<PAGE> 1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington DC 20549
FORM 10-Q/A
(AMENDMENT NO. 2)
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 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 of (I.R.S. Employer
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 13,328,778 as of March 31, 1999. As of such date, 4,394,127 shares of
common stock were held by the registrant and subsidiaries of the registrant.
1
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PICO HOLDINGS, INC.
FORM 10-Q/A
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE NO.
--------
<S> <C> <C>
PART I: FINANCIAL INFORMATION
Item 1: Financial Statements
Consolidated Balance Sheets as of 3
March 31, 1999 (As Restated)
and December 31, 1998
Consolidated Statements of Operations 4
for the Three Months Ended March 31, 1999 and 1998 (As Restated)
Consolidated Statements of Cash Flows for 5
the Three Months Ended March 31, 1999 and 1998 (As Restated)
Notes to Consolidated Financial Statements (As Restated) 6
Item 2: Management's Discussion and Analysis of Financial 13
Condition and Results of Operations (As Restated)
Item 3: Quantitative and Qualitative Disclosure About Market Risk 29
PART II: OTHER INFORMATION
Item 4: Submission of Matters to a Vote of Security Holders 30
Item 6: Exhibits and Reports on Form 8-K 30
Signature 31
</TABLE>
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PART I: FINANCIAL INFORMATION
ITEM I: FINANCIAL STATEMENTS
PICO HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
March 31,
1999 December 31,
(Unaudited) 1998
------------- -------------
ASSETS (AS RESTATED,
See Note 8)
<S> <C> <C>
Investments $ 163,934,243 $ 116,411,780
Cash and cash equivalents 54,670,420 71,654,196
Accrued investment income 979,514 1,295,550
Premiums and other receivables, net 10,037,369 10,414,017
Reinsurance receivables 57,939,444 55,624,830
Prepaid deposits and reinsurance premiums 1,451,112 2,187,387
Deferred policy acquisition costs 5,372,392 5,548,634
Surface, water, geothermal and mineral rights 119,798,767 116,653,211
Property and equipment, net 1,668,138 1,851,502
Income taxes receivable 6,705,395 6,522,454
Other assets 6,256,363 7,011,957
------------- -------------
Total assets $ 428,813,157 $ 395,175,518
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Unpaid losses and loss adjustment expenses, net of discount $ 153,513,604 $ 155,020,696
Unearned premiums 18,842,918 20,804,432
Reinsurance balance payable 12,289,408 12,068,890
Deferred gain on retroactive reinsurance 1,800,994 1,800,994
Other liabilities 7,770,575 11,402,000
Bank and other borrowings 18,097,484 8,966,707
Deferred income taxes 19,025,910 7,185,656
Excess of fair value of net assets acquired over purchase price 4,354,555 4,496,551
------------- -------------
Total liabilities 235,695,448 221,745,926
------------- -------------
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 13,328,778 in 1999 and 1998 13,329 13,329
Additional paid-in capital 183,154,588 183,154,588
Retained earnings 73,116,158 75,504,882
Accumulated other comprehensive income (loss) 14,663,269 (7,705,165)
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 193,117,709 173,429,592
------------- -------------
Total liabilities and shareholders' equity $ 428,813,157 $ 395,175,518
============= =============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
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PICO HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
------------ ------------
(AS RESTATED, See Note 8)
<S> <C> <C>
Revenues:
Premium income $ 8,554,974 $ 9,138,175
Net investment income 1,914,354 2,563,987
Net realized gain (loss) on investments (344,395) 504,411
Other income 385,003 715,732
------------ ------------
Total revenues 10,509,936 12,922,305
------------ ------------
Expenses:
Loss and loss adjustment expenses 6,516,026 7,995,257
Insurance underwriting and other expenses 6,498,464 5,989,330
------------ ------------
Total expenses 13,014,490 13,984,587
------------ ------------
Equity in losses of unconsolidated affiliates (361,292) (513,421)
------------ ------------
Loss from continuing operations before income taxes and minority interest (2,865,846) (1,575,703)
Provision (benefit) for federal, foreign and state income taxes (477,122) 859,011
------------ ------------
Loss from continuing operations before minority interest (2,388,724) (2,434,714)
Minority interest in loss of subsidiary 704,640
------------ ------------
Loss from continuing operations (2,388,724) (1,730,074)
Income from discontinued operations, net of income tax provision of
$10,000 for the three months of 1998 52,457
------------ ------------
Net loss $ (2,388,724) $ (1,677,617)
============ ============
Net loss per common share - basic:
Continuing operations $ (0.27) $ (0.29)
Discontinued operations 0.01
------------ ------------
Net loss per common share $ (0.27) $ (0.28)
============ ============
Weighted average shares outstanding 8,946,237 6,019,817
============ ============
Net loss per common share - diluted:
Continuing operations $ (0.27) $ (0.29)
Discontinued operations 0.01
------------ ------------
Net loss per common share $ (0.27) $ (0.28)
============ ============
Weighted average shares outstanding 8,946,237 6,019,817
============ ============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
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PICO HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended March 31,
1999 1998
------------ ------------
(AS RESTATED, See Note 8)
<S> <C> <C>
OPERATING ACTIVITIES
Net cash provided by (used in) operating activities $ (9,241,651) $ 694,074
------------ ------------
INVESTING ACTIVITIES:
Purchases of investments (19,929,083) (2,860,526)
Proceeds from sale of investments 4,580,325 10,167,993
Proceeds from maturity of investments 2,000,000 25,000
Other investing activities, net (1,286,985) (536,863)
------------ ------------
Net cash provided by (used in) investing activities (14,635,743) 6,795,604
------------ ------------
FINANCING ACTIVITIES:
Proceeds from borrowings 7,057,405
Purchase of treasury stock (291,593)
------------ ------------
Net cash provided by financing activities 6,765,812
------------ ------------
Effect of exchange rate changes on cash 127,806 (256,484)
------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (16,983,776) 7,233,194
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 71,654,196 56,435,789
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 54,670,420 $ 63,668,983
============ ============
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for:
Income taxes $ 440,000
============
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
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PICO HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(AS RESTATED, SEE NOTE 8)
(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 March 31, 1999 and December 31, 1998 and results of
operations and cash flows for the three months ended March 31, 1999 and
1998 have been included and are of a normal recurring nature. Operating
results for the three months ended March 31, 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
Report on Form 10-K/A for the year ended December 31, 1998 as filed with
the SEC. See Note 8, "Restatement of Previously Reported Financial
Information."
