further exercise thereof or the exercise of any other right.
The remedies herein provided are cumulative and not exclusive of any
remedies provided by law.
<PAGE>
This Note shall be governed by and construed in accordance with the
laws of the State of Michigan and shall be binding upon the successors
and assigns of Maker and shall inure to the benefit of the successors
and assigns of Payee.
HALLMARK FINANCIAL SERVICES, INC.
By:
Name: Linda H. Sleeper
Title: Executive Vice President
ACO HOLDINGS, INC.
STOCK PLEDGE AND SECURITY AGREEMENT
THIS STOCK PLEDGE AND SECURITY AGREEMENT ("Agreement") is made this
11th day of March, 1997, by and between ACO HOLDINGS, INC., a Texas
corporation ("Pledgor"), and DORINCO REINSURANCE COMPANY ("Lender").
RECITALS
T h e following recitals constitute a material part of this
Agreement:
I. Pursuant to the terms of a Loan Agreement (hereinafter "Loan
Agreement") of even date herewith between Lender and Hallmark Financial
S e r v i ces, Inc., a Nevada corporation ("Borrower"), Lender is
concurrently herewith extending to Borrower a loan in the principal
amount of $7,000,000.00, to be evidenced by Borrower's promissory note
(the "Note") which is secured by Pledgor's pledge of the Pledged Stock
(as defined below) pursuant to this Agreement.
II. For convenience, the Loan Agreement, the Note and this
Agreement, as the same are hereafter modified, amended or extended, are
sometimes hereinafter collectively referred to as the "Transaction
Documents".
III. Pledgor represents and warrants to Lender that Pledgor has and
will continue to receive substantial benefit from the loans by Lender to
Borrower and that, in consideration of such benefit, Pledgor is pledging
the Pledged Stock to Lender to secure the Obligations (as defined
below).
IV. Pledgor further represents and warrants to Lender that Pledgor
has received reasonably equivalent value in exchange for the pledge of
the Pledged Stock to Lender and that Pledgor (i) was not insolvent on
the date of the pledge of the Pledged Stock to Lender; (ii) was not
engaged in and was not about to engage in a business or transaction for
which it had unreasonably small capital; or (iii) did not intend to
incur, or believe that it would incur, debts that would be beyond
Pledgor's ability to pay as such debts matured.
V. This Agreement and the rights hereby granted shall secure the
following (the "Obligations"):
A. All present and future liabilities, indebtedness and
obligations of Borrower to Lender of every kind, type, nature and
description, arising under the Transaction Documents;
B. All costs and expenses, including attorneys' fees, of all
legal actions or proceedings brought by Lender to enforce this
Agreement or any other Transaction Document, all other costs and
expenses paid or incurred in respect of or in connection with the
Pledged Stock, and any other sums that may become due and payable
to Lender by Pledgor; and
C. The observance and performance by Pledgor of all terms,
provisions, covenants and obligations of Pledgor under this
Agreement and all other Transaction Documents.
<PAGE>
NOW, THEREFORE, in consideration of the foregoing and the mutual
covenants and agreements contained herein, and other good and valuable
c o n sideration, the receipt and sufficiency of which is hereby
acknowledged, the parties agree as follows:
1. Pledged Stock. The term "Pledged Stock" shall mean the shares
of capital stock described in Schedule 1 which is attached hereto and
made a part hereof and all other shares of capital stock, options,
rights and warrants issued to Pledgor by the issuer of the aforesaid
capital stock described in Schedule 1, together with all certificates,
options, rights and other distributions issued as an addition to, in
substitution or exchange for, or on account of, any such shares of
capital stock, options, rights and warrants arising from any and all of
the foregoing or relating thereto, and all proceeds of all the
foregoing, whether now owned or hereafter acquired by Pledgor.
2. Pledged Stock; Security For Obligations.
(a) As security for the prompt payment, performance and
satisfaction of the Obligations, Pledgor hereby pledges, assigns,
hypothecates and transfers to Lender the Pledged Stock, and grants
Lender a lien on and security interest therein.
(b) If Pledgor shall become entitled to receive or shall
receive at any time or from time to time, in connection with any of
the Pledged Stock, any:
(i) stock certificate, including, but not limited to,
any certificate representing a stock dividend or in connection
with any increase or reduction of capital, reclassification,
merger, consolidation, sale of assets, combination of shares,
stock split, spin-off or splitoff;
(ii) o p tion, warrant or right, whether as an
addition to or in substitution or exchange for the Pledged
Stock or otherwise;
(iii) dividend or distribution payable in property,
including, but not limited to, any securities issued by other
than the issuer of the Pledged Stock; or
(iv) dividends or distributions of any kind, type,
nature or description;
Then Pledgor shall, subject to subparagraph 2(d) below, accept
the same as Lender's agent, in trust for Lender, and shall deliver
them forthwith to Lender or its nominee in the exact form received
with, as applicable, Pledgor's endorsement in blank for transfer
when necessary, or appropriate stock powers duly executed in blank
for transfer, to be held by Lender, or its nominee, subject to the
terms hereof, as part of the Pledged Stock.
(c) Upon the occurrence of an Event of Default (as herein
defined), Lender, at its option, may have any or all of the Pledged
Stock registered in the name of Lender or its nominee, and Pledgor
hereby covenants that, upon Lender's request, Pledgor will cause
the issuer of the Pledged Stock to effect such registration. In
connection with such registration, Pledgor hereby designates and
<PAGE>
appoints Lender as the agent and attorney-in-fact of Pledgor to
execute any and all documents and instruments in the name of
Pledgor and to do any and every act which Pledgor might do on its
own behalf in order to effectuate the change in registered
ownership of any or all of the Pledged Stock upon the occurrence of
an Event of Default. Pledgor hereby agrees that the foregoing
powers granted to Lender hereunder are coupled with an interest and
are irrevocable so long as any of the Obligations remain unpaid.
Pledgor shall nevertheless retain all voting rights with respect to
the Pledged Stock until the occurrence of an Event of Default.
Immediately and without further notice, upon the occurrence of an
Event of Default, Lender or its nominee shall have, with respect to
the Pledged Stock, at Lender's option, the right but not the
obligation to exercise all voting rights, all other corporate
rights and all conversion, exchange, subscription or other rights,
privileges or options pertaining thereto as if it were the absolute
owner thereof, including, but not limited to, the right to exchange
any or all of the Pledged Stock upon the merger, consolidation,
reorganization, recapitalization or other readjustment of the
issuer thereof, or upon the exercise by such issuer of any right,
privilege or option pertaining to the Pledged Stock, and, in
connection therewith, to deliver any of the Pledged Stock to any
c o m m ittee, depository, transfer agent, registrar or other
designated agency upon such terms and conditions as it may
determine, all without liability except to account for property
actually received by it; but Lender shall have no duty to exercise
any of the aforesaid rights, privileges or options and shall not be
responsible to Pledgor for any failure to do so or delay in so
doing.
(d) So long as no Event of Default has occurred and is
continuing, all cash dividends on all or any portion of the Pledged
Stock shall be paid to Borrower and Borrower shall not be deemed to
accept said dividends as Lender's agent in trust for Lender.
Following the occurrence of an Event of Default, any cash dividends
on all or any portion of the Pledged Stock shall be paid to Lender
in reduction of the Obligations unless Lender otherwise consents in
writing.
3. Events of Default. The occurrence of any of the following
events shall constitute and is hereby defined to be an "Event of
Default" hereunder:
(a) any failure or neglect to observe or perform any of the
terms, provisions, promises, agreements or covenants of this
Agreement within thirty (30) days of written notice of such failure
or neglect; or
(b) any warranty, representation or statement contained in
this Agreement or otherwise made or furnished to Lender by or on
behalf of Pledgor in connection with the Obligations shall be or
shall prove to have been false or incorrect when made or furnished
or shall at any time hereafter become false or incorrect; or
(c) the occurrence of an Event of Default under the Loan
Agreement after all applicable cure periods, if any.
<PAGE>
4. Remedies. Upon the occurrence of an Event of Default and at
any time thereafter, Lender may, at its option, in its sole and absolute
discretion and, except as otherwise expressly set forth herein, without
further demand or notice of any kind, pursue any or all of its rights
and remedies under any or all of the Transaction Documents or at law or
in equity in such order and manner as Lender may elect in its sole
discretion, including, without limitation, any one or more of the
following:
(a) Lender may declare all Obligations to be immediately due
and payable, without presentment, protest or notice of any kind to
Pledgor or any other person (all of which are hereby expressly
waived by Pledgor).
(b) Lender may, without demand of performance or other
demand, advertisement or notice of any kind (except the notice
specified below with respect to the time and place of public or
private sale) to or upon Pledgor or any other person (all of which
are, to the extent permitted by law, hereby expressly waived),
forthwith realize upon the Pledged Stock or any part thereof or
interest therein, and may forthwith sell or otherwise dispose of
and deliver the Pledged Stock or any part thereof or interest
therein, or agree to do so, in one or more parcels at public or
private sale or sales, at any exchange, broker's board or at any of
Lender's offices or elsewhere, at such prices and on such terms
(including, without limitation, a requirement that any purchaser of
all or any part of the Pledged Stock purchase the shares
constituting the Pledged Stock for investment and without any
intention to make a distribution thereof) as it may deem best, for
cash or on credit, or for future delivery without assumption of any
credit risk, with the right to Lender or any purchaser to purchase
at any such sale the whole or any part of the Pledged Stock free of
any right or equity of redemption in Pledgor which right or equity
o f r e d emption is hereby expressly waived and released.
Notwithstanding any other provision in this Agreement to the
contrary, Pledgor agrees that Lender, in its sole discretion, may
determine that a sale, public or private, of all or any portion of
the Pledged Stock is not in Lender's best interest, and Lender is
hereby expressly authorized to retain all or any part of the
P l edged Stock indefinitely until Lender deems in its sole
discretion that a sale would be in its best interest. Until such
sale, Lender may, in its sole discretion, elect to hold all or any
part of the Pledged Stock and be treated as the beneficial owner
thereof and shall be entitled to collect all income and proceeds
therefrom and Pledgor shall cause the issuer of the Pledged Stock
to treat Lender in all respects as if Lender were a shareholder of
issuer and with all the rights applicable to such status as to the
Pledged Stock.
(c) The proceeds of any such disposition or other action by
Lender shall be applied as follows:
(i) first, to the costs and expenses incurred in
connection therewith or incidental thereto or to the care or
safekeeping of any of the Pledged Stock or in any way relating
to the rights of Lender hereunder, including, but not limited
to, attorneys' fees and legal expenses;
<PAGE>
(ii) second, to the satisfaction of the Obligations
in such order of priority as Lender shall determine in its
sole discretion;
(iii) third, to the payment of any other amounts
required by applicable law (including, without limitation,
Section 9-504(1)(c) of the Uniform Commercial Code); and
(iv) fourth, to the extent of any surplus proceeds, to
the person(s) legally entitled thereto.
(d) Lender need not give more than fifteen (15) days' notice
of the time and place of any public sale or of the time after which
a private sale may take place, which notice Pledgor hereby deems
and agrees to be commercially reasonable.
(e) Pledgor hereby waives to the fullest extent permitted by
applicable law any right Pledgor may have to require Lender to
marshall assets or sell the Pledged Stock, or any other collateral,
in any particular order of priority.
5. Rights and Remedies Not Exclusive. Notwithstanding any
provision in this Agreement or in any Transaction Document to the
contrary, the rights and remedies provided herein and in the other
Transaction Documents and in all other agreements, instruments and
documents delivered pursuant to or in connection with the Transaction
Documents are cumulative and are in addition to and not exclusive of any
rights or remedies provided by law or under the principles of equity,
including, without limitation, the rights and remedies of a secured
party under the Uniform Commercial Code, and all such rights and
remedies may be enforced partially, successively, alternatively or
concurrently, and any action by Lender to enforce any of its rights
and/or remedies shall not stop or prevent Lender from pursuing any other
right or remedy which it may have hereunder or by law.
6. Notices. Pledgor will promptly deliver to Lender all written
notices, and will promptly give Lender written notice of any other
notices received by it with respect to the Pledged Stock, and Lender
will promptly give like notice to Pledgor of any such notices received
by it or its nominee. Any notice given pursuant to this Agreement shall
be in writing and shall be deemed received upon (i) receipt of actual
notice by Pledgor or Lender, or (ii) five (5) business days after such
notice is deposited in the United States Mail, certified or registered
mail, return receipt requested with postage prepaid, and addressed as
follows:
To Lender:
Dorinco Reinsurance Company
1320 Waldo Avenue
Midland, MI 48642
Attention: David E. Chamberlain
(517) 636-7156
(517) 636-9963 (facsimile)
<PAGE>
To Pledgor:
ACO Holdings, Inc.
c/o Hallmark Financial Services, Inc.
14651 Dallas Parkway, Suite 900
Dallas, TX 75240
Attention: Ramon D. Phillips
(214) 404-1637
(214) 788-0520 (facsimile)
Any party may from time to time change its address to which notices are
to be sent or delivered hereunder by giving prior written notice of such
change to the other party hereto as above provided.
7. Further Documents. Pledgor shall at any time, and from time to
time, upon the written request of Lender, execute and deliver such
further documents and do such further acts and things as Lender may
reasonably request to effect the purposes of this Agreement, including,
but not limited to, delivering to Lender upon the occurrence of an Event
of Default irrevocable proxies with respect to the Pledged Stock in a
form satisfactory to Lender. Until receipt thereof, this Agreement shall
constitute Pledgor's proxy to Lender or its nominee to vote all shares
of Pledged Stock then registered in Pledgor's name upon the occurrence
of an Event of Default.
8. Return of Pledged Stock. Upon the satisfaction in full of all
Obligations and the satisfaction of all additional costs and expenses of
Lender as provided herein, this Agreement shall terminate and Lender
shall deliver to Pledgor at Pledgor's expense, such of the Pledged Stock
as shall not have been sold or otherwise applied pursuant to this
Agreement.
9. Lender's Duties. Beyond the exercise of reasonable care to
assure the safe custody of the Pledged Stock while held hereunder,
Lender shall have no duty or liability to preserve any rights pertaining
thereto and shall be relieved of all responsibility for the Pledged
Stock upon surrendering it or tendering surrender of it to Pledgor.
10. Specific Performance. Pledgor acknowledges that a breach of
any of its covenants set forth in this Agreement may cause irreparable
injury to Lender; that Lender will have no adequate remedy at law with
respect to such breach; and that, as a consequence thereof, all of
Pledgor's covenants set forth in this Agreement shall be specifically
enforceable against Pledgor and Pledgor hereby waives, to the extent
such waiver is enforceable under law, and shall not assert, any defenses
against an action for specific performance of such covenants except for
a defense that no Event of Default has occurred.
11. No Waiver. No course of dealing between Pledgor and Lender,
nor any failure to exercise, nor any delay in exercising any right,
remedy, power or privilege of Lender hereunder or under any other Loan
Document shall operate as a waiver thereof nor shall any single or
partial exercise of any such right, remedy, power or privilege preclude
any other remedy or the further exercise thereof or the exercise of any
other right, remedy, power or privilege.
<PAGE>
12. Prohibition of Indirect Action. Any act which Pledgor is
prohibited from doing hereunder or under any other Transaction Document
shall not be done or allowed to be done indirectly through an affiliate
thereof or by any other indirect means.
13. Expenses. Pledgor agrees to promptly pay all expenses, costs,
c h arges, fees and disbursements of any kind, type, nature and
description, including reasonable attorneys' fees and all court costs,
incurred by Lender in connection with the enforcement of this Agreement.
14. Severability. The provisions of this Agreement are severable,
and if any clause or provision of this Agreement shall be held invalid
or unenforceable in whole or in part in any jurisdiction, then such
invalidity or unenforceability shall affect only such clause or
provision or part thereof in such jurisdiction and shall not in any
manner affect such clause or provision in any other jurisdiction or any
other clause or provision in this Agreement.
15. Governing Law; Construction.
(a) This Agreement shall be governed by and construed in
accordance with the laws of the State of Michigan, except as to
matters covered by applicable Federal law or regulation.
(b) I n construing this Agreement, words of masculine,
feminine or neuter gender shall mean and include the correlative
words of the other genders, and words importing the singular number
shall mean and include the plural number, and vice versa. The term
" p e r s on" shall mean any individual, sole proprietorship,
partnership, joint venture, trust, unincorporated organization,
association, corporation, institution or other entity, or any
combination of any of the foregoing, as the context may require.
The headings in the paragraphs of this Agreement are inserted for
convenience of reference only and shall not constitute a part
hereof.
(c) No inference in favor of, or against, any party shall be
drawn from the fact that such party has drafted any portion of this
Agreement, each party having been represented by counsel of its
choice in connection with the negotiation and preparation of this
Agreement and the other Transaction Documents.
16. Sole Discretion of Lender. Whenever Lender's judgment, consent
or approval is required hereunder for any matter or Lender shall have an
option or election hereunder ("Decision Power"), such Decision Power
shall be exercised in the good faith, reasonable discretion of Lender.
Pledgor acknowledges that unless specifically limited herein, Lender is
entitled to exercise its Decision Power in a manner most beneficial to
it.
17. Amendments. This Agreement may be amended only by a written
instrument signed by all the parties hereto.
18. Conflict Among Provision. In the event of a conflict between
any provision of this Agreement and the provisions of any other
document, instrument or agreement which grants Lender a security
interest in all or any part of the Pledged Stock, the provisions of this
Agreement shall control.
<PAGE>
19. Binding Effect. This Agreement shall be binding upon and inure
to the benefit of the parties hereto and their respective heirs,
administrators, personal and legal representatives, executors,
successors, transferees and assigns; provided, however, that Pledgor
shall not be permitted to assign any of its obligations hereunder.
20. Counterparts. This Agreement may be executed in two or more
counterparts, each of which shall be deemed an original, and shall be
binding upon any person executing the same (whether or not all intended
signatures hereon are obtained), and all of which together shall
constitute one and the same instrument.
21. Venue. Venue of any action brought pursuant to this Agreement
or any other Transaction Document shall, at the election of Lender, be
in (and, if any such action is originally brought in another venue, such
action shall, at the election of Lender, be transferred to) a state or
F e deral court of appropriate jurisdiction located in or having
jurisdiction over Midland County, Michigan. Each party to this
Agreement hereby waives any objection to the jurisdiction of or venue in
any such court and to the service of process described in the Michigan
or Federal Rules of Civil Procedure. Each party to this Agreement
hereby waives any right to claim that any such court is an inconvenient
forum or any similar defense.
22. NO SETOFF OR COUNTERCLAIM; WAIVER OF JURY TRIAL
(A) NO SETOFF OR COUNTERCLAIM OF ANY KIND CLAIMED BY PLEDGOR
SHALL STAND AS A DEFENSE TO THE JUDICIAL ENFORCEMENT OF THIS
AGREEMENT AGAINST PLEDGOR, IT BEING HEREBY SPECIFICALLY AGREED AND
STIPULATED THAT ANY SUCH SETOFF OR COUNTERCLAIM SHALL BE MAINTAINED
BY SEPARATE SUIT.
(B) LENDER AND PLEDGOR HEREBY AGREE TO TRIAL BY COURT AND
I R R EVOCABLY WAIVE JURY TRIAL IN ANY ACTION OR PROCEEDING
(INCLUDING, BUT NOT LIMITED TO, ANY COUNTERCLAIM) ARISING OUT OF OR
IN ANY WAY RELATED TO OR CONNECTED WITH THIS AGREEMENT OR ANY OTHER
TRANSACTION DOCUMENT, THE RELATIONSHIP CREATED THEREBY, OR THE
ORIGINATION, ADMINISTRATION OR ENFORCEMENT OF THE INDEBTEDNESS
EVIDENCED AND/OR SECURED BY THIS AGREEMENT OR ANY OTHER TRANSACTION
DOCUMENT.
IN WITNESS WHEREOF, the parties have executed this as of the
day and year first above written.
PLEDGOR:
ACO HOLDINGS, INC.
By:
Name: Linda H. Sleeper
Title: Executive Vice President
ATTEST:
By:
Raymond A. Kilgore, Secretary
[CORPORATE SEAL]
<PAGE>
EXHIBIT 1
PLEDGED STOCK
All of the issued and outstanding capital stock of
Hallmark Financial Corporation
Loan Agreement
As of March 17, 1997
Between
BORROWER
HALLMARK FINANCE CORPORATION
14651 Dallas Parkway, Suite 900
Dallas, Texas 75240
BANK
NATIONSBANK OF TEXAS, N.A.
901 Main Street, 7th Floor
P.O. Box 83100
Dallas, Texas 75283-1000
In consideration of the Loan or Loans described below and the
mutual covenants and agreements contained herein, and intending to be
legally bound hereby, Bank and Borrower agree as follows:
1.0 CERTAIN DEFINITIONS. In addition to any other terms defined
herein, the following terms shall have the meaning set forth with
respect thereto:
"ACO" means ACO Holdings, Inc., a Texas corporation which is wholly
owned by HFS.
"Adjusted Eligible Premium Finance Agreements" at any time, means
the Eligible Premium Finance Agreements adjusted to reflect the addition
or subtraction, as appropriate of: (a) amendments to any Eligible
Premium Finance Agreement; (b) miscellaneous corrections to Eligible
Premium Finance Agreements; (c) cash receipts (not otherwise included in
the definition of Eligible Premium Finance Agreements); (d) any Eligible
Premium Finance Agreement which has been canceled; (e) earned late
charges; (f) earned set up fees; (g) returned checks (uncollected net of
returned check charges); (h) interest and write-offs; (i) change in
unearned interest; and (j) return premiums in course of collections.
"Adjusted LIBO Rate" means, for any Interest Period, a rate of
interest per annum equal to the sum of two and eight-tenths of one
percent (2.80%) plus the LIBO Rate for the applicable Interest Period.
"Adjusted Prime Rate" means a rate of interest per annum equal to
the Prime Rate plus three-eighths of one percent (0.375%).
"Affiliate" of any person means any other person or entity (i)
which directly or indirectly through one or more intermediaries
controls, or is controlled by, or is under common control with, such
person or entity, (ii) which beneficially owns or holds 15% or more of
the equity of such person or entity, or (iii) of which 15% or more of
the equity is beneficially owned or held by such person or entity or a
subsidiary of such person or entity; "control" means the power to direct
the management and policies of such person or entity directly or
indirectly, whether through the ownership of equity, by contract or
otherwise.
<PAGE>
"AH" means American Hallmark Insurance Company of Texas, a Texas
domiciled insurance company which is wholly owned by HFS.
"AHGA" means American Hallmark General Agency, Inc., a Texas
corporation which is wholly owned by ACO.
"Bank Reserve" means, for any period, the amount applicable to such
period as set forth in Schedule 1.0 attached hereto.
"Board" means the Board of Governors of the Federal Reserve System
of the United States of America or any successor governmental body.
"Borrowing Base" at any time, shall be equal to the remainder of
(i) the sum of (A) 60% of Adjusted Eligible Premium Finance Agreements
plus (B) 60% of Eligible Return Premiums as determined in accordance
with this Agreement, minus (ii) the Bank Reserve.
"Business Day" means (i) a day other than Saturday, Sunday or a day
on which Bank is authorized to be closed in the State of Texas, and (ii)
if the applicable Business Day relates to a LIBO Rate Tranche, a day on
which dealings in Dollar deposits are also carried on in the London
interbank market and banks are open for business in London.
"Combined Ratio" means a combined ratio of AH calculated in
accordance with accounting practices prescribed or permitted by the
Texas Department of Insurance or the National Association of Insurance
Commissioners.
