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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ...................... TO .....................
COMMISSION FILE NUMBER 1-7080
RELIANCE FINANCIAL SERVICES CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C>
DELAWARE 51-0113548
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
</TABLE>
<TABLE>
<S> <C>
PARK AVENUE PLAZA
55 EAST 52ND STREET
NEW YORK, NEW YORK 10055
(ADDRESS OF PRINCIPAL EXECUTIVE (ZIP CODE)
OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (212) 909-1100
</TABLE>
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
<TABLE>
<CAPTION>
NAME OF EACH EXCHANGE ON WHICH
TITLE OF EACH CLASS REGISTERED
- --------------------------------------- ---------------------------------------
<S> <C>
Senior Reset Notes, Due December 1, New York Stock Exchange
2000
</TABLE>
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
None
The registrant meets the conditions set forth in General Instructions
J(1)(a) and (b) of Form 10-K and is therefore filing this Form with reduced
disclosure as permitted thereunder.
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for 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_
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
As of March 1, 1997, 1,000 shares of the common stock of Reliance Financial
Services Corporation were outstanding, none of which were held by nonaffiliates.
DOCUMENTS INCORPORATED BY REFERENCE:
Reliance Financial Services Corporation 1996 Annual Report--Parts I, II
and IV.
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<PAGE>
PART I
ITEM 1. BUSINESS.
GENERAL
Reliance Financial Services Corporation (the 'Company' or 'Reliance
Financial') is a holding company whose principal business is the ownership of
property and casualty and title insurance companies. The Company also owns an
information technology consulting company.
Reliance Insurance Company and its property and casualty insurance
subsidiaries (the 'Reliance Property and Casualty Companies') underwrite a broad
range of commercial lines of property and casualty insurance. Reliance Insurance
Company has conducted business since 1817, making it one of the oldest property
and casualty insurance companies in the United States. The Reliance Property and
Casualty Companies consist of four principal operations: Reliance National,
Reliance Insurance, Reliance Surety and Reliance Reinsurance. Reliance National
offers a broad range of commercial property and casualty insurance products and
services for large companies and specialty line customers. Reliance National
selects market segments where it can provide specialized coverages and services,
and it conducts business nationwide and in international markets. In 1996,
Reliance National accounted for 45% of the net premiums written by the Reliance
Property and Casualty Companies. Reliance Insurance offers commercial property
and casualty insurance coverages primarily for mid-sized companies throughout
the United States. Reliance Insurance also offers traditional and specialized
coverages for more complex risks as well as insurance programs for groups with
common insurance needs. In 1996, Reliance Insurance accounted for 38% of the net
premiums written by the Reliance Property and Casualty Companies. Reliance
Surety is a leading writer of surety bonds and fidelity bonds in the United
States. Reliance Reinsurance primarily provides casualty treaty and facultative
reinsurance for small to medium sized regional and specialty insurance companies
located in the United States. The Reliance Property and Casualty Companies
accounted for $1.8 billion (70%) of the 1996 premiums earned by Reliance
Insurance Company and its property and casualty and title insurance subsidiaries
(the 'Reliance Insurance Group').
Title insurance business is conducted by Commonwealth Land Title Insurance
Company and Transnation Title Insurance Company and their respective
subsidiaries ('Commonwealth/Transnation Title'). Commonwealth/Transnation Title
is the third largest title insurance operation in the United States, in terms of
1995 total premiums and fees. Commonwealth/Transnation Title accounted for
$780.2 million (30%) of the Reliance Insurance Group's 1996 premiums earned.
The Company's Information technology consulting unit is RCG Information
Technology, Inc. ('RCG Information Technology'), which had revenues of $136.7
million in 1996.
Business segment information for the years ended December 31, 1996, 1995
and 1994 is set forth in Note 15 to the Company's consolidated financial
statements (the 'Consolidated Financial Statements'), which segment information
is included in the Company's 1996 Annual Report and incorporated herein by
reference. All financial information in this Annual Report on Form 10-K is
presented in accordance with generally accepted accounting principles ('GAAP')
unless otherwise specified.
The Company owns all of the common stock of Reliance Insurance Company. The
common stock of Reliance Insurance Company is pledged to secure certain
indebtedness. See Note 8 to the Consolidated Financial Statements. Reliance
Insurance Company owns all of the common stock of Commonwealth Land Title
Insurance Company, Transnation Title Insurance Company and RCG Information
Technology. The Company is a wholly-owned subsidiary of Reliance Group Holdings,
Inc. ('Reliance Group Holdings'). Approximately 45% of the common stock of
Reliance Group Holdings, the only class of voting securities outstanding, is
owned by Saul P. Steinberg, members of his family and affiliated trusts.
1
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OPERATING UNITS
Property and Casualty Insurance. The following table sets forth the amount
of net premiums written in each line of business for the years ended December
31, 1996, 1995 and 1994 by the Reliance Property and Casualty Companies four
principal operations: Reliance National, Reliance Insurance, Reliance Surety and
Reliance Reinsurance.
<TABLE>
<CAPTION>
1996 1995 1994
-------------------------------------------- -------------------------------------------- --------
RELIANCE RELIANCE
RELIANCE RELIANCE SURETY/ RELIANCE RELIANCE SURETY/ RELIANCE
NATIONAL INSURANCE REINSURANCE TOTAL NATIONAL INSURANCE REINSURANCE TOTAL NATIONAL
-------- --------- ------------ ------ -------- --------- ------------ ------ --------
(IN MILLIONS, EXCEPT PERCENTAGES)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
General Liability....... $368 $ 99 $ -- $ 467 $371 $ 98 $ -- $ 469 $347
Automobile.............. 86 179 -- 265 88 152 -- 240 109
Workers' Compensation... 127 123 -- 250 141 125 -- 266 179
Multiple Peril.......... 20 192 -- 212 26 159 -- 185 32
Surety.................. -- -- 159 159 -- -- 139 139 --
Reinsurance............. -- -- 151 151 -- -- 119 119 --
Ocean and Inland
Marine................. 83 46 -- 129 66 53 -- 119 44
Fire and Allied......... 22 42 -- 64 34 34 -- 68 26
Accident and Health..... 62 -- -- 62 58 -- -- 58 52
Involuntary............. 25 19 -- 44 53 28 -- 81 82
Other................... 41 2 -- 43 27 8 -- 35 19
--- --- --- ------ --- --- --- ------ ---
Total.................. $834 $ 702 $310 $1,846 $864 $ 657 $258 $1,779 $890
--- --- --- ------ --- --- --- ------ ---
--- --- --- ------ --- --- --- ------ ---
Percent of Total........ 45% 38% 17% 100% 49% 37% 14% 100% 50%
--- --- --- ------ --- --- --- ------ ---
--- --- --- ------ --- --- --- ------ ---
<CAPTION>
RELIANCE
RELIANCE SURETY/
INSURANCE REINSURANCE TOTAL
--------- ------------ ------
<S> <C> <C> <C>
General Liability....... $ 76 $ -- $ 423
Automobile.............. 135 -- 244
Workers' Compensation... 134 -- 313
Multiple Peril.......... 148 -- 180
Surety.................. -- 118 118
Reinsurance............. -- 125 125
Ocean and Inland
Marine................. 60 -- 104
Fire and Allied......... 24 -- 50
Accident and Health..... -- -- 52
Involuntary............. 32 -- 114
Other................... 22 -- 41
--- --- ------
Total.................. $ 631 $243 $1,764
--- --- ------
--- --- ------
Percent of Total........ 36% 14% 100%
--- --- ------
--- --- ------
</TABLE>
2
<PAGE>
The following table sets forth underwriting results for the Reliance
Property and Casualty Companies for the years ended December 31, 1996, 1995 and
1994.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------
1996 1995 1994
-------- -------- --------
(IN MILLIONS, EXCEPT RATIOS)
<S> <C> <C> <C>
Net premiums written... $1,846.2 $1,779.0 $1,764.3
Underwriting loss(1)... (38.4)(2) (45.6) (97.3)
Combined ratio......... 101.6%(2) 101.8%(3) 104.4%(3)
</TABLE>
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(1) Includes catastrophe losses (net of reinsurance) for the years ended
December 31, 1996, 1995 and 1994 of $19.9 million, $25.7 million and $50.1
million, respectively.
(2) Excludes a charge of $134.0 million (7.4 combined ratio points) to increase
net loss reserves for asbestos-related and environmental pollution claims
for business written in or before 1987. The actual underwriting loss was
$172.4 million and the combined ratio was 109.0%.
(3) Excludes a charge of $4.0 million in 1995 and $11.6 million in 1994
pertaining to Proposition 103.
The following table sets forth certain financial information of the
Reliance Property and Casualty Companies based upon statutory accounting
practices and common shareholder's equity of Reliance Insurance Company in
thousands:
<TABLE>
<CAPTION>
STATUTORY ACCOUNTING GAAP
-------------------------------------------------------------------------- -------------
TOTAL POLICY- COMMON
YEAR ENDED PREMIUMS UNEARNED LOSS ADMITTED TOTAL HOLDERS' SHAREHOLDER'S
DECEMBER 31, WRITTEN PREMIUMS RESERVES ASSETS LIABILITIES SURPLUS* EQUITY
- ------------ ---------- -------- ---------- ---------- ----------- ---------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
1996........ $1,848,159 $885,799 $3,228,792 $5,669,276 $ 4,482,220 $1,187,056 $ 1,410,484
1995........ 1,769,064 841,127 3,102,688 5,538,533 4,410,197 1,128,336 1,404,781
1994........ 1,773,196 833,643 3,033,016 5,296,931 4,388,393 908,538 1,076,840
</TABLE>
- ------------------
* Includes Reliance Insurance Company's investment in title insurance operations
of $199.6 million at December 31, 1996.
The Reliance Property and Casualty Companies write insurance in every state
of the United States, the District of Columbia, Puerto Rico, Guam and the Virgin
Islands. The Reliance Property and Casualty Companies also write insurance in
the European Community through offices in the United Kingdom, the Netherlands,
Sweden, Spain, Germany, in the Americas through offices in Canada, Mexico and
Argentina and in the Pacific Rim through an office in Singapore. In 1996,
California, New York, Texas and Florida accounted for approximately 15%, 10%, 7%
and 6%, respectively, of direct premiums written. No other state accounted for
more than 5% of direct premiums written by the Reliance Property and Casualty
Companies. The Reliance Property and Casualty Companies write insurance through
independent agents, program agents and brokers. No single insurance agent or
broker accounts for 10% or more of the direct premiums written by the Reliance
Property and Casualty Companies.
A. M. Best & Company, Inc. ('Best'), publisher of Best's Insurance Reports,
Property-Casualty, has assigned an 'A-(Excellent)' rating to the Reliance
Property and Casualty Companies. Best's ratings are based on an analysis of the
financial condition and operations of an insurance company as they relate to the
industry in general. An 'A-(Excellent)' rating is assigned to those companies
which have demonstrated excellent overall performance when compared to the norms
of the property and casualty industry. Standard & Poor's ('S&P') has assigned an
'A' rating to the claims-paying ability of the Reliance Property and Casualty
Companies. S&P's ratings are based on a quantitative and qualitative analysis,
including consideration of ownership and support factors, if applicable. An 'A'
rating is assigned to those companies which have good financial security, but
capacity to meet policyholder obligations is somewhat susceptible to adverse
economic and underwriting conditions. The Best and S&P ratings are not designed
for the protection of investors and do not constitute recommendations to buy,
sell or hold any security. Although the Best and S&P ratings of the Reliance
Property and Casualty Companies are lower than those of many of the insurance
companies with which the Reliance Property and Casualty Companies compete,
management believes that the current ratings are adequate to enable the Reliance
Property and Casualty Companies to compete successfully.
3
<PAGE>
Reliance National. Reliance National offers a broad range of commercial
insurance products and services to selected segments of the property and
casualty market which do not lend themselves to traditional insurance products
and services. Reliance National selects market segments where it can provide
specialized coverages and services, such as providing captive insurance
arrangements to the alternative risk markets. In addition, Reliance National
provides non-standard personal automobile insurance and certain traditional
insurance products, including guaranteed cost workers' compensation insurance.
In 1996, Reliance National accounted for 45% of the net premiums written by the
Reliance Property and Casualty Companies. Reliance National, which conducts
business nationwide, is headquartered in New York City and has offices in
fifteen states. Reliance National also conducts business in the European
Community through offices located in the United Kingdom, the Netherlands,
Sweden, Spain and Germany, in the Americas through offices in Canada, Mexico and
Argentina and in the Pacific Rim through an office in Singapore. Reliance
National distributes its products through national and regional insurance
brokers, program agents and, with respect to non-standard automobile insurance,
independent insurance agents. Net premiums written by Reliance National were
$833.7 million, $864.4 million and $889.7 million for the years ended December
31, 1996, 1995 and 1994, respectively.
Reliance National is organized into eight major divisions. Each division is
comprised of one or more departments which focus on a particular type of
business, program or market segment. Each department makes use of underwriters,
actuaries and other professionals to market, structure and price its products.
Reliance National's eight major divisions are:
o Casualty Risk Services, Reliance National's largest division, provides
workers' compensation, commercial automobile and general liability
coverages to Fortune 1,000 companies, multinationals and the construction
and transportation industries. These coverages are provided on a
retrospectively rated and high deductible basis, and to the alternative
risk markets on a captive insurance arrangement basis. This division also
provides environmental pollution coverages (primarily on a claims made
basis) for consultants, contractors, transporters and certain other
insureds. In early 1997, this division began providing comprehensive
insurance coverages for public and private entities engaged in the
development of infrastructure projects outside of North America and
guaranteed cost workers' compensation coverages.
o International writes predominantly commercial casualty and property
insurance products, including specialized coverages such as excess
casualty, directors and officers liability and fidelity insurance, in
certain international markets. This division also provides ocean marine
coverages in domestic and certain international markets.
o Excess and Surplus Lines primarily provides professional liability
insurance to architects, engineers, lawyers, healthcare providers and
other professionals, and excess and umbrella coverages.
o Financial and Specialty Coverages provides aviation and space satellite
risk coverages, as well as certain non-traditional insurance products.
o Financial Products provides directors and officers liability insurance,
errors and omissions insurance and fidelity and fiduciary coverages in
the domestic market.
o Accident and Health provides high limit disability, group accident,
blanket special risk and medical excess of loss programs.
o Property primarily provides commercial property coverage focusing on
excess and specialty commercial property.
o Non-Standard Automobile primarily provides non-standard personal
automobile insurance for drivers unable to obtain insurance in the
standard automobile insurance market. This division was formed in
February of 1996 and had a minimal amount of net premiums written in
1996.
Reliance National attempts to limit its exposure to losses through the use
of claims-made policies, reinsurance and policies written on a loss sensitive
basis, which include retrospectively rated and high deductible policies.
Approximately 26% of Reliance National's net premiums written during 1996 were
written on a 'claims-made' basis which provides coverage only for claims
reported during the policy
4
<PAGE>
period or within an established reporting period, as opposed to 'occurrence'
basis policies which provide coverage for events that occur during the policy
period without regard for when the claim is reported. Claims-made policies
mitigate the 'long tail' nature of the risks insured.
Approximately 7% of Reliance National's net premiums written during 1996
were written on a retrospectively rated basis, whereby the insured effectively
pays for a large portion or, in many cases, all of its losses. Approximately 14%
of Reliance National's net premiums written during 1996 were written on a high
deductible basis, whereby the insured pays for all of its losses up to the
deductible amount. The use of high deductible policies results in lower premiums
and losses for Reliance National as payments for losses made by an insured under
a high deductible policy are not considered premiums or losses to an insurer.
With retrospectively rated and high deductible policies, Reliance National
provides insurance and loss control management services while reducing its
underwriting risk. Reliance National assumes a credit risk in connection with
retrospectively rated and high deductible policies and, therefore, insureds with
such policies undergo extensive credit analysis by a centralized credit
department that is independent from the underwriting process. Collateral in the
form of bank letters of credit, trust accounts or cash is generally provided by
the insured to cover a significant portion of Reliance National's credit
exposure.
To further limit exposures, the vast majority of Reliance National's net
premiums written during 1996 were for policies with net retentions equal to or
lower than $1.5 million per risk. By reinsuring a large proportion of its
business, Reliance National seeks to limit its exposure to losses on each line
of business it writes.
Reliance Insurance. Reliance Insurance offers commercial lines property
and casualty insurance products, primarily focusing on the diverse needs of
mid-sized companies nationwide. Reliance Insurance distributes its products
through approximately 2,600 independent agents, program agents and brokers.
Reliance Insurance's insureds are primarily closely held companies with 100 to
1,000 employees and annual sales of $5 million to $300 million. Reliance
Insurance underwrites a variety of commercial insurance coverages, including
multiple peril, property, general liability, commercial automobile and workers'
compensation. In 1996, Reliance Insurance accounted for 38% of the net premiums
written by the Reliance Property and Casualty Companies. Reliance Insurance is
headquartered in Philadelphia and operates in 50 states, the District of
Columbia, Puerto Rico, Guam and the Virgin Islands. Net premiums written by
Reliance Insurance were $702.2 million, $656.4 million and $631.0 million for
the years ended December 31, 1996, 1995 and 1994, respectively.
Reliance Insurance is organized into the following three operating
divisions:
o The Commercial Accounts division focuses on accounts with annual premiums
of up to $1 million. This division offers a broad range of traditional
commercial coverages, primarily written on a guaranteed cost basis.
o The Specialty division provides underwriting of excess and surplus
coverages (generally with lower net retentions than for other commercial
lines written by Reliance Insurance) for insureds with non-standard
exposures. This division also provides property and liability insurance
programs to homogeneous groups of insureds with particular insurance
needs, such as auto rental companies, day care centers and
municipalities. These programs are administered directly by Reliance
Insurance or by independent program agents, with Reliance Insurance
retaining authority for all underwriting and pricing decisions and
handling claims and other services. When utilized, program agents market
the programs, gather the initial underwriting data and, if authorized by
Reliance Insurance, issue the policies.
o The Large Accounts division focuses on casualty exposures of accounts
with annual premiums in excess of $1 million where it is able to offer
more flexible coverages through the use of retrospectively rated and high
deductible policies. The Large Accounts division primarily provides
workers' compensation insurance and approximately 69% of its business was
written on a loss sensitive basis. Accounts with retrospectively rated
and high deductible policies undergo extensive credit analysis by a
centralized credit department and collateral in the form of bank letters
of credit,
5
<PAGE>
trust accounts or cash collateral is generally provided by the insured to
cover a significant portion of Reliance Insurance's credit exposure.
The Commercial Accounts division and the Large Accounts division provide
their products and services through a decentralized network of regional and
branch offices. This organization allows the Commercial Accounts division and
the Large Accounts division to place major responsibility and accountability for
underwriting, sales, and customer service close to the insured. The Specialty
division has three regional offices. Reliance Insurance manages its claims
through a decentralized network of regional and branch offices, which allows the
point of service to be close to the insured.
Reliance Surety. Reliance Surety is a leading writer of surety and
fidelity bonds in the United States. Reliance Surety concentrates on writing
performance and payment bonds for contractors of public works projects,
commercial real estate and multi-family housing. It also writes commercial
surety, financial institution and commercial fidelity bonds. Reliance Surety
performs extensive credit analysis on its clients, and actively manages claims
to minimize losses and maximize recoveries. Reliance Surety has enjoyed long
relationships with a large majority of the contractors and accounts it has
insured. Reliance Surety's Firemark and Express Surety operations target smaller
contractors and accounts, a market traditionally less fully serviced by national
surety companies. Reliance Surety is headquartered in Philadelphia and conducts
business nationwide through 32 branch offices and approximately 2,250
independent agents and brokers. Net premiums written by Reliance Surety were
$159.2 million, $139.3 million and $118.0 million for the years 1996, 1995 and
1994, respectively.
Surety bonds guarantee the payment or performance of one party (called the
principal) to another party (called the obligee). This guarantee is typically
evidenced by a written agreement by the surety (e.g., Reliance Surety) to
discharge the payment or performance obligations of the principal pursuant to
the underlying contract between the obligee and the principal. Fidelity bonds
insure against losses arising from employee dishonesty. Financial institution
fidelity bonds insure against losses arising from employee dishonesty and other
specifically named theft and fraud perils.
Reliance Reinsurance. Reliance Reinsurance provides casualty reinsurance
on both a treaty (blocks of risk) and facultative (individual risks) basis and,
to a lesser extent, property reinsurance on a treaty basis. The business of
Reliance Reinsurance is primarily conducted on a treaty basis. All treaty
business is marketed through reinsurance brokers who negotiate contracts of
reinsurance on behalf of the primary insurer or ceding reinsurer, while
facultative business is produced both directly and through reinsurance brokers.
While Reliance Reinsurance's treaty clients include all types and sizes of
insurers, Reliance Reinsurance typically targets treaty reinsurance for small to
medium sized regional and specialty insurance companies, as well as captives,
risk retention groups and other alternative risk markets, providing both pro
rata and excess of loss coverage. Reliance Reinsurance believes that this market
is subject to less competition and provides Reliance Reinsurance with an
opportunity to develop and market innovative programs where pricing is not the
key competitive factor. Reliance Reinsurance typically avoids participating in
large capacity reinsurance treaties where price is the predominant competitive
factor. It generally writes reinsurance in the 'lower layers,' the first $1
million of primary coverage, where losses are more predictable and quantifiable.
The assumed reinsurance business of the Reliance Property and Casualty Companies
is conducted nationwide and is headquartered in Philadelphia. Net premiums
written by Reliance Reinsurance were $151.1 million, $119.0 million and $125.6
million for the years ended December 31, 1996, 1995 and 1994, respectively.
Title Insurance. Commonwealth/Transnation Title writes title insurance for
residential and commercial real estate nationwide and provides escrow and
settlement services in connection with real estate closings. The National Title
Services division of Commonwealth/Transnation Title provides title services for
large and multi-state commercial transactions. Through the Commonwealth
OneStop(Registered) operation, Commonwealth/Transnation Title provides national
and regional lenders with a full range of residential closing services,
including title insurance through its National Residential Title Services
division, appraisal management through its CLT Appraisal Services, Inc.
subsidiary, and other real estate related services. Commonwealth/Transnation
Title is the third largest title insurance operation in the United
6
<PAGE>
States, based on 1995 total premiums and fees. Commonwealth/Transnation Title
had premiums and fees of $780.2 million, $671.9 million and $856.8 million for
the years 1996, 1995 and 1994, respectively.