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 March 31, 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 months ended March 31, 1998 included in the
statements of operations as discontinued operations:
<TABLE>
<CAPTION>
1998
----------
<S> <C>
Total revenues $2,163,168
Income before taxes 61,983
Net income 52,457
Net income per share - basic and diluted $ 0.01
</TABLE>
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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
three months ended March 31, 1999 and 1998 there was no difference between
basic and diluted EPS. Common stock options of 1,097,000 and 514,000 for
the three months ended March 31, 1999 and 1998, respectively and 223,000
warrants at March 31, 1999 were excluded from the calculations because
their effects were anti-dilutive.
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. 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 March 31,
----------------------------
1999 1998
------------ -----------
<S> <C> <C>
Comprehensive income (loss)
Net loss $ (2,388,724) $(1,677,617)
Net change in unrealized appreciation (depreciation)
on available for sale investment 20,376,102 (90,489)
Net change in foreign currency translation 1,992,332 (197,456)
------------ -----------
Total comprehensive income (loss) $ 19,979,710 $(1,965,562)
============ ===========
</TABLE>
Total comprehensive income (loss) is net of deferred income tax
provision of $7 million and deferred income tax benefit of $68,000 for the
three months ended March 31, 1999 and March 31, 1998, respectively.
The components of accumulated comprehensive income (loss) are as
follows, net of deferred income tax provision of $9.2 million at March 31,
1999 and a deferred income tax benefit of $1.5 million at December 31,
1998:
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
------------ -----------
<S> <C> <C>
Accumulated other comprehensive income (loss)
Unrealized appreciation (depreciation)
on available for sale investments $ 17,864,315 $(2,511,787)
Foreign currency translation (3,201,046) (5,193,378)
------------ -----------
Accumulated other comprehensive income (loss) $ 14,663,269 $(7,705,165)
============ ===========
</TABLE>
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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 $2.3 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"), 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 December 31, 1998. 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.
Effective September 1, 1999, the parties entered into a settlement
agreement wherein they agreed that the lawsuit would be dismissed without
prejudice, and that NLRC would deliver a report on or before June 30, 2002
to the limited partnership of the amount of the consulting fee which would
be owed by NLRC to the limited partnership if the consulting agreement were
in effect.
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.
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, as amended, becomes effective for fiscal years beginning
after June 15, 2000. Management does not expect this statement to have a
material effect on the Company's consolidated financial statements.
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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 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/A. 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 March 31,
----------------------------
1999 1998
------------ -----------
<S> <C> <C>
Investment Operations (Charges) $ (275,001) $ 1,086,210
Surface, Water and Mineral Rights 365,843 171,823
Property and Casualty Insurance 9,747,923 10,791,509
Medical Professional Liability Insurance 548,080 700,244
Other Operations 123,091 172,519
------------ -----------
Total Revenues-Continuing Operations $ 10,509,936 $12,922,305
============ ===========
</TABLE>
The following is a detail of segment profit or loss from continuing
operations before taxes and minority interest:
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----------- -----------
<S> <C> <C>
Investment Operations $(1,863,984) $ (582,329)
Surface, Water and Mineral Rights (697,128) (437,163)
Property and Casualty Insurance 234,708 (403,911)
Medical Professional Liability Insurance (485,636) (72,251)
Other Operations (53,806) (80,049)
----------- -----------
Loss Before Taxes and Minority Interest $(2,865,846) $(1,575,703)
=========== ===========
</TABLE>
8. RESTATEMENT OF PREVIOUSLY REPORTED FINANCIAL INFORMATION
In response to a review by the staff of the United States Securities
and Exchange Commission in connection with the Company's Form S-3
registration statement, the Company has restated previously issued
financial statements to:
1. Change its accounting for its investment in Hyperfeed
Technologies, Inc. ("Hyperfeed") to: (i) reflect the adoption of
equity accounting for PICO's investment in Hyperfeed, (ii) value
Hyperfeed common stock warrants at estimated fair
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<PAGE> 10
value and (iii) record the carrying value of Hyperfeed common
stock warrants received as consideration for extending the due
date on outstanding loans as interest income during 1997;
2. To reverse previously recorded investment revenue related to real
estate development projects to the appropriate prior periods;
3. Amortize a portion of the deferred lease payment relating to the
Semitropic water storage facility.
Presented in the table below are the effects of the restatement on
previously reported information as of and for the three months ended March 31,
1999 and 1998.
<TABLE>
<CAPTION>
Three months ended Three months ended
March 31, 1999 March 31, 1998
----------------------------- ------------------------------
As Previously As Previously
Reported As Restated Reported As Restated
------------- ------------ ------------- ------------
<S> <C> <C> <C> <C>
Total revenues $ 10,509,936 $ 10,509,936 $ 13,734,067 $ 12,922,305
Total expenses 12,847,823 13,014,490 13,988,832 13,984,587
Equity in loss of
unconsolidated affiliates (219,887) (361,292) (203,321) (513,421)
------------ ------------ ------------ ------------
Loss from continuing operations
before income taxes and minority interest (2,557,774) (2,865,846) (458,086) (1,575,703)
Provision (benefit) for taxes (427,057) (477,122) 1,226,490 859,011
------------ ------------ ------------ ------------
Loss from continuing operations
before minority interest (2,130,717) (2,388,724) (1,684,576) (2,434,714)
Minority interest 704,639 704,640
------------ ------------ ------------ ------------
Loss from continuing operations (2,130,717) (2,388,724) (979,937) (1,730,074)
Discontinued operations 52,457 52,457
------------ ------------ ------------ ------------
Net loss $ (2,130,717) $ (2,388,724) $ (927,480) $ (1,677,617)
============ ============ ============ ============
Net loss per share - basic $ (0.24) $ (0.27) $ (0.15) $ (0.28)
============ ============ ============ ============
Net loss per share - diluted $ (0.24) $ (0.27) $ (0.15) $ (0.28)
============ ============ ============ ============
</TABLE>
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<PAGE> 11
The following presents the effects of the restatement on the consolidated
balance sheet at March 31, 1999:
<TABLE>
<CAPTION>
March 31, 1999
-----------------------------
As Previously
Reported As Restated
------------- ------------
<S> <C> <C>
Investments $151,710,812 $163,934,243
Other assets $ 6,423,030 $ 6,256,363
Total assets $416,756,393 $428,813,157
Deferred tax liabilites $ 14,694,103 $ 19,025,910
Total liabilites $231,363,641 $235,695,448
Unrealized gain (loss), net of tax $ 8,823,259 $ 17,864,315
Retained earnings $ 74,432,257 $ 73,116,158
Total shareholders' equity $185,392,752 $193,117,709
</TABLE>
(1) ACCOUNTING FOR INVESTMENT IN HYPERFEED
The previous financial statements presented the investment in Hyperfeed
common stock at market value and the preferred stock and warrants received in
1998 as a result of the debt conversion at cost. Consequently, the Company's
consolidated financial statements for the years ended December 31, 1998, 1997
and 1996 and for the three months ended March 31, 1999 and 1998 and for the
three and six months ended June 30, 1999 and 1998 have been restated from
amounts previously reported.