"Consequential Loss" means any loss, cost, or expense incurred by
Bank because Borrower pays all or some portion of the Loan prior to the
last day of the applicable Interest Period and includes, without
limitation, the amount (if any) by which (i) the interest which would
have been payable on the prepaid amount had it not been paid prior to
the last day of the Interest Period exceeds (ii) the interest earned to
the extent Bank is able to redeposit the same so prepaid for the balance
of such Interest Period and also includes all expenses and penalties
incurred by Bank in so redepositing such sum.
"Contested in Good Faith" means, as to any payment, tax,
assessment, charge, levy, lien, encumbrance or claim, contesting the
amount, applicability or validity thereof in good faith by appropriate
proceedings or other appropriate actions promptly initiated and
diligently conducted in a manner satisfactory to Bank, provided (a) a
deposit of funds or other security satisfactory to Bank in the full
amount of such contested payment, tax, assessment, charge, levy, lien,
encumbrance or claim has been provided for in a manner satisfactory to
Bank, and (b) the enforcement of the contested payment, tax, assessment,
charge, levy, lien, encumbrance or claim is stayed in a manner
satisfactory to Bank pending the resolution of such contest.
"Default" means any act or occurrence specified in Section 9.0,
without regard to whether any requirement for notice or lapse of time,
or both, or any other condition has been satisfied.
"Dollars" or "$" means lawful money of the United States of
America.
<PAGE>
"Dorinco Loan Documents" means that certain loan agreement dated as
of March 10, 1997, by and between HFS and Dorinco Reinsurance Company,
the promissory note, the security agreement, and all other documents,
instruments, security agreements, pledge agreements, negative pledge
agreements, certificates and agreements executed and/or delivered by
Borrower, any Guarantor or any third party to Dorinco Reinsurance
Company in connection with such loan agreement dated March 10, 1997.
"Eligible Premium Finance Agreements" means all amounts due from
makers pursuant to those Premium Finance Agreements prepared on a form
approved by the Texas Department of Insurance which comply with all
requirements of the Texas Insurance Code and the Texas Department of
Insurance Regulations and which have been created in the ordinary course
of Borrower's business and upon which Borrower's right to receive
payment is absolute, unconditional and not contingent upon the
fulfillment of any condition whatsoever, and shall not include any of
the following:
(a) any Premium Finance Agreement, the payment of which an insurer
or reinsurer has disputed or denied;
(b) any Premium Finance Agreement, the payment of which an insurer
or reinsurer has a right of setoff, defense or discount;
(c) any Premium Finance Agreement which reflects a transaction
having less than ten percent (10%) equity in the premium (i.e.,
representing the financing of more than 90% of the insurance premium of
the particular insurance product);
(d) any Premium Finance Agreement in default which has a balance
due from its maker after realization against all collateral securing
such Premium Finance Agreement;
(e) any Premium Finance Agreement arising out of the funding of an
insurance premium for an insurance product issued by, pursuant to, or in
the Texas Automobile Insurance Plan;
(f) any Premium Finance Agreement arising out of the funding of an
insurance premium for any insurance product originated by an agent doing
business outside of the State of Texas or which is an insurance product
otherwise governed by or subject to the laws of a state other than the
State of Texas;
(g) any Premium Finance Agreement arising out of a transaction
where the insurance product is issued or written by an entity other than
AH on behalf of State and County Mutual Fire Insurance Company;
(h) any Premium Finance Agreement which does not have 75% or more
of the premium balance reinsured by a third party insurance company with
an A.M. Best rating of A- or higher; or
(i) any Premium Finance Agreement arising out of a transaction
where the managing agent therefor is an entity other than AHGA
"Eligible Return Premiums" means amounts owed to Borrower by
insurers or reinsurers which are not more than 5 days past due from the
original due date as required by applicable Governmental Authorities,
the obligation of insurers or reinsurers to pay Borrower having arisen
<PAGE>
from the cancellation of an insurance policy funded by Borrower;
provided, however, this definition shall not include any amounts
included in the definition of Eligible Premium Finance Agreements.
"Event of Default" means any act or occurrence specified in Section
9.0 hereof.
"Expiration Date" means 2 p.m. on September 17, 1998 or any other
date on which the Loans become due and payable pursuant to the terms of
this Agreement.
"GAAP" means those accounting principles applied on a consistent
basis generally accepted from time to time in the certified public
accounting profession (including those set forth in the Opinions of the
Accounting Principles Board of the American Institute of Certified
Public Accountants or statements of the Financial Accounting Standards
Board which may be applicable at the time in question); and "applied on
a consistent basis" means that the accounting principles observed in the
period covered by any report required under the terms of this Agreement
are compatible in all material respects with those applied in any
preceding period and report.
"Governmental Authority" means any nation or government, any
federal, state, local, or other political subdivision thereof, any
department, commission, board, bureau, agency, public authority,
instrumentality, court, or other entity exercising executive,
legislative, judicial, regulatory, or administrative functions of
government.
"Gross Premium" means the gross premium(s) of AH calculated in
accordance with accounting practices prescribed or permitted by the
Texas Department of Insurance or the National Association of Insurance
Commissioners.
"HCS" means Hallmark Claims Services, Inc., a Texas corporation
which is wholly owned by ACO.
"HFS" means Hallmark Financial Services, a Nevada corporation.
"Hazardous Materials" include all materials defined as hazardous
wastes or substances under any local, state or federal environmental
laws, rules or regulations, and petroleum, petroleum products, oil and
asbestos.
"Indebtedness" means (a) indebtedness or liability for borrowed
money; (b) obligations evidenced by bonds, debentures, notes, or other
similar instruments; (c) obligations for the deferred purchase price of
property or services (including trade obligations); (d) obligations as
lessee under leases which should have been or should be, in accordance
with GAAP, recorded as capital leases; (e) current liabilities in
respect of unfunded vested benefits under plans covered by Title IV of
the Employee Retirement Income Security Act of 1974; (f) obligations
under letters of credit; (g) obligations under acceptance facilities;
(h) all guarantees, endorsements (other than for collection or deposit
in the ordinary course of business), and other contingent obligations to
purchase, to provide funds for payment, to supply funds to invest in any
person or entity, or otherwise to assure a creditor against loss; (i)
obligations secured by any mortgage, lien, pledge or security interest
<PAGE>
or other charge or encumbrance on property, whether or not the
obligations have been assumed; and (j) obligations to redeem or
repurchase any capital stock, warrants or stock equivalents.
"Interest Expense" means for any period the sum of (i) the
aggregate interest expense for such period determined in accordance with
GAAP, including the portion of any obligation allocable to interest
expense under a capital lease for such period plus (ii) bad debt expense
of Borrower, determined in a manner consistent with the Borrower's
internally prepared financial statements dated November 30, 1996.
"Interest Payment Date" means (i) the last Business Day of each
calendar month, or if earlier occurring in any calendar month with
respect to any LIBO Rate Tranche, the last day of the Interest Period
applicable to such LIBO Rate Tranche, and (ii) the Expiration Date.
"Interest Period" means for each LIBO Rate Tranche, the period
commencing on the date such LIBO Rate Tranche is made or, in the case of
a rollover to a successive Interest Period, the last day of the
immediately preceding Interest Period and, except as provided below,
ending three (3), six (6) or twelve (12) calendar months thereafter, as
Borrower may select in accordance with the terms of this Agreement;
provided that all Interest Periods are subject to the following terms
and conditions: (A) all Interest Periods which would otherwise end on a
day which is not a Business Day shall end on the next succeeding
Business Day unless such next succeeding Business Day falls in the next
succeeding calendar month, in which case such Interest Period shall end
on the next preceding Business Day; (B) no Interest Period may be
selected that ends later than the Expiration Date; (C) an Interest
Period once selected by Borrower shall be binding upon Borrower and
irrevocable; and (D) each Interest Period shall terminate on the
numerical day of the last calendar month of such Interest Period which
corresponds to the day such Interest Period began unless there is no
such corresponding day in such month, in which case such Interest Period
shall terminate on the last Business Day of such calendar month.
"Interest Rate Option" means the Adjusted LIBO Rate or the Adjusted
Prime Rate.
"Lending Office" means for each LIBO Rate Tranche the office of
Bank (or its Affiliate) designated for such LIBO Rate Tranche from time
to time by Bank.
"LIBO Rate" means, for each Interest Period, a rate per annum
(rounded upwards, if not already a whole multiple of 1/16 of one
percent, to the next higher 1/16 of one percent) determined by Bank to
be equal to the quotient obtained by dividing (a) the London Interbank
Offered Rate for the relevant Interest Period by (b) the remainder of
one (1) minus the applicable Reserve Requirement on the first day of the
relevant Interest Period (rounded upwards, if not already a whole
multiple of 1/16 of one percent, to the next higher 1/16 of one
percent).
"LIBO Rate Tranche" means each Tranche the interest on which is
calculated with reference to an Adjusted LIBO Rate.
"Loan(s)" means collectively any and all loans or advances
heretofore or hereafter made by Bank to Borrower.
<PAGE>
"Loan Documents" means this Agreement, the Note, the Guaranty
Agreements, the Security Agreement, and all other documents,
instruments, guarantees, security agreements, deeds of trust, pledge
agreements, certificates and agreements executed and/or delivered by
Borrower, any Guarantor or third party to Bank in connection with any
Loan.
"London Interbank Offered Rate" means, for the relevant Interest
Period, the rate of interest per annum (rounded upwards, if not already
a whole multiple of 1/16 of one percent, to the next higher 1/16 of one
percent) equal to the rate at which Dollar deposits would be offered by
Bank (or its affiliate) at its in London, England (or if Bank, at the
time any determination is made, does not maintain an office in London,
England, the principal office of any affiliate of Bank in London,
England) to major banks in the London interbank market at 11:00 a. m.
London, England two (2) Business Days prior to the commencement of the
relevant Interest Period for a period of time equal or comparable to and
commencing on such Interest Period and in an amount equal or comparable
to the principal balance of the Loan to be disbursed or outstanding
during such Interest Period.
"Loss Ratio" means the loss ratio of AH calculated in accordance
with accounting practices prescribed or permitted by the Texas
Department of Insurance or the National Association of Insurance
Commissioners.
"Maximum Amount" means the lesser of $8,000,000 or the Borrowing
Base.<PAGE>
"Maximum Rate" means the higher of the maximum interest rate
allowed by applicable United States or Texas law as amended from time to
time and in effect on the date for which a determination of interest is
made.
"Net Operating Income Available For Distribution" of Borrower means
for any period an amount equal to the remainder of (i) Net Operating
Income for such period, minus (ii) any charges for federal, state, local
and foreign income taxes for such period; provided, however, in no event
shall such remainder be less than zero. As used herein, "Net Operating
Income" of Borrower means for any period an amount equal to the
remainder of (i) total revenues, minus (ii) the aggregate Interest
Expense for such period, minus (iii) normal and customary operating
expenses determined in accordance with GAAP.
"Net Premium" means the net premium of AH calculated in accordance
with accounting practices prescribed or permitted by the Texas
Department of Insurance or the National Association of Insurance
Commissioners.
"Notice of Borrowing" means an irrevocable notice signed by
Borrower requesting that a particular advance be made and specifying a
permitted Interest Rate Option to be applicable to all or a portion of
such advance and containing the information and delivered to Bank from
time to time as required by Section 2.5 and Section 2.6.
"Obligations" means the obligations of Borrower:
<PAGE>
(a) to pay all Indebtedness arising out of this Agreement, any
future advances under this Agreement, and all renewals, extensions or
amendments of such Indebtedness or any part thereof or any such future
advances;
(b) to pay the principal of and interest on the Note in accordance
with the terms thereof, and all renewals, extensions, modifications and
amendments of such Note or any part thereof, and any future advances
made pursuant thereto;
(c) to pay any and all other Indebtedness of Borrower to Bank of
every kind, nature or description, direct or indirect, primary or
secondary, secured or unsecured (including overdrafts), joint or
several, absolute or contingent, due or to become due, now existing or
hereafter arising, regardless of how it may be evidenced, and all future
advances, whether or not presently contemplated by the parties;
(d) to perform fully all of the terms and provisions of each of the
instruments constituting the Loan Documents; and
(e) to reimburse Bank, on demand, for all of Bank's expenses and
costs, plus interest thereon at the Maximum Rate, from the date Bank
expends any funds until reimbursed, including the reasonable fees and
expenses of its counsel, incurred in connection with the preparation,
administration, amendment, modification, or enforcement of this
Agreement or any of the Loan Documents or other documents required
hereunder.
"Pledged Stock" means all of the following, whether now owned or
hereafter acquired: (i) all of Borrower's capital stock; (ii) all
certificates (if any), options, rights, warrants, coupons, and other
distributions issued as an addition to, in substitution or exchange for,
or on account of, such shares of capital stock, and (iii) all proceeds
of the foregoing.
"Premium Finance Agreement" means an agreement by which an insured
or prospective insured promises to pay Borrower the amount advanced
under the agreement to AH on behalf of State and County Mutual Fire
Insurance Company or to AHGA in payment of premium on an insurance
contract.
"Prime Rate" means the fluctuating rate of interest established by
Bank from time to time, at its discretion, whether or not such rate
shall be otherwise published. The Prime Rate is established by Bank as
an index and may or may not at any time be the best or lowest rate
charged by Bank on any loan.
"Prime Rate Tranche" means a Tranche the interest on which is
calculated with reference to an Adjusted Prime Rate.
"Reinsurance Agreements" means (a) that certain 100% Quota Share
Reinsurance Agreement effective July 1, 1996, between State and County
Mutual Fire Insurance Company and AH, (b) that certain Quota Share
Retrocession Agreement effective July 1, 1996, among AH, and the
subscribing reinsurers who are additional parties thereto, (c) that
certain Automobile Physical Damage Catastrophe Excess of Loss
Reinsurance Agreement effective July 1, 1996, among AH, and the
subscribing reinsurer who is an additional party thereto, (d) that
<PAGE>
certain Guaranty Agreement effective July 1, 1996 between State and
County Mutual Fire Insurance Company and Kemper Reinsurance Company; (e)
that certain Guaranty Agreement effective July 1, 1996 between State and
County Mutual Fire Insurance Company and Skandia America Reinsurance
Corporation; (f) that certain Guaranty Agreement effective July 1, 1996
between State and County Mutual Fire Insurance Company and Dorinco
Reinsurance Company; (g) that certain Guaranty of Performance and Hold
Harmless Agreement effective July 1, 1996 between Hallmark Financial and
Kemper Reinsurance Company; (h) that certain Guaranty of Performance and
Hold Harmless Agreement effective July 1, 1996 between HFS and Skandia
America Reinsurance Corporation; (i) that certain Guaranty of
Performance and Hold Harmless Agreement effective July 1, 1996 between
HFS and Dorinco Reinsurance Company; and (j) all amendments and
modifications of, or substitutions and replacements for, each of the
foregoing documents.
"Regulation D" means Regulation D (12 C.F.R. 204) and all
amendments and supplements thereof and any successors or replacements
therefor as promulgated from time to time by the Board.
"Reserve Requirement" with respect to each Interest Period means
the daily average of the stated maximum rate (expressed as a decimal) at
which reserves (including all basic, supplemental, marginal, emergency,
special, and other reserves and taking into account any transitional
adjustments or other scheduled changes in reserve requirements during
such Interest Period) are required by the Board (including those under
Regulation D) to be maintained during such Interest Period with respect
to the LIBO Rate, for Eurocurrency liabilities (as such term is defined
in Regulation D) but without benefit or credit for prorations,
exemptions or offsets that might otherwise be available from time to
time under Regulation D. The Reserve Requirement shall reflect any
other reserves required to be maintained against with respect to LIBO
Rate Tranches (1) any category of liabilities that includes deposits by
reference to which the LIBO Rate is to be determined or (2) any category
of extension of credit or other assets that includes LIBO Rate Tranches.
"Solvent" means as of any time of determination with respect to a
person or entity (i) the fair market value of its assets exceeds the
amount of its liabilities (including contingent liabilities), (ii) the
present fair saleable value of its assets exceeds the probable liability
on existing debts as they become due, (iii) such person or entity is
then able and expects to be able to pay its debts (including contingent
liabilities) as they become due, and (iv) such person or entity has and
expects to have sufficient capital (having due regard for the prevailing
practice in the industry in which it is engaged) to carry on its
business as conducted or proposed to be conducted.
"Statutory Capital and Surplus" means capital and surplus
determined in accordance with statutory accounting practices from time
to time prescribed or permitted by the Texas Department of Insurance or
the National Association of Insurance Commissioners for stock property
and casualty insurance companies in Texas.
<PAGE>
"Tangible Net Worth" means the sum of the excess of total assets
over Total Liabilities, each determined in accordance with GAAP
consistent with those applied in the preparation of the financial
statements previously furnished to Bank, excluding however, from the
determination of total assets all assets which would be classified as
intangible assets under GAAP.
"Total Liabilities" means as of any date the Indebtedness of
Borrower and its subsidiaries reflected on the balance sheet of Borrower
as of such date, determined in accordance with GAAP.
"Tranche" means either a LIBO Rate Tranche or a Prime Rate Tranche.
"Trigger Event" means the occurrence of one or more of the
following events:
(i) As of the end of any fiscal quarter, AH's Combined Ratio for the
four (4) immediately preceding fiscal quarters of AH's operations is
greater than 107%;
(ii) As of the end of any fiscal quarter, AH's Loss Ratio for the four
(4) immediately preceding fiscal quarters of AH's operations is greater
than 83%;
(iii) Borrower's Interest Coverage Ratio (as defined in Section 6.1
hereof) as of the end of any fiscal quarter is less than 1.80 to 1.0;
(iv) As of the date of any reporting period required by law or the
Texas Department of Insurance, the Tangible Net Worth of Borrower
(determined in accordance with GAAP) is less than the amount set forth
below for the calendar year indicated:
1997 - $7,890,000
1998 - $8,200,000; or
(v) As of the date of any reporting period required by law or the Texas
Department of Insurance, the Statutory Capital and Surplus of AH is less
than $4,200,000 or shall have decreased more than 15% from the
comparable reporting period of the preceding calendar year.
2.0 LOANS.
2.1 Loans. Bank agrees, subject to the terms and conditions hereof, to
extend to Borrower a revolving line of credit, pursuant to which Bank
will lend Borrower at any time and from time to time on or before the
Expiration Date, sums which may be repaid and reborrowed as provided
herein and which shall not exceed at any one time outstanding the
Maximum Amount. Whenever Borrower desires to borrow hereunder, it shall
deliver a Notice of Borrowing to Bank in the manner specified in Section
2.5 and Section 2.6 hereof and in a manner otherwise satisfactory to
Bank. Borrower agrees that the Loans shall be used solely to finance
Premium Finance Agreements.
2.2 Note. The obligation of Borrower to repay the aggregate principal
balance of all Loans hereunder outstanding at any one time shall be
evidenced by a promissory note (such instrument, together with any and
all renewals and extensions and rearrangements thereof being
collectively referred to herein as the "Note"). The Note shall (a) be
<PAGE>
dated March 17, 1997, (b) be payable in the manner described in
Section 2.3 hereof, (c) bear interest from the date thereof until paid
in the manner provided in the Note, (d) be entitled to the benefits of
this Agreement and the security provided for herein, and (e) be in such
form as is acceptable to Bank.
2.3 Amortization. Accrued interest on the unpaid principal balance of
the Note shall be due and payable in arrears on each Interest Payment
Date applicable to each Tranche. The unpaid principal balance of the
Note, and all accrued, unpaid interest thereon, shall be due and payable
on the Expiration Date.
2.4 Interest on the Loan and Other Obligations.
(a) Except as otherwise provided in subsections (b) and (c), the
outstanding principal balance of the Loan shall bear interest from the
date funded until paid, at a rate per annum equal to the lesser of
(x) the Maximum Rate or (y) the rate for each Tranche determined
according to the following:
(A) for the Prime Rate Tranche, a fluctuating rate per annum equal to
the Adjusted Prime Rate; or
(B) for each LIBO Rate Tranche, a rate equal to the Adjusted LIBO Rate.
(b) If, at any time with respect to the Prime Rate Tranche or during
the Interest Periods of LIBO Rate Tranche, the interest rate then in
effect with respect to such Tranche or Tranches would exceed the Maximum
Rate Bank could charge, then, notwithstanding the other provisions
hereof and Borrower's election, the interest rate chargeable with
respect to such affected Tranche or Tranches shall immediately become
the Maximum Rate, provided that such affected Tranche or Tranches shall
thereafter accrue interest at the Maximum Rate until such time as Bank
has received a sum equal to the amount of interest which would have
accrued on such affected Tranche or Tranches had such Tranche or
Tranches accrued interest at the interest rate otherwise applicable
thereto. So long as interest is calculated pursuant to this provision,
Borrower is not entitled to elect that any Tranche be, or to convert the
interest rate to the rate applicable to, a LIBO Rate Tranche and the
interest rate for the Prime Rate Tranche shall not be reinstated.
(c) All past due payments of principal and, past due interest to the
extent permitted by law, shall bear interest until paid at a default
rate equal to the Maximum Rate, or if there is no such Maximum Rate,
then at a rate equal to 6.0% above the interest rate then in effect.
(d) With respect to a LIBO Rate Tranche, in the event no selection of
an Interest Period is made by Borrower, the relevant Interest Period
shall be for three (3) calendar months.
(e) The amount of the monthly payment of interest shall be determined
by Bank, and Bank's determination thereof shall be conclusive and
binding, absent manifest error.
2.5 Procedure to Establish Interest Rates.
<PAGE>
(a) Except as provided in subsection (g) hereof, the interest rate or
rates applicable to each Tranche shall be established pursuant to a
Notice of Borrowing which shall be delivered to Bank not later than
10:00 a.m. (Dallas, Texas time) on the date it is required to be
delivered. If the Interest Rate Option to be applicable is the Adjusted
Prime Rate, the Notice of Borrowing shall be delivered on the initial
funding date (in the case of the initial advance) or the date of
conversion (in the case of a conversion to a Prime Rate Tranche). If
the Interest Rate Option to be applicable is the Adjusted LIBO Rate, the
Notice of Borrowing shall be delivered not less than three (3) Business
Days prior to the initial funding date (in the case of the initial
advance) or the date of renewal or conversion (in the case of the
renewal of or conversion to a LIBO Rate Tranche).
(b) Each Notice of Borrowing shall specify (i) the principal amount of
the Loan applicable to the Tranche; (ii) the Interest Rate Option
selected; (iii) the effective date of the renewal or conversion of the
Interest Rate Option applicable to the Tranche involved, which shall be a
Business Day; and (iv) if the Interest Rate Option is the Adjusted LIBO
Rate, the Interest Period for such Tranche; provided that the minimum
principal amount of each Tranche shall be $250,000.
(c) Borrower may have in effect at any one time no more than twelve
(12) Tranches in the aggregate and so long as any Default or Event of
Default continues may not select the Adjusted LIBO Rate to apply to any
Tranche.
(d) No renewal or conversion of a LIBO Rate Tranche may be made except
on the last day of the Interest Period applicable thereto.
(e) The election of the Adjusted LIBO Rate is effective only for the
Interest Period specified; and after the end of such Interest Period,
unless Borrower has effectively elected a renewal or conversion, the
applicable Interest Rate Option shall be the Adjusted Prime Rate until
Borrower effectively elects a different interest rate.
(f) No election of or renewal of or conversion to an Adjusted LIBO Rate
may occur while any Default or Event of Default exists or if such
conversion would occur at a time when the Maximum Rate would be less
than the rate of interest which would be applicable to such LIBO Rate
Tranche.
