<PAGE> 1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington DC 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from _______________ to _______________
Commission File Number: 0-18786
PICO HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
CALIFORNIA 94-2723335
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
875 PROSPECT STREET, SUITE 301
LA JOLLA, CALIFORNIA 92037
(858) 456-6022
(Address and telephone number of principal executive offices)
Indicate by check mark whether registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
--- ---
The number of shares outstanding of the Registrant's Common Stock, $0.001 par
value, was 13,448,533 as of June 30, 1999. As of such date, 4,394,127 shares of
common stock were held by the registrant and subsidiaries of the registrant.
<PAGE> 2
<TABLE>
PICO HOLDINGS, INC.
FORM 10-Q
TABLE OF CONTENTS
<CAPTION>
PAGE NO.
--------
<S> <C>
PART I: FINANCIAL INFORMATION
Item 1: Financial Statements
Consolidated Balance Sheets as of 3
June 30, 1999 and December 31, 1998
Consolidated Statements of Operations 4
for the Three and Six Months Ended June 30, 1999 and 1998
Consolidated Statements of Cash Flows for 5
the Six Months Ended June 30, 1999 and 1998
Notes to Consolidated Financial Statements 6
Item 2: Management's Discussion and Analysis of Financial 10
Condition and Results of Operations
Item 3: Quantitative and Qualitative Disclosure About Market Risk 26
PART II: OTHER INFORMATION
Item 4: Submission of Matters to a Vote of Security Holders 27
Item 6: Exhibits and Reports on Form 8-K 27
Signature 28
</TABLE>
2
<PAGE> 3
PART I: FINANCIAL INFORMATION
ITEM I: FINANCIAL STATEMENTS
<TABLE>
PICO HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<CAPTION>
June 30, December 31,
1999 1998
------------ ------------
(Unaudited)
<S> <C> <C>
ASSETS
Investments $137,187,677 $117,150,365
Cash and cash equivalents 55,637,620 71,654,196
Accrued investment income 983,917 1,295,550
Premiums and other receivables, net 10,077,526 10,414,017
Reinsurance receivables 58,436,280 55,624,830
Prepaid deposits and reinsurance premiums 1,306,581 2,187,387
Deferred policy acquisition costs 5,098,212 5,548,634
Surface, water, geothermal and mineral rights 114,782,977 116,653,211
Property and equipment, net 1,449,648 1,851,502
Income taxes receivable 4,133,384 6,522,454
Other assets 7,343,796 7,011,957
------------ ------------
Total assets $396,437,618 $395,914,103
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Unpaid losses and loss adjustment expenses, net of discount $146,022,492 $155,020,696
Unearned premiums 18,101,299 20,804,432
Reinsurance balance payable 12,793,054 12,068,890
Deferred gain on retroactive reinsurance 1,800,994 1,800,994
Other liabilities 8,657,371 11,402,000
Bank and other borrowings 12,732,435 8,966,707
Deferred income taxes 9,645,476 7,258,949
Excess of fair value of net assets acquired over purchase price 4,212,558 4,496,551
------------ ------------
Total liabilities 213,965,679 221,819,219
------------ ------------
Commitments and Contingencies (Note 5)
Preferred stock, $.01 par value, authorized 2,000,000 shares, none issued
Common stock, $.001 par value; authorized 100,000,000 shares, issued and
outstanding 13,448,533 at June 30, 1999 and 13,328,770 at December
31, 1998 13,449 13,329
Additional paid-in capital 186,004,827 183,154,588
Retained earnings 76,018,914 76,562,974
Accumulated other comprehensive loss (1,735,616) (8,097,965)
Treasury stock, at cost (4,394,127 common shares in 1999 and 4,380,780 in 1998) (77,829,635) (77,538,042)
------------ ------------
Total shareholders' equity 182,471,939 174,094,884
------------ ------------
Total liabilities and shareholders' equity $396,437,618 $395,914,103
============ ============
</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
3
<PAGE> 4
<TABLE>
PICO HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
1999 1998 1999 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Revenues:
Premium income $ 8,526,934 $ 8,455,012 $17,081,908 $17,593,463
Net investment income 1,258,276 1,805,005 3,172,630 5,180,680
Net realized gain on investments 3,115,975 1,970,236 2,771,580 2,569,679
Other income 1,626,887 1,423,978 2,011,890 2,044,476
----------- ----------- ----------- -----------
Total revenues 14,528,072 13,654,231 25,038,008 27,388,298
----------- ----------- ----------- -----------
Expenses:
Loss and loss adjustment expenses 5,575,576 5,665,910 12,091,602 13,661,078
Insurance underwriting and other expenses 6,129,555 6,522,032 12,461,352 12,516,624
----------- ----------- ----------- -----------
Total expenses 11,705,131 12,187,942 24,552,954 26,177,702
----------- ----------- ----------- -----------
Equity in losses of investee (404,630) (284,428) (624,517) (486,821)
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
income taxes and minority interest 2,418,311 1,181,861 (139,463) 723,775
Provision (benefit) for federal, foreign and state income taxes 831,654 (296,152) 404,597 929,638
----------- ----------- ----------- -----------
Income (loss) from continuing operations before minority interest 1,586,657 1,478,013 (544,060) (205,863)
Minority interest in (income) loss of subsidiary (499,118) 206,116
----------- ----------- ----------- -----------
Income (loss) from continuing operations 1,586,657 978,895 (544,060) 253
Income from discontinued operations, net of income tax
provision of $35,000 and $44,000 for the three and six
months of 1998, respectively 103,367 154,622
----------- ----------- ----------- -----------
Net income (loss) $ 1,586,657 $ 1,082,262 $ (544,060) $ 154,875
=========== =========== =========== ===========
Net income (loss) per common share - basic:
Continuing operations $ 0.18 $ 0.16 $ (0.06) $ 0.00
Discontinued operations 0.02 0.02
----------- ----------- ----------- -----------
Net income (loss) per common share $ 0.18 $ 0.18 $ (0.06) $ 0.02
=========== =========== =========== ===========
Weighted average shares outstanding 8,938,693 6,019,817 8,942,550 6,302,401
=========== =========== =========== ===========
Net income (loss) per common share - diluted:
Continuing operations $ 0.17 $ 0.16 $ (0.06) $ 0.00
Discontinued operations 0.01 0.02
----------- ----------- ----------- -----------
Net income (loss) per common share $ 0.17 $ 0.17 $ (0.06) $ 0.02
=========== =========== =========== ===========
Weighted average shares outstanding 9,458,320 6,254,573 8,942,550 6,540,264
=========== =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
4
<PAGE> 5
<TABLE>
PICO HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
<CAPTION>
Six Months Ended June 30,
1999 1998
------------ -----------
<S> <C> <C>
OPERATING ACTIVITIES
Net cash used in operating activities $(16,776,599) $(2,963,657)
------------ -----------
INVESTING ACTIVITIES:
Purchases of investments (22,159,500) (9,176,347)
Proceeds from sale of investments 10,317,103 14,409,318
Proceeds from maturity of investments 2,065,669 25,000
Proceeds from the sale of real estate 2,741,980 92,375
Proceeds from the sale of property and equipment 11,048
Purchases of property and equipment (71,639) (302,037)
Advances to affiliate (571,817) (476,677)
Purchases of surface, water and mineral rights (897,547) (934,287)
Other investing activities, net (2,230,902)
------------ -----------
Net cash provided by (used in) investing activities (8,575,751) 1,417,491
------------ -----------
FINANCING ACTIVITIES:
Proceeds from borrowings 6,704,451
Proceeds from exercise of warrants 2,850,359
Purchase of treasury stock (291,593)
------------ -----------
Net cash provided by financing activities 9,263,217
------------ -----------
Effect of exchange rate changes on cash 72,557 (456,308)
------------ -----------
NET DECREASE IN CASH AND CASH EQUIVALENTS (16,016,576) (2,002,474)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 71,654,196 56,435,786
------------ -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 55,637,620 $54,433,312
============ ===========
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for:
Income taxes $ 440,000
===========
Interest $ 166,000
============
Non-Cash Investing and Financing Activities:
Borrowings settled in exchange for land deed $ 5,000,000
============
</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
5
<PAGE> 6
PICO HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
of PICO Holdings, Inc. ("PICO") and Subsidiaries (the "Company") have been
prepared in accordance with the interim reporting requirements of Form
10-Q, pursuant to the rules and regulations of the United States Securities
and Exchange Commission (the "SEC"). Accordingly, they do not include all
of the information and notes required by generally accepted accounting
principles for complete financial statements.
In the opinion of management, all adjustments and reclassifications
considered necessary for a fair and comparable presentation of financial
position as of June 30, 1999 and December 31, 1998 and results of
operations for the three and six months ended June 30, 1999 and 1998, and
cash flows for the six months ended June 30, 1999 and 1998 have been
included and are of a normal recurring nature. Operating results for the
three and six months ended June 30, 1999 are not necessarily indicative of
the results that may be expected for the year ending December 31, 1999.
These financial statements should be read in conjunction with the
Company's audited financial statements and notes thereto, together with
Management's Discussion and Analysis of Financial Condition and Results of
Operations and Risks and Uncertainties contained in the Company's Annual
Reports on Form 10-K for the year ended December 31, 1998 as filed with
the SEC.
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 and
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses for
each reporting period. The significant estimates made in the preparation
of the Company's consolidated financial statements relate to the
assessment of the carrying value of investments, unpaid losses and loss
adjustment expenses, deferred policy acquisition costs, deferred income
taxes and contingent liabilities. While management believes that the
carrying value of such assets and liabilities are appropriate as of June
30, 1999 and December 31, 1998, it is reasonably possible that actual
results could differ from the estimates upon which the carrying values
were based.
2. DISCONTINUED OPERATIONS
On June 16, 1997, PICO announced the signing of a definitive agreement
to sell the Company's life and health insurance subsidiary, American
Physicians Life Insurance Company ("APL") and its wholly-owned subsidiary,
Living Benefit Administrators Agency, Inc. The closing occurred on December
4, 1998. The $17 million in proceeds from the sale was received during
1998.
Because APL and its subsidiary represented a major segment of the
Company's business, in accordance with Accounting Principles Board Opinion
No. 30 "Reporting the Results of Operations--Reporting the Effects of
Disposal of a Segment of a Business," APL's operations have been classified
as discontinued operations.
Following is an unaudited summary of APL's stand alone financial
results for the three and six months ended June 30, 1998 included in the
statements of operations as discontinued operations:
<TABLE>
<CAPTION>
Three Six
Months Ended Months Ended
June 30, 1998 June 30, 1998
------------- -------------
<S> <C> <C>
Total revenues $2,197,142 $4,360,121
Income before taxes 138,367 198,622
Net income 103,367 154,622
Net income per share - diluted $ 0.01 $ 0.02
</TABLE>
6
<PAGE> 7
3. EARNINGS (LOSS) PER SHARE
The Company adopted Statement of Financial Accounting Standards
("SFAS") No. 128, "Earnings Per Share," the new method of reporting
earnings per share ("EPS") for the year ended December 31, 1997. For the
six months ended June 30, 1999 1,097,000 common stock options and 103,000
warrants were excluded from the calculations because their effects were
anti-dilutive. The following is a reconciliation of basic and diluted EPS.