For the three months ended March 31, 1999 and 1998 the Company recorded
equity in losses of $141,000 and $310,000, respectively. Equity in losses
reflect the before tax effect of PICO's share of the losses of Hyperfeed based
on the combination of the common stock and preferred stock ownership percentage
in 1999 and 1998 (the preferred stock was acquired on December 18, 1998 and
PICO's losses from that date forward were based on the combined percentage),
amortization of goodwill based on a straight line, ten year amortization period,
and any dilution gains or losses that arise from third party capital infusions
in Hyperfeed.
For the three months ended March 31, 1999 the individual components of the
above are PICO's share of the losses of Hyperfeed of $269,000, amortization of
goodwill of $162,000 and dilution gains of $288,000. For the three months ended
March 31, 1998, PICO's share of the loss of Hyperfeed was $275,000, amortization
of goodwill was $37,000 and dilution gains were $2,000.
At March 31, 1999 and December 31, 1998, the investment in Hyperfeed
consisted of 2,370,000 shares of common stock (representing 16.7% of the common
shares outstanding) and 4,786,547 shares of preferred stock, representing a 24%
diluted voting interest and an additional 4,055,195 common stock warrants,
which, on a diluted basis, would represent an additional 17% voting interest.
The common and preferred stock are presented using the equity method of
accounting for investments in common stock as prescribed by Accounting
Principles Board No. 18, and have a combined carrying value of $4.7 million and
$4.9 million at March 31, 1999 and December 31, 1998, respectively. The
difference between the carrying value of the investment and the underlying
equity in the net assets or liabilities of Hyperfeed is considered goodwill and
is being amortized over 10 years on a straight line basis. At March 31, 1999 and
December 31, 1998, the common stock warrants are carried at an estimated fair
value using the Black Scholes option pricing model of $36.1 million and $6.1
million, respectively, with an unrealized gain net of deferred income tax
liability of $23.9 million and $1.3 million, respectively. The Black Scholes
pricing model incorporates assumptions in calculating an estimated fair value.
The following assumptions were used in the computations: no dividend yield for
all years; a risk-free interest rates ranging from 5% to 6%; a two year expected
life; and a historical 4 year cumulative volatility of 133%. The market value of
the common shares and preferred shares based on the March 31, 1999 closing price
of Hyperfeed common stock is approximately $26.0 million, and $52.6 million,
respectively. The market value of the common shares and preferred shares based
on the December 31, 1998 closing price of Hyperfeed common stock is
approximately $5 million, and $10.2 million, respectively.
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<PAGE> 12
(2) ACCOUNTING FOR CAPITALIZED INTEREST
In 1995, Raven Development Company ("Raven"), a wholly-owned subsidiary,
began the orderly withdrawal from the real estate development business through
the sale of its remaining land and improved residential lots in Ohio. Over the
course of a number of years, affiliated companies made loans to Raven for the
purchase of land and the development of infrastructure. Raven capitalized the
interest cost on a stand-alone basis and the affiliated companies recorded
interest income. In the consolidation process, the affiliated companies annually
recorded an entry to reverse the effects of the interest income and the
capitalized interest. However, the capitalized interest cost was allocated to
each lot sold by Raven and became part of the cost of sales. The elimination of
the interest component of cost of sales was not made in consolidation and, as a
result, a credit remained in the capitalized interest account. In the first
quarter of 1998, as the last of Raven's lots were sold, the cost of lots sold
was adjusted to reverse the cumulative credit in the capitalized interest
account, resulting in an adjustment to investment income of approximately
$800,000. The financial statements for the three months ended March 31, 1998
have been restated to reflect the elimination of the interest expense component
of the cost of land sold. The impact of this restatement reduced revenues by
$812,000 and net income by $533,000 for the three months ended March 31, 1998.
The statement of operations for the three months ended March 31, 1999, and
shareholders' equity at March 31, 1999 and December 31, 1998 were unaffected.
(3) ACCOUNTING FOR DEFERRED LEASE PAYMENTS RELATED TO SEMITROPIC WATER STORAGE
Vidler entered into an operating lease for the use of the Semitropic Water
Storage facility. The lease is payable over 10 years and allows Vidler to
operate the asset for 35 years. Revenue will be generated from the asset through
the recharge, storage and recovery of water.
The lease payments were previously treated as prepaid lease amounts to be
amortized on a straight-line basis over the remaining estimated useful life of
the asset, which is the term of the lease contract. It was the Company's initial
assessment that the recharge component of the facility was not operational at
December 31, 1998 and throughout the nine months ended September 30, 1999. It
was originally determined that the facility would not be operational and
available for its intended use until the completion of the recharge/farming
season which occurred one year after the lease commenced. It was the Company's
intention to begin amortization in the fourth quarter of 1999 consistent with
the Company's interpretation of SFAS No. 34. Further consideration of the facts
and in the absence of authoritative guidance interpreting when the facility was
available for its intended use in this unique industry caused the Company to
reconsider the treatment. The Company now believes it is appropriate to begin
amortization in the period in which Vidler had its first opportunity to put
water in storage which was January 1999. Accordingly, the amortization has been
recorded beginning January 1, 1999 and the quarterly financial statements for
the three months ended March 31, 1999 have been restated to reflect amortization
of the lease payments. The effect on pre-tax income, is $166,667 for the three
months ended March 31, 1999.