S&P has assigned an 'A' rating to the claims-paying ability of
Commonwealth/Transnation Title. S&P's ratings are based on a quantitative and
qualitative analysis, including consideration of ownership and support factors,
if applicable. An 'A' rating is assigned to those companies which have good
financial security, but capacity to meet policyholder obligations is somewhat
susceptible to adverse economic and underwriting conditions. Duff & Phelps
Credit Rating Co. ('Duff & Phelps') has assigned an 'A+' rating to the
claims-paying ability of Commonwealth/ Transnation Title. Duff & Phelps ratings
are based on a quantitative and qualitative analysis, with particular emphasis
on fundamental factors, recent operating results, reserves, capitalization and
invested assets. An 'A+' rating is assigned to those companies which have a high
claims paying ability; protection factors are average and there is an
expectation of variability in risk over time due to economic and/or underwriting
conditions. The S&P and Duff & Phelps ratings are not designed for the
protection of investors and do not constitute recommendations to buy, sell or
hold any security.
Commonwealth/Transnation Title is organized into nine regions with more
than 325 offices and over 4,000 independent agents covering all 50 states, as
well as Puerto Rico and the Virgin Islands. In 1996, California, Texas, Florida,
New York, Pennsylvania, Washington and Michigan accounted for approximately 11%,
11%, 10%, 8%, 6%, 6% and 6%, respectively, of revenues for premiums and services
related to title insurance. No other state accounted for more than 5% of such
revenues.
A title insurance policy protects the insured party and certain successors
in interest against losses resulting from title defects, liens and encumbrances
existing as of the date of the policy and not specifically excepted from the
policy's provisions. Generally, a title policy is obtained by the buyer, the
mortgage lender or both at the time real property is transferred or refinanced.
The policy is written for an indefinite term for a single premium which is due
in full upon issuance of the policy. The face amount of the policy is usually
either the purchase price of the property or the amount of the loan secured by
the property. Title policies issued to lenders insure the priority position of
the lender's lien. Most lenders require title insurance as a condition to making
loans secured by real estate. Title insurers, unlike other types of insurers,
seek to eliminate losses through the title examination process and the closing
process, and a substantial portion of the expenses of a title insurer relate to
those functions.
Information Technology Consulting Services. RCG Information Technology
provides a full range of information technology services to large corporate
clients in the United States. Such services include providing supplemental
computer professional staffing, Year 2000 solutions, software outsourcing,
computer programming and development services and other computer consulting
services. RCG Information Technology had revenues of $136.7 million, $106.5
million and $90.0 million for 1996, 1995 and 1994, respectively.
INSURANCE CEDED
All of the Reliance Insurance Group's insurance operations purchase
reinsurance to limit the Company's exposure to losses. The ceding of insurance
does not discharge an insurer from its primary legal liability to a
policyholder, even though the reinsuring company assumes a related liability.
The Reliance Insurance Group enters into reinsurance arrangements that are both
facultative (individual risks) and treaty (blocks of risk). Limits and
retentions are based on a number of factors, including the previous loss history
of the operating unit, policy limits and exposure data, industry studies as to
potential severity, and market terms, conditions and capacity, and may change
over time. Where appropriate, the Reliance Insurance Group limits its exposure
to individual risks by purchasing excess of loss and quota share reinsurance,
with treaty structures and net retentions varying with the specific requirements
of the line of business or program being reinsured. In many cases, the Reliance
Insurance Group purchases additional facultative reinsurance to further reduce
its retentions below treaty levels.
Reinsurers of the Reliance Insurance Group. Premiums ceded by the Reliance
Insurance Group to reinsurers were $1.6 billion and $1.3 billion in 1996 and
1995, respectively. The Reliance Insurance Group is subject to credit risk with
respect to its reinsurers, as the ceding of risk to reinsurers does not relieve
the
7
<PAGE>
Reliance Insurance Group of its liability to insureds. At December 31, 1996, the
Reliance Insurance Group had reinsurance recoverables of $3.6 billion,
representing estimated amounts recoverable from reinsurers pertaining to paid
claims, unpaid claims, claims incurred but not reported and unearned premiums.
In order to minimize losses from uncollectible reinsurance, the Reliance
Insurance Group places its reinsurance with a number of different reinsurers,
and utilizes a security committee and a staff of analysts to approve in advance
the reinsurers which meet its standards of financial strength and are acceptable
for use by Reliance Insurance Group. The Reliance Insurance Group holds
substantial amounts of collateral, consisting of letters of credit, trust
accounts and cash collateral, to secure recoverables from unauthorized
reinsurers. The Company had $6.4 million reserved for potentially unrecoverable
reinsurance at December 31, 1996. The Company is not aware of any impairment of
the creditworthiness of any of the Reliance Insurance Group's significant
reinsurers. While the Company is aware of financial difficulties experienced by
certain Lloyd's of London syndicates, the Company has not experienced
deterioration of payments from the Lloyd's of London syndicates from which it
has reinsurance.
In 1996, the Reliance Property and Casualty Companies did not cede more
than 4.4% of direct premiums to any one reinsurer and no one reinsurer accounted
for more than 8.6% of total ceded premiums. The Reliance Insurance Group's ten
largest reinsurers, based on 1996 ceded premiums, are as follows:
<TABLE>
<CAPTION>
1996
CEDED BEST
PREMIUM RATING
------------- ------
(IN MILLIONS)
<S> <C> <C>
American Re-Insurance Company..................... $ 133.3 A+
Hertz International Reinsurance Ltd............... 63.3 (1)
Swiss Reinsurance America Corporation............. 56.5 A
Commercial Risk Re-Insurance Company.............. 46.5 (2)
Zurich Reinsurance Centre, Inc.................... 46.0 A
General Reinsurance Corporation................... 45.3 A++
Kemper Reinsurance Company........................ 43.5 A-
Everest Reinsurance Company....................... 33.5 A
Lloyd's of London................................. 30.8 (3)
Cedar Hill Assurance Company...................... 30.8 (4)
</TABLE>
- ------------------
(1) An unrated captive reinsurer that is not affiliated with the Company.
Recoverables from such reinsurer are fully collateralized.
(2) Assigned a Best rating of NR-2 (Less than Minimum Size and/or Operating
Experience), as the reinsurer does not meet the minimum size and/or
operating experience requirement. Recoverables from such reinsurer are fully
collateralized.
(3) Individual Lloyd's of London syndicates are not rated by Best.
(4) Assigned a Best rating of NR-2 (Less than Minimum Size and/or Operating
Experience), as the reinsurer does not meet the minimum size and/or
operating experience requirement. The vast majority of recoverables
from such reinsurer are fully collateralized.
The Reliance Insurance Group maintains no 'Funded Cover' reinsurance
agreements. 'Funded Cover' reinsurance agreements are multi-year retrospectively
rated reinsurance agreements which may not meet relevant accounting standards
for risk transfer and under which the reinsured must pay additional premiums in
subsequent years if losses in the current year exceed levels specified in the
reinsurance agreement.
PROPERTY AND CASUALTY LOSS RESERVES
The Reliance Insurance Group's staff of over 100 actuaries regularly
performs comprehensive analyses of reserves and reviews the pricing and
reserving methodologies of the Reliance Insurance Group. Although the Company
believes, in light of present facts and current legal interpretations, that the
Reliance Insurance Group's overall property and casualty reserve levels are
adequate to meet its obligations under existing policies, due to the inherent
uncertainty and complexity of the reserving process, the ultimate liability may
be more or less than such reserves.
8
<PAGE>
The following tables present information relating to the liability for
unpaid claims and related expenses ('loss reserves') for the Reliance Property
and Casualty Companies. The table below provides a reconciliation of the
beginning to ending liability balances for the years ended December 31, 1996,
1995 and 1994.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------
1996 1995 1994
---------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C>
Loss reserves, beginning of year........ $5,859,352 $5,581,483 $5,048,442
Less reinsurance recoverables........... 2,679,917 2,453,702 2,116,914
---------- ---------- ----------
Net loss reserves, beginning of year.... 3,179,435 3,127,781 2,931,528
---------- ---------- ----------
Provision for policy claims and related
expenses:
Provision for insured events of the
current year....................... 1,211,672 1,163,447 1,274,649
Increase in provision for insured
events of prior years.............. 138,665(1) 38,512 22,444
---------- ---------- ----------
Total provision.................. 1,350,337 1,201,959 1,297,093
---------- ---------- ----------
Payments for policy claims and related
expenses:
Attributable to insured events of
the current year................... 298,838 271,915 321,538
Attributable to insured events of
prior years........................ 926,996 868,622 780,961
---------- ---------- ----------
Total payments................... 1,225,834 1,140,537 1,102,499
---------- ---------- ----------
Foreign currency translation............ 7,668 (9,768) 1,659
---------- ---------- ----------
Net loss reserves, end of year.......... 3,311,606 3,179,435 3,127,781
Plus reinsurance recoverables........... 2,953,814 2,679,917 2,453,702
---------- ---------- ----------
Loss reserves, end of year(2)........... $6,265,420 $5,859,352 $5,581,483
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
- ------------------
(1) The 1996 increase in provision for insured events of prior years includes a
pretax charge of $134.0 million to increase net loss reserves for
asbestos-related and environmental pollution claims for business written in
or before 1987.
(2) Loss reserves exclude the loss reserves of title insurance operations of
$264.8 million, $240.8 million and $228.1 million at December 31, 1996, 1995
and 1994, respectively.
Policy claims and settlement expenses include a provision for insured
events of prior years of $138.7 million, $38.5 million and $22.4 million for the
years 1996, 1995 and 1994, respectively. The provision for all years includes
adverse development related to prior year asbestos-related and environmental
pollution claims, which primarily affect general liability, multiple peril and
reinsurance lines of business, and includes a pretax charge of $134.0 million in
1996 to increase net loss reserves for asbestos-related and environmental
pollution claims for business written in or before 1987. The 1996 provision also
includes adverse development in the automobile line, offset by favorable
development in workers' compensation. The 1995 provision also included adverse
development in other general liability, automobile and reinsurance lines,
partially offset by favorable development in workers' compensation. The 1994
provision also included adverse development in other general liability lines,
partially offset by favorable development in workers' compensation.
9
<PAGE>
The table below summarizes the development of the estimated liability for
loss reserves (net of reinsurance recoverables) as of December 31 of each of the
prior ten years. The amounts shown on the top line of the table represent the
estimated liability for loss reserves (net of reinsurance recoverables) for
claims that are unpaid at the particular balance sheet date, including losses
that had been incurred but not reported to the Reliance Property and Casualty
Companies. The upper portion of the table indicates the loss reserves as they
are reestimated in subsequent periods as a percentage of the originally recorded
reserves. These estimates change as losses are paid and more accurate
information becomes available about remaining loss reserves. A redundancy exists
when the original loss reserve estimate is greater, and a deficiency exists when
the original loss reserve estimate is less, than the reestimated loss reserve at
December 31, 1996. A redundancy or deficiency indicates the cumulative
percentage change, as of December 31, 1996, of originally recorded loss
reserves. The lower portion of the table indicates the cumulative amounts paid
as of successive periods as a percentage of the original loss reserve liability.
In calculating the percentage of cumulative paid losses to the loss reserve
liability in each year, unpaid losses of General Casualty Company of Wisconsin,
a former wholly-owned subsidiary, and its subsidiaries ('General Casualty') at
April 30, 1990 (the date of sale of General Casualty), relating to 1986 through
1989, were deducted from the original liability in each year. Each amount in the
following table includes the effects of all changes in amounts for prior
periods. The table does not present accident or policy year development data.
For the years 1986 through 1995, the Company has experienced deficiencies in its
estimated liability for loss reserves. The table includes provisions
specifically made to strengthen prior-years' loss reserves of $134.0 million in
1996, $156.0 million in 1991 and $100.0 million in 1986. The Company's loss
reserves during this period have been adversely affected by a number of factors
beyond the Company's control as follows: (i) significant increases in claim
settlements reflecting, among other things, inflation in medical costs; (ii)
increases in the costs of settling claims, particularly legal expenses; (iii)
more frequent resort to litigation in connection with claims; and (iv) a
widening interpretation of what constitutes a covered claim.
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------------------------------------------------
1996 1995 1994 1993 1992 1991 1990 1989
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net liability for unpaid
claims and related
expenses (loss
reserves)(1)............. $3,311,606 $3,179,435 $3,127,781 $2,931,528 $2,702,992 $2,375,235 $1,893,421 $1,962,822
Net liability reestimated
as of:
One year later........... -- 104.4% 101.2% 100.8% 101.5% 101.3% 114.4% 104.8%
Two years later.......... -- -- 104.8% 101.7% 103.1% 104.4% 115.2% 117.0%
Three years later........ -- -- -- 104.2% 104.0% 105.7% 119.6% 118.2%
Four years later......... -- -- -- -- 107.2% 106.7% 120.7% 120.9%
Five years later......... -- -- -- -- -- 110.5% 122.0% 122.2%
Six years later.......... -- -- -- -- -- -- 127.0% 123.8%
Seven years later........ -- -- -- -- -- -- -- 129.1%
Eight years later........ -- -- -- -- -- -- -- --
Nine years later......... -- -- -- -- -- -- -- --
Ten years later.......... -- -- -- -- -- -- -- --
Redundancy (Deficiency)... -- (4.4%) (4.8%) (4.2%) (7.2%) (10.5%) (27.0%) (29.1%)
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Paid (cumulative) as of:
One year later........... -- 29.2% 27.8% 26.6% 28.7% 29.0% 36.6% 40.7%
Two years later.......... -- -- 46.8% 44.9% 48.0% 48.6% 57.9% 65.4%
Three years later........ -- -- -- 58.4% 61.1% 62.1% 72.8% 82.2%
Four years later......... -- -- -- -- 70.5% 71.6% 83.0% 91.3%
Five years later......... -- -- -- -- -- 78.1% 90.3% 97.8%
Six years later.......... -- -- -- -- -- -- 95.5% 103.1%
Seven years later........ -- -- -- -- -- -- -- 106.8%
Eight years later........ -- -- -- -- -- -- -- --
Nine years later......... -- -- -- -- -- -- -- --
Ten years later.......... -- -- -- -- -- -- -- --
<CAPTION>
1988 1987 1986
---------- ---------- ----------
<S> <C> <C> <C>
Net liability for unpaid
claims and related
expenses (loss
reserves)(1)............. $1,644,057 $1,494,227 $1,425,942
Net liability reestimated
as of:
One year later........... 104.8% 107.8% 106.6%
Two years later.......... 113.5% 112.0% 115.6%
Three years later........ 121.8% 118.5% 121.6%
Four years later......... 123.2% 125.0% 127.2%
Five years later......... 127.8% 126.7% 132.3%
Six years later.......... 128.7% 131.8% 135.1%
Seven years later........ 130.7% 133.1% 140.0%
Eight years later........ 138.0% 135.4% 141.4%
Nine years later......... -- 143.9% 143.4%
Ten years later.......... -- -- 152.5%
Redundancy (Deficiency)... (38.0%) (43.9%) (52.5%)
---------- ---------- ----------
Paid (cumulative) as of:
One year later........... 41.6% 38.6% 42.0%
Two years later.......... 71.6% 65.8% 68.4%
Three years later........ 86.4% 88.2% 88.1%
Four years later......... 97.2% 99.5% 103.9%
Five years later......... 103.0% 106.2% 112.1%
Six years later.......... 107.3% 110.7% 117.1%
Seven years later........ 111.5% 113.9% 120.8%
Eight years later........ 114.3% 117.4% 123.7%
Nine years later......... -- 119.7% 126.9%
Ten years later.......... -- -- 128.8%
</TABLE>
- ------------------
(1) The gross liability for unpaid claims and related expenses was $6.3 billion
at December 31, 1996. The gross liability for unpaid claims and related
expenses for years 1995 and prior was deficient by $55.0 million at December
31, 1996.
10
<PAGE>
The difference between the property and casualty liability for loss
reserves at December 31, 1996 and 1995 reported in the Company's consolidated
financial statements (net of reinsurance recoverables) and the liability which
would be reported in accordance with statutory accounting practices is as
follows:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
1996 1995
---------- ----------
(IN THOUSANDS)
<S> <C> <C>
Net liability reported under statutory accounting
practices....................................... $3,228,792 $3,102,688
Adjustment for GAAP basis accrual of estimated
salvage and subrogation recoveries.............. (10,925) (12,758)
Additional discount of workers' compensation
reserves........................................ 93,739 98,799
Foreign currency translation...................... -- (9,294)
---------- ----------
Net liability reported.......................... $3,311,606 $3,179,435
---------- ----------
---------- ----------
</TABLE>
The difference between the property and casualty liability for gross loss
reserves at December 31, 1996 and 1995 reported in the Company's consolidated
financial statements and the liability which would be reported in accordance
with statutory accounting practices is as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
1996 1995
---------- ----------
(IN THOUSANDS)
<S> <C> <C>
Liability reported under statutory accounting
practices....................................... $6,097,395 $5,717,321
Adjustment for GAAP basis accrual of estimated
salvage and subrogation recoveries.............. (13,884) (14,884)
Additional discount of workers' compensation
reserves........................................ 181,909 179,987
Foreign currency translation...................... -- (23,072)
---------- ----------
Liability reported.............................. $6,265,420 $5,859,352
---------- ----------
---------- ----------
</TABLE>
Property and casualty loss reserves are based on an evaluation of reported
claims, in addition to statistical projections of claims incurred but not
reported and loss adjustment expenses. Estimates of salvage and subrogation are
deducted from the liability for unpaid claims. Also considered are other factors
such as the promptness with which claims are reported, the history of the
ultimate liability for such claims compared with initial and intermediate
estimates, the type of insurance coverage involved, the experience of the
property and casualty industry and other economic indicators, when applicable.
The establishment of loss reserves requires an estimate of the ultimate
liability based primarily on past experience. The Reliance Property and Casualty
Companies apply a variety of generally accepted actuarial techniques to
determine the estimates of ultimate liability. The techniques recognize, among
other factors, the Reliance Insurance Group's and the industry's experience with
similar business, historical trends in reserving patterns and loss payments,
pending level of unpaid claims, the cost of claim settlements, the Reliance
Insurance Group's product mix and the economic environment in which property and
casualty companies operate. Estimates are continually reviewed and adjustments
of the probable ultimate liability based on subsequent developments and new data
are included in operating results for the periods in which they are made. In
general, reserves are initially established based upon the actuarial and
underwriting data utilized to set pricing levels, and are reviewed as additional
information, including claims experience, becomes available. The Reliance
Property and Casualty Companies regularly analyze their reserves and review
their pricing and reserving methodologies, using Reliance Insurance Group
actuaries, so that future adjustments to prior year reserves can be minimized.
From time to time, the Reliance Property and Casualty Companies consult with
independent actuarial firms concerning reserving practices and levels. The
Reliance Property and Casualty Companies are required by state insurance
regulators to file, along with their statutory reports, a statement of actuarial
reserve opinion setting forth an actuary's assessment of their reserve status.
Since 1992, the Reliance Property and Casualty Companies have used an
independent actuarial firm to meet such requirements. However, given the
complexity of this process, reserves will require continual updates and the
ultimate liability may be more or less than such estimates indicate. Estimation
of loss reserves for long tail lines of business is more difficult than for
short tail lines because long tail claims may not become apparent for a number
of years, and a relatively higher proportion of ultimate losses are considered
incurred but not reported. As a result, variation in loss development is more
11
<PAGE>
likely in long tail lines of business. The Reliance Property and Casualty
Companies attempt to reduce these variations in certain of its long tail lines,
primarily directors and officers liability and professional liability, by
writing policies on a claims-made basis, which mitigates the long tail nature of
the risks. The Reliance Property and Casualty Companies also limit the potential
loss from a single event through the extensive use of reinsurance.
In calculating the liability for loss reserves, the Reliance Property and
Casualty Companies discount workers' compensation pension claims which are
expected to have regular, periodic payment patterns. These claims are discounted
for mortality and for interest using statutory annual rates ranging from 3.5% to
6%. In addition, the reserves for claims assumed through the participation of
the Reliance Property and Casualty Companies in workers' compensation
reinsurance pools are discounted. The discounting of all claims (net of
reinsurance recoverables) resulted in a decrease in the liability for loss
reserves of $230.0 million, $235.7 million and $245.7 million at December 31,
1996, 1995 and 1994, respectively. The discount in 1996 was increased by $5.4
million which was more than offset by discount amortization of $11.1 million,
resulting in a reduction in pre-tax income of $5.7 million. The discount in 1995
was increased by $1.8 million, which was more than offset by discount
amortization of $11.8 million, resulting in a reduction in pre-tax income of
$10.0 million. The discount in 1994 was reduced by $27.3 million plus discount
amortization of $11.7 million, resulting in a reduction in pre-tax income of
$39.0 million.
The liability for loss reserves includes provisions for inflation in
several ways, depending on how the reserve is established. An explicit provision
for inflation is used where estimates of ultimate loss are based on pricing. A
provision for inflation is also included for certain discounted workers'
compensation claims. In these cases, the provision for inflation is based on
factors supplied by the respective workers' compensation rating bureaus which
have jurisdiction for states which provide for cost-of-living increases in
indemnity benefits. In other reserves, the analysis reflects the effect of
inflationary trends as part of the overall effect on claim costs, as well as
changes in marketing, underwriting, reporting and processing systems, claims
settlement and coverages purchased.
Included in the liability for loss reserves at December 31, 1996 are $238.3
million ($213.0 million net of reinsurance recoverables) of loss reserves
pertaining to asbestos-related and environmental pollution claims for business
written in or before 1987. The following table presents information relating to
the net loss reserves pertaining to asbestos-related and environmental pollution
claims for business written in or before 1987 for the years ending December 31,
1996, 1995 and 1994:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------
1996 1995 1994
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Net loss reserves, beginning of year............................. $101,008 $100,404 $ 97,040
Provision for policy claims and related expenses................. 135,801 23,547 17,996
Payments for policy claims and related expenses.................. (23,762) (22,943) (14,632)
-------- -------- --------
Net loss reserves, end of year................................... $213,047 $101,008 $100,404
-------- -------- --------
-------- -------- --------
</TABLE>
The 1996 provision for policy claims and related expenses includes a pretax
charge of $134.0 million to increase net loss reserves for asbestos-related and
environmental pollution claims for business written in or before 1987. In the
second quarter of 1996, the Company completed a study of its asbestos-related
and environmental pollution reserves. The study entailed a detailed review of
the Company's claims, analysis of new industry data, review of policies and
classes of business written by the Company and industry at large, and new
actuarial methodologies for projecting ultimate losses based on payment patterns
and claims analyses. The loss reserve levels established represent the Company's
estimate of its ultimate losses, based on current information and actuarial
methodologies.
Included in the December 31, 1996 net loss reserves pertaining to
asbestos-related and environmental pollution claims for business written in or
before 1987 are $78.2 million of loss costs for claims incurred but not
reported, $49.2 million of loss costs for reported claims and $85.6 million of
related expenses.