(g) If Borrower does not specify in accordance with the terms hereof or
is not entitled to elect the type of rate to apply to a Tranche,
Borrower shall be deemed to have specified the Adjusted Prime Rate for
such Tranche.
2.6 Advances. Whenever Borrower desires to borrow hereunder, it shall
make its request by delivering to Bank a Notice of Borrowing in the form
of Exhibit A attached hereto. Bank shall be under no obligation to make
any advance to Borrower if the sum of the requested advance plus the
then outstanding principal balance of the Note will exceed the Maximum
Amount.
<PAGE>
2.7 Mandatory Payment. In the event the aggregate principal balance of
advances outstanding under the Note exceeds the Maximum Amount, Borrower
shall immediately and without notice or demand of any kind, make such
payments as shall be necessary to reduce the principal balance of the
Note to or below the Maximum Amount.
2.8 Prepayments. Borrower may from time to time upon five (5) Business
Days' prior written notice to Bank and subject to any other limitations
in this Agreement prepay the Loan in whole or in part without penalty or
premium, except as may be incurred in connection with a prepayment of a
LIBO Rate Tranche prior to the end of the applicable Interest Period,
provided any partial prepayment shall be not less than One Hundred
Thousand And No/100 DOLLARS ($100,000) or an integral multiple thereof.
Prepayments of principal shall be applied first to the Prime Rate
Tranche and then to LIBOR Tranches selected by Borrower; provided that
Borrower shall select such LIBOR Tranches as will minimize the
Consequential Loss resulting from such prepayment; provided further,
that if a Default or an Event of Default exists or if Borrower fails to
select the Tranches to be prepaid, Bank may select such Tranches. Any
such prepayment shall be made subject to the requirements of
Section 2.12, 2.13 and 2.14.
2.9 Computations, Etc. Interest shall be computed on the basis of a
year of 360 days for the actual number of days (including the first day
but excluding the last day) occurring in the period for which such
interest is payable, unless such calculation would result in a usurious
rate, in which case interest shall be calculated on a per annum basis of
a year of 365 or 366 days, as the case may be. Each determination by
Bank of an interest rate or fee hereunder shall, except for manifest
error, be final, conclusive and binding for all purposes.
2.10 Usage Fee. Borrower will pay on the last day of each calendar
quarter commencing on September 30, 1997 and on the Expiration Date, a
usage fee accruing at a rate per annum of one-fourth of one percent
(0.25%) of the average daily unused portion of the Loan for the period
from and including July 1, 1997 through and including the Expiration
Date.
2.11 Loan Commitment Fee. Borrower has agreed to pay Bank a loan
commitment fee of $27,000 as compensation for Bank's commitment to
extend the Loan to Borrower. On the closing date Borrower shall pay
Bank the full amount of the commitment fee.
2.12 Payment of Funding Losses.
(a) Borrower shall indemnify Bank against any loss or expense incurred
by it as a result of any failure by Borrower to fulfill, on or before
the date specified for any renewal or conversion of the interest rate
applicable to any Tranche, the conditions thereof, including, without
limitation, any loss (including loss of anticipated profits) or expense
incurred by reason of the liquidation or re-employment of deposits or
other funds when such renewal or conversion of the interest rate
applicable to any Tranche is not made on such date as a result of such
failure. A certificate in reasonable detail as to the amount of any
such loss or expense submitted to Borrower shall be conclusive as to the
amount thereof except in cases of manifest error. A copy of any such
statement submitted by Bank shall be given to Borrower.
<PAGE>
(b) If for any reason Bank receives all or part of its portion of the
principal amount of a LIBO Rate Tranche prior to the last day of the
Interest Period applicable thereto, Borrower shall pay Bank the amount
(if any) of the Consequential Loss occasioned by such payment. A
certificate of such Bank submitted to Borrower shall be conclusive
absent manifest error.
2.13 Change in Circumstances.
(a) If Bank determines (which determination shall be made in good faith
and shall be conclusive and binding upon Borrower) that (i) adequate and
reasonable means do not or will not exist for ascertaining the interest
rate, (ii) Dollar deposits in the relevant amounts and for the relevant
Interest Period are not available to Bank in the London interbank
market, or (iii) the LIBO Rate does not accurately reflect the cost of
funds to Bank, then Bank shall forthwith give notice of such
determination to Borrower, whereupon, until Bank notifies Borrower that
the circumstances giving rise to such suspension no longer exist, the
obligation of Bank to permit an Adjusted LIBO Rate election shall be
suspended and the Adjusted LIBO Rate shall be converted on the last day
of the then current applicable Interest Period to the Adjusted Prime
Rate.
(b) If after the date of this Agreement the introduction of or any
change in any applicable law, rule or regulation or in the
interpretation or administration thereof by any Governmental Authority
charged with the interpretation or administration thereof or compliance
by Bank with any request or directive (whether or not having the force
of law) of any authority makes it unlawful or not reasonably possible
for Bank (or its Lending Office) to make, maintain or fund the Loan,
Bank shall forthwith give notice thereof to Borrower. Before giving any
notice pursuant to this Section, Bank shall if possible designate a
different Lending Office if such designation will avoid the need for
giving such notice and in Bank's sole judgment will not be otherwise
disadvantageous to Bank. Upon receipt of such notice, the Adjusted
Prime Rate will be substituted for the Adjusted LIBO Rate. If
circumstances subsequently change so that Bank is not further affected,
the obligation to permit election of the Adjusted LIBO Rate shall be
reinstated upon written request of Borrower.
2.14 Capital Adequacy and Increased Costs.
(a) If after the date hereof (i) the adoption or implementation,
change, or phasing in of any law or regulation or in the interpretation
thereof by any domestic or foreign Governmental Authority charged with
the administration thereof or (ii) compliance with any directive,
guideline or request from any central bank or domestic or foreign
Governmental Authority (whether or not having the force of law)
promulgated or made after the date hereof, in either case, affects or
would affect the amount of capital required or expected to be maintained
by Bank or any corporation directly or indirectly controlling Bank, or
has or would have the effect of reducing the rate of return on such
capital or the asset value of the Loan made hereunder to a level below
that which Bank or such controlling corporation could have achieved but
for such adoption, implementation, change, phasing in, or compliance
(after taking into account Bank's or such corporation's policies
regarding capital adequacy) by an amount deemed by Bank to be material
to Bank or such corporation, then, within ten (10) days after
<PAGE>
written demand by Bank (accompanied by a statement of the type referred
to below), Borrower shall pay to Bank such additional amount or amounts
as shall be sufficient to compensate Bank or such controlling
corporation for any such reduction.
(b) If any law, regulation, treaty, or directive hereafter enacted,
promulgated, approved, or issued or any change in any presently existing
law, regulation, treaty, or directive therein or in the interpretation
or application thereof by any Governmental Authority charged with the
administration thereof (whether or not having the force of law) or
compliance by Bank or any corporation directly or indirectly owning or
controlling Bank (in each case, the "Affected Person") with any request
or directive from any central bank or other Governmental Authority,
agency, or instrumentality
(i) subjects such Affected Person to any tax, duty, or other charge of
any kind whatsoever with respect to the Loan, or its obligations under
this Agreement to make the Loan, or any amounts payable to it hereunder
(and any additional income or franchise taxes resulting therefrom), or
changes the basis of taxation of payments to such Affected Person of
principal, interest, or any other amount payable hereunder in respect of
the Loan (except for imposition of, or change in the rate of, any tax
(A) on the overall net income of such Affected Person or direct
substitute for such tax, or (B) which would not have been imposed if
such Affected Person complied with any certification, information,
documentation or other reporting requirement); or
(ii) imposes, modifies, or makes applicable any reserve, special
deposit, compulsory loan, assessment, increased cost, or similar
requirement against assets held by, or deposits of, or advances or loans
or letters of credit by, or other credit extended by, or any other
acquisition of funds by, any office of such Affected Person in respect
of the Loan which is not otherwise expressly included in the
determination of the applicable rate or rates of interest hereunder,
and the result of any of the foregoing is to increase the cost of
making, renewing, or maintaining the Loan or to reduce any amount
receivable by Bank hereunder in respect of any of the foregoing then, in
any such case, Borrower shall promptly pay Bank upon demand any
additional amounts necessary to compensate Bank for such additional cost
(including any penalties, interest, and out-of-pocket expenses paid to
third parties, but excluding any late payment penalties which resulted
solely from Bank's inaction in seeking indemnification hereunder) or
reduction in such amount receivable.
(c) Bank will, if possible, designate a different lending office if
such will avoid the need for, or reduce the amount of, any compensation
hereunder and is not otherwise disadvantageous to Bank. This Section
shall apply and Bank is entitled to payment hereunder, notwithstanding
any possible invalidity or inapplicability of any event or provision
which may require payment hereunder. A statement setting forth the
calculations of any additional amounts payable submitted by Bank to
Borrower shall be conclusive absent manifest error. No delay by Bank in
demanding the payment of any additional amounts pursuant to this Section
shall constitute a waiver of its right to demand payment of such amounts
at any subsequent time. In determining the additional amount payable
pursuant to this Section, Bank shall take into account any transitional
adjustment or phase-in provisions of such reserve requirements which
would reduce the reserve requirement otherwise applicable; provided,
<PAGE>
however, Bank, in its sole discretion, may determine the allocation of
reserve requirements. Each such determination made by Bank, and each
notification to Borrower under this Section, shall be presumptive as to
the matters therein set forth in the absence of manifest error in
calculation. Bank agrees to provide on request by Borrower such
certificates as are reasonably required, and take such other actions as
are reasonably necessary to claim such exemptions as Bank may be
entitled to claim in respect of all or a portion of any sums which are
otherwise required to be paid or deducted or withheld pursuant to this
Section. This Section shall not be construed, nor shall it operate, to
require Borrower to pay any sums not permitted or in excess of the
limits imposed by applicable law.
2.15 Collateral. The payment and performance of the Note and all of
the other Obligations of Borrower to Bank pursuant to the Loan Documents
shall be secured by the following:
(a) The collateral assignment of, and pledge and grant of a first
priority security interest against all of Borrower's assets, including,
without limitation, all of Borrower's Premium Finance Agreements (but
excluding those Premium Finance Agreements sold to Peregrine Premium
Finance L.C. prior to the date hereof) now existing or hereafter
created, and all accounts receivable now existing or hereafter created
(including those arising from the Reinsurance Agreements, Premium
Finance Agreements and unearned premium reimbursements), and all notes
receivable, general intangibles and chattel paper of Borrower pursuant
to the terms of an agreement (the "Security Agreement") which shall be
satisfactory to Bank.
(b) The unconditional guaranties of HFS, ACO, AHGA, HCS, and American
Hallmark Agencies, Inc. ("Guarantors") pursuant to the terms of one or
more guaranty agreements (each a "Guaranty Agreement") which shall be
satisfactory to Bank.
3.0 CONDITIONS PRECEDENT. The obligations of Bank as set forth herein
are subject to the satisfaction (in the opinion of Bank), unless waived
in writing by Bank, of each of the following conditions (Sections 3.1,
3.3, 3.4, 3.6 and 3.7 are conditions to closing and Sections 3.2, 3.5
and 3.8 are conditions to the initial funding):
3.1 Effectiveness of Loan Documents. Each of the Loan Documents shall
be in full force and effect.
3.2 Opinion. There shall have been delivered a favorable opinion of
counsel for Borrower and Guarantors covering such matters incident to
the Loan or the Loan Documents as Bank may reasonably request, including
those matters described in Sections 8.1, 8.2, 8.3, 8.4, 8.5, 8.6, 8.12
and 8.13 hereof.
3.3 Representations and Warranties. All representations and warranties
contained herein or in the documents referred to herein or otherwise
made in writing in connection herewith or therewith shall be true and
correct with the same force and effect as though such representations
and warranties have been made on and as of this date.
<PAGE>
3.4 Documentation and Proceedings. Bank shall have received such
evidence as Bank requires of the existence, good standing, authority and
capacity of Borrower and each Guarantor to execute, deliver and perform
the Loan Documents.
3.5 Portfolio Audit. There shall have been delivered to Bank a
portfolio audit of Borrower's portfolio (currently owned by Peregrine
Premium Finance L.C.) of Premium Finance Agreements performed by an
independent entity which is satisfactory to Bank.
3.6 Expenses. Borrower shall have paid all reasonable expenses of Bank
in connection with the preparation of the Loan Documents and the making
of the Loan, including but not limited to, the fees and expenses of
counsel for Bank.
3.7 Closing of Dorinco Loan Transaction. HFS shall have consummated
the transactions contemplated by the Dorinco Loan Documents in form and
content satisfactory to Bank and shall have made an equity capital
contribution to Borrower in an amount not less than $7,000,000.
3.8 Form of Premium Finance Agreement Approved by the State Board of
Insurance. Bank shall have received such evidence as Bank requires of
the approval by the Texas State Board of Insurance of the form of
Premium Finance Agreement to be utilized by Borrower in its premium
finance business.
4.0 CONDITIONS PRECEDENT TO SUBSEQUENT LOANS. The obligation of Bank
to make each Loan to Borrower is subject, at the time of the funding of
each such Loan, to the satisfaction (in the opinion of Bank), unless
waived in writing by Bank, of each of the following conditions:
4.1 Effectiveness of Loan Documents. Each of the Loan Documents shall
be in full force and effect.
4.2 Availability. The sum of the then outstanding principal balance of
the Note and the amount of the requested Loan shall be equal to or less
than the Maximum Amount.
4.3 Representations and Warranties. All representations and warranties
contained herein or in the documents referred to herein or otherwise
made in writing in connection herewith or therewith shall be true and
correct with the same force and effect as though such representations
and warranties have been made on and as of the funding date.
4.4 No Default. There shall exist no event of default hereunder or
under the Dorinco Loan Documents and no condition, event or act which,
with the giving of notice or lapse of time or both, would constitute an
event of default hereunder or under the Dorinco Loan Documents.
4.5 Change in Condition. No adverse change in condition (financial or
otherwise) of Borrower or any Guarantor or any other event shall have
occurred which materially adversely affects (i) the condition (financial
or otherwise) of Borrower or any Guarantor, or (ii) the validity or
enforceability of any of the Loan Documents, or (iii) the ability of
Borrower or any Guarantor to meet and carry out its Obligations under
the Loan Documents or to perform the transactions contemplated hereby or
thereby.
<PAGE>
5.0 AFFIRMATIVE COVENANTS. Until full payment and performance of all
Obligations of Borrower under the Loan Documents, Borrower will, unless
Bank consents otherwise in writing (and without limiting any requirement
of any other Loan Document):
5.1 Financial Statements and Other Information. Maintain a system of
accounting satisfactory to Bank and in accordance with GAAP applied on a
consistent basis throughout the period involved, permit Bank's officers
or authorized representatives to visit and inspect Borrower's books of
account and other records at such reasonable times and as often as Bank
may desire, and pay the reasonable fees and disbursements of any
accountants or other agents of Bank selected by Bank for the foregoing
purposes. Unless written notice of another location is given to Bank,
Borrower's books and records will be located at Borrower's chief
executive office set forth above. The financial statements described in
paragraphs (e), (f) and (g) below shall be prepared in form and content
acceptable to Bank and by independent certified public accountants
acceptable to Bank. In addition, Borrower will:
(a) Furnish to Bank a monthly borrowing base certificate in the form of
Exhibit B attached hereto, together with a "back-up tape" containing
comprehensive data regarding the portfolio of Premium Finance Agreements
and all information necessary to substantiate the calculation of the
Borrowing Base in such monthly borrowing base certificate, within thirty
(30) days following the end of each calendar month.
(b) Furnish to Bank an aging of its Premium Finance Agreements and
other accounts and notes receivable in the form of Exhibit D hereto
within thirty (30) days following the end of each calendar month.
(c) Upon request of Bank, furnish to Bank internally routinely prepared
monthly financial statements (including a balance sheet and an income
statement) of Borrower for each calendar month of each calendar year of
Borrower, within forty-five (45) days after the request is made by Bank.
(d) Furnish to Bank quarterly internally prepared consolidated and
consolidating financial statements (including a balance sheet and an
income statement) of HFS, ACO and Borrower for each fiscal quarter of
each fiscal year of HFS, ACO and Borrower, within forty-five (45) days
after the close of each such fiscal quarter.
(e) Furnish to Bank annual audited financial statements (including a
balance sheet, and statements of financial condition, income, cash flows
and changes in shareholders' equity) of Borrower for each fiscal year of
Borrower prepared in accordance with GAAP on an audited basis within one
hundred twenty (120) days following the end of Borrower's fiscal year.
(f) Furnish to Bank annual audited consolidated financial statements
(including a balance sheet, and statements of financial condition,
income, cash flows and changes in shareholders' equity) of AH, prepared
in accordance with statutory requirements and any other applicable
requirements of the Texas Department of Insurance within one hundred
twenty (120) days following each fiscal year of AH.
<PAGE>
(g) Furnish to Bank annual audited financial statements (including a
balance sheet, and statements of financial condition, income, cash flows
and changes in shareholders' equity) of HFS prepared in accordance with
GAAP within one hundred twenty (120) days of the end of the fiscal year
of such entity.
(h) Furnish to Bank a copy of the annual report on Form 10-KSB filed
with the Securities and Exchange Commission of HFS as soon as available,
and in any event within one hundred twenty (120) days of the end of the
fiscal year of such entity.
(i) Furnish to Bank a compliance certificate in the form of Exhibit C
attached hereto for (and executed by an authorized representative of)
Borrower concurrently with and dated as of the date of delivery of each
of the financial statements as required in Sections 5.1(c), 5.1(d) and
5.1(e) above, containing (1) a certification that the financial
statements of even date are true and correct and that Borrower is not in
default under the terms of this Agreement, and (2) computations and
conclusions, in such detail as Bank may request, with respect to
compliance with this Agreement, and the other Loan Documents, including
computations of all quantitative covenants.
(j) Furnish to Bank promptly such additional information, reports and
statements respecting the business operations and financial condition of
Borrower and Guarantors, respectively, from time to time, as Bank may
reasonably request.
5.2 Quarterly Portfolio Audits. Submit to, and bear the expense of
(not to exceed $1,500.00 per audit), four portfolio audits of Borrower's
portfolio of Premium Finance Agreements performed by Bank or its
representatives or agents during any period of twelve (12) consecutive
calendar months. The portfolio audit delivered pursuant to Section 3.5
hereof shall be considered the first portfolio audit for purposes of
this Section.
5.3 Insurance. Maintain insurance with responsible insurance companies
on such of its properties, in such amounts and against such risks as is
customarily maintained by similar businesses operating in the same
vicinity, specifically to include fire and extended coverage insurance
covering all assets, workers compensation insurance and liability
insurance, all to be with such companies and in such amounts as are
satisfactory to Bank and providing for at least 30 days prior notice to
Bank of any cancellation thereof. Satisfactory evidence of such
insurance will be supplied to Bank prior to the initial funding under
the Loan and prior to each policy renewal.
5.4 Existence and Compliance. Maintain its existence, good standing
and qualification to do business, where required and comply with all
laws, regulations and governmental requirements including, without
limitation, (a) environmental laws applicable to it or to any of its
property, business operations and transactions, and (b) Chapter 24 of
the Insurance Code, Title 28 of the Texas Administrative Code, the Truth
in Lending Act and Regulation Z promulgated thereunder, and the rules,
regulations and orders of the Texas Department of Insurance and any
other Governmental Authority having jurisdiction over any aspect of the
business of Borrower.
<PAGE>
5.5 Right to Receive Unearned Premiums. Notify the insurer whose
premiums are being financed of the existence of each insurance Premium
Finance Agreement within the time required by Section 24.22 of
Chapter 24 of the Insurance Code and give such notices and take all
other actions as may be necessary or required in order that Borrower
shall be entitled to receive all unearned premiums from such insurer or
reinsurer in the event a Premium Finance Agreement is canceled.
5.6 Notice of Adverse Conditions or Events. Promptly advise Bank in
writing of (i) any condition, event or act which comes to its attention
that would or might materially adversely affect Borrower's or any
Guarantor's financial condition or operations, any collateral, or Bank's
rights under the Loan Documents, (ii) any litigation filed by or against
Borrower or any Guarantor claiming an amount in excess of $100,000,
(iii) any event that has occurred that would constitute an event of
default under any Loan Documents or under any Dorinco Loan Documents,
and (iv) any uninsured or partially uninsured loss through fire, theft,
liability or property damage in excess of an aggregate of $100,000.
Borrower will advise Bank in writing of any change, amendment, renewal,
modification, cancellation or substitution of any Reinsurance Agreement
within ten (10) days thereof.
5.7 Taxes and Other Obligations. Pay all of its taxes, assessments and
other obligations, including, but not limited to taxes and assessments
and lawful claims which, if unpaid, might by law become a lien against
the assets of Borrower, as the same become due and payable, except to
the extent the same are being Contested in Good Faith.
5.8 Maintenance. Maintain all of its tangible property in good
condition and repair and make all necessary replacements thereof, and
preserve and maintain all licenses, trademarks, privileges, permits,
franchises, certificates and the like necessary for the operation of its
business.
5.9 Environmental. Immediately advise Bank in writing of (i) any and
all enforcement, cleanup, remedial, removal, or other governmental or
regulatory actions instituted, completed or threatened pursuant to any
applicable federal, state, or local laws, ordinances or regulations
relating to any Hazardous Materials affecting Borrower's business
operations; and (ii) all claims made or threatened by any third party
against Borrower relating to damages, contribution, cost recovery,
compensation, loss or injury resulting from any Hazardous Materials.
Borrower shall immediately notify Bank of any remedial action taken by
Borrower with respect to Borrower's business operations. Borrower will
not use or permit any other party to use any Hazardous Materials at any
of Borrower's places of business or at any other property owned by
Borrower except such materials as are incidental to Borrower's normal
course of business, maintenance and repairs and which are handled in
compliance with all applicable environmental laws; Borrower agrees to
permit Bank, its agents, contractors and employees to enter and inspect
any of Borrower's places of business or any other property of Borrower
at any reasonable times for the purposes of conducting an environmental
investigation and audit (including taking physical samples) to insure
that Borrower is complying with this covenant and Borrower shall
reimburse Bank on demand for the costs of any such environmental
investigation and audit. Borrower shall provide Bank, its agents,
contractors, employees and representatives with access to and copies of
any and all data and documents relating to or dealing with any Hazardous
<PAGE>
Materials used, generated, manufactured, stored or disposed of by
Borrower's business operations within five (5) days of the request
therefor.
5.10 Delivery of Endorsed Premium Finance Agreements. Upon the
occurrence of a Default or an Event of Default or any Trigger Event,
within one (1) Business Day, Borrower shall immediately notify Bank of
the occurrence of such Default, Event of Default or Trigger Event and
deliver to Bank all Premium Finance Agreements of Borrower (excluding
those Premium Finance Agreements sold to Peregrine Premium Finance L.C.
prior to the date hereof), appropriately endorsed, with full recourse
and warranty and execute, acknowledge, and deliver to Bank and file or
cause to be filed any and all other documents, agreements and
instruments and do all other acts or things as Bank may reasonably
request in order more fully to effect the assignment of the Premium
Finance Agreements to Bank.