12
<PAGE> 13
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (AS RESTATED)
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 Months Ended March
31, 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/A.
RESTATEMENT OF PREVIOUSLY REPORTED FINANCIAL INFORMATION
In response to a review by the staff of the United States Securities and
Exchange Commission in connection with the Company's Form S-3 registration
statement, the Company has restated previously issued financial statements to
change its accounting for its investment in Hyperfeed Technologies, Inc.
("Hyperfeed"), to (i) reflect the adoption of equity accounting for PICO's
investment in Hyperfeed (ii) value Hyperfeed common stock warrants at estimated
fair value and (iii) record the carrying value of Hyperfeed common stock
warrants received as consideration for extending the due date on outstanding
loans as interest income during 1997. The previous financial statements
presented the investment in Hyperfeed common stock at market value and the
preferred stock and warrants received in 1998 as a result of the debt conversion
at cost. Additionally, the financial statements have been restated from amounts
previously reported to reverse previously recorded 1998 investment revenue
related to real estate development projects, to the appropriate prior period,
and to amortize a portion of the deferred lease payment relating to the
Semitropic water storage facility. Consequently, the Company's consolidated
financial statements for the years ended December 31, 1998, 1997 and 1996 and
for the three months ended March 31, 1999 and 1998 and for the three and six
months ended June 30, 1999 and 1998 have been restated from amounts previously
reported. The effects of the restatement have been presented in Note 8 and have
been reflected herein.
RESULTS OF OPERATIONS -- THREE MONTHS ENDED MARCH 31, 1999 AND 1998
SUMMARY
PICO Holdings, Inc. and its consolidated subsidiaries reported a net loss
of $2.4 million, or a loss of $0.27 per share, for the quarter ended March 31,
1999. During the comparable prior year period, the Company reported a net loss
of $1.7 million , or a loss of $0.28 per share. Per share amounts are stated as
"basic" earnings per share.
Shareholders' equity increased to $193.1 million as of March 31, 1999, an
increase of $19.7 million, or 11.4 %, over the December 31, 1998 level of $173.4
million. Book value per share calculated on an undiluted basis as of March 31,
1999 increased to $21.61 per share, up $2.23 per share from $19.38 at December
31, 1998. These increases in shareholders' equity and book value per share
during the first quarter of 1999 resulted primarily from an $20.4 million
improvement in unrealized appreciation of investments, net of income tax, and a
$2 million improvement in the Company's foreign currency translation adjustment
in shareholders' equity, partially offset by the $2.4 million net loss for the
quarter. The $20.4 million appreciation of the Company's investment portfolio
principally relates to its investment in Hyperfeed common stock warrants which
are convertible into Hyperfeed common stock and are valued at estimated fair
value using the Black Scholes option pricing model.
The net loss recorded during the first quarter of 1999 included
approximately $101,000 in income from property and casualty ("P&C") insurance
operations, a net loss of $1.4 million from investment operations, a net loss of
$640,000 from surface, water and mineral rights operations, a $399,000 net loss
from medical professional liability insurance operations, and a $52,000 net loss
from other operations.
First quarter 1999 and 1998 revenues were $10.5 million and $12.9 million,
respectively. These revenues included $344,000 in realized investment losses and
$504,000 in realized investment gains during the first quarters of 1999 and
1998, respectively. Investment income for the first quarter of 1999 of $1.9
million was down $700,000 from the $2.6 million recorded during the first three
months of 1998 largely due to fewer fixed income securities in the Company's
investment portfolio.
P&C insurance premium writings were $8.6 million for the first quarter of
1999 compared to $9.1 million during the comparable 1998 period. P&C premiums
have declined principally due to more stringent underwriting of Citation
Insurance Company's P&C insurance business since its change in control, as well
as continued aggressive competition for commercial multiple peril insurance
13
<PAGE> 14
business within California.
Expenses for the first three months of 1999 were $13 million compared to
$14 million during the same three months of 1998, a decrease of 7%. These
expense reductions primarily relate to decreases in loss and loss adjustment
expenses and in other insurance expenses resulting from the wind down of
Physicians' medical professional liability insurance business, and Citation's
reduced P&C written premium.
Loss before taxes for the first three months of 1999 and 1998 included
losses from PICO's investment in its unconsolidated affiliates of $361,000 and
$513,000, respectively. PICO's share of Hyperfeed losses, amortization of
goodwill and dilution gains before taxes included in these results are $141,000
and $310,000 for the first quarters of 1998 and 1997, respectively. Dilution
gains included in these amounts were $288,000 and $2,000, respectively. (See
Note 8, "Restatement of Previously Reported Financial Information"). These
dilution gains principally resulted from Hyperfeed issuing common stock to third
parties. In the event that Hyperfeed records any capital transactions in the
future, PICO could realize additional dilution gains or losses.
During the first three months of 1999, PICO recorded comprehensive income
of $20 million. This included the $2.4 million net loss, a $2.0 million increase
in foreign currency translation and a $20.4 million increase in unrealized
appreciation of investments, net of tax. Included in 1999 comprehensive income
was $22.5 million from an increase in the value of Hyperfeed warrants. The 1999
first quarter comprehensive income of $20 million compares to a $2 million
comprehensive loss during the first quarter of 1998. The 1998 amount included a
$1.7 million net loss, a $90,000 loss from unrealized depreciation of
investments, net of tax, and a foreign currency decline of $197,000.
Total assets of $428.8 million at March 31, 1999 increased $33.6 million
over the $395.2 million at December 31, 1998, primarily due to the increase in
market value of the Company's investment in warrants of Hyperfeed. Liabilities
increased $14 million, largely due to income tax provisions on the increase in
unrealized investment appreciation.