12
<PAGE>
The following table presents information related to the number of insureds
with asbestos-related and environmental pollution claims outstanding for
business written in or before 1987:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------
1996 1995
---- ----
<S> <C> <C>
Number of insureds with outstanding claims, beginning of year..................... 447 477
Additional insureds with claims during the year................................... 153 188
Insureds with closed or settled claims during the year............................ (252) (218)
---- ----
Number of insureds with outstanding claims, end of year........................... 348 447
---- ----
---- ----
</TABLE>
The average net paid loss per insured for asbestos-related and
environmental pollution claims for business written in or before 1987 was
$50,200 and $61,100 for the years 1996 and 1995, respectively.
The Company continues to receive claims asserting injuries from hazardous
materials and alleged damages to cover various clean-up costs. Asbestos-related
and environmental pollution claims primarily affect the Company's general
liability, multiple peril and reinsurance lines of business. For business
written in or before 1987, coverage and claim settlement issues, such as the
determination that coverage exists and the definition of an occurrence, may
cause the actual loss development for asbestos-related and environmental
pollution claims to exhibit more variation than the remainder of the Company's
book of business.
Since 1987, the Company has generally excluded coverage for most types of
asbestos-related and environmental pollution claims from its general liability
policies, other than policies specifically intended to provide environmental
pollution and asbestos removal coverages. Policies written by the Company after
1987 ('post-1987 A&E business') which specifically intend to provide
environmental pollution coverages are written primarily on a claims made basis
and those which specifically intend to provide asbestos removal coverages are
written on an occurrence basis, generally with liability limits of $1.1 million
(net of reinsurance), including defense costs.
The liability for loss reserves at December 31, 1996 also included $40.8
million ($27.8 million net of reinsurance recoverables) of loss reserves
pertaining to post-1987 A&E business. The following table presents information
relating to the net loss reserves pertaining to claims for post-1987 A&E
business for the years ending December 31, 1996, 1995 and 1994:
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------
1996 1995 1994
------- ------- -------
(IN THOUSANDS)
<S> <C> <C> <C>
Net loss reserves, beginning of year.............................. $29,698 $29,739 $24,994
Provision for policy claims and related expenses.................. 5,857 2,357 10,283
Payments for policy claims and related expenses................... (7,791) (2,398) (5,538)
------- ------- -------
Net loss reserves, end of year.................................... $27,764 $29,698 $29,739
------- ------- -------
------- ------- -------
</TABLE>
The December 31, 1996 net loss reserves pertaining to claims for post-1987
A&E business include $13.2 million of loss costs for claims incurred but not
reported, $4.3 million of loss costs for reported claims and $10.3 million of
related expenses.
The following table presents information related to the number of insureds
with claims outstanding for post-1987 A&E business:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------
1996 1995
---- ----
<S> <C> <C>
Number of insureds with outstanding claims, beginning of year..................... 303 189
Additional insureds with claims during the year................................... 385 275
Insureds with closed or settled claims during the year............................ (214) (161)
---- ----
Number of insureds with outstanding claims, end of year........................... 474 303
---- ----
---- ----
</TABLE>
The average net paid loss per insured for claims for post-1987 A&E business
was $20,500 and $5,600 for the years 1996 and 1995, respectively.
Although the Company believes, in light of present facts and current legal
interpretations, that the overall loss reserves of the Reliance Property and
Casualty Companies are adequate to meet their obligations under existing
policies, due to the inherent uncertainty and complexity of the reserving
process, the ultimate liability may be more or less than such reserves.
13
<PAGE>
PORTFOLIO INVESTMENTS
Investment activities are an integral part of the business of the Reliance
Insurance Group. The Reliance Insurance Group believes that the investment
objectives of safety and liquidity, while seeking the best available return, can
be achieved by active portfolio management and intensive monitoring of
investments. Reference is made to 'Financial Review--Investment Portfolio' on
page 29 of the Company's 1996 Annual Report, which section is incorporated
herein by reference, and Note 2 to the Consolidated Financial Statements.
At December 31, 1996, the Company's investment portfolio was $4.2 billion
(at cost) with 90% in fixed maturities and short-term securities (including
redeemable preferred stock and cash) and 10% in equity securities, approximately
24% of which were convertible preferred stock. The following table details the
distribution of the Company's investments at December 31, 1996:
<TABLE>
<CAPTION>
AMORTIZED MARKET CARRYING
COST VALUE VALUE
---------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C>
Fixed maturities available for sale:
Bonds and notes:
United States government and
government agencies and
authorities...................... $ 704,386 $ 702,472 $ 702,472
States, municipalities and
political subdivisions........... 128,874 132,163 132,163
Foreign-government................. 42,955 46,172 46,172
Foreign-other...................... 96,051 103,976 103,976
Public utilities................... 374,404 373,389 373,389
Convertibles and bonds with
warrants attached................ 87,625 87,134 87,134
All other corporate bonds and
notes............................ 662,385 654,809 654,809
Redeemable preferred stocks........... 499,249 523,554 523,554
---------- ---------- ----------
2,595,929 2,623,669 2,623,669
---------- ---------- ----------
Fixed maturities held for investment:
Bonds and notes:
States, municipalities and
political subdivisions........... 8,382 8,169 8,382
Foreign-government................. 145,065 150,622 145,065
Foreign-other...................... 17,978 20,172 17,978
Public utilities................... 355,567 357,377 355,567
All other corporate bonds and
notes............................ 148,026 150,059 148,026
Redeemable preferred stocks........... 112,818 115,339 112,818
---------- ---------- ----------
787,836 801,738 787,836
---------- ---------- ----------
Total fixed maturities........... 3,383,765 3,425,407 3,411,505
---------- ---------- ----------
Equity securities(1):
Common stocks:
Public utilities................... 3,333 4,928 4,928
Banks, trusts and insurance
companies........................ 24,622 38,284 38,284
Industrial and other............... 292,365 556,463 556,463
Nonredeemable preferred stocks........ 115,733 116,931 116,931
---------- ---------- ----------
436,053 716,606 716,606
---------- ---------- ----------
Short-term investments(2)............... 355,967 355,967 355,967
---------- ---------- ----------
Total investment portfolio....... $4,175,785 $4,497,980 $4,484,078
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
<TABLE>
<CAPTION>
COST AND CARRYING
VALUE
-----------------
<S> <C>
(IN THOUSANDS)
Mortgage Loans(3)............. $ 19,506
Investments in real estate.... 275,237
</TABLE>
- ------------------
(1) Does not include investment in Zenith National Insurance Corp. which is
accounted for by the equity method and which, as of December 31, 1996, had a
carrying value of $157.9 million and a market value of $180.0 million. See
'--Investee Company.'
(2) Includes cash of $36.8 million.
(3) In the Company's Consolidated Financial Statements, mortgage loans are
included in premiums and other receivables.
14
<PAGE>
The Company seeks to maintain a diversified and balanced fixed maturity
portfolio representing a broad spectrum of industries and types of securities.
The Company holds virtually no investments in commercial real estate mortgages
and has no exposure to derivative securities (other than through its ownership
of any option, warrant or convertible security with an exercise or conversion
price related to an equity security). Purchases of fixed maturity securities are
researched individually based on in-depth analysis and objective predetermined
investment criteria and are managed to achieve a proper balance of safety,
liquidity and investment yields. The Reliance Insurance Group primarily invests
in investment grade securities (those rated 'BBB' or better by S&P), and, to a
lesser extent, non-investment grade and non-rated securities.
At December 31, 1996, the aggregate carrying value and market value of
fixed maturities (other than short-term investments and cash) that either have
been rated by S&P in the following categories or are non-rated were as follows:
<TABLE>
<CAPTION>
PERCENT
CARRYING MARKET OF MARKET
VALUE VALUE VALUE
---------- ---------- ---------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C>
AAA to A...................... $2,056,676 $2,066,354 60%
BBB........................... 761,756 765,619 23
---------- ---------- ---
Total investment grade..... 2,818,432 2,831,973 83
---------- ---------- ---
BB to B....................... 488,167 488,506 14
CCC to D...................... 11,301 11,301 --
Non-rated..................... 93,605 93,627 3
---------- ---------- ---
Total...................... $3,411,505 $3,425,407 100%
---------- ---------- ---
---------- ---------- ---
</TABLE>
Substantially all of the non-investment grade and non-rated fixed
maturities are classified as 'available for sale' and, accordingly, are carried
at quoted market value. All publicly traded investment grade securities are
priced using the Merrill Lynch Matrix Pricing model, which model is one of the
standard methods of pricing such securities in the industry. All publicly traded
non-investment grade securities, except as indicated below, are priced from
broker-dealers who make markets in these and other similar securities. For fixed
maturities not publicly traded, prices are estimated based on values obtained
from independent third parties or quoted market prices of comparable
instruments. Upon sale, such prices may not be realized when the size of a
particular investment in an issue is significant in relation to the total size
of such issue. Non-investment grade securities that are thinly traded are priced
using internally developed calculations. Such securities represent less than 1%
of the Reliance Insurance Group's fixed maturities portfolio.
Equity investments are made after an in-depth analysis of individual
company's fundamentals by the Reliance Insurance Group's staff of investment
professionals. They seek to identify equities of companies with strong growth
prospects and equities that appear to be undervalued relative to the issuer's
business fundamentals, such as earnings, cash flows, balance sheet and future
prospects. Subsequent to purchase, the business fundamentals of each equity
investment are carefully monitored.
As of March 1, 1997, the Reliance Insurance Group owned 3,578,634 shares of
common stock of Symbol Technologies, Inc. ('Symbol'), representing 13.7% of the
then outstanding common stock of Symbol. Symbol is the nation's largest
manufacturer of bar code-based data capture systems. As of March 1, 1997, the
market value of the Reliance Insurance Group's investment in Symbol was
$179,826,000 (based upon the closing price on such date as reported by the
NYSE), with a cost basis of $27,252,000. The board of directors of Symbol
includes certain executive officers of the Company.
As of March 1, 1997, the Reliance Insurance Group owned 2,449,624 shares of
Human Genome Sciences, Inc. ('Human Genome'), representing 13.1% of the then
outstanding common stock of Human Genome. Human Genome specializes in human
genetic research designed to detect and treat human illnesses. As of March 1,
1997, the market value of the Reliance Insurance Group's investment in Human
Genome was $93,086,000 (based upon
15
<PAGE>
the last reported sales price on such date as reported by the Nasdaq National
Market), with a cost basis of $52,382,000.
At December 31, 1996, the Company's real estate operations had holdings
with a carrying value of $275.2 million, which includes nine shopping centers
with an aggregate carrying value of $127.5 million, office buildings and other
commercial properties with an aggregate carrying value of $85.3 million, and
undeveloped land with a carrying value of $62.4 million.
The following table presents the investment results of the Reliance
Insurance Group's investment portfolio for each of the years ended December 31,
1996, 1995, and 1994:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------
1996 1995 1994
---------- ---------- ----------
(IN THOUSANDS, EXCEPT PERCENTAGES)
<S> <C> <C> <C>
Fixed Maturities:
Average investments(1).................. $3,625,144 $3,394,988 $3,213,556
Net investment income................... 260,275 243,268 221,771
Realized gains (losses)................. (5,686) 10,521 16,556
Increase (decrease) in unrealized
gains................................. (68,739) 329,457 (342,676)
Average annual yield:
Net investment income.............. 7.18% 7.17% 6.90%
Realized gains (losses)............ (0.15) 0.31 0.51
Increase (decrease) in unrealized
gains............................ (1.90) 9.70 (10.66)
---------- ---------- ----------
Return on fixed maturities.............. 5.13% 17.18% (3.25)%
---------- ---------- ----------
---------- ---------- ----------
Equity Securities(2):
Average investments(1).................. $ 703,121 $ 600,206 $ 540,139
Net investment income................... 12,425 19,317 26,251
Realized gains.......................... 58,296 23,811 1,611
Increase (decrease) in unrealized
gains................................. 15,939 182,507 (6,849)
Average annual yield:
Net investment income.............. 1.77% 3.22% 4.86%
Realized gains..................... 8.29 3.97 0.30
Increase (decrease) in unrealized
gains............................ 2.27 30.40 (1.27)
---------- ---------- ----------
Return on equity securities............. 12.33% 37.59% 3.89%
---------- ---------- ----------
---------- ---------- ----------
Total weighted average return on fixed
maturities and equity securities(3)... 6.30% 20.25% (2.22)%
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
- ------------------
(1) The average is computed by dividing the total market value of investments at
the beginning of the period plus the individual quarter-end balances by five
for the years ended December 31, 1996, 1995 and 1994.
(2) Does not include investment in Zenith National Insurance Corp. See
'--Investee Company.'
(3) The impact on the overall rate of return of a one percent increase or
decrease in the December 31, 1996 fixed maturity portfolio market value
would be approximately 0.78%
The carrying value and market value at December 31, 1996 of fixed
maturities for which interest is payable on a deferred basis was $152.2 million.
16
<PAGE>
INVESTEE COMPANY
As of March 1, 1997, the Reliance Insurance Group owned 6,574,445 shares of
common stock of Zenith National Insurance Corp. ('Zenith'), representing 37.4%
of the outstanding common stock of Zenith, a California-based insurance company
with significant workers' compensation and standard commercial and personal
lines business. As of March 1, 1997 the market value of the Reliance Insurance
Group's investment in Zenith was $174,223,000 (based upon the closing price on
such date as reported by the NYSE), with a carrying value of $157,894,000.
Certain executive officers of the Company serve, at the Company's request, as
directors of Zenith. The Company's investment in Zenith is accounted for by the
equity method. See Note 3 to the Consolidated Financial Statements.
REGULATION
The businesses of the Reliance Insurance Group, in common with those of
other insurance companies, are subject to comprehensive, detailed regulation in
the jurisdictions in which they do business. Such regulation is primarily for
the protection of policyholders rather than for the benefit of investors.
Although their scope varies from place to place, insurance laws in general grant
broad powers to supervisory agencies or officials to examine companies and to
enforce rules or exercise discretion touching almost every significant aspect of
the conduct of the insurance business. These include the licensing of companies
and agents to transact business, the imposition of monetary penalties for rules
violations, varying degrees of control over premium rates (particularly for
property and casualty companies), the forms of policies offered to customers,
financial statements, periodic reporting, permissible investments and adherence
to financial standards relating to surplus, dividends and other criteria of
solvency intended to assure the satisfaction of obligations to policyholders.
Other legislation obliges the Reliance Property and Casualty Companies to offer
policies or assume risks in various markets which they would not seek if they
were acting solely in their own interest. While such regulation and legislation
is sometimes burdensome, inasmuch as all insurance companies similarly situated
are subject to such controls, the Company does not believe that the competitive
position of the Reliance Insurance Group is adversely affected.
State holding company acts also regulate changes of control in insurance
holding companies and transactions and dividends between an insurance company
and its parent or affiliates. Although the specific provisions vary, the holding
company acts generally prohibit a person from acquiring a controlling interest
in an insurer incorporated in the state promulgating the act or in any other
controlling person of such insurer unless the insurance authority has approved
the proposed acquisition in accordance with the applicable regulations. In many
states, including Pennsylvania, where Reliance Insurance Company is domiciled,
'control' is presumed to exist if 10% or more of the voting securities of the
insurer are owned or controlled by a party, although the insurance authority may
find that 'control' in fact does or does not exist where a person owns or
controls either a lesser or a greater amount of securities. The holding company
acts also impose standards on certain transactions with related companies, which
generally include, among other requirements, that all transactions be fair and
reasonable and that certain types of transactions receive prior regulatory
approval either in all instances or when certain regulatory thresholds have been
exceeded.
The Insurance Law of Pennsylvania, where Reliance Insurance Company is
domiciled, limits the maximum amount of dividends which may be paid without
approval by the Pennsylvania Insurance Department. Under such law, Reliance
Insurance Company may pay dividends during the year equal to the greater of (a)
10% of the preceding year-end policyholders' surplus or (b) the preceding year's
statutory net income, but in no event to exceed the amount of unassigned funds,
which are defined as 'undistributed, accumulated surplus including net income
and unrealized gains since the organization of the insurer.' In addition, the
Pennsylvania law specifies factors to be considered by the Pennsylvania
Insurance Department to allow it to determine that statutory surplus after the
payment of dividends is reasonable in relation to an insurance company's
outstanding liabilities and adequate for its financial needs. Such factors
include the size of the company, the extent to which its business is diversified
among several lines of insurance, the number and size of risks insured, the
nature and extent of the company's reinsurance and the adequacy of the company's
reserves. The maximum dividend permitted by law is not indicative of an
insurer's actual ability to pay dividends, which may be constrained by business
and regulatory considerations, such as the impact of dividends on surplus, which
could affect an insurer's ratings, competitive position, the amount of
17
<PAGE>
premiums that can be written and the ability to pay future dividends.
Furthermore, the Pennsylvania Insurance Department has broad discretion to limit
the payment of dividends by insurance companies.
The total amount of common stock dividends paid by Reliance Insurance
Company was $111.5 million in each of 1996, 1995 and 1994. During 1997, $118.5
million would be available for dividend payments by Reliance Insurance Company
under Pennsylvania law. The Company believes such amount will be sufficient to
meet its cash needs.
There is no assurance that Reliance Insurance Company will meet the test in
effect from time to time under Pennsylvania law for the payment of dividends
without prior Insurance Department approval or that any requested approval will
be obtained. Reliance Insurance Company has been advised by the Pennsylvania
Insurance Department that any required prior approval will be based upon a
solvency standard and will not be unreasonably withheld. Any significant
limitation of Reliance Insurance Company's dividends would adversely affect the
Company's ability to service its debt and to pay dividends on its common stock.
The National Association of Insurance Commissioners (the 'NAIC') has a
'risk-based capital' requirement for the property and casualty insurance
industry. 'Risk-based capital' refers to the determination of the amount of
statutory capital required for an insurer based on the risks assumed by the
insurer (including, for example, investment risks, credit risks relating to
reinsurance recoverables and underwriting risks) rather than just the amount of
net premiums written by the insurer. A formula that applies prescribed factors
to the various risk elements in an insurer's business is used to determine the
minimum statutory capital requirement for the insurer. An insurer having less
statutory capital than the formula calculates would be subject to varying
degrees of regulatory intervention, depending on the level of capital
inadequacy. All of the Company's statutory insurance companies have statutory
capital in excess of the minimum required risk-based capital.
Maintaining appropriate levels of statutory surplus is considered important
by the Company's management, state insurance regulatory authorities, and the
agencies that rate insurers' claims-paying abilities and financial strength.
Failure to maintain certain levels of statutory capital and surplus could result
in increased scrutiny or, in some cases, action taken by state regulatory
authorities and/or downgrades in an insurer's ratings.
The Company's principal property and casualty insurance subsidiary,
Reliance Insurance Company, has operated outside of the NAIC financial ratio
range concerning liabilities to liquid assets (the 'NAIC liquidity test'). This
ratio is intended only as a guideline for an insurance company to follow. The
Company believes that it has sufficient marketable assets on hand to make timely
payment of claims and other operating requirements.
In 1994, Reliance Insurance Company and several of its affiliates received
an order from the outgoing Insurance Commissioner ordering refunds under
California Proposition 103 totaling $72.3 million, inclusive of interest. On
January 31, 1996, the Company reached a settlement with the California
Department of Insurance resolving its total liability for refunds and interest
under Proposition 103. The settlement requires the Company to pay $15.6 million
in refunds and interest on certain policies issued or renewed between November
8, 1988 and November 7, 1989. Although the Company believes that the California
Department of Insurance misapplied Proposition 103 as it relates to it, the
Company agreed to the settlement to avoid prolonging the matter further. In the
fourth quarter of 1995, the Company recorded a pre-tax charge of $4.0 million
related to Proposition 103. The fourth quarter 1995 charge represents the
difference between the settlement amount and the pre-tax charge of $11.6 million
the Company had taken in the fourth quarter of 1994 to provide for Proposition
103 refunds and interest.
From time to time, other states have considered adopting legislation or
regulations which could adversely affect the manner in which the Company sets
rates for policies of insurance, particularly as they relate to personal lines.
No assurance can be given as to what effect the adoption of any such legislation
or regulation would have on the ability of the Company to raise its rates.
COMPETITION
All of the Company's businesses are highly competitive. The property and
casualty insurance business is fragmented and no single company dominates any of
the markets in which the Company operates. The Reliance Property and Casualty
Companies compete with individual companies and with groups of
18
<PAGE>
affiliated companies with greater financial resources, larger sales forces and
more widespread agency and broker relationships. Competition in the property and
casualty insurance industry is based primarily on price, product design and
service. In addition, because the Reliance Property and Casualty Companies sell
policies through independent agents and insurance brokers who are not obligated
to choose the policies of the Reliance Property and Casualty Companies over
those of another insurer, the Reliance Property and Casualty Companies must
compete for agents and brokers and for the business they control. Such
competition is based upon price, product design, policyholder service,
commissions and service to agents and brokers.
Commonwealth/Transnation Title competes with other large national title
insurance companies and with smaller, locally established businesses which may
possess distinct competitive advantages. Competition in the title insurance
business is based primarily on the quality and timeliness of service. In some
market areas, abstracts and title opinions issued by attorneys are used as an
alternative to title insurance and other services provided by title companies.
In addition, certain jurisdictions have title registration systems which can
lessen the demand for title insurance.
RCG Information Technology competes with other national mid-size
information technology services companies, as well as smaller computer
professional supplemental staffing firms. Competition in the information
technology consulting business is based primarily on price, service and quality
of the solutions provided and the availability of qualified computer
professionals.
SALE OF NON-CORE OPERATIONS
In July 1993, the Company completed the sale of its life insurance
subsidiary, United Pacific Life Insurance Company. In the fourth quarter of
1992, the Company sold substantially all of the operating assets and insurance
brokerage, employee benefits consulting and related services businesses of its
insurance brokerage subsidiary, Frank B. Hall & Co. Inc. ('Hall'). Also in the
fourth quarter of 1992, the Company sold its mortgage insurance subsidiary,
Commonwealth Mortgage Assurance Corporation, through a public offering of 100%
of the common stock of CMAC Investment Corporation.
ITEM 2. PROPERTIES.
The Company and its consolidated subsidiaries own and lease offices in
various locations primarily in the United States. None of these properties is
material to the Company's business. At December 31, 1996, the Company and its
consolidated subsidiaries employed approximately 9,200 persons in approximately
480 offices.
ITEM 3. LEGAL PROCEEDINGS.
The Company and its subsidiaries are involved in certain litigation arising
in the course of their businesses, some of which involve claims of substantial
amounts. Although the ultimate outcome of these matters cannot be ascertained at
this time, and the results of legal proceedings cannot be predicted with
certainty, the Company is contesting the allegations of the complaints in each
action pending against it and believes, based on current knowledge and after
consultation with counsel, that the resolution of these matters will not have a
material adverse effect on the Consolidated Financial Statements. In addition,
the Company is subject to the litigation set forth below.