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
1999 1998 1999 1998
---------- ---------- --------- ----------
<S> <C> <C> <C> <C>
Net income (loss) $1,586,657 $1,082,262 $(544,060) $ 154,875
========== ========== ========= ==========
Basic earnings (loss) per share $ 0.18 $ 0.18 $ (0.06) $ 0.02
========== ========== ========= ==========
Basic weighted average common shares outstanding 8,938,693 6,019,817 8,942,550 6,302,401
Options 519,627 234,756 -- 237,863
---------- ---------- --------- ----------
Diluted weighted average common and
common equivalent shares outstanding 9,458,320 6,254,573 8,942,550 6,540,264
========== ========== ========= ==========
Diluted earnings (loss) per share $ 0.17 $ 0.17 $ (0.06) $ 0.02
========== ========== ========= ==========
</TABLE>
On June 30, 1999, 119,763 PICO common stock warrants were exercised at
$23.80 per share for a total of $2.9 million. The remaining warrants
expired on June 30, 1999.
4. COMPREHENSIVE INCOME (LOSS)
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income." SFAS No. 130 established requirements for disclosure of
comprehensive income. The Company adopted the new standard for the year
ended December 31, 1998, and has reclassified previous financial statements
to conform to the new presentation. In addition to net income,
comprehensive income includes foreign currency translation and unrealized
holding gains and losses on available for sale securities, which prior to
adoption were reported separately in shareholders' equity.
The components of comprehensive income (loss) are as follows:
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
1999 1998 1999 1998
----------- ---------- ---------- -----------
<S> <C> <C> <C> <C>
Comprehensive income (loss):
Net income (loss) $ 1,586,657 $1,082,262 $ (544,060) $ 154,875
Net change in unrealized appreciation (depreciation)
on available for sale investments (6,915,586) 454,125 4,812,260 324,158
Net change in foreign currency translation (442,243) (835,495) 1,550,089 (1,033,275)
----------- ---------- ---------- -----------
Total comprehensive income (loss) $(5,771,172) $ 700,892 $5,818,289 $ (554,242)
=========== ========== ========== ===========
</TABLE>
Comprehensive income (loss) is net of deferred income tax benefits of
$3.6 million and deferred income tax expense of $3 million for the three
and six months ended June 30, 1999, respectively, and deferred income tax
expense of $244,000 and $174,000 for the three and six months ended June
30, 1998, respectively.
7
<PAGE> 8
The components of accumulated comprehensive income (loss) are as
follows:
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
----------- ------------
<S> <C> <C>
Accumulated other comprehensive loss:
Unrealized appreciation (depreciation)
on available for sale investments $ 1,907,673 $(2,904,587)
Foreign currency translation (3,643,289) (5,193,378)
----------- -----------
Accumulated other comprehensive loss $(1,735,616) $(8,097,965)
=========== ===========
</TABLE>
The components of accumulated comprehensive income (loss) are net of
deferred income tax expense of $983,000 at June 30, 1999 and a deferred
income tax benefit of $1.5 million at December 31, 1998.
5. COMMITMENTS AND CONTINGENCIES
In November 1998, Vidler Water Company, Inc. ("Vidler") entered into
an operating lease to acquire 185,000 acre-feet of underground water
storage privileges and associated rights to recharge and recover water
located near the California Aqueduct northwest of Bakersfield. The
agreement requires Vidler to pay for these privileges and rights a minimum
of $2.4 million per year for 10 years beginning October 1998. The agreement
calls for the lease payments to be adjusted annually by the engineering
price index. On October 7, 1998, PICO signed an agreement guaranteeing
payment of Vidler's obligations under the agreement. The maximum obligation
under this guarantee is $3.2 million, adjusted annually by the engineering
price index. The guarantee expires October 7, 2008.
The Company is subject to various litigation which arise in the
ordinary course of its business. Based upon information presently
available, management is of the opinion that such litigation will not have
a material adverse effect on the Company's consolidated financial position,
results of operations, or cash flows.
On January 10, 1997, Global Equity Corporation ("GEC"), a wholly-owned
subsidiary, commenced an action in British Columbia against MKG Enterprises
Corp. ("MKG"), Vignoble Wines Agency Inc. ("Vignoble") to enforce repayment
of a $5 million loan made by GEC to MKG. On the same day, the Supreme Court
of British Columbia granted an order preventing MKG from disposing of
certain assets pending resolution of the action. GEC subsequently brought a
motion to have a receiver-manager appointed for MKG and Vignoble, which
motion has been adjourned. In addition, in March 1999 GEC filed an action
in the Supreme Court of British Columbia against a third party. This action
states the third party had fraudulently entered into loan agreements with
MKG. Accordingly, under this action GEC is claiming damages from the third
party and seeking an order restraining the third party from taking any
further action in connection with MKG's assets.
In connection with the sale of their interests in Nevada Land and
Resource Company, LLC ("NLRC") by the former members, a limited partnership
agreed to act as consultant to NLRC in connection with the maximization of
the development, sales, leasing, royalties or other disposition of land,
water, mineral and oil and gas rights with respect to certain property
owned in Nevada. In exchange for these services, the partnership was to
receive from NLRC a consulting fee calculated as 50% of any net proceeds
that NLRC actually receives from the sale, leasing or other disposition of
all or any portion of the Nevada property or refinancing of the Nevada
property provided that NLRC has received such net proceeds in a threshold
amount equal to the aggregate of: (i) the capital investment by GEC and the
Company in the Nevada property, (ii) a 20% cumulative return on such
capital investment, and (iii) a sum sufficient to pay the United States
federal income tax liability, if any, of NLRC in connection with such
capital investment. Either party could terminate this consulting agreement
in April 2002 if the partnership had not received or become entitled to
receive by that time any amount of the consulting fee. No payments have
been made under this agreement through June 30, 1999. By letter dated March
13, 1998, NLRC gave notice of termination of the consulting agreement based
on NLRC's determination of default by the partnership under the terms of
the agreement. In November 1998, the partnership sued NLRC for wrongful
termination of the consulting contract. On March 12, 1999, NLRC filed a
cross-complaint against the partnership for breach of written contract,
breach of fiduciary duty and seeking declaratory relief. The litigation is
still pending.
Based upon information presently available, management is of the
opinion that the above litigation will not have a material adverse effect
on the Company's consolidated financial position, results of operations or
cash flows.
8
<PAGE> 9
6. RECENT ACCOUNTING PRONOUNCEMENT
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting
and reporting standards for derivative instruments, including instruments
embedded in other contracts and for hedging activities. It requires
recognition of all derivatives as either assets or liabilities in the
consolidated balance sheet, and measures those instruments at fair value.
The new standard becomes effective for fiscal years beginning after June
15, 1999. Management does not expect this statement to have a material
effect on the Company's consolidated financial statements.
7. SEGMENT REPORTING
In June 1997, the FASB issued SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information". SFAS No. 131
establishes standards for disclosure about operating segments in annual
statements and selected information in interim financial reports. It also
establishes standards for related disclosures about products and services,
geographic areas and major customers. This statement supersedes SFAS No.
14, "Financial Reporting for Segments of a Business Enterprise". The
Company adopted this new accounting standard beginning with the December
31, 1998 financial statements.
The Company is a diversified holding company engaged in five major
operating segments: Investment Operations; Surface, Water and Mineral
Rights Operations; Property and Casualty Insurance Operations; Medical
Professional Liability ("MPL") Insurance Operations and Other Operations.
The accounting policies of the reportable segments are the same as
those described in the Company's 1998 annual report on Form 10-K. There
have not been any material changes in segment assets since December 31,
1998. Segment performance is measured by revenues and segment profit before
tax in addition to changes in shareholders' equity. This information
provides the basis for calculation of return on shareholders' equity, which
is the main performance measurement used in analyzing segment performance.
In addition, assets identifiable with segments are disclosed as well as
capital expenditures, and depreciation and amortization. The Company has
operations and investments both in the U.S. and abroad.
The following is a detail of revenues by segment from continuing
operations:
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
1999 1998 1999 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Investment Operations $ 2,932,847 $ 1,922,297 $ 2,657,846 $ 3,821,261
Surface, Water and Mineral Rights 875,941 407,764 1,241,784 578,595
Property and Casualty Insurance 9,917,556 10,316,051 19,665,479 21,107,560
Medical Professional Liability Insurance 634,485 489,373 1,182,565 1,189,617
Other Operations 167,243 518,746 290,334 691,265
----------- ----------- ----------- -----------
Total Revenues-Continuing Operations $14,528,072 $13,654,231 $25,038,008 $27,388,298
=========== =========== =========== ===========
</TABLE>
The following is a detail of segment profit (loss) from continuing
operations before taxes and minority interest:
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
1999 1998 1999 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Investment Operations $ 1,532,615 $ 374,527 $ (189,964) $ 911,537
Surface, Water and Mineral Rights 77,992 (306,005) (452,469) (740,644)
Property and Casualty Insurance 1,111,293 1,414,666 1,346,001 1,010,755
Medical Professional Liability Insurance (208,350) (353,943) (693,986) (426,194)
Other Operations (95,239) 52,616 (149,045) (31,679)
----------- ----------- ----------- -----------
Profit (Loss) Before Taxes and Minority Interest $ 2,418,311 $ 1,181,861 $ (139,463) $ 723,775
=========== =========== =========== ===========
</TABLE>
9
<PAGE> 10
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This section of the Report contains forward-looking statements within the
meaning of Section 21E of the Securities Exchange Act of 1934, as amended.
Discussion containing such forward-looking statements may be found in
Management's Discussion and Analysis of Financial Condition and Results of
Operations under the captions "Results of Operations -Three and Six Months Ended
June 30, 1999 and 1998," "Liquidity and Capital Resources," and "Risk Factors."
Actual results for future periods could differ materially from those discussed
in this section as a result of the various risks and uncertainties discussed
herein. A comprehensive summary of such risks and uncertainties can be found in
the Company's 1998 Form 10-K.
RESULTS OF OPERATIONS -- THREE AND SIX MONTHS ENDED JUNE 30, 1999 AND 1998
SUMMARY
PICO Holdings, Inc. and consolidated subsidiaries reported net income of
$1.6 million, or $0.18 per share, for the quarter ended June 30, 1999, compared
to income of $1.1 million, or $0.18 per share, during the second quarter of
1998. For the six month period ended June 30, 1999, PICO reported a net loss of
$544,000, or a loss of $0.06 per share, compared to income of $155,000, or $0.02
per share, during the first half of 1998. Per share amounts are stated as
"basic" earnings per share.
Shareholders' equity at June 30, 1999 was $182.5 million, up $8.4 million
over December 31, 1998. Book value per share calculated on an undiluted basis as
of June 30, 1999 was $20.15 per share, up $0.69 per share from year end 1998.
These increases in shareholders' equity and book value per share resulted
primarily from (1) a $4.8 million improvement in unrealized appreciation of
investments, net of income tax, (2) a $1.5 million improvement in the Company's
foreign currency translation adjustment in shareholders' equity principally as a
result of the strength of the Swiss franc relative to the U.S. dollar, and (3)
nearly $2.9 million in paid-in capital from the exercise by warrant holders of
approximately 120,000 PICO common stock warrants at $23.80 per share. These
increases were partially offset by the six-months loss of $544,000 and $292,000
in costs from the purchase of treasury stock. The $4.8 million appreciation of
the Company's investment portfolio principally relates to its investment in PC
Quote, Inc. common stock (Amex: PQT). The Company's investments in PC Quote,
Inc. common stock warrants, Class A and Class B preferred stock, all of which
are convertible into PC Quote, Inc. common stock, are valued at the Company's
cost since these securities are not publicly traded and have no readily
determinable market value.