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 (Charges)--Continuing Operations:
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(in millions)
<S> <C> <C>
Investment Operations (Charges) $(0.3) $ 1.1
Surface, Water and Mineral Rights 0.4 0.2
Property and Casualty Insurance 9.7 10.7
Medical Professional Liability Insurance 0.5 0.7
Other Operations 0.2 0.2
----- -----
Total Revenues-Continuing Operations $10.5 $12.9
===== =====
</TABLE>
14
<PAGE> 15
Loss Before Taxes and Minority Interest--Continuing Operations:
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(in millions)
<S> <C> <C>
Investment Operations $(1.8) $(0.6)
Surface, Water and Mineral Rights (0.7) (0.4)
Property and Casualty Insurance 0.2 (0.4)
Medical Professional Liability Insurance (0.5) (0.1)
Other Operations (0.1) (0.1)
----- -----
Loss Before Taxes and Minority Interest $(2.9) $(1.6)
===== =====
</TABLE>
INVESTMENT OPERATIONS
INVESTMENT OPERATIONS include strategic and passive investment operations
conducted primarily by PICO, Physicians, GEC and Physicians Investment Company.
However, not all investment activities 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 CIC are included in the
PROPERTY AND CASUALTY INSURANCE business segment and those from PRO, in the
MEDICAL PROFESSIONAL LIABILITY INSURANCE segment, and not in the INVESTMENT
OPERATIONS business segment. SEE NOTE 7, "SEGMENT REPORTING."
As shown below, realized investment losses of approximately $200,000 and
$300,000 in other charges, partially offset by $200,000 of investment income,
combined to produce a net charge of $300,000 in the INVESTMENT OPERATIONS
segment during the first three months of 1999. This compares to revenues of $1.1
million during the same 1998 period. First quarter 1998 INVESTMENT OPERATIONS
revenues included $0.4 million in realized investment gains, $500,000 in
investment income and $200,000 in other income. The approximate $300,000 decline
in first quarter 1999 investment income from INVESTMENT OPERATIONS compared to
first quarter 1998 principally reflects the conversion of a significant amount
of Physicians' fixed maturity investments to equity securities. At March 31,
1999, Physicians held $2.2 million in fixed maturity securities, compared to
$5.6 million at March 31, 1998.
15
<PAGE> 16
Revenues from INVESTMENT OPERATIONS are summarized below:
INVESTMENT OPERATIONS REVENUES
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- ----
(in millions)
<S> <C> <C>
Investment Operations Revenues (Charges):
Realized Investment Gain (Loss) $(0.2) $0.4
Investment Income 0.2 0.5
Other Income (Loss) (0.3) 0.2
----- ----
Investment Operations Revenues (Charges) $(0.3) $1.1
===== ====
</TABLE>
At March 31, 1999, the consolidated investment portfolio was in a net
unrealized gain position of approximately $17.9 million, net of taxes, compared
to $2.5 million in unrealized losses at December 31, 1998. Nearly all of this
$20.4 million increase was attributable to the Company's investment in Hyperfeed
common stock warrants which were valued at estimated fair value using the Black
Scholes option pricing model ("see Note 8, "Restatement of Previously Reported
Financial Information"). The Black Scholes pricing model incorporates
assumptions in calculating an estimated fair value. The following assumptions
were used in the computations for 1999: no dividend yield for all years; a
risk-free interest rate of 6%; a two year estimated life; and a 4 year
cumulative volatility of 133%.
INVESTMENT OPERATIONS produced a $1.8 million loss before taxes during the
first quarter of 1999 compared to $600,000 loss during the first quarter of
1998. As discussed above, approximately $1.2 million of the decline was
attributable to reduced investment income, realized investment gains and other
income. First quarter 1999 included an approximate $200,000 loss from the
Company's equity in the loss of its investee, Conex Continental Inc compared to
a $200,000 loss from equity during the first quarter of 1998, and $100,000 from
the Company's equity in loss of its investee, Hyperfeed, during the first
quarter of 1999 compared to $300,000 loss from equity in the first quarter of
1998.
The Company's INVESTMENT OPERATIONS income can fluctuate significantly 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 before tax from INVESTMENT OPERATIONS for the three months ended
March 31, 1999 and 1998 included:
INVESTMENT OPERATIONS INCOME (LOSS) BEFORE TAX
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(in millions)
<S> <C> <C>
Investing Income (Loss) Before Tax:
Investment operations income (loss) $(1.5) $(0.1)
Equity in Loss of Investee (0.3) (0.5)
----- -----
Investing Income (Loss) Before Tax $(1.8) $(0.6)
===== =====
</TABLE>
16
<PAGE> 17
SURFACE, WATER, AND MINERAL RIGHTS
Effective November 14, 1995, a wholly-owned subsidiary of GEC acquired all
the outstanding common stock of Vidler, a Colorado corporation engaged in the
water marketing and transfer business. Vidler's 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. Since its acquisition, Vidler has
purchased or leased water rights and related assets in Colorado, Nevada, Arizona
and California. On April 23, 1997, the Company acquired 100% of the membership
interests in NLRC. NLRC owns approximately 1.3 million acres of deeded land
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 loss before minority
interest from SURFACE, WATER, AND MINERAL RIGHTS operations for the periods
shown:
SURFACE, WATER, AND MINERAL RIGHTS
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(in millions)
<S> <C> <C>
Revenues - Surface, Water and Mineral Rights:
VIDLER:
Operating Revenues $ 0.2
NLRC:
Operating Revenues 0.2 $ 0.2
----- -----
Segment Total Revenues $ 0.4 $ 0.2
===== =====
Loss Before Tax and Minority Interest:
Vidler Water Company, Inc. $(0.6) $(0.2)
Nevada Land and Resources Company LLC (0.1) (0.2)
----- -----
Loss Before Tax and Minority Interest $(0.7) $(0.4)
===== =====
</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. Consequently, future
revenue growth beyond the limits of these CPI escalators is dependent on 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.
Operating and overhead expenses exceeded revenues during the first three
months of 1999 and 1998 producing losses before taxes of $700,000 and $400,000,
respectively.