In June 1989, Hall, the predecessor corporation of Prometheus Funding
Corp., a subsidiary of the Company ('Prometheus'), entered into a settlement
agreement, which is subject to court approval, with the Superintendent of
Insurance of the State of New York (the 'Superintendent'), arising out of the
insolvency of Union Indemnity Insurance Company of New York, Inc. ('Union
Indemnity'). The settlement agreement was submitted to the court for approval in
October 1989 and objections were filed and continue to be pursued by various
parties. The Superintendent has informed Prometheus that he intends to pursue
court approval of the settlement. The settlement agreement will not become
effective until final approval by the court and there is no assurance that such
approval will be obtained.
See Note 14 to the Consolidated Financial Statements for additional
information concerning the above referenced legal proceedings affecting the
Company and its subsidiaries.
19
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Item 4 is not required pursuant to the reduced disclosure requirements
applicable to this Form 10-K.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
As of March 1, 1997, all 1,000 shares of Reliance Financial's common stock
are held of record by Reliance Group Holdings and are not publicly traded. See
the information in 'Market and Dividend Information for Common Stock' on page 31
of the Reliance Financial 1996 Annual Report, which information is incorporated
herein by reference.
ITEM 6. SELECTED FINANCIAL DATA.
Item 6 is not required pursuant to reduced disclosure requirements
applicable to this Form 10-K.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
See the information in 'Reliance Financial Services & Subsidiaries
Financial Review' on pages 26 through 31 of the Reliance Financial 1996 Annual
Report, which information is incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements of the Company and its consolidated subsidiaries,
included on pages 1 through 24 of the Reliance Financial 1996 Annual Report,
which information is incorporated herein by reference, are listed in Item 14
below.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
Items 10, 11, 12 and 13, which comprise Part III, are not required pursuant
to reduced disclosure requirements applicable to this Form 10-K.
20
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(A) 1. FINANCIAL STATEMENTS.
The consolidated financial statements of Reliance Financial Services
Corporation and Subsidiaries, which appear on pages 1 through 24 of the Reliance
Financial 1996 Annual Report, are incorporated herein by reference.
<TABLE>
<CAPTION>
PAGE REFERENCE
-------------------
1996
ANNUAL
FORM 10-K REPORT
--------- ------
<S> <C> <C>
RELIANCE FINANCIAL SERVICES AND SUBSIDIARIES:
Independent Auditors' Report............................ A-1 25
Consolidated Financial Statements at December 31, 1996
and 1995 and for the three years ended December 31,
1996:
Statement of Income................................ 1
Balance Sheet...................................... 2
Statement of Changes in Shareholders' Equity....... 3
Statement of Cash Flows............................ 4
Notes to Financial Statements (1-16)............... 5-24
</TABLE>
2. FINANCIAL STATEMENT SCHEDULES.
<TABLE>
<S><C> <C> <C>
I -- Summary of Investments -- Other Than Investments in A-2
Related Parties....................................
II -- Condensed Financial Information of the Registrant at
December 31, 1996 and 1995 and for the three years
ended December 31, 1996:
Statement of Income.................................. A-3
Balance Sheet........................................ A-4
Statement of Cash Flows.............................. A-5
III -- Supplementary Insurance Information.................. A-6
IV -- Reinsurance.......................................... A-7
VI -- Supplemental Information Concerning Property and A-8
Casualty Insurance Operations......................
</TABLE>
21
<PAGE>
3. EXHIBITS.
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- --------- --------------------------------------------------------------------
<S> <C>
3.1 Reliance Financial's Certificate of Incorporation, as amended
(incorporated by reference to Exhibit 3(a) to Registration Statement
No. 2-458933).
3.2 Amendment to Exhibit 3.1 (incorporated by reference to Exhibit 3.2
to Registration Statement No. 2-60201).
3.3 Amendment to Exhibit 3.1 (incorporated by reference to Exhibit 3.3
to Reliance Financial's Annual Report on Form 10-K for the year
ended December 31, 1983).
3.4 Reliance Financial's By-Laws, as amended (incorporated by reference
to Exhibit 3.4 to Reliance Financial's Annual Report on Form 10-K
for the year ended December 31, 1990).
*4.
10.1 Asset Purchase Agreement, dated July 24, 1992, between Frank B. Hall
& Co. Inc. ('Hall') and Aon Corporation ('Aon') (incorporated by
reference to Exhibit 2.1 to Reliance Group Holdings' Quarterly
Report on Form 10-Q for the quarter ended June 30, 1992).
10.2 Agreement and Plan of Merger, dated as of July 24, 1992, among
Reliance Group Holdings, Hall and Prometheus Liquidating Corp.
(incorporated by reference to Exhibit 2.2 to Reliance Group
Holdings' Quarterly Report on Form 10-Q for the quarter ended June
30, 1992).
10.3 Employee Benefit Agreement, dated July 24, 1992, among Reliance
Group Holdings and Aon (incorporated by reference to Exhibit 28.2 to
Reliance Group Holdings' Quarterly Report on Form 10-Q for the
quarter ended June 30, 1992).
10.4 Amendment, dated November 2, 1992, to Exhibit 10.1 (incorporated by
reference to Exhibit 2.1 to Reliance Group Holdings' Quarterly
Report on Form 10-Q for the quarter ended September 30, 1992).
10.5 Settlement Agreement and Release, dated June 2, 1989, between James
P. Corcoran, Superintendent of Insurance of the State of New York,
as Liquidator of Union Indemnity Insurance Company of New York, Inc.
and Hall (now known as Prometheus Funding Corp.)(incorporated herein
by reference to Exhibit 10.01 to Frank B. Hall & Co. Inc.'s report
on Form 10-Q for the quarter ended June 30, 1989).
13.1 Reliance Financial 1996 Annual Report.
27.1 Financial Data Schedule.
</TABLE>
- ------------------
* Neither Reliance Financial nor its subsidiaries is a party to any instrument
relating to long-term debt under which the securities authorized exceed 10%
of the total consolidated assets of Reliance Financial and its subsidiaries.
Copies of instruments relating to long-term debt of lesser amounts will be
provided to the Securities and Exchange Commission upon request.
(B) REPORTS ON FORM 8-K
No reports on Form 8-K were filed during the year ended December 31, 1996.
22
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) 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, ON THE 21ST DAY OF
MARCH, 1997.
RELIANCE FINANCIAL SERVICES
CORPORATION
BY: SAUL P. STEINBERG
---------------------------------
SAUL P. STEINBERG
CHAIRMAN OF THE BOARD
AND CHIEF EXECUTIVE OFFICER
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS
REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE
REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ---------------------- ---------------------------------------- --------------
<S> <C> <C>
<CAPTION>
SAUL P. STEINBERG Chairman of the Board, March 21, 1997
- ---------------------- Principal Executive Officer
SAUL P. STEINBERG and Director
GEORGE E. BELLO Principal Accounting March 21, 1997
- ---------------------- Officer and Director
GEORGE E. BELLO
LOWELL C. FREIBERG Principal Financial March 21, 1997
- ---------------------- Officer and Director
LOWELL C. FREIBERG
GEORGE R. BAKER Director March 21, 1997
- ----------------------
GEORGE R. BAKER
DENNIS A. BUSTI Director March 21, 1997
- ----------------------
DENNIS A. BUSTI
THOMAS P. GERRITY Director March 21, 1997
- ----------------------
THOMAS P. GERRITY
</TABLE>
23
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ---------------------- ---------------------------------------- --------------
<S> <C> <C>
JEWELL J. MCCABE Director March 21, 1997
- ----------------------
JEWELL J. MCCABE
IRVING SCHNEIDER Director March 21, 1997
- ----------------------
IRVING SCHNEIDER
BERNARD L. SCHWARTZ Director March 21, 1997
- ----------------------
BERNARD L. SCHWARTZ
RICHARD E. SNYDER Director March 21, 1997
- ----------------------
RICHARD E. SNYDER
THOMAS J. STANTON, JR. Director March 21, 1997
- ----------------------
THOMAS J. STANTON, JR.
ROBERT M. STEINBERG Director March 21, 1997
- ----------------------
ROBERT M. STEINBERG
JAMES E. YACOBUCCI Director March 21, 1997
- ----------------------
JAMES E. YACOBUCCI
</TABLE>
24
<PAGE>
INDEPENDENT AUDITORS' REPORT
Board of Directors and Shareholder
Reliance Financial Services Corporation
New York, New York
We have audited the consolidated financial statements of Reliance Financial
Services Corporation (a subsidiary of Reliance Group Holdings, Inc.) and
subsidiaries as of December 31, 1996 and 1995, and for each of the three years
in the period ended December 31, 1996, and have issued our report thereon dated
February 14, 1997; such financial statements and report are included in your
1996 Annual Report and are incorporated herein by reference. Our audits also
included the financial statement schedules of Reliance Financial Services
Corporation, listed in Item 14. These financial statement schedules are the
responsibility of the Company's management. Our responsibility is to express an
opinion based on our audits. In our opinion, such financial statement schedules,
when considered in relation to the basic consolidated financial statements taken
as a whole, present fairly in all material respects the information set forth
therein.
Deloitte & Touche LLP
New York, New York
February 14, 1997
A-1
<PAGE>
SCHEDULE I
ITEM 14(A)2
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
SUMMARY OF INVESTMENTS--OTHER THAN INVESTMENTS IN RELATED PARTIES
DECEMBER 31, 1996
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D
-------- -------- -------- --------
AMOUNT AT
WHICH
SHOWN IN
THE
BALANCE
TYPE OF INVESTMENT COST VALUE SHEET
------------------ ---- ----- ---------
<S> <C> <C> <C>
(In thousands)
Fixed maturities available for
sale:
Bonds and notes:
United States government
and government agencies
and authorities........ $ 704,386 $ 702,472 $ 702,472
States, municipalities
and political
subdivisions........... 128,874 132,163 132,163
Foreign--government...... 42,955 46,172 46,172
Foreign--other........... 96,051 103,976 103,976
Public utilities......... 374,404 373,389 373,389
Convertibles and bonds
with warrants
attached............... 87,625 87,134 87,134
All other corporate bonds
and notes.............. 662,385 654,809 654,809
Redeemable preferred
stocks................... 499,249 523,554 523,554
---------- ---------- ----------
2,595,929 2,623,669 2,623,669
---------- ---------- ----------
Fixed maturities held for
investment:
Bonds and notes:
States, municipalities
and political
subdivisions........... 8,382 8,169 8,382
Foreign--government...... 145,065 150,622 145,065
Foreign--other........... 17,978 20,172 17,978
Public utilities......... 355,567 357,377 355,567
All other corporate bonds
and notes.............. 148,026 150,059 148,026
Redeemable preferred
stocks................... 112,818 115,339 112,818
---------- ---------- ----------
787,836 801,738 787,836
---------- ---------- ----------
Equity securities:
Common stocks:
Public utilities......... 3,333 4,928 4,928
Banks, trusts and
insurance companies.... 24,622 38,284 38,284
Industrial and other..... 292,365 556,463 556,463
Nonredeemable preferred
stocks................... 115,733 116,931 116,931
---------- ---------- ----------
436,053 716,606 716,606
---------- ---------- ----------
Short-term investments........ 319,165 319,165 319,165
---------- ---------- ----------
Cash.......................... 36,802 36,802 36,802
---------- ---------- ----------
$4,497,980
==========
Mortgage loans(1)............. 19,506 19,506
Investments in real estate.... 275,237 275,237
---------- ----------
$4,470,528 $4,778,821
========== ==========
</TABLE>
(1) In the consolidated financial statements, mortgage loans are included in
other accounts and notes receivable.
A-2
<PAGE>
SCHEDULE II
ITEM 14(A)2
RELIANCE FINANCIAL SERVICES CORPORATION
(PARENT COMPANY)
STATEMENT OF INCOME
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ---------------------- ---- ---- ----
(In thousands)
<S> <C> <C> <C>
REVENUES:
Dividends from subsidiaries........... $ 111,467 $ 111,467 $ 111,467
Interest and other income, principally
from affiliates..................... 21,520 20,821 15,136
---------- ---------- ----------
132,987 132,288 126,603
---------- ---------- ----------
EXPENSES:
Interest.............................. 14,483 15,811 15,244
General and administrative............ 1,375 1,191 2,051
---------- ---------- ----------
15,858 17,002 17,295
---------- ---------- ----------
117,129 115,286 109,308
Income tax (provision) benefit........ (1,717) (859) 760
---------- ---------- ----------
INCOME BEFORE EQUITY IN SUBSIDIARIES
AND INVESTEE COMPANY................ 115,412 114,427 110,068
Equity in subsidiaries (net income
less dividends received)............ 15,181 58,056 18,992
Equity in investee company............ 8,908 7,792 9,478
Loss on disposal of discontinued
operations of investee company...... -- (4,497) --
---------- ---------- ----------
INCOME BEFORE EXTRAORDINARY ITEM...... 139,501 175,778 138,538
Extraordinary item--early
extinguishment of debt.............. -- (3,363) --
---------- ---------- ----------
NET INCOME............................ $ 139,501 $ 172,415 $ 138,538
========== ========== ==========
</TABLE>
A-3
<PAGE>
SCHEDULE II
ITEM 14(A)2
RELIANCE FINANCIAL SERVICES CORPORATION
(PARENT COMPANY)
BALANCE SHEET
<TABLE>
<CAPTION>
ASSETS DECEMBER 31 1996 1995
- --------------------------------------- ---- ----
<S> <C> <C>
(Dollars in thousands, except per-share
amount)
Cash.................................... $ 1,718 $ 39
Investments in subsidiaries............. 1,395,168 1,388,975
Notes receivable from parent company.... 202,272 184,108
Other assets............................ 14,627 14,443
---------- ----------
$1,613,785 $1,587,565
========== ==========
LIABILITIES AND SHAREHOLDER'S EQUITY
Accounts payable and accrued expenses... $ 2,265 $ 2,122
Federal income taxes due to parent
company............................... 20,583 18,866
Term loans and short-term debt.......... 197,500 158,500
Senior reset notes...................... 15,365 40,318
---------- ----------
235,713 219,806
---------- ----------
Contingencies and commitments
Shareholder's equity:
Common stock, par value $.10
per-share, 1,000 shares
authorized, issued and
outstanding....................... -- --
Additional paid-in capital......... 677,969 678,349
Retained earnings (including
undistributed net income of
subsidiaries of $352,445 and
$328,356)......................... 526,340 496,839
Net unrealized gain on investments
of subsidiaries................... 198,786 219,356
Net unrealized loss on foreign
currency translation of
subsidiaries...................... (25,023) (26,785)
---------- ----------
1,378,072 1,367,759
---------- ----------
$1,613,785 $1,587,565
========== ==========
</TABLE>
A-4
<PAGE>
SCHEDULE II
ITEM 14(A)2
RELIANCE FINANCIAL SERVICES CORPORATION
(PARENT COMPANY)
STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ---------------------- ---- ---- ----
(In thousands)
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.............................. $ 139,501 $ 172,415 $ 138,538
Equity in undistributed net income of
subsidiaries and investee company..... (24,089) (61,351) (28,470)
Other--net.............................. 911 3,574 821
---------- ---------- ----------
116,323 114,638 110,889
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital contribution to subsidiary...... -- (33,631) (15,000)
---------- ---------- ----------
-- (33,631) (15,000)
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Decrease (increase) in notes receivable
from parent company--net.............. (18,164) 2,957 (17,365)
Increase (decrease) in term loans and
short-term debt--net.................. 39,000 58,500 (5,000)
Repurchases of senior reset notes....... (25,000) (40,348) (9,125)
Debt issuance costs..................... (480) (1,000) --
Dividends............................... (110,000) (110,000) (85,187)
---------- ---------- ----------
(114,644) (89,891) (116,677)
---------- ---------- ----------
Increase (decrease) in cash............. 1,679 (8,884) (20,788)
Cash, beginning of year................. 39 8,923 29,711
---------- ---------- ----------
Cash, end of year....................... $ 1,718 $ 39 $ 8,923
========== ========== ==========
</TABLE>
SUPPLEMENTAL DISCLOSURE OF NON-CASH FINANCING ACTIVITIES:
In 1994, non-cash dividends of $24,813,000 were recorded as a reduction in notes
receivable from parent company.
A-5
<PAGE>
SCHEDULE III
ITEM 14(A)2
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
SUPPLEMENTARY INSURANCE INFORMATION
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G
-------- -------- ------- -------- -------- -------- --------
DEFERRED UNPAID POLICY
POLICY CLAIMS AND NET CLAIMS AND
ACQUISITION RELATED UNEARNED PREMIUMS INVESTMENT SETTLEMENT
SEGMENT COSTS EXPENSES PREMIUMS EARNED INCOME EXPENSES
------- ----------- --------- -------- -------- ---------- ----------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996:
Property and casualty.......... 215,438 $6,265,420 $1,468,299 $1,800,854 $257,133 $1,350,337
Title.......................... -- 264,838 -- 780,157 30,455 61,116
--------- ---------- ---------- ---------- --------- ----------
$ 215,438 $6,530,258 $1,468,299 $2,581,011 $287,588 $1,411,453
========= ========== ========== ========== ========= ==========
YEAR ENDED DECEMBER 31, 1995:
Property and casualty.......... $ 194,648 $5,859,352 $1,299,465 $1,774,591 $247,343 $1,201,959
Title.......................... -- 240,777 -- 671,947 27,946 58,486
--------- ---------- ---------- ---------- ---------- ----------
$ 194,648 $6,100,129 $1,299,465 $2,446,538 $275,289 $1,260,445
========= ========== ========== ========== ========= ==========
YEAR ENDED DECEMBER 31, 1994:
Property and casualty.......... $ 181,938 $5,581,483 $1,288,454 $1,777,318 $232,299 $1,297,093
Title.......................... -- 228,063 -- 856,774 26,613 75,867
--------- ---------- ---------- ---------- ---------- ----------
$ 181,938 $5,809,546 $1,288,454 $2,634,092 $258,912 $1,372,960
========= ========== ========== ========== ========= ==========
<CAPTION>
COLUMN A COLUMN H COLUMN I COLUMN J
-------- -------- -------- --------
AMORTIZATION
OF DEFERRED
POLICY OTHER
ACQUISITION INSURANCE PREMIUMS
SEGMENT COSTS EXPENSES WRITTEN
- ------------------ ----------- --------- --------
(In thousands)
<S> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996:
Property and casualty.......... $414,636 $201,485 $1,846,199
==========
Title.......................... -- 711,185
-------- --------
$414,636 $912,670
======== ========
YEAR ENDED DECEMBER 31, 1995:
Property and casualty.......... $411,979 $197,112 $1,779,040
==========
Title.......................... -- 629,051
-------- --------
$411,979 $826,163
======== ========
YEAR ENDED DECEMBER 31, 1994:
Property and casualty.......... $387,924 $183,755 $1,764,290
==========
Title.......................... -- 776,149
-------- --------
$387,924 $959,904
======== ========
</TABLE>
A-6
<PAGE>
SCHEDULE IV
ITEM 14(A)2
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
REINSURANCE
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F
-------- -------- -------- -------- -------- --------
CEDED ASSUMED PERCENTAGE
TO FROM OF AMOUNT
GROSS OTHER OTHER NET ASSUMED
AMOUNT COMPANIES COMPANIES AMOUNT TO NET
------ --------- --------- ------ --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996:
Premiums:
Property and casualty........................... $2,894,096 $1,449,731 $356,489 $1,800,854 19.80%
Title........................................... 779,318 1,406 2,245 780,157 0.29
---------- ---------- -------- ----------
$3,673,414 $1,451,137 $358,734 $2,581,011 13.90
========== ========== ======== ==========
YEAR ENDED DECEMBER 31, 1995:
Premiums:
Property and casualty........................... $2,707,978 $1,284,023 $350,636 $1,774,591 19.76
Title........................................... 671,222 1,649 2,374 671,947 .35
---------- ---------- -------- ----------
$3,379,200 $1,285,672 $353,010 $2,446,538 14.43
========== ========== ======== ==========
YEAR ENDED DECEMBER 31, 1994:
Premiums:
Property and casualty........................... $2,630,549 $1,198,629 $345,398 $1,777,318 19.43
Title........................................... 854,679 1,370 3,465 856,774 .40
---------- ---------- -------- ----------
$3,485,228 $1,199,999 $348,863 $2,634,092 13.24
========== ========== ======== ==========
</TABLE>
A-7
<PAGE>
SCHEDULE VI
ITEM 14(A)2
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
SUPPLEMENTAL INFORMATION CONCERNING PROPERTY AND CASUALTY INSURANCE OPERATIONS
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G COLUMN H
- -------- -------- -------- -------- -------- -------- -------- -------------------
UNPAID DISCOUNT CLAIMS AND
DEFERRED CLAIMS DEDUCTED SETTLEMENT EXPENSES
AFFILIATION POLICY AND IN NET INCURRED RELATED TO
WITH ACQUISITION RELATED COLUMN UNEARNED EARNED INVESTMENT CURRENT PRIOR
REGISTRANT COSTS EXPENSES C(a) PREMIUMS PREMIUMS INCOME YEAR YEARS
- ---------- ---------- -------- ------- -------- -------- ---------- ------- -----
(In thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Consolidated subsidiaries:
Year Ended
December 31, 1996...... $215,438 $6,265,420 $229,963 $1,468,299 $1,800,854 $257,133 $1,211,672 $138,665
======== ========== ========= ========== ========== ======== ========== ========
Year Ended
December 31, 1995...... $194,648 $5,859,352 $235,664 $1,299,465 $1,774,591 $247,343 $1,163,447 $ 38,512
======== ========== ========= ========== ========== ======== ========== ========
Year Ended
December 31, 1994...... $181,938 $5,581,483 $245,737 $1,288,454 $1,777,318 $232,299 $1,274,649 $ 22,444
======== ========== ========= ========== ========== ======== ========== ========
<CAPTION>
COLUMN A COLUMN I COLUMN J COLUMN K
- --------- -------- -------- --------
AMORTIZATION PAID
OF DEFERRED CLAIMS
AFFILIATION POLICY AND
WITH ACQUISITION SETTLEMENT PREMIUMS
REGISTRANT COST EXPENSES WRITTEN
- ----------- ---------- ---------- -------
(In thousands)
<S> <C> <C> <C>
Consolidated subsidiaries:
Year Ended
December 31, 1996...... $414,636 $1,225,834 $1,846,199
======== ========== ==========
Year Ended
December 31, 1995...... $411,979 $1,140,537 $1,779,040
======== ========== ==========
Year Ended
December 31, 1994...... $387,924 $1,102,499 $1,764,290
======== ========== ==========
</TABLE>
(a) Liabilities for unpaid claims and related expenses for short-duration
contracts which are expected to have fixed, periodic payment patterns are
discounted to present values using statutory annual rates ranging from 3
1/2% to 6%. Discount shown relates to net liabilities for unpaid claims and
related expenses for short-duration contracts which are expected to have
fixed, periodic payment patterns.