6.0 NEGATIVE COVENANTS. Until full payment and performance of all
Obligations of Borrower under the Loan Documents, Borrower will not,
without the prior written consent of Bank (and without limiting any
requirement of any other Loan Documents):
6.1 Interest Coverage Ratio. For any period specified below, permit
the ratio (the "Interest Coverage Ratio") of (i) the sum obtained by
adding (A) Borrower's pre-tax net income determined in accordance with
GAAP (before dividends, distributions, management fees and marketing
fees) for any period, plus (B) Interest Expense for such period, to (ii)
Interest Expense for such period to be less than 1.50 to 1.0. The
Interest Coverage Ratio shall be determined (i) as of the last day of
each fiscal quarter ending in 1997, for the period commencing on January
1, 1997 and ending on the last day of such fiscal quarter, and (ii) as
of the last day of each fiscal quarter ending in the period beginning
January 1, 1998 through and including the Expiration Date, for the
twelve-month period ending on the last day of such fiscal quarter.
6.2 Capital Expenditures. Make capital expenditures during each fiscal
year (including capitalized leases) exceeding $100,000 in the aggregate.
6.3 Minimum Tangible Net Worth. Permit the Tangible Net Worth of
Borrower at any time during 1997 to be less than $7,700,000 or at any
time during 1998 to be less than $8,000,000.
6.4 Transfer of Assets or Control. Sell, lease, assign or otherwise
dispose of or transfer any assets, except in the normal course of its
business, or enter into any merger or consolidation, or transfer control
or ownership of Borrower (other than a transfer made pursuant to the
Dorinco Loan Documents), or form or acquire any subsidiary.
6.5 Liens. Grant, suffer or permit any contractual or noncontractual
lien on or security interest in its assets, except (a) liens in favor of
Bank, (b) liens for taxes, assessments or similar charges, incurred in
the ordinary course of business that are not yet due and payable,
(c) liens of mechanics, materialmen, warehousemen, carriers, operators
and other like liens securing obligations incurred in the ordinary
course of business that are not yet due and payable; (d) landlord's
liens for rentals not yet due and payable; and (e) liens securing any
purchase money Indebtedness permitted hereunder (if any) if such liens
do not encumber any property other than the property for which such
<PAGE>
Indebtedness was incurred and do not secure payment of any amount other
than the amount from time to time owing on the property for which such
Indebtedness was incurred and the Indebtedness initially secured by such
lien does not exceed $100,000.
6.6 Extensions of Credit. Make, or permit any subsidiary to make, any
loan or advance to any person or entity, except for loans by Borrower in
the ordinary course of business, or purchase or otherwise acquire, or
permit any subsidiary to purchase or otherwise acquire, any capital
stock, assets, obligations, or other securities of, make any capital
contribution to, or otherwise invest in or acquire any interest in any
entity, or participate as a partner or joint venturer with any person or
entity, except for (a) the purchase of direct obligations of the United
States or any agency thereof with maturities of less than one year,
(b) certificates of deposit issued by or money market deposits with
Merrill, Lynch, Pierce, Fenner & Smith Incorporated or any bank or trust
company organized under the laws of the United States of America or any
state thereof and having combined capital, surplus and undivided profits
of not less than $500,000,000 (as of the date of its most recent
financial statements), and (c) repurchase agreements with respect to the
investments referred to in clauses (a) and (b) above with any bank or
trust company organized under the laws of the United States of America
or any state thereof having combined capital, surplus and undivided
profits of not less than $500,000,000 (as of the date of its most recent
financial statements).
6.7 Borrowings. Create, incur, assume or become liable in any manner
for any Indebtedness (for borrowed money, deferred payment for the
purchase of assets, lease payments, as surety or guarantor for the debt
for another, or otherwise) other than to Bank, except for (a) normal
trade debts incurred in the ordinary course of Borrower's business,
(b) intracompany debt and debt owed to insurers and reinsurers created
in the ordinary course of business which is offset dollar for dollar by
cash and receivables, and (c) and except for existing Indebtedness
disclosed to Bank in writing and acknowledged by Bank prior to the date
of this Agreement.
6.8 Character of Business. Change the general character of business as
conducted at the date hereof, or engage in any type of business not
reasonably related to its business as presently conducted.
6.9 Dividends, Distributions, Management Fees and Marketing Fees. Make
any distribution (other than dividends payable in capital stock of
Borrower) on any shares of any class of its capital stock or apply any
of its property or assets to the purchase, redemption or other
retirement of any shares of any class of its capital stock or in any way
amend its capital structure, or pay or become obligated to pay any
management, marketing or other similar fees to any person or entity;
provided, however, so long as no Default or Event of Default has
occurred and is continuing hereunder or under the Dorinco Loan
Documents, the Borrower may distribute cash dividends or pay management
or other similar fees to HFS in an amount not in excess of the Net
Operating Income Available For Distribution of Borrower.
6.10 Affiliate Transactions. Engage or permit any of its subsidiaries
to engage in any transaction with any Affiliate of Borrower, HFS or ACO
or any shareholder or investor in Borrower, or make an assignment or
other transfer of its properties or assets to any Affiliate, whether or
<PAGE>
not any ordinary course of business, other than on terms and conditions
substantially as favorable to Borrower or any subsidiary of Borrower as
would be obtainable by Borrower or any such subsidiary at the time in a
comparable arms-length transaction with any party other than an
Affiliate.
6.11 Character of its Underwriting Guidelines. Change any material
underwriting guidelines utilized by Borrower as of the date hereof in
underwriting Premium Finance Agreements.
6.12 Amend the Dorinco Loan Documents. Amend or modify any material
terms or provisions of any of the Dorinco Loan Documents.
7.0 COVENANTS OF HALLMARK FINANCIAL SERVICES, INC.. Until full payment
and performance of all Obligations of Borrower under the Loan Documents,
or until Bank consents to the contrary and the Borrower receives the
prior written approval of the contrary from Bank, HFS and ACO will
comply or cause compliance with each of the following covenants:
7.1 Statutory Capital and Surplus. HFS will not permit at any time
AH's Statutory Capital and Surplus to be less than $2,650,000 as of the
date of any reporting period required by law or required by the Texas
Department of Insurance.
7.2 Minimum Tangible Net Worth. Neither HFS nor ACO will permit at
any time Borrower's Tangible Net Worth as of the date of any reporting
period required by law or required by the Texas Department of Insurance
during the following calendar years to be less than the following
amounts:
1997 $7,700,000
1998 $8,000,000
7.3 Transactions With Affiliates. All transactions between or among
HFS or ACO, any Affiliate(s), and any director, officer, employee and/or
agent of HFS or ACO, and Affiliate(s) shall be in good faith and
commercially reasonably.
7.4 Ratio of Gross Premium to Statutory Capital and Surplus. HFS shall
cause AH to maintain its ratio of Gross Premium to Statutory Capital and
Surplus at or below 10.0 to 1.0.
7.5 Ratio of Net Premium to Statutory Capital and Surplus. HFS shall
cause AH to maintain its ratio of Net Premium to Statutory Capital and
Surplus at or below 3.0 to 1.0.
7.6 Combined Ratio. HFS shall cause AH to maintain the average of AH's
Combined Ratio as of the end of any four (4) immediately preceding
fiscal quarters of AH's operations at 115% or below.
7.7 Loss Ratio. HFS shall cause AH to maintain the average of AH's
Loss Ratio as of the end of any four (4) immediately preceding fiscal
quarters of AH's operations at 87% or below.
7.8 Change in Ownership or Business. (i) Neither HFS nor ACO shall
permit AH, Borrower or AHGA to change the nature of its business or
materially change its ownership.
<PAGE>
(ii) HFS shall not permit AH to write directly or indirectly the
following lines of business, or its equivalent: mortgage guaranty, ocean
marine, financial guaranty, medical malpractice, earthquake (as a
separate coverage), group accident and health, credit accident and
health (group and individual), other accident and health, workers'
compensation, products liability, aircraft (all perils), fidelity,
surety, boiler and machinery, credit, and international.
7.9 Dividends. HFS shall not pay or declare any cash or other
dividends or distributions on its corporate stock. ACO shall not, and
HFS shall not permit AH to, pay or declare any cash or other dividends
or distributions on its corporate stock if such payment or declaration
would result in an Event of Default hereunder or under the Dorinco Loan
Documents.
7.10 Intercompany Service Agreements. HFS shall not nor permit AH to
amend or adjust the commission structure of its intercompany service
agreements in place at the date of execution of this Agreement, to the
extent that it materially adversely affects AH financially.
7.11 Disposition of Assets, Security Interests and other Encumbrances.
Neither HFS nor ACO shall, nor permit AH, Borrower or AHGA to, sell,
assign, transfer or otherwise dispose of any of their respective assets
or properties or any interest therein, or create, incur or suffer to
exist any mortgage, security interest, lien, license or other
encumbrance upon any of their respective properties or assets, whether
now owned or hereafter acquired, except (a) security interests created
or arising pursuant to the Dorinco Loan Documents, (b) purchase money
security interests in equipment used in the normal course of their
respective businesses, (c) operating or capital equipment leases for use
in the ordinary course of business, (d) existing encumbrances disclosed
in HFS's consolidated and consolidating financial statements, and (e)
liens granted by Borrower to Bank under this Agreement and the other
Loan Documents.
7.12 Capital Stock. Neither HFS nor ACO shall, nor permit Borrower to,
purchase or retire any of its capital stock or issue or sell any capital
stock or otherwise change its capital structure or change the relative
rights, preferences or limitations relating to its capital stock.
7.13 Investments and Advances. Neither HFS nor ACO shall, nor permit AH
to make any investment in or advance to any person, firm or corporation,
other than advances (i) to or investments in any Affiliate(s), however,
any advance or investment by AH to any Affiliate(s) or HFS requires
Bank's prior written consent and (ii) to employees in the ordinary
course of business, not to exceed $50,000.00.
7.14 Guaranties. Neither HFS nor ACO shall, nor permit AH or any other
Affiliate(s) to become a guarantor, surety or otherwise liable for the
debts or other obligations of any other person, firm or corporation,
except for (i) Obligations to Bank, (ii) pledges of assets to secure
Indebtedness of HFS under the Dorinco Loan Documents, (iii) obligations
under the Reinsurance Agreements, and (iv) obligations of Affiliate(s),
provided the aggregate obligation of either HFS or AH on the obligations
of all other Affiliate(s) shall not exceed $500,000.00, further
provided, no single transaction shall exceed $200,000.00.
<PAGE>
7.15 Affiliate(s) Stock. Neither HFS nor ACO shall permit any
Affiliate(s) (other than HFS) to consent to or approve or permit the
issuance of any additional shares of any class of capital stock of any
such Affiliate(s), or any securities convertible voluntarily by the
holder thereof or automatically upon the occurrence or non-occurrence of
any event or condition into, or exchangeable for, any such shares, or
any warrants, options, rights or other commitments entitling any person
to purchase or otherwise acquire any such shares other than to the
present owner of the capital stock of such Affiliate.
7.16 Other Miscellaneous Covenants. Neither HFS nor ACO shall, and HFS
shall not permit AH to:
(i) Create, incur or permit to exist or otherwise become liable for,
directly or indirectly, any indebtedness for borrowed money or for the
deferred purchase price of real or personal property in excess of, in
the aggregate, $500,000.00, or in any individual transaction,
$200,000.00, except (A) trade indebtedness incurred in the ordinary
course of business, (B) the Obligations and (C) the Indebtedness owing
under the Dorinco Loan Documents;
(ii) Merge or consolidate with any other company or companies;
enter into any joint venture or partnership with any person, firm or
corporation other than an Affiliate; or convey, lease or sell all or any
material portion of its property or assets or business to any other
person, firm or corporation, other than the purchase or sale of assets
in the ordinary course of business;
(iii) Consent to or approve or permit any material amendment,
restatement or substitution of the articles of incorporation and/or
bylaws of AH, it being hereby acknowledged by HFS that any such
amendment, restatement or substitution shall not be effective unless so
consented to by Bank and that Bank may give or withhold such consent in
each instance in Bank's sole and absolute discretion. For purposes of
this Section 7, and without limiting the scope of this Section 7, any
change in capital structure or in the relative rights, preferences or
limitations relating to capital stock shall be deemed a material change.
8.0 REPRESENTATIONS AND WARRANTIES. Borrower hereby represents and
warrants to Bank as follows:
8.1 Good Standing. Borrower is a corporation, duly organized, validly
existing and in good standing under the laws of Texas and has the power
and authority to own its property and to carry on its business in each
jurisdiction in which Borrower does business. ACO is a corporation duly
organized, validly existing and in good standing under the laws of Texas
and has the power and authority to own its property and to carry on its
business in each jurisdiction in which it does business. HFS is a
corporation duly organized, validly existing and in good standing under
the laws of Nevada and has the power and authority to own its property
and to carry on its business in each jurisdiction in which it does
business. AHGA is a corporation duly organized, validly existing and in
good standing under the laws of Texas and has the power and authority to
own its property and to carry on its business in each jurisdiction in
which it does business. American Hallmark Agencies, Inc. is a
corporation duly organized, validly existing and in good standing under
the laws of Texas and has the power and authority to own its property
and to carry on its business in each jurisdiction in which it does
<PAGE>
business. HCS is a corporation duly organized, validly existing and in
good standing under the laws of Texas and has the power and authority to
own its property and to carry on its business in each jurisdiction in
which it does business.
8.2 Authority and Compliance. Borrower has full power and authority to
execute and deliver the Loan Documents and to incur and perform the
obligations provided for therein, all of which have been duly authorized
by all proper and necessary action of the appropriate governing body of
Borrower. Each Guarantor has full power and authority to execute and
deliver the guaranty agreements to which each is a party and to incur
and perform the obligations provided for therein, all of which have been
duly authorized by all proper and necessary action of the appropriate
governing body of the Guarantors. No consent or approval of any public
authority or other third party is required as a condition to the
validity of any Loan Document, and Borrower and all Guarantors are in
compliance with all laws and regulatory requirements to which they are
subject.
8.3 Binding Agreement. This Agreement and the other Loan Documents
executed by Borrower constitute valid and legally binding obligations of
Borrower, enforceable in accordance with their terms. Each Guaranty
Agreement executed by a Guarantor constitutes a valid and legally
binding obligation of such Guarantor, enforceable in accordance with its
terms.
8.4 Concerning the Reinsurance Agreements. Each Reinsurance Agreement
is in full force and effect and is the valid and legally binding
obligation of the parties thereto enforceable in accordance with its
respective terms.
8.5 Litigation. There is no proceeding involving Borrower pending or,
to the knowledge of Borrower, threatened before any court or
Governmental Authority, agency or arbitration authority, except as
disclosed to Bank in writing and acknowledged by Bank prior to the date
of this Agreement.
8.6 No Conflicting Agreements. There is no charter, bylaw, stock
provision, partnership agreement or other document pertaining to the
organization, power or authority of Borrower or any Guarantor and no
provision of any existing agreement, mortgage, indenture or contract
binding on Borrower or any Guarantor or affecting their property, which
would conflict with or in any way prevent the execution, delivery or
carrying out of the terms of the Loan Documents to which they are
parties, including without limitation, the Dorinco Loan Documents.
8.7 Ownership of Assets. Borrower has good title to its assets, and
its assets are free and clear of liens, except those granted to Bank and
as disclosed to Bank in writing prior to the date of this Agreement.
8.8 Contingent Liabilities. There are no suretyship
agreements,guaranties or other contingent liabilities of Borrower, ACO
or HFS that have not been disclosed in writing to Bank.
8.9 Taxes. All taxes and assessments due and payable by Borrower have
been paid or are being Contested in Good Faith, and Borrower has filed
all tax returns which it is required to file.
<PAGE>
8.10 Financial Statements. The financial statements of Borrower
heretofore delivered to Bank have been prepared in accordance with GAAP
applied on a consistent basis throughout the period involved and fairly
present Borrower's financial condition as of the date or dates thereof,
and there has been no material adverse change in Borrower's financial
condition or operations since September 30, 1996. To the best of
Borrower's knowledge, all factual information furnished by Borrower to
Bank in connection with this Agreement and the other Loan Documents is
and will be accurate and complete on the date as of which such
information is delivered to Bank and is not and will not be incomplete
by the omission of any material fact necessary to make such information
not misleading.
8.11 Environmental Matters. The conduct of Borrower's business
operations and the condition of Borrower's property does not and will
not violate any federal laws, rules or ordinances for environmental
protection, regulations of the Environmental Protection Agency, any
applicable local or state law, rule, regulation or rule of common law or
any judicial interpretation thereof relating primarily to the
environment or Hazardous Materials.
8.12 Licenses and Permits. Borrower has obtained all licenses, permits
and approvals required to engage in the business of insurance premium
financing which are required by the laws, rules and regulations of every
state in which Borrower engages in such business.
8.13 Use of Approved Premium Finance Agreement. The form of Premium
Finance Agreement used by Borrower in its insurance premium finance
business complies in all material respects with all applicable laws,
including, without limitation, Chapter 24 of the Insurance Code,
Chapters 3 and 4 of the Texas Credit Code (Tex. Rev. Civ. Stat.Ann. art.
5069-3.01, et seq. and art 5069-4.01, et seq.) and shall be approved by
the Department of Insurance of Texas and by all other Governmental
Authorities required in order for Borrower to use such agreement in its
insurance premium finance business prior to the date of the initial
funding of the Loan hereunder.
8.14 Compliance with Applicable Laws. Borrower has complied with all
applicable laws (including without limitation Chapter 24 of the
Insurance Code, Title 28 of the Administrative Code, and the Truth in
Lending Act (the "Act") and all other statutes referenced in Chapter 24
of the Insurance Code), rules, regulations (including without limitation
Regulation Z promulgated under the Act) and orders of all Governmental
Authorities (including without limitation, the Department of Insurance)
having jurisdiction over any aspect of the business conducted by
Borrower.
8.15 Solvency. Borrower, each of the Guarantors and AH are Solvent both
before and after giving effect to the transactions contemplated by this
Agreement and the other Loan Documents.
8.16 Additional Information. No information, exhibit or report
furnished by Borrower to Bank in connection with any of the Loan
Documents contains any material misstatement of a fact or omits to state
a material fact or any fact necessary to make the statements contained
therein not materially misleading.
<PAGE>
8.17 Continuation of Representation and Warranties. All representations
and warranties made under this Agreement shall be deemed to be made at
and as of the date hereof and at and as of the date of any future
advance under any Loan.
9.0 DEFAULT. Any of the following shall constitute Events of Default:
9.1 Nonpayment. Borrower shall default in the due and punctual payment
of any principal or interest of the Note when due and payable, whether
at maturity or otherwise.
9.2 Representations and Warranties. Any representation, warranty or
statement made by Borrower or any Guarantor herein or otherwise in
writing in connection herewith or in connection with any of the other
Loan Documents and the agreements referred to herein or therein or in
any financial statement, certificate or statement signed by any officer
or employee of Borrower or any Guarantor and furnished pursuant to any
provision of the Loan Documents shall be breached, or shall be
materially false, incorrect or incomplete when made.
9.3 Covenants Contained in Agreement. (a) Borrower shall default in
the due performance or observance of any term, covenant or agreement
(other than Sections 5.5, 5.10, 6.1, 6.2, 6.4, 6.6, 6.8, 6.9, 6.11 and
6.12 hereof) on its part to be performed or observed hereunder and the
default shall continue unremedied for a period of thirty (30) days
following notice thereof from Bank to Borrower; or (b) Borrower shall
default in the due performance or observance of any term, covenant or
agreement of Sections 5.5, 5.10, 6.1, 6.2, 6.4, 6.6, 6.8, 6.9, 6.11 and
6.12 hereof.
9.4 Default in Other Loan Documents. Borrower or any Guarantor shall
default in the due performance of or observance by it of any term,
covenant or agreement on its part to be performed pursuant to the terms
of any of the other Loan Documents and the default shall continue
unremedied beyond any grace or cure period therein provided.
9.5 Default under the Dorinco Loan Documents. An event of default
shall occur under the provisions of any Dorinco Loan Document the effect
of which is to permit the holder or holders of such instrument to cause
the indebtedness evidenced by such instrument to become due prior to its
stated maturity.
9.6 Default in Other Debt. An event of default shall occur under the
provisions of any instrument (other than the Loan Documents and the
indebtedness described in Schedule 9.6 attached hereto and made a part
hereof by this reference) evidencing indebtedness of Borrower or any
Guarantor for the payment of borrowed money or of any agreement relating
thereto the effect of which is to permit the holder or holders of such
instrument to cause the indebtedness evidenced by such instrument to
become due prior to its stated maturity.
9.7 Validity of Loan Documents. Any of the Loan Documents shall cease
to be a legal, valid and binding agreement enforceable against any party
executing the same in accordance with the respective terms thereof, or
shall in any way be terminated, or become or be declared ineffective or
inoperative, or shall in any way whatsoever cease to give or provide the
respective rights, remedies, powers and privileges intended to be
created thereby.
<PAGE>
9.8 Bankruptcy. Borrower or any Guarantor shall suspend or discontinue
its business operations, or shall generally fail to pay its debts as
they mature, or shall file a petition commencing a voluntary case
concerning Borrower or any Guarantor under any chapter of the United
States Bankruptcy Code; or any involuntary case shall be commenced
against Borrower or any Guarantor under the United States Bankruptcy
Code; or Borrower or any Guarantor shall become insolvent (howsoever
such insolvency may be evidenced).
9.9 Judgments and Decrees. Borrower or any Guarantor shall suffer a
final judgment for the payment of money and shall not discharge the same
within a period of thirty (30) days unless, pending further proceedings,
execution has not been commenced, or, if commenced, has been effectively
stayed. Any order, judgment or decree shall be entered in any
proceeding against Borrower or any Guarantor decreeing the dissolution
or split up of Borrower or any Guarantor and such order shall remain
undischarged or unstayed for a period in excess of thirty (30) days
unless, pending further proceedings, dissolution or split up has not
commenced, or, if commenced, has been effectively stayed.
9.10 Drop in Rating of Reinsurance Companies Responsible for Repayment
of Unearned Premiums. The A.M. Best Company shall lower below "A-" the
rating of any reinsurance company responsible for the repayment of
unearned premiums to Borrower and, within ninety (90) days of the date
the rating of such reinsurance company falls below "A-," the Borrower
has not replaced the reinsurance agreement of such reinsurance company
with a reinsurance agreement with another reinsurance company having an
A.M. Best Company rating of "A-" or better covering the same reinsured
business.
9.11 Ms. Linda Sleeper and Mr. Ramon Phillips to be Involved in Senior
Management. Neither Linda H. Sleeper nor Ramon D. Phillips is devoting
her/his full time and effort to the management and operation of
Borrower.
9.12 Concerning the Reinsurance Agreements. At any time there is not in
force and effect (i) a Reinsurance Agreement reinsuring all new and
renewal business produced and underwritten through AHGA for and on
behalf of State and County Mutual Fire Insurance Company, Fort Worth,
Texas, ceded to AH and classified by AH as Private Passenger Automobile
business, including Physical Damage, Liability, Personal Injury
Protection and Uninsured/Underinsured Motorist, covering seventy-five
percent (75%) quota share; and (ii) a Reinsurance Agreement reinsuring
all new and renewal business produced and underwritten through AHGA for
and on behalf of State and County Mutual Fire Insurance Company, Fort
Worth, Texas, ceded to AH and classified by AH as Private Passenger
Automobile Physical Damage business, covering ninety-five percent (95%)
of $150,000 in excess of $100,000 of each loss occurrence.
9.13 Regulatory Action or Directive. At any time any Governmental
Authority delivers to Borrower, HFS, ACO, AHGA or AH, a cease and desist
order, letter of unsafe practices or conditions, an order of correction,
or similar directive under applicable law or commences any action which
could result in taking possession, reorganization or liquidation of
Borrower, HFS, ACO, AH, or AHGA, and such letter, action, order or other
directive is permitted to remain uncured or undismissed for more than
forty-five (45) days.