The $1.6 million net income for the second quarter of 1999 included
$893,000 of income from Nevada Land and Resource Company, LLC ("NLRC"), compared
to a $203,000 loss in 1998; $876,000 from PICO's property and casualty ("P&C")
insurance operations, compared to $1.1 million in income in 1998; and $903,000
from investment operations, compared to $320,000 in 1998. These amounts were
partially offset by $815,000 in losses from water rights operations, compared to
a $103,000 loss in 1998, and $193,000 from the runoff of medical professional
liability ("MPL") insurance operations, compared to an $89,000 loss in 1998.
Included in these amounts were $3.1 million in realized investment gains in 1999
and $2.0 million in 1998. The $1.1 million improvement in NLRC's results was
primarily due to increased land sales and other operating income, including a
$670,000 reversal of previously accrued interest expense. Increased project
costs and non-capitalizable interest expense were principally responsible for
the additional losses incurred by PICO's water rights operations.
The $544,000 net loss recorded in the first half of 1999 included $825,000
in income from NLRC, versus a $398,000 loss in 1998, and $976,000 from P&C
operations, compared to $775,000 in 1998. This income was more than offset by
losses of $1.3 million from water rights operations, compared to a $343,000 loss
in 1998; $347,000 from investment operations, versus $241,000 of income in 1998;
$592,000 from MPL operations, compared to a $207,000 loss in 1998 and $130,000
from other operations, compared to a $61,000 loss in 1998.
Second quarter 1999 and 1998 revenues were $14.5 million and $13.7 million,
respectively. Second quarter 1999 revenues included $3.1 million in realized
investment gains compared to $2.0 million in 1998. Investment income for the
second quarter was $1.3 million, down $547,000 from that of the 1998 second
quarter, largely due to lower interest rates and a reduced level of fixed income
securities. P&C premium income was slightly higher than that of the 1998 second
quarter. Revenues for the first half of 1999 were $25.0 million versus $27.4
million in 1998. Reduced investment income, which was $3.2 million during the
first six months of 1999 compared to $5.2 million in 1998, accounted for nearly
all this difference in revenues. The 1999 six months results included realized
investment gains of $2.8 million compared to $2.6 million in 1998.
10
<PAGE> 11
Expenses for the second quarter and first six months of 1999 were $11.7
million and $24.6 million, respectively. These amounts compare to $12.2 million
and $26.2 million, respectively, during the same periods of 1998. These expense
reductions primarily relate to decreases in expenses of the insurance
operations. P&C expenses included strengthening of reserves of approximately
$400,000 and $627,000 for the 1999 second quarter and the first six months,
respectively, based upon claims experience in the artisan-contractor insurance
coverage previously provided by Citation.
Total assets of $396.4 million at June 30, 1999 increased slightly over the
$395.9 million at December 31, 1998. Liabilities decreased $7.9 million, largely
due to the reduction in claims reserves of the insurance companies.
Prior period per share amounts have been adjusted to reflect PICO's
December 16, 1998 1-for-5 reverse stock split.
The Company's ongoing operations are organized into five segments:
INVESTMENT OPERATIONS; SURFACE, WATER, AND MINERAL RIGHTS; PROPERTY AND CASUALTY
INSURANCE; MEDICAL PROFESSIONAL LIABILITY INSURANCE and OTHER OPERATIONS.
Revenues and income before taxes and minority interests from CONTINUING
OPERATIONS, by business segment, are shown in the following schedules:
Operating Revenues--Continuing Operations:
------------------------------------------
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- -----
(in millions) (in millions)
<S> <C> <C> <C> <C>
Investment Operations $ 2.9 $ 1.9 $ 2.7 $ 3.8
Surface, Water and Mineral Rights 0.9 0.4 1.2 0.6
Property and Casualty Insurance 9.9 10.4 19.7 21.1
Medical Professional Liability Insurance 0.6 0.5 1.2 1.2
Other Operations 0.2 0.5 0.2 0.7
----- ----- ----- -----
Total Revenues-Continuing Operations $14.5 $13.7 $25.0 $27.4
===== ===== ===== =====
</TABLE>
Income (Loss) Before Taxes and Minority Interest--Continuing Operations:
------------------------------------------------------------------------
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- -----
(in millions) (in millions)
<S> <C> <C> <C> <C>
Investment Operations $ 1.5 $ 0.4 $(0.2) $ 0.9
Surface, Water and Mineral Rights 0.1 (0.3) (0.5) (0.7)
Property and Casualty Insurance 1.1 1.4 1.4 1.0
Medical Professional Liability Insurance (0.2) (0.3) (0.7) (0.4)
Other Operations (0.1) (0.1) (0.1)
----- ----- ----- -----
Profit (Loss) Before Taxes and Minority Interest $ 2.4 $ 1.2 $(0.1) $ 0.7
===== ===== ===== =====
</TABLE>
INVESTMENT OPERATIONS are conducted primarily by PICO, Physicians Insurance
Company of Ohio ("Physicians"), GEC and Physicians Investment Company, all
wholly-owned subsidiaries. The Company holds a number of investments in both
publicly and privately held corporations. These investments may be passive or
they may represent positions where the Company is able to exert significant
influence over the operating, financing and management strategies and decisions
of the corporation. The Company invests in businesses that it believes to be
undervalued or may benefit from additional capital, restructuring of operations
or management or improved competitiveness through operational efficiencies with
existing Company operations. However, not all investment activities
11
<PAGE> 12
are included within the INVESTMENT OPERATIONS business segment. For example,
investment revenues and investment income generated by Physicians are first
allocated to the MEDICAL PROFESSIONAL LIABILITY INSURANCE segment based upon the
amount of invested assets needed to support Physicians' outstanding insurance
reserves. The remainder is classified as part of the INVESTMENT OPERATIONS
business segment. (See the MEDICAL PROFESSIONAL LIABILITY INSURANCE segment
below.) In addition, investment revenues and investment income generated by
Sequoia and Citation are included in the PROPERTY AND CASUALTY INSURANCE
business segment and those from The Professionals Insurance Company ("PRO"), in
the MEDICAL PROFESSIONAL LIABILITY INSURANCE segment, and not in the INVESTMENT
OPERATIONS business segment. SEE NOTE 7, "SEGMENT REPORTING."
INVESTMENT OPERATIONS revenues were $2.7 million for the first six months
of 1999 compared to $3.8 million during the first six months of 1998, a decline
of $1.1 million. As shown below, 1999 realized investment gains of $3.0 million
surpassed those of the first half of 1998 by $600,000. However, investment
income for the first six months of 1999 allocated to INVESTMENT OPERATIONS was
$1.7 million less than during the first half of 1998. This decrease in
investment income assigned to INVESTMENT OPERATIONS resulted from a number of
factors. First, the 1998 six-months total included a one-time $800,000 addition
to investment revenues from the write down of capitalized interest related to
real estate development projects which were closed out. In addition,
approximately $600,000 in interest income generated by PICO and its subsidiaries
through transactions within the consolidated group during the first half of 1999
($200,000 in 1998) has been eliminated as a result of consolidation. Most of the
remainder arose as a result of reduced levels of fixed income securities and
invested cash and reduced interest rates.
Investment income assigned to the INVESTMENT OPERATIONS segment was
negative for the first six months and second quarter of 1999 as a result of
allocations of investment income to the MEDICAL PROFESSIONAL LIABILITY INSURANCE
segment. Approximately $1.1 million in investment income was allocated to the
MEDICAL PROFESSIONAL LIABILITY INSURANCE segment for the first half of 1999
compared to $1.3 million during the same 1998 period and $600,000 during the
second quarter of 1999 compared to $600,000 in 1998. Allocation of investment
income results from the allocation of invested assets to business segments,
since invested assets are not directly assigned.
Second quarter revenues of $2.9 million surpassed those of the same 1998
period by $1.0 million. Realized investment gains were $3.1 million for the
second quarter of 1998 compared to $1.9 million in the 1998 second quarter.
Investment income for the second quarter of 1999 was $500,000 less than in the
second quarter of 1998 due to a reduced level of interest bearing instruments
and an increase in the amount of loans within the consolidated group. Other
income amounted to $400,000 during the second quarter of 1999, an increase of
$300,000 over the second quarter of 1998.
Revenues (charges) from INVESTMENT OPERATIONS are summarized below:
<TABLE>
INVESTMENT OPERATIONS REVENUES
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- ----
(in millions) (in millions)
<S> <C> <C> <C> <C>
Investment Operations Revenues (Charges):
- -----------------------------------------
Realized Investment Gains $ 3.1 $ 1.9 $ 3.0 $ 2.4
Investment Income (charges) (0.6) (0.1) (0.4) 1.3
Other Income 0.4 0.1 0.1 0.1
----- ----- ----- -----
Investment Operations Revenues $ 2.9 $ 1.9 $ 2.7 $ 3.8
===== ===== ===== =====
</TABLE>
At June 30, 1999, the consolidated investment portfolio contained $1.9
million, net of taxes, in unrealized gains, compared to $2.9 million in
unrealized losses at December 31, 1998. Most of this $4.8 million improvement
was attributable to the Company's investment in PC Quote, Inc. ("PC Quote")
common stock which was valued at $2.125 per share at December 31, 1998 and
$7.375 at June 30, 1999. The Company's investments in PC Quote Series A
Preferred Stock, Series B Preferred Stock, and warrants to purchase PC Quote
common stock do not have readily determinable market values and, therefore, are
valued at their original cost basis.
12
<PAGE> 13
INVESTMENT OPERATIONS produced a $200,000 loss before taxes during the
first half of 1999 compared to $0.9 million in income during the first half of
1998. As discussed above, most of this decline was attributable to a one-time
$800,000 increase in income during the first six months of 1998 from the
write-down of capitalized interest on discontinued real estate projects and
reduced investment income related to changes in the mix of Physicians'
investment portfolio. The first half of 1999 included approximately $600,000 of
loss from PICO's equity in its investee, Conex Continental Inc. This compares to
a $500,000 loss from the first six months of 1998. During the second quarter of
1999, INVESTMENT OPERATIONS produced $1.5 million in pre-tax income, compared to
$400,000 in income during the same 1998 quarter. This $1.1 million increase in
pre-tax income was primarily generated by realized investment gains which
increased from $1.9 million during the second quarter of 1998 to $3.1 million in
the 1999 second quarter.
The Company's INVESTMENT OPERATIONS income can fluctuate greatly from
period to period. A number of factors contribute to these fluctuations,
including, among other things, the mix of the Company's portfolio, timing of the
Company's realization of capital gains, the volume of trading and demand for
individual securities the Company owns and fluctuations in the U.S. and world
stock and bond markets in general. Therefore, future results cannot and should
not be predicted based upon past performance alone. See "RISK FACTORS."