A-8
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- --------- --------------------------------------------------------------------
3.1 Reliance Financial's Certificate of Incorporation, as amended
(incorporated by reference to Exhibit 3(a) to Registration Statement
No. 2-458933).
3.2 Amendment to Exhibit 3.1 (incorporated by reference to Exhibit 3.2
to Registration Statement No. 2-60201).
3.3 Amendment to Exhibit 3.1 (incorporated by reference to Exhibit 3.3
to Reliance Financial's Annual Report on Form 10-K for the year
ended December 31, 1983).
3.4 Reliance Financial's By-Laws, as amended (incorporated by reference
to Exhibit 3.4 to Reliance Financial's Annual Report on Form 10-K
for the year ended December 31, 1990).
*4.
10.1 Asset Purchase Agreement, dated July 24, 1992, between Frank B. Hall
& Co. Inc. ('Hall') and Aon Corporation ('Aon') (incorporated by
reference to Exhibit 2.1 to Reliance Group Holdings' Quarterly
Report on Form 10-Q for the quarter ended June 30, 1992).
10.2 Agreement and Plan of Merger, dated as of July 24, 1992, among
Reliance Group Holdings, Hall and Prometheus Liquidating Corp.
(incorporated by reference to Exhibit 2.2 to Reliance Group
Holdings' Quarterly Report on Form 10-Q for the quarter ended June
30, 1992).
10.3 Employee Benefit Agreement, dated July 24, 1992, among Reliance
Group Holdings and Aon (incorporated by reference to Exhibit 28.2 to
Reliance Group Holdings' Quarterly Report on Form 10-Q for the
quarter ended June 30, 1992).
10.4 Amendment, dated November 2, 1992, to Exhibit 10.1 (incorporated by
reference to Exhibit 2.1 to Reliance Group Holdings' Quarterly
Report on Form 10-Q for the quarter ended September 30, 1992).
10.5 Settlement Agreement and Release, dated June 2, 1989, between James
P. Corcoran, Superintendent of Insurance of the State of New York,
as Liquidator of Union Indemnity Insurance Company of New York, Inc.
and Hall (now known as Prometheus Funding Corp.)(incorporated herein
by reference to Exhibit 10.01 to Frank B. Hall & Co. Inc.'s report
on Form 10-Q for the quarter ended June 30, 1989).
13.1 Reliance Financial 1996 Annual Report.
27.1 Financial Data Schedule.
- ------------------
* Neither Reliance Financial nor its subsidiaries is a party to any instrument
relating to long-term debt under which the securities authorized exceed 10%
of the total consolidated assets of Reliance Financial and its subsidiaries.
Copies of instruments relating to long-term debt of lesser amounts will be
provided to the Securities and Exchange Commission upon request.
<PAGE>
<TABLE>
<C> <S> <C>
CONTENTS
Financial Statements 1
Independent Auditors' Report 25
Financial Review 26
Market and Dividend Information 31
Directors 32
Officers 33
Corporate Data 34
A copy of the Company's Annual Report on Form 10-K to the
Securities and Exchange Commission will be furnished to any
security holder upon written request to: Corporate
Communications, Reliance Group Holdings, Inc., 55 East 52nd
Street, New York, N.Y. 10055.
</TABLE>
<PAGE>
[This page intentionally left blank]
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF INCOME
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- -----------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
REVENUES:
Premiums earned....................... $2,581,011 $2,446,538 $2,634,092
Net investment income................. 287,588 275,289 258,912
Gain on sales of investments.......... 49,610 29,110 9,218
Interest income from parent company... 21,212 20,408 14,864
Other................................. 165,608 150,751 141,609
---------- ---------- ----------
3,105,029 2,922,096 3,058,695
---------- ---------- ----------
CLAIMS AND EXPENSES:
Policy claims and settlement
expenses............................ 1,411,453 1,260,445 1,372,960
Policy acquisition costs.............. 414,636 411,979 387,924
Interest.............................. 20,030 21,753 22,988
Other insurance expenses.............. 912,670 826,163 959,904
Other................................. 165,947 146,373 137,877
---------- ---------- ----------
2,924,736 2,666,713 2,881,653
---------- ---------- ----------
INCOME BEFORE INCOME TAXES AND EQUITY
IN INVESTEE COMPANY................. 180,293 255,383 177,042
Provision for income taxes............ (49,700) (82,900) (47,982)
Equity in investee company............ 8,908 7,792 9,478
---------- ---------- ----------
INCOME FROM CONTINUING OPERATIONS..... 139,501 180,275 138,538
Loss on disposal of discontinued
operations of
investee company.................... -- (4,497) --
---------- ---------- ----------
INCOME BEFORE EXTRAORDINARY ITEM...... 139,501 175,778 138,538
Extraordinary item--early
extinguishment of debt.............. -- (3,363) --
---------- ---------- ----------
NET INCOME............................ $ 139,501 $ 172,415 $ 138,538
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
See notes to consolidated financial statements
1
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
ASSETS DECEMBER 31 1996 1995
- ------------------------------------------------------------------
<S> <C> <C>
(Dollars in thousands, except per-share
amount)
Marketable securities:
Fixed maturities held for
investment--at amortized cost
(quoted market $801,738 and
$791,459)......................... $ 787,836 $ 753,563
Fixed maturities available for
sale--at quoted market
(amortized cost $2,595,929 and
$2,299,510)....................... 2,623,669 2,371,995
Equity securities--at quoted market
(cost $436,053 and $408,054)...... 716,606 672,668
Short-term investments............. 319,165 500,284
Cash.................................... 38,520 50,848
Premiums receivable..................... 1,104,331 1,075,226
Other accounts and notes receivable..... 137,293 130,555
Reinsurance recoverables................ 3,576,953 3,163,073
Federal and foreign income taxes,
including deferred taxes.............. 4,390 9,784
Notes receivable from parent company.... 202,272 184,108
Investments in real estate--at cost,
less accumulated depreciation......... 275,237 278,510
Investment in investee company.......... 157,894 156,404
Deferred policy acquisition costs....... 215,438 194,648
Other assets............................ 351,016 354,254
----------- ----------
$10,510,620 $9,895,920
----------- ----------
----------- ----------
</TABLE>
<TABLE>
<CAPTION>
LIABILITIES AND SHAREHOLDER'S EQUITY
- ------------------------------------------------------------------
<S> <C> <C>
Unearned premiums....................... $1,468,299 $1,299,465
Unpaid claims and related expenses...... 6,530,258 6,100,129
Accounts payable and accrued expenses... 529,047 586,902
Reinsurance ceded premiums payable...... 365,412 325,246
Senior reset notes...................... 15,365 40,318
Term loans and short-term debt.......... 224,167 176,101
---------- ----------
9,132,548 8,528,161
---------- ----------
Contingencies and commitments
Shareholder's equity:
Common stock, par value $.10
per-share, 1,000 shares
authorized, issued and
outstanding....................... -- --
Additional paid-in capital......... 677,969 678,349
Retained earnings.................. 526,340 496,839
Net unrealized gain on
investments....................... 198,786 219,356
Net unrealized loss on foreign
currency translation.............. (25,023) (26,785)
----------- ----------
1,378,072 1,367,759
----------- ----------
$10,510,620 $9,895,920
----------- ----------
----------- ----------
</TABLE>
See notes to consolidated financial statements
2
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDER'S EQUITY
- --------------------------------------------------------------------------------
(In thousands)
<TABLE>
<CAPTION>
NET
UNREALIZED
NET LOSS ON
ADDITIONAL UNREALIZED FOREIGN
COMMON PAID-IN RETAINED GAIN (LOSS) ON CURRENCY SHAREHOLDER'S
STOCK CAPITAL EARNINGS INVESTMENTS TRANSLATION EQUITY
------ ---------- --------- -------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1994..................... $ -- $ 677,510 $ 406,138 $ 115,023 $ (15,731) $ 1,182,940
Transactions of investee company............. -- (597) -- (9,002) -- (9,599)
Net income................................... -- -- 138,538 -- -- 138,538
Dividends.................................... -- -- (110,000) -- -- (110,000)
Capital contribution......................... -- 1,589 -- -- -- 1,589
Depreciation after deferred income taxes..... -- -- -- (133,902) -- (133,902)
Foreign currency translation................. -- -- -- -- (5,487) (5,487)
------ ---------- --------- ------------ ---------- -------------
Balance, December 31, 1994................... -- 678,502 434,676 (27,881) (21,218) 1,064,079
Transactions of investee company............. -- (153) -- 8,693 -- 8,540
Net income................................... -- -- 172,415 -- -- 172,415
Loss on early extinguishment of redeemable
preferred stock of a subsidiary............ -- -- (252) -- -- (252)
Dividends.................................... -- -- (110,000) -- -- (110,000)
Appreciation after deferred income taxes..... -- -- -- 238,544 -- 238,544
Foreign currency translation................. -- -- -- -- (5,567) (5,567)
------ ---------- --------- ------------ ---------- -------------
BALANCE, DECEMBER 31, 1995................... -- 678,349 496,839 219,356 (26,785) 1,367,759
Transactions of investee company............. -- (380) -- (1,504) -- (1,884)
Net income................................... -- -- 139,501 -- -- 139,501
Dividends.................................... -- -- (110,000) -- -- (110,000)
Depreciation after deferred income taxes..... -- -- -- (19,066) -- (19,066)
Foreign currency translation................. -- -- -- -- 1,762 1,762
------ ---------- --------- ------------ ---------- -------------
BALANCE, DECEMBER 31, 1996................... $ -- $ 677,969 $ 526,340 $ 198,786 $ (25,023) $ 1,378,072
------ ---------- --------- ------------ ---------- -------------
------ ---------- --------- ------------ ---------- -------------
</TABLE>
See notes to consolidated financial statements
3
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.............................. $ 139,501 $ 172,415 $ 138,538
Adjustments to reconcile net income to
net cash provided
from operating activities:
Gain on sales of investments.......... (49,610) (29,110) (9,218)
Deferred policy acquisition costs..... (20,790) (12,710) (3,809)
Premiums and other receivables and
reinsurance recoverables........... (449,324) (238,754) (480,590)
Unearned premiums, unpaid claims and
related expenses................... 590,760 315,288 566,873
Accounts payable, accrued expenses and
other.............................. 38,513 30,885 106,239
---------- ---------- ----------
249,050 238,014 318,033
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sales of:
Fixed maturities available for sale... 629,688 536,795 441,401
Fixed maturities held for
investment......................... 28,910 39,218 18,481
Equity securities..................... 360,983 400,635 189,895
Maturities and repayments of:
Fixed maturities available for sale... 106,811 49,218 60,752
Fixed maturities held for
investment......................... 31,141 54,038 15,785
Purchases of:
Fixed maturities available for sale... (1,027,256) (514,491) (587,581)
Fixed maturities held for
investment......................... (83,190) (108,053) (265,672)
Equity securities..................... (343,146) (262,075) (209,506)
(Increase) decrease in short-term
investments--net...................... 193,940 (283,141) 151,965
Other--net.............................. (49,285) (20,710) (57,355)
---------- ---------- ----------
(151,404) (108,566) (241,835)
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
(Increase) decrease in notes receivable
from parent company................... (18,164) 2,957 (17,365)
Increase in term loans.................. 86,327 120,298 75,272
Increase (decrease) in short-term
debt--net............................. (2,174) (5,400) 10,652
Repayments of term loans................ (40,483) (68,152) (81,942)
Repurchases of senior reset notes....... (25,000) (40,348) (19,062)
Debt issuance costs..................... (480) (1,000) --
Dividends............................... (110,000) (110,000) (85,187)
Redemption of redeemable preferred stock
of a subsidiary....................... -- (23,769) (3,360)
---------- ---------- ----------
(109,974) (125,414) (120,992)
---------- ---------- ----------
Increase (decrease) in cash............. (12,328) 4,034 (44,794)
Cash, beginning of year................. 50,848 46,814 91,608
---------- ---------- ----------
Cash, end of year....................... $ 38,520 $ 50,848 $ 46,814
---------- ---------- ----------
---------- ---------- ----------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION:
Interest paid........................... $ 14,900 $ 16,300 $ 16,400
---------- ---------- ----------
---------- ---------- ----------
Income taxes paid....................... $ 40,500 $ 55,000 $ 44,500
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
SUPPLEMENTAL DISCLOSURE OF NONCASH FINANCING ACTIVITIES:
In 1994, non-cash dividends of $24,813,000 were recorded as a reduction in notes
receivable from parent company.
See notes to consolidated financial statements
4
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1. NATURE OF OPERATIONS/SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS
The Company's principal operations consist of property and casualty insurance
and title insurance. The Company's property and casualty insurance business
consists of four principal operations: Reliance National, Reliance Insurance,
Reliance Surety and Reliance Reinsurance. Reliance National offers, through
national and regional brokers and program agents, a broad range of commercial
property and casualty insurance products and services for large companies and
specialty line customers. Reliance National selects market segments where it can
provide specialized coverages and services, and it conducts business nationwide
and in certain international markets. In addition, in 1996, Reliance National
began to offer nonstandard automobile insurance. In 1996, Reliance National
accounted for 45% of the net premiums written by the Company's property and
casualty insurance operations. The Reliance Insurance operation offers, through
independent agents, program agents and brokers, commercial property and casualty
insurance coverages for mid-sized companies primarily throughout the United
States. Reliance Insurance also offers traditional and specialized coverages for
more complex risks as well as insurance programs for groups with common
insurance needs. In 1996, Reliance Insurance accounted for 38% of the net
premiums written by the Company's property and casualty insurance operations.
Reliance Surety is a leading writer of surety bonds and fidelity bonds in the
United States and conducts its business through branch offices, independent
agents and brokers. Reliance Reinsurance offers, through reinsurance brokers,
treaty and facultative reinsurance for small to medium sized regional and
specialty insurance companies located in the United States. The Company's
property and casualty insurance operations accounted for $1,800,854,000 (70%) of
the Company's 1996 net premiums earned.
The Company's title insurance business consists of Commonwealth Land Title
Insurance Company, Transnation Title Insurance Company and their subsidiaries
('Commonwealth/Transnation'). Commonwealth/Transnation writes, through direct
and agency operations, title insurance for residential and commercial real
estate nationwide and provides escrow, appraisal and settlement services in
connection with real estate closings. Commonwealth/Transnation accounted for
$780,157,000 (30%) of the Company's 1996 net premiums earned.
The Company also provides information technology consulting services offering
computer-related professional services to large corporate clients throughout the
United States. Information technology revenues were $136,700,000 in 1996.
Reliance Group Holdings, Inc. owns 100% of the common stock of the Company.
BASIS OF CONSOLIDATION AND PRESENTATION
The consolidated financial statements of the Company include the accounts of all
subsidiaries. The consolidated financial statements have been prepared in
conformity with generally accepted accounting principles. Such statements
include informed estimates and judgments of management for those transactions
that are not yet complete or for which the ultimate effects cannot be precisely
determined. Actual results may differ from these estimates.
All material intercompany balances and transactions have been eliminated in
consolidation.
INSURANCE
The financial statements of the insurance subsidiaries have been prepared in
accordance with generally accepted accounting principles, which differ in
certain respects from those followed in reports to regulatory authorities.
5
<PAGE>
Fixed maturity investments, the vast majority of which are publicly traded
securities, include bonds, notes and redeemable preferred stocks. Fixed maturity
investments classified as 'available for sale' represent securities that will be
held for an indefinite period of time and are carried at quoted market value
with the net unrealized gain or loss included in shareholder's equity. Such
investments may be sold in response to changes in interest rates, future general
liquidity needs and similar factors. Fixed maturity investments classified as
'held for investment' are carried at amortized cost since the Company has the
positive intent and ability to hold these securities to maturity. In 1995, the
Financial Accounting Standards Board issued a special report which permitted a
one-time reassessment of the classification of securities designated held for
investment. Accordingly, the Company reclassified fixed maturity securities with
a market value of $426,442,000 and an amortized cost of $410,395,000 from the
held for investment portfolio into the available for sale portfolio. This
reclassification resulted in an increase in shareholder's equity of $10,431,000.
Investments in equity securities include common stocks, where the Company's
ownership of outstanding voting stock is less than 20%, and nonredeemable
preferred stocks and are carried at quoted market value with the net unrealized
gain or loss included in shareholder's equity. Investments in which the Company
has a 20% to 50% ownership interest of voting stock, or otherwise exercises
significant influence, are reported using the equity method of accounting.
Short-term investments primarily consist of United States government and other
foreign government securities, certificates of deposit and commercial paper
carried at cost which approximates market value. Investments whose declines in
market values are deemed to be other than temporary are written down to market
value. In circumstances where market values are not available, investments are
written down to estimated fair value. In determining estimated fair value of
investments, the Company reviews the issuer's financial condition and the
stability of its income, as well as the discounted cash flow to be received by
the Company. Write-downs and other realized gains and losses, determined on a
specific identification basis, are included in income.
Property and casualty insurance premiums reported as earned represent the
portion of premiums written applicable to the current period, computed on a
pro-rata basis over the terms of the policies in force. Premiums include
estimated audit premiums and estimated premiums on retrospectively rated
policies.
The costs associated with the acquisition of property and casualty business are
deferred and amortized on a straight-line basis over the terms (principally one
year) of the policies in force. Such deferred policy acquisition costs consist
of commissions, premium taxes and other variable policy issuance and
underwriting expenses. Deferred policy acquisition costs are reviewed to
determine that they do not exceed recoverable amounts, including anticipated
investment income.
Property and casualty unpaid claims and related expenses are estimated based on
an evaluation of reported claims in addition to statistical projections of
claims incurred but not reported and loss adjustment expenses. Estimates of
salvage and subrogation are deducted from the liability. The Company applies a
variety of generally accepted actuarial techniques to determine the estimates of
ultimate liability. The process of estimating claims is a complex task and the
ultimate liability may be more or less than such estimates indicate. Adjustments
of the probable ultimate liability, based on subsequent developments, are
included in operations currently.
Direct title insurance premiums and fees are recognized as revenue when policies
become effective. Agency title insurance premiums are recognized as revenue when
reported by the agent. Title insurance claims arise principally from unknown
title defects which exist at the time policies become effective. The reserve for
title losses, which is based on historical and anticipated loss experience,
represents the estimated costs to settle reported claims and claims incurred but
not reported. The process of estimating claims is a complex task and the actual
payments may be more or less than such estimates indicate. Changes in loss
estimates, based on subsequent developments, are included in operations
currently.
6
<PAGE>
INVESTMENTS IN REAL ESTATE
Investments in real estate consist primarily of shopping centers and office
buildings, and are carried at cost (less accumulated depreciation), which
includes real estate taxes, interest and other carrying costs incurred prior to
substantial completion of the real estate development projects. Investments in
real estate at December 31, 1996 include $62,400,000 related to undeveloped land
which is zoned for mixed use development. Depreciation expense is provided using
the straight-line method.
The Company's real estate properties are reviewed for impairment whenever events
or circumstances indicate that the carrying value of such properties may not be
recoverable. In performing the review for recoverability of carrying value, the
Company estimates the future undiscounted cash flows expected to result from the
use of each of its properties and their eventual disposition. These cash flow
projections reflect changes in occupancy, new leases, current rent roll, future
expirations and general market conditions. If the total expected future
undiscounted cash flows are less than the carrying value of such properties,
impairment losses are recognized on a property-by-property basis. An impairment
loss is measured by the amount that the carrying value of the property exceeds
its fair value.
INCOME TAXES
The Company and its domestic subsidiaries, where their ownership is at least 80%
of outstanding voting stock, are included in the consolidated federal income tax
return of Reliance Group Holdings, Inc. The Company provides for deferred income
taxes under the asset and liability method, whereby deferred income taxes result
from temporary differences between the tax bases of assets and liabilities and
their reported amounts in the financial statements. In addition, deferred income
taxes are provided for unrealized appreciation and depreciation on investments
carried at quoted market value.
POSTRETIREMENT BENEFIT PLANS
Retirement pension benefits, covering substantially all employees, are provided
under noncontributory trusteed defined benefit pension plans. Contributions to
the pension plans are based on the minimum funding requirements of the Employee
Retirement Income Security Act of 1974. In addition, the Company sponsors
defined contribution plans covering employees who meet eligibility requirements
and unfunded postretirement medical and life insurance plans for certain
employees of a subsidiary.
TRANSLATION OF FOREIGN CURRENCY FINANCIAL STATEMENTS
Assets and liabilities of foreign subsidiaries are translated at year-end
exchange rates. Results of operations are translated at average rates during the
year. The effects of exchange rate changes in translating foreign financial
statements are excluded from the consolidated statement of income and are
presented as a separate component of shareholder's equity. Exchange gains and
losses resulting from foreign currency transactions are included in operations
currently.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair value of publicly traded financial instruments is determined
by the Company using quoted market prices, dealer quotes and prices obtained
from independent third parties. For financial instruments not publicly traded,
fair values are estimated based on values obtained from independent third
parties or quoted market prices of comparable instruments. However, judgment is
required to interpret market data to develop the estimates of fair value.
Accordingly, the estimates are not necessarily indicative of the amounts that
could be realized in a current market exchange.
7
<PAGE>
The carrying values and fair values of financial instruments are as follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Carrying Fair Carrying Fair
(IN THOUSANDS) Value Value Value Value
------------------------ ------------------------
Assets:
Marketable securities:
Fixed maturities:
Held for investment............................... $ 787,836 $ 801,738 $ 753,563 $ 791,459
Available for sale................................ 2,623,669 2,623,669 2,371,995 2,371,995
Equity securities................................. 716,606 716,606 672,668 672,668
Short-term investments............................ 319,165 319,165 500,284 500,284
Notes receivable from parent company................... 202,272 202,272 184,108 184,108
Investment in investee company......................... 157,894 179,975 156,404 140,529
Liabilities:
Senior reset notes..................................... 15,365 15,365 40,318 40,345
Term loans and short-term debt......................... 224,167 224,167 176,101 176,101
</TABLE>
RECLASSIFICATIONS
Certain reclassifications have been made to the Company's 1995 and 1994
consolidated financial statements to conform with the current year's
consolidated financial statements.
ADOPTION OF NEW ACCOUNTING STANDARDS
In June 1996, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 125, 'Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities.' The adoption of this
Statement, which is not required until 1997, is not expected to have a material
effect on the Company's consolidated financial statements.
Effective January 1, 1995, the Company adopted Statement of Financial Accounting
Standards No. 121, 'Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of.' The adoption of this Statement had no
material effect on the Company's consolidated financial statements.