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.
17
<PAGE> 18
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:
PROPERTY AND CASUALTY INSURANCE
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(In millions)
<S> <C> <C>
P & C Insurance Revenues (Charges):
Earned Premiums - Sequoia $ 4.3 $ 4.6
Earned Premiums - Citation 4.3 4.6
Investment Income 1.1 1.3
Realized Investment Gains (Losses) (0.2) 0.1
Other 0.2 0.1
----- -----
Total P&C Insurance Revenues $ 9.7 $10.7
===== =====
P & C Insurance Income (Loss) Before Taxes:
Sequoia Insurance Company $ 0.1 $(0.3)
Citation Insurance Company 0.1 (0.1)
----- -----
Total P&C insurance Income (Loss) Before Taxes $ 0.2 $(0.4)
===== =====
</TABLE>
PROPERTY AND CASUALTY INSURANCE revenues for the first three months of 1999
were $9.7 million compared to $10.7 million during the same 1998 period.
Declining earned premiums accounted for most of this 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 quarter of 1999 were $8.6 million compared to $9.2
million in the 1998 first quarter. 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 tighter
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.
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.
Investment income from PROPERTY AND CASUALTY INSURANCE operations was $1.1
million for the first quarter of 1999 and $1.3 million for the first quarter of
1998. PROPERTY AND CASUALTY INSURANCE operations produced a $0.2 million loss
from the sale of investments during the first quarter of 1999 compared to a $0.1
million gain recorded during the same 1998 period.
PROPERTY AND CASUALTY INSURANCE operations produced $0.2 million in income
before taxes during for the first three months of 1999, up $0.6 million from the
$0.4 million loss recorded during the first three months of 1998. The 1997-98
"El Nino" phenomenon had a significant impact on the first quarter 1998 results.
Citation's and Sequoia's first quarter 1999 loss and LAE ratios improved 12 and
16.3 percentage points, respectively, over the first quarter of 1998,
principally due to improved claims experience. Higher
18
<PAGE> 19
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.
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:
CITATION INSURANCE COMPANY
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(GAAP Basis)
<S> <C> <C>
Loss and LAE Ratio 72.8% 84.8%
Expense Ratio 40.8% 37.7%
----- -----
Loss and Expense Ratio 113.6% 122.5%
===== =====
</TABLE>
The following schedule shows Sequoia's losses, LAE and insurance operating
expenses as percentages of earned premiums:
SEQUOIA INSURANCE COMPANY
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(GAAP Basis)
<S> <C> <C>
Loss and LAE Ratio 66.8% 83.1%
Expense Ratio 42.9% 41.2%
----- -----
Loss and Expense Ratio 109.7% 124.3%
===== =====
</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.
Sequoia's 66.8% loss and LAE ratio was up 14.5 percentage points from the
52.3% reported for the twelve months ended December 31, 1998. Citation's was
down 12.1 percentage points from the 84.9% experienced for the full year of
1998. Most of these differences are attributable to 1998 year end reserve
adjustments. Sequoia's favorable 1998 claims experience resulted in year end
1998 reserve reductions of approximately $2.1 million. Citation added
approximately $3.7 million to 1998 year end reserves due to continued
unfavorable loss experience in artisan-contractors insurance coverage which is
no longer written by either company.
MEDICAL PROFESSIONAL LIABILITY INSURANCE
Physicians' and PRO's MPL 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 associated investments.
19
<PAGE> 20
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 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 and pre-tax income or loss from MEDICAL PROFESSIONAL LIABILITY
INSURANCE operations included the following:
MEDICAL PROFESSIONAL LIABILITY INSURANCE
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(in millions)
<S> <C> <C>
MPL Revenues:
Investment Income, Net of Expenses 0.5 $ 0.7
----- -----
MPL Revenues $ 0.5 $ 0.7
===== =====
MPL Loss Before Tax: $(0.5) $(0.1)
===== =====
</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.
MPL insurance revenues were $0.5 million in the first three months of 1999
compared to $0.7 million during the same 1998 period. Investment income
continued to decline, 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 first quarter 1999 pre-tax loss of approximately
$0.5 million compared to a loss of $0.1 million recorded during the first
quarter of 1998. This reduction principally relates to an increase in incurred
losses and loss adjustment expenses.
Physicians' claims department staff continues to process the runoff of the
remaining MPL loss and loss adjustment expense claims which is progressing
routinely. At March 31, 1999, MPL reserves totaled $59.2 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.
MPL INSURANCE -- LOSS AND LAE RESERVES
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
--------- ------------
(in millions)
<S> <C> <C>
Direct Reserves $ 94.9 $ 97.1
Ceded Reserves (27.7) (27.7)
Discount of Net Reserves (8.0) (8.5)
------ ------
Net MPL Reserves $ 59.2 $ 60.9
====== ======
</TABLE>
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.
20
<PAGE> 21
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:
OTHER OPERATIONS
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
----- -----
(in millions)
<S> <C> <C>
Revenues (Charges) from Other Operations:
Investment Management Services $ 0.2 $ 0.3
Less: Intercompany Portfolio Mgmt. Charges (0.1) (0.1)
Other 0.1
----- -----
Revenues from Other Operations $ 0.2 $ 0.2
===== =====
Other Operations-Loss Before Tax:
Intercompany Portfolio Mgmt. Charges (0.1) (0.1)
----- -----
Other Operations-Loss Before Tax $(0.1) $(0.1)
===== =====
</TABLE>
Revenues from OTHER OPERATIONS for the first quarter of 1999 were
approximately the same as those of the first quarter of 1998 at $0.2 million.
Summit's revenues declined by approximately $81,000 in the first three months of
1999 compared to those of the comparable 1998 period.
OTHER OPERATIONS recorded $0.1 million in losses before taxes for the 1999
and 1998 first quarters.
DISCONTINUED OPERATIONS
The Company completed its disposal of 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 three months of 1998, the
discontinued operations reported revenue of $2.2 million and pre-tax income of
approximately $62,000. SEE NOTE 2, "DISCONTINUED OPERATIONS."