Income (loss) before tax from INVESTMENT OPERATIONS for the three and six
months ended June 30, 1999 and 1998 included:
<TABLE>
INVESTMENT OPERATIONS INCOME (LOSS) BEFORE TAX
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- -----
(in millions) (in millions)
<S> <C> <C> <C> <C>
Investment Operations Income (Loss) Before Tax:
- -----------------------------------------------
Investment Operations Income $ 1.9 $ 0.7 $ 0.4 $ 1.4
Equity in Loss of Investee (0.4) (0.3) (0.6) (0.5)
----- ----- ----- -----
Investment Operations Income (Loss) Before Tax $ 1.5 $ 0.4 $(0.2) $ 0.9
===== ===== ===== =====
</TABLE>
SURFACE, WATER, AND MINERAL RIGHTS
- ----------------------------------
There are two subsidiaries that comprise the surface, water and mineral
rights segment operations: Vidler and NLRC. Vidler, a Delaware corporation,
engages in the water marketing and transfer business. The business plan calls
for Vidler to identify areas where water supplies are needed in the southwestern
United States and then to acquire and aggregate agricultural water supplies and
develop them for the use of municipalities, water districts, developers and
others. In addition, Vidler develops and manages water storage to facilitate
more efficient use of water primarily for use by others. Vidler has purchased or
leased water rights and related assets in Colorado, Nevada, Arizona and
California.
NLRC, a limited liability company, was acquired in 1997. NLRC owns
approximately 1.3 million acres of deeded land, fee-simple, located in northern
Nevada, together with appurtenant surface, water and mineral rights. NLRC is
actively engaged in activities it believes will maximize the property's value in
relation to water rights, mineral rights and land development.
Following is a breakdown of revenue and pre-tax income (loss) before
minority interest from SURFACE, WATER, AND MINERAL RIGHTS operations for the
periods shown:
13
<PAGE> 14
<TABLE>
SURFACE, WATER, AND MINERAL RIGHTS
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- -----
(in millions) (in millions)
<S> <C> <C> <C> <C>
Revenues - Surface, Water and Mineral Rights:
- ---------------------------------------------
VIDLER:
Operating Revenues $ 0.2 $ 0.2 $ 0.3 $ 0.3
NLRC:
Operating Revenues 0.3 0.2 0.5 0.3
Land Sales 0.4 0.4
----- ----- ----- -----
Segment Total Revenues $ 0.9 $ 0.4 $ 1.2 $ 0.6
===== ===== ===== =====
Income (Loss) Before Tax and Minority Interest:
- -----------------------------------------------
Vidler Water Company, Inc. $(0.8) $(0.1) $(1.3) $(0.3)
Nevada Land and Resources Company LLC 0.9 (0.2) 0.8 (0.4)
----- ----- ----- -----
Income (Loss) Before Tax and Minority Interest $ 0.1 $(0.3) $(0.5) $(0.7)
===== ===== ===== =====
</TABLE>
Operating revenues include land leases, principally for grazing,
agricultural, communications and easement purposes; water sales and leasing and
other income. A portion of the lease revenue Vidler receives is from leases
under a perpetual agreement. Payments for these leases are indexed to the
consumer price index ("CPI"), with a 3% minimum increase per year. Currently,
approximately 28% of Vidler's total revenue is subject to this type of lease.
Once water rights or assets are leased in perpetuity, they cannot be leased
again unless the lease is cancelled, if cancelable. Consequently, future revenue
growth beyond the limits of these CPI escalators is dependent upon growth in
leases not subject to perpetual agreements, development of existing assets, and
acquisition of additional water rights and water related assets for subsequent
lease or sale. The sale of water rights or assets reduces future revenue streams
from water rights and assets until those assets can be replaced.
Revenues from SURFACE, WATER, AND MINERAL RIGHTS operations for the six
months ended June 30, 1999 doubled over those of the same 1998 period,
increasing from $600,000 to $1.2 million. As shown above, all of the increase in
revenues was provided by NLRC, including a $400,000 increase in land sales.
Vidler's revenues remained constant at $300,000. For the second quarter,
revenues increased $500,000 or 125% over the second quarter of 1998 to $900,000.
Once again, this increase was due to NLRC, primarily from land sales.
SURFACE, WATER, AND MINERAL RIGHTS operations for the half of 1999 resulted
in a $500,000 loss before taxes and minority interest, compared to a $700,000
loss during the same 1998 six month period. Operating and overhead expenses
exceeded Vidler's revenues during the first half and second quarter of 1999
resulting in losses of $1.3 million and $800,000, respectively. Vidler produced
losses of $300,000 and $100,000, respectively, during the same 1998 periods.
Most of the increase in overhead expenses relates to increased interest expense,
salaries and benefits related to the acquisition of additional assets.
NLRC produced profits of $800,000 and $900,000 for the first half and
second quarter of 1999, respectively. This compares to losses of $400,000 and
$200,000, respectively, during the same 1998 periods. As evidenced by the
revenues from land sales shown above, NLRC continues to actively market selected
non-strategic parcels of land.
During the second half of 1999, NLRC settled $5 million of outstanding
borrowings by exchanging the particular land deed which was collateral for the
note.
PROPERTY AND CASUALTY INSURANCE
Sequoia and Citation account for all of the ongoing revenues of the
PROPERTY AND CASUALTY ("P&C") INSURANCE business segment. These companies write
predominately light commercial and multiple peril insurance coverage in central
and northern California and Nevada. Sequoia and Citation are continually seeking
ways to realize savings and take advantage of synergies and to combine
operations, wherever possible.
14
<PAGE> 15
As shown below, earned premiums made up most of the PROPERTY AND CASUALTY
INSURANCE segment revenues. Premiums are earned pro-rata throughout the year
according to the coverage dates of the underlying policies:
<TABLE>
PROPERTY AND CASUALTY INSURANCE
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- -----
<S> <C> <C> <C> <C>
P & C Insurance Revenues (Charges): (in millions) (in millions)
- -----------------------------------
Earned Premiums - Sequoia $ 4.3 $ 4.4 $ 8.6 $ 9.0
Earned Premiums - Citation 4.3 4.4 8.6 8.8
Investment Income 1.2 1.4 2.4 2.8
Realized Investment Gains (Losses) (0.2) 0.1
Other 0.1 0.2 0.3 0.4
----- ----- ----- -----
Total P&C Insurance Revenues $ 9.9 $10.4 $19.7 $21.1
===== ===== ===== =====
P & C Insurance Income Before Taxes:
- ------------------------------------
Sequoia Insurance Company $ 0.6 $ 0.7 $ 0.7 $ 0.4
Citation Insurance Company 0.5 0.7 0.7 0.6
----- ----- ----- -----
Total P&C insurance Income Before Taxes $ 1.1 $ 1.4 $ 1.4 $ 1.0
===== ===== ===== =====
</TABLE>
PROPERTY AND CASUALTY INSURANCE revenues for the first half of 1999 were
$19.7 million compared to $21.1 million during the first six months of 1998.
Declining earned premiums accounted for approximately $600,000 of this $1.4
million , or 6.6%, decrease between years, principally as a result of continuing
increased underwriting selectivity applied to Citation's business and aggressive
competition for commercial multiple peril business within the state of
California. Total PROPERTY AND CASUALTY INSURANCE earned premiums for the first
half of 1999 were $17.2 million compared to $17.8 million in 1998. Practically
all new P&C insurance applications and policies scheduled to renew are now being
processed through Sequoia and subjected to Sequoia's underwriting standards
which are much more stringent than those previously employed by Citation prior
to its change in control. As a result, a significant portion of Citation's prior
book of business has not been renewed over the past two-plus years. As
previously mentioned, increased competition within the state of California for
commercial insurance has also decreased earned premiums. Accounting for most of
the remaining difference between years was investment income, down $400,000 or
14.3%. The decline in investment income principally resulted from a reduction in
invested assets during 1998 and 1999 resulting from cash utilization in
operating activities due to the decline in premium revenue. Investment losses
realized during the first half of 1999 amounted to $200,000, compared to
$100,000 in realized investment gains during the first six months of 1998.
For the quarters ended June 30, 1999 and 1998, PROPERTY AND CASUALTY
INSURANCE operations produced revenues of $9.9 million and $10.4 million,
respectively. Earned premiums were $8.6 million and $8.8 million, respectively
for the two periods. Investment income for the second quarter of 1999 was $1.2
million compared to $1.4 million during the same 1998 quarter.
Sequoia and Citation entered into a reinsurance pooling agreement effective
January 1, 1998 which provides for the pooling of all insurance premiums,
losses, loss adjustment expenses ("LAE") and administrative and other insurance
operating expenses between Sequoia and Citation and a 50/50 retrocession between
the companies. The reinsurance pooling agreement calls for these items to be
split equally between the two companies. Since the inception of the reinsurance
pooling agreement, Sequoia's retained net written and earned premiums have been
significantly reduced by the premium cessions to Citation. However, the decline
in Sequoia's retained net written and earned premiums due to the reinsurance
pooling agreement produced a corresponding increase in Citation's net written
and earned premiums.
PROPERTY AND CASUALTY INSURANCE operations produced $1.4 million in income
before taxes during for the first half of 1999, up $400,000 from the $1.0
million recorded during the same 1998 period. The 1997-98 "El Nino" phenomenon
had a significant impact on the 1998 results. As shown below, Citation's and
Sequoia's 1999 loss and LAE ratios for the first six months improved 5.8 and 8.2
percentage points, respectively, over the first half of 1998, principally due to
improved claims experience. Citation's loss and LAE ratio for the six months
ended June 30, 1999 was 9.6 percentage points higher than Sequoia's. The
principal reason for this difference
15
<PAGE> 16
was loss experience from the artisan-contractor coverage no longer written by
Citation. Citation strengthened claims and LAE reserves for artisan-contractor
claims by $627,000 during the first six months of 1999.
Higher expense ratios for both Sequoia and Citation resulted from the
reduced level of premiums, resulting in a higher ratio of overhead expenses to
earned premiums. For the second quarter, Citation's and Sequoia's loss ratios
for 1999 increased slightly over those of the second quarter of 1998. Citation's
expense ratio remained at about the same level as during the second quarter of
1998, but Sequoia's expense ratio decreased 1.5 percentage points principally
due to reduced overhead expenses. SEE RATIOS BELOW BASED UPON LOSSES, LAE AND
INSURANCE OPERATING EXPENSES CALCULATED ON THE BASIS OF GENERALLY ACCEPTED
ACCOUNTING PRINCIPLES (GAAP), DIVIDED BY NET EARNED PREMIUM.
The following schedule shows Citation's losses, LAE and insurance operating
expenses as percentages of earned premiums:
<TABLE>
CITATION INSURANCE COMPANY
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- -----
(GAAP Basis) (GAAP Basis)
<S> <C> <C> <C> <C>
Loss and LAE Ratio 65.7% 64.4% 69.2% 75.0%
Expense Ratio 43.8% 43.6% 42.3% 40.5%
----- ----- ----- -----
Loss and Expense Ratio 109.5% 108.0% 111.5% 115.5%
===== ===== ===== =====
</TABLE>
The following schedule shows Sequoia's losses, LAE and insurance operating
expenses as percentages of earned premiums:
<TABLE>
SEQUOIA INSURANCE COMPANY
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
---- ---- ----- -----
(GAAP Basis) (GAAP Basis)
<S> <C> <C> <C> <C>
Loss and LAE Ratio 52.3% 51.9% 59.6% 67.8%
Expense Ratio 45.6% 47.1% 44.2% 44.1%
---- ---- ----- -----
Loss and Expense Ratio 97.9% 99.0% 103.8% 111.9%
==== ==== ===== =====
</TABLE>
Loss and LAE ratios, insurance operating expense ratios and combined ratios
were calculated using net earned premiums as a denominator. Theoretically, a
combined loss and expense ratio of less than 100% indicates that the insurance
company is making a profit on its base insurance business before consideration
of investment income, realized investment gains or losses, extraordinary items,
taxes and other non-insurance items.