8
<PAGE>
2. INVESTMENTS
Fixed maturities held for investment at December 31, 1996 consisted of:
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED MARKET UNREALIZED UNREALIZED
COST VALUE GAINS LOSSES(1)
- ----------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands)
Bonds and notes:
Public utilities......... $ 355,567 $ 357,377 $ 4,759 $ 2,949
Foreign government....... 145,065 150,622 6,583 1,026
Corporate bonds and notes
and other.............. 174,386 178,400 6,870 2,856
Redeemable preferred stock.... 112,818 115,339 2,657 136
---------- ---------- ---------- ----------
$ 787,836 $ 801,738 $ 20,869 $ 6,967
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
(1) The amortized cost and market value of fixed maturities held for investment
which have unrealized losses were $242,880,000 and $235,913,000.
Fixed maturities available for sale at December 31, 1996 consisted of:
<TABLE>
<CAPTION>
Gross Gross
Market Amortized Unrealized Unrealized
Value Cost Gains Losses(1)
- ----------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands)
Bonds and notes:
United States government
and government agencies
and authorities........ $ 702,472 $ 704,386 $ 2,928 $ 4,842
States, municipalities
and political
subdivisions........... 132,163 128,874 4,221 932
Public utilities......... 373,389 374,404 5,792 6,807
Corporate bonds and notes
and other.............. 892,091 889,016 31,498 28,423
Redeemable preferred stock.... 523,554 499,249 26,776 2,471
---------- ---------- ---------- ----------
$2,623,669 $2,595,929 $ 71,215 $ 43,475
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
(1) The amortized cost and market value of fixed maturities available for sale
which have unrealized losses were $1,116,139,000 and $1,072,664,000.
Fixed maturities held for investment at December 31, 1995 consisted of:
<TABLE>
<CAPTION>
Gross Gross
Amortized Market Unrealized Unrealized
Cost Value Gains Losses(1)
- ----------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands)
Bonds and notes:
Public utilities......... $ 296,456 $ 309,920 $ 13,470 $ 6
Foreign government....... 133,252 139,042 6,715 925
Corporate bonds and notes
and other.............. 181,849 193,087 11,526 288
Redeemable preferred stock.... 142,006 149,410 7,405 1
---------- ---------- ---------- ----------
$ 753,563 $ 791,459 $ 39,116 $ 1,220
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
(1) The amortized cost and market value of fixed maturities held for investment
which have unrealized losses were $41,358,000 and $40,138,000.
9
<PAGE>
Fixed maturities available for sale at December 31, 1995 consisted of:
<TABLE>
<CAPTION>
Gross Gross
Market Amortized Unrealized Unrealized
Value Cost Gains Losses(1)
- ----------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands)
Bonds and notes:
United States government
and government agencies
and authorities........ $ 685,376 $ 679,007 $ 7,867 $ 1,498
States, municipalities
and political
subdivisions........... 133,093 125,967 7,151 25
Public utilities......... 313,906 305,652 8,900 646
Corporate bonds and notes
and other.............. 868,291 837,060 44,864 13,633
Redeemable preferred stock.... 371,329 351,824 21,445 1,940
---------- ---------- ---------- ----------
$2,371,995 $2,299,510 $ 90,227 $ 17,742
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
(1) The amortized cost and market value of fixed maturities available for sale
which have unrealized losses were $603,568,000 and $585,826,000.
As of December 31, 1996, the contractual maturities of fixed maturity
investments are as follows:
<TABLE>
<CAPTION>
Held for investment Available for sale
----------------------- -----------------------
Amortized Market Amortized Market
Cost Value Cost Value
- ----------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands)
Due within one year........... $ 2,046 $ 2,079 $ 62,538 $ 62,915
Due after one year through
five years.................. 102,270 107,114 537,805 541,773
Due after five years through
ten years................... 315,437 323,020 597,028 599,049
Due after ten years........... 368,083 369,525 1,113,204 1,134,904
---------- ---------- ---------- ----------
787,836 801,738 2,310,575 2,338,641
Mortgage-backed securities.... -- -- 285,354 285,028
---------- ---------- ---------- ----------
$ 787,836 $ 801,738 $2,595,929 $2,623,669
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
Net investment income consisted of:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ----------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Investment income:
Fixed maturities...................... $ 236,093 $ 221,279 $ 218,970
Equity securities..................... 12,990 20,187 27,390
Short-term investments................ 32,244 30,292 9,159
Other................................. 18,652 15,359 14,159
---------- --------- ----------
299,979 287,117 269,678
Investment expenses........................ (12,391) (11,828) (10,766)
---------- --------- ----------
$ 287,588 $ 275,289 $ 258,912
---------- --------- ----------
---------- --------- ----------
</TABLE>
10
<PAGE>
Gain on sales of investments consisted of:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ----------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Fixed maturities (1):
Realized gains........................ $ 15,302 $ 47,764 $ 44,512
Realized losses (2)................... (18,022) (28,406) (28,016)
---------- --------- ----------
(2,720) 19,358 16,496
Equity securities (3)................. 58,296 20,445 8,890
Other (3),(4)......................... (5,966) (10,693) (16,168)
---------- --------- ----------
$ 49,610 $ 29,110 $ 9,218
---------- --------- ----------
---------- --------- ----------
</TABLE>
(1) The Company sold fixed maturities held for investment with an amortized cost
of $26,100,000, $41,000,000 and $18,100,000 in 1996, 1995 and 1994,
respectively. These sales were in response to a significant deterioration in
the issuers' creditworthiness.
(2) Includes realized losses of $600,000, $7,600,000 and $11,600,000 in 1996,
1995 and 1994, respectively, and write-downs of $3,200,000, $15,700,000 and
$10,300,000 in 1996, 1995 and 1994, respectively, related to securities not
rated investment grade.
(3) Gain on sales of equity securities and other in 1996, 1995 and 1994 includes
write-downs of $3,600,000, $1,500,000 and $13,200,000, respectively.
(4) Includes exchange losses of $3,300,000 in 1996 and $10,400,000 in 1995
related to certain foreign currency denominated investments and realized
losses of $14,500,000 in 1994 related to certain foreign currency contracts.
Net unrealized appreciation (depreciation) on investments consisted of:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ----------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Unrealized appreciation (depreciation):
Equity securities..................... $ 15,939 $ 182,507 $ (6,849)
Fixed maturities available for sale... (44,745) 179,092 (193,737)
---------- --------- ----------
(28,806) 361,599 (200,586)
Deferred income tax (provision) benefit.... 9,740 (123,055) 66,684
Net unrealized appreciation (depreciation)
in investments
of investee company...................... (1,504) 8,693 (9,002)
---------- --------- ----------
$ (20,570) $ 247,237 $ (142,904)
---------- --------- ----------
---------- --------- ----------
Unrealized appreciation (depreciation) on
fixed maturities
held for investment...................... $ (23,994) $ 150,365 $ (148,939)
---------- --------- ----------
---------- --------- ----------
</TABLE>
11
<PAGE>
Net unrealized gain (loss) on investments consisted of:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995 1994
- ---------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Equity securities:
Unrealized gains......... $ 293,269 $ 276,760 $ 114,231
Unrealized losses........ (12,716) (12,146) (32,124)
---------- ---------- ----------
280,553 264,614 82,107
---------- ---------- ----------
Fixed maturities available for
sale:
Unrealized gains......... 71,215 90,227 38,507
Unrealized losses........ (43,475) (17,742) (145,114)
---------- ---------- ----------
27,740 72,485 (106,607)
---------- ---------- ----------
308,293 337,099 (24,500)
Deferred income tax
(provision) benefit......... (108,262) (118,002) 5,053
Net unrealized gain (loss) in
investments of investee
company..................... (1,245) 259 (8,434)
---------- ---------- ----------
$ 198,786 $ 219,356 $ (27,881)
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
Fixed maturity investments carried at $553,600,000 at December 31, 1996 were on
deposit under requirements of regulatory authorities, including deposits related
to workers' compensation reinsurance pools.
Investments in a single issuer, other than obligations of the United States
government, whose aggregate carrying value is in excess of 10% of the Company's
shareholder's equity at December 31, 1996 is comprised of common stock of Symbol
Technologies, Inc. with a carrying and market value of $158,355,000.
3. INVESTMENT IN INVESTEE COMPANY
Investment in investee company at December 31, 1996 and 1995 was $157,894,000
and $156,404,000 which represents the Company's investment in Zenith National
Insurance Corp. ('Zenith'). Equity income in Zenith was $8,908,000, $7,792,000
and $9,478,000 for the years ended December 31, 1996, 1995 and 1994,
respectively. In addition, in 1995, the Company recognized an after-tax loss of
$4,497,000 on the disposal of discontinued life insurance operations by Zenith.
The Company's prior period results of operations were not reclassified since
amounts attributable to Zenith's life insurance operations were not significant.
Dividends received by the Company from Zenith were $6,574,000 for each of the
years ended December 31, 1996, 1995 and 1994.
Summarized financial information for Zenith is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ---------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands, except
per-share amounts)
Revenues...................... $ 556,371 $ 519,020 $ 512,455
Income from continuing
operations before income
taxes....................... 57,117 29,422 45,106
Loss on disposal of
discontinued life insurance
operations.................. -- (19,553) --
Net income.................... 37,600 6,600 37,900
Net income per-share.......... 2.11 .36 1.99
<CAPTION>
DECEMBER 31 1996 1995
- ---------------------------------------------------------------------
<S> <C> <C>
(In thousands, except
percentage of ownership)
Total assets............................... $1,242,724 $1,115,433
Senior notes............................... 74,353 74,232
Common shareholders' equity................ 337,503 330,432
Percentage of ownership.................... 37.4% 37.0%
</TABLE>
12
<PAGE>
The Company's equity in net income includes amortization of excess of cost over
fair value of net assets acquired. At December 31, 1996, retained earnings
included undistributed net income of $30,146,000 from Zenith.
4. PREMIUMS AND OTHER ACCOUNTS RECEIVABLE
As of December 31, 1996 and 1995, the Company sold with limited recourse
$97,200,000 and $122,400,000 of reinsurance recoverables and premiums receivable
relating to its insurance operations. Pursuant to these recourse provisions, the
maximum amount, at December 31, 1996, that the Company may be obligated to
repurchase is $7,500,000.
5. NOTES RECEIVABLE FROM PARENT COMPANY
The notes receivable from parent company, Reliance Group Holdings, Inc., bear
interest at rates sufficient to cover the annual interest expense of the Company
for such funds and are due at various dates commencing June 1, 2000.
6. INCOME TAXES
Federal income tax has been computed as if the Company filed a separate
consolidated tax return with its domestic subsidiaries where their ownership is
at least 80% of outstanding voting stock. The current tax so computed is paid to
or due from Reliance Group Holdings, Inc.
Provision for income taxes consisted of:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ---------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Current:
Federal.................. $ 35,150 $ 54,862 $ 52,666
Foreign.................. 7,888 6,830 6,204
---------- ---------- ----------
43,038 61,692 58,870
Deferred federal.............. 6,662 21,208 (10,888)
---------- ---------- ----------
$ 49,700 $ 82,900 $ 47,982
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
Domestic and foreign income before income taxes and equity in investee company
is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ---------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Domestic...................... $ 157,756 $ 235,869 $ 158,544
Foreign....................... 22,537 19,514 18,498
---------- ---------- ----------
$ 180,293 $ 255,383 $ 177,042
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
The reconciliation of taxes computed at the statutory rate of 35% to the
provision for income taxes is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ---------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Tax provision at statutory
rate........................ $ 63,103 $ 89,384 $ 61,965
Nontaxable investment
income...................... (14,403) (13,405) (13,989)
Increase in valuation
allowance................... 2,400 7,000 --
Other......................... (1,400) (79) 6
---------- ---------- ----------
Provision for income taxes.... $ 49,700 $ 82,900 $ 47,982
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
13
<PAGE>
The tax effects of items comprising the Company's net deferred tax asset are as
follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995
- ---------------------------------------------------------------------
<S> <C> <C>
(In thousands)
Deferred tax assets:
Discounting of loss reserves.......... $ 195,442 $ 200,907
Tax basis differential of subsidiary
not included in
consolidated tax return........... 111,815 111,815
Operating loss carryforwards of
subsidiary not included
in consolidated tax return........ 61,110 57,925
Unearned premium reserve.............. 43,063 40,354
Accruals not currently deductible..... 40,933 42,569
Other................................. 61,055 62,681
---------- ----------
513,418 516,251
Deferred tax liabilities:
Deferred policy acquisition costs..... 75,062 67,785
Unrealized investment gains........... 108,262 118,002
Investment in investee company........ 21,098 20,576
Other................................. 74,747 81,378
---------- ----------
234,249 228,510
Valuation allowance........................ (168,559) (165,803)
---------- ----------
Net deferred tax asset..................... $ 65,690 $ 62,707
---------- ----------
---------- ----------
</TABLE>
For the years ended December 31, 1996 and 1995, the Company's valuation
allowance and income tax provision were increased by $2,400,000 and $7,000,000
relating primarily to deferred tax assets of a subsidiary that is not included
in the consolidated tax return for which it is likely that tax benefits will not
be realized.
At December 31, 1996, a subsidiary of the Company, not included in the
consolidated tax return, had available net operating loss carryforwards ('NOL')
of approximately $174,600,000, of which $129,700,000 is subject to a valuation
allowance. For federal income tax purposes, approximately $129,300,000 expires
in 2001, $17,000,000 in 2002, $17,000,000 in 2004, $2,200,000 in 2010 and
$9,100,000 in 2011. The Internal Revenue Code imposes limitations on the
availability of these NOL's since the subsidiary experienced a more than 50
percentage point ownership change in 1989. The amount of the NOL incurred prior
to the ownership change which can be utilized in each subsequent year is limited
(the 'Loss Limitation') based on the value of the subsidiary on the date of the
ownership change. The annual Loss Limitation approximates $25,000,000.
The Internal Revenue Service is currently examining Reliance Group Holdings,
Inc.'s 1986 through 1991 federal income tax returns. While the outcome of the
current examinations is uncertain, the Company does not believe it is probable
that its additional tax liability, if any, will have a material adverse effect
on its consolidated financial statements.
14
<PAGE>
7. UNPAID CLAIMS AND RELATED EXPENSES
The reconciliation of the beginning to ending liability for unpaid claims and
related expenses ('loss reserves') for the Company's property and casualty
insurance operations is as follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995 1994
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Loss reserves, beginning of year........ $5,859,352 $5,581,483 $5,048,442
Less reinsurance recoverables...... 2,679,917 2,453,702 2,116,914
---------- ---------- ----------
Net loss reserves, beginning of year.... 3,179,435 3,127,781 2,931,528
---------- ---------- ----------
Provision for policy claims and related
expenses:
Provision for insured events of the
current year....................... 1,211,672 1,163,447 1,274,649
Increase in provision for insured
events of prior years.............. 138,665 38,512 22,444
---------- ---------- ----------
Total provision............... 1,350,337 1,201,959 1,297,093
---------- ---------- ----------
Payments for policy claims and related
expenses:
Attributable to insured events of
the current year................... 298,838 271,915 321,538
Attributable to insured events of
prior years........................ 926,996 868,622 780,961
---------- ---------- ----------
Total payments................ 1,225,834 1,140,537 1,102,499
---------- ---------- ----------
Foreign currency translation............ 7,668 (9,768) 1,659
---------- ---------- ----------
Net loss reserves, end of year.......... 3,311,606 3,179,435 3,127,781
Plus reinsurance recoverables...... 2,953,814 2,679,917 2,453,702
---------- ---------- ----------
Loss reserves, end of year.............. $6,265,420 $5,859,352 $5,581,483
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
The provision for insured events of prior years for 1996, 1995 and 1994 includes
adverse development related to asbestos-related and environmental pollution
claims, which primarily affect general liability, multiple peril and reinsurance
lines of business, and includes a pretax charge of $134,000,000 in the second
quarter of 1996 to increase net loss reserves for asbestos-related and
environmental pollution claims for business written in or before 1987. The 1996
provision also includes adverse development in the automobile line, offset by
favorable development in workers' compensation. The 1995 provision also included
adverse development in other general liability, automobile and reinsurance
lines, partially offset by favorable development in workers' compensation. The
1994 provision also included adverse development in other general liability
lines, partially offset by favorable development in workers' compensation.
At December 31, 1996 and 1995, loss reserves include $396,700,000 and
$400,200,000 relating to short-duration contracts which are expected to have
fixed, periodic payment patterns and have been discounted to present values
using statutory annual rates ranging from 3 1/2% to 6%.
15
<PAGE>
The reconciliation of the beginning to ending loss reserves for the Company's
title insurance operations is as follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995 1994
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Loss reserves, beginning of year........ $ 240,777 $ 228,063 $ 204,695
---------- ---------- ----------
Provision for policy claims and related
expenses:
Provision for insured events of the
current year....................... 59,771 57,900 71,060
Increase in provision for insured
events of prior years.............. 1,345 586 4,807
---------- ---------- ----------
Total provision............... 61,116 58,486 75,867
---------- ---------- ----------
Payments for policy claims and related
expenses:
Attributable to insured events of
the current year................... 1,755 2,187 4,475
Attributable to insured events of
prior years........................ 35,300 43,585 48,024
---------- ---------- ----------
Total payments................ 37,055 45,772 52,499
---------- ---------- ----------
Loss reserves, end of year.............. $ 264,838 $ 240,777 $ 228,063
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
The reconciliation of the beginning to ending net loss reserves for business
written in or before 1987 pertaining to asbestos-related and environmental
pollution claims is as follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995 1994
<S> <C> <C> <C>
- -------------------------------------------------------------------------------
(In thousands)
Net loss reserves, beginning of year.... $ 101,008 $ 100,404 $ 97,040
Provision for policy claims and related
expenses.............................. 135,801 23,547 17,996
Payments for policy claims and related
expenses.............................. (23,762) (22,943) (14,632)
---------- ---------- ----------
Net loss reserves, end of year.......... $ 213,047 $ 101,008 $ 100,404
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
The 1996 provision for policy claims and related expenses includes a pretax
charge of $134,000,000 to increase net loss reserves for asbestos-related and
environmental pollution claims for business written in or before 1987. In the
second quarter of 1996, the Company completed a study of its asbestos-related
and environmental pollution reserves. The study entailed a detailed review of
the Company's claims, analysis of new industry data, review of policies and
classes of business written by the Company and industry at large, and new
actuarial methodologies for projecting ultimate losses based on payment patterns
and claims analyses. The loss reserve levels established represent the Company's
estimate of its ultimate losses, based on current information and actuarial
methodologies.
Included in the December 31, 1996 net loss reserves for business written in or
before 1987 pertaining to asbestos-related and environmental pollution claims
are $78,184,000 of loss costs for claims incurred but not reported, $49,245,000
of loss costs for reported claims and $85,618,000 of related expenses.
For business written in or before 1987, the number of insureds with asbestos-
related and environmental pollution claims outstanding is as follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995
- ------------------------------------------------------------------
<S> <C> <C>
Number of insureds with outstanding
claims, beginning of year............. 447 477
Additional insureds with claims during
the year.............................. 153 188
Insureds with closed or settled claims
during the year....................... (252) (218)
---------- ----------
Number of insureds with outstanding
claims, end of year................... 348 447
---------- ----------
---------- ----------
</TABLE>
For business written in or before 1987, the average net paid loss for asbestos-
related and environmental pollution claims was $50,200 and $61,100 for the years
1996 and 1995.
16
<PAGE>
In addition, the Company currently underwrites policies covering asbestos
removal and provides environmental pollution coverages for other insureds,
primarily on a claims made basis. The net loss reserves for these policies as of
December 31, 1996, 1995 and 1994 were $27,764,000, $29,698,000 and $29,739,000,
respectively. The provisions for these policy claims and related expenses for
the years 1996, 1995 and 1994 were $5,857,000, $2,357,000 and $10,283,000,
respectively, and related payments were $7,791,000, $2,398,000 and $5,538,000,
respectively. Included in the December 31, 1996 net loss reserves for these
policies are $13,154,000 of loss costs for claims incurerd but not reported,
$4,282,000 of loss costs for reported claims and $10,328,000 of related
expenses. The number of outstanding claims related to these policies as of
December 31, 1996 and 1995 were 474 and 303. Additional claims reported during
the years 1996 and 1995 were 385 and 275, and claims closed or settled during
1996 and 1995 were 214 and 161. The average net paid loss for these claims was
$20,500 and $5,600 for the years 1996 and 1995.
8. SENIOR RESET NOTES, TERM LOANS AND SHORT-TERM DEBT
Senior reset notes outstanding are as follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995
- ------------------------------------------------------------------
<S> <C> <C>
(Dollars in thousands)
7.866% senior reset notes due 2000...... $ 15,365 $15,365
9.48% senior reset notes due 2000;
($25,000 principal amount, less
unamortized discount of $47 at
December 31, 1995).................... -- 24,953
---------- ----------
$ 15,365 $40,318
---------- ----------
---------- ----------
</TABLE>
At December 31, 1996, term loans and short-term debt aggregated $224,167,000 and
consisted of $218,488,000 of term loans which are payable in varying amounts
through 2015 with interest rates ranging from 3.0% to 9.6% and $5,679,000 of
short-term debt. The weighted average interest rate on term loans and short-term
debt was 6.2% and 6.8% at December 31, 1996 and 1995.
Maturities of term loans and short-term debt for each of the next five years
are as follows: $6,627,000 in 1997; $4,489,000 in 1998; $50,767,000 in 1999;
$148,267,000 in 2000; and $1,467,000 in 2001.
The Company has a revolving credit facility and term loan agreement with various
banks ('Credit Facility'). In 1995, the Company extended its revolving credit
facility through March 31, 2000 from December 31, 1998. In addition, the Company
increased term loan borrowings to $137,500,000 from $62,500,000 and extended the
maturity dates of the term loan borrowings through March 31, 2000. The
additional $75,000,000 of borrowings under the term loan were used, in part, to
redeem $25,000,000 of the 7.866% senior reset notes and $25,000,000 of the 9.48%
senior reset notes, including $9,652,000 of notes held by Reliance Insurance
Company. These transactions resulted in an extraordinary loss of $3,363,000, net
of income taxes of $1,811,000, in 1995. In addition, all of the outstanding
shares of redeemable preferred stock of Reliance Insurance Company, which had a
carrying value of $23,517,000, were redeemed. The cost of the early redemption
in excess of the carrying value of the preferred stock, $252,000, was charged
directly to shareholder's equity in 1995. On November 8, 1996, the Company
increased term loan borrowings by an additional $25,000,000 to $162,500,000. The
additional borrowings were used to redeem all outstanding ($25,000,000 principal
amount) 9.48% senior reset notes.