LIQUIDITY AND CAPITAL RESOURCES - THREE MONTHS ENDED MARCH 31, 1999 COMPARED TO
MARCH 31, 1998
Operating activities used $9.2 million during the first quarter of 1999
compared to cash provided of $694,000 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 a reduction in
premiums received.
Cash flow from investing activities used $14.6 million during the first
three months of 1999 compared to $6.8 million of cash provided during 1998.
During the first quarter of 1999, the Company purchased an additional 5.9
million shares of Australian Oil and Gas for $6.3 million, increasing its
ownership to approximately 14.9%. In addition, 70,000 shares of Jungfraubahn
Holding AG were purchased for $10.8 million. This acquisition was financed with
$3.7 million in cash and $7.1 million of borrowings. The sale and maturity of
investments provided $6.6 million during the 1999 quarter. Cash provided by
investing activities during the first quarter of 1998 included proceeds from the
sale of investments of $10.2 million offset by purchases of surface, water and
mineral
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rights of $1.8 million.
Financing activities during 1999 used cash of $292,000 for the purchase of
the Company's common stock. In addition, the Company borrowed $7.1 million to
purchase additional shares of Jungfraubahn Holding AG. There were no financing
activities that provided or used cash during the same period in 1998.
At March 31, 1999, the Company had no significant commitments for capital
expenditures, other than in the ordinary course of business and as discussed
herein.
Vidler will fund its commitment under its agreement with Semitropic for
water storage (see Note 5.). The $2.3 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 March 31, 1999, Sequoia was well above this level. 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.
CAPITAL RESOURCES
The Company's principal source of funds are its available cash resources of
$54.7 million at March 31, 1999, operating cash flows, liquidation of
non-essential investment holdings, borrowings, public and private debt
offerings, and investment management, 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 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 approximately 95% complete. The evaluation has not
disclosed 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 90% 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, 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.
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
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Company's consolidated financial position, results of operations or cash flows.
The Company has incurred approximately $85,000 for hardware and computer
programming. The Company expects to incur another $40,000 to $60,000 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 90% through its Y2K project.
RISK FACTORS
In addition to the risks and uncertainties discussed in the preceding
sections of "Management's Discussion and Analysis of Financial Condition and
Results of Operations," and elsewhere in this document, the following risk
factors should be considered carefully in evaluating PICO and its business. The
statements contained in this prospectus 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.
We will continue to make selective investments, 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 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. Furthermore, we
may not obtain the anticipated or desired benefits of such transactions. 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.
Failure to successfully implement this strategy could have a material adverse
effect on our business, financial condition, results of operations and cash
flows.
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
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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 NEGATIVELY IMPACT OUR FINANCIAL
CONDITION
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 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 market value
appreciation 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 market values of these investments. Ultimately, however, we may
not be able to develop the potential of these assets that we anticipated. 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.
IF MEDICAL MALPRACTICE INSURANCE CLAIMS TURN OUT TO BE GREATER THAN THE RESERVES
WE ESTABLISH TO PAY THEM, OUR FINANCIAL CONDITION COULD SUFFER
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.
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,
they 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 losses, future policy benefits, claims,
and annuity and other policyholder funds. Inadequate reserves could have a
material adverse effect on our business, financial condition, results of
operations and cash flows.
The inherent uncertainties in estimating loss reserves are greater for some
insurance products than for others, and are dependent on:
- the length of time in reporting claims;
- the diversity of historical losses among claims;
- the amount of historical information available during the
estimation process;
- the degree of impact that changing regulations and legal
precedents may have on open claims; and
- the consistency of reinsurance programs over time.
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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
NEGATIVELY AFFECTS OUR BUSINESS
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.
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.
STATE REGULATORS COULD TAKE OVER OUR INSURANCE SUBSIDIARIES 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 reserve 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
reserves. The insurance companies' reserve levels are reported annually in their
statutory annual statements to the insurance departments.
Failure to meet one or more reserve levels may result in state regulators
requiring the insurance company to submit a business plan demonstrating
achievement of the required reserve levels. This may include the addition of
capital, a restructuring of assets and liabilities, or changes in operations. At
or below certain lower reserve levels, state regulators may supervise the
operation of the insurance company and/or require the liquidation of the
insurance company. Failing to meet reserve levels could adversely affect our
business, financial condition, results of operations and cash flows.
WE MAY BE INADEQUATELY PROTECTED AGAINST MAN MADE AND NATURAL CATASTROPHES,
WHICH COULD CAUSE OUR FINANCIAL CONDITION TO SUFFER
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.
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.
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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 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:
- Sequoia Insurance Company B++ (Very Good)
- Citation Insurance Company B+ (Very Good)
- Physicians Insurance Company of Ohio NR-3 (rating procedure
inapplicable)
- The Professionals Insurance Company NR-3 (rating procedure
inapplicable)
POLICY HOLDERS MAY NOT RENEW THEIR POLICIES, WHICH COULD CAUSE OUR FINANCIAL
CONDITION TO SUFFER
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 could 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. This 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, it could adversely affect our business, financial
condition, results of operations and cash flows.
OUR FUTURE WATER REVENUES ARE UNCERTAIN AND DEPEND ON A NUMBER OF FACTORS, WHICH
MAY MAKE OUR REVENUE STREAMS AND PROFITABILITY VOLATILE
We engage in various water rights acquisition, management, development,
sale and lease activities. Accordingly, our long-term future profitability will
be primarily dependent on our ability to develop and sell or lease water and
water rights, and will be affected by various factors, including timing of
acquisitions, transportation arrangements, and changing technology. To the
extent we possess junior or conditional water rights, such rights may be
subordinated to superior water right holders in periods of low flow or drought.
Our current water rights 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. Legal
impediments exist to sale or transfer of some of these water rights which may
affect their commercial value.
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In addition to the risk of delays associated with receiving all necessary
regulatory approvals and permits, we may also encounter unforeseen technical
difficulties which could result in construction delays and cost increases with
respect to our water development projects.
OUR WATER ASSETS MAY BECOME CONCENTRATED IN A LIMITED NUMBER OF FACILITIES,
MAKING OUR GROWTH AND PROFITABILITY VULNERABLE TO FLUCTUATIONS IN LOCAL
ECONOMIES AND GOVERNMENTAL REGULATIONS.