MEDICAL PROFESSIONAL LIABILITY INSURANCE
- ----------------------------------------
Physicians' and PRO's medical professional liability insurance business was
sold to Mutual Assurance Inc. ("Mutual") on August 28, 1995. All new and renewal
MPL insurance policies written between July 16 and December 31, 1995 were 100%
reinsured by Mutual. Physicians and PRO ceased writing new and renewal MPL
insurance policies effective January 1, 1996. Physicians continues to administer
and adjust the remaining claims and LAE reserves. Accordingly, although
Physicians and PRO effectively ceased writing MPL insurance in 1995, MEDICAL
PROFESSIONAL LIABILITY INSURANCE is treated as a separate business segment of
continuing operations due to the continued management of claims and the active
management of invested assets.
16
<PAGE> 17
Physicians' and PRO's assets are not designated on an individual security
basis as belonging either to the MEDICAL PROFESSIONAL LIABILITY INSURANCE or the
INVESTMENT OPERATIONS business segment. Consequently, Physicians' invested
assets produce income in both the MEDICAL PROFESSIONAL LIABILITY INSURANCE and
INVESTMENT OPERATIONS segments. All of PRO's operating revenues and pre-tax
income are assigned to the MEDICAL PROFESSIONAL LIABILITY INSURANCE segment.
However, all investment income and realized investment gains generated by
Physicians from assets in excess of those needed to support the MPL claims are
allocated to the Investment Operations segment. SEE NOTE 7, "SEGMENT REPORTING."
Revenues(charges) and pre-tax loss from MEDICAL PROFESSIONAL LIABILITY
INSURANCE operations were as follows for the periods shown:
<TABLE>
MEDICAL PROFESSIONAL LIABILITY INSURANCE
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- -----
(in millions) (in millions)
<S> <C> <C> <C> <C>
MPL Revenues (Charges):
- -----------------------
Investment Income, Net of Expenses $ 0.6 $ 0.7 $ 1.2 $ 1.4
Premiums (0.2) (0.2)
----- ----- ----- -----
MPL Revenues $ 0.6 $ 0.5 $ 1.2 $ 1.2
===== ===== ===== =====
MPL Loss Before Tax: $(0.2) $(0.3) $(0.7) $(0.4)
- -------------------- ===== ===== ===== =====
</TABLE>
Since the withdrawal of Physicians and PRO from their personal automobile
and homeowners lines of business in the late 1980's, MPL has been these two
companies' only sources of insurance premiums. Investment income revenues will
continue to accrue to the MPL runoff.
MEDICAL PROFESSIONAL LIABILITY INSURANCE revenues were $1.2 million during
the first half of 1999, the same as in the first half of 1998. Investment income
during the first six months of 1999 accounted for all of the $1.2 million in
revenues, but was approximately $200,000 or 14% less than during the same 1998
period For the 1999 second quarter, revenues were $600,000, an increase of
$100,000 over the second quarter of 1998. Investment income continued to decline
during the second quarter and first six months of 1999, principally as a result
of the reduced level of MPL claims and, correspondingly, the resultant reduced
level of invested assets allocated to the MEDICAL PROFESSIONAL LIABILITY
INSURANCE business segment.
MPL operations produced a pre-tax loss of approximately $700,000 during the
first six months of 1999, compared to a $400,000 loss during the same 1998
period. The 1999 second quarter loss of $200,000 compares to a $300,000 loss
during the second quarter of the previous year.
Physicians' claims department staff continues to process the runoff of the
remaining MPL loss and loss adjustment expense claims which is progressing
routinely. At June 30, 1999, MPL reserves totaled $54.2 million, net of
reinsurance and discount. This compares to $60.9 million at December 31, 1998.
MPL loss and LAE reserves continue to decline as a result of the disposition of
claims.
<TABLE>
MPL INSURANCE -- LOSS AND LAE RESERVES
<CAPTION>
June 30, December 31,
1999 1998
-------- ------------
(in millions)
<S> <C> <C>
Direct Reserves $89.7 $97.1
Ceded Reserves (28.1) (27.7)
Discount of Net Reserves (7.4) (8.5)
----- -----
Net MPL Reserves $54.2 $60.9
===== =====
</TABLE>
17
<PAGE> 18
Although MPL reserves are certified annually by two independent actuaries,
as required by Ohio insurance regulations, significant fluctuations in reserve
levels can occur based upon a number of variables used in actuarial projections
of ultimate incurred losses and LAE.
OTHER OPERATIONS
- ----------------
OTHER OPERATIONS consists principally of Summit Global Management's
(Summit) investment management operations.
Revenues (charges) and pre-tax losses from other operations are summarized
below:
<TABLE>
OTHER OPERATIONS
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1999 1998 1999 1998
----- ----- ----- -----
(in millions) (in millions)
<S> <C> <C> <C> <C>
Revenues (Charges) from Other Operations:
- -----------------------------------------
Investment Management Services $ 0.2 $ 0.3 $ 0.4 $ 0.6
Less: Intercompany Portfolio Mgmt. Charges (0.1) (0.1) (0.2)
Other 0.3 (0.1) 0.3
----- ----- ----- -----
Revenues from Other Operations $ 0.2 $ 0.5 $ 0.2 $ 0.7
===== ===== ===== =====
----- ----- ----- -----
Other Operations-Loss Before Tax $(0.1) $ -- $(0.1) $(0.1)
- -------------------------------- ===== ===== ===== =====
</TABLE>
Revenues from OTHER OPERATIONS for the first six months of 1999 were
approximately $200,000 compared to $700,000 during the first half of 1998.
Summit's revenues after the elimination of intercompany charges provided
approximately $100,000 of this decline. A decline of $400,000 in revenues from
miscellaneous other sources accounted for the remainder of the total decline in
revenues. The 1998 period included $200,000 in commission income from a now
inactive insurance agency, CLM Insurance Agency, owned by Sequoia and $100,000
in real estate sales by Raven Development Company, a deactivated real estate
development agency owned by Physicians. Second quarter 1999 revenues were
$200,000, a reduction of $300,000 from the $500,000 reported during the second
quarter of 1998 which included the $200,000 CLM Insurance Agency commission
previously discussed.
OTHER OPERATIONS recorded approximately $100,000 in losses before taxes for
the first six months of 1999 and 1998 first quarters and the second quarter of
1999. No income or loss was recorded during the 1998 second quarter.
DISCONTINUED OPERATIONS
- -----------------------
The Company completed its disposal of all interests in the operations of
American Physicians Life Insurance Company ("APL"), the Company's former life
and health insurance subsidiary on December 4, 1998. During the first six months
of 1998, discontinued operations reported revenues of $4.4 million and pre-tax
income of approximately $200,000. For the 1998 second quarter, revenues and
pre-tax income were $2.2 million and $100,000, respectively. SEE NOTE 2,
"DISCONTINUED OPERATIONS."
LIQUIDITY AND CAPITAL RESOURCES - SIX MONTHS ENDED JUNE 30, 1999 COMPARED TO
JUNE 30, 1998
Operating activities used $16.8 million of cash during the six months ended
1999 compared to cash used of $3 million during the same period of 1998. The
increase in cash used by operations was caused primarily by operating expenses,
claims and LAE payments (both property and casualty and MPL) and reductions in
premiums received. Although insurance premiums earned continued to decline
slightly in 1999, reinsurance receivables increased $2.8 million during the
first six months of 1999. This increase primarily resulted from increases in P&C
insurance reinsurance reserves, rather than increases in reinsurance balances
receivable from reinsurers. As loss reserves are paid at later dates,
corresponding reinsurance reserves will be billed and due from reinsurers at
that
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<PAGE> 19
time. Actual balances due from reinsurers at June 30, 1999 were $1.9 million
compared to $1.1million at December 31, 1998. This $800,000 increase resulted
from the payment of claims during the period that exceeded reinsurance retention
limits. All of the Company's reinsurers are highly rated (at least "A",
"Excellent") by A. M. Best Company, except for one company, which is not rated
due to its withdrawal from the reinsurance business in 1995. PICO has very
little business reinsured with this reinsurer and its balance is current. A. M.
Best Company's ratings reflect A. M. Best Company's assessment of the
reinsurer's financial condition, as well as the expertise and experience of its
management.
Cash flow from investing activities used $8.6 million during the first six
months of 1999 compared to $1.4 million of cash provided during 1998. During
1999, the Company purchased an additional 6.2 million shares of Australian Oil
and Gas for $6.6 million, increasing its ownership to approximately 15.4%. In
addition, 71,000 shares of Jungfraubahn Holding AG were purchased for $11
million. This acquisition was financed with $3.7 million in cash and $7.1
million of borrowings denominated in Swiss Francs. For the six months ended, the
borrowings, translated at average rates in effect during the period amounted to
$7 million. The sale and maturity of investments provided $12.3 million during
1999. Cash provided by investing activities during 1998 primarily included
proceeds from the sale of investments of $14.4 million offset by purchases of
investments of $9.2 million.
Financing activities during 1999 provided cash of $2.9 million from the
exercise of 120,000 common stock warrants. Offsetting cash proceeds from the
warrants was the $7 million in borrowings obtained to purchase additional shares
of Jungfraubahn Holding AG. There were no financing activities that provided or
used cash during the same period in 1998.
Vidler is committed to funding its obligation with Semitropic for water
storage (see Note 5). The $2.4 million payment, due in November is required
annually through the year 2008. In addition, the Company is committed to
maintaining Sequoia's capital and statutory policyholder surplus at a minimum of
$7.5 million. At June 30, 1999, Sequoia's statutory policyholder surplus was
$25.5 million. The Company is also committed to maintaining Sequoia's Best
Rating at or above the "B++" (Very Good) level, which may at some time in the
future require additional capital infusions into Sequoia.
At June 30, 1999, the Company had no other significant commitments for
capital expenditures, other than in the ordinary course of business.
CAPITAL RESOURCES
The Company's primary source of funds are its available cash resources of
$55.6 million at June 30, 1999, operating cash flows, liquidation of
non-essential investment holdings, borrowings, public and private debt
offerings, policy premiums and other fees.
THE COMPANY'S STATE OF READINESS FOR THE YEAR 2000
The Company continues to progress in its efforts to define the scope and
magnitude of the Year 2000 ("Y2K") problem and to execute its plans to bring
information technology and non-information technology systems into Y2K
compliance.
The initial phase of planning, inventorying and evaluating all information
technology systems, and non-information technology systems and their components,
for Y2K compliance is complete. The evaluation did not disclose any significant
Y2K processing difficulties or concerns. The focus has primarily been on the
insurance operations of the Company because of the custom applications software
used to process insurance policies, policy claims, and insurance underwriting.
Fortunately, the majority of the non-insurance information and non-information
technology systems are Y2K compliant and do not require any significant
alterations. The focus of remediation is on the insurance specific applications.
The second phase of the project, which primarily includes implementing
corrections to remedy Y2K deficiencies, is approximately 95% complete. As noted
above, the insurance systems software has been the primary focus of the efforts.
To bring the insurance systems into Y2K compliance, the Company's internal
information systems staff is re-writing lines of existing code to function with
a four-digit date field. The Company also replaced existing DOS software with a
current Y2K compliant version.
Phase three pertains to testing and validation of each system. As hardware
and software changes are made to the systems, they are tested for compliance.