<PAGE>
10.0 REMEDIES. Upon the occurrence of an event of default described in
Section 9.8 hereof, the entire principal of and accrued interest on the
Note shall forthwith be due and payable without demand, presentment for
payment, notice of nonpayment, protest, notice of protest, notice of
intent to accelerate, notice of acceleration and all other notices and
further actions of any kind, all of which are hereby expressly waived by
Borrower. In the event that any event of default described in
Sections 9.1 through 9.7 hereof or Section 9.9 through 9.13 hereof shall
occur and be continuing, Bank may, without demand or notice of its
election declare the entire unpaid balance of the Note and all other
indebtedness of Borrower to Bank, or any part thereof, immediately due
and payable, whereupon the principal of and accrued interest on such
Note and other indebtedness shall be forthwith due and payable without
demand, presentment for payment, notice of nonpayment, protest, notice
of protest, notice of intent to accelerate, notice of acceleration and
all other notices and further actions of any kind, all of which are
hereby expressly waived by Borrower. Upon the occurrence and during the
continuance of any such event of default, Bank may (a) exercise any and
all rights under or pursuant to any of the Loan Documents, and
(b) exercise any and all rights afforded to Bank by the laws of the
State of Texas or any other applicable jurisdiction or in equity or
otherwise, as Bank may deem appropriate.
11.0 NOTICES. All notices, requests or demands which any party is
required or may desire to give to any other party under any provision of
this Agreement must be in writing delivered to the other party at the
addresses set forth on the first page of this Agreement or to such other
address as any party may designate by written notice to the other party.
Each such notice, request and demand shall be deemed given or made
(a) if sent by mail, upon the earlier of the date of receipt or three
(3) days after deposit in the U.S. Mail, first class postage prepaid,
and (b) if sent by any other means, upon delivery.
12.0 COSTS, EXPENSES AND ATTORNEY'S FEES. Borrower shall pay to Bank
immediately upon demand the full amount of all costs and expenses,
including reasonable attorneys' fees, incurred by Bank in connection
with (a) negotiation and preparation of this Agreement and each of the
Loan Documents, and (b) Bank's continued administration thereof, and
(c) any modifications of or consents or waivers under or amendments to
or interpretations of or enforcement of this Agreement, the Note, the
other Loan Documents and the agreements described therein. Borrower
further agrees to indemnify Bank from and hold it harmless against any
and all losses, liabilities, claims, damages or expenses which Bank
suffers or incurs as a result of its entering into this Agreement, or
the consummation of the transactions contemplated by this Agreement and
the Loan Documents, or the use or contemplated use of the proceeds of
the Loan, including, without limitation, the fees and disbursements of
counsel incurred in connection with any litigation, arbitration or other
proceeding arising out of or by reason of any of the aftersaid.
13.0 MISCELLANEOUS. Borrower and Bank further covenant and agree as
follows, without limiting any requirement of any other Loan Document:
13.1 Cumulative Rights and No Waiver. Each and every right granted to
Bank under any Loan Document, or allowed it by law or equity shall be
cumulative of each other and may be exercised in addition to any and all
other rights of Bank, and no delay in exercising any right shall operate
as a waiver thereof, nor shall any single or partial exercise by Bank of
any right preclude any other or future exercise thereof or the exercise
<PAGE>
of any other right. Borrower expressly waives any presentment, demand,
protest or other notice of any kind, including but not limited to
notice of intent to accelerate and notice of acceleration. No notice to
or demand on Borrower in any case shall, of itself, entitle Borrower to
any other or future notice or demand in similar or other circumstances.
13.2 Applicable Law. This Agreement and the rights and obligations of
the parties hereunder shall be governed by and interpreted in accordance
with the laws of Texas and applicable United States federal law and
shall be performable in Dallas County, Texas.
13.3 Amendment. No modification, consent, amendment or waiver of any
provision of this Agreement, nor consent to any departure by Borrower
therefrom, shall be effective unless the same shall be in writing and
signed by an officer of Bank, and then shall be effective only in the
specified instance and for the purpose for which given. This Agreement
is binding upon Borrower, its successors and assigns, and inures to the
benefit of Bank, its successors and assigns; however, no assignment or
other transfer of Borrower's rights or obligations hereunder shall be
made or be effective without Bank's prior written consent, nor shall it
relieve Borrower of any obligations hereunder. There is no third party
beneficiary of this Agreement.
13.4 Documents. All documents, certificates and other items required
under this Agreement to be executed and/or delivered to Bank shall be in
form and content satisfactory to Bank and its counsel.
13.5 Partial Invalidity. The unenforceability or invalidity of any
provision of this Agreement shall not affect the enforceability or
validity of any other provision herein and the invalidity or
unenforceability of any provision of any Loan Document to any person or
circumstance shall not affect the enforceability or validity of such
provision as it may apply to other persons or circumstances.
13.6 Indemnification. Notwithstanding anything to the contrary
contained in Section 13.7 hereof, Borrower shall indemnify, defend and
hold Bank and its successors and assigns harmless from and against any
and all claims, demands, suits, losses, damages, assessments, fines,
penalties, costs or other expenses (including reasonable attorneys'
fees and court costs) arising from or in any way related to any of the
transactions contemplated hereby, including but not limited to actual or
threatened damage to the environment, agency costs of investigation,
personal injury or death, or property damage, due to a release or
alleged release of Hazardous Materials, arising from Borrower's business
operations, any other property owned by Borrower or in the surface or
ground water arising from Borrower's business operations, or gaseous
emissions arising from Borrower's business operations or any other
condition existing or arising from Borrower's business operations
resulting from the use or existence of Hazardous Materials, whether such
claim proves to be true or false. Borrower further agrees that its
indemnity obligations shall include, but are not limited to, liability
for damages resulting from the personal injury or death of an employee
of Borrower, regardless of whether Borrower has paid the employee under
the workmen's compensation laws of any state or other similar federal
or state legislation for the protection of employees. The term "property
damage" as used in this paragraph includes, but is not limited to, damage
to any real or personal property of Borrower, Bank, and of any third
parties. Borrower's obligations under this paragraph shall survive the
<PAGE>
repayment of the Loan and any deed in lieu of foreclosure or foreclosure
of any deed of trust, security agreement or other Loan Document securing
the Loan.
13.7 Survivability. All covenants, agreements, representations and
warranties made herein or in the other Loan Documents shall survive the
making of the Loan and shall continue in full force and effect so long
as the Loan is outstanding or the obligation of Bank to make any
advances under the Loan shall not have expired.
13.8 Accounting Terms. All accounting terms not specifically defined or
specified herein shall have the meanings generally attributed to such
terms under GAAP, as in effect from time to time, consistently applied,
with respect to the financial statements referenced in Section 7.9
hereof.
14.0 ARBITRATION. ANY CONTROVERSY OR CLAIM BETWEEN OR AMONG THE
PARTIES HERETO INCLUDING BUT NOT LIMITED TO THOSE ARISING OUT OF OR
RELATING TO THIS INSTRUMENT, AGREEMENT OR DOCUMENT OR ANY RELATED
INSTRUMENTS, AGREEMENTS OR DOCUMENTS, INCLUDING ANY CLAIM BASED ON OR
ARISING FROM AN ALLEGED TORT, SHALL BE DETERMINED BY BINDING ARBITRATION
IN ACCORDANCE WITH THE FEDERAL ARBITRATION ACT (OR IF NOT APPLICABLE,
THE APPLICABLE STATE LAW), THE RULES OF PRACTICE AND PROCEDURE FOR THE
ARBITRATION OF COMMERCIAL DISPUTES OF J.A.M.S./ENDISPUTE OR ANY
SUCCESSOR THEREOF (J.A.M.S.), AND THE "SPECIAL RULES" SET FORTH BELOW.
IN THE EVENT OF ANY INCONSISTENCY, THE SPECIAL RULES SHALL CONTROL.
JUDGMENT UPON ANY ARBITRATION AWARD MAY BE ENTERED IN ANY COURT HAVING
JURISDICTION. ANY PARTY TO THIS INSTRUMENT, AGREEMENT OR DOCUMENT MAY
BRING AN ACTION, INCLUDING A SUMMARY OR EXPEDITED PROCEEDING, TO COMPEL
ARBITRATION OF ANY CONTROVERSY OR CLAIM TO WHICH THIS AGREEMENT APPLIES
IN ANY COURT HAVING JURISDICTION OVER SUCH ACTION.
14.1 Special Rules. THE ARBITRATION SHALL BE CONDUCTED IN THE COUNTY OF
BORROWER'S DOMICILE AT THE TIME OF THE EXECUTION OF THIS INSTRUMENT,
AGREEMENT OR DOCUMENT AND ADMINISTERED BY J.A.M.S. WHO WILL APPOINT AN
ARBITRATOR; IF J.A.M.S. IS UNABLE OR LEGALLY PRECLUDED FROM
ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION
WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN 90 DAYS
OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON
A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT OF SUCH
HEARING FOR UP TO AN ADDITIONAL 60 DAYS.
14.2 Reservation of Rights. NOTHING IN THIS ARBITRATION PROVISION SHALL
BE DEEMED TO (I) LIMIT THE APPLICABILITY OF ANY OTHERWISE APPLICABLE
STATUTES OF LIMITATION OR REPOSE AND ANY WAIVERS CONTAINED IN THIS
INSTRUMENT, AGREEMENT OR DOCUMENT; OR (II) BE A WAIVER BY BANK OF THE
PROTECTION AFFORDED TO IT BY 12 U.S.C. SEC. 91 OR ANY SUBSTANTIALLY
EQUIVALENT STATE LAW; OR (III) LIMIT THE RIGHT OF BANK HERETO (A) TO
EXERCISE SELF HELP REMEDIES SUCH AS (BUT NOT LIMITED TO) SETOFF, OR (B)
TO FORECLOSE AGAINST ANY REAL OR PERSONAL PROPERTY COLLATERAL, OR (C) TO
OBTAIN FROM A COURT PROVISIONAL OR ANCILLARY REMEDIES SUCH AS (BUT NOT
LIMITED TO) INJUNCTIVE RELIEF, WRIT OF POSSESSION OR THE APPOINTMENT OF
A RECEIVER. BANK MAY EXERCISE SUCH SELF HELP RIGHTS, FORECLOSE UPON
SUCH PROPERTY, OR OBTAIN SUCH PROVISIONAL OR ANCILLARY REMEDIES BEFORE,
DURING OR AFTER THE PENDENCY OF ANY ARBITRATION PROCEEDING BROUGHT
PURSUANT TO THIS INSTRUMENT, AGREEMENT OR DOCUMENT. NEITHER THIS
EXERCISE OF SELF HELP REMEDIES NOR THE INSTITUTION OR MAINTENANCE OF AN
ACTION FOR FORECLOSURE OR PROVISIONAL OR ANCILLARY REMEDIES SHALL
<PAGE>
CONSTITUTE A WAIVER OF THE RIGHT OF ANY PARTY, INCLUDING THE CLAIMANT IN
ANY SUCH ACTION, TO ARBITRATE THE MERITS OF THE CONTROVERSY OR CLAIM
OCCASIONING RESORT TO SUCH REMEDIES.
15.0 AGREEMENT CONTROLLING. In the event of a conflict between the
terms and provisions of this Agreement and the terms and provisions of
any of the other Loan Documents, the terms and provisions of this
Agreement shall control.
16.0 NOTICE OF FINAL AGREEMENT. THIS WRITTEN AGREEMENT AND THE OTHER
LOAN DOCUMENTS REPRESENT THE FINAL AGREEMENT BETWEEN THE PARTIES AND MAY
NOT BE CONTRADICTED BY EVIDENCE OF PRIOR, CONTEMPORANEOUS, OR SUBSEQUENT
ORAL AGREEMENTS OF THE PARTIES. THERE ARE NO UNWRITTEN ORAL AGREEMENTS
BETWEEN THE PARTIES.
[THIS SPACE IS INTENTIONALLY LEFT BLANK.]
HALLMARK FINANCE CORPORATION
By
Linda H. Sleeper, Executive Vice
President
HALLMARK FINANCIAL SERVICES, INC.
By
Linda H. Sleeper, Executive Vice
President
ACO HOLDINGS, INC.
By
Linda H. Sleeper, Executive Vice
President
NATIONSBANK OF TEXAS, N.A.
By
Susan M. Raher, Vice President
<PAGE>
EXHIBIT A
FORM OF
NOTICE OF BORROWING
TO: NATIONSBANK OF TEXAS, N.A. under the Loan Agreement dated March 17,
1997, by and between HALLMARK FINANCE CORPORATION, and NATIONSBANK OF
TEXAS, N.A. ("Agreement")
Terms used herein which are defined in the Agreement have the same
meanings unless otherwise specified. Pursuant to Section 2.5 and
Section 2.6 of the Agreement, this Notice of Borrowing represents the
election of Borrower to select the following Interest Rate Options:
(I) Date of proposed Loan:\
(ii)Principal amount of requested Loan (Minimum Principal amount
$250,000). (If no Interest Rate Option is elected by Borrower, the
applicable Interest Rate Option shall be the Adjusted Prime Rate.):
Amount of requested Loan which will be
a Prime Rate Tranche:
Amount of requested Loan which will be
a LIBO Rate Tranche:
(iii) If the Interest Rate Option for any Tranche is the Adjusted LIBO
Rate, the Interest Period for such Tranche (options: three (3), six (6)
or twelve (12) calendar months):
(iv)Designate whether Loan is a new advance, or a conversion or renewal
of any existing LIBO Rate Tranche or a Prime Rate Tranche:
Borrower certifies that as of the date of the requested advance(s) all
of the conditions precedent contained in the Agreement have been
satisfied (or waived pursuant to the Agreement) and that all
representations and warranties of Borrower and each Guarantor set forth
in the Agreement are true and correct in all material respects on the
date of such advance(s) (other than representations and warranties which
expressly speak as of the closing date), and the Borrowing Base
Certificate most recently delivered pursuant to the Agreement may be
relied upon for this borrowing and is true and correct as of the date
thereof.
DATED this _____ day of ____________, 199__.
HALLMARK FINANCE CORPORATION
By
Title
<PAGE>
EXHIBIT B
BORROWING BASE CERTIFICATE
Status as of , 199__
In accordance with the terms of the Loan Agreement dated March 17,
1997, by and between HALLMARK FINANCE CORPORATION, and NATIONSBANK OF
TEXAS, N.A., we hereby represent and warrant as follows:
Prior Period Balance of Premium Finance Agreements $
PLUS: PREMIUM FINANCE AGREEMENTS ISSUED
DURING THE PERIOD ENDING ___________, 19__ $
PLUS/LESS THE FOLLOWING ADJUSTMENTS:
(+/-) Premium Finance Agreement Amendments $
(+/-) Miscellaneous Premium Finance Agreement Corrections $
(+/-) Cash Receipts $
(+/-) Cancellations $
(+/-) Earned Late Charges $
(+/-) Earned Setup Fees $
(+/-) Returned Checks (Uncollected) $
(+/-) Returned Check Charges $
(+/-) Interest and Write-offs $
(-) Change in Unearned Interest $
(+) Return Premiums in Course of Collections $
Total Adjusted Eligible Premium Finance Agreements $
LESS THE FOLLOWING NON-ELIGIBLE PREMIUM FINANCE AGREEMENTS:
Premium Finance Agreements disputed or denied
by insurer or reinsurer $
Premium Finance Agreements subject to a right of
insurer or reinsurer to setoff, defense or discount $
<PAGE>
Premium Finance Agreements with less than ten%
equity in the premium $
Premium Finance Agreements in default which have balances
due from makers after realization of all collateral $
Premium Finance Agreements resulting from TAIP $
Premium Finance Agreements funding policies outside Texas $
Premium Finance Agreements where AH is not the issuer on
behalf of State and County Mutual $
Premium Finance Agreements which do not have 75% or more
premium balances reinsured with third party reinsurer
with A. M. Best Rating of A- or higher $
Premium Finance Agreements where AHGA is not the
Managing Agent $
Return premiums in course of collection greater
than 5 days past due from the original due date as
required by applicable Governmental Authorities $
Total Adjusted Eligible Premium Finance Agreements $
LESS:
Bank Reserve $
CALCULATION OF BORROWING BASE:
[(Total Adjusted Eligible Premium Finance Agreements - Bank
Reserve) x 60%] = Maximum amount of borrowings
(not to exceed $8,000,000) $
LESS: Outstandings $
Available Amount/Overadvance Due Bank
(Amount of Borrowing Base - Outstandings) $
BORROWER:
HALLMARK FINANCE CORPORATION
By:
Title
<PAGE>
EXHIBIT C
COMPLIANCE CERTIFICATE
This Compliance Certificate is delivered pursuant to Section 5.1(i)
of the Loan Agreement dated as of March 17, 1997 (together with all
amendments and modifications, if any, from time to time made thereto,
the "Loan Agreement"), between HALLMARK FINANCE CORPORATION (the
"Borrower") and NATIONSBANK OF TEXAS, N.A. Unless otherwise defined,
terms used herein have the meanings provided in the Loan Agreement.
The undersigned, being the duly elected, qualified and acting
of Borrower, on behalf of Borrower and solely in his or her
capacity as an officer of Borrower, hereby certifies and warrants that:
1. He or she is the of Borrower and that, as
such, he or she is authorized to execute this certificate on behalf of
Borrower.
2. As of , 199 , Borrower was not in default of any
of the provisions of the Loan Agreement during the period as to which
this compliance certificate relates as represented below:
(a) Interest Coverage Ratio:
net income before taxes,
dividends, distribution, + Interest Expense
management and marketing fees = Maximum 1.50 : 1.0
Interest Expense
Calculate here:
(b) Capital Expenditures: Maximum $100,000 per fiscal year
Fiscal Year 199 = $ (cumulative YTD)
(c) Minimum Tangible Net Worth: Minimum Tangible Net Worth
Minimum 1997 - $7,700,000
1998 - $8,000,000
Fiscal Year 199 = $
(d) Dividends, Distributions, Management Fees & Marketing Fees
YTD calculation of Net Operating Income for Distribution (see
page 6 of Loan Agreement for definition) = $
Actual Amount Distributed = $
<PAGE>
3. As of , 199 , HFS was not in default of any of
the provisions of the Loan Agreement during the period as to which this
compliance certificate relates as represented below:
(a) Minimum Statutory Capital and Surplus: AH's Minimum Statutory
Capital and Surplus - $2,650,000
Fiscal Year 199 = $
(b) Ratio of Gross Premium to Statutory Capital and Surplus: AH is
required to maintain its ratio of Gross Premium to Statutory Capital and
Surplus at or below 10.0 to 1.0.
Calculate here:
(c) Ratio of Net Premium to Statutory Capital and Surplus: AH is
required to maintain its ratio of Net Premium to Statutory Capital and
Surplus at or below 3.0 to 1.0.
Calculate here:
(d) Combined Ratio: AH is required to maintain the average of AH's
Combined Ratio as of the end of any four (4) immediately preceding
fiscal quarters of AH's operations at 115% or below.
Calculate here:
Loss Ratio + Expense Ratio = %
% + % = %
(e) Loss Ratio: AH is required to maintain the average of AH's Loss
Ratio as of the end of any four (4) immediately preceding fiscal
quarters of AH's operations not to exceed 87% or below.
Calculate here:
4. As of , 199 , no Trigger Event (as defined in
the Loan Agreement) has occurred during the period as to which this
compliance certificate relates as represented below:
Trigger Events:
<PAGE>
(a) AH's Combined Ratio as of the end of any four (4) immediately
preceding fiscal quarters of AH's operations is greater than 107%.
Calculate here:
(b) AH's Loss Ratio as of the end of any four (4) immediately
preceding fiscal quarters of AH's operations is greater than 83%.
Calculate here:
(c) Borrower's Interest Coverage Ratio as of the end of any fiscal
quarter is less than 1.80 to 1.0.
Calculate here:
(d) As of the date of any reporting period required by law or the
Texas Department of Insurance the Tangible Net Worth of Borrower
(determined in accordance with GAAP) is less than the amount set forth
below for the calendar year indicated:
1997 - $7,890,000
1998 - $8,200,000
Calculate here:
199 : $
(e) As of the date of any reporting period required by law or the
Texas Department of Insurance, the Minimum Statutory Capital and Surplus
is less than $4,200,000 or shall have decreased more than 15% from the
comparable reporting period of the preceding calendar year.
Calculate here:
IN WITNESS WHEREOF, the undersigned has executed and delivered this
certificate this day of , 199 .
BORROWER:
HALLMARK FINANCE CORPORATION
By:
Title
GUARANTOR:
<PAGE>
HALLMARK FINANCIAL SERVICES, INC.
By:
Title
Period Ending:
<PAGE>
EXHIBIT D
AGED STATUS ON PREMIUM FINANCE AGREEMENTS
Total 1-30 31-60 61-90 91+
January 31, 1997
New
Current
Late
Cancel without
Returns
Cancel with Dun
Refunds Due
<PAGE>
SCHEDULE 1.0
BANK RESERVE
APPLICABLE PERIOD AMOUNT OF BANK RESERVE
March, 1997 $20,000.00
April, 1997 40,000.00
May, 1997 60,000.00
June, 1997 80,000.00
July, 1997 100,000.00
August, 1997 120,000.00
September, 1997 140,000.00
October, 1997 160,000.00
November, 1997 180,000.00
December, 1997 200,000.00
January, 1998 220,000.00
February, 1998 240,000.00
March, 1998 and thereafter 250,000.00
<PAGE>
SCHEDULE 9.6
DEFAULT UNDER OTHER INDEBTEDNESS
In connection with the acquisition of the assets of Acadine Capital
Corporation ("ACC") in 1990, American Hallmark General Agency, Inc.
("AHGA") assumed the unpaid balance of a promissory note dated January
1, 1989, in the original principal amount of $982,000 payable by ACC to
White Enterprises, Inc. ("White"). By its terms, the note bears
interest at prime plus one percent until maturity and at the maximum
lawful rate thereafter. AHGA discontinued payment on the note in
November, 1992, at which time the unpaid principal balance was alleged
to be approximately $380,000. Pursuant to the terms of the note, all
unpaid principal and accrued unpaid interest became due on March 1,
1993. AHGA disputes the validity of the obligations evidenced by such
note. Further, AHGA believes that it has a right of offset with respect
to $240,000 which is on deposit with a subsidiary of White. Both White
and such subsidiary are currently in bankruptcy proceedings. AHGA also
believes that collection of the obligation is barred by the statute of
limitations.
Promissory Note
Effective
$8,000,000 Dallas, Texas March 17, 1997
Bank:
NATIONSBANK OF TEXAS, N.A.
901 Main Street
Dallas, Texas 75202
Borrower:
HALLMARK FINANCE CORPORATION
14651 Dallas Parkway, Suite 900
Dallas, Texas 75240
FOR VALUE RECEIVED, the undersigned Borrower unconditionally promises to
pay to the order of Bank, its successors and assigns, without setoff, at
its offices indicated at the beginning of this Note, or at such other
place as may be designated by Bank, the principal amount of Eight
Million and No/100 Dollars ($8,000,000), or so much thereof as may be
advanced from time to time in immediately available funds, together with
interest computed daily on the outstanding principal balance hereunder,
at an annual interest rate, and in accordance with the payment schedule,
indicated below.