The revolving credit facility provides for aggregate maximum outstanding
borrowings of $100,000,000. At the Company's option, all borrowings under the
revolving credit facility will bear interest at a floating rate based on a bank
reference rate (or, if higher, the Federal Funds rate plus 1/2%) or at a rate
based on the Eurodollar rate. At December 31, 1996, borrowings aggregating
$35,000,000 were outstanding under this facility. All of the common stock of
Reliance Insurance Company, the principal subsidiary of the Company, has been
pledged to secure the Credit Facility and the senior reset notes.
The Company's dividends are subject to provisions of the senior reset notes.
These provisions are less restrictive than the provisions in the Credit Facility
which requires, among other things, a minimum net worth requirement and a
limitation of indebtedness. At February 14, 1997, the Company could pay up to
$288,300,000 in cash dividends without violating the most restrictive
provisions.
17
<PAGE>
9. DIVIDENDS OF SUBSIDIARIES
The Insurance Law of Pennsylvania, where Reliance Insurance Company (the
Company's principal property and casualty insurance subsidiary) is domiciled,
limits the maximum amount of dividends which may be paid without approval by the
Pennsylvania Insurance Department. Under such law, Reliance Insurance Company
may pay dividends during the year equal to the greater of (a) 10% of the
preceding year-end policyholders' surplus or (b) the preceding year's statutory
net income, but in no event to exceed the amount of unassigned funds, which are
defined as 'undistributed, accumulated surplus including net income and
unrealized gains since the organization of the insurer.' In addition, the
Pennsylvania law specifies factors to be considered by the Pennsylvania
Insurance Department to allow it to determine that statutory surplus after the
payment of dividends is reasonable in relation to an insurance company's
outstanding liabilities and adequate for its financial needs. Such factors
include the size of the company, the extent to which its business is diversified
among several lines of insurance, the number and size of risks insured, the
nature and extent of the company's reinsurance and the adequacy of the company's
reserves. The maximum dividend permitted by law is not indicative of an
insurer's actual ability to pay dividends, which may be constrained by business
and regulatory considerations, such as the impact of dividends on surplus, which
could affect an insurer's ratings, competitive position, the amount of premiums
that can be written and the ability to pay future dividends. Furthermore, the
Pennsylvania Insurance Department has broad discretion to limit the payment of
dividends by insurance companies.
Common stock dividends paid by Reliance Insurance Company were $111,467,000 in
each of 1996, 1995 and 1994. During 1997, $118,500,000 would be available for
dividend payments by Reliance Insurance Company under Pennsylvania law. The
Company believes such amount will be sufficient to meet its cash needs.
There is no assurance that Reliance Insurance Company will meet the tests in
effect from time to time under Pennsylvania law for the payment of dividends
without prior Insurance Department approval or that any requested approval will
be obtained. Reliance Insurance Company has been advised by the Pennsylvania
Insurance Department that any required prior approval will be based upon a
solvency standard and will not be unreasonably withheld. Any significant
limitation of Reliance Insurance Company's dividends would adversely affect the
Company's ability to service its debt and to pay dividends on its common stock.
10. REINSURANCE
In the normal course of business, the property and casualty insurance companies
assume and cede reinsurance on both a pro-rata and excess basis. Reinsurance
provides greater diversification of business and limits the maximum net loss
potential arising from large claims. Although the ceding of reinsurance does not
discharge an insurer from its primary legal liability to a policyholder, the
reinsuring company assumes the related liability.
Amounts recoverable from reinsurers are estimated in a manner consistent with
the liability for unpaid claims and related expenses associated with the
reinsurance. Estimated amounts of reinsurance recoverables are reported as
assets in the accompanying consolidated balance sheet. As of December 31, 1996
and 1995, reinsurance recoverables include $596,743,000 and $472,925,000 of
prepaid reinsurance premiums which represents the portion of property and
casualty premiums ceded to reinsurers applicable to unearned premiums.
18
<PAGE>
The reconciliation of property and casualty insurance direct premiums to net
premiums is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ----------------------------------------------------------------------------------------------------------------------
(In thousands)
Premiums Premiums Premiums Premiums Premiums Premiums
Written Earned Written Earned Written Earned
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Direct.................................. $3,070,944 $2,894,096 $2,748,439 $2,707,978 $2,654,437 $2,630,549
Assumed................................. 329,318 356,489 325,226 350,636 330,261 345,398
Ceded................................... (1,554,063) (1,449,731) (1,294,625) (1,284,023) (1,220,408) (1,198,629)
---------- ---------- ---------- ---------- ---------- ----------
Net premiums............................ $1,846,199 $1,800,854 $1,779,040 $1,774,591 $1,764,290 $1,777,318
---------- ---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ---------- ----------
</TABLE>
The reconciliation of property and casualty insurance gross policy claims and
settlement expenses to net policy claims and settlement expenses is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Gross................................................................ $2,262,809 $1,987,055 $2,220,285
Reinsurance recoveries............................................... (912,472) (785,096) (923,192)
---------- ---------- ----------
Net policy claims and settlement expenses............................ $1,350,337 $1,201,959 $1,297,093
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
For the year ended December 31, 1996, gross policy claims and settlement
expenses include a charge of $134,500,000 and net policy claims and settlement
expenses include a charge of $134,000,000 to increase property and casualty
insurance loss reserves for asbestos-related and environmental pollution claims
for business written in or before 1987.
The Company holds substantial amounts of funds and letters of credit as
collateral pursuant to recoverables from unauthorized reinsurers. The Company is
not aware of any impairment of the creditworthiness of any of its significant
reinsurers.
<TABLE>
Reliance Insurance Company's ten largest reinsurers, based on 1996 ceded
premiums, are as follows:
- --------------------------------------------------------------------------------
<S> <C>
(In thousands)
American Re-Insurance Company....................................... $ 133,324
Hertz International Reinsurance Ltd................................. 63,259
Swiss Reinsurance America Corporation............................... 56,455
Commercial Risk Re-Insurance Company................................ 46,512
Zurich Reinsurance Centre, Inc...................................... 45,954
General Reinsurance Corporation..................................... 45,280
Kemper Reinsurance Company.......................................... 43,547
Everest Reinsurance Company......................................... 33,485
Lloyd's of London................................................... 30,827
Cedar Hill Assurance Company........................................ 30,755
</TABLE>
The Company has entered into aggregate excess of loss reinsurance agreements.
These agreements indemnify the Company for ultimate net property and casualty
insurance losses in excess of a specified retention for the 1995 and 1996
accident years up to a maximum aggregate limit of $100,000,000 for each year. No
premiums or losses have been ceded under these agreements.
11. OTHER INSURANCE EXPENSES
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Salaries and commissions................................................ $ 630,777 $ 563,680 $ 704,254
Taxes, other than income taxes.......................................... 41,564 48,603 34,849
Rent.................................................................... 61,305 55,848 54,863
Policyholders' dividends................................................ 3,158 7,065 2,630
Other................................................................... 175,866 150,967 163,308
----------- ----------- -----------
$ 912,670 $ 826,163 $ 959,904
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
19
<PAGE>
12. POSTRETIREMENT BENEFIT PLANS
Retirement benefits under the Company's noncontributory trusteed defined benefit
pension plans are paid to eligible employees based primarily on years of service
and compensation. Plan assets principally consist of corporate and government
debt securities and 1,247,400 shares of Reliance Group Holdings, Inc. common
stock.
Pension cost includes the following components:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Service cost--benefits earned during the period............................. $ 10,755 $ 7,959 $ 10,255
Interest cost on projected benefit obligation............................... 15,006 13,689 12,941
Actual return on plan assets................................................ (7,889) (28,748) 8,920
Net amortization and deferral............................................... (10,731) 13,303 (26,252)
-------- --------- ---------
$ 7,141 $ 6,203 $ 5,864
-------- --------- ---------
-------- --------- ---------
</TABLE>
A reconciliation of the funded status of the plans with the accrued pension cost
included in accounts payable and accrued expenses is as follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C>
(In thousands)
Actuarial present value of benefit obligation:
Vested............................................................................. $ 165,359 $ 158,753
Nonvested.......................................................................... 7,504 9,971
--------- ---------
Accumulated benefit obligation.......................................................... 172,863 168,724
Effect of anticipated future compensation levels........................................ 32,781 36,022
--------- ---------
Projected benefit obligation............................................................ 205,644 204,746
Plan assets at market value............................................................. (175,438) (164,877)
--------- ---------
Projected benefit obligation in excess of plan assets................................... 30,206 39,869
Unrecognized net asset at date of adoption.............................................. 6,835 8,455
Unrecognized net loss................................................................... (13,277) (25,166)
--------- ---------
Accrued pension cost.................................................................... $ 23,764 $ 23,158
--------- ---------
--------- ---------
</TABLE>
Contributions under the Company's noncontributory trusteed defined benefit
pension plans were $6,535,000 and $3,391,000 in 1996 and 1994. No contributions
were made during 1995.
The assumptions used to measure the projected benefit obligation at December 31,
1996 and 1995 include a discount rate of 8.0% and 7.5% and a weighted average
rate of compensation increase of 4.0% and 4.5%. The expected long-term
investment rate of return on plan assets for the years ended December 31, 1996
and 1995 was 10.0% and 9.5%.
Contributions under the Company's defined contribution plans were $5,727,000,
$4,105,000 and $5,095,000 in 1996, 1995 and 1994, respectively, and were based
on a formula specified in the plan agreements.
The Company offers unfunded postretirement medical and life insurance plans to
certain employees of a subsidiary. Postretirement benefit cost includes the
following components:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Service cost--benefits earned during the period............................. $ 168 $ 167 $ 226
Interest cost on accumulated postretirement benefit obligation.............. 622 713 715
Net amortization and deferral............................................... 754 624 790
-------- --------- ---------
$ 1,544 $ 1,504 $ 1,731
-------- --------- ---------
-------- --------- ---------
</TABLE>
20
<PAGE>
The components of the accumulated postretirement benefit obligation are as
follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C>
(In thousands)
Accumulated postretirement benefit obligation:
Retirees........................................................................... $ 5,020 $ 5,597
Other active plan participants..................................................... 3,241 3,618
--------- ---------
Accumulated benefit obligation.......................................................... 8,261 9,215
Unrecognized net gain................................................................... 671 92
Unrecognized transition obligation...................................................... (7,204) (7,963)
--------- ---------
Accrued postretirement benefit cost..................................................... $ 1,728 $ 1,344
--------- ---------
--------- ---------
</TABLE>
The assumed health care cost trend rate used in measuring the accumulated
postretirement benefit obligation as of December 31, 1996 was 10.0% for 1997
decreasing until it reaches 6.0% in 2007, after which it remains constant. A
one-percentage-point change in the assumed health care cost trend rate for each
year would change the accumulated postretirement benefit obligation as of
December 31, 1996 and the 1996 net postretirement health care cost by
approximately 3.0% and 1.8%. The assumed discount rate used in determining the
accumulated postretirement benefit obligation at December 31, 1996 and 1995 was
8.0% and 7.5%.
13. STATUTORY INFORMATION
Statutory net income is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
Property and casualty insurance operations................................ $121,665 $ 225,989 $ 123,970
Title insurance operations................................................ 40,094 12,439 32,421
</TABLE>
Statutory policyholders' surplus is as follows:
<TABLE>
<CAPTION>
DECEMBER 31 1996 1995
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C>
(In thousands)
Property and casualty insurance operations (1)........................................ $1,187,056 $1,128,336
Title insurance operations............................................................ 199,587 182,167
</TABLE>
(1) Includes Reliance Insurance Company's investment in title insurance
operations. Also reflects a reduction in statutory loss reserves of
$93,700,000 and $98,800,000 at December 31, 1996 and 1995, representing
discounts of workers' compensation reserves in excess of GAAP discounts.
14. CONTINGENCIES AND COMMITMENTS
LEGAL PROCEEDINGS
The Company and its subsidiaries are involved in certain litigation arising in
the course of their businesses, some of which involve claims of substantial
amounts. Although the ultimate outcome of these matters cannot be ascertained at
this time, and the results of legal proceedings cannot be predicted with
certainty, the Company is contesting the allegations of the complaints in each
pending action against it and believes, based on current knowledge and after
consultation with counsel, that the resolution of these matters will not have a
material adverse effect on the con-
solidated financial statements of the Company. In addition, the Company is
subject to the litigation set forth below.
In March 1987, the Superintendent of Insurance of New York (the
'Superintendent'), as liquidator of Union Indemnity Insurance Company of New
York ('Union Indemnity'), formerly a wholly-owned subsidiary of Frank B. Hall &
Co. Inc. ('Hall') which the Superintendent took possession of in 1985, commenced
an action in the Supreme Court of the State of New York seeking damages of not
less than $140,000,000 against Hall, various subsidiaries of Hall, Hall's and
Union Indemnity's independent auditors and certain individuals who were former
officers and directors of Union Indemnity. The Superintendent sought to hold the
defendants liable for the insolvency of Union Indemnity alleging, among other
claims, that Hall breached fiduciary and other duties owed to Union Indemnity
and violated provisions of the New York State Insurance Code, that Union
Indemnity did not
21
<PAGE>
have a separate operating identity, and that Hall and the Hall subsidiaries
named as defendants constituted a single enterprise which was liable for Union
Indemnity's obligations to its policyholders and other creditors.
In July 1987, American Centennial Insurance Company, International Fidelity
Insurance Company, and Ranger Insurance Company (the 'American Centennial
Plaintiffs') commenced an action in the Supreme Court of the State of New York
against Hall, two subsidiaries of Hall, and certain individuals who were former
officers and directors of Union Indemnity seeking to hold the defendants liable
for certain alleged reinsurance obligations of Union Indemnity, certain
misrepresentations concerning Union Indemnity's financial position and the
breach of certain duties owed to the American Centennial Plaintiffs. The
American Centennial Plaintiffs sought damages of at least $54,900,000 and
punitive damages against all defendants.
The action brought by the Superintendent was settled by an agreement, dated June
2, 1989, under which Hall, now known as Prometheus Funding Corp. ('Prometheus'),
will make an initial payment of $19,000,000 and additional payments aggregating
$29,000,000 over a ten-year period without interest as follows: $1,500,000 each
in years one and two; $2,000,000 each in years three and four; $5,000,000 in
year five; $4,500,000 each in years six and seven; $4,000,000 in year eight; and
$2,000,000 each in years nine and ten. The settlement agreement provides for the
entry of an order by the court barring other claims against Hall relating to
Union Indemnity, including the claims by the American Centennial Plaintiffs
described above. The settlement agreement was submitted to the court for
approval in October 1989 and objections were filed and continue to be pursued by
various parties. The Superintendent has informed Prometheus that he intends to
pursue court approval of the settlement. The settlement agreement will not
become effective until final approval by the court and there is no assurance
that such approval will be obtained. Prometheus has recorded a reserve of
$36,000,000 representing the initial payment of $19,000,000 and the present
value of the additional remaining annual payments over a ten-year period.
Prometheus has received an aggregate of $20,000,000 in insurance proceeds in
connection with this matter from its insurance carrier.
COMMITMENTS
A subsidiary of Reliance Insurance Company, Saul P. Steinberg and other
executives of the Company are partners in a partnership which owns
certain real estate properties. At December 31, 1996, the partnership's
total outstanding debt was $172,167,000. As of December 31, 1996, the
Company guaranteed $38,000,000 of the partnership's outstanding debt
which matures on June 30, 1997. The Company believes that, to the extent
such debt cannot be fully refinanced at maturity, the partnership will
seek additional financing from other sources, which may include the
Company. The Company receives a fee of .5% per annum on the average
outstanding debt covered by the guarantee. Reliance Group Holdings,
Inc. has issued a line of credit to the partnership in the amount of
$13,000,000. Borrowings under the line of credit mature on June 30,
2005 and bear a fixed interest rate of 10%. At December 31, 1996,
borrowings of $9,829,000 were outstanding under the line of credit.
LEASE COMMITMENTS
The Company and its subsidiaries lease certain office facilities and equipment
under lease agreements that expire at various dates through 2011. Rent expense
for the years ended December 31, 1996, 1995 and 1994 was $93,700,000,
$92,300,000 and $92,400,000, respectively.
At December 31, 1996, future net minimum rental payments required under
noncancelable leases are as follows:
<TABLE>
- ---------------------------------------------------------
<S> <C>
(In thousands)
1997.......................................... $ 60,947
1998.......................................... 45,540
1999.......................................... 37,739
2000.......................................... 17,703
2001.......................................... 10,482
2002 and thereafter........................... 21,642
--------
$194,053
--------
--------
</TABLE>
22
<PAGE>
15. BUSINESS SEGMENT INFORMATION
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 1996 1995 1994
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(In thousands)
REVENUES:
Property and casualty insurance:
Premiums earned................................................. $ 1,800,854 $1,774,591 $1,777,318
Net investment income........................................... 257,133 247,343 232,299
Gain on sales of investments.................................... 49,264 27,381 8,702
----------- ---------- ----------
2,107,251 2,049,315 2,018,319
----------- ---------- ----------
Title insurance:
Premiums earned................................................. 780,157 671,947 856,774
Net investment income........................................... 30,455 27,946 26,613
Gain on sales of investments.................................... 346 1,729 516
----------- ---------- ----------
810,958 701,622 883,903
----------- ---------- ----------
Other................................................................ 186,820 171,159 156,473
----------- ---------- ----------
$ 3,105,029 $2,922,096 $3,058,695
----------- ---------- ----------
----------- ---------- ----------
INCOME BEFORE INCOME TAXES AND EQUITY IN INVESTEE COMPANY:
Property and casualty insurance
Underwriting (1)................................................ $ (172,387) $ (45,644) $ (97,343)
Net investment income........................................... 257,133 247,343 232,299
Gain on sales of investments.................................... 49,264 27,381 8,702
----------- ---------- ----------
134,010 229,080 143,658
----------- ---------- ----------
Title insurance...................................................... 38,580 14,012 31,326
----------- ---------- ----------
Other................................................................ 7,703 12,291 2,058
----------- ---------- ----------
$ 180,293 $ 255,383 $ 177,042
----------- ---------- ----------
----------- ---------- ----------
IDENTIFIABLE ASSETS AT YEAR-END:
Property and casualty insurance...................................... $ 9,639,186 $9,100,210 $8,541,019
Title insurance...................................................... 614,440 572,267 550,160
Other................................................................ 256,994 223,443 246,586
----------- ---------- ----------
$10,510,620 $9,895,920 $9,337,765
----------- ---------- ----------
----------- ---------- ----------
</TABLE>
(1) The 1996 results include a charge of $134,000,000 to increase net loss
reserves for asbestos-related and environmental pollution claims for
business written in or before 1987.
Income before income taxes and equity in investee company relating to property
and casualty insurance underwriting has been reduced by policyholders' dividends
and other income and expense. Income before income taxes and equity in investee
company by segment is before allocation of corporate interest expense. The
pre-tax results of RCG International, Inc. (a subsidiary of the property and
casualty insurance operations) are included in Other.
Identifiable assets by industry segment are those assets which are used in the
Company's operations in each segment.
23
<PAGE>
16. QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
<CAPTION>
1996 Quarter
- ----------------------------------------------------------------------------------------------------------------
First Second Third Fourth
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands)
REVENUES:
Premiums earned.......................................... $ 609,867 $ 636,752 $ 661,980 $ 672,412
Net investment income.................................... 70,717 70,443 72,040 74,388
Gain on sales of investments............................. 4,468 18,936 16,542 9,664
Interest income from parent company...................... 4,954 5,144 5,437 5,677
Other.................................................... 37,549 40,048 41,608 46,403
---------- ---------- ---------- ----------
$ 727,555 $ 771,323 $ 797,607 $ 808,544
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
NET INCOME (LOSS)(1)..................................... $ 45,407 $ (25,677) $ 60,257 $ 59,514
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
(1) Includes a second quarter after-tax charge of $87,100,000 to increase net
loss reserves for asbestos-related and environmental pollution claims for
business written in or before 1987.
<TABLE>
<CAPTION>
1995 Quarter
- ----------------------------------------------------------------------------------------------------------------
First Second Third Fourth
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
(In thousands)
Revenues:
Premiums earned.......................................... $ 604,666 $ 599,957 $ 618,831 $ 623,084
Net investment income.................................... 69,378 66,362 68,727 70,822
Gain on sales of investments............................. 8,286 7,669 10,187 2,968
Interest income from parent company...................... 4,917 5,362 5,166 4,963
Other.................................................... 37,817 40,657 36,512 35,765
---------- ---------- ---------- ----------
$ 725,064 $ 720,007 $ 739,423 $ 737,602
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Income from continuing operations........................ $ 44,402 $ 46,386 $ 50,464 $ 39,023
Loss on disposal of discontinued operations of investee
company................................................ -- -- (4,497) --
---------- ---------- ---------- ----------
Income before extraordinary item......................... 44,402 46,386 45,967 39,023
Extraordinary item--early extinguishment of debt......... -- (3,363) -- --
---------- ---------- ---------- ----------
Net income............................................... $ 44,402 $ 43,023 $ 45,967 $ 39,023
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
24
<PAGE>
INDEPENDENT AUDITORS' REPORT
- --------------------------------------------------------------------------------
Board of Directors and Shareholder
Reliance Financial Services Corporation
New York, New York
We have audited the accompanying consolidated balance sheets of Reliance
Financial Services Corporation (a subsidiary of Reliance Group Holdings, Inc.)
and subsidiaries as of December 31, 1996 and 1995, and the related statements of
income, changes in shareholder's equity and cash flows for each of the three
years in the period ended December 31, 1996. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Reliance Financial Services
Corporation and subsidiaries at December 31, 1996 and 1995 and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 1996 in conformity with generally accepted accounting
principles.
Deloitte & Touche LLP
New York, New York
February 14, 1997
25
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION AND SUBSIDIARIES
FINANCIAL REVIEW
- --------------------------------------------------------------------------------
OVERVIEW
The Company had income from continuing operations, before gains on sales of
investments, of $107.3 million in 1996. Operating results in 1996 include an
after-tax charge of $87.1 million to increase property and casualty insurance
net loss reserves for asbestos-related and environmental pollution claims for
business written in or before 1987. Excluding the effects of this charge, income
from continuing operations, before gains on sales of investments, was $194.4
million compared to $159.7 million in 1995 and $132.5 million in 1994. The
improved results in 1996 and 1995 reflect the continued strong performance of
the property and casualty insurance operations. In addition, the 1996 results
benefitted from improved title insurance operations. After-tax gains on sales of
investments were $32.2 million in 1996 compared to $20.6 million in 1995 and
$6.0 million in 1994.
Net income in 1996 was $139.5 million. Excluding the effects of the charge to
strengthen asbestos and environmental net loss reserves, net income in 1996 was
$226.6 million, compared to $172.4 million in 1995 and $138.5 million in 1994.