This phase will continue as each insurance application is reprogrammed. Despite
the best efforts by management, problems will arise requiring the Company to
quickly respond while there is still time. Phase four, when completed, will set
forth contingency plans addressing potential business interruption and failure,
is expected to be finalized during the last half of 1999.
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THIRD PARTY RELATIONSHIPS
The Company has relationships with several banks and other financial
institutions and service providers that provide business information on a
regular basis. In addition, the Company reports financial results on a regular
basis to state and federal agencies. While these relationships are important to
the Company's business, should any third parties be adversely affected by the
Y2K problem, the resulting risk of business interruption should not be
significant to the Company. The Company, however, has no means of ensuring that
these parties will be Year 2000 ready. The inability of those parties to
complete their Y2K readiness process could materially impact the Company.
THE COSTS TO ADDRESS THE COMPANY'S YEAR 2000 ISSUES
The financial impact of making the required systems changes has not been
material, nor is it expected to be material, to the Company's consolidated
financial position, results of operations or cash flows. The Company has
incurred approximately $100,000 for hardware and computer programming. The
Company expects to incur another $10,000 to $20,000 to complete the project.
THE RISKS OF THE COMPANY'S YEAR 2000 ISSUES AND CONTINGENCY PLANS
A reasonable, most likely worst case scenario of the Y2K impact would be a
slow down in internal and external reporting, and insurance related processing
of policies, claims and underwriting functions. It is unlikely the Company would
experience any material business cessation or significant business disruption.
The Company is completing its specific plans to continue operations in case
of unexpected delays in completing remediation or if Y2K problems impact the
Company in unforeseen ways. It appears many business systems could function
manually for a limited amount of time. The Company anticipates completing its
contingency plan during the last half of 1999. Overall, the Company is
approximately 95% through its Y2K project.
Pursuant to the "Year 2000 Information and Readiness Disclosure Act," the
foregoing discussion initially made on September 30, 1998 is designated a Year
2000 readiness disclosure.
RISK FACTORS
In addition to the other information in this Form 10-Q, the following risk
factors should be considered carefully in evaluating PICO and our business. This
Form 10-Q contains forward-looking statements that involve risks and
uncertainties. The statements contained in this document that are not purely
historical are forward-looking statements within the meaning of Section 27A of
the Exchange Act, including statements regarding our expectations, beliefs,
intentions, plans or strategies regarding the future. All forward-looking
statements included in this document are based on information available to us on
the date thereof, and we assume no obligation to update any such forward-looking
statements.
IF WE DO NOT SUCCESSFULLY LOCATE, SELECT AND MANAGE INVESTMENTS AND ACQUISITIONS
OR IF OUR INVESTMENTS OR ACQUISITIONS OTHERWISE FAIL OR DECLINE IN VALUE, OUR
FINANCIAL CONDITION COULD SUFFER
We invest in businesses that we believe are undervalued or that will
benefit from additional capital, restructuring of operations or improved
competitiveness through operational efficiencies.
Failures and/or declines in the market values of businesses we invest in or
acquire, as well as our failure to successfully locate, select and manage
investment and acquisition opportunities, could have a material adverse effect
on our business, financial condition, results of operations and cash flows. Such
business failures, declines in market values, and/or failure to successfully
locate, select and manage investments and acquisitions could result in inferior
investment returns compared to those which may have been attained had we
successfully located, selected and managed new investments and acquisition
opportunities, or had our investments or acquisitions not failed or declined in
value. We could also lose part or all of our investments in these businesses and
experience reductions in our net income, cash flows, assets and shareholders'
equity.
We will continue to make selective investments, and endeavor to enhance and
realize additional value to these acquired companies through our influence and
control. This could involve the restructuring of the financing or management of
the entities in which we invest and initiating and facilitating mergers and
acquisitions. Any acquisition could result in the use of a significant portion
of our available cash, significant dilution to you, and significant acquisition
related charges. Acquisitions may also result in the assumption
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<PAGE> 21
of liabilities, including liabilities that are unknown or not fully known at the
time of the acquisition, which could have a material adverse effect on us.
We do not know of any reliable statistical data that would enable us to
predict the probability of success or failure of our investments or to predict
the availability of suitable investments at the time we have available cash. You
will be relying on the experience and judgment of management to locate, select
and develop new acquisition and investment opportunities. Sufficient
opportunities may not be found and this business strategy may not be successful.
We have made a number of investments in the past that have been highly
successful, such as Fairfield Communities, Inc., which we sold in 1996 and
Resource America, Inc., which we sold in 1997. We have also made investments
that have lost money, such as our approximate $4 million loss from Korean
investments in 1997 and approximately $5 million in investments written down in
1998. We reported net realized investment gains in 1997 of $27.1 million and in
1996 of $21.4 million; however, we reported a net realized investment loss of
$4.4 million for 1998. Our financial statements indicated net unrealized
investment gains, before taxes, of $18.6 million at December 31, 1996 and $6.3
million at December 31, 1997, and net unrealized investment losses of $5.3
million at December 31, 1998.
Our ability to achieve an acceptable rate of return on any particular
investment is subject to a number of factors which are beyond our control,
including increased competition and loss of market share, quality of management,
cyclical or uneven financial results, technological obsolescence, foreign
currency risks and regulatory delays.
Our investments may not achieve acceptable rates of return and we may not
realize the value of the funds invested; accordingly, these investments may have
to be written down or sold at their then-prevailing market values.
We may not be able to sell our investments in both private and public
companies when it appears to be advantageous to do so and we may have to sell
these investments at a discount. Investments in private companies are not as
marketable as investments in public companies. Investments in public companies
are subject to prices determined in the public markets and, therefore, values
can vary dramatically. In particular, the ability of the public markets to
absorb a large block of shares offered for sale can affect our ability to
dispose of an investment in a public company.
To successfully manage newly acquired companies, we must, among other
things, continue to attract and retain key management and other personnel. The
diversion of the attention of management from the day-to-day operations, or
difficulties encountered in the integration process, could have a material
adverse effect on our business, financial condition, results of operations and
cash flows.
WE MAY MAKE INVESTMENTS AND ACQUISITIONS THAT MAY YIELD LOW OR NEGATIVE RETURNS
FOR AN EXTENDED PERIOD OF TIME, WHICH COULD TEMPORARILY OR PERMANENTLY DEPRESS
OUR RETURN ON INVESTMENTS
We generally make strategic investments and acquisitions that tend to be
long term in nature. We invest in businesses that we believe to be undervalued
or may benefit from additional capital, restructuring of operations or
management or improved competitiveness through operational efficiencies with our
existing operations. We may not be able to develop acceptable revenue streams
and investment returns. We may lose part or all of our investment in these
assets. The negative impacts on cash flows, income, assets and shareholders'
equity may be temporary or permanent. We make investments for the purpose of
enhancing and realizing additional value by means of appropriate levels of
shareholder influence and control. This may involve restructuring of the
financing or management of the entities in which we invest and initiating or
facilitating mergers and acquisitions. These processes can consume considerable
amounts of time and resources. Consequently, costs incurred as a result of these
investments and acquisitions may exceed their revenues and/or increases in their
values for an extended period of time until we are able to develop the potential
of these investments and acquisitions and increase the revenues, profits and/or
values of these investments. Ultimately, however, we may not be able to develop
the potential of these assets that we anticipated.
IF MEDICAL MALPRACTICE INSURANCE CLAIMS TURN OUT TO BE GREATER THAN THE RESERVES
WE ESTABLISH TO PAY THEM, WE MAY NEED TO LIQUIDATE CERTAIN INVESTMENTS IN ORDER
TO SATISFY OUR RESERVE REQUIREMENTS
Under the terms of our medical malpractice liability policies, there is an
extended reporting period for claims. Under Ohio law the statute of limitations
is one year after the cause of action accrues. Also, under Ohio law a person
must make a claim within four years; however, the courts have determined that
the period may be longer in situations where the insured could not have
reasonably discovered the injury in that four-year period. Claims of minors must
be brought within one year of the date of majority. As a result, some claims may
be reported a number of years following the expiration of the medical
malpractice liability policy period.
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Physicians Insurance Company of Ohio and The Professionals Insurance
Company have established reserves to cover losses on claims incurred under the
medical malpractice liability policies including not only those claims reported
to date, but also those that may have been incurred but not yet reported. The
reserves for losses are estimates based on various assumptions and, in
accordance with Ohio law, have been discounted to reflect the time value of
money. These estimates are based on actual and industry experience
and assumptions and projections as to claims frequency, severity and
inflationary trends and settlement payments. In accordance with Ohio law,
Physicians Insurance Company of Ohio and The Professionals Insurance Company
annually obtain a certification from an independent actuary that their
respective reserves for losses are adequate. They also obtain a concurring
actuarial opinion. Due to the inherent uncertainties in the reserving process,
there is a risk that Physicians Insurance Company of Ohio's and The
Professionals Insurance Company's reserves for losses could prove to be
inadequate. This could result in a decrease in income and shareholders' equity.
If we underestimate our reserves, the capital of the insurance companies could
reach levels which are lower than required by law.
Reserves are money that we set aside to pay insurance claims. We strive to
establish a balance between maintaining adequate reserves to pay claims while at
the same time using our cash resources to invest in new companies.
IF WE UNDERESTIMATE THE AMOUNT OF INSURANCE CLAIMS, OUR FINANCIAL CONDITION
COULD BE MATERIALLY MISSTATED AND OUR FINANCIAL CONDITION COULD SUFFER
Our insurance subsidiaries may not have established reserves adequate to
meet the ultimate cost of losses arising from claims. It has been, and will
continue to be, necessary for our insurance subsidiaries to review and make
appropriate adjustments to reserves for claims and expenses for settling claims.
Inadequate reserves could have a material adverse effect on our business,
financial condition, results of operations and cash flows. Inadequate reserves
could cause our financial condition to fluctuate from period to period and cause
our financial condition to appear to be better than it actually is for periods
in which insurance claims reserves are understated. In subsequent periods when
we discover the underestimation and pay the additional claims, our cash needs
will be greater than expected and our financial results of operations for that
period will be worse than they would have been had our reserves been accurately
estimated originally.
The inherent uncertainties in estimating loss reserves are greater for some
insurance products than for others, and are dependent on:
o the length of time in reporting claims;
o the diversity of historical losses among claims;
o the amount of historical information available during the
estimation process;
o the degree of impact that changing regulations and legal
precedents may have on open claims; and
o the consistency of reinsurance programs over time.
Because medical malpractice liability and commercial casualty claims may
not be completely paid off for several years, estimating reserves for these
types of claims can be more uncertain than estimating reserves for other types
of insurance. As a result, precise reserve estimates cannot be made for several
years following the year for which reserves were initially established.
During the past several years, the levels of the reserves for our insurance
subsidiaries have been very volatile. As a result of our claims experience, we
have had to significantly increase these reserves in the past several years.
Significant increases in the reserves may be necessary in the future, and
the level of reserves for our insurance subsidiaries may be volatile in the
future. These increases or volatility may have an adverse effect on our
business, financial condition, results of operations and cash flows.