1. CERTAIN DEFINITIONS. Unless the context hereof otherwise requires
or provides, the terms used herein and defined in that certain Loan
Agreement between Borrower and Bank, of even date herewith, as the same
has been or may be amended or supplemented from time to time (the
"Agreement") have the same meanings. Certain of these definitions have
been included herein for convenience of reference and have the following
meaning set forth with respect thereto:
"Adjusted Eligible Premium Finance Agreements" at any time,
means the Eligible Premium Finance Agreements adjusted to reflect
the addition or subtraction, as appropriate of: (a) amendments to
any Eligible Premium Finance Agreement; (b) miscellaneous
corrections to Eligible Premium Finance Agreements; (c) cash
receipts (not otherwise included in the definition of Eligible
Premium Finance Agreements); (d) any Eligible Premium Finance
Agreement which has been canceled; (e) earned late charges; (f)
earned set up fees; (g) returned checks (uncollected net of
returned check charges); (h) interest and write-offs; (i) change in
unearned interest; and (j) return premiums in course of
collections.
"Adjusted LIBO Rate" means, for any Interest Period, a rate of
interest per annum equal to the sum of two and eight-tenths of one
percent (2.80%) plus the LIBO Rate for the applicable Interest
Period.
"Adjusted Prime Rate" means, for any Interest Period, a rate
of interest per annum equal to the Prime Rate plus three-eighths of
one percent (0.375%).
<PAGE>
"Board" means the Board of Governors of the Federal Reserve
System of the United States of America or any successor
governmental body.
"Borrowing Base" at any time, shall be equal to the remainder
of (i) the sum of (A) 60% of Adjusted Eligible Premium Finance
Agreements plus (B) 60% of Eligible Return Premiums as determined
in accordance with this Agreement, minus (ii) the Bank Reserve.
"Business Day" means (i) a day other than Saturday, Sunday or
a day on which Bank is authorized to be closed in the State of
Texas, and (ii) if the applicable Business Day relates to an
Adjusted LIBO Rate Tranche, a day on which dealings in Dollar
deposits are also carried on in the London interbank market and
banks are open for business in London.
"Expiration Date" means 2 p.m. on September 17, 1998 or any
other date on which the Loans become due and payable pursuant to
the terms of the Agreement.
"Interest Payment Date" means (i) the last Business Day of
each calendar month, or if earlier occurring in any calendar month
with respect to any LIBO Rate Tranche, the last day of the Interest
Period applicable to such LIBO Rate Tranche, and (ii) the
Expiration Date.
"Interest Period" means for each LIBO Rate Tranche, the period
commencing on the date such LIBO Rate Tranche is made or, in the
case of a rollover to a successive Interest Period, the last day of
the immediately preceding Interest Period and, except as provided
below, ending three (3), six (6) or twelve (12) calendar months
thereafter, as Borrower may select in accordance with the terms of
this Agreement; provided that all Interest Periods are subject to
the following terms and conditions: (A) all Interest Periods which
would otherwise end on a day which is not a Business Day shall end
on the next succeeding Business Day unless such next succeeding
Business Day falls in the next succeeding calendar month, in which
case such Interest Period shall end on the next preceding Business
Day; (B) no Interest Period may be selected that ends later than
the Expiration Date; (C) an Interest Period once selected by
Borrower shall be binding upon Borrower and irrevocable; and (D)
each Interest Period shall terminate on the numerical day of the
last calendar month of such Interest Period which corresponds to
the day such Interest Period began unless there is no such
corresponding day in such month, in which case such Interest Period
shall terminate on the last Business Day of such calendar month.
"Interest Rate Option" means the Adjusted LIBO Rate or the
Adjusted Prime Rate.
"LIBO Rate" means, for each Interest Period, a rate per annum
(rounded upwards, if not already a whole multiple of 1/16 of one
percent, to the next higher 1/16 of one percent) determined by Bank
to be equal to the quotient obtained by dividing (a) the London
Interbank Offered Rate for the relevant Interest Period by (b) the
remainder of one (1) minus the applicable Reserve Requirement on
<PAGE>
the first day of the relevant Interest Period (rounded upwards, if
not already a whole multiple of 1/16 of one percent, to the next
higher 1/16 of one percent).
"LIBO Rate Tranche" means each Tranche the interest on which
is calculated with reference to an Adjusted LIBO Rate.
"London Interbank Offered Rate" means, for the relevant
Interest Period, the rate of interest per annum (rounded upwards,
if not already a whole multiple of 1/16 of one percent, to the next
higher 1/16 of one percent) equal to the rate at which Dollar
deposits would be offered by Bank (or its affiliate) at its in
London, England (or if Bank, at the time any determination is made,
does not maintain an office in London, England, the principal
office of any affiliate of Bank in London, England) to major banks
in the London interbank market at 11:00 a. m. London, England two
(2) Business Days prior to the commencement of the relevant
Interest Period for a period of time equal or comparable to and
commencing on such Interest Period and in an amount equal or
comparable to the principal balance of the Loan to be disbursed or
outstanding during such Interest Period.
"Maximum Amount" means the lesser of $8,000,000 or the
Borrowing Base.
"Maximum Rate" means the higher of the maximum interest rate
allowed by applicable United States or Texas law as amended from
time to time and in effect on the date for which a determination of
interest is made.
"Premium Finance Agreement" means an agreement by which an
insured or prospective insured promises to pay Borrower the amount
advanced under the agreement to American Hallmark Insurance Company
of Texas on behalf of State and County Mutual Fire Insurance
Company or to American Hallmark General Agency, Inc. in payment of
premium on an insurance contract.
"Prime Rate" means the fluctuating rate of interest
established by Bank from time to time, at its discretion, whether
or not such rate shall be otherwise published. The Prime Rate is
established by Bank as an index and may or may not at any time be
the best or lowest rate charged by Bank on any loan.
"Prime Rate Tranche" means a Tranche the interest on which is
calculated with reference to an Adjusted Prime Rate.
"Regulation D" means Regulation D (12 C.F.R. 204) and all
amendments and supplements thereof and any successors or
replacements therefor as promulgated from time to time by the
Board.
"Reserve Requirement" with respect to each Interest Period
means the daily average of the stated maximum rate (expressed as a
decimal) at which reserves (including all basic, supplemental,
marginal, emergency, special, and other reserves and taking into
account any transitional adjustments or other scheduled changes in
reserve requirements during such Interest Period) are required by
the Board (including those under Regulation D) to be maintained
<PAGE>
during such Interest Period with respect to the LIBO Rate, for
Eurocurrency liabilities (as such term is defined in Regulation D)
but without benefit or credit for prorations, exemptions or offsets
that might otherwise be available from time to time under
Regulation D. The Reserve Requirement shall reflect any other
reserves required to be maintained against with respect to LIBO
Rate Tranches (1) any category of liabilities that includes
deposits by reference to which the LIBO Rate is to be determined or
(2) any category of extension of credit or other assets that
includes LIBO Rate Tranches.
"Tranche" means either a LIBO Rate Tranche or a Prime Rate
Tranche.
2. Amortization. Interest only under this Note shall be due and
payable monthly as it accrues commencing March 31, 1997, and continuing
on each Interest Payment Date thereafter through and including the
Expiration Date. The unpaid principal balance of this Note, and all
accrued, unpaid interest thereon, shall be due and payable on the
Expiration Date.
3. Interest. (a) Except as otherwise provided in
subsections (b) and (c), the outstanding principal balance of the Loan
shall bear interest from the date funded until paid, at a rate per annum
equal to the lesser of (x) the Maximum Rate or (y) the rate for each
Tranche determined according to the following:
(A) for the Prime Rate Tranche, a fluctuating rate per annum
equal to the Adjusted Prime Rate; or
(B) for each LIBO Rate Tranche, a rate equal to the Adjusted
LIBO Rate.
(b) If, at any time with respect to the Prime Rate Tranche or
during the Interest Periods of LIBO Rate Tranche, the interest rate
then in effect with respect to such Tranche or Tranches would
exceed the Maximum Rate Bank could charge, then, notwithstanding
the other provisions hereof and Borrower's election, the interest
rate chargeable with respect to such affected Tranche or Tranches
shall immediately become the Maximum Rate, provided that such
affected Tranche or Tranches shall thereafter accrue interest at
the Maximum Rate until such time as Bank has received a sum equal
to the amount of interest which would have accrued on such affected
Tranche or Tranches had such Tranche or Tranches accrued interest
at the interest rate otherwise applicable thereto. So long as
interest is calculated pursuant to this provision, Borrower is not
entitled to elect that any Tranche be, or to convert the interest
rate to the rate applicable to, a LIBO Rate Tranche and the
interest rate for the Prime Rate Tranche shall not be reinstated.
(c) All past due payments of principal and, past due interest
to the extent permitted by law, shall bear interest until paid at a
default rate equal to the Maximum Rate, or if there is no such
Maximum Rate, then at a rate equal to 6.0% above the interest rate
then in effect.
<PAGE>
(d) With respect to any LIBO Rate Tranche, in the event no
selection of an Interest Period is made by Borrower, the relevant
Interest Period shall be for three calendar months.
(e) The amount of the monthly payment of interest shall be
determined by Bank, and Bank's determination thereof shall be
conclusive and binding, absent manifest error.
(f) Notwithstanding any provision of this Note, Bank does not
intend to charge and Borrower shall not be required to pay any
amount of interest or other charges in excess of the maximum
permitted by applicable law. Borrower agrees that during the full
term hereof, the maximum lawful interest rate for this Note as
determined under Texas law shall be the indicated rate ceiling as
specified in Article 5069-1.04 of VATS. Further, to the extent
that any other lawful rate ceiling exceeds the rate ceiling so
determined then the higher rate ceiling shall apply. Any payment
in excess of such maximum shall be refunded to Borrower or credited
against principal, at the option of Bank.
4. Prepayments. Borrower may from time to time upon five (5)
Business Days' prior written notice to Bank and subject to any other
limitations in this Agreement prepay the Loan in whole or in part
without penalty or premium, except as may be incurred in connection with
a prepayment of a LIBO Rate Tranche prior to the end of the applicable
Interest Period, provided any partial prepayment shall be not less than
One Hundred Thousand And No/100 DOLLARS ($100,000) or an integral
multiple thereof. Any such prepayment shall be made subject to the
requirements of Section 2.8, 2.12, 2.13 and 2.14 of the Agreement.
5. Accrual Method. Interest at the Rate set forth above will be
calculated by the 365/360 day method (a daily amount of interest is
computed for a hypothetical year of 360 days; that amount is multiplied
by the actual number of days for which any principal is outstanding
hereunder).
6. Adjusted Prime Rate Change Date. The Adjusted Prime Rate of
this Note shall change automatically, without notice to Borrower, as of
the opening of business on the effective date of each change in the
Prime Rate charged by Bank.
7. Payment Schedule. All payments received hereunder shall be
applied first to the payment of any expense or charges payable hereunder
or under any other loan documents executed in connection with this Note,
then to interest due and payable, with the balance applied to principal,
or in such other order as Bank shall determine at its option.
8. Revolving Feature. Borrower may borrow, repay and reborrow
hereunder at any time, up to a maximum aggregate amount outstanding at
any one time equal to the Maximum Amount, provided that Borrower is not
in default under any provision of this Note, any other documents
executed in connection with this Note, or any other note or other loan
documents now or hereafter executed in connection with any other
obligation of Borrower to Bank, and provided that the borrowings
hereunder do not exceed any other limitation on borrowings by Borrower.
Bank shall incur no liability for its refusal to advance funds based
upon its determination that any conditions of such further advances have
not been met. Bank records of the amounts borrowed from time to time
shall be conclusive proof thereof.
<PAGE>
9. Waivers, Consents and Covenants. Borrower, any indorser or
guarantor hereof, or any other party hereto (individually an "Obligor"
and collectively "Obligors") and each of them jointly and severally: (a)
waive presentment, demand, protest, notice of demand, notice of intent
to accelerate, notice of acceleration of maturity, notice of protest,
notice of nonpayment, notice of dishonor, and any other notice required
to be given under the law to any Obligor in connection with the
delivery, acceptance, performance, default or enforcement of this Note,
any indorsement or guaranty of this Note, or any other documents
executed in connection with this Note or any other note or other loan
documents now or hereafter executed in connection with any obligation of
Borrower to Bank (the "Loan Documents"); (b) consent to all delays,
extensions, renewals or other modifications of this Note or the Loan
Documents, or waivers of any term hereof or of the Loan Documents, or
release or discharge by Bank of any of Obligors, or release,
substitution or exchange of any security for the payment hereof, or the
failure to act on the part of Bank, or any indulgence shown by Bank
(without notice to or further assent from any of Obligors), and agree
that no such action, failure to act or failure to exercise any right or
remedy by Bank shall in any way affect or impair the obligations of any
Obligors or be construed as a waiver by Bank of, or otherwise affect,
any of Bank's rights under this Note, under any indorsement or guaranty
of this Note or under any of the Loan Documents; and (c) agree to pay,
on demand, all costs and expenses of collection or defense of this Note
or of any indorsement or guaranty hereof and/or the enforcement or
defense of Bank's rights with respect to, or the administration,
supervision, preservation, or protection of, or realization upon, any
property securing payment hereof, including, without limitation,
reasonable attorney's fees, including fees related to any suit,
mediation or arbitration proceeding, out of court payment agreement,
trial, appeal, bankruptcy proceedings or other proceeding, in such
amount as may be determined reasonable by any arbitrator or court,
whichever is applicable.
10. Events of Default. Upon the occurrence of an Event of Default
described in Section 9.8 of the Agreement, the entire principal balance
and accrued interest of this Note shall be due and payable without
demand, presentment for payment, notice of nonpayment, protest, notice
of protest, notice of intent to accelerate, notice of acceleration and
all other notices and further actions of any kind, all of which are
hereby expressly waived by Borrower. Should any other Event of Default
under the Agreement or any other Loan Document occur and be continuing,
Bank may, without demand or notice of its election declare the entire
unpaid balance of this Note, or any part thereof, immediately due and
payable, whereupon the principal of and accrued interest on this Note
shall be forthwith due and payable without demand, presentment for
payment, notice of nonpayment, protest, notice of protest, notice of
intent to accelerate, notice of acceleration and all other notices and
further actions of any kind, all of which are hereby expressly waived by
Borrower.
11. Remedies upon Default. Whenever there is a default under this
Note (a) the entire balance outstanding hereunder and all other
obligations of any Obligor to Bank (however acquired or evidenced)
shall, at the option of Bank, become immediately due and payable and any
obligation of Bank to permit further borrowing under this Note shall
immediately cease and terminate, and/or (b) to the extent permitted by
law, the rate of interest on the unpaid principal shall be increased at
<PAGE>
Bank's discretion up to the Maximum Rate allowed by law, or if none, 15%
per annum (the "Default Rate"). The provisions herein for a Default
Rate shall not be deemed to extend the time for any payment hereunder or
to constitute a "grace period" giving Obligors a right to cure any
default. At Bank's option, any accrued and unpaid interest, fees or
charges may, for purposes of computing and accruing interest on a daily
basis after the due date of this Note or any installment thereof, be
deemed to be a part of the principal balance, and interest shall accrue
on a daily compounded basis after such date at the Default Rate provided
in this Note until the entire outstanding balance of principal and
interest is paid in full. Upon a default under this Note, Bank is
hereby authorized at any time, at its option and without notice or
demand, to set off and charge against any deposit accounts of any
Obligor (as well as any money, instruments, securities, documents,
chattel paper, credits, claims, demands, income and any other property,
rights and interests of any Obligor), which at any time shall come into
the possession or custody or under the control of Bank or any of its
agents, affiliates or correspondents, any and all obligations due
hereunder. Additionally, Bank shall have all rights and remedies
available under each of the Loan Documents, as well as all rights and
remedies available at law or in equity.
12. Non-Waiver. The failure at any time of Bank to exercise any
of its options or any other rights hereunder shall not constitute a
waiver thereof, nor shall it be a bar to the exercise of any of its
options or rights at a later date. All rights and remedies of Bank
shall be cumulative and may be pursued singly, successively or together,
at the option of Bank. The acceptance by Bank of any partial payment
shall not constitute a waiver of any default or of any of Bank's rights
under this Note. No waiver of any of its rights hereunder, and no
modification or amendment of this Note, shall be deemed to be made by
Bank unless the same shall be in writing, duly signed on behalf of Bank;
each such waiver shall apply only with respect to the specific instance
involved, and shall in no way impair the rights of Bank or the
obligations of Obligors to Bank in any other respect at any other time.
13. Applicable Law, Venue and Jurisdiction. Borrower agrees that
this Note shall be deemed to have been made in the State of Texas at
Bank's address indicated at the beginning of this Note and shall be
governed by, and construed in accordance with, the laws of the State of
Texas and is performable in the City and County of Texas indicated at
the beginning of this Note. In any litigation in connection with or to
enforce this Note or any indorsement or guaranty of this Note or any
Loan Documents, Obligors, and each of them, irrevocably consent to and
confer personal jurisdiction on the courts of the State of Texas or the
United States courts located within the State of Texas. Nothing
contained herein shall, however, prevent Bank from bringing any action
or exercising any rights within any other state or jurisdiction or from
obtaining personal jurisdiction by any other means available under
applicable law.
14. Partial Invalidity. The unenforceability or invalidity of any
provision of this Note shall not affect the enforceability or validity
of any other provision herein and the invalidity or unenforceability of
any provision of this Note or of the Loan Documents to any person or
circumstance shall not affect the enforceability or validity of such
provision as it may apply to other persons or circumstances.
<PAGE>
15. Binding Effect. This Note shall be binding upon and inure to
the benefit of Borrower, Obligors and Bank and their respective
successors, assigns, heirs and personal representatives, provided,
however, that no obligations of Borrower or Obligors hereunder can be
assigned without prior written consent of Bank.
16. Controlling Document. To the extent that this Note conflicts
with or is in any way incompatible with any other document related
specifically to the loan evidenced by this Note, this Note shall control
over any other such document, and if this Note does not address an
issue, then each other such document shall control to the extent that it
deals most specifically with an issue.
17. Arbitration. ANY CONTROVERSY OR CLAIM BETWEEN OR AMONG THE
PARTIES HERETO INCLUDING BUT NOT LIMITED TO THOSE ARISING OUT OF OR
RELATING TO THIS INSTRUMENT, AGREEMENT OR DOCUMENT OR ANY RELATED
INSTRUMENTS, AGREEMENTS OR DOCUMENTS, INCLUDING ANY CLAIM BASED ON OR
ARISING FROM AN ALLEGED TORT, SHALL BE DETERMINED BY BINDING ARBITRATION
IN ACCORDANCE WITH THE FEDERAL ARBITRATION ACT (OR IF NOT APPLICABLE,
THE APPLICABLE STATE LAW), THE RULES OF PRACTICE AND PROCEDURE FOR THE
ARBITRATION OF COMMERCIAL DISPUTES OF J.A.M.S./ENDISPUTE OR ANY
SUCCESSOR THEREOF ("J.A.M.S."), AND THE "SPECIAL RULES" SET FORTH BELOW.
IN THE EVENT OF ANY INCONSISTENCY, THE SPECIAL RULES SHALL CONTROL.
JUDGMENT UPON ANY ARBITRATION AWARD MAY BE ENTERED IN ANY COURT HAVING
JURISDICTION. ANY PARTY TO THIS INSTRUMENT, AGREEMENT OR DOCUMENT MAY
BRING AN ACTION, INCLUDING A SUMMARY OR EXPEDITED PROCEEDING, TO COMPEL
ARBITRATION OF ANY CONTROVERSY OR CLAIM TO WHICH THIS AGREEMENT APPLIES
IN ANY COURT HAVING JURISDICTION OVER SUCH ACTION.
A. Special Rules. THE ARBITRATION SHALL BE CONDUCTED IN THE
COUNTY OF ANY BORROWER S DOMICILE AT THE TIME OF THE EXECUTION OF
THIS INSTRUMENT, AGREEMENT OR DOCUMENT AND ADMINISTERED BY J.A.M.S.
WHO WILL APPOINT AN ARBITRATOR; IF J.A.M.S. IS UNABLE OR LEGALLY
PRECLUDED FROM ADMINISTERING THE ARBITRATION, THEN THE AMERICAN
ARBITRATION ASSOCIATION WILL SERVE. ALL ARBITRATION HEARINGS WILL
BE COMMENCED WITHIN 90 DAYS OF THE DEMAND FOR ARBITRATION; FURTHER,
THE ARBITRATOR SHALL ONLY, UPON A SHOWING OF CAUSE, BE PERMITTED TO
EXTEND THE COMMENCEMENT OF SUCH HEARING FOR UP TO AN ADDITIONAL 60
DAYS.
B. Reservation of Rights. NOTHING IN THIS ARBITRATION
PROVISION SHALL BE DEEMED TO (I) LIMIT THE APPLICABILITY OF ANY
OTHERWISE APPLICABLE STATUTES OF LIMITATION OR REPOSE AND ANY
WAIVERS CONTAINED IN THIS INSTRUMENT, AGREEMENT OR DOCUMENT; OR
(II) BE A WAIVER BY BANK OF THE PROTECTION AFFORDED TO IT BY 12
U.S.C. SEC. 91 OR ANY SUBSTANTIALLY EQUIVALENT STATE LAW; OR (III)
LIMIT THE RIGHT OF BANK HERETO (A) TO EXERCISE SELF HELP REMEDIES
SUCH AS (BUT NOT LIMITED TO) SETOFF, OR (B) TO FORECLOSE AGAINST
ANY REAL OR PERSONAL PROPERTY COLLATERAL, OR (C) TO OBTAIN FROM A
COURT PROVISIONAL OR ANCILLARY REMEDIES SUCH AS (BUT NOT LIMITED
TO) INJUNCTIVE RELIEF, WRIT OF POSSESSION OR THE APPOINTMENT OF A
RECEIVER. BANK MAY EXERCISE SUCH SELF HELP RIGHTS, FORECLOSE UPON
SUCH PROPERTY, OR OBTAIN SUCH PROVISIONAL OR ANCILLARY REMEDIES
BEFORE, DURING OR AFTER THE PENDENCY OF ANY ARBITRATION PROCEEDING
BROUGHT PURSUANT TO THIS INSTRUMENT, AGREEMENT OR DOCUMENT.
NEITHER THIS EXERCISE OF SELF HELP REMEDIES NOR THE INSTITUTION OR
MAINTENANCE OF AN ACTION FOR FORECLOSURE OR PROVISIONAL OR
ANCILLARY REMEDIES SHALL CONSTITUTE A WAIVER OF THE RIGHT OF ANY
<PAGE>
PARTY, INCLUDING THE CLAIMANT IN ANY SUCH ACTION, TO ARBITRATE THE
MERITS OF THE CONTROVERSY OR CLAIM OCCASIONING RESORT TO SUCH
REMEDIES.
18. Representation Concerning Use of Proceeds. Borrower
represents to Bank that the proceeds of this loan are to be used
primarily for business, commercial or agricultural purposes. Borrower
acknowledges having read and understood, and agrees to be bound by, all
terms and conditions of this Note.
HALLMARK FINANCE CORPORATION
By
Name: Linda H. Sleeper
Its: Executive Vice President
March 17, 1997
SECURITY AGREEMENT
Bank/Secured Party:
NATIONSBANK OF TEXAS, N.A.
901 Main Street
Dallas, Texas 75202
Debtor:
HALLMARK FINANCE CORPORATION
14651 Dallas Parkway
Suite 900
Dallas, Texas 75240
Debtor is a corporation. The collateral is located at Debtor's address
shown above.
Terms used herein which are defined in that certain Loan Agreement
of even date herewith between Debtor and Bank (the "Loan Agreement"),
unless otherwise defined herein, shall have the same meanings set forth
in the Loan Agreement.