We anticipate that in the future, a substantial majority of Vidler's
revenues and asset value may be derived from a single asset, the MBT Ranch water
storage facility. Currently, we have obtained only a pilot permit for the
recharge and storage of a limited amount of water at that facility. We have not
yet applied for a recovery permit and have applied for, but not yet received, a
full-scale permit for that facility. There can be no assurance (i) that we will
be able to obtain permits for the facility at the recharge, storage or recovery
levels anticipated, or at all, (ii) that the full-scale storage facility will
have the capacity currently anticipated, or (iii) that we will be able to
contract with third parties for storage of water on commercially reasonable
terms, or at all.
A majority of our water revenue historically has been derived from the
Vidler Tunnel. Although we have recently begun to acquire additional water
assets, we anticipate that our revenues will be derived from a limited number of
water assets for the foreseeable future.
If we choose to develop a water asset, we face the risks of delays or
unexpected increases in the cost of development and construction. These risks
may result from slower growth in local economies, poor performance of local
industries, higher interest rates, strikes, bad weather, material shortages, or
increases in material and labor costs.
As we proceed with the development of our properties, including related
infrastructure, we will be required to satisfy various regulatory authorities
that we are in compliance with the laws, regulations and policies enforced by
them. In addition, there can be no assurance that additional federal and state
laws and regulations will not be imposed in the future.
THE PRICE OF WATER IS VOLATILE, WHICH CAN HAVE A SIGNIFICANT EFFECT ON OUR COSTS
OF ACQUIRING WATER AND THE PRICES AT WHICH WE ARE ABLE TO SELL WATER.
Our profitability is significantly affected by changes in the market price
of water. Water prices may in the future fluctuate widely and are affected by
climatic, demographic and technologic factors affecting demand.
ENVIRONMENTAL REGULATIONS MAY DETRACT FROM OUR FUTURE REVENUE STREAMS AND
PROFITABILITY BY LIMITING OUR CUSTOMER BASE.
Water we lease or sell may be subject to regulation as to quality by the
United States Environmental Protection Agency (the "EPA") acting pursuant to the
federal Safe Drinking Water Act ("SDWA"). While environmental regulations do not
directly affect us, the regulations regarding the quality of water distributed
affects our intended customers and may, therefore, depending on the quality of
our water, impact the price and terms upon which we may in the future sell our
water or water rights.
OUR WATER SALES MAY MEET WITH POLITICAL OPPOSITION IN CERTAIN LOCATIONS, THEREBY
LIMITING OUR GROWTH IN THESE AREAS
The transfer of water rights from one use to another may affect the
economic base of a community and will, in some instances, be met with local
opposition. Moreover, certain of the end users of our water rights (i.e.,
municipalities) regulate the use of water in order to control or deter growth.
WE ARE DIRECTLY IMPACTED BY INTERNATIONAL AFFAIRS, WHICH COULD NEGATIVELY IMPACT
OUR FINANCIAL CONDITION
As a result of global investment diversification, our business, financial
condition, results of operations and cash flows may be adversely affected by:
- exposure to fluctuations in exchange rates;
- the imposition of governmental controls;
- the need to comply with a wide variety of foreign and U.S. export
laws;
- political and economic instability;
- trade restrictions;
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- changes in tariffs and taxes;
- volatile interest rates;
- changes in certain commodity prices;
- exchange controls which may limit our ability to withdraw money;
- the greater difficulty of administering business overseas; and
- general economic conditions outside the United States.
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:
- quarterly variations in financial performance;
- shortfalls in revenue or earnings from levels forecast by
securities analysts;
- changes in estimates by such analysts;
- product introductions;
- our competitors' announcements of extraordinary events such as
acquisitions;
- litigation; and
- 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.
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 CAUSE OUT FINANCIAL CONDITION TO SUFFER
We have several key executive officers. If they leave PICO, it could have a
significant adverse effect on us. 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
NEGATIVELY IMPACT OUR FINANCIAL CONDITION
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
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involving, related to or dependent upon the century change. Significant
uncertainty exists in the software and information services 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 approximately 95% complete. The evaluation has not
disclosed any significant Y2K processing difficulties or concerns. The focus has
primarily been on our insurance operations 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 90% 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 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, is
expected to be finalized during the last half of 1999.
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 sheets include 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. At March 31, 1999, the
Company had $31.5 million of fixed maturity securities and mortgage loans, $85.7
million of marketable equity securities that were subject to market risk, and
$38.6 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
29
<PAGE> 30
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 $15.1 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 $6.2 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.
30
<PAGE> 31
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: January 27, 2000 By: /s/ Gary W. Burchfield
------------------------------------
Gary W. Burchfield
Chief Financial Officer and Treasurer
(Principal Financial and Accounting Officer)
31
<PAGE> 32
EXHIBITS INDEX
<TABLE>
<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 Reorganization dated
November 12, 1996.
#2.4 Agreement and Debenture, dated November 14, 1996 and November 27,
1996, Respectively, by and between Physicians and Hyperfeed.
#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).
32
<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
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<DEBT-HELD-FOR-SALE> 31,536
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 107,431
<MORTGAGE> 0
<REAL-ESTATE> 2,022
<TOTAL-INVEST> 163,934
<CASH> 54,670
<RECOVER-REINSURE> 1,054
<DEFERRED-ACQUISITION> 5,372
<TOTAL-ASSETS> 428,813
<POLICY-LOSSES> 153,514
<UNEARNED-PREMIUMS> 18,843
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 0
13
0
<COMMON> 0
<OTHER-SE> 193,104
<TOTAL-LIABILITY-AND-EQUITY> 428,813
8,555
<INVESTMENT-INCOME> 1,914
<INVESTMENT-GAINS> (344)
<OTHER-INCOME> 385
<BENEFITS> 6,516
<UNDERWRITING-AMORTIZATION> 2,606
<UNDERWRITING-OTHER> 3,892
<INCOME-PRETAX> (2,866)
<INCOME-TAX> (477)
<INCOME-CONTINUING> (2,389)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,389)
<EPS-BASIC> (0.27)
<EPS-DILUTED> (0.27)
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