THERE HAS BEEN A DOWNTURN IN THE PROPERTY & CASUALTY INSURANCE BUSINESS WHICH,
IN THE SHORT TERM, HINDERS OUR ABILITY TO PROFIT FROM THIS INDUSTRY
The property and casualty insurance industry has been highly cyclical, and
the industry has been in a cyclical downturn over the last several years. This
is due primarily to competitive pressures on pricing, which has resulted in
lower profitability for us. Pricing is a function of many factors, including the
capacity of the property and casualty industry as a whole to underwrite
business, create policyholders' surplus and generate positive returns on their
investment portfolios. The level of surplus in the industry varies with returns
on invested capital and regulatory barriers to withdrawal of surplus. Increases
in surplus have generally been accompanied by increased price competition among
property and casualty insurers.
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The cyclical trends in the industry and the industry's profitability can
also be affected by volatile and unpredictable developments, including natural
disasters, fluctuations in interest rates, and other changes in the investment
environment which affect market prices of investments and the income generated
from those investments. Inflationary pressures affect the size of losses and
court decisions affect insurers' liabilities. These trends may adversely affect
our business, financial condition, results of operations and cash flows by
reducing revenues and profit margins, by increasing ratios of claims and
expenses to premiums, and by decreasing cash receipts. Capital invested in our
insurance companies may produce inferior investment returns during periods of
downturns in the insurance cycle due to reduced profitability.
STATE REGULATORS COULD REQUIRE CHANGES TO THE OPERATIONS OF OUR INSURANCE
SUBSIDIARIES AND/OR TAKE THEM OVER IF WE FAIL TO MAINTAIN ADEQUATE RESERVE
LEVELS
In the past few years, the National Association of Insurance Commissioners
has developed risk-based capital measurements for both property and casualty and
life and health insurers. These measurements prescribe the capital levels that
insurance companies must maintain. The Commissioners have delegated to the state
regulators varying levels of authority based on the adequacy of an insurer's
capital. The insurance companies' capital levels are reported annually in their
statutory annual statements to the insurance departments.
Failure to meet one or more capital levels may result in state regulators
requiring the insurance company to submit a business plan demonstrating
achievement of the required capital levels. This may include the addition of
capital, a restructuring of assets and liabilities, or changes in operations. At
or below certain lower capital levels, state regulators may supervise the
operation of the insurance company and/or require the liquidation of the
insurance company. Such insurance department actions could adversely affect our
business, financial condition, results of operations and cash flows and decrease
the value of our investments in our insurance subsidiaries. If the insurance
departments were to require changes in the operations of our insurance
subsidiaries, we may incur additional expenses and we may lose customers. If the
insurance departments were to require additional capital in our insurance
subsidiaries or a restructuring of our assets and liabilities, our investment
returns could suffer. If the insurance departments were to place our insurance
companies under their supervision, we would lose customers, our revenues may
decrease more rapidly than our expenses, and our investment returns would
suffer. We may even lose part or all of our investments in our insurance
subsidiaries if our insurance subsidiaries are liquidated by the insurance
departments.
WE MAY BE INADEQUATELY PROTECTED AGAINST MAN MADE AND NATURAL CATASTROPHES,
WHICH COULD REDUCE THE AMOUNT OF CAPITAL SURPLUS AVAILABLE FOR INVESTMENT
OPPORTUNITIES
As with other property and casualty insurers, operating results and
financial condition can be adversely affected by volatile and unpredictable
natural and man made disasters, such as hurricanes, windstorms, earthquakes,
fires, and explosions. Our insurance subsidiaries generally seek to reduce their
exposure to catastrophic events through individual risk selection and the
purchase of reinsurance. Our insurance subsidiaries' estimates of their
exposures depend on their views of the possibility of a catastrophic event in a
given area and on the probable maximum loss created by that event. While our
insurance subsidiaries attempt to limit their exposure to acceptable levels, it
is possible that an actual catastrophic event or multiple catastrophic events
could significantly exceed the maximum loss anticipated, resulting in a material
adverse effect on our business, financial condition, results of operations and
cash flows. Such events could cause unexpected insurance claims and expenses for
settling claims well in excess of premiums, increasing cash needs, reducing
surplus and reducing assets available for investments. Capital invested in our
insurance companies may produce inferior investment returns as a result of these
additional funding requirements.
We insure ourselves against catastrophic losses by obtaining insurance
through other insurance companies known as reinsurers. The future financial
results of our insurance subsidiaries could be adversely affected by disputes
with their reinsurers with respect to coverage and by the solvency of the
reinsurers.
OUR INSURANCE SUBSIDIARIES COULD BE DOWNGRADED WHICH WOULD NEGATIVELY IMPACT OUR
BUSINESS
Our insurance subsidiaries' ratings may not be maintained or increased, and
a downgrade would likely adversely affect our business, financial condition,
results of operations and cash flows. A.M. Best and Company's ("A.M. Best")
ratings reflect the assessment of A.M. Best of an insurer's financial condition,
as well as the expertise and experience of its management. Therefore, A.M. Best
ratings are important to policyholders. A.M. Best ratings are subject to review
and change overtime. Failure to maintain or improve our A.M. Best ratings could
have a material adverse effect on the ability of our insurance subsidiaries to
underwrite new insurance policies, as well as potentially reduce their ability
to maintain or increase market share. Management believes that many
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potential customers will not insure with an insurer that carries an A.M. Best
rating of less than B+, and that customers who do so will demand lower rates.
Our insurance subsidiaries are currently rated as follows:
<TABLE>
<S> <C>
o Sequoia Insurance Company B++ (Very Good)
o Citation Insurance Company B+ (Very Good)
o Physicians Insurance Company of Ohio NR-3 (rating procedure inapplicable)
o The Professionals Insurance Company NR-3 (rating procedure inapplicable)
</TABLE>
POLICYHOLDERS MAY NOT RENEW THEIR POLICIES, WHICH WOULD UNEXPECTEDLY REDUCE OUR
REVENUE STREAM
Insurance policy renewals have historically accounted for a significant
portion of our net revenue. We may not be able to sustain historic renewal rates
for our products in the future. A decrease in renewal rates would reduce our
revenues. It would also decrease our cash receipts and the amount of funds
available for investments and acquisitions. If we were not able to reduce
overhead expenses correspondingly, this would adversely affect our business,
financial condition, results of operations and cash flows.
IF WE ARE REQUIRED TO REGISTER AS AN INVESTMENT COMPANY, THEN WE WILL BE SUBJECT
TO A SIGNIFICANT REGULATORY BURDEN
We at all times intend to conduct our business so as to avoid being
regulated as an investment company under the Investment Company Act of 1940.
However, if we were required to register as an investment company, our ability
to use debt would be substantially reduced, and we would be subject to
significant additional disclosure obligations and restrictions on our
operational activities. Because of the additional requirements imposed on an
investment company with regard to the distribution of earnings, operational
activities and the use of debt, in addition to increased expenditures due to
additional reporting responsibilities, our cash available for investments would
be reduced. The additional expenses would reduce income. These factors would
adversely affect our business, financial condition, results of operations and
cash flows.
SUBSTANTIAL REGULATION MAY PREVENT US FROM REALIZING A PROFIT FROM OUR WATER
RIGHTS
The water rights held by us and the transferability of these rights to
other uses and places of use are governed by the laws concerning water rights in
the states of Arizona, California, Colorado and Nevada. The volumes of water
actually derived from these rights may vary considerably based upon physical
availability and may be further limited by applicable legal restrictions. As a
result, the amounts of acre feet anticipated do not in every case represent a
reliable, firm annual yield of water, but in some cases describe the face amount
of the water right claims or management's best estimate of such entitlement.
Legal impediments exist to the sale or transfer of some of these water rights,
which in turn may affect their commercial value. If we were unable to transfer
or sell our water rights, we will not be able to make a profit, we will not have
enough cash receipts to cover cash needs, and we may lose some or all of our
value in our water rights investments.
WE ARE DIRECTLY IMPACTED BY INTERNATIONAL AFFAIRS, WHICH DIRECTLY EXPOSES US TO
THE ADVERSE EFFECTS OF ANY FOREIGN ECONOMIC OR GOVERNMENTAL INSTABILITY
As a result of global investment diversification, our business, financial
condition, results of operations and cash flows may be adversely affected by:
o exposure to fluctuations in exchange rates;
o the imposition of governmental controls;
o the need to comply with a wide variety of foreign and U.S. export
laws;
o political and economic instability;
o trade restrictions;
o changes in tariffs and taxes;
o volatile interest rates;
o changes in certain commodity prices;
o exchange controls which may limit our ability to withdraw money;
o the greater difficulty of administering business overseas; and
o general economic conditions outside the United States.
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<PAGE> 25
Changes in any or all of these factors could result in reduced market
values of investments, loss of assets, additional expenses, reduced investment
income, reductions in shareholders' equity due to foreign currency fluctuations
and a reduction in our global diversification.
OUR COMMON STOCK PRICE MAY BE LOW WHEN YOU WANT TO SELL YOUR SHARES
The trading price of our common stock has historically been, and is
expected to be, subject to fluctuations. The market price of the common stock
may be significantly impacted by:
o quarterly variations in financial performance;
o shortfalls in revenue or earnings from levels forecast by
securities analysts;
o changes in estimates by such analysts;
o product introductions;
o our competitors' announcements of extraordinary events; such as
o acquisitions;
o litigation; and
o general economic conditions.
Our results of operations have been subject to significant fluctuations,
particularly on a quarterly basis, and our future results of operations could
fluctuate significantly from quarter to quarter and from year to year. Causes of
such fluctuations may include the inclusion or exclusion of operating earnings
from newly acquired or sold operations. At December 31, 1996, the closing price
of our common stock on the Nasdaq National Market was $20.63 per share, compared
to $13.25 at December 31, 1998. On a quarterly basis between these two dates,
closing prices have ranged from a high of $32.19 at December 31, 1997 to a low
of $13.25 at December 31, 1998.
Statements or changes in opinions, ratings, or earnings estimates made by
brokerage firms or industry analysts relating to the markets in which we do
business or relating to us specifically could result in an immediate and adverse
effect on the market price of our common stock.
WE MAY NOT BE ABLE TO RETAIN KEY MANAGEMENT PERSONNEL WE NEED TO SUCCEED, WHICH
COULD ADVERSELY AFFECT OUR ABILITY TO MAKE SOUND INVESTMENT DECISIONS
We have several key executive officers. If they depart, it could have a
significant adverse effect. In particular, Ronald Langley, our Chairman, and
John R. Hart, our President and Chief Executive Officer, play key roles in
investment decisions. Messrs. Langley and Hart have entered into employment
agreements with us dated as of December 31, 1997, for a period of four years.
Messrs. Langley and Hart are key to the implementation of our strategic focus,
and our ability to successfully develop our current strategy is dependent upon
our ability to retain the services of Messrs. Langley and Hart.
OUR CHARTER DOCUMENTS MAY INHIBIT A TAKEOVER, PREVENTING YOU FROM RECEIVING A
PREMIUM ON YOUR SHARES
The Board of Directors has authority to issue up to 2 million shares of
preferred stock and to fix the rights, preference, privileges and restrictions,
including voting rights, of those shares without any further vote or action by
the shareholders. Your rights as common stock holders will be subject to, and
may be adversely affected by, the rights of the holders of the preferred stock.
The issuance of preferred stock, while providing desirable flexibility in
connection with possible acquisitions and other corporate purposes, could have
the effect of making it more difficult for a third party to acquire a majority
of our outstanding voting stock, thereby delaying, deferring or preventing a
change in control of PICO. Furthermore, such preferred stock may have other
rights, including economic rights senior to the common stock, and, as a result,
the issuance thereof could have a material adverse effect on the market value of
the common stock.