1. Security Interest. For good and valuable consideration, the
receipt and adequacy of which are hereby acknowledged, Debtor
(hereinafter referred to as "Debtor") assigns and grants to Bank (also
known as "Secured Party"), a security interest and lien in the
Collateral (hereinafter defined) to secure the payment and the
performance of the Obligation (hereinafter defined).
2. Collateral. A security interest is granted in the following
collateral described in this Item 2 (the Collateral"):
A. Types of Collateral.
[X] Premium Finance Agreements:
[X] Blanket Lien: All Premium Finance Agreements and all rights
and privileges related thereto, including, without limitation, all
collateral therefor and guaranties thereof, now owned or hereafter
acquired by Debtor; all notes receivable of Debtor (notes made payable
to the order of Debtor) now existing or hereafter arising, together with
all renewals, extensions, modifications or rearrangements of such notes,
payments thereon, and all other proceeds, monies, income and benefits
arising from or by virtue of all sums payable or distributable with
respect to such notes; all accounts as that term is defined in Chapter 9
of the Texas Business and Commerce Code, general intangibles, executory
contract rights, chattel paper, documents, instruments, notes, drafts,
acceptances, tax refunds, insurance proceeds, rights to refund and
indemnification, and all other debts, obligations and liabilities in
whatever form owing to Debtor from any person, firm or corporation now
existing or at any time hereafter arising including all securities,
guaranties, warranties, indemnity agreements, insurance policies and all
other agreements pertaining to the same; all collateral which secures
any of the foregoing; and all proceeds of the foregoing. The Collateral
includes all of Debtor's rights to receive payment from any party or
<PAGE>
parties arising under any reinsurance or similar types of agreements
related to any Premium Finance Agreements of Debtor, including rights
arising under the Reinsurance Agreements as defined in the Loan
Agreement, as well as all of Debtor's rights to any unearned insurance
premiums. Notwithstanding the foregoing, the Collateral does not
include any Premium Finance Agreement sold to Peregrine Premium Finance
L.C. prior to the date hereof.<PAGE>
[X] Accounts:
[X] Blanket Lien: Any and all accounts and other rights of Debtor
to the payment for goods sold or leased or for services rendered whether
or not earned by performance, including, without limitation, contract
rights, book debts, checks, notes, drafts, instruments, chattel paper,
acceptances, and any and all amounts due to Debtor from a factor or
other forms of obligations and receivables, now existing or hereafter
arising.
[X] Inventory:
[X] Blanket Lien: Any and all of Debtor's goods held as
inventory, whether now owned or hereafter acquired, including without
limitation, any and all such goods held for sale or lease or being
processed for sale or lease in Debtor's business, as now or hereafter
conducted, including all materials, goods and work in process, finished
goods and other tangible property held for sale or lease or furnished or
to be furnished under contracts of service or used or consumed in
Debtor's business, along with all documents (including documents of
title) covering such inventory.
[X] Equipment:
[X] Blanket Lien: Any and all of Debtor's goods held as
equipment, including, without limitation, all machinery, tools, dies,
furnishings, or fixtures, wherever located, whether now owned or
hereafter acquired, together with all increases, parts, fittings,
accessories, equipment, and special tools now or hereafter affixed to
any part thereof or used in connection therewith.
[X] Instruments and/or Investment Documents:
[X] Blanket Lien: Any and all of Debtor's instruments, documents,
and other writings of any type, which evidence a right to the payment
of money and which are of a type that is transferred in the ordinary
course of business by delivery with any necessary indorsement or
assignment, whether now owned or hereafter acquired, including, without
limitation, negotiable instruments, promissory notes, and documents of
title owned or to be owned by Debtor, certificates of deposit, and all
liens, security agreements, leases and other contracts securing or
otherwise relating to any of said instruments or documents.
[X] General Intangibles:
[X] Blanket Lien: Any and all of Debtor's general intangible
property, whether now owned or hereafter acquired by Debtor or used in
Debtor's business currently or hereafter, including, without limitation,
all patents, trademarks, service marks, trade secrets, copyrights and
exclusive licenses (whether issued or pending) literary rights, contract
rights and all documents, applications, materials and other matters
related thereto, all inventions, all manufacturing, engineering and
<PAGE>
production plans, drawings, specifications, processes and systems, all
trade names, goodwill and all chattel paper, documents and instruments
relating to such general intangibles.
[X] Other:
[X] Computer Collateral:
[X] Blanket Lien: All of the following property now owned or
hereafter acquired (whether as owner, lessee, licensee, or otherwise) by
Debtor: (i) all computer and other electronic data processing hardware,
integrated computer systems, central processing units, memory units,
display terminals, printers, features, computer elements, card readers,
tape drives, hard and soft disk drives, cables, electrical supply
hardware, generators, power equalizers, accessories and all peripheral
devices and other related computer hardware; (ii) all software programs
(including source code and object code and all related applications and
data files) designed for use on the computers and electronic data
processing hardware described in clause (i) above; (iii) all firmware
associated therewith; (iv) all documentation (including flow charts,
logic diagrams, manuals, guides and specifications) for such hardware,
software and firmware described in the preceding clauses (i), (ii), and
(iii); and (v) all rights with respect to all of the foregoing,
including, without limitation, licenses, options, warranties, service
contracts, program services, test rights, maintenance rights, support
rights, improvement rights, renewal rights and indemnifications and any
substitutions, replacements, additions or model conversions of any of
the foregoing.
B. Substitutions, Proceeds and Related Items. Any and all
substitutes and replacements for, accessions, attachments and other
additions to, tools, parts and equipment now or hereafter added to or
used in connection with, and all cash or non-cash proceeds and products
of, the Collateral (including, without limitation, all income, benefits
and property receivable, received or distributed which results from any
of the Collateral, such as dividends payable or distributable in cash,
property or stock; insurance distributions of any kind related to the
Collateral, including, without limitation, returned premiums, interest,
premium and principal payments; redemption proceeds and subscription
rights; and shares or other proceeds of conversions or splits of any
securities in the Collateral); any and all choses in action and causes
of action of Debtor, whether now existing or hereafter arising,
relating directly or indirectly to the Collateral (whether arising in
contract, tort or otherwise and whether or not currently in litigation);
all documents, accounts and chattel paper, whether now existing or
hereafter arising directly or indirectly from or related to the
Collateral; all warranties related to the Collateral; all of Debtor's
books, records, data, plans, manuals, computer software, computer tapes,
computer systems, computer disks, computer programs, source codes and
object codes containing any information, pertaining directly or
indirectly to the Collateral and all rights of Debtor to retrieve data
and other information pertaining directly or indirectly to the
Collateral from third parties, whether now existing or hereafter
arising; and all returned, refused, stopped in transit, or repossessed
Collateral, any of which, if received by Debtor, upon request shall be
delivered immediately to Bank.
<PAGE>
C. Balances and Other Property. The balance of every deposit
account of Debtor maintained with Bank and any other claim of Debtor
against Bank, now or hereafter existing, liquidated or unliquidated, and
all money, instruments, securities, documents, chattel paper, credits,
claims, demands, income, and any other property, rights and interests of
Debtor which at any time shall come into the possession or custody or
under the control of Bank or any of Bank's agents or affiliates for any
purpose, and the proceeds of any thereof. Bank shall be deemed to have
possession of any of the Collateral in transit to or set apart for Bank
or any of its agents or affiliates.
3. Description of Obligation(s). The following obligations
("Obligation" or Obligations ) are secured by this Agreement: (a) All
debts, obligations, liabilities and agreements of Debtor to Bank, now or
hereafter existing, arising directly or indirectly between Debtor and
Bank whether absolute or contingent, joint or several, secured or
unsecured, due or not due, contractual or tortious, liquidated or
unliquidated, arising by operation of law or otherwise, and all
renewals, extensions or rearrangement of any of the above; (b) All
costs incurred by Bank to obtain, preserve, perfect and enforce this
Agreement and maintain, preserve, collect and realize upon the
Collateral; (c) All other costs and attorney's fees incurred by Bank,
for which Debtor is obligated to reimburse Bank in accordance with the
terms of the Loan Agreement and all other Loan Documents (hereinafter
defined), together with interest at the maximum rate allowed by law, or
if there is no maximum rate, 15% per annum; and (d) All amounts which
may be owed to Bank pursuant to the Loan Agreement and all other Loan
Documents executed between Bank and any other Debtor. If Debtor is not
the obligor of the Obligation, and in the event any amount paid to Bank
on any Obligation is subsequently recovered from Bank in or as a result
of any bankruptcy, insolvency or fraudulent conveyance proceeding,
Debtor shall be liable to Bank for the amounts so recovered up to the
fair market value of the Collateral whether or not the Collateral has
been released or the security interest terminated. In the event the
Collateral has been released or the security interest terminated, the
fair market value of the Collateral shall be determined, at Bank's
option, as of the date the Collateral was released, the security
interest terminated, or said amounts were recovered.
4. Debtor's Warranties. Debtor hereby represents and warrants to
Bank as follows:
A. Financing Statements. Except as may be noted by schedule
attached hereto and incorporated herein by reference, no financing
statement covering the Collateral is or will be on file in any public
office, except the financing statements relating to this security
interest, and no security interest, other than the one herein created,
has attached or been perfected in the Collateral or any part thereof.
B. Ownership. Debtor owns, or will use the proceeds of any loans
by Bank to become the owner of, the Collateral free from any setoff,
claim, restriction, lien, security interest or encumbrance except
(a) liens in favor of Bank, (b) liens for taxes, assessments or similar
charges, incurred in the ordinary course of business that are not yet
due and payable, (c) liens of mechanics, materialmen, warehousemen,
carriers, operators and other like liens securing obligations incurred
in the ordinary course of business that are not yet due and payable;
(d) landlord's liens for rentals not yet due and payable; and (e) liens
<PAGE>
securing any purchase money Indebtedness permitted hereunder (if any) if
such liens do not encumber any property other than the property for
which such Indebtedness was incurred and do not secure payment of any
amount other than the amount from time to time owing on the property for
which such Indebtedness was incurred and the Indebtedness initially
secured by such lien does not exceed $100,000.
C. Fixtures and Accessions. None of the Collateral is affixed to
real estate or is an accession to any goods, or will become a fixture or
accession, except as expressly set out herein.
D. Claims of Debtors on the Collateral. All account debtors and
other obligors whose debts or obligations are part of the Collateral
have no right to setoffs, counterclaims or adjustments, and no defenses
in connection therewith.
E. Environmental Compliance. The conduct of Debtor's business
operations and the condition of Debtor's property does not and will not
violate any federal laws, rules or ordinances for environmental
protection, regulations of the Environmental Protection Agency and any
applicable local or state law, rule, regulation or rule of common law
and any judicial interpretation thereof relating primarily to the
environment or any materials defined as hazardous materials or
substances under any local, state or federal environmental laws, rules
or regulations, and petroleum, petroleum products, oil and asbestos
("Hazardous Materials").
F. Power and Authority. Debtor has full power and authority to
make this Agreement, and all necessary consents and approvals of any
persons, entities, governmental or regulatory authorities and securities
exchanges have been obtained to effectuate the validity of this
Agreement.
G. Licenses and Permits. Debtor has obtained all licenses,
permits, and approvals required by applicable law for it to engage in
the business of insurance premium financing in each state in which
Debtor engages in such business. To the best knowledge of Debtor,
Debtor owns, is licensed, or is entitled to use by license or otherwise,
or has all permits and other governmental approvals for all licenses,
technology, know-how, processes and rights with respect to any of the
foregoing used in or necessary for the conduct of Debtor's business as
currently conducted except where failure to do so does not and is not
reasonably expected to have a material adverse effect upon the
Borrower's financial condition or operation or the Collateral.
H. Form of Agreements. The form of each premium finance
agreement used by Debtor in its insurance premium financing business has
been approved by the State Board of Insurance of the State of Texas or
other governmental regulatory authority with jurisdiction to approve
same.
I. Compliance with Law. Debtor has complied with all applicable
laws, including, without limitation, Chapter 24 of the Texas Insurance
Code, Title 28 of the Texas Administrative Code, the Truth-in-Lending
Act (the "Act"), and Regulation Z ("Reg Z") promulgated pursuant
thereto, and all other statutes applicable to Debtor's business.
<PAGE>
J. Reinsurance Agreements. Each Reinsurance Agreement is in full
force and effect and constitutes the legal, valid, and binding
obligation of each party thereto.
5. Debtor's Covenants. Until full payment and performance of all
of the Obligation and termination or expiration of any obligation or
commitment of Bank to make advances or loans to Debtor, unless Bank
otherwise consents in writing:
A. Obligation and This Agreement. Debtor shall perform all of
its agreements herein and in any other agreements between it and Bank.
B. Ownership and Maintenance of the Collateral. Debtor shall
keep all tangible Collateral in good condition. Debtor shall defend the
Collateral against all claims and demands of all persons at any time
claiming any interest therein adverse to Bank. Debtor shall keep the
Collateral free from all liens and security interests except those liens
described in paragraph 4.B of this Agreement. Debtor shall furnish to
Bank proof of payment of ad valorem taxes payable on the Collateral as
and when requested by Bank.
C. Insurance. Debtor shall insure the Collateral which is of an
insurable nature (the parties agree that Premium Finance Agreements
shall not be insured) with companies acceptable to Bank. Such insurance
shall be in an amount not less than the fair market value of the
Collateral and shall be against such casualties, with such deductible
amounts as Bank shall approve. All insurance policies shall be written
for the benefit of Debtor and Bank as their interests may appear,
payable to Bank as loss payee, or in other form satisfactory to Bank,
and such policies or certificates evidencing the same shall be furnished
to Bank. All policies of insurance shall provide for written notice to
Bank at least thirty (30) days prior to cancellation. Risk of loss or
damage is Debtor's to the extent of any deficiency in any effective
insurance coverage.
D. Bank's Costs. Debtor shall pay all costs necessary to obtain,
preserve, perfect, defend and enforce the security interest created by
this Agreement, collect the Obligation, and preserve, defend, enforce
and collect the Collateral, including but not limited to taxes,
assessments, insurance premiums, repairs, rent, storage costs and
expenses of sales, legal expenses, reasonable attorney's fees and other
fees or expenses for which Debtor is obligated to reimburse Bank in
accordance with the terms of the Loan Documents. Whether the Collateral
is or is not in Bank's possession, and without any obligation to do so
and without waiving Debtor's default for failure to make any such
payment, Bank at its option may pay any such costs and expenses,
discharge encumbrances on the Collateral, and pay for insurance of the
Collateral, and such payments shall be a part of the Obligation and bear
interest at the rate set out in the Obligation for amounts past due.
Debtor agrees to reimburse Bank on demand for any costs so incurred.
E. Information and Inspection. Debtor shall (i) promptly furnish
Bank any information with respect to the Collateral requested by Bank;
(ii) allow Bank or its representatives to inspect the Collateral, at any
time and wherever located, and to inspect and copy, or furnish Bank or
<PAGE>
its representatives with copies of, all records relating to the
Collateral and the Obligation; and (iii) promptly furnish Bank or its
representatives such information as Bank may request to identify the
Collateral, at the time and in the form requested by Bank.
F. Additional Documents. Debtor shall sign and deliver any
papers deemed necessary or desirable in the judgment of Bank to obtain,
maintain, and perfect the security interest hereunder and to enable Bank
to comply with any federal or state law in order to obtain or perfect
Bank's interest in the Collateral or to obtain proceeds of the
Collateral.
G. Parties Liable on the Collateral. Debtor shall preserve the
liability of all obligors on any Collateral and shall preserve the
priority of all security therefor. Bank shall have no duty to preserve
such liability or security, but may do so at the expense of Debtor,
without waiving Debtor's default.
H. Records of the Collateral. Debtor at all times shall maintain
accurate books and records covering the Collateral. Debtor immediately
will mark all books and records with an entry showing the absolute
assignment of all Collateral to Bank, and Bank is hereby given the right
to audit the books and records of Debtor relating to the Collateral at
any time and from time to time. The amounts shown as owed to Debtor on
Debtor's books and on any assignment schedule will be the undisputed
amounts owing and unpaid.
I. Disposition of the Collateral. If disposition of any
Collateral gives rise to an account, chattel paper or instrument, Debtor
immediately shall notify Bank, and upon request of Bank shall assign or
indorse the same to Bank. No Collateral may be sold, leased,
manufactured, processed or otherwise disposed of by Debtor in any manner
without the prior written consent of Bank, except the Collateral sold,
leased, manufactured, processed or consumed in the ordinary course of
business.
J. Accounts. Each account held as Collateral will represent the
valid and legally enforceable obligation of third parties.
K. Notice/Location of the Collateral. Debtor shall give Bank
written notice of each office of Debtor in which records of Debtor
pertaining to accounts held as Collateral are kept, and each location at
which the Collateral is or will be kept, and of any change of any such
location. If no such notice is given, all records of Debtor pertaining
to the Collateral and all Collateral of Debtor are and shall be kept at
the address marked by Debtor above.
L. Change of Name/Status and Notice of Changes. Without the
written consent of Bank, Debtor shall not change its name, change its
corporate status, use any trade name or engage in any business not
reasonably related to its business as presently conducted. Debtor shall
notify Bank immediately of (i) any material change in the Collateral,
(ii) a change in Debtor's residence or location, (iii) a change in any
matter warranted or represented by Debtor in this Agreement, or in any
of the Loan Documents or furnished to Bank pursuant to this Agreement,
and (iv) the occurrence of an Event of Default (hereinafter defined).
<PAGE>
M. Use and Removal of the Collateral. Debtor shall not use the
Collateral illegally. Debtor shall not, unless previously indicated as
a fixture, permit the Collateral to be affixed to real or personal
property without the prior written consent of Bank. Debtor shall not
permit any of the Collateral to be removed from the locations specified
herein without the prior written consent of Bank, except for the sale of
inventory in the ordinary course of business.
N. Possession of the Collateral. Upon the occurrence of any
Trigger Event, within one (1) Business Day, Borrower shall immediately
notify Bank of the occurrence of such Trigger Event and deliver to Bank
all Premium Finance Agreements of Borrower (excluding those Premium
Finance Agreements sold to Peregrine Premium Finance L.C. prior to the
date hereof), appropriately endorsed, with full recourse and warranty
and execute, acknowledge, and deliver to Bank and file or cause to be
filed any and all other documents, agreements and instruments and do all
other acts or things as Bank may reasonably request in order more fully
to effect the assignment of the Premium Finance Agreements to Bank.
O. Consumer Credit. If any Collateral or proceeds includes
obligations of third parties to Debtor, the transactions giving rise to
the Collateral shall conform in all respects to the applicable state or
federal law including but not limited to consumer credit law. Debtor
shall hold harmless and indemnify Bank against any cost, loss or expense
arising from Debtor's breach of this covenant.
P. Power of Attorney. Debtor appoints Bank and any officer
thereof as Debtor's attorney-in-fact with full power in Debtor's name
and behalf to do every act which Debtor is obligated to do or may be
required to do hereunder; however, nothing in this paragraph shall be
construed to obligate Bank to take any action hereunder nor shall Bank
be liable to Debtor for failure to take any action hereunder. This
appointment shall be deemed a power coupled with an interest and shall
not be terminable as long as the Obligation is outstanding and shall not
terminate on the disability or incompetence of Debtor.
Q. Waivers by Debtor. Debtor waives notice of the creation,
advance, increase, existence, extension or renewal of, and of any
indulgence with respect to, the Obligation; waives presentment, demand,
notice of dishonor, and protest; waives notice of the amount of the
Obligation outstanding at any time, notice of any change in financial
condition of any person liable for the Obligation or any part thereof,
notice of any Event of Default, and all other notices respecting the
Obligation; and agrees that maturity of the Obligation and any part
thereof may be extended or renewed, and after an Event of Default has
occurred and is continuing, accelerated, one or more times by Bank in
its discretion, without notice to Debtor. Debtor waives any right to
require that any action be brought against any other person or to
require that resort be had to any other security or to any balance of
any deposit account. Debtor further waives any right of subrogation or
to enforce any right of action against any other Debtor until the
Obligation is paid in full.
R. Other Parties and Other Collateral. No renewal or extension
of or any other indulgence with respect to the Obligation or any part
thereof, no release of any security, no release of any person (including
any maker, indorser, guarantor or surety) liable on the Obligation, no
delay in enforcement of payment, and no delay or omission or lack of
<PAGE>
diligence or care in exercising any right or power with respect to the
Obligation or any security therefor or guaranty thereof or under this
Agreement shall in any manner impair or affect the rights of Bank under
the law, hereunder, or under any other agreement pertaining to the
Collateral. Bank need not file suit or assert a claim for personal
judgment against any person for any part of the Obligation or seek to
realize upon any other security for the Obligation, before foreclosing
or otherwise realizing upon the Collateral. Debtor waives any right to
the benefit of or to require or control application of any other
security or proceeds thereof, and agrees that Bank shall have no duty or
obligation to Debtor to apply to the Obligation any such other security
or proceeds thereof.
S. Collection and Segregation of Accounts and Right to Notify.
Bank hereby authorizes Debtor to collect the Collateral, subject to the
direction and control of Bank, but Bank may, after an Event of Default
has occurred and without further notice, curtail or terminate said
authority at any time. Upon notice by Bank, whether oral or in writing,
to Debtor, Debtor shall forthwith upon receipt of all checks, drafts,
cash, and other remittances in payment of or on account of the
Collateral, deposit the same in one or more special accounts maintained
with Bank over which Bank alone shall have the power of withdrawal. The
remittance of the proceeds of such Collateral shall not, however,
constitute payment or liquidation of such Collateral until Bank shall
receive good funds for such proceeds. Funds placed in such special
accounts shall be held by Bank as security for all Obligations secured
hereunder. These proceeds shall be deposited in precisely the form
received, except for the indorsement of Debtor where necessary to permit
collection of items, which indorsement Debtor agrees to make, and which
indorsement Bank is also hereby authorized, as attorney-in-fact, to make
on behalf of Debtor. In the event Bank has notified Debtor to make
deposits to a special account, pending such deposit, Debtor agrees that
it will not commingle any such checks, drafts, cash or other remittances
with any funds or other property of Debtor, but will hold them separate
and apart therefrom, and upon an express trust for Bank until deposit
thereof is made in the special account. Bank will, from time to time,
apply the whole or any part of the Collateral funds on deposit in this
special account against such Obligations as are secured hereby as Bank
may in its sole discretion elect. At the sole election of Bank, any
portion of said funds on deposit in the special account which Bank shall
elect not to apply to the Obligations, may be paid over by Bank to
Debtor. If an Event of Default has occurred and is continuing, Bank may
notify persons obligated on any Collateral to make payments directly to
Bank and Bank may take control of all proceeds of any Collateral. Until
Bank elects to exercise such rights, Debtor, as agent of Bank, shall
collect and enforce all payments owed on the Collateral.
T. Compliance with State and Federal Laws. Debtor will maintain
its existence, good standing and qualification to do business, where
required, and comply with all laws, regulations and governmental
requirements, including without limitation, environmental laws
applicable to it or any of its property, business operations and
transactions.