Net income in 1995 included a loss of $4.5 million on the disposal of
discontinued life insurance operations by Zenith National Insurance Corp.
('Zenith'), an investee company, and an extraordinary loss of $3.4 million from
the early extinguishment of debt.
PROPERTY AND CASUALTY INSURANCE OPERATIONS
Based on a study of their asbestos-related and environmental pollution reserves,
the property and casualty insurance operations recorded a charge of $134.0
million in the second quarter of 1996 to increase net loss reserves for
asbestos-related and environmental pollution claims for business written in or
before 1987. The study entailed an extensive and detailed review of the
Company's claims, analysis of new industry data, review of policies and classes
of business written by the Company and the industry at large, and new actuarial
methodologies for projecting ultimate losses based on payment patterns and
claims analyses. The loss reserve levels established represent the Company's
estimate of ultimate losses, based on current information and actuarial
methodologies. Excluding the effects of the $134.0 million charge to strengthen
asbestos and environmental net loss reserves, property and casualty insurance
pretax operating income was $218.7 million in 1996 compared to $201.7 million in
1995 and $135.0 million in 1994. Pretax gains on sales of investments were $49.3
million in 1996 compared to $27.4 million in 1995 and $8.7 million in 1994.
Net premiums written and premiums earned for each line of property and casualty
insurance are as follows:
<TABLE>
<CAPTION>
1996 1995 1994
- ----------------------------------------------------------------------------------------------------------------
Net Net Net Net Net Net
YEAR ENDED DECEMBER 31 Premiums Premiums Premiums Premiums Premiums Premiums
(In thousands) Written Earned Written Earned Written Earned
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
General Liability.................. $ 466,636 $ 437,634 $ 468,951 $ 451,867 $ 423,377 $ 427,864
Automobile......................... 265,206 260,735 239,819 236,592 244,000 251,038
Workers' Compensation.............. 249,638 276,938 265,882 290,241 312,808 323,891
Multiple Peril..................... 211,857 200,301 184,600 180,166 180,074 170,230
Surety............................. 159,183 147,416 139,298 127,355 117,989 108,833
Reinsurance........................ 151,099 140,334 118,969 119,921 125,597 132,694
Ocean and Inland Marine............ 129,148 123,352 118,757 115,590 103,865 95,103
Fire and Allied.................... 64,250 63,020 68,118 61,430 49,977 56,495
Accident and Health................ 61,873 60,394 58,426 58,636 51,976 49,550
Involuntary........................ 44,229 50,489 81,006 88,734 113,483 115,963
Other.............................. 43,080 40,241 35,214 44,059 41,144 45,657
---------- ---------- ---------- ---------- ---------- ----------
$1,846,199 $1,800,854 $1,779,040 $1,774,591 $1,764,290 $1,777,318
---------- ---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ---------- ----------
</TABLE>
26
<PAGE>
Premiums written and earned in 1996 benefitted from increased writings in the
commercial multiple peril and automobile lines and increased reinsurance
premiums resulting from new casualty treaties. Net premiums written and earned
in 1996 and 1995 also benefitted from growth in surety premiums, resulting from
a higher level of construction activity by insureds and growth in small
contractor business. These increases were partially offset by declines in
involuntary premiums as well as a decline in workers' compensation premiums
resulting from the shift by insureds to captive insurance programs and other
arrangements that reduce net premium retention.
The underwriting loss in 1996 was $172.4 million and the combined ratio
(calculated on a GAAP basis), after policyholders' dividends, was 109.0%.
Excluding the effects of the charge to strengthen asbestos and environmental net
loss reserves, the 1996 underwriting loss was $38.4 million and the combined
ratio was 101.6%, compared to an underwriting loss of $45.6 million in 1995 with
a combined ratio of 101.8% and an underwriting loss of $97.3 million in 1994
with a combined ratio of 104.4%. The strong underwriting results in 1996 and
1995 reflect continued underwriting profits in workers' compensation, surety and
accident and health lines of business, partially offset by underwriting losses
in automobile lines. The Company has undertaken several initiatives to improve
automobile underwriting results including, (i) elimination of certain
unprofitable programs, (ii) increasing prices and deductible limits, and (iii)
strengthening the automobile claims function. The 1996 underwriting results also
benefitted from improved results in general liability, as well as in multiple
peril, reinsurance and fire and allied lines of business, reflecting lower
catastrophe losses which were $19.9 million ($26.1 million before reinsurance)
in 1996, $25.7 million ($78.5 million before reinsurance) in 1995 and $50.1
million ($134.0 million before reinsurance) in 1994. The low level of
catastrophe losses reflects the Company's efforts to reduce its catastrophe
exposures by exiting homeowners' coverage, reducing property coverage in the
reinsurance line of business and establishing rigorous underwriting criteria in
catastrophe prone regions. The 1995 and 1994 underwriting results included
charges of $4.0 million and $11.6 million, respectively, relating to the
Company's settlement with the California Department of Insurance resolving its
total liability for refunds and interest under Proposition 103.
The property and casualty insurance operations assume and cede reinsurance in
the normal course of business. The Company's aggregate reinsurance recoverables
were $3.58 billion at December 31, 1996, representing estimated amounts
recoverable from reinsurers pertaining to unpaid claims, claims incurred but not
reported, unearned premiums and paid claims. The Company is subject to credit
risk with respect to its reinsurers, as the ceding of risk to reinsurers does
not relieve the Company of its liability to insureds. In order to minimize
losses from uncollectible reinsurance, the Company places its reinsurance with a
number of different reinsurers and utilizes a security committee to approve, in
advance, the reinsurers which meet its standards of financial strength. The
Company holds substantial amounts of collateral to secure recoverables from
unauthorized reinsurers. See note 10 to the consolidated financial statements.
Policy claims and settlement expenses include a provision for insured events of
prior years of $138.7 million in 1996 compared to $38.5 million in 1995 and
$22.4 million in 1994. The provision for all years includes adverse development
related to prior year asbestos-related and environmental pollution claims, which
primarily affect general liability, multiple peril and reinsurance lines of
business, and includes a pretax charge of $134.0 million in 1996 to increase net
loss reserves for asbestos-related and environmental pollution claims for
business written in or before 1987. The 1996 provision also includes adverse
development in the automobile line, offset by favorable development in workers'
compensation. The 1995 provision also included adverse development in other
general liability, automobile and reinsurance lines, partially offset by
favorable development in workers' compensation. The 1994 provision also included
adverse development in other general liability lines, partially offset by
favorable development in workers' compensation.
27
<PAGE>
The Company records involuntary assessments when such assessments are billed by
the respective state insurance facilities. These assessments are subject to
large variations in timing and amount and, accordingly, the Company cannot
reasonably estimate a minimum amount of liability prior to billing. While the
amount of any involuntary assessments cannot be predicted with certainty, the
Company believes that future assessments will not have a material effect on its
liquidity or capital resources.
The liability for property and casualty insurance loss reserves at December 31,
1996 was $6.27 billion compared to $5.86 billion at December 31, 1995. This
liability is based on an evaluation of reported claims in addition to
statistical projections of claims incurred but not reported and loss adjustment
expenses. Estimates of salvage and subrogation are deducted from the liability.
Reinsurance recoverables of $2.95 billion and $2.68 billion at December 31, 1996
and 1995, respectively, are included in the liability.
The establishment of loss reserves requires an estimate of the ultimate
liability based primarily on past experience. The Company applies a variety of
generally accepted actuarial techniques to determine the estimates of ultimate
liability. The techniques recognize, among other factors, the Company's and
industry's experience with similar business, historical trends in reserving
patterns and loss payments, pending level of unpaid claims, cost of claim
settlements, product mix and the economic environment in which property and
casualty companies operate. Estimates are continually reviewed and adjustments
of the probable ultimate liability based on subsequent developments and new data
are included in operating results for the periods in which they are made. In
general, reserves are initially established based upon the actuarial and
underwriting data utilized to set pricing levels and are reviewed as additional
information, including claims experience, becomes available. The Company
regularly analyzes its reserves and reviews its pricing and reserving
methodologies so that future adjustments to prior years reserves can be
minimized. However, given the complexity of this process, reserves will require
continual updates and the ultimate liability may be more or less than such
estimates indicate. Estimation of loss reserves for long tail lines of business
is more difficult than for short tail lines because long tail claims may not
become apparent for a number of years, and a relatively higher proportion of
ultimate losses are considered incurred but not reported. As a result, variation
in loss development is more likely in long tail lines of business. The Company
attempts to reduce these variations in certain of its long tail lines, primarily
directors and officers liability and professional liability, by writing policies
on a claims-made basis which mitigates the long tail nature of the risks. The
Company also limits the potential loss from a single event through the extensive
use of reinsurance.
PROPERTY AND CASUALTY INSURANCE INVESTMENT RESULTS
Net investment income of the property and casualty insurance operations
increased to $257.1 million in 1996 from $247.3 million in 1995 and $232.3
million in 1994. These increases reflect growth in the size of the fixed
maturity investment portfolio.
Gains on sales of investments were $49.3 million in 1996 compared to $27.4
million in 1995 and $8.7 million in 1994. Gains on sales of investments in 1996
resulted from sales of equity securities.
28
<PAGE>
TITLE INSURANCE OPERATIONS
The title insurance operations reported pretax income, before gains on sales of
investments, of $38.2 million in 1996, $12.3 million in 1995 and $30.8 million
in 1994.
Premiums and fees were $780.2 million in 1996 compared to $671.9 million in 1995
and $856.8 million in 1994. The increase in premiums and fees in 1996, when
compared to 1995, resulted from an increase in residential resale and new home
sale activity reflecting a strong economy and favorable mortgage interest rates.
In addition, the title insurance operations achieved a record level of
commercial title insurance premiums. Premiums and fees in 1994 benefitted from
increased agency revenues reflecting the strong real estate market conditions
that existed in late 1993 and early 1994.
Agency commissions represent the portion of premiums retained by agents pursuant
to the terms of their agency contracts and are the title insurance operations'
single largest expense. Agency commissions, which fluctuate in direct relation
to agency premiums, were $355.8 million in 1996 compared to $310.7 million in
1995 and $432.0 million in 1994. Other expenses of the title insurance
operations include personnel costs relating to marketing activities, title
searches, information gathering on specific properties and preparation of
insurance policies, as well as costs associated with the maintenance of title
plants. Other expenses were $355.4 million in 1996 compared to $318.4 million in
1995 and $344.7 million in 1994. The expense ratio of the title insurance
operations (which includes agency commissions) was 90.5% in 1996 compared to
93.1% in 1995 and 90.0% in 1994. The decline in the expense ratio in 1996, when
compared to 1995, resulted from an increase in direct title insurance premiums
and effective expense control measures. The provision for policy claims was
$61.1 million in 1996 compared to $58.5 million in 1995 and $75.9 million in
1994. The title insurance operations have benefitted from favorable claims
experience in recent years, a trend which is expected to continue. Paid claim
losses have declined to $37.1 million in 1996 from $45.8 million in 1995 and
$52.5 million in 1994.
INVESTMENT PORTFOLIO
At December 31, 1996, the Company's investment portfolio aggregated $4.18
billion (at cost), of which 10% was invested in equity securities. The Company
seeks to maintain a diversified and balanced fixed maturity portfolio
representing a broad spectrum of industries and types of securities. At December
31, 1996, no one issuer comprised more than 3.0% of the fixed maturity and
short-term investment portfolio. The portfolio is managed to achieve a proper
balance of safety, liquidity and investment yields.
The Company's fixed maturity portfolio consists of investment grade securities
(those rated 'BBB' or better by Standard & Poor's) and, to a lesser extent,
non-investment grade securities and non-rated securities. The risk of default is
generally considered to be greater for non-investment grade securities, when
compared to investment grade securities, since these issues may be more
susceptible to severe economic downturns. At December 31, 1996, the carrying
values of non-investment grade securities and securities not rated by Standard &
Poor's were $499.5 million (13% of the fixed income portfolio) and $93.6 million
(2% of the fixed income portfolio), respectively. At December 31, 1995, the
carrying values of non-investment grade securities and securities not rated by
Standard & Poor's were $299.0 million (8% of the fixed income portfolio) and
$64.4 million (2% of the fixed income portfolio), respectively. Substantially
all of the Company's non-investment grade and non-rated securities are
classified as available for sale and, accordingly, are carried at market value.
See note 2 to the consolidated financial statements.
29
<PAGE>
At December 31, 1996, approximately 31% of the Company's fixed maturity and
short-term investment portfolio was comprised of securities issued by utilities,
the vast majority of which are rated investment grade and are first mortgage or
senior note secured bonds. The utility portfolio is widely diversified among
various geographic regions in the United States and is not dependent on the
economic stability of any one particular region. No other industry group
comprises more than 10% of the fixed maturity and short-term investment
portfolio.
OTHER OPERATIONS
RCG International, Inc. ('RCG'), a subsidiary of the Company, primarily provides
technical services in the information technology industry. Information
technology revenues were $136.7 million in 1996, $106.5 million in 1995 and
$90.0 million in 1994. The increase in revenues in both 1996 and 1995 resulted
from increased assignments from existing clients and new clients. Information
technology operating expenses were $134.4 million in 1996, $101.0 million in
1995 and $84.6 million in 1994. RCG's revenues and expenses are included in
other revenues and other expenses in the accompanying consolidated statement of
income. For the years 1995 and 1994 other revenues and other expenses included
certain consulting operations which were sold in 1995.
At December 31, 1996, the Company's real estate operations had holdings with a
carrying value of $275.2 million, which includes nine shopping centers with an
aggregate carrying value of $127.5 million, office buildings and other
commercial properties with an aggregate carrying value of $85.3 million and
undeveloped land with a carrying value of $62.4 million.
EQUITY IN INVESTEE COMPANY
Equity in investee company income was $8.9 million, $7.8 million and $9.5
million in 1996, 1995 and 1994, respectively, from the Company's investment in
Zenith. The increase in equity income in 1996, when compared to 1995, reflects
improved underwriting results due, in part, to lower catastrophe losses. The
decline in equity income in 1995, when compared to 1994, reflects an increase in
Zenith's property and casualty underwriting losses, particularly in workers'
compensation. In 1995, the Company recognized an after-tax loss of $4.5 million
on the disposal of discontinued life insurance operations by Zenith.
30
<PAGE>
OTHER MATTERS
The Company has a revolving credit facility and term loan agreement with various
banks. On November 8, 1996, the Company increased term loan borrowings by $25
million to $162.5 million. The additional borrowings were used to redeem all
outstanding ($25 million principal amount) 9.48% senior reset notes. The
revolving credit facility provides for aggregate maximum outstanding borrowings
of $100 million. At December 31, 1996, borrowings aggregating $35 million were
outstanding under this facility. In addition, at December 31, 1996, the Company
guaranteed $38 million of partnership debt. See note 14 to the consolidated
financial statements.
The National Association of Insurance Commissioners has a risk-based capital
requirement for the property and casualty insurance industry. Risk-based capital
refers to the determination of the amount of statutory capital required for an
insurer based on the risks assumed by the insurer (including, for example,
investment risks, credit risks relating to reinsurance recoverables and
underwriting risks) rather than just the amount of net premiums written by the
insurer. A formula that applies prescribed factors to the various risk elements
in an insurer's business is used to determine the minimum statutory capital
requirement for the insurer. An insurer having less statutory capital than the
formula calculates would be subject to varying degrees of regulatory
intervention, depending on the level of capital inadequacy. All of the Company's
statutory insurance companies have statutory capital in excess of the minimum
required risk-based capital.
Maintaining appropriate levels of statutory surplus is considered important by
the Company's management, state insurance regulatory authorities and the
agencies that rate insurers' claims-paying abilities and financial strength.
Failure to maintain certain levels of statutory capital and surplus could result
in increased scrutiny or, in some cases, action taken by state regulatory
authorities and/or downgrades in an insurer's ratings.
- --------------------------------------------------------------------------------
MARKET AND DIVIDEND INFORMATION FOR COMMON STOCK
Reliance Group Holdings, Inc. owns 100% of the common stock of the Company.
Dividends on common stock, which are subject to agreements governing the
Company's Credit Facility and senior reset notes, were $110.0 million in both
1996 and 1995.
31
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION
- --------------------------------------------------------------------------------
DIRECTORS
GEORGE R. BAKER(2)
Corporate Director/Advisor
GEORGE E. BELLO(3)
Executive Vice President
and Controller
Reliance Group Holdings, Inc.
DENNIS A. BUSTI
President and
Chief Executive Officer
Reliance National Insurance Company
LOWELL C. FREIBERG(3)
Senior Vice President and
Chief Financial Officer
Reliance Group Holdings, Inc.
DR. THOMAS P. GERRITY(2)
Dean of the Wharton School
University of Pennsylvania
JEWELL JACKSON MCCABE
President, Jewell Jackson
McCabe Associates
IRVING SCHNEIDER(2)
Executive Vice President
Helmsley-Spear, Inc.
BERNARD L. SCHWARTZ(1)
Chairman & CEO of
Loral Space & Communications Ltd. and
Chairman & CEO of Globalstar
RICHARD E. SNYDER
Chairman and
Chief Executive Officer
Golden Books Family Entertainment, Inc.
THOMAS J. STANTON, JR.(2)
Chairman Emeritus
National Westminster Bank NJ
ROBERT M. STEINBERG(1),(3)
President and
Chief Operating Officer
Reliance Group Holdings, Inc.
SAUL P. STEINBERG(1),(3)
Chairman of the Board and
Chief Executive Officer
Reliance Group Holdings, Inc.
JAMES E. YACOBUCCI
Senior Vice President
Investments
Reliance Group Holdings, Inc.
(1) Executive Committee Member
(2) Audit Committee Member
(3) Finance Committee Member
32
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION
- --------------------------------------------------------------------------------
OFFICERS
CORPORATE
SAUL P. STEINBERG
Chairman of the Board and
Chief Executive Officer
ROBERT M. STEINBERG
President and
Chief Operating Officer
GEORGE E. BELLO
Executive Vice President
and Controller
LOWELL C. FREIBERG
Senior Vice President and
Chief Financial Officer
HENRY A. LAMBERT
Senior Vice President
Real Estate Investments
and Operations
DENNIS J. O'LEARY
Senior Vice President
Taxes
PHILIP S. SHERMAN
Senior Vice President and
Group Controller
BRUCE L. SOKOLOFF
Senior Vice President
Administration
HOWARD E. STEINBERG
Senior Vice President,
General Counsel and
Corporate Secretary
JAMES E. YACOBUCCI
Senior Vice President
Investments
ALBERT A. BENCHIMOL
Vice President and
Treasurer
EILENE S. BLOOM
Vice President
Administrative Services
THOMAS G. BUTLER
Vice President
Taxes
ANDREW B. DONNELLAN, JR.
Vice President and
Chief Litigation Counsel
DAVID F. NOYES
Vice President and
Chief Credit Officer
STEVEN A. RAUTENBERG
Vice President
Communications
JOEL H. ROTHWAX
Vice President
Human Resources
THOMAS J. SANDERS
Vice President and
Assistant Controller
PAUL W. ZELLER
Vice President,
Deputy General Counsel
and Assistant Secretary
OFFICERS OF OPERATING UNITS
Reliance Insurance Group
ROBERT M. STEINBERG
Chairman and
Chief Executive Officer
JEROME H. CARR
Senior Vice President
and Chief Financial Officer
KENNETH R. FROHLICH
Senior Vice President
and Chief Actuarial Officer
Property and Casualty Insurance
DENNIS A. BUSTI
President and
Chief Executive Officer
Reliance National Insurance
Company
ROBERT C. OLSMAN
President and
Chief Operating Officer
Reliance Insurance Company
GEORGE H. ROBERTS
President
Reliance Reinsurance Corp.
C. BRIAN SCHMALZ
President and
Chief Executive Officer
Reliance Surety Company
Title Insurance
HERBERT WENDER
Chairman and Chief
Executive Officer
Commonwealth Land Title
Insurance Company
RCG Information Technology
ROBERT P. BUTTACAVOLI
President and
Chief Executive Officer
RCG Information Technology, Inc.
33
<PAGE>
RELIANCE FINANCIAL SERVICES CORPORATION
- --------------------------------------------------------------------------------
CORPORATE DATA
RELIANCE INSURANCE GROUP
PROPERTY AND CASUALTY INSURANCE
Reliance Insurance Company
Reliance National Insurance Company
Reliance Reinsurance Corp.
Reliance Surety Company
TITLE INSURANCE
Commonwealth Land Title Insurance Company
Transnation Title Insurance Company
CONSULTING
RCG Information Technology, Inc.
CORPORATE OFFICES
Reliance Financial Services Corporation
A subsidiary of Reliance Group Holdings, Inc.
Park Avenue Plaza
55 East 52nd Street
New York, NY 10055
(212) 909-1100
FAX (212) 909-1864
INDEPENDENT AUDITORS
Deloitte & Touche LLP
New York, NY
LISTED SECURITY
The Company's 7.866% Senior Reset Notes, due 2000,
are listed on the New York Stock Exchange
34
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
Exhibit 27.1
This schedule contains summary financial information extracted from the
Company's Consolidated Balance Sheet and the Consolidated Statement of Income
and is qualified in its entirety by reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<DEBT-HELD-FOR-SALE> 2,623,669
<DEBT-CARRYING-VALUE> 787,836
<DEBT-MARKET-VALUE> 801,738
<EQUITIES> 716,606
<MORTGAGE> 0
<REAL-ESTATE> 275,237
<TOTAL-INVEST> 4,722,513
<CASH> 38,520
<RECOVER-REINSURE> 3,576,953
<DEFERRED-ACQUISITION> 215,438
<TOTAL-ASSETS> 10,510,620
<POLICY-LOSSES> 6,530,258
<UNEARNED-PREMIUMS> 1,468,299
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 239,532
0
0
<COMMON> 0
<OTHER-SE> 1,378,072
<TOTAL-LIABILITY-AND-EQUITY> 10,510,620
2,581,011
<INVESTMENT-INCOME> 287,588
<INVESTMENT-GAINS> 49,610
<OTHER-INCOME> 186,820
<BENEFITS> 1,411,453
<UNDERWRITING-AMORTIZATION> 414,636
<UNDERWRITING-OTHER> 912,670
<INCOME-PRETAX> 180,293
<INCOME-TAX> 49,700
<INCOME-CONTINUING> 139,501
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 139,501
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
<RESERVE-OPEN> 3,179,435
<PROVISION-CURRENT> 1,211,672
<PROVISION-PRIOR> 138,665
<PAYMENTS-CURRENT> 298,838
<PAYMENTS-PRIOR> 926,996
<RESERVE-CLOSE> 3,311,606
<CUMULATIVE-DEFICIENCY> 138,665
</TABLE>