WE ARE SUBJECT TO YEAR 2000 RISKS FOR WHICH WE MAY NOT BE PREPARED, WHICH COULD
CREATE INTERNAL ADMINISTRATIVE PROBLEMS REQUIRING COSTLY, INEFFICIENT REMEDIAL
MEASURES
Many currently installed computer systems and software products are not
capable of distinguishing 20th century dates from 21st century dates. As a
result, in less than one year, computer systems and/or software used by many
companies in a very wide variety of applications may experience operating
difficulties unless they are modified or upgraded to adequately process
information involving, related to or dependent upon the century change.
Significant uncertainty exists in the software and information services
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industries concerning the scope and magnitude of problems associated with the
century change. In light of the potentially broad effects of the year 2000 on a
wide range of business systems, we may be affected.
We continue to progress in our efforts to define the scope and magnitude of
the Year 2000 ("Y2K") problem and to execute our plans to ensure information
technology and non-information technology systems are Y2K compliant.
The initial phase of planning, inventorying and evaluating all information
technology systems, and non-information technology systems and their components,
for Y2K compliance is complete. The evaluation has not disclosed any significant
Y2K processing difficulties or concerns. The focus has primarily been on the
insurance operations of Vista because of the custom applications software used
to process insurance policies, policy claims, and insurance underwriting.
Fortunately, the majority of the non-insurance information and non-information
technology systems are deemed Y2K compliant and do not require any significant
alterations. The focus of remediation is on the insurance specific applications.
The second phase of the project, which primarily includes implementing
corrections to remedy Y2K deficiencies, is approximately 95% complete. As noted
above, the insurance systems software has been the primary focus of the efforts.
To renovate the insurance systems to a Y2K ready state, our internal information
systems staff is re-writing lines of existing code to function with a four-digit
date field. We have also replaced existing DOS software with a current Y2K
compliant version.
Phase three pertains to testing and validation of each system. As hardware
and software changes are made to the systems, they are tested for compliance.
This phase will continue as each insurance application is reprogrammed. Despite
the best efforts by management, problems will arise requiring us to quickly
respond while there is still time. Phase four, when completed, will set forth
contingency plans addressing potential business interruption and failure, and is
expected to be finalized during the last half of 1999.
We have relationships with several banks and other financial institutions
and service providers that provide business information to us on a regular
basis. In addition, we report financial results on a regular basis to state and
federal agencies. While these relationships are important to our business,
should any third party be adversely affected by the Y2K problem, the resulting
risk of business interruption should not be significant to us. However, the
inability of those parties to complete their Y2K readiness process could
materially impact us in a manner that we have not foreseen.
The likely worst case scenario is a partial failure of some accounting and
reporting functions that could be corrected by manually recording and delivering
the required information.
The foregoing factors, individually or in the aggregate, could materially
adversely affect our operating results and could make comparison of historic
operating results and balances difficult or not meaningful.
THIRD PARTY RELATIONSHIPS
We have relationships with several banks and other financial institutions
and service providers that provide business information on a regular basis. In
addition, we report financial results on a regular basis to state and federal
agencies. While these relationships are important our business, should any third
parties be adversely affected by the Y2K problem, the resulting risk of business
interruption should not be significant to us. We, however, have no means of
ensuring that these parties will be Year 2000 ready. The inability of those
parties to complete their Y2K readiness process could materially impact our
business.
The likely worst case scenario is a partial failure of some accounting and
reporting functions that could be corrected by manually recording and delivering
the required information.
The foregoing factors, individually or in the aggregate, could materially
adversely affect our operating results and could make comparison of historic
operating results and balances difficult or not meaningful.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company's balance sheet includes a significant amount of assets and
liabilities whose fair value are subject to market risk. Market risk is the risk
of loss arising from adverse changes in market interest rates or prices. The
Company currently has interest rate risk as it relates to its fixed maturity
securities and mortgage loans, equity price risk as it relates to its marketable
equity securities, and foreign currency risk as it relates to investments
denominated in foreign currencies. The Company's bank debt is short-term in
nature as the Company generally secures rates for periods of approximately one
to three years and therefore approximates fair value.
26
<PAGE> 27
At June 30, 1999, the Company had $31.6 million of fixed maturity securities and
mortgage loans, $82.6 million of marketable equity securities that were subject
to market risk, and $34.3 million of investments denominated in foreign
currencies, primarily Swiss francs.The Company's investment strategy is to
manage the duration of the portfolio relative to the duration of the liabilities
while managing interest rate risk.
The Company uses two models to analyze the sensitivity of its assets and
liabilities subject to the above risks. For its fixed maturity securities, and
mortgage loans, the Company uses duration modeling to calculate changes in fair
value. For its marketable securities the Company uses a hypothetical 20%
decrease in the fair value to analyze the sensitivity of its market risk assets
and liabilities. For investments denominated in foreign currencies the Company
uses a hypothetical 20% decrease in the local currency of that investment.
Actual results may differ from the hypothetical results assumed in this
disclosure due to possible actions taken by management to mitigate adverse
changes in fair value and because the fair value of a securities may be affected
by credit concerns of the issuer, prepayment rates, liquidity, and other general
market conditions. The sensitivity analysis duration model produced a loss in
fair value of $300,000 for a 100 basis point decline in interest rates on its
fixed securities and mortgage loans. The hypothetical 20% decrease in fair value
of the Company's marketable equity securities produced a loss in fair value of
$9.8 million that would impact the unrealized appreciation in shareholders'
equity. The hypothetical 20% decrease in the local currency of the Company's
foreign denominated investments produced a loss of $5.5 million that would
impact the unrealized appreciation and foreign currency translation in
shareholders' equity.
PART II: OTHER INFORMATION
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS:
None.
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K:
(a) Exhibits:
See Exhibit Index.
(b) Reports on Form 8-K:
None.
27
<PAGE> 28
PICO HOLDINGS, INC. AND SUBSIDIARIES
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PICO HOLDINGS, INC.
Dated: August 13, 1999 By: /s/ Gary W. Burchfield
----------------------------------
Gary W. Burchfield
Chief Financial Officer and Treasurer
(Principal Financial and Accounting
Officer)
28
<PAGE> 29
<TABLE>
EXHIBITS INDEX
<CAPTION>
Exhibit
Number Description
------ -----------
<S> <C>
+ 2.2 Agreement and Plan of Reorganization, dated as of May 1, 1996,
among PICO, Citation Holdings, Inc. and Physicians and amendment
thereto dated August 14, 1996 and related Merger Agreement.
+++++ 2.3 Second Amendment to Agreement and Plan of 2.3 Reorganization dated
November 12, 1996.
# 2.4 Agreement and Debenture, dated November 14, 1996 and November 27,
1996, Respectively, by and between Physicians and PC Quote, Inc.
# 2.5 Purchase and Sale Agreement by, between and among Nevada Land and
Resource Company, LLC, GEC, Western Water Company and Western Land
Joint Venture dated April 9, 1997.
+++++ 3.1 Amended and Restated Articles of Incorporation of PICO.
+ 3.2.2 Amended and Restated By-laws of PICO.
* 10.8 Flexible Benefit Plan
-10.55 Consulting Agreements, effective January 1, 1997, regarding
retention of Ronald Langley and John R. Hart as consultants by
Physicians and GEC.
++ 10.57 PICO 1995 Stock Option Plan
-+++ 10.58 Key Employee Severance Agreement and Amendment No. 1 thereto, each
made as of November 1, 1992, between PICO and Richard H. Sharpe and
Schedule A identifying other substantially identical Key Employee
Severance Agreements between PICO and certain of the executive
officers of PICO.
+++ 10.59 Agreement for Purchase and Sale of Shares, dated May 9, 1996, among
Physicians, GPG and GEC.
++ 10.60 Agreement for the Purchase and Sale of Certain Assets, dated July
14, 1995 between Physicians, PRO and Mutual Assurance, Inc.
++ 10.61 Stock Purchase Agreement dated March 7, 1995 between Sydney
Reinsurance Corporation and Physicians.
++ 10.62 Letter Agreement, dated September 5, 1995, between Physicians,
Christopher Ondaatje and the South East Asia Plantation Corporation
Limited.
++++ 10.63 Amendment No. 1 to Agreement for Purchase and Sale of Certain
Assets, dated July 30, 1996 between Physicians, PRO and Mutual
Assurance, Inc.
+++++ 16.1. Letter regarding change in Certifying Accountant from Deloitte &
Touche LLP, Independent auditors.
# 21. Subsidiaries of PICO.
27. Financial Data Schedule.
### 28. Form S-8, Registration Statement under the Securities Act of 1933,
for the PICO Holdings, Inc. Employees 401(k) Retirement Plan and
Trust, Registration No. 333-36881.
#### 29. Form S-8, Registration Statement under the Securities Act of 1933,
for the Physicians Insurance Company of Ohio 1995 Non-Qualified
Stock Option Plan and assumed by PICO Holdings, Inc., Registration
No. 333-32045.
</TABLE>
- ------------------------
* Incorporated by reference to exhibit of same number filed with
Registration Statement on Form S-1 (File No. 33-36383).
+ Filed as Appendix to the prospectus in Part I of Registration Statement
on Form S-4 (File No. 333-06671)
++ Incorporated by reference to exhibit filed with Physicians' Registration
Statement No. 33-99352 on Form S-1 filed with the SEC on November 14,
1995.
+++ Incorporated by reference to exhibit filed with Registration Statement
on Form S-4 (File no. 333-06671).
++++ Incorporated by reference to exhibit filed with Amendment No. 1 to
Registration Statement No. 333-06671 on Form S-4.
+++++ Incorporated by reference to exhibit of same number filed with Form 8-K
dated December 4, 1996.
- - Executive Compensation Plans and Agreements.
# Incorporated by reference to exhibit of same number filed with Form 10-K
dated April 15, 1997.
## Incorporated by reference to exhibit * of same number filed with 10-K/A
dated April 30, 1997.
### Incorporated by reference to Form S-8 filed with the Securities and
Exchange Commission (File No. 333-36881).
#### Incorporated by reference to Form S-8 filed with the Securities and
Exchange Commission (File No. 333-32045).
29
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
THE SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET AND CONSOLIDATED STATEMENT OF INCOME OF PICO
HOLDINGS, INC. AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> JUN-30-1999
<EXCHANGE-RATE> 1
<DEBT-HELD-FOR-SALE> 31,655
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 82,634
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 137,188
<CASH> 55,638
<RECOVER-REINSURE> 1,866
<DEFERRED-ACQUISITION> 5,098
<TOTAL-ASSETS> 396,438
<POLICY-LOSSES> 146,022
<UNEARNED-PREMIUMS> 18,101
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 0
0
0
<COMMON> 13
<OTHER-SE> 182,458
<TOTAL-LIABILITY-AND-EQUITY> 396,438
17,082
<INVESTMENT-INCOME> 3,173
<INVESTMENT-GAINS> 2,772
<OTHER-INCOME> 2,012
<BENEFITS> 12,092
<UNDERWRITING-AMORTIZATION> 5,638
<UNDERWRITING-OTHER> 6,823
<INCOME-PRETAX> (139)
<INCOME-TAX> 405
<INCOME-CONTINUING> (544)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (544)
<EPS-BASIC> (0.06)
<EPS-DILUTED> (0.06)
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