U. Environmental Covenants. Debtor shall immediately advise Bank
in writing of (i) any and all enforcement, cleanup, remedial, removal,
or other governmental or regulatory actions instituted, completed or
threatened pursuant to any applicable federal, state, or local laws,
<PAGE>
ordinances or regulations relating to any Hazardous Materials affecting
Debtor's business operations; and (ii) all claims made or threatened by
any third party against Debtor relating to damages, contribution, cost
recovery, compensation, loss or injury resulting from any Hazardous
Materials. Debtor shall immediately notify Bank of any remedial action
taken by Debtor with respect to Debtor's business operations. Debtor
will not use or permit any other party to use any Hazardous Materials at
any of Debtor's places of business or at any other property owned by
Debtor except such materials as are incidental to Debtor's normal course
of business, maintenance and repairs and which are handled in compliance
with all applicable environmental laws. Debtor agrees to permit Bank,
its agents, contractors and employees to enter and inspect any of
Debtor's places of business or any other property of Debtor at any
reasonable times upon three (3) days prior notice for the purposes of
conducting an environmental investigation and audit (including taking
physical samples) to insure that Debtor is complying with this covenant
and Debtor shall reimburse Bank on demand for the costs of any such
environmental investigation and audit. Debtor shall provide Bank, its
agents, contractors, employees and representatives with access to and
copies of any and all data and documents relating to or dealing with any
Hazardous Materials used, generated, manufactured, stored or disposed of
by Debtor's business operations within five (5) days of the request
therefor.
V. Endorsement. At such times as Borrower is required by the
terms of Section 5.10 of the Loan Agreement and paragraph 5.N hereof,
Debtor will endorse each Premium Finance Agreement to Bank as follows:
"Pay to the order of NationsBank of Texas, N.A. with full recourse
and warranty"
W. Status of Reinsurance Agreements. Debtor will notify Bank of
any default by any party to any Reinsurance Agreement and will not enter
into any material alteration of the terms of any Reinsurance Agreement
without the prior written consent of Bank. Debtor will comply fully and
completely with all of Debtor's obligations under each Reinsurance
Agreement.
X. Compliance with Certain Laws. In addition to the other
provisions hereof, Debtor will comply with Chapter 24 of the Texas
Insurance Code, Title 28 of the Texas Administrative Code, the Act, and
Reg Z.
Y. Renewals of Licenses. Debtor will on a timely basis procure
all necessary renewals and extensions of all licenses, approvals, and
permits required for it to engage in the business of insurance premium
financing which are required by the laws of each state in which Debtor
engages in such business.
Z. Notification to Insurers. Debtor will notify each insurer
whose premiums are being financed with Premium Finance Agreements
constituting part of the Collateral, or its managing general agent, of
the existence of each Premium Finance Agreement in a timely manner and
take all such other action as may be necessary or required in order that
Debtor will be entitled to receive all unearned premiums from such
<PAGE>
insurer if an insurance contract is canceled, and Debtor will furnish a
list of same to Bank upon Bank's request. Notice of the creation of
each Premium Finance Agreement shall be given to the insurer within
thirty (30) days of Debtor's acceptance of such agreement.
6. Grant of License to Use Intangibles. To the extent permitted
by applicable law and the terms of any agreements relating to Debtor's
General Intangibles, Debtor hereby grants to the Bank an irrevocable,
nonexclusive license (exercisable upon the occurrence of an Event of
Default) to use, assign, license or sublicense any of Debtor's General
Intangibles, and wherever the same may be located, including in such
license reasonable access to all media in which any of the licensed
items may be recorded or stored and to all computer programs used for
the compilation or printout thereof. No agreements hereafter acquired
or agreed to or entered into by Debtor shall prohibit, restrict, or
impair the rights granted hereunder.
7. Rights and Powers of Bank.
A. General. Bank, after an Event of Default has occurred and is
continuing, without liability to Debtor may: obtain from any person
<PAGE>
information regarding Debtor or Debtor's business or the Collateral,
which information any such person also may furnish without liability to
Debtor; require Debtor to give possession or control of any Collateral
to Bank; indorse as Debtor's agent any instruments, documents or chattel
paper in the Collateral or representing proceeds of the Collateral;
contact account debtors directly to verify information furnished by
Debtor; take control of proceeds, including stock received as dividends
or by reason of stock splits; release the Collateral in its possession
to any Debtor, temporarily or otherwise; reject as unsatisfactory any
property hereafter offered by Debtor as Collateral; set standards from
time to time to govern what may be used as after acquired Collateral;
take control of funds generated by the Collateral, such as cash
dividends, interest and proceeds or refunds from insurance, and use same
to reduce any part of the Obligation and exercise all other rights which
an owner of such Collateral may exercise, except the right to vote or
dispose of the Collateral; at any time transfer any of the Collateral or
evidence thereof into its own name or that of its nominee; and demand,
collect, convert, redeem, receipt for, settle, compromise, adjust, sue
for, foreclose or realize upon the Collateral, in its own name or in the
name of Debtor, as Bank may determine. Bank shall not be liable for
failure to collect any account or instruments, or for any act or
omission on the part of Bank, its officers, agents or employees, except
for its or their own willful misconduct or gross negligence. The
foregoing rights and powers of Bank will be in addition to, and not a
limitation upon, any rights and powers of Bank given by law, elsewhere
in this Agreement, or otherwise. If Debtor fails to maintain any
required insurance, to the extent permitted by applicable law Bank may
(but is not obligated to) purchase single interest insurance coverage
for the Collateral which insurance may at Bank's option (i) protect only
Bank and not provide any remuneration or protection for Debtor directly
and (ii) provide coverage only after the Obligation has been declared
due as herein provided. The premiums for any such insurance purchased
by Bank shall be a part of the Obligation and shall bear interest as
provided in 3(d) hereof.
<PAGE>
B. Convertible Collateral. Bank may present for conversion any
Collateral which is convertible into any other instrument or investment
security or a combination thereof with cash, but Bank shall not have any
duty to present for conversion any Collateral unless it shall have
received from Debtor detailed written instructions to that effect at a
time reasonably far in advance of the final conversion date to make such
conversion possible.
8. Default.
A. Event of Default. An event of default ("Event of Default")
shall occur if: (i) Debtor or any other obligor on all or part of the
Obligation shall fail to timely and properly pay or observe, keep or
perform any term, covenant, agreement or condition in this Agreement or
in any other agreement between Debtor and Bank or between Bank and any
other obligor on the Obligation (beyond any applicable grace period
contained therein), including, but not limited to, any other note or
instrument, loan agreement, security agreement, deed of trust, mortgage,
promissory note, guaranty, certificate, assignment, instrument, document
or other agreement concerning or related to the Obligation
(collectively, the "Loan Documents") beyond any applicable grace period
contained therein; or (ii) Debtor or such other obligor shall fail to
timely and properly pay or observe, keep or perform any term, covenant,
agreement or condition in any agreement between such party and any
affiliate or subsidiary of NationsBank Corporation beyond any applicable
grace period contained therein.
B. Rights and Remedies. If any Event of Default shall occur,
then, in each and every such case, Bank may, without presentment,
demand, or protest; notice of default, dishonor, demand, non-payment, or
protest; notice of intent to accelerate all or any part of the
Obligation; notice of acceleration of all or any part of the Obligation;
or notice of any other kind, all of which Debtor hereby expressly
waives, (except for any notice required under this Agreement, any other
Loan Document or applicable law); at any time thereafter exercise and/or
enforce any of the following rights and remedies at Bank's option:
(i) Acceleration. The Obligation shall, at Bank's option, become
immediately due and payable, and the obligation, if any, of Bank to
permit further borrowings under the Obligation shall at Bank's option
immediately cease and terminate.
(ii) Possession and Collection of the Collateral. At its option:
(a) if Bank has not already done so, (i) take possession or control of,
store, lease, operate, manage, sell, or instruct any agent or broker to
sell or otherwise dispose of, all or any part of the Collateral, (ii)
notify all parties under any account or contract right forming all or
any part of the Collateral to make any payments otherwise due to Debtor
directly to Bank, (iii) in Bank's own name, or in the name of Debtor,
demand, collect, receive, sue for, and give receipts and releases for,
any and all amounts due under such accounts and contract rights, or (iv)
indorse as the agent of Debtor any check, note, chattel paper,
documents, or instruments forming all or any part of the Collateral; (b)
make formal application for transfer to Bank (or to any assignee of Bank
or to any purchaser of any of the Collateral) of all of Debtor's
permits, licenses, approvals, agreements, and the like relating to the
Collateral or to Debtor's business; (c) take any other action which Bank
deems necessary or desirable to protect and realize upon its security
<PAGE>
interest in the Collateral; and (d) in addition to the foregoing, and
not in substitution therefor, exercise any one or more of the rights and
remedies exercisable by Bank under any other provision of this
Agreement, under any of the other Loan Documents, or as provided by
applicable law (including, without limitation, the Uniform Commercial
Code as in effect in Texas (hereinafter referred to as the "UCC")). In
taking possession of the Collateral Bank may enter Debtor's premises and
otherwise proceed without legal process, if this can be done without
breach of the peace. Debtor shall, upon Bank's demand, promptly make
the Collateral or other security available to Bank at a place designated
by Bank, which place shall be reasonably convenient to both parties.
Bank shall not be liable for, nor be prejudiced by, any loss,
depreciation or other damages to the Collateral, unless caused by Bank's
willful and malicious act. Bank shall have no duty to take any action
to preserve or collect the Collateral.
(iii) Receiver. Obtain the appointment of a receiver for all or
any of the Collateral, Debtor hereby consenting to the appointment of
such a receiver and agreeing not to oppose any such appointment.
(iv) Right of Set Off. Without notice or demand to Debtor, set
off and apply against any and all of the Obligation any and all deposits
(general or special, time or demand, provisional or final) and any other
indebtedness, at any time held or owing by Bank or any of Bank's agents
or affiliates to or for the credit of the account of Debtor or any
guarantor or indorser of Debtor's Obligation.
Bank shall be entitled to immediate possession of all books and records
evidencing any Collateral or pertaining to chattel paper covered by this
Agreement and it or its representatives shall have the authority to
enter upon any premises upon which any of the same, or any Collateral,
may be situated and remove the same therefrom without liability. Bank
may surrender any insurance policies in the Collateral and receive the
unearned premium thereon. Debtor shall be entitled to any surplus and
shall be liable to Bank for any deficiency. The proceeds of any
disposition after default available to satisfy the Obligation shall be
applied to the Obligation in such order and in such manner as Bank in
its discretion shall decide.
Debtor specifically understands and agrees that any sale by Bank of all
or part of the Collateral pursuant to the terms of this Agreement may be
effected by Bank at times and in manners which could result in the
proceeds of such sale as being significantly and materially less than
might have been received if such sale had occurred at different times or
in different manners, and Debtor hereby releases Bank and its officers
and representatives from and against any and all obligations and
liabilities arising out of or related to the timing or manner of any
such sale.
If, in the opinion of Bank, there is any question that a public sale or
distribution of any Collateral will violate any state or federal
securities law, Bank may offer and sell such Collateral in a transaction
exempt from registration under federal securities law, and any such sale
made in good faith by Bank shall be deemed "commercially reasonable".
<PAGE>
(v) If any Event of Default exists, upon the written
demand of Bank, Debtor shall execute and deliver to Bank to the extent
permitted by applicable law and any contracts relating to the Computer
Collateral, an assignment or assignments of the Computer Collateral and
licenses in favor of, or otherwise of value to Debtor, and such other
documents as are necessary or appropriate to carry out the intent and
purposes of this Security Agreement. Such an assignment shall reduce
the Obligations then due only to the extent that Bank receives cash
proceeds in respect of the sale of, or other realization upon, the
Computer Collateral or licenses; such cash proceeds to be applied by
Bank as provided in the Loan Agreement.
9. General.
A. Parties Bound. Bank's rights hereunder shall inure to
the benefit of its successors and assigns. In the event of any
assignment or transfer by Bank of any of the Obligation or the
Collateral, Bank thereafter shall be fully discharged from any
responsibility with respect to the Collateral so assigned or
transferred, but Bank shall retain all rights and powers hereby given
with respect to any of the Obligation or the Collateral not so assigned
or transferred. All representations, warranties and agreements of
Debtor if more than one are joint and several and all shall be binding
upon the personal representatives, heirs, successors and assigns of
Debtor.
B. Waiver. No delay of Bank in exercising any power or
right shall operate as a waiver thereof; nor shall any single or partial
exercise of any power or right preclude other or further exercise
thereof or the exercise of any other power or right. No waiver by Bank
of any right hereunder or of any default by Debtor shall be binding upon
Bank unless in writing, and no failure by Bank to exercise any power or
right hereunder or waiver of any default by Debtor shall operate as a
waiver of any other or further exercise of such right or power or of any
further default. Each right, power and remedy of Bank as provided for
herein or in any of the Loan Documents, or which shall now or hereafter
exist at law or in equity or by statute or otherwise, shall be
cumulative and concurrent and shall be in addition to every other such
right, power or remedy. The exercise or beginning of the exercise by
Bank of any one or more of such rights, powers or remedies shall not
preclude the simultaneous or later exercise by Bank of any or all other
such rights, powers or remedies.
C. Waiver. Without limiting the generality of the
appointment of Bank as Debtor's attorney-in-fact pursuant to the Loan
Agreement and the other Loan Documents, Debtor agrees that Bank shall
have the right and authority to the extent permitted by applicable law
and any contracts relating to the Computer Collateral (i) while any
Event of Default exists to license or sublicense the Computer
Collateral, any other General Intangible or any thereof, including,
without limitation, assignments, recordings, registrations and
applications therefor in the United States Patent and Trademark Office,
the United States Copyright Office or any similar office or agency of
the United States, any State thereof or any other country or political
subdivision thereof, and for the purpose of the recording, registering
and filing of, or accomplishing any other formality with respect to, the
foregoing, to execute and deliver any and all agreements, documents,
instruments of assignment or other papers necessary or advisable to
<PAGE>
effect such purpose; and (ii) to make claim for, and receive and give
acquittances for payment on account of, loss under any insurance policy
covering the Collateral, or any part thereof, and to receive, endorse
and collect all checks, drafts and other orders for the payment of money
representing the proceeds of such insurance.
D. Agreement Continuing. This Agreement shall constitute a
continuing agreement, applying to all future as well as existing
transactions, whether or not of the character contemplated at the date
of this Agreement, and if all transactions between Bank and Debtor shall
be closed at any time, shall be equally applicable to any new
transactions thereafter. Provisions of this Agreement, unless by their
terms exclusive, shall be in addition to other agreements between the
parties. Time is of the essence of this Agreement.
E. Definitions. Unless the context indicates otherwise,
definitions in the UCC apply to words and phrases in this Agreement; if
UCC definitions conflict, Article 9 definitions apply.
F. Notices. Notice shall be deemed reasonable if mailed
postage prepaid at least five (5) days before the related action (or if
the UCC elsewhere specifies a longer period, such longer period) to the
address of Debtor given above, or to such other address as any party may
designate by written notice to the other party. Each notice, request
and demand shall be deemed given or made, if sent by mail, upon the
earlier of the date of receipt or five (5) days after deposit in the
U.S. Mail, first class postage prepaid, or if sent by any other means,
upon delivery.
G. Modifications. No provision hereof shall be modified or
limited except by a written agreement expressly referring hereto and to
the provisions so modified or limited and signed by Debtor and Bank.
The provisions of the Agreement shall not be modified or limited by
course of conduct or usage of trade.
H. Applicable Law and Partial Invalidity. This Agreement
has been delivered in the State of Texas and shall be construed in
accordance with the laws of that State. Wherever possible each provision
of this Agreement shall be interpreted in such manner as to be effective
and valid under applicable law, but if any provision of this Agreement
shall be prohibited by or invalid under applicable law, such provision
shall be ineffective to the extent of such prohibition or invalidity,
without invalidating the remainder of such provisions or the remaining
provisions of this Agreement. The invalidity or unenforceability of any
provision of any Loan Document to any person or circumstance shall not
affect the enforceability or validity of such provision as it may apply
to other persons or circumstances.
I. Financing Statement. To the extent permitted by
applicable law, a carbon, photographic or other reproduction of this
Agreement or any financing statement covering the Collateral shall be
sufficient as a financing statement.
J. ARBITRATION. ANY CONTROVERSY OR CLAIM BETWEEN OR AMONG
THE PARTIES HERETO INCLUDING BUT NOT LIMITED TO THOSE ARISING OUT OF OR
RELATING TO THIS INSTRUMENT, AGREEMENT OR DOCUMENT OR ANY RELATED
INSTRUMENTS, AGREEMENTS OR DOCUMENTS, INCLUDING ANY CLAIM BASED ON OR
ARISING FROM AN ALLEGED TORT, SHALL BE DETERMINED BY BINDING ARBITRATION
<PAGE>
IN ACCORDANCE WITH THE FEDERAL ARBITRATION ACT (OR IF NOT APPLICABLE,
THE APPLICABLE STATE LAW), THE RULES OF PRACTICE AND PROCEDURE FOR THE
ARBITRATION OF COMMERCIAL DISPUTES OF J.A.M.S./ENDISPUTE OR ANY
SUCCESSOR THEREOF ("J.A.M.S."), AND THE "SPECIAL RULES" SET FORTH BELOW.
IN THE EVENT OF ANY INCONSISTENCY, THE SPECIAL RULES SHALL CONTROL.
JUDGMENT UPON ANY ARBITRATION AWARD MAY BE ENTERED IN ANY COURT HAVING
JURISDICTION. ANY PARTY TO THIS INSTRUMENT, AGREEMENT OR DOCUMENT MAY
BRING AN ACTION, INCLUDING A SUMMARY OR EXPEDITED PROCEEDING, TO COMPEL
ARBITRATION OF ANY CONTROVERSY OR CLAIM TO WHICH THIS AGREEMENT APPLIES
IN ANY COURT HAVING JURISDICTION OVER SUCH ACTION.
(i) Special Rules. THE ARBITRATION SHALL BE CONDUCTED IN THE
COUNTY OF ANY DEBTOR'S DOMICILE AT THE TIME OF THE EXECUTION OF THIS
INSTRUMENT, AGREEMENT OR DOCUMENT AND ADMINISTERED BY J.A.M.S. WHO WILL
APPOINT AN ARBITRATOR; IF J.A.M.S. IS UNABLE OR LEGALLY PRECLUDED FROM
ADMINISTERING THE ARBITRATION, THEN THE AMERICAN ARBITRATION ASSOCIATION
WILL SERVE. ALL ARBITRATION HEARINGS WILL BE COMMENCED WITHIN 90 DAYS
OF THE DEMAND FOR ARBITRATION; FURTHER, THE ARBITRATOR SHALL ONLY, UPON
A SHOWING OF CAUSE, BE PERMITTED TO EXTEND THE COMMENCEMENT OF SUCH
HEARING FOR UP TO AN ADDITIONAL 60 DAYS.
(ii) Reservation of Rights. NOTHING IN THIS ARBITRATION
PROVISION SHALL BE DEEMED TO (I) LIMIT THE APPLICABILITY OF ANY
OTHERWISE APPLICABLE STATUTES OF LIMITATION OR REPOSE AND ANY WAIVERS
CONTAINED IN THIS INSTRUMENT, AGREEMENT OR DOCUMENT; OR (II) BE A WAIVER
BY BANK OF THE PROTECTION AFFORDED TO IT BY 12 U.S.C. SEC. 91 OR ANY
SUBSTANTIALLY EQUIVALENT STATE LAW; OR (III) LIMIT THE RIGHT OF BANK
HERETO (A) TO EXERCISE SELF HELP REMEDIES SUCH AS (BUT NOT LIMITED TO)
SETOFF, OR (B) TO FORECLOSE AGAINST ANY REAL OR PERSONAL PROPERTY
COLLATERAL, OR (C) TO OBTAIN FROM A COURT PROVISIONAL OR ANCILLARY
REMEDIES SUCH AS (BUT NOT LIMITED TO) INJUNCTIVE RELIEF, WRIT OF
POSSESSION OR THE APPOINTMENT OF A RECEIVER. BANK MAY EXERCISE SUCH
SELF HELP RIGHTS, FORECLOSE UPON SUCH PROPERTY, OR OBTAIN SUCH
PROVISIONAL OR ANCILLARY REMEDIES BEFORE, DURING OR AFTER THE PENDENCY
OF ANY ARBITRATION PROCEEDING BROUGHT PURSUANT TO THIS INSTRUMENT,
AGREEMENT OR DOCUMENT. NEITHER THIS EXERCISE OF SELF HELP REMEDIES NOR
THE INSTITUTION OR MAINTENANCE OF AN ACTION FOR FORECLOSURE OR
PROVISIONAL OR ANCILLARY REMEDIES SHALL CONSTITUTE A WAIVER OF THE RIGHT
OF ANY PARTY, INCLUDING THE CLAIMANT IN ANY SUCH ACTION, TO ARBITRATE
THE MERITS OF THE CONTROVERSY OR CLAIM OCCASIONING RESORT TO SUCH
REMEDIES.
K. Controlling Document. To the extent that this Security
Agreement conflicts with or is in any way incompatible with any other
Loan Document concerning the Obligation, any promissory note shall
control over any other document, and if such note does not address an
issue, then each other document shall control to the extent that it
deals most specifically with an issue.
L. Notice of Final Agreement. THIS WRITTEN SECURITY
AGREEMENT AND THE OTHER LOAN DOCUMENTS REPRESENT THE FINAL AGREEMENT
BETWEEN THE PARTIES AND MAY NOT BE CONTRADICTED BY EVIDENCE OF PRIOR,
CONTEMPORANEOUS OR SUBSEQUENT ORAL AGREEMENTS OF THE PARTIES. THERE ARE
NO UNWRITTEN ORAL AGREEMENTS BETWEEN THE PARTIES.
IN WITNESS WHEREOF, the parties hereto have caused this Security
Agreement to be duly executed by their duly authorized representatives
as of the date first above written.
<PAGE>
HALLMARK FINANCE CORPORATION
By:
Linda H. Sleeper
Executive Vice President
NATIONSBANK OF TEXAS, N.A.
By:
Susan M. Raher
Vice President
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
Due to format constraints of this Financial Data Schedule (FDS) certain
Balance Sheet items where omitted: i.e. Prepaid reinsurance premiums, Premium
notes receivable, Installment premiums receivable, Excess of cost over net
assets acquired & Other assets. Refer to actual 10KSB submission.
</LEGEND>
<MULTIPLIER> 1
<CURRENCY> $
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<EXCHANGE-RATE> 1
<DEBT-HELD-FOR-SALE> 0
<DEBT-CARRYING-VALUE> 8,540,196
<DEBT-MARKET-VALUE> 8,564,569
<EQUITIES> 152,246
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 8,692,442
<CASH> 4,749,388
<RECOVER-REINSURE> 20,058,062
<DEFERRED-ACQUISITION> 168,300
<TOTAL-ASSETS> 53,763,761
<POLICY-LOSSES> 0
<UNEARNED-PREMIUMS> 11,310,250
<POLICY-OTHER> 2,946,034
<POLICY-HOLDER-FUNDS> 4,429,604
<NOTES-PAYABLE> 590,853
0
0
<COMMON> 328,868
<OTHER-SE> 11,092,496
<TOTAL-LIABILITY-AND-EQUITY> 53,763,761
42,502,556
<INVESTMENT-INCOME> 863,863
<INVESTMENT-GAINS> 1,890
<OTHER-INCOME> 2,005,106
<BENEFITS> 7,220,561
<UNDERWRITING-AMORTIZATION> (686,986)
<UNDERWRITING-OTHER> 7,292,643
<INCOME-PRETAX> 1,609,244
<INCOME-TAX> 559,477
<INCOME-CONTINUING> 1,049,767
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,049,767
<EPS-PRIMARY> 0.09
<EPS-DILUTED> 0.09
<RESERVE-OPEN> 22,323,090
<PROVISION-CURRENT> 31,380,460
<PROVISION-PRIOR> (3,919,957)
<PAYMENTS-CURRENT> 17,999,353
<PAYMENTS-PRIOR> 11,086,847
<RESERVE-CLOSE> 20,697,393
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
